Choice Hotels International, Inc. and Subsidiaries

he Company is one of the largest hotel franchisors in the world with 4,248 hotels open and 761 hotels under development as of December 31, 1999 representing 338,254 rooms open and 64,095 rooms under development in 40 countries. The Company franchises hotels under the Comfort, Quality, Econo Lodge, Sleep Inn, Clarion, Rodeway Inn and MainStay Suites brand names. The Company has over 2,300 franchisees in the franchise system with no single franchisee accounting for more than 5% of its royalty or total revenues. The Company operates in all 50 states and the District of Columbia and 34 additional countries with 95% of its franchising revenue derived from hotels franchised in the United States.

The principal factors that affect the Company’s results are: growth in the number of hotels under franchise; occupancies and room rates achieved by the hotels under franchise; the effective royalty rates achieved; the number and relative mix of franchised hotels; and the Company’s ability to manage costs. The number of rooms at franchised properties and occupancies and room rates at those properties significantly affect the Company’s results because franchise royalty fees are based upon room revenues at franchised hotels. The key industry standard for measuring hotel operating performance is revenue per available room (RevPAR), which is calculated by multiplying the percentage of occupied rooms by the average daily room rate realized. The variable overhead costs associated with franchise system growth are substantially less than incremental royalty fees generated from new franchisees; therefore, the Company is able to capture a significant portion of those royalty fees as operating income.

During 1997, the Company changed its fiscal year end from May 31 to December 31. Accordingly, the following discussion includes a discussion of the results of the seven months ended December 31, 1997, as compared to unaudited results from the comparable seven-month period in 1996.

Comparison of Calendar Year 1999 Operating Results and Calendar Year 1998 Operating Results

The Company recorded net income of $57.2 million for the year ended December 31, 1999 (“Calendar 1999”), an increase of $1.9 million, compared to net income of $55.3 million for the year ended December 31, 1998 (“Calendar 1998”). Net income in Calendar 1998 included a $7.2 million extraordinary gain from the early extinguishment of debt. The increase in net income for Calendar 1999 was primarily attributable to an increase in the effective royalty rates achieved, an increase in franchise revenue as a direct result of improvements in the operating performance of hotels, and the addition of new franchised hotels to the system. Lower net interest costs versus Calendar 1998 also contributed favorably to the Calendar 1999 results.

Summarized financial results for the years ended December 31, 1999 and 1998 are as follows:

Franchise Revenues: Management analyzes its business based on net franchise revenue, which is total revenue excluding product sales and European hotel operations, and franchise operating expenses which are reflected as selling, general and administrative expenses.