Extended Stay America, Inc.
Q2 2016 Earnings Call Transcript

Published: 28 Jul 2016

[Operator:]

Greetings and welcome to the Extended Stay America’s Second Quarter 2016 Earnings Conference Call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, today’s conference is being recorded. At this time, it is my pleasure to introduce your host, Mr. Rob Ballew, Investor Relations. Sir, you may begin.

[Robert Ballew:]

Good morning and welcome to Extended Stay America's second quarter 2016 conference call. Both the second quarter earnings release and an accompanying presentation are available on the Investor Relations portion of our website at esa.com, which you can access directly at aboutstay.com. Joining me on the call today are Gerry Lopez, Chief Executive Officer; Jonathan Halkyard, Chief Financial Officer and Tom Bardenett, Chief Operating Officer. After prepared remarks by Gerry and Jonathan, there will be a question-and-answer session. Before we begin, I'd like to remind you that some of our discussion today will contain forward-looking statements, including the discussion of our 2016 outlook. Actual results may differ materially from those indicated in the forward-looking statements. Forward-looking statements made today speak only as of today. The factors that could cause actual results to differ from those implied by the forward-looking statements are discussed in our Form 10-K filed with the SEC February 23, 2016 and in our other filings with the SEC including our Form 10-Q filed this morning. In addition, on today's call we will reference certain non-GAAP financial measures. More information regarding these non-GAAP financial measures, including reconciliations to the most comparable GAAP measures are included in the earnings release and Form 10-Q filed this morning. With that, I'll turn it over to Gerry.

[Gerardo Lopez:]

Thanks Rob. And thank you everyone for joining us today for our second quarter 2016 earnings call. As you have by now seen in our press release this morning Extended Stay’s second quarter revenue and adjusted EBITDA results came in at the low end of our guidance range. We always expect to come in well within the range of numbers we provide you for the topline April softness that we mentioned in our last call continuing to May and the much better June was just not enough to bring us out a way back. Despite the softness truth is in Q2 we did manage our Company’s highest ever total RevPAR performance evidence that our strategic direction remains true, even as we endure the ebbs and flows of the business cycle. Our strategic direction has served us well for the first six months of the year. As Comparable Hotel revenues have grown 4.7% over prior year and are now $620.3 million. While adjusted EBITDA grew 3.1% to $287.5 million. As you could guess these are fueled by Comparable Hotel RevPAR growth of 4%, which is ahead of both the overall industry and our closest chain-scales for these last six months. Now regionally in the second quarter RevPAR growth in the West Coast slowed from the very strong pace we saw during the first quarter. This include a weakness in the Seattle and San Francisco Bay Area markets, the Northeast and Midwest also slowed a bit from their pace earlier in the year with pressure in both the Chicago and Boston markets. The Southeast on the other hand was our strongest performing region during the second quarter continuing a strong pace of growth that we saw in the first quarter. In fact Atlanta, Charlotte, Tampa and several others markets in the Southeast saw 10% or stronger RevPAR growth during the second quarter. Now moving over to the earning side. We had challenging flow through in the second quarter as announced and anticipated. This is because of one-time items such as cycling on a property tax refund in Q2 of 2015 and the fact that we're confident against expenses from important initiatives that we put in place in the third and fourth quarters of 2015. We also face a doubling of room nights loss to renovation this quarter versus a same period a year-ago. As we raise to wrap up that important initiative by early 2017. And Jonathan will discuss all of these items in more detail in a few minutes. All-in-all adjusted EBITDA for the second quarter came in at $164.7 million or roughly 1% increase of a Comparable Hotel adjusted EBITDA from 2015 against revenue of $332.8 million which was 3.4% better. As others in the industry have commented corporate sales growth during the second quarter was softer. We saw corporate sales grow at 4% in the second quarter over the same quarter in 2015 better than we've heard from others, but still a slowdown from the 13% growth pace that we saw in Q1 of this year. As a side note a week ago I and other members of our executive team were able to meet with many of our current and potential corporate clients at GBTA, The Global Business Travel Association convention in Denver. We were encouraged by those conversations and believe that we offer a great value in corporate environments where cost savings are top of mind. Our national scope on our singular Extended Stay focus allows presenting a unique proposition to these clients. During the quarter, we were able to fill most of room nights that we expected, but didn't get from corporate sales to our proprietary retail channels and OTAs. The switch in distribution led to ADR growth for Comparable Hotels to slow from 5.9% in the first quarter to 4% in the second quarter. Now with a 4% very respectable growth rate number particularly in economy and mid scale, it was still at the lower-end of our own expectations. With all of this said it is worth noting the corporate sales for the trailing 12 months ended June 30 have increased a very strong 10% for us and now make up 45% of our total revenues. As a result of the softer corporate demand, our automated revenue management system and the people who operated kick into high gear. Although it’s economic impact is needed when demand softens that system is really built for high demand and shoulder days. Having this capability gives us a chance to optimize rates locally. We saw a 12% increase in what our system now calls high demand days this quarter versus the same period a year ago in large part due to the new disciplines and processes that our people now follow were running the hotels for yield. Although, the rate [premier] was muted overall there were some strong successes in very specific markets. For example, in Nashville, in June we were able to pick up ADR gains well over 20% during both peak and shoulder days during the Country Music Awards on higher occupancy, yet across the country even a softer corporate demand overall. For 2016, we expect this system to provide a lift now closer to a low end of the 1% to 2% RevPAR that we’ve announced earlier for the year. Remember that for us a 1% lift to RevPAR rate growth represents between $10 million and $11 million in EBITDA. Our loyalty program extended perks make strides in the second quarter. We now have 1.35 million guests signed up for the program, up nearly 200,000 members in the last 3.5 months. Loyalty guests have made up 26% of our total revenue in the second quarter of 2016 compared to only about 10% in the same quarter for 2015. Also the percentage of loyalty members have stayed with us at least once during the second quarter nearly doubled compared to that of the second quarter in 2015. Now, turning our attention to the hotel industry. The second quarter RevPAR growth of 3.5% represented what many would call another soft quarter. We were however, pleased that we continued to outpace the primary hotel chain-scales that we compete with economy and mid-scale. And so far in third quarter, we are facing ahead of the soft industry reported RevPAR growth with the West Coast revenue rebounding slightly and the Republican and Democratic National Conventions in Cleveland and Philadelphia respectively supporting strong revenue growth in the Midwest and mid-Atlantic market for us. Supply growth expectations for the industry and our segments over the next two years have remained very stable in 2016. According to Smith Travel Research, the industry is expected to have supply growth of about 1.7% in 2016 and 1.9% in 2017. Our primary competitive sets however economy and mid-scale, chain-scales are expected to grow room supply on average below 1% for both of those years and combined still only make up about 8% of the total hotel pipeline with the rest of the industry focused on supply growth upstream levels. Moving on to our ESA 2.0 plans, which we outlined in early June. I am highly encouraged with the progress we've made during the quarter. Even before we [step off] a team all filed a required documents following our Investor Day in June we have strong interest in franchising our brand and I've had discussions with many during the NYU Hospitality Conference. We’ve had several inbound calls and auto communications with various interested parties both domestic and foreign. Many potential franchisees are excited about our product offering and we are very encouraged by our initial conversations. Also through our second cost of cost estimation for new hotels. As a reminder, we believe our new hotels will cost between $85,000 and $95,000 per key close to $1 million to $2 million in land acquisition costs with a stabilize cash and cash return of about 11% to 12%. For our new prototype hotels, we expect to have a letter of intent signed on land in our own hometown of Charlotte by the end of this year 2016 and expect to break ground on construction in mid-2017. In July, we also completed our portfolio review as part of our asset merchant strategy completing the second phase deep dive over top 200 hotels. This deep dive confirms we sell from the first phase of the review on all of our hotels. As a reminder, we believe we will complete a plus renovation package on 125 to 150 hotels, monetize excess land on about 15 to 20 sites, we develop about 15 to 30 hotels and sell approximately 150 hotels over the next five years. We will invest capital in hotels that we believe will generate a strong return for shareholders with the next phase of renovations beginning in 2019. We will limit capital spend on assets that we don’t believe well generate strong returns and we look to sell less strategic hotels or sell hotels to simulate franchise growth. We have been very encouraged by the interest in our existing properties since our Investor Day. Before I turn to call over to Jonathan, I wanted to briefly comment on our earnings performance. We remain committed to grow in EBITDA even in a potentially slower RevPAR growth environment by keeping a vigilant eye on our corporate and property cost structures. We already have the leanest cost structure and highest operating margins in the industry, but we've identified a number of cost saving initiatives of approximately $7 million that are to be implemented in the second half of this year. This include restructuring of the departments and changing some expense of control, eliminating or delaying some projects and making some changes to processes and procedures that have been affected or not as affected as we would like. These changes will have no impact on guest and will also nor impact our future growth plans with outline, but do prepare as well for slower RevPAR growth environment. We are taking action now rather than waiting to see how the balance of the year unfolds. I’ll now turn the call over to Jonathan, how will provide you more detail on our financial results and provide an update to our 2016 outlook. Jonathan?

[Jonathan Halkyard:]

Thanks very much, Gerry. Without question, the operating environment in the second quarter was more challenging than in the first quarter. Our Comparable Hotels posted revenue growth of 3.4% at the lower end of our guidance range. Total revenues in the second quarter were down 2.2% at $332.8 million reflecting the sale of the 53 economy Extended Stay hotels during the fourth quarter of last year. Comparable Hotel revenue growth for the first six months of 2016 was 4.7%. Comparable Hotels posted a RevPAR increase of 3.3% in the second quarter to $51.89, driven by ADR growth of 4% and an occupancy decline of 50 basis points. The decline in occupancy was primarily caused by our rooms under renovation compared to the second quarter of 2015. Comparable Hotels RevPAR growth for the first six months of 2016 was 4% driven by an ADR increase of 4.9%. Overall RevPAR grew 7% in the second quarter driven by ADR growth of 7.6%. Our improved asset quality brought about by the asset sale in December helped lift our ADR growth by about 3.6 percentage points. Overall occupancy decreased 40 basis points to 76.7% during the second quarter, due primarily to an increase in renovation room displacement from 0.4% of available rooms last year to 0.9% of available rooms this year. Our renovated properties saw RevPAR growth of 3.7% during the second quarter driven by ADR growth of 3.5% and an occupancy improvement of 20 basis points. During the quarter, we completed 35 hotel renovations bringing our total number of renovated hotels to 530 and we remain on track to complete our renovation program in early 2017. Our non-renovated properties which are now less than 20% of our hotels outperformed in the second quarter with 4.4% RevPAR growth. RevPAR growth was driven by ADR growth of 4.2% and an occupancy increase of 20 basis points. The outperformance of our non-renovated properties as compared to our renovated properties was driven primarily by favorable market environments with the majority of the non-renovated properties in the south, a region which was very healthy during the quarter and as expected hotels under renovation by RevPAR decline of 6.8% driven by a 10 point drop in occupancy from room displacement. Hotel operating margin declined 130 basis points in the second quarter. Comparable Hotel operating margin declined by 190 basis points to 55.8%. The decline in hotel operating margin was driven by initiative expense of approximately $1.7 million, an increase in mix from OTA and opaque business that offset the softness in corporate sales. Cycling on the property tax refund of $2.1 million in the second quarter of 2015 and higher than expected employee benefits expense. These increases were partially offset by favorable property insurance expense during the quarter. For the first six months of 2016 Comparable Hotel operating margin declined 120 basis points to 53.3%. Corporate overhead expenses excluding non-cash share-based compensation decreased 9.4% to $21 million in the second quarter. The decrease in corporate overhead was due primarily to lower personnel expenses from short-term incentive compensation and legal expenses, partially offset by $0.7 million in expense on future growth initiatives related to development and franchising and our expanded corporate sales team. Adjusted EBITDA for the second quarter was approximately $164.7 million dollars. Comparable Hotel adjusted EBITDA increased 0.9% or $1.5 million during the second quarter. While we do expect some elevated employee benefits expense for the remainder of the year. We will also begin to experience a normal comparison to certain property and corporate expenses in the second half of 2016. For the first six months of 2016 Comparable Hotel adjusted EBITDA increased 3.1% to $287.5 million. Interest expense during the quarter was $35.8 million compared to $35.5 million in the second quarter of last year. For the first six months of 2016 interest expense was $82.7 million compared to $66.8 million for the same period in 2015. The increase in interest expense this year-to-date is primarily due to debt extinguishment expense related to our refinancing activity in the first quarter. Our effective tax rate for the second quarter was 10.8% and with 12% for the first six months of 2016. This lower than expected tax rate was due to the reversal of a deferred tax liability related to the Company's anticipated receipt of future non-taxable distributions from ESH REIT. Net income for the second quarter decreased 5.3% to $61.4 million due to higher depreciation expense from renovations and last contribution from the hotel sold in December, partially offset by lower income tax. Net income for the first six months was $76.1 million. Our adjusted Paired Share income prepared share for the second quarter was $0.31 and adjusted Paired Share income was $63 million compared to $66.8 million in the same quarter of 2015. Adjusted Paired Share income prepared share for the first six months of 2016 was $0.44 and adjusted Paired Share income was $88.8 million compared to $97.2 million in the same period last year. Adjustments to Paired Share income are detailed in this morning release. Turning to the balance sheet and cash flow. Capital expenditures for the second quarter total $53 million, including $26.4 million on renovations and $24.3 million in maintenance capital, capital expenditures for the first six months of 2016 total of $109.9 million dollars. During the second quarter the Company repurchased approximately $2.1 million Paired Shares for $31.6 million. For the year the Company is repurchased approximately 4 million Paired Shares for $60.4 million and has a remaining authorization at the end of the second quarter of $139.6 million. We ended the quarter with total cash of $327.2 million comprised of $137.1 million in unrestricted cash and $190.1 million in restricted cash. Net debt was approximately $2.5 billion at the end of the quarter and net debt to trailing 12-month adjusted EBITDA of Comparable Hotels was 4.3 time. Now this morning the Boards of Directors of Extended Stay America Inc., in ESH Hospitality Inc., declared a cash distribution totaling $0.19 prepared share for the second quarter of 2016. These distributions include $0.10 per ESH Hospitality in Class A and Class B common share and $0.09 per Extended Stay America common share. The distributions are payable on August 25, 2016 to shareholders of record as of August 11, 2016. As a reminder ESH Hospitality and expects to distribute approximately 100% of the taxable income this year. Now looking to the full year 2016 we now expect total revenue of $1.257 billion to $1.272 billion representing Comparable Hotel revenue growth of approximately 3.25% to 4.5%. We expect $595 million to $610 million in adjusted EBITDA this year representing 3.6% to 6.2% growth over Comparable Hotel results last year. This includes approximately $7 million of expense savings we've identified for the second half of 2016 that Gerry discussed earlier, the majority of which will be realized in the fourth quarter. We expect approximately 45% to 60% property flow through for the full-year of 2016. We expect CapEx for the year to total $240 million to $260 million driven of course by an increase pace of renovations over 2015. Now for the third quarter of 2016 we expect total revenues of $348 million to $355 million which represents growth of approximately 2% to 4% over Comparable Hotel revenue in the third quarter of last year. This outlook reflects the recent pace of revenue growth and is also reflective of our renovation activity which has been a drag year-to-date but will be a positive for the third quarter with an expected 60,000 reduction in room nights displaced year-over-year. July revenue growth through last night is near the top end of our third quarter revenue guidance range. We expect adjusted EBITDA of $175 million to $182 million during the third quarter representing 1.2% to 5.2% adjusted EBITDA growth on a Comparable Hotel basis. Lastly, Extended Stay America will be participating at several upcoming Investor events. On August 8, we will be attending the Susquehanna’s Hospitality Conference in Boston. On September 15 we will be attending the Bank of America Gaming and Lodging Conference up in New York City and on September 27 will be attending the Deutsche Bank Leverage Finance Conference out in Phoenix. Rob, now let's go to questions.

[Robert Ballew:]

Before we begin the question-and-answer session, I'd like to ask everyone to limit their questions to one, with one follow-up in order to try to accommodate everyone in the queue. Operator, we will now go to questions.

[Operator:]

Thank you. We will now be conducting a question-and-answer session. [Operator Instructions] And our first question today comes from Harry Curtis from Nomura. Please go ahead with your question.

[Harry Curtis:]

Hey, good morning. Gerry you walk through pretty quickly a number of the issues behind the topline at this point. And then can you just maybe go back over them and rank some by the amount of impact that they had on the quarter and discuss what you're likely to continue throughout the year? Thanks.

[Gerardo Lopez:]

Thanks, Harry. What we saw in the quarter was a slowdown following the Easter displacement that began - following April. And that kind of manifested itself in May as well, June came back strong. For us it has been a combination of factors number one, the corporate market has slowed down significantly. We had a fantastic first quarter in the corporate market well above 10%, 13% and that number is now running closer to the industry level of 4%. So that has affected us point one. Point two geographically some of the regions that have performed really, really strong for us primarily in the West, have also now come back down to earth. This were leading us, this were leading the industry and what we've seen primarily in the San Francisco market and Seattle as well. If that - those regions are just not performing as strong as they were - I’d say were in the past. The Southeast on the other hand as I indicated in the remarks have been strong and has continued to be. So there is a broader spread of geographic performance that goes along with the corporate slowdown we have seen. In the final analysis for us Harry what we've seen is a comeback on the growth rates to something that will closely resembles the industry rather than the 1.5 or 2 times industry performance that we had experienced in the first quarter. The rate of renovations that we stepped up in the second quarter didn’t help us. We had literally twice as many room nights lost in the second quarter this year versus last. So that is kind of a little bit of a perfect storm there that didn't help us at all. That reverses itself now in the third quarter, so to the second half of your question about what we think will continue are not. The renovation headwind now becomes a tailwind literally as we see here and in fact we've seen that begin to happen in the second half of June and the first two weeks of July have been actually very strong - strong as we've had in the last three months or four months, so we're very encouraged by that. Our RMS system which slowed down, its impact was somewhat muted in the second quarter is now coming back strong as well. So we don't see a lot of factors that held us back in the second quarter be permanent in nature. I think the key headwind that we face into the third and fourth quarters of the year are just a continued uncertainty about the economic performance of the country. What's going to happen at the macro level? What's going to happen with the corporate travel business, which for us it's somewhat of a different effect? We tend to be somewhat slower because of the nature of our traveler is not that two or three night person is more than the project based people. So they lag, their reaction time lacks to what's happening in the macro level, but that's what we see as a primary headwind coming to the second half. So none of the factors really in the second quarter are kind of permanent or career ending injuries or the kind of thing that will storms, permanent storms in the horizon or more - are really more localized than that and that would be. Does that get of your question, Harry?

[Harry Curtis:]

Yes. It's a little bit clear and I did want to follow-up on the comment which you just made on the RMS system being moved. What do you think caused that? It sounds like you think it’s temporary, but could you be - could it be more permanent?

[Gerardo Lopez:]

No, the system is really the sign for the peak, for the big periods and the shorter days and on a specific market I mean it manages it down to the hotel level so we look at it down to the hotel level. So what happens is when you base demand tends to soften then the effectiveness of the system is just not going to be as impactful, because the base demand is softening up for us. The corporate business, the account business is now 45%, so not quite - just on the half of the business. When that piece of demand begins to soften on us, the system helps in that it immediately allows us to backfill those rooms with other business. So for example in our case that's OTA’s and it's the opaque business, but we're booking that OTA and that opaque business literally in the 24 house to 48 hours prior to the room being occupied. That's unusual for us. Normally the length of stay that we work and people will plan a little further ahead than that. So the system works exactly as advertised as having the impact that we thought it would. The difference is that when the base demand softens, the rate premium that we can charge also softens as you would expect in basic supply and demand. So the system is working exactly as advertised and allows our people to react quicker. We can backfill the rooms that we thought would be filled with other kind of demands with a secondary type of demand, so it works it's just that the premium that you can charge for rate is not quite what we had anticipated. So it works, it’s just not at the same level. And on an individual hotel basis it works beautifully. It's a question then of how that base softness manifest itself across all 629 hotels.

[Harry Curtis:]

That makes it clear. Thank you very much.

[Gerardo Lopez:]

You're welcome.

[Operator:]

And our next question comes from Anthony Powell from Barclays. Please go ahead with your question.

[Anthony Powell:]

Hi. Good morning, everyone. On the corporate business, could you describe whether the weakness maybe came from less market share gains for competitors or was there actually year-over-year softness or decline to some existing business you had last year?

[Gerardo Lopez:]

I will correct as well as the latter, just softness in demand people to be more cautious with their travel budgets, projects that are slower to kick in than they have been in prior quarters. The market share game is a tough one for us to track because of the nature of the competitive - the competitive set that we operate in. So for us it's really been a fact that that our big customers [indiscernible] just be more cautious with our travel, more cautious with our budget and just coming off of a meeting few folks at the convention at the GBTA convention in Denver. Everybody - the key word that I walked away with after two days of meeting people and there was cautious. People are keeping their powder dry the projects are just being more measured in how many people that put on the road and for how long and those kinds of things. Fundamentally things are okay not great, not bad just okay. And that allows us to grow industry rates, but it doesn't allow us the room to outperform to the degree that we did in the first quarter.

[Anthony Powell:]

Got it. And going to guess to the 30 night plus business that mix and decline in the second quarter. House pricing in demand in that part of the business and is there opportunity to maybe shift some room mix back to that if you get softer corporate and corporate demand going forward?

[Gerardo Lopez:]

Yes. There's been quite a bit of movement on that 30-plus business for us. In fact, a couple of years ago the large portion of that 30-plus business I would characterize as semi residential. People would been - we call them 30-plus but that in fact being with us 180 and 360 plus right. That’s good for occupancy but the daily rate that you capture from that kind of guest tends to be much lower obviously. We have now successfully moved particularly as a result of renovations a lot of that 30-plus business into more of a corporate nature. So instead of staying a year or beyond they are now staying three months or four months and beyond. The good news is of course the rate differential is quite significant. You're talking moving people from the high-30s, low-40s into the mid-50s and the low-60s. So clearly what we want to do, the question of a challenge then becomes for our sales team is you now over the course of a year need to replace that guest two times or three whereas before you might have to replace and perhaps only once. And that's kind of a transition that that we’re are working our way through as part of why you’ve seen our corporate sales number be so strong you know 10% over the last six months is because we're putting quite a bit of focus on that type of traveler versus what we have done in the past.

[Anthony Powell:]

All right. That's it for me. Thank you.

[Gerardo Lopez:]

Thank you.

[Operator:]

Our next question comes from Chris Woronka from Deutsche Bank. Please go ahead with your question.

[Chris Woronka:]

Hey, good morning, guys. I wanted to ask you if - as you're shifting to more short-term stays and pick it up more nightly business. If that is kind of having any impact on the cost structure and if that played a role in the margins in the second quarter?

[Gerardo Lopez:]

Yes, somewhat. Clearly with our operating model when you have a guest in there - in any given room. You can have two guests over the course of a week because they’ll have a three night stay and it's been a three night stay you got to clean the room twice, if you are normal guest which will stay in the room for a month. We want clean the room once a week. So yes indeed it manifests itself very much in our housekeeping and so on that's - we compensate that of course with the rate that we charge. But indeed our housekeeping expenses in the second quarter as we're going through that shortest paying guest will come up. So housekeeping is a challenge and it's not the only challenge at the hotel operating level, part of a margin compression that you saw in the quarter some of it was driven by one-time items and overlap from prior year and some packs, rebates and one-off, but yes, operating the hotel with a length of stay with a guest that have a length of stay of a week or less does present a different operating profile than our monthly average that we typically see.

[Jonathan Halkyard:]

And Chris, it’s Jonathan. When some of what we saw in the second quarter with respect to the mix shift was a product of the revenue management system helping us yield against the available demand and that when we price our hotel rooms and make determinations about what type of demand we're going to take, that's obviously washed through the profitability associated with each type of customer. So while it's true that the change in mix does of course cause us to incur some greater housekeeping expense. It is also a fact that taking that business is a more profitable decision than taking what might be say much lower rated, but longer-term business in the summer. I think you can expect in the third quarter that our shorter-term mix will continue to be fairly high, but then what we start doing right around Labor Day is building demand from those a longer duration guests which helps us of course outperform the industry with occupancy over the slower season.

[Gerardo Lopez:]

The truth is, if you look at our ADR on the OTA channel, it was up almost 9% for the quarter. That's a direct result of the revenue management system. So even as we fill these rooms with that type of demand and it does put a burden on us for the housekeeping, labor, et cetera, et cetera, it was the single fastest growing ADR channel in the quarter for us. So we’ll take that guest because to Jonathan’s point the option will be to have the room empty and particularly will take the guest even though it's a quick turnaround guest, it's coming at an 8.8% higher ADR this quarter than a year ago. So we'll take that all day long.

[Chris Woronka:]

That’s helpful. Very good. Just as a follow-up, Gerry I know you guys have about 100 hotels left to renovate and I know the data point you gave out was that the unrenovated hotels outperformed in the quarter and that was largely a function of geography. But I guess that you would ask the question. Do you reevaluate renovating all of those hotels and in the context of your kind of longer-term plan to potentially sell up to 150 and I assume there's some overlap between what's currently unrenovated and what you might sell? Is there any thinking to not renovating any of these hotels?

[Gerardo Lopez:]

Thinking, yes. We look at these hotels one-by-one, I will make those decisions one-by-one, the ones that we know are on the kind of on the short list. First in the firing line for sale will be dead last in terms of renovation, in fact we think that there are some transactions that are in our near future and we're going to be kind of very slow to renovate, but the fact remains that as we think about it and we look at it. The properties are indeed 18, 17 years old. The renovation needs to happen just to remain even basically competitive. The impact that we've seen in the RevPAR performance is really all driven by the geography. As muted as the supply growth is it's not zero and whether the hotel is owned by us, and owned and operated by us, owned by someone else and operated by us or owned and operated by someone else. The fact is we hope that they remain in our banner and whether they remain in our banner under our ownership or they remain in our banner on the somebody else's ownership. There is some basic level of maintenance in our renovation that every 15, 16 or so years just got half. Yes, we've been very thoughtful about it. We’re getting down today, obviously at the individual hotel level, but we don't see ourselves backing off from finishing the job. The truth is even if we don't renovate them, when we do go sell them. The seller is going to factor in the capital needs of the hotel into the price they are willing to pay, so one way or the other it's going to show up. So we got to think about them from the guest perspective as well. So it's not as easier decision as to put them on the list and let it rip, but in the end, we do anticipate finishing all the hotels by the early part of next year.

[Chris Woronka:]

Okay. Very good. Thanks guys.

[Gerardo Lopez:]

Thank you.

[Operator:]

Our next question comes from Thomas Allen from Morgan Stanley. Please go ahead with your question.

[Thomas Allen:]

Hey, good morning. You talked about how corporate demand slowed from the first quarter to second quarter. Can you give some color on what happened with leisure demand? Thank you.

[Gerardo Lopez:]

Yes. Our business, our leisure business is not a significant as it is for some of the other players in the lodging business. I would correct as our leisure demand as being fairly steady. It's really our personal travel. It's really - a lot of it is just entrepreneur, individual business travel. So we didn't see any significant changes in leisure this quarter versus prior year quarter. It's not something to factor into our performance.

[Thomas Allen:]

Okay. Thanks. And then if I'm calculating this correctly. It seems like you're implying that fourth quarter RevPAR, the comparable RevPAR growth will be better than third quarter comparable RevPAR growth. That's kind of the opposite of what a lot of the other lodging companies are guiding to. Can you just talk about what's driving that? Thank you.

[Jonathan Halkyard:]

We're actually - our guidance contemplates the third and fourth quarter RevPAR growths are about the same certainly within about 100 basis points. So we're looking at three and a quarter to four and a half for the year, of course, that includes our performance year-to-date two to four for the third quarter and about the same range for the fourth quarter.

[Thomas Allen:]

Okay. And then just quickly on July. I think I heard Gerry said that July is being promising so far, but more color on that would be helpful? Thank you.

[Gerardo Lopez:]

Yes. We can actually make some news during this call. As of last night, our RevPAR growth for July was about 4.5%. So with the growth in ADR and occupancy and the occupancy growth the course is among other things a function of the fact that we have more rooms to sell this year than we did last year when we had a lot more rooms under renovations. So that's why we feel pretty good about the revenue guidance that we provided for the third quarter. We mentioned some cost saves and we are going to need to accomplish some of those to be towards the high end of our guidance and adjusted EBITDA for the quarter, but that's where we are as that roughly the end of July.

[Thomas Allen:]

Thank you.

[Operator:]

Our next question comes from Smedes Rose from Citi. Please go ahead with your question.

[Smedes Rose:]

Hi. Thanks. I wanted to ask you a little more about, you mentioned the interest from potential franchisees domestic and foreign, could you characterize them to a little bit more maybe just some color around who they are, are they on the domestic part, I mean are the local folks that have franchise hotels already, are they newcomers to the business just maybe a little more thought around. I mean how does Extended Stay attracting potential development verses the many other options they have?

[Gerardo Lopez:]

It's more the former needs. It’s - folks who are already operators, our target franchise partner is indeed somebody who is already in the business, somebody who is already an operator of anywhere from a half a dozen to three dozen hotels who likes a portfolio of brands and formats where we have a role to play by bringing our operating model into the mix. Labor lean, best margins in the business, Extended Stay, Focus et cetera. And we've had a fair share - fair number of conversations with those kinds of players. We're in the process of putting together the FDV. These conversations are only preliminary until you actually put the franchise disclosure document in front of them. People are interested in the fact that our offer is not just the operating model on the economics behind they are under return et cetera, but that we are willing to see the development by selling some of our own. And that in the process of doing so we're willing to provide people a broad patches of geography to operate in, where they don't have the fear or might come in with some other brand and some new hotels and new concept a block and a half away. They see that as a significant departure. We're also trying to structure as we've had some of this conversation a fee schedule that doesn't have a bunch of traps and a bunch of [indiscernible] and those kind of things was relatively straightforward. We have not at all gone out and try to target the single unit operator that it is new to the business that you know sees the ease of operating our hotel, relative to some other formats out there because you know there's no food and beverage to speak off or anything else. And could see it as an entry into the business that is not our target franchise partner. We're going for people who know how to develop a plot of land, who already have expertise in putting up a building and certainly in managing the building where there are some management infrastructure that can quickly move in. There's also been in any number of conversations with folks who are quite candidly looking to put money to work in the U.S. who are interested in owning the real estate that we of course own 629 patches of land and letting us operate. Where they provide the owner and then we will be the management company for them. One of the things that we have found to be very valuable as we have this early conversations is the degree of flexibility, we're not that we have on ourselves, we are not walking in with any particular document that says all well we have a program and you need to conform to it for us to do business rather we walking into meetings and say well what are your objectives, we know ours and we've been pretty explicit about ours to the outside world what are yours. And if the capital exists how do we put it to work. So it's been very encouraging where we haven't even you know we've been in the process of interviewing folks and those kind of things and working on the FDV and continuing our work on the cost because that's critical. We want to put up a couple of these buildings ourselves just to prove out that the prototypes indeed can be built before we’re saying that they can be built, but any good businessman is going to want to see one built by us before he or she puts up one on their own with their own money. So we're working across all of those elements and nothing that we have seen in the last 45 days, 60 days since we have the Investor Day has dissuaded us from this being the correct path forward for the Company in fact the more work we do, the more encouraged we are by what we see. So it's an exciting time in that as much as we are managing the business of the 629 that we own and operate and drive for performance out of those, the path, the future looks just as bright as [indiscernible].

[Smedes Rose:]

Okay. Thank you for that additional information. I wanted to ask you as well. It sounded like your revenue management system sort of leads you I think as you mentioned you can back so with incremental OTA usage which went up to 19% of your channel mix in the second quarter. And as corporate demand softens or potentially softens more than you would expect I guess that would imply that you would continue to up your bookings through the OTAs is that kind of the sort of the go to on the margin. I guess it sounds like that's what your system leads you to do?

[Gerardo Lopez:]

Well, the system - to be clear the system leads us do not let any room sit on occupy and it will take the demand and allow us to optimize the ADR for the demand that present itself. So it's not that the system leads me in any one way where the system leads me to is optimizing the yield from wherever source of demand presents itself to the system. So it's not as the RMS that saying book OTA, book OTA instead what it saying is don’t let the room seen empty and allows us to be much more nimble than we had ever been before make decisions on the fly rather than taking 24, 48 hours and then making a call by the end of the demand have operated. So we're going to continue to operate it as it is. We've got to continue to drive the base demand. For us the base demand is the longer stay guest and it's a corporate guest and when that works great, fantastic and when it doesn't present itself to the degree that we want then the system allows us to backfill. And then we're going to use it that way, we're not going to use OTAs to lead our occupancy. But we're going to use our OTA to achieve higher yields out of the properties. So I’m not sure that we use the word - I'm not sure [indiscernible] that the system is leading into OTAs where the system is doing is allowing me to be nimble, so that I can backfill with OTA.

[Smedes Rose:]

I guess I'm just trying to square the - in your guidance you have about 3% using the midpoint of adjusted EBITDA growth, but in your release you talk about adjusted EBITDA growth will reaccelerate in the back half of 2016. So I am trying to just think about what's going to cause like a significant reacceleration in an environment where you've said you're preparing for a slowdown in RevPAR growth. And it looks like your OTA which is a higher cost usages is going up. So I'm just trying to sort of balance those things?

[Gerardo Lopez:]

A couple of things, one of it is overlapping our one-time items and then the other one is expense management. We had in the front half of the year, a lot of headwind in our expense lines because of costs and things that related to this initiative that really hit in the second half of the year. So we were overlapping zero, we were overlapping very low levels of expenses in the front half. Now going into the second half of the year, it's more of an apples-to-apples comparison. In fact as we now have a couple of three quarters under our belt in operating some of this initiatives. We can adjust as we see the demands that show up. So the expense line provides - control over the expense line provides a big differential in the performance in the second half versus the first half. So, some of that expansion in EBITDA or reacceleration in EBITDA growth has been driven by expense control. Anything else guys…

[Jonathan Halkyard:]

I would only add that we remain very committed to driving corporate sales growth. We're not takers in this environment. We believe that we have a product that's differentiated for a very large segment of corporate guests against a portfolio that is increasingly renovated with price points that we think are really appealing to corporate customers in this kind of environment. And we're recognizing that, maybe that demand is slowing, but we're not slowing in our efforts to capture that demand and capture share because we think we can do that in the coming quarters.

[Smedes Rose:]

Okay. Thanks for the color.

[Gerardo Lopez:]

You bet.

[Operator:]

Our next question comes from Shaun Kelley from Bank of America. Please go ahead with your question.

[Shaun Kelley:]

Hey, good morning and thank you for taking my question. So I just wanted to probably maybe build a little bit on that last question, but I just want to make sure I'm following it correctly. So when we go back to the guidance, it looks like from a revenue perspective you guys lowered the range by $9 million to $18 million and then we look at the EBITDA reduction maybe around $7.5 million at the midpoint. That sort of makes sense based on kind of flow through we would expect and I think you guys said 45% to 60% or so, but then you got the $7 million of cost reduction. So is the offset to the $7 million and the reason we're not seeing I think more of an inline EBITDA here. Is there some cost pressure be it in the corporate sale side be it what you kind of called out on the payroll side just what's the offset?

[Jonathan Halkyard:]

There's a couple of offsets, but I think they would be - one would be corporate sales activity another would be costs associated with the OTA channel, but other than that….

[Gerardo Lopez:]

The only other cost element that stands out in the second half that hasn’t been really present, the first is the ESA 2.0, as we do step up the team, as we do incur some expenses in the preparation of the document's, as we finish up the prototype plans et cetera. There are just more bills to pay related to that effort. So there's some money allocated in the back half of the year that it's been very little in the front half just as the bills come due and as we begin to put them together. That's the only other cost item that stands out really in the second half.

[Shaun Kelley:]

That's helpful. And then maybe to switch gears a little bit, the geographic color that you guys gave us a little bit new this quarter and that’s helpful. You just help us gauge or give us a slightly better sense based on similar region I think you sort of broke out three or four. Just what’s your overall kind of hotel exposure to those regions just so we can sort of track or keep in our head, what some of the pluses and minuses might be?

[Gerardo Lopez:]

We tend to be very biased towards either coast left and east, left and right, west and east. California is our single largest stay; we do a fair bit of business in the East Coast as well not as dominant or as prevalent in number of hotels throughout the Midwest. The West Coast markets have led our Company's performance for the better part of the last couple of years. There were obviously - the first one is to get renovated as well. So not only do we have a large number of hotels in California. Those where the early ones in terms of renovation, so we were able to increase our ADR performance there before we were able to do it anywhere else. We are not as depended on any one property. There's no single individual property that represents more than 1% of revenue or 1% of EBITDA. So dispersed in that regard in that no one single hotel puts us at risk performance. That's how we've been able to - for example weather the storm down in the oil patch. Houston, it’s no surprise, a significant underperformer for us. In the quarter RevPAR and Houston was down in the 15%, 16% range, okay. However, Dallas where we have as significant at presence, perhaps even a couple more hotels in Dallas of top of my head was up more than 20%. So that balance is really what helps us kind of maintain momentum across the fleet rather than being overly dependent in one single state and one single geography. It's really more regional. The Southeast has been our star in the last couple of quarters and that's a function of the number of markets that have done high single-digit to mid double-digit RevPAR across that region. Miami, Tampa, we mentioned Atlanta you know market just continued to do very well in the Southeast as had more of them than any other part of the country.

[Shaun Kelley:]

Thank you very much.

[Gerardo Lopez:]

You bet.

[Operator:]

And our next question comes from Christopher Agnew from MKM Partners. Please go ahead with your question.

[Christopher Agnew:]

Thanks very much. Good morning. Just thinking about the assumptions underlying your revenue guidance in the second half of the year, are you assuming an improvement in corporate travel trends and I guess also by that I mean GDP relative to the second quarter or do you think that the renovation tailwinds and lapping easier comps is enough to get your guidance? Thanks.

[Jonathan Halkyard:]

Our guidance is based upon the assumption that what we have seen generally in the second quarter continues and more importantly June, because May for us and I think for the industry was a bit of an anomaly, but what we see in June basically continues for the remainder of the year that we have the benefit of the renovation reversal stay on a year-over-year basis and then of course the cost structure with some cost savings in it, but the year-over-year comps improved for reasons we described during the call, but that’s basically the underlying assumptions behind our guidance.

[Gerardo Lopez:]

Yes. Those are the building blocks.

[Christopher Agnew:]

Okay. Thanks. And then any color on end markets by type of corporate client, we see any variance in corporate spending patterns? Thanks.

[Gerardo Lopez:]

None that I think you'll find useful, we really track verticals and we're very focused on four or five of them construction health care, education for example and no discernible pattern that we can detect that will be helpful to the analysis. Frankly, we find geography to be more a determinant or performance than we find anything else.

[Christopher Agnew:]

Okay. Great. Thank you.

[Gerardo Lopez:]

You bet.

[Operator:]

And Mr. Lopez at this time, I'm showing no further questions. I’d like to turn the floor back over to you for any closing remarks.

[Gerardo Lopez:]

Thank you. I just want to thank everyone for joining us today. We look forward to speaking with you in October with our third quarter results and outlook on how the year will end. Thank you again everyone for joining us this morning. Talk to you soon.

[Operator:]

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. We thank you for your participation.