Good day, ladies and gentlemen, and welcome to the Q3 2018 DiamondRock Hospitality Company Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this conference call is being recorded.

I'd now like to introduce your host for today's conference, Mr. Sean Kensil, Director of Finance. Sir, you may begin. Sean Kensil Thank you, Daniel. Good morning, everyone and welcome to DiamondRock's third quarter 2018 earnings call and webcast.

Before we begin, I'd like to remind participants that many of our comments today are considered forward-looking statements under federal securities laws and may not be historical fact. These statements are subject to risks and uncertainties as described in the company's SEC filings.

In addition, as management discusses certain non-GAAP financial measures, it may be helpful to review the reconciliations to GAAP set forth in our earnings press release. Please note that all portfolio statistics such as RevPAR and hotel adjusted EBITDA are presented on a comparable basis as defined in our press release.

This morning, Mark Brugger, our President and Chief Executive Officer, will provide a brief overview of our third quarter results as well as discuss the company's revised outlook for 2018. Jay Johnson, our Chief Financial Officer, will provide greater detail on our third quarter performance and discuss our balance sheet.

With that, I'm pleased to turn the call over to Mark..

Good morning, everyone and thank you for joining us on DiamondRock's third quarter earnings call. Let me begin the call with a few updates. First, we are excited to announce that the company is moving forward on the rebuilding of our Frenchman's Reef and Morning Star Resorts with support from the USVI government.

The rebuilt and reimagined resorts are expected to generate EBITDA in excess of $25 million upon stabilization. Second, we remain on track to close on the acquisition of the $150 million luxury resort in Northern California during the fourth quarter. Finally, last week, our Board approved an expansion of our share repurchase program to $250 million.

Before getting into our numbers, let's briefly review the overall environment. Lodging fundamentals continue to benefit from a strong economy. Year-to-date, RevPAR is up 3.1% with the strongest growth coming from luxury, up 4.9%; and resorts, up 4.4%.

New hotel supply remains reasonable close to the historic average of 2% and will likely peak over the next year. Looking forward, 2019 industry fundamentals appear to be generally setting up similar to this year. Let's turn to DiamondRock's third quarter results.

While we expected the third quarter to be our lowest RevPAR growth quarter of the year, the actual result of RevPAR contracting 70 basis points was behind internal expectations by approximately 120 basis points.

We attribute this difference to a few discrete issues, namely weather events, renovation displacement and transitory issues related to the Marriott/Starwood integration.

More specifically, weather impacted portfolio RevPAR by 30 basis points as the two hurricanes during the quarter affected travel at our hotel in Charleston, and to a lesser extent, our hotel in Washington D.C. Renovation disruption held back quarterly RevPAR growth by approximately 20 basis points more than forecasted.

In total, renovation disruption impacted quarterly RevPAR growth by 140 basis points. While the renovations and ROI projects are turning out well, there was about a $0.5 million of incremental EBITDA displaced during the quarter as a few more groups than expected canceled when they learned of the renovations.

In the third quarter, a number of hotels outperformed expectations, including the Hilton Boston, the Chicago Gwen, the Chicago Marriott Downtown, the Hotel Palomar Phoenix and our select service portfolio in New York City. I will just add that The Gwen continues to have a breakout year with $3 million in year-over-year EBITDA growth.

Challenged hotels in the third quarter included the Charleston Renaissance, which was closed for 6 days around hurricane Florence; the Westin Fort Lauderdale with renovation disruption; and the Westin Washington D.C. and Salt Lake City, Marriott due to softer than expected citywide business along with some weather impact in DC.

Adjusted EBITDA for the third quarter was $70.3 million, an increase of $7.2 million from the prior year. Comparable adjusted EBITDA margins were 31.51%. Asset management did an excellent job in the quarter of holding profit margins essentially flat despite contracting RevPAR. Cost controls enabled us to keep total hotel expense increases to only 1.4%.

This strong result was achieved through a combination of labor efficiencies, tight food cost controls and recent energy ROI projects. Turning to our renovation and repositioning program. We view the program as a great way for DiamondRock to drive NAV growth.

Year-to-date, we've invested over $76 million into our hotels, and we're in some stage of implementing about a dozen significant ROI projects throughout the portfolio. Let me briefly touch on just a few of the initiatives, starting with the Vail resort. Our Vail resort has been a phenomenal investment for us.

Since we acquired the hotel, NAV has increased nearly $100 million, and it still remains one of the largest untapped opportunities in the portfolio. Phase I of the master plan for repositioning the resort is nearly complete with the luxury rooms renovation finished in the third quarter.

After completing the final two phases of the master plan over the next few years, we believe that there's $3 million to $5 million of EBITDA upside. Direct San Francisco is another exciting ROI opportunity. The hotel was closed in September for a four month top to bottom renovation.

It will reopen in January as the reinvented Hotel Emblem, part of Viceroy's urban lifestyle collection. We expect 2019 EBITDA to more than double at this hotel as a result of its repositioning and renovation comp.

During 2018, we also completed upgrade renovations at several other hotels, including the Bethesda Suites, the Westin Fort Lauderdale beach resort and The Worthington Renaissance. In total, we plan to invest $135 million into the portfolio this year, which includes advanced purchasing for projects scheduled for completion early next year.

To complement our internal growth story, we continue to look for acquisitions with value add repositioning opportunities. Our external growth strategy favors resorts as we expect that segment to outperform the industry over the next decade.

In fact, five of the company's last six acquisitions have been resorts, which brings the portfolio to a full one-third resorts, on the high-end of the public REITs. Resorts have been a successful segment for DiamondRock, and we estimate that NAV for our resort portfolio has increased by $280 million since our acquisitions.

A great example of this success is our Sedona resorts that we purchased in 2017. The properties continue to exceed expectations, and the total investment represents just 10x 2018 EBITDA. To put it another way, NAV has likely increased over $20 million since our acquisitions last year.

Earlier this year, we continued executing on our resort-focused acquisition strategy by buying The Landing in Northern California. There are several unique asset management opportunities at this resort, including the opportunity to add 22 more keys. Additionally, we expect to have one more resort acquisition completed before the end of the year.

As previously disclosed, we’ve under contract a luxury resort located in Northern California for approximately $150 million. This is an off-market deal and covered by a confidentiality agreement.

For now, what I can tell you is that the purchase price represents a 12.8x multiple on trailing 12-month EBITDA, and its growth in 2019 and 2020 should significantly exceed the national average. We are excited to tell you more about this deal after its expected closing next month.

As for further acquisitions, we will continue to evaluate primarily resort opportunities. However, the recent pullback in the stock price makes the bar higher for acquisitions and the opportunity for share repurchases more interesting. Now we'd like to provide more details on our plan for rebuilding the Frenchman's Reef and Morning Star Resorts.

As you know, the resorts were severely damaged and closed as a result of the hurricane last year. After extensive planning and working with partners such as the USVI government, brand companies and consultants, we're happy to announce that the Board has approved the rebuilding and fundamental repositioning of the resort into truly special places.

We’ve put together a world-class team of consultants that include the designers that did the Four Seasons at Punta Mita and the Ritz-Carlton in Maui as well as partners such as celebrity chef Richard Sandoval to design the bars and restaurants. The resorts are targeted to open in 2020.

Our insurance policy entitles us to receive business interruption proceeds during the rebuilding period. While we’ve already received $87 million in cash from insurers as advanced payments related to this claim, the negotiation with insurers continue, remain sensitive and are likely to take some time to conclude.

However, our entire team is excited about this opportunity and its ability to create value. With that, I will turn the call over to Jay for more details on the quarter..

Thanks, Mark. Our third quarter results came in modestly below our expectations with RevPAR growth of 70 basis points, excluding the Vail Marriott and Westin Fort Lauderdale, our two most impactful renovations during the quarter.

Renovation disruption reduced EBITDA by a total of $2.5 million, which was $500,000 above previous guidance due primarily to increased disruption at the Westin Fort Lauderdale. As discussed on last quarter's call, we expected the third quarter to be our most challenging due to holiday shifts and tough year-over-year comps.

Excluding Fort Lauderdale and Vail, July RevPAR was down 2.2% with results impacted by the 4th of July shift to midweek, while August was the strongest month of the quarter, up 4.2%. September RevPAR was approximately flat due to hurricane Florence and the Jewish holiday shifting to weekdays from weekends last year.

We recognized $8.2 million of income in the quarter from business interruption insurance related to Frenchman's Reef, Havana Cabana and The Lodge at Sonoma, bringing the year-to-date total to $16.3 million. The insurance claims with respect to Havana Cabana and Sonoma have now been settled.

As a result of recent negotiations, we expect to recognize $19 million of BI income for the full-year, which is $1 million lower than prior expectations. The Marriott/Starwood merger integration continues to present some challenges for our portfolio as our four big box Marriott hotels impacted RevPAR growth by 90 basis points in the quarter.

The Boston Westin has seen a reduction in RevPAR index of 5.7 percentage points year-to-date, but improved in the third quarter with its RevPAR index declined 2.5 percentage points. We expect these transitory issues to conclude by the end of the year, and this recent underperformance should provide tailwinds for Q3 of 2019.

Though September was challenging, October rebounded nicely with RevPAR increasing 3% for the portfolio, and we expect October to be our strongest month in the fourth quarter.

Excluding Westin Fort Lauderdale and Vail Marriott, which were under renovation, food and beverage revenues were up 50 basis points this quarter with margins expanding just under 100 basis points, Top performers were our Chicago hotels as well as the Westin San Diego.

Food expense has been an area where Tom and his team have done a great job implementing new asset management controls. We’ve been working intensely with a third-party vendor to lower food cost, and the nine hotels in our PILOT program improved margins by over 200 basis points during the quarter.

That's compared to just a 30 basis point improvement for hotels currently not included in the program. Our entire team remains intently focused on the portfolio's cost structure. Asset management did a phenomenal job controlling expenses overall and driving flow-through this quarter.

Total expenses increased only 1.4% in Q3, while GOP flow-through was 61% for the portfolio. Our hotels continue to benefit from several initiatives implemented over the last year. In addition to the food cost initiative, the team also implemented new labor and productivity and procedures throughout a majority of the portfolio.

In the third quarter, hotels participating in the program had nearly 100 basis points of lower wage benefit expense growth than nonparticipants. Energy conservation has been another area of focus for our asset managers, conducting energy efficiency audits throughout the portfolio as well as shifting to direct bidding with energy suppliers.

Thus far, the team has identified energy reduction opportunities of up to 78% for some of our most inefficient hotels.

Tom and his team have done an outstanding job implementing these and other initiatives, and there are many other opportunities to increase profitability throughout our portfolio, which will be important to offset rising wages going forward. Now let me spend a couple of minutes discussing quarterly results and trends in our three significant segments.

Please note all segmentation metrics exclude Havana Cabana Key West, Hotel Rex, Westin Fort Lauderdale and Vail Marriott. Business transient was once again our strongest of the three major segments. Revenues were up 2.7% for the quarter with the best performance at the Boston Hilton, Boston Westin and Chicago Gwen.

The Lexington, Salt Lake City Marriott and Westin San Diego underperformed in this segment. Business transient has been our strongest segment this year, and we expect this trend to continue as the economy continues to perform well. Leisure revenues were down approximately 3%.

The Westin DC and Charleston Renaissance declined approximately 13% combined, largely due to hurricane Florence in September. Leisure was weaker at our Boston properties as well, but our urban hotels were able to mitigate softness with business transient.

The segment was strongest in our resort properties, including the Sheridan Key West and Hilton Burlington. Our group revenue increased 40 basis points during the third quarter, which was in line with expectations. Chicago once again was an outperformer with combined 10% group revenue growth for the quarter.

Excluding Charleston and our two major renovations, Fort Lauderdale and Vail, in the quarter for the quarter group bookings were up almost 30% in the third quarter, continuing a trend of strong short-term group bookings.

This marks the fifth consecutive quarter of increased in the quarter for the quarter group and provides good momentum as we focus on short-term bookings in 2019. The Westin DC struggled due to a weaker citywide calendar, limited congressional activity and Hurricane Florence.

The Worthington Renaissance also underperformed due to meeting space renovation at the hotel. Looking at the balance of the year, our group pace is slightly behind in Q4 and will be approximately flat for the full-year 2018.

Our hotels continue to work diligently to bolster short-term bookings and backfill with in-house group to offset gaps in group booking pace. I would now like to touch on some of our major markets. Our Chicago hotels continue to have a great year with 8.8% combined RevPAR growth in the third quarter and 10.8% growth year-to-date.

The Gwen continues to shine with year-to-date RevPAR growth of 31% and 18 points of market share gain. Following its transformative renovation and entry into the Luxury Collection, The Gwen has truly set itself apart as one of the top hotels in Chicago and is currently ranked number 6 on TripAdvisor for Chicago hotels.

Since the August transition of Starwood hotels to the Marriott.com platform, the Gwen's booking pace has seen significant pickup in demand generated through the brand channel. Our Chicago hotels are also trending strong in the fourth quarter with combined basis up 13%.

October expected -- is expected to be the strongest month of the quarter with RevPAR growth coming in at 24.5%. Despite a successful year in Chicago, unfavorable tax assessment at The Gwen in the Marriott will increase property taxes for the full-year.

Based on the recent assessments, we expect property taxes to be $2.2 million higher than last year, which is $1 million more than we anticipated. We’re in the process of appealing the assessments for both hotels. Turning to Boston. Our hotels were up 3.3% in Q3, ahead of the market's 2.8% growth.

The Hilton shined this quarter, growing RevPAR by 7% and taking advantage of strong demand in business transient as well as leisure in the Downtown submarket. The Westin generated slightly positive RevPAR growth, which was better than expected given it was a challenging citywide quarter with lower activity at the Boston convention center.

The hotel's RevPAR growth improved in the quarter and came in ahead of our expectations. The Westin's fourth quarter results, however, are being impacted by the hotel strike in Boston. Though we were hopeful for a quick resolution as in Chicago, it appears the strike will continue through at least mid November.

While cancellations have been minimal thus far, the longer the strike continues, the greater the risk for more cancellations and pressure on profits. We estimate approximately a $2 million impact to EBITDA in the fourth quarter based on a resolution late in the quarter. Our New York City hotels grew RevPAR 20 basis points this quarter.

Year-to-date, our New York portfolio has grown 2.8%, which is ahead of our expectations from the beginning of the year. The New York City market decelerated this quarter as compared to the first half of the year, but we're still positive on the market for the remainder of the year.

The Lexington faced challenges this quarter due to increased accruing contract business, which should pay off during the slower quarters next year. Excluding the Lexington, our New York select service portfolio grew 3.7%, outperforming the broader New York market by 300 basis points.

With supply normalizing after this year and both international and domestic demand steadily increasing, there are many positive tailwinds for the New York market. The enactment of a new law focused on short-term rentals should be another positive for the market when enforcement begins in early 2019. As previously mentioned, Washington, D.C.

was challenged in this quarter due to hurricane Florence, decreased congressional activity and weaker citywides. We expect the Washington market to remain soft in the fourth quarter as well. Finally, I would like to provide an update on our balance sheet.

Subsequent to the end of the quarter, we entered into a new 5-year $50 million dollars term loan to support our pending acquisition of a luxury resort in Northern California. For tax purposes necessary to close the acquisition, we're required to have debt associated with the hotel, and the term loan will be funded upon closing of the transaction.

The interest rate on the term loan is based on a pricing grid ranging from 140 to 220 basis points over LIBOR based on the company's leverage. At quarter end, the interest rate margin would have been 140 basis points.

We ended the quarter with a pro forma net debt-to-EBITDA of only 3.1x, cash of approximately $170 million, 22 of 30 hotels unencumbered by mortgage debt and no outstandings under our $300 million revolving credit facility. Pro forma for our pending acquisition and the new term loan, our net debt-to-EBITDA will increase to approximately 3.5x.

We are comfortable with our leverage profile, which gives us significant flexibility for strategic opportunities as they arise, including utilizing our recently increased share repurchase authorization. Our balance sheet remains one of the strongest in the industry and we remain well prepared for any potential downturn.

I will now turn the call back over to Mark..

Thank you, Jay. Now I would like to discuss our revised 2018 outlook in some detail. As you will remember, on our first quarter call we raised RevPAR guidance by 100 basis points. This was based on positive early momentum as 23 of our 28 hotels beat budget in the first quarter.

Since that time, while the overall environment has been generally as strong as we anticipated, we’ve faced a few top line headwinds from weather events, incremental renovation disruption and Marriott specific issues.

Accordingly, we’re adjusting guidance to reflect these issues and reducing the midpoint of RevPAR guidance by 75 basis points, which is still above the original guidance, but disappointing in light of the robust start to the year.

Adjusted EBITDA expectations are being reduced to reflect the new outlook on revenue growth as well as the impact from our recent property tax reassessment in Chicago, which we're appealing, and slightly lower business interruption insurance proceeds that resulted from a negotiation with the insurers.

The revised guidance also incorporates the impact from the union strike at the Boston Westin, which is expected to reduce fourth quarter EBITDA by $2 million. We want to be clear that we remain constructive on lodging fundamentals, the prospects for our portfolio and the ability of ROI initiatives to grow net asset value.

For 2019, we’re still in the very early stages of receiving and reviewing budgets. We are generally bullish on our resorts and resort markets, which comprise about one-third of our portfolio. Our Boston hotels are likely to perform around the national averages as the increasingly easier comp helps offset a softer convention calendar.

New York City has a lot of positive momentum, but there's one more year of meaningful supply to absorb before we can start seeing some real outperformance. Chicago, like DC, is expected to be a softer market as it works through an off year for citywides.

We do expect strong growth at our hotels in Phoenix in Salt Lake City as well as our four hotels in Northern California, including Hotel Emblem San Francisco, the Lodge at Sonoma, The Landing in Lake Tahoe and the pending acquisition. Importantly, the preliminary indications are very positive for our portfolio in 2020.

Our three largest markets are all expected to do well. New York City should begin its significant decline in supply in 2020, and RevPAR should really start rebounding there in 2020 and even more so in 2021. Boston has a strong citywide calendar in 2020, and our Boston Westin pace is up a healthy 19%. Chicago also has a better citywide calendar in 2020.

Our Chicago Marriott is pacing up an impressive 40%, and The Gwen is also up 40% in 2020. 2021 in Chicago should be even better based on the convention cycle. Washington D.C. is expected to be another strong market for us in 2020 with group pace up 69% at our hotel. In total, 2020 group pace revenue for our entire portfolio is up over 20%.

Finally, our to two Virgin Island resorts should reopen in 2020. Before opening up the call for questions, let me summarize a few key points from the prepared remarks. While revenues in the third quarter were modestly below expectations, the asset management team did a good job on controlling expenses.

Our internal ROI projects continue to create a path forward to grow NAV. Our pending off-market acquisition of the luxury resort is expected to immediately create value. It will be the company's fourth hotel in Northern California and furthers DiamondRock's strategic push into resorts.

The rebuilding of the Virgin Island resorts will position them to achieve record levels of EBITDA profits. And finally, the fortress balance sheet allows us to be opportunistic with $400 million of dry powder. With that, we’re happy to answer any questions.

Operator?.

Thank you. [Operator Instructions] Our first question comes from Michael Bellisario with Baird. Your line is now open..

Good morning, everyone..

Good morning..

Good morning, Mike..

On Frenchman's, if you kind of fast forward to mid 2020 and all the insurance claims get settled, what’s the out-of-pocket spend that you think you guys will have to spend? And already that $25 million of EBITDA, that stabilized number that you guys quoted in your presentation..

So last time, we sent out a -- and filed an incremental supplement on Frenchman's Reef. So we're still in negotiations with the insurers. The cost -- our current cost estimate to rebuild the hotel is over $150 million.

We’ve received $87 million today, which covers some business disruption we've had and some of the preliminary spend we've had in stabilizing the site and getting the design and the infrastructure plans completed.

We also have an agreement or a Memorandum of Understanding with the USVI government, where they're going to financially contribute, and then we are finalizing discussions with the brand company for brand support as well to help offset any out-of-pocket spend.

So can't give you a precise number right now because we are still in negotiations with the insurers, but we are confident that we are going to have a good result here and we will do everything in our power to make sure that our shareholders win on this one..

And then if I am thinking about it correctly, you are doing the hotel within a hotel concept, maybe spending a little bit more on up-branding part of it? Is the way to think about it that the potential key money from the brand offsets any incremental spend that you might have otherwise incurred, is that true?.

So the incremental proceeds that we get from the brand as well as from the USVI government to do some infrastructure works that would not be covered by the insurance proceeds should cover a significant portion of upgrade moneys..

Got it. That’s helpful.

And then, just on all your comments on the buyback front, obviously stock price dependent, but is your current plan to use cash on hand if you were to repurchase shares, or do you think you would go more the route you did a few years ago when you used disposition proceeds to buy back stock?.

Well, initially, it's going to be cash flow on hand. And then I think a disposition program will really depend on how the stock performs over the next couple of quarters. So obviously, the lower the stock price, the more we're going to be inclined to think about dispositions to fuel more stock repurchases..

That’s helpful. Thank you..

Thank you. And our next question comes from Patrick Scholes with SunTrust. Your line is now open..

Hi. Good morning. A couple of questions here. You had mentioned group pace for 2020 up very strong. I may have missed it.

What is your 2019 group pace tracking at?.

Sure, Patrick. Good morning. This is Mark. As Jay mentioned, we've seen good in-the-quarter, for-the-quarter group bookings. Third quarter, they increased about 30%, excluding the renovated hotels. Our 2019 group pace is currently down mid single digits, but improved about 70 basis points from last quarter and we continue to make progress.

For us, for DiamondRock really, our two most important group markets given our big convention hotels in Chicago and Boston, they both have off convention calendar in years in 2019, but they do have better patterns.

So if you look at the most in-the-need group quarter, which is the first quarter in both markets, it's actually quite good for our two biggest convention hotels. First quarter group pace is up 18% at the Westin Boston and it's up 24% at the Chicago Marriott.

So we still have work to do on the pace for 2019, but as we mentioned earlier, the '20 and '21 pace look excellent..

Okay. Thank you. Two more questions. First is going to be on margins and going into next year, you had noted we expect industry to be similar to this year, which is sort of low single digits.

Is it -- how long do you think you can maintain at least flat RevPAR margins in this sort of flat low single-digit RevPAR environment?.

This year, if we look at this year as one barometer, and I think wages become more challenging as we move into next year, the midpoint of our guidance implies about 60 basis point contraction. Yes, I think the asset management team is doing a phenomenal job. We continue -- but wages are going to go up in most markets; many markets, 3% or 4%.

Some markets more, some a little less, but we are going to have to do everything we can to increase productivity, work at energy, food cost. We are implementing new labor systems to be more efficient at the properties, but it will get more challenging as we move forward. We’ve done a very good job of reducing expenses.

Tom, do you want to go just a couple of initiatives that you think might help offset the cost increases next year that you are working on?.

Sure. Thanks, Mark. The asset management team continues to -- we obviously continue to focus heavily on the three major areas as Mark mentioned, labor efficiency, food cost and energy. Those are the -- we obviously have other smaller initiatives, but that's kind of the 80-20 approach, staying focused on balance performance.

Obviously, we need to continue to cut costs, but also drive the top, so the result being it flows appropriately.

Labor year-to-date, obviously, Jay mentioned productivity across the portfolio, but we've improved -- excuse me, our portfolio improved 7.1 and with unit focus, the program that was implemented, 16 of our hotels have been implemented and we’ve a 11 more that are in the process of being implemented.

That -- the unit focus platform allows the asset managers and the management team to look forward, not just backwards. So it's a very proactive system. And that heavy focus of just getting it implemented across the portfolio so the asset management team obviously can see forecast looking forward and be proactive on the labor side.

You can't expect what you don't inspect, and so this allows the teams to really stay focused on that in an easy fashion and a quick fashion. Unit focused hotels, the productivity was down -- was 2.3 versus our non-unit focused hotels at 3.01. So the improvement is significant, and we continue to focus on that area.

Sherman [ph] being implemented in nine hotels and we’re still working on getting implemented across our Marriott portfolio. But as mentioned, Sherman is one part cost savings and purchasing, but it's really two parts savings in the operation. And that is with specs and productivity in the kitchen management system.

So there is really no service out there that performs the tasks that Sherman does. So I think we find that to be very positive. And as Mark mentioned, the energy piece, we continue to implement that..

So, Patrick we are rolling up our 2019 budgets right now. So we don’t have a -- we’ve still got work through what the opportunities are. As Tom mentioned labor, we still have most of the hotels to roll out, the labor management systems, so there's still more to be mined there.

Two-thirds of the portfolio we haven't rolled out the Sherman cost reduction program, so that's going to help us. In ROI, energy projects, we're still implementing across the portfolio, and there's still more opportunities there.

But I think as a baseline for the industry, we would expect expenses to be up for the industry at least 2.5% next year, if not more..

Okay. Thank you. Very thorough there. And my last question, you noted in the press release ongoing Marriott/Starwood integration issues.

Are you seeing any light at the end of the tunnel with that issue? And then as you talk to other hotel Marriott branded hotel owners, are you finding that they are also experiencing this, or does this unfortunately seem to be -- it is idiosyncratic to your hotels?.

So good question. I think the silver lining is Marriott will be done with their integration by the end of this year. As you know, it's the largest hotel integration in history. There's going to naturally be some hiccups. There are some -- there's definitely -- we're seeing some positive momentum at some hotels.

The impacts of the -- it's really -- the biggest impact has been this reorganization of the sales clusters. In some markets, that's been more dramatic. In some markets, it's gone very well. In Boston, it's been choppier. I think you've heard that from other CEOs at other REITs. So I think it is a little bit market-by-market.

The positive is it will be wrapped up by the end of this year. We like what they're doing for the long-term value creation. We think it will work and we are excited about the mergers long-term impact, but certainly Boston has been choppy. Hopefully, that gives us a little bit of a tailwind as we move into 2019.

The sales cluster, everyone's got their job. We saw it getting better in Q3 in Boston. Unfortunately, Q4 will have the impact from the labor issues. But we did see it getting -- improving and we are comfortable that the jobs in the cluster are filled and that they’ve a good program going into 2019..

Okay. Thank you. That's it for me..

Thank you. And our next question comes from David Guarino with Green Street Advisors. Your line is now open..

Hey, Mark. Just a question. You mentioned that dispositions are a potential strategy. I know in the past, you guys have had a number of inbound inquiries on hotels you sold.

Is that something that's still occurring today?.

Yes, we still get inbound inquiries. It's actually funny some of the ones we get with inquiries are not necessarily the ones you would suspect. Generally, we are really happy with our portfolio. It will be 31 hotels with the pending acquisition.

But I think we are going to have to be opportunistic and nimble as we kind of watch the stock market over the next couple quarters.

And we'd only seriously look at more dispositions to either facilitate our strategic shift into a greater percentage of resorts, which we're looking at, or if there's a dislocation of the stock price and we're currently trading more than 20% below our NAV estimate. We need to think about how we take advantage of that to benefit our shareholders..

That’s great color. And then just one more quick housekeeping.

On the severance program at the Lexington in New York, is that completed at this point?.

So the major -- well, I will call it, the major program is complete. There's a smaller program that we are looking at for some select departments that would not be nearly the magnitude of the $10 million we spent on the first program, but we will see benefits. We think that in 2019, we will get about a $2 million return on that $10 million investment.

So, so far, so good, but don’t expect anything of that magnitude going forward..

All right. Great. That’s it for me. Thanks..

Thank you. And our next question comes from Stephen Grambling with Goldman Sachs. Your line is now open..

Hey, thanks. I guess, first on the pending acquisition, I realize that it's sensitive in terms of what you can share, but do you anticipate any major CapEx once the deal closes? And then I have a second unrelated follow-up..

Steve, this is Mark. Good question. So the resort as it is, is a terrific opportunity. There are opportunities to create additional value that I can't really go into, but the -- it's got excess places where we could add keys and do additional things. But the project itself, as it is, is terrific and in top shape..

Great.

And then the follow-up, so on the Marriott/Starwood integration issues, I guess, are there any other systems or software changes being implemented as part of that integration in your hotels in the upcoming quarter that could have an impact? And secondly, have you been able to detect any change in behavior from the loyalty program changes? Thanks..

Good question. So this year, they rolled out a lot of things. They -- the most impactful thing as we noted earlier was the changing of the cluster sales organization where basically people had to repost and they reorganized the way these sales clusters were done. That we saw impacting our group pace.

They did roll out a new yield management system this year. They’re rolling out some other software upgrades and moving things on to the Marriott platform from the Starwood legacy hotels. There are learnings with the new yield management system, I would say. It's got a lot of very cool features on it.

But the way it's set up with the -- kind of the artificial intelligence algorithms is it needs a little time to learn. So while that’s already been rolled out in most of the properties, it continues to get rolled out I think, in the balance.

We don't see that as a significant risk, but it will -- I think it will continue to benefit us as we move into 2019 and it gets smarter and smarter..

And then in terms of the loyalty program, I don't know if you've seen any changes in either behavior from the consumer or even how the hotels are thinking about it. Thanks..

Yes, it's a good question. It's hard to know from the data. Inevitably, when they merged the two systems in August, some of our hotels that were number 4 on the previously went to number 9; some of them that were lower moved up, depending on where they defined city center on the Marriott.com Web site.

So it's kind of impossible to measure what benefited and what didn't from the loyalty and from the change in the reservation system so far. We did -- they did change the way the rewards programs work. So some of the hotels benefit a little bit, particularly Starwood legacy hotels.

By the way, they've changed the redemption system and they've lowered the cost with the kind of the bigger system, they’ve lowered the cost to the owners across the board, but some hotels did a little better, some did a little worse. But that's another change that we've seen in 2018..

Thanks for all the color..

Thank you. And our next question comes from Shaun Kelley with Bank of America. Your line is now open..

Hi, guys. Good morning.

Mark or Jay, I was just wondering if you could -- given all of the sort of one-time issues that you’ve mentioned throughout this quarter and some of these are going to linger on in the fourth quarter, could you just quantify maybe the storms, the Union and the Marriott integration headwinds for the full-year and in hopes of getting a sense for what some of the tailwind might look like as we move through into 2019 and we model that?.

Yes. So probably, the RevPAR is a little harder. So weather was ….

We can stick with EBITDA too, if that's easier..

Let's just do with the EBITDA bridge. So, some of the easier numbers to kind of wrap your mind around the model is we will have a $2 million -- anticipated $2 million EBITDA hit at the Boston Westin from the labor issues, so that should be -- create an easy comp as we move into next year.

We have a $1 million over forecast property tax issue in the Chicago market, which is under appeal. We'd hope to get some of that back, if not all of that, but you never know how that process goes. So as we move in, hopefully that will be the worst case scenario and improve as we move into next year. On BI, we got $1 million.

We anticipate getting about $1 million less than we hoped in BI due to a negotiation in this year and then we'll have to -- before the next call, we will work on getting a good forecast for what the right BI number is to model in for Frenchman's for 2019. Then we did have weather and integration issues, which kind of make up the balance.

But we don't have any number for you to build back into your model for EBITDA on this..

Okay. That’s helpful. And maybe one other question I have is, as we think about the resort strategy, I know you’ve talked about this plenty in the past, Mark, but just sort of the high-level strategic question would be, we tend to get some questions from investors around the sometimes more intense cyclicality of resorts that can be experienced.

So as you guys kind of think about your much longer term underwriting, what do you think are some of the factors that are -- may help offset that? Is it supply in the more benign environment there? The markets that you're choosing in? What are the things that can help offset the fact that I think a lot of people sometimes worry that resorts can be more cyclical, not less, when there is a downturn?.

Sure. We are confident on our thesis. I guess, the first one is, I would differentiate big golf group resorts from the kind of resorts that we are targeting. They’re the ones that tend to be much more cyclical in the downturn. These are vulnerable when kind of corporate America dries up end leisure.

Our experience with our -- what I would call smaller, more experiential resorts is they actually for us outperformed the last downturn. They’re not as group reliant. But I think the thesis really relies on a couple of things. One is, these markets tend to be nearly impossible to build in.

So supply is much more restricted, whether that’s a Sedona surrounded by national park or the cost build in some of these markets is just astronomical or like Huntington Beach, they're in the California Coastal Commission Zone, which takes 5 to 10 years to get through.

They're just very difficult people -- places to build and supply over the next decade should be at least half of what the national average supply growth should be. So that's a nice background. Second is, we think experiential travel overall will outperform whether it's an upturn or a downturn.

That as a traveling society, people are seeking out those experiences and willing to pay for them and they will outperform the kind of commoditized experience in many of these urban markets. So we feel like that segment and that experiential piece of the travel segment will continue to do better as we kind of move forward.

So those are really the kind of major tenets of the thesis..

Thank you very much..

Thank you. And our next question comes from Chris Woronka of Deutsche Bank. Your line is now open..

Hey. Good morning, guys..

Good morning, Chris..

Just want to -- good morning. Just want to ask on the -- stick with the cost issue.

If you look at the portfolio kind of across the board collectively, is there any discernible difference kind of in some of the wage pressures between maybe these smaller resorts that you’ve been talking about and maybe some of the more top 10 market, urban big boxes?.

Hey, Chris. It's a good question. So the least flexible markets are the union markets and the unionized hotels, because you have a contract where the wages are fixed. A lot of the workflows are fixed. There is a certain number of rooms that the housekeepers need to clean, that's fixed by contract, there is no flexibility.

We can do some things on labor front, but there is less levers to pull on those hotels. Ironically, New York City, which the agreement goes out to 2026, we anticipate actually being one of the better setups for us.

if you look at the compounded average growth rate of wages from now through the end of the term of that union agreement, it's only 2.6%, I think, is our last calculation. So that actually will work to our benefit. We have found in the -- in a number of the markets, it's tight.

I am going to say the immigration policies in getting the J1s and some of the other visa programs renewed probably would be more impactful in the resort markets because we do rely on bringing that business in for seasonal work. So we’re watching that closely.

It looks like it's going to be okay going into 2019 based on the programs that we participate in, but that is something we monitor very closely..

Okay, great. And then just in recent years, I think the brands have done generally some things that you guys have found to be favorable in terms of cancellation policies and some of the changes in the redemption levels. I guess, the question is, and it may be resort fees and things like that.

I guess, the question is, as you look out to next year, are there any more -- I don't want to call them rabbits in the hat, but rabbits in the hat.

Is there anything more that the brands are working on to offset some of these other issues for you?.

Well, the two biggies would be cancellation policy and having, let's say, fortitude as we move through the special corporate rate negotiations with the major special corporate accounts to actually build in the cancellation penalties with those accounts.

So while they rolled it out in a number of markets, the final negotiations with the largest users of our hotel didn’t have that provision. So if we could get that in there, that would really improve our ability to yield manage these hotels and drive RevPAR into 2019 and '20.

I would say the other biggest opportunity or rabbit out of the hat, if you will, would be urban amenity fees. So our experience has been in the number of properties, if you do it well and if you can get a good value proposition, adding an urban amenity fee can create a better guest experience and improve profitability at the hotels.

So we are big advocates of that. You have to execute it well, but we think that, that could be another opportunity as we move into 2019..

Okay, very good. Thanks, Mark..

Thank you. And I am not showing any further questions at this time. I would now like to turn the call back over to Mark Brugger for any further remarks..

Thank you, everyone for your continued interest in DiamondRock. And we look forward to updating you in our next quarterly call..

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude today’s program and you may all disconnect. Everyone, have a wonderful day..