As filed with the Securities and Exchange Commission on December 28, 1998
Registration No. 333-56087
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
AMENDMENT NO. 5
to
FORM S-11
REGISTRATION STATEMENT
UNDER THE SECURITIES ACT OF 1933
Hersha Hospitality Trust
(Exact name of registrant as specified in governing instruments)
148 Sheraton Drive, Box A
New Cumberland, Pennsylvania 17070
(717) 770-2405
(Address of principal executive offices)
Jay H. Shah, Esq.
The Lafayette Building
437 Chestnut Street, Suite 615
Philadelphia, Pennsylvania 19106
(215) 238-1045
(Name and address of agent for service)
---------------
Copies to:
Cameron N. Cosby, Esq. James J. Wheaton, Esq.
Hunton & Williams Willcox & Savage, P.C.
Riverfront Plaza, East Tower 1800 NationsBank Center
951 East Byrd Street One Commercial Place
Richmond, Virginia 23219-4074 Norfolk, Virginia 23510
(804) 788-8604 (757) 628-5619
Approximate date of commencement of proposed sale to the public: As soon
as practicable after the effective date of this Registration Statement.
If this Form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act, please check the following box and list
the Securities Act registration statement number of the earlier effective
registration statement for the same offering. [ ]
If this Form is a post-effective amendment filed pursuant to Rule 462(c)
under the Securities Act, check the following box and list the Securities Act
registration number of the earlier effective registration statement for the same
offering. [ ]
If the Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
If delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [ ]
CALCULATION OF REGISTRATION FEE
================================================================================
Proposed Proposed
Maximum Maximum Amount of
Amount Offering Aggregate
Title of Securities Being Being Price Per Offering Registration
Registered Registered(1) Share (2) Price (2) Fee(3)
================================================================================
Priority Class A Common
Shares, $0.01 par value
per share ................ 2,275,000 $6.00 $13,650,000 $4,026.75
================================================================================
(1) Includes 275,000 shares that may be purchased pursuant to an
over-allotment option granted to the Underwriter.
(2) Estimated solely for the purpose of determining the registration fee.
(3) A registration fee of $4,720 was paid in connection with the Registrant's
initial filing on June 5, 1998.
---------------
The registrant hereby amends this registration statement on such date or
dates as may be necessary to delay its effective date until the registrant shall
file a further amendment which specifically states that this registration
statement shall thereafter become effective in accordance with Section 8(a) of
the Securities Act of 1933, as amended, or until the registration statement
shall become effective on such date as the Commission, acting pursuant to said
Section 8(a), may determine.
<PAGE>
Subject to completion, dated December 28, 1998
- --------------------------------------------------------------------------------
PROSPECTUS
2,000,000 Shares
Hersha Hospitality Trust
Priority Class A Common Shares of Beneficial Interest
---------------
Hersha Hospitality Trust, formed in May 1998 (the "Company"), has been
established to own initially ten hotels (the "Initial Hotels") and to continue
the hotel acquisition and development strategies of Hasu P. Shah, the Chairman
of the Board of Trustees and Chief Executive Officer of the Company. Mr. Shah
and certain of his affiliates (together, the "Hersha Affiliates") purchased or
developed all of the Initial Hotels, which will be contributed to the principal
operating subsidiary of the Company, Hersha Hospitality Limited Partnership (the
"Partnership"), by a group of affiliated partnerships, a corporation and
individuals (the "Combined Entities") in exchange for interests in the
Partnership and assumption of debt. Following the completion of this offering
(the "Offering") and the use of Offering proceeds as described herein, the
Company will own approximately a 32% general partnership interest in the
Partnership. The Company is a self-advised Maryland real estate investment trust
that intends to qualify as a real estate investment trust ("REIT") for federal
income tax purposes.
The Initial Hotels are located in Pennsylvania and include three Holiday
Inn Express(R) hotels, two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two
Comfort Inn(R) hotels and one Clarion Suites(R) hotel with an aggregate of 989
rooms. The Partnership will own, directly or through subsidiary partnerships,
100% of the equity interests in the Initial Hotels and will lease them to Hersha
Hospitality Management, L.P. (the "Lessee"), a limited partnership wholly-owned
by certain of the Hersha Affiliates. The Hersha Affiliates have managed all of
the Initial Hotels since their acquisition or construction. Upon the closing of
the Offering of the Company's Priority Class A common shares of beneficial
interest, par value $.01 per share (the "Priority Common Shares"), and the use
of the Offering proceeds as set forth herein, the Partnership will have
approximately $17.4 million of fixed-rate debt outstanding, which will be
secured by some of the Initial Hotels.
See "Risk Factors" beginning on page 16 for a discussion of material
risks that should be considered by prospective purchasers of the Priority Common
Shares offered hereby, including the following risks:
o Conflicts of interest between the Company and the Hersha Affiliates,
including conflicts regarding the sale, leasing or refinancing of the
Initial Hotels, may have resulted, or may in the future result, in the
interests of the shareholders not being reflected fully in all decisions
made or actions taken by officers and Trustees of the Company.
o The purchase prices to be paid for the six Initial Hotels that have little
operating history or have been newly renovated are based upon projections by
management as to the expected operating results of such hotels, subjecting
the Company to the risk that these hotels may not achieve anticipated
operating results and the rent received by the Company from such hotels
after the First Adjustment Date or Second Adjustment Date (as herein
defined) could be less than anticipated, which could adversely affect the
amount of cash available for distribution to the shareholders of the
Company.
o The holders of at least two-thirds of the interests in the Partnership,
including the Company, which initially will own approximately only a 32%
interest in the Partnership, must approve, subject to certain conditions, a
sale of all or substantially all of the assets of the Partnership or a
merger or consolidation of the Partnership, which could result in the
disapproval of a transaction that would be beneficial to the shareholders of
the Company.
o Risks associated with distributing 100% of forecasted cash available for
distribution, including the risk that, after the Priority Period (as herein
defined), actual cash available for distribution will be insufficient to
allow the Company to maintain its proposed initial distribution rate.
o The Company's lack of control over the daily operations of the Initial
Hotels could, in the event that the Lessee fails to effectively operate the
Initial Hotels, make the Company's business strategy more difficult to
achieve, which could adversely affect the amount of cash available for
distribution to the shareholders of the Company.
o The dependence of the Company on the Lessee's ability to make payments under
the Percentage Leases in order to generate revenues may, in the event that
there is a reduction in revenues at the Initial Hotels, adversely affect the
amount of cash available for distribution to the shareholders of the
Company.
o The Company and the Partnership were recently formed, and the Company has no
experience operating as a REIT or a public company.
o The Company will initially own only ten hotels, all located in Pennsylvania.
Thus, adverse changes in the operations of any one Initial Hotel could
adversely affect the amount of cash available for distribution to the
shareholders of the Company.
o Mr. Shah, the partners of the Combined Entities and certain of the Combined
Entities guarantee the indebtedness secured by the Initial Hotels, and the
bankruptcy of any of the guarantors would constitute a default under the
related loan documents, which default would cause some or all of such
indebtedness to become immediately due and payable and could adversely
affect the Company's cash available for distribution.
o Purchasers of the Priority Common Shares sold in the Offering will
experience immediate and substantial dilution of $2.14, or 35.6% of the
Offering Price, in the net tangible book value per Priority Common Share. In
addition, in the event that any of the purchase prices of the Initial Hotels
are increased pursuant to the repricing described herein, owners of the
Priority Common Shares at such time will experience further dilution.
o Risk of taxation of the Company as a regular corporation if it fails to
qualify as a REIT, which would adversely affect the amount of cash available
for distribution to the shareholders of the Company.
---------------
All of the Priority Common Shares offered hereby are being sold by the
Company. The Company proposes to sell 166,666 of the Priority Common Shares
offered hereby directly to certain Hersha Affiliates at the initial public
offering price, with the remainder of the Priority Common Shares offered hereby
being sold through Anderson & Strudwick, Incorporated (the "Underwriter"). The
Company intends to make regular quarterly distributions to holders of the
Priority Common Shares initially equal to $0.18 per share, which on an
annualized basis would be equal to $0.72 per share or 12.0% of the Offering
Price. The holders of the Priority Common Shares will be entitled to a priority,
as described herein, with respect to distributions and amounts payable upon
liquidation (the "Priority Rights") for a period (the "Priority Period")
beginning on the date of the closing of the Offering and ending on the earlier
of: (i) the date that is 15 trading days after the Company sends notice to the
record holders of the Priority Common Shares that their Priority Rights will
terminate in 15 trading days, provided that the closing bid price of the
Priority Common Shares is at least $7.00 on each trading day during such 15-day
period, or (ii) the fifth anniversary of the closing of the Offering.
Notwithstanding the foregoing, the Priority Period shall not end until the
holders of the Priority Common Shares have received any accrued, but unpaid,
Priority Distributions. During the Priority Period, the holders of the Priority
Common Shares will be entitled to receive, prior to any distributions either to
the holders of units of limited partnership interest in the Partnership
("Units") that received Units (the "Subordinated Units") in exchange for the
Initial Hotels or to the holders of the Company's Class B common shares of
beneficial interest, $.01 par value per share (the "Class B Common Shares"),
cumulative dividends in an amount per Priority Common Share equal to $0.18 per
quarter (the "Priority Distribution"). After the holders of the Subordinated
Units and the Class B Common Shares have received an amount per Subordinated
Unit or per Class B Common Share equal to the Priority Distribution, the holders
of the Priority Common Shares will be entitled to receive any further
distributions on a pro rata basis with the holders of the Subordinated Units and
the Class B Common Shares. As of the closing of the Offering, no Class B Common
Shares will be outstanding. In the future, the Company may issue additional
Priority Common Shares, and the Partnership may issue Units that are not
subordinated to the Priority Common Shares. See "Description of Shares of
Beneficial Interest" and "Partnership Agreement."
The Company's Declaration of Trust generally prohibits direct or indirect
ownership of more than 9.9% of the outstanding shares of any class of the
Company's securities, including the Priority Common Shares, by any person. Prior
to the Offering, there has been no public market for the Priority Common Shares.
The Priority Common Shares have been approved for listing, subject to final
notice of issuance, on the American Stock Exchange under the symbol "HT." The
initial public offering price of the Priority Common Shares will be $6.00 per
share (the "Offering Price"). See "Underwriting" for a discussion of factors
considered in determining the Offering Price.
THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES
AND EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON
THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY
REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
===============================================================================
Proceeds
Price to Selling to
Public Commission(1) Company(2)
- -------------------------------------------------------------------------------
Per Priority Common Share.. $6.00 $.48 $5.52
Total(3)................... $12,000,000 $880,000 $11,120,000
===============================================================================
(1) See "Underwriting" for information concerning indemnification of the
Underwriter and other matters. As stated above, the Company proposes to sell
166,666 of the Priority Common Shares offered hereby directly to certain Hersha
Affiliates at the Offering Price. The Underwriter will not receive any selling
commission with respect to such shares. Does not reflect the Underwriter
Warrants granted by the Company to the Underwriter to purchase 183,333 Priority
Common Shares for a period of five years at a price per share equal to 165% of
the Offering Price. See "Underwriting."
(2) Before deducting expenses payable by the Company, estimated at $650,000.
(3) The Company has granted the Underwriter an option for 30 days to purchase an
additional 275,000 shares at the public offering price per share, less the
underwriting discount, solely to cover over-allotments. If such option is
exercised in full, the total Price to Public, Selling Commission and Proceeds to
Company will be $13,650,000, $1,012,000 and $12,638,000, respectively. See
"Underwriting."
-----------
The Priority Common Shares, other than the 166,666 Priority Common Shares
offered directly by the Company to certain Hersha Affiliates, are being offered
by the Company to Anderson & Strudwick, Incorporated (the "Underwriter") as and
if delivered to and accepted by it, subject to the right of the Underwriter to
reject any order in whole or in part. It is expected that the delivery of the
Priority Common Shares will be made in New York, New York on or about January
___, 1999.
Anderson & Strudwick
Incorporated
The date of this Prospectus is _________, 1999.
Information contained herein is subject to completion or amendment. A
registration statement relating to these securities has been filed with the
Securities and Exchange Commission. These securities may not be sold nor may
offers to buy be accepted prior to the time the registration statement becomes
effective. This prospectus shall not constitute an offer to sell or the
solicitation of an offer to buy nor shall there be any sale of these securities
in any State in which such offer, solicitation or sale would be unlawful prior
to registration or qualification under the securities laws of any such State.
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[COLOR PHOTOS AND ART WORK TO COME]
<PAGE>
TABLE OF CONTENTS
<TABLE>
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Page
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PROSPECTUS SUMMARY ...................................................................... 1
The Company ............................................................................. 1
Summary Risk Factors .................................................................... 1
The Partnership ......................................................................... 3
The Lessee .............................................................................. 4
The Initial Hotels ...................................................................... 5
Growth Strategy ......................................................................... 6
Acquisition Strategy .................................................................... 6
Internal Growth Strategy ................................................................ 7
Formation Transactions .................................................................. 7
Benefits to the Hersha Affiliates ....................................................... 10
Conflicts of Interest ................................................................... 11
Forecasted Distributions ................................................................ 11
Tax Status .............................................................................. 12
The Offering ............................................................................ 12
Summary Selected Financial Information .................................................. 13
RISK FACTORS ............................................................................ 16
Conflicts of Interest ................................................................... 16
Conflicts Relating to Sales or Refinancing of Initial Hotels ........................ 16
No Arm's-Length Bargaining on Percentage Leases, Contribution Agreements, the
Administrative Services Agreement and Option Agreement ............................. 16
Competing Hotels Owned or to be Acquired by the Hersha Affiliates ............ 16
Acquisition of Hotels with Limited Operating History .............................. 17
Need for Certain Consents from the Limited Partners ................................... 17
Risks Related to the Company's Initial Forecasted Distributions ...................... 17
Inability to Operate the Properties ..................................................... 17
Dependence on the Lessee ................................................................ 17
Newly-Organized Entities ................................................................ 18
Limited Numbers of Initial Hotels ....................................................... 18
Guarantors of Assumed Indebtedness ...................................................... 18
Substantial Dilution .................................................................... 18
Tax Risks ............................................................................... 18
Failure to Qualify as a REIT ........................................................ 18
REIT Minimum Distribution Requirements .............................................. 19
Forecasted Statement of Operations ...................................................... 19
Potential Adverse Effects of Leverage and Lack of Limits on Indebtedness ................ 19
The Price Being Paid for the Initial Hotels May Exceed Their Value ...................... 20
Emphasis on Franchise Hotels ............................................................ 20
Concentration of Investments in Pennsylvania ............................................ 20
Hotel Industry Risks .................................................................... 20
Operating Risks ..................................................................... 20
Competition for Guests .............................................................. 20
Investment Concentration in Single Industry ......................................... 20
Seasonality of Hotel Business and the Initial Hotels .................................. 20
Risks of Operating Hotels under Franchise Licenses ................................ 21
Operating Costs and Capital Expenditures; Hotel Renovation .............................. 21
Real Estate Investment Risks ............................................................ 21
General Risks of Investing in Real Estate ........................................... 21
Illiquidity of Real Estate .......................................................... 22
Uninsured and Underinsured Losses ................................................... 22
Property Taxes ...................................................................... 22
Environmental Matters ............................................................... 22
Compliance with Americans with Disabilities Act and other
Changes in Governmental Rules and Regulations .................................... 22
Market for Priority Common Shares ....................................................... 23
Effect of Market Interest Rates on Price of Priority Common Shares ...................... 23
Anti-takeover Effect of Ownership Limit, Limited Partner Consents, Staggered Board, Power
to Issue Additional Shares and Certain Provisions of Maryland Law .................... 23
Ownership Limitation ................................................................ 23
Limited Partner Consents ............................................................ 23
Staggered Board ....................................................................... 23
Issuance of Additional Shares ....................................................... 23
Maryland Business Combination Law ................................................... 24
Dependence Upon External Financing ...................................................... 24
Assumption of Contingent Liabilities of Combined Entities ............................... 24
Year 2000 Risks ......................................................................... 24
Ability of Board of Trustees to Change Certain Policies ................................. 25
Growth Strategy ......................................................................... 25
Competition for Acquisitions ........................................................ 25
Acquisition Risks ................................................................... 25
Reliance on Trustees and Management ..................................................... 25
Possible Adverse Effect of Shares Available for Future Sale on Price of Priority Common
Shares ............................................................................... 26
THE COMPANY ............................................................................. 26
GROWTH STRATEGY ......................................................................... 28
Acquisition Strategy .................................................................... 28
Internal Growth Strategy ................................................................ 29
USE OF PROCEEDS ......................................................................... 30
FORECASTED DISTRIBUTIONS ................................................................ 31
PRO FORMA CAPITALIZATION ................................................................ 34
DILUTION ................................................................................ 35
SELECTED FINANCIAL INFORMATION .......................................................... 36
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS ............................................................... 39
Overview ................................................................................ 39
Results of Operations of the Initial Hotels ............................................. 39
Liquidity and Capital Resources ......................................................... 39
Inflation ............................................................................... 40
Seasonality ............................................................................. 40
Year 2000 Compliance .................................................................... 41
BUSINESS AND PROPERTIES ................................................................. 42
The Initial Hotels ...................................................................... 42
The Percentage Leases ................................................................... 45
Franchise Licenses ...................................................................... 49
Operating Practices ..................................................................... 51
Employees ............................................................................... 51
Environmental Matters ................................................................... 51
Competition ............................................................................. 51
Insurance ............................................................................... 52
Depreciation ............................................................................ 52
Legal Proceedings ....................................................................... 52
Hersha Affiliates' Hotel Assets Not Acquired By The Company ............................. 52
Ground Leases ........................................................................... 53
POLICIES AND OBJECTIVES WITH RESPECT TO CERTAIN ACTIVITIES .............................. 53
Investment Policies ..................................................................... 53
Financing ............................................................................... 53
Conflict of Interest Policies ........................................................... 54
Policies with Respect to Other Activities ............................................... 55
Working Capital Reserves ................................................................ 55
FORMATION TRANSACTIONS ................................................................. 56
Benefits to the Hersha Affiliates ..................................................... 56
MANAGEMENT .............................................................................. 58
Trustees and Executive Officers ....................................................... 58
Audit Committee ........................................................................ 59
Compensation Committee ................................................................. 60
Compensation ............................................................................ 60
Exculpation and Indemnification ......................................................... 60
The Option Plan ......................................................................... 61
The Trustees' Plan ...................................................................... 63
CERTAIN RELATIONSHIPS AND TRANSACTIONS .................................................. 64
Repayment of Indebtedness and Guarantees by Mr. Shah and the Hersha Affiliates .......... 64
Hotel Ownership and Management .......................................................... 64
Option Agreement ........................................................................ 64
Payment of Franchise Transfer Fees by the Company ....................................... 64
THE LESSEE .............................................................................. 65
Management of the Lessee ................................................................ 65
PRINCIPAL SHAREHOLDERS .................................................................. 67
DESCRIPTION OF SHARES OF BENEFICIAL INTEREST ............................................ 68
General ................................................................................. 68
The Priority Common Shares .............................................................. 68
The Class B Common Shares ............................................................... 70
Voting Rights of Priority Common Shares and Class B Common Shares .............. 71
Preferred Shares ....................................................................... 72
Classification or Reclassification of Common Shares or Preferred Shares ............. 72
Restrictions on Ownership and Transfer ............................................. 72
Other Matters .......................................................................... 74
CERTAIN PROVISIONS OF MARYLAND LAW AND OF THE COMPANY'S DECLARATION
OF TRUST AND BYLAWS .................................................................. 75
Classification of the Board of Trustees ................................................ 75
Removal of Trustees .................................................................... 75
Business Combinations .................................................................. 75
Control Share Acquisitions ............................................................. 76
Amendment .............................................................................. 76
Limitation of Liability and Indemnification ............................................ 77
Operations ............................................................................. 77
Dissolution of the Company ............................................................. 78
Advance Notice of Trustees Nominations and New Business ................................ 78
Possible Anti-takeover Effect of Certain Provisions of Maryland Law and of the
Declaration of Trust and Bylaws ..................................................... 78
Maryland Asset Requirements ............................................................ 78
SHARES AVAILABLE FOR FUTURE SALE ....................................................... 79
PARTNERSHIP AGREEMENT .................................................................. 81
Management ............................................................................. 81
Transferability of Interests ........................................................... 81
Capital Contribution ................................................................... 81
Redemption Rights ...................................................................... 82
Operations ............................................................................. 82
Distributions .......................................................................... 83
Allocations ............................................................................ 83
Term ................................................................................... 83
Tax Matters ............................................................................ 83
FEDERAL INCOME TAX CONSEQUENCES ........................................................ 84
Taxation of the Company ................................................................ 84
Requirements for Qualification ......................................................... 85
Failure to Qualify ..................................................................... 91
Taxation of Taxable U.S. Shareholders .................................................. 92
Taxation of Shareholders on the Disposition of the Common Shares ....................... 92
Capital Gains and Losses ............................................................... 93
Information Reporting Requirements and Backup Withholding .............................. 93
Taxation of Tax-Exempt Shareholders .................................................... 93
Taxation of Non-U.S. Shareholders ...................................................... 94
Other Tax Consequences ................................................................. 95
Tax Aspects of the Partnership ......................................................... 95
Sale of the Company's or the Partnership's Property .................................... 97
UNDERWRITING ........................................................................... 99
EXPERTS ................................................................................ 100
REPORTS TO SHAREHOLDERS ................................................................ 100
LEGAL MATTERS .......................................................................... 100
ADDITIONAL INFORMATION ................................................................. 100
GLOSSARY ............................................................................... 102
INDEX TO FINANCIAL STATEMENTS .......................................................... F-1
</TABLE>
ii
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PROSPECTUS SUMMARY
The following summary is qualified in its entirety by the more detailed
information and financial statements and the notes thereto appearing elsewhere
in this Prospectus. Unless the context otherwise indicates, all references
herein to the "Company" include Hersha Hospitality Trust and Hersha Hospitality
Limited Partnership and its subsidiaries. The Company is offering 2,000,000
Priority Common Shares pursuant to this Prospectus, 1,833,334 of which are being
offered to the Underwriter and 166,666 of which are being offered to the Hersha
Affiliates (as herein defined). Unless otherwise indicated, the information
contained herein assumes that (i) only the 1,833,334 Priority Common Shares
being offered to the Underwriter are sold and (ii) the Underwriter's
over-allotment option is not exercised. The offering of 1,833,334 Priority
Common Shares to the Underwriter is referred to herein as the "Offering." See
"Glossary" beginning on page 102 for the definitions of certain additional terms
used in this Prospectus.
The Company
Hersha Hospitality Trust (the "Company") has been established to own
initially interests in ten hotels (the "Initial Hotels") and to continue the
hotel acquisition and development strategies of Hasu P. Shah, Chairman of the
Board of Trustees and Chief Executive Officer of the Company. The Company,
formed in May 1998, is a self-advised Maryland real estate investment trust that
intends to qualify as a real estate investment trust ("REIT") for federal income
tax purposes. The Initial Hotels include three Holiday Inn Express(R) hotels,
two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels
and one Clarion Suites(R) hotel. The Initial Hotels are located in Pennsylvania
and contain an aggregate of 989 rooms. The Holiday Inn Express(R) hotels in
Hershey, Pennsylvania and New Columbia, Pennsylvania, the Hampton Inn(R) hotel
in Carlisle, Pennsylvania and the Comfort Inn(R) hotel in Harrisburg,
Pennsylvania (the "Newly-Developed Hotels") are newly constructed and therefore
have limited operating history. The Holiday Inn Express(R) hotel in Harrisburg,
Pennsylvania, the Holiday Inn(R) hotel in Milesburg, Pennsylvania and the
Comfort Inn(R) hotel in Denver, Pennsylvania (the "Newly-Renovated Hotels") have
been newly renovated and, as a result, the Company believes that such hotels'
future performance will improve significantly over such hotels' prior operating
histories. The remaining hotels, the Hampton Inn(R) hotel in Selinsgrove,
Pennsylvania, the Holiday Inn(R) hotel and conference center in Harrisburg,
Pennsylvania and the Clarion Suites(R) hotel in Philadelphia, Pennsylvania are
referred to herein as the "Stabilized Hotels."
Summary Risk Factors
An investment in the Priority Common Shares involves various risks, and
investors should carefully consider the matters discussed under "Risk Factors,"
including, among others, the following:
o Conflicts of interest between the Company, the Hersha Affiliates and
the Lessee that may have resulted, or may in the future result, in the
interests of the shareholders not being reflected fully in all
decisions made or actions taken by officers and Trustees of the
Company, including:
>> conflicts related to the adverse tax consequences to the Hersha
Affiliates upon a sale of any of the Initial Hotels or the
refinancing or prepayment of principal on certain of the Assumed
Indebtedness, and the related risk that the Hersha Affiliates'
personal interests with regard to a sale or refinancing of an
Initial Hotel or repayment of certain of the Assumed Indebtedness
could be adverse to those of the Company;
>> lack of arm's-length negotiations with respect to the terms of
the Percentage Leases, the contribution agreements for the
Initial Hotels, the Option Agreement (as herein defined), the
Administrative Services Agreement (as herein defined) and the
Hersha Affiliates' conflicts relating to enforcing those
agreements;
>> conflicts relating to ownership and operation of other hotels by
the Hersha Affiliates; and
>> conflicts relating to competing demands on Mr. Shah's time.
o The purchase prices for the Newly-Developed Hotels and the
Newly-Renovated Hotels are based upon projections by management as to
1
<PAGE>
the expected operating results of such hotels, subjecting the Company
to risks that those hotels may not achieve anticipated operating
results and the rent received by the Company from such hotels after the
First Adjustment Date or Second Adjustment Date, as applicable, could
be less than anticipated, which could adversely affect the amount of
cash available for distribution to the shareholders of the Company.
o The holders of at least two-thirds of the interests in the Partnership,
including the Company, which initially will own approximately only a
32% interest in the Partnership, must approve, subject to certain
conditions, a sale of all or substantially all of the assets of the
Partnership or a merger or consolidation of the Partnership, which
could result in the disapproval of a transaction that would be
beneficial to the shareholders of the Company.
o Risks associated with distributing 100% of forecasted cash available
for distribution, including the risk that, after the Priority Period,
actual cash available for distribution will be insufficient to allow
the Company to maintain its proposed initial distribution rate.
o The Company's lack of control over the daily operations of the Initial
Hotels could, in the event that the Lessee fails to effectively operate
the Initial Hotels, make the Company's business strategy more difficult
to achieve, which could adversely affect the amount of cash available
for distribution to the shareholders of the Company.
o The dependence of the Company on the Lessee's ability to make payments
under the Percentage Leases in order to generate revenues may, in the
event that there is a reduction in revenues at the Initial Hotels,
adversely affect the amount of cash available for distribution to the
shareholders of the Company. The Lessee has nominal net worth and must
generate sufficient operating income from the Initial Hotels to fund
its rent payment obligations under the Percentage Leases.
o The Company and the Partnership were recently formed, and the Company
has no experience operating as a REIT or a public company.
o The Company initially will own only ten hotels. Thus, adverse changes
in the operations of any of the ten Initial Hotels could adversely
affect the amount of cash available for distribution to the
shareholders of the Company.
o Mr. Shah, the partners of the Combined Entities and certain of the
Combined Entities guarantee the Assumed Indebtedness, and the
bankruptcy of any of the guarantors would constitute a default under
the related loan documents, which default would cause some or all of
the Assumed Indebtedness to become immediately due and payable. This
accelerated payment could adversely affect the Company's cash available
for distribution. If the Company is unable to make such payment, the
Company may be forced to sell the Initial Hotels that serve as
collateral for such Assumed Indebtedness in order to make such payment.
o The Offering Price exceeds the net tangible book value per share.
Therefore, purchasers of Priority Common Shares in the Offering will
realize an immediate and substantial dilution of $2.14, or 35.6% of the
Offering Price, in the net tangible book value of their shares. In
addition, in the event that any of the purchase prices of the
Newly-Renovated Hotels or the Newly-Developed Hotels are increased on
the First Adjustment Date or the Second Adjustment Date, as applicable,
owners of the Priority Common Shares at such time will experience
further dilution.
o Risk of taxation of the Company as a regular corporation if it fails to
qualify as a REIT and the Company's liability for federal and state
taxes on its income in such event, which would adversely affect the
amount of cash available for distribution to the shareholders of the
Company.
o The Company's Forecasted Statement of Operations for the twelve months
ending January 31, 2000 (the "Forecast") is based on certain
assumptions and estimates, some of which will not materialize, and
unanticipated events may occur that could materially adversely affect
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<PAGE>
the actual results achieved by the Company during the forecasted
period. Consequently, the Company's actual results of operations during
the forecasted period will vary from the Forecast and such variations
may be material.
o The Assumed Indebtedness will represent approximately 37% of the total
purchase prices paid by the Company for the Initial Hotels. Although
the Company's policy is to limit consolidated indebtedness to less than
67% of the total purchase prices paid by the Company for the hotels in
which it has invested, there is no limit on the Company's ability to
incur debt contained in the Declaration of Trust or Bylaws. If the
Company is unable to meet its debt service obligations or repay (or
refinance) its debt when due, one or more of the Initial Hotels may be
lost to foreclosure.
o The price to be paid by the Company for the Initial Hotels may exceed
the fair market value as determined by a third-party appraisal of the
Initial Hotels.
o Five of the Initial Hotels are licensed under one franchise brand,
Holiday Inn/Holiday Inn Express, and any adverse developments to that
franchise brand could adversely affect the amount of cash available for
distribution to the shareholders of the Company.
o The geographic concentration in Pennsylvania of the Initial Hotels may
expose the Company to regional economic fluctuations that could have a
significant negative effect on the operation of the Initial Hotels, and
ultimately on cash available for distribution to the shareholders of
the Company.
o Risks affecting the real estate or hospitality industries generally,
including economic and other conditions that may adversely affect the
Company's real estate investments and the Lessee's ability to make
lease payments, potential increases in assessed real estate values or
property tax rates, the relative illiquidity of real estate,
competition, uninsured or underinsured losses, and the potential
liability for unknown or future environmental liabilities, any of which
could adversely affect the amount of cash available for distribution to
the shareholders of the Company.
o The absence of a prior market for the Priority Common Shares, the lack
of assurance that an active trading market will develop or that the
Priority Common Shares will trade at or above the Offering Price, and
the potential negative effect of an increase in interest rates on the
market price of the Priority Common Shares.
o The restrictions on ownership of Priority Common Shares and certain
other provisions in the Company's declaration of trust (the
"Declaration of Trust") or the Company's Bylaws (the "Bylaws") could
have the effect of inhibiting a change of control of the Company, even
when a change of control would be beneficial to the Company's
shareholders.
The Partnership
The Company will contribute substantially all of the net proceeds from the
Offering to Hersha Hospitality Limited Partnership (the "Partnership") in
exchange for approximately a 32% partnership interest in the Partnership. The
Company will be the sole general partner of the Partnership. Shortly after the
closing of the Offering, the Partnership will acquire, directly or through
subsidiary partnerships, 100% of the equity interests in the Initial Hotels. Mr.
Shah and certain affiliates (the "Hersha Affiliates") own the partnerships that
currently own all of the Initial Hotels (collectively, the "Combined Entities").
Ownership of the land underlying two of the Initial Hotels will be retained by
certain Hersha Affiliates and will be leased to the Partnership pursuant to
separate ground leases, each with a 99-year term, and collectively providing for
rent of $21,000 per year. See "Certain Relationships and Transactions."
The Partnership will acquire the Initial Hotels in exchange for (i)
Subordinated Units that will be redeemable, subject to certain limitations, for
an aggregate of approximately 4 million Class B Common Shares, with a value of
approximately $23.8 million based on the Offering Price, and (ii) the assumption
of approximately $23.8 million of indebtedness related to the Initial Hotels,
3
<PAGE>
approximately $17.4 million of which (the "Assumed Indebtedness") will remain
outstanding and approximately $6.4 million of which will be repaid immediately
after the acquisition of the Initial Hotels using the net proceeds of the
Offering. See "Formation Transactions." The purchase prices of the
Newly-Renovated Hotels will be adjusted as soon as the Company's and the
Lessee's audited financial statements for the year ended December 31, 1999 (the
"First Adjustment Date") become available. The purchase prices of the
Newly-Developed Hotels will be adjusted as soon as the Company's and the
Lessee's audited financial statements for the year ended December 31, 2000 (the
"Second Adjustment Date") become available. The adjustments will be calculated
by applying the initial pricing methodology to such hotels' cash flows as shown
on the Company's and the Lessee's audited financial statements for the year
ended on the First Adjustment Date or the Second Adjustment Date, as applicable,
and the adjustments must be approved a majority of the Independent Trustees (as
herein defined). If the repricing produces a higher aggregate value for such
hotels, the Hersha Affiliates will receive an additional number of Subordinated
Units that, when multiplied by the Offering Price, equals the increase in value
plus the value of any distributions that would have been made with respect to
such Subordinated Units if such Subordinated Units had been issued at the time
of acquisition of such hotels. If, however, the repricing produces a lower
aggregate value for such hotels, the Hersha Affiliates will forfeit to the
Partnership that number of Subordinated Units that, when multiplied by the
Offering Price, equals the decrease in value plus the value of any distributions
made with respect to such Subordinated Units.
The Lessee
In order for the Company to qualify as a REIT, neither the Company nor the
Partnership may operate hotels. Therefore, the Initial Hotels will be leased to
Hersha Hospitality Management, L.P., a Pennsylvania limited partnership
wholly-owned by certain of the Hersha Affiliates (the "Lessee"), pursuant to
leases (the "Percentage Leases") that are designed to allow the Company to
participate in growth in revenues of the Initial Hotels by providing that
percentages of such revenues be paid by the Lessee as rent. Each Percentage
Lease has been structured to provide anticipated rents at least equal to 12% of
the purchase price paid for the hotel, net of (i) property and casualty
insurance premiums, (ii) real estate and personal property taxes, and (iii) a
reserve for furniture, fixtures and equipment equal to 4% (6% for the Holiday
Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross revenues per
quarter at the hotel. This pro forma return is based on certain assumptions and
historical revenues for the Initial Hotels (including projected revenues for the
Newly-Developed Hotels and the Newly-Renovated Hotels) and no assurance can be
given that future revenues for the Initial Hotels will be consistent with prior
performance or the estimates. See "Risk Factors--Acquisition of Hotels with
Limited Operating History." The rent on the Newly-Developed Hotels and the
Newly-Renovated Hotels until the First Adjustment Date or Second Adjustment
Date, as applicable, will be fixed (the "Initial Fixed Rent"). After the First
Adjustment Date or the Second Adjustment Date, as applicable, rent will be
computed with respect to the Newly-Developed Hotels and the Newly-Renovated
Hotels based on the percentage rent formulas described herein. The Initial
Hotels will be operated by the Lessee. The Percentage Leases will have initial
terms of five years and may be extended for two additional five-year terms at
the option of the Lessee. See "Business and Properties--The Percentage Leases."
4
<PAGE>
The Initial Hotels
The following table sets forth certain information with respect to the
Initial Hotels:
<TABLE>
<CAPTION>
Twelve Months Ended December 31, 1997
------------------------------------- Average
Number of Room Other Daily
Initial Hotels Rooms Revenue Revenue(1) Occupancy Rate REVPAR(2)
- -------------- --------- ------- --------- --------- ------ ---------
<S> <C> <C> <C> <C> <C> <C>
Newly-Developed
Holiday Inn Express
Hershey, PA(3) ........ 85 $ 210,612 $ 4,877 38.8% $ 75.62 $ 29.35
New Columbia, PA(4) ... 81 $ 13,369 $ 253 9.0% $ 59.68 $ 5.39
Hampton Inn:
Carlisle, PA(5) ....... 95 659,861 8,421 53.5% $ 65.33 $ 34.93
Comfort Inn:
Harrisburg, PA(6) ..... 81
Newly-Renovated
Holiday Inn Express:
Harrisburg, PA(7) ..... 117 1,357,241 176,868 56.4% $ 56.33 $ 31.78
Holiday Inn:
Milesburg, PA ......... 118 1,254,070 220,684 52.0% $ 56.07 $ 29.13
Comfort Inn:
Denver, PA (8) ........ 45 658,285 0 54.7% $ 73.26 $ 40.08
Stabilized
Holiday Inn Hotel and
Conference Center:
Harrisburg, PA ........ 196 3,103,820 1,787,958 63.3% $ 68.22 $ 43.17
Hampton Inn:
Selinsgrove, PA (9) ... 75 1,271,943 46,148 71.9% $ 65.29 $ 46.96
Clarion Suites:
Philadelphia, PA ...... 96 2,350,702 319,950 73.7% $ 91.02 $ 67.09
---- ----------- ----------- ---- --------- ---------
Total/weighted average . 989 $10,879,903 $ 2,565,159 60.2% $ 68.27 $ 41.09
==== =========== =========== ==== ========= =========
</TABLE>
(1) Represents restaurant revenue, telephone revenue and other revenue.
(2) Revenue per available room ("REVPAR") is determined by dividing room revenue
by available rooms for the applicable period.
(3) This hotel opened in October 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
(4) This hotel opened in December 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
(5) This hotel opened in June 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
(6) This hotel opened in May 1998.
(7) The land underlying this hotel will be leased to the Partnership by certain
Hersha Affiliates for rent of $15,000 per year for 99 years.
(8) The land underlying this hotel will be leased to the Partnership by certain
Hersha Affiliates for rent of $6,000 per year for 99 years.
(9) A portion of the land adjacent to this hotel, which is not currently used
for hotel operations, will be leased to a Hersha Affiliate for $1 per year
for 99 years.
For further information regarding the Initial Hotels, see "Business and
Properties - The Initial Hotels" and " - The Percentage Leases."
5
<PAGE>
Growth Strategy
The Company will seek to enhance shareholder value by increasing amounts
available for distribution to shareholders by (i) acquiring additional hotels
that meet the Company's investment criteria as described below and (ii)
participating in any increased revenue from the Initial Hotels through the
Percentage Leases.
Acquisition Strategy
The Company intends to acquire additional hotels that meet its investment
criteria as described below. See "The Company--Growth Strategy--Acquisition
Strategy." The Company will emphasize limited service and full service hotels
with strong, national franchise affiliations in the upper-economy and mid-scale
market segments, or hotels with the potential to obtain such franchises. In
particular, the Company will consider acquiring limited service hotels such as
Comfort Inn(R), Best Western(R), Days Inn(R), Fairfield Inn(R), Hampton Inn(R),
Holiday Inn(R) and Holiday Inn Express(R) hotels, and limited service
extended-stay hotels such as Hampton Inn and Suites(R), Homewood Suites(R), Main
Stay Suites(R) and Residence Inn by Marriott(R) hotels. Under the Bylaws, any
transaction involving the Company, including the purchase, sale, lease or
mortgage of any real estate asset, in which a Trustee or officer of the Company,
or any Affiliate (as herein defined) thereof, has an interest (other than solely
as a result of his status as a Trustee, officer or shareholder of the Company)
must be approved by a majority of the members of the Company's Board of Trustees
(the "Trustees"), including a majority of the members of the Board of Trustees
who do not have an interest in such transaction and who are not officers,
directors or employees of the Company, any lessee of the Company's or the
Partnership's properties or any underwriter or placement agent of the shares of
beneficial interest of the Company that has been engaged by the Company within
the past three years, or any Affiliate thereof (the "Independent Trustees").
The Company intends to focus predominately on investments in hotels in the
eastern United States. Such investments may include hotels newly developed by
the Hersha Affiliates. Pursuant to an agreement among Hasu P. Shah, Jay H. Shah,
Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P.
Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha
Affiliate, the Partnership will have an option to acquire any hotels owned or
developed in the future by the Hersha Affiliates within 15 miles of any of the
Initial Hotels or any hotel subsequently acquired by the Partnership for two
years after acquisition or development (the "Option Agreement"). See "Certain
Relationships and Transactions--Option Agreement." The Company's initial policy
with respect to acquisitions of hotels (the "Acquisition Policy") is to acquire
hotels for which it expects to receive rents at least equal to 12% of the
purchase price paid for each hotel, net of (i) property and casualty insurance
premiums, (ii) real estate and personal property taxes, and (iii) a reserve for
furniture, fixtures and equipment equal to 4% (6% in the case of a full-service
hotel) of gross revenues per quarter at each hotel. The Trustees, however, may
change the Acquisition Policy at any time without the approval of the Company's
shareholders.
The Company intends to lease hotels that it acquires in the future to
operators, including the Lessee as well as operators unaffiliated with the
Lessee. Future leases with the Lessee generally will be similar to the
Percentage Leases. See "Business and Properties--The Percentage Leases." Future
leases with operators unaffiliated with the Lessee may or may not be similar to
the Percentage Leases. The Trustees will negotiate the terms and provisions of
each future lease, depending on the purchase price paid, economic conditions and
other factors deemed relevant at the time.
The Company's additional investments in hotels may be financed, in whole
or in part, with undistributed cash, subsequent issuances of Priority Common
Shares or other securities, or borrowings. The Company is currently pursuing
with lenders a $10 million line of credit (the "Line of Credit"). A failure to
obtain the Line of Credit could adversely affect the Company's ability to
finance its growth strategy. See "Risk Factors --Dependence Upon External
Financing." The Company's initial policy is to limit consolidated indebtedness
to less than 67% of the aggregate purchase prices for the hotels in which it has
invested (the "Debt Policy"). The Trustees, however, may change the Debt Policy
without the approval of the Company's shareholders. The aggregate purchase
prices paid by the Company for the Initial Hotels is approximately $47.3
million. After the Formation Transactions, the Company's indebtedness will be
approximately $17.4 million (consisting of the Assumed Indebtedness), which
represents approximately 37% of the aggregate purchase price to be paid by the
Company. Because of the Debt Policy and the amount of the Assumed Indebtedness,
the success of the Company's acquisition strategy will depend in the future on
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<PAGE>
its ability to access additional capital through issuances of equity securities.
See "The Company--Growth Strategy--Investment Criteria and Financing," "Risk
Factors--Risks of Leverage" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."
Internal Growth Strategy
The Percentage Leases are designed to allow the Company to participate in
growth in revenues at the Initial Hotels. See "Business and Properties--The
Percentage Leases." The Percentage Leases generally provide for the Lessee to
pay in each calendar quarter the greater of base rent ("Base Rent") or
percentage rent ("Percentage Rent"). The Percentage Rent for each Initial Hotel
is comprised of (i) a percentage of room revenues up to a certain threshold
amount (the "Threshold"), (ii) a percentage of room revenues in excess of the
Threshold but not more than an incentive threshold amount (the "Incentive
Threshold"), (iii) a percentage of room revenues in excess of the Incentive
Threshold and (iv) a percentage of revenues other than room revenues. The
Incentive Threshold is designed to provide incentive to the Lessee to generate
higher revenues at each hotel by lowering the percentage of revenue paid as
Percentage Rent once room revenues reach certain levels. In the case of the
Newly-Developed Hotels and the Newly-Renovated Hotels, the Lessee will pay the
Initial Fixed Rent until the First Adjustment Date or the Second Adjustment
Date, as applicable, after which the Lessee will pay the greater of Base Rent or
Percentage Rent. See "Business and Properties--The Initial Hotels" and "--The
Percentage Leases--Amounts Payable Under the Percentage Leases." The Initial
Fixed Rent, the Base Rent and Percentage Rent are hereinafter referred to
collectively as "Rent."
Formation Transactions
The principal transactions in connection with the formation of the Company
and the acquisition of interests in the Initial Hotels (the "Formation
Transactions") are as follows:
o The Company will sell 1,833,334 Priority Common Shares to the
Underwriter at the Offering Price. The net proceeds to the Company
from the Offering will be contributed to the Partnership in exchange
for approximately a 32% general partnership interest in the
Partnership. In addition, the Company will offer 166,666 Priority
Common Shares to the Hersha Affiliates at the Offering Price. The
information contained herein assumes that none of these 166,666
Priority Common Shares are sold.
o The Partnership will acquire the Initial Hotels by acquiring either
all of the partnership interests in the Combined Entities or the
Initial Hotels in exchange for (i) Subordinated Units that will be
redeemable, subject to certain limitations, for an aggregate of
approximately 4 million Class B Common Shares, with a value of
approximately $23.8 million based on the Offering Price and (ii) the
assumption of approximately $23.8 million in indebtedness secured by
all of the Initial Hotels, approximately $6.4 million of which will
be repaid with the proceeds of the Offering. The purchase prices of
the Newly-Developed Hotels and the Newly-Renovated Hotels will be
adjusted on the First Adjustment Date or the Second Adjustment Date,
as applicable, as described in "--The Company."
o The land underlying the Holiday Inn Express, Harrisburg,
Pennsylvania and the Comfort Inn, Denver, Pennsylvania each will be
leased to the Partnership by certain Hersha Affiliates for aggregate
rent of $21,000 per year for 99 years. Also, a portion of the land
adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be
leased to a Hersha Affiliate for $1 per year for 99 years.
o Each Initial Hotel will be leased to the Lessee pursuant to a
Percentage Lease. The Percentage Leases will have an initial
non-cancelable term of five years. All, but not less than all, of
the Percentage Leases may be extended for an additional five-year
term. At the end of the first extended term, the Lessee, at its
option, may extend some or all of the Percentage Leases for the
Initial Hotels for an additional five-year term. The Percentage
Leases generally provide for the Lessee to pay in each calendar
quarter the greater of the Base Rent or Percentage Rent. The
7
<PAGE>
Percentage Rent for each Initial Hotel is comprised of (i) a
percentage of room revenues up to the Threshold, (ii) a percentage
of room revenues in excess of the Threshold but less than the
Incentive Threshold, (iii) a percentage of room revenues in excess
of the Incentive Threshold and (iv) a percentage of revenues other
than room revenues. The Incentive Threshold is designed to provide
an incentive to the Lessee to generate higher revenues at each
hotel. Until the First Adjustment Date or the Second Adjustment
Date, as applicable, the rent on the Newly-Developed Hotels and the
Newly-Renovated Hotels will be the Initial Fixed Rents applicable to
those hotels. After the First Adjustment Date or the Second
Adjustment Date, as applicable, rent will be computed with respect
to the Newly-Developed Hotels and the Newly-Renovated Hotels based
on the percentage rent formulas described herein. The Lessee will
hold the franchise license (the "Franchise License") for each
Initial Hotel. See "Business and Properties--The Percentage Leases."
o The Partnership and certain of the Hersha Affiliates have entered
into the Option Agreement, pursuant to which the Hersha Affiliates
will agree that, if they develop or own any hotels in the future
that are located within 15 miles of any Initial Hotel or hotel
subsequently acquired by the Partnership, the Hersha Affiliates will
give the Partnership the option to purchase such hotels for two
years after acquisition or development. See "Risk Factors--Conflicts
of Interest--Competing Hotels Owned or to be Acquired by the Hersha
Affiliates" and "Policies and Objectives with Respect to Certain
Activities--Conflict of Interest Policies--The Option Agreement."
o The Company and the Lessee will enter into the Administrative
Services Agreement, pursuant to which the Lessee will provide
certain administrative services in exchange for an annual fee equal
to $55,000, plus $10,000 for each hotel owned by the Company.
o The Company has granted the Underwriter warrants to purchase 183,333
Priority Common Shares (the "Underwriter Warrants") for a period of
five years at a price per share equal to 165% of the Offering Price.
o The Partnership has granted 2744 Associates, L.P., which is a Hersha
Affiliate, warrants to purchase 250,000 Units (the "Hersha
Warrants") for a period of five years at a price per Unit equal to
165% of the Offering Price.
8
<PAGE>
[Flow chart describing the organization of the
Company after completion of the Offering appears here]
9
<PAGE>
(1) Four of the Initial Hotels will be held directly by the Partnership and
the remaining six Initial Hotels will be held by subsidiary partnerships
of the Partnership. The Company will lease the land underlying the Holiday
Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver,
Pennsylvania from certain Hersha Affiliates pursuant to separate leases,
each with a term of 99 years, and collectively providing for annual rent
of $21,000.
Benefits to the Hersha Affiliates
As a result of the Formation Transactions, the Hersha Affiliates will
receive significant benefits, including but not limited to the following:
o The Hersha Affiliates will receive approximately 4 million
Subordinated Units in exchange for their interests in the Initial
Hotels, which will have a value of approximately $23.8 million based
on the Offering Price. The Subordinated Units held by the Hersha
Affiliates will be more liquid than their current interests in the
Combined Entities if a public trading market for the Class B Common
Shares commences or when such shares are converted into Priority
Common Shares and after the applicable holding periods expire.
o The Lessee, which is owned by the Hersha Affiliates, will hold the
Franchise Licenses for the Initial Hotels and will be entitled to
all revenues from the Initial Hotels after payment of Rent under the
Percentage Leases and other operating expenses. The Company will pay
certain expenses in connection with the transfer of the Franchise
Licenses to the Lessee. See "The Lessee."
o Approximately $6.4 million of indebtedness owed by the Combined
Entities will be repaid with a portion of the proceeds of the
Offering. Approximately $4 million of such indebtedness is owed to
entities controlled by the Hersha Affiliates and relates principally
to hotel development expenses in connection with the Initial Hotels.
Certain of the Assumed Indebtedness is and will remain guaranteed by
the Hersha Affiliates. Upon the repayment of such indebtedness, the
Hersha Affiliates will be released from the related guarantees. The
Hersha Affiliates may receive increased cash distributions from the
operations of the Initial Hotels as a result of the reduction of
indebtedness on the Initial Hotels.
o If the repricing on the First Adjustment Date or the Second
Adjustment Date, as applicable, produces a higher value for the
Newly-Developed Hotels or the Newly-Renovated Hotels, the Hersha
Affiliates will receive an additional number of Subordinated Units
that, when multiplied by the Offering Price, equals the increase in
value plus the value of any distributions that would have been made
in connection with such Subordinated Units if such Subordinated
Units had been issued in connection with the acquisition of such
hotels.
o The Lessee, which is owned by the Hersha Affiliates, will receive an
annual fee equal to $55,000, plus $10,000 for each hotel owned by
the Company for providing certain administrative services to the
Company.
o Certain tax consequences to the Hersha Affiliates from the transfer
of equity interests in the Initial Hotels will be deferred.
o Messrs. Hasu P. Shah, K.D. Patel and Bharat C. Mehta will receive
$7,500 per year for serving as Trustees. Mr. Shah shall also be
entitled to receive a salary of not more than $100,000 per year
provided that the Priority Common Shares have a closing price of
$9.00 per share or higher for 20 consecutive trading days and remain
at or above $9.00 per share.
o The Partnership has granted 2744 Associates, L.P., which is a Hersha
Affiliate, the Hersha Warrants to purchase 250,000 Units for a
period of five years at a price per share equal to 165% of the
Offering Price.
10
<PAGE>
o Certain of the Hersha Affiliates will receive a total of $21,000 per
year pursuant to 99-year ground leases with respect to the Holiday
Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver,
Pennsylvania.
o A portion of the land adjacent to the Hampton Inn, Selinsgrove,
Pennsylvania will be leased to a Hersha Affiliate for $1 per year
for 99 years.
Conflicts of Interest
The Company will be subject to certain conflicts of interest resulting
from its relationship with the Lessee. Specifically, certain of the senior
officers of the Company will also be senior officers of the Lessee and will thus
be subject to conflicting fiduciary duties when negotiating between those
entities. In addition, certain senior officers and Trustees of the Company
collectively own approximately 35% of the Lessee, and their fiduciary duties to
the Company may be in conflict with their pecuniary interest in the Lessee. As a
result, the terms of negotiations and agreements between the Company and the
Lessee may not solely reflect the interests of the Company's shareholders.
The Company has adopted certain policies in its governing instruments, has
entered into certain agreements and is subject to certain provision of Maryland
law, all of which are designed to minimize the effects of potential conflicts of
interest. The Declaration of Trust, with limited exceptions, requires that three
of the Company's Trustees be Independent Trustees. Such Independent Trustee
requirement may not be amended, altered, changed or repealed without the
affirmative vote of at least a majority of the members of the Board of Trustees
(and the affirmative vote of the holders of not less than two-thirds of the
outstanding shares of beneficial interest of the Company entitled to vote
thereon). In addition, the Partnership has entered into the Option Agreement
with certain of the Hersha Affiliates pursuant to which the Hersha Affiliates
will agree that if they develop or own any hotels in the future that are located
within 15 miles of any Initial Hotel or hotel subsequently acquired by the
Partnership, the Hersha Affiliates will give the Partnership the option to
purchase such hotels for two years. See "Risk Factors--Conflicts of
Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates" and
"Policies and Objectives with Respect to Certain Activities--Conflict of
Interest Policies--The Option Agreement." The Trustees also are subject to
certain provisions of Maryland law, which are designed to eliminate or minimize
certain potential conflicts of interest. See "Policies and Objectives with
Respect to Certain Activities--Conflict of Interest Policies--Provisions of
Maryland Law." However, there can be no assurance that these policies always
will be successful in eliminating the influence of such conflicts, and if they
are not successful, decisions could be made that might fail to reflect fully the
interests of all shareholders.
Forecasted Distributions
The Company intends to make regular quarterly distributions to holders of
the Priority Common Shares initially equal to $0.18 per share, which on an
annualized basis would be equal to $0.72 per share or 12.0% of the Offering
Price. The first distribution will cover the period from the closing of the
Offering to March 31, 1999. The Trustees will determine the actual distribution
rate based on the Company's actual results of operations, economic conditions
and other factors. See "Partnership Agreement," "Forecasted Distributions"
and "Risk Factors--Forecasted Statement of Operations."
During the Priority Period, the holders of the Priority Common Shares will
be entitled to receive, prior to any distributions either to the holders of the
Subordinated Units or to the holders of the Class B Common Shares, cumulative
dividends in an amount per Priority Common Share equal to $0.18 per quarter.
After the holders of the Subordinated Units and the Class B Common Share have
received an amount per Unit or per Class B Common Share equal to the Priority
Distribution, the holders of the Priority Common Shares will be entitled to
receive any further distributions on a pro rata basis with the holders of the
Subordinated Units and the Class B Common Shares. As of the closing of the
Offering, no Class B Common Shares will be outstanding. Thus, the Priority
Common Shares initially will have Priority Rights only with respect to the
outstanding Subordinated Units. In the future, the Company may issue additional
Priority Common Shares, and the Partnership may issue Units that are not
subordinated to the Priority Common Shares. See "Description of Shares of
Beneficial Interest" and "Partnership Agreement."
11
<PAGE>
Tax Status
The Company intends to make an election to be taxed as a REIT under
Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the
"Code"), commencing with its initial taxable year ending December 31, 1998. If
the Company qualifies for taxation as a REIT, then with certain exceptions, the
Company will not be taxed at the corporate level on its taxable income that is
distributed to its shareholders. A REIT is subject to a number of organizational
and operational requirements, including a requirement that it currently
distribute at least 95% of its taxable income, excluding net capital gains.
Failure to qualify as a REIT will render the Company subject to federal income
tax (including any applicable alternative minimum tax) on its taxable income at
regular corporate rates and distributions to the shareholders in any such year
will not be deductible by the Company. Although the Company does not intend to
request a ruling from the Internal Revenue Service (the "Service") as to its
REIT status, the Company has obtained the opinion of its legal counsel, Hunton &
Williams, based on certain assumptions and representations described in "Federal
Income Tax Consequences," that the Company has been organized in conformity with
the requirements for qualification as a REIT beginning with its taxable year
ending December 31, 1998, and that its proposed method of operation as
represented to its counsel and as described herein will enable it to satisfy the
requirements of such qualification. Investors should be aware, however, that
opinions of counsel are not binding on the Service or any court. Even if the
Company qualifies for taxation as a REIT, the Company or the Partnership may be
subject to certain state and local taxes on its income and property. In
connection with the Company's election to be taxed as a REIT, the Declaration of
Trust imposes restrictions on the ownership and transfer of Priority Common
Shares. The Company intends to adopt the calendar year as its taxable year. See
"Risk Factors--Tax Risks," "--Ownership Limitation," "Federal Income Tax
Consequences--Taxation of the Company" and "Description of Shares of Beneficial
Interest - Declaration of Trust and Bylaw Provisions--Restrictions on Transfer."
The Offering
<TABLE>
<CAPTION>
<S> <C>
Priority Common Shares offered by the Company
to the Underwriter..................................................1,833,334(1)
Priority Common Shares and Subordinated Units to be
outstanding after the Offering......................................5,797,442(2)
Use of Proceeds.....................................................To repay debt incurred in the acquisition of the
Initial Hotels, to pay certain expenses of the
Offering, to pay certain expenses associated with
the acquisition of the Initial Hotels and for
working capital purposes.
Symbol on the American Stock
Exchange............................................................"HT"
</TABLE>
(1) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates.
(2) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates,
183,333 Priority Common Shares issuable upon exercise of the Underwriter
Warrants, 250,000 Class B Common Shares issuable upon the redemption of
250,000 Units issuable upon exercise of the Hersha Warrants, 650,000 Class
B Common Shares reserved for issuance pursuant to the Option Plan (as
herein defined) and 200,000 Class B Common Shares reserved for issuance
pursuant to the Trustees' Plan (as herein defined). The Class B Common
Shares will be converted into Priority Common Shares on a one-for-one
basis after the expiration of the Priority Period. See "Description of
Shares of Beneficial Interest--Class B Common Shares," "Formation
Transactions," "Management--Option Plan" and "Underwriting."
12
<PAGE>
Summary Selected Financial Information
The following tables set forth unaudited summary forecasted statement of
operations data and historical and pro forma balance sheet data for the Company,
unaudited pro forma condensed combined statements of operations for the Lessee,
and summary combined historical operating and financial data for the Combined
Entities--Initial Hotels. Such data should be read in conjunction with the
financial statements and notes thereto, which are contained elsewhere in this
Prospectus. A pro forma statement of operations for the Company is not presented
because the Company has had no historical operations as a hotel lessor. The
forecasted statement of operations data for the Company is presented as if the
Formation Transactions had occurred on February 1, 1999 and therefore
incorporates certain assumptions that are set forth in the Company's Forecasted
Statement of Operations included elsewhere in this Prospectus. See "Risk
Factors--Forecasted Statement of Operations." The balance sheet data for the
Company is presented as if the Formation Transactions had occurred on September
30, 1998. The pro forma condensed combined statements of operations for the
Lessee are presented as if the Formation Transactions had occurred on January 1,
1997 and carried forward through the interim period presented.
Hersha Hospitality Trust
Unaudited Summary Statement of Operations
and Balance Sheet Data
(In thousands, except share and per share amounts)
Forecasted Twelve
Months Ending
January 31, 2000
-----------------
Statement of Operations Data:
Lease revenue................................... 7,175
Expenses........................................ (4,543)
Net income before minority interest............. 2,632
Minority interest............................... (1,520)
Net income...................................... 1,112
Net income per Priority Common Share............ 0.61
Weighted average number of
Priority Common Shares outstanding............ 1,833,334
September 30, 1998
Historical Pro Forma
---------- ---------
Balance Sheet Data:
Net investment in hotel properties.............. -- $ 40,489
Minority interest in Partnership................ -- $ 18,355
Shareholders' equity............................ -- $ 8,488
Total assets.................................... -- $ 44,243
Total debt...................................... -- $ 17,400
13
<PAGE>
Hersha Hospitality Management, L.P.
Unaudited Pro Forma Condensed Combined Statements of Operations(1)
(In thousands)
Nine Months Ended Year Ended
September 30, 1998 December 31, 1997
------------------ -----------------
Room revenue............................ $ 11,824 $10,880
Other revenue (2)....................... 2,111 2,565
-------- -------
Total revenue........................... $ 13,935 $13,445
-------- -------
Hotel operating expenses (3)............ 8,506 9,214
Percentage Lease payments (4)........... 5,108 5,129
----- -------
Net income (loss)....................... $ 321 $ (898)
========= ========
Combined Entities - Initial Hotels
Summary Combined Historical Operating and Financial Data
(In thousands)
Nine Months Ended
September 30 Year Ended December 31
------------------ ----------------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
Statement of Operations
Data:
Room revenue $11,824 $7,750 $10,880 $7,273 $5,262
Other revenue (2) 2,111 1,942 2,565 2,716 1,957
----- ------- ------- ------ ------
Total revenue $13,935 $9,692 $13,445 $9,989 $7,219
Hotel operating expenses (3) 8,839 6,510 9,173 8,172 6,250
Interest 1,497 831 1,354 921 634
Depreciation and amortization 1,161 799 1,189 924 711
----- ------- ------- ----- -------
Net income (loss) (5) $2,438 $1,552 $1,729 $ (28) $ (376)
====== ====== ======= ===== =======
- -------------------------
(1) The estimated information does not purport to represent what the Lessee's
financial position or results of operations would actually have been if
consummation of the Formation Transactions had, in fact, occurred on such
date or at the beginning of the periods indicated, or to project the
Lessee's financial position or results of operations at any future date or
for any future period. Represents pro forma revenue and expenses as if (i)
the Partnership recorded depreciation and amortization, paid interest on
remaining debt after the Formation Transactions occurred, and paid real
and personal property taxes and property insurance as contemplated by the
Percentage Leases, and (ii) the Formation Transactions occurred as of the
beginning of the periods indicated.
(2) Represents restaurant revenue, telephone revenue and other revenue.
(3) Represents departmental costs and expenses, general and administrative,
repairs and maintenance, utilities, marketing, management fees, real
estate and personal property taxes, property and casualty insurance and
ground leases. The pro forma amounts exclude real estate and personal
property taxes, property and casualty insurance, ground leases and
management fees. Real estate and personal property taxes, property and
casualty insurance and ground leases are the responsibility of the
Partnership under the Percentage Leases.
(4) Represents lease payments calculated on a pro forma basis using the rent
provisions in the Percentage Leases. The rent provisions in the Percentage
14
<PAGE>
Leases are based upon an agreement between the Partnership and the Lessee
in which the parties have agreed to the lease terms and the form of lease
to be signed at the closing of the Offering. Lease payments are calculated
under two methods depending upon whether the Initial Hotel is a Stabilized
Hotel with an established operating history or a Newly-Developed Hotel or
a Newly-Renovated Hotel. The Rents for the Stabilized Hotels are
calculated by applying the percentage rent formulas to the historical room
revenues and other revenues of those hotels for the periods presented.
Because the Newly-Developed Hotels and the Newly-Renovated Hotels pay
Initial Fixed Rent for at least the first twelve months of operation, the
Rent for those hotels is based on the Initial Fixed Rents, recognized on a
straight-line basis over the period presented. In the case of the
Newly-Developed Hotels, the Initial Fixed Rents have been prorated for the
periods the hotels were in operation because the hotels have not been in
operation for the full periods presented.
(5) The Combined Entities are not subject to income tax, except Hersha
Enterprises, Ltd., which had no tax liability for the periods presented.
15
<PAGE>
This Prospectus contains forward-looking statements including, without
limitation, the Forecasted Statement of Operations of the Company and statements
containing the words "believes," "anticipates," "expects" and words of similar
import. Such forward-looking statements relate to future events and the future
financial performance of the Company and the Lessee, and involve known and
unknown risks, uncertainties and other factors which may cause the actual
results, performance or achievements of the Company or the Lessee to be
materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. Prospective investors
should specifically consider the various factors identified in this prospectus
which could cause actual results to differ, including particularly those
discussed in the section entitled "Risk Factors" beginning on this page. The
Company disclaims any obligation to update any such factors or to publicly
announce the result of any revisions to any forward-looking statements to
reflect future events or developments after the date hereof.
RISK FACTORS
In evaluating the Company's business, prospective investors should
carefully consider the following risk factors in addition to the other
information contained in this Prospectus.
Conflicts of Interest
Because of the Hersha Affiliates' ownership in and/or positions with the
Company, the Partnership, the Lessee and the Combined Entities, there are
inherent conflicts of interest in the Formation Transactions and in the ongoing
lease, acquisition, disposition and operation of the Initial Hotels.
Consequently, the interests of shareholders may not have been, and in the future
may not be, reflected fully in all decisions made or actions taken by officers
and Trustees of the Company. See "The Company--Formation Transactions" and
"Policies and Objectives with Respect to Certain Activities--Conflict of
Interest Policies."
Conflicts Relating to Sales or Refinancing of Initial Hotels
The Hersha Affiliates have unrealized gain associated with their interests
in the Initial Hotels and, as a result, any sale of the Initial Hotels or
refinancing or prepayment of principal on the Assumed Indebtedness by the
Company may cause adverse tax consequences to the Hersha Affiliates. Therefore,
the interests of the Company and the Hersha Affiliates could be different in
connection with the disposition or refinancing of an Initial Hotel. Decisions in
connection with any transaction involving the Company, including the disposition
of an Initial Hotel or refinancing of or prepayment of principal on the Assumed
Indebtedness, in which a Trustee or officer of the Company, or any Affiliate
thereof, has an interest (other than solely as a result of his status as a
Trustee, officer or shareholder of the Company) must be made by a majority of
the Trustees, including a majority of the Independent Trustees.
No Arm's-Length Bargaining on Percentage Leases, Contribution
Agreements, the Administrative Services Agreement and Option Agreement
The terms of the Percentage Leases, the agreements pursuant to which the
Company and the Partnership will acquire, directly or indirectly, the Initial
Hotels, the Administrative Services Agreement and the Option Agreement were not
negotiated on an arm's-length basis. See "Business and Properties--The
Percentage Leases" and "Certain Transactions--The Percentage Leases." The
Company will not own any interest in the Lessee. Messrs. Hasu P. Shah, K.D.
Patel, and Bharat C. Mehta are Trustees of the Company and collectively own
approximately 35% of the Lessee. Consequently, they have a conflict of interest
regarding the negotiation and enforcement of the Percentage Leases, the
Administrative Services Agreement and the Option Agreement. See "The Lessee."
Competing Hotels Owned or to be Acquired by the Hersha Affiliates
The Hersha Affiliates may develop or acquire new hotels, subject to
certain limitations. While it is anticipated that Mr. Shah will devote
substantially all of his time to the business of the Company, such development
or acquisition by the Hersha Affiliates may materially affect the amount of time
Mr. Shah has to devote to the affairs of the Company. The Lessee and its
affiliates may operate hotels that are not owned by the Company, subject to
certain restrictions, which may materially affect the amount of time that the
Lessee has to devote to managing the Initial Hotels. See "Policies and
Objectives with Respect to Certain Activities--Conflict of Interest
Policies--The Option Agreement."
16
<PAGE>
Acquisition of Hotels with Limited Operating History
The Newly-Developed Hotels have little operating history and the
Newly-Renovated Hotels have been newly renovated. The purchase prices of such
hotels are based upon projections by management as to the expected operating
results of such hotels, subjecting the Company to risks that such hotels may not
achieve anticipated operating results or may not achieve such results within
anticipated time frames. As a result, the Lessee may not generate enough net
operating income from such hotels to make the Initial Fixed Rent payments or,
after the First Adjustment Date or the Second Adjustment Date, as applicable, to
make the Base Rent payments. In addition, after the First Adjustment Date or
Second Adjustment Date, as applicable, room revenues may be less than required
to result in the payment of Percentage Rent at levels at a particular hotel that
provide the Company with its anticipated return on investment. In either case,
the amounts available for distribution to shareholders could be reduced.
Need for Certain Consents from the Limited Partners
Under the partnership agreement of the Partnership, as amended and
restated (the "Partnership Agreement"), the holders of at least two-thirds of
the interests in the Partnership, including the Company, which initially will
own approximately only a 32% interest in the Partnership, must approve a sale of
all or substantially all of the assets of the Partnership or a merger or
consolidation of the Partnership, provided, however, that such approval shall no
longer be required if the Company ever fails to pay a distribution of $.72 per
share to the holders of the Priority Common Shares for any 12-month period. The
Hersha Affiliates initially will own approximately a 68% interest in the
Partnership and thus initially will effectively hold veto power over such
extraordinary transactions, which could result in the disapproval of a
transaction that would be beneficial to the shareholders of the Company. See
"Partnership Agreement--Management."
Risks Related to the Company's Initial Forecasted Distributions
Based on the Company's forecasted statement of operations for the twelve
months ending January 31, 2000, the Company estimates that it will distribute
100% of its forecasted cash available for distribution and that the holders of
Subordinated Units will be entitled to receive an amount per Subordinated Unit
less than the Priority Distribution paid to the holders of the Priority Common
Shares. See "Forecasted Distributions" and "Risk Factors--Forecasted Statement
of Operations." If actual cash available for distribution falls short of
forecasted cash available for distribution, the Company may not be able to
maintain its proposed initial distribution rate. In addition, if the Company's
actual cash available for distribution after the Priority Period does not
increase above its forecasted cash available for distribution, the Company will
not be able to maintain its proposed initial distribution rate after the
Priority Period. Distribution of substantially all of the Company's cash
available for distribution will limit the funds available to the Company for
capital expenditures to maintain its properties or to finance acquisitions of
future hotels.
Inability to Operate the Properties
As a result of its status as a REIT, the Company will not be able to
operate any hotels. The Company will be unable to make and implement strategic
business decisions with respect to its properties, such as decisions with
respect to the repositioning of a franchise, repositioning of food and beverage
operations and other similar decisions, even if such decisions are in the best
interests of a particular property. Accordingly, there can be no assurance that
the Lessee will operate the Initial Hotels in a manner that is in the best
interests of the Company.
Dependence on the Lessee
In order to generate revenues to enable it to make distributions to
shareholders, the Company will rely on the Lessee to make Rent payments. The
Lessee's obligations under the Percentage Leases, including the obligation to
make Rent payments, are unsecured. Reductions in revenues from the Initial
Hotels or in the net operating income of the Lessee may adversely affect the
ability of the Lessee to make such Rent payments and thus the Company's ability
to make anticipated distributions to its shareholders. Although failure on the
part of the Lessee to comply materially with the terms of a Percentage Lease
would give the Company the right to terminate any or all of the Percentage
Leases, to repossess the applicable properties and to enforce the payment
obligations under the Percentage Leases, the Company then would be required to
find another lessee. There can be no assurance that the Company would be able to
find another lessee or that, if another lessee were found, the Company would be
able to enter into a lease on favorable terms.
17
<PAGE>
Newly-Organized Entities
The Company, the Partnership and the Lessee all have been recently
organized and have no operating histories. Although the officers and Trustees of
the Company have experience in developing, financing and operating hotels, most
of them have no experience in operating a REIT or a public company. See
"Management--Trustees and Officers."
Limited Numbers of Initial Hotels
The Company will own initially only ten hotels, three of which will be
operated as Holiday Inn Express(R) hotels, two as Hampton Inn(R) hotels, two as
Holiday Inn(R) hotels, two as a Comfort Inn(R) hotels and one as a Clarion
Suites(R) hotel. Significant adverse changes in the operations of any Initial
Hotel could have a material adverse effect on the Lessee's ability to make Rent
payments and, accordingly, on the Company's ability to make expected
distributions to its shareholders.
Guarantors of Assumed Indebtedness
Mr. Shah, the partners of the Combined Entities and certain of the
Combined Entities guarantee the indebtedness secured by the Initial Hotels, and
the bankruptcy of any of the guarantors would constitute a default under the
related loan documents, which default would cause some or all of the Assumed
Indebtedness to become immediately due and payable. In the event that the lender
accelerates the payment, such acceleration could adversely affect the Company's
cash available for distribution. If the Company is unable to make such payment,
the Company may be forced to sell the Initial Hotels that serve as collateral
for such Assumed Indebtedness in order to make such payment.
Substantial Dilution
Purchasers of Priority Common Shares sold in the Offering will experience
immediate and substantial dilution of $2.14, or 35.6% of the Offering Price, in
the net tangible book value per Priority Common Share. See "Dilution." In
addition, in the event that any of the purchase prices of the Newly-Renovated
Hotels or the Newly-Developed Hotels are increased on the First Adjustment Date
or the Second Adjustment Date, as applicable, owners of the Priority Common
Shares at such time will experience further dilution.
Tax Risks
Failure to Qualify as a REIT
The Company intends to operate so as to qualify as a REIT for federal
income tax purposes. Although the Company has not requested, and does not expect
to request, a ruling from the Service that it qualifies as a REIT, the Company
has received an opinion of its counsel, Hunton & Williams, that, based on
certain assumptions and representations, it will so qualify. Investors should be
aware, however, that opinions of counsel are not binding on the Service or any
court. The REIT qualification opinion only represents the view of counsel to the
Company based on counsel's review and analysis of existing law, which includes
no controlling precedent. Furthermore, both the validity of the opinion and the
continued qualification of the Company as a REIT will depend on the Company's
continuing ability to meet various requirements concerning, among other things,
the ownership of its outstanding shares of beneficial interest, the nature of
its assets, the sources of its income, and the amount of its distributions to
its shareholders. See "Federal Income Tax Consequences--Taxation of the
Company."
If the Company were to fail to qualify as a REIT in any taxable year, the
Company would not be allowed a deduction for distributions to its shareholders
in computing its taxable income and would be subject to federal income tax
(including any applicable alternative minimum tax) on its taxable income at
regular corporate rates. Unless entitled to relief under certain Code
provisions, the Company also would be disqualified from treatment as a REIT for
the four taxable years following the year during which qualification was lost.
As a result, amounts available for distribution to shareholders would be reduced
for each of the years involved. Although the Company currently intends to
operate in a manner designed to qualify as a REIT, it is possible that future
economic, market, legal, tax or other considerations may cause the Trustees,
with the consent of two-thirds of the shareholders, to revoke the REIT election.
See "Federal Income Tax Consequences."
18
<PAGE>
REIT Minimum Distribution Requirements
In order to qualify as a REIT, the Company generally will be required each
year to distribute to its shareholders at least 95% of its net taxable income
(excluding any net capital gain). In addition, the Company will be subject to a
4% nondeductible excise tax on the amount, if any, by which certain
distributions paid by it with respect to any calendar year are less than the sum
of (i) 85% of its ordinary income for that year, (ii) 95% of its capital gain
net income for that year, and (iii) 100% of its undistributed taxable income
from prior years. To the extent that the Company elects to retain and pay income
tax on its net long-term capital gains, such retained amounts will be treated as
having been distributed for purposes of the 4% excise tax.
The Company intends to make distributions to its shareholders to comply
with the 95% distribution requirement and to avoid the nondeductible excise tax.
The Company's income will consist primarily of its share of the income of the
Partnership, and the Company's cash available for distribution to shareholders
will consist primarily of its share of cash distributions from the Partnership.
Differences in timing between the recognition of taxable income and the receipt
of amounts available for distribution due to the seasonality of the hotel
industry could require the Company, through the Partnership, to borrow funds on
a short-term basis to meet the 95% distribution requirement and to avoid the
nondeductible excise tax. See "Risk Factors--Risk of Leverage." For federal
income tax purposes, distributions paid to shareholders may consist of ordinary
income, capital gains, nontaxable return of capital, or a combination thereof.
The Company will provide its shareholders with an annual statement as to its
designation of the taxability of distributions.
Distributions by the Partnership will be determined by the Trustees and
will be dependent on a number of factors, including the amount of the
Partnership's distributable cash, the Partnership's financial condition, any
decision by the Trustees to reinvest funds rather than to distribute such funds,
the Partnership's capital expenditures, the annual distribution requirements
under the REIT provisions of the Code and such other factors as the Trustees
deem relevant. See "Federal Income Tax Consequences--Requirements for
Qualification - Distribution Requirements."
Forecasted Statement of Operations
The Forecast is based on certain assumptions and estimates, some of which
will not materialize, and unanticipated events may occur that could materially
adversely affect the actual results achieved by the Company during the
forecasted period. Consequently, the Company's actual results of operations
during the forecasted period will vary from the Forecast and such variations may
be material. The Company's independent public accountants have not examined,
compiled, reviewed, or applied agreed-upon procedures to the Forecast and,
consequently, assume no responsibility for the Forecast. The Company does not
intend to update or otherwise revise the Forecast to reflect events or
circumstances existing or arising after December 18, 1998 or to reflect the
occurrence of unanticipated events. The Forecast should not be relied upon for
any purpose following the consummation of the Offering.
Potential Adverse Effects of Leverage and Lack of Limits on Indebtedness
Upon completion of the Offering and the completion of the Formation
Transactions, the Company will assume the Assumed Indebtedness (in the aggregate
principal amount of approximately $17.4 million), which will be secured by some
of the Initial Hotels. The Company may borrow additional amounts from the same
or other lenders in the future, or may issue corporate debt securities in public
or private offerings. Certain of such additional borrowings may be secured by
the Hotels. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations--Liquidity and Capital Resources" and "Policies and
Objectives with Respect to Certain Activities--Financing."
There can be no assurance that the Company will be able to meet its debt
service obligations and, to the extent that it cannot, the Company risks the
loss of some or all of its assets, including the Initial Hotels, to foreclosure.
Although the Company's policy is to limit consolidated indebtedness to less than
67% of the total purchase prices paid by the Company for the hotels in which it
has invested, there is no limit on the Company's ability to incur debt contained
in the Declaration of Trust or Bylaws. The Assumed Indebtedness will represent
approximately 37% of the total purchase prices paid by the Company for the
Initial Hotels. The Assumed Indebtedness will limit the Company's ability to
acquire additional hotels without issuing equity securities. See "--Growth
Strategy--Competition for Acquisitions" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations--Liquidity and Capital
Resources."
19
<PAGE>
The Price Being Paid for the Initial Hotels May Exceed Their Value
No arm's-length negotiations were conducted and no independent appraisals
were obtained in connection with the Formation Transactions. There can be no
assurance that the price to be paid by the Company, which is approximately $47.3
million in the aggregate, will not exceed the fair market value of the Initial
Hotels acquired by the Company. The initial valuation of the Company is based on
a valuation of the Initial Hotels and the rent to be paid by the Lessee under
the Percentage Leases. The Subordinated Units were allocated among the Hersha
Affiliates based upon their respective interests in the Combined Entities.
Emphasis on Franchise Hotels
The Company intends to place particular emphasis in its acquisition
strategy on hotels similar to the Initial Hotels. The Company initially will own
five hotels licensed under the Holiday Inn/Holiday Inn Express franchise brand
and thus will be subject to risks inherent in concentrating investments in a
particular franchise brand, which could have an adverse effect on the Company's
lease revenues and amounts available for distribution to shareholders. These
risks include, among others, the risk of a reduction in hotel revenues following
any adverse publicity related to the franchise brand. See "Business and
Properties--Franchise Licenses."
Concentration of Investments in Pennsylvania
All of the Initial Hotels are located in Pennsylvania. As a result,
localized adverse events or conditions, such as an economic recession, could
have a significant adverse effect on the operations of the Initial Hotels, and
ultimately on the amounts available for distribution to shareholders.
Hotel Industry Risks
Operating Risks
The Initial Hotels are subject to all operating risks common to the hotel
industry. The hotel industry has experienced volatility in the past, as have the
Initial Hotels, and there can be no assurance that such volatility will not
occur in the future. These risks include, among other things, competition from
other hotels; over-building in the hotel industry that could adversely affect
hotel revenues; increases in operating costs due to inflation and other factors,
which increases may not be offset by increased room rates; dependence on
business and commercial travelers and tourism; strikes and other labor
disturbances of hotel employees; increases in energy costs and other expenses of
travel; and adverse effects of general and local economic conditions. These
factors could reduce revenues of the Initial Hotels and adversely affect the
Lessee's ability to make Rent payments, and therefore, the Company's ability to
make distributions to its shareholders.
Competition for Guests
The hotel industry is highly competitive. The Initial Hotels will compete
with other existing and new hotels in their geographic markets. Many of the
Company's competitors have substantially greater marketing and financial
resources than the Company and the Lessee. See "Business and
Properties--Competition."
Investment Concentration in Single Industry
The Company's current growth strategy is to acquire hotels primarily in
the upper-economy and mid-scale segments of the hotel industry. The Company will
not seek to invest in assets selected to reduce the risks associated with an
investment in that segment of the hotel industry, and, therefore, is subject to
risks inherent in concentrating investments in a single industry and in specific
market segments within that industry. The adverse effect on Rent under the
Percentage Leases and amounts available for distribution to shareholders
resulting from a downturn in the hotel industry in general or the upper-economy
and mid-scale segments in particular would be more pronounced than if the
Company had diversified its investments outside of the hotel industry or in
additional hotel market segments.
20
<PAGE>
Seasonality of Hotel Business and the Initial Hotels
The hotel industry is seasonal in nature. Generally, hotel revenues are
greater in the second and third quarters than in the first and fourth quarters.
The Initial Hotels' operations historically reflect this trend. The Company
believes that it will be able to make its forecasted distributions during its
initial year of operation through cash flow from operations. See "Forecasted
Distributions," "Risk Factors--Forecasted Statement of Operations." and
"Management's Discussion and Analysis of Financial Condition and Result of
Operations--Seasonality."
Risks of Operating Hotels under Franchise Licenses
The continuation of the Franchise Licenses is subject to specified
operating standards and other terms and conditions. Holiday Inn Express(R),
Holiday Inn(R), Hampton Inn(R), and Choice Hotels International, Inc.(R)
("Choice Hotels"), the franchisor of Comfort Inns(R) and Clarion Suites(R),
periodically inspect their licensed properties to confirm adherence to their
operating standards. The failure of the Partnership or the Lessee to maintain
such standards respecting the Initial Hotels or to adhere to such other terms
and conditions could result in the loss or cancellation of the applicable
Franchise License. It is possible that a franchisor could condition the
continuation of a Franchise License on the completion of capital improvements
which the Trustees determine are too expensive or otherwise not economically
feasible in light of general economic conditions or the operating results or
prospects of the affected Initial Hotel. In that event, the Trustees may elect
to allow the Franchise License to lapse or be terminated. The franchisors have
agreed to amend the existing Franchise Licenses to substitute the Lessee as the
franchisee.
There can be no assurance that a franchisor will renew a Franchise License
at each option period. If a Franchise License is terminated, the Partnership and
the Lessee may seek to obtain a suitable replacement franchise, or to operate
the Initial Hotel independent of a Franchise License. The loss of a Franchise
License could have a material adverse effect upon the operations or the
underlying value of the related Initial Hotel because of the loss of associated
name recognition, marketing support and centralized reservation systems provided
by the franchisor. Although the Percentage Leases require the Lessee to maintain
the Franchise Licenses for each Initial Hotel, the Lessee's loss of a Franchise
License for one or more of the Initial Hotels could have a material adverse
effect on the Partnership's revenues under the Percentage Leases and the
Company's amounts available for distribution to shareholders. See "Business and
Properties--Franchise Licenses."
Operating Costs and Capital Expenditures; Hotel Renovation
Hotels, including the Initial Hotels, generally have an ongoing need for
renovations and other capital improvements, particularly in older structures,
including periodic replacement of furniture, fixtures and equipment. Under the
terms of the Percentage Leases, the Partnership is obligated to pay the cost of
expenditures for items that are classified as capital items under generally
accepted accounting principles that are necessary for the continued operation of
the Initial Hotels. If these expenses exceed the Company's estimate, the
additional cost could have an adverse effect on amounts available for
distribution to shareholders. In addition, the Company may acquire hotels in the
future that require significant renovation. Renovation of hotels involves
certain risks, including the possibility of environmental problems, construction
cost overruns and delays, uncertainties as to market demand or deterioration in
market demand after commencement of renovation and the emergence of
unanticipated competition from hotels. See "Business and the Properties--The
Percentage Leases."
Real Estate Investment Risks
General Risks of Investing in Real Estate
The Initial Hotels will be subject to varying degrees of risk generally
incident to the ownership of real property. The underlying value of the Initial
Hotels and the Company's income and ability to make distributions to its
shareholders are dependent upon the ability of the Lessee to operate the Initial
Hotels in a manner sufficient to maintain or increase revenues in excess of
operating expenses to enable the Lessee to make Rent payments. Hotel revenues
may be adversely affected by adverse changes in national economic conditions,
adverse changes in local market conditions due to changes in general or local
economic conditions and neighborhood characteristics, competition from other
hotels, changes in interest rates and in the availability, cost and terms of
mortgage funds, the impact of present or future environmental legislation and
compliance with environmental laws, the ongoing need for capital improvements,
particularly in older structures, changes in real estate tax rates and other
operating expenses, adverse changes in governmental rules and fiscal policies,
21
<PAGE>
civil unrest, acts of God, including earthquakes, hurricanes and other natural
disasters (which may result in uninsured losses), acts of war, adverse changes
in zoning laws, and other factors that are beyond the control of the Company.
Illiquidity of Real Estate
Real estate investments are relatively illiquid. The ability of the
Company to vary its portfolio in response to changes in economic and other
conditions will be limited. No assurances can be given that the fair market
value of any of the Initial Hotels will not decrease in the future.
Uninsured and Underinsured Losses
Each Percentage Lease specifies comprehensive insurance to be maintained
on each of the Initial Hotels, including liability and fire and extended
coverage in amounts sufficient to permit the replacement of the Initial Hotels
in the event of a total loss, subject to applicable deductibles. Management of
the Company believes that such specified coverage is of the type and amount
customarily obtained by owners of hotels similar to the Initial Hotels.
Percentage Leases for hotels subsequently acquired by the Company will contain
similar provisions. However, there are certain types of losses, generally of a
catastrophic nature, such as earthquakes, floods and hurricanes, that may be
uninsurable or not economically insurable. Inflation, changes in building codes
and ordinances, environmental considerations, and other factors also might make
it infeasible to use insurance proceeds to replace the applicable hotel after
such applicable hotel has been damaged or destroyed. Under such circumstances,
the insurance proceeds received by the Company might not be adequate to restore
its economic position with respect to the applicable hotel.
Property Taxes
Each Initial Hotel is subject to real and personal property taxes. The
real and personal property taxes on hotel properties in which the Company
invests may increase or decrease as property tax rates change and as the
properties are assessed or reassessed by taxing authorities. If property taxes
increase, the Company's ability to make expected distributions to its
shareholders could be adversely affected.
Environmental Matters
Operating costs may be affected by the obligation to pay for the cost of
complying with existing environmental laws, ordinances and regulations, as well
as the cost of future legislation. Under various federal, state and local
environmental laws, ordinances and regulations, a current or previous owner or
operator of real property may be liable for the costs of removal or remediation
of hazardous or toxic substances on, under or in such property. Such laws often
impose liability whether or not the owner or operator knew of, or was
responsible for, the presence of such hazardous or toxic substances. The cost of
complying with environmental laws could materially adversely affect amounts
available for distribution to shareholders. Recent Phase I environmental
assessments have been obtained on all of the Initial Hotels. The purpose of
Phase I environmental assessments is to identify potential environmental
contamination that is made apparent from historical reviews of the Initial
Hotels, reviews of certain public records, preliminary investigations of the
sites and surrounding properties, and screening for the presence of hazardous
substances, toxic substances and underground storage tanks. The Phase I
environmental assessment reports have not revealed any environmental
contamination that the Company believes would have a material adverse effect on
the Company's business, assets, results of operations or liquidity, nor is the
Company aware of any such liability. Nevertheless, it is possible that these
reports do not reveal all environmental liabilities or that there are material
environmental liabilities of which the Company is unaware.
Compliance with Americans with Disabilities Act and other Changes in
Governmental Rules and Regulations
Under the Americans with Disabilities Act of 1993 (the "ADA"), all public
accommodations are required to meet certain federal requirements related to
access and use by disabled persons. While the Company believes that the Initial
Hotels are substantially in compliance with these requirements, a determination
that the Company is not in compliance with the ADA could result in imposition of
fines or an award of damages to private litigants. In addition, changes in
governmental rules and regulations or enforcement policies affecting the use and
operation of the Hotels, including changes to building codes and fire and
life-safety codes, may occur. If the Company were required to make substantial
modifications at the Initial Hotels to comply with the ADA or other changes in
governmental rules and regulations, the Company's ability to make expected
distributions to its shareholders could be adversely affected.
22
<PAGE>
Market for Priority Common Shares
Prior to the Offering, there has been no public market for the Priority
Common Shares. The Priority Common Shares have been approved for listing,
subject to final notice of issuance, on The American Stock Exchange. The
Offering Price may not be indicative of the market price for the Priority Common
Shares after the Offering. There can be no assurance that an active public
market for the Priority Common Shares will develop or continue after the
Offering. See "Underwriting" for a discussion of factors to be considered in
establishing the Offering Price. If accepted for listing, there can be no
assurances that the Company will continue to meet the criteria for continued
listing of the Priority Common Shares on The American Stock Exchange.
Effect of Market Interest Rates on Price of Priority Common Shares
One of the factors that may influence the price of the Priority Common
Shares in public trading markets will be the annual yield from distributions by
the Company on the Priority Common Shares as compared to yields on other
financial instruments. Thus, an increase in market interest rates will result in
higher yields on other financial instruments, which could adversely affect the
market price of the Priority Common Shares.
Anti-takeover Effect of Ownership Limit, Limited Partner Consents, Staggered
Board, Power to Issue Additional Shares and Certain Provisions of Maryland Law
Ownership Limitation
The Declaration of Trust generally prohibits direct or indirect ownership
of more than 9.9% of the number of outstanding shares of any class of securities
of the Company, including the Priority Common Shares, by any person (the
"Ownership Limitation"). Generally, Priority Common Shares owned by affiliated
owners will be aggregated for purposes of the Ownership Limitation. The
Ownership Limitation could have the effect of delaying, deferring or preventing
a change in control or other transaction in which holders of some, or a
majority, of Priority Common Shares might receive a premium for their Priority
Common Shares over the then prevailing market price or which such holders might
believe to be otherwise in their best interests. See "Description of Shares of
Beneficial Interest - Restrictions on Transfer" and "Federal Income Tax
Consequences--Requirements for Qualification."
Limited Partner Consents
The holders of at least two-thirds of the interests in the Partnership,
including the Company, which initially will own approximately only a 32%
interest in the Partnership, must approve, subject to certain conditions, a sale
of all or substantially all of the assets of the Partnership or a merger or
consolidation of the Partnership, which could result in the disapproval of a
transaction that would be beneficial to the shareholders of the Company. See
"--Need for Certain Consents from the Limited Partners."
Staggered Board
The Company's Board of Trustees is divided into two classes. The initial
terms of the first and second classes will expire in 1999 and 2000,
respectively. Beginning at the annual meeting of shareholders in 1999, Trustees
of each class will be chosen for two-year terms upon the expiration of their
current terms and each year one class of Trustees will be elected by the
shareholders. The staggered terms of Trustees may delay, defer or prevent a
tender offer, a change in control of the Company or other transaction, even
though such a transaction might be in the best interest of the shareholders. See
"Certain Provisions of Maryland Law and of the Company's Declaration of Trust
and Bylaws--Classification of the Board of Trustees."
Issuance of Additional Shares
The Company's Declaration of Trust authorizes the Board of Trustees,
without shareholder approval, to (i) amend the Declaration of Trust to increase
or decrease the aggregate number of shares of beneficial interest or the number
of shares of beneficial interest of any class that the Company has the authority
to issue, (ii) cause the Company to issue additional authorized but unissued
Priority Common, Class B Common or Preferred Shares and (iii) classify or
reclassify any unissued Common or Preferred Shares and to set the preferences,
rights and other terms of such classified or reclassified shares, including the
issuance of additional Priority Common Shares or preferred shares that have
23
<PAGE>
preference rights over the Priority Common Shares with respect to dividends,
liquidation, voting and other matters. See "Description of Shares of Beneficial
Interest--Preferred Shares." Future equity offerings may cause the purchasers of
the Priority Common Shares sold in the Offering to experience further dilution.
The Company has no current plans for future equity offerings. Although the Board
of Trustees has no such intention at the present time, it could establish a
series of Preferred Shares that could, depending on the terms of such series,
delay, defer or prevent a transaction or a change in control of the Company that
might involve a premium price for the Priority Common Shares or otherwise be in
the best interest of the shareholders. The Declaration of Trust and Bylaws of
the Company also contain other provisions that may have the effect of delaying,
deferring or preventing a transaction or a change in control of the Company that
might involve a premium price for the Priority Common Shares or otherwise be in
the best interest of the shareholders. See "Certain Provisions of Maryland Law
and of the Company's Declaration of Trust and Bylaws--Removal of Trustees,"
"--Control Share Acquisitions" and "--Advance Notice of Trustees Nominations and
New Business."
Maryland Business Combination Law
Under the Maryland General Corporation Law, as amended ("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 beneficially owns ten percent or more
of the voting power of the trust's shares (an "Interested Shareholder") or an
affiliate thereof 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. See "Certain Provisions of Maryland Law and
the Company's Declaration of Trust and Bylaws--Business Combinations."
Dependence Upon External Financing
The Company anticipates that its growth and acquisition strategies will be
largely financed through externally generated funds such as borrowings under the
Line of Credit and other secured and unsecured debt financing and from issuance
of equity securities. Because the Company must distribute 95% of its taxable
income to maintain its qualification as a REIT, the Company's ability to rely
upon income from operations or cash flow from operations to finance its growth
and acquisition activities will be limited. Accordingly, were the Company unable
to obtain the Line of Credit or other funds from borrowings or to access the
capital markets to finance its growth and acquisition activities, the Company's
ability to grow could be curtailed, cash available for distribution to
shareholders of the Company could be adversely affected and the Company could be
required to reduce distributions.
Assumption of Contingent Liabilities of Combined Entities
Because the Partnership is acquiring partnership interests in certain of
the Combined Entities, the Partnership will assume all contingent liabilities of
those Combined Entities. Certain of the Hersha Affiliates are managing partners
of the Combined Entities and have made representations and warranties that the
Combined Entities have no liabilities, debts or obligations except for
liabilities arising under operating agreements, equipment leases, loan
agreements or proration credits on the Closing Date. There is, however, a risk
that unforeseen liabilities could exist and could adversely affect amounts
available for distribution to shareholders.
Possible Increase in Ground Lease Payments for Comfort Inn, Denver, Pennsylvania
The Company will lease the land under the Comfort Inn, Denver,
Pennsylvania from Hasu P. Shah and Bharat C. Mehta for $6,000 per year for 99
years. Messrs. Shah and Mehta have pledged their interests in the land to a
lender to secure a loan from the lender. Pursuant to the terms of the loan
agreement, in the event of a default on the loan, the ground lease with the
Company will not terminate, but the lender has the option to adjust the payments
to fair rental value at the time of the loan default based on a third-party
appraisal. Accordingly, in the event of a default by Messrs. Shah and Mehta on
the loan that is secured by the land, the Company's rental obligations under the
ground lease may increase.
Year 2000 Risks
Many computer systems were designed using only two digits to designate
years. These systems may not be able to distinguish the year 2000 from the year
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<PAGE>
1900 (commonly known as the "Year 2000 Problem"). There can be no assurance that
the computer systems and operations of the Company or its third party vendors or
other service providers will be Year 2000 compliant. The failure of the Company
or its third party vendors or other services providers to have Year 2000
compliant systems could have a material adverse effect on the Company and its
operations. See "Management's Discussion and Analysis of Financial Condition and
Results of Operation--Year 2000 Compliance."
Ability of Board of Trustees to Change Certain Policies
The major policies of the Company, including its policies with respect to
acquisitions, financing, growth, operations, debt limitation and distributions,
will be determined by the Trustees. The Trustees may amend or revise these and
other policies from time to time without a vote of the holders of the Priority
Common Shares. Although three of the Trustees are required to be Independent
Trustees, a majority of the initial Board of Trustees will not be Independent
Trustees and thus such policies may be changed by the non-Independent Trustees.
The effect of any such changes may be positive or negative. Under the
Declaration of Trust, the Company cannot change its policy of seeking to
maintain its qualification as a REIT without the approval of the holders of
two-thirds of the outstanding Priority Common Shares. See "Policies and
Objectives with Respect to Certain Activities" and "Certain Provisions of
Maryland Law and the Company's Declaration of Trust and Bylaws."
Growth Strategy
Competition for Acquisitions
There will be competition for investment opportunities in upper-economy
and mid-scale hotels from entities organized for purposes substantially similar
to the Company's objectives, as well as other purchasers of hotels. The Company
will be competing for such investment opportunities with entities that have
substantially greater financial resources than the Company, including access to
capital or better relationships with franchisors, sellers or lenders. The
Company's policy is to limit consolidated indebtedness to less than 67% of the
total purchase prices paid by the Company for the hotels in which it has
invested. See "Risk Factors--The Price Being Paid for the Initial Hotels May
Exceed Their Value." Because of the amount of the Assumed Indebtedness, the
success of the Company's acquisition strategy will depend primarily on its
ability to access additional capital through issuances of equity securities. The
Company's competitors may generally be able to accept more risk than the Company
can manage prudently and may be able to borrow the funds needed to acquire
hotels. Competition may generally reduce the number of suitable investment
opportunities offered to the Company and increase the bargaining power of
property owners seeking to sell. See "Business and Properties--Competition."
Acquisition Risks
The Company intends to pursue acquisitions of additional hotel properties.
Acquisitions entail risks that investments will fail to perform in accordance
with expectations and that estimates of the cost of improvements necessary to
market and acquire properties will prove inaccurate, as well as general
investment risks associated with any new real estate investment. The Company
anticipates that its growth and acquisition strategies will be largely financed
through externally generated funds such as borrowings under credit facilities
and other secured and unsecured debt financing and from issuance of equity
securities. Because the Company must distribute 95% of its taxable income to
maintain its qualification as a REIT, the Company's ability to rely upon income
from operations or cash flow from operations to finance its growth and
acquisition activities will be limited. Accordingly, were the Company unable to
obtain funds from borrowings or the capital markets to finance its growth and
acquisition activities, the Company's ability to grow could be curtailed,
amounts available for distribution to shareholders could be adversely affected
and the Company could be required to reduce distributions.
Reliance on Trustees and Management
Common shareholders have no right or power to take part in the management
of the Company except through the exercise of voting rights on certain specified
matters. See "Description of Shares of Beneficial Interest--Common Shares" and
"Certain Provisions of Maryland Law and of the Company's Declaration of Trust
and Bylaws." The Trustees will be responsible for managing the Company. The
Company will rely upon the services and expertise of its Trustees for strategic
business direction.
In addition, there may be conflicting demands on Mr. Shah caused by his
overlapping management of the Company and Hersha Enterprises Ltd. Hersha
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<PAGE>
Enterprises Ltd. owns and operates properties other than the Initial Hotels, and
Mr. Shah, who serves as Chairman of the Board and Chief Executive Officer of the
Company and President of Hersha Enterprises, Ltd., may experience a conflict in
allocating his time between such entities.
Possible Adverse Effect of Shares Available for Future Sale on Price of Priority
Common Shares
After termination of the Priority Period, the Class B Common Shares will
automatically be converted into Priority Common Shares on a one-for-one basis.
Sales of a substantial number of Priority or Class B Common Shares, or the
perception that such sales could occur, could adversely affect prevailing market
prices of the Priority Common Shares. In the Formation Transactions,
approximately 4 million Subordinated Units will be issued to the Hersha
Affiliates in addition to the Priority Common Shares offered by the Company in
the Offering. See "Formation Transactions." In general, one year after the
closing of the Offering, the Subordinated Units will be redeemable for cash or,
at the option of the Company, Class B Common Shares. In the event the Class B
Common Shares are converted into Priority Common Shares prior to redemption of
the Subordinated Units, such outstanding Subordinated Units will become
redeemable for Priority Common Shares. See "Shares Available for Future Sale"
and "Underwriting." At the conclusion of such periods and upon the subsequent
redemption of Units, the Class B Common Shares or Priority Common Shares
received therefor may be sold in the public market pursuant to shelf
registration statements that the Company is obligated to file on behalf of
limited partners of the Partnership, or pursuant to any available exemptions
from registration.
THE COMPANY
The Company has been established to own initially the ten Initial Hotels
and to continue the hotel acquisition and development strategies of Hasu P.
Shah, Chairman of the Board of Trustees and Chief Executive Officer of the
Company. The Company, formed in May 1998, is a self-advised Maryland real estate
investment trust that intends to qualify as a REIT for federal income tax
purposes. The Initial Hotels include three Holiday Inn Express(R) hotels, two
Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels and
one Clarion Suites(R) hotel. The Initial Hotels are located in Pennsylvania and
contain an aggregate of 989 rooms. The Newly-Developed Hotels are newly
constructed and therefore have limited operating history. The Newly-Renovated
Hotels have been newly renovated and, as a result, the Company believes that
such hotels' future performance will improve significantly over such hotels'
prior operating histories.
The Company will contribute substantially all of the net proceeds from the
Offering to the Partnership in exchange for approximately a 32% partnership
interest in the Partnership. The Company will be the sole general partner of the
Partnership. Shortly after the closing of the Offering, the Partnership will
acquire, directly or through the partnerships that currently own the hotels,
100% of the equity interests in the Initial Hotels. Mr. Shah and the Hersha
Affiliates own the Combined Entities. Ownership of the land underlying two of
the Initial Hotels will be retained by certain Hersha Affiliates and will be
leased to the Partnership pursuant to separate ground leases, each with a
99-year term, and collectively providing for rent of $21,000 per year. See
"Certain Relationships and Transactions."
The Partnership will acquire the Initial Hotels in exchange for (i)
Subordinated Units that will be redeemable, subject to certain limitations, for
an aggregate of approximately 4 million Class B Common Shares, with a value of
approximately $23.8 million based on the Offering Price, and (ii) the assumption
of approximately $23.8 million of indebtedness related to the Initial Hotels,
including the Assumed Indebtedness and approximately $6.4 million that will be
repaid immediately after the acquisition of the Initial Hotels. See "Formation
Transactions." The purchase prices of the Newly-Renovated Hotels will be
adjusted on the First Adjustment Date. The purchase prices of the
Newly-Developed Hotels will be adjusted on the Second Adjustment Date. The
adjustments will be calculated by applying the initial pricing methodology to
such hotels' cash flows as shown on the Company's and the Lessee's audited
financial statements for the year ended on the First Adjustment Date or the
Second Adjustment Date, as applicable, and the adjustments must be approved by a
majority of the Independent Trustees. If the repricing produces a higher
aggregate value for such hotels, the Hersha Affiliates will receive an
additional number of Subordinated Units that, when multiplied by the Offering
Price, equals the increase in value plus the value of any distributions that
would have been made with respect to such Subordinated Units if such
Subordinated Units had been issued at the time of the acquisition of such
hotels. If, however, the repricing produces a lower aggregate value for such
hotels, the Hersha Affiliates will forfeit to the Partnership that number of
Subordinated Units that, when multiplied by the Offering Price, equals the
decrease in value plus the value of any distributions made with respect to such
Subordinated Units.
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In order for the Company to qualify as a REIT, neither the Company nor the
Partnership may operate hotels. Therefore, the Initial Hotels will be leased to
the Lessee pursuant to the Percentage Leases. Each Percentage Lease has been
structured to provide anticipated rents at least equal to 12% of the purchase
price paid for the hotel, net of (i) property and casualty insurance premiums,
(ii) real estate and personal property taxes, and (iii) a reserve for furniture,
fixtures and equipment equal to 4% (6% for the Holiday Inn, Harrisburg, PA and
the Holiday Inn, Milesburg, PA) of gross revenues per quarter at the hotel. This
pro forma return is based on certain assumptions and historical revenues for the
Initial Hotels (including projected revenues for the Newly-Developed Hotels and
the Newly-Renovated Hotels) and no assurance can be given that future revenues
for the Initial Hotels will be consistent with prior performance or the
estimates. See "Risk Factors--Acquisition of Hotels with Limited Operating
History." Until the First Adjustment Date or the Second Adjustment Date, as
applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated
Hotels will be the Initial Fixed Rents applicable to those hotels. After the
First Adjustment Date or the Second Adjustment Date, as applicable, rent will be
computed with respect to the Newly-Developed Hotels and the Newly-Renovated
Hotels based on the percentage rent formulas described herein. The Initial
Hotels will be operated by the Lessee. The Percentage Leases will have initial
terms of five years and may be extended for two additional five-year terms at
the option of the Lessee. See "Business and Properties--The Percentage Leases."
The following table sets forth certain information with respect to the
Initial Hotels:
<TABLE>
<CAPTION>
Twelve Months Ended December 31, 1997
-------------------------------------
Average
Number of Room Other Daily
Initial Hotels Rooms Revenue Revenue(1) Occupancy Rate REVPAR(2)
- -------------- --------- ------- ---------- --------- -------- ----------
<S> <C> <C> <C> <C> <C> <C>
Newly-Developed
Holiday Inn Express
Hershey, PA(3) ................ 85 210,612 $ 4,877 38.8% $ 75.62 $ 29.35
New Columbia, PA(4) ........... 81 13,369 $ 253 9.0% $ 59.68 $ 5.39
Hampton Inn:
Carlisle, PA(5) ............... 95 659,861 8,421 53.5% $ 65.33 $ 34.93
Comfort Inn:
Harrisburg, PA(6) ............. 81
Newly-Renovated
Holiday Inn Express:
Harrisburg, PA(7) ............. 117 1,357,241 176,868 56.4% $ 56.33 $ 31.78
Holiday Inn:
Milesburg, PA ................. 118 1,254,070 220,684 52.0% $ 56.07 $ 29.13
Comfort Inn:
Denver, PA (8) ................ 45 658,285 0 54.7% $ 73.26 $ 40.08
Stabilized
Holiday Inn Hotel and Conference
Center:
Harrisburg, PA ................ 196 3,103,820 1,787,958 63.3% $ 68.22 $ 43.17
Hampton Inn:
Selinsgrove, PA (9) ........... 75 1,271,943 46,148 71.9% $ 65.29 $ 46.96
Clarion Suites:
Philadelphia, PA .............. 96 2,350,702 319,950 73.7% $ 91.02 $ 67.09
--------- ----------- ----------- --------- --------- ----------
Total/weighted average ......... 989 $10,879,903 $ 2,565,159 60.2% $ 68.27 $ 41.09
========= =========== =========== ========= ========= ==========
</TABLE>
(1) Represents restaurant revenue, telephone revenue and other revenue.
(2) REVPAR is determined by dividing room revenue by available rooms for the
applicable period.
(3) This hotel opened in October 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
(4) This hotel opened in December 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
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<PAGE>
(5) This hotel opened in June 1997 and, thus, the data shown represent
operations from the date of opening through December 31, 1997.
(6) This hotel opened in May 1998.
(7) The land underlying this hotel will be leased to the Partnership by certain
Hersha Affiliates for rent of $15,000 per year for 99 years.
(8) The land underlying this hotel will be leased to the Partnership by certain
Hersha Affiliates for rent of $6,000 per year for 99 years.
(9) A portion of the land adjacent to this hotel, which is not currently used
for hotel operations, will be leased to a Hersha Affiliate for $1 per year
for 99 years.
For further information regarding the Initial Hotels, see "Business and
Properties - The Initial Hotels" and " - The Percentage Leases."
GROWTH STRATEGY
The Company will seek to enhance shareholder value by increasing amounts
available for distribution to shareholders by (i) acquiring additional hotels
that meet the Company's investment criteria as described below and (ii)
participating in any increased revenue from the Initial Hotels through the
Percentage Leases.
Acquisition Strategy
The Company will emphasize limited service and full service hotels with
strong, national franchise affiliations in the upper-economy and mid-scale
market segments, or hotels with the potential to obtain such franchises. In
particular, the Company will consider acquiring limited service hotels such as
Comfort Inn(R), Best Western(R), Days Inn(R), Fairfield Inn(R), Hampton Inn(R),
Holiday Inn(R) and Holiday Inn Express(R) hotels, and limited service
extended-stay hotels such as Hampton Inn and Suites(R), Homewood Suites(R), Main
Stay Suites(R) and Residence Inn by Marriott(R) hotels. Under the Bylaws, any
transaction involving the Company, including the purchase, sale, lease or
mortgage of any real estate asset, in which a Trustee or officer of the Company,
or any Affiliate thereof, has an interest (other than solely as a result of his
status as a Trustee, officer or shareholder of the Company) must be approved by
a majority of the Trustees, including a majority of the Independent Trustees.
Investment Criteria
The Company intends to focus predominantly on investments in hotels in the
eastern United States. Such investments may include hotels newly developed by
certain of the Hersha Affiliates. Pursuant to the Option Agreement, the
Partnership will have an option to acquire any hotels owned or developed in the
future by the Hersha Affiliates within 15 miles of any of the Initial Hotels or
any hotel subsequently acquired by the Partnership for two years after
acquisition or development. See "Certain Relationships and Transactions--Option
Agreement." The Company's initial policy with respect to acquisitions of hotels
(the "Acquisition Policy") is to acquire hotels for which it expects to receive
rents at least equal to 12% of the purchase price paid for each hotel, net of
(i) property and casualty insurance premiums, (ii) real estate and personal
property taxes, and (iii) a reserve for furniture, fixtures and equipment equal
to 4% (6% in the case of full-service hotels) of annual gross revenues at each
hotel. The Trustees, however, may change the Acquisition Policy at any time
without the approval of the Company's shareholders. The Company expects to
acquire hotels that meet one or more of the following criteria:
o nationally-franchised hotels in locations with a relatively high
demand for rooms, with a relatively low supply of competing hotels
and with significant barriers to entry into the hotel business, such
as a scarcity of suitable hotel sites or zoning restrictions;
o poorly managed hotels, which could benefit from new management, new
marketing strategy and association with a national franchisor;
o hotels in a deteriorated physical condition that could benefit
significantly from renovations; and
o hotels in attractive locations that the Company believes could
benefit significantly by changing franchises to a brand the Company
believes is superior.
The Company intends to lease hotels that it acquires in the future to
operators, including the Lessee as well as operators unaffiliated with the
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<PAGE>
Lessee. Future leases with the Lessee generally will be similar to the
Percentage Leases. See "Business and Properties--The Percentage Leases." Future
leases with operators unaffiliated with the Lessee may or may not be similar to
the Percentage Leases. The Trustees will negotiate the terms and provisions of
each future lease, depending on the purchase price paid, economic conditions and
other factors deemed relevant at the time.
Financing
The Company's additional investments in hotels may be financed, in whole
or in part, with undistributed cash, subsequent issuances of Priority Common
Shares or other securities, or borrowings. The Company is currently pursuing
with lenders the Line of Credit. A failure to obtain the Line of Credit could
adversely affect the Company's ability to finance its growth strategy. See "Risk
Factors--Dependence Upon External Financing." The Company's Debt Policy is to
limit consolidated indebtedness to less than 67% of the aggregate purchase
prices paid by the Company for the hotels in which it has invested. The
Trustees, however, may change the Debt Policy without the approval of the
Company's shareholders. The aggregate purchase prices paid by the Company for
the Initial Hotels is approximately $47.3 million. After the Formation
Transactions, the Company's indebtedness will be approximately $17.4 million
(consisting of the Assumed Indebtedness), which represents approximately 37% of
the aggregate purchase price to be paid by the Company for the Initial Hotels.
Because of the Debt Policy and the amount of the Assumed Indebtedness, the
success of the Company's acquisition strategy will depend primarily on its
ability to access additional capital through issuances of equity securities. See
"Risk Factors--Risks of Leverage" and "Management's Discussion and Analysis of
Financial Condition and Results of Operations--Liquidity and Capital Resources."
Internal Growth Strategy
The Percentage Leases are designed to allow the Company to participate in
growth in revenues at the Initial Hotels. See "Business and Properties--The
Percentage Leases." The Percentage Leases generally provide for the Lessee to
pay in each calendar quarter the greater of Base Rent or Percentage Rent. The
Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room
revenues up to the Threshold, (ii) a percentage of room revenues in excess of
the Threshold but not more than the Incentive Threshold, (iii) a percentage of
room revenues in excess of the Incentive Threshold and (iv) a percentage of
revenues other than room revenues. The Incentive Threshold is designed to
provide incentive to the Lessee to generate higher revenues at each hotel by
lowering the percentage of revenue paid as Percentage Rent once room revenues
reach certain levels. In the case of the Newly-Developed Hotels and the
Newly-Renovated Hotels, the Lessee will pay the Initial Fixed Rent until the
First Adjustment Date or the Second Adjustment Date, as applicable, after which
the Lessee will pay the greater of Base Rent or Percentage Rent. See "Business
and Properties--The Initial Hotels" and "--The Percentage Leases-- Amounts
Payable Under the Percentage Leases."
29
<PAGE>
USE OF PROCEEDS
The net proceeds to the Company from the sale of 1,833,334 Priority Common
Shares to the Underwriter are estimated to be approximately $9.5 million (based
on the Offering Price), after deducting underwriting discounts and estimated
offering expenses of approximately $1.5 million. The Company will contribute the
net proceeds of the Offering to the Partnership in exchange for approximately a
32% interest in the Partnership. The Partnership will use the net proceeds as
follows: (i) approximately $6.4 million to repay certain of the outstanding
indebtedness related to the Initial Hotels, including approximately $4 million
in debt owed to certain Hersha Affiliates and related principally to the hotel
development expenses in connection with the Initial Hotels, (ii) approximately
$0.7 million for costs associated with the acquisition of the Initial Hotels and
(iii) approximately $2.4 million for working capital purposes. In addition, the
Company will offer 166,666 Priority Common Shares to the Hersha Affiliates at
the Offering Price and no selling commission will be payable to the Underwriter
with respect to such shares. The information contained herein assumes that none
of the 166,666 Priority Common Shares are sold. While the Company has the option
to purchase certain hotels under the Option Agreement, the Company currently has
no agreement or understanding to invest in any specific hotel other than the
Initial Hotels. See "Certain Relationships and Related Transactions--Option
Agreement."
Pending the use of proceeds referenced above, the net proceeds will be
invested in interest-bearing, short-term, investment grade securities or money
market accounts, which are consistent with the Company's intention to qualify as
a REIT. Such investments may include, for example, government and government
agency securities, certificates of deposit, interest-bearing bank deposits and
mortgage loan participations.
The indebtedness to be repaid with the net proceeds of the Offering
includes debt secured by some of the Initial Hotels as follows (in thousands):
Mortgages payable secured by
the following Initial Hotels: Maturity Annual
Amount(1) Date Interest Rate
--------- --------- -------------
Holiday Inn, Milesburg, PA $860 1999 8.00%
Clarion Suites, Philadelphia, PA $ 1,540 2002/2010 9.50%
Amounts Due to Hersha
Affiliates (2) $ 3,982 (3) 9.00%
--------
Total $ 6,382
========
- --------------
(1) Based on balances at September 30, 1998.
(2) Loans advanced by the Hersha Affiliates principally to fund hotel
development expenses in connection with the Initial Hotels.
(3) Payable on demand.
30
<PAGE>
FORECASTED DISTRIBUTIONS
After the Offering, the Company intends to make regular quarterly
distributions to holders of the Priority Common Shares initially equal to $0.18
per share, which on an annualized basis would be equal to $0.72 per share or
12.0% of the Offering Price. The first distribution will cover the period from
the closing of the Offering to March 31, 1999. The Company does not expect to
change its forecasted initial distribution per Priority Common Share if the
Underwriter's over-allotment option is exercised.
Distributions made by the Company will be determined by the Trustees and
will depend on a number of factors, including the amount of funds from
operations, the Partnership's financial condition, capital expenditure
requirements for the Company's hotels, the annual distribution requirements
under the REIT provisions of the Code and such other factors as the Trustees
deem relevant. The Company's ability to make distributions will be dependent on
the receipt of distributions from the Partnership and lease payments from the
Lessee with respect to the Initial Hotels. Initially, the Partnership's sole
source of revenue will be rent payments under the Percentage Leases for the
Initial Hotels. The Company must rely on the Lessee to generate sufficient cash
flow from the operation of the Initial Hotels to meet the Lessee's rent
obligations under the Percentage Leases.
During the Priority Period, the holders of the Priority Common Shares
will be entitled to receive, prior to any distributions either to the holders of
the Subordinated Units or to the holders of the Class B Common Shares, the
Priority Distribution (i.e., cumulative dividends in an amount per Priority
Common Share equal to $0.18 per quarter). After the holders of the Priority
Common Shares have received the Priority Distribution, the holders of the
Subordinated Units and the Class B Common Shares will be entitled to receive an
amount per Subordinated Unit or per Class B Common Share equal to the Priority
Distribution paid to the holders of the Priority Common Shares. Thereafter, the
holders of the Priority Common Shares will be entitled to receive any further
distributions on a pro rata basis with the holders of the Subordinated Units and
the Class B Common Shares. As of the closing of the Offering, no Class B Common
Shares will be outstanding. Thus, the Priority Common Shares initially will have
Priority Rights only with respect to the outstanding Subordinated Units. In the
future, the Company may issue additional Priority Common Shares, and the
Partnership may issue Units that are not subordinated to the Priority Common
Shares. See "Description of Shares of Beneficial Interest" and "Partnership
Agreement."
The hotel business is seasonal in nature and, therefore, revenues of the
Initial Hotels in the first and fourth quarters are traditionally lower than
those in the second and third quarters. The Company believes that it will be
able to make its forecasted distributions for the first and fourth quarters of
its initial year of operation by drawing on the Line of Credit to fund any
shortfalls between cash available for distribution to common shareholders for
those quarters and the forecasted quarterly distributions for those quarters.
See "Risk Factors--Risk of Leverage" and "--Dependence Upon External Financing."
Thereafter, the Company expects to use excess cash flow from the second and
third quarters to fund any such shortfalls in the first and fourth quarters.
There are no assurances that cash available for distribution to the common
shareholders will be sufficient for the Company to make forecasted distributions
to common shareholders.
Based on the Company's forecasted statement of operations for the twelve
months ending January 31, 2000, the Company estimates that 16% of the forecasted
initial annual distribution to the holders of Priority Common Shares will
represent a return of capital for federal income tax purposes. If actual funds
from operations or taxable income vary from the forecasted amounts, the
percentage of distributions that will represent a return of capital may vary
substantially. For a discussion of the tax treatment of distributions to the
holders of Priority Common Shares, see "Federal Income Tax Consequences." In
order to qualify to be taxed as a REIT, the Company must make annual
distributions to shareholders of at least 95% of its REIT taxable income
(determined by excluding any net capital gain). Under certain circumstances, the
Company may be required to make distributions in excess of cash available for
distribution in order to meet such distribution requirements. In such a case,
the Company may find it necessary to arrange for short-term (or possibly
long-term) borrowings, to sell assets or to raise funds through the issuance of
additional shares of beneficial interest.
The following table describes the Company's calculation of forecasted
cash available for distribution and forecasted initial distributions to holders
of the Priority Common Shares for the twelve months ending January 31, 2000. The
Company's calculation of forecasted cash available for distribution is being
made solely for the purpose of calculating the forecasted initial distribution
to the Priority Common Shares and is not intended to be a forecast of the
31
<PAGE>
Company's results of operations or its liquidity, nor is the methodology upon
which such computations were made necessarily intended to be a basis for
determining future distributions. The actual return that the Company will
realize and the actual amount of cash that will be available for distribution
will be affected by a number of factors, including the revenues of the Initial
Hotels, the lease revenue received by the Company, the debt service payments on
the Company's borrowings, the real estate and personal property taxes incurred
by the Company, the property and casualty insurance premiums incurred by the
Company, the general and administrative expenses of the Company, the ground
lease payments made by the Company, and the capital expenditures incurred by the
Company. No assurance can be given that the Company's forecast will prove
accurate. See "Risk Factors--Forecasted Statement of Operations."
<TABLE>
<CAPTION>
Twelve Months Ending
January 31, 2000
(In thousands)
--------------------
<S> <C>
Forecasted net income applicable to
holders of Priority Common Shares (1) ................................ $1,112
Add: Forecasted depreciation and amortization, net of minority interest (2) 658
------
Forecasted funds from operations applicable to
holders of Priority Common Shares (3) ................................ 1,770
Forecasted cash provided by operating activities applicable to
holders of Priority Common Shares (4) ................................ 1,770
Subtract: Forecasted cash used in investing activities:
Forecasted additions to capital expenditure reserves,
net of minority interest (5) ......................................... 268
Subtract: Forecasted cash used in financing activities:
Forecasted principal payments on debt, net of
minority interest (6) ................................................ 182
------
Forecasted cash available for distribution to holders of
Priority Common Shares ............................................... 1,320
Forecasted cash available for distribution to holders of
Subordinated Units (7) ................................................ 1,971
Forecasted initial distribution (8) ........................................ 1,320
Forecasted dividend yield based on Offering Price (9) ...................... 12%
</TABLE>
- -------------------------
(1) See the Company's Forecasted Statement of Operations. The Company's
computation of forecasted net income applicable to holders of Priority
Common Shares is based on the assumptions and limitations set forth in the
Company's Forecasted Statement of Operations.
(2) Forecasted depreciation and amortization, net of minority interest, is
computed as follows:
Forecasted depreciation and amortization............... $ 2,081
Subtract: Minority interest in forecasted
depreciation and amortization (68.38%).............. 1,423
-----
Forecasted depreciation and amortization, net of
minority interest $ 658
(3) In accordance with the resolution adopted by the Board of Governors of the
National Association of Real Estate Investment Trusts ("NAREIT"), funds
from operations represents net income (computed in accordance with
generally accepted accounting principles), excluding gains (or losses)
from debt restructuring and sales of property, plus depreciation and
amortization, and after adjustments for unconsolidated partnerships and
joint ventures. Funds from operations should not be considered an
alternative to net income or other measurements under generally accepted
32
<PAGE>
accounting principles as an indicator of operating performance or to cash
flows from operating, investing or financing activities as a measure of
liquidity. The Company considers funds from operations to be an
appropriate measure of the performance of an equity REIT in that such
calculation is a measure used by the Company to measure its performance
against its peer group and is a basis for making the determination as to
the allocation of its resources and reflects the Company's ability to meet
general operating expenses. Although funds from operations has been
computed in accordance with the NAREIT definition, funds from operations
as presented may not be comparable to other similarly-titled measures used
by other REITs. Funds from operations does not reflect working capital
changes, cash expenditures for capital improvements or debt service with
respect to the Initial Hotels and, therefore, does not represent cash
available for distribution to the shareholders of the Company.
(4) Excludes cash provided by (used in) operating activities due to changes in
working capital. The Company does not believe that the excluded items are
material to the forecasted cash available for distribution.
(5) Under the Percentage Leases, the Company has an obligation to pay the
costs of certain capital improvements and to make available to the Lessee
certain amounts for the replacement or refurbishment of furniture,
fixtures and equipment at the Initial Hotels. The Company anticipates that
cash flow from operations, borrowing capacity and reserves will be
sufficient to fund such obligation. Forecasted additions to capital
expenditure reserves, net of minority interest, is computed as follows:
Management's estimate of additions to capital expenditure
reserves........................................... $847
Subtract: Minority interest in forecasted additions
to capital expenditure reserves (68.38%)............ 579
---
Forecasted additions to capital expenditure reserves,
net of minority interest............................ $268
(6) Computed as follows:
Management's estimate of principal payments on debt.... $575
Subtract: Minority interest in forecasted
principal payments on debt (68.38%)................. 393
---
Forecasted principal payments on debt, net of
minority interest................................... $182
(7) Computed as follows:
Forecasted distributable cash (see Forecasted Statement
of Operations)..................................... $3,291
Subtract: Forecasted cash available for distribution to
holder of Priority Common Shares.................... 1,320
-----
Forecasted cash available for distribution to
holders of Subordinated Units....................... $1,971
As a result, based on the 3,964,108 Subordinated Units estimated to be
outstanding upon completion of the Formation Transactions, the holders of
the Subordinated Units would be entitled to a distribution of
approximately $.50 per Subordinated Unit.
(8) Represents forecasted initial annual distribution per Priority Common
Share ($0.72) multiplied by the 1,833,334 Priority Common Shares to be
outstanding upon completion of the Offering. The information contained
herein assumes that none of the 166,666 Priority Common Shares offered to
the Hersha Affiliates are sold. If the 166,666 Priority Common Shares are
sold, the forecasted initial annual distribution would be $1,440,000 and
the forecasted amount available for distribution to holders of
Subordinated Units would be $1,851,000, or approximately $.47 per
Subordinated Unit. The proceeds from the sale of such shares would be used
for working capital.
(9) Represents forecasted initial annual distribution per Priority Common
Share ($0.72) divided by Offering Price ($6.00).
33
<PAGE>
PRO FORMA CAPITALIZATION
The following table sets forth the pro forma short-term debt and
capitalization of the Company as of September 30, 1998, as adjusted to give
effect to the sale on such date by the Company of the Priority Common Shares in
the Offering and the use of the net proceeds therefrom as described under "Use
of Proceeds."
Pro Forma
September 30, 1998
(In thousands)
Mortgage debt................................................ $17,400
Minority interest............................................ $18,355
Shareholders' Equity:
Preferred Shares, $.01 par value,
10,000,000 shares authorized,
no shares issued and outstanding.......................... --
Common Shares, $.01 par value,
50,000,000 Priority Class A Common
Shares and 50,000,000 Class B Common
Shares authorized, 1,833,334
Priority Class A Common Shares
issued and outstanding(1)................................. 18
Additional paid-in capital.................................. 8,470
-------
Total shareholders' equity.............................. $ 8,488
-------
Total capitalization................................. $44,243
=======
- ---------------------
(1) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates,
approximately 4 million Class B Common Shares issuable upon redemption of
Subordinated Units issued in the Formation Transactions, 183,333 Priority
Common Shares issuable upon exercise of the Underwriter Warrants, 250,000
Class B Common Shares issuable upon the redemption of 250,000 Units
issuable upon exercise of the Hersha Warrants, 650,000 Class B Common
Shares reserved for issuance pursuant to the Option Plan and 200,000 Class
B Common Shares reserved for issuance pursuant to the Trustees' Plan. The
Class B Common Shares will be converted into Priority Common Share on a
one-for-one basis at a future date. See "Description of Shares of
Beneficial Interest--Class B Common Shares," "Formation Transactions,"
"Management--The Option Plan" and "Underwriting."
34
<PAGE>
DILUTION
At September 30, 1998, the Offering Price exceeded the pro forma net
tangible book value per Priority Common Share. The pro forma net tangible book
value prior to the Offering represents the owners' equity from the Selling
Entities Combined Balance Sheet of $6,475,000 less intangible assets of
$1,382,000 resulting in $5,093,000 or $1.28 per share based upon approximately
3.96 million Subordinated Units issuable in the Formation Transactions.
Therefore, the holders of Subordinated Units issued in connection with the
Formation Transactions will realize an immediate increase in the net book value
of their Subordinated Units, while purchasers of Priority Common Shares in the
Offering will realize an immediate dilution in the net book value of their
Priority Common Shares. The pro forma net tangible book value after the Offering
is based upon the pro forma consolidated shareholders' equity of $8,488,000 less
intangibles of $1,404,000 (included in the pro forma financial statements
included herein) resulting in pro forma book value of $7,084,000 or $3.86 per
share based on 1,833,334 shares outstanding immediately following the Offering.
<TABLE>
<S> <C> <C>
Assumed initial public offering price per share(1)............. $ 6.00
Pro forma tangible net book value per share prior to
the Offering .......................................... $ 1.28
Increase attributable to purchase of Priority Common Share 2.58
------
Pro forma net tangible book value per share after the Offering 3.86
------
Dilution per share............................................. $ 2.14
======
</TABLE>
- ----------
(1) Before deducting underwriting discounts and estimated expenses of the
Offering.
The following table sets forth the number of Priority Common Shares to be
sold by the Company in the Offering, the total contributions to be paid to the
Company by purchasers of Priority Common Shares in the Offering (assuming an
Offering Price of $6.00 per share), the number of Priority Common Shares and
Subordinated Units previously outstanding or to be issued in connection with the
Formation Transactions, the net tangible book value as of September 30, 1998 of
the assets contributed to the Company and the Partnership and the net tangible
book value of the average contribution per Priority Common Share and
Subordinated Unit based on total contributions.
<TABLE>
<CAPTION>
Purchase Price/
Shares Issued by the Company Book Value of Total Purchase Price/
and Units Issued by the Tangible Contributions to Tangible Book
Partnership (1) the Company (1) Value of Contribution Per
Number Percent Amount Percent Priority Share/Unit (1)
--------- ------- -------- -------- -------------------------
(in thousands)
<S> <C> <C> <C> <C> <C>
Priority Common Shares Issued to the Under-
writer by the Company in the Offering 1,833,334 31.62% $11,000 68.35% $6.00
Subordinated Units Issued by the Partner-
ship in the Formation Transactions 3,964,108 68.38% $ 5,093 31.65% $1.28
--------- ------- ------- -------
Total Priority Common Shares and
Subordinated Units...................... 5,797,442 100.00% $16,093 100.00%
========= ======= ======= =======
</TABLE>
(1) Does not include 166,666 Priority Common Shares offered to the Hersha
Affiliates.
35
<PAGE>
SELECTED FINANCIAL INFORMATION
The following tables set forth: (i) unaudited summary forecasted statement
of operations data for the Company for the twelve months ending January 31,
2000, (ii) unaudited summary historical and pro forma balance sheet data for the
Company at September 30, 1998; (iii) unaudited pro forma condensed combined
statement of operations for the Lessee for the nine months ended September 30,
1998 and for the year ended December 31, 1997; and (iv) summary combined
historical operating and financial data for the Combined Entities--Initial
Hotels for each of the years in the three-year period ended December 31, 1997.
The summary combined historical operating and financial data for the Combined
Entities--Initial Hotels for the three years ended December 31, 1997, have been
derived from the historical combined financial statements of the Combined
Entities--Initial Hotels audited by Moore Stephens, P.C., independent public
accountants, whose report with respect thereto is included elsewhere in this
Prospectus. In the opinion of management, the unaudited financial statements
include all adjustments (consisting only of normal recurring adjustments)
necessary to present fairly the information set forth therein. A pro forma
statement of operations for the Company is not presented because the Company has
had no historical operations as a hotel lessor.
The forecasted statement of operations data for the Company is presented
as if the Formation Transactions had occurred on February 1, 1999 and therefore
incorporates certain assumptions that are set forth in the Company's Forecasted
Statement of Operations included elsewhere in this Prospectus. See "Risk
Factors--Forecasted Statement of Operations." The balance sheet data is
presented as if the Formation Transactions had occurred on September 30, 1998.
The pro forma condensed combined statement of operations for the Lessee are
presented as if the Formation Transactions had occurred as of January 1, 1997
and carried forward through each interim period presented, and therefore
incorporates certain assumptions that are included in the Notes to the Pro Forma
Condensed Combined Statement of Operations included elsewhere in this
Prospectus. The pro forma information does not purport to represent what the
Company's financial position or the Company's or the Combined Entities--Initial
Hotels' results of operations would actually have been if the Formation
Transactions had, in fact, occurred on such date or at the beginning of the year
indicated, or to project the Company's or the Combined Entities--Initial Hotels'
financial position or results of operations at any future date or for any future
period.
The following selected financial information should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and all of the financial statements and notes thereto included
elsewhere in this Prospectus.
Hersha Hospitality Trust
Unaudited Summary Statement of Operations
and Balance Sheet Data
(In thousands, except share and per share amounts)
Forecasted Twelve
Months Ending
January 31, 2000
-----------------
Statement of Operations Data:
Lease revenue................................... 7,175
Expenses........................................ (4,543)
Net income before minority interest............. 2,632
Minority interest............................... (1,520)
Net income...................................... 1,112
Net income per Priority Common Share............ 0.61
Weighted average number of
Priority Common Shares outstanding............ 1,833,334
36
<PAGE>
September 30, 1998
Historical Pro Forma
Balance Sheet Data:
Net investment in hotel properties.............. -- $ 40,489
Minority interest in Partnership................ -- $ 18,355
Shareholders' equity............................ -- $ 8,488
Total assets.................................... -- $ 44,243
Total debt...................................... -- $ 17,400
Hersha Hospitality Management, L.P.
Unaudited Pro Forma Condensed Combined Statements of Operations(1)
(In thousands)
<TABLE>
<CAPTION>
Nine Months Ended Year Ended
September 30, 1998 December 31, 1997
------------------ -----------------
<S> <C> <C>
Room revenue.................................... $ 11,824 $10,880
Other revenue (2)............................... 2,111 2,565
-------- -------
Total revenue................................... $ 13,935 $13,445
-------- -------
Hotel operating expenses (3).................... 8,506 9,214
Percentage Lease payments (4)................... 5,108 5,129
----- -------
Net income (loss) (5)........................... $ 321 $ (898)
========= ========
</TABLE>
Combined Entities - Initial Hotels
Summary Combined Historical Operating and Financial Data
(In thousands)
Nine Months Ended
September 30 Year Ended December 31
------------------ ----------------------------
1998 1997 1997 1996 1995
---- ---- ---- ---- ----
Statement of Operations
Data:
Room revenue $11,824 $7,750 $10,880 $7,273 $5,262
Other revenue (2) 2,111 1,942 2,565 2,716 1,957
------- ------- ------- ------ ------
Total revenue $13,935 $9,692 $13,445 $9,989 $7,219
Hotel operating expenses (3) 8,839 6,510 9,173 8,172 6,250
Interest 1,497 831 1,354 921 634
Depreciation and amortization 1,161 799 1,189 924 711
------- ------- ------- ------ ------
Net income (loss) (5) $2,438 $1,552 $1,729 $ (28) $ (376)
====== ====== ====== ===== =======
- -------------------------
(1) The estimated information does not purport to represent what the Lessee's
financial position or results of operations would actually have been if
consummation of the Formation Transactions had, in fact, occurred on such
date or at the beginning of the periods indicated, or to project the
Lessee's financial position or results of operations at any future date or
for any future period. Represents pro forma revenue and expenses as if (i)
the Partnership recorded depreciation and amortization, paid interest on
remaining debt after the Formation Transactions occurred, and paid real
and personal property taxes and property insurance as contemplated by the
Percentage Leases, and (ii) the Formation Transactions occurred as of the
beginning of the periods indicated.
(2) Represents restaurant revenue, telephone revenue and other revenue.
37
<PAGE>
(3) Represents departmental costs and expenses, general and administrative,
repairs and maintenance, utilities, marketing, management fees, real
estate and personal property taxes, property and casualty insurance and
ground leases. The pro forma amounts exclude real estate and personal
property taxes, property and casualty insurance, ground leases and
management fees. Real estate and personal property taxes, property and
casualty insurance and ground leases are the responsibility of the
Partnership under the Percentage Leases.
(4) Represents lease payments calculated on a pro forma basis using the rent
provisions in the Percentage Leases. The rent provisions in the Percentage
Leases are based upon an agreement between the Partnership and the Lessee
in which the parties have agreed to the lease terms and the form of lease
to be signed at the closing of the Offering. Lease payments are calculated
under two methods depending upon whether the Initial Hotel is a Stabilized
Hotel with an established operating history or a Newly-Developed Hotel or
a Newly-Renovated Hotel. The Rents for the Stabilized Hotels are
calculated by applying the percentage rent formulas to the historical room
revenues and other revenues of those hotels for the periods presented.
Because the Newly-Developed Hotels and the Newly-Renovated Hotels pay
Initial Fixed Rent for at least the first twelve months of operation, the
Rent for those hotels is based on the Initial Fixed Rents, recognized on a
straight-line basis over the period presented. In the case of the
Newly-Developed Hotels, the Initial Fixed Rents have been prorated for the
periods the hotels were in operation because the hotels have not been in
operation for the full periods presented.
(5) The Combined Entities are not subject to income tax, except Hersha
Enterprises, Ltd., which had no tax liability for the periods presented.
38
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Overview
Upon consummation of the Formation Transactions, the Company will own
approximately a 32% general partnership interest in the Partnership. In order
for the Company to qualify as a REIT, neither the Company nor the Partnership
may operate hotels. Therefore, the Initial Hotels will be leased to the Lessee.
The Partnership's, and therefore the Company's, principal source of revenue will
be Rent paid by the Lessee under the Percentage Leases. See "Business and
Properties--The Percentage Leases." The Lessee's ability to perform its
obligations, including making Rent payments to the Partnership under the
Percentage Leases, will be dependent on the Lessee's ability to generate
sufficient room revenues and net cash flow from the operation of the Initial
Hotels, and any other hotels leased to the Lessee.
Results of Operations of the Initial Hotels
Comparison of Nine Months Ended September 30, 1998 to the Nine Months
Ended September 30, 1997
Room revenue for the Initial Hotels increased $4,074,000 or 53% to
$11,824,000 for the first nine months of 1998 from $7,750,000 in the comparable
period in 1997. This increase came through an addition of 82,980 available
room-nights with an overall increase of 59,039 room-nights sold. The increase in
room-nights available was a result of the opening of three hotels, which were
not opened as of September 30, 1997. In addition, there was a 2% increase in ADR
to $66.95 from $65.92. REVPAR increased 6% to $43.82 from $41.48.
Hotel operating expenses increased by $2,233,000 to $8,533,000, but
decreased as a percentage of total revenue to 61% from 65%. Operating income
before interest expense, depreciation and amortization increased by 61% to
$5,472,000 from $3,392,000.
Comparison of year ended December 31, 1997 to year ended December 31, 1996
Room revenue increased by $3,607,000 or 50% to $10,880,000 in 1997 from
$7,273,000 in 1996. The increase in revenue came through the addition of four
new hotels opening in 1997 and one hotel which was only open during half of 1996
being open for the entire 1997 period. These new properties added additional
available room-nights of 43,171. In addition, a 7% increase in occupancy to 60%
from 53% in 1996 as well as a 9% increase in ADR to $69.31 compared to $63.51 in
1996 augmented the available room-nights. REVPAR increased 25% to $41.78 from
$33.48.
Hotel operating expenses increased by $1,001,000 or 12% to $9,173,000 but
decreased as a percentage of total revenue to 68% from 82%. Operating income
before interest expense, depreciation and amortization increased by 135% to
$4,272,000 from $1,817,000.
Comparison of year ended December 31, 1996 to year ended December 31, 1995
Room revenue increased $2,011,000 or 38% to $7,273,000 in 1996 from
$5,262,000 in 1995. The increase in revenue came through the opening of two
hotels in 1996 adding additional room-nights available of 41,168. In addition,
an overall increase in occupancy of 10% to 53% from 48% in 1995 as well as a 2%
increase in ADR to $63.51 compared to $62.40 in 1995 augmented the available
room-nights. REVPAR increased 12% to $33.48 from $29.89.
Hotel operating expenses increased by $1,922,000 or 31% to $8,172,000 but
decreased as a percentage of total revenue to 82% from 87%. Operating income
before interest expense, depreciation and amortization increased by 87% to
$1,817,000 from $969,000.
Liquidity and Capital Resources
The Company expects to meet its short-term liquidity requirement generally
through net cash provided by operations, existing cash balances and, if
necessary, short-term borrowings under the Line of Credit. The Company believes
that its net cash provided by operations will be adequate to fund both operating
39
<PAGE>
requirements and payment of dividends by the Company in accordance with REIT
requirements. The Company expects to meet its long-term liquidity requirements,
such as scheduled debt maturities and property acquisitions, through long-term
secured and unsecured borrowings, the issuance of additional equity securities
of the Company or, in connection with acquisitions of hotel properties, issuance
of Units.
The Company is currently pursuing with various lenders a $10 million Line
of Credit. The Line of Credit will be used to fund future acquisitions and for
working capital. A failure to obtain the Line of Credit could adversely affect
the Company's ability to finance its growth strategy. See "Risk
Factors-Dependence Upon External Financing." The Line of Credit may be secured
by certain of the Initial Hotels. The Company in the future may seek to increase
the amount of the Line of Credit, negotiate additional credit facilities or
issue corporate debt instruments. Any debt incurred or issued by the Company may
be secured or unsecured, long-term or short-term, fixed or variable interest
rate and may be subject to such other terms as the Trustees deem prudent.
The Trustees will adopt the Debt Policy that limits consolidated
indebtedness of the Company to less than 67% of the aggregate purchase prices
paid by the Company for the hotels in which it has invested. However, the
Company's organizational documents do not limit the amount of indebtedness that
the Company may incur and the Trustees may modify the Debt Policy at any time
without shareholder approval. The Company intends to repay indebtedness incurred
under the Line of Credit from time to time, for acquisitions or otherwise, out
of cash flow and from the proceeds of issuances of Priority Common Shares and
other securities of the Company. See "Risk Factors-Risks of Leverage" and
"Policies and Objectives with Respect to Certain Activities-Investment Policies"
and "-Financing."
The Company will invest in additional hotels only as suitable
opportunities arise. The Company will not undertake investments in such hotels
unless adequate sources of financing are available. The Bylaws require the
approval of a majority of the Trustees, including a majority of the Independent
Trustees, to acquire any additional hotel in which a Trustee or officer of the
Company, or any Affiliate thereof, has an interest (other than solely as a
result of his status as a Trustee, officer or shareholder of the Company). It is
expected that future investments in hotels will be dependent on and financed by,
in whole or in part, the proceeds from additional issuances of Priority Common
Shares or other securities or borrowings. Because of the level of the Assumed
Indebtedness, the success of the Company's acquisition strategy will depend
primarily on its ability to access additional capital through issuances of
equity securities. The Company currently has no agreement or understanding to
invest in any hotel other than the Initial Hotels and there can be no assurance
that the Company will make any investments in any other hotels that meet its
investment criteria. See "Growth Strategy--Acquisition Strategy."
Pursuant to the Percentage Leases, the Partnership will be required to
make available to the Lessee 4% (6% for the Holiday Inn, Harrisburg, PA and the
Holiday Inn, Milesburg, PA) of gross revenues per quarter, on a cumulative
basis, for periodic replacement or refurbishment of furniture, fixtures and
equipment at each of the Initial Hotels. The Company believes that a 4% (6% for
the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) percentage
set-aside is a prudent estimate for future capital expenditure requirements. The
Company intends to cause the Partnership to spend amounts in excess of the
obligated amounts if necessary to comply with the reasonable requirements of any
Franchise License and otherwise to the extent that the Company deems such
expenditures to be in the best interests of the Company. The Company will also
be obligated to fund the cost of certain capital improvements to the hotels.
Based on its experience in managing hotels, management of the Company believes
that amounts required to be set aside in the Percentage Leases will be
sufficient to meet required expenditures for furniture, fixtures and equipment
during the term of the Percentage Leases. The Company will use undistributed
cash or borrowings under credit facilities to pay for the cost of capital
improvements and any furniture, fixture and equipment requirements in excess of
the set aside referenced above. See "Business and Properties--The Percentage
Leases."
Inflation
Operators of hotels in general possess the ability to adjust room rates
quickly. However, competitive pressures may limit the Lessee's ability to raise
room rates in the face of inflation, and annual increases in ADR have failed to
keep pace with inflation.
Seasonality
The Initial Hotels' operations historically have been seasonal in nature,
reflecting higher occupancy rates during the second and third quarters. This
seasonality can be expected to cause fluctuations in the Company's quarterly
lease revenue to the extent that it receives Percentage Rent.
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<PAGE>
Year 2000 Compliance
Many computer systems were designed using only two digits to designate
years. These systems may not be able to distinguish the year 2000 from the year
1900. Like other organizations, the Company could be adversely affected if the
computer systems used by it or its service providers do not properly address
this problem prior to January 1, 2000. Currently, the Company does not
anticipate that the transition to the year 2000 will have any material impact on
its performance. The Company's plan to respond to the Year 2000 Problem consists
of three phases that address the state of readiness, Year 2000 costs, risks and
contingency plans.
Phase I includes a plan to respond to the Year 2000 Problem, which
includes the following areas (the "Focus Areas"): (i) telephone and call
accounting systems; (ii) credit card readers; (iii) sprinkler systems and fire
suppression system; (iv) security systems; (v) card entry systems; (vi) elevator
systems; (vii) computer systems and vendor contracts (hardware); (viii) fax
machines and laundry equipment; (ix) HVAC (heating and air conditioning systems)
and utility companies; and (x) computer software systems. The Company has
created a task force and procedures to survey, test and report results for
management's review. The Company believes that the cost to remediate its Year
2000 problems will be minimal and has allocated funds of $25,000 to cover such
costs. The Holiday Inn hotel and conference center, Harrisburg, PA has been used
as an example for the other Initial Hotels. This hotel was reviewed for Year
2000 compliance, and the review resulted in hardware and software compliance.
The credit card readers, card entry system and computers have been tested and
are compliant. Based on the results experienced for the Holiday Inn hotel and
conference center, Harrisburg, PA, management believes that the $25,000
allocation for funding will be adequate.
The Company is currently proceeding with Phase II of its assessment of the
Year 2000 Problem. Phase II involves initiating a survey and checklist to each
hotel manager for completion and return to management. The survey was customized
for the Initial Hotels to include (i) the current vendor list with a column for
a listing of current product usage and (ii) a vendor address log and telephone
number listing. Each hotel checklist included the front desk, business center,
housekeeping/back office, beverage and guest rooms. Phase II also involves the
testing of the Company's computer systems. A test computer disk-copy was sent to
the Company for reproduction to test each computer in the Company. All written
tests and written confirmation that relate to the Initial Hotel products,
equipment and software are logged to monitor the Company's progress towards Year
2000 compliance. The Company is in the process of conducting such testing and
has yet to encounter any material Year 2000 compliance problems.
Phase III of the Company's assessment of the Year 2000 Problem includes
the results of testing, action plans, reporting of results and contingency plans
to remediate any Year 2000 Problems. The risks and contingency plans include a
"reasonably likely worst case Year 2000 scenario." The Company believes that the
consequences of a worst case scenario rest almost exclusively with outside
vendors and not in systems within the Initial Hotels. The contingency plan,
which the Company is currently initiating, is to replace non-compliant vendors
with new compliant vendors. A thorough review of all vendors will continue to be
an ongoing Year 2000 strategy for the Company. However, the Company's
contingency plan has back-up support to address each of the Focus Areas.
The franchisors of the Initial Hotels have provided compliance guides to
assist in the Company's response to the Year 2000 Problem. Promus Hotel
Corporation (Hampton Inn Hotels), Holiday Hospitality/Bass Hotels & Resorts
(Holiday Inn and Holiday Inn Express Hotels) and Choice Hotels International
(Comfort Inn and Clarion Suites Hotels) have completed third party vendor
checks, reviewed computer systems and provided for reference a preferred
compliant vendor list. A checklist for Year 2000 issues, a work plan and a
sample vendor letter was provided to help the Company complete its assessment of
the Year 2000 Problem.
The Company is in the process of mailing a questionnaire to third party
vendors to assess third party risks. The results of this risk assessment will be
completed by March 31, 1999. In addition, the Company has sought assurances from
the Lessee and other service providers that they are taking all necessary steps
to ensure that their computer systems will accurately reflect the year 2000, and
the Company will continue to monitor the situation. There can be no assurance
that the systems of such third parties will be Year 2000 compliant or that any
third party's failure to have Year 2000 compliant systems would not have a
material adverse effect on the Company's systems and operations.
41
<PAGE>
BUSINESS AND PROPERTIES
The Initial Hotels
Set forth below is certain descriptive information regarding the Initial
Hotels, each of which is currently managed by a Hersha Affiliate and owned by a
partnership in which one or more of the Hersha Affiliates own interests.
Holiday Inn Express (Riverfront), Harrisburg, Pennsylvania
Description. The Holiday Inn Express Riverfront, Harrisburg, Pennsylvania,
is located at 525 South Front Street. The hotel was opened in 1968, was
purchased in 1984 and was fully renovated in 1996. It is a 117-room, limited
service hotel with non-smoking units available with an adjacent restaurant and
lounge. Amenities include a fitness center and adjacent banquet and meeting
facilities with a 200-person capacity.
Guest Profile and Local Competition. Approximately 25% of the hotel's
business is related to business from the Commonwealth of Pennsylvania. The
remainder of the hotel's business consists of tourists, overnight travelers and
people visiting local residents. The Company considers its primary competition
to be the Ramada Hotel on Second Street in Harrisburg, Pennsylvania.
Holiday Inn Express, Hershey, Pennsylvania
Description. The Holiday Inn Express, Hershey, Pennsylvania is located on
Walton Avenue, one and one half miles from Hershey Park. The hotel, which opened
in October 1997, is an 85-room limited service hotel. Amenities include an
indoor pool, hot tub, fitness center, business service center, meeting facility,
complimentary continental breakfast and 24-hour coffee. All rooms have one king
bed or two queen beds and some rooms have refrigerators, coffee makers and
microwaves.
Guest Profile and Local Competition. Approximately 30% of the hotel's
business is related to commercial activity from local business. The hotel's
group business, which accounts for approximately 5% of its business, is
generated from area institutions, local weddings and local social and sporting
events. The remainder of the hotel's business consists of transient guests,
visitors to area residents and demand generated by the hotel's proximity to
Hershey Park. The Company considers its primary competition to be the Comfort
Inn in Hershey, Pennsylvania.
Holiday Inn Express, New Columbia, Pennsylvania
Description. The Holiday Inn Express, New Columbia, Pennsylvania is
located at the intersection of Interstate 80 and Route 15. The hotel, which
opened in December 1997, is an 81-room limited service hotel. Amenities include
an indoor pool, hot tub, fitness center, meeting facility, complimentary
continental breakfast and 24-hour coffee. All rooms have one king bed or two
queen beds, some Jacuzzi suites are available and some rooms have refrigerators,
coffee makers and microwaves. The Holiday Inn Express in New Columbia,
Pennsylvania was ranked number one in its region for GSTS (Guest Satisfaction
Tracking System), for February and March of 1998. This award recognizes the
Holiday Inn Express in New Columbia as the leader in guest satisfaction and
product service out of 32 other Holiday Inns and Holiday Inns Express in the
Eastern region.
Guest Profile and Local Competition. Approximately 80% of the hotel's
business is related to commercial activity from local business. As a result of
its proximity to ski resorts and nearby tourist attractions, recreational
travelers generate approximately 10% of the hotel's business. The remainder of
the hotel's business consists of overnight travelers and visitors to area
residents. The Company considers its primary competition to be the Comfort Inn
in New Columbia, Pennsylvania.
Hampton Inn, Carlisle, Pennsylvania
Description. The Hampton Inn, Carlisle, Pennsylvania is located at the
intersection of Route 11 and exit 16 off the Pennsylvania Turnpike. The hotel,
which opened in June 1997, is a 95-room limited service hotel. Amenities include
an indoor pool, hot tub, fitness center, meeting facilities, complimentary
continental breakfast and 24-hour coffee. All rooms have one king bed or two
queen beds, some Jacuzzi suites are available and some rooms have refrigerators,
coffee makers and microwaves.
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<PAGE>
Guest Profile and Local Competition. Approximately 50% of the hotel's
business is related to commercial activity from local businesses. The remainder
of the hotel's business consists of overnight travelers and general demand
generated by the hotel's proximity to the Carlisle Fairgrounds and the Army War
College. The Company considers its primary competition to be the Holiday Inn in
Carlisle, Pennsylvania.
Hampton Inn, Selinsgrove, Pennsylvania
Description. The Hampton Inn, Selinsgrove, Pennsylvania is located on
Pennsylvania Routes 11 and 15. The hotel, which opened in September 1996, is a
75-room, three story, limited service hotel. Amenities include an indoor pool,
hot tub, fitness center, meeting facilities, complimentary continental breakfast
and 24-hour coffee. All rooms have one king bed or two queen beds, some Jacuzzi
suites are available and some rooms have refrigerators, coffee makers and
microwaves. The Hampton Inn in Selinsgrove was recently named one of the top
hotels in the entire Hampton Inn system, receiving the hotel chain's Circle of
Excellence Award. The award recognizes superior quality and guest satisfaction
and is the highest distinction a Hampton Inn hotel can receive.
Guest Profile and Local Competition. Approximately 80% of the hotel's
business is related to commercial activity from local businesses. The remainder
of the hotel's business consists of pleasure travelers, transient guests and
demand generated by the hotel's proximity to area universities and Knoebels
Amusement Park. The Company considers its primary competition to be the Best
Western near Selinsgrove, Pennsylvania.
Holiday Inn Hotel and Conference Center, Harrisburg, Pennsylvania
Description. The Holiday Inn Hotel and Conference Center, Harrisburg,
Pennsylvania is located at the intersection of the Pennsylvania Turnpike exit 18
and Interstate 83, ten minutes from downtown, Harrisburg International Airport
and Hershey Park. The hotel opened in 1970 as a Sheraton Inn and was converted
to a Ramada Inn in 1984. It was completely renovated and converted to a Holiday
Inn in September 1995. This hotel has 196 deluxe guest units and is a full
service hotel, including a full service restaurant as well as a nightclub.
Amenities include an indoor tropical courtyard with a pool and Jacuzzi as well
as a banquet and conference facility for up to 700 people.
Guest Profile and Local Competition. Approximately 40% of the hotel's
business is related to commercial activity from local businesses. The remainder
of the hotel's business consists of overnight travelers visiting Hershey and
Harrisburg. The Company considers its primary competition to be the Radisson
Penn Harris in Camp Hill, Pennsylvania.
Holiday Inn, Milesburg, Pennsylvania
Description. The Holiday Inn, Milesburg/State College, Pennsylvania is
located at Exit 23, I-80 and US 50 North. The hotel opened in 1977 as a Sheraton
and was completely renovated in 1992. In 1996, the hotel was converted into a
Holiday Inn. It is a 118-room, full service hotel with a full service restaurant
and cocktail lounge. Amenities include an outdoor pool as well as banquet and
meeting facilities for 220 people.
Guest Profile and Local Competition. Approximately 20% of the hotel's
business is related to commercial activity from local businesses and demand
generated by local businesses. Approximately 80% of the hotel's business
consists of leisure travelers visiting the many tourist attractions around State
College and I-80. The Company considers its primary competition to be the Best
Western in Milesburg, Pennsylvania.
Comfort Inn, Denver, Pennsylvania
Description. The Comfort Inn, Denver, Pennsylvania is located at 2015
North Reading Road. This 45-room limited service hotel was constructed in 1990
and renovated in 1995. All rooms have one king bed or two queen beds and
non-smoking units are available. Amenities include hairdryers in all rooms, a
fitness center and a complimentary continental breakfast.
Guest Profile and Local Competition. Approximately 75% of the hotel's
business is comprised of leisure travelers and transient guests related to its
location at the crossroads of two major interstate highways. The remainder of
the hotel's business is due to commercial activity from local businesses and
people visiting area residents. The Company considers its primary competition to
be the Holiday Inn in Denver, Pennsylvania.
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<PAGE>
Comfort Inn, Harrisburg, Pennsylvania
Description. The Comfort Inn, Harrisburg, Pennsylvania is located 8 miles
north of Hershey, Pennsylvania at 7744 Linglestown Road off exit 27 of
Interstate 81. The hotel opened in May 1998. It is an 81-room limited service
hotel. Amenities include an indoor pool, hot tub, fitness center, meeting
facilities, complimentary continental breakfast and 24-hour coffee. All rooms
have one king bed or two queen beds and some Jacuzzi suites are available.
Guest Profile and Local Competition. Approximately 25% of the hotel's
business is related to commercial activity from local businesses. The hotel's
group business, which accounts for approximately 5% of its business, is
generated from area institutions, local weddings and local social and sporting
events. The remainder of the hotel's business consists of transient and
recreational travelers generated by its proximity to Hershey, Pennsylvania. The
Company considers its primary competition to be the Holiday Inn in Grantville,
Pennsylvania.
Clarion Suites, Philadelphia, Pennsylvania
Description. The Clarion Suites, Philadelphia, Pennsylvania is located at
1010 Race Street, one half block from the newly-built Philadelphia convention
center and six blocks from the Independence Hall historic district and the
Liberty Bell. The hotel is located in the historic Bentwood Rocking Chair
Company building, which was constructed in 1896 and converted to a Quality
Suites hotel in the 1980s. The hotel was purchased by a Hersha Affiliate as a
Ramada Suites in 1995 and substantially rehabilitated. The Hersha Affiliate
later converted the hotel to a Clarion Suites. The hotel has 96 executive suites
with fully-equipped kitchens and an eight-story interior corridor with Victorian
style architecture. The hotel has a lounge featuring light fare and a comedy
cabaret. Amenities include two large meeting rooms, boardrooms, a fitness room
and a complimentary continental breakfast.
Guest Profile and Local Competition. Approximately 20% of the hotel's
business is comprised of leisure travelers and transient guests related to its
close proximity to the historic district. The remainder of the hotel's business
is due to commercial activity from local businesses and people visiting area
residents. The Company considers its primary competition to be all Center City,
Philadelphia hotels.
The following table sets forth certain information with respect to each
Initial Hotel:
Year Ended December 31,
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
Holiday Inn Express - Harrisburg, PA
Occupancy 56.4% 40.7% 43.2% 44.9% 46.2%
ADR $56.33 $52.77 $48.05 $48.34 $45.72
REVPAR $31.78 $21.50 $20.74 $21.70 $21.13
Holiday Inn Express - Hershey, PA (1)
Occupancy 38.8%
ADR $75.62
REVPAR $29.35
Holiday Inn Express - New Columbia, PA (2)
Occupancy 9.0%
ADR $59.68
REVPAR $5.39
Hampton Inn - Carlisle, PA (3)
Occupancy 53.5%
ADR $65.33
REVPAR $34.93
Hampton Inn - Selinsgrove, PA (4)
Occupancy 71.9% 50.1%
ADR $65.29 $60.76
REVPAR $46.96 $30.43
Holiday Inn Hotel and Conference
Center - Harrisburg, PA (5)
Occupancy 63.3% 58.9% 46.2%
ADR $68.22 $61.36 $56.97
REVPAR $43.17 $36.13 $26.31
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Holiday Inn - Milesburg, PA
Occupancy 52.0% 48.4% 51.0% 55.3% 56.9%
ADR $56.07 $52.31 $51.59 $48.64 $42.27
REVPAR $29.13 $25.31 $26.29 $26.88 $24.02
Comfort Inn - Denver, PA
Occupancy 54.7% 53.5% 60.4% 60.4% 59.6%
ADR $73.26 $61.04 $50.68 $49.72 $48.79
REVPAR $40.08 $32.63 $30.60 $30.01 $29.06
Comfort Inn - Harrisburg, PA (6)
Occupancy
ADR
REVPAR
Clarion Suites, Philadelphia, PA
Occupancy 73.7% 60.2%
ADR $91.02 $86.10
REVPAR $67.09 $51.83
- ---------------
(1) This hotel opened in October 1997 and, thus, the data shown represent
approximately three months of operations.
(2) This hotel opened in December 1997 and, thus, the data shown represent
approximately one month of operations.
(3) This hotel opened in June 1997 and, thus, the data shown represent
approximately seven months of operations.
(4) This hotel opened in September 1996 and, thus, the data shown for 1996
represent approximately four months of operations.
(5) This hotel was converted to a Holiday Inn in September 1995 and, thus, the
data shown for 1995 represent approximately four months of operations.
(6) This hotel opened in May 1998 and, thus, there are no data shown.
The Percentage Leases
The following summary is qualified in its entirety by the Percentage
Leases, the form of which has been filed as an exhibit to the Registration
Statement of which this Prospectus is a part.
The Initial Hotels will be operated by the Lessee pursuant to the
Percentage Leases. The Company intends to lease its future acquired hotels to
operators, including both the Lessee and operators unaffiliated with the Lessee.
Future leases with the Lessee generally will be similar to the Percentage
Leases. Future leases with operators unaffiliated with the Lessee may or may not
be similar to the Percentage Leases. The Trustees will negotiate the terms and
provisions of each future lease, depending on the purchase price paid, economic
conditions and other factors deemed relevant at the time.
Percentage Lease Terms. Each Percentage Lease will have an initial
non-cancelable term of five years. All, but not less than all, of the Percentage
Leases for the Initial Hotels may be extended for an additional five-year term
at the Lessee's option. At the end of the first extended term, the Lessee, at
its option, may extend some or all of the Percentage Leases for the Initial
Hotels for an additional five-year term. The Percentage Leases are subject to
earlier termination upon the occurrence of defaults thereunder and certain other
events described therein (including, particularly, the provisions described
herein under "--Damage to Hotels," "--Condemnation of Hotel" and "--Termination
of Percentage Leases on Disposition of the Initial Hotels").
Amounts Payable Under the Percentage Leases. The Percentage Leases
generally provide for the Lessee to pay in each calendar quarter the greater of
the Base Rent or Percentage Rent. The Percentage Rent for each Initial Hotel is
comprised of (i) a percentage of room revenues up to the Threshold, (ii) a
percentage of room revenues in excess of the Threshold but less than the
Incentive Threshold, (iii) a percentage of room revenues in excess of the
Incentive Threshold and (iv) a percentage of revenues other than room revenues.
The Incentive Threshold is designed to provide an incentive to the Lessee to
generate higher revenues at each hotel. Until the First Adjustment Date or the
Second Adjustment Date, as applicable, the rent on the Newly-Developed Hotels
and the Newly-Renovated Hotels will be the Initial Fixed Rents applicable to
those hotels. After the First Adjustment Date or the Second Adjustment Date, as
applicable, rent will be computed with respect to the Newly-Developed Hotels and
the Newly-Renovated Hotels based on the percentage rent formulas described
herein. The Lessee also will be obligated to pay certain other amounts,
including interest accrued on any late payments or charges (the "Additional
Charges"). Rent is payable quarterly in arrears.
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<PAGE>
The following table sets forth (i) the Initial Fixed Rent, if applicable,
(i) the annual Base Rent and (ii) the Percentage Rent formulas:
<TABLE>
<CAPTION>
Initial Annual Percentage
Initial Hotel Fixed Rent(1) Base Rent(1) Rent Formula
------------- ------------- ------------ -------------
<S> <C> <C> <C>
Newly-Developed
Holiday Inn Express
Hershey, PA...... $794,686 $364,000 42.1% of room revenue up
to $1,479,523, plus 65.0%
of room revenue in excess
of $1,479,523 but less
than $1,740,615, plus
29.0% of room revenue in
excess of $1,740,615,
plus 8.0% of all non-room
revenue.
New Columbia, PA. 498,198 227,500 46.7% of room revenue up
to $850,986, plus 65.0%
of room revenue in excess
of $850,986 but less than
$1,001,160, plus 29.0% of
room revenue in excess of
$1,001,160, plus 8.0% of
all non-room revenue.
Hampton Inn:
Carlisle, PA..... 699,062 325,000 42.3% of room revenue up
to $1,293,906, plus 65.0%
of room revenue in excess
of $1,293,906 but less
than $1,522,242, plus
29.0% of room revenue in
excess of $1,522,242,
plus 8.0% of all non-room
revenue.
Comfort Inn:
Harrisburg, PA... 514,171 234,000 40.7% of room revenue up
to $980,050, plus 65.0%
of room revenue in excess
of $980,050 but less than
$1,153,000, plus 29.0% of
room revenue in excess of
$1,153,000, plus 8.0% of
all non-room revenue.
Newly-Renovated
Holiday Inn Express:
Harrisburg, PA... 504,406 195,000 31.0% of room revenue up
to $1,153,655, plus 65.0%
of room revenue in excess
of $1,153,655 but less
than $1,357,241, plus
29.0% of room revenue in
excess of $1,357,241,
plus 8.0% of all non-room
revenue.
Holiday Inn:
Milesburg, PA.... 524,750 214,500 36.1% of room revenue up
to $1,065,960, plus 65.0%
of room revenue in excess
of $1,065,960 but less
than $1,254,070, plus
31.0% of room revenue in
excess of $1,254,070,
plus 8.0% of all non-room
revenue.
Comfort Inn:
Denver, PA....... 262,234 112,288 35.4% of room revenue
up to $559,542, plus
65.0% of room revenue in
excess of $559,542 but
less than $658,285, plus
29.0% of room revenue in
excess of $658,285, plus
8.0% of all non-room
revenue.
Stabilized
Holiday Inn Hotel
and Conference
Center: n/a 675,921 44.3% of room revenue up
Harrisburg, PA... to $2,638,247, plus 65.0%
of room revenue in
excess of $2,638,247 but
less than $3,103,820, plus
31.0% of room revenue in
excess of $3,103,820, plus
8.0% of all non-room revenue.
</TABLE>
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<PAGE>
<TABLE>
<S> <C> <C> <C>
Hampton Inn:
Selinsgrove, PA.. n/a 308,469 49.0% of room revenue up
to $1,081,152, plus 65.0%
of room revenue in excess
of $1,081,152 but less
than $1,271,943, plus
29.0% of room revenue in
excess of $1,271,943,
plus 8.0% of all non-room
revenue.
Clarion Suites:
Philadelphia, PA. n/a 418,593 36.1% of room revenue up
to $1,998,097, plus 65.0%
of room revenue in excess
of $1,998,097 but less
than $2,350,702, plus
29.0% of room revenue in
excess of $2,350,702,
plus 8.0% of all non-room
revenue.
</TABLE>
(1) The Initial Fixed Rent and Base Rent will accrue pro rata during each
quarter of each lease year. The Lessee, however, will pay the Initial
Fixed Rent and the Base Rent for each calendar quarter in each lease year
based on the ratio of budgeted gross revenues for such calendar quarter to
budgeted gross revenues for such lease year.
Other than real estate and personal property taxes, ground lease rent
(where applicable), the cost of certain furniture, fixtures and equipment, and
certain capital expenditures, and property and casualty insurance premiums, all
of which are obligations of the Company, the Percentage Leases require the
Lessee to pay the operating expenses of the Initial Hotels (including insurance
other than property and casualty insurance, all costs and expenses and all
utility and other charges incurred in the operation of the Initial Hotels)
during the term of the Percentage Leases. The Percentage Leases also provide for
rent reductions and abatements in certain cases in the event of damage or
destruction or a partial taking of any Initial Hotel as described under
"--Damage to Hotels" and "--Condemnation of Hotel."
Maintenance and Modifications. Under the Percentage Leases, the Company
will make available to the Lessee for the replacement and refurbishment of
furniture, fixtures and equipment and other capital improvements determined in
accordance with generally accepted accounting principles in the Initial Hotels,
when and as deemed necessary by the Lessee, an amount equal to 4% (6% for the
Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross
revenues per quarter on a cumulative basis. The Company's obligation will be
carried forward to the extent that the Lessee has not expended such amount, and
any unexpended amounts will remain the property of the Company upon termination
of the Percentage Leases. Other than as described above, the Lessee is
responsible for all repair and maintenance of the Initial Hotels and any capital
improvements to the Initial Hotels.
The Lessee, at its expense, may make non-capital and capital additions,
modifications or improvements to the Initial Hotels, provided that such action
does not significantly alter the character or purposes of the Initial Hotels or
significantly detract from the value or operating efficiencies of the Initial
Hotels. All such alterations, replacements and improvements shall be subject to
all the terms and provisions of the Percentage Leases and will become the
property of the Company upon termination of the Percentage Leases. The Company
will own substantially all personal property (other than inventory, linens and
other nondepreciable personal property) not affixed to, or deemed a part of, the
real estate or improvements on the Initial Hotels, except to the extent that
ownership of such personal property would cause the Rent under a Percentage
Lease not to qualify as "rents from real property" for REIT income test
purposes. See "Federal Income Tax Consequences--Requirements for
Qualification--Income Tests."
Insurance and Property Taxes. The Company is responsible for paying or
reimbursing the Lessee for real estate and personal property taxes on the
Initial Hotels (except to the extent that personal property associated with the
Initial Hotels is owned by the Lessee), and all premiums for property and
casualty insurance. The Lessee is required to pay for all other insurance on the
Initial Hotels, including comprehensive general public liability, workers'
compensation and other insurance appropriate and customary for properties
similar to the Initial Hotels and naming the Company as an additional named
insured.
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Assignment and Subleasing. The Lessee will not be permitted to sublet all
or any part of the Initial Hotels or assign its interest under any of the
Percentage Leases without the prior written consent of the Company. No
assignment or subletting will release the Lessee from any of its obligations
under the Percentage Leases.
Damage to Hotels. In the event of damage to or destruction of any Initial
Hotel covered by insurance that renders the Initial Hotel unsuitable for its
primary intended use, the Percentage Lease will terminate as of the date of the
casualty, neither the Company nor the Lessee shall have any further liability
under the Percentage Lease, and the Company will retain all insurance proceeds.
In the event of damage to or destruction of any Initial Hotel covered by
insurance that does not render the Initial Hotel unsuitable for its primary
intended use, the Company (or, at the election of the Company, the Lessee) will
restore the Initial Hotel, the Percentage Lease will not terminate, and the
Company will retain all insurance proceeds (if, however, the Lessee restores the
Initial Hotel, the insurance proceeds will be paid out by the Company to the
Lessee). If the cost of restoration exceeds the amount of insurance proceeds
received by the Company, the Company will contribute any excess amounts prior to
requiring the Lessee to commence work. In the event of damage to or destruction
of any Initial Hotel not covered by insurance, whether or not such damage or
destruction renders the Initial Hotel unsuitable for its primary intended use,
the Company at its option either (i) will restore the Initial Hotel at its cost
and expense and the Percentage Lease will not terminate or (ii) will terminate
the Percentage Lease and neither the Company nor the Lessee shall have any
further liability under the Percentage Lease. Any damage or destruction
notwithstanding, and provided the Percentage Lease has not been terminated, the
Lessee's obligation to pay Rent will remain unabated by any damage or
destruction that does not result in a reduction of gross revenues at the Initial
Hotel. If any damage or destruction results in a reduction of such gross
revenues, the Company will receive all loss of income insurance and the Lessee
will not have an obligation to pay Rent in excess of the amount of Percentage
Rent, if any, realizable from gross revenues generated by the operation of the
Initial Hotel during the existence of such damage or destruction.
Condemnation of Hotel. In the event of a total condemnation of any Initial
Hotel, or in the event of a partial taking that renders the Initial Hotel
unsuitable for its primary intended use, either the Company or the Lessee will
have the option to terminate the relevant Percentage Lease as of the date of
taking, and the Company and the Lessee will be entitled to their shares of the
condemnation award in accordance with the provisions of the Percentage Lease. In
the event of a partial taking that does not render the Initial Hotel unsuitable
for its primary intended use, the Company (or, at the Company's option, the
Lessee) will restore the untaken portion of the Initial Hotel to a complete
architectural unit and the Company shall contribute the cost of such restoration
in accordance with the provisions of the Percentage Lease. In the event of a
partial taking, the Base Rent will be abated taking into consideration, among
other factors, the number of usable rooms, the amount of square footage, or the
revenues affected by the partial taking.
Events of Default. Events of Default under the Percentage Leases include,
among others, the following:
(i) the failure by the Lessee to pay Initial Fixed Rent, Base Rent,
Percentage Rent or Additional Charges when due and the continuation of
such failure for a period of 10 days after receipt by the Lessee of notice
from the Company that the same has become due and payable, provided that
the Company shall not be required to give any such notice more than twice
in any lease year and that any third or subsequent failure by the Lessee
during such lease year to make any payment of Initial Fixed Rent, Base
Rent or Percentage Rent on the date the same becomes due and payable shall
constitute an immediate Event of Default;
(ii) the failure by the Lessee to observe or perform any other term
of a Percentage Lease and the continuation of such failure for a period of
30 days after receipt by the Lessee of notice from the Company thereof,
unless: (A) such failure cannot be cured within such period and the Lessee
commences appropriate action to cure such failure within such 30 day
period and thereafter acts, with diligence, to correct such failure within
such time as is necessary, provided in no event shall such period exceed
120 days, which 120-day period shall cease to run during any period that a
cure of such failure is prevented by any of certain "unavoidable delays"
and shall resume running upon the cessation of such "unavoidable delay;"
and (B) such failure does not result in a notice or declaration of default
under any material contract or agreement to which the Company or any
affiliate thereof is a party or by which any of its assets are bound;
(iii) if the Lessee shall file a petition in bankruptcy or
reorganization pursuant to any federal or state bankruptcy law or any
similar federal or state law, or shall be adjudicated a bankrupt or shall
make an assignment for the benefit of creditors or shall admit in writing
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its inability to pay its debts generally as they become due, or if a
petition or answer proposing the adjudication of the Lessee as a bankrupt
or its reorganization pursuant to any federal or state bankruptcy law or
any similar federal or state law shall be filed in any court and the
Lessee shall be adjudicated a bankrupt and such adjudication shall not be
vacated or set aside or stayed within 60 days after the entry of an order
in respect thereof, or if a receiver of the Lessee or of the whole or
substantially all of the assets of the Lessee shall be appointed in any
proceeding brought by the Lessee or if any such receiver, trustee or
liquidator shall be appointed in any proceeding brought against the Lessee
and shall not be vacated or set aside or stayed within 60 days after such
appointment;
(iv) if the Lessee is liquidated or dissolved, or begins proceedings
toward such liquidation or dissolution, or in any manner ceases to do
business or permits the sale or divestiture of substantially all of its
assets;
(v) if the estate or interest of the Lessee in the Percentage Lease
or any part thereof is voluntarily or involuntarily transferred, assigned,
conveyed, levied upon or attached in any proceeding (for this purpose, a
change in control of the Lessee constitutes an assignment of the lease);
(vi) if the Lessee voluntarily discontinues operations of any
Initial Hotel except as a result of damage, destruction or condemnation;
(vii) if the Franchise License with respect to an Initial Hotel is
terminated by the franchisor as a result of any action or failure to act
by the Lessee or its agents, other than the failure to complete
improvements required by a franchisor because the Partnership fails to pay
the costs of such improvements; or
(viii) the occurrence of an Event of Default occurs under any other
Percentage Lease between the Company and the Lessee.
If an Event of Default occurs and continues beyond any curative period,
the Company will have the option of terminating the Percentage Lease and any or
all other Percentage Leases by giving the Lessee 10 days' written notice of the
date for termination of the Percentage Leases and, unless such Event of Default
is cured prior to the termination date set forth in such notice, the Percentage
Leases shall terminate on the date specified in the Company's notice and the
Lessee shall be required to surrender possession of the affected Initial Hotel.
Termination of Percentage Leases on Disposition of the Initial Hotels. In
the event the Company enters into an agreement to sell or otherwise transfer an
Initial Hotel to a third party, the Company will have the right to terminate the
Percentage Lease with respect to such Initial Hotel if within six months after
the closing of such sale it either (i) pays the Lessee the fair market value of
the Lessee's leasehold interest in the remaining term of the Percentage Lease to
be terminated, or (ii) offers to lease to the Lessee one or more substitute
hotels on terms that would create a leasehold interest in such hotels with a
fair market value equal to or exceeding the fair market value of the Lessee's
remaining leasehold interest under the Percentage Lease to be terminated.
Franchise License. The Lessee will be the licensee under the Franchise
Licenses on the Initial Hotels. See "Business and Properties--Franchise
Licenses."
Breach by the Company. Upon notice from the Lessee that the Company has
breached the Lease, the Company will have 30 days to cure the breach or proceed
to cure the breach, which period may be extended in the event of certain
specified, unavoidable delays.
Inventory. All inventory required in the operation of the Initial Hotels
will be purchased and owned by the Lessee at its expense. The Company will have
the option to purchase all inventory related to a particular Initial Hotel at
fair market value upon termination of the Percentage Lease for that Initial
Hotel.
Franchise Licenses
Holiday Inn Express and Holiday Inn are registered trademarks of Holiday
Hospitality Corporation, Hampton Inn is a registered trademark of Promus Hotels,
and Comfort Inn and Clarion Suites are registered Trademarks of Choice Hotels.
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The Company expects that the registered owners of the trademarks will approve
the change of the Franchise Licenses to the Lessee upon acquisition of the
Initial Hotels by the Partnership and will confirm that with respect to the
Initial Hotels the owner thereof is a licensee in good standing.
The Company anticipates that most of the additional hotels in which it
invests will be operated under Franchise Licenses. The Company believes that the
public's perception of quality associated with a franchisor is an important
feature in the operation of a hotel. Franchisors provide a variety of benefits
for franchisees, which include national advertising, publicity and other
marketing programs designed to increase brand awareness, training of personnel,
continuous review of quality standards and centralized reservation systems.
The Franchise Licenses generally specify certain management, operational,
recordkeeping, accounting, reporting and marketing standards and procedures with
which the franchisee must comply. The Franchise Licenses obligate the Lessee to
comply with the franchisors' standards and requirements with respect to training
of operational personnel, safety, maintaining specified insurance, the types of
services and products ancillary to guest room services that may be provided by
the Lessee, display of signage, and the type, quality and age of furniture,
fixtures and equipment included in guest rooms, lobbies and other common areas
and to pay the franchise fees described below.
The following table sets forth certain information in connection with the
Franchise Licenses:
<TABLE>
<CAPTION>
Hotel Effective Date Expiration Date Franchise Fee(1)
----- -------------- --------------- ---------------
<S> <C> <C> <C>
Holiday Inn Express,
Harrisburg, PA May 2, 1996 May 2, 2006 8.00%
Holiday Inn Express, Hershey, PA September 30, 1997 September 30, 2007 8.00%
Holiday Inn Express, New
Columbia, PA December 3, 1997 December 3, 2007 8.00%
Holiday Inn, Milesburg, PA February 25, 1997 February 25, 2007 8.00%
Holiday Inn Hotel and
Conference Center,
Harrisburg, PA September 29, 1995 September 29, 2005 7.50%
Hampton Inn, Carlisle, PA June 16, 1997 June 16, 2017 8.00%
Hampton Inn, Selinsgrove, PA September 9, 1996 September 9, 2016 8.00%
Comfort Inn, Denver, PA August 4, 1995 August 4, 2015 8.05%
Comfort Inn, Harrisburg, PA March 27, 1996 March 27, 2016 8.05%
Clarion Suites, Philadelphia, PA August 4, 1995 August 4, 2015 5.30%
</TABLE>
(1) Percentage of room revenues payable to the franchisors.
HOLIDAY INN EXPRESS(R) AND HOLIDAY INN(R) ARE REGISTERED TRADEMARKS OF
HOLIDAY HOSPITALITY CORPORATION. HOLIDAY HOSPITALITY CORPORATION HAS NOT
ENDORSED OR APPROVED THE OFFERING. A GRANT OF A HOLIDAY INN EXPRESS OR HOLIDAY
INN FRANCHISE LICENSE FOR CERTAIN OF THE INITIAL HOTELS IS NOT INTENDED AS, AND
SHOULD NOT BE INTERPRETED AS, AN EXPRESS OR IMPLIED APPROVAL OR ENDORSEMENT BY
HOLIDAY HOSPITALITY CORPORATION (OR ANY OF ITS AFFILIATES, SUBSIDIARIES OR
DIVISIONS) OF THE COMPANY, THE PARTNERSHIP OR THE PRIORITY COMMON SHARES OFFERED
HEREBY.
HAMPTON INN(R) IS A REGISTERED TRADEMARK OF PROMUS HOTELS. PROMUS HOTELS
HAS NOT ENDORSED OR APPROVED THE OFFERING. A GRANT OF A HAMPTON INN FRANCHISE
LICENSE FOR CERTAIN OF THE INITIAL HOTELS IS NOT INTENDED AS, AND SHOULD NOT BE
INTERPRETED AS, AN EXPRESS OR IMPLIED APPROVAL OR ENDORSEMENT BY PROMUS HOTELS
(OR ANY OF ITS AFFILIATES, SUBSIDIARIES OR DIVISIONS) OF THE COMPANY, THE
PARTNERSHIP OR THE PRIORITY COMMON SHARES OFFERED HEREBY.
COMFORT INN(R) AND CLARION SUITES(R) ARE REGISTERED TRADEMARKS OF CHOICE
HOTELS INTERNATIONAL. CHOICE HOTELS INTERNATIONAL HAS NOT ENDORSED OR APPROVED
THE OFFERING. A GRANT OF A COMFORT INN FRANCHISE LICENSE FOR CERTAIN OF THE
INITIAL HOTEL IS NOT INTENDED AS, AND SHOULD NOT BE INTERPRETED AS, AN EXPRESS
OR IMPLIED APPROVAL OR ENDORSEMENT BY CHOICE HOTELS INTERNATIONAL (OR ANY OF ITS
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AFFILIATES, SUBSIDIARIES OR DIVISIONS) OF THE COMPANY, THE PARTNERSHIP OR THE
PRIORITY COMMON SHARES OFFERED HEREBY.
Operating Practices
The Company's management recognizes the need for aggressive, market
driven, creative management given the competition in the hospitality industry.
Each of the Initial Hotels will be managed by the Lessee under separate
Percentage Leases with the Partnership. The Lessee intends to continue the
management systems developed by the Hersha Affiliates. See "The Lessee."
Employees
The Company intends to be self-advised and thus will utilize the services
of its officers rather than retain an advisor. Initially, the Company will have
no employees other than its officers. See "Management--Trustees and Executive
Officers." The Lessee will employ approximately 350 people in operating the
Initial Hotels on behalf of the Lessee.
Environmental Matters
Under various federal, state and local laws and regulations, an owner or
operator of real estate may be liable for the costs of removal or remediation of
certain hazardous or toxic substances on such property. Such laws often impose
such liability without regard to whether the owner knew of, or was responsible
for, the presence of hazardous or toxic substances. Furthermore, a person that
arranges for the disposal or transports for disposal or treatment a hazardous
substance at a property owned by another may be liable for the costs of removal
or remediation of hazardous substances released into the environment at that
property. The costs of remediation or removal of such substances may be
substantial, and the presence of such substances, or the failure to promptly
remediate such substances, may adversely affect the owner's ability to sell such
real estate or to borrow using such real estate as collateral. In connection
with the ownership and operation of the Initial Hotels, the Company, the
Partnership or the Lessee may be potentially liable for any such costs.
Recent Phase I environmental assessments have been obtained on all of the
Initial Hotels. The Phase I environmental assessments were intended to identify
potential environmental contamination for which the Initial Hotels may be
responsible. The Phase I environmental assessments included historical reviews
of the Initial Hotels, reviews of certain public records, preliminary
investigations of the sites and surrounding properties, screening for the
presence of hazardous substances, toxic substances and underground storage
tanks, and the preparation and issuance of a written report. The Phase I
environmental assessments did not include invasive procedures, such as soil
sampling or ground water analysis.
The Phase I environmental assessments have not revealed any environmental
liability that the Company believes would have a material adverse effect on the
Company's business, assets, results of operations or liquidity, nor is the
Company aware of any such liability. Nevertheless, it is possible that these
environmental assessments do not reveal all environmental liabilities or that
there are material environmental liabilities of which the Company is unaware.
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 Initial Hotels will not be affected by
the condition of the properties in the vicinity of the Initial Hotels (such as
the presence of leaking underground storage tanks) or by third parties unrelated
to the Company, the Partnership or the Lessee.
The Company believes that the Initial Hotels are in compliance in all
material respects with all federal, state and local ordinances and regulations
regarding hazardous or toxic substances and other environmental matters. Neither
the Company nor, to the knowledge of the Company, any of the current owners of
the Initial Hotels have been notified by any governmental authority of any
material noncompliance, liability or claim relating to hazardous or toxic
substances or other environmental matter in connection with any of its present
or former properties.
Competition
The hotel industry is highly competitive. Each of the Initial Hotels is
located in a developed area that includes other hotels, many of which are
competitive with the Initial Hotels in their locality. The number of competitive
hotels in a particular area could have a material adverse effect on revenues of
the Initial Hotels or at hotels acquired in the future. See "Business and
Properties--The Initial Hotels."
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There will be competition for investment opportunities in upper-economy
and mid-scale hotels from entities organized for purposes substantially similar
to the Company's objectives as well as other purchasers of hotels. The Company
will be competing for such investment opportunities with entities which have
substantially greater financial resources than the Company, including access to
capital or better relationships with franchisors, lenders and sellers. The
Company's competitors may generally be able to accept more risk than the Company
can manage prudently and may be able to borrow the funds needed to acquire
hotels. Competition may generally reduce the number of suitable investment
opportunities offered to the Company and increase the bargaining power of
property owners seeking to sell. See "Risk Factors--Conflicts of
Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates."
Insurance
The Company will keep in force comprehensive insurance, including
liability, fire, workers' compensation, extended coverage, rental loss and, when
available on reasonable commercial terms, flood and earthquake insurance, with
policy specifications, limits and deductibles customarily carried for similar
properties. Certain types of losses, however (generally of a catastrophic nature
such as acts of war, earthquakes, etc.), are either uninsurable or require such
substantial premiums that the cost of maintaining such insurance is economically
infeasible. Certain types of losses, such as those arising from subsidence
activity, are insurable only to the extent that certain standard policy
exceptions to insurability are waived by agreement with the insurer. See "Risk
Factors--Real Estate Investment Risks--Uninsured and Underinsured Losses." The
Company believes, however, that the Properties are adequately insured in
accordance with industry standards.
Depreciation
To the extent that the Partnership acquires the Initial Hotels or the
partnership interests in the Combined Entities in exchange for Subordinated
Units, the Partnership's initial basis in each Initial Hotel for federal income
tax purposes should be the same as the Combined Entities' basis in such Initial
Hotel on the date of acquisition. Although the law is not entirely clear, the
Partnership intends to depreciate such depreciable hotel property for federal
income tax purposes over the same remaining useful lives and under the same
methods used by the Combined Entities. The Partnership's tax depreciation
deductions will be allocated among the partners in accordance with their
respective interests in the Partnership (except to the extent that the
Partnership is required under Code Section 704(c) to use a method for allocating
depreciation deductions attributable to the Initial Hotels or other contributed
properties that results in the Company receiving a disproportionately larger
share of such deductions). Because the Partnership's initial basis in the
Initial Hotels will be less than the fair market value of those hotels on the
date of acquisition, the Company's depreciation deductions may be less than they
otherwise would have been if the Partnership had purchased the Initial Hotels or
the partnership interests in the Combined Entities entirely for cash.
Legal Proceedings
Neither the Company nor the Partnership is currently involved in any
material litigation nor, to the Company's knowledge, is any material litigation
currently threatened against the Company or the Partnership or any of the
Initial Hotels. The Lessee has advised the Company that it currently is not
involved in any litigation. The Combined Entities have represented to the
Partnership that there is no material litigation pending, threatened against or
affecting the Initial Hotels.
Hersha Affiliates' Hotel Assets Not Acquired By The Company
The Hersha Affiliates own the following hotels, which are not being
acquired by the Company and are not subject to the Option Agreement: (i) Best
Western, Indiana, Pennsylvania (107) rooms and (ii) Comfort Inn, McHenry,
Maryland (76 rooms). In addition, the Hersha Affiliates own land in Carlisle,
Pennsylvania, Valley Forge, Pennsylvania and Frederick, Maryland that could be
used for hotel development. The Hampton Inn, Danville, Pennsylvania, the
Harrisburg Inn, Harrisburg, Pennsylvania, the Sleep Inn, Pittsburgh,
Pennsylvania, and the land owned by Hersha Affiliates in Carlisle, Pennsylvania
are subject to the Option Agreement. See "Certain Relationships and
Transactions--Option Agreement."
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<PAGE>
Ground Leases
The land underlying the Holiday Inn Express in Harrisburg, Pennsylvania
and the Comfort Inn in Denver, Pennsylvania each will be leased to the
Partnership by certain Hersha Affiliates for aggregate rent of $21,000 per year
for 99 years. See "Risk Factors--Possible Increase in Ground Lease Payments for
Comfort Inn, Denver, Pennsylvania." Also, a portion of the land adjacent to the
Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for
$1 per year for 99 years.
POLICIES AND OBJECTIVES WITH RESPECT TO CERTAIN ACTIVITIES
The following is a discussion of the Company's policies with respect to
investment, financing, conflicts of interest and certain other activities that
have not been discussed elsewhere. The policies with respect to these activities
have been determined by the Trustees and may be amended or revised from time to
time at the discretion of the Trustees without a vote of the shareholders of the
Company, except that (i) changes in certain policies with respect to conflicts
of interest must be consistent with legal requirements and (ii) the Company
cannot take any action intended to terminate its qualification as a REIT without
the approval of the holders of two-thirds of the outstanding Priority Common
Shares.
Investment Policies
The Company's principal investment policy is to acquire hotels that offer
the potential for high current rates of return to the Company, a substantial
dividend to the Company's shareholders and long term increases in value. The
Company's business is focused solely on hotels. The Company's Acquisition Policy
is to acquire a hotel for which it expects to receive rents at least equal to
12% of the purchase price paid for the hotel, net of (i) property and casualty
insurance premiums, (ii) real estate and personal property taxes, and (iii) a
reserve for furniture, fixtures and equipment equal to 4% (6% for full-service
hotels) of gross revenues per quarter at the hotel. In the case of hotels with
limited operating history or that have been newly renovated, the Company intends
to institute a mechanism similar to the mechanism used for the Newly-Developed
Hotels and Newly-Renovated Hotels for establishing a minimum initial fixed rent
and adjusting the purchase price for each such hotel based upon the first two
years of operating history of such hotel after opening or completion of
renovation. The Trustees, however, may change the Acquisition Policy at any time
without the approval of the Company's shareholders. See "--Growth
Strategy--Acquisition Strategy" and "Risk Factors--Growth Strategy." The Company
has not developed a policy in connection with a limit on the number or amount of
mortgages that may be placed on any one piece of property owned by the Company.
Although the Company intends primarily to acquire hotels, it 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 that may have priority over the equity
interest of the Company.
The Company intends to lease hotels that it acquires in the future to
operators, including both the Lessee and operators unaffiliated with the Lessee.
Future leases with the Lessee generally will be similar to the Percentage
Leases. See "Business and Properties--The Percentage Leases." Future leases with
operators unaffiliated with the Lessee may or may not be similar to the
Percentage Leases. The Trustees will negotiate the terms and provisions of each
future lease, depending on the purchase price paid, economic conditions and
other factors deemed relevant at the time.
While the Company will emphasize equity investments in hotels, it may, in
its discretion, invest in mortgages and other real estate interests, including
securities of other REITs. The Company may invest in participating, convertible
or other types of mortgages if it concludes that by doing so it may benefit from
the cash flow or any appreciation in the value of the subject property. Such
mortgages are similar to equity participation, because they permit the lender to
either participate in increasing revenues from the property or convert some or
all of that mortgage to equity ownership interest. The Company does not
presently intend to invest in mortgages or real estate interests other than
hotels.
Financing
The Company's additional investments in hotels may be financed, in whole
or in part, with undistributed cash, subsequent issuances of Priority Common
Shares or other securities, or borrowings. The Company is currently pursuing
with lenders the Line of Credit. A failure to obtain the Line of Credit could
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<PAGE>
adversely affect the Company's ability to finance its growth strategy. See "Risk
Factors-Dependence Upon External Financing." The Debt Policy will limit
consolidated indebtedness to less than 67% of the aggregate purchase prices paid
by the Company for the hotels in which it has invested. The Trustees, however,
may change the Debt Policy at any time without the approval of the Company's
shareholders. The aggregate purchase prices for the Initial Hotels is
approximately $47.3 million. After the Formation Transactions, the Assumed
Indebtedness will be approximately $17.4 million. Because of the Debt Policy and
the amount of the Assumed Indebtedness, the success of the Company's acquisition
strategy will depend primarily on its ability to access additional capital
through issuances of equity securities. See "Risk Factors--Risks of Leverage"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations--Liquidity and Capital Resources."
The Company will invest in additional hotels only as suitable
opportunities arise. The Company will not undertake investments in such hotels
unless adequate sources of financing are available. The Bylaws require the
approval of a majority of the Trustees, including a majority of the Independent
Trustees, to acquire any additional hotel in which a Trustee or officer of the
Company, or any Affiliate thereof, has any interest (other than solely as a
result of his status as a Trustee, officer or shareholder of the Company). It is
expected that future investments in hotels will be dependent on and financed by
the proceeds from additional equity capital. The Trustees have the authority,
without shareholder approval, to issue additional Priority Common Shares,
preferred shares or other capital shares of the Company in any manner (and on
such terms and for such consideration) as it deems appropriate, including in
exchange for property. Existing shareholders have no preemptive right to
purchase shares issued in any offering, and any such offering might cause a
dilution of a shareholder's investment in the Company.
Conflict of Interest Policies
The Company has adopted certain policies designed to minimize the effects
of potential conflicts of interest. In addition, the Partnership has entered
into the Option Agreement with certain of the Hersha Affiliates. The Trustees
are subject to certain provisions of Maryland law, which are designed to
eliminate or minimize certain potential conflicts of interest. However, there
can be no assurance that these policies always will be successful in eliminating
the influence of such conflicts, and if they are not successful, decisions could
be made that might fail to reflect fully the interests of all shareholders.
Declaration of Trust and Bylaw Provisions
The Company's Declaration of Trust, with limited exceptions, requires that
three of the Company's Trustees be Independent Trustees. The Declaration of
Trust provides that such Independent Trustee requirement may not be amended,
altered, changed or repealed without the affirmative vote of at least a majority
of the members of the Trustees and the affirmative vote of the holders of not
less than two-thirds of the outstanding Priority Common Shares (and other shares
of beneficial interest of the Company entitled to vote, if any exist). The
Bylaws require that any action pertaining to any transaction involving the
Company, including the purchase, sale, lease or mortgage of any real estate
asset, in which a Trustee or an officer of the Company, or any Affiliate
thereof, has an interest (other than solely as a result of his status as a
trustee, officer or shareholder of the Company, must be approved by a majority
of the Trustees, including a majority of the Independent Trustees.
The Option Agreement
Pursuant to the Option Agreement among Hasu P. Shah, Jay H. Shah, Neil H.
Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David
L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha Affiliate, and
the Partnership, the Partnership will have an option to acquire any hotels owned
or developed in the future by the Hersha Affiliates within 15 miles of any of
the Initial Hotels or any hotel subsequently acquired by the Partnership for two
years after acquisition or development.
The Partnership
A conflict of interest may arise between the Company, as General Partner
of the Partnership, and the Hersha Affiliates as limited partners of the
Partnership, due to the differing potential tax liability to the Company and the
Hersha Affiliates from the sale of an Initial Hotel or refinancing or prepayment
of principal on any of the Assumed Indebtedness resulting from the differing tax
bases in the Initial Hotels of the Company, on the one hand, and the Hersha
Affiliates, on the other hand. The Bylaws provide that the Company's decisions
with respect to any transaction, including the disposition of an Initial Hotel
or refinancing or prepayment of principal on the Assumed Indebtedness, in which
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a Trustee or officer of the Company, or any Affiliate thereof, has any interest
(other than solely as a result of his status as a Trustee, officer or
shareholder of the Company) must be approved by a majority of the Trustees,
including a majority of the Independent Trustees. The Partnership Agreement
gives the Company, as General Partner of the Partnership, full, complete and
exclusive discretion in managing and controlling the business of the Partnership
and in making all decisions affecting the business and assets of the
Partnership.
Provisions of Maryland Law
Under Maryland law (the jurisdiction under which the Company is
organized), the Trustees or shareholders of the Company are not personally
liable for the obligations of the Company. The Trustees are not, however,
relieved from liability to the Company or its shareholders for any act that
constitutes bad faith, willful misfeasance, gross negligence or reckless
disregard of the Trustee's duties. Maryland law permits a Maryland REIT to
include in its Declaration of Trust a provision limiting the liability of its
trustees 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) active and deliberate dishonesty established
by a final judgment and that is material to the cause of action. The Declaration
of Trust of the Company contains such a provision limiting such liability to the
maximum extent permitted by Maryland law.
There is no Maryland statutory provision governing transactions between
the Company and any of its Trustees. The MGCL, however, provides that a
transaction involving a director of a Maryland corporation or a corporation,
firm or other entity in which such director is a director or has a material
financial interest is not void or voidable solely because of the director's
directorship or the director's interest in the transaction if (i) the
transaction is authorized, approved or ratified, after disclosure of the
interest, by the affirmative vote of a majority of the disinterested directors,
or by the affirmative vote of a majority of the votes cast by shareholders
entitled to vote other than the votes of shares owned of record or beneficially
by the interested director or corporation, firm or other entity, or (ii) the
transaction is fair and reasonable to the Company. In the absence of statutory
provisions governing such transactions with respect to Maryland REITs, it is
possible, though not certain, that the Maryland courts would look, by analogy,
to the corporate provisions for guidance. In addition, the Company's Declaration
of Trust provides that in defining or interpreting the powers and duties of the
Company and its Trustees and officers, reference may be made by the Trustees or
officers to the MGCL to the extent appropriate and not inconsistent with the
Code or those sections of the Maryland Code governing REITs.
Policies with Respect to Other Activities
The Company has authority to offer shares of beneficial interest or other
securities and to repurchase or otherwise reacquire its shares or any other
securities and may engage in such activities in the future. As described under
"Shares Available for Future Sale," the Company may issue Class B Common Shares
or Priority Common Shares to holders of Units upon exercise of their Redemption
Rights (as herein defined). The Company has not issued Class B Common Shares or
Priority Common Shares, interests or any other securities to date, except in
connection with the formation of the Company. The Company has no outstanding
loans to other entities or persons, including its officers and Trustees. The
Company has not engaged in trading, underwriting or agency distribution or sale
of securities of other issuers, nor has the Company invested in the securities
of other issuers other than the Partnership for the purpose of exercising
control. The Company intends to make investments in such a way that it will not
be treated as an investment company under the Investment Company Act of 1940, as
amended.
At all times, the Company intends to make investments in such a manner
consistent with the requirements of the Code for the Company to qualify as a
REIT unless, because of changing circumstances or changes in the Code (or in
Treasury Regulations), the Trustees, with the consent of the holders of
two-thirds of the outstanding Class B Common Shares or Priority Common Shares,
determine that it is no longer in the best interests of the Company to qualify
as a REIT.
Working Capital Reserves
The Company initially will have approximately $2.4 million in working
capital reserves. In the future, the Company intends to set aside undistributed
cash in amounts that the Trustees determine to be adequate to meet normal
contingencies in connection with the operation of the Company's business and
investments. The Company expects to obtain the Line of Credit, which may assist
the Company in meeting its distribution and working capital needs. A failure to
obtain the Line of Credit could adversely affect the Company's ability to
finance its growth strategy. See "Risk Factors-Dependence Upon External
Financing."
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FORMATION TRANSACTIONS
The Formation Transactions will be as follows:
o The Company will sell 1,833,334 Priority Common Shares to the
Underwriter at the Offering Price. The net proceeds to the Company
from the Offering will be contributed to the Partnership in exchange
for approximately a 32% general partnership interest in the
Partnership. In addition, the Company will offer 166,666 Priority
Common Shares to the Hersha Affiliates at the Offering Price. The
information contained herein assumes that none of the 166,666
Priority Common Shares are sold.
o The Partnership will acquire the Initial Hotels by acquiring either
all of the partnership interests in the Combined Entities or the
Initial Hotels in exchange for (i) Subordinated Units that will be
redeemable, subject to certain limitations, for an aggregate of
approximately 4 million Class B Common Shares, with a value of
approximately $23.8 million based on the Offering Price and (ii) the
assumption of approximately $23.8 million in indebtedness secured by
all of the Initial Hotels, approximately $6.4 million of which will
be repaid with the proceeds of the Offering. The purchase prices of
the Newly-Developed Hotels and the Newly-Renovated Hotels will be
adjusted on the First Adjustment Date or the Second Adjustment Date,
as applicable, as described in "The Company."
o The land underlying the Holiday Inn Express, Harrisburg,
Pennsylvania and the Comfort Inn, Denver, Pennsylvania each will be
leased to the Partnership by certain Hersha Affiliates for aggregate
rent of $21,000 per year for 99 years. Also, a portion of the land
adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be
leased to a Hersha Affiliate for $1 per year for 99 years.
o Each Initial Hotel will be leased to the Lessee pursuant to a
Percentage Lease. The Percentage Leases will have an initial
non-cancelable term of five years. All, but not less than all, of
the Percentage Leases may be extended for an additional five-year
term. At the end of the first extended term, the Lessee, at its
option, may extend some or all of the Percentage Leases for the
Initial Hotels. The Lessee will hold the Franchise License for each
Initial Hotel. See "Business and Properties--The Percentage Leases."
o The Partnership and certain of the Hersha Affiliates has entered
into the Option Agreement, pursuant to which the Hersha Affiliates
will agree that, if they develop or own any hotels in the future
that are located within 15 miles of any Initial Hotel or
subsequently acquired hotel, the Hersha Affiliates will give the
Partnership the option to purchase such hotels for two years. See
"Risk Factors--Conflicts of Interest--Competing Hotels Owned or to
be Acquired by the Hersha Affiliates" and "Policies and Objectives
with Respect to Certain Activities--Conflict of Interest
Policies--The Option Agreement."
o The Company and the Lessee will enter into the Administrative
Services Agreement, pursuant to which the Lessee will provide
certain administrative services in exchange for an annual fee equal
to $55,000, plus $10,000 for each hotel owned by the Company.
o The Company has granted the Underwriter the Underwriter Warrants to
purchase 183,333 Priority Common Shares for a period of five years
at a price per share equal to 165% of the Offering Price.
o The Partnership has granted 2744 Associates, L.P., which is a Hersha
Affiliate, the Hersha Warrants to purchase 250,000 Units for a
period of five years at a price per Unit equal to 165% of the
Offering Price.
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Benefits to the Hersha Affiliates
As a result of the Formation Transactions, the Hersha Affiliates will
receive the following benefits:
o The Hersha Affiliates will receive approximately 4 million
Subordinated Units in exchange for their interests in the Initial
Hotels, which will have a value of approximately $23.8 million based
on the Offering Price. The Subordinated Units held by the Hersha
Affiliates will be more liquid than their current interests in the
Selling Entities if a public trading market for the Class B Common
Shares commences or when such shares are converted into Priority
Common Shares and after the applicable holding periods expire.
o The Lessee, which is owned by the Hersha Affiliates, will hold the
Franchise Licenses for the Initial Hotels and will be entitled to
all revenues from the Initial Hotels after payment of Rent under the
Percentage Leases and other operating expenses. The Company will pay
certain expenses in connection with the transfer of the Franchise
Licenses to the Lessee. See "The Lessee."
o Approximately $6.4 million of indebtedness owed by the Combined
Entities will be repaid with a portion of the proceeds of the
Offering. Approximately $4 million of such indebtedness is owed to
entities controlled by the Hersha Affiliates and relates principally
to hotel development expenses in connection with the Initial Hotels.
Certain of the Assumed Indebtedness is and will remain guaranteed by
the Hersha Affiliates. Upon the repayment of such indebtedness, the
Hersha Affiliates will be released from the related guarantees. The
Hersha Affiliates may receive increased cash distributions from the
operations of the Initial Hotels as a result of the reduction of
indebtedness on the Initial Hotels.
o If the repricing on the First Adjustment Date or the Second
Adjustment Date, as applicable, produces a higher value for the
Newly-Developed Hotels or the Newly-Renovated Hotels, the Hersha
Affiliates will receive an additional number of Subordinated Units
that, when multiplied by the Offering Price, equals the increase in
value plus the value of any distributions that would have been made
in connection with such Subordinated Units if such Subordinated
Units had been issued in connection with the acquisition of such
hotels.
o The Lessee, which is owned by the Hersha Affiliates, will receive an
annual fee equal to $55,000, plus $10,000 for each hotel owned by
the Company for providing certain administrative services to the
Company.
o Certain tax consequences to the Hersha Affiliates from the transfer
of equity interests in the Initial Hotels will be deferred.
o Messrs. Hasu P. Shah, K.D. Patel and Bharat C. Mehta will receive
$7,500 per year for serving as Trustees. Mr. Shah shall also be
entitled to receive a salary of not more than $100,000 per year
provided that the Priority Common Shares have a closing price of
$9.00 per share or higher for 20 consecutive trading days and remain
at or above $9.00 per share.
o The Partnership has granted to 2744 Associates, L.P., which is a
Hersha Affiliate, the Hersha Warrants to purchase 250,000 Units for
a period of five years at a price per share equal to 165% of the
Offering Price.
o Certain of the Hersha Affiliates will receive a total of $21,000 per
year pursuant to 99-year ground leases with respect to the Holiday
Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver,
Pennsylvania.
o A portion of the land adjacent to the Hampton Inn, Selinsgrove,
Pennsylvania will be leased to a Hersha Affiliate for $1 per year
for 99 years.
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MANAGEMENT
Trustees and Executive Officers
Initially, the Trustees will consist of seven members, three of whom are
Independent Trustees. All of the Trustees will serve staggered terms of two
years and the Trustees will be divided into two classes. Each Trustee in Class I
will hold office initially for a term expiring at the first annual meeting of
shareholders (1999) and each Trustee in Class II will hold office initially for
a term expiring at the second annual meeting of shareholders (2000). Certain
information regarding the Trustees and executive officers of the Company is set
forth below.
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
Hasu P. Shah (Class II) 53 Chairman of the Board, Chief Executive
Officer and Trustee
Kiran P. Patel 48 Chief Financial Officer, Treasurer and
Secretary
Bharat C. Mehta (Class II)* 53 Trustee
K.D. Patel (Class II)* 54 Trustee
L. McCarthy Downs, III (Class I)* 45 Trustee
Everette G. Allen, Jr. (Class I)* 58 Independent Trustee
Thomas S. Capello (Class II)* 55 Independent Trustee
Mark R. Parthemer (Class I)* 38 Independent Trustee
</TABLE>
* Has agreed to become a Trustee upon or immediately before the
consummation of the Offering.
Hasu P. Shah is the President and CEO of Hersha Enterprises, Ltd. and has
held that position since its inception in 1984. He started Hersha Enterprises,
Ltd. with the purchase of the 125-room Quality Inn Riverfront in Harrisburg,
Pennsylvania which he converted to a 117-room Holiday Inn Express. Recently the
"Central Penn Business Journal" honored Hersha Enterprises, Ltd. as one of the
Fifty Fastest Growing Companies in 1997 in central Pennsylvania. His interest in
construction and renovations of hotels initiated the development of Hersha
Construction Company for the construction and renovation of new properties and
Hersha Hotel Supply Company to supply furniture, fixtures and equipment supplies
to the properties. Mr. Shah and his wife, Hersha, are active members of the
community. Mr. Shah serves on the Board of Directors of several organizations
including the Pennsylvania State University Capital Campus in Harrisburg,
Pennsylvania, the Harrisburg Foundation, Human Enrichment by Love and Peace
(H.E.L.P.), the Capital Region Chamber of Commerce and the Vraj Hindu Temple.
Mr. Shah received a Bachelors of Science degree in Chemical Engineering from
Tennessee Technical University and obtained a Masters degree in Administration
from Pennsylvania State University.
K.D. Patel has been a principal of Hersha Enterprises, Ltd. since 1989.
Mr. Patel currently serves as the President of the Lessee. He has received
national recognition from Holiday Inn Worldwide for the successful management of
Hersha's Holiday Inn Express Hotels. In 1996, Mr. Patel was appointed by Holiday
Inn Worldwide to serve as an advisor on its Sales and Marketing Committee. Prior
to joining Hersha Enterprises, Ltd., Mr. Patel was employed by Dupont
Electronics in New Cumberland, Pennsylvania from 1973 to 1990. He is a member of
the Board of Directors of a regional chapter of the American Red Cross and
serves on the Advisory Board of Taneytown Bank and Trust. Mr. Patel received a
Bachelor of Science degree in Mechanical Engineering from the M.S. University of
India and a Professional Engineering License from the Commonwealth of
Pennsylvania in 1982.
Bharat C. Mehta has been a principal of Hersha Enterprises, Ltd. since
1985. Mr. Mehta currently serves as President of Hersha Health Care Management
Division of Hersha Enterprises, Ltd.
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Mr. Mehta worked in 1984 for the Pennsylvania Department of Environmental
Services in the Bureau of Water Quality Management as Chief of the Program
Planning and Evaluation Section. He worked as a chemical engineer from 1967 to
1983 for Lever Brothers Corporation (UniLever, a multinational company). He also
is a member of his local chapter of the Rotary Club. Mr. Mehta received a
Bachelor of Science degree in Chemical Engineering from the Worcester
Polytechnic Institute in Massachusetts and earned a Masters degree from
Pennsylvania State University.
Kiran P. Patel has been a principal of Hersha Enterprises, Ltd. since
1993. Mr. Patel is currently the partner in charge of Hersha's Land Development
and Business Services Divisions. Prior to joining Hersha Enterprises, Ltd., Mr.
Patel was employed by AMP Incorporated, in Harrisburg, Pennsylvania. Mr. Patel
serves on various Boards for community service organizations. Mr. Patel received
a Bachelor of Science degree in Mechanical Engineering from M.S. University of
India and obtained a Masters of Science degree in Industrial Engineering from
the University of Texas in Arlington.
L. McCarthy Downs, III, is the Senior Vice President and Manager of the
Corporate Finance Department of the Underwriter. He has held the position since
1990 and has been involved in several public and private financings for REITs.
Prior to 1990, Mr. Downs was employed by another investment banking and
brokerage firm for seven years. Mr. Downs received a Bachelor of Science degree
in Business Administration from The Citadel and obtained an M.B.A. from The
College of William and Mary.
Everette G. Allen, Jr. is chairman of and a senior partner in the law firm
of Hirschler, Fleischer, Weinberg, Cox & Allen, P.C. in Richmond, Virginia. Mr.
Allen concentrates his practice in litigation, real estate development,
commercial disputes law, finance and debt restructuring and has been practicing
at Hirschler, Fleischer since 1970. Mr. Allen was admitted to the Virginia State
Bar in 1965. He served as Executive Editor of the Virginia Law Review from 1964
to 1965 and served as a Law Clerk to Fourth Circuit Judge Albert V. Bryan of the
U.S. Court of Appeals during 1965 and 1966. He was a member of the Board of
Trustees of Randolph-Macon College from 1988 to 1992. Mr. Allen currently serves
as a member of the American College of Trial Lawyers, a member of the Board of
Directors of Virginia Gas Company and as a Trustee of the Virginia Student Aid
Foundation. Mr. Allen received his B.A. degree from Randolph Macon College in
1962 and his law degree from University of Virginia in 1965.
Thomas S. Capello is President, Chief Executive Officer and Director of
First Capitol Bank in York, Pennsylvania and has held these positions since its
founding in 1988. First Capitol Bank specializes in small business lending and
has expanded into three branches with assets of almost $105,000,000. From 1983
to 1988 Mr. Capello served as Vice President and Manager of the Loan Production
Office of The First National Bank of Maryland. Prior to his service at the First
National Bank of Maryland, Mr. Capello served as Vice President and Senior
Regional Lending Officer at Commonwealth National Bank and worked at the
Pennsylvania Development Credit Corporation. Mr. Capello is an active member of
the board of the Central Pennsylvania Venture Capital Forum, Farm and National
Lands Trust, Better York, WITF, Martin Library, Motter Printing Company, 19th
District, Second Mile and Shadofax. Mr. Capello is a graduate of the Stonier
Graduate School of Banking at Rutgers University and holds an undergraduate
degree with a major in Economics from Pennsylvania State University.
Mark R. Parthemer has served as Special Counsel at Saul, Ewing, Remick &
Saul LLP in the Harrisburg, Pennsylvania office since January, 1998. Mr.
Parthemer concentrates his practice in general business, tax and estates law.
Prior to joining Saul, Ewing, Remick & Saul LLP, Mr. Parthemer worked at Coopers
& Lybrand LLP as a tax specialist from 1985 to October 1989. From October 1989
to January 1998 he worked at, and became a partner of, Boswell, Tintner, Piccola
& Wickersham, another law firm located in Harrisburg, Pennsylvania. Mr.
Parthemer is the current First Assistant Solicitor of Dauphin County where he
advises the County Commissioners on legal matters, including tax, business and
finance. He has recently been appointed to the Board of Keystone Area Council,
Boy Scouts of America and the Board of The Vision Foundation. Mr. Parthemer
received his B.A. and B.S. degrees from Franklin and Marshall College and his
law degree from The Dickinson School of Law. He is admitted to practice law in
Pennsylvania and before the United States Tax Court.
Audit Committee
The Audit Committee will consist of the three Independent Trustees. The
Audit Committee will make recommendations concerning the engagement of
independent public accountants, review with the independent public accountants
the plans and results of the audit engagement, approve professional services
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provided by the independent public accountants, review the independence of the
independent public accountants, consider the range of audit and non-audit fees
and review the adequacy of the Company's internal accounting controls. The Audit
Committee will establish procedures to monitor compliance with the REIT
provisions of the Code and the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), and such other laws and regulations applicable to the Company.
Compensation Committee
The Compensation Committee will consist of the three Independent Trustees.
The Compensation Committee will determine compensation for the Company's
executive officers and administer the Hersha Hospitality Trust Option Plan (the
"Option Plan").
Compensation
Each Trustee will initially be paid $10,000 per year for those residing
outside the State of Pennsylvania and $7,500 per year for those residing in the
State of Pennsylvania, payable in quarterly installments. In addition, the
Company will reimburse all Trustees for reasonable out-of-pocket expenses
incurred in connection with their services on the Board of Trustees. No officers
of the Company initially shall receive any cash compensation from the Company
other than the Trustee's fees for those officers who are Trustees, provided,
however, that the Chairman of the Board of Trustees shall be entitled to receive
a salary of not more than $100,000 per year provided that the Priority Common
Shares have a bid price of $9.00 per share or higher for 20 consecutive trading
days and remains at or above $9.00 per share. The Independent Trustees who are
members of the Board on the effective date of the Offering will receive on that
date options to purchase the following Class B Common Shares at the Offering
Price: Mr. Allen, 30,000; Mr. Capello, 3,000; and Mr. Parthemer, 1,000. The
options will be granted under the Hersha Hospitality Trust Non-Employee
Trustees' Option Plan (the "Trustees' Plan"), which may be amended by the Board
to provide for other awards, including awards to future Independent Trustees.
The options granted on the effective date of the Offering will become
exercisable as described below under "The Trustees' Plan."
Exculpation 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) active and deliberate dishonesty
established by a final judgment and that is material to the cause of action. The
Declaration of Trust of the Company contains such a provision which eliminates
such liability to the maximum extent permitted by the Maryland REIT Law.
The Declaration of Trust of the Company 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 shareholder, Trustee or officer or (b) any individual
who, while a Trustee of the Company and at the request of the Company, 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
from and against any claim or liability to which such person may become subject
or which such person may incur by reason of his status as a present or former
shareholder, Trustee or officer of the Company. The Bylaws of the Company
obligate it, to the maximum extent permitted by Maryland law, to indemnify: (a)
any present or former Trustee, officer or shareholder (including any individual
who, while a Trustee, officer or shareholder and at the express request of the
Company, serves another entity as a director, officer, shareholder, partner or
trustee of such entity) who has been successful, on the merits or otherwise, in
the defense of a proceeding to which he was made a party by reason of service in
such capacity, against reasonable expenses incurred by him in connection with
the proceeding; (b) subject to certain limitations under Maryland law, any
present or former Trustee or officer against any claim or liability to which he
may become subject by reason of such status; and (c) each present or former
shareholder against any claim or liability to which he may become subject by
reason of such status. In addition, the Bylaws obligate the Company, subject to
certain provisions of Maryland law, to pay or reimburse, in advance of final
disposition of a proceeding, reasonable expenses incurred by a present or former
Trustee, officer or shareholder made a party to a proceeding by reason of such
status. The Company may, with the approval of its Trustees, provide such
indemnification or payment or reimbursement of expenses to any present or former
Trustee, officer or shareholder of the Company or any predecessor of the Company
and to any employee or agent of the Company or predecessor of the Company.
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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 indemnity 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 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, a Maryland
corporation may not indemnify for an adverse judgment in a suit by or in the
right of the corporation or for a judgment of liability on the basis that
personal benefit was improperly received, unless in either case a court orders
indemnification and then only for expenses. In accordance with the MGCL, the
Bylaws of the Company 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
the Company as authorized by the Bylaws and (b) a written undertaking by him or
on his behalf to repay the amount paid or reimbursed by the Company if it shall
ultimately be determined that the standard of conduct was not met.
The Option Plan
The Board of Trustees and the Partnership have adopted, and the sole
shareholder of the Company has approved, the Option Plan for the purpose of
attracting and retaining executive officers and employees of the Company and
the Partnership and other persons and entities that provide services to the
Company or the Partnership. The Option Plan authorizes the issuance of options
to purchase Class B Common Shares ("Share Options") and options to purchase
Subordinated Units ("Unit Options"), described more fully below. Administration
of the Option Plan will be carried out by (i) the Board of Trustees (prior to
the Offering) or the Compensation Committee of the Board of Trustees
(following the Offering), with respect to grants of Share Options; and (ii) the
Partnership or its delegate, with respect to grants of Unit Options. The
Compensation Committee may not delegate its authority with respect to option
awards to individuals subject to Section 16 of the Exchange Act. As used in this
summary, the term "Administrator" means the Board of Trustees, the
Compensation Committee or its delegate, or the Partnership, as appropriate.
Officers and employees of the Company and the Partnership and other
persons and entities that provide services to the Company or the Partnership are
eligible to participate in the Option Plan ("Participants").
Under the Option Plan, an aggregate of 650,000 Class B Common Shares and
Subordinated Units will be available for issuance. The Option Plan provides for,
in the event Class B Common Shares are converted into another security of the
Company, the issuance of equivalent amounts of such security and options to
purchase such security into which the Class B Common Shares are converted. The
Plan provides for the grant of (i) Options intended to qualify as incentive
stock options ("ISOs") under Section 422 of the Code, and (ii) Options not
intended to so qualify ("nonqualified options"). All Unit Options granted
under the Plan will be nonqualified options; Share Options may be either ISOs or
nonqualified options.
Code Section 422 imposes various requirements in order for an option to
qualify as an ISO, including allowing a maximum ten-year term of the option and
an option price not less than the fair market value of the underlying shares on
the date of grant. In addition, under Code Section 422, no Participant may
receive ISOs (under all incentive share option plans of the Company and its
parent or subsidiary corporations) that are first exercisable in any calendar
year for Class B or Priority Common Shares having an aggregate fair market value
(determined as of the date the ISO is granted) that exceeds $100,000 (the
"$100,000 Limit"). To the extent options first become exercisable by a
Participant in any calendar year for a number of Class B or Priority Common
Shares in excess of the $100,000 Limit, they will be treated as nonqualified
options.
The principal difference between options qualifying as ISOs under Code
Section 422 and nonqualified options is that a Participant generally will not
recognize ordinary income at the time an ISO is granted or exercised, but rather
at the time the Participant disposes of shares acquired under the ISO. In
contrast, the exercise of a nonqualified option generally is a taxable event
that requires the Participant to recognize, as ordinary income, the difference
between the shares' (or Units') fair market value and the option price. The
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employer will not be entitled to a federal income tax deduction on account of
the grant or the exercise of an ISO, whereas the employer is entitled to a
federal income tax deduction on account of the exercise of a nonqualified option
equal to the ordinary income recognized by the Participant. The employer may
claim a federal income tax deduction on account of certain dispositions of
shares acquired upon the exercise of an ISO.
Options under the Option Plan may be awarded by the Administrator, and the
Administrator will determine the option exercise period and any conditions on
exercisability. The options granted under the Option Plan will be exercisable
only if (i) the Company obtains a per share closing price on the Priority Common
Shares of $9.00 or higher for 20 consecutive trading days and (ii) the closing
price on the Priority Common Shares for the prior trading day was $9.00 or
higher. In addition, no option granted under the Option Plan may be exercised
more than five years after the date of grant. The exercise price for options
granted under the Option Plan will be determined by the Administrator at the
time of grant, but will not be less than the fair market value of the Class B
Common Shares on the date of grant (in the case of Share Options), or less than
the fair market value of the Units on the date of grant (in the case of Unit
Options).
An option may be exercised for any number of Class B Common Shares or
Units up to the full number for which the option could be exercised. A
Participant will have no rights as a shareholder with respect to Class B Common
Shares subject to a Share Option until the Share Option is exercised, and
will have no rights as a unitholder with respect to Units subject to a Unit
Option until the Unit Option is exercised. Any Class B Common Shares or Units
subject to options which are forfeited (or expire without exercise) pursuant to
the terms established at the time of grant will again be available for grant
under the Option Plan.
Payment of the exercise price of an option granted under the Option Plan
may be made in cash, cash equivalents acceptable to the Administrator or, if
permitted by the option agreement (i) in the case of Share Options, by
exchanging Class B Common Shares having a fair market value equal to the option
exercise price of the Share Option; and (ii) in the case of Unit Options, by
exchanging Units having a fair market value equal to the option exercise price
of the Unit Option. If an Agreement provides, an option that is not an ISO may
be transferred by a Participant to one or more persons or entities on terms
permitted by the Agreement and by Rule 16b-3 of the Exchange Act as in effect
from time to time.
No option award may be granted under the Option Plan more than 10 years
after the earlier of the date that the Board of Trustees adopted, or the
shareholder of the Company approved, the Option Plan. The Board of Trustees and
the Partnership may amend or terminate the Option Plan at any time, but an
amendment will not become effective without the approval of the Company's
shareholders if it increases the number of Class B Common Shares or Units
that may be issued under the Option Plan (other than equitable adjustments upon
certain corporate transactions). No amendment will affect a Participant's
outstanding awards without the Participant's consent.
On the effective date of the Offering, options for an aggregate of
499,975 Class B Common Shares and Units will be granted to employees and
other service providers of the Company and the Partnership, all of whom are
Hersha Affiliates. Of that total, Hasu P. Shah will receive a Share Option,
intended to qualify as an ISO, for 49,998 Class B Common Shares, and a Unit
Option for 4,627 Units; Kiran P. Patel will receive a Share Option, intended to
qualify as an ISO, for 49,998 Class B Common Shares, and a Unit Option for 2,127
Units; Bharat C. Mehta will receive a Unit Option for 37,500 Units; and K. D.
Patel will receive a Unit Option for 89,625 Units. The remaining options will be
Unit Options covering a total of 266,100 Units. The Share Options and Unit
Options granted on the effective date of the Offering will become exercisable in
three annual installments beginning on the first anniversary of the date of
grant. The Share Options will have an exercise price equal to the fair market
value of a Class B Common Share on the effective date of the Offering, and the
Unit Options will have an exercise price equal to the fair market value of a
Unit on the effective date of the Offering. The number of Class B Common Shares
subject to the ISOs granted to Messrs. Shah and Kiran Patel was calculated
assuming a $6.00 per share fair market value for the Class B Common Shares on
the date of the grant. If the value of the Class B Common Shares is lower than
$6.00 per share, the number of Class B Common Shares subject to the ISOs would
increase, and the number of Units subject to the Unit Options granted to Messrs.
Shah and Kiran Patel would be correspondingly decreased.
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The Trustees' Plan
Prior to the Offering, the Board of Trustees will also adopt, and the
Company's sole shareholder will approve, the Trustees' Plan to provide
incentives to attract and retain Independent Trustees. The Trustees' Plan
authorizes the issuance of up to 200,000 Class B Common Shares. The Trustees'
Plan provides for, in the event the Class B Common Shares are converted into
another security of the Company, the issuance of equivalent amounts of such
security and options to purchase such security into which the Class B Common
Shares are converted.
The Trustees' Plan provides for the grant of nonqualified options for the
following Class B Common Shares to the Independent Trustees of the Company who
are members of the Board on the effective date of the Offering: Mr. Allen,
30,000; Mr. Capello, 3,000; and Mr. Parthemer, 1,000. The exercise price of each
such option will be equal to the Offering Price. Each such option shall become
exercisable over the particular Trustee's initial term, provided that the
Trustee is a member of the Board on the applicable date. Thus, all of Mr.
Allen's and Mr. Parthemer's options will become exercisable as of the first
anniversary of the date of grant and one-half of Mr. Capello's options will
become exercisable on the first anniversary of the date of grant and the
remaining options will become exercisable on the second anniversary of the date
of grant. Notwithstanding the foregoing, an option granted under the Trustees'
Plan will be exercisable only if (i) the Company obtains a per share closing
price on the Priority Common Shares of $9.00 for 20 consecutive trading days and
(ii) the per share closing price on the Priority Common Shares for the prior
trading day was $9.00 or higher. Options issued under the Trustees' Plan are
exercisable for five years from the date of grant.
A Trustee's outstanding options will become fully exercisable if the
Trustee ceases to serve on the Board due to death or disability. All awards
granted under the Trustees' Plan shall be subject to Board or other approval
sufficient to provide exempt status for such grants under Section 16 of the
Exchange Act, as that section and Rules thereunder are in effect from time to
time. No option may be granted under the Trustees' Plan more than 10 years after
the date that the Board of Trustees approved the Plan. The Board may amend or
terminate the Trustees' Plan at any time but an amendment will not become
effective without shareholder approval if the amendment increases the number of
shares that may be issued under the Trustees' Plan (other than equitable
adjustments upon certain corporate transactions).
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CERTAIN RELATIONSHIPS AND TRANSACTIONS
The Company and the Partnership have entered into a number of transactions
with the Hersha Affiliates in connection with the organization of the Company
and the acquisition of the Initial Hotels. The officers and Trustees of the
Company collectively own 35% of the Lessee. The Lessee is entitled to all income
from the hotels after payment of operating expenses and lease payments. There
are no assurances that the terms of these transactions are as favorable as those
that the Company could have received from third parties. See "Risk Factors
- --Conflicts of Interest" and "Formation Transactions."
Repayment of Indebtedness and Guarantees by Mr. Shah and the Hersha Affiliates
Approximately $6.4 million of indebtedness owed by the Combined Entities
will be repaid with a portion of the proceeds of the Offering. Approximately $4
million of such indebtedness is owed to entities controlled by the Hersha
Affiliates and relates principally to hotel development expenses in connection
with the Initial Hotels. Certain of the Assumed Indebtedness is and will remain
guaranteed by the Hersha Affiliates. Upon the repayment of such indebtedness,
the Hersha Affiliates will be released from the related guarantees. The Hersha
Affiliates may receive increased cash distributions from the operations of the
Initial Hotels as a result of the reduction of indebtedness on the Initial
Hotels. Mr. Shah, the partners of the Combined Entities and certain of the
Combined Entities guarantee the Assumed Indebtedness, and the bankruptcy
of any of the guarantors would constitute a default under the related loan
documents.
Hotel Ownership and Management
Subject to the terms of the Option Agreement, the Hersha Affiliates could
acquire additional hotels that may not be acquired subsequently by the
Partnership. See "Policies and Objectives with Respect to Certain
Activities--Conflict of Interest Policies--The Option Agreement" and "Risk
Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the
Hersha Affiliates."
Option Agreement
Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel,
Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and
Manhar Gandhi, each a Hersha Affiliate, and the Partnership have entered into
the Option Agreement. Pursuant to the Option Agreement, the Partnership will
have a two-year option to acquire any hotels acquired or developed by the Hersha
Affiliates within 15 miles of any of the Initial Hotels or any subsequently
acquired hotel, including the Hampton Inn, Danville, Pennsylvania, the
Harrisburg Inn, Harrisburg, Pennsylvania, the Sleep Inn, Pittsburgh,
Pennsylvania and the land owned by Hersha Affiliates in Carlisle, Pennsylvania.
With respect to the Hampton Inn, Danville, Pennsylvania and the Sleep Inn,
Pittsburgh, Pennsylvania, the Partnership and the Hersha Affiliate that owns the
hotel have agreed that if the option is exercised by the Partnership, they will
use a purchase price methodology similar to the methodology used for the
Newly-Developed Hotels and have agreed to fix the rent until the hotel has two
years of operating history. In addition, the Partnership has agreed that, if the
option is exercised by the Partnership, it will issue Units valued at $6.00 per
Unit as consideration for the purchase of the hotel. See "Policies and
Objectives with Respect to Certain Activities--Conflict of Interest
Policies--The Option Agreement." The rights granted to the Partnership under the
Option Agreement commenced as of the date of the Option Agreement and shall
terminate one year after the later of: (i) the date upon which Hasu P. Shah
ceases to be a trustee, officer, partner or employee of the Company; (ii) the
date on which Hasu P. Shah ceases to be an employee, officer, trustee or
director of a consultant to the Company; (iii) the date on which Hasu P. Shah
and the Hersha Affiliates cease to own, in the aggregate, assuming a complete
conversion of all Units into shares of beneficial interest in the Company,
greater than 50% of shares of beneficial interest in the Company; or (iv) the
date on which the Company's Board of Trustees has less than three members that
are Hersha Affiliates.
Payment of Franchise Transfer Fees by the Company
The Company will pay certain expenses in connection with the transfer of
the Franchise Licenses to the Lessee. See "Formation Transactions--Benefits to
the Hersha Affiliates."
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THE LESSEE
The Lessee is a recently-formed Pennsylvania limited partnership. The
Lessee will lease each Initial Hotel pursuant to a separate Percentage Lease.
The Partnership intends to lease to the Lessee additional hotels acquired by the
Partnership on terms and conditions substantially similar to the Percentage
Leases applicable to the Initial Hotels. The Lessee's ability to perform its
obligations, including making Rent payments under the Percentage Leases, will be
dependent on the Lessee's ability to generate sufficient net cash flow from the
operation of the Initial Hotels and any other hotels leased to the Lessee. The
Lessee's obligations under the Percentage Leases are unsecured. Mr. Shah will
not guarantee the Lessee's obligations under the Percentage Leases, but the
Percentage Leases will contain cross-default provisions. Accordingly, the
Lessee's failure to make required payments under any of the Percentage Leases
will allow the Company to terminate any or all of the Percentage Leases. The
Hersha Affiliates own 100% of the Lessee and certain Hersha Affiliates serve as
officers of the Company. Consequently, they have a conflict of interest
regarding the enforcement of the Percentage Leases. See "Risk Factors--Conflicts
of Interest--No Arm's-Length Bargaining on Percentage Leases, Contribution
Agreements, Administrative Services Agreement and Option Agreement" and
"Business and Properties."
The Lessee will provide all employees and perform all marketing,
accounting and management functions necessary to operate the Initial Hotels
pursuant to the Percentage Leases. The Lessee has in-house programs for
accounting and the management and marketing of the Initial Hotels. The Lessee
intends to utilize its sales management program to coordinate, direct and manage
the sales activities of personnel located at the hotels.
Management of the Lessee
Certain information regarding the management of the Lessee is set forth
below:
Name Age Position
---- --- --------
K.D. Patel 54 President
Jay H. Shah 30 Vice President, General Counsel
and Secretary
Rajendra O. Gandhi 49 Vice President
David L. Desfor 37 Controller
Tracy L. Kundey 37 Director of Operations
K.D. Patel, biographical information for whom is set forth under
"Management--Trustees and Executive Officers," will serve as President of the
Lessee.
Jay H. Shah will serve as Vice President, Secretary and General Counsel of
the Lessee. Mr. Shah is a principal and general counsel for Hersha Enterprises,
Ltd. Mr. Shah also takes an active role in the firm's development and
construction activities. He also serves on the Choice Hotels International
Franchise Board. Mr. Shah was employed by Coopers & Lybrand LLP as a tax
consultant in 1995 and 1996 and previously served the late Senator John Heinz as
a Legislative Assistant. He also was employed by the Philadelphia District
Attorney's office and two Philadelphia-based law firms. Mr. Shah received a
Bachelor of Science degree from the Cornell University School of Hotel
Administration, a Masters degree from the Temple University School of Business
Management and a Law degree from Temple University School of Law. Mr. Shah is
the son of Hasu P. Shah, the Company's Chairman and Chief Executive Officer.
Rajendra O. Gandhi will serve as Vice President of the Lessee. Mr. Gandhi
has been a principal of Hersha Enterprises, Ltd. since 1986. Mr. Gandhi
currently serves as President of Hersha Hotel Supply, Inc., which provides
furnishings, case goods and interior furnishing materials to hotels and nursing
homes in several states. Mr. Gandhi is a graduate of the University of Bombay,
India and obtained an MBA degree from the University of West Palm Beach,
Florida.
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David L. Desfor will serve as Vice President of the Lessee. Mr. Desfor has
been a principal of Hersha Enterprises, Ltd. since 1991. Mr. Desfor is currently
the Controller of Hersha Enterprises, Ltd. Mr. Desfor is a graduate of East
Stroudsburg University with a Bachelor of Science degree in Hotel Management.
Tracy L. Kundey will serve as the Director of Operations of the Lessee.
Mr. Kundey was previously with Wellsprings Management Group, Inc., a company
that he founded with a partner. He held the position of President responsible
for all aspects of a hospitality management company. Mr. Kundey has 19 years of
experience in the hospitality industry ranging from front desk attendant to
Corporate Rooms Division Manager. He is a Certified Hotel Administrator and
Certified Rooms Division Executive. Mr. Kundey has a Bachelors of Science Degree
from Eastern Washington University.
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PRINCIPAL SHAREHOLDERS
The following table sets forth certain information regarding the
beneficial ownership of Priority and Class B Common Shares by (i) each Trustee
of the Company, (ii) each executive officer of the Company and (iii) by all
Trustees and executive officers of the Company as a group immediately following
completion of the Formation Transactions. Unless otherwise indicated, all shares
are owned directly and the indicated person has sole voting and investment
power. The number of shares represents the number of Priority Common Shares into
which Subordinated Units expected to be held by the person may be redeemed in
certain circumstances.
Number of Shares Percent of
Name of Beneficial Owner Beneficially Owned Class
Hasu P. Shah(1) 622,900(2) 25.4%
K.D. Patel 451,900(2) 19.8%
Bharat C. Mehta 736,200(2) 28.7%
Kiran P. Patel 309,400(2) 14.4%
L. McCarthy Downs 0 --
Everette G. Allen, Jr. 30,000 1.6%
Thomas S. Capello 3,000 (4)
Mark R. Parthemer 1,000 (4)
Total for all officers
and Trustees 2,154,400(3) 54.5%
=========
- ---------------------
(1) Prior to the Offering, the Company will repurchase 100 Class B Common
Shares currently owned by Mr. Shah at his cost of $100.
(2) Represents Subordinated Units to be owned by such person upon completion
of the Formation Transactions and assumes (i) that all Subordinated Units
held by such person are redeemed for Class B Common Shares and (ii)
conversion of the Class B Common Shares into Priority Common Shares on a
one-for-one basis. The total number of shares outstanding used in
calculating the percentage assumes that none of the Subordinated Units
held by other persons are redeemed for Class B Common Shares. Such
Subordinated Units generally are not redeemable for Class B Common Shares
until at least one year following the acquisition of the Initial Hotels.
Does not include any Priority Common Shares that such person may purchase
from the Company is the offering of 166,666 shares to Hersha Affiliates.
(3) Assumes (i) that all Subordinated Units held by such persons are redeemed
for Class B Common Shares and (ii) conversion of the Class B Common Shares
into Priority Common Shares on a one-for-one basis. The total number of
shares outstanding used in calculating the percentage assumes that none of
the Subordinated Units held by other persons are redeemed for Class B
Common Shares. Such Subordinated Units generally are not redeemable for
Class B Common Shares until at least one year following the acquisition of
the Initial Hotels.
(4) Will own less than 1% of the Priority Common Shares immediately
following completion of the Formation Transactions.
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DESCRIPTION OF SHARES OF BENEFICIAL INTEREST
The following summary of the terms of the shares of beneficial interest of
the Company 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 the Company,
copies of which are exhibits to the Registration Statement of which this
Prospectus is a part. See "Additional Information."
General
The Declaration of Trust of the Company provides that the Company may
issue up to 50,000,000 priority Class A common shares of beneficial interest,
$0.01 par value per share ("Priority Common Shares"), 50,000,000 Class B common
shares of beneficial interest, $0.01 par value per share ("Class B Common
Shares"), and 10,000,000 preferred shares of beneficial interest, $0.01 par
value per share ("Preferred Shares"). Upon completion of this Offering and the
related transactions, 2,000,000 Priority Common Shares will be issued and
outstanding and no Class B Common or Preferred Shares will be issued and
outstanding. Upon the termination of the Priority Period (as herein defined),
the outstanding Class B Common Shares will be automatically converted into
Priority Common Shares on a one-for-one basis. As permitted by the Maryland
statute governing real estate investment trusts formed under the laws of that
state (the "Maryland REIT Law"), the Declaration of Trust contains a provision
permitting the Board of Trustees, without any action by the shareholders of the
Company, 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 the Company has authority to issue.
Both the Maryland REIT Law and the Company's Declaration of Trust provide
that no shareholder of the Company will be personally liable for any obligation
of the Company solely as a result of his status as a shareholder of the Company.
The Company's Bylaws further provide that the Company shall indemnify each
shareholder against any claim or liability to which the shareholder, subject to
certain limitations, may become subject by reason of his being or having been a
shareholder or former shareholder and that the Company shall pay or reimburse
each shareholder or former shareholder for all legal and other expenses
reasonably incurred by him in connection with any claim or liability. Inasmuch
as the Company carries public liability insurance which it considers adequate,
any risk of personal liability to shareholders is limited to situations in which
the Company's assets plus its insurance coverage would be insufficient to
satisfy the claims against the Company and its shareholders.
The Priority Common Shares
General
The holders of the Priority Common Shares shall be entitled to the
Priority Rights for the Priority Period. The Priority Period is the period
beginning on the date of the closing of the Offering and ending on the earlier
of: (i) the date that is 15 trading days after the Company sends notice to the
holders of the Priority Common Shares that their Priority Rights will terminate
in 15 trading days, provided that the closing bid price of the Priority Common
Shares is at least $7.00 on each trading day during such 15-day period; or (ii)
the fifth anniversary of the closing of the Offering. Notwithstanding the
foregoing, the Priority Period shall not end until the holders of the Priority
Common Shares have received any accrued, but unpaid, Priority Distributions.
Upon termination of the Priority Period: (i) the holders of the Priority
and Class B Common Shares will be entitled to their pro rata share of the
Company's dividends and amounts payable upon liquidation; and (ii) the Class B
Common Shares automatically will be converted into Priority Common Shares on a
one-for-one basis. See "--The Class B Common Shares."
The Priority Rights consist of the dividend priority and the liquidation
priority.
The Dividend Priority
The holders of the Priority Common Shares are entitled to receive
dividends, when and as declared by the Board of Trustees, out of assets legally
available for the payment of dividends. During the Priority Period, the holders
of the Priority Common Shares shall be entitled to receive, prior to any
distributions to either the holders of the Subordinated Units or to the holders
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of the Class B Common Shares, cumulative dividends in an amount per Priority
Common Share equal to $0.18 per quarter (the "Priority Distribution"). After the
holders of the Subordinated Units and the Class B Common Shares have received an
amount per Subordinated Unit or per Class B Common Share equal to the Priority
Distribution, the holders of the Priority Common Shares shall be entitled to
receive any further distributions on a pro rata basis with the holders of the
Subordinated Units and the Class B Common Shares. After the Priority Period, the
holders of the Priority Common Shares shall be entitled to receive any further
distributions on a pro rata basis with the holders of the Subordinated Units and
the Class B Common Shares. The dividends paid to the holders of the Priority
Common Shares will be subject to the rights of any class or series of Preferred
Shares.
Dividends will accrue from the date of the original issuance of the
Priority Common Shares, resulting in a partial dividend for the quarter in which
they are issued. The initial dividend for the quarter in which the closing of
the Offering occurs will be prorated based on the number of days in the quarter
following the closing of the Offering and will be paid with the dividend payable
to holders of record on March 31, 1999. Such dividend and any other dividends
payable on the Priority Common Shares for any period greater or less than a full
dividend period will be computed on the basis of a 360-day year consisting of
twelve 30-day months. Dividends on the Priority Common Shares are cumulative
from the most recent dividend payment date to which full dividends have been
paid and will accrue whether or not the Company has earnings, whether or not
there are funds legally available for the payment of such distributions and
whether or not such distributions are authorized. Accrued but unpaid
distributions on the Priority Common Shares will not bear interest and holders
of the Priority Common Shares will not be entitled to any distributions in
excess of full cumulative distributions as described above.
The Company intends to contribute the net proceeds of the sale of the
Priority Common Shares to the Partnership in exchange for an equal number of
Priority Class A Common Units in the Partnership, the economic terms of which
will be substantially identical to those of the Priority Common Shares. See
"Partnership Agreement."
During the Priority Period, no dividend may be declared or paid or other
distribution of cash or other property declared or made directly by the Company
or any person acting on behalf of the Company on any shares of beneficial
interest that rank junior to the Priority Common Shares as to the payment of
dividends or amounts upon liquidation, dissolution and winding up ("Junior
Shares") unless full cumulative dividends have been declared and paid or are
contemporaneously declared and funds sufficient for payment set aside on the
Priority Common Shares for all prior and contemporaneous dividend periods;
provided, however, that if accumulated and accrued dividends on the Priority
Common Shares for all prior and contemporaneous dividend periods have not been
paid in full then any dividend declared on the Priority Common Shares for any
dividend period and on any shares of beneficial interest of the Company that
rank on parity with the Priority Common Shares as to the payment of dividends or
amounts upon liquidation, dissolution and winding up ("Parity Shares") will be
declared ratably in proportion to accumulated, accrued and unpaid dividends on
the Priority Common Shares and such Parity Shares.
No distributions on the Priority Common Shares shall be authorized by the
Board of Trustees or paid or set apart for payment by the Company at such time
as the terms and provisions of any agreement of the Company, including any
agreement relating to its indebtedness, prohibits such authorization, payment or
setting apart for payment or provides that such authorization, payment or
setting apart for payment would constitute a breach thereof or a default
thereunder, or if such authorization or payment shall be restricted or
prohibited by law.
Any distribution payment made on the Priority Common Shares shall first be
credited against the earliest accrued but unpaid distribution due with respect
to such shares which remains payable.
If, for any taxable year, the Company elects to designate as "capital gain
distributions" (as defined in Section 857 of the Code) any portion (the "Capital
Gains Amount") of the distributions paid or made available for the year to the
holders of all classes of shares (the "Total Distributions"), then the portion
of the Capital Gains Amount that will be allocable to the holders of Priority
Common Shares will be the Capital Gains Amount multiplied by a fraction, the
numerator of which will be the total distributions (within the meaning of the
Code) paid or made available to the holders of the Priority Common Shares for
the year and the denominator of which shall be the Total Distributions.
As used herein, the term "dividend" does not include dividends payable
solely in Junior Shares on Junior Shares, or in options, warrants or rights to
holders of Junior Shares to subscribe for or purchase any Junior Shares.
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The Liquidation Priority
In the event of any liquidation, dissolution or winding up of the Company,
whether voluntary or involuntary, during the Priority Period, the holders of the
Priority Common Shares shall be entitled to receive, prior to any liquidating
payments to the holders of the Class B Common Shares, $6.00 per Priority Common
Share (the "Liquidation Preference"), plus any accumulated and unpaid Priority
Distributions (whether or not declared) on the Priority Common Shares to the
date of distribution. After the holders of the Class B Common Shares have
received an amount equal to the Liquidation Preference plus any accumulated and
unpaid Priority Distributions (whether or not declared) on the Class B Common
Shares to the date of distribution, the holders of the Priority Common Shares
shall share ratably with the holders of the Class B Common Shares in the assets
of the Company. In the event of any liquidation, dissolution or winding up of
the Company, whether voluntary or involuntary, after the Priority Period, the
holders of the Priority Common Shares shall share ratably with the holders of
the Class B Common Shares in the assets of the Company. The rights of the
holders of the Priority Common Shares to liquidating payments shall be subject
to rights of any class or series of Preferred Shares.
If, upon any liquidation, dissolution or winding up of the Company, the
assets of the Company, or proceeds thereof, distributable among the holders of
the Priority Common Shares are insufficient to pay in full the Liquidation
Preference and all accumulated and unpaid dividends with respect to any of the
Parity Shares, then such assets or the proceeds thereof will be distributed
among the holders of the Priority Common Shares and any such Parity Shares
ratably in accordance with the respective amounts that would be payable on the
Priority Common Shares and such Parity Shares if all amounts payable thereon
were paid in full. None of (i) a consolidation or merger of the Company with
another corporation, (ii) a statutory share exchange by the Company or (iii) a
sale or transfer of all or substantially all of the Company's assets will be
considered a liquidation, dissolution or winding up, voluntary or involuntary,
of the Company.
The Class B Common Shares
General
Subject to the preferential rights of the Priority Common Shares during
the Priority Period or of any other shares or series of beneficial interest and
to the provisions of the Company's Declaration of Trust regarding the
restriction on the transfer of shares of beneficial interest, holders of Class B
Common Shares are entitled to receive dividends on shares if, when and as
authorized and declared by the Board of Trustees of the Company out of assets
legally available therefor and to share ratably in the assets of the Company
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 the Company. See "--Voting Rights of
Priority Common Shares and Class B Common Shares." In the event that during the
Priority period the Company at any time is unable to pay to the holders of the
Class B Common Shares an amount per Class B Common Share equal to the Priority
Distribution, the holders of the Class B Common Shares shall be entitled to
receive such amounts from time to time to the effect that the cumulative
distributions received per Class B Common Share are equal to the cumulative
Priority Distribution received per Priority Common Share. The Company shall pay
such amounts at such subsequent dividend payment dates, if any, that the Company
has cash available for distribution to shareholders to pay such dividends.
Holders of Class B Common Shares have no preference, sinking fund,
redemption or appraisal rights and have no preemptive rights to subscribe for
any securities of the Company. Subject to the provisions of the Declaration of
Trust regarding the restriction on transfer of shares of beneficial interest,
the Class B Common Shares have equal voting, dividend, distribution, liquidation
and other rights.
Conversion
The Class B Common Shares will be converted automatically upon the
termination of the Priority Period into authorized but previously unissued
Priority Common Shares on a one-for-one basis, subject to adjustment as
described below (the "Conversion Ratio"). See "--Conversion Ratio Adjustments."
A notice informing holders of the Class B Common Shares of such conversion will
be mailed by the Company to the holders of record of the Class B Common Shares
as of the dividend payment record date for the next dividend payable after the
expiration of the Priority Period, together with the dividend payable on such
shares, at their respective addresses as they appear on the share transfer
records of the Company. No fewer than all of the outstanding Class B Common
Shares shall be converted.
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If the expiration of the Priority Period falls after a dividend payment
record date and prior to the related payment date, the holders of the Class B
Common Shares at the close of business on such record date will be entitled to
receive the dividend payable on such shares on the corresponding dividend
payment date, notwithstanding the conversion of such shares prior to such
dividend payment date.
Upon expiration of the Priority Period, each holder of Class B Common
Shares will be, without any further action, deemed a holder of the number of
Priority Common Shares, as the case may be, into which such Class B Common
Shares are convertible. Fractional Priority Common Shares will not be issued
upon conversion of the Class B Common Shares.
Conversion Ratio Adjustments
The Conversion Ratio is subject to adjustment upon certain events,
including (i) the payment of dividends (and other distributions) payable in
Priority Common Shares on any class of shares of beneficial interest of the
Company, (ii) subdivisions, combinations and reclassifications of Priority
Common Shares and (iii) distributions to all holders of Priority Common Shares
of evidences of indebtedness of the Company or assets (including securities, but
excluding those dividends, rights, warrants and distributions referred to in
clause (i) or (ii) above and dividends and distributions paid in cash). In
addition to the foregoing adjustments, the Company will be permitted to make
such reductions in the Conversion Ratio as it considers to be advisable in order
that any event treated for Federal income tax purposes as a dividend of Shares
or share rights will not be taxable to the holders of the Class B Common Shares
or, if that is not possible, to diminish any income taxes that are otherwise
payable because of such event.
No adjustment of the Conversion Ratio is required to be made in any case
until cumulative adjustments amount to 1% or more of the Conversion Ratio. Any
adjustments not so required to be made will be carried forward and taken into
account in subsequent adjustments.
Voting Rights of Priority Common Shares and Class B Common Shares
The holders of the Priority Common Shares and the Class B Common Shares
(the "Common Shares") have identical voting rights and will vote together as a
single class.
Subject to the provisions of the Declaration of Trust regarding the
restriction of the 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 such Common Shares 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, voting as a single class, can elect
all of the Trustees then standing for election and the holders of the remaining
shares will not be able to elect any trustees.
Under the Maryland REIT Law, a Maryland REIT generally cannot amend its
declaration of trust or merge unless approved by the affirmative vote 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 the votes
entitled to be cast on the matter) is set forth in the REIT's Declaration of
Trust. The Company's Declaration of Trust provides for approval by a majority of
all the votes entitled to be cast on the matter in all situations permitting or
requiring action by the shareholders except with respect to: (a) the intentional
disqualification of the Company as a REIT or revocation of its election to be
taxed as a REIT (which requires the affirmative vote of two-thirds of the number
of Common Shares entitled to vote on such matter at a meeting of the
shareholders of the Company); (b) the election of trustees (which requires a
plurality of all the votes cast at a meeting of shareholders of the Company at
which a quorum is present); (c) the removal of trustees (which requires the
affirmative vote of the holders of two-thirds of the outstanding voting shares
of the Company); (d) the amendment or repeal of certain designated sections of
the Declaration of Trust (which require the affirmative vote of two-thirds of
the outstanding shares entitled to vote on such matters); (e) the amendment of
the Declaration of Trust by shareholders (which requires the affirmative vote of
a majority of votes entitled to be cast on the matter, except under certain
circumstances specified in the Declaration of Trust that require the affirmative
vote of two-thirds of all the votes entitled to be cast on the matter); and (f)
the termination of the Company (which requires the affirmative vote of
two-thirds of all the votes entitled to be cast on the matter). 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. The Company's Declaration of Trust
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permits such action by a majority vote of the Trustees. As permitted by the
Maryland REIT Law, the Declaration of Trust contains a provision permitting the
Trustees, without any action by the shareholders of the Trust, 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 the Company has authority to issue.
Preferred Shares
The Declaration of Trust authorizes the Board of Trustees to classify any
unissued Preferred Shares and to reclassify any previously classified but
unissued Preferred Shares of any series from time to time in one or more series,
as authorized by the Board of Trustees. Prior to issuance of shares of each
series, the Board of Trustees is required by the Maryland REIT Law and the
Company's Declaration of Trust to set for each such series, subject to the
provisions of the Company's Declaration of Trust regarding the restriction on
transfer of shares of beneficial interest, the terms, the 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 the Company that might involve a premium price for holders of Common Shares
or otherwise might be in their best interest. As of the date hereof, no
Preferred Shares are outstanding and the Company has no present plans to issue
any Preferred Shares.
Classification or Reclassification of Common Shares or Preferred Shares
The Company's Declaration of Trust authorizes the Board of Trustees to
classify or reclassify any unissued Common Shares or Preferred Shares into one
or more classes or series of shares of beneficial interest by setting or
changing the preferences, conversion or other rights, voting powers,
restrictions, limitations as to dividends or distributions, qualifications or
terms or conditions of redemption of such new class or series of shares of
beneficial interest.
Restrictions on Ownership and Transfer
The Declaration of Trust, subject to certain exceptions described below,
provides that no person may own, or be deemed to own by virtue of the
attribution provisions of the Code, more than 9.9% of (i) the number of
outstanding Common Shares of any class or series of Common Shares or (ii) the
number of outstanding Preferred Shares of any class or series of Preferred
Shares (the "Ownership Limitation"). For this purpose, a person includes a
"group" and a "beneficial owner" as those terms are used for purposes of Section
13(d)(3) of the Exchange Act. Any transfer of Common or Preferred Shares that
would (i) result in any person owning, directly or indirectly, Common or
Preferred Shares in excess of the Ownership Limitation, (ii) result in the
Common and Preferred Shares being owned by fewer than 100 persons (determined
without reference to any rules of attribution), (iii) result in the Company
being "closely held" within the meaning of Section 856(h) of the Code, or (iv)
cause the Company to own, actually or constructively, 10% or more of the
ownership interests in a tenant of the Company's or the Partnership's real
property, within the meaning of Section 856(d)(2)(B) of the Code, will be null
and void, and the intended transferee will acquire no rights in such Common or
Preferred Shares.
Subject to certain exceptions described below, any Common Shares or
Preferred Shares the purported transfer of which would (i) result in any person
owning, directly or indirectly, Common Shares or Preferred Shares in excess of
the Ownership Limitation, (ii) result in the Common Shares and Preferred Shares
being owned by fewer than 100 persons (determined without reference to any rules
of attribution), (iii) result in the Company being "closely held" within the
meaning of Section 856(h) of the Code, or (iv) cause the Company to own,
actually or constructively, 10% or more of the ownership interests in a tenant
of the Company's or the Partnership's real property, within the meaning of
Section 856(d)(2)(B) of the Code, will be designated as "Shares-in-Trust" and
transferred automatically to a trust (a "Trust") effective on the day before the
purported transfer of such Common Shares or Preferred Shares. The record holder
of the Common or Preferred Shares that are designated as Shares-in-Trust (the
"Prohibited Owner") will be required to submit such number of Common Shares or
Preferred Shares to the Company for registration in the name of the Trust (the
"Record Holder"). The Trustee will be designated by the Company, but will not be
affiliated with the Company. The beneficiary of a Trust (the "Beneficiary") will
be one or more charitable organizations that are named by the Company.
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Shares-in-Trust will remain issued and outstanding Common Shares or
Preferred Shares and will be entitled to the same rights and privileges as all
other shares of the same class or series. The Record Holder will receive all
dividends and distributions on the Shares-in-Trust and will hold such dividends
or distributions in trust for the benefit of the Beneficiary. The Record Holder
will vote all Shares-in-Trust. The Record Holder will designate a permitted
transferee of the Shares-in-Trust, provided that the permitted transferee (i)
purchases such Shares-in-Trust for valuable consideration and (ii) acquires such
Shares-in-Trust without such acquisition resulting in a transfer to another
Trust.
The Prohibited Owner with respect to Shares-in-Trust will be required to
repay to the Record Holder the amount of any dividends or distributions received
by the Prohibited Owner (i) that are attributable to any Shares-in-Trust and
(ii) the record date of which was on or after the date that such shares became
Shares-in-Trust. The Prohibited Owner generally will receive from the Record
Holder the lesser of (i) the price per share such Prohibited Owner paid for the
Common Shares or Preferred Shares that were designated as Shares-in-Trust (or,
in the case of a gift or devise, the Market Price (as defined below) per share
on the date of such transfer) or (ii) the price per share received by the Record
Holder from the sale of such Shares-in-Trust. Any amounts received by the Record
Holder in excess of the amounts to be paid to the Prohibited Owner will be
distributed to the Beneficiary.
The Shares-in-Trust will be deemed to have been offered for sale to the
Company, or its designee, at a price per share equal to the lesser of (i) the
price per share in the transaction that created such Shares-in-Trust (or, in the
case of a gift or devise, the Market Price per share on the date of such
transfer) or (ii) the Market Price per share on the date that the Company, or
its designee, accepts such offer. The Company will have the right to accept such
offer for a period of 90 days after the later of (i) the date of the purported
transfer which resulted in such Shares-in-Trust or (ii) the date the Company
determines in good faith that a transfer resulting in such Shares-in-Trust
occurred.
"Market Price" on any date shall mean the average of the Closing Prices
(as defined below) for the five consecutive Trading Days (as defined below)
ending on such date. The "Closing Price" on any date shall mean the last quoted
sale price as reported by The American Stock Exchange. "Trading Day" shall mean
a day on which the principal national securities exchange on which the Common or
Preferred Shares are listed or admitted to trading is open for the transaction
of business or, if the Common or Preferred Shares are not listed or admitted to
trading on any national securities exchange, shall mean any day other than a
Saturday, a Sunday or a day on which banking institutions in the State of New
York are authorized or obligated by law or executive order to close.
Any person who acquires or attempts to acquire Common or Preferred Shares
in violation of the foregoing restrictions, or any person who owned Common or
Preferred Shares that were transferred to a Trust, will be required (i) to give
immediately written notice to the Company of such event and (ii) to provide to
the Company such other information as the Company may request in order to
determine the effect, if any, of such transfer on the Company's status as a
REIT.
All persons who own, directly or indirectly, more than 5% (or such lower
percentages as required pursuant to regulations under the Code) of the
outstanding Common and Preferred Shares must, within 30 days after December 31
of each year, provide to the Company a written statement or affidavit stating
the name and address of such direct or indirect owner, the number of Common and
Preferred Shares owned directly or indirectly, and a description of how such
shares are held. In addition, each direct or indirect shareholder shall provide
to the Company such additional information as the Company may request in order
to determine the effect, if any, of such ownership on the Company's status as a
REIT and to ensure compliance with the Ownership Limitation.
The Ownership Limitation generally will not apply to the acquisition of
Common or Preferred Shares by an underwriter that participates in a public
offering of such shares. In addition, the Trustees, upon receipt of advice of
counsel or other evidence satisfactory to the Trustees, in their sole and
absolute discretion, may, in their sole and absolute discretion, exempt a person
from the Ownership Limitation under certain circumstances. The foregoing
restrictions will continue to apply until (i) the Trustees determines that it is
no longer in the best interests of the Company to attempt to qualify, or to
continue to qualify, as a REIT and (ii) there is an affirmative vote of
two-thirds of the number of Common and Preferred Shares entitled to vote on such
matter at a regular or special meeting of the shareholders of the Company.
All certificates representing Common or Preferred Shares will bear a
legend referring to the restrictions described above.
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The Ownership Limitation could have the effect of delaying, deferring or
preventing a change in control or other transaction in which holders of some, or
a majority, of shares of Common Shares might receive a premium for their shares
of Common Shares over the then prevailing market price or which such holders
might believe to be otherwise in their best interest.
Other Matters
The transfer agent and registrar for the Company's Priority Common Shares
will be First Union National Bank of North Carolina, Charlotte, North Carolina.
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CERTAIN PROVISIONS OF MARYLAND LAW
AND OF THE COMPANY'S DECLARATION
OF TRUST AND BYLAWS
The following summary of certain provisions of Maryland law and of the
Declaration of Trust and Bylaws of the Company is subject to and qualified in
its entirety by reference to Maryland law and to the Declaration of Trust and
Bylaws of the Company, copies of which are included as exhibits to the
Registration Statement of which this Prospectus is a part. See "Additional
Information."
Classification of the Board of Trustees
The Bylaws provide that the number of trustees of the Company may be
established by the Board of Trustees but may not be fewer than three nor more
than nine. At the closing of the Offering, there will be seven Trustees. The
Trustees may increase or decrease the number of Trustees by a vote of at least
80% of the members of the Board of Trustees, provided that the number of
Trustees shall never be less than the number required by Maryland law and that
the tenure of office of a Trustee shall not be affected by any decrease in the
number of Trustees. Any vacancy will be filled, including a vacancy created by
an increase in the number of Trustees, at any regular meeting or at any special
meeting called for that purpose, by a majority of the remaining Trustees or, if
no Trustees remain, by a majority of the shareholders.
Pursuant to the Declaration of Trust, the Board of Trustees is divided
into two classes of Trustees with initial terms expiring in 1999 and 2000,
respectively. Beginning in 1999, Trustees of each class are chosen for two-year
terms upon the expiration of their current terms and each year one class of
Trustees will be elected by the shareholders. The Company believes that
classification of the Board of Trustees will help to assure the continuity and
stability of the Company's business strategies and policies as determined by the
Trustees. Holders of Common Shares will have no right to cumulative voting in
the election of Trustees. Consequently, at each annual meeting of shareholders,
the holders of a majority of the Common Shares will be able to elect all of the
successors of the class of Trustees whose terms expire at that meeting.
The classified board provision could have the effect of making the
replacement of incumbent trustees more time consuming and difficult. The
staggered terms of Trustees may delay, defer or prevent a tender offer or an
attempt to change control of the Company or other transaction that might involve
a premium price for holders of Common Shares, even though a tender offer, change
in control or other transaction might be in the best interest of the
shareholders.
Removal of Trustees
The Declaration of Trust provides that a Trustee may be removed with or
without cause upon the affirmative vote of at least two-thirds of the votes
entitled to be cast in the election of Trustees. Absent removal of all of the
Trustees, this provision, when coupled with the provision in the Bylaws
authorizing the Board of Trustees to fill vacant trusteeships, precludes
shareholders from removing incumbent Trustees, except upon a substantial
affirmative vote, and filling the vacancies created by such removal with their
own nominees.
Business Combinations
Under the MGCL, as applicable to Maryland REITs, certain "business
combinations" (including a merger, consolidation, share exchange or, in certain
circumstances, an asset transfer or issuance or reclassification of equity
securities) between a Maryland REIT and any person who beneficially owns ten
percent or more of the voting power of the trust's shares or an affiliate or
associate of the trust who, at any time within the two-year period prior to the
date in question, was the beneficial owner of 10% or more of the voting power
(an "Interested Shareholder") or an affiliate thereof are prohibited for five
years after the most recent date on which the shareholder becomes an Interested
Shareholder. Thereafter, any such business combination must be recommended by
the board of trustees of such trust and approved by the affirmative vote of at
least (a) 80% of the votes entitled to be cast by holders of outstanding voting
shares of beneficial interest of the trust and (b) two-thirds of the votes
entitled to be cast by holders of voting shares of the trust other than shares
held by the Interested Shareholder with whom (or with whose affiliate) the
business combination is to be effected, or by an affiliate or associate of the
Interested Shareholder, voting together as a single group, 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 shares.
These provisions of Maryland law do not apply, however, to business combinations
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that are approved or exempted by the board of trustees of the trust prior to the
time that the Interested Shareholder becomes an Interested Shareholder. The
Company intends to adopt a resolution opting out of the business combination
provisions prior to the Closing Date.
Control Share Acquisitions
The MGCL contains control share acquisition provisions. The Bylaws of the
Company contain a provision opting out of these provisions, but there can be no
assurance that such Bylaw provision will not be amended or eliminated at any
time in the future.
The MGCL, as applicable to Maryland REITs that have not opted out of the
provisions, provides that control shares (as defined below) of a Maryland REIT
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 of beneficial interest owned by the acquiror, by
officers or by trustees who are employees of the trust. "Control Shares" are
voting shares of beneficial interest which, if aggregated with all other such
shares of beneficial interest 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.
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 (a) to shares
acquired in a merger, consolidation or share exchange if the trust is a party to
the transaction or (b) to acquisitions approved or exempted by the declaration
of trust or bylaws of the trust prior to such acquisition.
Amendment
The Declaration of Trust provides that it may be amended with the approval
of at least a majority of all of the votes entitled to be cast on the matter,
but that certain provisions of the Declaration of Trust regarding (i) the
Company's Board of Trustees, including the provisions regarding Independent
Trustee requirements, (ii) the restrictions on transfer of the Common Shares and
the Preferred Shares, (iii) amendments to the Declaration of Trust by the
Trustees and the shareholders of the Company and (iv) the termination of the
Company may not be amended, altered, changed or repealed without the approval of
two-thirds of all of the votes entitled to be cast on these matters. In
addition, the Declaration of Trust provides that it may be amended by the Board
of Trustees, without shareholder approval to (a) increase or decrease the
aggregate number of shares of beneficial interest or the number of shares of any
class of beneficial interest that the Trust has authority to issue or (b)
qualify as a REIT under the Code or under the Maryland REIT law. The Company's
Bylaws may be amended or altered exclusively by the Board of Trustees.
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Limitation of Liability and Indemnification
The Maryland REIT Law permits a Maryland REIT 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) active and deliberate dishonesty established
by a final judgment and that is material to the cause of action. The Declaration
of Trust of the Company contains such a provision which limits such liability to
the maximum extent permitted by Maryland law.
The Declaration of Trust of the Company 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 the Company and at the request of the Company, 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, partner of such 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 from and against any claim or liability to which such person may
become subject or which such person may incur by reason of his status as a
present or former shareholder, Trustee or officer of the Company. The Bylaws of
the Company obligate it, to the maximum extent permitted by Maryland law, to
indemnify: (a) any present or former Trustee, officer or shareholder (including
any individual who, while a Trustee, officer or shareholder and at the express
request of the Company, serves another entity as a director, officer,
shareholder, partner or trustee of such entity) who has been successful, on the
merits or otherwise, in the defense of a proceeding to which he was made a party
by reason of service in such capacity, against reasonable expenses incurred by
him in connection with the proceeding; (b) subject to certain limitations under
Maryland law, any present or former Trustee or officer against any claim or
liability to which he may become subject by reason of such status; and (c) each
present or former shareholder against any claim or liability to which he may
become subject by reason of such status. In addition, the Bylaws obligate the
Company, subject to certain provisions of Maryland law, to pay or reimburse, in
advance of final disposition of a proceeding, reasonable expenses incurred by a
present or former Trustee, officer or shareholder made a party to a proceeding
by reason of such status. The Company may, with the approval of its Trustees,
provide such indemnification or payment or reimbursement of expenses to any
present or former Trustee, officer or shareholder of the Company or any
predecessor of the Company and to any employee or agent of the Company or
predecessor of the Company.
The Maryland REIT Law permits a Maryland REIT 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 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, a Maryland corporation may not indemnify for
an adverse judgment in a suit by or in the right of the corporation or for a
judgment of liability on the basis that personal benefit was improperly
received, unless in either case a court orders indemnification and then only for
expenses. In accordance with the MGCL, the Bylaws of the Company require it, as
a condition to advancing expenses, to obtain (a) a written affirmation by the
director or officer of his good faith belief that he has met the standard of
conduct necessary for indemnification by the Company as authorized by the Bylaws
and (b) a written undertaking by him or on his behalf to repay the amount paid
or reimbursed by the Company if it shall ultimately be determined that the
standard of conduct was not met.
Operations
The Company is generally prohibited from engaging in certain activities,
including acquiring or holding property or engaging in any activity that would
cause the Company to fail to qualify as a REIT.
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Dissolution of the Company
Pursuant to the Company's Declaration of Trust, and subject to the
provisions of any class or series of shares of beneficial interest of the
Company then outstanding, the shareholders of the Company, at any meeting
thereof, may terminate the Company by the affirmative vote of two-thirds of all
of the votes entitled to be cast on the matter after the authorization, advice
and approval thereof by a majority of the Board of Trustees.
Advance Notice of Trustees Nominations and New Business
The Bylaws of the Company provide that (a) with respect to an annual
meeting of shareholders, nominations of persons for election to the Board of
Trustees and the proposal of business to be considered by shareholders may be
made only (i) pursuant to the Company's notice of the meeting, (ii) by the Board
of Trustees or (iii) by a shareholder who was a shareholder of record both at
the time of the provision of notice and at the time of the meeting who is
entitled to vote at the meeting and has complied with the advance notice
procedures set forth in the Bylaws and (b) with respect to special meetings of
shareholders, only the business specified in the Company's notice of meeting may
be brought before the meeting of shareholders and nominations of persons for
election to the Board of Trustees may be made only (i) pursuant to the Company's
notice of the meeting, (ii) by the Board of Trustees or (iii) provided that the
Board of Trustees has determined that Trustees shall be elected at such meeting,
by a shareholder who was a shareholder of record both at the time of the
provision of notice and at the time of the meeting who is entitled to vote at
the meeting and has complied with the advance notice provisions set forth in the
Bylaws.
Possible Anti-takeover Effect of Certain Provisions of Maryland Law and of the
Declaration of Trust and Bylaws
The business combination provisions and, if the applicable provision in
the Bylaws is rescinded, the control share acquisition provisions of the MGCL,
the provisions of the Declaration of Trust on classification of the Board of
Trustees, the removal of Trustees and the restrictions on the transfer of shares
of beneficial interest and the advance notice provisions of the Bylaws could
have the effect of delaying, deferring or preventing a transaction or a change
in control of the Company that might involve a premium price for holders of
Common Shares or otherwise be in their best interest.
Maryland Asset Requirements
To maintain its qualification as a Maryland REIT, the Maryland REIT Law
requires at least 75% of the value of the Company's assets to be held, directly
or indirectly, in real estate assets, mortgages or mortgage related securities,
government securities, cash and cash equivalent items, including high-grade
short term securities and receivables. The Maryland REIT Law also prohibits the
Company from using or applying land for farming, agricultural, horticultural or
similar purposes.
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SHARES AVAILABLE FOR FUTURE SALE
Upon the completion of the Offering and the related transactions, the
Company will have 1,833,334 Priority Common Shares outstanding and approximately
4 million Class B Common Shares and Priority Common Shares reserved for issuance
upon redemption of Subordinated Units. In addition, the Company will offer
166,666 Priority Common Shares to the Hersha Affiliates at the Offering Price.
The information contained herein assumes that none of the 166,666 Priority
Common Shares are sold. As described herein, the Class B Common Shares will be
converted into Priority Common Shares upon the termination of the Priority
Period on a one-for-one basis. The Priority Common Shares issued in the Offering
will be freely tradeable by persons other than "affiliates" of the Company
without restriction under the Securities Act, subject to certain limitations on
ownership set forth in the Declaration of Trust. See "Description of Shares of
Beneficial Interest--Restrictions on Transfer."
Pursuant to the Partnership Agreement, the Hersha Affiliates that own the
Combined Entities (collectively, the "Limited Partners") will receive the right
to redeem their Subordinated Units (the "Redemption Rights"), which will enable
them to cause the Partnership to redeem their interests in the Partnership in
exchange for cash or, at the option of the Company, Class B Common Shares on a
one-for-one basis. In the event that the Class B Common Shares are converted
into Priority Common Shares prior to redemption of the Subordinated Units, such
outstanding Subordinated Units will be redeemable for Priority Common Shares. If
the Company does not exercise its option to redeem such interests for Class B
Common Shares or Priority Common Shares, then the Limited Partner may make a
written demand that the Company redeem such interests for Class B Common Shares
or Priority Common Shares, to the extent that the issuance of such shares would
not result in the violation of the Ownership Limitation. The Redemption Rights
generally may be exercised by the Limited Partners at any time after one year
following the acquisition of the Initial Hotels with respect to the Subordinated
Units issued in connection with the Stabilized Hotels and at any time after the
First Adjustment Date or Second Adjustment Date, as applicable, with respect to
the Subordinated Units issued in connection with the Newly-Developed Hotels and
the Newly-Renovated Hotels, in whole or in part. See "The Partnership
Agreement--Redemption Rights." Any amendment to the Partnership Agreement that
would affect the Redemption Rights would require the consent of Limited Partners
holding more than 50% of the Units held by Limited Partners (except the
Company).
Common Shares issued to holders of Units upon exercise of the Redemption
Rights will be "restricted" securities under the meaning of Rule 144 promulgated
under the Securities Act ("Rule 144") and may not be sold in the absence of
registration under the Securities Act unless an exemption from registration is
available, including exemptions contained in Rule 144.
In general, under Rule 144 as currently in effect, if one year has elapsed
since the later of the date of acquisition of restricted shares from the Company
or any "affiliate" of the Company, as that term is defined under the Securities
Act, the acquiror or subsequent holder thereof is entitled to sell within any
three-month period a number of shares that does not exceed the greater of 1% of
the then outstanding Common Shares or the average weekly trading volume of the
Common Shares during the four calendar weeks preceding the date on which notice
of the sale is filed with the Securities and Exchange Commission (the
"Commission"). Sales under Rule 144 also are subject to certain manner of sale
provisions, notice requirements and the availability of current public
information about the Company. If two years have elapsed since the date of
acquisition of restricted shares from the Company or from any "affiliate" of the
Company, and the acquiror or subsequent holder thereof is deemed not to have
been an "affiliate" of the Company at any time during the three months preceding
a sale, such person would be entitled to sell such shares in the public market
under Rule 144(k) without regard to the volume limitations, manner of sale
provisions, public information requirements or notice requirements.
Under certain circumstances, the Company has agreed to file a registration
statement with the Commission covering the resale of any Common Shares issued to
a Limited Partner upon redemption of Units. The Limited Partners may request
such a registration if the Limited Partners, as a group, request registration of
at least 250,000 Common Shares; provided however, that only two such
registrations may occur each year. Upon such request, the Company will use its
best efforts to have the registration statement declared effective. In addition,
the Limited Partners will have "piggyback" registration rights, subject to
certain volume and marketing limitations imposed by the Underwriter. If, during
the prior two years there has not been an opportunity for a piggyback
registration, the Limited Partners holding Units redeemable for at least 50,000
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Common Shares may request a registration of those shares. Upon effectiveness of
such registration statement, those persons who receive Common Shares upon
redemption of Units may sell such shares in the secondary market without being
subject to the volume limitations or other requirements of Rule 144. The Company
will bear expenses incident to its registration requirements, except that such
expenses shall not include any selling commissions, Commission or state
securities registration fees, transfer taxes or certain other fees or taxes
relating to such shares. Registration rights may be granted to future sellers of
hotels to the Partnership who may receive, in lieu of cash, Common Shares, Units
or other securities convertible into Common Shares.
Prior to the date of this Prospectus, there has been no public market for
the Common Shares. Listing of the Common Shares on the American Stock Exchange
is expected to commence following the completion of the Offering. No prediction
can be made as to the effect, if any, that future sales of shares, or the
availability of shares for future sale, will have on the market price prevailing
from time to time. Sales of substantial amounts of Common Shares, or the
perception that such sales could occur, may affect adversely prevailing market
prices of the Common Shares. See "Risk Factors--Market for Priority Common
Shares" and "The Partnership Agreement--Transferability of Interests."
For a description of certain restrictions on transfers of Common Shares
held by certain shareholders of the Company, see "Underwriting."
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PARTNERSHIP AGREEMENT
The following summary of the Partnership Agreement, and the descriptions
of certain provisions thereof set forth elsewhere in this Prospectus, is
qualified in its entirety by reference to the Partnership Agreement, which is
filed as an exhibit to the Registration Statement of which this Prospectus is a
part.
Management
The Partnership has been organized as a Virginia limited partnership
pursuant to the terms of the Partnership Agreement. Pursuant to the Partnership
Agreement, the Company, as the sole general partner of the Partnership, will
have, subject to certain protective rights of Limited Partners described below,
full, exclusive and complete responsibility and discretion in the management and
control of the Partnership, including the ability to cause the Partnership to
enter into certain major transactions including acquisitions, dispositions,
refinancings and selection of lessees and to cause changes in the Partnership's
line of business and distribution policies. However, any amendment to the
Partnership Agreement that would affect the Redemption Rights will require the
consent of Limited Partners holding more than 50% of the Units held by such
partners.
The affirmative vote of Limited Partners holding at least two-thirds of
the general partnership interests in the Partnership, including the Company,
which will initially own approximately only a 32% interest in the Partnership,
is required for a sale of all or substantially all of the assets of the
Partnership, or to approve a merger or consolidation of the Partnership,
provided, however, that such approval shall no longer be required if the Company
fails to pay a distribution of $.72 per share to the holders of the Priority
Common Shares for any 12-month period.
Transferability of Interests
The Company may not voluntarily withdraw from the Partnership or transfer
or assign its interest in the Partnership unless the transaction in which such
withdrawal or transfer occurs results in the Limited Partners receiving property
in an amount equal to the amount they would have received had they exercised
their Redemption Rights immediately prior to such transaction, or unless the
successor to the Company contributes substantially all of its assets to the
Partnership in return for a general partnership interest in the Partnership.
With certain limited exceptions, the Limited Partners may not transfer their
interests in the Partnership, in whole or in part, without the written consent
of the Company, which consent the Company may withhold in its sole discretion.
The Company may not consent to any transfer that would cause the Partnership to
be treated as a corporation for federal income tax purposes.
Capital Contribution
The Company will contribute to the Partnership substantially all the net
proceeds of the Offering as its initial capital contribution in exchange for
approximately a 32% general partnership interest in the Partnership. Although
the Partnership will receive substantially all the net proceeds of the Offering,
the Company will be deemed to have made a capital contribution to the
Partnership in the amount of substantially all the gross proceeds of the
Offering and the Partnership will be deemed simultaneously to have paid the
underwriting discount and other expenses paid or incurred in connection with the
Offering. The Hersha Affiliates will make contributions to the Partnership and
will become Limited Partners in the Partnership and collectively will own
approximately a 68% limited partnership interest in the Partnership. The value
of each Limited Partner's capital contribution shall equal its pro rata share of
the value of the interests received by the Partnership. The Partnership
Agreement provides that if the Partnership requires additional funds at any time
or from time to time in excess of funds available to the Partnership from
borrowing or capital contributions, the Company may borrow such funds from a
financial institution or other lender and lend such funds to the Partnership on
the same terms and conditions as are applicable to the Company's borrowing of
such funds. Under the Partnership Agreement, the Company generally is obligated
to contribute the proceeds of an offering of shares of beneficial interest as
additional capital to the Partnership. Moreover, the Company is authorized to
cause the Partnership to issue partnership interests for less than fair market
value if the Company has concluded in good faith that such issuance is in the
best interests of the Company and the Partnership. If the Company so contributes
additional capital to the Partnership, the Company will receive additional Units
and the Company's percentage interest in the Partnership will be increased on a
proportionate basis based upon the amount of such additional capital
contributions and the value of the Partnership at the time of such
contributions. Conversely, the percentage interests of the Limited Partners will
be decreased on a proportionate basis in the event of additional capital
contributions by the Company. In addition, if the Company contributes additional
capital to the Partnership, the Company will revalue the property of the
Partnership to its fair market value (as determined by the Company) and the
capital accounts of the partners will be adjusted to reflect the manner in which
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the unrealized gain or loss inherent in such property (that has not been
reflected in the capital accounts previously) would be allocated among the
partners under the terms of the Partnership Agreement if there were a taxable
disposition of such property for such fair market value on the date of the
revaluation.
Redemption Rights
Pursuant to the Partnership Agreement, the Limited Partners will receive
the Redemption Rights, which will enable them to cause the Partnership to redeem
their interests in the Partnership in exchange for cash or, at the option of the
Company, Class B Common Shares on a one-for-one basis. In the event that the
Class B Common Shares are converted into Priority Common Shares prior to
redemption of the Subordinated Units, such outstanding Subordinated Units will
be redeemable for Priority Common Shares. If the Company does not exercise its
option to redeem such interests for Class B Common Shares, then the Limited
Partner may make a written demand that the Company redeem such interests for
Class B Common Shares. Notwithstanding the foregoing, a Limited Partner shall
not be entitled to exercise its Redemption Rights to the extent that the
issuance of Common Shares to the redeeming Limited Partner would (i) result in
any person owning, directly or indirectly, Common Shares in excess of the
Ownership Limitation, (ii) result in the shares of beneficial interest of the
Company being owned by fewer than 100 persons (determined without reference to
any rules of attribution), (iii) result in the Company being "closely held"
within the meaning of Section 856(h) of the Code, (iv) cause the Company to own,
actually or constructively, 10% or more of the ownership interests in a tenant
of the Company's or the Partnership's real property, within the meaning of
Section 856(d)(2)(B) of the Code, or (v) cause the acquisition of Common Shares
by such redeeming Limited Partner to be "integrated" with any other distribution
of Common Shares for purposes of complying with the Securities Act. With respect
to the Subordinated Units issued in connection with the acquisition of the
Stabilized Hotels, the Redemption Rights may be exercised by the Limited
Partners at any time after one year following the acquisition of the Stabilized
Hotels. With respect to the Subordinated Units issued in connection with the
acquisition of the Newly-Developed Hotels and the Newly-Renovated Hotels, the
Redemption Rights may not be exercised by the Limited Partners until after the
First Adjustment Date or Second Adjustment Date, as applicable. In all cases,
however, (i) each Limited Partner may not exercise the Redemption Right for
fewer than 1,000 Units or, if such Limited Partner holds fewer than 1,000 Units,
all of the Units held by such Limited Partner, (ii) each Limited Partner may not
exercise the Redemption Right for more than the number of Units that would, upon
redemption, result in such Limited Partner or any other person owning, directly
or indirectly, Common Shares in excess of the Ownership Limitation and (iii)
each Limited Partner may not exercise the Redemption Right more than two times
annually. The aggregate number of Common Shares initially issuable upon exercise
of the Redemption Rights will be approximately 4.0 million. The number of Common
Shares issuable upon exercise of the Redemption Rights will be adjusted upon the
revaluation on the First Adjustment Date and the Second Adjustment Date or the
occurrence of share splits, mergers, consolidations or similar pro rata share
transactions, which otherwise would have the effect of diluting or increasing
the ownership interests of the Limited Partners or the shareholders of the
Company.
Operations
The Partnership Agreement requires that the Partnership be operated in a
manner that will enable the Company to satisfy the requirements for being
classified as a REIT, to avoid any federal income or excise tax liability
imposed by the Code (other than any federal income tax liability associated with
the Company's retained capital gains), and to ensure that the Partnership will
not be classified as a "publicly traded partnership" for purposes of Section
7704 of the Code.
In addition to the administrative and operating costs and expenses
incurred by the Partnership, the Partnership will pay all administrative costs
and expenses of the Company (the "Company Expenses") and the Company Expenses
will be treated as expenses of the Partnership. The Company Expenses generally
will include (A) all expenses relating to the formation and continuity of
existence of the Company, (B) all expenses relating to the public offering and
registration of securities by the Company, (C) all expenses associated with the
preparation and filing of any periodic reports by the Company under federal,
state or local laws or regulations, (D) all expenses associated with compliance
by the Company with laws, rules and regulations promulgated by any regulatory
body and (E) all other operating or administrative costs of the Company incurred
in the ordinary course of its business on behalf of the Partnership. The Company
Expenses, however, will not include any administrative and operating costs and
expenses incurred by the Company that are attributable to hotel properties that
are owned by the Company directly. The Company initially will not own any hotel
directly.
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Distributions
The Partnership Agreement provides that, during the Priority Period, the
Partnership will distribute cash available for distribution (including net sale
or refinancing proceeds, but excluding net proceeds from the sale of the
Partnership's property in connection with the liquidation of the Partnership) on
a quarterly (or, at the election of the Company, more frequent) basis, in
amounts determined by the Company in its sole discretion, in the following order
of priority: (i) first, to the Company until the Company has received, on a
cumulative basis, $0.18 per quarter per Unit held by the Company (the "Preferred
Return"), (ii) second, to the Limited Partners in accordance with their
respective percentage interests in the Partnership until each Limited Partner
has received an amount equal to the Preferred Return, and (iii) finally, to the
Company and the Limited Partners in accordance with their respective percentage
interests in the Partnership. After the Priority Period, the Partnership will
distribute cash from operations (including net sale or refinancing proceeds, but
excluding net proceeds from the sale of the Partnership's property in connection
with the liquidation of the Partnership) on a quarterly (or, at the election of
the Company, more frequent) basis, in amounts determined by the Company in its
sole discretion, to the Company and the Limited Partners in accordance with
their respective percentage interests in the Partnership.
Upon liquidation of the Partnership during the Priority Period, after
payment of, or adequate provision for, debts and obligations of the Partnership,
including any partner loans, any remaining assets of the Partnership will be
distributed in the following order of priority: (i) first, to the Company until
the Company has received any unpaid Preferred Return plus an amount equal to
$6.00 per Unit held by the Company, (ii) second, to the Limited Partners in
accordance with their respective percentage interests in the Partnership until
each Limited Partner has received an amount equal to any unpaid Preferred Return
plus $6.00 per Unit held by the such Limited Partner, and (iii) finally, to the
Company and the Limited Partners with positive capital accounts in accordance
with their respective positive capital account balances. Upon liquidation of the
Partnership after the Priority Period, after payment of, or adequate provision
for, debts and obligations of the Partnership, including any partner loans, any
remaining assets of the Partnership will be distributed to the Company and the
Limited Partners with positive capital accounts in accordance with their
respective positive capital account balances. If the Company has a negative
balance in its capital account following a liquidation of the Partnership, it
will be obligated to contribute cash to the Partnership equal to the negative
balance in its capital account.
Allocations
Depreciation and amortization deductions of the Partnership for each
fiscal year will be allocated to the Company and the Limited Partners in
accordance with their respective percentage interests in the Partnership. Profit
of the Partnership (excluding depreciation and amortization deductions) for each
fiscal year will be allocated in the following order of priority: (i) first, to
the Company until the aggregate amount of profit allocated to the Company under
this clause (i) for the current and all prior years equals the aggregate amount
of Preferred Return distributed to the Company for the current and all prior
years, (ii) second, to the Limited Partners in accordance with their respective
percentage interests in the Partnership until the aggregate amount of profit
allocated to the Limited Partners under this clause (ii) for the current and all
prior years equals the aggregate amount of Preferred Return distributed to the
Limited Partners for the current and all prior years, and (iii) finally, to the
Company and the Limited Partners in accordance with their respective percentage
interests in the Partnership. Losses of the Partnership (excluding depreciation
and amortization deductions) for each fiscal year generally will be allocated to
the Company and the Limited Partners in accordance with their respective
percentage interests in the Partnership. All of the foregoing allocations will
be subject to compliance with the provisions of Code Sections 704(b) and 704(c)
and Treasury Regulations promulgated thereunder.
Term
The Partnership will continue until December 31, 2050, or until sooner
dissolved upon (i) the bankruptcy, dissolution or withdrawal of the Company
(unless the Limited Partners elect to continue the Partnership), (ii) the sale
or other disposition of all or substantially all the assets of the Partnership,
(iii) the redemption of all Units (other than those held by the Company, if any)
or (iv) an election by the General Partner.
Tax Matters
Pursuant to the Partnership Agreement, the Company will be the tax matters
partner of the Partnership and, as such, will have authority to handle tax
audits and to make tax elections under the Code on behalf of the Partnership.
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FEDERAL INCOME TAX CONSEQUENCES
The following is a summary of material federal income tax consequences
that may be relevant to a prospective holder of Common Shares. Hunton & Williams
has acted as counsel to the Company and has reviewed this summary and is of the
opinion that the discussion contained herein fairly summarizes the federal
income tax consequences that are likely to be material to a holder of the Common
Shares. The discussion does not address all aspects of taxation that may be
relevant to particular shareholders in light of their personal investment or tax
circumstances, or to certain types of shareholders (including insurance
companies, tax-exempt organizations (except as discussed below), financial
institutions or broker-dealers, and, except as discussed below, foreign
corporations and persons who are not citizens or residents of the United States)
subject to special treatment under the federal income tax laws.
The statements in this discussion and the opinion of Hunton & Williams are
based on current provisions of the Code, existing, temporary, and currently
proposed Treasury Regulations, the legislative history of the Code, existing
administrative rulings and practices of the Service, and judicial decisions. No
assurance can be given that future legislative, judicial, or administrative
actions or decisions, which may be retroactive in effect, will not affect the
accuracy of any statements in this Prospectus with respect to the transactions
entered into or contemplated prior to the effective date of such changes.
EACH PROSPECTIVE PURCHASER SHOULD CONSULT HIS OWN TAX ADVISOR REGARDING
THE SPECIFIC TAX CONSEQUENCES TO HIM OF THE PURCHASE, OWNERSHIP, AND SALE OF THE
COMMON SHARES AND OF THE COMPANY'S ELECTION TO BE TAXED AS A REIT, INCLUDING THE
FEDERAL, STATE, LOCAL, FOREIGN, AND OTHER TAX CONSEQUENCES OF SUCH PURCHASE,
OWNERSHIP, SALE, AND ELECTION, AND OF POTENTIAL CHANGES IN APPLICABLE TAX LAWS.
Taxation of the Company
The Company currently has in effect an election to be taxed as a
pass-through entity under subchapter S of the Code, but intends to revoke its S
election on the day prior to the closing of the Offering. The Company plans to
make an election to be taxed as a REIT under sections 856 through 860 of the
Code, effective for its short taxable year beginning on the date of revocation
of its S election and ending on December 31, 1998. The Company believes that,
commencing with such 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 the Company
intends to continue to operate in such a manner, but no assurance can be given
that the Company will operate in a manner so as to qualify or remain qualified
as a REIT.
The sections of the Code relating to qualification and operation as a REIT
are highly technical and complex. The following discussion sets forth the
material aspects of the Code sections that govern the federal income tax
treatment of a REIT and its shareholders. The discussion is qualified in its
entirety by the applicable Code provisions, Treasury Regulations promulgated
thereunder, and administrative and judicial interpretations thereof, all of
which are subject to change prospectively or retrospectively.
Hunton & Williams has acted as counsel to the Company in connection with
the Offering and the Company's election to be taxed as a REIT. In the opinion of
Hunton & Williams, commencing with the Company's short taxable year ending
December 31, 1998, and assuming that the elections and other procedural steps
described in this discussion of "Federal Income Tax Consequences" are completed
by the Company in a timely fashion, the Company 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. Investors should be aware, however, that opinions of
counsel are not binding upon the Service or any court. It must be emphasized
that Hunton & Williams' opinion is based on various assumptions and is
conditioned upon certain representations made by the Company as to factual
matters, including representations regarding the nature of the Company's
properties, the Percentage Leases, and the future conduct of the Company's
business. Such factual assumptions and representations are described below in
this discussion of "Federal Income Tax Consequences" and are set out in the
federal income tax opinion that will be delivered by Hunton & Williams at the
closing of the Offering. Moreover, such qualification and taxation as a REIT
depend upon the Company's ability to meet on a continuing basis, through actual
annual operating results, distribution levels, and share ownership, the various
qualification tests imposed under the Code discussed below. Hunton & Williams
will not review the Company's compliance with those tests on a continuing basis.
Accordingly, no assurance can be given that the actual results of the Company's
operation for any particular taxable year will satisfy such requirements. For a
discussion of the tax consequences of failure to qualify as a REIT, see
"--Failure to Qualify."
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If the Company qualifies for taxation as a REIT, it generally will not be
subject to federal corporate income tax on its net income that is distributed
currently to its shareholders. That treatment substantially eliminates the
"double taxation" (i.e., taxation at both the corporate and shareholder levels)
that generally results from an investment in a corporation. However, the Company
will be subject to federal income tax in the following circumstances. First, the
Company will be taxed at regular corporate rates on any undistributed REIT
taxable income, including undistributed net capital gains. Second, under certain
circumstances, the Company may be subject to the "alternative minimum tax" on
its undistributed items of tax preference. Third, if the Company has (i) net
income from the sale or other disposition of "foreclosure property" that is held
primarily for sale to customers in the ordinary course of business or (ii) other
non-qualifying income from foreclosure property, it will be subject to tax at
the highest corporate rate on such income. Fourth, if the Company has net income
from prohibited transactions (which are, in general, certain sales or other
dispositions of property (other than foreclosure property) held primarily for
sale to customers in the ordinary course of business), such income will be
subject to a 100% tax. Fifth, if the Company should fail to satisfy the 75%
gross income test or the 95% gross income test (as discussed below), and has
nonetheless maintained its qualification as a REIT because certain other
requirements have been met, it will be subject to a 100% tax on the gross income
attributable to the greater of the amount by which the Company fails the 75% or
95% gross income test, multiplied by a fraction intended to reflect the
Company's profitability. Sixth, if the Company 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, the Company would be
subject to a 4% excise tax on the excess of such required distribution over the
amounts actually distributed. To the extent that the Company elects to retain
and pay income tax on its net long-term capital gain, such retained amounts will
be treated as having been distributed for purposes of the 4% excise tax.
Seventh, if the Company acquires any asset from a C corporation (i.e., a
corporation generally subject to full corporate-level tax) in a transaction in
which the basis of the asset in the Company's hands is determined by reference
to the basis of the asset (or any other asset) in the hands of the C corporation
and the Company recognizes gain on the disposition of such asset during the
10-year period beginning on the date on which such asset was acquired by the
Company, then to the extent of such asset's "built-in gain" (i.e., the excess of
the fair market value of such asset at the time of acquisition by the Company
over the adjusted basis in such asset at such time), such gain will be subject
to tax at the highest regular corporate rate applicable (as provided in Treasury
Regulations that have not yet been promulgated). The results described above
with respect to the recognition of "built-in gain" assume that the Company would
make an election pursuant to IRS Notice 88-19 if it were to make any such
acquisition.
Requirements for Qualification
The Code defines a REIT as a corporation, trust or association (i) that 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) that would be taxable as a domestic corporation, but
for sections 856 through 860 of the Code; (iv) that 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) not
more than 50% in value of the outstanding shares of beneficial interest of which
is owned, directly or indirectly, by five or fewer individuals (as defined in
the Code to include certain entities) during the last half of each taxable year
(the "5/50 Rule"); (vii) that makes an election to be a REIT (or has made such
election for a previous taxable year) and satisfies all relevant filing and
other administrative requirements established by the Service that must be met in
order to elect and to maintain REIT status; (viii) that uses a calendar year for
federal income tax purposes and complies with the recordkeeping requirements of
the Code and Treasury Regulations; and (ix) that 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 12 months, or during a proportionate part of a taxable year of
less than 12 months. Conditions (v) and (vi) will not apply until after the
first taxable year for which an election is made by the Company to be taxed as a
REIT. The Company anticipates issuing sufficient Common Shares with sufficient
diversity of ownership pursuant to the Offering to allow it to satisfy
requirements (v) and (vi). In addition, the Company's Declaration of Trust
provides for restrictions regarding ownership and transfer of the Common Shares
that are intended to assist the Company in continuing to satisfy the share
ownership requirements described in (v) and (vi) above. Such transfer
restrictions are described in "Description of Shares of Beneficial
Interest--Restrictions on Transfer."
For purposes of determining share ownership under the 5/50 Rule, a
supplemental unemployment compensation benefits plan, a private foundation, or a
portion of a trust permanently set aside or used exclusively for charitable
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purposes is considered an individual, although a trust that is a qualified trust
under Code section 401(a) is not considered an individual and the beneficiaries
of such trust are treated as holding shares of a REIT in proportion to their
actuarial interests in the trust for purposes of the 5/50 Rule.
The Company does not currently have any corporate subsidiaries, nor will
it have any corporate subsidiaries immediately after completion of the Offering,
although it may have corporate subsidiaries in the future. Code section 856(i)
provides that a corporation that is a "qualified REIT subsidiary" shall not be
treated as a separate corporation, and all assets, liabilities, and items of
income, deduction, and credit of a "qualified REIT subsidiary" shall be treated
as assets, liabilities, and items of income, deduction, and credit of the REIT.
A "qualified REIT subsidiary" is a corporation, all of the capital stock of
which is owned by the REIT. Thus, in applying the requirements described herein,
any "qualified REIT subsidiaries" acquired or formed by the Company will be
ignored, and all assets, liabilities, and items of income, deduction, and credit
of such subsidiaries will be treated as assets, liabilities and items of income,
deduction, and credit of the Company.
Pursuant to Treasury Regulations effective January 1, 1997 relating to
entity classification (the "Check-the-Box Regulations"), an unincorporated
entity that has a single owner is disregarded as an entity separate from its
owner for federal income tax purposes. Some of the hotels will be owned by
partnerships ("Subsidiary Partnerships") that are owned 99% by the Partnership
and 1% by a limited liability company (the "Subsidiary LLC") that is owned 100%
by the Partnership. Under the Check-the-Box Regulations, because the Partnership
will be deemed to own 100% of the interests in the Subsidiary LLC and the
Subsidiary Partnerships, both the Subsidiary LLC and the Subsidiary Partnerships
will be disregarded as entities separate from the Partnership for federal income
tax purposes. The Subsidiary LLC and the Subsidiary Partnerships, however, may
be subject to state and local taxation.
In the case of a REIT that 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 gross
income of the partnership attributable to such share. In addition, the assets
and gross income of the partnership will retain the same character in the hands
of the REIT for purposes of section 856 of the Code, including satisfying the
gross income and asset tests, described below. Thus, the Company's proportionate
share of the assets, liabilities and items of income of the Partnership will be
treated as assets and gross income of the Company for purposes of applying the
requirements described herein.
Income Tests
In order for the Company to maintain its qualification as a REIT, there
are two requirements relating to the Company's gross income that must be
satisfied annually. First, at least 75% of the Company's gross income (excluding
gross income from prohibited transactions) for each taxable year must consist of
defined types of income 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 temporary investment
income. Second, at least 95% of the Company's gross income (excluding gross
income from prohibited transactions) for each taxable year must be derived from
such real property or temporary investments, and from dividends, other types of
interest, and gain from the sale or disposition of stock or securities, or from
any combination of the foregoing. The specific application of these tests to the
Company is discussed below.
Rents received by the Company will qualify as "rents from real property"
in satisfying the gross income requirements for a REIT described above only if
several conditions are met. 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, the Code provides that rents received from a
tenant will not qualify as "rents from real property" in satisfying the gross
income tests if the Company, or an owner of 10% or more of the Company, directly
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 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." Finally, for rents received to qualify as
"rents from real property," the Company generally must not operate or manage the
property or furnish or render services to the tenants of such property, other
than through an "independent contractor" who is adequately compensated and from
whom the Company derives no revenue. The "independent contractor" requirement,
however, does not apply with respect to certain de minimis services or to the
extent the services provided by the Company are "usually or customarily
rendered" in connection with the rental of space for occupancy only and are not
otherwise considered "rendered to the occupant."
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Pursuant to the Percentage Leases, the Lessee will lease from the
Partnership the land, buildings, improvements, furnishings and equipment
comprising the Initial Hotels for a five-year period. The Percentage Leases
provide that the Lessee will be obligated to pay to the Partnership (i) either
the Initial Fixed Rents (for the Newly-Developed Hotels and the Newly-Renovated
Hotels) or the greater of Base Rent and Percentage Rent, with respect to the
other Initial Hotels and (ii) certain other Additional Charges. The Percentage
Rent is calculated by multiplying fixed percentages by the gross room and other
revenues for each of the Initial Hotels. The Rent accrues and is required to be
paid quarterly. Until the First Adjustment Date or the Second Adjustment Date,
as applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated
Hotels will be the Initial Fixed Rents applicable to those hotels. After the
First Adjustment Date or the Second Adjustment Date, as applicable, rent will be
computed with respect to the Newly-Developed Hotels and the Newly-Renovated
Hotels based on the Percentage Rent formulas described herein.
In order for the Rent and the Additional Charges to constitute "rents from
real property," the Percentage 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. The determination of whether the Percentage
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).
In addition, Code section 7701(e) 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 whether a service
contract should be treated as a lease is inherently factual, the presence or
absence of any single factor may not be dispositive in every case.
The Company believes that the Percentage Leases will be treated as true
leases for federal income tax purposes. Such belief is based, in part, on the
following facts: (i) the Partnership and the Lessee intend for their
relationship to be that of a lessor and lessee and such relationship will be
documented by lease agreements, (ii) the Lessee will have the right to exclusive
possession and use and quiet enjoyment of the Initial Hotels during the term of
the Percentage Leases, (iii) the Lessee will bear the cost of, and be
responsible for, day-to-day maintenance and repair of the Initial Hotels, other
than the cost of capital expenditures that are classified as capital items under
generally accepted accounting principles which are necessary for the continued
operation of the Initial Hotels and will dictate how the Initial Hotels are
operated, maintained, and improved, (iv) the Lessee will bear all of the costs
and expenses of operating the Initial Hotels (including the cost of any
inventory used in their operation) during the term of the Percentage Leases
(other than real and personal property taxes, ground lease rent (where
applicable)), property and casualty insurance, the cost of replacement or
refurbishment of furniture, fixtures and equipment, and other capital
improvements, to the extent such costs do not exceed the allowance for such
costs provided by the Partnership under each Percentage Lease), (v) the Lessee
will benefit from any savings in the costs of operating the Initial Hotels
during the term of the Percentage Leases, (vi) in the event of damage or
destruction to an Initial Hotel, the Lessee will be 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) to purchase the Initial Hotel for an amount generally
equal to the fair market value of the property, less any insurance proceeds,
(vii) the Lessee will indemnify the Partnership against all liabilities imposed
on the Partnership during the term of the Percentage Leases by reason of (A)
injury to persons or damage to property occurring at the Initial Hotels or (B)
the Lessee's use, management, maintenance or repair of the Initial Hotels,
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(viii) the Lessee is obligated to pay substantial fixed rent for the period of
use of the Initial Hotels and (ix) the Lessee stands to incur substantial losses
(or reap substantial gains) depending on how successfully it operates the
Initial Hotels.
Investors should be aware that there are no controlling Treasury
Regulations, published rulings, or judicial decisions involving leases with
terms substantially the same as the Percentage Leases that discuss whether such
leases constitute true leases for federal income tax purposes. If the Percentage
Leases are recharacterized as service contracts or partnership agreements,
rather than true leases, part or all of the payments that the Partnership
receives from the Lessee may not be considered rent or may not otherwise satisfy
the various requirements for qualification as "rents from real property." In
that case, the Company likely would not be able to satisfy either the 75% or 95%
gross income test and, as a result, would lose its REIT status.
In order for the Rent to constitute "rents from real property," several
other requirements also must be satisfied. One requirement is that the Rent
attributable to personal property leased in connection with the lease of the
real property comprising an Initial Hotel must not be greater than 15% of the
Rent received under the Percentage Lease. The Rent attributable to the personal
property in an Initial Hotel is the amount that bears the same ratio to total
rent for the taxable year as the average of the adjusted bases of the personal
property associated with the Initial Hotel at the beginning and at the end of
the taxable year bears to the average of the aggregate adjusted bases of both
the real and personal property comprising the Initial Hotel at the beginning and
at the end of such taxable year (the "Adjusted Basis Ratio"). With respect to
each Initial Hotel, the initial adjusted bases of the personal property in such
hotel will be less than 15% of the initial adjusted bases of both the real and
personal property comprising such Hotel. Furthermore, the Partnership will not
acquire additional personal property for an Initial Hotel to the extent that
such acquisition would cause the Adjusted Basis Ratio for that hotel to exceed
15%. There can be no assurance, however, that the Service would not assert that
the adjusted basis of the personal property acquired by the Partnership exceeded
the adjusted basis claimed by the Partnership, or that a court would not uphold
such assertion. If such a challenge were successfully asserted, the Company
could fail the Adjusted Basis Ratio as to one or more of the Initial Hotels,
which in turn potentially could cause it to fail to satisfy the 95% or 75% gross
income test and thus lose its REIT status.
Another requirement for qualification of the Rent as "rents from real
property" is that the Percentage Rent must not be based in whole or in part on
the income or profits of any person. The Percentage Rent, however, will qualify
as "rents from real property" if it is based on percentages of receipts or sales
and the percentages (i) are fixed at the time the Percentage Leases are entered
into, (ii) are not renegotiated during the term of the Percentage Leases in a
manner that has the effect of basing Percentage Rent on income or profits, and
(iii) conform with normal business practice. More generally, the Percentage Rent
will not qualify as "rents from real property" if, considering the Percentage
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 the
Percentage Rent on income or profits. Since the Percentage Rent is based on
fixed percentages of the gross revenues per quarter from the Initial Hotels that
are established in the Percentage Leases, and the Company has represented that
the percentages (i) will not be renegotiated during the terms of the Percentage
Leases in a manner that has the effect of basing the Percentage Rent on income
or profits and (ii) conform with normal business practice, the Percentage Rent
should not be considered based in whole or in part on the income or profits of
any person. Furthermore, the Company has represented that, with respect to other
hotels 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 per quarter, as
described above).
A third requirement for qualification of the Rent as "rents from real
property" is that the Company must not own, actually or constructively, 10% or
more of the ownership interests in the Lessee. The constructive ownership rules
generally provide that, if 10% or more in value of the shares of beneficial
interest in the Company are owned, directly or indirectly, by or for any person,
the Company is considered as owning the shares owned, directly or indirectly, by
or for such person. The Company initially will not own, actually or
constructively, any interest in the Lessee. The Limited Partners of the
Partnership, including Mr. Shah, who is a partner of the Lessee, may acquire
Common Shares by exercising their Redemption Rights. The Partnership Agreement,
however, provides that a redeeming Limited Partner will receive cash, rather
than Common Shares, at the election of the Company or if the acquisition of
Common Shares by such partner would cause the Company to own, actually or
constructively, 10% or more of the ownership interests in a tenant of the
Company's or the Partnership's real property, within the meaning of section
856(d)(2)(B) of the Code. The Declaration of Trust likewise prohibits a
shareholder of the Company from owning Common or Preferred Shares that would
cause the Company to own, actually or constructively, 10% or more of the
ownership interests in a tenant of the Company's or the Partnership's real
property, within the meaning of section 856(d)(2)(B) of the Code. Thus, the
Company should never own, actually or constructively, 10% of more of the Lessee.
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Furthermore, the Company has represented that, with respect to other hotels that
it acquires in the future, it will not rent any property to a Related Party
Tenant.
A fourth requirement for qualification of the Rent as "rents from real
property" is that the Company cannot furnish or render noncustomary services to
the tenants of the Initial Hotels, or manage or operate the Initial Hotels,
other than through an independent contractor who is adequately compensated and
from whom the Company itself does not derive or receive any income. However, the
Company may furnish or render a de minimis amount of "noncustomary services" to
the tenants of an Initial Hotel other than through an independent contractor as
long as the amount that the Company receives that is attributable to such
services does not exceed 1% of its total revenue from the Initial Hotel. For
that purpose, the amount attributable to the Company's noncustomary services
will be at least equal to 150% of the Company's cost of providing the services.
Provided that the Percentage Leases are respected as true leases, the Company
should satisfy that requirement because the Partnership will not perform any
services other than customary ones for the Lessee. Furthermore, the Company has
represented that, with respect to other hotels that it acquires in the future,
it will not perform noncustomary services with respect to the tenant of the
property. As described above, however, if the Percentage Leases are
recharacterized as service contracts or partnership agreements, the Rent likely
would be disqualified as "rents from real property" because the Company would be
considered to furnish or render services to the occupants of the Initial Hotels
and to manage or operate the Initial Hotels other than through an independent
contractor who is adequately compensated and from whom the Company derives or
receives no income.
If the Rent does not qualify as "rents from real property" because the
rents attributable to personal property exceed 15% of the total Rent from an
Initial Hotel for a taxable year, the portion of the Rent that is attributable
to personal property will not be qualifying income for purposes of either the
75% or 95% gross income test. Thus, if the Rent attributable to personal
property, plus any other non-qualifying income, during the taxable year exceeds
5% of the Company's gross income during the year, the Company would lose its
REIT status. If, however, the Rent does not qualify as "rents from real
property" because either (i) the Percentage Rent is considered based on income
or profits of the Lessee, (ii) the Company owns, actually or constructively, 10%
or more of the Lessee, or (iii) the Company furnishes noncustomary services
(other than certain de minimis services) to the tenants of the Initial Hotels,
or manages or operates the Initial Hotels, other than through a qualifying
independent contractor, none of the Rent would qualify as "rents from real
property." In that case, the Company likely would lose its REIT status because
it would be unable to satisfy either the 75% or 95% gross income test.
In addition to the Rent, the Lessee is required to pay to the Partnership
the Additional Charges. To the extent that the Additional Charges represent
either (i) reimbursements of amounts that the Lessee is obligated to pay to
third parties or (ii) penalties for nonpayment or late payment of such amounts,
the Additional Charges should qualify as "rents from real property." To the
extent, however, that the Additional Charges represent interest that is accrued
on the late payment of the Rent or the Additional Charges, the Additional
Charges should not qualify as "rents from real property," but instead should be
treated as interest that qualifies for the 95% gross income test.
The term "interest" generally does not include any amount received or
accrued (directly or indirectly) if the determination of such amount depends 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 "interest"
solely by reason of being based on a fixed percentage or percentages of receipts
or sales.
The net income derived from any prohibited transaction is subject to a
100% tax. The term "prohibited transaction" generally includes a sale or other
disposition of property (other than foreclosure property) that is held primarily
for sale to customers in the ordinary course of a trade or business. All
inventory required in the operation of the Initial Hotels will be purchased by
the Lessee or its designee as required by the terms of the Percentage Leases.
Accordingly, the Company believes that no asset owned by the Company or the
Partnership will be held for sale to customers and that a sale of any such asset
will not be in the ordinary course of business of the Company or the
Partnership. Whether property is held "primarily for sale to customers in the
ordinary course of a trade or business" depends, however, on the facts and
circumstances in effect from time to time, including those related to a
particular property. Nevertheless, the Company and the Partnership will attempt
to comply with the terms of safe-harbor provisions in the Code prescribing when
asset sales will not be characterized as prohibited transactions. Complete
assurance cannot be given, however, that the Company and the Partnership can
comply with the safe-harbor provisions of the Code or avoid owning property that
may be characterized as property held "primarily for sale to customers in the
ordinary course of a trade or business."
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The Company will be subject to tax at the maximum corporate rate on any
income from foreclosure property (other than income that would be qualified
income under the 75% gross income test), less expenses directly connected with
the production of such income. However, gross income from such foreclosure
property will be qualifying income for purposes of the 75% and 95% gross income
tests. "Foreclosure property" is defined as any real property (including
interests in real property) and any personal property incident to such real
property (i) that is acquired by a REIT as the result of such REIT having bid in
such property at foreclosure, or having otherwise reduced such property to
ownership or possession by agreement or process of law, after there was a
default (or default was imminent) on a lease of such property or on an
indebtedness that such property secured and (ii) for which such REIT makes a
proper election to treat such property as foreclosure property. As a result of
the rules with respect to foreclosure property, if the Lessee defaults on its
obligations under a Percentage Lease for a Hotel, the Company terminates the
Lessee's leasehold interest, and the Company is unable to find a replacement
lessee for such Hotel within 90 days of such foreclosure, gross income from
hotel operations conducted by the Company from such Hotel would cease to qualify
for the 75% and 95% gross income tests. In such event, the Company likely would
be unable to satisfy the 75% and 95% gross income tests and, thus, would fail to
qualify as a REIT.
It is possible that, from time to time, the Company or the Partnership
will enter into hedging transactions with respect to one or more of its assets
or liabilities. Any such hedging transactions could take a variety of forms,
including interest rate swap contracts, interest rate cap or floor contracts,
futures or forward contracts, and options. To the extent that the Company or the
Partnership enters into an interest rate swap or cap contract, option, futures
contract, forward rate agreement or similar financial instrument to reduce its
interest rate risk with respect to indebtedness incurred or to be incurred to
acquire or carry real estate assets, any periodic income or gain from the
disposition of such contract should be qualifying income for purposes of the 95%
gross income test, but not the 75% gross income test. To the extent that the
Company or the Partnership hedges with other types of financial instruments or
in other situations, it may not be entirely clear how the income from those
transactions will be treated for purposes of the various income tests that apply
to REITs under the Code. The Company intends to structure any hedging
transactions in a manner that does not jeopardize its status as a REIT.
If the Company fails to satisfy one or both of the 75% and 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.
Those relief provisions will be generally available if the Company's failure to
meet such tests is due to reasonable cause and not due to willful neglect, the
Company attaches a schedule of the sources of its income to its 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 the
Company would be entitled to the benefit of those relief provisions. As
discussed above in "Federal Income Tax Consequences--Taxation of the Company,"
even if those relief provisions apply, a 100% tax would be imposed with respect
to the gross income attributable to the greater of the amount by which the
Company fails the 75% or 95% gross income test, multiplied by a fraction
intended to reflect the Company's profitability.
Asset Tests
The Company, at the close of each quarter of its taxable year, also must
satisfy two tests relating to the nature of its assets. First, at least 75% of
the value of the Company's total assets must be represented by cash or cash
items (including certain receivables), government securities, "real estate
assets," or, in cases where the Company raises new capital through share or
long-term (at least five-year) debt offerings, temporary investments in stock or
debt instruments during the one-year period following the Company's receipt of
such capital. The term "real estate assets" includes interests in real property,
interests in mortgages on real property to the extent the principal balance of
the mortgage does not exceed the value of the associated real property, and
shares of other REITs. For purposes of the 75% asset test, the term "interest in
real property" includes an interest in land and improvements thereon, such as
buildings or other inherently permanent structures (including items that are
structural components of such buildings or structures), a leasehold in real
property, and an option to acquire real property (or a leasehold in real
property). Second, of the investments not included in the 75% asset class, the
value of any one issuer's securities owned by the Company may not exceed 5% of
the value of the Company's total assets and the Company may not own more than
10% of any one issuer's outstanding voting securities (except for its ownership
interests in the Partnership or any qualified REIT subsidiary).
For purposes of the asset tests, the Company will be deemed to own its
proportionate share of the assets of the Partnership, rather than its
partnership interest in the Partnership. The Company has represented that, as of
the date of the Offering, (i) at least 75% of the value of its total assets will
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be represented by real estate assets, cash and cash items (including
receivables), and government securities and (ii) it will not own any securities
that do not satisfy the 75% asset test. In addition, the Company has represented
that it will not acquire or dispose, or cause the Partnership to acquire or
dispose, of assets in the future in a way that would cause it to violate either
asset test.
If the Company should fail to satisfy the asset tests at the end of a
calendar quarter, such a failure would not cause it to lose its REIT status if
(i) it satisfied all of the asset tests at the close of the preceding calendar
quarter and (ii) the discrepancy between the value of the Company's assets and
the asset test requirements arose from changes in the market values of its
assets and was not wholly or partly caused by an acquisition of non-qualifying
assets. If the condition described in clause (ii) of the preceding sentence were
not satisfied, the Company still could avoid disqualification by eliminating any
discrepancy within 30 days after the close of the quarter in which it arose.
Distribution Requirements
The Company, 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 its "REIT taxable income" (computed
without regard to the dividends paid deduction and its 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. Such distributions must be paid in
the taxable year to which they relate, or in the following taxable year if
declared before the Company timely files its tax return for such year and if
paid on or before the first regular dividend payment after such declaration. To
the extent that the Company 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
gains corporate tax rates. Furthermore, if the Company 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, the Company would
be subject to a 4% nondeductible excise tax on the excess of such required
distribution over the amounts actually distributed. The Company may elect to
retain and pay income tax on its net long-term capital gains, as described in
"--Taxation of Taxable U.S. Shareholders." Any such retained amount would be
treated as having been distributed by the Company for purposes of the 4% excise
tax. The Company intends to make timely distributions sufficient to satisfy all
annual distribution requirements.
It is possible that, from time to time, the Company may experience timing
differences between (i) the actual receipt of income and actual payment of
deductible expenses and (ii) the inclusion of that income and deduction of such
expenses in arriving at its REIT taxable income. For example, it is possible
that, from time to time, the Company may be allocated a share of net capital
gain attributable to the sale of depreciated property that exceeds its allocable
share of cash attributable to that sale. Therefore, the Company may have less
cash available for distribution than is necessary to meet its annual 95%
distribution requirement or to avoid corporate income tax or the excise tax
imposed on certain undistributed income. In such a situation, the Company may
find it necessary to arrange for short-term (or possibly long-term) borrowings
or to raise funds through the issuance of additional Common or Preferred Shares.
Under certain circumstances, the Company may be able to rectify a failure
to meet the distribution requirement for a year by paying "deficiency dividends"
to its shareholders in a later year, which may be included in the Company's
deduction for dividends paid for the earlier year. Although the Company may be
able to avoid being taxed on amounts distributed as deficiency dividends, it
will be required to pay to the Service interest based upon the amount of any
deduction taken for deficiency dividends.
Recordkeeping Requirement
Pursuant to applicable Treasury Regulations, the Company must maintain
certain records and request on an annual basis certain information from its
shareholders designed to disclose the actual ownership of its outstanding
shares. The Company intends to comply with such requirements.
Failure to Qualify
If the Company fails to qualify for taxation as a REIT in any taxable
year, and the relief provisions do not apply, the Company will be subject to tax
(including any applicable alternative minimum tax) on its taxable income at
regular corporate rates. Distributions to the shareholders in any year in which
the Company fails to qualify will not be deductible by the Company nor will they
be required to be made. In such event, to the extent of current and accumulated
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earnings and profits, all distributions to shareholders will be taxable as
ordinary income 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, the Company also will be
disqualified from taxation as a REIT for the four taxable years following the
year during which the Company ceased to qualify as a REIT. It is not possible to
state whether in all circumstances the Company would be entitled to such
statutory relief.
Taxation of Taxable U.S. Shareholders
As long as the Company qualifies as a REIT, distributions made to the
Company's taxable U.S. shareholders out of current or accumulated earnings and
profits (and not designated as capital gain dividends or retained capital gains)
will be taken into account by such U.S. shareholders as ordinary income and will
not be eligible for the dividends received deduction generally available to
corporations. As used herein, the term "U.S. shareholder" means a holder of
Common Shares that for U.S. 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 whose income from sources without
the United States is includible in gross income for U.S. federal income tax
purposes regardless of its connection with the conduct of a trade or business
within the United States or (iv) any trust with respect to which (A) a U.S.
court is able to exercise primary supervision over the administration of such
trust and (B) one or more U.S. persons have the authority to control all
substantial decisions of the trust. Distributions that are designated as capital
gain dividends will be taxed as long-term capital gains (to the extent they do
not exceed the Company's actual net capital gain for the taxable year) without
regard to the period for which the shareholder has held his Common Shares.
However, corporate shareholders may be required to treat up to 20% of certain
capital gain dividends as ordinary income. The Company may elect to retain and
pay income tax on its net long-term capital gains. In that case, the Company's
shareholders would include in income their proportionate share of the Company's
undistributed long-term capital gains. In addition, the shareholders would be
deemed to have paid their proportionate share of the tax paid by the Company,
which would be credited or refunded to the shareholders. Each shareholder's
basis in his shares would be increased by the amount of the undistributed
long-term capital gain included in the shareholder's income, less the
shareholder's share of the tax paid by the Company.
Distributions in excess of current and accumulated earnings and profits
will not be taxable to a 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 shares. To the extent that distributions in excess of
current and accumulated earnings and profits exceed the adjusted basis of a
shareholder's Common Shares, such distributions will be included in income as
long-term capital gain (or short-term capital gain if the Common Shares have
been held for one year or less) assuming the Common Shares are capital assets in
the hands of the shareholder. In addition, any distribution declared by the
Company 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 the Company and received by the shareholder on December 31 of such
year, provided that the distribution is actually paid by the Company during
January of the following calendar year.
Shareholders may not include in their individual income tax returns any
net operating losses or capital losses of the Company. Instead, such losses
would be carried over by the Company for potential offset against its future
income (subject to certain limitations). Taxable distributions from the Company
and gain from the disposition of the Common Shares will not be treated as
passive activity income and, therefore, shareholders generally will not be able
to apply any "passive activity losses" (such as losses from certain types of
limited partnerships in which the shareholder is a limited partner) against such
income. In addition, taxable distributions from the Company and gain from the
disposition of Common Shares generally will be treated as investment income for
purposes of the investment interest limitations. The Company will notify
shareholders after the close of the Company's taxable year as to the portions of
the distributions attributable to that year that constitute ordinary income,
return of capital, and capital gain.
Taxation of Shareholders on the Disposition of the Common Shares
In general, any gain or loss realized upon a taxable disposition of the
Common Shares by a shareholder who is not a dealer in securities will be treated
as long-term capital gain or loss if the Common Shares have been held for more
than one year and otherwise as short-term capital gain or loss. However, any
loss upon a sale or exchange of Common Shares by a shareholder who has held such
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shares 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 from
the Company required to be treated by such shareholder as long-term capital
gain. All or a portion of any loss realized upon a taxable disposition of the
Common Shares may be disallowed if other Common Shares are purchased within 30
days before or after the disposition.
Capital Gains and Losses
A capital asset generally must be held for more than one year in order for
gain or loss derived from its sale or exchange to be treated as long-term
capital gain or loss. The maximum tax rate on net capital gains applicable to
noncorporate taxpayers is 20% for sales and exchanges of assets held for more
than one year. The maximum tax rate on long-term capital gain from the sale or
exchange of "section 1250 property" (i.e., depreciable real property) held for
more than one year is 25% to the extent that such gain would have been treated
as ordinary income if the property were "section 1245 property." With respect to
distributions designated by the Company as capital gain dividends and any
retained capital gains that the Company is deemed to distribute, the Company may
designate (subject to certain limits) whether such a dividend or distribution is
taxable to its noncorporate stockholders at a 20% or 25% rate. Thus, the tax
rate differential between capital gain and ordinary income for noncorporate
taxpayers may be significant. In addition, the characterization of income as
capital or ordinary may affect the deductibility of capital losses. Capital
losses not offset by capital gains may be deducted against a noncorporate
taxpayer's ordinary income only up to a maximum annual amount of $3,000. Unused
capital losses may be carried forward. All net capital gain of a corporate
taxpayer is subject to tax at ordinary corporate rates. A corporate taxpayer can
deduct capital losses only to the extent of capital gains, with unused losses
being carried back three years and forward five years.
Information Reporting Requirements and Backup Withholding
The Company will report to its U.S. Shareholders and the Service the
amount of distributions paid during each calendar year, and the amount of tax
withheld, if any. Under the backup withholding rules, a shareholder may be
subject to backup withholding at the rate of 31% with respect to distributions
paid unless such holder (i) is a corporation or comes within certain other
exempt categories and, when required, demonstrates this fact or (ii) provides a
taxpayer identification number, certifies as to no loss of exemption from backup
withholding, and otherwise complies with the applicable requirements of the
backup withholding rules. A shareholder who does not provide the Company with
his correct taxpayer identification number also may be subject to penalties
imposed by the Service. Any amount paid as backup withholding will be creditable
against the shareholder's income tax liability. In addition, the Company may be
required to withhold a portion of capital gain distributions to any shareholders
who fail to certify their nonforeign status to the Company. The Service has
issued final regulations regarding the backup withholding rules as applied to
non-U.S. Shareholders. Those regulations alter the current system of backup
withholding compliance and are effective for distributions made after December
31, 1999. See "--Taxation of Non-U.S. Shareholders."
Taxation of Tax-Exempt Shareholders
Tax-exempt entities, including qualified employee pension and profit
sharing trusts and individual retirement accounts ("Exempt Organizations"),
generally are exempt from federal income taxation. However, they are subject to
taxation on their unrelated business taxable income ("UBTI"). While many
investments in real estate generate UBTI, the Service has issued a published
ruling that dividend distributions by a REIT to an exempt employee pension trust
do not constitute UBTI, provided that the shares of the REIT are not otherwise
used in an unrelated trade or business of the exempt employee pension trust.
Based on that ruling, amounts distributed by the Company to Exempt Organizations
generally should not constitute UBTI. However, if an Exempt Organization
finances its acquisition of Common Shares with debt, a portion of its income
from the Company will constitute UBTI pursuant to the "debt-financed property"
rules. Furthermore, social clubs, voluntary employee benefit associations,
supplemental unemployment benefit trusts, and qualified group legal services
plans that are exempt from taxation under paragraphs (7), (9), (17), and (20),
respectively, of Code section 501(c) are subject to different UBTI rules, which
generally will require them to characterize distributions from the Company as
UBTI. In addition, in certain circumstances, a pension trust that owns more than
10% of the Company's shares of beneficial interest is required to treat a
percentage of the dividends from the Company as UBTI (the "UBTI Percentage").
The UBTI Percentage is the gross income derived from an unrelated trade or
business (determined as if the Company were a pension trust) divided by the
gross income of the Company for the year in which the dividends are paid. The
UBTI rule applies to a pension trust holding more than 10% of the Company's
shares of beneficial interest only if (i) the UBTI Percentage is at least 5%,
(ii) the Company qualifies as a REIT by reason of the modification of the 5/50
Rule that allows the beneficiaries of the pension trust to be treated as holding
shares of beneficial interest of the Company in proportion to their actuarial
interests in the pension trust, and (iii) either (A) one pension trust owns more
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than 25% of the value of the Company's shares of beneficial interest or (B) a
group of pension trusts individually holding more than 10% of the value of the
Company's shares of beneficial interest collectively owns more than 50% of the
value of the Company's shares of beneficial interest.
Taxation of Non-U.S. Shareholders
The rules governing U.S. federal income taxation of nonresident alien
individuals, foreign corporations, foreign partnerships, and other foreign
shareholders (collectively, "Non-U.S. Shareholders") are complex and no attempt
will be made herein to provide more than a summary of such rules. PROSPECTIVE
NON-U.S. SHAREHOLDERS SHOULD CONSULT WITH THEIR OWN TAX ADVISORS TO DETERMINE
THE IMPACT OF FEDERAL, STATE, AND LOCAL INCOME TAX LAWS WITH REGARD TO AN
INVESTMENT IN THE COMMON SHARES, INCLUDING ANY REPORTING REQUIREMENTS.
Distributions to Non-U.S. Shareholders that are not attributable to gain
from sales or exchanges by the Company of U.S. real property interests and are
not designated by the Company as capital gains dividends or retained capital
gains will be treated as dividends of ordinary income to the extent that they
are made out of current or accumulated earnings and profits of the Company. Such
distributions ordinarily will be subject to a withholding tax equal to 30% of
the gross amount of the distribution unless an applicable tax treaty reduces or
eliminates that tax. However, if income from the investment in the Common Shares
is treated as effectively connected with the Non-U.S. Shareholder's conduct of a
U.S. trade or business, the Non-U.S. Shareholder generally will be subject to
federal income tax at graduated rates, in the same manner as U.S. Shareholders
are taxed with respect to such distributions (and also may be subject to the 30%
branch profits tax in the case of a Non-U.S. Shareholder that is a foreign
corporation). The Company expects to withhold U.S. income tax at the rate of 30%
on the gross amount of any such distributions made to a Non-U.S. Shareholder
unless (i) a lower treaty rate applies and any required form evidencing
eligibility for that reduced rate is filed with the Company or (ii) the Non-U.S.
Shareholder files an IRS Form 4224 with the Company claiming that the
distribution is effectively connected income. The Service has issued final
regulations that modify the manner in which the Company complies with the
withholding requirements. Those regulations are effective for distributions made
after December 31, 1999. Distributions in excess of current and accumulated
earnings and profits of the Company will not be taxable to a shareholder to the
extent that such distributions do not exceed the adjusted basis of the
shareholder's Common Shares, but rather will reduce the adjusted basis of such
shares. To the extent that distributions in excess of current and accumulated
earnings and profits exceed the adjusted basis of a Non-U.S. Shareholder's
Common Shares, such distributions will give rise to tax liability if the
Non-U.S. Shareholder would otherwise be subject to tax on any gain from the sale
or disposition of his Common Shares, as described below. Because it generally
cannot be determined at the time a distribution is made whether or not such
distribution will be in excess of current and accumulated earnings and profits,
the entire amount of any distribution normally will be subject to withholding at
the same rate as a dividend. However, amounts so withheld are refundable to the
extent it is determined subsequently that such distribution was, in fact, in
excess of current and accumulated earnings and profits of the Company.
The Company is required to withhold 10% of any distribution in excess of
the Company's current and accumulated earnings and profits. Consequently,
although the Company intends to withhold at a rate of 30% on the entire amount
of any distribution, to the extent that the Company does not do so, any portion
of a distribution not subject to withholding at a rate of 30% will be subject to
withholding at a rate of 10%.
For any year in which the Company qualifies as a REIT, distributions that
are attributable to gain from sales or exchanges by the Company of U.S. real
property interests will be taxed to a Non-U.S. Shareholder under the provisions
of the Foreign Investment in Real Property Tax Act of 1980 ("FIRPTA"). Under
FIRPTA, distributions attributable to gain from sales of U.S. real property
interests are taxed to a Non-U.S. Shareholder as if such gain were effectively
connected with a U.S. business. Non-U.S. Shareholders thus would be taxed at the
normal capital gain rates applicable to U.S. shareholders (subject to applicable
alternative minimum tax and a special alternative minimum tax in the case of
nonresident alien individuals). Distributions subject to FIRPTA also may be
subject to a 30% branch profits tax in the hands of a foreign corporate
shareholder not entitled to treaty relief or exemption. The Company is required
to withhold 35% of any distribution that could be designated by the Company as a
capital gains dividend. The amount withheld is creditable against the Non-U.S.
Shareholder's FIRPTA tax liability.
Gain recognized by a Non-U.S. Shareholder upon a sale of his Common Shares
generally will not be taxed under FIRPTA if the Company is a "domestically
controlled REIT," defined generally as a REIT in which at all times during a
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specified testing period less than 50% in value of the stock was held directly
or indirectly by foreign persons. However, because the Common Shares will be
publicly traded, no assurance can be given that the Company will be a
"domestically controlled REIT." Furthermore, gain not subject to FIRPTA will be
taxable to a Non-U.S. Shareholder if (i) investment in the Common Shares is
effectively connected with the Non-U.S. Shareholder's U.S. 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, or (ii) the Non-U.S. Shareholder is
a nonresident alien individual who was present in the United States for 183 days
or more during the taxable year and certain other conditions apply, in which
case the nonresident alien individual will be subject to a 30% tax on the
individual's capital gains. However, a Non-U.S. Shareholder that owned, actually
or constructively, 5% or less of the Common Shares at all times during a
specified testing period will not be subject to tax under FIRPTA if the Common
Shares are "regularly traded" on an established securities market. If the gain
on the sale of the Common Shares were to be subject to taxation under FIRPTA,
the Non-U.S. Shareholder would be subject to the same treatment as U.S.
shareholders with respect to such gain (subject to 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).
Other Tax Consequences
The Company, the Partnership, or the Company's shareholders may be subject
to state or local taxation in various state or local jurisdictions, including
those in which it or they own property, transact business, or reside. The state
and local tax treatment of the Company and its shareholders may not conform to
the federal income tax consequences discussed above. CONSEQUENTLY, PROSPECTIVE
SHAREHOLDERS SHOULD CONSULT THEIR OWN TAX ADVISORS REGARDING THE EFFECT OF STATE
AND LOCAL TAX LAWS ON AN INVESTMENT IN THE COMPANY.
Tax Aspects of the Partnership
The following discussion summarizes certain federal income tax
considerations applicable to the Company's investment in the Partnership. The
discussion does not cover state or local tax laws or any federal tax laws other
than income tax laws.
Classification as a Partnership
The Company will be entitled to include in its income its distributive
share of the Partnership's income and to deduct its distributive share of the
Partnership's losses only if the Partnership is classified for federal income
tax purposes as a partnership rather than as an association taxable as a
corporation. An entity will be classified as a partnership rather than as a
corporation for federal income tax purposes if the entity (i) is treated as a
partnership under the Check-the-Box Regulations and (ii) is not a "publicly
traded" partnership.
In general, under the Check-the-Box Regulations, an unincorporated entity
with at least two members may elect to be classified either as an association
taxable as a corporation or as a partnership. If such an entity fails to make an
election, it generally will be treated as a partnership for federal income tax
purposes. The Partnership intends to be classified as a partnership and the
Company has represented that the Partnership will not elect to be treated as an
association taxable as a corporation for federal income tax purposes under the
Check-the-Box Regulations.
A publicly traded partnership is a partnership whose interests are traded
on an established securities market or are readily tradable on a secondary
market (or the substantial equivalent thereof). A publicly traded partnership
will be treated as a corporation for federal income tax purposes unless at least
90% of such partnership's gross income for a taxable year consists of
"qualifying income" under section 7704(d) of the Code, which generally includes
any income that is qualifying income for purposes of the 95% gross income test
applicable to REITs (the "90% Passive-Type Income Exception"). See
"--Requirements for Qualification--Income Tests." The U.S. Treasury Department
has issued regulations (the "PTP Regulations") that provide limited safe harbors
from the definition of a publicly traded partnership. Pursuant to one of those
safe harbors (the "Private Placement Exclusion"), interests in a partnership
will not be treated as readily tradable on a secondary market or the substantial
equivalent thereof if (i) all interests in the partnership were issued in a
transaction (or transactions) that was not required to be registered under the
Securities Act, and (ii) the partnership does not have more than 100 partners at
any time during the partnership's taxable year. In determining the number of
partners in a partnership, a person owning an interest in a flow-through entity
(i.e., a partnership, grantor trust or S corporation) that owns an interest in
the partnership is treated as a partner in such partnership only if (a)
substantially all of the value of the owner's interest in the flow-through
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entity is attributable to the flow-through entity's interest (direct or
indirect) in the partnership and (b) a principal purpose of the use of the
flow-through entity is to permit the partnership to satisfy the 100-partner
limitation. The Partnership qualifies for the Private Placement Exclusion.
The Partnership has not requested, and does not intend to request, a
ruling from the Service that it will be classified as a partnership for federal
income tax purposes. Instead, at the closing of the Offering, Hunton & Williams
will deliver its opinion that the Partnership will be treated for federal income
tax purposes as a partnership and not as an association taxable as a
corporation. Unlike a tax ruling, an opinion of counsel is not binding upon the
Service, and no assurance can be given that the Service will not challenge the
status of the Partnership as a partnership for federal income tax purposes. If
such challenge were sustained by a court, the Partnership would be treated as a
corporation for federal income tax purposes, as described below. The opinion of
Hunton & Williams will be based on existing law, which is to a great extent the
result of administrative and judicial interpretation. No assurance can be given
that administrative or judicial changes would not modify the conclusions
expressed in the opinion.
If for any reason the Partnership was taxable as a corporation, rather
than as a partnership, for federal income tax purposes, the Company would not be
able to qualify as a REIT. See "--Requirements for Qualification--Income Tests"
and "--Requirements for Qualification--Asset Tests." In addition, any change in
the Partnership's status for tax purposes might be treated as a taxable event,
in which case the Company might incur a tax liability without any related cash
distribution. See "--Requirements for Qualification--Distribution Requirements."
Further, items of income and deduction of the Partnership would not pass through
to its partners, and its partners would be treated as shareholders for tax
purposes. Consequently, the Partnership would be required to pay income tax at
corporate tax rates on its net income, and distributions to its partners would
constitute dividends that would not be deductible in computing the Partnership's
taxable income.
Income Taxation of the Partnership and its Partners
Partners, Not the Partnership, Subject to Tax. A partnership is not a
taxable entity for federal income tax purposes. Rather, the Company will be
required to take into account its allocable share of the Partnership's income,
gains, losses, deductions, and credits for any taxable year of the Partnership
ending within or with the taxable year of the Company, without regard to whether
the Company has received or will receive any distribution from the Partnership.
Partnership Allocations. Although a partnership agreement generally will
determine the allocation of income and losses among partners, such allocations
will be disregarded for tax purposes under section 704(b) of the Code if they do
not comply with the provisions of section 704(b) of the Code and the Treasury
Regulations promulgated thereunder. 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 Partnership's allocations of taxable income, gain and loss 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 Contributed Properties. 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 in
exchange for an interest in the 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 the 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. The Treasury Department has issued
regulations requiring partnerships to use a "reasonable method" for allocating
items affected by section 704(c) of the Code and outlining several reasonable
allocation methods. The Partnership generally will elect to use the traditional
method for allocating Code section 704(c) items with respect to the hotels it
acquires in exchange for Units.
Under the Partnership Agreement, depreciation or amortization deductions
of the Partnership generally will be allocated among the partners in accordance
with their respective interests in the Partnership, except to the extent that
the Partnership is required under Code section 704(c) to use a method for
allocating tax depreciation deductions attributable to the Initial Hotels or
other contributed properties that results in the Company receiving a
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disproportionately large share of such deductions. In addition, gain on the sale
of an Initial Hotel will be specially allocated to the Limited Partners to the
extent of any "built-in" gain with respect to such Initial Hotel for federal
income tax purposes. Depending on the allocation method elected under Code
section 704(c), it is possible that the Company (i) may be allocated lower
amounts of depreciation deductions for tax purposes with respect to contributed
hotels than would be allocated to the Company if such hotels were to have a tax
basis equal to their fair market value at the time of contribution and (ii) may
be allocated taxable gain in the event of a sale of such contributed hotels in
excess of the economic profit allocated to the Company as a result of such sale.
These allocations may cause the Company to recognize taxable income in excess of
cash proceeds, which might adversely affect the Company's ability to comply with
the 95% distribution requirement, although the Company does not anticipate that
this event will occur. The foregoing principles also will affect the calculation
of the Company's earnings and profits for purposes of determining which portion
of the Company's distributions is taxable as a dividend. The allocations
described in this paragraph may result in a higher portion of the Company's
distributions being taxed as a dividend than would have occurred had the Company
purchased the Initial Hotels for cash.
Basis in Partnership Interest. The Company's adjusted tax basis in its
partnership interest in the Partnership generally will be equal to (i) the
amount of cash and the basis of any other property contributed to the
Partnership by the Company, (ii) increased by (A) its allocable share of the
Partnership's income and (B) its allocable share of indebtedness of the
Partnership, and (iii) reduced, but not below zero, by (A) the Company's
allocable share of the Partnership's loss and (B) the amount of cash distributed
to the Company, including constructive cash distributions resulting from a
reduction in the Company's share of indebtedness of the Partnership.
If the allocation of the Company's distributive share of the Partnership's
loss would reduce the adjusted tax basis of the Company's partnership interest
in the Partnership below zero, the recognition of such loss will be deferred
until such time as the recognition of such loss would not reduce the Company's
adjusted tax basis below zero. To the extent that the Partnership's
distributions, or any decrease in the Company's share of the indebtedness of the
Partnership (such decrease being considered a constructive cash distribution to
the partners), would reduce the Company's adjusted tax basis below zero, such
distributions (including such constructive distributions) will constitute
taxable income to the Company. Such distributions and constructive distributions
normally will be characterized as capital gain, and, if the Company's
partnership interest in the Partnership has been held for longer than the
long-term capital gain holding period (currently one year), the distributions
and constructive distributions will constitute long-term capital gain.
Depreciation Deductions Available to the Partnership. Immediately after
the Offering, the Company will make a cash contribution to the Partnership in
exchange for a partnership interest in the Partnership. The Partnership's
initial basis in each Initial Hotel for federal income tax purposes should be
the same as the Combined Entity's basis in that hotel on the date of
acquisition. Although the law is not entirely clear, the Partnership intends to
depreciate such depreciable hotel property for federal income tax purposes over
the same remaining useful lives and under the same methods used by the Combined
Entities. The Partnership's tax depreciation deductions will be allocated among
the partners in accordance with their respective interests in the Partnership
(except to the extent that the Partnership is required under Code section 704(c)
to use a method for allocating depreciation deductions attributable to the
Initial Hotels or other contributed properties that results in the Company
receiving a disproportionately large share of such deductions). To the extent
the Partnership acquires additional hotel properties for cash, the Partnership's
initial basis in the properties for federal income tax purposes generally will
be equal to the purchase price paid by the Partnership. The Partnership plans to
depreciate such depreciable hotel property for federal income tax purposes under
MACRS. Under MACRS, the Partnership generally will depreciate such furnishings
and equipment over a seven-year recovery period using a 200% declining balance
method and a half-year convention. If, however, the Partnership places more than
40% of its furnishings and equipment in service during the last three months of
a taxable year, a mid-quarter depreciation convention must be used for the
furnishings and equipment placed in service during that year. Under MACRS, the
Partnership generally will depreciate buildings and improvements over a 39-year
recovery period using a straight line method and a mid-month convention.
Sale of the Company's or the Partnership's Property
Generally, any gain realized by the Company or the Partnership on the sale
of property held for more than one year will be long-term capital gain, except
for any portion of such gain that is treated as depreciation or cost recovery
recapture. Any gain recognized on the disposition of the Initial Hotels will be
allocated first to the Limited Partners under section 704(c) of the Code to the
extent of their "built-in gain" on those hotels for federal income tax purposes.
The Limited Partners' "built-in gain" on the Initial Hotels sold will equal the
excess of the Limited Partners' proportionate share of the book value of the
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Initial Hotels over the Limited Partners' tax basis allocable to the Initial
Hotels at the time of the sale. Any remaining gain recognized by the Partnership
on the disposition of the Initial Hotels will be allocated among the partners in
accordance with their respective percentage interests in the Partnership. The
Board of Trustees has adopted a policy that any decision in connection with any
transaction involving the Company, including the purchase, sale lease or
mortgage of any real estate asset, in which a Trustee or officer of the Company,
or any Affiliate thereof, has any interest (other than solely as a result of his
status as a Trustee, officer or shareholder of the Company) must be approved by
a majority of the Trustees, including a majority of the Independent Trustees.
See "Risk Factors--Conflicts of Interest--Conflicts Relating to Sales or
Refinancing of Initial Hotels."
Any gain realized on the sale of any property held by the Company or the
Partnership as inventory or other property held primarily for sale to customers
in the ordinary course of the Company's or the Partnership's trade or business
will be treated as income from a prohibited transaction that is subject to a
100% penalty tax. See "--Requirements for Qualification--Income Tests." Such
prohibited transaction income also may have an adverse effect upon the Company's
ability to satisfy the income tests for REIT status. See "--Requirements For
Qualification--Income Tests" above. The Company, however, does not presently
intend to acquire or hold or to allow the Partnership to acquire or hold any
property that represents inventory or other property held primarily for sale to
customers in the ordinary course of the Company's or the Partnership's trade or
business.
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UNDERWRITING
Subject to the terms and conditions of the Underwriting Agreement, the
Company has agreed to sell to the Underwriter, and the Underwriter has agreed to
take and pay for, 1,833,334 Priority Common Shares, if any are taken. The
Company intends to sell 166,666 Priority Common Shares directly to certain
Hersha Affiliates at the Offering Price and no selling commission will be
payable to the Underwriter with respect to such shares.
The Underwriter proposes to offer the Priority Common Shares in part
directly to the public at the Offering Price set forth on the cover page of the
Prospectus and in part to certain securities dealers at such price less a
concession of $________ per share. After the Priority Common Shares are released
for sale to the public, the Offering Price and other selling terms may from time
to time be varied by the Underwriter.
The Company has granted the Underwriter an option exercisable for 30 days
after the date of this Prospectus to purchase up to an aggregate of 275,000
additional Priority Common Shares solely to cover over-allotments, if any.
Pursuant to the Underwriting Agreement, the obligations of the Underwriter
to purchase the Common Shares are subject to approval of certain legal matters
by counsel to the Underwriter and to various other conditions which are
customary in transactions of this type, including that, as of the closing date
of the Offering, there shall not have occurred (i) a suspension or material
limitation in trading in securities generally on the New York Stock Exchange or
The American Stock Exchange; (ii) a general moratorium on commercial banking
activities in Virginia or New York, (iii) the engagement by the United States in
hostilities which have resulted in the declaration of a national emergency or
war if any such event would have such a materially adverse effect, in the
Underwriter's reasonable judgment, as to make it impracticable or inadvisable to
proceed with the purchase of shares on the terms and in the manner contemplated
herein; or (iv) such a material adverse change in general economic, political,
financial or international conditions affecting financial markets in the United
States having a material adverse impact on trading prices of securities in
general, as, in the Underwriter's reasonable judgment, makes it inadvisable to
proceed with the solicitation of offers to purchase the shares or to consummate
the offering with respect to investors solicited by the Underwriter on the terms
and conditions contemplated herein. The Company has agreed to indemnify the
Underwriter against certain liabilities, including liabilities under the
Securities Act.
The Company will issue to the Underwriter the Underwriter Warrants to
purchase 183,333 Priority Common Shares exercisable for a period of five years
after the effective date of the Offering at a price per share equal to 165% of
the Offering Price. Until January ___, 2003, the Company has agreed to file
with the Commission a shelf registration statement covering the resale of the
Underwriter Warrants and all of the Priority Common Shares that may be issued
upon exercise of the Underwriter Warrants ("Warrant Shares") in the event that
the holders of at least 50,000 Underwriter Warrants (or Warrant Shares) request
such registration. The first such registration shall be at the Company's
expense. The holders of Underwriter Warrants and/or Warrant Shares may also
request piggyback registration of the Underwriter Warrants and Warrant Shares at
the Company's expense for a period ending January ___, 2005. Upon any of such
requests, the Company will use its best efforts to have such registration
statement declared effective.
The Company has granted the Underwriter a right of first refusal, for a
period of three years following consummation of the Offering, to act as
underwriter or sales agent with respect to any future offering by the Company or
the Partnership of any debt or equity securities. This right of first refusal,
by limiting the ability of the Company and the Partnership to use other
potential underwriters or selling agents, might have the effect of limiting the
access of the Company and the Partnership to capital markets.
Pursuant to the Underwriter's right to designate two Trustees to serve on
the Board of Trustees of the Company, L. McCarthy Downs, III and Everette G.
Allen, Jr. have agreed to serve as Trustees. Messrs. Downs and Allen each will
receive $10,000 per year for serving as a Trustee of the Company.
The Underwriter does not intend to sell the Priority Common Shares to any
accounts over which it exercises discretionary authority.
Prior to the Offering, there has been no public market for the Priority
Common Shares. The initial public offering price is anticipated to be $6.00 per
share. See "Risk Factors--Market for Common Shares."
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The Company and the Limited Partners have agreed, subject to certain
limited exceptions, not to offer, sell, contract to sell or otherwise dispose of
any Priority Common Shares (or any securities convertible into, or exercisable
or exchangeable for shares in the Company) for a period of 90 days after the
date of this Prospectus, without the prior written consent of the Underwriter.
The Underwriter will receive, along with the holders of the Priority
Common Shares, notice from the Company that the Priority Rights will terminate
in 15 trading days from the date the Company sends such notice, provided that
the closing bid price of the Priority Common Shares is at least $7.00 on each
trading day during such 15-day period.
The Underwriter has agreed to pay $25,000 of the legal fees incurred by
the Company in connection with the Offering.
The Priority Common Shares have been approved for listing, subject to
final notice of issuance, on The American Stock Exchange under the trading
symbol "HT."
EXPERTS
The balance sheet of the Company as of May 27, 1998 and of the Lessee as
of May 27, 1998 included in this Prospectus, and the Combined Financial
Statements and financial statement schedule of the Combined Entities-- Initial
Hotels as of December 31, 1997 and 1996 and for each of the three years in the
period ended December 31, 1997 included in this Prospectus, have been audited by
Moore Stephens, P.C., independent certified public accountants, as set forth in
their reports thereon included elsewhere herein and in the Registration
Statement. Such Balance Sheets, Combined Financial Statements and financial
statement schedule are included in reliance upon such reports given on their
authority as experts in accounting and auditing.
REPORTS TO SHAREHOLDERS
The Company intends to furnish its shareholders with annual reports
containing consolidated financial statements audited by its independent
certified public accountants and with quarterly reports containing unaudited
condensed consolidated financial statements for each of the first three quarters
of each fiscal year.
LEGAL MATTERS
The validity of the Priority Common Shares offered hereby will be passed
upon for the Company by Hunton & Williams. In addition, the description of
federal income tax consequences contained in the section of the Prospectus
entitled "Federal Income Tax Consequences" is based on the opinion of Hunton &
Williams. Certain legal matters related to this Offering will be passed upon for
the Underwriter by Willcox & Savage, P.C. Hunton & Williams and Willcox &
Savage, P.C. will rely on the opinion of Ballard Spahr Andrews & Ingersoll, LLP
as to all matters of Maryland law.
ADDITIONAL INFORMATION
The Company has filed with the Commission a Registration Statement on Form
S-11 (of which this Prospectus is a part) under the Securities Act with respect
to the securities offered hereby. This Prospectus does not contain all of the
information set forth in the Registration Statement, certain portions of which
have been omitted as permitted by the rules and regulations of the Commission.
Statements contained in this Prospectus as to the content of any contract or
other document are not necessarily complete. In each instance reference is made
to the copy of such contract or other document filed as an exhibit to the
Registration Statement, each such statement being qualified in all respects by
such reference and the exhibits and schedules hereto. For further information
regarding the Company and the Common Shares offered hereby, reference is hereby
made to the Registration Statement and such exhibits and schedules.
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The Registration Statement and the exhibits and schedules forming a part
thereof filed by the Company with the Commission can be inspected and copies
obtained from the Commission at Room 1204, Judiciary Plaza, 450 Fifth Street,
N.W., Washington, D.C. 20549, and at the following regional offices of the
Commission: 7 World Trade Center, 13th Floor, New York, New York 10048 and
Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago,
Illinois 60661. Copies of such material can be obtained from the Public
Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C.
20549, at prescribed rates. The Commission also maintains a website that
contains reports, proxy and information statements and other information
regarding registrants that file documents with the Commission, including the
Company, and the address is http://www.sec.gov.
101
<PAGE>
GLOSSARY
Unless the context otherwise requires, the following capitalized terms
shall have the meanings set forth below for the purposes of this Prospectus.
"5/50 Rule" means the requirement in the Code that not more than 50% in
value of the outstanding shares of beneficial interest of the Company be owned,
directly or indirectly, by five or fewer individuals (as defined in the Code to
include certain entities) during the last half of each taxable year.
"Acquisition Policy" means the Company's initial policy to acquire a hotel
for which it expects to receive rents at least equal to 12% of the purchase
price paid for the hotel, net of (i) property and casualty insurance premiums,
(ii) real estate and personal property taxes, and (iii) a reserve for furniture,
fixtures and equipment equal to 4% of gross revenues per quarter at the hotel.
"ADA" means the Americans with Disabilities Act of 1990.
"Additional Charges" means certain amounts payable by the Lessee in
connection with Percentage Leases, including interest accrued on any late
payments or charges.
"ADR" means average daily room rate.
"Affiliate" means (i) any person directly or indirectly owning,
controlling, or holding, with power to vote ten percent or more of the
outstanding voting securities of such other person, (ii) any person ten percent
or more of whose outstanding voting securities are directly or indirectly owned,
controlled, or held, with power to vote, by such other person, (iii) any person
directly or indirectly controlling, controlled by, or under common control with
such other person, (iv) any executive officer, director, trustee or general
partner of such other person, and (v) any legal entity for which such person
acts as an executive officer, director, trustee or general partner. The term
"person" means and includes any natural person, corporation, partnership,
association, limited liability company or any other legal entity. An indirect
relationship shall include circumstances in which a person's spouse, children,
parents, siblings or mothers-, fathers-, sisters- or brothers-in-law is or has
been associated with a person.
"Assumed Indebtedness" means that certain indebtedness in the aggregate
principal amount of approximately $17.4 million secured by Initial Hotels, to be
assumed by the Partnership in the Formation Transactions and to remain
outstanding after the application of the net proceeds of the Offering.
"Base Rent" means the fixed obligation of the Lessee to pay a minimum sum
certain in quarterly Rent under each of the Percentage Leases.
"Beneficiary" means the beneficiary of a Trust.
"Board of Trustees" means the Board of Trustees of the Company.
"Bylaws" means the Bylaws of the Company.
"Choice Hotels" means Choice Hotels International, Inc.
"Class B Common Shares" means the Company's Class B common shares of
beneficial interest, par value $0.01 per share.
"Closing Date" means the closing date of the Offering.
"Closing Price" means the last sale price quoted on the American Stock
Exchange.
"Code" means the Internal Revenue Code of 1986, as amended.
"Combined Entities" means Hasu P. Shah; Neil H. Shah; Bharat C. Mehta;
David L. Desfor; Madhusudan I. Patni; Manhar Gandhi; Shree Associates; JSK
Associates; Shanti Associates; Shreeji Associates; Kunj Associates; Devi
102
<PAGE>
Associates; Shreenathji Enterprises, Ltd.; 2144 Associates; and 144 Associates,
344 Associates, 544 Associates and 644 Associates, joint tenants doing business
as 2544 Associates, collectively the limited partnerships, corporation and
individuals that, prior to the Formation Transactions, own the Initial Hotels.
"Commission" means the United States Securities and Exchange Commission.
"Common Shares" means the Priority Common Shares and the Class B Common
Shares.
"Company" means Hersha Hospitality Trust, a Maryland real estate
investment trust.
"Conversion Ratio" means the ratio representing the number of Priority
Common Shares into which one Class B Common Share is convertible.
"Debt Policy" means the Company's initial policy to limit consolidated
indebtedness to less than 67% of the aggregate purchase price paid by the
Company for the hotels in which it has invested.
"Declaration of Trust" means the Declaration of Trust of the Company, as
amended and restated.
"FIRPTA" means Foreign Investment in Real Property Tax Act of 1980, as
amended.
"First Adjustment Date" means December 31, 1999.
"Forecast" means the Company's Forecasted Statement of Operations for the
twelve months ending January 31, 2000.
"Formation Transactions" means the principal transactions in connection
with the formation of the Company as a REIT, the Offering and the acquisition of
the Initial Hotels.
"Franchise Licenses" means the franchise licenses held by the Lessee for
the Initial Hotels.
"Funds From Operations" means net income, (computed in accordance with
generally accepted accounting principles), excluding gains, or losses, from debt
restructuring or sales of property, plus depreciation and amortization, and
after adjustments for unconsolidated partnerships and joint ventures.
"General Partner" means Hersha Hospitality Trust, as the sole general
partner of the Partnership.
"Hersha Affiliates" means Hasu P. Shah; Jay H. Shah; Neil H. Shah; Bharat
C. Mehta; Kanti D. Patel; Rajendra O. Gandhi; Kiran P. Patel; David L. Desfor;
Madhusudan I. Patni; Manhar Gandhi; Shree Associates; JSK Associates; Shanti
Associates; Shreeji Associates; Kunj Associates; Devi Associates; Shreenathji
Enterprises, Ltd.; 2144 Associates; 144 Associates, 344 Associates, 544
Associates and 644 Associates, joint tenants doing business as 2544 Associates;
the Lessee and their Affiliates, collectively owning 100% of the interests of
the Combined Entities.
"Hersha Warrants" means warrants that the Partnership has granted to 2744
Associates, L.P., which is a Hersha Affiliate, to purchase 250,000 Units for a
period of five years at a price per Unit equal to 165% of the Offering Price.
"Incentive Threshold" means a certain amount for each Initial Hotel in
excess of the Threshold up to which the Company receives a certain percentage of
the room revenues in excess of the Threshold as a component of Percentage Rent.
"Independent Trustee" means a Trustee of the Company who is not an
officer, director or employee of the Company, any lessee of the Company's or the
Partnership's properties or any underwriter or placement agent of the shares of
beneficial interest of the Company that has been engaged by the Company within
the past three years, or any Affiliate thereof.
"Initial Hotels" means ten hotels to be owned by the Partnership after the
Formation Transactions are completed, which hotels include three Holiday Inn
Express hotels, two Hampton Inn hotels, two Holiday Inn hotels, two Comfort Inn
hotels and one Clarion Suites hotel.
103
<PAGE>
"Initial Fixed Rent" means the fixed rent payable by the Lessee with
respect to the Newly-Developed Hotels and the Newly-Renovated Hotels until the
First Adjustment Date or the Second Adjustment Date, as applicable.
"Interested Shareholder" means any person who beneficially owns 10% or
more of a company's voting shares, or an Affiliate or associate of a company
that, at any time within the two-year period prior to the date in question, was
the beneficial owner of 10% or more of the voting power of a company's voting
shares.
"Junior Shares" means any class or series of the Company's shares of
beneficial interest ranking junior to the Priority Common Shares with respect to
payment of dividends or amounts upon liquidation, dissolution or winding up.
"Lessee" means Hersha Hospitality Management, LP, a Pennsylvania limited
partnership, which will lease from the Partnership and operate the Initial
Hotels pursuant to the Percentage Leases.
"Limited Partners" means the limited partners of the Partnership.
"Line of Credit" means a $10 million line of credit facility that the
Company is currently pursuing from various lenders.
"Market Price" means, on a given day, the average of the Closing Prices
for the five consecutive Trading Days ending on such date.
"NAREIT" means the National Association of Real Estate Investment Trusts,
Inc.
"Newly-Developed Hotels" means the Holiday Inn Express(R) hotels located
in Hershey, Pennsylvania and New Columbia, Pennsylvania, the Hampton Inn(R)
hotel located in Carlisle, Pennsylvania and the Comfort Inn(R) hotel located in
Harrisburg, Pennsylvania.
"Newly-Renovated Hotels" means the Holiday Inn Express(R) hotel located in
Harrisburg, Pennsylvania, the Holiday Inn(R) hotel located in Milesburg,
Pennsylvania and the Comfort Inn located in Denver, Pennsylvania.
"Non-U.S. Shareholders" means nonresident alien individuals, foreign
corporations, foreign partnerships and other foreign shareholders.
"Offering" means the offering of Priority Common Shares hereby.
"Offering Price" means the initial public offering price of the Priority
Common Shares in the Offering of $6.00 per share.
"Option Agreement" means the option agreement to be executed by the
Partnership and Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti
D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I.
Patni and Manhar Gandhi, each a Hersha Affiliate, granting the Partnership
certain rights to acquire certain hotels developed or acquired by the Hersha
Affiliates.
"Option Plan" means the Hersha Hospitality Trust Option Plan.
"Ownership Limitation" means the restriction on ownership (or deemed
ownership by virtue of the attribution provisions of the Code) of more than 9.9%
of the number of outstanding Common Shares or the number of outstanding
Preferred Shares of any series.
"Parity Shares" means any class or series of the Company's shares of
beneficial interest ranking in parity with the Priority Common Shares with
respect to payment of dividends or amounts upon liquidation, dissolution or
winding up.
"Partnership" means Hersha Hospitality Limited Partnership, a limited
partnership organized under the laws of the Commonwealth of Virginia.
"Partnership Agreement" means the partnership agreement of the
Partnership, as amended and restated.
104
<PAGE>
"Percentage Leases" mean operating leases between the Lessee and the
Partnership pursuant to which the Lessee will lease the ten Initial Hotels from
the Partnership and any additional hotels acquired by the Company after the date
of the Offering.
"Percentage Rents" means Rent payable by the Lessee pursuant to the
Percentage Leases that is based on percentages of gross revenues per quarter
from the Initial Hotels.
"Preferred Shares" means the preferred shares of beneficial interest, par
value $.01 per share, of the Company.
"Priority Common Shares" means the Company's Priority Class A common
shares of beneficial interest, par value $0.01 per share.
"Priority Distribution" means cumulative dividends in an amount per
Priority Common Share of $0.18 per quarter, to which holders of the Priority
Common Shares are entitled during the Priority Period prior to distributions to
any Junior Shares.
"Priority Period" means the period beginning on the date of the closing of
the Offering and ending on the earlier of: (i) the date that is 15 trading days
after the Company sends notice to the holders of the Priority Common Shares that
their Priority Rights will terminate in 15 trading days, provided that the
closing bid price of the Priority Common Shares is at least $7.00 on each
trading day during such 15-day period, or (ii) the fifth anniversary of the
closing of the Offering.
"Priority Rights" means the priority rights with respect to dividends and
amounts payable upon liquidation, dissolution or winding up to which holders of
the Priority Common Shares are entitled.
"Prohibited Owner" means the record owner of Shares-in-Trust.
"Redemption Right" means the right of the persons receiving Subordinated
Units in the Formation Transactions to cause the redemption of Subordinated
Units in exchange for cash or, at the option of the Company, Common Shares on a
one-for-one basis.
"REIT" means real estate investment trust, as defined in section 856 of
the Code.
"Rent" means the Initial Fixed Rent, the Base Rent and the Percentage
Rents.
"REVPAR" means revenue per available room for the applicable period,
determined by dividing room revenue by available rooms.
"Rule 144" means the rule promulgated under the Securities Act that
permits holders of restricted securities as well as affiliates of an issuer of
the securities, pursuant to certain conditions and subject to certain
restrictions, to sell their securities publicly without registration under the
Securities Act.
"Securities Act" means the Securities Act of 1933, as amended.
"Second Adjustment Date" means December 31, 2000.
"Service" means the United States Internal Revenue Service.
"Shares-in-Trust" means any Common Shares or Preferred Shares the
purported transfer of which would (i) result in any person owning, directly or
indirectly, Common Shares or Preferred Shares in excess of the Ownership
Limitation, (ii) result in the Common Shares and Preferred Shares being owned by
fewer than 100 persons (determined without reference to any rules of
attribution), (iii) result in the Company being "closely held" within the
meaning of Section 856(h) of the Code, or (iv) cause the Company to own,
actually or constructively, 10% or more of the ownership interests in a tenant
of the Company's or the Partnership's real property, within the meaning of
Section 856(d)(2)(B) of the Code.
105
<PAGE>
"Stabilized Hotels" means the Hampton Inn(R) hotel located in Selinsgrove,
Pennsylvania, the Holiday Inn(R) hotel and conference center located in
Harrisburg, Pennsylvania and the Clarion Suites(R) hotel located in
Philadelphia, Pennsylvania.
"Subordinated Units" means Units received by the Hersha Affiliates in
exchange for the Initial Hotels.
"Threshold" means a certain amount for each Initial Hotel up to which the
Company receives a certain percentage of room revenues as a component of
Percentage Rent.
"Trading Day" means a trading day on the American Stock Exchange.
"Treasury Regulations" means the income tax regulations promulgated under
the Code.
"Trust" means a trust established to hold Shares-in-Trust.
"Trustee" means a member of the Company's Board of Trustees.
"Trustees' Plan" means the Hersha Hospitality Trust Non-Employee Trustees'
Option Plan.
"Underwriter" means Anderson & Strudwick, Incorporated.
"Underwriter Warrants" means the warrants that the Company has granted the
Underwriter to purchase 183,333 Priority Common Shares for a period of five
years at a price per Priority Common Share equal to 165% of the Offering Price.
"Units" means units of limited partnership interest in the Partnership.
106
<PAGE>
INDEX TO PRO FORMA CONDENSED AND COMBINED FINANCIAL STATEMENTS
Hersha Hospitality Trust
Forecasted Statement of Operations................................. F-2
Forecasted Statement of Operations for the Twelve Months ended
January 31, 2000 .................................................. F-4
Notes to Forecasted Statement of Operations........................ F-5
Pro Forma Condensed Combined Balance Sheet as of
September 30, 1998................................................. F-9
Independent Auditors' Report....................................... F-13
Balance Sheet as of May 27, 1998................................... F-14
Notes to Balance Sheet............................................. F-15
Hersha Hospitality Limited Partnership
Financial statements are not presented as the Partnership is not active and when
active will be consolidated with the financial results of Hersha Hospitality
Trust.
Hersha Hospitality Management, L.P.
Independent Auditors' Report....................................... F-18
Balance Sheet as of May 27, 1998................................... F-19
Notes to Balance Sheet............................................. F-20
Combined Entities - Initial Hotels
Pro Forma Condensed Combined Statement of Operations
for the nine months ended September 30, 1998 ...................... F-21
Pro Forma Condensed Combined Statement of Operations
for the year ended December 31, 1997............................... F-23
Independent Auditors' Report....................................... F-25
Combined Financial Statements
Balance Sheets as of September 30, 1998 [Unaudited] and
December 31, 1997 and 1996........................................ F-26
Statements of Operations for the nine months ended
September 30, 1998 and 1997 [Unaudited] and for the
years ended December 31, 1997, 1996, and 1995..................... F-27
Statement of Owners' Equity for the nine months ended
September 30, 1998 [Unaudited] and for the years ended
December 31, 1997, 1996, and 1995................................. F-28
Statements of Cash Flows for the nine months ended
September 30, 1998 and 1997 [Unaudited] and for the years
ended December 31, 1997, 1996, and 1995........................... F-29
Notes to Combined Financial Statements............................ F-31
Schedule XI - Real Estate and Accumulated Depreciation............. F-39
. . . . . . . . .
F-1
<PAGE>
HERSHA HOSPITALITY TRUST
FORECASTED STATEMENT OF OPERATIONS
(UNAUDITED)
The following unaudited Forecasted Statement of Operations has been
prepared giving effect to the Formation Transactions. The Formation Transactions
include the transactions designed to consolidate the ownership interests of the
Initial Hotels in the Company, to facilitate the Offering and to enable the
Company to qualify as a REIT for federal income tax purposes commencing with its
taxable year ending December 31, 1999. The Forecasted Statement of Operations
for the twelve months ending January 31, 2000 assumes that the Formation
transactions occurred on February 1, 1999.
The unaudited Forecasted Statement of Operations presents, to the best of
management's knowledge and belief, the Company's expected results of operations
for the forecast period. The forecast reflects management's judgment, as of the
date of this forecast, of the expected conditions and its expected course of
action based on the rents and certain expenses reflected in the forecast. The
assumptions disclosed herein are those that management believes are significant
to the forecast but are not an all-inclusive list of those used in the
preparation of the prospective information. Management reasonably expects, to
the best of its knowledge and belief, that the actual results of operations will
approximate those shown; however, there is no assurance that the forecasted
results will be achieved. Furthermore, there will be differences between
forecasted and actual results, because events and circumstances do not occur as
expected, and those differences may be material.
The unaudited Forecasted Statement of Operations has been prepared using
generally accepted accounting principles that the Company expects to use when
preparing its historical financial statements and should be read in conjunction
with "Risk Factors," the Company's Pro Forma Condensed Balance Sheet, historical
financial statements and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" included elsewhere herein. In addition,
Moore Stephens, P.C., independent accountants for the Company, have not
examined, reviewed, compiled or applied agreed-upon procedures to the Forecasted
Statement of Operations and, accordingly, assume no responsibility for and
disclaim any association with such forecast, and no other independent expert has
reviewed such forecast.
The following Forecasted Statement of Operations has been completed on
December 18, 1998. The Company does not undertake any obligation to release
publicly the results of any future revisions it may make to the Forecasted
Statement of Operations or to update the Forecasted Statement of Operations to
reflect events or circumstances after the date hereof, event if any or all of
the underlying assumptions do not materialize. Furthermore, the Company will not
update or revise the Forecasted Statement of Operations to reflect changes in
general economic or industry conditions. Investors are cautioned against
attributing undue certainty to the Company's assessment of future operations.
The Forecasted Statement of Operations should not be relied upon for any purpose
following the consummation of the Offering.
F-2
<PAGE>
The Forecasted Statement of Operations contains extrapolations based upon
a number of estimates and assumptions that, while presented with numerical
specificity and as of December 18, 1998, considered reasonable by management of
the Company, are inherently subject to significant business, economic,
competitive, regulatory and other uncertainties and contingencies, all of which
are difficult to predict and many of which are beyond the control of the
Company. The assumptions disclosed herein are those that the Company believes
are significant to the Forecasted Statement of Operations and reflect
management's judgment as of December 18, 1998. The Forecasted Statement of
Operations is necessarily speculative in nature, and it is usually the case that
one or more of the assumptions do not materialize. Not all assumptions used in
the preparation of the Forecasted Statement of Operations have been set forth
herein. The actual results achieved during the forecasted period will vary from
those set forth in the Forecasted Statement of Operations, and those variations
may be material. As disclosed elsewhere in this Prospectus under "Risk Factors,"
the business and operations of the Company are subject to substantial risks that
increase the uncertainty inherent in the Forecasted Statement of Operations.
Many of the factors disclosed under "Risk Factors" in this Prospectus could
cause actual results to differ materially from those expressed in the Forecasted
Statement of Operations.
THE INCLUSION OF THE FORECASTED STATEMENT OF OPERATIONS HEREIN SHOULD NOT
BE REGARDED AS A REPRESENTATION BY THE COMPANY OR ANY OTHER PERSON THAT SUCH
FORECAST WILL BE ACHIEVED. PROSPECTIVE INVESTORS ARE CAUTIONED NOT TO PLACE
UNDUE RELIANCE ON THE FORECASTED STATEMENT OF OPERATIONS AND SHOULD MAKE THEIR
OWN INDEPENDENT ASSESSMENT OF THE COMPANY'S FUTURE RESULTS OF OPERATIONS.
F-3
<PAGE>
HERSHA HOSPITALITY TRUST
FORECASTED STATEMENT OF OPERATIONS
TWELVE MONTHS ENDING JANUARY 31, 2000
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
Lease revenue (1)...................................................... 7,175
Depreciation and amortization (2)...................................... 2,081
Interest expense (3)................................................... 1,501
Real estate and personal property taxes and
property and casualty insurance (4).............................. 605
General and administrative expenses (5)................................ 335
Ground lease (6)....................................................... 21
---
Total expenses......................................................... 4,543
Net income before minority interest.................................... 2,632
Minority interest (7).................................................. (1,520)
Net income............................................................. 1,112
Net income per Priority Common Share................................... 0.61
Weighted average number of Priority Common Shares outstanding (8)....1,833,334
See Notes to Forecasted Statement of Operations.
F-4
<PAGE>
HERSHA HOSPITALITY TRUST
NOTES TO FORECASTED STATEMENT OF OPERATIONS
(UNAUDITED)
The following notes present a summary of significant assumptions and
accounting policies used by the Company in the preparation of the Forecasted
Statement of Operations.
(1) Forecasted lease revenue is based on an agreement between the Partnership
and the Lessee in which the parties have agreed to the lease terms and the
form of lease to be signed at the closing of the Offering. Forecasted
lease revenue is calculated under one of two methods depending upon
whether the Initial Hotel is a Stabilized Hotel with an established
operating history or a Newly-Developed or a Newly-Renovated Hotel. Because
the Lessee is required to pay Initial Fixed Rents on the Newly-Developed
Hotels and the Newly-Renovated Hotels for at least the first twelve months
of operation, the forecasted lease revenue for those hotels for the twelve
months ending January 31, 2000 is based on the Initial Fixed Rents. The
forecasted lease revenue for the Stabilized Hotels for the twelve months
ending January 31, 2000 is calculated by applying the percentage rent
formulas to the historical revenues for those hotels for the twelve
months ended September 30, 1998. Forecasted lease revenue for the twelve
months ending January 31, 2000 is computed as follows:
F-5
<PAGE>
Initial Hotel Initial Percentage Forecasted Lease
------------- Fixed Rent Rent Formula Revenue for the 12
---------- ------------ Months Ending
January 31, 2000
----------------
Newly-Developed Hotels
Holiday Inn Express, Hershey, $795 $ 795
PA
Holiday Inn Express, New 498 498
Columbia, PA
Hampton Inn, Carlisle, PA 699 699
Comfort Inn, Harrisburg, PA 514 514
Newly-Renovated Hotels
Holiday Inn Express, 504 504
Harrisburg, PA
Holiday Inn, Milesburg, PA 525 525
Comfort Inn, Denver, PA 262 262
Stabilized Hotels
Holiday Inn Hotel and 44.3% of room revenue 1,670
Conference Center, up to $2,638,247, plus
Harrisburg, PA 65.0% of room revenue
in excess of $2,638,247
but less than $3,103,820,
plus 31.0% of room revenue
in excess of $3,103,820,
plus 8.0% of all non-room
revenue.
Hampton Inn, Selinsgrove, PA 49.0% of room revenue 690
up to $1,081,152, plus
65.0% of room revenue
in excess of
$1,081,152 but less
than $1,271,943, plus
29.0% of room revenue
in excess of
$1,271,943, plus 8.0%
of all non-room
revenue.
Clarion Suites, Philadelphia, PA 36.1% of room revenue 1,018
up to $1,998,097, plus
65.0% of room revenue in
excess of $1,998,097 but
less than $2,350,702,
plus 29.0% of room revenue
in excess of $2,350,702,
plus 8.0% of all non-room
revenue.
Total $7,175
F-6
<PAGE>
(2) Represents management's estimate of depreciation and amortization based on
the Company's pro forma balance sheet at September 30, 1998, straight-line
deprecation and amortization methods, estimated useful lives of 15-40
years for buildings and improvement, and estimated useful lives of 5-7
years for furniture and equipment.
(3) Represents a weighted average interest rate of 8.32% per annum on the
Assumed Indebtedness.
(4) Represents management's estimate of real estate and personal property
taxes and property and casualty insurance.
(5) Represents management's estimate of fees payable under the Administrative
Services Agreement ($155), legal and audit fees ($100), Trustees' fees
($60) and other expenses ($20).
(6) Represents management's estimate of ground lease payments with respect to
the Holiday Inn Express, Harrisburg, PA and the Comfort Inn, Denver, PA
pursuant to lease agreements.
(7) The Partnership Agreement provides that depreciation and amortization
deductions of the Partnership for each fiscal year will be allocated to
the Company and the Limited Partners in accordance with their respective
percentage interests in the Partnership. Profit of the Partnership
(excluding depreciation and amortization deductions) for each year will be
allocated in the following order of priority: (i) first, to the Company
until the aggregate amount of profit allocated to the Company under this
clause (i) for the current and all prior years equals the aggregate amount
of Preferred Return (as herein defined) distributed to the Company for the
current and all prior years, (ii) second, to the Limited Partners in
accordance with their respective percentage interests in the Partnership
until the aggregate amount of profit allocated to the Limited Partners
under this clause second for the current and all prior years equals the
aggregate amount of Preferred Return distributed to the Limited Partners
for the current and all prior years, and (iii) finally, to the Company and
the Limited Partners in accordance with their respective percentage
interests in the Partnership. Accordingly, forecasted minority interest is
computed as follows:
Distributable Cash:
Forecasted net income.................................. $ 2,632
Add: Forecasted depreciation and amortization......... 2,081
Forecasted net cash from operations.................... 4,713
Less: Forecasted FF&E reserves and debt repayments.... (1,422)
-------
Forecasted distributable cash.......................... $ 3,291
F-7
<PAGE>
Allocations:
Forecasted depreciation and amortization
(68.38% minority interest)......................... $(1,423)
Forecasted net income (before depreciation and
amortization) up to distributable cash
($3,291 - $1,320 priority distribution)............ 1,971
Forecasted remaining net income (before depreciation
and amortization) ($2,632 + $2,081 - $3,291 x 68.38%
minority interest)................................. 972
-------
Forecasted minority interest........................... $ 1,520
(8) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates.
The Company plans to make an election to be taxed as a REIT commencing
with its taxable year ending December 31, 1999. As a REIT, the Company generally
will not be taxed on income it currently distributes to its shareholders so long
as it distributes at least 95% of its taxable income currently. REITs are
subject to a number of organizational and operational requirements. Even if the
Company continues to qualify for taxation as a REIT, the Company may be subject
to federal income taxes and to certain state and local taxes on its income and
property.
F-8
<PAGE>
HERSHA HOSPITALITY TRUST
PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED, IN THOUSANDS]
This unaudited pro forma Condensed Combined Balance Sheet is presented as if the
acquisition of the Initial Hotels and the consummation of the Offering
contemplated by this prospectus had occurred on September 30, 1998. Such pro
forma information is based upon the Combined Balance Sheets of the Combined
Entities - Initial Hotels as adjusted for the application of the proceeds of the
Offering as set forth under the caption "Use of Proceeds"and assumes the
issuance of 3,964,108 Units to the Hersha Affiliates which give rise to a
minority interest percentage of 68.38%. It should be read in conjunction with
the Combined Financial Statements of the Combined Entities - Initial Hotels and
the Notes thereto included at pages F-31 through F-38 of this Prospectus. In
management's opinion, all adjustments necessary to reflect the effects of this
transaction have been made.
This unaudited pro forma Condensed Combined Balance Sheet is not necessarily
indicative of what the actual financial position would have been assuming such
transactions had been completed as of September 30, 1998, nor does it purport to
represent the future financial position of the Company.
Pro forma Condensed Combined Statements of Operations are not presented as
Hersha Hospitality Trust has had no historical operations as a hotel lessor.
F-9
<PAGE>
HERSHA HOSPITALITY TRUST
PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED, IN THOUSANDS]
<TABLE>
<CAPTION>
Historical Adjustments
Combined and
Entities Proceeds of Pro Forma Use of Pro Forma
Initial Hotels Offering Company Proceeds Company
-------------- -------- ------- -------- -------
[A] [B] [C]
<S> <C> <C> <C> <C> <C>
Assets:
Net Investment in Hotel
Properties $ 26,904 $ -- $ 26,904 $ 250 [D] $ 40,489
(552) [E]
(150) [E]
14,037 [F]
Cash 1,258 9,470 10,728 (8,378) [D] 2,350
Other Assets 1,536 -- 1,536 (1,536) [E] --
Intangibles 1,382 -- 1,382 488 [D] 1,404
(466) [E]
---------- ------- ---------- --------- --------
Total Assets $ 31,080 $ 9,470 $ 40,550 $ 3,693 $ 44,243
========== ======= ========== ========= ========
Liabilities:
Mortgages $ 19,800 $ -- $ 19,800 $ (2,400) [D] $ 17,400
Due to Related Parties 3,982 -- 3,982 (3,982) [D] --
Accounts Payable, Accrued
Expenses and Other
Liabilities 823 -- 823 (823) [E] --
---------- ------- ---------- --------- --------
Total Liabilities 24,605 -- 24,605 (7,205) 17,400
---------- ------- ---------- --------- --------
Minority Interest in
Partnership -- -- -- 18,355 [G] 18,355
---------- ------- ---------- --------- --------
Shareholders' Equity:
Common Shares -- 18 18 -- 18
Additional Paid-in Capital -- 9,452 9,452 (982) [H] 8,470
Net Combined Equity 6,475 -- 6,475 14,037 [F]
(20,512)[G,H] --
---------- -------- --------- -------- -------
Total Shareholders'
Equity 6,475 9,470 15,945 (7,457) 8,488
---------- -------- --------- -------- -------
Total Liabilities and
Shareholders' Equity $ 31,080 $ 9,470 $ 40,550 $ 3,693 $ 44,243
========== ======= ========== ========= ========
</TABLE>
F-10
<PAGE>
HERSHA HOSPITALITY TRUST
PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED, IN THOUSANDS]
[A]Represents proceeds of the Offering ($11,000) less estimated expenses of the
Offering ($1,530) which excludes $1,000 of proceeds from sales of common
shares to Hersha affiliates.
[B]Represents the combined interests of the Initial Hotels and the Company
after the proceeds of the Offering, but before the use of proceeds.
[C]Represents the combined interests of the Company after the use of the
proceeds of the offering.
[D]Net decrease reflects the following proposed transactions:
Cash Not Being Purchased $ 1,258
Repayment of Amounts Payable to Affiliates and Partners 3,982
Repayment of Mortgage Indebtedness 2,400
Payment of Franchise License Transfer Fees ($145)
Transfer Taxes ($233) Improvements ($250) and Other ($110) 738
--------
Net Decrease in Cash $ 8,378
========
[E]Assets and liabilities; not being purchased consist of:
Cash $ (1,258)
Land and Building (552)
Personal Property (150)
Other Assets (1,536)
Initial Franchise License Fees and Loan Acquisition Costs (466)
Accounts Payable, Accrued Expenses and Other Liabilities 823
-----------
Net Assets and Liabilities Not Purchased $ (3,139)
===========
[F]Where a number of businesses combine prior to or contemporaneously with an
initial public offering Securities and Exchange Commission Staff Accounting
Bulletin ["SAB"] 97 requires that purchase accounting be applied. SAB 97
requires that, unless there is persuasive evidence to the contrary, the
accounting acquiror is the ownership group receiving the largest ownership
interest in the combined entity. Of the twelve entities being combined, eight
are limited partnerships ["LP's"] with the same one percent general partner
[the "Related Entities"], three are limited partnerships with different
general partners than the other eight and one is a corporation [the
"Unrelated Entities"]. Based on an analysis of ownership interests, the
partners of 1244 Associates [one of the eight LP's with the same general
partner] received approximately 29 percent of the ownership interest in the
combined entity and 1244 Associates was deemed to be the acquiror. Therefor,
the transaction was accounted for as a purchase and purchase accounting
adjustments were made to the other eleven entities to adjust the assets to
fair market value measured by the number of partnership units allocated to
each entity multiplied by $6 per unit. Management feels that the purchase
price as measured by the units approximates fair market value. Where common
ownership existed by virtue of the same one percent general partner purchase
accounting adjustments were only made to the extent of the 99 percent
non-common ownership. The purchase accounting adjustments are as follows:
Partnership Units Distributed to Unrelated Entities Acquired $ 500
99% of Partnership Units Issued to Limited Partners of
Related Entities Acquired 2,392
-----------
2,892
Purchase Price Per Unit $ 6
-----------
Total Purchase Price 17,352
Book Value of Assets Purchased 3,315
-----------
Excess Purchase Price $ 14,037
===========
F-11
<PAGE>
HERSHA HOSPITALITY TRUST
PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998.
[UNAUDITED, IN THOUSANDS]
[Continued]
[F] [Continued]
Excess purchase price is allocated as follows:
Land $ 1,355
Buildings and Improvements 12,682
-----------
Total Addition to Net Investment in Hotel Properties $ 14,037
===========
[G]Represents the recognition of the interest in the Partnership that will not
be owned by the Company determined as follows:
Net Proceeds of Offering $ 9,470
Net Combined Equity 6,475
Excess Purchase Price 14,037
Net Assets Not Acquired (3,139)
-----------
26,843
Minority Interest Percentage .6838
-----------
Minority Interest $ 18,355
===========
[H] Net decrease reflects the following proposed transactions:
Elimination of Net Combined Equity $ 6,475
Excess Purchase Price 14,037
Assets and Liabilities of Initial Hotels Not Purchased (3,139)
Recognition of Minority Interest in Partnership (18,355)
-----------
$ (982)
===========
F-12
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholder
Hersha Hospitality Trust
We have audited the accompanying balance sheet of Hersha Hospitality
Trust as of May 27, 1998. This balance sheet is the responsibility of the
Company's management. Our responsibility is to express an opinion on the balance
sheet based on our audit.
We conducted our audit in accordance with generally accepted
auditing standards. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the balance sheet is free of
material misstatement. An audit includes examining, on a test bases, evidence
supporting the amounts and disclosures in the balance sheet. An audit also
includes assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall balance sheet presentation. We
believe that our audit provides a reasonable basis for our opinion.
In our opinion, the balance sheet referred to above presents fairly,
in all material respects, the financial position of Hersha Hospitality Trust as
of May 27, 1998, in conformity with generally accepted accounting principles.
MOORE STEPHENS, P. C.
Certified Public Accountants.
Cranford, New Jersey
May 27, 1998 [Except as to
the Notes to the Financial Statements
as to which the Date is December 4, 1998]
F-13
<PAGE>
HERSHA HOSPITALITY TRUST
BALANCE SHEETS
<TABLE>
<CAPTION>
September 30, May 27,
1998 1998
[Unaudited] ----
---------
<S> <C> <C>
Assets $ -- $ --
=========== ===========
Liabilities and Shareholders' Equity:
Liabilities -- --
Commitments and Contingencies -- --
Shareholders' Equity:
Common Shares, $.01 par value, 1,000 shares
authorized, 100 shares issued and outstanding 1 1
Additional paid-in capital 99 99
Subscription Receivable (100) (100)
----------- -----------
Total Liabilities and Shareholders' Equity $ -- $ --
=========== ===========
</TABLE>
The Accompanying Notes Are an Integral Part of This Financial Statement.
F-14
<PAGE>
HERSHA HOSPITALITY TRUST
NOTES TO BALANCE SHEET AS OF MAY 27, 1998
[1] Organization and Basis of Financial Presentation
Hersha Hospitality Trust [the "Company"] was formed in May, 1998 to acquire
equity interests in ten existing hotel properties. The Company is a
self-administered, Maryland real estate investment trust ["REIT"] and expects to
qualify as a REIT for Federal income tax purposes. As such, the Company is
subject to a number of organizational and operational requirements, including a
requirement that it currently distribute at least 95% of its taxable income. The
Company intends to offer for sale 2,000,000 [See Note 3] Priority Class A Common
Shares of beneficial interest of which 1,833,334 shares will be offered to the
public and 166,666 shares will be offered to Mr. Hasu P. Shah and certain
affiliates [the "Hersha Affiliates"] in an initial public offering [the
"Offering"] and Hersha Hospitality Limited Partnership [the "Partnership"] will
issue approximately 3,960,000 Units of partnership interest ["Units"] to the
Hersha Affiliates owning 100% of the ownership interest in the ten existing
hotel properties [the "Initial Hotels"], which are redeemable under certain
circumstances beginning after one year from the closing of the Offering. The
number of Units issued is subject to adjustment based on the performance of
certain Initial Hotels which as of the date of the Offering do not have
established operating histories.
Upon completion of the offering, the Company will contribute substantially all
of the net proceeds of the Offering to the Partnership in exchange for an
approximate 32% general partnership interest in the Partnership. The Partnership
will use the proceeds from the Company to acquire the Initial Hotels. The
Partnership will acquire the Initial Hotels in exchange for (i) Units, which
will be redeemable, subject to certain limitations, for an aggregate of
approximately 3,960,000 Common Shares of the Company valued at approximately $24
million based on an offering price of $6.00 per Common Share [the "Offering
Price"] , and (ii) the assumption of approximately $26 million of outstanding
indebtedness as of December 31, 1997. The Hersha Affiliates have agreed that
they will (i) exchange all their interests in the Initial Hotels for Units in
the Partnership, and (ii) grant an option to the Company to acquire any hotels
acquired or developed by the Hersha Affiliates within 15 miles of any of the
Initial Hotels or any hotel subsequently acquired by the Company.
After consummation of the Offering, (a) the Company will own approximately 32%
of the Partnership, (b) the Hersha Affiliates will own approximately 68% of the
Partnership, and (c) the Partnership will own 100% of the equity interest in the
Initial Hotels.
[2] Summary of Significant Accounting Policies
Distributions - The Company intends to pay regular quarterly dividends which are
initially dependent upon receipt of distributions from the Partnership.
[3] Commitments and Contingencies
The Company, in conjunction with the Offering, intends to amend its Declaration
of Trust to provide for the issuance of up to 50,000,000, $.01 par value,
Priority Class A Common Shares of beneficial interest, 50,000,000, $.01 par
value, Class B Common Shares of beneficial interest and 10,000,000, $.01 par
value, Preferred Shares of beneficial interest.
The Priority Class A Common Shares have priority as to the payment of dividends
until dividends equal $.72 per share on a cumulative basis and shares equally in
additional dividends after the Class B Common Shares have received $.72 per
share in each annual period. The Priority Class A Common Shares carry a
liquidation preference of $6.00 per share plus unpaid dividends and votes with
the Class B Common Shares on a one vote per share basis. The Priority period of
the Class A Shares will commence on the date of the closing of the initial
public offering and end on the earlier of (i) five years after the initial
public offering of the Priority Common Shares, or (ii) the date that is 15
trading days after the Company sends notice to the holders of the Priority
Common Shares, provided that the closing bid price of the Priority Common Shares
is at least $7 on each trading day during such 15-day period.
F-15
<PAGE>
HERSHA HOSPITALITY TRUST
NOTES TO BALANCE SHEET AS OF MAY 27, 1998, Sheet #2
[3] Commitments and Contingencies [Continued]
In conjunction with the offering, the Partnership will acquire the ten Initial
Hotels and will enter into percentage lease agreements with Hersha Hospitality
Management L.P. [the "Lessee"]. Under the Percentage Leases, the Partnership is
obligated to pay the costs of certain capital improvements, real estate and
personal property taxes and property insurance, and to make available to the
Lessee an amount equal to 4% [6% for some hotels] of room revenues per quarter,
on a cumulative basis, for the periodic replacement or refurbishment of
furniture, fixtures and equipment at the Initial Hotels.
Pursuant to the Partnership Agreement, the Hersha Affiliates will receive
Redemption Rights, which will enable them to cause the Partnership to redeem
their interests in the Partnership in exchange for cash or, at the election of
the Company, Class B Common Shares on a one-for-one basis. The Redemption Rights
may be exercised by the Hersha Affiliates commencing one year following the
closing of the Offering depending on the length of time the hotel has been in
operation. The number of Common Shares initially issuable to the Hersha
Affiliates upon exercise of the Redemption Rights is approximately 3,960,000 and
has been determined based on the value of their interests in the Combined
Entities divided by the expected offering price of $6.00 per share. The number
of shares issuable upon exercise of the Redemption Rights will be adjusted upon
the occurrence of stock splits, mergers, consolidations or similar pro rata
share transactions which otherwise would have the effect of diluting the
ownership interests of the Hersha Affiliates or the shareholders of the Company.
The Company acts as the general partner in the Partnership and as such, is
liable for all recourse debt of the Partnership to the extent not paid by the
Partnership. In the opinion of management, the Company does not anticipate any
losses as a result of its general partner obligations.
The Company expects to incur expenses of approximately $275,000 related to the
transfer of ownership of the franchise licenses from the existing owners to the
Lessee.
Summary operating results for the Initial Hotels [in thousands] are as follows:
Nine months ended Years ended
September 30, December 31,
1998 1997 1997 1996 1995
------- ------- ------- ------ -------
[Unaudited][Unaudited]
Total Revenue $13,935 $ 9,692 $13,445 $ 9,989 $ 7,219
Total Expenses 11,497 8,140 11,716 10,017 7,595
------- ------- ------ ------- -------
Net Income [Loss] $ 2,438 $ 1,552 $1,729 $ (28)$ (376)
----------------- ======= ======= ====== ======= ====
[4] Subsequent Events [Unaudited]
[A] Prior to the Offering, the Company will adopt the Company's "Option Plan".
The Option Plan will be administered by the Compensation Committee of the Board
of Trustees, or its delegate [the "Administrator"].
Officers and other employees of the Company generally will be eligible to
participate in the Option Plan. The Administrator will select the individuals
who will participate in the Option Plan ["Participants"].
F-16
<PAGE>
HERSHA HOSPITALITY TRUST
NOTES TO BALANCE SHEET AS OF MAY 27, 1998, Sheet #3
[4] Subsequent Event [Unaudited]
[A] [Continued] The Option Plan will authorize the issuance of options to
purchase up to 650,000 Class B Common Shares. The Plan provides for the grant of
(i) options intended to qualify as incentive stock options under Section 422 of
the Code, and (ii) options not intended to so qualify. Options under the Option
Plan may be awarded by the Administrator, and the Administrator will determine
the option exercise period and any vesting requirements. The options granted
under the Option Plan will be exercisable only if (i) the Company obtains a per
share closing price on the Common Shares of $9.00 or higher for 20 consecutive
trading days and (ii) the closing price per Common Share for the prior trading
day was $9.00 or higher. In addition, no option granted under the Option Plan
may be exercised more than five years after the date of grant. The exercise
price for options granted under the Option Plan will be determined by the
Compensation Committee at the time of grant.
No option award may be granted under the Option Plan more than ten years after
the date the Board of Trustees approved such Plan. The Board may amend or
terminate the Option Plan at any time, but an amendment will not become
effective without shareholder approval if the amendment (i) increases the number
of shares that may be issued under the Option Plan, (ii) materially changes the
eligibility requirements or (iii) extends the length of the Option Plan. No
amendment will affect a Participant's outstanding award without the
Participant's consent.
No options have been granted under the Option Plan.
[B] Prior to the Offering, the Board of Trustees will also adopt, and the
Company's sole shareholder will approve, the Trustees' Plan to provide
incentives to attract and retain Independent Trustees. The Trustees' Plan
authorizes the issuance of up to 200,000 Class B Common Shares. The Trustees'
Plan provides for, in the event the Class B Common Shares are converted into
another security of the Company, the issuance of equivalent amounts of such
security and options to purchase such security into which the Class B Common
Shares are converted.
The Trustees' Plan provides for the grant of a nonqualified option for Class B
Common Shares to the Independent Trustees of the Company who are members of the
Board on the effective date of the Offering. The exercise price of each such
option will be equal to the Offering Price. Each such option shall become
exercisable for over the particular Trustee's initial term, provided that the
Trustee is a member of the Board on the applicable date. An option granted under
the Trustees' Plan will be exercisable only if (i) the Company obtains a per
share closing price on the Priority Common Shares of $9.00 for 20 consecutive
trading days and (ii) the per share closing price on the Priority Common Shares
for the prior trading day was $9.00 or higher. Options issued under the
Trustees' Plan are exercisable for five years from the date of grant.
A Trustee's outstanding options will become fully exercisable if the Trustee
ceases to serve on the Board due to death or disability. All awards granted
under the Trustees' Plan shall be subject to Board or other approval sufficient
to provide exempt status for such grants under Section 16 of the Exchange Act,
as that section and Rules thereunder are in effect from time to time. No option
may be granted under the Trustees' Plan more than 10 years after the date that
the Board of Trustees approved the Plan. The Board may amend or terminate the
Trustees' Plan at any time but an amendment will not become effective without
shareholder approval if the amendment increases the number of shares that may be
issued under the Trustees' Plan (other than equitable adjustments upon certain
corporate transactions).
No options have been granted under the Trustees' Plan.
. . . . . . . .
F-17
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Partners of
Hersha Hospitality Management, L.P.
We have audited the accompanying balance sheet of Hersha Hospitality
Management, L.P. as of May 27, 1998. This balance sheet is the responsibility of
the Partnership's management. Our responsibility is to express an opinion on the
balance sheet based on our audit.
We conducted our audit in accordance with generally accepted
auditing standards, Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the balance sheet is free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the balance sheet. An audit also
includes assessing the accounting principles used and significant estimates made
by management, as well as evaluating the overall balance sheet presentation. We
believe that our audit provides a reasonable basis for our opinion.
In our opinion, the balance sheet referred to above presents fairly,
in all material respects, the financial position of Hersha Hospitality
Management, L.P. as of May 27, 1998, in conformity with generally accepted
accounting principles.
MOORE STEPHENS, P. C.
Certified Public Accountants.
Cranford, New Jersey
May 27, 1998
F-18
<PAGE>
HERSHA HOSPITALITY MANAGEMENT, L.P.
BALANCE SHEETS
September 30, May 27,
1998 1998
[Unaudited] ----
---------
Assets $ -- $ --
=========== ===========
Liabilities and Partners' Capital:
Liabilities -- --
Commitments and Contingencies -- --
Partners' Capital -- --
----------- -----------
Total Liabilities and Partners' Capital $ -- $ --
=========== ===========
The Accompanying Notes Are an Integral Part of This Financial Statement.
F-19
<PAGE>
HERSHA HOSPITALITY MANAGEMENT, L.P.
NOTES TO BALANCE SHEET AS OF MAY 27, 1998.
[1] Organization
Hersha Hospitality Management, L.P. [the "Lessee"] was organized under the laws
of the State of Pennsylvania in May, 1998 to lease and operate ten existing
hotel properties from Hersha Hospitality Limited Partnership [the "Partnership"]
[collectively the "Initial Hotels"]. The Lessee is owned by Mr. Hasu P. Shah and
certain affiliates some of whom have ownership interests in the Initial Hotels.
[2] Commitments
The Lessee will enter into Percentage Leases, each with an initial term of 5
years with two 5 year renewal options, relating to each of the Initial Hotels.
Pursuant to the terms of the Percentage Leases, the Lessee is required to pay
the greater of the Base Rent or the Percentage Rent for hotels with established
operating histories. The Base Rent is 6.5 percent of the purchase price assigned
to each Initial Hotel. The Percentage Rent for each Initial Hotel is comprised
of (i) a percentage of room revenues up to the Threshold, (ii) a percentage of
room revenues in excess of the Threshold, but not more than the Incentive
Threshold, (iii) a percentage of room revenues in excess of the Incentive
Threshold and (iv) a percentage of revenues other than room revenues. For hotels
with limited operating histories, the leases provide for the payment of Initial
Fixed Rent for certain periods as specified in the leases and the greater of
Base Rent or Percentage Rent thereafter. The Lessee also will be obligated to
pay certain other amounts, including interest accrued on any late payments or
charges. The Lessee is entitled to all profits from the operations of the
Initial Hotels after the payment of certain specified operating expenses.
The Lessee will assume the rights and obligations under the terms of existing
franchise licenses relating to the Initial Hotels upon acquisition of the hotels
by the Partnership. The franchise licenses generally specify certain management,
operational, accounting, reporting and marketing standards and procedures with
which the franchisee must comply and provide for annual franchise fees based
upon percentages of gross room revenue.
The Lessee will provide certain administrative services to the Partnership for
an annual fee of $55,000 plus $10,000 per hotel.
. . . . . . . .
F-20
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1998.
[UNAUDITED IN THOUSANDS]
This unaudited pro forma Condensed Combined Statement of Operations is presented
as if the sale of the Initial Hotels and the consummation of the Offering
contemplated by this prospectus had occurred on January 1, 1997. Such pro forma
information is based in part upon the Combined Statements of Operations of the
Combined Entities - Initial Hotels and the application of the proceeds of the
Offering as set forth under the caption "Use of Proceeds." It is meant to
represent the pro forma operations of Hersha Hospitality Management, L.P. [the
"Lessee"] and successor to the operations of the Combined Entities - Initial
Hotels. The separate operations of the Lessee are inconsequential. This pro
forma information should be read in conjunction with the Combined Financial
Statements and Notes thereto of the Combined Entities - Initial Hotels included
at pages F-31 through F-38 of this Prospectus. In management's opinion, all
adjustments necessary to reflect the effects of this transaction have been made.
This unaudited pro forma Condensed Combined Statement of Operations is not
necessarily indicative of what actual results of operations of the Lessee would
have been assuming such transactions had been completed as of January 1, 1997,
nor does it purport to represent the results of operations for future periods.
Nine months ended September 30, 1998
Historical
Combined
Entities -
Initial Hotels Adjustments Pro Forma
-------------- ----------- ---------
Total Revenue $13,935 $ -- $ 13,935
Expenses:
Initial Hotel Operating
Costs and Expenses 6,806 (417)[A] 6,389
Advertising and Marketing 388 -- 388
Depreciation and Amortization 1,161 (1,135)[B] 26
Interest Expense 1,497 (1,497)[C] --
General and Administrative 1,645 (112)[D] 1,703
170 [E]
Percentage Lease Payments -- 5,108 [F] 5,108
------- --------- --------
Lessee Operating Income $ 2,438 $ (2,117) $ 321
----------------------- ======= ========= ========
[A] Decrease reflects personal property, real estate taxes and casualty
insurance to be paid by the Partnership.
[B] Decrease reflects elimination of amortization expense excluding franchise
fee amortization and the elimination of depreciation expense at the Combined
Entity level.
[C] Decrease reflects reduction of interest costs due to the expected repayment
of certain of the related party and mortgage indebtedness and the
elimination of the remaining interest to be paid by the Partnership.
[D] Decrease reflects the elimination of certain expenses to be paid by the
Partnership as required by the Administrative Services Agreement.
[E] To eliminate related party management fees of $288 and replace with
anticipated salaries of $458 based on salary agreements.
F-21
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE NINE MONTHS
ENDED SEPTEMBER 30, 1998.
[UNAUDITED IN THOUSANDS]
[Continued]
[F] Represents lease payments calculated on a pro forma basis using the rent
provisions in the Percentage Lease Agreements. Percentage rents under the
lease agreements are calculated under two methods depending on whether the
hotel is a stabilized hotel with an established operating history or a
newly-developed or newly-renovated hotel. Stabilized hotels pay percentage
rent based on a percentage of room revenue which changes at various
thresholds as described on pages 46 and 47 of this prospectus plus a
percentage of all non-room revenue. Newly-developed or newly-renovated
hotels pay initial fixed rent for the first two years of operation and
percentage rent thereafter with such initial fixed rent being recognized on
a straight-line basis over the course of the period presented. Certain newly
developed or newly-renovated hotels have not been in operation for the full
period presented and in those cases percentage rent payments are recognized
on a straight-line basis prorated for the period the hotel was in operation.
Pro forma percentage rent payments for stabilized hotels has been calculated
using the terms of the percentage lease agreement applied to historical room
revenue and other revenue for the period presented. For the nine months
ended September 30, 1998 percentage lease payments consist of $2,431 of
percentage rent and $2,677 of initial fixed rent calculated as follows:
Hotels Under Percentage Lease Agreements:
Holiday Inn - Harrisburg, PA $ 1,203
Hampton Inn - Selinsgrove, PA 528
Clarion Suites - Philadelphia, PA 700
---------
Total $ 2,431
=========
Hotels Under Initial Fixed Rent Agreements:
Holiday Inn Express - Hershey, PA $ 596
Holiday Inn Express - New Columbia, PA 374
Holiday Inn Express - Harrisburg, PA 378
Hampton Inn - Carlisle, PA 524
Comfort Inn - Denver, PA 197
Comfort Inn - West Hanover, PA (Open 5 months) 214
Holiday Inn - Milesburg, PA 394
---------
Total $ 2,677
=========
F-22
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE YEAR ENDED
DECEMBER 31, 1997.
[UNAUDITED IN THOUSANDS]
This unaudited pro forma Condensed Combined Statement of Operations is presented
as if the sale of the Initial Hotels and the consummation of the Offering
contemplated by this prospectus had occurred on January 1, 1997. Such pro forma
information is based in part upon the Combined Statements of Operations of the
Combined Entities - Initial Hotels and the application of the proceeds of the
Offering as set forth under the caption "Use of Proceeds." It is meant to
represent the pro forma operations of Hersha Hospitality Management, L.P. [the
"Lessee"] and successor to the operations of the Combined Entities - Initial
Hotels. The separate operations of the Lessee are inconsequential. This pro
forma information should be read in conjunction with the Combined Financial
Statements and Notes thereto of the Combined Entities - Initial Hotels included
at pages F-31 through F-38 of this Prospectus. In management's opinion, all
adjustments necessary to reflect the effects of this transaction have been made.
This unaudited pro forma Condensed Combined Statement of Operations is not
necessarily indicative of what actual results of operations of the Lessee would
have been assuming such transactions had been completed as of January 1, 1997,
nor does it purport to represent the results of operations for future periods.
Year ended December 31, 1997
Historical
Combined
Entities -
Initial Hotels Adjustments Pro Forma
-------------- ----------- ---------
Total Revenue $13,445 $ $ 13,445
Expenses:
Initial Hotel Operating
Costs and Expenses 7,088 (375)[A] 6,713
Advertising and Marketing 370 -- 370
Depreciation and Amortization 1,189 (988)[B] 201
Interest Expense 1,354 (1,354)[C] --
General and Administrative 1,701 (123)[D] 1,916
338 [E]
Other 14 -- 14
Percentage Lease Payments -- 5,129 [F] 5,129
------- --------- --------
Lessee Operating Income $ 1,729 $ (2,627) $ (898)
----------------------- ======= ========= ========
[A] Decrease reflects personal property, real estate taxes and casualty
insurance to be paid by the Partnership.
[B] Decrease reflects elimination of amortization expense excluding franchise
fee amortization, write-off of loan acquisition fees upon transfer of
mortgage indebtedness to the Company and the elimination of depreciation
expense at the Combined Entity level.
[C] Decrease reflects reduction of interest costs due to the expected repayment
of certain of the related party and mortgage indebtedness and the
elimination of the remaining interest to be paid by the Partnership.
[D] Decrease reflects the elimination of certain expenses to be paid by the
Partnership as required by the Administrative Services Agreement.
[E] To eliminate related party management fees of $272 and replace with
anticipated salaries of $610 based on salary agreements.
F-23
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE YEAR ENDED
DECEMBER 31, 1997.
[UNAUDITED IN THOUSANDS]
[Continued]
[F] Represents lease payments calculated on a pro forma basis using the rent
provisions in the Percentage Lease Agreements. Percentage rents under the
lease agreements are calculated under two methods depending on whether the
hotel is a stabilized hotel with an established operating history or a
newly-developed or newly-renovated hotel. Stabilized hotels pay percentage
rent based on a percentage of room revenue which changes at various
thresholds as described on pages 46 and 47 of this prospectus plus a
percentage of all non-room revenue. Newly-developed or newly-renovated
hotels pay initial fixed rent for the first two years of operation and
percentage rent thereafter with such initial fixed rent being recognized on
a straight-line basis over the course of the period presented. Certain newly
developed or newly-renovated hotels have not been in operation for the full
period presented and in those cases percentage rent payments are recognized
on a straight-line basis prorated for the period the hotel was in operation.
Pro forma percentage rent payments for stabilized hotels has been calculated
using the terms of the percentage lease agreement applied to historical room
revenue and other revenue for the period presented. For the year ended
December 31, 1997 percentage lease payments consist of $3,248 of percentage
rent and $1,881 of initial fixed rent calculated as follows:
Hotels Under Percentage Lease Agreements:
Holiday Inn - Harrisburg, PA $ 1,614
Hampton Inn - Selinsgrove, PA 658
Clarion Suites - Philadelphia, PA 976
---------
Total $ 3,248
=========
Hotels Under Initial Fixed Rent Agreements:
Holiday Inn Express - Hershey, PA
(Open 3 months) $ 199
Holiday Inn Express - New Columbia, PA
(Open 1 month) 42
Holiday Inn Express - Harrisburg, PA 504
Hampton Inn - Carlisle, PA (Open 7 months) 349
Comfort Inn - Denver, PA 262
Holiday Inn - Milesburg, PA 525
--------
Total $ 1,881
========
F-24
<PAGE>
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholder
Hersha Hospitality Trust
We have audited the accompanying combined balance sheets of the
Combined Entities - Initial Hotels as of December 31, 1997 and 1996, and the
related combined statements of operations, owners' equity, and cash flows for
each of the three years in the period ended December 31, 1997. Our audits also
included the combined financial statement schedule included on pages F-29 and
F-30 of the accompanying Prospectus. These Combined financial statements and the
combined financial statement schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these combined
financial statements and the combined financial statement schedule 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 combined financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the combined financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
combined 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 combined financial position of the
Combined Entities - Initial Hotels as of December 31, 1997 and 1996, and the
combined 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. In addition, in our opinion, the combined
financial statement schedule referred to above, when considered in relationship
to the basic combined financial statements taken as a whole, presents fairly, in
all material respects, the information required to be included therein as of
December 31, 1997.
MOORE STEPHENS, P. C.
Certified Public Accountants.
Cranford, New Jersey
March 21, 1998
F-25
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
COMBINED BALANCE SHEETS
[IN THOUSANDS]
<TABLE>
<CAPTION>
September 30, December 31,
------------- ------------
1998 1997 1996
------- ------- ------
[Unaudited]
<S> <C> <C> <C>
Assets:
Investment in Hotel Properties:
Land $ 2,099 $ 2,099 $ 1,843
Buildings and Improvements 22,274 19,276 9,950
Furniture, Equipment and Other 6,977 6,056 3,682
------------ --------- -----------
Totals 31,350 27,431 15,475
Less: Accumulated Depreciation 4,446 3,356 2,533
------------ --------- -----------
Totals 26,904 24,075 12,942
Construction in Progress -- 1,412 857
------------ --------- -----------
Net Investment in Hotel Properties 26,904 25,487 13,799
Cash and Cash Equivalents 1,258 694 237
Accounts Receivable 626 394 191
Prepaid Expenses and Other Assets 339 182 154
Due from Related Parties 571 268 107
Intangible Assets 1,382 1,427 1,418
------------ --------- -----------
Total Assets $ 31,080 $ 28,452 $ 15,906
============ ========= ===========
Liabilities and Owners' Equity:
Mortgages Payable $ 19,800 $ 14,713 $ 8,571
Accounts Payable and Accrued Expenses 493 1,092 649
Accrued Expenses - Related Parties 116 153 11
Due to Related Parties 3,982 9,169 4,236
Other Liabilities 214 172 250
------------ --------- -----------
Total Liabilities 24,605 25,299 13,717
Commitments -- -- --
Owners' Equity:
Net Combined Equity 6,475 3,153 2,189
------------ --------- -----------
Total Liabilities and Owners' Equity $ 31,080 $ 28,452 $ 15,906
============ ========= ===========
</TABLE>
The Accompanying Notes Are an Integral Part of These Combined Financial
Statements.
F-26
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
COMBINED STATEMENTS OF OPERATIONS
[IN THOUSANDS]
<TABLE>
<CAPTION>
Nine months ended Years ended
September 30, December 31,
1998 1997 1997 1996 1995
------- ------- ------- ------- -------
[Unaudited][Unaudited]
<S> <C> <C> <C> <C> <C>
Revenues from Hotel Operations:
Room Revenue $ 11,824 $ 7,750 $ 10,880 $ 7,273 $ 5,262
Restaurant Revenue 1,497 1,377 1,744 2,106 1,515
Other Revenue 614 565 821 610 442
---------- --------- --------- --------- ----------
Total Revenue 13,935 9,692 13,445 9,989 7,219
---------- --------- --------- --------- ----------
Expenses:
Hotel Operating Expenses 5,732 4,284 5,906 4,887 3,789
Restaurant Operating Expenses 1,074 850 1,182 1,406 961
Advertising and Marketing 388 281 370 418 185
Depreciation and Amortization 1,161 799 1,189 924 711
Interest Expense 1,138 710 821 605 434
Interest Expense -
Related Parties 359 121 533 316 200
General and Administrative 1,357 939 1,381 1,085 779
General and Administrative -
Related Parties 288 142 320 364 102
Loss on Asset Disposals -- -- -- 12 284
Liquidation Damages -- 14 14 -- 150
---------- --------- --------- --------- ----------
Total Expenses 11,497 8,140 11,716 10,017 7,595
---------- --------- --------- --------- ----------
Net Income [Loss] $ 2,438 $ 1,552 $ 1,729 $ (28)$ (376)
========== ========= ========= ========= ==========
</TABLE>
The Accompanying Notes Are an Integral Part of These Combined Financial
Statements.
F-27
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
COMBINED STATEMENTS OF OWNERS' EQUITY
[IN THOUSANDS]
Net Combined Owners' Equity
Balance - December 31, 1994 $ 772
Net [Loss] (376)
Capital Contributions 2,287
Cash Distributions (466)
------------
Balance - December 31, 1995 2,217
Net [Loss] (28)
Capital Contributions 470
Cash Distributions (470)
------------
Balance - December 31, 1996 2,189
Net Income 1,729
Capital Contributions 59
Cash Distributions (824)
------------
Balance - December 31, 1997 3,153
Net Income 2,438
Capital Contributions 1,156
Cash Distributions (272)
------------
Balance - September 30, 1998 [Unaudited] $ 6,475
============
The Accompanying Notes Are an Integral Part of These Combined Financial
Statements.
F-28
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
COMBINED STATEMENTS OF CASH FLOWS
[IN THOUSANDS]
<TABLE>
<CAPTION>
Nine months ended Years ended
September 30, December 31,
1998 1997 1997 1996 1995
------- ------- ------- ------- -------
[Unaudited][Unaudited]
<S> <C> <C> <C> <C> <C>
Operating Activities:
Net income [Loss] $ 2,438 $ 1,552 $ 1,729 $ (28) $ (376)
Adjustments to Reconcile Net
Income to Net Cash Provided by
Operating Activities:
Depreciation and Amortization
Expense 1,181 834 1,246 966 751
Loss on Disposal of Assets -- -- -- 12 284
Writeoff of Financing Fees -- -- 44 -- --
Changes in Assets and Liabilities:
Accounts Receivable (238) (385) (203) 105 (226)
Prepaid Expenses and Other
Assets (45) (79) (28) (28) 39
Accounts Payable and Accrued
Expenses (499) 84 584 241 293
Other Liabilities (97) (199) (78) 79 129
---------- --------- -------- --------- -------
Net Cash - Operating
Activities 2,740 1,807 3,294 1,347 894
---------- --------- -------- --------- -------
Investing Activities:
Improvements and Additions to
Hotel Properties (2,553) (9,748) (12,821) (5,601) (5,086)
Payment for Intangibles -- (156) (166) (117) (925)
Advances to Related Parties (501) (50) (268) (99) (576)
Repayment of Advances to
Related Parties 198 107 107 584 62
Proceeds from Sale of Assets -- -- -- 129 --
---------- --------- --------- --------- ----------
Net Cash - Investing
Activities (2,856) (9,847) (13,148) (5,104) (6,525)
---------- --------- --------- --------- ----------
Financing Activities:
Proceeds from Mortgages and
Notes Payable 5,639 6,409 9,526 3,631 4,615
Principal Payments on Mortgages
and Notes Payable (552) (3,304) (3,383) (612) (1,143)
Advances from Related Parties 2,420 10,356 14,378 2,756 809
Repayments of Advances from
Related Parties (7,711) (4,950) (9,445) (1,915) (1,065)
Capital Contributions 1,156 9 59 470 2,287
Distributions Paid (272) (341) (824) (470) (466)
---------- --------- -------- --------- --------
Net Cash - Financing
Activities 680 8,179 10,311 3,860 5,037
---------- --------- -------- --------- --------
Net Increase in Cash and Cash
Equivalents - Forward $ 564 $ 139 $ 457 $ 103 $ (594)
</TABLE>
The Accompanying Notes Are an Integral Part of These Combined Financial
Statements.
F-29
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
COMBINED STATEMENTS OF CASH FLOWS
[IN THOUSANDS]
<TABLE>
<CAPTION>
Nine months ended Years ended
September 30, December 31,
1998 1997 1997 1996 1995
------- ------- ------- ------- -------
[Unaudited][Unaudited]
<S> <C> <C> <C> <C> <C>
Net Increase in Cash and Cash
Equivalents - Forwarded $ 564 $ 139 $ 457 $ 103 $ (594)
Cash and Cash Equivalents at
Beginning of Periods 694 237 237 134 728
---------- --------- --------- --------- ----------
Cash and Cash Equivalents at
End of Periods $ 1,258 $ 376 $ 694 $ 237 $ 134
========== ========= ========= ========= ==========
Supplemental Disclosures of Cash Flow Information:
Cash paid during the periods for:
Interest [Net of Amounts
Capitalized] $ 1,497 $ 953 $ 1,133 $ 903 $ 591
</TABLE>
The Accompanying Notes Are an Integral Part of These Combined Financial
Statements.
F-30
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[1] Organization, Proposed Initial Public Offering and Basis of Presentation
Organization - Hersha Hospitality Trust [the "Company"] has been established to
own initially ten existing hotels [collectively the "Initial Hotels"] and to
continue the hotel acquisition and operating strategies of Mr. Hasu P. Shah,
Chairman of the Board of Trustees and President of the Company. The Company
intends to qualify as a real estate investment trust [REIT] under the Internal
Revenue Code of 1986, as amended, [the "Code"] . The Initial Hotels include
three hotels operated as Holiday Inn Express(R) hotels, two Hampton Inn(R)
hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels, one of which is
under construction, and one Clarion Suites(R) hotel with an aggregate of 989
rooms and are located in Pennsylvania. Upon completion of the proposed initial
public offering [see below], the Company will own an approximate 32% general
partnership interest in Hersha Hospitality Limited Partnership, a Pennsylvania
limited partnership [the "Partnership"]. The Company will be the sole general
partner of the Partnership. The Partnership will own the Initial Hotels and
lease them to Hersha Hospitality Management, L.P. ["Lessee"] under Percentage
Leases, each having a 5 year term with two 5 year renewals, which shall provide
for rent equal to the greater of (i) fixed base rent, or (ii) percentage rents
based upon specific percentages of room and other revenue of each of the Initial
Hotels. The Company will enter into management agreements with the Lessee
whereby the Lessee will be required to perform all management functions
necessary to operate the Initial Hotels. Under the administrative services
agreement, the Lessee will be paid a fee equal to $55 plus $10 per hotel or $155
per year based on the ten initial hotels.
Basis of Presentation - The combined financial statements include the accounts
of various partnerships, individuals, certain other corporations and Subchapter
S corporations which perform property management services and own property
improvements and furniture and fixtures [collectively the "Combined Entities"]
[See Note 5] using their historical cost basis. No adjustments have been
reflected in these combined financial statements to give effect to the purchase
of the Initial Hotels by the Partnership.
The Combined Entities are owned by Mr. Hasu P. Shah his wife, two sons and seven
other unrelated individuals for all periods presented [the individuals and
Combined Entities are collectively referred to as the "Hersha Affiliates"]. The
aforementioned eleven individuals in their capacities as owners, partners and
stockholders have delegated management of all of the entities to a management
control group consisting of seven of the eleven individuals. The management
control group has complete day to day administrative and managerial authority
and responsibility over the portfolio of hotels. Due to common management of the
Combined Entities, the historical combined financial statements have been
accounted for as a group of entities under common control. All significant
intercompany transactions and balances have been eliminated in the combined
presentation.
Proposed Initial Public Offering - The Company expects to file a registration
statement with the Securities and Exchange Commission pursuant to which the
Company expects to offer 1,833,334 Class A Common Shares of beneficial interest
to the public and 166,666 Class A Common Shares of beneficial interest to Mr.
Hasu P. Shah and certain affiliates of Mr. Hasu P. Shah [the "Offering"]. The
Company expects to qualify as a real estate investment trust under Sections
856-860 of the Code. Under the proposed structure, the Company will become the
sole general partner in the Partnership and the Hersha Affiliates will be the
limited partners.
Upon completion of the Offering, the Company will contribute substantially all
of the net proceeds of the offering to the Partnership in exchange for an
approximate 32% general partnership interest in the Partnership. The Partnership
will use the proceeds from the Company to acquire the Initial Hotels from the
Combined Entities and to repay certain outstanding indebtedness. Rather than
receiving cash for their interests in the Combined Entities upon the sale of the
Initial Hotels, the Hersha Affiliates have elected to receive limited
partnership interests in the Partnership aggregating an approximate 68%
ownership interest in the Partnership.
F-31
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[1] Organization, Proposed Initial Public Offering and Basis of Presentation
[Continued]
Proposed Initial Public Offering [Continued] - After consummation of the
Offering, the Company's acquisition of an interest in the Partnership and the
Partnership's acquisition of the Initial Hotels, (a) the Company will own
approximately 32% of the Partnership, (b) the Hersha Affiliates will own an
aggregate of approximately 68% of the Partnership, and (c) the Partnership will
own 100% of the equity interest in the Initial Hotels.
[2] Summary of Significant Accounting Policies
Nature of Operations - Operations consist of hotel room rental, conferences room
rental and the associated sales of food and beverages principally in the
Harrisburg and central Pennsylvania area.
Investment in Hotel Properties - Investment in hotel properties are stated at
cost. Depreciation for financial reporting purposes is principally based upon
the straight-line method for buildings and improvements and accelerated methods
for furniture and equipment acquired prior to the year ended December 31, 1997
and the straight-line method thereafter.
The estimated lives used to depreciate the Initial Hotel properties are as
follows:
Years
-----
Building and Improvements 15 to 40
Furniture and Equipment 5 to 7
Maintenance and repairs are charged to operations as incurred; major renewals
and betterments are capitalized. Upon the sale or disposition of a fixed asset,
the asset and related accumulated depreciation are removed from the accounts,
and the gain or loss is included in income from operations.
Depreciation expense was $1,076, $819 and $624 for the years ended December 31,
1997, 1996 and 1995, respectively.
Room linens and restaurant supplies are capitalized and amortized utilizing the
straight-line method over periods of three and two years, respectively, and are
charged to Hotel Operating Expenses. Amortization expense was $57, $42 and $40
for the years ended December 31, 1997, 1996 and 1995, respectively.
Impairment of Long-Lived Assets - Long-lived assets are reviewed for impairment
whenever events or changes in business circumstances indicate that the carrying
amount of the assets may not be fully recoverable. The Company performs
undiscounted cash flow analyses to determine if an impairment exists. If an
impairment is determined to exist, any related impairment loss is calculated
based on fair value.
Cash and Cash Equivalents - Cash and cash equivalents are comprised of certain
highly liquid investments with a maturity of three months or less when
purchased.
Inventories - Inventories, consisting primarily of food and beverages and which
are included in prepaid expenses and other assets, are stated at the lower of
cost [generally, first-in, first-out] or market.
Deferred Offering Cost - Costs of $106 at September 30, 1998 associated with the
anticipated public offering are deferred and will be charged against the
proceeds of the Offering. If the Offering is not consummated, the costs will be
charged to operations.
F-32
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[2] Summary of Significant Accounting Policies [Continued]
Intangible Assets - Intangible assets are carried at cost and consist of initial
franchise fees, loan acquisition costs and goodwill. Amortization is computed
using the straight-line method based upon the terms of the franchise and loan
agreements which range from 5 to 30 years, and over a 15 year period for
goodwill.
Income Taxes - The Combined Entities are not a legal entity subject to income
taxes. Hersha Enterprises, Ltd., an entity included in these combined financial
statements, is a taxable corporate entity [See Note 5]. Income taxes are
provided for the tax effects of transactions reported in the financial
statements and consist of taxes currently due plus deferred taxes resulting from
temporary differences. Such temporary differences result from differences in the
carrying value of assets and liabilities for tax and financial reporting
purposes. The deferred tax assets and liabilities represent the future tax
consequences of those differences, which will either be taxable or deductible
when the assets and liabilities are recovered or settled. Deferred taxes are
also recognized for operating losses that are available to offset future taxable
income. Valuation allowances are established to reduce deferred tax assets to
the amount expected to be realized. The Combined Partnerships and S corporations
are not subject to federal or state income taxes; however, they must file
informational income tax returns and the partners must take income or loss of
the Combined Entities into consideration when filing their respective tax
returns. The cumulative difference between the book basis and tax basis of the
Combined Entities' assets and liabilities is approximately $3.8 million due
primarily to depreciation and amortization expense on the tax basis in excess of
the book basis.
Revenue Recognition - Revenue is recognized as earned which is generally when a
guest occupies a room and utilizes the hotel's services.
Concentration of Credit Risk - Financial instruments that potentially subject
the Company to concentrations of credit risk include cash and cash equivalents
and accounts receivable arising from its normal business activities. The Company
places its cash with high credit quality financial institutions. The Company
does not require collateral to support its financial instruments.
The Company periodically has money in financial institutions that is subject to
normal credit risk beyond insured amounts. This credit risk, representing the
excess of the bank's deposit liabilities reported by the bank over the amounts
that would have been covered by federal insurance, amounted to approximately $71
and $-0- at December 31, 1997 and 1996, respectively.
The Company's extension of credit to its customers results in accounts
receivable arising from its normal business activities. The Company does not
require collateral from its customers, but routinely assesses the financial
strength of its customers. Based upon factors surrounding the credit risk of its
customers and the Company's historical collection experience, no allowance for
uncollectible accounts has been established at December 31, 1997 and 1996,
respectively. The Company believes that its accounts receivable credit risk
exposure is limited. Such assessment may be subject to change in the near term.
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.
F-33
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[2] Summary of Significant Accounting Policies [Continued]
Advertising and Marketing - Advertising costs are expensed as incurred and
totaled $370, $418 and $185 for the years ended December 31, 1997, 1996 and
1995, respectively. In connection with its franchise agreements, a portion of
the franchise fees paid is for marketing services. Payments under these
agreements related to marketing services amounted to $201, $114 and $78 for the
years ended December 31, 1997, 1996 and 1995, respectively, and are included in
Hotel Operating Expenses.
[3] Intangible Assets
At December 31, 1997 and 1996, intangibles consisted of the following:
Accumulated
December 31, 1997: Cost Amortization Net
---- ------------ ---
Goodwill $ 1,168 $ 216 $ 952
Franchise Fees 342 46 296
Loan Acquisition Fees 196 17 179
-------- --------- --------
Totals $ 1,706 $ 279 $ 1,427
------ ======== ========= ========
Accumulated
December 31, 1996: Cost Amortization Net
---- ------------ ---
Goodwill $ 1,168 $ 138 $ 1,030
Franchise Fees 296 56 240
Loan Acquisition Fees 166 18 148
-------- --------- --------
Totals $ 1,630 $ 212 $ 1,418
------ ======== ========= ========
Amortization expense was $113, $105 and $87 for the years ended December 31,
1997, 1996 and 1995, respectively.
[4] Mortgages Payable
December 31,
1997 1996
---- ----
Holiday Inn, Harrisburg, Pennsylvania:
Note payable to bank dated August 19, 1997 with
monthly payments of $34 including interest at
8.45% until November 1, 2002. Thereafter the rate
is negotiated or the bank's prime rate plus 1/4%.
Final payment is due November 1, 2012. The property
previously was financed by a bank with a note payable
with monthly payments of $27 including interest at
the prime rate plus 1-1/2% maturing March 2, 2010 and
another note payable with monthly payments of $7
plus interest at 8-1/2% maturing January 5, 2001. $ 3,500 $ 3,096
Holiday Inn, Milesburg, Pennsylvania:
Note payable to bank dated June 2, 1977 with monthly
payments of $11 including interest at 8% until
June 6, 1999 914 970
------- -------
Totals - Forward $ 4,414 $ 4,066
F-34
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[4] Mortgages Payable [Continued]
December 31,
1997 1996
---- ----
Totals - Forwarded $ 4,414 $ 4,066
Clarion Suites, Philadelphia, Pennsylvania:
Note payable to a bank dated June 21, 1995 with monthly
payments of $16 as adjusted for interest at the prime
rate plus 1.25% until July 1, 2010. Guaranteed by PIDC
Local Development Corporation and the Small Business
Administration. 1,195 1,245
Note payable to a bank dated June 21, 1995 with monthly
payments of $3 plus interest at the prime rate plus .5%.
Principal balance is due July 1, 2002. 419 453
Hampton Inn, Selinsgrove, Pennsylvania:
Note payable to a bank dated April 3, 1996 with monthly
payments of $24 including interest at 8-1/4% until
October 3, 2011, includes personal guarantees. 2,385 2,476
Hampton Inn, Carlisle, Pennsylvania:
Note payable to a bank dated September 6, 1996 with monthly
payments of $28 including interest at 8% until March 6,
2001. Thereafter, the rate is negotiated or prime rate plus
1%. Final payment is due June 6, 2012. 2,848 331
Holiday Inn Express, New Columbia, Pennsylvania:
Note payable to a bank dated August 28, 1997 with monthly
payments of $27 including interest at 8-1/2% until
February 1, 2003. Thereafter interest will be at the prime
rate plus 1/4% as of January 1, 2003 and January 1, 2008.
Final payment is due January 1, 2013. 1,000 --
Holiday Inn Express, Harrisburg, Pennsylvania:
Note payable to a bank dated September 26, 1997 with monthly
payments of $11 including interest at 8.35% until October 1,
2000. Thereafter, the rate is as negotiated or at prime plus
1%. Final payment is due October 1, 2012. 1,110 --
Holiday Inn Express, Hershey, Pennsylvania:
Note payable to a bank dated December 30, 1996 with monthly
payments of $27 including interest at 8.15% until December
31, 2001. Thereafter, the rate is as negotiated or prime
plus 3/4%. Final payment is due January 1, 2013. 1,342 --
----------- -----------
Totals $ 14,713 $ 8,571
------ =========== ===========
Substantially all the Combined Entities' mortgage indebtedness is collateralized
by property and equipment and is personally guaranteed by the partners and
stockholders of the Combined Entities. One of the hotel properties also
collateralizes a $500 line of credit of a related party.
At December 31, 1997, the prime rate was 8.5%.
F-35
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[4] Mortgages Payable [Continued]
As of December 31, 1997, aggregate annual principal payments for the five years
following December 31, 1997, and thereafter are as follows:
Year ending
December 31,
1998 $ 730
1999 1,572
2000 787
2001 856
2002 932
Thereafter 9,836
----------
Total $ 14,713
----- ==========
[5] Owners' Equity
The owners' equity [deficit] of the Combined Entities by entity is as follows:
December 31,
1997 1996
------- -------
Hasu P. Shah/Bharat C. Mehta $ -- $ 269
244 Associates 542 --
844 Associates 285 27
944 Associates 29 75
1244 Associates 373 196
1444 Associates 829 432
1644 Associates (72) --
2144 Associates 833 863
2244 Associates (54) --
2544 Associates (60) --
Colonial Care Inns, Ltd. -- 308
Hersha Enterprises 267 (57)
Harrisburg Lodging, Inc. -- (21)
MEPS Associates 170 (32)
Philadelphia Lodging, Inc. -- 2
Sajneim Motel, Inc. -- 127
Shree Associates 11 --
-------- --------
Totals $ 3,153 $ 2,189
------ ======== ========
F-36
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[6] Income Taxes
Included in the Combined Entities for the years ended December 31, 1997, 1996
and 1995 is a corporation which computed its income taxes pursuant to Statement
of Financial Accounting Standards No. 109, "Accounting for Income Taxes."
Deferred income taxes at December 31, 1997 and 1996 was comprised of deferred
tax assets of $-0- and $56, respectively, representing financial reporting to
tax basis differences, and $20 and $8, respectively, representing net operating
loss carryforwards, offset by full valuation allowances of $20 and $64,
respectively. Under the transaction contemplated in connection with the proposed
initial public offering, the net operating loss carryforwards will not be
available to the Company.
The Combined Entities neither incurred nor paid any income taxes during the
periods presented.
[7] Related Party Transactions
At December 31, 1997 and 1996, the Combined Entities are indebted to various
related entities, partners, and stockholders in the amount of $9,169 and $4,236,
respectively. The loans carry interest ranging from 8.5% on short-term loans to
10.5% on longer term loans. Accrued interest payable was $153 and $11 at
December 31, 1997 and 1996, respectively, and interest expense was $533, $316
and $200 for the years ended December 31, 1997, 1996 and 1995, respectively.
At December 31, 1997 and 1996, various related entities, partners and
stockholders are indebted to the Combined Entities in the amount of $268 and
$107, respectively. The loans carry interest ranging from 0% on short-term loans
to 9% on longer term loans. Accrued interest receivable was $1 and $1 at
December 31, 1997 and 1996, respectively, and interest income was $9, $1 and $1
for the years ended December 31, 1997, 1996 and 1995, respectively.
The Combined Entities have paid or accrued $9,433, $856 and $-0- during the
years ended December 31, 1997, 1996 and 1995 to related entities for various
hotel construction projects and interest costs during construction. Capitalized
interest amounted to $183, $10 and $-0- for the years ended December 31, 1997,
1996 and 1995, respectively.
Certain properties are managed by individual partners or related entities.
Management fees paid to these individuals or related entities were $272, $97 and
$72 during the years ended December 31, 1997, 1996 and 1995, respectively.
A related entity rents office space in a hotel owned by the Combined Entities on
a month to month basis. The Combined Entities received rent of $30 for the year
ended December 31, 1997. The rent amount includes an allocation of certain
related expenses.
During the year ended December 31, 1996, the Combined Entities sold for $129,
the book value of the assets, certain leasehold improvements to Mr. Hasu P.
Shah.
On September 26, 1997, the Combined Entities acquired from Mr. Hasu P. Shah, the
Holiday Inn Express in Harrisburg, Pennsylvania by paying off the $1,106
indebtedness on the property. Prior to the sale, the Combined Entities had
rented the property from Mr. Hasu P. Shah under an informal rent arrangement.
Rent paid to Mr. Hasu P. Shah was $48, $267 and $70 for the years ended December
31, 1997, 1996 and 1995, respectively. Mr. Hasu P. Shah owns a parcel of land on
which a hotel is situated for which no land rent is charged.
F-37
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO FINANCIAL STATEMENTS
[Information relating to September 30, 1998 and throughout 1997 is Unaudited]
[AMOUNTS IN THOUSANDS]
[8] Commitments
Franchise Agreements - The Initial Hotels have executed franchise agreements
that have initial lives ranging from 10 to 20 years but may be terminated by
either party on certain anniversary dates specified in the agreements. In
addition to initial fees totaling $342, which are being amortized over the
franchise lives, the agreements require annual payments for franchise royalties,
reservation, and advertising services which are based upon percentages of gross
room revenue. Such fees were approximately $779, $524 and $368 for the years
ended December 31, 1997, 1996 and 1995, respectively. The Initial Hotels will
continue to be operated under the franchise agreements.
Construction in Progress - At December 31, 1997, the Combined Entities had
future obligations under various hotel construction project in the amount of
$255. Through December 31, 1997, the Combined Entities had incurred expenses of
$1,412 in connection with the construction of a hotel property in West Hanover,
Pennsylvania. The construction is being contracted and funded through a related
party and the total construction cost is expected to be approximately $3,100.
The Combined Entities have obtained a construction/term loan in the amount of
$2,500 under which no borrowings are outstanding at December 31, 1997. The loan
bears interest at 8% for 5 years and 9 months and the Wall Street Journal prime
rate thereafter through maturity 10 years and 9 months from inception. The loan
is collateralized by the property and is guaranteed by certain partners,
stockholders, Combined Entities and related parties.
[9] Fair Value of Financial Instruments
At December 31, 1997 and 1996 financial instruments include cash and cash
equivalents, accounts receivable, accounts payable, loans to and from related
parties and mortgage payables. The fair values of cash, accounts receivable and
accounts payable approximate carrying value because of the short-term nature of
these instruments. Loans to and from related parties carry interest at rates
that approximate the Combined Entities' borrowing cost. The fair value of
mortgages payable approximates carrying value since the interest rates
approximate the interest rates currently offered for similar debt with similar
maturities.
[10] Unaudited Interim Statements
The financial statements as of September 30, 1998 and for the nine months ended
September 30, 1998 and 1997 are unaudited; however, in the opinion of management
all adjustments [consisting solely of normal recurring adjustments] necessary
for a fair presentation of the financial statements for the interim period have
been made. The results of the interim periods are not necessarily indicative of
the results to be obtained for a full fiscal year.
. . . . . . . .
F-38
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
SCHEDULE XI - REAL ESTATE AND ACCUMULATED DEPRECIATION AS OF DECEMBER 31,
1997.
[IN THOUSANDS]
<TABLE>
<CAPTION>
Cost Capitalized Gross Amounts at
Subsequent to Which Carried at
Initial Cost Acquisition Close of Period
-------------------- -------------------- -------------------------------
Buildings and Buildings and Buildings and
Description Encumbrances Land Improvements Land Improvements Land Improvements Total
- ----------- ------------ ---- ------------- ---- ------------ ----- --------------- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Holiday Inn,
Harrisburg, PA $ 3,500 $ 412 $ 1,234 $ -- $1,518 $ 412 $ 2,752 $ 3,164
Holiday Inn,
Milesburg, PA 914 42 1,158 -- 681 42 1,839 1,881
Holiday Inn Express,
New Columbia, PA 1,000 94 2,510 -- -- 94 2,510 2,604
Holiday Inn Express,
Harrisburg, PA 1,110 256 850 -- 120 256 970 1,226
Holiday Inn Express,
Hershey, PA 1,342 426 2,645 -- -- 426 2,645 3,071
Clarion Suites,
Philadelphia, PA 1,614 262 1,049 150 776 412 1,825 2,237
Comfort Inn,
Denver, PA 434 -- 782 -- 327 -- 1,109 1,109
Hampton Inn,
Selinsgrove, PA 2,385 157 2,511 -- 6 157 2,517 2,674
Hampton Inn,
Carlisle, PA 2,848 300 3,109 -- -- 300 3,109 3,409
------ ------ ------ ------ ------ ------ ------ -------
$15,147 $1,949 $15,848 $ 150 $3,428 $2,099 $19,276 $21,375
======= ====== ======= ====== ====== ====== ======= =======
</TABLE>
Accumulated Net
Depreciation Book Value Life Upon Which
------------- ------------- Latest Income
Buildings and Buildings and Date of Statement is
Improvements Improvements Acquisition Computed
------------ ------------ ----------- --------
Holiday Inn,
Harrisburg, PA $ 204 $2,960 12/15/94 15 to 40
Holiday Inn,
Milesburg, PA 439 1,442 08/15/85 15 to 40
Holiday Inn Express,
New Columbia, PA 6 2,598 12/01/97 15 to 40
Holiday Inn Express,
Harrisburg, PA 9 1,217 06/15/85 15 to 40
Holiday Inn Express,
Hershey, PA 17 3,054 10/01/97 15 to 40
Clarion Suites,
Philadelphia, PA 135 2,102 06/30/95 15 to 40
Comfort Inn,
Denver, PA 200 909 01/01/88 15 to 40
Hampton Inn,
Selinsgrove, PA 86 2,588 09/12/96 15 to 40
Hampton Inn,
Carlisle, PA 45 3,364 06/01/97 15 to 40
------ ------
$1,141 $20,234
====== =======
F-39
<PAGE>
COMBINED ENTITIES - INITIAL HOTELS
NOTES TO SCHEDULE XI
[IN THOUSANDS]
<TABLE>
<CAPTION>
[A] Reconciliation of Real Estate:
1997 1996 1995
------- ------- -------
<S> <C> <C> <C>
Balance at Beginning of Year $ 9,950 $ 6,354 $ 3,785
Additions During Year 9,369 3,725 2,907
Deletions During Year (43) (129) (338)
------------ --------- ----------
Balance at End of Year $ 19,276 $ 9,950 $ 6,354
============ ========= ==========
[B] Reconciliation of Accumulated Depreciation:
Balance at Beginning of Year $ 834 $ 614 $ 546
Depreciation for the Year 307 220 139
Accumulated Depreciation on Deletions -- -- (71)
------------ --------- ----------
Balance at End of Year $ 1,141 $ 834 $ 614
============ ========= ==========
</TABLE>
[C] The aggregate cost of land, buildings and improvements for federal income
tax purposes is approximately $19,758.
[D] Depreciation is computed based upon the following useful lives:
Buildings and Improvements 15 to 40 years
F-40
<PAGE>
No dealer, salesperson or other individual has been authorized to give any
information or to make any representations other than those contained in this
Prospectus in connection with the offer made by this Prospectus and, if given or
made, such information or representations must not be relied upon as having been
authorized by the Company or the Underwriters. This Prospectus does not
constitute an offer to sell or a solicitation of an offer to buy any securities
in any jurisdiction in which such offer or solicitation is not authorized or in
which the person making such offer or solicitation is not qualified to do so, or
to any person to whom it is unlawful to make such offer or solicitation. Neither
the delivery of this Prospectus nor any sale made hereunder shall, under any
circumstances, create any implication that there has been no change in the
affairs of the Company or that information contained herein is correct as of any
time subsequent to the date hereof.
TABLE OF CONTENTS page
PROSPECTUS SUMMARY..................... 1
RISK FACTORS........................... 16
THE COMPANY............................ 26
GROWTH STRATEGY........................ 28
USE OF PROCEEDS........................ 30
FORECASTED DISTRIBUTIONS............... 31
PRO FORMA CAPITALIZATION............... 34
DILUTION............................... 35
SELECTED FINANCIAL INFORMATION......... 36
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS........................ 39
BUSINESS AND PROPERTIES................ 42
POLICIES AND OBJECTIVES WITH RESPECT
TO CERTAIN ACTIVITIES................ 53
FORMATION TRANSACTIONS................. 56
MANAGEMENT............................. 58
CERTAIN RELATIONSHIPS AND TRANSACTIONS. 64
THE LESSEE............................. 65
PRINCIPAL SHAREHOLDERS................. 67
DESCRIPTION OF SHARES OF BENEFICIAL
INTEREST............................. 68
CERTAIN PROVISIONS OF MARYLAND LAW
AND OF THE COMPANY'S DECLARATION OF
TRUST AND BYLAWS..................... 75
SHARES AVAILABLE FOR FUTURE SALE....... 79
PARTNERSHIP AGREEMENT.................. 81
FEDERAL INCOME TAX CONSEQUENCES........ 84
UNDERWRITING........................... 99
EXPERTS................................100
REPORTS TO SHAREHOLDERS................100
LEGAL MATTERS..........................100
ADDITIONAL INFORMATION.................100
GLOSSARY...............................102
INDEX TO FINANCIAL STATEMENTS .........F-1
Until January ___, 1999 (25 days after the date of this Prospectus), all
dealers effecting transactions in the registered securities, whether or not
participating in this distribution, may be required to deliver a prospectus.
This is in addition to the obligation of dealers to deliver a Prospectus when
acting as underwriters and with respect to their unsold allotment or
subscriptions.
2,000,000 Shares
HERSHA HOSPITALITY
TRUST
Priority Class A Common Shares
of Beneficial Interest
--------------
PROSPECTUS
--------------
ANDERSON & STRUDWICK
INCORPORATED
____________, 1998
<PAGE>
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
Item 31. Other Expenses of Issuance and Distribution
Set forth below is an estimate of the approximate amount of the fees and
expenses (other than sales commissions) payable by the Registrant in connection
with the issuance and distribution of the Common Shares.
Securities and Exchange Commission, registration fee.............. $ 4,720
NASD filing fee................................................... 2,100
American Stock Exchange listing fee............................... 30,000
Printing and mailing.............................................. 45,000
Accountant's fees and expenses.................................... 140,000
Counsel fees and expenses......................................... 410,000
Miscellaneous..................................................... 18,180
---------
Total......................................................... $ 650,000
=========
Item 32. Sales to Special Parties
None.
Item 33. Recent Sales of Unregistered Securities
On May 27, 1998, the Company was capitalized with a subscription by Hasu
P. Shah for 100 Class B Common Shares for a purchase price of $1 per share for
an aggregate purchase price of $100. The Class B Common Shares were purchased
for investment and for the purpose of organizing the Company. The Company issued
these Common Shares in reliance on an exemption from registration under Section
4(2) of the Securities Act. Mr. Shah's 100 Class B Common Shares will be
redeemed at his purchase price concurrently with the closing of the Offering.
Item 34. Indemnification of Trustees and Officers
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) active and deliberate dishonesty
established by a final judgment and that is material to the cause of action. The
Declaration of Trust of the Company contains such a provision which eliminates
such liability to the maximum extent permitted by the Maryland REIT Law.
The Declaration of Trust of the Company 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 shareholder, Trustee or officer or (b) any individual
who, while a Trustee of the Company and at the request of the Company, 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
from and against any claim or liability to which such person may become subject
or which such person may incur by reason of his status as a present or former
shareholder. The Bylaws of the Company obligate it, to the maximum extent
permitted by Maryland law, to indemnify: (a) any present or former Trustee,
officer or shareholder (including any individual who, while a Trustee, officer
or shareholder and at the express request of the Company, serves another entity
as a director, officer, shareholder, partner or trustee of such entity) who has
been successful, on the merits or otherwise, in the defense of a proceeding to
which he was made a party by reason of service in such capacity, against
reasonable expenses incurred by him in connection with the proceeding; (b)
subject to certain limitations under Maryland law, any present or former Trustee
or officer against any claim or liability to which he may become subject by
reason of such status; and (c) each present or former shareholder against any
claim or liability to which he may become subject by reason of such status. In
addition, the Bylaws obligate the Company, subject to certain provisions of
Maryland law, to pay or reimburse, in advance of final disposition of a
proceeding, reasonable expenses incurred by a present or former Trustee, officer
or shareholder made a party to a proceeding by reason of such status. The
Company may, with the approval of its Trustees, provide such indemnification or
payment or reimbursement of expenses to any present or former Trustee, officer
or shareholder of the Company or any predecessor of the Company and to any
employee or agent of the Company or predecessor of the Company.
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 indemnity 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 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, a Maryland
corporation may not indemnify for an adverse judgment in a suit by or in the
right of the corporation or for a judgment of liability on the basis that
personal benefit was improperly received, unless in either case a court orders
indemnification and then only for expenses. In accordance with the MGCL, the
Bylaws of the Company 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
the Company as authorized by the Bylaws and (b) a written undertaking by him or
on his behalf to repay the amount paid or reimbursed by the Company if it shall
ultimately be determined that the standard of conduct was not met.
Item 35. Treatment of Proceeds from Shares Being Registered
None.
Item 36. Financial Statements and Exhibits
(a) Financial Statements
All other schedules are omitted because the required information is
not applicable or the information required has been disclosed in the financial
statements and related notes included in the Prospectus.
(b) Exhibits
<TABLE>
<CAPTION>
Exhibit
Number Exhibit
------- -------
<S> <C>
1.1* Form of Underwriting Agreement
1.2* Form of Selected Dealer Agreement
3.1* Amended and Restated Declaration of Trust of the Registrant
3.2* Bylaws of the Registrant
4.1* Form of Common Share Certificate
5.1 Opinion of Hunton & Williams
8.1* Opinion of Hunton & Williams as to Tax Matters
10.1* Form of First Amended and Restated Agreement of Limited Partnership of
Hersha Hospitality Limited Partnership
10.2* Contribution Agreement, dated as of June 3, 1998, between Hasu
P. Shah and Bharat C. Mehta, as Contributor, and Hersha
Hospitality Limited Partnership, as Acquiror.
10.3* Contribution Agreement, dated as of June 3, 1998, between
Shree Associates, JSK Associates, Shanti Associates, Shreeji
Associates, Kunj Associates, Devi Associates, Neil H. Shah,
David L. Desfor, Madhusudan I. Patni, Manhar Gandhi and
Shreenathji Enterprises, Ltd., as Contributor, and Hersha
Hospitality Limited Partnership, as Acquiror.
10.4* Contribution Agreement, dated as of June 3, 1998, between JSK Associates,
Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates,
Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd. as
Contributor, and Hersha Hospitality Limited Partnership, as Acquiror.
10.5* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.6* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, David L. Desfor, Madhusudan I.
Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as
Contributor, and Hersha Hospitality Limited Partnership, as
Acquiror.
10.7* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, Madhusudan I. Patni and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality
Limited Partnership, as Acquiror.
10.8* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.9* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, David L. Desfor and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality
Limited Partnership, as Acquiror.
10.10* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.11* Contribution Agreement, dated as of June 3, 1998, between 144
Associates, 344 Associates, 544 Associates and 644 Associates,
Joint Tenants Doing Business as 2544 Associates, as
Contributor, and Hersha Hospitality Limited Partnership, as
Acquiror.
10.12* Contribution Agreement dated June 3, 1998, between Shree
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.13* Contribution Agreement dated June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.14* Contribution Agreement dated June 3, 1998, between 144
Associates, 344 Associates, 544 Associates and 644 Associates,
Joint Tenants Doing Business as 2544 Associates, as
Contributor, and Hersha Hospitality Limited Partnership, as
Acquiror.
10.15* Contribution Agreement, dated June 3, 1998, between Shree Associates,
Devi Associates, Shreeji Associates, Madhusudan I. Patni and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.16* Contribution Agreement, dated June 3, 1998, between Shree
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.17* Form of Ground Lease
10.18* Form of Percentage Lease
10.19* Option Agreement, dated June 3, 1998, between Hasu P. Shah, Jay H. Shah,
Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran
P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and
Hersha Hospitality Limited Partnership.
10.19(a)* Amendment to Option Agreement, dated December 4, 1998, between Hasu P.
Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel,
Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni
and Manhar Gandhi, and Hersha Hospitality Limited Partnership.
10.20* Administrative Services Agreement, dated _____________, 1998,
between Hersha Hospitality Trust and Hersha Hospitality
Management, L.P.
10.21* Warrant Agreement, dated ____________, 1998, between Anderson &
Strudwick, Inc. and Hersha Hospitality Trust.
10.22* Warrant Agreement, dated June 3, 1998, between 2744 Associates, L.P. and
Hersha Hospitality Limited Partnership.
10.23* Hersha Hospitality Trust Option Plan
10.24* Hersha Hospitality Trust Non-Employee Trustees' Option Plan
23.1 Consent of Hunton & Williams (included in Exhibits 5.1 and 8.1)
23.2** Consent of Moore Stephens, P.C.
24.1 Power of Attorney (included on signature page)
99.1* Consent of Bharat C. Mehta to be named as a Trustee nominee
99.2* Consent of K. D. Patel to be named as a Trustee nominee
99.3* Consent of L. McCarthy Downs, III to be named as a Trustee nominee
99.4* Consent of Everette G. Allen, Jr. to be named as a Trustee nominee
99.5* Consent of Mark R. Parthemer to be named as a Trustee nominee
</TABLE>
- ------------
* Previously filed.
**Filed herewith.
Item 37. Undertakings
Insofar as indemnification for liabilities arising under the Securities
Act of 1933 may be permitted to directors, officers and controlling persons of
the Registrant pursuant to the provisions referred to in Item 34 of this
Registration Statement, 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 director,
officer, or controlling person of the Registrant in the successful defense of
any action, suit, or proceeding) is asserted by such director, officer, or
controlling person in connection with the securities being registered, the
Registrant will, unless in the opinion of its counsel the matter has been
settled by controlling precedent, submit to a court of appropriate jurisdiction
the question as to 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 provide to the
underwriters at the closing specified in the Underwriting Agreement certificates
in such denominations and registered in such names as required by the
underwriters to permit prompt delivery to each purchaser.
The undersigned Registrant hereby undertakes:
(1) For the purpose of determining any liability under the Securities Act
of 1933, each such post-effective amendment shall be deemed to be a new
registration statement relating to the securities offered therein, and the
offering of such securities at that time shall be deemed to be the initial bona
fide offering thereof;
(2) For purposes of determining any liability under the Securities Act of
1933, the information omitted from the form of Prospectus filed as part of this
Registration Statement in reliance upon Rule 430A and contained in a form of
Prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h)
under the Securities Act shall be deemed to be part of this registration
statement as of the time it was declared effective.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
has duly caused this Registration Statement to be signed on its behalf by the
undersigned, thereunto duly authorized in the City of Harrisburg, State of
Pennsylvania, on the 28th day of December, 1998.
Hersha Hospitality Trust,
a Maryland real estate investment trust
(Registrant)
By: /s/ Hasu P. Shah
-------------------------------------
Hasu P. Shah
Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons on the 28th day
of December, 1998 in the capacities indicated.
<TABLE>
<CAPTION>
Signature Title
- --------- -----
<S> <C>
/s/ Hasu P. Shah
- -------------------------------- Chairman of the Board of Trustees, Chief
Hasu P. Shah Executive Officer and Trustee
(Principal Executive Officer)
/s/ Kiran P. Patel
- -------------------------------- Chief Financial Officer, Treasurer and Secretary
Kiran P. Patel (Principal Financial and Accounting Officer)
</TABLE>
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Sequentially
Exhibit Document Numbered Page
- ------- --------
<S> <C>
1.1* Form of Underwriting Agreement
1.2* Form of Selected Dealer Agreement
3.1* Amended and Restated Declaration of Trust of the Registrant
3.2* Bylaws of the Registrant
4.1* Form of Common Share Certificate
5.1 Opinion of Hunton & Williams
8.1* Opinion of Hunton & Williams as to Tax Matters
10.1* Form of First Amended and Restated Agreement of Limited Partnership of Hersha
Hospitality Limited Partnership
10.2* Contribution Agreement, dated as of June 3, 1998, between Hasu
P. Shah and Bharat C. Mehta, as Contributor, and Hersha
Hospitality Limited Partnership, as Acquiror.
10.3* Contribution Agreement, dated as of June 3, 1998, between Shree Associates, JSK
Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Devi
Associates, Neil H. Shah, David L. Desfor, Madhusudan I. Patni, Manhar
Gandhi and Shreenathji Enterprises, Ltd., as Contributor, and Hersha
Hospitality Limited Partnership, as Acquiror.
10.4* Contribution Agreement, dated as of June 3, 1998, between JSK Associates,
Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates,
Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd. as
Contributor, and Hersha Hospitality Limited Partnership, as Acquiror.
10.5* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.6* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, David L. Desfor, Madhusudan I.
Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as
Contributor, and Hersha Hospitality Limited Partnership, as
Acquiror.
10.7* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, Madhusudan I. Patni and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality
Limited Partnership, as Acquiror.
10.8* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.9* Contribution Agreement, dated as of June 3, 1998, between JSK
Associates, Shanti Associates, Shreeji Associates, Kunj
Associates, Neil H. Shah, David L. Desfor and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality
Limited Partnership, as Acquiror.
10.10* Contribution Agreement, dated as of June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited Partnership,
as Acquiror.
10.11* Contribution Agreement, dated as of June 3, 1998, between 144
Associates, 344 Associates, 544 Associates and 644 Associates,
Joint Tenants Doing Business as 2544 Associates, as
Contributor, and Hersha Hospitality Limited Partnership, as
Acquiror.
10.12* Contribution Agreement dated June 3, 1998, between Shree
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.13* Contribution Agreement dated June 3, 1998, between 2144
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.14* Contribution Agreement dated June 3, 1998, between 144 Associates, 344
Associates, 544 Associates and 644 Associates, Joint Tenants Doing
Business as 2544 Associates, as Contributor, and Hersha Hospitality
Limited Partnership, as Acquiror.
10.15* Contribution Agreement, dated June 3, 1998, between Shree Associates,
Devi Associates, Shreeji Associates, Madhusudan I. Patni and Shreenathji
Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.16* Contribution Agreement, dated June 3, 1998, between Shree
Associates, as Contributor, and Hersha Hospitality Limited
Partnership, as Acquiror.
10.17* Form of Ground Lease
10.18* Form of Percentage Lease
10.19* Option Agreement, dated June 3, 1998, between Hasu P. Shah, Jay H. Shah, Neil
H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P.
Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and Hersha
Hospitality Limited Partnership.
10.19(a)* Amendment to Option Agreement, dated December 4, 1998, between Hasu P. Shah,
Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi,
Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and
Hersha Hospitality Limited Partnership.
10.20* Administrative Services Agreement, dated ______________, 1998,
between Hersha Hospitality Trust and Hersha Hospitality
Management, L.P.
10.21* Warrant Agreement, dated _____________, 1998, between Anderson & Strudwick,
Inc. and Hersha Hospitality Trust.
10.22* Warrant Agreement, dated June 3, 1998, between 2744 Associates, L.P. and Hersha
Hospitality Limited Partnership.
10.23* Hersha Hospitality Trust Option Plan
10.24* Hersha Hospitality Trust Non-Employee Trustees' Option Plan
23.1 Consent of Hunton & Williams (included in Exhibits 5.1 and 8.1)
23.2** Consent of Moore Stephens, P.C.
24.1 Power of Attorney (included on signature page)
99.1* Consent of Bharat C. Mehta to be named as a Trustee nominee
99.2* Consent of K. D. Patel to be named as a Trustee nominee
99.3* Consent of L. McCarthy Downs, III to be named as a Trustee nominee
99.4* Consent of Everette G. Allen, Jr. to be named as a Trustee nominee
99.5* Consent of Mark R. Parthemer to be named as a Trustee nominee
</TABLE>
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* Previously filed.
**Filed herewith.
Exhibit 23.2
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
We consent to the reference to our firm under the heading "Experts" and
"Selected Financial Information" and to the use of our report dated May 27,
1998, except as to the Notes to the Financial Statements as to which the date is
December 4, 1998, on our audit of Hersha Hospitality Trust, our report dated May
27, 1998, on our audit of Hersha Hospitality Management L.P., and our report
dated March 21, 1998, on our audit of the Combined Entities-Initial Hotels in
this Registration Statement and related Prospectus of Hersha Hospitality Trust.
MOORE STEPHENS, P. C.
Certified Public Accountants.
Cranford, New Jersey
December 24, 1998
