<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended
September 30, 1998 Commission File Number 1-14280
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
HOST FUNDING, INC.
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(Exact name of Registrant as specified in its charter)
Maryland 52-1907962
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
6116 N. Central Expressway, Suite 1313, Dallas, TX 75206
- -------------------------------------------------- -----------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (214) 750-0760
-----------------
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 (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes __X__ No_____
Indicate the number of shares outstanding of each of the Registrant's classes
of common stock, as of the latest practicable date.
The number of outstanding shares of the Registrant's Class A Common Stock was
1,546,869 as of October 29, 1998.
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TABLE OF CONTENTS
<TABLE>
<CAPTION>
Item Number Page
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<S> <C>
PART I
1. Financial Statements 3
Notes to Financial Statements 10
2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 14
3. Quantitative and Qualitative Disclosures 17
About Market Risk
PART II
1. Legal Proceedings 18
2. Changes in Securities 18
3. Defaults Upon Senior Securities 18
4. Submission of Matters to a Vote of Security Holders 18
5. Other Information 18
6. Exhibits and Reports on Form 8-K 18
</TABLE>
2
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PART I - FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
3
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HOST FUNDING, INC.
CONSOLIDATED BALANCE SHEET
<TABLE>
<CAPTION>
- --------------------------------------------------------------------------------------------
September 30, December 31,
1998 1997
(Unaudited)
- --------------------------------------------------------------------------------------------
<S> <C> <C>
ASSETS
LAND, PROPERTY AND EQUIPMENT - AT COST:
Building and improvements $21,411,384 $20,667,995
Furnishings and equipment 3,720,306 3,471,336
Less accumulated depreciation (2,034,704) (1,241,798)
----------- -----------
23,096,986 22,897,533
Land 6,922,976 6,844,650
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Land, property and equipment - net 30,019,962 29,742,183
CASH AND CASH EQUIVALENTS 102,390 48,867
RESTRICTED CASH 980,229 557,758
RESTRICTED INVESTMENTS 288,000
RENT RECEIVABLE 294,134 115,328
NOTES AND OTHER RECEIVABLES, SALE OF LEASE RIGHTS 400,000 -
DUE FROM RELATED PARTIES 29,610 19,942
LONG-TERM ADVANCES TO LESSEES 110,090 255,841
LOAN COMMITMENT FEES 1,118,848 964,551
FRANCHISE FEES - NET 102,435 110,760
PREPAID AND OTHER ASSETS 146,460 180,950
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TOTAL $33,592,158 $31,996,180
----------- -----------
----------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES:
LONG-TERM DEBT 25,925,875 $25,036,346
SHORT TERM DEBT 918,932 1,345,154
LONG-TERM LEASE DEPOSIT 588,000 300,000
ACCOUNTS PAYABLE AND OTHER ACCRUED LIABILITIES 978,437 335,645
ACCRUED INTEREST 180,696 196,053
DEFERRED INCOME 276,682 -
ACCRUED PROPERTY TAXES 290,758 248,823
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Total liabilities 29,159,380 27,462,021
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MINORITY INTEREST IN PARTNERSHIPS 257,367 254,822
COMMITMENTS AND CONTINGENCIES (NOTE 5)
SHAREHOLDERS' EQUITY:
Class A Common stock, $.01 par value; authorized
50,000,000 shares; issued and outstanding 1,553,569
shares and 1,535,868 shares at September 30, 1998
and December 31, 1997 16,907 16,258
Additional Paid in Capital 8,805,953 8,499,876
Accumulated Deficit (3,451,276) (3,134,005)
Less: Unearned directors' compensation (156,292) (202,792)
----------- -----------
5,215,292 5,179,337
Less: Common stock in treasury at cost, 137,400 shares
at September 30, 1998 (1,039,881) (900,000)
----------- -----------
Total shareholders' equity 4,175,411 4,279,337
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TOTAL $33,592,158 $31,996,180
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</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
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4
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HOST FUNDING, INC
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1998, AND 1997
(UNAUDITED)
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<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1998 1997 1998 1997
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<S> <C> <C> <C> <C>
REVENUES:
Lease revenue - related party $ $
Lease revenue - Lessees 1,103,283 984,507 2,880,494 2,722,872
Interest income - related parties - 3,590 - 122,430
Interest income & Other income 10,104 3,962 24,165 21,656
---------------------- -------------------------
Total revenue 1,113,387 992,059 2,904,659 2,866,958
---------------------- -------------------------
EXPENSES:
Interest expense (including amortization of loan costs) 647,664 580,728 2,022,036 1,686,549
Depreciation and amortization 271,109 204,132 801,231 585,663
Administrative expenses - other 192,755 299,556 674,421 818,213
Advisory fees - related party - - - 2,500
Property taxes 85,363 74,158 253,642 208,139
Minority Interest in Partnerships 7,137 - 2,946 -
Amortization of unearned directors' compensation 13,500 13,500 40,500 40,501
---------------------- -------------------------
Total expenses 1,217,528 1,172,074 3,794,776 3,341,565
---------------------- -------------------------
LOSS BEFORE INCOME TAXES AND GAIN (LOSS) ON SALE (104,141) (180,015) (890,117) (474,607)
Estimated loss related to property sale - - - (50,000)
Gain (loss) on sale of leasing rights (88,644) - 572,846 -
---------------------- -------------------------
NET INCOME (LOSS) $ (192,785) (180,015) $ (317,271) (524,607)
---------------------- -------------------------
---------------------- -------------------------
BASIC AND DILUTED NET INCOME (LOSS) PER SHARE $ (0.12) (0.12) $ (0.20) (0.35)
---------------------- -------------------------
---------------------- -------------------------
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING 1,580,596 1,522,866 1,563,120 1,519,684
---------------------- -------------------------
---------------------- -------------------------
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
5
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HOST FUNDING, INC.
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998
UNAUDITED
<TABLE>
<CAPTION>
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Retained
Class A Additional Earnings Unearned Total
Common Paid in (Accumulated Directors' Treasury Shareholders'
Stock Capital Deficit) Compensaton Stock Equity
- ----------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
BALANCE, December 31, 1997 $16,258 8,499,876 $(3,134,005) $(202,792) $ (900,000) $4,279,337
AMORTIZATION OF UNEARNED DIRECTORS
COMPENSATION 13,500 13,500
COMMON STOCK ISSUED FOR ACQUIRED PROPERTIES
ACQUISITION FEE 175 114,925 115,100
COMMON STOCK ISSUED AS COMPENSATION TO
EMPLOYEE 2 1,124 1,126
NET LOSS (358,104) (358,104)
------- ---------- ----------- --------- ----------- ----------
BALANCE, March 31, 1998 $16,435 $8,615,925 $(3,492,109) $(189,292) $ (900,000) $4,050,959
------- ---------- ----------- --------- ----------- ----------
------- ---------- ----------- --------- ----------- ----------
COMMON STOCK ISSUED PURSUANT TO SALE
OF LEASE RIGHTS 622 287,378 288,000
AMORTIZATION OF UNEARNED DIRECTORS
COMPENSATION 13,500 13,500
PRINCIPAL REDUCTION: NOTES RECEIVABLE DIRECTORS 6,000 6,000
NET INCOME 233,618 233,618
------- ---------- ----------- --------- ----------- ----------
BALANCE, JUNE 30, 1998 $17,057 $8,903,303 $(3,258,491) $(169,792) $ (900,000) $4,592,077
------- ---------- ----------- --------- ----------- ----------
------- ---------- ----------- --------- ----------- ----------
47,400 SHARES OF COMMON STOCK IN TREASURY
AT COST (139,881) (139,881)
COMMON STOCK ISSUED AS DEPOSIT FOR (150) (97,350) (97,500)
LEGAL FEES RETURNED
AMORTIZATION OF UNEARNED DIRECTORS 13,500 13,500
COMPENSATION
NET LOSS (192,785) (192,785)
------- ---------- ----------- --------- ----------- ----------
BALANCE, SEPTEMBER 30, 1998 $16,907 $8,805,953 $(3,451,276) $(156,292) $(1,039,881) $4,175,411
------- ---------- ----------- --------- ----------- ----------
------- ---------- ----------- --------- ----------- ----------
</TABLE>
The accompanying notes are an integral part of
the consolidated financial statements.
6
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HOST FUNDING, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998, AND 1997
<TABLE>
<CAPTION>
1998 1997
(UNAUDITED)
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C>
OPERATING ACTIVITIES:
Net loss $ (317,271) $ (524,607)
Adjustments to reconcile net income to net cash:
provided by operating activities
Depreciation and amortization 801,231 585,665
Amortization of loan fees 121,235 298,636
Amortization of unearned directors' compensation 40,500 46,500
Stock issued as compensation 1,126 -
Minority interest in partnerships 2,545 -
Gain from sale of lease rights (572,846)
Loss from stock sale 80,800
Changes in operating assets and liabilities: - -
Rent receivable (178,806) 43,388
Rent, interest and other receivable - related party (9,668) 11,747
Prepaid and other assets (63,010) (166,785)
Notes receivable: directors 6,000 -
Short term debt (426,222) 25,000
Deferred income 276,682 -
Accounts payable and accrued expenses 669,370 377,640
----------- -----------
Net cash (used in) provided by operating activities 431,666 697,184
----------- -----------
INVESTING ACTIVITIES:
Investment in land, property and equipment (955,585) (5,407,328)
Restricted cash (422,471) (450,533)
Long-term advances to lessee (110,090) (30,841)
Reimbursement of advances to lessee 255,841
Purchase of Company stock (139,881)
Franchise fees - (21,000)
Proceeds related to sale of leasing rights 807,200
Payments related to sale of leasing rights (427,154)
----------- -----------
Net cash used in investing activities (992,140) (5,909,702)
----------- -----------
FINANCING ACTIVITIES:
Cash portion of related party note receivable payment 905,675
Payment of loan fees (275,532) (783,771)
Borrowings on long-term debt 1,175,000 6,225,000
Payments on long-term debt (285,471) (89,736)
Long-term lease deposit 300,000
Distributions - (998,710)
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Net cash provided by financing activities 613,997 5,558,458
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NET CHANGE IN CASH AND CASH EQUIVALENTS 53,523 345,940
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 48,867 218,693
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CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 102,390 $ 564,633
----------- -----------
----------- -----------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION
Cash paid during the period for interest $ 1,916,158 $ 956,201
----------- -----------
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</TABLE>
(Continued)
7
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HOST FUNDING, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998, AND 1997
<TABLE>
<CAPTION>
1998 1997
(UNAUDITED)
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW
INFORMATION (Continued)
Common stock issued to independent directors
Class A common stock $ 0 $ 300
Additional paid in capital 0 299,700
Unearned directors' compensation 0 (300,000)
---------- ------------
Net non-cash investing activity $ 0 $ 0
---------- ------------
---------- ------------
Common stock issued pursuant to Mission Bay
Acquisition Agreement
Land, property and equipment $ 0 $ (2,520,490)
Class A Common Stock 0 2,520
Additional paid in capital 0 2,517,970
---------- ------------
Net non-cash investing activity $ 0 $ 0
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Common stock issued for Acquired Properties
Acquisition Fee
Additional paid in capital $ 114,925 $ 151,840
Class A Common Stock 175 160
Land, property and equipment (115,100) (152,000)
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Net non-cash investing activity $ 0 $ 0
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Conversion of Class C common stock
to Class A common stock
Class A common stock $ - $ 1,400
Class C common stock - (1,400)
-----------------------------
Net non-cash investing activity $ 0 $ 0
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Conversion of Class B common stock
to Class A common stock
Class A common stock $ - $ 1,400
Class C common stock - (1,400)
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Net non-cash investing activity $ 0 $ 0
---------- ------------
---------- ------------
Common stock issued as compensation
Class A common $ 2 $ -
Additional paid in captial 1,124 -
Salary expense (1,126) -
-----------------------------
Net non-cash investing activity $ 0 $ 0
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Common stock issued as deposits and held in escrow
pursuant to the related purchase documents
Class A common $ - $ 49,745
Additional paid in captial - 55
Prepaid and other assets - (49,800)
-----------------------------
Net non-cash investing activity $ 0 $ 0
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</TABLE>
(Continued)
8
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HOST FUNDING, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998, AND 1997
<TABLE>
<CAPTION>
1998 1997
(UNAUDITED)
- ----------------------------------------------------------------------------------------------------------
<S> <C> <C>
Common stock issued pursuant to the sale of lease rights
Class A common $ 622 $ -
Additional paid in captial 287,378 -
N/R: Buckhead (288,000) -
---------------------------
Net non-cash investing activity $ 0 $ 0
---------- ----------
---------- ----------
Common stock pledged to Host Funding as security deposit
relating to leases to Buckhead
Restricted investments $ (288,000) $ -
Security deposits 288,000 -
---------------------------
Net non-cash investing activity $ 0 $ 0
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---------- ----------
Receipt of Class A common stock in partial
payment of related party note receivable
Class A common stock held in treasury (at cost) $ - $ 900,000
Related party note receivable - (900,000)
---------------------------
Net non-cash investing activity $ 0 $ 0
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---------- ----------
Common stock returned as deposit for legal fee
Deposits $ 97,500 $ -
Additional paid in capital (97,350) -
Class A Common (150) -
---------------------------
Net non-cash investing activity $ 0 $ 0
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---------- ----------
Sale of leasing rights
Buckhead stock receivable $ (400,000) $ -
Acquisition finance note receivable (212,000) -
Sale of lease rights 612,000 -
---------------------------
Net non-cash investing activity $ 0 $ 0
---------- ----------
---------- ----------
Receipt of Buckhead stock
Buckhead stock receivable $ 400,000 $ -
Investment in Buckhead (400,000) -
---------------------------
Net non-cash investing activity $ 0 $ 0
---------- ----------
---------- ----------
Reimbursement of capital expenditures relating to property
leased to Buckhead
Capital expenditure reserve $ (100,000) $ -
Note receivable, Buckhead 100,000 -
---------------------------
Net non-cash investing activity $ 0 $ 0
---------- ----------
---------- ----------
</TABLE>
The accompanying notes are an integral part of the consolidated
financial statements.
9 (Concluded)
<PAGE>
Host Funding, Inc. Notes to Consolidated Financial Statements
1. ORGANIZATION AND BASIS OF PRESENTATION.
The accompanying unaudited consolidated financial statements of Host
Funding, Inc., a Maryland corporation (the "Registrant" or the
"Company"), include the accounts of the Company and its consolidated
subsidiaries, Host Ventures, Inc. ("Host Ventures"), CrossHost, Inc
("CrossHost"), and Host Enterprises, Inc. ("Enterprises"), and the
Company's interest in the Country Hearth Inns located in Findlay, Ohio
and Auburn, Indiana. These unaudited consolidated financial
statements have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions for Form 10-Q. Accordingly, these statements do not
include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements. In
the opinion of management of the Registrant, all adjustments necessary
for a fair presentation have been included. The financial statements
presented herein have been prepared in accordance with the accounting
policies described in the Registrant's Annual Report on Form 10-K/A
for the year ended December 31, 1997 and should be read in accordance
therewith. The results of operations for the nine month and the
three-month periods ended September 30, 1998 are not necessarily
indicative of the results to be expected for the full year.
2. NET INCOME (LOSS) PER SHARE.
Net Income or Loss per share for the three and nine months ended
September 30, 1998 and 1997 is computed based on the weighted average
number of shares of common stock outstanding. The impact of common
stock equivalents to earnings per share is immaterial.
The Company adopted Statement of Financial Standards No. 128 ("SFAS
128"), Earnings per Share ("EPS"), beginning with the Company's fourth
quarter of 1997. SFAS 128 requires basic EPS to be computed by
dividing income available to common stockholders by weighted-average
number of common shares outstanding for the period and diluted EPS to
reflect dilution that could occur if securities or other contracts to
issue common stock were exercised or converted into common stock or
resulted in the issuance of common stock that then shared in the
earnings of the entity. All prior period EPS data is required to be
restated to conform to the provision of this statement. There is no
difference between basic and diluted EPS; therefore, no restatement of
prior periods nor reconciliation of these amounts is needed.
3. DEFERRAL OF CONTINGENT INCOME
The Company has deferred approximately $277,000 in percentage rental
income for the nine months ended September 30, 1998. This deferral is
in order to be in compliance with the issuance in May 1998 by the
Financial Accounting Standards
10
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Board's Emerging Issues Task Force of EITF number 98-9, "Accounting
for Contingent Rent in Interim Financial Periods" (EITF 98-9). EITF
98-9 provides that a lessor shall defer recognition of contingent
rental income in interim periods until specified targets that trigger
the contingent income are met. In July 1998 the Task Force issued
transition guidance stating that the consensus could be applied on a
prospective basis effective April 1, 1998. The Company has reviewed
the terms of its percentage leases and has determined that the
provisions of EITF 98-9 will impact the Company's current revenue
recognition on an interim basis, but will have no impact on the
Company's annual percentage lease revenue or interim cash flow from
its third party Lessees. The Company adopted the provisions of EITF
98-9 and therefore has recorded the results of the second quarter in
accordance with the new pronouncement.
4. EXTRAORDINARY ITEM
The Company terminated certain lease agreements with Crossroads Tenant
Hospitality Company, LLC ("Crossroads") effective June 3, 1998.
Concurrently with such termination, the Company sold the right to
lease certain properties to Buckhead America Corporation or its
affiliates ("Buckhead") for the gross price of $1,250,000. This price
included consideration of 53,647 shares of class A common stock of
Buckhead which the Company sold on August 11, 1998, receiving
approximately $319,000 in cash. These transactions resulted in a net
book gain of approximately $573,000, and is classified as an
extraordinary item because it is non-recurring and not customary in
the Company's normal course of business.
5. COMMITMENTS AND CONTINGENCIES
REIT STATUS
The Company, as a requirement under the Internal Revenue Code (the
"Code") to elect REIT status, must have no more than five (5)
shareholders, who own no more than 50% of the common stock, common
stock equivalents, or other forms of equity outstanding of the
Company. The Company has not satisfied this requirement and
therefore, has not elected to qualify as a REIT during the 1997 tax
year and currently is subject to the corporate tax provisions.
However, the Company has a net deferred tax asset under SFAS 109,
Accounting for Income Taxes, that has been fully reserved. The
Company's decision not to elect REIT qualification should not
adversely affect the stockholders of the Company in that the Company
had no taxable income for the 1997 year and expects no material
federal income tax liability for the year ended 1998.
CONTRACTS TO PURCHASE PROPERTIES
The Company has modified previously executed contracts (the "Modified
Contracts") to purchase two properties along the West Coast of Florida
for an approximate aggregate price of $14 million. The Modified
Contracts provide for an
11
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extended closing date, and further provide that earnest money in
the amount of $50,000, which was previously funded in escrow, is at
risk if the Company does not consummate the purchase. The properties
are located in Clearwater and Port Richey and contain an aggregate of
258 rooms. Closing is anticipated in the fourth quarter, 1998.
Southwest Securities of Dallas, Texas is assisting the Company in
procuring financing for these transactions.
FRANCHISE AGREEMENTS
Host Funding has been granted franchise license agreements relating to
the Super 8 Motels, Sleep Inns, and Country Hearth Inns owned by the
Company or its affiliates for terms expiring in 2005, 2011, and 2012,
respectively. Pursuant to the terms of the agreements, the Company is
required to pay royalty fees and advertising fees of 5% to 4% and 3%
to 1.3%, respectively, reservation fees due under the Sleep Inn
agreements of 1.75% of gross room revenue, and reservation fees due
under the Country Hearth agreements of 1% of gross room revenues plus
$1.00 per each room night generated by the Country Hearth reservation
system. Pursuant to the lease agreements for each of the hotel
properties owned by the Company, the responsibility for payment of the
fees on the Super 8 Motels located in Flagstaff, Arizona and in San
Diego, California has been assigned to Crossroads, as lessee. The
responsibility for payment of the fees on the remaining Company
Properties has been assigned to Buckhead or its affiliates.
MODIFICATION AND EXTENSION OF NOTES PAYABLE
In October, 1997, B-H Findlay L.P. ("Findlay") entered into a note
payable (the "Findlay Note") to the sellers of the Country Hearth Inn
in Findlay, Ohio (the "Findlay Country Hearth Inn") and B-H Auburn
L.P. ("Auburn") entered into a note payable (the "Auburn Note") to the
sellers of the Country Hearth Inn located in Auburn, Indiana (the
"Auburn Country Hearth Inn"). The Auburn Note and the Findlay Note
are herein referred to collectively as the "Country Hearth Notes". The
sellers of the Findlay Country Hearth Inn and the Auburn Country
Hearth Inn are herein referred to as the "Sellers". The Company is
the beneficial owner of 81% of both Findlay and Auburn, and previously
executed corporate guarantees pursuant to which the Company guarantees
the performance of Findlay and Auburn under the Country Hearth Notes.
The Country Hearth Notes are further secured by 90,000 shares of Class
B Common Stock of the Company.
Findlay, Auburn, the Company, and Sellers have modified the Country
Hearth Notes by executing that certain Second Modification of
Promissory Note, Stock Pledge Agreement and Guaranty (the "Second
Modification"). The terms and conditions of the Second Modification
are summarized as follows:
1.) The outstanding balances of the Country Hearth Notes in the
amounts of $244,000 (Auburn) and $564,000 (Findlay) shall accrue
interest at the annual
12
<PAGE>
rate of 12%, effective May 15, 1998. Pursuant to the Second
Modification, interest payments for the period beginning May 15,
1998 through October 15, 1998 in the aggregate approximate amount
of $41,000 were paid concurrently on the Country Hearth notes
with the execution of the Second Modification;
2.) The maturity date of the Country Hearth Notes was extended to
October 15, 1998;
3.) The Country Hearth Notes were further secured by a pledge of up
to 50% of Host Funding Inc.'s equity in BacHost, L.L.C., the
general partner of each of Findlay and Auburn;
4.) Upon execution of the Country Hearth Notes in October, 1997, the
Company issued 80,819 shares of the Company's Class A Common
Stock with a per share value of approximately $9.27 and an
aggregate value of $750,000 in partial payment of the purchase
price of the Country Hearth Inns. The Country Hearth Notes were
modified to provide that if, on October 21, 1998, the closing
price of the Company's Class A Common Stock as traded on the
American Stock Exchange is less than $6.50 per share, the Company
shall make an additional cash payment to Sellers so that the
total value of Class A Common shares at the per share price on
October 21, 1998 plus the amount of such additional cash payment
to the Sellers equals $750,000. The Company has booked a
liability in the amount of $588,000 related to this obligation.
SUBSEQUENT EVENTS.
DEFAULT UNDER THE COUNTRY HEARTH NOTES
The Company received notices of default under the Country Hearth Notes
effective October 15, 1998 for failure to make scheduled payments of
principal and interest in approximate amounts of $244,000 (Auburn) and
$564,000 (Findlay). The Company is currently in negotiations, with
the noteholders to cure such default notices.
PURCHASE OF COMMON STOCK BY THE COMPANY
On July 16, 1998 the Company's Board of Directors authorized the
Company to purchase up to $200,000 of the outstanding shares of the
Company's common stock on the open market. Through September 30,
1998, the Company had purchased approximately 47,400 shares for a
total cost of approximately $139,000
13
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
RECENT DEVELOPMENTS
The Company has recently formed Host Mortgage, Inc. ("HMI"), a wholly-owned
REIT qualified subsidiary of the Company. The Company intends to use HMI to
continue its mortgage loan program in which HMI will purchase motel properties
in a capital lease structure that, typically, may allow qualified sellers to
defer income and taxes that would be recognized under a standard sale.
The Company currently owns 12 properties, all of which are subject to
percentage leases (the "Percentage Leases") pursuant to which Crossroads
Hospitality Tenant Company, L.L.C. ("Crossroads") is responsible for management
and operation of 2 properties and an affiliate of Buckhead America Corporation
("Buckhead") is responsible for management and operation of 10 properties.
Effective June 3, 1998, the Company terminated lease agreements with
Crossroads pertaining to certain of the Company hotels, sold the right to lease
such properties to Buckhead, and entered into lease agreements with Buckhead.
The leases with Buckhead are substantially the same in all material respects as
the previous leases with Crossroads. The sale of lease rights generated a net
book gain of approximately $573,000. Net cash received by the Company at the
close of the transaction was approximately $86,000. In connection with the sale
by the Company of the hotel lease rights to Buckhead, the Company received
53,647 shares of Buckhead common stock which the company sold on August 11,
1998, and received approximately $319,000 in cash.
The Company retained Southwest Securities, Inc.'s Real Estate Investment
Banking Group (Southwest) as financial advisor to assist the Company's Board of
Directors in evaluating various proposals from multiple sources involving
strategic alliances with the Company. The proposals are structured in order to
provide significant long-term positive impact on shareholder value. The
Company's Board directed Southwest to develop a short list of alternatives and
initiate detailed discussions with selected parties. Discussions with these
groups are ongoing.
Subsequent to the annual meeting, the Company announced that its Board of
Directors authorized the Company to undertake the purchase of the Company's
stock in the open market for a period of 90 days commencing July 17, 1998.
Through September 30, 1998 the Company had purchased approximately 47,400 shares
for a total cost of approximately $139,000.
The Company has addressed issues related to the "Year 2000 Problem", in
which certain electronic systems may be affected by the turn of the millenium.
Management has determined that the Company's accounting software is Year 2000
compliant. Management is evaluating the level of compliance of other systems
utilized by the Company, but does not anticipate a material effect on its
financial position or results of operation.
In May 1998, the Financial Accounting Standards Board's Emerging Issues
Task Force issued EITF number 98-9, "Accounting for Contingent Rent in Interim
Financial Periods" (EITF 98-9). EITF 98-9 provides that a lessor shall defer
recognition of contingent rental income in interim periods until
14
<PAGE>
specified targets that trigger the contingent income are met. In July 1998
the Task Force issued transition guidance stating that the consensus could be
applied on a prospective basis effective April 1, 1998. The Company has
reviewed the terms of its percentage leases and has determined that the
provisions of EITF 98-9 will impact the Company's current revenue recognition
on an interim basis, but will have no impact on the Company's annual
percentage lease revenue or interim cash flow from its third party Lessees.
The Company has adopted the provisions of EITF 98-9 and has recorded the
results of the second quarter in accordance with the new pronouncement. The
effect of the change on the nine months ended September 30, 1998 was to
decrease lease revenue and therefore net income applicable to common
shareholders approximately $277,000 (approximately $0.18 per share-basic and
diluted).
The Company's percentage leases provide for the greater of (i) annual fixed
base rent or (ii) rent based on the revenue of hotels ("Percentage Rent") to be
remitted to the Company annually. The leases contain annual room revenue
thresholds used to calculate two tiers of percentage rent which are applied to
annualized room revenues on a quarterly basis to determine quarterly Lessee
Percentage Rent payments. The provisions of EITF 98-9 call for straight-line
recognition of the annual base rent throughout the year and for he deferral of
any additional lease amounts collected or due from the Lessees until such
amounts exceed the annual fixed base rent. This will generally result in base
rent being recognized in the first and second quarters and percentage rents
already collected or due from the Lessee being deferred and then recognized in
the third and fourth quarters due to the structure of the Company's percentage
leases and the seasonality of the hotel operations. Historically, the Company
has recorded lease revenue in interim periods on a basis similar to that used to
determine quarterly Lessee Percentage Rent payments, resulting in the second and
third quarters being the strongest quarters.
RESULTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1997:
The Company acquired four hotel properties on April 1, 1995 (the "Initial
Hotels"), one property on April 1, 1996 (the "Mission Bay Hotel"), four
properties on September 13, 1996 (the "Sleep Inn Properties"), one property on
March 14, 1997 (the "Flagstaff Property"), and two properties on October 21,
1997 (the "Country Hearth Inns"). Collectively, the twelve properties owned by
the Company are herein referred to as the "Company Properties".
As noted above, approximately $277,000 in percentage rental income has been
deferred for the nine months through September 30, 1998. Percentage rental
income was recognized as earned in 1997, but these timing differences will
negate by December 31, 1998.
Occupancy and average room rates of approximately 65% and $48.09 for the
Company Properties for the nine months ended September 30, 1998 resulted in
total sales of approximately $7,595,000 and generated total lease revenues of
approximately $2,880,000. An additional $277,000 in percentage rental revenues
were earned but deferred for financial reporting purposes pursuant to EITF 98-9.
Occupancy and average room rates of 64.8% and $48.56 for the Initial Hotels, the
Mission Bay Hotel, and the Sleep Inn properties for the nine months ended
September 30, 1997 and 85.46%
15
<PAGE>
and $57.66 for the Flagstaff property for the period from March 14 to
September 30, 1997 resulted in total sales of approximately $6,956,000 which
generated lease revenues of approximately $2,723,000.
The increase in Interest Expense (including amortization of loan costs) to
approximately $2,022,000 for the nine months ended September 30, 1998 from
$1,687,000 in 1997 results from debt associated with property acquisitions and
general corporate use over these periods. The 1998 and 1997 amounts include
approximately $121,000 and $299,000 in loan fee amortization; the decrease in
loan fees is attributable to the refinance of the Host Ventures loan from two
years to 25 years.
The increase in Depreciation and Amortization results from acquisition of
the Company Properties over the periods. The Company Properties are recorded at
historical cost and depreciated over their useful lives. Amortization of
franchise fees totaling approximately $8,300 are included in Depreciation and
Amortization.
Administrative expenses - other totaled approximately $674,000 and $818,000
for the nine months ended September 30, 1998 and 1997, including the following
approximate amounts: salary and benefit costs of $219,000 and $239,000, audit
and accounting fees of $57,000 and $77,000, contract labor of $32,000 and
$10,000, rent of $13,000 and $9,000, fees to the American Stock Exchange of
$7,000 and $0, fees to the stock transfer agent of $40,000 and $52,000, filing
and printing costs of $34,000 and $40,000, relinquished project costs of
$107,000 and $47,000, legal fees of $56,000 and $79,000, travel costs of $32,000
and $92,000, directors fees of $16,000 and $15,000, discount on note receivable
of $0 and $31,000 and other costs of $61,000 and $127,000.
Net income or loss per share and weighted average shares outstanding have
been calculated based upon the daily average of the number of shares outstanding
for the applicable reporting periods.
LIQUIDITY AND CAPITAL RESOURCES
The Company has no committed additional sources of external liquidity
available, therefore the Company will rely on its internal cash flow to meet its
liquidity needs. The Company's principal source of cash to meet its cash
requirements, including distributions to stockholders, is its share of the
Company's cash flow from the Percentage Leases relating to the hotel properties
owned by the Company. Although the obligations of the lessees under the
Percentage Leases are guaranteed in part by the parent companies of each lessee
(Crossroads and Buckhead), the ability of the lessees to make lease payments
under the Percentage Leases, and therefore the Company's liquidity, including
its ability to make distributions to stockholders, is dependent on the ability
of the lessees to generate sufficient cash flow from the hotels.
The Company intends to make additional investments in hotel properties and
may incur indebtedness to make such investments or to meet distribution
requirements imposed on a REIT under the Code to the extent that working capital
and cash flow from the Company's investments are insufficient to make such
distributions. The Company will invest in additional hotel properties only as
suitable opportunities arise, and the Company will not undertake investments
unless adequate sources of financing are available. Based upon potential REIT
distribution requirements, the Company
16
<PAGE>
expects that future investments in hotel properties will be financed, in
whole or in part, with common stock, proceeds from additional issuances of
common stock in the form of future public offerings or private placements, or
from the issuance of other debt or equity securities. The Company in the
future may seek to obtain a line of credit or a permanent credit facility,
negotiate additional credit facilities, or issue corporate debt instruments,
all in compliance with its charter restrictions. Any debt incurred or issued
by the Company may be secured or unsecured, long-term or short-term, charge a
fixed or variable interest rate and may be subject to such other terms as the
Board of Directors of the Company deems prudent.
INFLATION
Operators of hotels, in general, possess the ability to adjust room rates
quickly. Competitive pressures may, however, limit the ability of the lessee to
raise room rates in the face of inflation.
SEASONALITY
Hotel operations are generally seasonal in nature based upon geographic
locations. This seasonality can be expected to cause fluctuations in the
Company's quarterly lease revenue to the extent that it receives percentage
rent. To the extent that cash flow form operations is insufficient during any
quarter, due to temporary or seasonal fluctuations in lease revenue, the Company
expects to utilize other cash on hand or borrowings to make distributions to its
shareholders. No assurance can be given, however, that the Company will make
distributions in the future.
"THE SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION ACT OF 1995
This Quarterly Report on Form 10-Q contains or incorporates statements that
constitute forward looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Those statements appear in a number
of places in this Quarterly Report on Form 10-Q and include statements
regarding, among other matters, the Company's growth opportunities, the
Company's acquisition strategy, regulatory matters pertaining to compliance with
governmental regulations and other factors affecting the Company's financial
condition or results of operations. Stockholders are cautioned that
any such forward looking statements are not guarantees of future performance and
involve risks, uncertainties and other factors which may cause actual results,
performance or achievements to differ materially from the future results,
performance or achievements, expressed or implied in such forward looking
statements.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
17
<PAGE>
PART II-OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS.
There are no legal proceedings which would have a material effect on the
consolidated financial position or the consolidated operating results of
the Company.
Item 2. CHANGES IN SECURITIES.
Through September 30, 1998, the Company had purchased, in the open market,
approximately 47,400 shares of Class A common stock for an approximate
purchase price of $139,000.
Item 3. DEFAULTS UPON SENIOR SECURITIES.
None.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None in the current quarter.
Item 5. OTHER INFORMATION.
None.
Item 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits
EXHIBIT NUMBER DESCRIPTION
- -------------- -----------
3.1 Amended and Restated Charter of the Company (incorporated
byreference to Exhibit 3.1 to Company's Amendment to Form S-11
effective April 17, 1996).
3.2 Amended and Restated By-Laws of the Company (incorporated by
reference to Exhibit 3.2 to Company's Amendment No. 8 to Form
S-11 effective April 17, 1996).
4.1 Form of Share Certificate (incorporated by reference to Exhibit
4.1 to Company's Amendment No. 8 to Form S-11 effective April 17,
1996).
18
<PAGE>
4.2 Form of Series A Warrant dated effective as of February 3, 1997
(incorporated by reference to Exhibit 4.2 to Company's Annual
Report on Form 10-K filed on March 31, 1997).
4.3 Form of Series B Warrant dated effective as of February 3, 1997
(incorporated by reference to Exhibit 4.3 to Company's Annual
Report on Form 10-K filed on March 31, 1997).
10.1 Termination of Certain Lease Agreements and Master Agreement
Related Thereto (CrossHost Properties) dated June 3, 1998 by and
between CrossHost, Inc., Host Funding, Inc., Crossroads
Hospitality Tenant Company, L.L.C., and Crossroads Hospitality
Company, L.L.C. (incorporated by reference to Exhibit 2.1 to
Company's Form 8-K Current Report filed on June 12, 1998).
10.2 Termination of Certain Lease Agreements and Master Agreements
Related Thereto (Host Ventures Properties) dated June 3, 1998 by
and between Host Ventures, Inc., Host Funding, Inc., Crossroads
Hospitality Tenant Company, L.L.C., and Crossroads Hospitality
Company, L.L.C. (incorporated by reference to Exhibit 2.2 to
Company's Form 8-K Current Report filed on June 12, 1998).
10.3 Restated And Amended Agreement Regarding Hotel Leases (CrossHost
Properties) dated June 3, 1998 by and between, Host Funding, Inc.
and Buckhead America Corporation (incorporated by reference to
Exhibit 2.3 to Company's Form 8-K Current Report filed on June
12, 1998).
10.4 Restated And Amended Agreement Regarding Hotel Leases (Host
Ventures Properties) dated June 3, 1998 by and between Host
Funding, Inc, and Buckhead America Corporation(incorporated by
reference to Exhibit 2.4 to Company's Form 8-K Current Report
filed on June 12, 1998).
27 Financial Data Schedule.
(b) Reports on Form 8-K
The Company filed a Current Report on form 8-K, dated June 3, 1998 (the
"Current Report") which disclosed the termination of certain leases by and
between Crossroads Hospitality, L.L.C., Crossroads Hospitality Tenant Company,
L.L.C., CrossHost, Inc., Host Ventures, Inc., and the Company. The Current
Report also disclosed the sale of certain lease rights to Buckhead America
Corporation ("Buckhead") and the execution of leases between Buckhead and the
Company (or its affiliates) pertaining to certain motel properties owned by the
Company or its affiliates. The Current Report also disclosed certain loan
transactions with Credit Suisse First Boston Capital, LLC, and the rescheduling
of the date of the Annual Meeting of the Shareholders of the Company to July 16,
1998.
19
<PAGE>
SIGNATURES
Pursuant to the requirements 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 and in the capacity as the Registrant's
President and Chief Executive Officer and Chief Financial and Accounting
Officer, respectively.
Dated: November 13, 1998 HOST FUNDING, INC.
/s/ Michael S. McNulty
-------------------------------------------
By: Michael S. McNulty
Its: President and Chief Executive Officer
/s/ Bona K. Allen
-------------------------------------------
By: Bona K. Allen
Its: Chief Financial and Accounting Officer
20
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