10-K 1 drh_10kx12312012.htm 10-K DRH_10K_12.31.2012
 

UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________
FORM 10-K

þ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2012
OR

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 001-32514
DIAMONDROCK HOSPITALITY COMPANY
(Exact Name of Registrant as Specified in Its Charter)
Maryland
 
20-1180098
(State of Incorporation)
 
(I.R.S. Employer Identification No.)
 
 
 
3 Bethesda Metro Center, Suite 1500, Bethesda, Maryland
 
20814
(Address of Principal Executive Offices)
 
(Zip Code)
(240) 744-1150
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class
Name of Exchange on Which Registered
Common Stock, $.01 par value
New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:
None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.   þ Yes o No
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.   o Yes þ No
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. þ Yes o No
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). þ Yes o No



Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K 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.  þ
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer þ
 
Accelerated filer o
 
Non-accelerated filer o
 
Smaller reporting company o
 
 
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). o Yes þ No
The aggregate market value of the common equity held by non-affiliates of the Registrant (assuming for these purposes, but without conceding, that all executive officers and Directors are “affiliates” of the Registrant) as of June 15, 2012, the last business day of the Registrant's most recently completed second fiscal quarter, was $1.7 billion (based on the closing sale price of the Registrant's Common Stock on that date as reported on the New York Stock Exchange).
The registrant had 195,419,755 shares of its $0.01 par value common stock outstanding as of March 1, 2013.

Documents Incorporated by Reference
Portions of the registrant's Proxy Statement for its 2012 Annual Meeting of Stockholders, to be filed with the Securities and Exchange Commission not later than 120 days after December 31, 2012, are incorporated by reference in Part III herein.
 



Table of Contents
INDEX
 
 
 
Page No.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

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SPECIAL NOTE ABOUT FORWARD-LOOKING STATEMENTS

Certain statements in this Annual Report on Form 10-K, other than purely historical information, including estimates, projections, statements relating to our business plans, objectives and expected operating results, and the assumptions upon which those statements are based, are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements generally are identified by the words “believes,” “project,” “expects,” “anticipates,” “estimates,” “intends,” “strategy,” “plan,” “may,” “will,” “would,” “will be,” “will continue,” “will likely result,” “strive,” “endeavor,” “mission,” “goal,” and similar expressions. Forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially from the forward-looking statements. A discussion of these and other risks and uncertainties that could cause actual results and events to differ materially from such forward-looking statements is included in Item 1A “Risk Factors” and Item 7 “Management's Discussion and Analysis of Financial Condition and Results of Operations” of this Annual Report on Form 10-K. Except as required by law, we undertake no obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise.

References in this Annual Report on Form 10-K to “we,” “our,” “us” and “the Company” refer to DiamondRock Hospitality Company, including as the context requires, DiamondRock Hospitality Limited Partnership, as well as our other direct and indirect subsidiaries.

PART I

Item 1. Business

Overview

DiamondRock Hospitality Company is a lodging-focused Maryland corporation operating as a real estate investment trust (REIT). We own a portfolio of 27 premium hotels and resorts that contain 11,590 guest rooms. We also hold the senior note on a mortgage loan secured by an additional hotel and have the right to acquire, upon completion, a hotel under development. As an owner, rather than an operator, of lodging properties, we receive all of the operating profits or losses generated by the hotels after the payment of fees due to hotel managers, which are calculated based on the revenues and profitability of each hotel.

Our vision is to be the premier allocator of capital in the lodging industry. Our mission is to deliver above average long-term stockholder returns through a combination of dividends and capital appreciation. Our strategy is to utilize disciplined capital allocation and focus on the acquisition, ownership and innovative asset management of high quality lodging properties in North American markets with superior growth prospects and high barriers to entry.

We differentiate ourselves from our competitors by adhering to three basic principles in executing our strategy:

focus on high-quality urban and destination resort hotels;

promote innovative approaches to asset management; and

maintain a conservative capital structure.

Our portfolio is concentrated in key gateway cities and destination resorts. Each of our hotels is managed by a third party and most are operated under a brand owned by one of the leading global lodging brand companies (Marriott International, Inc. (“Marriott”), Starwood Hotels & Resorts Worldwide, Inc. (“Starwood”) or Hilton Worldwide (“Hilton”)).

We critically evaluate each of our hotels to ensure that our portfolio conforms to our vision, supports our mission and corresponds with our strategy. On a regular basis, we analyze our portfolio to identify opportunities to invest capital in certain projects or market non-core assets for sale in order to recycle capital for additional acquisitions, renovation projects, or other capital requirements.

We are committed to a conservative capital structure with prudent leverage. We regularly assess the availability and affordability of capital in order to maximize the Company's value and minimize enterprise risk. In addition, we are committed to being open and transparent in our communications with stockholders and adopting and following sound corporate governance practices.

High Quality Urban and Destination Resort Hotels

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We own 27 premium hotels and resorts throughout North America and the U.S. Virgin Islands. Our hotels and resorts are primarily categorized as upper upscale as defined by Smith Travel Research and are generally located in high barrier-to-entry markets with multiple demand generators.

Our properties are concentrated in key gateway cities (primarily New York City, Chicago, Boston and Los Angeles) and in destination resort locations (such as the U.S. Virgin Islands and Vail, Colorado). We consider lodging properties located in gateway cities and resort destinations to be the most capable of creating dynamic cash flow growth and achieving superior long-term capital appreciation. We also believe that these locations are better insulated from new supply due to relatively high barriers-to-entry, including expensive construction costs and limited development sites.

A core tenet of our strategy is to leverage our relationships with the top globally recognized hotel brands. We strongly believe that the premier global hotel brands create significant value as a result of each brand's ability to produce incremental revenue with the result being that branded hotels are able to generate greater profits than similar unbranded hotels. The dominant global hotel brands typically have very strong reservation and reward systems and sales organizations, and most of our hotels are operated under a brand owned by one of the top global lodging brand companies (Marriott, Starwood or Hilton). We are primarily interested in owning hotels that are currently operated under, or can be converted to, a globally recognized brand.

In addition to leveraging global brands, we are interested in creating relationships with select non-branded boutique hotels in urban markets. We would consider opportunities to acquire other non-branded hotels located in top-tier or unique markets if we believe that the returns on certain of these hotels may be higher than if these hotels were operated under a globally-recognized brand.

Innovative Asset Management

We believe that we create significant value in our portfolio by utilizing our management team's extensive experience and encouraging innovative asset management strategies. Our senior management team has established a broad network of hotel industry contacts and relationships, including relationships with hotel owners, financiers, operators, project managers and contractors and other key industry participants.

We use our broad network of hotel industry contacts and relationships to maximize the value of our hotels. Under the federal income tax rules governing REITs, we are required to engage a hotel manager that is an eligible independent contractor to manage each of our hotels pursuant to a management agreement with one of our subsidiaries. We strive to negotiate management agreements that give us the right to exert significant influence over the management of our properties, annual budgets and all capital expenditures (all, to the extent permitted under the REIT rules), and then to use those rights to continually monitor and improve the performance of our properties. We cooperatively partner with our hotel managers in an attempt to increase operating results and long-term asset values at our hotels. In addition to working directly with the personnel at our hotels, our senior management team also has long-standing professional relationships with our hotel managers' senior executives, and we work directly with these individuals to improve the performance of our portfolio.

We continue to explore strategic options to maximize the growth of revenue and profitability. We persist in impressing upon our hotel managers the importance of maximizing hotel revenues and property-level profits. We maintain our practice of working closely with managers to optimize business at our hotels in order to maximize revenue and we remain committed to the objective of maintaining conservative corporate expenses.

We believe we can create significant value in our portfolio through innovative asset management strategies such as rebranding, renovating and repositioning and we engage in a process of regular evaluations of our portfolio in order to determine if there are opportunities to employ these value-add strategies.

Conservative Capital Structure

Our current debt outstanding consists of primarily fixed interest rate mortgage debt with no significant maturities until late 2014 and limited outstanding borrowings under our senior unsecured credit facility, which bears interest at what we believe is an attractive floating rate. We prefer that a significant portion of our portfolio remain unencumbered by debt in order to provide maximum balance sheet flexibility. In addition, to the extent that we incur additional debt, our preference is non-recourse secured mortgage debt. We expect that our strategy will enable us to maintain a conservative balance sheet that will mitigate risk throughout all phases of the lodging cycle. We believe that it is not prudent to increase the inherent risk of highly cyclical lodging fundamentals through the use of a highly leveraged capital structure.


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We prefer a relatively simple but efficient capital structure. We have not invested in joint ventures and have not issued any operating partnership units or preferred stock. We endeavor to structure our hotel acquisitions so that they will not overly complicate our capital structure; however, we will consider a more complex transaction if we believe that the projected returns to our stockholders will significantly exceed the returns that would otherwise be available.

We believe that we maintain a reasonable amount of debt. As of December 31, 2012, we had $988.7 million of total debt outstanding with a weighted average interest rate of 5.31% percent and a weighted average maturity date of approximately 4.1 years. In addition, we had 15 hotels unencumbered by debt and $20 million outstanding on our $200 million senior unsecured credit facility.

Our Company

We commenced operations in July 2004 and became a public reporting company in May 2005. We have been successful in acquiring, financing and asset managing our hotels, and complying with the complex public company accounting and legal requirements with 22 employees. Since our formation, we have sought to be forthright and transparent in our communications with investors, to actively monitor our corporate overhead and to adopt sound corporate governance practices. We believe that we have among the most transparent disclosures in the industry and we consistently go beyond the minimum legal requirements and industry practice; for example, we provide quarterly operating performance data on each of our hotels, enabling our investors to effectively evaluate our successes and challenges. Finally, we consider our corporate governance practices to be sound in that we have a majority-independent Board of Directors elected annually by our stockholders, we believe that our risk of takeover is limited by anti-takeover devices and our officers and directors are subject to stock ownership policies designed to insure that these persons own a meaningful amount of stock in the Company.

During 2012, we acquired five (5) new hotels and sold four (4) non-core hotels. We currently own 27 hotels that contain 11,590 hotel rooms, located in the following markets: Atlanta, Georgia; Boston, Massachusetts (2); Burlington, Vermont; Charleston, South Carolina; Chicago, Illinois (2); Denver, Colorado (2); Fort Worth, Texas; Los Angeles, California (2); Minneapolis, Minnesota; New York, New York (4); Oak Brook, Illinois; Orlando, Florida; Salt Lake City, Utah; San Diego, California; San Francisco, California; Sonoma, California; St. Thomas, U.S. Virgin Islands; Vail, Colorado and Washington, D.C. (2). We also own a senior mortgage loan secured by a 443-room hotel located in Chicago, Illinois and have the right to acquire, upon completion, a 282-room hotel under development in New York City.

Our Corporate Structure

We conduct our business through a traditional umbrella partnership REIT, or UPREIT, in which our hotels are owned by subsidiaries of our operating partnership, DiamondRock Hospitality Limited Partnership. We are the sole general partner of our operating partnership and currently own, either directly or indirectly, all of the limited partnership units of our operating partnership. We have the ability to issue limited partnership units to third parties in connection with acquisitions of hotel properties. In order for the income from our hotel investments to constitute “rents from real property” for purposes of the gross income tests required for REIT qualification, we must lease each of our hotels to a wholly-owned subsidiary of our taxable REIT subsidiary, or TRS (each, a TRS lessee), or to an unrelated third party. We currently lease all of our domestic hotels to TRS lessees. In turn, our TRS lessees must engage a third-party management company to manage the hotels. However, we may structure our properties that are not subject to U.S. federal income tax differently from the structures we use for our U.S. properties. For example, Frenchman's Reef is held by a U.S. Virgin Islands corporation, which we have elected to be a TRS.

The following chart shows our corporate structure as of the date of this report:

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Environmental Matters

In connection with the ownership of hotels, the Company is subject to various federal, state and local environmental laws and regulations relating to environmental protection. Under these laws, a current or previous owner or operator (including tenants) of real estate may be liable for the costs or removal or remediation of certain hazardous or toxic substances at, on, under or in such property. These laws typically impose liability without regard to fault or whether or not the owner or operator knew of or caused the presence of the contamination and the liability under these laws may be joint and several. Because these laws also impose liability on the persons who owned the property at the time it became contaminated, it is possible we could incur cleanup costs or other environmental liabilities even after we sell properties. The presence of contamination, or the failure to properly remediate contamination, on a property may adversely affect the ability of the owner or operator to sell that property or to borrow funds using such property as collateral. Under the environmental laws, courts and government agencies also have the authority to require that a person who sent waste to a waste disposal facility, such as a landfill or incinerator, pay for the cleanup of that facility if it becomes contaminated and threatens human health or the environment.

Our hotels are subject to various federal, state, and local environmental, health and safety laws and regulations that address a wide variety of issues, including, but not limited to, storage tanks, air emissions from emergency generators, storm water and wastewater discharges, asbestos, lead-based paint, mold and mildew and waste management. Our hotels incur costs to comply with these laws and regulations and could be subject to fines and penalties for non-compliance.

Furthermore, various court decisions have established that third parties may recover damages for injury caused by property contamination. For instance, a person exposed to asbestos while staying in a hotel may seek to recover damages if he or she suffers injury from the asbestos. Lastly, some of these environmental laws restrict the use of a property or place conditions on various activities. An example would be laws that require a business using chemicals (such as swimming pool chemicals at a hotel property) to manage them carefully and to notify local officials that the chemicals are being used.

Prior to closing any property acquisition, we obtain Phase I environmental assessments in order to attempt to identify potential environmental concerns at the properties. These assessments are carried out in accordance with an appropriate level of due diligence and generally include a physical site inspection, a review of relevant federal, state and local environmental and health agency database records, one or more interviews with appropriate site-related personnel, review of the property's chain of title and review of historic aerial photographs and other information regarding past uses of the property. These assessments generally do not include soil sampling, subservice investigations, comprehensive asbestos surveys or mold investigations. We cannot assure you that these assessments will discover every environmental condition that may be present on a property. Material environmental condition,

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liabilities or compliance concerns may have arisen after the review was completed or may arise in the future; and future laws, ordinances or regulations may impose material additional environmental liability.

We believe that our hotels are in compliance, in all material respects, with all federal, state and local environmental ordinances and regulations regarding hazardous or toxic substances and other environmental matters, the violation of which could have a material adverse effect on us. We have not received written notice from any governmental authority of any material noncompliance, liability or claim relating to hazardous or toxic substances or other environmental matters in connection with any of our present properties.

During 2012, we commissioned the preparation of the Company's first bi-annual Environmental, Social and Governance Report (the “Sustainability Report”) to comprehensively analyze sustainability performance indicators (including energy, water, waste, and greenhouse gas emissions) captured during 2011. The Sustainability Report highlights the Company's dedication to sustainability initiatives and stockholder returns through the implementation of programs designed to reduce energy consumption and increase profitability at our hotels. A copy of the Sustainability Report can be found on the Company's website at www.drhc.com in the Investor Relations section. The information included or referenced to, on or otherwise accessible through the Sustainability Report or our website, is not incorporated by reference in, or considered to be a part of, this report or any document unless expressly incorporated by reference therein.

Competition

The hotel industry is highly competitive and our hotels are subject to competition from other hotels for guests. Competition is based on a number of factors, including convenience of location, brand affiliation, price, range of services, guest amenities, and quality of customer service. Competition is specific to the individual markets in which our properties are located and will include competition from existing and new hotels operated under brands in the full-service, select-service and extended-stay segments. We believe that properties flagged with a Marriott, Starwood or Hilton brand will enjoy the competitive advantages associated with their operations under such brand. These global brands' reservation systems and national advertising, marketing and promotional services combined with the strong management expertise they provide enable our properties to perform favorably in terms of both occupancy and room rates relative to other brands and non-branded hotels. The guest loyalty programs operated by these global brands generate repeat guest business that might otherwise go to competing hotels. Increased competition may have a material adverse effect on occupancy, Average Daily Rate (or ADR) and Revenue per Available Room (or RevPAR), or may require us to make capital improvements that we otherwise would not undertake, which may result in decreases in the profitability of our hotels.

We face competition for the acquisition of hotels from institutional pension funds, private equity funds, REITs, hotel companies and others who are engaged in hotel acquisitions and investments. Some of these competitors have substantially greater financial and operational resources than we have and may have greater knowledge of the markets in which we seek to invest. This competition may reduce the number of suitable investment opportunities offered to us and increase the cost of acquiring our targeted hotel investments.

Employees

As of December 31, 2012, we employed 22 full-time employees. We believe that our relations with our employees are good. None of our employees is a member of any union; however, the employees of our hotel managers at the Lexington Hotel New York, Courtyard Manhattan/Fifth Avenue, Frenchman's Reef & Morning Star Marriott Beach Resort, Westin Boston Waterfront Hotel, Hilton Boston Downtown and Hilton Minneapolis are currently represented by labor unions and are subject to collective bargaining agreements.

ADA Regulation

Our properties must comply with Title III of the Americans with Disabilities Act of 1990, or ADA, to the extent that such properties are "public accommodations" as defined by the ADA. The ADA may require removal of architectural barriers to access by individuals with disabilities in areas of our properties. We believe that our properties are in substantial compliance with the ADA and that we will not be required to make substantial capital expenditures to address the requirements of the ADA. However, noncompliance with the ADA could result in payment of civil penalties, damages, and attorneys' fees and costs. The obligation to comply with the ADA is an ongoing one, and we will continue to assess our properties and to make alterations as appropriate in this regard.

Insurance


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We carry comprehensive liability, fire, extended coverage, earthquake, business interruption and rental loss insurance covering all of the properties in our portfolio under a blanket policy. In addition, we carry earthquake and terrorism insurance on our properties in an amount and with deductibles which we believe are commercially reasonable. We do not carry insurance for generally uninsured losses such as loss from riots, war or acts of God. Certain of the properties in our portfolio are located in areas known to be seismically active or subject to hurricanes and we believe we have appropriate insurance for those risks, although they are subject to higher deductibles than ordinary property insurance.

Most of our hotel management agreements provide that we are responsible for obtaining and maintaining property insurance, business interruption insurance, flood insurance, earthquake insurance (if the hotel is located in an "earthquake prone zone" as determined by the U.S. Geological Survey) and other customary types of insurance related to hotels and the hotel manager is responsible for obtaining general liability insurance, workers' compensation and employer's liability insurance.

Available Information

We maintain a website at the following address: www.drhc.com. We make our annual reports 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 (the “Exchange Act”), available on our website free of charge as soon as reasonably practicable after such reports and amendments are electronically filed with, or furnished to, the Securities and Exchange Commission (the “SEC”). Such reports are also available by accessing the EDGAR database on the SEC's website at www.sec.gov.

Our website is also a key source of important information about us. We post to the Investor Relations section of our website important information about our business, our operating results and our financial condition and prospects, including, for example, information about material acquisitions and dispositions, our earnings releases and certain supplemental financial information related or complimentary thereto. The website also has a Corporate Governance page that includes, among other things, copies of our charter, our bylaws, our Code of Business Conduct and Ethics and the charters for each standing committee of our Board of Directors: currently, the Audit Committee, the Compensation Committee and the Nominating and Corporate Governance Committee. We intend to provide any amendments or waivers to our Code of Business Conduct and Ethics that apply to any of our executive officers or our senior financial officers within four business days following the date of amendment or waiver. Copies of our charter, our bylaws, our Code of Business Conduct and Ethics and the Company's SEC reports are also available in print to stockholders upon request addressed to Investor Relations, DiamondRock Hospitality Company, 3 Bethesda Metro Center, Suite 1500, Bethesda, Maryland 20814 or through the “Information Request” section on the Investor Relations page of our website.

The information included or referenced to, on or otherwise accessible through our website, is not incorporated by reference in, or considered to be a part of, this report or any document unless expressly incorporated by reference therein.

DiamondRock Hospitality Company is traded on the New York Stock Exchange, or NYSE, under the symbol DRH.

Item 1A. Risk Factors

The following risk factors and other information included in this Annual Report on Form 10-K should be carefully considered. The risks and uncertainties described below are not the only ones that we face. Additional risks and uncertainties not presently known to us or that we may currently deem immaterial also may impair our business operations. If any of the following risks occur, our business, financial condition, operating results and cash flows could be adversely affected.

Risks Related to Our Business and Operations

Our business model, especially our concentration in premium full-service hotels, can be highly volatile.

We own hotels, a very different asset class from many other REITs. A typical office REIT, for example, has long-term leases with third party tenants, which provide a relatively stable long-term stream of revenue. Our TRS, on the other hand, does not enter into a lease with a hotel manager. Instead, our TRS engages the hotel manager pursuant to a management agreement and pays the manager a fee for managing the hotel. The TRS receives all the operating profit or losses at the hotel. Moreover, virtually all hotel guests stay at the hotel for only a few nights, so the rate and occupancy at each of our hotels changes every day. As a result, we may have highly volatile earnings.

In addition to fluctuations related to our business model, our hotels are and will continue to be subject to various long-term operating risks common to the hotel industry, many of which are beyond our control, including:


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dependence on business and commercial travelers and tourism, both of which vary with consumer and business confidence in the strength of the economy;

competition from other hotels located in the markets in which we own properties;

an over-supply or over-building of hotels in the markets in which we own properties which could adversely affect occupancy rates, revenues and profits at our hotels;

increases in energy and transportation costs and other expenses affecting travel, which may affect travel patterns and reduce the number of business and commercial travelers and tourists;

increases in operating costs due to inflation and other factors that may not be offset by increased room rates; and

changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance.

In addition, our hotels are mostly in the premium full-service segment of the hotel business, which, historically, tends to have the strongest operating results in a growing economy and the weakest results in a contracting or slow growth economy when many travelers might curtail travel or choose lower cost hotels. In periods of weak demand, profitability is negatively affected by the relatively high fixed costs of operating premium full-service hotels as compared to other classes of hotels.

The occurrence of any of the foregoing factors could have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

Our portfolio is highly concentrated in a handful of core markets.

During 2012, approximately 69% of our earnings from continuing operations were derived from our hotels in five major cities (New York City, Boston, Chicago, Denver, and Los Angeles) and three destination resorts (Frenchman's Reef, Vail Marriott, and the Lodge at Sonoma), with approximately 20% of our earnings from continuing operations being derived from our properties in New York City. As such, the operations of these hotels - particularly the operations of New York City properties - will have a material impact on our overall results of operations. This concentration in our portfolio exposes our business to economic conditions unique to these markets and may result in increased volatility in our results of operations. If lodging fundamentals in any of these cities are poor compared to the United States as a whole, the popularity of any of these destination resorts decreases, or a manmade or natural disaster or casualty or other damage occurs in any of these areas, our overall results of operations may be adversely affected.

Some of our hotels rely heavily on group contract business, and the loss of such business could harm our operating results.

Certain of our hotels rely heavily on group contract business and room nights generated by large corporate clients. The existence or non-existence of such business can significantly impact the results of operations of our hotels. Group contract business fluctuates from year-to-year and across markets. The scheduling and impact of events and activities that attract this business to hotels are not always easy to predict. As a result, the operating results for certain hotels may fluctuate as a result of these factors, possibly in adverse ways, and these fluctuations can affect our overall operating results.

Economic conditions may adversely affect the lodging industry.

The performance of the lodging industry has historically been linked to key macroeconomic indicators, such as U.S. gross domestic product, or GDP, growth, employment, corporate earnings and investment, and travel demand. As these indicators improve, we anticipate that lodging operating fundamentals will improve as well. However, if the economic recovery should falter and there is an extended period of economic weakness, our occupancy rates, revenues and profitability could be adversely affected. Furthermore, uncertainties relating to the credit rating of the U.S., the country's debt ceiling and other macroeconomic factors may have a negative effect on the lodging industry and adversely impact our revenues and profitability.

Our hotels are subject to significant competition.

Currently, the markets where our hotels are located are very competitive. However, a material increase in the supply of new hotel rooms to a market can quickly destabilize that market and existing hotels can experience rapidly decreasing RevPAR and profitability. If such over-building occurs in one or more of our major markets, we may experience a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.


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In particular, over 6,000 rooms are expected to be added to the Manhattan hotel market by the end of 2014, increasing the existing supply by approximately 8%. Although much of the anticipated increase in supply is not expected to be located in the specific sub-markets of Manhattan where we currently own hotels, the operating performance of our Manhattan hotels may be impacted by the addition of this new supply.

Additionally, over 1,600 new hotel rooms are anticipated to open in downtown Chicago before the end of 2014, representing a supply increase of approximately 4.3% in the downtown Chicago market. An increase in the number of rooms available in the downtown Chicago market could negatively impact the operating performance of our downtown Chicago hotels.

Investments in hotels are illiquid and we may not be able to respond in a timely fashion to adverse changes in the performance of our properties.

Because real estate investments are relatively illiquid, our ability to promptly sell one or more hotel properties or investments in our portfolio in response to changing economic, financial and investment conditions may be limited. The real estate market is affected by many factors that are beyond our control, including:

adverse changes in international, national, regional and local economic and market conditions;

changes in supply of competitive hotels;

changes in interest rates and in the availability, cost and terms of debt financing;

changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance with laws and regulations, fiscal policies and ordinances;

the ongoing need for capital improvements, particularly in older structures;

changes in operating expenses; and

civil unrest, acts of God, including earthquakes, floods, hurricanes and other natural disasters and acts of war or terrorism, including the consequences of terrorist acts such as those that occurred on September 11, 2001, which may result in uninsured losses.

It may be in the best interest of our stockholders to sell one or more of our hotels in the future. We cannot predict whether we will be able to sell any hotel property or investment at an acceptable price or otherwise on reasonable terms and conditions. We also cannot predict the length of time that will be necessary to find a willing purchaser and to close the sale of a hotel property or loan.

These facts and any others that would impede our ability to respond to adverse changes in the performance of our hotel properties could have a material adverse effect on our operating results and financial condition, as well as our ability to make distributions to our stockholders.

We are subject to risks associated with our ongoing need for renovations and capital improvements as well as financing for such expenditures.

In order to remain competitive, our hotels have an ongoing need for renovations and other capital improvements, including replacements, from time to time, of furniture, fixtures and equipment. These capital improvements may give rise to the following risks:

construction cost overruns and delays;

a possible shortage of available cash to fund capital improvements and the related possibility that financing for these capital improvements may not be available to us on affordable terms;

the renovation investment failing to produce the returns on investment that we expect;

disruptions in the operations of the hotel as well as in demand for the hotel while capital improvements are underway; and

disputes with franchisors/hotel managers regarding compliance with relevant management/franchise agreements.

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The costs of these capital improvements could have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

In addition, we may not be able to fund capital improvements or acquisitions solely from cash provided from our operating activities because we generally must distribute at least 90% of our REIT taxable income, determined without regard to the dividends paid deduction and excluding net capital gains, each year to maintain our REIT tax status. As a result, our ability to fund capital expenditures, or investments through retained earnings, is very limited. Consequently, we rely upon the availability of debt or equity capital to fund our investments and capital improvements. These sources of funds may not be available on reasonable terms and conditions.

We expect to invest significant capital in many of our hotels during 2013 and 2014. The capital expenditure programs developed for these hotels will be comprehensive and no assurance can be given that they will be completed on time or on budget or at all. If the programs are not completed successfully, it could have an impact on the expected performance of these hotels. Further, certain of our recent acquisitions are subject to property improvement plans by the respective franchisor (Hilton or Starwood) required as a condition to consenting to the transfer of the franchise agreements. If these plans are not completed timely, or at all, with respect to one or more of these hotels, then we may be in default under the franchise agreement for such hotel or hotels and subject to termination of the franchise agreement and liquidated damages. Further, while these capital expenditure programs are being implemented at these hotels, guest rooms and certain public spaces may be out of service, which could have a material impact on the financial performance of the hotels and us.

We may be subject to risks associated with the renovation and re-branding project we are undertaking at the Lexington Hotel.

We are in the process of completing an extensive renovation project at the Lexington Hotel in New York City. This renovation project gives rise to several risks, including construction cost overruns and delays; closure of portions of the hotel for longer than expected; and reduction in demand for the portion of the hotel that remains open while the renovation project is underway. These costs and delays could have a material adverse effect on occupancy rates, revenues and profits at the hotel. Furthermore, in connection with the renovation, we are re-branding the hotel as part of Marriott's "Autograph Collection." If we have overestimated the value of the brand and the impact the re-branding will have on the hotel's operating revenues and the hotel does not perform as we expect, our occupancy rates, ADRs and RevPAR may decline.

There are several unique risks associated with the ownership of Frenchman's Reef.

Frenchman's Reef is located on the side of a cliff facing the ocean in the United States Virgin Islands, which is in the so-called “hurricane belt” in the Caribbean. It was partially destroyed by a hurricane in the mid-1990's and since then has been damaged by subsequent hurricanes, including Hurricane Earl in 2010. While we maintain insurance against wind damage in an amount we believe is customarily obtained for or by hotel owners, Frenchman's Reef has a $5 million deductible if it is damaged due to a named windstorm event; therefore, we are self-insured for losses up to $5 million caused by a named windstorm event. While we cannot predict whether there will be another hurricane that will impact this hotel, if there were, then it could have a material adverse affect on the operations of this hotel. Further, in the event of a substantial loss, our insurance coverage may not be sufficient to cover the full current market value or replacement cost of the hotel. Should a loss in excess of insured limits occur, we could lose all or a portion of the capital we have invested in Frenchman's Reef, as well as the anticipated future revenue and profits of this hotel. In that event, we might nevertheless remain obligated for mortgage debt related to Frenchman's Reef. Inflation, changes in building codes and ordinances, environmental considerations and other factors might also keep us from using insurance proceeds to replace or renovate a hotel after it has been damaged or destroyed. Under those circumstances, the insurance proceeds we receive might be inadequate to restore our economic position with regard to the damaged or destroyed property.

Part of a renovation and repositioning program completed in 2011 included a redesign to the mechanical plant to allow the hotel to generate its own electricity in order to significantly reduce both the kilowatt hour consumption and the cost per kilowatt hour; however, the hotel still depends on oil to generate electricity. If the price of oil were to increase, the cost of utilities would likely increase dramatically and this would have a significant impact on the results of operation at the hotel. Also, if the hotel's self-generation system fails, the hotel will be forced to utilize service from local utility providers which are prone to disruptions, including power outages from time to time. Such disruptions could adversely affect occupancy rates, revenues and profits at the hotel.

Frenchman's Reef benefits from a tax holiday, which permits us to pay income taxes at 19 percent of the statutory tax rate of 37.4 percent in the U.S. Virgin Islands. The tax holiday expires in February 2015 and there can be no assurance that such tax exemptions or similar exemptions will be secured at the expiration of the tax holiday.

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In the event of natural disasters, terrorist attacks, significant military actions, outbreaks of contagious diseases or other events for which we may not have adequate insurance, our operations may suffer.

Six of our hotels (the Los Angeles Airport Marriott, the Torrance Marriott South Bay, The Lodge at Sonoma, a Renaissance Resort & Spa, the Westin San Diego, the Hotel Rex, and the Renaissance Charleston Historic District) are located in areas that are seismically active. Twelve of our hotels are located in metropolitan markets that have been, or may in the future be, targets of actual or threatened terrorist attacks, including New York City, Chicago, Boston and Los Angeles. Additionally, one of our major hotels (Frenchman's Reef & Morning Star Marriott Beach Resort) is located on the side of a cliff facing the ocean in the U.S. Virgin Islands, which is in the so-called “hurricane belt” in the Caribbean. The hotel was partially destroyed by a hurricane in the mid-1990's and since then has been damaged by subsequent hurricanes, including Hurricane Earl in 2010. These hotels are material to our financial results, having constituted approximately 55% of our total revenues in 2012. Additionally, even in the absence of direct physical damage to our hotels, the occurrence of any natural disasters, terrorist attacks, significant military actions, outbreaks of diseases, such as H1N1, SARS, the avian bird flu or Legionnaires disease, or other casualty events, will likely have a material adverse effect on business and commercial travelers and tourists, the economy generally and the hotel and tourism industries in particular. While we cannot predict the impact of the occurrence of any of these events, such impact could result in a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

We have acquired and intend to maintain comprehensive insurance on each of our hotels, including liability, terrorism, fire and extended coverage, of the type and amount we believe are customarily obtained for or by hotel owners. We cannot assure you that such coverage will be available at reasonable rates or with reasonable deductibles. For example, Frenchman's Reef & Morning Star Marriott Beach Resort has a high deductible if it is damaged due to a named wind storm. Various types of catastrophic losses, like earthquakes, floods, losses from foreign terrorist activities, or losses from domestic terrorist activities may not be insurable or are generally not insured because of economic infeasibility, legal restrictions or the policies of insurers. Future lenders may require such insurance and our failure to obtain such insurance could constitute a default under loan agreements. Depending on our access to capital, liquidity and the value of the properties securing the affected loan in relation to the balance of the loan, a default could have a material adverse effect on our results of operations and ability to obtain future financing.

In the event of a substantial loss, our insurance coverage may not be sufficient to cover the full current market value or replacement cost of our lost investment. Should an uninsured loss or a loss in excess of insured limits occur, we could lose all or a portion of the capital we have invested in a hotel, as well as the anticipated future revenue from that particular hotel. In that event, we might nevertheless remain obligated for any mortgage debt or other financial obligations secured by or related to the property. Inflation, changes in building codes and ordinances, environmental considerations and other factors might also keep us from using insurance proceeds to replace or renovate a hotel after it has been damaged or destroyed. Under those circumstances, the insurance proceeds we receive might be inadequate to restore our economic position with regard to the damaged or destroyed property.

With or without insurance, damage to any of our hotels, or to the hotel industry generally, due to fire, hurricane, earthquake, terrorism, outbreaks such as H1N1, SARS, the avian bird flu or Legionnaires disease, or other man-made or natural disasters or casualty events could materially and adversely affect our business, financial condition, results of operations and our ability to make distributions to our stockholders.

We face risks associated with investments in mortgage loans.

Our investment in a senior loan secured by the Allerton Hotel located in Chicago, Illinois, and any other similar investment in mortgage loans that we may undertake in the future, may negatively affect our financial condition if any such loans become non-performing loans. Further, if we were to exercise our rights on any such non-performing loans by commencing foreclosure proceedings, such process could be expensive and lengthy and could result in a bankruptcy filing. Foreclosure and/or bankruptcy could have a substantial negative effect on our anticipated return on a mortgage loan. Foreclosure may also create a negative public perception of the related mortgaged property, resulting in a diminution of its value.

We face risks associated with the development of a hotel by a third-party developer.

We are party to a purchase and sale agreement to acquire, upon completion (expected in 2014), a hotel property under development on West 42nd Street in Times Square, New York City. The hotel is expected to contain 282 guest rooms. We are exposed to the risk that the third-party developer will fail to substantially complete the development of the hotel in accordance with the contractual scope or that the developer defaults under another obligation set forth in the purchase and sale agreement with us. We are also exposed to the risk that the developer will default on an obligation to a lender, which may have a security

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interest in the property senior to us. There is also a risk that at or prior to such time as our obligation to purchase the hotel comes due, we may not have sufficient funds to acquire the hotel from the seller, or debt or equity capital may not be available on reasonable terms and conditions or at all. In any of these cases, we may lose the opportunity to acquire the hotel and may have no recourse to the developer or any other party. In addition, the hotel is not expected to be opened until mid-2014. If we acquire this hotel, there can be no assurance that the market where it is located will not be experiencing a downturn when the acquisition is completed and the hotel may not perform as we expect.

Our results of operations are highly dependent on the management of our hotel properties by third-party hotel management companies.

In order to qualify as a REIT, we cannot operate our hotel properties or control the daily operations of our hotel properties. Our TRS lessees may not operate these hotel properties and, therefore, they must enter into third-party hotel management agreements with one or more eligible independent contractors. Thus, third-party hotel management companies that enter into management contracts with our TRS lessees control the daily operations of our hotel properties.

Under the terms of the hotel management agreements that we have entered into, or that we will enter into in the future, our ability to participate in operating decisions regarding our hotel properties is limited. We currently rely, and will continue to rely, on these hotel management companies to adequately operate our hotel properties under the terms of the hotel management agreements. We do not have the authority to require any hotel property to be operated in a particular manner or to govern any particular aspect of its operations (for instance, setting room rates and cost structures). Thus, even if we believe our hotel properties are being operated inefficiently or in a manner that does not result in satisfactory occupancy rates, ADRs and operating profits, we may not have sufficient rights under our hotel management agreements to enable us to force the hotel management company to change its method of operation. We can only seek redress if a hotel management company violates the terms of the applicable hotel management agreement with the TRS lessee, and then only to the extent of the remedies provided for under the terms of the hotel management agreement. Our current management agreements are generally non-terminable, subject to certain exceptions for cause or failure to achieve certain performance targets. In the event that we need to replace any of our hotel management companies pursuant to termination for cause or performance, we may experience significant disruptions at the affected properties, which may have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders. The Oak Brook Hills Marriott Resort, Orlando Airport Marriott and the Hilton Garden Inn Chelsea/New York City each failed its performance test at the end of 2012. We are currently evaluating whether we will exercise our termination rights with respect to any of these hotels.

Several of our hotels are operated under franchise agreements and we are subject to the risks associated with the franchise brand and the costs associated with maintaining the franchise license.

Nine of our hotels operate under franchise agreements. The maintenance of the franchise licenses for branded hotel properties is subject to the franchisors’ operating standards and other terms and conditions set forth in the applicable franchise agreement. Franchisors periodically inspect hotel properties to ensure that we and our lessees and management companies follow their standards. Failure by us, one of our taxable REIT subsidiary lessees or one of our third-party management companies to maintain these standards or other terms and conditions of the franchise agreement could result in us being in default and the franchise agreement being terminated. If a franchise agreement is terminated for failure to comply with its terms, including the maintenance of brand standards, we may be liable to the franchisor for a termination payment, which could include liquidated damages. We also face the risk of termination of the franchise agreement if we do not make franchisor-required capital expenditures under the franchise agreements.

Our ownership of properties through ground leases exposes us to the risk that we may have difficulty financing such properties, be forced to sell such properties for a lower price or lose such properties upon breach or termination of the ground leases.

We hold a leasehold interest in the land underlying five of our hotels (Bethesda Marriott Suites, Courtyard Manhattan/Fifth Avenue, the Salt Lake City Marriott Downtown, the Westin Boston Waterfront Hotel, and the Hilton Minneapolis), the parking lot at another of our hotels (Renaissance Worthington) and the golf course at another of our hotels (Oak Brook Hills Marriott Resort). We may acquire additional hotels in the future subject to ground leases. In the past, from time to time, secured lenders have been unwilling to lend, or otherwise charged higher interest rates, for loans secured by a leasehold mortgage compared to loans secured by a fee simple mortgage. In addition, at any given time, investors may be disinterested in buying properties subject to a ground lease and may pay a lower price for such properties than for a comparable property in fee simple or they may not purchase such properties at any price whatsoever, so we may find that we will have a difficult time selling a property subject to a ground lease or may receive lower proceeds from a sale. Finally, as the lessee under our ground leases, we are exposed to the possibility of losing the hotel, or a portion of the hotel, upon termination, or an earlier breach by us, of the ground lease, which

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could result in a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

Due to restrictions in our hotel management agreements, franchise agreements, mortgage agreements and ground leases, we may not be able to sell our hotels at the highest possible price (or at all).

Our current hotel management agreements are long-term and contain certain restrictions on selling our hotels, which may affect the value of our hotels.

The hotel management agreements that we have entered into, and those we expect to enter into in the future, contain provisions restricting our ability to dispose of our hotels which, in turn, may have an adverse affect on the value of our hotels. Our hotel management agreements generally prohibit the sale of a hotel to:

certain competitors of the manager;

purchasers who are insufficiently capitalized; or

purchasers who might jeopardize certain liquor or gaming licenses.

In addition, our current hotel management agreements contain initial terms ranging from five to forty years and certain agreements have renewal periods of five to forty-five years which are exercisable at the option of the property manager. Because our hotels would have to be sold subject to the applicable hotel management agreement, the term length of a hotel management agreement may deter some potential purchasers and could adversely impact the price realized from any such sale. To the extent we receive lower sale proceeds, we could experience a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to stockholders.

Our mortgage agreements contain certain provisions that may limit our ability to sell our hotels.

In order to assign or transfer our rights and obligations under certain of our mortgage agreements, we generally must obtain the consent of the lender, pay a fee equal to a fixed percentage of the outstanding loan balance, and pay any costs incurred by the lender in connection with any such assignment or transfer.

These provisions of our mortgage agreements may limit our ability to sell our hotels which, in turn, could adversely impact the price realized from any such sale. To the extent we receive lower sale proceeds, we could experience a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to stockholders.

Our ground leases contain certain provisions that may limit our ability to sell our hotels.

Our ground lease agreements with respect to Bethesda Marriott Suites, Salt Lake City Marriott Downtown, the Westin Boston Waterfront Hotel, and the Hilton Minneapolis require the consent of the lessor for assignment or transfer. These provisions of our ground leases may limit our ability to sell our hotels which, in turn, could adversely impact the price realized from any such sale. In addition, at any given time, investors may be disinterested in buying properties subject to a ground lease and may pay a lower price for such properties than for a comparable property in fee simple or they may not purchase such properties at any price. Accordingly, we may find it difficult to sell a property subject to a ground lease or may receive lower proceeds from any such sale. To the extent we receive lower sale proceeds, we could experience a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to stockholders.

The failure of tenants under our retail leases at our hotels may adversely affect our results of operation.

On occasion, tenants at our hotel properties may fail to make rent payments as and when due. Generally, we hold security deposits in connection with each of the leases which may be applied in the event that the tenant under the lease fails or is unable to make rent payments; however, these security deposits do not provide us with cash flow to pay distributions or for other purposes. In the event that a tenant continually fails to make rent payments, the security deposits may be applied in full to the non-payment of rents and we face the risk of being able to recover only a portion of the rents due to us or being unable to recover any amounts whatsoever.

We face competition for hotel acquisitions and investments and we may not be successful in identifying or completing hotel acquisitions and investments that meet our criteria, which may impede our growth.


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One component of our long-term business strategy is expansion through hotel acquisitions and investments. However, we may not be successful in identifying or completing acquisitions or investments that are consistent with our strategy. We compete with institutional pension funds, private equity funds, REITs, hotel companies and others who are engaged in hotel acquisitions and investments. This competition for hotel investments may increase the price we pay for hotels and these competitors may succeed in acquiring those hotels that we seek to acquire. Furthermore, our potential acquisition targets may find our competitors to be more attractive suitors because they may have greater financial resources, may not be dependent on third-party financing or the capital markets, may be willing to pay more or may have a more compatible operating philosophy. In addition, the number of entities competing for suitable hotels may increase in the future, which would increase demand for these hotels and the prices we must pay to acquire them. If we pay higher prices for hotels, our returns on investment and profitability may be reduced. Also, future acquisitions of hotels, hotel companies or hotel investments may not yield the returns we expect, especially if we cannot obtain financing without paying higher borrowing costs, and may result in stockholder dilution.

We may fail to successfully integrate and operate newly acquired hotels.

Our ability to successfully integrate and operate newly acquired hotels is subject to the following risks:

we may not possess the same level of familiarity with the dynamics and market conditions of any new markets that we may enter, which could result in us paying too much for hotels in new markets;

market conditions may result in lower than expected occupancy and room rates;

we may acquire hotels without any recourse, or with only limited recourse, for liabilities, whether known or unknown, such as clean-up of environmental contamination, claims by tenants, vendors or other persons against the former owners of the hotels and claims for indemnification by general partners, directors, officers and others indemnified by the former owners of the hotels;

we may need to spend more than underwritten amounts to make necessary improvements or renovations to our newly acquired hotels; and

we may be unable to quickly and efficiently integrate new acquisitions into our existing operations.

If we cannot operate acquired hotels to meet our goals or expectations, our business, financial condition, results of operations and ability to make distributions to our stockholders could be materially and adversely affected.

Our success depends on senior executive officers whose continued service is not guaranteed.

We depend on the efforts and expertise of our senior executive officers to manage our day-to-day operations and strategic business direction. The loss of any of their services could have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

Seasonality of the hotel business can be expected to cause quarterly fluctuations in our earnings.

The hotel industry is seasonal in nature. Generally, our earnings are higher in the second and fourth quarters. As a result, we may have to enter into short-term borrowings in order to offset these fluctuations in earnings and to make distributions to our stockholders.

We rely on technology in our operations and failures, inadequacies or interruptions to our service could harm our business.

The execution of our business strategy is heavily dependent on the use of technologies and systems, including the Internet, to access, store, transmit, deliver and manage information and processes. Although we believe we have taken commercially reasonable steps to protect the security of our systems, there can be no assurance that such security measures will prevent failures, inadequacies or interruptions in system services, or that system security will not be breached.  Disruptions in service, system shutdowns and security breaches could have a material adverse effect on our business.

We may be adversely affected by increased use of business related technology which may reduce the need for business related travel.


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The increased use of teleconference and video-conference technology by businesses could result in decreased business travel as companies increase the use of technologies that allow multiple parties from different locations to participate in meetings without traveling to a centralized meeting location. To the extent that such technologies play an increased role in day-to-day business and the necessity for business related travel decreases, hotel room demand may decrease and our financial condition, results of operations, the market price of our common stock and our ability to make distributions to our stockholders may be adversely affected.

We may from time to time be subject to litigation, which could have a material adverse effect on our financial condition, results of operations, cash flow and trading price of our common stock.

We may from time to time be subject to litigation.  Some of these claims may result in defense costs, settlements, fines or judgments against us, some of which are not, or cannot be, covered by insurance. Payment of any such costs, settlements, fines or judgments that are not insured could have a material adverse impact on our financial position and results of operations.  In addition, certain litigation or the resolution of certain litigation may affect the availability or cost of some of our insurance coverage, which could adversely impact our results of operations and cash flows, expose us to increased risks that would be uninsured, and/or adversely impact our ability to attract officers and directors.

Risks Related to the Economy and Credit Markets

The lack of availability and terms of financing could adversely impact the amounts, sources and costs of capital available to us.

The ownership of hotels is very capital intensive. We finance the acquisition of our hotels with a mixture of equity and long-term debt while we traditionally finance renovations and operating needs with cash provided from operations or with borrowings from our corporate credit facility. Typically, when we acquire a hotel, we seek a five to ten year loan secured by a mortgage on the hotel. These loans have a large balloon payment due at their maturity. Generally, we find it more efficient to place a significant amount of debt on a small number of our hotels and we try to maintain a significant number of our hotels unencumbered.

During periods of economic recession, it could be difficult for us to borrow money. Over the last ten years, a significant percentage of hotel loans were made by lenders who sold such loans to securitized lending vehicles, such as commercial mortgage backed security (CMBS) pools. If the market for new CMBS issuances results in CMBS lenders making fewer loans, there is a risk that the debt capital available to hotel owners could be reduced.

An uncertain environment in the lodging industry and the economy generally could result in declines in our average daily room rates, occupancy and RevPAR, and thereby have a material adverse effect on our results of operations.

The performance of the lodging industry has traditionally been closely linked with the general economy. A stall in economic growth or an economic recession would have a material adverse effect on our results of operations. If a property's occupancy or room rates drop to the point where its revenues are less than its operating expenses, then we would be required to spend additional funds in order to cover that property's operating expenses.

In addition, if the operating results decline at our hotels secured by mortgage debt there may not be sufficient operating profit from the hotel to fund the debt service on the mortgage. In such a case, we may be forced to choose from a number of unfavorable options, including using corporate cash, drawing on our corporate credit facility, selling a hotel on disadvantageous terms, including an unattractive price, or defaulting on the mortgage debt and permitting the lender to foreclose. Any one of these options could have a material adverse effect on our business, results of operations, financial condition and ability to pay distributions to our stockholders.

The market price of our common stock could be volatile and could decline, resulting in a substantial or complete loss on our common stockholders' investment.

The market price of our common stock has been highly volatile in the past, and investors in our common stock may experience a decrease in the value of their shares, including decreases unrelated to our operating performance or prospects. In the past, securities class action litigation has often been instituted against companies following periods of volatility in their stock price. This type of litigation could result in substantial costs and divert our management's attention and resources.

Risks Related to Our Debt and Financing


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Our existing indebtedness contains financial covenants that could limit our operations and our ability to make distributions to our stockholders.

Our existing property-level debt instruments contain restrictions (including cash management provisions) that may under circumstances specified in the loan agreements prohibit our subsidiaries that own our hotels from making distributions or paying dividends, repaying loans to us or other subsidiaries or transferring any of their assets to us or another subsidiary. Failure to meet our financial covenants could result from, among other things, changes in our results of operations, the incurrence of additional debt or changes in general economic conditions. In addition, this could cause one or more of our lenders to accelerate the timing of payments and could have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders. The terms of our debt may restrict our ability to engage in transactions that we believe would otherwise be in the best interests of our stockholders.

Our credit facility contains financial covenants that may constrain our ability to sell assets and make distributions to our stockholders.

Our corporate credit facility contains several financial covenants, the most constraining of which limits the amount of debt we may incur compared to the value of our hotels (our leverage covenant) and the amount of debt service we pay compared to our cash flow (our debt service coverage covenant). If we were to default under either of these covenants, the lenders may require us to repay all amounts then outstanding under our credit facility and may terminate our credit facility. These two financial covenants constrain us from incurring material amounts of additional debt or from selling properties that generate a material amount of income. In addition our credit facility requires that we maintain a portion of our hotels as unencumbered assets.

Many of our existing mortgage debt agreements contain “cash trap” provisions that could limit our ability to make distributions to our stockholders.

Certain of our loan agreements contain cash trap provisions that may be triggered if the performance of the affected hotel or hotels declines. If the provisions in one or more of these loan agreements are triggered, substantially all of the profit generated by the hotel or hotels affected is deposited directly into lockbox accounts and then swept into cash management accounts for the benefit of the lenders. Cash is distributed to us only after certain items are paid, including deposits into leasing and maintenance reserves and the payment of debt service, insurance, taxes, operating expenses, and extraordinary capital expenditures and leasing expenses. This could affect our liquidity and our ability to make distributions to our stockholders.

There is refinancing risk associated with our debt.

Our typical debt contains limited principal amortization; therefore the vast majority of the principal must be repaid at the maturity of the loan in a so-called “balloon payment.” We have significant debt maturities in 2015 and 2016. In the event that we do not have sufficient funds to repay the debt at the maturity of these loans, we will need to refinance this debt. If the credit environment is constrained at the time of our debt maturities, we would have a very difficult time refinancing debt. In addition, we locked in our fixed-rate debt at a point in time when we were able to obtain favorable interest rate, principal amortization and other terms. When we refinance our debt, prevailing interest rates and other factors may result in paying a greater amount of debt service, which will adversely affect our cash flow, and, consequently, our cash available for distribution to our stockholders. If we are unable to refinance our debt on acceptable terms, we may be forced to choose from a number of unfavorable options. These options include agreeing to otherwise unfavorable financing terms on one or more of our unencumbered assets, selling one or more hotels at disadvantageous terms, including unattractive prices, or defaulting on the mortgage and permitting the lender to foreclose. Any one of these options could have a material adverse effect on our business, financial condition, results of operations and our ability to make distributions to our stockholders.

If we default on our secured debt in the future, the lenders may foreclose on our hotels.

All of our indebtedness, except our credit facility, is secured by single property first mortgages on the applicable property. If we default on any of the secured loans, the lender will be able to foreclose on the property pledged to the relevant lender under that loan. While we have maintained certain of our hotels unencumbered by mortgage debt, we have a relatively high loan-to-value on a number of our hotels which are subject to mortgage loans and, as a result, those mortgaged hotels may be at an increased risk of default and foreclosure.

In addition to losing the property, a foreclosure may result in recognition of taxable income. Under the Internal Revenue Code of 1986, as amended (the “Code”), a foreclosure of property securing nonrecourse debt would be treated as a sale of the property for a purchase price equal to the outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our tax basis in the property, we would recognize taxable income on foreclosure even

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though we did not receive any cash proceeds. As a result, we may be required to identify and utilize other sources of cash for distributions to our stockholders. If this occurs, our financial condition, cash flow and ability to satisfy our other debt obligations or ability to pay distributions may be adversely affected.

Future debt service obligations may adversely affect our operating results, require us to liquidate our properties, jeopardize our ability to make cash distributions necessary to maintain our tax status as a REIT and limit our ability to make distributions to our stockholders.

In the future, we and our subsidiaries may be able to incur substantial additional debt, including secured debt. While borrowing costs are currently low, borrowing costs on new and refinanced debt may be more expensive. Our existing debt, and any additional debt borrowed in the future could subject us to many risks, including the risks that:

our cash flow from operations will be insufficient to make required payments of principal and interest or to make cash distributions necessary to maintain our tax status as a REIT;

we may be vulnerable to adverse economic and industry conditions;

we may be required to dedicate a substantial portion of our cash flow from operations to the repayment of our debt, thereby reducing the cash available for distribution to our stockholders, funds available for operations and capital expenditures, future investment opportunities or other purposes;

the terms of any refinancing is likely not as favorable as the terms of the debt being refinanced; and

the use of leverage could adversely affect our stock price and the ability to make distributions to our stockholders.

If we violate covenants in our future indebtedness agreements, we could be required to repay all or a portion of our indebtedness before maturity at a time when we might be unable to arrange financing for such repayment on favorable terms, if at all.

Higher interest rates could increase debt service requirements on our floating rate debt, if any, and refinanced debt and could reduce the amounts available for distribution to our stockholders, as well as reduce funds available for our operations, future investment opportunities or other purposes. We may obtain in the future one or more forms of interest rate protection - in the form of swap agreements, interest rate cap contracts or similar agreements - to “hedge” against the possible negative effects of interest rate fluctuations. However, hedging is expensive, there is no perfect hedge, and we cannot assure you that any hedging will adequately mitigate the adverse effects of interest rate increases or that counterparties under these agreements will honor their obligations. In addition, we may be subject to risks of default by hedging counter-parties.

Risks Related to Regulation, Taxes and the Environment

Noncompliance with governmental regulations could adversely affect our operating results.

Environmental matters and climate change.

Our hotels are, and the hotels we acquire in the future will be, subject to various federal, state and local environmental laws. Under these laws, courts and government agencies may have the authority to require us, as owner of a contaminated property, to clean up the property, even if we did not know of or were not responsible for the contamination. These laws also apply to persons who owned a property at the time it became contaminated. In addition to the costs of cleanup, environmental contamination can affect the value of a property and, therefore, an owner's ability to borrow funds using the property as collateral or to sell the property. Under the environmental laws, courts and government agencies also have the authority to require that a person who sent waste to a waste disposal facility, such as a landfill or an incinerator, pay for the clean-up of that facility if it becomes contaminated and threatens human health or the environment. A person who arranges for the disposal or treatment, or transports for disposal or treatment, a hazardous substance at a property owned by another person may be liable for the costs of removal or remediation of hazardous substances released into the environment at that property.

Furthermore, various court decisions have established that third parties may recover damages for injury caused by property contamination. For instance, a person exposed to asbestos while staying in a hotel may seek to recover damages if he or she suffers injury from the asbestos. Lastly, some of these environmental laws restrict the use of a property or place conditions on various activities. For example, certain laws require a business using chemicals (such as swimming pool chemicals at a hotel) to manage them carefully and to notify local officials that the chemicals are being used.


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We could be responsible for the costs associated with a contaminated property. The costs to clean up a contaminated property, to defend against a claim, or to comply with environmental laws could be material and could adversely affect the funds available for distribution to our stockholders. We cannot assure you that future laws or regulations will not impose material environmental liabilities or that the current environmental condition of our hotels will not be affected by the condition of the properties in the vicinity of our hotels (such as the presence of leaking underground storage tanks) or by third parties unrelated to us.

We may face liability regardless of our knowledge of the contamination, the timing of the contamination, the cause of the contamination, or the party responsible for the contamination of the property.

Although we have taken and will take commercially reasonable steps to assess the condition of our properties, there may be unknown environmental problems associated with our properties. If environmental contamination exists on our properties, we could become subject to strict, joint and several liability for the contamination by virtue of our ownership interest. In addition, we are obligated to indemnify our lenders for any liability they may incur in connection with a contaminated property.

The presence of hazardous substances or petroleum contamination on a property may adversely affect our ability to sell the property and could cause us to incur substantial remediation costs. The discovery of environmental liabilities attached to our properties could have a material adverse effect on our results of operations and financial condition and our ability to pay dividends to our stockholders.

Numerous treaties, laws and regulations have been enacted to regulate or limit carbon emissions. Changes in the regulations and legislation relating to climate change, and complying with such laws and regulations, may require us to make significant investments in our hotels and could result in increased energy costs at our properties which could have a material adverse effect on our results of operations and our ability to pay dividends to our stockholders.

Americans with Disabilities Act and other changes in governmental rules and regulations.

Under the Americans with Disabilities Act of 1990 (ADA) all public accommodations must meet various federal non-discrimination requirements related to access and use by individuals with disabilities. Compliance with the ADA's requirements could require removal of architectural barriers to access and non-compliance could result in the payment of civil penalties, damages, and attorneys' fees and costs. If we are required to make substantial modifications to our hotels, whether to comply with the ADA or other changes in governmental rules and regulations, our financial condition, results of operations and ability to make distributions to our stockholders could be adversely affected.

Our hotel properties may contain or develop harmful mold, which could lead to liability for adverse health effects and costs of remediating the problem.

When excessive moisture accumulates in buildings or on building materials, mold growth may occur, particularly if the moisture problem remains undiscovered or is not addressed over a period of time. Some molds may produce airborne toxins or irritants. Concern about indoor exposure to mold has been increasing, as exposure to mold may cause a variety of adverse health effects and symptoms, including allergic reactions. As a result, the presence of mold to which our hotel guests or employees could be exposed at any of our properties could require us to undertake a costly remediation program to contain or remove the mold from the affected property, which would reduce our cash available for distribution. In addition, exposure to mold by our guests or employees, management company employees or others could expose us to liability if property damage or adverse health concerns arise.

Risks Related to Our Status as a REIT

We cannot assure you that we will remain qualified as a REIT.

We believe we are qualified to be taxed as a REIT for our taxable year ended December 31, 2012, and we expect to continue to qualify as a REIT for future taxable years, but we cannot assure you that we have qualified, or will remain qualified, as a REIT.

The REIT qualification requirements are extremely complex and official interpretations of the federal income tax laws governing qualification as a REIT are limited. Certain aspects of our REIT qualification are beyond our control. Accordingly, we cannot be certain that we will be successful in operating so that we can remain qualified as a REIT. At any time, new laws, interpretations, or court decisions may change the federal tax laws or the federal income tax consequences of our qualification as a REIT.


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Moreover, our charter provides that our board of directors may revoke or otherwise terminate our REIT election, without the approval of our stockholders, if it determines that it is no longer in our best interest to continue to qualify as a REIT.

If we fail to qualify as a REIT and do not qualify for certain statutory relief provisions, or otherwise cease to be a REIT, we will be subject to federal income tax on our taxable income at corporate rates. We might need to borrow money or sell assets in order to pay any such tax. Also, we would not be allowed a deduction for dividends paid to our stockholders in computing our taxable income and we would no longer be compelled to make distributions under the Code. Unless we were entitled to relief under certain federal income tax laws, we could not re-elect REIT status until the fifth calendar year after the year in which we failed to qualify as a REIT. If we fail to qualify as a REIT but are eligible for certain relief provisions, then we may retain our status as a REIT but we may be required to pay a penalty tax, which could be substantial.

Maintaining our REIT qualification contains certain restrictions and drawbacks.

Complying with REIT requirements may cause us to forgo otherwise attractive opportunities.

To remain qualified as a REIT for federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our stockholders and the ownership of our stock. In order to meet these tests, we may be required to forgo attractive business or investment opportunities. For example, we may not lease to our TRS any hotel which contains gaming. Thus, compliance with the REIT requirements may hinder our ability to operate solely to maximize profits.

To qualify as a REIT we must meet annual distribution requirements.

In order to remain qualified as a REIT, we generally are required to distribute at least 90% of our REIT taxable income, determined without regard to the dividends paid deduction and excluding net capital gains, each year to our stockholders. To the extent that we satisfy this distribution requirement, but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we will be subject to a 4% nondeductible excise tax if the actual amount that we pay out to our stockholders in a calendar year is less than a minimum amount specified under federal tax laws. As a result of differences between cash flow and the accrual of income and expenses for tax purposes, or nondeductible expenditures, for example, our REIT taxable income in any given year could exceed our cash available for distribution. Accordingly, we may be required to borrow money or sell assets to make distributions sufficient to enable us to pay out enough of our taxable income to satisfy the distribution requirement and to avoid federal corporate income tax and the 4% nondeductible excise tax in a particular year.

The formation of our TRSs and TRS lessees increases our overall tax liability.

Our domestic TRSs are subject to federal and state income tax on their taxable income. The taxable income of our TRS lessees currently consists and generally will continue to consist of revenues from the hotels leased by our TRS lessees plus, in certain cases, key money payments (amounts paid to us by a hotel management company in exchange for the right to manage a hotel we acquire) and yield support payments, net of the operating expenses for such properties and rent payments to us. Such taxes could be substantial. Our non-U.S. TRSs also may be subject to tax in jurisdictions where they operate.

We will be subject to a 100% excise tax to the extent that transactions with our TRSs are not conducted on an arm's-length basis. For example, to the extent that the rent paid by one of our TRS lessees exceeds an arm's-length rental amount, such excess is potentially subject to this excise tax. While we believe we structure all of our leases on an arm's-length basis, upon an audit, the IRS might disagree with our conclusion.

You may be restricted from transferring our common stock.

In order to maintain our REIT qualification, among other requirements, no more than 50% in value of our outstanding stock may be owned, directly or indirectly, by five or fewer individuals (as defined in the federal income tax laws to include certain entities) during the last half of any taxable year. In addition, the REIT rules generally prohibit a manager of one of our hotels from owning, directly or indirectly, more than 35% of our stock and a person who holds 35% or more of our stock from also holding, directly or indirectly, more than 35% of any such hotel management company. To qualify for and preserve REIT status, our charter contains an aggregate share ownership limit and a common share ownership limit. Generally, any shares of our stock owned by affiliated owners will be added together for purposes of the aggregate share ownership limit, and any shares of common stock owned by affiliated owners will be added together for purposes of the common share ownership limit.


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If anyone transfers or owns shares in a way that would violate the aggregate share ownership limit or the common share ownership limit (unless such ownership limits have been waived by our board of directors), or would prevent us from continuing to qualify as a REIT under the federal income tax laws, those shares instead will be transferred to a trust for the benefit of a charitable beneficiary and will be either redeemed by us or sold to a person whose ownership of the shares will not violate the aggregate share ownership limit or the common share ownership limit. If this transfer to a trust would not be effective to prevent a violation of the ownership restrictions in our charter, then the initial intended transfer or ownership will be null and void from the outset. The intended transferee or owner of those shares will be deemed never to have owned the shares. Anyone who acquires or owns shares in violation of the aggregate share ownership limit, the common share ownership limit (unless such ownership limits have been waived by our board of directors) or the other restrictions on transfer or ownership in our charter bears the risk of a financial loss when the shares are redeemed or sold if the market price of our stock falls between the date of purchase and the date of redemption or sale.

Even if we qualify as a REIT, in certain circumstances, we may be subject to federal and state income taxes, which would reduce our cash available for distribution to our stockholders.

Even if we qualify and maintain our status as a REIT, we may be subject to federal income taxes or state taxes in various circumstances. For example, net income from a “prohibited transaction” will be subject to a 100% tax. In addition, we may not be able to distribute all of our income in any given year, which would result in corporate level taxes, and we may not make sufficient distributions to avoid excise taxes. We may also decide to retain certain gains from the sale or other disposition of our property and pay income tax directly on such gains. In that event, our stockholders would be required to include such gains in income and would receive a corresponding credit for their share of taxes paid by us. We may also be subject to U.S. state and local and non-U.S. taxes on our income or property, either directly or at the level of our operating partnership or the other companies through which we indirectly own our assets. In addition, we may be subject to federal, state local or non-U.S. taxes in other various circumstances. Any federal or state taxes we pay will reduce our cash available for distribution to our stockholders.

Dividends payable by REITs generally do not qualify for reduced tax rates.

For taxable years beginning after December 31, 2012, a maximum 20% tax rate applies to “qualified” dividends payable to individual U.S. stockholders. Dividends payable by REITs, however, are generally not qualified dividends eligible for the reduced rates and are taxed at normal ordinary income tax rates. However, to the extent such dividends are attributable to certain dividends that we receive from a taxable REIT subsidiary, such dividends generally will be eligible for the reduced rates that apply to qualified dividends. The more favorable rates applicable to regular corporate dividends could cause investors who are individuals to perceive investments in REITs to be relatively less attractive than investments in the stocks of non-REIT corporations that pay dividends, which could adversely affect the value of the stock of REITs, including our common stock.

Foreign investors may be subject to Foreign Investment Real Property Tax Act, or FIRPTA, tax on certain distributions and on the sale of our common stock if certain exceptions do not apply.

A foreign person disposing of a U.S. real property interest, or USRPI, including shares of a U.S. corporation whose assets consist principally of USRPIs, is generally subject to a tax, known as FIRPTA tax, on the gain recognized on the disposition. FIRPTA tax does not apply, however, to the disposition of stock in a REIT if the REIT is a “domestically controlled qualified investment entity.” A domestically controlled qualified investment entity includes a REIT in which, at all times during a specified testing period, less than 50% in value of its shares is held directly or indirectly by foreign persons. Even if we do not qualify as a domestically controlled qualified investment entity, a foreign person's sale of our common stock will generally not be subject to tax under FIRPTA as a sale of a USRPI, provided that (1) our common stock is “regularly traded,” as defined by applicable Treasury regulations, on an established securities market at the time of the sale, and (2) the selling foreign person held 5% or less of our outstanding common stock at all times during a specified testing period. If we were to fail to qualify as a domestically controlled qualified investment entity at a time when our common stock is not regularly traded on an established securities market, gain realized by a foreign person on a sale of our common stock would be subject to FIRPTA tax and applicable withholding. No assurance can be given that we will be a domestically controlled qualified investment entity or that our common stock will continue to be regularly traded on an established securities market. Additionally, any distributions we make to our foreign shareholders that are attributable to gain from the sale of any USRPI will also generally be subject to FIRPTA tax and applicable withholding, unless our common stock is regularly traded on an established securities market located in the United States at the time of the distribution and the recipient did not own more than 5% of our common stock at any time during the year preceding the distribution.

Legislative or regulatory action could adversely affect our stockholders.

In recent years, numerous legislative, judicial and administrative changes have been made to the federal income tax laws applicable to investments in REITs and similar entities. Additional changes to applicable tax laws are likely to continue to occur

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in the future, and we cannot assure our stockholders that any such changes will not adversely affect the taxation of a stockholder. Any such changes could have an adverse effect on an investment in our common stock. All stockholders are urged to consult with their tax advisors with respect to the status of legislative, regulatory or administrative developments and proposals and their potential effect on an investment in our common stock.

Risks Related to Our Organization and Structure

Provisions of our charter may limit the ability of a third party to acquire control of our company.

Our charter provides that no person may beneficially own more than 9.8% of the aggregate outstanding shares of our common stock or more than 9.8% of the value of the aggregate outstanding shares of our capital stock, except certain “look-through entities,” such as mutual funds, which may beneficially own up to 15% of the aggregate outstanding shares of our common stock or up to 15% of the value of the aggregate outstanding shares of our capital stock. Our board of directors has waived this ownership limitation for certain investors in the past. Our bylaws waive this ownership limitation for certain other classes of investors. These ownership limitations may prevent an acquisition of control of our company by a third party without our board of directors' approval, even if our stockholders believe the change of control is in their best interests.

Our charter also authorizes our board of directors to issue up to 400,000,000 shares of common stock and up to 10,000,000 shares of preferred stock, to classify or reclassify any unissued shares of common stock or preferred stock and to set the preferences, rights and other terms of the classified or reclassified shares. Furthermore, our board of directors may, without any action by the stockholders, amend our charter from time to time to increase or decrease the aggregate number of shares of stock of any class or series that we have authority to issue. Issuances of additional shares of stock may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium to the market price of our common stock or otherwise be in our stockholders' best interests.

Certain advance notice provisions of our bylaws may limit the ability of a third party to acquire control of our company.

Our bylaws provide that (a) with respect to an annual meeting of stockholders, nominations of individuals for election to our board of directors and the proposal of other business to be considered by stockholders may be made only (i) pursuant to our notice of the meeting, (ii) by the board of directors or (iii) by a stockholder who is entitled to vote at the meeting and has complied with the advance notice procedures set forth in the bylaws and (b) with respect to special meetings of stockholders, only the business specified in our notice of meeting may be brought before the meeting of stockholders and nominations of individuals for election to the board of directors may be made only (A) by the board of directors or (B) provided that the board of directors has determined that directors shall be elected at such meeting, by a stockholder who is entitled to vote at the meeting and has complied with the advance notice provisions set forth in the bylaws. These advance notice provisions may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium to the market price of our common stock or otherwise be in our stockholders' best interests.

Provisions of Maryland law may limit the ability of a third party to acquire control of our company.

The Maryland General Corporation Law, or the MGCL, has certain restrictions on a “business combination” and “control share acquisition” which we have opted out of. If an affirmative majority of votes cast by a majority of stockholders entitled to vote approve it, our board of directors may opt in to such provisions of the MGCL. If we opt in, and the stockholders approve it, these provisions may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium price for holders of our common stock or otherwise be in their best interests.

Additionally, Title 3, Subtitle 8 of the MGCL permits our board of directors, without stockholder approval and regardless of what is currently provided in our charter or bylaws, to take certain actions that may have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium to the market price of our common stock or otherwise be in our stockholders' best interests.

We have entered into an agreement with each of our senior executive officers that provides each of them benefits in the event his employment is terminated by us without cause, by him for good reason, or under certain circumstances following a change of control of our company.

We have entered into an agreement with each of our senior executive officers that provides each of them with severance benefits if his employment is terminated under certain circumstances following a change of control of our company. Certain of these benefits and the related tax indemnity could prevent or deter a change of control of our company that might involve a premium price for our common stock or otherwise be in the best interests of our stockholders.

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You have limited control as a stockholder regarding any changes we make to our policies.

Our board of directors determines our major policies, including policies related to our investment objectives, leverage, financing, growth and distributions to our stockholders. Our board of directors may amend or revise these policies without a vote of our stockholders. This means that our stockholders will have limited control over changes in our policies and those changes could adversely affect our business, financial condition, results of operations and our ability to make distributions to our stockholders.

We may be unable to generate sufficient cash flows from our operations to make distributions to our stockholders at expected levels, and we cannot assure you of our ability to make distributions in the future.

We intend to pay a quarterly dividend that represents at least 90% of cash available for distribution. Our ability to make this intended distribution may be adversely affected by the risk factors described in this Annual Report on Form 10-K and other reports that we file from time to time with the SEC. In addition, our board of directors has the sole discretion to determine the timing, form and amount of any distributions to our stockholders. Our board of directors will make determinations regarding distributions based upon many facts, including our financial performance, our debt service obligations, any debt covenants, our capital expenditure requirements, the requirements for qualification as a REIT and other factors that our board of directors may deem relevant from time to time.

As a result, no assurance can be given that we will be able to make distributions to our stockholders at expected levels, or at all, or that distributions will increase or even be maintained over time, any of which could materially and adversely affect the market price of our common stock.

Changes in market conditions could adversely affect the market price of our common stock.

As with other publicly traded equity securities, the value of our common stock depends on various market conditions that may change from time to time. Among the market conditions that may affect the value of our common stock are the following:

the extent of investor interest in our securities;

the general reputation of REITs and the attractiveness of our equity securities in comparison to other equity securities, including securities issued by other real estate-based companies;

the underlying asset value of our hotels;

investor confidence in the stock and bond markets, generally;

national and local economic conditions;

changes in tax laws;

our financial performance; and

general stock and bond market conditions.

The market value of our common stock is based primarily upon the market's perception of our growth potential and our current and potential future earnings and cash distributions. Consequently, our common stock may trade at prices that are greater or less than our net asset value per share of common stock. If our future earnings or cash distributions are less than expected, it is likely that the market price of our common stock will diminish.

Future issuances or sales of our common stock, including the possible resale of 7,211,538 shares of our common stock issued in a private placement in connection with our acquisition of a portfolio of four hotels in 2012, may depress the market price of our common stock and have a dilutive effect on our existing stockholders.

We cannot predict whether future issuances of our common stock or the availability of shares for resale in the open market may depress the market price of our common stock. Future issuances or sales of a substantial number of shares of our common stock in the public market, including the possible resale of 7,211,538 shares of our common stock issued in a private placement in connection with our acquisition of a portfolio of four hotels in 2012, or the issuance of our common stock in connection with

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future property, portfolio or business acquisitions, or the perception that such issuances or sales might occur, may cause the market price of our shares to decline. In addition, future issuances or sales of our common stock may be dilutive to existing stockholders.

Future offerings of debt securities or preferred stock, which would be senior to our common stock upon liquidation and for the purpose of distributions, may cause the market price of our common stock to decline.

In the future, we may increase our capital resources by making additional offerings of debt or equity securities, which may include senior or subordinated notes, classes of preferred stock and/or common stock. We will be able to issue additional shares of common stock or preferred stock without stockholder approval, unless stockholder approval is required by applicable law or the rules of any stock exchange or automated quotation system on which our securities may be listed or traded. Upon liquidation, holders of our debt securities and shares of preferred stock and lenders with respect to other borrowings will receive a distribution of our available assets prior to the holders of our common stock. Additional equity offerings could significantly dilute the holdings of our existing stockholders or reduce the market price of our common stock, or both. Holders of our common stock are not entitled to preemptive rights or other protections against dilution. Preferred stock and debt, if issued, could have a preference on liquidating distributions or a preference on dividend or interest payments that could limit our ability to make a distribution to the holders of our common stock. Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. Thus, our stockholders bear the risk of our future offerings reducing the market price of our common stock and diluting their interest.


Item 1B.   Unresolved Staff Comments

None.

Item 2.   Properties

Our Hotels

The following table sets forth certain information for each of our hotels owned as of December 31, 2012.

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Property
 
Location
 
Number of
Rooms
 
Total Investment(1)
 
Total Investment Per Room
 
 
 
 
 
 
(In thousands)

 
 
Chicago Marriott
 
Chicago, Illinois
 
1,198

 
$
333,540

 
$
278,414

Los Angeles Airport Marriott
 
Los Angeles, California
 
1,004

 
126,834

 
126,329

Hilton Minneapolis
 
Minneapolis, Minnesota
 
821

 
155,703

 
189,650

Westin Boston Waterfront Hotel
 
Boston, Massachusetts
 
793

 
349,477

 
440,702

Lexington Hotel New York
 
New York, New York
 
712

 
342,311

 
480,774

Salt Lake City Marriott Downtown
 
Salt Lake City, Utah
 
510

 
54,976

 
107,797

Renaissance Worthington
 
Fort Worth, Texas
 
504

 
83,002

 
164,687

Frenchman’s Reef & Morning Star Marriott Beach Resort
 
St. Thomas, U.S. Virgin Islands
 
502

 
133,230

 
265,398

Torrance Marriott South Bay
 
Los Angeles County, California
 
487

 
74,419

 
152,812

Orlando Airport Marriott
 
Orlando, Florida
 
485

 
81,079

 
167,173

Westin San Diego
 
San Diego, California
 
436

 
122,830

 
281,720

Westin Washington, D.C. City Center
 
Washington, D.C.
 
406

 
153,401

 
377,835

Oak Brook Hills Marriott Resort
 
Oak Brook, Illinois
 
386

 
77,186

 
199,963

Hilton Boston Downtown
 
Boston, Massachusetts
 
362

 
158,343

 
437,412

Vail Marriott Mountain Resort & Spa
 
Vail, Colorado
 
344

 
66,557

 
193,480

Marriott Atlanta Alpharetta
 
Atlanta, Georgia
 
318

 
38,501

 
121,073

Courtyard Manhattan/Midtown East
 
New York, New York
 
312

 
75,952

 
243,434

Conrad Chicago
 
Chicago, Illinois
 
311

 
125,925

 
404,902

Bethesda Marriott Suites
 
Bethesda, Maryland
 
272

 
48,485

 
178,254

Hilton Burlington
 
Burlington, Vermont
 
258

 
53,635

 
207,888

JW Marriott Denver at Cherry Creek
 
Denver, Colorado
 
196

 
74,022

 
377,662

Courtyard Manhattan/Fifth Avenue
 
New York, New York
 
185

 
44,927

 
242,848

The Lodge at Sonoma, a Renaissance Resort & Spa
 
Sonoma, California
 
182

 
32,359

 
177,797

Courtyard Denver Downtown
 
Denver, Colorado
 
177

 
46,347

 
261,848

Hilton Garden Inn Chelsea/New York City
 
New York, New York
 
169

 
69,684

 
412,331

Renaissance Charleston
 
Charleston, South Carolina
 
166

 
38,942

 
234,590

Hotel Rex
 
San Francisco, California
 
94

 
29,500

 
313,830

Total
 
 
 
11,590

 
$
2,991,167

 
$
258,082

________________
(1)
Total investment represents our initial investment in the hotel plus any owner-funded capital expenditures since acquisition.

Our Hotel Management Agreements

We are party to hotel management agreements for our hotels. Each hotel manager is responsible for (i) the hiring of certain executive level employees, subject to certain veto rights, (ii) training and supervising the managers and employees required to operate the properties and (iii) purchasing supplies, for which we generally will reimburse the manager. The managers (or the franchisors in the case of our franchised hotels) provide centralized reservation systems, national advertising, marketing and promotional services, as well as various accounting and data processing services. Each manager also prepares and implements annual operations budgets subject to our review and approval. Most of our management agreements limit our ability to sell, lease or otherwise transfer the hotels unless the transferee (i) is not a competitor of the manager, (ii) assumes the related management agreements and (iii) meets specified other conditions.

Term

The following table sets forth the agreement date, initial term and number of renewal terms under the respective hotel management agreements for each of our hotels. Generally, the terms of the hotel management agreements renew automatically for a negotiated number of consecutive periods upon the expiration of the initial term unless the property manager gives notice to us of its election not to renew the hotel management agreement.

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Property
 
Manager
 
Date of Agreement
 
Initial Term
 
Number of Renewal Terms
Atlanta Alpharetta Marriott
 
Marriott
 
9/2000
 
30 years
 
Two ten-year periods
Bethesda Marriott Suites
 
Marriott
 
12/2004
 
21 years
 
Two ten-year periods
Boston Westin Waterfront
 
Starwood
 
5/2004
 
20 years
 
Four ten-year periods
Chicago Marriott Downtown
 
Marriott
 
3/2006
 
32 years
 
Two ten-year periods
Conrad Chicago
 
Hilton
 
11/2005
 
10 years
 
Two five-year periods
Courtyard Denver Downtown
 
Sage Hospitality
 
7/2011
 
5 years
 
One five-year period
Courtyard Manhattan/Fifth Avenue
 
Marriott
 
12/2004
 
30 years
 
None
Courtyard Manhattan/Midtown East
 
Marriott
 
11/2004
 
30 years
 
Two ten-year periods
Frenchman's Reef & Morning Star Marriott Beach Resort
 
Marriott
 
9/2000
 
30 years
 
Two ten-year periods
Hilton Boston Downtown
 
Davidson Hotels & Resorts
 
11/2012
 
7 years
 
Two five-year periods
Hilton Burlington
 
Interstate Hotels & Resorts
 
12/2010
 
5 years
 
Month-to-month
Hilton Garden Inn Chelsea/New York City
 
Alliance Hospitality Management
 
9/2010
 
10 years
 
None
Hilton Minneapolis
 
Hilton
 
3/2006
 
20 ¾ years
 
None
Hotel Rex
 
Joie de Vivre Hotels
 
9/2005
 
5 years
 
Month-to-month
JW Marriott Denver at Cherry Creek
 
Sage Hospitality
 
5/2011
 
5 years
 
One five-year period
Lexington Hotel New York
 
Highgate Hotels
 
6/2011
 
10 years
 
One five-year period
Los Angeles Airport Marriott
 
Marriott
 
9/2000
 
40 years
 
Two ten-year periods
Oak Brook Hills Marriott Resort
 
Marriott
 
7/2005
 
30 years
 
None
Orlando Airport Marriott
 
Marriott
 
11/2005
 
30 years
 
None
Renaissance Charleston
 
Marriott
 
1/2000
 
21 years
 
Two five-year periods
Renaissance Worthington
 
Marriott
 
9/2000
 
30 years
 
Two ten-year periods
Salt Lake City Marriott Downtown
 
Marriott
 
12/2001
 
30 years
 
Three fifteen-year periods
The Lodge at Sonoma, a Renaissance Resort & Spa
 
Marriott
 
10/2004
 
20 years
 
One ten-year period
Torrance Marriott South Bay
 
Marriott
 
1/2005
 
40 years
 
None
Vail Marriott Mountain Resort & Spa
 
Vail Resorts
 
6/2005
 
15½ years
 
None
Westin San Diego
 
Interstate Hotels & Resorts
 
12/2010
 
5 years
 
Month-to-month
Westin Washington D.C. City Center
 
Interstate Hotels & Resorts
 
12/2010
 
5 years
 
Month-to-month

Amounts Payable under our Hotel Management Agreements

Under our current hotel management agreements, the hotel manager receives a base management fee and, if certain financial thresholds are met or exceeded, an incentive management fee. The base management fee is generally payable as a percentage of gross hotel revenues for each fiscal year. The incentive management fee is generally based on hotel operating profits, but the fee only applies to that portion of hotel operating profits above a specified return on our invested capital, which we refer to as the owner's priority, or above a specified profit threshold.

The following table sets forth the base management fee, incentive management fee and FF&E reserve contribution generally due and payable each fiscal year for each of our hotels:

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Property
 
Base Management Fee(1)
 
Incentive Management Fee(2)
 
FF&E Reserve Contribution(1)
 
Atlanta Alpharetta Marriott
 
3%
 
25
%

5
%
 
Bethesda Marriott Suites
 
3%
 
50
%
(3
)
5
%
(4)
Boston Westin Waterfront
 
2.5%
 
20
%

4
%
 
Chicago Marriott Downtown
 
3%
 
20
%
(5
)
5
%
 
Conrad Chicago
 
3%
(6)
15
%

4
%
 
Courtyard Denver Downtown
 
2%
(7)
10
%

4
%
 
Courtyard Manhattan/Fifth Avenue
 
5.5%
(8)
25
%

4
%
 
Courtyard Manhattan/Midtown East
 
5%
 
25
%


4
%
 
Frenchman's Reef & Morning Star Marriott Beach Resort
 
3%
 
15
%

5.5
%
 
Hilton Boston Downtown
 
2%
 
10
%

4
%
 
Hilton Burlington
 
1%
(9)
10
%

None

 
Hilton Garden Inn Chelsea/New York City
 
2.5%
(10)
10
%

None

 
Hilton Minneapolis
 
3%
 
15
%

4
%
 
Hotel Rex
 
3%
 
10
%


4
%
 
JW Marriott Denver at Cherry Creek
 
2.25%
(11)
10
%

4
%
 
Lexington Hotel New York
 
3%

20
%

4
%
 
Los Angeles Airport Marriott
 
3%
 
25
%

5
%
 
Oak Brook Hills Marriott Resort
 
3%
 
30
%

5.5
%
 
Orlando Airport Marriott
 
2%
(12)
25
%

5
%
 
Renaissance Charleston
 
3.5%
 
20
%

5
%
 
Renaissance Worthington
 
3%
 
25
%


5
%
 
Salt Lake City Marriott Downtown
 
3%

20
%


5
%
 
The Lodge at Sonoma, a Renaissance Resort & Spa
 
3%
 
20
%


5
%
 
Torrance Marriott South Bay
 
3%
 
20
%


5
%
 
Vail Marriott Mountain Resort & Spa
 
3%
 
20
%


4
%
 
Westin San Diego
 
1%
(9)
10
%


None

 
Westin Washington D.C. City Center
 
1%
(9)
10
%

4
%
 
____________
(1)
As a percentage of gross revenues.    
(2)
Based on a percentage of hotel operating profits above a specified return on our invested capital or specified operating profit thresholds.
(3)
The owner's priority expires in 2027.
(4)
The contribution is reduced to 1% until operating profits exceed an owner's priority of $3.8 million.
(5)
Calculated as 20% of net operating income before base management fees. There is no owner's priority.
(6)
The base management fee is reduced by the amount in which operating profits do not meet the performance guarantee. The performance guarantee was $8.3 million in 2012 and base management fees were reduced to zero.
(7)
The base management fee is 2.5% of gross revenues if the hotel achieves operating results in excess of 7% of our invested capital and 3% of gross revenues if the hotel achieves operating profits in excess of 8% of our invested capital.
(8)
The base management fee increases to 6% beginning in fiscal year 2015 for the remainder of the agreement. Prior to 2015, the base management fee may increase to 6.0% at the beginning of the fiscal year following the achievement of operating profits equal to or above $5.0 million.
(9) The base management fee will increase to 1.5% of gross revenues beginning on July 12, 2014. Total management fees are capped at 2.5% of gross revenues.
(10)
The base management fee will increase to 2.75% in September 2013 for the remaining term of the agreement.
(11)
The base management fee is 2.75% of gross revenues if the hotel achieves operating profits in excess of 7% of our invested capital and 3.25% of gross revenues if the hotel achieves operating profits in excess of 8% of our invested capital.
(12)
In July 2012, we amended the management agreement to reduce the annual base management fee for 2012 and 2013 from 3% to 2% of gross revenues should the hotel's annual debt service amount exceed hotel operating profit with respect to each fiscal year.

The following is a summary of management fees from continuing operations for the years ended December 31, 2012, 2011 and 2010 (in thousands):

-28-


 
Year Ended December 31,
 
2012
 
2011
 
2010
Base management fees
$
19,365

 
$
16,405

 
$
13,920

Incentive management fees
5,550

 
5,226

 
4,750

Total management fees
$
24,915

 
$
21,631

 
$
18,670


Five of our hotels earned incentive management fees for the year ended December 31, 2012. Three of our hotels earned incentive management fees for the year ended December 31, 2011. Two hotel earned incentive management fees for the year ended December 31, 2010.

Performance Termination Provisions

Our management agreements provide us with termination rights upon a manager's failure to meet certain financial performance criteria. Our termination rights may, in certain cases, be waived in exchange for consideration from the manager, such as a cure payment. The Oak Brook Hills Marriott Resort, the Orlando Airport Marriott and the Hilton Garden Inn Chelsea/New York City each failed its performance test at the end of 2012. We are currently evaluating whether we will exercise our termination rights with respect to any of these hotels.

In July 2012, we amended the management agreement for the Orlando Airport Marriott to reduce the annual base management fee paid to Marriott, as manager, for each of fiscal years 2012 and 2013 from 3% to 2% of gross revenues should the hotel's annual debt service amount exceed hotel operating profit with respect to each such fiscal year. Should we exercise our termination rights based on the hotel failing the performance test in 2012 and 2013, we would be required to repay the manager the 1% unpaid base management fees, if any, resulting from such fiscal years.

Our Franchise Agreements

The following table sets forth the terms of the hotel franchise agreements for our nine franchised hotels:
 
 
Date of Agreement
 
Term
 
Franchise Fee
Vail Marriott Mountain Resort & Spa
 
6/2005
 
16 years
 
6% of gross room sales plus 3% of gross food and beverage sales
Hilton Garden Inn Chelsea/New York City
 
9/2010
 
17 years
 
Royalty fee of 5% of gross room sales and program fee of 4.3% of gross room sales
JW Marriott Denver at Cherry Creek
 
5/2011
 
15 years
 
6% of gross room sales and 3% of gross food and beverage sales
Lexington Hotel New York (1)
 
3/2012
 
20 years
 
3% of gross room sales (2)
Courtyard Denver Downtown
 
7/2011
 
16 years
 
5.5% of gross room sales
Hilton Boston Downtown
 
7/2012
 
10 years
 
5% of gross room sales and 3% of gross food and beverage sales; program fee of 4% of gross room sales
Westin Washington D.C. City Center
 
12/2010
 
20 years
 
7% of gross room sales and 3% of gross food and beverage sales
Westin San Diego
 
12/2010
 
20 years
 
7% of gross room sales and 3% of gross food and beverage sales
Hilton Burlington
 
7/2012
 
10 years
 
5% of gross room sales and 3% of gross food and beverage sales; program fee of 4% of gross room sales
(1
)
The agreement begins on the date the hotel opens as a Autograph Collection hotel, which is currently projected to be mid-2013.
 
 
(2
)
Increases to 4% on the first anniversary of the agreement and 5% on the second anniversary of the agreement.

We recorded $8.4 million, $5.7 million and $2.6 million of franchise fees during the fiscal years ended December 31, 2012, 2011, and 2010, respectively, which are included in other hotel expenses on the accompanying consolidated statement of operations.

Our Ground Lease Agreements

Five of our hotels are subject to ground lease agreements that cover all of the land underlying the respective hotel:


-29-


The Bethesda Marriott Suites hotel is subject to a ground lease that runs until 2087. There are no renewal options.

The Courtyard Manhattan/Fifth Avenue is subject to a ground lease that runs until 2085, inclusive of one 49-year renewal option.

The Salt Lake City Marriott Downtown is subject to two ground leases: one ground lease covers the land under the hotel and the other ground lease covers the portion of the hotel that extends into the City Creek Center. The term of the ground lease covering the land under the hotel runs through 2056, inclusive of our renewal options, and the term of the ground lease covering the extension runs through 2017. In 2009, we acquired a 21% interest in the land under the hotel for approximately $0.9 million.

The Westin Boston Waterfront is subject to a ground lease that runs until 2099. There are no renewal options.

The Hilton Minneapolis is subject to a ground lease that runs until 2091. There are no renewal options.

In addition, the golf course that is part of the Oak Brook Hills Marriott Resort is subject to a ground lease covering approximately 110 acres. The ground lease runs through 2045 including renewal options.

Finally, a portion of the parking garage relating to the Renaissance Worthington is subject to three ground leases that cover, contiguously with each other, approximately one-fourth of the land on which the parking garage is constructed. Each of the ground leases has a term that runs through July 2067, inclusive of the three 15-year renewal options. The remainder of the land on which the parking garage is constructed is owned by us in fee simple.

These ground leases generally require us to make rental payments (including a percentage of gross receipts as percentage rent with respect to the Courtyard Manhattan/Fifth Avenue ground lease) and payments for all, or in the case of the ground lease covering the Salt Lake City Marriott Downtown extension, our tenant's share of, charges, costs, expenses, assessments and liabilities, including real property taxes and utilities. Furthermore, these ground leases generally require us to obtain and maintain insurance covering the subject property.

The following table reflects the annual base rents of our ground leases:

-30-


 
Property
 
Term (1)
 
Annual Rent
Ground leases under hotel:
Bethesda Marriott Suites
 
Through 10/2087
 
$566,683 (2)
 
Courtyard Manhattan/Fifth Avenue(3)(4)
 
10/2007 - 9/2017
 
$906,000
 
 
 
10/2017 - 9/2027
 
1,132,812
 
 
 
10/2027 - 9/2037
 
1,416,015
 
 
 
10/2037 - 9/2047
 
1,770,019
 
 
 
10/2047 - 9/2057
 
2,212,524
 
 
 
10/2057 - 9/2067
 
2,765,655
 
 
 
10/2067 - 9/2077
 
3,457,069
 
 
 
10/2077 - 9/2085
 
4,321,336
 
Salt Lake City Marriott Downtown (Ground lease for hotel) (5)
 
Through 12/2056
 
Greater of $132,000 or 2.6% of annual gross room sales
 
(Ground lease for extension)
 
1/2008 - 12/2012
 
$10,277
 
 
 
1/2013 - 12/2017
 
11,305
 
Westin Boston Waterfront Hotel (6) (Base rent)
 
1/2012 - 12/2015
 
500,000
 
 
 
1/2016 - 12/2020
 
750,000
 
 
 
1/2021 - 12/2025
 
1,000,000
 
 
 
1/2026 - 12/2030
 
1,500,000
 
 
 
1/2031 - 12/2035
 
1,750,000
 
 
 
1/2036 - 6/2099
 
No base rent
 
(Percentage rent)
 
Through 12/2015
 
0% of annual gross revenue
 
 
 
1/2016 - 12/2025
 
1.0% of annual gross revenue
 
 
 
1/2026 - 12/2035
 
1.5% of annual gross revenue
 
 
 
1/2036 - 12/2045
 
2.75% of annual gross revenue
 
 
 
1/2046 - 12/2055
 
3.0% of annual gross revenue
 
 
 
1/2056 - 12/2065
 
3.25% of annual gross revenue
 
 
 
1/2066 - 6/2099
 
3.5% of annual gross revenue
 
Hilton Minneapolis (7)
 
1/2012 - 12/2012
 
5,726,000
 
 
 
1/2013 - 12/2013
 
6,012,000
 
 
 
1/2014 - 12-2014
 
6,313,000
 
 
 
1/2015 - 12/2015
 
6,629,000
 
 
 
1/2016 - 12-2016
 
6,960,000
 
 
 
1/2017 - 12/2017
 
7,308,000
 
 
 
1/2018 - 12/2018
 
7,673,000
 
 
 
 1/2019 - 12/2091
 
Annual real estate taxes
Ground leases under parking garage:
Renaissance Worthington
 
Through 7/2012
 
$36,613
 
 
 
8/2012 - 7/2022
 
40,400
 
 
 
8/2022 - 7/2037
 
46,081
 
 
 
8/2037 - 7/2052
 
51,764
 
 
 
8/2052 - 7/2056
 
57,444
Ground lease under golf course:
Oak Brook Hills Marriott Resort
 
10/1985 - 9/2025
 
$1 (8)
_____________

-31-


(1)
These terms assume our exercise of all renewal options.

 
 
(2)
Represents rent for the year ended December 31, 2012. Rent will increase annually by 5.5%.
 
 
(3)
The ground lease term is 49 years. We have the right to renew the ground lease for an additional 49 year term on the same terms then applicable to the ground lease.
 
 
(4)
The total annual rent includes the fixed rent noted in the table plus a percentage rent equal to 5% of gross receipts for each lease year, but only to the extent that 5% of gross receipts exceeds the minimum fixed rent in such lease year. There was no such percentage rent earned during the year ended December 31, 2012.
 
 
(5)
We own a 21% interest in the land underlying the hotel and, as a result, 21% of the annual rent under the ground lease is paid to us by the hotel.
 
 
(6)
Total annual rent under the ground lease is capped at 2.5% of hotel gross revenues during the initial 30 years of the ground lease.
 
 
(7)
The ground lease payment and related property tax liability were negotiated as a single payment in lieu of taxes. The single payments increase at a rate of 5% per year through 2018. Beginning in 2019, there will no longer be a stipulated single payment and the hotel will pay only the real property tax portion of the initial single payment based on the then assessed valuation and applicable tax rate.
 
 
(8)
We have the right to extend the term of this lease for two consecutive renewal terms of ten years each with rent at then market value.

Subject to certain limitations, an assignment of the ground leases covering the Courtyard Manhattan/Fifth Avenue and the Oak Brook Hills Marriott Resort golf course do not require the consent of the ground lessor. With respect to the ground leases covering the Salt Lake City Marriott Downtown hotel and extension, Bethesda Marriott Suites, Westin Boston Waterfront and Hilton Minneapolis, any proposed assignment of our leasehold interest as ground lessee under the ground lease requires the consent of the applicable ground lessor. As a result, we may not be able to sell, assign, transfer or convey our ground lessee's interest in any such property in the future absent the consent of the ground lessor, even if such transaction may be in the best interests of our stockholders.

Debt

The following table sets forth our debt obligations as of December 31, 2012:
Property
 
Principal Balance (in thousands)
 
Debt per Room
 
Interest Rate
 
Maturity Date
 
Amortization Provisions
Courtyard Manhattan / Midtown East
 
$
41,933

 
$
134,401

 
8.81%
 
October 2014
 
30 Years
Marriott Salt Lake City Downtown
 
28,640

 
56,157

 
5.50%
 
January 2015
 
20 Years
Courtyard Manhattan / Fifth Avenue
 
50,173

 
271,205

 
6.48%
 
June 2016
 
30 Years
Renaissance Worthington
 
54,700

 
108,532

 
5.40%
 
July 2015
 
30 Years
Frenchman’s Reef & Morning Star Marriott Beach Resort
 
58,690

 
116,912

 
5.44%
 
August 2015
 
30 Years
Marriott Los Angeles Airport
 
82,600

 
82,271

 
5.30%
 
July 2015
 
Interest Only
Orlando Airport Marriott
 
57,583

 
118,728

 
5.68%
 
January 2016
 
30 Years
Chicago Marriott Downtown Magnificent Mile
 
211,477

 
176,525

 
5.975%
 
April 2016
 
30 Years
Hilton Minneapolis
 
96,901

 
118,028

 
5.464%
 
April 2021
 
25 Years
JW Marriott Denver at Cherry Creek
 
40,761

 
207,964

 
6.470%
 
July 2015
 
25 Years
Lexington Hotel New York
 
170,368

 
239,281

 
LIBOR + 3.00% (3.214% at December 31, 2012)
 
March 2015 (1)
 
Interest Only
Westin Washington D.C. City Center
 
74,000

 
182,266

 
3.99%
 
January 2023
 
25 Years
Senior unsecured credit facility (2)
 
20,000

 
 
 
LIBOR + 1.90% (2.150% at December 31, 2012)
 
January 2017
 
Interest Only
Total debt
 
$
987,826

 
 
 
 
 
 
 
 
___________
(1
)
The loan may be extended for two additional one-year terms subject to the satisfaction of certain conditions and the payment of an extension fee.
 
 
(2
)
The senior unsecured credit facility matures in January 2017. Subject to certain conditions, including being in compliance with all financial covenants, we have one extension option that will extend the maturity for one year. Interest is paid on the periodic advances under our senior unsecured credit facility at varying rates, based upon LIBOR, plus an agreed upon additional margin amount. The applicable margin depends upon our ratio of net indebtedness to EBITDA.

Item 3.      Legal Proceedings

We are involved in routine litigation arising out of the ordinary course of business, all of which is expected to be covered by insurance and is not expected to have a material adverse impact on our financial condition or results of operations. Except as

-32-


described below, we are not involved in any material litigation nor, to our knowledge, is any material litigation pending or threatened against us.

Allerton Loan

We hold the senior mortgage loan secured by the Allerton Hotel, located in downtown Chicago, Illinois. In May 2011, the borrower under the loan filed for bankruptcy protection in the Northern District of Illinois under chapter 11 of Title 11 of the U.S. Code, 11 U.S.C. §§ 101 et seq., as amended. On October 29, 2012, the United States Bankruptcy Court for the Northern District of Illinois (Eastern Division) confirmed an amended plan of reorganization (the "Plan"). Pursuant to the Plan, a claim filed by the Company in New York State court against affiliates of the borrower was dismissed and all other claims between the parties related to this matter were also dismissed with prejudice. Further, pursuant to the Plan, on January 18, 2013, the borrower paid the Company $5.0 million as a paydown of the outstanding principal under the mortgage loan and entered into an amended and restated loan agreement with the Company providing for a $66.0 million loan. The loan has a term of four years, with a one-year extension option, and bears interest at a fixed rate of 5.5%.

Los Angeles Airport Marriott Litigation

During 2011, we accrued $1.7 million for our contribution to the settlement of litigation involving the Los Angeles Airport Marriott. The settlement was recorded as a corporate expense during the year ended December 31, 2011. The Company and certain other defendants reached a settlement of the matter, which involved claims by certain employees at the Los Angeles Airport Marriott.  During 2012, we paid our contribution of the settlement into escrow. The Superior Court of California, Los Angeles County, granted final approval to the settlement on January 7, 2013, and, if no appeals are filed, the effective date will be March 13, 2013.

Item 4.
Mine Safety Disclosures

Not applicable.


-33-


Part II

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

Market Information

Our common stock trades on the NYSE under the symbol “DRH”. The following table sets forth, for the indicated period, the high and low closing prices for the common stock, as reported on the NYSE:
 
 
Price Range
 
 
High
 
Low
Year Ended December 31, 2011:
 
 
 
 
First Quarter
 
$
12.56

 
$
10.45

Second Quarter
 
12.11

 
9.75

Third Quarter
 
11.34

 
7.05

Fourth Quarter
 
9.93

 
6.52

Year Ended December 31, 2012:
 
 
 
 
First Quarter
 
10.98

 
9.55

Second Quarter
 
10.82

 
9.30

Third Quarter
 
10.45

 
9.19

Fourth Quarter
 
10.43

 
8.16


The closing price of our common stock on the NYSE on December 31, 2012 was $9.00 per share.

The following graph compares the five-year cumulative total stockholder return on our common stock against the cumulative total returns of the Standard & Poor's 500 Index (the “S&P 500 Total Return”) and Morgan Stanley REIT Index (the “RMZ Total Return”). The graph assumes an initial investment of $100 in our common stock in each of the indexes and also assumes the reinvestment of dividends. The total return values do not include dividends declared, but not paid, during the period.

-34-


 
2007
2008
2009
2010
2011
2012
DiamondRock Hospitality Company Total Return

$100.00


$36.15


$62.48


$88.52


$73.59


$70.99

RMZ Total Return

$100.00


$62.03


$79.78


$102.50


$111.41


$131.20

S&P 500 Total Return

$100.00


$63.00


$79.68


$91.68


$93.61


$108.59

    
This performance graph shall not be deemed “filed” for purposes of Section 18 of the Securities Exchange Act of 1934, as amended, or incorporated by reference into any filing by us under the Securities Act of 1933, as amended, except as shall be expressly set forth by specific reference in such filing.

In order to maintain our qualification as a REIT, we must make distributions to our stockholders each year in an amount equal to at least:

90% of our REIT taxable income, determined without regard to the dividends paid deduction and excluding net capital gains, plus

90% of the excess of our net income from foreclosure property over the tax imposed on such income by the Code, minus

any excess non-cash income.

We generally pay quarterly cash dividends to common stockholders at the discretion of our Board of Directors. The following table sets forth the dividends on common shares for the years ended December 31, 2012 and 2011.
Payment Date
 
Record Date
 
Dividend
per Share
April 7, 2011
 
March 25, 2011
 

$0.08

June 27, 2011
 
June 17, 2011
 

$0.08

September 20, 2011
 
September 9, 2011
 

$0.08

January 10, 2012
 
December 30, 2011
 

$0.08

April 4, 2012
 
March 23, 2012
 

$0.08

May 29, 2012
 
May 15, 2012
 

$0.08

September 19, 2012
 
September 7, 2012
 

$0.08

January 10, 2013
 
December 31, 2012
 

$0.08


As of February 22, 2013, there were 12 record holders of our common stock and we believe we have more than one thousand beneficial holders. In order to comply with certain requirements related to our qualification as a REIT, our charter, subject to certain exceptions, limits the number of common shares that may be owned by any single person or affiliated group to 9.8% of the outstanding common shares.

Equity compensation plan information.  The following table sets forth information regarding securities authorized for issuance under our equity compensation plan, the 2004 Stock Option and Incentive Plan, as amended, as of December 31, 2012. See Note 7 to the accompanying consolidated financial statements for additional information regarding our 2004 Stock Option and Incentive Plan, as amended.
Equity Compensation Plan Information
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 (Excluding Securities Reflected in Column (a))
 
    

 
 
(a)
 
(b)
 
(c)
Equity compensation plans approved by security holders
 
262,461
 
$12.59
 
4,771,667
Equity compensation plans not approved by security holders
 
 
 
Total
 
262,461
 
$12.59
 
4,771,667


-35-


Repurchases of equity securities.  During the year ended December 31, 2012, certain of our employees surrendered 276,853 shares of common stock to the Company as payment for taxes in connection with the vesting of restricted stock.

Item 6.   Selected Financial Data

The selected historical financial information as of and for the years ended December 31, 2012, 2011, 2010, 2009, and 2008 has been derived from our audited historical financial statements. The selected historical financial data should be read in conjunction with “Management's Discussion and Analysis of Financial Condition and Results of Operations,” the consolidated financial statements as of December 31, 2012 and 2011 and for the years ended December 31, 2012, 2011 and 2010, and the related notes contained elsewhere in this Annual Report on Form 10-K.
 
 
Year Ended December 31,
 
 
2012
 
2011
 
2010
 
2009
 
2008
 
 
(in thousands, except for per share data)
Revenues:
 
 
 
 
 
 
 
 
 
 
Rooms
 
$
526,113

 
$
431,219

 
$
348,732

 
$
313,368

 
$
380,767

Food and beverage
 
180,387

 
159,744

 
148,453

 
137,378

 
163,914

Other
 
43,147

 
31,213

 
26,710

 
28,165

 
31,133

Total revenues
 
749,647

 
622,176

 
523,895

 
478,911

 
575,814

Operating expenses:
 
 
 
 
 
 
 
 
 
 
Rooms
 
140,029

 
115,786

 
93,245

 
84,343

 
91,764

Food and beverage
 
128,938

 
114,029

 
105,685

 
101,148

 
117,120

Other hotel expenses and management fees
 
286,862

 
243,102

 
206,970

 
193,415

 
213,886

Impairment losses
 
30,844

 

 

 
2,542

 
695

Hotel acquisition costs
 
10,591

 
2,521

 
1,436

 

 

Corporate expenses(1)
 
21,095

 
21,247

 
16,384

 
18,317

 
13,984

Depreciation and amortization
 
100,152

 
85,376

 
74,590

 
68,915

 
64,286

Total operating expenses
 
718,511

 
582,061

 
498,310

 
468,680

 
501,735

Operating income
 
31,136

 
40,115

 
25,585

 
10,231

 
74,079

Interest income
 
(307
)
 
(614
)
 
(783
)
 
(342
)
 
(1,563
)
Interest expense
 
53,771

 
45,406

 
35,425

 
40,400

 
38,756

Gain on early extinguishment of debt
 
(144
)
 

 

 

 

(Loss) income from continuing operations before income taxes
 
(22,184
)
 
(4,677
)
 
(9,057
)
 
(29,827
)
 
36,886

Income tax benefit (expense)
 
6,158

 
(3,322
)
 
(1,742
)
 
18,943

 
8,497

(Loss) income from continuing operations
 
(16,026
)
 
(7,999
)
 
(10,799
)
 
(10,884
)
 
45,383

(Loss) income from discontinued operations
 
(566
)
 
321

 
1,627

 
(206
)
 
7,546

Net (loss) income
 
$
(16,592
)
 
$
(7,678
)
 
$
(9,172
)
 
$
(11,090
)
 
$
52,929

 
 
 
 
 
 
 
 
 
 
 
(Loss) earnings per share:
 
 
 
 
 
 
 
 
 
 
Continuing operations
 
$
(0.09
)
 
$
(0.05
)
 
$
(0.07
)
 
$
(0.10
)
 
$
0.48

Discontinued operations
 
(0.00
)
 
0.00

 
0.01

 
(0.00
)
 
0.08

Basic and diluted (loss) earnings per share
 
$
(0.09
)
 
$
(0.05
)
 
$
(0.06
)
 
$
(0.10
)
 
$
0.56

Other data:
 
 
 
 
 
 
 
 
 
 
Dividends declared per common share(2)
 
$
0.32

 
$
0.32

 
$

 
$
0.33

 
$
0.75

FFO(3)
 
$
120,961

 
$
91,546

 
$
79,292

 
$
74,181

 
$
131,780

Adjusted FFO(3)
 
$
140,163

 
$
103,643

 
$
90,297

 
$
82,778

 
$
137,816

EBITDA(4)
 
$
134,928

 
$
149,676

 
$
127,458

 
$
102,217

 
$
172,113

Adjusted EBITDA(4)
 
$
189,714

 
$
162,146

 
$
138,463

 
$
113,356

 
$
178,844



-36-


 
 
As of December 31,
 
 
2012
 
2011
 
2010
 
2009
 
2008
 
 
(in thousands)
Balance sheet data:
 
 
 
 
 
 
 
 
 
 
Property and equipment, net
 
$
2,611,454

 
$
2,234,504

 
$
2,071,603

 
$
1,862,087

 
$
1,920,216

Cash and cash equivalents
 
9,623

 
26,291

 
84,201

 
177,380

 
13,830

Total assets
 
2,944,042

 
2,798,635

 
2,414,609

 
2,215,491

 
2,102,536

Total debt
 
988,731

 
1,042,933

 
780,880

 
786,777

 
878,353

Total other liabilities
 
260,198

 
253,545

 
220,212

 
253,208

 
206,551

Stockholders' equity
 
1,695,113

 
1,502,157

 
1,413,517

 
1,175,506

 
1,017,632

_________
(1)
Corporate expenses for the year ended December 31, 2012 and 2011 include legal fees of approximately $2.5 million and $2.3 million, respectively, related to the Allerton bankruptcy proceedings. Corporate expenses for the year ended December 31, 2011 include an accrual of $1.7 million for the settlement of the Los Angeles Airport Marriott litigation. Corporate expenses for the year ended December 31, 2009 include charges of approximately $2.6 million related to the retirement of our prior Executive Chairman and the termination of our prior Executive Vice President and General Counsel.
 
 
(2)
We paid 90% of the 2009 dividend in shares of common stock and the remainder in cash as permitted by the Internal Revenue Service's Revenue Procedure 2009-15. All of our other dividends have been paid in cash.

 
 
(3)
See "Non-GAAP Financial Measures" below in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" for a detailed description of FFO and Adjusted FFO and a discussion of why we believe that they are useful supplemental measures of our operating performance. The following is a reconciliation of our U.S. GAAP net (loss) income to FFO and Adjusted FFO.
 
 
Year Ended December 31,
 
 
2012
 
2011
 
2010
 
2009
 
2008
 
 
(in thousands)
Net (loss) income
 
$
(16,592
)
 
$
(7,678
)
 
$
(9,172
)
 
$
(11,090
)
 
$
52,929

Real estate related depreciation(a)
 
101,498

 
99,224

 
88,464

 
82,729

 
78,156

Impairment losses(b)
 
45,534

 

 

 
2,542

 
695

Gain on sale of hotel properties, net
 
(9,479
)
 

 

 

 

FFO
 
120,961

 
91,546

 
79,292


74,181


131,780

Non-cash ground rent
 
6,694

 
6,996

 
7,092

 
7,720

 
7,755

Non-cash amortization of favorable and unfavorable contracts, net
 
(1,653
)
 
(1,860
)
 
(1,771
)
 
(1,720
)
 
(1,719
)
Gain on early extinguishment of debt
 
(144
)
 

 

 

 

Acquisition costs
 
10,591

 
2,521

 
1,436

 

 

Allerton loan interest payments
 

 
3,163

 
2,650

 

 

Allerton loan legal fees
 
2,493

 

 

 

 

Franchise termination fee
 
750

 

 

 

 

Litigation settlement
 

 
1,650

 

 

 

Hurricane remediation expense at Frenchman's Reef
 

 

 
1,598

 

 

Management transition costs
 

 

 

 
2,597

 

Fair value adjustments to debt instruments
 
471

 
(373
)
 

 

 

Adjusted FFO
 
$
140,163

 
$
103,643

 
$
90,297

 
$
82,778

 
$
137,816


-37-


 
(a)
Amounts include depreciation expense included in discontinued operations as follows: $1.3 million in 2012, $13.8 million in 2011, $13.9 million in 2010, $13.8 million in 2009, and $13.9 million in 2008.
 
(b)
Amounts include impairment losses included in discontinued operations as follows: $14.7 million in 2012.
 
 
 
(4)
See "Non-GAAP Financial Measures" below in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" for a detailed description of EBITDA and Adjusted EBITDA and why we believe that they are useful supplemental measures of our operating performance. The following is a reconciliation of our U.S. GAAP net (loss) income to EBITDA and Adjusted EBITDA.
 
 
Year Ended December 31,
 
 
2012
 
2011
 
2010
 
2009
 
2008
 
 
(in thousands)
Net (loss) income
 
$
(16,592
)
 
$
(7,678
)
 
$
(9,172
)
 
$
(11,090
)
 
$
52,929

Interest expense(a)
 
56,068

 
55,507

 
45,524

 
51,609

 
50,404

Income tax (benefit) expense(b)
 
(6,046
)
 
2,623

 
2,642

 
(21,031
)
 
(9,376
)
Real estate related depreciation(c)
 
101,498

 
99,224

 
88,464

 
82,729

 
78,156

EBITDA
 
134,928


149,676


127,458


102,217


172,113

Non-cash ground rent
 
6,694

 
6,996

 
7,092

 
7,720

 
7,755

Non-cash amortization of favorable and unfavorable contracts, net
 
(1,653
)
 
(1,860
)
 
(1,771
)
 
(1,720
)
 
(1,719
)
Gain on sale of hotel properties, net
 
(9,479
)
 

 

 

 

Gain on early extinguishment of debt
 
(144
)
 

 

 

 

Acquisition costs
 
10,591

 
2,521

 
1,436

 

 

Allerton loan interest payments
 

 
3,163

 
2,650

 

 

Allerton loan legal fees
 
2,493

 

 
 
 

 

Franchise termination fee
 
750

 

 

 

 

Litigation settlement
 

 
1,650

 
 
 

 

Hurricane remediation expense at Frenchman's Reef
 

 

 
1,598

 

 

Management transition costs
 

 

 

 
2,597

 

Impairment losses(d)
 
45,534

 

 

 
2,542

 
695

Adjusted EBITDA
 
$
189,714