2017 Annual Report
O u r P ro pe rt i e s
The Georgian Terrace by Sotherly
Atlanta, GA
The Whitehall by Sotherly
Houston, TX
The Desoto by Sotherly
Savannah, GA
Hyde Resort & Residences
Hollywood, FL
Hilton Wilmington Riverside
Wilmington, NC
DoubleTree by Hilton Brownstone University
Raleigh, NC
DoubleTree Resort by Hilton Hollywood Beach
Hollywood, FL
DoubleTree by Hilton Jacksonville Riverfront
Jacksonville, FL
Crowne Plaza Tampa Westshore
Tampa, FL
Sheraton Louisville Riverside
Jeffersonville, IN
DoubleTree by Hilton Laurel
Laurel, MD
DoubleTree by Hilton Philadelphia Airport
Philadelphia, PA
To O u r S t o c k h o l d e r s
To Our Stockholders:
As we entered 2017, the lodging industry had experienced eighteen months of sluggish growth
and forecasts were predicting more to come as a new president was waiting to be sworn in and the
industry faced uncertainties regarding the policies of the new administration and the direction of
the economy. As the year unfolded the general business climate improved while several acts of God
caused major disruption to our business: the Zika virus scare in South Florida, hurricanes Harvey and
Irma, and a catastrophic casualty at our hotel in Houston all combined to impair our performance.
Notwithstanding these unforeseen negative events we executed our plan, improved operating metrics,
increased dividends and had a successful year.
In spite of the improving business climate, the domestic U.S. lodging industry did in fact experience another tepid year of
growth, ending 2017 with an increase in Revenue Per Available Room (“RevPAR”) of approximately 2.9%. Our portfolio was
competitive, finishing the year with a 3.3% RevPAR increase versus 2016 thereby achieving a 40 basis points premium to the
industry. To put our 2017 RevPAR performance in context, the results we achieved included the negative events mentioned
above and extensive renovation activity at three of our hotels representing one third of the company’s room inventory. Our
hotels in Hollywood, Savannah, and Wilmington each had room inventory out of service in 2017. In spite of this, we were able
to improve on our market share in the local markets served by our hotels as reflected in the “fairshare” analysis published for
the industry by Smith Travel Research. Our fairshare index increased an impressive 280 basis points in 2017 versus the prior
year in spite of reduced inventory at our hotels under renovation.
While total 2017 Hotel Revenue increased only $1.54M (1.0% over prior year), through a focus on containing expenses we
were able to flow almost $1.0M of the new revenue to Hotel EBITDA, improving EBITDA margins to 26.6%, a 40 basis point
improvement while delivering Hotel EBITDA of approximately $41.0M for the year. Similarly, 2017 Adjusted Funds From
Operations (“AFFO”) per share improved from $0.90 to $1.00, an 11.1% increase over prior year. We believe these metrics
compare favorably to our peer set.
We entered the year with a targeted dividend payout of $0.425 per common share after paying out dividends totaling $0.365
per share in 2016. The declared aggregate 2017 dividend was $0.425 per share of common stock for 2017, an increase of
approximately 16.4% over prior year.
All goals set for the company at the onset of the year that were under management’s control were accomplished.
» We executed a repayment of the second tranche of the company’s “baby bonds,” redeeming the debt and replacing it with
perpetual preferred stock. The bonds were set to mature in October 2019 and the preferred issuance has no mandatory
redemption obligation. The successful execution of this capital markets transaction helped us mitigate future maturity
risk relating to the baby bonds.
» In Jacksonville (FL) we closed a replacement loan that yielded the company approximately $15.0M in net proceeds and
fixed the interest rate at 4.88% for a seven year term.
» In January we acquired the commercial unit and opened the Hyde Resort condo hotel (Hollywood, FL); this included
executing a “grand opening” with the hotel developer, hiring managers and line staff, implementing a comprehensive
marketing plan, coordinating the opening with Preferred Hotels, working with the restaurants and spa tenants to develop
the desired level of service, and transitioning participating unit owners into the rental program.
1Hotel EBITDA and AFFO are non-GAAP financial measures. See further discussion of non-GAAP measures, including definitions related thereto, and
reconciliations to net income (loss) in Items 6 and 7 of our Annual Report on Form 10-K.
» We were fortunate to enter into a definitive agreement to acquire the commercial unit in the to-be-built Hyde House Resort in
Hollywood, Florida, the sister property to the Hyde Resort, which is located contiguous to the company’s DoubleTree Resort.
All negotiations were completed in the second quarter in preparation for a June 2019 opening.
» Near the end of the year, we contracted to purchase the Hyatt Centric located in Rosslyn, Virginia across the Key Bridge from
Washington, DC. The total project costs are estimated at ±$80.0M with settlement scheduled for the first quarter of 2018.
» We entered 2017 with a goal of completing the sale of the Hampton hotel which closed in February 2017.
» We entered 2017 with three significant capital improvement projects in process.
• In Savannah (GA), the Hilton license expired in July 2017. Renovation and rebranding was concluded in the first half
of the year and shortly thereafter The DeSoto by Sotherly was launched.
• In Hollywood (FL), the Crowne Plaza license expired in October 2017 and we procured a DoubleTree by Hilton flag
for the hotel. The hotel renovation required by Hilton was executed on time and on budget.
• In Wilmington (NC), the Hilton license expires in March 2018. Renovations were in full process during the entire year
to meet the approaching deadline and a franchise renewal is expected.
Hospitality real estate investment trusts generally underperformed the market in 2017. SOHO’s common stock ended the year
with a 5.0% decrease in value versus prior year; however, total return2 to our common shareholders reflecting both dividends and
changes to share price for the year was approximately 1.5%, which was in line with our peer group.
During the year, the company repurchased approximately 401,720 shares of common stock via the share buyback program approved
by the board of directors and, in addition, the ESOP established by the board of directors purchased 682,500 shares of the company’s
common stock.
Given all the challenges faced by SOHO during the year, I believe 2017 to be an exceptional year for management performance.
We met or exceeded all our transaction goals and achieved good financial results for our shareholders.
As we enter 2018, we believe the best times are ahead for SOHO as most of our portfolio has been recently renovated and is
positioned well to perform.
Yours in Sothern Hospitality,
Andrew M. Sims
Chairman and Chief Executive Officer
Total stockholder return is calculated as the difference between the value of the company’s stock on December 31, 2016 and the value of the company’s stock on December
31, 2017, assuming the reinvestment of all dividends paid during that period at the closing price of the security on the exdividend date divided by the value of the
company’s stock on December 31, 2016.
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS
PURSUANT TO SECTIONS 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
(Mark One)
(cid:3) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2017
OR
(cid:4)
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
MARYLAND
(State or Other Jurisdiction of
Incorporation or Organization)
DELAWARE
(State or Other Jurisdiction of
Incorporation or Organization)
For the transition period from to
SOTHERLY HOTELS INC.
(Exact name of registrant as specified in its charter)
001-32379
(Commission File Number)
SOTHERLY HOTELS LP
(Exact name of registrant as specified in its charter)
001-36091
(Commission File Number)
410 West Francis Street
Williamsburg, Virginia 23185
(Address of Principal Executive Officers) (Zip Code)
757-229-5648
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
20-1531029
(I.R.S. Employer
Identification No.)
20-1965427
(I.R.S. Employer
Identification No.)
Registrant
Sotherly Hotels Inc.
Sotherly Hotels Inc.
Sotherly Hotels Inc.
Sotherly Hotels LP
Title of Each Class
Common Stock, $0.01 par value
8.0% Series B Cumulative Redeemable Perpetual
Preferred Stock, $0.01 par value
7.875% Series C Cumulative Redeemable
Perpetual Preferred Stock, $0.01 par value
7.25% Senior Unsecured Notes due 2021
Securities registered pursuant to Section 12(g) of the Act:
(Title of Class)
None
Name of Each Exchange on Which Registered
The NASDAQ Stock Market LLC
The NASDAQ Stock Market LLC
The NASDAQ Stock Market LLC
The NASDAQ Stock Market LLC
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.
Sotherly Hotels Inc. Yes (cid:5) No (cid:3) Sotherly Hotels LP Yes (cid:5) No (cid:3)
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Sotherly Hotels Inc. Yes (cid:5) No (cid:3) Sotherly Hotels LP Yes (cid:4) No (cid:3)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Sotherly Hotels Inc. Yes (cid:3) No (cid:4) Sotherly Hotels LP Yes (cid:3) No (cid:4)
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such file.
Sotherly Hotels Inc. Yes (cid:3) No (cid:4) Sotherly Hotels LP Yes (cid:3) No (cid:4)
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s
knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. (cid:3)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or emerging growth company. (See
definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Securities Exchange Act of 1934).
Sotherly Hotels Inc.
Large Accelerated Filer (cid:4)
Sotherly Hotels LP
78,981,
Accelerated Filer (cid:3)
Non-accelerated Filer (cid:4)
Smaller Reporting Company (cid:4) Emerging growth company (cid:4)
Large Accelerated Filer (cid:4)
Accelerated Filer (cid:4)
Non-accelerated Filer (cid:3) Smaller Reporting Company (cid:4) Emerging growth company (cid:4)
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial
accounting standards provided pursuant to Section 13(a) of the Exchange Act. (cid:3)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Sotherly Hotels Inc. Yes (cid:4) No (cid:3) Sotherly Hotels LP Yes (cid:4) No (cid:3)
The aggregate market value of common stock held by non-affiliates of Sotherly Hotels Inc. as of June 30, 2017, the last business day of Sotherly Hotels Inc.’s most recently completed
second fiscal quarter, was approximately $78,880,056 based on the closing price quoted on the NASDAQ ® Stock Market.
As of March 10, 2018, there were 14,121,081 shares of Sotherly Hotels Inc.’s common stock issued and outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Part III of this Form 10-K incorporates by reference certain portions of Sotherly Hotels Inc.’s proxy statement for its 2017 annual meeting of stockholders to be filed with the
Securities and Exchange Commission not later than 120 days after the end of the fiscal year covered by this report.
1
SOTHERLY HOTELS INC.
SOTHERLY HOTELS LP
INDEX
Page
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
PART I
Business ......................................................................................................................................................................
5
Risk Factors................................................................................................................................................................. 13
Unresolved Staff Comments ....................................................................................................................................... 33
Properties .................................................................................................................................................................... 33
Legal Proceedings ....................................................................................................................................................... 34
Mine Safety Disclosure ............................................................................................................................................... 34
PART II
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities. 35
Selected Financial Data............................................................................................................................................... 39
Management’s Discussion and Analysis of Financial Condition and Results of Operations ..................................... 43
Quantitative and Qualitative Disclosures About Market Risk.................................................................................... 60
Financial Statements and Supplementary Data........................................................................................................... 61
Changes in and Disagreements with Accountants on Accounting and Financial Disclosure..................................... 61
Controls and Procedures ............................................................................................................................................. 61
Other Information ....................................................................................................................................................... 62
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
Directors, Executive Officers and Corporate Governance.......................................................................................... 63
Executive Compensation............................................................................................................................................. 63
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters................... 63
Certain Relationships and Related Transactions, and Director Independence ........................................................... 64
Principal Accountant Fees and Services ..................................................................................................................... 64
Item 15.
Exhibits and Financial Statement Schedules .............................................................................................................. 65
PART IV
2
EXPLANATORY NOTE
We refer to Sotherly Hotels Inc. as the “Company,” Sotherly Hotels LP as the “Operating Partnership,” the Company’s common
stock as “common stock,” the Company’s preferred stock as “preferred stock,” the Operating Partnership’s common partnership
interest as “partnership units,” and the Operating Partnership’s preferred interest as the “preferred units.” References to “we” and
“our” mean the Company, its Operating Partnership and its subsidiaries and predecessors, collectively, unless the context otherwise
requires or where otherwise indicated.
The Company conducts virtually all of its activities through the Operating Partnership and is its sole general partner. The
partnership agreement provides that the Operating Partnership will assume and pay when due, or reimburse the Company for payment
of, all costs and expenses relating to the ownership and operations of, or for the benefit of, the Operating Partnership. The partnership
agreement further provides that all expenses of the Company are deemed to be incurred for the benefit of the Operating Partnership.
This report combines the Annual Reports on Form 10-K for the period ended December 31, 2017 of the Company and the
Operating Partnership. We believe combining the annual reports into this single report results in the following benefits:
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combined reports better reflect how management and investors view the business as a single operating unit;
combined reports enhance investors’ understanding of the Company and the Operating Partnership by enabling them to
view the business as a whole and in the same manner as management;
combined reports are more efficient for the Company and the Operating Partnership and result in savings of time, effort
and expense; and
combined reports are more efficient for investors by reducing duplicative disclosure and providing a single document for
their review.
To help investors understand the significant differences between the Company and the Operating Partnership, this report
presents the following separate sections for each of the Company and the Operating Partnership:
•
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•
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•
Item 5 – Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities – selected portions;
Item 9A – Controls and Procedures;
Consolidated Financial Statements;
the following Notes to Consolidated Financial Statements:
•
•
•
Note 7 – Preferred Stock and Units;
Note 8 – Common Stock and Units;
Note 14 – Income (Loss) Per Share and Unit; and
Certifications of CEO and CFO Pursuant to Sections 302 and 906 of the Sarbanes-Oxley Act.
3
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Information included and incorporated by reference in this Form 10-K may contain forward-looking statements within the
meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, and as such may
involve known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to
be materially different from future results, performance or achievements expressed or implied by such forward-looking statements.
Forward-looking statements, which are based on certain assumptions and describe our current strategies, expectations and future
plans, are generally identified by our use of words, such as “intend,” “plan,” “may,” “should,” “will,” “project,” “estimate,”
“anticipate,” “believe,” “expect,” “continue,” “potential,” “opportunity,” and similar expressions, whether in the negative or
affirmative, but the absence of these words does not necessarily mean that a statement is not forward looking. All statements regarding
our expected financial position, business and financing plans are forward-looking statements. Factors which could have a material
adverse effect on our operations and future prospects include, but are not limited to:
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
•
national and local economic and business conditions that affect occupancy rates and revenues at our hotels and the
demand for hotel products and services;
risks associated with the hotel industry, including competition and new supply of hotel rooms, increases in wages, energy
costs and other operating costs;
risks associated with adverse weather conditions, including hurricanes;
the availability and terms of financing and capital and the general volatility of the securities markets;
our intent to repurchase shares from time to time;
risks associated with the level of our indebtedness and our ability to meet covenants in our debt agreements and, if
necessary, to refinance or seek an extension of the maturity of such indebtedness or modify such debt agreements;
management and performance of our hotels;
risks associated with maintaining our system of internal controls;
risks associated with the conflicts of interest of the Company’s officers and directors;
risks associated with redevelopment and repositioning projects, including delays and cost overruns;
supply and demand for hotel rooms in our current and proposed market areas;
risks associated with our ability to maintain our franchise agreements with our third party franchisors;
our ability to acquire additional properties and the risk that potential acquisitions may not perform in accordance with
expectations;
our ability to successfully expand into new markets;
legislative/regulatory changes, including changes to laws governing taxation of real estate investment trusts (“REITs”);
the Company’s ability to maintain its qualification as a REIT; and
our ability to maintain adequate insurance coverage.
Additional factors that could cause actual results to vary from our forward-looking statements are set forth under the Section
titled “Risk Factors” in Item 1A of this report.
These risks and uncertainties should be considered in evaluating any forward-looking statement contained in this report or
incorporated by reference herein. All forward-looking statements speak only as of the date of this report or, in the case of any
document incorporated by reference, the date of that document. All subsequent written and oral forward-looking statements
attributable to us or any person acting on our behalf are qualified by the cautionary statements in this section. We undertake no
obligation to update or publicly release any revisions to forward-looking statements to reflect events, circumstances or changes in
expectations after the date of this report, except as required by law. In addition, our past results are not necessarily indicative of our
future results.
4
Item 1. Business
Organization
PART I
Sotherly Hotels Inc. (the “Company”) is a self-managed and self-administered lodging real estate investment trust, or REIT, that
was formed in August 2004 to own, acquire, renovate and reposition full-service, primarily upscale and upper-upscale hotel properties
located in primary markets in the mid-Atlantic and southern United States. On December 21, 2004, the Company successfully
completed its initial public offering and elected to be treated as a self-advised REIT for federal income tax purposes. The Company
conducts its business through Sotherly Hotels LP, its operating partnership (the “Operating Partnership”), of which the Company is the
general partner. The Company owns approximately 88.8% of the partnership units in the Operating Partnership. Limited partners
(including certain of the Company’s officers and directors) own the remaining Operating Partnership units.
As of December 31, 2017, our portfolio consisted of eleven full-service, primarily upscale and upper-upscale hotels located in
seven states with an aggregate total of 2,838 rooms and the hotel commercial condominium unit of the Hyde Resort & Residences
condominium hotel, with approximately 150,000 square feet of total meeting space. On March 1, 2018, we acquired the Hyatt Centric
Arlington hotel located in Arlington, Virginia. All of our hotels are wholly-owned by subsidiaries of the Operating Partnership, and
all are managed on a day to day basis by either MHI Hotels Services, LLC, which does business as Chesapeake Hospitality
(“Chesapeake Hospitality”), or Highgate Hotels, L.P. (“Highgate Hotels”).
In order for the Company to qualify as a REIT, it cannot directly manage or operate our wholly-owned hotels. Therefore, we
lease our wholly-owned hotel properties to entities that we refer to as our TRS Lessees, which in turn have engaged Chesapeake
Hospitality and Highgate Hotels, each of which is an eligible independent management company, to manage our hotels. Our TRS
Lessees are wholly-owned subsidiaries of MHI Hospitality TRS Holding, Inc. (“MHI Holding”, and collectively, “MHI TRS”). MHI
TRS is a taxable REIT subsidiary for federal income tax purposes.
Our corporate office is located at 410 West Francis Street, Williamsburg, Virginia 23185. Our telephone number is (757) 229-
5648.
Our Properties
As of December 31, 2017, our hotels were located in Florida, Georgia, Indiana, Maryland, North Carolina, Pennsylvania and
Texas. Eight of these hotels operate under franchise agreements with major hotel brands, and three are independent hotels. We also
own the hotel commercial condominium unit of the Hyde Resort & Residences condominium hotel. Developments at our properties
for the five years ended December 31, 2017 included the following:
•
•
•
•
•
In 2013, we acquired the Crowne Plaza Houston Downtown located in Houston, Texas at an aggregate value of
approximately $30.9 million, including certain closing costs.
In 2014, we acquired the Georgian Terrace located in Atlanta, Georgia at an aggregate value of approximately $61.1
million, including certain closing costs. We also, after extensive renovations, re-branded and renamed the Hilton
Philadelphia Airport to the DoubleTree by Hilton Philadelphia Airport.
In 2015, we acquired the remaining 75.0% interest in (i) the entity that owns the DoubleTree Resort by Hilton Hollywood
Beach (formerly known as the Crowne Plaza Hollywood Beach Resort), and (ii) the entity that leases the DoubleTree
Resort by Hilton Hollywood Beach. As a result, the Operating Partnership now has a 100% indirect ownership interest in
the entities that own the DoubleTree Resort by Hilton Hollywood Beach. We also, after extensive renovations, re-branded
and renamed the Crowne Plaza Jacksonville Riverfront to the DoubleTree by Hilton Jacksonville Riverfront, and re-
branded and renamed the Holiday Inn Laurel West to the DoubleTree by Hilton Laurel.
In 2016, after extensive renovations, we re-branded and renamed the Crowne Plaza Houston Downtown to The Whitehall.
In 2017, we acquired the Hyde Resort & Residences hotel commercial condominium unit at an aggregate value of
approximately $4.8 million, including inventory, other assets and certain closing costs and initiated a rental program for
residential condominium unit owners. We sold the Crowne Plaza Hampton Marina property for approximately $5.6
million. We also re-branded and renamed the Hilton Savannah DeSoto to The DeSoto, after extensive renovations, and
re-branded and renamed the Crowne Plaza Hollywood Beach to the DoubleTree Resort by Hilton Hollywood Beach. We
entered into contracts to purchase a commercial unit in the Hyde Beach House Resort & Residences condominium hotel
under development in Hollywood Beach, Florida, and to acquire the Hyatt Centric Arlington hotel in Arlington, Virginia.
See Items 2 and 7 of this Form 10-K for additional detail on our properties.
5
Our Strategy and Investment Criteria
Our strategy is to grow through acquisitions of full-service, upscale and upper-upscale hotel properties located in the primary
markets of the southern United States. We intend to grow our portfolio through disciplined acquisitions of hotel properties and believe
that we will be able to source significant external growth opportunities through our management team’s extensive network of industry,
corporate and institutional relationships.
Our investment criteria are further detailed below:
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•
Geographic Growth Markets: We are focusing our growth strategy on the major markets in the Southern region of the
United States. Our management team remains confident in the long-term growth potential associated with this part of the
United States. We believe these markets have, during the Company’s and our predecessors’ existence, been characterized
by population growth, economic expansion, growth in new businesses and growth in the resort, recreation and leisure
segments. We will continue to focus on these markets, including coastal locations, and will investigate other markets for
acquisitions only if we believe these new markets will provide similar long-term growth prospects.
Full-Service Hotels: We focus our acquisition strategy on the full-service hotel segment. Our full-service hotels fall
primarily under the upscale to upper-upscale categories and include such brands as Hilton, Doubletree by Hilton, Sheraton
and Crowne Plaza, as well as independent hotels affiliated with Preferred Hotels & Resorts. We may also acquire
commercial unit(s) within upscale to upper-upscale condominium hotel projects, allowing us to establish and operate unit
rental programs. We do not own economy hotels. We believe that full-service hotels, in the upscale to upper-upscale
categories, will outperform the broader U.S. hotel industry, and thus offer the highest returns on invested capital.
Significant Barriers to Entry: We intend to execute a strategy that entails the acquisition of hotels in prime locations with
significant barriers to entry.
Proximity to Demand Generators: We seek to acquire hotel properties located in central business districts for both leisure
and business travelers within the respective markets, including large state universities, airports, convention centers,
corporate headquarters, sports venues and office buildings. We seek to be in walking locations that are proximate to the
markets’ major demand generators.
We typically define underperforming hotels as those that are poorly managed, suffer from significant deferred maintenance and
capital investment and that are not properly positioned in their respective markets. In pursuing these opportunities, we hope to
improve revenue and cash flow and increase the long-term value of the underperforming hotels we acquire. Our ultimate goal is to
achieve a total investment that is substantially less than replacement cost of a hotel or the acquisition cost of a market performing
hotel. In analyzing a potential investment in an underperforming hotel property, we typically characterize the investment opportunity
as one of the following:
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•
•
Branding Opportunity: The acquisition of properties that includes a repositioning of the property through a change in
brand affiliation, which may include positioning the property as an independent hotel. Branding opportunities typically
include physical upgrades and enhanced efficiencies brought about by changes in operations.
Shallow-Turn Opportunity: The acquisition of an underperforming but structurally sound hotel that requires moderate
renovation to re-establish the hotel in its market.
Deep-Turn Opportunity: The acquisition of a hotel that is closed or functionally obsolete and requires a restructuring of
both the business components of the operations as well as the physical plant of the hotel, including extensive renovation
of the building, furniture, fixtures and equipment.
Typically, in our experience, a deep turn opportunity takes a total of approximately four years from the initial acquisition of a
property to achieving full post-renovation stabilization. Therefore, when evaluating future opportunities in underperforming hotels, we
intend to focus on up-branding and shallow-turn opportunities, and to pursue deep-turn opportunities on a more limited basis and in
joint venture partnerships, if possible.
Investment Vehicles. In pursuit of our investment strategy, we may employ various traditional and non-traditional investment
vehicles:
•
Direct Purchase Opportunity: Our traditional investment strategy is to acquire direct ownership interests via our
Operating Partnership in properties that meet our investment criteria, including opportunities that involve full-service,
upscale and upper-upscale properties in identified geographic growth markets that have significant barriers to entry for
new product delivery. Such properties, or portfolio of properties, may or may not be acquired subject to a mortgage, or
other financing or lending instruments, by the seller or third-party.
6
•
Joint Venture/Mezzanine Lending Opportunities: We may, from time to time, undertake a significant renovation and
rehabilitation project that we characterize as a deep-turn opportunity. In such cases, we may acquire a functionally
obsolete hotel whose renovation may be very lengthy and require significant capital. In these projects, we may choose to
structure such acquisitions as a joint venture, or mezzanine lending program, in order to avoid severe short-term dilution
and loss of current income commonly referred to as the “negative carry” associated with such extensive renovation
programs. We will not pursue joint venture or mezzanine programs in which we would become a “de facto” lender to the
real estate community.
Portfolio and Asset Management Strategy
We intend to ensure that the management of our hotel properties maximizes market share, as evidenced by revenue per available
room (“RevPAR”) penetration indices, and that our market share yields the optimum level of revenues for our hotels in their
respective markets. Our strategy is designed to actively monitor our hotels’ operating expenses in an effort to maximize hotel earnings
before interest, taxes, depreciation and amortization (“Hotel EBITDA”).
Over our long history in the lodging industry we have refined many portfolio and asset management techniques that we believe
provide for exceptional cash returns at our hotels. We undertake extensive budgeting due diligence wherein we examine market
trends, one-time or exceptional revenue opportunities, and/or changes in the regulatory climate that may impact costs. We review
daily revenue results and revenue management strategies at the hotels, and we focus on our manager’s ability to produce high quality
revenues that translate to higher profit margins. We look for ancillary forms of revenues, such as leasing roof-top space for cellular
towers and other communication devices and also look to lease space to third parties in our hotels, which may include, but are not
limited to, gift shops or restaurants. We have and will continue to engage parking management companies to maximize parking
revenue. Our efforts further include periodic review of property insurance costs and coverage, and the cost of real and personal
property taxes. We generally appeal tax increases in an effort to secure lower tax payments and routinely pursue strategies that allow
for lower overall insurance costs, such as purchasing re-insurance.
We also require detailed and refined reporting data from our hotel managers, which includes detailed accounts of revenues,
revenue segments, expenses and forecasts based on current and historic booking patterns. We also believe we optimize and
successfully manage capital costs at our hotels while ensuring that adequate product standards are maintained to provide a positive
guest experience.
None of our hotels are managed by a major national or global hotel franchise company. Through our long history in the lodging
industry, we have found that management of our hotels by management companies other than franchisors is preferable to and more
profitable than management services provided by the major franchise companies, specifically with respect to optimization of operating
expenses and the delivery of guest service.
Our portfolio management strategy includes efforts to optimize labor costs. Our third-party hotel managers are responsible for
hiring and maintaining the labor force at each of our hotels. Although we do not directly employ or manage employees at our hotels,
we monitor our hotel managers and make recommendations regarding the operation of our hotels. The labor force in our hotels is
predominately non-unionized, with only one property, the DoubleTree by Hilton Jacksonville Riverfront, having a majority of
employees electing to participate under a collective bargaining arrangement. Further, the labor force at our hotels that are managed by
Chesapeake Hospitality is eligible to receive health and other insurance coverage through Chesapeake Hospitality, which self-insures.
Self-insuring has, in our opinion and experience, provided significant savings over traditional insurance company sponsored plans.
Asset Disposition Strategy. When a property no longer fits with our investment objectives, we will pursue a direct sale of the
property for cash so that our investment capital can be redeployed according to the investment strategies outlined above. Where
possible, we will seek to subsequently purchase a hotel in connection with the requirements of a tax-free exchange. Such a strategy
may be deployed in order to mitigate the tax consequence that a direct sale may cause.
Our Principal Agreements
Management Agreements
Chesapeake Hospitality is the management company for eleven of our twelve wholly-owned hotels, as well as the Hyde Resort
& Residences. Andrew M. Sims, our chairman and chief executive officer owns an equity interest in Chesapeake Hospitality.
Immediately prior to March 1, 2017, our chairman and chief executive officer, and another of our directors were also directors of
Chesapeake Hospitality.
On December 15, 2014, we entered into a master agreement (the “Master Agreement”) and a series of individual hotel
management agreements (each a “Hotel Management Agreement” and, together, the “Hotel Management Agreements”) between the
7
Company, the Operating Partnership, and MHI Hospitality TRS, LLC (and other TRS Lessees) on the one hand and Chesapeake
Hospitality on the other hand. The Master Agreement and Hotel Management Agreements provide for ongoing management of the
Company’s hotels other than the Hyatt Centric Arlington, which is managed by Highgate Hotels.
The Master Agreement:
•
•
•
•
•
expires on December 31, 2019, or earlier if all of the Hotel Management Agreements expire or are terminated prior to that
date. The Master Agreement will be extended beyond 2019 for such additional periods as a Hotel Management
Agreement remains in effect;
caused the Hotel Management Agreements to come into effect on December 31, 2014;
requires Chesapeake Hospitality to provide dedicated executive level support for our managed hotels pursuant to certain
criteria;
provides a mechanism and established conditions on which the Company will offer Chesapeake Hospitality the
opportunity to manage hotels acquired by the Company in the future, pursuant to a negotiated form of single facility
management agreement, with the caveat that the Company is not required to offer the management of future hotels to
Chesapeake Hospitality; and
sets an incentive management fee for each of the hotels to be managed by Chesapeake Hospitality equal to 10% of the
amount by which gross operating profit, as defined in the Hotel Management Agreement, for a given year exceeds the
budgeted gross operating profit for such year; provided, however, that the incentive management fee payable in respect of
any such year shall not exceed 0.25% of the gross revenues of the hotel included in such calculation.
Each of the Hotel Management Agreements has a term of five years commencing January 1, 2015, with the exception of the
Hotel Management Agreement for the management of the DoubleTree Resort by Hilton Hollywood Beach, which has a term of five
years commencing July 31, 2015. Each of the Hotel Management Agreements may be extended for up to two additional periods of
five years subject to the approval of both parties with respect to any such extension. The agreements provide that Chesapeake
Hospitality will be the sole and exclusive manager of the hotels as the agent of the respective TRS Lessee and at the sole cost and
expense of the TRS Lessee and subject to certain operating standards. Each agreement may be terminated in connection with a sale of
the related hotel. In connection with a termination upon the sale of the hotel, Chesapeake Hospitality will be entitled to receive a
termination fee equal to the lesser of the management fee paid with respect to the prior twelve months or the management fees paid for
that number of months prior to the closing date of the hotel sale equal to the number of months remaining on the current term of the
Hotel Management Agreement. No sale termination fee will be payable in the event the Company elects to provide Chesapeake
Hospitality with the opportunity to manage another comparable hotel and Chesapeake Hospitality is not precluded from accepting
such opportunity. Chesapeake Hospitality is required to qualify as an eligible independent contractor in order to permit the Company
to continue to operate as a real estate investment trust.
On February 3, 2017, we entered into a Condominium Hotel Management Agreement (the “Hyde Management Agreement”)
with Chesapeake Hospitality for the management of the Hyde Resort & Residences condominium hotel. In accordance with the
Master Agreement, the Hyde Management Agreement has an initial term of five years commencing January 30, 2017 and mirrors the
material terms of the other Hotel Management Agreements. The terms of the Hyde Management Agreement provide for a base
management fee equal to a percentage of gross revenues of the rental of condominium units participating in our rental program in the
amount of 2.00% through January 2018, 2.25% through January 2019, and 2.50% thereafter. Pursuant to the Hyde Management
Agreement, Chesapeake Hospitality will manage for us the rental of individually owned condominium units pursuant to rental
agreements entered into with individual condominium unit owners. We also entered into an Association Sub Management and
Assignment Agreement with Chesapeake Hospitality for the management and operation of the condominium association responsible
for the operation of the Hyde Resort & Residences, and a Rental Management Agreement pursuant to which Chesapeake Hospitality
agreed to manage the marketing and negotiation of rental agreements with individual condominium unit owners.
We have also entered into a 20-year Association Management Agreement with the condominium association, whereby we have
been engaged to manage the condominium association and to operate the Hyde Resort & Residences as a condominium hotel.
Individual condominium unit owners may elect for their condominium units to be rented to condominium hotel guests pursuant to a
rental management program managed for us by Chesapeake Hospitality pursuant to the Hyde Management Agreement, described
above. As part of the rental management program, we have entered into individual rental agreements with condominium unit owners
who have chosen to participate in our rental program, and may enter into rental agreements with unit owners in the future. We expect
the number of individual condominium unit owners who elect to participate in our rental program to vary, and the number of units
available for rental to condominium hotel guests at any given time will fluctuate pursuant to that participation and due to owner
occupation of the condominium hotel units.
8
Amounts Payable under the Management Agreements. Each of our management companies receives a base management fee,
and, if a hotel exceeds certain financial thresholds, an additional incentive management fee for the management of our hotels.
The base management fee for our hotels will be a percentage of the gross revenues of the hotel and will be due monthly. The
applicable percentage of gross revenue for the base management fee for each of our wholly-owned hotels and the Hyde Resort &
Residences is as follows:
Crowne Plaza Tampa Westshore
Crowne Plaza Hampton Marina (1)
The DeSoto
DoubleTree by Hilton Jacksonville Riverfront
DoubleTree by Hilton Laurel
DoubleTree by Hilton Philadelphia Airport
DoubleTree by Hilton Raleigh Brownstone –
University
DoubleTree Resort by Hilton Hollywood Beach
Georgian Terrace
Hilton Wilmington Riverside
Sheraton Louisville Riverside
The Whitehall
Hyde Resort & Residences
Commencement
Date
Year 1
Year 2
Year 3
Year 4-5
Renewals
January 1, 2015
January 1, 2015
January 1, 2015
January 1, 2015
January 1, 2015
January 1, 2015
January 1, 2015
July 31, 2015
January 1, 2015
January 1, 2015
January 1, 2015
January 1, 2015
January 30, 2017
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.00%
2.00%
2.65%
2.65%
2.00%
2.00%
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.25%
2.25%
2.65%
2.65%
2.25%
2.25%
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.65%
2.50%
2.50%
2.65%
2.65%
2.50%
2.50%
2.50%
N/A
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
2.50%
(1)
The Crowne Plaza Hampton Marina was sold February 7, 2017; therefore, the base management fee no longer applies after
February 7, 2017.
With respect to future hotel management agreements with Chesapeake Hospitality, the base management fee for a hotel acquired
in the future which is first leased by our TRS Lessees, other than on the first day of a fiscal year, will be 2.0% for the partial year such
hotel is first leased and for the first full year such hotel is managed. There is no fee cap on the base management fee.
Subsequently Acquired Hotel Properties Managed by Chesapeake Hospitality
First year
Second year
Third year and thereafter
2.00%
2.25%
2.50%
On March 1, 2018, we acquired the Hyatt Centric Arlington hotel and entered into a three-year management agreement with the
incumbent manager, Highgate Hotels, that provides for a base management fee equal to 2.5% of gross revenue.
Franchise Agreements
As of December 31, 2017, all but three of our wholly-owned hotels operate under franchise licenses from national hotel
companies. On March 27, 2014, we purchased an independent full-service hotel in Atlanta, Georgia, which does not operate under a
franchise license. On April 12, 2016, we allowed the Crowne Plaza Houston Downtown’s franchise agreement to expire and
rebranded it as The Whitehall, an independent full-service hotel. On July 31, 2017, we allowed the Hilton Savannah DeSoto’s
franchise agreement to expire and rebranded it as The DeSoto. As our franchise agreements expire, we will continue to evaluate each
hotel on a case-by-case basis and decide whether to renew or terminate the agreement.
Our TRS Lessees hold the franchise licenses for our wholly-owned hotels. Our hotel managers must operate each of our hotels
they manage in accordance with and pursuant to the terms of the franchise agreement for the hotel.
The franchise licenses generally specify certain management, operational, record keeping, accounting, reporting and marketing
standards and procedures with which the franchisee must comply. Under the franchise licenses, the franchisee must comply with the
franchisors’ standards and requirements with respect to:
•
•
training of operational personnel;
safety;
9
•
•
•
•
•
maintaining specified insurance;
the types of services and products ancillary to guest room services that may be provided;
display of signage;
marketing standards including print media, billboards, and promotions standards; and
the type, quality and age of furniture, fixtures and equipment included in guest rooms, lobbies and other common areas.
Additionally, as the franchisee, our TRS Lessees are required to pay the franchise fees described below.
The following table sets forth certain information for the franchise licenses of our wholly-owned hotel properties as of
December 31, 2017:
Crowne Plaza Tampa Westshore
DoubleTree by Hilton Jacksonville Riverfront (2)
DoubleTree by Hilton Laurel
DoubleTree by Hilton Philadelphia – Airport (3)
DoubleTree by Hilton Raleigh Brownstone – University (2)
DoubleTree Resort by Hilton Hollywood Beach (4)
Hilton Wilmington Riverside
Sheraton Louisville Riverside
Franchise
Fee (1)
Marketing/
Reservation
Fee (1)
5.0%
5.0%
5.0%
5.0%
5.0%
5.0%
5.0%
5.0%
3.5%
4.0%
4.0%
4.0%
4.0%
3.5%
4.0%
3.5%
Expiration
Date
March 2019
September 2025
October 2030
October 2024
November 2021
October 2027
March 2018
April 2023
Percentage of room revenues payable to the franchisor.
The Franchise Fee is 3.0% for operating year 1, 4.0% for operating year 2, and 5.0% thereafter.
The Franchise Fee is 4.0% for operating years 1 and 2, and 5.0% thereafter.
(1)
(2)
(3)
(4) We have entered into a franchise agreement with Hilton and rebranded the Crowne Plaza Hollywood Beach Resort as the
DoubleTree Resort by Hilton Hollywood Beach.
On March 1, 2018, we entered into a franchise agreement with an affiliate of Hyatt Hotels Corporation for the Hyatt Centric
Arlington hotel in connection with the acquisition of that hotel. The Hyatt franchise agreement expires in March 2038 and includes
royalty fees equal to 5.0% of gross rooms revenue and other charges.
Lease Agreements
In order for the Company to maintain qualification as a REIT, neither the Company nor the Operating Partnership or its
subsidiaries can operate our hotels directly. Our wholly-owned hotels are leased to our TRS Lessees, which have engaged a third-party
management company to manage the hotels. Each lease has a non-cancelable term of three to thirty years, subject to earlier
termination upon the occurrence of certain contingencies described in the lease.
During the term of each lease, our TRS Lessees are obligated to pay a fixed annual base rent plus a percentage rent and certain
other additional charges. Base rent accrues and is paid monthly. Percentage rent is calculated by multiplying fixed percentages by
gross room revenues, in excess of certain threshold amounts and is paid monthly or quarterly, according to the terms of the agreement.
We have entered into several agreements related to the Hyde Resort & Residences, which is zoned and operated as a
condominium hotel with individual condominium units owned by third parties. In addition to our ownership of the commercial
condominium unit, consisting of the designated lobby and front desk areas, we entered into a 20-year lease agreement with the
condominium association responsible for the operation of the condominium, whereby we lease other common areas, including
meeting rooms, office spaces, and 400 parking spaces, and also manage the parking garage.
Tax Status
The Company elected to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code of 1986, as amended
(the “Code”), commencing with its taxable year ended December 31, 2004. In order to maintain its qualification as a REIT, the
Company must meet a number of organizational and operational requirements, including a requirement that it currently distribute, as
“qualifying distributions,” at least 90.0% of its taxable income (determined without regard to the deduction for dividends paid and by
excluding its net capital gains and reduced by certain non-cash items) to its stockholders. The Company has adhered to these
10
requirements each taxable year since its formation in 2004 and intends to continue to adhere to these requirements and maintain its
qualification for taxation as a REIT. As a REIT, the Company generally will not be subject to federal corporate income tax on that
portion of its taxable income (including its net capital gain) that is distributed to its stockholders. If the Company fails to qualify for
taxation as a REIT in any taxable year, and no relief provision applies, it will be subject to federal income taxes at regular corporate
rates and it would be disqualified from re-electing treatment as a REIT until the fifth taxable year after the year in which it failed to
qualify as a REIT. Even if the Company qualifies for taxation as a REIT, it may be subject to certain state and local taxes on its
income and property, and to federal income and excise taxes on its undistributed taxable income. In addition, taxable income from
non-REIT activities managed through taxable REIT subsidiaries is subject to federal, state and local income taxes.
While the Operating Partnership is generally not subject to federal and state income taxes, the unit holders of the Operating
Partnership, including the Company, are subject to tax on their respective allocable shares of the Operating Partnership’s taxable
income.
The Company has one taxable REIT subsidiary, MHI Holding, in which it owns an interest through the Operating Partnership.
MHI Holding is subject to federal, state and local income taxes. MHI Holding has operated at a cumulative taxable loss, through
December 31, 2017, of approximately $19.4 million and deferred timing differences of approximately $2.1 million attributable to
accrued, but not deductible, vacation and sick pay amounts and other depreciation and amortizable timing differences. The Company
has not incurred federal income taxes since its formation. The cumulative taxable loss and combined timing differences result in a net
deferred tax asset of approximately $5.5 million for these cumulative deferred tax loss carryforwards.
Environmental Matters
In connection with the ownership and operation of the hotels, we are subject to various federal, state and local laws, ordinances
and regulations relating to environmental protection. Under these laws, a current or previous owner or operator of real estate may be
liable for the costs of removal or remediation of certain hazardous or toxic substances on, under, or in such property. Such laws often
impose liability without regard to whether the owner or operator knew of, or was responsible for, the presence of hazardous or toxic
substances. In addition, the presence of contamination from hazardous or toxic substances, or the failure to remediate such
contaminated property properly, may adversely affect the owner’s ability to borrow using such property as collateral. Furthermore, a
person who arranges for the disposal or treatment of a hazardous or toxic substance at a property owned by another, or who transports
such substance to or from such property, may be liable for the costs of removal or remediation of such substance released into the
environment at the disposal or treatment facility. The costs of remediation or removal of such substances may be substantial, and the
presence of such substances may adversely affect the owner’s ability to sell such real estate or to borrow using such real estate as
collateral. In connection with the ownership and operation of the hotels, we may be potentially liable for such costs.
We believe that our hotels are in compliance, in all material respects, with all federal, state and local environmental ordinances
and regulations regarding hazardous or toxic substances and other environmental matters, the violation of which would have a
material adverse effect on us. We have not received written notice from any governmental authority of any material noncompliance,
liability or claim relating to hazardous or toxic substances or other environmental matters in connection with any of our present hotel
properties.
Employees
As of December 31, 2017, we employed twelve full-time persons, all of whom work at our corporate office in Williamsburg,
Virginia. All persons employed in the day-to-day operations of each of our hotels are employees of our third-party hotel managers
engaged by our TRS Lessees to operate such hotels.
Subsequent Events
Wilmington Mortgage Loan
On February 1, 2018, we received proceeds of $5.0 million on the Hilton Wilmington Riverside mortgage loan after meeting
certain requirements, per the mortgage documents.
7.25% Senior Unsecured Notes Offering
On February 12, 2018, the Company and the Operating Partnership closed on a sale and issuance by the Operating Partnership
of an aggregate $25.0 million of the 7.25% senior unsecured notes due 2021 (the “7.25% Notes”), unconditionally guaranteed by the
Company, for net proceeds after all estimated expenses of approximately $23.3 million. The Operating Partnership used the net
proceeds from this offering, together with existing cash on hand and $57.0 million of asset-level mortgage indebtedness, to finance the
acquisition of the Hyatt Centric Arlington hotel and for working capital.
11
Houston Mortgage Loan Amendment
On February 26, 2018, we entered into a First Amendment to Loan Agreement, Amended and Restated Promissory Note, and
other related documents with International Bank of Commerce to amend the terms of the mortgage loan on The Whitehall hotel
located in Houston, TX. Pursuant to the amended loan documents, the maturity date is extended until February 26, 2023, the loan
amortizes on a 25-year schedule with payments of principal and interest beginning immediately, and an initial principal balance of
$15.0 million.
Hyatt Centric Arlington Acquisition
On March 1, 2018, we acquired the 318-room Hyatt Centric Arlington hotel located in Arlington, Virginia for an aggregate
purchase price of $79.7 million, including seller credits (the “Arlington Acquisition”). Concurrently with the closing, we entered into
a franchise agreement with an affiliate of Hyatt Hotels Corporation for the hotel to continue operating as the Hyatt Centric Arlington,
and a management agreement with Highgate Hotels for the management of the hotel. The management agreement: (i) has an initial
term of three years commencing March 1, 2018; (ii) provides for a base management fee equal to 2.50% of gross revenues; and (iii)
provides for an incentive management fee equal to 10% of the amount by which gross operating profit, as defined in the management
agreement, for a given year exceeds the budgeted gross operating profit for such year; provided, however, that the incentive
management fee payable in respect of any year shall not exceed 0.5% of the gross revenues of the hotel. The Hyatt Centric Arlington
is subject to a long-term ground lease agreement that covers all of the land underlying the hotel. The ground lease requires us to make
rental payments of $50,000 per year in base rent and percentage rent equal to 3.5% of gross rooms revenues in excess of certain
thresholds, as defined in the agreements. The initial term of the ground lease expires in 2025 and may be extended by us for five
additional renewal periods of 10 years each.
On March 1, 2018, we entered into a loan agreement, a first and second promissory note (“Note A” and “Note B”, respectively),
and other loan documents, including a guarantee by the Operating Partnership, to secure an aggregate $57.0 million mortgage (the
“Mortgage Loan”) on the Hyatt Centric Arlington hotel with Fifth Third Bank. Pursuant to the Mortgage Loan documents, Note A is
in the amount of $50.0 million; has a term of 3 years, with two 1-year extension options, each of which is subject to certain criteria;
bears a floating interest rate of one-month LIBOR plus 3.00%; and amortizes on a 25-year schedule. Pursuant to the Mortgage Loan
documents, Note B is in the amount of $7.0 million; has a term of 1-year, with two 1-year extension options, each of which is subject
to certain criteria; bears a floating interest rate of three-month LIBOR plus 5.00%; and requires monthly principal payments of
$100,000 during the initial 1-year term, $150,000 during the first 1-year extended term, and $250,000 during the second 1-year
extended term, with interest payments due monthly on the outstanding principal amount during all three terms. The full amount of the
loan proceeds, together with proceeds of the 7.25% Notes offering and cash on hand, were used to finance the Arlington Acquisition.
Other Commitments
On June 1, 2017, we entered into an agreement to purchase the commercial unit of the planned Hyde Beach House Resort &
Residences, a condominium hotel under development in Hollywood, Florida, for a price of $5.1 million from 4000 South Ocean
Property Owner, LLLP. In connection with the agreement, we also entered into a pre-opening services agreement whereby the seller
has agreed to pay the Company approximately $0.8 million in connection with certain pre-opening activities to be undertaken prior to
the closing. The Company has agreed to purchase inventories at closing consistent with the management and operation of the planned
hotel and the related condominium association for an additional amount and has further agreed to enter into a lease agreement for the
parking garage and poolside cabanas associated with the planned hotel; and to enter into a management agreement relating to the
operation and management of the planned hotel’s condominium association. The Company anticipates that the closing of the
transaction and the execution of related agreements will take place in the second quarter of 2019, once construction of the planned
hotel has been substantially completed. The closing of the transaction is subject to various closing conditions as described in the
purchase agreement.
Available Information
We maintain an Internet site, http://www.sotherlyhotels.com, which contains additional information concerning Sotherly Hotels
Inc. We make available free of charge through our Internet site all our annual reports on Form 10-K, quarterly reports on Form 10-Q,
current reports on Form 8-K, definitive proxy statements and other reports filed with the Securities and Exchange Commission as soon
as reasonably practicable after we electronically file such material with, or furnish it to, the Securities and Exchange Commission. We
have also posted on this website the Company’s Code of Business Conduct and the charters of the Company’s Nominating, Corporate
Governance and Compensation (“NCGC”) and Audit Committees of the Company’s board of directors. We intend to disclose on our
website any changes to, or waivers from, the Company’s Code of Business Conduct. Information on the Company’s Internet site is
neither part of nor incorporated into this Form 10-K.
12
Item 1A. Risk Factors
The following are the material risks that may affect us. Any of the risks discussed herein can materially adversely affect our
business, liquidity, operations, industry or financial position or our future financial performance.
Risks Related to Our Business and Properties
If the economy falls into a recessionary period or fails to maintain positive growth, our operating performance and financial
results may be harmed by declines in occupancy, average daily room rates and/or other operating revenues.
The performance of the lodging industry and the general economy historically have been closely linked. In an economic
downturn, business and leisure travelers may seek to reduce costs by limiting travel and/or reducing costs on their trips. Our hotels,
which are all full-service hotels, may be more susceptible to a decrease in revenue, as compared to hotels in other categories that have
lower room rates. A decrease in demand for hotel stays and hotel services will negatively affect our operating revenues, which will
lower our cash flow and may affect our ability to make distributions to stockholders and to maintain compliance with our loan
obligations. We had net loss attributable to the common shareholders of approximately $3.3 million for the 2017 fiscal year. An
economic downturn may increase our losses or reduce our income in the future. A weakening of the economy may adversely and
materially affect our industry, business and results of operations and we cannot predict the likelihood, severity or duration of any such
downturn. Moreover, reduced revenues as a result of a weakening economy may also reduce our working capital and impact our long-
term business strategy.
We own a limited number of hotels and significant adverse changes at one hotel could have a material adverse effect on our
financial performance and may limit our ability to make distributions to stockholders.
As of December 31, 2017, our portfolio consisted of eleven wholly-owned hotels with a total of 2,838 rooms and the hotel
commercial condominium unit of the Hyde Resort & Residences condominium hotel. Significant adverse changes in the operations of
any one hotel could have a material adverse effect on our financial performance and, accordingly, on our ability to make distributions
to stockholders.
We are subject to risks of increased hotel operating expenses and decreased hotel revenues.
Our leases with our TRS Lessees provide for the payment of rent based in part on gross revenues from our hotels. Our TRS
Lessees are subject to hotel operating risks including decreased hotel revenues and increased hotel operating expenses, including but
not limited to the following:
•
•
•
•
•
•
wage and benefit costs;
repair and maintenance expenses;
energy costs;
property taxes;
insurance costs; and
other operating expenses.
Any increases in these operating expenses can have a significant adverse impact on our TRS Lessees’ ability to pay rent and
other operating expenses and, consequently, our earnings and cash flow.
In keeping with our investment strategy, we may acquire, renovate and/or re-brand hotels in new or existing geographic markets as
part of our repositioning strategy. Unanticipated expenses and insufficient demand for newly repositioned hotels could adversely
affect our financial performance and our ability to comply with covenants in the indenture to the 7.25% Notes and to make
distributions to the Company’s stockholders.
We have in the past, and may in the future, develop or acquire hotels in geographic areas in which our management may have
little or no operating experience. Additionally, those properties may also be renovated and re-branded as part of a repositioning
strategy. Potential customers may not be familiar with our newly renovated hotel or be aware of the brand change. As a result, we may
have to incur costs relating to the opening, operation and promotion of those new hotel properties that are substantially greater than
those incurred in other geographic areas. These hotels may attract fewer customers than expected and we may choose to increase
spending on advertising and marketing to promote the hotel and increase customer demand. Unanticipated expenses and insufficient
demand at new hotel properties, therefore, could adversely affect our financial performance and our ability to comply with covenants
in the indenture and to make distributions to the Company’s stockholders. On March 1, 2018, we acquired the Hyatt Centric
13
Arlington located in Arlington, Virginia. If this hotel attracts fewer customers than anticipated, it could adversely affect our financial
performance.
We do not have the authority to require any hotel to be operated in a particular manner or to govern any particular aspect of the
daily operations of any hotel and as a result, our returns are dependent on the management of our hotels by our hotel management
companies.
Since federal income tax laws restrict REITs and their subsidiaries from operating or managing hotels, we do not operate or
manage our hotels. Instead, we lease all of our hotels to our TRS Lessees, and our TRS Lessees retain managers to operate our hotels
pursuant to management agreements.
Under the terms of our management agreements with our hotel managers and the REIT qualification rules, our ability to
participate in operating decisions regarding the hotels is limited. We will depend on our hotel managers to operate our hotels as
provided in the management agreements. We do not have the authority to require any hotel to be operated in a particular manner or to
govern any particular aspect of the daily operations of any hotel. Thus, even if we believe our hotels are being operated inefficiently or
in a manner that does not result in satisfactory occupancy rates, RevPAR, and average daily rates (“ADR”), we may not be able to
force a hotel management company to change its method of operating our hotels. Additionally, in the event that we need to replace a
hotel management company in the future, we may be required by the terms of the applicable management agreement to pay substantial
termination fees and may experience significant disruptions at the affected hotels.
Our ability to make distributions to the Company’s stockholders is subject to fluctuations in our financial performance, operating
results and capital improvement requirements.
As a REIT, the Company is required to distribute, as “qualifying distributions,” at least 90.0% of its REIT taxable income
(determined without regard to the dividends-paid deduction and by excluding its net capital gains, and reduced by certain non-cash
items), each year to the Company’s stockholders. However, several factors may make us unable to declare or pay distributions to the
Company’s stockholders, including poor operating results and financial performance or unanticipated capital improvements to our
hotels, including capital improvements that may be required by our franchisors.
We lease all of our hotels to our TRS Lessees. Our TRS Lessees are subject to hotel operating risks, including risks of sustaining
operating losses after payment of hotel operating expenses, including management fees. Among the factors which could cause our
TRS Lessees to fail to make required rent payments are reduced net operating profits or operating losses, increased debt service
requirements and capital expenditures at our hotels, including capital expenditures required by the franchisors of our hotels. Among
the factors that could reduce the net operating profits of our TRS Lessees are decreases in hotel revenues and increases in hotel
operating expenses. Hotel revenue can decrease for a number of reasons, including increased competition from a new supply of hotel
rooms and decreased demand for hotel rooms. These factors can reduce both occupancy and room rates at our hotels.
The amount of any dividend distributions to holders of the Company’s common stock is in the sole discretion of the Company’s
board of directors, which will consider, among other factors, our financial performance, debt service obligations, debt covenants and
capital expenditure requirements. We cannot assure you that we will continue to generate sufficient cash to fund distributions.
Geographic concentration of our hotels makes our business vulnerable to economic downturns in the mid-Atlantic and southern
United States.
Our hotels are located in the mid-Atlantic and southern United States. As a result, economic conditions in the mid-Atlantic and
southern United States significantly affect our revenues and the value of our hotels to a greater extent than if we had a more
geographically diversified portfolio. Business layoffs or downsizing, industry slowdowns, changing demographics and other similar
factors that may adversely affect the economic climate in these areas could have a significant adverse impact on our business. Any
resulting oversupply or reduced demand for hotels in the mid-Atlantic and southern United States and in our markets in particular
would therefore have a disproportionate negative impact on our revenues and limit our ability to make distributions to stockholders.
A substantial number of our hotels operate under brands owned by Hilton Worldwide (Hilton); therefore, we are subject to risks
associated with concentrating our portfolio in one brand. We also own hotels operated under brands owned by InterContinental
Hotels Group (IHG), Marriott International, Inc. (Marriott) and Hyatt Hotels Corporation (Hyatt).
In our portfolio, the majority of the hotels that we owned as of December 31, 2017 utilize brands owned by Hilton. As a result,
our success is dependent in part on the continued success of Hilton and their respective brands. If market recognition or the positive
perception of Hilton is reduced or compromised, the goodwill associated with the Hilton branded hotels in our portfolio may be
adversely affected, which may have a material adverse effect on our business, financial condition, results of operations and our ability
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to make distributions to our stockholders. As of March 1, 2018, we owned one property each under the IHG, Marriott, and Hyatt
brands. Our success is also dependent in part on the continued success, market recognition, and positive perception of these brands.
Hedging against interest rate exposure may adversely affect us and our hedges may fail to protect us from the losses that the
hedges were designed to offset.
Subject to maintaining the Company’s qualification as a REIT, we may elect to manage our exposure to interest rate volatility
by using interest rate hedging arrangements, such as cap agreements and swap agreements. These agreements involve the risks that
these arrangements may fail to protect or adversely affect us because, among other things:
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interest rate hedging can be expensive, particularly during periods of rising and volatile interest rates;
available interest rate hedges may not correspond directly with the interest rate risk for which protection is sought;
the financial instruments we select may not have the effect of reducing our interest rate risk;
the duration of the hedge may not match the duration of the related liability;
the credit quality of the hedging counterparty owing money on the hedge may be downgraded to such an extent that it
impairs our ability to sell or assign our side of the hedging transaction; and
the hedging counterparty owing money in the hedging transaction may default on its obligation to pay.
As a result of any of the foregoing, our hedging transactions, which are intended to limit losses, may fail to protect us from the
losses that the hedges were designed to offset and could have a material adverse effect on us.
Our investment opportunities and growth prospects may be affected by competition for acquisitions.
We compete for investment opportunities with other entities, some of which have substantially greater financial resources than
we do. This competition may generally limit the number of suitable investment opportunities offered to us, which may limit our ability
to grow. This competition may also increase the bargaining power of property owners seeking to sell to us, making it more difficult for
us to acquire new properties on attractive terms, or at all.
If we fail to maintain an effective system of internal controls, we may not be able to accurately determine our financial results or
prevent fraud. As a result, the Company’s stockholders could lose confidence in our financial results, which could harm our
business and the value of the Company’s shares.
Effective internal controls are necessary for us to provide reliable financial reports and effectively prevent fraud. Section 404 of
the Sarbanes-Oxley Act of 2002 requires us to evaluate and report on our internal controls over financial reporting. Our internal
controls and financial reporting are subject to attestation by our independent registered public accounting firm pursuant to the
Sarbanes-Oxley Act of 2002 for issuers that are “large accelerated filers” or “accelerated filers” under the Dodd-Frank Wall Street
Reform and Consumer Protection Act of 2010. While we have undertaken substantial work to maintain effective internal controls, we
cannot be certain that we will be successful in maintaining adequate internal controls over our financial reporting and financial
processes in the future. We may in the future discover areas of our internal controls that need improvement. Furthermore, as we grow
our business, our internal controls will become more complex, and we will require significantly more resources to ensure our internal
controls remain effective. If we or our independent auditors discover a material weakness, the disclosure of that fact, even if quickly
remedied, could reduce the market value of the Company’s shares. Additionally, the existence of any material weakness or significant
deficiency would require management to devote significant time and incur significant expense to remediate any such material
weaknesses or significant deficiencies and management may not be able to remediate any such material weaknesses or significant
deficiencies in a timely manner.
We and our hotel managers rely on information technology in our operations, and any material failure, inadequacy, interruption
or security failure of that technology could harm our business.
We and our hotel managers rely on information technology networks and systems, including the Internet, to process, transmit
and store electronic information, and to manage or support a variety of business processes, including financial transactions and
records, personal identifying information, reservations, billing and operating data. We and our hotel managers purchase some of our
information technology from vendors, on whom our systems depend. We and our hotel managers rely on commercially available
systems, software, tools and monitoring to provide security for processing, transmission and storage of confidential operator and other
customer information, such as individually identifiable information, including information relating to financial accounts. Although we
and our hotel managers have taken steps we believe are necessary to protect the security of our information systems and the data
maintained in those systems, it is possible that the safety and security measures taken will not be able to prevent the systems’ improper
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functioning or damage, or the improper access or disclosure of personally identifiable information such as in the event of cyber-
attacks. Security breaches, including physical or electronic break-ins, computer viruses, attacks by hackers and similar breaches, can
create system disruptions, shutdowns or unauthorized disclosure of confidential information. Any failure to maintain proper
functionality, security and availability of our information systems could interrupt our operations, damage our reputation, subject us to
liability claims or regulatory penalties and could have a material adverse effect on our business, financial condition and results of
operations.
Risks Related to the Lodging Industry
Our ability to comply with the terms of the indenture for the 7.25% Notes, our ability to make distributions to the Company’s
stockholders and the value of our hotels in general, may be adversely affected by factors in the lodging industry.
Operating Risks
Our hotel properties are subject to various operating risks common to the lodging industry, many of which are beyond our
control, including the following:
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competition from other hotel properties in our markets;
over-building of hotels in our markets, which adversely affects occupancy and revenues at our hotels;
dependence on business and commercial travelers and tourism;
increases in energy costs and other expenses affecting travel, which may affect travel patterns and reduce the number of
business and commercial travelers and tourists;
increases in operating costs due to inflation and other factors, including increases in labor costs, that may not be offset by
increased room rates;
changes in interest rates and in the availability, cost and terms of debt financing;
changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance
with laws and regulations, fiscal policies and ordinances;
adverse effects of international, national, regional and local economic and market conditions;
adverse effects of a downturn in the lodging industry; and
risks generally associated with the ownership of hotel properties and real estate, as we discuss in detail below.
These factors could reduce the net income of our TRS Lessees, which in turn could adversely affect the value of our hotels and
our ability to comply with the terms of the indenture and to make distributions to the Company’s stockholders.
Seasonality of the Hotel Business
The lodging industry is seasonal in nature, which can be expected to cause quarterly fluctuations in our revenues. Our quarterly
earnings may be adversely affected by factors outside our control, including weather conditions and poor economic factors. As a
result, we may have to enter into short-term borrowings in certain quarters in order to offset these fluctuations in revenues and to make
distributions to the Company’s stockholders.
Investment Concentration in Particular Segments of a Single Industry
Our entire business is lodging-related. Therefore, a downturn in the lodging industry, in general, and the full-service, upscale
and upper-upscale segments in which we operate, in particular, will have a material adverse effect on the value of our hotels, our
financial condition and the extent to which cash may be available for distribution to the Company’s stockholders.
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Capital Expenditures
Our hotel properties have an ongoing need for renovations and other capital improvements, including replacements, from time
to time, of furniture, fixtures and equipment. The franchisors of our hotels also require us to make periodic capital improvements as a
condition of keeping the franchise licenses. In addition, several of our mortgage lenders require that we set aside amounts for capital
improvements to the secured properties on a monthly basis. For the years ended December 31, 2017 and 2016, we spent
approximately $23.2 million and approximately $14.9 million, respectively, on capital improvements to our hotels. Capital
improvements and renovation projects may give rise to the following risks:
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possible environmental problems;
construction cost overruns and delays;
a possible shortage of available cash to fund capital improvements and the related possibility that financing for these
capital improvements may not be available to us on affordable terms; and
uncertainties as to market demand or a loss of market demand after capital improvements have begun.
The costs of all these capital improvements as well as future capital improvements could adversely affect our financial condition
and amounts available for distribution to the Company’s stockholders.
Operating our hotels under franchise agreements could increase our operating costs and lower our net income.
Most of our hotels operate under franchise agreements which subject us to risks in the event of negative publicity related to one
of our franchisors.
The maintenance of the franchise licenses for our hotels is subject to our franchisors’ operating standards and other terms and
conditions. Our franchisors periodically inspect our hotels to ensure that we, our TRS Lessees, and the management companies follow
their standards. Failure by us, our TRS Lessees or a management company to maintain these standards or other terms and conditions
could result in a franchise license being canceled. If a franchise license terminates due to our failure to make required improvements
or to otherwise comply with its terms, we may also be liable to the franchisor for a termination payment, which varies by franchisor
and by hotel. As a condition of continuing a franchise license, a franchisor may require us to make capital expenditures, even if we do
not believe the capital improvements are necessary or desirable or will result in an acceptable return on our investment. Nonetheless,
we may risk losing a franchise license if we do not make franchisor-required capital expenditures.
If a franchisor terminates the franchise license, we may try either to obtain a suitable replacement franchise license or to operate
the hotel without a franchise license. The loss of a franchise license could significantly decrease the revenues at the hotel and reduce
the underlying value of the hotel because of the loss of associated name recognition, marketing support and centralized reservation
systems provided by the franchisor. A loss of a franchise license for one or more hotels could materially and adversely affect our
revenues. This loss of revenues could, therefore, also adversely affect our financial condition and results of operations, our ability to
comply with the terms of the indenture for the 7.25% Notes and reduce our cash available for distribution to stockholders.
Restrictive covenants in certain of our franchise agreements contain provisions that may operate to limit our ability to sell or
refinance our hotels, which could have a material adverse effect on us.
Franchise agreements typically contain covenants that may affect our ability to sell or refinance a hotel, including requirements
to obtain the consent of the franchisor in the event of such a sale or refinancing transaction. In the event that a franchisor’s consent is
not forthcoming, the terms of a sale or refinancing may be less favorable to us than would otherwise be the case. Some of our
franchise agreements provide the franchisor with a right of first offer in the event of certain sales or transfers of a hotel and provide
that the franchisor has the right to approve any change in the hotel management company engaged to manage the hotel. Generally, we
may be limited in our ability to sell, lease or otherwise transfer hotels unless the transferee is not a competitor of the franchisor and the
transferee agrees to assume the related franchise agreements. If the franchisor does not consent to the sale or financing of our hotels,
we may be unable to consummate transactions that are in our best interests or the terms of those transactions may be less favorable to
us, which could have a material adverse effect on our financial condition and the execution of our strategies.
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Hotel re-development is subject to timing, budgeting and other risks that would increase our operating costs and limit our ability to
make distributions to stockholders.
We intend to acquire hotel properties from time to time as suitable opportunities arise, taking into consideration general
economic conditions, and seek to re-develop or reposition these hotels. Redevelopment of hotel properties involves a number of risks,
including risks associated with:
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construction delays or cost overruns that may increase project costs;
receipt of zoning, occupancy and other required governmental permits and authorizations;
development costs incurred for projects that are not pursued to completion;
acts of God such as earthquakes, hurricanes, floods or fires that could adversely impact a project;
financing; and
governmental restrictions on the nature or size of a project.
We cannot assure you that any re-development project will be completed on time or within budget. Our inability to complete a
project on time or within budget would increase our operating costs and reduce our net income.
The hotel business is capital intensive and our inability to obtain financing could limit our growth.
Our hotel properties will require periodic capital expenditures and renovation to remain competitive. Acquisitions or
development of additional hotel properties will require significant capital expenditures. In addition, several of our mortgage lenders
require that we set aside annual amounts for capital improvements to the secured property. We may not be able to fund capital
improvements or acquisitions solely from cash provided from our operating activities because we must distribute at least 90.0% of our
REIT taxable income, excluding net capital gains, each year to maintain our REIT tax status. As a result, our ability to fund significant
capital expenditures, acquisitions or hotel development through retained earnings is very limited. Consequently, we rely upon the
availability of debt or equity capital to fund any significant investments or capital improvements. Our ability to grow through
acquisitions or development of hotels will be limited if we cannot obtain satisfactory debt or equity financing which will depend on
market conditions. Neither our charter nor our bylaws limit the amount of debt that we can incur. However, we cannot assure you that
we will be able to obtain additional equity or debt financing or that we will be able to obtain such financing on favorable terms.
Uninsured and underinsured losses could adversely affect our operating results and our ability to make distributions to the
Company’s stockholders.
We maintain comprehensive insurance on each of our hotel properties, including liability, fire and extended coverage, of the
type and amount we believe are customarily obtained for or by hotel owners. There are no assurances that current coverage will
continue to be available at reasonable rates. Various types of catastrophic losses, like hurricanes, earthquakes and floods, such as
Hurricanes Harvey and Irma in August and September 2017, respectively, Hurricane Matthew in October 2016 and Hurricane Sandy
in October 2012, losses from foreign terrorist activities, such as those on September 11, 2001, losses from power outages or losses
from domestic terrorist activities, such as the Oklahoma City bombing on April 19, 1995, may not be insurable or may not be
economically insurable. Currently, our insurers provide terrorism coverage in conjunction with the Terrorism Risk Insurance Program
sponsored by the federal government through which insurers are able to receive compensation for insured losses resulting from acts of
terrorism.
In the event of a substantial loss, our insurance coverage may not be sufficient to cover the full current market value or
replacement cost of our lost investment. Should an uninsured loss or a loss in excess of insured limits occur, we could lose all or a
portion of the capital we have invested in a hotel, as well as the anticipated future revenue from the hotel. In that event, we might
nevertheless remain obligated for any mortgage debt or other financial obligations related to the property. Inflation, changes in
building codes and ordinances, environmental considerations and other factors might also keep us from using insurance proceeds to
replace or renovate a hotel after it has been damaged or destroyed. Under those circumstances, the insurance proceeds we receive
might be inadequate to restore our economic position on the damaged or destroyed property.
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Noncompliance with governmental regulations could adversely affect our operating results.
Environmental Matters
Our hotels may be subject to environmental liabilities. An owner of real property can face liability for environmental
contamination created by the presence or discharge of hazardous substances on the property. We may face liability regardless of:
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the timing of the contamination;
the cause of the contamination; or
the party responsible for the contamination of the property.
There may be unknown environmental problems associated with our properties. If environmental contamination exists on our
properties, we could become subject to strict, joint and several liability for the contamination by virtue of our ownership interest.
The presence of hazardous substances on a property may adversely affect our ability to sell the property and we may incur
substantial remediation costs. The discovery of environmental liabilities attached to our properties could have a material adverse effect
on our results of operations and financial condition and our ability to comply with our covenants and to pay distributions to
stockholders.
Americans with Disabilities Act and Other Changes in Governmental Rules and Regulations
Under the Americans with Disabilities Act of 1990, or the ADA, all public accommodations must meet various federal
requirements related to access and use by disabled persons. Compliance with the ADA’s requirements could require removal of access
barriers, and non-compliance could result in the U.S. government imposing fines or in private litigants winning damages. If we are
required to make substantial modifications to our hotels, whether to comply with the ADA or other changes in governmental rules and
regulations, our financial condition, results of operations and ability to comply with the terms of the indenture for the 7.25% Notes and
to make distributions to the Company’s stockholders could be adversely affected.
Our hotels may be subject to unknown or contingent liabilities which could cause us to incur substantial costs.
The hotel properties that we acquire may be subject to unknown or contingent liabilities for which we may have no recourse, or
only limited recourse, against the sellers. Contingent or unknown liabilities with respect to entities or properties acquired might
include:
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liabilities for environmental conditions;
losses in excess of our insured coverage;
accrued but unpaid liabilities incurred in the ordinary course of business;
tax, legal and regulatory liabilities;
claims of customers, vendors or other persons dealing with the Company’s predecessors prior to our formation or
acquisition transactions that had not been asserted or were unknown prior to the Company’s formation or acquisition
transactions; and
claims for indemnification by the general partners, officers and directors and others indemnified by the former owners of
our properties.
In general, the representations and warranties provided under the transaction agreements related to the sales of the hotel
properties may not survive the closing of the transactions. While we will likely seek to require the sellers to indemnify us with respect
to breaches of representations and warranties that survive, such indemnification may be limited and subject to various materiality
thresholds, a significant deductible or an aggregate cap on losses. As a result, there is no guarantee that we will recover any amounts
with respect to losses due to breaches by the sellers of their representations and warranties. In addition, the total amount of costs and
expenses that may be incurred with respect to liabilities associated with these hotels may exceed our expectations, and we may
experience other unanticipated adverse effects, all of which may adversely affect our financial condition, results of operations and our
ability to make distributions to the Company’s stockholders.
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Future terrorist activities may adversely affect, and create uncertainty in, our business.
Terrorism in the United States or elsewhere could have an adverse effect on our business, although the degree of impact will
depend on a number of factors, including the U.S. and global economies and global financial markets. Previous terrorist attacks in the
United States and subsequent terrorism alerts have adversely affected the travel and hospitality industries in the past. Such attacks, or
the threat of such attacks, could have a material adverse effect on our business, our ability to finance our business, our ability to insure
our properties and/or our results of operations and financial condition, as a whole.
We face risks related to pandemic diseases, which could materially and adversely affect travel and result in reduced demand for
our hotels.
Our business could be materially and adversely affected by the effect of a pandemic disease on the travel industry. For example,
the outbreaks of SARS and avian flu in 2003 had a severe impact on the travel industry, the outbreaks of H1N1 flu in 2009 threatened
to have a similar impact, and the perceived threat of a Zika virus outbreak in 2016 had an impact on the south Florida market. A
prolonged recurrence of SARS, avian flu, H1N1 flu, Ebola virus, Zika virus or another pandemic disease also may result in health or
other government authorities imposing restrictions on travel. Any of these events could result in a significant drop in demand for our
hotels and adversely affect our financial conditions and results of operations.
General Risks Related to the Real Estate Industry
Illiquidity of real estate investments could significantly impede our ability to respond to adverse changes in the performance of our
properties and harm our financial condition.
Because real estate investments are relatively illiquid, our ability to promptly sell one or more hotel properties in our portfolio in
response to changing economic, financial and investment conditions is limited.
The real estate market is affected by many factors that are beyond our control, including:
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adverse changes in international, national, regional and local economic and market conditions;
changes in interest rates and in the cost and terms of debt financing;
absence of liquidity in credit markets which limits the availability and amount of debt financing;
changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance
with laws and regulations, fiscal policies and ordinances;
the ongoing need for capital improvements, particularly in older structures;
changes in operating expenses; and
civil unrest, acts of God, including earthquakes, floods and other natural disasters such as Hurricanes Harvey and Irma in
August and September of 2017, Hurricane Matthew in October 2016 and Hurricane Sandy in October 2012, which may
result in uninsured losses, and acts of war or terrorism, including the consequences of terrorist acts, such as those that
occurred on September 11, 2001.
We may decide to sell our hotels in the future. We cannot predict whether we will be able to sell any hotel property for the price
or on the terms set by us, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We also
cannot predict the length of time needed to find a willing purchaser and to close the sale of a hotel property.
We may be required to expend funds to correct defects or to make improvements before a hotel property can be sold. We cannot
assure you that we will have funds available to correct those defects or to make those improvements. In acquiring a hotel property, we
may agree to lock-out provisions that materially restrict us from selling that property for a period of time or impose other restrictions,
such as a limitation on the amount of debt that can be placed or repaid on that property. These factors and any others that would
impede our ability to respond to adverse changes in the performance of our properties could have a material adverse effect on our
operating results and financial condition, as well as our ability to comply with the terms of the indenture and to pay distributions to
stockholders.
Future acquisitions may not yield the returns expected, may result in disruptions to our business, may strain management
resources and may result in stockholder dilution.
Our business strategy may not ultimately be successful and may not provide positive returns on our investments. Acquisitions
may cause disruptions in our operations and divert management’s attention away from day-to-day operations. The issuance of equity
securities in connection with any acquisition could be substantially dilutive to the Company’s stockholders.
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Our hotels may contain or develop harmful mold, which could lead to liability for adverse health effects and costs of remediating
the problem.
When excessive moisture accumulates in buildings or on building materials, mold growth may occur, particularly if the moisture
problem remains undiscovered or is not addressed over a period of time. Some molds may produce airborne toxins or irritants.
Concern about indoor exposure to mold has been increasing, as exposure to mold may cause a variety of adverse health effects and
symptoms, including allergic or other reactions. As a result, the presence of significant mold at any of our properties could require us
to undertake a costly remediation program to contain or remove the mold from the affected property, which would reduce our cash
available for distribution. In addition, the presence of significant mold could expose us to liability from our guests, employees or the
management company and others if property damage or health concerns arise and could harm our reputation.
Increases in property taxes would increase our operating costs, reduce our income and adversely affect our ability to make
distributions to the Company’s stockholders.
Each of our hotel properties is subject to real and personal property taxes. These taxes may increase as tax rates change and as
the properties are assessed or reassessed by taxing authorities. If property taxes increase, our financial condition, results of operations
and our ability to make distributions to the Company’s stockholders could be materially and adversely affected and the market price of
the Company’s shares could decline.
Risks Related to Our Organization and Structure
Our ability to effect a merger or other business combination transaction may be restricted by our Operating Partnership
agreement.
In the event of a change of control of the Company, the limited partners of our Operating Partnership will have the right, for a
period of 30 days following the change of control event, to cause the Operating Partnership to redeem all of the units held by the
limited partners for a cash amount equal to the cash redemption amount otherwise payable upon redemption pursuant to the
partnership agreement. This cash redemption right may make it more unlikely or difficult for a third party to propose or consummate a
change of control transaction, even if such transaction were in the best interests of the Company’s stockholders.
Provisions of the Company’s charter may limit the ability of a third party to acquire control of the Company.
Aggregate Share and Common Share Ownership Limits
The Company’s charter provides that no person may directly or indirectly own more than 9.9% of the value of the Company’s
outstanding shares of capital stock or more than 9.9% of the number of the Company’s outstanding shares of common stock. These
ownership limitations may prevent an acquisition of control of the Company by a third party without the Company’s board of
directors’ approval, even if the Company’s stockholders believe the change of control is in their interest. The Company’s board of
directors has discretion to waive that ownership limit if, including other considerations, the board receives evidence that ownership in
excess of the limit will not jeopardize the Company’s REIT status.
Authority to Issue Stock
The Company’s amended and restated charter authorizes our board of directors to issue up to 49,000,000 shares of common
stock and up to 11,000,000 shares of preferred stock, to classify or reclassify any unissued shares of common stock or preferred stock
and to set the preferences, rights and other terms of the classified or reclassified shares. Issuances of additional shares of stock may
have the effect of delaying or preventing a change in control of the Company, including transactions at a premium over the market
price of the Company’s stock, even if stockholders believe that a change of control is in their interest. The Company will be able to
issue additional shares of common or preferred stock without stockholder approval, unless stockholder approval is required by
applicable law or the rules of any stock exchange or automated quotation system on which the Company’s securities may be listed or
traded.
Provisions of Maryland law may limit the ability of a third party to acquire control of the Company.
Certain provisions of the Maryland General Corporation Law, or the MGCL, may have the effect of inhibiting a third party from
making a proposal to acquire us or of impeding a change of control under circumstances that otherwise could provide the holders of
shares of the Company’s common stock with the opportunity to realize a premium over the then-prevailing market price of such
shares, including:
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“business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an
“interested stockholder” (defined generally as any person who beneficially owns 10.0% or more of the voting power of
our shares or an affiliate thereof) for five years after the most recent date on which the stockholder becomes an interested
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stockholder, and thereafter imposes special appraisal rights and special stockholder voting requirements on these
combinations; and
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“control share” provisions that provide that “control shares” of the Company (defined as shares which, when aggregated
with other shares controlled by the stockholder, entitle the stockholder to exercise one of three increasing ranges of voting
power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of
ownership or control of “control shares”) have no voting rights except to the extent approved by the Company’s
stockholders by the affirmative vote of at least two-thirds of all the votes entitled to be cast on the matter, excluding all
interested shares.
The Company has opted out of these provisions of the MGCL, in the case of the business combination provisions of the MGCL
by resolution of the Company’s board of directors, and in the case of the control share provisions of the MGCL pursuant to a provision
in the Company’s bylaws. However, the Company’s board of directors may by resolution elect to opt in to the business combination
provisions of the MGCL and the Company may, by amendment to its bylaws, opt in to the control share provisions of the MGCL in
the future. The Company’s board of directors has the exclusive power to amend the Company’s bylaws.
Additionally, Title 8, Subtitle 3 of the MGCL permits the Company’s board of directors, without stockholder approval and
regardless of what is currently provided in the Company’s charter or bylaws, to implement takeover defenses, some of which (for
example, a classified board) the Company does not currently have. These provisions may have the effect of inhibiting a third party
from making an acquisition proposal for the Company or of delaying, deferring or preventing a change in control of the Company
under the circumstances that otherwise could provide the holders of the Company’s common stock with the opportunity to realize a
premium over the then current market price.
Provisions in the Company’s executive officers’ employment agreements may make a change of control of the Company more
costly or difficult.
The Company’s employment agreements with Andrew M. Sims, its chief executive officer, David R. Folsom, its president and
chief operating officer, and Anthony E. Domalski, its secretary and chief financial officer, contain provisions providing for substantial
payments to these officers in the event of a change of control of the Company. Specifically, if the Company terminates these
executive’s employment without cause or the executive resigns with good reason, which includes a failure to nominate Andrew
M. Sims to the Company’s board of directors or his involuntary removal from the Company’s board of directors, unless for cause or
by vote of the stockholders, or if there is a change of control, each of these executives is entitled to the following:
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any accrued but unpaid salary and bonuses;
vesting of any previously issued stock options and restricted stock;
payment of the executive’s life, health and disability insurance coverage for a period of five years following termination;
any unreimbursed expenses; and
a severance payment equal to three times for Andrew M. Sims’, David R. Folsom’s and Anthony E. Domalski’s respective
combined salary and actual bonus compensation for the preceding fiscal year.
In addition, these executives will receive additional payments to compensate them for the additional taxes, if any, imposed on
them under Section 4999 of the Code by reason of receipt of excess parachute payments. We will not be able to deduct any of the
above amounts paid to the executives for tax purposes.
These provisions may make a change of control of the Company, even if it is in the best interests of the Company’s
stockholders, more costly and difficult and may reduce the amounts the Company’s stockholders would receive in a change of control
transaction.
Our ownership limitations may restrict or prevent you from engaging in certain transfers of the Company’s common stock or
preferred stock.
In order to maintain the Company’s REIT qualification, it cannot be closely held (i.e., more than 50.0% in value of our
outstanding stock cannot be owned, directly or indirectly, by five or fewer individuals during the last half of any taxable year). To
preserve the Company’s REIT qualification, the Company’s charter contains a 9.9% aggregate share ownership limit and a 9.9%
common share ownership limit. Generally, any shares of the Company’s stock owned by affiliated persons will be added together for
purposes of the aggregate share ownership limit, and any shares of common stock owned by affiliated owners will be added together
for purposes of the common share ownership limit.
If anyone transfers shares in a way that would violate the aggregate share ownership limit or the common share ownership limit,
or prevent the Company from continuing to qualify as a REIT under the federal income tax laws, those shares instead will be
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transferred to a trust for the benefit of a charitable beneficiary and will be either redeemed by us or sold to a person whose ownership
of the shares will not violate the aggregate share ownership limit or the common share ownership limit. If this transfer to a trust fails
to prevent such a violation or fails to preserve the Company’s continued qualification as a REIT, then the Company will consider the
initial intended transfer to be null and void from the outset. The intended transferee of those shares will be deemed never to have
owned the shares. Anyone who acquires shares in violation of the aggregate share ownership limit, the common share ownership limit
or the other restrictions on transfer in the Company’s charter bears the risk of suffering a financial loss when the shares are redeemed
or sold if the market price of the Company’s stock falls between the date of purchase and the date of redemption or sale.
The Company’s articles supplementary establishing and fixing the rights and preferences of each of our 8.0% Series B
Cumulative Redeemable Perpetual Preferred Stock (the “Series B Preferred Stock”) and 7.875% Series C Cumulative Redeemable
Perpetual Preferred Stock (the “Series C Preferred Stock”) provide that no person may directly or indirectly own more than 9.9% of
the aggregate number of outstanding shares of Series B Preferred Stock or Series C Preferred Stock, respectively, excluding any
outstanding shares of Series B Preferred Stock or Series C Preferred Stock not treated as outstanding for federal income tax purposes.
The Company’s board of directors has discretion to waive that ownership limit if, including other considerations, the board receives
evidence that ownership in excess of the limit will not jeopardize the Company’s REIT status.
Holders of our outstanding preferred shares have dividend, liquidation and other rights that are senior to the rights of the holders
of our common shares.
Our board of directors has the authority to designate and issue preferred shares with liquidation, dividend and other rights that
are senior to those of our common shares. As of December 31, 2017, 1,610,000 shares of our Series B Preferred Stock were issued
and outstanding, and 1,300,000 shares of our Series C Preferred Stock were issued and outstanding. The aggregate liquidation
preference with respect to the outstanding shares of Series B Preferred Stock is approximately $40.3 million, and annual dividends on
our outstanding shares of Series B Preferred Stock are approximately $3.2 million. The aggregate liquidation preference with respect
to the outstanding shares of Series C Preferred Stock is approximately $32.5 million, and annual dividends on our outstanding shares
of Series C Preferred Stock are approximately $2.6 million. Holders of both our Series B and Series C Preferred Stock are entitled to
cumulative dividends before any dividends may be declared or set aside on our common shares. Upon our voluntary or involuntary
liquidation, dissolution or winding up, before any payment is made to holders of our common shares, holders of these preferred shares
are entitled to receive a liquidation preference of $25.00 per share plus any accrued and unpaid distributions. This will reduce the
remaining amount of our assets, if any, available to distribute to holders of our common shares. In addition, holders of the Series B
Preferred Stock and Series C Preferred Stock voting together as a separate class have the right to elect two additional directors to our
board of directors whenever dividends on the preferred shares are in arrears in an aggregate amount equivalent to six or more quarterly
dividends (whether or not consecutive). Because our decision to issue securities will depend on market conditions and other factors
beyond our control, we cannot predict or estimate the amount, timing or nature of any future preferred offerings. Thus, our
stockholders bear the risk of our future securities issuances reducing the market price of our common shares and diluting their interest.
The change of control conversion and redemption features of the Series B and Series C Preferred Stock may make it more difficult
for a party to take over our Company or discourage a party from taking over our Company.
Upon a change of control (as defined in our charter), holders of both our Series B and Series C Preferred Stock will have the
right (unless, as provided in our charter, we have provided or provide notice of our election to exercise our special optional
redemption right before the relevant date) to convert some or all of their shares of preferred stock into shares of our common stock (or
equivalent value of alternative consideration). Upon such a conversion, holders will be limited to a maximum number of shares equal
to the share cap, subject to adjustments. If the common stock price is less than $3.015, subject to adjustment, holders will receive a
maximum of 8.29187 shares of our common stock per share of Series B Preferred Stock, which may result in a holder receiving value
that is less than the liquidation preference of the Series B Preferred Stock. If the common stock price is less than $2.94, subject to
adjustment, holders will receive a maximum of 8.50340 shares of our common stock per share of Series C Preferred Stock, which may
result in a holder receiving value that is less than the liquidation preference of the Series C Preferred Stock. In addition, those features
of our Series B and Series C Preferred Stock may have the effect of inhibiting or discouraging a third party from making an
acquisition proposal for our Company or of delaying, deferring or preventing a change in control of our Company under circumstances
that otherwise could provide the holders of shares of our common stock and shares of our Series B and Series C Preferred Stock with
the opportunity to realize a premium over the then current market price or that stockholders may otherwise believe is in their best
interests.
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Our organizational documents have no limitation on the amount of indebtedness we may incur. As a result, we may become highly
leveraged in the future, which could materially and adversely affect us.
Our business strategy contemplates the use of both secured and unsecured debt to finance long-term growth. In addition, our
organizational documents contain no limitations on the amount of debt that we may incur, and the Company’s board of directors may
change our financing policy at any time. As a result, we may be able to incur substantial additional debt, including secured debt, in the
future. Incurring debt could subject us to many risks, including the risks that:
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our cash flows from operations may be insufficient to make required payments of principal and interest;
our debt may increase our vulnerability to adverse economic and industry conditions;
we may be required to dedicate a substantial portion of our cash flows from operations to payments on our debt, thereby
reducing cash available for funds available for operations and capital expenditures, future business opportunities or other
purposes; and
the terms of any refinancing may not be in the same amount or on terms as favorable as the terms of the existing debt
being refinanced.
The board of directors’ revocation of the Company’s REIT status without stockholder approval may decrease the Company’s
stockholders’ total return.
The Company’s charter provides that the Company’s board of directors may revoke or otherwise terminate the Company’s
REIT election, without the approval of the Company’s stockholders, if the Company’s board of directors determines that it is no
longer in the Company’s best interest to continue to qualify as a REIT. If the Company ceases to be a REIT, it would become subject
to federal income tax on its taxable income and would no longer be required to distribute most of its taxable income to the Company’s
stockholders, which may have adverse consequences on our total return to the Company’s stockholders.
The ability of the Company’s board of directors to change the Company’s major corporate policies may not be in your best interest.
The Company’s board of directors determines the Company’s major corporate policies, including its acquisition, financing,
growth, operations and distribution policies. The Company’s board of directors may amend or revise these and other policies from
time to time without the vote or consent of the Company’s stockholders.
Our success depends on key personnel whose continued service is not guaranteed.
We depend on the efforts and expertise of our chairman and chief executive officer, Andrew M. Sims; our president and chief
operating officer, David R. Folsom; and our chief financial officer, Anthony E. Domalski, to manage our day-to-day operations and
strategic business direction. The loss of any of their services could have an adverse effect on our operations.
Risks Related to Our Debt
We have substantial financial leverage.
As of December 31, 2017, the principal balance of our secured debt was approximately $299.1 million, not accounting for
reductions of unamortized premiums or deferred financing costs as shown on our balance sheet. Historically, we have incurred debt
for acquisitions and to fund our renovation, redevelopment and rebranding programs. Limitations upon our access to additional debt
could adversely affect our ability to fund these programs or acquire hotels in the future.
Our financial leverage could negatively affect our business and financial results, including the following:
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require us to dedicate a substantial portion of our cash flow from operations to payments on our debt, thereby reducing
funds available for operations, working capital, capital expenditures, future business opportunities, paying dividends or
other purposes;
limit our ability to obtain additional financing for working capital, renovation, redevelopment and rebranding plans,
acquisitions, debt service requirements and other purposes;
adversely affect our ability to satisfy our financial obligations, including those related to the 7.25% Notes;
limit our ability to refinance existing debt;
require us to agree to additional restrictions and limitations on our business operations and capital structure to obtain
financing;
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force us to dispose of one or more of our properties, possibly on unfavorable terms;
increase our vulnerability to adverse economic and industry conditions, and to interest rate fluctuations;
force us to issue additional equity, possibly on terms unfavorable to existing shareholders;
limit our flexibility to make, or react to, changes in our business and our industry; and
place us at a competitive disadvantage, compared to our competitors that have less debt.
We must comply with financial covenants in our mortgage loan agreements and in the indenture for the 7.25% Notes.
Our mortgage loan agreements and indenture for the 7.25% Notes contain various financial covenants. Failure to comply with
these financial covenants could result from, among other things, changes in the local competitive environment, general economic
conditions and disruption caused by renovation activity or major weather disturbances.
If we violate the financial covenants contained in our mortgage loan agreements, we may attempt to negotiate waivers of the
violations or amend the terms of the applicable mortgage loan agreement with the lender; however, we can make no assurance that we
would be successful in any such negotiation or that, if successful in obtaining waivers or amendments, such waivers or amendments
would be on attractive terms. Some mortgage loan agreements provide alternate cure provisions which may allow us to otherwise
comply with the financial covenants by obtaining an appraisal of the hotel, prepaying a portion of the outstanding indebtedness or by
providing cash collateral until such time as the financial covenants are met by the collateralized property without consideration of the
cash collateral. Alternate cure provisions which include prepaying a portion of the outstanding indebtedness or providing cash
collateral may have a material impact on our liquidity.
If we violate the financial covenants in the indenture for the 7.25% Notes, we may attempt to cure that violation by engaging in
one or more transactions pursuant to the cure provision in that indenture.
If we are unable to negotiate a waiver or amendment or satisfy alternate cure provisions, if any, or unable to meet any alternate
cure requirements and a default were to occur, we would possibly have to refinance the debt through debt financing, private or public
offerings of debt securities, additional equity financing, or by disposing of an asset. We are uncertain whether we will be able to
refinance these obligations or if refinancing terms will be favorable.
We have mortgage debt obligations maturing in 2018 and 2019, and if we are not successful in extending the terms of this
indebtedness or in refinancing this debt on acceptable economic terms or at all, our overall financial condition could be materially
and adversely affected.
We will be required to seek additional capital in the near future to refinance or replace existing long-term mortgage debt that is
maturing. The ability to refinance or replace mortgage debt is subject to market conditions, and could become limited in the future.
There can be no assurance that we will be able to obtain future financings on acceptable terms, if at all. In August 2018, the mortgage
on our DoubleTree by Hilton Raleigh Brownstone University matures and in April and June of 2019, respectively, the mortgages on
DoubleTree by Hilton Philadelphia Airport and Crowne Plaza Tampa Westshore mature. We also have additional significant
obligations maturing in subsequent years. The total aggregate amount of our debt obligations scheduled to mature in 2018 and 2019,
inclusive of monthly amortization of all our indebtedness, is approximately $74.1 million, which represents approximately 24.8% of
our total debt obligation outstanding as of December 31, 2017.
We will need to, and plan to, renew, replace or extend our long-term indebtedness prior to the respective maturity date. If we are
unable to extend these loans, we may be required to repay the outstanding principal amount at maturity or a portion of such
indebtedness upon refinance. If we do not have sufficient funds to repay any portion of the indebtedness, it may be necessary to raise
capital through debt financing, private or public offerings of debt securities or equity financings. We are uncertain whether we will be
able to refinance these obligations or if refinancing terms will be favorable. If, at the time of any refinancing, prevailing interest rates
or other factors result in higher interest rates on refinancing, increases in interest expense would lower our cash flow, and,
consequently, cash available to meet our financial obligations. If we are unable to obtain alternative or additional financing
arrangements in the future, or if we cannot obtain financing on acceptable terms, we may not be able to execute our business strategies
or we may be forced to dispose of hotel properties on disadvantageous terms, potentially resulting in losses and potentially reducing
cash flow from operating activities if the sale proceeds in excess of the amount required to satisfy the indebtedness could not be
reinvested in equally profitable real property investments. Moreover, the terms of any additional financing may restrict our financial
flexibility, including the debt we may incur in the future, or may restrict our ability to manage our business as we had intended. To the
extent we cannot repay our outstanding debt, we risk losing some or all of our hotel properties to foreclosure and we could be required
to invoke insolvency proceedings including, but not limited to, commencing a voluntary case under the U.S. Bankruptcy Code.
For tax purposes, a foreclosure of any of our hotels would be treated as a sale of the hotel for a purchase price equal to the
outstanding balance of the debt secured by the mortgage. If the outstanding balance of the debt secured by the mortgage exceeds our
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tax basis in the hotel, we would recognize taxable income on foreclosure, but we would not receive any cash proceeds, which could
hinder Sotherly’s ability to meet the REIT distribution requirements imposed by the Internal Revenue Code of 1986, as amended (the
“Code”). In addition, we may give full or partial guarantees to lenders of mortgage debt on behalf of the entities that own our hotels.
When we give a guarantee on behalf of an entity that owns one of our hotels, we will be responsible to the lender for satisfaction of
the debt if it is not paid by such entity.
Our borrowing costs are sensitive to fluctuations in interest rates.
Higher interest rates could increase our debt service requirements and interest expense. Currently, our floating rate debt is
limited to the mortgages on the DoubleTree by Hilton Philadelphia Airport, the Crowne Plaza Tampa Westshore, The Whitehall and
the Hyatt Centric Arlington. Each of these mortgages bears interest at rates tied to the 1-month or 3-month London Interbank Offered
Rate (“LIBOR”) and provide for minimum rates of interest. To the extent that increases in the LIBOR rate of interest cause the interest
on the mortgages to exceed the minimum rates of interest, we are exposed to rising interest rates.
Should we obtain new debt financing or refinance existing indebtedness, we may increase the amount of floating rate debt that
currently exists. In addition, adverse economic conditions could also cause the terms on which we borrow to be unfavorable.
Risks Related to Conflicts of Interest of Our Officers and Directors
Conflicts of interest could result in our executive officers and certain of our directors acting in a manner other than in the
Company’s stockholders’ best interest.
Conflicts of interest relating to Chesapeake Hospitality, the entity that manages all but one of our hotels, and the terms of its
management agreements with Chesapeake Hospitality may lead to management decisions that are not in the stockholders’ best
interest.
Conflicts of interest relating to Chesapeake Hospitality may lead to management decisions that are not in the stockholders’ best
interest. Andrew M. Sims, our chairman and chief executive officer, and Kim E. Sims, a former member of our board of directors,
together own a substantial interest in Chesapeake Hospitality which manages all but one of our hotels.
Our management agreements with Chesapeake Hospitality establish the terms of Chesapeake Hospitality’s management of our
hotels covered by those agreements. The Master Agreement provides that in the event the agreement is terminated in connection with
the sale of a hotel, and Chesapeake Hospitality accepts an offer to manage another hotel which is reasonable comparable to the hotel
that was sold, we will not be liable for any termination fee. If we do not offer Chesapeake Hospitality such opportunity or Chesapeake
Hospitality declines such opportunity, then a termination fee equivalent to the lesser of the management fees paid for the prior twelve-
month period or the management fees for the period prior to the sale that is equal to the number of months remaining under the term of
the agreement will be due. If we terminate the agreement at the end of any renewable five-year term, Chesapeake Hospitality is due a
termination fee equivalent to one month’s management fees, as determined under the agreement.
As a significant owner of Chesapeake Hospitality, which would receive any management and management termination fees
payable by us under the management agreement, Andrew M. Sims may influence our decisions to sell a hotel or acquire or develop a
hotel when it is not in the best interests of the Company’s stockholders to do so. In addition, Andrew M. Sims will have conflicts of
interest with respect to decisions to enforce provisions of the management agreement, including any termination thereof.
There can be no assurance that provisions in our bylaws will always be successful in mitigating conflicts of interest.
Under our bylaws, a committee consisting of only independent directors must approve any transaction between us and
Chesapeake Hospitality or its affiliates or any interested director. However, there can be no assurance that these policies always will
be successful in mitigating such conflicts, and decisions could be made that might not fully reflect the interests of all of the
Company’s stockholders.
Certain of our officers and directors control trusts that hold units in our Operating Partnership and may seek to avoid adverse
tax consequences, which could result from transactions that would otherwise benefit the Company’s stockholders.
Holders of units in our Operating Partnership, including trusts controlled in whole or part by members of our management team,
may suffer adverse tax consequences upon our sale or refinancing of certain properties. Therefore, holders of units, including a trust
controlled by Andrew M. Sims and two former members of our board of directors, and a charitable trust controlled by Edward S.
Stein, may have different objectives than holders of the Company’s stock regarding the appropriate pricing and timing of a property’s
sale, or the timing and amount of a property’s refinancing. As of December 31, 2017, these trusts owned approximately 1.0% of the
outstanding units in our Operating Partnership. Although the individuals controlling the trusts do not have any beneficial interest in the
trusts, they may influence us not to sell or refinance certain properties, even if such sale or refinancing might be financially
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advantageous to the Company’s stockholders, or may influence us to enter into tax-deferred exchanges with the proceeds of such sales
when such a reinvestment might not otherwise be in our best interest.
Our agreements with Chesapeake Hospitality and its affiliates, including the contribution agreements and the partnership
agreement of our Operating Partnership, were not negotiated on an arms’ length basis and may be less favorable to us than we
could have obtained from third parties.
In connection with the Company’s initial public offering, we entered into various agreements with Chesapeake Hospitality and
its affiliates, including contribution agreements, a master management agreement, a strategic alliance agreement, subleases, the
partnership agreement of our Operating Partnership and employment agreements – of which only the contribution agreements and the
partnership agreement of our Operating Partnership have not expired. In addition, we entered into various separate management
agreements with Chesapeake Hospitality which have all been superseded by the Master Agreement and new individual hotel
agreements executed in December 2014. The terms of all of these agreements were determined by our management team, who had
conflicts of interest as described above and ownership interests in Chesapeake Hospitality and its affiliates. The terms of all of these
agreements may be less favorable to us than we could have obtained from third parties.
Federal Income Tax Risks Related to the Company’s Status as a REIT
The federal income tax laws governing REITs are complex.
The Company intends to operate in a manner that will maintain its qualification as a REIT under the federal income tax laws.
The REIT qualification requirements are extremely complex, however, and interpretations of the federal income tax laws governing
qualification as a REIT are limited. The Company has not requested or obtained a ruling from the Internal Revenue Service, or the
IRS, that it qualifies as a REIT. Accordingly, we cannot be certain that the Company will be successful in operating in a manner that
will permit it to qualify as a REIT. At any time, new laws, interpretations or court decisions may change the federal tax laws or the
federal income tax consequences of the Company’s qualification as a REIT. We cannot predict when or if any new federal income tax
law, regulation or administrative interpretation, or any amendment to any existing federal income tax law, regulation or administrative
interpretation, will be adopted, promulgated or become effective and any such law, regulation or interpretation may take effect
retroactively. The Company and its stockholders could be adversely affected by any such change in, or any new, federal income tax
law, regulation or administrative interpretation. We are not aware, however, of any pending tax legislation that would adversely affect
the Company’s ability to qualify as a REIT.
Failure to make distributions could subject the Company to tax.
In order to maintain its qualification as a REIT, each year the Company must pay out to its stockholders in distributions, as
“qualifying distributions,” at least 90.0% of its REIT taxable income, computed without regard to the deductions for dividends paid
and excluding net capital gains and reduced by certain non-cash items. To the extent that the Company satisfies this distribution
requirement, but distributes less than 100.0% of its taxable income (including its net capital gain), it will be subject to federal
corporate income tax on its undistributed taxable income. In addition, the Company will be subject to a 4.0% nondeductible excise tax
if the actual amount that it pays out to its stockholders as a “qualifying distribution” for a calendar year is less than the sum of:
(A) 85.0% of our ordinary income for such calendar year, plus (B) 95.0% of our capital gain net income for such calendar year. The
Company’s only recurring source of funds to make these distributions comes from rent received from its TRS Lessees whose only
recurring source of funds with which to make these payments and distributions is the net cash flow (after payment of operating and
other costs and expenses and management fees) from hotel operations, and any dividend and other distributions that we may receive
from MHI Holding. Accordingly, the Company may be required to borrow money or sell assets to make distributions sufficient to
enable it to pay out enough of its taxable income to satisfy the distribution requirement and to avoid corporate income tax and the
4.0% nondeductible excise tax in a particular year.
Failure to qualify as a REIT would subject the Company to federal income tax.
If the Company fails to qualify as a REIT in any taxable year, it will be required to pay federal income tax on its taxable income
at regular corporate rates. The resulting tax liability might cause the Company to borrow funds, liquidate some of its investments or
take other steps that could negatively affect its operating results in order to pay any such tax. Unless it is entitled to relief under certain
statutory provisions, the Company would be disqualified from treatment as a REIT for the four taxable years following the year in
which it lost its qualification. If the Company lost its REIT status, its net earnings available for investment or distribution to
stockholders would be significantly reduced for each of the years involved. In addition, the Company would no longer be required to
make distributions to its stockholders, and it would not be able to deduct any stockholder distributions in computing its taxable
income. This would substantially reduce the Company’s earnings, cash available to pay distributions, and the value of common stock.
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Failure to qualify as a REIT may cause the Company to reduce or eliminate distributions to its stockholders, and the Company
may face increased difficulty in raising capital or obtaining financing.
If the Company fails to remain qualified as a REIT, it may have to reduce or eliminate any distributions to its stockholders in
order to satisfy its income tax liabilities. Any distributions that the Company does make to its stockholders would be treated as taxable
dividends to the extent of its current and accumulated earnings and profits. This may result in negative investor and market perception
regarding the market value of the Company’s stock, and the value of its stock may be reduced. In addition, the Company and the
Operating Partnership may face increased difficulty in raising capital or obtaining financing if the Company fails to qualify or remain
qualified as a REIT because of the resulting tax liability and potential reduction of its market valuation.
If MHI Holding exceeds certain value thresholds, this could cause the Company to fail to qualify as a REIT.
For taxable years of the Company ending on or before December 31, 2017, at the end of each quarter of each taxable year of the
Company, no more than 25.0% of the value of the Company’s total assets may consist of securities of one or more taxable REIT
subsidiaries (“TRSs”). For taxable years of the Company ending after December 31, 2017, at the end of each quarter of each taxable
year of the Company, no more than 20.0% of the value of the Company’s total assets may consist of securities of one or more
TRSs. MHI Holding is a TRS and the Company may form other TRSs in the future. The Company plans to monitor the value of its
shares of MHI Holding and of any other TRS the Company may form. However, there can be no assurance that the Internal Revenue
Service will not attempt to attribute additional value to the shares of MHI Holding or to the shares of any other TRS that the Company
may form. If the Company is treated as owning securities of one or more TRSs with an aggregate value that is in excess of the
thresholds outlined above, the Company could lose its status as a REIT or become subject to penalties.
Even if the Company remains qualified as a REIT, it may face other tax liabilities that reduce its cash flow.
Even if the Company remains qualified for taxation as a REIT, it may be subject to certain federal, state and local taxes on its
income and assets. For example:
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it will be required to pay tax on undistributed REIT taxable income (including net capital gain);
if it has net income from the disposition of foreclosure property held primarily for sale to customers in the ordinary course
of business or other non-qualifying income from foreclosure property, it must pay tax on that income at the highest
corporate rate;
if it (or the Operating Partnership or any subsidiary of the Operating Partnership other than MHI Holding) sells a property
in a “prohibited transaction,” its gain, or its share of such gain, from the sale would be subject to a 100.0% penalty tax. A
“prohibited transaction” would be a sale of property, other than a foreclosure property, held primarily for sale to
customers in the ordinary course of business;
MHI Holding is a fully taxable corporation and is required to pay federal and state taxes on its taxable income; and
it may experience increases in its state and/or local income tax burdens as states and localities continue to look to modify
their tax laws in order to raise revenues, including by (among other things) changing from a net taxable income-based
regime to a gross receipts-based regime, suspending and/or limiting the use of net operating losses, increasing tax rates
and fees, imposing surcharges and subjecting partnerships to an entity-level tax, and limiting or disallowing certain U.S.
federal deductions such as the dividends-paid deduction.
Complying with REIT requirements may cause the Company to forgo attractive opportunities that could otherwise generate strong
risk-adjusted returns and instead pursue less attractive opportunities, or none at all.
To qualify as a REIT for federal income tax purposes, the Company must continually satisfy tests concerning, among other
things, the sources of its income, the nature and diversification of its assets, the amounts it distributes to its stockholders and the
ownership of its stock.
In general, when applying these tests, the Company is treated as owning its proportionate share of the Operating Partnership’s
assets (which share is determined in accordance with the Company’s capital interest in the Operating Partnership) and as being
entitled to the Operating Partnership’s income attributable to such share. Thus, compliance with the REIT requirements may hinder
our ability to operate solely on the basis of generating strong risk-adjusted returns on invested capital for our stockholders.
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Complying with REIT requirements may force the Company to liquidate otherwise attractive investments, which could result in an
overall loss on its investments.
To maintain qualification as a REIT, the Company must ensure that at the end of each calendar quarter at least 75.0% of the
value of its assets consists of cash, cash items, government securities and qualified REIT real estate assets. The remainder of the
Company’s assets (other than securities of one or more taxable REIT subsidiaries) generally cannot include more than 10.0% of the
outstanding voting securities of any one issuer or more than 10.0% of the total value of the outstanding securities of any one issuer. In
addition, in general, no more than 5.0% of the value of the Company’s assets (other than government securities, qualified real estate
assets and securities of one or more taxable REIT subsidiaries) can consist of the securities of any one issuer, and no more than 25.0%
(20.0% for taxable years beginning after December 31, 2017) of the value of the Company’s total assets can be represented by
securities of one or more taxable REIT subsidiaries.
When applying these asset tests, the Company is treated as owning its proportionate share of the Operating Partnership’s assets
(which is determined in accordance with the Company’s capital interest in the Operating Partnership). If the Company fails to comply
with these requirements at the end of any calendar quarter, it must correct such failure within 30 days after the end of the calendar
quarter to avoid losing its REIT status and suffering adverse tax consequences. If the Company fails to comply with these
requirements at the end of any calendar quarter, and the failure exceeds a de-minimis threshold, the Company may be able to preserve
its REIT status if the failure was due to reasonable cause and not to willful neglect. In this case, we will be required to dispose of the
assets causing the failure within six months after the last day of the quarter in which the failure occurred, and we will be required to
pay an additional tax of the greater of $50,000 or the product of the highest applicable tax rate multiplied by the net income generated
on those assets.
As a result, we may be required to liquidate otherwise attractive investments.
If the Operating Partnership fails to qualify as a partnership for federal income tax purposes, the Company could cease to qualify
as a REIT and suffer other adverse consequences.
We believe that the Operating Partnership will continue to qualify to be treated as a partnership for U.S. federal income tax
purposes. As a partnership, the Operating Partnership is not subject to federal income tax on its income. Instead, each of its partners,
including the Company, will be required to pay tax on its allocable share of the Operating Partnership’s income. We cannot assure
you, however, that the IRS will not challenge the Operating Partnership’s status as a partnership for U.S. federal income tax purposes,
or that a court would not sustain such a challenge. If the IRS were successful in treating the Operating Partnership as a corporation for
federal income tax purposes, the Company could fail to meet the gross income tests and certain of the asset tests applicable to REITs
and, accordingly, cease to qualify as a REIT. Also, the failure of the Operating Partnership to qualify as a partnership would cause the
Operating Partnership to become subject to federal and state corporate income tax, which would reduce significantly the amount of
cash available for debt service and for distribution to its partners, including the Company.
The Company’s failure to qualify as a REIT would have serious adverse consequences to its stockholders.
The Company elected to be taxed as a REIT under Sections 856 through 860 of the Code, commencing with its taxable year
ended December 31, 2004. The Company believes it has operated so as to qualify as a REIT under the Code and believes that its
current organization and method of operation comply with the rules and regulations promulgated under the Code to enable the
Company to continue to qualify as a REIT. However, it is possible that the Company has been organized or has operated in a manner
that would not allow it to qualify as a REIT, or that its future operations could cause it to fail to qualify. Qualification as a REIT
requires the Company to satisfy numerous requirements (some on an annual and others on a quarterly basis) established under highly
technical and complex sections of the Code for which there are only limited judicial and administrative interpretations, and involves
the determination of various factual matters and circumstances not entirely within its control. For example, in order to qualify as a
REIT, the Company must satisfy a 75.0% gross income test pursuant to Code Section 856(c)(3) and a 95.0% gross income test
pursuant to Code Section 856(c)(2) each taxable year. In addition, the Company must pay dividends, as “qualifying distributions,” to
its stockholders aggregating annually at least 90.0% of its REIT taxable income (determined without regard to the dividends-paid
deduction and by excluding capital gains, and reduced by certain non-cash items) and must satisfy specified asset tests on a quarterly
basis. While historically the Company has satisfied the distribution requirement discussed above by making cash distributions to its
stockholders, the Company may choose to satisfy this requirement by making distributions of cash or other property, including, in
limited circumstances, its stock. The provisions of the Code and applicable Treasury regulations regarding qualification as a REIT are
more complicated in the Company’s case because its holds its assets through the Operating Partnership.
29
If MHI Holding does not qualify as a taxable REIT subsidiary, or if the Company’s hotel manager does not qualify as an “eligible
independent contractor,” the Company would fail to qualify as a REIT and would be subject to higher taxes and have less cash
available for distribution to its shareholders.
Rent paid by a lessee that is a “related party tenant” of ours will not be qualifying income for purposes of the two gross income
tests applicable to REITs. The Company currently leases substantially all of its hotels to the TRS Lessees, which are disregarded
entities for U.S. federal income tax purposes and are wholly-owned by MHI Holding, a taxable REIT subsidiary, and expects to
continue to do so. So long as MHI Holding qualifies as a taxable REIT subsidiary, it will not be treated as a “related party tenant” with
respect to the Company’s properties that are managed by an independent hotel management company that qualifies as an “eligible
independent contractor.” The Company believes that MHI Holding will continue to qualify to be treated as a taxable REIT subsidiary
for federal income tax purposes, but there can be no assurance that the IRS will not challenge this status or that a court would not
sustain such a challenge. If the IRS were successful in such challenge, it is possible that the Company would fail to meet the asset tests
applicable to REITs and substantially all of its income would fail to be qualifying income for purposes of the two gross income tests.
If the Company failed to meet any of the asset or gross income tests, it would likely lose its REIT qualification for federal income tax
purposes.
Additionally, if the Company’s hotel manager does not qualify as an “eligible independent contractor,” the Company would fail
to qualify as a REIT. Each hotel manager that enters into a management contract with the TRS Lessees must qualify as an “eligible
independent contractor” under the REIT rules in order for the rent paid by the TRS Lessees to be qualifying income for purposes of
the REIT gross income tests. Among other requirements, in order to qualify as an eligible independent contractor, a hotel manager
must not own, directly or through its shareholders, more than 35.0% of the Company’s outstanding shares, taking into account certain
ownership attribution rules. The ownership attribution rules that apply for purposes of these 35.0% thresholds are complex. Although
the Company intends to monitor ownership of its shares by its hotel manager and its owners, there can be no assurance that these
ownership levels will not be exceeded.
Foreign investors may be subject to U.S. tax on the disposition of the Company’s stock if the Company does not qualify as a
“domestically controlled” REIT.
A foreign person disposing of a “U.S. real property interest,” which includes stock of a U.S. corporation whose assets consist
principally of U.S. real property interests, is generally subject to U.S. federal income tax under the Foreign Investment in Real
Property Tax Act of 1980 (“FIRPTA”) on the gain recognized on the disposition, unless such foreign person is a “qualified foreign
pension fund” or one of the certain publicly traded non-U.S. “qualified collective investment vehicles”. Additionally, the transferee
will be required to withhold 15.0% on the amount realized on the disposition if the foreign transferor is subject to U.S. federal income
tax under FIRPTA. This 15.0% is creditable against the U.S. federal income tax liability of the foreign transferor in connection with
such transferor’s disposition of the Company’s stock. FIRPTA does not apply, however, to the disposition of stock in a REIT if the
REIT is “domestically controlled” (i.e., less than 50.0% of the REIT’s capital stock, by value, has been owned directly or indirectly by
persons who are not qualifying U.S. persons during a continuous five-year period ending on the date of disposition or, if shorter,
during the entire period of the REIT’s existence). We cannot be sure that the Company will qualify as a “domestically controlled”
REIT. If the Company does not so qualify, gain realized by foreign investors on a sale of the Company’s stock would be subject to
U.S. income and withholding tax under FIRPTA, unless the Company’s stock were traded on an established securities market and a
foreign investor did not at any time during a specified testing period directly or indirectly own more than 10.0% of the value of the
Company’s outstanding stock.
MHI Holding increases our overall tax liability.
Our TRS Lessees are single-member limited liability companies that are wholly-owned, directly or indirectly, by MHI Holding,
a taxable REIT subsidiary that is wholly-owned by the Operating Partnership. Each of our TRS Lessees is disregarded as an entity
separate from MHI Holding for U.S. federal income tax purposes, such that the assets, liabilities, income, gains, losses, credits and
deductions of our TRS Lessees are treated as the assets, liabilities, income, gains, losses, credits and deductions of MHI Holding for
U.S. federal income tax purposes. MHI Holding is subject to federal and state income tax on its taxable income, which will consist of
the revenues from the hotels leased by the Company’s TRS Lessees, net of the operating expenses for such hotels and rent payments.
Accordingly, although the Company’s ownership of MHI Holding and the TRS Lessees will allow it to participate in the operating
income from its hotels in addition to receiving rent, that operating income will be fully subject to income tax. The after-tax net income
of MHI Holding, if any, will be available for distribution to the Company.
The Company will incur a 100.0% excise tax on its transactions with MHI Holding and the TRS Lessees that are not conducted
on an arm’s-length basis. For example, to the extent that the rent paid by the TRS Lessees exceeds an arm’s-length rental amount,
such amount potentially will be subject to this excise tax. The Company intends that all transactions among itself, MHI Holding and
the TRS Lessees will be conducted on an arm’s-length basis and, therefore, that the rent paid by the TRS Lessees will not be subject to
this excise tax.
30
Our ability to use net operating loss carryforwards to reduce future tax payments may be limited or restricted or may not exist at
all, and if we do not sustain our profitability, we may be required to put up a valuation allowance against our deferred tax assets.
At December 31, 2017, our financial statements reflected deferred tax assets totaling approximately $5.5 million, of which
approximately $4.9 million relates to significant federal and state net operating losses (“NOLs”) generated by our TRS Lessee over the
past three years. We are generally able to carry NOLs forward to reduce taxable income in future years. Our ability to use our NOLs
to reduce future tax payments is dependent upon our ability to sustain profitability during the time period over which these NOLs may
be used under applicable tax law. Moreover, changes to NOL rules made for taxable years beginning after December 31, 2017 under
recently enacted tax legislation (discussed further below under the caption “Risk Factors—U.S. tax reform and related regulatory
action could adversely affect you”), will also limit the use of existing NOLs to 80% of a corporation’s taxable income for a taxable
year. This, along with the reduced corporate income tax rate, may decrease the value of the TRS Lessee’s NOLs. NOLs generated in
2018 and beyond cannot be carried back and may only be used in subsequent taxable years. A valuation allowance is required for
deferred tax assets if, based on all available evidence, it is “more-likely-than-not” (defined as a likelihood of more than 50%) that all
or a portion of the deferred tax assets will not be realized due to the inability to generate sufficient taxable income in certain financial
statement periods. The net amount of deferred tax assets that are recorded on the financial statements must reflect the tax benefits that
are expected to be realized using these criteria. We perform this analysis by evaluating a number of factors, including a demonstrated
track record of past profitability, reasonable forecasts of future taxable income, and anticipated changes in the lease rental payments
from the TRS Lessee to subsidiaries of the Operating Partnership. At December 31, 2017, we determined based on all available
positive and negative evidence that it is more-likely-than-not that future taxable income will be available during the carryforward
periods to absorb all of the consolidated federal and state net operating loss carryforward. We made this determination considering
reasonable tax strategies available to us capable of ensuring the realization of our deferred tax assets, anticipated changes in the
lease rental payments and one-time losses that generated some of our net operating losses. However, there is no assurance that the
TRS Lessee will be able to achieve profitability. The TRS Lessee’s ability to generate sustained profitability in the amounts necessary
to realize our deferred tax assets against future taxable income depends upon general economic and market conditions, interest rates,
and the TRS Lessee’s ability to meet our strategic plans. If the TRS Lessee is unable to generate adequate sustained profitability, we
may be required to record a valuation allowance against some or all of our deferred tax assets, which would negatively impact our
financial results.
Taxation of dividend income could make the Company’s stock less attractive to investors and reduce the market price of its stock.
The federal income tax laws governing REITs, or the administrative interpretations of those laws, may be amended at any time.
Any new laws or interpretations may take effect retroactively and could adversely affect the Company or could adversely affect its
stockholders. Currently, “qualified dividends,” which include dividends from domestic C corporations that are paid to non-corporate
stockholders, are subject to a reduced maximum U.S. federal income tax rate of 20.0%, plus a 3.8% Medicare tax discussed below.
Because REITs generally do not pay corporate-level taxes as a result of the dividends-paid deduction to which they are entitled,
dividends from REITs generally are not treated as qualified dividends and thus do not qualify for a reduced tax rate. Non-corporate
investors could view an investment in non-REIT corporations as more attractive than an investment in REITs because the dividends
they would receive from non-REIT corporations would be subject to lower tax rates.
Investors may be subject to a 3.8% Medicare tax in connection with an investment in the Company’s stock.
The U.S. tax laws impose a 3.8% “Medicare tax” on the “net investment income” (i.e., interest, dividends, capital gains,
annuities, and rents that are not derived in the ordinary course of a trade or business) of individuals with income exceeding $200,000
($250,000 if married filing jointly or $125,000 if married filing separately), and of estates and trusts. Dividends on the Company’s
stock as well as gains from the disposition of the Company’s stock or may be subject to the Medicare tax. Prospective investors should
consult with their independent advisors as to the applicability of the Medicare tax to an investment in the Company’s stock in light of
such investors’ particular circumstances.
31
Investors may be subject to U.S. withholding tax under the “Foreign Account Tax Compliance Act.”
On March 18, 2010, the Hiring Incentives to Restore Employment Act, or the HIRE Act, was enacted in the United States. The
HIRE Act includes provisions known as the Foreign Account Tax Compliance Act, or FATCA, that generally impose a 30.0% U.S.
withholding tax on “withholdable payments,” which consist of (i) U.S.-source dividends, interest, rents and other “fixed or
determinable annual or periodical income” paid after June 30, 2014 and (ii) certain U.S.-source gross proceeds paid after
December 31, 2018 to (a) “foreign financial institutions” unless (x) they enter into an agreement with the IRS to collect and disclose to
the IRS information regarding their direct and indirect U.S. owners or (y) they comply with the terms of any FATCA
intergovernmental agreement executed between the authorities in their jurisdiction and the U.S., and (b) “non-financial foreign
entities” (i.e., foreign entities that are not foreign financial institutions) unless they certify certain information regarding their direct
and indirect U.S. owners. Final regulations under FATCA were issued by the IRS on January 17, 2013, and have been subsequently
supplemented by additional regulations and guidance. FATCA does not replace the existing U.S. withholding tax regime. However,
the FATCA regulations contain coordination provisions to avoid double withholding on U.S.-source income.
A foreign investor that receives dividends on the Company’s stock or gross proceeds from a disposition of shares of the
Company’s stock may be subject to FATCA withholding tax with respect to such dividends or gross proceeds.
Foreign investors will be subject to U.S. withholding tax on the receipt of ordinary dividends on the Company’s stock.
The portion of dividends received by a foreign investor payable out of the Company’s current and accumulated earnings and
profits which are not attributable to capital gains and which are not effectively connected with a U.S. trade or business of the foreign
investor will generally be subject to U.S. withholding tax at a statutory rate of 30.0%. This 30.0% withholding tax may be reduced by
an applicable income tax treaty. The FATCA and nonresident withholding regulations are complex. Even if the 30.0% withholding is
reduced or eliminated by treaty for payments made to a foreign investor, FATCA withholding of 30.0% could apply depending upon
the foreign investor’s FATCA status. Foreign investors should consult with their independent advisors as to the U.S. withholding tax
consequences to such investors with respect to their investment in the Company’s stock in light of their particular circumstances, as
well as determining the appropriate documentation required to reduce or eliminate U.S. withholding tax.
Foreign investors will be subject to U.S. income tax on the receipt of capital gain dividends on the Company’s stock.
Under FIRPTA, distributions that we make to a foreign investor that are attributable to gains from our dispositions of U.S. real
property interests (“capital gain dividends”) will be treated as income that is effectively connected with a U.S. trade or business, and
therefore subject to U.S. federal income tax, in the hands of the foreign investor, unless such foreign person is a “qualified foreign
pension fund” or one of certain publicly traded non-U.S. “qualified collective investment vehicles”. A foreign investor who is subject
to tax under FIRPTA will be subject to U.S. federal income tax (at the rates applicable to U.S. investors) on any capital gain
dividends, and will also be required to file U.S. federal income tax returns to report such capital gain dividends. Furthermore, capital
gain dividends are subject to an additional 30.0% “branch profits tax” (which may be reduced by an applicable income tax treaty) in
the hands of a foreign investor who is subject to tax under FIRPTA if such foreign investor is treated as a corporation for U.S. federal
income tax purposes.
U.S. tax reform and related regulatory action could adversely affect you.
Because our operations are governed to a significant extent by the federal tax laws, new legislative or regulatory action could
adversely affect investors in Company stock. The Tax Cuts and Jobs Act (“TCJA”), which the President signed on December 22,
2017, made significant changes to the U.S. federal tax system. Specifically, and as relevant to the Company and its subsidiaries, the
TCJA reduced the maximum corporate tax rate from 35% to 21%, allows for full expensing of certain property, revised the net
operating loss provisions, set limitations on certain types of interest deductions, and expanded limitations on deductions for executive
compensation. The TCJA did not modify the existing REIT rules, and we still are not required to pay federal taxes provided we
comply with the existing requirements to qualify as a REIT.
The following provisions of the TCJA may have an impact on the Company and investors in Company stock:
•
•
Interest deductibility. The TCJA imposes a limitation on the deduction for certain business interest, subject to
exceptions for electing real property trades or businesses provided the real property trade or business adopts the
alternative depreciation system with respect to its property. While we believe the Company and its subsidiaries, and
the Operating Partnership are each engaged in a real property trade or business, the matter is not free from doubt.
As a result, if any of the Company, its subsidiaries, or the Operating Partnership cannot deduct all of their interest
expense, or are ineligible to elect exemption from the rules, this will potentially increase the Company’s taxable
income and potentially increase the amount of taxable dividends we distribute to investors of Company stock.
Reduced rate for pass-through entities. The TCJA provides non-corporate taxpayers with a potential 20%
deduction against taxable income with respect to certain income earned through pass-through entities. REIT
32
•
ordinary dividends, such as dividends the Company distributes to investors of its stock, automatically qualify for the
deduction, however it is unclear whether Company dividends earned indirectly through a regulated investment
company (within the meaning of Code section 851) will qualify.
Expanded limitations on deductions for executive compensation. The TCJA expanded the scope of section
162(m), which limits deductions for annual compensation paid to certain employees of publicly trade corporations,
including REITs. If a deduction is denied under this provision, this will increase our taxable income and potentially
increase the amount of taxable dividends we distribute to investors of our stock.
Investors in our stock are strongly encouraged to consult with a tax advisor with respect to the potential impact the TCJA may
have with respect to investing in our Company’s stock.
Item 1B. Unresolved Staff Comments
Not applicable.
Item 2. Properties
As of December 31, 2017, our portfolio consisted of the following properties (see Item 7. Management’s Discussion and
Analysis of Financial Condition and Results of Operations—Key Operating Metrics, for definitions of Occupancy, ADR, and
RevPAR):
Wholly-Owned Properties
Crowne Plaza Tampa Westshore,
Tampa, Florida
The DeSoto,
Savannah, Georgia
DoubleTree by Hilton Jacksonville Riverfront,
Jacksonville, Florida
DoubleTree by Hilton Laurel,
Laurel, Maryland
DoubleTree by Hilton Philadelphia Airport,
Philadelphia, Pennsylvania
DoubleTree by Hilton Raleigh Brownstone –
University,
Raleigh, North Carolina
DoubleTree Resort by Hilton Hollywood
Beach,
Hollywood, Florida (1)
Georgian Terrace,
Atlanta, Georgia
Hilton Wilmington Riverside,
Wilmington, North Carolina
Sheraton Louisville Riverside,
Jeffersonville, Indiana
The Whitehall,
Houston, Texas
Wholly-Owned Properties Total
Condominium Hotel
Hyde Resort & Residences,
Hollywood Beach, Florida
Total Hotel & Participating Condominium
Hotel Rooms
Number of Occupancy
Rooms
2017
ADR RevPAR Occupancy
2017 2017
2016
ADR RevPAR Occupancy
2016 2016
2015
ADR RevPAR
2015 2015
222
246
293
208
331
79.1% $119.85 $ 94.81
74.6% $116.15 $ 86.69
72.5% $111.08 $ 80.53
66.6% $159.50 $ 106.15
71.5% $155.87 $ 111.48
76.9% $154.52 $ 118.89
79.9% $132.19 $ 105.56
77.4% $126.67 $ 98.06
67.4% $109.20 $ 73.60
64.9% $107.77 $ 69.91
60.5% $104.35 $ 63.16
48.2% $ 95.19 $ 45.86
75.5% $135.54 $ 102.32
77.0% $144.92 $ 111.66
79.3% $136.32 $ 108.13
190
74.2% $133.24 $ 98.91
70.0% $134.74 $ 94.33
71.5% $131.61 $ 94.16
311
326
272
180
259
2,838
(2)
215
3,053
72.1% $170.76 $ 123.12
79.6% $170.57 $ 135.74
83.1% $174.35 $ 144.86
70.6% $175.06 $ 123.66
70.8% $160.89 $ 113.88
69.9% $155.56 $ 108.70
68.3% $148.69 $ 101.62
70.5% $147.14 $ 103.72
71.6% $138.36 $ 99.07
63.8% $133.86 $ 85.45
63.1% $137.34 $ 86.60
69.5% $131.74 $ 111.87
58.1% $147.66 $ 85.78
54.4% $140.70 $ 76.56
70.9% $142.05 $ 100.66
37.9% $282.20 $ 106.84
n/a
n/a
n/a
n/a
n/a
n/a
(1)
The operating metrics for the DoubleTree Resort by Hilton Hollywood Beach rely on information from both the period prior to,
and the period subsequent to, the Company’s acquisition of the hotel. On October 25, 2017, the Company rebranded the
Crowne Plaza Hollywood Beach Resort to the DoubleTree Resort by Hilton Hollywood Beach.
(2) We own the hotel commercial unit and operate a rental program. Reflects only those condominium units that were participating
in the rental program as of December 31, 2017. At any given time, some portion of the units participating in our rental program
may be occupied by the unit owners and unavailable for rent to hotel guests. We sometimes refer to each participating
condominium unit as a “room”.
33
Item 3. Legal Proceedings
We are not involved in any material litigation, nor to our knowledge, is any material litigation threatened against us. We have
settled, during the period covered by this report, all significant claims made during the same period. We are involved in routine
litigation arising out of the ordinary course of business, all of which is expected to be covered by insurance, and none of which is
expected to have a material impact on our financial condition or results of operations.
Item 4. Mine Safety Disclosure
Not applicable.
34
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
PART II
Sotherly Hotels Inc.
Market Information
The Company’s common stock trades on the NASDAQ ® Global Market under the symbol “SOHO”. The following table sets
forth, for the indicated period, the intraday high and low prices for the common stock, as reported on NASDAQ ®:
Year Ended December 31, 2017
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
Year Ended December 31, 2016
First Quarter
Second Quarter
Third Quarter
Fourth Quarter
$
$
$
$
$
$
$
$
Price Range
High
Low
7.50 $
6.90 $
6.73 $
6.84 $
6.59 $
5.99 $
6.35 $
7.11 $
6.36
5.70
5.84
5.85
4.59
5.00
5.22
4.65
The closing price of the Company’s common stock on the NASDAQ ® Global Market on March 1, 2018 was $6.13 per share.
Stockholder Information
As of March 1, 2018, there were 87 holders of record of the Company’s common stock and as of March 1, 2018, there were
approximately 4,861 beneficial owners of the Company’s common stock.
The following graph provides a comparison of the cumulative total return on our common shares from December 31, 2012, to
the NASDAQ ® closing price per share on December 31, 2017, with the cumulative total return on the Russell 2000 Index (the
“Russell 2000 Index”) and the FTSE National Association of Real Estate Investment Trusts Equity REITs Index (the “FTSE NAREIT
Equity Index”) for the same period. Total return values were calculated assuming a $100 investment on December 31, 2012 with
reinvestment of all dividends in (i) our common shares, (ii) the Russell 2000 Index and (iii) the FTSE NAREIT Equity Index. The
total return values do not include any dividends declared, but not paid, during the period.
Cumulative Total Return
e
u
l
a
V
n
r
u
e
R
l
a
t
o
T
300.00
250.00
200.00
150.00
100.00
50.00
0.00
2012
2013
2014
2015
2016
2017
Sotherly Hotels, Inc.
Russell 2000 Index
FTSE NAREIT Equity Index
35
The actual returns shown on the graph above are as follows:
Name
Sotherly Hotels, Inc.
Russell 2000 Index
FTSE NAREIT Equity
Index
$
$
$
Value of Initial
Value of
Value of
Value of
Value of
Investment at
Investment at
Investment at
Investment at
Investment at
December 31,
December 31,
December 31,
December 31,
December 31,
Value of
Investment at
December 31,
2012
2013
2014
2015
2016
2017
100.00
100.00
100.00
$
$
$
182.40
138.82
102.90
$
$
$
238.70
145.61
131.71
$
$
$
206.05
139.49
135.40
$
$
$
260.87
166.67
147.04
$
$
$
264.41
188.57
159.84
In order to comply with certain requirements related to the Company’s qualification as a REIT, the Company’s charter, subject
to certain exceptions, limits the number of common shares that may be owned by any single person or affiliated group to 9.9% of the
outstanding common shares.
Recent Sales of Unregistered Securities
On December 2, 2016, the Company’s board of directors authorized a stock repurchase program under which the Company may
purchase up to $10.0 million of its outstanding common stock, par value $0.01 per share, at prevailing prices on the open market or in
privately negotiated transactions, at the discretion of management. The Company has used and expects to continue to use available
working capital to fund purchases under the stock repurchase program. The repurchase program is authorized until December 31,
2018, unless extended by the board of directors. The repurchase program may be suspended or discontinued at any time, and the
Company is not obligated to acquire any particular amount or number of shares. As of December 31, 2017, the Company has
repurchased 882,820 shares of common stock at an average price of $6.68 per share totaling approximately $5.9 million. Through
December 31, 2017 the Company repurchased the following amounts of common stock and the repurchased shares have been returned
to the status of authorized but unissued shares of common stock:
Period
December 1- December 31, 2016
January 1- December 31, 2017
Total Number
of Shares
Repurchased
481,100
401,720
Average Price
Paid Per Share
$
$
6.53
6.80
Maximum
Number (or
Approximate
Dollar Value)
of Shares That
May Yet Be
Purchased
Under the
Program
Total Number
of Shares
Purchased As
Part of Publicly
Announced
Program
481,100
882,820
$
$
6,835,464
4,104,423
36
The Company adopted an Employee Stock Ownership Plan (“ESOP”) in December 2016, effective as of January 1, 2016. The
Company sponsors and maintains the ESOP and related trust for the benefit of its eligible employees. The ESOP is funded by a loan
from the Company, pursuant to which the ESOP may borrow up to $5.0 million to purchase shares of the Company’s common stock.
Through December 31, 2017 the ESOP purchased the following amounts of common stock:
Period
January 1 – January 31, 2017
February 1 – February 28, 2017
March 1 – December 31, 2017
Total
Total Number
of Shares
Purchased
352,300
330,200
0
682,500
Average Price
Paid Per Share
6.99
$
7.25
n/a
7.09
$
Maximum
Number (or
Approximate
Dollar Value)
of Shares That
May Yet Be
Purchased
Under the
Program
Total Number
of Shares
Purchased As
Part of Publicly
Announced
Program
352,300
330,200
0
682,500
$
$
n/a
n/a
n/a
n/a
Use of Proceeds from Registered Securities
As of December 31, 2017, the Company has applied all remaining proceeds from its offering of Series B Preferred Stock to
working capital.
On October 11, 2017, the Company sold 1,200,000 shares, $0.01 par value per share, of its Series C Preferred Stock pursuant to
a registration statement on Form S-3 (file no. 333-220369), and an additional 100,000 shares of its Series C Preferred Stock on
October 17, 2017, for total net proceeds after all expenses of approximately $30.4 million, which it contributed to the Operating
Partnership for an equivalent number of preferred partnership units. The Operating Partnership used the net proceeds to redeem the
entire $25.3 million aggregate principal amount of its outstanding 7.0% senior unsecured notes (the “7% Notes”), plus a 1.0%
premium, for a total use of proceeds of approximately $25.6 million, and applied the remaining proceeds to working capital.
Sotherly Hotels LP
Market Information
There is no established trading market for partnership units of the Operating Partnership. The Operating Partnership does not
currently propose to offer partnership units to the public, and does not currently expect that a public market for those units will
develop.
Partnership Unitholder Information
As of March 1, 2018, there were 12 holders of the Operating Partnership’s partnership units, including Sotherly Hotels Inc.
Recent Sales of Unregistered Securities
From time to time, the Operating Partnership may issue and/or repurchase limited partnership units (common and/or preferred)
to the Company, as required by the Amended and Restated Agreement of Limited Partnership of the Operating Partnership, to mirror
the capital structure of the Company to reflect additional issuances by the Company and to preserve equitable ownership ratios.
Except for shares of Series C Partnership Units issued to the Company in connection with the contribution to the Operating
Partnership of the net proceeds of the public offering of Series C Preferred Stock, there were no sales of unregistered securities in the
Operating Partnership during 2017.
Use of Proceeds from Registered Securities
There were no sales of registered securities in the Operating Partnership during 2017.
37
Sotherly Hotels Inc. and Sotherly Hotels LP
Dividend and Distribution Information
The Company elected to be taxed as a REIT commencing with our taxable year ending December 31, 2004. To maintain
qualification as a REIT, we are required to make annual distributions to the Company’s stockholders of at least 90.0% of our REIT
taxable income, excluding net capital gain, which does not necessarily equal net income as calculated in accordance with generally
accepted accounting principles. Our ability to pay distributions to the Company’s stockholders will depend, in part, upon our receipt of
distributions from our Operating Partnership which may depend upon receipt of lease payments with respect to our properties from
our TRS Lessees, and in turn, upon the management of our properties by our hotel manager. Distributions to the Company’s
stockholders will generally be taxable to the Company’s stockholders as ordinary income; however, because a portion of our
investments will be equity ownership interests in hotels, which will result in depreciation and non-cash charges against our income, a
portion of our distributions may constitute a tax-free return of capital. To the extent not inconsistent with maintaining our REIT status,
our TRS Lessees may retain any after-tax earnings.
In order to maintain our qualification as a REIT, we must make distributions to our stockholders each year in an amount equal to
at least:
•
•
•
90% of our REIT taxable income determined without regard to the dividends paid deduction and excluding net capital
gains(cid:8) plus
90% of the excess of our net income from foreclosure property over the tax imposed on such income by the Code(cid:8) minus
Any excess noncash income (as defined in the Code).
The following tables set forth information regarding the declaration, payment and income tax characterization of distributions
by the Company on its common and preferred shares to Company’s stockholders for fiscal year 2016 to 2017. The same table sets
forth the Operating Partnership’s distributions per common and preferred partnership units for fiscal year 2016 to 2017:
Dividend (Distribution) Payments - Common
Date Declared
January 2016
April 2016
July 2016
October 2016
January 2017
April 2017
July 2017
October 2017
Date Paid
April 11, 2016
July 11, 2016
For the Quarter Ended
March 31, 2016
June 30, 2016
Amount per Share and Unit
0.085
$
0.090
$
0.095
September 30, 2016 October 11, 2016 $
0.095
January 11, 2017 $
December 31, 2016
0.100
$
April 11, 2017
March 31, 2017
0.105
$
July 11, 2017
June 30, 2017
0.110
September 30, 2017 October 11, 2017 $
0.110
January 11, 2018 $
December 31, 2017
Dividend (Distribution) Payments - Series B Preferred Stock
Date Declared
August 2016
October 2016
January 2017
April 2017
July 2017
October 2017
Date Paid
For the Quarter Ended
September 30, 2016 October 17, 2016 $
January 17, 2017 $
December 31, 2016
$
April 17, 2017
March 31, 2017
$
July 17, 2017
June 30, 2017
September 30, 2017 October 17, 2017 $
January 17, 2018 $
December 31, 2017
Amount per Share and Unit
0.2111
0.500
0.500
0.500
0.500
0.500
Dividend (Distribution) Payments - Series C Preferred Stock
Date Declared
October 2017
For the Quarter Ended
December 31, 2017
Date Paid
January 17, 2018 $
Amount per Share and Unit
0.443
Ordinary
Income
73.50%
73.50%
73.50%
73.50%
20.08%
20.08%
20.08%
20.08%
Return of
Capital
26.50%
26.50%
26.50%
26.50%
79.92%
79.92%
79.92%
79.92%
Ordinary
Income
73.50%
73.50%
20.08%
20.08%
20.08%
20.08%
Return of
Capital
26.50%
26.50%
79.92%
79.92%
79.92%
79.92%
Ordinary
Income
20.08%
Return of
Capital
79.92%
The amount of future common stock distributions will be based upon quarterly operating results, general economic conditions,
requirements for capital improvements, the availability of debt and equity capital, the Code’s annual distribution requirements, and
other factors, which the Company’s board of directors deems relevant. The amount, timing and frequency of distributions will be
38
authorized by the Company’s board of directors and declared by us based upon a variety of factors deemed relevant by our directors,
and no assurance can be given that our distribution policy will not change in the future.
Item 6. Selected Financial Data
The following table sets forth selected historical financial data for Sotherly Hotels Inc. and Sotherly Hotels LP for the years
ended December 31, 2017, 2016, 2015, 2014, and 2013. The financial results for the DoubleTree Resort by Hilton Hollywood Beach,
in which we had a 25.0% indirect interest, are not consolidated through July 31, 2015, as we accounted for our investment under the
equity method of accounting. However, from August 1, 2015 through December 31, 2015 and for subsequent fiscal years, we did
consolidate the financial results for the DoubleTree Resort by Hilton Hollywood Beach, as a result of our acquisition of the remaining
75.0% interest in the hotel. The following selected historical financial data was derived from audited consolidated financial
statements contained elsewhere in this Annual Report on Form 10-K and in prior filings. The Company’s financial statements: for the
years ended December 31, 2017 and 2016, have been audited by Dixon Hughes Goodman LLP; for the years ended December 31,
2015 and 2014, have been audited by Grant Thornton LLP; and for the year ended December 31, 2013, has been audited by PBMares,
LLP (formerly Witt Mares, PLC), our independent registered public accounting firms, for such periods. The audited historical
financial statements include reclassifications and all adjustments, consisting of normal recurring adjustments, which we consider
necessary for a fair presentation of our financial condition and the results of operations as of those dates and for those periods under
accounting principles generally accepted in the United States of America.
The information presented below is only a summary and does not provide all of the information contained in our consolidated
financial statements, including notes thereto, and should be read together with “Management’s Discussion and Analysis of Financial
Condition and Results of Operations” and our consolidated financial statements and related notes included elsewhere in this Annual
Report on Form 10-K.
39
SOTHERLY HOTELS INC.
SOTHERLY HOTELS LP
SELECTED HISTORICAL FINANCIAL DATA
Statement of Operations
Total Revenues
Total Operating Expenses excluding Depreciation,
Amortization, Disposal Gain and Impairment of
Investments in Hotel Properties, net
Depreciation, Amortization, Disposal Gain and
Impairment of Investments in Hotel
Properties, net
Net Operating Income
Interest Income
Interest Expense
Other Income (Expense) – net
Income Tax Benefit (Provision)
Net Income (Loss)
Net (Income) Loss Attributable to Noncontrolling
Interest
Net Income (Loss) Attributable to the Company
Distributions to Preferred Stockholders
Net Income/(Loss) Attributable to Common
Stockholders
Statement of Cash Flows
Cash provided by Operations – net
Cash used in Investing – net
Cash provided by Financing – net
Net Increase (Decrease) in Cash and Cash
Equivalents
Balance Sheet
Investments in Hotel Properties, Net
Investment in Hotel Properties Held for Sale, Net
Total Assets (1)
Mortgage Loans, net
Unsecured Notes, net
Total Liabilities
Noncontrolling Interest (1)
Total Sotherly Hotels Inc. Stockholders’ Equity (1)
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
Year Ended
Year Ended
December 31,
December 31,
December 31,
2015
2014
2013
$ 154,266,693
$ 152,845,752
$ 138,533,476
$ 122,939,919
$
89,374,527
(119,613,294) (118,854,236)
(109,153,366)
(95,290,304)
(69,888,820)
(18,489,511)
16,163,888
218,656
(15,727,628)
1,112,377
(1,737,804)
29,489
(15,384,390)
18,607,126
115,785
(17,735,107)
(1,455,289)
1,367,634
900,149
413,014
442,503
(3,781,639)
26,567
926,716
(1,144,889)
(14,050,060)
15,330,050
50,461
(16,515,827)
6,196,936
1,336,033
6,397,653
(1,040,987)
5,356,666
—
(15,144,284)
12,505,331
19,865
(14,636,870)
(354,558)
1,727,723
(738,509)
153,838
(584,671)
—
(9,078,228)
10,407,479
17,914
(9,606,479)
(3,796,410)
(1,496,096)
(4,473,592)
989,623
(3,483,969)
—
$
(3,339,136) $
(218,173)
$
5,356,666
$
(584,671) $
(3,483,969)
$
15,757,548
$
(18,296,187)
549,709
17,415,409
(12,940,766)
15,798,218
$
$
11,377,374
(41,132,602)
24,614,643
$
14,851,255
(71,096,578)
63,503,194
9,594,751
(29,527,589)
22,133,750
$
(1,988,930) $
20,272,861
$
(5,140,585) $
7,257,871
$
2,200,912
$ 357,799,512
—
409,953,340
297,318,816
—
315,778,310
1,154,775
93,020,255
$
$ 348,593,912
5,333,000
406,019,564
282,708,289
24,308,713
324,680,276
2,329,175
79,010,113
$
$ 354,963,242
—
388,972,239
270,331,724
50,460,106
336,113,871
3,855,237
49,003,131
$
$ 260,192,153
—
294,414,755
203,071,186
49,715,183
266,904,898
4,132,662
23,377,195
$
$ 202,645,633
—
224,348,253
158,472,571
25,670,141
193,493,458
5,669,386
25,185,409
$
Operating Data
Average Number of Available Rooms
Total Number of Available Room Nights
Occupancy Percentage (2)
Average Daily Rate (ADR) (2)
RevPAR (2)
Additional Financial Data
FFO (3)
Adjusted FFO (3)
Hotel EBITDA (4)
Income (Loss) Per Basic Share
$
$
$
$
2,848
1,042,271
3,011
1,102,026
2,828
1,032,353
68.8%
$
$
147.77
101.70
69.8%
$
$
140.63
98.18
69.9%
134.21
93.80
$
$
2,622
957,060
70.3%
125.77
88.42
$
$
2,148
783,936
67.4%
118.91
80.16
$
12,418,252
15,664,335
40,989,325
(0.24) $
15,139,650
15,100,188
40,012,581
(0.01)
$
$
14,103,844
14,904,608
36,447,390
0.43
$
$
$
14,765,677
14,142,080
32,084,957
(0.06) $
5,150,303
10,766,147
23,220,515
(0.34)
(1)
(2)
As of the period end.
Occupancy Percent is calculated by dividing the total daily number of rooms sold by the total daily number of rooms available. ADR is
calculated by dividing the total daily room revenue by the total daily number of rooms sold. RevPAR is calculated by dividing the total daily
room revenue by the total daily number of rooms available.
40
(3)
(4)
Industry analysts and investors use Funds from Operations (“FFO”) as a supplemental operating performance measure of an equity REIT. FFO
is calculated in accordance with the definition adopted by the Board of Governors of the National Association of Real Estate Investment
Trusts (“NAREIT”). FFO, as defined by NAREIT, represents net income or loss determined in accordance with generally accepted accounting
principles (“GAAP”), excluding extraordinary items as defined under GAAP and gains or losses from sales of previously depreciated
operating real estate assets, plus certain non-cash items such as real estate asset depreciation and amortization, and after adjustment for any
noncontrolling interest from unconsolidated partnerships and joint ventures.
Adjusted FFO accounts for certain additional items that are not in NAREIT’s definition of FFO, including changes in deferred income taxes,
any unrealized gain (loss) on its hedging instruments or warrant derivative, loan impairment losses, losses on early extinguishment of debt,
aborted offering costs, franchise termination costs, loan modification fees, costs associated with the departure of executive officers, litigation
settlement, over-assessed real estate taxes on appeal, change in control gains or losses and acquisition transaction costs.
Hotel EBITDA represents the portion of net income or loss excluding: (1) interest expense, (2) interest income, (3) income tax provision or
benefit, (4) equity in the income or loss of equity investees, (5) unrealized gains and losses on derivative instruments not included in other
comprehensive income, (6) gains and losses on disposal of assets, (7) realized gains and losses on investments, (8) impairment of long-lived
assets or investments, (9) loss on early debt extinguishment, (10) gains or losses on change in control, (11) corporate general and
administrative expense, (12) depreciation and amortization, (13) gains and losses on involuntary conversions of assets, (14) distributions to
preferred stockholders and (15) other operating revenue not related to our wholly-owned portfolio.
The following is a reconciliation of net loss to FFO and Adjusted FFO for the years ended December 31, 2017, 2016, 2015, 2014, and 2013.
Net Income/(Loss) Attributable to the Common
Stockholders
Add: Net Income (Loss) Attributable to the
Noncontrolling Interest
Depreciation and Amortization
Equity in Depreciation and Amortization of Joint
Venture
Impairment of Investment in Hotel Properties, Net
Gain on Change in Control
Gain on Involuntary Conversion of Assets
Loss (Gain) on Sale or Asset Disposal
(Increase) Decrease in Deferred Income Taxes
Acquisition Costs
Loss on Starwood Settlement
Over-Assessed Real Estate Taxes Under Appeal
Loan Modification Fees
Franchise Termination Fee
Realized and Unrealized (Gain) Loss on Hedging
Activities (A)
Realized and Unrealized Loss on Warrant Derivative
Loss on Aborted Offering Costs
Loss on Early Debt Extinguishment (A)
Adjusted FFO
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
December 31,
2015
Year Ended
December 31,
2014
Year Ended
December 31,
2013
$
(3,339,136) $
(218,173) $
5,356,666 $
(584,671) $
(3,483,969)
(413,014)
16,999,619
(26,567)
15,019,071
1,040,987
13,591,495
(153,838)
11,969,284
(989,623)
8,467,228
—
—
—
(2,242,876)
1,413,659
—
—
—
—
365,319
259,279
500,000
(6,603,148)
—
(41,435)
529,053
3,175,000
—
(169,151)
—
1,498,222
—
—
—
—
—
(1,558,966)
—
—
—
64,215
—
(1,780,571)
634,376
324,271
497,733
243,229
—
(1,961,663)
155,187
—
—
—
351,800
545,667
611,000
—
—
—
5,150,303
1,370,189
89,743
—
—
—
—
28,384
—
541,129
1,178,348
(89,998)
2,205,248
—
2,040,662
$ 15,664,335 $ 15,100,188 $ 14,904,608 $ 14,142,080 $ 10,766,147
37,384
—
—
1,417,905
—
—
—
831,079
108,819
—
—
772,907
Funds From Operations
$ 12,418,252 $ 15,139,650 $ 14,103,844 $ 14,765,677 $
(A)
Includes equity in unrealized (gain)/loss on hedging activities and loss on early extinguishment of debt of joint venture.
41
The following is a reconciliation of net income/(loss) to Hotel EBITDA for the years ended December 31, 2017, 2016, 2015, 2014, and 2013.
Net Income/(Loss) Attributable to the Common
Stockholders
$
(3,339,136) $
(218,173)
$
5,356,666 $
(584,671) $
(3,483,969)
Year Ended
December 31,
Year Ended
Year Ended
Year Ended
Year Ended
December 31,
December 31,
December 31,
December 31,
2017
2016
2015
2014
2013
Add: Net Income (Loss) Attributable to the
Noncontrolling Interest
Interest Expense
Interest Income
Distributions to Preferred Stockholders
Income Tax Provision (Benefit)
Depreciation and Amortization
Equity in (Earnings) Loss of Joint Venture
Loss (Gain) on Sale or Asset Disposal
Gain on Involuntary Conversion of Assets
Realized and Unrealized Loss (Gain) on Hedging
Activities
Realized and Unrealized Loss on Warrant Derivative
Loss on Early Debt Extinguishment
Impairment of Investment in Hotel Properties, Net
Corporate General and Administrative Expenses
Gain on Change in Control
Net Lease Rental Income
Other Fee Income
Hotel EBITDA
(413,014)
15,727,628
(218,656)
3,781,639
1,737,804
16,999,619
—
1,413,659
(2,242,876)
(26,567)
17,735,107
(115,785)
1,144,889
(1,367,634)
15,019,071
—
365,319
—
1,040,987
16,515,827
(50,461)
—
(1,336,033)
13,591,495
(475,514)
(41,435)
—
(153,838)
14,636,870
(19,865)
—
(1,727,723)
11,969,284
(307,370)
—
(169,151)
(989,623)
9,606,479
(17,914)
—
1,496,096
8,467,228
(449,500)
—
—
28,384
—
1,178,348
—
6,335,926
—
—
—
37,384
—
1,417,905
—
6,021,065
—
—
—
$ 40,989,325 $ 40,012,581
108,819
—
772,907
500,000
7,268,256
(6,603,148)
—
(200,976)
—
2,205,248
2,040,662
611,000
4,360,582
—
(350,000)
(275,774)
$ 36,447,390 $ 32,084,957 $ 23,220,515
—
—
831,079
3,175,000
5,085,949
—
(350,000)
(300,607)
42
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Overview
The Company is a self-managed and self-administered lodging REIT incorporated in Maryland in August 2004 to pursue
opportunities in the full-service, primarily upscale and upper-upscale segments of the hotel industry located in primary and secondary
markets in the mid-Atlantic and southern United States. Since January 1, 2015, we have engaged in the following acquisition and
disposition activity:
•
•
•
•
•
On July 31, 2015, we acquired the remaining 75.0% interest in (i) the entity that owns the DoubleTree Resort by Hilton
Hollywood Beach, and (ii) the entity that leases the DoubleTree Resort by Hilton Hollywood Beach. As a result, the
Operating Partnership now has a 100% indirect ownership interest in the entities that own the DoubleTree Resort by
Hilton Hollywood Beach.
On January 30, 2017, we acquired of the hotel commercial unit of the Hyde Resort & Residences, a 400-unit
condominium-hotel located in the Hollywood, Florida market.
On February 7, 2017, we closed on the sale of the Crowne Plaza Hampton Marina.
On June 1, 2017, we entered into an agreement to purchase the commercial unit of the planned Hyde Beach House Resort
& Residences, a condominium hotel under development in Hollywood, Florida, for a price of $5.1 million from 4000
South Ocean Property Owner, LLLP. In connection with the agreement, we also entered into a pre-opening services
agreement whereby the seller has agreed to pay the Company approximately $0.8 million in connection with certain pre-
opening activities to be undertaken prior to the closing. The Company has agreed to purchase inventories at closing
consistent with the management and operation of the planned hotel and the related condominium association for an
additional amount and has further agreed to enter into a lease agreement for the parking garage and poolside cabanas
associated with the planned hotel; and to enter into a management agreement relating to the operation and management of
the planned hotel’s condominium association. The Company anticipates that the closing of the transaction and the
execution of related agreements will take place in the second quarter of 2019, once construction of the planned hotel has
been substantially completed. The closing of the transaction is subject to various closing conditions as described in the
purchase agreement.
On March 1, 2018, we acquired the 318-room Hyatt Centric Arlington hotel located in Arlington, Virginia for an
aggregate purchase price of $79.7 million, including seller credits. The Hyatt Centric Arlington hotel is subject to a long-
term ground lease agreement that covers all of the land underlying the hotel.
43
As of December 31, 2017, our hotel portfolio consisted of eleven full-service, primarily upscale and upper-upscale hotels with
2,838 rooms, eight of which operate under well-known brands such as Hilton, Crowne Plaza, DoubleTree and Sheraton, and three of
which are independent hotels, and the hotel commercial condominium unit of the Hyde Resort & Residences condominium hotel. As
of December 31, 2017, our portfolio consisted of the following hotel properties:
Property
Wholly-owned Hotels
Crowne Plaza Tampa Westshore
The DeSoto
DoubleTree by Hilton Jacksonville Riverfront
DoubleTree by Hilton Laurel
DoubleTree by Hilton Philadelphia Airport
DoubleTree by Hilton Raleigh Brownstone-
University
DoubleTree Resort by Hilton Hollywood Beach(2)
Georgian Terrace
Hilton Wilmington Riverside
Sheraton Louisville Riverside
The Whitehall
Hotel Rooms Subtotal
Condominium Hotel
Hyde Resort & Residences
Number
of Rooms
Location
Date of Acquisition
Chain/Class Designation
October 29, 2007
Tampa, FL
Savannah, GA December 21, 2004 Upper Upscale(1)
Jacksonville, FL July 22, 2005
Laurel, MD
December 21, 2004
Philadelphia, PA December 21, 2004
Upscale
Upscale
Upscale
Upscale
December 21, 2004
Upscale
Raleigh, NC
Upscale
Hollywood, FL August 9, 2007
Upper Upscale(1)
Atlanta, GA
March 27, 2014
Wilmington, NC December 21, 2004 Upper Upscale
Jeffersonville, IN September 20, 2006 Upper Upscale
November 13, 2013 Upper Upscale(1)
Houston, TX
222
246
293
208
331
190
311
326
272
180
259
2,838
215 (3)Hollywood, FL January 30, 2017
Luxury(1)
Total Hotel & Participating Condominium Hotel Rooms
3,053
(1) Operated as an independent hotel.
(2) On October 25, 2017, the Company rebranded the Crowne Plaza Hollywood Beach Resort to the DoubleTree Resort by Hilton
Hollywood Beach.
(3) We own the hotel commercial unit and operate a rental program. Reflects only those condominium units that were participating
in the rental program as of December 31, 2017. At any given time, some portion of the units participating in our rental program
may be occupied by the unit owner(s) and unavailable for rental to hotel guests. We sometimes refer to each participating
condominium unit as a “room”.
We conduct substantially all our business through the Operating Partnership, Sotherly Hotels LP. The Company is the sole
general partner of the Operating Partnership and owns an approximate 88.8% interest in the Operating Partnership, with the remaining
interest being held by limited partners who were contributors of our initial hotel properties and related assets.
To qualify as a REIT, neither the Company nor the Operating Partnership can operate our hotels. Therefore, our wholly-owned
hotel properties are leased to our TRS Lessees that are wholly-owned subsidiaries of the Operating Partnership, which then engage
hotel management companies to operate the hotels under a management agreement. Our TRS Lessees have engaged Chesapeake
Hospitality and Highgate Hotels to manage our hotels. Our TRS Lessees, and their parent, MHI Hospitality TRS Holding, Inc., are
consolidated into each of our financial statements for accounting purposes. The earnings of MHI Hospitality TRS Holding, Inc. are
subject to taxation similar to other C corporations.
Key Operating Metrics
In the hotel industry, room revenue is considered the most important category of revenue and drives other revenue categories
such as food, beverage, catering, parking and telephone. There are three key performance indicators used in the hotel industry to
measure room revenues:
•
•
•
Occupancy, or the number of rooms sold, usually expressed as a percentage of total rooms available;
Average daily rate, or ADR, which is total room revenue divided by the number of rooms sold; and
Revenue per available room, or RevPAR, which is total room revenue divided by the total number of available rooms.
RevPAR changes that are primarily driven by changes in occupancy have different implications for overall revenues and
profitability than changes that are driven primarily by changes in ADR. For example, an increase in occupancy at a hotel would lead to
additional variable operating costs (such as housekeeping services, laundry, utilities, room supplies, franchise fees, management fees,
44
credit card commissions and reservations expense), but could also result in increased non-room revenue from the hotel’s restaurant,
banquet or parking facilities. Changes in RevPAR that are primarily driven by changes in ADR typically have a greater impact on
operating margins and profitability as they do not generate all the additional variable operating costs associated with higher
occupancy.
We also use FFO, Adjusted FFO and Hotel EBITDA as measures of our operating performance. See “Non-GAAP Financial
Measures”.
Results of Operations
Comparison of Year Ended December 31, 2017 to Year Ended December 31, 2016
The following table illustrates the key operating metrics for the years ended December 31, 2017 and 2016 for our wholly-owned
properties during each respective reporting period (“actual” properties) as well as the key operating metrics for the eleven wholly-
owned properties that were under our control during all of 2016 (“same-store” properties). Accordingly, the same-store data does not
reflect the performance of the Hyde Resort & Residences, which was acquired on January 30, 2017.
Occupancy %
ADR
RevPAR
Year Ended December 31, 2017
Same-Store
Actual
Year Ended December 31, 2016
Same-Store
Actual
68.8%
$
$
147.77
101.70
70.6%
$
$
144.21
101.88
69.8%
$
$
140.63
98.18
70.7%
142.71
100.91
$
$
Revenue. Total revenue for the year ended December 31, 2017 was approximately $154.3 million, an increase of approximately
$1.4 million, or 0.9%, from total revenue for the year ended December 31, 2016 of approximately $152.8 million. The increase in
revenue for the year ended December 31, 2017 resulted mainly from management fees earned at the Hyde Resort & Residences
condominium hotel, which commenced operations on February 1, 2017, accounting for an increase of approximately $4.0 million for
the period and by increases in revenues of approximately $4.7 million for the period at our properties in Laurel, Maryland;
Jacksonville, Florida; Tampa, Florida; Houston, Texas and Atlanta, Georgia. These increases in revenue were offset by the sale of our
property in Hampton, Virginia which reduced revenues by approximately $4.8 million; the impact of renovation activities at our
properties in Wilmington, North Carolina; Savannah, Georgia and Hollywood Beach, Florida which had reduced revenues of
approximately $1.2 million in the aggregate; and by decreases in revenue realized by our properties in Raleigh, North Carolina;
Philadelphia, Pennsylvania and Jeffersonville, Indiana of approximately $1.3 million in the aggregate.
Room revenues at our properties for the year ended December 31, 2017 decreased approximately $2.5 million, or 2.3%, to
approximately $105.7 million compared to room revenues for the year ended December 31, 2016 of approximately $108.2 million.
The decrease in room revenue for the year ended December 31, 2017 resulted mainly from the sale of our property in Hampton,
Virginia which reduced revenues by approximately $3.2 million. In addition, our properties impacted by renovation activities in
Wilmington, North Carolina; Savannah, Georgia and Hollywood Beach, Florida had reduced revenues of approximately $2.2 million
in the aggregate. Room revenue decreases of approximately $1.3 million in the aggregate were also realized by our properties in
Philadelphia, Pennsylvania and Jeffersonville, Indiana. These decreases in room revenues for the year ended December 31, 2017 were
offset by room revenue increases of approximately $4.2 million in the aggregate at our properties in Raleigh, North Carolina; Laurel,
Maryland; Jacksonville, Florida; Tampa, Florida; Houston, Texas and Atlanta, Georgia, which on a combined basis reflected a 1.7%
decrease in occupancy, as compared to the same period in 2016.
Food and beverage revenues at our properties for the year ended December 31, 2017 decreased approximately $0.9 million, or
2.5%, to approximately $34.5 million compared to food and beverage revenues of approximately $35.4 million for the year ended
December 31, 2016. The decrease in food and beverage revenues for the year ended December 31, 2017, resulted mainly from the
sale of our property in Hampton, Virginia which reduced revenues by approximately $1.4 million. Food and beverage revenue
decreases of approximately $0.7 million were also realized by our properties in Raleigh, North Carolina; Jeffersonville, Indiana;
Tampa, Florida; and Atlanta, Georgia. These decreases were offset by an increase in food and beverage revenues of approximately
$1.2 million at our properties in Wilmington, North Carolina, Savannah, Georgia; Philadelphia, Pennsylvania; Laurel, Maryland;
Jacksonville, Florida; Hollywood Beach, Florida and Houston, Texas.
Other operating revenues for the year ended December 31, 2017 increased approximately $4.8 million, or 51.4%, to
approximately $14.0 million compared to other operating revenues for the year ended December 31, 2016 of approximately $9.3
million. The increase in revenue from other operating departments for the year ended December 31, 2017 resulted mainly from the
start of operations at the Hyde Resort & Residences, accounting for an increase of approximately $4.0 million for the period and $0.3
million received by the Hollywood Beach, Florida property for construction interruption payments relating to the construction of a
new building next to the property.
45
Hotel Operating Expenses. Hotel operating expenses, which consist of room expenses, food and beverage expenses, other direct
expenses, indirect expenses, and management fees, increased approximately $0.4 million, or 0.4%, for the year ended December 31,
2017 to approximately $113.3 million compared to hotel operating expenses for the year ended December 31, 2016 of approximately
$112.8 million. The increase in hotel operating expenses for the year ended December 31, 2017 was substantially related to the start of
operations at the Hyde Resort & Residences, accounting for an increase in expenses of approximately $4.3 million for the period,
which was offset by a decrease in expenses of approximately $4.6 million after the sale of our property in Hampton, Virginia. This
net decrease of approximately $0.3 million was offset by a net increase in hotel operating expenses of approximately $0.7 million for
the period at all of our other properties.
Rooms expense at our properties for the year ended December 31, 2017 decreased approximately $1.6 million, or 5.7%, to
approximately $26.7 million compared to rooms expense of approximately $28.3 million for the year ended December 31, 2016.
After a $0.6 million reclassification reduced rooms expenses and increased indirect costs during the year ended December 31, 2016,
the remaining decrease in rooms expense, resulted mainly from a decrease in expenses of approximately $1.3 million following the
sale of our property in Hampton, Virginia. In addition, rooms expenses decreased by approximately $0.9 million in the aggregate at
our properties in Wilmington, North Carolina; Savannah, Georgia; Raleigh, North Carolina; Philadelphia, Pennsylvania; Hollywood
Beach, Florida; Jeffersonville, Indiana and Tampa, Florida, which were offset by increases at our properties in Laurel, Maryland;
Jacksonville, Florida; Houston, Texas and Atlanta, Georgia by approximately $0.6 million in the aggregate.
Food and beverage expenses at our properties for the year ended December 31, 2017 increased approximately $0.2 million, or
0.9%, to approximately $24.6 million compared to food and beverage expense of approximately $24.4 million for the year ended
December 31, 2016. The increase in food and beverage expenses for the year ended December 31, 2017 was substantially related to
increases for food and beverage expenses of approximately $1.7 million in the aggregate at our properties in Savannah, Georgia;
Laurel, Maryland; Jacksonville, Florida; Hollywood Beach, Florida and Houston, Texas, offset by a decrease in expenses of
approximately $1.1 million following the sale of our property in Hampton, Virginia along with decreases of approximately $0.4
million in the aggregate at our remaining properties.
Expenses from other operating departments increased approximately $2.0 million, or 80.6%, to approximately $4.4 million for
the year ended December 31, 2017 compared to expenses from other operating departments of approximately $2.4 million for the year
ended December 31, 2016. The increase in expense from other operating departments for the year ended December 31, 2017 resulted
mainly from the acquired interest and new operations in Hollywood Beach, Florida, accounting for an increase of approximately $2.5
million for the period, offset by a net decrease of approximately $0.5 million at our other properties.
Indirect expenses at our properties for the year ended December 31, 2017 decreased approximately $0.1 million, or 0.2%, to
approximately $57.6 million compared to indirect expenses of approximately $57.7 million for the year ended December 31, 2016.
Sales and marketing costs, franchise fees, utilities, repairs and maintenance, insurance, management fees, real and personal property
taxes as well as general and administrative costs at the property level are included in indirect expenses. After a $0.6 million
reclassification reduced rooms expenses and increased indirect costs during the year ended December 31, 2016, most of the increase in
indirect expenses related to expenses that increase proportionally with increases in occupancy and/or revenue, including management
fees and franchise fees. Specifically, increases in indirect expenses were substantially related to our acquisition of the Hyde Resort in
Hollywood Beach, Florida, accounting for an increase of approximately $1.8 million for the period, compared to the year
ended December 31, 2016. Additionally, there were increases in indirect expenses at our properties in Wilmington, North Carolina,
Savannah, Georgia; Raleigh, North Carolina; Laurel, Maryland; Jacksonville, Florida; Tampa, Florida; Houston, Texas and Atlanta,
Georgia of approximately $1.9 million in the aggregate. These increases were offset by a decrease in expenses of approximately $2.3
million following the sale of our property in Hampton, Virginia and by decreases of indirect expenses at our properties in
Philadelphia, Pennsylvania and Hollywood Beach, Florida, by approximately $1.5 million in the aggregate.
Depreciation and Amortization. Depreciation and amortization for the year ended December 31, 2017 increased approximately
$2.0 million, or 13.2%, to approximately $17.0 million compared to depreciation and amortization expense of approximately $15.0
million for the year ended December 31, 2016. The increase was mostly attributable to increases in depreciation and amortization
related to our renovated properties in Wilmington, North Carolina; Savannah, Georgia and Hollywood Beach, Florida in the amount of
$2.2 million in the aggregate, and from our acquisition of the Hyde Resort property for approximately $0.1 million along with
increases at all the remaining properties by approximately $0.1 million in the aggregate, offset by the reduction from our sold property
in Hampton, Virginia by approximately $0.4 million.
Gain / Loss on Disposal of Assets. During the year ended December 31, 2017, we recorded a net loss on disposal of assets of
approximately $1.5 million, compared to a net loss on disposal of assets of approximately $0.4 million for the year ended December
31, 2016. The approximate $1.1 million increase in net loss on disposal of assets resulted mainly from the renovated properties in
Savannah, Georgia and Hollywood Beach, Florida. These hotels were also impacted by Hurricane Irma and realized a loss on disposal
of assets of approximately $1.4 million in the aggregate. These loss increases were offset by a gain on disposal of our Hampton,
Virginia property by approximately $0.1 million and a one-time gain of approximately $0.1 million for defective materials.
46
Corporate General and Administrative. Corporate general and administrative expenses for the year ended December 31, 2017
increased approximately $0.3 million, or 5.2%, to approximately $6.3 million compared to corporate general and administrative
expenses of approximately $6.0 million for the year ended December 31, 2016. The increase in corporate general and administrative
expenses was mainly due to an increase in aborted offering costs of approximately $0.5 million, which was offset by reductions in
accounting fees of approximately $0.1 million and legal fees of approximately $0.1 million.
Interest Expense. Interest expense for the year ended December 31, 2017 decreased approximately $2.0 million, or 11.3%, to
approximately $15.7 million compared to approximately $17.7 million of interest expense for the year ended December 31, 2016. The
decrease in interest expense for the year ended December 31, 2017, was substantially related to the redemption of the 8% senior
unsecured notes (the “8% Notes”) in August of 2016 and the redemption of the 7% Notes in November of 2017, resulting in the
aggregate reduction of approximately $1.6 million. We also reduced our Hampton, Virginia and Houston, Texas loans by
approximately $9.0 million in the aggregate resulting in a reduction of interest by approximately $0.4 million.
Loss on Early Debt Extinguishment. The loss on early debt extinguishment for the year ended December 31, 2017 decreased
approximately $0.2 million, or 16.9%, to approximately $1.2 million compared to a loss on debt extinguishment of approximately $1.4
million for the year ended December 31, 2016. During the year ended December 31, 2017, we redeemed our 7% Notes which reflect
the majority of the loss on early debt extinguishment of approximately $1.0 million.
Unrealized Loss on Hedging Activities. During August 2015, we purchased an interest rate cap for $179,800. As of December
31, 2017, the fair market value of the interest rate cap is $5,213 compared to the fair market value of $33,597, as of December 31,
2016. The unrealized loss on hedging activities during the year ended December 31, 2017 and 2016, was $28,384 and $37,384,
respectively.
Gain on Involuntary Conversion of Assets. Gain on involuntary conversion of assets for the year ended December 31, 2017
increased approximately $2.2 million to approximately $2.2 million compared to gain on involuntary conversion of assets of $0 for the
year ended December 31, 2016. During October 2016, Hurricane Matthew damaged real and personal property at our Hampton,
Virginia and Savannah, Georgia properties, and we had a one-time involuntary conversion in the amount of approximately $1.0
million. Then in August and September 2017, Hurricanes Harvey and Irma damaged real and personal property at our properties in
Jacksonville, Florida, Tampa, Florida, Houston, Texas and Atlanta, Georgia, resulting in a one-time involuntary conversion in the
amount of approximately $1.2 million.
Income Tax (Provision) Benefit. The income tax provision for the year ended December 31, 2017 increased approximately $3.1
million, or 227.1%, to approximately $1.7 million compared to an income tax benefit of approximately $1.4 million for the year ended
December 31, 2016. The income tax provision was primarily derived from the operations of our TRS Lessees. Our TRS Lessees
realized a lower operating loss for the year ended December 31, 2017 compared to the year ended December 31, 2016, resulting in a
lower income tax benefit. However, there was a one-time charge of approximately $2.7 million resulting from a change in the federal
income tax rate, due to the TCJA. At December 31, 2017, deferred tax assets total approximately $5.5 million, of which
approximately $4.9 million relate to net operating losses of our TRS Lessee. At December 31, 2017, we determined, based on all
available positive and negative evidence, that it is more-likely-than-not that future taxable income will be available during the
carryforward periods to absorb all of the consolidated federal and state net operating loss carryforward. We will continue to regularly
evaluate the likelihood that we will be able to realize our deferred tax assets and the need for a valuation allowance for the deferred tax
assets.
Net Income. Net income for the year ended December 31, 2017 decreased approximately $0.9 million, or 96.7%, to
approximately $29.5 thousand compared to net income of approximately $0.9 million for the year ended December 31, 2016, as a
result of the operating results discussed above.
Distributions to Preferred Stockholders. During the year ended December 31, 2017, we recorded distributions to preferred
stockholders of approximately $3.8 million, compared to approximately $1.1 million distributions to preferred stockholders for the
year ended December 31, 2016. As of December 31, 2017 and 2016, we accrued approximately $1.4 million and $0.8 million,
respectively, as dividends on the preferred stock. These increases were due to the issuance of Series C Preferred Stock in October
2017.
47
Comparison of Year Ended December 31, 2016 to Year Ended December 31, 2015
The following table illustrates the key operating metrics for the years ended December 31, 2016 and 2015 for our wholly-owned
properties during each respective reporting period (“actual” properties) as well as the key operating metrics for the eleven wholly-
owned properties that were under our control during all of 2015 (“same-store” properties). Accordingly, the same-store data does not
reflect the performance of the DoubleTree Resort by Hilton Hollywood Beach, which was acquired through a joint venture and in
which we had a 25.0% indirect interest through July 31, 2015 and a 100.0% interest thereafter.
Occupancy %
ADR
RevPAR
Year Ended December 31, 2016
Same-Store
Actual
Year Ended December 31, 2015
Same-Store
Actual
69.8%
$
$
140.63
98.18
68.7%
$
$
136.63
93.86
69.9%
$
$
134.21
93.8
65.7%
130.09
85.47
$
$
Revenue. Total revenue for the year ended December 31, 2016 was approximately $152.8 million, an increase of approximately
$14.3 million, or 10.3%, from total revenue for the year ended December 31, 2015 of approximately $138.5 million. Approximately
$11.9 million of the increase relates to the acquisition of the remaining 75.0% interest in our property in Hollywood Beach, Florida in
July 2015. Increases in revenues at our properties in Wilmington, North Carolina; Raleigh, North Carolina; Philadelphia,
Pennsylvania; Laurel, Maryland; Jacksonville, Florida; Tampa, Florida; and Atlanta, Georgia of approximately $7.1 million, were
offset by decreases in revenue at our properties impacted by renovation activities in Savannah, Georgia and Houston, Texas of
approximately $3.3 million, as well as the remaining properties revenue decreases of $1.6 million.
Room revenues at our properties for the year ended December 31, 2016 increased approximately $11.4 million, or 11.7%, to
approximately $108.2 million compared to room revenues for the year ended December 31, 2015 of approximately $96.8 million. The
increase in room revenues for the year ended December 31, 2016 resulted mainly from the acquired property in Hollywood Beach,
Florida, accounting for an increase of approximately $9.6 million for the period. Our properties in Wilmington, North Carolina;
Raleigh, North Carolina; Philadelphia, Pennsylvania; Jacksonville, Florida; Tampa, Florida; Hampton, Virginia and Atlanta, Georgia,
experienced a significant increase in room revenues, offset by decreases at our properties impacted by renovation activities in
Savannah, Georgia and Houston, Texas. We continue to expect occupancy and ADR to increase in 2017 as a result of continuing
strong demand and the completion in 2016 of renovations at our properties in Houston, Texas and Atlanta, Georgia.
Food and beverage revenues at our properties for the year ended December 31, 2016 increased approximately $2.1 million, or
6.3%, to approximately $35.4 million compared to food and beverage revenues of approximately $33.3 million for the year ended
December 31, 2015. The increase in food and beverage revenues for the year ended December 31, 2016 resulted principally from our
acquired property in Hollywood Beach, Florida, accounting for an increase of approximately $1.6 million for the period. Additional
increases in food and beverage revenues at our properties in Savannah, Georgia; Raleigh, North Carolina; Laurel, Maryland:
Jacksonville, Florida; and Tampa, Florida of approximately $1.5 million, were offset by decreases of approximately $1.0 million in
food and beverage revenues at our other properties.
Other operating revenues for the year ended December 31, 2016 increased approximately $0.8 million, or 10.0%, to
approximately $9.3 million compared to other operating revenues for the year ended December 31, 2015 of approximately $8.4
million. The increase in other operating department revenues for the year ended December 31, 2016 resulted principally from our
acquired property in Hollywood Beach, Florida, accounting for an increase of approximately $0.6 million for the period. Additional
increases in other operating revenues at our properties in Philadelphia, Pennsylvania; Laurel, Maryland; Jacksonville, Florida;
Jeffersonville, Indiana and Hampton, Virginia of approximately $0.5 million, were offset by decreases of approximately $0.5 million
in other operating revenues at our other properties.
Hotel Operating Expenses. Hotel operating expenses, which consist of room expenses, food and beverage expenses, other direct
expenses, indirect expenses, and management fees, increased approximately $10.9 million, or 10.7%, for the year ended December 31,
2016 to approximately $112.8 million compared to hotel operating expenses for the year ended December 31, 2015 of approximately
$101.9 million. The increase in hotel operating expenses for the year ended December 31, 2016 was substantially related to our
acquired property in Hollywood Beach, Florida, accounting for an increase of approximately $9.0 million for the period, coupled
with an increase in hotel operating expenses at our same-store properties of approximately $1.1 million, mainly from increased
occupancy by 4.6%, offset with decreases in expenses at our properties in Wilmington, North Carolina; Philadelphia, Pennsylvania;
Jeffersonville, Indiana; Hampton, Virginia and Houston, Texas.
Rooms expense at our properties for the year ended December 31, 2016 increased approximately $3.3 million, or 13.1%, to
approximately $28.3 million compared to rooms expense of approximately $25.0 million for the year ended December 31, 2015. The
increase in rooms expense for the year ended December 31, 2017 was substantially related to our acquired property in Hollywood
Beach, Florida, accounting for an increase of approximately $2.3 million for the period. These changes are reflective of
48
reclassifications in the amount of approximately $0.6 million and approximately $0.8 million for the twelve-month periods ending
December 31, 2016 and 2015, respectively, from rooms expense to indirect expenses.
Food and beverage expenses at our properties for the year ended December 31, 2016 increased approximately $1.4 million, or
5.9%, to approximately $24.4 million compared to food and beverage expense of approximately $23.0 million for the year ended
December 31, 2015. The increase in food and beverage expenses for the year ended December 31, 2017 was substantially related
to our acquired property in Hollywood Beach, Florida, accounting for an increase of approximately $1.2 million for the period.
Indirect expenses at our properties for the year ended December 31, 2016 increased approximately $5.7 million, or 10.9%, to
approximately $57.7 million compared to indirect expenses of approximately $52.1 million for the year ended December 31, 2015.
Sales and marketing costs, franchise fees, utilities, repairs and maintenance, insurance, management fees, real and personal property
taxes as well as general and administrative costs at the property level are included in indirect expenses. Most of the increase in indirect
expenses related to expenses that increase proportionally with increases in occupancy and/or revenue, including management fees and
franchise fees. Specifically, increases in indirect expenses were substantially related to our recently acquired property in Hollywood
Beach, Florida, accounting for an increase of approximately $5.1 million for the period, compared to the year ended December 31,
2015. These changes are reflective of reclassifications in the amount of approximately $0.6 million and approximately $0.8 million for
the twelve-month periods ending December 31, 2016 and 2015, respectively, from rooms expense to indirect expenses.
Depreciation and Amortization. Depreciation and amortization for the year ended December 31, 2016 increased approximately
$1.4 million, or 10.5%, to approximately $15.0 million compared to depreciation and amortization expense of approximately $13.6
million for the year ended December 31, 2015. The increase was mostly attributable to depreciation and amortization related to our
recently acquired property in Hollywood Beach, Florida and depreciation and amortization related to our capital assets acquired in the
fourth quarter of 2015 and for the year 2016, offset by reductions of intangible asset amortization during the year ended December 31,
2016 compared to the year ended December 31, 2015.
Impairment of Investment in Hotel Properties, Net. The impairment of investment in hotel properties, net for the years ended
December 31, 2016 and 2015 was $0 and $0.5 million, respectively. Our review of possible impairment of our hotel properties
revealed no excess of current carrying cost over the estimated undiscounted future cash flows, as of December 31, 2016.
Gain / Loss on Disposal of Assets. During the year ended December 31, 2016, we recorded a net loss on disposal of assets of
$365,319, comprised of disposals of furniture, fixtures, and equipment of $565,319, offset by a gain on sale of $200,000, compared to
a $41,435 net gain on disposal of assets for the year ended December 31, 2015, comprised of a net gain on the sale of development
parcel rights and the development parcel for approximately $710,250, offset by losses on disposals of furniture, fixtures and
equipment of $668,815.
Corporate General and Administrative. Corporate general and administrative expenses for the year ended December 31, 2016
decreased approximately $1.2 million, or 17.2%, to approximately $6.0 million compared to corporate general and administrative
expenses of approximately $7.3 million for the year ended December 31, 2015. The decrease in corporate general and administrative
expenses was mainly due to decreases in acquisition costs of approximately $0.6 million, the absence of a one-time tax penalty of $0.4
million in 2016, reduced professional fees of approximately $0.2 million, reduced loan modification costs of $0.2
million and reduced audit fees of approximately $0.2 million partially offset by additional staffing and related salary increase of
approximately $0.3 million, an increase in legal fees of approximately $0.4 million and increased marketing support costs of $0.2
million.
Interest Expense. Interest expense for the year ended December 31, 2016 increased approximately $1.2 million, or 7.4%, to
approximately $17.7 million compared to approximately $16.5 million of interest expense for the year ended December 31, 2015. The
increase in interest expense for the year ended December 31, 2016, was substantially related to the assumed mortgage loan for
the acquired property in Hollywood Beach, Florida, accounting for an increase in interest expense of approximately $1.8 million. This
increase was mainly offset by a decrease in interest from the redemption of the 8% Notes with an approximate decrease of $0.5
million.
Equity Income (Loss) in Joint Venture. Equity in the income of the joint venture decreased approximately $0.5 million, or
100.0%, to $0 for the year ended December 31, 2016 compared to equity in the income of the joint venture of approximately $0.5
million for the year ended December 31, 2015, due the acquisition of the DoubleTree Resort by Hilton Hollywood Beach in July 2015.
49
Loss on Early Debt Extinguishment. The loss on early debt extinguishment for the year ended December 31, 2016 increased
approximately $0.6 million, or 83.5%, to approximately $1.4 million compared to a loss on debt extinguishment of approximately $0.8
million for the year ended December 31, 2015. During the year ended December 31, 2016, we refinanced mortgage loans at our
properties in Wilmington, North Carolina; Savannah, Georgia; Jeffersonville, Indiana; Tampa, Florida and Houston, Texas with an
increase in loss on early debt extinguishments of approximately $0.3 million. We also redeemed our 8% Notes with the majority of
the loss on early debt extinguishment of approximately $1.1 million.
Unrealized Loss on Hedging Activities. During the year ended December 31, 2015, we refinanced a variable rate mortgage loan
we had with Fifth Third Bank on the DoubleTree by Hilton Jacksonville Riverfront, with a new variable rate loan from Bank of the
Ozarks. During August 2015, we purchased an interest rate cap for $179,800. As of December 31, 2016, the fair market value of the
interest rate cap is $33,597 compared to the fair market value of $70,981, as of December 31, 2015. The unrealized loss on hedging
activities during the year ended December 31, 2016 and 2015, was $37,384 and $108,818, respectively.
Gain on Change in Control. On July 31, 2015, we acquired the remaining 75.0% interest in the entities that own and lease
the DoubleTree Resort by Hilton Hollywood Beach. Due to the increased fair market value of the property for our original 25.0%
interest we recognized a discounted gain on change in control. The gain on change in control during the year ended December 31,
2015, was approximately $6.6 million while no such gain was recorded in 2016.
Income Tax Benefit. The income tax benefit for the year ended December 31, 2016 increased approximately $32,000, or 2.4%,
to approximately $1.4 million compared to an income tax provision of approximately $1.3 million for the year ended December 31,
2015. The income tax benefit was primarily derived from the operations of our TRS Lessees. Our TRS Lessees realized higher
operating loss for the year ended December 31, 2016 compared to the year ended December 31, 2015. At December 31, 2016,
deferred tax assets total approximately $6.9 million, of which approximately $6.0 million relate to net operating losses of our TRS
Lessee. At December 31, 2016, we determined, based on all available positive and negative evidence, that it is more-likely-than-not
that future taxable income will be available during the carryforward periods to absorb all of the consolidated federal and state net
operating loss carryforward. We will continue to regularly evaluate the likelihood that we will be able to realize our deferred tax
assets and the need for a valuation allowance for the deferred tax assets.
Net Income. Net income for the year ended December 31, 2016 decreased approximately $5.5 million, or 85.9%, to
approximately $0.9 million compared to net income of approximately $6.4 million for the year ended December 31, 2015, as a result
of the operating results discussed above.
Distributions to Preferred Stockholders. During the year ended December 31, 2016, we recorded distributions to preferred
stockholders of approximately $1.1 million, compared to no distributions to preferred stockholders for the year ended December 31,
2015. As of December 31, 2016 and 2015, we accrued $805,000 and $0, as dividends on the preferred stock, respectively.
Sources and Uses of Cash
The following narrative discusses our sources and uses of cash for the year ended December 31, 2017.
Operating Activities. Our principal source of cash to meet our operating requirements, including distributions to unit holders of
the Operating Partnership and holders of our preferred and common stock, as well as debt service (excluding debt maturities), is the
operations of our hotels. Cash flow provided by operating activities for the year ended December 31, 2017 was approximately $15.8
million for the Company and approximately $15.7 million for the Operating Partnership. We expect that cash on hand and the net cash
provided by operations will be adequate to fund our operating requirements, monthly and quarterly scheduled payments of principal
and interest (excluding any balloon payments due upon maturity of a debt) and the payment of dividends (distributions) to the
stockholders of the Company (the unitholders of the Operating Partnership) in accordance with federal income tax laws which require
us to make annual distributions, as “qualifying distributions,” to the Company’s stockholders of at least 90.0% of its REIT taxable
income (determined without regard to the dividends-paid deduction and by excluding its net capital gains, and reduced by certain non-
cash items).
Investing Activities. During the year ended December 31, 2017, we used approximately $4.0 million to acquire our interest in
the Hyde Resort and Residences, $23.2 million on capital expenditures, of which, approximately $5.6 million related to the routine
replacement of furniture, fixtures and equipment and $17.6 million related to the renovation of our hotels in Wilmington, North
Carolina, Savannah, Georgia and Hollywood Beach, Florida. We also contributed approximately $4.7 million during 2017 into
reserves required by the lenders for ten of our hotels according to the provisions of their respective loan agreements. During 2017, we
received reimbursements from those reserves of approximately $5.7 million for capital expenditures related to those properties for
periods ending on or before December 31, 2017. The Operating Partnership made advances to the Company, net after principal
payments of approximately $4.7 million. We also received approximately $5.4 million from the sale of the Crowne Plaza Hampton
Riverside and proceeds from insurance conversions of approximately $2.3 million.
50
Financing Activities. Cash flow provided by financing activities of the Company for the year ended December 31, 2017 was
approximately $0.5 million for the Company and approximately $5.2 million for the Operating Partnership. This inflow principally
consisted of proceeds from the sale of preferred stock of approximately $30.5 million and net mortgage proceeds of approximately
$14.5 million, offset by redemption of the 7% Notes for $25.3 million, repurchase of common stock for approximately $3.7 million,
dividend and distribution payments of approximately $9.7 million, a loan by the Company to the ESOP of approximately $4.9 million
and payments of deferred financing costs of approximately $0.8 million.
On June 29, 2017, we entered into a promissory note and other loan documents to secure a $35.5 million mortgage on the
DoubleTree by Hilton Jacksonville Riverfront with Wells Fargo Bank, N.A. Pursuant to the loan documents, the loan has a maturity
date of July 11, 2024, bears a fixed interest rate of 4.88%, amortizes on a 30-year schedule, and is subject to a prepayment premium
following a prepayment lockout period. The Company used a portion of the proceeds to repay the existing first mortgage on the
DoubleTree by Hilton Jacksonville Riverfront, to pay closing costs and for general corporate purposes.
On October 11, 2017, the Company closed a sale and issuance of 1,200,000 shares of its Series C Preferred Stock, for net
proceeds after expenses of approximately $28.1 million. On October 17, 2017, the Company closed a sale and issuance of an
additional 100,000 shares of its Series C Preferred Stock, for net proceeds of approximately $2.5 million, pursuant to the underwriters’
partial exercise of an option granted by the Company to purchase additional shares. The Company contributed the net proceeds from
the offering to its Operating Partnership for an equivalent number of Series C Cumulative Redeemable Perpetual Preferred Units (the
“Series C Preferred Units”). We used the net proceeds to redeem in full the Operating Partnership’s 7.0% Notes and for working
capital.
On November 15, 2017, the Operating Partnership redeemed the entire $25.3 million principal amount of its 7% Notes, at a
redemption price equal to 101% of the principal amount of the 7% Notes, plus any accrued and unpaid interest to, but not including,
the redemption date.
The following narrative discusses our sources and uses of cash for the year ended December 31, 2016.
Operating Activities. Our principal source of cash to meet our operating requirements, including distributions to unit holders of
the Operating Partnership and stockholders of the Company as well as debt service (excluding debt maturities), is the operations of our
hotels. Cash flow provided by operating activities for the year ended December 31, 2016 was approximately $17.4 million. We expect
that cash on hand and the net cash provided by operations will be adequate to fund our operating requirements, monthly and quarterly
scheduled payments of principal and interest (excluding any balloon payments due upon maturity of a debt) and the payment of
dividends (distributions) to the stockholders of the Company (the unitholders of the Operating Partnership) in accordance with federal
income tax laws which require us to make annual distributions, as “qualifying distributions,” to the Company’s stockholders of at least
90.0% of its REIT taxable income (determined without regard to the dividends-paid deduction and by excluding its net capital gains,
and reduced by certain non-cash items).
Investing Activities. During the year ended December 31, 2016, we spent approximately $14.9 million on capital expenditures,
of which, approximately $5.3 million related to the routine replacement of furniture, fixtures and equipment; approximately $1.8
million related to the renovation of our property in Houston, Texas in anticipation of our newly independent hotel The Whitehall
which opened in May 2016; approximately $4.9 million related to the renovation of our property in Savannah, Georgia; approximately
$1.5 million related to the renovation of our property in Atlanta, Georgia; approximately $0.6 million related to the renovation of our
property in Wilmington, North Carolina; approximately $0.4 million related to the renovation of our property in Laurel, Maryland and
approximately $0.4 million related to the renovation of our property in Hollywood Beach, Florida.
We also contributed approximately $5.3 million during 2016 into reserves required by the lenders for ten of our hotels according
to the provisions of their respective loan agreements. During 2016, we received reimbursements from those reserves of approximately
$7.0 million for capital expenditures related to those properties for periods ending on or before December 31, 2016.
Financing Activities. Cash flow provided by financing activities for the year ended December 31, 2016 was approximately $15.8
million. This inflow was principally from proceeds from the sale of preferred stock of approximately $37.8 million and net mortgage
proceeds of approximately $15.7 million, offset by redemption of the 8% Notes for $27.6 million, repurchase of common stock for
approximately $2.1 million, dividend and distribution payments of approximately $6.2 million and payments of deferred financing
costs of approximately $1.8 million.
On June 27, 2016, we entered into a promissory note and other loan documents to secure a $35.0 million mortgage on the Hilton
Savannah DeSoto with MONY Life Insurance Company.
On June 30, 2016, we entered into a loan agreement and other loan documents, including a guaranty of payment by the
Operating Partnership, to secure a $19.0 million mortgage on the Crowne Plaza Tampa Westshore with Fifth Third Bank.
51
On August 23, 2016, the Company issued 1,610,000 shares, $0.01 par value per share, of its Series B Preferred Stock for net
proceeds after all expenses of approximately $37.8 million, which it contributed to the Operating Partnership for an equivalent number
of preferred partnership units.
On September 30, 2016, the Operating Partnership redeemed the entire $27.6 million aggregate principal amount of its
outstanding 8% Notes.
On October 12, 2016, we entered into a loan agreement to secure a $20.5 million mortgage on The Whitehall with International
Bank of Commerce. Pursuant to the loan documents, the loan provides initial proceeds of $15.0 million, with an additional $5.5
million available upon the satisfaction of certain conditions.
On November 3, 2016, we entered into a loan agreement to refinance the mortgage on the Sheraton Louisville Riverside with
Symetra Life Insurance Company. Pursuant to the loan documents, the loan provides proceeds of $12.0 million.
On November 3, 2016, we entered into a loan agreement to modify and extend the $2.6 million mortgage on the Crowne Plaza
Hampton Marina with TowneBank.
On December 1, 2016, we entered into a promissory note and other loan documents to secure a $35.0 million mortgage on the
Hilton Wilmington Riverside with MONY Life Insurance Company. Pursuant to the loan documents, the loan provides initial
proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain conditions, namely, the completion
of a renovation project.
On December 2, 2016, the Company’s Board of Directors authorized a stock repurchase program under which the Company
may purchase up to $10.0 million of its outstanding common stock, par value $0.01 per share, at prevailing prices on the open market
or in privately negotiated transactions, at the discretion of management. The Company expects to use available working capital to
fund purchases under the stock repurchase program and intends to complete the repurchase program prior to December 31, 2018,
unless extended by the Board of Directors. For the years ended December 31, 2017 and 2016, the Company repurchased 401,720 and
481,100 shares of common stock, respectively, for approximately $2.7 million and $3.2 million, respectively. The repurchased shares
have been returned to the status of authorized but unissued shares of common stock.
Capital Expenditures
We anticipate that our need for recurring capital expenditures for the replacement and refurbishment of furniture, fixtures and
equipment over the next 12 to 24 months will be at historical norms for our properties and the industry. Historically, we have aimed to
maintain overall capital expenditures, except for those required by our franchisors as a condition to a franchise license or license
renewal, at 4.0% of gross revenue. In addition, during fiscal years 2018 and 2019 we expect total renovation capital expenditures of
approximately $10.9 million related to our properties in Wilmington, North Carolina and Tampa, Florida.
Given our desire to proceed with the renovation activities at our properties in Wilmington, North Carolina and Tampa, Florida,
we aim to restrict all other capital expenditures to the replacement of broken or damaged furniture and equipment and the acquisition
of items mandated by our licensors that are necessary to maintain our brand affiliations. We anticipate that capital expenditures for the
replacement and refurbishment of furniture, fixtures and equipment that are not related to these renovation activities to total 3.50% of
gross revenues in 2018.
We expect capital expenditures for the recurring replacement or refurbishment of furniture, fixtures and equipment at our
properties will be funded by our replacement reserve accounts, other than costs that we incur to make capital improvements required
by our franchisors. Reserve accounts are escrowed accounts with funds deposited monthly and reserved for capital improvements or
expenditures with respect to all of our hotels. We currently deposit an amount equal to 4.0% of gross revenue for The DeSoto, the
Hilton Wilmington Riverside, the DoubleTree Resort by Hilton Hollywood Beach, The DoubleTree by Hilton Jacksonville Riverside,
the DoubleTree by Hilton Raleigh Brownstone-University, The Whitehall and the Georgian Terrace as well as 4.0% of room revenues
for the DoubleTree by Hilton Philadelphia Airport on a monthly basis.
Liquidity and Capital Resources
As of December 31, 2017, we had cash and cash equivalents of approximately $33.4 million, of which approximately $3.7
million was in restricted reserve accounts for capital improvements, real estate tax and insurance escrows. We expect that our cash on
hand combined with our cash flow from our hotels should be adequate to fund continuing operations, recurring capital expenditures
for the refurbishment and replacement of furniture, fixtures and equipment, and monthly and quarterly scheduled payments of
principal and interest (excluding any balloon payments due upon maturity of the indentures or mortgage debt).
52
We intend to continue to invest in hotel properties as suitable opportunities arise. The success of our acquisition strategy
depends, in part, on our ability to access additional capital through other sources. There can be no assurance that we will continue to
make investments in properties that meet our investment criteria. Additionally, we may choose to dispose of certain hotels as a means
to provide liquidity.
We expect to meet our liquidity requirements for hotel property acquisitions, property redevelopment, investments in new joint
ventures and debt maturities, and the retirement of maturing mortgage debt, through net proceeds from additional issuances of
common shares, additional issuances of preferred shares, issuances of units of limited partnership interest in our Operating
Partnership, secured and unsecured borrowings, the selective disposition of non-core assets, and cash on hand. We remain committed
to a flexible capital structure and strive to maintain prudent debt leverage.
We do not have any debt obligations maturing until August 2018. In August 2018, the approximate $14.5 mortgage on our
DoubleTree by Hilton Raleigh Brownstone University matures. We have approximately $44.4 million in debt obligations maturing in
2019, which includes reductions for future monthly principal payments on the mortgages.
On December 2, 2016, the Company’s Board of Directors authorized a stock repurchase program under which the Company
may purchase up to $10.0 million of its outstanding common stock, par value $0.01 per share, at prevailing prices on the open market
or in privately negotiated transactions, at the discretion of management. The Company expects to use available working capital to
fund purchases under the stock repurchase program and intends to complete the repurchase program prior to December 31, 2018,
unless extended by the Board of Directors. For the years ended December 31, 2017 and 2016, the Company repurchased 401,720 and
481,100 shares of common stock, respectively, for approximately $2.7 million and $3.2 million, respectively. The repurchased shares
have been returned to the status of authorized but unissued shares of common stock.
On January 30, 2017, we acquired the commercial condominium unit of the Hyde Resort & Residences, a 400-unit
condominium hotel located in the Hollywood, Florida market, for an aggregated price of approximately $4.8 million from 4111 South
Ocean Drive, LLC. In connection with the closing of the transaction, the Company entered into a lease agreement for the 400-space
parking garage and meeting rooms associated with the condominium hotel, agreements relating to the operation and management of
the hotel condominium association and a condominium unit rental program, and a pre-opening services agreement whereby the seller
paid the Company a fee of approximately $0.8 million for certain pre-opening related preparations.
On February 7, 2017, we closed on the sale of the Crowne Plaza Hampton Marina to Marina Hotels, LLC for a price of $5.6
million.
On June 1, 2017, we entered into an agreement to purchase the commercial unit of the planned Hyde Beach House Resort &
Residences, a condominium hotel under development in Hollywood, Florida, for a price of $5.1 million from 4000 South Ocean
Property Owner, LLLP. In connection with the agreement, we also entered into a pre-opening services agreement whereby the seller
has agreed to pay the Company approximately $0.8 million in connection with certain pre-opening activities to be undertaken prior to
the closing. The Company has agreed to purchase inventories at closing consistent with the management and operation of the hotel
and the related condominium association for an additional amount and has further agreed to enter into a lease agreement for the
parking garage and poolside cabanas associated with the hotel; and to enter into a management agreement relating to the operation and
management of the hotel’s condominium association. The Company anticipates that the closing of the transaction and the execution
of related agreements will take place in the second quarter of 2019, once construction of the hotel has been substantially completed.
The closing of the transaction is subject to various closing conditions as described in the purchase agreement.
On June 29, 2017, we entered into a promissory note and other loan documents to secure a $35.5 million mortgage on the
DoubleTree by Hilton Jacksonville Riverfront with Wells Fargo Bank, N.A. Pursuant to the loan documents, the loan has a maturity
date of July 11, 2024, bears a fixed interest rate of 4.88%, amortizes on a 30-year schedule, and is subject to a prepayment premium
following a prepayment lockout period. The Company used a portion of the proceeds to repay the existing first mortgage on the
DoubleTree by Hilton Jacksonville Riverfront, to pay closing costs and for general corporate purposes.
In October 2017, the Company issued 1,300,000 shares, $0.01 par value per share, of its Series C Preferred Stock for net
proceeds after all expenses of approximately $30.5 million, which it contributed to the Operating Partnership for an equivalent number
of preferred partnership units.
On November 15, 2017, the Operating Partnership redeemed the entire $25.3 million aggregate principal amount of its
outstanding 7% Notes.
On February 12, 2018, the Company and the Operating Partnership closed on a sale and issuance by the Operating Partnership
of an aggregate $25.0 million of the 7.25% Notes, unconditionally guaranteed by the Company, for net proceeds after all estimated
53
expenses of approximately $23.3 million. The Operating Partnership used the net proceeds from this offering, together with existing
cash on hand and $57.0 million of asset-level mortgage indebtedness, to finance the Arlington Acquisition and for working capital.
On March 1, 2018, we acquired the 318-room Hyatt Centric Arlington hotel located in Arlington, Virginia for an aggregate
purchase price of $79.7 million, including seller credits. On March 1, 2018, we entered into a loan agreement, a first and second
promissory note (“Note A” and “Note B”, respectively), and other loan documents, including a guarantee by the Operating
Partnership, to secure an aggregate $57.0 million mortgage (the “Mortgage Loan”) on the Hyatt Centric Arlington hotel with Fifth
Third Bank. Pursuant to the Mortgage Loan documents, Note A is in the amount of $50.0 million; has a term of 3 years, with two 1-
year extension options, each of which subject to certain criteria; bears a floating interest rate of one-month LIBOR plus 3.00%; and
amortizes on a 25-year schedule. Pursuant to the Mortgage Loan documents, Note B is in the amount of $7.0 million; has a term of 1-
year, with two 1-year extension options, each of which subject to certain criteria; bears a floating interest rate of three-month LIBOR
plus 5.00%; and requires monthly principal payments of $100,000 during the initial 1-year term, $150,000 during the first 1-year
extended term, and $250,000 during the second 1-year extended term, with interest payments due monthly on the outstanding
principal amount during all three terms. The full amount of the loan proceeds, together with proceeds of the 7.25% Notes offering and
cash on hand, were used to finance the Arlington Acquisition.
Financial Covenants
Mortgage Loans
Our mortgage loan agreements contain various financial covenants. Failure to comply with these financial covenants could
result from, among other things, changes in the local competitive environment, general economic conditions and disruption caused by
renovation activity or major weather disturbances.
If we violate the financial covenants contained in these agreements, we may attempt to negotiate waivers of the violations or
amend the terms of the applicable mortgage loan agreement with the lender; however, we can make no assurance that we would be
successful in any such negotiation or that, if successful in obtaining waivers or amendments, such waivers or amendments would be
on attractive terms. Some mortgage loan agreements provide alternate cure provisions which may allow us to otherwise comply with
the financial covenants by obtaining an appraisal of the hotel, prepaying a portion of the outstanding indebtedness or by providing
cash collateral until such time as the financial covenants are met by the collateralized property without consideration of the cash
collateral. Alternate cure provisions which include prepaying a portion of the outstanding indebtedness or providing cash collateral
may have a material impact on our liquidity.
If we are unable to negotiate a waiver or amendment or satisfy alternate cure provisions, if any, or unable to meet any alternate
cure requirements and a default were to occur, we would possibly have to refinance the debt through additional debt financing, private
or public offerings of debt securities, or additional equity financing.
Under the terms of our non-recourse secured mortgage loan agreements, failure to comply with the financial covenants in the
loan agreement triggers cash flows from the property to be directed to the lender, which may limit our overall liquidity as that cash
flow would not be available to us.
At December 31, 2017, we were in compliance with all debt covenants, current on all loan payments and not otherwise in
default under any of our mortgage loans.
Unsecured Notes
The indenture for the 7.25% Notes, issued on February 12, 2018, contains certain covenants and restrictions that require us to
meet certain financial ratios. We are not permitted to incur any Debt (other than Intercompany Debt), each as defined in the indenture,
if, immediately after giving effect to the incurrence of such Debt and to the application of the proceeds thereof, the ratio of the
aggregate principal amount of all outstanding Debt to Adjusted Total Asset Value, as defined in the indenture, would be greater than
0.65 to 1.0. In addition, we are not permitted to incur any Debt if the ratio of Stabilized Consolidated Income Available for Debt
Service to Stabilized Consolidated Interest Expense, each as defined in the indenture, on the date on which such additional Debt is to
be incurred, on a pro-forma basis, after giving effect to the incurrence of such Debt and to the application of the proceeds thereof,
would be less than 1.50 to 1.0
54
Mortgage Debt
As of December 31, 2017, we had a principal mortgage debt balance of approximately $299.1 million. The following table sets
forth our mortgage debt obligations on our hotels.
Property
December 31,
2017
Prepayment
Penalties
Maturity
Date
Amortization
Provisions
Interest Rate
Crowne Plaza Tampa Westshore (1)
The DeSoto (2)
DoubleTree by Hilton Jacksonville
Riverfront (3)
DoubleTree by Hilton Laurel (4)
DoubleTree by Hilton Philadelphia Airport (5)
DoubleTree by Hilton Raleigh
Brownstone University (6)
DoubleTree Resort by Hilton Hollywood
Beach (7)
Georgian Terrace (8)
Hilton Wilmington Riverside (9)
Sheraton Louisville Riverside (10)
The Whitehall (11)
Total Mortgage Principal Balance
Deferred financing costs, net
Unamortized premium on loan
Total Mortgage Loans
$
15,284,200
34,645,929
35,294,741
9,132,558
30,432,260
None
Yes
Yes
Yes
None
6/30/2019
7/1/2026
25 years LIBOR plus 3.75 %
25 years
4.25%
7/11/2024
8/5/2021
4/1/2019
30 years
25 years
25 years LIBOR plus 3.00 %
4.88%
5.25%
14,503,925
N/A
8/1/2018
30 years
4.78%
N/A
N/A
Yes
Yes
Yes
10/1/2025
6/1/2025
1/1/2027
12/1/2026
10/12/2021
30 years
30 years
25 years
25 years
18 years LIBOR plus 3.50 %
4.913%
4.42%
4.25%
4.27%
58,023,567
45,032,662
30,000,000
11,701,930
15,000,000
299,051,772
(1,923,928)
190,972
$ 297,318,816
(1)
(2)
(3)
(4)
The note provides initial proceeds of $15.7 million, with an additional $3.3 million available upon the satisfaction of certain
conditions; bears a floating interest rate of the 1-month LIBOR plus 3.75%, subject to a floor rate of 3.75%; the note provides
that the mortgage can be extended for two additional periods of one year each, subject to certain conditions.
The note provides initial proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain
conditions, namely, the completion of a renovation project; amortizes on a 25-year schedule after a 1-year interest-only period;
and is subject to a pre-payment penalty except for any pre-payments made within 120 days of the maturity date.
The note may not be prepaid until August 2019, after which it is subject to a pre-payment penalty until March 2024. Prepayment
can be made without penalty thereafter.
The note is subject to a pre-payment penalty except for any pre-payments made either between April 2017 and August 2017, or
from April 2021 through maturity of the note.
The note bears a minimum interest rate of 3.50%.
(5)
(6) With limited exception, the note may not be prepaid until two months before maturity.
(7) With limited exception, the note may not be prepaid until June 2025.
(8) With limited exception, the note may not be prepaid until February 2025.
(9)
The note provides initial proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain
conditions namely, the completion of a renovation project. The note amortizes on a 25-year schedule after a 1-year interest-only
period; and is subject to a pre-payment penalty except for any pre-payments made within 120 days of the maturity date.
(10) The note bears a fixed interest rate of 4.27% for the first 5 years of the loan, with an option for the lender to reset the interest
rate after 5 years.
(11) The note was refinanced in October 2016, provides initial proceeds of $15.0 million, with an additional $5.5 million available
upon the satisfaction of certain conditions; bears a floating interest rate of the 1-month LIBOR plus 3.5%, subject to a floor rate
of 4.0%; and is subject to prepayment penalties subject to a declining scale from 3.0% penalty on or before the first anniversary
date, a 2.0% penalty during the second anniversary year and a 1.0% penalty after the third anniversary date. See “Part I, Item 1
– Business - Subsequent Events” above for additional details of a further modification effective February 26, 2018.
55
Contractual Obligations
The following table outlines our contractual obligations as of December 31, 2017, and the effect such obligations are expected
to have on our liquidity and cash flow in future periods (in thousands).
Contractual Obligations
Mortgage loans, including interest
Ground, building, parking garage, office and
equipment leases
Totals
Payments due by period (in thousands)
Total
$ 375,080
Less than
1 year
$ 35,086
1-3 years
$ 80,094
3-5 years
$ 54,341
More than
5 years
$ 205,559
6,009
$ 381,089
568
$ 35,654
818
$ 80,912
703
$ 55,044
3,920
$ 209,479
In connection with the acquisition of our six initial hotel properties, we entered into tax indemnity agreements that required us to
indemnify the contributors of our initial properties against tax liabilities in the event we sold any of those properties in a taxable
transaction during a 10-year period. The tax indemnity agreements expired on or about December 22, 2014. Our obligations under the
contribution agreements may effectively preclude us from reducing our consolidated indebtedness below approximately $11.0 million.
Off Balance Sheet Arrangements. Through a joint venture with a subsidiary of The Carlyle Group (“Carlyle”), we owned a
25.0% indirect, noncontrolling interest in an entity (the “JV Owner”) that acquired the 311-room DoubleTree Resort by Hilton
Hollywood Beach in Hollywood, Florida (formerly known as the Crowne Plaza Hollywood Beach Resort). We had the right to receive
a pro rata share of operating surpluses and we had an obligation to fund our pro rata share of operating shortfalls. We also had the
opportunity to earn an incentive participation in the net proceeds realized from the sale of the hotel based upon the achievement of
certain overall investment returns, in addition to our pro rata share of net sale proceeds. The DoubleTree Resort by Hilton Hollywood
Beach was leased to another entity (the “Joint Venture Lessee”) in which we also owned a 25.0% indirect, noncontrolling interest.
Carlyle owned a 75.0% controlling interest in the entities that own and lease the DoubleTree Resort by Hilton Hollywood
Beach. Carlyle had the right to dispose of the DoubleTree Resort by Hilton Hollywood Beach without our consent. We accounted for
our noncontrolling 25.0% interest in all of these entities under the equity method of accounting.
On July 31, 2015, indirect subsidiaries of the Operating Partnership acquired from Carlyle the remaining 75.0% interest in the
entities that own and lease the DoubleTree Resort by Hilton Hollywood Beach. As a result, the Operating Partnership now has a
100% indirect ownership interest in the entities that own the DoubleTree Resort by Hilton Hollywood Beach. The property was
refinanced on September 28, 2015 and is encumbered by a $60.0 million mortgage which matures in September 2025 and requires
monthly payments of interest at a rate of 4.913%. The DoubleTree Resort by Hilton Hollywood Beach secures the mortgage.
Distributions to Stockholders and Holders of Units in the Operating Partnership. The Company has elected to be taxed as a
REIT commencing with our taxable year ending December 31, 2004. To maintain qualification as a REIT, the Company is required to
make annual distributions to its stockholders of at least 90.0% of our REIT taxable income, (excluding net capital gain, which does not
necessarily equal net income as calculated in accordance with generally accepted accounting principles). The Company’s ability to
pay distributions to its stockholders will depend, in part, upon its receipt of distributions from the Operating Partnership which may
depend upon receipt of lease payments with respect to our properties from our TRS Lessees, and in turn, upon the management of our
properties by our hotel manager. Distributions to the Company’s stockholders will generally be taxable to the Company’s stockholders
as ordinary income; however, because a portion of our investments will be equity ownership interests in hotels, which will result in
depreciation and non-cash charges against our income, a portion of our distributions may constitute a non-taxable return of capital. To
the extent not inconsistent with maintaining the Company’s REIT status, our TRS Lessees may retain any after-tax earnings.
Distributions to Preferred Stockholders and Holder of Preferred partnership units in the Operating Partnership. The Company
is obligated to pay distributions to its holders of the Company’s preferred stock and the Operating Partnership is obligated to pay its
preferred unit holder, the Company. Holders of the Company’s Series B Preferred Stock and Series C Preferred Stock are entitled to
receive distributions when authorized by the Company’s board of directors out of assets legally available for the payment of
distributions. The amount of annual dividends on our outstanding preferred shares is approximately $5.8 million and the aggregate
liquidation preference with respect to our outstanding preferred shares is approximately $72.8 million. The preferred stock is not
redeemable by the holders, has no maturity date and is not convertible into any other security of the Company or its affiliates, except
in the event of a change of control.
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The Company’s ability to pay distributions to its stockholders will depend, in part, upon its receipt of distributions from the
Operating Partnership which may depend upon receipt of lease payments with respect to our properties from our TRS Lessees, and in
turn, upon the management of our properties by our hotel managers. Distributions to the Company’s stockholders will generally be
taxable to the Company’s stockholders as ordinary income; however, because a portion of our investments will be equity ownership
interests in hotels, which will result in depreciation and non-cash charges against our income, a portion of our distributions may
constitute a non-taxable return of capital. To the extent not inconsistent with maintaining the Company’s REIT status, our TRS
Lessees may retain any after-tax earnings.
The amount, timing and frequency of distributions will be authorized by the Company’s board of directors and declared by the
Company based upon a variety of factors deemed relevant by its directors, and no assurance can be given that the distribution policy
will not change in the future.
Inflation
We generate revenues primarily from lease payments from our TRS Lessees and net income from the operations of our TRS
Lessees. Therefore, we rely primarily on the performance of the individual properties and the ability of the management company to
increase revenues and to keep pace with inflation. Operators of hotels, in general, possess the ability to adjust room rates daily to keep
pace with inflation. However, competitive pressures at some or all of our hotels may limit the ability of the management company to
raise room rates.
Our expenses, including hotel operating expenses, administrative expenses, real estate taxes and property and casualty insurance
are subject to inflation. These expenses are expected to grow with the general rate of inflation, except for energy, liability insurance,
property and casualty insurance, property tax rates, employee benefits, and some wages, which are expected to increase at rates higher
than inflation.
Geographic Concentration and Seasonality
Our hotels are located in Florida, Georgia, Indiana, Maryland, North Carolina, Pennsylvania, Texas and Virginia. As a result, we
are particularly susceptible to adverse market conditions in these geographic areas, including industry downturns, relocation of
businesses and any oversupply of hotel rooms or a reduction in lodging demand. Adverse economic developments in the markets in
which we have a concentration of hotels, or in any of the other markets in which we operate, or any increase in hotel supply or
decrease in lodging demand resulting from the local, regional or national business climate, could materially and adversely affect us.
The operations of our hotel properties have historically been seasonal. The months of April and May are traditionally strong, as
is October. The periods from mid-November through mid-February are traditionally slow with the exception of hotels located in
certain markets, namely Florida and Texas, which experience significant room demand during this period.
Competition
The hotel industry is highly competitive with various participants competing on the basis of price, level of service and
geographic location. Each of our hotels is located in a developed area that includes other hotel properties. The number of competitive
hotel properties in a particular area could have a material adverse effect on occupancy, ADR and RevPAR of our hotels or at hotel
properties acquired in the future. We believe that brand recognition, location, the quality of the hotel, consistency of services provided,
and price, are the principal competitive factors affecting our hotels.
Critical Accounting Policies
The critical accounting policies are described below. We consider these policies critical because they involve difficult
management judgments and assumptions, are subject to material change from external factors or are pervasive, and are significant to
fully understand and evaluate our reported financial results.
Investment in Hotel Properties. Hotel properties are stated at cost, net of any impairment charges, and are depreciated using the
straight-line method over an estimated useful life of 7-39 years for buildings and improvements and 3-10 years for furniture and
equipment. In accordance with generally accepted accounting principles, the controlling interests in hotels comprising our accounting
predecessor, MHI Hotels Services Group, and noncontrolling interests held by the controlling holders of our accounting predecessor in
hotels, which were acquired from third parties contributed to us in connection with the Company’s initial public offering, are recorded
at historical cost basis. Noncontrolling interests in those entities that comprise our accounting predecessor and the interests in hotels,
other than those held by the controlling members of our accounting predecessor, acquired from third parties are recorded at fair value
at the time of acquisition.
57
We review our hotel properties for impairment whenever events or changes in circumstances indicate the carrying value of the
hotel properties may not be recoverable. Events or circumstances that may cause us to perform our review include, but are not limited
to, adverse permanent changes in the demand for lodging at our properties due to declining national or local economic conditions
and/or new hotel construction in markets where our hotels are located. When such conditions exist, management performs a
recoverability analysis to determine if the estimated undiscounted future cash flows from operating activities and the estimated
proceeds from the ultimate disposition of a hotel property exceed its carrying value. If the estimated undiscounted future cash flows
are found to be less than the carrying amount of the hotel property, an adjustment to reduce the carrying value to the related hotel
property’s estimated fair market value would be recorded and an impairment loss recognized.
Our review of possible impairment at one of our hotel properties revealed an excess of current carrying cost over the estimated
undiscounted future cash flows, which resulted in an impairment to fair market value by an approximate amount of $0.5 million, as of
December 31, 2015.
In performing the recoverability analysis, we project future operating cash flows based upon significant assumptions regarding
growth rates, occupancy, room rates, economic trends, property-specific operating costs and future capital expenditures required to
maintain the hotel in its current operating condition. We also project cash flows from the eventual disposition of the hotel based upon
various factors including property-specific capitalization rates, ratio of selling price to gross hotel revenues and the selling price per
room.
Revenue Recognition. Hotel revenues, including room, food, beverage and other hotel revenues, are recognized as the related
services are delivered. We generally consider accounts receivable to be fully collectible; accordingly, no allowance for doubtful
accounts is required. If we determine that amounts are uncollectible, which would generally be the result of a customer’s bankruptcy
or other economic downturn, such amounts will be charged against operations when that determination is made.
Income Taxes. We record a valuation allowance to reduce deferred tax assets to an amount that we believe is more likely than
not to be realized. Because of expected future taxable income of our TRS Lessee, we have not recorded a valuation allowance to
reduce our net deferred tax asset as of December 31, 2017. We regularly evaluate the likelihood that our TRS Lessee will be able to
realize its deferred tax assets and the continuing need for a valuation allowance. At December 31, 2017, we determined, based on all
available positive and negative evidence, that it is more-likely-than-not that future taxable income will be available during the
carryforward periods to absorb all of the consolidated federal and state net operating loss carryforward. A number of factors played a
critical role in this determination, including:
•
•
•
a demonstrated track record of past profitability and utilization of past NOL carryforwards,
reasonable forecasts of future taxable income, and
anticipated changes in the lease rental payments from the TRS Lessee to subsidiaries of the Operating Partnership.
Should unanticipated adverse financial trends occur, or other negative evidence develop, a valuation allowance may be
necessary in the future against some or all of our deferred tax assets.
Recent Accounting Pronouncements
For a summary of recently adopted and newly issued accounting pronouncements, please refer to the New Accounting
Pronouncements section of Note 2, Summary of Significant Accounting Policies, in the Notes to Consolidated Financial Statements.
Non-GAAP Financial Measures
We consider FFO, Adjusted FFO and Hotel EBITDA, all of which are non-GAAP financial measures, to be key supplemental
measures of our performance and could be considered along with, not alternatives to, net income (loss) as a measure of our
performance. These measures do not represent cash generated from operating activities determined by generally accepted accounting
principles (“GAAP”) or amounts available for our discretionary use and should not be considered alternative measures of net income,
cash flows from operations or any other operating performance measure prescribed by GAAP.
FFO and Adjusted FFO. Industry analysts and investors use Funds from Operations (“FFO”), as a supplemental operating
performance measure of an equity REIT. FFO is calculated in accordance with the definition adopted by the Board of Governors of
the National Association of Real Estate Investment Trusts (“NAREIT”). FFO, as defined by NAREIT, represents net income or loss
determined in accordance with GAAP, excluding extraordinary items as defined under GAAP and gains or losses from sales of
previously depreciated operating real estate assets, plus certain non-cash items such as real estate asset depreciation and amortization,
and after adjustment for any noncontrolling interest from unconsolidated partnerships and joint ventures. Historical cost accounting
for real estate assets in accordance with GAAP implicitly assumes that the value of real estate assets diminishes predictably over time.
58
Since real estate values instead have historically risen or fallen with market conditions, many investors and analysts have considered
the presentation of operating results for real estate companies that use historical cost accounting to be insufficient by itself.
We consider FFO to be a useful measure of adjusted net income (loss) for reviewing comparative operating and financial
performance because we believe FFO is most directly comparable to net income (loss), which remains the primary measure of
performance, because by excluding gains or losses related to sales of previously depreciated operating real estate assets and excluding
real estate asset depreciation and amortization, FFO assists in comparing the operating performance of a company’s real estate
between periods or as compared to different companies. Although FFO is intended to be a REIT industry standard, other companies
may not calculate FFO in the same manner as we do, and investors should not assume that FFO as reported by us is comparable to
FFO as reported by other REITs.
We further adjust FFO for certain additional items that are not in NAREIT’s definition of FFO, including changes in deferred
income taxes, any unrealized gain (loss) on hedging instruments or warrant derivative, loan impairment losses, losses on early
extinguishment of debt, aborted offering costs, loan modification fees, franchise termination costs, costs associated with the departure
of executive officers, litigation settlement, over-assessed real estate taxes on appeal, change in control gains or losses and acquisition
transaction costs. We exclude these items as we believe it allows for meaningful comparisons between periods and among other
REITs and is more indicative than FFO of the on-going performance of our business and assets. Our calculation of Adjusted FFO may
be different from similar measures calculated by other REITs.
The following is a reconciliation of net income (loss) to FFO and Adjusted FFO for the years ended December 31, 2017, 2016,
and 2015.
Net Income/(Loss) Attributable to the Common
Stockholders
Add: Net Income/(Loss) Attributable to the
Noncontrolling Interest
Depreciation and Amortization
Impairment of Investment in Hotel Properties, Net
Equity in Depreciation on Joint Venture
Gain on Change in Control
Loss (Gain) on Sale or Disposal of Assets
Gain on Involuntary Conversion of Asset
Funds From Operations
Decrease (Increase) in Deferred Income Taxes
Acquisition Costs
Loss on Starwood Settlement
Over-Assessed Real Estate Taxes Under Appeal
Loan Modification Fees
Realized and Unrealized Loss on Hedging Activities (A)
Loss on Aborted Offering Costs
Loss on Early Debt Extinguishment (A)
Adjusted FFO
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
December 31,
2015
$ (3,339,136) $
(218,173) $ 5,356,666
(413,014)
16,999,619
—
—
—
1,413,659
(2,242,876)
$ 12,418,252
1,498,222
—
—
—
—
28,384
541,129
1,178,348
$ 15,664,335
(26,567) 1,040,987
13,591,495
15,019,071
500,000
—
259,279
—
(6,603,148)
—
(41,435)
365,319
—
—
$ 15,139,650
$ 14,103,844
(1,558,966) (1,780,571)
634,376
324,271
497,733
243,229
108,819
—
772,907
$ 14,904,608
—
—
—
64,215
37,384
—
1,417,905
$ 15,100,188
(A)
Includes equity in unrealized (gain)/loss on hedging activities of joint venture.
Hotel EBITDA. We define Hotel EBITDA as net income or loss excluding: (1) interest expense, (2) interest income, (3) income
tax provision or benefit, (4) equity in the income or loss of equity investees, (5) unrealized gains and losses on derivative instruments
not included in other comprehensive income, (6) gains and losses on disposal of assets, (7) realized gains and losses on investments,
(8) impairment of long-lived assets or investments, (9) loss on early debt extinguishment, (10) gains or losses on change in control,
(11) corporate general and administrative expense, (12) depreciation and amortization, (13) gains and losses on involuntary
conversions of assets (14) distributions to preferred stockholders and (15) other operating revenue not related to our wholly-owned
portfolio. We believe this provides a more complete understanding of the operating results over which our wholly-owned hotels and
its operators have direct control. We believe Hotel EBITDA provides investors with supplemental information on the on-going
59
operational performance of our hotels and the effectiveness of third-party management companies operating our business on a
property-level basis.
Our calculation of Hotel EBITDA may be different from similar measures calculated by other REITs.
The following is a reconciliation of net loss to Hotel EBITDA for the years ended December 31, 2017, 2016, and 2015.
Net Income/(Loss) Attributable to the Common
Stockholders
Add: Net Income/(Loss) Attributable to the
Noncontrolling Interest
Interest Expense
Interest Income
Distributions to Preferred Stockholders
Income Tax Benefit
Depreciation and Amortization
Equity in Earnings of Joint Venture
Unrealized Loss on Hedging Activities
Gain on Change in Control
Loss on Debt Extinguishment
Loss (Gain) on Sale or Disposal of Assets
Gain on Involuntary Conversion of Asset
Impairment of Investment in Hotel Properties, Net
Corporate General and Administrative Expenses
Other Fee Income
Hotel EBITDA
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
December 31,
2015
$ (3,339,136) $
(218,173) $ 5,356,666
(218,656)
(413,014)
—
28,384
—
(26,567) 1,040,987
15,727,628 17,735,107 16,515,827
(50,461)
(115,785)
3,781,639 1,144,889
—
1,737,804 (1,367,634) (1,336,033)
16,999,619 15,019,071 13,591,495
(475,514)
108,819
— (6,603,148)
772,907
(41,435)
—
500,000
6,335,926 6,021,065 7,268,256
(200,976)
$ 40,989,325 $ 40,012,581 $ 36,447,390
1,178,348 1,417,905
365,319
1,413,659
—
(2,242,876)
—
—
—
37,384
—
—
Item 7A. Quantitative and Qualitative Disclosures about Market Risk
The effects of potential changes in interest rates are discussed below. Our market risk discussion includes “forward-looking
statements” and represents an estimate of possible changes in fair value or future earnings that could occur assuming hypothetical
future movements in interest rates. These disclosures are not precise indicators of expected future losses, but only indicators of
reasonably possible losses. As a result, actual future results may differ materially from those presented. The analysis below presents
the sensitivity of the market value of our financial instruments to selected changes in market interest rates.
To meet in part our long-term liquidity requirements, we will borrow funds at a combination of fixed and variable rates. Our
interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower our
overall borrowing costs. From time to time we may enter into interest rate hedge contracts such as collars and treasury lock
agreements in order to mitigate our interest rate risk with respect to various debt instruments. We do not intend to hold or issue
derivative contracts for trading or speculative purposes.
As of December 31, 2017, we had approximately $238.3 million of fixed-rate debt and approximately $60.7 million of variable-
rate debt. The weighted-average interest rate on the fixed-rate debt was 4.61%. A change in market interest rates on the fixed portion
of our debt would impact the fair value of the debt, but have no impact on interest incurred or cash flows. Our variable-rate debt is
exposed to changes in interest rates, specifically the changes in 1-month LIBOR. However, to the extent that 1-month LIBOR does
not exceed the 1-month LIBOR floor on the mortgage on the DoubleTree by Hilton Philadelphia Airport of 0.50%, a portion of our
variable-rate debt would not be exposed to changes in interest rates. Assuming that the aggregate amount outstanding on the
mortgages on the Crowne Plaza Tampa Westshore, DoubleTree by Hilton Philadelphia Airport and the mortgage on The Whitehall
remains at approximately $60.7 million, the balance at December 31, 2017, the impact on our annual interest incurred and cash flows
of a one percent increase in 1-month LIBOR would be approximately $0.6 million.
As of December 31, 2016, we had approximately $228.7 million of fixed-rate debt and approximately $81.1 million of variable-
rate debt. The weighted-average interest rate on the fixed-rate debt was 4.84%. A change in market interest rates on the fixed portion
of our debt would impact the fair value of the debt, but have no impact on interest incurred or cash flows. Our variable-rate debt is
exposed to changes in interest rates, specifically the changes in 1-month LIBOR. However, to the extent that 1-month LIBOR does
60
not exceed the 1-month LIBOR floor on the mortgage on the DoubleTree by Hilton Philadelphia Airport of 0.50%, a portion of our
variable-rate debt would not be exposed to changes in interest rates. Assuming that the aggregate amount outstanding on the
mortgages on the Crowne Plaza Tampa Westshore, DoubleTree by Hilton Philadelphia Airport, DoubleTree by Hilton Jacksonville
Riverfront and the mortgage on The Whitehall remains at approximately $81.1 million, the balance at December 31, 2017, the impact
on our annual interest incurred and cash flows of a one percent increase in 1-month LIBOR would be approximately $0.8 million.
Item 8. Financial Statements and Supplementary Data
See Index to Financial Statements and Financial Statement Schedules on page F-1.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Sotherly Hotels Inc.
Disclosure Controls and Procedures
The Company’s management, under the supervision and participation of its Chief Executive Officer and Chief Financial Officer,
has evaluated the effectiveness of its disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the
Securities Exchange Act of 1934, as amended (the “Exchange Act”), as required by paragraph (b) of Rules 13a-15 and 15d-15 under
the Exchange Act), as of December 31, 2017. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial
Officer have concluded that, as of December 31, 2017, its disclosure controls and procedures were effective and designed to ensure
that (i) information required to be disclosed in its reports filed under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules and instructions, and (ii) information is accumulated and communicated
to the Company’s management, including its Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely
decisions regarding required disclosures.
The Company’s management, including its Chief Executive Officer and Chief Financial Officer, does not expect that the
Company’s disclosure controls and procedures or its internal controls will prevent all errors and all fraud. A control system, no matter
how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are
met. Further, the design of a control system must reflect the fact that there are resource constraints and the benefits of controls must be
considered relative to their costs. Because of the inherent limitations in all control systems, no evaluation of the controls can provide
absolute assurance that all control issues and instances of fraud, if any, within Sotherly Hotels Inc. have been detected.
Management’s Report on Internal Control over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting
(as defined in Rule 13a-15(f) and 15d-15(e) under the Exchange Act). The Company’s management assessed the effectiveness over
internal control over financial reporting as of December 31, 2017. In making this assessment, the Company’s management used the
criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) 2013 Internal Control-
Integrated Framework. The Company’s management has concluded that, as of December 31, 2017, the Company’s internal control
over financial reporting is effective based on these criteria.
Dixon Hughes Goodman LLP, a registered independent public accounting firm, has audited our consolidated financial
statements included in the Annual Report on Form 10-K and, as part of its audit, has issued its report on the effectiveness of our
internal control over financial reporting.
61
Changes in Internal Control over Financial Reporting
There was no change in Sotherly Hotels Inc.’s internal control over financial reporting identified in connection with the
evaluation required by paragraph (d) of Rules 13a-15 and 15d-15 under the Exchange Act during Sotherly Hotels Inc.’s last fiscal
quarter that materially affected, or is reasonably likely to materially affect, Sotherly Hotels Inc.’s internal control over financial
reporting.
Sotherly Hotels LP
Disclosure Controls and Procedures
The Operating Partnership’s management, under the supervision and participation of the Chief Executive Officer and Chief
Financial Officer of Sotherly Hotels Inc., as general partner, has evaluated the effectiveness of the disclosure controls and procedures
(as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act, as required by paragraph (b) of Rules 13a-15 and 15d-15 under
the Exchange Act), as of December 31, 2017. Based on that evaluation, the Company’s Chief Executive Officer and Chief Financial
Officer have concluded that, as of December 31, 2017, the disclosure controls and procedures were effective and designed to ensure
that (i) information required to be disclosed in the reports filed under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules and instructions, and (ii) information is accumulated and communicated
to management, including the Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding
required disclosures.
The Operating Partnership’s management, including the Chief Executive Officer and Chief Financial Officer of Sotherly Hotels
Inc., as general partner, does not expect that the disclosure controls and procedures or the internal controls will prevent all errors and
all fraud. A control system, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the
objectives of the control system are met. Further, the design of a control system must reflect the fact that there are resource constraints
and the benefits of controls must be considered relative to their costs. Because of the inherent limitations in all control systems, no
evaluation of the controls can provide absolute assurance that all control issues and instances of fraud, if any, within Sotherly Hotels
LP have been detected.
Management’s Report on Internal Control over Financial Reporting
The Operating Partnership’s management is responsible for establishing and maintaining adequate internal control over financial
reporting (as defined in Rule 13a-15(f) and 15d-15(e) under the Exchange Act). Management assessed the effectiveness over internal
control over financial reporting as of December 31, 2017. In making this assessment, management used the criteria set forth by the
Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in 2013 Internal Control-Integrated Framework.
Management has concluded that, as of December 31, 2017, the Operating Partnership’s internal control over financial reporting is
effective based on these criteria.
This annual report does not include an attestation report of the Operating Partnership’s registered public accounting firm
regarding internal control over financial reporting. Management’s report was not subject to attestation by the Operating Partnership’s
independent registered public accounting firm pursuant to the exemption provided to issuers that are not “large accelerated filers” or
“accelerated filers” under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.
Changes in Internal Control over Financial Reporting
There was no change in Sotherly Hotels LP’s internal control over financial reporting identified in connection with the
evaluation required by paragraph (d) of Rules 13a-15 and 15d-15 under the Exchange Act during Sotherly Hotels LP’s last fiscal
quarter that materially affected, or is reasonably likely to materially affect, Sotherly Hotels LP’s internal control over financial
reporting.
Item 9B. Other Information
None.
62
PART III
The information required by Items 10-14 is incorporated by reference to the Company’s proxy statement for the 2018 annual
meeting of stockholders (to be filed with the Securities and Exchange Commission not later than 120 days after the end of the fiscal
year covered by this report).
Item 10. Directors, Executive Officers and Corporate Governance
The Company has adopted a code of business conduct and ethics, including a conflicts of interest policy that applies to its
principal executive officer, principal financial officer, principal accounting officer or controller performing similar functions. We
intend to maintain the highest standards of ethical business practices and compliance with all laws and regulations applicable to our
business. A copy of the Company’s Code of Business Conduct is posted on the Company’s external website at
www.sotherlyhotels.com. The Company and the Operating Partnership intend to post to its website any amendments to or waivers of
its code. The Operating Partnership is managed by the Company, its sole general partner and parent company. Consequently, the
Operating Partnership does not have its own separate directors or executive officers.
Information on the Company’s directors is incorporated by reference to the sections captioned “Proposal I – Election of
Directors” and “Section 16(a) Beneficial Ownership Reporting Compliance” contained in the Company’s 2018 Proxy Statement.
Item 11. Executive Compensation
The information required by this item is incorporated by reference to the section captioned “Director and Executive
Compensation” contained in the Company’s 2018 Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
(a) SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
Information required by this item is incorporated herein by reference to the section captioned “Principal Holders” of the
Company’s 2018 Proxy Statement.
(b) SECURITY OWNERSHIP OF MANAGEMENT
Information required by this item is incorporated herein by reference to the section captioned “Principal Holders” of the
Company’s 2018 Proxy Statement.
(c) CHANGES IN CONTROL
Management of the Company knows of no arrangements, including any pledge by any person of securities of the Company, the
operation of which may at a subsequent date result in a change in control of the Company.
(d) SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
Set forth below is information as of December 31, 2017 with respect to compensation plans under which equity securities of the
Company are authorized for issuance.
63
EQUITY COMPENSATION PLAN INFORMATION
NUMBER OF SECURITIES
TO BE ISSUED UPON
EXERCISE OF
OUTSTANDING OPTIONS,
WARRANTS AND RIGHTS
WEIGHTED-AVERAGE
EXERCISE PRICE OF
OUTSTANDING OPTIONS,
WARRANTS
AND RIGHTS
NUMBER OF SECURITIES
REMAINING AVAILABLE
FOR FUTURE ISSUANCE
Equity compensation plans approved by
security holders:
2013 Plan (1)
Equity compensation plans not approved by
security holders:
None
Total
N/A
N/A
N/A
N/A
N/A
N/A
628,900
N/A
628,900
(1) On February 15, 2017, we granted 12,000 shares (3,000 each) of restricted stock to certain of our independent directors that
were fully vested on December 31, 2017.
On January 1, 2018, we granted 25,000 shares of restricted stock to our CFO that will vest equally over the next five years.
These shares are included in the number of securities remaining available for future issuance at December 31, 2017.
On February 5, 2018, we granted 15,000 shares (3,000 each) of restricted stock to our independent directors that will vest on
December 31, 2018. Also on February 5, 2018, we granted an additional 2,250 shares of unrestricted stock to director G. Scott
Gibson IV in consideration for his service during 2017. These shares are included in the number of securities remaining
available for future issuance at December 31, 2017.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this item is incorporated by reference to the sections captioned “Certain Relationships and Related
Transactions” and “Proposal I – Election of Directors” in the Company’s 2018 Proxy Statement.
Item 14. Principal Accountant Fees and Services
The information required by this item is incorporated by reference to the section captioned “Proposal II –Ratification of
Appointment of Accountants” in the Company’s 2018 Proxy Statement.
64
Item 15. Exhibits and Financial Statement Schedules
PART IV
1. Financial Statements ..............................................................................................................................................................
Index to Financial Statements and Financial Statement Schedules.........................................................................................
Sotherly Hotels Inc. .......................................................................................................................................................................
Report of Independent Registered Public Accounting Firm, Dixon Hughes Goodman LLP..............................................
Report of Independent Registered Public Accounting Firm, Grant Thornton LLP ............................................................
Consolidated Balance Sheets for Sotherly Hotels Inc. as of December 31, 2017 and 2016 ...............................................
F-1
F-2
F-4
F-5
Consolidated Statements of Operations for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016 and
2015...................................................................................................................................................................................
F-6
Consolidated Statements of Changes in Equity for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016
and 2015............................................................................................................................................................................
F-7
Consolidated Statements of Cash Flows for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016 and
2015...................................................................................................................................................................................
Sotherly Hotels LP.........................................................................................................................................................................
Report of Independent Registered Public Accounting Firm, Dixon Hughes Goodman LLP..............................................
F-9
Report of Independent Registered Public Accounting Firm, Grant Thornton LLP............................................................. F-10
Consolidated Balance Sheets for Sotherly Hotels LP as of December 31, 2017 and 2016................................................. F-11
F-8
Consolidated Statements of Operations for Sotherly Hotels LP for the years ended December 31, 2017, 2016 and
2015................................................................................................................................................................................... F-12
Consolidated Statements of Changes in Partners’ Capital for Sotherly Hotels LP for the years ended December 31,
2017, 2016 and 2015......................................................................................................................................................... F-13
Consolidated Statements of Cash Flows for Sotherly Hotels LP for the years ended December 31, 2017, 2016 and
2015................................................................................................................................................................................... F-14
Notes to Consolidated Financial Statements ................................................................................................................................. F-15
2. Financial Statement Schedules...............................................................................................................................................
Schedule III – Real Estate and Accumulated Depreciation as of December 31, 2017 ........................................................ F-37
All other schedules for which provision is made in Regulation S-X are either not required to be included herein under the related
instructions or are inapplicable or the related information is included in the footnotes to the applicable financial statement and,
therefore, have been omitted.
The following exhibits are filed as part of this Form 10-K:
Exhibits
3.1
3.1A
3.1B
3.2
3.2A
Articles of Amendment and Restatement of the Company (incorporated by reference to the document previously filed as
Exhibit 3.1 to the Company’s Pre-Effective Amendment No. 1 to its Registration Statement on Form S-11 filed with the
Securities and Exchange Commission on October 20, 2004 (File No. 333-118873)).
Articles of Amendment to the Articles of Amendment and Restatement of the Company, effective as of April 16, 2013
(incorporated by reference to the document previously filed as Exhibit 3.7 to the Company’s Current Report on Form 8-
K filed with the Securities and Exchange Commission on April 16, 2013).
Articles of Amendment to the Articles of Amendment and Restatement of the Company, effective as of August 12, 2016
(incorporated by reference to the document previously filed as Exhibit 3.1 to our Current Report on Form 8-K filed with
the Securities and Exchange Commission on August 15, 2016).
Amended and Restated Agreement of Limited Partnership of Sotherly Hotels LP (incorporated by reference to the
document previously filed as Exhibit 3.3 to the Company’s Pre-Effective Amendment No. 5 to its Registration Statement
on Form S-11 filed with the Securities and Exchange Commission on December 13, 2004 (File No. 333-118873)).
Amendment No. 1 to the Amended and Restated Agreement of Limited Partnership of Sotherly Hotels LP (incorporated
by reference to the document previously filed as Exhibit 3.6 to the Company’s Current Report on Form 8-K filed with
the Securities and Exchange Commission on April 18, 2011).
65
Exhibits
3.2B
3.2C
3.2D
3.3
3.4
3.5
3.6
4.0
4.1
4.2
4.3
4.4
4.5
4.6
4.7
4.8
Amendment No. 2 to the Amended and Restated Agreement of Limited Partnership of Sotherly Hotels LP (incorporated
by reference to the document previously filed as Exhibit 3.3 to the Operating Partnership’s Pre-Effective Amendment
No. 1 to its Registration Statement on Form S-11 filed with the Securities and Exchange Commission on August 9, 2013
(File No. 333-189821)).
Amendment No. 3 to the Amended and Restated Agreement of Limited Partnership of Sotherly Hotels LP (incorporated
by reference to the document previously filed as Exhibit 3.1 to our Current Report on Form 8-K filed with the Securities
and Exchange Commission on August 23, 2016).
Amendment No. 4 to the Amended and Restated Agreement of Limited Partnership of Sotherly Hotels LP (incorporated
by reference to the document previously filed as Exhibit 3.1 to our Current Report on Form 8-K filed with the Securities
and Exchange Commission on October 11, 2017).
Articles Supplementary of Sotherly Hotels Inc. (incorporated by reference to the document previously filed as Exhibit
3.4 to the Company’s Current Report on Form 8-K filed with the Securities and Exchange Commission on April 18,
2011).
Second Amended and Restated Bylaws of the Company, effective as of April 16, 2013 (incorporated by reference to the
document previously filed as Exhibit 3.8 to the Company’s Current Report on Form 8-K filed with the Securities and
Exchange Commission on April 16, 2013).
Articles Supplementary designating the Series B Preferred Stock of the Company, effective as of August 19, 2016
(incorporated by reference to the document previously filed as Exhibit 3.5 to the Company’s Registration Statement on
Form 8-A filed with the Securities and Exchange Commission on August 22, 2016).
Articles Supplementary designating the Series C Preferred Stock of the Company, effective as of October 5, 2017
(incorporated by reference to the document previously filed as Exhibit 3.5 to the Company’s Registration Statement on
Form 8-A filed with the Securities and Exchange Commission on October 10, 2017).
Form of Common Stock Certificate (incorporated by reference to the document previously filed as Exhibit 4.0 to our
Annual Report on Form 10-K for the fiscal year ended December 31, 2017, filed with the Securities and Exchange
Commission on March 22, 2017).
Senior Unsecured Note issued by Sotherly Hotels LP (incorporated by reference to the document previously filed as
Exhibit 4.6 to our Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2013, filed with the
Securities and Exchange Commission on November 7, 2013).
Indenture by and among Sotherly Hotels LP and Wilmington Trust, National Association, as trustee (incorporated by
reference to the document previously filed as Exhibit 4.7 to our Quarterly Report on Form 10-Q for the quarterly period
ended September 30, 2013, filed with the Securities and Exchange Commission on November 7, 2013).
Indenture by and among Sotherly Hotels Inc., Sotherly Hotels LP and Wilmington Trust, National Association, as
trustee, dated November 21, 2014 (incorporated by reference to the document previously filed as Exhibit 4.8 to our
Current Report on Form 8-K filed with the Securities and Exchange Commission on November 21, 2014).
First Supplemental Indenture, by and among Sotherly Hotels Inc., Sotherly Hotels LP and Wilmington Trust, National
Association, as trustee, dated November 21, 2014 (incorporated by reference to the document previously filed as Exhibit
4.9 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on November 21, 2014).
7.00% Senior Unsecured Note due 2019, issued by Sotherly Hotels LP (incorporated by reference to the document
previously filed as Exhibit 4.10 to our Annual Report on Form 10-K for the fiscal year ended December 31, 2014, filed
with the Securities and Exchange Commission on April 14, 2015).
Form of Specimen Certificate of Series B Preferred Stock of the Company (incorporated by reference to the document
previously filed as Exhibit 4.1 to the Company’s Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on August 22, 2016).
Form of Specimen Certificate of Series C Preferred Stock of the Company (incorporated by reference to the document
previously filed as Exhibit 4.1 to the Company’s Registration Statement on Form 8-A filed with the Securities and
Exchange Commission on October 10, 2017).
Indenture by and among Sotherly Hotels Inc., Sotherly Hotels LP and Wilmington Trust, National Association, as
trustee, dated February 12, 2018 (incorporated by reference to the document previously filed as Exhibit 4.1 to our
Current Report on Form 8-K filed with the Securities and Exchange Commission on February 12, 2018).
66
Exhibits
4.9
10.1
10.2
10.3
10.4
10.5
10.6
10.7
10.8
10.9
10.10
10.11
10.12
10.13
First Supplemental Indenture by and among Sotherly Hotels Inc., Sotherly Hotels LP and Wilmington Trust, National
Association, as trustee, dated February 12, 2018 (incorporated by reference to the document previously filed as Exhibit
4.2 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on February 12, 2018).
Form of Restricted Stock Award Agreement between Sotherly Hotels Inc. and Participant (incorporated by reference to
the document previously filed as Exhibit 10.1A to the Company’s Annual Report on Form 10-K for the fiscal year ended
December 31, 2008, filed with the Securities and Exchange Commission on March 25, 2009). *
Executive Employment Agreement between Sotherly Hotels Inc. and Andrew M. Sims, dated January 12, 2015
(incorporated by reference to the document previously filed as Exhibit 10.2A to our Current Report on Form 8-K filed
with the Securities and Exchange Commission on January 13, 2015). *
Executive Employment Agreement between Sotherly Hotels Inc. and Anthony E. Domalski, dated as of January 1, 2018
(incorporated by reference to the document previously filed as Exhibit 10.3 to the Company’s Current Report on Form 8-
K filed with the Securities and Exchange Commission on January 5, 2018). *
Contribution Agreement dated August 23, 2004 by and between the owners of Capitol Hotel Associates L.P., L.L.P. and
Sotherly Hotels LP (incorporated by reference to the document previously filed as Exhibit 10.6 to the Company’s Pre-
Effective Amendment No. 6 to its Registration Statement on Form S-11 filed with the Securities and Exchange
Commission on December 15, 2004 (File No. 333-118873)).
Contribution Agreement dated August 23, 2004 by and between the owners of Savannah Hotel Associates LLC and
Sotherly Hotels LP (incorporated by reference to the document previously filed as Exhibit 10.7 to the Company’s Pre-
Effective Amendment No. 6 to its Registration Statement on Form S-11 filed with the Securities and Exchange
Commission on December 15, 2004 (File No. 333-118873)).
Contribution Agreement dated August 23, 2004 by and between KDCA Partnership, MAVAS LLC, and Sotherly Hotels
LP (incorporated by reference to the document previously filed as Exhibit 10.8 to the Company’s Pre-Effective
Amendment No. 5 to its Registration Statement on Form S-11 filed with the Securities and Exchange Commission on
December 13, 2004 (File No. 333-118873)).
Contribution Agreement dated September 8, 2004 by and between Elpizo Limited Partnership, Phileo Land Corporation
and Sotherly Hotels LP (incorporated by reference to the document previously filed as Exhibit 10.9 to the Company’s
Pre-Effective Amendment No. 5 to its Registration Statement on Form S-11 filed with the Securities and Exchange
Commission on December 13, 2004 (File No. 333-118873)).
Asset Purchase Agreement dated August 19, 2004 by and between Accord LLC, West Laurel Corporation and MHI
Hotels Services, LLC (incorporated by reference to the document previously filed as Exhibit 10.10 to the Company’s
Pre-Effective Amendment No. 5 to its Registration Statement on Form S-11 filed with the Securities and Exchange
Commission on December 13, 2004 (File No. 333-118873)).
Management Restructuring Agreement by and between MHI Hospitality TRS, LLC, MHI Hotels Services, LLC and
Sotherly Hotels LP (incorporated by reference to the document previously filed as Exhibit 10.14 to the Company’s Pre-
Effective Amendment No. 3 to its Registration Statement on Form S-11 filed with the Securities and Exchange
Commission on November 15, 2004 (File No. 333-118873)).
Contribution Agreement by and between MHI Hotels Services, LLC, MHI Hotels, LLC and MHI Hotels Two, Inc.
(incorporated by reference to the document previously filed as Exhibit 10.15 to the Company’s Quarterly Report on
Form 10-Q for the quarterly period ended September 30, 2011, filed with the Securities and Exchange Commission on
November 9, 2011).
Executive Employment Agreement, dated as of January 1, 2016, between Sotherly Hotels Inc. and David R. Folsom
(incorporated by reference to the document previously filed as Exhibit 10.20A to our Current Report on Form 8-K filed
with the Securities and Exchange Commission on January 4, 2016). *
Sotherly Hotels Inc. 2013 Long-Term Incentive Plan (incorporated by reference to Appendix A to the Company’s
Definitive Proxy Statement on Schedule 14A filed with the Securities and Exchange Commission on March 20, 2013). *
Master Agreement by and among Sotherly Hotels Inc., Sotherly Hotels LP, MHI Hospitality TRS, LLC and MHI Hotels
Services LLC (incorporated by reference to the document previously filed as Exhibit 10.52 to our Current Report on
Form 8-K filed with the Securities and Exchange Commission on December 19, 2014).
67
Exhibits
10.14
10.15
10.16
10.17
10.18
10.19
10.20
10.21
10.22
10.23
12.1
12.2
21.1
21.2
23.1
23.2
23.3
23.4
31.1
Agreement for Sale and Purchase of Property by and between Hampton Hotel Associates LLC, Three Capital Hotels,
Inc., and Ajitkumar B. Patel, dated as of April 29, 2016 (incorporated by reference to the document previously filed as
Exhibit 10.54 to our Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2016, filed with the
Securities and Exchange Commission on August 12, 2016).
Amendment to the Agreement for Sale and Purchase of Property by and between Hampton Hotel Associates LLC, Three
Capital Hotels, Inc., and Ajitkumar B. Patel, dated as of June 10, 2016 (incorporated by reference to the document
previously filed as Exhibit 10.55 to our Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2016,
filed with the Securities and Exchange Commission on August 12, 2016).
Commercial Unit Purchase Agreement between Sotherly Hotels Inc. and 4111 South Ocean Drive, LLC, dated as of
September 14, 2016 (incorporated by reference to the document previously filed as Exhibit 10.56 to our Current Report
on Form 8-K filed with the Securities and Exchange Commission on September 20, 2016).
Addendum to Commercial Unit Agreement between Sotherly Hotels Inc. and 4111 South Ocean Drive, LLC, dated as of
September 14, 2016 (incorporated by reference to the document previously filed as Exhibit 10.57 to our Current Report
on Form 8-K filed with the Securities and Exchange Commission on September 20, 2016).
Agreement for Sale and Purchase of Property by and between Hampton Hotel Associates LLC, Marina Hotel, LLC, Neil
Amin and Shamin Hotels, Inc., dated as of October 6, 2016 (incorporated by reference to the document previously filed
as Exhibit 10.58 to our Current Report on Form 8-K filed with the Securities and Exchange Commission on February 9,
2017).
Amendment to Agreement for Sale and Purchase of Property by and between Hampton Hotel Associates LLC, Marina
Hotel, LLC, Neil Amin and Shamin Hotels, Inc., dated as of February 7, 2017 (incorporated by reference to the
document previously filed as Exhibit 10.59 to our Current Report on Form 8-K filed with the Securities and Exchange
Commission on February 9, 2017).
Commercial Unit Purchase Agreement between Sotherly Hotels Inc. and 4000 South Ocean Property Owner, LLLP,
dated as of June 1, 2017 (incorporated by reference to the document previously filed as Exhibit 10.29 to our Quarterly
Report on Form 10-Q for the quarterly period ended June 30, 2017, filed with the Securities and Exchange Commission
on August 10, 2017).
Addendum to Commercial Unit Purchase Agreement between Sotherly Hotels Inc. and 4000 South Ocean Property
Owner, LLLP, dated as of June 1, 2017 (incorporated by reference to the document previously filed as Exhibit 10.30 to
our Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2017, filed with the Securities and Exchange
Commission on August 10, 2017).
Hotel Purchase and Sale Agreement by and between RP/HH Rosslyn Hotel Owner, LP and Sotherly Hotels LP, dated as
of December 13, 2017 (incorporated by reference to the document previously filed as Exhibit 10.31 to our Current
Report on Form 8-K filed with the Securities and Exchange Commission on March 5, 2018).
First Amendment to Hotel Purchase and Sale Agreement by and between RP/HH Rosslyn Hotel Owner, LP and Sotherly
Hotels LP, dated as of January 11, 2018 (incorporated by reference to the document previously filed as Exhibit 10.32 to
our Current Report on Form 8-K filed with the Securities and Exchange Commission on March 5, 2018).
Statement of Computation of Ratios of Earnings to Fixed Charges and Earnings to Combined Fixed Charges and
Preferred Stock Dividends of Sotherly Hotels Inc.
Statement of Computation of Ratios of Earnings to Fixed Charges and Earnings to Combined Fixed Charges and
Preferred Unit Distributions of Sotherly Hotels LP.
List of Subsidiaries of Sotherly Hotels Inc.
List of Subsidiaries of Sotherly Hotels LP.
Consent of Dixon Hughes Goodman LLP.
Consent of Grant Thornton LLP.
Consent of Dixon Hughes Goodman LLP.
Consent of Grant Thornton LLP.
Certification of Chief Executive Officer pursuant to Exchange Act Rule 13(a)-14 and 15(d)-14, as adopted pursuant to
68
Exhibits
31.2
31.3
31.4
32.1
32.2
32.3
32.4
Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to Exchange Act Rule 13(a)-14 and 15(d)-14, as adopted, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Executive Officer pursuant to Exchange Act Rule 13(a)-14 and 15(d)-14, as adopted pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to Exchange Act Rule 13(a)-14 and 15(d)-14, as adopted, pursuant to
Section 302 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350 of the Sarbanes-Oxley Act of 2002.
Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350 of the Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase Document
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
*
Denotes management contract and/or compensatory plan/arrangement.
69
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: March 16, 2018
SOTHERLY HOTELS INC.
By:
/s/ ANDREW M. SIMS
Andrew M. Sims
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/s/ ANDREW M. SIMS
Andrew M. Sims
/s/ DAVID R. FOLSOM
David R. Folsom
/s/ ANTHONY E. DOMALSKI
Anthony E. Domalski
/s/ HERSCHEL J. WALKER
Herschel J. Walker
/s/ DAVID J. BEATTY
David J. Beatty
/s/ EDWARD S. STEIN
Edward S. Stein
/s/ ANTHONY C. ZINNI
Anthony C. Zinni
/s/ G. SCOTT GIBSON IV
G. Scott Gibson IV
Chief Executive Officer and Chairman of the Board
of Directors
March 16, 2018
President, Chief Operating Officer and Director
March 16, 2018
Chief Financial Officer
March 16, 2018
March 16, 2018
March 16, 2018
March 16, 2018
March 16, 2018
March 16, 2018
Director
Director
Director
Director
Director
70
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this
report to be signed on its behalf by the undersigned, thereunto duly authorized.
Date: March 16, 2018
SOTHERLY HOTELS LP,
by its General Partner,
SOTHERLY HOTELS INC.
By:
/s/ ANDREW M. SIMS
Andrew M. Sims
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons
on behalf of the registrant and in the capacities and on the dates indicated.
Signature
Title
Date
/s/ ANDREW M. SIMS
Andrew M. Sims
/s/ DAVID R. FOLSOM
David R. Folsom
/s/ ANTHONY E. DOMALSKI
Anthony E. Domalski
/s/ HERSCHEL J. WALKER
Herschel J. Walker
/s/ DAVID J. BEATTY
David J. Beatty
/s/ EDWARD S. STEIN
Edward S. Stein
/s/ ANTHONY C. ZINNI
Anthony C. Zinni
/s/ G. SCOTT GIBSON IV
G. Scott Gibson IV
Chief Executive Officer and Chairman of the Board
of Directors of the General Partner
March 16, 2018
President, Chief Operating Officer and Director of
the General Partner
March 16, 2018
Chief Financial Officer of the General Partner
March 16, 2018
Director of the General Partner
March 16, 2018
Director of the General Partner
March 16, 2018
Director of the General Partner
March 16, 2018
Director of the General Partner
March 16, 2018
Director of the General Partner
March 16, 2018
71
[THIS PAGE INTENTIONALLY LEFT BLANK]
INDEX TO FINANCIAL STATEMENTS AND FINANCIAL STATEMENT SCHEDULES
Sotherly Hotels Inc.
Report of Independent Registered Public Accounting Firm, Dixon Hughes Goodman LLP ...............................................
Report of Independent Registered Public Accounting Firm, Grant Thornton LLP .............................................................
Consolidated Balance Sheets for Sotherly Hotels Inc. as of December 31, 2017 and 2016 .................................................
Consolidated Statements of Operations for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016 and 2015
Consolidated Statements of Changes in Equity for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016
F-2
F-4
F-5
F-6
and 2015 .............................................................................................................................................................................
F-7
Consolidated Statements of Cash Flows for Sotherly Hotels Inc. for the years ended December 31, 2017, 2016 and
2015 ....................................................................................................................................................................................
Sotherly Hotels LP.........................................................................................................................................................................
Report of Independent Registered Public Accounting Firm, Dixon Hughes Goodman LLP ...............................................
F-9
Report of Independent Registered Public Accounting Firm, Grant Thornton LLP .............................................................. F-10
Consolidated Balance Sheets for Sotherly Hotels LP as of December 31, 2017 and 2016 .................................................. F-11
Consolidated Statements of Operations for Sotherly Hotels LP for the years ended December 31, 2017, 2016 and 2015 . F-12
Consolidated Statements of Changes in Partners’ Capital for Sotherly Hotels LP for the years ended December 31,
F-8
2017, 2016 and 2015 .......................................................................................................................................................... F-13
Consolidated Statements of Cash Flows for Sotherly Hotels LP for the years ended December 31, 2017, 2016 and 2015 F-14
Notes to Consolidated Financial Statements ................................................................................................................................. F-15
Schedule III – Real Estate and Accumulated Depreciation as of December 31, 2017 ................................................................. F-37
F - 1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders of
Sotherly Hotels Inc.
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Sotherly Hotels Inc. and subsidiaries (the "Company") as of
December 31, 2017 and 2016, the related consolidated statements of operations, changes in equity, and cash flows for each of the two
years in the period ended December 31, 2017, and the related notes, including the financial statement schedule listed in the index
appearing under Item 15 (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial
statements present fairly, in all material respects, the financial position of the Company as of December 31, 2017 and 2016, and the
results of their operations and their cash flows for each of the two years in the period ended December 31, 2017, in conformity with
U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
("PCAOB"), the Company's internal control over financial reporting as of December 31, 2017, based on the criteria established in
Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission
and our report dated March 16, 2018, expressed an unqualified opinion thereon.
Basis for Opinion
These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an
opinion on the Company's consolidated financial statements based on our audits. We are a public accounting firm registered with the
PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the
applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits
to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to
error or fraud.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements,
whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test
basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the
accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the
financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Dixon Hughes Goodman LLP
We have served as the Company's auditor since 2016.
Norfolk, Virginia
March 16, 2018
F - 2
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders of
Sotherly Hotels Inc.
Opinion on Internal Control Over Financial Reporting
We have audited Sotherly Hotels Inc. and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31,
2017, based on criteria established in Internal Control—Integrated Framework (2013) issued by the Committee of Sponsoring
Organizations of the Treadway Commission. In our opinion, the Company maintained, in all material respects, effective internal
control over financial reporting as of December 31, 2017, based on criteria established in Internal Control—Integrated Framework
(2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States)
(“PCAOB”), the consolidated financial statements of the Company as of December 31, 2017 and 2016 and for each of the two years in
the period ended December 31, 2017, and our report dated March 16, 2018, expressed an unqualified opinion on those consolidated
financial statements.
Basis for Opinion
The Company's management is responsible for maintaining effective internal control over financial reporting and for its assessment of
the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal
Control over Financial Reporting. Our responsibility is to express an opinion on the Company's internal control over financial
reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with
respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities
and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting,
assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control
based on the assessed risk and performing such other procedures as we considered necessary in the circumstances. We believe that our
audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company's internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of
financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting
principles. A company's internal control over financial reporting includes those policies and procedures that (1) pertain to the
maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in
accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in
accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding
prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect
on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections
of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in
conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Dixon Hughes Goodman LLP
Norfolk, Virginia
March 16, 2018
F - 3
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Shareholders
Sotherly Hotels Inc.
We have audited the accompanying consolidated balance sheet of Sotherly Hotels Inc. and subsidiaries (the “Company”) as of
December 31, 2015 (not presented herein), and the related consolidated statements of operations, changes in equity, and cash flows for
the year then ended. Our audit of the basic consolidated financial statements included the related financial statement schedule listed in
the index appearing under Item 15 for the period we audited. These financial statements and financial statement schedule are the
responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial
statement schedule based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over
financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the
Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of
Sotherly Hotels Inc. and subsidiaries as of December 31, 2015, and the results of their operations and their cash flows for the year then
ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related
financial statement schedule, as referenced above, when considered in relation to the basic consolidated financial statements taken as a
whole, presents fairly, in all material respects, the information set forth therein.
/s/ Grant Thornton LLP
Arlington, Virginia
March 24, 2016
F - 4
SOTHERLY HOTELS INC.
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2017 AND 2016
ASSETS
Investment in hotel properties, net
Investment in hotel properties held for sale, net
Cash and cash equivalents
Restricted cash
Accounts receivable, net
Accounts receivable - affiliate
Prepaid expenses, inventory and other assets
Deferred income taxes
TOTAL ASSETS
LIABILITIES
Mortgage loans, net
Unsecured notes, net
Accounts payable and accrued liabilities
Advance deposits
Dividends and distributions payable
TOTAL LIABILITIES
Commitments and contingencies (See Note 6)
EQUITY
Sotherly Hotels Inc. stockholders’ equity
Preferred stock, $0.01 par value, 11,000,000 shares authorized;
8.0% Series B cumulative redeemable perpetual preferred stock,
liquidation preference $25 per share, 1,610,000 shares issued
and outstanding at December 31, 2017 and 2016, respectively
7.875% Series C cumulative redeemable perpetual preferred stock,
liquidation preference $25 per share, 1,300,000 and 0 shares issued
and outstanding at December 31, 2017 and 2016, respectively
Common stock, par value $0.01, 49,000,000 shares authorized, 14,078,831
shares and 14,468,551 shares issued and outstanding at December 31, 2017
and 2016, respectively
Additional paid-in capital
Unearned ESOP shares
Distributions in excess of retained earnings
Total Sotherly Hotels Inc. stockholders’ equity
Noncontrolling interest
TOTAL EQUITY
TOTAL LIABILITIES AND EQUITY
December 31, 2017
December 31, 2016
$
$
$
$
$
357,799,512
—
29,777,845
3,651,197
5,587,077
394,026
7,292,565
5,451,118
409,953,340
297,318,816
—
13,813,623
1,572,388
3,073,483
315,778,310
—
$
$
$
$
348,593,912
5,333,000
31,766,775
4,596,145
4,127,748
4,175
4,648,469
6,949,340
406,019,564
282,708,289
24,308,713
12,970,960
2,315,787
2,376,527
324,680,276
—
16,100
16,100
13,000
—
140,788
146,249,339
(4,633,112)
(48,765,860)
93,020,255
1,154,775
94,175,030
409,953,340
$
144,685
118,395,082
—
(39,545,754)
79,010,113
2,329,175
81,339,288
406,019,564
The accompanying notes are an integral part of these financial statements.
F - 5
SOTHERLY HOTELS INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2017, 2016 AND 2015
REVENUE
Rooms department
Food and beverage department
Other operating departments
Total revenue
EXPENSES
Hotel operating expenses
Rooms department
Food and beverage department
Other operating departments
Indirect
Total hotel operating expenses
Depreciation and amortization
Impairment of investment in hotel properties, net
Loss (gain) on disposal of assets
Corporate general and administrative
Total operating expenses
NET OPERATING INCOME
Other income (expense)
Interest expense
Interest income
Equity income in joint venture
Loss on early debt extinguishment
Unrealized loss on hedging activities
Gain on sale of assets
Gain on change in control
Gain on involuntary conversion of assets
Net income (loss) before income taxes
Income tax (provision) benefit
Net income
Less: Net loss (income) attributable to noncontrolling interest
Net income attributable to the Company
Distributions to preferred stockholders
Net income (loss) available to common stockholders
Net income (loss) per share available to common stockholders
Basic
Diluted
Weighted average number of common shares outstanding
Basic
Diluted
2017
2016
2015
$ 105,727,372
34,513,695
14,025,626
154,266,693
$ 108,199,151
35,384,530
9,262,071
152,845,752
$
96,837,386
33,273,599
8,422,491
138,533,476
26,673,727
24,585,923
4,405,515
57,612,203
113,277,368
16,999,619
—
1,489,892
6,335,926
138,102,805
16,163,888
(15,727,628)
218,656
—
(1,178,348)
(28,384)
76,233
—
2,242,876
1,767,293
(1,737,804)
29,489
413,014
442,503
(3,781,639)
(3,339,136)
(0.24)
(0.24)
$
$
$
28,300,126
24,357,248
2,438,860
57,736,937
112,833,171
15,019,071
—
365,319
6,021,065
134,238,626
18,607,126
(17,735,107)
115,785
—
(1,417,905)
(37,384)
—
—
—
(467,485)
1,367,634
900,149
26,567
926,716
(1,144,889)
(218,173)
(0.01)
(0.01)
25,025,337
23,005,629
1,786,197
52,067,947
101,885,110
13,591,495
500,000
(41,435)
7,268,256
123,203,426
15,330,050
(16,515,827)
50,461
475,514
(772,907)
(108,819)
—
6,603,148
—
5,061,620
1,336,033
6,397,653
(1,040,987)
5,356,666
—
5,356,666
0.43
0.43
$
$
$
$
$
$
13,829,100
13,829,100
14,896,994
14,896,994
12,541,117
12,541,117
The accompanying notes are an integral part of these financial statements.
F - 6
SOTHERLY HOTELS INC.
CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY
Additional
Paid-
In Capital
Unearned Distributions
ESOP
in Excess of
Retained Earnings
Shares
Noncontrolling
Interest
Total
Preferred Stock
Common Stock
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
98
—
—
—
—
Shares
Shares
264
986
9,750
3,500
71,760
19,920
98,682
26,350
16,100
193,936
681,222
588,162
350,000
Par Value
— $
—
— $
—
1,610,000
—
— $
—
— 3,435,000
— 37,750,431
—
— $
—
34,350 22,534,259
Par Value
— 10,570,932 $ 105,709 $ 58,659,799 $
—
—
—
—
— 14,490,714 $ 144,907 $ 82,749,058 $
—
—
Balances at December 31, 2014
Net income
Issuance of unrestricted
common
stock awards
Issuance of restricted common
stock awards
Issuance of common stock from
ATM sales
Issuance of common stock from
equity offering
Conversion of Operating
Partnership units into
shares of common stock
Amortization of restricted stock
award
Dividends and distributions
declared
Balances at December 31, 2015
Net income (loss)
Issuance of Series B Preferred
Stock
Issuance of unrestricted
common stock awards
Issuance of restricted
common stock awards
Repurchase of common stock
Conversion of Operating
Partnership units into
shares of common stock
Amortization of restricted
stock award
Preferred stock dividends
declared
Common stockholders'
dividends and
—
distributions declared
Balances at December 31, 2016 1,610,000 $ 16,100 14,468,551 $ 144,685 $118,395,082 $
Net income
—
Issuance of Series C Preferred
Stock
Issuance of restricted
common stock awards
Repurchase of common stock
Purchase of shares by ESOP
Amortization of ESOP shares
Amortization of restricted
stock award
Preferred stock dividends
declared
Common stockholders'
dividends and
—
distributions declared
$
Balances at December 31, 2017 2,910,000 $ 29,100 14,078,831 $ 140,788 $146,249,339 $(4,633,112)
—
—
— (4,874,758)
241,646
12,000
(401,720)
—
—
120
(4,017)
—
—
63,360
(3,159,725)
89,040
(2,727,024)
12,000
(481,100)
—
—
—
—
—
—
—
—
— 30,475,660
120
(4,811)
—
— $
—
1,300,000
—
—
—
—
422,687
—
—
843,998
128,040
13,000
24,250
19,920
19,920
(3,339)
4,227
242
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
—
(35,388,313) $
5,356,666
4,132,662 $ 27,509,857
6,397,653
1,040,987
—
—
—
—
—
194,200
—
71,858
—
682,208
— 22,568,609
—
(591,662)
—
—
—
19,920
(3,859,187)
(33,890,834) $
926,716
(726,750)
(4,585,937)
3,855,237 $ 52,858,368
900,149
(26,567)
—
—
—
—
— 37,766,531
—
128,282
—
—
63,480
(3,164,536)
—
(848,225)
—
—
—
19,920
(1,144,889)
—
(1,144,889)
(5,436,747)
(39,545,754) $
442,503
(651,270)
(6,088,017)
2,329,175 $ 81,339,288
29,489
(413,014)
—
—
—
—
—
—
— 30,488,660
—
—
—
—
89,160
(2,731,041)
(4,874,758)
238,307
—
19,920
(3,781,639)
—
(3,781,639)
(5,880,970)
(48,765,860) $
(6,642,356)
(761,386)
1,154,775 $ 94,175,030
The accompanying notes are an integral part of these financial statements.
F - 7
SOTHERLY HOTELS INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2017, 2016 AND 2015
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating activities:
2017
2016
2015
$
29,489
$
900,149
$
6,397,653
Depreciation and amortization
Gain on change in control
Equity income in joint venture
Impairment of investment in hotel properties
Amortization of deferred financing costs
Amortization of mortgage premium
Gain on involuntary conversion of assets
Unrealized loss on derivative instrument
Loss (gain) on disposal of assets
Gain on sale of assets
Loss on early extinguishment of debt
Share - based compensation
Changes in assets and liabilities:
Restricted cash
Accounts receivable
Prepaid expenses, inventory and other assets
Deferred income taxes
Accounts payable and other accrued liabilities
Advance deposits
Accounts receivable - affiliate
Net cash provided by operating activities
Cash flows from investing activities:
Acquisitions of hotel properties
Improvements and additions to hotel properties
Distributions from joint venture
Funding of restricted cash reserves
Proceeds of restricted cash reserves
Proceeds from the sale of hotel property
Proceeds from insurance conversion
Proceeds from the sale or disposal of assets
Net cash used in investing activities
Cash flows from financing activities:
Proceeds of mortgage debt
Proceeds from mortgage loan receivable
Proceed from sale of common stock, net
Proceeds from the sale of preferred stock, net
Payments on mortgage loans
Redemption of unsecured notes
Settlement or repurchase of common stock
Payments of deferred financing costs
Funding of ESOP stock purchase
Dividends and distributions paid
Preferred dividends paid
Net cash provided by financing activities
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents at the beginning of the period
Cash and cash equivalents at the end of the period
Supplemental disclosures:
Cash paid during the period for interest
Cash paid during the period for income taxes
Non-cash investing and financing activities:
Mortgage debt proceeds receivable and related loan costs
Assumption of mortgage loan on Crowne Plaza Hollywood Beach Resort acquisition
Assumption of loan amount premium on the Crowne Plaza Hollywood Beach Resort assumed
loan
Settlements for repurchase of common stock in accounts payable and accrued liabilities
Change in amount of deferred financing and deferred offering costs in accounts payable and
accrued liabilities
Change in amount of improvements to hotel property in accounts payable and accrued liabilities
$
$
$
$
$
$
$
$
$
16,999,619
—
—
—
776,410
(24,681 )
(2,242,876 )
28,384
1,489,892
(76,233 )
1,178,348
347,387
(85,529 )
(1,492,119 )
(2,780,246 )
1,498,222
1,244,731
(743,399 )
(389,851 )
15,757,548
(3,986,849 )
(23,155,738 )
—
(4,697,136 )
5,727,613
5,434,856
2,275,666
105,401
(18,296,187 )
40,500,000
—
—
30,488,660
(25,990,271 )
(25,300,000 )
(3,708,891 )
(837,991 )
(4,874,758 )
(5,945,401 )
(3,781,639 )
549,709
(1,988,930 )
31,766,775
29,777,845
15,253,059
162,677
—
—
—
125,279
—
151,499
$
$
$
$
$
$
$
$
$
15,019,071
—
—
—
1,147,864
(24,682 )
—
37,384
365,319
—
1,417,905
211,682
(560,817 )
(56,573 )
(334,063 )
(1,558,966 )
(35,188 )
663,947
222,377
17,415,409
—
(14,912,677 )
—
(5,276,518 )
7,035,029
—
—
213,400
(12,940,766 )
102,700,000
2,600,711
—
37,766,531
(89,619,564 )
(27,600,000 )
(2,061,407 )
(1,796,351 )
—
(5,851,813 )
(339,889 )
15,798,218
20,272,861
11,493,914
31,766,775
16,881,223
192,965
—
—
—
1,103,129
—
431,858
$
$
$
$
$
$
$
$
$
13,591,495
(6,603,148 )
(475,514 )
500,000
1,300,032
(18,820 )
—
108,819
(41,435 )
—
772,907
285,978
584,926
(2,021,825 )
(623,980 )
(1,780,571 )
(1,001,376 )
431,111
(28,878 )
11,377,374
(25,525,754 )
(20,136,427 )
600,000
(4,973,602 )
6,376,459
—
124,609
2,402,113
(41,132,602 )
127,000,000
—
23,250,818
—
(120,154,764 )
—
—
(1,377,882 )
—
(4,103,529 )
—
24,614,643
(5,140,585 )
16,634,499
11,493,914
15,415,695
570,762
2,704,415
57,000,000
246,815
—
624,117
601,895
The accompanying notes are an integral part of these financial statements.
F - 8
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors of the General Partner
Sotherly Hotels LP
Opinion on the Consolidated Financial Statements
We have audited the accompanying consolidated balance sheets of Sotherly Hotels LP and subsidiaries (the "Partnership") as of
December 31, 2017 and 2016, the related consolidated statements of operations, changes in partners’ capital, and cash flows for each
of the years in the two-year period ended December 31, 2017, and the related notes, including the financial statement schedule listed
in the index appearing under Item 15 (collectively referred to as the “consolidated financial statements”). In our opinion, the
consolidated financial statements present fairly, in all material respects, the financial position of the Partnership as of December 31,
2017 and 2016, and the results of their operations and their cash flows for each of the two years in the period ended December 31,
2017, in conformity with U.S. generally accepted accounting principles.
Basis for Opinion
These consolidated financial statements are the responsibility of the Partnership’s management. Our responsibility is to express an
opinion on the Partnership’s consolidated financial statements based on our audits. We are a public accounting firm registered with the
Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the
Partnership in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange
Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits
to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to
error or fraud. The Partnership is not required to have, nor were we engaged to perform, an audit of its internal control over financial
reporting. As part of our audits we are required to obtain an understanding of internal control over financial reporting but not for the
purpose of expressing an opinion on the effectiveness of the Partnership’s internal control over financial reporting. Accordingly, we
express no such opinion.
Our audits included performing procedures to assess the risks of material misstatement of the consolidated financial statements,
whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test
basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the
accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the
financial statements. We believe that our audits provide a reasonable basis for our opinion.
/s/ Dixon Hughes Goodman LLP
We have served as the Partnership’s auditor since 2016.
Norfolk, Virginia
March 16, 2018
F - 9
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors of the General Partner of
Sotherly Hotels LP
We have audited the accompanying consolidated balance sheet of Sotherly Hotels LP and subsidiaries (the “Partnership”) as of
December 31, 2015 (not presented herein), and the related consolidated statements of operations, changes in equity, and cash flows for
the year then ended. Our audit of the basic consolidated financial statements included the related financial statement schedule listed in
the index appearing under Item 15 for the periods we audited. These financial statements and financial statement schedule are the
responsibility of the Partnership’s management. Our responsibility is to express an opinion on these financial statements and financial
statement schedule based on our audit.
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial
statements are free of material misstatement. We were not engaged to perform an audit of the Partnership’s internal control over
financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the
Partnership’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on
a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our
audit provides a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of
Sotherly Hotels LP and subsidiaries as of December 31, 2015, and the results of their operations and their cash flows for the year then
ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related
financial statement schedule, as referenced above, when considered in relation to the basic consolidated financial statements taken as a
whole, present fairly, in all material respects, the information set forth therein.
/s/ Grant Thornton LLP
Arlington, Virginia
March 24, 2016
F - 10
SOTHERLY HOTELS LP
CONSOLIDATED BALANCE SHEETS
DECEMBER 31, 2017 AND 2016
ASSETS
Investment in hotel properties, net
Investment in hotel property held for sale, net
Cash and cash equivalents
Restricted cash
Accounts receivable, net
Accounts receivable - affiliate
Loan receivable - affiliate
Prepaid expenses, inventory and other assets
Deferred income taxes
TOTAL ASSETS
LIABILITIES
Mortgage loans, net
Unsecured notes, net
Accounts payable and other accrued liabilities
Advance deposits
Dividends and distributions payable
TOTAL LIABILITIES
December 31, 2017
December 31, 2016
$
$
$
$
357,799,512
—
29,777,845
3,651,197
5,587,077
394,026
4,650,969
7,292,565
5,451,118
414,604,309
297,318,816
—
13,813,623
1,572,388
3,119,027
315,823,854
$
$
$
$
348,593,912
5,333,000
31,766,775
4,596,145
4,127,748
4,175
—
4,648,469
6,949,340
406,019,564
282,708,289
24,308,713
12,970,960
2,315,787
2,376,527
324,680,276
Commitments and contingencies (see Note 6)
—
—
PARTNERS’ CAPITAL
Preferred units, $0.01 par value, 11,000,000 units authorized;
8% Series B cumulative redeemable perpetual preferred units, liquidation preference
$25 per unit, 1,610,000 units issued and outstanding at December 31, 2017 and
2016, respectively
7.875% Series C cumulative redeemable perpetual preferred units, liquidation
preference $25 per unit, 1,300,000 and 0 units issued and outstanding at December
31, 2017 and 2016, respectively
General Partner: 158,570 units and 162,467 units issued and outstanding as of
December 31, 2017 and 2016, respectively
Limited Partners: 15,698,401 units and 16,084,224 units issued and outstanding as
of December 31, 2017 and 2016, respectively
TOTAL PARTNERS’ CAPITAL
TOTAL LIABILITIES AND PARTNERS’ CAPITAL
37,766,531
37,766,531
30,488,660
—
586,725
681,389
29,938,539
98,780,455
414,604,309
$
42,891,368
81,339,288
406,019,564
$
The accompanying notes are an integral part of these financial statements.
F - 11
SOTHERLY HOTELS LP
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 2017, 2016 AND 2015
REVENUE
Rooms department
Food and beverage department
Other operating departments
Total revenue
EXPENSES
Hotel operating expenses
Rooms department
Food and beverage department
Other operating departments
Indirect
Total hotel operating expenses
Depreciation and amortization
Impairment of investment in hotel properties, net
Loss (gain) on disposal of assets
Corporate general and administrative
Total operating expenses
NET OPERATING INCOME
Other income (expense)
Interest expense
Interest income
Equity income in joint venture
Loss on early debt extinguishment
Unrealized loss on hedging activities
Gain on sale of assets
Gain on change in control
Gain on involuntary conversion of assets
2017
2016
2015
$ 105,727,372
34,513,695
14,025,626
154,266,693
$ 108,199,151
35,384,530
9,262,071
152,845,752
$
96,837,386
33,273,599
8,422,491
138,533,476
26,673,727
24,585,923
4,405,515
57,612,203
113,277,368
16,999,619
—
1,489,892
6,335,926
138,102,805
16,163,888
(15,727,628)
218,656
—
(1,178,348)
(28,384)
76,233
—
2,242,876
1,767,293
(1,737,804)
29,489
(3,781,639)
(3,752,150)
28,895,371
24,357,248
2,438,860
57,141,692
112,833,171
15,019,071
—
365,319
6,021,065
134,238,626
18,607,126
(17,735,107)
115,785
—
(1,417,905)
(37,384)
—
—
—
(467,485)
1,367,634
900,149
(1,144,889)
(244,740)
25,025,337
23,005,629
1,786,197
52,067,947
101,885,110
13,591,495
500,000
(41,435)
7,268,256
123,203,426
15,330,050
(16,515,827)
50,461
475,514
(772,907)
(108,819)
—
6,603,148
—
5,061,620
1,336,033
6,397,653
—
6,397,653
$
$
(0.23)
$
(0.01)
$
0.43
Net income (loss) before income taxes
Income tax (provision) benefit
Net income
Distributions to preferred unit holder
Net income (loss) available to operating partnership unit holders
Net income (loss) attributable per operating partner unit
Basic and diluted
$
$
Weighted average number of operating partner units outstanding
Basic and diluted
16,224,005
16,710,935
14,924,410
The accompanying notes are an integral part of these financial statements.
F - 12
SOTHERLY HOTELS LP
CONSOLIDATED STATEMENTS OF CHANGES IN PARTNERS’ CAPITAL
YEARS ENDED DECEMBER 31, 2017, 2016 AND 2015
Preferred Units
General Partner
Limited Partner
Units
Series B
Amounts
Series C
Amounts
Units
Amounts
Units
Amounts
Total
Balances at December 31, 2014
Issuance of partnership units
Amortization of restricted
units award
Distributions declared
Net income
Balances at December 31, 2015
— $
—
—
—
—
— $
—
— $
—
—
—
—
— $
—
— 131,218 $ 520,791 12,990,541 $26,989,066 $27,509,857
— 35,697 235,237 3,534,085 23,281,638 23,516,875
19,920
—
—
— (4,540,078) (4,585,937)
—
—
— 6,333,676 6,397,653
— 166,915 $ 774,295 16,524,626 $52,084,073 $52,858,368
149
(45,859)
63,977
—
—
—
19,771
—
363
1,918
35,887
189,844
191,762
1,610,000 37,766,531
—
—
—
—
— (4,811)
—
(31,645)
—
— 37,766,531
(476,289) (3,132,891) (3,164,536)
—
—
—
—
149
—
19,771
19,920
— (1,144,889)
—
—
—
—
— (1,144,889)
—
—
— 1,144,889
Balances at December 31, 2016 1,610,000 $37,766,531 $
— (6,027,136) (6,088,017)
—
—
900,149
—
— 162,467 $ 681,389 16,084,224 $42,891,368 $81,339,288
(60,881)
(2,447)
(242,293)
—
—
—
—
—
120
892
11,880
88,268
89,160
1,300,000
—
— 30,488,660
—
—
— (4,017)
—
(27,310)
—
— 30,488,660
(397,703) (2,703,731) (2,731,041)
—
—
—
—
—
—
—
—
199
—
— (3,220,000)
(561,639)
—
—
—
—
—
19,721
200,494
19,920
200,494
— (3,781,639)
— (6,805,136) (6,873,876)
—
29,489
— (3,752,445)
561,639
Balances at December 31, 2017 2,910,000 $37,766,531 $30,488,660 158,570 $ 586,725 15,698,401 $29,938,539 $98,780,455
—
—
— 3,220,000
(68,740)
295
—
—
Issuance of common
partnership units
Issuance of Preferred Series
B units
Repurchased common units
Amortization of restricted
units award
Preferred units distributions
declared
Partnership units
distributions declared
Net income
Issuance of common
partnership units
Issuance of Preferred Series
C units
Repurchased common units
Amortization of restricted
units award
Unit based compensation
Preferred units distributions
declared
Partnership units
distributions declared
Net income
The accompanying notes are an integral part of these financial statements.
F - 13
SOTHERLY HOTELS LP
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2017, 2016 AND 2015
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash provided by operating
activities:
2017
2016
2015
$
29,489
$
900,149
$
6,397,653
Depreciation and amortization
Gain on change in control
Equity income in joint venture
Impairment of investment in hotel properties
Amortization of deferred financing costs
Amortization of mortgage premium
Gain on involuntary conversion of assets
Unrealized loss on derivative instrument
Loss (gain) on disposal of assets
Gain on sale of assets
Loss on early extinguishment of debt
Unit - based compensation
Changes in assets and liabilities:
Restricted cash
Accounts receivable
Prepaid expenses, inventory and other assets
Deferred income taxes
Accounts payable and other accrued liabilities
Advance deposits
Accounts receivable - affiliate
Net cash provided by operating activities
Cash flows from investing activities:
Acquisitions of hotel properties
Improvements and additions to hotel properties
Proceeds from the sale of hotel property
Distributions from joint venture
ESOP loan advances
ESOP loan payments
Funding of restricted cash reserves
Proceeds of restricted cash reserves
Proceeds from insurance conversion
Proceeds from the sale or disposal of assets
Net cash used in investing activities
Cash flows from financing activities:
Proceeds of mortgage debt
Proceeds from mortgage loan receivable
Proceeds from the sale of common operating units
Proceeds from the sale of preferred operating units
Settlement or repurchase of common units
Payments on mortgage loans
Redemption of unsecured notes
Payments of deferred financing costs
Distributions and dividends paid
Preferred dividends paid
Net cash provided by financing activities
Net (decrease) increase in cash and cash equivalents
Cash and cash equivalents at the beginning of the period
Cash and cash equivalents at the end of the period
Supplemental disclosures:
Cash paid during the period for interest
Cash paid during the period for income taxes
Non-cash investing and financing activities:
Mortgage debt proceeds receivable and related loan costs
Assumption of mortgage loan on Crowne Plaza Hollywood Beach Resort acquisition
Assumption of loan amount premium on the Crowne Plaza Hollywood Beach Resort assumed loan
Settlements for repurchase of common units in accounts payable and accrued liabilities
Change in amount of deferred financing and deferred offering costs in accounts payable and accrued
liabilities
Change in amount of improvements to hotel property in accounts payable and accrued liabilities
$
$
$
$
$
$
$
$
$
16,999,619
—
—
—
776,410
(24,681 )
(2,242,876 )
28,384
1,489,892
(76,233 )
1,178,348
309,574
(85,529 )
(1,492,119 )
(2,780,246 )
1,498,222
1,244,731
(743,399 )
(389,851 )
15,719,735
(3,986,849 )
(23,155,738 )
5,434,856
—
(4,874,758 )
223,789
(4,697,136 )
5,727,613
2,275,666
105,401
(22,947,156 )
40,500,000
—
—
30,488,660
(3,708,891 )
(25,990,271 )
(25,300,000 )
(837,991 )
(6,131,377 )
(3,781,639 )
5,238,491
(1,988,930 )
31,766,775
29,777,845
15,253,059
162,677
—
—
—
125,279
—
151,499
$
$
$
$
$
$
$
$
$
15,019,071
—
—
—
1,147,864
(24,682 )
—
37,384
365,319
—
1,417,905
211,682
(560,817 )
(56,573 )
(334,063 )
(1,558,966 )
(35,188 )
663,947
222,377
17,415,409
—
(14,912,677 )
—
—
—
—
(5,276,518 )
7,035,029
—
213,400
(12,940,766 )
102,700,000
2,600,711
—
37,766,531
(2,061,407 )
(89,619,564 )
(27,600,000 )
(1,796,351 )
(5,851,813 )
(339,889 )
15,798,218
20,272,861
11,493,914
31,766,775
16,881,223
192,965
—
—
—
1,103,129
—
431,858
$
$
$
$
$
$
$
$
$
13,591,495
(6,603,148)
(475,514)
500,000
1,300,032
(18,820 )
—
108,819
(41,435 )
—
772,907
285,978
584,926
(2,021,825)
(623,980)
(1,780,571)
(1,001,376)
431,111
(28,878 )
11,377,374
(25,525,754)
(20,136,427)
—
600,000
—
—
(4,973,602)
6,376,459
124,609
2,402,113
(41,132,602)
127,000,000
—
23,250,818
—
—
(120,154,764 )
—
(1,377,882)
(4,103,529)
—
24,614,643
(5,140,585)
16,634,499
11,493,914
15,415,695
570,762
2,704,415
57,000,000
246,815
—
624,117
601,895
The accompanying notes are an integral part of these financial statements.
F - 14
SOTHERLY HOTELS INC.
SOTHERLY HOTELS LP
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Description of Business
Sotherly Hotels Inc., formerly MHI Hospitality Corporation, (the “Company”) is a self-managed and self-administered lodging
real estate investment trust (“REIT”) that was incorporated in Maryland on August 20, 2004 to own full-service, primarily upscale and
upper-upscale hotels located in primary and secondary markets in the mid-Atlantic and southern United States. Currently, the
Company is focused on the acquisition, renovation, upbranding and repositioning of upscale to upper-upscale full-service hotels in the
southern United States. The Company’s portfolio, as of December 31, 2017, consists of investments in eleven hotel properties,
comprising 2,838 rooms and one hotel commercial condominium unit which forms a part of a 400 room condominium-hotel. All of
the Company’s hotels, except for The DeSoto, the Georgian Terrace, The Whitehall and the Hyde Resort & Residences, operate under
the Hilton, Crowne Plaza, DoubleTree, and Sheraton brands.
The Company commenced operations on December 21, 2004 when it completed its initial public offering (“IPO”) and thereafter
consummated the acquisition of six hotel properties. Substantially all of the Company’s assets are held by, and all of its operations are
conducted through, Sotherly Hotels LP, (the “Operating Partnership”).
Pursuant to the terms of the Amended and Restated Agreement of Limited Partnership (the “Partnership Agreement”), the
Company, as general partner, is not entitled to compensation for its services to the Operating Partnership. The Company, as general
partner, conducts all of its operations through the Operating Partnership and the Company’s administrative expenses are the
obligations of the Operating Partnership. Additionally, the Company is entitled to reimbursement for any expenditure incurred by it on
the Operating Partnership’s behalf.
For the Company to qualify as a REIT, it cannot operate hotels. Therefore, the Operating Partnership, which, at December 31,
2017, was approximately 88.8% owned by the Company, and its subsidiaries, lease its hotels to direct and indirect subsidiaries of MHI
Hospitality TRS Holding, Inc., MHI Hospitality TRS, LLC and certain of its subsidiaries, (collectively, “MHI TRS”), each of which is
a wholly-owned subsidiary of the Operating Partnership. For the years ended December 31, 2017, 2016 and 2015, MHI TRS engaged
an eligible independent hotel management company, MHI Hotels Services, LLC, which does business as Chesapeake Hospitality
(“Chesapeake Hospitality”), to operate the hotels under a management contract. MHI TRS is treated as a taxable REIT subsidiary for
federal income tax purposes.
All references in these “Notes to Consolidated Financial Statements” to “we,” “us” and “our” refer to the Company, its
Operating Partnership and its subsidiaries and predecessors, collectively, unless the context otherwise requires or where otherwise
indicated.
Significant transactions occurring during the current and two prior fiscal years include the following:
On May 5, 2015, we obtained a $47.0 million mortgage with Bank of America N.A. on the Georgian Terrace in Atlanta,
Georgia. The mortgage bears interest at a fixed rate of 4.42% and provides for level payments of principal and interest on a monthly
basis under a 30-year amortization schedule. The maturity date is June 1, 2025. We used the proceeds of the mortgage to repay the
existing first mortgage and to pay closing costs, and used the balance of the proceeds to partially fund renovations at the Georgian
Terrace and for general corporate purposes.
During June 2015, the Company sold 98,682 shares of common stock for net proceeds of approximately $0.7 million, which it
contributed to the Operating Partnership for an equivalent number of units.
On July 1, 2015, the Company sold 3,000,000 shares of common stock, for net proceeds of approximately $19.8 million, which
it contributed to the Operating Partnership for an equivalent number of units.
On July 7, 2015, we entered into a loan agreement and other loan documents to secure an $18.5 million mortgage with Bank of
the Ozarks collateralized by a first mortgage on the DoubleTree by Hilton Jacksonville Riverfront. The $18.5 million mortgage was
received in two parts. We received $18.0 million on July 7, 2015 and the remainder of $0.5 million on October 20, 2015. The $0.5
million was included with the additional earn-out provision of $1.5 million, for a total of $2.0 million additional proceeds, as
described below. The mortgage term is four years maturing July 7, 2019 and may be extended for one additional period of one year,
subject to certain criteria. The mortgage bears a floating interest rate of the 30-day LIBOR plus 3.5%, subject to a floor rate of
4.0%. The mortgage amortizes on a 25-year schedule; and has a prepayment penalty if prepaid during the initial two years. We used
the proceeds from the mortgage to repay the existing first mortgage on the DoubleTree by Hilton Jacksonville Riverfront and to pay
F - 15
closing costs, and used the balance of the proceeds to partially fund ongoing renovations at the DoubleTree by Hilton Jacksonville
Riverfront and for general corporate purposes.
On July 17, 2015, the Company sold 435,000 shares of common stock for net proceeds of approximately $2.8 million, which it
contributed to the Operating Partnership for an equivalent number of units.
On July 31, 2015, we acquired the remaining 75.0% interest in (i) the entity that owns the DoubleTree Resort by Hilton
Hollywood Beach (formerly known as the Crowne Plaza Hollywood Beach Resort), and (ii) the entity that leases the DoubleTree
Resort by Hilton Hollywood Beach. As a result, the Operating Partnership now has a 100% indirect ownership interest in the entities
that own the DoubleTree Resort by Hilton Hollywood Beach.
On September 2, 2015, we closed on the sale of a 0.3 acre parcel of excess land adjacent to our Atlanta, Georgia property for
$2.2 million. The parcel was included in the acquisition of the Georgian Terrace in March 2014. We used the proceeds of the sale for
general corporate purposes.
On September 28, 2015, we entered into a loan agreement to secure a $60.0 million mortgage on the DoubleTree Resort by
Hilton Hollywood Beach with Bank of America, N.A. The mortgage term is ten years maturing October 1, 2025, subject to certain
criteria. The mortgage bears a fixed interest rate of 4.913%. The mortgage amortizes on a 30-year schedule. We used the proceeds
from the mortgage to repay the existing first mortgage on the DoubleTree Resort by Hilton Hollywood Beach and to pay closing costs,
and used the balance of the proceeds for general corporate purposes.
On October 20, 2015, we secured $2.0 million additional proceeds on the mortgage loan on the DoubleTree by Hilton
Jacksonville Riverfront as part of an earn-out pursuant to the terms of the loan agreement.
On December 31, 2015, we entered into an amendment to the existing mortgage loan on the DoubleTree by Hilton Laurel which
generated additional net proceeds of approximately $2.6 million and received the loan proceeds on January 4, 2016.
On March 21, 2016, we entered into an agreement with the existing lender to extend the maturity of the mortgage on The
Whitehall until November 2017.
On June 27, 2016, we entered into a promissory note and other loan documents to secure a $35.0 million mortgage on the Hilton
Savannah DeSoto with MONY Life Insurance Company. The mortgage term is ten years maturing July 1, 2026, subject to certain
criteria. The mortgage bears a fixed interest rate of 4.25%. The mortgage amortizes on a 25-year schedule after a 1-year interest-only
period. We used the proceeds to repay the existing first mortgage on the Hilton Savannah DeSoto and to pay closing costs, and used
the balance of the proceeds to fund ongoing renovations at the hotel and for general corporate purposes.
On June 30, 2016, we entered into a loan agreement and other loan documents, including a guaranty of payment by the
Operating Partnership, to secure a $19.0 million mortgage on the Crowne Plaza Tampa Westshore with Fifth Third Bank. The
mortgage term has an initial term of three years, and may be extended for two additional periods of one year each, subject to certain
conditions. The mortgage bears a floating interest rate of the 30-day LIBOR plus 3.75%, subject to a floor rate of 3.75%. The
mortgage amortizes on a 25-year schedule. We used the proceeds to repay the existing first mortgage on the Crowne Plaza Tampa
Westshore and to pay closing costs, and used the balance of the proceeds for general corporate purposes.
On August 23, 2016, the Company sold 1,610,000 shares of 8.0% Series B Cumulative Redeemable Perpetual Preferred Stock
(the “Series B Preferred Stock”), for net proceeds after all expenses of approximately $37.8 million, which it contributed to the
Operating Partnership for an equivalent number of preferred partnership units.
On September 30, 2016, we redeemed the entire $27.6 million aggregate principal amount of our outstanding 8% senior
unsecured notes (the “8% Notes”).
On October 12, 2016, we entered into a loan agreement to secure a $20.5 million mortgage on The Whitehall with the
International Bank of Commerce. Pursuant to the loan documents, the loan provides initial proceeds of $15.0 million, with an
additional $5.5 million available upon the satisfaction of certain conditions, has a term of five years, bears a floating interest rate of
the one month LIBOR plus 3.5%, subject to a floor rate of 4.0%, amortizes on an 18-year schedule after a 2-year interest only period,
is subject to prepayment fees, and is guaranteed by Sotherly Hotels LP.
On November 3, 2016, we entered into a loan agreement to refinance the mortgage on the Sheraton Louisville Riverside with
Symetra Life Insurance Company. Pursuant to the loan documents, the loan provides proceeds of $12.0 million, has a maturity date of
December 1, 2026, bears a fixed interest rate of 4.27% for the first 5 years of the loan with an option for the lender to reset that rate
F - 16
after 5 years, amortizes on a 25-year schedule, is subject to prepayment fees, and is guaranteed by Sotherly Hotels LP up to 50% of
the unpaid principal balance, interest, and other amounts owed.
On November 3, 2016, we entered into a loan agreement to modify and extend the mortgage on the Crowne Plaza Hampton
Marina with TowneBank. Pursuant to the amended loan documents, the loan continues to bear a fixed interest rate of 5.00%, has a
maturity date of November 1, 2019, and beginning on December 1, 2016 requires monthly principal payments of $15,367 plus
interest.
On December 1, 2016, we entered into a promissory note and other loan documents to secure a $35.0 million mortgage on the
Hilton Wilmington Riverside with MONY Life Insurance Company. Pursuant to the loan documents, the loan: provides initial
proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain conditions. The mortgage term is
ten years maturing January 1, 2027, subject to certain criteria. The mortgage bears a fixed interest rate of 4.25%. The mortgage
amortizes on a 25-year schedule after a 1-year interest-only period. We used the proceeds to repay the existing first mortgage on the
Hilton Wilmington Riverside and to pay closing costs, and will use the balance of the proceeds to fund ongoing renovations at the
hotel and for general corporate purposes.
On December 2, 2016, the Company’s Board of Directors authorized a stock repurchase program under which the Company
may purchase up to $10.0 million of its outstanding common stock, par value $0.01 per share, at prevailing prices on the open market
or in privately negotiated transactions, at the discretion of management. For the years ended December 31, 2017 and 2016, the
Company repurchased 401,720 and 481,100 shares of common stock, respectively, for approximately $2.7 million and $3.2 million,
respectively. The repurchased shares have been returned to the status of authorized but unissued shares of common stock. The
Company used available working capital to fund purchases under the stock repurchase program and intends to complete the
repurchase program prior to December 31, 2018, unless extended by the Board of Directors.
On December 29, 2016, the Company adopted an Employee Stock Ownership Plan (“ESOP”), effective as of January 1, 2016.
The Company sponsors and maintains the ESOP and related trust for the benefit of its eligible employees. The ESOP is funded by a
loan from the Company, pursuant to which the ESOP may borrow up to $5.0 million to purchase shares of the Company’s common
stock. From January 3, 2017 to February 28, 2017 the ESOP purchased 682,500 shares of common stock at an aggregate cost of
approximately $4.9 million, which it borrowed from the Company under the loan.
Coincident with the execution of the loan from the Company to the ESOP, the Operating Partnership committed to fund a loan
to the Company to allow the Company to loan funds to the ESOP, for the purpose as stated above.
On January 30, 2017, we closed on the purchase of the commercial condominium unit of the Hyde Resort & Residences, a 400-
unit condominium hotel located in the Hollywood, Florida market, for an aggregated price of approximately $4.8 million from 4111
South Ocean Drive, LLC. In connection with the closing of the transaction, we entered into a lease agreement for the 400-space
parking garage and meeting rooms associated with the condominium hotel, agreements relating to the operation and management of
the hotel condominium association and a condominium unit rental program, and a pre-opening services agreement whereby the seller
paid us a fee of approximately $0.8 million for certain pre-opening related preparations.
On February 7, 2017, we closed on the sale of the Crowne Plaza Hampton Marina to Marina Hotels, LLC for a price of $5.6
million.
On June 1, 2017, we entered into an agreement to purchase the commercial unit of the planned Hyde Beach House Resort &
Residences, a condominium hotel under development in Hollywood, Florida, for a price of $5.1 million from 4000 South Ocean
Property Owner, LLLP. In connection with the agreement, we also entered into a pre-opening services agreement whereby the seller
has agreed to pay us approximately $0.8 million in connection with certain pre-opening activities to be undertaken prior to the
closing. We have agreed to purchase inventories at closing consistent with the management and operation of the planned hotel and the
related condominium association for an additional amount and have further agreed to enter into a lease agreement for the parking
garage and poolside cabanas associated with the planned hotel and to enter into a management agreement relating to the operation and
management of the planned hotel’s condominium association. We anticipate that the closing of the transaction and the execution of
related agreements will take place in the second quarter of 2019, once construction of the planned hotel has been substantially
completed. The closing of the transaction is subject to various closing conditions as described in the purchase agreement.
On June 29, 2017, we entered into a promissory note and other loan documents to secure a $35.5 million mortgage on the
DoubleTree by Hilton Jacksonville Riverfront with Wells Fargo Bank, N.A. Pursuant to the loan documents, the loan has a maturity
date of July 11, 2024, bears a fixed interest rate of 4.88%, amortizes on a 30-year schedule, and is subject to a prepayment premium
following a prepayment lockout period. We used a portion of the proceeds to repay the existing first mortgage on the DoubleTree by
Hilton Jacksonville Riverfront, to pay closing costs and for general corporate purposes.
F - 17
On October 11, 2017, the Company closed a sale and issuance of 1,200,000 shares of its newly authorized 7.875% Series C
Cumulative Redeemable Perpetual Preferred Stock (the “Series C Preferred Stock”), for net proceeds after all estimated expenses of
approximately $28.0 million. On October 17, 2017, the Company closed a sale and issuance of an additional 100,000 shares of its
Series C Preferred Stock, for net proceeds of approximately $2.5 million, pursuant to the underwriters’ partial exercise of an option
granted by the Company to purchase additional shares. The Company contributed the net proceeds from the offering to its Operating
Partnership for an equivalent number of Series C Cumulative Redeemable Perpetual Preferred Units (the “Series C Preferred
Units”). We used the net proceeds to redeem in full the Operating Partnership’s 7.0% senior unsecured notes (the “7% Notes”) and
for working capital.
On November 15, 2017, the Operating Partnership redeemed the entire $25.3 million principal amount of the 7% Notes, at a
redemption price equal to 101% of the principal amount of the 7% Notes, plus any accrued and unpaid interest to, but not including,
the redemption date.
2. Summary of Significant Accounting Policies
Basis of Presentation – The consolidated financial statements of the Company presented herein include all of the accounts of
Sotherly Hotels Inc., the Operating Partnership, MHI TRS and subsidiaries and have been prepared using accounting principles
generally accepted in the United States of America (“GAAP”). All significant inter-company balances and transactions have been
eliminated.
The consolidated financial statements of the Operating Partnership presented herein include all of the accounts of Sotherly
Hotels LP, MHI TRS and subsidiaries. All significant inter-company balances and transactions have been eliminated. Additionally, all
administrative expenses of the Company and those expenditures made by the Company on behalf of the Operating Partnership are
reflected as the administrative expenses, expenditures and obligations thereto of the Operating Partnership, pursuant to the terms of the
Partnership Agreement.
Investment in Hotel Properties – Investments in hotel properties include investments in operating properties which are recorded
at fair value on acquisition date and allocated to land, property and equipment and identifiable intangible assets. Replacements and
improvements are capitalized, while repairs and maintenance are expensed as incurred. Upon the sale or retirement of a fixed asset,
the cost and related accumulated depreciation are removed from our accounts and any resulting gain or loss is included in the
statements of operations. Expenditures under a renovation project, which constitute additions or improvements that extend the life of
the property, are capitalized.
Depreciation is computed using the straight-line method over the estimated useful lives of the assets, generally 7 to 39 years for
buildings and building improvements and 3 to 10 years for furniture, fixtures and equipment. Leasehold improvements are amortized
over the shorter of the lease term or the useful lives of the related assets.
We review our investments in hotel properties for impairment whenever events or changes in circumstances indicate that the
carrying value of the hotel properties may not be recoverable. Events or circumstances that may cause a review include, but are not
limited to, adverse permanent changes in the demand for lodging at the properties due to declining national or local economic
conditions and/or new hotel construction in markets where the hotels are located. When such conditions exist, management performs
an analysis to determine if the estimated undiscounted future cash flows from operations and the proceeds from the ultimate
disposition of a hotel property exceeds its carrying value. If the estimated undiscounted future cash flows are found to be less than the
carrying amount of the asset, an adjustment to reduce the carrying amount to the related hotel property’s estimated fair market value
would be recorded and an impairment loss recognized.
Our review of possible impairment at one of our hotel properties and a re-evaluation of future revenues and expenses based on
anticipated market conditions, market penetration and costs necessary to achieve such market penetration revealed an excess of current
carrying cost over the estimated undiscounted future cash flows and current fair values during the period ending December 31, 2015,
resulting in an impairment of approximately $0.5 million, as of December 31, 2015.
Assets Held For Sale – The Company records assets as held for sale when management has committed to a plan to sell the
assets, actively seeks a buyer for the assets, and the consummation of the sale is considered probable and is expected within one year.
F - 18
Investment in Joint Venture – Prior to July 31, 2015 we accounted for our investment in the joint venture under the equity
method of accounting and were entitled to receive our pro rata share of annual cash flow. We also had the opportunity to earn an
incentive participation in the net sale proceeds based upon the achievement of certain overall investment returns, in addition to our pro
rata share of net sale proceeds.
On July 31, 2015, we acquired the remaining 75.0% interest in (i) the entity that owns the DoubleTree Resort by Hilton
Hollywood Beach, and (ii) the entity that leases the DoubleTree Resort by Hilton Hollywood Beach. As a result, we now have a
100% indirect ownership interest in the entities that own the DoubleTree Resort by Hilton Hollywood Beach and consolidate the
financial results of operations within the financial statements from August 1, 2015 through December 31, 2015 and for the years ended
December 31, 2017 and 2016. In addition, we recorded a gain on change in control of $6,603,148. The overall enterprise fair value
based on underlying acquired assets was used to determine the fair value of the equity interest on the date of acquisition. The value
was reduced by a minority interest discount to arrive at the fair value used to calculate the gain on the acquisition.
Cash and Cash Equivalents – We consider all highly liquid investments with an original maturity of three months or less to be
cash equivalents.
Concentration of Credit Risk – We hold cash accounts at several institutions in excess of the Federal Deposit Insurance
Corporation (the “FDIC”) protection limits of $250,000. Our exposure to credit loss in the event of the failure of these institutions is
represented by the difference between the FDIC protection limit and the total amounts on deposit. Management reviews, on a regular
basis, the balances on deposit to minimize our potential risk.
Restricted Cash – Restricted cash includes real estate tax escrows, insurance escrows and reserves for replacements of furniture,
fixtures and equipment pursuant to certain requirements in our various mortgage agreements.
Accounts Receivable – Accounts receivable consists primarily of hotel guest, banqueting and credit card receivables. Ongoing
evaluations of collectability are performed and an allowance for potential credit losses is provided against the portion of accounts
receivable that is estimated to be uncollectible.
Inventories – Inventories, consisting primarily of food and beverages, are stated at the lower of cost or net realizable value, with
cost determined on a method that approximates first-in, first-out basis.
Franchise License Fees – Fees expended to obtain or renew a franchise license are amortized over the life of the license or
renewal. The unamortized franchise fees as of December 31, 2017 and 2016 were approximately $532,070 and $386,612, respectively.
Amortization expense for the years ended December 31, 2017, 2016, and 2015 was $46,209, $52,330 and $53,347, respectively.
Deferred Financing and Offering Costs – Deferred financing costs are recorded at cost and consist of loan fees and other costs
incurred in issuing debt and are reflected in mortgage loans, net on the consolidated balance sheets. Deferred offering costs are
recorded at cost and consist of offering fees and other costs incurred in issuing equity and are reflected in prepaid expenses, inventory
and other assets on the consolidated balance sheets. Amortization of deferred financing costs is computed using a method that
approximates the effective interest method over the term of the related debt and is included in interest expense in the consolidated
statements of operations.
Our amortization of deferred offering costs occurs when one of our common equity offerings is complete, whereby the costs are
offset against the equity funds raised in the future and included in additional paid in capital on the consolidated balance sheets, or if
the offering expires and the offering costs exceed the funds raised in the offering then the excess will be included in corporate general
and administrative expenses in the consolidated statements of operations. During the twelve months ended December 31, 2017 and
2016, the Company wrote off approximately $0.5 million and $0 of deferred offering costs, respectively. As of December 31, 2017,
we have no capitalized deferred offering costs subject to further amortization.
Derivative Instruments – Our derivative instruments are reflected as assets or liabilities on the balance sheet and measured at
fair value. Derivative instruments used to hedge the exposure to changes in the fair value of an asset, liability, or firm commitment
attributable to a particular risk, such as an interest rate risk, are considered fair value hedges. Derivative instruments used to hedge
exposure to variability in expected future cash flows, or other types of forecasted transactions, are considered cash flow hedges. For a
derivative instrument designated as a cash flow hedge, the change in fair value each period is reported in accumulated other
comprehensive income in stockholders’ equity and partners’ capital to the extent the hedge is effective. For a derivative instrument
designated as a fair value hedge, the change in fair value each period is reported in earnings along with the change in fair value of the
hedged item attributable to the risk being hedged. For a derivative instrument that does not qualify for hedge accounting or is not
designated as a hedge, the change in fair value each period is reported in earnings.
F - 19
We use derivative instruments to add stability to interest expense and to manage our exposure to interest-rate movements. To
accomplish this objective, we primarily are using an interest rate cap which acts as a cash flow hedge and is not designated as a hedge.
We value our interest-rate cap at fair value, which we define as the price that would be received to sell an asset or paid to transfer a
liability in an orderly transaction between market participants at the measurement date (exit price). We do not enter into contracts to
purchase or sell derivative instruments for speculative trading purposes.
Fair Value Measurements –
We classify the inputs used to measure fair value into the following hierarchy:
Level 1
Unadjusted quoted prices in active markets for identical assets or liabilities.
Level 2
Unadjusted quoted prices in active markets for similar assets or liabilities, or Unadjusted quoted prices for identical
or similar assets or liabilities in markets that are not active, or Inputs other than quoted prices that are observable for
the asset or liability.
Level 3
Unobservable inputs for the asset or liability.
We endeavor to utilize the best available information in measuring fair value. Financial assets and liabilities are classified in
their entirety based on the lowest level of input that is significant to the fair value measurement. The following table represents our
assets and liabilities measured at fair value and the basis for that measurement (our interest rate cap is the only asset or liability
measured at fair value on a recurring basis and there were no non-recurring asset and liability fair value measurements as of December
31, 2017 and 2016, respectively):
December 31, 2016
Interest Rate Cap (1)
Mortgage loans (2)
Unsecured notes (3)
December 31, 2017
Interest Rate Cap (1)
Mortgage loans (2)
Unsecured notes (3)
Level 1
Level 2
Level 3
$
$
$(26,241,160) $
— $
33,597 $
— $(281,840,780) $
— $
$
$
$
— $
5,213 $
— $(292,368,370) $
— $
— $
—
—
—
—
—
—
Interest rate cap, which caps a 1-month LIBOR rate at 2.5%.
(1)
(2) Mortgage loans are reflected at carrying value on our Consolidated Balance Sheets as of December 31, 2017 and December 31,
2016.
(3) Unsecured notes are recorded at historical cost on our Consolidated Balance Sheet as of December 31, 2016.
Noncontrolling Interest in Operating Partnership – Certain hotel properties have been acquired, in part, by the Operating
Partnership through the issuance of limited partnership units of the Operating Partnership. The noncontrolling interest in the Operating
Partnership is: (i) increased or decreased by the limited partners’ pro-rata share of the Operating Partnership’s net income or net loss,
respectively; (ii) decreased by distributions; (iii) decreased by redemption of partnership units for the Company’s common stock; and
(iv) adjusted to equal the net equity of the Operating Partnership multiplied by the limited partners’ ownership percentage immediately
after each issuance of units of the Operating Partnership and/or the Company’s common stock through an adjustment to additional
paid-in capital. Net income or net loss is allocated to the noncontrolling interest in the Operating Partnership based on the weighted
average percentage ownership throughout the period.
Revenue Recognition – Revenues from operations of the hotels are recognized when the services are provided. Revenues consist
of room sales, food and beverage sales, and other hotel department revenues, such as; telephone, parking, gift shop sales, rentals from
restaurant tenants, rooftop leases, fees earned on the management of the condominium rental program at the Hyde Resort &
Residences and insurance proceeds of business interruption coverage. Revenues are reported net of occupancy and other taxes
collected from customers and remitted to governmental authorities. Refer to “New Accounting Pronouncements - ASU No. 2014-09,
Revenue from Contracts with Customers (Topic 606),” below for further discussion of revenue recognition.
F - 20
Lease Revenue – Several of our properties generate revenue from leasing commercial space adjacent to the hotel, the restaurant
space within the hotel, apartment units and space on the roofs of our hotels for antennas and satellite dishes. We account for the lease
income as revenue from other operating departments within the consolidated statement of operations pursuant to the terms of each
lease. Lease revenue was $1,780,525, $1,785,934 and $1,776,518, for the years ended December 31, 2017, 2016, and 2015,
respectively.
A schedule of minimum future lease payments receivable for the following twelve-month periods is as follows:
For the year ending: December 31, 2018
December 31, 2019
December 31, 2020
December 31, 2021
December 31, 2022
December 31, 2023 and thereafter
Total
$
$
1,112,282
868,289
832,695
725,244
584,901
2,500,972
6,624,383
Variable Interest Entities – The Operating Partnership is a variable interest entity. The Company’s only significant asset is its
investment in the Operating Partnership, and consequently, substantially all of the Company’s assets and liabilities represent those
assets and liabilities of the Operating Partnership and its subsidiaries. All of the Company’s debt is an obligation of the Operating
Partnership and its subsidiaries.
Income Taxes – The Company has elected to be taxed as a REIT under Sections 856 through 860 of the Internal Revenue Code
of 1986, as amended. As a REIT, the Company generally will not be subject to federal income tax. MHI TRS, our wholly owned
taxable REIT subsidiary which leases our hotels from subsidiaries of the Operating Partnership, is subject to federal and state income
taxes.
We account for income taxes using the asset and liability method under which deferred tax assets and liabilities are recognized
for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and
liabilities and their respective tax bases. At December 31, 2017, deferred tax assets total approximately $5.5 million, of which
approximately $4.9 million relate to net operating losses of our TRS Lessee. A valuation allowance is required for deferred tax assets
if, based on all available evidence, it is “more-likely-than-not” that all or a portion of the deferred tax asset will or will not be realized
due to the inability to generate sufficient taxable income in certain financial statement periods. The “more-likely-than-not” analysis
means the likelihood of realization is greater than 50%, that we will or will not be able to fully utilize the deferred tax assets against
future taxable income. The net amount of deferred tax assets that are recorded on the financial statements must reflect the tax benefits
that are expected to be realized using these criteria. We perform this analysis by evaluating future hotel revenues and expenses
accounting for certain non-recurring costs and expenses during the current and prior two fiscal years as well as anticipated changes in
the lease rental payments from the TRS Lessee to subsidiaries of the Operating Partnership. We have determined that it is more-likely-
than-not that we will be able to fully utilize our deferred tax assets for future tax consequences, therefore no valuation allowance is
required. As of December 31, 2017, we had no uncertain tax positions. Our policy is to recognize interest and penalties related to
uncertain tax positions in income tax expense. As of December 31, 2017, the tax years that remain subject to examination by the major
tax jurisdictions to which the Company is subject generally include 2010 through 2016. In addition, as of December 31, 2017, the tax
years that remain subject to examination by the major tax jurisdictions to which MHI TRS is subject, because of open NOL
carryforwards, generally include 2009 through 2017.
The Operating Partnership is generally not subject to federal and state income taxes as the unit holders of the Partnership are
subject to tax on their respective shares of the Partnership’s taxable income.
Stock-based Compensation – The Company’s 2004 Long Term Incentive Plan (the “2004 Plan”) and its 2013 Long-Term
Incentive Plan (the “2013 Plan”), which the Company’s stockholders approved in April 2013, permit the grant of stock options,
restricted stock and performance share compensation awards to its employees and directors for up to 350,000 and 750,000 shares of
common stock, respectively. The Company believes that stock awards align the interests of its employees with those of its
stockholders.
Under the 2004 Plan, the Company has made restricted stock and deferred stock awards totaling 337,438 shares including
255,938 shares issued to certain executives and employees and 81,500 restricted shares issued to its independent directors. All of the
255,938 shares issued to certain of our executives and employees have vested. All of the 81,500 restricted shares issued to the
Company’s independent directors have vested. The 2004 plan was terminated in 2013.
F - 21
Under the 2013 Plan, the Company has made stock awards totaling 163,350 shares, including 77,600 non-restricted shares to
certain executives, directors and employees, and 85,750 restricted shares issued to its independent directors and one employee. All
awards have vested except for 25,000 shares issued to one employee, which will vest over the next 5 years and 15,000 shares issued to
the Company’s independent directors in February 2018, which will vest by December 31, 2018.
Previously, under the 2004 Plan, and currently, under the 2013 Plan, the Company may issue a variety of performance-based
stock awards, including nonqualified stock options. The value of the awards is charged to compensation expense on a straight-line
basis over the vesting or service period based on the value of the award as determined by the Company’s stock price on the date of
grant or issuance. As of December 31, 2017, no performance-based stock awards have been granted. Consequently, stock-based
compensation as determined under the fair-value method would be the same under the intrinsic-value method. Total compensation
cost recognized under the 2004 Plan and 2013 Plan for the years ended December 31, 2017, 2016, and 2015 was $109,080, $211,682
and $285,978, respectively. The 2004 Plan was terminated in April 2013.
Additionally, the Company sponsors and maintains an ESOP and related trust for the benefit of its eligible employees. We
reflect unearned ESOP shares as a reduction of stockholders’ equity. Dividends on unearned ESOP shares, when paid, are considered
compensation expense. The Company recognizes compensation expense equal to the fair value of the Company’s ESOP shares during
the periods in which they are committed to be released. To the extent that the fair value of the Company’s ESOP shares differs from
the cost of such shares, the differential is recognized as additional paid in capital. Because the ESOP is internally leveraged through a
loan from the Company to the ESOP, the loan receivable by the Company from the ESOP is not reported as an asset nor is the debt of
the ESOP shown as a liability in the consolidated financial statements.
On February 15, 2017, the NCGC Committee approved the suspension of the Company’s Long Term Stock Bonus Program (the
“LTSBP”), a stock-based compensation program approved by the board on April 16, 2013 and implemented in conjunction with and
aligned with the duration of the Company’s 2013 Plan.
Advertising – Advertising costs were $357,379, $452,665 and $280,625 for the years ended December 31, 2017, 2016, and
2015, respectively and are expensed as incurred.
Business Interruption Coverage – Insurance recoveries for business interruption were recognized during the year ended
December 31, 2017, for approximately $0.3 million. The events that resulted in these recoveries during the year ending December 31,
2017 were caused by Hurricanes Matthew and Irma at our properties in Houston, Texas and Tampa, Florida, respectively. The
insurance proceeds were reflected in the statement of operations in other operating departments revenues.
Involuntary Conversion of Assets – We record gains or losses on involuntary conversions of assets due to recovered insurance
proceeds to the extent the undepreciated cost of a nonmonetary asset differs from the amount of monetary proceeds received. During
the years ending December 31, 2017, 2016 and 2015, we recognized approximately $2.2 million, $0 and $0, respectively, for gain on
involuntary conversion of assets, which is reflected in the consolidated statements of operations.
Comprehensive Income (Loss) – Comprehensive income (loss), as defined, includes all changes in equity (net assets) during a
period from non-owner sources. We do not have any items of comprehensive income (loss) other than net income (loss).
Segment Information – We have determined that our business is conducted in one reportable segment: hotel ownership.
Use of Estimates – The preparation of the financial statements in conformity with accounting principles generally accepted in
the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from those estimates.
Reclassifications – Certain reclassifications in the amount of approximately $0.6 million and approximately $0.8 million for the
twelve-month periods ending December 31, 2016 and 2015, respectively, from rooms expense to indirect expense balances on the
consolidated statements of operations have been made to conform to the current period presentation. We have also reclassified
approximately $0.3 million for the twelve-month period ending December 31, 2016 on the statement of cash flows into line item, loss
on early extinguishments of debt, and out of line item, payments of deferred financing costs, in order to conform to the current period
presentation.
New Accounting Pronouncements – In August 2017, the Financial Accounting Standards Board (“FASB”) issued ASU No.
2017-12, Derivatives and Hedging (Topic 815): Targeted Improvements to Accounting for Hedging Activities, which improves the
financial reporting of hedging relationships to better portray the economic results of an entity’s risk management activities in its
financial statements and simplifies the application of hedge accounting. This standard will be effective for the first annual period
beginning after December 15, 2018, including interim periods within those periods. Early adoption is permitted. We adopted this
F - 22
standard on January 1, 2018 and aside from minor presentation changes in its disclosure on derivative and hedging activities it will not
have a material effect on our consolidated financial statements.
In February 2017, the FASB issued ASU 2017-05, Other Income-Gains and Losses from the Derecognition of Nonfinancial
Assets (Subtopic 610-20). The FASB issued this update to clarify the scope of Subtopic 610-20, Other Income—Gains and Losses
from the Derecognition of Nonfinancial Assets, and to add guidance for partial sales of nonfinancial assets. Subtopic 610-20, which
was issued in May 2014 as a part of Accounting Standards Update No. 2014-09, Revenue from Contracts with Customers (Topic 606),
provides guidance for recognizing gains and losses from the transfer of nonfinancial assets in contracts with noncustomers. The
amendments in this update also simplify GAAP by eliminating several accounting differences between transactions involving assets
and transactions involving businesses in many transactions related to: a partial sale of real estate; a transfer of a nonfinancial asset
within the scope of FASB ASC Topic 845, Nonmonetary Transactions; a contribution of a nonfinancial asset to form a joint venture;
and a transfer of a nonfinancial asset to an equity method investee. The amendments in this ASU are effective for annual periods, and
interim periods within those annual periods, beginning after December 15, 2017. We adopted this ASU as of January 1, 2018. This
ASU will not have a material impact on our current consolidated balance sheets, statements of operations or cash flows, however this
ASU may have a significant impact on future transactions.
In January 2017, the FASB issued ASU 2017-01, Business Combinations – Clarifying the Definition of a Business (Topic 805).
This ASU clarifies the definition of a business and adds further guidance in evaluating whether a transaction should be accounted for
as an acquisition of an asset or a business. This standard will be effective for the first annual period beginning after December 15,
2017, including interim periods within those periods. Early adoption is permitted. We adopted this standard on January 1, 2018 and
the majority of future hotel acquisitions are considered asset purchases instead of business combinations. The effects are mainly in
regard to acquisition costs treatment, which in the case of asset purchases, are capitalized on the consolidated balance sheets, and in
the case of business combinations are typically expensed into the consolidated statements of operations.
In November 2016, the FASB issued ASU 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash. This ASU
addresses the diversity within entities that have restricted cash or restricted cash equivalents and are required to present a statement of
cash flows under Topic 230. The amendments in this ASU are effective for annual periods, and interim periods within those annual
periods, beginning after December 15, 2017. Early application of this ASU is permitted for all entities. We adopted this standard on
January 1, 2018 and aside from minor presentation changes in its disclosure on restricted cash, it will not have a material effect on our
consolidated balance sheets, statements of operations or cash flows.
In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts
and Cash Payments. Current GAAP either is unclear or does not include specific guidance on the eight cash flow classification issues
included in the amendments in this update. The amendments are an improvement to GAAP because they provide guidance for each of
the eight issues, thereby reducing the current and potential future diversity in practice. The amendments in this ASU are effective for
annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early application of this ASU is
permitted for all entities. We adopted this ASU as of January 1, 2018. The adoption of this ASU did not have a material impact on our
current consolidated balance sheets, statements of operations or cash flows.
In May 2016, the FASB issued ASU No. 2016-12, Revenue from Contracts with Customers – Narrow-Scope Improvements and
Practical Expedients (Topic 606). The amendments in this ASU provide clarification to certain core recognition principles related to
ASU No. 2014-09 including collectability, sales tax presentation, noncash consideration, contract modifications and completed
contracts at transition and disclosures no longer required if the full retrospective transition method is adopted. The amendments do
not change the core principle of the guidance. We adopted this ASU as of January 1, 2018. We evaluated all of our revenue related to
contracts with customers and determined how to transition these requirements into our consolidated financial statements. Refer to
“New Accounting Pronouncements - ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606),” below for further
discussion of revenue recognition.
In April 2016, the FASB issued ASU No. 2016-10, Revenue from Contracts with Customers – Identifying Performance
Obligations and Licensing (Topic 606). This update clarifies guidance related to identifying performance obligations and licensing
implementation contained in ASU No. 2014-09. The amendments do not change the core principle of the guidance. We have analyzed
all of our revenue related to contracts with customers and have determined how to transition these requirements into our consolidated
financial statements. We adopted this ASU as of January 1, 2018. The adoption of this ASU did not have a material impact on our
consolidated balance sheets, statements of operations or cash flows. Refer to “New Accounting Pronouncements - ASU No. 2014-09,
Revenue from Contracts with Customers (Topic 606),” below for further discussion of revenue recognition.
In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). The FASB issued this ASU to increase transparency and
comparability among organizations by recognizing lease assets and lease liabilities on the balance sheet by lessees for those leases
classified as operating leases under current GAAP and disclosing key information about leasing arrangements. The amendments in
this ASU are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2018. Early
F - 23
application of this ASU is permitted for all entities. We are creating an inventory of our leases and are analyzing our current ground
lease, office lease, other right-of-use assets and lease liabilities, and parking garage lease obligations that exist. The standard requires
a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the
financial statements. We will adopt this ASU as of January 1, 2019.
In May 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606), which requires an
entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers.
ASU No. 2014-09 will replace most existing revenue recognition guidance in GAAP when it becomes effective. The new standard is
effective for us on January 1, 2018. Early adoption is permitted. The standard permits the use of either the retrospective or cumulative
effect transition method. By working in conjunction with our hotel operators, we completed our evaluation of the effect that ASU No.
2014-09 will have on our consolidated financial statements and our evaluation of each of our revenue streams under the new standard.
Because of the short-term, day-to-day nature of our hotel revenues, we determined that the pattern of revenue recognition will not
change significantly. Under ASU No. 2014-09, there will be a recharacterization of certain revenue streams affecting both gross and
net revenue reporting due to changes in principal versus agent guidance, which presentation is deemed immaterial for us and will not
affect net income. Additionally, we do not sell hotel properties to customers as defined by FASB, but have historically disposed of
hotel properties for cash sales with no contingencies and no future involvement in the hotel operations, and therefore, ASU No. 2014-
09 will not impact the recognition of hotel sales. We finalized our expanded disclosure for the notes to the consolidated financial
statements pursuant to the new requirements. We adopted this standard on our effective date of January 1, 2018 under the cumulative
effect transition method. No adjustment was recorded to the our opening balance of retained earnings on January 1, 2018 as there was
no impact to net income for us. Additionally, comparative information beginning in 2018 will not be restated and will continue to be
reported under Revenue Recognition (Topic 605). We also expect that the effect of ASU No. 2014-09 will be immaterial on an on-
going basis.
3. Acquisition of Hotel Properties
Hyde Resort & Residences. On January 30, 2017, we acquired the hotel commercial condominium unit of the Hyde Resort &
Residences condominium hotel, for an aggregate price including inventory and other assets of approximately $4.8 million. The
allocation of the purchase price based on fair values was as follows:
The allocation of the purchase price based on their fair values was as follows:
Land and land improvements
Buildings and improvements
Furniture, fixtures and equipment
Investment in hotel properties
Accrued liabilities and other costs
Prepaid expenses, inventory and other assets
Net cash
Hyde Resort &
Residences
$
$
500
4,309,500
72,616
4,382,616
(866,142)
470,375
3,986,849
The results of operations of the Hyde Resort & Residences are included in our consolidated financial statements from the date of
acquisition. The total revenue and net loss related to the acquisition for the period January 30, 2017 to December 31, 2017 are
approximately $4.0 million and $0.7 million, respectively. There is no pro forma financial information, since this is a new operation
without prior historical information.
4. Investment in Hotel Properties, Net and Investment in Hotel Properties Held for Sale, Net
Investment in hotel properties as of December 31, 2017 and 2016 consisted of the following:
Land and land improvements
Buildings and improvements
Furniture, fixtures and equipment
Less: accumulated depreciation and impairment
Investment in Hotel Properties, Net
F - 24
December 31, 2017
59,504,625
$
348,532,577
48,467,956
456,505,158
(98,705,646)
$
357,799,512
December 31, 2016
57,851,380
$
336,996,876
43,458,781
438,307,037
(89,713,125)
348,593,912
$
Investment in hotel properties held for sale, net as of December 31, 2017 and 2016 consisted of the following:
Land and land improvements
Buildings and improvements
Furniture, fixtures and equipment
Less: accumulated depreciation and impairment
December 31, 2017
December 31, 2016
1,097,096
$
$
6,242,504
—
2,289,008
—
9,628,608
—
(4,295,608)
—
Investment in Hotel Properties Held for Sale, Net
$ — $
5,333,000
Our review of possible impairment during the years ended December 31, 2017 and 2016, resulted in no impairment on our
investment in hotel properties, respectively.
5. Debt
Mortgage Loans, Net. As of December 31, 2017 and 2016, we had approximately $297.3 million and approximately $282.7
million of outstanding mortgage debt, respectively. The following table sets forth our mortgage debt obligations on our hotels.
Balance Outstanding as of
Property
Crowne Plaza Hampton Marina (1)
Crowne Plaza Tampa Westshore (2)
The DeSoto (3)
DoubleTree by Hilton Jacksonville
Riverfront (4)
DoubleTree by Hilton Laurel (5)
DoubleTree by Hilton Philadelphia Airport (6)
DoubleTree by Hilton Raleigh
Brownstone University (7)
DoubleTree Resort by Hilton Hollywood
Beach (8)
Georgian Terrace (9)
Hilton Wilmington Riverside (10)
Sheraton Louisville Riverside (11)
The Whitehall (12)
Total Mortgage Principal Balance
Deferred financing costs, net
Unamortized premium on loan
Total Mortgage Loans, Net
December 31,
December 31,
2017
Prepayment Maturity
2016
Penalties
2,584,633 None
$
15,284,200 15,561,400 None
34,645,929 30,000,000 Yes
Date
11/1/2019
6/30/2019
7/1/2026
- $
Amortization
Provisions
3 years
25 years LIBOR plus 3.75 %
25 years
Interest
Rate
5.00%
4.25%
35,294,741 19,291,716 Yes
9,329,005 Yes
30,432,260 31,261,991 None
9,132,558
7/11/2024
8/5/2021
4/1/2019
30 years
25 years
25 years LIBOR plus 3.00 %
4.88%
5.25%
14,503,925 14,773,885
n/a
8/1/2018
30 years
4.78%
n/a
58,023,567 58,935,818
45,032,662 45,826,038
n/a
30,000,000 30,000,000 Yes
11,701,930 11,977,557 Yes
15,000,000 15,000,000 Yes
$299,051,772 $284,542,043
(2,049,409)
215,655
$297,318,816 $282,708,289
(1,923,928)
190,972
10/1/2025
6/1/2025
1/1/2027
12/1/2026
10/12/2021
30 years
30 years
25 years
25 years
18 years LIBOR plus 3.50 %
4.913%
4.42%
4.25%
4.27%
(1) The note was extended and modified in November 2016 for 3 years until November 1, 2019 and the Operating Partnership was
required to make monthly principal payments of $15,367. The note rate was changed to a fixed rate of 5.00%, effective June 27,
2014. As of February 7, 2017, the note is no longer outstanding.
(2) The note provides initial proceeds of $15.7 million, with an additional $3.3 million available upon the satisfaction of certain
conditions; bears a floating interest rate of the 30-day LIBOR plus 3.75%, subject to a floor rate of 3.75%; the note provides that
the mortgage can be extended for two additional periods of one year each, subject to certain conditions.
(3) The note provides initial proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain
conditions, namely, the completion of a renovation project; amortizes on a 25-year schedule after a 1-year interest-only period;
and is subject to a pre-payment penalty except for any pre-payments made within 120 days of the maturity date.
(4) The note may not be prepaid until August 2019, after which it is subject to a pre-payment penalty until March 2024. Prepayment
can be made without penalty thereafter.
(5) The note is subject to a pre-payment penalty except for any pre-payments made either between April 2017 and August 2017, or
from April 2021 through maturity of the note.
F - 25
(6) The note bears a minimum interest rate of 3.50%.
(7) With limited exception, the note may not be prepaid until two months before maturity.
(8) With limited exception, the note may not be prepaid until June 2025.
(9) With limited exception, the note may not be prepaid until February 2025.
(10) The note provides initial proceeds of $30.0 million, with an additional $5.0 million available upon the satisfaction of certain
conditions namely, the completion of a renovation project; amortizes on a 25-year schedule after a 1-year interest-only period;
and is subject to a pre-payment penalty except for any pre-payments made within 120 days of the maturity date.
(11) The note bears a fixed interest rate of 4.27% for the first 5 years of the loan, with an option for the lender to reset the interest rate
after 5 years.
(12) The note was refinanced in October 2016, provides initial proceeds of $15.0 million, with an additional $5.5 million available
upon the satisfaction of certain conditions; bears a floating interest rate of the 1-month LIBOR plus 3.5%, subject to a floor rate
of 4.0% and is subject to prepayment penalties subject to a declining scale from 3.0% penalty on or before the first anniversary
date, a 2.0% penalty during the second anniversary year and a 1.0% penalty after the third anniversary date.
We were in compliance with all debt covenants, current on all loan payments and not otherwise in default under any of our
mortgage loans, as of December 31, 2017.
Total future mortgage debt maturities, without respect to any extension of loan maturity, as of December 31, 2017 were as follows:
For the year ending: December 31, 2018
December 31, 2019
December 31, 2020
December 31, 2021
December 31, 2022
December 31, 2023 and thereafter
Total future maturities
$
22,039,201
51,290,912
7,232,596
28,919,110
7,018,848
182,551,105
$ 299,051,772
7.0% Unsecured Notes. On November 21, 2014, the Operating Partnership issued its 7% Notes in the aggregate amount of $25.3
million. The indenture required quarterly payments of interest and was to mature on November 15, 2019. The 7% Notes were
redeemed on November 15, 2017 at 101% of face value.
6. Commitments and Contingencies
Ground, Building and Submerged Land Leases – We lease 2,086 square feet of commercial space next to the Hilton Savannah
DeSoto for use as an office, retail or conference space, or for any related or ancillary purposes for the hotel and/or atrium space. In
December 2007, we signed an amendment to the lease to include rights to the outdoor esplanade adjacent to the leased commercial
space. The areas are leased under a six-year operating lease, which expired October 31, 2006 and has been renewed for the third of
three optional five-year renewal periods expiring October 31, 2011, October 31, 2016 and October 31, 2021, respectively. Rent
expense for this operating lease for the years ended December 31, 2017, 2016, and 2015 was $72,984, $72,984 and $65,054,
respectively.
We lease, as landlord, the entire fourteenth floor of the Savannah hotel property to The Chatham Club, Inc. under a ninety-nine
year lease expiring July 31, 2086. This lease was assumed upon the purchase of the building under the terms and conditions agreed to
by the previous owner of the property. No rental income is recognized under the terms of this lease as the original lump sum rent
payment of $990 was received by the previous owner and not prorated over the life of the lease.
We lease a parking lot adjacent to the DoubleTree by Hilton Raleigh Brownstone-University in Raleigh, North Carolina. The
land is leased under a second amendment, dated April 28, 1998, to a ground lease originally dated May 25, 1966. The original lease is
a 50-year operating lease, which expired August 31, 2016. We exercised a renewal option for the first of three additional ten-year
periods expiring August 31, 2026, August 31, 2036, and August 31, 2046, respectively. We hold an exclusive and irrevocable option
to purchase the leased land at fair market value at the end of the original lease term, subject to the payment of an annual fee of $9,000,
and other conditions. For the years ended December 31, 2017, 2016, and 2015, rent expense was $116,791, $95,482 and $95,482,
respectively
We lease land adjacent to the Crowne Plaza Tampa Westshore for use as parking under a five-year renewable agreement with
the Florida Department of Transportation that commenced in July 2009 and expires in July 2019. The agreement requires annual
payments of $2,432, plus tax, and may be renewed for an additional five years. Rent expense for each of the years ended December
31, 2017, 2016, and 2015 was $2,602, respectively.
F - 26
We lease 5,216 square feet of commercial office space in Williamsburg, Virginia under an agreement, as amended, that
commenced September 1, 2009 and expires August 31, 2018. Rent expense for each of the years ended December 31, 2017, 2016, and
2015 was $90,208, $91,003 and $83,651, respectively.
We lease the parking garage adjacent to the Hyde Resort & Residences, along with meeting and office space, in Hollywood
Beach, Florida. The parking garage and meeting space is leased under a 20-year operating lease requiring monthly payments of
$20,000, which expires in February 2037. Rent expense for the year ending December 31, 2017 totaled $220,000.
We also lease certain furniture and equipment under financing arrangements expiring between February 2018 and October 2019.
A schedule of minimum future lease payments for the following twelve-month periods is as follows:
For the year ending: December 31, 2018
December 31, 2019
December 31, 2020
December 31, 2021
December 31, 2022
December 31, 2023 and thereafter
Total
$
$
568,112
466,465
351,464
351,464
351,464
3,920,165
6,009,134
Employment Agreements— The Company has entered into various employment contracts with employees that could result in
obligations to us in the event of a change in control or termination without cause.
Management Agreements – As of December 31, 2017, each of our wholly-owned hotels and the rental program and
condominium association of the Hyde Resort & Residences operated under a management agreement with Chesapeake Hospitality
(see Note 9). The management agreements expire between January 1, 2020 and January 30, 2022, and may be extended for up to two
additional periods of five years each subject to the approval of both parties. Each of the individual hotel management agreements may
be terminated earlier than the stated term upon the sale of the hotel covered by the respective management agreement, in which case
we may incur early termination fees.
Franchise Agreements – As of December 31, 2017, most of our hotels operate under franchise licenses from national hotel
companies. Under the franchise agreements, we are required to pay a franchise fee generally between 2.5% and 5.0% of room
revenues, plus additional fees for marketing, central reservation systems, and other franchisor programs and services that amount to
between 2.5% and 6.0% of room revenues from the hotels. The franchise agreements currently expire between March 2018 and
October 2030. On August 7, 2014, we voluntarily terminated the franchise agreement with Holiday Hospitality Franchising, LLC
(IHG) for the Crowne Plaza Jacksonville Riverfront effective September 1, 2015 and recognized a termination fee of $351,800. The
property has been rebranded as the DoubleTree by Hilton Jacksonville Riverfront. On April 12, 2016 we allowed the franchise
agreement on the Crowne Plaza Houston Downtown to expire. The property has been rebranded as The Whitehall. On July 31, 2017,
we allowed the franchise agreement on the Hilton Savannah DeSoto to expire. The property has been rebranded as The DeSoto and
operates as an independent hotel. Each of our franchise agreements provides for early termination fees in the event the agreement is
terminated before the stated term.
Restricted Cash Reserves – Each month, we are required to escrow with the lenders on the Hilton Wilmington Riverside, The
DeSoto, the DoubleTree by Hilton Raleigh Brownstone-University, the DoubleTree by Hilton Jacksonville Riverside, the DoubleTree
Resort by Hilton Hollywood Beach, the Sheraton Louisville Riverside and the Georgian Terrace an amount equal to 1 / 12 of the
annual real estate taxes due for the properties. We are also required by several of our lenders to establish individual property
improvement funds to cover the cost of replacing capital assets at our properties. Each month, those contributions equal 4.0% of gross
revenues for The DeSoto, the Hilton Wilmington Riverside, the DoubleTree by Hilton Jacksonville Riverside, the DoubleTree Resort
by Hilton Hollywood Beach, DoubleTree by Hilton Raleigh Brownstone–University, the Whitehall, Crowne Plaza Hampton Marina
and the Georgian Terrace and equal 4.0% of room revenues for the DoubleTree by Hilton Philadelphia Airport.
ESOP Loan Commitment – The Company’s board of directors approved the ESOP on November 29, 2016, which was adopted
by the Company in December 2016 and effective January 1, 2016. The ESOP is a non-contributory defined contribution plan
covering all employees of the Company. The ESOP is a leveraged ESOP, meaning the contributed funds are loaned to the ESOP from
the Company. The Company entered into a loan agreement with the ESOP on December 29, 2016, pursuant to which the ESOP may
borrow up to $5.0 million to purchase shares of the Company’s common stock on the open market. Under the loan agreement, the
aggregate principal amount outstanding at any time may not exceed $5.0 million and the ESOP may borrow additional funds up to that
limit in the future, until December 29, 2036.
F - 27
Shares purchased by the ESOP are held in a suspense account for allocation among participants as contributions are made to the
ESOP by the Company. The share allocations will be accounted for at fair value at the date of allocation. As of December 31, 2017,
the ESOP had purchased 682,500 shares of the Company’s common stock in the open market for approximately $4.9 million, which
the ESOP borrowed from the Company pursuant to the loan agreement. A total of 33,832 shares with a fair value of $221,438 were
allocated or committed to be released from the suspense account and recognized as compensation cost during the twelve months ended
December 31, 2017. The remaining 648,668 unallocated shares have an approximate fair value of $4.2 million, as of December 31,
2017. At December 31, 2017, the ESOP held a total of 9,473 allocated shares, 24,359 committed-to-be-released shares and 648,668
suspense shares. Dividends on allocated shares are paid to the participants of the ESOP, while dividends on unallocated shares are
used to pay down the ESOP loan from the Operating Partnership.
Litigation – We are not involved in any material litigation, nor, to our knowledge, is any material litigation threatened against
us. We have settled, during the period covered by this report, all significant claims made during the same period. We are involved in
routine litigation arising out of the ordinary course of business, all of which we expect to be covered by insurance and we believe it is
not reasonably possible such matters will have a material impact on our financial condition or results of operations.
7. Preferred Stock and Units
Preferred Stock - The Company is authorized to issue up to 11,000,000 shares of preferred stock. As of December 31, 2017 and
2016, there were each 1,610,000 shares of the Series B Preferred Stock issued and outstanding. As of December 31, 2017 and 2016,
there were 1,300,000 and 0 shares, respectively, of the Series C Preferred Stock issued and outstanding.
In October 2017, the Company issued 1,300,000 shares of Series C Preferred Stock, for net proceeds after all estimated
expenses of approximately $30.5 million. The Company contributed the net proceeds from the offering to its Operating Partnership
for an equivalent number of Series C Preferred Units. Holders of the Company’s Series C Preferred Stock are entitled to receive
distributions when authorized by the Company’s board of directors out of assets legally available for the payment of distributions.
The Company pays cumulative cash distributions on the Series C Preferred Stock at a rate of 7.875% per annum of
the $25.00 liquidation preference per share. The Series C Preferred Stock is not redeemable by the holders, has no maturity date and is
not convertible into any other security of the Company or its affiliates.
On August 23, 2016, the Company issued 1,610,000 shares, $0.01 par value per share, of its Series B Preferred Stock for net
proceeds after all expenses of approximately $37.8 million, which it contributed to the Operating Partnership for an equivalent number
of preferred partnership units. Holders of the Company’s Series B Preferred Stock are entitled to receive distributions when authorized
by the Company’s board of directors out of assets legally available for the payment of distributions. The Company pays cumulative
cash distributions on the Series B Preferred Stock at a rate of 8.00% per annum of the $25.00 liquidation preference per share. The
Series B Preferred Stock is not redeemable by the holders, has no maturity date and is not convertible into any other security of the
Company or its affiliates.
Preferred Units – The Company is the holder of the Operating Partnership’s preferred partnership units, and is entitled to
receive distributions when authorized by our board of directors out of assets legally available for the payment of distributions.
In October 2017, the Operating Partnership issued 1,300,000 units of 7.875% Series C Preferred Units, for net proceeds after all
estimated expenses of approximately $30.5 million. The Operating Partnership used the net proceeds to redeem in full the Operating
Partnership’s 7% Notes and for working capital.
On August 23, 2016, the Operating Partnership issued 1,610,000 units, $0.01 par value per unit, of its 8% Series B Cumulative
Redeemable Perpetual Preferred Units (the “Series B Preferred Units”) for net proceeds after all expenses of approximately
$37.8 million. The Operating Partnership used the net proceeds to redeem in full the Operating Partnership’s 8.0% Notes and for
working capital.
F - 28
The Operating Partnership pays cumulative cash dividends on the Series B Preferred Units and Series C Preferred Units at a rate
of 8.00% and 7.875%, respectively per annum for each of the $25.00 liquidation preferences per unit. The Operating Partnership
declared and paid per Series B Preferred Units and Series C Preferred Units as follows:
The following table presents the quarterly distributions by the Operating Partnership declared and payable per Preferred B unit
for the years ended December 31, 2017, 2016, and 2015:
Quarter Ended
March 31,
June 30,
September 30,
December 31,
2015
2016
2017
— $
— $
— $
— $
$
—
—
$
.2111 (1) $
$
0.50
0.50
0.50
0.50
0.50
$
$
$
$
(1)
For the short period from August 23, 2016 to September 30, 2016.
The following table presents the quarterly distributions by the Operating Partnership declared and payable per Preferred C unit
for the years ended December 31, 2017, 2016, and 2015:
Quarter Ended
March 31,
June 30,
September 30,
December 31,
2015
2016
2017
$
$
$
$
— $
— $
— $
— $
— $
— $
— $
— $
—
—
—
.4430 (2)
(1)
(2)
For the short period from October 11, 2017 to December 31, 2017.
8. Common Stock and Units
Common Stock – The Company is authorized to issue up to 49,000,000 shares of common stock, $0.01 par value per share. Each
outstanding share of common stock entitles the holder to one vote on all matters submitted to a vote of stockholders. Holders of the
Company’s common stock are entitled to receive distributions when authorized by the Company’s board of directors out of assets
legally available for the payment of distributions. On December 2, 2016, the Company’s Board of Directors authorized a stock
repurchase program under which the Company may purchase up to $10.0 million of its outstanding common stock, par value $0.01
per share, at prevailing prices on the open market or in privately negotiated transactions, at the discretion of management. The
Company has and expects to continue to use available working capital to fund purchases under the stock repurchase program and
intends to complete the repurchase program prior to December 31, 2017, unless extended by the Board of Directors. For the years
ended December 31, 2017 and 2016 the Company repurchased 401,720 and 481,100 shares of common stock, respectively, for
approximately $2.7 million and $3.2 million, respectively, and the repurchased shares have been returned to the status of authorized
but unissued shares of common stock.
The following is a list of issuances during the years ended December 31, 2017, 2016, and 2015 of the Company’s common
stock:
On February 15, 2017, the Company was issued 12,000 units in the Operating Partnership and awarded 12,000 shares of
restricted stock to its independent directors.
On February 2, 2016, the Company was issued 36,250 units in the Operating Partnership and awarded an aggregate of 22,000
shares of unrestricted stock to certain executives and employees as well as 12,000 shares of restricted stock and 2,250 shares of
unrestricted stock to certain of its independent directors.
On February 1, 2016, two holders of units in the Operating Partnership redeemed 422,687 units for an equivalent number of
shares of the Company’s common stock.
On September 16, 2015, one holder of units in the Operating Partnership redeemed a total of 200,000 units for an equivalent
number of shares of the Company’s common stock.
On July 17, 2015, the Company sold 435,000 shares of common stock for net proceeds of approximately $2.8 million, which it
contributed to the Operating Partnership for an equivalent number of units.
F - 29
On July 1, 2015, the Company sold 3,000,000 shares of common stock, for net proceeds of approximately $19.8 million, which
it contributed to the Operating Partnership for an equivalent number of units.
During June 2015, the Company sold 98,682 shares of common stock for net proceeds of approximately $0.7 million, which it
contributed to the Operating Partnership for an equivalent number of units.
On May 1, 2015, one holder of units in the Operating Partnership redeemed a total of 50,000 units for an equivalent number of
shares of the Company’s common stock.
On April 1, 2015, one holder of units in the Operating Partnership redeemed 100,000 units for an equivalent number of shares of
the Company’s common stock.
On January 29, 2015, the Company was issued 36,100 units in the Operating Partnership and awarded an aggregate of 26,350
shares of unrestricted stock to certain executives and employees as well as 9,750 shares of restricted stock to certain of its independent
directors.
As of December 31, 2017 and 2016, the Company had 14,078,831 and 14,468,551 shares of common stock outstanding,
respectively.
Operating Partnership Units – Holders of Operating Partnership units, other than the Company as general partner, have certain
redemption rights, which enable them to cause the Operating Partnership to redeem their units in exchange for shares of the
Company’s common stock on a one-for-one basis or, at the option of the Company, cash per unit equal to the average of the market
price of the Company’s common stock for the 10 trading days immediately preceding the notice date of such redemption. The number
of shares issuable upon exercise of the redemption rights will be adjusted upon the occurrence of stock splits, mergers, consolidations
or similar pro-rata share transactions, which otherwise would have the effect of diluting the ownership interests of the limited partners
or the stockholders of the Company.
The following is a list of issuance and redemption events, since January 2015, of general and limited partnership units in the
Operating Partnership in addition to the issuances of units in the Operating Partnership to the Company and redemptions for the
Company’s common stock described above:
For the years ended December 31, 2017 and 2016, the Operating Partnership repurchased 401,720 and 481,100 units,
respectively, for approximately $2.7 million and $3.2 million, respectively, and the repurchased units have been returned to the status
of authorized but unissued units.
As of December 31, 2017 and 2016, the total number of Operating Partnership units outstanding was 15,856,971 and
16,246,691, respectively.
As of December 31, 2017 and 2016, the total number of outstanding units in the Operating Partnership not owned by the
Company was 1,778,140 and 1,778,140, respectively, with a fair market value of approximately $11.5 million and approximately
$12.1 million, respectively, based on the price per share of the common stock on such respective dates.
Common Unit Distributions – The following table presents the quarterly distributions by the Operating Partnership declared and
payable per common unit for the years ended December 31, 2017, 2016, and 2015:
Quarter Ended
March 31,
June 30,
September 30,
December 31,
2015
2016
2017
$
$
$
$
0.070 $
0.075 $
0.080 $
0.080 $
0.085 $
0.090 $
0.095 $
0.095 $
0.100
0.105
0.110
0.110
F - 30
9. Related Party Transactions
Chesapeake Hospitality. As of December 31, 2017, the members of Chesapeake Hospitality (a company that is majority-owned
and controlled by the Company’s chief executive officer and two former members of its Board of Directors) owned 1,481,833 shares,
approximately 10.5%, of the Company’s outstanding common stock as well as 652,326 Operating Partnership units. The following is a
summary of the transactions between Chesapeake Hospitality and us:
Accounts Receivable – At December 31, 2017 and 2016, we were due $113,669 and $133,711, respectively, from
Chesapeake Hospitality.
Management Agreements – Each of the hotels and the hotel condominium unit that we wholly-owned at December 31,
2017 and 2016, are operated by Chesapeake Hospitality under various management agreements.
On December 15, 2014, we entered into a new master agreement and a series of individual hotel management agreements
that became effective on January 1, 2015. The master agreement has a five-year term, but may be extended for such additional
periods as long as an individual management agreement remains in effect. The base management fee for the Whitehall and the
Georgian Terrace remained at 2.00% through 2015, increased to 2.25% in 2016 and increases to 2.50% thereafter. The base
management fees for the remaining properties in the current portfolio will be 2.65% through 2017 and decreases to 2.50%
thereafter. For new individual hotel management agreements, Chesapeake Hospitality will receive a base management fee of
2.00% of gross revenues for the first full year from the commencement date through the anniversary date, 2.25% of gross
revenues the second full year, and 2.50% of gross revenues for every year thereafter.
Base management fees earned by Chesapeake Hospitality totaled $4,044,059, $3,828,896 and $3,371,668 for the years
ended December 31, 2017, 2016, and 2015, respectively. In addition, incentive management fees of $126,918, $36,466 and
$79,555 were accrued for the years ended December 31, 2017, 2016, and 2015, respectively.
Employee Medical Benefits – We purchase employee medical benefits through Maryland Hospitality, Inc. (d/b/a MHI
Health), an affiliate of Chesapeake Hospitality for those employees that are employed by Chesapeake Hospitality that work
exclusively for our hotel properties. Gross premiums for employee medical benefits paid by the Company (before offset of
employee co-payments) were $4,801,599, $4,606,967 and $4,541,546 for the years ended December 31, 2017, 2016, and 2015,
respectively.
DoubleTree Resort by Hilton Hollywood Beach. As of December 31, 2017, we own 100% of the DoubleTree Resort by Hilton
Hollywood Beach, which is no longer considered a related party and has a new management agreement as of July 31,
2015. However, through July 31, 2015 we owned a 25.0% indirect interest in (i) the entity that owns the DoubleTree Resort by Hilton
Hollywood Beach and (ii) the entity that leases the hotel and has engaged Chesapeake Hospitality to operate the hotel under a
management contract. The following is a summary of the transactions between DoubleTree Resort by Hilton Hollywood Beach and
us:
Management Agreement – DoubleTree Resort by Hilton Hollywood Beach was operated by Chesapeake Hospitality under
a management agreement that expired August 2017. Under this agreement Chesapeake Hospitality received a base management
fee of 3.0% of gross revenues. Base management fees earned by Chesapeake Hospitality totaled $401,954, for the period ended
July 31, 2015.
Asset Management Fee – Also, under an asset management agreement that terminated on July 31, 2015, MHI Hospitality
TRS II, LLC, an indirect subsidiary of the Company, received a fee of 1.50% of total revenue which is due on a quarterly basis
for services rendered. Asset management fees for the period ended July 31, 2015, were $200,976.
Sotherly Foundation – During 2015, the Company loaned $180,000 to the Sotherly Foundation, a non-profit organization to
benefit wounded warriors. As of December 31, 2017 and 2016, the balance of the loan was $40,000 and $80,000, respectively.
Other Related Parties – On June 24, 2013 we hired Ashley S. Kirkland, the daughter of our Chief Executive Officer as a legal
analyst and Robert E. Kirkland IV, her husband, as our compliance officer. On October 2, 2014, we hired Andrew M. Sims Jr., the son
of our Chief Executive Officer, as a manager. Compensation for the years ended December 31, 2017, 2016 and 2015 totaled $304,737,
$291,508 and $272,022, respectively, for the three individuals.
On February 1, 2016, one current member of our Board of Directors redeemed 322,687 units for an equivalent number of shares
of the Company’s common stock, and one previous member of our Board of Directors redeemed 100,000 units for an equivalent
number of shares of the Company’s common stock, pursuant to the terms of the partnership agreement.
On September 16, 2015, one current member of our Board of Directors redeemed 200,000 units for an equivalent number of
shares of the Company’s common stock.
On April 1, 2015, one previous member of our Board of Directors redeemed 100,000 units for an equivalent number of shares of
the Company’s common stock.
F - 31
During the years ending December 31, 2017, 2016 and 2015, the Company reimbursed $178,345, $123,866 and $138,025,
respectively, to a partnership controlled by the Chief Executive Officer for business-related air travel pursuant to the Company’s travel
reimbursement policy.
10. Retirement Plans
We began a 401(k) plan for qualified employees on April 1, 2006. The plan is subject to “safe harbor” provisions which require
that we match 100.0% of the first 3.0% of employee contributions and 50.0% of the next 2.0% of employee contributions. All
employer matching funds vest immediately in accordance with the “safe harbor” provisions. Contributions to the plan for the years
ended December 31, 2017, 2016, and 2015 were $67,273, $63,944 and $40,768, respectively.
The Company adopted an Employee Stock Ownership Plan (“ESOP”) in December 2016, effective January 1, 2016. The ESOP
is a non-contributory defined contribution plan covering all employees of the Company. The Company sponsors and maintains the
ESOP and related trust for the benefit of its eligible employees. The ESOP is a leveraged ESOP, meaning funds are loaned to the
ESOP from the Company. The Company entered into a loan agreement with the ESOP on December 29, 2016, pursuant to which the
ESOP may borrow up to $5.0 million to purchase shares of the Company’s common stock on the open market, which serve as
collateral for the loan. Between January 3, 2017 and February 28, 2017, the Company’s ESOP purchased 682,500 shares of the
Company’s common stock of an aggregate cost of $4.9 million. Shares purchased by the ESOP are held in a suspense account for
allocation among participants. The share allocations are accounted for at fair value on the date of allocation as follows:
Allocated shares
Committed-to-be released shares
Total allocated and committed-to-be-
released
December 31, 2017
December 31, 2016
Number of
Shares
9,473
24,359
Fair Value
$ 64,321
157,117
Number of
Shares
-
-
Fair Value
$ —
—
33,832
$ 221,438
-
$ —
Unallocated shares
648,668
4,183,908
-
—
Total ESOP shares
682,500
$ 4,405,346
- $ —
F - 32
11. Unconsolidated Joint Venture
As of December 31, 2017 and 2016, we owned 100% of the DoubleTree Resort by Hilton Hollywood Beach. However, through
July 31, 2015 we owned only a 25.0% indirect interest in (i) the entity that owns the DoubleTree Resort by Hilton Hollywood
Beach and (ii) the entity that leases the hotel and has engaged Chesapeake Hospitality to operate the hotel under a management
contract. Carlyle owned a 75.0% indirect controlling interest in these entities through July 31, 2015. The joint venture purchased the
property on August 8, 2007 and began operations on September 18, 2007. Summarized financial information for this investment
through July 31, 2015, which is accounted for under the equity method, is as follows:
Revenue
Rooms department
Food and beverage department
Other operating departments
Total revenue
Expenses
Hotel operating expenses
Rooms department
Food and beverage department
Other operating departments
Indirect
Total hotel operating expenses
Depreciation and amortization
General and administrative
Total operating expenses
Operating income
Interest expense
Net income
Seven Months Ended
July 31, 2015
$
$
10,605,941
1,911,950
880,564
13,398,455
2,062,515
1,442,139
388,087
4,774,322
8,667,063
1,060,339
252,565
9,979,967
3,418,488
(1,516,433)
1,902,055
12. Indirect Hotel Operating Expenses
Indirect hotel operating expenses consists of the following expenses incurred by the hotels:
Sales and marketing
General and administrative
Repairs and maintenance
Utilities
Property taxes
Management fees, including incentive
Franchise fees
Insurance
Information and telecommunications
Other
Total indirect hotel operating expenses
2017
2016
2015
$
$
13,843,578 $
12,949,596
6,828,963
5,820,589
5,729,464
4,170,977
3,877,231
2,446,269
1,647,728
297,808
$
57,612,203
13,537,887 $
12,135,835
7,314,178
6,429,686
5,983,280
3,865,362
4,091,729
2,594,783
1,679,603
104,594
57,736,937 $
11,259,332
11,327,182
6,903,226
6,115,356
5,110,659
3,490,586
4,016,083
2,305,966
1,454,219
85,338
52,067,947
F - 33
13. Income Taxes
The components of the provision for (benefit from) income taxes for the years ended December 31, 2017, 2016, and 2015 are as
follows:
Current:
Federal
State
Deferred:
Federal
State
Year Ended
December 31, 2017
Year Ended
December 31, 2016
Year Ended
December 31, 2015
$
$
—
239,582
239,582
1,661,153
(162,931)
1,498,222
1,737,804
$
$
—
191,332
191,332
(1,294,408)
(264,558)
(1,558,966)
(1,367,634)
$
$
—
444,538
444,538
(1,510,726)
(269,845)
(1,780,571)
(1,336,033)
A reconciliation of the statutory federal income tax provision (benefit) to the Company’s provision for (benefit from) income tax
is as follows:
Statutory federal income tax provision (benefit)
Effect of non-taxable REIT income (loss)
Effect of change in federal income tax rate on net deferred tax assets
State income tax provision (benefit)
Year Ended
December 31, 2017
600,880
$
(1,621,526)
2,681,800
76,650
1,737,804
$
Year Ended
December 31, 2016
(158,859)
$
(1,135,549)
—
(73,226)
(1,367,634)
$
Year Ended
December 31, 2015
1,705,610
$
(2,866,950)
—
(174,693)
(1,336,033)
$
As of December 31, 2017 and 2016, we had a net deferred tax asset of approximately $5.5 million and $6.9 million,
respectively, of which, approximately $4.9 million and $6.0 million, respectively, are due to accumulated net operating losses of our
TRS Lessee. These loss carryforwards will begin to expire in 2028 if not utilized. As of December 31, 2017 and 2016, the remainder
of the deferred tax asset is attributable to year-to-year timing differences of approximately $0.6 million for accrued, but not deductible,
employee performance awards, vacation and sick pay, bad debt allowance and depreciation. At the end of the fiscal year, there was a
one-time loss effect resulting from a change in the federal income tax rate, due to the TCJA, on the net deferred tax assets which
resulted in lowering deferred tax assets in the amount of approximately $2.7 million.
We record a valuation allowance to reduce deferred tax assets to an amount that we believe is more likely than not to be
realized. Because of expected future taxable income of our TRS Lessee, we have not recorded a valuation allowance to reduce our net
deferred tax asset as of December 31, 2017. We regularly evaluate the likelihood that our TRS Lessee will be able to realize its
deferred tax assets and the continuing need for a valuation allowance. At December 31, 2017, we determined, based on all available
positive and negative evidence, that it is more-likely-than-not that future taxable income will be available during the carryforward
periods to absorb all of the consolidated federal and state net operating loss carryforward of our TRS Lessee. A number of factors
played a critical role in this determination, including:
•
•
•
a demonstrated track record of past profitability and utilization of past NOL carryforwards,
reasonable forecasts of future taxable income, and
anticipated changes in the lease rental payments from the TRS Lessee to subsidiaries of the Operating Partnership.
At December 31, 2017, we determined, based on all available positive and negative evidence, that it is more-likely-than-not that
future taxable income will be available during the carryforward periods to absorb all of the consolidated federal and state net operating
loss carryforward.
14. Income (Loss) per Share and per Unit
Income (Loss) Per Share. The limited partners’ outstanding limited partnership units in the Operating Partnership (which may
be redeemed for common stock upon notice from the limited partner and following our election to redeem the units for stock rather
F - 34
than cash) have been excluded from the diluted earnings per share calculation as there would be no effect on the amounts since the
limited partners’ share of income would also be added back to net income (loss). The shares of the Series B Preferred Stock and Series
C Preferred Stock are not convertible into or exchangeable for any other property or securities of the Company, except upon the
occurrence of a change of control and have been excluded from the diluted earnings per share calculation as there would be no impact
on the current controlling stockholders. The 648,668 non-committed, unearned ESOP shares are treated as reducing the number of
issued and outstanding common shares and similarly reducing the weighted average number of common shares outstanding. The
effect of allocated and committed to be released shares during the year ended December 31, 2017, have not been included in the
weighted average diluted earnings per share calculation, since there would be an anti-dilutive effect from the dilution by these shares,
although the amount of compensation for allocated shares is reflected in net income (loss) available to common stockholders for basic
computation. There are no ESOP units, therefore there is no dilution on the calculation of earnings per unit. The computation of basic
and diluted net income (loss) per share is presented below.
Numerator
Net income (loss) available to common stockholders for basic
and diluted computation
Denominator
Weighted average number of common shares outstanding
Weighted average number of Unearned ESOP Shares
Total weighted average number of common shares
outstanding for basic and diluted computation
Basic and diluted net income (loss) per share
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
December 31,
2015
$ (3,339,136)
$
(218,173)
$ 5,356,666
14,443,674
(614,574)
14,896,994
-
12,541,117
-
13,829,100
$
(0.24) $
14,896,994
12,541,117
0.43
(0.01) $
Income (Loss) Per Unit. The computation of basic and diluted income (loss) per unit is presented below.
Numerator
Net income (loss) available to common
unitholders for basic computation
Denominator
Weighted average number of units outstanding
Basic and diluted net income (loss) per unit
15. Quarterly Operating Results - Unaudited
Year Ended
December 31,
2017
Year Ended
December 31,
2016
Year Ended
December 31,
2015
$ (3,752,150)
$
(244,740)
$ 6,397,653
16,224,005
$
(0.23) $
16,710,935
14,924,410
0.43
(0.01) $
Total revenue
Total operating expenses
Net operating income
Net income (loss)
Net income (loss) attributable to common shareholders
Earnings (loss) per share attributable to common
shareholders– basic and diluted
Net income (loss) available to operating partnership
unitholders
Earnings (loss) per unit attributable to operating partnership
unitholders– basic and diluted
Quarters Ended 2017
June 30
March 31
September 30 December 31
$38,694,886 $40,642,632 $36,769,471 $38,159,704
32,989,182 35,178,717 34,595,193 35,339,712
5,705,704 5,463,915 2,174,278 2,819,992
2,886,032 1,135,719
(936,000) (3,056,262)
296,850 (1,550,555) (3,936,522)
1,851,090
$
0.13 $
0.02 $
(0.11) $
(0.29)
2,100,958
310,795 (1,741,000) (4,422,903)
$
0.13 $
0.02 $
(0.11) $
(0.27)
F - 35
Total revenue
Total operating expenses
Net operating income
Net income(loss)
Net income (loss) attributable to common shareholders
Earnings (loss) per share attributable to common
shareholders– basic and diluted
Net income (loss) available to operating partnership
unitholders
Earnings (loss) per unit attributable to operating partnership
unitholders– basic and diluted
Quarters Ended 2016
June 30
September 30 December 31
March 31
$37,810,144 $41,824,954 $37,275,312 $35,935,342
33,025,990 34,645,809 33,539,913 33,026,914
4,784,154 7,179,145 3,735,399 2,908,428
(74,084)
(746,140)
545,874 1,977,550 (1,549,191)
483,095 1,761,106 (1,716,234)
$
0.03 $
0.12 $
(0.11) $
(0.05)
545,874 1,977,550 (1,889,080)
(879,084)
$
0.03 $
0.12 $
(0.11) $
(0.05)
16. Subsequent Events
On January 11, 2018, we paid a quarterly dividend (distribution) of $0.11 per common share (and unit) to those stockholders
(and unitholders of the Operating Partnership) of record on December 15, 2017.
On January 30, 2018, we authorized payment of a quarterly dividend (distribution) of $0.115 per common share (and unit) to the
stockholders (and unitholders of the Operating Partnership) of record as of March 15, 2018. The dividend (distribution) is to be paid
on April 11, 2018.
On January 30, 2018, we authorized payment of a quarterly dividend of $0.50 per Series B Preferred Share (and unit) to the
preferred stockholders (and unitholders of the Operating Partnership) of record as of March 29, 2018. The dividend is to be paid on
April 16, 2018.
On January 30, 2018, we authorized payment of a quarterly dividend of $0.4922 per Series C Preferred Share (and unit) to the
preferred stockholders (and unitholders of the Operating Partnership) of record as of March 29, 2018. The dividend is to be paid on
April 16, 2018.
On February 1, 2018, we received the additional $5.0 million on the Hilton Wilmington Riverside mortgage loan after meeting
certain requirements, per the mortgage documents.
On February 12, 2018, the Company and the Operating Partnership closed on a sale and issuance by the Operating Partnership
of an aggregate $25.0 million of the 7.25% senior unsecured notes due 2021, unconditionally guaranteed by the Company, for net
proceeds after all estimated expenses of approximately $23.3 million.
On February 26, 2018, we entered into a First Amendment to Loan Agreement, Amended and Restated Promissory Note, and
other related documents with International Bank of Commerce to amend the terms of the mortgage loan on The Whitehall hotel
located in Houston, Texas. Pursuant to the amended loan documents, the maturity date is extended until February 26, 2023, the loan
amortizes on a 25-year schedule with payments of principal and interest beginning immediately, and an initial principal balance of
$15.0 million.
On March 1, 2018, we entered into a loan agreement, a first promissory note (“Note A”) in the amount of $50.0 million, a
second promissory note (“Note B”) in the amount of $7.0 million, and other loan documents, including a guarantee by the Operating
Partnership, to secure an aggregate $57.0 million mortgage on the Hyatt Centric Arlington hotel with Fifth Third Bank. Pursuant to
the mortgage loan documents, Note A has a term of 3 years, with two 1-year extension options, each of which subject to certain
criteria; bears a floating interest rate of one-month LIBOR plus 3.00%; and amortizes on a 25-year schedule. Pursuant to the
mortgage loan documents, Note B has a term of 1-year, with two 1-year extension options, each of which subject to certain criteria;
bears a floating interest rate of three-month LIBOR plus 5.00%.
On March 1, 2018, we acquired the 318-room Hyatt Centric Arlington hotel located in Arlington, Virginia for an aggregate
purchase price of $79.7 million including seller credits, subject to a $57.0 million mortgage. Transaction costs associated with the
transaction were approximately $0.1 million for the year ended December 31, 2017. Due to the timing and nature of the transaction,
we are continuing to evaluate the adjustments that are necessary to reflect the acquired assets and assumed liabilities to estimated fair
value. As a result, the acquired assets and assumed liabilities, fair value adjustments, and supplemental pro forma information that is
required will be disclosed in subsequent filings.
F - 36
n
o
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(
RECONCILIATION OF REAL ESTATE AND ACCUMULATED DEPRECIATION
RECONCILIATION OF REAL ESTATE
Balance at December 31, 2015
Acquisitions
Improvements
Disposal of Assets
Balance at December 31, 2016
Acquisitions
Improvements
Disposal of Assets
Balance at December 31, 2017
RECONCILIATION OF ACCUMULATED DEPRECIATION
Balance at December 31, 2015
Current Expense
Impairment
Disposal of Assets
Balance at December 31, 2016
Current Expense
Impairment
Disposal of Assets
Balance at December 31, 2017
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9,933
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F - 38
[THIS PAGE INTENTIONALLY LEFT BLANK]
[THIS PAGE INTENTIONALLY LEFT BLANK]
B oa rd o f D i re c to r s & E xe c u t i ve s
Andrew M. Sims
Chairman of the Board
Chief Executive Officer
Herschel J. Walker
Director
General Anthony C. Zinni
(USMC Ret.)
Director
David R. Folsom
Director
President
Chief Operating Officer
Edward S. Stein
Lead Director
David J. Beatty
Director
Audit Committee Chair
G. Scott Gibson IV
Director
Anthony E. Domalski
Chief Financial Officer
Sºtherly Hotels purchased
the Hilton
Savannah DeSoto in 2004 as part of its
initial public offering, and the property
subsequently underwent an extensive $12
million renovation in 2008. In 2017, Sºtherly
completed a $9.5 million renovation of the
hotel and relaunched it as The DeSoto, an
independent boutique hotel. This effort
included extensive upgrades to all 245 of the
hotel’s guestrooms as well as the lobby, pool,
meeting space, restaurants, and other public
areas.
Corporate Headquarters
410 West Francis Street
Williamsburg, VA 23185
Phone: 757.229.5648
Fax: 757.564.8801
Website
Information on SoTHERLY Hotels’
stock price, corporate news, SEC filings,
earnings releases and other financial data
can be found online at:
www.sotherlyhotels.com
Independent Auditors
Dixon Hughes Goodman LLP
440 Monticello Avenue, Suite 1400
Norfolk, VA 23510
Phone: 757.624.5100
Fax: 757.624.5233
Exchange Listings
SoTHERLY Hotels common shares
are listed on the NASDAQ® Stock Market
under the symbol:
SOHO