| [4]Business [5]Item 1A [6]Risk Factors [7]27 Item 1A Risk Factors Our business faces many risks |
| Additional risks that we do not yet know of, or that we currently think are immaterial, may also impair our business operations or financial results |
| If any of the events or circumstances described in the following risks actually occurs, our business, financial condition or results of operations could suffer and the trading price of our debt or equity securities could decline |
| Investors and prospective investors should consider the following risks and the information contained under the heading “Warning Concerning Forward-Looking Statements” before deciding whether to invest in our securities |
| Some of our returns and rents are guaranteed by parent entities or affiliates of our tenants or hotel operators, but these guarantees may be limited or the guarantors may be unable to honor their commitments |
| Other security features in our leases may not be sufficient to cover all obligations due to us |
| Each management agreement or lease that we have entered into includes various terms intended to secure the payments due to us, including some or all of the following: security deposits which we received but do not escrow, subordination or management fees payable to the hotel operator to some or all of our return or rent and full or limited guarantees from the manager’s or tenant’s parent company |
| However, the effectiveness of these various security features to provide uninterrupted payments to us is not assured, particularly if the profitability of our hotels is at a depressed level for an extended period |
| Also, these security features may not be sufficient to cover all obligations due to us |
| We may not receive payments under certain of our guarantees because the guaranty amount is exhausted, because the guarantor’s financial condition deteriorates and it is unable to meet its obligations or for some other reason |
| Under the terms of some of our guarantees, the guarantors may be released if cash flows from the affected hotels exceed certain threshold amounts, and such releases would be effective even if cash flows subsequently decline |
| We are not permitted to operate our hotels and we are dependent on the managers and tenants of our hotels |
| Because federal income tax laws restrict REITs and their subsidiaries from operating hotels, we do not manage our hotels |
| Instead, we or our subsidiaries that qualify as “taxable REIT subsidiaries” under applicable REIT laws either retain third party managers to manage our hotels pursuant to management agreements or lease our hotels to hotel operating companies |
| Our income from the hotels may be adversely affected if our managers or tenants fail to provide quality services and amenities to hotel guests or if they fail to maintain a quality brand name |
| While we or our taxable REIT subsidiaries monitor our hotel managers’ and tenants’ performance, we have limited recourse under our management agreements and leases if we believe that the hotel managers or tenants are not performing adequately |
| Failure by our hotel managers or tenants to fully perform the duties agreed to in our management agreements and leases could adversely affect our results of operations |
| In addition, our hotel managers or tenants manage, and in some cases own or have invested in, hotels that compete with our hotels, which may result in conflicts of interest |
| As a result, our hotel managers or tenants have in the past made and may in the future make decisions regarding competing lodging facilities that are not or would not be in our best interests |
| In the recent past, events beyond our control, including an economic slowdown, the war with Iraq and terrorism, harmed the operating performance of the hotel industry generally and the performance of our hotels |
| If these or similar events occur again, our operating and financial results may be harmed by declines in average daily room rates or occupancy |
| The terrorist attacks of September 11, 2001 had a dramatic adverse effect on business and leisure travel and on our occupancy and average daily rate, or ADR Future terrorist activities could have a similarly harmful effect on both the hotel industry and us |
| As a result of terrorism concerns, the war with Iraq and the impact of a recessionary economy, the US hotel industry generally and our hotels specifically experienced significant declines in occupancy, revenues and profitability in 2001, 2002 and 2003 |
| While the performance of our hotels have improved, the uncertainty associated with the continuing war on terrorism and the possibility of future attacks may adversely impact business and leisure travel patterns and, accordingly, our business |
| 27 ______________________________________________________________________ We are dependant on a limited number of operators for our hotels and we have a high concentration of our hotels with a limited number of operators and their hotel brands |
| Two of our unaffiliated hotel operators operate approximately 80prca of our hotels by investment |
| If we were to have a dispute with one of these two operators, or if one of these operators were to fail to provide quality services and amenities or to maintain quality brand names, our income from these hotels may be adversely affected |
| Additionally, should we be required to replace any of our hotel operators, this could result in significant disruptions at the affected hotels and declines in our profitability and cash flows |
| We may be unable to access the capital necessary to repay debt or grow |
| To retain our status as a REIT, we are required to distribute 90prca of our taxable income to shareholders and we generally cannot use income from operations to repay debt or fund our growth |
| Accordingly, our business and growth strategy depends, in part, upon our ability to raise additional capital at reasonable costs to fund new investments |
| We believe we will be able to raise additional debt and equity capital at reasonable costs to refinance our debts at or prior to their maturities and to invest at yields that exceed our cost of capital |
| However, our ability to raise reasonably priced capital is not guaranteed; we may be unable to raise reasonably priced capital because of reasons related to our business or for reasons beyond our control, such as market conditions |
| Our growth strategy is not assured and may fail |
| Acquisitions that we make may not be successful |
| Our business strategy contemplates additional acquisitions |
| We cannot assure our investors that acquisitions we make will prove to be successful |
| We might encounter unanticipated difficulties and expenditures relating to any acquired properties |
| Newly acquired properties might require significant management attention that would otherwise be devoted to our ongoing business |
| Also, future acquisitions of hotels may not yield the returns we expect and, if financed using high cost debt or equity, may result in shareholder dilution |
| We face competition for the acquisition of hotels |
| We compete with institutional pension funds, private equity investors, other REITs, owner operators of hotels and others who are engaged in the acquisition of hotels |
| Some of our competitors have greater financial resources and more experienced personnel than we have |
| These competitors may affect the supply/demand dynamics and, accordingly, increase the price we must pay for hotels we seek to acquire |
| Furthermore, owners of hotels who offer them for sale may find our competitors to be more attractive buyers because they may have greater financial resources, may be willing to pay more, or may have a more compatible operating philosophy |
| The loss of our tax status as a REIT would have significant adverse consequences to us and reduce the value of your common shares |
| As a REIT, we generally do not pay federal and state income taxes |
| However, our continued qualification as a REIT is dependent upon our compliance with complex provisions of the Internal Revenue Code for which there are available only limited judicial or administrative interpretations |
| We believe we have operated; and are operating, as a REIT in compliance with the Internal Revenue Code |
| However, we cannot assure our shareholders that, upon review or audit, the IRS will agree with this conclusion |
| If we cease to be a REIT, we would violate a covenant in our bank credit facilities, our ability to raise capital could be adversely affected, we may be subject to material amounts of federal and state income taxes and the value of our shares would likely decline |
| There is no assurance that we will make distributions in the future |
| We intend to continue to pay quarterly distributions to our shareholders consistent with our historical practice |
| However, our ability to pay distributions will be adversely affected if any of the risks described herein occur |
| Our payment of distributions is subject to compliance with restrictions contained in our revolving bank credit facility and our note indenture |
| All our distributions are made at the discretion of our board of trustees and our future distributions will depend upon our earnings, our cash flows, our anticipated cash flows, our financial condition, maintenance of our REIT tax status and such other factors as our board of trustees may deem relevant from time to time |
| There are no 28 ______________________________________________________________________ assurances of our ability to pay distributions in the future |
| In addition, our distributions in the past have included, and may in the future include, a return of capital |
| We may be unable to provide the funding required by our managers and tenants for the refurbishment of our hotels |
| Some of our management agreements and lease arrangements require us to invest money for refurbishments and capital improvements to our hotels in some circumstances |
| We may have to invest more than expected in order to achieve and maintain the competitive position and future financial performance of our hotels |
| We may not have the necessary funds to invest, and such expenditures, if made, may not be sufficient to maintain the successful financial performance of our hotels |
| Our management agreements and lease arrangements require us to maintain the hotels in a certain required condition |
| If we fail to maintain these required standards, then the manager or tenant may terminate the management or lease agreement and hold us liable for damages we may have caused |
| Our business dealings with our managing trustees and affiliated entities may create conflicts of interest |
| We have no employees |
| Personnel and other services which we require are provided to us under contract by our manager, RMR RMR is majority beneficially owned by one of our trustees, Barry Portnoy |
| The remainder of RMR is beneficially owned by Adam Portnoy, Barry Portnoy’s son, who is also an executive officer of RMR In addition, John Murray, our President, Chief Operating Officer and Secretary, Mark Kleifges, our Treasurer and Chief Financial Officer, and Ethan Bornstein, our Vice President are executive officers of RMR, and Gerard Martin, another of our trustees, is a director of RMR We pay RMR a fee based in large part upon the amount of our investments |
| Our agreement with RMR also provides for payment to RMR of incentive fees under certain circumstances |
| Any incentive fees are payable through the issuance of restricted common shares by us to RMR Our fee arrangement with RMR could encourage RMR to advocate acquisitions and discourage sales by us |
| RMR also acts as the manager for two other publicly owned REITs: HRPT, which primarily owns office buildings; and Senior Housing Properties Trust, or SNH, which owns senior housing properties |
| We were formerly a 100prca owned subsidiary of HRPT, and HRPT continues to own 4 million of our common shares or about 6prca of our total common shares outstanding as of December 31, 2005 |
| RMR also provides services to Five Star Quality Care, Inc, or Five Star, under a shared services agreement, and RMR has other business interests |
| Barry Portnoy and Martin also serve as managing trustees of HRPT and SNH and as managing directors of Five Star |
| Adam Portnoy is Executive Vice President of HRPT These multiple responsibilities to public companies and other businesses could create competition among these companies for the time and efforts of RMR and Messrs |
| All of the contractual arrangements between us and RMR have been approved by our trustees other than Messrs |
| Barry Portnoy and Martin |
| Barry Portnoy and Martin serve as a trustee or director of one or more other companies with which RMR has contractual arrangements similar to its contracts with us, including HRPT and SNH We believe that the quality and depth of management available to us by contracting with RMR could not be duplicated by our being a self-advised company or by our contracting with unrelated third parties without considerable cost increases |
| A termination of our contract with RMR is a default under our revolving bank credit facility unless approved by a majority of the lenders |
| The fact that we believe that our relationships with RMR and our managing trustees have been beneficial to us in the past does not guarantee that these related party transactions may not be detrimental to us in the future |
| Ownership limitations and anti-takeover provisions in our declaration of trust and under Maryland law may prevent our shareholders from receiving a takeover premium |
| Our declaration of trust prohibits any shareholder other than HRPT, RMR and their affiliates from owning more than 9dtta8prca of our outstanding shares |
| This provision of the declaration of trust may help us comply with REIT tax requirements |
| However, this provision will also inhibit a change of control |
| Our declaration of trust and bylaws contain other provisions that may increase the difficulty of acquiring control of us by means of a tender offer, open market purchases, a proxy fight or otherwise, if the acquisition is not approved by our board of trustees |
| These other anti-takeover provisions include the following: • a staggered board of trustees with three separate classes; • the two-thirds majority shareholder vote required for removal of trustees; 29 ______________________________________________________________________ • the ability of our board of trustees to increase, without shareholder approval, the amount of shares (including common shares) that we are authorized to issue under our declaration of trust and bylaws, and to issue additional shares on terms that it determines; • advance notice procedures with respect to nominations of trustees and shareholder proposals; and • the fact that only the board of trustees may call shareholder meetings and that shareholders are not entitled to act without a meeting |
| We maintain a rights agreement whereby, in the event a person or group of persons acquires or attempts to acquire 10prca or more of our outstanding common shares, our shareholders, other than such person or group, will be entitled to purchase additional shares or other securities or property at a discount |
| In addition, certain provisions of Maryland law may have an anti-takeover effect |
| For all of these reasons, our shareholders may be unable to realize a change of control premium for shares they own |
| Some of our management agreements and leases limit our ability to sell or finance some of our hotels |
| Under the terms of some of our management agreements and leases, we generally may not sell, lease or otherwise transfer the hotels unless the transferee is not a competitor of the manager and the transferee assumes the related management agreements and meets specified other conditions |
| Our ability to finance or sell our properties, depending upon the structure of such transactions, may require the manager’s consent or the tenant’s consent under our management agreements and leases |
| If, in these circumstances, the manager or the tenant does not consent, we may be prevented from taking actions which might be beneficial to our shareholders |
| Real estate ownership creates risks and liabilities |
| Our business is subject to risks associated with real estate acquisitions and ownership, including: • new hotel supply in our markets; • catastrophic property and casualty losses, such as losses due to wars, terrorist attacks or natural disasters, some of which may be uninsured; • defaults and bankruptcies by our managers or tenants; • the illiquid nature of real estate markets which impairs our ability to purchase or sell our assets rapidly to respond to changing economic conditions; • management agreements or leases which are not renewed at expiration and may be replaced with management agreements with less favorable terms or relet at lower rents; • costs that may be incurred relating to maintenance and repair, and the need to make capital expenditures to maintain our properties’ values or due to contractual obligations or changes in governmental regulations, including the Americans with Disabilities Act; and • environmental hazards at our properties for which we may be liable, including those created by prior owners or occupants, existing tenants, abutters or other persons |
| We have substantial debt obligations and may incur additional debt |
| At December 31, 2005, we had dlra960 million in debt outstanding, which was 34prca of our total book capitalization |
| Our note indenture and revolving bank credit facility permit us and our subsidiaries to incur additional debt, including secured debt |
| If we default in paying any of our debts or honoring our debt covenants, these debts may be accelerated and we could be forced to liquidate our assets for less than the values we would receive in a more orderly process |
| 30 ______________________________________________________________________ If we issue secured debt or subsidiary debt, such debt will have priority claims on certain of our assets which are senior to our existing debts |
| We conduct substantially all of our business through, and substantially all of our properties are owned by, subsidiaries |
| Consequently, our ability to pay debt service on our outstanding notes and any notes we issue in the future will be dependent upon the cash flow of our subsidiaries and payments by those subsidiaries to us as dividends or otherwise |
| Our subsidiaries are separate legal entities and have their own liabilities |
| Payments due on our outstanding notes, and any notes we may issue are, or will be, effectively subordinated to liabilities of our subsidiaries, including guaranty liabilities |
| Substantially all of our subsidiaries have guaranteed our revolving bank credit facility; none of our subsidiaries guaranty our outstanding notes |
| In addition, at December 31, 2005, one of our subsidiaries has dlra4 million of secured debt |
| Our outstanding notes are, and any notes we may issue will be, also effectively subordinated to our secured debt with regard to our assets pledged to secure our debt |
| Our notes may permit redemption before maturity, and our noteholders may be unable to reinvest proceeds at the same or a higher rate |
| The terms of our notes may permit us to redeem all or a portion of our outstanding notes after a certain amount of time, or up to a certain percentage of the notes prior to certain dates |
| Generally, the redemption price will equal the principal amount being redeemed, plus accrued interest to the redemption date, plus any applicable premium |
| If a redemption occurs, our noteholders may be unable to reinvest the money they receive in the redemption at a rate that is equal to or higher than the rate of return on the applicable notes |
| There may be no public market for notes we may issue and one may not develop |
| Generally, any notes we may issue will be a new issue for which no trading market currently exists |
| We may not list our notes on any securities exchange or seek approval for price quotations to be made available through any automated quotation system |
| There is no assurance that an active trading market for any of our notes will exist in the future |
| Even if a market does develop, the liquidity of the trading market for any of our notes and the market price quoted for any such notes may be adversely affected by changes in the overall market for fixed income securities, by changes in our financial performance or prospects, or by changes in the prospects for REITs or for the hotel industry generally |
| An increase in interest rates would increase our interest costs on variable rate debt and could adversely impact our ability to refinance existing debt or sell assets |
| Also, interest rate changes often affect the value of dividend paying securities |
| Our revolving credit facility requires interest at variable rates and matures in June 2009 |
| At December 31, 2005, we had dlra35 million outstanding and dlra715 million available for drawing under our revolving credit facility |
| If interest rates increase, so will our interest costs, which could adversely affect our cash flow and our ability to pay principal and interest on our debt and our ability to make distributions to our shareholders |
| Further, rising interest rates could limit our ability to refinance existing debt when it matures |
| We may from time to time enter into agreements such as interest rate swaps, caps, floors and other interest rate hedging contracts with respect to a portion of our variable rate debt |
| While these agreements may lessen the impact of rising interest rates on us, they also expose us to the risk that other parties to the agreements will not perform or that the agreements will be unenforceable |
| In addition, an increase in interest rates could decrease the amount third parties are willing to pay for our assets, thereby limiting our ability to change our portfolio promptly in response to changes in economic or other conditions |
| Increases in interest rates generally often reduce the value of dividend paying securities; accordingly, if interest rates rise the market value of our common and preferred shares may decline |