SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JANUARY 1, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ___________ TO ____________
COMMISSION FILE NO. 33-95060
HOST INTERNATIONAL, INC.
DELAWARE 52-124233
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(State or Other Jurisdiction (I.R.S. Employer Identification Number)
of Incorporation or Organization)
6600 ROCKLEDGE DRIVE
BETHESDA, MARYLAND 20817
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(Address of principal executive offices) (Zip Code)
(301) 380-7000
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K.
DOCUMENTS INCORPORATED BY REFERENCE
Notice of 1999 Annual Meeting and Proxy Statement
of Host Marriott Services Corporation
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PART I
ITEM 1. BUSINESS
GENERAL
Host International, Inc. (the "Company"), a wholly-owned subsidiary of Host
Marriott Services Corporation ("Host Marriott Services"), is the leading
provider of food, beverage and retail concessions at airports, on tollroads, and
in shopping malls, with facilities at nearly every major commercial airport and
tollroad in the United States.
The Company operates primarily in the United States through its
subsidiaries. The Company manages six tollroad contracts for Host Marriott
Tollroads, Inc. ("Host Marriott Tollroads"), a wholly-owned subsidiary of Host
Marriott Services. The Company also has international airport concessions
operations in The Netherlands, New Zealand, Australia, Canada, Malaysia and
People's Republic of China.
The Company's operations are grouped into three business segments: Airports
(including gift and news retail outlets in off-airport locations), Travel Plazas
and Shopping Malls, which represented 83.5%, 14.7% and 1.8%, respectively, of
total revenues in 1998. See Note 12 to the Consolidated Financial Statements for
financial information about the Company's business segments.
The Company also receives fees for managing six tollroad contracts for
Host Marriott Tollroads.
BUSINESS STRATEGY
The Company's strategic objective is to generate higher revenues and cash
flows by increasing revenues per enplaning passenger ("RPE") and revenues per
vehicle ("RPV"), as well as maximizing real estate at its existing concessions
facilities, retaining existing contracts, gaining incremental business through
securing new contracts in core markets and expanding profitably into the
international food and beverage and shopping mall food court concessions
markets. Specifically, key elements of the Company's business strategy include
the following:
REVENUE GROWTH AT EXISTING LOCATIONS
The Company continues to increase the average amount spent by each customer
by transforming core markets from generic offerings to a blend of local and
internationally known branded concepts, improving customer service and offering
innovative facility designs. The Company has the largest portfolio of brands in
the industry with more than 100 franchised, licensed or internally developed
brands that are familiar to frequent travelers. The Company leads the industry
in brand development by researching customer preferences, targeting the latest
trends in retail as well as food and beverage, identifying the best brands and
then working to adapt them into its operating environment. In 1998, the Company
continued to adapt and rollout successful unique and premium niche brands to its
portfolio, including Cheesecake Factory, California Pizza Kitchen, Chili's too,
Victoria's Secret, Lands End and Johnston and Murphy.
Branded concept revenues in all of the Company's venues have grown at a
compound annual growth rate of 15.1% over the last three years. Revenues from
branded concepts increased by 14.9% during 1998 and accounted for $456.8 million
of the Company's total annual revenues. The majority of this increase was
related to the continued expansion of branded sales at airports and on tollroads
as well as revenues from the heavily branded mall food court segment. The
Company's exposure to any one brand is limited given the diversity of brands
that are offered.
RETAINING EXISTING CONTRACTS
The Company has maintained its market leadership position by striving to
provide outstanding service to its customers and maintaining high standards in
maintenance and innovation at each of its concession facilities. The Company's
strong relationships with airport and highway authorities and its successful
concession operations have enabled the Company to retain the vast majority of
its concession contracts. Since the beginning of 1996, the
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Company has retained 81.9% of contracts managed or operated that were up for
renewal, weighted by contract size.
The Company is committed to creating opportunities for woman- and
minority-owned businesses and currently participates with such businesses in the
substantial majority of its airport concessions contracts. While increased
participation by woman- and minority-owned businesses are expected in the
future, the impact of this industry trend on future revenue growth in the
airport segment is expected to be more than offset by operating initiatives and
the addition of branded concessions.
During the past few years, several contracts have been negatively affected
by airport authorities fracturing master contracts into several separate
contracts. However, the Company has been successful in retaining a major
operating presence at most locations through its development of unique, branded
concepts.
SECURING NEW CONTRACTS IN CORE MARKETS
The Company's core operating markets consist of domestic airport and travel
plaza concessions. The Company's business development organization is widely
recognized as among the most experienced and innovative in the industry with a
demonstrated track record of securing new contracts at attractive economic
returns. Securing new contracts requires considerable management time and
financial resources. The individuals in the business development organization
provide the Company with the expertise and depth to pursue multiple projects
simultaneously. Since 1996, the Company has secured eight new contracts in core
markets, with estimated annual revenues of $67.1 million.
EXPANDING PROFITABLY INTO NEW MARKETS AND VENUES
The Company has identified international food and beverage concessions and
shopping mall food courts as its primary growth markets. Since 1996, the Company
has secured 14 new contracts in growth markets with estimated annual revenues of
$91.0 million.
During 1998, the Company commenced operations at the Kuala Lumpur
International Airport in Malaysia and added a new international airport contract
at China's Shenzhen Huangtian International Airport, which increased the
Company's presence to six countries outside of the United States.
The Company believes that food court opportunities in large malls align
well with the operating skills and brand expertise of the Company's management
team. The Company developed a concession model for shopping mall food courts in
late 1996 and since that time has had great success in changing the way real
estate developers view their food courts. By providing mall developers with food
courts having branded concepts operated by trained and highly motivated
employees, their leasing and property management activities are simplified. In
addition, the Company believes that its operating skills, brand portfolio and
brand expertise, compared to the skills of individual operators, will provide
mall developers with better overall returns and superior service to mall
customers.
During 1998, the Company opened its fourth mall food court at Independence
Center Mall near Kansas City, Missouri and its fifth mall food court at the
Leesburg Corner Premium Outlets in Leesburg, Virginia. These mall food courts
are expected to generate approximately $6.0 million in annualized revenues by
2000.
The Company announced four new mall contracts in 1998. First, there was an
agreement with Forest City Ratner Companies to develop and manage 35,000 square
feet of food and beverage operations in its 42nd Street Entertainment and Retail
Project located in New York's Times Square. This project will be one of the
Company's largest mall and entertainment projects with annual sales expected to
exceed $15.0 million once construction of the units has been completed in late
1999. The second contract was a 12-year deal with The Taubman Company to operate
the food and beverage concessions in a 7,000 square foot food court in the 1.0
million square foot MacArthur Center in Norfolk, Virginia, which opened in March
of 1999. The third contract was a ten-year deal with Glimcher Realty Trust to
operate the food and beverage concessions in a 10,800 square
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foot food court in the 1.3 million square foot Jersey Gardens Mall in Elizabeth,
New Jersey, beginning in the late Fall of 1999. The fourth contract was a
ten-year deal with Michael Swerdlow Companies, Inc. to operate the food and
beverage concessions in a 9,000 square foot food court in the 1.4 million square
foot Dolphin Mall in Miami-Dade County, Florida, beginning in 2000. These four
new contacts, as well as the Concord Mills Mall contract announced in 1997
(opening late 1999), are expected to generate over $50 million in annualized
revenues.
AIRPORT CONCESSIONS
The Company is the leading provider of airport food, beverage, and retail
concessions in the United States. The Company operates concessions at 63
domestic airports, 8 international airports and 17 off-airport locations. The
Company's portfolio of airport contracts is highly diversified in the U.S. in
terms of geographic location and airport terminal type and size. No single
airport contract constitutes a material portion of the Company's total revenues.
Revenues in the Airport segment, which include domestic and international
airports as well as food, beverage, gift and news retail outlets in off-airport
locations, totaled $1,028.8 million and $956.7 million in 1998 and 1997,
respectively. This segment represented 83.5% of total Company revenues in both
1998 and 1997.
Revenues from airport concessions were $985.5 million and $913.5 million in
1998 and 1997, respectively. The concentration of revenues from the Company's
ten largest airport contracts was 29.3% of the Company's total revenues in 1998
and 29.4% of total revenues in 1997. Airport revenues have grown at a compound
annual growth rate of 3.4% over the last three years. Revenues from off-airport
locations increased slightly to $43.3 million in 1998.
All of the Company's airport concessions are operated under contracts with
original terms typically ranging from 5 to 15 years. Contracts are generally
awarded by airport authorities through a competitive process, but lease
extensions are often negotiated before contracts expire. The weighted-average
life remaining on the Company's airport contracts was approximately 7.0 years at
the end of 1998 compared with 7.2 years at the end of 1997. Rents paid under the
contracts averaged 16.0% of the Company's total airport revenues in both 1998
and 1997. Rent payments are typically determined as a percentage of sales
subject to a minimum annual guarantee, which may be stated as either a fixed
dollar amount per year, a percentage of the prior year's rental obligation, or
calculated on a per enplaning passenger basis. During 1998, rent payments for
most of the Company's airport contracts exceeded the minimum annual guarantee on
those contracts.
The Company's off-airport concession contracts usually have initial terms
of five or more years. The Company leases its premises at a fee, which is
negotiated at the time the concession contract is awarded. The weighted-average
life remaining on the Company's 17 off-airport concession contracts was
approximately 1.8 years at the end of 1998.
OPERATING LOCATIONS
The Company operates or manages concessions facilities at the following
airports:
UNITED STATES: Anchorage, AK; Atlanta, GA; Baltimore, MD; Billings, MT;
Birmingham, AL; Boston, MA; Charleston, SC; Charlotte, NC; Chicago, IL (O'Hare);
Cincinnati, OH; Cleveland, OH; Columbia, SC; Corpus Christi, TX; Dallas, TX
(DFW); Dayton, OH; Detroit, MI; Fort Myers, FL; Grand Rapids, MI; Harlingen, TX;
Hartford, CT; Honolulu, HI; Houston, TX; Indianapolis, IN; Jackson, MS;
Jacksonville, FL; Kansas City, MO; Kauai, HI; Las Vegas, NV; Little Rock, AR;
Los Angeles, CA (LAX); Louisville, KY; Lubbock, TX; Maui, HI; Memphis, TN;
Miami, FL; Milwaukee, WI; Minneapolis, MN; New York, NY (JFK); New York, NY (La
Guardia); Newark, NJ; Omaha, NE; Ontario, CA; Orange County, CA; Orlando, FL;
Phoenix, AZ; Portland, ME; Raleigh, NC; Reno, NV; Sacramento, CA; Salt Lake
City, UT; San Diego, CA; San Francisco, CA (SFO); San
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Jose, CA; Sarasota, FL; Savannah, GA; Seattle, WA; St. Louis, MO; Tampa, FL;
Toledo, OH; Washington, D.C. (Dulles); Washington, D.C. (Ronald Reagan
Washington National); West Palm Beach, FL; and Wichita, KS.
INTERNATIONAL: Auckland, New Zealand; Cairns, Australia; Christchurch, New
Zealand; Kuala Lumpur, Malaysia; Melbourne, Australia; Vancouver, Canada;
Montreal, Canada; Schiphol, The Netherlands; and Shenzhen, China (operations
commenced in January 1999).
The Company operates or manages concessions at the following off-airport
locations:
Dallas Reunion Arena, Houston Space Center, Empire State Building
Observatory, New Orleans Aquarium, Atlantic City (4 sites), Las Vegas (4 sites),
Memphis Peabody Hotel Gift Shop, Polynesian Cultural Center, Raleigh Crabtree
Hotel Gift Shop, Reno-Souvenir & Gift Emporium, Orlando Arena, and Bob Carr
Performing Arts Center.
The airport segment facilities operated by the Company offer five product
lines which are described below.
BRANDED FOOD AND BEVERAGE CONCESSIONS
The Company has been a pioneer in providing airport travelers with
well-known food and beverage branded concessions such as Burger King, Starbucks
Coffee, Pizza Hut, Sbarro, Cinnabon, Cheesecake Factory, California Pizza
Kitchen ASAP, Nathan's Famous, Chili's Too, TCBY "Treats," Taco Bell, Dunkin
Donuts and Popeyes. These branded concepts typically perform better and produce
higher RPE as compared to non-branded concepts. Brand awareness, customer
familiarity with product offerings, and the perception of superior value and
consistency are all factors contributing to higher RPE in branded facilities. As
a licensee or franchisee of these brands, the Company pays royalty fees ranging
from 2% to 10% of total sales. Royalties expense as a percent of branded
revenues averaged 6.0% in 1998.
Branded food and beverage revenues in the airports segment have increased
17.5% when comparing 1998 and 1997. This increase can be attributed to large,
new branded concept developments at Chicago, Miami, Cleveland, Los Angeles,
Minneapolis and San Francisco airports. Airport branded product sales increased
to $295.8 million, or 28.8% of airport segment revenues, for 1998 compared with
$251.8 million, or 26.3% of airport segment revenues, for 1997.
NON-BRANDED FOOD AND BEVERAGE CONCESSIONS
These concessions are operated under a generic name and serve primarily
non-branded food and beverages in a restaurant or cafeteria-style setting. The
majority of the food sold in these facilities is prepared on the premises and
includes fresh salads, hot dogs, hamburgers, sandwiches and desserts. While
branded items such as Pizza Hut Personal Pan Pizza are sold through separate
vending stands within these facilities, the majority of the sales are
non-branded food and beverage revenues. Non-branded food and beverage revenues
generated approximately 35.3% of airport segment revenues in 1998 and 36.6% of
airport segment revenues in 1997, reflecting the Company's efforts to transform
its core airport markets from generic offerings to a blend of international,
internal and unique local branded concepts. Revenues of non-branded food and
beverage products were up $13.3 million, or 3.8%, to $363.3 million when
comparing 1998 and 1997.
ADULT BEVERAGES
The Company serves alcoholic and nonalcoholic drinks, together with
selected food items, through specialty lounges (generally operated under the
Premium Stock Airpub name), restaurants, cafeterias, and microbrewery pubs.
These facilities are designed to provide a comfortable and convenient
environment for passengers waiting for their flights. During 1998, the Company
continued to introduce its popular microbrewery pubs which include, among
others, Samuel Adams Brew House and Shipyard Brew Pub. These bar and grill
concepts bring local flavors to the Company's airport contracts and complement
the Company's proprietary Premium Stock Airpub lounges. Other specialty lounges
introduced in 1998 include Fox Sports Sky Box, a bar and grill concept developed
with sports innovator Fox Sports; the world's first Jose Cuervo Tequilaria; and
Casa Bacardi. Adult
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beverages generated approximately 16.8% of airport segment revenues in both 1998
and 1997. Adult beverage sales in the airport segment were up $12.3 million, or
7.7%, in 1998 when compared with 1997.
MERCHANDISE OUTLETS
The Company operates branded and nonbranded merchandise outlets at 26
airport locations and 13 off-airport locations. The Company's merchandise shops
sell newspapers, magazines, souvenirs, gifts, books, snacks and other
convenience items. The Company utilizes a team of merchandise specialists who,
based on extensive research, create exciting visual displays, bring in
custom-designed merchandise that reflects the regional flavor and develop
marketing programs which capture customer interest. In an effort to maximize
RPE, the Company continues to add internally developed specialty retail concepts
such as Simply Books, Global News, News Connection and Aviation, Inc. as well as
develop and sublease specialty retail concepts such as Tie Rack, Victoria's
Secret, Lands End, The Body Shop and Johnston and Murphy. During 1998, the
Company acquired Sky Gifts, Inc., a concession company operating eight retail
locations at the Phoenix Sky Harbor International Airport with estimated
annualized revenues of $7.0 million. Merchandise outlets generated approximately
15.8% and 16.1% of total airport concession sales in 1998 and 1997,
respectively. Merchandise sales in the airport segment increased by $7.8 million
in 1998 to $162.3 million when compared with 1997.
DUTY-FREE SHOPS
Duty-free shops sell items such as liquor, tobacco, perfume, leather goods,
cosmetics and gifts on a tax- and duty-free basis to international travelers.
The Company's largest airport duty-free operations are located at Detroit Metro
International Airport, Sea-Tac International Airport, Hartsfield Atlanta
International Airport and Minneapolis/St. Paul International Airport. Duty-free
shops generated approximately 3.3% and 4.2% of total airport segment revenues in
1998 and 1997, respectively. Duty-free merchandise sales totaled $34.5 million
during 1998, a decrease of 13.3% compared to 1997, primarily due to weaker
enplanements stemming from the slowdown in the Asian economy and lower spending
by Asian travelers.
OUTLOOK
In March of 1998, the Federal Aviation Administration ("FAA") forecasted
long-term average annual passenger enplanement growth of U.S. carriers of 3.7%
through the year 2009. Given recent trends in the airline industry, 1999
enplanement growth may be less than the long-term average growth rate. The U.S.
airport concession industry is expected to continue to benefit from strong
industry fundamentals and the expansion of low-fare airline carriers. In
addition, to sustain low-fare positioning and improve financial performance,
most airlines have lowered their costs by reducing or eliminating inflight
catering services. The Company continues to benefit from this trend with an
increased opportunity to serve passengers whose needs are not met in the air as
a result of the reduction in airline catering services.
The transformation of the Company's core airport markets from generic
offerings to a blend of international, internal and unique local branded
concepts will attract more customers. Currently, branded food and beverage
revenues make up only 44.9% of the Company's total food and beverage revenues in
the airport segment (28.8% of total airport segment revenues), demonstrating the
considerable potential for growth. Further, the Company is committed to refining
its core operating processes to improve efficiencies, reduce costs and increase
revenues. The Company has renewed its focus on managing food cost and labor
productivity while continuing to improve customer service. Several initiatives
are under way to focus on loss prevention, recruiting and associate selection,
development and training. Further, the Company expects continued success in 1999
and beyond in making its core airport concessions contracts more profitable
through new concepts and operating excellence initiatives.
Over the next three years, 31 airport concessions contracts representing
approximately $183.8 million, or 13.6% of annualized total revenues, will come
up for renewal. The Company expects continued success in retaining such
contracts and is committed to striving for the highest levels of product quality
and improved customer satisfaction. Over that same period, 10 off-airport
concessions contracts representing approximately $26.6 million, or 2.0% of
annualized total revenues, will come up for renewal.
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TRAVEL PLAZA CONCESSIONS
The Travel Plazas segment consists of 92 travel plazas spread throughout 13
tollroads, which is the largest network of travel plazas in the U.S. The
Company's travel plazas are located in the mid-Atlantic, midwestern and
northeastern states, as well as in Florida. The Company operates or manages
these travel plazas and it currently holds the leading market position on each
of the top ten tollroads on which it operates or manages. The relatively high
level of traffic on tollroads in the mid-Atlantic and northeastern states makes
those roads the highest revenue-producing tollroads.
Revenues in the travel plaza business segment, including management fees,
were $181.1 million and $174.2 million in 1998 and 1997, respectively. The
Company's travel plaza concession revenues in 1998 and 1997 were approximately
14.7% and 15.2%, of the Company's total revenues (including management fees),
respectively. The five largest travel plaza contracts accounted for
approximately 12.5% and 12.9% of total revenues (including management fees) in
1998 and 1997, respectively. No single travel plaza contract constitutes a
material portion of the Company's total revenues.
Travel plazas are operated or managed under contracts with highway
authorities that are typically 10 to 15 years in duration. Contracts are awarded
through a competitive process, but lease extensions often can be negotiated
before contracts expire. The weighted-average remaining life of the Company's
managed and operated travel plaza contracts was approximately 6.1 years at the
end of 1998.
The Company offers branded concepts in a clean, safe environment, which are
designed to appeal to travelers who desire high-quality meals without exiting
the tollroad. Travel plaza concessions are dominated by branded concepts, which
comprised 79.5% of travel plaza concessions revenues in 1998 (87.9% of travel
plaza food and beverage revenues). The core business of most travel plazas is a
food court offering branded concepts, including Burger King, Roy Rogers, Bob's
Big Boy, Sbarro, TCBY "Treats", Starbucks Coffee, Pizza Hut Express, Miami Subs
Grill, Dunkin Donuts and Popeye's. Retail gift shops selling souvenirs,
postcards, snacks, newspapers and magazines frequently are located adjacent to
these food courts and accounted for approximately $15.9 million, or 9.6% of
revenues in 1998. Travel plazas generally include automated teller machines,
vending machines and business centers and all of the facilities are accessible
to the disabled.
OPERATING LOCATIONS
The Company operates or manages travel plazas on the following tollroads:
Atlantic City Expressway; Delaware Turnpike; Florida's Turnpike; Garden
State Parkway; Illinois Tollway; Maine Turnpike; Maryland Turnpike;
Massachusetts Turnpike; New Jersey Turnpike; New York Thruway; Ohio Turnpike;
Pennsylvania Turnpike; and West Virginia Parkways.
OUTLOOK
The Company has projected, based on historical experience, that the impact
on travel plaza revenue growth due to growth in tollroad traffic in the
Northeastern corridor of the U.S. will be approximately 1% to 2% on an annual
basis. Moderate pricing increases and the introduction of new branded food and
beverage concepts, to replace mature brands, are expected to further increase
revenues in 1999 and beyond. Management is focused on operational excellence and
has dedicated resources to review opportunities for renewing key contracts and
adding new brands.
Over the next three years, four travel plaza concessions contracts
representing approximately $38.1 million, or 2.8%, of annualized total Company
revenues, will come up for renewal. Over the next three years, one managed
travel plaza contract will come up for renewal. Management fee income relating
to this managed contract totaled $1.6 million in 1998. The Company expects
continued success in retaining both operated and managed contracts.
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SHOPPING MALL CONCESSIONS
The Shopping Malls segment includes food facilities at six malls. The food
facilities are principally located in a food court setting within the shopping
mall. The Company's portfolio of shopping mall concession contracts is
diversified in the U.S. in terms of geographic location and mall developer.
Shopping mall food court concessions generated $22.1 million of revenues in
1998, approximately 1.8% of total Company revenues and generated $15.4 million
in revenues in 1997, approximately 1.3% of total Company revenues. Total food
and beverage revenues accounted for 98.2% of the segment's revenues in 1998,
compared with 98.7% in 1997. Retail sales comprised 1.8% of the Company's
shopping mall concession revenues compared with 1.3% in 1997. No single contract
constitutes a material portion of the Company's total revenues.
Shopping mall food court concessions contracts usually have initial terms
of 10 to 12 years with the Company's rights to extend an additional 5 to 20
years. Rent payments are determined as a percentage of sales subject to a
minimum fee, which is negotiated at the time the concession contract is awarded.
The weighted-average remaining life, including extension rights, of the
Company's shopping malls contracts was approximately 18.2 years, up from 11.8
years in 1997 due to the addition of new mall locations with longer average
contract lives.
OPERATING LOCATIONS
The Company operates concessions at the following shopping mall locations:
Grapevine Mills Mall, Ontario Mills Mall, Vista Ridge Mall, Independence
Center Mall, Leesburg Corner Premium Outlets and MacArthur Center (operations
began in March of 1999).
OUTLOOK
The Company is actively pursuing new food court operations both in new
malls and malls undergoing renovation. With the opening of MacArthur Center mall
in Norfolk, Virginia, in March of 1999, the Company increased its operations to
six shopping mall food courts and is scheduled to have four additional openings
in 1999. The annualized revenue from these 10 contracts is estimated to be over
$80.0 million. The Company expects to begin operations at the Concord Mills Mall
near Charlotte, North Carolina, in late 1999, the Jersey Gardens Mall in
Elizabeth, New Jersey, in Fall of 1999, the Times Square 42nd Street Project in
New York in late 1999, and the Dolphin Mall in Miami-Dade County, Florida, in
2000.
Since entering the mall food court business three years ago, the Company
has gained valuable experience, especially in the area of matching the number of
concession facilities with volume of customer traffic. The Company will leverage
this experience to new projects going forward to increase the profitability of
this segment. The Company will continue its aggressive shopping mall food court
development efforts in 1999 and in future years. For the next several years,
start-up costs are expected to be high as the Company initially expands into
this business segment.
THE DISTRIBUTION
Host Marriott Services is the successor to the food, beverage and retail
concession businesses of Host Marriott Corporation ("Host Marriott"). On
December 29, 1995 (the "Distribution Date"), Host Marriott distributed, through
a special dividend to holders of Host Marriott's common stock, 31.9 million
shares of common stock of Host Marriott Services (the Company's parent),
resulting in the division of Host Marriott's operations into two separate
companies. The shares were distributed on the basis of one share of Host
Marriott Services' common stock for every five shares of Host Marriott stock.
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RELATIONSHIP WITH HOST MARRIOTT
For purposes of governing certain of the ongoing relationships between
Host Marriott Services and Host Marriott after the Distribution and to provide
for an orderly transition, Host Marriott Services and Host Marriott entered into
various agreements, including a Distribution Agreement, an Employee Benefits
Allocation Agreement and a Transitional Services Agreement. The agreements
established certain obligations for Host Marriott Services to issue shares upon
exercise of Host Marriott warrants, which Host Marriott Services has since
fulfilled its obligation, and to issue shares or pay cash to Host Marriott upon
exercise of stock options and upon release of deferred stock awards held by
certain former employees of Host Marriott.
RELATIONSHIP WITH MARRIOTT INTERNATIONAL
On October 8, 1993 (the "MI Distribution Date"), Host Marriott distributed
through a special dividend to holders of Host Marriott common stock, all of the
outstanding shares of its wholly owned subsidiary Marriott International, Inc.
("Marriott International"). In connection with the Marriott International
distribution, Host Marriott and Marriott International entered into various
management and transitional service agreements.
In connection with the spin-off of Host Marriott Services from Host
Marriott, Host Marriott Services and Marriott International entered into several
transitional agreements, each of which is described below:
CONTINUING SERVICES AGREEMENT. This agreement provides that Host Marriott
Services will receive (i) various corporate services such as computer systems
support and telecommunication services; (ii) various procurement services, such
as developing product specifications, selecting vendors and distributors for
proprietary products and purchasing certain identified products; (iii) various
product supply and distribution services; (iv) casualty claims administration
services solely for claims which arose on or before October 8, 1993; (v)
employee benefit administration services and (vi) a sublease for Host Marriott
Services' headquarters office space. The office sublease was terminated in
February 1997 when Host Marriott Services relocated to its new corporate
headquarters.
As a part of the Continuing Services Agreement, the Company paid Marriott
International $75.4 million, $77.3 million and $76.9 million for purchases of
food and supplies and paid $8.8 million, 9.8 million and $10.7 million for
corporate support services during 1998, 1997 and 1996, respectively.
NONCOMPETITION AGREEMENT. In connection with the MI Distribution, Host
Marriott and Marriott International entered into a Noncompetition Agreement
dated October 8, 1993 (the "Noncompetition Agreement") pursuant to which Host
Marriott and its subsidiaries, including those comprising its food, beverage and
retail concession businesses (the "Operating Group"), are prohibited from
entering into, or acquiring an ownership interest in any entity that operates,
any business that (i) competes with the food and facilities management business
as currently conducted by Marriott International's wholly-owned subsidiary,
Marriott Management Services, Inc. ("MMS," with such business being referred to
as the "MMS Business"), provided that such restrictions do not apply to
businesses that constitute part of the business comprising the then Host
Marriott's Operating Group or (ii) competes with the hotel management business
as conducted by Marriott International, subject to certain exceptions. Marriott
International is prohibited from entering into, or acquiring an ownership
interest in any entity that operates, any business that competes with the
businesses comprising the then Host Marriott's Operating Group, providing that
such restrictions do not apply to businesses that constitute a part of the MMS
Business. The Noncompetition Agreement provides that the parties (including Host
Marriott Services) and any successor thereto will continue to be bound by the
terms of the agreement until October 8, 2000. On March 27, 1998, the MMS
Business became the principal business of Sodexho Marriott Services, Inc., which
was combined with the North American operations of Sodexho Alliance S.A. The
rights and duties of Host Marriott Services under the noncompetition agreement
with Marriott International were preserved in the transaction. Sodexho Marriott
Services, Inc. is now a party to the noncompetition agreement with Host Marriott
Services.
LICENSE AGREEMENT. Pursuant to the terms of a License Agreement between
Host Marriott and Marriott International dated October 8, 1993 (the "License
Agreement"), the right, title and interest in certain trademarks,
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including the "Marriott" name, were conveyed to Marriott International and Host
Marriott and its subsidiaries, including those comprising the Operating Group.
As a result, Host Marriott Services was granted a license to use such trademarks
in its corporate name and in connection with the Operating Group business
subject to certain restrictions set forth in the License Agreement. In
connection with the Distribution, Host Marriott Services and Marriott
International entered into a new License Agreement pursuant to which Host
Marriott Services and its subsidiaries, retained the license to use such
trademarks subject to the License Agreement.
COMPETITION
The Company competes with certain international, national and several
regional and local companies to obtain the rights from airport, highway and
municipal authorities, and shopping mall developers to operate food, beverage
and retail concessions. The U.S. airport food and beverage concession market is
principally serviced by several companies, including the Company, CA One
Services, Concessions International and McDonald's. The U.S. airport retail
concession industry is more fragmented. The major competitors include: Paradies
Shops, W.H. Smith, Duty Free International, DFS Group Limited and Hudson News.
The U.S. tollroad market principally is served by the Company and McDonald's,
with Hardee's holding a minor share of the segment. The shopping mall
concessions segment is fragmented and principally dominated by individual
operators. The international concession market is fragmented, with Compass Group
holding the leading market share in European airports and Canadian Airways and
Railway Association holding the leading market share in Canada.
To compete effectively, the Company regularly updates and refines its
product offerings (including the addition of branded products) and facilities.
Through these efforts, the Company strives to generate higher sales per square
foot of concession space and thereby increase returns to the Company's clients
(airport and highway authorities and mall developers) and Brand Partners, as
well as to the Company. Attaining these financial results, as well as striving
to achieve higher customer and client satisfaction levels, enhances the
Company's ability to renew contracts or obtain new contracts.
GOVERNMENT REGULATION
The Company is subject to various governmental regulations, such as
environmental, employment, health and safety regulations and regulations related
to security of airports. The Company maintains internal controls and procedures
to monitor and comply with such regulations. The cost of the Company's
compliance programs is not material.
EMPLOYEES
At January 1, 1999, the Company or its subsidiaries directly employed
approximately 24,100 employees. Approximately 6,100 of these employees are
covered by collective bargaining agreements, which are subject to review and
renewal on a regular basis. The Company has good relations with its unions and
has not experienced any material business interruption as a result of labor
disputes.
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ITEM 2. PROPERTIES
In addition to the operating properties discussed in Item 1. Business
above, Host Marriott Services leased 88,000 square feet of office space in
Bethesda, Maryland, which serves as Host Marriott Services' corporate
headquarters. The majority of the leased space is covered under an initial lease
agreement that expires on December 31, 2003 and Host Marriott Services has the
right to renew the lease for one five-year term. A second lease for certain
additional space expires on December 31, 2006.
The Company's telephone number is (301) 380-7000. Business results,
financial reports and press releases of Host Marriott Services can be obtained
via fax, mail or audio playback by dialing 1-888-380-HOST. Such information can
also be accessed on Host Marriott Services' Web Site at www.hmscorp.com on the
Internet's World Wide Web.
ITEM 3. LEGAL PROCEEDINGS
LITIGATION
The Company and its subsidiaries are from time to time involved in
litigation matters incidental to their businesses. Such litigation is not
considered by management to be significant and its resolution would not have a
material adverse effect on the financial condition or results of operations of
the Company or its subsidiaries.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS
The Company's common stock is not publicly traded.
ITEM 6. SELECTED FINANCIAL DATA
The following table presents summary selected historical financial data
derived from the Company's audited consolidated financial statements as of and
for the five most recent fiscal years ended January 1, 1999. The information in
the table should be read in conjunction with "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and the consolidated
financial statements of the Company included elsewhere herein. The Company's
fiscal year ends on the Friday closest to December 31.
<TABLE>
<CAPTION>
- ------------------------------------------------------------- ---------- ---------- ---------- ---------- ----------
1998(1) 1997(2) 1996(3) 1995(4) 1994(5)
- ------------------------------------------------------------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C>
(IN MILLIONS)
STATEMENT OF OPERATIONS DATA:
Total revenues $1,232 $1,146 $1,140 $993 $944
Operating profit 59 66 60 2 22
Income (loss) before extraordinary item 23 20 13 (42) (14)
Net income (loss) 23 20 13 (51) (14)
Dividends declared and paid to parent 6 --- --- --- ---
BALANCE SHEET DATA:
Total assets 531 500 538 473 523
Borrowings under line-of-credit agreement 12 --- --- --- ---
Total long-term debt 407 407 408 409 393
Shareholder's deficit (94) (111) (130) (150) (47)
OTHER OPERATING DATA:
Cash flows provided by operations(6) 74 46 99 46 57
Cash flows used in investing activities (104) (75) (50) (43) (32)
Cash flows provided by (used in) financing activities 3 (4) (1) 18 (29)
EBITDA(7) 119 120 110 94 85
Cash interest expense 39 39 39 40 41
- ------------------------------------------------------------- ---------- ---------- ---------- ---------- ----------
<FN>
(1) The results for 1998 included $5.9 million of write-downs of long-lived
assets and a $11.1 million tax benefit to recognize the anticipated
utilization of certain tax credits previously considered unrealizable.
(2) The results for 1997 included $4.2 million of write-downs of long-lived
assets, $3.9 million of restructuring charge reversals related to the 1995
restructuring plan and a $1.9 million tax benefit to recognize the
utilization of certain tax credits previously considered unrealizable.
(3) Fiscal year 1996 includes 53 weeks. All other years include 52 weeks.
(4) The results for 1995 included $22.0 million of write-downs of long-lived
assets (reflecting the adoption of a new accounting standard) and $14.5
million of restructuring charges related to initiatives to improve future
operating results.
(5) The results for 1994 included a $12.0 million charge for the transfer of an
unprofitable stadium concessions contract to a third party, which was
partially offset by a $4.4 million reduction in self insurance reserves for
general liability and workers' compensation claims.
(6) Cash flows provided by operations in 1996 and 1997 were affected by the
Company's transition to a new financial system. Current liabilities were
temporarily high at the end of 1996 and were reduced to seasonal levels in
1997.
(7) EBITDA consists of the sum of consolidated net income (loss), interest,
income taxes, depreciation and amortization and certain other noncash items
(principally restructuring reserves and asset write-downs, including
subsequent payments against such previously established reserves). EBITDA
data is presented because such data is used by certain investors to
determine the Company's ability to meet debt service requirements and is
used in certain debt covenant calculations required under the Senior Notes
Indenture. The Company considers EBITDA to be an indicative measure of the
Company's operating performance. EBITDA can be used to measure the
Company's ability to service debt, fund capital expenditures and expand its
business; however, such information should not be considered an alternative
to net income, operating profit, cash flows from operations, or any other
operating or liquidity performance measure prescribed by generally accepted
accounting principles. Cash expenditures for various long-term assets,
interest and income taxes have been, and will be, incurred which are not
reflected in the EBITDA presentations. In order to conform to the 1998
presentation, EBITDA has been revised for fiscal years 1994 through 1997 to
exclude interest income. The calculation of EBITDA for the Company may not
be comparable to the same calculation by other companies because the
definition of EBITDA varies throughout the industry.
</FN>
</TABLE>
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
GENERAL
On December 29, 1995, Host Marriott Services Corporation ("Host Marriott
Services") became a publicly traded company and the successor to Host Marriott
Corporation's ("Host Marriott") food, beverage and retail concession businesses
in travel and entertainment venues. On that date, 31.9 million shares of common
stock of Host Marriott Services were distributed to the holders of Host
Marriott's common stock in a special dividend (the "Distribution" - see Note
13). Host International, Inc. (the "Company") is the principal wholly-owned
subsidiary of Host Marriott Services.
The Company receives fees for managing six tollroad contracts for Host
Marriott Tollroads, Inc. ("Host Marriott Tollroads"), which is a wholly-owned
subsidiary of Host Marriott Services. Base management fees related to these
travel plaza contracts are based on a percentage of total revenues generated by
each of the travel plazas, with additional incentive management fees determined
as a percentage of available cash flow. Management fees received related to
these travel plaza concession facilities totaled $14.6 million, $13.9 million
and $13.9 million in 1998, 1997 and 1996, respectively.
Over 80% of the Company's annual revenues, excluding management fees, are
generated from operating food and beverage concessions with the remaining being
generated from news, gift and specialty retail concessions. The Company's core
operations, domestic airport and travel plaza concessions, accounted for over
90% of total 1998 revenues. The Company's diversified branded concept portfolio,
which consists of over 100 internationally known brands, regional specialty
concepts and proprietary concepts, is a unique competitive advantage in the
marketplace.
The Company's revenues and operating profit, excluding general and
administrative expenses and unusual items, have grown at a compound annual
growth rate ("CAGR") of 4.0% and 4.7% over the past three years (including
management fees). Revenue growth has been driven primarily by increased customer
traffic in airports and on tollroads, improvements in product offerings through
the introduction of branded concepts, moderate increases in menu prices and
success in winning new business and retaining contracts in core markets. Despite
the growth in revenues, operating profit margins were constrained in 1998 by the
slowdown in the Asian economy, the Northwest Airlines pilots' strike, short-term
business disruptions due to facility construction, Year 2000 costs, tightening
labor markets and the addition of several new concepts with higher cost of
sales. The lowering of menu prices as part of several large new contract
renewals during 1998 also negatively affected margins.
The Company's airport segment, which includes domestic and international
airports as well as food, beverage, gift and news retail outlets in off-airport
locations, contributed approximately 83.5% of the Company's total revenues in
fiscal year 1998. Airport segment revenues and operating profit, before general
and administrative expenses and unusual items, have grown at a CAGR of 3.4% and
4.1%, respectively, over the last three years.
The Company's travel plazas concessions contributed approximately 14.7% of
the Company's total revenues in fiscal year 1998 (including management fees).
Since 1996, travel plazas revenues and operating profit, before general and
administrative expenses and unusual items, have grown at a CAGR of 1.9% and
10.7%, respectively, including management fees.
The remaining 1.8% of the Company's 1998 revenues were generated from the
operation of food court facilities at shopping malls. Shopping mall revenues
have grown significantly since the Company entered this start-up business and
began operations at its first mall food court in 1996. Since that time, two mall
contracts were added in 1997 and two additional contracts were added in 1998.
The operating profit, excluding general and administrative expenses and unusual
items, has been constrained by pre-opening expenses of new mall projects,
start-up inefficiencies and lower than anticipated operating performance at two
locations.
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Certain minor reclassifications were made to the 1997 and 1996 financial
information to conform to the 1998 presentation.
1998 COMPARED TO 1997
REVENUES
Revenues for the year ended January 1, 1999 increased by 7.5% to $1,232.0
million compared with revenues of $1,146.3 million for the year ended January 2,
1998. Revenues were driven by strong growth in domestic airport food and
beverage concessions, particularly from sales at locations recently opening new
branded concepts. An increase in enplanements, customer traffic on tollroads,
the opening of two new mall contracts in the fourth quarter of 1997 and the
conversion of the Miami International Airport contract from a management
agreement to an operating agreement during the second quarter of 1998 all
contributed to overall revenue growth.
AIRPORTS
Airport segment revenues increased 7.5% to $1,028.8 million in 1998 from
$956.7 million a year ago.
Airport concession revenues were up $72.0 million, or 7.9%, to $985.5
million for fiscal year 1998. Domestic airport concession revenues grew 8.1%, to
$918.6 million for 1998, with passenger enplanements up an estimated 1.7% over
last year and revenue per enplaned passenger up 6.3%. RPE is the primary measure
of how effective the Company is at capturing potential customers and increasing
customer spending. Moderate increases in menu prices, the opening of new branded
concepts at a number of the Company's larger locations, including Miami, Los
Angeles, San Francisco, Minneapolis and Cleveland, and various real estate
maximization efforts contributed to the growth in RPE. International airport
revenues were up 5.2% to $66.9 million. The opening of the Company's operations
at the Montreal International Airport - Dorval in Canada during 1997 contributed
to the increase in international airport revenues. International results were
affected by exchange rate fluctuations and by weaker enplanements stemming from
the slowdown in the Asian economy. The slowdown in the Asian economy has also
had a negative impact on a number of the Company's duty-free operations in
several key gateway airports in the United States.
Revenues in off-airport locations increased slightly to $43.3 million in
1998 from $43.2 million in 1997.
TRAVEL PLAZAS
Travel plaza concession revenues for 1998 were up 3.9% to $166.5 million.
In addition, travel plaza management fee income for 1998 was $14.6 million
compared with $13.9 million in 1997. Revenue growth benefited from increased
tollroad traffic due to low gasoline prices, moderate increases in menu prices
and the introduction of several new branded concepts to selected locations,
including Starbucks Coffee and Pizza Hut Express. Travel plazas, including
management fees received, consistently produce a significant portion of the
Company's overall cash flow, contributing approximately 21% and 20% of total
operating cash flow in 1998 and 1997, respectively.
SHOPPING MALLS
Shopping mall food court concession revenues increased $6.7 million to
$22.1 million in 1998. This increase in revenues was a result of the Company's
continued expansion into shopping mall food court concessions. The Company's
entry into this start-up business has not been without challenges. Results were
below expectations at one regional mall project where the operating real estate
is being phased in to the Company over several years.
During 1998, the Company opened its fourth food court concessions location
at the Independence Center Mall near Kansas City, Missouri, and its fifth food
court concessions location at the Leesburg Corner Premium Outlets in Leesburg,
Virginia. Also during 1998, the Company announced that it reached an agreement
with Forest City Ratner Companies to develop and manage food and beverage
operations at the 42nd Street Entertainment and Retail Project located in New
York's Times Square; a deal with The Taubman Company to operate the food and
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beverage concessions at MacArthur Center in Norfolk, Virginia; a deal with
Glimcher Realty Trust to operate the food and beverage concessions at Jersey
Gardens Mall in Elizabeth, New Jersey; and a deal with Michael Swerdlow
Companies, Inc. to operate the food and beverage concessions at Dolphin Mall in
Miami-Dade County, Florida.
OPERATING COSTS AND EXPENSES
The Company's total operating costs and expenses increased to 95.2% of
total revenues compared with 94.2% of total revenues in 1997. The operating
profit margin decreased to 4.8% in 1998 compared with 5.8% in 1997 and reflects
a 60 basis point increase in the cost of sales margin and a 60 basis point
increase in the payroll margin. Further constraints on the operating profit
margin include significant facility construction at several key airports,
shopping mall start-up activities and Year 2000 costs. Several initiatives are
under way to focus on loss prevention, recruiting and associate selection,
development and training. The Company is also evaluating new ways to better
leverage its size through technology and process changes.
Cost of sales increased 9.9% above last year to $362.2 million, reflecting
a 60 basis point increase in the cost of sales margin, which totaled 29.4%. The
margins are influenced by a mix shift to higher cost of product concepts, such
as Starbucks, and the lowering of menu prices as part of large new contract
renewals in 1998. In addition, the Company experienced commodity cost increases
in produce, premium coffee beans and dairy products when comparing 1998 and
1997.
Payroll and benefits totaled $371.5 million during 1998, a 9.8% increase
over 1997. Payroll and benefits as a percentage of total revenues increased 60
basis points to 30.2%. The increase in the payroll and benefits margin reflects
the impact of the Northwest Airline's pilots strike, which, despite the
Company's short-term layoffs, more than offset benefits from the use of labor
scheduling software and the implementation of store manager training programs.
In addition, payroll margins increased due to construction of new concessions at
several airports and to slight tightening in local labor markets.
Rent expense totaled $188.9 million for 1998, an increase of 4.7% from
1997. Rent expense as a percentage of total revenues decreased 40 basis points
in 1998 to 15.3%. Contract rent expense determined as a percentage of revenues
decreased during 1998 and can be attributed to sales increases on contracts with
fixed rental rates and new or renewed contracts with favorable rent margins.
Royalties expense for 1998 increased by 13.7% to $25.7 million. As a
percentage of total revenues, royalties expense increased 10 basis points to
2.1%. The increase in royalties expense reflects the Company's continued
introduction of branded concepts to its airport concessions operations and the
continued expansion into the heavily branded shopping mall food court
concessions business. Royalties expense as a percentage of branded sales
averaged 6.0% in 1998 compared with 6.3% in 1997, reflecting the addition of
branded concepts with lower-than-average royalty percentages. Branded facilities
generate higher sales per square foot, contribute toward increased RPE, and
position the Company to win and retain concession contracts.
Depreciation and amortization expense, excluding $2.0 million of corporate
depreciation on property and equipment, which is included as a component of
general and administrative expenses, was $51.8 million for 1998, up 5.5%,
excluding $1.7 million of corporate depreciation on property and equipment for
1997. Increased depreciation related to contract extensions, the buildout of new
branded locations and amortization of pre-opening costs for new mall contracts
was partially offset by lower depreciation related to the write-down of one
impaired airport unit in the fourth quarter of 1997.
General and administrative expenses were $58.0 million for 1998, an
increase of 6.8%. Approximately half of the increase related to $1.1 million in
external costs and approximately $0.8 million of internal costs relating to the
Company's Year 2000 compliance program. The level of corporate expenses incurred
during 1998 also reflects increased costs related to annual salary increases and
some additional corporate resources to focus on growth initiatives in the
Company's core markets and new venues.
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<PAGE>
Other operating expenses, which include utilities, casualty insurance,
equipment maintenance, trash removal and other miscellaneous expenses, increased
3.5% to $109.2 million total for 1998. Other operating expenses as a percentage
of total revenues decreased 30 basis points and reflects operating leverage from
revenue growth.
UNUSUAL ITEMS
> During 1998, the Company determined that its investment in an internally
used software system was partially impaired because all of the purchased
modules of the system that were originally intended to provide operating
efficiencies could not be fully implemented. As a result, the Company
recorded a partial write-down of $3.5 million of the remaining $5.5 million
book value of the system. Also during 1998, the Company determined that its
investment in a shopping mall food court contract was fully impaired and
recorded a write-down of $2.4 million. The food court contract was a
regional mall where the operating real estate under the contract is being
phased in to the Company over several years. Customer traffic and capture
rates at this mall were well below the Company's expectations and
insufficient to support the number of concepts developed (see "Impairments
of Long-Lived Assets").
During 1997, an operating cash flow analysis of one airport concession
contract revealed that the Company's investment was partially impaired,
resulting in a $4.2 million write-down. The partial impairment was the
result of construction cost overruns, airline traffic shifts and weak
operating performance. Since the time of the write-down, two major airlines
have increased their presence at this location, resulting in significant
unexpected enplanement growth. Accordingly, the outlook for 1999 and beyond
for this airport location is very positive.
> During 1998 and 1997, the Company recognized the expected utilization of
$11.1 million and $1.9 million, respectively, of certain tax credits
previously considered unrealizable, resulting in a reduction in the
deferred tax asset valuation allowance.
> The 1997 results include a $3.9 million reversal of substantially all of
the remaining restructuring reserves to reflect the conclusion of the
restructuring plan created in 1995 (see "1995 Restructuring").
OPERATING PROFIT
Operating profit, excluding unusual items, decreased 2.6% to $64.7 million.
The overall operating profit margin, excluding general and administrative
expenses and unusual items, decreased to 10.0% in 1998 compared with 10.5% in
1997. This decrease was largely due to the negative effects of the Northwest
Airlines' strike and the Asian economic slowdown. The remaining decrease in the
operating profit margin resulted from increases in the cost of sales and payroll
margins, offset by lower rent and other operating cost margins. Operating
profits for airports, prior to the allocation of corporate general and
administrative expenses and excluding unusual items, were $99.2 million and
$98.1 million for 1998 and 1997, respectively. Operating profits for travel
plazas, excluding general and administrative expenses and unusual items, were
$24.5 million and $21.3 million for 1998 and 1997, respectively. Operating loss
for the shopping mall segment, excluding general and administrative expenses and
unusual items, totaled $1.0 million in 1998 compared with operating profits of
$1.3 million for 1997.
The airport segment operating profit margin, excluding general and
administrative expenses and unusual items, showed a 70 basis point reduction for
1998 and totaled 9.6%. The travel plazas operating profit margin, excluding
general and administrative expenses and unusual items, increased to 13.5% in
1998 from 12.2% in 1997. The shopping mall segment operating loss margin,
excluding general and administrative expenses and unusual items, was 4.5% for
1998 compared with an operating profit margin of 8.4% in 1997. The operating
loss in 1998 can be attributed to $1.2 million in pre-opening expenses of new
mall projects and start-up inefficiencies; however, the Company also experienced
lower than anticipated operating performance at two locations.
INTEREST EXPENSE
Interest expense was $39.9 million for 1998 compared with $39.8 million for
1997. The minimal variance reflects the 9.5% fixed rate of interest on the $400
million of Senior Notes.
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INTEREST INCOME
Interest income decreased $1.3 million to $1.7 million for 1998. Cash
balances during 1998 were lower due to the increased level of capital
expenditures as well as share repurchases. Cash balances during the first
quarter of 1997 were temporarily higher due to a transition to a new financial
system at year-end 1996. This transition resulted in beginning cash balances
being higher than the Company's normal seasonal level. The 1997 results included
$0.4 million of non-recurring interest income relating to a negotiated agreement
with an Airport Authority which reimbursed the Company for the cost of funding
certain capital improvements. The 1997 interest income also reflected slightly
higher short-term interest rates during 1997.
INCOME TAXES
The benefit for income taxes for 1998 totaled $2.5 million compared with a
provision for income taxes of $9.7 million for 1997. The effective tax rate was
(12.2)% and 33.0% for 1998 and 1997, respectively. The effective tax rates
reflect the recognition of $11.1 million and $1.9 million of certain purchase
business combination tax credits previously considered unrealizable in 1998 and
1997, respectively. (see "Deferred Tax Assets")
NET INCOME
The Company's net income increased 17.9% to $23.1 million. This increase
reflects the benefit from recognizing certain tax credits previously thought to
be unrealizable, which was offset by a decrease in operating profit, write-downs
of certain long-lived assets and lower interest income.
1997 COMPARED TO 1996
REVENUES
Revenues for the year ended January 2, 1998, which included 52 weeks of
operations, increased by $6.6 million to $1,146.3 million compared with revenues
of $1,139.7 million for the year ended January 3, 1997, which included 53 weeks
of operations.
AIRPORTS
Airport segment revenues decreased $6.0 million to $956.7 million in 1997
from $962.7 million in 1996 and can be attributed to the expiration of an
off-airport food and beverage contract and the planned exit from several
off-airport retail contracts in late 1996.
Airport concessions revenues were up $2.0 million to $913.5 million for
1997. Domestic airport concession revenues decreased by 0.6%, to $849.9 million
for 1997 and international airport revenues were up 13.0% to $63.6 million in
1997. The opening of the Company's operations at the Montreal International
Airport - Dorval in Canada during 1997 contributed to the increase in
international airport revenues, which was partially offset by the negative
impact of exchange rate fluctuations in 1997.
Comparable domestic airport contracts exclude the negative impact of
several contracts with significant changes in scope of operation, contracts
undergoing significant construction of new facilities and the positive impact of
new contracts. Revenue growth at comparable domestic airport locations, which
comprise over 90% of total airport revenues, grew a solid 5.9% and reflects an
estimated 3.7% growth in passenger enplanements and 2.2% growth in revenue per
enplaned passenger ("RPE"), excluding an additional week of operations in 1996
(see "Accounting Period"). The growth in RPE can be attributed to the continued
addition of branded locations, selective moderate increases in menu prices and
various real estate maximization efforts. Airport revenue growth was achieved
despite construction projects in several comparable domestic airport locations,
including Cleveland, Los Angeles and Minneapolis, where the Company introduced
branded concepts. Revenues also increased despite the benefit of severe winter
weather in 1996, which caused air traffic delays, contributing to the Company's
airport sales in that year.
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<PAGE>
Off-airport concessions revenues were $43.2 million and $51.2 million in
1997 and 1996, respectively. This decrease reflects the expiration of a food and
beverage contract and the Company's planned exit from several retail contracts
in late 1996.
TRAVEL PLAZAS
Travel plaza concession revenues for 1997 were $160.3 million, level with
1996. In addition, travel plaza management fee income for 1997 was $13.9 million
compared with $13.9 million for 1996. Traffic growth and moderate price
increases were offset by one less week of operations during 1997, as well as a
slight decrease in revenues per vehicle. Travel plazas, including management
fees received, consistently produce a significant portion of the Company's
overall cash flow, contributing approximately 20% of total operating cash flow
in 1997.
SHOPPING MALLS
Shopping mall concession revenues increased $12.7 million to $15.4 million
in 1997. This increase in revenues was a result of the Company's continued
expansion into shopping mall food court concessions. During 1997, the Company
opened its second food court concessions location at the Grapevine Mills Mall
near Dallas/Fort Worth, and its third food court concessions location at the
Vista Ridge Mall in Lewisville, Texas (just outside of the Dallas/Fort Worth
area).
OPERATING COSTS AND EXPENSES
The Company's total operating costs and expenses decreased to 94.2% of
total revenues compared with 94.7% of total revenues in 1996. The improved
operating profit margin of 5.8% in 1997 compared with 5.3% in 1996 reflects the
implementation of several operating initiatives, resulting in a 70 basis point
improvement in the cost of sales margin.
Cost of sales decreased $6.3 million, or 1.9%, below last year. During
1997, the Company benefited from its customer service and operating excellence
initiatives. These initiatives include the rollout of the Store Manager concept;
the creation of the StoreCard reporting system and the implementation of Labor
Pro software; the renegotiation of all distributor agreements for books and
magazines in 1996 in the Company's airports and travel plazas; as well as the
Brand Champion Program.
Payroll and benefits totaled $338.4 million during 1997, a 1.0% increase
over 1996. Payroll and benefits as a percentage of total revenues increased
slightly to 29.5% as a result of initiatives put in place to increase revenues
and decrease other cost areas.
Rent expense totaled $180.4 million for 1997, a decrease of $0.5 million
from 1996. Rent expense as a percentage of total revenues decreased 20 basis
points in 1997 to 15.7%. Contract rent expense determined as a percentage of
revenues decreased during 1997, offset by increased rent from equipment rentals.
The increase in equipment rent was due to the continued rollout of new computer
technology to the Company's airport operating units.
Royalties expense for 1997 increased by 9.2% to $22.6 million. As a
percentage of total revenues, royalties expense increased 20 basis points to
2.0%. The increase in royalties expense reflects the Company's continued
introduction of branded concepts to its airport concessions operations.
Royalties expense as a percentage of branded sales averaged 6.3% in 1997
compared with 6.8% in 1996. Branded facilities generate higher sales per square
foot and contribute toward increased RPE, which offset royalty payments required
to operate the concepts.
Depreciation and amortization expense, excluding $1.7 million of corporate
depreciation on property and equipment, which is included as a component of
general and administrative expenses, was $49.1 million for 1997, down 1.2%,
excluding $0.7 million of corporate depreciation on property and equipment for
1996.
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General and administrative expenses were $54.3 million for 1997, an
increase of 4.8%. The level of corporate expenses incurred during 1997 reflect
increased costs related to additional corporate resources in operations,
finance, business development and strategic planning and marketing to focus on
growth initiatives in the Company's core markets and new venues. Higher
corporate depreciation expense associated with the new headquarters and
financial system also contributed substantially to the increases in general and
administrative expenses.
Other operating expenses, which include utilities, casualty insurance,
equipment maintenance, trash removal and other miscellaneous expenses, remained
relatively flat at $105.5 million total for 1997. Other operating expenses as a
percentage of total revenues decreased 10 basis points.
UNUSUAL ITEMS
> The 1997 results include a $3.9 million reversal of substantially all of
the remaining restructuring reserves to reflect the conclusion of the
restructuring plan created in 1995 (see "1995 Restructuring").
> During 1997, an operating cash flow analysis of one airport unit in which
the Company was obligated to add new facilities revealed that the Company's
investment was partially impaired, resulting in a $4.2 million write-down.
The partial impairment was the result of construction cost overruns,
airline traffic shifts and weak operating performance (see "Impairments of
Long-Lived Assets").
> The Company recognized the utilization of $1.9 million of certain tax
credits previously considered unrealizable during 1997, resulting in a
reduction in the deferred tax asset valuation allowance.
OPERATING PROFIT
Operating profit increased 10.0% to $66.1 million. The overall operating
profit margin, excluding general and administrative expenses and unusual items,
increased to 10.5% in 1997 compared with 9.8% in 1996, primarily reflecting the
70 basis point improvement in the cost of sales margin. Operating profits for
the airport segment, prior to the allocation of corporate general and
administrative expenses and excluding unusual items, were $98.1 million and
$91.6 million for 1997 and 1996, respectively. Operating profits for travel
plazas, excluding general and administrative expenses and unusual items, were
$21.3 million and $20.0 million for 1997 and 1996, respectively. Operating
profits for the shopping mall segment, excluding general and administrative
expenses and unusual items, totaled $1.3 million and $0.3 million for 1997 and
1996, respectively.
The airport segment operating profit margins, excluding general and
administrative expenses and unusual items, showed a 80 basis point improvement
for 1997 and totaled 10.3%. The travel plazas operating profit margins,
excluding general and administrative expenses and unusual items, increased 70
basis points to 12.2% in 1997. The shopping mall segment operating profit
margin, excluding general and administrative expenses and unusual items,
decreased to 8.4% for 1997 compared with 11.1% in 1996.
INTEREST EXPENSE
Interest expense was $39.8 million for 1997 compared with $40.3 million for
1996. The slight decrease in interest expense reflects the continuing principal
reduction in the Company's other long-term debt.
INTEREST INCOME
Interest income increased $0.6 million to $3.0 million for 1997. Cash
balances during the first quarter of 1997 were temporarily higher due to a
transition to a new financial system at year-end 1996. This transition resulted
in beginning cash balances being higher than the Company's normal seasonal
level. The 1997 results included $0.4 million of non-recurring interest income
relating to a negotiated agreement with an Airport Authority that reimbursed the
Company for the cost of funding certain capital improvements. Also contributing
to the increase in interest income were slightly higher short-term interest
rates and the Company's increased cash balances in interest-bearing accounts
during 1997.
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INCOME TAXES
The provision for income taxes for 1997 and 1996 was $9.7 million and $9.3
million, respectively. Overall, the effective tax rate declined for 1997 to
33.0% from 41.9% in 1996. The lower effective tax rate reflects a $1.9 million
benefit to recognize certain tax credits that were previously considered
unrealizable and a reduced state tax provision. The 1996 results include a $5.2
million decrease in the valuation allowance due to the decrease in the state
effective tax rate and the expiration of purchase business combination tax
credits.
NET INCOME
The Company's net income increased 51.9% to $19.6 million. This increase
reflects strong growth in operating profits, an increase in interest income and
a lower effective tax rate.
LIQUIDITY AND CAPITAL RESOURCES
Historically, the Company has funded its ongoing capital expenditures,
debt-service requirements and treasury purchases from cash flow generated from
ongoing operations and current cash balances. The Company has more recently
drawn on existing credit facilities to fund increased capital spending. In 1999,
the Company anticipates using the same sources. However, should significant
growth opportunities arise, such as business combinations or contract
acquisitions, alternative financing arrangements will be evaluated and
considered.
In May 1995, the predecessor corporation to the Company issued $400.0
million of Senior Notes, which are now obligations of the Company. The Senior
Notes, which will mature in May 2005, were issued at par and have a fixed coupon
rate of 9.5%. The Senior Notes can be called beginning in May 2000 at a price of
103.56%, declining to par in May 2003. Since 1996, the Company's cash interest
coverage ratio has improved from 2.9 to 1.0 to 3.1 to 1.0 in 1998.
The Company is required to make semi-annual cash interest payments on the
Senior Notes at a fixed interest rate of 9.5%. The Company is not required to
make principal payments on the Senior Notes until maturity except in the event
of (i) certain changes in control or (ii) certain asset sales in which the
proceeds are not invested in other properties within a specified period of time.
The Senior Notes are secured by a pledge of stock and are fully and
unconditionally guaranteed (limited only to the extent necessary to avoid such
guarantees being considered a fraudulent conveyance under applicable law), on a
joint and several basis by certain subsidiaries (the "Guarantors") of the
Company. The Senior Notes Indenture contains covenants that, among other things,
limit the ability of the Company and certain of its subsidiaries to incur
additional indebtedness and issue preferred stock, pay dividends or make other
distributions, repurchase capital stock or subordinated indebtedness, create
certain liens, enter into certain transactions with affiliates, sell certain
assets, issue or sell capital stock of the Guarantors, and enter into certain
mergers and consolidations.
The First National Bank of Chicago, as agent for a group of participating
lenders, has provided credit facilities ("Facilities") to the Company consisting
of a $75.0 million revolving credit facility (the "Revolver Facility") and a
$25.0 million letter of credit facility. The revolving credit facility provides
for working capital and can be used for general corporate purposes other than
hostile acquisitions. At the end of 1998, the Company had drawn $11.6 million of
outstanding indebtedness under the revolving credit facility at an average
interest rate of 7.77%. All borrowings under the Facilities are senior
obligations of the Company and are secured by Host Marriott Services' pledge of,
and a first perfected security interest in, all of the capital stock of the
Company and certain of its subsidiaries.
The loan agreements relating to the Facilities contain dividend and stock
retirement covenants that are substantially similar to those set forth in the
Senior Notes Indenture, and provide that dividends payable to Host Marriott
Services are limited to 25% of the Company's consolidated net income, as defined
in the loan agreements. During 1998 and in compliance with the Facilities, the
Company paid $5.6 million of dividends to Host Marriott Services. The loan
agreements also contain certain financial ratio and capital expenditure
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<PAGE>
covenants. Any indebtedness outstanding under the Facilities may be declared due
and payable upon the occurrence of certain events of default, including the
Company's failure to comply with the several covenants noted above, or the
occurrence of certain events of default under the Senior Notes Indenture. As of
January 1, 1999, and throughout the two fiscal years ended January 1, 1999, the
Company was in compliance with the covenants described above.
The Company's cash flows from operating activities are affected by
seasonality. Cash from operations generally is the strongest in the summer
months between Memorial Day and Labor Day. Cash provided by operations, before
changes in working capital and deferred income taxes, totaled $88.1 million for
1998, $78.1 million for 1997 and $68.4 million for 1996, respectively.
The primary uses of cash in investing activities consist of capital
expenditures and acquisitions. The Company incurs capital expenditures to build
out new facilities, including growth initiatives, to expand or reposition
existing facilities and to maintain the quality and operations of existing
facilities. The Company's capital expenditures in 1998, 1997 and 1996 totaled
$95.6 million, $66.0 million and $54.9 million, respectively. During 1999, the
Company expects to make capital expenditure investments of approximately $81.0
million in its core markets (domestic airport and travel plaza business lines)
and $35.0 million in growth markets (international airports and food courts in
shopping malls). Over the long term, capital expenditures in core markets have
ranged from below 3% to nearly 10% of revenues, with a median of approximately
4%. The Company's recent success in winning new contracts and renewing existing
ones, which extended the Company's overall weighted-average contract lives, has
resulted in 1998 capital expenditures as a percentage of revenues at the upper
end of the historic range. Multi-year construction projects at these recently
renewed and new contracts are expected to result in capital expenditures of
approximately 7% of revenues in 1999. In 2000, the Company expects capital
expenditures in its core markets to begin to decline reaching approximately 5%
of revenues in 2001.
The Company's cash provided by financing activities in 1998 was $3.0
million compared with cash used in financing activities of $4.0 million and $0.8
million in 1997 and 1996, respectively. Cash provided by financing activities in
1998 included cash inflows from the line-of-credit borrowings totaling $11.6
million and proceeds from the issuance of debt of $1.4 million, offset by $5.6
million of dividends paid to Host Marriott Services, a $3.5 million payment of
the Company's obligation to pay for the 1997 exercise of nonqualified stock
options and the 1997 release of deferred stock incentive shares held by certain
former employees of Host Marriott corporation as well as $1.1 million of debt
repayments.
Cash used in financing activities during 1997 consisted of a $2.2 million
payment in settlement of the Company's obligation to pay for the 1996 exercise
of nonqualified stock options and the 1996 release of deferred stock incentive
shares held by certain former employees of Host Marriott Corporation and $1.7
million of debt repayments.
The Company manages its working capital throughout the year to effectively
maximize the financial returns to the Company. If needed, the Company's Revolver
Facility provides funds for liquidity, seasonal borrowing needs, increased
capital spending and other general corporate purposes. In the fourth quarter of
1996, the Company transitioned to a new financial system. As a result of the
transition, the Company experienced temporarily high balances in cash and cash
equivalents and current liabilities at year-end 1996 and encountered
systems-related issues. During 1997, the Company reduced its cash and cash
equivalents and current liabilities balances to seasonal levels and worked to
resolve other systems issues.
The Company's consolidated earnings before interest, taxes, depreciation,
amortization and other non-cash items ("EBITDA") was $119.0 million in 1998
compared with $119.9 million and $110.0 million in 1997 and 1996, respectively.
The EBITDA margin decreased 80 basis points to 9.7% of revenues from 10.5% in
1997 and 9.7% in 1996. The Company's cash interest coverage ratio (defined as
EBITDA to interest expense less amortization of deferred financing costs) was
3.1 to 1.0 in 1998 compared with 3.2 to 1.0 in 1997 and 2.9 to 1.0 for 1996.
EBITDA during 1998 exceeded capital expenditures of $95.6 million. The Company
considers EBITDA to be a meaningful measure for assessing operating performance.
EBITDA can be used to measure the Company's ability to service debt, fund
capital investments and expand its business. EBITDA information should
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not be considered an alternative to net income, operating profit, cash flows
from operations, or any other operating or liquidity performance measure
recognized by Generally Accepted Accounting Principles ("GAAP"). The calculation
of EBITDA for the Company may not be comparable to the same calculation by other
companies because the definition of EBITDA varies throughout the industry.
The following is a reconciliation of net income to EBITDA:
<TABLE>
<CAPTION>
---------------------------------------------------- -------------- -------------- ---------------
1998 1997 1996
---------------------------------------------------- -------------- -------------- ---------------
(IN MILLIONS)
<S> <C> <C> <C>
NET INCOME $ 23.1 $ 19.6 $ 12.9
Interest, net 38.2 36.8 37.9
(Benefit) provision for income taxes (2.5) 9.7 9.3
Depreciation and amortization 53.8 50.8 50.4
Unusual items, net 5.9 0.3 ---
Other non-cash items 0.5 2.7 (0.5)
---------------------------------------------------- -------------- -------------- ---------------
EBITDA $ 119.0 $ 119.9 $ 110.0
---------------------------------------------------- -------------- -------------- ---------------
</TABLE>
The Senior Notes Indenture and the Facilities require interest income to be
included in the EBITDA calculation. Under this definition, EBITDA totaled $120.7
million, $122.9 million and $112.4 million for 1998, 1997 and 1996,
respectively.
IMPAIRMENTS OF LONG-LIVED ASSETS
The Company reviews its long-lived assets (such as property and equipment)
and certain identifiable intangible assets for impairment whenever events or
circumstances indicate that the carrying value of an asset may not be
recoverable. If the sum of the undiscounted estimated future cash flows of an
asset is less than the carrying value of the asset, an impairment loss equal to
the difference between the carrying value and the fair value of the asset is
recognized. Fair value is estimated to be the present value of expected future
cash flows, as determined by management, after considering such factors as
future air travel and toll-paying vehicle data and inflation.
During 1998, the Company determined that its investment in an internally
used software system was partially impaired because all of the purchased modules
of the system that were originally intended to provide operating efficiencies
could not be fully implemented. As a result, the Company recorded a partial
write-down of $3.5 million of the remaining book value of the system of $5.5
million. The Company also determined that its investment in a shopping mall food
court contract was fully impaired and recorded a write-down of $2.4 million. The
food court contract is a regional mall where the operating real estate under the
contract is being phased in to the Company over several years. Customer traffic
and capture rates at this mall were well below the Company's expectations and
insufficient to support the number of concepts developed.
During 1997, an operating cash flow analysis of one airport unit in which
the Company was obligated to add new facilities revealed that the Company's
investment was partially impaired, resulting in a $4.2 million write-down. The
partial impairment was the result of construction cost overruns, airline traffic
shifts and weak operating performance. Since the time of the write-down, two
major airlines have increased their presence at this location, resulting in
significant unexpected enplanement growth. Accordingly, the outlook for 1999 and
beyond for this airport location is very positive.
1995 RESTRUCTURING
Management approved a formal restructuring plan in October 1995 and the
Company recorded a pretax restructuring charge to earnings of $14.5 million in
the fourth quarter of 1995. The restructuring charge was primarily comprised of
involuntary employee termination benefits (related to its realignment of
operational responsibilities) and lease cancellation penalty fees and related
costs resulting from the Company's plan to exit certain activities in its
entertainment venues. In the fourth quarter of 1997, the Company concluded the
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<PAGE>
restructuring plan and reversed substantially all of the remaining restructuring
reserve, which resulted in a $3.9 million pretax reduction of other operating
expenses.
DEFERRED TAX ASSETS
The Company has recognized net assets of $79.7 million and $68.2 million at
January 1, 1999 and January 2, 1998, respectively, related to deferred taxes,
which generally represent tax credit carryforwards and tax effects of future
available deductions from taxable income. During 1998, the Company recognized
$11.1 million of certain purchase business combination tax credits, previously
believed unrealizable and reduced the valuation allowance established against
these credits to reflect their probable utilization. The purchase business tax
credits carryforwards and the related valuation allowance was further reduced by
$1.5 million due to adjustments by the Internal Revenue Service. During 1997,
the Company recognized the utilization of $1.9 million of certain purchase
business combination tax credits previously believed unrealizable, reducing the
valuation allowance.
Management has considered various factors as described below and believes
that the Company's recognized net deferred tax assets are more likely than not
to be realized.
Realization of the net deferred tax assets are dependent on the Company's
ability to generate future taxable income. During the period 1995 to 1998, the
Company would have generated taxable and pretax book income in each year and
cumulative taxable and pretax book income for this period of $142.0 million and
$74.8 million, respectively, after adjusting for the pro forma effects of
certain transfers related to the Distribution and for unusual income and
charges. The relationship of pretax book income and taxable income is expected
to continue indefinitely, with future originating temporary differences
offsetting the reversal of existing temporary differences. The Company's
deferred tax assets primarily relate to temporary differences for property and
equipment, accrued rent and reserves and to alternative minimum tax and general
business tax credit carryforwards. All of these items represent future
reductions in the Company's regular tax liabilities.
Management believes that it is more likely than not that future taxable
income will be sufficient to realize the net deferred tax assets recorded at
January 1, 1999 and January 2, 1998. Management anticipates that increases in
taxable income will arise in future periods primarily as a result of the
business strategies discussed herein (see "Item 1. Business - Business
Strategy") and reduced operating costs resulting from the ongoing restructuring
of the Company's business processes. The anticipated improvement in operating
results is expected to increase the taxable income base to a level which would
allow realization of the existing net deferred tax assets within eight to twelve
years.
Future levels of operating income and other taxable gains are dependent
upon general economic and industry conditions, including airport and tollroad
traffic, inflation, competition and demand for development of concepts, and
other factors beyond the Company's control. No assurance can be given that
sufficient taxable income will be generated for full utilization of these tax
credits and deductible temporary differences. Management has considered the
above factors in reaching its conclusion that it is more likely than not that
operating income will be sufficient to utilize these deferred deductions fully.
The amount of the net deferred tax assets considered realizable, however, could
be reduced if estimates of future taxable income are not achieved.
SHAREHOLDER'S DEFICIT
The level of long-term debt distributed to the Company in connection with
its spin-off from Host Marriott was based on the Company's ability to generate
sufficient operating cash flow to service the Senior Notes. The level of
distributed long-term debt resulted in the Company reflecting a shareholder's
deficit of $94.4 million and $111.3 million as of January 1, 1999 and January 2,
1998, respectively.
INFLATION
The Company's expenses are affected by inflation. While price increases
generally can be instituted as inflation occurs, most contracts require landlord
approval before prices can be increased, which may temporarily
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<PAGE>
have an adverse impact on profit margins. Management believes that over time,
however, the Company will be able to raise prices and sustain profit margins.
ACCOUNTING PERIOD
The Company's 1998 and 1997 fiscal years contained 52 weeks, while the 1996
fiscal year contained 53 weeks. The Company's fiscal year ends on the Friday
nearest to December 31.
RISK FACTORS AND FORWARD-LOOKING STATEMENTS
This report, the Company's other reports filed with the Securities and
Exchange Commission or furnished to shareholders and its public statements and
press releases may contain "forward-looking statements" within the meaning of
the federal securities laws, including statements concerning the Company's
outlook for 1999 and beyond; the growth in total revenue and earnings in 1999
and subsequent years; the amount of additional revenues expected from new
domestic and international shopping mall food court and airport contracts that
were added in 1997 or 1998 or that are expected to be added or renewed in 1999
and subsequent years; efforts and expectations relating to Year 2000 compliance;
anticipated retention rates of existing contracts in core business lines;
capital spending plans; projected cash flows from certain operating units;
business strategies and their anticipated results; and similar statements
concerning future events and expectations that are not historical facts.
These forward-looking statements are subject to numerous risks and
uncertainties, including the effects of seasonality, airline and tollroad
industry fundamentals and general economic conditions (including commodity
prices and the current economic downturn in Asia), competitive forces within the
food, beverage and retail concessions industries, the availability of cash flow
to fund future capital expenditures, government regulation and the potential
adverse impact of union labor strikes and the Year 2000 issue on operations.
Forward-looking statements are inherently uncertain, and investors must
recognize that actual results could differ materially from those expressed or
implied by the statements.
SEASONALITY. The Company's revenues and operating profit margins have
varied, and are expected to continue to vary, significantly from quarter to
quarter as a result of seasonal traffic patterns. The Company's business is
seasonal in nature, with the highest vacation traffic taking place during the
peak summer travel months, particularly between Memorial Day and Labor Day.
Results of operations for any particular quarter may not be indicative of
results of operations for future periods.
INDUSTRY FUNDAMENTALS AND GENERAL ECONOMIC CONDITIONS. The Company could be
adversely impacted during inflationary periods. If operating expenses increase
in the future due to inflation, the Company can recover some of the increased
costs by increasing menu prices. However, most contracts require landlord
approval before prices can be increased, which could reduce profit margins. In
addition, a significant recession could reduce air travel or cause users of the
Company's facilities to cancel, reduce or postpone their use of the facilities
or cause patrons to reduce their spending on food, beverage and merchandise
while at such facilities.
COMPETITIVE FORCES. The food and beverage and retail concessions business
in airports, on tollroads and in shopping malls is highly competitive. The
Company competes to retain existing contracts and to obtain new contracts from
airport, highway and municipal authorities and shopping mall developers. The
Company's contracts generally have a fixed term and in any fiscal year a number
of these contracts either expire or come up for renewal. There can be no
assurance that the Company will be able to retain and renew existing contracts
or obtain new contracts. Competition within the industry is likely to intensify
as the Company and its competitors attempt to expand operations. Such
intensified competition could have a material adverse impact on the Company's
business, financial condition and results of operations (see "Item 1. Business -
Competition").
CAPITAL EXPENDITURES. The Company incurs capital expenditures to build out
new facilities, expand or re-concept existing facilities and to maintain the
quality and improve operations of existing facilities. The Company funds its
capital expenditures with a combination of cash flow generated from ongoing
operations, current cash balances and existing credit facilities. There can be
no assurance that cash flow from operations in future periods will be adequate
to sustain the level of capital expenditures made in prior periods.
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<PAGE>
GOVERNMENT REGULATION. The food, beverage and retail concessions business
is subject to numerous federal, state and local government regulations,
including regulations relating to the sale of alcoholic beverages, preparation
and sale of food, employer/employee relations and regulations related to
security of airports. The application of these regulations to the Company, such
as the loss of a liquor license at an operating location, and changes in these
regulations, such as any substantial increases in the minimum wage or mandatory
health care coverage, could adversely affect the Company's business, financial
condition and results of operations.
UNION LABOR STRIKES. The Company's operations could be adversely impacted
by union labor strikes, such as the Northwest Airlines pilots' strike that
occurred during the third quarter of 1998. While such strikes have occurred
infrequently in the past, a prolonged strike by an airline's union labor force
could reduce air travel, especially in hub locations serviced by the affected
airline. Due to the Company's level of fixed operating costs, a significant
reduction in passenger enplanements could reduce operating profit margins at
airport locations affected by the union strike.
YEAR 2000. The Company is currently working to resolve the potential impact
of the Year 2000 on the Company's operations. If the Company, its customers or
its vendors are unable to resolve these issues in a timely manner, it could
result in material financial risk to the Company. In January 1999, the General
Accounting Office (the "GAO") issued a report concerning the status of airports'
Year 2000 readiness. A significant number of airports surveyed did not expect to
meet the Federal Aviation Administration's recommended preparation date and had
not completed contingency plans. As a result, the GAO reported that it appears
likely that there will be some critical equipment failure or malfunction and
that airport efficiencies will be degraded, which could result in flight delays
or airport closures. The Company can not predict the effect of such delays or
closures on its operations. If significant delays were to occur, the Company's
results may reflect short-term benefits; however, should extended airport
closures occur the Company's results could be materially adversely affected.
(See "Other Matters").
ASIAN MARKETS. During 1998, the deepening of the Asian economic downturn
adversely affected a small number of the Company's concessions operations,
particularly its duty-free merchandise concessions catering to Asian travelers.
The Asian markets are not expected to improve significantly in the near term,
resulting in continued negative impact on the Company's operations in these
selected airports.
OTHER MATTERS
The Company is currently addressing Year 2000 issues with action plans for
its: (1) information systems, (2) embedded chip systems, including equipment
that operates such items as the Company's freezers, air conditioning and cooling
systems, fryers and security systems, (3) third-party (vendor and supplier)
relationships and (4) contingency planning.
The Company has established a Year 2000 Project Team, headed by the Chief
Information Officer, who reports to the Chief Financial Officer, to resolve
significant Year 2000 issues in a timely manner as they are identified. The
project steering team includes executive management and employees with expertise
from various disciplines including information technology, finance, internal
audit, legal and operations. In addition, the Company has retained the services
of consulting firms with particular expertise in the Year 2000 problem.
INFORMATION SYSTEMS. To date, the Company has identified 20 internal
systems that will require correction. The Company is resolving Year 2000 issues
through replacement of equipment, modification of software and replacement of
certain software systems. For mission critical systems, third-party experts will
be engaged to verify Year 2000 compliance testing. The Company anticipates that
all mission critical information technology systems at corporate headquarters,
which perform financial management processes, will be Year 2000 compliant by
April 1999 and anticipates that other systems will be completed by the third
quarter of 1999.
EMBEDDED SYSTEMS. As of the end of 1998, a comprehensive inventory of the
Company's mission critical and date-sensitive embedded systems had been
completed for approximately half of the Company's locations. The
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<PAGE>
remaining locations are expected to be fully inventoried by mid-1999. All
manufacturers of inventoried components utilized in the operations have been
contacted in order to determine whether the components are Year 2000 compliant.
The Company intends to remediate or replace, as applicable, any identified
non-compliant systems and expects to complete this process by August 1999. The
quality of the responses received from manufacturers, the estimated impact of
the individual system on the Company, and the ability of the Company to perform
meaningful tests will influence its decision regarding whether to conduct
independent testing of embedded systems.
THIRD-PARTY RELATIONSHIPS. Formal communications with all critical third
parties have been initiated to determine potential exposure which would result
in their failure to remediate their own Year 2000 issues. These third parties
have included the Company's supply chain, airport authorities, financial
institutions and utility companies. New business relationships with alternate
providers of products and services will be considered if deemed necessary.
RISKS/CONTINGENCY PLANS. As part of the Company's normal business practice,
it maintains plans to follow during emergency circumstances, some of which could
arise from Year 2000-related problems. The Company's contingency planning for
the Year 2000 will address various alternatives and will include assessing a
variety of scenarios to which the Company may be required to react. The Company
continues to develop its contingency plans for Year 2000 issues, and each
individual location will develop a contingency plan for the impact of Year 2000
business interruptions. The Company's operations are geographically dispersed
and it has a large supplier base, which should mitigate any adverse impact
resulting from supplier problems.
POTENTIAL RISKS. Potential sources of risk include operational disruptions
caused by equipment failure and the inability of principal suppliers to be Year
2000 compliant, which could result in delays in product deliveries from such
suppliers. Utility services, including electric, telephone and water, are
necessary for the Company's basic operations. Should any of these critical
vendors fail, the impact of any such failure could become a significant
challenge to the Company's ability to operate its facilities at individual
locations. Based on the information supplied to date by the Company's critical
vendors and suppliers, the Company believes the probability of such failures to
be low. However, the Company's action plan emphasizes continued monitoring of
the progress of these critical vendors and suppliers toward their Year 2000
compliance.
In addition, the Company's operations may also be affected by Year 2000
issues facing the Federal Aviation Administration and the airlines related to
air traffic control systems, aircraft equipment and security systems used in
airports. These issues could potentially lead to degraded flight safety,
grounded or delayed flights, selected airport closures, increased airline costs
and customer inconvenience. Since the Company is not responsible for addressing
these issues, it cannot control or predict the impact on future operations of
the Year 2000 problem as it pertains to air traffic control and airport security
systems. If airline passenger traffic declines significantly in late 1999 and
the year 2000 as a result of Year 2000 problems experienced by the FAA or
individual airlines or the public's fear of such problems, the Company's results
of operations may be materially adversely affected.
FINANCIAL IMPLICATIONS. The Company currently estimates that external
costs, such as consulting experts, for its Year 2000 systems compliance program
will total approximately $4.0 million in 1999 and $0.5 million in 2000. The
Company currently estimates that internal costs, such as remediation coding and
system support, for Year 2000 compliance will total approximately $1.1 million
in 1999 and $0.3 million in 2000. Additionally, final remediation may require
further capital investments to replace equipment and software. During 1998,
approximately $1.1 million in external costs and approximately $0.8 million in
internal costs were incurred relating to Year 2000 implementation. The
anticipated costs associated with the Company's Year 2000 compliance program do
not include time and costs that may be expensed as a result of the failure of
any third parties, including suppliers, to become Year 2000 compliant or costs
to implement any contingency plans.
The discussion of the Company's efforts and expectations relating to Year
2000 compliance are forward-looking statements. The Company's ability to achieve
Year 2000 compliance and the level of costs associated therewith, could be
adversely impacted by, among other things, the availability and cost of
programming and
25
<PAGE>
testing resources, vendors' ability to modify proprietary software, and
anticipated problems identified in the ongoing compliance review.
The statements contained in this section are "Year 2000 Readiness
Disclosures" as provided for in the Year 2000 Information and Readiness
Disclosure Act.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk from changes in interest rates,
foreign currency exchange rates and commodity prices, which could impact results
of operations and financial condition. Changes in market interest rates over the
next year would not materially impact earnings or cash flow as the Company's
cash investments are short-term, interest rates under the revolving credit
facility are short-term and the interest rates on the long-term debt are fixed.
The Company's exposure to changes in foreign currency exchange rates is not
material to earnings or cash flows. Due to the Company's wide variety of product
offerings and diverse brand portfolio, the Company would not expect fluctuations
in commodity prices to be material to earnings or cash flows.
The fair value of fixed rate long-term debt is sensitive to changes in
interest rates, which would result in gains/losses in the market value of this
debt due to differences between the market interest rates and rates at the
inception of the debt obligation. Based on a hypothetical immediate 150 basis
point increase in interest rates at the end of fiscal years 1998 and 1997, the
market value of fixed rate long-term debt would result in a net decrease of
$28.7 million and $32.5 million, respectively. Conversely, a 150 basis point
decrease in interest rates would result in a net increase in the market value of
fixed rate long-term debt outstanding at the end of fiscal years 1998 and 1997
of $32.1 million and $37.2 million, respectively. Changes in fair value of the
Company's long-term debt does not impact earnings or cash flows.
The Company has the ability to borrow up to $75.0 million against a
revolving credit facility. As of the end of 1998, borrowings outstanding under
the revolving credit facility totaled $11.6 million at an average interest rate
of 7.77%. A hypothetical 10% increase or decrease in interest rates would not
have had a material effect on earnings in 1998 as the average balance
outstanding was $0.6 million.
Significant changes in commodity prices could impact future operating
profit margins and cash flows. The Company has the ability to recover from sharp
increases in commodity prices by increasing its menu prices. However, in some
instances, increases in menu prices require prior landlord approval.
26
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The following financial information is included on the pages indicated.
PAGE(S)
-------
Report of Independent Public Accountants 28
Consolidated Balance Sheets as of January 1, 1999
and January 2, 1998 29
Consolidated Statements of Operations for the Fiscal
Years Ended January 1, 1999, January 2, 1998 and
January 3, 1997 30
Consolidated Statements of Cash Flows for the Fiscal
Years Ended January 1, 1999, January 2, 1998 and
January 3, 1997 31
Consolidated Statements of Shareholder's Deficit for the
Fiscal Years Ended January 1, 1999, January 2, 1998
and January 3, 1997 32
Notes to Consolidated Financial Statements 33 - 47
27
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholder of Host International, Inc.:
We have audited the accompanying consolidated balance sheets of Host
International, Inc. and subsidiaries, as of January 1, 1999 and January 2, 1998,
and the related consolidated statements of operations, cash flows and
shareholder's deficit for each of the three fiscal years in the period ended
January 1, 1999. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Host
International, Inc. and subsidiaries as of January 1, 1999 and January 2, 1998,
and the results of their operations and their cash flows for each of the three
fiscal years in the period ended January 1, 1999, in conformity with generally
accepted accounting principles.
ARTHUR ANDERSEN LLP
Washington, D.C.
January 27, 1999
28
<PAGE>
HOST INTERNATIONAL INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JANUARY 1, 1999 AND JANUARY 2, 1998
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------- ----------------- ----------------
1998 1997
- --------------------------------------------------------------------------- ----------------- ----------------
<S> <C> <C>
(IN MILLIONS)
ASSETS
Current assets:
Cash and cash equivalents $ 33.1 $ 60.3
Accounts receivable, net 28.8 23.3
Inventories 38.1 38.5
Deferred income taxes 19.7 12.9
Prepaid rent 7.4 7.0
Other current assets 6.7 6.2
- --------------------------------------------------------------------------- ----------------- ----------------
Total current assets 133.8 148.2
Property and equipment, net 290.2 252.5
Intangible assets 21.9 21.9
Deferred income taxes 60.0 55.3
Other assets 24.8 22.1
- --------------------------------------------------------------------------- ----------------- ----------------
Total assets $ 530.7 $ 500.0
- --------------------------------------------------------------------------- ----------------- ----------------
LIABILITIES AND SHAREHOLDER'S DEFICIT
Current liabilities:
Accounts payable $ 75.8 $ 67.7
Accrued payroll and benefits 44.5 46.1
Accrued interest payable 4.8 4.7
Current portion of long-term debt 1.1 1.0
Borrowings under line-of-credit agreement 11.6 ---
Other current liabilities 35.2 36.4
- --------------------------------------------------------------------------- ----------------- ----------------
Total current liabilities 173.0 155.9
Long-term debt 405.9 405.8
Other liabilities 46.2 49.6
- --------------------------------------------------------------------------- ----------------- ----------------
Total liabilities 625.1 611.3
Common stock, no par value, 100 shares authorized,
issued and outstanding --- ---
Accumulated other comprehensive income 0.1 (0.1)
Retained deficit (94.5) (111.2)
- --------------------------------------------------------------------------- ----------------- ----------------
Total shareholder's deficit (94.4) (111.3)
- --------------------------------------------------------------------------- ----------------- ----------------
Total liabilities and shareholder's deficit $ 530.7 $ 500.0
- --------------------------------------------------------------------------- ----------------- ----------------
</TABLE>
See notes to the consolidated financial statements.
29
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FISCAL YEARS ENDED JANUARY 1, 1999, JANUARY 2, 1998 AND JANUARY 3, 1997
<TABLE>
<CAPTION>
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
1998 1997 1996
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
<S> <C> <C> <C>
(IN MILLIONS)
REVENUES $1,232.0 $1,146.3 $1,139.7
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
OPERATING COSTS AND EXPENSES
Cost of sales 362.2 329.6 335.9
Payroll and benefits 371.5 338.4 335.0
Rent 188.9 180.4 180.9
Royalties 25.7 22.6 20.7
Depreciation and amortization 51.8 49.1 49.7
Write-downs of long-lived assets 5.9 4.2 ---
Reversal of restructuring charges --- (3.9) ---
General and administrative 58.0 54.3 51.8
Other 109.2 105.5 105.6
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
Total operating costs and expenses 1,173.2 1,080.2 1,079.6
OPERATING PROFIT 58.8 66.1 60.1
Interest expense (39.9) (39.8) (40.3)
Interest income 1.7 3.0 2.4
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
INCOME BEFORE INCOME TAXES 20.6 29.3 22.2
Provision (benefit) for income taxes (2.5) 9.7 9.3
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
NET INCOME $ 23.1 $ 19.6 $ 12.9
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
</TABLE>
See notes to the consolidated financial statements.
30
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FISCAL YEARS ENDED JANUARY 1, 1999, JANUARY 2, 1998 AND JANUARY 3, 1997
<TABLE>
<CAPTION>
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
1998 1997 1996
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
<S> <C> <C> <C>
(IN MILLIONS)
OPERATING ACTIVITIES
Net income $ 23.1 $ 19.6 $ 12.9
Adjustments to reconcile cash from operations:
Depreciation and amortization 53.8 50.8 50.4
Deferred financing 1.3 1.3 1.3
Deferred income taxes (11.5) 10.5 (5.5)
Write-downs of long-lived assets 5.9 4.2 ---
Reversal of restructuring charges --- (3.9) ---
Other 4.0 6.1 3.8
Working capital changes:
(Increase) decrease in accounts receivable (4.7) 5.4 2.1
(Increase) decrease in inventories (0.4) 1.5 (6.8)
Increase in other current assets (2.1) (5.7) (1.6)
Increase (decrease) in accounts payable and accruals 4.3 (43.9) 41.9
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
Cash provided by operations 73.7 45.9 98.5
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
INVESTING ACTIVITIES
Capital expenditures (95.6) (66.0) (54.9)
Net proceeds from the sale of assets --- --- 2.4
Other, net (8.3) (8.7) 2.6
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
Cash used in investing activities (103.9) (74.7) (49.9)
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
FINANCING ACTIVITIES
Payment to Host Marriott Corporation for Marriott International
options and deferred shares (3.5) (2.2) ---
Repayments of long-term debt (1.1) (1.7) (0.8)
Issuance of long-term debt 1.4 --- ---
Issuance of intercompany debt 10.0 --- ---
Repayment of intercompany debt (10.0) --- ---
Net borrowings under line-of-credit agreement 11.6 --- ---
Dividends to Host Marriott Services (5.6) --- ---
Other 0.2 (0.1) ---
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
Cash provided by (used in) financing activities 3.0 (4.0) (0.8)
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
(DECREASE) INCREASE IN CASH AND
CASH EQUIVALENTS (27.2) (32.8) 47.8
CASH AND CASH EQUIVALENTS, beginning of year 60.3 93.1 45.3
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
CASH AND CASH EQUIVALENTS, end of year $ 33.1 $ 60.3 $ 93.1
- -------------------------------------------------------------------- ---------------- ----------------- ----------------
</TABLE>
See notes to the consolidated financial statements.
31
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDER'S DEFICIT
FISCAL YEARS ENDED JANUARY 1, 1999, JANUARY 2, 1998 AND JANUARY 3, 1997
(IN MILLIONS)
<TABLE>
<CAPTION>
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
ACCUMULATED
OTHER
COMMON RETAINED COMPREHENSIVE
STOCK DEFICIT INCOME TOTAL
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
<S> <C> <C> <C> <C>
Balance, December 29, 1995 $ --- $(150.2) $ --- $(150.2)
Comprehensive income:
Net income --- 12.9 --- 12.9
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Total comprehensive income --- 12.9 --- 12.9
Adjustments to distribution of capitalization of Company --- 4.6 --- 4.6
Deferred compensation --- 2.7 --- 2.7
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Balance, January 3, 1997 --- (130.0) --- (130.0)
Comprehensive income:
Net income --- 19.6 --- 19.6
Foreign currency translation adjustments --- --- (0.1) (0.1)
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Total comprehensive income --- 19.6 (0.1) 19.5
Deferred compensation --- 1.4 --- 1.4
Payment to Host Marriott Corporation for Marriott
International options and deferred shares (2.2) --- (2.2)
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Balance, January 2, 1998 --- (111.2) (0.1) (111.3)
Comprehensive income:
Net income --- 23.1 --- 23.1
Foreign currency translation adjustments --- --- 0.2 0.2
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Total comprehensive income --- 23.1 0.2 23.3
Deferred compensation --- 2.7 --- 2.7
Payment to Host Marriott Corporation for Marriott
International options and deferred shares (3.5) --- (3.5)
Dividend to Host Marriott Services --- (5.6) --- (5.6)
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
Balance, January 1, 1999 $ --- $ (94.5) $ 0.1 $ (94.4)
- --------------------------------------------------------------- ------------ ------------- ------------------ -----------
</TABLE>
See notes to the consolidated financial statements.
32
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BASIS OF PRESENTATION
Prior to December 21, 1995, Host International, Inc. (a Delaware corporation -
the "Company") was a wholly-owned subsidiary of Host Marriott Travel Plazas,
Inc. ("HMTP"), a wholly-owned subsidiary of Host Marriott Corporation ("Host
Marriott"), and operated most of the airport, travel plaza and sports and
entertainment concessions facilities of Host Marriott. On December 21, 1995,
HMTP was merged into the Company with the Company emerging as the surviving
entity. Pursuant to the merger, the Company became the operator or manager of
all of the food, beverage and merchandise concessions businesses in travel and
entertainment venues of Host Marriott. The Company also became the obligor on
the $400.0 million of senior notes, due in 2005 (the "Senior Notes") which were
issued by HMTP in May 1995 (see Note 5).
On December 29, 1995, (the "Distribution Date"), Host Marriott
distributed, to holders of its common stock, 31.9 million shares of common stock
of Host Marriott Services Corporation ("Host Marriott Services") through a
special dividend, resulting in the division of Host Marriott's operations into
two separate companies. Through a series of transactions that were consummated
prior to the Distribution Date, the Company became a wholly-owned subsidiary of
Host Marriott Services.
The consolidated financial statements include the accounts of the Company
and its subsidiaries and controlled affiliates. Investments in 50% or less owned
affiliates over which the Company has the ability to exercise significant
influence are accounted for using the equity method. All material intercompany
transactions and balances between the Company and its subsidiaries have been
eliminated.
DESCRIPTION OF THE BUSINESS
The Company operates or manages restaurants, gift shops and related facilities
at 71 airports and 17 off-airport locations, on 13 tollroads (including 92
travel plazas) and in 5 shopping malls. The Company conducts its operations
primarily in the United States and manages the travel plaza concessions business
of its affiliate, Host Marriott Tollroads, Inc. ("Tollroads"), a wholly-owned
subsidiary of Host Marriott Services. The Company also has international
operations in the Netherlands, New Zealand, Australia, Canada, Malaysia and
China.
FISCAL YEAR
The Company's fiscal year ends on the Friday nearest to December 31, with fiscal
quarters of 12 weeks in each of the first three quarters and 16 weeks in the
fourth quarter (except in a 53-week year, which has a 17-week fourth quarter).
Fiscal years 1998 and 1997 include 52 weeks while fiscal year 1996 includes 53
weeks. Fiscal year 1998 ("1998") ended on January 1, 1999; fiscal year 1997
("1997") ended on January 2, 1998; and fiscal year 1996 ("1996") ended on
January 3, 1997.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents generally include all highly liquid investments with a
maturity of three months or less at the date of purchase.
INVENTORIES
Inventories consist of merchandise, food items and supplies, which are stated at
the lower of average cost or market. The cost of food items and supplies is
determined using the first-in, first-out method. Merchandise cost is determined
using the retail method.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Leasehold improvements, net of
estimated residual value, are amortized using the straight-line method over the
shorter of the useful life of the asset, generally 5 to 15 years, or the lease
term. Depreciation is computed using the straight-line method over the estimated
useful lives of the assets, generally 3 to 10 years for furniture and equipment.
INTANGIBLE ASSETS
Intangible assets consist of goodwill of $5.0 million in 1998 and $5.2 million
in 1997, and contract rights of $17.0 million in 1998 and $16.7 million in 1997.
These intangibles are amortized on a straight-line basis over periods of 40
years for goodwill and the life of the contract, generally 5 to 15 years, for
contract rights. Amortization expense totaled $2.3 million in 1998, $2.9 million
in 1997 and $2.8 million in 1996. Accumulated amortization totaled $14.7 million
and $13.9 million as of January 1, 1999 and January 2, 1998, respectively.
IMPAIRMENTS OF LONG-LIVED ASSETS
Property and equipment and intangible assets are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
an asset may not be recoverable. If the sum of undiscounted expected future cash
flows is less than the
33
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
carrying amount of an individual operating unit's assets, the Company recognizes
an impairment loss based on the amount by which the carrying amount of the asset
exceeds the fair value of the asset. Fair value is calculated as the present
value of expected future cash flows on an individual operating unit basis.
SELF-INSURANCE PROGRAM
Prior to October 1993, Host Marriott was self-insured for certain levels of
general liability and workers' compensation. Estimated costs of these
self-insurance programs were accrued at present values of projected settlements
for known and anticipated claims. Host Marriott's costs for workers'
compensation and general liability insurance were allocated to the Company based
on specific identification of claims. Host Marriott, including the Company,
discontinued its self-insurance program for claims arising subsequent to October
1993. Self-insurance liabilities amounted to $5.5 million and $9.9 million at
January 1, 1999 and January 2, 1998, respectively.
FOREIGN CURRENCY TRANSLATION
Results of operations for foreign entities are translated to U.S. dollars using
the average exchange rates during the period. Assets and liabilities are
translated using the exchange rate in effect at the balance sheet date.
Resulting translation adjustments are reflected in shareholders' deficit as
cumulative foreign currency translation adjustments.
INCOME TAXES
The Company recognizes deferred tax assets and liabilities based on the expected
future tax consequences of existing differences between the financial reporting
and tax reporting bases of assets and liabilities and operating loss and tax
credit carryforwards.
NEW STATEMENTS OF FINANCIAL ACCOUNTING STANDARDS
The Company adopted Statement of Financial Accounting Standards ("SFAS") No.
130, "Reporting Comprehensive Income," during 1998 and the adoption did not have
a material effect on the Company's 1998 consolidated financial statements. The
Company adopted SFAS No. 129, "Disclosure of Information about Capital
Structure," and SFAS No. 131, "Disclosures about Segments of an Enterprise and
Related Information," during 1997. The adoption of these standards did not have
a material effect on the Company's 1997 consolidated financial statements (see
Note 12). The Company adopted the disclosure-only provisions of SFAS No. 123,
"Accounting for Stock-Based Compensation," during 1996 (see Note 7). Statement
of Position ("SOP") 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use" and SOP 98-5, "Reporting on the Costs of
Start-Up Activities" were issued subsequent to the end of 1997 and must be
adopted in fiscal years beginning after December 15, 1998, with earlier adoption
permitted. Subsequent to the end of 1998, the Company adopted SOP 98-1 and SOP
98-5. As a result of the adoption of SOP 98-1, the Company anticipates that it
will capitalize approximately $0.8 million of internal payroll and benefits
costs during 1999 that previously would have been expensed. The adoption of SOP
98-5 in the first quarter of 1999 resulted in a $0.7 million charge, net of tax
of $0.5 million, for a change in accounting principle. Additionally, the Company
expects to expense approximately $2.6 million of anticipated start-up costs in
1999 that otherwise would have been capitalized and amortized in 2000 under the
Company's former accounting policy.
USE OF ESTIMATES
The preparation of the consolidated financial statements requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the period. Actual results could differ from those estimates.
RECLASSIFICATIONS
Certain reclassifications were made to the prior years' financial statements to
conform to the 1998 presentation.
2. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
- ------------------------------------ ---------- -----------
1998 1997
- ------------------------------------ ---------- -----------
<S> <C> <C>
(IN MILLIONS)
Leasehold improvements $ 413.5 $ 367.7
Furniture and equipment 214.4 208.6
Construction in progress 37.2 32.9
- ------------------------------------ ---------- -----------
Total property and equipment 665.1 609.2
Less: accumulated
depreciation and
amortization (374.9) (356.7)
- ------------------------------------ ---------- -----------
Property and equipment, net $ 290.2 $ 252.5
- ------------------------------------ ---------- -----------
</TABLE>
34
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
During 1998, an operating cash flow analysis revealed that the Company's
investment in one shopping mall food court was fully impaired and that an
investment in an internally used software system was partially impaired. As a
result, the Company recognized non-cash, pretax charges against earnings of $2.4
million and $3.5 million, respectively. The shopping mall contract is a regional
mall where the operating real estate under the contract is being phased in to
the Company over several years. Customer traffic and capture rates at this mall
were well below the Company's expectations and insufficient to support the
number of concepts developed. The capitalized system software was determined to
be partially impaired because all of the purchased modules of the system that
were originally intended to provide operating efficiencies could not be fully
implemented.
During 1997, the Company recognized a non-cash, pretax charge against
earnings of $4.2 million related to one airport unit. The partial impairment
stemmed from construction cost overruns, airline traffic shifts and weak
operating performance.
3. INCOME TAXES
The provision (benefit) for income taxes consists of:
<TABLE>
<CAPTION>
- --------------------------- -------- ---------- ----------
1998 1997 1996
- --------------------------- -------- ---------- ----------
<S> <C> <C> <C>
(IN MILLIONS)
Current:
Federal $ 6.4 $(3.2) $11.1
Foreign 0.2 --- 0.2
State 2.4 2.4 3.5
- --------------------------- -------- ---------- ----------
Total current
provision (benefit) 9.0 (0.8) 14.8
- --------------------------- -------- ---------- ----------
Deferred:
Federal 0.8 10.1 (2.3)
Foreign --- --- (0.2)
State 0.3 2.3 2.2
Decrease in
valuation allowance (12.6) (1.9) (5.2)
- --------------------------- -------- ---------- ----------
Total deferred
(benefit) provision (11.5) 10.5 (5.5)
- --------------------------- -------- ---------- ----------
Total (benefit) provision $ (2.5) $ 9.7 $ 9.3
- --------------------------- -------- ---------- ----------
</TABLE>
At the end of 1998, the Company had approximately $10.6 million of
alternative minimum tax credit carryforwards that do not expire and $7.4 million
of other tax credits that expire through 2018.
The Company establishes a valuation allowance in accordance with the
provisions of SFAS No. 109, "Accounting for Income Taxes." The Company
continually reviews the adequacy of the valuation allowance and recognizes these
benefits only when reassessment indicates that it is more likely than not the
benefits will be realized.
In 1998, the Company assessed its past earnings history and trends,
budgeted sales and expiration dates of carryforwards and determined that it is
more likely than not that $11.1 million of certain purchase business combination
tax credits, previously believed unrealizable, will be realized. The valuation
allowance established against these credits was reduced to reflect their
probable utilization. The purchase business tax credit carryforwards and the
related valuation allowance were further reduced by $1.5 million due to
adjustments by the Internal Revenue Service. During 1997, the Company also
recognized the utilization of $1.9 million of these purchase business tax
credits and reduced the valuation allowance accordingly.
Realization of the net deferred tax assets is dependent on the Company's
ability to generate sufficient future taxable income during the periods in which
temporary differences reverse or the tax credits are utilized. The amount of the
net deferred tax assets considered realizable, however, could be reduced if
estimates of future taxable income are not achieved. Although realization is not
assured, the Company believes it is more likely than not that the net deferred
tax assets will be realized.
The tax effect of each type of temporary difference and carryforward that
gives rise to a significant portion of deferred tax assets and liabilities is as
follows:
<TABLE>
<CAPTION>
- ------------------------------------- --------- ----------
1998 1997
- ------------------------------------- --------- ----------
<S> <C> <C>
(IN MILLIONS)
Deferred tax assets:
Tax credit carryforwards $18.0 $21.7
Property and equipment 57.7 52.9
Casualty insurance 8.7 8.8
Reserves 4.7 5.9
Employee benefits 0.3 2.6
Accrued rent 9.4 10.7
Other 2.0 0.9
- ------------------------------------- --------- ----------
Gross deferred tax assets 100.8 103.5
Less: valuation allowance (13.9) (26.5)
- ------------------------------------- --------- ----------
Net deferred tax assets 86.9 77.0
- ------------------------------------- --------- ----------
Deferred tax liabilities:
Safe harbor lease investments (2.2) (3.8)
Other deferred tax liabilities (5.0) (5.0)
- ------------------------------------- --------- ----------
Gross deferred tax liabilities (7.2) (8.8)
- ------------------------------------- --------- ----------
Net deferred income taxes $79.7 $68.2
- ------------------------------------- --------- ----------
</TABLE>
35
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
A reconciliation of the statutory federal tax rate to the Company's
effective income tax rate follows:
<TABLE>
<CAPTION>
- ------------------------- ---------- ----------- ----------
1998 1997 1996
- ------------------------- ---------- ----------- ----------
<S> <C> <C> <C>
Statutory Federal
tax rate 35.0 % 35.0 % 35.0 %
State income tax,
net of Federal
tax benefit 4.9 4.9 4.9
Tax credits 1.3 (3.2) 6.5
Change in valuation
allowance (61.2) (6.5) (23.4)
Effect of state tax
rate changes on
deferred taxes --- --- 13.8
Other, net 7.8 2.8 5.1
- ------------------------- ---------- ----------- ----------
Effective income
tax rate (12.2)% 33.0 % 41.9 %
- ------------------------- ---------- ----------- ----------
</TABLE>
The Company files a consolidated Federal income tax return with Host
Marriott Services, which includes all of its subsidiaries. The Company made
income tax payments of $9.1 million, $2.5 million and $15.9 million in 1998,
1997 and 1996, respectively.
4. DETAIL OF OTHER CURRENT LIABILITIES
Other current liabilities consist of the following:
<TABLE>
<CAPTION>
- ---------------------------------- ---------- ---------
1998 1997
- ---------------------------------- ---------- ---------
<S> <C> <C>
(IN MILLIONS)
Accrued rent $ 8.1 $ 7.9
Operating insurance accruals 10.2 8.6
International accruals 4.8 3.5
Accrued franchise fees 2.3 1.8
Other 9.8 14.6
- ---------------------------------- ---------- ---------
Total other current liabilities $35.2 $36.4
- ---------------------------------- ---------- ---------
</TABLE>
5. DEBT
Debt consists of the following:
<TABLE>
<CAPTION>
- ----------------------------------- --------- ---------
1998 1997
- ----------------------------------- --------- ---------
<S> <C> <C>
(IN MILLIONS)
Senior Notes with a fixed rate
of 9.5%, due 2005 $400.0 $400.0
Capital lease obligations 0.3 0.6
Other 6.7 6.2
- ----------------------------------- --------- ---------
Total debt 407.0 406.8
Less: current portion (1.1) (1.0)
- ----------------------------------- --------- ---------
Total long-term debt $405.9 $405.8
- ----------------------------------- --------- ---------
</TABLE>
SENIOR NOTES
The $400.0 million of senior notes (the "Senior Notes") are fully and
unconditionally guaranteed (limited only to the extent necessary to avoid such
guarantees being considered a fraudulent conveyance under applicable law) on a
joint and several basis by certain subsidiaries of the Company (the
"Guarantors"). The Senior Notes are also secured by a pledge of the capital
stock of the Guarantors. The indenture governing the Senior Notes (the
"Indenture") contains covenants that, among other things, limit the ability of
the Company and certain of its subsidiaries to incur additional indebtedness and
issue preferred stock, pay dividends or make other distributions, repurchase
capital stock or repay subordinated indebtedness, create certain liens, enter
into certain transactions with affiliates, sell certain assets, issue or sell
capital stock of the Guarantors and enter into certain mergers and
consolidations.
As of January 1, 1999, the Company had approximately $148.2 million of
unrestricted funds available for distribution to Host Marriott Services under
the provisions of the Indenture. However, certain covenants of the loan
agreements referred to below further restrict the Company's ability to dividend
these funds to Host Marriott Services. The Senior Notes can be called beginning
in May 2000 at a price of 103.56%, declining to par in May 2003.
CREDIT FACILITIES
The First National Bank of Chicago, as agent for a group of participating
lenders, has provided credit facilities (the "Facilities") to the Company
consisting of a $75.0 million revolving credit facility (the "Revolver
Facility") and a $25.0 million letter of credit facility maturing in April 2002.
The $75.0 million Revolver Facility provides for working capital and general
corporate purposes other than hostile acquisitions. As of the end of 1998, there
was $11.6 million of outstanding indebtedness under the Revolver Facility, at an
average interest rate of 7.77%. An annual commitment fee ranging from 0.25% to
0.375% is charged on the unused portion of the Facilities. All borrowings under
the Facilities are senior obligations of the Company and are secured by Host
Marriott Services' pledge of, and a first perfected security interest in, the
capital stock of the Company and certain of its subsidiaries.
The loan agreements relating to the Facilities contain dividend and stock
retirement covenants that are substantially similar to those set forth in the
Indenture, except that dividends payable to the Company are limited to 25% of
the Company's consolidated net income, as defined in the loan agreement. During
1998 and in compliance with the Facilities, the Company paid $5.6 million of
dividends to Host Marriott Services.
36
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Aggregate debt maturities, excluding capital lease obligations, at the end
of 1998 are as follows:
<TABLE>
<CAPTION>
- ------------------------------------ ------------------
Year
- ------------------------------------ ------------------
<S> <C>
(IN MILLIONS)
1999 $ 1.1
2000 1.2
2001 1.3
2002 1.2
2003 1.0
Thereafter 400.9
- ------------------------------------ ------------------
Total debt $406.7
- ------------------------------------ ------------------
</TABLE>
The Company's other indebtedness totaled $6.7 million with an average rate
of 8.1%. Nearly $1.5 million of other debt is denominated in Dutch Guilders.
Deferred financing costs, which are included in other assets, amounted to
$7.8 million and $9.1 million at the end of 1998 and 1997, respectively. Cash
paid for interest was $38.6 million, $38.5 million and $38.8 million in 1998,
1997 and 1996, respectively.
6. SHAREHOLDER'S DEFICIT
One hundred shares of common stock, without par value, are issued and
outstanding as of the end of 1998, 1997 and 1996. All of the shares are owned by
the Company's parent, Host Marriott Services.
HOST MARRIOTT STOCK OPTIONS AND DEFERRED STOCK AWARDS HELD BY MARRIOTT
INTERNATIONAL EMPLOYEES
On the Distribution Date, certain employees of Marriott International, Inc.
("Marriott International" - see Note 13) held Host Marriott nonqualified stock
options (the "MI Host Marriott Options") and deferred stock incentive shares
(the "MI Host Marriott Deferred Stock"). As a result of the Distribution, the MI
Host Marriott Options remained options to acquire only shares of Host Marriott
common stock, except that the exercise price of and the number of shares
underlying such options were adjusted to preserve the intrinsic value of the
options to their holders. Likewise, each award for MI Host Marriott Deferred
Stock remained awards to be paid using Host Marriott common stock and the number
of shares was adjusted to preserve the intrinsic value. Host Marriott and the
Company have agreed to share the cost to Host Marriott of the adjustments to the
MI Host Marriott Options and the MI Host Marriott Deferred Stock.
Host Marriott Services may issue to Host Marriott up to 1.4 million shares
of common stock upon the exercise of the MI Host Marriott Options and 204,000
shares upon the release of the MI Host Marriott Deferred Stock. Host Marriott
Services has the option to satisfy these obligations by paying to Host Marriott
cash equal to the value of such shares of Host Marriott Services' common stock
on the last day of the fiscal year in which the options are exercised or the
deferred shares are released. Additionally, Host Marriott Services will receive
approximately 11% of the exercise price of each MI Host Marriott Option
exercised. During 1998, the Company paid Host Marriott $3.5 million in partial
settlement of its obligation to pay for the 1997 exercise of the MI Host
Marriott Options and the release of the MI Host Marriott Deferred Stock. During
1997, the Company paid Host Marriott $2.2 million for the 1996 exercise of the
MI Host Marriott Options and the release of the MI Host Marriott Deferred Stock.
These obligations, which were recorded at an average price of $5.29 per
share, are shown as a component of shareholder's deficit and totaled $5.5
million and $7.0 million as of year-end 1998 and 1997, respectively.
7. STOCK-BASED COMPENSATION PLANS
The employees of the Company participate in certain employee stock plans of Host
Marriott Services, including the Comprehensive Stock Plan and Employee Stock
Purchase Plan. Under the Comprehensive Stock Plan, employees of the Company may
receive (i) awards of restricted shares of Host Marriott Services' common stock,
(ii) deferred awards of shares of Host Marriott Services' common stock, and
(iii) awards of options to purchase Host Marriott Services' common stock. In
addition, employees of the Company participate in Host Marriott Services'
Employee Stock Purchase Plan. Host Marriott Services has reserved 10.0 million
and 1.3 million shares of common stock for issuance in connection with the
Comprehensive Stock Plan and the Employee Stock Purchase Plan, respectively. The
compensation costs related to restricted stock and deferred stock awards under
these plans have been reflected in the operations of the Company as all
employees of Host Marriott Services are employees of the Company. The principal
terms and conditions of each of the plans are summarized below.
RESTRICTED STOCK AWARDS
Restricted shares are awarded to certain key executives. As of January 1, 1999,
there were 1.0 million restricted share awards outstanding, of which
approximately 751,000 were new restricted shares issued in 1998 and 256,000 were
shares issued in prior years.
Compensation expense related to the 751,000 new share awards consists of an
annual time-based component as well as a performance-based component.
37
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Compensation expense under both components is calculated using the fair value of
the shares on the date of issuance and is contingent on continued employment.
The vesting, and corresponding compensation expense, of 256,000 shares under the
annual time-based component occurs ratably over a three-year period beginning on
the grant date. The vesting, and corresponding compensation expense, of 495,000
shares under the performance-based component can be accelerated from a maximum
seven-year period to a minimum three-year period by the attainment of certain
performance criteria during fiscal years 2001 through 2005.
Restricted share awards outstanding from prior grants totaled 256,000 at
the end of 1998. Subsequent to year-end, 131,000 shares were released, 53,000
shares were forfeited and 72,000 shares will be released upon retirement.
Compensation expense related to share grants prior to 1998 was recognized over
the award period and consisted of time- and performance-based components. The
time-based expense was calculated using the fair value of the shares on the date
of issuance and was contingent on continued employment. The performance-based
expense was calculated using the fair value of the Company's common stock during
the award period and was contingent on attainment of certain performance
criteria.
DEFERRED STOCK AWARDS
Deferred stock incentive shares granted to key employees generally vest over
five to ten years in annual installments commencing one year after the date of
grant. Certain employees may elect to defer payments until termination or
retirement. The Company accrues compensation expense for the fair market value
of the shares on the date of grant, less estimated forfeitures.
In connection with the Distribution, the deferred stock incentive shares
granted to employees of the Company and employees of Host Marriott were split in
accordance with the one-for-five distribution ratio. Presented below is a
summary of the Company's deferred stock award activity since the Distribution:
<TABLE>
<CAPTION>
SHARES
- ---------------------------------- ---------- -------------
<S> <C>
Balance, December 29, 1995 146,809
Granted 163,813
Issued (11,308)
Forfeited/expired (34,112)
- ---------------------------------- ---------- -------------
Balance, January 3, 1997 265,202
Granted 210,180
Issued (25,894)
Forfeited/expired (26,941)
- ---------------------------------- ---------- -------------
Balance, January 2, 1998 422,547
Granted 7,500
Issued (38,091)
Forfeited/expired (24,641)
- ---------------------------------- ---------- -------------
Balance, January 1, 1999 367,315
- ---------------------------------- ---------- -------------
</TABLE>
STOCK OPTION AWARDS
Employee stock options may be granted to key employees at not less than fair
market value on the date of the grant. Options granted before May 11, 1990
expire 10 years after the date of grant and nonqualified options granted on or
after May 11, 1990, expire from 10 to 15 years after the date of grant. Most
options vest ratably over each of the first four years following the date of the
grant. There was no compensation cost recognized by the Company relating to
stock options during 1998, 1997 and 1996.
In connection with the Distribution, the outstanding Host Marriott options
held by current employees of the Company and employees of Host Marriott were
redenominated in both Company and Host Marriott stock, and the exercise prices
of the options were adjusted based on the relative trading prices of shares of
the common stock of the two companies immediately following the Distribution.
The weighted-average fair value of the Company's stock options, at the
grant date, calculated using the Black-Scholes option-pricing model, for 1998,
1997 and 1996 totaled $7.6 million, $2.5 million and $5.3 million, respectively.
38
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Presented below is a summary of the Company's stock option activity:
<TABLE>
<CAPTION>
- ---------------------------------- ------------ ------------
WEIGHTED
AVERAGE
SHARES PRICE
- ---------------------------------- ------------ ------------
<S> <C> <C>
Balance, December 29, 1995 435,240 $ 3.75
Granted 1,660,800 7.21
Exercised (72,231) 3.57
Forfeited/expired (67,635) 5.55
- ---------------------------------- ------------ ------------
Balance, January 3, 1997 1,956,174 6.63
Granted 433,400 14.21
Exercised (161,718) 5.20
Forfeited/expired (120,360) 7.22
- ---------------------------------- ------------ ------------
Balance, January 2, 1998 2,107,496 8.27
Granted 1,564,609 12.71
Exercised (165,528) 5.85
Forfeited/expired (179,030) 7.11
- ---------------------------------- ------------ ------------
Balance, January 1, 1999 3,327,547 $10.54
- ---------------------------------- ------------ ------------
</TABLE>
Presented below is a summary of the Company's exercisable and unexercisable
stock options as of the end of fiscal years 1998, 1997 and 1996:
<TABLE>
<CAPTION>
EXERCISABLE UNEXERCISABLE
- ---------------------------- -------------- ----------------
<S> <C> <C>
JANUARY 1, 1999
Shares 785,489 2,542,058
Exercise price range $0.86-$14.75 $5.07-$14.75
Weighted-average
exercise price $7.57 $11.46
Weighted-average
remaining contractual
life in years 9.8 9.7
- ---------------------------- -------------- ----------------
JANUARY 2, 1998
Shares 589,949 1,517,547
Exercise price range $0.86-$8.88 $5.07-$14.75
Weighted-average
exercise price $5.80 $9.23
Weighted-average
remaining contractual
life in years 10.9 10.9
- ---------------------------- -------------- ----------------
JANUARY 3, 1997
Shares 254,970 1,701,204
Exercise price range $0.86-$5.50 $4.03-$8.88
Weighted-average
exercise price $3.35 $7.12
Weighted-average
remaining contractual
life in years 11.0 12.3
- ---------------------------- -------------- ----------------
</TABLE>
EMPLOYEE STOCK PURCHASE PLAN
Under the terms of the Employee Stock Purchase Plan, eligible employees may
purchase Host Marriott Services' common stock through payroll deductions at the
lower of the market value of the stock at the beginning or end of the plan year.
During the first quarter of 1999, approximately 154,000 common shares were sold
to employees at an exercise price of $7.88 per share. During the first quarter
of 1998, 194,573 Host Marriott Services' common shares were sold to employees at
an exercise price of $9.13 per share. During the first quarter of 1997, 274,021
Host Marriott Services' common shares were sold to employees at an exercise
price of $6.06 per share.
There was no compensation cost recognized by the Company relating to the
Employee Stock Purchase Plan during 1998, 1997 and 1996. The fair value of the
option feature of the Employee Stock Purchase Plan, calculated using the
Black-Scholes option-pricing model, was $170,000, $274,000 and $285,000 for
1998, 1997 and 1996, respectively.
ACCOUNTING FOR STOCK-BASED COMPENSATION
The Company has adopted the disclosure-only provisions of SFAS No. 123 but
applies Accounting Principles Board Opinion No. 25 and related interpretations
in accounting for its plans. Compensation cost recognized by the Company
relating to restricted stock and deferred stock awards granted under the
Comprehensive Stock Plan was $3.8 million, $4.0 million and $3.7 million for
1998, 1997 and 1996, respectively. Had the Company elected to recognize
compensation cost for all awards granted under Host Marriott Services'
Comprehensive Stock Plan and the Employee Stock Purchase Plan based on the fair
value of the awards at the grant dates, consistent with the method prescribed by
SFAS No. 123, net income would have been changed to the pro forma amounts
indicated below:
<TABLE>
<CAPTION>
- ------------------------------------------------------------
1998 1997 1996
- ------------------------------------------------------------
<S> <C> <C> <C>
(IN MILLIONS)
Net income As reported $23.1 $19.6 $12.9
Pro forma 21.3 18.6 12.3
- ------------------------------------------------------------
<FN>
Note: Because the SFAS No. 123 method of accounting has not been applied to
options granted prior to January 1, 1995, the resulting pro forma
compensation cost may not be representative of the effects on net income
expected in future years.
</FN>
</TABLE>
39
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Fair values of stock options used to compute pro forma net income
disclosures were determined using the Black-Scholes option-pricing model with
the following assumptions:
<TABLE>
<CAPTION>
1998 1997 1996
- -----------------------------------------------------
<S> <C> <C> <C>
Dividend yield 0% 0% 0%
Expected volatility 27.9% 30.8% 34.7%
Risk-free interest rate 6.3% 6.3% 6.0%
Expected holding
period (in years) 7 7 7
- -----------------------------------------------------
</TABLE>
8. PROFIT SHARING AND POSTRETIREMENT BENEFIT PLANS
Employees meeting certain eligibility requirements can elect to participate in
profit sharing and deferred compensation plans. The amount to be matched by the
Company is determined annually by the Company's Board of Directors. The cost of
these plans is based on salaries and wages of participating employees and
totaled $2.6 million, $2.5 million and $2.6 million in 1998, 1997 and 1996,
respectively.
The Company has a supplemental retirement plan for certain key officers.
The liability relating to this plan recorded as of the end of 1998 and 1997 was
$4.9 million and $5.1 million, respectively. The compensation cost recognized
for each of the years 1998, 1997 and 1996 was $0.3 million.
9. RESTRUCTURING
Management approved a formal restructuring plan in October of 1995 and the
Company recorded a pretax restructuring charge to earnings of $14.5 million in
the fourth quarter of 1995. The restructuring charge was primarily comprised of
involuntary employee termination benefits (related to the Company's realignment
of operational responsibilities) and lease cancellation penalty fees and related
costs resulting from the Company's plan to exit certain off-airport merchandise
contracts.
In the fourth quarter of 1997, the Company concluded its restructuring plan
and reversed substantially all of the remaining restructuring reserve, which
resulted in a $3.9 million pretax reduction of operating expenses.
10. COMMITMENTS AND CONTINGENCIES
Future minimum annual rental commitments for noncancellable operating leases as
of the end of 1998 are as follows:
<TABLE>
<CAPTION>
- ----------------------------------------- -------------
Years
- ----------------------------------------- -------------
<S> <C>
(IN MILLIONS)
1999 $150.8
2000 136.8
2001 123.8
2002 104.9
2003 89.4
Thereafter 302.2
- ----------------------------------------- -------------
Total minimum lease payments $907.9
- ----------------------------------------- -------------
</TABLE>
The Company leases property and equipment under noncancellable leases.
Certain leases contain provisions for the payment of contingent rentals based on
sales in excess of stipulated amounts and many also contain contractual rental
payment increases throughout the term of the lease. The minimum rent increases
are amortized over the term of the applicable lease on a straight-line basis.
Future minimum annual rental commitments of $907.9 million have not been reduced
by minimum sublease rentals of $91.8 million payable to the Company under
noncancellable subleases as of the end of 1998.
Certain leases require a minimum level of capital expenditures for initial
investment, renovations and facility expansions during the lease terms. At the
end of 1998, the Company was committed to invest approximately $122.6 million in
capital expenditures over the various lease terms.
Rent expense, included in the consolidated statements of operations,
consists of:
<TABLE>
<CAPTION>
- ------------------------ --------- ---------- ---------
1998 1997 1996
- ------------------------ --------- ---------- ---------
<S> <C> <C> <C>
(IN MILLIONS)
Minimum rental on
operating leases $126.8 $118.7 $111.2
Additional rental
based on sales 62.1 61.7 69.7
- ------------------------ --------- ---------- ---------
Total rent expense $188.9 $180.4 $180.9
- ------------------------ --------- ---------- ---------
</TABLE>
Rent expense related to the Company's corporate operations, included in
general and administrative expenses, totaled $3.0 million, $2.9 million and $2.4
million in 1998, 1997 and 1996, respectively.
The Company's facilities are operated under numerous long-term concession
agreements with various airport and tollroad authorities. The Company
historically has been successful at retaining such
40
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
arrangements and winning new business, enabling it to replace lost concession
facilities. However, the expiration of certain of these agreements could have a
significant impact on the Company's financial condition and results of
operations, and there can be no assurance that the Company will succeed in
replacing lost concession facilities and retaining the remaining facilities in
the future.
The Company is, from time to time, involved in litigation matters
incidental to its business. Management believes that any liability or loss
resulting from such matters will not have a material adverse effect on the
financial position or results of operations of the Company.
11. FAIR VALUE OF FINANCIAL INSTRUMENTS
For certain of the Company's financial instruments, including cash and cash
equivalents, accounts receivable, accounts payable, line-of-credit borrowings
and other accrued liabilities, the carrying amounts approximate fair value due
to their short maturities. The fair value of the Senior Notes is based on quoted
market prices and the fair value of other long-term debt instruments are
estimated by discounting the expected future cash flows using the current rates
at which similar debt instruments would be provided from lenders for the same
remaining maturities.
The carrying values and fair values of certain of the Company's financial
instruments are shown in the table below:
<TABLE>
<CAPTION>
1998 1997
- ------------------- -------------------- --------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
- ------------------- ---------- ---------- --------- ---------
<S> <C> <C> <C> <C>
(IN MILLIONS)
Financial liabilities:
Senior Notes $400.0 $415.4 $400.0 $426.8
Other debt 6.7 7.3 6.2 6.6
- ------------------- ---------- ---------- --------- ---------
</TABLE>
12. BUSINESS SEGMENTS
The Company's principal business is providing food, beverage and retail
concessions at airports, in travel plazas and at shopping malls. The Company's
management evaluates performance of each segment based on profit or loss from
operations before allocation of general and administrative expenses, unusual
items, interest and income taxes. The accounting policies of the segments are
the same as those described in the summary of significant accounting policies
(see Note 1).
<TABLE>
<CAPTION>
(IN MILLIONS) 1998 1997 1996
- ----------------------------------------------------------------
<S> <C> <C> <C>
REVENUES:
Airports $1,028.8 $ 956.7 $ 962.7
Travel Plazas 181.1 174.2 174.3
Shopping Malls 22.1 15.4 2.7
- ----------------------------------------------------------------
$1,232.0 $1,146.3 $1,139.7
- ----------------------------------------------------------------
OPERATING PROFIT (LOSS) (1):
Airports $ 99.2 $ 98.1 $ 91.6
Travel Plazas 24.5 21.3 20.0
Shopping Malls (1.0) 1.3 0.3
- ----------------------------------------------------------------
$122.7 $120.7 $111.9
- ----------------------------------------------------------------
CAPITAL EXPENDITURES:
Airports $85.7 $52.6 $42.7
Travel Plazas 3.7 2.0 1.9
Shopping Malls 5.1 6.9 4.2
- ----------------------------------------------------------------
$94.5 $61.5 $48.8
- ----------------------------------------------------------------
DEPRECIATION AND
AMORTIZATION:
Airports $41.0 $39.5 $40.7
Travel Plazas 8.3 8.1 8.8
Shopping Malls 2.5 1.5 0.2
- ----------------------------------------------------------------
$51.8 $49.1 $49.7
- ----------------------------------------------------------------
ASSETS:
Airports $347.2 $291.7
Travel Plazas 54.1 59.4
Shopping Malls 12.8 14.1
- ----------------------------------------------------
$414.1 $365.2
- ----------------------------------------------------
<FN>
(1) Before general and administrative expenses and unusual items.
</FN>
</TABLE>
41
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Reconciliations of segment results to the Company's consolidated results follow:
<TABLE>
<CAPTION>
(IN MILLIONS) 1998 1997 1996
- ---------------------------------------------------------------
<S> <C> <C> <C>
OPERATING PROFIT:
Segments $122.7 $120.7 $ 111.9
General and
administrative expenses (58.0) (54.3) (51.8)
Write-downs of
long-lived assets (5.9) (4.2) ---
Reversal of
restructuring charges --- 3.9 ---
- ---------------------------------------------------------------
$ 58.8 $ 66.1 $ 60.1
- ---------------------------------------------------------------
CAPITAL EXPENDITURES:
Segments $ 94.5 $ 61.5 $ 48.8
Corporate and other 1.1 4.5 6.1
- ---------------------------------------------------------------
$ 95.6 $ 66.0 $ 54.9
- ---------------------------------------------------------------
ASSETS:
Segments $414.1 $365.2
Corporate and other(1) 116.6 134.8
- ---------------------------------------------------
$530.7 $500.0
- ---------------------------------------------------
<FN>
(1)The majority of the decrease in corporate and other was related to a
decrease in corporate cash concentration accounts.
</FN>
</TABLE>
Revenues for international operations totaled $66.9 million, $63.6 million,
and $56.4 million in 1998, 1997, and 1996, respectively.
Property and equipment, net of accumulated depreciation, for international
operations was $23.6 million and $17.8 million at the end of 1998 and 1997,
respectively.
13. RELATIONSHIP WITH MARRIOTT INTERNATIONAL AND HOST MARRIOTT
On October 8, 1993, Host Marriott distributed through a special dividend to
holders of Host Marriott common stock all of the outstanding shares of its
wholly-owned subsidiary, Marriott International (the "MI Distribution").
In connection with the MI Distribution, Host Marriott and Marriott
International entered into various management and transitional service
agreements. In connection with the Distribution, Host Marriott Services and
Marriott International entered into a Continuing Services Agreement, a
Noncompetition Agreement and a License Agreement. These agreements provide,
among other things, that Host Marriott Services will receive (i) certain
corporate services, such as accounting and computer systems support; (ii)
various product supply and distribution services; and (iii) various other
transitional services. In accordance with the agreements, Host Marriott Services
will compensate Marriott International for services rendered thereunder. As a
part of the Continuing Services Agreement, the Company purchased food and
supplies through Marriott International totaling $75.4 million, $77.3 million
and $76.9 million and paid $8.8 million, $9.8 million and $10.7 million for
corporate support services during 1998, 1997 and 1996, respectively.
In connection with the Distribution, the Company entered into management
agreements related to certain restaurant operations retained by Host Marriott.
Management fees related to these contracts were $0.2 million, $0.1 million and
$0.2 million in 1998, 1997 and 1996, respectively.
For purposes of governing certain of the ongoing relationships between the
Company and Host Marriott after the special dividend and to provide for an
orderly transition, the Company and Host Marriott entered into various
agreements including a Distribution Agreement, an Employee Benefits Allocation
Agreement, a Tax Sharing Agreement and a Transitional Services Agreement.
Payments made to Host Marriott relating to these agreements totaled $0.1 million
in 1996. No payments were made during 1998 or 1997.
42
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
15. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
<TABLE>
<CAPTION>
1998(1)
- ------------------------------------------------- ---------------------------------------------------------------------
FIRST SECOND THIRD FOURTH FISCAL
(IN MILLIONS) QUARTER QUARTER(2) QUARTER(3) QUARTER(4) YEAR
- ------------------------------------------------- ------------- ------------- ------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Revenues $ 252.0 $ 288.7 $ 317.8 $ 373.5 $1,232.0
Operating profit 4.7 17.8 31.1 5.2 58.8
Net income (loss) (2.4) 5.6 15.9 4.0 23.1
1997(1)
- ------------------------------------------------- ---------------------------------------------------------------------
FIRST SECOND THIRD FOURTH FISCAL
(IN MILLIONS) QUARTER QUARTER QUARTER(5) QUARTER(6) YEAR
- ------------------------------------------------- ------------- ------------- ------------- -------------- ------------
Revenues $ 238.8 $ 259.9 $ 298.5 $ 349.1 $1,146.3
Operating profit 3.4 15.7 32.9 14.1 66.1
Net income (loss) (3.1) 4.4 16.6 1.7 19.6
1996(1)
- ------------------------------------------------- ---------------------------------------------------------------------
FIRST SECOND THIRD FOURTH FISCAL
(IN MILLIONS) QUARTER QUARTER QUARTER QUARTER YEAR
- ------------------------------------------------- ------------- ------------- ------------- -------------- ------------
Revenues $ 236.2 $ 258.4 $ 294.5 $ 350.6 $1,139.7
Operating profit 2.3 14.3 32.1 11.4 60.1
Net income (loss) (3.8) 3.0 13.6 0.1 12.9
<FN>
(1) The first three quarters of 1998 and 1997 consist of 12 weeks each, and the
fourth quarter includes 16 weeks. The first three quarters of 1996 consists
of 12 weeks each, and the fourth quarter includes 17 weeks.
(2) Second quarter 1998 results include a $2.5 million tax benefit to recognize
the anticipated utilization of certain tax credits previously considered
unrealizable.
(3) Third quarter 1998 results include a $0.7 million tax benefit to recognize
the anticipated utilization of certain tax credits previously considered
unrealizable.
(4) Fourth quarter 1998 results include $5.9 million of write-downs of
long-lived assets and a $7.9 million tax benefit to recognize the
anticipated utilization of certain tax credits previously considered
unrealizable.
(5) Third quarter 1997 results include a $1.9 million tax benefit to recognize
the utilization of certain tax credits previously considered unrealizable.
(6) Fourth quarter 1997 results include $4.2 million of write-downs of
long-lived assets and a $3.9 million reversal of restructuring charges
originally recorded in 1995.
</FN>
</TABLE>
----------------------------------------
16. SUPPLEMENTAL GUARANTOR AND NON-GUARANTOR SUBSIDIARY INFORMATION
All material subsidiaries of the Company guarantee the Senior Notes. The
separate financial statements of each guaranteeing subsidiary (together, the
"Guarantor Subsidiaries") are not presented because the Company's management has
concluded that such financial statements are not material to investors. The
guarantee of each Guarantor Subsidiary is full and unconditional and joint and
several and each Guarantor Subsidiary is a wholly-owned subsidiary of the
Company. Certain of the Company's controlled affiliates, in which the Company
owns between 50.01% and 90% interests, are not guarantors of the Senior Notes
(the "Non-Guarantor Subsidiaries"). The ability of the Company's Non-Guarantor
Subsidiaries to make dividends to the Company is restricted to the extent of the
minority interests' share in the affiliates' combined net assets. There is no
subsidiary of the Company the capital stock of which comprises a substantial
portion of the collateral for the Senior Notes within the meaning of Rule 3-10
of Regulation S-X.
The following condensed consolidating financial information sets forth
the combined financial position, results of operations and cash flows of the
parent, Guarantor Subsidiaries and Non-Guarantor Subsidiaries:
43
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SUPPLEMENTAL CONSOLIDATING BALANCE SHEETS
<TABLE>
<CAPTION>
1998
- ----------------------------------------- -----------------------------------------------------------------------------------
GUARANTOR NON-GUARANTOR ELIMINATIONS &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
<S> <C> <C> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 5.6 $ 24.3 $ 3.2 $ --- $ 33.1
Other current assets --- 90.2 10.5 --- 100.7
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total current assets 5.6 114.5 13.7 --- 133.8
Property and equipment, net --- 250.4 39.8 --- 290.2
Other assets --- 103.6 3.1 --- 106.7
Investments in subsidiaries 311.6 --- --- (311.6) ---
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Assets $ 317.2 $ 468.5 $ 56.6 $(311.6) $ 530.7
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Current liabilities:
Accounts payable $ --- $ 65.0 $ 10.8 $ --- $ 75.8
Accrued payroll and benefits --- 44.5 --- --- 44.5
Borrowings under line-of-credit
agreement 11.6 --- --- --- 11.6
Other current liabilities --- 34.7 6.4 --- 41.1
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total current liabilities 11.6 144.2 17.2 --- 173.0
Long-term debt 400.0 404.9 1.0 (400.0) 405.9
Other liabilities --- 35.7 0.1 10.4 46.2
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Liabilities 411.6 584.8 18.3 (389.6) 625.1
Owner's equity (deficit) (94.4) (116.3) 38.3 78.0 (94.4)
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Liabilities and Owner's Deficit $ 317.2 $ 468.5 $ 56.6 $(311.6) $ 530.7
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
</TABLE>
<TABLE>
<CAPTION>
1997
- ----------------------------------------- -----------------------------------------------------------------------------------
GUARANTOR NON-GUARANTOR ELIMINATIONS &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
<S> <C> <C> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 31.8 $ 27.2 $ 1.3 $ --- $ 60.3
Other current assets --- 80.7 7.2 --- 87.9
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total current assets 31.8 107.9 8.5 --- 148.2
Property and equipment, net --- 225.4 27.1 --- 252.5
Other assets --- 99.0 0.3 --- 99.3
Investments in subsidiaries 256.9 --- --- (256.9) ---
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Assets $ 288.7 $ 432.3 $ 35.9 $(256.9) $ 500.0
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Current liabilities:
Accounts payable $ --- $ 56.3 $ 11.4 $ --- $ 67.7
Accrued payroll and benefits --- 46.1 --- --- 46.1
Other current liabilities --- 42.1 --- --- 42.1
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total current liabilities --- 144.5 11.4 --- 155.9
Long-term debt 400.0 405.8 --- (400.0) 405.8
Other liabilities --- 41.7 --- 7.9 49.6
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Liabilities 400.0 592.0 11.4 (392.1) 611.3
Owner's equity (deficit) (111.3) (159.7) 24.5 135.2 (111.3)
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
Total Liabilities and Owner's Deficit $ 288.7 $ 432.3 $ 35.9 $(256.9) $ 500.0
- ----------------------------------------- ------------- ----------------- ---------------- ----------------- ----------------
</TABLE>
44
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SUPPLEMENTAL CONSOLIDATING STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
1998
- ------------------------------------------ ----------------------------------------------------------------------------------
GUARANTOR NON-GUARANTOR ELIMINATIONS &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ------------------------------------------ ----------- ---------------- ------------------ ----------------- ----------------
<S> <C> <C> <C> <C> <C>
Revenues $ --- $1,055.1 $176.9 $ --- $1,232.0
Operating costs and expenses --- 1,001.5 171.7 --- 1,173.2
- ------------------------------------------ ----------- ---------------- ------------------ ----------------- ----------------
Operating profit --- 53.6 5.2 --- 58.8
Interest expense (39.3) (39.9) --- 39.3 (39.9)
Interest income 1.7 --- --- --- 1.7
- ------------------------------------------ ----------- ---------------- ------------------ ----------------- ----------------
Income (loss) before income taxes (37.6) 13.7 5.2 39.3 20.6
Provision (benefit) for income taxes 4.6 (1.7) (0.6) (4.8) (2.5)
Equity interest in affiliates 65.3 --- --- (65.3) ---
- ------------------------------------------ ----------- ---------------- ------------------ ----------------- ----------------
Net income $ 23.1 $ 15.4 $ 5.8 $(21.2) $ 23.1
- ------------------------------------------ ----------- ---------------- ------------------ ----------------- ----------------
</TABLE>
<TABLE>
<CAPTION>
1997
- ------------------------------------------ ---------------------------------------------------------------------------------
GUARANTOR NON-GUARANTOR ELIMINATIONS &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
<S> <C> <C> <C> <C> <C>
Revenues $ --- $1,019.7 $126.6 $ --- $1,146.3
Operating costs and expenses --- 960.5 119.7 --- 1,080.2
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Operating profit --- 59.2 6.9 --- 66.1
Interest expense (39.3) (39.8) --- 39.3 (39.8)
Interest income 2.6 0.4 --- --- 3.0
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Income (loss) before income taxes (36.7) 19.8 6.9 39.3 29.3
Provision (benefit) for income taxes (12.1) 6.5 2.3 13.0 9.7
Equity interest in affiliates 44.2 --- --- (44.2) ---
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Net income $ 19.6 $ 13.3 $ 4.6 $(17.9) $ 19.6
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
</TABLE>
<TABLE>
<CAPTION>
1996
- ------------------------------------------ ---------------------------------------------------------------------------------
GUARANTOR NON-GUARANTOR ELIMINATIONS &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
<S> <C> <C> <C> <C> <C>
Revenues $ --- $1,017.1 $122.6 $ --- $1,139.7
Operating costs and expenses --- 963.4 116.2 --- 1,079.6
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Operating profit --- 53.7 6.4 --- 60.1
Interest expense (39.3) (40.3) --- 39.3 (40.3)
Interest income 2.4 --- --- --- 2.4
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Income (loss) before income taxes (36.9) 13.4 6.4 39.3 22.2
Provision (benefit) for income taxes (15.5) 5.6 2.7 16.5 9.3
Equity interest in affiliates 34.3 --- --- (34.3) ---
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
Net income $ 12.9 $ 7.8 $ 3.7 $(11.5) $ 12.9
- ------------------------------------------ ----------- -------------- ------------------ ------------------ ----------------
</TABLE>
45
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
SUPPLEMENTAL CONSOLIDATING STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
1998
- --------------------------------------------- ----------------------------------------------------------------------------
NON- ELIMINATIONS
GUARANTOR GUARANTOR &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C>
Cash (used in) provided by operations $ (36.3) $ 60.3 $ 13.4 $ 36.3 $73.7
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
Investing activities:
Capital expenditures --- (76.9) (18.7) --- (95.6)
Other --- (8.3) (8.6) 8.6 (8.3)
Advances (to) from subsidiaries 4.1 26.2 6.0 (36.3) ---
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
Cash provided by (used in)
investing activities 4.1 (59.0) (21.3) (27.7) (103.9)
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
Financing activities:
Repayments of debt --- (0.9) (0.2) --- (1.1)
Issuance of debt --- --- 1.4 --- 1.4
Dividend to Host Marriott Services (5.6) --- --- --- (5.6)
Payment to Host Marriott Corporation
for Marriott International options
and deferred shares --- (3.5) --- --- (3.5)
Issuance of intercompany debt 10.0 --- --- --- 10.0
Repayment of intercompany debt (10.0) --- --- --- (10.0)
Net borrowings under line-of-credit
agreement 11.6 --- --- --- 11.6
Partnership contributions
(distributions), net --- --- 8.6 (8.6) ---
Other 0.2 --- --- 0.2
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
Cash used in financing activities 6.0 (4.2) 9.8 (8.6) 3.0
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
(Decrease) increase in cash and
cash equivalents $ (26.2) $ (2.9) $ 1.9 $ --- $(27.2)
- --------------------------------------------- ----------- --------------- --------------- ---------------- ---------------
</TABLE>
<TABLE>
<CAPTION>
1997
- ------------------------------------------ -------------------------------------------------------------------------------
NON- ELIMINATIONS
GUARANTOR GUARANTOR &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C>
Cash (used in) provided by operations $ (35.4) $ 31.5 $ 14.4 $ 35.4 $ 45.9
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
Investing activities:
Capital expenditures --- (58.5) (7.5) --- (66.0)
Other --- (8.7) 3.9 (3.9) (8.7)
Advances (to) from subsidiaries (8.1) 50.8 (7.3) (35.4) ---
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
Cash used in investing activities (8.1) (16.4) (10.9) (39.3) (74.7)
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
Financing activities:
Repayments of debt --- (1.7) --- --- (1.7)
Payment to Host Marriott Corporation
for Marriott International options
and deferred shares --- (2.2) --- --- (2.2)
Partnership contributions
(distributions), net --- --- (3.9) 3.9 ---
Other --- (0.1) --- --- (0.1)
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
Cash used in financing activities --- (4.0) (3.9) 3.9 (4.0)
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
(Decrease) increase in cash and
cash equivalents $ (43.5) $ 11.1 $(0.4) $ --- $(32.8)
- ------------------------------------------ -------------- --------------- --------------- ---------------- ---------------
</TABLE>
46
<PAGE>
HOST INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
<TABLE>
<CAPTION>
1996
- ----------------------------------------- -------------------------------------------------------------------------------
NON- ELIMINATIONS
GUARANTOR GUARANTOR &
(IN MILLIONS) PARENT SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
<S> <C> <C> <C> <C> <C>
Cash provided by (used in) operations $ (35.8) $ 90.9 $ 7.6 $ 35.8 $ 98.5
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
Investing activities:
Capital expenditures --- (39.9) (15.0) --- (54.9)
Other --- 5.0 5.7 (5.7) 5.0
Advances (to) from subsidiaries 95.3 (66.4) 6.9 (35.8) ---
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
Cash provided by (used in)
investing activities 95.3 (101.3) (2.4) (41.5) (49.9)
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
Financing activities:
Repayments of debt --- (0.8) --- --- (0.8)
Partnership contributions
(distributions), net --- --- (5.7) 5.7 ---
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
Cash used in
financing activities --- (0.8) (5.7) 5.7 (0.8)
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
Increase (decrease) in cash and
cash equivalents $ 59.5 $ (11.2) $(0.5) $ --- $ 47.8
- ----------------------------------------- -------------- ---------------- -------------- ---------------- ---------------
</TABLE>
Certain reclassifications were made to conform all of the supplemental
information to the financial presentation on a consolidated basis. The principal
eliminating entries eliminate Company debt and related interest charges
reflected in the financial statements of the Company (as obligor) and the
Guarantor Subsidiaries (as guarantors), investments, advances and equity in
earnings in subsidiaries and the minority partners' equity interests in the
partnership distributions and establish the minority interest liability.
47
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
The information called for by Items 10-13 is incorporated by reference
from the Host Marriott Services Corporation 1999 Annual Meeting of the
Shareholders--Notice and Proxy Statement--(to be filed pursuant to Regulation
14A not later than 120 days after the close of the fiscal year).
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
ITEM 11. EXECUTIVE COMPENSATION
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENTS, SCHEDULES, AND REPORTS ON FORM 8-K
(a) LIST OF DOCUMENTS FILED AS PART OF THIS REPORT
(1) FINANCIAL STATEMENTS
All financial statements of the registrant as set forth under Item 8
of this Report on Form 10-K.
(2) FINANCIAL STATEMENT SCHEDULES
The following financial information is filed herewith on the pages
indicated.
FINANCIAL SCHEDULES: PAGE
-------------------- ----
I. Valuation and Qualifying Accounts S-1 to S-2
All other schedules are omitted because they are not applicable or
the required information is included in the consolidated financial
statements or notes thereto.
(3) EXHIBITS
EXHIBIT
NO. DESCRIPTION
- ------- --------------------------------------------
21 Listing of Subsidiaries of the Registrant
27 Financial Data Schedule (EDGAR Filing Only)
48
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on this 30th day of March,
1999.
HOST INTERNATIONAL, INC.
By: /S/ BRIAN W. BETHERS
-----------------------
Brian W. Bethers
Executive Vice President (Principal Financial Officer and Director)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons in their indicated capacities and
on the date set forth above.
SIGNATURE TITLE
- -------------------------- ----------------------------------------
/S/ WILLIAM W. MCCARTEN President (Principal Executive Officer)
- ------------------------
William W. McCarten
/S/ BRIAN W. BETHERS Executive Vice President (Principal
- ------------------------ Financial Officer and Director)
Brian W. Bethers
/S/ TIMOTHY H. PEASE Vice President (Principal Accounting Officer)
- ------------------------
Timothy H. Pease
/S/ THOMAS G. O'HARE Director
- ------------------------
Thomas G. O'Hare
/S/ JOHN J. MCCARTHY Senior Vice President and Director
- ------------------------
John J. McCarthy
49
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULES
To the Shareholder of Host International, Inc.:
We have audited in accordance with generally accepted auditing
standards, the consolidated financial statements of Host International, Inc. and
subsidiaries, included in this Form 10-K and have issued our report thereon
dated January 27, 1999. Our audits were made for the purpose of forming an
opinion on the basic consolidated financial statements taken as a whole. The
schedule appearing on page S-2 is the responsibility of the Company's management
and is presented for purposes of complying with the Securities and Exchange
Commission's rules and is not part of the basic consolidated financial
statements. This schedule has been subjected to the auditing procedures applied
in the audits of the basic consolidated financial statements and, in our
opinion, fairly states in all material respects the financial data required to
be set forth therein in relation to the basic consolidated financial statements
taken as a whole.
ARTHUR ANDERSEN LLP
Washington, D.C.
January 27, 1999
S-1
<PAGE>
SCHEDULE I
HOST INTERNATIONAL, INC.
VALUATION AND QUALIFYING ACCOUNTS
FOR THE FISCAL YEARS ENDED JANUARY 1, 1999, JANUARY 2, 1998 AND JANUARY 3, 1997
<TABLE>
<CAPTION>
- --------------------------------------------- ---------------- -- -------------- -- --------------- --- -------------
ADDITIONS
BALANCE AT CHARGED TO BALANCE AT
BEGINNING COSTS AND END
DESCRIPTION(2) OF PERIOD EXPENSES DEDUCTIONS(1) OF PERIOD
- --------------------------------------------- ---------------- -- -------------- -- --------------- --- -------------
<S> <C> <C> <C> <C>
(IN MILLIONS)
Allowance for doubtful accounts
1996 $ 9.1 $2.9 $ (1.7) $10.3
1997 10.3 7.4 (0.1) 17.6
1998 17.6 1.4 (8.7) 10.3
Allowance for notes receivable
1996 --- 0.4 --- 0.4
1997 0.4 0.2 --- 0.6
1998 0.6 0.9 (0.2) 1.3
- --------------------------------------------- ---------------- -- -------------- -- --------------- --- -------------
<FN>
(1) Charges to the accounts are for the purpose for which the reserves were
created.
(2) The deferred tax asset valuation allowance has been omitted from this
schedule because the required information is shown in the notes to the
financial statements.
</FN>
</TABLE>
S-2
EXHIBIT 21
HOST INTERNATIONAL, INC.
LISTING OF SUBSIDIARIES
<TABLE>
<CAPTION>
<S> <C>
DOMESTIC FOREIGN
- ----------------------------------------------------- ---------------------------------------------------------
State: California Country: Australia
The Gift Collection, Inc. Marriott Airport Concessions Pty Ltd.
Host Gifts, Inc. Host Services Pty Ltd.
State: Delaware Country: Canada
Michigan Host, Inc. Host International of Canada, Ltd.
Host Services of New York, Inc.
Las Vegas Terminal Restaurants, Inc. Country: Malaysia
Turnpike Restaurants, Inc. Host (Malaysia) Sdn. Bhd.
Host Marriott Services U.S.A., Inc.
HMS Holdings, Inc. Country: The Netherlands
Cincinnati Terminal Services, Inc. Horeca Exploitative Maatschappij Schiphol, B.V.
Cleveland Airport Services, Inc. Host of Holland, B.V.
Marriott Airport Terminal Services, Inc.
HMS B&L, Inc. Country: China
Shenzhen Host Catering Company, Ltd.
State: Florida
Sunshine Parkway Restaurants, Inc. Country: France
Host Services (France) SAS
State: Kansas
Host International, Inc. of Kansas
State: Maryland
Host International, Inc. of Maryland
Host Marriott Services Family Restaurants, Inc.
State: Ohio
Gladieux Corporation
State: Texas
Host Services, Inc.
</TABLE>
E-1
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> JAN-01-1999
<PERIOD-START> JAN-03-1998
<PERIOD-END> JAN-01-1999
<CASH> 33,100
<SECURITIES> 0
<RECEIVABLES> 42,200
<ALLOWANCES> 11,600
<INVENTORY> 38,100
<CURRENT-ASSETS> 133,800
<PP&E> 665,100
<DEPRECIATION> 374,900
<TOTAL-ASSETS> 530,700
<CURRENT-LIABILITIES> 173,000
<BONDS> 407,000
0
0
<COMMON> 0
<OTHER-SE> (94,400)
<TOTAL-LIABILITY-AND-EQUITY> 530,700
<SALES> 1,232,000
<TOTAL-REVENUES> 1,232,000
<CGS> 362,200
<TOTAL-COSTS> 1,173,200
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 39,900
<INCOME-PRETAX> 20,600
<INCOME-TAX> (2,500)
<INCOME-CONTINUING> 23,100
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 23,100
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
