Summit Hotel Properties, Inc. - Quarter Report: 2015 September (Form 10-Q)

Table of Contents

 

 

UNITED STATES

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, 2015

 

OR

 

o         TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                                to                               

 

Commission File Number:  001-35074

 

SUMMIT HOTEL PROPERTIES, INC.

(Exact name of registrant as specified in its charter)

 

 

 

12600 Hill Country Boulevard, Suite R-100

Austin, TX 78738

(Address of principal executive offices, including zip code)

 

(512) 538-2300

(Registrant’s telephone number, including area code)

 

 

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. x Yes  o No

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405) of this chapter during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). x Yes  o No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company in Rule 12b-2 of the Exchange Act.

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes  x No

 

As of October 28, 2015, the number of outstanding shares of common stock of Summit Hotel Properties, Inc. was 86,730,009.

 

 

Table of Contents

 

TABLE OF CONTENTS

 

		Page
PART I — FINANCIAL INFORMATION
Item 1.	Financial Statements	1
	Condensed Consolidated Balance Sheets — September 30, 2015 (Unaudited) and December 31, 2014	1
	Condensed Consolidated Statements of Operations (Unaudited) — Three and Nine Months Ended September 30, 2015 and 2014	2
	Condensed Consolidated Statements of Comprehensive Income (Unaudited) — Three and Nine Months Ended September 30, 2015 and 2014	3
	Condensed Consolidated Statements of Changes in Equity (Unaudited) — Nine Months Ended September 30, 2015 and 2014	4
	Condensed Consolidated Statements of Cash Flows (Unaudited) — Nine Months Ended September 30, 2015 and 2014	5
	Notes to the Condensed Consolidated Financial Statements	6
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	25
Item 3.	Quantitative and Qualitative Disclosures about Market Risk	42
Item 4.	Controls and Procedures	43
PART II — OTHER INFORMATION
Item 1.	Legal Proceedings	44
Item 1A.	Risk Factors	44
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	44
Item 3.	Defaults Upon Senior Securities	44
Item 4.	Mine Safety Disclosures	44
Item 5.	Other Information	44
Item 6.	Exhibits	45

 

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PART I — FINANCIAL INFORMATION

 

Item 1.         Financial Statements

 

Summit Hotel Properties, Inc.

Condensed Consolidated Balance Sheets

(in thousands, except share and per share amounts)

 

		September 30,			December 31,
		2015			2014
		(Unaudited)
ASSETS
Investment in hotel properties, net		$	1,267,121		$	1,339,415
Investment in hotel properties under development		—			253
Land held for development		5,742			8,183
Assets held for sale		216,335			300
Cash and cash equivalents		31,954			38,581
Restricted cash		28,904			34,395
Trade receivables, net		12,370			7,681
Prepaid expenses and other		21,532			6,423
Deferred charges, net		9,592			9,641
Other assets		16,150			14,152
Total assets		$	1,609,700		$	1,459,024
LIABILITIES AND EQUITY
Liabilities:
Debt		$	770,040		$	626,533
Accounts payable		4,304			7,271
Accrued expenses		47,087			38,062
Other liabilities		3,484			1,957
Total liabilities		824,915			673,823
Commitments and contingencies (Note 7)
Equity:
Preferred stock, $.01 par value per share, 100,000,000 shares authorized:
9.25% Series A - 2,000,000 shares issued and outstanding at September 30, 2015 and December 31, 2014 (aggregate liquidation preference of $50,385 at September 30, 2015 and $50,398 at December 31, 2014)		20			20
7.875% Series B - 3,000,000 shares issued and outstanding at September 30, 2015 and December 31, 2014 (aggregate liquidation preference of $75,492 at September 30, 2015 and $75,509 at December 31, 2014)		30			30
7.125% Series C - 3,400,000 shares issued and outstanding at September 30, 2015 and December 31, 2014 (aggregate liquidation preference of $85,505 at September 30, 2015 and $85,522 at December 31, 2014)		34			34
Common stock, $.01 par value per share, 500,000,000 shares authorized, 86,595,735 and 86,149,720 shares issued and outstanding at September 30, 2015 and December 31, 2014, respectively		866			861
Additional paid-in capital		892,621			888,191
Accumulated other comprehensive loss		(2,776		)	(1,746		)
Accumulated deficit and distributions		(110,366		)	(107,779		)
Total stockholders’ equity		780,429			779,611
Non-controlling interests in operating partnership		4,356			5,590
Total equity		784,785			785,201
Total liabilities and equity		$	1,609,700		$	1,459,024

 

See Notes to the Condensed Consolidated Financial Statements

 

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Summit Hotel Properties, Inc.

Condensed Consolidated Statements of Operations

(Unaudited)

(in thousands, except per share amounts)

 

		For the Three Months Ended September 30,						For the Nine Months Ended September 30,
		2015			2014			2015			2014
Revenues:
Room		$	118,292		$	103,155		$	333,431		$	287,387
Other hotel operations revenue		6,799			6,101			19,985			16,938
Total revenues		125,091			109,256			353,416			304,325
Expenses:
Hotel operating expenses:
Room		29,428			26,365			82,663			76,042
Other direct		17,073			15,376			47,968			40,610
Other indirect		31,893			26,451			92,308			78,068
Total hotel operating expenses		78,394			68,192			222,939			194,720
Depreciation and amortization		15,916			16,435			46,583			47,753
Corporate general and administrative		6,897			5,742			16,775			15,364
Hotel property acquisition costs		837			69			950			778
Loss on impairment of assets		1,115			8,187			1,115			8,847
Total expenses		103,159			98,625			288,362			267,462
Operating income		21,932			10,631			65,054			36,863
Other income (expense):
Interest expense		(8,083		)	(7,235		)	(22,985		)	(21,198		)
Other income (expense), net		(59		)	797			15			1,083
Total other expense, net		(8,142		)	(6,438		)	(22,970		)	(20,115		)
Income from continuing operations before income taxes		13,790			4,193			42,084			16,748
Income tax expense		(184		)	(427		)	(1,586		)	(834		)
Income from continuing operations		13,606			3,766			40,498			15,914
Income (loss) from discontinued operations		—			(59		)	—			278
Net income		13,606			3,707			40,498			16,192
Income (loss) attributable to non-controlling interests:
Operating partnership		66			(6		)	220			45
Joint venture		—			—			—			1
Net income attributable to Summit Hotel Properties, Inc.		13,540			3,713			40,278			16,146
Preferred dividends		(4,147		)	(4,147		)	(12,441		)	(12,441		)
Net income (loss) attributable to common stockholders		$	9,393		$	(434	)	$	27,837		$	3,705
Earnings per share:
Basic and diluted net income (loss) per share from continuing operations		$	0.11		$	(0.01	)	$	0.32		$	0.04
Basic and diluted net income per share from discontinued operations		—			—			—			—
Basic and diluted net income (loss) per share		$	0.11		$	(0.01	)	$	0.32		$	0.04
Weighted average common shares outstanding:
Basic		85,995			85,303			85,844			85,192
Diluted		87,065			85,303			87,000			85,704

 

See Notes to the Condensed Consolidated Financial Statements

 

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Summit Hotel Properties, Inc.

Condensed Consolidated Statements of Comprehensive Income

(Unaudited)

(in thousands)

 

		For the Three Months Ended September 30,						For the Nine Months Ended September 30,
		2015			2014			2015			2014
Net income		$	13,606		$	3,707		$	40,498		$	16,192
Other comprehensive loss, net of tax:
Changes in fair value of derivative financial instruments		(742		)	855			(1,038		)	111
Total other comprehensive income (loss)		(742		)	855			(1,038		)	111
Comprehensive income		12,864			4,562			39,460			16,303
Comprehensive income attributable to non-controlling interests:
Operating partnership		60			4			212			46
Joint venture		—			—			—			1
Comprehensive income attributable to Summit Hotel Properties, Inc.		12,804			4,558			39,248			16,256
Preferred dividends		(4,147		)	(4,147		)	(12,441		)	(12,441		)
Comprehensive income attributable to common stockholders		$	8,657		$	411		$	26,807		$	3,815

 

See Notes to the Condensed Consolidated Financial Statements

 

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Summit Hotel Properties, Inc.

Condensed Consolidated Statements of Changes in Equity

For the Nine Months Ended September 30, 2015 and 2014

(Unaudited)

(in thousands, except share amounts)

 

															Accumulated
		Shares of					Shares of								Other			Accumulated			Total			Non-controlling Interests
		Preferred		Preferred			Common		Common			Additional			Comprehensive			Deficit and			Shareholders’			Operating			Joint			Total
		Stock		Stock			Stock		Stock			Paid-In Capital			Income (Loss)			Distributions			Equity			Partnership			Venture			Equity
Balance at December 31, 2014		8,400,000		$	84		86,149,720		$	861		$	888,191		$	(1,746	)	$	(107,779	)	$	779,611		$	5,590		$	—		$	785,201
Net proceeds from sale of common stock		—		—			—		—			(285		)	—			—			(285		)	—			—			(285		)
Common stock redemption of common units		—		—			172,429		2			1,234			—			—			1,236			(1,236		)	—			—
Dividends paid		—		—			—		—			—			—			(42,865		)	(42,865		)	(241		)	—			(43,106		)
Equity-based compensation		—		—			309,971		3			3,934			—			—			3,937			31			—			3,968
Other		—		—			(36,385	)	—			(453		)	—			—			(453		)	—			—			(453		)
Other comprehensive loss		—		—			—		—			—			(1,030		)	—			(1,030		)	(8		)	—			(1,038		)
Net income		—		—			—		—			—			—			40,278			40,278			220			—			40,498
Balance at September 30, 2015		8,400,000		$	84		86,595,735		$	866		$	892,621		$	(2,776	)	$	(110,366	)	$	780,429		$	4,356		$	—		$	784,785
Balance at December 31, 2013		8,400,000		$	84		85,402,408		$	854		$	882,858		$	(1,379	)	$	(72,577	)	$	809,840		$	4,722		$	7,816		$	822,378
Common stock redemption of common units		—		—			198,292		2			581			—			—			583			(583		)	—			—
Common units issued for acquisition		—		—			—		—			—			—			—			—			3,685			—			3,685
Acquisition of non-controlling interests in joint venture		—		—			—		—			(415		)	—			—			(415		)	—			(7,817		)	(8,232		)
Dividends paid		—		—			—		—			—			—			(41,822		)	(41,822		)	(365		)	—			(42,187		)
Equity-based compensation		—		—			319,590		3			2,806			—			—			2,809			34			—			2,843
Other comprehensive loss		—		—			—		—			—			110			—			110			1			—			111
Net income		—		—			—		—			—			—			16,146			16,146			45			1			16,192
Balance at September 30, 2014		8,400,000		$	84		85,920,290		$	859		$	885,830		$	(1,269	)	$	(98,253	)	$	787,251		$	7,539		$	—		$	794,790

 

See Notes to the Condensed Consolidated Financial Statements

 

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Summit Hotel Properties, Inc.

Condensed Consolidated Statements of Cash Flows

(Unaudited)

(in thousands)

 

		For the Nine Months Ended September 30,
		2015			2014
OPERATING ACTIVITIES
Net income		$	40,498		$	16,192
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		46,583			47,766
Deferred finance cost amortization		1,250			1,153
Loss on impairment of assets		1,115			9,247
Equity-based compensation		3,968			2,843
Deferred tax asset		730			(70		)
(Gain) loss on disposal of assets		712			(284		)
Other		626			36
Changes in operating assets and liabilities:
Restricted cash - operating		(2,386		)	(3,437		)
Trade receivables, net		(4,660		)	(4,646		)
Prepaid expenses and other		1,590			3,608
Accounts payable and accrued expenses		6,346			6,605
NET CASH PROVIDED BY OPERATING ACTIVITIES		96,372			79,013
INVESTING ACTIVITIES
Acquisitions of hotel properties		(153,798		)	(177,947		)
Acquisition of non-controlling interest in joint venture		—			(8,232		)
Improvements and additions to hotel properties		(34,432		)	(34,929		)
Escrow deposits for acquisitions		(17,696		)	—
Amounts drawn under note funding obligation		(2,634		)	(2,221		)
Proceeds from asset dispositions, net of closing costs		121			11,597
Net release of restricted cash - FF&E reserve		7,877			18,170
NET CASH USED IN INVESTING ACTIVITIES		(200,562		)	(193,562		)
FINANCING ACTIVITIES
Proceeds from issuance of debt		480,408			216,001
Principal payments on debt		(336,901		)	(70,459		)
Financing fees on debt		(2,100		)	(734		)
Dividends paid		(43,106		)	(42,187		)
Other		(738		)	—
NET CASH PROVIDED BY FINANCING ACTIVITIES		97,563			102,621
Net change in cash and cash equivalents		(6,627		)	(11,928		)
CASH AND CASH EQUIVALENTS
Beginning of period		38,581			46,706
End of period		$	31,954		$	34,778
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash payments for interest		$	22,265		$	19,871
Capitalized interest		$	76		$	186
Cash payments for income taxes, net of refunds		$	1,022		$	739
Mortgage debt assumed for acquisitions of hotel properties		$	—		$	43,172
Fair value of common units issued for acquisition of hotel		$	—		$	3,685

 

See Notes to the Condensed Consolidated Financial Statements

 

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SUMMIT HOTEL PROPERTIES, INC.

 

NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

NOTE 1 - DESCRIPTION OF BUSINESS

 

Summit Hotel Properties, Inc. (the “Company”) is a self-managed hotel investment company that was organized on June 30, 2010 as a Maryland corporation. The Company holds both general and limited partnership interests in Summit Hotel OP, LP (the “Operating Partnership”), a Delaware limited partnership also organized on June 30, 2010. On February 14, 2011, the Company closed on its initial public offering and completed certain formation transactions, including the merger of Summit Hotel Properties, LLC with and into the Operating Partnership. Unless the context otherwise requires, “we”, “us”, and “our” refer to the Company and its consolidated subsidiaries.

 

At September 30, 2015, our portfolio consists of 95 hotels with a total of 12,175 guestrooms located in 24 states. We have elected to be taxed as a real estate investment trust (“REIT”) for federal income tax purposes commencing with our short taxable year ended December 31, 2011. To qualify as a REIT, we cannot operate or manage our hotels. Accordingly, substantially all of our hotels are leased to subsidiaries (“TRS Lessees”) of our taxable REIT subsidiary (“TRS”) and professionally managed by third-party property managers. We indirectly own 100% of the outstanding equity interests in all of our TRS Lessees.

 

NOTE 2 - BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES

 

Basis of Presentation

 

The accompanying condensed consolidated financial statements of the Company consolidate the accounts of the Company and all entities that are controlled by the Company’s ownership of a majority voting interest in such entities, as well as variable interest entities for which the Company is the primary beneficiary. All significant intercompany balances and transactions have been eliminated in the condensed consolidated financial statements.

 

We prepare our condensed consolidated financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X of the Securities and Exchange Act of 1934 (the “Exchange Act”). Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring items) considered necessary for a fair presentation in accordance with GAAP have been included. Results for the three and nine months ended September 30, 2015 may not be indicative of the results that may be expected for the full year 2015. For further information, please read the financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2014.

 

Segment Disclosure

 

Accounting Standards Codification (“ASC”), ASC 280, Segment Reporting, establishes standards for reporting financial and descriptive information about an enterprise’s reportable segments. We have determined that we have one reportable segment, with activities related to investing in real estate. Our investments in real estate are geographically diversified and the chief operating decision makers evaluate operating performance on an individual asset level. As each of our assets has similar economic characteristics, the assets have been aggregated into one reportable segment.

 

Investment in Hotel Properties

 

We allocate the purchase price of hotel acquisitions based on the initial estimate of the fair values of the acquired assets and assumed liabilities and make adjustments, if and when necessary, to the recorded amounts of the acquired assets and liabilities within one year of consummation of the transaction in accordance with ASC 805, Business Combinations. We determine the acquisition-date fair values of all assets and assumed liabilities using methods similar to those used by independent appraisers, including using a discounted cash flow analysis that uses appropriate discount or capitalization rates and available market information. Estimates of future cash flows are based on a number of factors including historical operating results, known and anticipated trends, and market and economic conditions. Acquisition costs are expensed as incurred.

 

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Our hotel properties and related assets are recorded at cost, less accumulated depreciation. We capitalize the costs of significant additions and improvements that materially extend a property’s life. These costs may include hotel refurbishment, renovation, and remodeling expenditures, as well as certain indirect internal costs related to construction projects. We expense the cost of repairs and maintenance as incurred.

 

We generally depreciate our hotel properties and related assets using the straight-line method over their estimated useful lives as follows:

 

Classification		Estimated Useful Lives
Buildings and improvements		25 to 40 years
Furniture, fixtures and equipment		2 to 15 years

 

We periodically re-evaluate asset lives based on current assessments of remaining utilization, which may result in changes in estimated useful lives. Such changes are accounted for prospectively and will increase or decrease future depreciation expense.

 

When depreciable property and equipment is retired or disposed, the related costs and accumulated depreciation are removed from the balance sheet and any gain or loss is reflected in current operations.

 

On a limited basis, we provide financing to developers of hotel properties for development or major renovation projects. We evaluate these arrangements to determine if we participate in residual profits of the hotel property through the loan provisions or other agreements. Where we conclude that these arrangements are more appropriately treated as an investment in the hotel property, we reflect the loan as an investment in hotel properties under development in our condensed consolidated balance sheets. If classified as hotel properties under development, no interest income is recognized on the loan and interest expense is capitalized on our investment in the hotel property during the construction or renovation period.

 

We monitor events and changes in circumstances for indicators that the carrying value of a hotel property or land held for development may be impaired. Additionally, we perform at least annual reviews to monitor the factors that could trigger an impairment.  Factors that could trigger an impairment analysis include, among others: i) significant underperformance relative to historical or projected operating results, ii) significant changes in the manner of use of a property or the strategy of our overall business, including changes in the estimated holding periods for hotel properties and land parcels, iii) a significant increase in competition, iv) a significant adverse change in legal factors or regulations, and v) significant negative industry or economic trends. When such factors are identified, we prepare an estimate of the undiscounted future cash flows of the specific property and determine if the investment is recoverable. If impairment is indicated, we estimate the fair value of the property based on discounted cash flows or sales price if the property is under contract and an adjustment is made to reduce the carrying value of the property to fair value.

 

Assets Held for Sale and Discontinued Operations

 

We classify assets as held for sale in the period in which certain criteria are met, including when the sale of the asset within one year is probable. Assets held for sale are no longer depreciated and are carried at the lower of carrying amount or fair value, less selling costs.

 

Historically, we presented the results of operations of hotel properties that had been sold or otherwise qualified as assets held for sale in discontinued operations if the operations and cash flows of the hotel properties had been or would be eliminated from our ongoing operations. We elected for the early adoption of Accounting Standards Update (“ASU”) 2014-08 (see “New Accounting Standards” below) in the first quarter of 2014 and we currently anticipate that the majority of future properties for sale will not be classified as discontinued operations.

 

We periodically review our hotel properties and our land held for development based on established criteria such as age, type of franchise, adverse economic and competitive conditions, and strategic fit to identify properties that we believe are either non-strategic or no longer complement our business.

 

Variable Interest Entities

 

We consolidate variable interest entities (“VIE”) if we determine that we are the primary beneficiary of the entity.  When evaluating the accounting for a VIE, we consider the purpose for which the VIE was created, the importance of each of the activities in which it is engaged and our decision-making role, if any, in those activities that significantly determine the entity’s economic performance relative to other economic interest holders.  We determine our rights, if any, to receive benefits or the obligation to absorb losses that could potentially be significant to the VIE by considering the economic interest in the entity, regardless of form, which may include debt, equity, management and servicing fees, or other contractual arrangements.  We consider other relevant factors including each

 

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entity’s capital structure, contractual rights to earnings (losses), subordination of our interests relative to those of other investors, contingent payments, and other contractual arrangements that may be economically significant. 

 

Additionally, we have in the past and may in the future enter into purchase and sale transactions in accordance with Section 1031 (“1031 Exchange”) of the Internal Revenue Code of 1986, as amended (“IRC”), for the exchange of like-kind property to defer taxable gains on the sale of properties.  For reverse transactions under a 1031 Exchange in which we purchase a property prior to selling the property to be matched in the like-kind exchange (a “Parked Asset”), legal title to the Parked Asset is held by a qualified intermediary engaged to execute the 1031 Exchange until the sale transaction and the 1031 Exchange is completed.  We retain essentially all of the legal and economic benefits and obligations related to the Parked Assets prior to completion of the 1031 Exchange.  As such, the Parked Assets are included in our consolidated statement of financial position and results of operations as a VIE until legal title is transferred to us upon completion of the 1031 Exchange.  See Note 3 — Hotel Property Acquisitions.

 

Cash and Cash Equivalents

 

We consider all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. At times, cash on deposit may exceed the federally insured limit. We maintain our cash with high credit quality financial institutions.

 

Restricted Cash

 

Restricted cash consists of certain funds maintained in escrow by various third parties for property taxes, insurance, and certain capital expenditures. Funds may be disbursed from the restricted account by the escrow-holders for specific expenditures such as property taxes and insurance or to us upon proof of expenditures and approval from the escrow-holders.

 

Trade Receivables and Credit Policies

 

We grant credit to qualified customers, generally without collateral, in the form of trade accounts receivable. Trade receivables result from the rental of hotel rooms and the sales of food, beverage, and banquet services and are payable under normal trade terms. Trade receivables are stated at the amount billed to the customer and do not accrue interest.

 

We review the collectability of our trade receivables monthly. A provision for losses is determined on the basis of previous loss experience and current economic conditions.

 

Deferred Charges

 

Deferred charges consist of deferred financing fees and initial franchise fees. Costs incurred to obtain financing are capitalized and amortized as a component of interest expense over the term of the related debt using the straight-line method, which approximates the interest method. Initial franchise fees are capitalized and amortized over the term of the franchise agreement using the straight-line method.

 

Non-controlling Interests

 

Non-controlling interests represent the portion of equity in a consolidated entity held by owners other than the consolidating parent. Non-controlling interests are reported in the condensed consolidated balance sheets within equity, separately from stockholders’ equity. Revenue, expenses and net income (loss) attributable to both the Company and the non-controlling interests are reported in the condensed consolidated statements of operations.

 

Our condensed consolidated financial statements include non-controlling interests related to common units of limited partnership interests (“Common Units”) in the Operating Partnership held by unaffiliated third parties and prior to the second quarter of 2014, third-party ownership of a 19% interest in a consolidated joint venture.

 

Revenue Recognition

 

We recognize revenue when rooms are occupied and services have been rendered. Revenues are recorded net of any sales and other taxes collected from guests. All rebates or discounts are recorded as a reduction to revenue. Cash received from the customer prior to guest arrival is recorded as an advanced deposit liability and is recognized as revenue at the time of occupancy.

 

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Sales and Other Taxes

 

We have operations in states and municipalities that impose sales or other taxes on certain sales. We collect these taxes from our guests and remit the entire amount to the various governmental units. The taxes collected and remitted are excluded from revenues and are included in accrued expenses until remitted.

 

Equity-Based Compensation

 

Our 2011 Equity Incentive Plan (the “Equity Plan”) and 2011 Equity Incentive Plan, as amended and restated effective June 15, 2015 (the “Amended Equity Plan”), provide for the grant of stock options, stock appreciation rights, restricted stock, restricted stock units, dividend equivalent rights, and other stock-based awards. We account for equity-based compensation using the Black-Scholes option-pricing model for stock options and the grant date fair value of our common stock for all other awards. Restricted stock awards with performance-based vesting conditions are market-based awards and are valued using a Monte Carlo simulation model. We expense awards under the Equity Plan and Amended Equity Plan ratably over the vesting period. The amount of stock-based compensation expense may be subject to adjustment in future periods due to a change in forfeiture assumptions or modification of previously granted awards.

 

Derivative Financial Instruments and Hedging

 

All derivative financial instruments are recorded at fair value and reported as a derivative financial instrument asset or liability in our condensed consolidated balance sheets. We use interest rate derivatives to hedge our risks on variable-rate debt. Interest rate derivatives could include swaps, caps and floors. We assess the effectiveness of each hedging relationship by comparing changes in fair value or cash flows of the derivative financial instrument with the changes in fair value or cash flows of the designated hedged item or transaction.

 

For interest rate derivatives designated as cash flow hedges, the effective portion of changes in fair value is initially reported as a component of accumulated other comprehensive income (loss) in the equity section of our condensed consolidated balance sheets and reclassified to interest expense in our condensed consolidated statements of operations in the period in which the hedged item affects earnings. The ineffective portion of changes in fair value is recognized directly in earnings through gain (loss) on derivative financial instruments in the condensed consolidated statements of operations.

 

Income Taxes

 

We have elected to be taxed as a REIT under certain provisions of the IRC. To qualify as a REIT, we must meet certain organizational and operational requirements, including a requirement to distribute annually to our stockholders at least 90% of our REIT taxable income, determined without regard to the deduction for dividends paid and excluding net capital gains, which does not necessarily equal net income as calculated in accordance with GAAP. As a REIT, we generally will not be subject to federal income tax (other than taxes paid by our TRS at regular corporate income tax rates) to the extent we distribute 100% of our REIT taxable income to our stockholders. If we fail to qualify as a REIT in any taxable year, we will be subject to federal income tax on our taxable income at regular corporate income tax rates and generally will be unable to re-elect REIT status until the fifth calendar year after the year in which we failed to qualify as a REIT, unless we satisfy certain relief provisions.

 

We account for federal and state income taxes of our TRS using the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between carrying amounts of existing assets and liabilities based on GAAP and respective carrying amounts for tax purposes, and operating losses and tax-credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date of the change in tax rates. However, deferred tax assets are recognized only to the extent that it is more likely than not they will be realized based on consideration of available evidence, including future reversals of taxable temporary differences, future projected taxable income and tax planning strategies.

 

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Fair Value Measurement

 

Fair value measures are classified into a three-tiered fair value hierarchy, which prioritizes the inputs used in measuring fair value as follows:

 

Level 1:		Observable inputs such as quoted prices in active markets.
Level 2:		Directly or indirectly observable inputs, other than quoted prices in active markets.
Level 3:		Unobservable inputs in which there is little or no market information, which require a reporting entity to develop its own assumptions.

 

Assets and liabilities measured at fair value are based on one or more of the following valuation techniques:

 

Market approach:		Prices and other relevant information generated by market transactions involving identical or comparable assets or liabilities.
Cost approach:		Amount required to replace the service capacity of an asset (replacement cost).
Income approach:		Techniques used to convert future amounts to a single amount based on market expectations (including present-value, option-pricing, and excess-earnings models).

 

Our estimates of fair value were determined using available market information and appropriate valuation methods. Considerable judgment is necessary to interpret market data and develop estimated fair value. The use of different market assumptions or estimation methods may have a material effect on the estimated fair value amounts. We classify assets and liabilities in the fair value hierarchy based on the lowest level of input that is significant to the fair value measurement.

 

We elected not to use the fair value option for cash and cash equivalents, restricted cash, trade receivables, prepaid expenses and other, debt, accounts payable, and accrued expenses. With the exception of our fixed-rate debt (See Note 6 — Debt), the carrying amounts of these financial instruments approximate their fair values due to their short-term nature or variable interest rates.

 

Use of Estimates

 

The preparation of financial statements in conformity with U.S. GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

 

Reclassifications

 

Certain amounts reported in previous periods have been reclassified to conform to the current presentation and industry practice.

 

New Accounting Standards

 

In April 2014, the FASB issued ASU No. 2014-08, “Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity.” The ASU changed the criteria for reporting discontinued operations while enhancing related disclosures. Criteria for discontinued operations will now include only disposals that represent a strategic shift in operations with a major effect on operations and financial results. The ASU is to be applied on a prospective basis and would be effective for us beginning January 1, 2015; however, we elected early adoption in the first quarter of 2014, which is permitted for disposals and classifications as held for sale which have not been reported previously.

 

In February 2015, the FASB issued ASU No. 2015-02, “Consolidation (Topic 810): Amendments to the Consolidation Analysis,” which changes the way reporting enterprises evaluate the consolidation of limited partnerships, variable interests and similar entities. This standard will be effective for the first annual reporting period beginning after December 15, 2015 with early adoption permitted. We are evaluating the effect that ASU No. 2015-02 will have on our consolidated financial statements and related disclosures, but we do not anticipate that it will have a material effect on our consolidated financial position or our consolidated results of operations.

 

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In April 2015, the FASB issued ASU No. 2015-03, “Simplifying the Presentation of Debt Issuance Costs,” which requires debt issuance costs to be presented in the balance sheet as a direct deduction from the carrying value of the debt liability. This standard is effective for periods beginning after December 15, 2015 with early adoption permitted and will be applied on a retrospective basis. The new standard will be effective for the Company on January 1, 2016. We are evaluating the effect that ASU No. 2015-03 will have on our consolidated financial statements and related disclosures, but we do not anticipate that it will have a material effect on our consolidated financial position or our consolidated results of operations.

 

NOTE 3 - HOTEL PROPERTY ACQUISITIONS

 

Hotel property acquisitions in the nine months ended September 30, 2015 and 2014 are as follows (in thousands):

 

Date Acquired		Franchise/Brand		Location		Purchase Price			Debt Assumed
First Nine Months 2015
April 13, 2015		Hampton Inn & Suites		Minneapolis, MN		$	38,951		$	—
June 18, 2015		Hampton Inn		Boston (Norwood), MA		24,000		(1)	—
June 30, 2015		Hotel Indigo		Asheville, NC		35,000		(1)	—
July 24, 2015		Residence Inn		Branchburg, NJ		25,700		(1)	—
July 24, 2015		Residence Inn		Hunt Valley, MD		31,100		(1)	—
Total Nine Months Ended September 30, 2015						$	154,751		$	—
First Nine Months 2014
January 9, 2014		Hilton Garden Inn		Houston (Galleria), TX		$	37,500		$	17,846
January 10, 2014		Hampton Inn		Santa Barbara (Goleta), CA		27,900		(2)	12,037
January 24, 2014		Four Points by Sheraton		San Francisco, CA		21,250			—
March 14, 2014		DoubleTree by Hilton		San Francisco, CA		39,060			13,289
August 15, 2014		Hilton Garden Inn		Houston (Energy Corridor), TX		36,000			—
September 9, 2014		Hampton Inn & Suites		Austin, TX		53,000			—
Total Nine Months Ended September 30, 2014						$	214,710		$	43,172

 

(1)           These hotels (“Parked Assets”) were purchased as reverse 1031 Exchanges related to the anticipated sale of 26 properties to affiliates of American Realty Capital Hospitality Trust, Inc. (“ARCH”). See Note 2 — Basis of Presentation and Significant Accounting Policies – Variable Interest Entities; and Note 5 — Assets Held For Sale.  As such, the legal title to these Parked Assets are held by a qualified intermediary engaged to execute the 1031 Exchanges until the sale transaction with ARCH (the “ARCH Sale”) is consummated and the 1031 Exchanges are completed.  We retain essentially all of the legal and economic benefits and obligations related to the Parked Assets.  As such, the Parked Assets are included in our condensed consolidated statement of financial position at September 30, 2015 and condensed consolidated results of operations for the three and nine months then ended as VIE’s until legal title is transferred to us upon completion of the 1031 Exchanges. The 1031 Exchanges related to these properties were completed on October 15, 2015.

(2)           The purchase price for this hotel included the issuance by the Operating Partnership of 412,174 Common Units in our Operating Partnership valued at the time of issuance at $3.7 million.

 

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The allocation of the aggregate purchase prices to the fair value of assets acquired and liabilities assumed for the above acquisitions is as follows (in thousands):

 

		For the Nine Months Ended September 30,
		2015			2014
Land		$	9,975		$	11,400
Hotel buildings and improvements		134,109			199,573
Furniture, fixtures and equipment		13,690			5,489
Other assets (1)		700			11,625
Total assets acquired		158,474			228,087
Less debt assumed		—			(43,172		)
Less lease liability assumed		(3,250		)	(1,752		)
Less other liabilities (1)		(160		)	(2,671		)
Net assets acquired		$	155,064		$	180,492

 

(1)         In addition to the total purchase price, the Company also paid additional consideration at closing during the nine months ended September 30, 2015 and 2014 of $0.3 million and $9.0 million, respectively, for net assets acquired at settlement, including restricted cash escrow balances and other working capital items.

 

Total revenues and net income for hotel properties acquired in the three and nine months ended September 30, 2015 and 2014, which are included in our condensed consolidated statements of operations, are as follows (in thousands):

 

		For the Three Months Ended September 30,									For the Nine Months Ended September 30,
		2015 Acquisitions			2014 Acquisitions						2015 Acquisitions			2014 Acquisitions
		2015			2015			2014			2015			2015			2014
Revenues		$	8,936		$	14,497		$	11,358		$	10,848		$	41,080		$	24,808
Net income		$	1,636		$	2,660		$	2,897		$	1,826		$	7,535		$	3,999

 

The results of operations of acquired hotel properties are included in the condensed consolidated statements of operations beginning on their respective acquisition dates. The following unaudited condensed pro forma financial information presents the results of operations as if all acquisitions in 2015 and 2014 had taken place on January 1, 2014. The unaudited condensed pro forma information excludes discontinued operations and disposed properties which were not classified as discontinued operations after the adoption of ASU 2014-08. The unaudited condensed pro forma financial information is for comparative purposes only and is not necessarily indicative of what actual results of operations would have been had the hotel acquisitions taken place on January 1, 2014. This information does not purport to be indicative of or represent results of operations for future periods.

 

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