Sunstone Hotel Investors(SHO) - 2023 Q3 - Quarterly Report

PART I—FINANCIAL INFORMATION This section provides unaudited consolidated financial statements and detailed notes for periods ending September 30, 2023, and December 31, 2022 Item 1. Financial Statements This section details the unaudited consolidated financial statements and accompanying notes for the specified reporting periods Consolidated Balance Sheets Presents the company's financial position, including assets, liabilities, and equity, as of September 30, 2023, and December 31, 2022 Consolidated Balance Sheets (in thousands of dollars) | Metric | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Investment in hotel properties, net | $2,580,421 | $2,840,928 | | Cash and cash equivalents | $113,768 | $101,223 | | Restricted cash | $71,228 | $55,983 | | Assets held for sale | $247,776 | — | | Total assets | $3,088,829 | $3,082,817 | | Debt, net | $814,702 | $812,681 | | Total liabilities | $1,001,144 | $997,856 | | Total stockholders' equity | $2,087,685 | $2,084,961 | Unaudited Consolidated Statements of Operations Details the company's revenues, expenses, and net income for the three and nine months ended September 30, 2023 and 2022 Unaudited Consolidated Statements of Operations for Three Months Ended Sep 30 (in thousands of dollars, except EPS) | Metric | Three Months Ended Sep 30, 2023 | Three Months Ended Sep 30, 2022 | Change ($) | Change (%) | | :--------------------------------- | :------------------------------ | :------------------------------ | :--------- | :--------- | | Total revenues | $247,700 | $244,314 | $3,386 | 1.4% | | Total operating expenses | $220,873 | $214,347 | $6,526 | 3.0% | | Interest expense | $(11,894) | $(9,269) | $(2,625) | (28.3)% | | Net income | $15,558 | $20,488 | $(4,930) | (24.1)% | | Income attributable to common stockholders | $12,332 | $17,137 | $(4,805) | (28.0)% | | Basic EPS | $0.06 | $0.08 | $(0.02) | (25.0)% | Unaudited Consolidated Statements of Operations for Nine Months Ended Sep 30 (in thousands of dollars, except EPS) | Metric | Nine Months Ended Sep 30, 2023 | Nine Months Ended Sep 30, 2022 | Change ($) | Change (%) | | :--------------------------------- | :----------------------------- | :----------------------------- | :--------- | :--------- | | Total revenues | $767,255 | $667,909 | $99,346 | 14.9% | | Total operating expenses | $667,186 | $601,194 | $65,992 | 11.0% | | Interest expense | $(34,911) | $(20,288) | $(14,623) | (72.1)% | | Net income | $79,723 | $73,303 | $6,420 | 8.8% | | Income attributable to common stockholders | $68,961 | $58,929 | $10,032 | 17.0% | | Basic EPS | $0.33 | $0.27 | $0.06 | 22.2% | Unaudited Consolidated Statements of Equity Outlines changes in stockholders' equity, reflecting net income, repurchases, and distributions, for the reporting periods - Total stockholders' equity increased from $2.08 billion at December 31, 2022, to $2.09 billion at September 30, 2023, driven by net income partially offset by common stock repurchases and distributions[14][16] Unaudited Consolidated Statements of Cash Flows Summarizes cash inflows and outflows from operating, investing, and financing activities for the nine months ended September 30, 2023 and 2022 Unaudited Consolidated Statements of Cash Flows for Nine Months Ended Sep 30 (in thousands of dollars) | Metric | Nine Months Ended Sep 30, 2023 | Nine Months Ended Sep 30, 2022 | Change ($) | | :--------------------------------- | :----------------------------- | :----------------------------- | :--------- | | Net cash provided by operating activities | $168,742 | $149,698 | +$19,044 | | Net cash used in investing activities | $(60,222) | $(134,385) | +$74,163 | | Net cash used in financing activities | $(80,730) | $(10,189) | $(70,541) | | Net increase in cash and cash equivalents and restricted cash | $27,790 | $5,124 | +$22,666 | | Cash and cash equivalents and restricted cash, end of period | $184,996 | $167,841 | +$17,155 | Supplemental Cash Flow Information for Nine Months Ended Sep 30 (in thousands of dollars) | Metric | Nine Months Ended Sep 30, 2023 | Nine Months Ended Sep 30, 2022 | | :---------------------- | :----------------------------- | :----------------------------- | | Cash paid for interest | $39,013 | $24,279 | | Cash paid for income taxes, net | $1,272 | $218 | Notes to Unaudited Consolidated Financial Statements Provides detailed explanations of the company's accounting policies, financial accounts, and significant transactions 1. Organization and Description of Business Describes the company's structure as a REIT, its investment strategy, and hotel portfolio management - Sunstone Hotel Investors, Inc. operates as a self-managed and self-administered REIT, investing in hotels to add value through capital investment, repositioning, and asset management[24] - As of September 30, 2023, the Company owned 15 hotels, with 14 held for investment and one (Boston Park Plaza) classified as held for sale[26] - The Company's hotels are managed by third parties, including subsidiaries of Marriott International, Hyatt Hotels Corporation, Four Seasons Hotels Limited, and Hilton Worldwide[26] 2. Summary of Significant Accounting Policies Outlines key accounting principles, including balance sheet presentation, impairment, and segment reporting - The Company changed its balance sheet presentation from classified to unclassified as of the third quarter of 2023 to conform with REIT peers in the lodging sector[31] - No hotels were impaired during either the three or nine months ended September 30, 2023, and 2022[47] - All of the Company's hotels are aggregated into one single reportable segment, hotel ownership, due to similar economic characteristics, facilities, and services[60] 3. Investment in Hotel Properties Details the composition and net value of the company's hotel property investments Investment in Hotel Properties (in thousands of dollars) | Category | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Land | $614,112 | $672,531 | | Buildings and improvements | $2,556,852 | $2,793,771 | | Furniture, fixtures and equipment | $403,362 | $426,189 | | Intangible assets | $42,187 | $42,187 | | Construction in progress | $62,358 | $71,689 | | Investment in hotel properties, gross | $3,678,871 | $4,006,367 | | Accumulated depreciation and amortization | $(1,098,450) | $(1,165,439) | | Investment in hotel properties, net | $2,580,421 | $2,840,928 | 4. Disposal Discusses the classification and subsequent sale of the Boston Park Plaza hotel - The Boston Park Plaza was classified as held for sale at September 30, 2023, and subsequently sold in October 2023[64] - The sale did not represent a strategic shift and therefore did not qualify as a discontinued operation[64] Assets and Liabilities Held for Sale (in thousands of dollars) | Category | Sep 30, 2023 (in thousands) | | :--------------------------------- | :-------------------------- | | Investment in hotel properties, net | $239,560 | | Accounts receivable, net | $5,880 | | Prepaid expenses and other assets, net | $2,336 | | Assets held for sale | $247,776 | | Accounts payable and accrued expenses | $8,843 | | Other liabilities | $6,554 | | Liabilities of assets held for sale | $15,397 | 5. Fair Value Measurements and Interest Rate Derivatives Explains the valuation of derivatives and the company's strategy for managing interest rate risk - The Company measures its interest rate derivatives at fair value using Level 2 inputs, based on quotes from counterparties[68] - As of September 30, 2023, 51.2% of the Company's outstanding debt had fixed interest rates, including the effects of interest rate swap derivatives, an increase from 42.4% at December 31, 2022[69] Fair Value of Debt (in thousands of dollars) | Debt | Carrying Amount (Sep 30, 2023) | Fair Value (Sep 30, 2023) | Carrying Amount (Dec 31, 2022) | Fair Value (Dec 31, 2022) | | :--- | :----------------------------- | :------------------------ | :----------------------------- | :------------------------ | | Debt | $819,582 | $793,280 | $816,136 | $809,141 | 6. Prepaid Expenses and Other Assets Itemizes various prepaid expenses and other non-hotel related assets Prepaid Expenses and Other Assets (in thousands of dollars) | Category | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Prepaid expenses | $11,751 | $6,478 | | Inventory | $8,426 | $7,922 | | Deferred financing costs | $3,978 | $5,031 | | Property and equipment, net | $3,311 | $3,685 | | Interest rate derivatives | $3,616 | $268 | | Deferred rent on straight-lined third-party tenant leases | $648 | $2,413 | | Liquor licenses | $930 | $933 | | Other | $446 | $836 | | Total | $33,106 | $27,566 | 7. Notes Payable Details the company's debt structure, including mortgage loans, credit facilities, and senior notes Notes Payable (in thousands of dollars) | Debt Category | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Mortgage Loans | $74,582 | $296,136 | | Unsecured Corporate Credit Facilities | $575,000 | $350,000 | | Unsecured Senior Notes | $170,000 | $170,000 | | Unamortized deferred financing costs | $(4,880) | $(3,455) | | Debt, net | $814,702 | $812,681 | - The $220.0 million mortgage loan secured by the Hilton San Diego Bayfront was repaid on May 9, 2023, using proceeds from the Company's new $225.0 million Term Loan 3[79] - Total interest expense increased by 28.3% for the three months and 72.1% for the nine months ended September 30, 2023, primarily due to increased interest on variable rate debt and new borrowings[80][156] 8. Other Liabilities Lists various accrued and deferred liabilities not classified as debt Other Liabilities (in thousands of dollars) | Category | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Advance deposits | $47,977 | $50,219 | | Property, sales and use taxes payable | $12,976 | $7,500 | | Accrued interest | $4,202 | $6,915 | | Deferred rent | $3,029 | $3,981 | | Management fees payable | $566 | $1,584 | | Other | $5,792 | $8,234 | | Total | $74,542 | $78,433 | 9. Leases Presents information on right-of-use assets, lease obligations, and lease costs Lease Information (in thousands of dollars, except for terms and rates) | Metric | Sep 30, 2023 (unaudited) | Dec 31, 2022 | | :--------------------------------- | :----------------------- | :----------- | | Right-of-use assets, net | $13,884 | $15,025 | | Lease obligations | $17,884 | $19,012 | | Weighted average remaining lease term | 32 years | N/A | | Weighted average discount rate | 5.3% | N/A | - In January 2023, the Company relocated its corporate headquarters and recognized a $2.2 million operating lease right-of-use asset and related lease obligation[83] - Total lease cost for the nine months ended September 30, 2023, was $9.942 million, an increase from $9.258 million in the prior year[84] 10. Stockholders' Equity Covers changes in equity, including stock repurchase programs and share repurchases - The Company's board of directors reauthorized its existing stock repurchase program in February 2023, restoring the aggregate amount to $500.0 million[88][89] - As of September 30, 2023, $475.5 million remained available for repurchase under the stock repurchase program[90] - During the three months ended September 30, 2023, the Company repurchased 1,561,375 shares of common stock for $14.0 million[90] 11. Incentive Award Plan Details compensation expenses and outstanding equity awards under the incentive plan Incentive Award Plan Expenses (in thousands of dollars) | Metric | Three Months Ended Sep 30, 2023 (in thousands) | Nine Months Ended Sep 30, 2023 (in thousands) | | :--------------------------------- | :--------------------------------------------- | :-------------------------------------------- | | Amortization expense, including forfeitures | $2,511 | $8,263 | | Capitalized compensation cost | $117 | $352 | - As of September 30, 2023, there were 1,032,564 unvested time-based restricted stock awards with a weighted-average grant date fair value of $11.11[97] - As of September 30, 2023, there were 1,076,160 unvested performance-based restricted stock units (at target performance) with a weighted-average grant date fair value of $10.69[98] 12. Commitments and Contingencies Outlines contractual obligations, management fees, franchise costs, and renovation commitments Management Fees (in thousands of dollars) | Metric | Three Months Ended Sep 30, 2023 (in thousands) | Nine Months Ended Sep 30, 2023 (in thousands) | | :--------------------------------- | :--------------------------------------------- | :-------------------------------------------- | | Basic management fees | $6,774 | $21,101 | | Incentive management fees | $604 | $6,546 | | Total | $7,378 | $27,647 | Franchise Costs (in thousands of dollars) | Metric | Three Months Ended Sep 30, 2023 (in thousands) | Nine Months Ended Sep 30, 2023 (in thousands) | | :--------------------------------- | :--------------------------------------------- | :-------------------------------------------- | | Franchise assessments | $4,025 | $11,842 | | Franchise royalties | $253 | $914 | | Total | $4,278 | $12,756 | - Remaining commitments for ongoing renovations totaled $40.4 million at September 30, 2023[104] - The Company recognized a $9.8 million gain on extinguishment of debt in February 2023 from the release of Hilton Times Square employee-related obligations from escrow[108] 13. Subsequent Events Reports significant events occurring after the reporting period, including asset sales and stock repurchases - On October 26, 2023, the Company sold the Boston Park Plaza for a gross sale price of $370.0 million[114] - Subsequent to September 30, 2023, the Company repurchased an additional 233,692 shares of common stock for $2.1 million, leaving $473.4 million remaining under the stock repurchase program[114] Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Management discusses financial performance, condition, and outlook, analyzing revenues, expenses, liquidity, and critical accounting estimates Overview Introduces the company's business as a REIT, its hotel portfolio, and strategic focus - Sunstone Hotel Investors, Inc. operates as a self-managed and self-administered REIT, owning 100% of Sunstone Hotel Partnership, LLC and Sunstone Hotel TRS Lessee, Inc[121] - The Company owns hotels in urban and resort destinations that benefit from significant barriers to entry and diverse economic drivers[122] - As of September 30, 2023, the Company owned 15 hotels, with the Boston Park Plaza classified as held for sale[122] Operating Activities Describes the sources of revenue, types of operating expenses, and key performance indicators for hotel operations - Substantially all revenues are derived from hotel operations, including room, food and beverage, and other operating revenues (e.g., ancillary fees, attrition/cancellation fees)[123] - Operating expenses include room, food and beverage, advertising, repairs, utilities, franchise costs, property tax, ground lease and insurance, and other property-level expenses, along with corporate overhead and depreciation/amortization[123][124][125] - Key performance indicators include Occupancy, ADR, RevPAR, RevPAR index, and non-GAAP measures such as EBITDAre, Adjusted EBITDAre, FFO, and Adjusted FFO[126][127][130] - Operating results are affected by demand for lodging (linked to the general economy), new hotel supply (influenced by construction costs and financing), and the effectiveness of operators in managing revenues and expenses amidst inflationary pressures[130][131] Operating Results Analyzes the company's financial performance, including revenue, net income, and non-GAAP measures, for recent periods - For the three months ended September 30, 2023, total revenues increased by 1.4% to $247.7 million, but net income decreased by 24.1% to $15.6 million, and income attributable to common stockholders decreased by 28.0% to $12.3 million[133] - For the nine months ended September 30, 2023, total revenues increased by 14.9% to $767.3 million, net income increased by 8.8% to $79.7 million, and income attributable to common stockholders increased by 17.0% to $69.0 million[135] - Adjusted EBITDAre, excluding noncontrolling interest, decreased by 0.2% for the three months ended September 30, 2023, but increased by 26.5% for the nine months ended September 30, 2023[174][175] - Adjusted FFO attributable to common stockholders decreased by 9.6% for the three months ended September 30, 2023, but increased by 20.4% for the nine months ended September 30, 2023[180][182] Liquidity and Capital Resources Assesses the company's cash flows, available capital, and future contractual obligations - Net cash provided by operating activities increased to $168.7 million for the nine months ended September 30, 2023, from $149.7 million in the prior year, driven by increased travel demand[184] - Net cash used in investing activities decreased to $60.2 million for the nine months ended September 30, 2023, from $134.4 million in the prior year, primarily due to no hotel acquisitions in 2023 and lower renovation spending[185] - Net cash used in financing activities increased significantly to $80.7 million for the nine months ended September 30, 2023, from $10.2 million in the prior year, mainly due to higher dividends paid and net debt payments[188] - As of September 30, 2023, the Company had an unrestricted cash balance of $113.8 million and $500.0 million available under its unsecured revolving credit facility[194] Contractual Obligations (in thousands of dollars) | Obligation | Total (in thousands) | Less Than 1 year (in thousands) | 1 to 3 years (in thousands) | 3 to 5 years (in thousands) | More than 5 years (in thousands) | | :--------------------------------- | :------------------- | :------------------------------ | :-------------------------- | :-------------------------- | :------------------------------- | | Notes payable | $819,582 | $2,145 | $362,437 | $455,000 | $0 | | Interest obligations on notes payable | $170,638 | $48,544 | $86,981 | $35,113 | $0 | | Operating lease obligations | $17,352 | $5,665 | $8,382 | $1,942 | $1,363 | | Construction commitments | $40,424 | $40,424 | $0 | $0 | $0 | | Total | $1,047,996 | $96,778 | $457,800 | $492,055 | $1,363 | Critical Accounting Estimates Identifies key accounting judgments, such as impairment, acquisitions, depreciation, and income taxes - Critical accounting estimates include impairment of investments in hotel properties, acquisition-related assets and liabilities, depreciation and amortization expense, and income taxes[206][209] - Impairment losses are recorded when future undiscounted net cash flows of hotel properties are less than their carrying amount; no impairments were recorded in the current periods[206][207][47] - The Company accounts for income taxes using the asset and liability method, recognizing deferred tax assets and liabilities and providing valuation allowances when realization is not more likely than not[209][210] Item 3. Quantitative and Qualitative Disclosures about Market Risk The Company is exposed to market interest rate risk on its variable rate debt and uses derivative financial instruments to manage this risk. As of September 30, 2023, 51.2% of its debt obligations were fixed or swapped to fixed rates - The Company is exposed to market interest rate risk on its floating rate debt and uses derivative financial instruments to manage this risk[213] - As of September 30, 2023, 51.2% of the Company's debt obligations were fixed in nature or subject to interest rate swap derivatives[214] - A 50 basis point increase or decrease in the market rate of interest on variable rate debt would increase or decrease annual interest expense by approximately $2.0 million[214] Item 4. Controls and Procedures The CEO and CFO concluded that the Company's disclosure controls and procedures were effective as of September 30, 2023. There were no material changes in internal control over financial reporting during the quarter - The CEO and CFO concluded that disclosure controls and procedures were effective as of September 30, 2023, providing reasonable assurance that required information is recorded, processed, summarized, and reported timely[216] - No change in internal control over financial reporting occurred during the fiscal quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting[217] PART II—OTHER INFORMATION This section covers legal proceedings, risk factors, equity security sales, defaults, other information, and exhibits Item 1. Legal Proceedings The Company reported no legal proceedings for the period - None[219] Item 1A. Risk Factors The Company reported no new risk factors in this quarterly report, referring readers to the comprehensive list in its Annual Report on Form 10-K - None[220] - The Company refers to the risks outlined in detail in its Annual Report on Form 10-K, filed on February 23, 2023[117] Item 2. Unregistered Sales of Equity Securities, Use of Proceeds and Issuer Purchases of Equity Securities The Company's board reauthorized its $500.0 million stock repurchase program in February 2023. During the third quarter of 2023, the Company repurchased 1,561,375 shares of common stock for $14.0 million, with $475.5 million remaining available under the program - The Company's board of directors reauthorized the existing stock repurchase program in February 2023, restoring the $500.0 million aggregate amount allowed to be repurchased[221] Issuer Purchases of Equity Securities (in thousands of dollars, except shares and price) | Period | Number of Shares Purchased | Average Price Paid per Share | Maximum Number (or Appropriate Dollar Value) of Shares that May Yet Be Purchased Under the Plans or Programs (in thousands) | | :--------------------------------- | :------------------------- | :--------------------------- | :-------------------------------------------------------------------------------------------------------------------------------- | | July 1, 2023 - July 31, 2023 | — | — | $489,542 | | August 1, 2023 - August 31, 2023 | 1,079,762 | $8.96 | $479,869 | | September 1, 2023 - September 30, 2023 | 481,613 | $9.01 | $475,531 | | Total | 1,561,375 | $8.97 | $475,531 | Item 3. Defaults Upon Senior Securities The Company reported no defaults upon senior securities for the period - None[223] Item 4. Mine Safety Disclosures The Company reported no mine safety disclosures for the period - None[224] Item 5. Other Information The Company reported no other material information, specifically noting that no director or officer adopted or terminated a Rule 10b5-1 trading arrangement during the quarter - No director or officer of the Company adopted or terminated a "Rule 10b5-1 trading arrangement" or "non-Rule 10b5-1 trading arrangement" during the quarter ended September 30, 2023[226] Item 6. Exhibits This section lists all exhibits filed as part of the Form 10-Q, including organizational documents, preferred stock articles, various certifications (e.g., CEO, CFO), and XBRL documents - Exhibits include Articles of Amendment and Restatement, Bylaws, Articles Supplementary for Series G, H, and I preferred stock, and the Eighth Amended and Restated Limited Liability Agreement of Sunstone Hotel Partnership LLC[227] - Certifications from the Principal Executive Officer and Principal Financial Officer pursuant to the Securities Exchange Act Rules and Sarbanes-Oxley Act are filed[227] - XBRL Instance Document and Taxonomy Extension documents are included[227] SIGNATURES The report is signed on behalf of Sunstone Hotel Investors, Inc. by Aaron R. Reyes, Chief Financial Officer, on November 7, 2023 - The report was signed by Aaron R. Reyes, Chief Financial Officer and Duly Authorized Officer, on November 7, 2023[233]