Fitch Revises U.S. Lodging Company Outlooks to Negative

. December 08, 2008

DECEMBER 8, 2008. While lodging operating trends deteriorated throughout 2008, U.S. lodging credit profiles exhibited enough flexibility to maintain ratings. However, Fitch believes that lodging operating trends weakened more significantly in fourth quarter 2008 (Q4'08) and Fitch became more pessimistic on its Negative 2009 Outlook for the lodging sector.

As a result, Fitch has revised Rating Outlooks to Negative from Stable and affirmed issuer default ratings (IDRs) for the following lodging companies:

---|Marriott International, Inc. (Marriott)

IDR affirmed at 'BBB', Outlook revised to Negative from Stable,

---|Starwood Hotels & Resorts Worldwide (Starwood)

IDR affirmed at 'BBB-', Outlook revised to Negative from Stable,

---|Host Hotels & Resorts, Inc. and Host Hotels & Resorts, L.P. (collectively, Host)

IDRs affirmed at 'BB+', Outlook revised to Negative from Stable.

The Outlook revisions to Negative from Stable are based on Fitch's view that operating trends in lodging, as well as other travel-related industries, materially deteriorated in Q4'08. In addition, while Fitch was already assuming a poor 2009 operating environment, the Negative Outlook implies that the recent deterioration in forward lodging trends further dampens Fitch's 2009 Outlook. More broadly, while it is now confirmed that the U.S. economy has been in a recession in 2008, the Negative Outlook also encompasses Fitch's macro-economic view that the world economy is experiencing a severe global recession that is likely to last well into 2009 (see 'Global Economic Outlook,' published Nov. 4, 2008). As a result, Fitch believes that lodging credit profiles may not be able to withstand the operating pressure within the context of current IDRs, thereby increasing the probability of rating downgrades for the issuers noted above.

Since the companies reported Q3'08 results in early to mid-October, industry revenue per available room (RevPAR) trends have weakened significantly and rapidly. Fitch believes that demand has deteriorated in some markets that held up relatively better earlier this year, such as New York and certain international markets. The Negative Outlooks incorporate Fitch's view that 2009 comparable RevPAR declines could be in the mid-to-high single digit range. Notably, on November 18, Host announced it expected comparable RevPAR to decline 9%-11% in Q4'08, resulting in a 3% decline in fiscal year 2008 (FY2008). That revision was only several weeks after the company's expectations on October 10 called for a 3%-5% comparable RevPAR decline in Q4'08.

The existing IDRs incorporate an expectation that the companies will continue to manage operations with an acute focus on cost control, and manage their balance sheets and capital allocation decisions conservatively, while focusing on preservation of capital and liquidity. Within this context, Fitch believes that Marriott has the greatest amount of flexibility to maintain its current IDR, followed by Starwood, then Host.

CAPITAL ALLOCATION:

The Negative Outlooks reflect the reduced flexibility with respect to capital allocation decisions, which reduces the likelihood of preserving current credit protection measures, particularly if the weak operating trends persist longer than expected. Given the current environment, all of the companies have ceased share repurchase programs for the time being and have pulled back significantly on expected 2009 capital expenditures and investment spending. Within the last several weeks, both Marriott and Starwood announced flat dividends relative to previous periods. Marriott maintains a modest quarterly dividend, while Starwood maintains an annual dividend, for which the 2008 payment is now set to be paid in early 2009. So Marriott's dividend timing provides for somewhat more near-term flexibility than Starwood.

Due to its real estate investment trust (REIT) status, Host is required to pay out most of its taxable income in dividends, which limits internal cash generation relative to other c-corp issuers. However, relative to other REITs, it maintains more flexibility since it pays out a low quarterly dividend with an annual special dividend based on the year's performance. In addition, Fitch believes that Host has a good liquidity position in the current environment and that its position would be strengthened in the event that Host decided to pay its dividend through a combination of cash and stock as opposed to cash only.

CREDIT METRICS:

Due to heavy debt-funded share repurchase programs over the past couple of years, Marriott and Starwood have eliminated leverage cushions with respect to current IDRs, and Fitch believes that it may be difficult for the companies to maintain leverage levels consistent with current IDRs. That said, Fitch's rating approach does not rely solely on the consideration of one credit measure.

Fitch previously indicated that current IDRs incorporate target adjusted debt/EBITDAR leverage in the 3 times (x)-3.25x range for Marriott and the 3.5x range for Starwood. As of the end of Q3'08, both companies were slightly above those thresholds, and Fitch believes they may stay slightly above those thresholds in upcoming quarters, which contributes to the Negative Outlooks.

Fitch calculates that Host's Sept. 5, 2008 latest twelve months (LTM) fixed charge coverage ratio (defined as recurring EBITDA less renewal and replacement capex divided by interest expense, capitalized interest and preferred dividends) improved to 2.9x from 2.7x as of FY2007, while its debt/recurring EBITDA leverage ratio was 4.1x for the trailing twelve months ended Sept. 5, 2008. Fitch believes that these credit metrics remain consistent with a 'BB+' rating given the historical volatility of hotels and the limited supplementary non-real estate earnings that Host generates due to its status as a REIT. In addition, Host's unencumbered asset coverage of unsecured debt ratio (defined as unencumbered property & equipment divided by unsecured debt, including a $200 million credit line draw after Sept. 5, 2008) of 2.7x continues to provide downside protection to unsecured bondholders supporting the 'BB+' rating.

BUSINESS PROFILES:

Marriott has the most exposure to the recurring managed/franchised fee business, which should enable it to weather the downturn better than its peers, as its 6% unit growth next year will somewhat offset demand pressure. Starwood has the most exposure internationally, which helped operating results earlier this year as international demand was stronger and the U.S. dollar was weak, but that trend is likely to reverse in upcoming quarters. Both Marriott and Starwood have exposure to the timeshare business (roughly 15%-20% of gross profits), which has been under significant pressure and is a more capital intensive business. As a result, both companies are focused on rationalizing the business model, with respect to both operations and development, in order to improve the current free cash flow profile. The ability to do that will be a consideration with respect to a potential downgrade.

As it is exclusively a hotel owner, Host is likely to be more impacted by the downturn relative to its managed/franchised peers in that the company generates a lower level of non-real estate recurring earnings.

LIQUIDITY, REFINANCING RISK, AND CAPITAL MARKET ACCESS:

In terms of liquidity and refinancing risk, Fitch's ratings and analysis of corporate liquidity favors internal sources of liquidity relative to reliance on external sources of liquidity (see 'Liquidity Focus: Gaming & Lodging,' published Oct. 23, 2008). In this respect, Marriott has the most attractive profile due to its solid free cash flow profile, ample availability on its $2.4 billion revolver, which expires in 2012, and very limited maturities through 2011.

Starwood has more refinancing risk, which is likely to raise interest costs over the next couple of years. Liquidity as of Q3'08 is supported by $127 million of unrestricted cash and $1.59 billion of availability on its $1.875 billion revolver, which expires in February 2011. Starwood has two upcoming $500 million term loan maturities, one due in 2009 and one in 2010, and another $375 million term loan is due in April 2010 but that could be extended until February 2011. In the event of continued tight capital markets and a prolonged economic downturn, it can use the revolver and internal cash sources to cover the 2009 and 2010 maturities. However, in that scenario, the refinancing of the revolver becomes more concerning as 2009 progresses.

Due to its REIT status, Host must pay out through dividends the majority of taxable income, so it relies more heavily on access to capital markets and external sources of funds relative to c-corps. Host has $343 million of debt coming due through Dec. 31, 2009 and $511 million in 2010. The company has sufficient cash on hand, availability on its revolver, and retained cash flow to meet those maturities and fund renewal and replacement capital expenditures.

In terms of secondary sources of liquidity, asset sales in the current market are likely going to be very difficult to achieve at reasonable prices, although Starwood does have some assets on the market and recently completed roughly $300 million of asset sales. As a REIT, Host has a heavy asset base, and approximately $12.6 billion of the company's $14.8 billion in total gross properties (including construction in progress) as of Sept. 5, 2008 were unencumbered. Therefore, Host may be able to generate additional liquidity if the secured debt markets are accommodating. However, due to the state of the credit markets, Fitch has a circumspect view of asset sales and asset encumbrance with respect to credit improvement or liquidity enhancement.

Both Marriott and Starwood have historically sold timeshare receivables opportunistically rather than as a source of liquidity. Fitch also has a circumspect view of the ability to complete timeshare receivable sales, which could result in a higher-than-expected leverage level if the receivables remain on Marriott's and Starwood's balance sheets.

BROAD DOWNGRADE CONSIDERATIONS:

--A deeper and more prolonged recession than Fitch's current expectation, which calls for a U.S. economic recovery to begin around mid-2009,

--Comparable 2009 RevPAR declines in the mid-to-high single digit range.

MARRIOTT-SPECIFIC DOWNGRADE CONSIDERATIONS:

--Maintaining adjusted leverage above 3.25x,

--The ability to rationalize the timeshare business given the current environment,

--Ability to close timeshare note sales, which could enable debt reduction.

STARWOOD-SPECIFIC DOWNGRADE CONSIDERATIONS:

--Maintaining adjusted leverage above 3.5x,

--The ability to rationalize the timeshare business given the current environment,

--The potential impact of a weakening global economy and stronger U.S. dollar, given Starwood's international exposure,

--Ability to realize secondary sources of capital (timeshare receivable note sales, other asset sales, potential IRS tax settlement proceeds, etc.), which could enable debt reduction.

HOST-SPECIFIC DOWNGRADE CONSIDERATIONS:

--The company's fixed charge coverage ratio sustains below 2.5x,

--The quality of the unencumbered pool deteriorates through asset sales or an aggressive increase of the utilization of secured debt to the point where unencumbered asset coverage of unsecured debt sustains below 2.0x.

LIST OF SECURITY RATINGS AFFECTED:

MARRIOTT

--$2.4 billion senior unsecured credit facility affirmed at 'BBB',

--$1.8 billion senior unsecured notes affirmed at 'BBB',

--$811 million short-term/commercial paper at 'F2'.

STARWOOD

--$1.875 billion senior unsecured credit facility affirmed at 'BBB-',

--$1.375 billion senior unsecured term loans affirmed at 'BBB-',

--$2.25 billion senior unsecured notes affirmed at 'BBB-'.

HOST

Host Hotels & Resorts, Inc.

--$100 million preferred stock downgraded to 'BB-' from 'BB' (reflecting Fitch's criteria for hybrid securities for below investment grade issuers).

Host Hotels & Resorts, L.P.

--$3.0 billion senior unsecured notes affirmed at 'BB+',

--$1.1 billion senior unsecured exchangeable notes affirmed at 'BB+',

--$600 million credit facility affirmed at 'BB+'.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.

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