12. Commitments and Contingencies

Management Agreements

Management agreements with the Company’s third-party hotel managers require the Company to pay between 2% and 3.5% of total revenue of the managed hotels to the third-party managers each month as a basic management fee. Total basic management fees incurred by the Company during the three months ended March 31, 2014 and 2013 were included in the Company’s consolidated statements of operations and comprehensive income (loss) as follows (in thousands):



	Three Months Ended		Three Months Ended
	March 31, 2014		March 31, 2013
	(unaudited)		(unaudited)
Continuing operations — property general and administrative expense, and corporate overhead expense	$	6,713	$	5,355
Discontinued operations		—		65
	$	6,713	$	5,420

In addition to basic management fees, provided that certain operating thresholds are met, the Company may also be required to pay incentive management fees to certain of its third-party managers. Total incentive management fees incurred by the Company during the three months ended March 31, 2014 and 2013 were included in the Company’s consolidated statements of operations and comprehensive income (loss) as follows (in thousands):

License and Franchise Agreements

The Company has entered into license and franchise agreements related to certain of its hotel properties. The license and franchise agreements require the Company to, among other things, pay monthly fees that are calculated based on specified percentages of certain revenues. The license and franchise agreements generally contain specific standards for, and restrictions and limitations on, the operation and maintenance of the hotels which are established by the franchisors to maintain uniformity in the system created by each such franchisor. Such standards generally regulate the appearance of the hotel, quality and type of goods and services offered, signage and protection of trademarks. Compliance with such standards may from time to time require the Company to make significant expenditures for capital improvements.

Total license and franchise costs incurred by the Company during the three months ended March 31, 2014 and 2013 were included in the Company’s consolidated statements of operations and comprehensive income (loss) as follows (in thousands):



	Three Months Ended		Three Months Ended
	March 31, 2014		March 31, 2013
	(unaudited)		(unaudited)
Continuing operations — franchise costs	$	8,077	$	6,478
Discontinued operations		—		73
	$	8,077	$	6,551

Total license and franchise costs included royalties of $2.5 million and $2.2 million incurred by the Company during the three months ended March 31, 2014 and 2013, respectively. The remaining costs included advertising, reservation and priority club assessments.

Renovation and Construction Commitments

At March 31, 2014, the Company had various contracts outstanding with third parties in connection with the renovation of certain of its hotel properties aimed at maintaining the appearance and quality of its hotels. The remaining commitments under these contracts at March 31, 2014 totaled $49.5 million.

Capital Leases

The Hyatt Chicago Magnificent Mile is subject to a building lease which expires in December 2097. Upon acquisition of the hotel in June 2012, the Company evaluated the terms of the lease agreement and determined the lease to be a capital lease pursuant to the Leases Topic of the FASB ASC.

The Company leases certain printers and copiers which leases have been determined to be capital leases pursuant to the Leases Topic of the FASB ASC. All of the leases expire in December 2014.

Assets under capital lease were included in investment in hotel properties, net on the Company’s consolidated balance sheets as follows (in thousands):



	March 31,		December 31,
	2014		2013
	(unaudited)
Buildings and improvements	$	58,799	$	58,799
Furniture, fixtures and equipment		104		104
		58,903		58,903
Accumulated depreciation		(2,627)		(2,356)
	$	56,276	$	56,547

Future minimum lease payments under capital leases together with the present value of the net minimum lease payments as of March 31, 2014 are as follows (in thousands):



2014	$	1,437
2015		1,403
2016		1,403
2017		1,403
2018		1,403
Thereafter		110,465
Total minimum lease payments (1)		117,514
Less: Amount representing interest (2)		(101,902)
Present value of net minimum lease payments (3)	$	15,612

(1)Minimum lease payments do not include percentage rent which may be paid under the Hyatt Chicago Magnificent Mile building lease on the basis of 4.0% of the hotel’s gross room revenues over a certain threshold. No percentage rent was due for the three months ended March 31, 2014 and 2013.

(2)Interest includes the amount necessary to reduce net minimum lease payments to present value calculated at the Company’s incremental borrowing rate at lease inception.

(3)The present value of net minimum lease payments are presented on the Company’s consolidated balance sheets as current obligations of $35,000 and as long term obligations of $15.6 million as of both March 31, 2014 and December 31, 2013. The current obligations are included in accounts payable and accrued expenses, and the long-term obligations are included in capital lease obligations, less current portion.

Ground, Building and Air Leases

Total rent expense incurred pursuant to ground, building and air lease agreements for the three months ended March 31, 2014 and 2013 was included in the Company’s consolidated statements of operations and comprehensive income (loss) as follows (in thousands):

Rent expense incurred pursuant to leases on the corporate facility totaled $0.1 million for both the three months ended March 31, 2014 and 2013, and was included in corporate overhead expense.

Concentration of Risk

The concentration of the Company’s hotels in California, New York, Illinois, Massachusetts and the greater Washington DC area exposes the Company’s business to economic conditions, competition and real and personal property tax rates unique to these locales. As of March 31, 2014, the Company’s 29 hotels were concentrated in California, New York, Illinois, Massachusetts and the greater Washington DC area as follows:



									Greater
									Washington DC
	California		New York		Illinois		Massachusetts		Area
	(unaudited)		(unaudited)		(unaudited)		(unaudited)		(unaudited)
Number of hotels	9		3		3		3		3
Percentage of total rooms	32	%	9	%	8	%	14	%	13	%
Percentage of total revenue for the three months ended March 31, 2014	36	%	12	%	4	%	11	%	13	%

Other

The Company has provided customary unsecured environmental indemnities to certain lenders. The Company has performed due diligence on the potential environmental risks, including obtaining an independent environmental review from outside environmental consultants. These indemnities obligate the Company to reimburse the indemnified parties for damages related to certain environmental matters. There is no term or damage limitation on these indemnities; however, if an environmental matter arises, the Company could have recourse against other previous owners or a claim against its environmental insurance policies.

At March 31, 2014, the Company had $0.8 million of outstanding irrevocable letters of credit to guaranty the Company’s financial obligations related to workers’ compensation insurance programs from prior policy years. The beneficiaries of these letters of credit may draw upon these letters of credit in the event of a contractual default by the Company relating to each respective obligation. No draws have been made through March 31, 2014.

Three Months Ended

Three Months Ended

March 31, 2014

March 31, 2013

(unaudited)

(unaudited)

Continuing operations — property general and administrative expense