Item 2. Management’s Discussion and Analysis
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") is intended to help the reader understand the consolidated financial condition and results of operations of Choice Hotels International, Inc. and its subsidiaries (together the "Company", "we", or "our") contained in this report. MD&A is provided as a supplement to -- and should be read in conjunction with -- our consolidated financial statements and the accompanying notes.
Impact of the COVID-19 Pandemic
The evolving spread of COVID-19 has caused significant disruptions to the global economy and the hospitality industry, including in the United States, where more than 80% of our franchised hotels are located. The COVID-19 pandemic has led governments and other authorities and businesses around the world to impose or recommend measures intended to control its spread, including temporary closures of many businesses, "shelter in place" orders, travel restrictions, cancellation of events including sporting events, conferences and meetings, social distancing measures and other governmental regulations. As a result, the COVID-19 pandemic and its consequences have dramatically reduced travel and demand for hotel rooms, which has had, and is expected to continue to have, a material adverse impact on the hospitality industry and the Company both financially and operationally.
The impacts of COVID-19 on the Company's business were first experienced toward the end of the first quarter of 2020. Domestic occupancy levels fell below 50% overall for the month of March, ranging between 25.5% and 32.5% in the last ten days of the month, which was reflected in decreases in revenue per available room ("RevPAR"). Lower occupancy trends continued into the second quarter of 2020, where we experienced decreases in domestic RevPAR of 60.1% from the comparative prior year April and 49.6% from the comparative prior year second quarter. Since early April, we have observed steadily increasing domestic occupancy levels, with second quarter domestic occupancy at 39.1% and third quarter domestic occupancy at 52.1% . These increases in occupancy have led to lower relative RevPAR declines, with domestic RevPAR experiencing a decline of approximately 28.8% over the comparative prior year third quarter and 23.4% over the comparative prior year September monthly period. The extent to which the COVID-19 pandemic will continue to impact the hospitality industry and our operations is uncertain and will depend largely on future developments, including the severity and duration of resurgences of the virus and the effectiveness of actions by government authorities and the public to contain the pandemic. We continue to expect significant impact on our results of operations for the fourth quarter as well as the full year 2020. As of both September 30, 2020 , and October 31, 2020, there were less than 1% of the Company's domestic hotel system that had temporarily suspended operations due to governmental restriction or a franchisee’s election, compared to approximately 10% as of March 31, 2020.
19
Table of Contents
While the ultimate impact and duration of COVID-19 is uncertain and will depend on future developments, which are difficult to predict, the Company believes that it will continue to benefit in the long-term from its primarily franchise-only business model, which has historically provided a relatively stable earnings stream and low capital expenditure requirements. Further, as of September 30, 2020 , the Company had approximately $792.0 million in cash and additional available borrowing capacity through its senior unsecured revolving credit facility.
Based on our business model, the financial mitigation measures described below, and information known at this time, the Company believes that cash flows from operations and available financing capacity are adequate to meet the expected future operating, investing and financing needs of the business.
In response to the COVID-19 pandemic, we have implemented measures to focus on the safety of our customers, employees, franchisees and their staff, while at the same time seeking to mitigate the impact on franchisees' and our Company's financial position and operations. The duration of these measures cannot be predicted at this time. These measures include, but are not limited to, the following:
•
Implemented fee-deferral programs for domestic and international franchisees.
•
Reduced one-time reputation management fees and guest relations handling fees.
•
Extended capital-intensive brand deadlines and created more flexible brand standard options to assist franchisees.
•
Advocated to increase the benefits and eligibility requirements for government relief SBA programs and other CARES Act benefits to support franchisees in retaining employees and servicing debt.
•
Established a proactive, ongoing multi-channel franchisee outreach and education program that is actively assisting our franchisees in accessing newly available capital.
•
Revised its guest cancellation policy to provide travelers greater flexibility during these challenging times and deferred the expiration of loyalty points.
•
Implemented travel restrictions and work-from-home practices for the Company’s employees.
The Company made a priority of working closely with its franchisees to drive business to their hotels across a wide variety of industries and government and emergency-management agencies. Many of the Company's franchisees committed their rooms inventory at discounted rates, or on a complimentary basis, to support their communities in dealing with the effects of the pandemic, opening their hotels for hospital overflows and providing temporary housing for first responders, the National Guard, healthcare workers, critical infrastructure workers and others in dire need. In addition, the Company provided hotel rooms donations to Operation Homefront to help ill and injured service members that were displaced by the pandemic. The Company teamed up with Serta, Inc. to contribute to its “Stay Home, Send Beds” initiative, which provided bed donations to help address nationwide shortages at hospitals and temporary medical facilities.
Management and the Board of Directors have taken steps to adjust the Company’s cost structure and increase its financial flexibility, which include, but are not limited to, the following actions:
•
Reduced the compensation of the Board of Directors, chief executive officer, and other executive officers for the remainder of 2020.
•
Reduced global work force by more than 20% through a combination of layoffs and furloughs.
•
Introduced a hiring freeze except with respect to certain critical positions.
•
Suspended associates’ 401(k) match for the remainder of 2020.
•
Eliminated, reduced or deferred non-essential expenditures, discretionary capital expenditures and investments. We are actively working with vendors to achieve relief on fees or timing of fee payment.
•
Temporarily suspended activity under the Company’s share repurchase program.
•
Determined to suspend future, undeclared dividends for at least the remainder of 2020.
•
Entered into a $250 million unsecured term loan (the "Term Loan") on a precautionary basis, enhancing the Company’s financial flexibility by increasing its borrowing capacity.
•
Offered $450 million of 3.70% senior unsecured notes due 2031 (the "2020 Senior Notes"), using net proceeds to repay the Term Loan in full and fund the $197.8 million purchase price of the cash tender offer (the "Tender Offer") for approximately $183.4 million aggregate principal amount of the Company's 5.75% senior unsecured notes due in 2022 (the "2012 Senior Notes").
As disclosed above, domestic occupancy has been severely impacted. However, approximately 90% of the Company’s domestic hotels are in suburban, small town and interstate locations and have to-date experienced less severe occupancy declines related to COVID-19 than hotels in urban centers or resorts. Based on industry data, the Company's brands have been
20
Table of Contents
performing ahead of its upper-midscale, midscale and economy chain scale competitors, and the Company’s hotels have experienced relatively stronger same-store RevPAR share gains versus their local competition from mid-March to present.
Given the uncertainty as to the potential duration of the crisis, including a resurgence of the virus, and its severity, the Company does not expect material improvement in the industry until there is a sense that the spread of the virus has been contained, shelter-in-place orders have been lifted and economic forecasts begin to improve. As the industry continues to recover, the Company believes it will continue to benefit from the expected faster rebound of leisure demand as a result of its higher share of leisure travel mix relative to competitors. The Company's properties are also well distributed in drive-to markets, which the Company believes will lead in the demand recovery for the industry.
While the Company believes that the long-term fundamentals of the business remain strong, it will continue to adjust business contingency plans as the COVID-19 pandemic evolves. For additional information, see Risk Factors in Part II, Item 1A of this Form 10-Q.
Overview
We are primarily a hotel franchisor with franchise agreements and owned hotels representing 7,126 hotels open comprising 596,455 rooms and 993 hotels under construction, awaiting conversion or approved for development comprising 81,747 rooms as of September 30, 2020 , located in 50 states, the District of Columbia and over 40 countries and territories outside the United States. Our brand names include Comfort Inn®, Comfort Suites®, Quality®, Clarion®, Clarion Pointe™, Ascend Hotel Collection®, Sleep Inn®, Econo Lodge®, Rodeway Inn®, MainStay Suites®, Suburban Extended Stay Hotel®, WoodSpring Suites®, Everhome™ Suites, and Cambria® Hotels (collectively, the "Choice brands").
On January 27, 2020, we announced the launch of Everhome Suites, a new-construction midscale extended-stay brand offering. We expect to open the first Everhome Suites hotel in 2021.
The Company's domestic operations are conducted through direct franchising relationships and the ownership of five Cambria hotels, while its international franchise operations are conducted through a combination of direct franchising and master franchising relationships. Master franchising relationships are governed by master franchising agreements which generally provide the master franchisee with the right to use our brands and sub-license the use of our brands in a specific geographic region, usually for a fee.
Our business strategy is to conduct direct franchising in those international markets where both franchising is an accepted business model and we believe our brands can achieve significant scale. We typically elect to enter into master franchise agreements in those markets where direct franchising is currently not a prevalent or viable business model. When entering into master franchising relationships, we strive to select partners that have professional hotel and asset management capabilities together with the financial capacity to invest in building the Choice brands in their respective markets. Master franchising relationships typically provide lower revenues to the Company as the master franchisees are responsible for managing certain necessary services (such as training, quality assurance, reservations and marketing) to support the franchised hotels in the master franchise area and, therefore, retain a larger percentage of the hotel franchise fees to cover their expenses. In certain circumstances, the Company has and may continue to make equity investments in our master franchisees. As a result of master franchise relationships and international market conditions, our revenues are primarily concentrated in the United States. Therefore, our description of our business is primarily focused on the domestic operations, which encompasses the United States and Caribbean countries and territories.
Our Company generates revenues, income and cash flows primarily from our franchising operations and the initial, relicensing and continuing royalty fees attributable to our franchise agreements. Revenues are also generated from five owned hotels, partnerships with qualified vendors and travel partners that provide value-added solutions to our platform of guests and over 7,000 hotels, and other sources. Historically, the hotel industry has been seasonal in nature. For most hotels, demand is ordinarily lower in November through February than during the remainder of the year. Our principal source of revenues is franchise fees based on the gross room revenues or number of rooms of our franchised properties. The Company’s franchise fees, as well as its owned hotels revenues, normally reflect the industry’s seasonality and historically have been lower in the first and fourth quarters than in the second and third quarters. However, historical trends cannot currently be relied on to predict future performance as a result of the COVID-19 pandemic.
With a primary focus on hotel franchising, we benefit from the economies of scale inherent in the franchising business. The fee and cost structure of our franchising business provides opportunities to improve operating results by increasing the number of franchised hotel rooms and effective royalty rates of our franchise contracts resulting in increased initial and relicensing fee revenue, ongoing royalty fees, and procurement services revenues. In addition, our operating results can also be improved
21
Table of Contents
through our company-wide efforts related to improving property level performance and expanding the number of partnerships with travel related companies.
The principal factors that affect the Company’s results are: the number and relative mix of hotel rooms in the various hotel lodging price categories; growth in the number of hotel rooms owned and under franchise; occupancy and room rates achieved by the hotels in our system; the effective royalty rate achieved on our franchise agreements; the level of franchise sales and relicensing activity; the number of qualified vendor arrangements and travel related partnerships and the level of engagement with these partners by our franchisees and guests; and our ability to manage costs. The number of rooms in our hotel system and the occupancy and room rates at those properties significantly affect the Company’s results because our fees are based upon room revenues or the number of rooms at owned and franchised hotels. All of these factors have been and we expect will continue to be materially disrupted by the COVID-19 pandemic. The key industry standard for measuring hotel-operating performance is RevPAR, which is calculated by multiplying the percentage of occupied rooms by the average daily room rate realized. Our variable overhead costs associated with franchise system growth of our established brands have historically been less than incremental royalty fees generated from new franchises. Accordingly, over the long-term, any continued growth of our franchise business should enable us to realize benefits from the operating leverage in place and improve operating results. The effects of the COVID-19 pandemic on our third quarter 2020 results and anticipated trends are discussed above under the heading "Impact of the COVID-19 Pandemic" and below under the heading "Operations Review."
We are required by our franchise agreements to use the marketing and reservation system fees we collect for system-wide marketing and reservation activities. These expenditures, which include advertising costs and costs to maintain our central reservations and property management systems, enhance awareness and consumer preference for our brands and deliver guests to our franchisees. Greater awareness and preference promotes long-term growth in business delivery to our franchisees and increases the desirability of our brands to hotel owners and developers, which ultimately increases franchise fees earned by the Company. While we continue to actively manage and eliminate certain discretionary marketing and reservation system expenditures, as a result of lower occupancy and therefore lower marketing and reservation system fees generated, we continue to anticipate marketing and reservation expenditures will exceed fees for the remainder of this year.
Our Company articulates its mission as a commitment to our franchisees’ profitability by providing our franchisees with hotel franchises that strive to generate the highest return on investment of any hotel franchise. We have developed an operating system dedicated to our franchisees’ success that focuses on delivering guests to hotels and reducing hotel operating costs.
As discussed above, the Company has taken numerous measures to combat the significant effects of the COVID-19 pandemic on our business. These measures are an immediate priority in order to mitigate the financial impacts to our franchisees and the Company. We believe these immediate measures support the Company's preparedness and complement the strategic priorities we execute against to create value for our shareholders over the long-term. These key long-term goals are as follows:
Profitable Growth. Our success is dependent on improving the performance of our hotels, increasing our system size by selling additional hotel franchises, improving our effective royalty rate, expanding our qualified vendor programs and travel related partnerships and maintaining a disciplined cost structure. As noted above, we have introduced several temporary measures designed to assist franchisees during the COVID-19 pandemic. We attempt to improve our revenues and overall profitability by providing a variety of products and services designed to increase business delivery and/or reduce operating and development costs. These products and services include national marketing campaigns, maintaining a guest loyalty program, a central reservation system, property and yield management programs and systems, revenue management services, quality assurance standards, qualified vendor relationships and expanding our partnerships with other travel related companies that provide services to our franchisees and guests. We believe that healthy brands, which deliver a compelling return on investment, will enable us to sell additional hotel franchises and raise royalty rates. We have multiple brands that meet the needs of many types of guests, and can be developed at various price points and applied to both new and existing hotels. This ensures that we have brands suitable for creating growth in a variety of market conditions. Improving the performance of the hotels in our system, growing the system through additional franchise sales and improving franchise agreement pricing while maintaining a disciplined cost structure are the keys to profitable growth. As disclosed above, the Company's hotels are presently experiencing significant declines in occupancy and RevPAR and there remains a subset of hotels with temporarily suspended operations resulting from the impacts of the COVID-19 pandemic, both of which will impact the profitability of the Company in the current year and an indeterminate period in the future.
Maximizing Financial Returns and Creating Value for Shareholders. Our capital allocation decisions, including capital structure and uses of capital, are intended to maximize our return on invested capital and create value for our shareholders. We believe our historically strong and predictable cash flows create a strong financial position that provides us a competitive advantage. We maintain a capital structure intended to generate high financial returns and use our excess cash flow to provide returns to our shareholders primarily through share repurchases, dividends or investing in growth opportunities. In light of uncertainty resulting from the COVID-19 pandemic, and as previously disclosed, we determined to suspend future, undeclared
22
Table of Contents
dividends for at least the remainder of 2020 and have temporarily suspended activity under the Company's share repurchase program. Given our long-standing commitment to returning value to shareholders, we expect to consider resuming payment of a quarterly dividend and/or resuming activity under the share repurchase program at such time that conditions are appropriate. We currently have no estimated time frame for when this may occur.
The Company also allocates capital to financing, investment and guaranty support to incent franchise development for certain brands in strategic markets; hotel ownership; and exploring growth opportunities in business areas that are adjacent or complementary to our core hotel franchising business, which leverage our core competencies and are additive to our franchising business model. The timing and amount of these investments are subject to market and other conditions. In light of uncertainty resulting from the COVID-19 pandemic and to preserve liquidity, we have limited significant discretionary investments and intend to continue to do so until such time as we determine conditions are appropriate to resume any such activity.
We believe our growth investments and strategic priorities, when properly implemented, will enhance our profitability, maximize our financial returns and continue to generate value for our shareholders. The ultimate measure of our success will be reflected in the items below.
Results of Operations: Royalty fees, operating income, net income and diluted earnings per share ("EPS") represent key measurements of our financial performance. These measurements are primarily driven by the operations of our hotel franchise system and therefore, our analysis of the Company's operations is primarily focused on the size, performance and potential growth of the hotel franchise system as well as our variable overhead costs.
Our discussion of results excludes the Company’s marketing and reservation system revenues and expenses. The Company's franchise agreements require the payment of marketing and reservation system fees to be used exclusively by the Company for expenses associated with providing franchise services such as central reservation systems, national marketing, and media advertising. The Company is obligated to expend the marketing and reservation system fees it collects from franchisees in accordance with the franchise agreements. Furthermore, franchisees are required to reimburse the Company for any deficits generated by these marketing and reservation system activities. Over time, the Company expects cumulative revenues and expenses to break even and, therefore, no income or loss will be generated from marketing and reservation system activities. As a result, the Company generally excludes the financial impacts of this program from the analysis of its operations.
Due to the seasonal nature of the Company’s hotel franchising business and multi-year investments that are required to support franchise operations, in addition to incremental spend by the Company to support franchisees during the COVID-19 pandemic, quarterly or annual deficits and surpluses may be generated. During the three and nine months ended September 30, 2020 , marketing and reservation system expenses exceeded revenues by $6.7 million and $36.4 million , respectively. During the three months ended September 30, 2019 , marketing and reservation system expenses exceeded revenues by $1.4 million . During the nine months ended September 30, 2019 , marketing and reservation system revenues exceeded expenses by $1.2 million .
Refer to MD&A heading "Operations Review" for additional analysis of our results.
Liquidity and Capital Resources: Historically, the Company has generated significant cash flows from operations . Since our business has not historically required significant reinvestment of capital, we typically utilize cash in ways that management believes provide the greatest returns to our shareholders which include share repurchases and dividends. However, in light of uncertainty resulting from the COVID-19 pandemic, and as previously discussed, we do not intend to declare dividends for at least the remainder of 2020 and have temporarily suspended activity under the share repurchase program. We believe the Company’s cash flow from operations and available financing capacity is sufficient to meet the expected future operating, investing and financing needs of the business.
Refer to MD&A heading "Liquidity and Capital Resources" for additional analysis.
Inflation: Inflation has been moderate in recent years and has not had a significant impact on our business. We are monitoring the implications of governmental assistance programs related to COVID-19 on future inflation trends and any resulting impacts on our business.
23
Table of Contents
Non-GAAP Financial Statement Measurements
The Company utilizes certain measures which do not conform to generally accepted accounting principles accepted in the United States ("GAAP") when analyzing and discussing its results with the investment community. This information should not be considered as an alternative to any measure of performance as promulgated under GAAP. The Company’s calculation of these measurements may be different from the calculations used by other companies and therefore, comparability may be limited. We have included a reconciliation of these measures to the comparable GAAP measurement below as well as our reasons for reporting these non-GAAP measures.
Revenues, excluding marketing and reservation system activities: The Company utilizes revenues, excluding marketing and reservation system activities rather than total revenues when analyzing the performance of the business. Marketing and reservation activities are excluded since the Company is contractually required by its franchise agreements to utilize the fees collected specifically for system-wide marketing and reservation activities. This non-GAAP measure is a commonly used measure of performance in our industry and facilitates comparisons between the Company and its competitors.
Calculation of Revenues, excluding marketing and reservation system activities
Three Months Ended September 30,
Nine Months Ended September 30,
(in thousands)
2020
2019
2020
2019
Total revenues
$
210,771
$
310,732
$
580,679
$
846,737
Adjustments:
Marketing and reservation system revenues
(107,141
)
(157,024
)
(297,203
)
(439,553
)
Revenues, excluding marketing and reservation system activities
$
103,630
$
153,708
$
283,476
$
407,184
24
Table of Contents
Operations Review
Comparison of Operating Results for the Three-Month Periods Ended September 30, 2020 and 2019
Summarized financial results for the three months ended September 30, 2020 and 2019 are as follows:
(in thousands)
2020
2019
REVENUES
Royalty fees
$
79,666
$
113,688
Initial franchise and relicensing fees
6,071
6,741
Procurement services
10,115
14,814
Marketing and reservation system
107,141
157,024
Owned hotels
4,201
8,710
Other
3,577
9,755
Total revenues
210,771
310,732
OPERATING EXPENSES
Selling, general and administrative
31,413
38,308
Depreciation and amortization
6,382
5,568
Marketing and reservation system
113,808
158,430
Owned hotels
3,812
6,014
Total operating expenses
155,415
208,320
Impairment of goodwill
—
—
Loss on asset dispositions and impairments
(4,290
)
33
Loss on sale of business
—
(25
)
Gain on sale of assets, net
—
—
Operating income
51,066
102,420
OTHER INCOME AND EXPENSES, NET
Interest expense
12,691
12,431
Interest income
(1,744
)
(2,220
)
Loss on extinguishment of debt
15,958
—
Other gains, net
(1,664
)
(115
)
Equity in net loss of affiliates
1,731
6,400
Total other income and expenses, net
26,972
16,496
Income before income taxes
24,094
85,924
Income tax expense (benefit)
9,594
9,685
Net income
$
14,500
$
76,239
Results of Operations
The Company recorded income before income taxes of $24.1 million for the three -month period ended September 30, 2020 , a $61.8 million decrease from the same period of the prior year. The decrease in income before income taxes primarily reflects a $51.3 million decrease in operating income and a $16.0 million loss on extinguishment of debt in the three -month period ended September 30, 2020 , partially offset by a $4.7 million decrease in equity in net loss of affiliates and a $1.6 million increase in other gains.
Operating income decreased $51.3 million primarily due to a $34.0 million decrease in royalty revenues, a $6.2 million decrease in other revenues, a $5.3 million increase in the net deficit generated from marketing and reservation system activities, a $4.7 million decrease in procurement services revenues, recognition of a $4.3 million impairment of a long-lived asset in the three -month period ended September 30, 2020 , a $2.3 million decrease in owned hotels revenues in excess of expenses, and a $0.8 million increase in depreciation and amortization, partially offset by a $6.9 million decrease in selling, general and administrative ("SG&A") expenses.
25
Table of Contents
The primary reasons for these fluctuations, including the impact of the COVID-19 pandemic, are described in more detail below.
Royalty Fees
Domestic royalty fees for the three months ended September 30, 2020 decreased $31.4 million to $76.4 million from $107.8 million for the three months ended September 30, 2019 , a decrease of 29% . The decrease in domestic royalties reflect a 28.8% decrease in domestic RevPAR. System-wide RevPAR decreased due to a 13.4% decrease in average daily rates and a 1,130 basis point decrease in occupancy. The decrease in domestic royalties is partially offset by an increase in the number of domestic franchised hotel rooms and a 7 basis point increase in the effective royalty rate from 4.84% for the three months ended September 30, 2019 to 4.91% for the three months ended September 30, 2020 .
A summary of the Company's domestic franchised hotels operating information is as follows:
Three Months Ended
Three Months Ended
Change
September 30, 2020
September 30, 2019
Average
Daily
Rate
Occupancy
RevPAR
Average
Daily
Rate
Occupancy
RevPAR
Average
Daily
Rate
Occupancy
RevPAR
Comfort
$
86.81
53.3%
$
46.26
$
101.48
68.4%
$
69.39
(14.5)%
(1,510
)
bps
(33.3)%
Sleep
78.07
52.4%
40.89
88.32
66.4%
58.62
(11.6)%
(1,400
)
bps
(30.2)%
Quality
76.57
48.7%
37.25
85.60
60.6%
51.87
(10.5)%
(1,190
)
bps
(28.2)%
Clarion
78.58
37.3%
29.34
91.80
55.7%
51.16
(14.4)%
(1,840
)
bps
(42.7)%
Econo Lodge
63.63
47.2%
30.01
68.67
53.3%
36.62
(7.3)%
(610
)
bps
(18.1)%
Rodeway
63.02
50.2%
31.62
68.98
54.3%
37.45
(8.6)%
(410
)
bps
(15.6)%
WoodSpring
46.42
76.5%
35.50
48.69
77.4%
37.67
(4.7)%
(90
)
bps
(5.8)%
MainStay
79.23
62.4%
49.43
88.05
70.5%
62.07
(10.0)%
(810
)
bps
(20.4)%
Suburban
51.46
68.3%
35.16
57.55
67.9%
39.11
(10.6)%
40
bps
(10.1)%
Cambria Hotels
110.04
41.3%
45.44
145.78
72.0%
104.95
(24.5)%
(3,070
)
bps
(56.7)%
Ascend Hotel Collection
126.71
51.2%
64.84
135.09
67.6%
91.29
(6.2)%
(1,640
)
bps
(29.0)%
Total
$
75.30
52.1%
$
39.25
$
86.95
63.4%
$
55.10
(13.4)%
(1,130
)
bps
(28.8)%
The impacts of COVID-19 on the Company’s business were first experienced by the Company toward the end of the first quarter of 2020, with domestic occupancy ranging between 25.5% and 32.5% in the last ten days of March, which was reflected in decreases in RevPAR. Lower occupancy trends continued into the second quarter of 2020, where we experienced decreases in domestic RevPAR of 60.1% from the comparative prior year April and 49.6% from the comparative prior year second quarter. Since early April, we have observed steadily increasing domestic occupancy levels, with second quarter domestic occupancy at 39.1% and third quarter domestic occupancy at 52.1% . These increases in occupancy have led to lower relative RevPAR declines, with domestic RevPAR experiencing a decline of approximately 28.8% over the comparative prior year third quarter and 23.4% over the comparative prior year September monthly period. There is uncertainty as to the potential duration of the COVID-19 pandemic, including a resurgence, and its severity, and thus corresponding uncertainty as to the duration and severity of the impact on our occupancy, which we expect will continue to impact our future results.
During the first quarter of 2020, the Company revised its calculation of Occupancy. Historically, Occupancy has excluded rooms unavailable to our guests for operational reasons, as reported by our franchisees. With the onset of the COVID-19 pandemic resulting in reduced travel and lesser demand, our franchisees began closing greater portions of inventory as compared to previous periods. To provide a more representative depiction of system occupancy and with reference to industry standards for RevPAR reporting for partially closed hotels during the COVID-19 pandemic, we have revised our Occupancy calculation to be reflective of full room availability for open hotels. The Company also made minor revisions to the calculation of Average Daily Rate ("ADR") with respect to complimentary rooms. The revised ADR, Occupancy, and RevPAR are reflected in the table above for all periods noted. Based on our previous calculation of ADR, Occupancy, and RevPAR, these metrics for the three months ended September 30, 2020 would have been $74.85, 60.2%, and $45.02, respectively, versus three months ended September 30, 2019 of $86.47, 68.4%, and $59.12, respectively, with period over period declines of 13.4%, 1,202 bps, and 23.8%, respectively.
26
Table of Contents
The number of total domestic rooms in our franchise system increased by 1.9% to 462,139 rooms as of September 30, 2020 from 453,439 as of September 30, 2019 . The total number of domestic hotels in our franchise system increased by 0.7% to 5,934 as of September 30, 2020 from 5,893 as of September 30, 2019 .
A summary of domestic hotels and rooms in our franchise system at September 30, 2020 and 2019 by brand is as follows:
September 30, 2020
September 30, 2019
Variance
Hotels
Rooms
Hotels
Rooms
Hotels
Rooms
%
%
Comfort
1,629
128,213
1,618
126,931
11
1,282
0.7
%
1.0
%
Sleep
403
28,534
398
28,072
5
462
1.3
%
1.6
%
Quality
1,688
128,751
1,670
128,092
18
659
1.1
%
0.5
%
Clarion
179
22,364
176
22,113
3
251
1.7
%
1.1
%
Econo Lodge
781
47,036
815
49,197
(34
)
(2,161
)
(4.2
)%
(4.4
)%
Rodeway
567
32,251
585
34,090
(18
)
(1,839
)
(3.1
)%
(5.4
)%
WoodSpring
285
34,290
266
31,927
19
2,363
7.1
%
7.4
%
MainStay
74
4,673
72
4,642
2
31
2.8
%
0.7
%
Suburban
62
6,236
59
6,026
3
210
5.1
%
3.5
%
Cambria Hotels
53
7,599
47
6,679
6
920
12.8
%
13.8
%
Ascend Hotel Collection
213
22,192
187
15,670
26
6,522
13.9
%
41.6
%
Total Domestic Franchises
5,934
462,139
5,893
453,439
41
8,700
0.7
%
1.9
%
As of both September 30, 2020 , and October 31, 2020 , there were less than 1% of the Company's domestic hotel system that had temporarily suspended operations due to governmental restriction or a franchisee’s election. These temporarily suspended hotels are included in the summary table above of domestic hotels in our franchise system. As of October 31, 2020 , greater than 99% of the Company’s domestic branded hotels are continuing to operate.
International royalty fees for the three months ended September 30, 2020 decreased $2.5 million to $3.3 million compared to the three months ended September 30, 2019 as a result of temporarily suspended operations and declines in RevPAR performance. International rooms in our franchise system increased by 13,029 from 121,287 as of September 30, 2019 to 134,316 as of September 30, 2020 , with the total number of hotels in our franchise system increasing by 11 from 1,181 as of September 30, 2019 to 1,192 as of September 30, 2020 . However, as of September 30, 2020 and October 31, 2020 , approximately 3% and 5% , respectively, of the Company's international branded hotels temporarily suspended operations due to governmental restriction or a franchisee’s election.
There is uncertainty as to the potential duration of the crisis, including a resurgence, and its severity, which will continue to impact the number of domestic and international hotels which temporarily suspend operations.
Initial Franchise and Relicensing Fees
Initial franchise fees are fees paid to the Company when a franchisee is awarded a franchise agreement; relicensing fees include fees charged to new owners of a franchised property whenever an ownership change occurs and the property remains in the franchise system, as well as fees required to renew existing franchise agreements.
During the third quarter of 2020 , the Company awarded 81 domestic franchise agreements representing 6,573 rooms compared to 100 franchising agreements representing 7,468 rooms for the third quarter of 2019 . Domestic franchise agreements awarded for new construction hotels totaled 21 contracts representing 1,805 rooms during the three months ended September 30, 2020 , compared to 37 contracts representing 3,086 rooms for the three months ended September 30, 2019 . Conversion hotel awarded franchise agreements totaled 60 representing 4,768 rooms for the three months ended September 30, 2020 , compared to 63 agreements representing 4,382 rooms for the three months ended September 30, 2019 .
The Company awarded 54 domestic relicensing contracts during the three months ended September 30, 2020 , compared to 94 executed during the three months ended September 30, 2019 . The Company awarded 5 domestic renewal agreements during the three months ended September 30, 2020 , compared to 7 awarded during the three months ended September 30, 2019 .
Initial franchise and relicensing fees are generally collected at the time the franchise agreement is awarded. However, the recognition of revenue is deferred until the hotel is open or the franchise agreement is terminated. Upon hotel opening, revenue is recognized ratably as services are provided over the enforceable period of the franchise license agreement. Upon the
27
Table of Contents
termination of a franchise agreement, previously deferred initial and relicensing fees are recognized immediately in the period the agreement is terminated. Initial franchise and relicensing fee revenue decreased from $6.7 million for the three months ended September 30, 2019 to $6.1 million for the three months ended September 30, 2020 .
As of September 30, 2020 , the Company had 945 franchised hotels with 76,155 rooms under construction, awaiting conversion or approved for development in its domestic system as compared to 975 hotels and 82,390 rooms at September 30, 2019 . The number of new construction franchised hotels in the Company's domestic pipeline decreased 4% to 710 at September 30, 2020 from 741 at September 30, 2019 . New construction hotels typically average 18 to 36 months to open after the franchise agreement is executed. The number of conversion franchised hotels in the Company's domestic pipeline increased by 1 hotel from 234 hotels at September 30, 2019 to 235 hotels at September 30, 2020 . Conversion hotels typically open three to six months after the execution of a franchise agreement. The Company had an additional 48 franchised hotels with 5,592 rooms under construction, awaiting conversion or approved for development in its international system as of September 30, 2020 compared to 94 hotels and 20,750 rooms at September 30, 2019 . Fluctuations in the Company’s pipeline are primarily due to the timing of hotel openings and the timing of signing new franchise agreements. While the Company's hotel pipeline provides a strong platform for growth, a hotel in the pipeline does not always result in an open and operating hotel due to various factors.
Given the uncertainty as to the potential duration of the COVID-19 pandemic and its severity, we anticipate a continued reduction in total new franchise agreements for the year. Further, these factors create additional uncertainty with respect to the opening of new construction hotels, which are reliant on, amongst other things, access to liquidity, availability of construction labor, and local governmental approvals and entitlements, all of which may be constrained during the pendency of the pandemic.
Procurement Services: Revenues decreased $4.7 million or 31.7% from $14.8 million for the three months ended September 30, 2019 to $10.1 million for the three months ended September 30, 2020 . The decrease in revenues primarily reflects the decrease in fees affiliated with travel related partnerships. Because of impacts from COVID-19, for at least the remainder of the year we expect lower occupancy at our franchised hotels and as a result we expect there to be fewer purchases made from qualified vendors and travel related partners, from which we earn a fee.
Other Revenues: Other revenues declined $6.2 million from $9.8 million for the three months ended September 30, 2019 to $3.6 million in the same period of the current year. The decline primarily represents the reduction and, in some cases, suspension of reputation management, guest relation, and finance charges to our franchisees in addition to a decrease in termination fees.
Selling, General and Administrative Expenses: The cost to operate the business is reflected in SG&A on the consolidated statements of income. SG&A expenses were $31.4 million for the three months ended September 30, 2020 , a decrease of $6.9 million from the three months ended September 30, 2019 .
SG&A expenses for the three months ended September 30, 2020 and 2019 include approximately $0.4 million and $1.5 million , respectively, related to the Company's alternative growth initiatives and expenses related to operations of an office building leased to a third party.
Excluding SG&A expenses for alternative growth initiatives and office building operations, SG&A for the three months ended September 30, 2020 decreased $5.8 million to $31.0 million in the current year primarily due to implemented cost mitigation measures resulting from the COVID-19 pandemic, including furloughs and layoffs of certain domestic and international positions and reduction of non-essential expenditures, partially offset by an increase in the Company's deferred compensation liabilities based on relative increases in the underlying investments and provisions for credit losses recorded in accordance with Topic 326.
Depreciation and amortization: Depreciation and amortization expense for the three months ended September 30, 2020 increased $0.8 million to $6.4 million from the same period of the prior year primarily due to an additional $0.8 million in depreciation related to the Company's owned hotels acquired and opened during the third quarter of 2019.
Loss on Asset Dispositions and Impairments: During the third quarter of 2020, the Company recognized a $4.3 million impairment charge related to the long-lived assets of a commercial office building owned by the Company.
Loss on Extinguishment of Debt: During the third quarter of 2020, the Company recorded a loss on the extinguishment of debt of $16.0 million related to the Tender Offer and early pay off of the Term Loan. Refer to the "Liquidity and Capital Resources" header for additional discussion.
28
Table of Contents
Other Gains: The Company recorded other net gains of $1.7 million for the three months ended September 30, 2020 , compared to other net gains of $0.1 million for the three months ended September 30, 2019 . The gains relate to increases in the Company's deferred compensation assets based on increases in the underlying investments.
Equity in Net Loss of Affiliates : The Company recorded net losses of $1.7 million from its unconsolidated joint ventures for the three months ended September 30, 2020 , compared to net losses of $6.4 million for the three months ended September 30, 2019 . These investments relate to the Company's program to offer equity support to qualified franchisees to develop and operate Cambria Hotels in strategic markets. We anticipate the results recognized from these investments for the remainder of 2020 will be significantly impacted by the COVID-19 pandemic. The fluctuation is primarily attributable to the sale of an unconsolidated joint venture resulting in a loss of $6.0 million in the third quarter of 2019.
Income Tax (Benefit) Expense: The effective income tax rates were 39.4% and 11.3% for the three months ended September 30, 2020 and 2019 , respectively.
On January 1, 2018, the Company adopted ASU 2016-16, which provides guidance on recognition of current income tax consequences for inter-company asset transfers (other than inventory) at the time of transfer. On January 1, 2020 , the Company completed a reorganization of its foreign legal entity structure that resulted in a $30.6 million tax benefit. In accordance with ASU 2016-16, the Company recorded the $30.6 million benefit and a corresponding deferred tax asset in the first quarter of 2020. Due to a decrease in the forecasted income of international entities resulting from adverse impacts of the COVID-19 pandemic, the Company recorded a valuation allowance of $5.1 million in the third quarter of 2020 reflecting a change in the anticipated realizability of this deferred tax asset.
The effective income tax rate for the three months ended September 30, 2020 was higher than the U.S. federal income tax rate of 21.0% due to the establishment of a valuation allowance of $5.1 million and state income taxes, partially offset by the impact of foreign operations, a $1.5 million adjustment to our deferred taxes, and $0.7 million of excess tax benefits from share-based compensation. The effective income tax rate for the three months ended September 30, 2019 was lower than the U.S. federal income tax rate of 21.0% due to $12.2 million of tax credits recognized in the period, $0.3 million of excess tax benefits from share-based compensation and the impact of foreign operations, offset by state income taxes.
29
Table of Contents
Operations Review
Comparison of Operating Results for the Nine -Month Periods Ended September 30, 2020 and 2019
Summarized financial results for the nine months ended September 30, 2020 and 2019 are as follows:
(In thousands)
2020
2019
REVENUES
Royalty fees
$
200,157
$
300,468
Initial franchise and relicensing fees
20,031
20,223
Procurement services
34,609
47,590
Marketing and reservation system
297,203
439,553
Owned hotels
15,731
8,710
Other
12,948
30,192
Total revenues
580,679
846,736
OPERATING EXPENSES
Selling, general and administrative
104,212
124,802
Depreciation and amortization
19,309
12,589
Marketing and reservation system
333,564
438,390
Owned hotels
12,822
6,014
Total operating expenses
469,907
581,795
Impairment of goodwill
—
(3,097
)
Loss on asset dispositions and impairments
(5,516
)
(7,271
)
Loss on sale of business
—
(4,666
)
Gain on sale of assets, net
—
100
Operating income
105,256
250,007
OTHER INCOME AND EXPENSES, NET
Interest expense
37,153
34,735
Interest income
(6,277
)
(7,617
)
Loss on extinguishment of debt
16,565
—
Other gains, net
(972
)
(3,219
)
Equity in net loss of affiliates
7,172
9,551
Total other income and expenses, net
53,641
33,450
Income before income taxes
51,615
216,557
Income tax expense (benefit)
(15,907
)
35,848
Net income
$
67,522
$
180,709
Results of Operations
The Company recorded income before income taxes of $51.6 million for the nine -month period ended September 30, 2020 , a $165.0 million decrease from the same period of the prior year. The decrease in income before income taxes reflects a $144.8 million decrease in operating income, a $16.6 million loss on extinguishment of debt in the nine -month period ended September 30, 2020 , a $2.5 million increase in interest expense, and a $2.2 million decrease in other gains, partially offset by a $2.4 million increase in net loss of affiliates,
Operating income decreased $144.8 million primarily due to a $100.3 million decrease in royalty revenues, a $37.5 million increase in the net deficit generated from marketing and reservation system activities, a $17.3 million decrease in other revenues, a $13.0 million decrease in procurement services revenues, a $6.7 million increase in depreciation and amortization, and recognition of $5.5 million loss on asset disposition and impairment during the nine -month period ended September 30, 2020 , partially offset by a $20.6 million decrease in SG&A expenses and recognition of $15.0 million loss on impairment of long-lived assets and goodwill related to the Company's SaaS for vacation rentals reporting unit which was disposed of in the second quarter of 2019.
The primary reasons for these fluctuations are described in more detail below.
30
Table of Contents
Royalty Fees
Domestic royalty fees for the nine months ended September 30, 2020 decreased $93.1 million to $191.1 million , a 33% decrease compared to the nine months ended September 30, 2019 . The decrease in royalties reflect a 32.3% decrease in RevPAR. System-wide RevPAR decreased due to a 1,340 basis point decrease in occupancy rates and a 12.5% decrease in average daily rates. The decrease in domestic royalties is partially offset by a 1.9% increase in the number of domestic franchised hotel rooms and a 9 basis point increase in the effective royalty rate from 4.84% for the nine months ended September 30, 2019 to 4.93% for the nine months ended September 30, 2020 .
A summary of the Company's domestic franchised hotels operating information is as follows:
Nine Months Ended
Nine Months Ended
Change
September 30, 2020
September 30, 2019
Average
Daily
Rate
Occupancy
RevPAR
Average
Daily
Rate
Occupancy
RevPAR
Average
Daily
Rate
Occupancy
RevPAR
Comfort
$
85.22
46.2
%
$
39.40
$
97.39
63.9
%
$
62.26
(12.5
)%
(1,770
)
bps
(36.7
)%
Sleep
77.36
46.5
%
35.98
86.50
63.0
%
54.48
(10.6
)%
(1,650)
bps
(34.0
)%
Quality
73.23
42.1
%
30.81
81.51
55.9
%
45.55
(10.2
)%
(1,380
)
bps
(32.4
)%
Clarion
74.79
33.4
%
24.97
86.31
51.3
%
44.32
(13.3
)%
(1,790)
bps
(43.7
)%
Econo Lodge
59.65
41.2
%
24.55
64.75
49.1
%
31.78
(7.9
)%
(790)
bps
(22.8
)%
Rodeway
60.15
44.0
%
26.45
65.29
50.4
%
32.89
(7.9
)%
(640)
bps
(19.6
)%
WoodSpring
46.15
72.0
%
33.23
47.34
76.9
%
36.40
(2.5
)%
(490)
bps
(8.7
)%
MainStay
77.38
55.1
%
42.61
86.38
65.8
%
56.86
(10.4
)%
(1,070)
bps
(25.1
)%
Suburban
52.14
63.7
%
33.22
58.36
68.9
%
40.18
(10.7
)%
(520)
bps
(17.3
)%
Cambria Hotels
116.78
38.3
%
44.78
145.08
69.5
%
100.88
(19.5
)%
(3,120)
bps
(55.6
)%
Ascend Hotel Collection
120.21
43.9
%
52.73
126.66
62.7
%
79.41
(5.1
)%
(1,880)
bps
(33.6
)%
Total
$
72.71
45.9
%
$
33.36
$
83.07
59.3
%
$
49.26
(12.5
)%
(1,340)
bps
(32.3
)%
The impacts of COVID-19 on the Company’s business were first experienced by the Company toward the end of the first quarter of 2020, with domestic occupancy ranging between 25.5% and 32.5% in the last ten days of March, which was reflected in decreases in RevPAR. Lower occupancy trends continued into the second quarter of 2020, where we experienced decreases in domestic RevPAR of 60.1% from the comparative prior year April and 49.6% from the comparative prior year second quarter. Since early April, we have observed steadily increasing domestic occupancy levels, with second quarter domestic occupancy at 39.1% and third quarter domestic occupancy at 52.1% . These increases in occupancy have led to lower relative RevPAR declines, with domestic RevPAR experiencing a decline of approximately 28.8% over the comparative prior year third quarter and 23.4% over the comparative prior year September monthly period. There is uncertainty as to the potential duration of the COVID-19 pandemic and its severity, and thus corresponding uncertainty as to the duration and severity of the impact on our occupancy, which we expect will continue to impact our future results.
During the first quarter of 2020, the Company revised its calculation of Occupancy, ADR, and RevPAR. The revised ADR, Occupancy, and RevPAR are reflected in the table above for all periods noted. Based on our previous calculation of ADR, Occupancy, and RevPAR, these metrics for the nine months ended September 30, 2020 would have been $72.24, 53.3%, and $38.49, respectively, versus nine months ended September 30, 2019 of $82.66, 64.6%, and $53.36, respectively, with period over period declines of 12.6%, 1,745 bps, and 27.9%, respectively.
International royalty fees for the nine months ended September 30, 2020 decreased $7.2 million to $9.1 million compared to the nine months ended September 30, 2019 as a result of the temporarily suspended operations and declines in RevPAR performance. International rooms in our franchise system increased by 13,029 from 121,287 as of September 30, 2019 to 134,316 as of September 30, 2020 , with the total number of hotels in our franchise system increasing by 11 from 1,181 as of September 30, 2019 to 1,192 as of September 30, 2020 . However, as of September 30, 2020 and October 31, 2020 , approximately 3% and 5% , respectively, of the Company's international branded hotels temporarily suspended operations due to governmental restriction or a franchisee’s election. There is uncertainty as to the potential duration of the crisis, including a resurgence, and its severity, which continues to impact the number of hotels which temporarily suspend operations.
31
Table of Contents
Initial Franchise and Relicensing Fees
Initial franchise fees are fees paid to the Company when a franchisee executes a franchise agreement; relicensing fees include fees charged to new owners of a franchised property whenever an ownership change occurs and the property remains in the franchise system, as well as fees required to renew existing franchise agreements.
During the nine months ended September 30, 2020 , the Company awarded 232 domestic franchise agreements representing 18,022 rooms compared to 377 franchise agreements representing 34,341 rooms for the nine months ended September 30, 2019 . Domestic franchise agreements awarded for new construction hotels totaled 71 representing 6,102 rooms during the nine months ended September 30, 2020 compared to 129 franchise agreements representing 10,795 rooms for the nine months ended September 30, 2019 . Conversion hotel awarded franchise agreements totaled 161 representing 11,920 rooms for the nine months ended September 30, 2020 compared to 248 franchise agreements representing 23,546 rooms for the nine months ended September 30, 2019 .
The Company awarded 164 domestic relicensing contracts during the nine months ended September 30, 2020 , compared to 286 executed during the nine months ended September 30, 2019 . The Company awarded 25 domestic renewal agreements during the nine months ended September 30, 2020 , compared to 26 executed during the nine months ended September 30, 2019 .
Initial franchise and relicensing fees are generally collected at the time the franchise agreement is awarded. However, the recognition of revenue is deferred until the hotel is open or the franchise agreement is terminated. Upon hotel opening, revenue is recognized ratably as services are provided over the enforceable period of the franchise license agreement. Upon the termination of a franchise agreement, previously deferred initial and relicensing fees are recognized immediately in the period the agreement is terminated. Initial franchise and relicensing fee revenue decreased $0.2 million from $20.2 million during the nine months ended September 30, 2019 to $20.0 million during nine months ended September 30, 2020 .
Given the uncertainty as to the potential duration of the COVID-19 pandemic and its severity, we anticipate a continued reduction in total new franchise agreements for the year. Further, these factors create additional uncertainty with respect to the opening of new construction hotels, which are reliant on, amongst other things, access to liquidity, availability of construction labor, and local governmental approvals and entitlements, all of which may be constrained during the pendency of the pandemic.
Procurement Services: Revenues decreased $13.0 million or 27% from $47.6 million for the nine months ended September 30, 2019 to $34.6 million for the nine months ended September 30, 2020 . The decrease in revenues primarily reflects the cancellation of the Company's annual convention as a result of the COVID-19 pandemic and a decrease in fees affiliated with travel related partnerships. Because of impacts from COVID-19, for at least the remainder of the year we expect lower occupancy at our franchised hotels and as a result we expect there to be fewer purchases made from qualified vendors and travel related partners, from which we earn a fee.
Other Revenues: Other revenues declined $17.3 million from $30.2 million for the nine months ended September 30, 2019 to $12.9 million in the same period of the current year. The decline primarily represents the reduction and, in some cases, suspension of reputation management, guest relation, and finance charges to our franchisees in addition to a decrease in termination fees.
Selling, General and Administrative Expenses: The cost to operate the business is reflected in SG&A on the consolidated statements of income. SG&A expenses were $104.2 million for the nine months ended September 30, 2020 , a decrease of $20.6 million from the nine months ended September 30, 2019 .
SG&A expenses for the nine months ended September 30, 2020 and 2019 include approximately $1.9 million and $7.8 million , respectively, related to the Company's alternative growth initiatives and expenses related to the operations of an office building leased to a third party. The decrease of $5.9 million from the same period of the prior year is primarily due to the sale of the SaaS for vacation rentals reporting unit on June 3, 2019.
Excluding SG&A for alternative growth initiatives and office building operations, SG&A for the nine months ended September 30, 2020 decreased $14.7 million to $102.3 million primarily due to implemented cost mitigation and cash preservation measures resulting from the COVID-19 pandemic, including cancellation of the annual convention; furloughs and layoffs of certain domestic and international positions and reduction of non-essential expenditures; and reductions in the Company's deferred compensation liabilities based on relative declines in the underlying investments; partially offset by provisions for credit losses recorded in accordance with Topic 326.
32
Table of Contents
Depreciation and amortization: Depreciation and amortization expense for the nine months ended September 30, 2020 increased $6.7 million to $19.3 million from the same period of the prior year primarily due to an additional $7.1 million in depreciation related to the Company's owned hotels acquired and opened during the third quarter of 2019.
Impairment of Goodwill, Loss on Asset Dispositions and Impairments, and Loss on Sale of Business: For the nine months ended September 30, 2020 , the Company recognized a $1.2 million charge related to a prospective self-development project the Company is no longer pursing and a $4.3 million impairment charge related to the long-lived assets of a commercial office building owned by the Company.
For the nine months ended September 30, 2019 , the Company recognized a $15.0 million loss on impairment of long-lived assets and goodwill related to the Company's SaaS for vacation rentals reporting unit which was disposed of in the second quarter of 2019.
Interest Expense: The Company recorded interest expense of $37.2 million for the nine months ended September 30, 2020 , an increase of $2.5 million from the nine months ended September 30, 2019 . The increase in interest expense is a result of increased borrowings over the course of 2020 in response to the COVID-19 pandemic. We anticipate borrowings and associated interest expense will remain elevated relative to comparable periods for the remainder of 2020.
Loss on Extinguishment of Debt: During the first quarter of 2020, the Company recorded a loss on the extinguishment of debt of $0.6 million related to the early pay off of a construction loan in the amount of $33.1 million, inclusive of accrued and unpaid interest.
During the third quarter of 2020, the Company recorded a loss on the extinguishment of debt of $16.0 million related to the Tender Offer and early pay off of the Term Loan. Refer to the "Liquidity and Capital Resources" header for additional discussion.
Other Gains : The Company recorded other net gains of $1.0 million for the nine months ended September 30, 2020 , compared to other net gains of $3.2 million for the nine months ended September 30, 2019 . The gains relate to increases in the Company's deferred compensation assets based on increases in the underlying investments.
Equity in Net Loss of Affiliates : The Company recorded net losses of $7.2 million from its unconsolidated joint ventures for the nine months ended September 30, 2020 compared to net losses of $9.6 million for the nine months ended September 30, 2019 . These investments relate to the Company's program to offer equity support to qualified franchisees to develop and operate Cambria Hotels in strategic markets. We anticipate the results recognized from these investments for the remainder of 2020 will be significantly impacted by the COVID-19 pandemic. The fluctuation is primarily attributable to the sale of an unconsolidated joint venture resulting in a loss of $6.0 million in the third quarter of 2019, partially offset by increased losses of operating joint venture hotels. We anticipate the results recognized from these investments in the fourth quarter of 2020 will continue to be significantly impacted by the COVID-19 pandemic.
Income Tax (Benefit) Expense: The effective income tax rates were (30.8)% and 16.6% for the nine months ended September 30, 2020 and 2019 , respectively.
On January 1, 2018, the Company adopted ASU 2016-16 which provides guidance on recognition of current income tax consequences for inter-company asset transfers (other than inventory) at the time of transfer. On January 1, 2020 , the Company completed a reorganization of its foreign legal entity structure that resulted in a $30.6 million tax benefit. In accordance with ASU 2016-16, the Company recorded the $30.6 million benefit and a corresponding deferred tax asset in the first quarter of 2020. Due to a decrease in the forecasted income of international entities resulting from adverse impacts of the COVID-19 pandemic, the Company recorded a valuation allowance of $5.1 million in the third quarter of 2020 reflecting a change in the anticipated realizability of this deferred tax asset.
The effective income tax rate for the nine months ended September 30, 2020 was lower than the U.S. federal income tax rate of 21.0% due to the impacts of ASU-2016 and the corresponding valuation allowance, $3.4 million of excess tax benefits from share-based compensation, an adjustment to our deferred taxes, and the impact of foreign operations, partially offset by state income taxes and a change in estimated uncertain tax positions. The effective income tax rate for the nine months ended September 30, 2019 was lower than the U.S. federal income tax rate of 21.0% due to $12.2 million of tax credits recognized in the period, $3.3 million of excess tax benefits from share-based compensation and the impact of foreign operations, partially offset by state income taxes.
33
Table of Contents
Liquidity and Capital Resources
In response to the COVID-19 pandemic, we have taken steps to adjust the company’s cost structure and increase its financial flexibility and liquidity. At September 30, 2020 , the Company had approximately $792.0 million in cash and additional available borrowing capacity through its senior unsecured revolving credit facility,
In April 2020, the Company entered into the $250 million Term Loan. In July 2020, the Company issued the $450 million 2020 Senior Notes and announced the Tender Offer for the purchase of approximately $183.4 million aggregate principal amount of the Company's 2012 Senior Notes. The Company used the net proceeds from the 2020 Senior Notes offering to repay the Term Loan in full and fund the $197.8 million purchase price of the 2012 Senior Notes tendered, inclusive of the aggregate principal, an early tender premium, settlement fees, and accrued interest paid. In September 2020, the Company utilized excess cash on hand to pay down the senior unsecured revolving credit facility balance in full.
To preserve capital, we determined to suspend future, undeclared dividends for at least the remainder of 2020 and have temporarily suspended activity under our share repurchase program as well as limited discretionary spending and investments until such time as we determine conditions are appropriate to resume any such activity.
Based on our business model, the financial mitigation measures taken, and information known at this time, the Company believes that cash flows from operations and available financing capacity are adequate to meet the expected future operating, investing and financing needs of the business. As of September 30, 2020 , we were in compliance with the financial covenants of our credit agreements and expect to remain in such compliance.
Operating Activities
During the nine months ended September 30, 2020 and 2019 , net cash provided by operating activities totaled $69.7 million and $191.0 million , respectively. Operating cash flows decreased $121.3 million primarily due to a decrease in operating income as driven by a reduction in royalty fees and the net deficit generated from marketing and reservation system activities, excluding certain non-cash charges, and timing of working capital items.
In conjunction with brand and development programs, we make certain payments to franchisees as an incentive to enter into new franchise agreements or perform designated improvements to properties under existing franchise agreements. These payments are typically made at commencement of construction or hotel opening, in accordance with agreed upon provisions in individual franchise agreements. We recognize such payments as an adjustment to transaction price and capitalize as an intangible asset. These intangibles are amortized on a straight-line basis over the estimated benefit period of the arrangement as an offset to revenues. If the franchisee remains in the franchise system in good standing over the term specified in the incentive agreement, the Company forgives the incentive ratably. If the franchisee exits our franchise system or is not operating their franchise in accordance with our quality or credit standards, the franchisee must repay the unamortized incentive payment plus interest. During the nine months ended September 30, 2020 and 2019 , the Company's net advances for these purposes totaled $17.0 million and $25.6 million , respectively. The timing and amount of these cash flows is dependent on various factors including the implementation of various development and brand incentive programs, the level of franchise sales, and the ability of our franchisees to complete construction or convert their hotels to one of the Company’s brands. At September 30, 2020 , the Company had commitments to extend an additional $290.0 million for these purposes provided the conditions of the payment are met by its franchisees.
The Company’s franchise agreements require the payment of marketing and reservation system fees. In accordance with the terms of our franchise agreements, the Company is obligated to use these marketing and reservation system fees to provide marketing and reservation services such as advertising, providing a centralized reservation and property management system, providing reservation and revenue management services, and performing certain franchise services to support the operation of the overall franchise system. Marketing and reservation system expenses are those expenses incurred to facilitate the delivery of marketing and reservation system services, including direct expenses and an allocation of costs for certain administrative activities required to carry out marketing and reservation services. Marketing and reservation system expenses are recognized as services are incurred or goods are received, and as such may not equal marketing and reservation system revenues in a specific period but are expected to equal revenues earned from franchisees over time. To the extent revenues collected exceed expenditures incurred, the Company has a commitment to the franchisee system to make expenditures in future years. Conversely, to the extent expenditures incurred exceed revenues collected, the Company has the contractual enforceable right to recover such advances in future periods through additional fee assessments or reduced spending. During the nine months ended September 30, 2020 , marketing and reservation system expenses exceeded revenues by $36.4 million . During the nine months ended September 30, 2019 marketing and reservation system revenues exceeded expenses by $1.2 million .
34
Table of Contents
Investing Activities
Cash utilized for investing activities totaled $30.5 million and $220.2 million for the nine months ended September 30, 2020 and 2019 , respectively. The decrease in cash utilized for investing activities for the nine months ended September 30, 2020 primarily reflects the following items:
During the nine months ended September 30, 2020 and 2019 , the Company invested $4.6 million and $17.3 million , respectively, in joint ventures accounted for under the equity method of accounting. In addition, the Company received distributions from these joint ventures totaling $3.4 million and $9.8 million for the nine months ended September 30, 2020 and 2019 , respectively. The Company's investment in these joint ventures primarily relates to ventures that support the Company's efforts to promote the growth of our Cambria Hotels brand. To the extent existing unconsolidated joint ventures proceed to the hotel construction phase, the Company is committed to make capital contributions totaling $8.8 million to support these efforts.
During the nine months ended September 30, 2020 and 2019 , capital expenditures in property and equipment totaled $32.2 million and $46.1 million , respectively. The decrease in capital expenditures primarily reflects the Company's 2019 improvements to a historic building that was converted to a Cambria Hotel. The hotel opened in the third quarter of 2019. During the nine months ended September 30, 2020 , the Company realized proceeds of $9.2 million from the sale of state historic rehabilitation tax credits earned from the improvements made to this building. The proceeds of $9.2 million were applied to lower the basis of the owned hotel property and equipment.
The Company provides financing to franchisees for hotel development efforts and other purposes in the form of notes receivable. These loans bear interest and are expected to be repaid in accordance with the terms of the loan arrangements. During the nine months ended September 30, 2020 , the Company advanced and received repayments totaling $9.8 million and $5.1 million for these purposes, respectively. For the nine months ended September 30, 2019 , the Company advanced and received repayments totaling $10.8 million and $10.5 million for these purposes, respectively. At September 30, 2020 , the Company had commitments to extend an additional $1.0 million for these purposes provided certain conditions are met by its franchisees.
During the nine months ended September 30, 2019 , the Company realized proceeds of $10.6 million from the sale of one parcel of land. The Company did not sell any land parcels during the nine months ended September 30, 2020 .
During the nine months ended September 30, 2019 , the Company sold the SaaS for vacation rentals reporting unit and made payments, net of sales proceeds, of $10.8 million for net costs incurred to complete the disposition.
During the nine months ended September 30, 2019 , the Company held a 40% ownership interest of a joint venture that owned five Cambria Hotels recorded as an investment in unconsolidated entities of $40.0 million. On July 23, 2019, the Company redeemed the remaining 60% ownership interest in four of the hotels for approximately $169.0 million , net of cash acquired, and sold its 40% ownership interest in the fifth hotel for approximately $8.9 million . The transaction was funded with cash and borrowings under the Company's revolving credit facility.
From time to time, our board of directors authorizes specific transactions and general programs which permit us to provide financing, investment and guaranties, and similar credit support to qualified franchisees, as well as to acquire, develop, and resell real estate and hotels to incent franchise development. Since 2006, we have engaged in these financial support activities to encourage acceleration of the growth of our Cambria Hotels brand, primarily in strategic markets and locations. Over the next three to five years, depending on market and other conditions, we expect to continue to deploy capital in support of this brand and expect our outstanding investment not to exceed $725 million over that time period. The annual pace of future financial support activities will depend upon market and other conditions including among others, our franchise sales results, the environment for new construction hotel development and the hotel lending environment, and our assessment of the on-going impacts of the COVID-19 pandemic. Our support of the Cambria Hotels brand’s growth is expected to be primarily in the form of joint venture investments, hotel ownership, forgivable key money loans, senior mortgage loans, development loans, mezzanine lending, and through the operation of a land-banking program. With respect to our lending, hotel ownership and joint venture investments, we generally expect to recycle these loans and investments within a five year period. At September 30, 2020 , the Company had approximately $566.8 million outstanding pursuant to these financial support activities.
Financing Activities
Financing cash flows relate primarily to the Company's borrowings, open market treasury stock repurchases, acquisition of shares in connection with the exercise or vesting of equity awards, and dividends.
35
Table of Contents
Debt
Restated Senior Unsecured Credit Facility
On August 20, 2018, the Company entered into the Restated Credit Agreement, which amended and restated the Company’s existing senior unsecured revolving credit agreement, dated July 21, 2015.
The Restated Credit Agreement provides for a $600 million unsecured credit facility with a maturity date of August 20, 2023, subject to optional one-year extensions that can be requested by the Company prior to each of the first, second and third anniversaries of the closing date of the Restated Credit Agreement. The effectiveness of such extensions are subject to the consent of the lenders under the Restated Credit Agreement and certain customary conditions. The Restated Credit Agreement also provides that up to $35 million of borrowings under the Restated Credit Agreement may be used for alternative currency loans and up to $25 million of borrowings under the Restated Credit Agreement may be used for swingline loans. The Company may from time to time designate one or more wholly owned subsidiaries of the Company as additional borrowers under the Restated Credit Agreement, subject to the consent of the lenders and certain customary conditions.
On July 2, 2019, the Company exercised a one-year extension option on the Restated Credit Agreement, extending the maturity date from August 20, 2023 to August 20, 2024. On August 12, 2020, the Company executed an additional one-year extension on the Restated Credit Agreement for $525 million of the $600 million total capacity. The extended maturity date is August 20, 2025.
There are no subsidiary guarantors under the Restated Credit Agreement. However, if certain subsidiaries of the Company subsequently incur certain recourse debt or become obligors in respect of certain recourse debt of the Company or certain of its other subsidiaries, the Restated Credit Agreement requires such obligated subsidiaries to guarantee the Company’s obligations under the Restated Credit Agreement (the “springing guarantee”). In the event that these subsidiary guarantees are triggered under the Restated Credit Agreement, the same subsidiary guarantees would be required under the Company’s $400 million senior unsecured notes due 2022 and certain hedging and bank product arrangements, if any, with lenders that are parties to the Restated Credit Agreement.
On February 18, 2020, the Company entered into the First Amendment to the Amended and Restated Senior Unsecured Credit Agreement (the “Amendment”) among the Company, Deutsche Bank AG New York Branch, as administrative agent (the “Administrative Agent”) and the lenders party thereto. The Amendment, among other things, removes the springing guarantee and other provisions and references in the Restated Credit Agreement related to the potential existence of subsidiary guarantors.
The Company may at any time prior to the final maturity date increase the amount of the Restated Credit Agreement or add one or more term loan facilities under the Restated Credit Agreement by up to an additional $250 million in the aggregate to the extent that any one or more lenders commit to being a lender for the additional amount of such term loan facility and certain other customary conditions are met.
The Restated Credit Agreement provides that the Company may elect to have borrowings bear interest at a rate equal to (i) LIBOR plus a margin ranging from 90 to 150 basis points or (ii) a base rate plus a margin ranging from 0 to 50 basis points, in each case, with the margin determined according to the Company’s senior unsecured long-term debt rating or under circumstances as set forth in the Restated Credit Agreement, the Company’s total leverage ratio in the event that such total leverage ratio is less than 2.5 to 1.0.
The Restated Credit Agreement requires the Company to pay a fee on the total commitments, calculated on the basis of the actual daily amount of the commitments (regardless of usage) times a percentage per annum ranging from 0.075% to 0.25% (depending on the Company’s senior unsecured long-term debt rating or under circumstances as set forth in the Restated Credit Agreement, the Company’s total leverage ratio in the event that such total leverage ratio is less than 2.5 to 1.0).
The Restated Credit Agreement requires that the Company and its restricted subsidiaries comply with various covenants, including with respect to restrictions on liens, incurring indebtedness, making investments and effecting mergers and/or asset sales. With respect to dividends, the Company may not declare or make any payment if there is an existing event of default or if the payment would create an event of default.
The Restated Credit Agreement imposes financial maintenance covenants requiring the Company to maintain a consolidated fixed charge coverage ratio of at least 2.5 to 1.0 and a total leverage ratio of not more than 4.5 to 1.0 or, on up to two nonconsecutive occasions, 5.5 to 1.0 for up to three consecutive quarters following a material acquisition commencing with the fiscal quarter in which such material acquisition occurred. The Company maintains an Investment Grade Rating, as defined in the Restated Credit Agreement, and therefore is not currently required to comply with the consolidated fixed charge coverage ratio covenant.
36
Table of Contents
The Restated Credit Agreement includes customary events of default, the occurrence of which, following any applicable cure period, would permit the lenders to, among other things, declare the principal, accrued interest and other obligations of the Company under the Restated Credit Agreement to be immediately due and payable. At September 30, 2020 , the Company maintained a total leverage ratio of 3.54 x and was in compliance with all financial covenants under the Restated Credit Agreement. The Company decreased borrowings on its senior unsecured revolving credit facility by $18.2 million in the nine months ended September 30, 2020 , utilizing excess cash on hand to pay down the balance in full.
The proceeds of the Restated Credit Agreement are generally expected to be used for general corporate purposes, including working capital, debt repayment, stock repurchases, dividends, investments and other permitted uses set forth in the Restated Credit Agreement. However, in light of uncertainty resulting from the COVID-19 pandemic, and as previously discussed, we determined to suspend future, undeclared dividends for at least the remainder of 2020 and have temporarily suspended activity under our share repurchase program.
Term Loan
To preserve financial flexibility and liquidity during the COVID-19 pandemic, on April 16, 2020, the Company entered into a Credit Agreement, which provides for the $250 million Term Loan with a scheduled maturity date of April 15, 2021, subject to an optional one-year extension that can be requested by the Company prior to the initial maturity date. The effectiveness of such extension is subject to the consent of the lenders under the Credit Agreement and certain customary conditions.
The Term Loan and all accrued but unpaid interest thereon must be repaid in full on the maturity date. Upon the occurrence of certain asset sales, debt issuances and equity issuances, subject to the exceptions set forth in the Credit Agreement, the Company is required to make certain mandatory principal prepayments of the Term Loan in an amount equal to 100% of the net cash proceeds of such transactions.
The Credit Agreement provides that the Company may elect to have the Term Loan bear interest at a rate equal to (i) LIBOR (subject to a floor of 1.00%) plus a margin ranging from 200 to 275 basis points or (ii) a base rate plus a margin ranging from 100 to 175 basis points, in each case, with the margin determined according to the Company’s senior unsecured long-term debt rating.
The Credit Agreement requires that the Company and its restricted subsidiaries comply with various covenants, including with respect to restrictions on liens, incurring indebtedness, making investments and effecting mergers and/or asset sales. With respect to dividends and stock repurchases, the Company may not declare or make any payment, subject to certain exceptions set forth in the Credit Agreement, if (i) there is an existing event of default or if the payment would create an event of default or (ii) (x) the Company’s total leverage ratio exceeds 4.0 to 1.0 or (y) liquidity (defined in the Credit Agreement as the Company’s unrestricted cash and cash equivalents plus undrawn amounts under the Company’s existing senior unsecured revolving credit facility) is less than $250 million, in each case, both before or immediately after giving effect to such payment.
The Credit Agreement imposes financial maintenance covenants requiring the Company to maintain a consolidated fixed charge coverage ratio of at least 2.5 to 1.0 and a total leverage ratio of not more than 4.5 to 1.0. If the Company maintains an Investment Grade Rating, as defined in the Credit Agreement, then the Company will not need to comply with the consolidated fixed charge coverage ratio covenant.
The Credit Agreement includes customary events of default, the occurrence of which, following any applicable cure period, would permit the lenders to, among other things, declare the principal, accrued interest and other obligations of the Company under the Credit Agreement to be immediately due and payable.
The proceeds of the Term Loan were utilized to reduce borrowings on the Company’s senior unsecured revolving credit facility. The Term Loan was subsequently paid off in full in July 2020 utilizing the proceeds of the 2020 Senior Notes. In combination with the Tender Offer, the Company recorded a loss on extinguishment of debt of $16.0 million in the third quarter of 2020.
Senior Unsecured Notes Due 2031
On July 23, 2020, the Company issued unsecured senior notes in the principal amount of $450 million (the "2020 Senior Notes") bearing a coupon of 3.70%. The 2020 Senior Notes will mature on January 15, 2031, with interest to be paid semi-annually on January 15 th and July 15 th beginning January 15, 2021. The Company used the net proceeds of the 2020 Senior Notes, after deducting underwriting discounts, commissions and other offering expenses, to repay the Term Loan in full and fund the purchase price of the 2012 Notes tendered and accepted by the Company for purchase pursuant to the tender offer (discussed below under "Senior Unsecured Notes due 2022").
Interest on the 2020 Senior Notes is payable semi-annually on January 15 th and July 15 th of each year, commencing on January 15, 2021. The interest rate payable on the 2020 Senior Notes will be subject to adjustment based on certain rating events. The
37
Table of Contents
Company may redeem the 2020 Senior Notes, in whole or in part, at its option at the applicable redemption price before maturity. If the Company redeems the 2020 Senior Notes prior to October 15, 2030 (three months prior to the maturity date) (the “2020 Notes Par Call Date”), the redemption price will be equal to the greater of (a) 100% of the principal amount of the notes to be redeemed, or (b) the sum of the present values of the remaining scheduled principal and interest payments that would have been payable had the 2020 Senior Notes matured on the 2020 Notes Par Call Date, discounted to the redemption date on a semi-annual basis at the applicable Treasury Rate plus 50 basis points, plus accrued and unpaid interest. If the Company redeems the 2020 Senior Notes on or after the 2020 Notes Par Call Date, the redemption price will equal 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest. Additionally, at the option of the holders of the 2020 Senior Notes, the Company may be required to repurchase all or a portion of the 2020 Senior Notes of a holder upon the occurrence of a change of control event at a price equal to 101% of their aggregate principal amount, plus accrued and unpaid interest, to the date of repurchase.
Senior Unsecured Notes Due 2029
On November 27, 2019, the Company issued unsecured senior notes in the principal amount of $400.0 million (the "2019 Senior Notes") at a discount of $2.4 million, bearing a coupon of 3.70% with an effective rate of 3.88%. The 2019 Senior Notes will mature on December 1, 2029, with interest to be paid semi-annually on December 1 st and June 1 st . The Company used the net proceeds of this offering, after deducting underwriting discounts, commissions and other offering expenses, to repay previously outstanding senior notes and for working capital and other general corporate purposes.
The Company may redeem the 2019 Senior Notes, in whole or in part, at its option at the applicable redemption price before maturity. If the Company redeems the 2019 Senior Notes prior to September 1, 2029 (three months prior to the maturity date) (the “2019 Notes Par Call Date”), the redemption price will be equal to the greater of (a) 100% of the principal amount of the notes to be redeemed, or (b) the sum of the present values of the remaining scheduled principal and interest payments that would have been payable had the 2019 Senior Notes matured on the 2019 Notes Par Call Date, discounted to the redemption date on a semi-annual basis at the applicable Treasury Rate plus 30 basis points, plus accrued and unpaid interest. If the Company redeems the 2019 Senior Notes on or after the 2019 Notes Par Call Date, the redemption price will equal 100% of the principal amount of the notes to be redeemed, plus accrued and unpaid interest. Additionally, at the option of the holders of the 2019 Senior Notes, the Company may be required to repurchase all or a portion of the 2019 Senior Notes of a holder upon the occurrence of a change of control event at a price equal to 101% of their aggregate principal amount, plus accrued and unpaid interest, to the date of repurchase.
Senior Unsecured Notes due 2022
On June 27, 2012, the Company issued unsecured senior notes with a principal amount of $400 million (the "2012 Senior Notes") at par, bearing a coupon of 5.750% with an effective rate of 6.00% . The 2012 Senior Notes will mature on July 1, 2022 , with interest to be paid semi-annually on January 1 st and July 1 st . The Company utilized the net proceeds of this offering, after deducting underwriting discounts and commissions and other offering expenses, together with borrowings under the Company's senior unsecured credit facility, to pay a special cash dividend totaling approximately $600.7 million paid to stockholders on August 23, 2012.
The Company may redeem the 2012 Senior Notes at its option at a redemption price equal to the greater of (a) 100% of the principal amount of the notes to be redeemed and (b) the sum of the present values of the remaining scheduled principal and interest payments from the redemption date to the date of maturity discounted to the redemption date on a semi-annual basis at the Treasury rate, plus 50 basis points. Additionally, at the option of the holders of the 2012 Senior Notes, the Company may be required to repurchase all or a portion of the 2012 Senior Notes of a holder upon the occurrence of a change of control event at a price equal to 101% of their aggregate principal amount, plus accrued and unpaid interest, to the date of repurchase.
On July 9, 2020, the Company commenced the Tender Offer to purchase up to $160.0 million aggregate principal amount of the Company’s 2012 Senior Notes subject to increase or decrease. The Tender Offer was subsequently upsized to $180.0 million aggregate principal amount of the 2012 Notes. On July 23, 2020, the Company amended the Tender Offer by increasing the aggregate principal maximum tender amount from $180.0 million to $183.4 million . The Tender Offer settled on July 24, 2020 for $197.8 million , including an early tender premium, settlement fees, and accrued interest paid. In combination with the early pay off of the Term Loan, the Company recorded a loss on extinguishment of debt of $16.0 million in the third quarter of 2020.
Fixed Rate Collateralized Mortgage
On December 30, 2014, a court awarded the Company title to an office building as settlement for a portion of an outstanding loan receivable for which the building was pledged as collateral. In conjunction with the court award, the Company also assumed the $9.5 million mortgage on the property with a fixed interest rate of 7.26%. The mortgage is collateralized by the
38
Table of Contents
office building, requires monthly payments of principal and interest, and matures in December 2020 with a balloon payment due of $6.9 million. At the time of acquisition, the Company determined that the fixed interest rate of 7.26% exceeded market interest rates and therefore the Company increased the carrying value of the debt by $1.2 million to record the debt at fair value. The fair value adjustment will be amortized over the remaining term of the mortgage utilizing the effective interest method.
Economic Development Loans
The Company entered into economic development agreements with various governmental entities in conjunction with the relocation of its corporate headquarters in April 2013. In accordance with these agreements, the governmental entities agreed to advance approximately $4.4 million to the Company to offset a portion of the corporate headquarters relocation and tenant improvement costs in consideration of the employment of permanent, full-time employees within the jurisdictions. At September 30, 2020 , the Company had been fully advanced the amounts due pursuant to these agreements. These advances bear interest at a rate of 3% per annum.
Repayment of the advances is contingent upon the Company achieving certain performance conditions. Performance conditions are measured annually on December 31 st and primarily relate to maintaining certain levels of employment within the various jurisdictions. If the Company fails to meet an annual performance condition, the Company may be required to repay a portion or all of the advances including accrued interest by April 30 th following the measurement date. Any outstanding advances at the expiration of the Company's 10 year corporate headquarters lease in 2023 will be forgiven in full. The advances will be included in long-term debt in the Company's consolidated balance sheets until the Company determines that the future performance conditions will be met over the entire term of the agreement and the Company will not be required to repay the advances. The Company accrues interest on the portion of the advances that it expects to repay. The Company was in compliance with all applicable current performance conditions as of September 30, 2020 .
Construction Loan Commitment
In March 2018, the Company entered into a construction loan agreement for the rehabilitation and development of a former office building into a Cambria Hotel through a consolidating joint venture with a commercial lender, which is secured by the building. The construction loan can be drawn up to $34.9 million . The Company has a carve-out guaranty and the unaffiliated joint venture partner has a completion guaranty in relation to the loan, in which both parties are required to meet certain financial covenants relating to liquidity and net worth. The rehabilitation of the building is considered a qualified asset in which requires a significant amount of time to prepare for its intended use. Therefore, any interest costs incurred during the development period of the building is considered an element of the historical cost of the qualifying asset. The construction was completed and the hotel opened in the third quarter of 2019, resulting in the satisfaction of the completion guaranty. On March 5, 2020 , the Company paid off the construction loan in the amount $33.1 million inclusive of accrued and unpaid interest and recorded a loss on extinguishment of debt of $0.6 million .
Dividends
The Company commenced paying quarterly dividends in 2004. In 2012, the Company elected to pay a special cash dividend totaling approximately $600 million.
During the nine months ended September 30, 2020 , the Company paid cash dividends totaling $25.3 million . The most recent dividend declaration from the Company's board of directors was on February 28, 2020 in the amount of $0.225 per share and paid on April 16, 2020 . In light of uncertainty resulting from the COVID-19 pandemic, and as previously disclosed, we determined to suspend future, undeclared dividends for at least the remainder of 2020.
Share Repurchases
In 1998, we instituted a share repurchase program which has generated substantial value for our shareholders.
During the nine months ended September 30, 2020 , the Company repurchased 0.5 million shares of its common stock under the share repurchase program at a total cost of $43.3 million . Through September 30, 2020 , the Company had repurchased 51.6 million shares of its common stock (including 33.0 million prior to the two-for-one stock split effected in October 2005) under the program at a total cost of $1.5 billion . Considering the effect of the two-for-one stock split, the Company has repurchased 84.6 million shares at an average price of $17.55 per share. As of September 30, 2020 , the Company had 3.4 million shares remaining under the current share repurchase authorization. However, in light of uncertainty resulting from the COVID-19 pandemic, and as previously disclosed, we have temporarily suspended activity under our share repurchase program.
39
Table of Contents
During the nine months ended September 30, 2020 , the Company redeemed 123,029 shares of common stock at a total cost of approximately $11.9 million from employees to satisfy the option exercise price and statutory minimum tax-withholding requirements related to the exercising of stock options and vesting of performance vested restricted stock units and restricted stock grants. These redemptions were outside the share repurchase program.
Given our long-standing commitment to returning value to shareholders, we expect to consider resuming payment of a quarterly dividend and/or resuming the repurchase of the Company's stock in the future, at such time that conditions are appropriate. We currently have no estimated time frame for when this may occur.
Off Balance Sheet Arrangements
The Company has entered into various limited payment guaranties with regards to the Company’s VIEs supporting the VIE’s efforts to develop and own hotels franchised under the Company’s brands. Under these limited payment guaranties, the Company has agreed to guarantee a portion of the outstanding debt until certain conditions are met, such as (a) the loan matures, (b) certain debt covenants are achieved, (c) the maximum amount guaranteed by the Company is paid in full or (d) the Company, through its affiliates, ceases to be a member of the VIE. The maximum exposure of principal incidental to these limited payment guaranties is $5.7 million , plus unpaid expenses and accrued unpaid interest. As of September 30, 2020 and December 31, 2019 , the Company believed the likelihood of having to perform under the aforementioned limited payment guaranties was remote. In the event of performance, the Company has recourse for one of the transactions in the form of a membership interest pledge as collateral for our guaranty. Refer to Note 12 for further discussion of our off-balance sheet arrangements.
Critical Accounting Policies
Our accounting policies comply with principles generally accepted in the United States. Discussion of these policies is included in Note 1 to our consolidated financial statements as of and for the year ended December 31, 2019 included in our Annual Report on Form 10-K, which incorporates description of our critical accounting policies that involve subjective and complex judgments that could potentially affect reported results.
New Accounting Standards
Refer to the "Recently Adopted Accounting Standards" and "Recently Issued Accounting Standard" sections of Note 1 for information related to our adoption of new accounting standards in 2020 and for information on our anticipated adoption of recently issued accounting standards.
FORWARD-LOOKING STATEMENTS
Certain matters discussed in this quarterly report constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Certain, but not necessarily all, of such forward-looking statements can be identified by the use of forward-looking terminology, such as "expect," "estimate," "believe," "anticipate," "should," "will," "forecast," "plan," "project," "assume" or similar words of futurity. All statements other than historical facts are forward-looking statements. These forward-looking statements are based on management's current beliefs, assumptions and expectations regarding future events, which in turn are based on information currently available to management. Such statements may relate to projections of the Company's revenue, expenses, earnings, debt levels, ability to repay outstanding indebtedness, payment of dividends, repurchases of common stock, and other financial and operational measures, including occupancy and open hotels, the our ability to benefit from any rebound in travel demand, our liquidity, our ability to assist franchisees through relief or other financial measures, our ability to minimize or manage disruptions posed by COVID-19, our ability to achieve cost savings and reduce discretionary spending and investments, and the impact of COVID-19 and economic conditions on our future operations, among other matters. We caution you not to place undue reliance on any such forward-looking statements. Forward-looking statements do not guarantee future performance and involve known and unknown risks, uncertainties and other factors.
Several factors could cause our actual results, performance or achievements to differ materially from those expressed in or contemplated by the forward-looking statements. Such risks include, but are not limited to, continuation, resurgence or worsening of the COVID-19 pandemic, including quarantines, "shelter-in-place" orders, or other travel restrictions; new information which may emerge concerning the severity or impact of the COVID-19 pandemic and the development of vaccines and treatments for COVID-19; changes in consumer demand and confidence, including the impact of the COVID-19 pandemic on unemployment rates, consumer discretionary spending and the demand for travel, transient and group business; the impact of COVID-19 on the global hospitality industry, particularly but not exclusively in the U.S. travel market; the success of our mitigation efforts in response to the COVID-19 pandemic; the performance of our brands and categories in any recovery from
40
Table of Contents
the COVID-19 pandemic disruption; the timing and amount of future dividends and share repurchases; changes to general, domestic and foreign economic conditions, including access to liquidity and capital as a result of COVID-19; future domestic or global outbreaks of COVID-19 or other epidemics, pandemics or contagious diseases or fear of such outbreaks; changes in law and regulation applicable to the travel, lodging or franchising industries; foreign currency fluctuations; impairments or declines in the value of our assets; operating risks common in the travel, lodging or franchising industries; changes to the desirability of our brands as viewed by hotel operators and customers; changes to the terms or termination of our contracts with franchisees and our relationships with our franchisees; our ability to keep pace with improvements in technology utilized for marketing and reservations systems and other operating systems; the commercial acceptance of our SaaS technology solutions division's products and services; our ability to grow our franchise system; exposure to risks related to our hotel development, financing, and ownership activities; exposures to risks associated with our investments in new businesses; fluctuations in the supply and demand for hotel rooms; our ability to realize anticipated benefits from acquired businesses; impairments or losses relating to acquired businesses; the level of acceptance of alternative growth strategies we may implement; cyber security and data breach risks; ownership and financing activities; hotel closures or financial difficulties of our franchisees; operating risks associated with our international operations, especially in areas currently most affected by COVID-19; the outcome of litigation; our ability to effectively manage our indebtedness and secure our indebtedness; and any future resurgence of COVID-19. These and other risk factors are discussed in detail in the Risk Factors section of this quarterly report on Form 10-Q and of the Company's Annual Report on Form 10-K for the year ended December 31, 2019 , filed with the SEC on March 2, 2020 . We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise, except as required by law.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.