XFRA:MAQ Marriott International Inc Class A Quarterly Report 10-Q Filing - 6/15/2012

Effective Date 6/15/2012

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________________________ 
FORM 10-Q
_______________________________________ 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 15, 2012
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             
Commission File No. 1-13881
_______________________________________ 
MARRIOTT INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
 _______________________________________
Delaware
 
52-2055918
(State or other jurisdiction of
incorporation or organization)
 
(IRS Employer
Identification No.)
 
 
10400 Fernwood Road, Bethesda, Maryland
(Address of principal executive offices)
 
20817
(Zip Code)
(301) 380-3000
(Registrant’s telephone number, including area code) 
_______________________________________
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 (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ý    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer
 
ý
  
Accelerated filer
 
¨
 
 
 
 
Non-accelerated filer
 
¨ (Do not check if a smaller reporting company)
  
Smaller Reporting Company
 
¨
Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  ý
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 322,771,415 shares of Class A Common Stock, par value $0.01 per share, outstanding at June 29, 2012.






MARRIOTT INTERNATIONAL, INC.
FORM 10-Q TABLE OF CONTENTS
 
 
 
Page No.
 
 
 
Part I.
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
 
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Part II.
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 6.
 
 
 
 



1


PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

MARRIOTT INTERNATIONAL, INC. (“MARRIOTT”)
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
($ in millions, except per share amounts)
(Unaudited)
 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
 
June 15,
2012
 
June 17,
2011
 
June 15,
2012
June 17,
2011
REVENUES
 
 
 
 
 
 
Base management fees
$
141

 
$
149

 
$
265

$
283

Franchise fees
145

 
120

 
271

223

Incentive management fees
56

 
50

 
106

92

Owned, leased, corporate housing, and other revenue
264

 
249

 
481

473

Timeshare sales and services

 
288

 

564

Cost reimbursements
2,170

 
2,116

 
4,205

4,115

 
2,776

 
2,972

 
5,328

5,750

OPERATING COSTS AND EXPENSES
 
 
 
 
 
 
Owned, leased, and corporate housing-direct
203

 
220

 
398

424

Timeshare-direct

 
245

 

470

Reimbursed costs
2,170

 
2,116

 
4,205

4,115

General, administrative, and other
160

 
159

 
307

318

 
2,533

 
2,740

 
4,910

5,327

OPERATING INCOME
243

 
232

 
418

423

Gains and other income
5

 
3

 
7

5

Interest expense
(34
)
 
(37
)
 
(67
)
(78
)
Interest income
3

 
3

 
7

7

Equity in losses
(8
)
 

 
(9
)
(4
)
INCOME BEFORE INCOME TAXES
209

 
201

 
356

353

Provision for income taxes
(66
)
 
(66
)
 
(109
)
(117
)
NET INCOME
$
143

 
$
135

 
$
247

$
236

EARNINGS PER SHARE-Basic
 
 
 
 
 
 
Earnings per share
$
0.44

 
$
0.38

 
$
0.75

$
0.65

EARNINGS PER SHARE-Diluted
 
 
 
 
 
 
Earnings per share
$
0.42

 
$
0.37

 
$
0.72

$
0.63

CASH DIVIDENDS DECLARED PER SHARE
$
0.1300

 
$
0.1000

 
$
0.2300

$
0.1875

See Notes to Condensed Consolidated Financial Statements

2


MARRIOTT INTERNATIONAL, INC. (“MARRIOTT”)
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
($ in millions)
(Unaudited)

 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
 
 
June 15,
2012
 
June 17,
2011
 
June 15,
2012
June 17,
2011
Net income
 
$
143

 
$
135

 
$
247

$
236

Other comprehensive income (loss):
 
 
 
 
 
 
 
Foreign currency translation adjustments
 
(17
)
 
10

 
(6
)
15

Other derivative instrument adjustments, net of tax
 
4

 
(13
)
 
1

(14
)
Unrealized gain (loss) on available-for-sale securities, net of tax
 
(3
)
 
(10
)
 
(1
)
(10
)
Reclassification of losses
 
1

 

 
1


Total other comprehensive loss, net of tax
 
(15
)
 
(13
)
 
(5
)
(9
)
Comprehensive income
 
$
128

 
$
122

 
$
242

$
227


See Notes to Condensed Consolidated Financial Statements


3


MARRIOTT INTERNATIONAL, INC. (“MARRIOTT”)
CONDENSED CONSOLIDATED BALANCE SHEETS
($ in millions)
 
 
(Unaudited)
 
 
 
June 15,
2012
 
December 30,
2011
ASSETS
 
 
 
Current assets
 
 
 
Cash and equivalents
$
105

 
$
102

Accounts and notes receivable
939

 
875

Inventory
12

 
11

Current deferred taxes, net
181

 
282

Prepaid expenses
48

 
54

Other
70

 

 
1,355

 
1,324

Property and equipment
1,383

 
1,168

Intangible assets
 
 
 
Goodwill
874

 
875

Contract acquisition costs and other
846

 
846

 
1,720

 
1,721

Equity and cost method investments
223

 
265

Notes receivable
197

 
298

Deferred taxes, net
846

 
873

Other
283

 
261

 
$
6,007

 
$
5,910

LIABILITIES AND SHAREHOLDERS’ EQUITY
 
 
 
Current liabilities
 
 
 
Current portion of long-term debt
$
407

 
$
355

Accounts payable
592

 
548

Accrued payroll and benefits
633

 
650

Liability for guest loyalty program
508

 
514

Other
502

 
491

 
2,642

 
2,558

Long-term debt
2,153

 
1,816

Liability for guest loyalty program
1,468

 
1,434

Other long-term liabilities
868

 
883

Marriott shareholders’ equity
 
 
 
Class A Common Stock
5

 
5

Additional paid-in-capital
2,464

 
2,513

Retained earnings
3,335

 
3,212

Treasury stock, at cost
(6,875
)
 
(6,463
)
Accumulated other comprehensive loss
(53
)
 
(48
)
 
(1,124
)
 
(781
)
 
$
6,007

 
$
5,910


See Notes to Condensed Consolidated Financial Statements

4


MARRIOTT INTERNATIONAL, INC. (“MARRIOTT”)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
($ in millions)
(Unaudited)
 
 
Twenty-Four Weeks Ended
 
June 15,
2012
 
June 17,
2011
OPERATING ACTIVITIES
 
 
 
Net income
$
247

 
$
236

Adjustments to reconcile to cash provided by operating activities:
 
 
 
Depreciation and amortization
67

 
76

Income taxes
113

 
74

Timeshare activity, net

 
113

Liability for guest loyalty program
21

 
35

Restructuring costs, net

 
(4
)
Asset impairments and write-offs
4

 
5

Working capital changes and other
(35
)
 
(54
)
Net cash provided by operating activities
417

 
481

INVESTING ACTIVITIES
 
 
 
Capital expenditures
(257
)
 
(91
)
Dispositions
4

 

Loan advances
(2
)
 
(11
)
Loan collections and sales
106

 
88

Equity and cost method investments
(12
)
 
(70
)
Contract acquisition costs
(19
)
 
(47
)
Other
(39
)
 
(95
)
Net cash used in investing activities
(219
)
 
(226
)
FINANCING ACTIVITIES
 
 
 
Commercial paper/credit facility, net
147

 
156

Issuance of long-term debt
590

 

Repayment of long-term debt
(352
)
 
(129
)
Issuance of Class A Common Stock
48

 
62

Dividends paid
(67
)
 
(64
)
Purchase of treasury stock
(550
)
 
(668
)
Other financing activities
(11
)
 

Net cash used in financing activities
(195
)
 
(643
)
INCREASE (DECREASE) IN CASH AND EQUIVALENTS
3

 
(388
)
CASH AND EQUIVALENTS, beginning of period
102

 
505

CASH AND EQUIVALENTS, end of period
$
105

 
$
117

See Notes to Condensed Consolidated Financial Statements


5


MARRIOTT INTERNATIONAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
1.
Basis of Presentation
The condensed consolidated financial statements present the results of operations, financial position, and cash flows of Marriott International, Inc. (“Marriott,” and together with its subsidiaries “we,” “us,” or the “Company”). In order to make this report easier to read, we refer throughout to (i) our Condensed Consolidated Financial Statements as our “Financial Statements,” (ii) our Condensed Consolidated Statements of Income as our “Income Statements,” (iii) our Condensed Consolidated Balance Sheets as our “Balance Sheets,” (iv) our properties, brands, or markets in the United States and Canada as “North America” or “North American,” and (v) our properties, brands, or markets outside of the United States and Canada as “international.”
On November 21, 2011 ("the spin-off date"), we completed a spin-off of our timeshare operations and timeshare development business through a special tax-free dividend to our shareholders of all of the issued and outstanding common stock (the "spin-off") of our wholly owned subsidiary Marriott Vacations Worldwide Corporation ("MVW"). Because of our significant continuing involvement in MVW operations after the spin-off (by virtue of license and other agreements between us and MVW), we continue to include the historical financial results before the spin-off date of our former Timeshare segment in our historical financial results as a component of continuing operations. See Footnote No. 16, "Spin-off" of the Notes to our Financial Statements in this Form 10-Q for more information on the spin-off.
These condensed consolidated financial statements have not been audited. We have condensed or omitted certain information and footnote disclosures normally included in financial statements presented in accordance with U.S. generally accepted accounting principles (“GAAP”). Although we believe our disclosures are adequate to make the information presented not misleading, you should read the financial statements in this report in conjunction with the consolidated financial statements and notes to those financial statements in our Annual Report on Form 10-K for the fiscal year ended December 30, 2011, (“2011 Form 10-K”). Certain terms not otherwise defined in this Form 10-Q have the meanings specified in our 2011 Form 10-K.
Preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the financial statements, the reported amounts of revenues and expenses during the reporting periods, and the disclosures of contingent liabilities. Accordingly, ultimate results could differ from those estimates.
Our 2012 second quarter ended on June 15, 2012; our 2011 fourth quarter ended on December 30, 2011; and our 2011 second quarter ended on June 17, 2011. In our opinion, our financial statements reflect all normal and recurring adjustments necessary to present fairly our financial position as of June 15, 2012, and December 30, 2011, the results of our operations for the twelve and twenty-four weeks ended June 15, 2012, and June 17, 2011, and cash flows for the twenty-four weeks ended June 15, 2012, and June 17, 2011. Interim results may not be indicative of fiscal year performance because of seasonal and short-term variations. We have eliminated all material intercompany transactions and balances between entities consolidated in these financial statements.
Restricted Cash
Restricted cash in our Balance Sheets at the end of the 2012 second quarter and year-end 2011 is recorded as $24 million and zero, respectively, in the “Other current assets” line and $19 million and $16 million, respectively, in the “Other long-term assets” line. Restricted cash primarily consists of cash held internationally that we have not repatriated due to statutory, tax and currency risks.

2.
New Accounting Standards
Accounting Standards Update No. 2011-04 – “Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs” (“ASU No. 2011-04”)
We adopted ASU No. 2011-04 in the 2012 first quarter which generally provides a uniform framework for fair

6


value measurements and related disclosures between GAAP and International Financial Reporting Standards (“IFRS”). Additional disclosure requirements in the update include: (1) for Level 3 fair value measurements, quantitative information about unobservable inputs used, a description of the valuation processes used by the entity, and a qualitative discussion about the sensitivity of the measurements to changes in the unobservable inputs; (2) for an entity’s use of a nonfinancial asset that is different from the asset’s highest and best use, the reason for the difference; (3) for financial instruments not measured at fair value but for which disclosure of fair value is required, the fair value hierarchy level in which the fair value measurements were determined; and (4) the disclosure of all transfers between Level 1 and Level 2 of the fair value hierarchy. The adoption of this update did not have a material impact on our financial statements.
See the “Fair Value Measurements” caption of Footnote No. 1, “Summary of Significant Accounting Policies” of our 2011 Form 10-K for more information on the three levels of fair value measurements.
Accounting Standards Update No. 2011-05 – “Comprehensive Income (Topic 220): Presentation of Comprehensive Income” (“ASU No. 2011-05”) and Accounting Standards Update No. 2011-12 - "Comprehensive Income (Topic 220): Deferral of the Effective Date for Amendments to the Presentation of Reclassification of Items Out of Accumulated Other Comprehensive Income in ASU No. 2011-05" ("ASU No. 2011-12")
We adopted ASU No. 2011-05 in the 2012 first quarter which amends existing guidance by allowing only two options for presenting the components of net income and other comprehensive income: (1) in a single continuous financial statement, a statement of comprehensive income or (2) in two separate but consecutive financial statements, an income statement followed by a separate statement of other comprehensive income. We also adopted ASU No. 2011-12 which defers until further notice ASU No. 2011-05's requirement that items that are reclassified from other comprehensive income to net income be presented on the face of the financial statements. ASU No. 2011-05 required retrospective application. The adoption of these updates changed the order in which we presented certain financial statements, but did not have any other impact on our financial statements.

3.
Income Taxes
We file income tax returns, including returns for our subsidiaries, in various jurisdictions around the world. The Internal Revenue Service ("IRS") has examined our federal income tax returns, and we have settled all issues for tax years through 2009. We participated in the IRS Compliance Assurance Program ("CAP") for the 2010 tax year and all but one issue, which we anticipate appealing, are resolved. We participated in CAP for the 2011 tax year, and are participating in CAP for 2012. This program accelerates the examination of key transactions with the goal of resolving any issues before the tax return is filed. Various income tax returns are also under examination by foreign, state and local taxing authorities.
Our unrecognized tax benefits of $40 million at the end of the 2012 second quarter remained unchanged from the balance at the end of the 2012 first quarter. For the first half of 2012, we increased unrecognized tax benefits by $1 million from $39 million at year-end 2011 primarily due to new information related to federal and state tax issues. The unrecognized tax benefits balance of $40 million at the end of the 2012 second quarter included $24 million of tax positions that, if recognized, would impact our effective tax rate.
We recorded a net $16 million adjustment in the first half of 2012 to reduce shareholders' equity, primarily as a result of additional MVW spin-off adjustments reducing tax benefits to be recognized on the disposition of the timeshare business.
As a large taxpayer, the IRS and other taxing authorities continually audit us. Although we do not anticipate that a significant impact to our unrecognized tax benefit balance will occur during the next 52 weeks as a result of these audits, it remains possible that the amount of our liability for unrecognized tax benefits could change over that time period.

4.
Share-Based Compensation
Under our 2002 Comprehensive Stock and Cash Incentive Plan (the “Comprehensive Plan”), we award: (1) stock options to purchase our Class A Common Stock (“Stock Option Program”); (2) stock appreciation rights (“SARs”) for our Class A Common Stock (“SAR Program”); (3) restricted stock units (“RSUs”) of our Class A

7


Common Stock; and (4) deferred stock units. We grant awards at exercise prices or strike prices equal to the market price of our Class A Common Stock on the date of grant.

We recorded share-based compensation expense related to award grants of $19 million and $22 million for the twelve weeks ended June 15, 2012 and June 17, 2011, respectively, and $38 million and $43 million for the twenty-four weeks ended June 15, 2012 and June 17, 2011, respectively. Deferred compensation costs related to unvested awards totaled $163 million and $101 million at June 15, 2012 and December 30, 2011, respectively.
RSUs
We granted 2.8 million RSUs during the first half of 2012 to certain officers and key employees, and those units vest generally over four years in equal annual installments commencing one year after the date of grant. RSUs granted in the first half of 2012 had a weighted average grant-date fair value of $35.
SARs and Stock Options
We granted 1.1 million SARs to officers, key employees, and directors during the first half of 2012. These SARs generally expire ten years after the date of grant and both vest and may be exercised in cumulative installments of one quarter at the end of each of the first four years following the date of grant. The weighted average grant-date fair value of SARs granted in the 2012 first half was $12 and the weighted average exercise price was $35.

We granted 0.3 million stock options to officers and key employees during the first half of 2012. These stock options expire ten years after the date of grant and generally vest and may be exercised in cumulative installments of one quarter at the end of each of the first four years following the date of grant. The weighted average grant-date fair value of stock options granted in the 2012 first half was $12 and the weighted average exercise price was $35.

On the grant date, we use a binomial lattice-based valuation model to estimate the fair value of each SAR and option granted. This valuation model uses a range of possible stock price outcomes over the term of the SAR and option, discounted back to a present value using a risk-free rate. Because of the limitations with closed-form valuation models, such as the Black-Scholes model, we have determined that a more flexible binomial model provides a better estimate of the fair value of our options and SARs because it takes into account employee exercise behavior based on changes in the price of our stock and allows for the use of other dynamic assumptions.

We used the following assumptions to determine the fair value of the SARs and stock options granted during the first half of 2012.
 
Expected volatility
31
%
Dividend yield
1.01
%
Risk-free rate
1.9 - 2.0%

Expected term (in years)
8 - 10


In making these assumptions, we base expected volatility on the weighted-average historical stock volatility. We base risk-free rates on the corresponding U.S. Treasury spot rates for the expected duration at the date of grant, which we convert to a continuously compounded rate. The dividend yield assumption takes into consideration both historical levels and expectations of future payout. The weighted average expected terms for SARs and options are an output of our valuation model which utilizes historical data in estimating the period of time that the SARs and options are expected to remain unexercised. We calculate the expected terms for SARs and options for separate groups of retirement eligible and non-retirement eligible employees. Our valuation model also uses historical data to estimate exercise behaviors, which includes determining the likelihood that employees will exercise their SARs and options before expiration at a certain multiple of stock price to exercise price.


8


Other Information

At the end of the 2012 second quarter, we reserved 44 million shares under the Comprehensive Plan, including 21 million shares under the Stock Option Program and the SAR Program.

5.
Fair Value of Financial Instruments
We believe that the fair values of our current assets and current liabilities approximate their reported carrying amounts. We show the carrying values and the fair values of non-current financial assets and liabilities that qualify as financial instruments, determined in accordance with current guidance for disclosures on the fair value of financial instruments, in the following table.
 
 
At June 15, 2012
 
At Year-End 2011
($ in millions)
Carrying
Amount
 
Fair Value
 
Carrying
Amount
 
Fair Value
Cost method investments
$
31

 
$
26

 
$
31

 
$
25

Senior, mezzanine, and other loans
197

 
190

 
298

 
252

Restricted cash
19

 
19

 
16

 
16

Marketable securities
54

 
54

 
50

 
50

 
 
 
 
 
 
 
 
Total long-term financial assets
$
301

 
$
289

 
$
395

 
$
343

Senior Notes
(1,483
)
 
(1,630
)
 
(1,286
)
 
(1,412
)
Commercial paper
(478
)
 
(478
)
 
(331
)
 
(331
)
Other long-term debt
(133
)
 
(139
)
 
(137
)
 
(137
)
Other long-term liabilities
(74
)
 
(74
)
 
(77
)
 
(77
)
 
 
 
 
 
 
 
 
Total long-term financial liabilities
$
(2,168
)
 
$
(2,321
)
 
$
(1,831
)
 
$
(1,957
)
We estimate the fair value of our senior, mezzanine, and other loans by discounting cash flows using risk-adjusted rates, both of which are Level 3 inputs. We estimate the fair value of our cost method investments by applying a cap rate to stabilized earnings (a market approach using Level 3 inputs). The carrying value of our restricted cash approximates its fair value.
We are required to carry our marketable securities at fair value. We value these securities using directly observable Level 1 inputs. The carrying value of our marketable securities at the end of our 2012 second quarter was $54 million, which included debt securities of the U.S. Government, its sponsored agencies and other U.S. corporations invested for our self-insurance programs as well as shares of a publicly traded company.
We estimate the fair value of our other long-term debt, excluding leases, using expected future payments discounted at risk-adjusted rates, both of which are Level 3 inputs. We determine the fair value of our senior notes using quoted market prices, which are directly observable Level 1 inputs. At year-end 2011 and the end of the 2012 second quarter, the carrying value of our commercial paper approximated its fair value due to the short maturity. Other long-term liabilities primarily consist of guarantee costs, reserves and deposit liabilities. The carrying values of our guarantee costs, reserves and deposit liabilities approximate their fair values.
See the “Fair Value Measurements” caption of Footnote No. 1, “Summary of Significant Accounting Policies” of our 2011 Form 10-K for more information.

6.
Earnings Per Share
The table below illustrates the reconciliation of the earnings and number of shares used in our calculations of basic and diluted earnings per share.
 

9


 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
 
 
June 15,
2012
 
June 17,
2011
 
June 15,
2012
June 17,
2011
(in millions, except per share amounts)
 
 
 
 
 
 
 
Computation of Basic Earnings Per Share
 
 
 
 
 
 
 
Net income
 
$
143

 
$
135

 
$
247

$
236

Weighted average shares outstanding
 
327.9

 
356.9

 
330.8

362.0

Basic earnings per share
 
$
0.44

 
$
0.38

 
$
0.75

$
0.65

Computation of Diluted Earnings Per Share
 
 
 
 
 
 
 
Net income
 
$
143

 
$
135

 
$
247

$
236

Weighted average shares outstanding
 
327.9

 
356.9

 
330.8

362.0

Effect of dilutive securities
 
 
 
 
 
 
 
Employee stock option and SARs plans
 
6.6

 
9.1

 
6.7

9.8

Deferred stock incentive plans
 
0.8

 
0.9

 
0.9

0.9

Restricted stock units
 
2.7

 
2.5

 
3.1

3.2

Shares for diluted earnings per share
 
338.0

 
369.4

 
341.5

375.9

Diluted earnings per share
 
$
0.42

 
$
0.37

 
$
0.72

$
0.63


We compute the effect of dilutive securities using the treasury stock method and average market prices during the period. We determine dilution based on earnings.
In accordance with the applicable accounting guidance for calculating earnings per share, we have not included the following stock options and SARs in our calculation of diluted earnings per share because the exercise prices were greater than the average market prices for the applicable periods:
(a)
for the twelve-week period ended June 15, 2012, 1.0 million options and SARs;
(b)
for the twelve-week period ended June 17, 2011, 1.0 million options and SARs;
(c)
for the twenty-four week period ended June 15, 2012, 1.0 million options and SARs; and
(d)
for the twenty-four week period ended June 17, 2011, 1.0 million options and SARs.

7.
Inventory
Inventory, totaling $12 million as of June 15, 2012 and $11 million as of December 30, 2011, primarily consists of hotel operating supplies for the limited number of properties we own or lease.

8.
Property and Equipment
We show the composition of our property and equipment balances in the following table:
 
($ in millions)
June 15,
2012
 
December 30,
2011
Land
$
552

 
$
454

Buildings and leasehold improvements
679

 
667

Furniture and equipment
824

 
810

Construction in progress
288

 
164

 
2,343

 
2,095

Accumulated depreciation
(960
)
 
(927
)
 
$
1,383

 
$
1,168


In the following table, we show the composition of our assets recorded under capital leases, which we have included in our property and equipment total balances in the preceding table:

10


($ in millions)
June 15,
2012
 
December 30,
2011
Land
$
29

 
$
30

Buildings and leasehold improvements
136

 
128

Furniture and equipment
36

 
34

Construction in progress
2

 
3

 
203

 
195

Accumulated depreciation
(78
)
 
(76
)
 
$
125

 
$
119


9.
Notes Receivable
We show the composition of our notes receivable balances (net of reserves and unamortized discounts) in the following table:
 
($ in millions)
June 15,
2012
 
December 30,
2011
Senior, mezzanine, and other loans
$
275

 
$
382

Less current portion
(78
)
 
(84
)
 
$
197

 
$
298

We classify notes receivable due within one year as current assets in the caption “Accounts and notes receivable” in our Balance Sheets. We show the composition of our long-term notes receivable balances (net of reserves and unamortized discounts) in the following table:
 
($ in millions)
June 15,
2012
 
December 30,
2011
Loans to equity method investees
$

 
$
2

Other notes receivable
197

 
296

 
$
197

 
$
298


The following tables show future principal payments (net of reserves and unamortized discounts) as well as interest rates, and unamortized discounts for our notes receivable.
Notes Receivable Principal Payments (net of reserves and unamortized discounts) and Interest Rates
 
($ in millions)
 
Amount
2012
 
$
49

2013
 
57

2014
 
44

2015
 
55

2016
 

Thereafter
 
70

Balance at June 15, 2012
 
$
275

Weighted average interest rate at June 15, 2012
 
4.9
%
Range of stated interest rates at June 15, 2012
 
0 to 12.7%






11


Notes Receivable Unamortized Discounts
 
($ in millions)
 
Total
Balance at year-end 2011
 
$
12

Balance at June 15, 2012
 
$
13


At the end of the 2012 second quarter, our recorded investment in impaired “Senior, mezzanine, and other loans” was $102 million. We had an $88 million notes receivable reserve representing an allowance for credit losses, leaving $14 million of our investment in impaired loans, for which we had no related allowance for credit losses. At year-end 2011, our recorded investment in impaired “Senior, mezzanine, and other loans” was $96 million, and we had a $78 million notes receivable reserve representing an allowance for credit losses, leaving $18 million of our investment in impaired loans, for which we had no related allowance for credit losses. During the 2012 first half and full fiscal year 2011, our average investment in impaired “Senior, mezzanine, and other loans” totaled $99 million and $89 million, respectively.
The following table summarizes the activity related to our “Senior, mezzanine, and other loans” notes receivable reserve for the first half of 2012:
 
($ in millions)
Notes  Receivable
Reserve
Balance at year-end 2011
$
78

Additions
2

Reversals
(1
)
Write-offs
(1
)
Transfers and other
10

Balance at June 15, 2012
$
88

At the end of the 2012 second quarter, past due senior, mezzanine, and other loans totaled $7 million.

10.
Long-term Debt
We provide detail on our long-term debt balances in the following table:
 
($ in millions)
June 15,
2012
 
December 30,
2011
Senior Notes:
 
 
 
Series F, matured June 15, 2012
$

 
$
348

Series G, interest rate of 5.810%, face amount of $316, maturing November 10, 2015 (effective interest rate of 6.51%)(1)
308

 
307

Series H, interest rate of 6.200%, face amount of $289, maturing June 15, 2016 (effective interest rate of 6.27%)(1)
289

 
289

Series I, interest rate of 6.375%, face amount of $293, maturing June 15, 2017 (effective interest rate of 6.42%)(1)
292

 
291

Series J, interest rate of 5.625%, face amount of $400, maturing February 15, 2013 (effective interest rate of 5.68%)(1)
399

 
399

Series K, interest rate of 3.000%, face amount of $600, maturing March 1, 2019 (effective interest rate of 4.08%)(1)
594

 

Commercial paper, average interest rate of 0.4386% at June 15, 2012
478

 
331

$1,750 Credit Facility

 

Other
200

 
206

 
2,560

 
2,171

Less current portion
(407
)
 
(355
)
 
$
2,153

 
$
1,816

 

12


(1) 
Face amount and effective interest rate are as of June 15, 2012.
All of our long-term debt was, and to the extent currently outstanding is, recourse to us but unsecured. Other debt in the preceding table includes capital leases, among other items.
In the first quarter of 2012, we issued $600 million aggregate principal amount of 3.000 percent Series K Notes due 2019 (the "Notes"), completed in two offerings: (1) $400 million aggregate principal amount which closed on February 27, 2012 and (2) $200 million aggregate principal amount which closed on March 14, 2012. We received total net proceeds of approximately $590 million from these offerings, after deducting underwriting discounts and estimated expenses. We expect to use the proceeds for general corporate purposes, which may include working capital, capital expenditures, acquisitions, stock repurchases, or repayment of commercial paper borrowings as they become due.
We will pay interest on the Notes on March 1 and September 1 of each year, commencing on September 1, 2012. The Notes will mature on March 1, 2019, and we may redeem them, in whole or in part, at our option, under the terms provided in the form of Note. We issued the Notes under an indenture dated as of November 16, 1998 with The Bank of New York Mellon, as successor to JPMorgan Chase Bank, N.A. (formerly known as The Chase Manhattan Bank), as trustee.
At end of the second quarter of 2012, we made a $356 million cash payment of principal and interest to retire, at maturity, all of our outstanding Series F Senior Notes.

We are party to a multicurrency revolving credit agreement (the “Credit Facility”) that provides for $1.75 billion of aggregate borrowings to support general corporate needs, including working capital, capital expenditures, and letters of credit. The Credit Facility expires on June 23, 2016. The availability of the Credit Facility also supports our commercial paper program. Borrowings under the Credit Facility bear interest at LIBOR (the London Interbank Offered Rate) plus a spread, based on our public debt rating. We also pay quarterly fees on the Credit Facility at a rate also based on our public debt rating. While any outstanding commercial paper borrowings and/or borrowings under our Credit Facility generally have short-term maturities, we classify the outstanding borrowings as long-term based on our ability and intent to refinance the outstanding borrowings on a long-term basis.
We show future principal payments (net of unamortized discounts) and unamortized discounts for our debt in the following tables:
Debt Principal Payments (net of unamortized discounts)
 
($ in millions)
 
Amount
2012
 
$
4

2013
 
408

2014
 
59

2015
 
315

2016
 
775

Thereafter
 
999

Balance at June 15, 2012
 
$
2,560

Unamortized Debt Discounts
 
($ in millions)
 
Amount
Balance at year-end 2011
 
$
12

Balance at June 15, 2012
 
$
17

We paid cash for interest, net of amounts capitalized, of $44 million in the first half of 2012 and $65 million in the first half of 2011.

13



11.
Capital Structure

The following table details changes in shareholders’ equity.
 
(in millions, except per share amounts)
 
 
Common
Shares
Outstanding
 
 
Total
 
Class A
Common
Stock
 
Additional
Paid-in-
Capital
 
Retained
Earnings
 
Treasury Stock,
at Cost
 
Accumulated
Other
Comprehensive
Loss
333.0

 
Balance at year-end 2011
$
(781
)
 
$
5

 
$
2,513

 
$
3,212

 
$
(6,463
)
 
$
(48
)

 
Net income
247

 

 

 
247

 

 


 
Other comprehensive loss
(5
)
 

 

 

 

 
(5
)

 
Cash dividends ($0.2300 per share)
(76
)
 

 

 
(76
)
 

 

4.4

 
Employee stock plan issuance
57

 

 
(33
)
 
(48
)
 
138

 

(14.7
)
 
Purchase of treasury stock
(550
)
 

 

 

 
(550
)
 


 
Spin-off of MVW adjustment
(16
)
 

 
(16
)
 

 

 

322.7

 
Balance at June 15, 2012
$
(1,124
)
 
$
5

 
$
2,464

 
$
3,335

 
$
(6,875
)
 
$
(53
)

12.
Contingencies
Guarantees
We issue guarantees to certain lenders and hotel owners, primarily to obtain long-term management contracts. The guarantees generally have a stated maximum amount of funding and a term of four to ten years. The terms of guarantees to lenders generally require us to fund if cash flows from hotel operations are inadequate to cover annual debt service or to repay the loan at the end of the term. The terms of the guarantees to hotel owners generally require us to fund if the hotels do not attain specified levels of operating profit. Guarantee fundings to lenders and hotel owners are generally recoverable as loans repayable to us out of future hotel cash flows and/or proceeds from the sale of hotels. We also enter into project completion guarantees with certain lenders in conjunction with hotels that we or our joint venture partners are building.
We show the maximum potential amount of future fundings and the carrying amount of the liability for guarantees at June 15, 2012 for which we are the primary obligor in the following table.
 
($ in millions)
Guarantee Type
Maximum Potential
Amount  of Future Fundings

 
Liability for  Guarantees
Debt service
$
107

 
$
10

Operating profit
102

 
43

Other
15

 
3

Total guarantees where we are the primary obligor
$
224

 
$
56

   
We included our liability for guarantees at June 15, 2012 for which we are the primary obligor in our Balance Sheet as follows: $9 million in the “Other current liabilities” and $47 million in the “Other long-term liabilities.”
Our guarantees listed in the preceding table include $34 million of debt service guarantees that will not be in effect until the underlying properties open and we begin to operate the properties or certain other events occur.
The guarantees in the preceding table do not include the following:
$154 million of guarantees related to Senior Living Services lease obligations of $118 million (expiring in 2018) and lifecare bonds of $36 million (estimated to expire in 2016), for which we are secondarily liable. Sunrise Senior Living, Inc. (“Sunrise”) is the primary obligor on both the leases and $6 million of the lifecare bonds; Health Care Property Investors, Inc., as successor by merger to CNL Retirement Properties, Inc. (“CNL”), is the primary obligor on $29 million of the lifecare bonds, and Five Star Senior Living is the primary obligor on the remaining $1 million of lifecare bonds.

14


Before we sold the Senior Living Services business in 2003, these were our guarantees of obligations of our then consolidated Senior Living Services subsidiaries. Sunrise and CNL have indemnified us for any fundings we may be called upon to make under these guarantees. Our liability associated with these guarantees had a carrying value of $3 million at June 15, 2012. In 2011 Sunrise provided us $3 million cash collateral to cover potential exposure under the existing lease and bond obligations for 2012 and 2013. In conjunction with our consent of the extension in 2011 of certain lease obligations for an additional five-year term until 2018, Sunrise provided us an additional $1 million cash collateral and an $85 million letter of credit issued by Key Bank to secure our exposure under the lease guarantees for the continuing leases during the extension term and certain other obligations of Sunrise. During the extension term, Sunrise agreed to make an annual payment to us with respect to the cash flow of the continuing lease facilities, subject to a $1 million annual minimum.
Lease obligations, for which we became secondarily liable when we acquired the Renaissance Hotel Group N.V. in 1997, consisting of annual rent payments of approximately $6 million and total remaining rent payments through the initial term of approximately $40 million. Most of these obligations expire by the end of 2020. CTF Holdings Ltd. (“CTF”) had originally provided €35 million in cash collateral in the event that we are required to fund under such guarantees, approximately $5 million (€4 million) of which remained at June 15, 2012. Our exposure for the remaining rent payments through the initial term will decline to the extent that CTF obtains releases from the landlords or these hotels exit the system. Since the time we assumed these guarantees, we have not funded any amounts, and we do not expect to fund any amounts under these guarantees in the future.
Certain guarantees and commitments relating to the timeshare business, which were outstanding at the time of the 2011 Timeshare spin-off and for which we became secondarily liable as part of the spin-off. These MVW payment obligations, for which we currently have a total exposure of $32 million, relate to a project completion guarantee, various letters of credit, and several guarantees. MVW has indemnified us for these obligations. Most of the obligations expire in 2012, 2013, and 2014, except for one guarantee in the amount of $20 million (Singapore Dollars 26 million) that expires in 2022. We have not funded any amounts under these obligations, and do not expect to do so in the future. Our liability for these obligations had a carrying value of $2 million at June 15, 2012. See Footnote No. 16 "Spin-off" of the Notes to our Financial Statements in this Form 10-Q for more information on the spin-off of our timeshare operations and timeshare development business.
A recoverable $69 million operating profit guarantee, originally entered into in 2000, for which we became secondarily liable in the 2012 first quarter upon the restructuring of agreements for certain Ritz-Carlton properties. The operating profit guarantee for which we became secondarily liable in the 2012 first quarter obligates us to fund up to $69 million and was, at year-end 2011, a $69 million guarantee obligation for which we were the primary obligor and had fully funded. During the 2012 first quarter, we were repaid for the $69 million note receivable plus interest for the guarantee fundings. In the 2012 first quarter, we entered into an agreement with an entity with a net worth of approximately $1 billion (the "Entity"), whereby the Entity agreed to immediately reimburse us for any fundings under the operating profit guarantee. The Entity is obligated to maintain certain liquidity and net worth covenants in support of this obligation to us. Most of this operating profit guarantee and corresponding Entity guarantee to us will expire in 2014 with a final expiration in 2016.
A project completion guarantee that we provided to a lender for a joint venture project with an estimated aggregate total cost of $495 million (Canadian $510 million). The associated joint venture will satisfy payments for cost overruns for this project through contributions from the partners or from borrowings, and we are liable on a several basis with our partners in an amount equal to our 20 percent pro rata ownership in the joint venture. In 2010, our partners executed documents indemnifying us for any payments that may be required for this guarantee obligation. Our liability associated with this project completion guarantee had a carrying value of $3 million at June 15, 2012.
A guarantee related to a lease, originally entered into in 2000, for which we became secondarily liable

15


in the 2012 second quarter as a result of the sale of the ExecuStay corporate housing business to Oakwood. Oakwood has indemnified us for the obligations under this guarantee. Our total exposure at the end of the 2012 second quarter for this guarantee is $11 million in future rent payments if the lease is terminated through 2013 and will be reduced to $6 million if the lease is terminated from 2014 through the end of the lease in 2019. Our liability associated with this guarantee had a carrying value of $1 million at June 15, 2012.
In addition to the guarantees described in the preceding paragraphs, in conjunction with financing obtained for specific projects or properties owned by joint ventures in which we are a party, we may provide industry standard indemnifications to the lender for loss, liability, or damage occurring as a result of the actions of the other joint venture owner or our own actions.
Commitments and Letters of Credit
In addition to the guarantees noted in the preceding paragraphs, as of June 15, 2012, we had the following commitments outstanding:
A commitment to invest up to $7 million of equity for noncontrolling interests in partnerships that plan to purchase North American full-service and limited-service properties, or purchase or develop hotel-anchored mixed-use real estate projects. We expect to fund this commitment within two years.
A commitment to invest up to $24 million of equity for noncontrolling interests in partnerships that plan to develop limited-service properties. We expect to fund $21 million of this commitment within two years. We do not expect to fund the remaining $3 million of this commitment.
Several commitments aggregating $32 million with no expiration date and which we do not expect to fund.
A commitment, with no expiration date, to invest up to $11 million in a joint venture for development of a new property that we expect to fund within two years, as follows: $9 million in 2012 and $2 million in 2013.
$3 million of loan commitments that we have extended to owners of lodging properties. We do not expect to fund these commitments, $2 million of which will expire within three years and $1 million will expire after five years.
We have a right and under certain circumstances an obligation to acquire our joint venture partner’s remaining 50 percent interest in two joint ventures over the next nine years at a price based on the performance of the ventures. We made a $12 million (€9 million) deposit in conjunction with this contingent obligation in 2011, a $4 million (€3 million) deposit in the second quarter of 2012, and the final deposit of $4 million (€3 million) after the second quarter of 2012. The deposits are refundable to the extent we do not acquire our joint venture partner’s remaining interests.
We have a right and under certain circumstances an obligation to acquire the landlord’s interest in the real estate property and attached assets of a hotel that we lease for approximately $56 million (€45 million) during the next two years.
Various commitments for the purchase of information technology hardware, software, and maintenance services in the normal course of business totaling $74 million. We expect to fund these commitments within three years as follows: $23 million in 2012, $48 million in 2013, and $3 million in 2014.
At June 15, 2012, we had $64 million of letters of credit outstanding ($63 million outside the Credit Facility and approximately $1 million under our Credit Facility), the majority of which related to our self-insurance programs. Surety bonds issued as of June 15, 2012, totaled $110 million, the majority of which federal, state and local governments requested in connection with our lodging operations and self-insurance programs.

16


Legal Proceedings
On January 19, 2010, several former Marriott employees (the "plaintiffs") filed a putative class action complaint against us and the Stock Plan (the "defendants"), alleging that certain equity awards of deferred bonus stock granted to the plaintiffs and other current and former employees for fiscal years 1963 through 1989 are subject to vesting requirements under the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), that are in certain circumstances more rapid than those set forth in the awards, various other purported ERISA violations, and various breaches of contract in connection with the awards. The plaintiffs seek damages, class attorneys' fees and interest, with no amounts specified. The action is proceeding in the United States District Court for the District of Maryland (Greenbelt Division) and Robert J. England, Dennis Walter Bond Sr. and Michael P. Steigman are the current named plaintiffs. The parties currently are engaged in limited discovery concerning the issues of statute of limitations and class certification. We anticipate filing a motion for summary judgment in the fall of 2012. We and the Stock Plan have denied all liability, and while we intend to vigorously defend against the claims being made by the plaintiffs, we can give you no assurance about the outcome of this lawsuit. We currently cannot estimate the range of any possible loss to the Company because an amount of damages is not claimed, there is uncertainty as to whether a class will be certified and if so as to the size of the class, and the possibility of our prevailing on our statute of limitations defense may significantly limit any claims for damages.
In March 2012, the Korea Fair Trade Commission ("KFTC") obtained documents from two of our managed hotels in Seoul, Korea in connection with an investigation which we believe is focused on pricing of hotel services within the Seoul region. We understand that the KFTC also has sought documents from approximately ten other hotels in the Seoul region that we do not operate, own or franchise. We have not yet received a complaint or other legal process. We are cooperating with this investigation.

13.
Business Segments
We are a diversified lodging company with operations in four business segments:
North American Full-Service Lodging, which includes the Marriott Hotels & Resorts, Marriott Conference Centers, JW Marriott, Renaissance Hotels, Renaissance ClubSport, and Autograph Collection properties located in the United States and Canada;
North American Limited-Service Lodging, which includes the Courtyard, Fairfield Inn & Suites, SpringHill Suites, Residence Inn, and TownePlace Suites properties located in the United States and Canada, and, before its sale in the 2012 second quarter, our Marriott ExecuStay corporate housing business;
International Lodging, which includes the Marriott Hotels & Resorts, JW Marriott, Renaissance Hotels, Autograph Collection, Courtyard, AC Hotels by Marriott, Fairfield Inn & Suites, Residence Inn, and Marriott Executive Apartments properties located outside the United States and Canada; and
Luxury Lodging, which includes The Ritz-Carlton, Bulgari Hotels & Resorts, and EDITION properties worldwide (together with residential properties associated with some Ritz-Carlton hotels).

In addition, before the spin-off, our former Timeshare segment consisted of the timeshare operations and timeshare development business that we transferred to MVW in conjunction with the spin-off. Our former Timeshare segment's historical financial results for periods before the spin-off date continue to be included in our historical financial results as a component of continuing operations as reflected in the tables that follow. See Footnote No. 16, "Spin-off" for more information on the spin-off.

We evaluate the performance of our segments based primarily on the results of the segment without allocating corporate expenses, income taxes, or indirect general, administrative, and other expenses. We allocate gains and losses, equity in earnings or losses from our joint ventures, divisional general, administrative, and other expenses, and income or losses attributable to noncontrolling interests to each of our segments. “Other unallocated corporate” represents that portion of our revenues, general, administrative, and other expenses, equity in earnings or losses, and other gains or losses that we do not allocate to our segments. "Other unallocated corporate" includes license fees we receive from our credit cards and, following the spin-off, also includes license fees from MVW.

17


We aggregate the brands presented within our segments considering their similar economic characteristics, types of customers, distribution channels, the regulatory business environments and operations within each segment and our organizational and management reporting structure.
Revenues
 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
($ in millions)
June 15,
2012
 
June 17,
2011
 
June 15,
2012
 
June 17,
2011
North American Full-Service Segment
$
1,373

 
$
1,305

 
$
2,674

 
$
2,556

North American Limited-Service Segment
591

 
564

 
1,123

 
1,066

International Segment
306

 
301

 
577

 
567

Luxury Segment
428

 
391

 
827

 
776

Former Timeshare Segment

 
390

 

 
748

Total segment revenues
2,698

 
2,951

 
5,201

 
5,713

Other unallocated corporate
78

 
21

 
127

 
37

 
$
2,776

 
$
2,972

 
$
5,328

 
$
5,750

Net Income (Loss)
 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
($ in millions)
June 15,
2012
 
June 17,
2011
 
June 15,
2012
 
June 17,
2011
North American Full-Service Segment
$
110

 
$
89

 
$
199

 
$
167

North American Limited-Service Segment
106

 
98

 
190

 
170

International Segment
46

 
45

 
81

 
81

Luxury Segment
25

 
20

 
46

 
38

Former Timeshare Segment

 
29

 

 
64

Total segment financial results
287

 
281

 
516

 
520

Other unallocated corporate
(47
)
 
(58
)
 
(100
)
 
(120
)
Interest expense and interest income (1)
(31
)
 
(22
)
 
(60
)
 
(47
)
Income taxes
(66
)
 
(66
)
 
(109
)
 
(117
)
 
$
143

 
$
135

 
$
247

 
$
236

 
(1) 
Of the $37 million and $78 million of interest expense shown on the Income Statement for the twelve and twenty-four weeks ended June 17, 2011, respectively, we allocated $12 million and $24 million, respectively, to our former Timeshare Segment.

Equity in Losses of Equity Method Investees
 
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
($ in millions)
June 15,
2012
 
June 17,
2011
 
June 15,
2012
 
June 17,
2011
North American Full-Service Segment
$
1

 
$
1

 
$
1

 
$

North American Limited-Service Segment
1

 
1

 
1

 
(1
)
International Segment
2

 
(1
)
 
2

 
(1
)
Luxury Segment
(10
)
 
(1
)
 
(11
)
 
(2
)
Total segment equity in losses
$
(6
)
 
$

 
$
(7
)
 
$
(4
)
Other unallocated corporate
(2
)
 

 
(2
)
 

 
$
(8
)
 
$

 
$
(9
)
 
$
(4
)

18



Assets
 
 
At Period End
($ in millions)
June 15,
2012
 
December 30,
2011
North American Full-Service Segment
$
1,255

 
$
1,241

North American Limited-Service Segment
527

 
497

International Segment
1,024

 
1,026

Luxury Segment
1,043

 
931

Total segment assets
3,849

 
3,695

Other unallocated corporate
2,158

 
2,215

 
$
6,007

 
$
5,910


14.
Acquisitions and Dispositions

2012 Planned and Completed Acquisitions

In the first quarter of 2012, we acquired land and a building we plan to develop into a hotel for $160 million in cash. In conjunction with this acquisition, we had also made a cash deposit of $6 million late in 2011.

In the second quarter of 2012, we entered into a definitive agreement with Gaylord Entertainment Company ("Gaylord Entertainment") to acquire the Gaylord brand and hotel management company for $210 million. The transaction, which we expect will close by October 2012, remains subject to the approval of Gaylord Entertainment’s conversion into a real estate investment trust by its shareholders, lender consent to amendments to Gaylord Entertainment’s credit facility, and other customary closing conditions. After the transaction closes, Gaylord Entertainment will continue to own the existing Gaylord hotels and we will assume management of these properties under the Gaylord Hotel brand subject to long-term management agreements. We expect the transaction will add four hotels and nearly 8,000 rooms to our North American full-service portfolio.

2012 Completed Dispositions

After the 2012 second quarter, we completed the sale of an equity interest in a North American Limited-Service joint venture (formerly two joint ventures which were merged before the sale). As part of the transaction we also amended certain provisions of the management agreements for the underlying hotel portfolio. As a result, we received cash proceeds of approximately $90 million, and we expect to recognize deferred base fee revenue totaling $5 million and a gain of approximately $40 million in the 2012 third quarter. A portion of this gain represents recognition of the remaining gain we deferred in 2005 due to contingencies in the original transaction documents associated with one of the joint ventures, as these contingencies expired with this sale.

In the 2012 second quarter, we completed the sale of our ExecuStay corporate housing business. Neither the sales price nor the gain we recognized was material to our results of operations and cash flows. The revenues, results of operations, assets, and liabilities of our ExecuStay business also were not material to the Company's financial position, results of operations or cash flows for any of the periods presented, and accordingly we have not reflected ExecuStay as a discontinued operation.

15.
Variable Interest Entities
In accordance with the applicable accounting guidance for the consolidation of variable interest entities, we analyze our variable interests, including loans, guarantees, and equity investments, to determine if an entity in which we have a variable interest is a variable interest entity. Our analysis includes both quantitative and qualitative reviews. We base our quantitative analysis on the forecasted cash flows of the entity, and our qualitative analysis on

19


our review of the design of the entity, its organizational structure including decision-making ability, and relevant financial agreements. We also use our qualitative analyses to determine if we must consolidate a variable interest entity as its primary beneficiary.
In conjunction with the transaction with CTF described more fully in Footnote No. 8, “Acquisitions and Dispositions,” of our Annual Report on Form 10-K for 2007, under the caption “2005 Acquisitions,” we manage hotels on behalf of tenant entities 100 percent owned by CTF, which lease the hotels from third-party owners. Due to certain provisions in the management agreements, we account for these contracts as operating leases. At June 15, 2012, we managed seven hotels on behalf of three tenant entities. The entities have minimal equity and minimal assets comprised of hotel working capital and furniture, fixtures, and equipment. In conjunction with the 2005 transaction, CTF had placed money in a trust account to cover cash flow shortfalls and to meet rent payments. In turn, we released CTF from its guarantees fully in connection with four of these properties and partially in connection with the other three properties. As of year-end 2011, the trust account had been fully depleted. The tenant entities are variable interest entities because the holder of the equity investment at risk, CTF, lacks the ability through voting rights to make key decisions about the entities’ activities that have a significant effect on the success of the entities. We do not consolidate the entities because we do not have: (1) the power to direct the activities that most significantly impact the entities' economic performance or (2) the obligation to absorb losses of the entities or the right to receive benefits from the entities that could potentially be significant. We are liable for rent payments for four of the seven hotels if there are cash flow shortfalls. Future minimum lease payments through the end of the lease term for these hotels totaled approximately $16 million at the end of the 2012 second quarter. In addition, as of the end of the 2012 second quarter we are liable for rent payments of up to an aggregate cap of $11 million for the three other hotels if there are cash flow shortfalls. Our maximum exposure to loss is limited to the rent payments and certain other tenant obligations under the lease, for which we are secondarily liable.

16.
Spin-off
On November 21, 2011, we completed a spin-off of our timeshare operations and timeshare development business through a special tax-free dividend to our shareholders of all of the issued and outstanding common stock of our wholly owned subsidiary MVW.
As a result of the spin-off, MVW is an independent company whose common shares are listed on the New York Stock Exchange under the symbol "VAC." We do not beneficially own any shares of MVW common stock and do not consolidate MVW's financial results for periods after the spin-off date as part of our financial reporting. However, because of our significant continuing involvement in MVW operations after the spin-off (by virtue of the license and other agreements between us and MVW), our former Timeshare segment's historical financial results for periods before the spin-off date continue to be included in Marriott's historical financial results as a component of continuing operations.
Under license agreements entered into effective as of the spin-off date, we receive license fees consisting of a fixed annual fee of $50 million plus two percent of the gross sales price paid to MVW for initial developer sales of interests in vacation ownership units and residential real estate units and one percent of the gross sales price paid to MVW for resales of interests in vacation ownership units and residential real estate units, in each case that are identified with or use the Marriott or Ritz-Carlton marks. The license fee also includes a periodic inflation adjustment. We record these license fees as franchise fee revenues and do not allocate them to any of our segments, but instead include them in "other unallocated corporate."
For more information on the spin-off, see Footnote No. 17, "Spin-Off," of the Notes to our Financial Statements in our 2011 Form 10-K.


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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements
We make forward-looking statements in Management’s Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this report based on the beliefs and assumptions of our management and on information currently available to us. Forward-looking statements include information about our possible or assumed future results of operations, which follow under the headings “Business and Overview,” “Liquidity and Capital Resources,” and other statements throughout this report preceded by, followed by or that include the words “believes,” “expects,” “anticipates,” “intends,” “plans,” “estimates” or similar expressions.
Forward-looking statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those we express in these forward-looking statements, including the risks and uncertainties described below and other factors we describe from time to time in our periodic filings with the U.S. Securities and Exchange Commission (the “SEC”). We therefore caution you not to rely unduly on any forward-looking statements. The forward-looking statements in this report speak only as of the date of this report, and we undertake no obligation to update or revise any forward-looking statement, whether as a result of new information, future developments or otherwise.
In addition, see the “Item 1A. Risk Factors” caption in the “Part II-OTHER INFORMATION” section of this report.

BUSINESS AND OVERVIEW

Lodging Business

Our lodging business model primarily involves managing and franchising hotels, rather than owning them. At June 15, 2012, we operated 43 percent of the hotel rooms in our worldwide system under management agreements, our franchisees operated 54 percent under franchise agreements, we owned or leased 2 percent, and unconsolidated joint ventures that we have an interest in, operated or franchised 1 percent.

Our emphasis on long-term management contracts and franchising tends to provide more stable earnings in periods of economic softness, while the addition of new hotels to our system generates growth, typically with little or no investment by the company. This strategy has allowed substantial growth while minimizing financial leverage and risk in a cyclical industry. In addition, we believe we increase our financial flexibility by reducing our capital investments and adopting a strategy of recycling the investments that we make.

We earn base management fees and in some cases incentive management fees from the hotels that we manage, and we earn franchise fees on the hotels that others operate under franchise agreements with us. Base fees are typically a percentage of property-level revenue while incentive fees are typically a percentage of net house profit adjusted for a specified owner return. Net house profit is calculated as gross operating profit (house profit) less non-controllable expenses such as insurance, real estate taxes, capital spending reserves, and the like.

We remain focused on doing the things that we do well; that is, selling rooms, taking care of our guests, and making sure we control our costs. Our brands remain strong as a result of skilled management teams, dedicated associates, superior customer service with an emphasis on guest and associate satisfaction, significant distribution, our Marriott Rewards and The Ritz-Carlton Rewards loyalty programs, a multichannel reservations system, and desirable property amenities. We, along with owners and franchisees, continue to invest in our brands by means of new, refreshed, and reinvented properties, new room and public space designs, and enhanced amenities and technology offerings. We address through various means hotels in the system that do not meet standards. We continue to enhance the appeal of our proprietary, information-rich, and easy-to-use website, Marriott.com, through functionality and service improvements, and we expect to continue capturing an increasing proportion of property-level reservations via this cost-efficient channel.


21


Our profitability, as well as that of owners and franchisees, has benefited from our approach to property-level and above-property productivity. Properties in our system continue to maintain very tight cost controls. We also control above-property costs, some of which we allocate to hotels, by remaining focused on systems, processing, and support areas.

Lodging Performance Measures

We consider Revenue per Available Room ("RevPAR"), which we calculate by dividing room sales for comparable properties by room nights available to guests for the period, to be a meaningful indicator of our performance because it measures the period-over-period change in room revenues for comparable properties. RevPAR may not be comparable to similarly titled measures, such as revenues. References to RevPAR throughout this report are in constant dollars, unless otherwise noted. We calculate constant dollar statistics by applying exchange rates for the current period to the prior comparable period.

We also consider company-operated house profit margin, which is the ratio of property-level gross operating profit (also known as house profit) to total property-level revenue, to be a meaningful indicator of our performance because this ratio measures our overall ability as the operator to produce property-level profits by generating sales and controlling the operating expenses over which we have the most direct control. House profit includes room, food and beverage, and other revenue and the related expenses including payroll and benefits expenses, as well as repairs and maintenance, utility, general and administrative, and sales and marketing expenses. House profit does not include the impact of management fees, furniture, fixtures and equipment replacement reserves, insurance, taxes, or other fixed expenses.

Lodging Results
Conditions for our lodging business continued to improve in the first half of 2012, reflecting generally low supply growth, a favorable economic climate in many markets around the world, the impact of operating efficiencies across our company, and a year-over-year increase in the number of hotels. During this period, most markets in North and South America and Mexico experienced strong demand. However, some markets, particularly the greater Washington D.C. market, still continue to have weak demand. In the greater Washington, D.C. market, government spending restrictions and a short congressional calendar continued to reduce lodging demand, especially impacting the surrounding suburban markets. Economic growth in Europe was moderate during the first half of 2012; reflecting strong demand in most international gateway cities, but weaker demand in markets dependent on more regional demand. Demand was also weak in Germany, Switzerland and Austria. RevPAR and occupancy rates at properties in the Middle East improved in the 2012 second quarter benefiting from favorable comparisons with the prior year as political unrest in that region subsided somewhat in the 2012 second quarter. RevPAR in the Asia Pacific region continued to be strong in the 2012 first half particularly for properties in Thailand, China, and Japan; however, demand in the 2012 second quarter moderated slightly as compared to the 2012 first quarter.

In the second quarter of 2012, as compared to the year ago quarter, worldwide average daily rates increased 4.1 percent on a constant dollar basis to $140.65 for comparable systemwide properties, with RevPAR increasing 6.7 percent to $104.01 and occupancy increasing 1.8 percentage points to 74.0 percent. For the first half of 2012, as compared to the first half of 2011, worldwide average daily rates increased 3.9 percent on a constant dollar basis to $137.55 for comparable systemwide properties, with RevPAR increasing 6.7 percent to $96.52 and occupancy increasing 1.9 percentage points to 70.2 percent.

We monitor market conditions and carefully price our rooms daily to meet individual hotel demand levels. We modify the mix of our business to increase revenue as demand changes. Demand for higher rated rooms continued to improve in most markets in the first half of 2012, which allowed us to reduce discounting and special offers for transient business. This mix improvement benefited average daily rates.

The hotels in our system serve both transient and group customers. Overall, business transient and leisure transient demand was strong in the first and second quarters of 2012, although retail business transient occupancy

22


was down a bit in the second quarter of 2012 compared to the 2012 first quarter, largely due to displacement during periods of increased group and negotiated corporate (or special corporate) occupancy. Group demand continued to strengthen in the first half of 2012 and the group revenue booking pace for comparable North American Marriott Hotels & Resorts properties for the remainder of 2012 is up approximately 10 percent year over year. For 2013, group revenue booking pace is up 8 percent compared to only one percent a year ago. Typically, two-thirds of group business is booked before the year of arrival and one-third is booked in the year of arrival. During an economic recovery, group pricing tends to lag transient pricing due to the significant lead times for group bookings. Group business booked in earlier periods at lower rates continues to roll off, and with improving group demand, is being replaced with bookings reflecting generally higher rates. In the first half of 2012, group customers spent more on their meetings and property-level food and beverage volumes improved. Additionally, we saw an increase in short-term bookings for both large and small groups during the first half of 2012, and attendance at meetings frequently exceeded initial projections.

Lodging System Growth and Pipeline

During the first half of 2012, we added 8,292 rooms (gross) to our system. Approximately 47 percent of new rooms were located outside the United States and 27 percent of the room additions were conversions from competitor brands. We currently have approximately 115,000 rooms in our lodging development pipeline not including the nearly 8,000 rooms from our planned acquisition of the Gaylord brand and hotel management company. For the full 2012 fiscal year, we expect to add 20,000 to 25,000 rooms (gross) to our system, not including nearly 8,000 rooms from the Gaylord transaction. We expect approximately 9,000 rooms to exit the system for the 2012 full fiscal year, largely due to financial and quality issues. The figures in this paragraph do not include residential, timeshare, or ExecuStay units.

Lodging Transactions
In the second quarter of 2012, we entered into a definitive agreement with Gaylord Entertainment Company ("Gaylord Entertainment") to acquire the Gaylord brand and hotel management company for $210 million. The transaction, which we expect will close by October 2012, remains subject to the approval of Gaylord Entertainment's conversion into a real estate investment trust by its shareholders, lender consent to amendments to Gaylord Entertainment's credit facility, and other customary closing conditions. After the transaction closes, Gaylord Entertainment will continue to own the existing Gaylord hotels and we will assume management of these properties under the Gaylord Hotel brand subject to long-term management agreements. We expect the transaction will add four hotels and nearly 8,000 rooms to our North American full-service portfolio.
Also in the 2012 second quarter, we completed the sale of our ExecuStay corporate housing business. Neither the sales price nor the gain we recognized was material to our results of operations and cash flows. The revenues, results of operations, assets, and liabilities of our ExecuStay business also were not material to our financial position, results of operations or cash flows for any of the periods presented, and accordingly we have not reflected ExecuStay as a discontinued operation.
After the 2012 second quarter, we completed the sale of an equity interest in a North American Limited-Service joint venture (formerly two joint ventures which were merged before the sale). As part of the transaction, we also amended certain provisions of the management agreements for the underlying hotel portfolio. As a result, we received cash proceeds of approximately $90 million, and we expect to recognize deferred base fee revenue totaling $5 million and a gain of approximately $40 million in the 2012 third quarter. A portion of this gain represents recognition of the remaining gain we deferred in 2005 due to contingencies in the original transaction documents associated with one of the joint ventures, as those contingencies expired with this sale.

Timeshare Spin-off

On November 21, 2011 ("the spin-off date"), we completed a spin-off of our timeshare operations and timeshare development business through a special tax-free dividend to our shareholders of all of the issued and outstanding common stock of our wholly owned subsidiary Marriott Vacations Worldwide Corporation ("MVW"). In connection with the spin-off, we entered into several agreements with MVW, and, in some cases, certain of its

23


subsidiaries, that govern our post-spin-off relationship with MVW, including a Separation and Distribution Agreement and two License Agreements for the use of Marriott and Ritz-Carlton marks and intellectual property. Under license agreements with us, MVW is both the exclusive developer and operator of timeshare, fractional, and related products under the Marriott brand and the exclusive developer of fractional and related products under The Ritz-Carlton brand. We now receive license fees from MVW under these license agreements that we include in franchise fees. We do not allocate MVW license fees to any of our segments and instead include them in "other unallocated corporate."

Because of our significant continuing involvement in MVW operations after the spin-off (by virtue of the license and other agreements between us and MVW), we continue to include the historical financial results before the spin-off of our former Timeshare segment in our historical financial results as a component of continuing operations. Please see Footnote No. 16, “Spin-off,” and “Part II, Item 1A – Risk Factors; Other Risks” for more information.

CONSOLIDATED RESULTS
As noted in the preceding "Business and Overview" section, we completed the spin-off of our timeshare operations and timeshare development business in late 2011. Accordingly, we no longer have a Timeshare segment and instead now earn license fees that we do not allocate to any of our segments and include in "other unallocated corporate." The following table details the components of our former Timeshare segment revenues and results for the twelve and twenty-four weeks ended June 17, 2011 and also shows the components of revenues we received from MVW for the twelve and twenty-four weeks ended June 15, 2012.


24


 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
($ in millions)
June 15,
2012
 
June 17,
2011
 
Change
2012/2011
 
June 15,
2012
 
June 17, 2011
 
Change
2012/2011
Former Timeshare segment revenues
 
 
 
 
 
 
 
 
 
 
 
Base fee revenue
$

 
$
13

 
 
 
$

 
$
26

 
 
Total sales and services revenue

 
288

 
 
 

 
564

 
 
Cost reimbursements

 
89

 
 
 

 
158

 
 
Former Timeshare segment revenues

 
390

 
$
(390
)
 

 
748

 
$
(748
)
 
 
 
 
 
 
 
 
 
 
 
 
Other unallocated corporate revenues from MVW
 
 
 
 
 
 
 
 
 
 
 
Franchise fee revenue
$
14

 
$

 
 
 
$
27

 
$

 
 
Cost reimbursements
41

 

 
 
 
60

 

 
 
 Revenues from MVW
55

 

 
55

 
87

 

 
87

 
 
 
 
 
 
 
 
 
 
 
 
Total revenue impact
$
55

 
$
390

 
$
(335
)
 
$
87

 
$
748

 
$
(661
)
 
 
 
 
 
 
 
 
 
 
 
 
Former Timeshare segment results operating income impact
 
 
 
 
 
 
 
 
 
 
 
Base fee revenue
$

 
$
13

 
 
 
$

 
$
26

 
 
Timeshare sales and services, net

 
43

 
 
 

 
94

 
 
General, administrative, and other expense

 
(16
)
 
 
 

 
(33
)
 
 
Former Timeshare segment results operating income impact 1

 
40

 
$
(40
)
 

 
87

 
$
(87
)
 
 
 
 
 
 
 
 
 
 
 
 
Timeshare spin-off costs 2

 
(3
)
 
3

 

 
(4
)
 
4

 
 
 
 
 
 
 
 
 
 
 
 
Other Unallocated corporate operating income impact from MVW
 
 
 
 
 
 
 
 
 
 
 
Franchise fee revenue
14

 

 
14

 
27

 

 
27

 
 
 
 
 
 
 
 
 
 
 
 
Total operating income impact
14

 
37

 
(23
)
 
27

 
83

 
(56
)
Gains and other income 1

 
1

 
(1
)
 

 
1

 
(1
)
Interest expense 1

 
(12
)
 
12

 

 
(24
)
 
24

Income before income taxes impact
$
14

 
$
26

 
$
(12
)
 
$
27

 
$
60

 
$
(33
)
1 Segment results for our former Timeshare segment for the twelve and twenty-four weeks ended June 17, 2011 of $29 million and $64 million, respectively, include interest expense allocated to our former Timeshare segment of $12 million and $24 million, respectively and gains and other income allocated to our former Timeshare segment of $1 million for both the twelve and twenty-four weeks ended June 17, 2011.
2 Costs incurred to spin-off our former Timeshare segment were recorded in the "General, administrative, and other expenses" caption of our Income Statement for the twelve and twenty-four weeks ended June 17, 2011 and we did not allocate those spin-off costs to our former Timeshare segment.
The following discussion presents an analysis of results of our operations for the twelve and twenty-four weeks ended June 15, 2012, compared to the twelve and twenty-four weeks ended June 17, 2011. The results for the first half of 2011 include the results of the former Timeshare segment.
Revenues
Twelve Weeks. Revenues decreased by $196 million (7 percent) to $2,776 million in the second quarter of

25


2012 from $2,972 million in the second quarter of 2011. As detailed in the preceding table, the spin-off contributed to a net $335 million decrease in revenues that was partially offset by a $139 million increase in revenues in our lodging business.

The $139 million increase in revenues for our lodging business was a result of: higher cost reimbursements revenue ($102 million), higher owned, leased, corporate housing, and other revenue ($15 million), higher franchise fees ($11 million), higher incentive management fees ($6 million (comprised of a $3 million increase for North America and a $3 million increase outside of North America)), and higher base management fees ($5 million).
Cost reimbursements revenue represents reimbursements of costs incurred on behalf of managed and franchised properties and relates, predominantly, to payroll costs at managed properties where we are the employer, but also includes reimbursements for other costs, such as those associated with our Marriott Rewards and Ritz-Carlton Rewards programs. As we record cost reimbursements based upon costs incurred with no added markup, this revenue and related expense has no impact on either our operating income or net income. We also receive cost reimbursements revenue from MVW for reimbursement of certain costs incurred in conjunction with transition services agreements and participation in our rewards program. The $54 million increase in total cost reimbursements revenue, to $2,170 million in the 2012 second quarter from $2,116 million in the 2011 second quarter, reflected a $102 million increase (allocated across our lodging business) as a result of the impact of higher property-level demand and growth across the system, partially offset by a net $48 million decline in timeshare-related cost reimbursements due to the spin-off. Since the end of the 2011 second quarter, our managed rooms decreased by 1,075 rooms net of hotels added to our system, primarily due to conversions to franchised rooms. We added 12,680 franchised rooms to our system, net of hotels exiting the system, since the end of the 2011 second quarter.
The decrease in total base management fees, to $141 million in the 2012 second quarter from $149 million in the 2011 second quarter, primarily reflected a decline of $13 million in former Timeshare segment base management fees due to the spin-off, partially offset by a net increase of $5 million across our lodging business primarily as a result of stronger RevPAR. The increase in total franchise fees, to $145 million in the 2012 second quarter from $120 million in the 2011 second quarter, primarily reflected an increase of $14 million in MVW license fees due to the spin-off and an increase of $11 million across our lodging business as a result of stronger RevPAR and, to a lesser extent, the impact of unit growth across the system. The increase in incentive management fees from $50 million in the second quarter of 2011 to $56 million in the second quarter of 2012 primarily reflected higher net property-level income resulting from higher property-level revenue. The increase also reflected continued property-level cost controls and, to a lesser extent, new unit growth in international markets.
The increase in owned, leased, corporate housing, and other revenue, to $264 million in the 2012 second quarter, from $249 million in the 2011 second quarter, primarily reflected $12 million of higher hotel agreement termination fees, $9 million of higher branding fees, and $1 million of higher owned and leased revenue, partially offset by $7 million of lower corporate housing revenue due to the sale of the ExecuStay corporate housing business in the 2012 second quarter. The increase in owned and leased revenue primarily reflected $8 million of higher revenue at our leased property in Japan, benefiting from favorable comparisons with 2011 as a result of very weak demand due to the earthquake and tsunami as well as a $2 million business interruption payment received in the 2012 second quarter from a utility company, partially offset by $6 million of lower revenue at a property that converted from leased to managed at year-end 2011. Combined branding fees associated with card endorsements and the sale of branded residential real estate by others totaled $27 million and $18 million for the 2012 and 2011 second quarters, respectively.

Twenty-four Weeks. Revenues decreased by $422 million (7 percent) to $5,328 million in the first half of 2012 from $5,750 million in the first half of 2011. As detailed in the preceding table, the spin-off contributed to a net $661 million decrease in revenues that was partially offset by a $239 million increase in revenues in our lodging business.

The $239 million increase in revenues for our lodging business was a result of: higher cost reimbursements

26


revenue ($188 million), higher franchise fees ($21 million), higher incentive management fees ($14 million (comprised of a $6 million increase for North America and an $8 million increase outside of North America)), higher base management fees ($8 million), and higher owned, leased, corporate housing, and other revenue ($8 million).
The $90 million increase in total cost reimbursements revenue, to $4,205 million in the first half of 2012 from $4,115 million in the first half of 2011, reflected a $188 million increase (allocated across our lodging business) as a result of the impact of higher property-level demand and growth across the system, partially offset by a net $98 million decline in timeshare-related cost reimbursements due to the spin-off.
The decrease in total base management fees, to $265 million in the first half of 2012 from $283 million in the first half of 2011, primarily reflected a decline of $26 million in former Timeshare segment base management fees due to the spin-off, partially offset by a net increase of $8 million across our lodging business primarily as a result of stronger RevPAR. The net increase of $8 million included the unfavorable impact of $3 million of fee reversals in the first half of 2012 for two properties to reflect contract revisions. The increase in total franchise fees, to $271 million in the first half of 2012 from $223 million in the first half of 2011, primarily reflected an increase of $27 million in MVW license fees due to the spin-off and an increase of $21 million across our lodging business as a result of stronger RevPAR and, to a lesser extent, the impact of unit growth across the system. The increase in incentive management fees from $92 million in the first half of 2011 to $106 million in the first half of 2012 primarily reflected higher net property-level income resulting from higher property-level revenue. The increase also reflected continued property-level cost controls and, to a lesser extent, new unit growth in international markets.
The increase in owned, leased, corporate housing, and other revenue, to $481 million in the first half of 2012, from $473 million in the first half of 2011, primarily reflected $9 million of higher branding fees and $6 million of higher hotel agreement termination fees, partially offset by $6 million of lower corporate housing revenue due to the sale of the ExecuStay corporate housing business in the 2012 second quarter and $2 million of lower owned and leased revenue. The decrease in owned and leased revenue primarily reflected $11 million of lower revenue at a property that converted from leased to managed at year-end 2011, offset by $11 million of higher revenue at our leased property in Japan, benefiting from favorable comparisons with 2011 as a result of very weak demand due to the earthquake and tsunami as well as a $2 million business interruption payment received in the 2012 second quarter from a utility company. Combined branding fees associated with card endorsements and the sale of branded residential real estate by others totaled $43 million and $34 million for the first halves of 2012 and 2011, respectively.
Operating Income
Twelve Weeks. Operating income increased by $11 million to $243 million in the 2012 second quarter from $232 million in the 2011 second quarter. A $34 million increase in operating income across our lodging business was partially offset due to the spin-off which contributed to a net $23 million decrease in operating income, as detailed in the preceding table. The $34 million increase reflected $32 million of higher owned, leased, corporate housing, and other revenue net of direct expenses, an $11 million increase in franchise fees, a $6 million increase in incentive management fees, and a $5 million increase in base management fees, partially offset by a $20 million increase in general, administrative and other expenses. We discuss the reasons for the increases in base management fees, franchise fees, and incentive management fees across our lodging business compared to the 2011 second quarter in the preceding “Revenues” section.
The $32 million (110 percent) increase in owned, leased, corporate housing, and other revenue net of direct expenses was primarily attributable to $12 million of higher hotel agreement termination fees, $10 million of net stronger results primarily at some leased properties (particularly our leased properties in Japan and London), $9 million of higher branding fees, and $1 million of lower corporate housing expenses, net of corporate housing revenue, due to the sale of the ExecuStay corporate housing business in the 2012 second quarter. Our leased property in Japan experienced particularly strong demand in the 2012 second quarter, benefiting from favorable comparisons with 2011 as a result of very weak demand due to the earthquake and tsunami as well as a $2 million business interruption payment received in the 2012 second quarter from a utility company.

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General, administrative, and other expenses increased by $1 million (1 percent) to $160 million in the second quarter of 2012 from $159 million in the second quarter of 2011. The increase reflected a $20 million increase across our lodging business, partially offset by a decline of $19 million due to the spin-off (consisting of $16 million of former Timeshare segment general, administrative, and other expenses and $3 million of Timeshare spin-off costs). The $20 million increase across our lodging business was primarily a result of the accelerated amortization of $7 million of deferred contract acquisitions costs in the 2012 second quarter related to a North American Full-Service segment property (for which we earned a termination fee that we recorded in owned, leased, corporate housing, and other revenue), $7 million of increased compensation and other overhead expenses, a $5 million reversal of a loan loss provision in the 2011 second quarter related to one property with increased expected future cash flows, and a $5 million increase in reserves in the 2012 second quarter primarily associated with guarantees, partially offset by a $5 million performance cure payment for a North American Full-Service segment property in the 2011 second quarter. See our discussion under the "North American Full-Service Lodging" caption for additional information on the termination fee and the related accelerated amortization of deferred contract acquisition costs recorded in the 2012 second quarter.
The $20 million increase in total general, administrative, and other expenses across our lodging business consisted of an $11 million increase that we did not allocate to any of our segments, a $5 million increase allocated to our International segment, a $4 million increase allocated to our Luxury segment, and a $1 million increase allocated to our North American Limited-Service segment, partially offset by a $1 million decrease allocated to our North American Full-Service segment.

Twenty-four Weeks. Operating income decreased by $5 million to $418 million in the first half of 2012 from $423 million in the first half of 2011. As detailed in the preceding table, the spin-off contributed to a net $56 million decrease in operating income that was partially offset by a $51 million increase in operating income across our lodging business. This $51 million increase reflected $34 million of higher owned, leased, corporate housing, and other revenue net of direct expenses, a $21 million increase in franchise fees, a $14 million increase in incentive management fees, and an $8 million increase in base management fees, partially offset by a $26 million increase in general, administrative and other expenses. We discuss the reasons for the increases in base management fees, franchise fees, and incentive management fees across our lodging business compared to the first half of 2011 in the preceding “Revenues” section.
The $34 million (69 percent) increase in owned, leased, corporate housing, and other revenue net of direct expenses was primarily attributable to $16 million of net stronger results at some owned and leased properties (particularly our leased properties in Japan and London) due to higher property-level margins, $9 million of higher branding fees, $6 million of higher hotel agreement termination fees, and $2 million of lower corporate housing expenses, net of corporate housing revenue due to the sale of our ExecuStay corporate housing business in the 2012 second quarter. Our leased property in Japan experienced particularly strong demand in the 2012 second quarter, benefiting from favorable comparisons with 2011 as a result of very weak demand due to the earthquake and tsunami as well as a $2 million business interruption payment received in the 2012 second quarter from a utility company.
General, administrative, and other expenses decreased by $11 million (3 percent) to $307 million in the first half of 2012 from $318 million in the first half of 2011. The decrease reflected a decline of $37 million due to the spin-off (consisting of $33 million of former Timeshare segment general, administrative, and other expenses and $4 million of Timeshare spin-off costs), partially offset by an increase of $26 million across our lodging business primarily as a result of $10 million of increased compensation and other overhead expenses, the accelerated amortization of $8 million of deferred contract acquisitions costs in the first half of 2012 related to a North American Full-Service segment property (for which we earned a termination fee that we recorded in owned, leased, corporate housing, and other revenue), a $5 million reversal of a loan loss provision in the first half of 2011 related to one property with increased expected future cash flows, $4 million of higher legal expenses, and a $5 million increase in reserves in the 2012 first half primarily associated with guarantees, partially offset by a $5 million performance cure payment for a North American Full-Service property in the first half of 2011.
The $26 million increase in total general, administrative, and other expenses across our lodging business

28


consisted of a $16 million increase that we did not allocate to any of our segments, a $5 million increase allocated to our International segment, a $3 million increase allocated to our Luxury segment, and a $2 million increase allocated to our North American Limited-Service segment.
Gains and Other Income
We show our gains and other income for the twelve and twenty-four weeks ended June 15, 2012, and June 17, 2011 in the following table:
 
Twelve Weeks Ended
 
Twenty-Four Weeks Ended
($ in millions)
June 15,
2012
 
June 17,
2011
 
June 15,
2012
 
June 17,
2011
Gains on sales of real estate and other
$
3

 
$
3

 
$
5

 
$
5

Income from cost method joint ventures
2

 

 
2

 

 
$
5

 
$
3

 
$
7

 
$
5


Interest Expense
Twelve Weeks. Interest expense decreased by $3 million (8 percent) to $34 million in the second quarter of 2012 compared to $37 million in the second quarter of 2011. This decrease was primarily due to the spin-off as interest expense in the 2011 second quarter that was allocated to the former Timeshare segment totaled $12 million. This decrease was offset by a $9 million increase in interest expense for our lodging business primarily related to the Series K Notes issued in the first quarter of 2012 ($5 million) as well as increased interest expense associated with our Marriott Rewards program ($2 million). See the “LIQUIDITY AND CAPITAL RESOURCES” caption later in this report for additional information on the Series K Notes.
Twenty-four Weeks. Interest expense decreased by $11 million (14 percent) to $67 million in the first half of 2012 compared to $78 million in the first half of 2011. This decrease was primarily due to the spin-off as interest expense in the first half of 2011 that was allocated to the former Timeshare segment totaled $24 million. This decrease was offset by a $13 million increase in interest expense for our lodging business primarily related to the Series K Notes issued in the first quarter of 2012 ($7 million) as well as increased interest expense associated with our Marriott Rewards program ($5 million).

Interest Income and Income Tax
Twelve Weeks. Interest income of $3 million in the second quarter of 2012 was unchanged compared to $3 million in the second quarter of 2011, primarily reflecting a $2 million increase related to two new notes receivable issued in conjunction with the spin-off, offset by a $2 million decrease primarily associated with the repayment of certain loans during and after the 2011 second quarter.
Our tax provision of $66 million in the second quarter of 2012 was unchanged compared to $66 million in the second quarter of 2011, primarily reflecting a greater percentage of pre-tax income in the 2012 second quarter from jurisdictions outside the U.S. with lower tax rates and the absence of timeshare activity in the 2012 second quarter results due to the spin-off, which were offset by the effect of higher pre-tax income from our lodging business.
Twenty-four Weeks. Interest income of $7 million in the first half of 2012 was unchanged compared to $7 million in the first half of 2011, primarily reflecting a $5 million increase related to two new notes receivable issued in conjunction with the spin-off, offset by a $5 million decrease primarily associated with the repayment of certain loans during and after the 2011 second quarter.
Our tax provision decreased by $8 million (7 percent) to a tax provision of $109 million in the first half of 2012 from a tax provision of $117 million in the first half of 2011. The decrease was primarily due to a greater percentage of pre-tax income in the 2012 first half from jurisdictions outside the U.S. with lower tax rates, a release of tax valuation allowances for renegotiations of lease agreements, recognition of benefits related to tax holidays in foreign jurisdictions, and the absence of timeshare activity in the 2012 first half results due to the spin-off, which were partially offset by the effect of an increase in pre-tax income from our lodging business and an increase in tax provision due to tax return adjustments.


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Equity in Losses
Twelve Weeks. Equity in losses of $8 million in the second quarter of 2012 increased by $8 million from equity in losses of zero in the second quarter of 2011. The increase primarily reflected $8 million of increased losses at a Luxury segment joint venture, primarily related to impairment of certain underlying residential properties and a $2 million loan loss provision for certain notes receivable due from another Luxury segment joint venture, partially offset by $3 million of increased earnings at an International segment joint venture.
Twenty-four Weeks. Equity in losses of $9 million in the first half of 2012 increased by $5 million from equity in losses of $4 million in the first half of 2011. The increase primarily reflected $8 million of increased losses at a Luxury segment joint venture, primarily related to impairment of certain underlying residential properties and a $2 million loan loss provision for certain notes receivable due from another Luxury segment joint venture, partially offset by $4 million of increased earnings at an International segment joint venture.

Net Income
Twelve Weeks. Net income increased by $8 million to $143 million in the second quarter of 2012 from $135 million in the second quarter of 2011, and diluted earnings per share increased by $0.05 per share (14 percent) to $0.42 per share from $0.37 per share in the second quarter of 2011. As discussed in more detail in the preceding sections beginning with “Operating Income,” the $8 million increase in net income compared to the year-ago quarter was due to higher owned, leased, corporate housing, and other revenue net of direct expenses ($32 million), higher franchise fees across our lodging business ($11 million), higher incentive management fees across our lodging business ($6 million), higher base management fees across our lodging business ($5 million), and higher gains and other income across our lodging business ($3 million). These increases were partially offset by higher general, administrative, and other expenses across our lodging business ($20 million), the income before taxes impact of the spin-off ($12 million), higher interest expense across our lodging business ($9 million), and higher equity in losses ($8 million).
Twenty-four Weeks. Net income increased by $11 million to $247 million in the first half of 2012 from $236 million in the first half of 2011, and diluted earnings per share increased by $0.09 per share (14 percent) to $0.72 per share from $0.63 per share in the first half of 2011. As discussed in more detail in the preceding sections beginning with “Operating Income,” the $11 million increase in net income compared to the prior year was due to higher owned, leased, corporate housing, and other revenue net of direct expenses ($34 million), higher franchise fees across our lodging business ($21 million), higher incentive management fees across our lodging business ($14 million), lower income taxes ($8 million), higher base management fees across our lodging business ($8 million), and higher gains and other income across our lodging business ($3 million). These increases were partially offset by the income before taxes impact of the spin-off ($33 million), higher general, administrative, and other expenses across our lodging business ($26 million), higher interest expense across our lodging business ($13 million), and higher equity in losses ($5 million).
Earnings Before Interest Expense, Taxes, Depreciation and Amortization (“EBITDA”) and Adjusted EBITDA
EBITDA, a financial measure that is not prescribed or authorized by United States generally accepted accounting principles (“GAAP”), reflects earnings excluding the impact of interest expense, provision for income taxes, depreciation and amortization. We consider EBITDA to be an indicator of operating performance because we use it to measure our ability to service debt, fund capital expenditures, and expand our business. We also use EBITDA, as do analysts, lenders, investors and others, to evaluate companies because it excludes certain items that can vary widely across different industries or among companies within the same industry. For example, interest expense can be dependent on a company’s capital structure, debt levels and credit ratings. Accordingly, the impact of interest expense on earnings can vary significantly among companies. The tax positions of companies can also vary because of their differing abilities to take advantage of tax benefits and because of the tax policies of the jurisdictions in which they operate. As a result, effective tax rates and provision for income taxes can vary considerably among companies. EBITDA also excludes depreciation and amortization because companies utilize productive assets of different ages and use different methods of both acquiring and depreciating productive assets.

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These differences can result in considerable variability in the relative costs of productive assets and the depreciation and amortization expense among companies.

We also evaluate Adjusted EBITDA, another non-GAAP financial measure, as an indicator of operating performance. Our Adjusted EBITDA reflects Timeshare Spin-off Adjustments for 2011 ("Timeshare Spin-off Adjustments") as if the spin-off occurred on the first day of 2011. The Timeshare Spin-off Adjustments to net income of $9 million for the 2011 second quarter totaled $14 million pre-tax and are primarily comprised of the following pre-tax items: 1) removal of the results of our former Timeshare segment ($29 million); 2) the addition of a payment by MVW to us of estimated license fees ($15 million); 3) the removal of unallocated spin-off transaction costs ($3 million); 4) the addition of estimated interest income ($2 million); 5) the addition of estimated interest expense ($4 million); and 6) the addition of other expenses ($1 million) not previously allocated to our Timeshare segment. The Timeshare Spin-off Adjustments to net income of $22 million for the 2011 first half totaled $35 million pre-tax and are primarily comprised of the following pre-tax items: 1) removal of the results of our former Timeshare segment ($64 million); 2) the addition of a payment by MVW to us of estimated license fees ($29 million); 3) the addition of estimated interest income ($5 million); 4) the addition of estimated interest expense ($7 million); 5) the removal of unallocated spin-off transaction costs ($4 million); and 6) the addition of other expenses ($2 million) not previously allocated to our Timeshare segment.

We evaluate Adjusted EBITDA that excludes these items to make period-over-period comparisons of our ongoing core operations before material charges. EBITDA and Adjusted EBITDA also facilitate our comparison of results from our ongoing operations before material charges with results from other lodging companies.
EBITDA and Adjusted EBITDA have limitations and should not be considered in isolation or as substitutes for performance measures calculated in accordance with GAAP. Both of these non-GAAP measures exclude certain cash expenses that we are obligated to make. In addition, other companies in our industry may calculate EBITDA and Adjusted EBITDA differently than we do or may not calculate them at all, limiting EBITDA's and Adjusted EBITDA's usefulness as comparative measures. We provide Adjusted EBITDA for illustrative and informational purposes only and this measure is not necessarily indicative of and we do not purport that it represents what our operating results would have been had the spin-off occurred on the first day of 2011. This information also does not reflect certain financial and operating benefits we expect to realize as a result of the spin-off.
We show our second quarter and first half 2012 and 2011 EBITDA and Adjusted EBITDA calculations and reconcile those measures with Net Income in the following tables.
 

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12 Weeks Ended June 15, 2012
 
 
 
 
($ in millions)
As Reported
 
 
 
 
Net Income
$
143

 
 
 
 
Interest expense
34

 
 
 
 
Tax provision
66

 
 
 
 
Depreciation and amortization
38

 
 
 
 
Less: Depreciation reimbursed by third-party owners
(4
)
 
 
 
 
Interest expense from unconsolidated joint ventures
4

 
 
 
 
Depreciation and amortization from unconsolidated joint ventures
8

 
 
 
 
EBITDA
$
289

 


 


 
 
 
 
 
 
 
12 Weeks Ended June 17, 2011
($ in millions)
As Reported
 
Timeshare Spin-off Adjustments
 
Adjusted EBITDA
Net Income
$
135

 
$
(9
)
 
 
Interest expense
37

 
(8
)
 
 
Tax provision
66

 
(5
)
 
 
Depreciation and amortization
41

 
(9
)
 
 
Less: Depreciation reimbursed by third-party owners
(3
)
 

 
 
Interest expense from unconsolidated joint ventures
4

 

 
 
Depreciation and amortization from unconsolidated joint ventures
7

 

 
 
EBITDA
$
287

 
$
(31
)
 
$
256

 
 
 
 
 
 

 
24 Weeks Ended June 15, 2012
 
 
 
 
($ in millions)
As Reported
 
 
 
 
Net Income
$
247

 
 
 
 
Interest expense
67

 
 
 
 
Tax provision
109

 
 
 
 
Depreciation and amortization
67

 
 
 
 
Less: Depreciation reimbursed by third-party owners
(8
)
 
 
 
 
Interest expense from unconsolidated joint ventures
8

 
 
 
 
Depreciation and amortization from unconsolidated joint ventures
14

 
 
 
 
EBITDA
$
504

 
 
 
 
 
 
 
 
 
 
 
24 Weeks Ended June 17, 2011
($ in millions)
As Reported
 
Timeshare Spin-off Adjustments
 
Adjusted EBITDA
Net Income
$
236

 
$
(22
)
 
 
Interest expense
78

 
(17
)
 
 
Tax provision
117

 
(13
)
 
 
Depreciation and amortization
76