10-K 1 d10k.htm FORM 10K Form 10K
Table of Contents

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 


FORM 10-K

 


 

x Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

For the fiscal year ended December 31, 2006

or

 

¨ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

Commission File Number 000-51270

 


APPLE REIT SIX, INC.

(Exact name of registrant as specified in its charter)

 


 

VIRGINIA   20-0620523
(State of Organization)   (I.R.S. Employer Identification Number)

814 EAST MAIN STREET

RICHMOND, VIRGINIA

  23219
(Address of principal executive offices)   (Zip Code)

(804) 344-8121

(Registrant’s telephone number, including area code)

 


Securities registered pursuant to Section 12(b) of the act: None

Securities registered pursuant to Section 12(g) of the Act:

Units (Each Unit is equal to one common share, no par value and one Series A preferred share)

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405, this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

Large accelerated filer  ¨                    Accelerated filer  ¨                    Non-accelerated filer  x

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

There is currently no established public market in which the Company’s common shares are traded. Based upon the price of Apple REIT Six, Inc.’s common equity, which was $11 on June 30, 2006, the aggregate market value of the voting common equity held by non-affiliates of the registrant on such date was $991,615,000. The Company does not have any non-voting common equity.

Number of registrant’s common shares outstanding as of February 28, 2007: 89,219,938

Documents Incorporated by Reference.

The information required by Part III of this report, to the extent not set forth herein, is incorporated by reference from the registrant’s definitive proxy statement for the annual meeting of shareholders to be held on May 7, 2007.

 



Table of Contents

APPLE REIT SIX, INC.

FORM 10-K

Index

 

     Page

Part I

        
   Item 1.   

Business

   3
   Item 1A.   

Risk Factors

   7
   Item 1B.   

Unresolved Staff Comments

   8
   Item 2.   

Properties

   8
   Item 3.   

Legal Proceedings

   11
   Item 4.   

Submission of Matters to a Vote of Security Holders

   11

Part II

        
   Item 5.   

Market for Registrant’s Common Equity, Related Shareholder Matters and Issuer Purchases of Equity Securities

   12
   Item 6.   

Selected Financial Data

   15
   Item 7.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   16
   Item 7A.   

Quantitative and Qualitative Disclosures about Market Risk

   24
   Item 8.   

Financial Statements and Supplementary Data

   25
   Item 9.   

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   44
   Item 9A.   

Controls and Procedures

   44
   Item 9B.   

Other Information

   44

Part III

        
   Item 10.   

Directors and Executive Officers and Corporate Governance

   45
   Item 11.   

Executive Compensation

   45
   Item 12.   

Security Ownership of Certain Beneficial Owners and Management and Related Shareholder Matters

   45
   Item 13.   

Certain Relationships and Related Transactions and Director Independence

   45
   Item 14.   

Principal Accounting Fees and Services

   45

Part IV

        
   Item 15.   

Exhibits, Financial Statement Schedules

   46

Signatures

     

This Form 10-K includes references to certain trademarks or service marks. The SpringHill Suites® by Marriott, TownePlace Suites® by Marriott, Fairfield Inn® by Marriott, Courtyard® by Marriott, Residence Inn® by Marriott and Marriott Suites® trademarks are the property of Marriott International, Inc. or one of its affiliates. The Homewood Suites® by Hilton, Hilton Garden Inn®, Hampton Inn® and Hampton Inn & Suites® trademarks are the property of Hilton Hotels Corporation or one or more of its affiliates. For convenience, the applicable trademark or servicemark symbol has been omitted but will be deemed to be included wherever the above-referenced terms are used.

 

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PART I

This Annual Report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements involve known and unknown risks, uncertainties, and other factors which may cause the actual results, performance, or achievements of Apple REIT Six, Inc. (“the Company”) to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to, the ability of the Company to implement its acquisition strategy and operating strategy; the Company’s ability to manage planned growth; changes in economic cycles and competition within the hotel industry. Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and therefore there can be no assurance that such statements included in this Annual Report will prove to be accurate. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by the Company or any other person that the results or conditions described in such statements or the objectives and plans of the Company will be achieved. In addition, the Company’s qualification as a real estate investment trust involves the application of highly technical and complex provisions of the Internal Revenue Code. Readers should carefully review the Company’s financial statements and the notes thereto, as well as the risk factors described in the Company’s filings with the Securities and Exchange Commission and Item 1A.

 

Item 1. Business

Apple REIT Six, Inc. is a Virginia corporation formed to invest in hotels and other selected real estate in select metropolitan areas in the United States. Initial capitalization occurred on January 20, 2004 and operations began on May 28, 2004 when the Company acquired its first hotel.

The Company is a real estate investment trust (“REIT”) which owns hotels in the United States. The REIT Modernization Act, effective January 1, 2001, permits real estate investment trusts to establish taxable businesses to conduct certain previously disallowed business activities. The Company has wholly-owned taxable REIT subsidiaries which lease all of the Company’s hotels from wholly-owned qualified REIT subsidiaries. The hotels are operated and managed by affiliates of Marriott International, Inc. (“Marriott”), Stonebridge Realty Advisors, Inc. (“Stonebridge”), Hilton Hotels Corporation (“Hilton”), Western International (“Western”), Larry Blumberg & Associates (“LBA”), White Lodging Services Corporation (“WLS”), or Inn Ventures, Inc. (“Inn Ventures”) under separate hotel management agreements.

The Company has no foreign operations or assets and its operating structure includes only one segment. The consolidated financial statements include the accounts of the Company and its subsidiaries. All inter-company transactions and balances have been eliminated upon consolidation. Refer to Part II, Item 8 of this report, for the consolidated financial statements.

Website Access

The address of the Company’s Internet website is www.applereitsix.com. The Company makes available free of charge through its Internet website its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended, as soon as reasonably practicable after the Company electronically files such material with, or furnishes it to, the SEC.

Business Objectives

The Company’s primary objective is to enhance shareholder value by increasing funds from operations and cash available for distributions through internal growth and selective hotel renovation. This strategy includes

 

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utilizing the Company’s asset management expertise to improve the quality of the Company’s hotels by aggressively managing room rates, partnering with industry leaders in hotel management and franchising the hotels with leading brands, thereby improving hotel revenue and operating performance. When cost effective, the Company renovates its properties to increase its ability to compete in particular markets. The Company believes its planned renovations and strong asset management will continue to improve financial results.

The Company currently owns 67 hotels and, through its wholly-owned subsidiaries, has entered into contracts for the purchase of two additional hotels for a total purchase price of approximately $26.2 million. Both of these hotels are under construction, with completion of one expected in mid-2007 and the other in early 2008. The contracts are subject to normal due diligence and no assurances can be given that all of the conditions to closing will be satisfied. It is anticipated substantially all of the purchase price will be paid from cash on hand.

Financing

The Company purchased 5 hotels in 2006. The total gross purchase price for these properties was approximately $54.9 million. The Company used the proceeds from its best-efforts offering and assumed secured debt of $6.7 million to fund the purchase price.

Although there can be no assurance that additional debt will not be utilized, it is anticipated that cash on hand and cash from operations will satisfy the Company’s cash requirements. The Company’s bylaws require board approval and review of any debt financing obtained by the Company.

Industry and Competition

The hotel industry is highly competitive. Each of the Company’s hotels is located in a developed area that includes other hotels and competes for guests primarily with other hotels in the Company’s immediate vicinity and secondarily with other hotels in the Company’s geographic market. An increase in the number of competitive hotels in a particular area could have a material adverse effect on the occupancy, average daily rate (“ADR”) and revenue per available room (“RevPAR”) of the Company’s hotels in that area. The Company believes that brand recognition, location, price and quality (of both the hotel and the services provided) are the principal competitive factors affecting the Company’s hotels. Additionally, general economic conditions in a particular market, or nationally, can impact the performance of the hotels.

Hotel Operating Performance

The Company owns thirteen Hilton Garden Inn hotels, ten Residence Inn hotels, ten Courtyard hotels, eight SpringHill Suites hotels, six Homewood Suites hotels, six TownePlace Suites hotels, five Fairfield Inn hotels, four Hampton Inn hotels, three Hampton Inn & Suites hotels and two full service Marriott hotels. They are located in various states and, in aggregate, consist of 7,750 rooms.

Room revenue for these hotels totaled $217.6 million for the period owned in 2006, and the hotels achieved average occupancy of 74%, ADR of $105 and RevPAR of $78, compared with $91.6 million of room revenue, average occupancy of 71%, ADR of $101 and RevPAR of $72 for the period owned in 2005. The Company began 2005 with 11 hotels, acquired 51 additional hotels throughout 2005 and acquired 5 hotels during the first half of 2006. In general, performance at the Company’s hotels have met expectations for the period held. Hotel performance is impacted by many factors including the economic conditions in the United States, as well as each locality. As a result, there can be no assurance that the Company’s operating performance will continue to meet expectations in the future.

Management and Franchise Agreements

Each of the Company’s 67 hotels are operated and managed, under separate management agreements, by affiliates of one of the following companies: Marriott, Stonebridge, Hilton, Western, LBA, WLS, or Inn Ventures.

 

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The agreements provide for initial terms ranging from 2 to 30 years. Fees associated with the agreements generally include the payment of base management fees, incentive management fees, accounting fees, and other fees for centralized services which are allocated among all of the hotels that receive the benefit of such services. Base management fees are calculated as a percentage of gross revenues. Incentive management fees are calculated as a percentage of operating profit in excess of a priority return to the Company, as defined in the management agreements. The Company has the option to terminate the management agreements if specified performance thresholds are not satisfied. During the year ended December 31, 2006, the Company incurred approximately $8.7 million in management fees.

Stonebridge, Western, LBA, WLS, and Inn Ventures are not affiliated with either Marriott or Hilton, and as a result, the hotels managed by these companies were required to obtain separate franchise agreements with each respective franchisor. The Hilton franchise agreements generally provide for a term of 13 to 20 years. Fees associated with the Hilton agreements generally include the payment of royalty fees and program fees based on room revenues. The Marriott franchise agreements provide for an initial term of 15 to 20 years. Fees associated with the Marriott agreements include the payment of royalty fees, marketing fees, reservation fees and a communications support fee based on room revenues. During the year ended December 31, 2006, the Company incurred approximately $9.0 million in franchise fees.

Maintenance

The hotels have an ongoing need for renovation and refurbishment. Under various hotel management agreements, the Company has agreed to fund expenditures for periodic repairs, replacement or refurbishment of furniture, fixtures and equipment for the hotels in an amount equal to a certain percentage of gross revenues. In addition, other capital improvement projects are directly funded by the Company. During 2006 the Company spent approximately $15.7 million on capital expenditures.

Employees

During 2006, all employees involved in the day-to-day operation of the Company’s hotels were employed by third party management companies engaged pursuant to the hotel management agreements. The Company utilizes, through an advisory agreement for corporate and strategic support, personnel from Apple Six Advisors, Inc. (“ASA”) who in turn utilizes employees from Apple Hospitality Two, Inc.

Environmental Matters

In connection with each of the Company’s hotel acquisitions, the Company obtains a Phase I Environmental Report and additional environmental reports and surveys, as are necessitated by the preliminary report. Based on the reports, the Company is not aware of any environmental situations requiring remediation at the Company’s properties, which have not been, or are not currently being remediated as necessary. No material remediation costs have or are expected to occur.

 

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Property Acquisitions

The Company began 2006 with 62 hotels and acquired 5 additional hotels throughout the year. The following table summarizes the location, brand, manager, date acquired, number of rooms and gross purchase price for each hotel acquired in 2006. All dollar amounts are in thousands.

 

Location

  

Brand

  

Manager

  

Date

Acquired

   Rooms   

Gross

Purchase

Price

San Francisco, CA

   Hilton Garden Inn    Inn Ventures    1/30/06    169    $ 12,266

Clearwater, FL

   SpringHill Suites    LBA    2/17/06    79      6,923

Hillsboro, OR

   Residence Inn    Inn Ventures    3/9/06    122      15,500

Hillsboro, OR

   Courtyard    Inn Ventures    3/9/06    155      11,000

Panama City, FL

   Courtyard    LBA    4/26/06    84      9,245
                    
         Total      609    $ 54,934
                    

The Company leased all of its hotels to wholly-owned taxable REIT subsidiaries (collectively, the “lessee”) under master hotel lease agreements. The Company also used the proceeds of its offering to pay 2% of the gross purchase price for these hotels, which equals approximately $1.1 million, as a commission to Apple Six Realty Group, Inc. (“ASRG”). ASRG is owned by the Company’s Chairman, Chief Executive Officer and President, Glade M. Knight.

In 2006, the Company assumed approximately $6.7 million of secured debt associated with the purchase of the Courtyard hotel in Hillsboro, Oregon. The note bears interest at a rate of 6.4% per annum and matures on December 11, 2014.

No goodwill or intangible assets were recorded in connection with any of the acquisitions.

In addition, the Company has entered into contracts for the purchase of two additional hotels. Both of these hotels are under construction, with completion of one expected in mid-2007 and the other in early 2008. Although the Company believes there is a reasonable probability that it will acquire these hotels, there can be no assurance that all of the conditions to closing will be satisfied. The following table summarizes the location, brand, number of rooms and gross purchase price for each hotel (dollar amounts in thousands):

 

Location

   Brand    Rooms   

Gross

Purchase Price

  

Purchase Price

Deposits at

December 31, 2006

Corpus Christi, TX

   Courtyard    105    $ 11,025    $ 551

Roanoke Rapids, NC

   Hilton Garden Inn    147      15,217      —  
                     
   Total      252    $ 26,242    $ 551
                     

Related Parties

The Company has significant transactions with related parties. These transactions cannot be construed to be arms length, and the results of the Company’s operations may be different if these transactions were conducted with non-related parties.

Including ASRG and ASA discussed above, Mr. Knight is also Chairman and CEO of Apple Hospitality Two, Inc. (a hospitality REIT), Apple Hospitality Five, Inc. (a hospitality REIT) and Apple REIT Seven, Inc. (a diversified REIT). The Company’s Board of Directors are also on the board of Apple Hospitality Two, Inc. and Apple Hospitality Five, Inc.

 

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During 2006 the Company assigned its rights under four contracts for the purchase of hotels in Houston, TX, Brownsville, TX, Miami, FL and Stafford, TX to Apple REIT Seven, Inc. The assignments were completed with no cost or profit to the Company and were entered into to prevent the Company from incurring secured debt to complete its planned property acquisitions.

 

Item 1A. Risk Factors

The following describes several risk factors which are applicable to the Company.

Hotel Operations

The Company’s hotels are subject to all of the risks common to the hotel industry. These risks could adversely affect hotel occupancy and the rates that can be charged for hotel rooms as well as hotel operating expenses, and generally include:

 

   

increases in supply of hotel rooms that exceed increases in demand;

 

   

increases in energy costs and other travel expenses that reduce business and leisure travel;

 

   

reduced business and leisure travel due to continued geo-political uncertainty, including terrorism;

 

   

adverse effects of declines in general and local economic activity; and

 

   

adverse effects of a downturn in the hotel industry.

General Economic Conditions

Changes in general or local economic or market conditions, increased costs of energy, increased costs of insurance, increased costs of products, increased costs and shortages of labor, competitive factors, fuel shortages, quality of management, the ability of a hotel chain to fulfill any obligations to operators of its hotel business, limited alternative uses for the building, changing consumer habits, condemnation or uninsured losses, changing demographics, changing traffic patterns, inability to remodel outmoded buildings as required by the franchise or lease agreement and other factors beyond the Company’s control may reduce the value of properties that the Company owns. As a result, cash available to make distributions to the shareholders may be affected.

Hospitality Industry

The success of the Company’s properties will depend largely on the property operators’ ability to adapt to dominant trends in the hotel industry as well as greater competitive pressures, increased consolidation, industry overbuilding, dependence on consumer spending patterns and changing demographics, the introduction of new concepts and products, availability of labor, price levels and general economic conditions. The success of a particular hotel brand, the ability of a hotel brand to fulfill any obligations to operators of its business, and trends in the hotel industry may affect the Company’s income and the funds it has available to distribute to shareholders.

The hospitality industry could also experience a significant decline in occupancy and average daily rates due to a reduction in both business and leisure travel. General economic conditions, increased fuel costs, natural disasters and terrorist attacks are a few factors that could affect an individual’s willingness to travel. The Company’s property insurance will typically cover losses for property damage due to terrorist attacks or natural disasters. However, the Company is not insured against the potential negative effect a terrorist attack or natural disaster would have on the hospitality industry as a whole.

Seasonality

The hotel industry is seasonal in nature. Generally, occupancy rates and hotel revenues are greater in the second and third quarters than in the first and fourth quarters. As a result, there may be quarterly fluctuations in results of

 

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operations of properties leased to subsidiaries. As a result, the Company may need to enter into short-term borrowing in certain periods in order to offset these fluctuations in revenues and to make distributions to shareholders.

Franchise Agreements

The Company’s wholly-owned taxable REIT subsidiaries operate all of the properties pursuant to franchise or license agreements with nationally recognized hotel brands. These agreements contain specific standards for, and restrictions and limitations on, the operation and maintenance of the Company’s properties in order to maintain uniformity within the franchisor system. These standards could potentially conflict with the Company’s ability to create specific business plans tailored to each property and to each market.

Competition

The hotel industry is highly competitive. Each of the Company’s hotels is located in a developed area that includes other hotels and competes for guests primarily with other hotels in the Company’s immediate vicinity and secondarily with other hotels in the Company’s geographic market. An increase in the number of competitive hotels in a particular area could have a material adverse effect on the occupancy, average daily rate (“ADR”) and revenue per available room (“RevPAR”) of the Company’s hotels in that area. In addition, increases in operating costs due to inflation may not be offset by increased room rates.

Qualification as a REIT

The rules governing a REIT are highly technical and complex. They require ongoing compliance with a variety of tests that depend on, among other things, future operations. While the Company expects to satisfy these tests, it cannot ensure it will qualify as a REIT for any particular year. There is also the risk that the applicable laws governing a REIT could be changed, which could adversely affect the Company and its shareholders.

 

Item 1B. Unresolved Staff Comments

None.

 

Item 2. Properties

As of December 31, 2006, the Company owned 67 hotels consisting of the following:

 

Brand

  

Total by

Brand

  

Number of

Rooms

Hilton Garden Inn

   13    1,646

Residence Inn

   10    1,247

Courtyard

   10    993

SpringHill Suites

   8    858

Homewood Suites

   6    713

TownePlace Suites

   6    766

Fairfield Inn

   5    351

Hampton Inn

   4    454

Hampton Inn & Suites

   3    303

Marriott

   2    419
         
Total    67    7,750
         

The following table includes the location of each hotel, the date of construction, the date acquired, encumbrances, initial acquisition cost, gross carrying value and the number of rooms of each hotel.

 

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Real Estate and Accumulated Depreciation

As of December 31, 2006

(dollars in thousands)

 

City

 

State

 

Brand

  Encumbrances   Initial Cost  

Subsequently

Capitalized

 

Total

Gross

Cost

 

Acc.

Deprec.

   

Date of

Construction

 

Date

Acquired

 

Depreciable

Life

 

# of

Rooms

         

Bldg.

Imp. &

FF&E

           
        Land   Bldg./FF&E              

Birmingham

  Alabama   Fairfield Inn   $ 2,012   $ 354   $ 2,057   $ 55   $ 2,466   $ (91 )   1995   Aug-05   3 - 39 yrs.   63

Dothan

  Alabama   Courtyard     3,128     1,270     7,142     70     8,482     (329 )   1996   Aug-05   3 - 39 yrs.   78

Dothan

  Alabama   Hampton Inn & Suites     —       842     8,129     11     8,982     (434 )   2004   Jun-05   3 - 39 yrs.   85

Huntsville

  Alabama   Fairfield Inn     2,957     506     4,813     26     5,345     (178 )   1999   Sep-05   3 - 39 yrs.   79

Huntsville

  Alabama   Residence Inn     —       947     7,632     41     8,620     (366 )   2002   Jun-05   3 - 39 yrs.   78

Montgomery

  Alabama   SpringHill Suites     3,696     963     6,327     25     7,315     (235 )   1998   Sep-05   3 - 39 yrs.   79

Tuscaloosa

  Alabama   Courtyard     3,268     —       7,953     112     8,065     (326 )   1996   Aug-05   3 - 39 yrs.   78

Tuscaloosa

  Alabama   Fairfield Inn     1,630     —       4,240     62     4,302     (173 )   1996   Aug-05   3 - 39 yrs.   63

Anchorage

  Alaska   Hampton Inn     5,148     1,224     10,529     1,821     13,574     (744 )   1997   Mar-05   3 - 39 yrs.   101

Anchorage

  Alaska   Hilton Garden Inn     —       4,230     14,788     174     19,192     (999 )   2002   Oct-04   3 - 39 yrs.   125

Anchorage

  Alaska   Homewood Suites     —       1,833     11,211     46     13,090     (877 )   2004   Oct-04   3 - 39 yrs.   122

Phoenix

  Arizona   Hampton Inn     —       1,425     5,205     754     7,384     (462 )   1998   Oct-04   3 - 39 yrs.   99

Tempe

  Arizona   SpringHill Suites     —       1,170     7,159     26     8,355     (387 )   1998   Jun-05   3 - 39 yrs.   121

Tempe

  Arizona   TownePlace Suites     —       1,226     7,169     37     8,432     (383 )   1998   Jun-05   3 - 39 yrs.   119

Arcadia

  California   Hilton Garden Inn     —       1,724     10,231     637     12,592     (807 )   1999   Oct-04   3 - 39 yrs.   124

Arcadia

  California   SpringHill Suites     —       1,633     6,459     752     8,844     (540 )   1999   Oct-04   3 - 39 yrs.   86

Bakersfield

  California   Hilton Garden Inn     —       1,166     10,565     53     11,784     (681 )   2004   Mar-05   3 - 39 yrs.   120

Folsom

  California   Hilton Garden Inn     —       1,521     16,989     836     19,346     (592 )   1999   Nov-05   3 - 39 yrs.   100

Foothill Ranch

  California   Hampton Inn     4,374     1,078     6,632     729     8,439     (428 )   1998   Apr-05   3 - 39 yrs.   84

Lake Forest

  California   Hilton Garden Inn     —       1,570     9,595     49     11,214     (751 )   2004   Oct-04   3 - 39 yrs.   103

Milpitas

  California   Hilton Garden Inn     —       2,565     16,534     1,069     20,168     (621 )   1999   Nov-05   3 - 39 yrs.   161

Roseville

  California   Hilton Garden Inn     —       2,362     18,937     1,125     22,424     (678 )   1999   Nov-05   3 - 39 yrs.   131

San Francisco

  California   Hilton Garden Inn     —       2,007     9,545     1,141     12,693     (367 )   1999   Jan-06   3 - 39 yrs.   169

Boulder

  Colorado   Marriott     —       3,066     27,825     1,374     32,265     (1,459 )   1997   May-05   3 - 39 yrs.   157

Glendale

  Colorado   Hampton Inn & Suites     6,181     3,641     11,221     1,152     16,014     (882 )   1999   Oct-04   3 - 39 yrs.   133

Lakewood

  Colorado   Hampton Inn     —       2,508     8,090     352     10,950     (662 )   2003   Oct-04   3 - 39 yrs.   170

Farmington

  Connecticut   Courtyard     —       1,794     15,434     1     17,229     (597 )   2005   Oct-05   3 - 39 yrs.   119

Rocky Hill

  Connecticut   Residence Inn     —       1,472     11,284     3     12,759     (505 )   2005   Aug-05   3 - 39 yrs.   96

Wallingford

  Connecticut   Homewood Suites     —       1,419     12,072     9     13,500     (574 )   2005   Jul-05   3 - 39 yrs.   104

Clearwater

  Florida   SpringHill Suites     —       —       7,214     —       7,214     (224 )   2006   Feb-06   3 - 39 yrs.   79

Lake Mary

  Florida   Courtyard     —       690     5,568     415     6,673     (347 )   1995   Mar-05   3 - 39 yrs.   86

Lakeland

  Florida   Residence Inn     —       1,520     8,699     71     10,290     (409 )   2001   Jun-05   3 - 39 yrs.   78

Orange Park

  Florida   Fairfield Inn     3,132     855     6,979     43     7,877     (225 )   1998   Nov-05   3 - 39 yrs.   83

Panama City

  Florida   Courtyard     —       1,407     8,217     —       9,624     (214 )   2006   Mar-06   3 - 39 yrs.   84

Pensacola

  Florida   Courtyard     4,396     1,186     10,728     112     12,026     (433 )   1997   Aug-05   3 - 39 yrs.   90

 

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Real Estate and Accumulated Depreciation

As of December 31, 2006

(dollars in thousands)

 

City

 

State

 

Brand

  Encumbrances   Initial Cost  

Subsequently

Capitalized

 

Total

Gross

Cost

 

Acc.

Deprec.

   

Date of

Construction

 

Date

Acquired

 

Depreciable

Life

 

# of

Rooms

         

Bldg.

Imp. &

FF&E

           
        Land   Bldg./FF&E              

Pensacola

  Florida   Fairfield Inn   $ 2,638   $ 470   $ 4,703   $ 42   $ 5,215   $ (186 )   1995   Aug-05   3 - 39 yrs.   63

Pensacola

  Florida   Hampton Inn & Suites     —       1,248     8,354     6     9,608     (435 )   2005   Jul-05   3 - 39 yrs.   85

Tallahassee

  Florida   Hilton Garden Inn     —       1,103     10,130     362     11,595     (582 )   1997   Mar-05   3 - 39 yrs.   99

Albany

  Georgia   Courtyard     —       1,253     7,658     19     8,930     (409 )   2004   Jun-05   3 - 39 yrs.   84

Columbus

  Georgia   Residence Inn     —       —       8,184     67     8,251     (409 )   2003   Jun-05   3 - 39 yrs.   78

Savannah

  Georgia   SpringHill Suites     2,994     693     5,099     10     5,802     (190 )   1999   Sep-05   3 - 39 yrs.   79

Valdosta

  Georgia   Courtyard     —       1,036     7,529     66     8,631     (300 )   2002   Oct-05   3 - 39 yrs.   84

Mt. Olive

  New Jersey   Residence Inn     —       1,410     11,331     3     12,744     (502 )   2005   Sep-05   3 - 39 yrs.   123

Somerset

  New Jersey   Homewood Suites     —       1,813     16,801     33     18,647     (735 )   2005   Aug-05   3 - 39 yrs.   123

Saratoga Springs

  New York   Hilton Garden Inn     —       2,399     15,885     186     18,470     (583 )   1999   Sep-05   3 - 39 yrs.   112

Hillsboro

  Oregon   Courtyard     6,577     1,879     9,484     33     11,396     (243 )   1996   Mar-06   3 - 39 yrs.   155

Hillsboro

  Oregon   Residence Inn     —       2,665     13,295     35     15,995     (368 )   1994   Mar-06   3 - 39 yrs.   122

Hillsboro

  Oregon   TownePlace Suites     —       2,150     9,715     25     11,890     (344 )   1999   Dec-05   3 - 39 yrs.   136

Portland

  Oregon   Residence Inn     —       4,400     38,687     212     43,299     (1,221 )   2001   Dec-05   3 - 39 yrs.   258

Pittsburgh

  Pennsylvania   Residence Inn     —       1,161     10,267     1,243     12,671     (435 )   1998   Sep-05   3 - 39 yrs.   156

Myrtle Beach

  South Carolina   Courtyard     —       1,857     7,631     850     10,338     (737 )   1999   Jun-04   3 - 39 yrs.   135

Nashville

  Tennessee   Homewood Suites     —       1,170     7,177     239     8,586     (437 )   1999   May-05   3 - 39 yrs.   121

Arlington

  Texas   SpringHill Suites     —       1,122     6,649     13     7,784     (363 )   1998   Jun-05   3 - 39 yrs.   122

Arlington

  Texas   TownePlace Suites     —       1,033     6,373     42     7,448     (337 )   1999   Jun-05   3 - 39 yrs.   95

Dallas

  Texas   SpringHill Suites     —       1,372     18,737     34     20,143     (665 )   1997   Dec-05   3 - 39 yrs.   147

Fort Worth

  Texas   Homewood Suites     —       1,152     8,210     408     9,770     (513 )   1999   May-05   3 - 39 yrs.   137

Fort Worth

  Texas   Residence Inn     —       1,873     15,586     13     17,472     (842 )   2005   May-05   3 - 39 yrs.   149

Ft. Worth

  Texas   SpringHill Suites     —       2,125     11,619     —       13,744     (986 )   2004   May-04   3 - 39 yrs.   145

Laredo

  Texas   Homewood Suites     —       1,118     9,781     4     10,903     (391 )   2005   Nov-05   3 - 39 yrs.   106

Laredo

  Texas   Residence Inn     —       902     10,969     4     11,875     (491 )   2005   Sep-05   3 - 39 yrs.   109

Las Colinas

  Texas   TownePlace Suites     —       1,205     6,256     7     7,468     (363 )   1998   Jun-05   3 - 39 yrs.   136

McAllen

  Texas   Hilton Garden Inn     —       1,178     8,143     366     9,687     (398 )   2000   Jul-05   3 - 39 yrs.   104

Fredericksburg

  Virginia   Hilton Garden Inn     —       1,822     15,362     53     17,237     (560 )   2005   Dec-05   3 - 39 yrs.   148

Richmond

  Virginia   Corporate Office     —       381     1,038     1,076     2,495     (268 )   1893   Jun-04   3 - 39 yrs.   N/A

Kent

  Washington   TownePlace Suites     —       1,841     10,721     16     12,578     (381 )   1999   Dec-05   3 - 39 yrs.   152

Mukilteo

  Washington   TownePlace Suites     —       1,505     11,055     24     12,584     (378 )   1999   Dec-05   3 - 39 yrs.   128

Redmond

  Washington   Marriott     —       9,504     56,168     231     65,903     (4,331 )   2004   Jul-04   3 - 39 yrs.   262

Renton

  Washington   Hilton Garden Inn     —       1,277     14,674     1,235     17,186     (565 )   1998   Nov-05   3 - 39 yrs.   150

Deposits on Construction in Progress

              960     960     —            
                                                   
      $ 52,131   $ 107,291   $ 746,443   $ 21,100   $ 874,834   $ (37,928 )         7,750
                                                   

 

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Table of Contents

Investment in hotels at December 31, 2006, consisted of the following (in thousands):

 

Land

   $ 107,288  

Building and Improvements

     723,378  

Furniture, Fixtures and Equipment

     44,168  
        
     874,834  

Less Accumulated Depreciation

     (37,928 )
        

Investments in Hotels, net

   $ 836,906  
        

For additional information about the Company’s properties, refer to Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

Item 3. Legal Proceedings

The Company is not presently subject to any material litigation nor, to the Company’s knowledge, is any litigation threatened against the Company or any of its properties, other than routine actions arising in the ordinary course of business, some of which are expected to be covered by liability insurance and all of which collectively are not expected to have a material adverse effect on the Company’s business or financial condition or results of operations.

 

Item 4. Submission of Matters to a Vote of Security Holders

None.

 

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Table of Contents

PART II

 

Item 5. Market For Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Common Shares

There is currently no established public market in which the Company’s common shares are traded. As of December 31, 2006, there were 89,773,345 Units outstanding. The per-share estimated market value is deemed to be the offering price of the shares, which is currently $11.00 per share. This is supported by the fact that the Company is currently selling shares to the public at a price of $11.00 per share through its Dividend Reinvestment Plan and the Company is repurchasing shares at $11.00 from shareholders. The Units are held by approximately 22,000 beneficial shareholders.

Dividend Reinvestment Plan

In February 2006, the Company instituted a Dividend Reinvestment Plan for its shareholders. The plan provides a convenient and cost effective way to increase shareholder investment in the Company by reinvesting dividends to purchase additional Units of the Company. The uses of the proceeds from this plan may include purchasing Units under the Company’s Unit Redemption Program, enhancing properties, satisfying financing obligations and other expenses, increasing working capital, funding various corporate operations, and acquiring hotels. As of December 31, 2006, approximately 2.0 million Units, representing $22.0 million in proceeds to the Company, have been issued under the plan.

Unit Redemption Program

In July 2005, the Company instituted a Unit Redemption Program to provide limited interim liquidity to its shareholders who have held their Units for at least one year. Shareholders may request redemption of Units for a purchase price equal to the lesser of: (1) the purchase price per Unit that the shareholder actually paid for the Unit; or (2) $11.00 per Unit. The Company reserves the right to change the purchase price of redemptions, reject any request for redemption, or otherwise amend the terms of, suspend, or terminate the Unit Redemption Program. As of December 31, 2006, the Company has redeemed 3.4 million Units in the amount of $36.7 million under the program. The following is a summary of redemptions during the fourth quarter of 2006:

Issuer Purchases of Equity Securities

 

     (a)    (b)    (c)    (d)  

Period

  

Total Number

of Units

Purchased

  

Average Price Paid

per Unit

  

Total Number of

Units Purchased as

Part of Publicly

Announced Plans

or Programs

  

Maximum Number

of Units that May

Yet Be Purchased

Under the Plans or

Programs

 

October 2006

   600,588    $ 10.97    3,353,323       (1)

(1) The maximum number of Units that may be redeemed in any 12 month period is limited to five percent (5.0%) of the weighted average number of Units outstanding from the beginning of the 12 month period.

Series A Preferred Shares

The Series A preferred shares have no voting rights and no conversion rights. In addition, the Series A preferred shares are not separately tradable from the common shares to which they relate. The Series A preferred shares do not have any distribution rights except a priority distribution upon the sale of the Company’s assets. The priority distribution (“Priority Distribution”) will be equal to $11.00 per Series A preferred share, and will be paid before any distribution will be made to the holders of any other shares. Upon the Priority Distribution, the Series A preferred shares will have no other distribution rights.

 

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Table of Contents

Series B Convertible Preferred Shares

The Company currently has 240,000 Series B convertible preferred shares issued and outstanding, all owned by Glade M. Knight, the Company’s Chairman and Chief Executive Officer. There are no dividends payable on the Series B convertible preferred shares. Holders of more than two-thirds of the Series B convertible preferred shares must approve any proposed amendment to the Articles of Incorporation that would adversely affect the Series B convertible preferred shares. Upon liquidation, each holder of the Series B convertible preferred shares is entitled to a priority liquidation payment. However, the priority liquidation payment of the holder of the Series B convertible preferred shares is junior to the holders of the Series A preferred shares distribution rights. The holder of a Series B convertible preferred share is entitled to a liquidation payment of $11 per number of common shares into which each Series B convertible preferred share would convert. In the event that the liquidation of the Company’s assets results in proceeds that exceed the distribution rights of the Series A preferred shares and the Series B convertible preferred shares, the remaining proceeds will be distributed between the common shares and the Series B convertible preferred shares, on an as converted basis. The Series B convertible preferred shares are convertible into Units upon and for 180 days following the occurrence of any of the following events: (1) substantially all of the Company’s assets, stock or business is transferred as a going concern, whether through exchange, merger, consolidation, lease, share exchange or otherwise, other than a sale of assets in liquidation, dissolution or winding up of the Company’s business; or (2) the termination or expiration without renewal of the advisory agreement with Apple Six Advisors, Inc., or if the Company ceases to use Apple Six Realty Group, Inc. to provide property acquisition and disposition services; or (3) the Company’s common shares are listed on any securities exchange or quotation system or in any established market.

Preferred Shares

The Company’s articles of incorporation authorize issuance of up to 15 million additional preferred shares. No preferred shares other than the Series A preferred shares and the Series B convertible preferred shares (discussed above) have been issued. The Company believes that the authorization to issue additional preferred shares benefits the Company and its shareholders by permitting flexibility in financing additional growth, giving the Company additional financing options in corporate planning and in responding to developments in business, including financing of additional acquisitions and other general corporate purposes. Having authorized preferred shares available for issuance in the future gives the Company the ability to respond to future developments and allows preferred shares to be issued without the expense and delay of a special shareholders’ meeting. At present, the Company has no specific financing or acquisition plans involving the issuance of additional preferred shares and the Company does not propose to fix the characteristics of any series of preferred shares in anticipation of issuing preferred shares other than the Series A preferred shares and Series B convertible preferred shares discussed above. The Company cannot now predict whether or to what extent, if any, additional preferred shares will be used or if so used what the characteristics of a particular series may be. The voting rights and rights to distributions of the holders of common shares will be subject to the prior rights of the holders of any subsequently-issued preferred shares. Unless otherwise required by applicable law or regulation, the preferred shares would be issuable without further authorization by holders of the common shares and on such terms and for such consideration as may be determined by the board of directors. The preferred shares could be issued in one or more series having varying voting rights, redemption and conversion features, distribution (including liquidating distribution) rights and preferences, and other rights, including rights of approval of specified transactions. A series of preferred shares could be given rights that are superior to rights of holders of common shares and a series having preferential distribution rights could limit common share distributions and reduce the amount holders of common shares would otherwise receive on dissolution.

Distribution Policy

To maintain its REIT status the Company is required to distribute at least 90% of its ordinary income. Distributions in 2006 totaled $78.0 million and were paid monthly at a rate of $0.073 per common share. Distributions in 2005 totaled $48.9 million and were paid monthly at a rate of $0.073 per common share. The

 

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timing and amounts of distributions to shareholders are within the discretion of the Company’s Board of Directors. The amount and frequency of future distributions will depend on the Company’s results of operations, cash flow from operations, economic conditions, working capital requirements, cash requirements to fund investing and financing activities, capital expenditure requirements, including improvements to and expansions of properties and the acquisition of additional properties, as well as the distribution requirements under federal income tax provisions for qualification as a REIT.

Non-Employee Directors Stock Option Plan and Incentive Plan

The Company’s board of directors has adopted and the Company’s shareholders have approved a Non-Employee Directors Stock Option Plan and an Incentive Plan. The options issued under each plan convert to Units. Each Unit is equal to one common share and one Series A preferred share of the Company. As of December 31, 2006, options to purchase 144,172 Units were outstanding with a weighted average exercise price of $11 per Unit. The following is a summary of securities issued under the plans as of December 31, 2006:

 

Plan Category

 

Number of securities to be

issued upon exercise of

outstanding options,

warrants and rights

 

Weighted-average

exercise price of

outstanding options,

warrants and rights

 

Number of securities

remaining available for

future issuance under

equity compensation

plans

Equity Compensation plans approved by security holders

     

Non-Employee Directors Stock Option Plan

  144,172   $ 11.00   1,455,373

Employee Incentive Plan

  —     $ —     4,029,318

 

14


Table of Contents
Item 6. Selected Financial Data

The following table sets forth selected financial data for the years ended December 31, 2006 and 2005, and the period from January 20, 2004 (initial capitalization) through December 31, 2004. Certain information in the table has been derived from the Company’s audited financial statements and notes thereto. This data should be read in conjunction with Item 7, Management’s Discussion and Analysis of Financial Conditions and Results of Operations, and Item 15(1), the Consolidated Financial Statements and Notes thereto, appearing elsewhere in this Annual Report on Form 10-K.

 

(in thousands except per share and statistical data)

  

For the year

ended

December 31,

2006

   

For the year

ended

December 31,

2005

   

For the period

January 20, 2004

(initial capitalization)

through

December 31, 2004

 

Revenues:

      

Room revenue

   $ 217,629     $ 91,610     $ 12,092  

Other revenue

     18,246       10,180       2,343  
                        

Total revenue

     235,875       101,790       14,435  

Expenses:

      

Hotel operating expenses

     135,578       59,867       9,750  

Taxes, insurance and other

     13,491       5,340       663  

General and administrative

     5,355       3,526       1,210  

Depreciation

     25,529       11,366       1,881  

Interest and other expenses, net

     1,809       (2,126 )     (328 )
                        

Total expenses

     181,762       77,973       13,176  
                        

Net income

   $ 54,113     $ 23,817     $ 1,259  
                        

Per Share

      

Earnings per common share

   $ 0.61     $ 0.42     $ 0.10  

Distributions paid to common shareholders

   $ 0.88     $ 0.88     $ 0.55  

Weighted-average common shares outstanding—basic and diluted

     88,869       56,451       12,300  
                        

Balance Sheet Data (at end of period)

      

Cash and cash equivalents

   $ 26,160     $ 35,948     $ 142,790  

Investment in hotels, net

   $ 836,906     $ 790,170     $ 184,084  

Total assets

   $ 886,839     $ 854,316     $ 332,259  

Notes payable-secured

   $ 53,660     $ 76,855     $ 6,557  

Shareholders’ equity

   $ 826,046     $ 771,835     $ 325,099  

Net book value per share

   $ 9.20     $ 9.44     $ 9.56  
                        

Other Data

      

Cash flow from:

      

Operating activities

   $ 81,363     $ 28,907     $ 2,904  

Investing activities

   $ (61,766 )   $ (585,507 )   $ (183,840 )

Financing activities

   $ (29,385 )   $ 449,758     $ 323,702  

Number of hotels owned at end of period

     67       62       11  

Average Daily Rate (ADR) (b)

   $ 105     $ 101     $ 105  

Occupancy

     74.5 %     71.1 %     59.8 %

Revenue Per Available Room (RevPAR) (c)

   $ 78     $ 72     $ 63  
                        

Funds From Operations Calculation

      

Net income

   $ 54,113     $ 23,817     $ 1,259  

Depreciation of real estate owned

     24,681       11,366       1,881  
                        

Funds from operations (a)

   $ 78,794     $ 35,183     $ 3,140  
                        

(a) Funds from operations (FFO) is defined as net income (computed in accordance with generally accepted accounting principles—GAAP) excluding gains and losses from sales of depreciable property, plus depreciation and amortization. The Company considers FFO in evaluating property acquisitions and its operating performance and believes that FFO should be considered along with, but not as an alternative to, net income and cash flows as a measure of the Company’s activities in accordance with GAAP and is not necessarily indicative of cash available to fund cash needs.
(b) Total room revenue divided by number of rooms sold.
(c) ADR multiplied by occupancy percentage.

 

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Table of Contents
Item 7. Management’s Discussion And Analysis Of Financial Condition And Results Of Operations

This Annual Report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Such statements involve known and unknown risks, uncertainties, and other factors which may cause the actual results, performance, or achievements of the Company to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, but are not limited to, the ability of the Company to implement its acquisition strategy and operating strategy; the Company’s ability to manage planned growth; changes in economic cycles and competition within the hotel industry. Although the Company believes that the assumptions underlying the forward-looking statements contained herein are reasonable, any of the assumptions could be inaccurate, and therefore there can be no assurance that such statements included in this Annual Report will prove to be accurate. In light of the significant uncertainties inherent in the forward-looking statements included herein, the inclusion of such information should not be regarded as a representation by the Company or any other person that the results or conditions described in such statements or the objectives and plans of the Company will be achieved. In addition, the Company’s qualification as a real estate investment trust involves the application of highly technical and complex provisions of the Internal Revenue Code. Readers should carefully review the Company’s financial statements and the notes thereto, as well as the risk factors described in the Company’s filings with the Securities and Exchange Commission and Item 1A.

General

The Company was formed and initially capitalized on January 20, 2004, with its first investor closing on April 23, 2004. The Company owns 67 hotels within different markets in the United States. The Company is treated as a Real Estate Investment Trust (“REIT”) for federal income tax purposes. The Company’s first hotel was acquired on May 28, 2004, with 11 total hotels purchased in 2004, an additional 51 hotels purchased throughout 2005, and an additional 5 hotels purchased throughout 2006. Accordingly, the results of operations include only the results of operations of the hotels for the period owned. Although hotel performance can be influenced by many factors including local competition, local and general economic conditions in the United States and the performance of individual managers assigned to each hotel, performance of the hotels, in general, has met the Company’s expectations for the period owned. In evaluating financial condition and operating performance, the most important matters on which the Company focuses are revenue measurements, such as average occupancy, average daily rate (“ADR”) and revenue per available room (“RevPAR”), and expenses, such as hotel operating expenses, general and administrative and other expenses described below. The following is a summary of results.

 

(in thousands except statistical data)

 

Year ended

December 31, 2006

   

Percent

of

Revenue

   

Year ended

December 31, 2005

   

Percent

of

Revenue

   

Percent

Change

 

Total revenues

  $ 235,875     100 %   $ 101,790     100 %   132 %

Hotel operating expenses

    135,578     57 %     59,867     59 %   126 %

Taxes, insurance and other expense

    13,491     6 %     5,340     5 %   153 %

General and administrative expense

    5,355     2 %     3,526     3 %   52 %

Depreciation

    25,529         11,366       125 %

Interest income

    1,220         3,909       -69 %

Interest expense

    3,029         1,783       70 %

Number of Hotels

    67         62       8 %

ADR

  $ 105       $ 101       4 %

Occupancy

    74.5 %       71.1 %     5 %

RevPAR

  $ 78       $ 72       8 %

 

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Table of Contents

Hotels Owned

As of December 31, 2006, the Company owned 67 hotels, with a total of 7,750 rooms. The following table summarizes the location, brand, manager, date acquired, number of rooms and gross purchase price for each hotel. All dollar amounts are in thousands.

 

City

 

State

 

Brand

 

Manager

 

Date

Acquired

  Rooms  

Gross

Purchase

Price

Birmingham

  Alabama   Fairfield Inn   LBA   8/25/05   63   $ 2,176

Dothan

  Alabama   Courtyard   LBA   8/11/05   78     8,016

Dothan

  Alabama   Hampton Inn & Suites   LBA   6/24/05   85     8,673

Huntsville

  Alabama   Fairfield Inn   LBA   9/30/05   79     4,954

Huntsville

  Alabama   Residence Inn   LBA   6/24/05   78     8,288

Montgomery

  Alabama   SpringHill Suites   LBA   9/30/05   79     6,835

Tuscaloosa

  Alabama   Courtyard   LBA   8/25/05   78     7,551

Tuscaloosa

  Alabama   Fairfield Inn   LBA   8/25/05   63     3,982

Anchorage

  Alaska   Hampton Inn   Stonebridge   3/14/05   101     11,500

Anchorage

  Alaska   Hilton Garden Inn   Stonebridge   10/12/04   125     18,900

Anchorage

  Alaska   Homewood Suites   Stonebridge   10/12/04   122     13,200

Phoenix

  Arizona   Hampton Inn   Stonebridge   10/12/04   99     6,700

Tempe

  Arizona   SpringHill Suites   Western   6/30/05   121     8,060

Tempe

  Arizona   TownePlace Suites   Western   6/30/05   119     8,128

Arcadia

  California   Hilton Garden Inn   Stonebridge   10/12/04   124     12,000

Arcadia

  California   SpringHill Suites   Stonebridge   10/12/04   86     8,100

Bakersfield

  California   Hilton Garden Inn   Hilton   3/18/05   120     11,500

Folsom

  California   Hilton Garden Inn   Inn Ventures   11/30/05   100     18,028

Foothill Ranch

  California   Hampton Inn   Stonebridge   4/21/05   84     7,400

Lake Forest

  California   Hilton Garden Inn   Stonebridge   10/12/04   103     11,400

Milpitas

  California   Hilton Garden Inn   Inn Ventures   11/30/05   161     18,600

Roseville

  California   Hilton Garden Inn   Inn Ventures   11/30/05   131     20,759

San Francisco

  California   Hilton Garden Inn   Inn Ventures   1/30/06   169     12,266

Boulder

  Colorado   Marriott   WLS   5/9/05   157     30,000

Glendale

  Colorado   Hampton Inn & Suites   Stonebridge   10/12/04   133     14,700

Lakewood

  Colorado   Hampton Inn   Stonebridge   10/12/04   170     10,600

Farmington

  Connecticut   Courtyard   WLS   10/20/05   119     16,330

Rocky Hill

  Connecticut   Residence Inn   WLS   8/1/05   96     12,070

Wallingford

  Connecticut   Homewood Suites   WLS   7/8/05   104     12,780

Clearwater

  Florida   SpringHill Suites   LBA   2/17/06   79     6,923

Lake Mary

  Florida   Courtyard   Stonebridge   3/18/05   86     6,000

Lakeland

  Florida   Residence Inn   LBA   6/24/05   78     9,886

Orange Park

  Florida   Fairfield Inn   LBA   11/8/05   83     7,221

Panama City

  Florida   Courtyard   LBA   4/26/06   84     9,245

Pensacola

  Florida   Courtyard   LBA   8/25/05   90     11,369

Pensacola

  Florida   Fairfield Inn   LBA   8/25/05   63     4,858

Pensacola

  Florida   Hampton Inn & Suites   LBA   7/21/05   85     9,279

Tallahassee

  Florida   Hilton Garden Inn   Hilton   3/18/05   99     10,850

Albany

  Georgia   Courtyard   LBA   6/24/05   84     8,597

Columbus

  Georgia   Residence Inn   LBA   6/24/05   78     7,888

Savannah

  Georgia   SpringHill Suites   LBA   9/30/05   79     5,407

Valdosta

  Georgia   Courtyard   LBA   10/3/05   84     8,284

Mt. Olive

  New Jersey   Residence Inn   WLS   9/15/05   123     12,070

Somerset

  New Jersey   Homewood Suites   WLS   8/17/05   123     17,750

Saratoga Springs

  New York   Hilton Garden Inn   WLS   9/29/05   112     17,750

Hillsboro

  Oregon   Courtyard   Inn Ventures   3/9/06   155     11,000

Hillsboro

  Oregon   Residence Inn   Inn Ventures   3/9/06   122     15,500

Hillsboro

  Oregon   TownePlace Suites   Inn Ventures   12/19/05   136     11,500

Portland

  Oregon   Residence Inn   Inn Ventures   12/19/05   258     42,000

Pittsburgh

  Pennsylvania   Residence Inn   WLS   9/2/05   156     11,000

Myrtle Beach

  South Carolina   Courtyard   Marriott   6/8/04   135     9,200

Nashville

  Tennessee   Homewood Suites   Hilton   5/24/05   121     8,103

Arlington

  Texas   SpringHill Suites   Western   6/30/05   122     7,486

Arlington

  Texas   TownePlace Suites   Western   6/30/05   95     7,148

Dallas

  Texas   SpringHill Suites   Western   12/9/05   147     19,500

Ft. Worth

  Texas   Homewood Suites   Hilton   5/24/05   137     9,097

Ft. Worth

  Texas   Residence Inn   Western   5/6/05   149     17,000

Ft. Worth

  Texas   SpringHill Suites   Marriott   5/28/04   145     13,340

Laredo

  Texas   Homewood Suites   Western   11/30/05   106     10,500

Laredo

  Texas   Residence Inn   Western   9/12/05   109     11,445

Las Colinas

  Texas   TownePlace Suites   Western   6/30/05   136     7,178

McAllen

  Texas   Hilton Garden Inn   Western   7/19/05   104     9,000

Fredericksburg

  Virginia   Hilton Garden Inn   Hilton   12/20/05   148     16,600

Kent

  Washington   TownePlace Suites   Inn Ventures   12/19/05   152     12,000

Mukilteo

  Washington   TownePlace Suites   Inn Ventures   12/19/05   128     12,000

Redmond

  Washington   Marriott   Marriott   7/7/04   262     64,000

Renton

  Washington   Hilton Garden Inn   Inn Ventures   11/30/05   150     16,096
                 
        Total       7,750   $ 827,566
                 

 

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The Company leased all of its hotels to wholly-owned taxable REIT subsidiaries (collectively, the “lessee”) under master hotel lease agreements. The Company also used the proceeds of its offering to pay 2% of the gross purchase price for these hotels, which equals approximately $16.6 million, as a commission to Apple Six Realty Group, Inc. (“ASRG”). ASRG is owned by the Company’s Chairman, Chief Executive Officer and President, Glade M. Knight.

The Company assumed approximately $54.1 million of debt secured by 14 of the properties. The following table summarizes the hotel, interest rate, maturity date and the principal amount assumed associated with each mortgage. All dollar amounts are in thousands.

 

Location

  

Brand

   Rate     

Maturity

Date

  

Principal

Assumed

Glendale, CO

   Hampton Inn & Suites    6.93 %    1/01/13    $ 6,603

Anchorage, AK

   Hampton Inn    7.75 %    4/01/09      5,531

Foothill Ranch, CA

   Hampton Inn    8.06 %    8/01/11      4,502

Dothan, AL

   Courtyard    7.35 %    4/01/08      3,244

Birmingham, AL

   Fairfield Inn    7.35 %    5/01/08      2,086

Tuscaloosa, AL

   Courtyard    7.30 %    5/01/08      3,388

Tuscaloosa, AL

   Fairfield Inn    7.30 %    5/01/08      1,690

Pensacola, FL

   Courtyard    7.35 %    5/01/08      4,557

Pensacola, FL

   Fairfield Inn    7.35 %    5/01/08      2,734

Huntsville, AL

   Fairfield Inn    6.80 %    1/11/13      3,028

Savannah, GA

   SpringHill Suites    6.80 %    1/11/13      3,066

Montgomery, AL

   SpringHill Suites    6.80 %    1/11/13      3,785

Orange Park, FL

   Fairfield Inn    8.52 %    2/11/11      3,193

Hillsboro, OR

   Courtyard    6.40 %    12/11/14      6,663
               
         Total    $ 54,070
               

No goodwill or intangible assets were recorded in connection with any of the acquisitions.

Management and Franchise Agreements

Each of the Company’s 67 hotels are operated and managed, under separate management agreements, by affiliates of one of the following companies: Marriott, Stonebridge, Hilton, Western, LBA, WLS, or Inn Ventures. The agreements provide for initial terms ranging from 2 to 30 years. Fees associated with the agreements generally include the payment of base management fees, incentive management fees, accounting fees, and other fees for centralized services which are allocated among all of the hotels that receive the benefit of such services. Base management fees are calculated as a percentage of gross revenues. Incentive management fees are calculated as a percentage of operating profit in excess of a priority return to the Company, as defined in the management agreements. The Company has the option to terminate the management agreements if specified performance thresholds are not satisfied. During the years ended December 31, 2006 and 2005 the Company incurred approximately $8.7 and $3.2 million in management fees.

Stonebridge, Western, LBA, WLS, and Inn Ventures are not affiliated with either Marriott or Hilton, and as a result, these hotels were required to obtain separate franchise agreements with each respective franchisor. The Hilton franchise agreements generally provide for a term of 13 to 20 years. Fees associated with the Hilton agreements generally include the payment of royalty fees and program fees based on room revenues. The Marriott franchise agreements provide for an initial term of 15 to 20 years. Fees associated with the Marriott agreements include the payment of royalty fees, marketing fees, reservation fees and a communications support fee based on room revenues. During the years ended December 31, 2006 and 2005 the Company incurred approximately $9.0 and $4.0 million in franchise fees.

 

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Results of Operations

During the period from January 20, 2004 to May 27, 2004, the Company owned no properties, had no revenue and was engaged in initial capital-raising activities. During this period, the Company incurred miscellaneous start-up costs and interest expense related to an unsecured line of credit. Operations did not commence until May 28, 2004, when the Company purchased its first hotel in Ft. Worth, Texas and ended 2004 with 11 hotels. The Company purchased an additional 51 hotels throughout 2005 and five more in 2006. As a result, year-to-year comparisons of results for 2005 to 2004 would not be meaningful.

In general, performance at the Company’s hotels have met expectations for the period held. Hotel performance is impacted by many factors including economic conditions in the United States, as well as each locality. As a result, there can be no assurance that the Company’s operating performance will continue to meet expectations in the future.

Revenues

The Company’s principal source of revenue is hotel room revenue and other related revenue. Hotel operations are for the 67 hotels acquired through December 31, 2006 for their respective periods owned. For the years ended December 31, 2006 and 2005, the Company had total revenue of $236 and $102 million, respectively. For the years ended December 31, 2006 and 2005, the hotels achieved average occupancy of 74.5% and 71.1%, average daily rate, or ADR of $105 and $101 and revenue per available room, or RevPAR of $78 and $72. ADR is calculated as room revenue divided by the number of rooms sold, and RevPAR is calculated as occupancy multiplied by ADR. These rates are consistent with industry and brand averages. The industry and the Company have seen RevPAR increases due to increases in demand exceeding increases in supply of hotel rooms in the markets where the Company’s hotels are located. The Company continually works with the hotel managers to maximize rates and anticipates continued growth in 2007.

Expenses

Expenses for the years ended December 31, 2006 and 2005 represented the expenses related to the 67 hotels acquired through December 31, 2006 for their respective periods owned.

For the years ended December 31, 2006 and 2005, hotel operating expenses totaled $135.6 and $59.9 million, or 57% of total revenue in 2006 and 59% of total revenue in 2005. This percentage has decreased as revenues for newly opened properties have increased and ADR has increased.

Taxes, insurance, and other expenses for the years ended December 31, 2006 and 2005 were $13.5 and $5.3 million, or 6% of total revenue in 2006 and 5% of total revenue in 2005. The increase as a percentage of revenue was driven by higher property insurance rates. As many of the properties acquired by the Company in the previous 12 months were newly constructed, the Company expects a slight increase in property taxes in the next year.

General and administrative expense for the years ended December 31, 2006 and 2005 was $5.4 and $3.5 million, or 2% of total revenue in 2006 and 3% of total revenue in 2005. The decrease as a percentage of revenue resulted from the growth of the Company’s asset base. The Company anticipates this percentage to remain consistent now that the Company has substantially completed all of its planned acquisitions. The principal components of general and administrative expense are advisory fees, legal fees, accounting fees and reporting expense.

Depreciation expense for the years ended December 31, 2006 and 2005 was $25.5 and $11.4 million. Depreciation expense represents the expense of the Company’s 67 hotels and related personal property for their respective periods owned.

 

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Interest expense for the years ended December 31, 2006 and 2005 was $3.0 and $1.8 million. Interest expense arose from debt assumed with 14 of the hotels acquired in 2005 and 2006 and short term financing to bridge the purchase of properties and the raising of capital.

For the years ended December 31, 2006 and 2005, the Company had interest income of $1.2 and $3.9 million. Interest income represents earnings on excess cash invested in short term money market instruments, pending investment in hotel properties.

Related Party Transactions

The Company has significant transactions with related parties. These transactions cannot be construed to be arms length, and the results of the Company’s operations may be different if these transactions were conducted with non-related parties.

The Company has a contract with ASRG, a related party, to provide brokerage services for the acquisition and disposition of the Company’s real estate assets. In accordance with the contract, ASRG is paid a fee of 2% of the gross purchase price of any acquisitions or gross sale price of any dispositions of real estate investments, subject to certain conditions. As of December 31, 2006, total payments to ASRG for services under the terms of this contract were $16.6 million, which was capitalized as a part of the purchase price of the hotels.

The Company is party to an advisory agreement with Apple Six Advisors, Inc. (“ASA”), pursuant to which ASA provides management services to the Company. An annual fee ranging from .1% to .25% of total equity proceeds received by the Company, in addition to certain reimbursable expenses, are payable for these services. ASA utilizes Apple Hospitality Two, Inc. (“AHT”) to provide these services. Expenses related to ASA in 2006, 2005 and 2004 were approximately $3.5, $1.6 and $0.4 million, respectively.

During 2006 the Company assigned its rights under four contracts for the purchase of hotels in Houston, TX, Brownsville, TX, Miami, FL and Stafford, TX to Apple REIT Seven, Inc. The assignments were completed with no cost or profit to the Company and were entered into to prevent the Company from incurring secured debt to complete its planned property acquisitions.

Including ASRG and ASA discussed above, Mr. Knight is also Chairman and CEO of Apple Hospitality Two, Inc. (a hospitality REIT), Apple Hospitality Five, Inc. (a hospitality REIT) and Apple REIT Seven, Inc. (a diversified REIT). The Company’s Board of Directors are also on the board of Apple Hospitality Two, Inc. and Apple Hospitality Five, Inc.

The Company has issued 240,000 Series B convertible preferred shares to Mr. Knight in exchange for the payment by him of $0.10 per Series B convertible preferred share, or an aggregate of $24,000. The Series B convertible preferred shares are convertible into common shares pursuant to the formula and on the terms and conditions set forth below.

There are no dividends payable on the Series B convertible preferred shares. Holders of more than two-thirds of the Series B convertible preferred shares must approve any proposed amendment to the articles of incorporation that would adversely affect the Series B convertible preferred shares.

Upon the Company’s liquidation, the holder of the Series B convertible preferred shares is entitled to a priority liquidation payment before any distribution of liquidation proceeds to the holders of the common shares. However, the priority liquidation payment of the holder of the Series B convertible preferred shares is junior to the holders of the Series A preferred shares distribution rights. The holder of a Series B convertible preferred share is entitled to a liquidation payment of $11 per number of common shares each Series B convertible preferred share would be convertible into according to the formula described below. In the event that the liquidation of the Company’s assets results in proceeds that exceed the distribution rights of the Series A

 

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preferred shares and the Series B convertible preferred shares, the remaining proceeds will be distributed between the common shares and the Series B convertible preferred shares, on an as converted basis.

Each holder of outstanding Series B convertible preferred shares shall have the right to convert any of such shares into common shares of the Company upon and for 180 days following the occurrence of any of the following events:

(1) substantially all of the Company’s assets, stock or business is sold or transferred through exchange, merger, consolidation, lease, share exchange, sale or otherwise, other than a sale of assets in liquidation, dissolution or winding up of the Company;

(2) the termination or expiration without renewal of the advisory agreement with ASA, or if the Company ceases to use ASRG to provide property acquisition and disposition services; or

(3) the Company’s common shares are listed on any securities exchange or quotation system or in any established market.

Upon the occurrence of any conversion event, each Series B convertible preferred share may be converted into 24.17104 common shares. In the event that the Company raises additional gross proceeds in a subsequent public offering, each Series B convertible preferred share may be converted into an additional number of common shares based on the additional gross proceeds raised through the date of conversion in a subsequent public offering according to the following formula: (X/50 million) x 1.20568, where X is the additional gross proceeds rounded down to the nearest 50 million.

No additional consideration is due upon the conversion of the Series B convertible preferred shares. The conversion into common shares of the Series B convertible preferred shares will result in dilution of the shareholders’ interests.

Expense related to issuance of 240,000 Series B convertible preferred shares to Mr. Knight will be recognized at such time when the number of common shares to be issued for conversion of the Series B shares can be reasonably estimated and the event triggering the conversion of the Series B shares to common shares occurs. The expense will be measured as the difference between the fair value of the common stock for which the Series B shares can be converted and the amounts paid for the Series B shares. Expense if a conversion event had occurred at December 31, 2006 could range from $0 to $63.8 million (assumes $11 per Unit fair market value), which represents approximately 5.8 million shares of common stock.

Liquidity and Capital Resources

 

Commercial Commitments

                  (000’s)

   Total    Amount of Commitment expiring per period
     

Less than

1 year

   2-3 Years    4-5 Years    Over
5 Years

Debt (including interest of $14.5 million)

   $ 66,629    $ 5,219    $ 28,075    $ 11,951    $ 21,384

Property Purchase Commitments

     26,242      11,025      15,217      —        —  

Ground Lease Commitments

     12,973      580      882      907      10,604
                                  

Total Commercial Commitments

   $ 105,844    $ 16,824    $ 44,174    $ 12,858    $ 31,988
                                  

Capital Requirements and Resources

Operating cash flow from the properties owned and cash on hand ($26.2 million at December 31, 2006) are the Company’s principal source of liquidity. In addition, the Company may borrow funds, subject to limitations set forth in its bylaws.

 

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Table of Contents

The Company anticipates that cash flow, and cash on hand, will be adequate to cover substantially all of its operating expenses and to permit the Company to meet substantially all of its anticipated liquidity requirements, including distribution requirements and property acquisitions.

To maintain its REIT status the Company is required to distribute at least 90% of its ordinary income. Distributions in 2006 totaled $78.0 million and were paid monthly at a rate of $0.073 per common share and included a return of capital. For the same period the Company’s cash generated from operations was $81.4 million. The Company intends to continue paying dividends on a monthly basis at an annual rate of 8%. Since there can be no assurance of the ability of the Company’s properties to provide income at this level, there can be no assurance as to the classification or duration of distributions at the current rate.

The Company has on-going capital commitments to fund its capital improvements. The Company is required, under all of the hotel management agreements, to make available, for the repair, replacement, refurbishing of furniture, fixtures, and equipment, an amount of 3% to 5% of gross revenues provided that such amount may be used for the Company’s capital expenditures with respect to the hotels. The Company expects that this amount will be adequate to fund required repair, replacement, and refurbishments and to maintain the Company’s hotels in a competitive condition.

On March 3, 2006, the Company concluded its best-efforts offering of Units. From the Company’s initial capitalization on January 20, 2004 through March 3, 2006, the Company closed on a total of 91,125,541 Units, representing gross proceeds and proceeds net of selling, marketing fees, and other costs of approximately $1.0 billion and $898 million, respectively. These costs are reflected as a reduction to shareholders’ equity.

In February 2006, the Company instituted a Dividend Reinvestment Plan for its shareholders. The plan provides a convenient and cost effective way to increase shareholder investment in the Company by reinvesting dividends to purchase additional Units of the Company. The uses of the proceeds from this plan may include purchasing Units under the Company’s Unit Redemption Program, enhancing properties, satisfying financing obligations and other expenses, increasing working capital, funding various corporate operations, and acquiring hotels. As of December 31, 2006, approximately 2.0 million Units, representing $22.0 million in proceeds to the Company, have been issued under the plan.

In July 2005, the Company instituted a Unit Redemption Program to provide limited interim liquidity to its shareholders who have held their Units for at least one year. Shareholders may request redemption of Units for a purchase price equal to the lesser of: (1) the purchase price per Unit that the shareholder actually paid for the Unit; or (2) $11.00 per Unit. The Company reserves the right to change the purchase price of redemptions, reject any request for redemption, or otherwise amend the terms of, suspend, or terminate the Unit Redemption Program. As of December 31, 2006, the Company has redeemed 3.4 million Units in the amount of $36.7 million under the program.

The Company has entered into contracts for the purchase of two additional hotels for a total purchase price of approximately $26.2 million. Both of these hotels are under construction, with completion of one expected in mid-2007 and the other in early 2008. The contracts are subject to normal due diligence and no assurances can be given that all of the conditions to closing will be satisfied. It is anticipated substantially all of the purchase price will be paid from cash on hand.

Subsequent Events

In January 2007, the Company declared and paid $6.6 million or $.073 per common share, in a distribution to its common shareholders, of which $2.7 million or 248,342 Units were reinvested under the Company’s Dividend Reinvestment Plan.

On January 22, 2007, the Company redeemed 1,049,921 Units in the amount of $11.5 million under its Unit Redemption Program.

 

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Table of Contents

In February 2007, the Company declared and paid $6.5 million or $.073 per common share, in a distribution to its common shareholders, of which $2.7 million or 248,172 Units were reinvested under the Company’s Dividend Reinvestment Plan.

Impact of Inflation

Operators of hotels, in general, possess the ability to adjust room rates daily to reflect the effects of inflation. Competitive pressures may, however, limit the operators’ ability to raise room rates. Currently the Company is not experiencing any material impact from inflation.

Seasonality

The hotel industry historically has been seasonal in nature. Seasonal variations in occupancy at the Company’s hotels may cause quarterly fluctuations in its revenues. To the extent that cash flow from operations is insufficient during any quarter, due to temporary or seasonal fluctuations in revenue, the Company expects to utilize cash on hand to make distributions.

Critical Accounting Policies

The following contains a discussion of what the Company believes to be critical accounting policies. These items should be read to gain a further understanding of the principles used to prepare the Company’s financial statements. These principles include application of judgment; therefore, changes in judgments may have a significant impact on the Company’s reported results of operations and financial condition.

Capitalization Policy

The Company considers expenditures to be capital in nature based on the following criteria: (1) for a single asset, the cost must be at least $500, including all normal and necessary costs to place the asset in service, and the useful life must be at least one year; (2) for group purchases of 10 or more identical assets, the unit cost for each asset must be at least $50, including all normal and necessary costs to place the asset in service, and the useful life must be at least one year; and (3) for major repairs to buildings, the repair must be at least $2,500 and the useful life of the asset must be substantially extended.

Impairment Losses Policy

The Company records impairment losses on hotel properties used in operations if indicators of impairment are present, and the sum of the undiscounted cash flows estimated to be generated by the respective properties are less than the properties’ carrying amounts. Impairment losses are measured as the difference between the asset’s fair value less cost to sell, and its carrying value. No impairment losses have been recorded to date.

Investment Policy

The purchase price of real estate properties acquired is allocated to the various components, such as land, buildings and improvements, intangible assets and in-place leases as appropriate, in accordance with Statement of Financial Accounting Standards No. 141, “Business Combinations”. The purchase price is allocated based on the fair value of each component at the time of acquisition. Generally the Company does not acquire real estate assets that have in-place leases as lease terms for hotel properties are very short term in nature. The Company has not allocated any purchase price to intangible assets such as management contracts and franchise agreements as such contracts are generally at current market rates and any other value attributable to these contracts are not considered material.

 

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Table of Contents

Recent Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109. This interpretation requires that income tax positions recognized in an entity’s tax returns have a more-likely-than-not chance of being sustained prior to recording the related tax benefit in the financial statements. Tax benefits would be derecognized if information became available which indicated that it was more-likely-than-not that the position would not be sustained. The Company will adopt this interpretation in the first quarter of 2007. The Company is evaluating the impact, if any, of this interpretation.

 

Item 7A. Quantitative and Qualitative Disclosure About Market Risk

The Company does not engage in transactions in derivative financial instruments or derivative commodity instruments. As of December 31, 2006, the Company’s financial instruments were not exposed to significant market risk due to interest rate risk, foreign currency exchange risk, commodity price risk or equity price risk. The Company will be exposed to changes in short term money market rates as it invests its cash. Based on the Company’s cash invested at December 31, 2006, of $26.2 million, every 100 basis points change in interest rates will impact the Company’s net income by $262,000, all other factors remaining the same.

The Company has assumed fixed interest rate notes payable to lenders under permanent financing arrangements. The following table summarizes the annual maturities and average interest rates.

 

(000’s)

  2007     2008     2009     2010     2011     Thereafter     Total  

Fair

Market

Value

Maturities

  $ 1,445     $ 17,555     $ 5,431     $ 850     $ 7,546     $ 19,304     $ 52,131   $ 54,450

Average Interest Rate

    7.3 %     7.2 %     7.2 %     7.3 %     7.1 %     6.9 %    

 

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Table of Contents
Item 8. Financial Statements and Supplementary Data

Report of Management

on Internal Control Over Financial Reporting

March 7, 2007

To the Shareholders

Apple REIT Six, Inc.

Management of Apple REIT Six, Inc. (the “Company”) is responsible for establishing and maintaining adequate internal control over financial reporting and for the assessment of the effectiveness of internal control over financial reporting. As defined by the Securities and Exchange Commission, internal control over financial reporting is a process designed by, or under the supervision of the Company’s principal executive and principal financial officers and effected by the Company’s Board of Directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of the consolidated financial statements in accordance with U.S. generally accepted accounting principles.

The Company’s internal control over financial reporting is supported by written policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the Company’s transactions and dispositions of the Company’s assets; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of the consolidated financial statements in accordance with generally accepted accounting principles, and the receipts and expenditures of the Company are being made only in accordance with authorizations of the Company’s management and directors; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the consolidated financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In connection with the preparation of the Company’s annual consolidated financial statements, management has undertaken an assessment of the effectiveness of the Company’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO Framework). Management’s assessment included an evaluation of the design of the Company’s internal control over financial reporting and testing of the operational effectiveness of those controls.

Based on this assessment, management has concluded that as of December 31, 2006, the Company’s internal control over financial reporting was effective to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles.

Ernst & Young LLP, the independent registered public accounting firm that audited the Company’s consolidated financial statements included in this report, has issued an attestation report on management’s assessment of internal control over financial reporting, a copy of which appears on the next page of this annual report.

 

/s/    GLADE M. KNIGHT             /s/    BRYAN PEERY        
Glade M. Knight     Bryan Peery
Chairman and Chief Executive Officer    

Chief Financial Officer

(Principal Accounting Officer)

 

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Table of Contents

Report of Independent Registered Public Accounting Firm

on Internal Control Over Financial Reporting

The Board of Directors and Shareholders

Apple REIT Six, Inc.

We have audited management’s assessment, included in the accompanying “Report of Management on Internal Control Over Financial Reporting”, that Apple REIT Six, Inc. maintained effective internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Apple REIT Six, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, management’s assessment that Apple REIT Six, Inc. maintained effective internal control over financial reporting as of December 31, 2006, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, Apple REIT Six, Inc. maintained, in all material respects, effective internal control over financial reporting as of December 31, 2006, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Apple REIT Six, Inc., as of December 31, 2006 and 2005, and the related consolidated statements of operations, shareholders’ equity and cash flows for the years ended December 31, 2006 and 2005 and the period from January 20, 2004 (initial capitalization) through December 31, 2004, and our report dated March 7, 2007, expressed an unqualified opinion thereon.

/s/    ERNST & YOUNG LLP

Richmond, Virginia

March 7, 2007

 

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Report of Independent Registered Public Accounting Firm

The Board of Directors and Shareholders

Apple REIT Six, Inc.

We have audited the accompanying consolidated balance sheets of Apple REIT Six, Inc. (the “Company”) as of December 31, 2006 and 2005, and the related consolidated statements of operations, shareholders’ equity, and cash flows for the years ended December 31, 2006 and 2005 and the period from January 20, 2004 (initial capitalization) through December 31, 2004. Our audits also included the financial statement schedule listed in the Index of Item 15. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Apple REIT Six, Inc. at December 31, 2006 and 2005, and the consolidated results of its operations and its cash flows for the years ended December 31, 2006 and 2005 and the period from January 20, 2004 (initial capitalization) through December 31, 2004, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Apple REIT Six, Inc.’s internal control over financial reporting as of December 31, 2006, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated March 7, 2007 expressed an unqualified opinion thereon.

/s/    ERNST & YOUNG LLP

Richmond, Virginia

March 7, 2007

 

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Table of Contents

Apple REIT Six, Inc.

Consolidated Balance Sheets

(in thousands, except share data)

 

    

December 31,

2006

   

December 31,

2005

 

ASSETS

    

Investment in real estate, net of accumulated depreciation of $37,928 and $13,247, respectively

   $ 836,906     $ 790,170  

Cash and cash equivalents

     26,160       35,948  

Restricted cash-furniture, fixtures and other escrows

     3,350       3,152  

Due from third party manager, net

     8,948       7,813  

Other assets, net

     11,475       17,233  
                

TOTAL ASSETS

   $ 886,839     $ 854,316  
                

LIABILITIES

    

Notes payable

   $ 53,660     $ 76,855  

Accounts payable and accrued expenses

     7,133       5,626  
                

TOTAL LIABILITIES

     60,793       82,481  

SHAREHOLDERS’ EQUITY

    

Preferred stock, authorized 15,000,000 shares; none issued and outstanding

     —         —    

Series A preferred stock, no par value, authorized 200,000,000 shares; issued and outstanding 89,773,345 and 81,774,666 shares, respectively

     —         —    

Series B convertible preferred stock, no par value, authorized 240,000 shares; issued and outstanding 240,000 and 240,000 shares, respectively

     24       24  

Common stock, no par value, authorized 200,000,000 shares; issued and outstanding 89,773,345 and 81,774,666 shares, respectively

     883,174       805,079  

Distributions greater than net income

     (57,152 )     (33,268 )
                

TOTAL SHAREHOLDERS’ EQUITY

     826,046       771,835  
                

TOTAL LIABILITIES AND SHAREHOLDERS’ EQUITY

   $ 886,839     $ 854,316  
                

See notes to consolidated financial statements.

 

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Table of Contents

Apple REIT Six, Inc.

Consolidated Statements of Operations

(in thousands, except per share data)

 

    

For the Year

ended

December 31,

2006

   

For the Year

ended

December 31,

2005

   

For the period

January 20, 2004

(initial capitalization)

through

December 31, 2004

 

Revenues:

      

Room revenue

   $ 217,629     $ 91,610     $ 12,092  

Other revenue

     18,246       10,180       2,343  
                        

Total revenue

     235,875       101,790       14,435  

Expenses:

      

Operating expense

     61,758       27,755       5,070  

Hotel administrative expense

     18,448       9,822       1,625  

Sales and marketing

     18,297       7,074       1,041  

Utilities

     9,592       4,159       586  

Repair and maintenance

     9,749       3,900       553  

Franchise fees

     9,004       3,965       372  

Management fees

     8,730       3,192       503  

Taxes, insurance and other

     13,491       5,340       663  

General and administrative

     5,355       3,526       1,210  

Depreciation expense

     25,529       11,366       1,881  
                        

Total expenses

     179,953       80,099       13,504  
                        

Operating income

     55,922       21,691       931  

Interest income

     1,220       3,909       435  

Interest expense

     (3,029 )     (1,783 )     (107 )
                        

Net income

   $ 54,113     $ 23,817     $ 1,259  
                        

Basic and diluted net income per common share

   $ 0.61     $ 0.42     $ 0.10  
                        

Weighted average common shares outstanding—basic and diluted

     88,869       56,451       12,300  

Distributions declared per common share

   $ 0.88     $ 0.88     $ 0.55  
                        

See notes to consolidated financial statements.

Note: The company was formed on January 20, 2004 and commenced operations on May 28, 2004.

 

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Table of Contents

Apple REIT Six, Inc.

Consolidated Statements of Shareholders’ Equity

(in thousands except per share data)

 

    Common Stock    

Class B Convertible

Preferred Stock

 

Distributions
Greater

than

Net income

   

Total
Shareholders’

Equity

 
    Number of
Shares
    Amount     Number of
Shares
  Amount    

Initial capitalization at January 20, 2004

  —       $ —       240   $ 24   $ —       $ 24  

Net proceeds from the sale of common shares

  34,020       333,295     —       —       —         333,295  

Net income

  —         —       —       —       1,259       1,259  

Cash distributions declared and paid to shareholders ($.55 per share)

  —         —       —       —       (9,479 )     (9,479 )
                                       

Balance at December 31, 2004

  34,020       333,295     240     24     (8,220 )     325,099  

Net proceeds from the sale of common shares

  48,193       476,545     —       —       —         476,545  

Common shares redeemed

  (438 )     (4,761 )   —       —       —         (4,761 )

Net income

  —         —       —       —       23,817       23,817  

Cash distributions declared and paid to shareholders ($.88 per share)

  —         —       —       —       (48,865 )     (48,865 )
                                       

Balance at December 31, 2005

  81,775       805,079     240     24     (33,268 )     771,835  

Net proceeds from the sale of common shares

  10,914       109,957     —       —       —         109,957  

Stock options granted

  —         69     —       —       —         69  

Common shares redeemed

  (2,916 )     (31,931 )   —       —       —         (31,931 )

Net income

  —         —       —       —       54,113       54,113  

Cash distributions declared and paid to shareholders ($.88 per share)

  —         —       —       —       (77,997 )     (77,997 )
                                       

Balance at December 31, 2006

  89,773     $ 883,174     240   $ 24   $ (57,152 )   $ 826,046  
                                       

See notes to consolidated financial statements.

Note: The company was formed on January 20, 2004 and commenced operations on May 28, 2004.

 

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Table of Contents

Apple REIT Six, Inc.

Consolidated Statements of Cash Flows

(in thousands)

 

   

For the year

ended

December 31,

2006

   

For the year

ended

December 31,

2005

   

For the period

January 20, 2004

(initial capitalization)

through

December 31, 2004

 

Cash flow provided by operating activities:

     

Net income

  $ 54,113     $ 23,817     $ 1,259  

Adjustments to reconcile net income to cash provided by operating activities:

     

Depreciation

    25,529       11,366       1,881  

Amortization of deferred financing costs and fair value adjustments

    (418 )     (106 )     —    

Stock option expense

    69       —         —    

Changes in operating assets and liabilities, net of amounts acquired/assumed:

     

Due from third party manager

    (1,132 )     (6,076 )     (511 )

Other assets

    142       (527 )     (77 )

Accounts payable and accrued expenses

    3,060       433       352  
                       

Net cash provided by operating activities

    81,363       28,907       2,904  

Cash flow from investing activities:

     

Cash paid in acquisition of hotels

    (37,180 )     (565,082 )     (180,758 )

Cash paid for potential acquisition of hotels

    —         (14,093 )     (1,575 )

Acquisition of other assets

    (9,181 )     (1,514 )     (924 )

Capital improvements

    (15,714 )     (4,952 )     (289 )

Net (increase) decrease in cash restricted for property improvements

    309       134       (294 )
                       

Net cash used in investing activities

    (61,766 )     (585,507 )     (183,840 )

Cash flow from financing activities:

     

Net proceeds from (payments on) unsecured note payable

    (28,000 )     28,000       —    

Payment of financing costs

    (101 )     (582 )     (68 )

Repayment of secured notes payable

    (1,313 )     (579 )     (46 )

Net proceeds from issuance of common stock

    109,957       476,545       333,295  

Redemptions of common stock

    (31,931 )     (4,761 )     —    

Cash distributions paid to shareholders

    (77,997 )     (48,865 )     (9,479 )
                       

Net cash provided by (used in) financing activities

    (29,385 )     449,758       323,702  

Increase (decrease) in cash and cash equivalents

    (9,788 )     (106,842 )     142,766  

Cash and cash equivalents, beginning of period

    35,948       142,790       24  
                       

Cash and cash equivalents, end of period

  $ 26,160     $ 35,948     $ 142,790  
                       

Supplemental information:

     

Interest paid

  $ 4,037     $ 1,640     $ 107  

Non-cash transactions:

     

Notes payable-secured assumed in acquisitions

  $ 6,663     $ 43,122     $ 6,603  

See notes to consolidated financial statements.

Note: The company was formed on January 20, 2004 and commenced operations on May 28, 2004.

 

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Table of Contents

Notes to Consolidated Financial Statements

Note 1

General Information and Summary of Significant Accounting Policies

Organization

Apple REIT Six, Inc. (the “Company”) is a Virginia corporation formed to invest in real estate in select metropolitan areas in the United States. Initial capitalization occurred on January 20, 2004 and operations began on May 28, 2004 when the Company acquired its first hotel. The Company has no foreign operations or assets and its operations include only one segment. The consolidated financial statements include the accounts of the Company and its subsidiaries. All intercompany transactions and balances have been eliminated upon consolidation.

The Company has elected to be treated as a real estate investment trust (“REIT”) for federal income tax purposes. The REIT Modernization Act, effective January 1, 2001, permits real estate investment trusts to establish taxable businesses to conduct certain previously disallowed business activities. The Company has formed wholly-owned taxable REIT subsidiaries (collectively, the “Lessee”), which lease all of the Company’s hotels.

Cash and Cash Equivalents

Cash and cash equivalents include highly liquid investments with original maturities of three months or less. The fair market value of cash and cash equivalents approximates their carrying value. All cash and cash equivalents are currently held at one institution, Wachovia Bank, N.A, and the balances may at times exceed federal depository insurance limits.

Investment in Hotels and Related Depreciation

The hotels are stated at cost, net of depreciation, and include real estate brokerage commissions paid to Apple Six Realty Group, Inc. (“ASRG”), a related party owned by Glade M. Knight, Chairman, CEO and President of the Company. Repair and maintenance costs are expensed as incurred while significant improvements, renovations, and replacements are capitalized. Depreciation is computed using the straight-line method over estimated useful lives of the assets, which are 39 years for buildings, ten years for major improvements and three to seven years for furniture and equipment.

The Company considers expenditures to be capital in nature based on the following criteria: (1) for a single asset, the cost must be at least $500, including all normal and necessary costs to place the asset in service, and the useful life must be at least one year; (2) for group purchases of 10 or more identical assets, the unit cost for each asset must be at least $50, including all normal and necessary costs to place the asset in service, and the useful life must be at least one year; and (3) for major repairs to buildings, the repair must be at least $2,500 and the useful life of the asset must be substantially extended.

The Company records impairment losses on hotel properties used in operations if indicators of impairment are present, and the undiscounted cash flows estimated to be generated by the respective properties are less than their carrying amount. Impairment losses are measured as the difference between the asset’s fair value less cost to sell, and its carrying value. No impairment losses have been recorded to date.

The purchase price of real estate properties acquired is allocated to the various components, such as land, buildings and improvements, intangible assets and in-place leases as appropriate, in accordance with Statement of Financial Accounting Standards No. 141, “Business Combinations”. The purchase price is allocated based on the fair value of each component at the time of acquisition. Generally, the Company does not acquire real estate assets that have in-place leases as lease terms for hotel properties are very short term in nature. There has been no allocation of purchase price to intangible assets such as management contracts and franchise agreements as such contracts are generally at current market rates and any other value attributable to these contracts is not considered material.

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

Revenue Recognition

Revenue is recognized as earned, which is generally defined as the date upon which a guest occupies a room or utilizes the hotel’s services.

Offering Costs

From the Company’s initial capitalization on January 20, 2004 through December 31, 2006, the Company incurred costs of approximately $102 million related to its best-efforts offering of Units. Each Unit is equal to one common share, no par value and one Series A preferred share of the Company. On March 3, 2006, the Company concluded its best-efforts offering, and had closed on the sale of 91,125,541 Units with total proceeds net of commissions of approximately $898 million.

Comprehensive Income

The Company recorded no comprehensive income other than net income for the years ended December 31, 2006 and 2005 and the period from January 20, 2004 (initial capitalization) through December 31, 2004.

Earnings Per Common Share

Basic earnings per common share is computed based upon the weighted average number of shares outstanding during the year. Diluted earnings per common share is calculated after giving effect to all potential common shares that were dilutive and outstanding for the year. There were no shares with a dilutive effect for the years ended December 31, 2006 and 2005 and the period from January 20, 2004 (initial capitalization) through December 31, 2004. As a result, basic and dilutive outstanding shares were the same. Series B convertible preferred shares are not included in earnings per common share calculations until such time the Series B convertible preferred shares are converted to common shares (see Note 5).

Federal Income Taxes

The Company is operated as, and will annually elect to be taxed as, a REIT under Section 856 to 860 of the Internal Revenue Code. Earnings and profits, which will determine the taxability of distributions to shareholders, will differ from income reported for financial reporting purposes primarily due to the differences for federal income tax purposes in the estimated useful lives used to compute depreciation. The characterization of 2006 distributions of $0.88 per common share for tax purposes was 82% ordinary income and 18% return of capital, 2005 distributions of $0.88 per common share for tax purposes was 63% ordinary income and 37% return of capital and 2004 distributions of $0.55 per common share was 47% ordinary income and 53% return of capital (unaudited).

The Lessee, as a taxable REIT subsidiary of the Company, is subject to federal and state income taxes. The taxable REIT subsidiary incurred a loss for the years ended December 31, 2006 and 2005 and for the period from January 20, 2004 (initial capitalization) to December 31, 2004, and therefore did not have any tax expense. No operating loss benefit has been recorded in the consolidated balance sheet since realization is uncertain. Total net operating loss carry forward for federal income tax purposes was approximately $14.6 million as of December, 31, 2006. The net operating losses expire beginning in 2024. There are no material differences between the book and tax basis of the Company’s assets.

Sales and Marketing Costs

Sales and marketing costs are expensed when incurred. These costs represent the expense for franchise advertising and reservation systems under the terms of the hotel management and franchise agreements and general and administrative expenses that are directly attributable to advertising and promotion.

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

Stock Incentive Plans

Effective January 1, 2006, the Company adopted Financial Accounting Standards Board (“FASB”) Statement No. 123 (revised 2004), Share-Based Payment, which is a revision of FASB Statement No. 123, Accounting for Stock-Based Compensation using the modified prospective transition method. Accordingly, no prior year amounts have been restated. Statement 123 (R) supersedes APB Opinion No. 25, Accounting for Stock Issued to Employees, and amends FASB Statement No. 95, Statement of Cash Flows. Generally, the approach in Statement 123 (R) is similar to the approach described in Statement 123. However, Statement 123 (R) requires all share-based payments to employees, including grants of employee stock options, to be recognized in the income statement based on their fair values. Pro forma disclosure is no longer an alternative. The adoption of this statement has not had a material impact on the Company’s results of operations or financial position. During the second quarter of 2006 the Company issued approximately 72,000 directors’ stock options and share-based expense of approximately $69,000 was recorded.

Use of Estimates

The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make certain estimates and assumptions that affect amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates.

Summary of Significant Recent Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (“FASB”) issued FASB Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxes—an interpretation of FASB Statement No. 109. This interpretation requires that income tax positions recognized in an entity’s tax returns have a more-likely-than-not chance of being sustained prior to recording the related tax benefit in the financial statements. Tax benefits would be derecognized if information became available which indicated that it was more-likely-than-not that the position would not be sustained. The Company will adopt this interpretation in the first quarter of 2007. The Company is evaluating the impact, if any, of this interpretation.

Note 2

Investments in Real Estate

As of December 31, 2006, the Company owned 67 hotels consisting of the following: thirteen Hilton Garden Inn hotels, ten Residence Inn hotels, ten Courtyard hotels, eight SpringHill Suites hotels, six Homewood Suites hotels, six TownePlace Suites hotels, five Fairfield Inn hotels, four Hampton Inn hotels, three Hampton Inn & Suites hotels and two Marriott hotels. The hotels are located in various states and, in aggregate, consist of 7,750 rooms.

Investment in hotels consisted of the following (in thousands):

 

     December 31, 2006     December 31, 2005  

Land

   $ 107,288     $ 99,440  

Building and Improvements

     723,378       669,652  

Furniture, Fixtures and Equipment

     44,168       34,325  
                
     874,834       803,417  

Less Accumulated Depreciation

     (37,928 )     (13,247 )
                

Investments in Real Estate, net

   $ 836,906     $ 790,170  
                

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

The following table summarizes the location, brand, manager, date acquired, number of rooms and gross purchase price for each hotel. All dollar amounts are in thousands.

 

City

  

State

  

Brand

  

Manager

  

Date

Acquired

   Rooms   

Gross

Purchase

Price

Ft. Worth

   Texas    SpringHill Suites    Marriott    5/28/04    145    $ 13,340

Myrtle Beach

   South Carolina    Courtyard    Marriott    6/8/04    135      9,200

Redmond

   Washington    Marriott    Marriott    7/7/04    262      64,000

Anchorage

   Alaska    Hilton Garden Inn    Stonebridge    10/12/04    125      18,900

Anchorage

   Alaska    Homewood Suites    Stonebridge    10/12/04    122      13,200

Arcadia

   California    Hilton Garden Inn    Stonebridge    10/12/04    124      12,000

Arcadia

   California    SpringHill Suites    Stonebridge    10/12/04    86      8,100

Glendale

   Colorado    Hampton Inn & Suites    Stonebridge    10/12/04    133      14,700

Lakewood

   Colorado    Hampton Inn    Stonebridge    10/12/04    170      10,600

Lake Forest

   California    Hilton Garden Inn    Stonebridge    10/12/04    103      11,400

Phoenix

   Arizona    Hampton Inn    Stonebridge    10/12/04    99      6,700

Anchorage

   Alaska    Hampton Inn    Stonebridge    3/14/05    101      11,500

Bakersfield

   California    Hilton Garden Inn    Hilton    3/18/05    120      11,500

Tallahassee

   Florida    Hilton Garden Inn    Hilton    3/18/05    99      10,850

Lake Mary

   Florida    Courtyard    Stonebridge    3/18/05    86      6,000

Foothill Ranch

   California    Hampton Inn    Stonebridge    4/21/05    84      7,400

Ft. Worth

   Texas    Residence Inn    Western    5/6/05    149      17,000

Boulder

   Colorado    Marriott    WLS    5/9/05    157      30,000

Ft. Worth

   Texas    Homewood Suites    Hilton    5/24/05    137      9,097

Nashville

   Tennessee    Homewood Suites    Hilton    5/24/05    121      8,103

Albany

   Georgia    Courtyard    LBA    6/24/05    84      8,597

Lakeland

   Florida    Residence Inn    LBA    6/24/05    78      9,886

Huntsville

   Alabama    Residence Inn    LBA    6/24/05    78      8,288

Dothan

   Alabama    Hampton Inn & Suites    LBA    6/24/05    85      8,673

Columbus

   Georgia    Residence Inn    LBA    6/24/05    78      7,888

Las Colinas

   Texas    TownePlace Suites    Western    6/30/05    136      7,178

Arlington

   Texas    TownePlace Suites    Western    6/30/05    95      7,148

Arlington

   Texas    SpringHill Suites    Western    6/30/05    122      7,486

Tempe

   Arizona    TownePlace Suites    Western    6/30/05    119      8,128

Tempe

   Arizona    SpringHill Suites    Western    6/30/05    121      8,060

Wallingford

   Connecticut    Homewood Suites    WLS    7/8/05    104      12,780

McAllen

   Texas    Hilton Garden Inn    Western    7/19/05    104      9,000

Pensacola

   Florida    Hampton Inn & Suites    LBA    7/21/05    85      9,279

Rocky Hill

   Connecticut    Residence Inn    WLS    8/1/05    96      12,070

Dothan

   Alabama    Courtyard    LBA    8/11/05    78      8,016

Somerset

   New Jersey    Homewood Suites    WLS    8/17/05    123      17,750

Birmingham

   Alabama    Fairfield Inn    LBA    8/25/05    63      2,176

Tuscaloosa

   Alabama    Courtyard    LBA    8/25/05    78      7,551

Tuscaloosa

   Alabama    Fairfield Inn    LBA    8/25/05    63      3,982

Pensacola

   Florida    Courtyard    LBA    8/25/05    90      11,369

Pensacola

   Florida    Fairfield Inn    LBA    8/25/05    63      4,858

Pittsburgh

   Pennsylvania    Residence Inn    WLS    9/2/05    156      11,000

Laredo

   Texas    Residence Inn    Western    9/12/05    109      11,445

Mt. Olive

   New Jersey    Residence Inn    WLS    9/15/05    123      12,070

Saratoga Springs

   New York    Hilton Garden Inn    WLS    9/29/05    112      17,750

Huntsville

   Alabama    Fairfield Inn    LBA    9/30/05    79      4,954

Savannah

   Georgia    SpringHill Suites    LBA    9/30/05    79      5,407

Montgomery

   Alabama    SpringHill Suites    LBA    9/30/05    79      6,835

Valdosta

   Georgia    Courtyard    LBA    10/3/05    84      8,284

Farmington

   Connecticut    Courtyard    WLS    10/20/05    119      16,330

Orange Park

   Florida    Fairfield Inn    LBA    11/8/05    83      7,221

Folsom

   California    Hilton Garden Inn    Inn Ventures    11/30/05    100      18,028

Milpitas

   California    Hilton Garden Inn    Inn Ventures    11/30/05    161      18,600

Roseville

   California    Hilton Garden Inn    Inn Ventures    11/30/05    131      20,759

Renton

   Washington    Hilton Garden Inn    Inn Ventures    11/30/05    150      16,096

Laredo

   Texas    Homewood Suites    Western    11/30/05    106      10,500

Dallas

   Texas    SpringHill Suites    Western    12/9/05    147      19,500

Hillsboro

   Oregon    TownePlace Suites    Inn Ventures    12/19/05    136      11,500

Kent

   Washington    TownePlace Suites    Inn Ventures    12/19/05    152      12,000

Mukilteo

   Washington    TownePlace Suites    Inn Ventures    12/19/05    128      12,000

Portland

   Oregon    Residence Inn    Inn Ventures    12/19/05    258      42,000

Fredericksburg

   Virginia    Hilton Garden Inn    Hilton    12/20/05    148      16,600

San Francisco

   California    Hilton Garden Inn    Inn Ventures    1/30/06    169      12,266

Clearwater

   Florida    SpringHill Suites    LBA    2/17/06    79      6,923

Hillsboro

   Oregon    Residence Inn    Inn Ventures    3/9/06    122      15,500

Hillsboro

   Oregon    Courtyard    Inn Ventures    3/9/06    155      11,000

Panama City

   Florida    Courtyard    LBA    4/26/06    84      9,245
                       
              Total    7,750    $ 827,566
                       

 

35


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Notes to Consolidated Financial Statements—(Continued)

 

The Company leased all of its hotels to wholly-owned taxable REIT subsidiaries (collectively, the “lessee”) under master hotel lease agreements. The Company also used the proceeds of its offering to pay 2% of the gross purchase price for these hotels, which equals approximately $16.6 million, as a commission to ASRG.

No goodwill or intangible assets were recorded in connection with any of the acquisitions.

As there can be no assurance that all conditions to closing will be satisfied, the Company includes deposits for hotels under contract in “Other assets, net” in the Company’s Consolidated Balance Sheets and in “Cash paid for potential acquisition of hotels” in its Consolidated Statements of Cash Flows.

Note 3

Other Assets

On January 25, 2006, the Company, through a wholly-owned subsidiary, Apple Six Hospitality Air, LLC, purchased a Lear 40XR jet. The jet will be used mainly for renovation and asset management purposes. The purchase price was approximately $8.3 million. The asset is depreciated on a straight-line basis over a useful life of ten years. For the year ended December 31, 2006, the Company recorded depreciation expense in the amount of approximately $848,000.

Note 4

Notes Payable and Credit Agreements

In conjunction with the acquisition of five hotels in December 2005, the Company utilized short-term unsecured financing from a commercial bank in the amount of $40 million to fund a portion of the aggregate gross purchase price. This financing was evidenced by a promissory note and was governed by a loan agreement. The outstanding principal at December 31, 2005 was $28 million, and the note was repaid and extinguished on January 24, 2006.

The Company has also assumed approximately $54.1 million of debt secured by a first mortgage on 14 of its properties. The following table summarizes the hotel, interest rate, maturity date and the principal amount assumed associated with each mortgage. All dollar amounts are in thousands.

 

Location

  

Brand

   Rate    

Maturity

Date

 

Principal

Assumed

 

Outstanding

balance as of

Dec. 31, 2006

 

Outstanding

balance as of

Dec. 31, 2005

Glendale, CO

   Hampton Inn & Suites    6.93 %   1/01/13   $ 6,603   $ 6,181   $ 6,384

Anchorage, AK

   Hampton Inn    7.75 %   4/01/09     5,531     5,148     5,374

Foothill Ranch, CA

   Hampton Inn    8.06 %   8/01/11     4,502     4,374     4,453

Dothan, AL

   Courtyard    7.35 %   4/01/08     3,244     3,128     3,216

Birmingham, AL

   Fairfield Inn    7.35 %   5/01/08     2,086     2,012     2,068

Tuscaloosa, AL

   Courtyard    7.30 %   5/01/08     3,388     3,268     3,359

Tuscaloosa, AL

   Fairfield Inn    7.30 %   5/01/08     1,690     1,630     1,676

Pensacola, FL

   Courtyard    7.35 %   5/01/08     4,557     4,396     4,519

Pensacola, FL

   Fairfield Inn    7.35 %   5/01/08     2,734     2,638     2,711

Huntsville, AL

   Fairfield Inn    6.80 %   1/11/13     3,028     2,957     3,014

Savannah, GA

   SpringHill Suites    6.80 %   1/11/13     3,066     2,994     3,052

Montgomery, AL

   SpringHill Suites    6.80 %   1/11/13     3,785     3,696     3,768

Orange Park, FL

   Fairfield Inn    8.52 %   2/11/11     3,193     3,132     3,188

Hillsboro, OR

   Courtyard    6.40 %   12/11/14     6,663     6,577     —  
                         
        Total       $ 54,070   $ 52,131   $ 46,782
                         

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

The aggregate amounts of principal payable under the Company’s promissory notes, for the five years subsequent to December 31, 2006 are as follows (in thousands):

 

     Total

2007

   $ 1,445

2008

     17,555

2009

     5,431

2010

     850

2011

     7,546

Thereafter

     19,304
      
     52,131

Fair Value Adjustment of Assumed Debt

     1,529
      

Total

   $ 53,660
      

Fair value adjustments were recorded in connection with the assumption of the above market rate debt in connection with the hotel acquisitions. These premiums are amortized into interest expense over the remaining term of the related indebtedness using the effective interest rate method. The effective rates range from 5.71% to 6.11%. The total adjustment was $2.3 million and the unamortized balances at December 31, 2006 and 2005 were $1.5 million and $2.1 million, respectively.

Note 5

Shareholders’ Equity

The Company concluded its best-efforts offering of Units on March 3, 2006. The Company registered its Units on Registration Statement Form S-11 (File No. 333-112169) filed April 20, 2004. The Company began its best-efforts offering (the “Offering”) of Units on April 23, 2004, the same day the Registration Statement was declared effective by the Securities and Exchange Commission. Each Unit consists of one common share and one Series A preferred share.

The Series A preferred shares have no voting rights and no conversion rights. In addition, the Series A preferred shares are not separately tradable from the common shares to which they relate. The Series A preferred shares do not have any distribution rights except a priority distribution upon the sale of the Company’s assets. The priority distribution (“Priority Distribution”) will be equal to $11.00 per Series A preferred share, and will be paid before any distribution will be made to the holders of any other shares. Upon the Priority Distribution the Series A preferred shares will have no other distribution rights.

The Company has issued 240,000 Series B convertible preferred shares to Glade M. Knight, Chairman, Chief Executive Officer and President of the Company, in exchange for the payment by him of $0.10 per Series B convertible preferred share, or an aggregate of $24,000. The Series B convertible preferred shares are convertible into common shares pursuant to the formula and on the terms and conditions set forth below.

There are no dividends payable on the Series B convertible preferred shares. Holders of more than two-thirds of the Series B convertible preferred shares must approve any proposed amendment to the articles of incorporation that would adversely affect the Series B convertible preferred shares.

Upon the Company’s liquidation, the holder of the Series B convertible preferred shares is entitled to a priority liquidation payment before any distribution of liquidation proceeds to the holders of the common shares. However, the priority liquidation payment of the holder of the Series B convertible preferred shares is junior to

 

37


Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

the holders of the Series A preferred shares distribution rights. The holder of a Series B convertible preferred share is entitled to a liquidation payment of $11 per number of common shares each Series B convertible preferred share would be convertible into according to the formula described below. In the event that the liquidation of the Company’s assets results in proceeds that exceed the distribution rights of the Series A preferred shares and the Series B convertible preferred shares, the remaining proceeds will be distributed between the common shares and the Series B convertible preferred shares, on an as converted basis.

Each holder of outstanding Series B convertible preferred shares shall have the right to convert any of such shares into common shares of the Company upon and for 180 days following the occurrence of any of the following events:

(1) substantially all of the Company’s assets, stock or business is sold or transferred through exchange, merger, consolidation, lease, share exchange, sale or otherwise, other than a sale of assets in liquidation, dissolution or winding up of the Company;

(2) the termination or expiration without renewal of the advisory agreement with Apple Six Advisors, Inc. (“ASA”), or if the Company ceases to use ASRG to provide property acquisition and disposition services; or

(3) the Company’s common shares are listed on any securities exchange or quotation system or in any established market.

Upon the occurrence of any conversion event, each Series B convertible preferred share may be converted into 24.17104 common shares. In the event that the Company raises additional gross proceeds in a subsequent public offering, each Series B convertible preferred share may be converted into an additional number of common shares based on the additional gross proceeds raised through the date of conversion in a subsequent public offering according to the following formula: (X/50 million) x 1.20568, where X is the additional gross proceeds rounded down to the nearest 50 million.

No additional consideration is due upon the conversion of the Series B convertible preferred shares. The conversion into common shares of the Series B convertible preferred shares will result in dilution of the shareholders’ interests.

Expense related to issuance of 240,000 Series B convertible preferred shares to Mr. Knight will be recognized at such time when the number of common shares to be issued for conversion of the Series B shares can be reasonably estimated and the event triggering the conversion of the Series B shares to common shares occurs. The expense will be measured as the difference between the fair value of the common stock for which the Series B shares can be converted and the amounts paid for the Series B shares. If a conversion event had occurred at December 31, 2006, expense would have ranged from $0 to $63.8 million (assumes $11 per Unit fair market value), which represents approximately 5.8 million shares of common stock.

In July 2005, the Company instituted a Unit Redemption Program to provide limited interim liquidity to its shareholders who have held their Units for at least one year. Shareholders may request redemption of Units for a purchase price equal to the lesser of: (1) the purchase price per Unit that the shareholder actually paid for the Unit; or (2) $11.00 per Unit. The Company reserves the right to change the purchase price of redemptions, reject any request for redemption, or otherwise amend the terms of, suspend, or terminate the Unit Redemption Program. As of December 31, 2006, the Company has redeemed 3.4 million Units in the amount of $36.7 million under the program.

In February 2006, the Company instituted a Dividend Reinvestment Plan for its shareholders. The plan provides a convenient and cost effective way to increase shareholder investment in the Company by reinvesting

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

dividends to purchase additional Units of the Company. The uses of the proceeds from this plan may include purchasing Units under the Company’s Unit Redemption Program, enhancing properties, satisfying financing obligations and other expenses, increasing working capital, funding various corporate operations, and acquiring hotels. As of December 31, 2006, approximately 2.0 million Units, representing $22.0 million in proceeds to the Company, have been issued under the plan.

The Company’s articles of incorporation authorize issuance of up to 15 million additional preferred shares. No preferred shares other than the Series A preferred shares and the Series B convertible preferred shares (discussed above) have been issued. The Company believes that the authorization to issue additional preferred shares benefits the Company and its shareholders by permitting flexibility in financing additional growth, giving the Company additional financing options in corporate planning and in responding to developments in business, including financing of additional acquisitions and other general corporate purposes. Having authorized preferred shares available for issuance in the future gives the Company the ability to respond to future developments and allows preferred shares to be issued without the expense and delay of a special shareholders’ meeting. At present, the Company has no specific financing or acquisition plans involving the issuance of additional preferred shares and the Company does not propose to fix the characteristics of any series of preferred shares in anticipation of issuing preferred shares other than the Series A preferred shares and Series B convertible preferred shares discussed above. The Company cannot now predict whether or to what extent, if any, additional preferred shares will be used or if so used what the characteristics of a particular series may be. The voting rights and rights to distributions of the holders of common shares will be subject to the prior rights of the holders of any subsequently-issued preferred shares. Unless otherwise required by applicable law or regulation, the preferred shares would be issuable without further authorization by holders of the common shares and on such terms and for such consideration as may be determined by the board of directors. The preferred shares could be issued in one or more series having varying voting rights, redemption and conversion features, distribution (including liquidating distribution) rights and preferences, and other rights, including rights of approval of specified transactions. A series of preferred shares could be given rights that are superior to rights of holders of common shares and a series having preferential distribution rights could limit common share distributions and reduce the amount holders of common shares would otherwise receive on dissolution.

Note 6

Stock Incentive Plans

On January 20, 2004, the Board of Directors approved a Non-Employee Directors Stock Option Plan (the “Directors Plan”) whereby directors, who are not employees of the Company or affiliates, automatically receive the option to purchase Units. Under the Directors Plan, the number of Units authorized for issuance is equal to 45,000 plus 1.8% of the number of Units sold in excess of the minimum offering of 4,761,905 Units. This plan currently relates to the initial public offering of 91,125,541 Units. Therefore, the maximum number of Units authorized under the Directors Plan is currently 1,599,545 based on the number of shares issued as of December 31, 2006. The options expire 10 years from the date of grant.

On January 20, 2004, the Board of Directors approved an Incentive Stock Option Plan (the “Incentive Plan”) whereby incentive awards may be granted to certain employees of the Company or affiliates. Under the Incentive Plan, the number of Units authorized for issuance is equal to 35,000 plus 4.625% of the number of Units sold in the initial offering in excess of 4,761,905. This plan also currently relates to the initial public offering of 91,125,541 Units. Therefore, the maximum number of Units that can be issued under the Incentive Plan is currently 4,029,318 based on the number of shares issued as of December 31, 2006.

Both plans generally provide, among other things, that options be granted at exercise prices not lower than the market value of the Units on the date of grant. The options expire 10 years from the date of the grant. During

 

39


Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

2006, 2005 and 2004, the Company granted options to purchase 71,948, 42,676 and 29,548 Units, respectively, under the Directors Plan. All of the options issued vested at the date of issuance, and have an exercise price of $11 per Unit. The Company granted no options under the Incentive Plan during 2006, 2005 and 2004. Activity in the Company’s share option plan during 2006, 2005 and 2004 is summarized in the following table (in thousands except per share data):

 

     2006    2005    2004

Outstanding, beginning of year:

     72,224      29,548      —  

Granted

     71,948      42,676      29,548

Exercised

     —        —        —  

Expired or canceled

     —        —        —  
                    

Outstanding, end of year:

     144,172      72,224      29,548
                    

Exercisable, end of year:

     144,172      72,224      29,548
                    

The weighted-average exercise price:

   $ 11.00    $ 11.00    $ 11.00

Prior to January 1, 2006, the Company used the intrinsic value method, as defined by APB 25, to account for stock-based compensation. This method required compensation expense to be recognized for the excess of the quoted market price of the stock at the grant date or the measurement date over the amount an employee must pay to acquire the stock. Beginning January 1, 2006, the Company adopted FASB Statement No. 123(R) under the modified prospective transition method and recorded $69,000 of share-based expense for the 71,948 options issued during the year.

Note 7

Management and Franchise Agreements

Each of the Company’s 67 hotels are operated and managed, under separate management agreements, by affiliates of one of the following companies (indicates the number of hotels managed): Marriott International, Inc. (“Marriott”) (3), Stonebridge Reality Advisors, Inc (“Stonebridge”) (11), Hilton Hotels Corporation (“Hilton”) (5), Western International (“Western”) (10), Larry Blumberg & Associates (“LBA”) (19), White Lodging Services Corporation (“WLS”) (8), or Inn Ventures, Inc. (“Inn Ventures”) (11). The agreements provide for initial terms ranging from 2 to 30 years. Fees associated with the agreements generally include the payment of base management fees, incentive management fees, accounting fees, and other fees for centralized services which are allocated among all of the hotels that receive the benefit of such services. Base management fees are calculated as a percentage of gross revenues. Incentive management fees are calculated as a percentage of operating profit in excess of a priority return to the Company, as defined in the management agreements. The Company has the option to terminate the management agreements if specified performance thresholds are not satisfied. During the period ended December 31, 2006, 2005 and 2004 the Company incurred approximately $8.7, $3.2 and $0.5 million in management fees, respectively.

Stonebridge, Western, LBA, WLS, and Inn Ventures are not affiliated with either Marriott or Hilton, and as a result, the hotels managed by these companies were required to obtain separate franchise agreements with each respective franchisor. The Hilton franchise agreements generally provide for a term of 13 to 20 years. Fees associated with the Hilton agreements generally include the payment of royalty fees and program fees based on room revenues. The Marriott franchise agreements provide for an initial term of 15 to 20 years. Fees associated with the Marriott agreements include the payment of royalty fees, marketing fees, reservation fees and a communications support fee based on room revenues. During the period ended December 31, 2006, 2005 and 2004 the Company incurred approximately $9.0, $4.0 and $0.4 million in franchise fees.

 

40


Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

Note 8

Related Parties

The Company has significant transactions with related parties. These transactions cannot be construed to be arms length, and the results of the Company’s operations may be different if these transactions were conducted with non-related parties.

The Company has a contract with ASRG, a related party, to provide brokerage services for the acquisition and disposition of the Company’s real estate assets. In accordance with the contract, ASRG is paid a fee of 2% of the gross purchase price of any acquisitions or gross sale price of any dispositions of real estate investments, subject to certain conditions. As of December 31, 2006, total payments to ASRG for services under the terms of this contract were $16.6 million, which was capitalized as a part of the purchase price of the hotels.

The Company is party to an advisory agreement with Apple Six Advisors, Inc. (“ASA”), pursuant to which ASA provides management services to the Company. An annual fee ranging from .1% to .25% of total equity proceeds received by the Company, in addition to certain reimbursable expenses, are payable for these services. ASA utilizes Apple Hospitality Two, Inc. (“AHT”) to provide these services. Expenses related to ASA in 2006, 2005 and 2004 were approximately $3.5, $1.6 and $0.4 million, respectively.

During 2006 the Company assigned its rights under four contracts for the purchase of hotels in Houston, TX, Brownsville, TX, Miami, FL and Stafford, TX to Apple REIT Seven, Inc. The assignments were completed with no cost or profit to the Company and were entered into to prevent the Company from incurring secured debt to complete its planned property acquisitions.

Including ASRG and ASA discussed above, Mr. Knight is also Chairman and CEO of Apple Hospitality Two, Inc. (a hospitality REIT), Apple Hospitality Five, Inc. (a hospitality REIT) and Apple REIT Seven, Inc. (a diversified REIT). The Company’s Board of Directors are also on the board of Apple Hospitality Two, Inc. and Apple Hospitality Five, Inc.

Note 9

Pro Forma Information (Unaudited)

The following unaudited pro forma information for the years ended December 31, 2005 and 2004, is presented as if the acquisitions of the Company’s 62 hotels occurred on January 1, 2004. The pro forma information does not purport to represent what the Company’s results of operations would actually have been if such transactions, in fact, had occurred on January 1, 2004, nor does it purport to represent the results of operations for future periods. Amounts are in thousands except per share data.

 

    

Year ended

December 31, 2005

  

Year ended

December 31, 2004

Hotel revenues

   $ 189,423    $ 147,930

Net income

   $ 39,338    $ 24,665

Net income per common share-basic and diluted

   $ 0.54    $ 0.40

The pro forma information reflects adjustments for actual revenues and expenses of the 62 hotels acquired in 2005 and 2004 for the respective period owned prior to acquisition by the Company. Net income has been adjusted as follows: (1) interest income has been adjusted to reflect the reduction in cash and cash equivalents required to fund the acquisitions; (2) interest expense has been adjusted to reflect the assumption of debt; (3) depreciation has been adjusted based on the Company’s basis in the hotels.

 

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Table of Contents

Notes to Consolidated Financial Statements—(Continued)

 

Note 10

Commitments

The Company has entered into contracts for the purchase of two additional hotels. Both of these hotels are under construction, with completion of one expected in mid-2007 and the other in early 2008. Although the Company believes there is a reasonable probability that it will acquire these hotels, there can be no assurance that all of the conditions to closing will be satisfied. The following table summarizes the location, brand, number of rooms and gross purchase price for each hotel:

 

Location

  

Brand

   Rooms   

Gross

Purchase Price

Corpus Christi, TX

   Courtyard    105    $ 11,025

Roanoke Rapids, NC

   Hilton Garden Inn    147      15,217
              
   Total      252    $ 26,242
              

The Company has ground leases for five of its hotels with remaining terms ranging from 9 to 50 years. The aggregate amounts of minimum lease payments under these agreements for the five years subsequent to December 31, 2006 are as follows (in thousands):

 

     Total

2007

   $ 580

2008

     440

2009

     442

2010

     452

2011

     455

Thereafter

     10,604
      

Total

   $ 12,973
      

Note 11

Industry Segments

The Company owns extended-stay and limited service hotel properties throughout the United States that generate rental and other property related income. The Company separately evaluates the performance of each of its hotel properties. However, because each of the hotels have similar economic characteristics, facilities, and services, the properties have been aggregated into a single operating segment. All segment disclosures are included in, or can be derived from, the Company’s consolidated financial statements.

Note 12

Quarterly Financial Data (unaudited)

The following is a summary of quarterly results of operations for the period ended December 31, 2006:

 

(in thousands except per share data)

  

First

Quarter

  

Second

Quarter

  

Third

Quarter

  

Fourth

Quarter

Revenues

   $ 53,086    $ 62,137    $ 65,658    $ 54,994

Net income

   $ 10,984    $ 15,191    $ 18,120    $ 9,818

Basic and diluted income per common share

   $ 0.13    $ 0.17    $ 0.20    $ 0.11

Distributions declared and paid per common share

   $ 0.22    $ 0.22    $ 0.22    $ 0.22

 

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Notes to Consolidated Financial Statements—(Continued)

 

The following is a summary of quarterly results of operations for the period ended December 31, 2005:

 

(in thousands except per share data)

  

First

Quarter

  

Second

Quarter

  

Third

Quarter

  

Fourth

Quarter

Revenues

   $ 11,907    $ 19,591    $ 32,254    $ 38,038

Net income

   $ 3,111    $ 5,795    $ 8,375    $ 6,536

Basic and diluted income per common share

   $ 0.08    $ 0.12    $ 0.13    $ 0.09

Distributions declared and paid per common share

   $ 0.22    $ 0.22    $ 0.22    $ 0.22

Note 13

Subsequent Events

In January 2007, the Company declared and paid $6.6 million or $.073 per common share, in a distribution to its common shareholders, of which $2.7 million or 248,342 Units were reinvested under the Company’s Dividend Reinvestment Plan.

On January 22, 2007, the Company redeemed 1,049,921 Units in the amount of $11.5 million under its Unit Redemption Program.

In February 2007, the Company declared and paid $6.5 million or $.073 per common share, in a distribution to its common shareholders, of which $2.7 million or 248,172 Units were reinvested under the Company’s Dividend Reinvestment Plan.

 

43


Table of Contents
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosures.

None.

 

Item 9A. Controls and Procedures

Senior management, including the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the Company’s disclosure controls and procedures as of the end of the period covered by this report. Based on this evaluation process, the Chief Executive Officer and Chief Financial Officer have concluded that the Company’s disclosure controls and procedures are effective and that there have been no changes in the Company’s internal control over financial reporting that occurred during the last fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting. Since that evaluation process was completed, there have been no significant changes in internal controls or in other factors that could significantly affect these controls.

See Item 8 for the Report of Management on Internal Control over Financial Reporting and the Company’s Independent Registered Public Accounting Firm’s attestation report regarding internal control over financial reporting.

 

Item 9B. Other Information

None.

 

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Table of Contents

PART III

 

Item 10. Directors and Executive Officers and Corporate Governance

The information required by Items 401, 405, 406 and 407(c)(3), (d)(4) and (d)(5) of Regulation S-K will be set forth in the Company’s 2007 Proxy Statement. For the limited purpose of providing the information necessary to comply with this Item 10, the 2007 Proxy Statement is incorporated herein by this reference.

 

Item 11. Executive Compensation

The information required by Items 402 and 407(e)(4) and (e)(5) of Regulation S-K will be set forth in the Company’s 2007 Proxy Statement. For the limited purpose of providing the information necessary to comply with this Item 11, the 2007 Proxy Statement is incorporated herein by this reference.

 

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by Items 201(d) and 403 of Regulation S-K will be set forth in the Company’s 2007 Proxy Statement. For the limited purpose of providing the information necessary to comply with this Item 12, the 2007 Proxy Statement is incorporated herein by this reference.

 

Item 13. Certain Relationships and Related Transactions and Director Independence

The information required by Items 404 and 407(a) of Regulation S-K will be set forth in the Company’s 2007 Proxy Statement. For the limited purpose of providing the information necessary to comply with this Item 13, the 2007 Proxy Statement is incorporated herein by this reference.

 

Item 14. Principal Accounting Fees and Services

This information required by Item 9(e) of Schedule 14A will be set forth in the Company’s 2007 Proxy Statement. For the limited purpose of providing the information necessary to comply with this Item 14, the 2007 Proxy Statement is incorporated herein by this reference.

 

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Table of Contents

PART IV

 

Item 15. Exhibits, Financial Statement Schedules

1. Financial Statements of Apple REIT Six, Inc.

Report of Management on Internal Control Over Financial Reporting

Report of Independent Registered Public Accounting Firm on Internal Control Over

Financial Reporting—Ernst & Young LLP

Report of Independent Registered Public Accounting Firm—Ernst & Young LLP

Consolidated Balance Sheet as of December 31, 2006 and December 31, 2005

Consolidated Statements of Operations for the years ended December 31, 2006 and 2005, and the period January 20, 2004 (initial capitalization) through December 31, 2004.

Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2006 and 2005, and the period January 20, 2004 (initial capitalization) through December 31, 2004.

Consolidated Statements of Cash Flows for the years ended December 31, 2006 and 2005, and the period January 20, 2004 (initial capitalization) through December 31, 2004.

Notes to Consolidated Financial Statements

These financial statements are set forth in Item 8 of this report and are hereby incorporated by reference.

2. Financial Statement Schedules

Schedule III—Real Estate and Accumulated Depreciation (Included at the end of this Part IV of this report.)

3. Exhibits

Incorporated herein by reference are the exhibits listed under “Exhibits Index” to this Report.

 

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Table of Contents

SCHEDULE III

Real Estate and Accumulated Depreciation

As of December 31, 2006

(dollars in thousands)

 

                Initial Cost   Subsequently
Capitalized
                         

City

 

State

 

Brand

  Encumbrances    

Bldg.

Imp. &
FF&E

 

Total

Gross
Cost (1)

  Acc.
Deprec.
   

Date of

Construction

 

Date

Acquired

 

Depreciable

Life

 

# of

Rooms

        Land   Bldg./
FF&E
             

Birmingham

  Alabama   Fairfield Inn   $ 2,012   $ 354   $ 2,057   $ 55   $ 2,466   $ (91 )   1995   Aug-05   3 - 39 yrs   63

Dothan

  Alabama   Courtyard     3,128     1,270     7,142     70     8,482     (329 )   1996   Aug-05   3 - 39 yrs.   78

Dothan

  Alabama   Hampton Inn & Suites     —       842     8,129     11     8,982     (434 )   2004   Jun-05   3 - 39 yrs   85

Huntsville

  Alabama   Fairfield Inn     2,957     506     4,813     26     5,345     (178 )   1999   Sep-05   3 - 39 yrs.   79

Huntsville

  Alabama   Residence Inn     —       947     7,632     41     8,620     (366 )   2002   Jun-05   3 - 39 yrs   78

Montgomery

  Alabama   SpringHill Suites     3,696     963     6,327     25     7,315     (235 )   1998   Sep-05   3 - 39 yrs.   79

Tuscaloosa

  Alabama   Courtyard     3,268     —       7,953     112     8,065     (326 )   1996   Aug-05   3 - 39 yrs.   78

Tuscaloosa

  Alabama   Fairfield Inn     1,630     —       4,240     62     4,302     (173 )   1996   Aug-05   3 - 39 yrs.   63

Anchorage

  Alaska   Hampton Inn     5,148     1,224     10,529     1,821     13,574     (744 )   1997   Mar-05   3 - 39 yrs.   101

Anchorage

  Alaska   Hilton Garden Inn     —       4,230     14,788     174     19,192     (999 )   2002   Oct-04   3 - 39 yrs.   125

Anchorage

  Alaska   Homewood Suites     —       1,833     11,211     46     13,090     (877 )   2004   Oct-04   3 - 39 yrs.   122

Phoenix

  Arizona   Hampton Inn     —       1,425     5,205     754     7,384     (462 )   1998   Oct-04   3 - 39 yrs.   99

Tempe

  Arizona   SpringHill Suites     —       1,170     7,159     26     8,355     (387 )   1998   Jun-05   3 - 39 yrs.   121

Tempe

  Arizona   TownePlace Suites     —       1,226     7,169     37     8,432     (383 )   1998   Jun-05   3 - 39 yrs.   119

Arcadia

  California   Hilton Garden Inn     —       1,724     10,231     637     12,592     (807 )   1999   Oct-04   3 - 39 yrs.   124

Arcadia

  California   SpringHill Suites     —       1,633     6,459     752     8,844     (540 )   1999   Oct-04   3 - 39 yrs.   86

Bakersfield

  California   Hilton Garden Inn     —       1,166     10,565     53     11,784     (681 )   2004   Mar-05   3 - 39 yrs.   120

Folsom

  California   Hilton Garden Inn     —       1,521     16,989     836     19,346     (592 )   1999   Nov-05   3 - 39 yrs.   100

Foothill Ranch

  California   Hampton Inn     4,374     1,078     6,632     729     8,439     (428 )   1998   Apr-05   3 - 39 yrs.   84

Lake Forest

  California   Hilton Garden Inn     —       1,570     9,595     49     11,214     (751 )   2004   Oct-04   3 - 39 yrs   103

Milpitas

  California   Hilton Garden Inn     —       2,565     16,534     1,069     20,168     (621 )   1999   Nov-05   3 - 39 yrs.   161

Roseville

  California   Hilton Garden Inn     —       2,362     18,937     1,125     22,424     (678 )   1999   Nov-05   3 - 39 yrs   131

San Francisco

  California   Hilton Garden Inn     —       2,007     9,545     1,141     12,693     (367 )   1999   Jan-06   3 - 39 yrs.   169

Boulder

  Colorado   Marriott     —       3,066     27,825     1,374     32,265     (1,459 )   1997   May-05   3 - 39 yrs   157

Glendale

  Colorado   Hampton Inn & Suites     6,181     3,641     11,221     1,152     16,014     (882 )   1999   Oct-04   3 - 39 yrs.   133

Lakewood

  Colorado   Hampton Inn     —       2,508     8,090     352     10,950     (662 )   2003   Oct-04   3 - 39 yrs.   170

Farmington

  Connecticut   Courtyard     —       1,794     15,434     1     17,229     (597 )   2005   Oct-05   3 - 39 yrs.   119

Rocky Hill

  Connecticut   Residence Inn     —       1,472     11,284     3     12,759     (505 )   2005   Aug-05   3 - 39 yrs.   96

Wallingford

  Connecticut   Homewood Suites     —       1,419     12,072     9     13,500     (574 )   2005   Jul-05   3 - 39 yrs.   104

Clearwater

  Florida   SpringHill Suites     —       —       7,214     —       7,214     (224 )   2006   Feb-06   3 - 39 yrs.   79

Lake Mary

  Florida   Courtyard     —       690     5,568     415     6,673     (347 )   1995   Mar-05   3 - 39 yrs.   86

Lakeland

  Florida   Residence Inn     —       1,520     8,699     71     10,290     (409 )   2001   Jun-05   3 - 39 yrs.   78

Orange Park

  Florida   Fairfield Inn     3,132     855     6,979     43     7,877     (225 )   1998   Nov-05   3 - 39 yrs.   83

Panama City

  Florida   Courtyard     —       1,407     8,217     —       9,624     (214 )   2006   Mar-06   3 - 39 yrs.   84

Pensacola

  Florida   Courtyard     4,396     1,186     10,728     112     12,026     (433 )   1997   Aug-05   3 - 39 yrs.   90

 

47


Table of Contents

SCHEDULE III

Real Estate and Accumulated Depreciation

As of December 31, 2006

(dollars in thousands)

 

                Initial Cost   Subsequently
Capitalized
                         

City

 

State

 

Brand

  Encumbrances    

Bldg.

Imp. &
FF&E

 

Total

Gross
Cost (1)

  Acc.
Deprec.
   

Date of

Construction

 

Date

Acquired

 

Depreciable

Life

 

# of

Rooms

        Land   Bldg./
FF&E
             

Pensacola

  Florida   Fairfield Inn   $ 2,638   $ 470   $ 4,703   $ 42   $ 5,215   $ (186 )   1995   Aug-05   3 - 39 yrs.   63

Pensacola

  Florida   Hampton Inn & Suites     —       1,248     8,354     6     9,608     (435 )   2005   Jul-05   3 - 39 yrs.   85

Tallahassee

  Florida   Hilton Garden Inn     —       1,103     10,130     362     11,595     (582 )   1997   Mar-05   3 - 39 yrs.   99

Albany

  Georgia   Courtyard     —       1,253     7,658     19     8,930     (409 )   2004   Jun-05   3 - 39 yrs.   84

Columbus

  Georgia   Residence Inn     —       —       8,184     67     8,251     (409 )   2003   Jun-05   3 - 39 yrs.   78

Savannah

  Georgia   SpringHill Suites     2,994     693     5,099     10     5,802     (190 )   1999   Sep-05   3 - 39 yrs.   79

Valdosta

  Georgia   Courtyard     —       1,036     7,529     66     8,631     (300 )   2002   Oct-05   3 - 39 yrs.   84

Mt. Olive

  New Jersey   Residence Inn     —       1,410     11,331     3     12,744     (502 )   2005   Sep-05   3 - 39 yrs.   123

Somerset

  New Jersey   Homewood Suites     —       1,813     16,801     33     18,647     (735 )   2005   Aug-05   3 - 39 yrs.   123

Saratoga Springs

  New York   Hilton Garden Inn     —       2,399     15,885     186     18,470     (583 )   1999   Sep-05   3 - 39 yrs.   112

Hillsboro

  Oregon   Courtyard     6,577     1,879     9,484     33     11,396     (243 )   1996   Mar-06   3 - 39 yrs.   155

Hillsboro

  Oregon   Residence Inn     —       2,665     13,295     35     15,995     (368 )   1994   Mar-06   3 - 39 yrs.   122

Hillsboro

  Oregon   TownePlace Suites     —       2,150     9,715     25     11,890     (344 )   1999   Dec-05   3 - 39 yrs.   136

Portland

  Oregon   Residence Inn     —       4,400     38,687     212     43,299     (1,221 )   2001   Dec-05   3 - 39 yrs.   258

Pittsburgh

  Pennsylvania   Residence Inn     —       1,161     10,267     1,243     12,671     (435 )   1998   Sep-05   3 - 39 yrs.   156

Myrtle Beach

  South Carolina   Courtyard     —       1,857     7,631     850     10,338     (737 )   1999   Jun-04   3 - 39 yrs.   135

Nashville

  Tennessee   Homewood Suites     —       1,170     7,177     239     8,586     (437 )   1999   May-05   3 - 39 yrs.   121

Arlington

  Texas   SpringHill Suites     —       1,122     6,649     13     7,784     (363 )   1998   Jun-05   3 - 39 yrs.   122

Arlington

  Texas   TownePlace Suites     —       1,033     6,373     42     7,448     (337 )   1999   Jun-05   3 - 39 yrs.   95

Dallas

  Texas   SpringHill Suites     —       1,372     18,737     34     20,143     (665 )   1997   Dec-05   3 - 39 yrs.   147

Fort Worth

  Texas   Homewood Suites     —       1,152     8,210     408     9,770     (513 )   1999   May-05   3 - 39 yrs.   137

Fort Worth

  Texas   Residence Inn     —       1,873     15,586     13     17,472     (842 )   2005   May-05   3 - 39 yrs.   149

Ft. Worth

  Texas   SpringHill Suites     —       2,125     11,619     —       13,744     (986 )   2004   May-04   3 - 39 yrs.   145

Laredo

  Texas   Homewood Suites     —       1,118     9,781     4     10,903     (391 )   2005   Nov-05   3 - 39 yrs.   106

Laredo

  Texas   Residence Inn     —       902     10,969     4     11,875     (491 )   2005   Sep-05   3 - 39 yrs.   109

Las Colinas

  Texas   TownePlace Suites     —       1,205     6,256     7     7,468     (363 )   1998   Jun-05   3 - 39 yrs.   136

McAllen

  Texas   Hilton Garden Inn     —       1,178     8,143     366     9,687     (398 )   2000   Jul-05   3 - 39 yrs.   104

Fredericksburg

  Virginia   Hilton Garden Inn     —       1,822     15,362     53     17,237     (560 )   2005   Dec-05   3 - 39 yrs.   148

Richmond

  Virginia   Corporate Office     —       381     1,038     1,076     2,495     (268 )   1893   Jun-04   3 - 39 yrs.   N/A

Kent

  Washington   TownePlace Suites     —       1,841     10,721     16     12,578     (381 )   1999   Dec-05   3 - 39 yrs.   152

Mukilteo

  Washington   TownePlace Suites     —       1,505     11,055     24     12,584     (378 )   1999   Dec-05   3 - 39 yrs.   128

Redmond

  Washington   Marriott     —       9,504     56,168     231     65,903     (4,331 )   2004   Jul-04   3 - 39 yrs.   262

Renton

  Washington   Hilton Garden Inn     —       1,277     14,674     1,235     17,186     (565 )   1998   Nov-05   3 - 39 yrs.   150

Deposits on Construction in Progress

              960     960     —