SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTER ENDED JUNE 30, 2001 COMMISSION FILE NO. 1-11915 CHOICE HOTELS INTERNATIONAL, INC. 10750 COLUMBIA PIKE SILVER SPRING, MD. 20901 (301) 592-5000 Delaware 52-1209792 ------------------------ ------------------------- (STATE OF INCORPORATION) (I.R.S. EMPLOYER IDENTIFICATION NUMBER) ___________________________________________ (Former name, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes X No_____ ----- SHARES OUTSTANDING CLASS AT JUNE 30, 2001 - ----------------------- ------------------------ Common Stock, $0.01 par value per share 43,692,940 ---------- ==============================================================================
CHOICE HOTELS INTERNATIONAL, INC. INDEX ----- <TABLE> <CAPTION> PAGE NO. -------- <S> <C> PART I. FINANCIAL INFORMATION: Condensed Consolidated Balance Sheets - June 30, 2001 (Unaudited) and December 31, 2000 3 Consolidated Statements of Income - Three months ended June 30, 2001 and June 30, 2000 and six months ended June 30, 2001 and June 30, 2000 (Unaudited) 5 Consolidated Statements of Cash Flows - Six months ended June 30, 2001 and June 30, 2000 (Unaudited) 6 Notes to Consolidated Financial Statements (Unaudited) 7 Management's Discussion and Analysis of Operations and Financial Condition 9 Quantitative and Qualitative Analysis of Market Risk 12 PART II. OTHER INFORMATION AND SIGNATURE 13 </TABLE> 2
PART I. FINANCIAL INFORMATION CHOICE HOTELS INTERNATIONAL, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> June 30, 2001 December 31, 2000 -------------- ----------------- (Unaudited) ASSETS CURRENT ASSETS <S> <C> <C> Cash and cash equivalents $ 6,998 $ 19,701 Receivables (net of allowance for doubtful accounts of $6,353 and $5,754, respectively) 32,862 31,865 Income taxes receivable and other current assets - 520 -------- -------- Total current assets 39,860 52,086 PROPERTY AND EQUIPMENT, AT COST, NET OF ACCUMULATED DEPRECIATION 74,037 72,946 GOODWILL, NET OF ACCUMULATED AMORTIZATION 61,641 62,663 FRANCHISE RIGHTS, NET OF ACCUMULATED AMORTIZATION 37,710 39,163 INVESTMENT IN FRIENDLY HOTELS PLC 31,859 34,616 ADVANCES TO MARKETING AND RESERVATION FUNDS 52,819 57,824 OTHER ASSETS 28,334 27,330 NOTE RECEIVABLE FROM SUNBURST HOSPITALITY CORP. 36,957 137,492 -------- -------- Total assets $363,217 $484,120 ======== ======== </TABLE> The accompanying notes are an integral part of these condensed consolidated balance sheets. 3
CHOICE HOTELS INTERNATIONAL, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> June 30, 2001 December 31, 2000 -------------- ------------------ (Unaudited) <S> <C> <C> LIABILITIES & EQUITY CURRENT LIABILITIES Current portion of long-term debt $ 11,396 $ 50,046 Accounts payable 19,066 15,964 Accrued expenses 20,901 27,818 Income taxes payable 6,218 - --------- --------- Total current liabilities 57,581 93,828 --------- --------- LONG-TERM DEBT 276,400 247,179 --------- --------- DEFERRED INCOME TAXES ($35,902 and $39,573, respectively) AND OTHER LIABILITIES 49,973 53,020 --------- --------- Total liabilities 383,954 394,027 --------- --------- SHAREHOLDERS' (DEFICIT) EQUITY Common stock, $.01 par value 458 526 Additional paid-in-capital 60,825 55,245 Accumulated other comprehensive loss (568) (54) Deferred compensation (3,502) (1,300) Treasury stock (263,763) (129,172) Retained earnings 185,813 164,848 --------- --------- Total shareholders' (deficit) equity (20,737) 90,093 --------- --------- Total liabilities & shareholders' (deficit) equity $ 363,217 $ 484,120 ========= ========= </TABLE> The accompanying notes are an integral part of these condensed consolidated balance sheets. 4
CHOICE HOTELS INTERNATIONAL, INC. CONSOLIDATED STATEMENTS OF INCOME (UNAUDITED, IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) <TABLE> <CAPTION> Three Months Ended Six Months Ended June 30, June 30, June 30, June 30, 2001 2000 2001 2000 (Unaudited) (Unaudited) <S> <C> <C> <C> <C> REVENUES Royalty fees $36,048 $34,328 $63,003 $59,213 Initial franchise and relicensing fees 3,331 3,435 5,649 6,782 Partner service revenue 3,964 2,088 5,902 4,386 Hotel operations 921 - 1,706 - Other 943 1,314 2,297 2,429 ------- ------- ------- ------- Total revenues 45,207 41,165 78,557 72,810 ------- ------- ------- ------- OPERATING EXPENSES Selling, general and administrative 15,188 14,071 27,676 26,299 Hotel operations 661 - 1,181 - Depreciation and amortization 3,002 3,053 5,892 5,555 ------- ------- ------- ------- Total operating expenses 18,851 17,124 34,749 31,854 ------- ------- ------- ------- OPERATING INCOME 26,356 24,041 43,808 40,956 OTHER Interest and dividend income (1,023) (3,911) (2,172) (7,776) Interest expense 3,770 4,609 8,082 9,225 Equity loss - Friendly Hotels plc 763 164 2,921 1,889 Gain on sale of investments (42) - (42) - Write-off of deferred financing costs 650 - 650 - Loss on early prepayment of note - 4,100 - 4,100 ------- ------- ------- ------- Total other 4,118 4,962 9,439 7,438 ------- ------- ------- ------- INCOME BEFORE INCOME TAXES 22,238 19,079 34,369 33,518 INCOME TAXES 8,673 7,441 13,404 13,072 ------- ------- ------- ------- NET INCOME $13,565 $11,638 $20,965 $20,446 ======= ======= ======= ======= WEIGHTED AVERAGE SHARES OUTSTANDING 44,349 53,092 44,759 53,038 ------- ------- ------- ------- DILUTED SHARES OUTSTANDING 44,778 53,534 45,174 53,688 ------- ------- ------- ------- BASIC EARNINGS PER SHARE $ 0.31 $ 0.22 $ 0.47 $ 0.39 ======= ======= ======= ======= DILUTED EARNINGS PER SHARE $ 0.30 $ 0.22 $ 0.46 $ 0.38 ======= ======= ======= ======= </TABLE> The accompanying notes are an integral part of these consolidated statements of income. 5
CHOICE HOTELS INTERNATIONAL, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED, IN THOUSANDS) <TABLE> <CAPTION> Six Months Ended June 30, 2001 June 30, 2000 ------------- ------------- (Unaudited) <S> <C> <C> CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 20,965 $ 20,446 Reconciliation of net income to net cash provided by operating activities: Depreciation and amortization 5,892 5,555 Deferred income taxes and other (3,452) 7,779 Equity loss on Friendly Hotels plc 2,921 1,889 Non-cash interest and dividend income (2,117) (7,668) Write-off of deferred financing costs 650 - Provision for bad debts 124 (433) Loss on early prepayment of note - 4,100 Changes in assets and liabilities: Change in income taxes payable/receivable and other 6,994 (2,417) Change in accounts payable and accrued expenses (4,592) (10,115) Change in receivables (260) 1,499 --------- -------- NET CASH PROVIDED BY OPERATING ACTIVITIES 27,125 20,635 --------- -------- CASH FLOW FROM INVESTING ACTIVITIES: Proceeds from Sunburst Hospitality Corp. note receivable 101,954 - Repayments from/(advances to) marketing and reservation funds, net 10,795 (20,412) Investment in property and equipment (7,627) (9,321) Other items, net 33 1,370 --------- -------- NET CASH PROVIDED (UTILIZED) BY INVESTING ACTIVITIES 105,155 (28,363) --------- -------- CASH FLOW FROM FINANCING ACTIVITIES: Principal payments of long-term borrowings (356,461) (31,585) Proceeds from long-term borrowings, net of financing costs 344,392 60,300 Purchase of treasury stock (134,552) (16,465) Proceeds from exercise of stock options 1,638 1,201 --------- -------- NET CASH (UTILIZED) PROVIDED BY FINANCING ACTIVITIES (144,983) 13,451 --------- -------- Net change in cash and cash equivalents (12,703) 5,723 Cash and cash equivalents, beginning of period 19,701 11,850 --------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 6,998 $ 17,573 ========= ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash payments during the period for: Income taxes, net of refunds $ 10,250 $ 7,989 Interest 10,095 11,446 Non-cash investing activities: Property assumed through the restructuring of Sunburst Hospitality Corp. note receivable 1,475 - </TABLE> The accompanying notes are an integral part of these consolidated statements of cash flows. 6
CHOICE HOTELS INTERNATIONAL, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) 1. Company Information / Basis of Presentation - The accompanying consolidated financial statements of Choice Hotels International, Inc. (the "Company") and subsidiaries have been prepared by the Company without audit. Certain information and footnote disclosures normally included in financial statements presented in accordance with generally accepted accounting principles have been condensed or omitted. The Company believes the disclosures made are adequate to make the information presented not misleading. The consolidated financial statements should be read in conjunction with the consolidated financial statements for the year ended December 31, 2000 and notes thereto included in the Company's Form 10-K, dated March 30, 2001. In the opinion of management, all adjustments (which include any normal recurring adjustments) considered necessary for a fair presentation have been included. Interim results are not necessarily indicative of fiscal year performance because of seasonal and short- term variations. All intercompany transactions and balances between Choice Hotels International, Inc. and its subsidiaries have been eliminated. Certain reclassifications have been made to the prior year financial statements to conform to the current year presentation. 2. Comprehensive Income - During the six months ended June 30, 2001 and 2000, the Company's comprehensive income (consisting of net income plus/minus foreign currency translation adjustments and unrealized gains/losses on available for sale securities) was lower than net income by approximately $514,000 and $592,000, respectively. 3. Marketing and Reservation Funds - The Company presents marketing and reservation fees such that the fees collected and associated expenses are reported net. The total marketing, reservation, and property and yield management systems fees received by the Company were $45.3 million and $41.0 million for the three months ended June 30, 2001 and 2000, respectively, and $79.5 million and $71.2 million for the six months ended June 30, 2001 and 2000, respectively. Depreciation and amortization expense incurred by the marketing and reservation funds was $2.9 million and $2.3 million for the three months ended June 30, 2001 and 2000, respectively, and $5.8 million and $5.1 million for the six months ended June 30, 2001 and 2000, respectively. Depreciation and amortization is included in the Statement of Cash Flows, as a reduction to the advances to marketing and reservation funds. Interest expense incurred by the reservation fund was $0.6 million and $1.3 million for the three months ended June 30, 2001 and 2000, respectively, and $1.1 million and $2.4 million for the six months ended June 30, 2001 and 2000, respectively. Reservation fees and marketing fees not expended in the current year are carried over to the next fiscal year and expended in accordance with the franchise agreements. Shortfall amounts are similarly recovered in subsequent years. Excess or shortfall amounts from the operation of these programs are recorded as a payable or receivable from the particular fund. The Company advances capital as necessary to the marketing and reservation funds to support the development and ongoing operations of the franchise system. As of June 30, 2001, the Company's balance sheet includes a receivable of $52.8 million related to advances made to the marketing ($15.9 million) and reservation ($36.9 million) funds. As of December 31, 2000, the Company's balance sheet includes a receivable of $57.8 million related to advances made to the marketing ($24.9 million) and reservation ($32.9 million) funds. The Company has the ability under existing franchise agreements and expects to recover these advances through future marketing, reservation and technology fees. 4. Income Taxes - The income tax provision for the period is based on the effective tax rate expected to be applicable for the full year. The 2001 six month rate of 39% differs from the statutory rate primarily because of state income taxes. 5. Earnings Per Share - Basic earnings per share (EPS) amounts are computed by dividing earnings applicable to common shareholders by the weighted average number of common shares outstanding. Diluted EPS amounts assume the issuance of common stock for all potentially dilutive equivalents outstanding. 7
6. Reportable Segment Information - The Company has a single reportable segment encompassing its franchising business. Franchising revenues are comprised of royalty fees, initial franchise and relicensing fees, and partner services revenue and other. Marketing and reservation fees and expenses are excluded from reportable segment information as such fees and associated expenses are reported net. Corporate and other revenue consists of the operations of three MainStay hotels. The Company does not allocate interest income, interest expense or income taxes to its franchising segment. The following table presents the financial information for the Company's franchising segment. <TABLE> <CAPTION> Three Months Ended June 30, 2001 (In thousands) Franchising Corporate & Other Consolidated ---------------------------------------------------------------------------- <S> <C> <C> <C> Revenues $44,286 $ 921 $45,207 Operating income (loss) 40,493 (14,137) 26,356 <CAPTION> Three Months Ended June 30, 2000 Franchising Corporate & Other Consolidated ---------------------------------------------------------------------------- <S> <C> <C> <C> Revenues $41,165 $ - $41,165 Operating income (loss) 34,685 (10,644) 24,041 <CAPTION> Six Months Ended June 30, 2001 Franchising Corporate & Other Consolidated ---------------------------------------------------------------------------- <S> <C> <C> <C> Revenues $76,852 $ 1,705 $78,557 Operating income (loss) 67,214 (23,406) 43,808 <CAPTION> Six Months Ended June 30, 2000 Franchising Corporate & Other Consolidated ---------------------------------------------------------------------------- <S> <C> <C> <C> Revenues $72,810 $ - $72,810 Operating income (loss) 59,910 (18,954) 40,956 </TABLE> 7. Restructuring Program - During 2000, the Company recognized $5.6 million in restructuring charges. The restructuring charges include severance and termination benefits for 176 employees (consisting of property and yield management system installers, reservation agents and field service administrative support), the cancellation of pre-existing international lease contracts, and the termination of its internet initiative launched in 1999. The Company charged $1.1 million (including $1.0 million of termination benefits) against the restructuring liability during the three months ended June 30, 2001 and $3.0 million (including $2.7 million of termination benefits) for the six months ended June 30, 2001. All 176 employees, per the severance plan, have been terminated. The Company expects the remaining $2.1 million restructuring liability to be paid in 2001. 8. Investment in Friendly - In January 2001, Friendly Hotels, PLC ("Friendly"), the Company's master franchisor for the United Kingdom, Ireland and continental Europe, completed a comprehensive restructuring program to strengthen Friendly's balance sheet and improve its operations. The Company recorded equity losses related to its investment in Friendly of $0.8 million and $0.2 million for the three months ended June 30, 2001 and 8
2000, respectively, and $2.9 million and $1.9 million for the six months ended June 30, 2001 and 2000, respectively, in accordance with Emerging Issues Task Force ("EITF") No. 99-10, "Percentage Used to Determine the Amount of Equity Method Losses." EITF No. 99-10 requires the Company to recognize changes in Friendly's hypothetical liquidated book value as an adjustment to the Company's recorded investment. The Company continues to pursue various strategic options with respect to its investment in Friendly and business in Europe. In the event that such strategic alternatives are not viable and Friendly's financial condition deteriorates, there may not be sufficient cash from operations and available credit lines to fund the business. In the event of such illiquidity, the Company does not intend to provide additional capital and may be required to further writedown its investment in Friendly. As of June 30, 2001, the Company's letter of credit guarantee was reduced from 7.8 million (GBP) to 5.3 million (GBP). 9. Long-Term Debt - On June 29, 2001, the Company refinanced its senior credit facility (the "New Credit Facility") in the amount of $260 million with a new maturity date of June 29, 2006. The New Credit Facility provides for a term loan of $150 million and a revolving credit facility of $110 million, $37 million of which is available for borrowings in foreign currencies. The Company may also obtain an additional $65 million in commitments, bringing the total available commitments under the New Credit Facility to $325 million. The New Credit Facility includes customary financial and other covenants that require the maintenance of certain ratios including maximum leverage and interest coverage and restricts the Company's ability to make certain investments, incur debt and dispose of assets. The term loan ($150 million of which is outstanding at June 30, 2001) is payable over 5 years, $11.3 million of which is due over the next 12 months. Borrowings under the New Credit Facility are, at the option of the borrower, at one of several rates including LIBOR plus .60% to 2.0% basis points, based upon the credit rating of the Company and the loan type. In addition, the Company has the option to request participating banks to bid on loan participation at lower rates than those contractually provided by the New Credit Facility. The New Credit Facility requires the Company to pay annual fees of 1/15 of 1% to 1/2 of 1% based upon the credit rating of the Company. 10. Recent Accounting Pronouncements - In June 1998, the Financial Accounting Standards Board ("FASB") issued Statements of Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative Instruments and Hedging Activities," which established accounting and reporting standards for derivative instruments, including derivative instruments embedded in other contracts, and for hedging activities. SFAS No. 133 requires the recognition of the fair value of derivatives in the statement of financial position, which changes in the fair value recognized either in earnings or as a component of other comprehensive income dependent upon the hedging nature of the derivative. In June 1999, the FASB issued SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities - Deferral of the Effective Date of FASB Statement No. 133," which deferred the effective date of SFAS No. 133 until fiscal years beginning after June 15, 2000. The Company's adoption of SFAS No. 133 did not have an impact on the Company's earnings or other comprehensive income. In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets," which updates accounting and reporting standards for the amortization of goodwill and recognition of other intangible assets. SFAS No. 142 requires goodwill to be assessed on at least an annual basis for impairment using a fair value basis. The Company will be required to adopt SFAS No. 142 by January 1, 2002. The Company estimates that upon adoption of SFAS No. 142, goodwill amortization expense of $2 million per year will no longer be required. MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION - -------------------------------------------------------------------------- Comparison of Three Month Period Ended June 30, 2001 Operating Results and Three - -------------------------------------------------------------------------------- Month Period Ended June 30, 2000 Operating Results - -------------------------------------------------- The Company recorded net income of $13.6 million, or $0.30 per diluted share, for the quarter ended June 30, 2001, compared to net income for the same period of 2000 of $11.6 million, or $0.22 per diluted share. The increase in net income for the period is primarily attributable to an increase in royalty fees, due primarily to an increase in the effective royalty rate achieved for the domestic hotel system, overall growth in our worldwide franchise system, and increased partner services revenue earned during the second 9
quarter of 2001, as compared to the corresponding prior year period. Net income for the period was adversely effected by a reduction in interest income from the corresponding prior year period due to the settlement of the Company's previous note receivable balance from Sunburst Hospitality Corporation ("Sunburst"). Franchise Revenues - ------------------ The Company's franchise revenues were $44.3 million and $41.2 million for the three months ended June 30, 2001 and 2000, respectively. Royalties increased $1.7 million to $36.0 million in 2001 from $34.3 million in 2000, an increase of 5.0%. The increase in royalties is attributable to an increase in the domestic effective royalty rate from 3.79% in second quarter 2000 to 3.94% in 2001 in addition to a net increase of 130 franchised hotels during the twelve month period between June 30, 2000 and June 30, 2001 (representing an additional 11,250 rooms). Revenues generated from partner service relationships increased $1.9 million to $4.0 million in 2001 from $2.1 million in 2000, partially due to a change in timing of the Company's annual convention. The total number of domestic hotels online increased to 3,249 from 3,176, an increase of 2.3% for the three months ended June 30, 2001, as compared to the corresponding prior year period. This represents an increase in the number of rooms open of 1.6% from 262,045 as of June 30, 2000 to 266,187 as of June 30, 2001. As of June 30, 2001, the Company had 455 hotels under development in its domestic hotel system representing 34,948 rooms. The total number of international hotels online increased to 1,184 from 1,127, an increase of 5.1% for the three months ended June 30, 2001, as compared to the corresponding prior year period. International rooms open increased 8.7% from 81,466 as of June 30, 2000 to 88,574 as of June 30, 2001. The total number of international hotels and rooms under development was 207 and 21,024, respectively, as of June 30, 2001. Franchise Expenses - ------------------ The cost to operate the franchising business is reflected in selling, general and administrative expenses. Selling, general and administrative expenses increased to $15.2 million from $14.1 million, an increase of $1.1 million for the three months ended June 30, 2001, as compared to the corresponding prior period. The increase is substantially related to the Company's Quality, Sleep Inn and Comfort Suites brand reimaging initiative. As a percentage of total net franchising revenues, total selling, general and administrative expenses remained constant for 2001 as compared to 2000. Other - ------ The Company acquired three MainStay properties from Sunburst in September 2000. Hotel operations include revenue of $0.9 million and expenses of $0.7 million for the three months ended June 30, 2001. For the three months ended June 30, 2001 and June 30, 2000, the Company recognized approximately $1.0 million and $3.9 million, respectively, of interest income from its subordinated term note to Sunburst. The Company recorded equity loses of $0.8 million and $0.2 million for the three months ended June 30, 2001 and 2000, respectively, related to changes in its equity investment in Friendly Hotels plc. MANAGEMENT'S DISCUSSION AND ANALYSIS OF OPERATIONS AND FINANCIAL CONDITION - -------------------------------------------------------------------------- Comparison of Six Month Period Ended June 30, 2001 Operating Results and Six - ---------------------------------------------------------------------------- Month Period Ended June 30, 2000 Operating Results - -------------------------------------------------- The Company reported net income of $21.0 million, or $0.46 per diluted share, for the six months ended June 30, 2001, compared to net income for the same period of 2000 of $20.4 million, or $0.38 per diluted share. The increase in net income for the period is primarily attributable to an increase in royalty fees due primarily to an increase in the 10
effective royalty rate achieved for the domestic hotel system, net operating revenues from the Company's three MainStay properties and increased partner service revenues earned during the first six months of 2001, as compared to the corresponding prior year period. Net income for the period was adversely effected by a reduction in interest income from the corresponding prior year period due to the settlement of the Company's previous note receivable balance from Sunburst. Franchise Revenues - ------------------ The Company's franchise revenues were $76.9 million for the six months ended June 30, 2001 and $72.8 million for the six months ended June 30, 2000. Royalties increased $3.8 million to $63.0 million in 2001 from $59.2 million in 2000, an increase of 6.4%. The increase in royalties is attributable to an increase in the effective royalty rate from 3.81% in 2000 to 3.91% in 2001, an increase in domestic RevPAR of 2.0% from $32.17 in 2000 to $32.82 in 2001 and a net increase of 130 franchised hotels during the twelve month period between June 30, 2000 and June 30, 2001 (representing an additional 11,250 rooms). Revenues generated from partner service relationships increased $1.5 million from $4.4 million in 2000 to $5.9 million in 2001. Franchise Expenses - ------------------ Selling, general and administrative expenses increased to $27.7 million from $26.3 million, an increase of $1.4 million for the six months ended June 30, 2001, as compared to the corresponding prior period. The increase is substantially related to the Company's reimaging initiative. As a percentage of total net franchising revenues, total selling, general and administrative expenses remained constant for 2001 as compared to 2000. Other - ------ Hotel operations from the Company's three MainStay properties include revenue of $1.7 million and expenses of $1.2 million, for the six months ended June 30, 2001. For the six months ended June 30, 2001 and June 30, 2000, the Company recognized approximately $2.1 million and $7.7 million, respectively, of interest income from its subordinated term note to Sunburst. The Company recorded equity losses of $2.9 million and $1.9 million for the six months ended June 30, 2001 and 2000, respectively, related to changes in its equity investment in Friendly Hotels plc. LIQUIDITY AND CAPITAL RESOURCES - ------------------------------- Net cash provided by operating activities was $27.1 million for the six months ended June 30, 2001, which represents an increase of approximately $6.5 million from $20.6 million for 2000. At June 30, 2001, the total long-term debt outstanding for the Company was $287.8 million, $11.4 million of which matures in the next twelve months. The Company implemented a corporate-wide reorganization during 2000 to provide a more consistent service to franchisees, establish a centralized sales focus and create a more competitive overhead structure. The Company charged $1.1 million against the restructuring liability during the three months ended June 30, 2001 and $3.0 million for the six months ended June 30, 2001. The Company expects the remaining $2.1 million restructuring liability to be paid in 2001. The Company received net cash repayments from the marketing and reservation funds totaling $10.8 million during the six months ended June 30, 2001. These repayments are associated with cost reductions from restructured operations, growth in fees from normal operations and increases in property and yield management fees. The Company has the ability under its existing franchise agreements and expects to continue to recover advances through future marketing and reservation fees. The Company expects net cash repayments from the marketing and reservation funds to approximate $12 million for the year 2001. Increased advertising 11
expenses in the second half of 2001 account for the nominal increase in 2001 full year net cash repayments. For the first six months of 2001, the Company has repurchased 9.3 million shares of its common stock at a total cost of $134.3 million as of June 30, 2001. As of July 20, 2001, the Company has authorization from its Board of Directors to repurchase up to an additional 6.7 million shares. The Company refinanced its senior credit facility in the amount of $260 million with a new maturity date of June 29, 2006. The new senior credit facility will also allow the Company to obtain up to an additional $65 million in commitments within 120 days from closing. The proceeds from the financing will be used for general corporate purposes, including working capital, debt repayment, stock repurchases, investments and acquisitions. The Company believes that cash flows from operations and available financing capacity is adequate to meet the expected operating, investing and financing requirements for the business for the immediate future. FORWARD-LOOKING STATEMENTS - -------------------------- Certain statements in this report that are not historical facts constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act. Words such as "believes," "anticipates," "expects," "intends," "estimates," "projects," and other similar expressions, which are predictions of or indicate future events and trends, typically identify forward- looking statements. Such statements are subject to a number of risks and uncertainties which could cause actual results to differ materially from those projected, including: competition within each of our business segments; business strategies and their intended results; the balance between supply of and demand for hotel rooms; our ability to obtain new franchise agreements; our ability to develop and maintain positive relations with current and potential hotel owners; the effect of international, national and regional economic conditions; the availability of capital to allow us and potential hotel owners to fund investments and construction of hotels; the cost and other effects of legal proceedings; and other risks described from time to time in our filings with the Securities and Exchange Commission, including those set forth under the heading "Risk Factors" in our Report on Form 10-Q for the period ended June 30, 1999. Given these uncertainties, you are cautioned not to place undue reliance on such statements. We also undertake no obligation to publicly update or revise any forward-looking statement to reflect current or future events or circumstances. ITEM 3. QUANTITATIVE AND QUALITATIVE ANALYSIS OF MARKET RISK ---------------------------------------------------- The Company is exposed to market risk from changes in interest rates and the impact of fluctuations in foreign currencies on the Company's foreign investments and revenues. The Company manages its exposure to this market risk through the monitoring of its available financing alternatives including in certain circumstances the use of derivative financial instruments. The Company's strategy to manage exposure to changes in interest rates and foreign currencies remains unchanged from 1997. Furthermore, the Company does not foresee any significant changes in exposure in these areas or in how such exposure is managed in the near future. At June 30, 2001 and December 31, 2000, the Company had $287.8 million and $297.2 million of debt outstanding at an effective interest rate of 6.6% and 7.3%, respectively. A hypothetical change of 10% in the Company's effective interest rate from quarter-end 2001 levels would increase or decrease interest expense by $1.3 million. The Company expects to refinance the $150 million variable rate term loan as it amortizes throughout the maturity dates. Upon expiration of the Credit Facility in 2006, the Company expects to refinance its obligations. For more information related to the Company's use of interest rate instruments, see Long-Term Debt, Interest Rate Hedges and Fair Value of Financial Instruments in the Notes to the Consolidated Financial Statements in the Company's December 31, 2000 Form 10-K. The Company is also exposed to fluctuations in foreign currency relating to its preferred stock investment in Friendly that is denominated in British Pounds. 12
PART II OTHER INFORMATION - ------------------------- ITEM 1. LEGAL PROCEEDINGS ----------------- The Company is not party to any litigation, other than routine litigation incidental to the business of the Company. None of such litigation, either individually or in the aggregate, is expected to be material to the business, financial condition or results of operations of the Company. ITEM 4. SUMBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS ---------------------------------------------------- The Annual Meeting of Shareholders of the Company was held on May 15, 2001. At the meeting, Jerry E. Robertson and Raymond E. Schultz were elected to a three year term expiring in 2004. The term of the following directors continues after the meeting: Stewart Bainum, Jr. Barbara Bainum William L. Jews Charles A. Ledsinger, Jr. Lawrence R. Levitan No other matters were voted upon at the meeting. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K -------------------------------- (a) Exhibits Exhibit 10.1 - Competitive Advance and Multi-Currency Credit Facilities Agreement - June 29, 2001. (b) The following reports were filed pertaining to the period ended June 30, 2001. None 13
SIGNATURE Pursuant to the requirements of the Securities Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CHOICE HOTELS INTERNATIONAL, INC. Date: August 6, 2001 /s/ Joseph M. Squeri -------------- ------------------------------------------------- By: Joseph M. Squeri Sr. VP, Chief Financial Officer and Treasurer 14