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Edited Transcript of STAY earnings conference call or presentation 28-Feb-19 1:30pm GMT

Q4 2018 Extended Stay America Inc Earnings Call

Charlotte Mar 7, 2019 (Thomson StreetEvents) -- Edited Transcript of Extended Stay America Inc earnings conference call or presentation Thursday, February 28, 2019 at 1:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Brian T. Nicholson

ESH Hospitality, Inc. - CFO

* Jonathan S. Halkyard

ESH Hospitality, Inc. - President, CEO & Director

* Robert Ballew

Extended Stay America, Inc. - VP of IR

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Conference Call Participants

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* Anthony Franklin Powell

Barclays Bank PLC, Research Division - Research Analyst

* Bennett Smedes Rose

Citigroup Inc, Research Division - Director & Analyst

* Chad C. Beynon

Macquarie Research - Head of US Consumer, SVP and Senior Analyst

* Chris Jon Woronka

Deutsche Bank AG, Research Division - Research Analyst

* David Brian Katz

Jefferies LLC, Research Division - MD and Senior Equity Analyst of Gaming, Lodging & Leisure

* Harry Croyle Curtis

Instinet, LLC, Research Division - MD and Senior Analyst of Gaming, Leisure & Lodging

* Michael Joseph Bellisario

Robert W. Baird & Co. Incorporated, Research Division - VP and Senior Research Analyst

* Omer Nathan Sander

JP Morgan Chase & Co, Research Division - Analyst

* Stephen White Grambling

Goldman Sachs Group Inc., Research Division - Equity Analyst

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Presentation

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Operator [1]

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Greetings, and welcome to Extended Stay America Fourth Quarter 2018 Earnings Conference Call. (Operator Instructions) Please note, this conference is being recorded.

I would now like to turn the conference over to your host, Robert Ballew, Head of Investor Relations. Thank you. You may begin.

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Robert Ballew, Extended Stay America, Inc. - VP of IR [2]

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Good morning, and welcome to Extended Stay America's Fourth Quarter 2018 Conference Call. Both the fourth 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 www.aboutstay.com. Joining me on the call this morning is Jonathan Halkyard, Chief Executive Officer and Brian Nicholson, Chief Financial Officer. After prepared remarks by Jonathan and Brian, there will be a question-and-answer session.

Before we begin, I'd like to remind you that some of our discussions today will contain forward-looking statements, including a discussion about our 2019 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 on February 27, 2019. In addition, on today's call, we will reference certain non-GAAP measures. More information regarding these non-GAAP measures, including reconciliations to the most comparable GAAP measures, are included in the earnings release and the Form 10-K filed yesterday evening with the SEC.

With that, I will turn it over to Jonathan.

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [3]

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Thanks, Rob, and good morning, everyone. Thank you for joining us this morning to discuss our fourth quarter and full year 2018 results. With my first year as CEO of Extended Stay America in the books, I want to briefly highlight the strategy I laid out a year ago and update the progress we've made since then. A year ago, I reiterated that our primary priority and purpose is to serve our core guests, which are guests staying 5 nights or longer, generally a week to a few months. Our core guests are usually traveling for business, working on temporary projects, attending training, preparing for relocation and so on. This is a very attractive guest profile, one our people and product are duly suited to serve.

We are unique, relevant and valuable lodging option for this guest, and she presents us with the best economics and often reflect her positive experience in social media reviews, both great results for our shareholders. In 2018, for the first time in 7 years, the majority of our room-occupancy growth came from this core Extended Stay guest. We believe this modest but important shift in guest profile led to an approximately 1 point increase in RevPAR index for the year. Last year, I also reiterated our commitment to accelerate our progress on the ESA 2.0 strategy, through the sale of non-core assets at attractive free cash flow multiples while retaining franchise agreements, new development of the ESA hotels in attractive markets, sale of ESA franchises and targeted capital investments. We made strong progress on all of these fronts in 2018. First, we updated our new ESA 2.0 building design in 2018 to be more targeted towards our core guest and more efficient for us and for our partners to develop. We eliminated $20,000 for key in construction cost from our initial design by removing frilled and unneeded common area space that our core guests does not utilize or value.

Next, we sold 72 hotels during the year at an average pro forma free cash flow multiple of approximately 18x with all, but one of those hotels retaining long-term franchise or management agreements. We grew our pipeline to nearly 7,000 rooms, or 10% of our existing base in 2018, with roughly 75% of that pipeline being franchised hotels. And we added 2 new hotels to the system in the hot markets of Rock Hill and Greenville, South Carolina. We acquired 11 sites in markets like Tampa, Florida, Austin, Texas, and Chandler, Arizona, and have options on another 4 sites. We commenced construction on 4 of the sites we acquired. As Brian will describe in his remarks, these investments has set the stage for a very appealing array of capital investments in 2019 and 2020.

Finally, we completed the groundwork needed for our next phase of renovations with 4 tiers; with investment levels informed by customer preference and strong capital return thresholds. These renovations have begun and will continue during 2019 according to a schedule designed to minimize the inevitable construction disruption. As with the newbuilds, we are enthusiastic about the returns available from this segmented approach to renovation investment.

And finally, a year ago, I outlined my desire to simplify our internal processes, questioning any activity that did not support our hotels and our core guests. We undertook a complete review of the activities and our organization. We identified and took action on over $10 million in savings. We took some of those to the bottom line, but we also chose to reinvest some of those dollars into our general managers, the most critical part of our operating team. We revamped our GM training program, complete with on-the-job training at one of our 40 training hotels, intensive e-learning and culminating with an exciting week here at our headquarters, which we now call the hotel support center. Over the past few months, our General Manager turnover rate has declined over 8 points. We simplified our operating organization, eliminating a layer of management, reducing our 16 regions to 10, and aligned our sales and revenue management teams with this organization.

We are now more effective and efficient. Overhead expenses were down by about $2 million in 2018, after having invested in incremental $1 million in our development organization. Now this is all exciting stuff, but as a former CFO, I can't resist talking about our shareholder friendly capital allocation policy, also a home mark of our strategy, which is one marked by a healthy dividend payout ratio and repurchase of our own shares.

During 2018, we returned approximately $250 million to shareholders, all while retiring nearly $150 million in debt and significantly increasing the cash on our balance sheet. We finished the year at 3.7x net-debt-to adjusted EBITDA, down from 3.9x at the end of 2017. This improvement in our balance sheet was recognized by Moody's in the second half of 2018, as Moody's upgraded all tranches of the company's debt and revolvers.

Now I'll spent just a couple of minutes on our fourth quarter accomplishments between -- before turning it over to Brian. Clearly, our core business performed well during the quarter and the year, illustrated by strong FFO and adjusted Paired Share income per diluted Paired Share. We achieved this by growing revenues the right way, from our core customers and by growing our RevPAR index during the quarter by 50 basis points compared to our comp set. We sold a portfolio totaling 14 hotels during the quarter at an attractive free cash flow multiple of 18x for gross proceeds of $38 million, bringing us up to 4 long-term franchise partners, totaling 71 hotels with commitments from each of those 4 partners as well as several others to grow our room count in the near future. These commitments, combined with additional franchise applications and our own [owned] balance sheet pipeline growth, allowed us to grow our total pipeline from 52 hotels at the end of the third quarter last year to 57, with 1 hotel opening in the fourth quarter. We have over 60 in the pipeline as of this morning. And approximately, 3/4 of this pipeline are franchisee hotels, showing the strong demand for these hotels from third parties.

Just 2 weeks ago, I was at the groundbreaking of our first new franchisee built hotel with KARA Hospitality. And we expect to make additional progress on franchisee new builds as well as conversions by our franchise partners further in 2019.

We launched our next phase of targeted renovation in the fourth quarter with 4 different tiers of renovations; ranging from a basic life cycle refresh up to a more transformational renovation of our hotels with the highest potential. Capital investments beyond the likes -- life cycle basic refresh, we believe, will yield a strong double-digit cash on cash return and will be focused on hotels we believe can support more investments and higher ADRs. We expect to renovate approximately 60 to 70 hotels per year over the next 7-year renovation cycle.

We are innovating this year, testing several new ideas for the brand in 2019. These include an enhanced breakfast offering, offering a pantry, food delivery, expanded benefits for Perks loyalty members and expanding the availability of fitness centers in our hotels. We will update our plans and performance of each of these tests throughout the year. While one of the strengths of our product is our standardization, we also know it's essential to innovate around a changing landscape of competitive action and customer preferences. For this reason, we are also investing in technology at our hotels, including enhanced Wi-Fi, TV streaming capability and a more robust property management system. These enhancements will improve our guest experience, improve our operational efficiency and lay the foundation for future mobile check-in and value-added recognition of Extended Perks loyalty members. As of today, up to 35% of our hotels are benefiting from these new technologies, and we expect to complete that rollout to all company-owned hotels this year.

Looking to 2019, we expect the overall macro environment to be similar to 2018 with room supply growth both for the total industry and our price point expected to be unchanged at 2% and less than 1%, respectively, and with GDP growth of approximately 2% to 3% in the U.S. We expect to continue to make significant progress on ESA 2.0 in 2019. With several additional portfolio refranchise sales, growing our pipeline to as high as 100 hotels and opening our first new purpose-built ESA hotels in more than a decade. We expect franchisees to add hotels to the system this year through conversions, and we will invest in technology with a focus around the guest experience, all while returning capital to shareholders and continuing to improve our balance sheet.

I'll now turn the call over to Brian to discuss our financial results further and our 2019 outlook. Brian?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [4]

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Thank you, Jonathan. We're pleased with our results this quarter, as comparable systemwide RevPAR in the fourth quarter increased 0.9% compared to the prior year, aided by a 310 basis point increase in occupancy, and partially offset by a 3.4% increase in average daily rate or ADR. As we've mentioned in prior quarterly calls, hurricanes Irma and Harvey, which made landfall in the third quarter of 2017, resulted in meaningful business for us in the subsequent quarters during the recovery. Excluding these hurricane affected markets, our comparable system wide RevPAR growth during the first -- fourth quarter was quite strong at 4.0%. There was less renovation disruption than we had expected during the quarter, however, Houston and Florida did have a tougher comp cycling then we had expected.

During the fourth quarter, comparable company-owned RevPAR increased 0.7% while absolute company-owned RevPAR increased 3.9%, reflecting the improved remaining portfolio of quality after noncore dispositions. For the full year 2018, comparable systemwide and company-owned RevPAR increased 2.0%. Revenue in the fourth quarter increased for both nightly guests and Extended Stay guests with a bit more revenue growth coming from our longer-stay guests despite cycling on significant long-stay business boosts in Florida and Houston from the hurricane damage in the fourth quarter of 2017. Hotel operating margin declined 190 basis points in the fourth quarter to 51.1% in line with our expectations. Increased payroll, reservation, maintenance and marketing expense led to the decline in hotel operating margin during the quarter.

For the full year 2018, hotel operating margin dipped 100 basis points to 54.0%. Corporate overhead expense, excluding share-based compensation and transaction costs, increased 2.2% to $21.1 million during the fourth quarter. Our adjusted EBITDA in the fourth quarter was $126.6 million. Adjusted EBITDA during the quarter was impacted by the lost contribution of approximately $8.9 million from hotel dispositions in 2017 and 2018. Adjusted EBITDA for the full year of 2018 was $599.7 million, reflecting the lost contribution of approximately $22.0 million from recent-hotel dispositions.

Interest expense during the quarter decreased by $3 million to $29.8 million due to less outstanding debt and a decline in the LIBOR spread on our term loan, partially offset by an increase in LIBOR rates. Income taxes decreased $11.9 million to $6.9 million during the quarter, driven by a lower effective tax rate from tax reform and lower pretax income. For the full year, income taxes decreased $17.4 million to $42.1 million. Adjusted FFO per diluted Paired Share increased 3% in the fourth quarter to $0.41 per compared to $0.40 in the same year in 2017. The increase was driven by a lower tax rate and reduction in share count from Paired Share repurchases. For the full year 2018, adjusted FFO per diluted Paired Share increased 9.4% to $2.02 compared to $1.84 in the same period last year.

Net income during the fourth quarter decreased 1.9% to $39.4 million as we cycled on a gain from an asset dispositions in 2017, partially offset by lower income tax expense. For the full year 2018, net income increased to 23.0%, driven by lower depreciation expense, lower income tax expense and an increase in gain from asset sales, partially offset by increased impairment expense.

Adjusted Paired Share income per diluted Paired Share in the fourth quarter increased 9.2% to $0.21 per diluted Paired Share from $0.19 in the same period last year. The increase was primarily due to a lower tax rate, lower depreciation expense, lower interest expense and a lower share count from Paired Share repurchases.

For the full year 2018, adjusted Paired Share income per diluted Paired Share increased 14.4% to $1.14 compared to $1 in 2017. We ended the fourth quarter with our net debt to trailing 12-month adjusted EBITDA, on a pro forma 554 hotel basis at 3.7x, a decrease from 3.9x at the end of 2017. Our total cash balance finished to $303 million dollars for the year compared to $151 million at the end of 2017. The increase on our cash balance was driven by strong free cash flow during the year as well as asset dispositions. Gross debt outstanding was $2.44 billion, down from $2.59 billion at the end of 2017.

We are pleased to have been able to reduce leverage over the past several years and reduce our term loan spread to LIBOR, which is a reflection of both our prudent financial policy and our high free cash flow business model. Capital expenditures in the fourth quarter were $61.7 million, including $12 million for renovation capital, land acquisition and other ESA 2.0 costs, including opening a brand-new hotel in November from an acquisition purchase in the third quarter of 2018. Our own balance sheet development pipeline at the end of the year stood at 15 hotels, while our franchise pipeline grew by 8 hotels during the quarter to 42 hotels.

We have broken ground on 6 owned hotels as of this morning, and expect 4 of those hotels to open in the back half of 2019. For the full year, capital expenditures totaled $209.3 million, lower than expectations, as we spent less than expected on renovations during the quarter due to permitting and other time related activities. Yesterday, the Board of Directors of Extended Stay America Inc. and ESH Hospitality Inc. declared a combined cash dividend of $0.22 per Paired Share payable on March 28, 2019 to shareholders of record as of March 14, 2019. Our dividend yield is approximately 5.0% of recent trading prices, which is higher than our weighted average and marginal cost of debt. During the fourth quarter, we repurchased approximately $0.3 million paired shares for $5.7 million. In our past 2 earnings calls, Jonathan has highlighted how our boards are, and how we are open to a variety of actions in order to create shareholder value. During the fourth quarter, in light of our consideration of such possible actions, we decided to suspend our open-market share repurchases. For the full year 2018, we repurchased approximately 4.3 million shares for $85.3 million. Our remaining share repurchase authorization is currently over $110 million.

As Jonathan mentioned earlier, we were pleased with the progress we made during the quarter on ESA 2.0. This included a portfolio sale of 14 hotels for approximately $38 million, reflecting an 18.1x pro forma free cash flow multiple. Given that our shares traded at pro forma free cash flow multiple of approximately 11x, we think this arbitrage represents a great deal for our shareholders. Additionally, the buyer agreed to build or convert 7 additional ESA hotels over the next several years. This brings our refranchise activity to approximately half of our outlined 150 hotels by the end of 2021. While cash is fungible, we expect our priorities for our operating cash flow and gross proceeds from asset-portfolio dispositions to be used for capital investments in the newbuilds and renovations, in the share repurchases, debt retirement and continued strengthening of our balance sheet.

Looking to the first quarter of 2019, we expect comparable system-wide RevPAR growth will be between negative 2.5% to negative 0.5%. Our first quarter outlook reflects approximately 250 to 300 basis point of drag from cycling hurricanes in 2017 as well as approximately 50 basis points to drag expected from renovation disruption activity during the quarter. We expect adjusted EBITDA of between $114 million and $120 million during the first quarter, which reflects $6.9 million in lost contribution from hotels sold in the last year.

For the full year 2019, we expect comparable system-wide RevPAR growth of 0% to 2%, and adjusted EBITDA of $560 million to $580 million. This includes lost contribution of approximately $21 million from asset sold in 2018. Additionally, this includes headwinds from renovation disruption and cycling hurricanes business early in the year, totaling approximately 2.0%, but does not reflect potential upside from testing, tweaking our product offering in select markets, including as an example an expanded breakfast, to which Jonathan alluded earlier.

We expect to provide more color on these initiatives over the next couple of earnings calls. This guidance does not include any further asset dispositions. We expect our net system-wide unit count to grow by 5 to 15 this year, depending on the number of conversions completed in 2019; partially offset by 2 hotels sold for better and higher use about a year ago, that will be taken off-line permanently for redevelopment. We expect capital expenditures in 2019 to be between $310 million and $360 million. This includes approximately $80 million to $90 million in maintenance CapEx, including insurable events, $85 million to $100 million in renovation CapEx, $110 million to $125 million in newbuild CapEx, and the remainder in IT and corporate investments. We expect our annual interest expense to be approximately $126 million, in line with 2018, as a rising LIBOR is expected to offset decreased debt outstanding. We expect adjusted Paired Share income per diluted Paired Share of between $1.02 and $1.14 per paired share. Through our dividends and Paired Share repurchases, we expect to return between $220 million and $270 million this year to our shareholders, which represents roughly 7% to 8.5% of our recent market capitalization.

Operator, let's now get to questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Harry Curtis with Instinet.

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Harry Croyle Curtis, Instinet, LLC, Research Division - MD and Senior Analyst of Gaming, Leisure & Lodging [2]

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Jonathan, just a quick question on your thoughts on probable or an appetite for asset sales in 2019. What's the -- what are you thinking there?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [3]

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You said that -- I guess, probability and appetite, I think both are quite high, that we -- we're very happy with the -- not only the results of our efforts back in 2018, but the partners that we have brought onto to our now franchisees of ours. So we're enthusiastic about what's happened so far, we're about halfway toward our goal that we laid out in terms of asset sales and refranchising. So I would fully expect that we would continue this year. I think it's unlikely that we would sell the number of hotels that we sold in 2018. But I think it's quite likely that we will do the kinds of transactions we did in 2018, meaning portfolios of somewhere between 10 and 20 hotels. And I would certainly be enthusiastic about doing that with partners including, some who've already acquired our hotels, who had really become experienced in operating them, and I think are dedicated to growing the portfolio. So I think there is more to come in terms of asset sales this year.

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Harry Croyle Curtis, Instinet, LLC, Research Division - MD and Senior Analyst of Gaming, Leisure & Lodging [4]

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And there's an appetite on the part of these buyers, you think to continue this year?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [5]

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Absolutely. They've all -- I think all have expressed an interest in that to us. Certainly most of them.

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Harry Croyle Curtis, Instinet, LLC, Research Division - MD and Senior Analyst of Gaming, Leisure & Lodging [6]

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Then my second question. You ended the year with a reasonable amount of cash on the balance sheet. Did you have an appetite to buy back more stock in the quarter? And your comments about being open to action, so is there anything that you can share with us on that topic?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [7]

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I think we'd all agree that our shares during the quarter were valued at an attractive level. I think the same would be said of, most in lodging at certain points during the fourth quarter. But beyond what Brian said in his prepared remarks with respect to our share repurchases, there's really nothing else that I would add to that.

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Operator [8]

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Our next question is from Anthony Powell with Barclays.

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Anthony Franklin Powell, Barclays Bank PLC, Research Division - Research Analyst [9]

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Just follow-up to that question. Is the share repurchase authored gets plan -- and the open market still suspended? Or if not, when would it be unsuspended?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [10]

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Anthony, it's Jonathan. Yes, our share repurchases are still suspended.

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Anthony Franklin Powell, Barclays Bank PLC, Research Division - Research Analyst [11]

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All right, got it. And just, you mentioned that you made progress in moving to a longer-stay guest in 2018 in that healthy RevPAR index. Did that also help your margins by reducing cost? And could it be even more of a cost-benefit to that effort in future years?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [12]

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Anthony, this is Brian. Yes, as we move to longer-stay guests, we do get a marginal improvement in the cost to serve each occupied room night, if you will. Obviously weekly housekeeping is more cost efficient and housekeeping for guests who are cycling in a 1 or 2 night basis. So that does represent a potential improvement. And one of the reasons that we're targeting those guests even at marginally lower ADR.

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Anthony Franklin Powell, Barclays Bank PLC, Research Division - Research Analyst [13]

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And did it have any -- did it have a tangible impact on margins in the quarter or year? Or is that still kind of more of a theoretical benefit in future quarters?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [14]

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The risk of sounding [piquant], I would say it had marginal impact on margins during the quarter and the year. But obviously, as we continue to put our focus there, that will -- we would expect a slight benefit to margins.

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Operator [15]

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Our next question is from Chris Woronka with Deutsche Bank.

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Chris Jon Woronka, Deutsche Bank AG, Research Division - Research Analyst [16]

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Jonathan, I want to ask you -- I know you've laid out the target of asset sales by 2021. You've obviously got a pretty favorable pricing on what you sold so far. Are there situations where you might look to -- you would consider selling more than that at all. And real question is, is there an ultimate level of hotels or of EBITDA that you kind of don't want to go below when thinking about the size of the company?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [17]

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Going to the second question first, I think there is -- conceptually yes. There is -- we believe that these assets provide strong returns on invested capital. We have advantages in markets where we have concentrations of these assets. And we believe that there are -- there continues to be opportunities for improvement in the performance of these businesses either through our operating model or through additional investment. So this company will continue to own and operate a substantial number of hotels well into the foreseeable future. With respect to your first question, we did lay out a target of 150 hotels that we would sell and refranchise by 2021. That's not necessarily an endpoint, but it was shaking a ground we thought was important to put, and when we introduced at a 5-year time period. But there's certainly the potential that we would go beyond that number. And as we've done our work internally, we've got a group of around 175, 185 hotels that we believe are candidates for disposition and refranchising. And their candidacy is informed by the markets that they're in, their concentration or lack of concentration in our system, and some other considerations. So it is certainly possible that we would go beyond that 150 hotel number, perhaps even by the end of 2021, and perhaps, even up to the -- that higher balance I just described.

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Chris Jon Woronka, Deutsche Bank AG, Research Division - Research Analyst [18]

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Okay. That's very helpful. And just as a follow-up, you mentioned some of your third-party franchisees doing some convergence. Given that you're -- I know your new prototype is a little bit smaller footprint, is it -- are conversions something that the franchisees you think can do a lot more of?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [19]

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It's a good question and well-posed. I -- We've looked at conversions in our own system over the past several years. And it's something that we have not done much of, we just done 2 in the last year. But our franchisees have brought some initial ideas that we think are very promising, they're certainly enthusiastic about doing it. And it does have the advantage of speed, and I think some key learnings for our franchisees. So I think that -- if you had asked me a year ago, I might not have said as much about conversions being a part of the unit growth story. But I do think now, that it is over the next couple of years, going to be a part of that growth story. Now the important thing to note is that a conversion candidate, I think, really needs to already have kitchens in them. And otherwise, I would expect the cost of conversion would be unattractive. But there are quite a few hotels that have that format, which I think are going to be strong candidates for conversions. And I -- we are encouraging our franchises to look at that.

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Operator [20]

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Our next question is from Smedes Rose with Citi.

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Bennett Smedes Rose, Citigroup Inc, Research Division - Director & Analyst [21]

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I wanted to ask you in your guidance outlook for this year, what sort of wage increases are kind of baked into your guidance?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [22]

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Smedes, this is Brian. It really varies market-by-market. We expect it to be higher in coastal markets and especially the West Coast than other parts of the country. But we built in wage increases that kind of range between 2.5% to 4.5% to 5%.

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Bennett Smedes Rose, Citigroup Inc, Research Division - Director & Analyst [23]

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Okay. So I mean, on average, may be something like 3%, just to cross the portfolio or ...

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [24]

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Yes, I'd say probably closer to 3.5%, but that's right.

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Bennett Smedes Rose, Citigroup Inc, Research Division - Director & Analyst [25]

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And then, Jonathan, you mentioned focusing on 5 nights or longer guest. So what percent of your occupancy now is coming from that higher-margin customer?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [26]

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I think it's about -- it was about 43% in the fourth quarter from those -- that's from long-term guest, so that's 30 and above. And I believe the kind of 7 to 29 or weekly guests, plus the 30. So everything above, say, a week was about 65% of our business.

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Operator [27]

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Our next question is from Chad Beynon with Macquarie Group.

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Chad C. Beynon, Macquarie Research - Head of US Consumer, SVP and Senior Analyst [28]

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On the first quarter guidance, wondering if you're factoring in anything from the government shutdown? And then, could you just elaborate a little bit more in terms of, if the hurricane affected markets impact or lasting longer than what you expected? And if those RevPAR levels are kind back to what you saw before you're benefiting from that?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [29]

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Chad, this is Brian. As we were going in -- as we were measuring impacts as we've gone through the quarter. I think we made reference to this. We had sort of an expectation of what baseline performance was, especially in Florida, in the fourth quarter and first quarter last year, so 2017, 2018. It can be difficult to know exactly what is hurricane-related business and what isn't. Some guests will check in as FEMA guests, but then other insurance adjusters whatever, would just check in as individuals. And so you really have to kind of evaluate how they're coming in by channel, and what they're paying for the rooms and how those trends compare to what we saw before or after the events. As we cycled on it this year, I think we realize that there was perhaps more of that business than we had appreciated when we were going through the event last year. In response to your first question about the government shutdown, we've watched that very carefully, especially in the D.C. market, but then looking at government channels elsewhere, that did have an impact. But during the time of the government shutdown, it was not as significant as you might think, maybe 30 to 40 basis points in any given week when the shutdown was in effect.

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Chad C. Beynon, Macquarie Research - Head of US Consumer, SVP and Senior Analyst [30]

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Okay. And then, just on the corporate travel side, just striking more deals with more corporations as you kind of reflect on 2018 and maybe some of the conversations that you had with big corporates. Were you able to get more companies on the books? Or maybe more commitments, so as we think about 2019, 2020, maybe that corporate versus leisure trends in will naturally shift just because of what you were able to do from a negotiation standpoint. Any color there would be helpful.

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [31]

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Okay. Yes, in terms of reaching out to and acquiring new corporate accounts, there's a significant effort ongoing, that effort is pretty concentrated in the fall. As we look to gain commitments for the coming year, we were pleased to bring in new commitments and larger commitments from a number of corporate accounts. Obviously, there will be some accounts who will contribute less business going forward than they had in the past. So there's always an effort to try to drive replacement as well as incremental business. But yes, it is our intent, and we would hope in 2019 that we will see a marginal shift to more corporate and less transient -- less personal guest mix.

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Operator [32]

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Our next question is from Michael Bellisario with Robert W. Baird.

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Michael Joseph Bellisario, Robert W. Baird & Co. Incorporated, Research Division - VP and Senior Research Analyst [33]

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Just on the company on pipeline, looks like, it went down 2 net of an opening, and it mostly came out of that under-option category. Maybe little more detail on what happened there in light of those properties falling off of the pipeline?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [34]

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Basically it's just -- as we look at the properties that we have under option, there were couple that we've decided that we're not actively pursuing at this point. I would say that we feel better about the relatively small properties set in our under option group right now than we did a quarter ago -- or feel better initial closing.

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Michael Joseph Bellisario, Robert W. Baird & Co. Incorporated, Research Division - VP and Senior Research Analyst [35]

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Is that costs, or location, or combination of both?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [36]

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It's really about the entitlement process. Once we get into that, and explore what it might require, we decide to pass. So I guess, indirectly answers your question, kind of a cost issue in the end, cost and timing, but it's driven by the entitlement discovery process.

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Michael Joseph Bellisario, Robert W. Baird & Co. Incorporated, Research Division - VP and Senior Research Analyst [37]

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Got it, that's helpful. And then just for guidance on the margin side, can you provide, kind of, what's embedded there for your '19 numbers? And then all those tweaks at the property level you mentioned, does that impact margins at all in '19? And any increased property level expenses that we should think about?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [38]

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Let me take that on the front end. As we test these tweaks, and I'll use enhanced breakfast as an example. We have offered an enhanced breakfast in certain markets, primarily in Florida. For some period of time, the costs per occupied room is about $1 higher that it is for our system average. Our -- grab-and-go breakfast that we offer in all of our hotels is really oriented to breakfast bars, muffins, but the enhanced breakfast adds milk, breakfast cereals, yogurts, that sort of thing. It does carry an additional cost. We would -- as we test this in more hotels, we would only continue to roll this if we believe the rate that we capture would more than offset that cost increase. So you might see some slight increases on the margin. And again, I'm talking about $1 per occupied room in a subset of hotels, but with ADR, that more than compensates.

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Michael Joseph Bellisario, Robert W. Baird & Co. Incorporated, Research Division - VP and Senior Research Analyst [39]

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That's helpful. And overall for the entire portfolio on the margin front for '19.

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [40]

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Yes, [that's driven] the overall portfolio. We have a few drivers. Smedes asked about labor earlier. We also have insurance costs and some other costs that are driving our cost to what we would expect to be higher percent rate than our revenue growth. As far as RevPAR growth is 0% to 2%, but obviously, with a $21 million impact from the hotels that we sold last year. And that lost contribution, the top end of our EBITDA guidance is within $1 million or $2 million of what we achieved in 2018. So we believe that we would replace EBITDA even with this cost acceleration with something a little less than 2% RevPAR growth. And then if REVPAR growth by chance were in the 3% to 3.5% range than we would see margin percentage either maintained or grown.

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Operator [41]

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Our next question is from Joe Greff with JPMorgan.

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Omer Nathan Sander, JP Morgan Chase & Co, Research Division - Analyst [42]

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It's Omer Sander on for Joe. My first question relates to the board evaluation of the corporate structure. You proactively brought this topic over 2 earnings conference calls you got. Why is it taking so long to figure out. Is it something to do with the business? Or do you need more progress on asset sales in your franchise signings, proof of extended stay 2.0? Or is it sector valuation related. To what extent is the board appreciate where we are in the lodging in the overall economic cycle? That is to say, not early or middle but at least later relative to history?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [43]

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Our place and timing of the lodging cycle is something that we and our board consider it -- consider continuously. We do it, as you would imagine with respect to our consideration of our operating and capital budgets, our activities as it relates to new hotel builds and dispositions. Our view of the near and medium-term prospects for the industry demand, supply growth and so on, and forms pretty much every decision that we consider at the board level. With respect to your first question, I would refer you back to our last 2 earnings calls and to Brian's comments earlier in this call.

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Omer Nathan Sander, JP Morgan Chase & Co, Research Division - Analyst [44]

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Got it. And then can you just please discuss January and February RevPAR and OpEx trends on year-over-year basis?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [45]

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Sure. As we went through the third quarter last year, third quarter was our strongest quarter in 2018 from a RevPAR production standpoint. And as we move sequentially through the quarter, it was strongest in January and kind of came down towards March, it was something in the neighborhood of 5%, 4% and 2%. So obviously, cycling on that, not only cycling on the storm impacts of that gets into Florida. But just cycling on the overall strength of RevPAR growth, last year has been a challenge as we begun this quarter. The impact that we would expect from those storm markets, by the time we get to second quarter is half or lapse of the impact that we saw in the first quarter. And so we expect continuing build on our RevPAR momentum as we go through the year.

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Operator [46]

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Our next question is from Dave Katz with Jefferies.

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David Brian Katz, Jefferies LLC, Research Division - MD and Senior Equity Analyst of Gaming, Lodging & Leisure [47]

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I wanted to maybe face this in a different direction, which is, what opportunities do you see out there that can afford you or offer you bigger bites in terms of the franchising business? Are there institutional grade or sort of larger size entities that you can engage with that, may want to sign up for, as I said larger groups of hotels in one shot?

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [48]

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David, it's Jonathan. I think that there is certainly the potential for that. And we've began that, I believe, with some of the buyers of our existing portfolio. These are, in most cases, experienced developers of hotels. And we would expect while they have committed to 5 to 7 additional hotel developments that they certainly have the capacity and competency to do more than that. This is, I think, important to note that it's still fairly early days in our franchising efforts. But we are seeing, I think, increased traction from both small and large experienced operators, they're attracted by the margins in the business. The fact that we own and will continue to own over 500 of these hotels that they have proved to -- they're ability to succeed in virtually every market, and demands circumstance in this country. So believe me, we are -- we, like you and our shareholders think that this is a big opportunity for us, and we're after it aggressively. And I think that -- I think our results and signing up additional franchises this year will prove that out.

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Operator [49]

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Our next question is from Stephen Grambling with Goldman Sachs.

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Stephen White Grambling, Goldman Sachs Group Inc., Research Division - Equity Analyst [50]

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Maybe even a follow up on that as you look across the portfolio, how much disparity is there across EBITDA per key and returns? And what typically drives that delta? And as you're looking at those additional acts of dispositions, I guess, how might those metrics compare when you're thinking about what's been targeted versus with what has already been completed?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [51]

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Stephen, this is Brian. In terms of EBITDA per key, there is decent variance, the hotels that are towards the lower end of the EBITDA production spectrum or, call it, in the neighborhood of $5000 per key, maybe even lower than that. And then on the upper end of the spectrum can be 4x, 5x, 6x that amount. Really what drives that is markets more than anything else. Hotels that have an abundance of demand drivers have limited supply due to geographical or other constraints. So there's a big difference between hotels in, say, certain markets in the Midwest versus hotels in those San Francisco Bay Area. I'm sorry, what was the second part of your question?

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Stephen White Grambling, Goldman Sachs Group Inc., Research Division - Equity Analyst [52]

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Well, so I was going to say, how did the properties that, I guess, that are being targeted to sell through 2021 compared to what was already completed on those metrics?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [53]

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Yes, they're very similar in terms of what we've already completed on those metrics. As you may imagine, some of those hotels in markets where the geography is less tight or where the concentration of demand drivers is not as high, as say, in West Coast markets, those hotels where also we don't have necessarily the concentration of assets that makes the management of those hotels more efficient or other characteristics that we define for hotels that we would like to maintain within our portfolio.

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Stephen White Grambling, Goldman Sachs Group Inc., Research Division - Equity Analyst [54]

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Helpful. And one other follow-up just maybe a little bit tougher, but some of your peers who've gone down the path of separating out opco and propco continue to buy back stock up until, I believe, the last quarter before split. So I guess, any other thoughts you can give on the rationale behind stopping the buyback?

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Brian T. Nicholson, ESH Hospitality, Inc. - CFO [55]

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No, no, Stephen. Nothing beyond what we've said in our prepared remarks and responses to a couple of questions earlier in the call.

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Operator [56]

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Ladies and gentlemen, we have reached the end of our question-and-answer session. I would like to turn the call back over to Jonathan for closing remarks.

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Jonathan S. Halkyard, ESH Hospitality, Inc. - President, CEO & Director [57]

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Thank you. Thanks, everybody for joining us this morning. We look forward to seeing many of you as we engage in some Investor Relations events in the coming weeks. And otherwise, we look forward to speaking with you in late April to talk about our first quarter results. Thanks, everyone.

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Operator [58]

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Thank you. This concludes today's conference. You may disconnect your lines at this time, and thank you for your participation.