Hospitality Properties Trust (HPT)

HPT is on the verge of seeing its largest tenant cease to be a going concern and as such HPT will need to markedly reduce the annual rental on a permanent basis to keep this operator solvent.





HPT derives nearly 40% of its revenue from Travel Centers of America (NYSE: TA). HPT bought TA and subsequently Petro during 2006-2007. TA owned and operated truck stops. Trucking is highly dependent on the homebuilding (raw materials) and homebuying (furnishings, moving) industries.





HPT acquired TA and Petro on the basis of peak trucking traffic and in turn set the rent TA would pay based upon the yield HPT required to make the transaction work, not based upon what TA could afford to pay in all seasons.





HPT acquired TA, took control of the real estate, then spun back out TA as an operator of the properties and capitalized the entity with $200MM and pledge to fund $25MM/year for five years. The intent was to make sure TA could stand on its own.





The trucking industry, however, has experienced 16+ months of declining truck traffic thanks to what is proving to be a secular decline (not cyclical) in housing demand. The risk to HPT is that the rents asked of TA are unsustainably high and it is looking like that is the case.





TA finished year-end 2007 with $149MM in cash on hand and burned approximately $32MM in Q4 versus about $12MM in the first three quarters of 2007.





Subsequent to year-end 2007, TA has spent $65MM on capital expenditures but will receive $25MM in reimbursements from HPT in Q2 2008. (= $149MM - $65MM + $25MM = $109MM in cash).





TA expects Q1 2008 to see weakness equivalent to Q4, which implies another $30MM+ in cash burn or $109-32MM = $76MM in cash remaining.





The U.S. economy has yet to enter a recession but it is expected we could see increasing weakness in late-2008 but if the $32MM/quarter cash burn rate is maintained, the remaining $76MM of cash will be consummed by Q3 2008.





The $100MM credit line is a fallacy. TA has a negative covenant that it cannot satisfy (fixed charge coverage ratio) limiting the maxiumum borrowing to $65MM today. However, TA has pledged $32MM of the line as a backstop for other financial instruments ($65-32MM) meaning there is at most $33MM of borrowing capacity here assuming the line isn't pulled. This equates to about 90 days of cash burn.





Bottom line, TA is going to run out of money in 2008 and will need to be bailed out. A bankruptcy solves nothing since it is a debt free entity and its only liability are the HPT leases. Rent relief is essential. To become 'cash flow positive', TA would need HPT's $230MM annual lease reduced at least 20% to ($46MM) to offset the $44MM shortall in 2007... but in all likelihood, a 30%+ redution is needed to cover what will be a worsening shortfall and to recapitalize TA.





A 30% rent cut = $70MM x 8x FFO/sh = $560MM / 93MM shares = $6-7/share in negative impact for HPT. This would cut in half HPT's dividend coverage cushion. A sharper rent cut could even mean the HPT dividend is put into jeopardy.