<PAGE> 1
- - --------------------------------------------------------------------------------
- - --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
------------------------
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999
------------------------
INTERSTATE HOTELS CORPORATION
FOSTER PLAZA TEN
680 ANDERSEN DRIVE
PITTSBURGH, PENNSYLVANIA 15220
(412) 937-0600
<TABLE>
<S> <C> <C>
MARYLAND 0-26805 75-2767215
(State of Incorporation) (Commission File No.) (I.R.S. Employer
Identification Number)
</TABLE>
The Company (1) has filed all reports to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the period that the Company was
required to file such reports, and (2) has been subject to such filing
requirements for the past 90 days.
The total number of shares of the Company's Common Stock, par value $0.01
per share, outstanding at November 4, 1999 was 6,394,996.
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<PAGE> 2
INDEX
INTERSTATE HOTELS CORPORATION
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C> <C>
PART I FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)............................ 2
Consolidated Balance Sheets - December 31, 1998 and
September 30, 1999.......................................... 2
Consolidated Statements of Operations - Historical Three
Months Ended September 30, 1998 and September 30, 1999...... 3
Consolidated Statements of Operations - Historical Periods
from January 1, 1998 to June 1, 1998 and from June 2, 1998
to September 30, 1998, Combined Nine Months Ended September
30, 1998 and Historical Nine Months Ended September 30,
1999........................................................ 4
Consolidated Statements of Cash Flows - Historical Periods
from January 1, 1998 to June 1, 1998 and from June 2, 1998
to September 30, 1998, Combined Nine Months Ended September
30, 1998 and Historical Nine Months Ended September 30,
1999........................................................ 5
Consolidated Statements of Operations - Pro Forma Three
Months and Nine Months Ended September 30, 1998 and
September 30, 1999.......................................... 6
Notes to Consolidated Financial Statements.................. 7
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 13
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................ 19
</TABLE>
<PAGE> 3
PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED).
INTERSTATE HOTELS CORPORATION
CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31, SEPTEMBER 30,
1998 1999
------------ -------------
(A) (UNAUDITED)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 1,652 $ 37,032
Accounts receivable, net.................................. 16,816 18,039
Deferred income taxes..................................... 615 1,741
Net investment in direct financing leases................. 827 578
Prepaid expenses and other assets......................... 741 1,724
Related party receivables--management contracts........... 1,085 421
-------- --------
Total current assets.................................... 21,736 59,535
Restricted cash............................................. 2,201 1,646
Marketable securities....................................... 2,609 2,138
Property and equipment, net................................. 4,076 3,677
Officers and employees notes receivable..................... 2,803 3,573
Affiliate receivables....................................... 3,381 9,263
Net investment in direct financing leases................... 1,680 1,122
Investment in hotel real estate............................. 22,150 300
Intangibles and other assets................................ 100,521 86,878
-------- --------
Total assets............................................ $161,157 $168,132
======== ========
LIABILITIES AND OWNERS' EQUITY
Current liabilities:
Accounts payable--trade................................... 2,413 2,060
Accounts payable--health trust............................ 1,785 3,762
Accounts payable--related parties......................... 18,597 --
Accrued payroll and related benefits...................... 6,120 6,981
Accrued rent.............................................. 5,043 10,617
Accrued merger costs...................................... 9,344 404
Other accrued liabilities................................. 9,236 15,794
-------- --------
Total current liabilities............................... 52,538 39,618
Deferred income taxes....................................... 11,053 6,108
Deferred compensation....................................... 2,609 2,138
-------- --------
Total liabilities....................................... 66,200 47,864
Minority interest........................................... 2,350 55,477
Commitments and contingencies............................... -- --
Owners' equity:
Preferred stock, $.01 par value; 10,000,000 shares
authorized; no shares
issued or outstanding................................... -- --
Common stock, $.01 par value; 65,000,000 shares
authorized; 6,063,079
shares issued and outstanding as of September 30,
1999.................................................... -- 61
Paid-in capital........................................... -- 65,630
Retained deficit.......................................... -- (900)
Owners' equity............................................ 92,607 --
-------- --------
Total owners' equity.................................... 92,607 64,791
-------- --------
Total liabilities and owners' equity.................... $161,157 $168,132
======== ========
</TABLE>
- - ---------------
(A) The year-end balance sheet information was derived from audited financial
statements, but does not include all disclosures required by generally
accepted accounting principles.
The accompanying notes are an integral part of the consolidated financial
statements.
2
<PAGE> 4
INTERSTATE HOTELS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
---------------------
1998 1999
--------- ---------
<S> <C> <C>
Lodging revenues:
Rooms..................................................... $ 51,109 $ 52,013
Other departmental........................................ 2,875 2,899
Net management fees......................................... 9,504 7,535
Other fees.................................................. 5,482 3,114
--------- ---------
68,970 65,561
--------- ---------
Lodging expenses:
Rooms..................................................... 11,131 12,075
Other departmental........................................ 1,745 1,919
Property costs............................................ 14,422 15,141
General and administrative.................................. 2,664 3,765
Payroll and related benefits................................ 5,527 4,935
Lease expense............................................... 24,773 25,595
Depreciation and amortization............................... 4,568 4,620
--------- ---------
64,830 68,050
--------- ---------
Operating income (loss)..................................... 4,140 (2,489)
Other income:
Interest, net............................................. 280 517
Other, net................................................ 413 --
--------- ---------
Income (loss) before income tax expense (benefit)........... 4,833 (1,972)
Income tax expense (benefit)................................ 1,912 (376)
--------- ---------
Income (loss) before minority interest...................... 2,921 (1,596)
Minority interest........................................... 54 (1,031)
--------- ---------
Net income (loss)........................................... $ 2,867 $ (565)
========= =========
Earnings per common share and common share equivalent
(Note 4):
Basic..................................................... $ -- $ (.09)
========= =========
Diluted................................................... $ -- $ (.09)
========= =========
Weighted average number of common share and common share
equivalents outstanding:
Basic..................................................... -- 6,063,079
========= =========
Diluted................................................... -- 6,063,079
========= =========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
3
<PAGE> 5
INTERSTATE HOTELS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, IN THOUSANDS)
<TABLE>
<CAPTION>
PREDECESSOR SUCCESSOR COMBINED SUCCESSOR
--------------- ------------------ -------- ---------
PERIOD FROM
------------------------------------ NINE MONTHS ENDED
JANUARY 1, 1998 JUNE 2, 1998 SEPTEMBER 30,
TO TO --------------------
JUNE 1, 1998 SEPTEMBER 30, 1998 1998 1999
--------------- ------------------ -------- ---------
<S> <C> <C> <C> <C>
Lodging revenues:
Rooms................................... $74,265 $68,311 $142,576 $141,137
Other departmental...................... 4,504 3,806 8,310 7,958
Net management fees....................... 18,018 13,385 31,403 24,857
Other fees................................ 9,976 7,305 17,281 9,294
------- ------- -------- --------
106,763 92,807 199,570 183,246
------- ------- -------- --------
Lodging expenses:
Rooms................................... 16,115 14,750 30,865 32,895
Other departmental...................... 2,674 2,308 4,982 5,194
Property costs.......................... 21,045 18,904 39,949 41,863
General and administrative................ 6,115 3,435 9,550 11,353
Payroll and related benefits.............. 10,982 6,939 17,921 14,891
Lease expense............................. 34,515 33,197 67,712 70,104
Depreciation and amortization............. 2,152 6,123 8,275 14,712
------- ------- -------- --------
93,598 85,656 179,254 191,012
------- ------- -------- --------
Operating income (loss)................... 13,165 7,151 20,316 (7,766)
Other income (expense):
Interest, net........................... 204 315 519 672
Other, net.............................. 474 514 988 1,563
Loss on sale of investment in hotel real
estate............................... -- -- -- (876)
------- ------- -------- --------
Income (loss) before income tax expense
(benefit)............................... 13,843 7,980 21,823 (6,407)
Income tax expense (benefit).............. 5,528 3,168 8,696 (1,752)
------- ------- -------- --------
Income (loss) before minority interest.... 8,315 4,812 13,127 (4,655)
Minority interest......................... 24 59 83 (2,027)
------- ------- -------- --------
Net income (loss)......................... $ 8,291 $ 4,753 $ 13,044 $ (2,628)
======= ======= ======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
4
<PAGE> 6
INTERSTATE HOTELS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED, IN THOUSANDS)
<TABLE>
<CAPTION>
PREDECESSOR SUCCESSOR COMBINED SUCCESSOR
--------------- ------------------ -------- ---------
PERIOD FROM
------------------------------------ NINE MONTHS ENDED
JANUARY 1, 1998 JUNE 2, 1998 SEPTEMBER 30,
TO TO --------------------
JUNE 1, 1998 SEPTEMBER 30, 1998 1998 1999
--------------- ------------------ -------- ---------
<S> <C> <C> <C> <C>
Cash flows from operating activities:
Net income (loss)........................... $ 8,291 $ 4,753 $13,044 $ (2,628)
Adjustments to reconcile net income (loss)
to net cash provided by operating
activities:
Depreciation and amortization............. 2,152 6,123 8,275 14,712
Equity in earnings from unconsolidated
subsidiaries........................... (513) (515) (1,028) (1,525)
Deferred income taxes..................... (1,555) 6,119 4,564 (782)
Other..................................... 200 123 323 (1,191)
Cash (used) provided by assets and
liabilities:
Accounts receivable, net.................. (3,661) (675) (4,336) (1,223)
Prepaid expenses and other assets......... 307 366 673 (983)
Related party receivables................. (341) 558 217 664
Accounts payable.......................... 1,053 (2,771) (1,718) 2,485
Accrued liabilities....................... 12,426 (1,017) 11,409 13,495
-------- -------- -------- --------
Net cash provided by operating
activities........................... 18,359 13,064 31,423 23,024
-------- -------- -------- --------
Cash flows from investing activities:
Net investment in direct financing leases... 145 (693) (548) 807
Change in restricted cash................... 540 (714) (174) 555
Purchase of property and equipment, net..... (709) (32) (741) (302)
Purchases of marketable securities.......... -- -- -- (2,030)
Proceeds from sale of marketable
securities................................ -- -- -- 1,941
Proceeds from sale of investment in hotel
real estate............................... -- -- -- 13,654
Net cash received from unconsolidated
subsidiaries.............................. 1,085 (2,793) (1,708) 1,176
Net investment in management contracts...... (666) (78) (744) (352)
Merger-related acquisition costs............ -- (21,538) (21,538) (8,941)
Change in affiliate receivables, net........ 2,043 372 2,415 (482)
Other....................................... 236 779 1,015 (786)
-------- -------- -------- --------
Net cash provided by (used in)
investing activities................. 2,674 (24,697) (22,023) 5,240
-------- -------- -------- --------
Cash flows from financing activities:
Repayment of long-term debt................. (180) -- (180) --
Proceeds from sale of common stock.......... -- -- -- 2,120
Net (distributions to) contributions from
minority interests........................ (44) 12 (32) 6,934
Related party payables...................... (9,234) 3,591 (5,643) (18,597)
Net (distributions to) contributions from
owners.................................... (9,840) 7,043 (2,797) 16,659
-------- -------- -------- --------
Net cash (used in) provided by
financing activities................. (19,298) 10,646 (8,652) 7,116
-------- -------- -------- --------
Net increase (decrease) in cash and cash
equivalents................................. 1,735 (987) 748 35,380
Cash and cash equivalents at beginning of
period...................................... 2,432 4,167 2,432 1,652
-------- -------- -------- --------
Cash and cash equivalents at end of period.... $ 4,167 $ 3,180 $ 3,180 $ 37,032
======== ======== ======== ========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
5
<PAGE> 7
INTERSTATE HOTELS CORPORATION
PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED, DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
PRO FORMA (NOTE 3)
----------------------------------------------
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------ --------------------
1998 1999 1998 1999
------- ------- -------- --------
<S> <C> <C> <C> <C>
Lodging revenues:
Rooms..................................... $51,109 $52,013 $142,576 $141,137
Other departmental........................ 2,875 2,899 8,310 7,958
Net management fees......................... 7,884 6,847 23,050 20,549
Other fees.................................. 4,390 3,087 13,627 8,637
------- ------- -------- --------
66,258 64,846 187,563 178,281
------- ------- -------- --------
Lodging expenses:
Rooms..................................... 11,131 12,075 30,865 32,895
Other departmental........................ 1,745 1,919 4,982 5,194
Property costs............................ 14,422 15,141 39,949 41,863
General and administrative.................. 2,914 3,765 9,772 11,797
Payroll and related benefits................ 5,115 5,085 15,402 15,341
Lease expense............................... 24,773 25,595 67,712 68,104
Depreciation and amortization............... 4,562 4,620 13,648 14,712
------- ------- -------- --------
64,662 68,200 182,330 189,906
------- ------- -------- --------
Operating income (loss)..................... 1,596 (3,354) 5,233 (11,625)
Other income (expense):
Interest, net............................. 423 512 950 934
Other, net................................ -- -- (40) 38
------- ------- -------- --------
Income (loss) before income tax expense
(benefit)................................. 2,019 (2,842) 6,143 (10,653)
Income tax expense (benefit)................ 394 (534) 1,200 (1,877)
------- ------- -------- --------
Income (loss) before minority interest...... 1,625 (2,308) 4,943 (8,776)
Minority interest........................... 1,032 (1,506) 3,142 (5,960)
------- ------- -------- --------
Net income (loss)........................... $ 593 $ (802) $ 1,801 $ (2,816)
======= ======= ======== ========
Pro forma earnings per common share and
common share equivalent:
Basic..................................... $ .09 $ (.13) $ .28 $ (.44)
======= ======= ======== ========
Diluted................................... $ .09 $ (.13) $ .28 $ (.44)
======= ======= ======== ========
Pro forma weighted average number of common
share and common share equivalents
outstanding:
Basic..................................... 6,394,996 6,394,996 6,394,996 6,394,996
========= ========= ========= =========
Diluted................................... 6,394,996 6,394,996 6,394,996 6,394,996
========= ========= ========= =========
</TABLE>
The accompanying notes are an integral part of the consolidated financial
statements.
6
<PAGE> 8
INTERSTATE HOTELS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED, DOLLARS IN THOUSANDS)
1. ORGANIZATION AND BASIS OF PRESENTATION:
Interstate Hotels Company (together with its subsidiaries, "Old
Interstate") was merged into Wyndham International, Inc., formerly Patriot
American Hospitality, Inc. ("Wyndham"), on June 2, 1998 (the "Merger"). Prior to
the Merger, Marriott International, Inc. ("Marriott") filed a lawsuit to stop
the closing of the Merger as a result of a dispute over certain franchise
agreements between Marriott and Old Interstate. On June 18, 1999, pursuant to a
settlement agreement with Marriott with respect to the lawsuit, Wyndham
transferred the third-party hotel management business of Old Interstate, equity
interests in The Charles Hotel Complex, a hotel, retail and office complex
located in Cambridge, Massachusetts, and long-term leasehold interests in
hotels, as well as certain other assets and liabilities of Old Interstate, to a
new entity, Interstate Hotels Corporation (together with its subsidiaries, the
"Company"), which Wyndham then spun-off to its shareholders (the "Spin-off"). As
a result of the Spin-off, 92% of the common shares of the Company were
distributed to Wyndham's shareholders, Marriott was issued a 4% ownership
interest in the Company's common stock and Wyndham retained a 4% interest in the
Company's common stock.
The financial statements have been prepared using the predecessor basis of
accounting for the period from January 1, 1998 to June 1, 1998, and the
successor basis of accounting for the period from June 2, 1998 to December 31,
1998, as well as for the periods presented in 1999, to coincide with the periods
before and after the Merger. The Merger was accounted for using the purchase
method of accounting, and the Merger consideration was allocated by Wyndham on
the basis of the fair market value of the assets of Old Interstate. The Spin-off
was accounted for using the historical basis of accounting. The statements of
operations and cash flows contain columns for the nine months ended September
30, 1998 that combine the predecessor and successor periods, as the Company
deems this presentation to be informative to the reader of such financial
statements. When used herein, "consolidated financial statements" refers to the
historical combined financial statements of the Company prior to the Spin-off
and the historical consolidated financial statements of the Company thereafter.
Prior to the Spin-off, the Company was not a separate legal entity.
Therefore, the accompanying consolidated financial statements of the Company
have been carved out of Old Interstate's financial statements prior to the
Merger using the predecessor basis of accounting, and from Wyndham's financial
statements subsequent to the Merger using the successor basis of accounting,
which gives effect to the allocation of the Merger consideration. The financial
statements include only those assets, liabilities, revenues and expenses
directly attributable to the third-party hotel management business, the equity
interests in The Charles Hotel Complex and the leased hotels which were retained
by the Company in connection with the Spin-off. These consolidated financial
statements have been prepared as if the Company had operated as a separate
entity for all periods presented.
The Company has two principal subsidiaries. Interstate Hotels, LLC ("IH
LLC") has assumed the third-party hotel management business previously conducted
by Old Interstate and holds the leasehold interests in the Company's leased
hotels, as well as provides ancillary services such as centralized purchasing,
equipment leasing and insurance services. The Company owns a 45% managing member
interest and Wyndham owns a 55% non-controlling ownership interest in IH LLC.
The other subsidiary, IHC II, LLC, has entered into management contracts to
manage eleven Wyndham-owned hotels and subcontracted the management under these
contracts to Marriott. The Company owns a 99.99% interest and Marriott owns a
.01% interest in this subsidiary.
In accordance with IH LLC's limited liability company agreement, the
Company is required to distribute 55% of IH LLC's cash flows from operations to
Wyndham and allocate between IH LLC and the Company the costs and expenses
relating to services provided by one party for the benefit of the other in
accordance with generally accepted accounting principles, on the basis of which
party benefited from the expenditure. To the extent that the allocation of any
such costs and expenses, including general and administrative expenses, cannot
be fairly apportioned, IH LLC and the Company will allocate such costs and
expenses based upon their respective gross revenues, so that each party's profit
margins are substantially the same for similar services.
7
<PAGE> 9
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
(UNAUDITED, DOLLARS IN THOUSANDS)
1. ORGANIZATION AND BASIS OF PRESENTATION--CONTINUED
The Company includes the revenues and expenses and assets and liabilities
of leased hotels in the financial statements because the risk of operating these
hotels is borne by the Company, as lessee, under the terms of the leases.
Revenues and expenses from the operation of managed hotels are not included in
the financial statements because the hotel management contracts are generally
cancellable, not transferable and do not shift the risks of operation to the
Company. Therefore, the Company records revenues from management fees only for
its managed hotels.
2. INTERIM FINANCIAL STATEMENTS:
The accompanying consolidated interim financial statements have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission (the "SEC"). Certain information and
footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been omitted
pursuant to such rules and regulations. These consolidated interim financial
statements should be read in conjunction with the financial statements, notes
thereto and other information included in the Company's Registration Statement
on Form S-1 (No. 333-67065) filed with the SEC on November 10, 1998, as amended
(the "Registration Statement").
The accompanying consolidated interim financial statements reflect, in the
opinion of management, all adjustments necessary for a fair presentation, in all
material respects, of the financial position and results of operations for the
periods presented. The preparation of financial statements in accordance with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities, the
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. The results
of operations for the interim periods are not necessarily indicative of the
results for the entire year.
3. PRO FORMA INFORMATION:
The unaudited pro forma consolidated statements of operations for the three
and nine-month periods ended September 30, 1998 and 1999 include the effects of
the Spin-off, the sale of equity interests in The Charles Hotel Complex and
certain other adjustments as if all of the transactions had occurred on January
1, 1998. Such other adjustments principally include the elimination and addition
of certain management fee and other fee revenues related to Wyndham-owned
hotels, the management of which was transferred to Wyndham, Marriott or the
Company as a result of the Spin-off. The adjustments also include the
elimination of a $2,000 one-time charge for additional incentive lease expense
for 1999 resulting from the settlement of a dispute with Equity Inns, Inc.
resulting from the Merger, and the addition of minority interest to reflect
Wyndham's 55% non-controlling interest in IH LLC prior to the Spin-off. The
Company has elected to present comparative pro forma consolidated statements of
operations for the three and nine-month periods ended September 30, 1998 and
1999 due to the significance of the pro forma adjustments on the historical
operating results.
The pro forma information is based in part upon information contained in,
and should be read in conjunction with, the Company's Registration Statement. In
management's opinion, all material pro forma adjustments necessary to reflect
the effects of these transactions have been made. The pro forma information does
not include earnings on the Company's pro forma cash and cash equivalents or
certain one-time charges to income, and does not purport to present what the
actual results of operations of the Company would have been if the previously
mentioned transactions had occurred on such dates or to project what the results
of operations of the Company will be for any future period.
8
<PAGE> 10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
(UNAUDITED, DOLLARS IN THOUSANDS)
4. EARNINGS PER SHARE:
Prior to the Spin-off, the Company was not a separate legal entity.
Therefore, the accompanying consolidated financial statements of the Company
have been carved out of the financial statements of Old Interstate and Wyndham,
and principally include those assets, liabilities, revenues and expenses
directly attributable to the third-party hotel management and leasing businesses
conducted by the Company. The Company believes that the historical earnings per
share calculations required in accordance with Statement of Financial Accounting
Standard No. 128 are not meaningful for periods prior to the Spin-off and,
therefore, have not been provided. In addition, the Company does not believe
that a historical earnings per share calculation for the period between the date
of the Spin-off through September 30, 1999 is meaningful. Rather, historical
three-month period ended September 30, 1999 earnings per share and pro forma
earnings per share are a more meaningful measure of the Company's results of
operations for the periods presented.
The historical earnings per share for the three-month period ended
September 30, 1999 has been calculated by dividing net income by the weighted
average number of shares of common stock deemed to be outstanding. The pro forma
earnings per share for the three and nine-month periods ended September 30, 1998
and 1999 have been calculated by dividing pro forma net income by the pro forma
weighted average number of common shares deemed to be outstanding, which
includes certain restricted common shares that were issued in October 1999. Pro
forma net income reflects the transactions discussed in Note 1 and other
required adjustments discussed in Note 3 as if all of the transactions had
occurred on January 1, 1998.
5. INCOME TAXES:
Prior to the Spin-off, the entities that comprised the Company were
included in the consolidated federal income tax returns of Old Interstate or
Wyndham and all tax liabilities were paid by either Old Interstate or Wyndham.
The income tax provision presented in the consolidated financial statements
through the Spin-off date has been calculated as if the Company had prepared and
filed separate income tax returns for those periods. The income tax liability
for all current income taxes for purposes of these consolidated financial
statements through the Spin-off date have been settled with either Old
Interstate or Wyndham through owners' equity. Effective with the Spin-off, the
Company will file a separate tax return. Such return will include an allocation
of the operating results of IH LLC based on its 45% share of the taxable
operating results of IH LLC.
The effective tax rate used after the Spin-off is based on the Company's
expected effective tax rate for the period ended December 31, 1999, and varies
from the statutory tax rate as a result of the allocations of the taxable
operating results of IH LLC to minority interests, as discussed above.
6. SUPPLEMENTAL CASH FLOW INFORMATION:
In connection with the Merger, in the period from June 2, 1998 to September
30, 1998, the Company excluded from the consolidated statements of cash flows a
non-cash step-up in basis of $40,886 arising from the allocation of Merger
consideration, which includes an increase to management contract costs of
$48,586, a decrease in other assets related to hotel leases of $7,700 and a
deferred tax liability of $5,458.
In 1999, as a result of the Spin-off, the Company excluded from the
consolidated statements of cash flows non-cash equity transfers of $57,614 to
minority interests, representing the net book value of Wyndham's 55%
non-controlling ownership interest in IH LLC, a transfer of Wyndham's share of
the net deferred tax liability of $5,289, and the net book value of the common
stock distributed to the shareholders of the Company of $65,456. Prior to the
Spin-off, the Company excluded from the consolidated statements of cash flows
the contribution of Wyndham stock valued at $2,172 that was used to reduce
accrued liabilities recorded in connection with the Merger. In addition, as a
result of the sale of the equity interests in The Charles Hotel Complex, the
Company excluded from the consolidated statements of cash flows the receipt of a
$5,750 secured non-recourse promissory note, which were received as proceeds
from the sale, and the elimination of $2,409 of third-party minority interests
of Intercarp Limited Partnership.
9
<PAGE> 11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
(UNAUDITED, DOLLARS IN THOUSANDS)
7. SEGMENT INFORMATION:
The Company's reportable segments historically were: (i) operations of
luxury and upscale hotels, (ii) operations of mid-scale, upper economy and
budget hotels and (iii) The Charles Hotel (hotel ownership). The luxury and
upscale hotels segment derives revenues from management fees and other services
which directly relate to providing management services, including revenues from
insurance, purchasing and equipment leasing. The mid-scale, upper economy and
budget segment derives revenues from managing and leasing hotels and certain
specialized support services. The Charles Hotel segment consisted principally of
an equity investment in The Charles Hotel Complex, which was sold during the
second quarter.
The table below presents revenue and operating income information for each
reportable segment for the three and nine-month periods ended September 30, 1998
and 1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
-------------------
1998 1999
-------- --------
<S> <C> <C>
Revenues:
Luxury and Upscale Hotels................................... $ 13,993 $ 9,519
Mid-Scale, Upper Economy and Budget Hotels.................. 54,977 56,042
-------- --------
Consolidated totals......................................... $ 68,970 $ 65,561
======== ========
Operating income (loss):
Luxury and Upscale Hotels................................... 4,272 (207)
Mid-Scale, Upper Economy and Budget Hotels.................. (132) (2,282)
-------- --------
Consolidated totals......................................... $ 4,140 $ (2,489)
======== ========
</TABLE>
<TABLE>
<CAPTION>
PERIOD FROM
------------------------------------ NINE MONTHS ENDED
JANUARY 1, 1998 JUNE 2, 1998 SEPTEMBER 30,
TO TO -------------------
JUNE 1, 1998 SEPTEMBER 30, 1998 1998 1999
--------------- ------------------ -------- --------
<S> <C> <C> <C> <C>
Revenues:
Luxury and Upscale Hotels................. $ 26,010 $19,251 $ 45,261 $ 31,137
Mid-Scale, Upper Economy and Budget
Hotels.................................. 80,753 73,556 154,309 152,109
-------- ------- -------- --------
Consolidated totals....................... $106,763 $92,807 $199,570 $183,246
======== ======= ======== ========
Operating income (loss):
Luxury and Upscale Hotels................. 11,887 6,823 18,710 557
Mid-Scale, Upper Economy and Budget
Hotels*................................. 1,278 328 1,606 (8,323)
-------- ------- -------- --------
Consolidated totals....................... $ 13,165 $ 7,151 $ 20,316 $ (7,766)
======== ======= ======== ========
</TABLE>
- - ---------------
* The 1999 amount includes a $2,000 one-time charge in the first quarter of 1999
for additional incentive rent resulting from the settlement of a dispute with
Equity Inns, Inc. resulting from the Merger.
10
<PAGE> 12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
(UNAUDITED, DOLLARS IN THOUSANDS)
7. SEGMENT INFORMATION--CONTINUED
Depreciation and amortization included in segment operating income for the
three and nine-month periods ended September 30, 1998 and 1999 were as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
------------------
1998 1999
------- -------
<S> <C> <C>
Luxury and Upscale Hotels................................... $3,355 $3,343
Mid-Scale, Upper Economy and Budget Hotels.................. 1,213 1,277
------ ------
Consolidated totals......................................... $4,568 $4,620
====== ======
</TABLE>
<TABLE>
<CAPTION>
PERIOD FROM
------------------------------------ NINE MONTHS ENDED
JANUARY 1, 1998 JUNE 2, 1998 SEPTEMBER 30,
TO TO ------------------
JUNE 1, 1998 SEPTEMBER 30, 1998 1998 1999
--------------- ------------------ ------- --------
<S> <C> <C> <C> <C>
Luxury and Upscale Hotels.................... $ 776 $4,450 $5,226 $10,844
Mid-Scale, Upper Economy and Budget Hotels... 1,376 1,673 3,049 3,868
------ ------ ------ -------
Consolidated totals.......................... $2,152 $6,123 $8,275 $14,712
====== ====== ====== =======
</TABLE>
The net book value of intangible and other assets by segment as of December
31, 1998 and September 30, 1999 were as follows:
<TABLE>
<CAPTION>
DECEMBER 31, 1998 SEPTEMBER 30, 1999
----------------- ------------------
<S> <C> <C>
Luxury and Upscale Hotels................................. $ 55,487 $45,472
Mid-Scale, Upper Economy and Budget Hotels................ 45,034 41,406
-------- -------
Consolidated totals....................................... $100,521 $86,878
======== =======
</TABLE>
The following table reconciles the Company's measure of segment profit to
consolidated net income for the three and nine-month periods ended September 30,
1998 and 1999.
<TABLE>
<CAPTION>
THREE MONTHS ENDED
SEPTEMBER 30,
------------------
1998 1999
------ -------
<S> <C> <C>
Total after-tax operating income (loss)..................... $2,483 $(1,494)
Unallocated amounts, net of tax:
Interest, net............................................. 168 310
Other, net................................................ 248 --
Minority interest......................................... (32) 619
------ -------
Consolidated net income (loss).............................. $2,867 $ (565)
====== =======
</TABLE>
<TABLE>
<CAPTION>
PERIOD FROM
------------------------------------ NINE MONTHS ENDED
JANUARY 1, 1998 JUNE 2, 1998 SEPTEMBER 30,
TO TO -----------------
JUNE 1, 1998 SEPTEMBER 30, 1998 1998 1999
--------------- ------------------ ------- -------
<S> <C> <C> <C> <C>
Total after-tax operating income (loss)...... $7,899 $4,291 $12,190 $(4,659)
Unallocated amounts, net of tax:
Interest, net.............................. 122 189 311 403
Other, net................................. 284 309 593 412
Minority interest.......................... (14) (36) (50) 1,216
------ ------ ------- -------
Consolidated net income (loss)............... $8,291 $4,753 $13,044 $(2,628)
====== ====== ======= =======
</TABLE>
11
<PAGE> 13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--CONTINUED
(UNAUDITED, DOLLARS IN THOUSANDS)
8. SUBSEQUENT EVENT:
In November 1999, the Company acquired one hotel with 156 rooms for a total
acquisition cost, including closing costs, of approximately $12,700. This
acquisition was accounted for using the purchase method of accounting. The
operating results of this hotel have not been included in the pro forma
financial results of the Company.
12
<PAGE> 14
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
PRO FORMA THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO PRO FORMA
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1999
Pro forma total revenues decreased by $1.5 million, or 2.1%, from $66.3
million in the three months ended September 30, 1998 (the "1998 Three Months")
to $64.8 million in the three months ended September 30, 1999 (the "1999 Three
Months") and by $9.3 million, or 4.9%, from $187.6 million in the nine months
ended September 30, 1998 (the "1998 Nine Months") to $178.3 million in the nine
months ended September 30, 1999 (the "1999 Nine Months"). A portion of this
decrease related to lodging revenues, which consist of rooms, food and beverage
and other departmental revenues from the leased hotels. Pro forma lodging
revenues increased by $0.9 million, or 1.7%, from $54.0 million in the 1998
Three Months to $54.9 million in the 1999 Three Months and decreased by $1.8
million, or 1.2%, from $150.9 million in the 1998 Nine Months to $149.1 million
in the 1999 Nine Months. This decrease was due to the net loss of four hotel
operating leases since January 1, 1998 due primarily to the divestiture of these
hotels by Equity Inns, Inc., increased competition and the general negative
trends in the limited-service hotel sector. In addition, some of the Company's
leased hotels have been undergoing renovations, which reduced rooms available
and impacted operating results negatively.
The average daily room rate for the leased hotels increased by 6.0%, from
$74.66 during the 1998 Three Months to $79.17 during the 1999 Three Months, and
the average occupancy rate decreased to 70.0% during the 1999 Three Months from
73.9% during the 1998 Three Months. This resulted in a slight increase in room
revenue per available room of 0.4% to $55.40 during the 1999 Three Months.
During the nine-month periods, the average daily room rate for the leased hotels
increased by 6.0%, from $72.40 during the 1998 Nine Months to $76.73 during the
1999 Nine Months, and the average occupancy rate decreased to 67.2% during the
1999 Nine Months from 70.4% during the 1998 Nine Months. This resulted in an
increase in room revenue per available room of 1.1% to $51.56 during the 1999
Nine Months. The statistical results of our leased hotels reflect the current
trends within the lodging industry. As such, the increase in the average daily
room rate resulted from inflationary rate increases and improvement resulting
from our management expertise. The decrease in the average occupancy rate
resulted from both an increase of new supply within the lodging industry and the
renovations noted above.
Pro forma net management fees decreased by $1.1 million, or 13.2%, from
$7.9 million in the 1998 Three Months to $6.8 million in the 1999 Three Months
and by $2.5 million, or 10.9%, from $23.0 million in the 1998 Nine Months to
$20.5 million in the 1999 Nine Months. This decrease was due to the net loss of
25 management contracts since January 1, 1998, primarily due to the divestiture
of hotels by third-party owners. Contributing to the net loss of management
contracts was the uncertainty surrounding the timing and completion of the
Merger and subsequent Spin-off, which impaired the Company from adding new
management contracts. Pro forma other fees decreased by $1.3 million, or 29.7%,
from $4.4 million in the 1998 Three Months to $3.1 million in the 1999 Three
Months and by $5.0 million, or 36.6%, from $13.6 million in the 1998 Nine Months
to $8.6 million in the 1999 Nine Months. This decrease was due to a decrease in
the total number of hotels operated in the 1999 periods as compared to the 1998
periods. A significant portion of this decrease resulted from a decrease in pro
forma insurance revenues, which decreased by $0.9 million from the 1998 Three
Months to the 1999 Three Months and by $2.7 million from the 1998 Nine Months to
the 1999 Nine Months. This decrease is primarily due to the decrease in the
total number of hotels operated in 1999 compared to 1998 and a reduction in the
amount of financial indemnity for the Company's self-insured health and welfare
plan.
Lodging expenses consist of rooms, food and beverage, property costs and
other departmental expenses from the leased hotels. Pro forma lodging expenses
increased by $1.8 million, or 6.7%, from $27.3 million in the 1998 Three Months
to $29.1 million in the 1999 Three Months and by $4.2 million, or 5.5%, from
$75.8 million in the 1998 Nine Months to $80.0 million in the 1999 Nine Months.
This increase was partially due to increased costs associated with the
third-party reservation system for many of the leased hotels. The operating
margin of the leased hotels decreased from 49.4% during the 1998 Three Months to
46.9% during the 1999 Three Months and from 49.8% during the 1998 Nine Months to
46.4% during the 1999 Nine Months.
General and administrative expenses are associated with the management of
hotels and consist primarily of centralized management expenses such as
operations management, sales and marketing, finance and other hotel support
services, as well as general corporate expenses. Pro forma general and
administrative expenses increased
13
<PAGE> 15
by $0.9 million, or 29.2%, from $2.9 million in the 1998 Three Months to $3.8
million in the 1999 Three Months and by $2.0 million, or 20.7%, from $9.8
million in the 1998 Nine Months to $11.8 million in the 1999 Nine Months. This
increase resulted from increased costs of $2.0 million during the 1999 Nine
Months associated with a deficiency between the amount of premiums received as
compared to actual and estimated claims incurred under the Company's
self-insured health and welfare plan. Pro forma general and administrative
expenses as a percentage of pro forma revenues increased to 5.8% during the 1999
Three Months compared to 4.4% during the 1998 Three Months and to 6.6% during
the 1999 Nine Months compared to 5.2% during the 1998 Nine Months. This increase
was primarily due to the decrease in total revenues and the increase in general
and administrative expenses.
Pro forma operating income decreased by $5.0 million from $1.6 million in
the 1998 Three Months to a pro forma operating loss of $3.4 million in the 1999
Three Months. For the nine-month periods, pro forma operating income decreased
by $16.8 million from $5.2 million in 1998 to a pro forma operating loss of
$11.6 million in 1999. This decrease is primarily due to the decrease in total
revenues and constant or increased operating expenses from 1998 to 1999.
Pro forma income tax expense (benefit) for both 1998 and 1999 was computed
based on an effective tax rate of 40% after reduction of minority interest.
Pro forma minority interest reflects Wyndham's 55% non-controlling interest
in IH LLC, the successor to the third-party hotel management and leasing
businesses previously conducted by Old Interstate prior to the Merger.
As a result of the changes noted above, a pro forma net loss of $0.8
million was incurred in the 1999 Three Months as compared to pro forma net
income of $0.6 million in the 1998 Three Months. For the nine-month periods, a
pro forma net loss of $2.8 million was incurred in 1999 as compared to pro forma
net income of $1.8 million in 1998.
HISTORICAL THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO HISTORICAL
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1999
Total revenues decreased by $3.4 million, or 4.9%, from $69.0 million in
the 1998 Three Months to $65.6 million in the 1999 Three Months and by $16.4
million, or 8.2%, from $199.6 million in the 1998 Nine Months to $183.2 million
in the 1999 Nine Months. A portion of this decrease related to lodging revenues.
Lodging revenues increased by $0.9 million, or 1.7%, from $54.0 million in the
1998 Three Months to $54.9 million in the 1999 Three Months and decreased by
$1.8 million, or 1.2%, from $150.9 million in the 1998 Nine Months to $149.1
million in the 1999 Nine Months. This decrease was due to the net loss of four
hotel operating leases since January 1, 1998 due primarily to the divestiture of
these hotels by Equity Inns, Inc., increased competition and the general
negative trends in the limited-service hotel sector. In addition, some of the
Company's leased hotels have been undergoing renovations, which reduced rooms
available and impacted operating results negatively.
Net management fees decreased by $2.0 million, or 20.7%, from $9.5 million
in the 1998 Three Months to $7.5 million in the 1999 Three Months and by $6.5
million, or 20.9%, from $31.4 million in the 1998 Nine Months to $24.9 million
in the 1999 Nine Months. This decrease was due to the net loss of 54 management
contracts since January 1, 1998, which includes 29 hotels whose management was
transferred to either Wyndham or Marriott resulting from to the Merger and
Spin-off. Contributing to the net loss of management contracts was the
uncertainty surrounding the timing and completion of the Merger and subsequent
Spin-off, which impaired the Company from adding new management contracts. Other
fees decreased by $2.4 million, or 43.2%, from $5.5 million in the 1998 Three
Months to $3.1 million in the 1999 Three Months and by $8.0 million, or 46.2%,
from $17.3 million in the 1998 Nine Months to $9.3 million in the 1999 Nine
Months. This decrease was due to a decrease in the total number of hotels
operated in the 1999 periods as compared to the 1998 periods. A significant
portion of this decrease resulted from a decrease in insurance revenues, which
decreased by $1.6 million from the 1998 Three Months to the 1999 Three Months
and by $4.5 million from the 1998 Nine Months to the 1999 Nine Months. This
decrease is primarily due to the decrease in the total number of hotels operated
in 1999 compared to
14
<PAGE> 16
1998 and a reduction in the amount of financial indemnity for the Company's
self-insured health and welfare plan.
Lodging expenses increased by $1.8 million, or 6.7%, from $27.3 million in
the 1998 Three Months to $29.1 million in the 1999 Three Months and by $4.2
million, or 5.5%, from $75.8 million in the 1998 Nine Months to $80.0 million in
the 1999 Nine Months. This increase was partially due to increased costs
associated with the third-party reservation system for many of the leased
hotels. The operating margin of the leased hotels decreased from 49.4% during
the 1998 Three Months to 46.9% during the 1999 Three Months and from 49.8%
during the 1998 Nine Months to 46.4% during the 1999 Nine Months.
General and administrative expenses increased by $1.1 million, or 41.3%,
from $2.7 million in the 1998 Three Months to $3.8 million in the 1999 Three
Months and by $1.8 million, or 18.9%, from $9.6 million in the 1998 Nine Months
to $11.4 million in the 1999 Nine Months. This increase resulted from increased
costs of $2.0 million during the 1999 Nine Months associated with a deficiency
between the amount of premiums received as compared to actual and estimated
claims incurred under the Company's self-insured health and welfare plan.
General and administrative expenses as a percentage of revenues increased to
5.7% during the 1999 Three Months compared to 3.9% during the 1998 Three Months
and to 6.2% during the 1999 Nine Months compared to 4.8% during the 1998 Nine
Months. This increase was primarily due to the decrease in total revenues and
the increase in general and administrative expenses.
Payroll and related benefits decreased by $0.6 million, or 10.7%, from $5.5
million in the 1998 Three Months to $4.9 million in the 1999 Three Months and by
$3.0 million, or 16.9%, from $17.9 million in the 1998 Nine Months to $14.9
million in the 1999 Nine Months. This decrease was due to elimination of
salaries and related benefits of employees who were terminated subsequent to the
Merger and whose positions have been eliminated. Payroll and related benefits as
a percentage of revenues decreased to 7.5% during the 1999 Three Months compared
to 8.0% during the 1998 Three Months and decreased to 8.1% during the 1999 Nine
Months compared to 9.0% during the 1998 Nine Months.
Lease expense represents base rent and participating rent that is based on
a percentage of rooms and food and beverage revenues from the leased hotels.
Lease expense increased by $0.8 million, or 3.3%, from $24.8 million in the 1998
Three Months to $25.6 million in the 1999 Three Months due to a slight increase
in lodging revenues from 1998 to 1999. Lease expense increased by $2.4 million,
or 3.5%, from $67.7 million in the 1998 Nine Months to $70.1 million in the 1999
Nine Months. This increase resulted from a $2.0 million one-time charge in the
first quarter for additional incentive rent for 1999 resulting from the
settlement of a dispute with Equity Inns, Inc. resulting from the Merger.
Depreciation and amortization increased by $6.4 million from $8.3 million
in the 1998 Nine Months to $14.7 million in the 1999 Nine Months. This increase
was due to incremental amortization of management contract costs associated with
the step-up in basis arising from the allocation of Merger consideration. The
management contract costs have been stated at their estimated fair market values
and are being amortized using the straight-line method over five years.
Operating income decreased by $6.6 million from $4.1 million in the 1998
Three Months to an operating loss of $2.5 million in the 1999 Three Months. For
the nine-month periods, operating income decreased by $28.1 million from $20.3
million in 1998 to an operating loss of $7.8 million in 1999. This decrease is
primarily due to the decrease in total revenues and the increase in depreciation
and amortization from 1998 to 1999.
Other income in the nine-month periods increased from 1998 to 1999
primarily due to an increase in equity in earnings from The Charles Hotel
Complex, which resulted from the Company's acquisition of additional equity
interests in The Charles Hotel Complex during the latter half of 1998.
Loss on sale of investment in hotel real estate resulted from the sale of
the Company's equity interests in The Charles Hotel Complex on June 18, 1999.
Income tax expense (benefit) for both 1998 and 1999 was computed based on
an effective tax rate of 40% after reduction of minority interest, except for
the $0.9 million loss on the sale of equity interests in The Charles Hotel
Complex in 1999, which was allocated 100% to Wyndham.
15
<PAGE> 17
Minority interest in 1999 primarily reflects Wyndham's 55% non-controlling
interest in IH LLC retained in the Spin-off. In addition, the $0.9 million loss
on the sale of equity interests in The Charles Hotel Complex was allocated 100%
to Wyndham.
As a result of the changes noted above, a net loss of $0.6 million was
incurred in the 1999 Three Months as compared to net income of $2.9 million in
the 1998 Three Months. For the nine-month periods, a net loss of $2.6 million
was incurred in 1999 as compared to net income of $13.0 million in 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash and cash equivalent assets were $37.0 million at
September 30, 1999 compared to $1.7 million at December 31, 1998, and current
assets exceeded current liabilities by $19.9 million at September 30, 1999. In
connection with the Spin-off, Wyndham provided working capital to the Company in
the amount of $16.3 million, less positive working capital, of IH LLC. In
addition, Wyndham agreed to reimburse the Company for potential expenditures
relating to such things as year 2000 compliance, loan forgiveness and pending
litigation, which are expected to approximate $5.7 million.
The Company's principal source of liquidity during the 1999 Nine Months was
cash from operations. Net cash provided by operating activities was $23.0
million during the 1999 Nine Months compared to $31.4 million during the 1998
Nine Months. The increase primarily resulted from higher earnings and lower
amortization in the 1998 Nine Months compared to lower earnings with higher
amortization in the 1999 Nine Months. Net cash of $5.2 million was provided from
investing activities during the 1999 Nine Months compared to net cash of $22.0
million used in investing activities during the 1998 Nine Months. The increase
was primarily related to the receipt of $13.5 million of proceeds from the sale
of equity interests in The Charles Hotel Complex during the 1999 Nine Months and
a decrease of $12.6 million in amounts paid in connection with the Merger during
the 1999 Nine Months compared to the 1998 Nine Months. The Company's capital
expenditure budget through December 31, 1999 relating to current operations is
approximately $2.7 million, consisting primarily of expenditures for computer
and related equipment. The Company intends to fund these expenditures from its
cash and cash equivalents and from payments from Wyndham, as discussed above.
Net cash of $7.1 million was provided by financing activities during the 1999
Nine Months compared to net cash of $8.7 million used in financing activities
during the 1998 Nine Months. During the 1999 Nine Months, $32.0 million was
received from Wyndham in connection with the Spin-off and $2.1 million was
received from Marriott in exchange for a 4% ownership interest in the Company.
These amounts were offset by the use of $11.9 million for net distributions to
Wyndham and the repayment of $11.6 million that was borrowed from related
entities to meet short-term cash requirements.
In accordance with IH LLC's limited liability company agreement, the
Company is required to distribute 55% of IH LLC's cash flows from operations to
Wyndham and allocate between IH LLC and the Company the costs and expenses
relating to services provided by one party for the benefit of the other in
accordance with generally accepted accounting principles, on the basis of which
party benefited from the expenditure. To the extent that the allocation of any
such costs and expenses, including general and administrative expenses, cannot
be fairly apportioned, IH LLC and the Company will allocate such costs and
expenses based upon their respective gross revenues, so that each party's profit
margins are substantially the same for similar services.
The Company intends to pursue future opportunities to manage or lease
hotels on behalf of third-party owners, as well as pursue other business
opportunities, such as selective hotel investments and the formation of
strategic alliances. The Company believes that the cash that was provided by
Wyndham at the time of the Spin-off and future cash flow provided by operations
may be insufficient to fully fund the execution of its business and growth
strategy. As a result, the Company will be required to obtain debt or equity
financing or modify its business plan. While the Company presently intends to
seek to obtain additional debt or equity financing, there can be no assurance
that any such financing will be available to the Company on acceptable terms, or
at all. If the Company does not obtain additional financing, its pursuit of its
business strategy and growth may be impaired.
In November 1999, the Company acquired one hotel with 156 rooms for a total
acquisition cost, including closing costs, of approximately $12.7 million. This
acquisition was funded with cash received from Wyndham in connection with the
Spin-off. The Company is currently seeking financing for this property.
16
<PAGE> 18
YEAR 2000 COMPLIANCE
The year 2000 issue relates to computer programs written using two digits
rather than four to define the applicable year. Computer programs written this
way may recognize a date using "00" as the year 1900 rather than the year 2000.
This could result in systems failures or miscalculations causing disruptions of
hotel operations or a temporary inability to process transactions, prepare
financial statements or engage in similar normal business activities.
Management developed and implemented a comprehensive plan (i) to address
potential year 2000 problems both at the Company's corporate offices and at the
hotels managed and leased by the Company, and (ii) to minimize the impact on
operations to the extent possible. Management's plan, which is designed to
identify and address potential problems in the most critical operational systems
first in order to minimize any disruption in service to hotel guests, consists
of the following four steps:
<TABLE>
<S> <C>
Step 1 - Inventory: Conduct an inventory to identify (a) all computer
hardware and software systems and building systems in
use and (b) any potential year 2000 problems that may
exist in such systems
Step 2 - Vendor Survey: Identify and contact third-party vendors to determine
whether their systems or services are or will be made
year 2000 compliant
Step 3 - Planning and Cost Estimation: Prepare a prioritized year 2000 compliance plan for
remediation or replacement of non-compliance systems
Step 4 - Implementation and Testing: Implement the year 2000 compliance plan prepared in
Step 3 and test all systems to ensure maximum possible
compliance and develop contingency plans for
continuing operations in the event problems arise
</TABLE>
The Company engaged a consultant to complete Steps 1 and 2, at an estimated
cost of $13,500 per hotel for upscale hotels and $7,500 per hotel for midscale
and economy hotels. Management instructed the hotels operated by the Company to
increase their capital budgets for 1999 to accommodate this cost. The
inventories at the hotels and the corporate offices have been completed. In
addition, management has catalogued the responses to the year 2000 readiness
questionnaires that were sent out to the Company's and the hotels' third-party
vendors, and distributed those responses to each of the hotels.
Step 3 was performed through a joint effort between management and hotel
owner representatives and a year 2000 consultant. The Company's management and
information systems department completed the written assessments, which
prioritized the corporate and hotel year 2000 compliance plans for remediation
and estimated the costs of such remediation. Once each written assessment was
finalized, management furnished the assessment to each hotel for review and
implementation by hotel personnel. On the corporate level, the implementation
process described in Step 4 above is nearly complete and management is
developing a contingency plan in the event unforeseen problems arise. In
addition, the hotels are also in the process of implementing their remediation
and testing plans, as well as developing their individual contingency plans
based on the guidelines provided to them. Because Step 3 was performed primarily
utilizing internal resources, the costs incurred were minimal. The costs
incurred or to be incurred in implementing Step 4 vary from hotel to hotel,
depending upon the extent of remediation necessary. At this time, the Company
cannot identify the total costs that will be incurred to complete Step 4.
Management believes that the expenses incurred to complete the year 2000
compliance program at each managed hotel are the responsibility of the hotel
owner, and management believes that the terms of the management contracts
provide adequate basis for this position. Nonetheless, it is possible that some
third-party hotel owners may challenge this position. With respect to the hotels
leased by the Company, management also believes that the expenses associated
with year 2000 compliance with respect to the leased hotels are the
responsibility of the hotel owner. To the extent that such expense is not
considered a capital expenditure, however, it may be deemed to be the Company's
responsibility. To date, the Company has incurred and expensed approximately
$0.6 million in such costs. Further, the Company will be responsible for funding
the year 2000
17
<PAGE> 19
compliance expenses for corporate operations. Management has provided for
approximately $2.7 million in capital expenditures in the Company's 1999
management and information systems capital budget, approximately $2.4 million of
which is expected to be spent addressing year 2000 issues. To date, the Company
has incurred approximately $1.1 million in such costs.
In connection with the Spin-off, Wyndham agreed to pay up to $929,000 of
the corporate level year 2000 compliance related expenses, and this amount was
funded into an escrow account at the time of the Spin-off. In addition, to the
extent that the Company is responsible for any year 2000 compliance related
expenses with respect to the leased hotels, Wyndham is obligated to indemnify
the Company for up to $1.2 million of such expenses. Any remaining expenses not
funded by Wyndham will be funded by the Company through operating cash flow.
Management's time and cost estimates for year 2000 compliance are based on
currently available information. These estimates could be affected by unforeseen
developments including the availability and cost of trained personnel, the
ability to locate and correct problems in all relevant systems, and the year
2000 compliance efforts of the Company's and the hotels' third-party vendors.
Management believes the most likely "worst-case" scenario is that the Company's
and the hotels' third-party vendors may not be year 2000 compliant, which could
potentially cause disruptions in operations at hotels which use the services of
such third-party vendors. In addition, operations at the Company's hotels
outside the United States may be adversely affected by failures of businesses in
those countries to take adequate steps to address the year 2000 problem. Based
on the information management has received from third-party vendors in those
countries, management does not currently anticipate any material disruptions to
the life safety systems (i.e. electrical power, water, fire safety, etc.) at
those hotels. Nonetheless, such failures of the third-party vendors, both within
and outside the United States, to be year 2000 compliant could affect critical
operations at the hotels in a significant manner, and management cannot at
present estimate either the likelihood or the potential cost of such failures.
The contingency plans for continuing operations referenced in Step 4 described
above are being finalized to address these failures, using existing disaster
contingency plans in place at the hotels. In addition, while management believes
the indemnification provisions in the Company's management contracts and leases
provide adequate protection from liability that may arise from a failure to be
year 2000 compliant, such failure could result in lower hotel revenues (and, as
a result, lower management fee revenues) because of general adverse economic
conditions and lower profits caused by expenses incurred with contingency plans.
FORWARD-LOOKING STATEMENTS
This Report contains forward-looking statements within the meaning of the
Private Securities Litigation Reform Act of 1995 and information based on the
beliefs of the Company's management, as well as assumptions made by and
information currently available to the Company's management. When used herein,
words such as "anticipate," "believe," "estimate," "expect," "intend" and
similar expressions, as they relate to the Company or the Company's management,
are intended to identify these forward-looking statements. Such statements are
subject to certain risks and uncertainties that could cause the Company's
business and results of operations to differ materially from those reflected in
the Company's forward-looking statements.
Forward-looking statements are not guarantees of future performance. The
Company's forward-looking statements are based on trends that the Company's
management anticipates in the lodging industry and the effect on those trends of
such factors as industry capacity, the seasonal nature of the lodging industry
and product demand and pricing. In addition, such forward-looking statements are
subject to the Company's reversing the current negative trend in its business
and financial results.
18
<PAGE> 20
PART II--OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits.
<TABLE>
<S> <C>
10.1 Employment Agreement, dated June 18, 1999, between the
Company and Kevin P. Kilkeary
27.1 Financial Data Schedule
</TABLE>
(b) Reports on Form 8-K.
During the three months ended September 30, 1999, the Company filed the
following:
1. Current Report on Form 8-K, dated June 18, 1999, under Item 2, which
reported the sale by the Company of substantially all of its equity
interests in The Charles Hotel Complex for $19.25 million.
2. Current Report on Form 8-K, dated July 8, 1999, under Item 5, which
reported the Company's adoption of a Shareholder Rights Agreement.
19
<PAGE> 21
SIGNATURES
Pursuant to the requirements of Section 13 of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
INTERSTATE HOTELS CORPORATION
Date: November 15, 1999 By: /s/ J. WILLIAM RICHARDSON
------------------------------------
J. William Richardson
Vice Chairman and Chief Financial
Officer
(Principal Financial Officer)
20
<PAGE> 1
Exhibit 10.1
EMPLOYMENT AGREEMENT
THIS EMPLOYMENT AGREEMENT ("Agreement"), dated as of June 18, 1999, is
made and entered into by and between Interstate Hotels Corporation, a Maryland
corporation (the "Company"), and Kevin P. Kilkeary (the "Executive").
RECITALS
A. The Company desires to obtain the services of the Executive as a
senior executive of the Company;
B. The Executive desires to provide his services to the Company on the
terms and conditions herein provided.
NOW, THEREFORE, the parties agree as follows:
1. DEFINITIONS. In addition to terms defined elsewhere herein, the
following terms have the following meanings when used in this Agreement with
initial capital letters:
(a) "BASE PAY" means the salary provided for in Section 4(a),
as such amount may be adjusted hereunder.
(b) "BOARD" means the Board of Directors of the Company or an
authorized committee thereof.
(c) "CAUSE" means that the Executive shall have committed:
(i) an intentional act of fraud, embezzlement or
theft in connection with his duties or in the course of his
employment with the Company or any Subsidiary;
(ii) intentional wrongful damage to property of the
Company or any Subsidiary;
(iii) intentional Unauthorized Disclosure, Use or
Solicitation; or
(iv) intentional wrongful engagement in any
Competitive Activity; and any such act shall have been
materially harmful to the Company. For purposes of this
Agreement, no act or failure to act on the part of the
Executive will be deemed "intentional" if it was due primarily
to an error in judgment or negligence, but will be deemed
"intentional" only if done or omitted to be done by the
Executive not in good faith and without reasonable belief that
his action or omission was in the best interest of the
Company. Notwithstanding the foregoing,
<PAGE> 2
the Executive will not be deemed to have been terminated for
"Cause" hereunder unless and until there shall have been
delivered to the Executive a copy of a resolution duly adopted
by the affirmative vote of not less than three quarters of the
full Board of Directors then in office at a meeting of the
Board of Directors called and held for such purpose, after
reasonable notice to the Executive and an opportunity for the
Executive, together with his counsel (if the Executive chooses
to have counsel present at such meeting), to be heard before
the Board, finding that, in the good faith opinion of the
Board, the Executive had committed an act constituting "Cause"
as herein defined and specifying the particulars thereof in
detail, provided, however, that nothing herein will limit the
right of the Executive or his beneficiaries to contest the
validity or propriety of any such determination and such
determination, albeit a condition to any termination for
"Cause" as aforesaid, will not create any presumption that
"Cause" in fact exists.
(d) "CHANGE IN CONTROL" means an event which shall be deemed
to have occurred if (i) any "person" or "group" (as such terms are used in
Sections 13(d) and 14(d) of the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), other than a trustee or other fiduciary holding securities
under an employee benefit plan of the Company, is or becomes the "beneficial
owner" (as defined in Rule 13d-3 promulgated under the Exchange Act), directly
or indirectly, of securities of the Company representing 40% or more of the
combined voting power of the Company's then outstanding securities; or (ii)
individuals who at the Commencement Date constitute the Board of the Company and
any new director (other than a director designated by a person who has entered
into an agreement with the Company to effect a transaction described in clauses
(i) or (iii) of this paragraph) whose election by the Board of the Company or
nomination for election by the Company's stockholders was approved by a vote of
at least 80% of the directors then still in office who either were directors at
the Commencement Date or whose election or nomination for election was
previously so approved, cease for any reason to constitute a majority of the
Board of the Company; or (iii) the stockholders of the Company approve a merger
or consolidation of the Company with or into any other corporation, other than a
merger or consolidation which would result in the voting securities of the
Company outstanding immediately prior thereto continuing to represent (either by
remaining outstanding or by being converted into voting securities of the
surviving entity) at least 60% of the combined voting power of the voting
securities of the Company or such surviving entity outstanding immediately after
such merger or consolidation, or the stockholders of the Company approve a plan
of complete liquidation of the Company or an agreement for the sale or
disposition by the Company of all or substantially all the Company's assets.
(e) "COMPETITIVE ACTIVITY" means any act by the Executive that
is prohibited under Section 6.
(f) "DISABILITY" means the Executive's inability, as a result
of mental or physical illness, injury or disease, substantially to perform his
material duties and responsibilities under this Agreement for a period of 180
consecutive calendar days within any 12-month period.
2
<PAGE> 3
(g) "EMPLOYEE BENEFITS" means the perquisites, benefits and
service credit for benefits as provided under any and all employee welfare
benefit policies, plans, programs or arrangements in which Executive is entitled
to participate, including without limitation any group or other life, health,
medical/hospital or other insurance (whether funded by actual insurance or
self-insured by the Company), disability, salary continuation, expense
reimbursement and other employee benefit policies, plans, programs or
arrangements that may now exist or any equivalent successor policies, plans,
programs or arrangements that may be adopted hereafter by the Company.
(h) "SUBSIDIARY" means an entity in which the Company directly
or indirectly beneficially owns 50% or more of the outstanding Voting Stock or,
if a partnership, limited liability company or similar entity, at least 50% of
the equity capital interests thereof.
(i) "TERM OF EMPLOYMENT" means the period specified in
Section 2.
(j) "UNAUTHORIZED DISCLOSURE, USE OR SOLICITATION" means any
violation or breach by the Executive of any provision of Section 7.
2. TERM OF EMPLOYMENT. The Company hereby employs the Executive and the
Executive hereby accepts such employment, effective as of June 18, 1999 (the
"Commencement Date") and ending at the close of business on June 17, 2002;
provided, however, that commencing June 17, 2001 and each June 17th thereafter
the Term of Employment will automatically be extended for successive one-year
periods unless either party gives written notice to the other, not less than 90
calendar days prior to the otherwise scheduled expiration of the Term of
Employment, that it or he does not want the Term of Employment so to extend. The
Executive will devote substantially all of his business time to the business and
affairs of the Company and its Subsidiaries (excluding reasonable amounts of
time devoted to charitable purposes, passive investments and directorships and
periods in which he is physically or mentally ill, injured or otherwise
disabled).
3. DUTIES, RESPONSIBILITIES AND OFFICE LOCATION. During the Term of
Employment, the Executive will have and perform the duties and responsibilities
set forth in Exhibit A, provided, however, that the Board may from time to time
change those duties and responsibilities (in which event the parties may, but
will not be required to, substitute a new Exhibit A) and no such change will
give rise to any liability on the part of the Company so long as such change
does not result in a change in the primary reporting relationship set forth on
Exhibit A.
4 COMPENSATION AND BENEFITS. (a) BASE PAY. During the Term of
Employment, the Executive will receive Base Pay of $300,000 per year subject to
review by the Board for increase (but not decrease) at the end of each fiscal
year during the Term of Employment. Such Base Pay will be payable by the Company
in accordance with its regular compensation practices and policies applicable to
senior executives of the Company.
3
<PAGE> 4
(b) ANNUAL PERFORMANCE BONUS. For each fiscal year of the
Company during the Term of Employment, the Executive will be eligible for an
annual performance bonus under the Company's Management Bonus Plan ("Bonus
Plan"), that can vary from a minimum of 0% to a maximum of 175% of the
Executive's base salary. The Bonus will be subject to the rules issued each year
by the Board. During 1999 the Bonus will be based on Hotel Profits and Corporate
Profits and shall be calculated and paid consistent with other Executives of the
Company. In future years these categories may be revised or deleted and new
categories could be added. The Executive must be employed by the Company at the
time the Bonus is scheduled to be paid to be eligible to receive the Bonus.
(c) EMPLOYEE BENEFITS. During the Term of Employment, the
Executive will be entitled to (i) participate in all employee benefit plans,
programs, policies and arrangements sponsored, maintained or contributed to by
the Company, subject to and in accordance with the terms and conditions of such
plans, programs, policies and arrangements as they relate to similarly situated
senior executives of the Company, (ii) participate in all equity and long-term
incentive plans sponsored or maintained by the Company at a level commensurate
with his position, subject to and in accordance with the terms and conditions of
such plans as they relate to senior executives of the Company, and (iii) receive
all other benefits and perquisites provided or made available by the Company to
its senior executives, subject to and in accordance with the terms and
conditions of such benefits and perquisites as they relate to senior executives
of the Company.
(d) EXPENSES. During the Term of Employment, the Executive
will be entitled to reimbursement of all documented reasonable travel and
entertainment expenses incurred by him on behalf of the Company in the course of
the performance of his duties hereunder, subject to and in accordance with the
terms and conditions of the Company's expense reimbursement policies as they
relate to senior executives of the Company.
(e) VACATION. During the Term of Employment, the Executive
will be entitled to not less than four weeks of vacation, in addition to paid
public holidays as observed by the Company from year to year, subject to and in
accordance with the terms and conditions of the Company's regular compensation
practices and policies as they relate to senior executives of the Company
(f) LOANS. The Company has loaned the Executive $300,000 (the
"Executive Loan"), the repayment of 50% of which shall be forgiven by the
Company at the rate of $50,000 per year on June 17, 2000, June 17, 2001 and June
17, 2002 so long as the Executive's employment is not terminated by the Company
for Cause or voluntarily by the Executive prior to such dates. Notwithstanding
the foregoing, the Company agrees that the Executive Loan will automatically be
forgiven by the Company upon the occurrence of a Change in Control.
4
<PAGE> 5
5. TERMINATION OF EMPLOYMENT. (a) TERMINATION BY NOTICE. Subject to the
provisions of Section 2 and this Section 5, the Executive's employment hereunder
will be for the Term of Employment specified in Section 2.
(b) VOLUNTARY TERMINATION OR TERMINATION FOR CAUSE. The
Company may, with or without notice, terminate the Executive's employment
hereunder for Cause. If the Executive's employment is terminated by the Company
effective during the Term of Employment for Cause, or is terminated by the
Executive, the Executive will not be entitled to any compensation or benefits
provided herein, and nothing herein will limit the Company's rights against the
Executive or the rights and obligations of the parties under Sections 6 and 7.
(c) TERMINATION FOR ANY REASON OTHER THAN CAUSE OR DISABILITY.
If the Executive's employment is terminated by the Company during the Term of
Employment for any reason other than Cause or Disability:
(i) The Executive will be entitled to receive the greater
of (A) the sum of his Base Pay and annual performance bonus for one (1)
year immediately preceding the effective date of his termination of
employment and (B) his Base Pay (at the rate in effect on the effective
date of his termination of employment) and annual performance bonus
based upon the highest annual performance bonus received by the
Executive during the Term of this Agreement for the remainder of the
Term of Employment, in either case payable in accordance with the
Company's regular compensation practices and policies applicable to
senior executives; and
(ii) For one (1) year following the effective date of the
Executive's termination of employment or, if longer, the remainder of
the Term of Employment (the "Continuation Period"), the Company will
arrange to provide the Executive and his eligible dependents with
Employee Benefits (excluding retirement, deferred compensation and
stock option, stock purchase, stock appreciation or similar
compensatory benefits) that are substantially similar to those that the
Executive and such dependents were receiving or entitled to receive
immediately prior to the effective date of the Executive's termination
of employment, except that the level of any such Employee Benefits to
be provided to the Executive and such dependents may be reduced in the
event of a corresponding reduction generally applicable to all senior
executives. If and to the extent that any benefit described in this
Section 5(c)(ii) is not or cannot be paid or provided under any policy,
plan, program or arrangement of the Company or any Subsidiary, as the
case may be, then the Company will itself pay or provide for the
payment of such Employee Benefits to the Executive, his dependents and
his beneficiaries. Employee Benefits otherwise receivable by the
Executive pursuant to this Section 5(c)(ii) will be reduced to the
extent comparable welfare benefits are actually received by the
Executive from another employer during the Continuation Period
following the effective date of the Executive's termination of
employment, and any such benefits actually received by the Executive
must be reported by the Executive to the Company.
5
<PAGE> 6
(d) DEATH OR DISABILITY. If the Executive's employment is
terminated effective during the Term of Employment as a result of his death or
by the Company as a result of his Disability, the Executive (or, in the event of
his death, his designated beneficiary) will be entitled to receive his Base Pay
(at the rate in effect on the effective date of his termination of employment)
for a period of 12 months following such effective date, payable in accordance
with the Company's regular compensation practices and policies applicable to
senior executives but less any amounts paid to the Executive under any long-term
disability plan, program, policy or arrangement of the Company or any
Subsidiary.
(e) CHANGE IN CONTROL.
(i) In the event of the occurrence of a Change in Control
during the Term of Employment, if within 36 months of such Change of
Control, Executive's employment is terminated by the Company without
Cause, or by the Executive as set forth below, Executive shall be
entitled to receive (i) a lump sum payment equal to One Million Dollars
($1,000,000) and (ii) the benefits continuation as provided under
Section 5(c)(ii). Notwithstanding the foregoing, in the event of a
Change in Control, Executive may terminate employment with the Company
for any reason, or without reason, during the first 12 months
immediately following the first occurrence of a Change in Control with
the right to severance compensation as provided in this Section 5(e).
(ii) If Executive incurs the tax (the "Excise Tax") imposed by
Section 4999 of the Internal Revenue Code of 1986 (the "Code") on
"excess parachute payments" within the meaning of Section 280G(b)(1) of
the Code, the Company will pay to Executive an amount (the "Gross Up
Payment") such that the net amount retained by Executive, after
deduction of any Excise Tax on the excess parachute payment and any
federal, state and local taxes (together with penalties and interest)
and Excise Tax upon the payment provided for by this Section 6(e)(ii),
will be equal to the Parachute Amount.
(iii) For purposes of determining the amount of the Gross Up
Payment, Executive will be deemed to pay federal income taxes at the
highest marginal rate of federal taxation in the calendar year in which
the Gross Up Payment is to be made and state and local income taxes at
the highest marginal rates of taxation in the state and locality of
Executive's residence on the date of Executive's termination, net of
the maximum reduction in federal income taxes that could be obtained
from deduction of such state and local taxes. The determination of
whether the Excise Tax is payable and the amount thereof will be
determined by a firm of independent certified public accountants
jointly selected by the Company and the Executive.
(iv) The Company will pay the estimated amount of the Gross Up
Payment to the Federal tax authorities as withholding taxes. The
Executive and the Company agree
6
<PAGE> 7
to reasonably cooperate in the determination of the actual amount of
the Gross Up Payment. Further, Executive and the Company agree to make
such adjustments to the estimated amount of the Gross Up Payment as may
be necessary to equal the actual amount of the Gross Up Payment, which
in the case of Executive will refer to refunds of prior overpayments
and in the case of the Company will refer to makeup of prior
underpayments.
(f) COMPENSATION AND BENEFITS ON TERMINATION. Except as
otherwise provided in Section 5(c), (d) or (e):
(i) All compensation and benefits payable to the Executive
pursuant to Section 4 (other than compensation and benefits previously
earned and, if applicable, vested under the terms of this Agreement or
any other applicable employee benefit plan, program, policy,
arrangement or agreement) will terminate as of the effective date of
the Executive's termination of employment; and
(ii) The Executive will not be entitled to, and hereby waives,
any claims for compensation or benefits (other than compensation and
benefits previously earned and, if applicable, vested under the terms
of this Agreement or any other applicable employee benefit plan,
program, policy, arrangement or agreement) payable after such effective
date and for damages arising in connection with his termination of
employment pursuant to this Agreement.
(g) NO MITIGATION OBLIGATION. The Company hereby acknowledges
that it will be difficult and may be impossible for the Executive to find
reasonably comparable employment following the Termination Date and that the
non-competition covenant contained in Section 6 will further limit the
employment opportunities for the Executive. Accordingly, the payment of the
compensation by the Company to the Executive in accordance with the terms of
this Agreement is hereby acknowledged by the Company to be reasonable, and the
Executive will not be required to mitigate the amount of any payment provided
for in this Agreement by seeking other employment or otherwise, nor will any
profits, income, earnings or other benefits from any source whatsoever create
any mitigation, offset, reduction or any other obligation on the part of the
Executive hereunder or otherwise, except as expressly provided in the last
sentence of Section 5(c)(ii).
6. COMPETITIVE ACTIVITY. During the Term of Employment and the period
ending one year following the effective date of the Executive's termination of
employment, the Executive will not:
(a) enter into or engage in any business which competes with the
Company's business or promote or assist, financially or
otherwise, any firm, person, association, partnership,
corporation or other entity engaged in any business which
competes with the Company's business; provided that this
clause (i) shall cease to apply
7
<PAGE> 8
after the Executive's termination of employment, or
(b) solicit or endeavor, directly or indirectly (including through
third parties), to cause any employee of the Company or any
Subsidiary to leave his employment or induce or attempt to
induce any such employee to breach any employment agreement
with the Company or any Subsidiary or otherwise interfere with
the employment of any such employee; or
(c) solicit, endeavor to cause, induce or attempt to induce any
agent who engages in the business of marketing the services of
the Company or any Subsidiary to terminate, reduce or modify
its agency relationship with the Company or any Subsidiary.
7. UNAUTHORIZED DISCLOSURE, USE OR SOLICITATION. (a) Executive will
keep in strict confidence, and will not, directly or indirectly, at any time
during or after his employment with the Company, disclose, furnish, disseminate,
make available or, except in the course of performing his duties of employment
hereunder, use any trade secrets or confidential business and technical
information of the Company or its customers, vendors or property owners or
managers, without limitation as to when or how Executive may have acquired such
information. Such confidential information will include, without limitation, the
Company's unique selling methods and trade techniques, management, training,
marketing and selling manuals, promotional materials, training courses and other
training and instructional materials, vendor, owner, manager and product
information, customer lists, other customer information and other trade
information. Executive specifically acknowledges that all such confidential
information including, without limitation, customer lists, other customer
information and other trade information, whether reduced to writing, maintained
on any form of electronic media, or maintained in the mind or memory of
Executive and whether compiled by the Company, and/or Executive, derives
independent economic value from not being readily known to or ascertainable by
proper means by others who can obtain economic value from its disclosure or use,
that reasonable efforts have been made by the Company to maintain the secrecy of
such information, that such information is the sole property of the Company and
that any retention and use of such information by Executive during his
employment with the Company (except in the course of performing his duties and
obligations hereunder) or after the termination of his employment will
constitute a misappropriation of the Company's trade secrets.
(b) Executive agrees that upon termination of Executive's
employment with the Company, for any reason, Executive will return to the
Company, in good condition, all property of the Company, including without
limitation, the originals and all copies of all management, training, marketing
and selling manuals, promotional materials, other training and instructional
materials, vendor, owner, manager and product information, customer lists, other
customer information and all other selling, service and trade information and
equipment. In the event that such items are not so returned, the Company will
have the right to charge Executive for all reasonable damages, costs, attorneys'
fees and other expenses incurred in searching for, taking, removing and/or
recovering such property.
8
<PAGE> 9
(c) Executive acknowledges that to the extent permitted by
law, all work papers, reports, documentation, drawing, photographs, negatives,
tapes and masters therefor, prototypes and other materials (hereinafter,
"items"), including, without limitation, any and all such items generated and
maintained on any form of electronic media, generated by Executive during his
employment with the Company will be considered a "work made for hire" and that
ownership of any and all copyrights in any and all such items will belong to the
Company. The item will recognize the Company as the copyright owner, will
contain all proper copyright notices, e.g., "(year of creation" Interstate
Hotels Corporation. All rights reserved," and will be in condition to be
registered or otherwise placed in compliance with registration or other
statutory requirements throughout the world.
(d) Executive hereby assigns and agrees to assign to the
Company, its successors, assigns or nominees, all of his rights to any
discoveries, inventions and improvements, whether patentable or note, made,
conceived or suggested, either solely or jointly with others, by Executive while
in the Company's employ, whether in the course of his employment with the use of
the Company's time, materials or facilities or in any way within or related to
the existing or contemplated scope of the Company's business. Any discovery,
invention or improvement relating to any subject matter with which the Company
was concerned during Executive's employment and made, conceived or suggested by
Executive, either solely or jointly with others, within one year following
termination of Executive's employment under this Agreement or any successor
agreements will be irrebuttably presumed to have been so made, conceived or
suggested in the course of such employment with the use of the Company's time,
materials or facilities. Upon request by the Company with respect to any such
discoveries, inventions or improvements, Executive will execute and deliver to
the Company, at any time during or after his employment, all appropriate
documents for use in applying for, obtaining and maintaining such domestic and
foreign patents as the Company may desire, and all proper assignments therefor,
when so requested, at the expense of the Company, but without further or
additional consideration.
(e) Executive may use the Company's trade names, trademarks
and/or service marks in connection with the sale of the Company's products and
services, but only in such manner and for such purposes as may be authorized by
the Company. Upon any termination of this Agreement, Executive immediately will
cease the use of such trade names, trademarks and/or service marks and eliminate
them wherever they have been used or incorporated by Executive.
(f) The Executive will not directly or indirectly (i) solicit
or endeavor to cause any employee of the Company or any Subsidiary to leave his
employment or induce or attempt to induce any such employee to breach any
employment agreement with the Company or any Subsidiary or otherwise interfere
with the employment of any such employee or (ii) solicit, endeavor to cause,
induce or attempt to induce any agent who engages in the business of
9
<PAGE> 10
marketing the services of the Company or any Subsidiary to terminate, reduce or
modify its agency relationship with the Company or any Subsidiary.
8. SUCCESSORS AND BINDING AGREEMENT. (a) The Company will require any
successor (whether direct or indirect, by purchase, merger, consolidation,
reorganization or otherwise) to all or substantially all of the business or
assets of the Company, by agreement in form and substance reasonably
satisfactory to the Executive, expressly to assume and agree to perform this
Agreement in the same manner and to the same extent the Company would be
required to perform if no such succession had taken place. This Agreement will
be binding upon and inure to the benefit of the Company and any successor to the
Company, including without limitation any persons acquiring directly or
indirectly all or substantially all of the business or assets of the Company
whether by purchase, merger, consolidation, reorganization or otherwise (and
such successor will thereafter be deemed the "Company" for the purposes of this
Agreement), but will not otherwise be assignable, transferable or delegable by
the Company.
(b) This Agreement will inure to the benefit of and be
enforceable by the Executive's personal or legal representatives, executors,
administrators, successors, heirs, distributees and legatees.
(c) This Agreement is personal in nature and neither of the
parties hereto will, without the consent of the other, assign, transfer or
delegate this Agreement or any rights or obligations hereunder except as
expressly provided in Sections 8(a) and (b). Without limiting the generality or
effect of the foregoing, the Executive's right to receive payments hereunder
will not be assignable, transferable or delegable, whether by pledge, creation
of a security interest, or otherwise, other than by a transfer by Executive's
will or by the laws of descent and distribution and, in the event of any
attempted assignment or transfer contrary to this Section 8(c), the Company will
have no liability to pay any amount so attempted to be assigned, transferred or
delegated.
9. LEGAL FEES AND EXPENSES. It is the intent of the Company that the
Executive not be required to incur legal fees and the related expenses
associated with the interpretation, enforcement or defense of Executive's rights
under this Agreement by litigation or otherwise because the cost and expense
thereof would substantially detract from the benefits intended to be extended to
the Executive hereunder. Accordingly, if it should appear to the Executive that
the Company has failed to comply with any of its obligations under this
Agreement or in the event that the Company or any other person takes or
threatens to take any action to declare this Agreement void or unenforceable, or
institutes any litigation, arbitration or other action or proceeding designed to
deny, or to recover from, the Executive the benefits provided or intended to be
provided to the Executive hereunder, the Company will pay for reasonable and
necessary legal expenses incurred by the Executive in connection with legal
advice or representation regarding any such interpretation, enforcement or
defense, including without limitation the initiation or defense of any
litigation, arbitration or other legal action, whether by or against the Company
or any Director, officer, stockholder or other person affiliated with the
Company, in
10
<PAGE> 11
any jurisdiction. Notwithstanding any existing or prior attorney-client
relationship between the Company and such counsel, the Company consents to the
Executive's entering into an attorney-client relationship with such counsel, and
in that connection the Company and the Executive agree that a confidential
relationship shall exist between the Executive and such counsel. Without respect
to whether the Executive prevails, in whole or in part, in connection with any
of the foregoing, the Company will pay and be solely financially responsible for
any and all attorneys' and related fees and expenses incurred by the Executive
in connection with any of the foregoing.
10. ADDITIONAL REMEDIES. (a) Notwithstanding any other remedy herein
provided for or available, if the Executive should be in breach of any of the
provisions of Section 6 or 7, the Executive expressly acknowledges and agrees
that the Company will be entitled to injunctive relief or specific performance,
without the necessity of proving damages, in addition to any other remedies it
may have.
(b) Notwithstanding any of the foregoing, in the event of any
disputes regarding the interpretation or application of any provision of this
Agreement, either the Executive or the Company, or both parties, may request in
writing that such dispute be resolved through final and binding arbitration. The
parties will jointly select the arbitrator who will hear such dispute. If the
parties cannot agree on the selection of an arbitrator, the parties will request
that one be appointed by the American Arbitration Association. The arbitration
will be conducted in Pittsburgh, Pennsylvania (or in any other location mutually
agreed upon by the parties) in accordance with the rules of the American
Arbitration Association. The parties acknowledge and agree that time will be of
the essence throughout such procedure. The decision of the arbitrator may be
entered in any court having subject matter and personal jurisdiction over the
dispute and the Executive. The Company will pay any costs and expenses in
connection with any such dispute or procedure.
11. REPRESENTATION. Each party represents and warrants that it is fully
authorized and empowered to enter into this Agreement and that the performance
of its obligations under this Agreement will not violate any agreement between
it and any other person or entity.
12. SEVERABILITY. In the event that any provision or portion of this
Agreement is determined to be invalid or unenforceable for any reason, in whole
or in part, the remaining provisions of this Agreement will be unaffected
thereby and will remain in full force and effect to the fullest extent permitted
by law.
13. LITIGATION AND REGULATORY COOPERATION. During and after Executive's
employment, Executive shall reasonably cooperate with the Company in the defense
or prosecution of any claims or actions now in existence or which may be brought
in the future against or on behalf of the Company which relate to events or
occurrences that transpired while Executive was employed by the Company;
provided, however, that such cooperation shall not materially and adversely
affect Executive or expose Executive to an increased probability of civil
11
<PAGE> 12
or criminal litigation. Executive's cooperation in connection with such claims
or actions shall include, but not be limited to, being available to meet with
counsel to prepare for discovery or trial and to act as a witness on behalf of
the Company at mutually convenient times. During and after Executive's
employment, Executive also shall cooperate fully with the Company in connection
with any investigation or review of any federal, state or local regulatory
authority as any such investigation or review relates to events or occurrences
that transpired while Executive was employed by the Company. The Company shall
also provide Executive with compensation on an hourly basis calculated as his
final Base Pay for requested litigation and regulatory cooperation that occurs
after his termination of employment, and reimburse Executive for all costs and
expenses incurred in connection with his performance under this Section 13;
including, but not limited to, reasonable attorney's fees and costs.
14. INDEMNIFICATION. The Executive shall receive maximum
indemnification from the Company as permitted by the Company's by-laws in effect
at any time during the Term of this Agreement and applicable law. This Section
shall survive the termination of this Agreement.
15. NOTICES. For all purposes of this Agreement, all communications,
including without limitation notices, consents, requests or approvals, required
or permitted to be given hereunder will be in writing and will be deemed to have
been duly given when hand delivered or dispatched by electronic facsimile
transmission (with receipt thereof orally confirmed), or five business days
after having been mailed by United States registered or certified mail, return
receipt requested, postage prepaid, or three business days after having been
sent by a nationally recognized overnight courier service such as Federal
Express or UPS, addressed to the Company (to the attention of the Secretary of
the Company) at its principal executive office and to the Executive at his
principal residence (with a copy to any counsel designated by the Executive), or
to such other address as any party may have furnished to the other in writing
and in accordance herewith, except that notices of changes of address will be
effective only upon receipt.
16. DISCLOSURE. During the Term of Employment and for one year
thereafter, Executive will communicate the contents of this Agreement to any
person, firm, association, partnership, corporation or other entity which he or
she intends to be employed by, associated with, or represent and which is
engaged in a business that is competitive to the business of the Company.
17. MODIFICATIONS AND WAIVERS. No provision of this Agreement may be
modified or discharged unless such modification or discharge is authorized by
the Board and is agreed to in writing, signed by the Executive and by an officer
of the Company duly authorized by the Board. No waiver by either party hereto of
any breach by the other party hereto of any condition or provision of this
Agreement to be performed by such other party will be deemed a waiver of similar
or dissimilar provisions or conditions at the time or at any prior or subsequent
time.
12
<PAGE> 13
18. ENTIRE AGREEMENT. This Agreement constitutes the entire
understanding of the parties hereto with respect to its subject matter, except
as such parties may otherwise agree in a writing which specifies that it is an
exception to the foregoing. This Agreement supersedes all prior agreements
between the parties hereto with respect to its subject matter and,
notwithstanding any other provision hereof, will become effective upon the
execution of this Agreement by the parties.
19. GOVERNING LAW. The validity, interpretation, construction and
performance of this Agreement will be governed by and construed in accordance
with the substantive laws of the Commonwealth of Pennsylvania, without giving
effect to the principles of conflict of laws of such Commonwealth.
20. COUNTERPARTS. This Agreement may be executed simultaneously in one
or more counterparts, each of which will be deemed to be an original but all of
which together will constitute one and the same instrument.
21. HEADINGS, ETC. The section headings contained in this Agreement are
for convenience of reference only and will not be deemed to control or affect
the meaning or construction of any provision of this Agreement. References to
Sections are to Sections in this Agreement.
IN WITNESS WHEREOF, the parties hereto have executed this Agreement as
of the date first above written.
INTERSTATE HOTELS CORPORATION
By: /s/ Thomas F. Hewitt
---------------------------------
/s/ Kevin P. Kilkeary
---------------------------------
Kevin P. Kilkeary
13
<PAGE> 14
EXHIBIT A
Executive: Kevin P. Kilkeary
Duties and Responsibilities: President and Chief Operating Officer
Primary Reporting Relationship: Chairman and Chief Executive Officer
14
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEET AS OF SEPTEMBER 30, 1999 AND THE CONSOLIDATED
STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 37,032
<SECURITIES> 0
<RECEIVABLES> 18,737
<ALLOWANCES> (698)
<INVENTORY> 0
<CURRENT-ASSETS> 59,535
<PP&E> 8,865
<DEPRECIATION> (5,188)
<TOTAL-ASSETS> 168,132
<CURRENT-LIABILITIES> 39,618
<BONDS> 0
0
0
<COMMON> 61
<OTHER-SE> 64,730
<TOTAL-LIABILITY-AND-EQUITY> 168,132
<SALES> 0
<TOTAL-REVENUES> 183,246
<CGS> 0
<TOTAL-COSTS> 191,012
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (6,407)
<INCOME-TAX> (1,752)
<INCOME-CONTINUING> (4,655)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,628)
<EPS-BASIC> 0<F1>
<EPS-DILUTED> 0<F1>
<FN>
<F1>THE COMPANY DOES NOT BELIEVE THAT A HISTORICAL EARNINGS PER SHARE CALCULATION
FOR THE PARTIAL PERIOD BETWEEN THE SPIN-OFF DATE OF JUNE 18, 1999 THROUGH
SEPTEMBER 30, 1999 IS MEANINGFUL.
</FN>
</TABLE>
