FORM 10-K
Table of Contents

UNITED STATES SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 2007

OR

¨ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to             .

Commission file number 1-14045

LASALLE HOTEL PROPERTIES

(Exact name of registrant as specified in its charter)

 

Maryland

 

36-4219376

(State or other jurisdiction

of incorporation or organization)

 

(IRS Employer

Identification No.)

3 Bethesda Metro Center, Suite 1200,

Bethesda, Maryland

 

20814

(Address of principal executive offices)   (Zip Code)

(301) 941-1500

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

  

Name of each exchange on

which registered

Common Shares of Beneficial Interest
($0.01 par value)

   New York Stock Exchange

8 3/8% Series B Cumulative Redeemable Preferred Shares
($0.01 par value)

   New York Stock Exchange

7 1/2% Series D Cumulative Redeemable Preferred Shares
($0.01 par value)

   New York Stock Exchange

8% Series E Cumulative Redeemable Preferred Shares
($0.01 par value)

   New York Stock Exchange

7 1/4% Series G Cumulative Redeemable Preferred Shares
($0.01 par value)

   New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.     Yes  x     No   ¨

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Exchange Act.    Yes  ¨    No  x

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.    Yes  x    No  ¨

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 the 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. ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Check one:

 

Large accelerated filer  x

 

Accelerated filer  ¨

 

Non-accelerated filer ¨

 

Smaller reporting company ¨

  (Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

The aggregate market value of the 39,780,612 common shares of beneficial interest held by non-affiliates of the registrant was approximately $1,727.3 million based on the closing price on the New York Stock Exchange for such common shares of beneficial interest as of June 29, 2007.

Number of the registrant’s common shares of beneficial interest outstanding as of February 15, 2008: 40,113,800.

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s Proxy Statement for its 2008 Annual Meeting of Shareholders to be held on or about April 24, 2008 are incorporated by reference in Part III of this report.

 


Table of Contents

LASALLE HOTEL PROPERTIES

INDEX

 

Item
No.

        Form 10-K
Report
Page
   PART I   
1.   

Business

   2
1A.   

Risk Factors

   5
1B.   

Unresolved Staff Comments

   10
2.   

Properties

   10
3.   

Legal Proceedings

   12
4.   

Submission of Matters to a Vote of Security Holders

   14
   PART II   
5.   

Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuers Purchases of Equity Securities

   14
6.   

Selected Financial Data

   18
7.   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   19
7A.   

Quantitative and Qualitative Disclosures About Market Risk

   39
8.   

Consolidated Financial Statements and Supplementary Data

   40
9.   

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   40
9A.   

Controls and Procedures

   40
   PART III   
10.   

Trustees, Executive Officers and Corporate Governance

   41
11.   

Executive Compensation

   41
12.   

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

   41
13.   

Certain Relationships and Related Transactions

   41
14.   

Principal Accountant Fees and Services

   41
   PART IV   
15.   

Exhibits and Financial Statement Schedules

   41


Table of Contents

Forward-Looking Statements

This report, together with other statements and information publicly disseminated by the Company, contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The Company intends such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995 and includes this statement for purposes of complying with these safe harbor provisions. Forward-looking statements, which are based on certain assumptions and describe the Company’s future plans, strategies and expectations, are generally identifiable by use of the words “believe,” “expect,” “intend,” “anticipate,” “estimate,” “project” or similar expressions. Forward-looking statements in this report include, among others, statements about the Company’s business strategy, including its acquisition and development strategies, industry trends, estimated revenues and expenses, ability to realize deferred tax assets, expected liquidity needs and sources (including capital expenditures and the ability to obtain financing or raise capital), and anticipated outcomes and consequences of pending litigation. You should not rely on forward-looking statements since they involve known and unknown risks, uncertainties and other factors that are, in some cases, beyond the Company’s control and which could materially affect actual results, performances or achievements. Factors that may cause actual results to differ materially from current expectations include, but are not limited to:

 

   

the Company’s dependence on third-party managers of its hotels, including its inability to implement strategic business decisions directly;

 

   

risks associated with the hotel industry, including competition, increases in wages, energy costs and other operating costs, actual or threatened terrorist attacks, any type of flu or disease-related pandemic, downturns in general and local economic conditions;

 

   

the availability and terms of financing and capital and the general volatility of securities markets;

 

   

risks associated with the real estate industry, including environmental contamination and costs of complying with the Americans with Disabilities Act and similar laws;

 

   

interest rate increases;

 

   

the possible failure of the Company to qualify as a REIT and the risk of changes in laws affecting REITs;

 

   

the possibility of uninsured losses; and

 

   

the risk factors discussed under the heading “Risk Factors” in this Annual report on Form 10-K.

Accordingly, there is no assurance that the Company’s expectations will be realized. Except as otherwise required by the federal securities laws, the Company disclaims any obligations or undertaking to publicly release any updates or revisions to any forward-looking statement contained herein (or elsewhere) to reflect any change in the Company’s expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based.

The “Company” means LaSalle Hotel Properties, a Maryland real estate investment trust, and one or more of its subsidiaries (including LaSalle Hotel Operating Partnership, L.P. (the “Operating Partnership”) and LaSalle Hotel Lessee, Inc. (“LHL”)), or, as the context may require, LaSalle Hotel Properties only or the Operating Partnership only.

 

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PART I

 

Item 1. Business

General

The Company was organized as a Maryland real estate investment trust on January 15, 1998 to buy, own, redevelop and lease upscale and luxury full-service hotels located in convention, resort and major urban business markets. As of December 31, 2007, the Company owned interests in 31 hotels with approximately 8,500 rooms/suites located in 11 states and the District of Columbia. Independent hotel operators manage the hotels. The Company is a self-managed and self-administered real estate investment trust (“REIT”) as defined in the Internal Revenue Code of 1986, as amended (the “Code”). A REIT is a legal entity that holds real estate interests, and that may reduce its federal taxable income to the extent it distributes taxable dividends to its shareholders.

Substantially all of the Company’s assets are held by, and all of its operations are conducted through, the Operating Partnership. The Company is the sole general partner of the Operating Partnership. The Company owned 99.7% of the common units of the Operating Partnership at December 31, 2007. The remaining 0.3% is held by limited partners who held 103,530 limited partnership common units at December 31, 2007. Common units of the Operating Partnership are redeemable for cash or, at the option of the Company, for a like number of common shares of beneficial interest, par value $0.01 per share, of the Company. A limited partner owns 2,348,888 Series C Preferred Units of limited partnership interest in the Operating Partnership having an aggregate liquidation value of approximately $58.7 million and bearing an annual cumulative distribution of 7.25% on the liquidation preference. The Series C Preferred Units are redeemable for cash, or at the election of the Company, 7.25% Series C Cumulative Redeemable Preferred Shares of beneficial interest of the Company. In addition, a limited partner owns 1,098,348 Series F Preferred Units of limited partnership interest in the Operating Partnership, having an aggregate liquidation value of approximately $27.5 million and bearing an annual cumulative distribution based on a floating rate equal to the London Interbank Offered Rate (“LIBOR”) plus 150 basis points on the liquidation preference. The Series F Preferred Units are redeemable for cash or, at the election of the Company, common shares of the Company. The hotels are leased under participating leases that provide for rental payments equal to the greater of (i) base rent or (ii) participating rent based on fixed percentages of gross hotel revenues.

The Company’s principal offices are located at 3 Bethesda Metro Center, Suite 1200, Bethesda, Maryland 20814. The Company’s website is www.lasallehotels.com. The Company makes available on its website free of charge its filings with the Securities and Exchange Commission, including its annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports.

Strategies and Objectives

The Company’s primary objectives are to provide a reliable stream of income to its shareholders through increases in distributable cash flow and to increase long-term total returns to shareholders through appreciation in the value of its common shares of beneficial interest. To achieve these objectives, the Company seeks to:

 

   

enhance the return from, and the value of, the hotels in which it owns interests and any additional hotels the Company may acquire or develop; and

   

invest in or acquire additional hotel properties on favorable terms.

The Company seeks to achieve revenue growth principally through:

 

   

renovations, repositionings and/or expansions at selected hotels;

   

acquisitions of full-service hotels located in convention, resort and major urban markets in the U.S. and abroad, especially upscale and luxury full-service hotels in such markets where the Company perceives strong demand growth or significant barriers to entry; and

   

selective development of hotel properties, particularly upscale and luxury full-service hotels in high barrier to entry and high demand markets where development economics are favorable.

 

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The Company intends to acquire additional hotels in urban and resort markets, consistent with the growth strategies outlined above and which may:

 

   

possess unique competitive advantages in the form of location, physical facilities or other attributes;

   

be available at significant discounts to replacement cost, including when such discounts result from reduced competition for hotels with long-term management and/or franchise agreements;

   

benefit from brand or franchise conversion or removal, new management, renovations or redevelopment or other active and aggressive asset management strategies; or

   

have expansion opportunities.

The Company continues to focus on eight primary urban markets; however, it will acquire assets in other markets if the investment is consistent with the Company’s strategies and return criteria. The primary urban markets are:

 

•     Boston

  

•     San Diego

•     Chicago

  

•     San Francisco

•     Los Angeles (West Hollywood)

  

•     Seattle

•     New York

  

•     Washington, DC

The Company seeks to grow through strategic relationships with premier, internationally recognized hotel operating companies, including Westin Hotels and Resorts, Sheraton Hotels and Resorts Worldwide, Inc., Hilton Hotels Corporation, Crestline Hotels and Resorts, Inc., Outrigger Lodging Services, Noble House Hotels and Resorts, Hyatt Hotels Corporation, Benchmark Hospitality, White Lodging Services Corporation, Gemstone Hotels & Resorts, LLC, Thompson Hotels, Sandcastle Resorts & Hotels, Davidson Hotel Company, Denihan Hospitality Group and the Kimpton Hotel & Restaurant Group, L.L.C. The Company believes that having multiple operators creates a network that will generate acquisition opportunities. In addition, the Company believes its acquisition capabilities are enhanced by its considerable experience, resources and relationships in the hotel industry specifically and the real estate industry generally.

Recent Developments

On January 14, 2008, the Company amended its senior unsecured credit facility by executing a commitment agreement increasing the credit facility from $300.0 million to $450.0 million. The additional commitments came from six banks that had previous commitments and one new bank. Terms and conditions of the senior unsecured credit facility were not modified.

Hotel Dispositions

On January 26, 2007, the Company sold the LaGuardia Airport Marriott hotel for $69.0 million, resulting in a gain of approximately $30.4 million. The asset was classified as held-for-sale effective January 10, 2007 at which time depreciation was suspended. The Company utilized the sale of the hotel as the disposition property in the reverse 1031 exchange established in conjunction with the Hotel Solamar acquisition in August 2006. As a result, the Company’s gain will be deferred for tax purposes.

Hotel Renovations

The Company believes that its regular program of capital improvements at the hotels, including replacement and refurbishment of furniture, fixtures and equipment, helps maintain and enhance its competitiveness and maximizes revenue growth under the participating leases.

On February 21, 2006, the Donovan House (formerly Washington Grande Hotel) was closed for renovations. The Company invested $25.8 million and $2.5 million in 2007 and 2006, respectively, excluding capitalized interest, and plans to invest an additional $9.8 million in 2008 to complete the renovation and repositioning similar to those performed on the Company’s DC Urban Collection purchased in March 2001. After completion of the renovation and repositioning, the hotel will be operated as a luxury high-style, independent hotel.

 

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The Chaminade Resort and Conference Center (excluding the spa and fitness center) was closed on November 18, 2007 and re-opened as scheduled on January 31, 2008 for renovations relating to an ongoing repositioning project. The Company invested $1.5 million, $3.7 million and $2.7 million in 2007, 2006 and 2005, respectively, excluding capitalized interest, and expects to invest an additional $5.2 million in 2008 to complete the project.

Tax Status

The Company has elected to be taxed as a REIT under Sections 856 through 860 of the Code. As a result, the Company generally is not subject to corporate income tax on that portion of its net income that is currently distributed to shareholders. A REIT is subject to a number of highly technical and complex organizational and operational requirements, including requirements with respect to the nature of its gross income and assets and a requirement that it currently distribute at least 90% of its taxable income. The Company may, however, be subject to certain state and local taxes on its income and property.

Effective January 1, 2001, the Company elected to operate its wholly-owned subsidiary, LHL, as provided for under the REIT Modernization Act as a taxable-REIT subsidiary. Accordingly, LHL is required to pay corporate income taxes at the applicable rates.

Seasonality

The Company’s hotels’ operations historically have been seasonal. Taken together, the hotels maintain higher occupancy rates during the second and third quarters. These seasonality patterns can be expected to cause fluctuations in the Company’s quarterly lease revenue under the participating leases with third-party lessees and hotel operating revenue from LHL.

Competition

The hotel industry is highly competitive. Each of the 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, average daily rate and room revenue per available room of the Company’s current hotels or at hotels acquired in the future. The Company may be competing for investment opportunities with entities that have substantially greater financial resources than the Company. These entities may generally be able to accept more risk than the Company can prudently manage, including risks with respect to the amount of leverage utilized, creditworthiness of a hotel operator or the geographic proximity of its investments. Competition may generally reduce the number of suitable investment opportunities offered to the Company and increase the bargaining power of property owners seeking to sell.

Environmental Matters

In connection with the ownership of hotels, the Company is 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 of hotels, the Company may be potentially liable for such costs.

The Company believes that its 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,

 

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the violation of which could have a material adverse effect on the Company. The Company has 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 its present properties.

Employees

The Company had 31 employees as of February 15, 2008. All persons employed in the day-to-day operations of the hotels are employees of the management companies engaged by the lessees to operate such hotels.

Additional Information

The Company has made available copies of the charters of the committees of the board of trustees, its code of ethics and conduct, its corporate governance guidelines and its whistleblower policy on its website at www.lasallehotels.com. Copies of these documents are available in print to any shareholder who requests them. Requests should be sent to LaSalle Hotel Properties, 3 Bethesda Metro Center, Suite 1200, Bethesda, Maryland 20814. Attn: Hans S. Weger, Corporate Secretary.

All reports filed with the Securities and Exchange Commission (“SEC”) may also be read and copied at the SEC’s public reference room at 100 F Street, N.E., Washington, DC 20549. Further information regarding the operation of the public reference room may be obtained by calling 1-800-SEC-0330. In addition, all of our filed reports can be obtained at the SEC’s website at www.sec.gov or through our website at www.lasallehotels.com.

Compliance with NYSE Corporate Governance Standards

Each year, the chief executive officer of each company listed on the New York Stock Exchange (“NYSE”) must certify to the NYSE that he or she is not aware of any violation by the company of NYSE corporate governance listing standards as of the date of certification, qualifying the certification to the extent necessary. In 2007, the Company’s chief executive officer timely submitted the required certification to the NYSE.

In addition, the NYSE requires each listed company to disclose that the company filed with the SEC, as an exhibit to the company’s most recently filed Annual report on Form 10-K, the certification regarding the quality of the company’s public disclosure required by Section 302 of the Sarbanes-Oxley Act of 2002. Attached as an exhibit to this Annual report on Form 10-K is such certificate, and this Form 10-K and the certificate has been filed with the SEC.

 

Item 1A. Risk Factors

Additional Factors that May Affect Future Results

The following risk factors and other information included in this Annual report on Form 10-K should be carefully considered. The risks and uncertainties described below are not the only ones the Company faces. Additional risks and uncertainties not presently known to the Company or that it may currently deem immaterial also may impair its business operations. If any of the following risks occur, the Company’s business, financial condition, operating results and cash flows could be materially adversely affected.

The Company’s return on its hotels depends upon the ability of the lessees and the hotel operators to operate and manage the hotels.

To maintain its status as a REIT, the Company is not permitted to operate any of its hotels. As a result, the Company is unable to directly implement strategic business decisions with respect to the operation and marketing of its hotels, such as decisions with respect to the setting of room rates, repositioning of a hotel, food and beverage prices and certain similar matters. Although the Company consults with the lessees and hotel operators with respect to strategic business plans, the lessees and hotel operators are under no obligation to implement any of the Company’s recommendations with respect to such matters. Thus, even if the Company believes its hotels are being operated inefficiently or in a manner that does not result in satisfactory occupancy rates, revenue per available room, average daily rates or operating profits, the Company may not have sufficient rights under its hotel operating

 

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agreements to enable it to force the hotel operator to change its method of operation. The Company generally can only seek redress if a hotel operator violates the terms of the applicable operating agreement, and then only to the extent of the remedies provided for under the terms of the agreement. Some of the Company’s operating agreements have lengthy terms and may not be terminable by the Company before the agreement’s expiration. In the event that the Company is able to and does replace any of its hotel operators, the Company may experience significant disruptions at the affected hotels, which may adversely affect its ability to make distributions to its shareholders.

The Company’s performance and its ability to make distributions on its shares are subject to risks associated with the hotel industry.

Competition for guests, increases in operating costs, dependence on travel and economic conditions could adversely affect the Company’s cash flow. The Company’s hotels are subject to all operating risks common to the hotel industry. These risks include:

 

   

competition for guests and meetings from other hotels including competition and pricing pressure from internet wholesalers and distributors;

 

   

increases in operating costs, including wages, benefits, insurance, property taxes and energy, due to inflation and other factors, which may not be offset in the future by increased room rates;

 

   

labor strikes, disruptions or lock outs that may impact operating performance;

 

   

dependence on demand from business and leisure travelers, which may fluctuate and be seasonal;

 

   

increases in energy costs, airline fares and other expenses related to travel, which may negatively affect traveling;

 

   

terrorism, terrorism alerts and warnings, military actions such as the engagement in Iraq, pandemics, or other medical events which may cause decreases in business and leisure travel; and

 

   

adverse effects of weak national, regional and local economic conditions.

These factors could adversely affect the ability of the lessees (including the Company’s taxable-REIT subsidiary lessees) to generate revenues and to make rental payments to the Company.

Unexpected capital expenditures could adversely affect the Company’s cash flow. Hotels require ongoing renovations and other capital improvements, including periodic replacement or refurbishment of furniture, fixtures and equipment. Under the terms of its leases, the Company is obligated to pay the cost of certain capital expenditures at the hotels, including new brand standards, and to pay for periodic replacement or refurbishment of furniture, fixtures and equipment. If capital expenditures exceed expectations, there can be no assurance that sufficient sources of financing will be available to fund such expenditures.

In addition, the Company has acquired hotels that are undergoing or will undergo significant renovation and may acquire additional hotels in the future that require significant renovation. Renovations of hotels involve numerous risks, including the possibility of environmental problems, construction cost overruns and delays, the effect on current demand, uncertainties as to market demand or deterioration in market demand after commencement of renovation and the emergence of unanticipated competition from other hotels.

The Company’s obligation to comply with financial covenants in its unsecured credit facilities and mortgages on some of its hotel properties could restrict its range of operating activities.

The Company has a senior unsecured credit facility with a syndicate of banks, which provides for a maximum borrowing of up to $450.0 million. The senior unsecured credit facility matures on April 13, 2011 and has a one-year extension option.

The Company’s credit facility contains financial covenants that could restrict its ability to incur additional indebtedness or make distributions on its shares. The senior unsecured credit facility contains certain financial covenants relating to debt service coverage, net worth and total funded indebtedness. It also contains financial covenants that, assuming no continuing defaults, allow the Company to make shareholder distributions. Availability under the credit facility may be reduced by hotel financing that the Company obtains outside the credit facility. The credit facility financial covenants could adversely affect the Company’s financial condition.

 

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LHL has an unsecured revolving credit facility with U.S. Bank National Association, which provides for a maximum borrowing of up to $25.0 million. The unsecured credit facility matures on April 13, 2011 and has a one-year extension option. The unsecured credit facility contains certain financial covenants relating to debt service coverage, minimum tangible net worth and total funded indebtedness.

The Sheraton Bloomington Hotel Minneapolis South, Westin City Center Dallas, Le Montrose Suite Hotel, San Diego Paradise Point Resort, Indianapolis Marriott Downtown, Hilton Alexandria Old Town, Hilton San Diego Gaslamp Quarter, Westin Copley Place, Hotel Deca, Le Parc Suite Hotel, Westin Michigan Avenue, Hotel Solamar, and Gild Hall (formerly Holiday Inn Manhattan Wall Street District), are each mortgaged to secure payment of indebtedness aggregating $762.3 million as of December 31, 2007. The Harborside Hyatt Conference Center & Hotel is mortgaged to secure payment of principal and interest on bonds with an aggregate par value of $42.5 million. If the Company is unable to meet mortgage payments, the mortgage securing the specific property could be foreclosed upon by, or the property could be otherwise transferred to, the mortgagee with a consequent loss of income and asset value to the Company. From time to time, the Company may mortgage additional hotels to secure payment of additional indebtedness.

As of December 31, 2007, the Company was in compliance with all debt covenants, current on all loan payments and not otherwise in default under the credit facilities or mortgages.

The Company’s performance is subject to real estate industry conditions and the terms of its leases.

Because real estate investments are illiquid, the Company may not be able to sell hotels when desired. Real estate investments generally cannot be sold quickly. The Company may not be able to vary its portfolio promptly in response to economic or other conditions. In addition, provisions of the Code limit a REIT’s ability to sell properties in some situations when it may be economically advantageous to do so.

Liability for environmental matters could adversely affect the Company’s financial condition. As an owner of real property, the Company is subject to various federal, state and local laws and regulations relating to the protection of the environment that may require a current or previous owner of real estate to investigate and clean-up hazardous or toxic substances at a property. These laws often impose such liability without regard to whether the owner knew of or caused the presence of the contaminants, and liability is not limited under the enactments and could exceed the value of the property and/or the aggregate assets of the owner. Persons who arrange for the disposal or treatment facility, whether or not such facility is owned or operated by the person may be liable for the costs of removal or remediation of such substance released into the environment at the disposal or treatment facility. Even if more than one person were responsible for the contamination, each person covered by the environmental laws may be held responsible for the entire amount of clean-up costs incurred.

Environmental laws also govern the presence, maintenance and removal of asbestos-containing materials. These laws impose liability for release of asbestos-containing materials into the air and third parties may seek recovery from owners or operators of real properties for personal injury associated with asbestos-containing materials. In connection with ownership (direct or indirect) of its hotels, the Company may be considered an owner or operator of properties with asbestos-containing materials. Having arranged for the disposal or treatment of contaminants, the Company may be potentially liable for removal, remediation and other costs, including governmental fines and injuries to persons and property.

The costs of compliance with the Americans with Disabilities Act and other government regulations could adversely affect the Company’s cash flow. Under the Americans with Disabilities Act of 1990, or ADA, all public accommodations are required to meet certain federal requirements related to access and use by disabled persons. A determination that the Company is not in compliance with the ADA could result in imposition of fines or an award of damages to private litigants. If the Company is required to make substantial modifications to its hotels, whether to comply with ADA or other government regulation such as building codes or fire safety regulations, its financial condition, results of operations and ability to make shareholder distributions could be adversely affected.

Certain leases and management agreements may constrain the Company from acting in the best interest of shareholders or require it to make certain payments. The Harborside Hyatt Conference Center & Hotel, San Diego

 

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Paradise Point Resort, and Hilton San Diego Resort are each subject to a ground lease with a third-party lessor which requires the Company to obtain the consent of the relevant third party lessor in order to sell any of these hotels or to assign its leasehold interest in any of the ground leases. A parking lot at the Sheraton Bloomington Hotel Minneapolis South is also subject to a ground lease with a third-party lessor; third-party lessor consent is required to assign the leasehold interest unless the assignment is in conjunction with the sale of the hotel. Accordingly, if the Company determines that the sale of any of these hotels or the assignment of its leasehold interest in any of these ground leases is in the best interest of its shareholders, the Company may be prevented from completing such a transaction if it is unable to obtain the required consent from the relevant lessor. The Indianapolis Marriott Downtown, Westin Copley Place, Hotel Solamar, and one of two golf courses, the Pines, at Seaview Resort and Spa are each subject to a ground or air rights lease and do not require approval from the relevant third-party lessor.

In some instances, the Company may be required to obtain the consent of the hotel operator or franchisor prior to selling the hotel. Typically, such consent is only required in connection with certain proposed sales, such as if the proposed purchaser is engaged in the operation of a competing hotel or does not meet certain minimum financial requirements. The operators of Harborside Hyatt Conference Center & Hotel, Alexis Hotel and Seaview Resort and Spa require approval of certain sales. The Company is subject to a franchisor’s right of first offer with respect to the Hilton Alexandria Old Town, Hilton San Diego Gaslamp Quarter and Hilton San Diego Resort.

The Westin City Center Dallas is a unit of a commercial condominium complex and is subject to a right of first refusal in favor of the owner of the remaining condominium units. The Hilton San Diego Gaslamp Quarter and Hotel Sax Chicago (formerly House of Blues Hotel) are each units of a commercial condominium complex and are not subject to a right of first refusal by the owner of the remaining condominium units. In addition, the Company is subject to certain rights of first refusal or similar rights with respect to the Seaview Resort and Spa.

If the Company determines to terminate a lease with a third-party lessee (other than in connection with a default by such lessee), it may be required to pay a termination fee calculated based upon the value of the lease.

Increases in interest rates may increase the Company’s interest expense.

As of December 31, 2007, $132.9 million of aggregate indebtedness (15.2% of total indebtedness) was subject to variable interest rates. An increase in interest rates could increase the Company’s interest expense and reduce its cash flow and may affect its ability to make distributions to shareholders and to service its indebtedness.

Failure to qualify as a REIT would be costly.

The Company has operated (and intends to so operate in the future) so as to qualify as a REIT under the Code beginning with its taxable year ended December 31, 1998. Although management believes that the Company is organized and operated in a manner to so qualify, no assurance can be given that the Company will qualify or remain qualified as a REIT.

If the Company fails to qualify as a REIT in any taxable year, it will be subject to federal income tax (including any applicable alternative minimum tax) on its taxable income at regular corporate rates. Moreover, unless entitled to relief under certain statutory provisions, the Company also will be disqualified from treatment as a REIT for the four taxable years following the year during which qualification was lost. This treatment would cause the Company to incur additional tax liabilities and would significantly impair the Company’s ability to service indebtedness, and reduce the amount of cash available to make new investments or to make distributions on its common shares of beneficial interest and preferred shares.

Current laws include provisions that could provide relief in the event the Company violates certain provisions of the Code that otherwise would result in its failure to qualify as a REIT. The Company cannot assure that these relief provisions would apply if the Company failed to comply with the REIT qualification laws. Even if the relief provisions do apply, the Company would be subject to a penalty tax of at least $50,000 for each disqualifying event in most cases.

 

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Property ownership through partnerships and joint ventures could limit the Company’s control of those investments.

Partnership or joint venture investments may involve risks not otherwise present for investments made solely by the Company, including the possibility that its co-investors might become bankrupt, might at any time have different interests or goals from those of the Company, and may take action contrary to the Company’s instructions, requests, policies or objectives, including its policy with respect to maintaining its qualification as a REIT. Other risks of joint venture investments include an impasse on decisions, such as a sale, because neither the Company’s co-investors nor the Company would have full control over the partnership or joint venture. There is no limitation under the Company’s organizational documents as to the amount of funds that may be invested in partnerships or joint ventures. As of December 31, 2007, the Company was not a party to any joint ventures.

Tax consequences upon a sale or refinancing of properties may result in conflicts of interest, and a hotel sale or refinancing may trigger tax indemnification obligations.

Holders of units of limited partnership interest in the Operating Partnership or co-investors in properties not owned entirely by the Company may suffer different and more adverse tax consequences than the Company upon the sale or refinancing of properties. The Company may have different objectives from these co-investors and unitholders regarding the appropriate pricing and timing of any sale or refinancing of these properties. While the Company, as the sole general partner of the Operating Partnership, has the exclusive authority as to whether and on what terms to sell or refinance each property owned solely by the Operating Partnership, one of its trustees who has interests in units of limited partnership interest may seek to influence the Company not to sell or refinance the properties, even though such a sale might otherwise be financially advantageous to it, or may seek to influence the Company to refinance a property with a higher level of debt.

In addition, in one case the Company has agreed to indemnify the sellers of a hotel acquired by the Company against certain tax consequences if the Company sells the hotel before a specific date. The Company could agree to additional similar tax indemnification obligations in connection with future acquisitions. These obligations may make it costly for the Company to sell the affected hotel during the indemnification period.

The Company may not have enough insurance.

The Company carries comprehensive liability, fire, flood, earthquake, extended coverage and business interruption policies that insure it against losses with policy specifications and insurance limits that the Company believes are reasonable. There are certain types of losses, such as losses from environmental problems or terrorism, that management may not be able to insure against or may decide not to insure against since the cost of insuring is not economical. The Company may suffer losses that exceed its insurance coverage. Further, market conditions, changes in building codes and ordinances or other factors such as environmental laws may make it too expensive to repair or replace a property that has been damaged or destroyed, even if covered by insurance.

The Company’s organizational documents and agreements with its executives and applicable Maryland law contain provisions that may delay, defer or prevent change of control transactions and may prevent shareholders from realizing a premium for their shares.

The Company’s trustees serve staggered three-year terms, the trustees may only be removed for cause and remaining trustees may fill board vacancies. The Company’s Board of Trustees is divided into three classes of trustees, each serving staggered three-year terms. In addition, a trustee may only be removed for cause by the affirmative vote of the holders of a majority of the Company’s outstanding common shares. The Company’s declaration of trust and bylaws also provide that a majority of the remaining trustees may fill any vacancy on the Board of Trustees and further effectively provide that only the Board of Trustees may increase or decrease the number of persons serving on the Board of Trustees. These provisions preclude shareholders from removing incumbent trustees, except for cause after a majority affirmative vote, and filling the vacancies created by such removal with their own nominees.

The Company’s Board of Trustees may approve the issuance of shares with terms that may discourage a third party from acquiring the Company. The Board of Trustees has the power under the declaration of trust to

 

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classify any of the Company’s unissued preferred shares, and to reclassify any of the Company’s previously classified but unissued preferred shares of any series from time to time, in one or more series of preferred shares, without shareholder approval. The issuance of preferred shares could adversely affect the voting power, dividend and other rights of holders of common shares and the value of the common shares.

The Company’s declaration of trust prohibits ownership of more than 9.8% of the common shares or 9.8% of any series of preferred shares. To qualify as a REIT under the Internal Revenue Code, no more than 50% of the value of the Company’s outstanding shares may be owned, directly or under applicable attribution rules, by five or fewer individuals (as defined to include certain entities) during the last half of each taxable year. The Company’s declaration of trust generally prohibits direct or indirect ownership by any person of (i) more than 9.8% of the number or value (whichever is more restrictive) of the outstanding common shares or (ii) more than 9.8% of the number or value (whichever is more restrictive) of the outstanding shares of any class or series of preferred shares. Generally, shares owned by affiliated owners will be aggregated for purposes of the ownership limitation. Any transfer of shares that would violate the ownership limitation will result in the shares that would otherwise be held in violation of the ownership limit being designated as “shares-in-trust” and transferred automatically to a charitable trust effective on the day before the purported transfer or other event giving rise to such excess ownership. The intended transferee will acquire no rights in such shares.

The Maryland Business Combination Statute applies to the Company. A Maryland “business combination” statute contains provisions that, subject to limitations, prohibit certain business combinations between the Company and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of the Company’s shares or an affiliate thereof) for five years after the most recent date on which the shareholder becomes an interested stockholder, and thereafter impose special shareholder voting requirements on these combinations.

The Board of Trustees may choose to subject the Company to the Maryland Control Share Act. A Maryland law known as the “Maryland Control Share Act” provides that “control shares” of a company (defined as shares which, when aggregated with other shares controlled by the acquiring shareholder, entitle the shareholder to exercise one of three increasing ranges of voting power in electing trustees) 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 shareholders 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’s bylaws currently provide that the Company is not subject to these provisions. However, the Board of Trustees, without shareholder approval, may repeal this bylaw and cause the Company to become subject to the Maryland Control Share Act.

Other provisions of the Company’s organization documents may delay or prevent a change of control of the Company. Among other provisions, the Company’s organizational documents provide that the number of trustees constituting the full Board of Trustees may be fixed only by the trustees and that a special meeting of shareholders may not be called by holders of common shares holding less than a majority of the outstanding common shares entitled to vote at such meeting.

The Company’s executive officers have agreements that provide them with benefits in the event of a change in control of the Company. The Company entered into agreements with its executive officers that provide them with severance benefits if their employment ends under certain circumstances within one year following a “change in control” of the Company (as defined in the agreements) or if the executive officer resigns for “good reason” (as defined in the agreements). These benefits could increase the cost to a potential acquirer of the Company and thereby prevent or deter a change in control of the Company that might involve a premium price for the common shares or otherwise be in the interests of the Company’s shareholders.

Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

Hotel Properties

 

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At December 31, 2007, the Company owned interests in the following 31 hotel properties:

 

Property

   Number of
Rooms/Suites
  

Location

1.   Sheraton Bloomington Hotel Minneapolis South (1)(4)

   564    Bloomington, MN

2.   Westin City Center Dallas (1)

   407    Dallas, TX

3.   Seaview Resort and Spa (5)

   297    Galloway, NJ (Atlantic City)

4.   Le Montrose Suite Hotel (1)

   133    West Hollywood, CA

5.   San Diego Paradise Point Resort (1)(2)

   462    San Diego, CA

6.   Harborside Hyatt Conference Center & Hotel (1)(2)

   270    Boston, MA

7.   Hotel Viking

   209    Newport, RI

8.   Topaz Hotel

   99    Washington, D.C.

9.   Hotel Rouge

   137    Washington, D.C.

10. Hotel Madera

   82    Washington, D.C.

11. Hotel Helix

   178    Washington, D.C.

12. Hotel George

   139    Washington, D.C.

13. The Liaison Capitol Hill (formerly Holiday Inn on the Hill)

   343    Washington, D.C.

14. Lansdowne Resort

   296    Lansdowne, VA

15. Indianapolis Marriott Downtown (1)(2)

   615    Indianapolis, IN

16. Hilton Alexandria Old Town (1)

   246    Alexandria, VA

17. Chaminade Resort and Conference Center

   156    Santa Cruz, CA

18. Hilton San Diego Gaslamp Quarter (1)

   283    San Diego, CA

19. The Grafton on Sunset

   108    West Hollywood, CA

20. Onyx Hotel

   112    Boston, MA

21. Westin Copley Place (1)(3)

   803    Boston, MA

22. Hotel Deca (1)

   158    Seattle, WA

23. Hilton San Diego Resort (2)

   357    San Diego, CA

24. Donovan House (formerly Washington Grande Hotel)

   212    Washington, D.C.

25. Le Parc Suite Hotel (1)

   154    West Hollywood, CA

26. Hotel Sax Chicago (formerly House of Blues Hotel)

   353    Chicago, IL

27. Westin Michigan Avenue (1)

   751    Chicago, IL

28. Alexis Hotel

   121    Seattle, WA

29. Hotel Solamar (1)(2)

   235    San Diego, CA

30. Gild Hall (formerly Holiday Inn Manhattan Wall Street District) (1)

   126    New York, NY

31. Hotel Amarano Burbank (formerly The Graciela Burbank)

   99    Burbank, CA
       

Total number of rooms/suites

   8,505   
       

 

(1)

Properties subject to a mortgage/debt.

(2)

Properties subject to long-term ground leases.

(3)

Property subject to long-term air rights lease.

(4)

The parking lot of this property is subject to a long-term ground lease.

(5)

One of the golf courses at this property is subject to a ground lease.

For each of calendar years 2006, 2005 and 2004, the Company notified Marriot International (“Marriott”) that it was terminating the management agreement at the Seaview Resort and Spa due to Marriott’s failure to meet certain hotel operating performance thresholds as defined in the management agreement. Pursuant to the management agreement, Marriott had the right to avoid termination by making cure payments within 60 days of notification. Marriott made cure payments totaling $9.2 million for the calendar years 2006, 2005 and 2004 to avoid termination. Marriott may recoup these amounts in the event certain future operating performance thresholds are

 

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attained. Marriott has recouped a total of $2.8 million for the calendar years 2006, 2005 and 2004. The remaining amount may still be recouped; therefore, the Company recorded a deferred liability of $6.4 million as of December 31, 2007. The following is a reconciliation of the cure payments and deferred liability as of and for the years ended December 31, 2007, 2006 and 2005 (dollars in thousands):

 

 

          Cure Payment            

Year Ended

December 31,

   Notification
Date
   Performance
Year
   Date    Amount    Recoup
Amount
     Deferred
Liability
Balance

2005

   March 11, 2005    2004    April 28, 2005    $ 2,394    $ (1,540 )    $ 854

2006

   March 9, 2006    2005    May 2, 2006    $ 3,715    $ (280 )    $ 4,289

2007

   February 22, 2007    2006    April 5, 2007    $ 3,083    $ (1,001 )    $ 6,371
                           
            $ 9,192    $ (2,821 )   
                           

Taxable-REIT Subsidiary Leases and Third-Party Leases

Of the 31 hotels in which the Operating Partnership has a 100% ownership interest, 29 are leased to LHL or a subsidiary of LHL and two (Le Montrose Suite Hotel and San Diego Paradise Point Resort) are leased to third-party lessees pursuant to a participating lease.

For each of the hotels leased by LHL or a subsidiary of LHL, the Company, through LHL, is subject to a hotel management agreement, earns all hotel revenues (subject to corporate income taxes applicable to LHL), and is responsible for all hotel expenses, including base management fees and incentive management fees, if any, pursuant to the terms of the respective management agreement. The leases with LHL expire between 2009 and 2013.

For each of the two hotels leased to a third-party lessee, the Company earns the greater of (i) base rent or (ii) participating rent based on fixed percentages of gross hotel revenues pursuant to the respective participating lease. In addition, the Company is responsible for the payment of real estate taxes, ground rent, if any, certain insurance, maintaining a reserve for future capital expenditures and payment of agreed upon capital expenditures. The third-party participating leases expire in 2008 and 2009. The Company intends to either renew the third-party leases or lease to LHL upon expiration.

 

Item 3. Legal Proceedings

The nature of the operations of the hotels exposes the hotels to the risk of claims and litigation in the normal course of their business. Although the outcome of these matters cannot be determined, management does not expect the ultimate resolution of these matters to have a material adverse effect on the financial position, operations or liquidity of the hotels.

The Company has engaged Starwood Hotels & Resorts Worldwide, Inc. to manage and operate its Dallas hotel under the Westin brand affiliation. Meridien Hotels, Inc. (“Meridien”) affiliates had been operating the Dallas property as a wrongful holdover tenant, until the Westin brand conversion occurred on July 14, 2003 under court order.

On December 20, 2002, affiliates of Meridien abandoned the Company’s New Orleans hotel. The Company entered into a lease with a wholly-owned subsidiary of LHL and an interim management agreement with Interstate Hotels & Resorts, Inc., and re-named the hotel the New Orleans Grande Hotel. The New Orleans property thereafter was sold on April 21, 2003 for $92.5 million.

In connection with the termination of the Meridien affiliates at these hotels, the Company is currently in litigation with Meridien and related affiliates. The Company understands that Lehman Brothers is now the real party in interest after having acquired a controlling stake in the Meridien entities that are parties to the Dallas and New Orleans lawsuits. The Company believes its sole potential obligation in connection with the termination of the leases is to pay fair market value of the leases, if any. With respect to the Dallas hotel, the Company has obtained a judgment from the court that Meridien defaulted and that Meridien is not entitled to the payment of fair market value. The Company’s damage claims against Meridien went to trial in March 2005, and a final judgment was

 

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entered for the Company in the amount of $3.9 million, plus post-judgment interest. Meridien has noticed an appeal and the Company has noticed an appeal as well. The Dallas appeal was heard on November 28, 2007, and the matter is under submission to the Court. With respect to the New Orleans hotel, arbitration of the fair market value of the New Orleans lease commenced in October 2002. On December 19, 2002, the arbitration panel determined that Meridien was entitled to an award of $5.7 million, subject to adjustment (reduction) by the courts to account for Meridien’s holdover. In order to dispute the arbitration decision, the Company was required to post a $7.8 million surety bond, which was secured by $5.9 million of restricted cash. The Company successfully challenged the award on appeal, and the dispute was remanded to the trial court. Meridien’s request for rehearing was denied on March 31, 2004, and Meridien did not petition to the Louisiana Supreme Court. In June 2004, the $7.8 million surety bond was released and the $5.9 million restricted cash securing it was returned to the Company. The issue of default by the lessee and the Company’s wrongful holdover claim, as well as Meridien’s damage claims arising from the termination of its leasehold, among other claims, went to trial in February 2005. On June 9, 2005, the trial court issued its judgment denying the Company’s default claim as well as Meridien’s fraud claim, and re-determined fair market value of the lease to be $8.6 million, plus interest. On July 18, 2005, the Company posted a $8.6 million surety bond, which was secured by $9.0 million of restricted cash. On May 26, 2006, the trial court entered judgment awarding Meridien attorney’s fees of $4.1 million. The Company has noticed an appeal from the trial court’s judgment. On July 11, 2006, the Company posted a $4.2 million bond which is collateralized by a letter of credit. On August 15, 2006, the Company replaced the restricted cash collateral on the $8.6 million bond and obtained a new $12.8 million letter of credit which serves as collateral for the $8.6 million bond and the $4.2 million bond. The Louisiana court of appeals heard argument on the Company’s appeal from the trial court’s judgment on April 3, 2007, and a decision is pending.

In 2002, the Company recognized a net $2.5 million contingent lease termination expense and reversed previously deferred assets and liabilities related to the termination of both the New Orleans property and Dallas property leases and recorded a corresponding contingent liability included in accounts payable and accrued expenses in the accompanying consolidated balance sheets. The Company believes, however, it is owed holdover rent per the lease terms due to Meridien’s failure to vacate the properties as required under the leases. The contingent lease termination expense was, therefore, net of the holdover rent the Company believes it is entitled to for both properties. In 2003, the Company adjusted this liability by additional holdover rent of $0.8 million that it believes it is entitled to for the Dallas property. These amounts were recorded as other income in the Company’s December 31, 2003 consolidated statement of operations. The contingent lease termination expense recognized cumulatively since 2002 is comprised of (dollars in thousands):

 

 

Expense Recognized
For the Year Ended

   Estimated
Arbitration
“Award”
   Legal Fees
Related to
Litigation
   Holdover
Rent
     Expected
Reimbursement
of Legal fees
    Net
Contingent
Lease
Termination

December 31, 2002(1)

   $ 5,749    $ 2,610    $ (4,844 )    $ (995 )   $ 2,520

December 31, 2003

     —        —        —          —         —  

December 31, 2004

     —        1,350      —          (500 )     850

December 31, 2005

     —        1,000      —          —         1,000

December 31, 2006

     —        800      —          —         800

December 31, 2007

     —        —        —          —         —  
                                     

Cumulative Expense Recognized as of December 31, 2007

   $ 5,749    $ 5,760    $ (4,844 )    $ (1,495 )       $ 5,170
                                     

 

(1) Recognized in quarter ended December 31, 2002.

In September 2004 and June 2005, after evaluating the ongoing Meridien litigation, the Company accrued additional net legal fees of $0.9 million and $1.0 million, respectively, due to litigation timeline changes. In September 2006, after further evaluation of the ongoing Meridien litigation, the Company accrued an additional $0.8 million in legal fees due to timeline changes in order to conclude this matter. As a result, the net contingent lease termination liability has a balance of $1.6 million as of December 31, 2007, which is included in accounts payable and accrued expenses in the accompanying consolidated balance sheets. Based on the claims the Company has

 

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against Meridien, the Company is and will continue to challenge Meridien’s claim that it is entitled to the payment of fair market value, and will continue to seek reimbursement of legal fees and damages. These amounts may exceed or otherwise may be used to offset any amounts potentially owed to Meridien, and therefore, ultimately may offset or otherwise reduce any contingent lease termination expense. Additionally, the Company cannot provide any assurances that the holdover rents or any damages will be collectible from Meridien or that the amounts due will not be greater than the recorded contingent lease termination expense.

The Company maintained a lien on Meridien’s security deposit on both disputed properties with an aggregate value of $3.3 million, in accordance with the lease agreements. The security deposits were liquidated in May 2003 with the proceeds used to partially satisfy Meridien’s outstanding obligations. The judgment entered by the Dallas Court already incorporates a set-off in the amount of $1.0 million attributable to the security deposit for the Dallas property.

The Company does not believe that the amount of any fees or damages it may be required to pay on any of the litigation related to Meridien will have a material adverse effect on the Company’s financial condition or results of operations, taken as a whole. The Company’s management has discussed this contingency and the related accounting treatment with the audit committee of its Board of Trustees.

The Company accrues for future legal fees related to contingent liabilities based upon management’s estimate. The Company is not presently subject to any other material litigation nor, to the Company’s knowledge, is any other litigation threatened against the Company, other than routine actions for negligence or other claims and administrative proceedings arising in the ordinary course of business, some of which are expected to be covered by liability insurance and all of which collectively are not expected to have a material adverse effect on the liquidity, results of operations or business or financial condition of the Company.

 

Item 4. Submission of Matters to a Vote of Security Holders

There were no matters submitted to a vote of the Company’s shareholders during the fourth quarter of the year covered by this Annual report on Form 10-K.

PART II

 

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities

Market Information

The common shares of the Company began trading on the NYSE on April 24, 1998 under the symbol “LHO.” The following table sets forth, for the periods indicated, the high and low sale prices per common share and the cash distributions declared per share:

 

     Calendar Year 2007    Calendar Year 2006
     High    Low    Distribution    High    Low    Distribution

First Quarter

   $ 48.99    $ 41.31    $0.42    $ 41.90    $ 35.94    $0.30

Second Quarter

   $ 49.28    $ 42.53    $0.51    $ 46.45    $ 40.30    $0.42

Third Quarter

   $ 49.75    $ 38.12    $0.51    $ 48.32    $ 40.01    $0.42

Fourth Quarter

   $ 47.43    $ 31.04    $0.51    $ 47.11    $ 40.65    $0.42

The closing price for the Company’s common shares, as reported by the NYSE on December 31, 2007, was $31.90 per share.

 

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SHARE PERFORMANCE GRAPH

The following graph provides a comparison of the cumulative total return on the Common Shares from December 31, 2002 to the NYSE closing price per share on December 31, 2007 with the cumulative total return on the Standard & Poor’s 500 Composite Stock Price Index (the “S&P 500”) and the FTSE National Association of Real Estate Investment Trusts Equity REITs Index (“FTSE NAREIT Equity Index”). Total return values were calculated assuming a $100 investment on December 31, 2002 with reinvestment of all dividends in (i) the Common Shares, (ii) the S&P 500 and (iii) the FTSE NAREIT Equity Index.

LOGO

The actual returns shown on the graph above are as follows:

 

Name

   Initial
investment at
December 31,
2002
   Value of initial
investment at
December 31,
2003
   Value of initial
investment at
December 31,
2004
   Value of initial
investment at
December 31,
2005
   Value of initial
investment at
December 31,
2006
   Value of initial
investment at
December 31,
2007

LaSalle Hotel Properties

   $100.00    $140.19    $249.30    $297.31    $385.03    $279.21

S&P 500 Index

   $100.00    $128.68    $142.68    $149.69    $173.33    $184.13

FTSE NAREIT Equity Index

   $100.00    $137.13    $180.44    $202.38    $273.34    $230.45

Shareholder Information

As of February 15, 2008, there were 112 record holders of the Company’s common shares of beneficial interest, including shares held in “street name” by nominees who are record holders, and approximately 23,900 beneficial holders.

Distribution Information

For 2007, the Company paid $1.95 per common share in distributions of which $1.78 was recognized as 2007 distributions for tax purposes. Of the $1.78, 93.2% represented ordinary income, and 6.8% represented return of capital, for tax purposes. These distributions were paid monthly to the Company’s common shareholders and common unitholders at a level of $0.14 and $0.17 per common share and limited partnership common unit for the months of January 2007 through March 2007, and April 2007 through December 2007, respectively.

 

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For 2006, the Company paid $1.56 per common share in distributions, of which 52.3% represented ordinary income, 20.7% represented capital gain and 27.0% represented Unrecaptured Section 1250 Gain for tax purposes. These distributions were paid monthly to the Company’s common shareholders and common unitholders at a level of $0.10 and $0.14 per common share and limited partnership common unit for the months of January 2006 through March 2006, and April 2006 through December 2006, respectively.

The declaration of distributions by the Company is in the sole discretion of the Company’s Board of Trustees, and depends on the actual cash flow of the Company, its financial condition, capital expenditure requirements for the Company’s hotels, the annual distribution requirements under the REIT provisions of the Code and such other factors as the Board of Trustees deems relevant.

Operating Partnership Units and Recent Sales of Unregistered Securities

The Operating Partnership issued 3,181,723 common units of limited partnership interest on April 24, 1998 (inception), in conjunction with the initial public offering. The following is a summary of common unit activity since inception:

 

Common units issued at initial public offering

   3,181,723  

Common units redeemed to common shares of beneficial interest:

  

1999-2004

   (2,815,300 )

2005

   (240,000 )

2006

   (109,560 )

2007

   —    

Common units issued:

  

2000

   16,667  

2006

   70,000  
      

Common units outstanding at December 31, 2007

   103,530  
      

Holders of common units of limited partnership interest receive distributions per unit in the same manner as distributions on a per common share basis to the common shareholders of beneficial interest.

Common shares issued upon redemption of common units of limited partnership interest were issued in reliance on an exemption from registration under Section 4(2) of the Securities Act of 1933. The Company relied on the exemption based on representations given by the limited partners that redeemed the units.

On August 31, 2005, in connection with the Company’s acquisition of the Westin Copley Place in Boston, Massachusetts, and as part of the consideration for the hotel acquisition, the Operating Partnership issued 2,348,888 Series C Preferred Units of limited partnership interest designated as the “7.25% Series C Cumulative Redeemable Preferred Units (liquidation preference $25.00 per unit).” The issuance of the Series C Preferred Units was effected in reliance upon an exemption from registration provided by Section 4(2) under the Securities Act of 1933. The Company relied on the exemption based on representations given by the seller receiving the units. A holder of Series C Preferred Units receives an annual preferred distribution of 7.25% of the $25.00 per unit liquidation value, or $1.8125 per unit.

On November 17, 2006, in connection with the Company’s acquisition of the Gild Hall (formerly Holiday Inn Manhattan Wall Street District), and as part of the consideration for the hotel acquisition, the Operating Partnership issued 1,098,348 Series F Preferred Units of limited partnership interest designated as the “Floating Rate Series F Cumulative Redeemable Preferred Units” with a liquidation preference $25.00 per unit. The issuance of the Series F Preferred Units was effected in reliance upon an exemption from registration provided by Section 4(2) under the Securities Act of 1933. The Company relied on the exemption based on representations given by the seller receiving the units. A holder of Series F Preferred Units receives an annual preferred distribution based upon a floating rate multiplied by the liquidation value per unit.

 

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Item 6. Selected Financial Data

The following tables set forth selected historical operating and financial data for the Company. The selected historical operating and financial data for the Company for the years ended December 31, 2007, 2006, 2005, 2004 and 2003 have been derived from the historical financial statements of the Company. The following selected financial information should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and all of the financial statements and notes thereto included elsewhere in this Annual report on Form 10-K.

 

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LASALLE HOTEL PROPERTIES

Selected Historical Operating and Financial Data

(Unaudited, dollars in thousands, except share data)

 

     For the year ended December 31,  
     2007     2006     2005     2004      2003  

Operating Data:

           

Revenues:

           

Hotel operating revenues

   $ 629,603     $ 563,002     $ 341,474     $ 235,236      $ 142,191  

Participating lease revenue

     27,193       25,401       21,527       18,635        21,284  

Other income

     5,637       6,050       862       187        915  
                                         

Total revenues

     662,433       594,453       363,863       254,058        164,390  

Expenses:

           

Hotel operating expenses

     400,487       365,747       232,938       165,815        104,185  

Depreciation and amortization

     92,338       77,019       46,790       36,775        29,292  

Real estate taxes, personal property taxes and insurance

     32,562       27,212       13,828       10,029        7,464  

Ground rent

     6,964       6,433       3,986       3,493        3,561  

General and administrative

     13,574       12,403       10,216       8,342        7,276  

Impairment of investment in hotel property

     —         —         —         —          2,453  

Lease termination expense

     —         800       1,000       850        10  

Other expenses

     2,966       3,010       185       632        251  
                                         

Total operating expenses

     548,891       492,624       308,943       225,936        154,492  

Operating income

     113,542       101,829       54,920       28,122        9,898  

Interest income

     1,386       1,875       748       368        365  

Interest expense

     (46,289 )     (42,408 )     (24,351 )     (15,345 )      (15,049 )
                                         

Income (loss) before income tax benefit, minority interest, equity in earnings of joint venture and discontinued operations

     68,639       61,296       31,317       13,145        (4,786 )

Income tax (expense) benefit

     (3,075 )     277       1,979       3,499        5,410  

Minority interest of common units in Operating Partnership

     (248 )     (137 )     (274 )     (265 )      (20 )

Minority interest of preferred units in Operating Partnership

     (6,120 )     (4,485 )     (1,419 )     —          —    

Equity in earnings of joint venture

     27       38,420       753       853        304  
                                         

Income from continuing operations

     59,223       95,371       32,356       17,232        908  

Net income from discontinued operations

     30,532       3,689       3,040       5,991        37,933  
                                         

Net income

     89,755       99,060       35,396       23,223        38,841  

Distributions to preferred shareholders

     (24,344 )     (25,604 )     (14,629 )     (12,532 )      (10,805 )

Issuance costs of redeemed preferred shares

     (3,868 )     —         —         —          —    
                                         

Net income applicable to common shareholders

   $ 61,543     $ 73,456     $ 20,767     $ 10,691      $ 28,036  
                                         

Net income (loss) from continuing operations applicable to common shareholders per common share:

           

basic (after dividends paid on unvested restricted shares)

   $ 0.77     $ 1.77     $ 0.57     $ 0.17      $ (0.50 )
                                         

diluted (before dividends paid on unvested restricted shares)

   $ 0.77     $ 1.76     $ 0.57     $ 0.17      $ (0.48 )
                                         

Net income applicable to common shareholders per common share:

           

basic (after dividends paid on unvested restricted shares)

   $ 1.53     $ 1.86     $ 0.67     $ 0.39      $ 1.39  
                                         

diluted (before dividends paid on unvested restricted shares)

   $ 1.53     $ 1.85     $ 0.67     $ 0.39      $ 1.37  
                                         

Weighted average number of common shares outstanding:

           

basic

     39,852,182       39,356,881       30,637,644       26,740,506        20,030,723  

diluted

     40,113,388       39,667,917       31,104,290       27,376,934        20,487,406  

 

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     For the year ended December 31,  
     2007     2006     2005     2004     2003  

Balance Sheet Data:

          

Investment in hotel properties, net

   $ 1,885,423     $ 1,932,141     $ 1,392,344     $ 739,733     $ 595,976  

Total assets

     2,111,320       2,151,451       1,499,468       859,596       707,904  

Borrowings under credit facilities

     70,416       —         30,655       —         —    

Bonds payable

     42,500       42,500       42,500       42,500       42,500  

Mortgage loans, including loan premiums

     762,904       767,477       489,660       211,810       187,157  

Minority interest of common units in Operating Partnership

     747       3,686       2,597       4,554       5,721  

Minority interest of preferred units in Operating Partnership

     87,652       87,428       59,739       —         —    

Preferred shares, liquidation preference

     294,250       394,048       206,548       127,298       127,298  

Total shareholders’ equity

     1,038,136       1,145,066       811,082       554,074       436,853  
     For the year ended December 31,  
     2007     2006     2005     2004     2003  

Other Data:

          

Funds from operations (1)

   $ 123,442     $ 114,151     $ 70,451     $ 48,448     $ 26,844  

Earnings before interest, taxes, depreciation, and amortization (1)

   $ 237,808     $ 225,179     $ 109,864     $ 76,333     $ 87,282  

Cash provided by operating activities

     168,228       156,842       84,754       55,084       41,194  

Cash used in investing activities

     (60,709 )     (546,824 )     (411,953 )     (172,468 )     (52,709 )

Cash (used in) provided by financing activities

     (144,495 )     442,855       305,250       114,725       39,755  

Cash dividends declared per common share

   $ 1.95     $ 1.56     $ 1.08     $ 0.90     $ 0.84  

 

(1) See “Non-GAAP Financial Measures” below in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations for a detailed description and reconciliation of funds from operations and earnings before interest, taxes, depreciation and amortization to net income applicable to common shareholders.

 

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Overview

2007 was an excellent year for the Company. We achieved record funds from operations (“FFO”) per diluted share and earnings before interest, taxes, depreciation and amortization (“EBITDA”) per diluted share, increased our common dividend and implemented and managed the largest redevelopment and repositioning program in our Company’s history. However, in the latter months of the year, the U.S economy weakened from a falling housing market and resulting credit crunch. Since the lodging business typically lags the overall economy, the industry did not experience a material impact in 2007. In fact, lodging trends were healthy for the year with supply and demand roughly in balance and strong pricing power across the industry.

For 2007, the Company had net income applicable to common shareholders of $61.5 million, or $1.53 per diluted share. FFO was $123.4 million, or $3.07 per diluted share/unit and EBITDA was $237.8 million. RevPAR was $148.58. We consider RevPAR and EBITDA to be key measures of the performance of the individual hotels. RevPAR for the total portfolio increased 5.4% for 2007. The RevPAR increase is primarily attributable to an Average Daily Rate (“ADR”) increase of 4.7% to $200.78, while occupancy throughout the portfolio improved by 0.7% to 74.0%. The Company’s EBITDA increased 5.6% due to strong pricing power, increased demand and aggressive asset management. The Company’s hotel portfolio EBITDA increased 8.3% to $217.6 million due to higher ADR, improved occupancy, cost containment and energy saving initiatives. However, RevPAR, FFO and EBITDA were negatively impacted in 2007 due to construction and rooms out of service from our extensive redevelopment and repositioning program.

 

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The Company measures hotel performance by evaluating financial metrics such as RevPAR, FFO and EBITDA.

The Company evaluates the hotels in its portfolio and potential acquisitions using the measures discussed above to determine each portfolio hotel’s contribution or acquisition hotel’s potential contribution toward reaching the Company’s goal of maintaining a reliable stream of income and moderate growth to shareholders. The Company invests in capital improvements throughout the portfolio to continue to increase the competitiveness of its hotels and improve their financial performance. The Company actively seeks to acquire new hotel properties that meet its investment criteria. However, due to a high level of competitive capital resources, the Company continues to face significant competition for acquisitions that meet its investment criteria.

Please refer to “Non-GAAP Financial Measures” below for a detailed discussion of the Company’s use of FFO and EBITDA and a reconciliation of FFO and EBITDA to net income, a U.S. generally accepted accounting principles (GAAP) measurement.

Critical Accounting Policies

The consolidated financial statements include the accounts of the Company, the Operating Partnership, LHL and the Company’s other consolidated subsidiaries and partnerships. All significant intercompany balances and transactions have been eliminated.

Use of Estimates

The preparation of the consolidated financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of certain 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. In preparing these financial statements, management has utilized the information available including its past history, industry standards and the current economic environment, among other factors, in forming its estimates and judgments of certain amounts included in the consolidated financial statements, giving due consideration to materiality. For example, included in the accompanying consolidated financial statements is an estimated lease termination expense of zero, $0.8 million, and $1.0 million for the years ended December 31, 2007, 2006 and 2005, respectively, related to the Company’s litigation with Meridien (see Item 3. Legal Proceedings). Additionally, included in the accompanying consolidated financial statements is an estimated liability of $1.6 million related to the Company’s litigation with Meridien (see Item 3. Legal Proceedings), an estimated allowance for doubtful accounts of $0.7 million and an estimated deferred tax asset of $15.1 million as of December 31, 2007. Management believes that it is more likely than not that this deferred tax asset will be realized and has determined that no valuation allowance is required.

It is possible that the ultimate outcome as anticipated by management in formulating its estimates inherent in these financial statements might not materialize. However, application of the critical accounting policies below involves the exercise of judgment and use of assumptions as to future uncertainties and, as a result, actual results could differ from those estimates. In addition, other companies may determine these estimates differently, which may impact comparability of the Company’s results of operations to those of companies in similar businesses.

Revenue Recognition

For properties leased to third-party lessees, the Company recognizes lease revenue on an accrual basis pursuant to the terms of the respective participating leases. Base rent and participating rent are recognized based on quarterly thresholds, pursuant to the lease agreements. As of December 31, 2007, the Company leased two of its properties, Le Montrose Suite Hotel and San Diego Paradise Point Resort, to third parties. For properties leased by LHL, the Company recognizes hotel operating revenue on an accrual basis consistent with the hotel operations. As of December 31, 2007, 29 of the 31 hotels in which the Company owned an interest were leased to LHL.

For the Lansdowne Resort, the Company defers golf membership initiation fees and social membership initiation fees and recognizes revenue over the average expected life of an active membership (currently six years)

 

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on a straight-line basis. Golf membership, social membership, health club and executive club annual dues are recognized as earned throughout the membership year.

Investment in Hotel Properties

Upon acquisition, the Company allocates the purchase price of asset classes based on the fair value of the acquired real estate, furniture, fixtures and equipment, assumed debt, and intangible assets. The Company’s investments in hotel properties are carried at cost and are depreciated using the straight-line method over an estimated useful life of 30 to 40 years for buildings, 15 years for building improvements, 7 years for land improvements, 20 years for golf course land improvements, 20 years for pool assets, and 3 to 5 years for furniture, fixtures and equipment. Renovations and/or replacements that improve or extend the life of the asset are capitalized and depreciated over their estimated useful lives.

The Company is required to make subjective assessments as to the useful lives and classification of its properties for purposes of determining the amount of depreciation expense to reflect each year with respect to those properties. These assessments have a direct impact on the Company’s net income. Should the Company change the expected useful life or classification of particular assets, it would result in a change in depreciation expense and annual net income.

The Company periodically reviews the carrying value of each hotel to determine if circumstances exist indicating impairment to the carrying value of the investment in the hotel or that depreciation periods should be modified. If facts or circumstances support the possibility of impairment, the Company will prepare an estimate of the undiscounted future cash flows, without interest charges, of the specific hotel and determine if the investment in such hotel is recoverable based on the undiscounted future cash flows. If impairment is indicated, an adjustment will be made to the carrying value of the hotel to reflect the hotel at fair value. These assessments have a direct impact on the Company’s net income. The Company does not believe that there are any facts or circumstances indicating impairment in the carrying value of any of its hotels.

In accordance with the provisions of Financial Accounting Standards Board Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” a hotel is considered held for sale when a contract for sale is entered into, a substantial, non-refundable deposit has been committed by the purchaser, and sale is expected to occur within one year.

Share-Based Compensation

Prior to January 1, 2006, the Company accounted for stock-based compensation utilizing the intrinsic value method in accordance with the provisions of Accounting Principles Board Opinion No. 25 (APB 25), “Accounting for Stock Issued to Employees” and related Interpretations. Accordingly, no compensation expense was recognized for fixed option plans because the exercise prices of employee stock options equaled or exceeded the market prices of the underlying stock on the dates of grant.

Effective January 1, 2006, the Company adopted the fair value recognition provisions of SFAS No. 123R, “Share-Based Payment” using the modified prospective transition method. Among other items, SFAS 123R eliminates the use of APB 25 and the intrinsic value method of accounting, and requires companies to recognize the cost of employee services received in exchange for awards of equity instruments, based on the grant date fair value of those awards, in the financial statements.

Under the modified prospective method, compensation cost is recognized in the financial statements based on the requirements of SFAS 123R for all share-based payments granted or modified after the effective date, and, based on the requirements of SFAS 123, for all unvested awards granted prior to the effective date of SFAS 123R. The Company has not issued any share option awards since 2002. The Company recognizes compensation cost for restricted shares issued based upon the fair market value of the common shares at the grant date, adjusted for forfeitures. Compensation cost is recognized on a straight-line basis over the vesting period.

 

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Comparison of the Year Ended December 31, 2007 to the Year Ended December 31, 2006

The travel industry and the lodging business improved during 2007. On a year-over-year basis, overall industry demand was up 1.2% in 2007 and supply growth was up 1.4% for the same period, with average daily rate (“ADR”) increasing an impressive 5.9%. Pricing power was strong in 2007, with almost every major market and price segment in the United States showing ADR and room revenue per available room (“RevPAR”) increases. Urban market RevPAR increased 8.6% primarily from increased business transient travel and group travel in 2007, while leisure was healthy but not as strong. Leisure softness was likely from weakness in the housing market, a slowing economy and high gas prices. Hotel occupancy, ADR, operating revenues and operating expenses for our portfolio were significantly impacted in 2007 due to business displacement from renovations and repositionings at approximately half of the portfolio. However, these renovations and repositionings should benefit the performance of the Company for the next 3 to 4 years.

Hotel operating revenues

Hotel operating revenues from the hotels leased to LHL (29 hotels as of December 31, 2007), including room revenue, food and beverage revenue and other operating department revenues (which includes golf, telephone, parking, and other ancillary revenues) increased $66.6 million from $563.0 million in 2006 to $629.6 million in 2007. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$13.4 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$9.3 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$7.6 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006;

 

   

$7.3 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$2.1 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$2.0 million increase from Le Parc Suite Hotel, which was purchased in January 2006; and

 

   

No increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006, primarily due to an extensive renovation that took place at the hotel during 2007.

The remaining increase of $24.9 million is attributable to a $19.7 million increase in room revenue, $3.2 million increase in food and beverage revenue, $2.0 million increase in golf and other ancillary revenue from the remaining hotels leased to LHL. The increase in room revenue was a result of an increase in RevPAR which was primarily attributable to an increase in ADR at the remaining hotels.

Participating lease revenue

Participating lease revenue from hotels leased to third-party lessees (two hotels as of December 31, 2007) increased $1.8 million from $25.4 million in 2006 to $27.2 million in 2007. Participating lease revenue includes (i) base rent and (ii) participating rent based on fixed percentages of hotel revenues pursuant to the respective participating lease. An increase of $0.9 million is from San Diego Paradise Point Resort primarily due to a 3.1% increase in RevPAR in 2007. The remaining increase of $0.9 million is due to a 16.7% increase in RevPAR in 2007 at LeMontrose Suite Hotel.

Other income

Other income decreased $0.5 million from $6.1 million in 2006 to $5.6 million in 2007. This is primarily due to the $1.1 million gain on termination of the interest rate swap recorded in 2006 related to the Indianapolis Marriott Downtown, partially offset by a $0.6 million increase in income from retail leases at the Alexis Hotel and the Hotel Sax Chicago (formerly House of Blues Hotel) in 2007.

Hotel operating expenses

Hotel operating expenses increased approximately $34.8 million from $365.7 million in 2006 to $400.5 million in 2007. This increase includes amounts that are not comparable year-over-year as follows:

 

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$8.1 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$5.1 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$4.4 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006;

 

   

$3.7 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$2.5 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$2.1 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006; and

 

   

$0.5 million increase from Le Parc Suite Hotel, which was purchased in January 2006.

The remaining increase of $8.4 million is due to increases in payroll and related employee costs and benefits, sales and marketing, franchise and management fees, and property maintenance expenses at the remaining hotels.

Depreciation and amortization

Depreciation and amortization expense increased $15.3 million from $77.0 million in 2006 to $92.3 million in 2007. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$2.3 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006;

 

   

$2.2 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$2.1 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$1.3 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$1.0 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$1.0 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006; and

 

   

$0.3 million increase from Le Parc Suite Hotel, which was purchased in January 2006.

The remaining change is an increase of $5.1 million related to building improvements and purchases of furniture, fixtures and equipment at the remaining hotels during 2007 and 2006.

Real estate taxes, personal property taxes, insurance and ground rent

Real estate taxes, personal property taxes, insurance and ground rent expense increased $5.9 million from $33.6 million in 2006 to $39.5 million in 2007. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$1.1 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$1.0 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$0.6 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$0.4 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006;

 

   

$0.2 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$0.1 million increase from Le Parc Suite Hotel, which was purchased in January 2006; and

 

   

No increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006, due to a reduction to real estate tax expense in 2007 as a result of actual 2006 real estate taxes being less than estimated.

The remaining increase of $2.5 million is a result of an increase in real estate taxes offset by decrease in insurance premiums and personal property taxes at the remaining hotels.

 

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General and administrative expenses

General and administrative expense increased $1.2 million from $12.4 million in 2006 to $13.6 million in 2007 primarily as a result of increases in compensation costs and other consulting fees.

Interest expense

Interest expense increased $3.9 million from $42.4 million in 2006 to $46.3 million in 2007 due to an increase in the Company’s weighted average debt outstanding, partly offset by a decrease in the weighted average interest rate and an increase in capitalized interest. The Company’s weighted average debt outstanding related to continuing operations increased from $741.0 million in 2006 to $842.0 million in 2007, which includes increases from:

 

   

assumption of the mortgage and additional borrowing to purchase the Le Parc Suite Hotel in January 2006;

 

   

additional borrowing to purchase the Hotel Sax Chicago (formerly House of Blues Hotel) in March 2006;

 

   

additional borrowing to purchase the Westin Michigan Avenue in March 2006;

 

   

additional borrowing to purchase the Hotel Solamar in August 2006;

 

   

assumption of the mortgage and additional borrowings to purchase the Gild Hall (formerly Holiday Inn Manhattan Wall Street District) in November 2006;

 

   

redemption of the Series A Preferred Shares in March 2007; and

 

   

additional borrowings under the Company’s credit facility to finance other capital improvements during 2007.

The above borrowings were offset by paydowns on outstanding debt from proceeds from:

 

   

a February 2006 common share offering;

 

   

a February 2006 preferred share offering;

 

   

a November 2006 preferred share offering;

 

   

the sale of LaGuardia in January 2007; and

 

   

operating cash flows.

The Company’s weighted average interest rate related to continuing operations decreased from 5.3% in 2006 to 5.2% in 2007. Capitalized interest increased by $1.6 million from $2.6 million in 2006 to $4.2 million in 2007, primarily due to the closing and the ongoing renovations at the Donovan House (formerly Washington Grande Hotel).

Income taxes

Income tax expense increased $3.4 million from an income tax benefit of $0.4 million in 2006 to an income tax expense of $3.0 million in 2007. For 2007, the REIT incurred state and local income tax expense of $0.9 million. LHL’s income before income tax expense increased $1.0 million from income of $3.5 million in 2006 to income of $4.5 million in 2007. Accordingly, in 2007, LHL recorded a current federal income tax expense of $0.1 million and a deferred federal income tax expense of $1.6 million (using an estimated tax rate of 30.8%). Also, in 2007, LHL recorded a current state and local tax expense of $0.3 million and a deferred state and local tax expense of $0.1 million (using an estimated tax rate of 8.2%). The following table summarizes the change in income tax expense (benefit) (dollars in thousands):

 

     For the year ended
December 31,
 
     2007    2006  

REIT state and local tax expense (benefit)

   $ 913    $ (1,539 )

LHL federal, state and local tax expense

     2,093      1,138  
               

Total tax expense (benefit)

     3,006      (401 )

Less: LHL federal, state and local tax benefit related to discontinued operations

     69      124  
               

Total tax expense (benefit) from continuing operations

   $ 3,075    $ (277 )
               

 

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As of December 31, 2007, the Company had a deferred tax asset of $15.1 million primarily due to past years’ tax net operating losses. These loss carryforwards will expire in 2022 through 2027 if not utilized by then. Management believes that it is more likely than not that this deferred tax asset will be realized and has determined that no valuation allowance is required.

Minority interest

Minority interest of common units in the Operating Partnership represents the common units limited partners’ proportionate share of the equity in the Operating Partnership. Income is allocated to the common units minority interest based on the weighted average percentage ownership throughout the year. At December 31, 2007, the limited partners held 0.3% of the common units of the Operating Partnership. The following table summarizes the change in the common units minority interest (dollars in thousands):

 

     For the year ended
December 31,
 
     2007     2006  

Operating Partnership net income before common units minority interest

   $ 96,594     $ 105,326  

Weighted average common units minority interest percentage

     0.258 %     0.135 %
                

Common units minority interest allocation

     249       142  

Less: minority interest allocation related to discontinued operations

     (1 )     (5 )
                

Total allocation of minority interest to continuing operations

   $ 248     $ 137  
                

Distributions on preferred units increased from $4.5 million in 2006 to $6.1 million in 2007 as a result of the Preferred F Units issued in 2006 being outstanding for a full year in 2007.

Discontinued operations

Net income from discontinued operations increased $26.8 million from $3.7 million in 2006 to $30.5 million in 2007. Net income from discontinued operations is a result of the sale of the LaGuardia Airport Marriott (“LaGuardia”) in January 2007. The following table summarizes net income from discontinued operations for 2007 and 2006 (dollars in thousands):

 

     For the year ended
December 31,
 
     2007     2006  

Net lease income from LaGuardia

   $ 240     $ 3,868  

Net operating loss from LaGuardia

     (177 )     (298 )

Gain on sale of LaGuardia

     30,401       —    

Minority interest expense related to LaGuardia

     (1 )     (5 )

Income tax benefit related to LaGuardia

     69       124  
                

Net income from discontinued operations

   $ 30,532     $ 3,689  
                

Distributions to preferred shareholders

Distributions to preferred shareholders decreased $1.3 million from $25.6 million in 2006 to $24.3 million in 2007. The decrease was due to an $8.4 million decrease related to a partial year of distributions on the Series A Preferred Shares all of which were redeemed in March 2007, offset by an increase of $7.1 million due to a full year of distributions of the Series E and G Preferred Shares which were issued in 2006.

Comparison of the Year Ended December 31, 2006 to the Year Ended December 31, 2005

The economy, the travel industry and the lodging business all improved during 2006. On a year-over-year basis, overall industry demand for hotel rooms outpaced supply growth with demand up 1.1% in 2006 and supply up only 0.6% for the same period. These positive lodging industry fundamentals led to increases in average daily rates. Pricing power was even stronger in 2006 than in 2005, with more major markets around the

 

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United States participating due to higher occupancy levels. It was the fourth year in the lodging industry’s recovery and was the third year in a row of meaningful increases in RevPAR following the down years of 2001 and 2002. Business transient travel and group travel were particularly strong in 2006, while leisure was healthy but not as strong. Leisure weakness was likely from a slowing economy and high gas prices primarily in the second and third quarters. Group business continued to recover, with overall group volumes and food and beverage contributions up in 2006. International visitation was up for the third year in a row, benefiting international gateway markets in the U.S., including New York, Boston, San Francisco, Los Angeles and Seattle.

Hotel operating revenues

Hotel operating revenues from the hotels leased to LHL (29 hotels as of December 31, 2006 excluding LaGuardia), including room revenue, food and beverage revenue, and other operating department revenue (which includes golf, telephone, parking, retail and other ancillary revenues) increased $221.5 million, from $341.5 million in 2005 to $563.0 million in 2006. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$59.3 million increase from Westin Copley Place, which was purchased in August 2005;

 

   

$59.3 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$29.8 million increase from Hilton San Diego Resort, which was purchased in December 2005;

 

   

$19.9 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006;

 

   

$9.2 million increase from Le Parc Suite Hotel, which was purchased in January 2006;

 

   

$8.8 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$5.5 million increase from Hotel Deca, which was purchased in December 2005;

 

   

$5.5 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$3.0 million increase from Onyx Hotel, which was purchased in May 2005;

 

   

$1.1 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$0.2 million increase from Donovan House (formerly Washington Grande Hotel), which was purchased in December 2005; and

 

   

$0.1 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006.

The remaining increase of $19.8 million is attributable to a $12.3 million increase in room revenue and $7.5 million increase in food and beverage, golf and other ancillary revenue from the remaining hotels leased to LHL. The increase in room revenue was a result of an increase in RevPAR which was primarily attributable to an increase in ADR at the remaining hotels. The increase in food and beverage, golf, and other ancillary revenue at the remaining hotels was a result of increased occupancy and golf activity.

Participating lease revenue

Participating lease revenue from hotels leased to third-party lessees (two hotels during 2006 and 2005) increased $3.9 million from $21.5 million in 2005 to $25.4 million in 2006. Participating lease revenue includes (i) base rent and (ii) participating rent based on fixed percentages of hotel revenues pursuant to the respective participating lease. An increase of $2.8 million is from San Diego Paradise Point Resort primarily due to a 14.2% increase in RevPAR in 2006. The remaining increase of $1.1 million is due to a 24.6% increase in RevPAR in 2006 at LeMontrose Suite Hotel.

Other income

Other income increased $5.2 million from $0.9 million in 2005 to $6.1 million in 2006. This increase is primarily due to income from the retail leases at Hotel Sax Chicago (formerly House of Blues Hotel) and Alexis Hotel, and the gain on termination of the interest rate swap.

 

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Hotel operating expenses

Hotel operating expenses increased $132.8 million from $232.9 million in 2005 to $365.7 million in 2006. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$39.2 million increase from Westin Copley Place, which was purchased in August 2005;

 

   

$34.1 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$20.5 million increase from Hilton San Diego Resort, which was purchased in December 2005;

 

   

$10.4 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006;

 

   

$5.2 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$4.7 million increase from Le Parc Suite Hotel, which was purchased in January 2006;

 

   

$3.7 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$2.7 million increase from Hotel Deca, which was purchased in December 2005;

 

   

$1.9 million increase from Onyx Hotel, which was purchased in May 2005;

 

   

$0.6 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006;

 

   

$0.4 million increase from Donovan House (formerly Washington Grande Hotel), which was purchased in December 2005; and

 

   

$0.1 million increase from Hotel Amarano Burbank (formerly The Graciela Burbank), which was purchased in December 2006.

The remaining increase of $9.3 million, is a result of higher occupancies which in turn increase service costs at the remaining hotels as well as above-inflation increases in payroll and related employee costs and benefits, sales and marketing, franchise and management fees, property maintenance expenses, and energy costs at the remaining hotels.

Depreciation and amortization

Depreciation and amortization expense increased $30.2 million from $46.8 million in 2005 to $77.0 million in 2006. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$8.9 million increase from Westin Copley Place, which was purchased in August 2005;

 

   

$7.4 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

   

$3.1 million increase from Hilton San Diego Resort, which was purchased in December 2005;

 

   

$2.6 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006;

 

   

$1.5 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$1.3 million increase from Le Parc Suite Hotel, which was purchased in January 2006;

 

   

$0.7 million increase from Hotel Deca, which was purchased in December 2005;

 

   

$0.6 million increase from Alexis Hotel, which was purchased in June 2006;

 

   

$0.2 million increase from Onyx Hotel, which was purchased in May 2005; and

 

   

$0.2 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006.

The remaining change is an increase of $3.7 million related to building improvements and purchases of furniture, fixtures and equipment at the remaining hotels during 2006 and 2005.

Real estate taxes, personal property taxes, insurance and ground rent

Real estate taxes, personal property taxes, insurance and ground rent expense increased $15.8 million from $17.8 million in 2005 to $33.6 million in 2006. This increase includes amounts that are not comparable year-over-year as follows:

 

   

$4.2 million increase from Westin Michigan Avenue, which was purchased in March 2006;

 

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$3.3 million increase from Hilton San Diego Resort, which was purchased in December 2005;

 

   

$3.1 million increase from Westin Copley Place, which was purchased in August 2005;

 

   

$2.4 million increase from Hotel Sax Chicago (formerly House of Blues Hotel), which was purchased in March 2006;

 

   

$0.7 million increase from Le Parc Suite Hotel, which was purchased in January 2006;

 

   

$0.6 million increase from Hotel Solamar, which was purchased in August 2006;

 

   

$0.2 million increase from Onyx Hotel, which was purchased in May 2005;

 

   

$0.2 million increase from Hotel Deca, which was purchased in December 2005;

 

   

$0.1 million increase from Alexis Hotel, which was purchased in June 2006; and

 

   

$0.1 million increase from Gild Hall (formerly Holiday Inn Manhattan Wall Street District), which was purchased in November 2006.

The remaining increase of $0.9 million, is a result of an increase in personal property taxes, insurance premiums and ground rent at the remaining hotels. Real estate taxes generally increased; however, these were partly offset by reductions in assessments due to appeals.

General and administrative expenses

General and administrative expense increased $2.2 million from $10.2 million in 2005 to $12.4 million in 2006 primarily as a result of increases in payroll related expenses, amortization of long-term equity awards, director fees, audit fees, tax fees, and other professional fees.

Interest expense

Interest expense increased $18.0 million from $24.4 million in 2005 to $42.4 million in 2006 due to an increase in the Company’s weighted average debt outstanding, and an increase in the weighted average interest rate, partly offset by an increase in capitalized interest. The Company’s weighted average debt outstanding related to continuing operations increased from $435.0 million in 2005 to $741.0 million in 2006, which includes increases from:

 

   

assumption of the mortgage and additional borrowing to purchase the Westin Copley Place in August 2005;

 

   

assumption of the mortgage and additional borrowing to purchase the Hotel Deca in December 2005;

 

   

additional borrowing to purchase the Hilton San Diego Resort in December 2005;

 

   

additional borrowing to purchase the Donovan House (formerly Washington Grande Hotel) in December 2005;

 

   

assumption of the mortgage and additional borrowing to purchase the Le Parc Suite Hotel in January 2006;

 

   

additional borrowing to purchase the Hotel Sax Chicago (formerly House of Blues Hotel) in March 2006;

 

   

additional borrowing to purchase the Westin Michigan Avenue in March 2006;

 

   

additional borrowing to purchase the Hotel Solamar in August 2006;

 

   

assumption of the mortgage and additional borrowings to purchase the Gild Hall (formerly Holiday Inn Manhattan Wall Street District) in November 2006; and

 

   

additional borrowings under the Company’s credit facility to finance other capital improvements during 2006.

The above borrowings were offset by paydowns on outstanding debt from proceeds from:

 

   

an August 2005 preferred share offering;

 

   

an October 2005 common share offering;

 

   

a December 2005 common share offering;

 

   

a February 2006 common share offering;

 

   

a February 2006 preferred share offering;

 

   

a November 2006 preferred share offering; and

 

   

operating cash flows.

 

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The Company’s weighted average interest rate related to continuing operations increased from 4.9% in 2005 to 5.3% in 2006. Capitalized interest increased by $1.4 million from $1.2 million in 2005 to $2.6 million in 2006, primarily due to the closing and the ongoing renovations at the Donovan House (formerly Washington Grande Hotel).

Income taxes

Income tax benefit decreased $1.7 million from $2.1 million in 2005 to $0.4 million in 2006. For 2006, the REIT realized state and local income tax benefit of $1.5 million (including $1.7 million from state and local income tax refunds and adjustments). LHL’s net income before income tax expense increased $12.3 million from a net loss of $8.8 million in 2005 to a net income of $3.5 million in 2006. Accordingly, in 2006, LHL recorded a deferred federal income tax expense of $1.1 million (using an estimated tax rate of 30.8%) and a deferred state and local tax expense of $0.4 million (using an estimated tax rate of 10.7%). The total federal, state, and local deferred tax expenses is offset by LHL’s current state and local tax benefit of $0.4 million. The following table summarizes the change in income tax (benefit) expense (dollars in thousands):

 

     For the year ended
December 31,
 
     2006     2005  

REIT state and local tax (benefit) expense

   $ (1,539 )   $ 1,469  

LHL federal, state and local tax expense (benefit)

     1,138       (3,611 )
                

Total tax benefit

     (401 )     (2,142 )

Less: LHL federal, state and local tax benefit related to discontinued operations

     124       163  
                

Total tax benefit from continuing operations

   $ (277 )   $ (1,979 )
                

As of December 31, 2006, the Company had a deferred tax asset of $16.7 million primarily due to past years’ tax net operating losses. These loss carryforwards will expire in 2021 through 2025 if not utilized by then. Management believes that it is more likely than not that this deferred tax asset will be realized and has determined that no valuation allowance is required.

Minority interest

Minority interest of common units in the Operating Partnership represents the common units limited partners’ proportionate share of the equity in the Operating Partnership. Income is allocated to the common units minority interest based on the weighted average percentage ownership throughout the year. At December 31, 2006, the limited partners held 0.3% of the common units of the Operating Partnership. The following table summarizes the change in the common units minority interest (dollars in thousands):

 

     For the year ended
December 31,
 
     2006     2005  

Operating Partnership net income before common units minority interest

   $ 105,326     $ 35,696  

Weighted average common units minority interest percentage

     0.135 %     0.840 %
                

Common units minority interest allocation

     142       300  

Less: minority interest allocation related to discontinued operations

     (5 )     (26 )
                

Total allocation of minority interest to continuing operations

   $ 137     $ 274  
                

The minority interest of preferred units in the Operating Partnership represents the allocation of income of the Operating Partnership to the preferred units held by third parties. The increase in preferred distributions from $1.4

 

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million in 2005 to $4.5 million in 2006 is a result of the Preferred C Units which were outstanding for a full year in 2006 and the Preferred F Units which were issued on November 17, 2006.

Discontinued operations

Net income from discontinued operations increased $0.7 million from $3.0 million in 2005 to $3.7 million in 2006. Net income from discontinued operations is primarily a result of the sale of LaGuardia in January 2007. Also included in 2005 are residual costs related to Omaha Marriott (“Omaha”) which was sold in September 2004. The following table summarizes net income from discontinued operations for 2006 and 2005 (dollars in thousands):

 

     For the year ended
December 31,
 
     2006     2005  

Net lease income from LaGuardia

   $ 3,868     $ 3,296  

Net operating loss from LaGuardia and Omaha

     (298 )     (393 )

Minority interest expense related to LaGuardia

     (5 )     (26 )

Income tax benefit related to LaGuardia and Omaha

     124       163  
                

Net income from discontinued operation

   $ 3,689     $ 3,040  
                

Distributions to preferred shareholders

Distributions to preferred shareholders increased $11.0 million from $14.6 million in 2005 to $25.6 million in 2006 due to a full year of distributions on the Series D Preferred Shares and distributions on the Series E and G Preferred Shares which were issued in 2006.

Non-GAAP Financial Measures

Funds From Operations and EBITDA

The Company considers the non-GAAP measures of FFO and EBITDA to be key supplemental measures of the Company’s performance and should be considered along with, but not as alternatives to, net income as a measure of the Company’s operating performance. Historical cost accounting for real estate assets implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values instead have historically risen or fallen with market conditions, most real estate industry investors consider FFO and EBITDA to be helpful in evaluating a real estate company’s operations.

The White Paper on FFO approved by NAREIT in April 2002 defines FFO as net income or loss (computed in accordance with GAAP), excluding gains or losses from sales of properties and items classified by GAAP as extraordinary, plus real estate-related depreciation and amortization (excluding amortization of deferred finance costs) and after comparable adjustments for the Company’s portion of these items related to unconsolidated entities and joint ventures. The Company computes FFO consistent with standards established by NAREIT, which may not be comparable to FFO reported by other REITs that do not define the term in accordance with the current NAREIT definition or that interpret the current NAREIT definition differently than the Company.

With respect to FFO, the Company believes that excluding the effect of extraordinary items, real estate-related depreciation and amortization, and the portion of these items related to unconsolidated entities, all of which are based on historical cost accounting and which may be of limited significance in evaluating current performance, can facilitate comparisons of operating performance between periods and between REITs, even though FFO does not represent an amount that accrues directly to common shareholders. However, FFO may not be helpful when comparing the Company to non-REITs.

With respect to EBITDA, the Company believes that excluding the effect of non-operating expenses and non-cash charges, and the portion of these items related to unconsolidated entities, all of which are also based on historical cost accounting and may be of limited significance in evaluating current performance, can help eliminate the accounting effects of depreciation and amortization, and financing decisions and facilitate comparisons of core

 

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operating profitability between periods and between REITs, even though EBITDA also does not represent an amount that accrues directly to common shareholders.

Neither FFO nor EBITDA represents cash generated from operating activities determined by GAAP and should not be considered as alternatives to net income, cash flow from operations or any other operating performance measure prescribed by GAAP. Neither FFO nor EBITDA is a measure of the Company’s liquidity, nor is FFO or EBITDA indicative of funds available to fund the Company’s cash needs, including its ability to make cash distributions. Neither measurement reflects cash expenditures for long-term assets and other items that have been and will be incurred. FFO and EBITDA may include funds that may not be available for management’s discretionary use due to functional requirements to conserve funds for capital expenditures, property acquisitions, and other commitments and uncertainties. To compensate for this, management considers the impact of these excluded items to the extent they are material to operating decisions or the evaluation of the Company’s operating performance.

The following is a reconciliation between net income applicable to common shareholders and FFO for the years ended December 31, 2007, 2006 and 2005 (dollars in thousands):

 

     For the year ended December 31,
     2007     2006     2005

Funds From Operations (FFO):

      

Net income applicable to common shareholders

   $ 61,543     $ 73,456     $ 20,767

Depreciation

     91,560       78,280       48,494

Equity in depreciation of joint venture

     —         178       811

Amortization of deferred lease costs

     491       497       79

Minority interest:

      

Minority interest of common units in Operating Partnership

     248       137       274

Minority interest in discontinued operations

     1       5       26

Less: Equity in gain on sale of property

     (30,401 )     (38,402 )     —  
                      

FFO

   $ 123,442     $ 114,151     $ 70,451
                      

Weighted average number of common shares and units outstanding:

      

Basic

     39,955,712       39,409,631       30,896,022

Diluted

     40,216,918       39,720,667       31,362,668

 

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The following is a reconciliation between net income applicable to common shareholders and EBITDA for the years ended December 31, 2007, 2006 and 2005 (dollars in thousands):

 

     For the year ending December 31,  
     2007     2006     2005  

Earnings Before Interest, Taxes, Depreciation and Amortization (EBITDA):

      

Net income applicable to common shareholders

   $ 61,543     $ 73,456     $ 20,767  

Interest

     46,289       42,409       24,354  

Equity in interest expense of joint venture

     —         317       787  

Income tax expense (benefit):

      

Income tax expense (benefit)

     3,075       (277 )     (1,979 )

Income tax (benefit) from discontinued operations

     (69 )     (124 )     (163 )

Depreciation and other amortization

     92,389       78,966       48,850  

Equity in depreciation/amortization of joint venture

     —         201       900  

Minority interest:

      

Minority interest of common units in Operating Partnership

     248       137       274  

Minority interest of preferred units in Operating Partnership

     6,120       4,485       1,419  

Minority interest in discontinued operations

     1       5       26  

Distributions to preferred shareholders

     28,212       25,604       14,629  
                        

EBITDA

   $ 237,808     $ 225,179     $ 109,864  
                        

The Hotels

The following table sets forth historical comparative information with respect to occupancy, ADR and RevPAR for the total hotel portfolio for the years ended December 31, 2007 and 2006, respectively.

 

     Year ended December 31,  
     2007     2006     Variance  

Total Portfolio

      

Occupancy

     74.0 %     73.5 %   0.7 %

ADR

   $ 200.78     $ 191.74     4.7 %

RevPAR

   $ 148.58     $ 140.91     5.4 %

Off-Balance Sheet Arrangements

Tax Indemnification Agreement

Pursuant to the acquisition of the Westin Copley Place, the Company entered into a Tax Reporting and Protection Agreement (the “Tax Agreement”) with Transwest Copley Square LLC (formerly SCG Copley Square LLC). Under the Tax Agreement, the Company is required, among other things, to indemnify Transwest Copley Square LLC (and its affiliates) for certain income tax liabilities that such entities would incur if the Westin Copley Place was transferred by the Company in a taxable transaction or if the Company fails to maintain a certain level of indebtedness with respect to the Westin Copley Place or its operations. The obligations of the Company under the Tax Protection Agreement (i) do not apply in the case of a foreclosure of the Westin Copley Place, if certain specified requirements are met, (ii) are limited to $20.0 million (although a limitation of $10.0 million is applicable to certain specified transactions), and (iii) terminates on the earlier of the tenth anniversary of the Company’s acquisition of the Westin Copley Place or January 1, 2016. The Company believes that the likelihood that the Company will be required to pay under this Tax Agreement is remote, and therefore, a liability has not been recorded.

Reserve Funds

Certain of the Company’s agreements with its hotel managers, franchisors and lenders have provisions for the Company to provide funds, generally 3.0% to 5.5% of hotel revenues, sufficient to cover the cost of (a) certain non-routine repairs and maintenance to the hotels; and (b) replacements and renewals to the hotels’ furniture, fixtures and equipment. Certain agreements require that the Company reserve cash. As of December 31, 2007, $3.6 million was available in restricted cash reserves for future capital expenditures.

 

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The Company has no other off-balance sheet arrangements.

Liquidity and Capital Resources

The Company’s principal source of cash to meet its cash requirements, including distributions to shareholders, is its pro rata share of operating cash flow from hotels leased by LHL and the Operating Partnership’s cash flow from the participating leases with third parties. The Company’s senior unsecured credit facility contains certain financial covenants relating to debt service coverage, net worth and total funded indebtedness and contains financial covenants that, assuming no continuing defaults, allow the Company to make shareholder distributions. There are currently no other contractual or other arrangements limiting payment of distributions by the Operating Partnership. Similarly, LHL is a wholly-owned subsidiary of the Operating Partnership. Payments to the Operating Partnership are required pursuant to the terms of the lease agreements between LHL and the Operating Partnership relating to the properties owned by the Operating Partnership and leased by LHL. Except for the security deposits required under the participating leases for the two hotels not leased by LHL, the lessees’ obligations under the participating leases are unsecured and the lessees’ abilities to make rent payments to the Operating Partnership, and the Company’s liquidity, including its ability to make distributions to shareholders, are dependent on the lessees’ abilities to generate sufficient cash flow from the operations of the hotels.

In addition, cash flow from hotel operations is subject to all operating risks common to the hotel industry. These risks include:

 

   

competition for guests and meetings from other hotels, including competition from internet wholesalers and distributors;

 

   

increases in operating costs including wages, benefits, insurance, property taxes and energy due to inflation and other factors, which may not be offset in the future by increases in room rates;

 

   

labor strikes, disruptions or lockouts that may impact operating performance;

 

   

dependence on demand from business and leisure travelers, which may fluctuate and be seasonal;

 

   

increases in energy costs, airline fares, and other expenses related to travel, which may deter traveling;

 

   

terrorism, terrorism alerts and warnings and military actions such as the war in Iraq, pandemics or other medical events which may cause decreases in business and leisure travel; and

 

   

adverse affects of weak national, regional and local economic conditions.

These factors could adversely affect the ability of the hotel operators to generate revenues which could adversely affect the lessees of the Company’s hotels and their ability to make rental payments to the Company pursuant to the participating leases and ultimately impact the Company’s liquidity.

Properties Leased to LHL

Effective January 1, 2001, LHL became a wholly-owned subsidiary of the Company as provided for under the taxable-REIT subsidiary provisions of the Code. LHL currently leases the following 29 hotels owned by the Company:

 

•     Seaview Resort and Spa

 

•     Harborside Hyatt Conference Center & Hotel

 

•     Hotel Viking

 

•     Topaz Hotel

 

•     Hotel Rouge

 

•     Hotel Madera

 

•     Hotel Helix

 

•     The Liaison Capitol Hill (formerly Holiday Inn on the Hill)

 

•     Sheraton Bloomington Hotel Minneapolis South

 

•     Lansdowne Resort

 

•     Westin City Center Dallas

  

•     Hotel George

 

•     Indianapolis Marriott Downtown

 

•     Hilton Alexandria Old Town

 

•     Chaminade Resort and Conference Center

 

•     Hilton San Diego Gaslamp Quarter

 

•     The Grafton on Sunset

 

•     Onyx Hotel

 

•     Westin Copley Place

 

•     Hotel Deca

 

•     Hilton San Diego Resort

 

•     Donovan House (formerly Washington Grande Hotel)

 

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•     Le Parc Suite Hotel

 

•     Hotel Sax Chicago (formerly House of Blues Hotel)

 

•     Westin Michigan Avenue

 

•     Alexis Hotel

  

•     Hotel Solamar

 

•     Gild Hall (formerly Holiday Inn Manhattan Wall Street District)

 

•     Hotel Amarano Burbank (formerly The Graciela Burbank)

Contractual Obligations

The following is a summary of the Company’s obligations and commitments as of December 31, 2007 (dollars in thousands):

 

          Amount of Commitment Expiration Per Period

Contractual Obligations

   Total
Amounts
Committed
   Less than
1 year
   1 to 3
years
   4 to 5
years
   Over 5
years

Mortgage loans (1)

   $ 1,022,102    $ 82,319    $ 212,394    $ 129,246    $ 598,143

Borrowings under credit facilities (2)

     84,349      4,257      8,490      71,602      —  

Ground rent (3)

     196,781      4,717      9,455      9,483      173,126

Massport bonds (1)

     58,373      1,562      3,124      3,124      50,563

Purchase commitments (4)

              

Purchase orders and letters of commitment

     31,099      31,099      —        —        —  
                                  

Total obligations and commitments

   $ 1,392,704    $ 123,954    $ 233,463    $ 213,455    $ 821,832
                                  

 

(1)

Amounts include principal and interest. Interest expense on fixed rate debt is computed based on the fixed interest rate of the debt. Interest expense on the variable rate debt is calculated based on the rate at December 31, 2007.

(2)

Amounts include principal and interest. Interest expense is calculated based on the variable rates at December 31, 2007. It is assumed that the outstanding debt at December 31, 2007 will be repaid upon maturity with interest-only payments until then.

(3)

Amounts calculated based on the annual minimum future ground lease payments that extend through the term of the lease. Rents may be subject to adjustments based on future interest rates and hotel performance.

(4)

As of December 31, 2007, purchase orders and letters of commitment totaling approximately $31.1 million had been issued for renovations at the hotels. The Company has committed to these projects and anticipates making similar arrangements with the existing hotels or any future hotels that it may acquire.

Credit Facilities

The Company has a senior unsecured credit facility from a syndicate of banks that provides for a maximum borrowing of up to $300.0 million. On January 14, 2008, the Company amended the credit facility to increase the maximum borrowing to $450.0 million. On April 13, 2007, the Company amended the credit facility to extend the credit facility’s maturity date to April 13, 2011 with a one-year extension option and to reduce the applicable margin pricing by a range of 0.8% to 1.0%. The senior unsecured credit facility contains certain financial covenants relating to debt service coverage, net worth and total funded indebtedness. It also contains financial covenants that, assuming no continuing defaults, allow the Company to make shareholder distributions. Borrowings under the facility bear interest at floating rates equal to, at the Company’s option, either (i) LIBOR plus an applicable margin, or (ii) an “Adjusted Base Rate” plus an applicable margin. As of December 31, 2007, the Company was in compliance with all debt covenants and was not otherwise in default under the credit facility. For the years ended December 31, 2007 and 2006, the weighted average interest rate for borrowings under the senior unsecured credit facility was 6.0% and 7.1%, respectively. The Company did not have any Adjusted Base Rate borrowings outstanding at December 31, 2007. Additionally, the Company is required to pay a variable unused commitment fee determined from a ratings or leverage based pricing matrix, currently set at 0.125% of the unused portion of the senior unsecured credit facility. The Company incurred unused commitment fees of $0.4 million and $0.5 million

 

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for the years ended December 31, 2007 and 2006, respectively. At December 31, 2007 and 2006, the Company had $56.0 million and zero, respectively, of outstanding borrowings under the senior unsecured credit facility.

LHL has a $25.0 million unsecured revolving credit facility to be used for working capital and general lessee corporate purposes. On April 13, 2007, LHL amended the credit facility to extend the credit facility maturity date to April 13, 2011 with a one-year extension option and to reduce the applicable margin pricing by a range of 0.8% to 1.0%. Borrowings under the LHL credit facility bear interest at floating rates equal to, at LHL’s option, either (i) LIBOR plus an applicable margin, or (ii) an “Adjusted Base Rate” plus an applicable margin. As of December 31, 2007, LHL was in compliance with all debt covenants and was not otherwise in default under the credit facility. For the years ended December 31, 2007 and 2006, the weighted average interest rate for the borrowings under the LHL credit facility was 6.1% and 6.7%, respectively. LHL did not have any Adjusted Base Rate Borrowings outstanding at December 31, 2007. Additionally, LHL is required to pay a variable unused commitment fee determined from a ratings or leverage based pricing matrix, currently set at 0.125% of the unused portion of the LHL credit facility. LHL incurred unused commitment fees of an immaterial amount for the years ended December 31, 2007 and 2006. At December 31, 2007 and 2006, LHL had $14.4 million and zero, respectively, of outstanding borrowings under LHL credit facility.

 

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Debt

Debt at December 31, 2007 and December 31, 2006, consisted of the following (in thousands):

 

     Interest
Rate at
December 31,
2007
    Maturity
Date
  Balance Outstanding at

Debt

       December 31,
2007
   December 31,
2006

Credit facilities

         

Senior Unsecured Credit Facility

   Floating  (a)   April 2011 (a)   $ 56,000    $ —  

LHL Unsecured Credit Facility

   Floating  (b)   April 2011 (b)     14,416      —  
                 

Total borrowings under credit facilities

         70,416      —  
                 

Massport bonds

         

Harborside Hyatt Conference
Center & Hotel (taxable)
(c)

   Floating  (c)   March 2018     5,400      5,400

Harborside Hyatt Conference
Center & Hotel (tax exempt)
(c)

   Floating  (c)   March 2018     37,100      37,100
                 

Total bonds payable

         42,500      42,500
                 

Mortgage loans

         

Le Parc Suite Hotel

   7.78 %   May 2008 (d)     14,860      15,295

Gild Hall (Formerly Holiday Inn Manhattan Wall Street District)

   Floating  (e)   November 2008 (e)     20,000      20,000

Sheraton Bloomington Hotel Minneapolis
South and Westin City Center Dallas

   8.10 %   July 2009     39,661      40,744

San Diego Paradise Point Resort

   5.25 %   February 2009     59,729      61,182

Hilton Alexandria Old Town

   4.98 %   September 2009     32,032      32,802

Le Montrose Suite Hotel

   8.08 %   July 2010     13,392      13,629

Hilton San Diego Gaslamp Quarter

   5.35 %   June 2012     59,600      59,600

Hotel Solamar

   5.49 %   December 2013     60,900      60,900

Hotel Deca

   6.28 %   August 2014     10,360      10,567

Westin Copley Place

   5.28 %   August 2015     210,000      210,000

Westin Michigan Avenue

   5.75 %   April 2016     140,000      140,000

Indianapolis Marriott Downtown

   5.99 %   July 2016     101,780      101,780
                 

Mortgage loans

         762,314      766,499

Unamortized loan premium (f)

         590      978
                 

Total mortgage loans

         762,904      767,477
                 

Total debt

       $ 875,820    $ 809,977
                 

 

(a) Borrowings bear interest at floating rates equal to, at the Company’s option, either (i) LIBOR plus an applicable margin or (ii) an Adjusted Base Rate plus an applicable margin. At December 31, 2007, the rates applicable to the Company’s outstanding LIBOR borrowings of $29,000 and $27,000 were 6.00% and 5.91%, respectively. The Company has the option to extend the credit facility’s maturity date to April 2012.
(b) Borrowings bear interest at floating rates equal to, at LHL’s option, either (i) LIBOR plus an applicable margin, or (ii) an Adjusted Base Rate plus an applicable margin. At December 31, 2007, the rate applicable to LHL’s outstanding LIBOR borrowing was 5.90%. LHL has the option to extend the credit facility’s maturity date to April 2012.
(c) The Massport bonds are secured by letters of credit issued by the Royal Bank of Scotland that expire in 2009. The Royal Bank of Scotland letters of credit are secured by the Harborside Hyatt Conference Center & Hotel. The bonds bear interest based on weekly floating rates. The interest rates at December 31, 2007 were 4.95% and 3.49% for the $5,400 and $37,100 bonds, respectively. The interest rates at December 31, 2006 were 5.38% and 4.01% for the $5,400 and $37,100 bonds, respectively. The Company also incurs a 1.35% annual letter of credit fee, which has been reduced to 1.10% beginning in February 2008.
(d) The Company intends to repay the mortgage loan through borrowings on its credit facilities upon maturity.
(e) Mortgage debt bears interest at LIBOR plus 0.75%. The interest rates at December 31, 2007 and December 31, 2006 were 5.65% and 6.10%, respectively. The Company has the option to extend the maturity date for two consecutive one-year periods and a final 13 month period.
(f) Mortgage debt includes unamortized loan premiums for Le Parc Suite Hotel and Hotel Deca of $107 and $483, respectively, as of December 31, 2007, and $428 and $550, respectively, as of December 31, 2006.

 

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Equity Issuances and Redemptions

On August 19, 2005, the Company completed an underwritten public offering of 3,000,000 shares of 7.5% Series D Cumulative Redeemable Preferred Shares (liquidation preference of $25.00 per share). After deducting underwriting discounts and commissions and other offering costs, the Company raised net proceeds of approximately $73.0 million. On August 30, 2005, the Company issued an additional 170,000 Series D Preferred Shares pursuant to an over-allotment option for approximately $4.1 million after deducting underwriting discounts and commissions. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and to fund, in part, the Company’s acquisition of the Westin Copley Place.

On October 12, 2005, the Company completed an underwritten public offering of 2,200,000 common shares of beneficial interest, par value $0.01 per share. After deducting underwriting discounts and commissions and other offering costs, the Company raised net proceeds of approximately $74.3 million. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and to fund, in part, the Company’s acquisitions of the Hotel Deca, the Hilton San Diego Resort, and the Donovan House (formerly Washington Grande Hotel).

On December 9, 2005, the Company completed an underwritten public offering of 3,450,000 common shares of beneficial interest, par value $0.01 per share. After deducting underwriting discounts and commissions and other offering costs, the Company raised net proceeds of approximately $113.4 million. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and to fund, in part, the Company’s acquisitions of the Hotel Deca, the Hilton San Diego Resort, and the Donovan House (formerly Washington Grande Hotel).

On February 7, 2006, the Company completed an underwritten public offering of 3,250,000 common shares of beneficial interest, par value $0.01 per share. After deducting the underwriters discounts and commissions and other offering costs, the Company raised net proceeds of approximately $119.8 million. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and for general corporate purposes, including acquisitions. On February 27, 2006, the Company issued an additional 487,500 common shares pursuant to an over-allotment option for approximately $18.0 million after deducting underwriting discounts and commissions.

On February 8, 2006, the Company completed an underwritten public offering of 3,050,000 shares of 8.0% Series E Cumulative Redeemable Preferred Shares par value $0.01 per share (liquidation preference $25.00 per share). After deducting underwriting discounts and commissions and other offering costs, the Company raised net proceeds of approximately $74.4 million. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and for general corporate purposes, including acquisitions. On February 16, 2006, the Company issued an additional 450,000 Series E Preferred Shares pursuant to an over-allotment option for approximately $11.0 million after deducting underwriting discounts and commissions.

On November 17, 2006, the Company completed an underwritten public offering of 4,000,000 shares of 7.25% Series G Cumulative Redeemable Preferred Shares par value $0.01 per share (liquidation preference of $25.00 per share). After deducting underwriting discounts and commissions and other offering costs, the Company raised net proceeds of approximately $97.5 million. The net proceeds were used to repay existing indebtedness under the Company’s senior unsecured credit facility and for general corporate purposes, including redeeming the Company’s Series A Preferred Shares. The Company has given notice of its intent to redeem the Series A Preferred Shares on March 6, 2007.

On March 6, 2007, the Company redeemed all 3,991,900 outstanding Series A Preferred Shares for $99.8 million ($25.00 per share) plus accrued distributions through March 6, 2007 of $1.8 million. The fair value of the

 

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Series A Preferred Shares exceeded the carrying value of the Series A Preferred Shares by $3.9 million which represents the offering costs related to the Series A Preferred Shares. This $3.9 million was deducted from net income to determine net income applicable to common shareholders.

Sources and Uses of Cash

At December 31, 2007, the Company had $26.1 million of cash and cash equivalents and $11.9 million of restricted cash reserves. Additionally, the Company had $230.6 million available under the senior unsecured credit facility and $10.6 million available under the LHL credit facility.

Net cash provided by operating activities was $168.2 million for the year ended December 31, 2007 primarily due to the operations of hotels leased by LHL and participating lease revenues from hotels leased to third parties, which were offset by payments for real estate taxes, personal property taxes, insurance and ground rent.

Net cash used in investing activities was $60.7 million for the year ended December 31, 2007 due to the outflows for improvements and additions at the hotels, purchase of office furniture and equipment and payment of deferred lease fees offset by the proceeds from the sale of LaGuardia Airport Marriott and net proceeds from restricted cash reserves.

Net cash used in financing activities was $144.5 million for the year ended December 31, 2007, comprised of the redemption of the Series A Preferred Shares on March 6, 2007, payment of distributions to the common shareholders and unitholders, payment of distributions to preferred shareholders and unitholders, repayments under credit facilities, mortgage loan repayments, repurchase of treasury shares and payment of deferred financing costs. These uses were offset by borrowings under credit facilities and proceeds from the exercise of share options.

The Company has considered its short-term (one year or less) liquidity needs and the adequacy of its estimated cash flow from operations and other expected liquidity sources to meet these needs. The Company believes that its principal short-term liquidity needs are to fund normal recurring expenses, debt service requirements, distributions on the preferred shares and the minimum distribution required to maintain the Company’s REIT qualification under the Code. The Company anticipates that these needs will be met with cash flows provided by operating activities and using availability under the senior unsecured credit facility. The Company also considers capital improvements and property acquisitions as short-term needs that will be funded either with cash flows provided by operating activities, utilizing availability under the senior unsecured credit facility, the issuance of other indebtedness, or the issuance of additional equity securities.

The Company expects to meet long-term (greater than one year) liquidity requirements such as property acquisitions, scheduled debt maturities, major renovations, expansions and other nonrecurring capital improvements utilizing availability under the senior unsecured credit facility, estimated cash flows from operations, the issuance of long-term unsecured and secured indebtedness and the issuance of additional equity securities. The Company expects to acquire or develop additional hotel properties only as suitable opportunities arise, and the Company will not undertake acquisition or development of properties unless stringent acquisition/development criteria have been achieved.

Reserve Funds

The Company is obligated to maintain reserve funds for capital expenditures at the hotels (including the periodic replacement or refurbishment of furniture, fixtures and equipment) as determined pursuant to leases and operating agreements. Please refer to “Off-Balance Sheet Arrangements” for a discussion of the Reserve Funds.

Inflation

The Company’s revenues come primarily from its pro rata share of the Operating Partnership’s cash flow from the participating leases and the LHL hotel operating revenues, thus the Company’s revenues will vary based on changes in the underlying hotels’ revenues. Therefore, the Company relies entirely on the performance of the hotels and the lessees’ abilities to increase revenues to keep pace with inflation. The hotel operators can change room rates

 

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quickly, but competitive pressures may limit the lessees’ and hotel operators’ abilities to raise rates faster than inflation or even at the same rate.

The Company’s expenses (primarily real estate taxes, property and casualty insurance, administrative expenses and LHL hotel operating expenses) are subject to inflation. These expenses are expected to grow with the general rate of inflation, except for energy costs, property and casualty insurance, liability insurance, property tax rates, employee benefits, and some wages, which are expected to increase at rates higher than inflation, and except for instances in which the properties are subject to periodic real estate tax reassessments.

Derivative/Financial Instruments

In the normal course of business, the Company is exposed to the effects of interest rate changes. As of December 31, 2007, approximately 15.2% of the Company’s borrowings were subject to variable rates. The Company limits the risks associated with interest rate changes by following established risk management policies and procedures including the use of derivatives. For interest rate exposures, derivatives are used primarily to align rate movements between interest rates associated with the Company’s hotel operating revenue, participating lease revenue and other financial assets with interest rates on related debt, and manage the cost of borrowing obligations. The Company may utilize derivative financial instruments to manage, or hedge, interest rate risk. The Company requires that hedging derivative instruments be effective in reducing the interest rate risk exposure that they are designated to hedge. This effectiveness is essential in order to qualify for hedge accounting. Instruments that meet these hedging criteria are formally designated as hedges at the inception of the derivative contract. When the terms of an underlying transaction are modified, or when the underlying hedged item ceases to exist, all changes in the fair value of the instrument are marked-to-market with changes in value included in net income each period until the instrument matures. The Company did not utilize any derivative financial instruments during 2007.

The Company has a policy of only entering into contracts with major financial institutions based upon their credit ratings and other factors. When viewed in conjunction with the underlying and offsetting exposure that the derivatives are designed to hedge, the Company has not sustained a material loss from those instruments nor does it anticipate any material adverse effect on its net income or financial position in the future from the use of derivatives.

To manage interest rate risk, the Company may employ options, forwards, interest rate swaps, caps and floors or a combination thereof depending on the underlying exposure. The Company utilizes a variety of borrowings including lines of credit and medium and long-term financings. To reduce overall interest cost, the Company uses interest rate instruments, typically interest rate swaps, to convert a portion of its variable rate debt to fixed rate debt. Interest rate differentials that arise under these swap contracts are recognized in interest expense over the life of the contracts. The resulting cost of funds is usually lower than that which would have been available if debt with matching characteristics was issued directly.

To determine the fair values of derivative instruments, the Company uses a variety of methods and assumptions that are based on market conditions and risks existing as of each valuation date. For the majority of financial instruments including most derivatives and long-term debt, standard market conventions and techniques such as discounted cash flow analysis, option pricing models, replacement cost, and termination cost are used to determine fair value. All methods of assessing fair value result in a general approximation of value, and such value may never actually be realized.

 

Item 7A. Quantitative and Qualitative Disclosures About Market Risk

Interest Rate Sensitivity

The table below provides information about financial instruments that are sensitive to changes in interest rates, including mortgage obligations, bonds and lines of credit. For debt obligations, the table presents scheduled maturities and related weighted average interest rates by expected maturity dates.

 

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     2008     2009     2010     2011     2012     Thereafter     Total  

Fixed Rate Debt

   $ 18,833     $ 128,434     $ 13,108     $ 1,826     $ 63,554     $ 516,559     $ 742,314  

Weighted Average Interest

     7.5 %     6.0 %     8.0 %     5.9 %     5.4 %     5.6 %     5.7 %

Variable Rate Debt

   $ 20,000     $ —       $ —       $ 70,416     $ —       $ 42,500     $ 132,916  

Weighted Average Interest

     5.6 %     —   %     —   %     5.9 %     —   %     3.7 %     5.2 %
                                                        

Total

   $ 38,833     $ 128,434     $ 13,108     $ 72,242     $ 63,554     $ 559,059     $ 875,230  
                                                        

The table above presents the principal amount of debt maturing each year, including annual amortization of principal, through December 31, 2012 and thereafter and weighted average interest rates for the debt maturing in each specified period. This table reflects indebtedness outstanding as of December 31, 2007 and does not reflect indebtedness, if any, incurred after that date. The Company’s ultimate exposure to interest rate fluctuations depends on the amount of indebtedness that bears interest at variable rates, the time at which the interest rate is adjusted, the amount of adjustment, the ability to prepay or refinance variable rate indebtedness and hedging strategies used to reduce the impact of any increases in rates.

The Company is exposed to market risk from changes in interest rates. The Company seeks to limit the impact of interest rate changes on earnings and cash flows and to lower the overall borrowing costs by closely monitoring the Company’s variable rate debt and converting such debt to fixed rates when we deem such conversion advantageous. As of December 31, 2007, approximately $132.9 million of the Company’s aggregate indebtedness (15.2% of total indebtedness) was subject to variable interest rates.

If market rates of interest on the Company’s variable rate long-term debt fluctuate by 0.25%, interest expense would increase or decrease, depending on rate movement, future earnings and cash flows by approximately $0.3 million annually. This assumes that the amount outstanding under the Company’s variable rate debt remains at $132.9 million, the balance at December 31, 2007.

 

Item 8. Consolidated Financial Statements and Supplementary Data

See Index to the Financial Statements on page F-1.

 

Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

None.

 

Item 9A. Controls and Procedures

Evaluation of Disclosure Controls and Procedures—The Company has established disclosure controls and procedures to ensure that material information relating to the Company, including its consolidated subsidiaries, is made known to the officers who certify the Company’s financial reports and to the members of senior management and the Board of Trustees.

Based on management’s evaluation as of December 31, 2007, the principal executive officer and principal financial officer of the Company have concluded that the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Securities Exchange Act of 1934) are effective to ensure that the information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms.

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 such term is defined in 13a-15(f) and 15d-15(f) of the Securities Exchange Act of 1934. Under the supervision and with the participation of our management, including our principal executive officer, we conducted an evaluation of the

 

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effectiveness of our internal control over financial reporting based on the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control—Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2007. KPMG, LLP, an independent registered public accounting firm, has issued an attestation report on the Company’s internal control over financial reporting, which report is included herein.

Changes in Internal Controls—There was no change to the Company’s internal control over financial reporting during the fourth quarter ended December 31, 2007 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART III

 

Item 10. Trustees, Executive Officers and Corporate Governance

The information required by this item is incorporated by reference to the material in the Company’s Proxy Statement for the 2008 Annual Meeting of Shareholders (the “Proxy Statement”).

 

Item 11. Executive Compensation

The information required by this item is incorporated by reference to the material in the Proxy Statement.

 

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

The information required by this item is incorporated by reference to the material in the Proxy Statement.

 

Item 13. Certain Relationships and Related Transactions

None.

 

Item 14. Principal Accountant Fees and Services

The information required by this item is incorporated by reference to the material in the Proxy Statement.

PART IV

 

Item 15. Exhibits and Financial Statement Schedules

 

(a) 1. Financial Statements

Included herein at pages F-1 through F-38.

2. Financial Statement Schedules

The following financial statement schedule is included herein at pages F-39 through F-41.

Schedule III—Real Estate and Accumulated Depreciation

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.

3. Exhibits

The following exhibits are filed as part of this Annual report on Form 10-K:

 

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Exhibit

Number

  

Description of Exhibit

  3.1    Articles of Amendment and Restatement of Declaration of Trust of the Registrant (including all articles of amendment and articles supplementary)(1)
  3.2    Second Amended and Restated Bylaws of the Registrant
  4.1    Form of Common Share of Beneficial Interest(2)
  4.2    Common Share Purchase Right dated April 29, 1998 (LaSalle Partners)(3)
  4.3    Common Share Purchase Right dated April 29, 1998 (Steinhardt)(3)
  4.4    Common Share Purchase Right dated April 29, 1998 (Cargill)(3)
10.1    Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of April 29, 1998(3)
10.2    First Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of March 6, 2002(4)
10.3    Second Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of September 30, 2003(5)
10.4    Form of Third Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P.(6)
10.5    Fourth Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of August 22, 2005(7)
10.6    Fifth Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of February 8, 2006(8)
10.7    Form of Sixth Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operation Partnership, L.P. (9)
10.8    Seventh Amendment to the Amended and Restated Agreement of Limited Partnership of LaSalle Hotel Operating Partnership, L.P., dated as of November 17, 2006(10)
10.9    Contribution and Sale Agreement, dated August 12, 2005, by and among LaSalle Hotel Properties, LaSalle Hotel Operating Partnership, L.P., LaSalle Hotel Lessee, Inc., W. Copley Boston Corporation, and SCG Copley Square LLC(6)
10.10    Omnibus Contribution Agreement By and Among LaSalle Hotel Operating Partnership, L.P. and the Contributors named herein(2)
10.11    Contribution Agreement (Steinhardt)(2)
10.12    Contribution Agreement (Cargill)(2)
10.13    Contribution Agreement (OLS Visalia)(2)
10.14    Contribution Agreement (OLS Le Montrose)(2)
10.15    Contribution Agreement (Durbin)(2)
10.16    Contribution Agreement (Radisson)(2)
10.17    Form of Management Agreement(2)
10.18    Form of Lease(2)
10.19    Form of Lease with Affiliated Lessees(2)

 

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10.20    Form of Supplemental Representations, Warranties and Indemnity Agreement(2)
10.21    Form of Pledge and Security Agreement(2)
10.22    Subscription Agreement (with registration rights), dated as of May 28, 1998, by WestGroup San Diego Associates, Ltd.(11)
10.23    Lease Agreement, dated as of June 1, 1998, by and between LHO Mission Bay Hotel, L.P. and WestGroup San Diego Associates, Ltd.(11)
10.24    Promissory Note Secured by Leasehold Mortgage in the original principal amount of $210,000,000 made by LHO Backstreets, L.L.C. and dated as of August 30, 2005(12)
10.25    Leasehold Mortgage and Absolute Assignment of Rents and Leases and Security Agreement (and Fixture Filing) by LHO Backstreets, LLC, as Mortgagor, and Mortgage Electronic Registration Systems, Inc., as Mortgagee and dated as of August 30, 2005(12)
10.26    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Shares which may be Issued upon Exchange of Operating Partnership Units (LaSalle Partners)(3)
10.27    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Shares which may be Issued upon Exchange of Operating Partnership Units (Steinhardt)(3)
10.28    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Shares which may be Issued upon Exchange of Operating Partnership Units (Cargill)(3)
10.29    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Share Purchase Rights (LaSalle Partners)(3)
10.30    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Share Purchase Rights (Steinhardt)(3)
10.31    Registration Rights Agreement, dated as of April 29, 1998, with respect to Common Share Purchase Rights (Cargill)(3)
10.32    Loan and Trust Agreement, dated as of December 15, 1990, as amended and restated as of June 27, 1991, among the Massachusetts Port Authority, Logan Harborside Associates II Limited Partnership, and Shawmut Bank, N.A., as trustee(3)
10.33    Credit Enhancement Agreement, dated as of June 27, 1991, among the Massachusetts Port Authority, Logan Harborside Associates II Limited Partnership and Shawmut Bank, N.A.(3)
10.34    Form of First Amendment to Lease with Affiliated Lessee(13)
10.35    Form of Second Amendment to Lease with Affiliate Lessee(13)
10.36    LaSalle Hotel Properties 1998 Share Option and Incentive Plan, as amended through April 21, 2005(14)*
10.37    Form of Time-Based Restricted Stock Award Agreement(15)*
10.38    Form of Performance-Based Restricted Stock Award Agreement (15)*
10.39    Amended and Restated Severance Agreement between Jon E. Bortz and LaSalle Hotel Properties dated as of June 11, 2007(16)*
10.40    Amended and Restated Severance Agreement between Hans S. Weger and LaSalle Hotel Properties dated as of June 11, 2007(16)*
10.41    Amended and Restated Severance Agreement between Michael D. Barnello and LaSalle Hotel Properties dated as of June 11, 2007(16)*
10.42    Amended and Restated Advisory Agreement and Employee Lease Agreement dated January 1, 2000 between LaSalle Hotel Properties and LaSalle Hotel Advisors, Inc.(17)
10.43    Stock Purchase Agreement dated July 28, 2000 by and among LaSalle Hotel Operating Partnership, L.P. and LaSalle Hotel Co-Investment, Inc., LPI Charities and LaSalle Hotel Properties(18)

 

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10.44    Amended and Restated Senior Unsecured Credit Agreement entered into on June 9, 2005 among Bank of Montreal, Bank of America, N.A., the other lenders named therein and LaSalle Hotel Operating Partnership, L.P.(19)
10.45    Guaranty and Contribution Agreement made as of June 9, 2005 by LaSalle Hotel Properties and certain of its subsidiaries(19)
10.46    Environmental Indemnification Agreement made as of June 9, 2005 by LaSalle Hotel Operating Partnership, L.P., LaSalle Hotel Properties and certain of their subsidiaries(19)
10.47    Second Amendment to Amended and Restated Senior Unsecured Credit Agreement(20)
10.48    Termination and Services Agreement dated December 28, 2000 by and among LaSalle Hotel Properties, and LaSalle Hotel Advisors, Inc. and LaSalle Investment Management, Inc.(18)
12.1    Computation of the Registrant’s Ratios of Earnings to Combined Fixed Charges and Preferred Stock Dividends(21)
21    List of subsidiaries
23    Consent of KPMG LLP
24.1    Power of Attorney (included in Part IV of this Annual report on Form 10-K)
31.1    Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2    Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1    Certification of Chief Executive Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002
32.2    Certification of Chief Financial Officer pursuant to 18 U.S.C. 1350, as created by Section 906 of the Sarbanes-Oxley Act of 2002

 

* Represents management contract or compensatory plan or agreement.

(1)

Previously filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on July 18, 2007 and incorporated herein by reference.

(2)

Previously filed as an exhibit to Amendment No. 1 to the Registrant’s Registration Statement on Form S-11 (No. 333-45647) filed with the SEC on April 2, 1998 and incorporated herein by reference.

(3)

Previously filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q (No. 001-14045) filed with the SEC on August 14, 1998 and incorporated herein by reference.

(4)

Previously filed as an exhibit to the Registrant’s Current Report on Form 8-K filed with the SEC on March 12, 2002 and incorporated herein by reference.

(5)

Previously filed as an exhibit to Registrant’s Annual report on Form 10-K filed with the SEC on February 23, 2006 and incorporated herein by reference.

(6)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on August 16, 2005 and incorporated herein by reference.

(7)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on August 24, 2005 and incorporated herein by reference.

(8)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on February 9, 2006 and incorporated herein by reference.

(9)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on September 28, 2006 and incorporated herein by reference.

 

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(10)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on November 17, 2006 and incorporated herein by reference.

(11)

Previously filed as an exhibit to the Registrant’s Current Report on Form 8-K (No. 001-14045) filed with the SEC on June 15, 1998 and incorporated herein by reference.

(12)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on September 7, 2005 and incorporated herein by reference.

(13)

Previously filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q (No. 001-14045) filed with the SEC on May 12, 1999 and incorporated herein by reference.

(14)

Previously filed as an exhibit to the Registrant’s Registration Statement on Form S-8 (No. 333-125058) filed with the SEC on May 19, 2005 and incorporated herein by reference.

(15)

Previously filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q filed with the SEC on April 18, 2007 and incorporated herein by reference.

(16)

Previously filed as an exhibit to the Registrant’s Current Report on Form 8-K filed with the SEC on June 15, 2007 and incorporated herein by reference.

(17)

Previously filed as an exhibit to the Registrant’s Quarterly Report on Form 10-Q (No. 001-14045) filed with the SEC on August 2, 2000 and incorporated herein by reference.

(18)

Previously filed as an exhibit to the Registrant’s Annual report on Form 10-K (No. 001-14045) filed with the SEC on March 27, 2001 and incorporated herein by reference.

(19)

Previously filed as an exhibit to Registrant’s Current Report on Form 8-K filed with the SEC on June 14, 2005 and incorporated herein by reference.

(20)

Previously filed as an exhibit to the Registrant’s Current Report on Form 8-K filed with the SEC on April 13, 2007 and incorporated herein by reference.

(21)

Previously filed as an exhibit to Registrant’s Registration Statement on Form S-3ASR (No. 333-131384) initially filed with the SEC on January 30, 2006 and incorporated herein by reference.

 

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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.

 

    LASALLE HOTEL PROPERTIES
Dated: February 21, 2008     BY:   /S/    HANS S. WEGER        
       

Hans S. Weger

Executive Vice President, Treasurer and

Chief Financial Officer

KNOW ALL MEN BY THESE PRESENTS, that we, the undersigned officers and trustees of LaSalle Hotel Properties, hereby severally constitute Jon E. Bortz, Michael D. Barnello and Hans S. Weger, and each of them singly, our true and lawful attorneys with full power to them, and each of them singly, to sign for us and in our names in the capacities indicated below, the Form 10-K filed herewith and any and all amendments to said Form 10-K, and generally to do all such things in our names and in our capacities as officers and trustees to enable LaSalle Hotel Properties to comply with the provisions of the Securities Exchange Act of 1934, as amended, and all requirements of the Securities and Exchange Commission, hereby ratifying and confirming our signatures as they may be signed by our said attorneys, or any of them, to said Form 10-K and any and all amendments thereto.

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 dates indicated.

 

Date

 

Signature

    
February 21, 2008  

/S/    JON E. BORTZ        

Jon E. Bortz

   Chairman, President and Chief Executive Officer (Principal Executive Officer)
February 21, 2008  

/S/    DARRYL HARTLEY-LEONARD        

Darryl Hartley-Leonard

   Trustee
February 21, 2008  

/S/    KELLY L. KUHN        

Kelly L. Kuhn

   Trustee
February 21, 2008  

/S/    WILLIAM S. MCCALMONT        

William S. McCalmont

   Trustee
February 21, 2008  

/S/    DONALD S. PERKINS        

Donald S. Perkins

   Trustee
February 21, 2008  

/S/    STUART L. SCOTT        

Stuart L. Scott

   Trustee
February 21, 2008  

/S/    DONALD A. WASHBURN        

Donald A. Washburn

   Trustee
February 21, 2008  

/S/    MICHAEL D. BARNELLO        

Michael D. Barnello

   Chief Operating Officer and Executive Vice President of Acquisitions
February 21, 2008  

/S/    HANS S. WEGER        

Hans S. Weger

   Executive Vice President, Treasurer and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)

 

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Table of Contents

LASALLE HOTEL PROPERTIES

Index to Financial Statements

 

Reports of Independent Registered Public Accounting Firm

   F-3

Consolidated Balance Sheets as of December 31, 2007 and 2006

   F-5

Consolidated Statements of Operations for the years ended December 31, 2007, 2006 and 2005

   F-6

Consolidated Statements of Shareholders’ Equity for the years ended December 31, 2007, 2006 and 2005

   F-8

Consolidated Statements of Cash Flows for the years ended December 31, 2007, 2006 and 2005

   F-9

Notes to Consolidated Financial Statements

   F-10

Schedule III–Real Estate and Accumulated Depreciation

   F-41

 

F-2


Table of Contents

NEED UPDATE FROM KPMG

Report of Independent Registered Public Accounting Firm

The Shareholders and Board of Trustees

LaSalle Hotel Properties:

We have audited the accompanying consolidated financial statements of LaSalle Hotel Properties (the Company) as listed in the accompanying Index to Financial Statements. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule as listed in the accompanying Index to Financial Statements. These consolidated financial statements and financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.

We conducted our audits 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 financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide 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 LaSalle Hotel Properties as of December 31, 2007 and 2006, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2007, in conformity with U.S. generally accepted accounting principles. Also in our opinion, the related financial statement schedule, 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.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), LaSalle Hotel Properties’ internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated February 21, 2008 expressed an unqualified opinion on the effectiveness of the Company’s internal control over financial reporting.

/s/ KPMG LLP

Chicago, Illinois

February 21, 2008

 

F-3


Table of Contents

Report of Independent Registered Public Accounting Firm

The Shareholders and Board of Trustees

LaSalle Hotel Properties:

We have audited LaSalle Hotel Properties’ internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). LaSalle Hotel Properties’ 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 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 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 effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

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.

In our opinion, LaSalle Hotel Properties maintained, in all material respects, effective internal control over financial reporting as of December 31, 2007, based on criteria established in Internal Control—Integrated Framework 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), the consolidated balance sheets of LaSalle Hotel Properties as of December 31, 2007 and 2006, and the related consolidated statements of operations, shareholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2007, and our report dated February 21, 2008 expressed an unqualified opinion on those consolidated financial statements.

/s/ KPMG LLP

Chicago, Illinois

February 21, 2008

 

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Table of Contents

LASALLE HOTEL PROPERTIES

Consolidated Balance Sheets

(Dollars in thousands, except per share data)

 

     December 31,
2007
    December 31,
2006
 

Assets:

    

Investment in hotel properties, net (Note 4)

   $ 1,885,423     $ 1,932,141  

Property under development (Note 4)

     111,236       60,549  

Cash and cash equivalents

     26,050       63,026  

Restricted cash reserves (Notes 2 and 9)

     11,929       18,389  

Rent receivable

     3,075       2,884  

Hotel receivables (net of allowance for doubtful accounts of $722 and $713, respectively)

     26,151       24,030  

Deferred financing costs, net

     3,441       3,733  

Deferred tax asset (Note 15)

     15,117       16,700  

Prepaid expenses and other assets

     28,898       29,999  
                

Total assets

   $ 2,111,320     $ 2,151,451  
                

Liabilities and Shareholders’ Equity:

    

Borrowings under credit facilities (Note 8)

   $ 70,416     $ —    

Bonds payable (Note 8)

     42,500       42,500  

Mortgage loans (including unamortized premium of $590 and $978, respectively) (Note 8)

     762,904       767,477  

Accounts payable and accrued expenses

     85,308       81,488  

Advance deposits

     7,265       6,986  

Accrued interest

     3,926       3,935  

Distributions payable

     12,466       12,885  
                

Total liabilities

     984,785       915,271  

Minority interest of common units in Operating Partnership (redemption value of $3,303 and $4,747, respectively) (Notes 2 and 10)

     747       3,686  

Minority interest of preferred units in Operating Partnership (redemption value of $86,181) (Notes 2 and 10)

     87,652       87,428  

Commitments and contingencies (Note 9)

    

Shareholders’ Equity:

    

Preferred shares, $.01 par value, (liquidation preference of $294,250 and $394,048, respectively), 40,000,000 and 20,000,000 shares authorized, respectively; 11,770,000 and 15,761,900 shares issued and outstanding, respectively (Note 10)

     118       158  

Common shares of beneficial interest, $.01 par value, 200,000,000 and 100,000,000 shares authorized, respectively; 40,140,230 and 40,108,169 shares issued and outstanding, respectively (Note 10)

     401       401  

Additional paid-in capital, net of offering costs of $42,679 and $46,546, respectively

     1,128,708       1,219,351  

Distributions in excess of retained earnings

     (91,091 )     (74,844 )
                

Total shareholders’ equity

     1,038,136       1,145,066  
                

Total liabilities and shareholders’ equity

   $ 2,111,320     $ 2,151,451  
                

 

The accompanying notes are an integral part of these consolidated financial statements.

 

F-5


Table of Contents

LASALLE HOTEL PROPERTIES

Consolidated Statements of Operations

(Dollars in thousands, except per share data)

 

     For the year ended December 31,  
     2007     2006     2005  

Revenues:

      

Hotel operating revenues:

      

Room revenue

   $ 410,151     $ 359,003     $ 204,495  

Food and beverage revenue

     171,419       160,083       108,047  

Other operating department revenue

     48,033       43,916       28,932  
                        

Total hotel operating revenues

     629,603       563,002       341,474  

Participating lease revenue

     27,193       25,401       21,527  

Other income

     5,637       6,050       862  
                        

Total revenues

     662,433       594,453       363,863  
                        

Expenses:

      

Hotel operating expenses:

      

Room

     90,816       80,656       48,469  

Food and beverage

     114,888       107,729       72,655  

Other direct

     21,953       21,800       15,948  

Other indirect (Note 14)

     172,830       155,562       95,866  
                        

Total hotel operating expenses

     400,487       365,747       232,938  

Depreciation and amortization

     92,338       77,019       46,790  

Real estate taxes, personal property taxes and insurance

     32,562       27,212       13,828  

Ground rent (Note 9)

     6,964       6,433       3,986  

General and administrative

     13,574       12,403       10,216  

Lease termination expense (Note 9)

     —         800       1,000  

Other expenses

     2,966       3,010       185  
                        

Total operating expenses

     548,891       492,624       308,943  
                        

Operating income

     113,542       101,829       54,920  

Interest income

     1,386       1,875       748  

Interest expense

     (46,289 )     (42,408 )     (24,351 )
                        

Income before income tax (expense) benefit, minority interest, equity in earnings of joint venture and discontinued operations

     68,639       61,296       31,317  

Income tax (expense) benefit (Note 15)

     (3,075 )     277       1,979  

Minority interest of common units in Operating Partnership

     (248 )     (137 )     (274 )

Minority interest of preferred units in Operating Partnership

     (6,120 )     (4,485 )     (1,419 )

Equity in earnings of joint venture (Note 2)

     27       38,420       753  
                        

Income from continuing operations

     59,223       95,371       32,356  
                        

Discontinued operations:

      

Income from operations of properties disposed of, including gain on disposal of assets

     30,464       3,570       2,903  

Minority interest, net of tax

     (1 )     (5 )     (26 )

Income tax benefit

     69       124       163  
                        

Net income from discontinued operations

     30,532       3,689       3,040  
                        

Net income

     89,755       99,060       35,396  

Distributions to preferred shareholders

     (24,344 )     (25,604 )     (14,629 )

Issuance costs of redeemed preferred shares

     (3,868 )     —         —    
                        

Net income applicable to common shareholders

   $ 61,543     $ 73,456     $ 20,767  
                        

 

F-6


Table of Contents

LASALLE HOTEL PROPERTIES

Consolidated Statements of Operations—Continued

(Dollars in thousands, except per share data)

 

     For the year ended December 31,
     2007    2006    2005

Earnings per Common Share—Basic:

        

Income applicable to common shareholders before discontinued operations and after dividends paid on unvested restricted shares

   $ 0.77    $ 1.77    $ 0.57

Discontinued operations

     0.76      0.09      0.10
                    

Net income applicable to common shareholders after dividends paid on unvested restricted shares

   $ 1.53    $ 1.86    $ 0.67
                    

Earnings per Common Share—Diluted:

        

Income applicable to common shareholders before discontinued operations

   $ 0.77    $ 1.76    $ 0.57

Discontinued operations

     0.76      0.09      0.10
                    

Net income applicable to common shareholders

   $ 1.53    $ 1.85    $ 0.67
                    

Weighted average number of common shares outstanding:

        

Basic

     39,852,182      39,356,881      30,637,644

Diluted

     40,113,388      39,667,917      31,104,290

The accompanying notes are an integral part of these consolidated financial statements.

 

F-7


Table of Contents

LASALLE HOTEL PROPERTIES

Consolidated Statements of Shareholders’ Equity

(Dollars in thousands, except per share data)

 

    Preferred
Shares
    Treasury
Shares
    Common
Shares of
Beneficial
Interest
  Additional
Paid-In
Capital
    Accumulated
Other
Compre-
hensive
Income
    Distributions
in Excess of
Retained
Earnings
    Total  

Balance, December 31, 2004

  $ 51     $ —       $ 299   $ 615,410     $ 965     $ (62,651 )   $ 554,074  

Issuance of shares, net of offering costs

    32       1,896       56     266,706       —         (10,154 )     258,536  

Repurchase of common shares (treasury shares)

    —         (1,046 )     —       —         —         —         (1,046 )

Options exercised

    —         75       2     2,678       —         (21 )     2,734  

Stock rights exercised

    —         (1,890 )     1     1,889       —         —         —    

Unit conversions

    —         —         3     7,954       —         —         7,957  

Deferred compensation, net

    —         965       —       339       —         (42 )     1,262  

Unrealized gain on interest rate derivatives

    —         —         —       —         388       —         388  

Distributions on common stock ($1.08 per share)

    —         —         —       —         —         (33,590 )     (33,590 )

Distributions on preferred stock

    —         —         —       —         —         (14,629 )     (14,629 )

Net income

    —         —         —       —         —         35,396       35,396  
                                                     

Balance, December 31, 2005

  $ 83     $ —       $ 361   $ 894,976     $ 1,353     $ (85,691 )   $ 811,082  
                                                     

Issuance of shares, net of offering costs

    75       216       37     320,516       —         (26 )     320,818  

Repurchase of common shares (treasury shares)

    —         (1,016 )     —       —         —         —         (1,016 )

Options exercised

    —         67       —       467       —         (50 )     484  

Unit conversions

    —         810       1     1,607       —         (408 )     2,010  

Deferred compensation, net

    —         (77 )     2     1,785       —         —         1,710  

Unrealized loss on interest rate derivatives

    —         —         —       —         (300 )     —         (300 )

Reclassification of unrealized gain

    —         —         —       —         (1,053 )     —         (1,053 )

Distributions on common stock ($1.56 per share)

    —         —         —       —         —         (62,125 )     (62,125 )

Distributions on preferred stock

    —         —         —       —         —         (25,604 )     (25,604 )

Net income

    —         —         —       —         —         99,060       99,060  
                                                     

Balance, December 31, 2006

  $ 158     $ —       $ 401   $ 1,219,351     $ —       $ (74,844 )   $ 1,145,066  
                                                     

Issuance of shares, net of offering costs

    —         164       —       (13 )     —         —         151  

Redemption of preferred shares

    (40 )     —         —       (95,889 )     —         (3,868 )     (99,797 )

Repurchase of common shares (treasury shares)

    —         (1,038 )     —       —         —         —         (1,038 )

Options exercised

    —         688       —       (441 )     —         —         247  

Deferred compensation, net

    —         186       —       3,198       —         —         3,384  

Reclassification of minority interest

    —         —         —       2,986       —         —         2,986  

Reclassification of retained earnings

    —         —         —       (484 )     —         484       —    

Distributions on common stock ($1.95 per share)

    —         —         —       —         —         (78,274 )     (78,274 )

Distributions on preferred stock

    —         —         —       —         —         (24,344 )     (24,344 )

Net income

    —         —         —       —         —         89,755       89,755  
                                                     

Balance, December 31, 2007

  $ 118     $ —       $ 401   $ 1,128,708     $ —       $ (91,091 )   $ 1,038,136  
                                                     

The accompanying notes are an integral part of these consolidated financial statements.

 

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Table of Contents

LASALLE HOTEL PROPERTIES

Consolidated Statements of Cash Flows

(Dollars in thousands)

 

     For the year ended December 31,  
     2007     2006     2005  

Cash flows from operating activities:

      

Net income

   $ 89,755     $ 99,060     $ 35,396  

Adjustments to reconcile net income to net cash flow provided by operating activities:

      

Depreciation and other amortization

     92,389       78,966       48,850  

Amortization of deferred financing costs and mortgage premiums

     990       2,209       1,638  

Minority interest in LaSalle Hotel Operating Partnership, L.P.

     6,369       4,627       1,719  

Gain on sale of property disposed of

     (30,401 )     —         —    

Deferred compensation

     3,384       1,710       1,262  

Allowance for doubtful accounts

     9       (274 )     732  

Equity in earnings of unconsolidated entities

     —         (38,420 )     (753 )

Changes in assets and liabilities:

      

Restricted cash reserves, net

     187       (2,159 )     (1,555 )

Rent receivable

     (191 )     (646 )     (711 )

Hotel receivables

     (2,904 )     (4,394 )     (4,037 )

Deferred tax asset

     1,583       1,476       (3,676 )

Prepaid expenses and other assets

     859       (7,628 )     (561 )

Accounts payable and accrued expenses

     5,810       19,550       5,840  

Advance deposits

     398       1,361       (740 )

Accrued interest

     (9 )     1,404       1,350  
                        

Net cash flow provided by operating activities

     168,228       156,842       84,754  
                        

Cash flows from investing activities:

      

Improvements and additions to hotel properties

     (134,483 )     (65,821 )     (53,596 )

Acquisition of hotel properties

     —         (525,054 )     (347,505 )

Distributions from joint venture

     —         39,398       1,116  

Purchase of office furniture and equipment

     (631 )     (166 )     (108 )

Restricted cash reserves, net

     2,773       4,819       (11,860 )

Proceeds from sale of investment in hotel properties

     71,632       —         —    
                        

Net cash flow used in investing activities

     (60,709 )     (546,824 )     (411,953 )
                        

Cash flows from financing activities:

      

Borrowings under credit facilities, net

     261,370       491,721       547,761  

Repayments under credit facilities

     (190,954 )     (522,376 )     (517,106 )

Proceeds from mortgage loans

     —         302,680       59,600  

Repayments of mortgage loans

     (4,185 )     (60,893 )     (3,126 )

Payment of deferred financing costs

     (1,086 )     (1,086 )     (1,863 )

Purchase of treasury shares

     (1,038 )     (1,016 )     (1,046 )

Proceeds from exercise of stock options

     247       484       2,736  

Proceeds from issuance of preferred shares

     —         187,500       79,250  

Proceeds from issuance of common shares

     —         142,884       190,171  

Redemption of preferred shares

     (99,797 )     —         —    

Payment of preferred offering costs

     —         (4,642 )     (2,318 )

Payment of common offering costs

     —         (5,126 )     (2,664 )

Distributions-preferred shares/units

     (31,870 )     (27,225 )     (13,498 )

Distributions-common shares/units

     (77,182 )     (60,050 )     (32,647 )
                        

Net cash flow (used in) provided by financing activities

     (144,495 )     442,855       305,250  
                        

Net change in cash and cash equivalents

     (36,976 )     52,873       (21,949 )

Cash and cash equivalents, beginning of year

     63,026       10,153       32,102  
                        

Cash and cash equivalents, end of year

   $ 26,050     $ 63,026     $ 10,153  
                        

The accompanying notes are an integral part of these consolidated financial statements.

 

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LASALLE HOTEL PROPERTIES

Notes to Consolidated Financial Statements

(Dollars in thousands, expect per share data)

1. Organization

LaSalle Hotel Properties (the “Company”) was organized in the state of Maryland on January 15, 1998 as a real estate investment trust (“REIT”) as defined in the Internal Revenue Code. The Company was formed to own hotel properties. The Company had no operations prior to April 24, 1998, at which time the Company completed its initial public offering. The Company buys, owns and leases upscale and luxury full-service hotels located in convention, resort and major urban business markets.

As of December 31, 2007, the Company owned interests in 31 hotels with approximately 8,500 suites/rooms located in 11 states and the District of Columbia. Each hotel is leased under a participating lease that provides for rental payments equal to the greater of (i) a base rent or (ii) a participating rent based on hotel revenues. An independent hotel operator manages each hotel. Two of the hotels are leased to unaffiliated lessees (affiliates of whom also operate these hotels) and 29 of the hotels are leased to the Company’s taxable-REIT subsidiary, LaSalle Hotel Lessee, Inc. (“LHL”), or a wholly-owned subsidiary of LHL. Lease revenue from LHL and its wholly-owned subsidiaries is eliminated in consolidation.

Substantially all of the Company’s assets are held by, and all of its operations are conducted through, LaSalle Hotel Operating Partnership, LP (the “Operating Partnership”). The Company is the sole general partner of the Operating Partnership. The Company owned 99.7% of the common units of the Operating Partnership at December 31, 2007. The remaining 0.3% is held by limited partners who hold 103,530 limited partnership common units at December 31, 2007. A limited partner owns 2,348,888 Series C Preferred Units of limited interest in the Operating Partnership. In addition, a limited partner owns 1,098,348 Series F Preferred Units of limited interest in the Operating Partnership. See Note 10 for additional disclosures on common and preferred operating partnership units. The hotels are leased under participating leases that provide for rental payments equal to the greater of (i) base rent or (ii) participating rent based on fixed percentages of gross hotel revenues.

2. Summary of Significant Accounting Policies

Basis of Presentation

The consolidated financial statements include the accounts of the Company, the Operating Partnership, LHL and their subsidiaries in which they have a controlling interest. All significant intercompany balances and transactions have been eliminated.

Use of Estimates

The preparation of the financial statements in conformity with U.S. generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of certain assets and liabilities and the amounts of contingent assets and liabilities at the balance sheet date and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates.

 

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Fair Value of Financial Instruments

Fair value is determined by using available market information and appropriate valuation methodologies. Borrowings under the senior unsecured credit facility, borrowings under LHL’s credit facility, the mortgage loan on Gild Hall (formerly Holiday Inn Manhattan Wall Street District) and the Massachusetts Port Authority Special Project Revenue Bonds bear interest at variable market rates, the carrying values of which approximate market value at December 31, 2007 and 2006. The carrying amounts of the Company’s other debt approximate fair value. Through ongoing analysis, management has determined that the carrying amounts of the Company’s other financial instruments approximate fair value because of the relatively short maturities of these instruments.

Investment in Hotel Properties

Upon acquisition, the Company allocates the purchase price of assets to asset classes based on the fair value of the acquired real estate, furniture, fixtures and equipment, assumed debt and intangible assets. The Company’s investments in hotel properties are carried at cost and are depreciated using the straight-line method over an estimated useful life of 30 to 40 years for buildings, 15 years for building improvements, 7 years for land improvements, 20 years for golf course land improvements, 20 years for pool assets, and 3 to 5 years for furniture, fixtures and equipment. Furniture, fixtures and equipment under capital leases are carried at the present value of the minimum lease payments.

The Company periodically reviews the carrying value of each hotel to determine if circumstances exist indicating impairment to the carrying value of the investment in the hotel or that depreciation periods should be modified. If facts or circumstances support the possibility of impairment, the Company will prepare an estimate of the undiscounted future cash flows, without interest charges, of the specific hotel and determine if the investment in such hotel is recoverable based on the undiscounted future cash flows. If impairment is indicated, an adjustment will be made to the carrying value of the hotel to reflect the hotel at fair value. The Company does not believe that there are any facts or circumstances indicating impairment in the carrying value of any of its hotels.

In accordance with the provisions of Financial Accounting Standards Board Statement No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” a hotel is considered held for sale when a contract for sale is entered into, a substantial non refundable deposit has been committed by the purchaser, and sale is expected to occur within one year.

Interest and real estate taxes incurred during the renovation period are capitalized and depreciated over the lives of the renovated assets. Capitalized interest for the years ended December 31, 2007, 2006 and 2005 was $4,171, $2,589 and $1,178, respectively.

Intangible Assets

The Company has an intangible asset for rights to build in the future at the Lansdowne Resort, which has an indefinite useful life. The Company does not amortize intangible assets with indefinite useful lives. The non-amortizable intangible asset is reviewed annually for impairment and more frequently if events or circumstances indicate that the asset may be impaired. If a non-amortizable intangible asset is subsequently determined to have a finite useful life, the intangible asset will be written down to the lower of its fair value or carrying amount and then amortized prospectively, based on the remaining useful life of the intangible asset. The intangible asset for rights to build in the future is included in investment in hotel properties in the accompanying consolidated balance sheets.

Investment in Joint Venture

Investment in joint venture represented the Company’s non-controlling 9.9% equity interest in each of (i) the joint venture that owned the Chicago Marriott Downtown (“Chicago 540 Hotel Venture”) and (ii) Chicago 540 Lessee, Inc., both of which were associated with the Chicago Marriott Downtown. The Company accounted for its investment in joint venture under the equity method of accounting, and received an annual preferred return in addition to its pro rata share of annual cash flow.

Chicago 540 Hotel Venture was subject to a $140,000 mortgage loan secured by the Chicago Marriott Downtown. The mortgage was due to expire in April of 2006. Chicago 540 Hotel Ventures was also subject to a $5,750 Furniture, Fixture and Equipment (“FF&E”) credit facility to be used for partial funding of the FF&E costs related to the property. On February 22, 2006, Chicago 540 Hotel Venture refinanced its existing mortgage and

 

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FF&E credit facility into a new $220,000 mortgage loan. Proceeds from the refinancing in excess of the amounts to pay off the previous loans were distributed to the owners in accordance with the partnership agreement. On March 25, 2006, Chicago 540 Hotel Venture sold the Chicago Marriott Downtown for an aggregate purchase price of $306,000 and recognized a gain on the sale of approximately $152,590. Proceeds from the sale were used to pay off the refinanced mortgage, make a distribution to the owners, and the remaining amount was retained to settle any post closing adjustments. Chicago 540 Hotel Venture incurred interest expense of $3,439 and $8,851 for the years ended December 31, 2006 and 2005, respectively. The Company recognized its share of the gain on sale of $38,402 in March 2006, which is included in equity in earnings of joint venture in the consolidated statements of operations. In June 2007, the Company recognized an additional $27 related to final settlements of joint venture activity, which is included in equity in earnings of joint venture in the consolidated statement of operations. The Company received a preferential distribution of the sale proceeds above its 9.9% equity interest due to the joint venture achieving certain return thresholds.

Derivative/Financial Instruments

In the normal course of business, the Company is exposed to the effects of interest rate changes. As of December 31, 2007, approximately 15.2% of the Company’s borrowings were subject to variable rates. The Company limits the risks associated with interest rate changes by following established risk management policies and procedures including the use of derivatives. For interest rate exposures, derivatives are used primarily to align rate movements between interest rates associated with the Company’s hotel operating revenue, participating lease revenue and other financial assets with interest rates on related debt, and manage the cost of borrowing obligations. The Company utilizes derivative financial instruments to manage, or hedge, interest rate risk. The Company requires that hedging derivative instruments be effective in reducing the interest rate risk exposure that they are designated to hedge. This effectiveness is essential in order to qualify for hedge accounting. Instruments that meet these hedging criteria are formally designated as hedges at the inception of the derivative contract. When the terms of an underlying transaction are modified, or when the underlying hedged item ceases to exist, all changes in the fair value of the instrument are marked-to-market with changes in value included in net income each period until the instrument matures. The Company did not utilize any derivative financial instruments during 2007.

The Company has a policy of only entering into contracts with major financial institutions based upon their credit ratings and other factors. When viewed in conjunction with the underlying and offsetting exposure that the derivatives are designed to hedge, the Company has not sustained a material loss from those instruments nor does it anticipate any material adverse effect on its net income or financial position in the future from the use of derivatives.

To manage interest rate risk, the Company may employ options, forwards, interest rate swaps, caps and floors or a combination thereof depending on the underlying exposure. The Company utilizes a variety of borrowings including lines of credit and medium and long-term financings. To reduce overall interest cost, the Company uses interest rate instruments, typically interest rate swaps, to convert a portion of its variable rate debt to fixed rate debt. Interest rate differentials that arise under these swap contracts are recognized in interest expense over the life of the contracts. The resulting cost of funds is usually lower than that which would have been available if debt with matching characteristics was issued directly.

To determine the fair values of derivative instruments, the Company uses a variety of methods and assumptions that are based on market conditions and risks existing as of each valuation date. For the majority of financial instruments including most derivatives and long-term debt, standard market conventions and techniques such as discounted cash flow analysis, option pricing models, replacement cost, and termination cost are used to determine fair value. All methods of assessing fair value result in a general approximation of value, and such value may never actually be realized.

Cash and Cash Equivalents

All highly liquid investments with a maturity of three months or less when purchased are considered to be cash equivalents.

 

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Restricted Cash Reserves

At December 31, 2007, the Company held $11,929 in restricted cash reserves. Included in such amounts are (i) $3,645 of reserve funds relating to the hotels with leases or operating agreements requiring the Company to maintain restricted cash to fund future capital expenditures, (ii) $5,434 deposited in mortgage escrow accounts pursuant to mortgage obligations to pre-fund a portion of certain hotel expenses and (iii) $2,850 held in escrow.

Deferred Financing Costs

Financing costs related to long-term debt are recorded at cost and are amortized as interest expense over the life of the related debt instrument. Accumulated amortization at December 31, 2007 and 2006 was $2,926 and $3,539, respectively.

Revenue Recognition

For properties not leased by LHL, the Company recognizes lease revenue on an accrual basis pursuant to the terms of each participating lease. Base and participating rent are each recognized based on quarterly thresholds pursuant to each participating lease (see Note 13). For properties leased by LHL, the Company recognizes hotel operating revenue on an accrual basis consistent with the hotel operations. For retail operations, revenue is recognized on a straight line basis over the life of the retail leases. Revenue from retail operations is included in other income in the accompanying consolidated statements of operations.

For the Lansdowne Resort, the Company defers golf membership initiation fees and social membership initiation fees and recognizes revenue over the average expected life of an active membership (currently six years) on a straight-line basis. Golf membership, social membership, health club and executive club annual dues are recognized as earned throughout the membership year. As of December 31, 2007 and 2006, deferred membership revenue was $9,130 and $8,832, respectively. The Company recorded revenue of $2,884, $2,231 and $1,751 for the years ended December 31, 2007, 2006 and 2005, respectively.

Minority Interest

Minority interest in the Operating Partnership represents the limited partners’ proportionate share of the equity in the Operating Partnership. At December 31, 2007, the limited partners held 103,530 common units of limited partnership interest. At December 31, 2007, the limited partners held 2,348,888 Series C Preferred Units and 1,098,348 Series F Preferred Units. Income is allocated to the common unit minority interest based on the weighted average percentage ownership throughout the year and to the preferred unit minority interest based upon their respective percentage of the liquidation preference.

Outstanding Operating Partnership units of limited partnership interest are redeemable for cash or, at the option of the Company, for a like number of shares of beneficial interest of the Company.

Stock-Based Compensation

Prior to 2003, the Company applied Accounting Principles Board Opinion No. 25 and related interpretations in accounting for the 1998 Share Option and Incentive Plan (“1998 Plan”). Accordingly, no compensation costs were recognized for stock options granted to the Company’s employees, as all options granted under the plan had an exercise price equal to the market value of the underlying stock on the date of grant. Effective January 1, 2003, the Company adopted the fair value recognition provisions of Statement No. 123 prospectively for all options granted to employees and members of the Board of Trustees. No options have been granted since 2002. Options granted under the 1998 Plan vest over three to four years. Therefore the costs recognized related to stock-based compensation for 2005 are less than that which would have been recognized if the fair value based method had been applied to all grants since the original effective date of Statement No. 123. There were no such costs for 2007 and 2006 since the options were fully vested by then.

The Company has applied Accounting Principles Board Opinion No. 25 and related interpretations in accounting for the 1998 Plan. Accordingly, no compensation costs have been recognized. Had compensation cost for all of the options granted under the Company’s 1998 Plan been determined in accordance with the method required by Statement No. 123, the Company’s net income and net income per common share for the year ended December 31, 2005 would approximate the pro forma amounts below:

 

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     2005  
     Pro Forma  

Net income available to common shareholders

   $ 20,767  

Stock-based employee compensation expense

     (30 )
        

Pro forma net income

   $ 20,737  
        

Pro forma net income per common share:

  

Basic (after dividends paid on unvested restricted shares)

   $ 0.67  
        

Diluted (before dividends paid on unvested restricted shares)

   $ 0.67  
        

Reclassification

Certain amounts in the 2006 and 2005 financial statements have been reclassified to conform with 2007 presentation.

Recently Issued Accounting Pronouncements

In March 2006, the Financial Accounting Standards Board (“FASB”) Emerging Issues Task Force issued Issue 06-03 (“EITF 06-03”), “How Sales Taxes Collected From Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement.” A consensus was reached that entities may adopt a policy of presenting sales taxes in the income statement on either a gross or net basis. If taxes are significant, an entity should disclose its policy of presenting taxes. The guidance is effective for periods beginning after December 15, 2006. The Company presents sales net of sales taxes. Adoption on January 1, 2007 did not have an effect on the Company’s policy related to sales taxes and therefore, did not have an effect on the Company’s consolidated financial statements.

In June 2006, the FASB issued FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (“FIN 48”). FIN 48 is an interpretation of FASB Statement No. 109, “Accounting for Income Taxes,” and it seeks to reduce the diversity in practice associated with certain aspects of measurement and recognition in accounting for income taxes. In addition, FIN 48 provides guidance on derecognition, classification, interest and penalties, and accounting in interim periods and requires expanded disclosure with respect to the uncertainty in income taxes. FIN 48 is effective as of the beginning of the Company’s 2007 fiscal year. The cumulative effect, if any, of applying FIN 48 is to be reported as an adjustment to the opening balance of retained earnings in the year of adoption. Adoption on January 1, 2007 did not have a material effect on the Company. Open tax years include 2003 through 2007 for federal income tax purposes and all states in which the Company owns hotels.

In September 2006, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“FAS 157”). FAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair value measurements. FAS 157 applies under other accounting pronouncements that require or permit fair value measurements. Accordingly, this statement does not require any new fair value measurements. This guidance was issued to increase consistency and comparability in fair value measurements and to expand disclosures about fair value measurements. FAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007. The Company does not believe adoption will have a material effect on the Company.

In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities” (“FAS 159”). FAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. The objective of the guidance is to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. FAS 159 is effective as of the beginning of the first fiscal year that begins after November 15, 2007. Management is currently evaluating the impact FAS 159 will have on the Company’s consolidated financial statements.

In December 2007, the FASB issued revised SFAS No. 141, “Business Combinations” (“FAS 141(R)”). FAS141(R) establishes principles and requirements for how the acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any noncontrolling interest in the acquirer;

 

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recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase; and determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. The objective of the guidance is to improve the relevance, representational faithfulness, and comparability of the information that a reporting entity provides in its financial reports about a business combination and its effects. FAS 141(R) is effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. Management is currently evaluating the impact FAS 141(R) will have on the Company’s consolidated financial statements.

In December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in Consolidated Financial Statements” (“FAS 160”). FAS 160 establishes accounting and reporting standards that require the ownership interests in subsidiaries held by parties other than the parent be clearly identified, labeled, and presented in the consolidated statement of financial position within equity, but separate from the parent’s equity; the amount of consolidated net income attributable to the parent and to the noncontrolling interest be clearly identified and presented on the face of the consolidated statement of income; changes in a parent’s ownership interest while the parent retains its controlling financial interest in its subsidiary be accounted for consistently; when a subsidiary is deconsolidated, any retained noncontrolling equity investment in the former subsidiary be initially measured at fair value; and entities provide sufficient disclosures that clearly identify and distinguish between the interests of the parent and the interests of the noncontrolling owners. The objective of the guidance is to improve the relevance, comparability, and transparency of the financial information that a reporting entity provides in its consolidated financial statements. FAS 160 is effective for fiscal years beginning on or after December 15, 2008. Management is currently evaluating the impact FAS 160 will have on the Company’s consolidated financial statements.

Income Taxes

The Company has elected to be taxed as a REIT under Sections 856 through 860 of the Code commencing with its taxable year ended December 31, 1998. To qualify as a REIT, the Company must meet a number of organizational and operational requirements, including a requirement that it currently distribute at least 90% of its adjusted taxable income to its shareholders. It is the Company’s current intention to adhere to these requirements and maintain the Company’s qualification for taxation as a REIT. As a REIT, the Company generally is not subject to federal corporate income tax on that portion of its net income that is currently distributed to shareholders. If the Company fails to qualify for taxation as a REIT in any taxable year, it will be subject to federal income taxes at regular corporate rates (including any applicable alternative minimum tax) and may not be able to qualify as a REIT for four subsequent taxable years. Even if the Company qualifies for taxation as a REIT, the Company 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. As a wholly-owned taxable-REIT subsidiary of the Company, LHL is required to pay income taxes at the applicable rates.

Earnings Per Share

Basic earnings per share is based on the weighted average number of common shares of beneficial interest outstanding during the year excluding the weighted average number of unvested restricted shares. Diluted earnings per share is based on the weighted average number of common shares of beneficial interest outstanding plus the effect of in-the-money stock options and unvested restricted shares.

3. Acquisition of Hotel Properties

On January 27, 2006, the Company acquired a 100% interest in the Le Parc Suite Hotel, a 154-room, upscale, full-service hotel located in West Hollywood, California, for $47,000. The source of the funding for the acquisition was the Company’s senior unsecured credit facility and assumption of debt. The property is leased to LHL, and Outrigger Lodging Services was retained to manage the property.

On March 1, 2006, the Company acquired a 100% interest in the Hotel Sax Chicago (formerly House of Blues Hotel), a 353-room, full-service hotel and related Marina City retail and parking facilities, located in Chicago, Illinois, for $114,500. The source of the funding for the acquisition was proceeds from the February 2006 equity

 

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offerings and the Company’s senior unsecured credit facility. The property is leased to LHL, and Gemstone Hotels & Resorts, LLC was retained to manage the property.

On March 1, 2006, the Company acquired a 100% interest in the Westin Michigan Avenue, a 751-room, upscale, full-service hotel located in Chicago, Illinois, for $214,700. The source of the funding for the acquisition was proceeds from the February 2006 equity offerings and the Company’s senior unsecured credit facility. The property is leased to LHL, and Starwood Hotels & Resorts continues to manage the property.

On June 15, 2006, the Company acquired a 100% interest in the Alexis Hotel, a 109-room, upscale, full-service hotel located in Seattle, Washington, for $38,005. The source of the funding for the acquisition was the Company’s senior unsecured credit facility. The property is leased to LHL, and Kimpton Hotel & Restaurant Group LLC continues to manage the property.

On August 1, 2006, the Company acquired a 100% interest in the Hotel Solamar, a 235-room, upscale, full-service hotel located in San Diego, California, for $87,000. The hotel is subject to a ground lease which expires on December 30, 2102. The source of the funding for the acquisition was the Company’s senior unsecured credit facility. The property is leased to LHL, and Kimpton Hotel & Restaurant Group LLC continues to manage the property.

On November 17, 2006, the Company acquired a 100% interest in the Gild Hall (formerly Holiday Inn Manhattan Wall Street District), a 138-room, urban, full-service hotel located in New York, New York for approximately $50,500. The source of the funding for the acquisition consisted of the Company’s assumption of an approximately $20,000 first mortgage on the property and the Company’s issuance of 70,000 common partnership units and 1,098,348 Series F Preferred Units. The property is leased to LHL, and Thompson Hotels was selected to manage the property.

On December 19, 2006, the Company acquired a 100% interest in Hotel Amarano Burbank (formerly The Graciela Burbank), a 99-room, luxury full-service hotel located in Burbank, California for approximately $36,500. The source of the funding for the acquisition was the Company’s senior unsecured credit facility. The property is leased to LHL, and Outrigger Lodging Services was selected to manage the property.

The following condensed pro forma financial information is presented as if the acquisitions as discussed above had been consummated and leased as of January 1, 2006:

 

     For the year ended
December 31,
     2007    2006
     (Actual)    (Pro Forma)

Total revenues

   $ 662,433    $ 635,533

Net income applicable to common shareholders of beneficial interest

   $ 61,543    $ 65,560

Net income applicable to common shareholders of beneficial interest per weighted average common share:

     

basic (after dividends paid on unvested restricted shares)

   $ 1.53    $ 1.64

diluted (before dividends paid on unvested restricted shares)

   $ 1.53    $ 1.63

Common shares outstanding

     

basic

     39,852,182      39,852,182

diluted

     40,113,388      40,113,388

 

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4. Investment in Hotel Properties

Investment in hotel properties as of December 31, 2007 and 2006 consists of the following:

 

     December 31,
2007
    December 31,
2006
 

Land

   $ 198,893     $ 210,358  

Buildings and improvements

     1,755,544       1,754,034  

Furniture, fixtures and equipment

     288,904       264,395  
                
     2,243,341       2,228,787  

Accumulated depreciation

     (357,918 )     (296,646 )
                
   $ 1,885,423     $ 1,932,141  
                

The December 31, 2007 balance of investment in hotel properties excludes $111,236 of property under development primarily for Gild Hall (formerly Holiday Inn Manhattan Wall Street District), Hotel Amarano Burbank (formerly The Graciela Burbank), Chaminade Resort and Conference Center, Donovan House (formerly Washington Grande Hotel) and Westin Michigan Avenue. The December 31, 2006 balance of investment in hotel properties excludes $60,549 of property under development primarily for San Diego Paradise Point Resort, Lansdowne Resort, Chaminade Resort and Conference Center, Hilton San Diego Resort and Donovan House (formerly Washington Grande Hotel).

The hotels owned as of December 31, 2007 are located in California (nine), the District of Columbia (seven), Indiana, Illinois (two), Massachusetts (three), Minnesota, New Jersey, New York, Rhode Island, Texas, Virginia (two) and Washington State (two).

5. Notes Receivable

The Company provided working capital to LHL and the other lessees in exchange for working capital notes receivable. As of December 31, 2007 and 2006, the working capital notes receivable from third party lessees was $217. The working capital notes receivable bear interest at 5.6% per annum and have terms identical to the terms of the related participating lease. The working capital notes receivable are payable in monthly installments of interest only.

6. Discontinued Operations

Effective January 10, 2007 the Company entered into a contract to sell the LaGuardia Airport Marriott (“LaGuardia”). The asset was classified as held for sale at that time, and accordingly, depreciation was suspended. The Company sold LaGuardia on January 26, 2007 and recognized a gain of $30,401. The gain is recorded in discontinued operations in the accompanying consolidated statement of operations. The Company utilized the sale of the hotel as the disposition property in the reverse 1031 exchange established in conjunction with the Hotel Solamar acquisition in August 2006. As a result, the Company’s gain will be deferred for tax purposes. LaGuardia’s total revenues of $1,988, $32,521 and $30,790 are included in discontinued operations for the years ended December 31, 2007, 2006 and 2005, respectively. LaGuardia’s operating income before income tax benefit is included in discontinued operations of the accompanying consolidated statements of operations. For the years ended December 31, 2007, 2006 and 2005, LaGuardia had operating income before income tax benefit of $63, $3,570 and $2,948, respectively. Revenues and expenses of LaGuardia for years ended December 31, 2006 and 2005 have been reclassified to conform to the current presentation. Also included in discontinued operations for the year ended December 31, 2005 is operating loss before income tax benefit of $45 related to Omaha Marriott (“Omaha”) which was sold in September 2004. At December 31, 2007, the Company had no assets or liabilities related to the sales of LaGuardia or Omaha.

The Company allocates interest expense to discontinued operations for debt that is to be assumed or that is required to be repaid as a result of the disposal transaction. The Company did not allocate any interest to discontinued operations for the years ended December 31, 2007, 2006, or 2005.

7. Disposition of Land

On March 15, 2005, the Company sold approximately eight acres of land located at the Lansdowne Resort for $1,500, resulting in income of approximately $418, net of closing cost, which is included in other income on the consolidated statement of operations. At the time the Company purchased the Lansdowne Resort, the

 

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seller had entered into a contract with a third party for the sale of the eight acres. The eight acre contract was assigned to the Company at closing and the purchase/sale agreement related to the acquisition of the resort required the Company to pay the seller upon completion of the sale $1,080 of net sale proceeds which represented the expected sales price for the land. On March 21, 2005, the Company made the $1,080 payment to the seller resulting in the gain of $418.

 

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8. Long-Term Debt

Debt at December 31, 2007 and December 31, 2006 consisted of the following:

 

Debt

   Interest
Rate at
December 31,
2007
    Maturity Date   Balance Outstanding at
       December 31,
2007
   December 31,
2006

Credit facilities

         

Senior Unsecured Credit Facility

   Floating (a)   April 2011(a)   $ 56,000    $ —  

LHL Unsecured Credit Facility

   Floating (b)   April 2011(b)     14,416      —  
                 

Total borrowings under credit facilities

         70,416      —  
                 

Massport bonds

         

Harborside Hyatt Conference Center & Hotel (taxable)(c)

   Floating (c)   March 2018     5,400      5,400

Harborside Hyatt Conference Center & Hotel (tax exempt)(c)

   Floating (c)   March 2018     37,100      37,100
                 

Total bonds payable

         42,500      42,500
                 

Mortgage loans

         

Le Parc Suite Hotel

   7.78%     May 2008(d)     14,860      15,295

Gild Hall (Formerly Holiday Inn Manhattan Wall Street District)

   Floating (e)   November 2008(e)     20,000      20,000

Sheraton Bloomington Hotel Minneapolis South and Westin City Center Dallas

   8.10%     July 2009     39,661      40,744

San Diego Paradise Point Resort

   5.25%     February 2009     59,729      61,182

Hilton Alexandria Old Town

   4.98%     September 2009     32,032      32,802

Le Montrose Suite Hotel

   8.08%     July 2010     13,392      13,629

Hilton San Diego Gaslamp Quarter

   5.35%     June 2012     59,600      59,600

Hotel Solamar

   5.49%     December 2013     60,900      60,900

Hotel Deca

   6.28%     August 2014     10,360      10,567

Westin Copley Place

   5.28%     August 2015     210,000      210,000

Westin Michigan Avenue

   5.75%     April 2016     140,000      140,000

Indianapolis Marriott Downtown

   5.99%     July 2016     101,780      101,780
                 

Mortgage loans

         762,314      766,499

Unamortized loan premium(f)

         590      978
                 

Total mortgage loans

         762,904      767,477
                 

Total debt

       $ 875,820    $ 809,977
                 

 

(a) Borrowings bear interest at floating rates equal to, at the Company’s option, either (i) LIBOR plus an applicable margin or (ii) an Adjusted Base Rate plus an applicable margin. At December 31, 2007, the rates applicable to the Company’s outstanding LIBOR borrowings of $29,000 and $27,000 were 6.00% and 5.91%, respectively. The Company has the option to extend the credit facility’s maturity date to April 2012.

 

(b) Borrowings bear interest at floating rates equal to, at LHL’s option, either (i) LIBOR plus an applicable margin, or (ii) an Adjusted Base Rate plus an applicable margin. At December 31, 2007, the rate applicable to LHL’s outstanding LIBOR borrowing was 5.90%. LHL has the option to extend the credit facility’s maturity date to April 2012.

 

(c) The Massport bonds are secured by letters of credit issued by the Royal Bank of Scotland that expire in 2009. The Royal Bank of Scotland letters of credit are secured by the Harborside Hyatt Conference Center & Hotel. The bonds bear interest based on weekly floating rates. The interest rates at December 31, 2007 were 4.95% and 3.49% for the $5,400 and $37,100 bonds, respectively. The interest rates at December 31, 2006 were 5.38% and 4.01% for the $5,400 and $37,100 bonds, respectively. The Company also incurs a 1.35% annual letter of credit fee, which has been reduced to 1.10% beginning in February 2008.

 

(d) The Company intends to repay the mortgage loan through borrowings on its credit facilities upon maturity.

 

(e) Mortgage debt bears interest at LIBOR plus 0.75%. The interest rates at December 31, 2007 and December 31, 2006 were 5.65% and 6.10%, respectively. The Company has the option to extend the maturity date for two consecutive one-year periods and a final 13-month period.

 

(f) Mortgage debt includes unamortized loan premiums for Le Parc Suite Hotel and Hotel Deca of $107 and $483, respectively, as of December 31, 2007, and $428 and $550, respectively, as of December 31, 2006.

 

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Future scheduled debt principal payments at December 31, 2007 are as follows:

 

2008

   $ 38,833

2009

     128,434

2010

     13,108

2011

     72,242

2012

     63,554

Thereafter

     559,059
      
     875,230

Premium on mortgage loan

     590
      

Total

   $ 875,820
      

Credit Facility

The Company has a senior unsecured credit facility from a syndicate of banks that provides for a maximum borrowing of up to $300,000. On January 14, 2008, the Company amended the credit facility to increase the maximum borrowing to $450,000. On April 13, 2007, the Company amended the credit facility to extend the credit facility’s maturity date to April 13, 2011 with a one-year extension option and to reduce the applicable margin pricing by a range of 0.8% to 1.0%. The senior unsecured credit facility contains certain financial covenants relating to debt service coverage, net worth and total funded indebtedness. It also contains financial covenants that, assuming no continuing defaults, allow the Company to make shareholder distributions. Borrowings under the facility bear interest at floating rates equal to, at the Company’s option, either (i) LIBOR plus an applicable margin, or (ii) an “Adjusted Base Rate” plus an applicable margin. As of December 31, 2007, the Company was in compliance with all debt covenants and was not otherwise in default under the credit facility. For the years ended December 31, 2007 and 2006, the weighted average interest rate for borrowings under the senior unsecured credit facility was 6.0% and 7.1%, respectively. The Company did not have any Adjusted Base Rate borrowings outstanding at December 31, 2007. Additionally, the Company is required to pay a variable unused commitment fee determined from a ratings or leverage based pricing matrix, currently set at 0.125% of the unused portion of the senior unsecured credit facility. The Company incurred unused commitment fee of $392 and $520 for the years ended December 31, 2007 and 2006, respectively. At December 31, 2007 and 2006, the Company had $56,000 and zero, respectively, of outstanding borrowings under the senior unsecured credit facility.

LHL has a $25,000 unsecured revolving credit facility to be used for working capital and general lessee corporate purposes. On April 13, 2007, LHL amended the credit facility to extend the credit facility maturity date to April 13, 2011 with a one-year extension option and to reduce the applicable margin pricing by a range of 0.8% to 1.0%. Borrowings under the LHL credit facility bear interest at floating rates equal to, at LHL’s option, either (i) LIBOR plus an applicable margin, or (ii) an “Adjusted Base Rate” plus an applicable margin. As of December 31, 2007, LHL was in compliance with all debt covenants and was not otherwise in default under the credit facility. For the years ended December 31, 2007 and 2006, the weighted average interest rate for the borrowings under the LHL credit facility was 6.1% and 6.7%, respectively. LHL did not have any Adjusted Base Borrowings outstanding as of December 31, 2007. Additionally, LHL is required to pay a variable unused commitment fee determined from a ratings or leverage based pricing matrix, currently set at 0.125% of the unused portion of the LHL credit facility. LHL incurred unused commitment fees of an immaterial amount for the years ended December 31, 2007 and 2006. At December 31, 2007 and 2006, LHL had $14,416 and zero, respectively, of outstanding borrowings under LHL credit facility.

Bonds Payable

The Company is the obligor with respect to a $37,100 tax-exempt special project revenue bond and $5,400 taxable special project revenue bond, both issued by the Massachusetts Port Authority (collectively, the “Massport Bonds”). The Massport Bonds, which mature on March 1, 2018, bear interest based on weekly floating rates and have no principal reductions prior to their scheduled maturities. The Massport Bonds may be redeemed at any time, at the Company’s option, without penalty. On February 15, 2006, the tax-exempt special project revenue refunding

 

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bonds and the taxable special project revenue refunding bonds, issued by the Massachusetts Port Authority, were remarketed with the supporting letters of credit being provided by the Royal Bank of Scotland, replacing General Electric Capital Corporation. The letters of credit expire on February 14, 2009 unless extended per the agreements. The annual letter of credit fee which is included in interest expense was reduced from 2% to 1.35%. Effective February 2008, the annual letter of credit fee has been reduced to 1.10%. The bonds are secured by the letters of credit and the letters of credit are secured by the Harborside Hyatt Conference Center & Hotel. If the Royal Bank of Scotland fails to renew its letters of credit at expiration and an acceptable replacement provider cannot be found, the Company may be required to pay-off the bonds. For the years ended December 31, 2007 and 2006, the weighted average interest rate on the Massport Bonds was 3.9% and 3.7%, respectively. Interest expense for the years ended December 31, 2007 and 2006 was $1,645 and $1,564, respectively. At December 31, 2007, the Company had outstanding bonds payable of $42,500.

Mortgage Loans

The Company’s mortgage loans are secured by the respective property. The mortgages are non-recourse to the Company except for fraud or misapplication of funds.

On January 27, 2006, in connection with the acquisition of the Le Parc Suite Hotel, the Company assumed a $15,667 mortgage secured by the hotel. The mortgage loan matures on May 1, 2008 and does not allow prepayment without penalty. The mortgage loan bears interest at 7.78% and has monthly interest and principal payments of $136. The Company recorded the mortgage loan at its fair value, and recorded a loan premium of $713 which was recorded as an increase in the carrying value of the loan. The loan premium is amortized as an adjustment to interest expense over the remaining life of the loan.

On March 3, 2006, the Company entered into a $140,000 10-year mortgage loan that is secured by the Westin Michigan Avenue. The mortgage loan matures on April 1, 2016 and does not allow for prepayment without penalty prior to January 1, 2016. The mortgage loan bears interest at a fixed rate of 5.75% and requires interest only payments for the first five years and interest plus principal payments on a 30-year amortization schedule for the last five years.

On June 8, 2006, the Company entered into a $101,780 10-year mortgage loan that is s