10-Q 1 d10q.txt QUARTERLY REPORT ================================================================================ Securities and Exchange Commission Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the Quarter Ended June 14, 2002 OR [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File No. 033-24935 MARRIOTT RESIDENCE INN II LIMITED PARTNERSHIP 10400 Fernwood Road Bethesda, MD 20817-1109 (301) 380-9000 Delaware 52-1605434 -------------------------------- ----------------------------------------- (State of Organization) (I.R.S. Employer Identification Number) Securities registered pursuant to Section 12(b) of the Act: Not Applicable Securities registered pursuant to Section 12(g) of the Act: Units of Limited Partnership Interest ------------------------------------- (Title of Class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months, and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No ___. ================================================================================ MARRIOTT RESIDENCE INN II LIMITED PARTNERSHIP TABLE OF CONTENTS -----------------

=================================================================================================================== Marriott Residence Inn II Limited Partnership =================================================================================================================== TABLE OF CONTENTS ----------------- PAGE NO. ------- PART I - FINANCIAL INFORMATION (Unaudited): Condensed Consolidated Balance Sheets ~~September~~June 714, ~~2001~~2002 and December 31, ~~2000~~2001 ................................................~~.........~~ 1 Condensed Consolidated Statements of Operations Twelve and ~~Thirty~~Twenty-~~Six~~Four Weeks Ended ~~September~~June 714, ~~2001~~2002 and ~~September~~June 815, ~~2000~~2001 .................~~......~~ 2 Condensed Consolidated Statements of Cash Flows ~~Thirty~~Twenty-~~Six~~Four Weeks Ended ~~September~~June 714, ~~2001~~2002 and ~~September~~June 815, ~~2000~~2001 ............................~~......~~ 3 Notes to Condensed Consolidated Financial Statements .................................~~............~~ 4 Management's Discussion and Analysis of Financial Condition and Results of Operations ................................................~~.............~~ 56 Quantitative and Qualitative Disclosures about Market Risk ...........................~~............~~ 89 PART II - OTHER INFORMATION AND SIGNATURE .......................................................~~...........~~ 910

Marriott Residence Inn II Limited Partnership Condensed Consolidated Balance Sheets (in thousands)

~~September~~June 714, December 31, 2002 2001 ~~2000~~ ------------- ---------------- (Unaudited) ASSETS Property and equipment, net .............................................~~....~~ $ ~~130~~129,~~236~~888 $ ~~133~~132,~~126~~137 Due from Residence Inn by Marriott, Inc. ................................~~....~~ 24,~~899~~308 23,~~040~~005 Deferred financing costs, net of accumulated amortization ...............~~....~~ 1,~~865~~548 21,~~150~~738 Property improvement fund ...............................................~~....~~ 65,~~016~~188 3,~~998~~923 Restricted cash reserves. ...............................................~~....~~ 86,~~604~~316 87,~~467~~762 Cash and cash equivalents ...............................................~~....~~ 25,~~337~~854 2225,~~291~~149 ------------- ---------------- $ ~~174~~173,~~957~~102 $ ~~172~~173,~~072~~714 ============= ================ LIABILITIES AND PARTNERS' CAPITAL LIABILITIES Mortgage debt ...........................................................~~....~~ $ ~~132~~131,~~863~~130 $ ~~134~~132,~~166~~198 Incentive management fee due to Residence Inn by Marriott, Inc. .........~~....~~ 46,~~771~~625 25,~~895~~440 Accounts payable and accrued expenses ...................................~~....~~ 21,~~517~~503 12,~~998~~037 ------------- ---------------- Total Liabilities .................................................~~....~~ ~~140~~139,~~151~~258 139,~~059~~675 ------------- ---------------- PARTNERS' CAPITAL General ~~Partner~~partner .........................................................~~....~~ ~~426~~417 ~~408~~418 Limited Partners.........................................................~~...~~ 3433,~~380~~427 3233,~~605~~621 ------------- ---------------- Total Partners' Capital ...........................................~~....~~ 3433,~~806~~844 3334,~~013~~039 ------------- ---------------- $ ~~174~~173,~~957~~102 $ ~~172~~173,~~072~~714 ============= ================

See Notes to Condensed Consolidated Financial Statements. 1 Marriott Residence Inn II Limited Partnership Condensed Consolidated Statements of Operations (Unaudited, in thousands, except Unit and per Unit amounts)

Twelve Weeks Ended ~~Thirty~~Twenty-~~Six~~Four Weeks Ended ~~September~~June 714, ~~September~~June 815, ~~September~~June 714, ~~September~~June 815, 2002 2001 ~~2000~~2002 2001 ~~2000~~ ------------- -------------- ------------- -------------- REVENUES ~~Inn revenues~~ Suites ...................................... $ 1514,~~071~~783 $ 1615,~~698~~468 $ 4628,~~500~~805 $ 4931,~~211~~429 Other ....................................... ~~692~~526 ~~764~~717 21,~~097~~100 21,~~400~~405 ------------- -------------- ------------- -------------- Total ~~Inn~~ revenues ...................... 15,~~763~~309 1716,~~462~~185 4829,~~597~~905 5132,~~611~~834 ------------- -------------- ------------- -------------- OPERATING COSTS AND EXPENSES ~~Inn property-level costs and expenses~~ Suites ...................................... 3,~~802~~576 43,~~288~~961 117,~~820~~004 128,~~430~~018 ~~Other~~Department ~~department~~ costs and expenses ............. ~~438~~450 ~~578~~507 ~~1,365~~897 ~~1,563~~927 Selling, administrative and other ........... 4,~~694~~359 4,~~945~~495 ~~14,119 14,203 ------------- -------------- ------------- -------------- Total Inn property-level costs and expenses..........................~~ 8,~~934~~645 9,~~811~~425 ~~27,304 28,196~~ Depreciation ..............................~~....~~ 1,~~594~~651 1,~~598~~712 43,~~978~~319 43,~~906~~384 Incentive management fee ..................~~....~~ ~~590~~606 ~~703~~645 1,~~876~~185 21,~~143~~286 Residence Inn system fee ..................~~....~~ ~~603~~591 ~~669~~619 1,~~860~~073 1,~~969~~257 Property taxes ............................~~....~~ ~~569~~567 ~~506~~542 1,~~606~~102 1,~~581~~037 Equipment rent and other ..................~~....~~ ~~167~~861 ~~195~~417 ~~809~~1,040 ~~978~~642 Base management fee .......................~~....~~ ~~315~~306 ~~349~~324 ~~972~~598 ~~1,032~~657 ------------- -------------- ------------- -------------- ~~Total operating costs and expenses...... 12,772 13,831 39,405 40,805 ------------- -------------- ------------- --------------~~ OPERATING PROFIT .............................~~....~~ 2,~~991~~342 32,~~631~~963 95,~~192~~042 106,~~806~~201 Interest expense ..........................~~....~~ (2,~~842~~809) (2,~~881~~851) (85,~~488~~531) (85,~~668~~646) Interest income ...........................~~....~~ ~~356~~164 ~~473~~419 ~~1,089~~294 ~~1,176~~733 ------------- -------------- ------------- -------------- NET INCOME (LOSS) ............................~~...........~~ $ ~~505~~(303) $ ~~1,223~~531 $ ~~1,793~~(195) $ 31,~~314~~288 ============= ============== ============= ============== ALLOCATION OF NET INCOME (LOSS) General ~~Partner~~partner ...........................~~....~~ $ 5(3) $ 125 $ 18(2) $ 3313 Limited Partners ..........................~~....~~ ~~500~~(300) ~~1,211~~526 (193) 1,~~775~~275 ~~3,281~~ ------------- -------------- ------------- -------------- $ ~~505~~(303) $ ~~1,223~~531 $ ~~1,793~~(195) $ 31,~~314~~288 ============= ============== ============= ============== NET INCOME (LOSS) PER LIMITED PARTNER UNIT (70,000 Units) ............................ $ 7(4) $ 177 $ 25(3) $ 4618 ============= ============== ============= ==============

See Notes to Condensed Consolidated Financial Statements. 2 Marriott Residence Inn II Limited Partnership Condensed Consolidated Statements of Cash Flows (Unaudited, in thousands)

~~Thirty~~Twenty-~~Six~~Four Weeks Ended ~~September~~June 714, ~~September~~June 815, 2002 2001 ~~2000~~ --------------- ---------------- OPERATING ACTIVITIES Net income (loss) ...................................................~~................~~ $ ~~1,793~~(195) $ 31,~~314~~288 Depreciation ........................................................~~.........~~ 43,~~978~~319 43,~~906~~384 Amortization of deferred financing costs ............................~~.........~~ ~~285~~190 ~~286~~191 Deferred incentive management fees ..................................~~.........~~ 1,~~876~~185 21,~~143~~286 Loss on dispositions of fixed assets ................................~~.........~~ -- 2 64 Changes in operating accounts .......................................~~.........~~ (~~333~~1,835) (~~276~~2,583) --------------- ---------------- Cash provided by operating activities .........................~~.........~~ 82,~~601~~664 103,~~437~~568 --------------- ---------------- INVESTING ACTIVITIES Additions to property and equipment, net ............................~~.........~~ (21,~~090~~070) (31,~~220~~401) Change in property improvement fund .................................~~.........~~ (21,~~018~~265) (21,~~746~~541) ~~Change in restricted cash reserves........................................... 73 (250)~~ --------------- ---------------- Cash used in investing activities .............................~~.........~~ (42,~~035~~335) (62,~~216~~942) --------------- ---------------- FINANCING ACTIVITIES Repayment of mortgage debt ..........................................~~.........~~ (1,~~303~~068) (~~1,160~~964) Change in ~~restricted~~debt ~~cash~~service reserves .....................................~~......~~ ~~(217)~~1,444 --944 --------------- ---------------- Cash provided by (used in) financing activities ...............~~.......................~~ ~~(1,520)~~376 (~~1,160~~20) --------------- ---------------- INCREASE IN CASH AND CASH EQUIVALENTS ..................................~~.........~~ ~~3,046~~705 ~~3,061~~606 CASH AND CASH EQUIVALENTS at beginning of period .......................~~.........~~ 25,149 22,291 ~~19,039~~ --------------- ---------------- CASH AND CASH EQUIVALENTS at end of period .............................~~.........~~ $ 25,~~337~~854 $ 22,~~100~~897 =============== ================ SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid for mortgage interest .....................................~~.........~~ $ 75,~~981~~894 $ 85,~~124~~999 =============== ================

See Notes to Condensed Consolidated Financial Statements. 3 Marriott Residence Inn II Limited Partnership Notes to Condensed Consolidated Financial Statements (Unaudited) 1. Organization Marriott Residence Inn II Limited Partnership (the "Partnership"), a Delaware limited partnership, owns 23 Marriott Residence Inn properties (the "Inns") and the land on which the Inns are located. The Inns are located in 16 states and contain a total of 2,487 suites. The Inns are managed by Residence Inn by Marriott, Inc. (the "Manager"), a wholly owned subsidiary of Marriott International, Inc. See Note 4 Subsequent Events for a discussion of a proposed merger with Apple Hospitality Two, Inc. 2. Summary of Significant Accounting Policies The accompanying condensed consolidated financial statements of the Partnership have been prepared without audit. Certain information and footnote disclosures normally included in financial statements presented in accordance with accounting principles generally accepted in the United States have been condensed or omitted. The Partnership believes the disclosures made are adequate to make the information presented not misleading. However, the unaudited, condensed consolidated financial statements should be read in conjunction with the Partnership's consolidated financial statements and notes thereto included in the Partnership's annual report on Form 10-K for the year ended December 31, 2001. In the opinion of the Partnership, the accompanying unaudited, condensed consolidated financial statements reflect all adjustments necessary to present fairly the financial position of the Partnership as of June 14, 2002, and the results of its operations for the twelve and twenty-four weeks ended June 14, 2002 and June 15, 2001 and cash flows for the twenty-four weeks ended June 14, 2002 and June 15, 2001. Interim results are not necessarily indicative of full year performance because of the impact of seasonal and short-term variations. For financial reporting purposes, net income of the Partnership is allocated 99% to the limited partners and 1% to RIBM Two LLC, the general partner. Significant differences exist between the net income for financial reporting purposes and the net income for federal income tax purposes. These differences are due primarily to the use, for federal income tax purposes, of accelerated depreciation methods and shorter depreciable lives of the assets, and differences in the timing of the recognition of incentive management fee expense. 3. Amounts Paid to the General Partner and Marriott International, Inc. The chart below summarizes cash amounts paid to the general partner and Marriott International, Inc. for the twenty-four weeks ended June 14, 2002 and June 15, 2001 (in thousands):

~~Marriott~~2002 ~~International, Inc.:~~ 2001 ~~2000~~ ------------- ------------- Marriott International, Inc.: Residence Inn system fee ............................~~..............~~ $ 1,~~860~~073 $ 1,~~969~~257 Chain services and Marriott Rewards Program .........~~..............~~ ~~1,392~~739 ~~1,457~~938 Marketing fund contribution .........................~~..............~~ ~~1,162~~720 ~~1,230~~786 Base management fee~~...............................................~~ ~~972 1,032 Incentive management fee~~.................................~~.........~~ --598 --657 ------------- ------------- $ 53,~~386~~130 $ 53,~~688~~638 ============= ============= General ~~Partner~~partner: Administrative expenses reimbursed ..................~~..............~~ $ ~~123~~139 $ ~~160~~70 ============= =============

4. Subsequent Events As disclosed in a letter to the limited partners on April 30, 2002, and in a consent solicitation distributed to the limited partners on or about July 8, 2002, the Partnership has entered into a definitive merger agreement with Apple Hospitality Two, Inc. ("Apple") and AHT RES II Acquisition, L.P., a wholly owned indirect subsidiary of Apple, pursuant to which Apple will acquire all of the outstanding partnership interests in the Partnership and will assume approximately $131 million of the Partnership's indebtedness and the Partnership's obligation to fund the $9.7 million capital expenditure plan for the current fiscal year. 4 The aggregate purchase price for all of the outstanding units and the one percent general partner interest is $29,250,000. If the merger is completed, the limited partners will receive $415 in cash for each unit of limited partnership interest owned immediately prior to the closing of the merger. In addition, the limited partners will receive a beneficial interest in a liquidating trust to be created by the Partnership to hold several contingent assets of the Partnership and to facilitate certain cashflow adjustments and other transactions to be made by the parties after the closing of the merger. Prior to the closing of the merger, the Partnership will contribute $300,000 ($4.28 per unit) and assign certain contingent assets to this trust, which will be managed without profit by the general partner. Approximately two years after the completion of the merger, the trust will be liquidated and its remaining assets distributed to the limited partners. The general partner will receive $200,000 in cash for its 1% general partner interest, which will be retained by Apple for a period of time after completion of the merger to satisfy certain indemnification obligations that the general partner agreed to fund under the merger agreement. Consummation of the merger is subject to certain conditions, including approval of the merger by the limited partners holding a majority of the issued and outstanding units, consent of the Partnership's lender and consent of the Manager. On July 8, 2002, the Partnership commenced a consent solicitation seeking the consent of a majority of the holders to the proposed merger. The Partnership mailed a copy of the consent solicitation to each limited partner who is listed on the records of the Partnership on July 3, 2002. The consent period ends at 2:00 p.m. on August 8, 2002. 5 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS Certain matters discussed herein are forward-looking statements. We have based these forward-looking statements on our current expectations and projections about future events. Certain, but not necessarily all, of such forward-looking statements can be identified by the use of forward-looking terminology, such as "believes," "expects," "may," "will," "should," "estimates," or "anticipates," or the negative thereof or other variations thereof or comparable terminology. All forward-looking statements involve known and unknown risks, uncertainties and other factors which may cause our actual transactions, results, performance or achievements to be materially different from any future transactions, results, performance or achievements expressed or implied by such forward-looking statements. Although we believe the expectations reflected in such forward-looking statements are based upon reasonable assumptions, we can give no assurance that our expectations will be attained or that any deviations will not be material. We disclaim any obligations or undertaking to publicly release any updates or revisions to any forward-looking statement contained in this quarterly report on Form 10-Q to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based. GENERAL Sale of Partnership Consistent with the terms of the partnership agreement and the original investment objectives contemplated at the formation of the Partnership, the general partner is currently attempting to sell the Inns or, in the alternative, find a buyer for the partnership interests. As stated in the Partnership's letter to limited partners dated October 9, 2001, the general partner engaged Merrill Lynch & Co. ("Merrill Lynch") as its financial advisor in April 2001 to conduct a broad marketing process in an effort to maximize value for the limited partners. As disclosed in a letter to the limited partners on April 30, 2002, on that day the Partnership entered into a definitive merger agreement with Apple, pursuant to which Apple and AHT Res II Acquisition, L.P., a wholly owned indirect subsidiary of Apple, will acquire all of the outstanding partnership interests in the Partnership and will assume approximately $131 million of the Partnership's mortgage debt and the Partnership's obligation to fund the $9.7 million capital expenditure plan for the current fiscal year. The aggregate purchase price for all of the outstanding units and the one percent general partner interest of the Partnership is $29,250,000. If the merger is completed, the limited partners will receive $415 in cash for each unit of limited partnership interest owned immediately prior to the closing of the merger. In addition, the limited partners will receive a beneficial interest in a liquidating trust to be created by the Partnership to hold several contingent assets of the Partnership and to facilitate certain cash flow adjustments and other transactions to be made by the parties after the closing of the merger. Prior to the closing of the merger, the Partnership will contribute $300,000 ($4.28 per unit) and assign certain contingent assets to this trust, which will be managed without profit by the general partner. Approximately two years after the completion of the merger, the trust will be liquidated and its remaining assets distributed to the limited partners. The general partner will receive $200,000 in cash for its 1% general partner interest, which will be retained by Apple for a period of time after completion of the merger to satisfy certain indemnification obligations that the general partner agreed to fund under the merger agreement although it had no obligation to do so. Consummation of the merger is subject to certain conditions, including approval of the merger by the limited partners holding a majority of the issued and outstanding units, consent of the Partnership's lender and consent of the Manager. On July 8, 2002, the Partnership commenced a consent solicitation seeking the consent of a majority of the holders to the proposed merger. The Partnership mailed a copy of the consent 6 solicitation to each limited partner on the records of the Partnership on July 3, 2002. The consent period ends at 2:00 p.m. on August 8, 2002. If the conditions necessary for the merger to occur are not satisfied, the Partnership will continue to pursue selling the Inns or, in the alternative, finding a buyer for the partnership interests, consistent with the terms of the partnership agreement and the original investment objectives contemplated at the formation of the Partnership. CHANGES TO MANAGEMENT AGREEMENT The general partner and the Manager have been negotiating certain changes to the management agreement. In addition, Apple has entered into discussions with the Manager regarding certain changes to the management agreement. If the merger closes, it is anticipated that the changes to the management agreement negotiated between the general partner and the Manager would be entered into at the same time as the changes agreed to by Apple and the Manager. If the merger is not completed, or the limited partners do not approve the merger agreement, they will continue to own a limited partner interest in the Partnership and receive the benefits, if any of the proposed changes described below. The Partnership and the Manager will execute mutual general releases in connection with the merger or, if the merger is not completed, upon implementation of the changes to the management agreement agreed to by the general partner and the Manager. The general partner and the Manager propose to revise the management agreement as follows: . FF&E Reserve--The Partnership would be given the right to approve the annual budget for furniture, fixtures and equipment expenditures under the management agreement with respect to each expenditure of $10,000 or more. Expenditures of less than $10,000 would be budgeted and approved in the aggregate by each Inn. . Adjustments to First Priority Return--The First Priority Return payable to the Partnership under the management agreement would be increased by $75,000. In addition, Additional Inn Investments (as that term is defined in the management agreement) made after the date of the amendment would be included in the calculation of the Partnership's First Priority Return rather than in the calculation of the Partnership's Second Priority Return (as those terms are defined in the management agreement). . Design Specifications--With regard to capital-expenditure programs proposed by the Manager, the Partnership would have the right to select in its reasonable discretion a prototype design package for such programs out of applicable prototype design packages then available within the Residence Inn system. The Partnership and the Manager would mutually agree on any custom design packages not contemplated by then-current brand design standards and prototype design packages. . Chain Services and Marketing Fund--Commencing in fiscal year 2002, required contributions by the Partnership to the marketing fund maintained by the Manager would not be increased without the prior approval of a majority of the members of The Residence Inn Association, an association of Residence Inn owners and franchisees. . Renewal--The Manager would be required, if it wishes to renew the management agreement, to renew the management agreement with respect to at least 80% of the Partnership's Inns which either meet the then-current brand standards or are in compliance with a specified five-year property-improvement program currently required by the Manager. 7 . Performance Termination--Commencing in 2004, the Partnership's ability to terminate the management agreement due to inadequate performance would be based on the Inns' performance over the previous two years rather than the previous three years, coupled with a new test comparing the Inns' aggregate "revenues per available room" ("RevPAR") with the RevPAR of hotels in their competitive sets. Any cure payments made by the Manager to avoid a performance termination would not be recoverable in later years. . Accounting--The Manager would be required to provide the Partnership with annual operating projections on both a consolidated and a per-Inn basis. The Manager would also be required to meet with representatives of the Partnership and consider in good faith the suggestions of such representatives regarding the Partnership's annual operating projections. RESULTS OF OPERATIONS Revenues. Revenues decreased $0.9 million, or 5%, to $15.3 million for the second quarter of 2002 and decreased $2.9 million or 9% to $29.9 million for the first two quarters of 2002 when compared to the same periods of last year. This decline reflects the continued weakness in the lodging industry, primarily as a result of reduced business travel. In response, we have reduced the room rates at our Inns in order to maintain the occupancy levels from the prior year. As a result, RevPAR has declined 8% to $69.10 for the twenty-four weeks ended June 14, 2002. The decline reflects a decrease of 9% in the average suite rate that was partially offset by a 0.4 percentage point increase in occupancy during the period. Operating Costs and Expenses. Operating costs and expenses decreased by $0.3 million, or 2%, to $13.0 million for the second quarter of 2002, and by $1.8 million, or 7%, to $24.9 million for the first two quarters of 2002 when compared to the same periods in 2001. The decreases were primarily due to decreases in property-level costs and expenses, which include suites, department costs and expenses, and selling, administration and other, as a result of the Manager's continued efforts to control operating costs. The decline also reflects decreases in fees due to the Manager, which are affected by changes in Inn revenues. As a percentage of total Inn revenues, operating costs and expenses were 84.7% and 81.7% for the second quarter of 2002 and 2001, respectively and 83.1% and 81.1% for the first two quarters of 2002 and 2001, respectively. Operating Profit. As a result of the changes in revenues and operating costs and expenses discussed above, operating profit decreased $0.6 million to $2.3 million, or 15% of revenues, from $2.9 million, or 18% of revenues, for the second quarter of 2002 when compared to the same period in 2001. For the first two quarters of 2002, operating profit decreased $1.2 million to $5.0 million, or 17% of revenues, from $6.2 million, or 19% of revenues, for the same period in 2001. Net Income. As a result of the items discussed above as well as a decline in interest income of $255,000, net income decreased $834,000, or 160%, to a net loss of $303,000 in the second quarter of 2002 compared to net income of $531,000 during the second quarter of 2001. For the first two quarters of 2002, net income decreased $1.5 million, or 117%, to a net loss of $195,000 compared to net income of $1.3 million for the same period in 2001. LIQUIDITY AND CAPITAL RESOURCES Our financing needs have been historically funded through loan agreements with independent financial institutions. Beginning in 1998, the Partnership's property improvement fund was insufficient to meet current needs. The shortfall is primarily due to the need for total suite refurbishments at a majority of the Inns as part of ongoing routine capital maintenance and to remain competitive in the market place. Over the past several years, the general partner has retained cash in the Partnership in anticipation of financing required capital improvements to the Inns and beginning in 1999, the Partnership increased the contribution 8 rate to the property improvement fund to 7% of gross Inn revenues. The contribution rate will remain at 7% for 2002. The Manager has also proposed additional improvements that are intended to enhance the overall value and competitiveness of the Inns. Based upon information provided by the Manager, approximately $59 million may be required over the next five years for the routine renovations and all of the proposed additional improvements. The general partner does not believe that cash flows from the operations of the Inns will be sufficient to fund these improvements. As a result, the general partner expects to fund these improvements with approximately $9.7 million (approximately $138 per unit) of the Partnership's existing cash. Actual funding of these improvements is not expected to occur until the end of fiscal year 2002. However, if the merger is consummated, the prospective purchaser will assume the obligation to fund these improvements. The general partner will continue to monitor the capital expenditure program with a view towards maximizing limited partner value. The Manager has also proposed additional improvements to the Inns that are intended to be implemented in fiscal years subsequent to 2002. The general partner will review and assess these additional proposed improvements annually at the end of each fiscal year. If the merger is not consummated, the general partner does not believe that cash from Inn operations and the Partnership's remaining cash reserves will be sufficient to fund all of the proposed additional capital expenditures requested by the Manager. As a result, if the merger does not occur, it appears unlikely that cash distributions will be possible for the next several years. Principal Sources and Uses of Cash Our principal source of cash is cash from operations. Our principal uses of cash are to make debt service payments and fund property improvements. Cash provided by operating activities was $2.7 million through the second quarter of 2002 compared to $3.6 million for the same period in 2001. The $0.9 million decrease was primarily due to declining results of operations at the Inns. Cash used in investing activities through the second quarters of 2002 and 2001 was $2.3 million and $2.9 million, respectively. Investing activities consist primarily of contributions to the property improvement fund and capital expenditures for improvements to the Inns. Contributions to the property improvement fund were $1.3 million and $1.5 million through the second quarters of 2002 and 2001, respectively. Capital expenditures were $1.1 million and $1.4 million through the second quarters of 2002 and 2001, respectively. Cash provided by financing activities through the second quarter of 2002 was $0.4 million compared with cash used by financing activities of $20,000 through the second quarter of 2001. Financing activities consist primarily of the repayments of mortgage debt, net of changes in debt service reserves. There were no cash distributions to the partners during the twenty-four weeks ended June 14, 2002 or June 15, 2001. As previously discussed, it appears unlikely that cash distributions will be possible for the next several years. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Partnership does not have significant market risk with respect to interest rates, foreign currency exchanges or other market rate or price risks, and the Partnership does not hold any financial instruments for trading purposes. As of June 14, 2002, the Partnership's mortgage debt had a fixed interest rate. 9 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Partnership and the Inns are involved in routine litigation and administrative proceedings arising in the ordinary course of business, some of which are expected to be covered by liability insurance and which collectively are not expected to have a material adverse effect on the business, financial condition or results of operations of the Partnership. 10 SIGNATURE Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this Form 10-Q to be signed on its behalf by the undersigned, thereunto duly authorized. MARRIOTT RESIDENCE INN II LIMITED PARTNERSHIP By: RIBM TWO LLC General partner July 29, 2002 By: /s/ Mathew J. Whelan -------------------------------- Mathew J. Whelan Vice President (Chief Accounting Officer) 11

Filing Compare · MARRIOTT RESIDENCE INN II LIMITED PARTNERSHIP