IHR Interstate Hotels & Resorts,

 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

Form 10-Q

 

 

 

 

Commission File Number 1-14331

 

 

Interstate Hotels & Resorts, Inc.

 

 

 

 

www.ihrco.com
This Form 10-Q can be accessed at no charge through above website.

 

 

(703) 387-3100

(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.   þ  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. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

 

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

 

The number of shares of Common Stock, par value $0.01 per share, outstanding at May 1, 2008 was 31,820,557.

 

 

INTERSTATE HOTELS & RESORTS, INC.

 

INDEX

 

 

 

 

INTERSTATE HOTELS & RESORTS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)

 

 

The accompanying notes are an integral part of the consolidated financial statements.

INTERSTATE HOTELS & RESORTS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
AND COMPREHENSIVE INCOME (LOSS)
(Unaudited, in thousands, except per share amounts)

 

 

The accompanying notes are an integral part of the consolidated financial statements.

INTERSTATE HOTELS & RESORTS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited, in thousands)

 

 

The accompanying notes are an integral part of the consolidated financial statements.

INTERSTATE HOTELS & RESORTS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

 

We are a leading hotel real estate investor and the nation’s largest independent operator, as measured by number of rooms under management and gross annual revenues of the managed portfolio. We have two reportable operating segments: hotel ownership (through whole-ownership and joint ventures) and hotel management. A third reportable operating segment, corporate housing, was disposed of on January 26, 2007 with the sale of BridgeStreet Corporate Housing Worldwide, Inc. and its affiliated subsidiaries (“BridgeStreet”). The operations of BridgeStreet are presented as discontinued operations in our consolidated statement of operations and cash flows for all periods presented. Each segment is reviewed and evaluated by the company’s senior management. For financial information about each segment, see Note 9, “Segment Information.”

 

Our hotel ownership segment includes our wholly-owned hotels and our minority interest investments in hotel properties through unconsolidated entities. Hotel ownership allows us to participate in operations and potential asset appreciation of the hotel properties. As of March 31, 2008, we owned seven hotels with 2,045 rooms and held non-controlling equity interests in 18 joint ventures, which owned or held ownership interests in 47 of our managed properties. We managed all of the properties within our hotel ownership segment.

 

We manage a portfolio of hospitality properties and provide related services in the hotel, resort and conference center markets. Our portfolio is diversified by location/market, franchise and brand affiliations, and ownership group(s). The related services provided include insurance and risk management, purchasing and capital project management, information technology and telecommunications, and centralized accounting. As of March 31, 2008, we and our affiliates managed 217 hotel properties with 45,252 rooms and six ancillary service centers (which consist of a convention center, a spa facility, two restaurants and two laundry centers), in 36 states, the District of Columbia, Russia, Mexico, Canada, Belgium and Ireland.

 

We are the sole general partner of our operating partnership subsidiary. Certain independent third parties and we are limited partners of the partnership. The interests of those third parties are reflected as minority interests on our consolidated balance sheet. The partnership agreement gives the general partner full control over the business and affairs of the partnership. We own more than 99 percent of the subsidiary operating partnership.

 

 

General

 

We have prepared these unaudited consolidated interim financial statements according to the rules and regulations of the Securities and Exchange Commission. Accordingly, we have omitted certain information and footnote disclosures that are normally included in financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). These interim financial statements should be read in conjunction with the financial statements, accompanying notes and other information included in our Annual Report on Form 10-K, for the year ended December 31, 2007.

 

In our opinion, the accompanying unaudited consolidated interim financial statements reflect all normal and recurring adjustments necessary for a fair presentation of the financial condition, results of operations and cash flows for the periods presented. The preparation of financial statements in accordance with GAAP requires us to make estimates and assumptions. Such estimates and assumptions affect reported asset and liability amounts, as well as the disclosure of contingent assets and liabilities as of the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Our actual results could differ from those estimates. The results of operations for the interim periods are not necessarily indicative of our results for the entire year. These consolidated financial statements include our accounts and the accounts of all of our majority owned subsidiaries. We eliminate all intercompany balances and transactions.

 

The condensed consolidated balance sheet and statement of operations for the three months ended March 31, 2007 are presented as restated in this Quarterly Report on Form 10-Q. Subsequent to the issuance of our interim condensed consolidated financial statements for the quarter ended March 31, 2007, our Audit Committee

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

determined, after discussions with management, that the previously-issued financial statements as of, and for the quarters ended, March 31, 2007, June 30, 2007 and September 30, 2007 should no longer be relied upon due to an error in the calculation of intangible asset impairment charges that resulted from the termination of certain hotel management contracts. For additional information on the restatement and the impact of the restatement on the condensed consolidated financial data, refer to Note 19, Quarterly Financial Data (Unaudited), of our consolidated financial statements included in our Annual Report on Form 10-K, for the year ended December 31, 2007.

 

The following table presents the effects of correcting the errors described herein on our previously reported consolidated balance sheet and statement of operations (in thousands):

 

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

The effect of the restatement on the consolidated statement of cash flows was a decrease in net income of $1.3 million, a decrease is deferred income taxes of $1.4 million, and an increase in accrued expenses for the change in taxes payable of $0.5 million. The effect on depreciation and amortization and minority interest on the consolidated statement of cash flows was immaterial. Cash used by operating activities did not change as of March 31, 2007. The effect of the restatement on earnings per share was a decrease of $0.05 in basic earnings per share and a decrease of $0.04 in diluted earnings per share.

 

Revenue Recognition Related to Termination Fees

 

Blackstone retains the right to replace a terminated management contract with a replacement contract on a different hotel and reduce the amount of any remaining unpaid fees. Management fees we would earn from any new management contract provided to us from Blackstone would reduce dollar for dollar the termination fee balance due to us from Blackstone.

 

For properties that we acquired from The Blackstone Group (“Blackstone”) that we managed prior to the purchase, we were entitled to termination fees under the preexisting management agreements for those properties. Under Emerging Issues Task Force Issue 04-1, “Accounting for Preexisting Relationships between the Parties to a

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Business Combination” (“EITF 04-1”), the settlement of the preexisting management agreements (including the payment of the termination fees) requires accounting separate from the acquisition of the properties. Under EITF 04-1, the effective settlement of a management agreement with respect to an acquired property is required to be measured at the lesser of (x) the amount by which the agreement is favorable or unfavorable from our perspective when compared to pricing for current market transactions for the same or similar management agreements and (y) the stated settlement provisions that are unfavorable to the seller. Therefore, in connection with the purchase of a hotel being managed by us, we will evaluate the terms of the contract and record the lesser amount, if any, as income from the settlement of the management contract and a corresponding increase in the recorded purchase price.

 

Related Parties

 

In January 2007, we were retained as manager for two properties owned by Capstar Hotel Company, LLC (“New Capstar”), a newly formed real estate investment company founded by Paul Whetsell, our current Chairman of the Board. As of March 31, 2008 and 2007, balances related to New Capstar have been included within “due from related parties” on our consolidated balance sheet and “management fees — related parties” on our consolidated statement of operations.

 

Our managed properties for which we also hold a joint venture ownership interest have also been classified and included within “due from related parties” on our consolidated balance sheet and “management fees — related parties” on our consolidated statement of operations. See Note 4, “Investments in Unconsolidated Entities” for further information.

 

Fair Value Accounting

 

In September 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Statement No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (an exit price). The standard also establishes and outlines a valuation framework and creates a fair value hierarchy in order to increase the consistency and comparability of fair value measurements and the related disclosures. Under GAAP, certain assets and liabilities must be measured at fair value, and SFAS 157 details the disclosures that are required for items measured at fair value. The provisions of SFAS 157 were adopted on January 1, 2008. In February 2008, the FASB staff issued Staff Position No. 157-2 “Effective Date of FASB Statement No. 157” (“FSP SFAS 157-2”). FSP SFAS 157-2 delayed the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except for items that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually). The provisions of FSP SFAS 157-2 will be effective for our fiscal year beginning January 1, 2009. The deferral will apply to certain fair value measurements under FASB Statements 142 and 144 among other items.

 

We have various financial assets and liabilities that must be measured under the new fair value standard including certain cash equivalents, marketable securities and derivative instruments. SFAS 157 establishes a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy under SFAS 157 are:

 

Level 1 Inputs are unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

 

Level 2 Inputs include quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (i.e., interest rates, yield curves, etc.), and inputs that are derived principally from, or corroborated by, observable market data by correlation or other means (market corroborated inputs) for substantially the full term of the asset or liability;

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Level 3 Inputs are used to measure fair value to the extent that observable inputs are not available, thereby allowing for situations in which there is little, if any, market activity for the asset or liability at the measurement date. Such unobservable inputs include prices or valuation techniques that require inputs that are both significant to the fair value measurement and that reflect our assumption(s) about the assumption(s) that market participants would use in pricing the asset or liability (including assumptions about risk). We develop these inputs based on the best information available, including our own data.

 

The following table sets forth our financial assets and liabilities measured at fair value by level within the fair value hierarchy. As required by SFAS 157, assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement (in thousands).

 

 

Our marketable securities are valued using quoted market prices in active markets and as such are classified within Level 1 of the fair value hierarchy. The fair value of the marketable equity securities is calculated as the quoted market price of the marketable equity security multiplied by the quantity of shares held by us.

 

Our derivative instruments are classified within Level 2 of the fair value hierarchy as they are valued using third-party pricing models which contain inputs that are derived from observable market data. Where possible, we verify the values produced by its pricing models to market prices. Valuation models require a variety of inputs, including contractual terms, market prices, yield curves, credit spreads, measures of volatility, and correlations of such inputs.

 

In February 2007, the FASB issued FASB Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“SFAS 159”). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value, with the objective of improving financial reporting by mitigating volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The provisions of SFAS 159 were adopted on January 1, 2008. We did not elect the Fair Value Option for any of our financial assets or liabilities, and therefore, the adoption of SFAS 159 had no impact on our consolidated financial position, results of operations or cash flows.

 

Recently Issued Accounting Pronouncements

 

In December 2007, FASB Statement No. 160, “Non-controlling Interests in Consolidated Financial Statements” (“SFAS 160”) was issued. SFAS 160 establishes a single method of accounting for changes in a parent’s ownership interest in a subsidiary that does not result in deconsolidation. The statement also requires expanded disclosures in the consolidated financial statements that clearly identify and distinguish between the interests of the parent’s owners and the interest of the non-controlling owners of the subsidiary. SFAS 160 is effective for fiscal years beginning after December 15, 2008. We are currently evaluating the impact of the adoption of this statement.

 

In December 2007, FASB Statement No. 141R, “Business Combinations” (“SFAS 141R”) was issued. SFAS 141R revises SFAS 141, “Business Combinations” (“SFAS 141”), but it retains a number of fundamental requirements of SFAS 141. SFAS 141R will significantly change the accounting for business combinations in a number of areas including the treatment of contingent consideration, contingencies, acquisition costs, in-process research and development costs, and restructuring costs. In addition, under SFAS 141R, changes in deferred tax

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

asset valuation allowances and acquired income tax uncertainties in a business combination after the measurement period will impact income tax expense. SFAS 141R, will be applied prospectively to business combinations for which the acquisition dates are on or after the start of the year beginning on or after December 15, 2008.

 

In March 2008, FASB Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”) was issued. SFAS 161 amends FASB Statement No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”), and requires enhanced disclosure regarding an entity’s derivative and hedging activities. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. We are currently evaluating the impact of the adoption of this statement.

 

 

We calculate our basic earnings per common share by dividing net income/(loss) by the weighted average number of shares of common stock outstanding. Our diluted earnings per common share assumes the issuance of common stock for all potentially dilutive stock equivalents outstanding. Potentially dilutive shares include unvested restricted stock and stock options granted under our various stock compensation plans and operating partnership units held by minority partners. In periods in which there is a loss from continuing operations, diluted shares outstanding will equal basic shares outstanding to prevent anti-dilution. Basic and diluted earnings per common share are as follows (in thousands, except per share amounts):

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Investments in unconsolidated entities consist of the following (in thousands, except number of hotels):

 

 

 

 

In February 2008, we invested $11.6 million to acquire a 20 percent equity interest in a joint venture with Harte Holdings (“Harte”) of Cork, Ireland. The joint venture purchased four hotels from affiliates of Blackstone for an aggregate price of $208.7 million. At the time of our investment, we managed three of the properties and had previously managed the fourth. The joint venture plans to invest more than $30 million for comprehensive renovations of the hotels over the 30 months following the acquisition. Our contribution for this renovation work is expected to be approximately $2 million. The four properties acquired by the joint venture were the 142-room Latham Hotel in Washington, DC, the 198-room Sheraton Frazer Great Valley in Frazer, Pennsylvania, the 225-room Sheraton Mahwah in Mahwah, New Jersey and the 327-room Hilton Lafayette in Lafayette, Louisiana.

 

In February 2008, our joint venture with FFC Capital Corporation (“FFC”), acquired a portfolio of 22 properties located throughout the Midwest in Illinois, Iowa, Michigan, Minnesota, Wisconsin and Texas. We invested $1.7 million representing our 10 percent equity interest in the portfolio. Upon closing, all 22 properties, representing 2,397 rooms, were converted to various Wyndham Worldwide brands.

 

In February 2008, True North Tesoro Property Partners, L.P . , a joint venture in which we hold a 15.9 percent equity interest, sold the Doral Tesoro Hotel & Golf Club, located near Dallas, Texas. Our portion of the joint ventures’ gain on sale of the hotel was approximately $2.4 million before post-closing adjustments and has been recorded as equity in earnings from unconsolidated entities on our consolidated statement of operations. In March 2008, we received $1.8 million from the sale of proceeds. Additional distributions are anticipated as post-closing adjustments are settled.

 

In February 2008, we and JHM Hotels, LLC (“JHM”), formed a joint venture management company in which we hold a 50 percent ownership interest. The joint venture will seek management opportunities throughout India and has already signed its first management agreement in April 2008. Management of this hotel will commence in

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

the fourth quarter of 2008. We provided to our partner, JHM, $0.5 million in the form of a convertible note towards the working capital of the joint venture, which is expected to convert to an equity interest in the joint venture during 2008. Simultaneous with the formation of this management company, we and JHM each committed to invest $6.25 million in the private real estate fund, Duet India Hotels (“Duet Fund”), which will seek opportunities to purchase and/or develop hotels throughout India. As of March 31, 2008, we had invested $1.6 million in the Duet Fund. In return for our investment, the Duet Fund will give our joint venture the right of first refusal for all hotels that it invests which are not already encumbered by an existing management contract.

 

We had net related party accounts receivable for management fees and reimbursable costs from the hotels owned by the joint ventures of $2.4 million and $1.6 million as of March 31, 2008 and December 31, 2007, respectively. We earned related party management fees from our joint ventures of $1.4 million and $0.8 million for the three months ended March 31, 2008 and 2007, respectively.

 

The recoverability of the carrying values of our investments in unconsolidated entities is dependent upon the operating results of the underlying hotel assets. Future adverse changes in the hospitality and lodging industry, market conditions or poor operating results of the underlying assets could result in future impairment losses or the inability to recover the carrying value of these interests. The debt of all investees is non-recourse to us, and we do not guarantee any of our investees’ obligations. We are not the primary beneficiary or controlling investor in any of these joint ventures. Where we exert significant influence over the activities of the investee, we account for our interests under the equity method.

 

 

Property and equipment consist of the following (in thousands):

 

 

We acquired the Sheraton Columbia hotel in November 2007 and recorded a preliminary purchase allocation at that time. In early 2008, we received the property appraisal from a third-party hospitality consulting group to finalize the purchase allocation. We have finalized the purchase price allocation, increasing the amount of the land allocation by $2.8 million to $6.5 million and increasing furniture and fixtures by $0.8 million to $2.6 million. We reduced our previously recorded value for building and improvements by $3.6 million to $38.9 million.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Intangible assets consist of the following (in thousands):

 

 

The majority of our management contract costs were identified as intangible assets at the time of the merger in 2002 and through the purchase of Sunstone Hotel Properties (“Sunstone”) in 2004, as part of the purchase accounting for each transaction. We also capitalize external direct costs, such as legal fees, which are incurred to acquire new management contracts.

 

We amortize the value of our intangible assets, all of which have definite useful lives, over their estimated useful lives which generally correspond with the expected terms of the associated management, franchise, or financing agreements. In the first three months of 2008, we recognized management contract impairment charges of $1.1 million related to unamortized management contract costs for four properties sold by various owners, for which the new owner terminated the underlying management agreement. For the first three months of 2007, we recognized management contract impairment charges of $2.3 million related to management contract costs for four properties sold by Blackstone and $0.1 million related to three properties sold by various owners.

 

We incurred scheduled amortization expense on our remaining management contracts and franchise fees of $0.5 million and $1.3 million for the three months ended March 31, 2008 and 2007, respectively. We also amortized deferred financing fees in the amount of $0.3 million and $0.7 million for the three months ended March 31, 2008 and 2007, respectively. During the first quarter of 2007, $0.5 million of deferred financing fees related to our old senior credit facility was amortized in connection with our entrance into a new $125.0 million senior secured credit facility (“Credit Facility”) and the related payoff of our old senior credit facility and subordinated term loan. In connection with the new facility, we recorded $2.2 million of loan fees which will be amortized over the term of the new facility. Amortization of deferred financing fees is included in interest expense. See Note 8, “Long-Term Debt,” for additional information related to the new senior secured credit facility.

 

Upon termination of a management agreement, we write-off the entire value of the intangible asset related to the terminated contract as of the date of termination. We will continue to assess the recorded value of our management contracts and their related amortization periods as circumstances warrant.

 

Our goodwill is related to our hotel management segment. We evaluate goodwill annually for impairment during the fourth quarter; however, when circumstances warrant, we will assess the valuation of our goodwill more frequently. During the three months ended March 31, 2008, no significant management contract losses or other material transactions and events occurred that were not already considered in our analysis during the fourth quarter of 2007. As such, we did not re-evaluate goodwill for impairment in the first quarter of 2008.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Accrued expenses consist of the following (in thousands):

 

 

“Other” consists of legal expenses, sales and use tax accruals, property tax accruals, owners insurance for our managed hotels, general and administrative costs of managing our business and various other items. No individual amounts in “Other” represent more than 5 percent of current liabilities.

 

 

Our long-term debt consists of the following (in thousands):

 

 

Senior Credit Facility

 

In March 2007, we closed on a new senior secured Credit Facility with various lenders. The Credit Facility consisted of a $65.0 million term loan and a $60.0 million revolving loan. Upon entering into the Credit Facility, we borrowed $65.0 million under the term loan, using a portion of it to pay off the remaining obligations under our previous credit facility. In May 2007, we amended the Credit Facility to increase the borrowings under our term loan by $50.0 million, resulting in a total of $115.0 million outstanding under the term loan, and increased the availability under our revolving loan to $85.0 million. In addition, we have the ability to increase the revolving credit facility and/or term loan by up to $75.0 million, in the aggregate, by and after seeking additional commitments from lenders and amending certain of our covenants. The Credit Facility matures in March 2010.

 

Simultaneously with the amendment, we used the additional $50.0 million under the term loan, along with cash on hand, to purchase the 495-room Westin Atlanta Airport. In November 2007, we borrowed $40.0 million on the revolving loan, along with cash on hand, to purchase the 288-room Sheraton Columbia. We are required to make quarterly payments of $0.3 million on the term loan until its maturity date in March 2010.

 

The actual interest rates on both the revolving loan and term loan depend on the results of certain financial tests. As of March 31, 2008, based on those financial tests, borrowings under the term loan and the revolving loan bore interest at the 30-day LIBOR rate plus 275 basis points (a rate of 5.46 percent per annum). We incurred interest expense of $2.7 million and $0.9 million on the senior credit facilities for the three months ended March 31, 2008 and 2007, respectively.

 

The debt under the Credit Facility is guaranteed by certain of our wholly-owned subsidiaries and collateralized by pledges of ownership interests, owned hospitality properties, and other collateral that was not previously prohibited from being pledged by any of our existing contracts or agreements. The Credit Facility contains covenants that include maintenance of certain financial ratios at the end of each quarter, compliance reporting

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

requirements and other customary restrictions. At March 31, 2008, we were in compliance with the loan covenants of the Credit Facility.

 

Mortgage Debt

 

The following table summarizes our mortgage debt as of March 31, 2008:

 

 

 

 

Based on the terms of these mortgage loans, a prepayment cannot be made during the first year after it has been entered. After one year, a penalty of 1 percent is assessed on any prepayments. The penalty is reduced ratably over the course of the second year. There is no penalty for prepayments made during the third year.

 

In April 2007, we repaid in full, the $19.0 million of mortgage debt relating to the Hilton Concord. We incurred no prepayment penalties in connection with the early repayment. We incurred interest expense related to our mortgage loans of $0.7 million and $1.1 million for the three months ended March 31, 2008 and 2007, respectively.

 

In May 2008, we placed a non-recourse mortgage of $25.0 million on the Sheraton Columbia. We are required to make interest-only payments until March 2011. Beginning May 2011 the loan will amortize over a 25 year period. The loan bears interest at a rate of LIBOR, plus 200 basis points. The net proceeds were used to pay down the revolver under our Credit Facility. Upon making the principle reduction payment towards our revolver, we have approximately $47.0 million available under the Credit Facility. We have the ability to borrow up to an additional $10.0 million under the mortgage based upon achieving certain net operating income hurdles and renovation milestones.

 

Interest Rate Caps

 

We have entered into three interest rate cap agreements in order to provide an economic hedge against the potential effect of future interest rate fluctuations. The following table summarizes our interest rate cap agreements as of March 31, 2008:

 

 

At March 31, 2008, the total fair value of these interest rate cap agreements was not significant. The change in fair value for these interest rate cap agreements is recognized in our consolidated statement of operations.

 

In March 2005, we entered into an interest rate cap with a notional amount of $55.0 million related to our then effective, amended and restated credit agreement. In January 2008, the $55.0 million interest rate cap matured.

 

In April 2008, we entered into a $25.0 million, five-year interest rate cap agreement in conjunction with our mortgage loan associated with the Sheraton Columbia. The interest rate agreement caps the three-month LIBOR at 6.00 percent and is scheduled to mature on May 1, 2013.

 

Interest Rate Collar

 

On January 11, 2008, we entered into an interest rate collar agreement for a notional amount of $110.0 million to hedge against the potential affect of future interest rate fluctuations underlying our Credit Facility. The interest rate collar consists of an interest rate cap at 4.0 percent and an interest rate floor at 2.47 percent on the 30-day LIBOR rate. We are to receive the effective difference of the cap rate and the 30-day LIBOR rate, should LIBOR

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

exceed the stated cap rate. If, however, the 30-day LIBOR rate should fall to a level below the stated floor rate, we are to pay the effective difference. The interest rate collar became effective January 14, 2008, with monthly settlement dates on the last day of each month beginning January 31, 2008, and maturing January 31, 2010. At the time of inception, we designated the interest rate collar to be a cash flow hedge. The effective portion of the change in fair value of the interest rate collar is recorded as other comprehensive income. Ineffectiveness is recorded through earnings. At March 31, 2008, the interest rate collar had a fair value of $(0.8) million. The amount of ineffectiveness was inconsequential.

 

 

We are organized into two reportable segments: hotel ownership and hotel management. A third reportable segment, corporate housing, was disposed of on January 26, 2007, with the sale of BridgeStreet and its affiliated subsidiaries. Each segment is managed separately because of its distinctive economic characteristics. Reimbursable expenses, classified as “other revenue and expenses from managed properties” on the statement of operations, are not included as part of this segment analysis. These reimbursable expenses are all part of the hotel management segment.

 

Hotel ownership includes our wholly-owned hotels and our minority interest investments in hotel properties through unconsolidated entities. For the hotel ownership segment presentation, we have allocated internal management fee expense of $0.7 million and $0.4 million for the three months ended March 31, 2008 and 2007, respectively, to wholly-owned hotels. These fees are eliminated in consolidation but are presented as part of the segment to present their operations on a stand-alone basis. Interest expense related to hotel mortgages and other debt drawn specifically to finance the hotels is included in the hotel ownership segment.

 

Hotel management includes the operations related to our managed properties, our purchasing, construction and design subsidiary and our insurance subsidiary. Revenue for this segment consists of “management fees,” “termination fees” and “other” from our consolidated statement of operations. Our insurance subsidiary, as part of the hotel management segment, provides a layer of reinsurance for property, casualty, auto and employment practices liability coverage to our hotel owners.

 

Corporate is not a reportable segment but rather includes costs that do not specifically relate to any other single segment of our business. Corporate includes expenses related to our public company structure, certain restructuring charges, Board of Directors costs, audit fees, unallocated corporate interest expense and an allocation for rent and legal expenses. Corporate assets include our cash accounts, deferred tax assets, deferred financing fees and various other corporate assets. Due to the sale of our third reportable segment, corporate housing, in January 2007, the operations of this segment are included as part of discontinued operations on the consolidated 2007 statement of operations.

 

Capital expenditures includes the “acquisition of hotels” and “purchases of property and equipment” line items from our cash flow statement. All amounts presented are in thousands.

 

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Revenues from foreign operations, excluding reimbursable expenses, were as follows (in thousands) ^(1),(2) :

 

 

 

 

A significant portion of our managed properties and management fees are derived from seven owners. This group of owners represents 39.6 percent of our managed properties as of March 31, 2008, and 39.6 percent of our base and incentive management fees for the three months ended March 31, 2008.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Insurance Matters

 

As part of our management services to hotel owners, we generally obtain casualty (workers’ compensation and general liability) insurance coverage for our managed hotels. In December 2002, one of the carriers we used to obtain casualty insurance coverage was downgraded significantly by rating agencies. In January 2003, we negotiated a transfer of that carrier’s current policies to a new carrier. We have been working with the prior carrier to facilitate a timely and efficient settlement of the original 1,213 claims outstanding under the prior carrier’s casualty policies. The prior carrier has primary responsibility for settling those claims from its assets. As of March 31, 2008, only 40 claims remained outstanding. If the prior carrier’s assets are not sufficient to settle these outstanding claims, and the claims exceed amounts available under state guaranty funds, we may be required to settle those claims. We are indemnified under our management agreements for such amounts, except for periods prior to January 2001, when we leased certain hotels from owners. Based on currently available information, we believe the ultimate resolution of these claims will not have a material adverse effect on our consolidated financial position, results of operations or liquidity.

 

During 2005, the prior carrier presented invoices to us and other policy holders related to dividends previously granted to us and other policy holders with respect to the prior policies. Based on this information we have determined that the amount is probable and estimable and have therefore recorded the liability. In September 2005, we invoiced the prior carrier for premium refunds due to us on previous policies. The initial premiums on these policies were calculated based on estimated employee payroll expenses and gross hotel revenues. Due to the September 11th terrorist attacks and the resulting substantial decline in business and leisure travel in the months that followed, we reduced hotel level headcount and payroll. The estimated premiums billed were significantly overstated and as a result, we are owed refunds on the premiums paid. The amount of our receivable exceeds the dividend amounts claimed by the prior carrier. We have reserved the amount of the excess given the financial condition of the carrier. We believe that we hold the legal right of offset in regard to this receivable and payable with the prior insurance carrier. We will continue to pursue collection of our receivable and do not expect to pay any amounts to the prior carrier prior to reaching an agreement with them regarding the contractual amounts due to us. To the extent we do not collect sufficiently on our receivable and pay amounts that we have been invoiced, we will vigorously attempt to recover any additional amounts from our owners. We are engaged in ongoing discussions to bring this matter to a conclusion.

 

Insurance Receivables and Reserves

 

Our insurance captive subsidiary earns insurance revenues through direct premiums written and reinsurance premiums ceded. Reinsurance premiums are recognized when policies are written and any unearned portions of the premium are recognized to account for the unexpired term of the policy. Direct premiums written are recognized in accordance with the underlying policy and reinsurance premiums ceded are recognized on a pro-rata basis over the life of the related policies. Losses, at present value, are provided for reported claims, claims incurred but not reported and claims settlement expenses. We provide a reinsurance layer between the primary and excess carrier that we manage through our captive insurance subsidiary. We employ outside consultants to evaluate the adequacy of the amount of reserves we record. We have engaged a recognized actuarial firm to analyze our loss experience and calculate our loss reserves. At March 31, 2008 and December 31, 2007, our reserve for claims was $1.5 million and $1.6 million, respectively.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Leases

 

As of March 31, 2008, our lease obligations consist of office space for our corporate offices. Future minimum lease payments required under these operating leases as of March 31, 2008 were as follows (in thousands):

 

 

The operating lease obligations shown in the table above have not been reduced by a non-cancelable sublease related to our former corporate office space. We remain secondarily liable under this lease in the event that the sub-lessee defaults under the sublease terms. Given the size and financial stability of the sub-tenant, we do not believe that any payments will be required as a result of the secondary liability provisions of the primary lease agreements. We expect to receive minimum payments under this sublease as follows (in thousands):

 

 

Commitments Related to Management Agreements and Hotel Ownership

 

Under the provisions of management agreements with certain hotel owners, we are obligated to provide an aggregate of $5.0 million to these hotel owners in the form of advances or loans. The timing or amount of working capital loans to hotel owners is not currently known as these advances are at the hotel owner’s discretion.

 

In connection with our owned hotels, we have committed to provide certain funds for property improvements as required by the respective brand franchise agreements. As of March 31, 2008, we had ongoing renovation and property improvement projects with remaining expected costs to complete of approximately $28 million, of which $10.1 million and $11.1 million are directly attributable to comprehensive renovations for the Westin Atlanta Airport and the Sheraton Columbia, respectively.

 

We are partners or members of various unconsolidated partnerships or limited liability companies that own hotel assets. The terms of such partnership or limited liability company agreements provide that we contribute capital as specified. Generally, in the event that we do not make required capital contributions, our ownership interest will be diluted, dollar for dollar, equal to any amounts funded on our behalf by our partner(s). Concurrent with the formation of our management platform in India, we and our partner have each committed to invest $6.25 million to acquire a general partnership interest in the Duet India Hotels fund. The investment fund is dedicated solely to the investment in, and the development of, hotels throughout India. As of March 31, 2008, we had invested $1.6 million in the Duet Fund, and we expect to invest an additional $4.65 million during the second quarter of 2008.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Guarantees

 

As discussed in Note 8 “Long-Term Debt”, on May 1, 2008, our subsidiary which owns the Sheraton Columbia hotel entered into a mortgage which is non-recourse to us. In order to obtain this mortgage we entered into a guarantee agreement in favor of the lender which requires the prompt completion and payment of the required improvements as defined in the agreement. These required improvements are included in the property improvement plan, as required by the brand franchise agreement and are subject to change based upon changes in the construction budget. As of March 31, 2008, the required improvements were approximately $10.3 million and we anticipate the completion prior to June 30, 2009. No liability has been recognized related to this guarantee. If the required improvements are not completed, the lender has the right to force us to do so.

 

Letters of Credit

 

As of March 31, 2008, we had a $1.0 million letter of credit outstanding from Northridge Insurance Company in favor of our property insurance carrier. The letter of credit expires on April 4, 2009. We are required by the property insurance carrier to deliver the letter of credit to cover its losses in the event we default on payments to the carrier. Accordingly, the lender has required us to restrict a portion of our cash equal to the amount of the letter of credit, which we present as restricted cash on the consolidated balance sheet. We also have a $0.75 million letter of credit outstanding in favor of the insurance carrier that issues surety bonds on behalf of the properties we manage. The letter of credit expires on March 31, 2009. We are required by the insurance carrier to deliver the letter of credit to cover its risk in the event the properties default on their required payments related to the surety bonds.

 

Contingent Liabilities Related to Partnership Interests

 

In connection with one of our development joint ventures, we have agreed to fund a portion of any development and construction cost overruns up to $0.6 million of the approved capital spending plan for each hotel developed and constructed by our joint venture, IHR Greenbuck Hotel Venture. We believe that with our experience in project management and design, the risk of any required additional funding in excess of our planned equity investments is minimal. However certain circumstances throughout the design and construction process could arise that may prevent us from completing the project with total costs under 110 percent and therefore require us to contribute additional funding.

 

Additionally, we own interests in other partnerships and joint ventures. To the extent that any of these partnerships or joint ventures become unable to pay its obligations, those obligations would become obligations of the general partners. We are not the sole general partner of any of our joint ventures. The debt of all investees is non-recourse to us and we do not guarantee any of our investees’ obligations. Furthermore, we do not provide any operating deficit guarantees or income support guarantees to any of our joint venture partners. While we believe we are protected from any risk of liability because our investments in these partnerships as a general partner were conducted through the use of single-purpose entities, to the extent any debtors pursue payment from us, it is possible that we could be held liable for those liabilities, and those amounts could be material.

 

 

Dispositions

 

On January 26, 2007, we sold BridgeStreet, our corporate housing subsidiary, for total proceeds of approximately $42.4 million in cash. Our corporate housing business had been classified as its own reportable segment.

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

The operations of the corporate housing subsidiary have been classified as discontinued operations in our consolidated statement of operations for the three months ended March 31, 2007. The following table summarizes operating results, the gain on the sale, and our segment reporting of our corporate housing subsidiary:

 

 

With respect to the foreign operations, the disposition was considered a sale of stock of the subsidiary and resulted in a capital loss for tax purposes. As this capital loss can only be used to offset capital gains for tax purposes, a full valuation allowance was recorded resulting in an effective tax rate of approximately 1 percent.

 

 

On January 1, 2006, we adopted SFAS No. 123 (revised 2004), “Share Based Payment” (“SFAS No. 123R”) using the modified prospective method. Since January 1, 2003, we have used the Black-Scholes pricing model to estimate the value of stock options granted to employees. The adoption of SFAS No. 123R did not have a material impact on our results of operations or financial position as all of our unvested stock-based awards as of December 31, 2005 had previously been accounted for under the fair value method of accounting.

 

In February 2008, we granted 815,245 shares of restricted stock to members of senior management. The restricted stock awards granted vest ratably over four years, except for our chief executive officer whose awards vest over three years based on his employment agreement. We recognized $0.3 million of restricted stock expense in the consolidated statement of operations for the three months ended March 31, 2008.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to help the reader understand Interstate Hotels & Resorts, Inc., our operations and our present business environment. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated interim financial statements and the accompanying notes.

 

Forward-Looking Statements

 

The SEC encourages companies to disclose forward-looking information so that investors can better understand a company’s future prospects and make informed investment decisions. In this Quarterly Report on Form 10-Q and the information incorporated by reference herein, we make some “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are often, but not always, made through the use of words or phrases such as “will likely result,” “expect,” “will continue,” “anticipate,” “estimate,” “intend,” “plan,” “projection,” “would” and “outlook” and other similar terms and phrases. Any statements in this document about our expectations, beliefs, plans, objectives, assumptions or future events or performance are not historical facts and are forward-looking statements. Forward-looking statements are based on management’s current expectations and assumptions and are not guarantees of future performance that involve known and unknown risks, uncertainties and other factors which may cause our actual results to differ materially from those anticipated at the time the forward-looking statements are made. These risks and uncertainties include those risk factors discussed in Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2007.

 

Any forward-looking statements are qualified in their entirety by reference to the factors discussed throughout this Quarterly Report on Form 10-Q and our most recent Annual Report on Form 10-K and the documents incorporated by reference herein. You should not place undue reliance on any of these forward-looking statements. Further, any forward-looking statement speaks only as of the date on which it is made and we do not undertake to update any forward-looking statement or statements to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible to predict which will arise. In addition, we cannot assess the impact of each factor on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements.

 

Overview and Outlook

 

Our Business — We are a leading hotel real estate investor and the nation’s largest independent operator, as measured by number of rooms under management and gross annual revenues of the managed portfolio. We have two reportable operating segments: hotel ownership (through whole-ownership and joint ventures) and hotel management. A third reportable segment, corporate housing, was disposed of on January 26, 2007 with the sale of BridgeStreet. The results of this segment are reported as discontinued operations in our consolidated financial statements for all periods presented.

 

As of March 31, 2008, we owned seven hotels with 2,045 rooms and held non-controlling joint venture equity interests in 18 joint ventures, which owned or held ownership interests in 47 of our managed properties. We managed all of the properties within our hotel ownership segment.

 

As of March 31, 2008, we and our affiliates managed 217 hotel properties with 45,252 rooms and six ancillary service centers (which consist of a convention center, a spa facility, two restaurants and two laundry centers), in 36 states, the District of Columbia, Russia, Mexico, Canada, Belgium and Ireland. Our portfolio of managed properties is diversified by location/market, franchise and brand affiliations, and ownership group(s). We manage hotels represented by more than 30 franchise and brand affiliations in addition to operating 16 independent hotels. Our managed hotels are owned by more than 60 different ownership groups.

 

Industry Overview — The lodging industry, of which we are a part, is subject to both national and international extraordinary events. Over the past several years we have continued to be impacted by events including the ongoing war on terrorism, the potential outbreak and epidemic of infectious disease, natural disasters, the continuing change

in the strength and performance of regional and global economies and the level of hotel acquisition activity by private equity investors and other acquirers of real estate.

 

According to PKF Hospitality Research, the U.S. lodging industry enjoyed a tremendous period of recovery from 2003 through 2007. RevPAR growth was 5.7 percent and 7.8 percent in 2007 and 2006, respectively. Room demand increased by 1.2 percent in 2007 (against a room supply increase of 1.4 percent), up from a 0.5 percent room demand increase in 2006 (against a room supply increase of 0.2 percent). The demand in the industry is forecasted to grow at 0.9 percent in 2008 and 1.7 percent in 2009. Because increases in demand for hotel rooms are expected to lag behind increases in supply, the U.S. national average occupancy rate is expected to decline from 63.2 percent in 2007 to 61.9 percent in 2009. Notwithstanding the declining occupancy levels, average daily rates, or ADR, is expected to increase at a rate that is higher than the expected rate of inflation.

 

Overall industry RevPAR is projected to grow an additional 3.0 percent in 2008. As occupancy is projected to decrease 1.6 percent in 2008, nearly all of the growth will be driven by an increase in ADR of 4.7 percent. Overall, industry room supply and room demand are both projected to grow by 2.6 percent and 0.9 percent in 2008, respectively.

 

Financial Highlights — Our operating results for the first quarter of 2008 reflect tangible results of our strategy to diversify and stabilize our income streams through the increase of wholly-owned hotel real estate. For the three months ended March 31, 2008, revenues from our owned hotels were $23.9 million, an increase of $10.8 million compared to the same period in 2007. In addition, operating income from owned-hotels increased $1.4 million, while gross margins increased slightly from 28.3 percent in the first quarter of 2007 to 28.6 percent in the first quarter of 2008.

 

While we have benefited during the first quarter from the operations relating to our 2007 acquisitions of wholly-owned real estate, we have also realized significant growth in the number of hotels under management. During the first quarter of 2008, we have grown our management contact portfolio by a net 26 properties, providing a net increase of 2,632 additional rooms. Although our management contract losses have been significant over the past two years, we believe the attrition we have experienced within our portfolio of third party management agreements has leveled off, and we are beginning to expand our portfolio once again, as is evidenced by a net increase of 33 properties over the past two quarters.

 

Investments in and Acquisitions of Real Estate — In the first quarter of 2008, we continued to implement our growth strategy of selective hotel ownership through wholly-owned acquisitions and joint venture investments. In February 2008 , our joint venture with Harte, closed on the purchase of a four property portfolio from affiliates of Blackstone, for an aggregate price of $208.7 million. We invested $11.6 million representing our 20 percent equity interest in the portfolio. At the time of our investment, we managed three of the properties and had previously managed the fourth. The joint venture plans to invest more than $30 million of additional funds for comprehensive renovations of the hotels over the 30 months following the acquisition, with our contribution expected to be approximately $2 million. The four properties included in the joint venture acquisition were as follows:

 

 

In February 2008, our joint venture with FFC acquired a portfolio of 22 properties located throughout the Midwest in Illinois, Iowa, Michigan, Minnesota, Wisconsin and Texas. We invested $1.7 million, representing our 10 percent equity interest in the portfolio. Upon closing, all 22 properties, representing 2,397 rooms, were converted to various Wyndham Worldwide brands. The properties are located along major interstates and proximate to major commercial and leisure demand generators. Our investment includes our share of planned capital improvements to re-brand, re-image, and reposition the hotels.

 

In February 2008, we and JHM Hotels, LLC (“JHM”), formed a joint venture management company in which we hold a 50 percent ownership interest. The joint venture will seek management opportunities throughout India

and has already signed its first management agreement in April 2008. Management of this hotel will commence in the fourth quarter of 2008. We provided to our partner, JHM, $0.5 million in the form of a convertible note towards the working capital of the joint venture, which is expected to convert to an equity interest in the joint venture during 2008. Simultaneous with the formation of this management company, we and JHM each committed to invest $6.25 million in the private real estate fund, Duet India Hotels (“Duet Fund”), which will seek opportunities to purchase and/or develop hotels throughout India. As of March 31, 2008, we had invested $1.6 million in the Duet Fund. In return for our investment, the Duet Fund will give our joint venture the right of first refusal for all hotels that it invests which are not already encumbered by an existing management contract.

 

In February 2008, True North Tesoro Property Partners, L.P . , a joint venture in which we hold a 15.9 percent equity interest, sold the Doral Tesoro Hotel & Golf Club, located near Dallas, Texas. Our portion of the joint ventures’ gain on sale of the hotel was approximately $2.4 million before post-closing adjustments. In March 2008, we received $1.8 million from the sale proceeds. Additional distributions are anticipated as post-closing adjustments are settled. The joint venture owns a separate entity that holds mineral rights and receives royalties related to gas production activities which was not marketed in the sale of the hotel. This transaction serves as a primary example of the value we seek to create through the operational expertise we provide to owners, combined with the realization of the equitable appreciation of the underlying real estate asset.

 

Turnover of Management Contracts — During the first quarter of 2008, we continued to see a reduction in the number of hotel real estate transactions, leading to further stabilization in our third-party managed portfolio. The increased transaction activity beginning in 2005, had created a higher level of contract attrition within our portfolio; however, due to the tightening of the credit markets and the reduction in transaction activity during the past three quarters, we have seen our managed portfolio stabilize and furthermore begin to grow over the past two quarters.

 

The following table highlights the contract activity within our managed portfolio:

 

 

As of March 31, 2008, we continued to manage nine Blackstone properties, which accounted for $1.0 million in management fees for the three months ended March 31, 2008. During the first quarter of 2008, Blackstone sold four hotels which we managed, three of which we continue to manage through one of our joint venture partnerships. Unpaid termination fees due to us from Blackstone as of March 31, 2008 for hotels previously sold by Blackstone is $18.4 million. For 21 of the hotels sold and with respect to $15.8 million of the unpaid fees, Blackstone retains the right to replace a terminated management contract during the 48 month payment period with a replacement contract on a different hotel and reduce the amount of any remaining unpaid fees. Management fees we would earn from any replacement management contract entered into with Blackstone would reduce dollar for dollar the termination fee balance due to us from Blackstone.

 

Critical Accounting Policies and Estimates

 

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amount of assets and liabilities at the date of our financial statements and the reported amounts of revenues and expenses during the reporting period. Application of these policies involves the exercise of judgment and the use of assumptions as to future uncertainties and, as a result, actual results could differ from these estimates. We evaluate our estimates and judgments, including those related to the impairment of long-lived assets, on an ongoing basis. We base our estimates on experience and on various other assumptions that are believed to be reasonable under the circumstances.

 

We have discussed those policies that we believe are critical and require judgment in their application in our Annual Report on Form 10-K, for the year ending December 31, 2007.

Results of Operations

 

Operating Statistics

 

Statistics related to our wholly-owned properties and managed hotel properties include:

 

 

 

 

Hotels under management increased by a net of 10 properties as of March 31, 2008 compared to March 31, 2007, due to the following:

 

 

The operating statistics related to our managed hotels, including wholly-owned hotels, on a same-store basis ⁽²⁾ , were as follows:

 

 

 

 

Revenues

 

The significant components of revenue were as follows (in thousands):

 

 

Lodging

The increase in lodging revenue of $10.8 million in the first quarter of 2008 is primarily due to the inclusion of revenues of $5.8 million from the Westin Atlanta, which was purchased in May 2007, and $2.7 million from the Sheraton Columbia, which was purchased in November 2007, and $2.1 million in additional revenue from the Hilton Houston Westchase, which was purchased in February 2007. In addition, during the three month period ended March 31, 2008, we saw an increase in RevPAR at the Hilton Durham and the Hilton Garden Inn Baton Rouge of 11.7 percent and 3.6 percent, respectively, over the same period in 2007 providing for increases in total revenue of $0.2 million and $0.1 million, respectively.

 

Management fees and termination fees

The decrease in management fee revenue was mainly due to the net loss of full service properties, which on average, yield a higher management fee than limited service properties. In addition, our room count was lower at March 31, 2008 compared to March 31, 2007. The decrease in the room count and the loss of full service properties were partially offset by a 3.1 percent increase in RevPAR during the first quarter of 2008.

 

The majority of the termination fees for the three months ended March 31, 2008 were due to the recognition of $2.7 million of termination fees from Blackstone, of which $1.4 million relates to three properties that our joint venture with Harte purchased from Blackstone. For these three hotels, Blackstone has waived the right to replace the management contract with another contract. As all contingencies have been removed, we recognized the full amount of the termination fees related to these three hotels. Termination fees from Blackstone are paid over 48 months or as a discounted one-time payment. Blackstone may also offset any unpaid termination fees due to us with future management fees earned from any new management agreement we would enter into with Blackstone. For the three months ended March 31, 2007, we recognized $1.1 million in termination fees related to previously terminated contracts from Blackstone.

 

Other revenue from managed properties

Other revenue from managed properties decreased in the first quarter of 2008 by $25.4 million, compared to the same period in 2007 due to the loss of full service properties. These amounts represent the payroll and related costs, and certain other costs of the hotel’s operations, that are contractually reimbursed to us by the hotel owners and are also recorded as “other expenses from managed properties.”

Operating Expenses

 

The significant components of operating expenses were as follows (in thousands):