|
21 RESTRUCTURING COSTS AND OTHER CHARGES
During the latter part of 2008, we experienced a significant decline in demand for hotel rooms both domestically and internationally as a result, in part, of the failures and near failures of a number of large financial service companies in the fourth quarter of 2008 and the dramatic downturn in the economy. Our capital intensive Timeshare business was also hurt both domestically and internationally by the downturn in market conditions and particularly the significant deterioration in the credit markets, which resulted in our decision not to complete a note sale in the fourth quarter of 2008 (although we did complete a note sale in the first quarter of 2009). These declines resulted in reduced management and franchise fees, cancellation of development projects, reduced timeshare contract sales, and anticipated losses under guarantees and loans. In the fourth quarter of 2008, we put certain company-wide cost-saving measures in place in response to these declines, with individual company segments and corporate departments implementing further cost saving measures. Upper-level management responsible for the Timeshare segment, lodging development, and above-property level management of the various corporate departments and brand teams individually led these decentralized management initiatives. The various initiatives resulted in aggregate restructuring costs of $55 million that we recorded in the fourth quarter of 2008. We also recorded $137 million of other charges in the 2008 fourth quarter. For information regarding the fourth quarter 2008 charges, see Footnote No. 20, "Restructuring Costs and Other Charges," in our Annual Report on Form 10-K for 2008 ("2008 Form 10-K").
Restructuring Costs
As part of the restructuring actions we began in the fourth quarter of 2008, we initiated further cost savings measures in 2009 associated with our Timeshare segment, hotel development, above-property level management, and corporate overhead. These further measures resulted in additional 2009 restructuring costs of $51 million, which included: (1) $21 million in severance costs related to the reduction of 1,077 employees; (2) $29 million in facilities exit costs; and (3) $1 million related to the write-off of capitalized costs relating to development projects no longer deemed viable. The severance costs do not reflect amounts billed out separately to owners for property-level severance costs. The $21 million of 2009 severance costs consists of (1) $17 million of the expected $19 million in costs that, as disclosed in our Quarterly Report on Form 10-Q for the quarterly period ended September 11, 2009 (the "2009 Third Quarter Form 10-Q"), we incurred through the third quarter of 2009 and expected to incur in the fourth quarter of 2009, and (2) $4 million of incremental costs that we incurred as a result of further cost savings measures we implemented in the 2009 fourth quarter. All of the $29 million of 2009 facilities exit costs reflects the expected $29 million to $30 million in costs that, as disclosed in our 2009 Third Quarter Form 10-Q, we incurred through the third quarter of 2009 and expected to incur in the fourth quarter of 2009.
As part of the restructuring efforts in our Timeshare segment, we reduced and consolidated sales channels in the United States and closed down certain operations in Europe in the fourth quarter of 2008. We recorded Timeshare restructuring costs of $28 million in the 2008 fourth quarter. We recorded further Timeshare restructuring costs in 2009 of $45 million including: (1) $15 million in severance costs; (2) $29 million in facility exit costs primarily associated with noncancelable lease costs in excess of estimated sublease income arising from the reduction in personnel, ceased use of certain lease facilities, and $9 million in fixed asset impairments; and (3) $1 million related to the write-off of capitalized costs relating to development projects no longer deemed viable. We completed this restructuring in 2009 and do not expect to incur additional expenses in connection with these initiatives.
As part of the hotel development restructuring efforts across several of our Lodging segments in the fourth quarter of 2008, we discontinued certain development projects that required our investment. We recorded restructuring costs in the 2008 fourth quarter of $24 million. We recorded further hotel development restructuring costs in 2009 of $2 million for severance and fringe benefit costs. We completed this restructuring in 2009 and do not expect to incur additional expenses in connection with these initiatives.
We also implemented restructuring initiatives by reducing above property-level lodging management personnel and corporate overhead. We incurred 2008 fourth quarter restructuring costs of $3 million, primarily reflecting severance and fringe benefit costs. We recorded further restructuring costs in 2009 of $4 million for severance and fringe benefit costs. We completed this restructuring in 2009 and do not expect to incur additional expenses in connection with these initiatives.
Other Charges
We also incurred $162 million of other charges in 2009 as detailed in the following paragraphs.
Security Deposit, Joint Venture, and Other Asset Impairments
We sometimes issue guarantees to lenders and other third parties in connection with financing transactions and other obligations. As a result of the continued downturn in the economy, certain hotels have experienced significant declines in profitability and accordingly, may experience cash flow shortfalls. In the fourth quarter of 2008, we concluded based on cash flow projections that we would fund certain cash flow shortfalls in two portfolios of hotels in order to prevent draws against the related security deposits and the potential conversion of the related management contracts to franchise agreements, even though the related guarantees had expired. We did not deem these fundings to be fully recoverable and recorded a corresponding charge of $16 million for the amount we expected to fund but not recover. However, in the first quarter of 2009 we decided not to continue funding, as the expected incremental funding levels had increased to unacceptable levels.
As a result of the Company's decisions to stop funding these cash flow shortfalls and based on our internal analysis of expected future discounted cash flows, we determined that we may not recover two security deposits totaling $49 million. We used Level 3 inputs for our discounted cash flows analysis in accordance with the guidance for fair value measurements. Our assumptions included property level pro forma financial information, growth rates, and inflation. We recorded an impairment charge of $49 million in the first quarter of 2009 to fully reserve these security deposits in the "General, administrative, and other" expense caption in our Consolidated Statements of Income. In 2009, we applied the remaining $11 million of the $16 million liability established in the fourth quarter of 2008 against this impairment. In the tables that follow, see the "Impairment of investments and other" caption, which includes the $49 million impairment charge, and the "Reserves for expected fundings" caption, which includes the $11 million reduction in the liability.
We expect that one project in development, in which the Company has a joint venture investment, will generate lower operating results than we had previously anticipated due to the continued downturn in the economy, and have concluded that it is highly unlikely that we will receive a return on or of our investment without first fully funding potentially significant incremental capital, which we are not inclined to do. As a result, based on our internal analysis of expected discounted future cash flows using Level 3 inputs in accordance with the guidance for fair value measurements, we determined that our investment in that joint venture was fully impaired. The Level 3 inputs we used in our analysis were based on assumptions regarding property level pro forma financial information, fundings of debt service obligations, growth rates, and inflation. We recorded an impairment charge of $30 million in 2009 in the "Equity in (losses) earnings" caption in our Consolidated Statements of Income. See the "Impairment of investments and other" caption in the tables that follow that includes this charge.
Due to continued and projected losses at a joint venture, we evaluated our investment for impairment and determined that it was other than temporarily impaired. We recorded an impairment charge of $3 million in 2009 in the "Equity in (losses) earnings" caption in our Consolidated Statements of Income. We estimated the fair value of our joint venture investment using a market approach in accordance with the guidance for fair value measurements. The Level 3 inputs we used in our probability-weighted internal analysis were based on assumptions about market capitalization rates, growth rates, and inflation. See the "Impairment of investments and other" caption in the tables that follow that includes this charge.
We expect that a management agreement will likely be terminated for one property that is currently in receivership due to significant operating losses and an inability to meet debt service obligations. As a result, we have determined that previously capitalized contract acquisitions costs related to that property are not recoverable, and therefore, we recorded an impairment charge of $8 million in 2009 in the "General, administrative, and other" expense caption in our Consolidated Statements of Income. See the "Impairment of investments and other" caption in the tables that follow that includes this charge.
Accounts Receivable-Bad Debts and Charges for Guarantees
We expect to fund under cash flow guarantees for two properties that have experienced cash flow shortfalls. We do not deem these guarantee fundings to be recoverable, and have therefore recorded charges of $3 million in 2009 to reflect these obligations. We also reserved a $1 million accounts receivable balance in 2009, which, on analysis, we deemed to be uncollectible as a result of the unfavorable hotel operating environment. We have recorded these charges in the "General, administrative, and other" expense caption in our Consolidated Statements of Income. See the "Accounts receivable and guarantee charges" caption in the tables that follow that includes these charges.
Reserves for Loan Losses
From time to time, we advance loans to owners of properties that we manage. As a result of the continued downturn in the economy, certain hotels have experienced significant declines in profitability and the owners may not be able to meet debt service obligations to us or, in some cases, to third-party lending institutions. In 2009, we determined that two loans made by us may not be repaid. Due to the expected loan losses, we fully reserved these loans and recorded a charge of $43 million in 2009, which is reflected in the "General, administrative and other" expense caption in our Consolidated Statements of Income. See the "Reserves for loan losses" caption in the tables that follow, which includes this provision.
Timeshare Residual Interests Valuation
The fair market value of our residual interests in timeshare notes sold declined in the first half of 2009 primarily due to an increase in the market rate of interest at which we discount future cash flows to estimate the fair market value of the retained interests as well as certain previously securitized loan pools reaching performance triggers. The increase in the market rate of interest reflected an increase in defaults caused by the continued deteriorating economic conditions. As a result of this change, we recorded an $11 million charge in the 2009 first quarter, which was partially offset by a $6 million favorable impact from changes in assumptions related to discount rate, defaults and prepayments in the 2009 second and fourth quarters. Eight previously securitized loan pools reached performance triggers as a result of increased defaults; one pool in March 2009, six pools in April and May 2009, and one pool in December 2009. These performance triggers effectively redirected the excess spread we typically receive each month to accelerate returns to investors and resulted in $19 million in charges in the first half of 2009. In the 2009 second half, loan performance improved sufficiently in seven of the eight previously securitized loan pools to cure the performance triggers, resulting in a $4 million benefit to residual interest. We recorded these charges in the "Timeshare sales and services" caption in our Consolidated Statements of Income. See the "Residual interests valuation" caption in the tables that follow, which includes these charges. The tables summarizing the changes to our Level 3 assets and liabilities in Footnote No. 5, "Fair Value Measurements," reflect the $20 million in total charges in 2009 on the "Included in earnings" line, which also reflects a partial offset due to other changes in the underlying assumptions that impact the fair value of the residual interests and the cure of the performance triggers in the 2009 second half.
Timeshare Contract Cancellation Allowances
Our financial statements reflect 2009 net contract cancellation allowances of $9 million recorded in anticipation that a portion of contract revenue and costs previously recorded for certain projects under the percentage-of-completion method will not be realized due to contract cancellations prior to closing. We have an equity method investment in one of these projects, and accordingly, we reflected $6 million of the $9 million in the "Equity in (losses) earnings" caption in our Consolidated Statements of Income. The remaining net $3 million of contract cancellation allowances consisted of a reduction in revenue, net of adjustments to product costs and other direct costs and was recorded in Timeshare sales and services revenue, net of direct costs. See the "Contract cancellation allowances" caption in the tables that follow, which includes this net allowance.
Timeshare Software Development Write-off
In 2009, we recorded an impairment of $7 million for the write-off of capitalized software development costs related to a software project. We concluded that continued development of this software was not cost effective given continued cost savings initiatives associated with the challenging business environment and we will instead pursue alternative lower cost solutions.
Summary of Restructuring Costs and Other Charges
The following table summarizes our restructuring costs and other charges we recorded in and through 2009, as well as our remaining liability at year-end 2009:
|
|
