-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, SG7mjuTwAL1njiuNIUd3meMquF+ELcksEMXZaV/ZSHVhr93KwWncUsQD4fBisfrl hg6QbxMHguiXeANur289hg== 0000916641-98-001313.txt : 19981208 0000916641-98-001313.hdr.sgml : 19981208 ACCESSION NUMBER: 0000916641-98-001313 CONFORMED SUBMISSION TYPE: S-11/A PUBLIC DOCUMENT COUNT: 7 FILED AS OF DATE: 19981207 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HERSHA HOSPITALITY TRUST CENTRAL INDEX KEY: 0001063344 STANDARD INDUSTRIAL CLASSIFICATION: HOTELS & MOTELS [7011] STATE OF INCORPORATION: MD FILING VALUES: FORM TYPE: S-11/A SEC ACT: SEC FILE NUMBER: 333-56087 FILM NUMBER: 98765117 BUSINESS ADDRESS: STREET 1: 148 SHERATON DRIVE, BOX A CITY: NEW CUMBERLAND STATE: PA ZIP: 17070 BUSINESS PHONE: 2157702405 S-11/A 1 HERSHA HOSPITALITY TRUST S-11/A As filed with the Securities and Exchange Commission on December 7, 1998 Registration No. 333-56087 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 AMENDMENT NO. 3 to FORM S-11 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 Hersha Hospitality Trust (Exact name of registrant as specified in governing instruments) 148 Sheraton Drive, Box A New Cumberland, Pennsylvania 17070 (717) 770-2405 (Address of principal executive offices) Jay H. Shah, Esq. The Lafayette Building 437 Chestnut Street, Suite 615 Philadelphia, Pennsylvania 19106 (215) 238-1045 (Name and address of agent for service) --------------- Copies to: Cameron N. Cosby, Esq. James J. Wheaton, Esq. Hunton & Williams Willcox & Savage, P.C. Riverfront Plaza, East Tower 1800 NationsBank Center 951 East Byrd Street One Commercial Place Richmond, Virginia 23219-4074 Norfolk, Virginia 23510 (804) 788-8604 (757) 628-5619 Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement. If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration number of the earlier effective registration statement for the same offering. [ ] If the Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. [ ] CALCULATION OF REGISTRATION FEE
================================================================================================================================ Proposed Proposed Maximum Amount Being Maximum Offering Aggregate Offering Amount of Title of Securities Being Registered Registered(1) Price Per Share (2) Price (2) Registration Fee(3) - -------------------------------------------------------------------------------------------------------------------------------- Priority Class A Common Shares, $0.01 par value per share.............. 2,275,000 $6.00 $13,650,000 $4,026.75 ================================================================================================================================
(1) Includes 275,000 shares that may be purchased pursuant to an over-allotment option granted to the Underwriter. (2) Estimated solely for the purpose of determining the registration fee. (3) A registration fee of $4,720 was paid in connection with the Registrant's initial filing on June 5, 1998. --------------- The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933, as amended, or until the registration statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine. Subject to completion, dated __________, 1998 PROSPECTUS 2,000,000 Shares Hersha Hospitality Trust Priority Class A Common Shares of Beneficial Interest --------------- Hersha Hospitality Trust, formed in May 1998 (the "Company"), has been established to own initially ten hotels (the "Initial Hotels") and to continue the hotel acquisition and development strategies of Hasu P. Shah, the Chairman of the Board of Trustees and Chief Executive Officer of the Company. Mr. Shah and certain of his affiliates (together, the "Hersha Affiliates") purchased or developed all of the Initial Hotels, which will be contributed to the principal operating subsidiary of the Company, Hersha Hospitality Limited Partnership (the "Partnership"), by a group of affiliated partnerships, a corporation and individuals (the "Combined Entities") in exchange for interests in the Partnership and assumption of debt. Following the completion of this offering (the "Offering") and the use of Offering proceeds as described herein, the Company will own approximately a 32% general partnership interest in the Partnership. The Company is a self-advised Maryland real estate investment trust that intends to qualify as a real estate investment trust ("REIT") for federal income tax purposes. The Initial Hotels are located in Pennsylvania and include three Holiday Inn Express(R) hotels, two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels and one Clarion Suites(R) hotel with an aggregate of 989 rooms. The Partnership will own, directly or through subsidiary partnerships, 100% of the equity interests in the Initial Hotels and will lease them to Hersha Hospitality Management, L.P. (the "Lessee"), a limited partnership wholly-owned by certain of the Hersha Affiliates. The Hersha Affiliates have managed all of the Initial Hotels since their acquisition or construction. Upon the closing of the Offering of the Company's Priority Class A common shares of beneficial interest, par value $.01 per share (the "Priority Common Shares"), and the use of the Offering proceeds as set forth herein, the Partnership will have approximately $17.4 million of fixed-rate debt outstanding, which will be secured by some of the Initial Hotels. See "Risk Factors" beginning on page 15 for a discussion of material risks that should be considered by prospective purchasers of the Priority Common Shares offered hereby, including the following risks: o Conflicts of interest between the Company and the Hersha Affiliates, including conflicts regarding the sale, leasing or refinancing of the Initial Hotels, may have resulted, or may in the future result, in the interests of the shareholders not being reflected fully in all decisions made or actions taken by officers and Trustees of the Company. o The purchase prices to be paid for the six Initial Hotels that have little operating history or have been newly renovated are based upon projections by management as to the expected operating results of such hotels, subjecting the Company to the risk that these hotels may not achieve anticipated operating results and the rent received by the Company from such hotels after the First Adjustment Date or Second Adjustment Date (as herein defined) could be less than anticipated, which could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The holders of at least two-thirds of the interests in the Partnership, including the Company, which initially will own approximately only a 32% interest in the Partnership, must approve, subject to certain conditions, a sale of all or substantially all of the assets of the Partnership or a merger or consolidation of the Partnership, which could result in the disapproval of a transaction that would be beneficial to the shareholders of the Company. o Risks associated with distributing 100% of estimated cash available for distribution, including the risk that, after the Priority Period (as herein defined), actual cash available for distribution will be insufficient to allow the Company to maintain its proposed initial distribution rate. o The Company's lack of control over the daily operations of the Initial Hotels could, in the event that the Lessee fails to effectively operate the Initial Hotels, make the Company's business strategy more difficult to achieve, which could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The dependence of the Company on the Lessee's ability to make payments under the Percentage Leases in order to generate revenues may, in the event that there is a reduction in revenues at the Initial Hotels, adversely affect the amount of cash available for distribution to the shareholders of the Company. o The Company and the Partnership were recently formed, and the Company has no experience operating as a REIT or a public company. o The Company will initially own only ten hotels, all located in Pennsylvania. Thus, adverse changes in the operations of any one Initial Hotel could adversely affect the amount of cash available for distribution to the shareholders of the Company. o Mr. Shah and the partners of the Combined Entities personally guarantee all of the indebtedness secured by the Initial Hotels, and the personal bankruptcy of any of the guarantors would constitute a default under the related loan documents, which default would cause such indebtedness to become immediately due and payable and could adversely affect the Company's cash available for distribution. o Purchasers of the Priority Common Shares sold in the Offering will experience immediate and substantial dilution of $2.14, or 35.6% of the Offering Price, in the net tangible book value per Priority Common Share. In addition, in the event that any of the purchase prices of the Initial Hotels are increased pursuant to the repricing described herein, owners of the Priority Common Shares at such time will experience further dilution. o Risk of taxation of the Company as a regular corporation if it fails to qualify as a REIT, which would adversely affect the amount of cash available for distribution to the shareholders of the Company. --------------- All of the Priority Common Shares offered hereby are being sold by the Company. The Company proposes to sell 166,666 of the Priority Common Shares offered hereby directly to certain Hersha Affiliates at the initial public offering price, with the remainder of the Priority Common Shares offered hereby being sold through Anderson & Strudwick, Incorporated (the "Underwriter"). The Company intends to make regular quarterly distributions to holders of the Priority Common Shares initially equal to $0.18 per share, which on an annualized basis would be equal to $0.72 per share or 12.0% of the Offering Price. The holders of the Priority Common Shares will be entitled to a priority, as described herein, with respect to distributions and amounts payable upon liquidation (the "Priority Rights") for a period (the "Priority Period") beginning on the date of the closing of the Offering and ending on the earlier of: (i) the date that is 15 trading days after the Company sends notice to the record holders of the Priority Common Shares that their Priority Rights will terminate in 15 trading days, provided that the closing bid price of the Priority Common Shares is at least $7.00 on each trading day during such 15-day period, or (ii) the fifth anniversary of the closing of the Offering. Notwithstanding the foregoing, the Priority Period shall not end until the holders of the Priority Common Shares have received any accrued, but unpaid, Priority Distributions. During the Priority Period, the holders of the Priority Common Shares will be entitled to receive, prior to any distributions either to the holders of units of limited partnership interest in the Partnership ("Units") that received Units (the "Subordinated Units") in exchange for the Initial Hotels or to the holders of the Company's Class B common shares of beneficial interest, $.01 par value per share (the "Class B Common Shares"), cumulative dividends in an amount per Priority Common Share equal to $0.18 per quarter (the "Priority Distribution"). After the holders of the Subordinated Units and the Class B Common Shares have received an amount per Subordinated Unit or per Class B Common Share equal to the Priority Distribution, the holders of the Priority Common Shares will be entitled to receive any further distributions on a pro rata basis with the holders of the Subordinated Units and the Class B Common Shares. As of the closing of the Offering, no Class B Common Shares will be outstanding. In the future, the Company may issue additional Priority Common Shares, and the Partnership may issue Units that are not subordinated to the Priority Common Shares. See "Description of Shares of Beneficial Interest" and "Partnership Agreement." The Company's Declaration of Trust generally prohibits direct or indirect ownership of more than 9.9% of the outstanding shares of any class of the Company's securities, including the Priority Common Shares, by any person. Prior to the Offering, there has been no public market for the Priority Common Shares. The Priority Common Shares have been approved for listing, subject to final notice of issuance, on the American Stock Exchange under the symbol "HT." The initial public offering price of the Priority Common Shares will be $6.00 per share (the "Offering Price"). See "Underwriting" for a discussion of factors considered in determining the Offering Price. THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION NOR HAS THE COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
============================================================================================================================ Price to Selling Proceeds to Public Commission(1) Company(2) - ---------------------------------------------------------------------------------------------------------------------------- Per Priority Common Share................ $6.00 $.48 $5.52 Total(3)................................. $12,000,000 $880,000 $11,120,000 ============================================================================================================================
(1) See "Underwriting" for information concerning indemnification of the Underwriter and other matters. As stated above, the Company proposes to sell 166,666 of the Priority Common Shares offered hereby directly to certain Hersha Affiliates at the Offering Price. The Underwriter will not receive any selling commission with respect to such shares. Does not reflect the Underwriter Warrants granted by the Company to the Underwriter to purchase 183,333 Priority Common Shares for a period of five years at a price per share equal to 165% of the Offering Price. See "Underwriting." (2) Before deducting expenses payable by the Company, estimated at $650,000. (3) The Company has granted the Underwriter an option for 30 days to purchase an additional 275,000 shares at the public offering price per share, less the underwriting discount, solely to cover over-allotments. If such option is exercised in full, the total Price to Public, Selling Commission and Proceeds to Company will be $13,650,000, $1,012,000 and $12,638,000, respectively. See "Underwriting." ----------- The Priority Common Shares, other than the 166,666 Priority Common Shares offered directly by the Company to certain Hersha Affiliates, are being offered by the Company to Anderson & Strudwick, Incorporated (the "Underwriter") as and if delivered to and accepted by it, subject to the right of the Underwriter to reject any order in whole or in part. It is expected that the delivery of the Priority Common Shares will be made in New York, New York on or about December ___, 1998. Anderson & Strudwick Incorporated The date of this Prospectus is ____________, 1998. INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. [COLOR PHOTOS AND ART WORK TO COME]
Page PROSPECTUS SUMMARY.......................................................................................... 1 The Company............................................................................................... 1 Summary Risk Factors...................................................................................... 1 The Partnership........................................................................................... 3 The Lessee................................................................................................ 4 The Initial Hotels........................................................................................ 5 Growth Strategy........................................................................................... 6 Acquisition Strategy...................................................................................... 6 Internal Growth Strategy.................................................................................. 7 Formation Transactions.................................................................................... 7 Benefits to the Hersha Affiliates......................................................................... 10 Conflicts of Interest..................................................................................... 11 Distribution Policy....................................................................................... 11 Tax Status................................................................................................ 12 The Offering.............................................................................................. 12 Summary Financial Data.................................................................................... 13 RISK FACTORS................................................................................................ 15 Conflicts of Interest..................................................................................... 15 Conflicts Relating to Sales or Refinancing of Initial Hotels............................................................................................ 15 No Arm's-Length Bargaining on Percentage Leases, Contribution Agreements, the Administrative Services Agreement and Option Agreement..................................................................... 15 Competing Hotels Owned or to be Acquired by the Hersha Affiliates.................................................................................. 15 Acquisition of Hotels with Limited Operating History...................................................... 16 Need for Certain Consents from the Limited Partners....................................................... 16 Inability to Operate the Properties....................................................................... 16 Dependence on the Lessee.................................................................................. 16 Newly-Organized Entities.................................................................................... 16 Limited Numbers of Initial Hotels......................................................................... 17 Guarantors of Assumed Indebtedness........................................................................ 17 Substantial Dilution...................................................................................... 17 Tax Risks................................................................................................. 17 Failure to Qualify as a REIT....................................................................... 17 REIT Minimum Distribution Requirements............................................................. 17 Potential Adverse Effects of Leverage and Lack of Limits on Indebtedness........................................................................................ 18 The Price Being Paid for the Initial Hotels May Exceed Their Value............................................................................................ 18 Emphasis on Franchise Hotels................................................................................ 18 Concentration of Investments in Pennsylvania.............................................................. 19 Hotel Industry Risks...................................................................................... 19 Operating Risks.................................................................................... 19 Competition for Guests............................................................................. 19 Investment Concentration in Single Industry........................................................ 19 Seasonality of Hotel Business and the Initial Hotels............................................... 19 Risks of Operating Hotels under Franchise Licenses................................................. 20 Operating Costs and Capital Expenditures; Hotel Renovation........................................................................................ 20 Real Estate Investment Risks.............................................................................. 20 General Risks of Investing in Real Estate.......................................................... 20 Illiquidity of Real Estate......................................................................... 20 Uninsured and Underinsured Losses.................................................................. 21 Property Taxes..................................................................................... 21 Environmental Matters.............................................................................. 21 Compliance with Americans with Disabilities Act and other Changes in Governmental Rules and Regulations.............................................. 21 Market for Priority Common Shares......................................................................... 21 Effect of Market Interest Rates on Price of Priority Common Shares.......................................................................................... 22 Anti-takeover Effect of Ownership Limit, Limited Partner Consents, Staggered Board, Power to Issue Additional Shares and Certain Provisions of Maryland Law.......................................................... 22 Ownership Limitation............................................................................... 22 Limited Partner Consents........................................................................... 22 Staggered Board........................................................................................... 22 Issuance of Additional Shares...................................................................... 22 Maryland Business Combination Law.................................................................. 23 Dependence Upon External Financing........................................................................ 23 Assumption of Contingent Liabilities of Combined Entities................................................ 23 Year 2000 Risks........................................................................................... 23 Ability of Board of Trustees to Change Certain Policies..................................................... 24 Growth Strategy........................................................................................... 24 Competition for Acquisitions....................................................................... 24 Acquisition Risks.................................................................................. 24 Reliance on Trustees and Management....................................................................... 24 Possible Adverse Effect of Shares Available for Future Sale on Price of Priority Common Shares..................................................................... 25 THE COMPANY................................................................................................. 25 GROWTH STRATEGY............................................................................................. 27 Acquisition Strategy...................................................................................... 27 Internal Growth Strategy.................................................................................. 28 USE OF PROCEEDS............................................................................................. 29 DISTRIBUTION POLICY......................................................................................... 30 PRO FORMA CAPITALIZATION.................................................................................... 36 DILUTION.................................................................................................... 37 SELECTED FINANCIAL INFORMATION.............................................................................. 38 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS................................................................................. 40 Overview.................................................................................................. 40 Results of Operations of the Initial Hotels............................................................... 40 Liquidity and Capital Resources........................................................................... 40 Inflation................................................................................................. 41 Seasonality............................................................................................... 41 Year 2000 Compliance...................................................................................... 42 BUSINESS AND PROPERTIES..................................................................................... 43 The Initial Hotels........................................................................................ 43 The Percentage Leases..................................................................................... 46 Franchise Licenses........................................................................................ 50 Operating Practices....................................................................................... 52 Employees................................................................................................. 52 Environmental Matters..................................................................................... 52 Competition............................................................................................... 52 Insurance................................................................................................. 53 Depreciation.............................................................................................. 53 Legal Proceedings......................................................................................... 53 Hersha Affiliates' Hotel Assets Not Acquired By The Company................................................................................................ 53 Ground Leases............................................................................................. 53 POLICIES AND OBJECTIVES WITH RESPECT TO CERTAIN ACTIVITIES........................................................................................ 54 Investment Policies....................................................................................... 54 Financing................................................................................................. 54 Conflict of Interest Policies............................................................................. 55 Policies with Respect to Other Activities................................................................. 56 Working Capital Reserves.................................................................................. 56 FORMATION TRANSACTIONS...................................................................................... 57 Benefits to the Hersha Affiliates......................................................................... 57 MANAGEMENT.................................................................................................. 59 Trustees and Executive Officers........................................................................... 59 Audit Committee........................................................................................... 60 Compensation Committee.................................................................................... 61 Compensation.............................................................................................. 61 Exculpation and Indemnification........................................................................... 61 The Option Plan........................................................................................... 62 The Trustees' Plan........................................................................................ 63
i
Page CERTAIN RELATIONSHIPS AND TRANSACTIONS...................................................................... 64 Repayment of Indebtedness and Guarantees by Mr. Shah and the Hersha Affiliates........................................................................................... 64 Hotel Ownership and Management............................................................................ 64 Option Agreement.......................................................................................... 64 Payment of Franchise Transfer Fees by the Company......................................................... 64 THE LESSEE.................................................................................................. 65 Management of the Lessee.................................................................................. 65 PRINCIPAL SHAREHOLDERS...................................................................................... 67 DESCRIPTION OF SHARES OF BENEFICIAL INTEREST................................................................ 68 General................................................................................................... 68 The Class B Common Shares................................................................................. 70 Voting Rights of Priority Common Shares and Class B Common Shares.......................................................................................... 71 Preferred Shares.......................................................................................... 72 Classification or Reclassification of Common Shares or Preferred Shares....................................................................................... 72 Restrictions on Ownership and Transfer.................................................................... 72 Other Matters............................................................................................. 74 CERTAIN PROVISIONS OF MARYLAND LAW AND OF THE COMPANY'S DECLARATION OF TRUST AND BYLAWS......................................................................................... 75 Classification of the Board of Trustees................................................................... 75 Removal of Trustees....................................................................................... 75 Business Combinations..................................................................................... 75 Control Share Acquisitions................................................................................ 76 Amendment................................................................................................. 76 Limitation of Liability and Indemnification............................................................... 77 Operations................................................................................................ 77 Dissolution of the Company................................................................................ 78 Advance Notice of Trustees Nominations and New Business................................................... 78 Possible Anti-takeover Effect of Certain Provisions of Maryland Law and of the Declaration of Trust and Bylaws................................................................................................. 78 Maryland Asset Requirements............................................................................... 78 SHARES AVAILABLE FOR FUTURE SALE............................................................................ 79 PARTNERSHIP AGREEMENT....................................................................................... 81 Management................................................................................................ 81 Transferability of Interests................................................................................ 81 Capital Contribution........................................................................................ 81 Redemption Rights......................................................................................... 82 Operations................................................................................................ 82 Distributions............................................................................................. 83 Allocations............................................................................................... 83 Term...................................................................................................... 83 Tax Matters............................................................................................... 83 FEDERAL INCOME TAX CONSEQUENCES............................................................................. 84 Taxation of the Company................................................................................... 84 Requirements for Qualification............................................................................ 85 Failure to Qualify........................................................................................ 91 Taxation of Taxable U.S. Shareholders..................................................................... 92 Taxation of Shareholders on the Disposition of the Common Shares................................................................................................. 92 Capital Gains and Losses.................................................................................. 93 Information Reporting Requirements and Backup Withholding........................................................................................... 93 Taxation of Tax-Exempt Shareholders....................................................................... 93 Taxation of Non-U.S. Shareholders......................................................................... 94 Other Tax Consequences.................................................................................... 95 Tax Aspects of the Partnership............................................................................ 95 Sale of the Company's or the Partnership's Property....................................................... 97 UNDERWRITING................................................................................................ 99 EXPERTS.....................................................................................................101 REPORTS TO SHAREHOLDERS.....................................................................................101 LEGAL MATTERS...............................................................................................101 ADDITIONAL INFORMATION......................................................................................101 GLOSSARY....................................................................................................102 INDEX TO FINANCIAL STATEMENTS...............................................................................F-1
ii PROSPECTUS SUMMARY The following summary is qualified in its entirety by the more detailed information and financial statements and the notes thereto appearing elsewhere in this Prospectus. Unless the context otherwise indicates, all references herein to the "Company" include Hersha Hospitality Trust and Hersha Hospitality Limited Partnership and its subsidiaries. The Company is offering 2,000,000 Priority Common Shares pursuant to this Prospectus, 1,833,334 of which are being offered to the Underwriter and 166,666 of which are being offered to the Hersha Affiliates (as herein defined). Unless otherwise indicated, the information contained herein assumes that (i) only the 1,833,334 Priority Common Shares being offered to the Underwriter are sold and (ii) the Underwriter's over-allotment option is not exercised. The offering of 1,833,334 Priority Common Shares to the Underwriter is referred to herein as the "Offering." See "Glossary" beginning on page 102 for the definitions of certain additional terms used in this Prospectus. The Company Hersha Hospitality Trust (the "Company") has been established to own initially interests in ten hotels (the "Initial Hotels") and to continue the hotel acquisition and development strategies of Hasu P. Shah, Chairman of the Board of Trustees and Chief Executive Officer of the Company. The Company, formed in May 1998, is a self-advised Maryland real estate investment trust that intends to qualify as a real estate investment trust ("REIT") for federal income tax purposes. The Initial Hotels include three Holiday Inn Express(R) hotels, two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels and one Clarion Suites(R) hotel. The Initial Hotels are located in Pennsylvania and contain an aggregate of 989 rooms. The Holiday Inn Express(R) hotels in Hershey, Pennsylvania and New Columbia, Pennsylvania, the Hampton Inn(R) hotel in Carlisle, Pennsylvania and the Comfort Inn(R) hotel in Harrisburg, Pennsylvania (the "Newly-Developed Hotels") are newly constructed and therefore have limited operating history. The Holiday Inn Express(R) hotel in Harrisburg, Pennsylvania, the Holiday Inn(R) hotel in Milesburg, Pennsylvania and the Comfort Inn(R) hotel in Denver, Pennsylvania (the "Newly-Renovated Hotels") have been newly renovated and, as a result, the Company believes that such hotels' future performance will improve significantly over such hotels' prior operating histories. The remaining hotels, the Hampton Inn(R) hotel in Selinsgrove, Pennsylvania, the Holiday Inn(R) hotel and conference center in Harrisburg, Pennsylvania and the Clarion Suites(R) hotel in Philadelphia, Pennsylvania are referred to herein as the "Stabilized Hotels." Summary Risk Factors An investment in the Priority Common Shares involves various risks, and investors should carefully consider the matters discussed under "Risk Factors," including, among others, the following: o Conflicts of interest between the Company, the Hersha Affiliates and the Lessee that may have resulted, or may in the future result, in the interests of the shareholders not being reflected fully in all decisions made or actions taken by officers and Trustees of the Company, including: o conflicts related to the adverse tax consequences to the Hersha Affiliates upon a sale of any of the Initial Hotels or the refinancing or prepayment of principal on certain of the Assumed Indebtedness, and the related risk that the Hersha Affiliates' personal interests with regard to a sale or refinancing of an Initial Hotel or repayment of certain of the Assumed Indebtedness could be adverse to those of the Company; o lack of arm's-length negotiations with respect to the terms of the Percentage Leases, the contribution agreements for the Initial Hotels, the Option Agreement (as herein defined), the Administrative Services Agreement (as herein defined) and the Hersha Affiliates' conflicts relating to enforcing those agreements; o conflicts relating to ownership and operation of other hotels by the Hersha Affiliates; and o conflicts relating to competing demands on Mr. Shah's time. o The purchase prices for the Newly-Developed Hotels and the Newly-Renovated Hotels are based upon projections by management as to the expected operating results of such hotels, subjecting the 1 Company to risks that those hotels may not achieve anticipated operating results and the rent received by the Company from such hotels after the First Adjustment Date or Second Adjustment Date, as applicable, could be less than anticipated, which could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The holders of at least two-thirds of the interests in the Partnership, including the Company, which initially will own approximately only a 32% interest in the Partnership, must approve, subject to certain conditions, a sale of all or substantially all of the assets of the Partnership or a merger or consolidation of the Partnership, which could result in the disapproval of a transaction that would be beneficial to the shareholders of the Company. o Risks associated with distributing 100% of estimated cash available for distribution, including the risk that, after the Priority Period, actual cash available for distribution will be insufficient to allow the Company to maintain its proposed initial distribution rate. o The Company's lack of control over the daily operations of the Initial Hotels could, in the event that the Lessee fails to effectively operate the Initial Hotels, make the Company's business strategy more difficult to achieve, which could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The dependence of the Company on the Lessee's ability to make payments under the Percentage Leases in order to generate revenues may, in the event that there is a reduction in revenues at the Initial Hotels, adversely affect the amount of cash available for distribution to the shareholders of the Company. The Lessee has nominal net worth and must generate sufficient operating income from the Initial Hotels to fund its rent payment obligations under the Percentage Leases. o The Company and the Partnership were recently formed, and the Company has no experience operating as a REIT or a public company. o The Company initially will own only ten hotels. Thus, adverse changes in the operations of any of the ten Initial Hotels could adversely affect the amount of cash available for distribution to the shareholders of the Company. o Mr. Shah and the partners of the Combined Entities personally guarantee all of the Assumed Indebtedness, and the personal bankruptcy of any of the guarantors would constitute a default under the related loan documents, which default would cause the Assumed Indebtedness to become immediately due and payable. This accelerated payment could adversely affect the Company's cash available for distribution. If the Company is unable to make such payment, the Company may be forced to sell the Initial Hotels that serve as collateral for such Assumed Indebtedness in order to make such payment. o The Offering Price exceeds the net tangible book value per share. Therefore, purchasers of Priority Common Shares in the Offering will realize an immediate and substantial dilution of $2.14, or 35.6% of the Offering Price, in the net tangible book value of their shares. In addition, in the event that any of the purchase prices of the Newly-Renovated Hotels or the Newly-Developed Hotels are increased on the First Adjustment Date or the Second Adjustment Date, as applicable, owners of the Priority Common Shares at such time will experience further dilution. o Risk of taxation of the Company as a regular corporation if it fails to qualify as a REIT and the Company's liability for federal and state taxes on its income in such event, which would adversely affect the amount of cash available for distribution to the shareholders of the Company. o The Assumed Indebtedness will represent approximately 37% of the total purchase prices paid by the Company for the Initial Hotels. Although the Company's policy is to limit consolidated indebtedness to less than 67% of the total purchase prices paid by the Company for the hotels in which it has invested, there is no limit on the Company's ability to incur debt contained in the 2 Declaration of Trust or Bylaws. If the Company is unable to meet its debt service obligations or repay (or refinance) its debt when due, one or more of the Initial Hotels may be lost to foreclosure. o The price to be paid by the Company for the Initial Hotels may exceed the fair market value as determined by a third-party appraisal of the Initial Hotels. o Five of the Initial Hotels are licensed under one franchise brand, Holiday Inn/Holiday Inn Express, and any adverse developments to that franchise brand could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The geographic concentration in Pennsylvania of the Initial Hotels may expose the Company to regional economic fluctuations that could have a significant negative effect on the operation of the Initial Hotels, and ultimately on cash available for distribution to the shareholders of the Company. o Risks affecting the real estate or hospitality industries generally, including economic and other conditions that may adversely affect the Company's real estate investments and the Lessee's ability to make lease payments, potential increases in assessed real estate values or property tax rates, the relative illiquidity of real estate, competition, uninsured or underinsured losses, and the potential liability for unknown or future environmental liabilities, any of which could adversely affect the amount of cash available for distribution to the shareholders of the Company. o The absence of a prior market for the Priority Common Shares, the lack of assurance that an active trading market will develop or that the Priority Common Shares will trade at or above the Offering Price, and the potential negative effect of an increase in interest rates on the market price of the Priority Common Shares. o The restrictions on ownership of Priority Common Shares and certain other provisions in the Company's declaration of trust (the "Declaration of Trust") or the Company's Bylaws (the "Bylaws") could have the effect of inhibiting a change of control of the Company, even when a change of control would be beneficial to the Company's shareholders. The Partnership The Company will contribute substantially all of the net proceeds from the Offering to Hersha Hospitality Limited Partnership (the "Partnership") in exchange for approximately a 32% partnership interest in the Partnership. The Company will be the sole general partner of the Partnership. Shortly after the closing of the Offering, the Partnership will acquire, directly or through subsidiary partnerships, 100% of the equity interests in the Initial Hotels. Mr. Shah and certain affiliates (the "Hersha Affiliates") own the partnerships that currently own all of the Initial Hotels (collectively, the "Combined Entities"). Ownership of the land underlying two of the Initial Hotels will be retained by certain Hersha Affiliates and will be leased to the Partnership pursuant to separate ground leases, each with a 99-year term, and collectively providing for rent of $21,000 per year. See "Certain Relationships and Transactions." The Partnership will acquire the Initial Hotels in exchange for (i) Subordinated Units that will be redeemable, subject to certain limitations, for an aggregate of approximately 4 million Class B Common Shares, with a value of approximately $23.8 million based on the Offering Price, and (ii) the assumption of approximately $23.8 million of indebtedness related to the Initial Hotels, approximately $17.4 million of which (the "Assumed Indebtedness") will remain outstanding and approximately $6.4 million of which will be repaid immediately after the acquisition of the Initial Hotels using the net proceeds of the Offering. See "Formation Transactions." The purchase prices of the Newly-Renovated Hotels will be adjusted as soon as the Company's and the Lessee's audited financial statements for the year ended December 31, 1999 (the "First Adjustment Date") become available. The purchase prices of the Newly-Developed Hotels will be adjusted as soon as the Company's and the Lessee's audited financial statements for the year ended December 31, 2000 (the "Second Adjustment Date") become available. The adjustments will be calculated by applying the initial pricing methodology to such hotels' cash flows as shown on the Company's and the Lessee's audited financial statements for the year ended on the First Adjustment Date or the Second Adjustment Date, as applicable, and the adjustments must be 3 approved a majority of the Independent Trustees (as herein defined). If the repricing produces a higher aggregate value for such hotels, the Hersha Affiliates will receive an additional number of Subordinated Units that, when multiplied by the Offering Price, equals the increase in value plus the value of any distributions that would have been made with respect to such Subordinated Units if such Subordinated Units had been issued at the time of acquisition of such hotels. If, however, the repricing produces a lower aggregate value for such hotels, the Hersha Affiliates will forfeit to the Partnership that number of Subordinated Units that, when multiplied by the Offering Price, equals the decrease in value plus the value of any distributions made with respect to such Subordinated Units. The Lessee In order for the Company to qualify as a REIT, neither the Company nor the Partnership may operate hotels. Therefore, the Initial Hotels will be leased to Hersha Hospitality Management, L.P., a Pennsylvania limited partnership wholly-owned by certain of the Hersha Affiliates (the "Lessee"), pursuant to leases (the "Percentage Leases") that are designed to allow the Company to participate in growth in revenues of the Initial Hotels by providing that percentages of such revenues be paid by the Lessee as rent. Each Percentage Lease has been structured to provide anticipated rents at least equal to 12% of the purchase price paid for the hotel, net of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% (6% for the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross revenues per quarter at the hotel. This pro forma return is based on certain assumptions and historical revenues for the Initial Hotels (including projected revenues for the Newly-Developed Hotels and the Newly-Renovated Hotels) and no assurance can be given that future revenues for the Initial Hotels will be consistent with prior performance or the estimates. See "Risk Factors--Acquisition of Hotels with Limited Operating History." The rent on the Newly-Developed Hotels and the Newly-Renovated Hotels until the First Adjustment Date or Second Adjustment Date, as applicable, will be fixed (the "Initial Fixed Rent"). After the First Adjustment Date or the Second Adjustment Date, as applicable, rent will be computed with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels based on the percentage rent formulas described herein. The Initial Hotels will be operated by the Lessee. The Percentage Leases will have initial terms of five years and may be extended for two additional five-year terms at the option of the Lessee. See "Business and Properties--The Percentage Leases." 4 The Initial Hotels The following table sets forth certain information with respect to the Initial Hotels:
Twelve Months Ended December 31, 1997 ---------------------------------------------------- Average Number of Room Other Daily Initial Hotels Rooms Revenue Revenue(1) Occupancy Rate REVPAR(2) - -------------- --------- ------- ---------- --------- ------- --------- Newly-Developed Holiday Inn Express Hershey, PA(3)................. 85 $210,612 $4,877 38.8% $75.62 $29.35 New Columbia, PA(4)............ 81 $13,369 $253 9.0% $59.68 $5.39 Hampton Inn: Carlisle, PA(5)................ 95 659,861 8,421 53.5% $65.33 $34.93 Comfort Inn: Harrisburg, PA(6).............. 81 Newly-Renovated Holiday Inn Express: Harrisburg, PA(7).............. 117 1,357,241 176,868 56.4% $56.33 $31.78 Holiday Inn: Milesburg, PA................... 118 1,254,070 220,684 52.0% $56.07 $29.13 Comfort Inn: Denver, PA (8).................. 45 658,285 0 54.7% $73.26 $40.08 Stabilized Holiday Inn Hotel and Conference Center: Harrisburg, PA.................. 196 3,103,820 1,787,958 63.3% $68.22 $43.17 Hampton Inn: Selinsgrove, PA (9)............. 75 1,271,943 46,148 71.9% $65.29 $46.96 Clarion Suites: Philadelphia, PA................ 96 2,350,702 319,950 73.7% $91.02 $ 67.09 --- --------- ---------- ------ ------- ------- Total/weighted average........... 989 $10,879,903 $2,565,159 60.2% $68.27 $ 41.09 === =========== ========== ====== ======= =======
- ---------------------------------- (1) Represents restaurant revenue, telephone revenue and other revenue. (2) Revenue per available room ("REVPAR") is determined by dividing room revenue by available rooms for the applicable period. (3) This hotel opened in October 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. (4) This hotel opened in December 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. (5) This hotel opened in June 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. (6) This hotel opened in May 1998. (7) The land underlying this hotel will be leased to the Partnership by certain Hersha Affiliates for rent of $15,000 per year for 99 years. (8) The land underlying this hotel will be leased to the Partnership by certain Hersha Affiliates for rent of $6,000 per year for 99 years. (9) A portion of the land adjacent to this hotel, which is not currently used for hotel operations, will be leased to a Hersha Affiliate for $1 per year for 99 years. For further information regarding the Initial Hotels, see "Business and Properties - The Initial Hotels" and " - The Percentage Leases." 5 Growth Strategy The Company will seek to enhance shareholder value by increasing amounts available for distribution to shareholders by (i) acquiring additional hotels that meet the Company's investment criteria as described below and (ii) participating in any increased revenue from the Initial Hotels through the Percentage Leases. Acquisition Strategy The Company intends to acquire additional hotels that meet its investment criteria as described below. See "The Company--Growth Strategy--Acquisition Strategy." The Company will emphasize limited service and full service hotels with strong, national franchise affiliations in the upper-economy and mid-scale market segments, or hotels with the potential to obtain such franchises. In particular, the Company will consider acquiring limited service hotels such as Comfort Inn(R), Best Western(R), Days Inn(R), Fairfield Inn(R), Hampton Inn(R), Holiday Inn(R) and Holiday Inn Express(R) hotels, and limited service extended-stay hotels such as Hampton Inn and Suites(R), Homewood Suites(R), Main Stay Suites(R) and Residence Inn by Marriott(R) hotels. Under the Bylaws, any transaction involving the Company, including the purchase, sale, lease or mortgage of any real estate asset, in which a Trustee or officer of the Company, or any Affiliate (as herein defined) thereof, has an interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company) must be approved by a majority of the members of the Company's Board of Trustees (the "Trustees"), including a majority of the members of the Board of Trustees who do not have an interest in such transaction and who are not officers, directors or employees of the Company, any lessee of the Company's or the Partnership's properties or any underwriter or placement agent of the shares of beneficial interest of the Company that has been engaged by the Company within the past three years, or any Affiliate thereof (the "Independent Trustees"). The Company intends to focus predominately on investments in hotels in the eastern United States. Such investments may include hotels newly developed by the Hersha Affiliates. Pursuant to an agreement among Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha Affiliate, the Partnership will have an option to acquire any hotels owned or developed in the future by the Hersha Affiliates within 15 miles of any of the Initial Hotels or any hotel subsequently acquired by the Partnership for two years after acquisition or development (the "Option Agreement"). See "Certain Relationships and Transactions--Option Agreement." The Company's initial policy with respect to acquisitions of hotels (the "Acquisition Policy") is to acquire hotels for which it expects to receive rents at least equal to 12% of the purchase price paid for each hotel, net of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% (6% in the case of a full-service hotel) of gross revenues per quarter at each hotel. The Trustees, however, may change the Acquisition Policy at any time without the approval of the Company's shareholders. The Company intends to lease hotels that it acquires in the future to operators, including the Lessee as well as operators unaffiliated with the Lessee. Future leases with the Lessee generally will be similar to the Percentage Leases. See "Business and Properties --The Percentage Leases." Future leases with operators unaffiliated with the Lessee may or may not be similar to the Percentage Leases. The Trustees will negotiate the terms and provisions of each future lease, depending on the purchase price paid, economic conditions and other factors deemed relevant at the time. The Company's additional investments in hotels may be financed, in whole or in part, with undistributed cash, subsequent issuances of Priority Common Shares or other securities, or borrowings. The Company is currently pursuing with lenders a $10 million line of credit (the "Line of Credit"). A failure to obtain the Line of Credit could adversely affect the Company's ability to finance its growth strategy. See "Risk Factors --Dependence Upon External Financing." The Company's initial policy is to limit consolidated indebtedness to less than 67% of the aggregate purchase prices for the hotels in which it has invested (the "Debt Policy"). The Trustees, however, may change the Debt Policy without the approval of the Company's shareholders. The aggregate purchase prices paid by the Company for the Initial Hotels is approximately $47.3 million. After the Formation Transactions, the Company's indebtedness will be approximately $17.4 million (consisting of the Assumed Indebtedness), which represents approximately 37% of the aggregate purchase price to be paid by the Company. Because of the Debt Policy and the amount of the Assumed Indebtedness, the success of the Company's acquisition strategy will depend in the future on its ability to access additional capital through issuances of equity securities. See "The 6 Company--Growth Strategy--Investment Criteria and Financing," "Risk Factors--Risks of Leverage" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." Internal Growth Strategy The Percentage Leases are designed to allow the Company to participate in growth in revenues at the Initial Hotels. See "Business and Properties--The Percentage Leases." The Percentage Leases generally provide for the Lessee to pay in each calendar quarter the greater of base rent ("Base Rent") or percentage rent ("Percentage Rent"). The Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room revenues up to a certain threshold amount (the "Threshold"), (ii) a percentage of room revenues in excess of the Threshold but not more than an incentive threshold amount (the "Incentive Threshold"), (iii) a percentage of room revenues in excess of the Incentive Threshold and (iv) a percentage of revenues other than room revenues. The Incentive Threshold is designed to provide incentive to the Lessee to generate higher revenues at each hotel by lowering the percentage of revenue paid as Percentage Rent once room revenues reach certain levels. In the case of the Newly-Developed Hotels and the Newly-Renovated Hotels, the Lessee will pay the Initial Fixed Rent until the First Adjustment Date or the Second Adjustment Date, as applicable, after which the Lessee will pay the greater of Base Rent or Percentage Rent. See "Business and Properties--The Initial Hotels" and "--The Percentage Leases--Amounts Payable Under the Percentage Leases." The Initial Fixed Rent, the Base Rent and Percentage Rent are hereinafter referred to collectively as "Rent." Formation Transactions The principal transactions in connection with the formation of the Company and the acquisition of interests in the Initial Hotels (the "Formation Transactions") are as follows: o The Company will sell 1,833,334 Priority Common Shares to the Underwriter at the Offering Price. The net proceeds to the Company from the Offering will be contributed to the Partnership in exchange for approximately a 32% general partnership interest in the Partnership. In addition, the Company will offer 166,666 Priority Common Shares to the Hersha Affiliates at the Offering Price. The information contained herein assumes that none of these 166,666 Priority Common Shares are sold. o The Partnership will acquire the Initial Hotels by acquiring either all of the partnership interests in the Combined Entities or the Initial Hotels in exchange for (i) Subordinated Units that will be redeemable, subject to certain limitations, for an aggregate of approximately 4 million Class B Common Shares, with a value of approximately $23.8 million based on the Offering Price and (ii) the assumption of approximately $23.8 million in indebtedness secured by all of the Initial Hotels, approximately $6.4 million of which will be repaid with the proceeds of the Offering. The purchase prices of the Newly-Developed Hotels and the Newly-Renovated Hotels will be adjusted on the First Adjustment Date or the Second Adjustment Date, as applicable, as described in "--The Company." o The land underlying the Holiday Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver, Pennsylvania each will be leased to the Partnership by certain Hersha Affiliates for aggregate rent of $21,000 per year for 99 years. Also, a portion of the land adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for $1 per year for 99 years. o Each Initial Hotel will be leased to the Lessee pursuant to a Percentage Lease. The Percentage Leases will have an initial non-cancelable term of five years. All, but not less than all, of the Percentage Leases may be extended for an additional five-year term. At the end of the first extended term, the Lessee, at its option, may extend some or all of the Percentage Leases for the Initial Hotels for an additional five-year term. The Percentage Leases generally provide for the Lessee to pay in each calendar quarter the greater of the Base Rent or Percentage Rent. The Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room revenues up to the Threshold, (ii) a percentage of room revenues in excess of the Threshold but less than the 7 Incentive Threshold, (iii) a percentage of room revenues in excess of the Incentive Threshold and (iv) a percentage of revenues other than room revenues. The Incentive Threshold is designed to provide an incentive to the Lessee to generate higher revenues at each hotel. Until the First Adjustment Date or the Second Adjustment Date, as applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated Hotels will be the Initial Fixed Rents applicable to those hotels. After the First Adjustment Date or the Second Adjustment Date, as applicable, rent will be computed with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels based on the percentage rent formulas described herein. The Lessee will hold the franchise license (the "Franchise License") for each Initial Hotel. See "Business and Properties--The Percentage Leases." o The Partnership and certain of the Hersha Affiliates have entered into the Option Agreement, pursuant to which the Hersha Affiliates will agree that, if they develop or own any hotels in the future that are located within 15 miles of any Initial Hotel or hotel subsequently acquired by the Partnership, the Hersha Affiliates will give the Partnership the option to purchase such hotels for two years after acquisition or development. See "Risk Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates" and "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement." o The Company and the Lessee will enter into the Administrative Services Agreement, pursuant to which the Lessee will provide certain administrative services in exchange for an annual fee equal to $55,000, plus $10,000 for each hotel owned by the Company. o The Company has granted the Underwriter warrants to purchase 183,333 Priority Common Shares (the "Underwriter Warrants") for a period of five years at a price per share equal to 165% of the Offering Price. o The Partnership has granted 2744 Associates, L.P., which is a Hersha Affiliate, warrants to purchase 250,000 Units (the "Hersha Warrants") for a period of five years at a price per Unit equal to 165% of the Offering Price. 8 Following consummation of the Formation Transactions, the structure and relationships of the Company, the Partnership, the Initial Hotels and the Lessee will be as follows: [Flow chart describing the organization of the Company after completion of the Offering appears here] 9 (1) Four of the Initial Hotels will be held directly by the Partnership and the remaining six Initial Hotels will be held by subsidiary partnerships of the Partnership. The Company will lease the land underlying the Holiday Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver, Pennsylvania from certain Hersha Affiliates pursuant to separate leases, each with a term of 99 years, and collectively providing for annual rent of $21,000. Benefits to the Hersha Affiliates As a result of the Formation Transactions, the Hersha Affiliates will receive significant benefits, including but not limited to the following: o The Hersha Affiliates will receive approximately 4 million Subordinated Units in exchange for their interests in the Initial Hotels, which will have a value of approximately $23.8 million based on the Offering Price. The Subordinated Units held by the Hersha Affiliates will be more liquid than their current interests in the Combined Entities if a public trading market for the Class B Common Shares commences or when such shares are converted into Priority Common Shares and after the applicable holding periods expire. o The Lessee, which is owned by the Hersha Affiliates, will hold the Franchise Licenses for the Initial Hotels and will be entitled to all revenues from the Initial Hotels after payment of Rent under the Percentage Leases and other operating expenses. The Company will pay certain expenses in connection with the transfer of the Franchise Licenses to the Lessee. See "The Lessee." o Approximately $6.4 million of indebtedness owed by the Combined Entities will be repaid with a portion of the proceeds of the Offering. Approximately $4 million of such indebtedness is owed to entities controlled by the Hersha Affiliates and relates principally to hotel development expenses in connection with the Initial Hotels. Certain of the Assumed Indebtedness is and will remain guaranteed by the Hersha Affiliates. Upon the repayment of such indebtedness, the Hersha Affiliates will be released from the related guarantees. The Hersha Affiliates may receive increased cash distributions from the operations of the Initial Hotels as a result of the reduction of indebtedness on the Initial Hotels. o If the repricing on the First Adjustment Date or the Second Adjustment Date, as applicable, produces a higher value for the Newly-Developed Hotels or the Newly-Renovated Hotels, the Hersha Affiliates will receive an additional number of Subordinated Units that, when multiplied by the Offering Price, equals the increase in value plus the value of any distributions that would have been made in connection with such Subordinated Units if such Subordinated Units had been issued in connection with the acquisition of such hotels. o The Lessee, which is owned by the Hersha Affiliates, will receive an annual fee equal to $55,000, plus $10,000 for each hotel owned by the Company for providing certain administrative services to the Company. o Certain tax consequences to the Hersha Affiliates from the transfer of equity interests in the Initial Hotels will be deferred. o Messrs. Hasu P. Shah, K.D. Patel and Bharat C. Mehta will receive $7,500 per year for serving as Trustees. Mr. Shah shall also be entitled to receive a salary of not more than $100,000 per year provided that the Priority Common Shares have a closing price of $9.00 per share or higher for 20 consecutive trading days and remain at or above $9.00 per share. o The Partnership has granted 2744 Associates, L.P., which is a Hersha Affiliate, the Hersha Warrants to purchase 250,000 Units for a period of five years at a price per share equal to 165% of the Offering Price. 10 o Certain of the Hersha Affiliates will receive a total of $21,000 per year pursuant to 99-year ground leases with respect to the Holiday Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver, Pennsylvania. o A portion of the land adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for $1 per year for 99 years. Conflicts of Interest The Company will be subject to certain conflicts of interest resulting from its relationship with the Lessee. Specifically, certain of the senior officers of the Company will also be senior officers of the Lessee and will thus be subject to conflicting fiduciary duties when negotiating between those entities. In addition, certain senior officers and Trustees of the Company collectively own approximately 35% of the Lessee, and their fiduciary duties to the Company may be in conflict with their pecuniary interest in the Lessee. As a result, the terms of negotiations and agreements between the Company and the Lessee may not solely reflect the interests of the Company's shareholders. The Company has adopted certain policies in its governing instruments, has entered into certain agreements and is subject to certain provision of Maryland law, all of which are designed to minimize the effects of potential conflicts of interest. The Declaration of Trust, with limited exceptions, requires that three of the Company's Trustees be Independent Trustees. Such Independent Trustee requirement may not be amended, altered, changed or repealed without the affirmative vote of at least a majority of the members of the Board of Trustees (and the affirmative vote of the holders of not less than two-thirds of the outstanding shares of beneficial interest of the Company entitled to vote thereon). In addition, the Partnership has entered into the Option Agreement with certain of the Hersha Affiliates pursuant to which the Hersha Affiliates will agree that if they develop or own any hotels in the future that are located within 15 miles of any Initial Hotel or hotel subsequently acquired by the Partnership, the Hersha Affiliates will give the Partnership the option to purchase such hotels for two years. See "Risk Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates" and "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement." The Trustees also are subject to certain provisions of Maryland law, which are designed to eliminate or minimize certain potential conflicts of interest. See "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--Provisions of Maryland Law." However, there can be no assurance that these policies always will be successful in eliminating the influence of such conflicts, and if they are not successful, decisions could be made that might fail to reflect fully the interests of all shareholders. Distribution Policy The Company intends to make regular quarterly distributions to holders of the Priority Common Shares initially equal to $0.18 per share, which on an annualized basis would be equal to $0.72 per share or 12.0% of the Offering Price. The first distribution will cover the period from the closing of the Offering to March 31, 1999. The Trustees will determine the actual distribution rate based on the Company's actual results of operations, economic conditions and other factors. See "Partnership Agreement" and "Distribution Policy." During the Priority Period, the holders of the Priority Common Shares will be entitled to receive, prior to any distributions either to the holders of the Subordinated Units or to the holders of the Class B Common Shares, cumulative dividends in an amount per Priority Common Share equal to $0.18 per quarter. After the holders of the Subordinated Units and the Class B Common Share have received an amount per Unit or per Class B Common Share equal to the Priority Distribution, the holders of the Priority Common Shares will be entitled to receive any further distributions on a pro rata basis with the holders of the Subordinated Units and the Class B Common Shares. As of the closing of the Offering, no Class B Common Shares will be outstanding. Thus, the Priority Common Shares initially will have Priority Rights only with respect to the outstanding Subordinated Units. In the future, the Company may issue additional Priority Common Shares, and the Partnership may issue Units that are not subordinated to the Priority Common Shares. See "Description of Shares of Beneficial Interest" and "Partnership Agreement." 11 Tax Status The Company intends to make an election to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended (the "Code"), commencing with its initial taxable year ending December 31, 1998. If the Company qualifies for taxation as a REIT, then with certain exceptions, the Company will not be taxed at the corporate level on its taxable income that is distributed to its shareholders. A REIT is subject to a number of organizational and operational requirements, including a requirement that it currently distribute at least 95% of its taxable income, excluding net capital gains. Failure to qualify as a REIT will render the Company subject to federal income tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates and distributions to the shareholders in any such year will not be deductible by the Company. Although the Company does not intend to request a ruling from the Internal Revenue Service (the "Service") as to its REIT status, the Company has obtained the opinion of its legal counsel, Hunton & Williams, based on certain assumptions and representations described in "Federal Income Tax Consequences," that the Company has been organized in conformity with the requirements for qualification as a REIT beginning with its taxable year ending December 31, 1998, and that its proposed method of operation as represented to its counsel and as described herein will enable it to satisfy the requirements of such qualification. Investors should be aware, however, that opinions of counsel are not binding on the Service or any court. Even if the Company qualifies for taxation as a REIT, the Company or the Partnership may be subject to certain state and local taxes on its income and property. In connection with the Company's election to be taxed as a REIT, the Declaration of Trust imposes restrictions on the ownership and transfer of Priority Common Shares. The Company intends to adopt the calendar year as its taxable year. See "Risk Factors--Tax Risks," "--Ownership Limitation," "Federal Income Tax Consequences--Taxation of the Company" and "Description of Shares of Beneficial Interest - Declaration of Trust and Bylaw Provisions--Restrictions on Transfer." The Offering Priority Common Shares offered by the Company to the Underwriter.................................... 1,833,334(1) Priority Common Shares and Subordinated Units to be outstanding after the Offering........................ 5,797,442(1) Use of Proceeds........................................... To repay debt incurred in the acquisition of the Initial Hotels, to pay certain expenses of the Offering, to pay certain expenses associated with the acquisition of the Initial Hotels and for working capital purposes. Symbol on the American Stock Exchange.................................................. "HT"
- --------------- (1) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates. (2) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates, 183,333 Priority Common Shares issuable upon exercise of the Underwriter Warrants, 250,000 Class B Common Shares issuable upon the redemption of 250,000 Units issuable upon exercise of the Hersha Warrants, 650,000 Class B Common Shares reserved for issuance pursuant to the Option Plan (as herein defined) and 200,000 Class B Common Shares reserved for issuance pursuant to the Trustees' Plan (as herein defined). The Class B Common Shares will be converted into Priority Common Shares on a one-for-one basis after the expiration of the Priority Period. See "Description of Shares of Beneficial Interest--Class B Common Shares," "Formation Transactions," "Management--Option Plan" and "Underwriting." 12 Summary Financial Data The following tables set forth unaudited summary balance sheet data for the Company, unaudited pro forma condensed combined statements of operations for the Lessee and summary combined historical operating and financial data for the Combined Entities--Initial Hotels. Such data should be read in conjunction with the financial statements and notes thereto, which are contained elsewhere in this Prospectus. The pro forma condensed combined statements of operations for the Lessee are presented as if the consummation of the Formation Transactions had occurred on January 1, 1997 and carried forward through the interim period presented. The balance sheet data for the Company is presented as if the consummation of the Formation Transactions had occurred on September 30, 1998. Hersha Hospitality Trust Unaudited Summary Balance Sheet Data (In thousands) September 30, 1998 ---------------------- Historical Pro Forma ---------- --------- Balance Sheet Data: Net investment in hotel properties................. -- $40,489 Minority interest in Partnership................... -- $18,355 Shareholders' equity............................... -- $ 8,488 Total assets....................................... -- $44,243 Total debt......................................... -- $17,400 Hersha Hospitality Management, L.P. Unaudited Pro Forma Condensed Combined Statements of Operations(1) (In thousands)
Nine Months Ended Year Ended September 30, 1998 December 31, 1997 ------------------ ----------------- Room revenue.......................... $ 11,824 $10,880 Other revenue (2)..................... 2,111 2,565 Total revenue......................... $ 13,935 $13,445 Hotel operating expenses (3).......... 8,506 9,214 Percentage Lease payments (4)......... 5,108 5,129 -------- ------- Net income (loss)..................... $ 321 $ (898) ======== =======
- ------------------ (notes on following page) 13 Combined Entities - Initial Hotels Summary Combined Historical Operating and Financial Data (In thousands)
Nine Months Ended September 30 Year Ended December 31 --------------------------- ----------------------------------------- 1998 1997 1997 1996 1995 ---- ---- ---- ---- ---- Statement of Operations Data: Room revenue $11,824 $ 7,750 $10,880 $7,273 $5,262 Other revenue (2) 2,111 1,942 2,565 2,716 1,957 ------- ------- ------- ------ ------ Total revenue $13,935 $9,692 $13,445 $9,989 $7,219 Hotel operating expenses (3) 8,839 6,510 9,173 8,172 6,250 Interest 1,497 831 1,354 921 634 Depreciation and amortization 1,161 799 1,189 924 711 -------- ------- ------- ------ ------ Net income (loss) (5) $ 2,438 $ 1,552 $1,729 $ (28) $ (376) ======== ======= ======= ====== ======
- ------------------------- (1) The estimated information does not purport to represent what the Lessee's financial position or results of operations would actually have been if consummation of the Formation Transactions had, in fact, occurred on such date or at the beginning of the periods indicated, or to project the Lessee's financial position or results of operations at any future date or for any future period. Represents pro forma revenue and expenses as if (i) the Partnership recorded depreciation and amortization, paid interest on remaining debt after the Formation Transactions occurred, and paid real and personal property taxes and property insurance as contemplated by the Percentage Leases, and (ii) the Formation Transactions occurred as of the beginning of the periods indicated. (2) Represents restaurant revenue, telephone revenue and other revenue. (3) Represents departmental costs and expenses, general and administrative, repairs and maintenance, utilities, marketing, management fees, real estate and personal property taxes, property and casualty insurance and ground leases. The pro forma amounts exclude real estate and personal property taxes, property and casualty insurance, ground leases and management fees. Real estate and personal property taxes, property and casualty insurance and ground leases are the responsibility of the Partnership under the Percentage Leases. (4) Represents lease payments calculated on a pro forma basis using the rent provisions in the Percentage Leases. The rent provisions in the Percentage Leases are based upon an agreement between the Partnership and the Lessee in which the parties have agreed to the lease terms and the form of lease to be signed at the closing of the Offering. Lease payments are calculated under two methods depending upon whether the Initial Hotel is a Stabilized Hotel with an established operating history or a Newly-Developed Hotel or a Newly-Renovated Hotel. The Rents for the Stabilized Hotels are calculated by applying the percentage rent formulas to the historical room revenues and other revenues of those hotels for the periods presented. Because the Newly-Developed Hotels and the Newly-Renovated Hotels pay Initial Fixed Rent for at least the first twelve months of operation, the Rent for those hotels is based on the Initial Fixed Rents, recognized on a straight-line basis over the period presented. In the case of the Newly-Developed Hotels, the Initial Fixed Rents have been prorated for the periods the hotels were in operation because the hotels have not been in operation for the full periods presented. (5) The Combined Entities are not subject to income tax, except Hersha Enterprises, Ltd., which had no tax liability for the periods presented. 14 This Prospectus may contain forward-looking statements including, without limitation, statements containing the words "believes," "anticipates," "expects" and words of similar import. Such forward-looking statements relate to future events and the future financial performance of the Company, and involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of the Company or industry to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Prospective investors should specifically consider the various factors identified in this prospectus which could cause actual results to differ, including particularly those discussed in the section entitled "Risk Factors" beginning on this page. The Company disclaims any obligation to update any such factors or to publicly announce the result of any revisions to any forward-looking statements to reflect future events or developments. RISK FACTORS In evaluating the Company's business, prospective investors should carefully consider the following risk factors in addition to the other information contained in this Prospectus. Conflicts of Interest Because of the Hersha Affiliates' ownership in and/or positions with the Company, the Partnership, the Lessee and the Combined Entities, there are inherent conflicts of interest in the Formation Transactions and in the ongoing lease, acquisition, disposition and operation of the Initial Hotels. Consequently, the interests of shareholders may not have been, and in the future may not be, reflected fully in all decisions made or actions taken by officers and Trustees of the Company. See "The Company--Formation Transactions" and "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies." Conflicts Relating to Sales or Refinancing of Initial Hotels The Hersha Affiliates have unrealized gain associated with their interests in the Initial Hotels and, as a result, any sale of the Initial Hotels or refinancing or prepayment of principal on the Assumed Indebtedness by the Company may cause adverse tax consequences to the Hersha Affiliates. Therefore, the interests of the Company and the Hersha Affiliates could be different in connection with the disposition or refinancing of an Initial Hotel. Decisions in connection with any transaction involving the Company, including the disposition of an Initial Hotel or refinancing of or prepayment of principal on the Assumed Indebtedness, in which a Trustee or officer of the Company, or any Affiliate thereof, has an interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company) must be made by a majority of the Trustees, including a majority of the Independent Trustees. No Arm's-Length Bargaining on Percentage Leases, Contribution Agreements, the Administrative Services Agreement and Option Agreement The terms of the Percentage Leases, the agreements pursuant to which the Company and the Partnership will acquire, directly or indirectly, the Initial Hotels, the Administrative Services Agreement and the Option Agreement were not negotiated on an arm's-length basis. See "Business and Properties--The Percentage Leases" and "Certain Transactions--The Percentage Leases." The Company will not own any interest in the Lessee. Messrs. Hasu P. Shah, K.D. Patel, and Bharat C. Mehta are Trustees of the Company and collectively own approximately 35% of the Lessee. Consequently, they have a conflict of interest regarding the negotiation and enforcement of the Percentage Leases, the Administrative Services Agreement and the Option Agreement. See "The Lessee." Competing Hotels Owned or to be Acquired by the Hersha Affiliates The Hersha Affiliates may develop or acquire new hotels, subject to certain limitations. While it is anticipated that Mr. Shah will devote substantially all of his time to the business of the Company, such development or acquisition by the Hersha Affiliates may materially affect the amount of time Mr. Shah has to devote to the affairs of the Company. The Lessee and its affiliates may operate hotels that are not owned by the Company, subject to certain restrictions, which may materially affect the amount of time that the Lessee has to devote to managing the Initial Hotels. See "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement." 15 Acquisition of Hotels with Limited Operating History The Newly-Developed Hotels have little operating history and the Newly-Renovated Hotels have been newly renovated. The purchase prices of such hotels are based upon projections by management as to the expected operating results of such hotels, subjecting the Company to risks that such hotels may not achieve anticipated operating results or may not achieve such results within anticipated time frames. As a result, the Lessee may not generate enough net operating income from such hotels to make the Initial Fixed Rent payments or, after the First Adjustment Date or the Second Adjustment Date, as applicable, to make the Base Rent payments. In addition, after the First Adjustment Date or Second Adjustment Date, as applicable, room revenues may be less than required to result in the payment of Percentage Rent at levels at a particular hotel that provide the Company with its anticipated return on investment. In either case, the amounts available for distribution to shareholders could be reduced. Need for Certain Consents from the Limited Partners Under the partnership agreement of the Partnership, as amended and restated (the "Partnership Agreement"), the holders of at least two-thirds of the interests in the Partnership, including the Company, which initially will own approximately only a 32% interest in the Partnership, must approve a sale of all or substantially all of the assets of the Partnership or a merger or consolidation of the Partnership, provided, however, that such approval shall no longer be required if the Company ever fails to pay a distribution of $.72 per share to the holders of the Priority Common Shares for any 12-month period. The Hersha Affiliates initially will own approximately a 68% interest in the Partnership and thus initially will effectively hold veto power over such extraordinary transactions, which could result in the disapproval of a transaction that would be beneficial to the shareholders of the Company. See "Partnership Agreement--Management." Risks Related to the Company's Initial Distribution Policy Based on the Company's estimated revenues and expenses for the twelve months ended September 30, 1998, the Company estimates that it will distribute 100% of its estimated cash available for distribution and that the holders of Subordinated Units will be entitled to receive an amount per Subordinated Unit less than the Priority Distribution paid to the holders of the Priority Common Shares. See "Distribution Policy." If actual cash available for distribution falls short of estimated cash available for distribution, the Company may not be able to maintain its proposed initial distribution rate. In addition, if the Company's actual cash available for distribution after the Priority Period does not increase above its estimated cash available for distribution, the Company will not be able to maintain its proposed initial distribution rate after the Priority Period. Distribution of substantially all of the Company's cash available for distribution will limit the funds available to the Company for capital expenditures to maintain its properties or to finance acquisitions of future hotels. Inability to Operate the Properties As a result of its status as a REIT, the Company will not be able to operate any hotels. The Company will be unable to make and implement strategic business decisions with respect to its properties, such as decisions with respect to the repositioning of a franchise, repositioning of food and beverage operations and other similar decisions, even if such decisions are in the best interests of a particular property. Accordingly, there can be no assurance that the Lessee will operate the Initial Hotels in a manner that is in the best interests of the Company. Dependence on the Lessee In order to generate revenues to enable it to make distributions to shareholders, the Company will rely on the Lessee to make Rent payments. The Lessee's obligations under the Percentage Leases, including the obligation to make Rent payments, are unsecured. Reductions in revenues from the Initial Hotels or in the net operating income of the Lessee may adversely affect the ability of the Lessee to make such Rent payments and thus the Company's ability to make anticipated distributions to its shareholders. Although failure on the part of the Lessee to comply materially with the terms of a Percentage Lease would give the Company the right to terminate any or all of the Percentage Leases, to repossess the applicable properties and to enforce the payment obligations under the Percentage Leases, the Company then would be required to find another lessee. There can be no assurance that the Company would be able to find another lessee or that, if another lessee were found, the Company would be able to enter into a lease on favorable terms. 16 Newly-Organized Entities The Company, the Partnership and the Lessee all have been recently organized and have no operating histories. Although the officers and Trustees of the Company have experience in developing, financing and operating hotels, most of them have no experience in operating a REIT or a public company. See "Management--Trustees and Officers." Limited Numbers of Initial Hotels The Company will own initially only ten hotels, three of which will be operated as Holiday Inn Express(R) hotels, two as Hampton Inn(R) hotels, two as Holiday Inn(R) hotels, two as a Comfort Inn(R) hotels and one as a Clarion Suites(R) hotel. Significant adverse changes in the operations of any Initial Hotel could have a material adverse effect on the Lessee's ability to make Rent payments and, accordingly, on the Company's ability to make expected distributions to its shareholders. Guarantors of Assumed Indebtedness Mr. Shah and the partners of the Combined Entities personally guarantee all of the indebtedness secured by the Initial Hotels, and the personal bankruptcy of any of the guarantors would constitute a default under the related loan documents, which default would cause the Assumed Indebtedness to become immediately due and payable. In the event that the lender accelerates the payment, such acceleration could adversely affect the Company's cash available for distribution. If the Company is unable to make such payment, the Company may be forced to sell the Initial Hotels that serve as collateral for such Assumed Indebtedness in order to make such payment. Substantial Dilution Purchasers of Priority Common Shares sold in the Offering will experience immediate and substantial dilution of $2.14, or 35.6% of the Offering Price, in the net tangible book value per Priority Common Share. See "Dilution." In addition, in the event that any of the purchase prices of the Newly-Renovated Hotels or the Newly-Developed Hotels are increased on the First Adjustment Date or the Second Adjustment Date, as applicable, owners of the Priority Common Shares at such time will experience further dilution. Tax Risks Failure to Qualify as a REIT The Company intends to operate so as to qualify as a REIT for federal income tax purposes. Although the Company has not requested, and does not expect to request, a ruling from the Service that it qualifies as a REIT, the Company has received an opinion of its counsel, Hunton & Williams, that, based on certain assumptions and representations, it will so qualify. Investors should be aware, however, that opinions of counsel are not binding on the Service or any court. The REIT qualification opinion only represents the view of counsel to the Company based on counsel's review and analysis of existing law, which includes no controlling precedent. Furthermore, both the validity of the opinion and the continued qualification of the Company as a REIT will depend on the Company's continuing ability to meet various requirements concerning, among other things, the ownership of its outstanding shares of beneficial interest, the nature of its assets, the sources of its income, and the amount of its distributions to its shareholders. See "Federal Income Tax Consequences--Taxation of the Company." If the Company were to fail to qualify as a REIT in any taxable year, the Company would not be allowed a deduction for distributions to its shareholders in computing its taxable income and would be subject to federal income tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates. Unless entitled to relief under certain Code provisions, the Company also would be disqualified from treatment as a REIT for the four taxable years following the year during which qualification was lost. As a result, amounts available for distribution to shareholders would be reduced for each of the years involved. Although the Company currently intends to operate in a manner designed to qualify as a REIT, it is possible that future economic, market, legal, tax or other considerations may cause the Trustees, with the consent of two-thirds of the shareholders, to revoke the REIT election. See "Federal Income Tax Consequences." 17 REIT Minimum Distribution Requirements In order to qualify as a REIT, the Company generally will be required each year to distribute to its shareholders at least 95% of its net taxable income (excluding any net capital gain). In addition, the Company will be subject to a 4% nondeductible excise tax on the amount, if any, by which certain distributions paid by it with respect to any calendar year are less than the sum of (i) 85% of its ordinary income for that year, (ii) 95% of its capital gain net income for that year, and (iii) 100% of its undistributed taxable income from prior years. To the extent that the Company elects to retain and pay income tax on its net long-term capital gains, such retained amounts will be treated as having been distributed for purposes of the 4% excise tax. The Company intends to make distributions to its shareholders to comply with the 95% distribution requirement and, except with respect to the Company's short taxable year ended December 31, 1998, to avoid the nondeductible excise tax. The Company's income will consist primarily of its share of the income of the Partnership, and the Company's cash available for distribution to shareholders will consist primarily of its share of cash distributions from the Partnership. Differences in timing between the recognition of taxable income and the receipt of amounts available for distribution due to the seasonality of the hotel industry could require the Company, through the Partnership, to borrow funds on a short-term basis to meet the 95% distribution requirement and to avoid the nondeductible excise tax. See "Risk Factors--Risk of Leverage." For federal income tax purposes, distributions paid to shareholders may consist of ordinary income, capital gains, nontaxable return of capital, or a combination thereof. The Company will provide its shareholders with an annual statement as to its designation of the taxability of distributions. Distributions by the Partnership will be determined by the Trustees and will be dependent on a number of factors, including the amount of the Partnership's distributable cash, the Partnership's financial condition, any decision by the Trustees to reinvest funds rather than to distribute such funds, the Partnership's capital expenditures, the annual distribution requirements under the REIT provisions of the Code and such other factors as the Trustees deem relevant. See "Federal Income Tax Consequences--Requirements for Qualification - Distribution Requirements." Potential Adverse Effects of Leverage and Lack of Limits on Indebtedness Upon completion of the Offering and the completion of the Formation Transactions, the Company will assume the Assumed Indebtedness (in the aggregate principal amount of approximately $17.4 million), which will be secured by some of the Initial Hotels. The Company may borrow additional amounts from the same or other lenders in the future, or may issue corporate debt securities in public or private offerings. Certain of such additional borrowings may be secured by the Hotels. See "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources" and "Policies and Objectives with Respect to Certain Activities--Financing." There can be no assurance that the Company will be able to meet its debt service obligations and, to the extent that it cannot, the Company risks the loss of some or all of its assets, including the Initial Hotels, to foreclosure. Although the Company's policy is to limit consolidated indebtedness to less than 67% of the total purchase prices paid by the Company for the hotels in which it has invested, there is no limit on the Company's ability to incur debt contained in the Declaration of Trust or Bylaws. The Assumed Indebtedness will represent approximately 37% of the total purchase prices paid by the Company for the Initial Hotels. The Assumed Indebtedness will limit the Company's ability to acquire additional hotels without issuing equity securities. See "--Growth Strategy--Competition for Acquisitions" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." The Price Being Paid for the Initial Hotels May Exceed Their Value No arm's-length negotiations were conducted and no independent appraisals were obtained in connection with the Formation Transactions. There can be no assurance that the price to be paid by the Company, which is approximately $47.3 million in the aggregate, will not exceed the fair market value of the Initial Hotels acquired by the Company. The initial valuation of the Company is based on a valuation of the Initial Hotels and the rent to be paid by the Lessee under the Percentage Leases. The Subordinated Units were allocated among the Hersha Affiliates based upon their respective interests in the Combined Entities. 18 Emphasis on Franchise Hotels The Company intends to place particular emphasis in its acquisition strategy on hotels similar to the Initial Hotels. The Company initially will own five hotels licensed under the Holiday Inn/Holiday Inn Express franchise brand and thus will be subject to risks inherent in concentrating investments in a particular franchise brand, which could have an adverse effect on the Company's lease revenues and amounts available for distribution to shareholders. These risks include, among others, the risk of a reduction in hotel revenues following any adverse publicity related to the franchise brand. See "Business and Properties--Franchise Licenses." Concentration of Investments in Pennsylvania All of the Initial Hotels are located in Pennsylvania. As a result, localized adverse events or conditions, such as an economic recession, could have a significant adverse effect on the operations of the Initial Hotels, and ultimately on the amounts available for distribution to shareholders. Hotel Industry Risks Operating Risks The Initial Hotels are subject to all operating risks common to the hotel industry. The hotel industry has experienced volatility in the past, as have the Initial Hotels, and there can be no assurance that such volatility will not occur in the future. These risks include, among other things, competition from other hotels; over-building in the hotel industry that could adversely affect hotel revenues; increases in operating costs due to inflation and other factors, which increases may not be offset by increased room rates; dependence on business and commercial travelers and tourism; strikes and other labor disturbances of hotel employees; increases in energy costs and other expenses of travel; and adverse effects of general and local economic conditions. These factors could reduce revenues of the Initial Hotels and adversely affect the Lessee's ability to make Rent payments, and therefore, the Company's ability to make distributions to its shareholders. Competition for Guests The hotel industry is highly competitive. The Initial Hotels will compete with other existing and new hotels in their geographic markets. Many of the Company's competitors have substantially greater marketing and financial resources than the Company and the Lessee. See "Business and Properties--Competition." Investment Concentration in Single Industry The Company's current growth strategy is to acquire hotels primarily in the upper-economy and mid-scale segments of the hotel industry. The Company will not seek to invest in assets selected to reduce the risks associated with an investment in that segment of the hotel industry, and, therefore, is subject to risks inherent in concentrating investments in a single industry and in specific market segments within that industry. The adverse effect on Rent under the Percentage Leases and amounts available for distribution to shareholders resulting from a downturn in the hotel industry in general or the upper-economy and mid-scale segments in particular would be more pronounced than if the Company had diversified its investments outside of the hotel industry or in additional hotel market segments. Seasonality of Hotel Business and the Initial Hotels The hotel industry is seasonal in nature. Generally, hotel revenues are greater in the second and third quarters than in the first and fourth quarters. The Initial Hotels' operations historically reflect this trend. The Company believes that it will be able to make its expected distributions during its initial year of operation through cash flow from operations. See "Distribution Policy" and "Management's Discussion and Analysis of Financial Condition and Result of Operations--Seasonality." 19 Risks of Operating Hotels under Franchise Licenses The continuation of the Franchise Licenses is subject to specified operating standards and other terms and conditions. Holiday Inn Express(R), Holiday Inn(R), Hampton Inn(R), and Choice Hotels International, Inc.(R) ("Choice Hotels"), the franchisor of Comfort Inns(R) and Clarion Suites(R), periodically inspect their licensed properties to confirm adherence to their operating standards. The failure of the Partnership or the Lessee to maintain such standards respecting the Initial Hotels or to adhere to such other terms and conditions could result in the loss or cancellation of the applicable Franchise License. It is possible that a franchisor could condition the continuation of a Franchise License on the completion of capital improvements which the Trustees determine are too expensive or otherwise not economically feasible in light of general economic conditions or the operating results or prospects of the affected Initial Hotel. In that event, the Trustees may elect to allow the Franchise License to lapse or be terminated. The franchisors have agreed to amend the existing Franchise Licenses to substitute the Lessee as the franchisee. There can be no assurance that a franchisor will renew a Franchise License at each option period. If a Franchise License is terminated, the Partnership and the Lessee may seek to obtain a suitable replacement franchise, or to operate the Initial Hotel independent of a Franchise License. The loss of a Franchise License could have a material adverse effect upon the operations or the underlying value of the related Initial Hotel because of the loss of associated name recognition, marketing support and centralized reservation systems provided by the franchisor. Although the Percentage Leases require the Lessee to maintain the Franchise Licenses for each Initial Hotel, the Lessee's loss of a Franchise License for one or more of the Initial Hotels could have a material adverse effect on the Partnership's revenues under the Percentage Leases and the Company's amounts available for distribution to shareholders. See "Business and Properties--Franchise Licenses." Operating Costs and Capital Expenditures; Hotel Renovation Hotels, including the Initial Hotels, generally have an ongoing need for renovations and other capital improvements, particularly in older structures, including periodic replacement of furniture, fixtures and equipment. Under the terms of the Percentage Leases, the Partnership is obligated to pay the cost of expenditures for items that are classified as capital items under generally accepted accounting principles that are necessary for the continued operation of the Initial Hotels. If these expenses exceed the Company's estimate, the additional cost could have an adverse effect on amounts available for distribution to shareholders. In addition, the Company may acquire hotels in the future that require significant renovation. Renovation of hotels involves certain risks, including the possibility of environmental problems, construction cost overruns and delays, uncertainties as to market demand or deterioration in market demand after commencement of renovation and the emergence of unanticipated competition from hotels. See "Business and the Properties--The Percentage Leases." Real Estate Investment Risks General Risks of Investing in Real Estate The Initial Hotels will be subject to varying degrees of risk generally incident to the ownership of real property. The underlying value of the Initial Hotels and the Company's income and ability to make distributions to its shareholders are dependent upon the ability of the Lessee to operate the Initial Hotels in a manner sufficient to maintain or increase revenues in excess of operating expenses to enable the Lessee to make Rent payments. Hotel revenues may be adversely affected by adverse changes in national economic conditions, adverse changes in local market conditions due to changes in general or local economic conditions and neighborhood characteristics, competition from other hotels, changes in interest rates and in the availability, cost and terms of mortgage funds, the impact of present or future environmental legislation and compliance with environmental laws, the ongoing need for capital improvements, particularly in older structures, changes in real estate tax rates and other operating expenses, adverse changes in governmental rules and fiscal policies, civil unrest, acts of God, including earthquakes, hurricanes and other natural disasters (which may result in uninsured losses), acts of war, adverse changes in zoning laws, and other factors that are beyond the control of the Company. Illiquidity of Real Estate Real estate investments are relatively illiquid. The ability of the Company to vary its portfolio in response to changes in economic and other conditions will be limited. No assurances can be given that the fair market value of any of the Initial Hotels will not decrease in the future. 20 Uninsured and Underinsured Losses Each Percentage Lease specifies comprehensive insurance to be maintained on each of the Initial Hotels, including liability and fire and extended coverage in amounts sufficient to permit the replacement of the Initial Hotels in the event of a total loss, subject to applicable deductibles. Management of the Company believes that such specified coverage is of the type and amount customarily obtained by owners of hotels similar to the Initial Hotels. Percentage Leases for hotels subsequently acquired by the Company will contain similar provisions. However, there are certain types of losses, generally of a catastrophic nature, such as earthquakes, floods and hurricanes, that may be uninsurable or not economically insurable. Inflation, changes in building codes and ordinances, environmental considerations, and other factors also might make it infeasible to use insurance proceeds to replace the applicable hotel after such applicable hotel has been damaged or destroyed. Under such circumstances, the insurance proceeds received by the Company might not be adequate to restore its economic position with respect to the applicable hotel. Property Taxes Each Initial Hotel is subject to real and personal property taxes. The real and personal property taxes on hotel properties in which the Company invests may increase or decrease as property tax rates change and as the properties are assessed or reassessed by taxing authorities. If property taxes increase, the Company's ability to make expected distributions to its shareholders could be adversely affected. Environmental Matters Operating costs may be affected by the obligation to pay for the cost of complying with existing environmental laws, ordinances and regulations, as well as the cost of future legislation. Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real property may be liable for the costs of removal or remediation of hazardous or toxic substances on, under or in such property. Such laws often impose liability whether or not the owner or operator knew of, or was responsible for, the presence of such hazardous or toxic substances. The cost of complying with environmental laws could materially adversely affect amounts available for distribution to shareholders. Recent Phase I environmental assessments have been obtained on all of the Initial Hotels. The purpose of Phase I environmental assessments is to identify potential environmental contamination that is made apparent from historical reviews of the Initial Hotels, reviews of certain public records, preliminary investigations of the sites and surrounding properties, and screening for the presence of hazardous substances, toxic substances and underground storage tanks. The Phase I environmental assessment reports have not revealed any environmental contamination that the Company believes would have a material adverse effect on the Company's business, assets, results of operations or liquidity, nor is the Company aware of any such liability. Nevertheless, it is possible that these reports do not reveal all environmental liabilities or that there are material environmental liabilities of which the Company is unaware. Compliance with Americans with Disabilities Act and other Changes in Governmental Rules and Regulations Under the Americans with Disabilities Act of 1993 (the "ADA"), all public accommodations are required to meet certain federal requirements related to access and use by disabled persons. While the Company believes that the Initial Hotels are substantially in compliance with these requirements, a determination that the Company is not in compliance with the ADA could result in imposition of fines or an award of damages to private litigants. In addition, changes in governmental rules and regulations or enforcement policies affecting the use and operation of the Hotels, including changes to building codes and fire and life-safety codes, may occur. If the Company were required to make substantial modifications at the Initial Hotels to comply with the ADA or other changes in governmental rules and regulations, the Company's ability to make expected distributions to its shareholders could be adversely affected. Market for Priority Common Shares Prior to the Offering, there has been no public market for the Priority Common Shares. The Priority Common Shares have been approved for listing, subject to final notice of issuance, on The American Stock Exchange. The Offering Price may not be indicative of the market price for the Priority Common Shares after the Offering. There can be no assurance that an active public market for the Priority Common Shares will develop or continue after the Offering. See "Underwriting" for a discussion of factors to be considered in establishing the 21 Offering Price. If accepted for listing, there can be no assurances that the Company will continue to meet the criteria for continued listing of the Priority Common Shares on The American Stock Exchange. Effect of Market Interest Rates on Price of Priority Common Shares One of the factors that may influence the price of the Priority Common Shares in public trading markets will be the annual yield from distributions by the Company on the Priority Common Shares as compared to yields on other financial instruments. Thus, an increase in market interest rates will result in higher yields on other financial instruments, which could adversely affect the market price of the Priority Common Shares. Anti-takeover Effect of Ownership Limit, Limited Partner Consents, Staggered Board, Power to Issue Additional Shares and Certain Provisions of Maryland Law Ownership Limitation The Declaration of Trust generally prohibits direct or indirect ownership of more than 9.9% of the number of outstanding shares of any class of securities of the Company, including the Priority Common Shares, by any person (the "Ownership Limitation"). Generally, Priority Common Shares owned by affiliated owners will be aggregated for purposes of the Ownership Limitation. The Ownership Limitation could have the effect of delaying, deferring or preventing a change in control or other transaction in which holders of some, or a majority, of Priority Common Shares might receive a premium for their Priority Common Shares over the then prevailing market price or which such holders might believe to be otherwise in their best interests. See "Description of Shares of Beneficial Interest - Restrictions on Transfer" and "Federal Income Tax Consequences--Requirements for Qualification." Limited Partner Consents The holders of at least two-thirds of the interests in the Partnership, including the Company, which initially will own approximately only a 32% interest in the Partnership, must approve, subject to certain conditions, a sale of all or substantially all of the assets of the Partnership or a merger or consolidation of the Partnership, which could result in the disapproval of a transaction that would be beneficial to the shareholders of the Company. See "--Need for Certain Consents from the Limited Partners." Staggered Board The Company's Board of Trustees is divided into two classes. The initial terms of the first and second classes will expire in 1999 and 2000, respectively. Beginning at the annual meeting of shareholders in 1999, Trustees of each class will be chosen for two-year terms upon the expiration of their current terms and each year one class of Trustees will be elected by the shareholders. The staggered terms of Trustees may delay, defer or prevent a tender offer, a change in control of the Company or other transaction, even though such a transaction might be in the best interest of the shareholders. See "Certain Provisions of Maryland Law and of the Company's Declaration of Trust and Bylaws--Classification of the Board of Trustees." Issuance of Additional Shares The Company's Declaration of Trust authorizes the Board of Trustees, without shareholder approval, to (i) amend the Declaration of Trust to increase or decrease the aggregate number of shares of beneficial interest or the number of shares of beneficial interest of any class that the Company has the authority to issue, (ii) cause the Company to issue additional authorized but unissued Priority Common, Class B Common or Preferred Shares and (iii) classify or reclassify any unissued Common or Preferred Shares and to set the preferences, rights and other terms of such classified or reclassified shares, including the issuance of additional Priority Common Shares or preferred shares that have preference rights over the Priority Common Shares with respect to dividends, liquidation, voting and other matters. See "Description of Shares of Beneficial Interest--Preferred Shares." Future equity offerings may cause the purchasers of the Priority Common Shares sold in the Offering to experience further dilution. The Company has no current plans for future equity offerings. Although the Board of Trustees has no such intention at the present time, it could establish a series of Preferred Shares that could, depending on the terms of such series, delay, defer or prevent a transaction or a change in control of the Company that might involve a premium price for the Priority Common Shares or otherwise be in the best interest of the shareholders. The Declaration of Trust and Bylaws of the Company also contain other provisions that may have the effect of delaying, deferring or preventing a transaction or a change in control of the Company that might involve a premium price 22 for the Priority Common Shares or otherwise be in the best interest of the shareholders. See "Certain Provisions of Maryland Law and of the Company's Declaration of Trust and Bylaws--Removal of Trustees," "--Control Share Acquisitions" and "--Advance Notice of Trustees Nominations and New Business." Maryland Business Combination Law Under the Maryland General Corporation Law, as amended ("MGCL"), as applicable to real estate investment trusts, certain "business combinations" (including certain issuances of equity securities) between a Maryland real estate investment trust and any person who beneficially owns ten percent or more of the voting power of the trust's shares (an "Interested Shareholder") or an affiliate thereof are prohibited for five years after the most recent date on which the Interested Shareholder becomes an Interested Shareholder. Thereafter, any such business combination must be approved by two super-majority shareholder votes unless, among other conditions, the trust's common shareholders receive a minimum price (as defined in the MGCL) for their shares and the consideration is received in cash or in the same form as previously paid by the Interested Shareholder for its common shares. See "Certain Provisions of Maryland Law and the Company's Declaration of Trust and Bylaws--Business Combinations." Dependence Upon External Financing The Company anticipates that its growth and acquisition strategies will be largely financed through externally generated funds such as borrowings under the Line of Credit and other secured and unsecured debt financing and from issuance of equity securities. Because the Company must distribute 95% of its taxable income to maintain its qualification as a REIT, the Company's ability to rely upon income from operations or cash flow from operations to finance its growth and acquisition activities will be limited. Accordingly, were the Company unable to obtain the Line of Credit or other funds from borrowings or to access the capital markets to finance its growth and acquisition activities, the Company's ability to grow could be curtailed, cash available for distribution to shareholders of the Company could be adversely affected and the Company could be required to reduce distributions. Assumption of Contingent Liabilities of Combined Entities Because the Partnership is acquiring partnership interests in certain of the Combined Entities, the Partnership will assume all contingent liabilities of those Combined Entities. Certain of the Hersha Affiliates are managing partners of the Combined Entities and have made representations and warranties that the Combined Entities have no liabilities, debts or obligations except for liabilities arising under operating agreements, equipment leases, loan agreements or proration credits on the Closing Date. There is, however, a risk that unforeseen liabilities could exist and could adversely affect amounts available for distribution to shareholders. Possible Increase in Ground Lease Payments for Comfort Inn, Denver, Pennsylvania The Company will lease the land under the Comfort Inn, Denver, Pennsylvania from Hasu P. Shah and Bharat C. Mehta for $6,000 per year for 99 years. Messrs. Shah and Mehta have pledged their interests in the land to a lender to secure a loan from the lender. Pursuant to the terms of the loan agreement, in the event of a default on the loan, the ground lease with the Company will not terminate, but the lender has the option to adjust the payments to fair rental value at the time of the loan default based on a third-party appraisal. Accordingly, in the event of a default by Messrs. Shah and Mehta on the loan that is secured by the land, the Company's rental obligations under the ground lease may increase. Year 2000 Risks Many computer systems were designed using only two digits to designate years. These systems may not be able to distinguish the year 2000 from the year 1900 (commonly known as the "Year 2000 Problem"). There can be no assurance that the computer systems and operations of the Company or its third party vendors or other service providers will be Year 2000 compliant. The failure of the Company or its third party vendors or other services providers to have Year 2000 compliant systems could have a material adverse effect on the Company and its operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operation--Year 2000 Compliance." 23 Ability of Board of Trustees to Change Certain Policies The major policies of the Company, including its policies with respect to acquisitions, financing, growth, operations, debt limitation and distributions, will be determined by the Trustees. The Trustees may amend or revise these and other policies from time to time without a vote of the holders of the Priority Common Shares. Although three of the Trustees are required to be Independent Trustees, a majority of the initial Board of Trustees will not be Independent Trustees and thus such policies may be changed by the non-Independent Trustees. The effect of any such changes may be positive or negative. Under the Declaration of Trust, the Company cannot change its policy of seeking to maintain its qualification as a REIT without the approval of the holders of two-thirds of the outstanding Priority Common Shares. See "Policies and Objectives with Respect to Certain Activities" and "Certain Provisions of Maryland Law and the Company's Declaration of Trust and Bylaws." Growth Strategy Competition for Acquisitions There will be competition for investment opportunities in upper-economy and mid-scale hotels from entities organized for purposes substantially similar to the Company's objectives, as well as other purchasers of hotels. The Company will be competing for such investment opportunities with entities that have substantially greater financial resources than the Company, including access to capital or better relationships with franchisors, sellers or lenders. The Company's policy is to limit consolidated indebtedness to less than 67% of the total purchase prices paid by the Company for the hotels in which it has invested. See "Risk Factors--The Price Being Paid for the Initial Hotels May Exceed Their Value." Because of the amount of the Assumed Indebtedness, the success of the Company's acquisition strategy will depend primarily on its ability to access additional capital through issuances of equity securities. The Company's competitors may generally be able to accept more risk than the Company can manage prudently and may be able to borrow the funds needed to acquire hotels. Competition may generally reduce the number of suitable investment opportunities offered to the Company and increase the bargaining power of property owners seeking to sell. See "Business and Properties--Competition." Acquisition Risks The Company intends to pursue acquisitions of additional hotel properties. Acquisitions entail risks that investments will fail to perform in accordance with expectations and that estimates of the cost of improvements necessary to market and acquire properties will prove inaccurate, as well as general investment risks associated with any new real estate investment. The Company anticipates that its growth and acquisition strategies will be largely financed through externally generated funds such as borrowings under credit facilities and other secured and unsecured debt financing and from issuance of equity securities. Because the Company must distribute 95% of its taxable income to maintain its qualification as a REIT, the Company's ability to rely upon income from operations or cash flow from operations to finance its growth and acquisition activities will be limited. Accordingly, were the Company unable to obtain funds from borrowings or the capital markets to finance its growth and acquisition activities, the Company's ability to grow could be curtailed, amounts available for distribution to shareholders could be adversely affected and the Company could be required to reduce distributions. Reliance on Trustees and Management Common shareholders have no right or power to take part in the management of the Company except through the exercise of voting rights on certain specified matters. See "Description of Shares of Beneficial Interest--Common Shares" and "Certain Provisions of Maryland Law and of the Company's Declaration of Trust and Bylaws." The Trustees will be responsible for managing the Company. The Company will rely upon the services and expertise of its Trustees for strategic business direction. In addition, there may be conflicting demands on Mr. Shah caused by his overlapping management of the Company and Hersha Enterprises Ltd. Hersha Enterprises Ltd. owns and operates properties other than the Initial Hotels, and Mr. Shah, who serves as Chairman of the Board and Chief Executive Officer of the Company and President of Hersha Enterprises, Ltd., may experience a conflict in allocating his time between such entities. 24 Possible Adverse Effect of Shares Available for Future Sale on Price of Priority Common Shares After termination of the Priority Period, the Class B Common Shares will automatically be converted into Priority Common Shares on a one-for-one basis. Sales of a substantial number of Priority or Class B Common Shares, or the perception that such sales could occur, could adversely affect prevailing market prices of the Priority Common Shares. In the Formation Transactions, approximately 4 million Subordinated Units will be issued to the Hersha Affiliates in addition to the Priority Common Shares offered by the Company in the Offering. See "Formation Transactions." In general, one year after the closing of the Offering, the Subordinated Units will be redeemable for cash or, at the option of the Company, Class B Common Shares. In the event the Class B Common Shares are converted into Priority Common Shares prior to redemption of the Subordinated Units, such outstanding Subordinated Units will become redeemable for Priority Common Shares. See "Shares Available for Future Sale" and "Underwriting." At the conclusion of such periods and upon the subsequent redemption of Units, the Class B Common Shares or Priority Common Shares received therefor may be sold in the public market pursuant to shelf registration statements that the Company is obligated to file on behalf of limited partners of the Partnership, or pursuant to any available exemptions from registration. THE COMPANY The Company has been established to own initially the ten Initial Hotels and to continue the hotel acquisition and development strategies of Hasu P. Shah, Chairman of the Board of Trustees and Chief Executive Officer of the Company. The Company, formed in May 1998, is a self-advised Maryland real estate investment trust that intends to qualify as a REIT for federal income tax purposes. The Initial Hotels include three Holiday Inn Express(R) hotels, two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels and one Clarion Suites(R) hotel. The Initial Hotels are located in Pennsylvania and contain an aggregate of 989 rooms. The Newly-Developed Hotels are newly constructed and therefore have limited operating history. The Newly-Renovated Hotels have been newly renovated and, as a result, the Company believes that such hotels' future performance will improve significantly over such hotels' prior operating histories. The Company will contribute substantially all of the net proceeds from the Offering to the Partnership in exchange for approximately a 32% partnership interest in the Partnership. The Company will be the sole general partner of the Partnership. Shortly after the closing of the Offering, the Partnership will acquire, directly or through the partnerships that currently own the hotels, 100% of the equity interests in the Initial Hotels. Mr. Shah and the Hersha Affiliates own the Combined Entities. Ownership of the land underlying two of the Initial Hotels will be retained by certain Hersha Affiliates and will be leased to the Partnership pursuant to separate ground leases, each with a 99-year term, and collectively providing for rent of $21,000 per year. See "Certain Relationships and Transactions." The Partnership will acquire the Initial Hotels in exchange for (i) Subordinated Units that will be redeemable, subject to certain limitations, for an aggregate of approximately 4 million Class B Common Shares, with a value of approximately $23.8 million based on the Offering Price, and (ii) the assumption of approximately $23.8 million of indebtedness related to the Initial Hotels, including the Assumed Indebtedness and approximately $6.4 million that will be repaid immediately after the acquisition of the Initial Hotels. See "Formation Transactions." The purchase prices of the Newly-Renovated Hotels will be adjusted on the First Adjustment Date. The purchase prices of the Newly-Developed Hotels will be adjusted on the Second Adjustment Date. The adjustments will be calculated by applying the initial pricing methodology to such hotels' cash flows as shown on the Company's and the Lessee's audited financial statements for the year ended on the First Adjustment Date or the Second Adjustment Date, as applicable, and the adjustments must be approved by a majority of the Independent Trustees. If the repricing produces a higher aggregate value for such hotels, the Hersha Affiliates will receive an additional number of Subordinated Units that, when multiplied by the Offering Price, equals the increase in value plus the value of any distributions that would have been made with respect to such Subordinated Units if such Subordinated Units had been issued at the time of the acquisition of such hotels. If, however, the repricing produces a lower aggregate value for such hotels, the Hersha Affiliates will forfeit to the Partnership that number of Subordinated Units that, when multiplied by the Offering Price, equals the decrease in value plus the value of any distributions made with respect to such Subordinated Units. In order for the Company to qualify as a REIT, neither the Company nor the Partnership may operate hotels. Therefore, the Initial Hotels will be leased to the Lessee pursuant to the Percentage Leases. Each Percentage Lease has been structured to provide anticipated rents at least equal to 12% of the purchase price paid 25 for the hotel, net of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% (6% for the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross revenues per quarter at the hotel. This pro forma return is based on certain assumptions and historical revenues for the Initial Hotels (including projected revenues for the Newly-Developed Hotels and the Newly-Renovated Hotels) and no assurance can be given that future revenues for the Initial Hotels will be consistent with prior performance or the estimates. See "Risk Factors--Acquisition of Hotels with Limited Operating History." Until the First Adjustment Date or the Second Adjustment Date, as applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated Hotels will be the Initial Fixed Rents applicable to those hotels. After the First Adjustment Date or the Second Adjustment Date, as applicable, rent will be computed with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels based on the percentage rent formulas described herein. The Initial Hotels will be operated by the Lessee. The Percentage Leases will have initial terms of five years and may be extended for two additional five-year terms at the option of the Lessee. See "Business and Properties--The Percentage Leases." The following table sets forth certain information with respect to the Initial Hotels:
Twelve Months Ended December 31, 1997 ----------------------------------------------------------------------- Average Number of Room Other Daily Initial Hotels Rooms Revenue Revenue(1) Occupancy Rate REVPAR(2) - -------------- --------- ------- ---------- --------- ------- --------- Newly-Developed Holiday Inn Express Hershey, PA(3)........................ 85 210,612 $4,877 38.8% $75.62 $29.35 New Columbia, PA(4)................... 81 13,369 $253 9.0% $59.68 $5.39 Hampton Inn: Carlisle, PA(5)....................... 95 659,861 8,421 53.5% $65.33 $34.93 Comfort Inn: Harrisburg, PA(6)..................... 81 Newly-Renovated Holiday Inn Express: Harrisburg, PA(7)..................... 117 1,357,241 176,868 56.4% $56.33 $31.78 Holiday Inn: Milesburg, PA.......................... 118 1,254,070 220,684 52.0% $56.07 $29.13 Comfort Inn: Denver, PA (8)......................... 45 658,285 0 54.7% $73.26 $40.08 Stabilized Holiday Inn Hotel and Conference Center: Harrisburg, PA......................... 196 3,103,820 1,787,958 63.3% $68.22 $43.17 Hampton Inn: Selinsgrove, PA (9).................... 75 1,271,943 46,148 71.9% $65.29 $46.96 Clarion Suites: Philadelphia, PA....................... 96 2,350,702 319,950 73.7% $91.02 $67.09 --- ---------- --------- -------- -------- ------ Total/weighted average.................. 989 $10,879,903 $2,565,159 60.2% $68.27 $41.09 === =========== ========== ======== ======== ======
- ------------------------- (1) Represents restaurant revenue, telephone revenue and other revenue. (2) REVPAR is determined by dividing room revenue by available rooms for the applicable period. (3) This hotel opened in October 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. (4) This hotel opened in December 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. (5) This hotel opened in June 1997 and, thus, the data shown represent operations from the date of opening through December 31, 1997. 26 (6) This hotel opened in May 1998. (7) The land underlying this hotel will be leased to the Partnership by certain Hersha Affiliates for rent of $15,000 per year for 99 years. (8) The land underlying this hotel will be leased to the Partnership by certain Hersha Affiliates for rent of $6,000 per year for 99 years. (9) A portion of the land adjacent to this hotel, which is not currently used for hotel operations, will be leased to a Hersha Affiliate for $1 per year for 99 years. For further information regarding the Initial Hotels, see "Business and Properties - The Initial Hotels" and " -The Percentage Leases." GROWTH STRATEGY The Company will seek to enhance shareholder value by increasing amounts available for distribution to shareholders by (i) acquiring additional hotels that meet the Company's investment criteria as described below and (ii) participating in any increased revenue from the Initial Hotels through the Percentage Leases. Acquisition Strategy The Company will emphasize limited service and full service hotels with strong, national franchise affiliations in the upper-economy and mid-scale market segments, or hotels with the potential to obtain such franchises. In particular, the Company will consider acquiring limited service hotels such as Comfort Inn(R), Best Western(R), Days Inn(R), Fairfield Inn(R), Hampton Inn(R), Holiday Inn(R) and Holiday Inn Express(R) hotels, and limited service extended-stay hotels such as Hampton Inn and Suites(R), Homewood Suites(R), Main Stay Suites(R) and Residence Inn by Marriott(R) hotels. Under the Bylaws, any transaction involving the Company, including the purchase, sale, lease or mortgage of any real estate asset, in which a Trustee or officer of the Company, or any Affiliate thereof, has an interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company) must be approved by a majority of the Trustees, including a majority of the Independent Trustees. Investment Criteria The Company intends to focus predominantly on investments in hotels in the eastern United States. Such investments may include hotels newly developed by certain of the Hersha Affiliates. Pursuant to the Option Agreement, the Partnership will have an option to acquire any hotels owned or developed in the future by the Hersha Affiliates within 15 miles of any of the Initial Hotels or any hotel subsequently acquired by the Partnership for two years after acquisition or development. See "Certain Relationships and Transactions--Option Agreement." The Company's initial policy with respect to acquisitions of hotels (the "Acquisition Policy") is to acquire hotels for which it expects to receive rents at least equal to 12% of the purchase price paid for each hotel, net of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% (6% in the case of full-service hotels) of annual gross revenues at each hotel. The Trustees, however, may change the Acquisition Policy at any time without the approval of the Company's shareholders. The Company expects to acquire hotels that meet one or more of the following criteria: o nationally-franchised hotels in locations with a relatively high demand for rooms, with a relatively low supply of competing hotels and with significant barriers to entry into the hotel business, such as a scarcity of suitable hotel sites or zoning restrictions; o poorly managed hotels, which could benefit from new management, new marketing strategy and association with a national franchisor; o hotels in a deteriorated physical condition that could benefit significantly from renovations; and o hotels in attractive locations that the Company believes could benefit significantly by changing franchises to a brand the Company believes is superior. The Company intends to lease hotels that it acquires in the future to operators, including the Lessee as well as operators unaffiliated with the Lessee. Future leases with the Lessee generally will be similar to the 27 Percentage Leases. See "Business and Properties --The Percentage Leases." Future leases with operators unaffiliated with the Lessee may or may not be similar to the Percentage Leases. The Trustees will negotiate the terms and provisions of each future lease, depending on the purchase price paid, economic conditions and other factors deemed relevant at the time. Financing The Company's additional investments in hotels may be financed, in whole or in part, with undistributed cash, subsequent issuances of Priority Common Shares or other securities, or borrowings. The Company is currently pursuing with lenders the Line of Credit. A failure to obtain the Line of Credit could adversely affect the Company's ability to finance its growth strategy. See "Risk Factors--Dependence Upon External Financing." The Company's Debt Policy is to limit consolidated indebtedness to less than 67% of the aggregate purchase prices paid by the Company for the hotels in which it has invested. The Trustees, however, may change the Debt Policy without the approval of the Company's shareholders. The aggregate purchase prices paid by the Company for the Initial Hotels is approximately $47.3 million. After the Formation Transactions, the Company's indebtedness will be approximately $17.4 million (consisting of the Assumed Indebtedness), which represents approximately 37% of the aggregate purchase price to be paid by the Company for the Initial Hotels. Because of the Debt Policy and the amount of the Assumed Indebtedness, the success of the Company's acquisition strategy will depend primarily on its ability to access additional capital through issuances of equity securities. See "Risk Factors--Risks of Leverage" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." Internal Growth Strategy The Percentage Leases are designed to allow the Company to participate in growth in revenues at the Initial Hotels. See "Business and Properties--The Percentage Leases." The Percentage Leases generally provide for the Lessee to pay in each calendar quarter the greater of Base Rent or Percentage Rent. The Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room revenues up to the Threshold, (ii) a percentage of room revenues in excess of the Threshold but not more than the Incentive Threshold, (iii) a percentage of room revenues in excess of the Incentive Threshold and (iv) a percentage of revenues other than room revenues. The Incentive Threshold is designed to provide incentive to the Lessee to generate higher revenues at each hotel by lowering the percentage of revenue paid as Percentage Rent once room revenues reach certain levels. In the case of the Newly-Developed Hotels and the Newly-Renovated Hotels, the Lessee will pay the Initial Fixed Rent until the First Adjustment Date or the Second Adjustment Date, as applicable, after which the Lessee will pay the greater of Base Rent or Percentage Rent. See "Business and Properties--The Initial Hotels" and "--The Percentage Leases-- Amounts Payable Under the Percentage Leases." 28 USE OF PROCEEDS The net proceeds to the Company from the sale of 1,833,334 Priority Common Shares to the Underwriter are estimated to be approximately $9.5 million (based on the Offering Price), after deducting underwriting discounts and estimated offering expenses of approximately $1.5 million. The Company will contribute the net proceeds of the Offering to the Partnership in exchange for approximately a 32% interest in the Partnership. The Partnership will use the net proceeds as follows: (i) approximately $6.4 million to repay certain of the outstanding indebtedness related to the Initial Hotels, including approximately $4 million in debt owed to certain Hersha Affiliates and related principally to the hotel development expenses in connection with the Initial Hotels , (ii) approximately $0.7 million for costs associated with the acquisition of the Initial Hotels and (iii) approximately $2.4 million for working capital purposes. In addition, the Company will offer 166,666 Priority Common Shares to the Hersha Affiliates at the Offering Price and no selling commission will be payable to the Underwriter with respect to such shares. The information contained herein assumes that none of the 166,666 Priority Common Shares are sold. While the Company has the option to purchase certain hotels under the Option Agreement, the Company currently has no agreement or understanding to invest in any specific hotel other than the Initial Hotels. See "Certain Relationships and Related Transactions--Option Agreement." Pending the use of proceeds referenced above, the net proceeds will be invested in interest-bearing, short-term, investment grade securities or money market accounts, which are consistent with the Company's intention to qualify as a REIT. Such investments may include, for example, government and government agency securities, certificates of deposit, interest-bearing bank deposits and mortgage loan participations. The indebtedness to be repaid with the net proceeds of the Offering includes debt secured by some of the Initial Hotels as follows (in thousands):
Mortgages payable secured by Annual the following Initial Hotels: Amount(1) Maturity Date Interest Rate Holiday Inn, Milesburg, PA $ 860 1999 8.00% Clarion Suites, Philadelphia, PA $1,540 2002/2010 9.50% Amounts Due to Hersha Affiliates (2) $3,982 (3) 9.00% ------- Total $6,382 ======
- -------------- (1) Based on balances at September 30, 1998. (2) Loans advanced by the Hersha Affiliates principally to fund hotel development expenses in connection with the Initial Hotels. (3) Payable on demand. 29 DISTRIBUTION POLICY After the Offering, the Company intends to make regular quarterly distributions to holders of the Priority Common Shares initially equal to $0.18 per share, which on an annualized basis would be equal to $0.72 per share or 12.0% of the Offering Price. The first distribution will cover the period from the closing of the Offering to March 31, 1999. The Company does not expect to change its estimated initial distribution per Priority Common Share if the Underwriter's over-allotment option is exercised. Distributions made by the Company will be determined by the Trustees and will depend on a number of factors, including the amount of funds from operations, the Partnership's financial condition, capital expenditure requirements for the Company's hotels, the annual distribution requirements under the REIT provisions of the Code and such other factors as the Trustees deem relevant. The Company's ability to make distributions will be dependent on the receipt of distributions from the Partnership and lease payments from the Lessee with respect to the Initial Hotels. Initially, the Partnership's sole source of revenue will be rent payments under the Percentage Leases for the Initial Hotels. The Company must rely on the Lessee to generate sufficient cash flow from the operation of the Initial Hotels to meet the Lessee's rent obligations under the Percentage Leases. During the Priority Period, the holders of the Priority Common Shares will be entitled to receive, prior to any distributions either to the holders of the Subordinated Units or to the holders of the Class B Common Shares, the Priority Distribution (i.e., cumulative dividends in an amount per Priority Common Share equal to $0.18 per quarter). After the holders of the Priority Common Shares have received the Priority Distribution, the holders of the Subordinated Units and the Class B Common Shares will be entitled to receive an amount per Subordinated Unit or per Class B Common Share equal to the Priority Distribution paid to the holders of the Priority Common Shares. Thereafter, the holders of the Priority Common Shares will be entitled to receive any further distributions on a pro rata basis with the holders of the Subordinated Units and the Class B Common Shares. As of the closing of the Offering, no Class B Common Shares will be outstanding. Thus, the Priority Common Shares initially will have Priority Rights only with respect to the outstanding Subordinated Units. In the future, the Company may issue additional Priority Common Shares, and the Partnership may issue Units that are not subordinated to the Priority Common Shares. See "Description of Shares of Beneficial Interest" and "Partnership Agreement." The hotel business is seasonal in nature and, therefore, revenues of the Initial Hotels in the first and fourth quarters are traditionally lower than those in the second and third quarters. The Company believes that it will be able to make its expected distributions for the first and fourth quarters of its initial year of operation by drawing on the Line of Credit to fund any shortfalls between cash available for distribution to common shareholders for those quarters and the expected quarterly distributions for those quarters. See "Risk Factors--Risk of Leverage" and "--Dependence Upon External Financing." Thereafter, the Company expects to use excess cash flow from the second and third quarters to fund any such shortfalls in the first and fourth quarters. There are no assurances that cash available for distribution to the common shareholders will be sufficient for the Company to make expected distributions to common shareholders. Based on the Company's estimated revenues and expenses for the twelve months ended September 30, 1998, the Company estimates that 16% of the estimated initial annual distribution to the holders of Priority Common Shares will represent a return of capital for federal income tax purposes. If actual funds from operations or taxable income vary from the estimated amounts, the percentage of distributions that will represent a return of capital may vary substantially. For a discussion of the tax treatment of distributions to the holders of Priority Common Shares, see "Federal Income Tax Consequences." In order to qualify to be taxed as a REIT, the Company must make annual distributions to shareholders of at least 95% of its REIT taxable income (determined by excluding any net capital gain). Under certain circumstances, the Company may be required to make distributions in excess of cash available for distribution in order to meet such distribution requirements. In such a case, the Company may find it necessary to arrange for short-term (or possibly long-term) borrowings, to sell assets or to raise funds through the issuance of additional shares of beneficial interest. The following table describes the Company's calculation of estimated cash available for distribution and estimated initial distributions to holders of the Priority Common Shares for the twelve months ended September 30, 1998. The Company's calculation of estimated cash available for distribution is being made solely for the purpose of calculating the expected initial distribution to the Priority Common Shares and is not intended to be a projection or forecast of the Company's results of operations or its liquidity, nor is the methodology upon which such computations were made necessarily intended to be a basis for determining future distributions. 30
Twelve Months Ended September 30, 1998 (In thousands) Estimated lease revenue (1).............................................................. 7,175 Estimated depreciation and amortization (2).............................................. 2,081 Estimated interest expense (3)........................................................... 1,501 Estimated real estate and personal property taxes and property and casualty insurance (4)................................... 605 Estimated general and administrative (5)................................................. 335 Estimated ground lease (6)............................................................... 21 ----- Total estimated expenses................................................................. 4,543 Estimated net income before minority interest........................................................................ 2,632 Estimated minority interest (7).......................................................... (1,520) ------- Estimated net income applicable to holders of Priority Common Shares............................................... 1,112 Add: Estimated depreciation and amortization, net of minority interest (8).............. 658 -------- Estimated funds from operations applicable to holders of Priority Common Shares (9) .......................................... 1,770 Estimated cash provided by operating activities applicable to holders of Priority Common Shares (10).......................................... 1,770 Subtract: Estimated cash used in investing activities: Estimated additions to capital expenditure reserves, net of minority interest (11)................................................... 268 Subtract: Estimated cash used in financing activities: Estimated principal payments on debt, net of minority interest (12).......................................................... 182 ------- Estimated cash available for distribution to holders of Priority Common Shares........... 1,320 Estimated cash available for distribution to holders of Subordinated Units (13).......... 1,971 Estimated initial distribution (14)...................................................... 1,320 Estimated dividend yield based on Offering Price (15).................................... 12%
- ------------------------- (1) Estimated lease revenue is based on an agreement between the Partnership and the Lessee in which the parties have agreed to the lease terms and the form of lease to be signed at the closing of the Offering. Estimated lease revenue is calculated under one of two methods depending upon whether the Initial Hotel is a Stabilized Hotel with an established operating history or a Newly-Developed or a Newly-Renovated Hotel. Because the Lessee is required to pay Initial Fixed Rents on the Newly-Developed Hotels and the Newly-Renovated Hotels for at least the first twelve months of operation, the estimated lease revenue for those hotels for the twelve months ended September 30, 1998 is based on the Initial Fixed Rents. The estimated lease revenue for the Stabilized Hotels for the twelve months ended September 30, 1998 is calculated by applying the percentage rent formulas to the historical room revenues and other revenues of those hotels for that period. Estimated lease revenue for the twelve months ended September 30, 1998 is computed as follows: 31
Estimated Lease Revenue for the 12 Initial Percentage Months Ended Initial Hotel Fixed Rent Rent Formula September 30, 1998 ------------- ---------- ------------ ------------------ Newly-Developed Hotels Holiday Inn Express, Hershey, PA................. $795 $795 Holiday Inn Express, New Columbia, PA............ 498 498 Hampton Inn, Carlisle, PA...... 699 699 Comfort Inn, Harrisburg, PA.... 514 514 Newly-Renovated Hotels Holiday Inn Express, Harrisburg, PA.............. 504 504 Holiday Inn, Milesburg, PA..... 525 525 Comfort Inn, Denver, PA........ 262 262 Stabilized Hotels Holiday Inn Hotel and Conference Center, Harrisburg, PA...... 44.3% of room revenue up to 1,670 $2,638,247, plus 65.0% of room revenue in excess of $2,638,247 but less than $3,103,820, plus 31.0% of room revenue in excess of $3,103,820, plus 8.0% of all non-room revenue. Hampton Inn, Selinsgrove, PA............. 49.0% of room revenue up to 690 $1,081,152, plus 65.0% of room revenue in excess of $1,081,152 but less than $1,271,943, plus 29.0% of room revenue in excess of $1,271,943, plus 8.0% of all non-room revenue. Clarion Suites, Philadelphia, PA............ 36.1% of room revenue up to 1,018 $1,998,097, plus 65.0% of room revenue in excess of $1,998,097 but less than $2,350,702, plus 29.0% of room revenue in excess of $2,350,702, plus 8.0% of all non-room revenue. ------ Total $7,175
(2) Estimated depreciation and amortization is based on the actual historical amounts for the Initial Hotels, adjusted for (i) management's estimate of the depreciation and amortization for the Newly-Developed Hotels for the period prior to opening, (ii) management's estimate of depreciation and amortization for the assets acquired with offering proceeds, and (iii) management's estimate of depreciation and amortization associated with purchase accounting adjustments. Estimated depreciation and amortization is computed as follows: 32 Actual historical depreciation and amortization..................$1,478 Add: Management's estimate of depreciation and amortization for the Newly-Developed Hotels for the period prior to opening. 91 Add: Management's estimate of depreciation and amortization for the assets acquired with offering proceeds............. 75 Add: Management's estimate of depreciation and amortization associated with purchase accounting adjustments............ 437 Estimated depreciation and amortization..........................$2,081 (3) Reflects the weighted average interest rate of 8.32% per annum on the Assumed Indebtedness. Calculated as the average indebtedness during the year ended September 30, 1998, reduced by the anticipated debt repayments from the proceeds of the Offering. (4) Estimated real estate and personal property taxes and property and casualty insurance is based on the actual historical amounts for the Initial Hotels, adjusted for management's estimate of the real and personal property taxes and property and casualty insurance for the Newly-Developed Hotels for the period prior to opening. Estimated real estate and personal property taxes and property and casualty insurance is computed as follows: Actual historical real estate and personal property taxes and property and casualty insurance..........$574 Add: Management's estimate of real estate and personal property taxes and property and casualty insurance for the Newly-Developed Hotels for the period prior to opening .................................. 31 ---- Estimated real estate and personal property taxes and property and casualty insurance................$605 (5) Represents management's estimate of fees payable under the Administrative Services Agreement ($155), legal and audit fees ($100), Trustees' fees ($60) and other expenses ($20). (6) Represents management's estimate of ground lease payments with respect to the Holiday Inn Express, Harrisburg, PA and the Comfort Inn, Denver, PA pursuant to lease agreements. (7) The Partnership Agreement provides that depreciation and amortization deductions of the Partnership for each fiscal year will be allocated to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. Profit of the Partnership (excluding depreciation and amortization deductions) for each year will be allocated in the following order of priority: (i) first, to the Company until the aggregate amount of profit allocated to the Company under this clause (i) for the current and all prior years equals the aggregate amount of Preferred Return (as herein defined) distributed to the Company for the current and all prior years, (ii) second, to the Limited Partners in accordance with their respective percentage interests in the Partnership until the aggregate amount of profit allocated to the Limited Partners under this clause second for the current and all prior years equals the aggregate amount of Preferred Return distributed to the Limited Partners for the current and all prior years, and (iii) finally, to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. Accordingly, estimated minority interest is computed as follows: Distributable Cash: Estimated net income................................$ 2,632 Add: Estimated depreciation and amortization....... 2,081 Estimated net cash from operations.................. 4,713 Less: Estimated FF&E reserves and debt repayments..(1,422) ------- Estimated distributable cash........................$ 3,291 33 Allocations: Estimated depreciation and amortization (68.38% minority interest)....$(1,423) Estimated net income (before depreciation and amortization) up to distributable cash ($3,291 - $1,320 priority distribution)...... 1,971 Estimated remaining net income (before depreciation and amortization) ($2,632 + $2,081 - $3,291 x 68.38% minority interest)........... 972 ----- Estimated minority interest........................................... $ 1,520
(8) Estimated depreciation and amortization, net of minority interest, for the twelve months ended September 30, 1998 is computed as follows: Estimated depreciation and amortization......................$ 2,081 Subtract: Estimated minority interest in estimated depreciation and amortization (68.38%)................. 1,423 ----- Estimated depreciation and amortization, net of minority interest...................................................$ 658 (9) In accordance with the resolution adopted by the Board of Governors of the National Association of Real Estate Investment Trusts ("NAREIT"), funds from operations represents net income (computed in accordance with generally accepted accounting principles), excluding gains (or losses) from debt restructuring and sales of property, plus depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures. Funds from operations should not be considered an alternative to net income or other measurements under generally accepted accounting principles as an indicator of operating performance or to cash flows from operating, investing or financing activities as a measure of liquidity. The Company considers funds from operations to be an appropriate measure of the performance of an equity REIT in that such calculation is a measure used by the Company to measure its performance against its peer group and is a basis for making the determination as to the allocation of its resources and reflects the Company's ability to meet general operating expenses. Although funds from operations has been computed in accordance with the NAREIT definition, funds from operations as presented may not be comparable to other similarly-titled measures used by other REITs. Funds from operations does not reflect working capital changes, cash expenditures for capital improvements or debt service with respect to the Initial Hotels and, therefore, does not represent cash available for distribution to the shareholders of the Company. (10) Excludes cash provided by (used in) operating activities due to changes in working capital. The Company does not believe that the excluded items are material to the estimated cash available for distribution. (11) Under the Percentage Leases, the Company has an obligation to pay the costs of certain capital improvements and to make available to the Lessee certain amounts for the replacement or refurbishment of furniture, fixtures and equipment at the Initial Hotels. The Company anticipates that cash flow from operations, borrowing capacity and reserves will be sufficient to fund such obligation. Estimated additions to capital expenditure reserves, net of minority interest, for the twelve months ended September 30, 1998 is computed as follows: Management's estimate of additions to capital expenditure reserves.$847 Subtract: Estimated minority interest in estimated additions to capital expenditure reserves (68.38%)........... 579 --- Estimated additions to capital expenditure reserves, net of minority interest.....................................$268 (12) Computed as follows: Management's estimate of principal payments on debt................$575 Subtract: Estimated minority interest in estimated principal payments on debt (68.38%).......................... 393 --- Estimated principal payments on debt, net of minority interest............................................$182 34 (13) Estimated cash available for distribution to holders of Subordinated Units is computed as follows: Estimated distributable cash (see footnote 7 above).....$3,291 Subtract: Estimated cash available for distribution to holder of Priority Common Shares.................. 1,320 ----- Estimated cash available for distribution to holders of Subordinated Units.....................$1,971 As a result, based on the 3,964,108 Subordinated Units estimated to be outstanding upon completion of the Formation Transactions, the holders of the Subordinated Units would be entitled to a distribution of approximately $.50 per Subordinated Unit. (14) Represents estimated initial annual distribution per Priority Common Share ($0.72) multiplied by the 1,833,334 Priority Common Shares to be outstanding upon completion of the Offering. The information contained herein assumes that none of the 166,666 Priority Common Shares offered to the Hersha Affiliates are sold. If the 166,666 Priority Common Shares are sold, the estimated initial annual distribution would be $1,440,000 and the estimated amount available for distribution to holders of Subordinated Units would be $1,851,000, or approximately $.47 per Subordinated Unit. The proceeds from the sale of such shares would be used for working capital. (15) Represents estimated initial annual distribution per Priority Common Share ($0.72) divided by Offering Price ($6.00). 35 PRO FORMA CAPITALIZATION The following table sets forth the pro forma short-term debt and capitalization of the Company as of September 30, 1998, as adjusted to give effect to the sale on such date by the Company of the Priority Common Shares in the Offering and the use of the net proceeds therefrom as described under "Use of Proceeds." Pro Forma September 30, 1998 ------------------ (In thousands) Mortgage debt......................................... $17,400 ======= Minority interest..................................... $18,355 ======= Shareholders' Equity: Preferred Shares, $.01 par value, 10,000,000 shares authorized, no shares issued and outstanding................... -- Common Shares, $.01 par value, 50,000,000 Priority Class A Common Shares and 50,000,000 Class B Common Shares authorized, 1,833,334 Priority Class A Common Shares issued and outstanding(1).......................... 18 Additional paid-in capital........................... 8,470 ------- Total shareholders' equity....................... $ 8,488 ------- Total capitalization.......................... $44,243 ======= - --------------------- (1) Excludes 166,666 Priority Common Shares offered to the Hersha Affiliates, approximately 4 million Class B Common Shares issuable upon redemption of Subordinated Units issued in the Formation Transactions, 183,333 Priority Common Shares issuable upon exercise of the Underwriter Warrants, 250,000 Class B Common Shares issuable upon the redemption of 250,000 Units issuable upon exercise of the Hersha Warrants, 650,000 Class B Common Shares reserved for issuance pursuant to the Option Plan and 200,000 Class B Common Shares reserved for issuance pursuant to the Trustees' Plan. The Class B Common Shares will be converted into Priority Common Share on a one-for-one basis at a future date. See "Description of Shares of Beneficial Interest--Class B Common Shares," "Formation Transactions," "Management--The Option Plan" and "Underwriting." 37 DILUTION At September 30, 1998, the Offering Price exceeded the pro forma net tangible book value per Priority Common Share. The pro forma net tangible book value prior to the Offering represents the owners' equity from the Selling Entities Combined Balance Sheet of $6,475,000 less intangible assets of $1,382,000 resulting in $5,093,000 or $1.28 per share based upon approximately 3.96 million Subordinated Units issuable in the Formation Transactions. Therefore, the holders of Subordinated Units issued in connection with the Formation Transactions will realize an immediate increase in the net book value of their Subordinated Units, while purchasers of Priority Common Shares in the Offering will realize an immediate dilution in the net book value of their Priority Common Shares. The pro forma net tangible book value after the Offering is based upon the pro forma consolidated shareholders' equity of $8,488,000 less intangibles of $1,404,000 (included in the pro forma financial statements included herein) resulting in pro forma book value of $7,084,000 or $3.86 per share based on 1,833,334 shares outstanding immediately following the Offering. Assumed initial public offering price per share(1).............................. $ 6.00 Pro forma tangible net book value per share prior to the Offering..........$ 1.28 Increase attributable to purchase of Priority Common Share................. 2.58 Pro forma net tangible book value per share after the Offering.................. 3.86 ------ Dilution per share.............................................................. $ 2.14 ======
- ---------- (1) Before deducting underwriting discounts and estimated expenses of the Offering. The following table sets forth the number of Priority Common Shares to be sold by the Company in the Offering, the total contributions to be paid to the Company by purchasers of Priority Common Shares in the Offering (assuming an Offering Price of $6.00 per share), the number of Priority Common Shares and Subordinated Units previously outstanding or to be issued in connection with the Formation Transactions, the net tangible book value as of September 30, 1998 of the assets contributed to the Company and the Partnership and the net tangible book value of the average contribution per Priority Common Share and Subordinated Unit based on total contributions.
Purchase Price/ Shares Issued by the Company Book Value of Total and Units Issued by the Tangible Contributions to Purchase Price/ Partnership (1) the Company (1) Tangible Book ---------------------------- ------------------------- Value of Contribution Per Number Percent Amount Percent Priority Share/Unit (1) ------ ------- ------ ------- ------------------------ (in thousands) Priority Common Shares Issued to the Under- writer by the Company in the Offering.... 1,833,334 31.62% $11,000 68.35% $6.00 Subordinated Units Issued by the Partner- ship in the Formation Transactions....... 3,964,108 68.38% $ 5,093 31.65% $1.28 Total Priority Common Shares and Subordinated Units....................... 5,797,442 100.00% $16,093 100.00%
- ------------ (1) Does not include 166,666 Priority Common Shares offered to the Hersha Affiliates. 38 SELECTED FINANCIAL INFORMATION The following tables set forth: (i) unaudited summary balance sheet data for the Company at September 30, 1998; (ii) unaudited pro forma condensed combined statement of operations for the Lessee for the nine months ended September 30, 1998 and for the year ended December 31, 1997; and (iii) summary combined historical operating and financial data for the Combined Entities--Initial Hotels for each of the years in the three-year period ended December 31, 1997. The summary combined historical operating and financial data for the Combined Entities-- Initial Hotels for the three years ended December 31, 1997, have been derived from the historical combined financial statements of the Combined Entities--Initial Hotels audited by Moore Stephens, P.C., independent public accountants, whose report with respect thereto is included elsewhere in this Prospectus. In the opinion of management, the unaudited financial statements include all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the information set forth therein. The summary pro forma condensed combined statement of operations are presented as if the Formation Transactions had occurred as of January 1, 1997 and carried forward through each interim period presented, and therefore incorporates certain assumptions that are included in the Notes to the Pro Forma Condensed Combined Statement of Operations included elsewhere in this Prospectus. The pro forma balance sheet data is presented as if the Formation Transactions had occurred on September 30, 1998. The pro forma information does not purport to represent what the Company's financial position or the Company's or the Combined Entities--Initial Hotels' results of operations would actually have been if the Formation Transactions had, in fact, occurred on such date or at the beginning of the year indicated, or to project the Company's or the Combined Entities--Initial Hotels' financial position or results of operations at any future date or for any future period. The following selected financial information should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and all of the financial statements and notes thereto included elsewhere in this Prospectus. Hersha Hospitality Trust Unaudited Summary Balance Sheet Data (In thousands) September 30, 1998 ------------------------- Historical Pro Forma Balance Sheet Data: Net investment in hotel properties................. -- $ 40,489 Minority interest in Partnership................... -- $ 18,355 Shareholders' equity............................... -- $ 8,488 Total assets....................................... -- $ 44,243 Total debt......................................... -- $ 17,400 - ------------------ 39 Hersha Hospitality Management, L.P. Unaudited Pro Forma Condensed Combined Statements of Operations(1) (In thousands) Nine Months Ended Year Ended September 30, 1998 December 31, 1997 ------------------ ----------------- Room revenue.......................... $ 11,824 $10,880 Other revenue (2)..................... 2,111 2,565 -------- ------- Total revenue......................... $ 13,935 $13,445 -------- ------- Hotel operating expenses (3).......... 8,506 9,214 Percentage Lease payments (4)......... 5,108 5,129 -------- ------- Net income (loss) (5)................. $ 321 $ (898) ======== ======= Combined Entities - Initial Hotels Summary Combined Historical Operating and Financial Data (In thousands)
Nine Months Ended September 30 Year Ended December 31 -------------------- ---------------------------------------- 1998 1997 1997 1996 1995 ---- ---- ---- ---- ---- Statement of Operations Data: Room revenue $11,824 $ 7,750 $10,880 $7,273 $5,262 Other revenue (2) 2,111 1,942 2,565 2,716 1,957 -------- ------- ------- ------- ------ Total revenue $13,935 $ 9,692 $13,445 $9,989 $7,219 Hotel operating expenses (3) 8,839 6,510 9,173 8,172 6,250 Interest 1,497 831 1,354 921 634 Depreciation and amortization 1,161 799 1,189 924 711 -------- ------- ------- ------- ------ Net income (loss) (5) $ 2,438 $ 1,552 $ 1,729 $ (28) $ (376) ======== ======= ====== ======= ======
- ------------------------- (1) The estimated information does not purport to represent what the Lessee's financial position or results of operations would actually have been if consummation of the Formation Transactions had, in fact, occurred on such date or at the beginning of the periods indicated, or to project the Lessee's financial position or results of operations at any future date or for any future period. Represents pro forma revenue and expenses as if (i) the Partnership recorded depreciation and amortization, paid interest on remaining debt after the Formation Transactions occurred, and paid real and personal property taxes and property insurance as contemplated by the Percentage Leases, and (ii) the Formation Transactions occurred as of the beginning of the periods indicated. (2) Represents restaurant revenue, telephone revenue and other revenue. (3) Represents departmental costs and expenses, general and administrative, repairs and maintenance, utilities, marketing, management fees, real estate and personal property taxes, property and casualty insurance and ground leases. The pro forma amounts exclude real estate and personal property taxes, property and casualty insurance, ground leases and management fees. Real estate and personal property taxes, property and casualty insurance and ground leases are the responsibility of the Partnership under the Percentage Leases. (4) Represents lease payments calculated on a pro forma basis using the rent provisions in the Percentage Leases. The rent provisions in the Percentage Leases are based upon an agreement between the Partnership and the Lessee in which the parties have agreed to the lease terms and the form of lease to be signed at the closing of the Offering. Lease payments are calculated under two methods depending upon whether the Initial Hotel is a Stabilized Hotel with an established operating history or a Newly-Developed Hotel or a Newly-Renovated Hotel. The Rents for the Stabilized Hotels are calculated by applying the percentage rent formulas to the historical room revenues and other revenues of those hotels for the periods presented. Because the Newly-Developed Hotels and the Newly-Renovated Hotels pay Initial Fixed Rent for at least the first twelve months of operation, the Rent for those hotels is based on the Initial Fixed Rents, recognized on a straight-line basis over the period presented. In the case of the Newly-Developed Hotels, 40 the Initial Fixed Rents have been prorated for the periods the hotels were in operation because the hotels have not been in operation for the full periods presented. (5) The Combined Entities are not subject to income tax, except Hersha Enterprises, Ltd., which had no tax liability for the periods presented. 41 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview Upon consummation of the Formation Transactions, the Company will own approximately a 32% general partnership interest in the Partnership. In order for the Company to qualify as a REIT, neither the Company nor the Partnership may operate hotels. Therefore, the Initial Hotels will be leased to the Lessee. The Partnership's, and therefore the Company's, principal source of revenue will be Rent paid by the Lessee under the Percentage Leases. See "Business and Properties--The Percentage Leases." The Lessee's ability to perform its obligations, including making Rent payments to the Partnership under the Percentage Leases, will be dependent on the Lessee's ability to generate sufficient room revenues and net cash flow from the operation of the Initial Hotels, and any other hotels leased to the Lessee. Results of Operations of the Initial Hotels Comparison of Nine Months Ended September 30, 1998 to the Nine Months Ended September 30, 1997 Room revenue for the Initial Hotels increased $4,074,000 or 53% to $11,824,000 for the first nine months of 1998 from $7,750,000 in the comparable period in 1997. This increase came through an addition of 82,980 available room-nights with an overall increase of 59,039 room-nights sold. The increase in room-nights available was a result of the opening of three hotels, which were not opened as of September 30, 1997. In addition, there was a 2% increase in ADR to $66.95 from $65.92. REVPAR increased 6% to $43.82 from $41.48. Hotel operating expenses increased by $2,233,000 to $8,533,000, but decreased as a percentage of total revenue to 61% from 65%. Operating income before interest expense, depreciation and amortization increased by 61% to $5,472,000 from $3,392,000. Comparison of year ended December 31, 1997 to year ended December 31, 1996 Room revenue increased by $3,607,000 or 50% to $10,880,000 in 1997 from $7,273,000 in 1996. The increase in revenue came through the addition of four new hotels opening in 1997 and one hotel which was only open during half of 1996 being open for the entire 1997 period. These new properties added additional available room-nights of 43,171. In addition, a 7% increase in occupancy to 60% from 53% in 1996 as well as a 9% increase in ADR to $69.31 compared to $63.51 in 1996 augmented the available room-nights. REVPAR increased 25% to $41.78 from $33.48. Hotel operating expenses increased by $1,001,000 or 12% to $9,173,000 but decreased as a percentage of total revenue to 68% from 82%. Operating income before interest expense, depreciation and amortization increased by 135% to $4,272,000 from $1,817,000. Comparison of year ended December 31, 1996 to year ended December 31, 1995 Room revenue increased $2,011,000 or 38% to $7,273,000 in 1996 from $5,262,000 in 1995. The increase in revenue came through the opening of two hotels in 1996 adding additional room-nights available of 41,168. In addition, an overall increase in occupancy of 10% to 53% from 48% in 1995 as well as a 2% increase in ADR to $63.51 compared to $62.40 in 1995 augmented the available room-nights. REVPAR increased 12% to $33.48 from $29.89. Hotel operating expenses increased by $1,922,000 or 31% to $8,172,000 but decreased as a percentage of total revenue to 82% from 87%. Operating income before interest expense, depreciation and amortization increased by 87% to $1,817,000 from $969,000. Liquidity and Capital Resources The Company expects to meet its short-term liquidity requirement generally through net cash provided by operations, existing cash balances and, if necessary, short-term borrowings under the Line of Credit. The Company 42 believes that its net cash provided by operations will be adequate to fund both operating requirements and payment of dividends by the Company in accordance with REIT requirements. The Company expects to meet its long-term liquidity requirements, such as scheduled debt maturities and property acquisitions, through long-term secured and unsecured borrowings, the issuance of additional equity securities of the Company or, in connection with acquisitions of hotel properties, issuance of Units. The Company is currently pursuing with various lenders a $10 million Line of Credit. The Line of Credit will be used to fund future acquisitions and for working capital. A failure to obtain the Line of Credit could adversely affect the Company's ability to finance its growth strategy. See "Risk Factors-Dependence Upon External Financing." The Line of Credit may be secured by certain of the Initial Hotels. The Company in the future may seek to increase the amount of the Line of Credit, negotiate additional credit facilities or issue corporate debt instruments. Any debt incurred or issued by the Company may be secured or unsecured, long-term or short-term, fixed or variable interest rate and may be subject to such other terms as the Trustees deem prudent. The Trustees will adopt the Debt Policy that limits consolidated indebtedness of the Company to less than 67% of the aggregate purchase prices paid by the Company for the hotels in which it has invested. However, the Company's organizational documents do not limit the amount of indebtedness that the Company may incur and the Trustees may modify the Debt Policy at any time without shareholder approval. The Company intends to repay indebtedness incurred under the Line of Credit from time to time, for acquisitions or otherwise, out of cash flow and from the proceeds of issuances of Priority Common Shares and other securities of the Company. See "Risk Factors-Risks of Leverage" and "Policies and Objectives with Respect to Certain Activities-Investment Policies" and "-Financing." The Company will invest in additional hotels only as suitable opportunities arise. The Company will not undertake investments in such hotels unless adequate sources of financing are available. The Bylaws require the approval of a majority of the Trustees, including a majority of the Independent Trustees, to acquire any additional hotel in which a Trustee or officer of the Company, or any Affiliate thereof, has an interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company). It is expected that future investments in hotels will be dependent on and financed by, in whole or in part, the proceeds from additional issuances of Priority Common Shares or other securities or borrowings. Because of the level of the Assumed Indebtedness, the success of the Company's acquisition strategy will depend primarily on its ability to access additional capital through issuances of equity securities. The Company currently has no agreement or understanding to invest in any hotel other than the Initial Hotels and there can be no assurance that the Company will make any investments in any other hotels that meet its investment criteria. See "Growth Strategy--Acquisition Strategy." Pursuant to the Percentage Leases, the Partnership will be required to make available to the Lessee 4% (6% for the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross revenues per quarter, on a cumulative basis, for periodic replacement or refurbishment of furniture, fixtures and equipment at each of the Initial Hotels. The Company believes that a 4% (6% for the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) percentage set-aside is a prudent estimate for future capital expenditure requirements. The Company intends to cause the Partnership to spend amounts in excess of the obligated amounts if necessary to comply with the reasonable requirements of any Franchise License and otherwise to the extent that the Company deems such expenditures to be in the best interests of the Company. The Company will also be obligated to fund the cost of certain capital improvements to the hotels. Based on its experience in managing hotels, management of the Company believes that amounts required to be set aside in the Percentage Leases will be sufficient to meet required expenditures for furniture, fixtures and equipment during the term of the Percentage Leases. The Company will use undistributed cash or borrowings under credit facilities to pay for the cost of capital improvements and any furniture, fixture and equipment requirements in excess of the set aside referenced above . See "Business and Properties--The Percentage Leases." Inflation Operators of hotels in general possess the ability to adjust room rates quickly. However, competitive pressures may limit the Lessee's ability to raise room rates in the face of inflation, and annual increases in ADR have failed to keep pace with inflation. Seasonality 43 The Initial Hotels' operations historically have been seasonal in nature, reflecting higher occupancy rates during the second and third quarters. This seasonality can be expected to cause fluctuations in the Company's quarterly lease revenue to the extent that it receives Percentage Rent. Year 2000 Compliance Many computer systems were designed using only two digits to designate years. These systems may not be able to distinguish the year 2000 from the year 1900. Like other organizations, the Company could be adversely affected if the computer systems used by it or its service providers do not properly address this problem prior to January 1, 2000. Currently, the Company does not anticipate that the transition to the year 2000 will have any material impact on its performance. The Company's plan to respond to the Year 2000 Problem consists of three phases that address the state of readiness, Year 2000 costs, risks and contingency plans. Phase I includes a plan to respond to the Year 2000 Problem, which includes the following areas (the "Focus Areas"): (i) telephone and call accounting systems; (ii) credit card readers; (iii) sprinkler systems and fire suppression system; (iv) security systems; (v) card entry systems; (vi) elevator systems; (vii) computer systems and vendor contracts (hardware); (viii) fax machines and laundry equipment; (ix) HVAC (heating and air conditioning systems) and utility companies; and (x) computer software systems. The Company has created a task force and procedures to survey, test and report results for management's review. The Company believes that the cost to remediate its Year 2000 problems will be minimal and has allocated funds of $25,000 to cover such costs. The Holiday Inn hotel and conference center, Harrisburg, PA has been used as an example for the other Initial Hotels. This hotel was reviewed for Year 2000 compliance, and the review resulted in hardware and software compliance. The credit card readers, card entry system and computers have been tested and are compliant. Based on the results experienced for the Holiday Inn hotel and conference center, Harrisburg, PA, management believes that the $25,000 allocation for funding will be adequate. The Company is currently proceeding with Phase II of its assessment of the Year 2000 Problem. Phase II involves initiating a survey and checklist to each hotel manager for completion and return to management. The survey was customized for the Initial Hotels to include (i) the current vendor list with a column for a listing of current product usage and (ii) a vendor address log and telephone number listing. Each hotel checklist included the front desk, business center, housekeeping/back office, beverage and guest rooms. Phase II also involves the testing of the Company's computer systems. A test computer disk-copy was sent to the Company for reproduction to test each computer in the Company. All written tests and written confirmation that relate to the Initial Hotel products, equipment and software are logged to monitor the Company's progress towards Year 2000 compliance. The Company is in the process of conducting such testing and has yet to encounter any material Year 2000 compliance problems. Phase III of the Company's assessment of the Year 2000 Problem includes the results of testing, action plans, reporting of results and contingency plans to remediate any Year 2000 Problems. The risks and contingency plans include a "reasonably likely worst case Year 2000 scenario." The Company believes that the consequences of a worst case scenario rest almost exclusively with outside vendors and not in systems within the Initial Hotels. The contingency plan, which the Company is currently initiating, is to replace non-compliant vendors with new compliant vendors. A thorough review of all vendors will continue to be an ongoing Year 2000 strategy for the Company. However, the Company's contingency plan has back-up support to address each of the Focus Areas. The franchisors of the Initial Hotels have provided compliance guides to assist in the Company's response to the Year 2000 Problem. Promus Hotel Corporation (Hampton Inn Hotels), Holiday Hospitality/Bass Hotels & Resorts (Holiday Inn and Holiday Inn Express Hotels) and Choice Hotels International (Comfort Inn and Clarion Suites Hotels) have completed third party vendor checks, reviewed computer systems and provided for reference a preferred compliant vendor list. A checklist for Year 2000 issues, a work plan and a sample vendor letter was provided to help the Company complete its assessment of the Year 2000 Problem. The Company is in the process of mailing a questionnaire to third party vendors to assess third party risks. The results of this risk assessment will be completed by March 31, 1999. In addition, the Company has sought assurances from the Lessee and other service providers that they are taking all necessary steps to ensure that their computer systems will accurately reflect the year 2000, and the Company will continue to monitor the situation. There can be no assurance that the systems of such third parties will be Year 2000 compliant or that any third party's failure to have Year 2000 compliant systems would not have a material adverse effect on the Company's systems and operations. 44 BUSINESS AND PROPERTIES The Initial Hotels Set forth below is certain descriptive information regarding the Initial Hotels, each of which is currently managed by a Hersha Affiliate and owned by a partnership in which one or more of the Hersha Affiliates own interests. Holiday Inn Express (Riverfront), Harrisburg, Pennsylvania Description. The Holiday Inn Express Riverfront, Harrisburg, Pennsylvania, is located at 525 South Front Street. The hotel was opened in 1968, was purchased in 1984 and was fully renovated in 1996. It is a 117-room, limited service hotel with non-smoking units available with an adjacent restaurant and lounge. Amenities include a fitness center and adjacent banquet and meeting facilities with a 200-person capacity. Guest Profile and Local Competition. Approximately 25% of the hotel's business is related to business from the Commonwealth of Pennsylvania. The remainder of the hotel's business consists of tourists, overnight travelers and people visiting local residents. The Company considers its primary competition to be the Ramada Hotel on Second Street in Harrisburg, Pennsylvania. Holiday Inn Express, Hershey, Pennsylvania Description. The Holiday Inn Express, Hershey, Pennsylvania is located on Walton Avenue, one and one half miles from Hershey Park. The hotel, which opened in October 1997, is an 85-room limited service hotel. Amenities include an indoor pool, hot tub, fitness center, business service center, meeting facility, complimentary continental breakfast and 24-hour coffee. All rooms have one king bed or two queen beds and some rooms have refrigerators, coffee makers and microwaves. Guest Profile and Local Competition. Approximately 30% of the hotel's business is related to commercial activity from local business. The hotel's group business, which accounts for approximately 5% of its business, is generated from area institutions, local weddings and local social and sporting events. The remainder of the hotel's business consists of transient guests, visitors to area residents and demand generated by the hotel's proximity to Hershey Park. The Company considers its primary competition to be the Comfort Inn in Hershey, Pennsylvania. Holiday Inn Express, New Columbia, Pennsylvania Description. The Holiday Inn Express, New Columbia, Pennsylvania is located at the intersection of Interstate 80 and Route 15. The hotel, which opened in December 1997, is an 81-room limited service hotel. Amenities include an indoor pool, hot tub, fitness center, meeting facility, complimentary continental breakfast and 24-hour coffee. All rooms have one king bed or two queen beds, some Jacuzzi suites are available and some rooms have refrigerators, coffee makers and microwaves. The Holiday Inn Express in New Columbia, Pennsylvania was ranked number one in its region for GSTS (Guest Satisfaction Tracking System), for February and March of 1998. This award recognizes the Holiday Inn Express in New Columbia as the leader in guest satisfaction and product service out of 32 other Holiday Inns and Holiday Inns Express in the Eastern region. Guest Profile and Local Competition. Approximately 80% of the hotel's business is related to commercial activity from local business. As a result of its proximity to ski resorts and nearby tourist attractions, recreational travelers generate approximately 10% of the hotel's business. The remainder of the hotel's business consists of overnight travelers and visitors to area residents. The Company considers its primary competition to be the Comfort Inn in New Columbia, Pennsylvania. Hampton Inn, Carlisle, Pennsylvania Description. The Hampton Inn, Carlisle, Pennsylvania is located at the intersection of Route 11 and exit 16 off the Pennsylvania Turnpike. The hotel, which opened in June 1997, is a 95-room limited service hotel. Amenities include an indoor pool, hot tub, fitness center, meeting facilities, complimentary continental breakfast and 24-hour coffee. All rooms have one king bed or two queen beds, some Jacuzzi suites are available and some rooms have refrigerators, coffee makers and microwaves. 45 Guest Profile and Local Competition. Approximately 50% of the hotel's business is related to commercial activity from local businesses. The remainder of the hotel's business consists of overnight travelers and general demand generated by the hotel's proximity to the Carlisle Fairgrounds and the Army War College. The Company considers its primary competition to be the Holiday Inn in Carlisle, Pennsylvania. Hampton Inn, Selinsgrove, Pennsylvania Description. The Hampton Inn, Selinsgrove, Pennsylvania is located on Pennsylvania Routes 11 and 15. The hotel, which opened in September 1996, is a 75-room, three story, limited service hotel. Amenities include an indoor pool, hot tub, fitness center, meeting facilities, complimentary continental breakfast and 24-hour coffee. All rooms have one king bed or two queen beds, some Jacuzzi suites are available and some rooms have refrigerators, coffee makers and microwaves. The Hampton Inn in Selinsgrove was recently named one of the top hotels in the entire Hampton Inn system, receiving the hotel chain's Circle of Excellence Award. The award recognizes superior quality and guest satisfaction and is the highest distinction a Hampton Inn hotel can receive. Guest Profile and Local Competition. Approximately 80% of the hotel's business is related to commercial activity from local businesses. The remainder of the hotel's business consists of pleasure travelers, transient guests and demand generated by the hotel's proximity to area universities and Knoebels Amusement Park. The Company considers its primary competition to be the Best Western near Selinsgrove, Pennsylvania. Holiday Inn Hotel and Conference Center, Harrisburg, Pennsylvania Description. The Holiday Inn Hotel and Conference Center, Harrisburg, Pennsylvania is located at the intersection of the Pennsylvania Turnpike exit 18 and Interstate 83, ten minutes from downtown, Harrisburg International Airport and Hershey Park. The hotel opened in 1970 as a Sheraton Inn and was converted to a Ramada Inn in 1984. It was completely renovated and converted to a Holiday Inn in September 1995. This hotel has 196 deluxe guest units and is a full service hotel, including a full service restaurant as well as a nightclub. Amenities include an indoor tropical courtyard with a pool and Jacuzzi as well as a banquet and conference facility for up to 700 people. Guest Profile and Local Competition. Approximately 40% of the hotel's business is related to commercial activity from local businesses. The remainder of the hotel's business consists of overnight travelers visiting Hershey and Harrisburg. The Company considers its primary competition to be the Radisson Penn Harris in Camp Hill, Pennsylvania. Holiday Inn, Milesburg, Pennsylvania Description. The Holiday Inn, Milesburg/State College, Pennsylvania is located at Exit 23, I-80 and US 50 North. The hotel opened in 1977 as a Sheraton and was completely renovated in 1992. In 1996, the hotel was converted into a Holiday Inn. It is a 118-room, full service hotel with a full service restaurant and cocktail lounge. Amenities include an outdoor pool as well as banquet and meeting facilities for 220 people. Guest Profile and Local Competition. Approximately 20% of the hotel's business is related to commercial activity from local businesses and demand generated by local businesses. Approximately 80% of the hotel's business consists of leisure travelers visiting the many tourist attractions around State College and I-80. The Company considers its primary competition to be the Best Western in Milesburg, Pennsylvania. Comfort Inn, Denver, Pennsylvania Description. The Comfort Inn, Denver, Pennsylvania is located at 2015 North Reading Road. This 45-room limited service hotel was constructed in 1990 and renovated in 1995. All rooms have one king bed or two queen beds and non-smoking units are available. Amenities include hairdryers in all rooms, a fitness center and a complimentary continental breakfast. Guest Profile and Local Competition. Approximately 75% of the hotel's business is comprised of leisure travelers and transient guests related to its location at the crossroads of two major interstate highways. The remainder of the hotel's business is due to commercial activity from local businesses and people visiting area residents. The Company considers its primary competition to be the Holiday Inn in Denver, Pennsylvania. 46 Comfort Inn, Harrisburg, Pennsylvania Description. The Comfort Inn, Harrisburg, Pennsylvania is located 8 miles north of Hershey, Pennsylvania at 7744 Linglestown Road off exit 27 of Interstate 81. The hotel opened in May 1998. It is an 81-room limited service hotel. Amenities include an indoor pool, hot tub, fitness center, meeting facilities, complimentary continental breakfast and 24-hour coffee. All rooms have one king bed or two queen beds and some Jacuzzi suites are available. Guest Profile and Local Competition. Approximately 25% of the hotel's business is related to commercial activity from local businesses. The hotel's group business, which accounts for approximately 5% of its business, is generated from area institutions, local weddings and local social and sporting events. The remainder of the hotel's business consists of transient and recreational travelers generated by its proximity to Hershey, Pennsylvania. The Company considers its primary competition to be the Holiday Inn in Grantville, Pennsylvania. Clarion Suites, Philadelphia, Pennsylvania Description. The Clarion Suites, Philadelphia, Pennsylvania is located at 1010 Race Street, one half block from the newly-built Philadelphia convention center and six blocks from the Independence Hall historic district and the Liberty Bell. The hotel is located in the historic Bentwood Rocking Chair Company building, which was constructed in 1896 and converted to a Quality Suites hotel in the 1980s. The hotel was purchased by a Hersha Affiliate as a Ramada Suites in 1995 and substantially rehabilitated. The Hersha Affiliate later converted the hotel to a Clarion Suites. The hotel has 96 executive suites with fully-equipped kitchens and an eight-story interior corridor with Victorian style architecture. The hotel has a lounge featuring light fare and a comedy cabaret. Amenities include two large meeting rooms, boardrooms, a fitness room and a complimentary continental breakfast. Guest Profile and Local Competition. Approximately 20% of the hotel's business is comprised of leisure travelers and transient guests related to its close proximity to the historic district. The remainder of the hotel's business is due to commercial activity from local businesses and people visiting area residents. The Company considers its primary competition to be all Center City, Philadelphia hotels. The following table sets forth certain information with respect to each Initial Hotel:
Year Ended December 31, -------------------------------------------------------- 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- Holiday Inn Express - Harrisburg, PA Occupancy 56.4% 40.7% 43.2% 44.9% 46.2% ADR $56.33 $52.77 $48.05 $48.34 $45.72 REVPAR $31.78 $21.50 $20.74 $21.70 $21.13 Holiday Inn Express - Hershey, PA (1) Occupancy 38.8% ADR $75.62 REVPAR $29.35 Holiday Inn Express - New Columbia, PA (2) Occupancy 9.0% ADR $59.68 REVPAR $5.39 Hampton Inn - Carlisle, PA (3) Occupancy 53.5% ADR $65.33 REVPAR $34.93 Hampton Inn - Selinsgrove, PA (4) Occupancy 71.9% 50.1% ADR $65.29 $60.76 REVPAR $46.96 $30.43 Holiday Inn Hotel and Conference Center - Harrisburg, PA (5) Occupancy 63.3% 58.9% 46.2% ADR $68.22 $61.36 $56.97 REVPAR $43.17 $36.13 $26.31 47 Holiday Inn - Milesburg, PA Occupancy 52.0% 48.4% 51.0% 55.3% 56.9% ADR $56.07 $52.31 $51.59 $48.64 $42.27 REVPAR $29.13 $25.31 $26.29 $26.88 $24.02 Comfort Inn - Denver, PA Occupancy 54.7% 53.5% 60.4% 60.4% 59.6% ADR $73.26 $61.04 $50.68 $49.72 $48.79 REVPAR $40.08 $32.63 $30.60 $30.01 $29.06 Comfort Inn - Harrisburg, PA (6) Occupancy ADR REVPAR Clarion Suites, Philadelphia, PA Occupancy 73.7% 60.2% ADR $91.02 $86.10 REVPAR $67.09 $51.83
- --------------- (1) This hotel opened in October 1997 and, thus, the data shown represent approximately three months of operations. (2) This hotel opened in December 1997 and, thus, the data shown represent approximately one month of operations. (3) This hotel opened in June 1997 and, thus, the data shown represent approximately seven months of operations. (4) This hotel opened in September 1996 and, thus, the data shown for 1996 represent approximately four months of operations. (5) This hotel was converted to a Holiday Inn in September 1995 and, thus, the data shown for 1995 represent approximately four months of operations. (6) This hotel opened in May 1998 and, thus, there are no data shown. The Percentage Leases The following summary is qualified in its entirety by the Percentage Leases, the form of which has been filed as an exhibit to the Registration Statement of which this Prospectus is a part. The Initial Hotels will be operated by the Lessee pursuant to the Percentage Leases. The Company intends to lease its future acquired hotels to operators, including both the Lessee and operators unaffiliated with the Lessee. Future leases with the Lessee generally will be similar to the Percentage Leases. Future leases with operators unaffiliated with the Lessee may or may not be similar to the Percentage Leases. The Trustees will negotiate the terms and provisions of each future lease, depending on the purchase price paid, economic conditions and other factors deemed relevant at the time. Percentage Lease Terms. Each Percentage Lease will have an initial non-cancelable term of five years. All, but not less than all, of the Percentage Leases for the Initial Hotels may be extended for an additional five-year term at the Lessee's option. At the end of the first extended term, the Lessee, at its option, may extend some or all of the Percentage Leases for the Initial Hotels for an additional five-year term. The Percentage Leases are subject to earlier termination upon the occurrence of defaults thereunder and certain other events described therein (including, particularly, the provisions described herein under "--Damage to Hotels," "--Condemnation of Hotel" and "--Termination of Percentage Leases on Disposition of the Initial Hotels"). Amounts Payable Under the Percentage Leases. The Percentage Leases generally provide for the Lessee to pay in each calendar quarter the greater of the Base Rent or Percentage Rent. The Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room revenues up to the Threshold, (ii) a percentage of room revenues in excess of the Threshold but less than the Incentive Threshold, (iii) a percentage of room revenues in excess of the Incentive Threshold and (iv) a percentage of revenues other than room revenues. The Incentive Threshold is designed to provide an incentive to the Lessee to generate higher revenues at each hotel. Until the First Adjustment Date or the Second Adjustment Date, as applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated Hotels will be the Initial Fixed Rents applicable to those hotels. After the First Adjustment Date or the Second Adjustment Date, as applicable, rent will be computed with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels based on the percentage rent formulas described herein. The Lessee also will be obligated to pay certain other amounts, including interest accrued on any late payments or charges (the "Additional Charges"). Rent is payable quarterly in arrears. 48 The following table sets forth (i) the Initial Fixed Rent, if applicable, (i) the annual Base Rent and (ii) the Percentage Rent formulas:
Initial Annual Percentage Initial Hotel Fixed Rent(1) Base Rent(1) Rent Formula ------------- ------------- ------------ ------------ Newly-Developed Holiday Inn Express Hershey, PA............. $794,686 $364,000 42.1% of room revenue up to $1,479,523, plus 65.0% of room revenue in excess of $1,479,523 but less than $1,740,615, plus 29.0% of room revenue in excess of $1,740,615, plus 8.0% of all non-room revenue. New Columbia, PA........ 498,198 227,500 46.7% of room revenue up to $850,986, plus 65.0% of room revenue in excess of $850,986 but less than $1,001,160, plus 29.0% of room revenue in excess of $1,001,160, plus 8.0% of all non-room revenue. Hampton Inn: Carlisle, PA............ 699,062 325,000 42.3% of room revenue up to $1,293,906, plus 65.0% of room revenue in excess of $1,293,906 but less than $1,522,242, plus 29.0% of room revenue in excess of $1,522,242, plus 8.0% of all non-room revenue. Comfort Inn: Harrisburg, PA........... 514,171 234,000 40.7% of room revenue up to $980,050, plus 65.0% of room revenue in excess of $980,050 but less than $1,153,000, plus 29.0% of room revenue in excess of $1,153,000, plus 8.0% of all non-room revenue. Newly-Renovated Holiday Inn Express: Harrisburg, PA.......... 504,406 195,000 31.0% of room revenue up to $1,153,655, plus 65.0% of room revenue in excess of $1,153,655 but less than $1,357,241, plus 29.0% of room revenue in excess of $1,357,241, plus 8.0% of all non-room revenue. Holiday Inn: Milesburg, PA............ 524,750 214,500 36.1% of room revenue up to $1,065,960, plus 65.0% of room revenue in excess of $1,065,960 but less than $1,254,070, plus 31.0% of room revenue in excess of $1,254,070, plus 8.0% of all non-room revenue. Comfort Inn: 262,234 112,288 35.4% of room revenue up to $559,542, Denver, PA.............. plus 65.0% of room revenue in excess of $559,542 but less than $658,285, plus 29.0% of room revenue in excess of $658,285, plus 8.0% of all non-room revenue. Stabilized Holiday Inn Hotel and Conference Center: Harrisburg, PA.......... n/a 675,921 44.3% of room revenue up to $2,638,247, plus 65.0% of room revenue in excess of $2,638,247 but less than $3,103,820, plus 31.0% of room revenue in excess of $3,103,820, plus 8.0% of all non-room revenue. 49 Hampton Inn: Selinsgrove, PA.......... n/a 308,469 49.0% of room revenue up to $1,081,152, plus 65.0% of room revenue in excess of $1,081,152 but less than $1,271,943, plus 29.0% of room revenue in excess of $1,271,943, plus 8.0% of all non-room revenue. Clarion Suites: Philadelphia, PA......... n/a 418,593 36.1% of room revenue up to $1,998,097, plus 65.0% of room revenue in excess of $1,998,097 but less than $2,350,702, plus 29.0% of room revenue in excess of $2,350,702, plus 8.0% of all non-room revenue.
(1) The Initial Fixed Rent and Base Rent will accrue pro rata during each quarter of each lease year. The Lessee, however, will pay the Initial Fixed Rent and the Base Rent for each calendar quarter in each lease year based on the ratio of budgeted gross revenues for such calendar quarter to budgeted gross revenues for such lease year. Other than real estate and personal property taxes, ground lease rent (where applicable), the cost of certain furniture, fixtures and equipment, and certain capital expenditures, and property and casualty insurance premiums, all of which are obligations of the Company, the Percentage Leases require the Lessee to pay the operating expenses of the Initial Hotels (including insurance other than property and casualty insurance, all costs and expenses and all utility and other charges incurred in the operation of the Initial Hotels) during the term of the Percentage Leases. The Percentage Leases also provide for rent reductions and abatements in certain cases in the event of damage or destruction or a partial taking of any Initial Hotel as described under "--Damage to Hotels" and "--Condemnation of Hotel." Maintenance and Modifications. Under the Percentage Leases, the Company will make available to the Lessee for the replacement and refurbishment of furniture, fixtures and equipment and other capital improvements determined in accordance with generally accepted accounting principles in the Initial Hotels, when and as deemed necessary by the Lessee, an amount equal to 4% (6% for the Holiday Inn, Harrisburg, PA and the Holiday Inn, Milesburg, PA) of gross revenues per quarter on a cumulative basis. The Company's obligation will be carried forward to the extent that the Lessee has not expended such amount, and any unexpended amounts will remain the property of the Company upon termination of the Percentage Leases. Other than as described above, the Lessee is responsible for all repair and maintenance of the Initial Hotels and any capital improvements to the Initial Hotels. The Lessee, at its expense, may make non-capital and capital additions, modifications or improvements to the Initial Hotels, provided that such action does not significantly alter the character or purposes of the Initial Hotels or significantly detract from the value or operating efficiencies of the Initial Hotels. All such alterations, replacements and improvements shall be subject to all the terms and provisions of the Percentage Leases and will become the property of the Company upon termination of the Percentage Leases. The Company will own substantially all personal property (other than inventory, linens and other nondepreciable personal property) not affixed to, or deemed a part of, the real estate or improvements on the Initial Hotels, except to the extent that ownership of such personal property would cause the Rent under a Percentage Lease not to qualify as "rents from real property" for REIT income test purposes. See "Federal Income Tax Consequences--Requirements for Qualification--Income Tests." Insurance and Property Taxes. The Company is responsible for paying or reimbursing the Lessee for real estate and personal property taxes on the Initial Hotels (except to the extent that personal property associated with the Initial Hotels is owned by the Lessee), and all premiums for property and casualty insurance. The Lessee is required to pay for all other insurance on the Initial Hotels, including comprehensive general public liability, workers' compensation and other insurance appropriate and customary for properties similar to the Initial Hotels and naming the Company as an additional named insured. 50 Assignment and Subleasing. The Lessee will not be permitted to sublet all or any part of the Initial Hotels or assign its interest under any of the Percentage Leases without the prior written consent of the Company. No assignment or subletting will release the Lessee from any of its obligations under the Percentage Leases. Damage to Hotels. In the event of damage to or destruction of any Initial Hotel covered by insurance that renders the Initial Hotel unsuitable for its primary intended use, the Percentage Lease will terminate as of the date of the casualty, neither the Company nor the Lessee shall have any further liability under the Percentage Lease, and the Company will retain all insurance proceeds. In the event of damage to or destruction of any Initial Hotel covered by insurance that does not render the Initial Hotel unsuitable for its primary intended use, the Company (or, at the election of the Company, the Lessee) will restore the Initial Hotel, the Percentage Lease will not terminate, and the Company will retain all insurance proceeds (if, however, the Lessee restores the Initial Hotel, the insurance proceeds will be paid out by the Company to the Lessee). If the cost of restoration exceeds the amount of insurance proceeds received by the Company, the Company will contribute any excess amounts prior to requiring the Lessee to commence work. In the event of damage to or destruction of any Initial Hotel not covered by insurance, whether or not such damage or destruction renders the Initial Hotel unsuitable for its primary intended use, the Company at its option either (i) will restore the Initial Hotel at its cost and expense and the Percentage Lease will not terminate or (ii) will terminate the Percentage Lease and neither the Company nor the Lessee shall have any further liability under the Percentage Lease. Any damage or destruction notwithstanding, and provided the Percentage Lease has not been terminated, the Lessee's obligation to pay Rent will remain unabated by any damage or destruction that does not result in a reduction of gross revenues at the Initial Hotel. If any damage or destruction results in a reduction of such gross revenues, the Company will receive all loss of income insurance and the Lessee will not have an obligation to pay Rent in excess of the amount of Percentage Rent, if any, realizable from gross revenues generated by the operation of the Initial Hotel during the existence of such damage or destruction. Condemnation of Hotel. In the event of a total condemnation of any Initial Hotel, or in the event of a partial taking that renders the Initial Hotel unsuitable for its primary intended use, either the Company or the Lessee will have the option to terminate the relevant Percentage Lease as of the date of taking, and the Company and the Lessee will be entitled to their shares of the condemnation award in accordance with the provisions of the Percentage Lease. In the event of a partial taking that does not render the Initial Hotel unsuitable for its primary intended use, the Company (or, at the Company's option, the Lessee) will restore the untaken portion of the Initial Hotel to a complete architectural unit and the Company shall contribute the cost of such restoration in accordance with the provisions of the Percentage Lease. In the event of a partial taking, the Base Rent will be abated taking into consideration, among other factors, the number of usable rooms, the amount of square footage, or the revenues affected by the partial taking. Events of Default. Events of Default under the Percentage Leases include, among others, the following: (i) the failure by the Lessee to pay Initial Fixed Rent, Base Rent, Percentage Rent or Additional Charges when due and the continuation of such failure for a period of 10 days after receipt by the Lessee of notice from the Company that the same has become due and payable, provided that the Company shall not be required to give any such notice more than twice in any lease year and that any third or subsequent failure by the Lessee during such lease year to make any payment of Initial Fixed Rent, Base Rent or Percentage Rent on the date the same becomes due and payable shall constitute an immediate Event of Default; (ii) the failure by the Lessee to observe or perform any other term of a Percentage Lease and the continuation of such failure for a period of 30 days after receipt by the Lessee of notice from the Company thereof, unless: (A) such failure cannot be cured within such period and the Lessee commences appropriate action to cure such failure within such 30 day period and thereafter acts, with diligence, to correct such failure within such time as is necessary, provided in no event shall such period exceed 120 days, which 120-day period shall cease to run during any period that a cure of such failure is prevented by any of certain "unavoidable delays" and shall resume running upon the cessation of such "unavoidable delay;" and (B) such failure does not result in a notice or declaration of default under any material contract or agreement to which the Company or any affiliate thereof is a party or by which any of its assets are bound; (iii) if the Lessee shall file a petition in bankruptcy or reorganization pursuant to any federal or state bankruptcy law or any similar federal or state law, or shall be adjudicated a bankrupt or shall make an assignment for the benefit of creditors or shall admit in writing its inability to pay its debts generally 51 as they become due, or if a petition or answer proposing the adjudication of the Lessee as a bankrupt or its reorganization pursuant to any federal or state bankruptcy law or any similar federal or state law shall be filed in any court and the Lessee shall be adjudicated a bankrupt and such adjudication shall not be vacated or set aside or stayed within 60 days after the entry of an order in respect thereof, or if a receiver of the Lessee or of the whole or substantially all of the assets of the Lessee shall be appointed in any proceeding brought by the Lessee or if any such receiver, trustee or liquidator shall be appointed in any proceeding brought against the Lessee and shall not be vacated or set aside or stayed within 60 days after such appointment; (iv) if the Lessee is liquidated or dissolved, or begins proceedings toward such liquidation or dissolution, or in any manner ceases to do business or permits the sale or divestiture of substantially all of its assets; (v) if the estate or interest of the Lessee in the Percentage Lease or any part thereof is voluntarily or involuntarily transferred, assigned, conveyed, levied upon or attached in any proceeding (for this purpose, a change in control of the Lessee constitutes an assignment of the lease); (vi) if the Lessee voluntarily discontinues operations of any Initial Hotel except as a result of damage, destruction or condemnation; (vii) if the Franchise License with respect to an Initial Hotel is terminated by the franchisor as a result of any action or failure to act by the Lessee or its agents, other than the failure to complete improvements required by a franchisor because the Partnership fails to pay the costs of such improvements; or (viii) the occurrence of an Event of Default occurs under any other Percentage Lease between the Company and the Lessee. If an Event of Default occurs and continues beyond any curative period, the Company will have the option of terminating the Percentage Lease and any or all other Percentage Leases by giving the Lessee 10 days' written notice of the date for termination of the Percentage Leases and, unless such Event of Default is cured prior to the termination date set forth in such notice, the Percentage Leases shall terminate on the date specified in the Company's notice and the Lessee shall be required to surrender possession of the affected Initial Hotel. Termination of Percentage Leases on Disposition of the Initial Hotels. In the event the Company enters into an agreement to sell or otherwise transfer an Initial Hotel to a third party, the Company will have the right to terminate the Percentage Lease with respect to such Initial Hotel if within six months after the closing of such sale it either (i) pays the Lessee the fair market value of the Lessee's leasehold interest in the remaining term of the Percentage Lease to be terminated, or (ii) offers to lease to the Lessee one or more substitute hotels on terms that would create a leasehold interest in such hotels with a fair market value equal to or exceeding the fair market value of the Lessee's remaining leasehold interest under the Percentage Lease to be terminated. Franchise License. The Lessee will be the licensee under the Franchise Licenses on the Initial Hotels. See "Business and Properties--Franchise Licenses." Breach by the Company. Upon notice from the Lessee that the Company has breached the Lease, the Company will have 30 days to cure the breach or proceed to cure the breach, which period may be extended in the event of certain specified, unavoidable delays. Inventory. All inventory required in the operation of the Initial Hotels will be purchased and owned by the Lessee at its expense. The Company will have the option to purchase all inventory related to a particular Initial Hotel at fair market value upon termination of the Percentage Lease for that Initial Hotel. Franchise Licenses Holiday Inn Express and Holiday Inn are registered trademarks of Holiday Hospitality Corporation, Hampton Inn is a registered trademark of Promus Hotels, and Comfort Inn and Clarion Suites are registered Trademarks of Choice Hotels. The Company expects that the registered owners of the trademarks will approve the 52 change of the Franchise Licenses to the Lessee upon acquisition of the Initial Hotels by the Partnership and will confirm that with respect to the Initial Hotels the owner thereof is a licensee in good standing. The Company anticipates that most of the additional hotels in which it invests will be operated under Franchise Licenses. The Company believes that the public's perception of quality associated with a franchisor is an important feature in the operation of a hotel. Franchisors provide a variety of benefits for franchisees, which include national advertising, publicity and other marketing programs designed to increase brand awareness, training of personnel, continuous review of quality standards and centralized reservation systems. The Franchise Licenses generally specify certain management, operational, recordkeeping, accounting, reporting and marketing standards and procedures with which the franchisee must comply. The Franchise Licenses obligate the Lessee to comply with the franchisors' standards and requirements with respect to training of operational personnel, safety, maintaining specified insurance, the types of services and products ancillary to guest room services that may be provided by the Lessee, display of signage, and the type, quality and age of furniture, fixtures and equipment included in guest rooms, lobbies and other common areas and to pay the franchise fees described below. The following table sets forth certain information in connection with the Franchise Licenses:
Hotel Effective Date Expiration Date Franchise Fee(1) ----- -------------- ---------------- ---------------- Holiday Inn Express, Harrisburg, PA May 2, 1996 May 2, 2006 8.00% Holiday Inn Express, Hershey, PA September 30, 1997 September 30, 2007 8.00% Holiday Inn Express, New Columbia, PA December 3, 1997 December 3, 2007 8.00% Holiday Inn, Milesburg, PA February 25, 1997 February 25, 2007 8.00% Holiday Inn Hotel and Conference Center, Harrisburg, PA September 29, 1995 September 29, 2005 7.50% Hampton Inn, Carlisle, PA June 16, 1997 June 16, 2017 8.00% Hampton Inn, Selinsgrove, PA September 9, 1996 September 9, 2016 8.00% Comfort Inn, Denver, PA August 4, 1995 August 4, 2015 8.05% Comfort Inn, Harrisburg, PA March 27, 1996 March 27, 2016 8.05% Clarion Suites, Philadelphia, PA August 4, 1995 August 4, 2015 5.30%
(1) Percentage of room revenues payable to the franchisors. HOLIDAY INN EXPRESS(R) AND HOLIDAY INN(R) ARE REGISTERED TRADEMARKS OF HOLIDAY HOSPITALITY CORPORATION. HOLIDAY HOSPITALITY CORPORATION HAS NOT ENDORSED OR APPROVED THE OFFERING. A GRANT OF A HOLIDAY INN EXPRESS OR HOLIDAY INN FRANCHISE LICENSE FOR CERTAIN OF THE INITIAL HOTELS IS NOT INTENDED AS, AND SHOULD NOT BE INTERPRETED AS, AN EXPRESS OR IMPLIED APPROVAL OR ENDORSEMENT BY HOLIDAY HOSPITALITY CORPORATION (OR ANY OF ITS AFFILIATES, SUBSIDIARIES OR DIVISIONS) OF THE COMPANY, THE PARTNERSHIP OR THE PRIORITY COMMON SHARES OFFERED HEREBY. HAMPTON INN(R) IS A REGISTERED TRADEMARK OF PROMUS HOTELS. PROMUS HOTELS HAS NOT ENDORSED OR APPROVED THE OFFERING. A GRANT OF A HAMPTON INN FRANCHISE LICENSE FOR CERTAIN OF THE INITIAL HOTELS IS NOT INTENDED AS, AND SHOULD NOT BE INTERPRETED AS, AN EXPRESS OR IMPLIED APPROVAL OR ENDORSEMENT BY PROMUS HOTELS (OR ANY OF ITS AFFILIATES, SUBSIDIARIES OR DIVISIONS) OF THE COMPANY, THE PARTNERSHIP OR THE PRIORITY COMMON SHARES OFFERED HEREBY. COMFORT INN(R) AND CLARION SUITES(R) ARE REGISTERED TRADEMARKS OF CHOICE HOTELS INTERNATIONAL. CHOICE HOTELS INTERNATIONAL HAS NOT ENDORSED OR APPROVED THE OFFERING. A GRANT OF A COMFORT INN FRANCHISE LICENSE FOR CERTAIN OF THE INITIAL HOTEL IS NOT INTENDED AS, AND SHOULD NOT BE INTERPRETED AS, AN EXPRESS OR IMPLIED APPROVAL OR ENDORSEMENT BY CHOICE HOTELS INTERNATIONAL (OR ANY OF ITS AFFILIATES, SUBSIDIARIES OR DIVISIONS) OF THE COMPANY, THE PARTNERSHIP OR THE PRIORITY COMMON SHARES OFFERED HEREBY. 53 Operating Practices The Company's management recognizes the need for aggressive, market driven, creative management given the competition in the hospitality industry. Each of the Initial Hotels will be managed by the Lessee under separate Percentage Leases with the Partnership. The Lessee intends to continue the management systems developed by the Hersha Affiliates. See "The Lessee." Employees The Company intends to be self-advised and thus will utilize the services of its officers rather than retain an advisor. Initially, the Company will have no employees other than its officers. See "Management--Trustees and Executive Officers." The Lessee will employ approximately 350 people in operating the Initial Hotels on behalf of the Lessee. Environmental Matters Under various federal, state and local laws and regulations, an owner or operator of real estate may be liable for the costs of removal or remediation of certain hazardous or toxic substances on such property. Such laws often impose such liability without regard to whether the owner knew of, or was responsible for, the presence of hazardous or toxic substances. Furthermore, a person that arranges for the disposal or transports for disposal or treatment a hazardous substance at a property owned by another may be liable for the costs of removal or remediation of hazardous substances released into the environment at that property. The costs of remediation or removal of such substances may be substantial, and the presence of such substances, or the failure to promptly remediate such substances, may adversely affect the owner's ability to sell such real estate or to borrow using such real estate as collateral. In connection with the ownership and operation of the Initial Hotels, the Company, the Partnership or the Lessee may be potentially liable for any such costs. Recent Phase I environmental assessments have been obtained on all of the Initial Hotels. The Phase I environmental assessments were intended to identify potential environmental contamination for which the Initial Hotels may be responsible. The Phase I environmental assessments included historical reviews of the Initial Hotels, reviews of certain public records, preliminary investigations of the sites and surrounding properties, screening for the presence of hazardous substances, toxic substances and underground storage tanks, and the preparation and issuance of a written report. The Phase I environmental assessments did not include invasive procedures, such as soil sampling or ground water analysis. The Phase I environmental assessments have not revealed any environmental liability that the Company believes would have a material adverse effect on the Company's business, assets, results of operations or liquidity, nor is the Company aware of any such liability. Nevertheless, it is possible that these environmental assessments do not reveal all environmental liabilities or that there are material environmental liabilities of which the Company is unaware. Moreover, no assurances can be given that (i) future laws, ordinances or regulations will not impose any material environmental liability, or (ii) the current environmental condition of the Initial Hotels will not be affected by the condition of the properties in the vicinity of the Initial Hotels (such as the presence of leaking underground storage tanks) or by third parties unrelated to the Company, the Partnership or the Lessee. The Company believes that the Initial Hotels are in compliance in all material respects with all federal, state and local ordinances and regulations regarding hazardous or toxic substances and other environmental matters. Neither the Company nor, to the knowledge of the Company, any of the current owners of the Initial Hotels have been notified by any governmental authority of any material noncompliance, liability or claim relating to hazardous or toxic substances or other environmental matter in connection with any of its present or former properties. Competition The hotel industry is highly competitive. Each of the Initial Hotels is located in a developed area that includes other hotels, many of which are competitive with the Initial Hotels in their locality. The number of competitive hotels in a particular area could have a material adverse effect on revenues of the Initial Hotels or at hotels acquired in the future. See "Business and Properties--The Initial Hotels." 54 There will be competition for investment opportunities in upper-economy and mid-scale hotels from entities organized for purposes substantially similar to the Company's objectives as well as other purchasers of hotels. The Company will be competing for such investment opportunities with entities which have substantially greater financial resources than the Company, including access to capital or better relationships with franchisors, lenders and sellers. The Company's competitors may generally be able to accept more risk than the Company can manage prudently and may be able to borrow the funds needed to acquire hotels. Competition may generally reduce the number of suitable investment opportunities offered to the Company and increase the bargaining power of property owners seeking to sell. See "Risk Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates." Insurance The Company will keep in force comprehensive insurance, including liability, fire, workers' compensation, extended coverage, rental loss and, when available on reasonable commercial terms, flood and earthquake insurance, with policy specifications, limits and deductibles customarily carried for similar properties. Certain types of losses, however (generally of a catastrophic nature such as acts of war, earthquakes, etc.), are either uninsurable or require such substantial premiums that the cost of maintaining such insurance is economically infeasible. Certain types of losses, such as those arising from subsidence activity, are insurable only to the extent that certain standard policy exceptions to insurability are waived by agreement with the insurer. See "Risk Factors--Real Estate Investment Risks--Uninsured and Underinsured Losses." The Company believes, however, that the Properties are adequately insured in accordance with industry standards. Depreciation To the extent that the Partnership acquires the Initial Hotels or the partnership interests in the Combined Entities in exchange for Subordinated Units, the Partnership's initial basis in each Initial Hotel for federal income tax purposes should be the same as the Combined Entities' basis in such Initial Hotel on the date of acquisition. Although the law is not entirely clear, the Partnership intends to depreciate such depreciable hotel property for federal income tax purposes over the same remaining useful lives and under the same methods used by the Combined Entities. The Partnership's tax depreciation deductions will be allocated among the partners in accordance with their respective interests in the Partnership (except to the extent that the Partnership is required under Code Section 704(c) to use a method for allocating depreciation deductions attributable to the Initial Hotels or other contributed properties that results in the Company receiving a disproportionately larger share of such deductions). Because the Partnership's initial basis in the Initial Hotels will be less than the fair market value of those hotels on the date of acquisition, the Company's depreciation deductions may be less than they otherwise would have been if the Partnership had purchased the Initial Hotels or the partnership interests in the Combined Entities entirely for cash. Legal Proceedings Neither the Company nor the Partnership is currently involved in any material litigation nor, to the Company's knowledge, is any material litigation currently threatened against the Company or the Partnership or any of the Initial Hotels. The Lessee has advised the Company that it currently is not involved in any litigation. The Combined Entities have represented to the Partnership that there is no material litigation pending, threatened against or affecting the Initial Hotels. Hersha Affiliates' Hotel Assets Not Acquired By The Company The Hersha Affiliates own the following hotels, which are not being acquired by the Company and are not subject to the Option Agreement: (i) Best Western, Indiana, Pennsylvania (107) rooms and (ii) Comfort Inn, McHenry, Maryland (76 rooms). In addition, the Hersha Affiliates own land in Carlisle, Pennsylvania, Valley Forge, Pennsylvania and Frederick, Maryland that could be used for hotel development. The Hampton Inn, Danville, Pennsylvania, the Harrisburg Inn, Harrisburg, Pennsylvania, the Sleep Inn, Pittsburgh, Pennsylvania, and the land owned by Hersha Affiliates in Carlisle, Pennsylvania are subject to the Option Agreement. See "Certain Relationships and Transactions--Option Agreement." Ground Leases 55 The land underlying the Holiday Inn Express in Harrisburg, Pennsylvania and the Comfort Inn in Denver, Pennsylvania each will be leased to the Partnership by certain Hersha Affiliates for aggregate rent of $21,000 per year for 99 years. See "Risk Factors--Possible Increase in Ground Lease Payments for Comfort Inn, Denver, Pennsylvania." Also, a portion of the land adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for $1 per year for 99 years. POLICIES AND OBJECTIVES WITH RESPECT TO CERTAIN ACTIVITIES The following is a discussion of the Company's policies with respect to investment, financing, conflicts of interest and certain other activities that have not been discussed elsewhere. The policies with respect to these activities have been determined by the Trustees and may be amended or revised from time to time at the discretion of the Trustees without a vote of the shareholders of the Company, except that (i) changes in certain policies with respect to conflicts of interest must be consistent with legal requirements and (ii) the Company cannot take any action intended to terminate its qualification as a REIT without the approval of the holders of two-thirds of the outstanding Priority Common Shares. Investment Policies The Company's principal investment policy is to acquire hotels that offer the potential for high current rates of return to the Company, a substantial dividend to the Company's shareholders and long term increases in value. The Company's business is focused solely on hotels. The Company's Acquisition Policy is to acquire a hotel for which it expects to receive rents at least equal to 12% of the purchase price paid for the hotel, net of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% (6% for full-service hotels) of gross revenues per quarter at the hotel. In the case of hotels with limited operating history or that have been newly renovated, the Company intends to institute a mechanism similar to the mechanism used for the Newly-Developed Hotels and Newly-Renovated Hotels for establishing a minimum initial fixed rent and adjusting the purchase price for each such hotel based upon the first two years of operating history of such hotel after opening or completion of renovation. The Trustees, however, may change the Acquisition Policy at any time without the approval of the Company's shareholders. See "--Growth Strategy--Acquisition Strategy" and "Risk Factors--Growth Strategy." The Company has not developed a policy in connection with a limit on the number or amount of mortgages that may be placed on any one piece of property owned by the Company. Although the Company intends primarily to acquire hotels, it also may participate with other entities in property ownership, through joint ventures or other types of co-ownership. Equity investments may be subject to existing mortgage financing and other indebtedness that may have priority over the equity interest of the Company. The Company intends to lease hotels that it acquires in the future to operators, including both the Lessee and operators unaffiliated with the Lessee. Future leases with the Lessee generally will be similar to the Percentage Leases. See "Business and Properties--The Percentage Leases." Future leases with operators unaffiliated with the Lessee may or may not be similar to the Percentage Leases. The Trustees will negotiate the terms and provisions of each future lease, depending on the purchase price paid, economic conditions and other factors deemed relevant at the time. While the Company will emphasize equity investments in hotels, it may, in its discretion, invest in mortgages and other real estate interests, including securities of other REITs. The Company may invest in participating, convertible or other types of mortgages if it concludes that by doing so it may benefit from the cash flow or any appreciation in the value of the subject property. Such mortgages are similar to equity participation, because they permit the lender to either participate in increasing revenues from the property or convert some or all of that mortgage to equity ownership interest. The Company does not presently intend to invest in mortgages or real estate interests other than hotels. Financing The Company's additional investments in hotels may be financed, in whole or in part, with undistributed cash, subsequent issuances of Priority Common Shares or other securities, or borrowings. The Company is currently pursuing with lenders the Line of Credit. A failure to obtain the Line of Credit could adversely affect the Company's ability to finance its growth strategy. See "Risk Factors-Dependence Upon External Financing." The Debt Policy will limit consolidated indebtedness to less than 67% of the aggregate purchase prices paid by the Company for the hotels in which it has invested. The Trustees, however, may change the Debt Policy at any time 56 without the approval of the Company's shareholders. The aggregate purchase prices for the Initial Hotels is approximately $47.3 million. After the Formation Transactions, the Assumed Indebtedness will be approximately $17.4 million. Because of the Debt Policy and the amount of the Assumed Indebtedness, the success of the Company's acquisition strategy will depend primarily on its ability to access additional capital through issuances of equity securities. See "Risk Factors--Risks of Leverage" and "Management's Discussion and Analysis of Financial Condition and Results of Operations--Liquidity and Capital Resources." The Company will invest in additional hotels only as suitable opportunities arise. The Company will not undertake investments in such hotels unless adequate sources of financing are available. The Bylaws require the approval of a majority of the Trustees, including a majority of the Independent Trustees, to acquire any additional hotel in which a Trustee or officer of the Company, or any Affiliate thereof, has any interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company). It is expected that future investments in hotels will be dependent on and financed by the proceeds from additional equity capital. The Trustees have the authority, without shareholder approval, to issue additional Priority Common Shares, preferred shares or other capital shares of the Company in any manner (and on such terms and for such consideration) as it deems appropriate, including in exchange for property. Existing shareholders have no preemptive right to purchase shares issued in any offering, and any such offering might cause a dilution of a shareholder's investment in the Company. Conflict of Interest Policies The Company has adopted certain policies designed to minimize the effects of potential conflicts of interest. In addition, the Partnership has entered into the Option Agreement with certain of the Hersha Affiliates. The Trustees are subject to certain provisions of Maryland law, which are designed to eliminate or minimize certain potential conflicts of interest. However, there can be no assurance that these policies always will be successful in eliminating the influence of such conflicts, and if they are not successful, decisions could be made that might fail to reflect fully the interests of all shareholders. Declaration of Trust and Bylaw Provisions The Company's Declaration of Trust, with limited exceptions, requires that three of the Company's Trustees be Independent Trustees. The Declaration of Trust provides that such Independent Trustee requirement may not be amended, altered, changed or repealed without the affirmative vote of at least a majority of the members of the Trustees and the affirmative vote of the holders of not less than two-thirds of the outstanding Priority Common Shares (and other shares of beneficial interest of the Company entitled to vote, if any exist). The Bylaws require that any action pertaining to any transaction involving the Company, including the purchase, sale, lease or mortgage of any real estate asset, in which a Trustee or an officer of the Company, or any Affiliate thereof, has an interest (other than solely as a result of his status as a trustee, officer or shareholder of the Company, must be approved by a majority of the Trustees, including a majority of the Independent Trustees. The Option Agreement Pursuant to the Option Agreement among Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha Affiliate, and the Partnership, the Partnership will have an option to acquire any hotels owned or developed in the future by the Hersha Affiliates within 15 miles of any of the Initial Hotels or any hotel subsequently acquired by the Partnership for two years after acquisition or development. The Partnership A conflict of interest may arise between the Company, as General Partner of the Partnership, and the Hersha Affiliates as limited partners of the Partnership, due to the differing potential tax liability to the Company and the Hersha Affiliates from the sale of an Initial Hotel or refinancing or prepayment of principal on any of the Assumed Indebtedness resulting from the differing tax bases in the Initial Hotels of the Company, on the one hand, and the Hersha Affiliates, on the other hand. The Bylaws provide that the Company's decisions with respect to any transaction, including the disposition of an Initial Hotel or refinancing or prepayment of principal on the Assumed Indebtedness, in which a Trustee or officer of the Company, or any Affiliate thereof, has any interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company) must be approved by a majority of the Trustees, including a majority of the Independent Trustees. The Partnership Agreement gives the Company, 57 as General Partner of the Partnership, full, complete and exclusive discretion in managing and controlling the business of the Partnership and in making all decisions affecting the business and assets of the Partnership. Provisions of Maryland Law Under Maryland law (the jurisdiction under which the Company is organized), the Trustees or shareholders of the Company are not personally liable for the obligations of the Company. The Trustees are not, however, relieved from liability to the Company or its shareholders for any act that constitutes bad faith, willful misfeasance, gross negligence or reckless disregard of the Trustee's duties. Maryland law permits a Maryland REIT to include in its Declaration of Trust a provision limiting the liability of its trustees to the trust and its shareholders for money damages except for liability resulting from (a) actual receipt of an improper benefit or profit in money, property or services or (b) active and deliberate dishonesty established by a final judgment and that is material to the cause of action. The Declaration of Trust of the Company contains such a provision limiting such liability to the maximum extent permitted by Maryland law. There is no Maryland statutory provision governing transactions between the Company and any of its Trustees. The Maryland General Corporation Law, however, provides that a transaction involving a director of a Maryland corporation or a corporation, firm or other entity in which such director is a director or has a material financial interest is not void or voidable solely because of the director's directorship or the director's interest in the transaction if (i) the transaction is authorized, approved or ratified, after disclosure of the interest, by the affirmative vote of a majority of the disinterested directors, or by the affirmative vote of a majority of the votes cast by shareholders entitled to vote other than the votes of shares owned of record or beneficially by the interested director or corporation, firm or other entity, or (ii) the transaction is fair and reasonable to the Company. In the absence of statutory provisions governing such transactions with respect to Maryland REITs, it is possible, though not certain, that the Maryland courts would look, by analogy, to the corporate provisions for guidance. Policies with Respect to Other Activities The Company has authority to offer shares of beneficial interest or other securities and to repurchase or otherwise reacquire its shares or any other securities and may engage in such activities in the future. As described under "Shares Available for Future Sale," the Company may issue Class B Common Shares or Priority Common Shares to holders of Units upon exercise of their Redemption Rights (as herein defined). The Company has not issued Class B Common Shares or Priority Common Shares, interests or any other securities to date, except in connection with the formation of the Company. The Company has no outstanding loans to other entities or persons, including its officers and Trustees. The Company has not engaged in trading, underwriting or agency distribution or sale of securities of other issuers, nor has the Company invested in the securities of other issuers other than the Partnership for the purpose of exercising control. The Company intends to make investments in such a way that it will not be treated as an investment company under the Investment Company Act of 1940, as amended. At all times, the Company intends to make investments in such a manner consistent with the requirements of the Code for the Company to qualify as a REIT unless, because of changing circumstances or changes in the Code (or in Treasury Regulations), the Trustees, with the consent of the holders of two-thirds of the outstanding Class B Common Shares or Priority Common Shares, determine that it is no longer in the best interests of the Company to qualify as a REIT. Working Capital Reserves The Company initially will have approximately $2.4 million in working capital reserves. In the future, the Company intends to set aside undistributed cash in amounts that the Trustees determine to be adequate to meet normal contingencies in connection with the operation of the Company's business and investments. The Company expects to obtain the Line of Credit, which may assist the Company in meeting its distribution and working capital needs. A failure to obtain the Line of Credit could adversely affect the Company's ability to finance its growth strategy. See "Risk Factors-Dependence Upon External Financing." 58 FORMATION TRANSACTIONS The Formation Transactions will be as follows: o The Company will sell 1,833,334 Priority Common Shares to the Underwriter at the Offering Price. The net proceeds to the Company from the Offering will be contributed to the Partnership in exchange for approximately a 32% general partnership interest in the Partnership. In addition, the Company will offer 166,666 Priority Common Shares to the Hersha Affiliates at the Offering Price. The information contained herein assumes that none of the 166,666 Priority Common Shares are sold. o The Partnership will acquire the Initial Hotels by acquiring either all of the partnership interests in the Combined Entities or the Initial Hotels in exchange for (i) Subordinated Units that will be redeemable, subject to certain limitations, for an aggregate of approximately 4 million Class B Common Shares, with a value of approximately $23.8 million based on the Offering Price and (ii) the assumption of approximately $23.8 million in indebtedness secured by all of the Initial Hotels, approximately $6.4 million of which will be repaid with the proceeds of the Offering. The purchase prices of the Newly-Developed Hotels and the Newly-Renovated Hotels will be adjusted on the First Adjustment Date or the Second Adjustment Date, as applicable, as described in "The Company." o The land underlying the Holiday Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver, Pennsylvania each will be leased to the Partnership by certain Hersha Affiliates for aggregate rent of $21,000 per year for 99 years. Also, a portion of the land adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for $1 per year for 99 years. o Each Initial Hotel will be leased to the Lessee pursuant to a Percentage Lease. The Percentage Leases will have an initial non-cancelable term of five years. All, but not less than all, of the Percentage Leases may be extended for an additional five-year term. At the end of the first extended term, the Lessee, at its option, may extend some or all of the Percentage Leases for the Initial Hotels. The Lessee will hold the Franchise License for each Initial Hotel. See "Business and Properties--The Percentage Leases." o The Partnership and certain of the Hersha Affiliates has entered into the Option Agreement, pursuant to which the Hersha Affiliates will agree that, if they develop or own any hotels in the future that are located within 15 miles of any Initial Hotel or subsequently acquired hotel, the Hersha Affiliates will give the Partnership the option to purchase such hotels for two years. See "Risk Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates" and "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement." o The Company and the Lessee will enter into the Administrative Services Agreement, pursuant to which the Lessee will provide certain administrative services in exchange for an annual fee equal to $55,000, plus $10,000 for each hotel owned by the Company. o The Company has granted the Underwriter the Underwriter Warrants to purchase 183,333 Priority Common Shares for a period of five years at a price per share equal to 165% of the Offering Price. o The Partnership has granted 2744 Associates, L.P., which is a Hersha Affiliate, the Hersha Warrants to purchase 250,000 Units for a period of five years at a price per Unit equal to 165% of the Offering Price. 59 Benefits to the Hersha Affiliates As a result of the Formation Transactions, the Hersha Affiliates will receive the following benefits: o The Hersha Affiliates will receive approximately 4 million Subordinated Units in exchange for their interests in the Initial Hotels, which will have a value of approximately $23.8 million based on the Offering Price. The Subordinated Units held by the Hersha Affiliates will be more liquid than their current interests in the Selling Entities if a public trading market for the Class B Common Shares commences or when such shares are converted into Priority Common Shares and after the applicable holding periods expire. o The Lessee, which is owned by the Hersha Affiliates, will hold the Franchise Licenses for the Initial Hotels and will be entitled to all revenues from the Initial Hotels after payment of Rent under the Percentage Leases and other operating expenses. The Company will pay certain expenses in connection with the transfer of the Franchise Licenses to the Lessee. See "The Lessee." o Approximately $6.4 million of indebtedness owed by the Combined Entities will be repaid with a portion of the proceeds of the Offering. Approximately $4 million of such indebtedness is owed to entities controlled by the Hersha Affiliates and relates principally to hotel development expenses in connection with the Initial Hotels. Certain of the Assumed Indebtedness is and will remain guaranteed by the Hersha Affiliates. Upon the repayment of such indebtedness, the Hersha Affiliates will be released from the related guarantees. The Hersha Affiliates may receive increased cash distributions from the operations of the Initial Hotels as a result of the reduction of indebtedness on the Initial Hotels. o If the repricing on the First Adjustment Date or the Second Adjustment Date, as applicable, produces a higher value for the Newly-Developed Hotels or the Newly-Renovated Hotels, the Hersha Affiliates will receive an additional number of Subordinated Units that, when multiplied by the Offering Price, equals the increase in value plus the value of any distributions that would have been made in connection with such Subordinated Units if such Subordinated Units had been issued in connection with the acquisition of such hotels. o The Lessee, which is owned by the Hersha Affiliates, will receive an annual fee equal to $55,000, plus $10,000 for each hotel owned by the Company for providing certain administrative services to the Company. o Certain tax consequences to the Hersha Affiliates from the transfer of equity interests in the Initial Hotels will be deferred. o Messrs. Hasu P. Shah, K.D. Patel and Bharat C. Mehta will receive $7,500 per year for serving as Trustees. Mr. Shah shall also be entitled to receive a salary of not more than $100,000 per year provided that the Priority Common Shares have a closing price of $9.00 per share or higher for 20 consecutive trading days and remain at or above $9.00 per share. o The Partnership has granted to 2744 Associates, L.P., which is a Hersha Affiliate, the Hersha Warrants to purchase 250,000 Units for a period of five years at a price per share equal to 165% of the Offering Price. o Certain of the Hersha Affiliates will receive a total of $21,000 per year pursuant to 99-year ground leases with respect to the Holiday Inn Express, Harrisburg, Pennsylvania and the Comfort Inn, Denver, Pennsylvania. o A portion of the land adjacent to the Hampton Inn, Selinsgrove, Pennsylvania will be leased to a Hersha Affiliate for $1 per year for 99 years. 60 MANAGEMENT Trustees and Executive Officers Initially, the Trustees will consist of seven members, three of whom are Independent Trustees. All of the Trustees will serve staggered terms of two years and the Trustees will be divided into two classes. Each Trustee in Class I will hold office initially for a term expiring at the first annual meeting of shareholders (1999) and each Trustee in Class II will hold office initially for a term expiring at the second annual meeting of shareholders (2000). Certain information regarding the Trustees and executive officers of the Company is set forth below. Name Age Position ---- --- -------- Hasu P. Shah (Class II) 53 Chairman of the Board, Chief Executive Officer and Trustee Kiran P. Patel 48 Chief Financial Officer, Treasurer and Secretary Bharat C. Mehta (Class II)* 53 Trustee K.D. Patel (Class II)* 54 Trustee L. McCarthy Downs, III (Class I)* 45 Trustee Everette G. Allen, Jr. (Class I)* 58 Independent Trustee Thomas S. Capello (Class II)* 55 Independent Trustee Mark R. Parthemer (Class I)* 38 Independent Trustee * Has agreed to become a Trustee upon or immediately before the consummation of the Offering. Hasu P. Shah is the President and CEO of Hersha Enterprises, Ltd. and has held that position since its inception in 1984. He started Hersha Enterprises, Ltd. with the purchase of the 125-room Quality Inn Riverfront in Harrisburg, Pennsylvania which he converted to a 117-room Holiday Inn Express. Recently the "Central Penn Business Journal" honored Hersha Enterprises, Ltd. as one of the Fifty Fastest Growing Companies in 1997 in central Pennsylvania. His interest in construction and renovations of hotels initiated the development of Hersha Construction Company for the construction and renovation of new properties and Hersha Hotel Supply Company to supply furniture, fixtures and equipment supplies to the properties. Mr. Shah and his wife, Hersha, are active members of the community. Mr. Shah serves on the Board of Directors of several organizations including the Pennsylvania State University Capital Campus in Harrisburg, Pennsylvania, the Harrisburg Foundation, Human Enrichment by Love and Peace (H.E.L.P.), the Capital Region Chamber of Commerce and the Vraj Hindu Temple. Mr. Shah received a Bachelors of Science degree in Chemical Engineering from Tennessee Technical University and obtained a Masters degree in Administration from Pennsylvania State University. K.D. Patel has been a principal of Hersha Enterprises, Ltd. since 1989. Mr. Patel currently serves as the President of the Lessee. He has received national recognition from Holiday Inn Worldwide for the successful management of Hersha's Holiday Inn Express Hotels. In 1996, Mr. Patel was appointed by Holiday Inn Worldwide to serve as an advisor on its Sales and Marketing Committee. Prior to joining Hersha Enterprises, Ltd., Mr. Patel was employed by Dupont Electronics in New Cumberland, Pennsylvania from 1973 to 1990. He is a member of the Board of Directors of a regional chapter of the American Red Cross and serves on the Advisory Board of Taneytown Bank and Trust. Mr. Patel received a Bachelor of Science degree in Mechanical Engineering from the M.S. University of India and a Professional Engineering License from the Commonwealth of Pennsylvania in 1982. Bharat C. Mehta has been a principal of Hersha Enterprises, Ltd. since 1985. Mr. Mehta currently serves as President of Hersha Health Care Management Division of Hersha Enterprises, Ltd. Mr. Mehta worked as a chemical engineer from 1967 to 1984 for Lever Brothers Corporation (UniLever, a multinational company). He also worked for the Pennsylvania Department of Environmental Services in the Bureau of Water Quality 61 Management as Chief of the Program Planning and Evaluation Section. He is a member of his local chapter of the Rotary Club. Mr. Mehta received a Bachelor of Science degree in Chemical Engineering from the Worcester Polytechnic Institute in Massachusetts and earned a Masters degree from Pennsylvania State University. Kiran P. Patel has been a principal of Hersha Enterprises, Ltd. since 1993. Mr. Patel is currently the partner in charge of Hersha's Land Development and Business Services Divisions. Prior to joining Hersha Enterprises, Ltd., Mr. Patel was employed by AMP Incorporated, in Harrisburg, Pennsylvania. Mr. Patel serves on various Boards for community service organizations. Mr. Patel received a Bachelor of Science degree in Mechanical Engineering from M.S. University of India and obtained a Masters of Science degree in Industrial Engineering from the University of Texas in Arlington. L. McCarthy Downs, III, is the Senior Vice President and Manager of the Corporate Finance Department of the Underwriter. He has held the position since 1990 and has been involved in several public and private financings for REITs. Prior to 1990, Mr. Downs was employed by another investment banking and brokerage firm for seven years. Mr. Downs received a Bachelor of Science degree in Business Administration from The Citadel and obtained an M.B.A. from The College of William and Mary. Everette G. Allen, Jr. is chairman of and a senior partner in the law firm of Hirschler, Fleischer, Weinberg, Cox & Allen, P.C. in Richmond, Virginia. Mr. Allen concentrates his practice in litigation, real estate development, commercial disputes law, finance and debt restructuring and has been practicing at Hirschler, Fleischer since 1970. Mr. Allen was admitted to the Virginia State Bar in 1965. He served as Executive Editor of the Virginia Law Review from 1964 to 1965 and served as a Law Clerk to Fourth Circuit Judge Albert V. Bryan of the U.S. Court of Appeals during 1965 and 1966. He was a member of the Board of Trustees of Randolph-Macon College from 1988 to 1992. Mr. Allen currently serves as a member of the American College of Trial Lawyers, a member of the Board of Directors of Virginia Gas Company and as a Trustee of the Virginia Student Aid Foundation. Mr. Allen received his B.A. degree from Randolph Macon College in 1962 and his law degree from University of Virginia in 1965. Thomas S. Capello is President, Chief Executive Officer and Director of First Capitol Bank in York, Pennsylvania and has held these positions since its founding in 1988. First Capitol Bank specializes in small business lending and has expanded into three branches with assets of almost $105,000,000. From 1983 to 1988 Mr. Capello served as Vice President and Manager of the Loan Production Office of The First National Bank of Maryland. Prior to his service at the First National Bank of Maryland, Mr. Capello served as Vice President and Senior Regional Lending Officer at Commonwealth National Bank and worked at the Pennsylvania Development Credit Corporation. Mr. Capello is an active member of the board of the Central Pennsylvania Venture Capital Forum, Farm and National Lands Trust, Better York, WITF, Martin Library, Motter Printing Company, 19th District, Second Mile and Shadofax. Mr. Capello is a graduate of the Stonier Graduate School of Banking at Rutgers University and holds an undergraduate degree with a major in Economics from Pennsylvania State University. Mark R. Parthemer has served as Special Counsel at Saul, Ewing, Remick & Saul LLP in the Harrisburg, Pennsylvania office since January, 1998. Mr. Parthemer concentrates his practice in general business, tax and estates law. Prior to joining Saul, Ewing, Remick & Saul LLP, Mr. Parthemer worked at Coopers & Lybrand LLP as a tax specialist from 1985 to October 1989. From October 1989 to January 1998 he worked at, and became a partner of, Boswell, Tintner, Piccola & Wickersham, another law firm located in Harrisburg, Pennsylvania. Mr. Parthemer is the current First Assistant Solicitor of Dauphin County where he advises the County Commissioners on legal matters, including tax, business and finance. He has recently been appointed to the Board of Keystone Area Council, Boy Scouts of America and the Board of The Vision Foundation. Mr. Parthemer received his B.A. and B.S. degrees from Franklin and Marshall College and his law degree from The Dickinson School of Law. He is admitted to practice law in Pennsylvania and before the United States Tax Court. Audit Committee The Audit Committee will consist of the three Independent Trustees. The Audit Committee will make recommendations concerning the engagement of independent public accountants, review with the independent public accountants the plans and results of the audit engagement, approve professional services provided by the independent public accountants, review the independence of the independent public accountants, consider the range of audit and non-audit fees and review the adequacy of the Company's internal accounting controls. The Audit Committee will 62 establish procedures to monitor compliance with the REIT provisions of the Code and the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and such other laws and regulations applicable to the Company. Compensation Committee The Compensation Committee will consist of the three Independent Trustees. The Compensation Committee will determine compensation for the Company's executive officers and administer the Hersha Hospitality Trust Option Plan (the "Option Plan"). Compensation Each Trustee will initially be paid $10,000 per year for those residing outside the State of Pennsylvania and $7,500 per year for those residing in the State of Pennsylvania, payable in quarterly installments. In addition, the Company will reimburse all Trustees for reasonable out-of-pocket expenses incurred in connection with their services on the Board of Trustees. No officers of the Company initially shall receive any cash compensation from the Company other than the Trustee's fees for those officers who are Trustees, provided, however, that the Chairman of the Board of Trustees shall be entitled to receive a salary of not more than $100,000 per year provided that the Priority Common Shares have a bid price of $9.00 per share or higher for 20 consecutive trading days and remains at or above $9.00 per share. The Independent Trustees who are members of the Board on the effective date of the Offering will receive on that date options to purchase the following Class B Common Shares at the Offering Price: Mr. Allen, 30,000; Mr. Capello, 10,000; and Mr. Parthemer, 1,000. The options will be granted under the Hersha Hospitality Trust Non-Employee Trustees' Option Plan (the "Trustees' Plan"), which may be amended by the Board to provide for other awards, including awards to future Independent Trustees. The options granted on the effective date of the Offering will become exercisable as described below under "The Trustees' Plan." Exculpation and Indemnification The Maryland REIT Law permits a Maryland real estate investment trust to include in its Declaration of Trust a provision limiting the liability of its trustees and officers to the trust and its shareholders for money damages except for liability resulting from (a) actual receipt of an improper benefit or profit in money, property or services or (b) active and deliberate dishonesty established by a final judgment and that is material to the cause of action. The Declaration of Trust of the Company contains such a provision which eliminates such liability to the maximum extent permitted by the Maryland REIT Law. The Declaration of Trust of the Company authorizes it, to the maximum extent permitted by Maryland law, to obligate itself to indemnify and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any present or former shareholder, Trustee or officer or (b) any individual who, while a Trustee of the Company and at the request of the Company, serves or has served another real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or any other enterprise as a trustee, director, officer or partner of such real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or other enterprise from and against any claim or liability to which such person may become subject or which such person may incur by reason of his status as a present or former shareholder, Trustee or officer of the Company. The Bylaws of the Company obligate it, to the maximum extent permitted by Maryland law, to indemnify: (a) any present or former Trustee, officer or shareholder (including any individual who, while a Trustee, officer or shareholder and at the express request of the Company, serves another entity as a director, officer, shareholder, partner or trustee of such entity) who has been successful, on the merits or otherwise, in the defense of a proceeding to which he was made a party by reason of service in such capacity, against reasonable expenses incurred by him in connection with the proceeding; (b) subject to certain limitations under Maryland law, any present or former Trustee or officer against any claim or liability to which he may become subject by reason of such status; and (c) each present or former shareholder against any claim or liability to which he may become subject by reason of such status. In addition, the Bylaws obligate the Company, subject to certain provisions of Maryland law, to pay or reimburse, in advance of final disposition of a proceeding, reasonable expenses incurred by a present or former Trustee, officer or shareholder made a party to a proceeding by reason of such status. The Company may, with the approval of its Trustees, provide such indemnification or payment or reimbursement of expenses to any present or former Trustee, officer or shareholder of the Company or any predecessor of the Company and to any employee or agent of the Company or predecessor of the Company. 63 The Maryland REIT Law permits a Maryland real estate investment trust to indemnify and advance expenses to its trustees, officers, employees and agents to the same extent as permitted by the MGCL for directors and officers of Maryland corporations. The MGCL permits a corporation to indemnity its present and former directors and officers, among others, against judgments, penalties, fines, settlements and reasonable expenses actually incurred by them in connection with any proceeding to which they may be made a party by reason of their service in those or other capacities unless it is established that (a) the act or omission of the director or officer was material to the matter giving rise to the proceeding and (i) was committed in bad faith or (ii) was the result of active and deliberate dishonesty, (b) the director or officer actually received an improper personal benefit in money, property or services or (c) in the case of any criminal proceeding, the director or officer had reasonable cause to believe that the act or omission was unlawful. However, a Maryland corporation may not indemnify for an adverse judgment in a suit by or in the right of the corporation or for a judgment of liability on the basis that personal benefit was improperly received, unless in either case a court orders indemnification and then only for expenses. In accordance with the MGCL, the Bylaws of the Company require it, as a condition to advancing expenses, to obtain (a) a written affirmation by the Trustee or officer of his good faith belief that he has met the standard of conduct necessary for indemnification by the Company as authorized by the Bylaws and (b) a written undertaking by him or on his behalf to repay the amount paid or reimbursed by the Company if it shall ultimately be determined that the standard of conduct was not met. The Option Plan The Board of Trustees has adopted, and the current sole shareholder of the Company has approved, the Option Plan for the purpose of attracting and retaining executive officers and employees. The Option Plan will be administered by the Board of Trustees prior to the Offering and by the Compensation Committee of the Board of Trustees, or its delegate, following the Offering. The Compensation Committee may not delegate its authority with respect to option awards to individuals subject to Section 16 of the Exchange Act. As used in this summary, the term "Administrator" means the Board of Trustees, the Compensation Committee or its delegate, as appropriate. Officers and other employees of the Company are eligible to participate in the Option Plan. The Administrator selects the individuals who will participate in the Option Plan ("Participants"). The Option Plan authorizes the issuance of options to purchase up to 650,000 Class B Common Shares. The Option Plan provides for, in the event Class B Common Shares are converted into another security of the Company, the issuance of equivalent amounts of such security and options to purchase such security into which the Class B Common Shares are converted. The Plan provides for the grant of (i) options intended to qualify as incentive stock options ("ISOs") under Section 422 of the Code, and (ii) options not intended to so qualify ("nonqualified options"). Code Section 422 imposes various requirements in order for an option to qualify as an ISO, including allowing a maximum ten-year term of the option and an option price not less than the fair market value of the underlying shares on the date of grant. In addition, under Code Section 422, no Participant may receive ISOs (under all incentive share option plans of the Company and its parent or subsidiary corporations) that are first exercisable in any calendar year for Class B or Priority Common Shares having an aggregate fair market value (determined as of the date the ISO is granted) that exceeds $100,000 (the "$100,000 Limit"). To the extent options first become exercisable by a Participant in any calendar year for a number of Class B or Priority Common Shares in excess of the $100,000 Limit, they will be treated as nonqualified options. The principal difference between options qualifying as ISOs under Code Section 422 and nonqualified options is that a Participant generally will not recognize ordinary income at the time an ISO is granted or exercised, but rather at the time the Participant disposes of shares acquired under the ISO. In contrast, the exercise of a nonqualified option generally is a taxable event that requires the Participant to recognize, as ordinary income, the difference between the shares' fair market value and the option price. The employer will not be entitled to a federal income tax deduction on account of the grant or the exercise of an ISO, whereas the employer is entitled to a federal income tax deduction on account of the exercise of a nonqualified option equal to the ordinary income recognized by the Participant. The employer may claim a federal income tax deduction on account of certain dispositions of shares acquired upon the exercise of an ISO. Options under the Option Plan may be awarded by the Administrator, and the Administrator will determine the option exercise period and any conditions on exercisability. The options granted under the Option Plan will be exercisable only if (i) the Company obtains a per share closing price on the Priority Common Shares of $9.00 or higher for 20 consecutive trading days and (ii) the closing price on the Priority Common Shares for the prior trading day was $9.00 or higher. In addition, no option granted under the Option Plan may be exercised more than five 64 years after the date of grant. The exercise price for options granted under the Option Plan will be determined by the Compensation Committee at the time of grant, but will not be less than the fair market value of the Class B Common Shares on the date of grant. No Participant may be granted, in any calendar year, options for more than ______ Class B Common Shares. An option may be exercised for any number of Class B Common Shares up to the full number for which the option could be exercised. A Participant will have no rights as a shareholder with respect to Class B Common Shares subject to an option until the option is exercised. Any Class B Common Shares subject to options which are forfeited (or expire without exercise) pursuant to the terms established at the time of grant will again be available for grant under the Option Plan. Payment of the exercise price of an option granted under the Option Plan may be made in cash, cash equivalents acceptable to the Compensation Committee or, if permitted by the option agreement, by exchanging Class B Common Shares having a fair market value equal to the option exercise price. No option award may be granted under the Option Plan more than 10 years after the earlier of the date that the Board of Trustees adopted, or the shareholder of the Company approved, the Plan. The Board may amend or terminate the Option Plan at any time, but an amendment will not become effective without shareholder approval if the amendment increases the number of shares that may be issued under the Option Plan (other than equitable adjustments upon certain corporate transactions). No amendment will affect a Participant's outstanding award without the Participant's consent. On the effective date of the Offering, the Company will grant options under the Option Plan for an aggregate of _______ Class B Common Shares, including options [description of awards to officers]. The Trustees' Plan Prior to the Offering, the Board of Trustees will also adopt, and the Company's sole shareholder will approve, the Trustees' Plan to provide incentives to attract and retain Independent Trustees. The Trustees' Plan authorizes the issuance of up to 200,000 Class B Common Shares. The Trustees' Plan provides for, in the event the Class B Common Shares are converted into another security of the Company, the issuance of equivalent amounts of such security and options to purchase such security into which the Class B Common Shares are converted. The Trustees' Plan provides for the grant of nonqualified options for the following Class B Common Shares to the Independent Trustees of the Company who are members of the Board on the effective date of the Offering: Mr. Allen, 30,000; Mr. Capello, 10,000; and Mr. Parthemer, 1,000. The exercise price of each such option will be equal to the Offering Price. Each such option shall become exercisable over the particular Trustee's initial term, provided that the Trustee is a member of the Board on the applicable date. Thus, all of Mr. Allen's and Mr. Parthemer's options will become exercisable as of the first anniversary of the date of grant and one-half of Mr. Capello's options will become exercisable on the first anniversary of the date of grant and the remaining options will become exercisable on the second anniversary of the date of grant. Notwithstanding the foregoing, an option granted under the Trustees' Plan will be exercisable only if (i) the Company obtains a per share closing price on the Priority Common Shares of $9.00 for 20 consecutive trading days and (ii) the per share closing price on the Priority Common Shares for the prior trading day was $9.00 or higher. Options issued under the Trustees' Plan are exercisable for five years from the date of grant. A Trustee's outstanding options will become fully exercisable if the Trustee ceases to serve on the Board due to death or disability. All awards granted under the Trustees' Plan shall be subject to Board or other approval sufficient to provide exempt status for such grants under Section 16 of the Exchange Act, as that section and Rules thereunder are in effect from time to time. No option may be granted under the Trustees' Plan more than 10 years after the date that the Board of Trustees approved the Plan. The Board may amend or terminate the Trustees' Plan at any time but an amendment will not become effective without shareholder approval if the amendment increases the number of shares that may be issued under the Trustees' Plan (other than equitable adjustments upon certain corporate transactions). 65 CERTAIN RELATIONSHIPS AND TRANSACTIONS The Company and the Partnership have entered into a number of transactions with the Hersha Affiliates in connection with the organization of the Company and the acquisition of the Initial Hotels. The officers and Trustees of the Company collectively own 35% of the Lessee. The Lessee is entitled to all income from the hotels after payment of operating expenses and lease payments. There are no assurances that the terms of these transactions are as favorable as those that the Company could have received from third parties. See "Risk Factors - --Conflicts of Interest" and "Formation Transactions." Repayment of Indebtedness and Guarantees by Mr. Shah and the Hersha Affiliates Approximately $6.4 million of indebtedness owed by the Combined Entities will be repaid with a portion of the proceeds of the Offering. Approximately $4 million of such indebtedness is owed to entities controlled by the Hersha Affiliates and relates principally to hotel development expenses in connection with the Initial Hotels. Certain of the Assumed Indebtedness is and will remain guaranteed by the Hersha Affiliates. Upon the repayment of such indebtedness, the Hersha Affiliates will be released from the related guarantees. The Hersha Affiliates may receive increased cash distributions from the operations of the Initial Hotels as a result of the reduction of indebtedness on the Initial Hotels. Mr. Shah and the partners of the Combined Entities guarantee all of the Assumed Indebtedness, and the personal bankruptcy of any of the guarantors would constitute a default under the related loan documents. Hotel Ownership and Management Subject to the terms of the Option Agreement, the Hersha Affiliates could acquire additional hotels that may not be acquired subsequently by the Partnership. See "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement" and "Risk Factors--Conflicts of Interest--Competing Hotels Owned or to be Acquired by the Hersha Affiliates." Option Agreement Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha Affiliate, and the Partnership have entered into the Option Agreement. Pursuant to the Option Agreement, the Partnership will have a two-year option to acquire any hotels acquired or developed by the Hersha Affiliates within 15 miles of any of the Initial Hotels or any subsequently acquired hotel, including the Hampton Inn, Danville, Pennsylvania, the Harrisburg Inn, Harrisburg, Pennsylvania, the Sleep Inn, Pittsburgh, Pennsylvania and the land owned by Hersha Affiliates in Carlisle, Pennsylvania. With respect to the Hampton Inn, Danville, Pennsylvania and the Sleep Inn, Pittsburgh, Pennsylvania, the Partnership and the Hersha Affiliate that owns the hotel have agreed that if the option is exercised by the Partnership, they will use a purchase price methodology similar to the methodology used for the Newly-Developed Hotels and have agreed to fix the rent until the hotel has two years of operating history. In addition, the Partnership has agreed that, if the option is exercised by the Partnership, it will issue Units valued at $6.00 per Unit as consideration for the purchase of the hotel. See "Policies and Objectives with Respect to Certain Activities--Conflict of Interest Policies--The Option Agreement." The rights granted to the Partnership under the Option Agreement commenced as of the date of the Option Agreement and shall terminate one year after the later of: (i) the date upon which Hasu P. Shah ceases to be a trustee, officer, partner or employee of the Company; (ii) the date on which Hasu P. Shah ceases to be an employee, officer, trustee or director of a consultant to the Company; (iii) the date on which Hasu P. Shah and the Hersha Affiliates cease to own, in the aggregate, assuming a complete conversion of all Units into shares of beneficial interest in the Company, greater than 50% of shares of beneficial interest in the Company; or (iv) the date on which the Company's Board of Trustees has less than three members that are Hersha Affiliates. Payment of Franchise Transfer Fees by the Company The Company will pay certain expenses in connection with the transfer of the Franchise Licenses to the Lessee. See "Formation Transactions--Benefits to the Hersha Affiliates." 66 THE LESSEE The Lessee is a recently-formed Pennsylvania limited partnership. The Lessee will lease each Initial Hotel pursuant to a separate Percentage Lease. The Partnership intends to lease to the Lessee additional hotels acquired by the Partnership on terms and conditions substantially similar to the Percentage Leases applicable to the Initial Hotels. The Lessee's ability to perform its obligations, including making Rent payments under the Percentage Leases, will be dependent on the Lessee's ability to generate sufficient net cash flow from the operation of the Initial Hotels and any other hotels leased to the Lessee. The Lessee's obligations under the Percentage Leases are unsecured. Mr. Shah will not guarantee the Lessee's obligations under the Percentage Leases, but the Percentage Leases will contain cross-default provisions. Accordingly, the Lessee's failure to make required payments under any of the Percentage Leases will allow the Company to terminate any or all of the Percentage Leases. The Hersha Affiliates own 100% of the Lessee and certain Hersha Affiliates serve as officers of the Company. Consequently, they have a conflict of interest regarding the enforcement of the Percentage Leases. See "Risk Factors--Conflicts of Interest--No Arm's-Length Bargaining on Percentage Leases, Contribution Agreements, Administrative Services Agreement and Option Agreement" and "Business and Properties." The Lessee will provide all employees and perform all marketing, accounting and management functions necessary to operate the Initial Hotels pursuant to the Percentage Leases. The Lessee has in-house programs for accounting and the management and marketing of the Initial Hotels. The Lessee intends to utilize its sales management program to coordinate, direct and manage the sales activities of personnel located at the hotels. Management of the Lessee Certain information regarding the management of the Lessee is set forth below: Name Age Position ---- --- -------- K.D. Patel 54 President Jay H. Shah 30 Vice President, General Counsel and Secretary Rajendra O. Gandhi 49 Vice President David L. Desfor 37 Controller Tracy L. Kundey 37 Director of Operations K.D. Patel, biographical information for whom is set forth under "Management--Trustees and Executive Officers," will serve as President of the Lessee. Jay H. Shah will serve as Vice President, Secretary and General Counsel of the Lessee. Mr. Shah is a principal and general counsel for Hersha Enterprises, Ltd. Mr. Shah also takes an active role in the firm's development and construction activities. He also serves on the Choice Hotels International Franchise Board. Mr. Shah was employed by Coopers & Lybrand LLP as a tax consultant in 1995 and 1996 and previously served the late Senator John Heinz as a Legislative Assistant. He also was employed by the Philadelphia District Attorney's office and two Philadelphia-based law firms. Mr. Shah received a Bachelor of Science degree from the Cornell University School of Hotel Administration, a Masters degree from the Temple University School of Business Management and a Law degree from Temple University School of Law. Mr. Shah is the son of Hasu P. Shah, the Company's Chairman and Chief Executive Officer. Rajendra O. Gandhi will serve as Vice President of the Lessee. Mr. Gandhi has been a principal of Hersha Enterprises, Ltd. since 1986. Mr. Gandhi currently serves as President of Hersha Hotel Supply, Inc., which provides furnishings, case goods and interior furnishing materials to hotels and nursing homes in several states. Mr. Gandhi is a graduate of the University of Bombay, India and obtained an MBA degree from the University of West Palm Beach, Florida. 67 David L. Desfor will serve as Vice President of the Lessee. Mr. Desfor has been a principal of Hersha Enterprises, Ltd. since 1991. Mr. Desfor is currently the Controller of Hersha Enterprises, Ltd. Mr. Desfor is a graduate of East Stroudsburg University with a Bachelor of Science degree in Hotel Management. Tracy L. Kundey will serve as the Director of Operations of the Lessee. Mr. Kundey was previously with Wellsprings Management Group, Inc., a company that he founded with a partner. He held the position of President responsible for all aspects of a hospitality management company. Mr. Kundey has 19 years of experience in the hospitality industry ranging from front desk attendant to Corporate Rooms Division Manager. He is a Certified Hotel Administrator and Certified Rooms Division Executive. Mr. Kundey has a Bachelors of Science Degree from Eastern Washington University. 68 PRINCIPAL SHAREHOLDERS The following table sets forth certain information regarding the beneficial ownership of Priority and Class B Common Shares by (i) each Trustee of the Company, (ii) each executive officer of the Company and (iii) by all Trustees and executive officers of the Company as a group immediately following completion of the Formation Transactions. Unless otherwise indicated, all shares are owned directly and the indicated person has sole voting and investment power. The number of shares represents the number of Priority Common Shares into which Subordinated Units expected to be held by the person may be redeemed in certain circumstances. Number of Shares Percent of Name of Beneficial Owner Beneficially Owned Class - ------------------------ ------------------ ---------- Hasu P. Shah(1) 623,000(2) 22.8% K.D. Patel 451,900(2) 16.1% Bharat C. Mehta 736,200(2) 25.8% Kiran P. Patel 309,400(2) 12.0% L. McCarthy Downs 0 0% Everette G. Allen, Jr. 30,000 ____ Thomas S. Capello 10,000 ____ Mark R. Parthemer 1,000 ____ Total for all officers and Trustees 2,161,500(3) 49.3% - --------------------- (1) Prior to the Offering, the Company will repurchase 100 Class B Common Shares currently owned by Mr. Shah at his cost of $100. (2) Represents Subordinated Units to be owned by such person upon completion of the Formation Transactions and assumes (i) that all Subordinated Units held by such person are redeemed for Class B Common Shares and (ii) conversion of the Class B Common Shares into Priority Common Shares on a one-for-one basis. The total number of shares outstanding used in calculating the percentage assumes that none of the Subordinated Units held by other persons are redeemed for Class B Common Shares. Such Subordinated Units generally are not redeemable for Class B Common Shares until at least one year following the acquisition of the Initial Hotels. Does not include any Priority Common Shares that such person may purchase from the Company is the offering of 166,666 shares to Hersha Affiliates. (3) Assumes (i) that all Subordinated Units held by such persons are redeemed for Class B Common Shares and (ii) conversion of the Class B Common Shares into Priority Common Shares on a one-for-one basis. The total number of shares outstanding used in calculating the percentage assumes that none of the Subordinated Units held by other persons are redeemed for Class B Common Shares. Such Subordinated Units generally are not redeemable for Class B Common Shares until at least one year following the acquisition of the Initial Hotels. 69 DESCRIPTION OF SHARES OF BENEFICIAL INTEREST The following summary of the terms of the shares of beneficial interest of the Company does not purport to be complete and is subject to and qualified in its entirety by reference to the Declaration of Trust and Bylaws of the Company, copies of which are exhibits to the Registration Statement of which this Prospectus is a part. See "Additional Information." General The Declaration of Trust of the Company provides that the Company may issue up to 50,000,000 priority Class A common shares of beneficial interest, $0.01 par value per share ("Priority Common Shares"), 50,000,000 Class B common shares of beneficial interest, $0.01 par value per share ("Class B Common Shares"), and 10,000,000 preferred shares of beneficial interest, $0.01 par value per share ("Preferred Shares"). Upon completion of this Offering and the related transactions, 2,000,000 Priority Common Shares will be issued and outstanding and no Class B Common or Preferred Shares will be issued and outstanding. Upon the termination of the Priority Period (as herein defined), the outstanding Class B Common Shares will be automatically converted into Priority Common Shares on a one-for-one basis. As permitted by the Maryland statute governing real estate investment trusts formed under the laws of that state (the "Maryland REIT Law"), the Declaration of Trust contains a provision permitting the Board of Trustees, without any action by the shareholders of the Company, to amend the Declaration of Trust to increase or decrease the aggregate number of shares of beneficial interest or the number of shares of any class of shares of beneficial interest that the Company has authority to issue. Both the Maryland REIT Law and the Company's Declaration of Trust provide that no shareholder of the Company will be personally liable for any obligation of the Company solely as a result of his status as a shareholder of the Company. The Company's Bylaws further provide that the Company shall indemnify each shareholder against any claim or liability to which the shareholder, subject to certain limitations, may become subject by reason of his being or having been a shareholder or former shareholder and that the Company shall pay or reimburse each shareholder or former shareholder for all legal and other expenses reasonably incurred by him in connection with any claim or liability. Inasmuch as the Company carries public liability insurance which it considers adequate, any risk of personal liability to shareholders is limited to situations in which the Company's assets plus its insurance coverage would be insufficient to satisfy the claims against the Company and its shareholders. The Priority Common Shares General The holders of the Priority Common Shares shall be entitled to the Priority Rights for the Priority Period. The Priority Period is the period beginning on the date of the closing of the Offering and ending on the earlier of: (i) the date that is 15 trading days after the Company sends notice to the holders of the Priority Common Shares that their Priority Rights will terminate in 15 trading days, provided that the closing bid price of the Priority Common Shares is at least $7.00 on each trading day during such 15-day period; or (ii) the fifth anniversary of the closing of the Offering. Notwithstanding the foregoing, the Priority Period shall not end until the holders of the Priority Common Shares have received any accrued, but unpaid, Priority Distributions. Upon termination of the Priority Period: (i) the holders of the Priority and Class B Common Shares will be entitled to their pro rata share of the Company's dividends and amounts payable upon liquidation; and (ii) the Class B Common Shares automatically will be converted into Priority Common Shares on a one-for-one basis. See "--The Class B Common Shares." The Priority Rights consist of the dividend priority and the liquidation priority. The Dividend Priority The holders of the Priority Common Shares are entitled to receive dividends, when and as declared by the Board of Trustees, out of assets legally available for the payment of dividends. During the Priority Period, the holders of the Priority Common Shares shall be entitled to receive, prior to any distributions to either the holders of the Subordinated Units or to the holders of the Class B Common Shares, cumulative dividends in an amount per Priority Common Share equal to $0.18 per quarter (the "Priority Distribution"). After the holders of the Subordinated Units and the Class B Common Shares have received an amount per Subordinated Unit or per Class 70 B Common Share equal to the Priority Distribution, the holders of the Priority Common Shares shall be entitled to receive any further distributions on a pro rata basis with the holders of the Subordinated Units and the Class B Common Shares. After the Priority Period, the holders of the Priority Common Shares shall be entitled to receive any further distributions on a pro rata basis with the holders of the Subordinated Units and the Class B Common Shares. The dividends paid to the holders of the Priority Common Shares will be subject to the rights of any class or series of Preferred Shares. Dividends will accrue from the date of the original issuance of the Priority Common Shares, resulting in a partial dividend for the quarter in which they are issued. The initial dividend for the quarter in which the closing of the Offering occurs will be prorated based on the number of days in the quarter following the closing of the Offering and will be paid with the dividend payable to holders of record on March 31, 1999. Such dividend and any other dividends payable on the Priority Common Shares for any period greater or less than a full dividend period will be computed on the basis of a 360-day year consisting of twelve 30-day months. Dividends on the Priority Common Shares are cumulative from the most recent dividend payment date to which full dividends have been paid and will accrue whether or not the Company has earnings, whether or not there are funds legally available for the payment of such distributions and whether or not such distributions are authorized. Accrued but unpaid distributions on the Priority Common Shares will not bear interest and holders of the Priority Common Shares will not be entitled to any distributions in excess of full cumulative distributions as described above. The Company intends to contribute the net proceeds of the sale of the Priority Common Shares to the Partnership in exchange for an equal number of Priority Class A Common Units in the Partnership, the economic terms of which will be substantially identical to those of the Priority Common Shares. See "Partnership Agreement." During the Priority Period, no dividend may be declared or paid or other distribution of cash or other property declared or made directly by the Company or any person acting on behalf of the Company on any shares of beneficial interest that rank junior to the Priority Common Shares as to the payment of dividends or amounts upon liquidation, dissolution and winding up ("Junior Shares") unless full cumulative dividends have been declared and paid or are contemporaneously declared and funds sufficient for payment set aside on the Priority Common Shares for all prior and contemporaneous dividend periods; provided, however, that if accumulated and accrued dividends on the Priority Common Shares for all prior and contemporaneous dividend periods have not been paid in full then any dividend declared on the Priority Common Shares for any dividend period and on any shares of beneficial interest of the Company that rank on parity with the Priority Common Shares as to the payment of dividends or amounts upon liquidation, dissolution and winding up ("Parity Shares") will be declared ratably in proportion to accumulated, accrued and unpaid dividends on the Priority Common Shares and such Parity Shares. No distributions on the Priority Common Shares shall be authorized by the Board of Trustees or paid or set apart for payment by the Company at such time as the terms and provisions of any agreement of the Company, including any agreement relating to its indebtedness, prohibits such authorization, payment or setting apart for payment or provides that such authorization, payment or setting apart for payment would constitute a breach thereof or a default thereunder, or if such authorization or payment shall be restricted or prohibited by law. Any distribution payment made on the Priority Common Shares shall first be credited against the earliest accrued but unpaid distribution due with respect to such shares which remains payable. If, for any taxable year, the Company elects to designate as "capital gain distributions" (as defined in Section 857 of the Code) any portion (the "Capital Gains Amount") of the distributions paid or made available for the year to the holders of all classes of shares (the "Total Distributions"), then the portion of the Capital Gains Amount that will be allocable to the holders of Priority Common Shares will be the Capital Gains Amount multiplied by a fraction, the numerator of which will be the total distributions (within the meaning of the Code) paid or made available to the holders of the Priority Common Shares for the year and the denominator of which shall be the Total Distributions. As used herein, the term "dividend" does not include dividends payable solely in Junior Shares on Junior Shares, or in options, warrants or rights to holders of Junior Shares to subscribe for or purchase any Junior Shares. 71 The Liquidation Priority In the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, during the Priority Period, the holders of the Priority Common Shares shall be entitled to receive, prior to any liquidating payments to the holders of the Class B Common Shares, $6.00 per Priority Common Share (the "Liquidation Preference"), plus any accumulated and unpaid Priority Distributions (whether or not declared) on the Priority Common Shares to the date of distribution. After the holders of the Class B Common Shares have received an amount equal to the Liquidation Preference plus any accumulated and unpaid Priority Distributions (whether or not declared) on the Class B Common Shares to the date of distribution, the holders of the Priority Common Shares shall share ratably with the holders of the Class B Common Shares in the assets of the Company. In the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, after the Priority Period, the holders of the Priority Common Shares shall share ratably with the holders of the Class B Common Shares in the assets of the Company. The rights of the holders of the Priority Common Shares to liquidating payments shall be subject to rights of any class or series of Preferred Shares. If, upon any liquidation, dissolution or winding up of the Company, the assets of the Company, or proceeds thereof, distributable among the holders of the Priority Common Shares are insufficient to pay in full the Liquidation Preference and all accumulated and unpaid dividends with respect to any of the Parity Shares, then such assets or the proceeds thereof will be distributed among the holders of the Priority Common Shares and any such Parity Shares ratably in accordance with the respective amounts that would be payable on the Priority Common Shares and such Parity Shares if all amounts payable thereon were paid in full. None of (i) a consolidation or merger of the Company with another corporation, (ii) a statutory share exchange by the Company or (iii) a sale or transfer of all or substantially all of the Company's assets will be considered a liquidation, dissolution or winding up, voluntary or involuntary, of the Company. The Class B Common Shares General Subject to the preferential rights of the Priority Common Shares during the Priority Period or of any other shares or series of beneficial interest and to the provisions of the Company's Declaration of Trust regarding the restriction on the transfer of shares of beneficial interest, holders of Class B Common Shares are entitled to receive dividends on shares if, when and as authorized and declared by the Board of Trustees of the Company out of assets legally available therefor and to share ratably in the assets of the Company legally available for distribution to its shareholders in the event of its liquidation, dissolution or winding-up after payment of, or adequate provision for, all known debts and liabilities of the Company. See "-- Voting Rights of Priority Common Shares and Class B Common Shares." In the event that during the Priority period the Company at any time is unable to pay to the holders of the Class B Common Shares an amount per Class B Common Share equal to the Priority Distribution, the holders of the Class B Common Shares shall be entitled to receive such amounts from time to time to the effect that the cumulative distributions received per Class B Common Share are equal to the cumulative Priority Distribution received per Priority Common Share. The Company shall pay such amounts at such subsequent dividend payment dates, if any, that the Company has cash available for distribution to shareholders to pay such dividends. Holders of Class B Common Shares have no preference, sinking fund, redemption or appraisal rights and have no preemptive rights to subscribe for any securities of the Company. Subject to the provisions of the Declaration of Trust regarding the restriction on transfer of shares of beneficial interest, the Class B Common Shares have equal voting, dividend, distribution, liquidation and other rights. Conversion The Class B Common Shares will be converted automatically upon the termination of the Priority Period into authorized but previously unissued Priority Common Shares on a one-for-one basis, subject to adjustment as described below (the "Conversion Ratio"). See " --Conversion Ratio Adjustments." A notice informing holders of the Class B Common Shares of such conversion will be mailed by the Company to the holders of record of the Class B Common Shares as of the dividend payment record date for the next dividend payable after the expiration of the Priority Period, together with the dividend payable on such shares, at their respective addresses as they appear on the share transfer records of the Company. No fewer than all of the outstanding Class B Common Shares shall be converted. 72 If the expiration of the Priority Period falls after a dividend payment record date and prior to the related payment date, the holders of the Class B Common Shares at the close of business on such record date will be entitled to receive the dividend payable on such shares on the corresponding dividend payment date, notwithstanding the conversion of such shares prior to such dividend payment date. Upon expiration of the Priority Period, each holder of Class B Common Shares will be, without any further action, deemed a holder of the number of Priority Common Shares, as the case may be, into which such Class B Common Shares are convertible. Fractional Priority Common Shares will not be issued upon conversion of the Class B Common Shares. Conversion Ratio Adjustments The Conversion Ratio is subject to adjustment upon certain events, including (i) the payment of dividends (and other distributions) payable in Priority Common Shares on any class of shares of beneficial interest of the Company, (ii) subdivisions, combinations and reclassifications of Priority Common Shares and (iii) distributions to all holders of Priority Common Shares of evidences of indebtedness of the Company or assets (including securities, but excluding those dividends, rights, warrants and distributions referred to in clause (i) or (ii) above and dividends and distributions paid in cash). In addition to the foregoing adjustments, the Company will be permitted to make such reductions in the Conversion Ratio as it considers to be advisable in order that any event treated for Federal income tax purposes as a dividend of Shares or share rights will not be taxable to the holders of the Class B Common Shares or, if that is not possible, to diminish any income taxes that are otherwise payable because of such event. No adjustment of the Conversion Ratio is required to be made in any case until cumulative adjustments amount to 1% or more of the Conversion Ratio. Any adjustments not so required to be made will be carried forward and taken into account in subsequent adjustments. Voting Rights of Priority Common Shares and Class B Common Shares The holders of the Priority Common Shares and the Class B Common Shares (the "Common Shares") have identical voting rights and will vote together as a single class. Subject to the provisions of the Declaration of Trust regarding the restriction of the transfer of shares of beneficial interest, each outstanding Common Share entitles the holder to one vote on all matters submitted to a vote of shareholders, including the election of trustees, and, except as provided with respect to any other class or series of shares of beneficial interest, the holders of such Common Shares possess the exclusive voting power. There is no cumulative voting in the election of Trustees, which means that the holders of a majority of the outstanding Common Shares, voting as a single class, can elect all of the Trustees then standing for election and the holders of the remaining shares will not be able to elect any trustees. Under the Maryland REIT Law, a Maryland REIT generally cannot amend its declaration of trust or merge unless approved by the affirmative vote of shareholders holding at least two-thirds of the shares entitled to vote on the matter unless a lesser percentage (but not less than a majority of all the votes entitled to be cast on the matter) is set forth in the REIT's Declaration of Trust. The Company's Declaration of Trust provides for approval by a majority of all the votes entitled to be cast on the matter in all situations permitting or requiring action by the shareholders except with respect to: (a) the intentional disqualification of the Company as a REIT or revocation of its election to be taxed as a REIT (which requires the affirmative vote of two-thirds of the number of Common Shares entitled to vote on such matter at a meeting of the shareholders of the Company); (b) the election of trustees (which requires a plurality of all the votes cast at a meeting of shareholders of the Company at which a quorum is present); (c) the removal of trustees (which requires the affirmative vote of the holders of two-thirds of the outstanding voting shares of the Company); (d) the amendment or repeal of certain designated sections of the Declaration of Trust (which require the affirmative vote of two-thirds of the outstanding shares entitled to vote on such matters); (e) the amendment of the Declaration of Trust by shareholders (which requires the affirmative vote of a majority of votes entitled to be cast on the matter, except under certain circumstances specified in the Declaration of Trust that require the affirmative vote of two-thirds of all the votes entitled to be cast on the matter); and (f) the termination of the Company (which requires the affirmative vote of two-thirds of all the votes entitled to be cast on the matter). Under the Maryland REIT Law, a declaration of trust may permit the trustees by a two-thirds vote to amend the declaration of trust from time to time to qualify as a REIT under the Code or the Maryland REIT Law without the affirmative vote or written consent of the shareholders. The Company's 73 Declaration of Trust permits such action by a majority vote of the Trustees. As permitted by the Maryland REIT Law, the Declaration of Trust contains a provision permitting the Trustees, without any action by the shareholders of the Trust, to amend the Declaration of Trust to increase or decrease the aggregate number of shares of beneficial interest or the number of shares of any class of shares of beneficial interest that the Company has authority to issue. Preferred Shares The Declaration of Trust authorizes the Board of Trustees to classify any unissued Preferred Shares and to reclassify any previously classified but unissued Preferred Shares of any series from time to time in one or more series, as authorized by the Board of Trustees. Prior to issuance of shares of each series, the Board of Trustees is required by the Maryland REIT Law and the Company's Declaration of Trust to set for each such series, subject to the provisions of the Company's Declaration of Trust regarding the restriction on transfer of shares of beneficial interest, the terms, the preferences, conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and terms or conditions of redemption for each such series. Thus, the Board of Trustees could authorize the issuance of Preferred Shares with terms and conditions which could have the effect of delaying, deferring or preventing a transaction or a change in control of the Company that might involve a premium price for holders of Common Shares or otherwise might be in their best interest. As of the date hereof, no Preferred Shares are outstanding and the Company has no present plans to issue any Preferred Shares. Classification or Reclassification of Common Shares or Preferred Shares The Company's Declaration of Trust authorizes the Board of Trustees to classify or reclassify any unissued Common Shares or Preferred Shares into one or more classes or series of shares of beneficial interest by setting or changing the preferences, conversion or other rights, voting powers, restrictions, limitations as to dividends or distributions, qualifications or terms or conditions of redemption of such new class or series of shares of beneficial interest. Restrictions on Ownership and Transfer The Declaration of Trust, subject to certain exceptions described below, provides that no person may own, or be deemed to own by virtue of the attribution provisions of the Code, more than 9.9% of (i) the number of outstanding Common Shares of any class or series of Common Shares or (ii) the number of outstanding Preferred Shares of any class or series of Preferred Shares (the "Ownership Limitation"). For this purpose, a person includes a "group" and a "beneficial owner" as those terms are used for purposes of Section 13(d)(3) of the Exchange Act. Any transfer of Common or Preferred Shares that would (i) result in any person owning, directly or indirectly, Common or Preferred Shares in excess of the Ownership Limitation, (ii) result in the Common and Preferred Shares being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the Company being "closely held" within the meaning of Section 856(h) of the Code, or (iv) cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, will be null and void, and the intended transferee will acquire no rights in such Common or Preferred Shares. Subject to certain exceptions described below, any Common Shares or Preferred Shares the purported transfer of which would (i) result in any person owning, directly or indirectly, Common Shares or Preferred Shares in excess of the Ownership Limitation, (ii) result in the Common Shares and Preferred Shares being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the Company being "closely held" within the meaning of Section 856(h) of the Code, or (iv) cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, will be designated as "Shares-in-Trust" and transferred automatically to a trust (a "Trust") effective on the day before the purported transfer of such Common Shares or Preferred Shares. The record holder of the Common or Preferred Shares that are designated as Shares-in-Trust (the "Prohibited Owner") will be required to submit such number of Common Shares or Preferred Shares to the Company for registration in the name of the Trust (the "Record Holder"). The Trustee will be designated by the Company, but will not be affiliated with the Company. The beneficiary of a Trust (the "Beneficiary") will be one or more charitable organizations that are named by the Company. 74 Shares-in-Trust will remain issued and outstanding Common Shares or Preferred Shares and will be entitled to the same rights and privileges as all other shares of the same class or series. The Record Holder will receive all dividends and distributions on the Shares-in-Trust and will hold such dividends or distributions in trust for the benefit of the Beneficiary. The Record Holder will vote all Shares-in-Trust. The Record Holder will designate a permitted transferee of the Shares-in-Trust, provided that the permitted transferee (i) purchases such Shares-in-Trust for valuable consideration and (ii) acquires such Shares-in-Trust without such acquisition resulting in a transfer to another Trust. The Prohibited Owner with respect to Shares-in-Trust will be required to repay to the Record Holder the amount of any dividends or distributions received by the Prohibited Owner (i) that are attributable to any Shares-in-Trust and (ii) the record date of which was on or after the date that such shares became Shares-in-Trust. The Prohibited Owner generally will receive from the Record Holder the lesser of (i) the price per share such Prohibited Owner paid for the Common Shares or Preferred Shares that were designated as Shares-in-Trust (or, in the case of a gift or devise, the Market Price (as defined below) per share on the date of such transfer) or (ii) the price per share received by the Record Holder from the sale of such Shares-in-Trust. Any amounts received by the Record Holder in excess of the amounts to be paid to the Prohibited Owner will be distributed to the Beneficiary. The Shares-in-Trust will be deemed to have been offered for sale to the Company, or its designee, at a price per share equal to the lesser of (i) the price per share in the transaction that created such Shares-in-Trust (or, in the case of a gift or devise, the Market Price per share on the date of such transfer) or (ii) the Market Price per share on the date that the Company, or its designee, accepts such offer. The Company will have the right to accept such offer for a period of 90 days after the later of (i) the date of the purported transfer which resulted in such Shares-in-Trust or (ii) the date the Company determines in good faith that a transfer resulting in such Shares-in-Trust occurred. "Market Price" on any date shall mean the average of the Closing Prices (as defined below) for the five consecutive Trading Days (as defined below) ending on such date. The "Closing Price" on any date shall mean the last quoted sale price as reported by The American Stock Exchange. "Trading Day" shall mean a day on which the principal national securities exchange on which the Common or Preferred Shares are listed or admitted to trading is open for the transaction of business or, if the Common or Preferred Shares are not listed or admitted to trading on any national securities exchange, shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in the State of New York are authorized or obligated by law or executive order to close. Any person who acquires or attempts to acquire Common or Preferred Shares in violation of the foregoing restrictions, or any person who owned Common or Preferred Shares that were transferred to a Trust, will be required (i) to give immediately written notice to the Company of such event and (ii) to provide to the Company such other information as the Company may request in order to determine the effect, if any, of such transfer on the Company's status as a REIT. All persons who own, directly or indirectly, more than 5% (or such lower percentages as required pursuant to regulations under the Code) of the outstanding Common and Preferred Shares must, within 30 days after December 31 of each year, provide to the Company a written statement or affidavit stating the name and address of such direct or indirect owner, the number of Common and Preferred Shares owned directly or indirectly, and a description of how such shares are held. In addition, each direct or indirect shareholder shall provide to the Company such additional information as the Company may request in order to determine the effect, if any, of such ownership on the Company's status as a REIT and to ensure compliance with the Ownership Limitation. The Ownership Limitation generally will not apply to the acquisition of Common or Preferred Shares by an underwriter that participates in a public offering of such shares. In addition, the Trustees, upon receipt of advice of counsel or other evidence satisfactory to the Trustees, in their sole and absolute discretion, may, in their sole and absolute discretion, exempt a person from the Ownership Limitation under certain circumstances. The foregoing restrictions will continue to apply until (i) the Trustees determines that it is no longer in the best interests of the Company to attempt to qualify, or to continue to qualify, as a REIT and (ii) there is an affirmative vote of two-thirds of the number of Common and Preferred Shares entitled to vote on such matter at a regular or special meeting of the shareholders of the Company. All certificates representing Common or Preferred Shares will bear a legend referring to the restrictions described above. 75 The Ownership Limitation could have the effect of delaying, deferring or preventing a change in control or other transaction in which holders of some, or a majority, of shares of Common Shares might receive a premium for their shares of Common Shares over the then prevailing market price or which such holders might believe to be otherwise in their best interest. Other Matters The transfer agent and registrar for the Company's Priority Common Shares will be First Union National Bank of North Carolina, Charlotte, North Carolina. 76 CERTAIN PROVISIONS OF MARYLAND LAW AND OF THE COMPANY'S DECLARATION OF TRUST AND BYLAWS The following summary of certain provisions of Maryland law and of the Declaration of Trust and Bylaws of the Company is subject to and qualified in its entirety by reference to Maryland law and to the Declaration of Trust and Bylaws of the Company, copies of which are included as exhibits to the Registration Statement of which this Prospectus is a part. See "Additional Information." Classification of the Board of Trustees The Bylaws provide that the number of trustees of the Company may be established by the Board of Trustees but may not be fewer than three nor more than nine. At the closing of the Offering, there will be seven Trustees. The Trustees may increase or decrease the number of Trustees by a vote of at least 80% of the members of the Board of Trustees, provided that the number of Trustees shall never be less than the number required by Maryland law and that the tenure of office of a Trustee shall not be affected by any decrease in the number of Trustees. Any vacancy will be filled, including a vacancy created by an increase in the number of Trustees, at any regular meeting or at any special meeting called for that purpose, by a majority of the remaining Trustees or, if no Trustees remain, by a majority of the shareholders. Pursuant to the Declaration of Trust, the Board of Trustees is divided into two classes of Trustees with initial terms expiring in 1999 and 2000, respectively. Beginning in 1999, Trustees of each class are chosen for two-year terms upon the expiration of their current terms and each year one class of Trustees will be elected by the shareholders. The Company believes that classification of the Board of Trustees will help to assure the continuity and stability of the Company's business strategies and policies as determined by the Trustees. Holders of Common Shares will have no right to cumulative voting in the election of Trustees. Consequently, at each annual meeting of shareholders, the holders of a majority of the Common Shares will be able to elect all of the successors of the class of Trustees whose terms expire at that meeting. The classified board provision could have the effect of making the replacement of incumbent trustees more time consuming and difficult. The staggered terms of Trustees may delay, defer or prevent a tender offer or an attempt to change control of the Company or other transaction that might involve a premium price for holders of Common Shares, even though a tender offer, change in control or other transaction might be in the best interest of the shareholders. Removal of Trustees The Declaration of Trust provides that a Trustee may be removed with or without cause upon the affirmative vote of at least two-thirds of the votes entitled to be cast in the election of Trustees. Absent removal of all of the Trustees, this provision, when coupled with the provision in the Bylaws authorizing the Board of Trustees to fill vacant trusteeships, precludes shareholders from removing incumbent Trustees, except upon a substantial affirmative vote, and filling the vacancies created by such removal with their own nominees. Business Combinations Under the MGCL, as applicable to Maryland REITs, certain "business combinations" (including a merger, consolidation, share exchange or, in certain circumstances, an asset transfer or issuance or reclassification of equity securities) between a Maryland REIT and any person who beneficially owns ten percent or more of the voting power of the trust's shares or an affiliate or associate of the trust who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power (an "Interested Shareholder") or an affiliate thereof are prohibited for five years after the most recent date on which the shareholder becomes an Interested Shareholder. Thereafter, any such business combination must be recommended by the board of trustees of such trust and approved by the affirmative vote of at least (a) 80% of the votes entitled to be cast by holders of outstanding voting shares of beneficial interest of the trust and (b) two-thirds of the votes entitled to be cast by holders of voting shares of the trust other than shares held by the Interested Shareholder with whom (or with whose affiliate) the business combination is to be effected, or by an affiliate or associate of the Interested Shareholder, voting together as a single group, unless, among other conditions, the trust's common shareholders receive a minimum price (as defined in the MGCL) for their shares and the consideration is received in cash or in the same form as previously paid by the Interested Shareholder for its shares. These provisions of Maryland law 77 do not apply, however, to business combinations that are approved or exempted by the board of trustees of the trust prior to the time that the Interested Shareholder becomes an Interested Shareholder. The Company intends to adopt a resolution opting out of the business combination provisions prior to the Closing Date. Control Share Acquisitions The MGCL contains control share acquisition provisions. The Bylaws of the Company contain a provision opting out of these provisions, but there can be no assurance that such Bylaw provision will not be amended or eliminated at any time in the future. The MGCL, as applicable to Maryland REITs that have not opted out of the provisions, provides that control shares (as defined below) of a Maryland REIT acquired in a "control share acquisition" have no voting rights except to the extent approved by a vote of two-thirds of the votes entitled to be cast on the matter, excluding shares of beneficial interest owned by the acquiror, by officers or by trustees who are employees of the trust. "Control Shares" are voting shares of beneficial interest which, if aggregated with all other such shares of beneficial interest previously acquired by the acquiror or in respect of which the acquiror is able to exercise or direct the exercise of voting power (except solely by virtue of a revocable proxy), would entitle the acquiror to exercise voting power in electing trustees within one of the following ranges of voting power: (i) one-fifth or more but less than one-third, (ii) one-third or more but less than a majority, or (iii) a majority or more of all voting power. Control Shares do not include shares the acquiring person is then entitled to vote as a result of having previously obtained shareholder approval. A "control share acquisition" means the acquisition of Control Shares, subject to certain exceptions. A person who has made or proposes to make a control share acquisition, upon satisfaction of certain conditions (including an undertaking to pay expenses), may compel the board of trustees of the trust to call a special meeting of shareholders to be held within 50 days of demand to consider the voting rights of the shares. If no request for a meeting is made, the trust may itself present the question at any shareholders meeting. If voting rights are not approved at the meeting or if the acquiring person does not deliver an acquiring person statement as required by the statute, then, subject to certain conditions and limitations, the trust may redeem any or all of the Control Shares (except those for which voting rights have previously been approved) for fair value determined, without regard to the absence of voting rights for the Control Shares, as of the date of the last control share acquisition by the acquiror or of any meeting of shareholders at which the voting rights of such shares are considered and not approved. If voting rights for Control Shares are approved at a shareholders meeting and the acquiror becomes entitled to vote a majority of the shares entitled to vote, all other shareholders may exercise appraisal rights. The fair value of the shares as determined for purposes of such appraisal rights may not be less than the highest price per share paid by the acquiror in the control share acquisition. The control share acquisition statute does not apply (a) to shares acquired in a merger, consolidation or share exchange if the trust is a party to the transaction or (b) to acquisitions approved or exempted by the declaration of trust or bylaws of the trust prior to such acquisition. Amendment The Declaration of Trust provides that it may be amended with the approval of at least a majority of all of the votes entitled to be cast on the matter, but that certain provisions of the Declaration of Trust regarding (i) the Company's Board of Trustees, including the provisions regarding Independent Trustee requirements, (ii) the restrictions on transfer of the Common Shares and the Preferred Shares, (iii) amendments to the Declaration of Trust by the Trustees and the shareholders of the Company and (iv) the termination of the Company may not be amended, altered, changed or repealed without the approval of two-thirds of all of the votes entitled to be cast on these matters. In addition, the Declaration of Trust provides that it may be amended by the Board of Trustees, without shareholder approval to (a) increase or decrease the aggregate number of shares of beneficial interest or the number of shares of any class of beneficial interest that the Trust has authority to issue or (b) qualify as a REIT under the Code or under the Maryland REIT law. The Company's Bylaws may be amended or altered exclusively by the Board of Trustees. 78 Limitation of Liability and Indemnification The Maryland REIT Law permits a Maryland REIT to include in its Declaration of Trust a provision limiting the liability of its trustees and officers to the trust and its shareholders for money damages except for liability resulting from (a) actual receipt of an improper benefit or profit in money, property or services or (b) active and deliberate dishonesty established by a final judgment and that is material to the cause of action. The Declaration of Trust of the Company contains such a provision which limits such liability to the maximum extent permitted by Maryland law. The Declaration of Trust of the Company authorizes it, to the maximum extent permitted by Maryland law, to obligate itself to indemnify and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any present or former Trustee or officer or (b) any individual who, while a Trustee of the Company and at the request of the Company, serves or has served another real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or any other enterprise as a trustee, director, officer, partner of such real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or any other enterprise as a trustee, director, officer or partner of such real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or other enterprise from and against any claim or liability to which such person may become subject or which such person may incur by reason of his status as a present or former shareholder, Trustee or officer of the Company. The Bylaws of the Company obligate it, to the maximum extent permitted by Maryland law, to indemnify: (a) any present or former Trustee, officer or shareholder (including any individual who, while a Trustee, officer or shareholder and at the express request of the Company, serves another entity as a director, officer, shareholder, partner or trustee of such entity) who has been successful, on the merits or otherwise, in the defense of a proceeding to which he was made a party by reason of service in such capacity, against reasonable expenses incurred by him in connection with the proceeding; (b) subject to certain limitations under Maryland law, any present or former Trustee or officer against any claim or liability to which he may become subject by reason of such status; and (c) each present or former shareholder against any claim or liability to which he may become subject by reason of such status. In addition, the Bylaws obligate the Company, subject to certain provisions of Maryland law, to pay or reimburse, in advance of final disposition of a proceeding, reasonable expenses incurred by a present or former Trustee, officer or shareholder made a party to a proceeding by reason of such status. The Company may, with the approval of its Trustees, provide such indemnification or payment or reimbursement of expenses to any present or former Trustee, officer or shareholder of the Company or any predecessor of the Company and to any employee or agent of the Company or predecessor of the Company. The Maryland REIT Law permits a Maryland REIT to indemnify and advance expenses to its trustees, officers, employees and agents to the same extent as permitted by the MGCL for directors and officers of Maryland corporations. The MGCL permits a corporation to indemnify its present and former directors and officers, among others, against judgments, penalties, fines, settlements and reasonable expenses actually incurred by them in connection with any proceeding to which they may be made a party by reason of their service in those or other capacities unless it is established that (a) the act or omission of the director or officer was material to the matter giving rise to the proceeding and (i) was committed in bad faith or (ii) was the result of active and deliberate dishonesty, (b) the director or officer actually received an improper personal benefit in money, property or services or (c) in the case of any criminal proceeding, the director or officer had reasonable cause to believe that the act or omission was unlawful. However, a Maryland corporation may not indemnify for an adverse judgment in a suit by or in the right of the corporation or for a judgment of liability on the basis that personal benefit was improperly received, unless in either case a court orders indemnification and then only for expenses. In accordance with the MGCL, the Bylaws of the Company require it, as a condition to advancing expenses, to obtain (a) a written affirmation by the director or officer of his good faith belief that he has met the standard of conduct necessary for indemnification by the Company as authorized by the Bylaws and (b) a written undertaking by him or on his behalf to repay the amount paid or reimbursed by the Company if it shall ultimately be determined that the standard of conduct was not met. Operations The Company is generally prohibited from engaging in certain activities, including acquiring or holding property or engaging in any activity that would cause the Company to fail to qualify as a REIT. 79 Dissolution of the Company Pursuant to the Company's Declaration of Trust, and subject to the provisions of any class or series of shares of beneficial interest of the Company then outstanding, the shareholders of the Company, at any meeting thereof, may terminate the Company by the affirmative vote of two-thirds of all of the votes entitled to be cast on the matter after the authorization, advice and approval thereof by a majority of the Board of Trustees. Advance Notice of Trustees Nominations and New Business The Bylaws of the Company provide that (a) with respect to an annual meeting of shareholders, nominations of persons for election to the Board of Trustees and the proposal of business to be considered by shareholders may be made only (i) pursuant to the Company's notice of the meeting, (ii) by the Board of Trustees or (iii) by a shareholder who was a shareholder of record both at the time of the provision of notice and at the time of the meeting who is entitled to vote at the meeting and has complied with the advance notice procedures set forth in the Bylaws and (b) with respect to special meetings of shareholders, only the business specified in the Company's notice of meeting may be brought before the meeting of shareholders and nominations of persons for election to the Board of Trustees may be made only (i) pursuant to the Company's notice of the meeting, (ii) by the Board of Trustees or (iii) provided that the Board of Trustees has determined that Trustees shall be elected at such meeting, by a shareholder who was a shareholder of record both at the time of the provision of notice and at the time of the meeting who is entitled to vote at the meeting and has complied with the advance notice provisions set forth in the Bylaws. Possible Anti-takeover Effect of Certain Provisions of Maryland Law and of the Declaration of Trust and Bylaws The business combination provisions and, if the applicable provision in the Bylaws is rescinded, the control share acquisition provisions of the MGCL, the provisions of the Declaration of Trust on classification of the Board of Trustees, the removal of Trustees and the restrictions on the transfer of shares of beneficial interest and the advance notice provisions of the Bylaws could have the effect of delaying, deferring or preventing a transaction or a change in control of the Company that might involve a premium price for holders of Common Shares or otherwise be in their best interest. Maryland Asset Requirements To maintain its qualification as a Maryland REIT, the Maryland REIT Law requires at least 75% of the value of the Company's assets to be held, directly or indirectly, in real estate assets, mortgages or mortgage related securities, government securities, cash and cash equivalent items, including high-grade short term securities and receivables. The Maryland REIT Law also prohibits the Company from using or applying land for farming, agricultural, horticultural or similar purposes. 80 SHARES AVAILABLE FOR FUTURE SALE Upon the completion of the Offering and the related transactions, the Company will have 1,833,334 Priority Common Shares outstanding and approximately 4 million Class B Common Shares and Priority Common Shares reserved for issuance upon redemption of Subordinated Units. In addition, the Company will offer 166,666 Priority Common Shares to the Hersha Affiliates at the Offering Price. The information contained herein assumes that none of the 166,666 Priority Common Shares are sold. As described herein, the Class B Common Shares will be converted into Priority Common Shares upon the termination of the Priority Period on a one-for-one basis. The Priority Common Shares issued in the Offering will be freely tradeable by persons other than "affiliates" of the Company without restriction under the Securities Act, subject to certain limitations on ownership set forth in the Declaration of Trust. See "Description of Shares of Beneficial Interest--Restrictions on Transfer." Pursuant to the Partnership Agreement, the Hersha Affiliates that own the Combined Entities (collectively, the "Limited Partners") will receive the right to redeem their Subordinated Units (the "Redemption Rights"), which will enable them to cause the Partnership to redeem their interests in the Partnership in exchange for cash or, at the option of the Company, Class B Common Shares on a one-for-one basis. In the event that the Class B Common Shares are converted into Priority Common Shares prior to redemption of the Subordinated Units, such outstanding Subordinated Units will be redeemable for Priority Common Shares. If the Company does not exercise its option to redeem such interests for Class B Common Shares or Priority Common Shares, then the Limited Partner may make a written demand that the Company redeem such interests for Class B Common Shares or Priority Common Shares, to the extent that the issuance of such shares would not result in the violation of the Ownership Limitation. The Redemption Rights generally may be exercised by the Limited Partners at any time after one year following the acquisition of the Initial Hotels with respect to the Subordinated Units issued in connection with the Stabilized Hotels and at any time after the First Adjustment Date or Second Adjustment Date, as applicable, with respect to the Subordinated Units issued in connection with the Newly-Developed Hotels and the Newly-Renovated Hotels, in whole or in part. See "The Partnership Agreement--Redemption Rights." Any amendment to the Partnership Agreement that would affect the Redemption Rights would require the consent of Limited Partners holding more than 50% of the Units held by Limited Partners (except the Company). Common Shares issued to holders of Units upon exercise of the Redemption Rights will be "restricted" securities under the meaning of Rule 144 promulgated under the Securities Act ("Rule 144") and may not be sold in the absence of registration under the Securities Act unless an exemption from registration is available, including exemptions contained in Rule 144. In general, under Rule 144 as currently in effect, if one year has elapsed since the later of the date of acquisition of restricted shares from the Company or any "affiliate" of the Company, as that term is defined under the Securities Act, the acquiror or subsequent holder thereof is entitled to sell within any three-month period a number of shares that does not exceed the greater of 1% of the then outstanding Common Shares or the average weekly trading volume of the Common Shares during the four calendar weeks preceding the date on which notice of the sale is filed with the Securities and Exchange Commission (the "Commission"). Sales under Rule 144 also are subject to certain manner of sale provisions, notice requirements and the availability of current public information about the Company. If two years have elapsed since the date of acquisition of restricted shares from the Company or from any "affiliate" of the Company, and the acquiror or subsequent holder thereof is deemed not to have been an "affiliate" of the Company at any time during the three months preceding a sale, such person would be entitled to sell such shares in the public market under Rule 144(k) without regard to the volume limitations, manner of sale provisions, public information requirements or notice requirements. Under certain circumstances, the Company has agreed to file a registration statement with the Commission covering the resale of any Common Shares issued to a Limited Partner upon redemption of Units. The Limited Partners may request such a registration if the Limited Partners, as a group, request registration of at least 250,000 Common Shares; provided however, that only two such registrations may occur each year. Upon such request, the Company will use its best efforts to have the registration statement declared effective. In addition, the Limited Partners will have "piggyback" registration rights, subject to certain volume and marketing limitations imposed by the Underwriter. If, during the prior two years there has not been an opportunity for a piggyback registration, the Limited Partners holding Units redeemable for at least 50,000 Common Shares may request a registration of those shares. Upon effectiveness of such registration statement, those persons who receive Common Shares upon redemption of Units may sell such shares in the secondary market without being subject to the volume limitations or other requirements of Rule 144. The Company will bear expenses incident to its registration requirements, 81 except that such expenses shall not include any selling commissions, Commission or state securities registration fees, transfer taxes or certain other fees or taxes relating to such shares. Registration rights may be granted to future sellers of hotels to the Partnership who may receive, in lieu of cash, Common Shares, Units or other securities convertible into Common Shares. Prior to the date of this Prospectus, there has been no public market for the Common Shares. Listing of the Common Shares on the American Stock Exchange is expected to commence following the completion of the Offering. No prediction can be made as to the effect, if any, that future sales of shares, or the availability of shares for future sale, will have on the market price prevailing from time to time. Sales of substantial amounts of Common Shares, or the perception that such sales could occur, may affect adversely prevailing market prices of the Common Shares. See "Risk Factors--Market for Priority Common Shares" and "The Partnership Agreement--Transferability of Interests." For a description of certain restrictions on transfers of Common Shares held by certain shareholders of the Company, see "Underwriting." 82 PARTNERSHIP AGREEMENT The following summary of the Partnership Agreement, and the descriptions of certain provisions thereof set forth elsewhere in this Prospectus, is qualified in its entirety by reference to the Partnership Agreement, which is filed as an exhibit to the Registration Statement of which this Prospectus is a part. Management The Partnership has been organized as a Virginia limited partnership pursuant to the terms of the Partnership Agreement. Pursuant to the Partnership Agreement, the Company, as the sole general partner of the Partnership, will have, subject to certain protective rights of Limited Partners described below, full, exclusive and complete responsibility and discretion in the management and control of the Partnership, including the ability to cause the Partnership to enter into certain major transactions including acquisitions, dispositions, refinancings and selection of lessees and to cause changes in the Partnership's line of business and distribution policies. However, any amendment to the Partnership Agreement that would affect the Redemption Rights will require the consent of Limited Partners holding more than 50% of the Units held by such partners. The affirmative vote of Limited Partners holding at least two-thirds of the general partnership interests in the Partnership, including the Company, which will initially own approximately only a 32% interest in the Partnership, is required for a sale of all or substantially all of the assets of the Partnership, or to approve a merger or consolidation of the Partnership, provided, however, that such approval shall no longer be required if the Company fails to pay a distribution of $.72 per share to the holders of the Priority Common Shares for any 12-month period. Transferability of Interests The Company may not voluntarily withdraw from the Partnership or transfer or assign its interest in the Partnership unless the transaction in which such withdrawal or transfer occurs results in the Limited Partners receiving property in an amount equal to the amount they would have received had they exercised their Redemption Rights immediately prior to such transaction, or unless the successor to the Company contributes substantially all of its assets to the Partnership in return for a general partnership interest in the Partnership. With certain limited exceptions, the Limited Partners may not transfer their interests in the Partnership, in whole or in part, without the written consent of the Company, which consent the Company may withhold in its sole discretion. The Company may not consent to any transfer that would cause the Partnership to be treated as a corporation for federal income tax purposes. Capital Contribution The Company will contribute to the Partnership substantially all the net proceeds of the Offering as its initial capital contribution in exchange for approximately a 32% general partnership interest in the Partnership. Although the Partnership will receive substantially all the net proceeds of the Offering, the Company will be deemed to have made a capital contribution to the Partnership in the amount of substantially all the gross proceeds of the Offering and the Partnership will be deemed simultaneously to have paid the underwriting discount and other expenses paid or incurred in connection with the Offering. The Hersha Affiliates will make contributions to the Partnership and will become Limited Partners in the Partnership and collectively will own approximately a 68% limited partnership interest in the Partnership. The value of each Limited Partner's capital contribution shall equal its pro rata share of the value of the interests received by the Partnership. The Partnership Agreement provides that if the Partnership requires additional funds at any time or from time to time in excess of funds available to the Partnership from borrowing or capital contributions, the Company may borrow such funds from a financial institution or other lender and lend such funds to the Partnership on the same terms and conditions as are applicable to the Company's borrowing of such funds. Under the Partnership Agreement, the Company generally is obligated to contribute the proceeds of an offering of shares of beneficial interest as additional capital to the Partnership. Moreover, the Company is authorized to cause the Partnership to issue partnership interests for less than fair market value if the Company has concluded in good faith that such issuance is in the best interests of the Company and the Partnership. If the Company so contributes additional capital to the Partnership, the Company will receive additional Units and the Company's percentage interest in the Partnership will be increased on a proportionate basis based upon the amount of such additional capital contributions and the value of the Partnership at the time of such contributions. Conversely, the percentage interests of the Limited Partners will be decreased on a proportionate basis in the event of additional capital contributions by the Company. In addition, if the Company contributes 83 additional capital to the Partnership, the Company will revalue the property of the Partnership to its fair market value (as determined by the Company) and the capital accounts of the partners will be adjusted to reflect the manner in which the unrealized gain or loss inherent in such property (that has not been reflected in the capital accounts previously) would be allocated among the partners under the terms of the Partnership Agreement if there were a taxable disposition of such property for such fair market value on the date of the revaluation. Redemption Rights Pursuant to the Partnership Agreement, the Limited Partners will receive the Redemption Rights, which will enable them to cause the Partnership to redeem their interests in the Partnership in exchange for cash or, at the option of the Company, Class B Common Shares on a one-for-one basis. In the event that the Class B Common Shares are converted into Priority Common Shares prior to redemption of the Subordinated Units, such outstanding Subordinated Units will be redeemable for Priority Common Shares. If the Company does not exercise its option to redeem such interests for Class B Common Shares, then the Limited Partner may make a written demand that the Company redeem such interests for Class B Common Shares. Notwithstanding the foregoing, a Limited Partner shall not be entitled to exercise its Redemption Rights to the extent that the issuance of Common Shares to the redeeming Limited Partner would (i) result in any person owning, directly or indirectly, Common Shares in excess of the Ownership Limitation, (ii) result in the shares of beneficial interest of the Company being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the Company being "closely held" within the meaning of Section 856(h) of the Code, (iv) cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, or (v) cause the acquisition of Common Shares by such redeeming Limited Partner to be "integrated" with any other distribution of Common Shares for purposes of complying with the Securities Act. With respect to the Subordinated Units issued in connection with the acquisition of the Stabilized Hotels, the Redemption Rights may be exercised by the Limited Partners at any time after one year following the acquisition of the Stabilized Hotels. With respect to the Subordinated Units issued in connection with the acquisition of the Newly-Developed Hotels and the Newly-Renovated Hotels, the Redemption Rights may not be exercised by the Limited Partners until after the First Adjustment Date or Second Adjustment Date, as applicable. In all cases, however, (i) each Limited Partner may not exercise the Redemption Right for fewer than 1,000 Units or, if such Limited Partner holds fewer than 1,000 Units, all of the Units held by such Limited Partner, (ii) each Limited Partner may not exercise the Redemption Right for more than the number of Units that would, upon redemption, result in such Limited Partner or any other person owning, directly or indirectly, Common Shares in excess of the Ownership Limitation and (iii) each Limited Partner may not exercise the Redemption Right more than two times annually. The aggregate number of Common Shares initially issuable upon exercise of the Redemption Rights will be approximately 4.0 million. The number of Common Shares issuable upon exercise of the Redemption Rights will be adjusted upon the revaluation on the First Adjustment Date and the Second Adjustment Date or the occurrence of share splits, mergers, consolidations or similar pro rata share transactions, which otherwise would have the effect of diluting or increasing the ownership interests of the Limited Partners or the shareholders of the Company. Operations The Partnership Agreement requires that the Partnership be operated in a manner that will enable the Company to satisfy the requirements for being classified as a REIT, to avoid any federal income or excise tax liability imposed by the Code (other than any federal income tax liability associated with the Company's retained capital gains), and to ensure that the Partnership will not be classified as a "publicly traded partnership" for purposes of Section 7704 of the Code. In addition to the administrative and operating costs and expenses incurred by the Partnership, the Partnership will pay all administrative costs and expenses of the Company (the "Company Expenses") and the Company Expenses will be treated as expenses of the Partnership. The Company Expenses generally will include (A) all expenses relating to the formation and continuity of existence of the Company, (B) all expenses relating to the public offering and registration of securities by the Company, (C) all expenses associated with the preparation and filing of any periodic reports by the Company under federal, state or local laws or regulations, (D) all expenses associated with compliance by the Company with laws, rules and regulations promulgated by any regulatory body and (E) all other operating or administrative costs of the Company incurred in the ordinary course of its business on behalf of the Partnership. The Company Expenses, however, will not include any administrative and operating costs and expenses incurred by the Company that are attributable to hotel properties that are owned by the Company directly. The Company initially will not own any hotel directly. 84 Distributions The Partnership Agreement provides that, during the Priority Period, the Partnership will distribute cash available for distribution (including net sale or refinancing proceeds, but excluding net proceeds from the sale of the Partnership's property in connection with the liquidation of the Partnership) on a quarterly (or, at the election of the Company, more frequent) basis, in amounts determined by the Company in its sole discretion, in the following order of priority: (i) first, to the Company until the Company has received, on a cumulative basis, $0.18 per quarter per Unit held by the Company (the "Preferred Return"), (ii) second, to the Limited Partners in accordance with their respective percentage interests in the Partnership until each Limited Partner has received an amount equal to the Preferred Return, and (iii) finally, to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. After the Priority Period, the Partnership will distribute cash from operations (including net sale or refinancing proceeds, but excluding net proceeds from the sale of the Partnership's property in connection with the liquidation of the Partnership) on a quarterly (or, at the election of the Company, more frequent) basis, in amounts determined by the Company in its sole discretion, to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. Upon liquidation of the Partnership during the Priority Period, after payment of, or adequate provision for, debts and obligations of the Partnership, including any partner loans, any remaining assets of the Partnership will be distributed in the following order of priority: (i) first, to the Company until the Company has received any unpaid Preferred Return plus an amount equal to $6.00 per Unit held by the Company, (ii) second, to the Limited Partners in accordance with their respective percentage interests in the Partnership until each Limited Partner has received an amount equal to any unpaid Preferred Return plus $6.00 per Unit held by the such Limited Partner, and (iii) finally, to the Company and the Limited Partners with positive capital accounts in accordance with their respective positive capital account balances. Upon liquidation of the Partnership after the Priority Period, after payment of, or adequate provision for, debts and obligations of the Partnership, including any partner loans, any remaining assets of the Partnership will be distributed to the Company and the Limited Partners with positive capital accounts in accordance with their respective positive capital account balances. If the Company has a negative balance in its capital account following a liquidation of the Partnership, it will be obligated to contribute cash to the Partnership equal to the negative balance in its capital account. Allocations Depreciation and amortization deductions of the Partnership for each fiscal year will be allocated to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. Profit of the Partnership (excluding depreciation and amortization deductions) for each fiscal year will be allocated in the following order of priority: (i) first, to the Company until the aggregate amount of profit allocated to the Company under this clause (i) for the current and all prior years equals the aggregate amount of Preferred Return distributed to the Company for the current and all prior years, (ii) second, to the Limited Partners in accordance with their respective percentage interests in the Partnership until the aggregate amount of profit allocated to the Limited Partners under this clause (ii) for the current and all prior years equals the aggregate amount of Preferred Return distributed to the Limited Partners for the current and all prior years, and (iii) finally, to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. Losses of the Partnership (excluding depreciation and amortization deductions) for each fiscal year generally will be allocated to the Company and the Limited Partners in accordance with their respective percentage interests in the Partnership. All of the foregoing allocations will be subject to compliance with the provisions of Code Sections 704(b) and 704(c) and Treasury Regulations promulgated thereunder. Term The Partnership will continue until December 31, 2050, or until sooner dissolved upon (i) the bankruptcy, dissolution or withdrawal of the Company (unless the Limited Partners elect to continue the Partnership), (ii) the sale or other disposition of all or substantially all the assets of the Partnership, (iii) the redemption of all Units (other than those held by the Company, if any) or (iv) an election by the General Partner. Tax Matters Pursuant to the Partnership Agreement, the Company will be the tax matters partner of the Partnership and, as such, will have authority to handle tax audits and to make tax elections under the Code on behalf of the Partnership. 85 FEDERAL INCOME TAX CONSEQUENCES The following is a summary of material federal income tax consequences that may be relevant to a prospective holder of Common Shares. Hunton & Williams has acted as counsel to the Company and has reviewed this summary and is of the opinion that the discussion contained herein fairly summarizes the federal income tax consequences that are likely to be material to a holder of the Common Shares. The discussion does not address all aspects of taxation that may be relevant to particular shareholders in light of their personal investment or tax circumstances, or to certain types of shareholders (including insurance companies, tax-exempt organizations (except as discussed below), financial institutions or broker-dealers, and, except as discussed below, foreign corporations and persons who are not citizens or residents of the United States) subject to special treatment under the federal income tax laws. The statements in this discussion and the opinion of Hunton & Williams are based on current provisions of the Code, existing, temporary, and currently proposed Treasury Regulations, the legislative history of the Code, existing administrative rulings and practices of the Service, and judicial decisions. No assurance can be given that future legislative, judicial, or administrative actions or decisions, which may be retroactive in effect, will not affect the accuracy of any statements in this Prospectus with respect to the transactions entered into or contemplated prior to the effective date of such changes. EACH PROSPECTIVE PURCHASER SHOULD CONSULT HIS OWN TAX ADVISOR REGARDING THE SPECIFIC TAX CONSEQUENCES TO HIM OF THE PURCHASE, OWNERSHIP, AND SALE OF THE COMMON SHARES AND OF THE COMPANY'S ELECTION TO BE TAXED AS A REIT, INCLUDING THE FEDERAL, STATE, LOCAL, FOREIGN, AND OTHER TAX CONSEQUENCES OF SUCH PURCHASE, OWNERSHIP, SALE, AND ELECTION, AND OF POTENTIAL CHANGES IN APPLICABLE TAX LAWS. Taxation of the Company The Company currently has in effect an election to be taxed as a pass-through entity under subchapter S of the Code, but intends to revoke its S election on the day prior to the closing of the Offering. The Company plans to make an election to be taxed as a REIT under sections 856 through 860 of the Code, effective for its short taxable year beginning on the date of revocation of its S election and ending on December 31, 1998. The Company believes that, commencing with such taxable year, it will be organized and will operate in such a manner as to qualify for taxation as a REIT under the Code, and the Company intends to continue to operate in such a manner, but no assurance can be given that the Company will operate in a manner so as to qualify or remain qualified as a REIT. The sections of the Code relating to qualification and operation as a REIT are highly technical and complex. The following discussion sets forth the material aspects of the Code sections that govern the federal income tax treatment of a REIT and its shareholders. The discussion is qualified in its entirety by the applicable Code provisions, Treasury Regulations promulgated thereunder, and administrative and judicial interpretations thereof, all of which are subject to change prospectively or retrospectively. Hunton & Williams has acted as counsel to the Company in connection with the Offering and the Company's election to be taxed as a REIT. In the opinion of Hunton & Williams, commencing with the Company's short taxable year ending December 31, 1998, and assuming that the elections and other procedural steps described in this discussion of "Federal Income Tax Consequences" are completed by the Company in a timely fashion, the Company will be organized in conformity with the requirements for qualification as a REIT, and its proposed method of operation will enable it to meet the requirements for qualification and taxation as a REIT under the Code. Investors should be aware, however, that opinions of counsel are not binding upon the Service or any court. It must be emphasized that Hunton & Williams' opinion is based on various assumptions and is conditioned upon certain representations made by the Company as to factual matters, including representations regarding the nature of the Company's properties, the Percentage Leases, and the future conduct of the Company's business. Such factual assumptions and representations are described below in this discussion of "Federal Income Tax Consequences" and are set out in the federal income tax opinion that will be delivered by Hunton & Williams at the closing of the Offering. Moreover, such qualification and taxation as a REIT depend upon the Company's ability to meet on a continuing basis, through actual annual operating results, distribution levels, and share ownership, the various qualification tests imposed under the Code discussed below. Hunton & Williams will not review the Company's compliance with those tests on a continuing basis. Accordingly, no assurance can be given that the actual results of the Company's operation for any particular taxable year will satisfy such requirements. For a discussion of the tax consequences of failure to qualify as a REIT, see "--Failure to Qualify." 86 If the Company qualifies for taxation as a REIT, it generally will not be subject to federal corporate income tax on its net income that is distributed currently to its shareholders. That treatment substantially eliminates the "double taxation" (i.e., taxation at both the corporate and shareholder levels) that generally results from an investment in a corporation. However, the Company will be subject to federal income tax in the following circumstances. First, the Company will be taxed at regular corporate rates on any undistributed REIT taxable income, including undistributed net capital gains. Second, under certain circumstances, the Company may be subject to the "alternative minimum tax" on its undistributed items of tax preference. Third, if the Company has (i) net income from the sale or other disposition of "foreclosure property" that is held primarily for sale to customers in the ordinary course of business or (ii) other non-qualifying income from foreclosure property, it will be subject to tax at the highest corporate rate on such income. Fourth, if the Company has net income from prohibited transactions (which are, in general, certain sales or other dispositions of property (other than foreclosure property) held primarily for sale to customers in the ordinary course of business), such income will be subject to a 100% tax. Fifth, if the Company should fail to satisfy the 75% gross income test or the 95% gross income test (as discussed below), and has nonetheless maintained its qualification as a REIT because certain other requirements have been met, it will be subject to a 100% tax on the gross income attributable to the greater of the amount by which the Company fails the 75% or 95% gross income test, multiplied by a fraction intended to reflect the Company's profitability. Sixth, if the Company should fail to distribute during each calendar year at least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95% of its REIT capital gain net income for such year, and (iii) any undistributed taxable income from prior periods, the Company would be subject to a 4% excise tax on the excess of such required distribution over the amounts actually distributed. To the extent that the Company elects to retain and pay income tax on its net long-term capital gain, such retained amounts will be treated as having been distributed for purposes of the 4% excise tax. Seventh, if the Company acquires any asset from a C corporation (i.e., a corporation generally subject to full corporate-level tax) in a transaction in which the basis of the asset in the Company's hands is determined by reference to the basis of the asset (or any other asset) in the hands of the C corporation and the Company recognizes gain on the disposition of such asset during the 10-year period beginning on the date on which such asset was acquired by the Company, then to the extent of such asset's "built-in gain" (i.e., the excess of the fair market value of such asset at the time of acquisition by the Company over the adjusted basis in such asset at such time), such gain will be subject to tax at the highest regular corporate rate applicable (as provided in Treasury Regulations that have not yet been promulgated). The results described above with respect to the recognition of "built-in gain" assume that the Company would make an election pursuant to IRS Notice 88-19 if it were to make any such acquisition. Requirements for Qualification The Code defines a REIT as a corporation, trust or association (i) that is managed by one or more trustees or directors; (ii) the beneficial ownership of which is evidenced by transferable shares, or by transferable certificates of beneficial interest; (iii) that would be taxable as a domestic corporation, but for sections 856 through 860 of the Code; (iv) that is neither a financial institution nor an insurance company subject to certain provisions of the Code; (v) the beneficial ownership of which is held by 100 or more persons; (vi) not more than 50% in value of the outstanding shares of beneficial interest of which is owned, directly or indirectly, by five or fewer individuals (as defined in the Code to include certain entities) during the last half of each taxable year (the "5/50 Rule"); (vii) that makes an election to be a REIT (or has made such election for a previous taxable year) and satisfies all relevant filing and other administrative requirements established by the Service that must be met in order to elect and to maintain REIT status; (viii) that uses a calendar year for federal income tax purposes and complies with the recordkeeping requirements of the Code and Treasury Regulations; and (ix) that meets certain other tests, described below, regarding the nature of its income and assets. The Code provides that conditions (i) to (iv), inclusive, must be met during the entire taxable year and that condition (v) must be met during at least 335 days of a taxable year of 12 months, or during a proportionate part of a taxable year of less than 12 months. Conditions (v) and (vi) will not apply until after the first taxable year for which an election is made by the Company to be taxed as a REIT. The Company anticipates issuing sufficient Common Shares with sufficient diversity of ownership pursuant to the Offering to allow it to satisfy requirements (v) and (vi). In addition, the Company's Declaration of Trust provides for restrictions regarding ownership and transfer of the Common Shares that are intended to assist the Company in continuing to satisfy the share ownership requirements described in (v) and (vi) above. Such transfer restrictions are described in "Description of Shares of Beneficial Interest--Restrictions on Transfer." For purposes of determining share ownership under the 5/50 Rule, a supplemental unemployment compensation benefits plan, a private foundation, or a portion of a trust permanently set aside or used exclusively for charitable purposes is considered an individual, although a trust that is a qualified trust under Code section 87 401(a) is not considered an individual and the beneficiaries of such trust are treated as holding shares of a REIT in proportion to their actuarial interests in the trust for purposes of the 5/50 Rule. The Company does not currently have any corporate subsidiaries, nor will it have any corporate subsidiaries immediately after completion of the Offering, although it may have corporate subsidiaries in the future. Code section 856(i) provides that a corporation that is a "qualified REIT subsidiary" shall not be treated as a separate corporation, and all assets, liabilities, and items of income, deduction, and credit of a "qualified REIT subsidiary" shall be treated as assets, liabilities, and items of income, deduction, and credit of the REIT. A "qualified REIT subsidiary" is a corporation, all of the capital stock of which is owned by the REIT. Thus, in applying the requirements described herein, any "qualified REIT subsidiaries" acquired or formed by the Company will be ignored, and all assets, liabilities, and items of income, deduction, and credit of such subsidiaries will be treated as assets, liabilities and items of income, deduction, and credit of the Company. Pursuant to Treasury Regulations effective January 1, 1997 relating to entity classification (the "Check-the-Box Regulations"), an unincorporated entity that has a single owner is disregarded as an entity separate from its owner for federal income tax purposes. Some of the hotels will be owned by partnerships ("Subsidiary Partnerships") that are owned 99% by the Partnership and 1% by a limited liability company (the "Subsidiary LLC") that is owned 100% by the Partnership. Under the Check-the-Box Regulations, because the Partnership will be deemed to own 100% of the interests in the Subsidiary LLC and the Subsidiary Partnerships, both the Subsidiary LLC and the Subsidiary Partnerships will be disregarded as entities separate from the Partnership for federal income tax purposes. The Subsidiary LLC and the Subsidiary Partnerships, however, may be subject to state and local taxation. In the case of a REIT that is a partner in a partnership, Treasury Regulations provide that the REIT will be deemed to own its proportionate share of the assets of the partnership and will be deemed to be entitled to the gross income of the partnership attributable to such share. In addition, the assets and gross income of the partnership will retain the same character in the hands of the REIT for purposes of section 856 of the Code, including satisfying the gross income and asset tests, described below. Thus, the Company's proportionate share of the assets, liabilities and items of income of the Partnership will be treated as assets and gross income of the Company for purposes of applying the requirements described herein. Income Tests In order for the Company to maintain its qualification as a REIT, there are two requirements relating to the Company's gross income that must be satisfied annually. First, at least 75% of the Company's gross income (excluding gross income from prohibited transactions) for each taxable year must consist of defined types of income derived directly or indirectly from investments relating to real property or mortgages on real property (including "rents from real property" and, in certain circumstances, interest) or temporary investment income. Second, at least 95% of the Company's gross income (excluding gross income from prohibited transactions) for each taxable year must be derived from such real property or temporary investments, and from dividends, other types of interest, and gain from the sale or disposition of stock or securities, or from any combination of the foregoing. The specific application of these tests to the Company is discussed below. Rents received by the Company will qualify as "rents from real property" in satisfying the gross income requirements for a REIT described above only if several conditions are met. First, the amount of rent must not be based in whole or in part on the income or profits of any person. However, an amount received or accrued generally will not be excluded from the term "rents from real property" solely by reason of being based on a fixed percentage or percentages of receipts or sales. Second, the Code provides that rents received from a tenant will not qualify as "rents from real property" in satisfying the gross income tests if the Company, or an owner of 10% or more of the Company, directly or constructively owns 10% or more of such tenant (a "Related Party Tenant"). Third, if rent attributable to personal property, leased in connection with a lease of real property, is greater than 15% of the total rent received under the lease, then the portion of rent attributable to such personal property will not qualify as "rents from real property." Finally, for rents received to qualify as "rents from real property," the Company generally must not operate or manage the property or furnish or render services to the tenants of such property, other than through an "independent contractor" who is adequately compensated and from whom the Company derives no revenue. The "independent contractor" requirement, however, does not apply with respect to certain de minimis services or to the extent the services provided by the Company are "usually or customarily rendered" in connection with the rental of space for occupancy only and are not otherwise considered "rendered to the occupant." 88 Pursuant to the Percentage Leases, the Lessee will lease from the Partnership the land, buildings, improvements, furnishings and equipment comprising the Initial Hotels for a five-year period. The Percentage Leases provide that the Lessee will be obligated to pay to the Partnership (i) either the Initial Fixed Rents (for the Newly-Developed Hotels and the Newly-Renovated Hotels) or the greater of Base Rent and Percentage Rent, with respect to the other Initial Hotels and (ii) certain other Additional Charges. The Percentage Rent is calculated by multiplying fixed percentages by the gross room and other revenues for each of the Initial Hotels. The Rent accrues and is required to be paid quarterly. Until the First Adjustment Date or the Second Adjustment Date, as applicable, the rent on the Newly-Developed Hotels and the Newly-Renovated Hotels will be the Initial Fixed Rents applicable to those hotels. After the First Adjustment Date or the Second Adjustment Date, as applicable, rent will be computed with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels based on the Percentage Rent formulas described herein. In order for the Rent and the Additional Charges to constitute "rents from real property," the Percentage Leases must be respected as true leases for federal income tax purposes and not treated as service contracts, joint ventures or some other type of arrangement. The determination of whether the Percentage Leases are true leases depends on an analysis of all the surrounding facts and circumstances. In making such a determination, courts have considered a variety of factors, including the following: (i) the intent of the parties, (ii) the form of the agreement, (iii) the degree of control over the property that is retained by the property owner (e.g., whether the lessee has substantial control over the operation of the property or whether the lessee was required simply to use its best efforts to perform its obligations under the agreement), and (iv) the extent to which the property owner retains the risk of loss with respect to the property (e.g., whether the lessee bears the risk of increases in operating expenses or the risk of damage to the property). In addition, Code section 7701(e) provides that a contract that purports to be a service contract (or a partnership agreement) is treated instead as a lease of property if the contract is properly treated as such, taking into account all relevant factors, including whether or not: (i) the service recipient is in physical possession of the property, (ii) the service recipient controls the property, (iii) the service recipient has a significant economic or possessory interest in the property (e.g., the property's use is likely to be dedicated to the service recipient for a substantial portion of the useful life of the property, the recipient shares the risk that the property will decline in value, the recipient shares in any appreciation in the value of the property, the recipient shares in savings in the property's operating costs, or the recipient bears the risk of damage to or loss of the property), (iv) the service provider does not bear any risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance under the contract, (v) the service provider does not use the property concurrently to provide significant services to entities unrelated to the service recipient, and (vi) the total contract price does not substantially exceed the rental value of the property for the contract period. Since the determination whether a service contract should be treated as a lease is inherently factual, the presence or absence of any single factor may not be dispositive in every case. The Company believes that the Percentage Leases will be treated as true leases for federal income tax purposes. Such belief is based, in part, on the following facts: (i) the Partnership and the Lessee intend for their relationship to be that of a lessor and lessee and such relationship will be documented by lease agreements, (ii) the Lessee will have the right to exclusive possession and use and quiet enjoyment of the Initial Hotels during the term of the Percentage Leases, (iii) the Lessee will bear the cost of, and be responsible for, day-to-day maintenance and repair of the Initial Hotels, other than the cost of capital expenditures that are classified as capital items under generally accepted accounting principles which are necessary for the continued operation of the Initial Hotels and will dictate how the Initial Hotels are operated, maintained, and improved, (iv) the Lessee will bear all of the costs and expenses of operating the Initial Hotels (including the cost of any inventory used in their operation) during the term of the Percentage Leases (other than real and personal property taxes, ground lease rent (where applicable)), property and casualty insurance, the cost of replacement or refurbishment of furniture, fixtures and equipment, and other capital improvements, to the extent such costs do not exceed the allowance for such costs provided by the Partnership under each Percentage Lease), (v) the Lessee will benefit from any savings in the costs of operating the Initial Hotels during the term of the Percentage Leases, (vi) in the event of damage or destruction to an Initial Hotel, the Lessee will be at economic risk because it will be obligated either (A) to restore the property to its prior condition, in which event it will bear all costs of such restoration in excess of any insurance proceeds or (B) to purchase the Initial Hotel for an amount generally equal to the fair market value of the property, less any insurance proceeds, (vii) the Lessee will indemnify the Partnership against all liabilities imposed on the Partnership during the term of the Percentage Leases by reason of (A) injury to persons or damage to property occurring at the Initial Hotels or (B) the Lessee's use, management, maintenance or repair of the Initial Hotels, (viii) the Lessee is 89 obligated to pay substantial fixed rent for the period of use of the Initial Hotels and (ix) the Lessee stands to incur substantial losses (or reap substantial gains) depending on how successfully it operates the Initial Hotels. Investors should be aware that there are no controlling Treasury Regulations, published rulings, or judicial decisions involving leases with terms substantially the same as the Percentage Leases that discuss whether such leases constitute true leases for federal income tax purposes. If the Percentage Leases are recharacterized as service contracts or partnership agreements, rather than true leases, part or all of the payments that the Partnership receives from the Lessee may not be considered rent or may not otherwise satisfy the various requirements for qualification as "rents from real property." In that case, the Company likely would not be able to satisfy either the 75% or 95% gross income test and, as a result, would lose its REIT status. In order for the Rent to constitute "rents from real property," several other requirements also must be satisfied. One requirement is that the Rent attributable to personal property leased in connection with the lease of the real property comprising an Initial Hotel must not be greater than 15% of the Rent received under the Percentage Lease. The Rent attributable to the personal property in an Initial Hotel is the amount that bears the same ratio to total rent for the taxable year as the average of the adjusted bases of the personal property associated with the Initial Hotel at the beginning and at the end of the taxable year bears to the average of the aggregate adjusted bases of both the real and personal property comprising the Initial Hotel at the beginning and at the end of such taxable year (the "Adjusted Basis Ratio"). With respect to each Initial Hotel, the initial adjusted bases of the personal property in such hotel will be less than 15% of the initial adjusted bases of both the real and personal property comprising such Hotel. Furthermore, the Partnership will not acquire additional personal property for an Initial Hotel to the extent that such acquisition would cause the Adjusted Basis Ratio for that hotel to exceed 15%. There can be no assurance, however, that the Service would not assert that the adjusted basis of the personal property acquired by the Partnership exceeded the adjusted basis claimed by the Partnership, or that a court would not uphold such assertion. If such a challenge were successfully asserted, the Company could fail the Adjusted Basis Ratio as to one or more of the Initial Hotels, which in turn potentially could cause it to fail to satisfy the 95% or 75% gross income test and thus lose its REIT status. Another requirement for qualification of the Rent as "rents from real property" is that the Percentage Rent must not be based in whole or in part on the income or profits of any person. The Percentage Rent, however, will qualify as "rents from real property" if it is based on percentages of receipts or sales and the percentages (i) are fixed at the time the Percentage Leases are entered into, (ii) are not renegotiated during the term of the Percentage Leases in a manner that has the effect of basing Percentage Rent on income or profits, and (iii) conform with normal business practice. More generally, the Percentage Rent will not qualify as "rents from real property" if, considering the Percentage Leases and all the surrounding circumstances, the arrangement does not conform with normal business practice, but is in reality used as a means of basing the Percentage Rent on income or profits. Since the Percentage Rent is based on fixed percentages of the gross revenues per quarter from the Initial Hotels that are established in the Percentage Leases, and the Company has represented that the percentages (i) will not be renegotiated during the terms of the Percentage Leases in a manner that has the effect of basing the Percentage Rent on income or profits and (ii) conform with normal business practice, the Percentage Rent should not be considered based in whole or in part on the income or profits of any person. Furthermore, the Company has represented that, with respect to other hotels that it acquires in the future, it will not charge rent for any property that is based in whole or in part on the income or profits of any person (except by reason of being based on a fixed percentage of gross revenues per quarter, as described above). A third requirement for qualification of the Rent as "rents from real property" is that the Company must not own, actually or constructively, 10% or more of the ownership interests in the Lessee. The constructive ownership rules generally provide that, if 10% or more in value of the shares of beneficial interest in the Company are owned, directly or indirectly, by or for any person, the Company is considered as owning the shares owned, directly or indirectly, by or for such person. The Company initially will not own, actually or constructively, any interest in the Lessee. The Limited Partners of the Partnership, including Mr. Shah, who is a partner of the Lessee, may acquire Common Shares by exercising their Redemption Rights. The Partnership Agreement, however, provides that a redeeming Limited Partner will receive cash, rather than Common Shares, at the election of the Company or if the acquisition of Common Shares by such partner would cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of section 856(d)(2)(B) of the Code. The Declaration of Trust likewise prohibits a shareholder of the Company from owning Common or Preferred Shares that would cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of section 856(d)(2)(B) of the Code. Thus, the Company should never own, 90 actually or constructively, 10% of more of the Lessee. Furthermore, the Company has represented that, with respect to other hotels that it acquires in the future, it will not rent any property to a Related Party Tenant. A fourth requirement for qualification of the Rent as "rents from real property" is that the Company cannot furnish or render noncustomary services to the tenants of the Initial Hotels, or manage or operate the Initial Hotels, other than through an independent contractor who is adequately compensated and from whom the Company itself does not derive or receive any income. However, the Company may furnish or render a de minimis amount of "noncustomary services" to the tenants of an Initial Hotel other than through an independent contractor as long as the amount that the Company receives that is attributable to such services does not exceed 1% of its total revenue from the Initial Hotel. For that purpose, the amount attributable to the Company's noncustomary services will be at least equal to 150% of the Company's cost of providing the services. Provided that the Percentage Leases are respected as true leases, the Company should satisfy that requirement because the Partnership will not perform any services other than customary ones for the Lessee. Furthermore, the Company has represented that, with respect to other hotels that it acquires in the future, it will not perform noncustomary services with respect to the tenant of the property. As described above, however, if the Percentage Leases are recharacterized as service contracts or partnership agreements, the Rent likely would be disqualified as "rents from real property" because the Company would be considered to furnish or render services to the occupants of the Initial Hotels and to manage or operate the Initial Hotels other than through an independent contractor who is adequately compensated and from whom the Company derives or receives no income. If the Rent does not qualify as "rents from real property" because the rents attributable to personal property exceed 15% of the total Rent from an Initial Hotel for a taxable year, the portion of the Rent that is attributable to personal property will not be qualifying income for purposes of either the 75% or 95% gross income test. Thus, if the Rent attributable to personal property, plus any other non-qualifying income, during the taxable year exceeds 5% of the Company's gross income during the year, the Company would lose its REIT status. If, however, the Rent does not qualify as "rents from real property" because either (i) the Percentage Rent is considered based on income or profits of the Lessee, (ii) the Company owns, actually or constructively, 10% or more of the Lessee, or (iii) the Company furnishes noncustomary services (other than certain de minimis services) to the tenants of the Initial Hotels, or manages or operates the Initial Hotels, other than through a qualifying independent contractor, none of the Rent would qualify as "rents from real property." In that case, the Company likely would lose its REIT status because it would be unable to satisfy either the 75% or 95% gross income test. In addition to the Rent, the Lessee is required to pay to the Partnership the Additional Charges. To the extent that the Additional Charges represent either (i) reimbursements of amounts that the Lessee is obligated to pay to third parties or (ii) penalties for nonpayment or late payment of such amounts, the Additional Charges should qualify as "rents from real property." To the extent, however, that the Additional Charges represent interest that is accrued on the late payment of the Rent or the Additional Charges, the Additional Charges should not qualify as "rents from real property," but instead should be treated as interest that qualifies for the 95% gross income test. The term "interest" generally does not include any amount received or accrued (directly or indirectly) if the determination of such amount depends in whole or in part on the income or profits of any person. However, an amount received or accrued generally will not be excluded from the term "interest" solely by reason of being based on a fixed percentage or percentages of receipts or sales. The net income derived from any prohibited transaction is subject to a 100% tax. The term "prohibited transaction" generally includes a sale or other disposition of property (other than foreclosure property) that is held primarily for sale to customers in the ordinary course of a trade or business. All inventory required in the operation of the Initial Hotels will be purchased by the Lessee or its designee as required by the terms of the Percentage Leases. Accordingly, the Company believes that no asset owned by the Company or the Partnership will be held for sale to customers and that a sale of any such asset will not be in the ordinary course of business of the Company or the Partnership. Whether property is held "primarily for sale to customers in the ordinary course of a trade or business" depends, however, on the facts and circumstances in effect from time to time, including those related to a particular property. Nevertheless, the Company and the Partnership will attempt to comply with the terms of safe-harbor provisions in the Code prescribing when asset sales will not be characterized as prohibited transactions. Complete assurance cannot be given, however, that the Company and the Partnership can comply with the safe-harbor provisions of the Code or avoid owning property that may be characterized as property held "primarily for sale to customers in the ordinary course of a trade or business." 91 The Company will be subject to tax at the maximum corporate rate on any income from foreclosure property (other than income that would be qualified income under the 75% gross income test), less expenses directly connected with the production of such income. However, gross income from such foreclosure property will be qualifying income for purposes of the 75% and 95% gross income tests. "Foreclosure property" is defined as any real property (including interests in real property) and any personal property incident to such real property (i) that is acquired by a REIT as the result of such REIT having bid in such property at foreclosure, or having otherwise reduced such property to ownership or possession by agreement or process of law, after there was a default (or default was imminent) on a lease of such property or on an indebtedness that such property secured and (ii) for which such REIT makes a proper election to treat such property as foreclosure property. As a result of the rules with respect to foreclosure property, if the Lessee defaults on its obligations under a Percentage Lease for a Hotel, the Company terminates the Lessee's leasehold interest, and the Company is unable to find a replacement lessee for such Hotel within 90 days of such foreclosure, gross income from hotel operations conducted by the Company from such Hotel would cease to qualify for the 75% and 95% gross income tests. In such event, the Company likely would be unable to satisfy the 75% and 95% gross income tests and, thus, would fail to qualify as a REIT. It is possible that, from time to time, the Company or the Partnership will enter into hedging transactions with respect to one or more of its assets or liabilities. Any such hedging transactions could take a variety of forms, including interest rate swap contracts, interest rate cap or floor contracts, futures or forward contracts, and options. To the extent that the Company or the Partnership enters into an interest rate swap or cap contract, option, futures contract, forward rate agreement or similar financial instrument to reduce its interest rate risk with respect to indebtedness incurred or to be incurred to acquire or carry real estate assets, any periodic income or gain from the disposition of such contract should be qualifying income for purposes of the 95% gross income test, but not the 75% gross income test. To the extent that the Company or the Partnership hedges with other types of financial instruments or in other situations, it may not be entirely clear how the income from those transactions will be treated for purposes of the various income tests that apply to REITs under the Code. The Company intends to structure any hedging transactions in a manner that does not jeopardize its status as a REIT. If the Company fails to satisfy one or both of the 75% and 95% gross income tests for any taxable year, it may nevertheless qualify as a REIT for such year if it is entitled to relief under certain provisions of the Code. Those relief provisions will be generally available if the Company's failure to meet such tests is due to reasonable cause and not due to willful neglect, the Company attaches a schedule of the sources of its income to its return, and any incorrect information on the schedule was not due to fraud with intent to evade tax. It is not possible, however, to state whether in all circumstances the Company would be entitled to the benefit of those relief provisions. As discussed above in "Federal Income Tax Consequences--Taxation of the Company," even if those relief provisions apply, a 100% tax would be imposed with respect to the gross income attributable to the greater of the amount by which the Company fails the 75% or 95% gross income test, multiplied by a fraction intended to reflect the Company's profitability. Asset Tests The Company, at the close of each quarter of its taxable year, also must satisfy two tests relating to the nature of its assets. First, at least 75% of the value of the Company's total assets must be represented by cash or cash items (including certain receivables), government securities, "real estate assets," or, in cases where the Company raises new capital through share or long-term (at least five-year) debt offerings, temporary investments in stock or debt instruments during the one-year period following the Company's receipt of such capital. The term "real estate assets" includes interests in real property, interests in mortgages on real property to the extent the principal balance of the mortgage does not exceed the value of the associated real property, and shares of other REITs. For purposes of the 75% asset test, the term "interest in real property" includes an interest in land and improvements thereon, such as buildings or other inherently permanent structures (including items that are structural components of such buildings or structures), a leasehold in real property, and an option to acquire real property (or a leasehold in real property). Second, of the investments not included in the 75% asset class, the value of any one issuer's securities owned by the Company may not exceed 5% of the value of the Company's total assets and the Company may not own more than 10% of any one issuer's outstanding voting securities (except for its ownership interests in the Partnership or any qualified REIT subsidiary). For purposes of the asset tests, the Company will be deemed to own its proportionate share of the assets of the Partnership, rather than its partnership interest in the Partnership. The Company has represented that, as of the date of the Offering, (i) at least 75% of the value of its total assets will be represented by real estate assets, cash and cash items (including receivables), and government securities and (ii) it will not own any securities that 92 do not satisfy the 75% asset test. In addition, the Company has represented that it will not acquire or dispose, or cause the Partnership to acquire or dispose, of assets in the future in a way that would cause it to violate either asset test. If the Company should fail to satisfy the asset tests at the end of a calendar quarter, such a failure would not cause it to lose its REIT status if (i) it satisfied all of the asset tests at the close of the preceding calendar quarter and (ii) the discrepancy between the value of the Company's assets and the asset test requirements arose from changes in the market values of its assets and was not wholly or partly caused by an acquisition of non-qualifying assets. If the condition described in clause (ii) of the preceding sentence were not satisfied, the Company still could avoid disqualification by eliminating any discrepancy within 30 days after the close of the quarter in which it arose. Distribution Requirements The Company, in order to qualify as a REIT, is required to distribute dividends (other than capital gain dividends) to its shareholders in an amount at least equal to (i) the sum of (A) 95% of its "REIT taxable income" (computed without regard to the dividends paid deduction and its net capital gain) and (B) 95% of the net income (after tax), if any, from foreclosure property, minus (ii) the sum of certain items of noncash income. Such distributions must be paid in the taxable year to which they relate, or in the following taxable year if declared before the Company timely files its tax return for such year and if paid on or before the first regular dividend payment after such declaration. To the extent that the Company does not distribute all of its net capital gain or distributes at least 95%, but less than 100%, of its "REIT taxable income," as adjusted, it will be subject to tax thereon at regular ordinary and capital gains corporate tax rates. Furthermore, if the Company should fail to distribute during each calendar year at least the sum of (i) 85% of its REIT ordinary income for such year, (ii) 95% of its REIT capital gain income for such year, and (iii) any undistributed taxable income from prior periods, the Company would be subject to a 4% nondeductible excise tax on the excess of such required distribution over the amounts actually distributed. The Company may elect to retain and pay income tax on its net long-term capital gains, as described in "--Taxation of Taxable U.S. Shareholders." Any such retained amount would be treated as having been distributed by the Company for purposes of the 4% excise tax. The Company intends to make timely distributions sufficient to satisfy all annual distribution requirements. It is possible that, from time to time, the Company may experience timing differences between (i) the actual receipt of income and actual payment of deductible expenses and (ii) the inclusion of that income and deduction of such expenses in arriving at its REIT taxable income. For example, it is possible that, from time to time, the Company may be allocated a share of net capital gain attributable to the sale of depreciated property that exceeds its allocable share of cash attributable to that sale. Therefore, the Company may have less cash available for distribution than is necessary to meet its annual 95% distribution requirement or to avoid corporate income tax or the excise tax imposed on certain undistributed income. In such a situation, the Company may find it necessary to arrange for short-term (or possibly long-term) borrowings or to raise funds through the issuance of additional Common or Preferred Shares. Under certain circumstances, the Company may be able to rectify a failure to meet the distribution requirement for a year by paying "deficiency dividends" to its shareholders in a later year, which may be included in the Company's deduction for dividends paid for the earlier year. Although the Company may be able to avoid being taxed on amounts distributed as deficiency dividends, it will be required to pay to the Service interest based upon the amount of any deduction taken for deficiency dividends. Recordkeeping Requirement Pursuant to applicable Treasury Regulations, the Company must maintain certain records and request on an annual basis certain information from its shareholders designed to disclose the actual ownership of its outstanding shares. The Company intends to comply with such requirements. Failure to Qualify If the Company fails to qualify for taxation as a REIT in any taxable year, and the relief provisions do not apply, the Company will be subject to tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates. Distributions to the shareholders in any year in which the Company fails to qualify will 93 not be deductible by the Company nor will they be required to be made. In such event, to the extent of current and accumulated earnings and profits, all distributions to shareholders will be taxable as ordinary income and, subject to certain limitations of the Code, corporate distributees may be eligible for the dividends received deduction. Unless entitled to relief under specific statutory provisions, the Company also will be disqualified from taxation as a REIT for the four taxable years following the year during which the Company ceased to qualify as a REIT. It is not possible to state whether in all circumstances the Company would be entitled to such statutory relief. Taxation of Taxable U.S. Shareholders As long as the Company qualifies as a REIT, distributions made to the Company's taxable U.S. shareholders out of current or accumulated earnings and profits (and not designated as capital gain dividends or retained capital gains) will be taken into account by such U.S. shareholders as ordinary income and will not be eligible for the dividends received deduction generally available to corporations. As used herein, the term "U.S. shareholder" means a holder of Common Shares that for U.S. federal income tax purposes is (i) a citizen or resident of the United States, (ii) a corporation, partnership, or other entity created or organized in or under the laws of the United States or of any political subdivision thereof, (iii) an estate whose income from sources without the United States is includible in gross income for U.S. federal income tax purposes regardless of its connection with the conduct of a trade or business within the United States or (iv) any trust with respect to which (A) a U.S. court is able to exercise primary supervision over the administration of such trust and (B) one or more U.S. persons have the authority to control all substantial decisions of the trust. Distributions that are designated as capital gain dividends will be taxed as long-term capital gains (to the extent they do not exceed the Company's actual net capital gain for the taxable year) without regard to the period for which the shareholder has held his Common Shares. However, corporate shareholders may be required to treat up to 20% of certain capital gain dividends as ordinary income. The Company may elect to retain and pay income tax on its net long-term capital gains. In that case, the Company's shareholders would include in income their proportionate share of the Company's undistributed long-term capital gains. In addition, the shareholders would be deemed to have paid their proportionate share of the tax paid by the Company, which would be credited or refunded to the shareholders. Each shareholder's basis in his shares would be increased by the amount of the undistributed long-term capital gain included in the shareholder's income, less the shareholder's share of the tax paid by the Company. Distributions in excess of current and accumulated earnings and profits will not be taxable to a shareholder to the extent that they do not exceed the adjusted basis of the shareholder's Common Shares, but rather will reduce the adjusted basis of such shares. To the extent that distributions in excess of current and accumulated earnings and profits exceed the adjusted basis of a shareholder's Common Shares, such distributions will be included in income as long-term capital gain (or short-term capital gain if the Common Shares have been held for one year or less) assuming the Common Shares are capital assets in the hands of the shareholder. In addition, any distribution declared by the Company in October, November, or December of any year and payable to a shareholder of record on a specified date in any such month shall be treated as both paid by the Company and received by the shareholder on December 31 of such year, provided that the distribution is actually paid by the Company during January of the following calendar year. Shareholders may not include in their individual income tax returns any net operating losses or capital losses of the Company. Instead, such losses would be carried over by the Company for potential offset against its future income (subject to certain limitations). Taxable distributions from the Company and gain from the disposition of the Common Shares will not be treated as passive activity income and, therefore, shareholders generally will not be able to apply any "passive activity losses" (such as losses from certain types of limited partnerships in which the shareholder is a limited partner) against such income. In addition, taxable distributions from the Company and gain from the disposition of Common Shares generally will be treated as investment income for purposes of the investment interest limitations. The Company will notify shareholders after the close of the Company's taxable year as to the portions of the distributions attributable to that year that constitute ordinary income, return of capital, and capital gain. Taxation of Shareholders on the Disposition of the Common Shares In general, any gain or loss realized upon a taxable disposition of the Common Shares by a shareholder who is not a dealer in securities will be treated as long-term capital gain or loss if the Common Shares have been held for more than one year and otherwise as short-term capital gain or loss. However, any loss upon a sale or exchange of Common Shares by a shareholder who has held such shares for six months or less (after applying certain holding period rules), will be treated as a long-term capital loss to the extent of distributions from the 94 Company required to be treated by such shareholder as long-term capital gain. All or a portion of any loss realized upon a taxable disposition of the Common Shares may be disallowed if other Common Shares are purchased within 30 days before or after the disposition. Capital Gains and Losses A capital asset generally must be held for more than one year in order for gain or loss derived from its sale or exchange to be treated as long-term capital gain or loss. The maximum tax rate on net capital gains applicable to noncorporate taxpayers is 20% for sales and exchanges of assets held for more than one year. The maximum tax rate on long-term capital gain from the sale or exchange of "section 1250 property" (i.e., depreciable real property) held for more than one year is 25% to the extent that such gain would have been treated as ordinary income if the property were "section 1245 property." With respect to distributions designated by the Company as capital gain dividends and any retained capital gains that the Company is deemed to distribute, the Company may designate (subject to certain limits) whether such a dividend or distribution is taxable to its noncorporate stockholders at a 20% or 25% rate. Thus, the tax rate differential between capital gain and ordinary income for noncorporate taxpayers may be significant. In addition, the characterization of income as capital or ordinary may affect the deductibility of capital losses. Capital losses not offset by capital gains may be deducted against a noncorporate taxpayer's ordinary income only up to a maximum annual amount of $3,000. Unused capital losses may be carried forward. All net capital gain of a corporate taxpayer is subject to tax at ordinary corporate rates. A corporate taxpayer can deduct capital losses only to the extent of capital gains, with unused losses being carried back three years and forward five years. Information Reporting Requirements and Backup Withholding The Company will report to its U.S. Shareholders and the Service the amount of distributions paid during each calendar year, and the amount of tax withheld, if any. Under the backup withholding rules, a shareholder may be subject to backup withholding at the rate of 31% with respect to distributions paid unless such holder (i) is a corporation or comes within certain other exempt categories and, when required, demonstrates this fact or (ii) provides a taxpayer identification number, certifies as to no loss of exemption from backup withholding, and otherwise complies with the applicable requirements of the backup withholding rules. A shareholder who does not provide the Company with his correct taxpayer identification number also may be subject to penalties imposed by the Service. Any amount paid as backup withholding will be creditable against the shareholder's income tax liability. In addition, the Company may be required to withhold a portion of capital gain distributions to any shareholders who fail to certify their nonforeign status to the Company. The Service has issued final regulations regarding the backup withholding rules as applied to non-U.S. Shareholders. Those regulations alter the current system of backup withholding compliance and are effective for distributions made after December 31, 1999. See "--Taxation of Non-U.S. Shareholders." Taxation of Tax-Exempt Shareholders Tax-exempt entities, including qualified employee pension and profit sharing trusts and individual retirement accounts ("Exempt Organizations"), generally are exempt from federal income taxation. However, they are subject to taxation on their unrelated business taxable income ("UBTI"). While many investments in real estate generate UBTI, the Service has issued a published ruling that dividend distributions by a REIT to an exempt employee pension trust do not constitute UBTI, provided that the shares of the REIT are not otherwise used in an unrelated trade or business of the exempt employee pension trust. Based on that ruling, amounts distributed by the Company to Exempt Organizations generally should not constitute UBTI. However, if an Exempt Organization finances its acquisition of Common Shares with debt, a portion of its income from the Company will constitute UBTI pursuant to the "debt-financed property" rules. Furthermore, social clubs, voluntary employee benefit associations, supplemental unemployment benefit trusts, and qualified group legal services plans that are exempt from taxation under paragraphs (7), (9), (17), and (20), respectively, of Code section 501(c) are subject to different UBTI rules, which generally will require them to characterize distributions from the Company as UBTI. In addition, in certain circumstances, a pension trust that owns more than 10% of the Company's shares of beneficial interest is required to treat a percentage of the dividends from the Company as UBTI (the "UBTI Percentage"). The UBTI Percentage is the gross income derived from an unrelated trade or business (determined as if the Company were a pension trust) divided by the gross income of the Company for the year in which the dividends are paid. The UBTI rule applies to a pension trust holding more than 10% of the Company's shares of beneficial interest only if (i) the UBTI Percentage is at least 5%, (ii) the Company qualifies as a REIT by reason of the modification of the 5/50 Rule that allows the beneficiaries of the pension trust to be treated as holding shares of beneficial interest of the Company 95 in proportion to their actuarial interests in the pension trust, and (iii) either (A) one pension trust owns more than 25% of the value of the Company's shares of beneficial interest or (B) a group of pension trusts individually holding more than 10% of the value of the Company's shares of beneficial interest collectively owns more than 50% of the value of the Company's shares of beneficial interest. Taxation of Non-U.S. Shareholders The rules governing U.S. federal income taxation of nonresident alien individuals, foreign corporations, foreign partnerships, and other foreign shareholders (collectively, "Non-U.S. Shareholders") are complex and no attempt will be made herein to provide more than a summary of such rules. PROSPECTIVE NON-U.S. SHAREHOLDERS SHOULD CONSULT WITH THEIR OWN TAX ADVISORS TO DETERMINE THE IMPACT OF FEDERAL, STATE, AND LOCAL INCOME TAX LAWS WITH REGARD TO AN INVESTMENT IN THE COMMON SHARES, INCLUDING ANY REPORTING REQUIREMENTS. Distributions to Non-U.S. Shareholders that are not attributable to gain from sales or exchanges by the Company of U.S. real property interests and are not designated by the Company as capital gains dividends or retained capital gains will be treated as dividends of ordinary income to the extent that they are made out of current or accumulated earnings and profits of the Company. Such distributions ordinarily will be subject to a withholding tax equal to 30% of the gross amount of the distribution unless an applicable tax treaty reduces or eliminates that tax. However, if income from the investment in the Common Shares is treated as effectively connected with the Non-U.S. Shareholder's conduct of a U.S. trade or business, the Non-U.S. Shareholder generally will be subject to federal income tax at graduated rates, in the same manner as U.S. Shareholders are taxed with respect to such distributions (and also may be subject to the 30% branch profits tax in the case of a Non-U.S. Shareholder that is a foreign corporation). The Company expects to withhold U.S. income tax at the rate of 30% on the gross amount of any such distributions made to a Non-U.S. Shareholder unless (i) a lower treaty rate applies and any required form evidencing eligibility for that reduced rate is filed with the Company or (ii) the Non-U.S. Shareholder files an IRS Form 4224 with the Company claiming that the distribution is effectively connected income. The Service has issued final regulations that modify the manner in which the Company complies with the withholding requirements. Those regulations are effective for distributions made after December 31, 1999. Distributions in excess of current and accumulated earnings and profits of the Company will not be taxable to a shareholder to the extent that such distributions do not exceed the adjusted basis of the shareholder's Common Shares, but rather will reduce the adjusted basis of such shares. To the extent that distributions in excess of current and accumulated earnings and profits exceed the adjusted basis of a Non-U.S. Shareholder's Common Shares, such distributions will give rise to tax liability if the Non-U.S. Shareholder would otherwise be subject to tax on any gain from the sale or disposition of his Common Shares, as described below. Because it generally cannot be determined at the time a distribution is made whether or not such distribution will be in excess of current and accumulated earnings and profits, the entire amount of any distribution normally will be subject to withholding at the same rate as a dividend. However, amounts so withheld are refundable to the extent it is determined subsequently that such distribution was, in fact, in excess of current and accumulated earnings and profits of the Company. The Company is required to withhold 10% of any distribution in excess of the Company's current and accumulated earnings and profits. Consequently, although the Company intends to withhold at a rate of 30% on the entire amount of any distribution, to the extent that the Company does not do so, any portion of a distribution not subject to withholding at a rate of 30% will be subject to withholding at a rate of 10%. For any year in which the Company qualifies as a REIT, distributions that are attributable to gain from sales or exchanges by the Company of U.S. real property interests will be taxed to a Non-U.S. Shareholder under the provisions of the Foreign Investment in Real Property Tax Act of 1980 ("FIRPTA"). Under FIRPTA, distributions attributable to gain from sales of U.S. real property interests are taxed to a Non-U.S. Shareholder as if such gain were effectively connected with a U.S. business. Non-U.S. Shareholders thus would be taxed at the normal capital gain rates applicable to U.S. shareholders (subject to applicable alternative minimum tax and a special alternative minimum tax in the case of nonresident alien individuals). Distributions subject to FIRPTA also may be subject to a 30% branch profits tax in the hands of a foreign corporate shareholder not entitled to treaty relief or exemption. The Company is required to withhold 35% of any distribution that could be designated by the Company as a capital gains dividend. The amount withheld is creditable against the Non-U.S. Shareholder's FIRPTA tax liability. Gain recognized by a Non-U.S. Shareholder upon a sale of his Common Shares generally will not be taxed under FIRPTA if the Company is a "domestically controlled REIT," defined generally as a REIT in which at all 96 times during a specified testing period less than 50% in value of the stock was held directly or indirectly by foreign persons. However, because the Common Shares will be publicly traded, no assurance can be given that the Company will be a "domestically controlled REIT." Furthermore, gain not subject to FIRPTA will be taxable to a Non-U.S. Shareholder if (i) investment in the Common Shares is effectively connected with the Non-U.S. Shareholder's U.S. trade or business, in which case the Non-U.S. Shareholder will be subject to the same treatment as U.S. shareholders with respect to such gain, or (ii) the Non-U.S. Shareholder is a nonresident alien individual who was present in the United States for 183 days or more during the taxable year and certain other conditions apply, in which case the nonresident alien individual will be subject to a 30% tax on the individual's capital gains. However, a Non-U.S. Shareholder that owned, actually or constructively, 5% or less of the Common Shares at all times during a specified testing period will not be subject to tax under FIRPTA if the Common Shares are "regularly traded" on an established securities market. If the gain on the sale of the Common Shares were to be subject to taxation under FIRPTA, the Non-U.S. Shareholder would be subject to the same treatment as U.S. shareholders with respect to such gain (subject to applicable alternative minimum tax, a special alternative minimum tax in the case of nonresident alien individuals, and the possible application of the 30% branch profits tax in the case of foreign corporations). Other Tax Consequences The Company, the Partnership, or the Company's shareholders may be subject to state or local taxation in various state or local jurisdictions, including those in which it or they own property, transact business, or reside. The state and local tax treatment of the Company and its shareholders may not conform to the federal income tax consequences discussed above. CONSEQUENTLY, PROSPECTIVE SHAREHOLDERS SHOULD CONSULT THEIR OWN TAX ADVISORS REGARDING THE EFFECT OF STATE AND LOCAL TAX LAWS ON AN INVESTMENT IN THE COMPANY. Tax Aspects of the Partnership The following discussion summarizes certain federal income tax considerations applicable to the Company's investment in the Partnership. The discussion does not cover state or local tax laws or any federal tax laws other than income tax laws. Classification as a Partnership The Company will be entitled to include in its income its distributive share of the Partnership's income and to deduct its distributive share of the Partnership's losses only if the Partnership is classified for federal income tax purposes as a partnership rather than as an association taxable as a corporation. An entity will be classified as a partnership rather than as a corporation for federal income tax purposes if the entity (i) is treated as a partnership under the Check-the-Box Regulations and (ii) is not a "publicly traded" partnership. In general, under the Check-the-Box Regulations, an unincorporated entity with at least two members may elect to be classified either as an association taxable as a corporation or as a partnership. If such an entity fails to make an election, it generally will be treated as a partnership for federal income tax purposes. The Partnership intends to be classified as a partnership and the Company has represented that the Partnership will not elect to be treated as an association taxable as a corporation for federal income tax purposes under the Check-the-Box Regulations. A publicly traded partnership is a partnership whose interests are traded on an established securities market or are readily tradable on a secondary market (or the substantial equivalent thereof). A publicly traded partnership will be treated as a corporation for federal income tax purposes unless at least 90% of such partnership's gross income for a taxable year consists of "qualifying income" under section 7704(d) of the Code, which generally includes any income that is qualifying income for purposes of the 95% gross income test applicable to REITs (the "90% Passive-Type Income Exception"). See "--Requirements for Qualification--Income Tests." The U.S. Treasury Department has issued regulations (the "PTP Regulations") that provide limited safe harbors from the definition of a publicly traded partnership. Pursuant to one of those safe harbors (the "Private Placement Exclusion"), interests in a partnership will not be treated as readily tradable on a secondary market or the substantial equivalent thereof if (i) all interests in the partnership were issued in a transaction (or transactions) that was not required to be registered under the Securities Act, and (ii) the partnership does not have more than 100 partners at any time during the partnership's taxable year. In determining the number of partners in a partnership, a person owning an interest in a flow-through entity (i.e., a partnership, grantor trust or S corporation) that owns an interest 97 in the partnership is treated as a partner in such partnership only if (a) substantially all of the value of the owner's interest in the flow-through entity is attributable to the flow-through entity's interest (direct or indirect) in the partnership and (b) a principal purpose of the use of the flow-through entity is to permit the partnership to satisfy the 100-partner limitation. The Partnership qualifies for the Private Placement Exclusion. The Partnership has not requested, and does not intend to request, a ruling from the Service that it will be classified as a partnership for federal income tax purposes. Instead, at the closing of the Offering, Hunton & Williams will deliver its opinion that the Partnership will be treated for federal income tax purposes as a partnership and not as an association taxable as a corporation. Unlike a tax ruling, an opinion of counsel is not binding upon the Service, and no assurance can be given that the Service will not challenge the status of the Partnership as a partnership for federal income tax purposes. If such challenge were sustained by a court, the Partnership would be treated as a corporation for federal income tax purposes, as described below. The opinion of Hunton & Williams will be based on existing law, which is to a great extent the result of administrative and judicial interpretation. No assurance can be given that administrative or judicial changes would not modify the conclusions expressed in the opinion. If for any reason the Partnership was taxable as a corporation, rather than as a partnership, for federal income tax purposes, the Company would not be able to qualify as a REIT. See "--Requirements for Qualification--Income Tests" and "--Requirements for Qualification--Asset Tests." In addition, any change in the Partnership's status for tax purposes might be treated as a taxable event, in which case the Company might incur a tax liability without any related cash distribution. See "--Requirements for Qualification--Distribution Requirements." Further, items of income and deduction of the Partnership would not pass through to its partners, and its partners would be treated as shareholders for tax purposes. Consequently, the Partnership would be required to pay income tax at corporate tax rates on its net income, and distributions to its partners would constitute dividends that would not be deductible in computing the Partnership's taxable income. Income Taxation of the Partnership and its Partners Partners, Not the Partnership, Subject to Tax. A partnership is not a taxable entity for federal income tax purposes. Rather, the Company will be required to take into account its allocable share of the Partnership's income, gains, losses, deductions, and credits for any taxable year of the Partnership ending within or with the taxable year of the Company, without regard to whether the Company has received or will receive any distribution from the Partnership. Partnership Allocations. Although a partnership agreement generally will determine the allocation of income and losses among partners, such allocations will be disregarded for tax purposes under section 704(b) of the Code if they do not comply with the provisions of section 704(b) of the Code and the Treasury Regulations promulgated thereunder. If an allocation is not recognized for federal income tax purposes, the item subject to the allocation will be reallocated in accordance with the partners' interests in the partnership, which will be determined by taking into account all of the facts and circumstances relating to the economic arrangement of the partners with respect to such item. The Partnership's allocations of taxable income, gain and loss are intended to comply with the requirements of section 704(b) of the Code and the Treasury Regulations promulgated thereunder. Tax Allocations With Respect to Contributed Properties. Pursuant to section 704(c) of the Code, income, gain, loss, and deduction attributable to appreciated or depreciated property that is contributed to a partnership in exchange for an interest in the partnership must be allocated for federal income tax purposes in a manner such that the contributor is charged with, or benefits from, the unrealized gain or unrealized loss associated with the property at the time of the contribution. The amount of such unrealized gain or unrealized loss is generally equal to the difference between the fair market value of the contributed property at the time of contribution and the adjusted tax basis of such property at the time of contribution. The Treasury Department has issued regulations requiring partnerships to use a "reasonable method" for allocating items affected by section 704(c) of the Code and outlining several reasonable allocation methods. The Partnership generally will elect to use the traditional method for allocating Code section 704(c) items with respect to the hotels it acquires in exchange for Units. Under the Partnership Agreement, depreciation or amortization deductions of the Partnership generally will be allocated among the partners in accordance with their respective interests in the Partnership, except to the extent that the Partnership is required under Code section 704(c) to use a method for allocating tax depreciation deductions attributable to the Initial Hotels or other contributed properties that results in the Company receiving a disproportionately large share of such deductions. In addition, gain on the sale of an Initial Hotel will be specially 98 allocated to the Limited Partners to the extent of any "built-in" gain with respect to such Initial Hotel for federal income tax purposes. Depending on the allocation method elected under Code section 704(c), it is possible that the Company (i) may be allocated lower amounts of depreciation deductions for tax purposes with respect to contributed hotels than would be allocated to the Company if such hotels were to have a tax basis equal to their fair market value at the time of contribution and (ii) may be allocated taxable gain in the event of a sale of such contributed hotels in excess of the economic profit allocated to the Company as a result of such sale. These allocations may cause the Company to recognize taxable income in excess of cash proceeds, which might adversely affect the Company's ability to comply with the 95% distribution requirement, although the Company does not anticipate that this event will occur. The foregoing principles also will affect the calculation of the Company's earnings and profits for purposes of determining which portion of the Company's distributions is taxable as a dividend. The allocations described in this paragraph may result in a higher portion of the Company's distributions being taxed as a dividend than would have occurred had the Company purchased the Initial Hotels for cash. Basis in Partnership Interest. The Company's adjusted tax basis in its partnership interest in the Partnership generally will be equal to (i) the amount of cash and the basis of any other property contributed to the Partnership by the Company, (ii) increased by (A) its allocable share of the Partnership's income and (B) its allocable share of indebtedness of the Partnership, and (iii) reduced, but not below zero, by (A) the Company's allocable share of the Partnership's loss and (B) the amount of cash distributed to the Company, including constructive cash distributions resulting from a reduction in the Company's share of indebtedness of the Partnership. If the allocation of the Company's distributive share of the Partnership's loss would reduce the adjusted tax basis of the Company's partnership interest in the Partnership below zero, the recognition of such loss will be deferred until such time as the recognition of such loss would not reduce the Company's adjusted tax basis below zero. To the extent that the Partnership's distributions, or any decrease in the Company's share of the indebtedness of the Partnership (such decrease being considered a constructive cash distribution to the partners), would reduce the Company's adjusted tax basis below zero, such distributions (including such constructive distributions) will constitute taxable income to the Company. Such distributions and constructive distributions normally will be characterized as capital gain, and, if the Company's partnership interest in the Partnership has been held for longer than the long-term capital gain holding period (currently one year), the distributions and constructive distributions will constitute long-term capital gain. Depreciation Deductions Available to the Partnership. Immediately after the Offering, the Company will make a cash contribution to the Partnership in exchange for a partnership interest in the Partnership. The Partnership's initial basis in each Initial Hotel for federal income tax purposes should be the same as the Combined Entity's basis in that hotel on the date of acquisition. Although the law is not entirely clear, the Partnership intends to depreciate such depreciable hotel property for federal income tax purposes over the same remaining useful lives and under the same methods used by the Combined Entities. The Partnership's tax depreciation deductions will be allocated among the partners in accordance with their respective interests in the Partnership (except to the extent that the Partnership is required under Code section 704(c) to use a method for allocating depreciation deductions attributable to the Initial Hotels or other contributed properties that results in the Company receiving a disproportionately large share of such deductions). To the extent the Partnership acquires additional hotel properties for cash, the Partnership's initial basis in the properties for federal income tax purposes generally will be equal to the purchase price paid by the Partnership. The Partnership plans to depreciate such depreciable hotel property for federal income tax purposes under MACRS. Under MACRS, the Partnership generally will depreciate such furnishings and equipment over a seven-year recovery period using a 200% declining balance method and a half-year convention. If, however, the Partnership places more than 40% of its furnishings and equipment in service during the last three months of a taxable year, a mid-quarter depreciation convention must be used for the furnishings and equipment placed in service during that year. Under MACRS, the Partnership generally will depreciate buildings and improvements over a 39-year recovery period using a straight line method and a mid-month convention. Sale of the Company's or the Partnership's Property Generally, any gain realized by the Company or the Partnership on the sale of property held for more than one year will be long-term capital gain, except for any portion of such gain that is treated as depreciation or cost recovery recapture. Any gain recognized on the disposition of the Initial Hotels will be allocated first to the Limited Partners under section 704(c) of the Code to the extent of their "built-in gain" on those hotels for federal income tax purposes. The Limited Partners' "built-in gain" on the Initial Hotels sold will equal the excess of the Limited Partners' proportionate share of the book value of the Initial Hotels over the Limited Partners' tax basis allocable to the Initial Hotels at the time of the sale. Any remaining gain recognized by the Partnership on the disposition 99 of the Initial Hotels will be allocated among the partners in accordance with their respective percentage interests in the Partnership. The Board of Trustees has adopted a policy that any decision in connection with any transaction involving the Company, including the purchase, sale lease or mortgage of any real estate asset, in which a Trustee or officer of the Company, or any Affiliate thereof, has any interest (other than solely as a result of his status as a Trustee, officer or shareholder of the Company) must be approved by a majority of the Trustees, including a majority of the Independent Trustees. See "Risk Factors--Conflicts of Interest--Conflicts Relating to Sales or Refinancing of Initial Hotels." Any gain realized on the sale of any property held by the Company or the Partnership as inventory or other property held primarily for sale to customers in the ordinary course of the Company's or the Partnership's trade or business will be treated as income from a prohibited transaction that is subject to a 100% penalty tax. See "--Requirements for Qualification--Income Tests." Such prohibited transaction income also may have an adverse effect upon the Company's ability to satisfy the income tests for REIT status. See "--Requirements For Qualification--Income Tests" above. The Company, however, does not presently intend to acquire or hold or to allow the Partnership to acquire or hold any property that represents inventory or other property held primarily for sale to customers in the ordinary course of the Company's or the Partnership's trade or business. 100 UNDERWRITING Subject to the terms and conditions of the Underwriting Agreement, the Company has agreed to sell to the Underwriter, and the Underwriter has agreed to take and pay for, 1,833,334 Priority Common Shares, if any are taken. The Company intends to sell 166,666 Priority Common Shares directly to certain Hersha Affiliates at the Offering Price and no selling commission will be payable to the Underwriter with respect to such shares. The Underwriter proposes to offer the Priority Common Shares in part directly to the public at the Offering Price set forth on the cover page of the Prospectus and in part to certain securities dealers at such price less a concession of $________ per share. After the Priority Common Shares are released for sale to the public, the Offering Price and other selling terms may from time to time be varied by the Underwriter. The Company has granted the Underwriter an option exercisable for 30 days after the date of this Prospectus to purchase up to an aggregate of 275,000 additional Priority Common Shares solely to cover over-allotments, if any. Pursuant to the Underwriting Agreement, the obligations of the Underwriter to purchase the Common Shares are subject to approval of certain legal matters by counsel to the Underwriter and to various other conditions which are customary in transactions of this type, including that, as of the closing date of the Offering, there shall not have occurred (i) a suspension or material limitation in trading in securities generally on the New York Stock Exchange or The American Stock Exchange; (ii) a general moratorium on commercial banking activities in Virginia or New York, (iii) the engagement by the United States in hostilities which have resulted in the declaration of a national emergency or war if any such event would have such a materially adverse effect, in the Underwriter's reasonable judgment, as to make it impracticable or inadvisable to proceed with the purchase of shares on the terms and in the manner contemplated herein; or (iv) such a material adverse change in general economic, political, financial or international conditions affecting financial markets in the United States having a material adverse impact on trading prices of securities in general, as, in the Underwriter's reasonable judgment, makes it inadvisable to proceed with the solicitation of offers to purchase the shares or to consummate the offering with respect to investors solicited by the Underwriter on the terms and conditions contemplated herein. The Company has agreed to indemnify the Underwriter against certain liabilities, including liabilities under the Securities Act. The Company will issue to the Underwriter the Underwriter Warrants to purchase 183,333 Priority Common Shares exercisable for a period of five years after the effective date of the Offering at a price per share equal to 165% of the Offering Price. Until December ___, 2003, the Company has agreed to file with the Commission a shelf registration statement covering the resale of the Underwriter Warrants and all of the Priority Common Shares that may be issued upon exercise of the Underwriter Warrants ("Warrant Shares") in the event that the holders of at least 50,000 Underwriter Warrants (or Warrant Shares) request such registration. The first such registration shall be at the Company's expense. The holders of Underwriter Warrants and/or Warrant Shares may also request piggyback registration of the Underwriter Warrants and Warrant Shares at the Company's expense for a period ending December ___, 2005. Upon any of such requests, the Company will use its best efforts to have such registration statement declared effective . The Company has granted the Underwriter a right of first refusal, for a period of three years following consummation of the Offering, to act as underwriter or sales agent with respect to any future offering by the Company or the Partnership of any debt or equity securities. This right of first refusal, by limiting the ability of the Company and the Partnership to use other potential underwriters or selling agents, might have the effect of limiting the access of the Company and the Partnership to capital markets. Pursuant to the Underwriter's right to designate two Trustees to serve on the Board of Trustees of the Company, L. McCarthy Downs, III and Everette G. Allen, Jr. have agreed to serve as Trustees. Messrs. Downs and Allen each will receive $10,000 per year for serving as a Trustee of the Company. The Underwriter does not intend to sell the Priority Common Shares to any accounts over which it exercises discretionary authority. Prior to the Offering, there has been no public market for the Priority Common Shares. The initial public offering price is anticipated to be $6.00 per share. See "Risk Factors--Market for Common Shares." 101 The Company and the Limited Partners have agreed, subject to certain limited exceptions, not to offer, sell, contract to sell or otherwise dispose of any Priority Common Shares (or any securities convertible into, or exercisable or exchangeable for shares in the Company) for a period of 90 days after the date of this Prospectus, without the prior written consent of the Underwriter. The Underwriter will receive, along with the holders of the Priority Common Shares, notice from the Company that the Priority Rights will terminate in 15 trading days from the date the Company sends such notice, provided that the closing bid price of the Priority Common Shares is at least $7.00 on each trading day during such 15-day period. The Underwriter has agreed to pay $25,000 of the legal fees incurred by the Company in connection with the Offering. The Priority Common Shares have been approved for listing, subject to final notice of issuance, on The American Stock Exchange under the trading symbol "HT." 102 EXPERTS The balance sheet of the Company as of May 27, 1998 and of the Lessee as of May 27, 1998 included in this Prospectus, and the Combined Financial Statements and financial statement schedule of the Combined Entities-- Initial Hotels as of December 31, 1997 and 1996 and for each of the three years in the period ended December 31, 1997 included in this Prospectus, have been audited by Moore Stephens, P.C., independent certified public accountants, as set forth in their reports thereon included elsewhere herein and in the Registration Statement. Such Balance Sheets, Combined Financial Statements and financial statement schedule are included in reliance upon such reports given on their authority as experts in accounting and auditing. REPORTS TO SHAREHOLDERS The Company intends to furnish its shareholders with annual reports containing consolidated financial statements audited by its independent certified public accountants and with quarterly reports containing unaudited condensed consolidated financial statements for each of the first three quarters of each fiscal year. LEGAL MATTERS The validity of the Priority Common Shares offered hereby will be passed upon for the Company by Hunton & Williams. In addition, the description of federal income tax consequences contained in the section of the Prospectus entitled "Federal Income Tax Consequences" is based on the opinion of Hunton & Williams. Certain legal matters related to this Offering will be passed upon for the Underwriter by Willcox & Savage, P.C. Hunton & Williams and Willcox & Savage, P.C. will rely on the opinion of Ballard Spahr Andrews & Ingersoll, LLP as to all matters of Maryland law. ADDITIONAL INFORMATION The Company has filed with the Commission a Registration Statement on Form S-11 (of which this Prospectus is a part) under the Securities Act with respect to the securities offered hereby. This Prospectus does not contain all of the information set forth in the Registration Statement, certain portions of which have been omitted as permitted by the rules and regulations of the Commission. Statements contained in this Prospectus as to the content of any contract or other document are not necessarily complete. In each instance reference is made to the copy of such contract or other document filed as an exhibit to the Registration Statement, each such statement being qualified in all respects by such reference and the exhibits and schedules hereto. For further information regarding the Company and the Common Shares offered hereby, reference is hereby made to the Registration Statement and such exhibits and schedules. The Registration Statement and the exhibits and schedules forming a part thereof filed by the Company with the Commission can be inspected and copies obtained from the Commission at Room 1204, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549, and at the following regional offices of the Commission: 7 World Trade Center, 13th Floor, New York, New York 10048 and Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. Copies of such material can be obtained from the Public Reference Section of the Commission, 450 Fifth Street, N.W., Washington, D.C. 20549, at prescribed rates. The Commission also maintains a website that contains reports, proxy and information statements and other information regarding registrants that file documents with the Commission, including the Company, and the address is http://www.sec.gov. 103 GLOSSARY Unless the context otherwise requires, the following capitalized terms shall have the meanings set forth below for the purposes of this Prospectus. "5/50 Rule" means the requirement in the Code that not more than 50% in value of the outstanding shares of beneficial interest of the Company be owned, directly or indirectly, by five or fewer individuals (as defined in the Code to include certain entities) during the last half of each taxable year. "Acquisition Policy" means the Company's initial policy to acquire a hotel for which it expects to receive rents at least equal to 12% of the purchase price paid for the hotel, not of (i) property and casualty insurance premiums, (ii) real estate and personal property taxes, and (iii) a reserve for furniture, fixtures and equipment equal to 4% of gross revenues per quarter at the hotel. "ADA" means the Americans with Disabilities Act of 1990. "Additional Charges" means certain amounts payable by the Lessee in connection with Percentage Leases, including interest accrued on any late payments or charges. "ADR" means average daily room rate. "Affiliate" means (i) any person directly or indirectly owning, controlling, or holding, with power to vote ten percent or more of the outstanding voting securities of such other person, (ii) any person ten percent or more of whose outstanding voting securities are directly or indirectly owned, controlled, or held, with power to vote, by such other person, (iii) any person directly or indirectly controlling, controlled by, or under common control with such other person, (iv) any executive officer, director, trustee or general partner of such other person, and (v) any legal entity for which such person acts as an executive officer, director, trustee or general partner. The term "person" means and includes any natural person, corporation, partnership, association, limited liability company or any other legal entity. An indirect relationship shall include circumstances in which a person's spouse, children, parents, siblings or mothers-, fathers-, sisters- or brothers-in-law is or has been associated with a person. "Assumed Indebtedness" means that certain indebtedness in the aggregate principal amount of approximately $17.4 million secured by Initial Hotels, to be assumed by the Partnership in the Formation Transactions and to remain outstanding after the application of the net proceeds of the Offering. "Base Rent" means the fixed obligation of the Lessee to pay a minimum sum certain in quarterly Rent under each of the Percentage Leases. "Beneficiary" means the beneficiary of a Trust. "Board of Trustees" means the Board of Trustees of the Company. "Bylaws" means the Bylaws of the Company. "Choice Hotels" means Choice Hotels International, Inc. "Class B Common Shares" means the Company's Class B common shares of beneficial interest, par value $0.01 per share. "Closing Date" means the closing date of the Offering. "Closing Price" means the last sale price quoted on the American Stock Exchange. "Code" means the Internal Revenue Code of 1986, as amended. "Combined Entities" means Hasu P. Shah; Neil H. Shah; Bharat C. Mehta; David L. Desfor; Madhusudan I. Patni; Manhar Gandhi; Shree Associates; JSK Associates; Shanti Associates; Shreeji Associates; Kunj Associates; Devi Associates; Shreenathji Enterprises, Ltd.; 2144 Associates; and 144 Associates, 344 Associates, 544 Associates 104 and 644 Associates, joint tenants doing business as 2544 Associates, collectively the limited partnerships, corporation and individuals that, prior to the Formation Transactions, own the Initial Hotels. "Commission" means the United States Securities and Exchange Commission. "Common Shares" means the Priority Common Shares and the Class B Common Shares. "Company" means Hersha Hospitality Trust, a Maryland real estate investment trust. "Conversion Ratio" means the ratio representing the number of Priority Common Shares into which one Class B Common Share is convertible. "Debt Policy" means the Company's initial policy to limit consolidated indebtedness to less than 67% of the aggregate purchase price paid by the Company for the hotels in which it has invested. "Declaration of Trust" means the Declaration of Trust of the Company, as amended and restated. "FIRPTA" means Foreign Investment in Real Property Tax Act of 1980, as amended. "First Adjustment Date" means December 31, 1999. "Formation Transactions" means the principal transactions in connection with the formation of the Company as a REIT, the Offering and the acquisition of the Initial Hotels. "Franchise Licenses" means the franchise licenses held by the Lessee for the Initial Hotels. "Funds From Operations" means net income, (computed in accordance with generally accepted accounting principles), excluding gains, or losses, from debt restructuring or sales of property, plus depreciation and amortization, and after adjustments for unconsolidated partnerships and joint ventures. "General Partner" means Hersha Hospitality Trust, as the sole general partner of the Partnership. "Hersha Affiliates" means Hasu P. Shah; Jay H. Shah; Neil H. Shah; Bharat C. Mehta; Kanti D. Patel; Rajendra O. Gandhi; Kiran P. Patel; David L. Desfor; Madhusudan I. Patni; Manhar Gandhi; Shree Associates; JSK Associates; Shanti Associates; Shreeji Associates; Kunj Associates; Devi Associates; Shreenathji Enterprises, Ltd.; 2144 Associates; 144 Associates, 344 Associates, 544 Associates and 644 Associates, joint tenants doing business as 2544 Associates; the Lessee and their Affiliates, collectively owning 100% of the interests of the Combined Entities. "Hersha Warrants" means warrants that the Partnership has granted to 2744 Associates, L.P., which is a Hersha Affiliate, to purchase 250,000 Units for a period of five years at a price per Unit equal to 165% of the Offering Price. "Incentive Threshold" means a certain amount for each Initial Hotel in excess of the Threshold up to which the Company receives a certain percentage of the room revenues in excess of the Threshold as a component of Percentage Rent. "Independent Trustee" means a Trustee of the Company who is not an officer, director or employee of the Company, any lessee of the Company's or the Partnership's properties or any underwriter or placement agent of the shares of beneficial interest of the Company that has been engaged by the Company within the past three years, or any Affiliate thereof. "Initial Hotels" means ten hotels to be owned by the Partnership after the Formation Transactions are completed, which hotels include three Holiday Inn Express hotels, two Hampton Inn hotels, two Holiday Inn hotels, two Comfort Inn hotels and one Clarion Suites hotel. "Initial Fixed Rent" means the fixed rent payable by the Lessee with respect to the Newly-Developed Hotels and the Newly-Renovated Hotels until the First Adjustment Date or the Second Adjustment Date, as applicable. 105 "Interested Shareholder" means any person who beneficially owns 10% or more of a company's voting shares, or an Affiliate or associate of a company that, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power of a company's voting shares. "Junior Shares" means any class or series of the Company's shares of beneficial interest ranking junior to the Priority Common Shares with respect to payment of dividends or amounts upon liquidation, dissolution or winding up. "Lessee" means Hersha Hospitality Management, LP, a Pennsylvania limited partnership, which will lease from the Partnership and operate the Initial Hotels pursuant to the Percentage Leases. "Limited Partners" means the limited partners of the Partnership. "Line of Credit" means a $10 million line of credit facility that the Company is currently pursuing from various lenders. "Market Price" means, on a given day, the average of the Closing Prices for the five consecutive Trading Days ending on such date. "NAREIT" means the National Association of Real Estate Investment Trusts, Inc. "Newly-Developed Hotels" means the Holiday Inn Express(R) hotels located in Hershey, Pennsylvania and New Columbia, Pennsylvania, the Hampton Inn(R) hotel located in Carlisle, Pennsylvania and the Comfort Inn(R) hotel located in Harrisburg, Pennsylvania. "Newly-Renovated Hotels" means the Holiday Inn Express(R) hotel located in Harrisburg, Pennsylvania, the Holiday Inn(R) hotel located in Milesburg, Pennsylvania and the Comfort Inn located in Denver, Pennsylvania. "Non-U.S. Shareholders" means nonresident alien individuals, foreign corporations, foreign partnerships and other foreign shareholders. "Offering" means the offering of Priority Common Shares hereby. "Offering Price" means the initial public offering price of the Priority Common Shares in the Offering of $6.00 per share. "Option Agreement" means the option agreement to be executed by the Partnership and Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, each a Hersha Affiliate, granting the Partnership certain rights to acquire certain hotels developed or acquired by the Hersha Affiliates. "Option Plan" means the Hersha Hospitality Trust Option Plan. "Ownership Limitation" means the restriction on ownership (or deemed ownership by virtue of the attribution provisions of the Code) of more than 9.9% of the number of outstanding Common Shares or the number of outstanding Preferred Shares of any series. "Parity Shares" means any class or series of the Company's shares of beneficial interest ranking in parity with the Priority Common Shares with respect to payment of dividends or amounts upon liquidation, dissolution or winding up. "Partnership" means Hersha Hospitality Limited Partnership, a limited partnership organized under the laws of the Commonwealth of Virginia. "Partnership Agreement" means the partnership agreement of the Partnership, as amended and restated. "Percentage Leases" mean operating leases between the Lessee and the Partnership pursuant to which the Lessee will lease the ten Initial Hotels from the Partnership and any additional hotels acquired by the Company after the date of the Offering. 106 "Percentage Rents" means Rent payable by the Lessee pursuant to the Percentage Leases that is based on percentages of gross revenues per quarter from the Initial Hotels. "Preferred Shares" means the preferred shares of beneficial interest, par value $.01 per share, of the Company. "Priority Common Shares" means the Company's Priority Class A common shares of beneficial interest, par value $0.01 per share. "Priority Distribution" means cumulative dividends in an amount per Priority Common Share of $0.18 per quarter, to which holders of the Priority Common Shares are entitled during the Priority Period prior to distributions to any Junior Shares. "Priority Period" means the period beginning on the date of the closing of the Offering and ending on the earlier of: (i) the date that is 15 trading days after the Company sends notice to the holders of the Priority Common Shares that their Priority Rights will terminate in 15 trading days, provided that the closing bid price of the Priority Common Shares is at least $7.00 on each trading day during such 15-day period, or (ii) the fifth anniversary of the closing of the Offering. "Priority Rights" means the priority rights with respect to dividends and amounts payable upon liquidation, dissolution or winding up to which holders of the Priority Common Shares are entitled. "Prohibited Owner" means the record owner of Shares-in-Trust. "Redemption Right" means the right of the persons receiving Subordinated Units in the Formation Transactions to cause the redemption of Subordinated Units in exchange for cash or, at the option of the Company, Common Shares on a one-for-one basis. "REIT" means real estate investment trust, as defined in section 856 of the Code. "Rent" means the Initial Fixed Rent, the Base Rent and the Percentage Rents. "REVPAR" means revenue per available room for the applicable period, determined by dividing room revenue by available rooms. "Rule 144" means the rule promulgated under the Securities Act that permits holders of restricted securities as well as affiliates of an issuer of the securities, pursuant to certain conditions and subject to certain restrictions, to sell their securities publicly without registration under the Securities Act. "Securities Act" means the Securities Act of 1933, as amended. "Second Adjustment Date" means December 31, 2000. "Service" means the United States Internal Revenue Service. "Shares-in-Trust" means any Common Shares or Preferred Shares the purported transfer of which would (i) result in any person owning, directly or indirectly, Common Shares or Preferred Shares in excess of the Ownership Limitation, (ii) result in the Common Shares and Preferred Shares being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the Company being "closely held" within the meaning of Section 856(h) of the Code, or (iv) cause the Company to own, actually or constructively, 10% or more of the ownership interests in a tenant of the Company's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code. "Stabilized Hotels" means the Hampton Inn(R) hotel located in Selinsgrove, Pennsylvania, the Holiday Inn(R) hotel and conference center located in Harrisburg, Pennsylvania and the Clarion Suites(R) hotel located in Philadelphia, Pennsylvania. "Subordinated Units" means Units received by the Hersha Affiliates in exchange for the Initial Hotels. 107 "Threshold" means a certain amount for each Initial Hotel up to which the Company receives a certain percentage of room revenues as a component of Percentage Rent. "Trading Day" means a trading day on the American Stock Exchange. "Treasury Regulations" means the income tax regulations promulgated under the Code. "Trust" means a trust established to hold Shares-in-Trust. "Trustee" means a member of the Company's Board of Trustees. "Trustees' Plan" means the Hersha Hospitality Trust Non-Employee Trustees' Option Plan. "Underwriter" means Anderson & Strudwick, Incorporated. "Underwriter Warrants" means the warrants that the Company has granted the Underwriter to purchase 183,333 Priority Common Shares for a period of five years at a price per Priority Common Share equal to 165% of the Offering Price. "Units" means units of limited partnership interest in the Partnership. 108 INDEX TO PRO FORMA CONDENSED AND COMBINED FINANCIAL STATEMENTS
Hersha Hospitality Trust Pro Forma Condensed Combined Balance Sheet as of September 30, 1998............................... F-2 Independent Auditors' Report...................................................................... F-6 Balance Sheet as of May 27, 1998.................................................................. F-7 Notes to Balance Sheet............................................................................ F-8 Hersha Hospitality Limited Partnership Financial statements are not presented as the Partnership is not active and when active will be consolidated with the financial results of Hersha Hospitality Trust. Hersha Hospitality Management, L.P. Independent Auditors' Report...................................................................... F-11 Balance Sheet as of May 27, 1998.................................................................. F-12 Notes to Balance Sheet............................................................................ F-13 Combined Entities - Initial Hotels Pro Forma Condensed Combined Statement of Operations for the nine months ended September 30, 1998 ..................................................... F-14 Pro Forma Condensed Combined Statement of Operations for the year ended December 31, 1997.............................................................. F-16 Independent Auditors' Report...................................................................... F-18 Combined Financial Statements Balance Sheets as of September 30, 1998 [Unaudited] and December 31, 1997 and 1996........................................................................................ F-19 Statements of Operations for the nine months ended September 30, 1998 and 1997 [Unaudited] and for the years ended December 31, 1997, 1996, and 1995........................... F-20 Statement of Owners' Equity for the nine months ended September 30, 1998 [Unaudited] and for the years ended December 31, 1997, 1996, and 1995........................... F-21 Statements of Cash Flows for the nine months ended September 30, 1998 and 1997 [Unaudited] and for the years ended December 31, 1997, 1996, and 1995........................... F-22 Notes to Combined Financial Statements.......................................................... F-23 Schedule XI - Real Estate and Accumulated Depreciation............................................ F-32
. . . . . . . . . F-1 HERSHA HOSPITALITY TRUST PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998. [UNAUDITED, IN THOUSANDS] This unaudited pro forma Condensed Combined Balance Sheet is presented as if the acquisition of the Initial Hotels and the consummation of the Offering contemplated by this prospectus had occurred on September 30, 1998. Such pro forma information is based upon the Combined Balance Sheets of the Combined Entities - Initial Hotels as adjusted for the application of the proceeds of the Offering as set forth under the caption "Use of Proceeds"and assumes the issuance of 3,964,108 Units to the Hersha Affiliates which give rise to a minority interest percentage of 68.38%. It should be read in conjunction with the Combined Financial Statements of the Combined Entities - Initial Hotels and the Notes thereto included at pages F-24 through F-31 of this Prospectus. In management's opinion, all adjustments necessary to reflect the effects of this transaction have been made. This unaudited pro forma Condensed Combined Balance Sheet is not necessarily indicative of what the actual financial position would have been assuming such transactions had been completed as of September 30, 1998, nor does it purport to represent the future financial position of the Company. F-2 HERSHA HOSPITALITY TRUST PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998. [UNAUDITED, IN THOUSANDS]
Historical Adjustments Combined and Entities Proceeds of Pro Forma Use of Pro Forma Initial Hotels Offering Company Proceeds Company -------------- -------------- ------------- ----------------- ------------ [A] [B] [C] Assets: Net Investment in Hotel Properties $ 26,904 $ -- $ 26,904 $ 250 [D] $ 40,489 (552) [E] (150) [E] 14,037 [F] Cash 1,258 9,470 10,728 (8,378) [D] 2,350 Other Assets 1,536 -- 1,536 (1,536) [E] -- Intangibles 1,382 -- 1,382 488 [D] 1,404 (466) [E] -------------- ----------- -------------- ------------ ----------- Total Assets $ 31,080 $ 9,470 $ 40,550 $ 3,693 $ 44,243 ============== =========== ============== ============ =========== Liabilities: Mortgages $ 19,800 $ -- $ 19,800 $ (2,400) [D] $ 17,400 Due to Related Parties 3,982 -- 3,982 (3,982) [D] -- Accounts Payable, Accrued Expenses and Other Liabilities 823 -- 823 (823) [E] -- -------------- ----------- -------------- ------------ ----------- Total Liabilities 24,605 -- 24,605 (7,205) 17,400 -------------- ----------- -------------- ------------ ----------- Minority Interest in Partnership -- -- -- 18,355 [G] 18,355 -------------- ----------- -------------- ------------ ----------- Shareholders' Equity: Common Shares -- 18 18 -- 18 Additional Paid-in Capital -- 9,452 9,452 (982) [H] 8,470 Net Combined Equity 6,475 -- 6,475 14,037 [F] (20,512)[G,H] -- -------------- ----------- -------------- ------------ ----------- Total Shareholders' Equity 6,475 9,470 15,945 (7,457) 8,488 -------------- ----------- -------------- ------------ ----------- Total Liabilities and Shareholders' Equity $ 31,080 $ 9,470 $ 40,550 $ 3,693 $ 44,243 ============== =========== ============== ============ ===========
F-3 HERSHA HOSPITALITY TRUST PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998. [UNAUDITED, IN THOUSANDS]
[A] Represents proceeds of the Offering ($11,000) less estimated expenses of the Offering ($1,530) which excludes $1,000 of proceeds from sales of common shares to Hersha affiliates. [B] Represents the combined interests of the Initial Hotels and the Company after the proceeds of the Offering, but before the use of proceeds. [C] Represents the combined interests of the Company after the use of the proceeds of the offering. [D] Net decrease reflects the following proposed transactions: Cash Not Being Purchased $ 1,258 Repayment of Amounts Payable to Affiliates and Partners 3,982 Repayment of Mortgage Indebtedness 2,400 Payment of Franchise License Transfer Fees ($145) Transfer Taxes ($233) Improvements ($250) and Other ($110) 738 --------------- Net Decrease in Cash $ 8,378 =============== [E] Assets and liabilities; not being purchased consist of: Cash $ (1,258) Land and Building (552) Personal Property (150) Other Assets (1,536) Initial Franchise License Fees and Loan Acquisition Costs (466) Accounts Payable, Accrued Expenses and Other Liabilities 823 --------------- Net Assets and Liabilities Not Purchased $ (3,139) =============== [F] Where a number of businesses combine prior to or contemporaneously with an initial public offering Securities and Exchange Commission Staff Accounting Bulletin ["SAB"] 97 requires that purchase accounting be applied. SAB 97 requires that, unless there is persuasive evidence to the contrary, the accounting acquiror is the ownership group receiving the largest ownership interest in the combined entity. Of the twelve entities being combined, eight are limited partnerships ["LP's"] with the same one percent general partner [the "Related Entities"], three are limited partnerships with different general partners than the other eight and one is a corporation [the "Unrelated Entities"]. Based on an analysis of ownership interests, the partners of 1244 Associates [one of the eight LP's with the same general partner] received approximately 29 percent of the ownership interest in the combined entity and 1244 Associates was deemed to be the acquiror. Therefor, the transaction was accounted for as a purchase and purchase accounting adjustments were made to the other eleven entities to adjust the assets to fair market value measured by the number of partnership units allocated to each entity multiplied by $6 per unit. Management feels that the purchase price as measured by the units approximates fair market value. Where common ownership existed by virtue of the same one percent general partner purchase accounting adjustments were only made to the extent of the 99 percent non-common ownership. The purchase accounting adjustments are as follows: Partnership Units Distributed to Unrelated Entities Acquired $ 500 99% of Partnership Units Issued to Limited Partners of Related Entities Acquired 2,392 --------------- 2,892 Purchase Price Per Unit $ 6 --------------- Total Purchase Price 17,352 Book Value of Assets Purchased 3,315 Excess Purchase Price $ 14,037 ===============
F-4 HERSHA HOSPITALITY TRUST PRO FORMA CONDENSED COMBINED BALANCE SHEET AS OF SEPTEMBER 30, 1998. [UNAUDITED, IN THOUSANDS] [Continued]
[F] [Continued] Excess purchase price is allocated as follows: Land $ 1,355 Buildings and Improvements 12,682 --------------- Total Addition to Net Investment in Hotel Properties $ 14,037 =============== [G] Represents the recognition of the interest in the Partnership that will not be owned by the Company determined as follows: Net Proceeds of Offering $ 9,470 Net Combined Equity 6,475 Excess Purchase Price 14,037 Net Assets Not Acquired (3,139) --------------- 26,843 Minority Interest Percentage .6838 --------------- Minority Interest $ 18,355 =============== [H] Net decrease reflects the following proposed transactions: Elimination of Net Combined Equity $ 6,475 Excess Purchase Price 14,037 Assets and Liabilities of Initial Hotels Not Purchased (3,139) Recognition of Minority Interest in Partnership (18,355) --------------- $ (982) ===============
F-5 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Shareholder Hersha Hospitality Trust We have audited the accompanying balance sheet of Hersha Hospitality Trust as of May 27, 1998. This balance sheet is the responsibility of the Company's management. Our responsibility is to express an opinion on the balance sheet based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the balance sheet is free of material misstatement. An audit includes examining, on a test bases, evidence supporting the amounts and disclosures in the balance sheet. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall balance sheet presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the balance sheet referred to above presents fairly, in all material respects, the financial position of Hersha Hospitality Trust as of May 27, 1998, in conformity with generally accepted accounting principles. MOORE STEPHENS, P. C. Certified Public Accountants. Cranford, New Jersey May 27, 1998 [Except as to the Notes to the Financial Statements as to which the Date is December 4, 1998] F-6 HERSHA HOSPITALITY TRUST BALANCE SHEETS
September 30, May 27, 1998 1998 ----------------- --------------- [Unaudited] Assets $ -- $ -- ================= =============== Liabilities and Shareholders' Equity: Liabilities -- -- Commitments and Contingencies -- -- Shareholders' Equity: Common Shares, $.01 par value, 1,000 shares authorized, 100 shares issued and outstanding 1 1 Additional paid-in capital 99 99 Subscription Receivable (100) (100) ----------------- --------------- Total Liabilities and Shareholders' Equity $ -- $ -- ================= ===============
The Accompanying Notes Are an Integral Part of This Financial Statement. F-7 HERSHA HOSPITALITY TRUST NOTES TO BALANCE SHEET AS OF MAY 27, 1998 [1] Organization and Basis of Financial Presentation Hersha Hospitality Trust [the "Company"] was formed in May, 1998 to acquire equity interests in ten existing hotel properties. The Company is a self-administered, Maryland real estate investment trust ["REIT"] and expects to qualify as a REIT for Federal income tax purposes. As such, the Company is subject to a number of organizational and operational requirements, including a requirement that it currently distribute at least 95% of its taxable income. The Company intends to offer for sale 2,000,000 [See Note 3] Priority Class A Common Shares of beneficial interest of which 1,833,334 shares will be offered to the public and 166,666 shares will be offered to Mr. Hasu P. Shah and certain affiliates [the "Hersha Affiliates"] in an initial public offering [the "Offering"] and Hersha Hospitality Limited Partnership [the "Partnership"] will issue approximately 3,960,000 Units of partnership interest ["Units"] to the Hersha Affiliates owning 100% of the ownership interest in the ten existing hotel properties [the "Initial Hotels"], which are redeemable under certain circumstances beginning after one year from the closing of the Offering. The number of Units issued is subject to adjustment based on the performance of certain Initial Hotels which as of the date of the Offering do not have established operating histories. Upon completion of the offering, the Company will contribute substantially all of the net proceeds of the Offering to the Partnership in exchange for an approximate 32% general partnership interest in the Partnership. The Partnership will use the proceeds from the Company to acquire the Initial Hotels. The Partnership will acquire the Initial Hotels in exchange for (i) Units, which will be redeemable, subject to certain limitations, for an aggregate of approximately 3,960,000 Common Shares of the Company valued at approximately $24 million based on an offering price of $6.00 per Common Share [the "Offering Price"] , and (ii) the assumption of approximately $26 million of outstanding indebtedness as of December 31, 1997. The Hersha Affiliates have agreed that they will (i) exchange all their interests in the Initial Hotels for Units in the Partnership, and (ii) grant an option to the Company to acquire any hotels acquired or developed by the Hersha Affiliates within 15 miles of any of the Initial Hotels or any hotel subsequently acquired by the Company. After consummation of the Offering, (a) the Company will own approximately 32% of the Partnership, (b) the Hersha Affiliates will own approximately 68% of the Partnership, and (c) the Partnership will own 100% of the equity interest in the Initial Hotels. [2] Summary of Significant Accounting Policies Distributions - The Company intends to pay regular quarterly dividends which are initially dependent upon receipt of distributions from the Partnership. [3] Commitments and Contingencies The Company, in conjunction with the Offering, intends to amend its Declaration of Trust to provide for the issuance of up to 50,000,000, $.01 par value, Priority Class A Common Shares of beneficial interest, 50,000,000, $.01 par value, Class B Common Shares of beneficial interest and 10,000,000, $.01 par value, Preferred Shares of beneficial interest. The Priority Class A Common Shares have priority as to the payment of dividends until dividends equal $.72 per share on a cumulative basis and shares equally in additional dividends after the Class B Common Shares have received $.72 per share in each annual period. The Priority Class A Common Shares carry a liquidation preference of $6.00 per share plus unpaid dividends and votes with the Class B Common Shares on a one vote per share basis. The Priority period of the Class A Shares will commence on the date of the closing of the initial public offering and end on the earlier of (i) five years after the initial public offering of the Priority Common Shares, or (ii) the date that is 15 trading days after the Company sends notice to the holders of the Priority Common Shares, provided that the closing bid price of the Priority Common Shares is at least $7 on each trading day during such 15-day period. F-8 HERSHA HOSPITALITY TRUST NOTES TO BALANCE SHEET AS OF MAY 27, 1998, Sheet #2 [3] Commitments and Contingencies [Continued] In conjunction with the offering, the Partnership will acquire the ten Initial Hotels and will enter into percentage lease agreements with Hersha Hospitality Management L.P. [the "Lessee"]. Under the Percentage Leases, the Partnership is obligated to pay the costs of certain capital improvements, real estate and personal property taxes and property insurance, and to make available to the Lessee an amount equal to 4% [6% for some hotels] of room revenues per quarter, on a cumulative basis, for the periodic replacement or refurbishment of furniture, fixtures and equipment at the Initial Hotels. Pursuant to the Partnership Agreement, the Hersha Affiliates will receive Redemption Rights, which will enable them to cause the Partnership to redeem their interests in the Partnership in exchange for cash or, at the election of the Company, Class B Common Shares on a one-for-one basis. The Redemption Rights may be exercised by the Hersha Affiliates commencing one year following the closing of the Offering depending on the length of time the hotel has been in operation. The number of Common Shares initially issuable to the Hersha Affiliates upon exercise of the Redemption Rights is approximately 3,960,000 and has been determined based on the value of their interests in the Combined Entities divided by the expected offering price of $6.00 per share. The number of shares issuable upon exercise of the Redemption Rights will be adjusted upon the occurrence of stock splits, mergers, consolidations or similar pro rata share transactions which otherwise would have the effect of diluting the ownership interests of the Hersha Affiliates or the shareholders of the Company. The Company acts as the general partner in the Partnership and as such, is liable for all recourse debt of the Partnership to the extent not paid by the Partnership. In the opinion of management, the Company does not anticipate any losses as a result of its general partner obligations. The Company expects to incur expenses of approximately $275,000 related to the transfer of ownership of the franchise licenses from the existing owners to the Lessee. Summary operating results for the Initial Hotels [in thousands] are as follows:
Nine months ended Years ended September 30, December 31, 1998 1997 1997 1996 1995 ------- ------- ------- ------- ------- [Unaudited] [Unaudited] Total Revenue $ 13,935 $ 9,692 $ 13,445 $ 9,989 $ 7,219 Total Expenses 11,497 8,140 11,716 10,017 7,595 ---------- ----------- ---------- ---------- ----------- Net Income [Loss] $ 2,438 $ 1,552 $ 1,729 $ (28) $ (376) ========== =========== ========== ========== ===========
[4] Subsequent Events [Unaudited] [A] Prior to the Offering, the Company will adopt the Company's "Option Plan". The Option Plan will be administered by the Compensation Committee of the Board of Trustees, or its delegate [the "Administrator"]. Officers and other employees of the Company generally will be eligible to participate in the Option Plan. The Administrator will select the individuals who will participate in the Option Plan ["Participants"]. F-9 HERSHA HOSPITALITY TRUST NOTES TO BALANCE SHEET AS OF MAY 27, 1998, Sheet #3 [4] Subsequent Event [Unaudited] [A] [Continued] The Option Plan will authorize the issuance of options to purchase up to 650,000 Class B Common Shares. The Plan provides for the grant of (i) options intended to qualify as incentive stock options under Section 422 of the Code, and (ii) options not intended to so qualify. Options under the Option Plan may be awarded by the Administrator, and the Administrator will determine the option exercise period and any vesting requirements. The options granted under the Option Plan will be exercisable only if (i) the Company obtains a per share closing price on the Common Shares of $9.00 or higher for 20 consecutive trading days and (ii) the closing price per Common Share for the prior trading day was $9.00 or higher. In addition, no option granted under the Option Plan may be exercised more than five years after the date of grant. The exercise price for options granted under the Option Plan will be determined by the Compensation Committee at the time of grant. No option award may be granted under the Option Plan more than ten years after the date the Board of Trustees approved such Plan. The Board may amend or terminate the Option Plan at any time, but an amendment will not become effective without shareholder approval if the amendment (i) increases the number of shares that may be issued under the Option Plan, (ii) materially changes the eligibility requirements or (iii) extends the length of the Option Plan. No amendment will affect a Participant's outstanding award without the Participant's consent. No options have been granted under the Option Plan. [B] Prior to the Offering, the Board of Trustees will also adopt, and the Company's sole shareholder will approve, the Trustees' Plan to provide incentives to attract and retain Independent Trustees. The Trustees' Plan authorizes the issuance of up to 200,000 Class B Common Shares. The Trustees' Plan provides for, in the event the Class B Common Shares are converted into another security of the Company, the issuance of equivalent amounts of such security and options to purchase such security into which the Class B Common Shares are converted. The Trustees' Plan provides for the grant of a nonqualified option for Class B Common Shares to the Independent Trustees of the Company who are members of the Board on the effective date of the Offering. The exercise price of each such option will be equal to the Offering Price. Each such option shall become exercisable for over the particular Trustee's initial term, provided that the Trustee is a member of the Board on the applicable date. An option granted under the Trustees' Plan will be exercisable only if (i) the Company obtains a per share closing price on the Priority Common Shares of $9.00 for 20 consecutive trading days and (ii) the per share closing price on the Priority Common Shares for the prior trading day was $9.00 or higher. Options issued under the Trustees' Plan are exercisable for five years from the date of grant. A Trustee's outstanding options will become fully exercisable if the Trustee ceases to serve on the Board due to death or disability. All awards granted under the Trustees' Plan shall be subject to Board or other approval sufficient to provide exempt status for such grants under Section 16 of the Exchange Act, as that section and Rules thereunder are in effect from time to time. No option may be granted under the Trustees' Plan more than 10 years after the date that the Board of Trustees approved the Plan. The Board may amend or terminate the Trustees' Plan at any time but an amendment will not become effective without shareholder approval if the amendment increases the number of shares that may be issued under the Trustees' Plan (other than equitable adjustments upon certain corporate transactions). No options have been granted under the Trustees' Plan. . . . . . . . . F-10 INDEPENDENT AUDITORS' REPORT To the Partners of Hersha Hospitality Management, L.P. We have audited the accompanying balance sheet of Hersha Hospitality Management, L.P. as of May 27, 1998. This balance sheet is the responsibility of the Partnership's management. Our responsibility is to express an opinion on the balance sheet based on our audit. We conducted our audit in accordance with generally accepted auditing standards, Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the balance sheet is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the balance sheet. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall balance sheet presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the balance sheet referred to above presents fairly, in all material respects, the financial position of Hersha Hospitality Management, L.P. as of May 27, 1998, in conformity with generally accepted accounting principles. MOORE STEPHENS, P. C. Certified Public Accountants. Cranford, New Jersey May 27, 1998 F-11 HERSHA HOSPITALITY MANAGEMENT, L.P. BALANCE SHEETS September 30, May 27, 1998 1998 ---- ---- [Unaudited] Assets $ -- $ -- ============= ============ Liabilities and Partners' Capital: Liabilities -- -- Commitments and Contingencies -- -- Partners' Capital -- -- ------------- ------------ Total Liabilities and Partners' Capital $ -- $ -- ============= ============ The Accompanying Notes Are an Integral Part of This Financial Statement. F-12 HERSHA HOSPITALITY MANAGEMENT, L.P. NOTES TO BALANCE SHEET AS OF MAY 27, 1998. [1] Organization Hersha Hospitality Management, L.P. [the "Lessee"] was organized under the laws of the State of Pennsylvania in May, 1998 to lease and operate ten existing hotel properties from Hersha Hospitality Limited Partnership [the "Partnership"] [collectively the "Initial Hotels"]. The Lessee is owned by Mr. Hasu P. Shah and certain affiliates some of whom have ownership interests in the Initial Hotels. [2] Commitments The Lessee will enter into Percentage Leases, each with an initial term of 5 years with two 5 year renewal options, relating to each of the Initial Hotels. Pursuant to the terms of the Percentage Leases, the Lessee is required to pay the greater of the Base Rent or the Percentage Rent for hotels with established operating histories. The Base Rent is 6.5 percent of the purchase price assigned to each Initial Hotel. The Percentage Rent for each Initial Hotel is comprised of (i) a percentage of room revenues up to the Threshold, (ii) a percentage of room revenues in excess of the Threshold, but not more than the Incentive Threshold, (iii) a percentage of room revenues in excess of the Incentive Threshold and (iv) a percentage of revenues other than room revenues. For hotels with limited operating histories, the leases provide for the payment of Initial Fixed Rent for certain periods as specified in the leases and the greater of Base Rent or Percentage Rent thereafter. The Lessee also will be obligated to pay certain other amounts, including interest accrued on any late payments or charges. The Lessee is entitled to all profits from the operations of the Initial Hotels after the payment of certain specified operating expenses. The Lessee will assume the rights and obligations under the terms of existing franchise licenses relating to the Initial Hotels upon acquisition of the hotels by the Partnership. The franchise licenses generally specify certain management, operational, accounting, reporting and marketing standards and procedures with which the franchisee must comply and provide for annual franchise fees based upon percentages of gross room revenue. The Lessee will provide certain administrative services to the Partnership for an annual fee of $55,000 plus $10,000 per hotel. . . . . . . . . F-13 COMBINED ENTITIES - INITIAL HOTELS PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998. [UNAUDITED IN THOUSANDS] This unaudited pro forma Condensed Combined Statement of Operations is presented as if the sale of the Initial Hotels and the consummation of the Offering contemplated by this prospectus had occurred on January 1, 1997. Such pro forma information is based in part upon the Combined Statements of Operations of the Combined Entities Initial Hotels and the application of the proceeds of the Offering as set forth under the caption "Use of Proceeds." It is meant to represent the pro forma operations of Hersha Hospitality Management, L.P. [the "Lessee"] and successor to the operations of the Combined Entities - Initial Hotels. The separate operations of the Lessee are inconsequential. This pro forma information should be read in conjunction with the Combined Financial Statements and Notes thereto of the Combined Entities - Initial Hotels included at pages F-24 through F-31 of this Prospectus. In management's opinion, all adjustments necessary to reflect the effects of this transaction have been made. This unaudited pro forma Condensed Combined Statement of Operations is not necessarily indicative of what actual results of operations of the Lessee would have been assuming such transactions had been completed as of January 1, 1997, nor does it purport to represent the results of operations for future periods.
Nine months ended September 30, 1998 ---------------------------------------------------- Historical Combined Entities - Initial Hotels Adjustments Pro Forma -------------- -------------- ------------- Total Revenue $ 13,935 $ -- $ 13,935 Expenses: Initial Hotel Operating Costs and Expenses 6,806 (417) [A] 6,389 Advertising and Marketing 388 -- 388 Depreciation and Amortization 1,161 (1,135) [B] 26 Interest Expense 1,497 (1,497) [C] -- General and Administrative 1,645 (112) [D] 1,703 170 [E] Percentage Lease Payments -- 5,108 [F] 5,108 ----------- -------------- ------------ Lessee Operating Income $ 2,438 $ (2,117) $ 321 ----------------------- =========== ============== ============
[A] Decrease reflects personal property, real estate taxes and casualty insurance to be paid by the Partnership. [B] Decrease reflects elimination of amortization expense excluding franchise fee amortization and the elimination of depreciation expense at the Combined Entity level. [C] Decrease reflects reduction of interest costs due to the expected repayment of certain of the related party and mortgage indebtedness and the elimination of the remaining interest to be paid by the Partnership. [D] Decrease reflects the elimination of certain expenses to be paid by the Partnership as required by the Administrative Services Agreement. [E] To eliminate related party management fees of $288 and replace with anticipated salaries of $458 based on salary agreements. F-14 COMBINED ENTITIES - INITIAL HOTELS PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1998. [UNAUDITED IN THOUSANDS] [Continued] [F] Represents lease payments calculated on a pro forma basis using the rent provisions in the Percentage Lease Agreements. Percentage rents under the lease agreements are calculated under two methods depending on whether the hotel is a stabilized hotel with an established operating history or a newly-developed or newly-renovated hotel. Stabilized hotels pay percentage rent based on a percentage of room revenue which changes at various thresholds as described on pages 46 and 47 of this prospectus plus a percentage of all non-room revenue. Newly-developed or newly-renovated hotels pay initial fixed rent for the first two years of operation and percentage rent thereafter with such initial fixed rent being recognized on a straight-line basis over the course of the period presented. Certain newly developed or newly-renovated hotels have not been in operation for the full period presented and in those cases percentage rent payments are recognized on a straight-line basis prorated for the period the hotel was in operation. Pro forma percentage rent payments for stabilized hotels has been calculated using the terms of the percentage lease agreement applied to historical room revenue and other revenue for the period presented. For the nine months ended September 30, 1998 percentage lease payments consist of $2,431 of percentage rent and $2,677 of initial fixed rent calculated as follows: Hotels Under Percentage Lease Agreements: Holiday Inn - Harrisburg, PA $ 1,203 Hampton Inn - Selinsgrove, PA 528 Clarion Suites - Philadelphia, PA 700 -------------- Total $ 2,431 ============== Hotels Under Initial Fixed Rent Agreements: Holiday Inn Express - Hershey, PA $ 596 Holiday Inn Express - New Columbia, PA 374 Holiday Inn Express - Harrisburg, PA 378 Hampton Inn - Carlisle, PA 524 Comfort Inn - Denver, PA 197 Comfort Inn - West Hanover, PA (Open 5 months) 214 Holiday Inn - Milesburg, PA 394 -------------- Total $ 2,677 ============== F-15 COMBINED ENTITIES - INITIAL HOTELS PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1997. [UNAUDITED IN THOUSANDS] This unaudited pro forma Condensed Combined Statement of Operations is presented as if the sale of the Initial Hotels and the consummation of the Offering contemplated by this prospectus had occurred on January 1, 1997. Such pro forma information is based in part upon the Combined Statements of Operations of the Combined Entities Initial Hotels and the application of the proceeds of the Offering as set forth under the caption "Use of Proceeds." It is meant to represent the pro forma operations of Hersha Hospitality Management, L.P. [the "Lessee"] and successor to the operations of the Combined Entities - Initial Hotels. The separate operations of the Lessee are inconsequential. This pro forma information should be read in conjunction with the Combined Financial Statements and Notes thereto of the Combined Entities - Initial Hotels included at pages F-24 through F-31 of this Prospectus. In management's opinion, all adjustments necessary to reflect the effects of this transaction have been made. This unaudited pro forma Condensed Combined Statement of Operations is not necessarily indicative of what actual results of operations of the Lessee would have been assuming such transactions had been completed as of January 1, 1997, nor does it purport to represent the results of operations for future periods.
Year ended December 31, 1997 ----------------------------------------------------- Historical Combined Entities - Initial Hotels Adjustments Pro Forma -------------- ----------------- ------------- Total Revenue $ 13,445 $ $ 13,445 Expenses: Initial Hotel Operating Costs and Expenses 7,088 (375) [A] 6,713 Advertising and Marketing 370 -- 370 Depreciation and Amortization 1,189 (988) [B] 201 Interest Expense 1,354 (1,354) [C] -- General and Administrative 1,701 (123) [D] 1,916 338 [E] Other 14 -- 14 Percentage Lease Payments -- 5,129 [F] 5,129 ----------- -------------- ------------ Lessee Operating Income $ 1,729 $ (2,627) $ (898) ----------------------- =========== ============== ============
[A] Decrease reflects personal property, real estate taxes and casualty insurance to be paid by the Partnership. [B] Decrease reflects elimination of amortization expense excluding franchise fee amortization, write-off of loan acquisition fees upon transfer of mortgage indebtedness to the Company and the elimination of depreciation expense at the Combined Entity level. [C] Decrease reflects reduction of interest costs due to the expected repayment of certain of the related party and mortgage indebtedness and the elimination of the remaining interest to be paid by the Partnership. [D] Decrease reflects the elimination of certain expenses to be paid by the Partnership as required by the Administrative Services Agreement. [E] To eliminate related party management fees of $272 and replace with anticipated salaries of $610 based on salary agreements. F-16 COMBINED ENTITIES - INITIAL HOTELS PRO FORMA CONDENSED COMBINED STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1997. [UNAUDITED IN THOUSANDS] [Continued] [F] Represents lease payments calculated on a pro forma basis using the rent provisions in the Percentage Lease Agreements. Percentage rents under the lease agreements are calculated under two methods depending on whether the hotel is a stabilized hotel with an established operating history or a newly-developed or newly-renovated hotel. Stabilized hotels pay percentage rent based on a percentage of room revenue which changes at various thresholds as described on pages 46 and 47 of this prospectus plus a percentage of all non-room revenue. Newly-developed or newly-renovated hotels pay initial fixed rent for the first two years of operation and percentage rent thereafter with such initial fixed rent being recognized on a straight-line basis over the course of the period presented. Certain newly developed or newly-renovated hotels have not been in operation for the full period presented and in those cases percentage rent payments are recognized on a straight-line basis prorated for the period the hotel was in operation. Pro forma percentage rent payments for stabilized hotels has been calculated using the terms of the percentage lease agreement applied to historical room revenue and other revenue for the period presented. For the year ended December 31, 1997 percentage lease payments consist of $3,248 of percentage rent and $1,881 of initial fixed rent calculated as follows: Hotels Under Percentage Lease Agreements: Holiday Inn - Harrisburg, PA $ 1,614 Hampton Inn - Selinsgrove, PA 658 Clarion Suites - Philadelphia, PA 976 -------------- Total $ 3,248 ============== Hotels Under Initial Fixed Rent Agreements: Holiday Inn Express - Hershey, PA (Open 3 months) $ 199 Holiday Inn Express - New Columbia, PA (Open 1 month) 42 Holiday Inn Express - Harrisburg, PA 504 Hampton Inn - Carlisle, PA (Open 7 months) 349 Comfort Inn - Denver, PA 262 Holiday Inn - Milesburg, PA 525 -------------- Total $ 1,881 ============== F-17 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Shareholder Hersha Hospitality Trust We have audited the accompanying combined balance sheets of the Combined Entities - Initial Hotels as of December 31, 1997 and 1996, and the related combined statements of operations, owners' equity, and cash flows for each of the three years in the period ended December 31, 1997. Our audits also included the combined financial statement schedule included on pages F-29 and F-30 of the accompanying Prospectus. These Combined financial statements and the combined financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these combined financial statements and the combined financial statement schedule based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the combined financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the combined financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall combined financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the combined financial position of the Combined Entities - Initial Hotels as of December 31, 1997 and 1996, and the combined results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. In addition, in our opinion, the combined financial statement schedule referred to above, when considered in relationship to the basic combined financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein as of December 31, 1997. MOORE STEPHENS, P. C. Certified Public Accountants. Cranford, New Jersey March 21, 1998 F-18 COMBINED ENTITIES - INITIAL HOTELS COMBINED BALANCE SHEETS [IN THOUSANDS]
September 30, December 31, ------------- ------------ 1998 1997 1996 ---- ---- ---- [Unaudited] Assets: Investment in Hotel Properties: Land $ 2,099 $ 2,099 $ 1,843 Buildings and Improvements 22,274 19,276 9,950 Furniture, Equipment and Other 6,977 6,056 3,682 ------------------ -------------- --------------- Totals 31,350 27,431 15,475 Less: Accumulated Depreciation 4,446 3,356 2,533 ------------------ -------------- --------------- Totals 26,904 24,075 12,942 Construction in Progress -- 1,412 857 ------------------ -------------- --------------- Net Investment in Hotel Properties 26,904 25,487 13,799 Cash and Cash Equivalents 1,258 694 237 Accounts Receivable 626 394 191 Prepaid Expenses and Other Assets 339 182 154 Due from Related Parties 571 268 107 Intangible Assets 1,382 1,427 1,418 ------------------ -------------- --------------- Total Assets $ 31,080 $ 28,452 $ 15,906 ================== ============== =============== Liabilities and Owners' Equity: Mortgages Payable $ 19,800 $ 14,713 $ 8,571 Accounts Payable and Accrued Expenses 493 1,092 649 Accrued Expenses - Related Parties 116 153 11 Due to Related Parties 3,982 9,169 4,236 Other Liabilities 214 172 250 ------------------ -------------- --------------- Total Liabilities 24,605 25,299 13,717 Commitments -- -- -- Owners' Equity: Net Combined Equity 6,475 3,153 2,189 ------------------ -------------- --------------- Total Liabilities and Owners' Equity $ 31,080 $ 28,452 $ 15,906 ================== ============== ===============
The Accompanying Notes Are an Integral Part of These Combined Financial Statements. F-19 COMBINED ENTITIES - INITIAL HOTELS COMBINED STATEMENTS OF OPERATIONS [IN THOUSANDS]
Nine months ended Years ended September 30, December 31, 1998 1997 1997 1996 1995 ---- ---- ---- ---- ---- [Unaudited] [Unaudited] Revenues from Hotel Operations: Room Revenue $ 11,824 $ 7,750 $ 10,880 $ 7,273 $ 5,262 Restaurant Revenue 1,497 1,377 1,744 2,106 1,515 Other Revenue 614 565 821 610 442 -------------- ------------- ------------- ------------- -------------- Total Revenue 13,935 9,692 13,445 9,989 7,219 -------------- ------------- ------------- ------------- -------------- Expenses: Hotel Operating Expenses 5,732 4,284 5,906 4,887 3,789 Restaurant Operating Expenses 1,074 850 1,182 1,406 961 Advertising and Marketing 388 281 370 418 185 Depreciation and Amortization 1,161 799 1,189 924 711 Interest Expense 1,138 710 821 605 434 Interest Expense - Related Parties 359 121 533 316 200 General and Administrative 1,357 939 1,381 1,085 779 General and Administrative - Related Parties 288 142 320 364 102 Loss on Asset Disposals -- -- -- 12 284 Liquidation Damages -- 14 14 -- 150 -------------- ------------- ------------- ------------- -------------- Total Expenses 11,497 8,140 11,716 10,017 7,595 -------------- ------------- ------------- ------------- -------------- Net Income [Loss] $ 2,438 $ 1,552 $ 1,729 $ (28) $ (376) ============== ============= ============= ============= ==============
The Accompanying Notes Are an Integral Part of These Combined Financial Statements. F-20 COMBINED ENTITIES - INITIAL HOTELS COMBINED STATEMENTS OF OWNERS' EQUITY [IN THOUSANDS] Net Combined Owners' Equity ------------------ Balance - December 31, 1994 $ 772 Net [Loss] (376) Capital Contributions 2,287 Cash Distributions (466) ------------------ Balance - December 31, 1995 2,217 Net [Loss] (28) Capital Contributions 470 Cash Distributions (470) ------------------ Balance - December 31, 1996 2,189 Net Income 1,729 Capital Contributions 59 Cash Distributions (824) ------------------ Balance - December 31, 1997 3,153 Net Income 2,438 Capital Contributions 1,156 Cash Distributions (272) ------------------ Balance - September 30, 1998 [Unaudited] $ 6,475 ================== The Accompanying Notes Are an Integral Part of These Combined Financial Statements. F-21 COMBINED ENTITIES - INITIAL HOTELS COMBINED STATEMENTS OF CASH FLOWS [IN THOUSANDS]
Nine months ended Years ended September 30, December 31, 1998 1997 1997 1996 1995 ---- ---- ---- ---- ---- [Unaudited] [Unaudited] Operating Activities: Net income [Loss] $ 2,438 $ 1,552 $ 1,729 $ (28) $ (376) Adjustments to Reconcile Net Income to Net Cash Provided by Operating Activities: Depreciation and Amortization Expense 1,181 834 1,246 966 751 Loss on Disposal of Assets -- -- -- 12 284 Writeoff of Financing Fees -- -- 44 -- -- Changes in Assets and Liabilities: Accounts Receivable (238) (385) (203) 105 (226) Prepaid Expenses and Other Assets (45) (79) (28) (28) 39 Accounts Payable and Accrued Expenses (499) 84 584 241 293 Other Liabilities (97) (199) (78) 79 129 --------------- ------------- ------------- ------------- -------------- Net Cash - Operating Activities 2,740 1,807 3,294 1,347 894 --------------- ------------- ------------- ------------- -------------- Investing Activities: Improvements and Additions to Hotel Properties (2,553) (9,748) (12,821) (5,601) (5,086) Payment for Intangibles -- (156) (166) (117) (925) Advances to Related Parties (501) (50) (268) (99) (576) Repayment of Advances to Related Parties 198 107 107 584 62 Proceeds from Sale of Assets -- -- -- 129 -- --------------- ------------- ------------- ------------- -------------- Net Cash - Investing Activities (2,856) (9,847) (13,148) (5,104) (6,525) --------------- ------------- ------------- ------------- -------------- Financing Activities: Proceeds from Mortgages and Notes Payable 5,639 6,409 9,526 3,631 4,615 Principal Payments on Mortgages and Notes Payable (552) (3,304) (3,383) (612) (1,143) Advances from Related Parties 2,420 10,356 14,378 2,756 809 Repayments of Advances from Related Parties (7,711) (4,950) (9,445) (1,915) (1,065) Capital Contributions 1,156 9 59 470 2,287 Distributions Paid (272) (341) (824) (470) (466) --------------- ------------- ------------- ------------- -------------- Net Cash - Financing Activities 680 8,179 10,311 3,860 5,037 --------------- ------------- ------------- ------------- -------------- Net Increase in Cash and Cash Equivalents - Forward $ 564 $ 139 $ 457 $ 103 $ (594)
The Accompanying Notes Are an Integral Part of These Combined Financial Statements. F-22 COMBINED ENTITIES - INITIAL HOTELS COMBINED STATEMENTS OF CASH FLOWS [IN THOUSANDS]
Nine months ended Years ended September 30, December 31, 1998 1997 1997 1996 1995 ---- ---- ---- ---- ---- [Unaudited] [Unaudited] Net Increase in Cash and Cash Equivalents - Forwarded $ 564 $ 139 $ 457 $ 103 $ (594) Cash and Cash Equivalents at Beginning of Periods 694 237 237 134 728 -------------- ------------- ------------- ------------- -------------- Cash and Cash Equivalents at End of Periods $ 1,258 $ 376 $ 694 $ 237 $ 134 ============== ============= ============= ============= ============== Supplemental Disclosures of Cash Flow Information: Cash paid during the periods for: Interest [Net of Amounts Capitalized] $ 1,497 $ 953 $ 1,133 $ 903 $ 591
The Accompanying Notes Are an Integral Part of These Combined Financial Statements. F-23 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [1] Organization, Proposed Initial Public Offering and Basis of Presentation Organization - Hersha Hospitality Trust [the "Company"] has been established to own initially ten existing hotels [collectively the "Initial Hotels"] and to continue the hotel acquisition and operating strategies of Mr. Hasu P. Shah, Chairman of the Board of Trustees and President of the Company. The Company intends to qualify as a real estate investment trust [REIT] under the Internal Revenue Code of 1986, as amended, [the "Code"] . The Initial Hotels include three hotels operated as Holiday Inn Express(R) hotels, two Hampton Inn(R) hotels, two Holiday Inn(R) hotels, two Comfort Inn(R) hotels, one of which is under construction, and one Clarion Suites(R) hotel with an aggregate of 989 rooms and are located in Pennsylvania. Upon completion of the proposed initial public offering [see below], the Company will own an approximate 32% general partnership interest in Hersha Hospitality Limited Partnership, a Pennsylvania limited partnership [the "Partnership"]. The Company will be the sole general partner of the Partnership. The Partnership will own the Initial Hotels and lease them to Hersha Hospitality Management, L.P. ["Lessee"] under Percentage Leases, each having a 5 year term with two 5 year renewals, which shall provide for rent equal to the greater of (i) fixed base rent, or (ii) percentage rents based upon specific percentages of room and other revenue of each of the Initial Hotels. The Company will enter into management agreements with the Lessee whereby the Lessee will be required to perform all management functions necessary to operate the Initial Hotels. Under the administrative services agreement, the Lessee will be paid a fee equal to $55 plus $10 per hotel or $155 per year based on the ten initial hotels. Basis of Presentation - The combined financial statements include the accounts of various partnerships, individuals, certain other corporations and Subchapter S corporations which perform property management services and own property improvements and furniture and fixtures [collectively the "Combined Entities"] [See Note 5] using their historical cost basis. No adjustments have been reflected in these combined financial statements to give effect to the purchase of the Initial Hotels by the Partnership. The Combined Entities are owned by Mr. Hasu P. Shah his wife, two sons and seven other unrelated individuals for all periods presented [the individuals and Combined Entities are collectively referred to as the "Hersha Affiliates"]. The aforementioned eleven individuals in their capacities as owners, partners and stockholders have delegated management of all of the entities to a management control group consisting of seven of the eleven individuals. The management control group has complete day to day administrative and managerial authority and responsibility over the portfolio of hotels. Due to common management of the Combined Entities, the historical combined financial statements have been accounted for as a group of entities under common control. All significant intercompany transactions and balances have been eliminated in the combined presentation. Proposed Initial Public Offering - The Company expects to file a registration statement with the Securities and Exchange Commission pursuant to which the Company expects to offer 1,833,334 Class A Common Shares of beneficial interest to the public and 166,666 Class A Common Shares of beneficial interest to Mr. Hasu P. Shah and certain affiliates of Mr. Hasu P. Shah [the "Offering"]. The Company expects to qualify as a real estate investment trust under Sections 856-860 of the Code. Under the proposed structure, the Company will become the sole general partner in the Partnership and the Hersha Affiliates will be the limited partners. Upon completion of the Offering, the Company will contribute substantially all of the net proceeds of the offering to the Partnership in exchange for an approximate 32% general partnership interest in the Partnership. The Partnership will use the proceeds from the Company to acquire the Initial Hotels from the Combined Entities and to repay certain outstanding indebtedness. Rather than receiving cash for their interests in the Combined Entities upon the sale of the Initial Hotels, the Hersha Affiliates have elected to receive limited partnership interests in the Partnership aggregating an approximate 68% ownership interest in the Partnership. F-24 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [1] Organization, Proposed Initial Public Offering and Basis of Presentation [Continued] Proposed Initial Public Offering [Continued] - After consummation of the Offering, the Company's acquisition of an interest in the Partnership and the Partnership's acquisition of the Initial Hotels, (a) the Company will own approximately 32% of the Partnership, (b) the Hersha Affiliates will own an aggregate of approximately 68% of the Partnership, and (c) the Partnership will own 100% of the equity interest in the Initial Hotels. [2] Summary of Significant Accounting Policies Nature of Operations - Operations consist of hotel room rental, conferences room rental and the associated sales of food and beverages principally in the Harrisburg and central Pennsylvania area. Investment in Hotel Properties - Investment in hotel properties are stated at cost. Depreciation for financial reporting purposes is principally based upon the straight-line method for buildings and improvements and accelerated methods for furniture and equipment acquired prior to the year ended December 31, 1997 and the straight-line method thereafter. The estimated lives used to depreciate the Initial Hotel properties are as follows: Years ----- Building and Improvements 15 to 40 Furniture and Equipment 5 to 7 Maintenance and repairs are charged to operations as incurred; major renewals and betterments are capitalized. Upon the sale or disposition of a fixed asset, the asset and related accumulated depreciation are removed from the accounts, and the gain or loss is included in income from operations. Depreciation expense was $1,076, $819 and $624 for the years ended December 31, 1997, 1996 and 1995, respectively. Room linens and restaurant supplies are capitalized and amortized utilizing the straight-line method over periods of three and two years, respectively, and are charged to Hotel Operating Expenses. Amortization expense was $57, $42 and $40 for the years ended December 31, 1997, 1996 and 1995, respectively. Impairment of Long-Lived Assets - Long-lived assets are reviewed for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. The Company performs undiscounted cash flow analyses to determine if an impairment exists. If an impairment is determined to exist, any related impairment loss is calculated based on fair value. Cash and Cash Equivalents - Cash and cash equivalents are comprised of certain highly liquid investments with a maturity of three months or less when purchased. Inventories - Inventories, consisting primarily of food and beverages and which are included in prepaid expenses and other assets, are stated at the lower of cost [generally, first-in, first-out] or market. Deferred Offering Cost - Costs of $106 at September 30, 1998 associated with the anticipated public offering are deferred and will be charged against the proceeds of the Offering. If the Offering is not consummated, the costs will be charged to operations. F-25 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [2] Summary of Significant Accounting Policies [Continued] Intangible Assets - Intangible assets are carried at cost and consist of initial franchise fees, loan acquisition costs and goodwill. Amortization is computed using the straight-line method based upon the terms of the franchise and loan agreements which range from 5 to 30 years, and over a 15 year period for goodwill. Income Taxes - The Combined Entities are not a legal entity subject to income taxes. Hersha Enterprises, Ltd., an entity included in these combined financial statements, is a taxable corporate entity [See Note 5]. Income taxes are provided for the tax effects of transactions reported in the financial statements and consist of taxes currently due plus deferred taxes resulting from temporary differences. Such temporary differences result from differences in the carrying value of assets and liabilities for tax and financial reporting purposes. The deferred tax assets and liabilities represent the future tax consequences of those differences, which will either be taxable or deductible when the assets and liabilities are recovered or settled. Deferred taxes are also recognized for operating losses that are available to offset future taxable income. Valuation allowances are established to reduce deferred tax assets to the amount expected to be realized. The Combined Partnerships and S corporations are not subject to federal or state income taxes; however, they must file informational income tax returns and the partners must take income or loss of the Combined Entities into consideration when filing their respective tax returns. The cumulative difference between the book basis and tax basis of the Combined Entities' assets and liabilities is approximately $3.8 million due primarily to depreciation and amortization expense on the tax basis in excess of the book basis. Revenue Recognition - Revenue is recognized as earned which is generally when a guest occupies a room and utilizes the hotel's services. Concentration of Credit Risk - Financial instruments that potentially subject the Company to concentrations of credit risk include cash and cash equivalents and accounts receivable arising from its normal business activities. The Company places its cash with high credit quality financial institutions. The Company does not require collateral to support its financial instruments. The Company periodically has money in financial institutions that is subject to normal credit risk beyond insured amounts. This credit risk, representing the excess of the bank's deposit liabilities reported by the bank over the amounts that would have been covered by federal insurance, amounted to approximately $71 and $-0- at December 31, 1997 and 1996, respectively. The Company's extension of credit to its customers results in accounts receivable arising from its normal business activities. The Company does not require collateral from its customers, but routinely assesses the financial strength of its customers. Based upon factors surrounding the credit risk of its customers and the Company's historical collection experience, no allowance for uncollectible accounts has been established at December 31, 1997 and 1996, respectively. The Company believes that its accounts receivable credit risk exposure is limited. Such assessment may be subject to change in the near term. Use of Estimates - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. F-26 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [2] Summary of Significant Accounting Policies [Continued] Advertising and Marketing - Advertising costs are expensed as incurred and totaled $370, $418 and $185 for the years ended December 31, 1997, 1996 and 1995, respectively. In connection with its franchise agreements, a portion of the franchise fees paid is for marketing services. Payments under these agreements related to marketing services amounted to $201, $114 and $78 for the years ended December 31, 1997, 1996 and 1995, respectively, and are included in Hotel Operating Expenses. [3] Intangible Assets At December 31, 1997 and 1996, intangibles consisted of the following: Accumulated December 31, 1997: Cost Amortization Net Goodwill $ 1,168 $ 216 $ 952 Franchise Fees 342 46 296 Loan Acquisition Fees 196 17 179 ------------ ------------ ------------ Totals $ 1,706 $ 279 $ 1,427 ------ ============ ============ ============ Accumulated December 31, 1996: Cost Amortization Net Goodwill $ 1,168 $ 138 $ 1,030 Franchise Fees 296 56 240 Loan Acquisition Fees 166 18 148 ------------ ------------ ------------ Totals $ 1,630 $ 212 $ 1,418 ------ ============ ============ ============ Amortization expense was $113, $105 and $87 for the years ended December 31, 1997, 1996 and 1995, respectively. [4] Mortgages Payable
December 31, ------------------- 1997 1996 ---- ---- Holiday Inn, Harrisburg, Pennsylvania: Note payable to bank dated August 19, 1997 with monthly payments of $34 including interest at 8.45% until November 1, 2002. Thereafter the rate is negotiated or the bank's prime rate plus 1/4%. Final payment is due November 1, 2012. The property previously was financed by a bank with a note payable with monthly payments of $27 including interest at the prime rate plus 1-1/2% maturing March 2, 2010 and another note payable with monthly payments of $7 plus interest at 8-1/2% maturing January 5, 2001. $ 3,500 $ 3,096 Holiday Inn, Milesburg, Pennsylvania: Note payable to bank dated June 2, 1977 with monthly payments of $11 including interest at 8% until June 6, 1999 914 970 ------------ ------------ Totals - Forward $ 4,414 $ 4,066
F-27 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [4] Mortgages Payable [Continued]
December 31, ------------------- 1997 1996 ---- ---- Totals - Forwarded $ 4,414 $ 4,066 Clarion Suites, Philadelphia, Pennsylvania: Note payable to a bank dated June 21, 1995 with monthly payments of $16 as adjusted for interest at the prime rate plus 1.25% until July 1, 2010. Guaranteed by PIDC Local Development Corporation and the Small Business Administration. 1,195 1,245 Note payable to a bank dated June 21, 1995 with monthly payments of $3 plus interest at the prime rate plus .5%. Principal balance is due July 1, 2002. 419 453 Hampton Inn, Selinsgrove, Pennsylvania: Note payable to a bank dated April 3, 1996 with monthly payments of $24 including interest at 8-1/4% until October 3, 2011, includes personal guarantees. 2,385 2,476 Hampton Inn, Carlisle, Pennsylvania: Note payable to a bank dated September 6, 1996 with monthly payments of $28 including interest at 8% until March 6, 2001. Thereafter, the rate is negotiated or prime rate plus 1%. Final payment is due June 6, 2012. 2,848 331 Holiday Inn Express, New Columbia, Pennsylvania: Note payable to a bank dated August 28, 1997 with monthly payments of $27 including interest at 8-1/2% until February 1, 2003. Thereafter interest will be at the prime rate plus 1/4% as of January 1, 2003 and January 1, 2008. Final payment is due January 1, 2013. 1,000 -- Holiday Inn Express, Harrisburg, Pennsylvania: Note payable to a bank dated September 26, 1997 with monthly payments of $11 including interest at 8.35% until October 1, 2000. Thereafter, the rate is as negotiated or at prime plus 1%. Final payment is due October 1, 2012. 1,110 -- Holiday Inn Express, Hershey, Pennsylvania: Note payable to a bank dated December 30, 1996 with monthly payments of $27 including interest at 8.15% until December 31, 2001. Thereafter, the rate is as negotiated or prime plus 3/4%. Final payment is due January 1, 2013. 1,342 -- ------------ ------------ Totals $ 14,713 $ 8,571 ------ ============ ============
Substantially all the Combined Entities' mortgage indebtedness is collateralized by property and equipment and is personally guaranteed by the partners and stockholders of the Combined Entities. One of the hotel properties also collateralizes a $500 line of credit of a related party. At December 31, 1997, the prime rate was 8.5%. F-28 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [4] Mortgages Payable [Continued] As of December 31, 1997, aggregate annual principal payments for the five years following December 31, 1997, and thereafter are as follows: Year ending December 31, - ------------ 1998 $ 730 1999 1,572 2000 787 2001 856 2002 932 Thereafter 9,836 ---------------- Total $ 14,713 ----- ================ [5] Owners' Equity The owners' equity [deficit] of the Combined Entities by entity is as follows: December 31, 1997 1996 ---- ---- Hasu P. Shah/Bharat C. Mehta $ -- $ 269 244 Associates 542 -- 844 Associates 285 27 944 Associates 29 75 1244 Associates 373 196 1444 Associates 829 432 1644 Associates (72) -- 2144 Associates 833 863 2244 Associates (54) -- 2544 Associates (60) -- Colonial Care Inns, Ltd. -- 308 Hersha Enterprises 267 (57) Harrisburg Lodging, Inc. -- (21) MEPS Associates 170 (32) Philadelphia Lodging, Inc. -- 2 Sajneim Motel, Inc. -- 127 Shree Associates 11 -- ----------- ----------- Totals $ 3,153 $ 2,189 ------ =========== =========== F-29 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [6] Income Taxes Included in the Combined Entities for the years ended December 31, 1997, 1996 and 1995 is a corporation which computed its income taxes pursuant to Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." Deferred income taxes at December 31, 1997 and 1996 was comprised of deferred tax assets of $-0- and $56, respectively, representing financial reporting to tax basis differences, and $20 and $8, respectively, representing net operating loss carryforwards, offset by full valuation allowances of $20 and $64, respectively. Under the transaction contemplated in connection with the proposed initial public offering, the net operating loss carryforwards will not be available to the Company. The Combined Entities neither incurred nor paid any income taxes during the periods presented. [7] Related Party Transactions At December 31, 1997 and 1996, the Combined Entities are indebted to various related entities, partners, and stockholders in the amount of $9,169 and $4,236, respectively. The loans carry interest ranging from 8.5% on short-term loans to 10.5% on longer term loans. Accrued interest payable was $153 and $11 at December 31, 1997 and 1996, respectively, and interest expense was $533, $316 and $200 for the years ended December 31, 1997, 1996 and 1995, respectively. At December 31, 1997 and 1996, various related entities, partners and stockholders are indebted to the Combined Entities in the amount of $268 and $107, respectively. The loans carry interest ranging from 0% on short-term loans to 9% on longer term loans. Accrued interest receivable was $1 and $1 at December 31, 1997 and 1996, respectively, and interest income was $9, $1 and $1 for the years ended December 31, 1997, 1996 and 1995, respectively. The Combined Entities have paid or accrued $9,433, $856 and $-0- during the years ended December 31, 1997, 1996 and 1995 to related entities for various hotel construction projects and interest costs during construction. Capitalized interest amounted to $183, $10 and $-0- for the years ended December 31, 1997, 1996 and 1995, respectively. Certain properties are managed by individual partners or related entities. Management fees paid to these individuals or related entities were $272, $97 and $72 during the years ended December 31, 1997, 1996 and 1995, respectively. A related entity rents office space in a hotel owned by the Combined Entities on a month to month basis. The Combined Entities received rent of $30 for the year ended December 31, 1997. The rent amount includes an allocation of certain related expenses. During the year ended December 31, 1996, the Combined Entities sold for $129, the book value of the assets, certain leasehold improvements to Mr. Hasu P. Shah. On September 26, 1997, the Combined Entities acquired from Mr. Hasu P. Shah, the Holiday Inn Express in Harrisburg, Pennsylvania by paying off the $1,106 indebtedness on the property. Prior to the sale, the Combined Entities had rented the property from Mr. Hasu P. Shah under an informal rent arrangement. Rent paid to Mr. Hasu P. Shah was $48, $267 and $70 for the years ended December 31, 1997, 1996 and 1995, respectively. Mr. Hasu P. Shah owns a parcel of land on which a hotel is situated for which no land rent is charged. F-30 COMBINED ENTITIES - INITIAL HOTELS NOTES TO FINANCIAL STATEMENTS [Information relating to September 30, 1998 and throughout 1997 is Unaudited] [AMOUNTS IN THOUSANDS] [8] Commitments Franchise Agreements - The Initial Hotels have executed franchise agreements that have initial lives ranging from 10 to 20 years but may be terminated by either party on certain anniversary dates specified in the agreements. In addition to initial fees totaling $342, which are being amortized over the franchise lives, the agreements require annual payments for franchise royalties, reservation, and advertising services which are based upon percentages of gross room revenue. Such fees were approximately $779, $524 and $368 for the years ended December 31, 1997, 1996 and 1995, respectively. The Initial Hotels will continue to be operated under the franchise agreements. Construction in Progress - At December 31, 1997, the Combined Entities had future obligations under various hotel construction project in the amount of $255. Through December 31, 1997, the Combined Entities had incurred expenses of $1,412 in connection with the construction of a hotel property in West Hanover, Pennsylvania. The construction is being contracted and funded through a related party and the total construction cost is expected to be approximately $3,100. The Combined Entities have obtained a construction/term loan in the amount of $2,500 under which no borrowings are outstanding at December 31, 1997. The loan bears interest at 8% for 5 years and 9 months and the Wall Street Journal prime rate thereafter through maturity 10 years and 9 months from inception. The loan is collateralized by the property and is guaranteed by certain partners, stockholders, Combined Entities and related parties. [9] Fair Value of Financial Instruments At December 31, 1997 and 1996 financial instruments include cash and cash equivalents, accounts receivable, accounts payable, loans to and from related parties and mortgage payables. The fair values of cash, accounts receivable and accounts payable approximate carrying value because of the short-term nature of these instruments. Loans to and from related parties carry interest at rates that approximate the Combined Entities' borrowing cost. The fair value of mortgages payable approximates carrying value since the interest rates approximate the interest rates currently offered for similar debt with similar maturities. [10] Unaudited Interim Statements The financial statements as of September 30, 1998 and for the nine months ended September 30, 1998 and 1997 are unaudited; however, in the opinion of management all adjustments [consisting solely of normal recurring adjustments] necessary for a fair presentation of the financial statements for the interim period have been made. The results of the interim periods are not necessarily indicative of the results to be obtained for a full fiscal year. . . . . . . . . F-31 COMBINED ENTITIES - INITIAL HOTELS SCHEDULE XI - REAL ESTATE AND ACCUMULATED DEPRECIATION AS OF DECEMBER 31, 1997. [IN THOUSANDS]
Cost Capitalized Gross Amounts at Subsequent to Which Carried at Initial Cost Acquisition Close of Period ---------------------- ---------------------- --------------------------- Buildings and Buildings and Buildings and ------------- ------------- ------------- Description Encumbrances Land Improvements Land Improvements Land Improvements Total ----------- ------------ ---- ------------ ---- ------------ ---- ------------ ----- Holiday Inn, Harrisburg, PA $ 3,500 $ 412 $ 1,234 $ -- $ 1,518 $ 412 $ 2,752 $ 3,164 Holiday Inn, Milesburg, PA 914 42 1,158 -- 681 42 1,839 1,881 Holiday Inn Express, New Columbia, PA 1,000 94 2,510 -- -- 94 2,510 2,604 Holiday Inn Express, Harrisburg, PA 1,110 256 850 -- 120 256 970 1,226 Holiday Inn Express, Hershey, PA 1,342 426 2,645 -- -- 426 2,645 3,071 Clarion Suites, Philadelphia, PA 1,614 262 1,049 150 776 412 1,825 2,237 Comfort Inn, Denver, PA 434 -- 782 -- 327 -- 1,109 1,109 Hampton Inn, Selinsgrove, PA 2,385 157 2,511 -- 6 157 2,517 2,674 Hampton Inn, Carlisle, PA 2,848 300 3,109 -- -- 300 3,109 3,409 --------- --------- --------- --------- --------- --------- --------- --------- $ 15,147 $ 1,949 $ 15,848 $ 150 $ 3,428 $ 2,099 $ 19,276 $ 21,375 ========= ========= ========= ========= ========= ========= ========= =========
Life Accumulated Net Upon Which Depreciation Book Value Latest Income ------------ ---------- ------------- Buildings and Buildings and Date of Statement is ------------- ------------- ------- ------------ Description Improvements Improvements Acquisition Computed ----------- ------------ ------------ ----------- -------- Holiday Inn, Harrisburg, PA $ 204 $ 2,960 12/15/94 15 to 40 Holiday Inn, Milesburg, PA 439 1,442 08/15/85 15 to 40 Holiday Inn Express, New Columbia, PA 6 2,598 12/01/97 15 to 40 Holiday Inn Express, Harrisburg, PA 9 1,217 06/15/85 15 to 40 Holiday Inn Express, Hershey, PA 17 3,054 10/01/97 15 to 40 Clarion Suites, Philadelphia, PA 135 2,102 06/30/95 15 to 40 Comfort Inn, Denver, PA 200 909 01/01/88 15 to 40 Hampton Inn, Selinsgrove, PA 86 2,588 09/12/96 15 to 40 Hampton Inn, Carlisle, PA 45 3,364 06/01/97 15 to 40 -------- --------- $ 1,141 $ 20,234 ======== ========= F-32 COMBINED ENTITIES - INITIAL HOTELS NOTES TO SCHEDULE XI [IN THOUSANDS]
[A] Reconciliation of Real Estate: 1997 1996 1995 ---- ---- ---- Balance at Beginning of Year $ 9,950 $ 6,354 $ 3,785 Additions During Year 9,369 3,725 2,907 Deletions During Year (43) (129) (338) ------------ ----------- ----------- Balance at End of Year $ 19,276 $ 9,950 $ 6,354 ============ =========== =========== [B] Reconciliation of Accumulated Depreciation: Balance at Beginning of Year $ 834 $ 614 $ 546 Depreciation for the Year 307 220 139 Accumulated Depreciation on Deletions -- -- (71) ------------ ----------- ----------- Balance at End of Year $ 1,141 $ 834 $ 614 ============ =========== ===========
[C] The aggregate cost of land, buildings and improvements for federal income tax purposes is approximately $19,758. [D] Depreciation is computed based upon the following useful lives: Buildings and Improvements 15 to 40 years F-33 ================================================================================ No dealer, salesperson or other individual has been authorized to give any information or to make any representations other than those contained in this Prospectus in connection with the offer made by this Prospectus and, if given or made, such information or representations must not be relied upon as having been authorized by the Company or the Underwriters. This Prospectus does not constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction in which such offer or solicitation is not authorized or in which the person making such offer or solicitation is not qualified to do so, or to any person to whom it is unlawful to make such offer or solicitation. Neither the delivery of this Prospectus nor any sale made hereunder shall, under any circumstances, create any implication that there has been no change in the affairs of the Company or that information contained herein is correct as of any time subsequent to the date hereof. TABLE OF CONTENTS page PROSPECTUS SUMMARY.......................................................... 1 RISK FACTORS................................................................ 15 THE COMPANY................................................................. 25 GROWTH STRATEGY............................................................. 27 USE OF PROCEEDS............................................................. 29 DISTRIBUTION POLICY......................................................... 30 PRO FORMA CAPITALIZATION.................................................... 36 DILUTION.................................................................... 37 SELECTED FINANCIAL INFORMATION.............................................. 38 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS............................................................. 40 BUSINESS AND PROPERTIES..................................................... 43 POLICIES AND OBJECTIVES WITH RESPECT TO CERTAIN ACTIVITIES..................................................... 54 FORMATION TRANSACTIONS...................................................... 57 MANAGEMENT.................................................................. 59 CERTAIN RELATIONSHIPS AND TRANSACTIONS...................................... 64 THE LESSEE.................................................................. 65 PRINCIPAL SHAREHOLDERS...................................................... 67 DESCRIPTION OF SHARES OF BENEFICIAL INTEREST.................................................................. 68 CERTAIN PROVISIONS OF MARYLAND LAW AND OF THE COMPANY'S DECLARATION OF TRUST AND BYLAWS.......................................................... 75 SHARES AVAILABLE FOR FUTURE SALE............................................ 79 PARTNERSHIP AGREEMENT....................................................... 81 FEDERAL INCOME TAX CONSEQUENCES............................................. 84 UNDERWRITING................................................................ 99 EXPERTS.....................................................................101 REPORTS TO SHAREHOLDERS.....................................................101 LEGAL MATTERS...............................................................101 ADDITIONAL INFORMATION......................................................101 GLOSSARY....................................................................102 INDEX TO FINANCIAL STATEMENTS ..............................................F-1 Until January ___, 1999 (25 days after the date of this Prospectus), all dealers effecting transactions in the registered securities, whether or not participating in this distribution, may be required to deliver a prospectus. This is in addition to the obligation of dealers to deliver a Prospectus when acting as underwriters and with respect to their unsold allotment or subscriptions. ================================================================================ ================================================================================ 2,000,000 Shares HERSHA HOSPITALITY TRUST Priority Class A Common Shares of Beneficial Interest -------------- PROSPECTUS -------------- ANDERSON & STRUDWICK INCORPORATED ____________, 1998 ================================================================================ PART II INFORMATION NOT REQUIRED IN PROSPECTUS Item 31. Other Expenses of Issuance and Distribution Set forth below is an estimate of the approximate amount of the fees and expenses (other than sales commissions) payable by the Registrant in connection with the issuance and distribution of the Common Shares. Securities and Exchange Commission, registration fee.......... $ 4,720 NASD filing fee............................................... 2,100 American Stock Exchange listing fee........................... 30,000 Printing and mailing.......................................... 45,000 Accountant's fees and expenses................................ 140,000 Counsel fees and expenses..................................... 410,000 Miscellaneous................................................. 18,180 --------- Total..................................................... $ 650,000 ======== Item 32. Sales to Special Parties None. Item 33. Recent Sales of Unregistered Securities On May 27, 1998, the Company was capitalized with a subscription by Hasu P. Shah for 100 Class B Common Shares for a purchase price of $1 per share for an aggregate purchase price of $100. The Class B Common Shares were purchased for investment and for the purpose of organizing the Company. The Company issued these Common Shares in reliance on an exemption from registration under Section 4(2) of the Securities Act. Mr. Shah's 100 Class B Common Shares will be redeemed at his purchase price concurrently with the closing of the Offering. Item 34. Indemnification of Trustees and Officers The Maryland REIT Law permits a Maryland real estate investment trust to include in its Declaration of Trust a provision limiting the liability of its trustees and officers to the trust and its shareholders for money damages except for liability resulting from (a) actual receipt of an improper benefit or profit in money, property or services or (b) active and deliberate dishonesty established by a final judgment and that is material to the cause of action. The Declaration of Trust of the Company contains such a provision which eliminates such liability to the maximum extent permitted by the Maryland REIT Law. The Declaration of Trust of the Company authorizes it, to the maximum extent permitted by Maryland law, to obligate itself to indemnify and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any present or former shareholder, Trustee or officer or (b) any individual who, while a Trustee of the Company and at the request of the Company, serves or has served another real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or any other enterprise as a trustee, director, officer or partner of such real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or other enterprise from and against any claim or liability to which such person may become subject or which such person may incur by reason of his status as a present or former shareholder. The Bylaws of the Company obligate it, to the maximum extent permitted by Maryland law, to indemnify: (a) any present or former Trustee, officer or shareholder (including any individual who, while a Trustee, officer or shareholder and at the express request of the Company, serves another entity as a director, officer, shareholder, partner or trustee of such entity) who has been successful, on the merits or otherwise, in the defense of a proceeding to which he was made a party by reason of service in such capacity, against reasonable expenses incurred by him in connection with the proceeding; (b) subject to certain limitations under Maryland law, any present or former Trustee or officer against any claim or liability to which he may become subject by reason of such status; and (c) each present or former II-1 shareholder against any claim or liability to which he may become subject by reason of such status. In addition, the Bylaws obligate the Company, subject to certain provisions of Maryland law, to pay or reimburse, in advance of final disposition of a proceeding, reasonable expenses incurred by a present or former Trustee, officer or shareholder made a party to a proceeding by reason of such status. The Company may, with the approval of its Trustees, provide such indemnification or payment or reimbursement of expenses to any present or former Trustee, officer or shareholder of the Company or any predecessor of the Company and to any employee or agent of the Company or predecessor of the Company. The Maryland REIT Law permits a Maryland real estate investment trust to indemnify and advance expenses to its trustees, officers, employees and agents to the same extent as permitted by the MGCL for directors and officers of Maryland corporations. The MGCL permits a corporation to indemnity its present and former directors and officers, among others, against judgments, penalties, fines, settlements and reasonable expenses actually incurred by them in connection with any proceeding to which they may be made a party by reason of their service in those or other capacities unless it is established that (a) the act or omission of the director or officer was material to the matter giving rise to the proceeding and (i) was committed in bad faith or (ii) was the result of active and deliberate dishonesty, (b) the director or officer actually received an improper personal benefit in money, property or services or (c) in the case of any criminal proceeding, the director or officer had reasonable cause to believe that the act or omission was unlawful. However, a Maryland corporation may not indemnify for an adverse judgment in a suit by or in the right of the corporation or for a judgment of liability on the basis that personal benefit was improperly received, unless in either case a court orders indemnification and then only for expenses. In accordance with the MGCL, the Bylaws of the Company require it, as a condition to advancing expenses, to obtain (a) a written affirmation by the Trustee or officer of his good faith belief that he has met the standard of conduct necessary for indemnification by the Company as authorized by the Bylaws and (b) a written undertaking by him or on his behalf to repay the amount paid or reimbursed by the Company if it shall ultimately be determined that the standard of conduct was not met. Item 35. Treatment of Proceeds from Shares Being Registered None. Item 36. Financial Statements and Exhibits (a) Financial Statements All other schedules are omitted because the required information is not applicable or the information required has been disclosed in the financial statements and related notes included in the Prospectus. (b) Exhibits
Exhibit Number Exhibit ------- ------- 1.1* Form of Underwriting Agreement 1.2* Form of Selected Dealer Agreement 3.1** Amended and Restated Declaration of Trust of the Registrant 3.2* Bylaws of the Registrant 4.1* Form of Common Share Certificate 5.1 Opinion of Hunton & Williams 8.1** Opinion of Hunton & Williams as to Tax Matters 10.1** Form of First Amended and Restated Agreement of Limited Partnership of Hersha Hospitality Limited Partnership 10.2* Contribution Agreement, dated as of June 3, 1998, between Hasu P. Shah and Bharat C. Mehta, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. II-2 10.3* Contribution Agreement, dated as of June 3, 1998, between Shree Associates, JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates, Neil H. Shah, David L. Desfor, Madhusudan I. Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.4* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates, Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd. as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.5* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.6* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, David L. Desfor, Madhusudan I. Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.7* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, Madhusudan I. Patni and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.8* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.9* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.10* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.11* Contribution Agreement, dated as of June 3, 1998, between 144 Associates, 344 Associates, 544 Associates and 644 Associates, Joint Tenants Doing Business as 2544 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.12* Contribution Agreement dated June 3, 1998, between Shree Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.13* Contribution Agreement dated June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.14* Contribution Agreement dated June 3, 1998, between 144 Associates, 344 Associates, 544 Associates and 644 Associates, Joint Tenants Doing Business as 2544 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.15* Contribution Agreement, dated June 3, 1998, between Shree Associates, Devi Associates, Shreeji Associates, Madhusudan I. Patni and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.16* Contribution Agreement, dated June 3, 1998, between Shree Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.17* Form of Ground Lease 10.18** Form of Percentage Lease 10.19* Option Agreement, dated June 3, 1998, between Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and Hersha Hospitality Limited Partnership. 10.19(a)** Amendment to Option Agreement, dated December 4, 1998, between Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and Hersha Hospitality Limited Partnership. 10.20* Administrative Services Agreement, dated _____________, 1998, between Hersha Hospitality Trust and Hersha Hospitality Management, L.P. II-3 10.21* Warrant Agreement, dated ____________, 1998, between Anderson & Strudwick, Inc. and Hersha Hospitality Trust. 10.22* Warrant Agreement, dated June 3, 1998, between 2744 Associates, L.P. and Hersha Hospitality Limited Partnership. 10.23* Hersha Hospitality Trust Option Plan 10.24* Hersha Hospitality Trust Non-Employee Trustees' Option Plan 23.1 Consent of Hunton & Williams (included in Exhibits 5.1 and 8.1) 23.2** Consent of Moore Stephens, P.C. 24.1 Power of Attorney (included on signature page) 99.1* Consent of Bharat C. Mehta to be named as a Trustee nominee 99.2* Consent of K. D. Patel to be named as a Trustee nominee 99.3* Consent of L. McCarthy Downs, III to be named as a Trustee nominee 99.4* Consent of Everette G. Allen, Jr. to be named as a Trustee nominee 99.5* Consent of Mark R. Parthemer to be named as a Trustee nominee
- ------------ * Previously filed. **Filed herewith. Item 37. Undertakings Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrant pursuant to the provisions referred to in Item 34 of this Registration Statement, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer, or controlling person of the Registrant in the successful defense of any action, suit, or proceeding) is asserted by such director, officer, or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question as to whether such indemnification by it is against public policy as expressed in the Act, and will be governed by the final adjudication of such issue. The undersigned Registrant hereby undertakes to provide to the underwriters at the closing specified in the Underwriting Agreement certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser. The undersigned Registrant hereby undertakes: (1) For the purpose of determining any liability under the Securities Act of 1933, each such post-effective amendment shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof; (2) For purposes of determining any liability under the Securities Act of 1933, the information omitted from the form of Prospectus filed as part of this Registration Statement in reliance upon Rule 430A and contained in a form of Prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective. II-4 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the Registrant has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized in the City of Harrisburg, State of Pennsylvania, on the 7th day of December, 1998. Hersha Hospitality Trust, a Maryland real estate investment trust (Registrant) By: /s/ Hasu P. Shah ---------------------------------- Hasu P. Shah Chairman of the Board and Chief Executive Officer Pursuant to the requirements of the Securities Act of 1933, this Registration Statement has been signed by the following persons on the 7th day of December, 1998 in the capacities indicated. Signature Title /s/ Hasu P. Shah Chairman of the Board of Trustees, Chief - ----------------------- Executive Officer and Trustee Hasu P. Shah (Principal Executive Officer) /s/ Kiran P. Patel Chief Financial Officer and Treasurer - ----------------------- (Principal Financial and Accounting Officer) Kiran P. Patel II-5 EXHIBIT INDEX
Sequentially Exhibit Document Numbered Page - ------- -------- ------------- 1.1* Form of Underwriting Agreement 1.2* Form of Selected Dealer Agreement 3.1** Amended and Restated Declaration of Trust of the Registrant 3.2* Bylaws of the Registrant 4.1* Form of Common Share Certificate 5.1 Opinion of Hunton & Williams 8.1** Opinion of Hunton & Williams as to Tax Matters 10.1** Form of First Amended and Restated Agreement of Limited Partnership of Hersha Hospitality Limited Partnership 10.2* Contribution Agreement, dated as of June 3, 1998, between Hasu P. Shah and Bharat C. Mehta, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.3* Contribution Agreement, dated as of June 3, 1998, between Shree Associates, JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates, Neil H. Shah, David L. Desfor, Madhusudan I. Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.4* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Devi Associates, Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd. as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.5* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.6* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, David L. Desfor, Madhusudan I. Patni, Manhar Gandhi and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.7* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, Madhusudan I. Patni and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.8* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.9* Contribution Agreement, dated as of June 3, 1998, between JSK Associates, Shanti Associates, Shreeji Associates, Kunj Associates, Neil H. Shah, David L. Desfor and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.10* Contribution Agreement, dated as of June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.11* Contribution Agreement, dated as of June 3, 1998, between 144 Associates, 344 Associates, 544 Associates and 644 Associates, Joint Tenants Doing Business as 2544 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.12* Contribution Agreement dated June 3, 1998, between Shree Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.13* Contribution Agreement dated June 3, 1998, between 2144 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.14* Contribution Agreement dated June 3, 1998, between 144 Associates, 344 Associates, 544 Associates and 644 Associates, Joint Tenants Doing Business as 2544 Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.15* Contribution Agreement, dated June 3, 1998, between Shree Associates, Devi Associates, Shreeji Associates, Madhusudan I. Patni and Shreenathji Enterprises, Ltd., as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. 10.16* Contribution Agreement, dated June 3, 1998, between Shree Associates, as Contributor, and Hersha Hospitality Limited Partnership, as Acquiror. II-6 10.17* Form of Ground Lease 10.18** Form of Percentage Lease 10.19* Option Agreement, dated June 3, 1998, between Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and Hersha Hospitality Limited Partnership. 10.19(a)** Amendment to Option Agreement, dated December 4, 1998, between Hasu P. Shah, Jay H. Shah, Neil H. Shah, Bharat C. Mehta, Kanti D. Patel, Rajendra O. Gandhi, Kiran P. Patel, David L. Desfor, Madhusudan I. Patni and Manhar Gandhi, and Hersha Hospitality Limited Partnership. 10.20* Administrative Services Agreement, dated ______________, 1998, between Hersha Hospitality Trust and Hersha Hospitality Management, L.P. 10.21* Warrant Agreement, dated _____________, 1998, between Anderson & Strudwick, Inc. and Hersha Hospitality Trust. 10.22* Warrant Agreement, dated June 3, 1998, between 2744 Associates, L.P. and Hersha Hospitality Limited Partnership. 10.23* Hersha Hospitality Trust Option Plan 10.24* Hersha Hospitality Trust Non-Employee Trustees' Option Plan 23.1 Consent of Hunton & Williams (included in Exhibits 5.1 and 8.1) 23.2** Consent of Moore Stephens, P.C. 24.1 Power of Attorney (included on signature page) 99.1* Consent of Bharat C. Mehta to be named as a Trustee nominee 99.2* Consent of K. D. Patel to be named as a Trustee nominee 99.3* Consent of L. McCarthy Downs, III to be named as a Trustee nominee 99.4* Consent of Everette G. Allen, Jr. to be named as a Trustee nominee 99.5* Consent of Mark R. Parthemer to be named as a Trustee nominee
- --------------------- * Previously filed. **Filed herewith. II-7
EX-3 2 EXHIBIT 3.1 Exhibit 3.1 HERSHA HOSPITALITY TRUST ARTICLES OF AMENDMENT AND RESTATEMENT Hersha Hospitality Trust, a Maryland real estate investment trust (the "Trust") formed under Title 8 of the Corporation and Associations Article of the Annotated Code of Maryland ("Title 8"), desires to amend and restate its Declaration of Trust as currently in effect as hereinafter amended. FIRST: The following provisions are all of the provisions of the Declaration of Trust currently in effect and as hereinafter amended: ARTICLE I FORMATION The Trust is a real estate investment trust (a "REIT") within the meaning of Title 8. The Trust shall not be deemed to be a general partnership, limited partnership, joint venture, joint stock company or a corporation (but nothing herein shall preclude the Trust from being treated for tax purposes as an association under the Internal Revenue Code of 1986, as amended (the "Code"). ARTICLE II NAME The name of the Trust is: Hersha Hospitality Trust Under circumstances in which the Board of Trustees of the Trust (the "Board of Trustees" or "Board") determines that the use of the name of the Trust is not practicable, the Trust may use any other designation or name for the Trust. ARTICLE III PURPOSES AND POWERS Section 1. Purposes. The purposes for which the Trust is formed are to invest in and to acquire, hold, manage, administer, control and dispose of property and interests in property, including, without limitation or obligation, engaging in business as a REIT under the Code. Section 2. Powers. The Trust shall have all of the powers granted to REITs by Title 8 and all other powers set forth in the Declaration of Trust as filed for record with the State Department of Assessment and Taxation of Maryland, and any amendments or supplements thereto (the "Declaration of Trust") that are not inconsistent with law and are appropriate to promote and attain the purposes set forth in the Declaration of Trust. ARTICLE IV RESIDENT AGENT The name of the resident agent of the Trust in the State of Maryland is James J. Hanks, Jr., c/o Ballard Spahr Andrews & Ingersoll, whose post office address is 300 East Lombard Street, Baltimore, Maryland 21202. The resident agent is a citizen of and resides in the State of Maryland. The Trust may have such offices or places of business within or outside the State of Maryland as the Board of Trustees of the Trust may from time to time determine. -2- ARTICLE V BOARD OF TRUSTEES Section 1. Powers. (A) Subject to any express limitations contained in the Declaration of Trust or in the Bylaws of the Trust ("Bylaws"), (i) the business and affairs of the Trust shall be managed under the direction of the Board of Trustees and (ii) the Board shall have full, exclusive and absolute power, control and authority over any and all property of the Trust. The Board may take any action as it, in its sole judgment and discretion, deems necessary or appropriate to conduct the business and affairs of the Trust. The Declaration of Trust shall be construed with a presumption in favor of the grant of power and authority to the Board. Any construction of the Declaration of Trust or determination made in good faith by the Board concerning its powers and authority hereunder shall be conclusive. The enumeration and definition of particular powers of the Trustees included in the Declaration of Trust or in the Bylaws shall in no way be construed or deemed by inference or otherwise in any manner to exclude or limit the powers conferred upon the Board of Trustees under the general laws of the State of Maryland or any other applicable laws. (B) Except as otherwise provided in the Bylaws, the Board, without any action by the shareholders of the Trust, shall have and may exercise, on behalf of the Trust, without limitation, the power to adopt, amend and repeal Bylaws; to elect officers in the manner prescribed in the Bylaws; to solicit proxies from holders of shares of beneficial interest of the Trust; and to do any other acts and deliver any other documents necessary or appropriate to the foregoing powers. (C) It shall be the duty of the Board of Trustees to use any and all commercially -3- reasonable efforts to ensure that the Trust satisfies the requirements for qualification as a REIT under the Code, including, but not limited to, the ownership of outstanding shares of its beneficial interest, the nature of its assets, the sources of its income, and the amount and timing of its distributions to its shareholders. The Board of Trustees shall take no action to disqualify the Trust as a REIT or to otherwise revoke the Trust's election to be taxed as a REIT without the affirmative vote of two-thirds of the number of Common Shares entitled to vote on such matter at a meeting of the shareholders. Section 2. Classification and Number. (A) The Trustees of the Trust (hereinafter the "Trustees") (other than any Trustee elected solely by holders of one or more classes or series of Preferred Shares) shall be classified, with respect to the terms for which they severally hold office, into two classes, as nearly equal in number as possible, one class ("Class I") to hold office initially for a term expiring at the first annual meeting of shareholders (1999) and another class ("Class II") to hold office initially for a term expiring at the second succeeding annual meeting of shareholders (2000), with the Trustees of each class to hold office until their successors are duly elected and qualified. At each annual meeting of shareholders, the successors to the class of Trustees whose term expires at such meeting shall be elected to hold office for a term expiring at the annual meeting of shareholders held in the second year following the year of their election. Shareholder votes to elect Trustees shall be conducted in the manner provided in the Bylaws. (B) The number of Trustees initially shall be seven, which number may be increased or decreased pursuant to the Bylaws. The name, address and class of the Trustees who shall serve until their successors are duly elected and qualified are: -4- Name Address Class - ---- ------- ----- Hasu P. Shah 148 Sheraton Drive Class II Box A New Cumberland, PA 17070 Bharat C. Mehta 148 Sheraton Drive Class II Box A New Cumberland, PA 17070 K.D. Patel 148 Sheraton Drive Class II Box A New Cumberland, PA 17070 L. McCarthy Downs, III 707 E. Main Street Class I 20th Floor Richmond, VA 23219 Everette G. Allen, Jr. The Federal Reserve Bank Building Class I 701 East Byrd Street Richmond, Virginia 23219 Thomas S. Capello 2951 Whiteford Road Class II York, Pennsylvania 17402 Mark R. Parthemer Penn National Insurance Tower Class I 2 North Second Street, 7th Floor Harrisburg, Pennsylvania 17101 The Trustees may increase the number of Trustees and fill any vacancy, whether resulting from an increase in the number of Trustees or otherwise, on the Board of Trustees in the manner provided in the Bylaws. The Independent Trustees (as hereinafter defined) shall nominate replacements for vacancies among the Independent Trustees' positions. In the event that, after the closing of the Initial Public Offering (as hereinafter defined), three members of the Board of Trustees are not Independent Trustees by reason of the resignation or removal of one or more Independent Trustees -5- or otherwise, it shall be a qualification for any individual elected to fill such vacancy that he satisfy the requirements of Section 4 of this Article V for being an Independent Trustee. It shall not be necessary to list in the Declaration of Trust the names and addresses of any Trustees hereinafter elected. Section 3. Resignation or Removal. Any Trustee may resign by written notice to the Board, effective upon execution and delivery to the Trust of such written notice or upon any future date specified in the notice. Subject to the rights of holders of one or more classes or series of Preferred Shares to elect or remove one or more Trustees, a Trustee may be removed at any time, with or without cause, at a meeting of the shareholders, by the affirmative vote of the holders of not less than two-thirds of the Shares then outstanding and entitled to vote generally in the election of Trustees. Section 4. Independent Trustees. Notwithstanding anything herein to the contrary, at all times (except during a period not to exceed sixty (60) days following the death, resignation, incapacity or removal from office of a Trustee prior to expiration of the Trustee's term of office), three members of the Board of Trustees shall be comprised of persons who are not officers, directors or employees of the Trust, any lessee of the Trust's or the Partnership's properties or any underwriter or placement agent of the shares of beneficial interest of the Trust that has been engaged by the Trust within the past three years, or any "Affiliates" thereof (each such person serving on the Board of Trustees being an "Independent Trustee"). Section 5. Definition of Affiliate. For purposes of Section 4 above, "Affiliate" of a person shall mean (i) any person that, directly or indirectly, controls or is controlled by or is under -6- common control with such person, (ii) any other person that owns, beneficially, directly or indirectly, five percent (5%) or more of the outstanding capital shares, shares or equity interests of such person, or (iii) any officer, director, employee, partner or trustee (including any family member of the foregoing) of such person or of any person controlling, controlled by or under common control with such person (excluding trustees and persons serving in similar capacities who are not otherwise an Affiliate of such person). The term "person" means and includes individuals, corporations, general and limited partnerships, stock companies or associations, joint ventures, associations, companies, trusts, banks, trust companies, land trusts, business trusts, real estate investment trusts or other entities and governments and agencies and political subdivisions thereof. For the purpose of this definition, "control" (including the correlative meanings of the terms "controlled by" and "under common control with"), as used with respect to any person, shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such person, through the ownership of voting securities, partnership interests or other equity interests. ARTICLE VI SHARES OF BENEFICIAL INTEREST Section 1. Authorized Shares. The beneficial interest of the Trust shall be divided into shares of beneficial interest (the "Shares"). The Trust has authority to issue : (i) one hundred million (100,000,000) common shares of beneficial interest, $.01 par value per share ("Common Shares"), of which fifty million (50,000,000) will be Priority Class A Common Shares (the "Priority Common Shares") and fifty million (50,000,000) will be Class B Common Shares -7- (the "Class B Common Shares"); and (ii) ten million (10,000,000) preferred shares of beneficial interest, $.01 par value per share ("Preferred Shares"). If Shares of one class are classified or reclassified into Shares of another class pursuant to this Article VI, the number of authorized Shares of the former class shall be automatically decreased and the number of Shares of the latter class shall be automatically increased, in each case by the number of Shares so classified or reclassified, so that the aggregate number of Shares of all classes that the Trust has the authority to issue shall not be more than the total number of Shares set forth in the second sentence of this paragraph. The Board of Trustees, without any action by the shareholders of the Trust, may amend the Declaration of Trust from time to time to increase or decrease the aggregate number of Shares or the number of Shares of any class that the Trust has authority to issue. Section 2. Common Shares. Subject to the provisions of Article VII, each Common Share shall entitle the holder thereof to one vote on each matter upon which holders of Common Shares are entitled to vote. The holders of the Priority Common Shares and the Class B Common Shares shall vote together as a single class. The Board of Trustees may reclassify any unissued Common Shares from time to time in one or more classes or series of Shares. (a) Priority Class A Common Shares. The holders of the Priority Common Shares shall be entitled to the following rights (the "Priority Rights") during the period beginning on the date of the closing of the initial public offering of the Priority Common Shares (the "Offering"), and ending on the earlier of: (i) the date that is 15 trading days after the Company sends notice to the record holders of the Priority Common Shares that their Priority -8- Rights will terminate in 15 trading days, provided that the closing bid price of the Priority Common Shares is at least $7.00 on each trading day during such 15-day period; or (ii) the fifth anniversary of the closing of the Offering (the "Priority Period"). A "trading day" shall mean a day on which the principal national securities exchange on which the Priority Common Shares are listed or admitted to trading is open for the transaction of business or, if the Priority Common Shares are not listed or admitted to trading on any national securities exchange, shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in the State of New York are authorized or obligated by law or executive order to close. Notwithstanding the foregoing, the Priority Period shall not end until the holders of the Priority Common Shares have received any accrued, but unpaid, Priority Distributions. (i) The Dividend Priority. The holders of the Priority Common Shares shall be entitled to receive, prior to any distributions to the holders of the Class B Common Shares, cumulative dividends in an amount per Priority Common Share equal to $.18 per quarter (the "Priority Distribution"). After the holders of the Class B Common Shares have received an amount per Class B Common Share equal to the Priority Distribution, the holders of the Priority Common Shares shall be entitled to receive any further distributions on a pro rata basis with the holders of the Class B Common Shares. After the Priority Period, the holders of the Priority Common Shares shall be entitled to receive any further distributions on a pro rata basis with the holders of the Class B Common Shares. The dividends paid to the holders of the Priority Common Shares will be subject to the rights of any class or series of Preferred Shares. No dividend will be declared or paid or other distribution of cash or other property declared or made directly by the Company or any person acting on behalf of the Company on any shares of beneficial interest that rank junior to the Priority Common Shares as to the payment of dividends or -9- amounts upon liquidation, dissolution and winding up ("Junior Shares") unless full cumulative dividends have been declared and paid or are contemporaneously declared and funds sufficient for payment set aside on the Priority Common Shares for all prior and contemporaneous dividend periods; provided, however, that if accumulated and accrued dividends on the Priority Common Shares for all prior and contemporaneous dividend periods have not been paid in full then any dividend declared on the Priority Common Shares for any dividend period and on any shares of beneficial interest of the Company that rank on parity with the Priority Common Shares as to the payment of dividends or amounts upon liquidation, dissolution and winding up ("Parity Shares") will be declared ratably in proportion to accumulated, accrued and unpaid dividends on the Priority Common Shares and such Parity Shares. No distributions on the Priority Common Shares shall be authorized by the Board of Trustees or paid or set apart for payment by the Company at such time as the terms and provisions of any agreement of the Company, including any agreement relating to its indebtedness, prohibits such authorization, payment or setting apart for payment or provides that such authorization, payment or setting apart for payment would constitute a breach thereof or a default thereunder, or if such authorization or payment shall be restricted or prohibited by law. Any distribution payment made on -10- the Priority Common Shares shall first be credited against the earliest accrued but unpaid distribution due with respect to such shares which remains payable. (ii) Liquidation Preference. In the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, during the Priority Period, the holders of the Priority Common Shares shall be entitled to receive, prior to any liquidating payments to the holders of the Class B Common Shares, $6.00 per Priority Common Share (the "Liquidation Preference"), plus any accumulated and unpaid Priority Distributions (whether or not declared) on the Priority Common Shares to the date of distribution. After the holders of the Class B Common Shares have received an amount equal to the Liquidation Preference plus any accumulated and unpaid Priority Distributions (whether or not declared) on the Class B Common Shares to the date of distribution, the holders of the Priority Common Shares shall share ratably with the holders of the Class B Common Shares in the assets of the Company. In the event of any liquidation, dissolution or winding up of the Company, whether voluntary or involuntary, after the Priority Period, the holders of the Priority Common Shares shall share ratably with the holders of the Class B Common Shares in the assets of the Company. The rights of the holders of the Priority Common Shares to liquidating payments shall be subject to rights of any class or series of -11- Preferred Shares. If, upon any liquidation, dissolution or winding up of the Company, the assets of the Company, or proceeds thereof, distributable among the holders of the Priority Common Shares are insufficient to pay in full the Liquidation Preference and all accumulated and unpaid dividends with respect to any of the Parity Shares, then such assets or the proceeds thereof will be distributed among the holders of the Priority Common Shares and any such Parity Shares ratably in accordance with the respective amounts that would be payable on the Priority Common Shares and such Parity Shares if all amounts payable thereon were paid in full. None of (i) a consolidation or merger of the Company with another corporation, (ii) a statutory share exchange by the Company or (iii) a sale or transfer of all or substantially all of the Company's assets will be considered a liquidation, dissolution or winding up, voluntary or involuntary, of the Company. (b) The Class B Common Shares (i) Dividends. Subject to the preferential rights of the Priority Common Shares during the Priority Period or of any other shares or series of beneficial interest and to the provisions of this Declaration of Trust regarding the restriction on the transfer of shares of beneficial interest, holders of Class B Common Shares are entitled to receive dividends on shares if, as and when authorized and declared by the Board of -12- Trustees of the Company out of assets legally available therefor and to share ratably in the assets of the Company legally available for distribution to its shareholders in the event of its liquidation, dissolution or winding-up after payment of, or adequate provision for, all known debts and liabilities of the Company. In the event that the Company at any time is unable to pay to the holders of the Class B Common Shares an amount per Class B Common Share equal to the Priority Distribution, during the Priority Period the holders of the Class B Common Shares shall be entitled to receive an amount such that the cumulative amount received per Class B Common Share is equal to the cumulative Priority Distribution received per Priority Common Share. The Company shall pay such amounts at such subsequent dividend payment dates that the Company has cash available for distribution to shareholders to pay such dividends. (ii) Conversion. Upon termination of the Priority Period, the Class B Common Shares automatically will be converted into Priority Common Shares on a one-for-one basis, subject to adjustment as described in this Article VI, Section 2(b)(ii) (the "Conversion Ratio"). A notice informing holders of the Class B Common Shares of such conversion will be mailed by the Company to the holders of record of the Class B Common Shares as of the dividend payment record date for the next dividend payable after the expiration of the Priority Period, together with the dividend payable on such -13- shares, at their respective addresses as they appear on the share transfer records of the Company. No fewer than all of the outstanding Class B Common Shares shall be converted. If the expiration of the Priority Period falls after a dividend payment record date and prior to the related payment date, the holders of the Class B Common Shares at the close of business on such record date will be entitled to receive the dividend payable on such shares on the corresponding dividend payment date, notwithstanding the conversion of such shares prior to such dividend payment date. Upon expiration of the Priority Period, each holder of Class B Common Shares (unless the Company defaults in the delivery of the Priority Common Shares) will be, without any further action, deemed a holder of the amount of Priority Common Shares, as the case may be, for which such Class B Common Shares are convertible. Fractional Priority Common Shares will not be issued upon conversion of the Class B Common Shares. (iii) Conversion Ratio Adjustments. The Conversion Ratio is subject to adjustment upon certain events, including (i) the payment of dividends (and other distributions) payable in Priority Common Shares on any class of shares of beneficial interest of the Company, (ii) subdivisions, combinations and reclassifications of Priority Common Shares and (iii) distributions to all holders of Priority Common Shares of evidences of indebtedness of the -14- Company or assets (including securities, but excluding those dividends, rights, warrants and distributions referred to in clause (i) or (ii) above and dividends and distributions paid in cash). In addition to the foregoing adjustments, the Company will be permitted to make such reductions in the Conversion Ratio as it considers to be advisable in order that any event treated for Federal income tax purposes as a dividend of Shares or share rights will not be taxable to the holders of the Class B Common Shares or, if that is not possible, to diminish any income taxes that are otherwise payable because of such event. No adjustment of the Conversion Ratio is required to be made in any case until cumulative adjustments amount to 1% or more of the Conversion Ratio. Any adjustments not so required to be made will be carried forward and taken into account in subsequent adjustments. Section 3. Preferred Shares. The Board of Trustees may classify any unissued Preferred Shares and reclassify any previously classified but unissued Preferred Shares of any class or series from time to time, in one or more classes or series of Shares. Section 4. Classified or Reclassified Shares. Prior to issuance of classified or reclassified Shares of any class or series, the Board of Trustees by resolution shall (a) designate that class or series to distinguish it from all other classes and series of Shares; (b) specify the number of Shares to be included in the class or series; (c) set, subject to the provisions of Article VII and subject to the express terms of any class or series of Shares outstanding at the time, the preferences, -15- conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and terms and conditions of redemption for each series; and (d) cause the Trust to file articles supplementary with the State Department of Assessments and Taxation of Maryland ("SDAT"). Any of the terms of any class or series of Shares set pursuant to clause (c) of this Section 3 may be made dependent upon facts or events ascertainable outside the Declaration of Trust (including the occurrence of any event, including a determination by the Trust or any other person or body) and may vary among holders thereof, provided that the manner in which such facts, events or variations shall operate upon the terms of such class or series of Shares is clearly and expressly set forth in articles supplementary filed with the SDAT. Section 5. Authorization by Board of Share Issuance. The Board of Trustees may authorize the issuance from time to time of Shares of any class or series, whether now or hereafter authorized, or securities or rights convertible into Shares of any class or series, whether now or hereafter authorized, for such consideration (whether in cash, property, past or future services, obligation for future payment or otherwise) as the Board of Trustees may deem advisable (or without consideration in the case of a Share split or Share dividend), subject to such restrictions or limitations, if any, as may be set forth in the Declaration of Trust or the Bylaws. Notwithstanding any other provision in the Declaration of Trust, no determination shall be made by the Board of Trustees nor shall any transaction be entered into by the Trust that would cause any Shares or other beneficial interest in the Trust not to constitute "transferable shares" or "transferable certificates of beneficial interest" under Section 856(a)(2) of the Code or which would cause any distribution to constitute a preferential dividend as described in Section 562(c) of -16- the Code. Section 6. Dividends and Distributions. The Board of Trustees may from time to time authorize to shareholders dividends or distributions, in cash or other assets of the Trust or in securities of the Trust or from any other source as the Board of Trustees in its discretion shall determine. The Board of Trustees shall endeavor to authorize the Trust to pay such dividends and distributions as shall be necessary for the Trust to qualify as a REIT under the Code; however, shareholders shall have no right to any dividend or distribution unless and until authorized by the Board. The exercise of the powers and rights of the Board of Trustees pursuant to this Section shall be subject to the provisions of any class or series of Shares at the time outstanding. Notwithstanding any other provision in the Declaration of Trust, no determination shall be made by the Board of Trustees nor shall any transaction be entered into by the Trust that would cause any Shares not to constitute "transferable shares" or "transferable certificates of beneficial interest" under Section 856(a)(2) of the Code or that would cause any distribution to constitute a preferential dividend as described in Section 562(c) of the Code. Section 7. General Nature of Shares. All Shares shall be personal property entitling the shareholders only to those rights provided in the Declaration of Trust. The shareholders shall have no interest in the property of the Trust and shall have no right to compel any partition, division, dividend or distribution of the Trust or of the property of the Trust. The death of a shareholder shall not terminate the Trust. The Trust is entitled to treat as shareholders only those persons in whose names Shares are registered as holders of Shares on the beneficial interest ledger of the Trust. -17- Section 8. Fractional Shares. The Trust may, without the consent or approval of any shareholder, issue fractional Shares, eliminate a fraction of a Share by rounding up or down to a full Share, arrange for the disposition of a fraction of a Share by the person entitled to it, or pay cash for the fair value of a fraction of a Share. Section 9. Declaration of Trust and Bylaws. All shareholders are subject to the provisions of the Declaration of Trust and the Bylaws of the Trust. Section 10. Divisions and Combinations of Shares. Subject to an express provision to the contrary in the terms of any class or series of beneficial interest hereafter authorized, the Board of Trustees shall have the power to divide or combine the outstanding shares of any class or series of beneficial interest, without a vote of the shareholders, so long as the number of shares combined into one share in any such combination or series of combinations within any period of twelve months is not greater than four. ARTICLE VII RESTRICTIONS ON TRANSFER AND SHARES-IN-TRUST Section 1. Restrictions on Transfer. (A) Definitions. For the purpose of this Article VII, the following terms shall have the following meanings: (i) "Beneficial Ownership" shall mean ownership of Equity Shares (or options to acquire Equity Shares) by a Person who would be treated as an owner of such Equity Shares either (a) directly (including through a nominee or similar arrangement) or (b) indirectly through the application of Section 544 of the Code, as modified by Section 856(h)(1)(B) of the -18- Code. The terms "Beneficial Owner," "Beneficially Owns" and "Beneficially Owned" shall have correlative meanings. (ii) "Beneficiary" shall mean, with respect to any Share Trust, one or more organizations described in each of Section 170(b)(1)(A) (other than clause (vii) or (viii) thereof) and Section 170(c)(2) of the Code that are named by the Share Trust as the beneficiary or beneficiaries of such Share Trust, in accordance with the provisions of Section 2(A) hereof. (iii) "Board of Trustees" shall mean the Board of Trustees of the Trust. (iv) "Code" shall mean the Internal Revenue Code of 1986, as amended from time to time. (v) "Constructive Ownership" shall mean ownership of Equity Shares (or options to acquire Equity Shares) by a Person , whether the interest in the Equity Shares is held directly or indirectly (including a nominee or similar arrangement), and shall include interests that would be treated as owned through the application of Section 318 of the Code, as modified by Section 856(d)(5) of the Code. The terms "Constructive Owner," "Constructively Owns" and "Constructively Owned" shall have correlative meanings. (vi) "Equity Shares" shall mean Shares of all classes or series, including without limitation Preferred Shares or Common Shares. The term "Equity Shares" shall include all Preferred Shares and Common Shares that are held as Shares-in-Trust in accordance with the provisions of Section 2(A) hereof. (vii) "Hersha Hospitality Partnership Agreement" shall mean the -19- agreement of limited partnership of Hersha Hospitality Limited Partnership, a Virginia limited partnership, as amended and restated. (viii) "Initial Public Offering" means the sale of Common Shares pursuant to the Trust's first effective registration statement for such Common Shares filed under the Securities Act of 1933, as amended. (ix) "Market Price" on any date shall mean, with respect to any class or series of outstanding Equity Shares, the average of the Closing Price for the five consecutive Trading Days ending on such date. The "Closing Price" on any date shall mean the last sale price, regular way, or, in case no such sale takes place on such day, the average of the closing bid and asked prices, regular way, in either case as reported in the principal consolidated transaction reporting system with respect to securities listed or admitted to trading on the New York Stock Exchange or, if the Equity Shares are not listed or admitted to trading on the New York Stock Exchange, as reported in the principal consolidated transaction reporting system with respect to securities listed on the principal national securities exchange on which the Equity Shares are listed or admitted to trading or, if the Equity Shares are not listed or admitted to trading on any national securities exchange, the last quoted price, or if not so quoted, the average of the high bid and low asked prices in the over-the-counter market, as reported by the National Association of Securities Dealers, Inc. Automated Quotation System or, if such system is no longer in use, the principal other automated quotations system that may then be in use or, if the Equity Shares are not quoted by any such organization, the average of the closing bid and asked prices as furnished by a professional market maker making a market in the Equity Shares selected by the Board of Trustees or, in the -20- event that no trading price is available for such Equity Shares, the fair market value of the Equity Shares, as determined in good faith by the Board of Trustees. "Trading Day" shall mean a day on which the principal national securities exchange on which the Equity Shares are listed or admitted to trading is open for the transaction of business or, if the Equity Shares are not listed or admitted to trading on any national securities exchange, shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in the State of New York are authorized or obligated by law or executive order to close. (x) "Non-Transfer Event" shall mean an event (other than a purported Transfer) that would result in a change in Beneficial or Constructive Ownership of the Equity Shares, including, but not limited to, the granting of any option or entering into any agreement for the sale, transfer or other disposition of Equity Shares or the sale, transfer, assignment or other disposition of any securities or rights convertible into or exchangeable for Equity Shares. (xi) "Ownership Limit" shall mean 9.9% of the aggregate number of outstanding Common Shares and 9.9% of the aggregate number of outstanding shares of any class or series of Preferred Shares, in each case considered separately on a class by class or series by series basis. (xii) "Partnership" shall mean Hersha Hospitality Limited Partnership, a Virginia limited partnership. (xiii) "Partnership Unit" shall mean a fractional, undivided share of the partnership interests of Hersha Hospitality Limited Partnership, a Virginia limited partnership. -21- (xiv) "Permitted Transferee" shall mean any Person designated as a Permitted Transferee in accordance with the provisions of Section 2(E) hereof. (xv) "Person" shall mean an individual, corporation, partnership, estate, trust, a portion of a trust permanently set aside for or to be used exclusively for the purposes described in Section 642(c) of the Code, association, private foundation within the meaning of Section 509(a) of the Code, joint stock company or other entity and also includes a "group" as that term is used for purposes of Section 13(d)(3) of the Securities Exchange Act of 1934, as amended. (xvi) "Prohibited Owner" shall mean, with respect to any purported Transfer or Non-Transfer Event, any Person who, but for the provisions of Section 1(C) hereof, would own record title to Equity Shares. (xvii) "Redemption Rights" shall mean the rights granted under the Hersha Hospitality Partnership Agreement to the limited partners to redeem, under certain circumstances, their Partnership Units for cash (or, at the option of the Trust, Common Shares). (xviii) "REIT" shall mean a real estate investment trust under Section 856 of the Code. (xix) "Restriction Termination Date" shall mean the first day after the date of the Initial Public Offering on which the Board of Trustees and the shareholders of the Trust determine, pursuant to Article V, Section 1(C), that it is no longer in the best interests of the Trust to attempt to, or continue to, qualify as a REIT or for any other reason, the Board of Trustees and the shareholders amend the Declaration of Trust to terminate the provisions of this Article VII. -22- (xx) "Shares-in-Trust" shall mean any Equity Shares designated Shares-in-Trust pursuant to Section 1(C) hereof. (xxi) "Share Trust" shall mean any separate trust created pursuant to Section 1(C) hereof and administered in accordance with the terms of Section 2 hereof, for the exclusive benefit of any Beneficiary. (xxii) "Share Trustee" shall mean any person or entity unaffiliated with both the Trust and any Prohibited Owner designated by the Trust to act as trustee of any Share Trust, or any successor trustee thereof. (xxiii) "Transfer" (as a noun) shall mean any issuance, sale, transfer, gift, assignment, devise or other disposition of Equity Shares, whether voluntary or involuntary, whether of record, constructively or beneficially and whether by operation of law or otherwise. "Transfer" (as a verb) shall have the correlative meaning. (B) Restriction on Transfers. (1) Except as provided in Section 1(G) hereof, from the date of the Initial Public Offering and prior to the Restriction Termination Date, no Person shall Beneficially Own or Constructively Own outstanding Equity Shares in excess of the Ownership Limit. (2) Except as provided in Section 1(G) hereof and subject to Section 1(H) hereof, from the date of the Initial Public Offering and prior to the Restriction Termination Date, any Transfer that, if effective, would result in any Person Beneficially Owning or Constructively Owning Equity Shares in excess of the Ownership Limit shall be void ab initio as to the Transfer of that number of Equity Shares that would be otherwise Beneficially Owned or Constructively -23- Owned by such Person in excess of the Ownership Limit and the intended transferee shall acquire no rights in such excess Equity Shares. (3) Except as provided in Section 1(G) hereof, and subject to Section 1(H) hereof, from the date of the Initial Public Offering and prior to the Restriction Termination Date, any Transfer that, if effective, would result in the Equity Shares being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution) shall be void ab initio as to the Transfer of that number of shares that would be otherwise beneficially owned (determined without reference to any rules of attribution) by the transferee, and the intended transferee shall acquire no rights in such excess Equity Shares. (4) Subject to Section 1(G) and 1(H) hereof, from the date of the Initial Public Offering and prior to the Restriction Termination Date, any Transfer of Equity Shares that, if effective, would result in the Trust being "closely held" within the meaning of Section 856(h) of the Code shall be void ab initio as to the Transfer of that number of Equity Shares that would cause the Trust to be "closely held" within the meaning of Section 856(h) of the Code, and the intended transferee shall acquire no rights in such excess Equity Shares; provided, however, that this Section 1(B)(4) shall not apply to the Transfer of Equity Shares from the Trust to the underwriters of the Initial Public Offering. (5) Except as provided in Section 1(G) hereof and subject to Section 1(H) hereof, from the date of the Initial Public Offering and prior to the Restriction Termination Date, any Transfer of Equity Shares that, if effective, would cause the Trust to Constructively Own 10% or more of the ownership interests in a tenant of the Trust's or the Partnership's real property, -24- within the meaning of Section 856(d)(2)(B) of the Code, shall be void ab initio as to the Transfer of that number of Equity Shares that would cause the Trust to Constructively Own 10% or more of the ownership interests in a tenant of the Trust's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, and the intended transferee shall acquire no rights in such excess Equity Shares. (C) Transfer to Share Trust. (1) If, notwithstanding the other provisions contained in this Section 1, at any time after the date of the Initial Public Offering and prior to the Restriction Termination Date, there is a purported Transfer or Non-Transfer Event such that any Person would either Beneficially Own or Constructively Own Equity Shares in excess of the Ownership Limit, then (x) except as otherwise provided in Section 1(G) hereof, the purported transferee shall acquire no right or interest (or, in the case of a Non-Transfer Event, the person holding record title to the Equity Shares Beneficially Owned or Constructively Owned by such Beneficial Owner or Constructive Owner, shall cease to own any right or interest) in such number of Equity Shares that would cause such Beneficial Owner or Constructive Owner to Beneficially Own or Constructively Own Equity Shares in excess of the Ownership Limit, (y) such number of Equity Shares in excess of the Ownership Limit (rounded up to the nearest whole share) shall be designated Shares-in-Trust and, in accordance with the provisions of Section 2 hereof, transferred automatically and by operation of law to a Share Trust to be held in accordance with that Section 2, and (z) the Prohibited Owner shall submit such number of Equity Shares to the Trust for registration in the name of the Share Trust. Such transfer to a Share Trust and the designation of shares as Shares-in-Trust shall be -25- effective as of the close of business on the business day prior to the date of the Transfer or Non-Transfer Event, as the case may be. (2) If, notwithstanding the other provisions contained in this Section 1, at any time after the date of the Initial Public Offering and prior to the Restriction Termination Date, there is a purported Transfer or Non-Transfer Event that, if effective, would (i) result in the Equity Shares being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (ii) result in the Trust being "closely held" within the meaning of Section 856(h) of the Code, or (iii) cause the Trust to Constructively Own 10% or more of the ownership interests in a tenant of the Trust's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, then (x) the purported transferee shall not acquire any right or interest (or, in the case of a Non-Transfer Event, the person holding record title of the Equity Shares with respect to which such Non-Transfer Event occurred, shall cease to own any right or interest) in such number of Equity Shares, the ownership of which by such purported transferee or record holder would (A) result in the Equity Shares being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (B) result in the Trust being "closely held" within the meaning of Section 856(h) of the Code or (C) cause the Trust to Constructively Own 10% or more of the ownership interests in a tenant of the Trust's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, (y) such number of Equity Shares (rounded up to the nearest whole share) shall be designated Shares-in-Trust and, in accordance with the provisions of Section 2 hereof, transferred automatically and by operation of law to the Share Trust to be held in accordance with that Section 2 and (z) the Prohibited Owner -26- shall submit such number of Equity Shares to the Trust for registration in the name of the Share Trust. Such transfer to a Share Trust and the designation of shares as Shares-in-Trust shall be effective as of the close of business on the business day prior to the date of the Transfer or Non-Transfer Event, as the case may be. (D) Remedies For Breach. If the Trust, or its designees, shall at any time determine in good faith that a Transfer has taken place in violation of Section 1(B) hereof or that a Person intends to acquire or has attempted to acquire Beneficial Ownership or Constructive Ownership of any Equity Shares in violation of Section 1(B) hereof, the Trust shall take such action as it deems advisable to refuse to give effect to or to prevent such Transfer or acquisition, including, but not limited to, refusing to give effect to such Transfer on the books of the Trust or instituting proceedings to enjoin such Transfer or acquisition. (E) Notice of Restricted Transfer. Any Person who acquires or attempts to acquire Equity Shares in violation of Section 1(B) hereof, or any Person who owned Equity Shares that were transferred to the Share Trust pursuant to the provisions of Section 1(C) hereof, shall immediately give written notice to the Trust of such event and shall provide to the Trust such other information as the Trust may request in order to determine the effect, if any, of such Transfer or Non-Transfer Event, as the case may be, on the Trust's status as a REIT. (F) Owners Required To Provide Information. From the date of the Initial Public Offering and prior to the Restriction Termination Date: (1) Every Beneficial Owner or Constructive Owner of more than 5%, or such lower percentages as required pursuant to regulations under the Code, of the outstanding -27- Equity Shares of the Trust shall, within 30 days after December 31 of each year, provide to the Trust a written statement or affidavit stating the name and address of such Beneficial Owner or Constructive Owner, the number of Equity Shares Beneficially Owned or Constructively Owned, and a description of how such shares are held. Each such Beneficial Owner or Constructive Owner shall provide to the Trust such additional information as the Trust may request in order to determine the effect, if any, of such Beneficial Ownership or Constructive Ownership on the Trust's status as a REIT and to ensure compliance with the Ownership Limit. (2) Each Person who is a Beneficial Owner or Constructive Owner of Equity Shares and each Person (including the shareholder of record) who is holding Equity Shares for a Beneficial Owner or Constructive Owner shall provide to the Trust a written statement or affidavit stating such information as the Trust may request in order to determine the Trust's status as a REIT and to ensure compliance with the Ownership Limit. (G) Exception to Ownership Limit. The Ownership Limit shall not apply to the acquisition of Equity Shares by an underwriter that participates in a public offering of such shares, for a period of 90 days following the purchase by such underwriter of such shares. In addition, the Board of Trustees, upon receipt of advice of counsel or other evidence satisfactory to the Board of Trustees, in its sole and absolute discretion, in each case to the effect that the restrictions contained in Sections 1(B)(3), (4) and (5) hereof will not be violated and that REIT status will not otherwise be lost, may, in its sole and absolute discretion, exempt a Person from the Ownership Limit if such Person is not an individual for purposes of Section 542(a)(2) of the Code, provided that (i) the Board of Trustees obtains such representations and undertakings from such Person as are -28- reasonably necessary to ascertain that no individual's Beneficial Ownership or Constructive Ownership of Equity Shares will violate the Ownership Limit as a result of the exemption and (ii) such Person agrees that any violation or attempted violation of the terms of the exemption will result in a transfer to the Share Trust of Equity Shares pursuant to Section 1(C) hereof. (H) New York Stock Exchange Transactions. Notwithstanding any provision contained herein to the contrary, nothing in this Declaration of Trust shall preclude the settlement of any transaction entered into through the facilities of the New York Stock Exchange. The fact that the settlement of any transaction occurs shall not negate the effect of any other provision of this Article VII and any transferee in such a transaction shall be subject to all of the provisions and limitations set forth in this Article VII. Section 2. Shares-in-Trust. (A) Share Trust. Any Equity Shares transferred to a Share Trust and designated Shares-in-Trust pursuant to Section 1(C) hereof shall be held for the exclusive benefit of a Beneficiary. The Trust shall name a Beneficiary of each Share Trust within five days after discovery of the existence thereof. Any transfer to a Share Trust, and subsequent designation of Equity Shares as Shares-in-Trust, pursuant to Section 1(C) hereof shall be effective as of the close of business on the business day prior to the date of the Transfer or Non-Transfer Event that results in the transfer to the Share Trust. Shares-in-Trust shall remain issued and outstanding Equity Shares of the Trust and shall be entitled to the same rights and privileges on identical terms and conditions as are all other issued and outstanding Equity Shares of the same class and series. When transferred to a Permitted Transferee in accordance with the provisions of Section 2(E) hereof, such -29- Shares-in-Trust shall cease to be designated as Shares-in-Trust. (B) Dividend Rights. The Share Trust, as record holder of Shares-in-Trust, shall be entitled to receive all dividends and distributions as may be declared by the Board of Trustees on such Equity Shares and shall hold such dividends or distributions in trust for the benefit of the Beneficiary. The Prohibited Owner with respect to Shares-in-Trust shall repay to the Share Trust the amount of any dividends or distributions received by it that (i) are attributable to any Equity Shares designated Shares-in-Trust and (ii) the record date for which was on or after the date that such shares became Shares-in-Trust. The Trust shall take all measures that it determines reasonably necessary to recover the amount of any such dividend or distribution paid to a Prohibited Owner, including, if necessary, withholding any portion of future dividends or distributions payable on Equity Shares Beneficially Owned or Constructively Owned by the Person who, but for the provisions of Section 1(C) hereof, would Constructively Own or Beneficially Own the Shares-in-Trust; and, as soon as reasonably practicable following the Trust's receipt or withholding thereof, shall pay over to the Share Trust for the benefit of the Beneficiary the dividends so received or withheld, as the case may be. (C) Rights Upon Liquidation. In the event of any voluntary or involuntary liquidation, dissolution or winding up of, or any distribution of the assets of, the Trust, each holder of Shares-in-Trust shall be entitled to receive, ratably with each other holder of Equity Shares of the same class or series, that portion of the assets of the Trust that is available for distribution to the holders of such class and series of Equity Shares. The Share Trust shall distribute to the Prohibited Owner the amounts received upon such liquidation, dissolution or winding up, or distribution; -30- provided, however, that the Prohibited Owner shall not be entitled to receive amounts pursuant to this Section 2(C) in excess of (i) in the case of a purported Transfer in which the Prohibited Owner gave value for Equity Shares and which Transfer resulted in the transfer of the shares to the Share Trust, the price per share, if any, such Prohibited Owner paid for the Equity Shares and (ii) in the case of a Non-Transfer Event or Transfer in which the Prohibited Owner did not give value for such shares (e.g., if the shares were received through a gift or devise) and which Non-Transfer Event or Transfer, as the case may be, resulted in the transfer of shares to the Share Trust, the price per share equal to the Market Price on the date of such Non-Transfer Event or Transfer. Any remaining amount in such Share Trust shall be distributed to the Beneficiary. (D) Voting Rights. The Share Trustee shall be entitled to vote all Shares-in-Trust. Any vote by a Prohibited Owner as a holder of Equity Shares prior to the discovery by the Trust that the Equity Shares are Shares-in-Trust shall, subject to Maryland law, be rescinded and shall be void ab initio with respect to such Shares-in-Trust and the Prohibited Owner shall be deemed to have given, as of the close of business on the business day prior to the date of the purported Transfer or Non-Transfer Event that results in the transfer to the Share Trust of Equity Shares under Section 1(C) hereof, an irrevocable proxy to the Share Trustee to vote the Shares-in-Trust in the manner in which the Share Trustee, in its sole and absolute discretion, desires; provided, however, that if the Trust has already taken irreversible trust action, the Share Trustee shall not have the authority to rescind and recast such vote. (E) Designation of Permitted Transferee. The Share Trustee shall have the exclusive and absolute right to designate a Permitted Transferee of any and all Shares-in-Trust. In -31- an orderly fashion so as not to materially adversely affect the Market Price of the Shares-in-Trust, the Share Trustee shall designate any Person as Permitted Transferee, provided, however, that (i) the Permitted Transferee so designated purchases for valuable consideration (whether in a public or private sale), at a price as set forth in Section 2(G) hereof, the Shares-in-Trust and (ii) the Permitted Transferee so designated may acquire such Shares-in-Trust without such acquisition resulting in a transfer to a Share Trust and the redesignation of such Equity Shares so acquired as Shares-in-Trust under Section 1(C) hereof. Upon the designation by the Share Trustee of a Permitted Transferee in accordance with the provisions of this Section 2(E), the Share Trustee shall (i) cause to be transferred to the Permitted Transferee that number of Shares-in-Trust acquired by the Permitted Transferee, (ii) cause to be recorded on the books of the Trust that the Permitted Transferee is the holder of record of such number of Equity Shares, (iii) cause the Shares-in-Trust to be canceled and (iv) distribute to the Beneficiary any and all amounts held with respect to the Shares-in-Trust after making the payment to the Prohibited Owner pursuant to Section 2(F) hereof. (F) Compensation to Record Holder of Equity Shares that Become Shares-in-Trust. Any Prohibited Owner shall be entitled (following discovery of the Shares-in-Trust and subsequent designation of the Permitted Transferee in accordance with Section 2(E) hereof or following the acceptance of the offer to purchase such shares in accordance with Section 2(G) hereof) to receive from the Share Trustee following the sale or other disposition of such Shares-in-Trust the lesser of (i) in the case of (a) a purported Transfer in which the Prohibited Owner gave value for Equity Shares and which Transfer resulted in the transfer of the shares to the Share Trust, the price per share, if any, such Prohibited Owner paid for the Equity Shares, or (b) a Non-Transfer Event or -32- Transfer in which the Prohibited Owner did not give value for such shares (e.g., if the shares were received through a gift or devise) and which Non-Transfer Event or Transfer, as the case may be, resulted in the transfer of shares to the Share Trust, the price per share equal to the Market Price on the date of such Non-Transfer Event or Transfer and (ii) the price per share received by the Share Trustee from the sale or other disposition of such Shares-in-Trust in accordance with Section 2(E) hereof. Any amounts received by the Share Trustee in respect of such Shares-in-Trust and in excess of such amounts to be paid the Prohibited Owner pursuant to this Section 2(F) shall be distributed to the Beneficiary in accordance with the provisions of Section 2(E) hereof. Each Beneficiary and Prohibited Owner waive any and all claims that they may have against the Share Trustee and the Share Trust arising out of the disposition of Shares-in-Trust, except for claims arising out of the gross negligence or willful misconduct of, or any failure to make payments in accordance with this Section 2 by, such Share Trustee or the Trust. (G) Purchase Right in Shares-in-Trust. Shares-in-Trust shall be deemed to have been offered for sale to the Trust, or its designee, at a price per share equal to the lesser of (i) the price per share in the transaction that created such Shares-in-Trust (or, in the case of devise, gift or Non-Transfer Event, the Market Price at the time of such devise, gift or Non-Transfer Event) and (ii) the Market Price on the date the Trust, or its designee, accepts such offer. The Trust shall have the right to accept such offer for a period of ninety days after the later of (i) the date of the Non-Transfer Event or purported Transfer that resulted in such Shares-in-Trust and (ii) the date the Trust determines in good faith that a Transfer or Non-Transfer Event resulting in Shares-in-Trust has occurred, if the Trust does not receive a notice of such Transfer or Non-Transfer Event pursuant to -33- Section 1(E) hereof. Section 3. Remedies Not Limited. Subject to Section 1(H) hereof, nothing contained in this Article VII shall limit the authority of the Trust to take such other action as it deems necessary or advisable to protect the Trust and the interests of its shareholders by preservation of the Trust's status as a REIT and to ensure compliance with the Ownership Limit. Section 4. Ambiguity. In the case of an ambiguity in the application of any of the provisions of Article VII, including any definition contained in Section 1(A) hereof, the Board of Trustees shall have the power to determine the application of the provisions of this Article VII with respect to any situation based on the facts known to it. Section 5. Legend. Each certificate for Equity Shares shall bear substantially the following legend: "The [Common or Preferred] Shares evidenced by this certificate are subject to restrictions on transfer. Subject to certain further restrictions and except as provided in the Declaration of Trust of the Trust, no Person may (i) Beneficially or Constructively Own Common Shares in excess of 9.9% of the number of outstanding Common Shares, (ii) Beneficially or Constructively Own Preferred Shares of any class or series of Preferred Shares in excess of 9.9% of the number of outstanding Preferred Shares of such class or series, (iii) Beneficially Own Equity Shares that would result in the Equity Shares being beneficially owned by fewer than 100 Persons (determined without reference to any rules of attribution), (iv) Beneficially Own Equity Shares that would result in the Trust being "closely held" under Section 856(h) of the Internal Revenue Code of 1986, as amended (the "Code"), or (v) Constructively Own Equity Shares that would cause the -34- Trust to Constructively Own 10% or more of the ownership interests in a tenant of the Trust's or the Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code. Any Person who attempts to Beneficially or Constructively Own shares of Equity Shares in excess of the above limitations must immediately notify the Trust in writing. If any restrictions above are violated, the Equity Shares evidenced hereby will be transferred automatically to a Share Trust and shall be designated Shares-in-Trust to a trustee of a trust for the benefit of one or more charitable beneficiaries. In addition, upon the occurrence of certain events, attempted transfers in violation of the restrictions described above may be void ab initio. All capitalized terms in this legend have the meanings defined in the Trust's Declaration of Trust, as the same may be further amended from time to time, a copy of which, including the restrictions on transfer, will be sent without charge to each shareholder who so requests. Such requests must be made to the Secretary of the Trust at its principal office or to the transfer agent." In place of the foregoing legend, the certificate may state that the Trust will furnish a full statement about certain restrictions or transferability to a shareholder on request and without charge. Section 6. Severability. If any provision of this Article VII or any application of any such provision is determined to be invalid by any federal or state court having jurisdiction over the issues, the validity of the remaining provisions shall not be affected and other applications of such provision shall be affected only to the extent necessary to comply with the determination of such court. Section 7. Non-Waiver. No delay or failure on the part of the Trust or the Board of Trustees in exercising any right hereunder shall operate as a waiver of any right of the Trust or -35- the Board of Trustees, as the case may be, except to the extent specifically waived in writing. ARTICLE VIII SHAREHOLDERS Section 1. Meetings. There shall be an annual meeting of the shareholders, to be held on proper notice at such time (after the delivery of the annual report) and convenient location as shall be determined by or in the manner prescribed in the Bylaws, for the election of the Trustees, if required, and for the transaction of any other business within the powers of the Trust. If there are no Trustees, the officers of the Trust shall promptly call a special meeting of the shareholders entitled to vote for the election of successor Trustees. Any meeting may be adjourned and reconvened as the Trustees determine or as provided in the Bylaws. Section 2. Voting Rights. Subject to the provisions of any class or series of Shares then outstanding, the shareholders shall be entitled to vote only on the following matters: (a) termination of REIT status as provided in Article V, Section (1)(C), (b) election of Trustees as provided in Article V, Section 2(A) and the removal of Trustees as provided in Article V, Section 3; (c) amendment of the Declaration of Trust as provided in Article X; (d) termination of the Trust as provided in Article XII, Section 2; (e) merger or consolidation of the Trust, or the sale or disposition of substantially all of the Trust Property (as hereinafter defined), as provided in Article XI; and (f) such other matters with respect to which a vote of the shareholders is required by applicable law or the Board of Trustees has adopted a resolution declaring that a proposed action is advisable and directing that the matter be submitted to the shareholders for approval or ratification. Except with respect to the foregoing matters, no action taken by the shareholders at any meeting -36- shall in any way bind the Board of Trustees. Section 3. Preemptive and Appraisal Rights. Except as may be provided by the Board of Trustees in setting the terms of classified or reclassified Shares pursuant to Article VI, Section 4 or as otherwise may be provided by contract, no holder of Shares shall, as such holder, (a) have any preemptive or preferential right to purchase or subscribe for any additional Shares of the Trust or any other security of the Trust that it may issue or sell or (b), except as expressly required by Title 8, have any right to require the Trust to pay him the fair value of his Shares in an appraisal or similar proceeding. Section 4. Extraordinary Actions. Except as specifically provided in Article V, Sections 1(C) and 3, Article X, Section 3 and Article XII, Section 2 of this Declaration of Trust, notwithstanding any provision of law permitting or requiring action to be taken or authorized by the affirmative vote of the holders of a greater number of votes, any such action shall be effective and valid if taken or approved by the affirmative vote of holders of Shares entitled to cast a majority of all of the votes entitled to be cast on the matter. Section 5. Board Approval. The submission of any action to the shareholders for their consideration shall first be approved as advised by the Board of Trustees. Section 6. Action By Shareholders Without a Meeting. The Bylaws may provide that any action required or permitted to be taken by the shareholders may be taken without a meeting by the written consent of the shareholders entitled to cast a sufficient number of votes to approve the matter as required by statute, the Declaration of Trust or the Bylaws, as the case may be. -37- ARTICLE IX LIABILITY LIMITATION, INDEMNIFICATION AND TRANSACTIONS WITH THE TRUST Section 1. Limitation of Shareholder Liability. No shareholder shall be liable for any debt, claim, demand, judgment or obligation of any kind of, against or with respect to the Trust by reason of his being a shareholder, nor shall any shareholder be subject to any personal liability whatsoever, in tort, contract or otherwise, to any person in connection with the property or the affairs of the Trust by reason of his being a shareholder. Section 2. Limitation of Trustee and Officer Liability. To the maximum extent that Maryland law in effect from time to time permits limitation of the liability of trustees and officers of a REIT, no Trustee or officer of the Trust shall be liable to the Trust or to any shareholder for money damages. Neither the amendment nor repeal of this Section, nor the adoption or amendment of any other provision of the Declaration of Trust or Bylaws inconsistent with this Section, shall apply to or affect in any respect the applicability of the preceding sentence with respect to any act or failure to act that occurred prior to such amendment, repeal or adoption. In the absence of any Maryland statute limiting the liability of trustees and officers of a Maryland REIT for money damages in a suit by or on behalf of the Trust or by any shareholder, no Trustee or officer of the Trust shall be liable to the Trust or to any shareholder for money damages except to the extent that (a) the Trustee or officer actually received an improper benefit or profit in money, property or services, for the amount of the benefit or profit in money, property or services actually received; or (b) a judgment or other final adjudication adverse to the Trustee or officer is entered in a proceeding based on a finding in the proceeding that the Trustee's or officer's action or failure to act was the -38- result of active and deliberate dishonesty and was material to the cause of action adjudicated in the proceeding. Section 3. Express Exculpatory Clauses in Instruments. Neither the shareholders nor the Trustees, officers, employees or agents of the Trust shall be liable under any written instrument creating an obligation of the Trust, and all Persons shall look solely to the Trust Property for the payment of any claim under or for the performance of that instrument. The omission of the foregoing exculpatory language from any instrument shall not affect the validity or enforceability of such instrument and shall not render any Shareholder, Trustee, officer, employee or agent liable thereunder to any third party, nor shall the Trustees or any officer, employee or agent of the Trust be liable to anyone for such omission. As used in this Declaration of Trust, "Trust Property" means any and all property, real, personal or otherwise, tangible or intangible, which is transferred or conveyed to the Trust or the Trustees (including all rents, income, profits and gains therefrom), which is owned or held by, or for the account of, the Trust or the Trustees. Section 4. Indemnification. The Trust shall have the power, to the maximum extent permitted by Maryland law in effect from time to time, to obligate itself to indemnify, and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to, (a) any individual who is a present or former shareholder, Trustee or officer of the Trust or (b) any individual who, while a Trustee of the Trust and at the request of the Trust, serves or has served as a director, officer, partner, trustee, employee or agent of another corporation, partnership, joint venture, trust, real estate investment trust, employee benefit plan or other enterprise from and against any claim or liability to which such person may become subject or which such person may incur by reason of -39- his status as a present or former shareholder, Trustee or officer of the Trust. The Trust shall have the power, with the approval of its Board of Trustees, to provide such indemnification and advancement of expenses to a person who served as a predecessor of the Trust in any of the capacities described in (a) or (b) above, and to any employee or agent of the Trust or a predecessor of the Trust. Section 5. Transactions Between the Trust and its Trustees, Officers, Employees and Agents. Subject to any express restrictions in the Declaration of Trust or adopted by the Trustees in the Bylaws or by resolution, the Trust may enter into any contract or transaction of any kind with any person, including any Trustee, officer, employee or agent of the Trust or any person affiliated with a Trustee, officer, employee or agent of the Trust, whether or not any of them has a financial interest in such transaction. ARTICLE X AMENDMENTS Section 1. General. The Trust reserves the right from time to time to make any amendment to the Declaration of Trust, now or hereafter authorized by law, including any amendment altering the terms or contract rights, as expressly set forth in the Declaration of Trust, of any Shares. All rights and powers conferred by this Declaration of Trust on shareholders, Trustees and officers are granted subject to this reservation. An amendment to the Declaration of Trust (a) shall be signed and acknowledged by at least a majority of the Trustees or an officer duly authorized by at least a majority of the Trustees, (b) shall be filed for record with SDAT as provided in Article XIII, Section 5 and (c) shall become effective as of the later of the time the SDAT accepts -40- the amendment for record or the time established in the amendment, not to exceed 30 days after the amendment is accepted for record. All references to the Declaration of Trust shall include all amendments thereto. Section 2. By Trustees. The Trustees by a majority vote may amend the Declaration of Trust from time to time in the manner provided by Title 8, without any action by the shareholders, to qualify as a REIT under the Code or under Title 8. Section 3. By Shareholders. Other than amendments pursuant to Section 2 of this Article X and Section 1 of Article VI, any amendment to the Declaration of Trust shall be valid only if approved by the affirmative vote of at least a majority of all the votes entitled to be cast on the matter, except that any amendment to Article V, Article VII, Article X, Sections 2 and 3 and Article XII, Section 2 of this Declaration of Trust shall be valid only if approved by the affirmative vote of two-thirds of all the votes entitled to be cast on the matter; but in each case only after due authorization, advice and approval of the Board of Trustees. ARTICLE XI MERGER, CONSOLIDATION OR SALE OF TRUST PROPERTY Subject to the provisions of any class or series of Shares at the time outstanding, the Trust may (a) merge the Trust into another entity, (b) consolidate the Trust with one or more other entities into a new entity or (c) sell, lease, exchange or otherwise transfer all or substantially all of the Trust Property. Any such action must be approved as advised by the Board of Trustees and, after notice to all shareholders entitled to vote on the matter, by the affirmative vote of a majority of all the votes entitled to be cast on the matter, except where approval of the shareholders is not -41- required by Title 8 or would not be required by the Maryland General Corporation Law if the Trust were a Maryland corporation. ARTICLE XII DURATION AND TERMINATION OF TRUST Section 1. Duration. The Trust shall continue perpetually unless terminated pursuant to Section 2 of this Article XII or pursuant to any applicable provision of Title 8. Section 2. Termination. (a) Subject to the provision of any class or series of Shares at the time outstanding, the Trust may be terminated at any meeting of shareholders, by the affirmative vote of two thirds of all the votes entitled to be cast on the matter, after due authorization, advice and approval thereof by a majority of the entire Board of Trustees. Upon the termination of the Trust: (i) The Trust shall carry on no business except for the purpose of winding up its affairs. (ii) The Trustees shall proceed to wind up the affairs of the Trust and all of the powers of the Trustees under the Declaration of Trust shall continue, including the powers to fulfill or discharge the Trust's contracts, collect its assets, sell, convey, assign, exchange, transfer or otherwise dispose of all or any part of the remaining Trust Property to one or more persons at public or private sale for consideration that may consist in whole or in part of cash, securities or other property of any kind, discharge or pay its liabilities and do all other acts appropriate to liquidate its business. (iii) After paying or adequately providing for the payment of all -42- liabilities, and upon receipt of such releases, indemnities and agreements as it deems necessary for its protection, the Trust may distribute the remaining Trust Property among the shareholders so that after payment in full or the setting apart for payment of such preferential amounts, if any, to which the holders of any Shares at the time outstanding shall be entitled, the remaining Trust Property shall, subject to any participating or similar rights of Shares at the time outstanding, be distributed ratably among the holders of Common Shares at the time outstanding. (b) After termination of the Trust, the liquidation of its business and the distribution to the shareholders as herein provided, a majority of the Trustees shall execute and file with the Trust's records a document certifying that the Trust has been duly terminated, and the Trustees shall be discharged from all liabilities and duties hereunder, and the rights and interests of all shareholders shall cease. ARTICLE XIII MISCELLANEOUS Section 1. Governing Law. The Declaration of Trust is executed by the undersigned Trustees and delivered in the State of Maryland with reference to the laws thereof, and the rights of all parties and the validity, construction and effect of every provision hereof shall be subject to and construed according to the laws of the State of Maryland without regard to conflicts of laws provisions thereof. Section 2. Reliance by Third Parties. Any certificate shall be final and conclusive as to any person dealing with the Trust if executed by the Secretary or an Assistant Secretary of the Trust or a Trustee, and if certifying to: (a) the number or identity of Trustees, officers of the Trust or -43- shareholders; (b) the due authorization of the execution of any document; (c) the action or vote taken, and the existence of a quorum, at a meeting of the Board of Trustees or shareholders; (d) a copy of the Declaration of Trust or of the Bylaws as a true and complete copy as then in force; (e) an amendment to the Declaration of Trust; (f) the termination of the Trust; or (g) the existence of any fact relating to the affairs of the Trust. No purchaser, lender, transfer agent or other person shall be bound to make any inquiry concerning the validity of any transaction purporting to be made by the Trust on its behalf or by any officer, employee or agent of the Trust. Section 3. Severability. (A) The provisions of the Declaration of Trust are severable, and if the Board of Trustees shall determine, with the advice of counsel, that any one or more of such provisions (the "Conflicting Provisions") are in conflict with the Code, Title 8 or other applicable federal or state laws, the Conflicting Provisions, to the extent of the conflict, shall be deemed never to have constituted a part of the Declaration of Trust, even without any amendment of the Declaration of Trust pursuant to Article X and without affecting or impairing any of the remaining provisions of the Declaration of Trust or rendering invalid or improper any action taken or omitted prior to such determination. No Trustee shall be liable for making or failing to make such a determination. In the event of any such determination by the Board of Trustees, the Board shall amend the Declaration of Trust in the manner provided in Article X, Section 2. (B) If any provision of the Declaration of Trust shall be held invalid or unenforceable in any jurisdiction, such holding shall apply only to the extent of any such invalidity or unenforceability and shall not in any manner affect, impair or render invalid or unenforceable -44- such provision in any other jurisdiction or any other provision of the Declaration of Trust in any jurisdiction. Section 4. Construction. In the Declaration of Trust, unless the context otherwise requires, words used in the singular or in the plural include both the plural and singular and words denoting any gender include all genders. The title and headings of different parts are inserted for convenience and shall not affect the meaning, construction or effect of the Declaration of Trust. In defining or interpreting the powers and duties of the Trust and its Trustees and officers, reference may be made by the Trustees or officers, to the extent appropriate and not inconsistent with the Code or Title 8, to Titles 1 through 3 of the Corporations and Associations Article of the Annotated Code of Maryland. In furtherance and not in limitation of the foregoing, in accordance with the provisions of Title 3, Subtitles 6 and 7, of the Corporations and Associations Article of the Annotated Code of Maryland, the Trust shall be included within the definition of "corporation" for purposes of such provisions. Section 5. Recordation. The Declaration of Trust and any amendment hereto shall be filed for record with the SDAT and may also be filed or recorded in such other places as the Trustees deem appropriate, but failure to file for record the Declaration of Trust or any amendment hereto in any office other than in the State of Maryland shall not affect or impair the validity or effectiveness of the Declaration of Trust or any part thereof. A restated Declaration of Trust shall, upon filing, be conclusive evidence of all amendments contained therein and may thereafter be referred to in lieu of the original Declaration of Trust and the various amendments thereto. SECOND: These Articles of Amendment and Restatement have been duly adopted by -45- the Board of Trustees and approved by the Shareholders of the Trust as required by law. THIRD: The total number of shares of beneficial interest which the Trust had authority to issue immediately prior to the filing of these Articles of Amendment and Restatement was 1,000, all of which were common shares of beneficial interest, par value $.01 per share. The aggregate par value of all shares of beneficial interest having par value was $10.00. The total number of shares of beneficial interest which the Trust has authority to issue pursuant to these Articles of Amendment and Restatement is 110,000,000, consisting of 100,000,000 common shares of beneficial interest, par value $.01 per share and 10,000,000 of preferred shares of beneficial interest, par value $.01 per share. The aggregate par value of all authorized shares of beneficial interest having par value is $110,000,000. FOURTH: The undersigned Chairman of the Board of Trustees and Chief Executive Officer acknowledges these Articles of Amendment and Restatement to be the trust act of the Trust and, as to all matters or facts required to be verified under oath, the undersigned Chairman of the Board of Trustees and Chief Executive Officer acknowledges that, to the best of his knowledge, information and belief, these matters are true in all material respects and that this statement is made under the penalties for perjury. IN WITNESS WHEREOF, the Trust has caused these Articles of Amendment and Restatement to be signed in its name and on its behalf by its Chairman of the Board of Trustees and Chief Executive Officer, and attest to by its Secretary, on this ____ day of _________, 1998. -46- HERSHA HOSPITALITY TRUST ATTEST: ______________________________ ____________________________________ Secretary Hasu P. Shah Chairman of the Board of Trustees and Chief Executive Officer -47- EX-8 3 EXHIBIT 8.1 December 7, 1998 Hersha Hospitality Trust 148 Sheraton Drive, Box A New Cumberland, Pennsylvania 17070 Hersha Hospitality Trust Qualification as Real Estate Investment Trust Ladies and Gentlemen: We have acted as counsel to Hersha Hospitality Trust, a Maryland real estate investment trust (the "Company"), in connection with (i) the preparation of a Form S-11 registration statement (the "Registration Statement") filed with the Securities and Exchange Commission ("SEC") on June 4, 1998 (No. 333-56087), as amended through the date hereof, with respect to the offering and sale (the "Offering") of 2,275,000 Priority Class A common shares of beneficial interest, par value $0.01 per share, of the Company (the "Priority Common Shares") and (ii) the Company's contribution of the net proceeds of the Offering to Hersha Hospitality Limited Partnership, L.P., a Virginia limited partnership (the "Operating Partnership"), in exchange for a general partnership interest in the Operating Partnership. You have requested our opinion regarding certain U.S. federal income tax matters in connection with the Offering. The Company has contracted to acquire, through the Operating Partnership, interests in ten hotels and associated personal property (the "Hotels"). Upon the acquisition of the Hotels, four of the Hotels will be owned by the Operating Partnership and eight of the Hotels will be owned by the following subsidiary partnerships (the "Subsidiary Partnerships"): (i) 1244 Associates, a Pennsylvania limited partnership, (ii) 1444 Associates, a Pennsylvania limited partnership, (iii) 1644 Associates, a Pennsylvania limited partnership, (iv) 844 Associates, a Pennsylvania limited partnership, (v) 944 Associates, a Pennsylvania limited partnership, and (vi) MEPS Associates, a Pennsylvania limited partnership. Hersha Hospitality, LLC, a wholly-owned subsidiary of the Operating Partnership ("Hersha LLC"), is the general partner, and the Operating Partnership is the limited partner, of each Subsidiary Partnership. The Operating Partnership and the Subsidiary Partnerships plan to lease the Hotels to Hersha Hospitality Management, L.P., a Pennsylvania limited partnership (the "Lessee"), pursuant to substantially similar operating lease agreements (the "Leases"). In giving this opinion letter, we have examined the following: 1. the Company's Amended and Restated Declaration of Trust, in the form filed as an exhibit to the Registration Statement; 2. the Company's Bylaws, in the form filed as an exhibit to the Registration Statement; 3. the Registration Statement, including the prospectus contained as part thereof (the "Prospectus"); 4. the Agreement of Limited Partnership of the Operating Partnership, dated May 27, 1998, between the Company, as general partner, and Hasu P. Shah, as limited partner; 5. the Amended and Restated Agreement of Limited Partnership of the Operating Partnership (the "Operating Partnership Agreement") among the Company, as general partner, and several limited partners, in the form filed as an exhibit to the Registration Statement; 6. the Amended and Restated Limited Partnership Agreement of 1244 Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 7. the Amended and Restated Limited Partnership Agreement of 1444 Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 8. the Amended and Restated Limited Partnership Agreement of 1644 Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 9. the Amended and Restated Limited Partnership Agreement of 844 Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 10. the Amended and Restated Limited Partnership Agreement of 944 Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 11. the Amended and Restated Limited Partnership Agreement of MEPS Associates between Hersha LLC, as general partner, and the Operating Partnership, as limited partner, in the form to be executed at closing; 12. the Form of Lease between the Operating Partnership and the Lessee, in the form filed as an exhibit to the Registration Statement; 13. the Form of Administrative Services Agreement between the Company and the Lessee in the form filed as an exhibit to the Registration Statement; and 14. such other documents as we have deemed necessary or appropriate for purposes of this opinion. In connection with the opinions rendered below, we have assumed, with your consent, that: 1. each of the documents referred to above has been duly authorized, executed, and delivered; is authentic, if an original, or is accurate, if a copy; and has not been amended; 2. during its short taxable year ending December 31, 1998 and future taxable years, the Company will operate in a manner that will make the representations contained in a certificate, dated November 30, 1998 and executed by a duly appointed officer of the Company (the "Officer's Certificate"), true for such years; 3. the Company will not make any amendments to its organizational documents, the Operating Partnership Agreement, or the partnership agreements of the Subsidiary Partnerships (the "Subsidiary Partnership Agreements") after the date of this opinion that would affect its qualification as a real estate investment trust (a "REIT") for any taxable year; 4. each partner of the Operating Partnership (a "Partner") that is a corporation or other entity has a valid legal existence; 5. each Partner has full power, authority, and legal right to enter into and to perform the terms of the Operating Partnership Agreement and the transactions contemplated thereby; and 6. no action will be taken by the Company, the Operating Partnership, the Subsidiary Partnerships, or the Partners after the date hereof that would have the effect of altering the facts upon which the opinions set forth below are based. In connection with the opinions rendered below, we also have relied upon the correctness of the representations contained in the Officer's Certificate. Furthermore, where such factual representations involve matters of law, we have explained to the Company's representatives the relevant and material sections of the Internal Revenue Code of 1986, as amended (the "Code"), the Treasury regulations thereunder (the "Regulations"), published rulings of the Internal Revenue Service (the "Service"), and other relevant authority to which such representations relate and are satisfied that the Company's representatives understand such provisions and are capable of making such representations. Based on the documents and assumptions set forth above, the representations set forth in the Officer's Certificate, and the discussion in the Prospectus under the caption "Federal Income Tax Consequences" (which is incorporated herein by reference), we are of the opinion that: (a) commencing with the Company's short taxable year beginning on the day before the closing of the Offering and ending December 31, 1998, the Company will qualify to be taxed as a REIT pursuant to sections 856 through 860 of the Code, and the Company's organization and proposed method of operation will enable it to continue to meet the requirements for qualification and taxation as a REIT under the Code; (b) the descriptions of the law and the legal conclusions contained in the Prospectus under the caption "Federal Income Tax Consequences" are correct in all material respects, and the discussion thereunder fairly summarizes the federal income tax considerations that are likely to be material to a holder of the Priority Common Shares; and (c) the Operating Partnership will be treated for federal income tax purposes as a partnership and not as a corporation or an association taxable as a corporation or as a publicly traded partnership. We will not review on a continuing basis the Company's compliance with the documents or assumptions set forth above, or the representations set forth in the Officer's Certificate. Accordingly, no assurance can be given that the actual results of the Company's operations for any given taxable year will satisfy the requirements for qualification and taxation as a REIT. The foregoing opinions are based on current provisions of the Code and the Regulations, published administrative interpretations thereof, and published court decisions. The Service has not issued Regulations or administrative interpretations with respect to various provisions of the Code relating to REIT qualification. No assurance can be given that the law will not change in a way that will prevent the Company from qualifying as a REIT. We hereby consent to the filing of this opinion as an exhibit to the Registration Statement. We also consent to the references to Hunton & Williams under the captions "Tax Status," "Tax Risks," "Federal Income Tax Consequences," and "Legal Matters" in the Prospectus. In giving this consent, we do not admit that we are in the category of persons whose consent is required by Section 7 of the Securities Act of 1933, as amended, or the rules and regulations promulgated thereunder by the SEC. The foregoing opinions are limited to the U.S. federal income tax matters addressed herein, and no other opinions are rendered with respect to other federal tax matters or to any issues arising under the tax laws of any other country, or any state or locality. We undertake no obligation to update the opinions expressed herein after the date of this letter. This opinion letter is solely for the information and use of the addressee and the purchasers of the Priority Common Shares pursuant to the Prospectus, and it speaks only as of the date hereof. This opinion letter may not be distributed, relied upon for any purpose by any other person, quoted in whole or in part or otherwise reproduced in any document, or filed with any governmental agency without our express written consent. Very truly yours, Hunton & Williams EX-10 4 EXHIBIT 10.1 EXHIBIT 10.1 AMENDED AND RESTATED AGREEMENT OF LIMITED PARTNERSHIP OF HERSHA HOSPITALITY LIMITED PARTNERSHIP
TABLE OF CONTENTS ARTICLE I DEFINED TERMS................................................................................................... 1 ARTICLE II FORMATION OF PARTNERSHIP........................................................................................ 8 2.01 Name, Office and Registered Agent.................................................... 8 2.02 Partners............................................................................. 9 2.03 Term and Dissolution................................................................. 9 2.04 Filing of Certificate and Perfection of Limited Partnership.......................... 10 2.05 Certificates Describing Partnership Units............................................ 10 ARTICLE III BUSINESS OF THE PARTNERSHIP..................................................................................... 10 ARTICLE IV CAPITAL CONTRIBUTIONS AND ACCOUNTS.............................................................................. 11 4.01 Capital Contributions................................................................ 11 4.02 Additional Capital Contributions and Issuances of Additional Partnership Interests................................................................ 11 4.03 Additional Funding................................................................... 13 4.04 Capital Accounts..................................................................... 14 4.05 Percentage Interests................................................................. 14 4.06 No Interest on Contributions......................................................... 14 4.07 Return of Capital Contributions...................................................... 14 4.08 No Third Party Beneficiary........................................................... 15 ARTICLE V PROFITS AND LOSSES; DISTRIBUTIONS............................................................................... 15 5.01 Allocation of Profit and Loss........................................................ 15 5.02 Distribution of Cash................................................................. 17 5.03 REIT Distribution Requirements....................................................... 18 5.04 No Right to Distributions in Kind.................................................... 18 5.05 Limitations on Return of Capital Contributions....................................... 18 5.06 Distributions Upon Liquidation....................................................... 19 5.07 Substantial Economic Effect.......................................................... 19
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ARTICLE VI RIGHTS, OBLIGATIONS AND POWERS OF THE GENERAL PARTNER................................................................................... 19 6.01 Management of the Partnership........................................................ 19 6.02 Delegation of Authority.............................................................. 22 6.03 Indemnification and Exculpation of Indemnitees....................................... 23 6.04 Liability of the General Partner..................................................... 24 6.05 Partnership Obligations.............................................................. 25 6.06 Outside Activities................................................................... 26 6.07 Employment or Retention of Affiliates................................................ 26 6.08 General Partner Participation........................................................ 26 6.09 Title to Partnership Assets.......................................................... 27 6.10 Miscellaneous........................................................................ 27 ARTICLE VII CHANGES IN GENERAL PARTNER...................................................................................... 27 7.01 Transfer of the General Partner's Partnership Interest............................... 27 7.02 Admission of a Substitute or Additional General...................................... 29 7.03 Effect of Bankruptcy, Withdrawal, Death or Dissolution of a General Partner.............................................................................. 30 7.04 Removal of a General Partner......................................................... 31 ARTICLE VIII RIGHTS AND OBLIGATIONS OF THE LIMITED PARTNERS......................................................................................... 32 8.01 Management of the Partnership........................................................ 32 8.02 Power of Attorney.................................................................... 32 8.03 Limitation on Liability of Limited Partners.......................................... 32 8.04 Ownership by Limited Partner of Corporate General Partner or Affiliate............................................................................ 32 8.05 Redemption Right..................................................................... 33 ARTICLE IX TRANSFERS OF LIMITED PARTNERSHIP INTERESTS...................................................................... 39 9.01 Purchase for Investment.............................................................. 39 9.02 Restrictions on Transfer of Limited Partnership Interests............................ 40 9.03 Admission of Substitute Limited Partner.............................................. 41 9.04 Rights of Assignees of Partnership Interests......................................... 42 9.05 Effect of Bankruptcy, Death, Incompetence or Termination of a Limited Partner...................................................................... 43 9.06 Joint Ownership of Interests......................................................... 43
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ARTICLE X BOOKS AND RECORDS; ACCOUNTING; TAX MATTERS...................................................................... 43 10.01 Books and Records...................................................................... 43 10.02 Custody of Partnership Funds; Bank Accounts............................................ 44 10.03 Fiscal and Taxable Year................................................................ 44 10.04 Annual Tax Information and Report...................................................... 44 10.05 Tax Matters Partner; Tax Elections; Special Basis Adjustments.......................... 44 10.06 Reports to Limited Partners............................................................ 45 ARTICLE XI AMENDMENT OF AGREEMENT; MERGER.................................................................................. 45 ARTICLE XII GENERAL PROVISIONS.............................................................................................. 46 12.01 Notices................................................................................ 46 12.02 Survival of Rights..................................................................... 46 12.03 Additional Documents................................................................... 46 12.04 Severability........................................................................... 46 12.05 Entire Agreement....................................................................... 47 12.06 Pronouns and Plurals................................................................... 47 12.07 Headings............................................................................... 47 12.08 Counterparts........................................................................... 47 12.09 Governing Law.......................................................................... 47 EXHIBITS EXHIBIT A - Partners, Capital Contributions and Percentage Interests EXHIBIT B - Notice of Exercise of Redemption Right EXHIBIT C - Certification of Non-Foreign Status
- iii - AMENDED AND RESTATED AGREEMENT OF LIMITED PARTNERSHIP OF HERSHA HOSPITALITY LIMITED PARTNERSHIP RECITALS Hersha Hospitality Limited Partnership (the "Partnership") was formed as a limited partnership under the laws of the Commonwealth of Virginia, pursuant to a Certificate of Limited Partnership filed with the Virginia State Corporation Commission effective as of _____________, 1998. This Amended and Restated Agreement of Limited Partnership is entered into this ___ day of _______, 1998 among Hersha Hospitality Trust, a Maryland real estate investment trust (the "General Partner" or the "Company"), and the Limited Partners set forth on Exhibit A hereto, for the purpose of amending and restating the Agreement of Limited Partnership. AGREEMENT NOW, THEREFORE, in consideration of the foregoing, of mutual covenants between the parties hereto, and of other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree to amend the Agreement of Limited Partnership to read in its entirety as follows: ARTICLE I DEFINED TERMS The following defined terms used in this Agreement shall have the meanings specified below: "Act" means the Virginia Revised Uniform Limited Partnership Act, as it may be amended from time to time. "Additional Funds" has the meaning set forth in Section 4.03 hereof. "Additional Securities" means any additional REIT Shares (other than REIT Shares issued in connection with an exchange pursuant to Section 8.05 hereof) or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase REIT Shares, as set forth in Section 4.02(a)(ii). "Administrative Expenses" means (i) all administrative and operating costs and expenses incurred by the Partnership, (ii) those administrative costs and expenses of the General Partner, including any salaries or other payments to directors, officers or employees of the General Partner, and any accounting and legal expenses of the General Partner, which expenses, the Partners have agreed, are expenses of the Partnership and not the General Partner, and (iii) to the extent not included in clause (ii) above, REIT Expenses; provided, however, that Administrative Expenses shall not include any administrative costs and expenses incurred by the Company that are attributable to Properties or partnership interests in a Subsidiary Partnership that are owned by the Company other than in its role as General Partner. "Affiliate" means, (i) any Person that, directly or indirectly, controls or is controlled by or is under common control with such Person, (ii) any other Person that owns, beneficially, directly or indirectly, 10% or more of the outstanding capital stock, shares or equity interests of such Person, or (iii) any officer, director, employee, partner, member, manager or trustee of such Person or any Person controlling, controlled by or under common control with such Person (excluding trustees and persons serving in similar capacities who are not otherwise an Affiliate of such Person). For the purposes of this definition, "control" (including the correlative meanings of the terms "controlled by" and "under common control with"), as used with respect to any Person, shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, through the ownership of voting securities or partnership interests or otherwise. "Agreed Value" means the fair market value of a Partner's non-cash Capital Contribution as of the date of contribution as agreed to by such Partner and the General Partner. The names and addresses of the Partners, number of Partnership Units issued to each Partner, and the Agreed Value of non-cash Capital Contributions as of the date of contribution is set forth on Exhibit A. "Agreement" means this Amended and Restated Agreement of Limited Partnership. "Capital Account" has the meaning provided in Section 4.04 hereof. "Capital Contribution" means the total amount of cash, cash equivalents, and the Agreed Value of any Property or other asset contributed or agreed to be contributed, as the context requires, to the Partnership by each Partner pursuant to the terms of the Agreement. Any reference to the Capital Contribution of a Partner shall include the Capital Contribution made by a predecessor holder of the Partnership Interest of such Partner. "Cash Amount" means an amount of cash per Partnership Unit equal to the Value of the REIT Shares Amount on the date of receipt by the Company of a Notice of Redemption. - 2 - "Certificate" means any instrument or document that is required under the laws of the Commonwealth of Virginia, or any other jurisdiction in which the Partnership conducts business, to be signed and sworn to by the Partners of the Partnership (either by themselves or pursuant to the power-of-attorney granted to the General Partner in Section 8.02 hereof) and filed for recording in the appropriate public offices within the Commonwealth of Virginia or such other jurisdiction to perfect or maintain the Partnership as a limited partnership, to effect the admission, withdrawal or substitution of any Partner of the Partnership, or to protect the limited liability of the Limited Partners as limited partners under the laws of the Commonwealth of Virginia or such other jurisdiction. "Class A Common Share" means one Priority Class A common share of beneficial interest in the Company. "Class B Common Share" means one Class B common share of beneficial interest in the Company. At the end of the Priority Period, all Class B Common Shares will be automatically converted into Class A Common Shares. "Code" means the Internal Revenue Code of 1986, as amended, and as hereafter amended from time to time. Reference to any particular provision of the Code shall mean that provision in the Code at the date hereof and any successor provision of the Code. "Commission" means the U.S. Securities and Exchange Commission. "Company" means Hersha Hospitality Trust, a Maryland real estate investment trust. "Consent Period" means the period beginning on the date of the closing of the Offering and ending on the last day of the first twelve calendar month period after the date of the closing of the Offering in which the Company fails to declare aggregate distributions to holders of the Class A Common Shares of at least $0.72 per Class A Common Share in that twelve calendar month period. "Conversion Factor" means 1.0, provided that in the event that the Company (i) declares or pays a dividend on its outstanding REIT Shares in REIT Shares or makes a distribution to all holders of its outstanding REIT Shares in REIT Shares, (ii) subdivides its outstanding REIT Shares or (iii) combines its outstanding REIT Shares into a smaller number of REIT Shares, the Conversion Factor shall be adjusted by multiplying the Conversion Factor by a fraction, the numerator of which shall be the number of REIT Shares issued and outstanding on the record date for such dividend, distribution, subdivision or combination (assuming for such purposes that such dividend, distribution, subdivision or combination has occurred as of such time), and the denominator of which shall be the actual number of REIT Shares (determined without the above assumption) issued and outstanding on such date and, provided further, that in the event that an entity other than an Affiliate of the Company shall become General Partner pursuant to any merger, consolidation or combination of the Company with or into another entity (the "Successor Entity"), the Conversion Factor shall be adjusted by multiplying the Conversion Factor by the number of shares of the Successor Entity into which one REIT Share is converted pursuant to such merger, consolidation or combination, determined as of the date of such merger, consolidation or combination. Any adjustment to the Conversion Factor shall become effective immediately after the effective date of such event retroactive to the record date, if any, for such event; provided, however, that if the Company receives a Notice of Redemption after the record date, but prior to the effective date of such dividend, distribution, subdivision or combination, the Conversion Factor shall be determined as if the Company had received the Notice of Redemption immediately prior to the record date for such dividend, distribution, subdivision or combination. - 3 - "Declaration of Trust" means the Declaration of Trust of the Company filed with the Maryland State Department of Assessments and Taxation, as amended or restated from time to time. "Event of Bankruptcy" as to any Person means the filing of a petition for relief as to such Person as debtor or bankrupt under the Bankruptcy Code of 1978 or similar provision of law of any jurisdiction (except if such petition is contested by such Person and has been dismissed within 90 days); insolvency or bankruptcy of such Person as finally determined by a court proceeding; filing by such Person of a petition or application to accomplish the same or for the appointment of a receiver or a trustee for such Person or a substantial part of his assets; commencement of any proceedings relating to such Person as a debtor under any other reorganization, arrangement, insolvency, adjustment of debt or liquidation law of any jurisdiction, whether now in existence or hereinafter in effect, either by such Person or by another, provided that if such proceeding is commenced by another, such Person indicates his approval of such proceeding, consents thereto or acquiesces therein, or such proceeding is contested by such Person and has not been finally dismissed within 90 days. "General Partner" means the Company and any Person who becomes a substitute or additional General Partner as provided herein, and any of their successors as General Partner. "General Partnership Interest" means a Partnership Interest held by the General Partner that is a general partnership interest. "Indemnitee" means (i) any Person made a party to a proceeding by reason of its status as the Company, the General Partner or a director, officer or employee of the Company, the Partnership or the General Partner, and (ii) such other Persons (including Affiliates of the Company, General Partner or the Partnership) as the General Partner may designate from time to time, in its sole and absolute discretion. "Independent Trustee" shall have the same meaning ascribed to it in the Declaration of Trust. "Limited Partner" means any Person named as a Limited Partner on Exhibit A attached hereto, and any Person who becomes a Substitute or Additional Limited Partner, in such Person's capacity as a Limited Partner in the Partnership. - 4 - "Limited Partnership Interest" means the ownership interest of a Limited Partner in the Partnership at any particular time, including the right of such Limited Partner to any and all benefits to which such Limited Partner may be entitled as provided in this Agreement and in the Act, together with the obligations of such Limited Partner to comply with all the provisions of this Agreement and of such Act. "Loss" has the meaning provided in Section 5.01(g) hereof. "Minimum Limited Partnership Interest" means the lesser of (i) 1% or (ii) if the total Capital Contributions to the Partnership exceed $50 million, 1% divided by the ratio of the total Capital Contributions to the Partnership to $50 million; provided, however, that the Minimum Limited Partnership Interest shall not be less than 0.2% at any time. "Notice of Redemption" means the Notice of Exercise of Redemption Right substantially in the form attached as Exhibit B hereto. "NYSE" means the New York Stock Exchange. "Offer" has the meaning set forth in Section 7.01(c) hereof. "Offering" means the initial offer and sale by the Company and the purchase by the Underwriters (as defined in the Prospectus) of Class A Common Shares for sale to the public. "Original Limited Partners" means the Limited Partners designated as "Original Limited Partners" on Exhibit A hereto. "Partner" means any General Partner or Limited Partner. "Partner Nonrecourse Debt Minimum Gain" has the meaning set forth in Regulations Section 1.704-2(i). A Partner's share of Partner Nonrecourse Debt Minimum Gain shall be determined in accordance with Regulations Section 1.704-2(i)(5). "Partnership Interest" means an ownership interest in the Partnership held by either a Limited Partner or the General Partner and includes any and all benefits to which the holder of such a Partnership Interest may be entitled as provided in this Agreement, together with all obligations of such Person to comply with the terms and provisions of this Agreement. "Partnership Minimum Gain" has the meaning set forth in Regulations Section 1.704-2(d). In accordance with Regulations Section 1.704-2(d), the amount of Partnership Minimum Gain is determined by first computing, for each Partnership nonrecourse liability, any gain the Partnership would realize if it disposed of the property subject to that liability for no consideration other than full satisfaction of the liability, and then aggregating the separately computed gains. A Partner's share of Partnership Minimum Gain shall be determined in accordance with Regulations Section 1.704-2(g)(1). - 5 - "Partnership Record Date" means the record date established by the General Partner for the distribution of cash pursuant to Section 5.02 hereof, which record date shall be the same as the record date established by the Company for a distribution to its shareholders of some or all of its portion of such distribution. "Partnership Unit" means a fractional, undivided share of the Partnership Interests of all Partners issued hereunder. The allocation of Partnership Units among the Partners shall be as set forth on Exhibit A, as may be amended from time to time. "Percentage Interest" means the percentage ownership interest in the Partnership of each Partner, as determined by dividing the Partnership Units owned by a Partner by the total number of Partnership Units then outstanding. The Percentage Interest of each Partner shall be as set forth on Exhibit A, as may be amended from time to time. "Person" means any individual, partnership, corporation, limited liability company, joint venture, trust or other entity. "Preference Value per Unit" means, during the Priority Period, the preference value of $6 per Partnership Unit. "Preferred Return" means, during the Priority Period, a fixed quarterly rate of $0.18 per Partnership Unit. The Preferred Return (i) shall be cumulative, (ii) if unpaid, shall not accrue interest, and (iii) shall be prorated for any partial calendar quarter. "Priority Period" means the period beginning on the date of the closing of the Offering and ending on the earlier of: (i) the date that is 15 Trading Days after the date that the Company mails notice to the holders of the Class A Common Shares stating that their Priority Rights will terminate in 15 Trading Days, provided that the closing bid price of the Class A Common Shares is at least $7.00 on each Trading Day during such 15-day period, or (ii) the fifth anniversary of the closing of the Offering. Notwithstanding the foregoing, the Priority Period shall not end until the General Partner has received any accrued, but unpaid, Preferred Return for the period described in the preceding sentence. - 6 - "Priority Rights" means the priority to which holders of the REIT Shares are entitled with respect to distributions and amounts payable upon liquidation during the Priority Period. "Profit" has the meaning provided in Section 5.01(g) hereof. "Property" means any hotel property or other investment in which the Partnership holds an ownership interest. "Prospectus" means the final prospectus delivered to purchasers of REIT Shares in the Offering. "Redemption Amount" means either the Cash Amount or the REIT Shares Amount, as selected by the General Partner or as directed by the Redeeming Partner pursuant to Section 8.05(b) hereof. "Redemption Right" has the meaning provided in Section 8.05(a) hereof. "Redeeming Partner" has the meaning provided in Section 8.05(a) hereof. "Regulations" means the Federal Income Tax Regulations issued under the Code, as amended and as hereafter amended from time to time. Reference to any particular provision of the Regulations shall mean that provision of the Regulations on the date hereof and any successor provision of the Regulations. "REIT" means a real estate investment trust under Sections 856 through 860 of the Code. "REIT Expenses" means (i) costs and expenses relating to the formation and continuity of existence and operation of the Company and any Subsidiaries thereof (which Subsidiaries shall, for purposes hereof, be included within the definition of Company), including taxes, fees and assessments associated therewith, any and all costs, expenses or fees payable to any director, officer or employee of the Company, (ii) costs and expenses relating to any public offering and registration of securities by the Company and all statements, reports, fees and expenses incidental thereto, including, without limitation, underwriting discounts and selling commissions applicable to any such offering of securities, and any costs and expenses associated with any claims made by any holders of such securities or any underwriters or placement agents thereof, (iii) costs and expenses associated with any repurchase of any securities by the Company, (iv) costs and expenses associated with the preparation and filing of any periodic or other reports and communications by the Company under federal, state or local laws or regulations, including filings with the Commission, (v) costs and expenses associated with compliance by the Company with laws, rules and regulations promulgated by any regulatory body, including the Commission and any securities exchange, (vi) costs and expenses associated with any 401(k) plan, incentive plan, bonus plan or other plan providing for compensation for the employees of the Company, (vii) costs and expenses incurred by the Company relating to any issuing or redemption of Partnership Interests and (viii) all other operating or administrative costs of the Company incurred in the ordinary course of its business on behalf of or in connection with the Partnership. - 7 - "REIT Share" means a Class A Common Share or a Class B Common Share of the Company (or Successor Entity, as the case may be). "REIT Shares Amount" means a number of REIT Shares equal to the product of the number of Partnership Units offered for redemption by a Redeeming Partner, multiplied by the Conversion Factor as adjusted to and including the Specified Redemption Date; provided that in the event the Company issues to all holders of REIT Shares rights, options, warrants or convertible or exchangeable securities entitling the shareholders to subscribe for or purchase REIT Shares, or any other securities or property (collectively, the "rights"), and the rights have not expired at the Specified Redemption Date, then the REIT Shares Amount shall also include the rights issuable to a holder of the REIT Shares Amount on the record date fixed for purposes of determining the holders of REIT Shares entitled to rights. During the Priority Period, the REIT Shares Amount will be determined with respect to the Class B Common Shares, and after the Priority Period, the REIT Shares Amount will be determined with respect to the Class A Common Shares. "Securities Act" means the Securities Act of 1933, as amended. "Service" means the Internal Revenue Service. "Specified Redemption Date" means the first business day of the month that is at least 60 calendar days after the receipt by the Company of a Notice of Redemption. "Subsidiary" means, with respect to any Person, any corporation or other entity of which a majority of (i) the voting power of the voting equity securities or (ii) the outstanding equity interests is owned, directly or indirectly, by such Person. "Subsidiary Partnership" means any partnership in which the Company, a wholly-owned subsidiary of the Company or the Partnership owns a partnership interest. - 8 - "Substitute Limited Partner" means any Person admitted to the Partnership as a Limited Partner pursuant to Section 9.03 hereof. "Successor Entity" has the meaning provided in the definition of "Conversion Factor" contained herein. "Surviving General Partner" has the meaning set forth in Section 7.01(d) hereof. "Trading Day" means a day on which the principal national securities exchange on which a security is listed or admitted to trading is open for the transaction of business or, if a security is not listed or admitted to trading on any national securities exchange, shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in the State of New York are authorized or obligated by law or executive order to close. "Transaction" has the meaning set forth in Section 7.01(c) hereof. "Transfer" has the meaning set forth in Section 9.02(a) hereof. "Transfer Restriction Date" means ______________________. "Value" means, with respect to any security, the average of the daily market price of such security for the ten consecutive Trading Days immediately preceding the date of such valuation. The market price for each such Trading Day shall be: (i) if security is listed or admitted to trading on any securities exchange or the NYSE, the sale price, regular way, on such day, or if no such sale takes place on such day, the average of the closing bid and asked prices, regular way, on such day, (ii) if security is not listed or admitted to trading on any securities exchange or the NYSE, the last reported sale price on such day or, if no sale takes place on such day, the average of the closing bid and asked prices on such day, as reported by a reliable quotation source designated by the Company, or (iii) if security is not listed or admitted to trading on any securities exchange or the NYSE and no such last reported sale price or closing bid and asked prices are available, the average of the reported high bid and low asked prices on such day, as reported by a reliable quotation source designated by the Company, or if there shall be no bid and asked prices on such day, the average of the high bid and low asked prices, as so reported, on the most recent day (not more than ten days prior to the date in question) for which prices have been so reported; provided that if there are no bid and asked prices reported during the ten days prior to the date in question, the value of the security shall be determined by the Company acting in good faith on the basis of such quotations and other information as it considers, in its reasonable judgment, appropriate; and provided that the Value of a Class B Common Share shall be deemed to be equal to the Value of a Class A Common Share. In the event the security includes any additional rights, then the value of such rights shall be determined by the Company acting in good faith on the basis of such quotations and other information as it considers, in its reasonable judgment, appropriate. - 9 - ARTICLE II FORMATION OF PARTNERSHIP 2.01 Name, Office and Registered Agent. The name of the Partnership is Hersha Hospitality Limited Partnership. The specified office and place of business of the Partnership shall be 148 Sheraton Drive, Box A, New Cumberland, Pennsylvania 17070. The General Partner may at any time change the location of such office, provided the General Partner gives notice to the Partners of any such change. The name and address of the Partnership's registered agent is _________________________________________. The sole duty of the registered agent as such is to forward to the Partnership any notice that is served on him as registered agent. 2.02 Partners. (a) The General Partner of the Partnership is Hersha Hospitality Trust, a Maryland real estate investment trust. Its principal place of business is the same as that of the Partnership. (b) The Limited Partners are those Persons identified as Limited Partners on Exhibit A hereto, as amended from time to time. 2.03 Term and Dissolution. (a) The term of the Partnership shall continue in full force and effect until December 31, 2050, except that the Partnership shall be dissolved upon the first to occur of any of the following events: (i) The occurrence of an Event of Bankruptcy as to a General Partner or the dissolution, death, removal or withdrawal of a General Partner unless the business of the Partnership is continued pursuant to Section 7.03(b) hereof; provided that if a General Partner is on the date of such occurrence a partnership, the dissolution of such General Partner as a result of the dissolution, death, withdrawal, removal or Event of Bankruptcy of a partner in such partnership shall not be an event of dissolution of the Partnership if the business of such General Partner is continued by the remaining partner or partners, either alone or with additional partners, and such General Partner and such partners comply with any other applicable requirements of this Agreement; (ii) The passage of 90 days after the sale or other disposition of all or substantially all of the assets of the Partnership (provided that if the Partnership receives an installment obligation as consideration for such sale or other disposition, the Partnership shall continue, unless sooner dissolved under the provisions of this Agreement, until such time as such note or notes are paid in full); -10- (iii) The redemption of all Limited Partnership Interests (other than any of such interests held by the General Partner or Affiliates of the General Partner); or (iv) The election by the General Partner that the Partnership should be dissolved. (b) Upon dissolution of the Partnership (unless the business of the Partnership is continued pursuant to Section 7.03(b) hereof), the General Partner (or its trustee, receiver, successor or legal representative) shall amend or cancel the Certificate and liquidate the Partnership's assets and apply and distribute the proceeds thereof in accordance with Section 5.06 hereof. Notwithstanding the foregoing, the liquidating General Partner may either (i) defer liquidation of, or withhold from distribution for a reasonable time, any assets of the Partnership (including those necessary to satisfy the Partnership's debts and obligations), or (ii) distribute the assets to the Partners in kind. 2.04 Filing of Certificate and Perfection of Limited Partnership. The General Partner shall execute, acknowledge, record and file at the expense of the Partnership the Certificate and any and all amendments thereto and all requisite fictitious name statements and notices in such places and jurisdictions as may be necessary to cause the Partnership to be treated as a limited partnership under, and otherwise to comply with, the laws of each state or other jurisdiction in which the Partnership conducts business. 2.05 Certificates Describing Partnership Units. At the request of a Limited Partner, the General Partner, at its option, may issue a certificate summarizing the terms of such Limited Partner's interest in the Partnership, including the number of Partnership Units owned and the Percentage Interest represented by such Partnership Units as of the date of such certificate. Any such certificate (i) shall be in form and substance as approved by the General Partner, (ii) shall not be negotiable and (iii) shall bear a legend to the following effect: This certificate is not negotiable. The Partnership Units represented by this certificate are governed by and transferable only in accordance with the provisions of the Agreement of Limited Partnership of Hersha Hospitality Limited Partnership, as amended from time to time. -11- ARTICLE III BUSINESS OF THE PARTNERSHIP The purpose and nature of the business to be conducted by the Partnership is (i) to conduct any business that may be lawfully conducted by a limited partnership organized pursuant to the Act, provided, however, that such business shall be limited to and conducted in such a manner as to permit the Company at all times to qualify as a REIT, unless the Company otherwise ceases to qualify as a REIT, (ii) to enter into any partnership, joint venture or other similar arrangement to engage in any of the foregoing or the ownership of interests in any entity engaged in any of the foregoing and (iii) to do anything necessary or incidental to the foregoing. In connection with the foregoing, and without limiting the Company's right in its sole and absolute discretion to cease qualifying as a REIT, the Partners acknowledge that the Company's current status as a REIT and the avoidance of income and excise taxes on the Company inures to the benefit of all the Partners and not solely to the Company. Notwithstanding the foregoing, the Limited Partners agree that the Company may terminate its status as a REIT under the Code at any time to the full extent permitted under the Declaration of Trust. The General Partner shall also be empowered to do any and all acts and things necessary or prudent to ensure that the Partnership will not be classified as a "publicly traded partnership" for purposes of Section 7704 of the Code. ARTICLE IV CAPITAL CONTRIBUTIONS AND ACCOUNTS 4.01 Capital Contributions. The General Partner and the Limited Partners have made capital contributions to the Partnership in exchange for the Partnership Interests set forth opposite their names on Exhibit A, as amended from time to time. -12- 4.02 Additional Capital Contributions and Issuances of Additional Partnership Interests. Except as provided in this Section 4.02 or in Section 4.03, the Partners shall have no right or obligation to make any additional Capital Contributions or loans to the Partnership. The General Partner may contribute additional capital to the Partnership, from time to time, and receive additional Partnership Interests in respect thereof, in the manner contemplated in this Section 4.02. (a) Issuances of Additional Partnership Interests. (i) General. The General Partner is hereby authorized to cause the Partnership to issue such additional Partnership Interests in the form of Partnership Units for any Partnership purpose at any time or from time to time to the Partners (including the General Partner) or to other Persons for such consideration and on such terms and conditions as shall be established by the General Partner in its sole and absolute discretion, all without the approval of any Limited Partners. Any additional Partnership Interests issued thereby may be issued in one or more classes, or one or more series of any of such classes, with such designations, preferences and relative, participating, optional or other special rights, powers and duties, including rights, powers and duties senior to Limited Partnership Interests, all as shall be determined by the General Partner in its sole and absolute discretion and without the approval of any Limited Partner, subject to Virginia law, including, without limitation, (i) the allocations of items of Partnership income, gain, loss, deduction and credit to each such class or series of Partnership Interests; (ii) the right of each such class or series of Partnership Interests to share in Partnership distributions; and (iii) the rights of each such class or series of Partnership Interests upon dissolution and liquidation of the Partnership; provided, however, that no additional Partnership Interests shall be issued to the General Partner unless: (1)(A) the additional Partnership Interests are issued in connection with an issuance of REIT Shares of or other interests in the General Partner, which shares or interests have designations, preferences and other rights, all such that the economic interests are substantially similar to the designations, preferences and other rights of the additional Partnership Interests issued to the General Partner by the Partnership in accordance with this Section 4.02 and (B) the General Partner shall make a Capital Contribution to the Partnership in an amount equal to the proceeds raised in connection with the issuance of such shares of stock of or other interests in the General Partner; (2) the additional Partnership Interests are issued in exchange for property owned by the General Partner with a fair market value, as determined by the General Partner, in good faith, equal to the value of the Partnership Interests; or -13- (3) the additional Partnership Interests are issued to all Partners in proportion to their respective Percentage Interests. Without limiting the foregoing, the General Partner is expressly authorized to cause the Partnership to issue Partnership Units for less than fair market value, so long as the General Partner concludes in good faith that such issuance is in the best interests of the General Partner and the Partnership. (ii) Upon Issuance of Additional Securities. The General Partner shall not issue any additional REIT Shares (other than REIT Shares issued in connection with an exchange pursuant to Section 8.05 hereof) or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase REIT Shares (collectively, "Additional Securities") other than to all holders of REIT Shares, unless (A) the General Partner shall cause the Partnership to issue to the General Partner Partnership Interests or rights, options, warrants or convertible or exchangeable securities of the Partnership having designations, preferences and other rights, all such that the economic interests are substantially similar to those of the Additional Securities, and (B) the General Partner contributes the proceeds from the issuance of such Additional Securities and from any exercise of rights contained in such Additional Securities to the Partnership; provided, however, that the General Partner is allowed to issue Additional Securities in connection with an acquisition of a property to be held directly by the General Partner, but if and only if, such direct acquisition and issuance of Additional Securities have been approved and determined to be in the best interests of the General Partner and the Partnership by a majority of the Independent Trustees (as defined in the Company's Amended and Restated Declaration of Trust). Without limiting the foregoing, the General Partner is expressly authorized to issue Additional Securities for less than fair market value, and to cause the Partnership to issue to the General Partner corresponding Partnership Interests, so long as (x) the General Partner concludes in good faith that such issuance is in the best interests of the General Partner and the Partnership, including without limitation, the issuance of REIT Shares and corresponding Partnership Units pursuant to an employee share purchase plan providing for employee purchases of REIT Shares at a discount from fair market value or employee stock options that have an exercise price that is less than the fair market value of the REIT Shares, either at the time of issuance or at the time of exercise, and (y) the General Partner contributes all proceeds from such issuance to the Partnership. For example, in the event the General Partner issues REIT Shares for a cash purchase price and contributes all of the proceeds of such issuance to the Partnership as required hereunder, the General Partner shall be issued a number of additional Partnership Units equal to the product of (A) the number of such REIT Shares issued by the General Partner, the proceeds of which were so contributed, multiplied by (B) a fraction, the numerator of which is 100%, and the denominator of which is the Conversion Factor in effect on the date of such contribution. -14- (b) Certain Contributions of Proceeds of Issuance of REIT Shares. In connection with any and all issuances of REIT Shares, the General Partner shall make Capital Contributions to the Partnership of the proceeds therefrom, provided that if the proceeds actually received and contributed by the General Partner are less than the gross proceeds of such issuance as a result of any underwriter's discount or other expenses paid or incurred in connection with such issuance, then the General Partner shall make a Capital Contribution of such net proceeds to the Partnership but shall receive additional Partnership Units with a value equal to the aggregate amount of the gross proceeds of such issuance pursuant to Section 4.02(a) hereof. Upon any such Capital Contribution by the General Partner, the General Partner's Capital Account shall be increased by the actual amount of its Capital Contribution pursuant to Section 4.04 hereof. (c) Minimum Limited Partnership Interest. In the event that either a redemption pursuant to Section 8.05 hereof or additional Capital Contributions by the General Partner would result in the Limited Partners (other than the General Partner), in the aggregate, owning less than the Minimum Limited Partnership Interest, the General Partner and the Limited Partners shall form another partnership and contribute sufficient Limited Partnership Interests together with such other Limited Partners so that the limited partners (other than the General Partner) of such partnership own at least the Minimum Limited Partnership Interest. (d) If the General Partner shall repurchase shares of any class of the General Partner's capital stock, the purchase price thereof and all costs incurred in connection with such repurchase shall be reimbursed to the General Partner by the Partnership pursuant to Section 6.05 hereof and the General Partner shall cause the Partnership to cancel a number of Partnership Interests of the appropriate class held by the General Partner equal to the quotient of the number of such shares of the General Partner's capital stock divided by the Conversion Factor. 4.03 Additional Funding. If the General Partner determines that it is in the best interests of the Partnership to provide for additional Partnership funds ("Additional Funds") for any Partnership purpose, the General Partner may (i) cause the Partnership to obtain such funds from outside borrowings, or (ii) elect to have the General Partner or any of its Affiliates provide such Additional Funds to the Partnership through loans or otherwise. -15- 4.04 Capital Accounts. A separate capital account (a "Capital Account") shall be established and maintained for each Partner in accordance with Regulations Section 1.704- 1(b)(2)(iv). If (i) a new or existing Partner acquires an additional Partnership Interest in exchange for more than a de minimis Capital Contribution, (ii) the Partnership distributes to a Partner more than a de minimis amount of Partnership property as consideration for a Partnership Interest or (iii) the Partnership is liquidated within the meaning of Regulation Section 1.704-1(b)(2)(ii)(g), the General Partner shall revalue the property of the Partnership to its fair market value (as determined by the General Partner, in its sole and absolute discretion, and taking into account Section 7701(g) of the Code) in accordance with Regulations Section 1.704-1(b)(2)(iv)(f). When the Partnership's property is revalued by the General Partner, the Capital Accounts of the Partners shall be adjusted in accordance with Regulations Sections 1.704-1(b)(2)(iv)(f) and (g), which generally require such Capital Accounts to be adjusted to reflect the manner in which the unrealized gain or loss inherent in such property (that has not been reflected in the Capital Accounts previously) would be allocated among the Partners pursuant to Section 5.01 if there were a taxable disposition of such property for its fair market value (as determined by the General Partner, in its sole and absolute discretion, and taking into account Section 7701(g) of the Code) on the date of the revaluation. 4.05 Percentage Interests. If the number of outstanding Partnership Units increases or decreases during a taxable year, each Partner's Percentage Interest shall be adjusted by the General Partner effective as of the effective date of each such increase or decrease to a percentage equal to the number of Partnership Units held by such Partner divided by the aggregate number of Partnership Units outstanding after giving effect to such increase or decrease. If the Partners' Percentage Interests are adjusted pursuant to this Section 4.05, the Profits and Losses for the taxable year in which the adjustment occurs shall be allocated between the part of the year ending on the day when the Partnership's property is revalued by the General Partner and the part of the year beginning on the following day either (i) as if the taxable year had ended on the date of the adjustment or (ii) based on the number of days in each part. The General Partner, in its sole and absolute discretion, shall determine which method shall be used to allocate Profits and Losses for the taxable year in which the adjustment occurs. The allocation of Profits and Losses for the earlier part of the year shall be based on the Percentage Interests before adjustment, and the allocation of Profits and Losses for the later part shall be based on the adjusted Percentage Interests. 4.06 No Interest on Contributions. No Partner shall be entitled to interest on its Capital Contribution. -16- 4.07 Return of Capital Contributions. No Partner shall be entitled to withdraw any part of its Capital Contribution or its Capital Account or to receive any distribution from the Partnership, except as specifically provided in this Agreement. Except as otherwise provided herein, there shall be no obligation to return to any Partner or withdrawn Partner any part of such Partner's Capital Contribution for so long as the Partnership continues in existence. 4.08 No Third Party Beneficiary. No creditor or other third party having dealings with the Partnership shall have the right to enforce the right or obligation of any Partner to make Capital Contributions or loans or to pursue any other right or remedy hereunder or at law or in equity, it being understood and agreed that the provisions of this Agreement shall be solely for the benefit of, and may be enforced solely by, the parties hereto and their respective successors and assigns. None of the rights or obligations of the Partners herein set forth to make Capital Contributions or loans to the Partnership shall be deemed an asset of the Partnership for any purpose by any creditor or other third party, nor may such rights or obligations be sold, transferred or assigned by the Partnership or pledged or encumbered by the Partnership to secure any debt or other obligation of the Partnership or of any of the Partners. In addition, it is the intent of the parties hereto that no distribution to any Limited Partner shall be deemed a return of money or other property in violation of the Act. However, if any court of competent jurisdiction holds that, notwithstanding the provisions of this Agreement, any Limited Partner is obligated to return such money or property, such obligation shall be the obligation of such Limited Partner and not of the General Partner. Without limiting the generality of the foregoing, a deficit Capital Account of a Partner shall not be deemed to be a liability of such Partner nor an asset or property of the Partnership. ARTICLE V PROFITS AND LOSSES; DISTRIBUTIONS 5.01 Allocation of Profit and Loss. (a) Profit . Profit of the Partnership for each fiscal year of the Partnership shall be allocated as follows: (i) First, to the General Partner until the aggregate amount of profit allocated to the General Partner under this Section 5.01(a)(i) for the current and all prior years equals the aggregate Preferred Return distributed to the General Partner under Section 5.02(a)(i) for the current and all prior years; (ii) Second, to the Limited Partners in accordance with their respective Percentage Interests until the aggregate amount of Profit allocated to the Limited Partners under this Section 5.01(a)(ii) for the current and all prior years equals the aggregate Preferred Return distributed to the Limited Partners for the current and all prior years; and -17- (iii) Thereafter, to the Partners in accordance with their respective Percentage Interests. (b) Loss. Loss of the Partnership for each fiscal year of the Partnership shall be allocated to the Partners in accordance with their respective Percentage Interests. (c) Minimum Gain Chargeback. Notwithstanding any provision to the contrary, (i) any expense of the Partnership that is a "nonrecourse deduction" within the meaning of Regulations Section 1.704-2(b)(1) shall be allocated in accordance with the Partners' respective Percentage Interests, (ii) any expense of the Partnership that is a "partner nonrecourse deduction" within the meaning of Regulations Section 1.704-2(i)(2) shall be allocated to the Partner that bears the "economic risk of loss" of such deduction in accordance with Regulations Section 1.704-2(i)(1), (iii) if there is a net decrease in Partnership Minimum Gain within the meaning of Regulations Section 1.704-2(f)(1) for any Partnership taxable year, then, subject to the exceptions set forth in Regulations Section 1.704-2(f)(2),(3), (4) and (5), items of gain and income shall be allocated among the Partners in accordance with Regulations Section 1.704-2(f) and the ordering rules contained in Regulations Section 1.704-2(j), and (iv) if there is a net decrease in Partner Nonrecourse Debt Minimum Gain within the meaning of Regulations Section 1.704-2(i)(4) for any Partnership taxable year, then, subject to the exceptions set forth in Regulations Section 1.704(2)(g), items of gain and income shall be allocated among the Partners in accordance with Regulations Section 1.704-2(i)(4) and the ordering rules contained in Regulations Section 1.704-2(j). A Partner's "interest in partnership profits" for purposes of determining its share of the nonrecourse liabilities of the Partnership within the meaning of Regulations Section 1.752-3(a)(3) shall be such Partner's Percentage Interest. (d) Qualified Income Offset. If a Partner receives in any taxable year an adjustment, allocation or distribution described in subparagraphs (4), (5) or (6) of Regulations Section 1.704-1(b)(2)(ii)(d) that causes or increases a deficit balance in such Partner's Capital Account that exceeds the sum of such Partner's shares of Partnership Minimum Gain and Partner Nonrecourse Debt Minimum Gain, as determined in accordance with Regulations Sections 1.704-2(g) and 1.704-2(i), such Partner shall be allocated specially for such taxable year (and, if necessary, later taxable years) items of income and gain in an amount and manner sufficient to eliminate such deficit Capital Account balance as quickly as possible as provided in Regulations Section 1.704-1(b)(2)(ii)(d). After the occurrence of an allocation of income or gain to a Partner in accordance with this Section 5.01(d), to the extent permitted by Regulations Section 1.704-1(b), items of expense or loss shall be allocated to such Partner in an amount necessary to offset the income or gain previously allocated to such Partner under this Section 5.01(d). -18- (e) Capital Account Deficits. Loss shall not be allocated to a Limited Partner to the extent that such allocation would cause a deficit in such Partner's Capital Account (after reduction to reflect the items described in Regulations Section 1.704- 1(b)(2)(ii)(d)(4), (5) and (6)) to exceed the sum of such Partner's shares of Partnership Minimum Gain and Partner Nonrecourse Debt Minimum Gain. Any Loss in excess of that limitation shall be allocated to the General Partner. After the occurrence of an allocation of Loss to the General Partner in accordance with this Section 5.01(e), to the extent permitted by Regulations Section 1.704-1(b), Profit shall be allocated to such Partner in an amount necessary to offset the Loss previously allocated to each Partner under this Section 5.01(e). (f) Allocations Between Transferor and Transferee. If a Partner transfers any part or all of its Partnership Interest, the distributive shares of the various items of Profit and Loss allocable among the Partners during such fiscal year of the Partnership shall be allocated between the transferor and the transferee Partner either (i) as if the Partnership's fiscal year had ended on the date of the transfer, or (ii) based on the number of days of such fiscal year that each was a Partner without regard to the results of Partnership activities in the respective portions of such fiscal year in which the transferor and the transferee were Partners. The General Partner, in its sole and absolute discretion, shall determine which method shall be used to allocate the distributive shares of the various items of Profit and Loss between the transferor and the transferee Partner. (g) Definition of Profit and Loss. "Profit" and "Loss" and any items of income, gain, expense or loss referred to in this Agreement shall be determined in accordance with federal income tax accounting principles, as modified by Regulations Section 1.704-1(b)(2)(iv), except that Profit and Loss shall not include items of income, gain and expense that are specially allocated pursuant to Sections 5.01(c) , 5.01(d) or 5.01(e). All allocations of income, Profit, gain, Loss and expense (and all items contained therein) for federal income tax purposes shall be identical to all allocations of such items set forth in this Section 5.01, except as otherwise required by Section 704(c) of the Code and Regulations Section 1.704-1(b)(4). The Partnership shall use the traditional method for allocating items of income, gain and expense as required by Section 704(c) of the Code with respect to the properties acquired by the Partnership in connection with the Offering. With respect to other properties acquired by the Partnership, the General Partner shall have the authority to elect the method to be used by the Partnership for allocating items of income, gain and expense as required by Section 704(c) of the Code with respect to such properties, and such election shall be binding on all Partners. -19- 5.02 Distribution of Cash. (a) Subject to Section 5.02(c) hereof, during the Priority Period, the Partnership shall distribute cash on a quarterly (or, at the election of the General Partner, more frequent) basis, in an amount determined by the General Partner in its sole and absolute discretion, to the Partners who are Partners on the Partnership Record Date with respect to such quarter (or other distribution period), as follows: (i) First, to the General Partner until the General Partner has received an amount equal to the excess, if any, of (A) its cumulative Preferred Return for the current and all prior years over (B) the sum of all prior distributions to the General Partner pursuant to this Section 5.02(a)(i); (ii) Second, to the Limited Partners in accordance with their respective Percentage Interests on the Partnership Record Date until each Limited Partner has received an amount equal to the excess, if any, of (A) its cumulative Preferred Return for the current and all prior years over (B) the sum of all prior distributions to the Limited Partner pursuant to this Section 5.02(a)(ii); and (iii) Thereafter, to the Partners in accordance with their respective Percentage Interests on the Partnership Record Date. (b) Subject to Section 5.02(c) hereof, after the Priority Period, the Partnership shall distribute cash on a quarterly (or, at the election of the General Partner, more frequent) basis, in an amount determined by the General Partner in its sole and absolute discretion, to the Partners who are Partners on the Partnership Record Date with respect to such quarter (or other distribution period) in accordance with their respective Percentage Interests on the Partnership Record Date. (c) If a new or existing Partner acquires an additional Partnership Interest in exchange for a Capital Contribution on any date other than a Partnership Record Date, the cash distribution attributable to such additional Partnership Interest relating to the Partnership Record Date next following the issuance of such additional Partnership Interest shall be reduced in the proportion to (i) the number of days that such additional Partnership Interest is held by such Partner bears to (ii) the number of days between such Partnership Record Date and the immediately preceding Partnership Record Date. -21- (d) Notwithstanding any other provision of this Agreement, the General Partner is authorized to take any action that it determines to be necessary or appropriate to cause the Partnership to comply with any withholding requirements established under the Code or any other federal, state or local law including, without limitation, pursuant to Sections 1441, 1442, 1445 and 1446 of the Code. To the extent that the Partnership is required to withhold and pay over to any taxing authority any amount resulting from the allocation or distribution of income to a Partner or assignee (including by reason of Section 1446 of the Code), either (i) if the actual amount to be distributed to the Partner (the "Distributable Amount") equals or exceeds the amount required to be withheld by the Partnership (the "Withheld Amount"), the entire Distributable Amount shall be treated as a distribution of cash to such Partner, or (ii) if the Distributable Amount is less than the Withheld Amount, the excess of the Withheld Amount over the Distributable Amount shall be treated as a loan (a "Partnership Loan") from the Partnership to the Partner on the day the Partnership pays over such amount to a taxing authority. A Partnership Loan shall be repaid through withholding by the Partnership with respect to subsequent distributions to the applicable Partner or assignee. In the event that a Limited Partner (a "Defaulting Limited Partner") fails to pay any amount owed to the Partnership with respect to the Partnership Loan within 15 days after demand for payment thereof is made by the Partnership on the Limited Partner, the General Partner, in its sole and absolute discretion, may elect to make the payment to the Partnership on behalf of such Defaulting Limited Partner. In such event, on the date of payment, the General Partner shall be deemed to have extended a loan (a "General Partner Loan") to the Defaulting Limited Partner in the amount of the payment made by the General Partner and shall succeed to all rights and remedies of the Partnership against the Defaulting Limited Partner as to that amount. Without limitation, the General Partner shall have the right to receive any distributions that otherwise would be made by the Partnership to the Defaulting Limited Partner until such time as the General Partner Loan has been paid in full, and any such distributions so received by the General Partner shall be treated as having been received by the Defaulting Limited Partner and immediately paid to the General Partner. Any amounts treated as a Partnership Loan or a General Partner Loan pursuant to this Section 5.02(d) shall bear interest at the lesser of (i) the base rate on corporate loans at large United States money center commercial banks, as published from time to time in The Wall Street Journal, or (ii) the maximum lawful rate of interest on such obligation, such interest to accrue from the date the Partnership or the General Partner, as applicable, is deemed to extend the loan until such loan is repaid in full. (e) In no event may a Partner receive a distribution of cash with respect to a Partnership Unit if such Partner is entitled to receive a cash dividend as the holder of record of a REIT Share for which all or part of such Partnership Unit has been or will be redeemed. 5.03 REIT Distribution Requirements. The General Partner shall use its reasonable efforts to cause the Partnership to distribute amounts sufficient to enable the General Partner to pay shareholder dividends that will allow the General Partner to (i) meet its distribution requirement for qualification as a REIT as set forth in Section 857 of the Code and (ii) avoid any federal income or excise tax liability imposed by the Code, other than to the extent the General Partner elects to retain and pay income tax on its net capital gain. -21- 5.04 No Right to Distributions in Kind. No Partner shall be entitled to demand property other than cash in connection with any distributions by the Partnership. 5.05 Limitations on Return of Capital Contributions. Notwithstanding any of the provisions of this Article V, no Partner shall have the right to receive, and the General Partner shall not have the right to make, a distribution that includes a return of all or part of a Partner's Capital Contributions, unless after giving effect to the return of a Capital Contribution, the sum of all Partnership liabilities, other than the liabilities to a Partner for the return of his Capital Contribution, does not exceed the fair market value of the Partnership's assets. 5.06 Distributions Upon Liquidation. (a) During the Priority Period, upon liquidation of the Partnership, after payment of, or adequate provision for, debts and obligations of the Partnership, including any Partner loans, any remaining assets of the Partnership shall be distributed in the following order of priority: (i) First, to the General Partner until the General Partner has received an amount equal to the sum of (A) the excess of (I) its cumulative Preferred Return for the current and all prior years over (II) the sum of all prior distributions to the General Partner pursuant to Section 5.02(a)(i) hereof plus (B) an amount equal to the Preference Value per Unit; (ii) Second, to the Limited Partners in accordance with their respective Percentage Interests until each Limited Partner has received an amount equal to (A) the excess of (I) its cumulative Preferred Return for the current and all prior years over (II) the sum of all prior distributions to the Limited Partner pursuant to Section 5.02(a)(ii) hereof plus (B) an amount equal to the Preference Value per Unit; and (iii) Thereafter, to all Partners with positive Capital Accounts in accordance with their respective positive Capital Account balances. (b) After the Priority Period, upon liquidation of the Partnership, after payment of, or adequate provision for, debts and obligations of the Partnership, including any Partner loans, any remaining assets of the Partnership shall be distributed to all Partners with positive Capital Accounts in accordance with their respective positive Capital Account balances. -22- (c) For purposes of Sections 5.06(a)(iii) and 5.06(b), the Capital Account of each Partner shall be determined after the following adjustments: (i) all adjustments made in accordance with Sections 5.01 and 5.02 resulting from Partnership operations and from all sales and dispositions of all or any part of the Partnership's assets, and (ii) allocating to the General Partner an amount equal to the excess of (A) the value of the Partnership Units it received in exchange for Capital Contributions of the proceeds of an issuance of REIT Shares pursuant to Section 4.02(b) hereof over (B) the actual amount of its Capital Contributions pursuant to Section 4.02(b) hereof (i.e., as a result of any underwriters' discount or other expenses paid or incurred in connection with such issuance). (d) Any distributions pursuant to this Section 5.06 shall be made by the end of the Partnership's taxable year in which the liquidation occurs (or, if later, within 90 days after the date of the liquidation). To the extent deemed advisable by the General Partner, appropriate arrangements (including the use of a liquidating trust) may be made to assure that adequate funds are available to pay any contingent debts or obligations. 5.07 Substantial Economic Effect. It is the intent of the Partners that the allocations of Profit and Loss under the Agreement have substantial economic effect (or be consistent with the Partners' interests in the Partnership in the case of the allocation of losses attributable to nonrecourse debt) within the meaning of Section 704(b) of the Code as interpreted by the Regulations promulgated pursuant thereto. Article V and other relevant provisions of this Agreement shall be interpreted in a manner consistent with such intent. ARTICLE VI RIGHTS, OBLIGATIONS AND POWERS OF THE GENERAL PARTNER 6.01 Management of the Partnership. (a) Except as otherwise expressly provided in this Agreement, the General Partner shall have full, complete and exclusive discretion to manage and control the business of the Partnership for the purposes herein stated, and shall make all decisions affecting the business and assets of the Partnership. Subject to the restrictions specifically contained in this Agreement, the powers of the General Partner shall include, without limitation, the authority to take the following actions on behalf of the Partnership: (i) to acquire, purchase, own, operate, lease and dispose of any real property and any other property or assets including, but not limited to, notes and mortgages that the General Partner determines are necessary or appropriate or in the best interests of the business of the Partnership; -23- (ii) to construct buildings and make other improvements on the properties owned or leased by the Partnership; (iii) to authorize, issue, sell, redeem or otherwise purchase any Partnership Interests or any securities (including secured and unsecured debt obligations of the Partnership, debt obligations of the Partnership convertible into any class or series of Partnership Interests, or options, rights, warrants or appreciation rights relating to any Partnership Interests) of the Partnership; (iv) to borrow or lend money for the Partnership, issue or receive evidences of indebtedness in connection therewith, refinance, increase the amount of, modify, amend or change the terms of, or extend the time for the payment of, any such indebtedness, and secure such indebtedness by mortgage, deed of trust, pledge or other lien on the Partnership's assets; (v) to pay, either directly or by reimbursement, for all operating costs and general administrative expenses of the Partnership to third parties or to the General Partner or its Affiliates as set forth in this Agreement; (vi) to guarantee or become a comaker of indebtedness of any Subsidiary of the Company, refinance, increase the amount of, modify, amend or change the terms of, or extend the time for the payment of, any such guarantee or indebtedness, and secure such guarantee or indebtedness by mortgage, deed of trust, pledge or other lien on the Partnership's assets; (vii) to use assets of the Partnership (including, without limitation, cash on hand) for any purpose consistent with this Agreement, including, without limitation, payment, either directly or by reimbursement, of all operating costs and general administrative expenses of the General Partner, the Partnership or any Subsidiary of either, to third parties or to the General Partner as set forth in this Agreement; (viii) to lease all or any portion of any of the Partnership's assets, whether or not the terms of such leases extend beyond the termination date of the Partnership and whether or not any portion of the Partnership's assets so leased are to be occupied by the lessee, or, in turn, subleased in whole or in part to others, for such consideration and on such terms as the General Partner may determine; -24- (ix) to prosecute, defend, arbitrate or compromise any and all claims or liabilities in favor of or against the Partnership, on such terms and in such manner as the General Partner may reasonably determine, and similarly to prosecute, settle or defend litigation with respect to the Partners, the Partnership or the Partnership's assets; provided, however, that the General Partner may not, without the consent of all of the Partners, confess a judgment against the Partnership that is in excess of $20,000 or is not covered by insurance; (x) to file applications, communicate and otherwise deal with any and all governmental agencies having jurisdiction over, or in any way affecting, the Partnership's assets or any other aspect of the Partnership business; (xi) to make or revoke any election permitted or required of the Partnership by any taxing authority; (xii) to maintain such insurance coverage for public liability, fire and casualty, and any and all other insurance for the protection of the Partnership, for the conservation of Partnership assets, or for any other purpose convenient or beneficial to the Partnership, in such amounts and such types, as it shall determine from time to time; (xiii) to determine whether or not to apply any insurance proceeds for any property to the restoration of such property or to distribute the same; (xiv) to establish one or more divisions of the Partnership, to hire and dismiss employees of the Partnership or any division of the Partnership, and to retain legal counsel, accountants, consultants, real estate brokers and such other persons as the General Partner may deem necessary or appropriate in connection with the Partnership business and to pay therefor such reasonable remuneration as the General Partner may deem reasonable and proper; (xv) to retain other services of any kind or nature in connection with the Partnership business, and to pay therefor such remuneration as the General Partner may deem reasonable and proper; (xvi) to negotiate and conclude agreements on behalf of the Partnership with respect to any of the rights, powers and authority conferred upon the General Partner; (xvii) to maintain accurate accounting records and to file promptly all federal, state and local income tax returns on behalf of the Partnership; -25- (xviii) to distribute Partnership cash or other Partnership assets in accordance with this Agreement; (xix) to form or acquire an interest in, and contribute property to, any further limited or general partnerships, joint ventures or other relationships that it deems desirable (including, without limitation, the acquisition of interests in, and the contributions of property to, its Subsidiaries and any other Person in which it has an equity interest from time to time); (xx) to establish Partnership reserves for working capital, capital expenditures, contingent liabilities or any other valid Partnership purpose; (xxi) to merge, consolidate or combine the Partnership with or into another person; (xxii) to do any and all acts and things necessary or prudent to ensure that the Partnership will not be classified as a "publicly traded partnership" for purposes of Section 7704 of the Code; and (xxiii) to take such other action, execute, acknowledge, swear to or deliver such other documents and instruments, and perform any and all other acts that the General Partner deems necessary or appropriate for the formation, continuation and conduct of the business and affairs of the Partnership (including, without limitation, all actions consistent with allowing the General Partner at all times to qualify as a REIT unless the General Partner voluntarily terminates its REIT status) and to possess and enjoy all of the rights and powers of a general partner as provided by the Act. (b) Except as otherwise provided herein, to the extent the duties of the General Partner require expenditures of funds to be paid to third parties, the General Partner shall not have any obligations hereunder except to the extent that partnership funds are reasonably available to it for the performance of such duties, and nothing herein contained shall be deemed to authorize or require the General Partner, in its capacity as such, to expend its individual funds for payment to third parties or to undertake any individual liability or obligation on behalf of the Partnership. 6.02 Delegation of Authority. The General Partner may delegate any or all of its powers, rights and obligations hereunder, and may appoint, employ, contract or otherwise deal with any Person for the transaction of the business of the Partnership, which Person may, under supervision of the General Partner, perform any acts or services for the Partnership as the General Partner may approve. -26- 6.03 Indemnification and Exculpation of Indemnitees. (a) The Partnership shall indemnify an Indemnitee from and against any and all losses, claims, damages, liabilities, joint or several, expenses (including reasonable legal fees and expenses), judgments, fines, settlements, and other amounts arising from any and all claims, demands, actions, suits or proceedings, civil, criminal, administrative or investigative, that relate to the operations of the Partnership as set forth in this Agreement in which any Indemnitee may be involved, or is threatened to be involved, as a party or otherwise, unless it is established that: (i) the act or omission of the Indemnitee was material to the matter giving rise to the proceeding and either was committed in bad faith or was the result of active and deliberate dishonesty; (ii) the Indemnitee actually received an improper personal benefit in money, property or services; or (iii) in the case of any criminal proceeding, the Indemnitee had reasonable cause to believe that the act or omission was unlawful. The termination of any proceeding by judgment, order or settlement does not create a presumption that the Indemnitee did not meet the requisite standard of conduct set forth in this Section 6.03(a). The termination of any proceeding by conviction or upon a plea of nolo contendere or its equivalent, or an entry of an order of probation prior to judgment, creates a rebuttable presumption that the Indemnitee acted in a manner contrary to that specified in this Section 6.03(a). Any indemnification pursuant to this Section 6.03 shall be made only out of the assets of the Partnership. (b) The Partnership shall reimburse an Indemnitee for reasonable expenses incurred by an Indemnitee who is a party to a proceeding in advance of the final disposition of the proceeding upon receipt by the Partnership of (i) a written affirmation by the Indemnitee of the Indemnitee's good faith belief that the standard of conduct necessary for indemnification by the Partnership as authorized in this Section 6.03 has been met, and (ii) a written undertaking by or on behalf of the Indemnitee to repay the amount if it shall ultimately be determined that the standard of conduct has not been met. (c) The indemnification provided by this Section 6.03 shall be in addition to any other rights to which an Indemnitee or any other Person may be entitled under any agreement, pursuant to any vote of the Partners, as a matter of law or otherwise, and shall continue as to an Indemnitee who has ceased to serve in such capacity. (d) The Partnership may purchase and maintain insurance, on behalf of the Indemnitees and such other Persons as the General Partner shall determine, against any liability that may be asserted against or expenses that may be incurred by such Person in connection with the Partnership's activities, regardless of whether the Partnership would have the power to indemnify such Person against such liability under the provisions of this Agreement. -27- (e) For purposes of this Section 6.03, the Partnership shall be deemed to have requested an Indemnitee to serve as fiduciary of an employee benefit plan whenever the performance by it of its duties to the Partnership also imposes duties on, or otherwise involves services by, it to the plan or participants or beneficiaries of the plan; excise taxes assessed on an Indemnitee with respect to an employee benefit plan pursuant to applicable law shall constitute fines within the meaning of this Section 6.03; and actions taken or omitted by the Indemnitee with respect to an employee benefit plan in the performance of its duties for a purpose reasonably believed by it to be in the interest of the participants and beneficiaries of the plan shall be deemed to be for a purpose that is not opposed to the best interests of the Partnership. (f) In no event may an Indemnitee subject the Limited Partners to personal liability by reason of the indemnification provisions set forth in this Agreement. (g) An Indemnitee shall not be denied indemnification in whole or in part under this Section 6.03 because the Indemnitee had an interest in the transaction with respect to which the indemnification applies if the transaction was otherwise permitted by the terms of this Agreement. (h) The provisions of this Section 6.03 are for the benefit of the Indemnitees, their heirs, successors, assigns and administrators and shall not be deemed to create any rights for the benefit of any other Persons. (i) Any amendment, modification or repeal of this Section 6.03 or any provision hereof shall be prospective only and shall not in any way affect the indemnification of an Indemnitee by the Partnership under this Section 6.03 as in effect immediately prior to such amendment, modification or repeal with respect to matters occurring, in whole or in part, prior to such amendment, modification or repeal, regardless of when claims relating to such matters may arise or be asserted. 6.04 Liability of the General Partner. (a) Notwithstanding anything to the contrary set forth in this Agreement, the General Partner shall not be liable for monetary damages to the Partnership or any Partners for losses sustained or liabilities incurred as a result of errors in judgment or of any act or omission if the General Partner acted in good faith. The General Partner shall not be in breach of any duty that the General Partner may owe to the Limited Partners or the Partnership or any other Persons under this Agreement or of any duty stated or implied by law or equity provided the General Partner, acting in good faith, abides by the terms of this Agreement. -28- (b) The Limited Partners expressly acknowledge that the General Partner is acting on behalf of the Partnership and the General Partner's shareholders collectively, that the General Partner is under no obligation to consider the separate interests of the Limited Partners (including, without limitation, the tax consequences to Limited Partners or the tax consequences of some, but not all, of the Limited Partners) in deciding whether to cause the Partnership to take (or decline to take) any actions. In the event of a conflict between the interests of the shareholders of the General Partner on one hand and the Limited Partners on the other, the General Partner shall endeavor in good faith to resolve the conflict in a manner not adverse to either the shareholders of the General Partner or the Limited Partners; provided, however, that for so long as the General Partner owns a controlling interest in the Partnership, any such conflict that the General Partner, in its sole and absolute discretion, determines cannot be resolved in a manner not adverse to either the shareholders of the General Partner or the Limited Partners shall be resolved in favor of the shareholders. The General Partner shall not be liable for monetary damages for losses sustained, liabilities incurred or benefits not derived by Limited Partners in connection with such decisions, provided that the General Partner has acted in good faith. (c) Subject to its obligations and duties as General Partner set forth in Section 6.01 hereof, the General Partner may exercise any of the powers granted to it under this Agreement and perform any of the duties imposed upon it hereunder either directly or by or through its agents. The General Partner shall not be responsible for any misconduct or negligence on the part of any such agent appointed by it in good faith. (d) Notwithstanding any other provisions of this Agreement or the Act, any action of the General Partner on behalf of the Partnership or any decision of the General Partner to refrain from acting on behalf of the Partnership, undertaken in the good faith belief that such action or omission is necessary or advisable in order (i) to protect the ability of the Company to continue to qualify as a REIT or (ii) to prevent the Company from incurring any taxes under Section 857, Section 4981, or any other provision of the Code, is expressly authorized under this Agreement and is deemed approved by all of the Limited Partners. (e) Any amendment, modification or repeal of this Section 6.04 or any provision hereof shall be prospective only and shall not in any way affect the limitations on the General Partner's liability to the Partnership and the Limited Partners under this Section 6.04 as in effect immediately prior to such amendment, modification or repeal with respect to matters occurring, in whole or in part, prior to such amendment, modification or repeal, regardless of when claims relating to such matters may arise or be asserted. -29- 6.05 Partnership Obligations. (a) Except as provided in this Section 6.05 and elsewhere in this Agreement (including the provisions of Articles 5 and 6 regarding distributions, payments and allocations to which it may be entitled), the General Partner shall not be compensated for its services as general partner of the Partnership. (b) All REIT Expenses and Administrative Expenses shall be obligations of the Partnership, and the General Partner shall be entitled to reimbursement by the Partnership for any expenditure (including REIT Expenses and Administrative Expenses) incurred by it on behalf of the Partnership that shall be made other than out of the funds of the Partnership. 6.06 Outside Activities. Subject to Section 6.08 hereof, the Declaration of Trust and any agreements entered into by the General Partner or its Affiliates with the Partnership or a Subsidiary, any officer, director, employee, agent, trustee, Affiliate or shareholder of the General Partner, the General Partner shall be entitled to and may have business interests and engage in business activities in addition to those relating to the Partnership, including business interests and activities substantially similar or identical to those of the Partnership. Neither the Partnership nor any of the Limited Partners shall have any rights by virtue of this Agreement in any such business ventures, interest or activities. None of the Limited Partners nor any other Person shall have any rights by virtue of this Agreement or the partnership relationship established hereby in any such business ventures, interests or activities, and the General Partner shall have no obligation pursuant to this Agreement to offer any interest in any such business ventures, interests and activities to the Partnership or any Limited Partner, even if such opportunity is of a character that, if presented to the Partnership or any Limited Partner, could be taken by such Person. 6.07 Employment or Retention of Affiliates. (a) Any Affiliate of the General Partner may be employed or retained by the Partnership and may otherwise deal with the Partnership (whether as a buyer, lessor, lessee, manager, furnisher of goods or services, broker, agent, lender or otherwise) and may receive from the Partnership any compensation, price or other payment therefor that the General Partner determines to be fair and reasonable. (b) The Partnership may lend or contribute to its Subsidiaries or other Persons in which it has an equity investment, and such Persons may borrow funds from the Partnership, on terms and conditions established in the sole and absolute discretion of the General Partner. The foregoing authority shall not create any right or benefit in favor of any Subsidiary or any other Person. -30- (c) The Partnership may transfer assets to joint ventures, other partnerships, corporations or other business entities in which it is or thereby becomes a participant upon such terms and subject to such conditions as the General Partner deems are consistent with this Agreement and applicable law. (d) Except as expressly permitted by this Agreement, neither the General Partner nor any of its Affiliates shall sell, transfer or convey any property to, or purchase any property from, the Partnership, directly or indirectly, except pursuant to transactions that are on terms that are fair and reasonable to the Partnership. 6.08 General Partner Participation. The General Partner agrees that all business activities of the General Partner, including activities pertaining to the acquisition, development or ownership of hotel property or other property, shall be conducted through the Partnership or one or more Subsidiary Partnerships; provided, however, that the General Partner is allowed to make a direct acquisition, but if and only if, such acquisition is made in connection with the issuance of Additional Securities, which direct acquisition and issuance have been approved and determined to be in the best interests of the General Partner and the Partnership by a majority of the Independent Trustees. 6.09 Title to Partnership Assets. Title to Partnership assets, whether real, personal or mixed and whether tangible or intangible, shall be deemed to be owned by the Partnership as an entity, and no Partner, individually or collectively, shall have any ownership interest in such Partnership assets or any portion thereof. Title to any or all of the Partnership assets may be held in the name of the Partnership, the General Partner or one or more nominees, as the General Partner may determine, including Affiliates of the General Partner. The General Partner hereby declares and warrants that any Partnership assets for which legal title is held in the name of the General Partner or any nominee or Affiliate of the General Partner shall be held by the General Partner for the use and benefit of the Partnership in accordance with the provisions of this Agreement; provided, however, that the General Partner shall use its best efforts to cause beneficial and record title to such assets to be vested in the Partnership as soon as reasonably practicable. All Partnership assets shall be recorded as the property of the Partnership in its books and records, irrespective of the name in which legal title to such Partnership assets is held. 6.10 Miscellaneous. In the event the General Partner redeems any REIT Shares, then the General Partner shall cause the Partnership to purchase from the General Partner a number of Partnership Units as determined based on the application of the Conversion Factor on the same terms that the General Partner redeemed such REIT Shares. Moreover, if the General Partner makes a cash tender offer or other offer to acquire REIT Shares, then the General Partner shall cause the Partnership to make a corresponding offer to the General Partner to acquire an equal number of Partnership Units held by the General Partner. In the event any REIT Shares are redeemed by the General Partner pursuant to such offer, the Partnership shall redeem an equivalent number of the General Partner's Partnership Units for an equivalent purchase price based on the application of the Conversion Factor. -31- ARTICLE VII CHANGES IN GENERAL PARTNER 7.01 Transfer of the General Partner's Partnership Interest. (a) The General Partner shall not transfer all or any portion of its General Partnership Interest or withdraw as General Partner except as provided in or in connection with a transaction contemplated by Section 7.01(c), (d) or (e). (b) The General Partner agrees that its Percentage Interest will at all times be in the aggregate at least 1%. (c) Except as otherwise provided in Section 7.01(d) or (e) hereof, the General Partner shall not engage in any merger, consolidation or other combination with or into another Person or sale of all or substantially all of its assets (other than in connection with a change in the General Partner's state of incorporation or organizational form), in each case which results in a change of control of the General Partner (a "Transaction"), unless: (i) the consent of Limited Partners (other than the General Partner or any Subsidiary) holding more than 50% of the Percentage Interests of the Limited Partners (other than those held by the General Partner or any Subsidiary) is obtained; (ii) as a result of such Transaction all Limited Partners will receive for each Partnership Unit an amount of cash, securities or other property equal to the product of the Conversion Factor and the greatest amount of cash, securities or other property paid in the Transaction to a holder of one REIT Share in consideration of one REIT Share, provided that if, in connection with the Transaction, a purchase, tender or exchange offer ("Offer") shall have been made to and accepted by the holders of more than 50% of the outstanding REIT Shares, each holder of Partnership Units shall be given the option to exchange its Partnership Units for the greatest amount of cash, securities or other property that a Limited Partner would have received had it (A) exercised its Redemption Right and (B) sold, tendered or exchanged pursuant to the Offer the REIT Shares received upon exercise of the Redemption Right immediately prior to the expiration of the Offer; or - 32 - (iii) the General Partner is the surviving entity in the Transaction and either (A) the holders of REIT Shares do not receive cash, securities or other property in the Transaction or (B) all Limited Partners (other than the General Partner or any Subsidiary) receive an amount of cash, securities or other property (expressed as an amount per REIT Share) that is no less than the product of the Conversion Factor and the greatest amount of cash, securities or other property (expressed as an amount per REIT Share) received in the Transaction by any holder of REIT Shares. (d) Notwithstanding Section 7.01(c), the General Partner may merge with or into or consolidate with another entity if immediately after such merger or consolidation (i) substantially all of the assets of the successor or surviving entity (the "Survivor"), other than Partnership Units held by the General Partner, are contributed, directly or indirectly, to the Partnership as a Capital Contribution in exchange for Partnership Units with a fair market value equal to the value of the assets so contributed as determined by the Survivor in good faith and (ii) the Survivor expressly agrees to assume all obligations of the General Partner hereunder. Upon such contribution and assumption, the Survivor shall have the right and duty to amend this Agreement as set forth in this Section 7.01(d). The Survivor shall in good faith arrive at a new method for the calculation of the Cash Amount, the REIT Shares Amount and Conversion Factor for a Partnership Unit after any such merger or consolidation so as to approximate the existing method for such calculation as closely as reasonably possible. Such calculation shall take into account, among other things, the kind and amount of securities, cash and other property that was receivable upon such merger or consolidation by a holder of REIT Shares or options, warrants or other rights relating thereto, and to which a holder of Partnership Units could have acquired had such Partnership Units been exchanged immediately prior to such merger or consolidation. Such amendment to this Agreement shall provide for adjustment to such method of calculation, which shall be as nearly equivalent as may be practicable to the adjustments provided for with respect to the Conversion Factor. The Survivor also shall in good faith modify the definition of REIT Shares and make such amendments to Section 8.05 hereof so as to approximate the existing rights and obligations set forth in Section 8.05 as closely as reasonably possible. The above provisions of this Section 7.01(d) shall similarly apply to successive mergers or consolidations permitted hereunder. In respect of any transaction described in the preceding Paragraph, the General Partner is required to use its commercially reasonable efforts to structure such transaction to avoid causing the Limited Partners to recognize a gain for federal income tax purposes by virtue of the occurrence of or their participation in such transaction, provided such efforts are consistent with the exercise of the Board of Trustees' fiduciary duties to the shareholders of the General Partner under applicable law. (e) Notwithstanding Section 7.01(c), -33- (i) a General Partner may transfer all or any portion of its General Partnership Interest to (A) a wholly-owned Subsidiary of such General Partner or (B) the owner of all of the ownership interests of such General Partner, and following a transfer of all of its General Partnership Interest, may withdraw as General Partner; and (ii) the General Partner may engage in a transaction required by law or by the rules of any national securities exchange on which the REIT Shares are listed to be submitted to the vote of the holders of the REIT Shares. 7.02 Admission of a Substitute or Additional General Partner. A Person shall be admitted as a substitute or additional General Partner of the Partnership only if the following terms and conditions are satisfied: (a) the Person to be admitted as a substitute or additional General Partner shall have accepted and agreed to be bound by all the terms and provisions of this Agreement by executing a counterpart thereof and such other documents or instruments as may be required or appropriate in order to effect the admission of such Person as a General Partner, and a certificate evidencing the admission of such Person as a General Partner shall have been filed for recordation and all other actions required by Section 2.05 hereof in connection with such admission shall have been performed; (b) if the Person to be admitted as a substitute or additional General Partner is a corporation or a partnership, it shall have provided the Partnership with evidence satisfactory to counsel for the Partnership of such Person's authority to become a General Partner and to be bound by the terms and provisions of this Agreement; and (c) counsel for the Partnership shall have rendered an opinion (relying on such opinions from other counsel and the state or any other jurisdiction as may be necessary) that the admission of the Person to be admitted as a substitute or additional General Partner is in conformity with the Act, that none of the actions taken in connection with the admission of such Person as a substitute or additional General Partner will cause (i) the Partnership to be classified other than as a partnership for federal income tax purposes, or (ii) the loss of any Limited Partner's limited liability. -34- 7.03 Effect of Bankruptcy, Withdrawal, Death or Dissolution of a General Partner. (a) Upon the occurrence of an Event of Bankruptcy as to a General Partner (and its removal pursuant to Section 7.04(a) hereof) or the death, withdrawal, removal or dissolution of a General Partner (except that, if a General Partner is on the date of such occurrence a partnership, the withdrawal, death, dissolution, Event of Bankruptcy as to, or removal of a partner in, such partnership shall be deemed not to be a dissolution of such General Partner if the business of such General Partner is continued by the remaining partner or partners), the Partnership shall be dissolved and terminated unless the Partnership is continued pursuant to Section 7.03(b) hereof. The merger of the General Partner with or into any entity that is admitted as a substitute or successor General Partner pursuant to Section 7.02 hereof shall not be deemed to be the withdrawal, dissolution or removal of the General Partner. (b) Following the occurrence of an Event of Bankruptcy as to a General Partner (and its removal pursuant to Section 7.04(a) hereof) or the death, withdrawal, removal or dissolution of a General Partner (except that, if a General Partner is on the date of such occurrence a partnership, the withdrawal, death, dissolution, Event of Bankruptcy as to, or removal of a partner in, such partnership shall be deemed not to be a dissolution of such General Partner if the business of such General Partner is continued by the remaining partner or partners), the Limited Partners, within 90 days after such occurrence, may elect to continue the business of the Partnership for the balance of the term specified in Section 2.04 hereof by selecting, subject to Section 7.02 hereof and any other provisions of this Agreement, a substitute General Partner by consent of a majority in interest of the Limited Partners. If the Limited Partners elect to continue the business of the Partnership and admit a substitute General Partner, the relationship with the Partners and of any Person who has acquired an interest of a Partner in the Partnership shall be governed by this Agreement. 7.04 Removal of a General Partner. (a) Upon the occurrence of an Event of Bankruptcy as to, or the dissolution of, a General Partner, such General Partner shall be deemed to be removed automatically; provided, however, that if a General Partner is on the date of such occurrence a partnership, the withdrawal, death, dissolution, Event of Bankruptcy as to or removal of a partner in such partnership shall be deemed not to be a dissolution of the General Partner if the business of such General Partner is continued by the remaining partner or partners. The Limited Partners may not remove the General Partner, with or without cause. -35- (b) If a General Partner has been removed pursuant to this Section 7.04 and the Partnership is continued pursuant to Section 7.03 hereof, such General Partner shall promptly transfer and assign its General Partnership Interest in the Partnership to the substitute General Partner approved by a majority in interest of the Limited Partners in accordance with Section 7.03(b) hereof and otherwise admitted to the Partnership in accordance with Section 7.02 hereof. At the time of assignment, the removed General Partner shall be entitled to receive from the substitute General Partner the fair market value of the General Partnership Interest of such removed General Partner as reduced by any damages caused to the Partnership by such General Partner. Such fair market value shall be determined by an appraiser mutually agreed upon by the General Partner and a majority in interest of the Limited Partners within 10 days following the removal of the General Partner. In the event that the parties are unable to agree upon an appraiser, the removed General Partner and a majority in interest of the Limited Partners each shall select an appraiser. Each such appraiser shall complete an appraisal of the fair market value of the removed General Partner's General Partnership Interest within 30 days of the General Partner's removal, and the fair market value of the removed General Partner's General Partnership Interest shall be the average of the two appraisals; provided, however, that if the higher appraisal exceeds the lower appraisal by more than 20% of the amount of the lower appraisal, the two appraisers, no later than 40 days after the removal of the General Partner, shall select a third appraiser who shall complete an appraisal of the fair market value of the removed General Partner's General Partnership Interest no later than 60 days after the removal of the General Partner. In such case, the fair market value of the removed General Partner's General Partnership Interest shall be the average of the two appraisals closest in value. (c) The General Partnership Interest of a removed General Partner, during the time after default until transfer under Section 7.04(b), shall be converted to that of a special Limited Partner; provided, however, such removed General Partner shall not have any rights to participate in the management and affairs of the Partnership, and shall not be entitled to any portion of the income, expense, profit, gain or loss allocations or cash distributions allocable or payable, as the case may be, to the Limited Partners. Instead, such removed General Partner shall receive and be entitled only to retain distributions or allocations of such items that it would have been entitled to receive in its capacity as General Partner, until the transfer is effective pursuant to Section 7.04(b). (d) All Partners shall have given and hereby do give such consents, shall take such actions and shall execute such documents as shall be legally necessary and sufficient to effect all the foregoing provisions of this Section. -36- ARTICLE VIII RIGHTS AND OBLIGATIONS OF THE LIMITED PARTNERS 8.01 Management of the Partnership. The Limited Partners shall not participate in the management or control of Partnership business nor shall they transact any business for the Partnership, nor shall they have the power to sign for or bind the Partnership, such powers being vested solely and exclusively in the General Partner. 8.02 Power of Attorney. Each Limited Partner hereby irrevocably appoints the General Partner its true and lawful attorney-in-fact, who may act for each Limited Partner and in its name, place and stead, and for its use and benefit, to sign, acknowledge, swear to, deliver, file or record, at the appropriate public offices, any and all documents, certificates and instruments as may be deemed necessary or desirable by the General Partner to carry out fully the provisions of this Agreement and the Act in accordance with their terms, which power of attorney is coupled with an interest and shall survive the death, dissolution or legal incapacity of the Limited Partner, or the transfer by the Limited Partner of any part or all of its Partnership Interest. 8.03 Limitation on Liability of Limited Partners. No Limited Partner shall be liable for any debts, liabilities, contracts or obligations of the Partnership. A Limited Partner shall be liable to the Partnership only to make payments of its Capital Contribution, if any, as and when due hereunder. After its Capital Contribution is fully paid, no Limited Partner shall, except as otherwise required by the Act, be required to make any further Capital Contributions or other payments or lend any funds to the Partnership. 8.04 Ownership by Limited Partner of Corporate General Partner or Affiliate. No Limited Partner shall at any time, either directly or indirectly, own any stock or other interest in the General Partner or in any Affiliate thereof, if such ownership by itself or in conjunction with other stock or other interests owned by other Limited Partners would, in the opinion of counsel for the Partnership, jeopardize the classification of the Partnership as a partnership for federal income tax purposes. The General Partner shall be entitled to make such reasonable inquiry of the Limited Partners as is required to establish compliance by the Limited Partners with the provisions of this Section. -37- 8.05 Redemption Right. (a) Subject to Sections 8.05(b), 8.05(c), 8.05(d), 8.05(e) and 8.05(f) and the provisions of any agreements between the Partnership and one or more Limited Partners with respect to Partnership Units held by them, each Limited Partner, other than the Company, shall have the right (the "Redemption Right") to require the Partnership to redeem on a Specified Redemption Date all or a portion of the Partnership Units held by such Limited Partner at a redemption price equal to and in the form of the Cash Amount to be paid by the Partnership, provided that such Partnership Units shall have been outstanding for at least one year, except that such Partnership Units issued in connection with the exercise of the warrants granted in connection with the initial public offering of the General Partner shall be immediately redeemable. The Redemption Right shall be exercised pursuant to a Notice of Redemption delivered to the Partnership (with a copy to the General Partner) by the Limited Partner who is exercising the Redemption Right (the "Redeeming Partner"); provided, however, that the Partnership shall not be obligated to satisfy such Redemption Right if the General Partner elects to purchase the Partnership Units subject to the Notice of Redemption or the Redeeming Partner requires the General Partner to purchase the Partnership Units for the REIT Shares Amount pursuant to Section 8.05(b); and provided, further, that no Limited Partner may deliver more than two Notices of Redemption during each calendar year. A Limited Partner may not exercise the Redemption Right for less than 1,000 Partnership Units or, if such Limited Partner holds less than 1,000 Partnership Units, all of the Partnership Units held by such Partner. The Redeeming Partner shall have no right, with respect to any Partnership Units so redeemed, to receive any distribution paid with respect to Partnership Units if the record date for such distribution is on or after the Specified Redemption Date. (b) Notwithstanding the provisions of Section 8.05(a), a Limited Partner that exercises the Redemption Right shall be deemed to have offered to sell the Partnership Units described in the Notice of Redemption to the General Partner, and the General Partner may, in its sole and absolute discretion, elect to purchase directly and acquire such Partnership Units by paying to the Redeeming Partner either the Cash Amount or the REIT Shares Amount, as elected by the General Partner (in its sole and absolute discretion), on the Specified Redemption Date, whereupon the General Partner shall acquire the Partnership Units offered for redemption by the Redeeming Partner and shall be treated for all purposes of this Agreement as the owner of such Partnership Units. If the General Partner shall elect to exercise its right to purchase Partnership Units under this Section 8.05(b) with respect to a Notice of Redemption, it shall so notify the Redeeming Partner within five Business Days after the receipt by the General Partner of such Notice of Redemption. If the General Partner elects to purchase Partnership Units for the REIT Shares Amount during the Priority Period, the REIT Shares Amount shall consist of Class B Common Shares. If the General Partner elects to purchase Partnership Units for the REIT Shares Amount after the Priority Period, the REIT Shares Amount shall consist of Class A Common Shares. -38- Subject to Section 8.05(c) hereof, if the General Partner either (i) does not exercise its right to purchase Partnership Units under this Section 8.05(b) with respect to a Notice of Redemption or (ii) elects to purchase such Partnership Units by paying to the Redeeming Partner the Cash Amount instead of the REIT Shares Amount, then the Redeeming Partner may make a written demand upon the General Partner that the General Partner purchase its Partnership Units for the REIT Shares Amount. In the event the General Partner shall exercise its right to purchase Partnership Units with respect to the exercise of a Redemption Right in the manner described in the first sentence of this Section 8.05(b) or a Redeeming Partner shall make a written demand that the General Partner purchase its Partnership Units for the REIT Shares Amount in the manner described in the preceding sentence, the Partnership shall have no obligation to pay any amount to the Redeeming Partner with respect to such Redeeming Partner's exercise of such Redemption Right, and each of the Redeeming Partner, the Partnership and the General Partner shall treat the transaction between the General Partner and the Redeeming Partner for federal income tax purposes as a sale of the Redeeming Partner's Partnership Units to the General Partner. Each Redeeming Partner agrees to execute such documents as the General Partner may reasonably require in connection with the issuance of REIT Shares upon exercise of the Redemption Right. (c) Notwithstanding the provisions of Section 8.05(a) and 8.05(b), a Limited Partner shall not be entitled to exercise the Redemption Right if the delivery of REIT Shares to such Partner on the Specified Redemption Date by the General Partner pursuant to Section 8.05(b) (regardless of whether or not the General Partner would in fact exercise its rights under Section 8.05(b)) would (i) result in such Partner or any other person owning, directly or indirectly, REIT Shares in excess of the Ownership Limitation (as defined in the Declaration of Trust) and calculated in accordance therewith, except as provided in the Declaration of Trust, (ii) result in REIT Shares being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the General Partner being "closely held" within the meaning of Section 856(h) of the Code, (iv) cause the General Partner to own, directly or constructively, 10% or more of the ownership interests in a tenant of the General Partner's, the Partnership's or a Subsidiary Partnership's real property, within the meaning of Section 856(d)(2)(B) of the Code, or (v) cause the acquisition of REIT Shares by such Partner to be "integrated" with any other distribution of REIT Shares for purposes of complying with the registration provisions of the Securities Act of 1933, as amended (the "Securities Act"). The General Partner, in its sole and absolute discretion, may waive the restriction on redemption set forth in this Section 8.05(c); provided, however, that in the event such restriction is waived, the Redeeming Partner shall be paid the Cash Amount. -39- (d) Any Cash Amount to be paid to a Redeeming Partner pursuant to this Section 8.05 shall be paid on the Specified Redemption Date; provided, however, that the General Partner may elect to cause the Specified Redemption Date to be delayed for up to an additional 90 days to the extent required for the General Partner to cause additional REIT Shares to be issued to provide financing to be used to make such payment of the Cash Amount. Notwithstanding the foregoing, the General Partner agrees to use its best efforts to cause the closing of the acquisition of redeemed Partnership Units hereunder to occur as quickly as reasonably possible. (e) Notwithstanding any other provision of this Agreement, the General Partner is authorized to take any action that it determines to be necessary or appropriate to cause the Partnership to comply with any withholding requirements established under the Code or any other federal, state or local law that apply upon a Redeeming Partner's exercise of the Redemption Right. If a Redeeming Partner believes that it is exempt from such withholding upon the exercise of the Redemption Right, such Partner must furnish the General Partner with a FIRPTA Certificate in the form attached hereto as Exhibit C. If the Partnership or the General Partner is required to withhold and pay over to any taxing authority any amount upon a Redeeming Partner's exercise of the Redemption Right and if the Redemption Amount equals or exceeds the Withheld Amount, the Withheld Amount shall be treated as an amount received by such Partner in redemption of its Partnership Units. If, however, the Redemption Amount is less than the Withheld Amount, the Redeeming Partner shall not receive any portion of the Redemption Amount, the Redemption Amount shall be treated as an amount received by such Partner in redemption of its Partnership Units, and the Partner shall contribute the excess of the Withheld Amount over the Redemption Amount to the Partnership to the Partner before the Partnership is required to pay over such excess to a taxing authority. (f) Notwithstanding any other provision of this Agreement, the General Partner shall place appropriate restrictions on the ability of the Limited Partners to exercise their Redemption Rights as and if deemed necessary to ensure that the Partnership does not constitute a "publicly traded partnership" under section 7704 of the Code. If and when the General Partner determines that imposing such restrictions is necessary, the General Partner shall give prompt written notice thereof (a "Restriction Notice") to each of the Limited Partners, which notice shall be accompanied by a copy of an opinion of counsel to the Partnership that states that, in the opinion of such counsel, restrictions are necessary in order to avoid the Partnership being treated as a "publicly traded partnership" under section 7704 of the Code. 8.06 Registration. Subject to the terms of any agreement between the General Partner and one or more Limited Partners with respect to Partnership Units held by them: -40- (a) Shelf Registration of the Common Stock. The General Partner agrees to file with the Securities and Exchange Commission (the "Commission") a shelf registration statement under Rule 415 of the Securities Act (a "Registration Statement"), or any similar rule that may be adopted by the Commission, covering the resale of all of the Common Shares that may be issued upon redemption of such Partnership Units pursuant to Section 8.05 hereof ("Redemption Shares") in the event that the Limited Partners, as a group, request registration covering the resale of at least 250,000 Common Shares; provided however, that only two such registrations may occur each year. The Limited Partners may request "piggyback" registration of their Redemption Shares. If, during the prior two years there has not been an opportunity for a piggyback registration, the Limited Partners holding Units redeemable for at least 50,000 Common Shares may request a registration of those shares. Upon any of such requests, the Company will: (i) provide written notice (the "Notice") of such request within 10 days of the receipt of such request to the Limited Partners not a party to the request; (ii) use its best efforts to have such Registration Statement declared effective and to keep it effective for a period of 180 days (the "Effective Period"); (iii) give each holder of Redemption Shares, their underwriters, if any, and their counsel and accountants a reasonable opportunity to participate in the preparation of the Registration Statement and give such persons reasonable access to its books, records, officers and independent public accountants; (iv) furnish to each holder of Redemption Shares such numbers of copies of prospectuses, and supplements or amendments thereto, and such other documents as such holder reasonably requests; (v) register or qualify the securities covered by the Registration Statement under the securities or blue sky laws of such jurisdictions within the United States as any holder of Redemption Shares shall reasonably request, and do such other reasonable acts and things as may be required of it to enable such holders to consummate the sale or other disposition in such jurisdictions of the Redemption Shares; provided, however, that the General Partner shall not be required to (i) qualify as a foreign corporation or consent to a general or unlimited service or process in any jurisdictions in which it would not otherwise be required to be qualified or so consent or (ii) qualify as a dealer in securities; (vi) furnish, at the request of the holders of Redemption Shares, on the date Redemption Shares are delivered to the Underwriters for sale pursuant to such registration, or, if such Redemption Shares are not being sold through underwriters, on the date the Registration Statement with respect to such Redemption Shares becomes effective, (A) a securities opinion of counsel representing the General Partner for the purposes of such registration covering such legal matters as are customarily included in such opinions and (B) letters of the firm of independent public accountants that certified the financial statements included in the Registration Statement, addressed to the underwriters, covering substantially the same matters as are customarily covered in accountants' letters delivered to underwriters in underwritten public offerings of securities and such other financial matters as such holders (or the underwriters, if any) may reasonably request; -41- (vii) otherwise use its best efforts to comply with all applicable rules and regulations of the Commission; (viii) enter into and perform an underwriting agreement with the managing underwriter, if any, selected as provided herein, containing customary (A) terms of offer and sale of the securities, payment provisions, underwriting discounts and commissions and (B) representations, warranties, covenants, indemnities, terms and conditions; and (ix) keep the holders of the Redemption Shares advised as to the initiation and progress of the registration. The General Partner further agrees to supplement or make amendments to each Registration Statement, if required by the rules, regulations or instructions applicable to the registration form utilized by the General Partner or by the Securities Act or rules and regulations thereunder for such Registration Statement. Notwithstanding the foregoing, if for any reason the effectiveness of a Registration Statement is delayed or suspended or it ceases to be available for sales of Redemption Shares thereunder, the Effective Period shall be extended by the aggregate number of days of such delay, suspension or unavailability. (b) Listing on Securities Exchange. If the General Partner shall list or maintain the listing of any Common Shares on any securities exchange or national market system, it will at its expense and as necessary to permit the registration and sale of the Redemption Shares hereunder, list thereon, maintain and, when necessary, increase such listing to include such Redemption Shares. (c) Registration Not Required. Notwithstanding the foregoing, the General Partner shall not be required to file or maintain the effectiveness of a registration statement relating to Redemption Shares after the first date upon which, in the opinion of counsel to the General Partner, all of the Redemption Shares covered thereby could be sold by the holders thereof in any period of three months pursuant to Rule 144 under the Securities Act, or any successor rule thereto. -42- (d) Allocation of Expenses. The Partnership shall pay all expenses in connection with the Registration Statement, including without limitation (i) all expenses incident to filing with the National Association of Securities Dealers, Inc., (ii) registration fees, (iii) printing expenses, (iv) accounting and legal fees and expenses, except to the extent holders of Redemption Shares elect to engage accountants or attorneys in addition to the accountants and attorneys engaged by the General Partner or the Partnership, (v) accounting expenses incident to or required by any such registration or qualification and (vi) expenses of complying with the securities or blue sky laws of any jurisdictions in connection with such registration or qualification; provided, however, the Partnership shall not be liable for (A) any discounts or commissions to any underwriter or broker attributable to the sale of Redemption Shares, or (B) any fees or expenses incurred by holders of Redemption Shares in connection with such registration that, according to the written instructions of any regulatory authority, the Partnership is not permitted to pay. (e) Indemnification. (i) In connection with the Registration Statement, the General Partner and the Partnership agree to indemnify holders of Redemption Shares within the meaning of Section 15 of the Securities Act, against all losses, claims, damages, liabilities and expenses (including reasonable costs of investigation) caused by any untrue, or alleged untrue, statement of a material fact contained in the Registration Statement, preliminary prospectus or prospectus (as amended or supplemented if the General Partner shall have furnished any amendments or supplements thereto) or caused by any omission or alleged omission, to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, liabilities or expenses are caused by any untrue statement, alleged untrue statement, omission, or alleged omission based upon information furnished to the General Partner expressly for use therein. The General Partner and each officer, director and controlling person of the General Partner shall be indemnified by each holder of Redemption Shares covered by the Registration Statement for all such losses, claims, damages, liabilities and expenses (including reasonable costs of investigation) caused by any such untrue, or alleged untrue, statement or any such omission, or alleged omission, based upon information furnished to the General Partner expressly for use therein in a writing signed by the holder. (ii) Promptly upon receipt by a party indemnified under this Section 8.06(e) of notice of the commencement of any action against such indemnified party in respect of which indemnity or reimbursement may be sought against any indemnifying party under this Section 8.06(e), such indemnified party shall notify the General Partner in writing of the commencement of such action, but the failure to so notify the General Partner shall not relieve it of any liability that it may have to any indemnified party otherwise than under this Section 8.06(e) unless such failure shall materially adversely affect the defense of such action. In case notice of commencement of any such action shall be given to the General Partner as above provided, the General Partner shall be entitled to participate in and, to the extent it may wish, jointly with any other indemnifying party similarly notified, to assume the defense of such action at its own expense, with counsel chosen by it and reasonably satisfactory to such indemnified party. The indemnified party shall have the right to employ separate counsel in any such action and participate in the defense thereof, but the fees and expenses of such counsel (other than reasonable costs of investigation) shall be paid by the indemnified party unless (i) the General Partner or the Partnership agrees to pay the same, (ii) the General Partner fails to assume the defense of such action with counsel reasonably satisfactory to the indemnified party or (iii) the named parties to any such action (including any impleaded parties) have been advised by such counsel that representation of such indemnified party and the General Partner by the same counsel would be inappropriate under applicable standards of professional conduct (in which case the General Partner shall not have the right to assume the defense of such action on behalf of such indemnified party). No indemnifying party shall be liable for any settlement entered into without its consent. -43- (f) Contribution. (i) If for any reason the indemnification provisions contemplated by Section 8.06(e) are either unavailable or insufficient to hold harmless an indemnified party in respect of any losses, claims, damages or liabilities referred to therein, then the party that would otherwise be required to provide indemnification or the indemnifying party (in either case, for purposes of this Section 8.06(f), the "Indemnifying Party") in respect of such losses, claims, damages or liabilities, shall contribute to the amount paid or payable by the party that would otherwise be entitled to indemnification or the indemnified party (in either case, for purposes of this Section 8.06(f), the "Indemnified Party") as a result of such losses, claims, damages, liabilities or expense, in such proportion as is appropriate to reflect the relative fault of the Indemnifying Party and the Indemnified Party, as well as any other relevant equitable considerations. The relative fault of the Indemnifying Party and Indemnified Party shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or omission or alleged omission to state a material fact related to information supplied by the Indemnifying Party or Indemnified Party, and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The amount paid or payable by a party as a result of the losses, claims, damages, liabilities and expenses referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by such party. In no event shall any holder of Redemption Shares covered by the Registration Statement be required to contribute an amount greater than the dollar amount of the proceeds received by such holder from the sale of Redemption Shares pursuant to the registration giving rise to the liability. (ii) The parties hereto agree that it would not be just and equitable if contribution pursuant to this Section 8.06(f) were determined by pro rata allocation (even if the holders or any underwriters or all of them were treated as one entity for such purpose) or by any other method of allocation that does not take account of the equitable considerations referred to in the immediately preceding paragraph. No person or entity determined to have committed a fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any person or entity who was not guilty of such fraudulent misrepresentation. -44- (iii) The contribution provided for in this Section 8.06(f) shall survive the termination of this Agreement and shall remain in full force and effect regardless of any investigation made by or on behalf of any Indemnified Party. ARTICLE IX TRANSFERS OF LIMITED PARTNERSHIP INTERESTS 9.01 Purchase for Investment. (a) Each Limited Partner hereby represents and warrants to the General Partner and to the Partnership that the acquisition of his Partnership Interests is made as a principal for his account for investment purposes only and not with a view to the resale or distribution of such Partnership Interest. (b) Each Limited Partner agrees that he will not sell, assign or otherwise transfer his Partnership Interest or any fraction thereof, whether voluntarily or by operation of law or at judicial sale or otherwise, to any Person who does not make the representations and warranties to the General Partner set forth in Section 9.01(a) above and similarly agree not to sell, assign or transfer such Partnership Interest or fraction thereof to any Person who does not similarly represent, warrant and agree. 9.02 Restrictions on Transfer of Limited Partnership Interests. (a) Subject to the provisions of Sections 9.02(b), (c) and (d), no Limited Partner may offer, sell, assign, hypothecate, pledge or otherwise transfer all or any portion of his Limited Partnership Interest, or any of such Limited Partner's economic rights as a Limited Partner, whether voluntarily or by operation of law or at judicial sale or otherwise (collectively, a "Transfer") without the consent of the General Partner, which consent may be granted or withheld in its sole and absolute discretion. Any such purported transfer undertaken without such consent shall be considered to be null and void ab initio and shall not be given effect. Each Original Limited Partner acknowledges that the General Partner has agreed not to grant any such consent prior to the Transfer Restriction Date. The General Partner may require, as a condition of any Transfer to which it consents, that the transferor assume all costs incurred by the Partnership in connection therewith. -45- (b) No Limited Partner may withdraw from the Partnership other than as a result of a permitted Transfer (i.e., a Transfer consented to as contemplated by clause (a) above or clause (c) below or a Transfer pursuant to Section 9.05 below) of all of his Partnership Units pursuant to this Article IX or pursuant to a redemption of all of his Partnership Units pursuant to Section 8.05. Upon the permitted Transfer or redemption of all of a Limited Partner's Partnership Units, such Limited Partner shall cease to be a Limited Partner. (c) Subject to Sections 9.02(d), (e) and (f) below, a Limited Partner may Transfer, with the consent of the General Partner, all or a portion of his Partnership Units to (i) a parent or parent's spouse, natural or adopted descendant or descendants, spouse of such descendant, or brother or sister, or a trust created by such Limited Partner for the benefit of such Limited Partner and/or any such person(s), of which trust such Limited Partner or any such person(s) is a trustee, (ii) a corporation, partnership or limited liability company controlled by a Person or Persons named in (i) above or (iii) if the Limited Partner is an entity, its beneficial owners. (d) No Limited Partner may effect a Transfer of its Limited Partnership Interest, in whole or in part, if, in the opinion of legal counsel for the Partnership, such proposed Transfer would require the registration of the Limited Partnership Interest under the Securities Act or would otherwise violate any applicable federal or state securities or blue sky law (including investment suitability standards). (e) No Transfer by a Limited Partner of its Partnership Units, in whole or in part, may be made to any Person if (i) in the opinion of legal counsel for the Partnership, the transfer would result in the Partnership's being treated as an association taxable as a corporation (other than a qualified REIT subsidiary within the meaning of Section 856(i) of the Code), (ii) in the opinion of legal counsel for the Partnership, it would adversely affect the ability of the Company to continue to qualify as a REIT or subject the Company to any additional taxes under Section 857 or Section 4981 of the Code or (iii) such transfer is effectuated through an "established securities market" or a "secondary market (or the substantial equivalent thereof)" within the meaning of Section 7704 of the Code. (f) No transfer of any Partnership Units may be made to a lender to the Partnership or any Person who is related (within the meaning of Regulations Section 1.752- 4(b)) to any lender to the Partnership whose loan constitutes a nonrecourse liability (within the meaning of Regulations Section 1.752-1(a)(2)), without the consent of the General Partner, which may be withheld in its sole and absolute discretion, provided that as a condition to such consent the lender will be required to enter into an arrangement with the Partnership and the General Partner to exchange or redeem for the Cash Amount any Partnership Units in which a security interest is held simultaneously with the time at which such lender would be deemed to be a partner in the Partnership for purposes of allocating liabilities to such lender under Section 752 of the Code. - 46 - (g) Any Transfer in contravention of any of the provisions of this Article IX shall be void and ineffectual and shall not be binding upon, or recognized by, the Partnership. (h) Prior to the consummation of any Transfer under this Article IX, the transferor and/or the transferee shall deliver to the General Partner such opinions, certificates and other documents as the General Partner shall request in connection with such Transfer. 9.03 Admission of Substitute Limited Partner. (a) Subject to the other provisions of this Article IX, an assignee of the Limited Partnership Interest of a Limited Partner (which shall be understood to include any purchaser, transferee, donee or other recipient of any disposition of such Limited Partnership Interest) shall be deemed admitted as a Limited Partner of the Partnership only with the consent of the General Partner and upon the satisfactory completion of the following: (i) The assignee shall have accepted and agreed to be bound by the terms and provisions of this Agreement by executing a counterpart or an amendment thereof, including a revised Exhibit A, and such other documents or instruments as the General Partner may require in order to effect the admission of such Person as a Limited Partner. (ii) To the extent required, an amended Certificate evidencing the admission of such Person as a Limited Partner shall have been signed, acknowledged and filed for record in accordance with the Act. (iii) The assignee shall have delivered a letter containing the representation set forth in Section 9.01(a) hereof and the agreement set forth in Section 9.01(b) hereof. (iv) If the assignee is a corporation, partnership or trust, the assignee shall have provided the General Partner with evidence satisfactory to counsel for the Partnership of the assignee's authority to become a Limited Partner under the terms and provisions of this Agreement. (v) The assignee shall have executed a power of attorney containing the terms and provisions set forth in Section 8.02 hereof. (vi) The assignee shall have paid all legal fees and other expenses of the Partnership and the General Partner and filing and publication costs in connection with its substitution as a Limited Partner. - 47 - (vii) The assignee has obtained the prior written consent of the General Partner to its admission as a may be given or denied in the exercise of the General Partner's sole and absolute discretion. (b) For the purpose of allocating Profits and Losses and distributing cash received by the Partnership, a Substitute Limited Partner shall be treated as having become, and appearing in the records of the Partnership as, a Partner upon the filing of the Certificate described in Section 9.03(a)(ii) hereof or, if no such filing is required, the later of the date specified in the transfer documents or the date on which the General Partner has received all necessary instruments of transfer and substitution. (c) The General Partner shall cooperate with the Person seeking to become a Substitute Limited Partner by preparing the documentation required by this Section and making all official filings and publications. The Partnership shall take all such action as promptly as practicable after the satisfaction of the conditions in this Article IX to the admission of such Person as a Limited Partner of the Partnership. 9.04 Rights of Assignees of Partnership Interests. (a) Subject to the provisions of Sections 9.01 and 9.02 hereof, except as required by operation of law, the Partnership shall not be obligated for any purposes whatsoever to recognize the assignment by any Limited Partner of its Partnership Interest until the Partnership has received notice thereof. (b) Any Person who is the assignee of all or any portion of a Limited Partner's Limited Partnership Interest, but does not become a Substitute Limited Partner and desires to make a further assignment of such Limited Partnership Interest, shall be subject to all the provisions of this Article IX to the same extent and in the same manner as any Limited Partner desiring to make an assignment of its Limited Partnership Interest. -48- 9.05 Effect of Bankruptcy, Death, Incompetence or Termination of a Limited Partner. The occurrence of an Event of Bankruptcy as to a Limited Partner, the death of a Limited Partner or a final adjudication that a Limited Partner is incompetent (which term shall include, but not be limited to, insanity) shall not cause the termination or dissolution of the Partnership, and the business of the Partnership shall continue if an order for relief in a bankruptcy proceeding is entered against a Limited Partner, the trustee or receiver of his estate or, if he dies, his executor, administrator or trustee, or, if he is finally adjudicated incompetent, his committee, guardian or conservator, shall have the rights of such Limited Partner for the purpose of settling or managing his estate property and such power as the bankrupt, deceased or incompetent Limited Partner possessed to assign all or any part of his Partnership Interest and to join with the assignee in satisfying conditions precedent to the admission of the assignee as a Substitute Limited Partner. 9.06 Joint Ownership of Interests. A Partnership Interest may be acquired by two individuals as joint tenants with right of survivorship, provided that such individuals either are married or are related and share the same home as tenants in common. The written consent or vote of both owners of any such jointly held Partnership Interest shall be required to constitute the action of the owners of such Partnership Interest; provided, however, that the written consent of only one joint owner will be required if the Partnership has been provided with evidence satisfactory to the counsel for the Partnership that the actions of a single joint owner can bind both owners under the applicable laws of the state of residence of such joint owners. Upon the death of one owner of a Partnership Interest held in a joint tenancy with a right of survivorship, the Partnership Interest shall become owned solely by the survivor as a Limited Partner and not as an assignee. The Partnership need not recognize the death of one of the owners of a jointly-held Partnership Interest until it shall have received notice of such death. Upon notice to the General Partner from either owner, the General Partner shall cause the Partnership Interest to be divided into two equal Partnership Interests, which shall thereafter be owned separately by each of the former owners. -49- ARTICLE X BOOKS AND RECORDS; ACCOUNTING; TAX MATTERS 10.01 Books and Records. At all times during the continuance of the Partnership, the Partners shall keep or cause to be kept at the Partnership's specified office true and complete books of account in accordance with generally accepted accounting principles, including: (a) a current list of the full name and last known business address of each Partner, (b) a copy of the Certificate of Limited Partnership and all certificates of amendment thereto, (c) copies of the Partnership's federal, state and local income tax returns and reports, (d) copies of the Agreement and any financial statements of the Partnership for the three most recent years and (e) all documents and information required under the Act. Any Partner or its duly authorized representative, upon paying the costs of collection, duplication and mailing, shall be entitled to inspect or copy such records during ordinary business hours. 10.02 Custody of Partnership Funds; Bank Accounts. (a) All funds of the Partnership not otherwise invested shall be deposited in one or more accounts maintained in such banking or brokerage institutions as the General Partner shall determine, and withdrawals shall be made only on such signature or signatures as the General Partner may, from time to time, determine. (b) All deposits and other funds not needed in the operation of the business of the Partnership may be invested by the General Partner in investment grade instruments (or investment companies whose portfolio consists primarily thereof), government obligations, certificates of deposit, bankers' acceptances and municipal notes and bonds. The funds of the Partnership shall not be commingled with the funds of any other Person except for such commingling as may necessarily result from an investment in those investment companies permitted by this Section 10.02(b). 10.03 Fiscal and Taxable Year. The fiscal and taxable year of the Partnership shall be the calendar year. 10.04 Annual Tax Information and Report. Within 75 days after the end of each fiscal year of the Partnership, the General Partner shall furnish to each person who was a Limited Partner at any time during such year the tax information necessary to file such Limited Partner's individual tax returns as shall be reasonably required by law. -50- 10.05 Tax Matters Partner; Tax Elections; Special Basis Adjustments. (a) The General Partner shall be the Tax Matters Partner of the Partnership within the meaning of Section 6231(a)(7) of the Code. As Tax Matters Partner, the General Partner shall have the right and obligation to take all actions authorized and required, respectively, by the Code for the Tax Matters Partner. The General Partner shall have the right to retain professional assistance in respect of any audit of the Partnership by the Service and all out-of-pocket expenses and fees incurred by the General Partner on behalf of the Partnership as Tax Matters Partner shall constitute Partnership expenses. In the event the General Partner receives notice of a final Partnership adjustment under Section 6223(a)(2) of the Code, the General Partner shall either (i) file a court petition for judicial review of such final adjustment within the period provided under Section 6226(a) of the Code, a copy of which petition shall be mailed to all Limited Partners on the date such petition is filed, or (ii) mail a written notice to all Limited Partners, within such period, that describes the General Partner's reasons for determining not to file such a petition. (b) All elections required or permitted to be made by the Partnership under the Code or any applicable state or local tax law shall be made by the General Partner in its sole and absolute discretion. (c) In the event of a transfer of all or any part of the Partnership Interest of any Partner, the Partnership, at the option of the General Partner, may elect pursuant to Section 754 of the Code to adjust the basis of the Properties. Notwithstanding anything contained in Article V of this Agreement, any adjustments made pursuant to Section 754 shall affect only the successor in interest to the transferring Partner and in no event shall be taken into account in establishing, maintaining or computing Capital Accounts for the other Partners for any purpose under this Agreement. Each Partner will furnish the Partnership with all information necessary to give effect to such election. 10.06 Reports to Limited Partners. (a) As soon as practicable after the close of each fiscal quarter (other than the last quarter of the fiscal year), the General Partner shall cause to be mailed to each Limited Partner a quarterly report containing financial statements of the Partnership, or of the General Partner if such statements are prepared solely on a consolidated basis with the General Partner, for such fiscal quarter, presented in accordance with generally accepted accounting principles. As soon as practicable after the close of each fiscal year, the General Partner shall cause to be mailed to each Limited Partner an annual report containing financial statements of the Partnership, or of the General Partner if such statements are prepared solely on a consolidated basis with the General Partner, for such fiscal year, presented in accordance with generally accepted accounting principles. The annual financial statements shall be audited by accountants selected by the General Partner. -51- (b) Any Partner shall further have the right to a private audit of the books and records of the Partnership, provided such audit is made for Partnership purposes, at the expense of the Partner desiring it and is made during normal business hours. ARTICLE XI AMENDMENT OF AGREEMENT; MERGER The General Partner's consent shall be required for any amendment to this Agreement. The General Partner, without the consent of the Limited Partners, may amend this Agreement in any respect ; provided, however, that the following amendments shall require the consent of Limited Partners (other than the General Partner or any Subsidiary) holding more than 50% of the Percentage Interests of the Limited Partners (other than the General Partner or any Subsidiary): (a) any amendment affecting the operation of the Conversion Factor or the Redemption Right (except as provided in Section 8.05(d) or 7.01(d) hereof) in a manner adverse to the Limited Partners; (b) any amendment that would adversely affect the rights of the Limited Partners to receive the distributions payable to them hereunder, other than with respect to the issuance of additional Partnership Units pursuant to Section 4.02 hereof; (c) any amendment that would alter the Partnership's allocations of Profit and Loss to the Limited Partners, other than with respect to the issuance of additional Partnership Units pursuant to Section 4.02 hereof; (d) any amendment that would impose on the Limited Partners any obligation to make additional Capital Contributions to the Partnership; or (e) any amendment to this Article XI. The General Partner, without the consent of the Limited Partners, may (i) merge or consolidate the Partnership with or into any other domestic or foreign partnership, limited partnership, limited liability company or corporation in a transaction pursuant to Section 7.01(c), (d) or (e) hereof, or (ii) sell the assets of the Partnership; provided, however, that, during the Consent Period, any merger, consolidation, or sale of all or substantially all of the assets of the Partnership shall require the consent of Partners holding at least 67% of the Partnership Interests. -52- ARTICLE XII GENERAL PROVISIONS 12.01 Notices. All communications required or permitted under this Agreement shall be in writing and shall be deemed to have been given when delivered personally or upon deposit in the United States mail, registered, postage prepaid return receipt requested, to the Partners at the addresses set forth in Exhibit A attached hereto; provided, however, that any Partner may specify a different address by notifying the General Partner in writing of such different address. Notices to the Partnership shall be delivered at or mailed to its specified office. 12.02 Survival of Rights. Subject to the provisions hereof limiting transfers, this Agreement shall be binding upon and inure to the benefit of the Partners and the Partnership and their respective legal representatives, successors, transferees and assigns. 12.03 Additional Documents. Each Partner agrees to perform all further acts and execute, swear to, acknowledge and deliver all further documents that may be reasonable, necessary, appropriate or desirable to carry out the provisions of this Agreement or the Act. 12.04 Severability. If any provision of this Agreement shall be declared illegal, invalid or unenforceable in any jurisdiction, then such provision shall be deemed to be severable from this Agreement (to the extent permitted by law) and in any event such illegality, invalidity or unenforceability shall not affect the remainder hereof. 12.05 Entire Agreement. This Agreement and exhibits attached hereto constitute the entire Agreement of the Partners and supersede all prior written agreements and prior and contemporaneous oral agreements, understandings and negotiations with respect to the subject matter hereof. 12.06 Pronouns and Plurals. When the context in which words are used in the Agreement indicates that such is the intent, words in the singular number shall include the plural and the masculine gender shall include the neuter or female gender as the context may require. 12.07 Headings. The Article headings or sections in this Agreement are for convenience only and shall not be used in construing the scope of this Agreement or any particular Article. -53- 12.08 Counterparts. This Agreement may be executed in several counterparts, each of which shall be deemed to be an original copy and all of which together shall constitute one and the same instrument binding on all parties hereto, notwithstanding that all parties shall not have signed the same counterpart. 12.09 Governing Law. This Agreement shall be governed by and construed in accordance with the laws of the Commonwealth of Virginia. IN WITNESS WHEREOF, the parties hereto have hereunder affixed their signatures to this Amended and Restated Agreement of Limited Partnership, all as of the ___ day of __________, 1998. GENERAL PARTNER HERSHA HOSPITALITY TRUST By: _______________________________ Name:______________________ Title: ____________________ LIMITED PARTNERS - 55 - EXHIBIT A
Agreed Value of Cash Capital Partnership Percentage Partner Contribution Contribution Units Interest - -------- ------------- ------------ ----- -------- General Partner: Hersha Hospitality Trust 148 Sheraton Drive, Box A New Cumberland, PA 17070 Limited Partners:
EXHIBIT B NOTICE OF EXERCISE OF REDEMPTION RIGHT In accordance with Section 8.05 of the Amended and Restated Agreement of Limited Partnership (the "Agreement") of Hersha Hospitality Limited Partnership, the undersigned hereby irrevocably (i) presents for redemption ________ Partnership Units in Hersha Hospitality Limited Partnership in accordance with the terms of the Agreement and the Redemption Right referred to in Section 8.05 thereof, (ii) surrenders such Partnership Units and all right, title and interest therein and (iii) directs that the Cash Amount or REIT Shares Amount (as defined in the Agreement) as determined by the General Partner deliverable upon exercise of the Redemption Right be delivered to the address specified below, and if REIT Shares (as defined in the Agreement) are to be delivered, such REIT Shares be registered or placed in the name(s) and at the address(es) specified below. Dated:________ __, _____ Name of Limited Partner: ------------------------------ (Signature of Limited Partner) ------------------------------ (Mailing Address) ------------------------------ (City) (State) (Zip Code) Signature Guaranteed by: ------------------------------ If REIT Shares are to be issued, issue to: Please insert social security or identifying number: Name: REQUEST TO RECEIVE REIT SHARES AMOUNT In accordance with Section 8.05(b) of the Amended and Restated Agreement of Limited Partnership (the "Agreement") of Hersha Hospitality Limited Partnership, the undersigned hereby demands that Hersha Hospitality Trust purchase ________ Partnership Units in Hersha Hospitality Limited Partnership in accordance with the terms of the Agreement and the Redemption Right referred to in Section 8.05 thereof. In connection with this demand, the undersigned hereby surrenders such Partnership Units and all right, title and interest therein and directs that the REIT Shares Amount (as defined in the Agreement) as determined by the General Partner deliverable upon exercise of the Redemption Right be delivered to the address specified below, and that such REIT Shares be registered or placed in the name(s) and at the address(es) specified below. Dated:________ __, _____ Name of Limited Partner: ------------------------------ (Signature of Limited Partner) ------------------------------ (Mailing Address) ------------------------------ (City) (State) (Zip Code) Signature Guaranteed by: ------------------------------ If REIT Shares are to be issued, issue to: Please insert social security or identifying number: Name: EXHIBIT C For Redeeming Partners that are entities: CERTIFICATION OF NON-FOREIGN STATUS Under section 1445(e) of the Internal Revenue Code of 1986, as amended (the "Code"), in the event of a disposition by a non-U.S. person of a partnership interest in a partnership in which (i) 50% or more of the value of the gross assets consists of United States real property interests ("USRPIs"), as defined in section 897(c) of the Code, and (ii) 90% or more of the value of the gross assets consists of USRPIs, cash, and cash equivalents, the transferee will be required to withhold 10% of the amount realized by the non-U.S. person upon the disposition. To inform Innkeepers USA Trust (the "Company") and Innkeepers USA Limited Partnership (the "Partnership") that no withholding is required with respect to the redemption by ____________ ("Partner") of its units of limited partnership interest in the Partnership, the undersigned hereby certifies the following on behalf of Partner: 1. Partner is not a foreign corporation, foreign partnership, foreign trust, or foreign estate, as those terms are defined in the Code and the Treasury regulations thereunder. 2. The U.S. employer identification number of Partner is _____________. 3. The principal business address of Partner is: _____________________________________ __________________________ and Partner's place of incorporation is __________. 4. Partner agrees to inform the Company if it becomes a foreign person at any time during the three-year period immediately following the date of this notice. 5. Partner understands that this certification may be disclosed to the Internal Revenue Service by the Company and that any false statement contained herein could be punished by fine, imprisonment, or both. PARTNER By: _______________________________ Name: _____________________________ Its: ______________________________ Under penalties of perjury, I declare that I have examined this certification and, to the best of my knowledge and belief, it is true, correct, and complete, and I further declare that I have authority to sign this document on behalf of Partner. Date: _________________ [NAME] ------------------------------- Title For Redeeming Partners that are individuals: CERTIFICATION OF NON-FOREIGN STATUS Under section 1445(e) of the Internal Revenue Code of 1986, as amended (the "Code"), in the event of a disposition by a non-U.S. person of a partnership interest in a partnership in which (i) 50% or more of the value of the gross assets consists of United States real property interests ("USRPIs"), as defined in section 897(c) of the Code, and (ii) 90% or more of the value of the gross assets consists of USRPIs, cash, and cash equivalents, the transferee will be required to withhold 10% of the amount realized by the non-U.S. person upon the disposition. To inform Innkeepers USA Trust (the "Company") and Innkeepers USA Limited Partnership (the "Partnership") that no withholding is required with respect to my redemption of my units of limited partnership interest in the Partnership, I, ___________, hereby certify the following: 1. I am not a nonresident alien for purposes of U.S. income taxation. 2. My U.S. taxpayer identification number (social security number) is _____________. 3. My home address is: _____________________________________________________ . 4. I agree to inform the Company promptly if I become a nonresident alien at any time during the three-year period immediately following the date of this notice. 5. I understand that this certification may be disclosed to the Internal Revenue Service by the Company and that any false statement contained herein could be punished by fine, imprisonment, or both. _______________________________ Name: Under penalties of perjury, I declare that I have examined this certification and, to the best of my knowledge and belief, it is true, correct, and complete. Date: _________________ ________________________________ Name:
EX-18 5 EXHIBIT 10.18 Exhibit 10.18 LEASE AGREEMENT DATED AS OF _________ __, 1998 BETWEEN [HERSHA HOSPITALITY LIMITED PARTNERSHIP] AS LESSOR AND HERSHA HOSPITALITY MANAGEMENT, L.P. AS LESSEE IN CONNECTION WITH THE _______________ HOTEL TABLE OF CONTENTS ----------------- ARTICLE 1...................................................................................................... 1 1.1. Leased Property.................................................................................. 1 1.2. Term............................................................................................. 2 1.3. Initial Transition............................................................................... 3 ARTICLE 2...................................................................................................... 3 2.1. Definitions...................................................................................... 3 ARTICLE 3...................................................................................................... 12 3.1. Rent............................................................................................. 12 3.2. Confirmation of Percentage Rent.................................................................. 14 3.3. Additional Charges............................................................................... 15 3.4. No Set Off....................................................................................... 15 3.5. Books and Records................................................................................ 15 3.6. Changes in Operations............................................................................ 16 ARTICLE 4...................................................................................................... 16 4.1. Payment of Impositions........................................................................... 16 4.2. Notice of Impositions............................................................................ 17 4.3. Adjustment of Impositions........................................................................ 17 4.4. Utility Charges.................................................................................. 17 ARTICLE 5...................................................................................................... 17 5.1. No Termination, Abatement, etc................................................................... 17 ARTICLE 6...................................................................................................... 18 6.1. Ownership of the Leased Property................................................................. 18 6.2. Lessee's Personal Property....................................................................... 18 6.3. Lessor's Lien.................................................................................... 19 ARTICLE 7...................................................................................................... 19 7.1. Condition of the Leased Property................................................................. 19 7.2. Use of the Leased Property....................................................................... 20 ARTICLE 8...................................................................................................... 21 8.1. Compliance with Legal and Insurance Requirements, etc.......................................... 21 8.2. Legal Requirement Covenants...................................................................... 21 8.3. Environmental Covenants.......................................................................... 22 ARTICLE 9...................................................................................................... 24 9.1. Maintenance and Repair; Capital Expenditures..................................................... 24 9.2. Encroachments, Restrictions, Etc................................................................. 25 ARTICLE 10..................................................................................................... 26 10.1. Alterations..................................................................................... 26 10.2. Salvage......................................................................................... 26 10.3. Lessor Alterations.............................................................................. 27 ARTICLE 11..................................................................................................... 27 11.1. Liens........................................................................................... 27 ARTICLE 12..................................................................................................... 27 12.1. Permitted Contests.............................................................................. 27 ARTICLE 13..................................................................................................... 28
i 13.1. General Insurance Requirements.................................................................. 28 13.2. Replacement Cost................................................................................ 30 13.3. (Intentionally omitted)......................................................................... 30 13.4. Waiver of Subrogation........................................................................... 30 13.5. Form Satisfactory, etc.......................................................................... 31 13.6. Increase in Limits.............................................................................. 31 13.7. Blanket Policy.................................................................................. 31 13.8. Separate Insurance.............................................................................. 31 13.9. Reports On Insurance Claims..................................................................... 32 ARTICLE 14..................................................................................................... 32 14.1. Insurance Proceeds.............................................................................. 32 14.2.Reconstruction in the Event of Damage or Destruction Covered by Insurance........................ 32 14.3.Reconstruction in the Event of Damage or Destruction Not Covered by Insurance or When Holder Will Not Release Insurance Proceeds............................................................... 33 14.4.Lessee's Property and Business Interruption Insurance............................................ 33 14.5.Abatement of Rent................................................................................ 34 ARTICLE 15..................................................................................................... 34 15.1. Definition...................................................................................... 34 15.2. Parties' Rights and Obligations................................................................. 34 15.3. Total Taking.................................................................................... 34 15.4. Allocation of Award............................................................................. 35 15.5. Partial Taking.................................................................................. 35 15.6. Temporary Taking................................................................................ 36 ARTICLE 16..................................................................................................... 36 16.1. Events of Default............................................................................... 36 16.2. Remedies........................................................................................ 38 16.3. Waiver.......................................................................................... 39 16.4. Application of Funds............................................................................ 39 ARTICLE 17..................................................................................................... 39 17.1. Lessor's Right to Cure Lessee's Default......................................................... 39 ARTICLE 18..................................................................................................... 40 18.1. Personal Property Limitation.................................................................... 40 18.2. Sublease Rent Limitation........................................................................ 40 18.3. Sublease Lessee Limitation...................................................................... 40 18.4. Lessee Ownership Limitation..................................................................... 41 18.5. Director, Officer and Employee Limitation....................................................... 41 ARTICLE 19..................................................................................................... 41 19.1. Holding Over.................................................................................... 41 ARTICLE 20..................................................................................................... 42 20.1. Indemnification................................................................................. 42 ARTICLE 21..................................................................................................... 43 21.1. Subletting and Assignment....................................................................... 43 21.2. Attornment...................................................................................... 43 21.3. Management Agreement............................................................................ 43 ARTICLE 22..................................................................................................... 44
ii 22.1. Officer's Certificates; Financial Statements; Lessor's Estoppel Certificates and Covenants...... 44 ARTICLE 23..................................................................................................... 46 23.1. Regular Meetings; Lessor's Right to Inspect..................................................... 46 ARTICLE 24..................................................................................................... 46 24.1. No Waiver....................................................................................... 46 ARTICLE 25..................................................................................................... 47 25.1. Remedies Cumulative............................................................................. 47 ARTICLE 26..................................................................................................... 47 26.1. Acceptance of Surrender......................................................................... 47 ARTICLE 27..................................................................................................... 47 27.1. No Merger of Title.............................................................................. 47 ARTICLE 28..................................................................................................... 47 28.1. Conveyance by Lessor............................................................................ 47 28.2. Lessor May Grant Liens.......................................................................... 48 ARTICLE 29..................................................................................................... 50 29.1. Quiet Enjoyment................................................................................. 50 ARTICLE 30..................................................................................................... 50 30.1. Notices......................................................................................... 50 ARTICLE 31..................................................................................................... 50 31.1. Appraisers...................................................................................... 50 ARTICLE 32..................................................................................................... 51 32.1. Lessee's Right to Cure.......................................................................... 51 ARTICLE 33..................................................................................................... 52 33.1. Miscellaneous................................................................................... 52 33.2. Transition Procedures........................................................................... 52 33.3. Waiver of Presentment, etc...................................................................... 53 33.4. Standard of Discretion.......................................................................... 54 33.5. Action for Damages.............................................................................. 54 33.6. Lease Assumption in Bankruptcy Proceeding....................................................... 54 33.7. Intra-Family Transfers.......................................................................... 54 ARTICLE 34..................................................................................................... 55 34.1. Memorandum of Lease............................................................................. 55 ARTICLE 35..................................................................................................... 55 ARTICLE 36..................................................................................................... 55 36.1. Lessor's Option to Terminate Lease.............................................................. 55 ARTICLE 37..................................................................................................... 57 37.1. Compliance with Franchise Agreement............................................................. 57 ARTICLE 38..................................................................................................... 57 38.1. Capital Expenditures............................................................................ 57 ARTICLE 39..................................................................................................... 58 39.1. Lessor's Default................................................................................ 58 ARTICLE 40..................................................................................................... 58 40.1. Arbitration..................................................................................... 58 40.2. Alternative Arbitration......................................................................... 59 40.3. Arbitration Procedures.......................................................................... 59
iii LIST OF EXHIBITS ---------------- Exhibit A - Property Description Exhibit B - Other Properties Exhibit C - Percentage Rent Provisions iv LEASE AGREEMENT THIS LEASE AGREEMENT (hereinafter called "Lease"), made as of the ___ day of ___________, 1998, by and between [HERSHA HOSPITALITY LIMITED PARTNERSHIP, a Virginia limited partnership] (hereinafter called "Lessor"), and HERSHA HOSPITALITY MANAGEMENT, L.P., a Pennsylvania limited partnership (hereinafter called "Lessee"), provides as follows. W I T N E S S E T H: -------------------- Contemporaneously with the execution hereof, Lessor acquired (i) the Leased Property (as hereinafter defined) and certain Other Properties, and (ii) Lessor is entering with Lessee into the Other Leases; and Lessor and Lessee now wish to enter into this Lease. NOW, THEREFORE, Lessor, in consideration of the payment of rent by Lessee to Lessor, the covenants and agreements to be performed by Lessee, and upon the terms and conditions hereinafter stated, does hereby rent and lease unto Lessee, and Lessee does hereby rent and lease from Lessor, the Leased Property. ARTICLE ------- 1 1.1. Leased Property. ---------------- The leased property (the "Leased Property") is comprised of Lessor's interest in the following: (a) [delete this section for the Holiday Inn Express, Harrisburg, PA and the Comfort Inn, Denver, PA] the land described in Exhibit "A" attached hereto and by reference incorporated herein (the "Land"); (b) all buildings, structures and other improvements of every kind including, but not limited to, alleyways and connecting tunnels, sidewalks, utility pipes, conduits and lines (on-site and off-site), parking areas and roadways appurtenant to such buildings and structures presently situated upon the Land (collectively, the "Leased Improvements"); (c) all easements, rights and appurtenances relating to the Land and the Leased Improvements; (d) all equipment, machinery, fixtures, and other items of property required for or incidental to the use of the Leased Improvements as a hotel, including all components thereof, now and hereafter permanently affixed to or incorporated into the Leased Improvements, including, without limitation, all furnaces, boilers, heaters, electrical equipment, heating, plumbing, lighting, ventilating, refrigerating, incineration, air and water pollution control, waste disposal, air-cooling and air-conditioning systems and apparatus, sprinkler systems and fire and theft protection equipment, all of which to the greatest extent permitted by law are hereby deemed by the parties hereto to constitute real estate, together with all replacements, modifications, alterations and additions thereto (collectively, the "Fixtures"); (e) all furniture and furnishings and all other items of personal property (excluding Inventory and personal property owned by Lessee) located on, and used in connection with, the operation of the Leased Improvements as a hotel, together with all replacements, modifications, alterations and additions thereto; and (f) all existing leases of the Leased Property (including any security deposits or collateral held by Lessor pursuant thereto). THE LEASED PROPERTY IS DEMISED IN ITS PRESENT CONDITION WITHOUT REPRESENTATION OR WARRANTY (EXPRESSED OR IMPLIED) BY LESSOR AND SUBJECT TO THE RIGHTS OF PARTIES IN POSSESSION, AND TO THE EXISTING STATE OF TITLE INCLUDING ALL COVENANTS, CONDITIONS, RESTRICTIONS, EASEMENTS AND OTHER MATTERS OF RECORD INCLUDING ALL APPLICABLE LEGAL REQUIREMENTS, THE LIEN OF FINANCING INSTRUMENTS, MORTGAGES, DEEDS OF TRUST AND SECURITY DEEDS, AND INCLUDING OTHER MATTERS WHICH WOULD BE DISCLOSED BY AN INSPECTION OF THE LEASED PROPERTY OR BY AN ACCURATE SURVEY THEREOF. 1.2. Term. ----- (a) The term of the Lease (the "Term") shall commence on the date hereof (the "Commencement Date") and shall end on the fifth anniversary of the last day of the month in which the Commencement Date occurs, unless sooner terminated in accordance with the provisions hereof. Lessor and Lessee acknowledge that the Commencement Date is the date of Lessor's acquisition of the Leased Property. (b) Lessee may elect to extend this Lease and all of the Other Leases for an additional five-year term and, at the end of the first extended term, may elect to extend this Lease for an additional five-year term (each such extension, a "Renewal Term") by providing written Notice (a "Renewal Notice") to Lessor no sooner than 30 months and no later than 6 months prior to the end of the Term or Renewal Term, as applicable. A Renewal Notice, if given, shall be irrevocable, but it shall not preclude Lessor from exercising any of its rights to terminate this Lease in accordance with the provisions hereof. Lessee acknowledges that Lessor will rely on any Renewal Notice received from Lessee and not pursue opportunities to select another lessee for the Facility and will be materially damaged if Lessee fails subsequently to act as lessee for the Renewal Term for any reason other than Lessor's termination of the Lease in accordance herewith. No Renewal Notice may be given or shall be effective if an Event of Default shall have occurred and, if curable hereunder, shall not have been cured. The terms of the Lease during a Renewal Term shall be the same as the terms hereof. 2 1.3. Initial Transition. ------------------- Simultaneously with the execution of this Lease, Lessee shall acquire for fair market value from the contributor of the Leased Property to Lessor all deposits, prepaid revenue and similar accounts, and Inventory existing at or with respect to the Leased Property as of the Commencement Date. ARTICLE ------- 2 2.1. Definitions. ------------ For all purposes of this Lease, except as otherwise expressly provided or unless the context otherwise requires, (a) the terms defined in this Lease have the meanings assigned to them in this Article and include the plural as well as the singular, (b) all accounting terms not otherwise defined herein have the meanings assigned to them in accordance with GAAP, (c) all references in this Lease to designated "Articles", "Sections" and other subdivisions are to the designated Articles, Sections and other subdivisions of this Lease and (d) the words "herein," "hereof" and "hereunder" and other words of similar import refer to this Lease as a whole and not to any particular Article, Section or other subdivision: Additional Charge(s): As defined in Section 3.3. Affiliate: The term "Affiliate" of a Person shall mean (a) any Person that, directly or indirectly, controls or is controlled by or is under common control with such Person, (b) any other Person that owns, beneficially, directly or indirectly, ten percent or more of the outstanding capital stock, shares or equity interests of such Person, or (c) any officer, director, employee, partner, manager, member or trustee of such Person or any Person controlling, controlled by or under common control with such Person (excluding trustees and Persons serving in similar capacities who are not otherwise an Affiliate of such Person). For the purposes of this definition, "control" (including the correlative meanings of the terms "controlled by" and "under common control with"), as used with respect to any Person, shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, through the ownership of voting securities, partnership interests or other equity interests, by contract or otherwise. Award: As defined in Section 15.1(c). Base Rate: The prime rate (or base rate) reported in the Money Rates column or comparable section of The Wall Street Journal, Eastern Edition, as the rate then in effect for corporate loans at large U.S. money center commercial banks, whether or not such rate has actually been charged by any such bank. If no such rate is reported in The Wall Street Journal, Eastern Edition or if such rate is discontinued, then Base Rate shall mean such other successor or comparable rate as Lessor may reasonably designate. 3 Base Rent: As defined in Article 3. Business Day: Each Monday, Tuesday, Wednesday, Thursday and Friday that is not a day on which national banks in the City of Philadelphia, Pennsylvania, or in the municipality wherein the Leased Property is located are closed. Capital Expenditures: Amounts advanced to pay the costs of Capital Improvements. Capital Expenditures Allowance: As defined in Article 38. Capital Impositions: Taxes, assessments or similar charges imposed upon or levied against the Leased Property for the costs of public improvements, including, without limitation, roads, sidewalks, public lighting fixtures, utility lines, storm sewers drainage facilities, and similar improvements. Capital Improvements: Improvements to the Leased Property and replacement or refurbishing of Fixtures and of Furniture and Equipment, all as designated as capital improvements by and determined in accordance with GAAP. CERCLA: The Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended. Change of Control: (i) The issuance or sale by the Lessee or the sale by any partner of the Lessee of a Controlling interest in Lessee; (ii) the sale, conveyance or other transfer of all or substantially all of the assets of the Lessee (whether by operation of law or otherwise); (iii) any transaction, or series of transactions, pursuant to which the Lessee is merged with or consolidated into another entity and either (A) the Lessee is not the surviving entity or (B) the Lessee is the surviving entity but the previous partners of the Lessee do not maintain a Controlling interest in the Lessee. Code: The Internal Revenue Code of 1986, as amended. Commencement Date: As defined in Section 1.2. Company: Hersha Hospitality Trust, a Maryland real estate investment trust. Condemnation, Condemnor: As defined in Section 15.1. Consolidated Financials: For any fiscal year or other accounting period for (i) Lessee and (ii) Lessee and Lessee's Affiliates, if any, that lease hotel properties from Lessor or its Affiliates, a balance sheet and statements of operations, partners' capital and cash flow (or, in the case of a corporation, statements of operations, retained earnings and cash flow) for such period and for the period from the beginning of the respective fiscal year to the end of such period and the related balance sheet as at the end of such period, together with the notes to any such yearly 4 statement, all in such detail as may be required by the SEC with respect to filings made by the Company or Lessor, and setting forth in comparative form the corresponding figures for the corresponding period in the preceding fiscal year, and prepared in accordance with GAAP and audited annually (and quarterly if required by the SEC) by a firm of independent certified public accountants selected by Lessor. Consolidated Financials shall be prepared on the basis of a fiscal year ending on December 31. Control: As applied to any Person, the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of that Person, whether through the ownership or voting securities, by contract or otherwise. The terms "Controlling" and "Controlled by" shall have correlative meanings. Date of Taking: As defined in Section 15.1(b). Emergency Expenditures: Expenditures required to take necessary or appropriate actions to respond to Emergency Situations. Emergency Situations: Fire, any other casualty, or any other events, circumstances or conditions which threaten the safety or physical well-being of the Facility's guests or employees or which involve the risk of material property damage or material loss to the Facility. Environmental Authority: Any department, agency or other body or component of any Government that exercises any form of jurisdiction or authority under any Environmental Law. Environmental Authorization: Any license, permit, order, approval, consent, notice, registration, filing or other form of permission or authorization required under any Environmental Law. Environmental Laws: All applicable federal, state, local and foreign laws and regulations relating to pollution of the environment (including without limitation, ambient air, surface water, ground water, land surface or subsurface strata), including without limitation laws and regulations relating to emissions, discharges, Releases or threatened Releases of Hazardous Materials or otherwise relating to the manufacture, processing, distribution, use, treatment, storage, disposal, transport or handling of Hazardous Materials. Environmental Laws include but are not limited to CERCLA, FIFRA, RCRA, SARA and TSCA. Environmental Liabilities: Any and all actual or potential obligations to pay the amount of any judgment or settlement, the cost of complying with any settlement, judgment or order for injunctive or other equitable relief, the cost of compliance or corrective action in response to any notice, demand or request from an Environmental Authority, the amount of any civil penalty or criminal fine, and any court costs and reasonable amounts for attorney's fees, fees for witnesses and experts, and costs of investigation and preparation for defense of any claim or any Proceeding, regardless of whether such Proceeding is threatened, pending or completed, that may 5 be or have been asserted against or imposed upon Lessor, Lessee, any Predecessor, the Leased Property or any property used therein and arising out of: (a) the failure to comply at any time with all Environmental Laws applicable to the Leased Property; (b) the presence of any Hazardous Materials on, in, under, at or in any way affecting the Leased Property; (c) a Release or threatened Release of any Hazardous Materials on, in, at, under or in any way affecting the Leased Property; (d) the identification of Lessee, Lessor or any Predecessor as a potentially responsible party under CERCLA or under any other Environmental Law; (e) the presence at any time of any above-ground and/or underground storage tanks, as defined in RCRA or in any applicable Environmental Law on, in, at or under the Leased Property or any adjacent site or facility; or (f) any and all claims for injury or damage to persons or property arising out of exposure to Hazardous Materials originating or located at the Leased Property, or resulting from operation thereof or any adjoining property. Event of Default: As defined in Section 16.1. Facility: The hotel and/or other facility offering lodging and other services or amenities being operated or proposed to be operated on the Leased Property. FIFRA: The Federal Insecticide, Fungicide, and Rodenticide Act, as amended. First Annual Room Revenues Break Point: The amount of Room Revenues for the applicable Lease Year corresponding to such term as set forth on Exhibit C. First Tier Room Revenue Percentage: The percentage corresponding to such term as set forth on Exhibit C. Fixtures: As defined in Section 1.1. Franchise Agreement: The franchise agreement or license agreement with _____________ or any other franchisor under which the Facility is operated. Furniture and Equipment: The terms "furniture and equipment" shall mean collectively all furniture, furnishings, wall coverings, Fixtures and hotel equipment and systems located at, or used in connection with, the Facility, together with all replacements therefor and additions thereto, including, without limitation, (i) all equipment and systems required for the operation of 6 kitchens, bars and restaurants, and laundry and dry cleaning facilities, (ii) office equipment (excluding any office equipment used by the Lessee for its own operations, rather than hotel operations), (iii) dining room wagons, materials handling equipment, and cleaning and engineering equipment, (iv) telephone and computerized accounting systems, and (v) vehicles (excluding any vehicles used by the Lessee for its own operations, rather than hotel operations). GAAP: Generally accepted accounting principles as are at the time applicable and otherwise consistently applied. Government: The United States of America, any city, county, state, district or territory thereof, any foreign nation, any city, county, state, district, department, territory or other political division thereof, or any political subdivision of any of the foregoing. Gross Revenues: The sum of Room Revenues and Other Revenues. Hazardous Materials: All chemicals, pollutants, contaminants, wastes and toxic substances, including without limitation: (a) Solid or hazardous waste, as defined in RCRA or in any Environmental Law; (b) Hazardous substances, as defined in CERCLA or in any Environmental Law; (c) Toxic substances, as defined in TSCA or in any Environmental Law; (d) Insecticides, fungicides, or rodenticides, as defined in FIFRA or in any Environmental Law; (e) Gasoline or any other petroleum product or byproduct, polychlorinated biphenols, asbestos and urea formaldehyde; (f) Asbestos or asbestos containing materials; (g) Urea Formaldehyde foam insulation; and (h) Radon gas. Holder: Any holder of a Mortgage, any purchaser of the Leased Property or any portion thereof at a foreclosure sale or any sale in lieu thereof, or any designee of any of the foregoing. Impositions: Collectively, all taxes (including, without limitation, all ad valorem, sales and use, occupancy, single business, gross receipts, transaction privilege, rent or similar taxes as the same relate to or are imposed upon Lessee or Lessor or Lessee's business conducted upon the Leased Property), assessments (including, without limitation, all private property association 7 assessments and all assessments for public improvements or benefit, whether or not commenced or completed prior to the date hereof and whether or not to be completed within the Term), ground rents, water, sewer or other rents and charges, excises, tax inspection, authorization and similar fees and all other governmental charges, in each case whether general or special, ordinary or extraordinary, or foreseen or unforeseen, of every character in respect of the Leased Property or the business conducted thereon by Lessee (including all interest and penalties thereon caused by any failure in payment by Lessee), which at any time prior to, during or with respect to the Term hereof may be assessed or imposed on or with respect to or be a lien upon (a) Lessor's interest in the Leased Property, (b) the Leased Property, or any part thereof or any rent therefrom or any estate, right, title or interest therein, or (c) any occupancy, operation, use or possession of, or sales from, or activity conducted on or in connection with the Leased Property, or the leasing or use of the Leased Property or any part thereof by Lessee. Nothing contained in this definition of Impositions shall be construed to require Lessee to pay (1) any tax based on net income (whether denominated as a franchise or capital stock or other tax) imposed on Lessor or any other person, or (2) any net or gross revenue tax of Lessor or any other person, or (3) any tax imposed with respect to the sale, exchange or other disposition by Lessor of any Leased Property or the proceeds thereof. Indemnified Party: Either of a Lessee Indemnified Party or a Lessor Indemnified Party. Indemnifying Party: Any party obligated to indemnify an Indemnified Party pursuant to any provision of this Lease. Insurance Requirements: All terms of any insurance policy required by this Lease and all requirements of the issuer of any such policy. Inventory: All "Inventories of Merchandise" and "Inventories of Supplies" as defined in the Uniform System, including, but not limited to, linens, china, silver, glassware and other non-depreciable personal property, and any property of the type described in Section 1221(1) of the Code. Land: As defined in Article 1. Lease: This Lease. Lease Year: Any 12-month period from January 1 through December 31 during the Term, or any shorter period at the beginning or the end of the Term. Leased Improvements: As defined in Article 1. Leased Property: As defined in Section 1.1. Legal Requirements: All federal, state, county, municipal and other governmental statutes, laws, rules, orders, regulations, ordinances, judgments, decrees and injunctions affecting either the Leased Property or the maintenance, construction, use, operation or alteration thereof 8 (whether by Lessee or otherwise), whether or not hereafter enacted and in force, including (a) all laws, rules or regulations pertaining to the environment, occupational health and safety and public health, safety or welfare, and (b) any laws, rules or regulations that may (1) require repairs, modifications or alterations in or to the Leased Property or (2) in any way adversely affect the use and enjoyment thereof; and all permits, licenses and authorizations necessary or appropriate to operate the Leased Property for its Primary Intended Use and all covenants, agreements, restrictions and encumbrances contained in any instruments, either of record or known to Lessee (other than encumbrances hereafter created by Lessor without the consent of Lessee), at any time in force affecting the Leased Property. Lessee: The Lessee designated on this Lease and its permitted successors and assigns. Lessee Indemnified Party: Lessee, any Affiliate of Lessee, any other Person against whom any claim for indemnification may be asserted hereunder as a result of a direct or indirect ownership interest in Lessee, the officers, directors, stockholders, partners, members, employees, agents and representatives of any of the foregoing Persons and any corporate stockholder, agent, or representative of any of the foregoing Persons, and the respective heirs, personal representatives, successors and assigns of any such officer, director, partner, member, stockholder, employee, agent or representative. Lessee's Personal Property: As defined in Section 6.2. Lessor: The Lessor designated on this Lease and its respective successors and assigns. Lessor Indemnified Party: Lessor, any Affiliate of Lessor, including the Company, any other Person against whom any claim for indemnification may be asserted hereunder as a result of a direct or indirect ownership interest in Lessor, the officers, trustees, directors, stockholders, partners, members, employees, agents and representatives of any of the foregoing Persons and of any stockholder, partner, member, agent, or representative of any of the foregoing Persons, and the respective heirs, personal representatives, successors and assigns of any such officer, trustee, director, partner, member, stockholder, employee, agent or representative. Lessor's Audit: An audit by Lessor's independent certified public accountants of the operation of the Leased Property during any Lease Year, which audit may, at Lessor's election, be either a complete audit of the Leased Property's operations or an audit of Room Revenues realized from the operation of the Leased Property during such Lease Year. Management Agreement: As defined in Section 21.3. Manager: As defined in Section 21.3. Mortgage: As defined in Section 28.2. Notice: A notice given pursuant to Article 30. 9 Officer's Certificate: A certificate of Lessee reasonably acceptable to Lessor, signed by the chief financial officer or another officer duly authorized so to sign by Lessee or a general partner of Lessee, or any other person whose power and authority to act has been authorized by delegation in writing by any such officer. Other Leases: The leases of the Other Properties. Other Properties:The properties described on Exhibit B attached hereto. Other Revenues: All revenues, receipts and income of any kind derived directly or indirectly from or in connection with the Facility other than Room Revenues. Other Revenue Percentage: The percentage corresponding to such term as set forth on Exhibit C. Overdue Rate: On any date, a rate equal to the Base Rate plus 5% per annum, but in no event greater than the maximum rate then permitted under applicable law. Payment Date: Any due date for the payment of any installment of Rent. Percentage Rent: As defined in Article 3. Person: The term "Person" means and includes individuals, corporations, general and limited partnerships, limited liability companies, stock companies or associations, joint ventures, associations, companies, trusts, banks, trust companies, land trusts, business trusts, or other entities and any Government and agencies and political subdivisions thereof. Personal Property Taxes: All personal property taxes imposed on the furniture, furnishings or other items of personal property located on, and used in connection with, the operation of the Leased Improvements as a hotel (other than Inventory and other personal property owned by the Lessee), together with all replacements, modifications, alterations and additions thereto. Predecessor: Any Person whose liabilities arising under any Environmental Law have or may have been retained or assumed by Lessor or Lessee pursuant to the provisions of this Lease. Primary Intended Use: As defined in Section 7.2(b). Proceeding: Any judicial action, suit or proceeding (whether civil or criminal), any administrative proceeding (whether formal or informal), any investigation by a governmental authority or entity (including a grand jury), and any arbitration, mediation or other non-judicial process for dispute resolution. 10 RCRA: The Resource Conservation and Recovery Act, as amended. Real Estate Taxes: All real estate taxes, including general and special assessments, if any, which are imposed upon the Land and any improvements thereon. Release: A "Release" as defined in CERCLA or in any Environmental Law, unless such Release has been properly authorized and permitted in writing by all applicable Environmental Authorities or is allowed by such Environmental Law without authorizations or permits. Rent: Collectively, the Base Rent or Percentage Rent, and Additional Charges. Room Revenues: Gross revenue from the rental of guest rooms, whether to individuals, groups or transients, at the Facility, determined in a manner consistent with the Uniform System and excluding the following: (a) The amount of all credits, bad debt write-off rebates or refunds to customers, guests or patrons; and (b) All sales taxes or any other taxes imposed on the rental of such guest rooms; and (c) any fees collected for amenities including, but not limited to, telephone, laundry, movies or concessions. SARA: The Superfund Amendments and Reauthorization Act of 1986, as amended. SEC: The U.S. Securities and Exchange Commission or any successor agency. Second Annual Room Revenues Break Point: The amount of Room Revenues for the applicable Lease Year corresponding to such term as set forth on Exhibit C. Second Tier Room Revenue Percentage: The percentage corresponding to such term as set forth on Exhibit C. State: The State or Commonwealth of the United States in which the Leased Property is located. Subsidiaries: Corporations or other entities in which Lessee owns, directly or indirectly, 50% or more of the voting rights or control, as applicable (individually, a "Subsidiary"). Taking: A permanent or temporary taking or voluntary conveyance during the Term hereof of all or part of the Leased Property, or any interest therein or right accruing thereto or use thereof, as the result of, or in settlement of, any Condemnation or other eminent domain proceeding affecting the Leased Property whether or not the same shall have actually been commenced. 11 Term: As defined in Section 1.2. Termination Fee: As defined in Section 36.1(c). Third Tier Room Revenue Percentage: The percentage corresponding to such term as set forth on Exhibit C. TSCA: The Toxic Substances Control Act, as amended. Unavoidable Delay: Delay due to strikes, lock-outs, labor unrest, inability to procure materials, power failure, acts of God, governmental restrictions, enemy action, civil commotion, fire, unavoidable casualty, condemnation or other similar causes beyond the reasonable control of the party responsible for performing an obligation hereunder, provided that lack of funds shall not be deemed a cause beyond the reasonable control of either party hereto unless such lack of funds is caused by the breach of the other party's obligation to perform any obligations of such other party under this Lease. Uneconomic for its Primary Intended Use: A state or condition of the Facility such that in the reasonable judgment of Lessor the Facility cannot be operated on a commercially practicable basis for its Primary Intended Use, such that Lessor intends to, and shall, cease operation of the Facility. Uniform System: Shall mean the Uniform System of Accounts for Hotels (9th Revised Edition, 1996) as published by the Hotel Association of New York City, Inc., as the same may hereafter be revised, and as the same is interpreted and applied by the Lessor's independent certified public accountants in connection with any audit. Unsuitable for its Primary Intended Use: A state or condition of the Facility such that in the reasonable judgment of Lessor the Facility (i) cannot function as an integrated hotel facility consistent with standards applicable to a well maintained and operated hotel comparable in quality and function to that of the Facility prior to the damage or loss and, (ii) notwithstanding the application of insurance proceeds that may occur under Section 14.1, will remain unsuitable for its Primary Intended Use for a period of 90 days or more. ARTICLE ------- 3 3.1. Rent. ----- Lessee will pay to Lessor, by wire transfer, in lawful money of the United States of America which shall be legal tender for the payment of public and private debts, at Lessor's address set forth in Article 30 hereof or at such other place or to such other Person as Lessor 12 from time to time may designate in a Notice, all [Initial Fixed Rent,] Base Rent, Percentage Rent and Additional Charges, during the Term, as follows: [insert for Newly-Developed Hotels and Newly-Renovated Hotels: (a) The Rent payable from the Commencement Date until the calendar quarter ending December 31, ___ shall equal the annual amount of Initial Fixed Rent set forth on Exhibit C and shall be payable quarterly in arrears on or before the first business day of the subsequent calendar quarter; provided, however, that Initial Fixed Rent shall be prorated as to any Lease Year which is less than four calendar quarters and as to any partial calendar quarter;] (a) The Rent payable in each calendar quarter [insert for Newly-Developed Hotels and Newly-Renovated Hotels: from January 1, ___ until the end of the Lease Term] shall equal the greater of : (i) the annual amount of Base Rent set forth on Exhibit C, which shall be payable quarterly in arrears on or before the first business day of the subsequent calendar quarter; provided, however, that Base Rent shall be prorated as to any Lease Year which is less than four calendar quarters and as to any partial calendar quarter; plus (ii) an amount of percentage rent ("Percentage Rent"), calculated for each calendar quarter, equal to the Period Revenues Computation through the end of such calendar quarter for the applicable Lease Year, which amount shall be payable on or before the fifteenth (15th) day of the following calendar quarter. The Period Revenues Computation shall be an amount equal to the sum of, for the applicable Lease Year, (i) an amount equal to the First Tier Room Revenue Percentage of all Lease Year to date Room Revenues up to (but not exceeding) the First Annual Room Revenues Break Point, (ii) an amount equal to the Second Tier Room Revenue Percentage of all Lease Year to date Room Revenues in excess of the First Annual Room Revenues Break Point but not exceeding the Second Annual Room Revenues Break Point, (iii) an amount equal to the Third Tier Room Revenue Percentage of all Lease Year to date Room Revenues in excess of the Second Annual Room Revenues Break Point, and (iv) an amount equal to the Other Revenue Percentage of all Lease Year to date Other Revenues. The [Initial Fixed Rent and the] Base Rent shall accrue pro rata during each calendar quarter of a Lease Year. However, the amount of [Initial Fixed Rent or] Base Rent payable for the first three calendar quarters of a Lease Year shall equal the annual amount of [Initial Fixed Rent or] Base Rent multiplied by a fraction, the numerator of which is the amount of the Lessee's budgeted Gross Revenues for such calendar quarter and the denominator of which is the amount of the Lessee's budgeted Gross Revenues for such Lease Year. The amount of [Initial Fixed Rent or] Base Rent payable for the fourth calendar quarter of such Lease Year shall equal the annual amount of [Initial Fixed Rent or] Base Rent, less the aggregate 13 amount of [Initial Fixed Rent or] Base Rent payments made by the Lessee for the first three calendar quarters of such Lease Year. There shall be no reduction in Base Rent regardless of the result of the Period Revenues Computation. If the Term begins or ends in the middle of a calendar year, then the number of calendar quarters falling within the Term during such calendar year shall constitute a separate Lease Year. In that event, the First Annual Room Revenues Break Point and the Second Annual Room Revenues Break Point shall be multiplied by a fraction equal to (x) the number of calendar quarters (including partial calendar quarters) in the Lease Year divided by (y) four. (b) Officer's Certificates. An Officer's Certificate shall be delivered to Lessor with each Percentage Rent payment setting forth the calculation of the Percentage Rent payment for the most recently completed calendar quarter of each Lease Year in the Term. Percentage Rent shall be subject to confirmation and adjustment, if applicable, as set forth in Section 3.2. The obligation to pay Percentage Rent shall survive the expiration or earlier termination of the Term, and a final reconciliation, taking into account, among other relevant adjustments, any adjustments which are accrued after such expiration or termination date but which related to Percentage Rent accrued prior to such termination date, shall be made not later than 60 days after such expiration or termination date. 3.2. Confirmation of Percentage Rent. -------------------------------- Lessee shall utilize, or cause to be utilized, an accounting system for the Leased Property in accordance with its usual and customary practices, and in accordance with GAAP and the Uniform System, that will accurately record all data necessary to compute Percentage Rent, and Lessee shall retain, for at least five years after the expiration of each Lease Year, reasonably adequate records conforming to such accounting system showing all data necessary to conduct Lessor's Audit and to compute Percentage Rent for the applicable Lease Years. Lessor shall have the right, for a period of two years following each Lease Year, from time to time, by its accountants or representatives, to audit such information in connection with Lessor's Audit, and to examine all Lessee's records (including supporting data and sales and excise tax returns) reasonably required to complete Lessor's Audit and to verify Percentage Rent, subject to any prohibitions or limitations on disclosure of any such data under Legal Requirements. If any Lessor's Audit discloses a deficiency in the payment of Percentage Rent, and either Lessee agrees with the result of Lessor's Audit or the matter is otherwise determined or compromised, Lessee shall forthwith pay to Lessor the amount of the deficiency, as finally agreed or determined, together with interest at the Overdue Rate from the date when said payment should have been made to the date of payment thereof. If any Lessor's Audit discloses a deficiency in the determination or reporting of Room Revenue which, as finally agreed or determined, exceeds 3%, Lessee shall pay the costs of the portion of Lessor's Audit allocable to the determination of Room Revenues (the "Revenue Audit"). Any proprietary information obtained by Lessor pursuant to the provisions of this Section shall be treated as confidential, except that such information may be used, subject to appropriate confidentiality safeguards, in any litigation or arbitration between the parties and except further that Lessor may disclose such information to 14 prospective lenders, investors and underwriters and to any other persons to whom disclosure is necessary to comply with applicable laws, regulations and government requirements. The obligations of Lessee contained in this Section shall survive the expiration or earlier termination of this Lease. Any dispute as to the existence or amount of any deficiency in the payment of Percentage Rent as disclosed by Lessor's Audit shall, if not otherwise settled by the parties, be submitted to arbitration pursuant to the provisions of Section 40.2. 3.3. Additional Charges. ------------------- In addition to the Base Rent and Percentage Rent, (a) Lessee also will pay and discharge as and when due and payable all other amounts, liabilities, obligations and Impositions that Lessee assumes or agrees to pay under this Lease, and (b) in the event of any failure on the part of Lessee to pay any of those items referred to in clause (a) of this Section 3.3, Lessee also will promptly pay and discharge every fine, penalty, interest and cost that may be added for non-payment or late payment of such items (the items referred to in clauses (a) and (b) of this Section 3.3 being additional rent hereunder and being referred to herein collectively as the "Additional Charge(s)"), and Lessor shall have all legal, equitable and contractual rights, powers and remedies provided either in this Lease or by statute or otherwise in the case of non-payment of the Additional Charges as in the case of non-payment of the Base Rent. If any installment of Base Rent, Percentage Rent or Additional Charges (but only as to those Additional Charges that are payable directly to Lessor) shall not be paid on its due date, Lessee will pay Lessor within ten days of demand, as Additional Charges, an amount equal to the interest computed at the Overdue Rate on the amount of such installment, from the due date of such installment to the date of payment thereof. To the extent that Lessee pays any Additional Charges to Lessor pursuant to any requirement of this Lease, Lessee shall be relieved of its obligation to pay such Additional Charges to the entity to which they would otherwise be due and Lessor shall pay the same from monies received from Lessee. 3.4. No Set Off. ----------- Rent shall be paid to Lessor without set off, deduction or counterclaim, subject to Lessee's right to assert any claim or mandatory counterclaim in any action brought by either party under this Lease. 3.5. Books and Records. ------------------ Lessee shall keep full and adequate books of account and other records reflecting the results of operation of the Facility on an accrual basis, all in accordance with the Uniform System and GAAP and the obligations of Lessee under this Lease. Lessee agrees that bad-debt expenses will be recorded in a manner which is consistent with the past practice of the current operator of the Facility for bad debt writeoffs. The books of account and all other records relating to or reflecting the operation of the Facility (whether maintained by Lessee or Manager) shall be kept either at the Facility or at 148 Sheraton Drive, New Cumberland, Pennsylvania 17070, and shall be available to Lessor and its representatives and its auditors or accountants, at all reasonable times for examination, audit, inspection, and transcription. All of such books and 15 records pertaining to the Facility (whether maintained by Lessee or Manager) including, without limitation, books of account, guest records and front office records, at all times shall be the property of Lessor and shall not be removed from the Facility or Lessee's offices without Lessor's prior written approval. Lessee shall be entitled to make copies of any or all such books and records for its own files. Lessee's obligations under this Section 3.5 shall survive termination of this Lease for any reason. 3.6. Changes in Operations. ---------------------- Without Lessor's prior written consent, which shall not be unreasonably withheld, Lessee shall not (i) provide food and/or beverage operations at the Facility if not presently provided, (ii) discontinue any food and/or beverage operations which are presently provided, or (iii) convert a subtenant, licensee or concessionaire to an operating department of the Facility or vice-versa. ARTICLE ------- 4 4.1. Payment of Impositions. ----------------------- Lessor shall pay, or cause to be paid, all Real Estate Taxes and Personal Property Taxes. Subject to Article 12 relating to permitted contests, Lessee will pay, or cause to be paid, all Impositions (other than Real Estate Taxes and Personal Property Taxes) before any fine, penalty, interest or cost may be added for nonpayment, such payments to be made directly to the taxing or other authorities where feasible, and will promptly furnish to Lessor copies of official receipts or other satisfactory proof evidencing such payments. Lessee's obligation to pay such Impositions shall be deemed absolutely fixed upon the date such Impositions become a lien upon the Leased Property or any part thereof. If any such Imposition may, at the option of the taxpayer, lawfully be paid in installments (whether or not interest shall accrue on the unpaid balance of such Imposition), Lessee may exercise the option to pay the same (and any accrued interest on the unpaid balance of such Imposition) in installments and in such event, shall pay such installments (subject to Lessee's right of contest pursuant to the provisions of Article 12) as the same respectively become due and before any fine, penalty, premium, further interest or cost may be added thereto. If an Imposition becomes fixed during the Term hereof and the Lessee elects to pay such Imposition in installments that continue after the Term hereof, the Lessee's obligation to pay such installments shall survive the termination of this Lease. Lessor, at its expense, shall, to the extent required or permitted by applicable law, prepare and file all tax returns in respect of Lessor's net income, gross receipts, sales and use, single business, transaction privilege, rent, ad valorem, franchise taxes, and taxes on its capital stock, and Lessee, at its expense, shall, to the extent required or permitted by applicable laws and regulations, prepare and file all other tax returns and reports in respect of any Imposition as may be required by governmental authorities. Lessee shall submit copies of Real Estate Taxes and Personal Property Tax invoices to Lessor promptly upon Lessee's receipt of such invoices. If any refund shall be due from any taxing authority in respect of any Imposition paid by Lessee, the same shall be paid over to or retained by Lessee if no Event of Default shall have occurred hereunder and be 16 continuing. If an Event of Default shall have been declared by Lessor and be continuing, any such refund shall be paid over to or retained by Lessor. Any such funds retained by Lessor due to an Event of Default shall be applied as provided in Article 16. Any refund for Real Estate Taxes and Personal Property Taxes shall be promptly remitted to Lessor. Lessor and Lessee shall, upon request of the other, cooperate with the other party and otherwise provide such data as is maintained by the party to whom the request is made with respect to the Leased Property as may be necessary to prepare any required returns and reports. Lessor, to the extent it possesses the same, and Lessee, to the extent it possesses the same, will provide the other party, upon request, with cost and depreciation records necessary for filing returns for any property classified as personal property. Lessor may, upon notice to Lessee, at Lessor's option and at Lessor's sole expense, protest, appeal, or institute such other proceedings (in its or Lessee's name) as Lessor may deem appropriate to effect a reduction of real estate assessments, and Lessee, at Lessor's expense as aforesaid, shall fully cooperate with Lessor in such protest, appeal, or other action. Lessor hereby agrees to indemnify, defend, and hold harmless Lessee from and against any claims, obligations, and liabilities against or incurred by Lessee in connection with such cooperation. Lessor, however, reserves the right to effect any such protest, appeal or other action and, upon notice to Lessee, shall control any such activity, which shall then proceed at Lessor's sole expense. Upon such notice, Lessee, at Lessor's expense, shall cooperate fully with such activities. To the extent received by it, Lessee shall furnish Lessor with copies of all assessment notices for Real Estate Taxes in sufficient time for Lessor to file any protest with respect to such tax must be made and pay such taxes without penalty. 4.2. Notice of Impositions. ---------------------- Lessor shall give prompt Notice to Lessee of all Impositions payable by Lessee hereunder of which Lessor at any time has knowledge, provided that Lessor's failure to give any such Notice shall in no way diminish Lessee's obligations hereunder to pay such Impositions, but if Lessee did not otherwise have knowledge of such Imposition sufficient to permit it to pay same, such failure shall obviate any default hereunder for a reasonable time after Lessee receives Notice of any Imposition which it is obligated to pay during the first taxing period applicable thereto. 4.3. Adjustment of Impositions. -------------------------- Impositions payable by Lessee which are imposed in respect of the tax-fiscal period during which the Term terminates shall be adjusted and prorated between Lessor and Lessee, whether or not such Imposition is imposed before or after such termination, and Lessee's obligation to pay its prorated share thereof after termination shall survive such termination. 4.4. Utility Charges. ---------------- Lessee will be solely responsible for obtaining and maintaining utility services to the Leased Property and will pay or cause to be paid all charges for electricity, gas, oil, water, sewer and other utilities used in the Leased Property during the Term. 17 ARTICLE ------- 5 5.1. No Termination, Abatement, etc. ------------------------------- Except as otherwise specifically provided in this Lease, Lessee, to the extent permitted by law, shall remain bound by this Lease in accordance with its terms and shall neither take any action without the written consent of Lessor to modify, surrender or terminate the same, nor seek nor be entitled to any abatement, deduction, deferment or reduction of the Rent, or setoff against the Rent, nor shall the obligations of Lessee be otherwise affected by reason of (a) any damage to, or destruction of, any Leased Property or any portion thereof from whatever cause or any Taking of the Leased Property or any portion thereof, (b) any bankruptcy, insolvency, reorganization, composition, readjustment, liquidation, dissolution, winding up or other proceedings affecting Lessor or any assignee or transferee of Lessor, or (c) for any other cause whether similar or dissimilar to any of the foregoing other than a discharge of Lessee from any such obligations as a matter of law. Lessee hereby specifically waives all rights, arising from any default under this Lease by Lessor, which may now or hereafter be conferred upon it by law to (1) modify, surrender or terminate this Lease or quit or surrender the Leased Property or any portion thereof, or (2) entitle Lessee to any abatement, reduction, suspension or deferment of or set off against the Rent or other sums payable by Lessee hereunder, except as otherwise specifically provided in this Lease. The obligations of Lessee hereunder shall be separate and independent covenants and agreements and the Rent and all other sums payable by Lessee hereunder shall continue to be payable in all events unless the obligations to pay the same shall be terminated pursuant to the express provisions of this Lease or by termination of this Lease other than by reason of an Event of Default. ARTICLE ------- 6 6.1. Ownership of the Leased Property. --------------------------------- Lessee acknowledges that the Leased Property is the property of Lessor and that Lessee has only the right to the possession and use of the Leased Property upon the terms and conditions of this Lease. 6.2. Lessee's Personal Property. --------------------------- At commencement of the Term, Lessee shall purchase for fair market value from Lessor or the Contributor of the Leased Property to Lessor all Inventory at the Leased Property. At all times during the Term, Lessee shall maintain Inventory consistent with the amount of inventory which is customarily maintained in a hotel of the type and character of the Facility and is otherwise required to operate the Leased Property in the manner contemplated by this Lease and in compliance with the Franchise Agreement and all Legal Requirements. All Inventory shall be the property of Lessee. Lessee may (and shall as provided hereinbelow), at its expense, install, affix or assemble or place on any parcels of the Land or in any of the Leased 18 Improvements, any items of personal property (including Inventory) owned by Lessee (collectively, the "Lessee's Personal Property"). Lessee may, subject to the following sentence of this Section 6.2, remove any of Lessee's Personal Property at any time during the Term or upon the expiration or any prior termination of the Term. All of Lessee's Personal Property not removed by Lessee within 30 days following the expiration or earlier termination of the Term shall be considered abandoned by Lessee and may be appropriated, sold, destroyed or otherwise disposed of by Lessor without first giving Notice thereof to Lessee, without any payment to Lessee and without any obligation to account therefor. Lessee will, at its expense, restore the Leased Property to the condition required by Section 9.1(d), including repair of all damage to the Leased Property caused by the removal of Lessee's Personal Property, whether effected by Lessee or Lessor. 6.3. Lessor's Lien. -------------- To the fullest extent permitted by applicable law, Lessor is granted a lien and security interest on all Lessee's Personal Property now or hereinafter placed in or upon the Leased Property, and such lien and security interest shall remain attached to such Lessee's Personal Property until payment in full of all Rent and satisfaction of all of Lessee's obligations hereunder; provided, however, Lessor shall subordinate its lien and security interest only to that of any non-Affiliate of Lessee which finances such Lessee's Personal Property or any non-Affiliate conditional seller of such Lessee's Personal Property, the terms and conditions of such subordination to be satisfactory to Lessor in the exercise of reasonable discretion. Lessee shall, upon the request of Lessor, execute such financing statements or other documents or instruments reasonably requested by Lessor to perfect the lien and security interests herein granted. ARTICLE ------- 7 7.1. Condition of the Leased Property. --------------------------------- Lessee acknowledges receipt and delivery of possession of the Leased Property. Lessee has examined and otherwise has knowledge of the condition of the Leased Property and has found the same to be satisfactory for its purposes hereunder. Lessee is leasing the Leased Property "as is", "with all faults", and in its present condition. Except as otherwise specifically provided herein, Lessee waives any claim or action against Lessor in respect of the condition of the Leased Property. LESSOR MAKES NO WARRANTY OR REPRESENTATION, EXPRESS OR IMPLIED, IN RESPECT OF THE LEASED PROPERTY, OR ANY PART THEREOF, EITHER AS TO ITS FITNESS FOR USE, DESIGN OR CONDITION FOR ANY PARTICULAR USE OR PURPOSE OR OTHERWISE, AS TO THE QUALITY OF THE MATERIAL OR WORKMANSHIP THEREIN, LATENT OR PATENT, IT BEING AGREED THAT ALL SUCH RISKS ARE TO BE BORNE BY LESSEE. LESSEE ACKNOWLEDGES THAT THE LEASED PROPERTY HAS BEEN INSPECTED BY LESSEE AND IS SATISFACTORY TO IT. Lessee shall have the right to proceed against any predecessor in title for breaches of warranties or representations or for latent defects in the Leased Property, and Lessor shall, if requested by Lessee, assign any such right to Lessee (other than claims against 19 Affiliates of Lessee). If either party determines to exercise such right, the other party shall fully cooperate in the prosecution of any such claim, in Lessor's or Lessee's name, all at the cost and expense of the prosecuting party, who hereby agrees to indemnify, defend and hold harmless the other party from and against any claims, obligations and liabilities against or incurred by such other party in connection with such cooperation, and who further agrees to apply all amounts realized from the prosecution of such claim, less its expenses in connection therewith, to remedy such breach or cure such defect. 7.2. Use of the Leased Property. --------------------------- (a) Lessee covenants that it will proceed with all due diligence and will exercise its best efforts to obtain and to maintain all approvals needed to use and operate the Leased Property and the Facility under applicable local, state and federal law. (b) Lessee shall use or cause to be used the Leased Property only as a hotel facility, and for such other uses as may be necessary or incidental to such use, or such other use as otherwise approved by Lessor (the "Primary Intended Use"). Lessee shall not use the Leased Property or any portion thereof for any other use without the prior written consent of Lessor. No use other than the Primary Intended Use shall be made or permitted to be made of the Leased Property, and no acts shall be done other than the Primary Intended Use, which will cause the cancellation or increase the premium of any insurance policy covering the Leased Property or any part thereof (unless another adequate policy satisfactory to Lessor is available and Lessee pays any premium increase), nor shall Lessee sell or permit to be kept, used or sold in or about the Leased Property any article which is prohibited by law or fire underwriter's regulations. Lessee shall comply with all of the requirements pertaining to the Leased Property of any insurance board, association, organization or company necessary for the maintenance of insurance, as herein provided, covering the Leased Property and Lessee's Personal Property, which compliance shall be performed at Lessee's sole cost. (c) Subject to the provisions of Articles 14 and 15, Lessee covenants and agrees that during the Term it will either directly or through an approved Manager (1) operate continuously the Leased Property as a hotel facility, (2) keep in full force and effect and comply in all material respects with all the provisions of the Franchise Agreement, (3) not terminate or amend in any respect the Franchise Agreement without the consent of Lessor, (4) maintain appropriate certifications and licenses for such use and (5) keep Lessor advised of the status of any material litigation affecting the Leased Property. (d) Lessee shall not commit or suffer to be committed any waste on the Leased Property, or in the Facility, nor shall Lessee cause or permit any nuisance thereon. (e) Lessee shall neither suffer nor permit the Leased Property or any portion thereof, or Lessee's Personal Property, to be used in such a manner as (1) might reasonably tend to impair Lessor's (or Lessee's, as the case may be) title thereto or to any portion thereof, or (2) may reasonably make possible a claim or claims of adverse usage or adverse possession by the public, as such, or of implied dedication of the Leased Property or any portion thereof. 20 (f) Lessee shall comply with all of the Lessor's covenants, in any loan agreement or other financing arrangement, applicable to this Lease or the operation of the Leased Property. Notwithstanding the foregoing, Lessee shall not be obligated to comply with Lessor's covenants in any loan agreements which (A) (i) are not customary, (ii) are not otherwise contemplated by this Lease Agreement or any agreement or instrument executed by Lessee in connection herewith for the benefit of Lessor, and (iii)(x) materially and adversely affect the operations at the Facility or (y) materially increase Lessee's costs of doing business or decrease revenues, unless in cases where Subsection (iii)(y) is relied upon by Lessee the additional cost thereof is borne by Lessor, or (B) obligate Lessee to guarantee repayment of any debt of Lessor, or (C) require any indemnification undertakings other than customary undertakings with respect to servicing agents or similar administrative agents which administer escrow accounts into which Lessee may deposit Rent payments as required by Lessor's lenders or other servicing agents. Lessor will provide Lessee with not less than 15, and will attempt in good faith to provide not less than 30, days prior written notice of the terms of such covenants, and if Lessee is relying upon Subsection (iii)(y), Lessee shall within five days of receipt of such notice, notify Lessor in writing of any anticipated material additional costs which Lessee may incur. Lessor shall then notify Lessee in writing whether it agrees to pay or reimburse Lessee for the material additional cost thereof as incurred by Lessee, and Lessee's receipt of such notice shall be a condition precedent to Lessee's obligation to comply with such covenants. Lessor shall have the right to dispute Lessee's reliance on Subsections (A)-(C) or Lessee's estimates of additional costs pursuant to Subsection (A)(iii)(y), and either party may submit any such disputes to arbitration under the provisions of Section 40.2. ARTICLE ------- 8 8.1. Compliance with Legal and Insurance Requirements, etc. ------------------------------------------------------ Subject to Section 8.2, 8.3(b) below and Article 12 relating to permitted contests, Lessee, at its expense, will promptly (a) comply with all applicable Legal Requirements and Insurance Requirements in respect of the use, operation, maintenance, repair and restoration of the Leased Property, and (b) procure, maintain and comply with all appropriate licenses and other authorizations required for any use of the Leased Property and Lessee's Personal Property then being made, and for the proper erection, installation, operation and maintenance of the Leased Property or any part thereof. 8.2. Legal Requirement Covenants. ---------------------------- (a) Subject to Section 8.3(b) below, Lessee covenants and agrees that the Leased Property and Lessee's Personal Property shall not be used by anyone other than Lessor for any unlawful purpose, and that Lessee shall use all commercially reasonable efforts not to permit or suffer to exist any unlawful use of the Leased Property by others. Lessee shall acquire and maintain all licenses, certifications, permits and other authorizations and approvals required to operate the Leased Property in its customary manner for the Primary Intended Use, and any other 21 lawful use conducted on the Leased Property as may be permitted from time to time hereunder. Lessee further covenants and agrees that Lessee's use of the Leased Property and maintenance, alteration, and operation of the same, and all parts thereof, shall at all times conform to all Legal Requirements, unless the same are finally determined by a court of competent jurisdiction to be unlawful (and Lessee shall cause all its sub-tenants, invitees or others to so comply with all Legal Requirements). (b) As between Lessor and Lessee, Lessee is solely responsible for all liabilities or obligations of any kind with respect to employees at the Leased Property during the Term. Without limiting the generality of the foregoing sentence, Lessee is solely responsible for any required compliance with the Worker Adjustment, Retraining and Notification Act of 1988 (WARN) or any similar state law applicable to the Leased Property; any required compliance with the Consolidated Omnibus Budget Reconciliation Act of 1985, as amended (COBRA); and all alleged and actual obligations and claims arising from or relating to any employment agreement, collective bargaining agreement or employee benefit plans, any grievances, arbitrations, or unfair labor practice charges, and relating to compliance with any applicable state or federal labor employment law, including but not limited to all laws pertaining to discrimination, workers' compensation, unemployment compensation, occupational safety and health, unfair labor practices, family and medical leave, and wages, hours or employee benefits. Lessee agrees to indemnify and defend and hold harmless Lessor from and against any claims relating to any of the foregoing matters. Lessee further agrees to reimburse Lessor for any and all losses, damages, costs, expenses, liabilities and obligations of any kind, including without limitation reasonable attorney's fees and other legal costs and expenses, incurred by Lessor in connection with any of the foregoing matters. Notwithstanding the Lessee's obligations under Section 8.1 to obtain and maintain all permits and licenses required for the use of the Leased Property, and without limiting any obligations of Lessee hereunder, if (i) applicable law requires that the owner (rather than a lessee) of a hotel be the licensee under the required liquor license for the Facility or (ii) the former owner of the Facility is holding the liquor license and continuing to exercise management and supervision of the liquor services at the Facility pending transfer of the license to Lessor or Lessee, the Lessee shall indemnify and hold the Lessor harmless from any liability, damages or claims (a) arising in connection with liquor operations at the Facility during such period of time, except for the Lessor's gross negligence or willful misconduct or (b) made by or through the former owner with respect to liquor operations at the Facility. 8.3. Environmental Covenants. ------------------------ Lessor and Lessee (in addition to, and not in diminution of, Lessee's covenants and undertakings in Sections 8.1 and 8.2 hereof) covenant and agree as follows: (a) At all times hereafter until Lessee completely vacates the Leased Property and surrenders possession of the same to Lessor, Lessee shall fully comply with all Environmental Laws applicable to the Leased Property and the operations thereon, except to the extent that such compliance would require the remediation of Environmental Liabilities for 22 which Lessee has no indemnity obligations under Section 8.3(b). Lessee agrees to give Lessor prompt written notice of (1) all Environmental Liabilities; (2) all pending, threatened or anticipated Proceedings, and all notices, demands, requests or investigations, relating to any Environmental Liability or relating to the issuance, revocation or change in any Environmental Authorization required for operation of the Leased Property; and (3) all Releases at, on, in, under or in any way affecting the Leased Property, or any Release known by Lessee at, on, in or under any property adjacent to the Leased Property; in each case as to which it has actual knowledge. (b) Lessee hereby agrees to defend, indemnify and save harmless any and all Lessor Indemnified Parties from and against any and all Environmental Liabilities except to the extent that the same (i) are caused by the intentionally wrongful acts or grossly negligent failures to act of Lessor, or (ii) result from Releases or other violations of Environmental Laws originating on adjacent property but affecting the Leased Property (a "Migration"), provided that such exclusions shall not apply to the extent that the Migration has been exacerbated by Lessee's act or negligent failure to act. (c) Lessor hereby agrees to defend, indemnify and save harmless any and all Lessee Indemnified Parties from and against any and all Environmental Liabilities to the extent that the same were caused by the intentionally wrongful acts or grossly negligent failures to act of Lessor. (d) If any Proceeding is brought against any Indemnified Party in respect of an Environmental Liability with respect to which such Indemnified Party may claim indemnification under either Section 8.3(b) or (c), the Indemnifying Party, upon request, shall at its sole expense resist and defend such Proceeding, or cause the same to be resisted and defended by counsel designated by the Indemnifying Party and approved by the Indemnified Party, which approval shall not be unreasonably withheld; provided, however, that such approval shall not be required in the case of defense by counsel designated by any insurance company undertaking such defense pursuant to any applicable policy of insurance. Each Indemnified Party shall have the right to employ separate counsel in any such Proceeding and to participate in the defense thereof, but the fees and expenses of such counsel will be at the sole expense of such Indemnified Party unless a conflict of interest prevents representation of such Indemnified Party by the counsel selected by the Indemnifying Party and such separate counsel has been approved by the Indemnifying Party, which approval shall not be unreasonably withheld. The Indemnifying Party shall not be liable for any settlement of any such Proceeding made without its consent, which shall not be unreasonably withheld, but if settled with the consent of the Indemnifying Party, or if settled without its consent (if its consent shall be unreasonably withheld), or if there be a final, nonappealable judgment for an adversary party in any such Proceeding, the Indemnifying Party shall indemnify and hold harmless the Indemnified Parties from and against any liabilities incurred by such Indemnified Parties by reason of such settlement or judgment. (e) At any time any Indemnified Party has reason to believe circumstances exist which could reasonably result in an Environmental Liability, upon reasonable prior written notice to the Lessee and the Lessor stating such Indemnified Party's basis for such belief, an Indemnified Party shall be given immediate access to the Leased Property (including, but not 23 limited to, the right to enter upon, investigate, drill wells, take soil borings, excavate, monitor, test, cap and use available land for the testing of remedial technologies), Manager and Lessee's or Manager's employees, and to all relevant documents and records regarding the matter as to which a responsibility, liability or obligation is asserted or which is the subject of any Proceeding; provided that such access may be conditioned or restricted as may be reasonably necessary to ensure compliance with law and the safety of personnel and facilities or to protect confidential or privileged information. All Indemnified Parties requesting such immediate access and cooperation shall endeavor to coordinate such efforts to result in as minimal interruption of the operation of the Leased Property as practicable. (f) The indemnification rights and obligations provided for in this Article 8 shall be in addition to any indemnification rights and obligations provided for elsewhere in this Lease, provided that in the event of a conflict between the provisions of this Section 8.3 and Article 20, the provisions of this Section 8.3 shall control. (g) The indemnification rights and obligations provided for in this Article 8 shall survive the termination of this Lease. For purposes of this Section 8.3, all amounts for which any Indemnified Party seeks indemnification shall be computed net of (a) any actual income tax benefit resulting therefrom to such Indemnified Party, (b) any insurance proceeds received (net of tax effects) with respect thereto, and (c) any amounts recovered (net of tax effects) from any third parties based on claims the Indemnified Party has against such third parties which reduce the damages that would otherwise be sustained; provided that in all cases, the timing of the receipt or realization of insurance proceeds or income tax benefits or recoveries from third parties shall be taken into account in determining the amount of reduction of damages. Each Indemnified Party agrees to use its reasonable efforts to pursue, or assign to Lessee or Lessor, as the case may be, any claims or rights it may have against any third party which would materially reduce the amount of damages otherwise incurred by such Indemnified Party. ARTICLE ------- 9 9.1. Maintenance and Repair; Capital Expenditures. --------------------------------------------- (a) Lessee will keep the Leased Property and all private roadways, sidewalks and curbs appurtenant thereto that are under Lessee's control, including windows and plate glass, parking lots, HVAC, mechanical, electrical and plumbing systems and equipment (including conduit and ductwork), and non-load bearing interior walls, in good order and repair, except for ordinary wear and tear (whether or not the need for such repairs occurred as a result of Lessee's use, any prior use, the elements or the age of the Leased Property, or any portion thereof but subject to the obligation to make necessary and appropriate repairs and replacements as provided in this Section 9.1(a)), and, except as otherwise provided in Article 14 or Article 15, with reasonable promptness, make all necessary and appropriate repairs, replacements and improvements thereto of every kind and nature, whether interior or exterior, ordinary or 24 extraordinary, foreseen or unforeseen or arising by reason of a condition existing prior to the commencement of the Term of this Lease (concealed or otherwise), or required by any governmental agency having jurisdiction over the Leased Property. Lessee, however, shall be permitted to prosecute claims against Lessor's predecessors in title for breach of any representation or warranty or for any latent defects in the Leased Property to be maintained by Lessee unless Lessor is already diligently pursuing such a claim. All repairs shall, to the extent reasonably achievable, be at least equivalent in quality to the original work. Lessee will not take or omit to take any action, the taking or omission of which might materially impair the value or the usefulness of the Leased Property or any part thereof for its Primary Intended Use.. If Lessee fails to make any required repairs or replacements after 30 days notice from Lessor, or after such longer period as may be reasonably required provided that Lessee at all times diligently proceeds with such repair or replacement, then Lessor shall have the right, but shall not be obligated, to make such repairs or replacements on behalf of and for the account of Lessee. In such event, such work shall be paid for in full by Lessee as Additional Charges. (b) Subject to Lessor's obligation to make available to the Lessee amounts for Capital Expenditures as set forth in Article 38, Lessee shall be required to make all Capital Expenditures required in connection with (i) Emergency Situations, (ii) Legal Requirements, (iii) maintenance of the Franchise Agreement, (iv) the performance by Lessee of its obligations under this Lease, and (v) other additions to the Leased Property as it may reasonably deem appropriate and that are permitted hereunder during the Term. Lessee hereby waives, to the extent permitted by law, the right to make repairs at the expense of Lessor pursuant to any law in effect at the time of the execution of this Lease or hereafter enacted. Lessor shall have the right to give, record and post, as appropriate, notices of non-responsibility under any mechanic's lien laws now or hereafter existing. (c) Nothing contained in this Lease and no action or inaction by Lessor shall be construed as (1) constituting the request of Lessor, expressed or implied, to any contractor, subcontractor, laborer, materialman or vendor to or for the performance of any labor or services or the furnishing of any materials or other property for the construction, alteration, addition, repair or demolition of or to the Leased Property or any part thereof, or (2) giving Lessee any right, power or permission to contract for or permit the performance of any labor or services or the furnishing of any materials or other property in such fashion as would permit the making of any claim against Lessor in respect thereof or to make any agreement that may create, or in any way be the basis for any right, title, interest, lien, claim or other encumbrance upon the estate of Lessor in the Leased Property, or any portion thereof. (d) Lessee will, upon the expiration or prior termination of the Term, vacate and surrender the Leased Property to Lessor in the condition in which the Leased Property was originally received from Lessor, except as repaired, rebuilt, restored, altered or added to as permitted or required by the provisions of this Lease and except for ordinary wear and tear (subject to the obligation of Lessee to maintain the Leased Property in good order and repair in accordance with Section 9.1(a) above, as would a prudent owner of comparable property, during the entire Term) or damage by casualty or Condemnation (subject to the obligation of Lessee to restore or repair as set forth in this Lease.) 25 9.2. Encroachments, Restrictions, Etc. --------------------------------- If any of the Leased Improvements, at any time, materially encroach upon any property, street or right of way adjacent to a Leased Property, or violate the agreements or conditions contained in any lawful restrictive covenant or other agreement affecting a Leased Property, or any part thereof, or impair the rights of others under any easement or right of way to which said Leased Property is subject, then promptly upon the request of Lessor or at the behest of any person affected by any such encroachment, violation or impairment, Lessee shall, at its expense, subject to its right to contest the existence of any encroachment, violation or impairment and, in such case, in the event of an adverse final determination, either (a) obtain valid and effective waivers or settlements of all claims, liabilities and damages resulting from each such encroachment, violation or impairment, whether the same shall affect Lessor or Lessee or (b) make such changes in the Leased Improvements, and take such other actions, as Lessee in the good faith exercise of its judgment deems reasonably practicable to remove such encroachment, and to end such violation or impairment, including, if necessary, the alteration of any of the Leased Improvements, and in any event take all such actions as may be necessary in order to be able to continue the operation of the Leased Improvements for the Primary Intended Use substantially in the manner and to the extent the Leased Improvements were operated prior to the assertion of such violation, impairment or encroachment. Any such alteration shall be made in conformity with the applicable requirements of Article 10. Lessee's obligations under this Section 9.2 shall be in addition to and shall in no way discharge or diminish any obligation of any insurer under any policy of title or other insurance held by Lessor. ARTICLE ------- 10 10.1. Alterations. ------------ After first obtaining the written approval of Lessor, which shall not be unreasonably withheld, Lessee shall have the right, but not the obligation, to make such additions, modifications or improvements to the Leased Property from time to time as Lessee deems desirable for its permitted uses and purposes, provided that such action will not alter the character or purposes of the Leased Property or detract from the value or operating efficiency thereof and will not impair the revenue-producing capability of the Leased Property or adversely affect the ability of the Lessee to comply with the provisions of this Lease. All such work shall be performed in a first class manner in accordance with all applicable governmental rules and regulations and after receipt of all required permits and licenses. The cost of such additions, modifications or improvements to the Leased Property shall be paid by Lessee, and all such additions, modifications and improvements shall, without payment by Lessor at any time, be included under the terms of this Lease and upon expiration or earlier termination of this Lease shall pass to and become the property of Lessor. 26 10.2. Salvage. -------- All materials which are scrapped or removed in connection with the making of repairs required by Articles 9 or 10 shall be or become the property of Lessor or Lessee depending on which party is paying for or providing the financing for such work. 10.3. Lessor Alterations. ------------------- Lessor shall have the right, but not the obligation, to make such other additions to the Leased Property as it may reasonably deem appropriate during the Term, subject to the Lessee's approval which shall not be unreasonably withheld. All such work shall be done after reasonable notice to and coordination with Lessee, so as to minimize any disruptions or interference with the operation of the Facility. ARTICLE ------- 11 11.1. Liens. ------ Subject to the provision of Article 12 relating to permitted contests, Lessee will not directly or indirectly create or allow to remain and will promptly discharge at its expense any lien, encumbrance, attachment, title retention agreement or claim upon the Leased Property resulting from the action or inaction of Lessee, or any attachment, levy, claim or encumbrance in respect of the Rent, excluding, however, (a) this Lease, (b) the matters, if any, included as exceptions or insured against in the title policy insuring Lessor's interest in the Leased Property,(c) restrictions, liens and other encumbrances which are consented to in writing by Lessor, (d) liens for those taxes which Lessee is not required to pay hereunder, (e) subleases permitted by Article 21 hereof, (f) liens for Impositions or for sums resulting from noncompliance with Legal Requirements so long as (1) the same are not yet delinquent or (2) such liens are in the process of being contested as permitted by Article 12, (g) liens of mechanics, laborers, suppliers or vendors for sums either disputed or not yet due provided that any such liens for disputed sums are in the process of being contested as permitted by Article 12 hereof, and (h) any liens which are the responsibility of Lessor pursuant to the provisions of Article 32 of this Lease. ARTICLE ------- 12 12.1. Permitted Contests. ------------------- Lessee shall have the right to contest the amount or validity of any Imposition to be paid by Lessee or any Legal Requirement or any lien, attachment, levy, encumbrance, charge or claim (any such Imposition, Legal Requirement, lien, attachment, levy, encumbrance, charge or claim herein referred to as "Claims") not otherwise permitted by Article 11, by appropriate legal proceedings in good faith and with due diligence (but this shall not be deemed or construed 27 in any way to relieve, modify or extend Lessee's covenants to pay or its covenants to cause to be paid any such charges at the time and in the manner as in this Article provided), on condition, however, that such legal proceedings shall not operate to relieve Lessee from its obligations hereunder and shall not cause the sale or risk the loss of any portion of the Leased Property, or any part thereof, or cause Lessor or Lessee to be in default under any mortgage, deed of trust, security deed or other agreement encumbering the Leased Property or any interest therein. Upon the request of Lessor, Lessee shall either (a) provide a bond or other assurance reasonably satisfactory to Lessor that all Claims which may be assessed against the Leased Property together with interest and penalties, if any, thereon and legal fees anticipated to be incurred in connection therewith will be paid, or (b) deposit within the time otherwise required for payment with a bank or trust company as trustee upon terms reasonably satisfactory to Lessor, as security for the payment of such Claims, money in an amount sufficient to pay the same, together with interest and penalties thereon and legal fees anticipated to be incurred in connection therewith, as to all Claims which may be assessed against or become a Claim on the Leased Property, or any part thereof, in said legal proceedings. Lessee shall furnish Lessor and any lender of Lessor with reasonable evidence of such deposit within five days of the same. Lessor agrees to join in any such proceedings if the same be required to legally prosecute such contest of the validity of such Claims; provided, however, that Lessor shall not thereby be subjected to any liability for the payment of any costs or expenses in connection with any proceedings brought by Lessee; and Lessee covenants to indemnify and save harmless Lessor from any such costs or expenses. Lessee shall be entitled to any refund of any Claims and such charges and penalties or interest thereon which have been paid by Lessee or paid by Lessor and for which Lessor has been fully reimbursed. In the event that Lessee fails to pay any Claims when due or to provide the security therefor as provided in this paragraph and to diligently prosecute any contest of the same, Lessor may, upon ten days advance Notice to Lessee, pay such charges together with any interest and penalties and the same shall be repayable by Lessee to Lessor as Additional Charges at the next Payment Date provided for in this Lease. Provided, however, that should Lessor reasonably determine that the giving of such Notice would risk loss to the Leased Property or cause damage to Lessor, then Lessor shall only give such Notice as is practical under the circumstances. Lessor reserves the right to contest any of the Claims at its expense not pursued by Lessee. Lessor and Lessee agree to cooperate in coordinating the contest of any Claims. ARTICLE ------- 13 13.1. General Insurance Requirements. ------------------------------- (a) Coverages. During the Term of this Lease, the Leased Property shall at all times be insured with the kinds and amounts of insurance described below. This insurance shall be written by companies authorized to issue insurance in the State. The policies must name the Lessor as an additional named insured, and the Manager shall also be named as an additional insured under the coverages described in Sections 13.1(a) (iv) through (xi). Losses shall be payable to Lessor or Lessee as provided in this Lease. Any loss adjustment for coverages insuring both parties shall require the written consent of Lessor and Lessee, each acting reasonably and in good faith. Evidence of insurance shall be deposited with Lessor. The policies 28 on the Leased Property, including the Leased Improvements, Fixtures and Lessee's Personal Property, shall satisfy the requirements of the Franchise Agreement and of any ground lease, mortgage, security agreement or other financing lien affecting the Leased Property and at a minimum shall include: (i) Building insurance on the "Special Form" (formerly "All Risk" form) (including earthquake and flood in reasonable amounts if and as determined by Lessor, in the exercise of its reasonable discretion, or Lessor's underwriters or lenders) in an amount not less than 100% of the then full replacement cost thereof (as defined in Section 13.2) or such other amount which is acceptable to Lessor, and personal property insurance on the "Special Form" in the full amount of the replacement cost thereof; (ii) Insurance for loss or damage (direct and indirect) from steam boilers, pressure vessels or similar apparatus, air conditioning systems, piping and machinery, and sprinklers, if any, now or hereafter installed in the Facility, in the minimum amount of $5,000,000 or in such greater amounts as are then customary or as may be reasonably requested by Lessor from time to time; (iii) Loss of income insurance on the "Special Form", in the amount of 18 months of the sum of [Initial Fixed Rent or] Base Rent plus Percentage Rent (based on the last Lease Year of operation or, to the extent the Leased Property has not been operated for an entire 18-month Lease Year, based on prorated Percentage Rent) for the benefit of Lessor, and business interruption insurance on the "Special Form" in the amount of 18 months of gross profit, for the benefit of Lessee; (iv) Commercial general liability insurance, with amounts not less than $1,000,000 combined single limit for each occurrence and $2,000,000 for the aggregate of all occurrences within each policy year, as well as excess liability (umbrella) insurance with limits of at least $50,000,000 per occurrence, covering each of the following: bodily injury, death, or property damage liability per occurrence, personal and advertising injury, general aggregate, products and completed operations, with respect to Lessor, and "all risk legal liability" (including liquor law or "dram shop" liability, if liquor or alcoholic beverages are served on the Leased Property) with respect to Lessor and Lessee; (v) Fidelity bonds or blanket crime policies with limits and deductibles as may be reasonably determined by Lessor, covering Lessee's and/or Manager's employees in job classifications normally bonded under prudent hotel management practices in the United States or otherwise required by law; (vi) Workers' compensation insurance to the extent necessary to protect Lessor, Lessee and the Leased Property against Lessee's and/or Manager's workman's compensation claims to the extent required by applicable state laws; (vii) Comprehensive form vehicle liability insurance for owned, non-owned, and hired vehicles, in the amount of $1,000,000; 29 (viii) Garagekeeper's legal liability insurance covering both comprehensive and collision-type losses with a limit of liability of $3,000,000 for any one occurrence, of which coverage in excess of $1,000,000 may be provided by way of an excess liability policy; (ix) Innkeeper's legal liability insurance covering property of guests while on the Leased Property for which Lessor is legally responsible with a limit of not less than $2,000 per guest and $50,000 in any one occurrence or $25,000 annual aggregate; (x) Safe deposit box legal liability insurance covering property of guests while in a safe deposit box on the Leased Property for which Lessor is legally responsible with a limit of not less than $50,000 in any one occurrence; and (xi) Insurance covering such other hazards (such as plate glass or other common risks) and in such amounts as may be (A) required by a Holder, or (B) customary for comparable properties in the area of the Leased Property and is available from insurance companies, insurance pools or other appropriate companies authorized to do business in the State at rates which are economically practicable in relation to the risks covered as may be reasonably determined by Lessor. (b) Responsibility for Insurance. Lessor shall obtain the insurance and pay the premiums for the coverages described in Section 13.1(a)(i) - - (iii) above (excluding the business interruption insurance for the benefit of the Lessee in Section 13.1(a)(iii)). Lessee shall obtain the insurance and pay the premiums for the coverages described in Section 13.1(a)(iii) - (xi) above (excluding the loss of income insurance for the benefit of the Lessor in Section 13.1(a)(iii)). The Lessee shall also be responsible for any and all deductibles in connection with such coverages. In the event that Lessor can obtain comparable insurance coverage required to be carried by Lessee from comparable insurers and at a cost significantly less than that at which Lessee can obtain such coverage, the parties shall cooperate in good faith to obtain such coverage at the lower cost and the Lessee shall pay the premiums therefor. 13.2. Replacement Cost. ----------------- The term "full replacement cost" as used herein shall mean the actual replacement cost of the Leased Property requiring replacement from time to time including an increased cost of construction endorsement, if available, and the cost of debris removal. In the event either party believes that full replacement cost has increased or decreased at any time during the Term, it shall have the right to have such full replacement cost redetermined. 13.3. (Intentionally omitted) ----------------------- 30 13.4. Waiver of Subrogation. ---------------------- All insurance policies covering the Leased Property, the Fixtures, the Facility or Lessee's Personal Property, including, without limitation, contents, fire and casualty insurance, shall expressly waive any right of subrogation on the part of the insurer against the other party. Each party agrees to seek recovery from any applicable insurance coverage prior to seeking recovery against the other party. 13.5. Form Satisfactory, etc. ----------------------- All of the policies of insurance referred to in this Article 13 that are the responsibility of the Lessee shall be written in a form, with deductibles and by insurance companies satisfactory to Lessor and shall satisfy the requirements of any ground lease, mortgage, security agreement or other financing lien on the Leased Property and of the Franchise Agreement. The Lessee shall pay all of the premiums therefor, and deliver copies of such policies or certificates thereof to the Lessor prior to their effective date (and, with respect to any renewal policy, 30 days prior to the expiration of the existing policy), and in the event of the failure of the Lessee either to effect such insurance as herein called for or to pay the premiums therefor, or to deliver such policies or certificates thereof to the Lessor at the times required, the Lessor shall be entitled, but shall have no obligation, after 10 days' Notice to Lessee (or after less than 10 days' Notice if required to prevent the expiration of any existing policy), to effect such insurance and pay the premiums therefor, and to be reimbursed by Lessee for any such premiums upon written demand therefor. Each insurer mentioned in this Article 13 shall agree, by endorsement to the policy or policies issued by it, or by independent instrument furnished to the Lessor that it will give to Lessor 30 days' written notice before the policy or policies in question shall be materially altered, allowed to expire or canceled. 13.6. Increase in Limits. ------------------- If either Lessor or Lessee at any time deems the limits of the personal injury or property damage under the comprehensive public liability insurance then carried to be either excessive or insufficient, Lessor and Lessee shall endeavor in good faith to agree on the proper and reasonable limits for such insurance to be carried and such insurance shall thereafter be carried with the limits thus agreed on until further change pursuant to the provisions of this Section. If the parties fail to agree on such limits, the matter shall be referred to arbitration as provided for in Section 40.2. 13.7. Blanket Policy. --------------- Notwithstanding anything to the contrary contained in this Article 13, Lessee may bring the insurance provided for herein within the coverage of a so-called blanket policy or policies of insurance carried and maintained by Lessee; provided, however, that the coverage afforded to Lessor and Lessee will not be reduced or diminished or otherwise be different from that which would exist under a separate policy meeting all other requirements of this Lease by 31 reason of the use of such blanket policy of insurance, and provided further that the requirements of this Article 13 are otherwise satisfied. 13.8. Separate Insurance. ------------------- Neither Lessor nor Lessee shall on its own initiative or pursuant to the request or requirement of any third party, take out separate insurance concurrent in form or contributing in the event of loss with that required in this Article to be furnished, or increase the amount of any then existing insurance by securing an additional policy or additional policies, unless all parties having an insurable interest in the subject matter of the insurance, including in all cases Lessor, are included therein as additional insureds, and the loss is payable under such additional separate insurance in the same manner as losses are payable under this Lease. Each party shall immediately notify the other party that it has obtained any such separate insurance or of the increasing of any of the amounts of the then existing insurance. 13.9. Reports On Insurance Claims. ---------------------------- Lessee shall promptly investigate and make a complete and timely written report to the appropriate insurance company as to all accidents, all claims for damage relating to the ownership, operation, and maintenance of the Facility, and any damage or destruction to the Facility and the estimated cost of repair thereof and shall prepare any and all reports required by any insurance company in connection therewith. All such reports shall be timely filed with the insurance company as required under the terms of the insurance policy involved, and a copy of all such reports shall be furnished to Lessor. Lessee shall be authorized to adjust, settle or compromise any insurable loss, or to execute proofs of such losses, in the aggregate, of $10,000 or less, with respect to any single casualty or other event. ARTICLE ------- 14 14.1. Insurance Proceeds. ------------------- Subject to the provision of Section 13.9, all proceeds of the insurance contemplated by Sections 13.1(a) (i) and (ii) payable by reason of any loss or damage to the Leased Property, or any portion thereof, and insured under any policy of insurance required by Article 13 of this Lease shall be paid to Lessor and held in trust in an interest bearing account and made available, if applicable, for reconstruction or repair, as the case may be, of any damage to or destruction of the Leased Property or any portion thereof, and, if applicable, shall be paid out by Lessor from time to time for the reasonable costs of such reconstruction or repair upon satisfaction of reasonable terms and conditions specified by Lessor. Any excess proceeds of insurance remaining after the completion of the restoration or reconstruction of the Leased Property shall be paid to Lessor. If neither Lessor nor Lessee is required or elects to repair and restore, and the Lease is terminated as described in Section 14.2, all such insurance proceeds shall be retained by Lessor except for any amount thereof paid with respect to Lessee's Personal 32 Property. All salvage resulting from any risk covered by insurance shall belong to Lessor, except to the extent of salvage relating to Lessee's Personal Property. 14.2. Reconstruction in the Event of Damage or Destruction Covered by Insurance. ---------- (a) If during the Term the Leased Property is totally or partially destroyed by a risk covered by the insurance described in Article 13 and the Facility thereby is rendered Unsuitable for its Primary Intended Use, the Lease shall terminate as of the date of the casualty and neither Lessor nor Lessee shall have any further liability hereunder except for any liabilities which have arisen prior to or which survive such termination, and Lessor shall be entitled to retain all insurance proceeds except for any amount thereof paid with respect to Lessee's Personal Property. (b) If during the Term the Leased Property is partially destroyed by a risk covered by the insurance described in Article 13, but the Facility is not thereby rendered Unsuitable for its Primary Intended Use, Lessor or, at the election of Lessor, Lessee shall restore the Facility to substantially the same condition as existed immediately before the damage or destruction and otherwise in accordance with the terms of the Lease. Such damage or destruction shall not terminate this Lease. If Lessee restores the Facility, the insurance proceeds shall be paid out by Lessor from time to time for the reasonable costs of such restoration upon satisfaction of terms and conditions specified by Lessor, and any excess proceeds remaining after such restoration shall be paid to Lessor except for any amount thereof paid with respect to Lessee's Personal Property. (c) If the cost of the repair or restoration exceeds the amount of proceeds received by Lessor from the insurance required under Article 13, Lessor shall agree to contribute any excess amounts needed to restore the Facility prior to requiring Lessee to commence such work. Such difference shall be made available by Lessor, together with any other insurance proceeds, for application to the cost of repair and restoration in accordance with the provisions of Section 14.2(b). 14.3. Reconstruction in the Event of Damage or Destruction Not Covered by Insurance or When Holder Will Not Release Insurance Proceeds. ------------------------------------------------------------- If during the Term the Facility is totally or materially damaged or destroyed by a risk not covered by the insurance described in Article 13, or, notwithstanding the provisions of Section 14.2(b), if the Holder will not make the proceeds of such insurance available to Lessor for restoration of the Facility, whether or not in either event such damage or destruction renders the Facility Unsuitable for its Primary Intended Use, Lessor, at its option, shall either, (a) at Lessor's sole cost and expense, restore the Facility to substantially the same condition it was in immediately before such damage or destruction and such damage or destruction shall not terminate this Lease, or (b) terminate the Lease and neither Lessor nor Lessee shall have any further liability thereunder except for any liabilities which have arisen or occurred prior to such termination and those which expressly survive termination of this Lease. If such damage or destruction is determined by Lessor not to be material, Lessor may, at Lessor's sole cost and 33 expense, restore the Facility to substantially the same condition as existed immediately before the damage or destruction and otherwise in accordance with the terms of the Lease, and such damage or destruction shall not terminate the Lease. 14.4. Lessee's Property and Business Interruption Insurance. ------------------------------------------------------ All insurance proceeds payable by reason of any loss of or damage to any of Lessee's Personal Property and the business interruption insurance maintained for the benefit of Lessee shall be paid to Lessee; provided, however, no such payments shall diminish or reduce the insurance payments otherwise payable to or for the benefit of Lessor hereunder. 14.5. Abatement of Rent. ------------------ Any damage or destruction due to casualty notwithstanding, and provided the Lease has not otherwise been terminated, this Lease shall remain in full force and effect and Lessee's obligation to pay Rent required by this Lease shall remain unabated by any damage or destruction which does not result in a reduction of Gross Revenues. If and to the extent that any damage or destruction results in a reduction of Gross Revenues which would otherwise be realizable from the operation of the Facility, then Lessor shall receive all loss of income insurance and Lessee shall have no obligation to pay Rent in excess of the amount of Percentage Rent, if any, realizable from Gross Revenues generated by the operation of the Leased Property during the existence of such damage or destruction. ARTICLE ------- 15 15.1. Definition. ----------- (a) "Condemnation" means a Taking resulting from (1) the exercise of any governmental power, whether by legal proceedings or otherwise, by a Condemnor, and (2) a voluntary sale or transfer by Lessor to any Condemnor, either under threat of condemnation or while legal proceedings for condemnation are pending. (b) "Date of Taking" means the date the Condemnor has the right to possession of the property being condemned. (c) "Award" means all compensation, sums or anything of value awarded, paid or received on a total or partial Condemnation. (d) "Condemnor" means any public or quasi-public authority, or private corporation or individual, having the power of Condemnation. 34 15.2. Parties' Rights and Obligations. -------------------------------- If during the Term there is any Condemnation of all or any part of the Leased Property or any interest in this Lease, the rights and obligations of Lessor and Lessee shall be determined by this Article 15. 15.3. Total Taking. ------------- If title to the fee of the whole of the Leased Property is condemned by any Condemnor, this Lease shall cease and terminate as of the Date of Taking by the Condemnor. If title to the fee of less than the whole of the Leased Property is so taken or condemned, which nevertheless renders the Leased Property Unsuitable for its Primary Intended Use or Uneconomic for its Primary Intended Use, then either Lessee or Lessor shall have the option, by notice to the other, at any time prior to the Date of Taking, to terminate this Lease as of the Date of Taking. Upon such date, if such Notice has been given, this Lease shall thereupon cease and terminate. All Base Rent, Percentage Rent and Additional Charges paid or payable by Lessee hereunder shall be apportioned as of the Date of Taking, and Lessee shall promptly pay Lessor such amounts. 15.4. Allocation of Award. -------------------- The total Award made with respect to the Leased Property or for loss of rent, or for Lessor's loss of business beyond the Term, shall be solely the property of and payable to Lessor. Any Award made for loss of Lessee's business during the remaining Term, if any, for the taking of Lessee's Personal Property, or for removal and relocation expenses of Lessee in any such proceedings shall be the sole property of and payable to Lessee. In any Condemnation proceedings Lessor and Lessee shall each seek its Award in conformity herewith, at its respective expense; provided, however, neither Lessor nor Lessee shall initiate, prosecute or acquiesce in any proceedings that may result in a diminution of any Award payable to the other. 15.5. Partial Taking. --------------- (a) If title to less than the whole of the Leased Property is condemned, and the Leased Property is not Unsuitable for its Primary Intended Use or Uneconomic for its Primary Intended Use, or if Lessor is entitled but elects not to terminate this Lease as provided in Section 15.3, then Lessor or, at Lessor's election, Lessee shall, with all reasonable dispatch and to the extent that the Holder permits the application of the Award therefor and the Award is sufficient therefor, restore the untaken portion of any Leased Improvements so that such Leased Improvements constitute a complete architectural unit of the same general character and condition (as nearly as may be possible under the circumstances) as the Leased Improvements existing immediately prior to the Condemnation. Lessor and Lessee shall each contribute to the cost of restoration that part of its Award specifically allocated to such restoration, if any, together with severance and other damages awarded for the taken Leased Improvements; provided, however, that the amount of such contribution shall not exceed such cost. 35 (b) In the event of a partial Taking as described in Section 15.5(a), which does not result in a termination of this Lease by Lessor, the Base Rent shall be abated in the manner and to the extent that is fair, just and equitable to both Lessee and Lessor, taking into consideration, among other relevant factors, the number of usable rooms, the amount of square footage, or the revenues affected by such partial Taking. If Lessor and Lessee are unable to agree upon the amount of such abatement within 30 days after such partial Taking, the matter shall be submitted to Arbitration as provided for in Section 40.2 hereof. 15.6. Temporary Taking. ----------------- If the whole or any part of the Leased Property or of Lessee's interest under this Lease is condemned by any Condemnor for its temporary use or occupancy, this Lease shall not terminate by reason thereof, and Lessee shall continue to pay, in the manner and at the times herein specified, the full amounts of Base Rent and Additional Charges, but only to the extent of the Award made to Lessee for such Condemnation allocable to the Term. In addition, to the extent of the remaining balance, if any, of the Award made for such Condemnation allocable to the Term (after payment of Base Rent and Additional Charges), Lessee shall pay Percentage Rent at a rate equal to the average Percentage Rent during the last three preceding full Lease Years (or if three full Lease Years shall not have elapsed, the average during the preceding full Lease Years). Except only to the extent that Lessee may be prevented from so doing pursuant to the terms of the order of the Condemnor, Lessee shall continue to perform and observe all of the other terms, covenants, conditions and obligations hereof on the part of the Lessee to be performed and observed, as though such Condemnation had not occurred. In the event of any Condemnation as in this Section 15.6 described, the entire amount of any Award made for such Condemnation allocable to the Term of this Lease, whether paid by way of damages, rent or otherwise, shall be paid to Lessee. Lessee covenants that upon the termination of any such period of temporary use or occupancy it will, to the extent that its Award is sufficient therefor and subject to Lessor's contribution as set forth below, restore the Leased Property as nearly as may be reasonably possible to the condition in which the same was immediately prior to such Condemnation, unless such period of temporary use or occupancy extends beyond the expiration of the Term, in which case Lessee shall not be required to make such restoration. If restoration is required hereunder, Lessor shall contribute to the cost of such restoration that portion of its entire Award that is specifically allocated to such restoration in the judgment or order of the court, if any. ARTICLE ------- 16 16.1. Events of Default. ------------------ Any one or more of the following events shall constitute an Event of Default hereunder: (a) if Lessee fails to make any payment of [Initial Fixed Rent,] Base Rent or Percentage Rent or Additional Charges within ten days after receipt by Lessee of Notice from 36 Lessor that the same has become due and payable, provided that Lessor shall not be required to give any such Notice more than twice in any Lease Year and that any third or subsequent failure by Lessee during such Lease Year to make any payment of [Initial Fixed Rent,] Base Rent or Percentage Rent on the date the same becomes due and payable shall constitute an immediate Event of Default; or (b) if Lessee fails to observe or perform any other term, covenant or condition of this Lease and such failure is not curable, or if curable is not cured by Lessee within a period of 30 days after receipt by the Lessee of Notice thereof from Lessor, unless such failure is curable but cannot with due diligence be cured within a period of 30 days, in which case it shall not be deemed an Event of Default if (i) Lessee, within such 30 day period, proceeds with due diligence to cure the failure and thereafter diligently completes the curing thereof within 120 days of Lessor's Notice to Lessee, which 120-day period shall cease to run during any period that a cure of such failure is prevented by an Unavoidable Delay and shall resume running upon the cessation of such Unavoidable Delay, and (ii) the failure does not result in a notice or declaration of default under any material contract or agreement to which Lessor, the Company, or any Affiliate of either of them is a party or by which any of their assets are bound; or (c) if Lessee or Manager shall (i) be generally not paying its debts as they become due, (ii) file, or consent by answer or otherwise to the filing against it of, a petition for relief or reorganization or arrangement or any other petition in bankruptcy, for liquidation or to take advantage of any bankruptcy or insolvency law of any jurisdiction, (iii) make an assignment for the benefit of its creditors, (iv) consent to the appointment of a custodian, receiver, trustee or other officer with similar powers with respect to it or with respect to any substantial part of its assets, (v) be adjudicated insolvent or (vi) take corporate action for the purpose of any of the foregoing; or if a court or governmental authority of competent jurisdiction shall enter an order appointing, without consent by Lessee, a custodian, receiver, trustee or other officer with similar powers with respect to it or with respect to any substantial part of its assets, or if an order for relief shall be entered in any case or proceeding for liquidation or reorganization or otherwise to take advantage of any bankruptcy or insolvency law of any jurisdiction, or ordering the dissolution, winding-up or liquidation of Lessee, or if any petition for any such relief shall be filed against Lessee and such petition shall not be dismissed within 60 days; or (d) if Lessee or Manager is liquidated or dissolved, or begins proceedings toward such liquidation or dissolution, or, in any manner, ceases to do business or permits the sale or divestiture of substantially all of its assets; or (e) if the estate or interest of Lessee in the Leased Property or any part thereof is voluntarily or involuntarily transferred, assigned, conveyed, levied upon or attached in any Proceeding (for purposes of this Section 16.1(e), a Change of Control shall constitute an assignment of this Lease); or (f) if, except as a result of and to the extent required by damage, destruction, Condemnation, Lessee ceases operations on the Leased Property; or 37 (g) if the Franchise Agreement with respect to the Facility on the Leased Property is terminated by the franchisor as a result of any action or failure to act by the Lessee or its agents, other than the failure to complete improvements required by the franchisor because the Lessor fails to pay the costs of such improvements; or (h) if an Event of Default occurs under any of the Other Leases. If litigation or arbitration is commenced with respect to any alleged default under this Lease, the prevailing party in such litigation shall receive, in addition to its damages incurred, such sum as the court shall determine as its reasonable attorneys' fees, and all costs and expenses incurred in connection therewith. 16.2. Remedies. --------- Upon the occurrence of an Event of Default, Lessor shall have the right, at Lessor's option, to elect to do any one or more of the following without further notice or demand to Lessee: (a) terminate this Lease, in which event Lessee shall immediately surrender the Leased Property to Lessor, and, if Lessee fails to so surrender, Lessor shall have the right, without notice, to enter upon and take possession of the Leased Property and to expel or remove Lessee and its effects without being liable for prosecution or any claim for damages therefor; and Lessee shall, and hereby agrees to, indemnify Lessor for all loss and damage which Lessor suffers by reason of such termination, including without limitation, damages in an amount equal to the total of (1) the reasonable costs of recovering the Leased Property in the event that Lessee does not promptly surrender the Leased Property, and all other reasonable expenses incurred by Lessor in connection with Lessee's default; and (2) the unpaid Rent earned as of the date of termination, plus interest at the Overdue Rate accruing after the due date; (3) the total Rent (including Percentage Rent as determined below) which Lessor would have received under this Lease for the remainder of the Term, but discounted to the then present value at a rate of 12% per annum, less the fair market rental value of the balance of the Term as of the time of such default discounted to the then present value at a rate of 12% per annum; and (4) all other sums of money and damages owing by Lessee to Lessor; or (b) enter upon and take possession of the Leased Property without terminating this Lease and without being liable to prosecution or any claim for damages therefor, and, if Lessor elects, relet the Leased Property on such terms as Lessor deems advisable, in which event Lessee shall pay to Lessor on demand the reasonable cost of repossessing the Leased Property and any deficiency between the Rent payable hereunder (including Percentage Rent as determined below) and the rent paid under such reletting; provided, however, that Lessee shall not be entitled to any excess payments received by Lessor from such reletting (Lessor's failure to relet the Leased Property shall not release or affect Lessee's liability for Rent or for damages); or (c) enter the Leased Property without terminating this Lease and without being liable for prosecution or any claim for damages therefor and maintain the Leased Property and repair or replace any damage thereto or do anything for which Lessee is responsible hereunder. Lessee shall reimburse Lessor immediately upon demand for any expense which Lessor incurs in thus effecting Lessee's compliance under this Lease, and Lessor shall not be liable to Lessee for any damages with respect thereto. Notwithstanding 38 anything herein to the contrary, Lessee shall not be liable to Lessor for consequential, punitive or exemplary damages. The rights granted to Lessor in this Section 16.2 shall be cumulative of every other right or remedy provided in this Lease or which Lessor may otherwise have at law or in equity or by statute, and the exercise of one or more rights or remedies shall not prejudice or impair the concurrent or subsequent exercise of other rights or remedies or constitute a forfeiture or waiver of Rent or damages accruing to Lessor by reason of any Event of Default under this Lease. Percentage Rent for the purposes of this Section 16.2 shall be a sum equal to (i) the average of the annual amounts of the Percentage Rent for the three full Lease Years immediately preceding the Lease Year in which the termination, re-entry or repossession takes place, or (ii) if three full Lease Years shall not have elapsed, the average of the Percentage Rent during the preceding full Lease Years during which the Lease was in effect, or (iii) if one full Lease Year has not elapsed, the amount derived by annualizing the Percentage Rent from the effective date of this Lease. 16.3. Waiver. ------- Each party waives, to the extent permitted by applicable law, any right to a trial by jury in any proceedings brought by either party to enforce the provisions of this Lease, including, without limitation, proceedings to enforce the remedies set forth in this Article 16, and Lessee waives the benefit of any laws now or hereafter in force exempting property from liability for rent or for debt. Lessor waives any right to "pierce the corporate veil" of Lessee other than to the extent funds shall have been paid to any Affiliate of Lessee following a default leading to any Event of Default, and then only to the extent of such payments. 16.4. Application of Funds. --------------------- Any payments received by Lessor under any of the provisions of this Lease during the existence or continuance of any Event of Default shall be applied to Lessee's obligations in the order that Lessor may determine or as may be prescribed by the laws of the State. ARTICLE ------- 17 17.1. Lessor's Right to Cure Lessee's Default. ---------------------------------------- If Lessee fails to make any payment or to perform any act required to be made or performed under this Lease including, without limitation, Lessee's failure to comply with the terms of any Franchise Agreement, and fails to cure the same within the relevant time periods provided in Section 16.1, Lessor, without waiving or releasing any obligation of Lessee, and without waiving or releasing any obligation or default, may (but shall be under no obligation to) at any time thereafter upon Notice to Lessee make such payment or perform such act for the 39 account and at the expense of Lessee, and may, to the extent permitted by law, enter upon the Leased Property for such purpose and, subject to Section 16.2, take all such action thereon as, in Lessor's opinion, may be necessary or appropriate therefor. No such entry shall be deemed an eviction of Lessee. All sums so paid by Lessor and all costs and expenses (including, without limitation, reasonable attorneys' fees and expenses, in each case to the extent permitted by law) so incurred, together with a late charge thereon (to the extent permitted by law) at the Overdue Rate from the date on which such sums or expenses are paid or incurred by Lessor, shall be paid by Lessee to Lessor on demand. The obligations of Lessee and rights of Lessor contained in this Article shall survive the expiration or earlier termination of this Lease. ARTICLE ------- 18 18.1. Personal Property Limitation. ----------------------------- (a) Anything contained in this Lease to the contrary notwithstanding, the average of the adjusted tax bases of the items of Lessor's personal property that are leased to Lessee under this Lease at the beginning and at the end of any Lease Year shall not exceed 15% of the average of the aggregate adjusted tax bases of the real and personal property contained in the Leased Property at the beginning and at the end of such Lease Year (the "Personal Property Limitation"). If Lessor reasonably anticipates that the Personal Property Limitation will be exceeded with respect to the Leased Property for any Lease Year, Lessor shall notify Lessee, and Lessee shall purchase items of personal property anticipated by Lessor to be in excess of the Personal Property Limitation ("Excess Personal Property Items") either from Lessor or a third party. If the Excess Personal Property Items are purchased from Lessor, the purchase prices of such Excess Personal Property Items shall be equal to the adjusted tax bases of such Excess Personal Property Items in the hands of Lessor as of the closing of the purchase. (b) If Lessee purchases Excess Personal Property Items, the Rent shall be reduced for the calendar quarter in which such purchase occurs and each of four succeeding calendar quarters by an amount each calendar quarter equal to 20% of the aggregate purchase prices of such Excess Personal Property Items. (c) If Lessee purchases Excess Personal Property Items, the amount required by Lessor to be deposited in the Capital Expenditure Reserve pursuant to Article 38 hereof shall be reduced for the Lease Year during which such purchase occurs by an amount equal to the aggregate purchase prices of such Excess Personal Property Items. 18.2. Sublease Rent Limitation. ------------------------- Anything contained in this Lease to the contrary notwithstanding, Lessee shall not sublet the Leased Property or enter into any similar arrangement on any basis such that the rental or other amounts to be paid by the sublessee thereunder would be based, in whole or in part, on either (a) the net income or profits derived by the business activities of the sublessee, or (b) any 40 other formula such that any portion of the Rent would fail to qualify as "rents from real property" within the meaning of Section 856(d) of the Code, or any similar or successor provision thereto. 18.3. Sublease Lessee Limitation. --------------------------- Anything contained in this Lease to the contrary notwithstanding, Lessee shall not sublease the Leased Property to, or enter into any similar arrangement with, any Person in which the Company owns, directly or indirectly, a 10% or greater interest, within the meaning of Section 856(d) (2) (B) of the Code, or any similar or successor provisions thereto. 18.4. Lessee Ownership Limitation. ---------------------------- Anything contained in this Lease to the contrary notwithstanding, neither party shall take, or permit to take, any action that would cause the Company to own, directly or indirectly, a 10% or greater interest in the Lessee within the meaning of Section 856(d) (2) (B) of the Code, or any similar or successor provision thereto. 18.5. Director, Officer and Employee Limitation. ------------------------------------------ Anything contained in this Lease to the contrary notwithstanding, Lessor and Lessee shall cooperate to ensure that (i) no officers or employees of Lessor or the Company shall be officers or employees of, or own any ownership interest in, any Person who furnishes or renders services to the tenants of the Leased Property, or manages or operates the Leased Property, other than the Lessee and (ii) no officers or employees of any Person who furnishes or renders services to the tenants of the Leased Property, or manages or operates the Leased Property, other than the Lessee shall be officers or employees of Lessor or the Company. Furthermore, if a Person serves as both (a) a director or trustee of Lessor, the Company or any other Affiliate of Lessor and (b) a director and officer (or employee) of the any Person who furnishes or renders services to the tenants of the Leased Property, or manages or operates the Leased Property, other than the Lessee, that Person shall not receive any compensation (excluding reimbursement for expenses) for serving as a trustee of the Lessor, the Company or the other Affiliate of Lessor. ARTICLE ------- 19 19.1. Holding Over. ------------- If Lessee for any reason remains in possession of the Leased Property after the expiration or earlier termination of the Term, such possession shall be as a tenant at sufferance during which time Lessee shall pay as rental each month the aggregate of (a) one-twelfth of the aggregate Base Rent and Percentage Rent payable with respect to the last Lease Year of the Term, (b)all Additional Charges accruing during the applicable month and (c) all other sums, if any, payable by Lessee under this Lease with respect to the Leased Property. During such period, Lessee shall be obligated to perform and observe all of the terms, covenants and conditions of 41 this Lease, but shall have no rights hereunder other than the right, to the extent given by law to tenancies at sufferance, to continue its occupancy and use of the Leased Property. Nothing contained herein shall constitute the consent, express or implied, of Lessor to the holding over of Lessee after the expiration or earlier termination of this Lease. ARTICLE ------- 20 20.1. Indemnification. ---------------- Subject to the last sentence of Section 13.4, Lessee will protect, indemnify, hold harmless and defend Lessor Indemnified Parties from and against all liabilities, obligations, claims, damages, penalties, causes of action, costs and expenses (including, without limitation, reasonable attorneys' fees and expenses), to the extent permitted by law, including those resulting from a Lessor Indemnified Party's own negligence but excluding those resulting from a Lessor Indemnified Party's gross negligence or willful misconduct, imposed upon or incurred by or asserted against Lessor Indemnified Parties by reason of: (a) any accident, injury to or death of persons or loss of or damage to property occurring on or about the Leased Property or adjoining sidewalks, including without limitation any claims under liquor liability, "dram shop" or similar laws, (b) any past, present or future use, misuse, non-use, condition, management, maintenance or repair by Lessee or any of its agents, employees or invitees of the Leased Property or Lessee's Personal Property or any litigation, proceeding or claim by governmental entities or other third parties to which a Lessor Indemnified Party is made a party or participant related to such use, misuse, non-use, condition, management, maintenance, or repair thereof by Lessee or any of its agents, employees or invitees, including any failure of Lessee or any of its agents, employees or invitees to perform any obligations under this Lease or imposed by applicable law (other than arising out of Condemnation proceedings), (c) any Impositions, other than any portion of Real Estate Taxes that the Lessor is obligated to pay under this Lease, (d) any failure on the part of Lessee to perform or comply with any of the terms of this Lease, and (e) the nonperformance of any of the terms and provisions of any and all existing and future subleases of the Leased Property to be performed by the landlord thereunder. Subject to the last sentence of Section 13.4, Lessor shall indemnify, save harmless and defend Lessee Indemnified Parties from and against all liabilities, obligations, claims, damages, penalties, causes of action, costs and expenses imposed upon or incurred by or asserted against Lessee Indemnified Parties as a result of (a) the gross negligence or willful misconduct of Lessor arising in connection with this Lease or (b) any failure on the part of Lessor to perform or comply with any of the terms of this Lease. Any amounts that become payable by an Indemnifying Party under this Section shall be paid within ten days after liability therefor on the part of the Indemnifying Party is determined by litigation or otherwise, and if not timely paid, shall bear a late charge (to the extent permitted by law) at the Overdue Rate from the date of such determination to the date of payment. Any such amounts shall be reduced by insurance proceeds received and any other recovery (net of costs) obtained by the Indemnified Party. An Indemnifying Party, at its expense, 42 shall contest, resist and defend any such claim, action or proceeding asserted or instituted against the Indemnified Party. The Indemnified Party, at its expense, shall be entitled to participate in any such claim, action, or proceeding, and the Indemnifying Party may not compromise or otherwise dispose of the same without the consent of the Indemnified Party, which may not be unreasonably withheld. Nothing herein shall be construed as indemnifying a Lessor Indemnified Party against its own grossly negligent acts or omissions or willful misconduct. Lessee's or Lessor's liability for a breach of the provisions of this Article shall survive any termination of this Lease. ARTICLE ------- 21 21.1. Subletting and Assignment. -------------------------- In addition to the provisions of Article 18 and Sections 21.2, 21.3 and any other express consents, conditions, limitations or other provisions set forth herein and in the Lease Master Agreement, Lessee shall not assign this Lease or hereafter sublease all or any part of the Leased Property without first obtaining the written consent of Lessor. In the case of a permitted subletting, the sublessee shall comply with the provisions of Section 21.2 and 21.3, and in the case of a permitted assignment, the assignee shall assume in writing and agree to keep and perform all of the terms of this Lease on the part of Lessee to be kept and performed and shall be, and become, jointly and severally liable with Lessee for the performance thereof. In case of either an assignment or subletting made during the Term, Lessee shall remain primarily liable, as principal rather than as surety, for the prompt payment of the Rent and for the performance and observance of all of the covenants and conditions to be performed by Lessee hereunder. An original counterpart of each such sublease and assignment and assumption, duly executed by Lessee and such sublessee or assignee, as the case may be, in form and substance satisfactory to Lessor, shall be delivered promptly to Lessor. 21.2. Attornment. ----------- Lessee shall insert in each future sublease permitted under Section 21.1 provisions to the effect that (a) such sublease is subject and subordinate to all of the terms and provisions of this Lease and to the rights of Lessor hereunder, (b) if this Lease terminates before the expiration of such sublease, the sublessee thereunder will, at Lessor's option, attorn to Lessor and waive any right the sublessee may have to terminate the sublease or to surrender possession thereunder as a result of the termination of this Lease, and (c) if the sublessee receives a written Notice from Lessor or Lessor's assignees, if any, stating that an uncured Event of Default exists under this Lease, the sublessee shall thereafter be obligated to pay all rentals accruing under said sublease directly to the party giving such Notice, or as such party may direct. All rentals received from the sublessee by Lessor or Lessor's assignees, if any, as the case may be, shall be credited against the amounts owing by Lessee under this Lease. 43 21.3. Management Agreement. --------------------- If the Lessee decides to enter into a management or agency agreement relating to the management or operation of the Facility (collectively, the "Management Agreement"), Lessor shall have the right to approve the Management Agreement , any modifications to the Management Agreement affecting the fees, costs or expenses payable or collectible thereunder, and any other material modification to the Management Agreement. Lessor's approval shall not be unreasonably withheld. The Management Agreement shall provide, among other things, that (i) upon termination of this Lease or termination of Lessee's right to possession of the Leased Property for any reason whatsoever, the Management Agreement may be terminated by Lessor without liability for any payment due or to become due to the manager of the Facility (the "Manager"), and (ii) all fees and other amounts payable by Lessee to the Manager shall be subordinate on a month to month basis to Rent and other amounts payable by Lessee to Lessor hereunder prior to the existence of an Event of Default, and shall be at all times subordinate to Rent and such other amounts after the occurrence of an Event of Default ARTICLE ------- 22 22.1. Officer's Certificates; Financial Statements; Lessor's Estoppel Certificates and Covenants. --------------------------- (a) At any time and from time to time upon not less than 10 days Notice by Lessor, Lessee will furnish to Lessor an Officer's Certificate certifying that this Lease is unmodified and in full force and effect (or that this Lease is in full force and effect as modified and setting forth the modifications), the date to which the Rent has been paid, whether to the knowledge of Lessee there is any existing default or Event of Default hereunder by Lessor or Lessee, and such other information as may be reasonably requested by Lessor. Any such certificate furnished pursuant to this Section may be relied upon by Lessor, any lender, any underwriter and any prospective purchaser of the Leased Property. (b) Lessee will furnish, at Lessee's cost and expense, the following statements and operating information to Lessor, each in a form satisfactory to Lessor: (i) Consolidated Financials of Lessee for each calendar quarter of each Lease Year, and for each calendar quarter in the Lease Year-to-date, within 20 days after the end of such calendar quarter; (ii) Consolidated Financials of Lessee and each Affiliate of Lessee, if any, that leases hotel properties from Lessor or its Affiliates, for each calendar quarter of each Lease Year, and for each calendar quarter in the Lease Year to date, within 20 days after the end of such calendar quarter; (iii) audited Consolidated Financials of Lessee for each Lease Year, including the auditor's report thereon, within 60 days after the end of such year; 44 (iv) audited Consolidated Financials of Lessee and each Affiliate of Lessee that leases hotel properties from Lessor or its Affiliates, if any, for each Lease Year, including the auditor's report thereon, within 60 days after the end of such year. The fees and expenses of the auditor incurred in connection with conducting such audits and delivering such reports shall be paid by Lessor; (v) with reasonable promptness, such other information respecting the financial condition and affairs of Lessee (A) as Lessor or the Company may require or may deem desirable in its discretion to file with or provide to the SEC or any other governmental agency or any other Person, all in the form, and either audited or unaudited, as Lessor may request in Lessor's reasonable discretion, and (B) as may be reasonably necessary to confirm compliance by Lessee and its Affiliates with the requirements of this Lease; (vi) on or before the 20th day of each calendar quarter, a balance sheet, and detailed profit and loss and cash flow statements showing the financial position of the Facility as at the end of the preceding calendar quarter, the results of operation of the Facility for such preceding calendar quarter and the Lease Year-to-date and the average daily rate, occupancy and revenue-per-available room of the Facility in such preceding calendar quarter; (vii) within five (5) days of Lessee's receipt thereof, any inspection reports received from the franchisor under the Franchise Agreement; and (viii) such other information as Lessor may reasonably request and that Lessee can provide without unreasonable expense. (c) At any time and from time to time upon not less than 10 days notice by Lessee, Lessor will furnish to Lessee or to any person designated by Lessee an estoppel certificate certifying that this Lease is unmodified and in full force and effect (or that this Lease is in full force and effect as modified and setting forth the modifications), the date to which Rent has been paid, whether to the knowledge of Lessor there is any existing default or Event of Default on Lessee's part hereunder, and such other information as may be reasonably requested by Lessee. Any such certificate furnished pursuant to this Section may be relied upon by Lessee, any lender, any underwriter and any purchaser of the assets of Lessee. (d) If Company or Lessor proposes to include in any submission or filing with its lender, stock exchange or the SEC, Consolidated Financials of Lessee delivered or required to be delivered hereunder and the consent of Lessee's auditor is required for such inclusion, Lessee shall use commercially reasonable efforts to cause its auditor to deliver promptly to Lessor the auditor's consent, in the form required, to the inclusion in the submission or filing of the Consolidated Financials (including the report of the auditor, if the Consolidated Financials to be included are audited). Lessee shall reasonably cooperate with Lessor regarding Lessee's auditor's compliance with such requests with the purpose of minimizing costs and delays. Lessee shall 45 reasonably cooperate with all requests made by its auditor, Lessor or the SEC to promptly provide to the auditor, Lessor or SEC such information or documents, including consents and representation letters, as may be necessary or desirable in connection with the preparation, delivery, audit or inclusion in SEC filings, submissions or other public documents, of information, including financial information, related to the Leased Property, the operation and financial results of the Leased Property, and the financial results and condition of the Lessee. Without limiting the foregoing, the information shall be sufficient to permit the preparation of a Management's Discussion and Analysis of Results of Operations and Financial Condition with respect to the Lessee as may be required to be included in reports and documents filed by the Company with the SEC. Lessee shall not be obligated to incur material additional expense to prepare any reports or information not specifically provided for herein that Lessor or Company may be required or elect to file with the SEC, and such material additional third-party costs shall be paid or reimbursed by Lessor. ARTICLE ------- 23 23.1. Regular Meetings; Lessor's Right to Inspect. -------------------------------------------- (a) Lessee agrees that the regional manager, the general manager, the director of marketing/sales, and the chief engineer for the Facility will meet with Lessor and its representatives on a monthly basis at the Facility throughout each Lease Year in order to discuss all aspects of the management, maintenance and operation of the Facility. If agreed upon by Lessor and Lessee, such meetings may be held by conference call. (b) Lessee shall permit Lessor and its authorized representatives, which may include auditors, underwriters and rating agencies, as frequently as reasonably requested by Lessor to (i) inspect the Leased Property and Lessee's accounts and records pertaining thereto, including general accounting records, corporate records and agreements relating to the operations of the Leased Property and Lessee's financial condition, and make copies thereof, and (ii) conduct audits, all during usual business hours upon reasonable advance notice, subject only to any business confidentiality requirements reasonably requested by Lessee. In conducting such inspections Lessor shall not unreasonably interfere with the conduct of Lessee's business at the Leased Property. (c) Lessee will, on a space available basis, provide customary gratuitous accommodations to Lessor and its representatives in connection with all such meetings and inspections. 46 ARTICLE ------- 24 24.1. No Waiver. ---------- No failure by Lessor or Lessee to insist upon the strict performance of any term hereof or to exercise any right, power or remedy consequent upon a breach thereof, and no acceptance of full or partial payment of Rent during the continuance of any such breach, shall constitute a waiver of any such breach or of any such term. To the extent permitted by law, no waiver of any breach shall affect or alter this Lease, which shall continue in full force and effect with respect to any other then existing or subsequent breach. ARTICLE ------- 25 25.1. Remedies Cumulative. -------------------- To the extent permitted by law but subject to Article 39 and any other provisions of this Lease expressly limiting the rights, powers and remedies of either Lessor or Lessee, each legal, equitable or contractual right, power and remedy of Lessor or Lessee now or hereafter provided either in this Lease or by statute or otherwise shall be cumulative and concurrent and shall be in addition to every other right, power and remedy, and the exercise or beginning of the exercise by Lessor or Lessee of any one or more of such rights, powers and remedies shall not preclude the simultaneous or subsequent exercise by Lessor or Lessee of any or all of such other rights, powers and remedies. ARTICLE ------- 26 26.1. Acceptance of Surrender. ------------------------ No surrender to Lessor of this Lease or of the Leased Property or any part thereof, or of any interest therein, shall be valid or effective unless agreed to and accepted in writing by Lessor and no act by Lessor or any representative or agent of Lessor, other than such a written acceptance by Lessor, shall constitute an acceptance of any such surrender. ARTICLE ------- 27 27.1. No Merger of Title. ------------------- There shall be no merger of this Lease or of the leasehold estate created hereby by reason of the fact that the same person or entity may acquire, own or hold, directly or indirectly: (a) this Lease or the leasehold estate created hereby or any interest in this Lease or such leasehold estate and (b) the fee estate in the Leased Property. 47 ARTICLE ------- 28 28.1. Conveyance by Lessor. --------------------- Lessor shall have the unrestricted right to mortgage or otherwise convey the Leased Property to a Holder. If Lessor conveys the Leased Property in accordance with the terms hereof other than to a Holder, and the grantee or transferee of the Leased Property expressly assumes in writing all obligations of Lessor hereunder arising or accruing from and after the date of such conveyance or transfer, Lessor shall thereupon be released from all future liabilities and obligations of Lessor under this Lease arising or accruing from and after the date of such conveyance or other transfer as to the Leased Property and all such future liabilities and obligations shall thereupon be binding upon the new owner. If Lessee is not reasonably satisfied that the new owner is a capable, reliable and qualified Person of good reputation and character, Lessee may terminate this Lease upon 60-days Notice to Lessor given within 30 days after Lessee receives Notice of such conveyance. 28.2. Lessor May Grant Liens. ----------------------- (a) Subject to Section 7.2, without the consent of Lessee, Lessor may from time to time, directly or indirectly, create or otherwise cause to exist any lien, encumbrance or title retention agreement upon the Leased Property, or any portion thereof or interest therein, or upon Lessor's interest in this Lease, whether to secure any borrowing or other means of financing or refinancing. This Lease and Lessee's interest hereunder shall at all times be subject and subordinate to the lien and security title of any deeds to secure debt, deeds of trust, mortgages, or other interests heretofore or hereafter granted by Lessor or which otherwise encumber or affect the Leased Property and to any and all advances to be made thereunder and to all renewals, modifications, consolidations, replacements, substitutions, and extensions thereof (all of which are herein called the "Mortgage"), provided that the Mortgage and all security agreements delivered by Lessor in connection therewith shall be subject to Lessee's rights under this Lease to receive all Gross Revenues of the Facility prior to the earlier of the occurrence of an Event of Default or the date that this Lease is terminated by the Holder of the Mortgage in the exercise of its remedies thereunder. In confirmation of such subordination, Lessee shall, at Lessor's request, promptly execute, acknowledge and deliver any instrument which may be required to evidence subordination to any Mortgage and attornment to the Holder thereof and its successors and assigns, provided Lessee receives customary and reasonable non-disturbance protection while it is not in default hereunder. The Lessee shall comply with any material covenants with respect to the Lessee contained in such instrument of subordination. In the event of Lessee's failure to deliver such subordination and if the Mortgage does not change any term of the Lease, Lessor may, in addition to any other remedies for breach of covenant hereunder, execute, acknowledge, and deliver the instrument as the agent or attorney-in-fact of Lessee, and Lessee hereby irrevocably constitutes Lessor its attorney-in-fact for such purpose, Lessee acknowledging that the appointment is coupled with an interest and is irrevocable. 48 (b) Lessee shall, upon the request of Lessor or any existing or future Holder, (i) provide Holder with copies of all licenses, permits, occupancy agreements, operating agreements, leases, contracts and similar agreements reasonably requested in connection with any existing or proposed financing of the Leased Property, and (ii) execute, or cause the Manager or any relevant Affiliate to execute, such estoppel agreements and collateral assignments with respect to the Facility's liquor license and any of the other aforementioned agreements as Holder may reasonably request in connection with any such financing, provided that no such estoppel agreement or collateral assignment shall in any way affect the Term or affect adversely in any material respect any rights of Lessee under this Lease. (c) No act or failure to act on the part of Lessor which would entitle Lessee under the terms of this Lease, or by law, to be relieved of any of Lessee's obligations hereunder (including, without limitation, its obligation to pay Rent) or to terminate this Lease, shall result in a release or termination of such obligations of Lessee or a termination of this Lease unless: (i) Lessee shall have first given written notice of Lessor's act or failure to act to the Holder, specifying the act or failure to act on the part of Lessor which would give basis to Lessee's rights; and (ii) the Holder, after receipt of such notice, shall have failed or refused to correct or cure the condition complained of within a reasonable time thereafter (in no event less than 60 days), which shall include a reasonable time for such Holder to obtain possession of the Leased Property, if possession is reasonably necessary for the Holder to correct or cure the condition, or to foreclose such Mortgage, and if the Holder notifies the Lessee of its intention to take possession of the Leased Property or to foreclosure such Mortgage, and correct or cure such condition. If such Holder is prohibited by any process or injunction issued by any court or by reason of any action by any court having jurisdiction or any bankruptcy, debtor rehabilitation or insolvency proceedings involving Lessor from commencing or prosecuting foreclosure or other appropriate proceedings in the nature thereof, provided, however, that the Lease shall continue to be in full force and effect, the times for commencing or prosecuting such foreclosure or other proceedings shall be extended for the period of such prohibition. (d) Lessee shall deliver by notice delivered in the manner provided in Article 30 to any Holder who gives Lessee written notice of its status as a Holder, at such Holder's address stated in the Holder's written notice or at such other address as the Holder may designate by later written notice to Lessee, a duplicate copy of any and all notices regarding any default which Lessee may from time to time give or serve upon Lessor pursuant to the provisions of this Lease. Copies of such notices given by Lessee to Lessor shall be delivered to such Holder simultaneously with delivery to Lessor. No such notice by Lessee to Lessor hereunder shall be deemed to have been given unless and until a copy thereof has been mailed to such Holder. (e) At any time, and from time to time, upon not less than ten (10) days' notice by a Holder to Lessee, Lessee shall deliver to such Holder an estoppel certificate certifying as to the information required in paragraph (c) of Article 22, and such other information as may be reasonably requested by such Holder. Any such certificate may be relied upon by such Holder. (f) Lessee shall cooperate in all reasonable respects, and as generally described in Section 33.2 of this Lease, with any transfer of the Leased Property to a Holder that 49 succeeds to the interest of Lessor in the Leased Property (including, without limitation, in connection with the transfer of any franchise, license, lease, permit, contract, agreement, or similar item to such Holder or such Holder's designee necessary or appropriate to operate the Leased Property). Lessor and Lessee shall cooperate in (i) including in this Lease by suitable amendment from time to time any provision which may be requested by any proposed Holder, or may otherwise be reasonably necessary, to implement the provisions of this Article and (ii) entering into any further agreement with or at the request of any Holder which may be reasonably requested or required by such Holder in furtherance or confirmation of the provisions of this Article; provided, however, that any such amendment or agreement shall not in any way affect the Term nor affect adversely in any material respect any rights of Lessor or Lessee under this Lease. ARTICLE ------- 29 29.1. Quiet Enjoyment. ---------------- So long as Lessee pays all Rent as the same becomes due and complies with all of the terms of this Lease and performs its obligations hereunder, in each case within the applicable grace and/or cure periods, if any, Lessee shall peaceably and quietly have, hold and enjoy the Leased Property for the Term hereof, free of any claim or other action by Lessor or anyone claiming by, through or under Lessor and not claiming by, through or under Lessee, but subject to all liens and encumbrances subject to which the Leased Property was conveyed to Lessor or hereafter consented to by Lessee in writing or provided for herein. Lessee shall have the right by separate and independent action to pursue any claim it may have against Lessor as a result of a breach by Lessor of the covenant of quiet enjoyment contained in this Section. ARTICLE ------- 30 30.1. Notices. -------- All notices, demands, requests, consents, approvals and other communications ("Notice" or "Notices") hereunder shall be in writing and personally served or mailed (by express or overnight mail, courier, or registered or certified mail, return receipt requested and postage prepaid), (i) if to Lessor at 148 Sheraton Drive, Box A, New Cumberland, Pennsylvania 17070, Attention: _________________, and (ii) if to Lessee at 148 Sheraton Drive, Box A, New Cumberland, Pennsylvania 17070, Attention: _______________, or to such other address or addresses as either party may hereafter designate. Personally delivered Notices shall be effective upon receipt, and Notice given by mail shall be deemed received at the time of deposit in the U.S. Mail system or with a recognized overnight mail courier, but any prescribed period of Notice and any right or duty to do any act or make any response within any prescribed period or on a date certain after the service of such Notice given by mail shall be extended five days. 50 ARTICLE ------- 31 31.1. Appraisers. ----------- If it becomes necessary to determine the fair market value or fair market rental of the Leased Property for any purpose of this Lease, then, except as otherwise expressly provided in this Lease, the party required or permitted to give Notice of such required determination shall include in the Notice the name of a person selected to act as appraiser on its behalf. Within 10 days after Notice, Lessor (or Lessee, as the case may be) shall by Notice to Lessee (or Lessor, as the case may be) appoint a second person as appraiser on its behalf. The appraisers thus appointed, each of whom must be a member of the American Institute of Real Estate Appraisers (or any successor organization thereto) with at least five years experience in the State appraising property similar to the Leased Property, shall, within 10 days after the date of the Notice appointing the second appraiser, proceed to appraise the Leased Property to determine the fair market value or fair market rental thereof as of the relevant date (giving effect to the impact, if any, of inflation from the date of their decision to the relevant date); provided, however, that if only one appraiser shall have been so appointed, then the determination of such appraiser shall be final and binding upon the parties. If two appraisers are appointed and if the difference between the amounts so determined does not exceed 5% of the lesser of such amounts, then the fair market value or fair market rental shall be an amount equal to 50% of the sum of the amounts so determined. If the difference between the amounts so determined exceeds 5% of the lesser of such amounts, then such two appraisers shall have 10 days to appoint a third appraiser. If no such appraiser shall have been appointed within such 10 days or within 60 days of the original request for a determination of fair market value or fair market rental, whichever is earlier, either Lessor or Lessee may apply to any court having jurisdiction to have such appointment made by such court. Any appraiser appointed by the original appraisers or by such court shall be instructed to determine the fair market value or fair market rental within 30 days after appointment of such appraiser. The determination of the appraiser which differs most in terms of dollar amount from the determinations of the other two appraisers shall be excluded, and 50% of the sum of the remaining two determinations shall be final and binding upon Lessor and Lessee as the fair market value or fair market rental of the Leased Property, as the case may be. This provision for determining by appraisal shall be specifically enforceable to the extent such remedy is available under applicable law, and any determination hereunder shall be final and binding upon the parties except as otherwise provided by applicable law. Lessor and Lessee shall each pay the fees and expenses of the appraiser appointed by it and each shall pay one-half of the fees and expenses of the third appraiser and one-half of all other costs and expenses incurred in connection with each appraisal. 51 ARTICLE ------- 32 32.1. Lessee's Right to Cure. ----------------------- Subject to the provisions of Article 39, if Lessor breaches any covenant to be performed by it under this Lease, Lessee, after Notice to and demand upon Lessor as provided in Article 39, without waiving or releasing any obligation hereunder, may (but shall be under no obligation at any time thereafter to) make such payment or perform such act for the account and at the expense of Lessor. All sums so paid by Lessee and all costs and expenses (including, without limitation, reasonable attorneys' fees) so incurred, together with interest thereon at the Overdue Rate from the date on which such sums or expenses are paid or incurred by Lessee, shall be paid by Lessor to Lessee on demand. The rights of Lessee hereunder to cure and to secure payment from Lessor in accordance with this Article 32 shall survive the termination of this Lease with respect to the Leased Property. ARTICLE ------- 33 33.1. Miscellaneous. -------------- Anything contained in this Lease to the contrary notwithstanding, all claims against, and liabilities of, Lessee or Lessor arising prior to any date of termination of this Lease shall survive such termination. If any term or provision of this Lease or any application thereof is invalid or unenforceable, the remainder of this Lease and any other application of such term or provisions shall not be affected thereby. If any late charges or any interest rate provided for in any provision of this Lease is based upon a rate in excess of the maximum rate permitted by applicable law, the parties agree that such charges shall be fixed at and limited to the maximum permissible rate. Neither this Lease nor any provision hereof may be changed, waived, discharged or terminated except by a written instrument in recordable form signed by Lessor and Lessee. All the terms and provisions of this Lease shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns. The headings in this Lease are for convenience of reference only and shall not limit or otherwise affect the meaning hereof. This Lease shall be governed by and construed in accordance with the laws of the State, but not including its conflicts of laws rules. 33.2. Transition Procedures. ---------------------- Upon any expiration or termination of the Term, Lessor and Lessee shall do the following and, in general, shall cooperate in good faith to effect an orderly transition of the management or lease of the Facility. The provisions of this Section 33.2 shall survive the expiration or termination of this Lease until they have been fully performed. Nothing contained herein shall limit Lessor's rights and remedies under this Lease if such termination occurs as the result of an Event of Default. 52 (a) Transfer of Franchise Agreement. The Franchise Agreement shall be assigned, at Lessor's option, effective on the termination date, without fee, cost, or penalty payable to the Lessee, and without the imposition by Lessee of a product improvement (or similar) plan, to (i) Lessor, or (ii) a designee of Lessor of good reputation and with experience in operating hotels. (b) Transfer of Licenses. Upon the expiration or earlier termination of the Term, Lessee shall use its best efforts (i) to transfer to Lessor or Lessor's nominee all licenses, operating permits and other governmental authorizations and all contracts, including contracts with governmental or quasi-governmental entities, that may be necessary for the operation of the Facility (collectively, "Licenses"), or (ii) if such transfer is prohibited by law or Lessor otherwise elects, to cooperate with Lessor or Lessor's nominee in connection with the processing by Lessor or Lessor's nominee of any applications for all Licenses, including Lessee (or its Affiliate) continuing to operate the liquor operations under its licenses with Lessor agreeing to indemnify and hold Lessee (or its Affiliate) harmless as a result thereof except for the gross negligence or willful misconduct of Lessee; provided, in either case, that the costs and expenses of any such transfer or the processing of any such application shall be paid by Lessor or Lessor's nominee. (c) Leases and Concessions. Lessee shall assign to Lessor or Lessor's nominee simultaneously with the termination of this Agreement, and the assignee shall assume, all leases, contracts, concession agreements and agreements in effect with respect to the Facility then in Lessee's name which are designated by Lessor. (d) Books and Records. To the extent that Lessor has not already received copies thereof, all books and records (including computer and computer-generated records) for the Facility kept by Lessee pursuant to Section 3.6 (or copies thereof) shall be delivered simultaneously with the termination of this Agreement to Lessor or Lessor's nominee. (e) Receivables and Payables, etc. Lessee shall be entitled to retain all cash, bank accounts and house banks, and to collect all Gross Revenues and accounts receivable accrued through the termination date. Lessee shall be responsible for the payment of Rent, all operating expenses of the Facility and all other obligations of Lessee accrued under this Lease as of the termination date, and Lessor shall be responsible for all operating expenses of the Facility accruing after the termination date. (f) Final Accounting. Lessee shall, within forty five (45) days after the expiration or termination of the Term, prepare and deliver to Lessor a final accounting statement, dated as of the date of the expiration or termination, as more particularly described in Article 22, along with a statement of any sums due from Lessee to Lessor pursuant hereto and payment of such funds. (g) Inventory. Lessee shall insure that the Leased Property, at the date of such termination or expiration, has Inventory of a substantially equivalent nature and amount as exists at the Leased Property on the Commencement Date, and Lessor shall acquire such Inventory from Lessee by paying Lessee the fair market value thereof, calculated on the same basis as the 53 parties determined the fair market value of the Inventory purchased by Lessee on the Commencement Date. (i) Option to Purchase Lessee's Personal Property. Upon the expiration or termination of the Term, Lessor shall have the option to purchase Lessee's Personal Property related to the Leased Property at fair market value. (h) Surrender. Lessee shall peacefully and immediately vacate and surrender the Leased Property to Lessor or Lessor's designee, shall turn over all keys to Lessor and Lessor's designee and shall not interfere with Lessor or any new Lessee or Manager. 33.3. Waiver of Presentment, etc. --------------------------- Lessee waives all presentments, demands for payment and for performance, notices of nonperformance, protests, notices of protest, notices of dishonor, and notices of acceptance and waives all notices of the existence, creation, or incurring of new or additional obligations, except as expressly granted herein. 33.4. Standard of Discretion. ----------------------- In any provision of this Lease requiring or permitting the exercise by Lessor or Lessee of such party's approval, election, decision, consent, judgment, determination or words of similar import (collectively, an "Approval"), such Approval may, unless otherwise expressly specified in such provision, be given or withheld in such party's sole, absolute and unreviewable discretion. Any Approval which by the terms of this Lease may not be unreasonably withheld shall also not be unreasonably delayed. 33.5. Action for Damages. ------------------- In any suit or other claim brought by either party seeking damages against the other party for breach of its obligations under this Lease, the party against whom such claim is made shall be liable to the other party only for actual damages and not for consequential, punitive or exemplary damages. 33.6. Lease Assumption in Bankruptcy Proceeding. ------------------------------------------ If an Event of Default occurs and Lessee has filed or has had filed against it a petition in bankruptcy or for reorganization or other relief pursuant to the federal bankruptcy code, Lessee shall promptly move the court presiding over the proceeding to assume the Lease pursuant to 11 U.S.C. ss.365, without seeking an extension of the time to file said motion. 33.7. Intra-Family Transfers. ----------------------- Lessee acknowledges that Lessor may transfer legal title to the Leased Property one or more times to Affiliates of the Lessor in which Lessor or the Company owns a majority 54 interest (each, an "Affiliated Lessor"). Lessee hereby consents to such transfers provided that, in each case, this Lease is assumed by the Affiliated Lessor in its entirety and without modification, except to the extent that Lessor, or the Affiliated Lessor that then owns the Leased Property, specifically retains any obligations accrued through the date of transfer hereunder. Lessee covenants that in connection with such transfers, Lessee will execute and deliver to Lessor, the Affiliated Lessor and/or their representatives appropriate estoppels and other documentation requested by them, including an amendment to this Lease, for the purposes of reflecting and acknowledging the Affiliated Lessor's interests as lessor hereunder. ARTICLE ------- 34 34.1. Memorandum of Lease. -------------------- Lessor and Lessee shall promptly upon the request of either enter into a short form memorandum of this Lease, in form suitable for recording under the laws of the State in which reference to this Lease, and all options contained herein, shall be made. Lessee shall pay all costs and expenses of recording such memorandum of this Lease. ARTICLE ------- 35 (Intentionally Omitted) ARTICLE ------- 36 36.1. Lessor's Option to Terminate. ----------------------------- (a) In the event Lessor enters into a bona fide contract to sell the Leased Property to a non-Affiliate other than Lessee or an Affiliate of Lessee, Lessor may terminate the Lease by giving not less than 60-days prior Notice to Lessee of Lessor's election to terminate the Lease upon the closing under such contract. Effective upon such date, this Lease shall terminate and be of no further force and effect except as to any obligations of the parties existing as of such date that survive termination of this Lease and all Rent including Percentage Rent and Additional Charges shall be adjusted as of the termination date. (b) As compensation for the early termination of its leasehold estate under this Article 36 because of a sale of the Leased Property, Lessor shall within six months after of the closing of such sale, either (i) pay to Lessee the "Termination Fee" (as defined below) or (ii) offer to lease to Lessee one or more substitute suite hotel facilities pursuant to one or more leases that would create for the Lessee leasehold estates that have an aggregate fair market value of no less than the fair market value of the original leasehold estate (a "Comparable Lease"), such value to be determined as of the closing of the sale of the Leased Property. Lessee's acceptance of the 55 Comparable Lease shall not be unreasonably withheld. If Lessee rejects the Comparable Lease, Lessor shall pay the Termination Fee to Lessee. In the event Lessor and Lessee are unable to agree upon the fair market value of an original or replacement leasehold estate, it shall be determined by appraisal using the appraisal procedure set forth in Article 31. (c) (i) For the purposes of this Section, fair market value of the leasehold estate means, as applicable, an amount equal to the price that a willing buyer not compelled to buy would pay a willing seller not compelled to sell for Lessee's leasehold estate under this Lease or an offered replacement leasehold estate. In computing fair market value of a leasehold estate, the appraiser shall discount all future income and fees to the then present value at a rate equal to the Prime Rate plus 2% per annum. (ii) The Termination Fee shall equal the "Net Present Value" (as defined below) of the "Lessee Leakage" (as defined below) for (a) the remaining Lease Years of the Term or, (b) if the termination occurs less than five Lease Years from the end of the Term, the remaining Lease Years in the Term plus one year (the "Determination Period"). "Lessee Leakage" for any Lease Year is defined as the net operating income of the Facility, determined in accordance with GAAP and as if no Management Agreement existed, less Rent paid and payable hereunder. The "Net Present Value" of the Lessee Leakage for the Determination Period shall be determined by (A) averaging the Lessee Leakage actually realized by Lessee for the three most recently ended Lease Years (or all full Lease Years if less than three full Lease Years have elapsed since the Commencement Date) (the "Valuation Period"), (B) assuming that Lessee Leakage in the first Lease Year of the Determination Period is the average Lessee Leakage (as determined under subsection (A) above) and that the Lessee Leakage in each subsequent Lease Year in the Determination Period is the deemed Lessee Leakage for the previous Lease Year, (C) discounting the deemed Lessee Leakage in each Lease Year of the Determination Period to then-present value at a rate of twelve percent (12%) per annum and (D) aggregating the sum of such present values. (d) In the event that Lessor terminates this Lease upon less than 60-days written notice pursuant to the provisions of this Article 36 or pursuant to any other provisions of this Lease except for the provisions allowing Lessor to terminate this Lease under Articles 14 or 15 or upon the occurrence of an Event of Default, the parties agree that on and after the effective date of such termination, hotel personnel employed by Lessee immediately prior to the effective date of termination will either be employed by Lessor or its designee, or Lessor or its designee will take such other action with respect to their employment, which may include notification of the prospective termination of their employment, so as, in any case, to insure that Lessee does not incur any liability pursuant to the WARN Act. In that event, Lessor hereby agrees to defend, indemnify 56 and hold harmless Lessee from and against any and all manner of claims, actions, liabilities, costs and expenses (including, without limitation, reasonable attorneys' fees and disbursements) relating to or arising from Lessor's breach of this covenant, including, without limitation, any liability, costs and expenses arising out of asserted or actual violation of the requirements of the WARN Act. Further, Lessor or its designee shall assume all COBRA liabilities and COBRA obligations to the Facility's personnel, which Lessee shall or may incur in connection with such termination of this Lease, and Lessor hereby agrees to defend, indemnify and hold harmless Lessee from and against any and all manner of claims, actions, liabilities, costs and expenses (including, without limitation, reasonable attorneys' fees and disbursements) relating to or resulting from Lessor's breach of the foregoing covenant with respect to COBRA matters, including, without limitation, any liability, costs and expenses arising out of any asserted or actual violation of the requirements of the COBRA any legislation. Upon Lessor's written request to Lessee, Lessee shall take all action that is reasonable to notify, advise and cooperate with Lessor in order to assist Lessor in complying with the WARN Act or COBRA legislation and to mitigate Lessor's expense or liability with respect to the WARN Act and COBRA legislation. ARTICLE ------- 37 37.1. Compliance with Franchise Agreement. ------------------------------------ To the extent any of the provisions of the Franchise Agreement impose a greater obligation on Lessee than the corresponding provisions of the Lease, then Lessee shall be obligated to comply with, and to take all reasonable actions necessary to prevent breaches or defaults under, the provisions of the Franchise Agreement, except to the extent that Lessee is prevented from complying with the Franchise Agreement because of Lessor's breach of its obligations to comply with Article 38. It is the intent of the parties hereto that Lessee shall comply in every respect with the provisions of the Franchise Agreement so as to avoid any default thereunder during the Term. Lessee shall not terminate or enter into any modification of the Franchise Agreement without in each instance first obtaining Lessor's written consent. Lessor and Lessee agree to cooperate fully with each other in the event it becomes necessary to obtain a franchise extension or modification or a new franchise for the Leased Property, and in any transfer of the Franchise Agreement to Lessor or any designee thereof or any other successor to Lessee upon the termination of this Lease. ARTICLE ------- 38 38.1. Capital Expenditures. --------------------- (a) Lessor shall be obligated to make available to Lessee an amount equal to [4][6]% of Room Revenues from the Facility during each Lease Year ("Capital Expenditures Allowance"). Upon written request by Lessee to Lessor stating the specific use to be made and subject to the approval thereof by Lessor, which approval shall not be unreasonably withheld, such funds shall be made available by Lessor for Capital Expenditures; provided, however, that no Capital Expenditures shall be made to purchase property (other than "real property" within the meaning of Treasury Regulations Section 1.856-3(d)), to the extent that doing so would cause the Lessor to recognize income other than "rents from real property" as defined in Section 856(d) of the Code. Lessor's obligation shall be cumulative, but not compounded, and any amounts that have accrued hereunder shall be payable in future periods for such uses and in accordance with the procedure set forth herein. Lessee shall have no interest in any accrued obligation of Lessor 57 hereunder after the termination of this Lease. All Capital Improvements shall be owned by Lessor subject to the provisions of this Lease. (b) Lessor's obligation with respect to Capital Expenditures shall be limited to amounts available in the Capital Expenditures Allowance. ARTICLE ------- 39 39.1. Lessor's Default. ----------------- It shall be a breach of this Lease if Lessor fails to observe or perform any term, covenant or condition of this Lease on its part to be performed and such failure continues for a period of 30 days after Notice thereof from Lessee, unless such failure cannot with due diligence be cured within a period of 30 days, in which case such failure shall not be deemed a breach if Lessor proceeds within such 30-day period, with due diligence, to cure the failure and thereafter diligently completes the curing thereof. The time within which Lessor shall be obligated to cure any such failure also shall be subject to extension of time due to the occurrence of any Unavoidable Delay. If Lessor does not cure any such failure within the applicable time period as aforesaid, Lessee may declare the existence of a "Lessor Default" by a second Notice to Lessor. Thereafter, Lessee may forthwith cure the same in accordance with the provisions of Article 32, subject to the provisions of the following paragraph. Lessee shall have no right to terminate this Lease for any Lessor Default and no right, for any such Lessor Default, to offset or counterclaim against any Rent or other charges due hereunder. If Lessor shall in good faith dispute the occurrence of any Lessor Default and Lessor, before the expiration of the applicable cure period, shall give Notice thereof to Lessee, setting forth, in reasonable detail, the basis therefor, no Lessor Default shall be deemed to have occurred and Lessor shall have no obligation with respect thereto until final adverse determination thereof, whether through arbitration or otherwise; provided, however, that in the event of any such adverse determination, Lessor shall pay to Lessee interest on any disputed funds at the Base Rate, from the date demand for such funds was made by Lessee until the date of final adverse determination and, thereafter, at the Overdue Rate until paid. If Lessee and Lessor shall fail, in good faith, to resolve any such dispute within ten (10) days after Lessor's Notice of dispute, either may submit the matter for determination by arbitration, but only if such matter is required to be submitted to arbitration pursuant to any provision of this Lease, or otherwise by a court of competent jurisdiction. ARTICLE ------- 40 40.1. Arbitration. ------------ Except as set forth in Section 40.2, in each case specified in this Lease in which it shall become necessary to resort to arbitration, such arbitration shall be determined as provided 58 in this Section 40.1. The party desiring such arbitration shall give Notice to that effect to the other party, and an arbitrator shall be selected by mutual agreement of the parties, or if they cannot agree within 30 days of such notice, by appointment made by the American Arbitration Association ("AAA") from among the members of its panels who are qualified and who have experience in resolving matters of a nature similar to the matter to be resolved by arbitration. 40.2. Alternative Arbitration. ------------------------ In each case specified in this Lease for a matter to be submitted to arbitration pursuant to the provisions of this Section 40.2, Lessor shall be entitled to designate any nationally recognized accounting firm with a hospitality division of which Lessor or an Affiliate of Lessor is not a significant client to serve as arbitrator of such dispute within 15 days after written demand for arbitration is received or sent by Lessor. In the event Lessor fails to make such designation within such 15-day period, Lessee shall be entitled to designate any nationally recognized accounting firm with a hospitality division of which Lessee or an Affiliate of Lessee is not a significant client to serve as arbitrator of such dispute within 15 days after Lessor fails to timely make such designation. In the event no nationally recognized accounting firm satisfying such qualifications is available and willing to serve as arbitrator, the arbitration shall instead be administered as set forth in Section 40.1. 40.3. Arbitration Procedures. ----------------------- In any arbitration commenced pursuant to Sections 40.1 or 40.2, a single arbitrator shall be designated and shall resolve the dispute. The arbitrator's decision shall be binding on all parties and shall not be subject to further review or appeal except as otherwise allowed by applicable law. Upon the failure of either party (the "non-complying party") to comply with his decision, the arbitrator shall be empowered, at the request of the other party, to order such compliance by the non-complying party and to supervise or arrange for the supervision of the non-complying party's obligation to comply with the arbitrator's decision, all at the expense of the non-complying party. To the maximum extent practicable, the arbitrator and the parties, and the AAA if applicable, shall take any action necessary to insure that the arbitration shall be concluded within 90 days of the filing of such dispute. The fees and expenses of the arbitrator shall be shared equally by Lessor and Lessee except as otherwise specified above in this Section 40.3. Unless otherwise agreed in writing by the parties or required by the arbitrator or AAA, if applicable, arbitration proceedings hereunder shall be conducted in the State. Notwithstanding formal rules of evidence, each party may submit such evidence as each party deems appropriate to support its position and the arbitrator shall have access to and right to examine all books and records of Lessee and Lessor regarding the Facility during the arbitration. [Signature Page follows] 59 IN WITNESS WHEREOF, the parties have executed this Lease by their duly authorized representatives as of the date first above written. LESSOR: ------- [HERSHA HOSPITALITY LIMITED PARTNERSHIP, a Virginia limited partnership By: HERSHA HOSPITALITY TRUST, a Maryland real estate investment trust, its General Partner] By: __________________________ Name: ___________________ Title: ___________________ LESSEE: ------- HERSHA HOSPITALITY MANAGEMENT, L.P., a Pennsylvania limited partnership By: ________________, a Pennsylvania corporation, its General Partner By: __________________________ Name: ___________________ Title: ___________________ 60 Exhibit A PROPERTY DESCRIPTION A-1 Exhibit B OTHER PROPERTIES The following hotels (excluding the Leased Property): B-1 Exhibit C PERCENTAGE RENT PROVISIONS _______________ Hotel [INITIAL FIXED RENT: $__________] BASE RENT: $__________ PERCENTAGE RENT: FIRST TIER ROOM REVENUE PERCENTAGE: __% FIRST ANNUAL ROOM REVENUES BREAK POINT: $__________ SECOND TIER ROOM REVENUE PERCENTAGE: __% SECOND ANNUAL ROOM REVENUES BREAK POINT: $__________ THIRD TIER ROOM REVENUE PERCENTAGE: __% OTHER REVENUE PERCENTAGE: __% C-1
EX-10 6 EXHIBIT 10.19(A) Exhibit 10.19(a) AMENDMENT TO OPTION AGREEMENT THIS AMENDMENT to the Option Agreement, dated June 3, 1998 (the "Option Agreement"), by and between HERSHA HOSPITALITY LIMITED PARTNERSHIP, a Virginia limited partnership (the "Partnership"), and the individuals listed on Exhibit A attached hereto (the "Hersha Partners") is entered into as of the 4th day of December, 1998. The Partnership and the Hersha Partners desire to amend the Option Agreement as follows: 1. Paragraph 1.g. of the Option Agreement is hereby deleted and the following paragraph is substituted therefor: g. "Hotel Property" means any Property that is used in whole or in part for hotel purposes, including, without limitation, motels, motor inns, extended-stay hotels and the like, whether in fee or leasehold, that is acquired or developed by Hersha within 15 miles of any of the Initial Hotels or any hotel subsequently acquired by the Partnership, including the Hampton Inn, Danville, Pennsylvania, the Harrisburg Inn, Harrisburg, Pennsylvania, the Sleep Inn, Pittsburgh, Pennsylvania and the land owned by Hersha Affiliates in Carlisle, Pennsylvania, together with all improvements and fixtures now or hereafter located thereon, all rights, privileges and easements appurtenant thereto, and all tangible and intangible personal property owned by Hersha Affiliates and used in connection therewith. 2. Paragraph 3.b.(1) of the Option Agreement is hereby deleted and the following paragraph is substituted therefor: (1) The purchase price of the subject Hotel Property pursuant to the Option shall be the greater of the Fair Market Value or the Minimum Option Price, except in the case of the Hampton Inn, Danville, Pennsylvania or the Sleep Inn, Pittsburgh, Pennsylvania, in which case if the Option is exercised by the Partnership, the Partnership and the Hersha Affiliate that owns the hotel will use a purchase price methodology similar to the methodology used for the Holiday Inn Express hotels in Hershey, Pennsylvania and New Columbia, Pennsylvania, the Hampton Inn hotel in Carlisle, Pennsylvania and the Comfort Inn hotel in Harrisburg, Pennsylvania and fix the rent until the hotel has two years of operating history. In addition, if the Option is exercised by the Partnership with respect to the Hampton Inn, Danville, Pennsylvania or the Sleep Inn, Pittsburgh, Pennsylvania, it will issue units of limited partnership interest in the Partnership ("Units") valued at $6.00 per Unit as consideration for the purchase of the hotel. With respect to each Hotel Property other than the Hampton Inn, Danville, Pennsylvania and the Sleep Inn, Pittsburgh, Pennsylvania, if the Minimum Option Price exceeds the Fair Market Value, the Partnership shall have the right to terminate the Acquisition Agreement within ten (10) days following receipt by the Partnership of the determination of Fair Market Value. 3. The Partnership and the Hersha Partners hereby agree that all remaining terms of the Option Agreement shall remain in full force and effect. IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be duly executed as of the day and year first written above. HASU P. SHAH /s/ HASU P. SHAH ------------------------------------ JAY H. SHAH /s/ JAY H. SHAH ------------------------------------ NEIL H. SHAH /s/ NEIL H. SHAH ------------------------------------ BHARAT C. MEHTA /s/ BHARAT C. MEHTA ------------------------------------ KANTI D. PATEL /s/ KANTI D. PATEL ------------------------------------ RAJENDRA O. GANDHI /s/ RAJENDRA O. GANDHI ------------------------------------ KIRAN P. PATEL /s/ KIRAN P. PATEL ------------------------------------ DAVID L. DESFOR /s/ DAVID L. DESFOR ------------------------------------ MADHUSUDAN I. PATNI /s/ MADHUSUDAN I. PATNI ------------------------------------ MANAHAR GANDHI /s/ MANAHAR GANDHI ------------------------------------ Hersha HOSPITALITY LIMITED PARTNERSHIP By: Hersha Hospitality Trust Its General Partner By: /s/ Hasu P. Shah -------------------- Its: President ---------- EXHIBIT A Hersha Partners Hasu P. Shah Jay H. Shah Neil H. Shah Bharat C. Mehta Kanti D. Patel Rajendra O. Gandhi Kiran P. Patel David L. Desfor Madhusudan I. Patni Manahar Gandhi EX-23 7 EXHIBIT 23 Exhibit 23.2 CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS We consent to the reference to our firm under the heading "Experts" and "Selected Financial Information" and to the use of our report dated May 27, 1998, except as to the Notes to the Financial Statements as to which the date is December 4, 1998, on our audit of Hersha Hospitality Trust, our report dated May 27, 1998, on our audit of Hersha Hospitality Management, L.P., and our report dated March 21, 1998, on our audit of the Combined Entities - Initial Hotels in this Registration Statement and related prospectus of Hersha Hospitality Trust. MOORE STEPHENS, P.C. Certified Public Accountants. Cranford, New Jersey December 7, 1998
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