Choice Hotels International, Inc. and Subsidiaries

Sales made to franchisees through the Company’s group purchasing program declined $16.8 million to $3.9 million in Calendar 1999 from $20.7 million in Calendar 1998. Similarly, product cost of sales decreased $15.6 million to $3.9 million from Calendar 1998. In the fourth quarter of 1998, the Company discontinued this group purchasing program as previously operated.

European Hotel Operations: In January 1998, Friendly Hotels, PLC (“Friendly”) acquired from the Company ten hotels in France, two in Germany and one in the United Kingdom in exchange for $22.2 million in 5.75% convertible preferred shares in Friendly.

Depreciation and Amortization: Depreciation and amortization increased to $8.0 million in Calendar 1999 from $6.8 million in Calendar 1998. This increase was primarily attributable to new computer systems installations and corporate office renovations.

Interest Expense and Interest and Dividend Income: Interest expense of $19.4 million in Calendar 1999 is up slightly from $19.1 million in Calendar 1998 due to higher interest rates and increased debt financing. Included in Calendar 1999 and Calendar 1998 results is approximately $14.2 million and $10.4 million, respectively, of interest income earned on the note receivable from Sunburst Hospitality Corporation. The Company’s investment in Friendly resulted in $2.2 million and $2.1 million in dividend income in Calendar 1999 and Calendar 1998, respectively.

Extraordinary Item: During 1998, the Company recorded an extraordinary gain from the early extinguishment of debt. The Company retired $13.7 million in debt and removed related assets of $1.8 million from the consolidated balance sheets. The extraordinary gain was $7.2 million, after income tax expense of $4.7 million, or $0.12 per diluted share.

Comparison of Calendar Year 1998 Operating Results and Calendar Year 1997 Operating Results

The Company recorded net income of $55.3 million for the year ended December 31, 1998 (“Calendar 1998”), an increase of $16.6 million compared to net income of $38.7 million for the year ended December 31, 1997 (“Calendar 1997”). The increase in net income for Calendar 1998 was primarily attributable to an increase in franchise revenue as a direct result of the addition of new franchised hotels to the system, improvements in the operating performance of hotels and an increase in the effective royalty rates achieved. Additionally, in Calendar 1998 the Company recognized an extraordinary gain on early extinguishment of debt of $7.2 million.

Summarized financial results for the years ended December 31, 1998 and 1997 are as follows:

Franchise Revenues: Net franchise revenues were $143.6 million for Calendar 1998 and $134.3 million for Calendar 1997. Royalties increased $8.9 million to $115.2 million from $106.3 million in Calendar 1997, an increase of 8.4%. The increase in royalties is attributable to a net increase of 159 franchised hotels during the period representing an additional 10,196 rooms added to the system, an improvement in domestic RevPAR of 2.3% and an increase in the effective royalty rate of the domestic hotel system to 3.6% from 3.5%. Domestic initial fee revenue generated from franchise contracts signed increased 4.0% to $13.1 million from $12.6 million in Calendar 1997. Total franchise agreements signed in Calendar 1998 were 440, up 4.5% from the total contracts