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Segmentation and Consolidation key topics in Wall Street Transcript Hotels/Lodging Issue

In the following excerpt, the roundtable analysts discuss the strategic shifts that encompass the lodging sector.

The Wall Street Transcript The Wall Street Transcript has just published its Lodging/Hotels & Resorts issue, a report offering a timely review of the sector to serious investors and industry executives. This 49-page feature contains a roundtable forum, plus commentary from an industry analyst on the online travel and hotel reservations sector, and in-depth interviews with top management of 7 hotel companies. The full issue is available by calling (212) 952-7433 or via The Wall Street Transcript Online.

The lodging industry appears to be in a recovery cycle. Occupancy rates have reached maximum levels from most perspectives. Business travel is bouncing back, and discounted rates on leisure are gone. The recovery is on track for a multiple-year period lasting at least through 2007. Our panel experts agree that this is a great time to own hotel stocks and over the next couple of quarters there should be more positive earnings surprises than negative. Topics include: C-Corps and urban hotels, Limited service and extended stay segments, Impact of the weakened dollar, Converting hotels into residential properties, Outlook for timeshare business, RevPAR growth, Competitive environment, Hotel room differentiation methods, Growth segments Industry consolidation, Online booking, Industry expansion, Stock recommendations, Stocks to avoid.

Companies include: Choice Hotels International (CHH); Fairmont Hotels & Resorts Inc. (FHR); Four Seasons Hotels (FS); Great Wolf Resorts, Inc. (WOLF); Hilton Hotels (HLT); Host Marriott (HMT); Innkeepers USA (KPA); InnSuites Hospitality Trust (IHT); Intrawest Corporation (IDR); La Quinta (LQI); Lodgian, Inc. (LGN); Marriott International (MAR); Starwood Hotels & Resorts (HOT); Sunterra Corporation (SNRR); WestCoast Hospitality Corporation (WEH). Analysts include: David B. Katz of CIBC World Markets, Rod Petrik, William Truelove of UBS Investment Research and Paul Keung of CIBC World Markets.

In the following excerpt, the roundtable analysts discuss the strategic shifts that encompass the lodging sector.

TWST: Rod, we've segmented this industry into lots of different strata at this point. Is that finished, or are we going to fine tune the segments more as we go forward?

Mr. Petrik: The segments continually get spliced. As you move forward, we're still going to see some consolidation. Obviously Hilton and Marriott have a full array of brands. We're not there yet for Starwood. We haven't really mentioned Hyatt, but they're gearing up to go public. They just bought AmeriSuites from Blackstone, and I wouldn't be surprised to see both of those companies fill out their franchises to be able to penetrate down to the limited service sector price point and into the extended stay, particularly since that's what's really driving the franchising engine.

TWST: Will, are we going to see more consolidation in this market?

Mr. Truelove: I think that in some of the weaker brands, you're going to see a lot of hotels converting out of those weaker brands into more of the solid players. I don't know if that really leads so much to consolidation. I think about the old adage that we learned in economics a long time ago

TWST: David, how about from your perspective? Will there be more specialization and consolidation?

Mr. Katz: I think the consolidation will continue, and I think it's driven by a couple of different dynamics. The low cost of money at this point does continue to drive valuations up, whether you're trading a single property or you're trading an entire portfolio. The historically low interest rates should continue to drive that.

Accordingly, there is this trend that we mentioned earlier with the larger cap players looking to own less real estate, hence, being active sellers of their properties into a market where valuations are high. And yes, we do expect that to continue.

TWST: Any combining of plans? Are the big guys looking to fill niches going forward?

Mr. Katz: I don't want to speculate on any potential deals down the road. If we look across the portfolios of the different companies we cover, Marriott and Hilton seem to have fairly diversified portfolios, and we think that's very appealing. Starwood, on the other hand, has focused primarily on the upper upscale market. They have done quite well with it. The big opportunity for them at this point is improvement in their Sheraton brand, which is their largest. Beyond that, would they look into an additional brand? It's certainly a possibility given the amount of cash flow the company is generating.

So something strategic, whether international or domestic, is certainly not out of the realm of possibility, but I don't have any specific notion about any of them in the market at this point.

TWST: Will, we've talked about expansion in the industry being 1.5%, maybe plus a little over the next couple of years. Against that background, what are your rate expectations looking forward?

Mr. Truelove: In terms of the overall revenue per available room growth (RevPAR growth), we're looking for about 7%-8% here in the US. We believe that the urban markets might be a little above that, depending upon supply; if it continues to trend down, I think that's going to benefit the RevPAR. But we're looking for around 7%-8% in the US. It might be a little better than that internationally in US dollar terms, but the international markets don't seem to be as strong fundamentally as the US markets. So that's what we're forecasting in our models.

TWST: Is that for this year and next?

Mr. Truelove: Generally so, yes.

TWST: Rod, what are your views on RevPAR growth?

Mr. Petrik: I think over the next couple of years we're going to be pushing double-digit RevPAR growth, and we certainly should be able to see that in the full scale urban properties.

TWST: David, what's at the top of your list?

Mr. Katz: Our top picks are Hilton with a $25 price target and Starwood with a $65 price target. We think both of those are beneficiaries of many of the dynamics we've talked about, and we like both of their portfolios for various reasons.

We also like La Quinta (LQI) in the mid-cap group. We have an $11 price target there. The company is exclusively focused on the limited service mid-scale segment we spoke about earlier. We think they have an excellent management team and have a good growth plan. It's a company that has completed a turnaround and at this point is beginning to pick up speed, in our opinion.

TWST: Rod, any small names that you like?

Mr. Petrik: On the REIT side, we like Innkeepers USA (KPA). That's primarily due to the portfolio mix. About 65% of their net operating income is coming from Residents Inns, which is the category-killer in that arena. They have about 15% in Hampton Inns.

TWST: Will, any names that you'd avoid?

Mr. Truelove: We do have one sell rating in the group right now, Choice Hotels International (CHH). We've been dead wrong on the stock, which continues to do well, but I don't really understand the valuation because this is a company that's a pure franchiser and, therefore, one of the most defensive names in terms of the way it's structured in the lodging group, as franchise fees are fairly stable. We'd rather recommend that people play offense. Choice is a very defensive name. The stock still does well, but we don't really understand the valuation it has, given the kind of growth prospect we see for it, being such a defensively oriented company.

Mr. Katz: I would add that we are not recommending that anyone short any of the hotel companies, and it sounds like the other panelists agree.


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