##### 



Exhibit 13 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS MERISTAR HOSPITALITY OPERATING PARTNERSHIP, L.P.CONSOLIDATED BALANCE SHEETS(Dollars and units in thousands) June 30,2004
    
    December 31,(Unaudited)
    
    2003ASSETSProperty and equipment
    
    $
    2,633,167
    
    
    $
    2,481,752Accumulated depreciation
    
    
    (488,371
    )
    
    
    (446,032
    )2,144,796
    
    
    
    2,035,720Assets held for sale
    
    
    21,826
    
    
    
    51,169Investment in affiliate
    
    
    15,000
    
    
    
    15,000Prepaid expenses and other assets
    
    
    40,821
    
    
    
    47,033Accounts receivable, net of allowance for doubtful accounts
of $3,728 and $2,040
    
    
    72,173
    
    
    
    64,709Restricted cash
    
    
    72,478
    
    
    
    42,523Cash and cash equivalents  unrestricted
    
    
    148,812
    
    
    
    230,876$
    2,515,906
    
    
    $
    2,487,030LIABILITIES AND PARTNERS CAPITALLong-term debt
    
    $
    1,379,828
    
    
    $
    1,381,555Notes payable to MeriStar Hospitality Corporation
    
    
    207,576
    
    
    
    256,473Accounts payable and accrued expenses
    
    
    88,073
    
    
    
    80,014Accrued interest
    
    
    41,121
    
    
    
    46,813Due to Interstate Hotels & Resorts
    
    
    21,887
    
    
    
    16,411Other liabilities
    
    
    19,155
    
    
    
    11,045Total liabilities
    
    
    1,757,640
    
    
    
    1,792,311Minority interests
    
    
    2,472
    
    
    
    2,496Redeemable OP units at redemption value, 3,068 and 3,510 outstanding
    
    
    27,533
    
    
    
    35,926Partners capital  Common OP units, 86,936 and 66,790 issued and
outstanding
    
    
    728,261
    
    
    
    656,297$
    2,515,906
    
    
    $
    2,487,030
 See accompanying notes to the unaudited consolidated financial statements. 3




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##### 



MERISTAR HOSPITALITY OPERATING PARTNERSHIP, L.P.CONSOLIDATED STATEMENTS OF OPERATIONS UNAUDITED(Dollars in thousands, except per unit amounts) Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Revenue:Hotel operations:Rooms
    
    $
    143,156
    
    
    $
    136,911
    
    
    $
    277,284
    
    
    $
    266,706Food and beverage
    
    
    59,442
    
    
    
    56,404
    
    
    
    110,450
    
    
    
    107,520Other hotel operations
    
    
    17,362
    
    
    
    19,201
    
    
    
    34,397
    
    
    
    35,754Office rental, parking and other revenue
    
    
    2,929
    
    
    
    3,453
    
    
    
    5,828
    
    
    
    6,716Total revenue
    
    
    222,889
    
    
    
    215,969
    
    
    
    427,959
    
    
    
    416,696Hotel operating expenses:Rooms
    
    
    35,046
    
    
    
    32,467
    
    
    
    67,795
    
    
    
    63,163Food and beverage
    
    
    41,739
    
    
    
    38,789
    
    
    
    79,923
    
    
    
    75,646Other hotel operating expenses
    
    
    10,864
    
    
    
    10,936
    
    
    
    21,162
    
    
    
    20,392Office rental, parking and other expenses
    
    
    670
    
    
    
    583
    
    
    
    1,255
    
    
    
    1,213Other operating expenses:General and administrative, hotel
    
    
    32,010
    
    
    
    31,864
    
    
    
    65,774
    
    
    
    62,906General and administrative, corporate
    
    
    3,473
    
    
    
    3,132
    
    
    
    7,106
    
    
    
    6,105Property operating costs
    
    
    31,909
    
    
    
    30,620
    
    
    
    62,941
    
    
    
    59,609Depreciation and amortization
    
    
    25,137
    
    
    
    24,953
    
    
    
    50,724
    
    
    
    48,613Property taxes, insurance and other
    
    
    16,006
    
    
    
    17,548
    
    
    
    32,860
    
    
    
    34,547Loss on asset impairments
    
    
    1,291
    
    
    
    65,123
    
    
    
    1,536
    
    
    
    65,123Operating expenses
    
    
    198,145
    
    
    
    256,015
    
    
    
    391,076
    
    
    
    437,317Operating income (loss)
    
    
    24,744
    
    
    
    (40,046
    )
    
    
    36,883
    
    
    
    (20,621
    )Minority interest
    
    
    20
    
    
    
    5
    
    
    
    24
    
    
    
    (6
    )Interest expense, net
    
    
    (29,724
    )
    
    
    (34,583
    )
    
    
    (64,103
    )
    
    
    (69,301
    )Loss on early extinguishments of debt
    
    
    (1,980
    )
    
    
    
    
    
    
    (7,903
    )
    
    
    Loss before income taxes and discontinued operations
    
    
    (6,940
    )
    
    
    (74,624
    )
    
    
    (35,099
    )
    
    
    (89,928
    )Income tax (expense) benefit
    
    
    (25
    )
    
    
    (10
    )
    
    
    314
    
    
    
    119Loss from continuing operations
    
    
    (6,965
    )
    
    
    (74,634
    )
    
    
    (34,785
    )
    
    
    (89,809
    )Discontinued operations:Loss from discontinued operations before
income tax
    
    
    (5,131
    )
    
    
    (142,016
    )
    
    
    (18,314
    )
    
    
    (200,054
    )Income tax (expense) benefit
    
    
    45
    
    
    
    (9
    )
    
    
    161
    
    
    
    6Loss from discontinued operations
    
    
    (5,086
    )
    
    
    (142,025
    )
    
    
    (18,153
    )
    
    
    (200,048
    )Net loss
    
    $
    (12,051
    )
    
    $
    (216,659
    )
    
    $
    (52,938
    )
    
    $
    (289,857
    )Preferred distributions
    
    
    
    
    
    
    (141
    )
    
    
    (141
    )
    
    
    (282
    )Net loss applicable to common unitholders
    
    $
    (12,051
    )
    
    $
    (216,800
    )
    
    $
    (53,079
    )
    
    $
    (290,139
    )Net loss applicable to general partner unitholders
    
    $
    (11,619
    )
    
    $
    (203,867
    )
    
    $
    (50,996
    )
    
    $
    (271,172
    )Net loss applicable to limited partner unitholders
    
    $
    (432
    )
    
    $
    (12,933
    )
    
    $
    (2,083
    )
    
    $
    (18,967
    )
 4




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##### 



Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Basic and Diluted Loss per unit:Loss from continuing operations
    
    $
    (0.08
    )
    
    $
    (1.53
    )
    
    $
    (0.44
    )
    
    $
    (1.84
    )Loss from discontinued operations
    
    
    (0.06
    )
    
    
    (2.90
    )
    
    
    (0.23
    )
    
    
    (4.08
    )Net loss per basic and diluted unit
    
    $
    (0.14
    )
    
    $
    (4.43
    )
    
    $
    (0.67
    )
    
    $
    (5.92
    )
 See accompanying notes to the unaudited consolidated financial statements. 5




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##### 



MERISTAR HOSPITALITY OPERATING PARTNERSHIP, L.P.CONSOLIDATED STATEMENTS OF CASH FLOWSUNAUDITED(Dollars in thousands) Six Months EndedJune 30,2004
    
    2003Operating activities:Net loss
    
    $
    (52,938
    )
    
    $
    (289,857
    )Adjustments to reconcile net loss to net cash provided by
(used in) operating activities:Depreciation and amortization
    
    
    51,985
    
    
    
    58,478Loss on asset impairments
    
    
    7,441
    
    
    
    264,677Loss on sale of assets, before tax effect
    
    
    11,530
    
    
    
    Loss on early extinguishments of debt
    
    
    7,903
    
    
    
    Minority interests
    
    
    (24
    )
    
    
    6Amortization of unearned stock-based compensation
    
    
    1,090
    
    
    
    1,433Change in value of interest rate swaps
    
    
    
    
    
    
    (3,395
    )Deferred income taxes
    
    
    (652
    )
    
    
    (1,534
    )Changes in operating assets and liabilities:Accounts receivable
    
    
    (4,227
    )
    
    
    (12,168
    )Prepaid expenses and other assets
    
    
    4,864
    
    
    
    4,225Due from/to Interstate Hotels & Resorts
    
    
    (3,241
    )
    
    
    (4,575
    )Accounts payable, accrued expenses, accrued
interest and other liabilities
    
    
    (6,040
    )
    
    
    (5,480
    )Net cash provided by operating activities
    
    
    17,691
    
    
    
    11,810Investing activities:Acquisition of hotels, net of cash acquired of $3.5 million
    
    
    (182,790
    )
    
    
    Capital expenditures for property and equipment
    
    
    (49,898
    )
    
    
    (14,547
    )Proceeds from sales of assets
    
    
    104,873
    
    
    
    15,720Purchases of marketable securities
    
    
    
    
    
    
    (18,056
    )Payments from Interstate Hotels & Resorts
    
    
    
    
    
    
    42,052Increase in restricted cash
    
    
    (29,955
    )
    
    
    (9,740
    )Costs associated with disposition program and other, net
    
    
    (5,081
    )
    
    
    (299
    )Net cash (used in) provided by investing activities
    
    
    (162,851
    )
    
    
    15,130Financing activities:Prepayments on long-term debt
    
    
    (105,857
    )
    
    
    Proceeds from debt issuance, net of issuance costs
    
    
    109,687
    
    
    
    Scheduled payments on long-term debt
    
    
    (3,691
    )
    
    
    (4,208
    )Distributions to partners
    
    
    (141
    )
    
    
    (141
    )Purchase of limited partnership unit
    
    
    
    
    
    
    (65
    )Proceeds from OP units issuance
    
    
    72,340
    
    
    
    Purchase of OP units
    
    
    (8,690
    )
    
    
    Other
    
    
    (325
    )
    
    
    Net cash provided by (used in) financing activities
    
    
    63,323
    
    
    
    (4,414
    )Effect of exchange rate changes on cash and cash equivalents
    
    
    (227
    )
    
    
    (115
    )Net (decrease) increase in cash and cash equivalents
    
    
    (82,064
    )
    
    
    22,411Cash and cash equivalents, beginning of period
    
    
    230,876
    
    
    
    33,889Cash and cash equivalents, end of period
    
    $
    148,812
    
    
    $
    56,300Supplemental Cash Flow InformationCash paid for interest and income taxes:Interest, net of capitalized interest
    
    $
    69,804
    
    
    $
    70,399Income taxes
    
    $
    326
    
    
    $
    1,902Non-cash investing and financing activities:Notes payable to MeriStar Hospitality redeemed in exchange
for Common OP Units
    
    $
    49,213
    
    
    $
    Redemption of OP units
    
    $
    123
    
    
    $
    20,100
 See accompanying notes to the unaudited consolidated financial statements. 6




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##### 



MERISTAR HOSPITALITY OPERATING PARTNERSHIP, L.P.NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTSJUNE 30, 2004 1. Organization MeriStar Hospitality Operating Partnership, L.P. is the subsidiary
operating partnership of MeriStar Hospitality Corporation (MeriStar
Hospitality), which is a real estate investment trust, or REIT. We own a
portfolio of primarily upper upscale, full-service hotels and resorts in the
United States. Our portfolio is diversified geographically as well as by
franchise and brand affiliations. As of June 30, 2004, we owned 79 hotels with
22,187 rooms, all of which were leased by our taxable subsidiaries. As of June
30, 2004, 77 hotels were managed by Interstate Hotels & Resorts, Inc.
(Interstate Hotels), one hotel was managed by The Ritz-Carlton Hotel Company,
LLC (Ritz-Carlton), a subsidiary of Marriott International, Inc., and one
hotel was managed by another subsidiary of Marriott International, Inc.
(Marriott) (collectively with Interstate Hotels, the Managers). Of our 79
hotels at June 30, 2004, seven were included in our non-core disposition
program. Two of these assets with 568 rooms have been sold during the third
quarter of 2004. The Managers operate our 79 hotels pursuant to management agreements with
our taxable subsidiaries. Under these management agreements, the taxable
subsidiaries pay a management fee for each property to the Manager of their
hotels. The taxable subsidiaries in turn make rental payments to our
subsidiary operating partnership under the participating leases. Under the Interstate Hotels management agreements, the base management fee
is 2.5% of total hotel revenue, plus incentive payments based on meeting
performance thresholds that could total up to an additional 1.5% of total hotel
revenue. The agreements have initial terms expiring on January 1, 2011 with
three renewal periods of five years each at the option of Interstate Hotels,
subject to some exceptions. Under the Ritz-Carlton and Marriott management agreements, the base
management fee is 3.0% and 2.5% of total hotel revenue, respectively, through
2005 and 3.0% under both thereafter, plus incentive payments based on meeting
performance thresholds that could total up to an additional 2.0% of total
revenue and 20% of available cash flow (as defined), respectively. The
agreements have initial terms expiring in 2015 and 2024, respectively, with
four and three renewal periods of 10 and five years each, respectively, at the
option of Ritz-Carlton and Marriott. The Ritz-Carlton and Marriott management
agreements include certain limited performance guarantees by Ritz-Carlton and
Marriott which are designed primarily to provide downside performance
protection and run through 2005 and up to 2008, respectively. Management
expects funding under these guarantees to be minimal. 2. Summary of Significant Accounting Policies Interim Financial Statements.We have prepared these unaudited interim
financial statements according to the rules and regulations of the United
States Securities and Exchange Commission. We have omitted certain information
and footnote disclosures that are normally included in financial statements
prepared in accordance with accounting principles generally accepted in the
United States. These interim financial statements should be read in
conjunction with the financial statements, accompanying notes and other
information included in our Annual Report on Form 10-K for the year ended
December 31, 2003. In our opinion, the accompanying unaudited consolidated interim financial
statements reflect all adjustments, which are of a normal and recurring nature,
necessary for a fair presentation of the financial condition and results of
operations and cash flows for the periods presented. The results of operations
for the interim periods are not necessarily indicative of the results for the
entire year. Principles of Consolidation.Our consolidated financial statements
include the accounts of all wholly-owned and majority-owned subsidiaries.
Intercompany balances and transactions have been eliminated in consolidation. 7




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##### 



Held for Sale Properties.We classify the properties we are actively
marketing as held for sale once all of the following conditions are met:  
    
    Our board has approved the sale,  
    
    We have a fully executed agreement with a qualified buyer
which provides for no significant outstanding or continuing
obligations with the property after sale, and  
    
    We have a significant non-refundable deposit. We carry properties held for sale at the lower of their carrying values or
estimated fair values less costs to sell. We cease depreciation at the time
the asset is classified as held for sale. Cash and Cash Equivalents. We classify investments with original
maturities of three months or less as cash equivalents. Our cash equivalents
include investments in debt securities, including commercial paper, overnight
repurchase agreements and money market funds. Impairment or Disposal of Long-Lived Assets.We apply the provisions of
Statement of Financial Accounting Standards (SFAS) No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, which require the current and
prior period operating results of any asset that has been classified as held
for sale or has been disposed of on or after January 1, 2002 and where we have
no continuing involvement to be recorded as discontinued operations. Any gains
or losses on final disposition are also included in discontinued operations. The provisions of SFAS No. 144 also require that whenever events or
changes in circumstances indicate that the carrying value of a long-lived asset
may be impaired that an analysis be performed to determine the recoverability
of the assets carrying value. We make estimates of the undiscounted cash
flows from the expected future operations or potential sale of the asset. If
the analysis indicates that the carrying value is not recoverable from these
estimates of cash flows, we write down the asset to estimated fair value and
recognize an impairment loss. Any impairment losses we recognize on assets held
for use are recorded as operating expenses. We record any impairment losses on
assets held for sale as a component of discontinued operations. Accounting for Costs Associated with Exit or Disposal Activities.We
apply the provisions of SFAS No. 146, Accounting for Costs Associated with
Exit or Disposal Activities, which require that a liability for a cost
associated with an exit or disposal activity be recognized and measured
initially at fair value only when the liability is incurred. Our strategy
includes the disposition of certain hotel assets, all of which are managed
under agreements that typically require payments to Interstate Hotels as a
result of termination. Any such liability will be recognized at the time the
asset disposition is complete and a termination notice is provided to
Interstate Hotels. At that time, the recognition of the termination obligation
will be included in the calculation of the final gain or loss on sale. For
further discussion of potential termination obligations, see Asset
Dispositions included in Item 2 of this Quarterly Report on Form 10-Q. Stock-Based Compensation.We adopted the recognition provisions of SFAS
No. 123, Accounting for Stock-Based Compensation, as amended by SFAS No. 148,
on January 1, 2003 for new stock options issued under our compensation programs
sponsored by MeriStar Hospitality. As permitted by SFAS No. 148, we elected to
apply the provisions prospectively, which includes recognizing compensation
expense for only those stock options issued in 2003 and after. We apply the
provisions of Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees, in accounting for our stock options issued under our
compensation programs prior to January 1, 2003. As MeriStar Hospitality
granted these stock options at fair market value, no compensation cost has been
recognized. For our other equity-based compensation awards, we recognize
compensation expense over the vesting period based on the fair market value of
the award at the date of grant. 8




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##### 



Had compensation cost been determined based on fair value at the grant
date for awards granted prior to our adoption of the fair value method, our net
loss and per share amounts would have been adjusted to the pro forma amounts
indicated as follows (in thousands, except per unit amounts): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Net loss, as reported
    
    $
    (12,051
    )
    
    $
    (216,659
    )
    
    $
    (52,938
    )
    
    $
    (289,857
    )Add: Stock-based employee
compensation expense included
in reported net loss, net of
related tax effect
    
    
    395
    
    
    
    677
    
    
    
    975
    
    
    
    1,606Deduct: Total stock-based
employee compensation expense
determined under fair
value-based method for all
awards, net of related tax
effect
    
    
    (442
    )
    
    
    (816
    )
    
    
    (1,077
    )
    
    
    (1,900
    )Net loss, pro forma
    
    $
    (12,098
    )
    
    $
    (216,798
    )
    
    $
    (53,040
    )
    
    $
    (290,151
    )Loss per unit:Basic and Diluted, as reported
    
    $
    (0.14
    )
    
    $
    (4.43
    )
    
    $
    (0.67
    )
    
    $
    (5.92
    )Basic and Diluted, pro forma
    
    $
    (0.14
    )
    
    $
    (4.43
    )
    
    $
    (0.67
    )
    
    $
    (5.93
    )
 These pro forma compensation costs may not be representative of the actual
effects on reported net loss and loss per share in future periods. Derivative Instruments and Hedging Activities.Our interest rate risk
management objective is to manage the effect of interest rate changes on
earnings and cash flows. We look to manage interest rates through the use of a
combination of fixed and variable rate debt. We only enter into derivative or
interest rate transactions for hedging purposes. We recognize all derivatives
as either assets or liabilities on the balance sheet and measure those
instruments at fair value. Changes in the fair value of derivatives are
recorded each period in current earnings or other comprehensive income based on
the derivatives effectiveness and whether the derivative has been designated
as a cash flow or fair value hedge. Acquisition of Hotels. Our hotel acquisitions consist almost exclusively
of land, building, furniture, fixtures and equipment. We allocate the purchase
price among these asset classes and any acquired intangible assets based upon
their respective fair values as required by Statement of Financial Accounting
Standards, or SFAS 141, Business Combinations. 3. Comprehensive Loss Comprehensive loss was $10.8 million and $212.8 million for the three
months ended June 30, 2004 and 2003, respectively. Comprehensive loss consisted
of net loss ($12.1 million and $216.7 million for the three months ended June
30, 2004 and 2003, respectively) and foreign currency translation adjustments. Comprehensive loss was $52.0 million and $284.9 million for the six months
ended June 30, 2004 and 2003, respectively. Comprehensive loss consisted of net
loss ($52.9 million and $289.9 million for the six months ended June 30, 2004
and 2003, respectively) and foreign currency translation adjustments. 4. Acquisitions On May 10, 2004 and June 25, 2004, we acquired the 366-room Ritz-Carlton,
Pentagon City in Arlington, Virginia and the 485-room Marriott Irvine in Orange
County, California, respectively, for a total purchase price of $185.5 million,
plus net acquisition costs and adjustments of $0.7 million. The Ritz-Carlton, Pentagon City luxury hotel is operated by The
Ritz-Carlton Hotel Company, LLC under a long-term contract. On June 30, 2004,
we partially financed the acquisition through the placement of a $55.8 million
fixed-rate mortgage loan which is secured by this property, matures on June 1,
2011 and bears interest at an annual rate of 5.80%. 9




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##### 



The Marriott Irvine is operated by a subsidiary of Marriott International,
Inc. under a long-term contract. We expect to invest approximately $7.5
million in property improvements over the next 12 months, primarily in the
hotels guest rooms. We financed a portion of the acquisition with a $55.5
million fixed-rate mortgage loan which is secured by this property, matures on
July 1, 2011 and bears interest at an annual rate of 5.69%. Because Marriott
International, Inc. reports results in 13 four week periods during the year
rather than the 12 monthly periods that we employ, we will include 12 weeks of
results in each of quarters one through three and 16 weeks of results in
quarter four. The acquisitions were accounted for under the purchase method of
accounting, and the assets and liabilities and results of operations of the
hotels have been consolidated in our financial statements since the date of
purchase. On an unaudited pro forma basis, revenues, net income and basic and
diluted loss per share for the three and six months ended June 30, 2004 and
2003 would have been reported as follows if the acquisitions had occurred at
the beginning of each of the respective periods (in thousands): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Total revenue
    
    $
    238,655
    
    
    $
    231,535
    
    
    $
    455,136
    
    
    $
    446,324Net loss
    
    
    (10,709
    )
    
    
    (214,958
    )
    
    
    (50,773
    )
    
    
    (287,726
    )Net loss per unit:Basic and Diluted
    
    $
    (0.12
    )
    
    $
    (4.39
    )
    
    $
    (0.64
    )
    
    $
    (5.87
    )
 The following is a summary of the combined preliminary allocation of the
purchase price (thousands), which may be revised upon completion of our
valuation procedures: Land
    
    $
    15,000Buildings and improvements
    
    
    151,592Furniture, fixtures and equipment
    
    
    18,220Net working capital
    
    
    1,435Total purchase price
    
    $
    186,247
 5. Property and Equipment Property and equipment consisted of the following (in thousands): June 30,
    
    December 31,2004
    
    2003Land
    
    $
    247,479
    
    
    $
    238,772Buildings and improvements
    
    
    2,016,233
    
    
    
    1,930,155Furniture, fixtures and equipment
    
    
    301,502
    
    
    
    284,602Construction-in-progress
    
    
    67,953
    
    
    
    28,223$
    2,633,167
    
    
    $
    2,481,752
 For the six months ended June 30, 2004 and 2003, we capitalized interest
of $2.0 million and $1.6 million, respectively. During the first and second quarters of 2004, we recognized impairment
losses of $5.0 million and $2.4 million, respectively, of which $4.8 million
and $1.1 million, respectively, are recorded in discontinued operations (see
Note 12). As of June 30, 2004, we had seven hotels remaining in our
disposition program, three of which are classified as held for sale as of June
30, 2004 (see Note 6). During the first and second quarters of 2003, we recognized impairment
losses of $56.7 million and $208.0 million, respectively, of which $56.7
million and $142.9 million, respectively, are recorded in discontinued
operations as of June 30, 2004 (see Note 12). 10




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The impairment charges are based on our estimates of the fair value of the
properties we are actively marketing. These estimates require us to make
assumptions about the sales prices that we expect to realize for each property
as well as the timing of a potential sale. In making these estimates, we
consider the operating results of the assets, the market for comparable
properties, and quotes from brokers, among other information. In nearly all
cases, our estimates have reflected the results of an extensive marketing
effort and negotiations with prospective buyers. Actual results could differ
materially from these estimates. 6. Assets Held for Sale At December 31, 2003, seven assets were classified as held for sale. All
seven of these assets were sold during the six months ended June 30, 2004. At
June 30, 2004, three of the seven remaining properties in our non-core
disposition program met our criteria for classification as held for sale. The
four other assets included in our asset disposition program did not meet the
probability criteria as prescribed by SFAS No. 144 to classify them as held for
sale. Assets held for sale consisted of the following (in thousands): June 30,
    
    December 31,2004
    
    2003Land
    
    $
    598
    
    
    $
    5,061Buildings and improvements
    
    
    20,082
    
    
    
    43,391Furniture, fixtures and equipment
    
    
    765
    
    
    
    2,759Construction-in-progress
    
    
    381
    
    
    
    1,11421,826
    
    
    
    52,325Accumulated depreciation
    
    
    
    
    
    
    (1,156
    )$
    21,826
    
    
    $
    51,169
 7. Investment in Affiliate In 1999, we invested $40 million in MeriStar Investment Partners, L.P.
(MIP), a joint venture established to acquire upscale, full-service hotels.
Our cost-basis investment is in the form of a partnership interest, in which we
earn a 16% cumulative preferred return with outstanding balances compounded
quarterly. While the return on this investment is preferred and cumulative,
the underlying investment ranks equally with the investments of the other
investors in MIP. We recognize the return quarterly as it becomes due to us.
For the six months ended June 30, 2004 and 2003, we recognized a preferred
return of $3.2 million and $4.2 million, respectively, from this investment.
As of June 30, 2004 and December 31, 2003, cumulative preferred returns of
$24.5 million and $19.6 million, respectively, were due from MIP. We have
reserved a portion of this balance and have included the net $21.4 million and
$18.2 million in accounts receivable on the accompanying consolidated balance
sheets as of June 30, 2004 and December 31, 2003, respectively. We expect that
any cumulative unpaid preferred returns will be paid in the future from excess
cash flow above our current return and from potential partnership hotel
disposition proceeds in excess of debt allocated to individual assets. Given
the current economic environment, we do not expect MIPs operations to provide
adequate cash flow in the near term for significant payment of our current
returns or repayments of our cumulative unpaid preferred returns; however we
expect to receive payments from MIP during 2004 resulting from planned
dispositions of certain assets combined with cash flow improvements on other
assets. We evaluate the collectibility of our preferred return based on our
preference to distributions and the underlying value of the hotel properties. While we believe that our current and cumulative returns continue to be
fully collectible, during 2003, the value of our underlying investment declined
due to the decline in MIPs cash flow, particularly driven by results in four
of its hotel markets. While we believe that the cash flow, and thus the value
of our investment in MIP, will be recoverable over time, we expect that any
such recovery will take a number of years to achieve. The accounting rules for
cost basis investments require that declines in value that are other than
temporary be recognized currently. Since the decline in the value of our
underlying investment in MIP was other than temporary, we recognized a $25.0
million impairment loss on this investment during the fourth quarter of 2003. 11




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##### 



8. Long-Term Debt Long-term debt consisted of the following (in thousands): June 30, 2004
    
    December 31, 2003Senior unsecured notes due 2011  9.125%
    
    $
    355,665
    
    
    $
    400,000Senior unsecured notes due 2008  9.0%
    
    
    270,500
    
    
    
    300,000Senior unsecured notes due 2009  10.5%
    
    
    224,187
    
    
    
    250,000Secured facility, due 2009
    
    
    306,067
    
    
    
    309,035Secured facility, due 2013
    
    
    100,041
    
    
    
    100,765Mortgage debt
    
    
    137,505
    
    
    
    27,011Unamortized issue discount
    
    
    (4,063
    )
    
    
    (5,256
    )1,389,902
    
    
    
    1,381,555Fair value adjustment for interest rate swap
    
    
    (10,074
    )
    
    
    Long-term debt
    
    $
    1,379,828
    
    
    $
    1,381,555Notes payable to MeriStar Hospitality
    
    $
    207,930
    
    
    $
    257,143Unamortized issue discount
    
    
    (354
    )
    
    
    (670
    )Notes payable to MeriStar Hospitality
    
    $
    207,576
    
    
    $
    256,473Total long-term debt and notes payable to MeriStar Hospitality
    
    $

    1,587,404
    
    
    $
    1,638,028
 Aggregate future maturities as of June 30, 2004 were as follows (in
thousands): 2004 (six months)
    
    $
    9,3732005
    
    
    11,7432006
    
    
    12,6872007
    
    
    47,5782008
    
    
    282,318Thereafter
    
    
    1,233,7791,597,478Fair value adjustment for interest rate swap
    
    
    (10,074
    )$
    1,587,404
 As of June 30, 2004, 81% of our debt bore fixed rates of interest, and the
remaining 19% bore interest at fixed rates that have been, since April 2, 2004,
effectively swapped to a floating rate. Our overall weighted average interest
rate was 8.30% after giving effect to the interest rate swap. Based on market
prices at June 30, 2004, the fair value of our long-term debt was $1.62
billion. Credit facility.On December 23, 2003, we entered into a new three-year
$50 million senior credit facility, secured by six of our hotels, and
terminated our previous credit facility. The facility bears interest at an
annual rate of the London Interbank Offered Rate, or LIBOR, plus 450 basis
points. As of June 30, 2004, we had no outstanding borrowings under this
facility. The facility contains financial and other restrictive covenants. Our
ability to borrow under this facility is subject to compliance with financial
covenants, including leverage, fixed charge coverage and interest coverage
ratios and minimum net worth requirements. Our compliance with these covenants
in future periods will depend substantially upon the financial results of our
hotels. The agreement governing our new senior credit facility limits our
ability to effect mergers, asset sales and change of control events and limits
the payments of dividends other than those required for MeriStar Hospitality to
maintain its status as a REIT and our ability to incur additional secured and
total indebtedness. Senior unsecured notes.During the six months ended June 30, 2004, we
repurchased from available cash $99.6 million of our senior unsecured notes,
including $29.5 million of the 9.0% notes due 2008, $44.3 million of 12




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##### 



the 9.125% notes due 2011, and $25.8 million of the 10.5% notes due 2009.
We recorded a loss on early extinguishment of debt of $6.2 million and wrote
off deferred financing costs of $1.2 million related to these repurchases which
is included in depreciation and amortization expense on the accompanying
consolidated statements of operations. These senior unsecured notes are unsecured obligations of certain
subsidiaries of ours, and MeriStar Hospitality guarantees payment of principal
and interest on the notes. These notes contain various restrictive covenants,
limiting our ability to initiate or transact certain business activities if
specific financial thresholds are not achieved. One of those thresholds is
having a 2 to 1 fixed charge coverage ratio (as defined in the indentures,
fixed charges only include interest on debt obligations and preferred equity)
in order to enter into certain types of transactions, including the repurchase
of our common OP units, the issuance of preferred equity, the payment of
certain distributions, the incurrence of any additional debt, or the repayment
of certain outstanding debt before it comes due. As of June 30, 2004, our
fixed charge coverage ratio was significantly below 2 to 1, and therefore we
were not permitted generally to enter into those transactions, except as noted
below. There are certain exceptions with respect to the incurrence of additional
debt and early repayment of debt features in the indentures. We have the
ability to incur up to $300 million of secured financing within restricted
subsidiaries, subject to meeting other maintenance tests under the indentures,
of which $194 million was available at June 30, 2004. We also have a general
carve-out to incur $50 million of unspecified borrowings within a restricted
subsidiary, of which the full amount was available at June 30, 2004. We have
the ability to lever assets within an unrestricted subsidiary, such as the
mortgage financing related to the acquisition of Marriott Irvine.
Additionally, we are permitted to repay subordinated debt prior to its maturity
from the proceeds of an equal or junior financing with a longer term than the
debt refinanced, an equity offering, or a financing within an unrestricted
subsidiary. Secured facilities.We completed a $330 million non-recourse financing
secured by a portfolio of 19 hotels in 1999. The loan bears a fixed annual
interest rate of 8.01% and matures in 2009. The secured facility contains
standard provisions that require the servicer to maintain in escrow cash
balances for certain items such as property taxes and insurance. In addition,
the facility contains a provision that requires our mortgage servicer to retain
in escrow the excess cash from the encumbered hotels after payment of debt
service (Excess Cash), if net hotel operating income (NOI) for the trailing
twelve months declines below $57 million. This provision was triggered in
October 2002 and will be effective until the hotels generate the minimum cash
flow required for two consecutive quarters, at which time the cash being held
in escrow will be released to us. As of June 30, 2004 and December 31, 2003,
$39.2 million and $27.2 million, respectively, of cash was held in escrow under
this provision. In July 2003, we signed an amendment to the loan agreement
that permits the release of cash placed in escrow for all capital expenditures
incurred on the 19 encumbered properties on or after April 1, 2003. Although
the servicer will continue to retain in escrow any excess cash from the
encumbered hotels, they will release cash for all capital expenditures we have
incurred from April 1, 2003 through the date of the amendment and future
capital expenditures we incur on the 19 properties. Escrowed funds totaling
$30.3 million were available to fund capital expenditures under this provision
as of June 30, 2004. In July 2004, we received a cash reimbursement of $12.2
million from the servicer related to capital expenditures incurred on the 19
encumbered properties. The fair value adjustments for the interest rate swap agreement of $(10.1)
million that are discussed in further detail below are related to the
outstanding secured facility balance of $306.1 million as of June 30, 2004. On September 26, 2003, as permitted by the indentures governing our senior
unsecured notes and senior subordinated notes, we completed a $101 million
commercial mortgage-backed securities financing, secured by a portfolio of four
hotels. The loan carries a fixed annual interest rate of 6.88% and matures in
2013. Notes payable to MeriStar Hospitality.On July 1, 2003, MeriStar
Hospitality completed an offering of $170 million aggregate principal amount of
9.5% convertible subordinated notes due 2010. In conjunction with this
transaction, we borrowed $170 million from MeriStar Hospitality under terms
matching those of the 9.5% convertible subordinated notes. The proceeds from the new borrowing were used to repurchase $150.6 million
of our $154.3 million 4.75% notes payable to MeriStar Hospitality due 2004, at
varying prices, resulting in an aggregate discount of 13




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##### 



approximately $1.4 million. The remaining proceeds from the issuance were
also used to repurchase a portion of our 8.75% notes payable to MeriStar
Hospitality due 2007. The 8.75% notes payable to MeriStar Hospitality due 2007 are unsecured
obligations, and provide for semi-annual payments of interest each February 15
and August 15. The related indenture contains various restrictive covenants,
which are similar to those in our senior unsecured notes. During the six months ended June 30, 2004, we retired $49.2 million of our
8.75% notes payable to MeriStar Hospitality due 2007 (plus $0.9 million of
accrued interest) through the issuance of 8,138,728 common OP units. We
recorded a loss on early extinguishment of debt of $1.7 million. Mortgage debt. As of June 30, 2004, we had four mortgage loans, two of
which were placed during the second quarter of 2004 and one of which is in
foreclosure. We financed a portion of the Marriott Irvine acquisition (see Note 4) with
a $55.5 million fixed-rate mortgage effective June 25, 2004, collateralized by
the hotel, which matures on July 1, 2011 and bears interest at an annual rate
of 5.69%. On June 30, 2004, in connection with The Ritz-Carlton, Pentagon City
acquisition (see Note 4), we entered into a $55.8 million fixed-rate mortgage
loan, collateralized by the hotel, which matures on June 1, 2011 and bears
interest at an annual rate of 5.80%. We have a mortgage that matures in 2011 and carries an interest rate of
8.8%; however, the lender, with our acquiescence, initiated foreclosure
proceedings which are expected to be completed in the third quarter of 2004.
This mortgage loan is collateralized by one of our properties, which we will
relinquish to the bank upon completion of foreclosure, which we expect to occur
in the third quarter of 2004. The carrying value of the mortgage loan and the
fair value of the building both approximate $11 million. This property is
included in the seven properties remaining in our disposition program. Our only other individual mortgage matures in 2011 and carries an interest
rate of 9.0%. Derivatives.On April 2, 2004, we entered into an interest rate swap
arrangement with a third party to manage our interest rate risk related to our
secured facility due 2009, effectively converting the interest the facility
bears from a fixed rate to a floating rate. Under the swap, we receive
fixed-rate payments of 8.01% and pay floating rate payments based on a one
month LIBOR plus 444 basis points on a $307 million notional amount. We do not
use derivative instruments for speculative purposes. Due to the fact that the
notional amount of the swap matches the principal amount of the underlying debt
and other hedge accounting criteria were met, the swap was designated as highly
effective at the inception of the swap arrangement and designated as a fair
value hedge. We continue to evaluate the effectiveness of the hedge and
believe that the hedge continues to be highly effective. For a derivative qualifying as a fair value hedge, the change in net
unrealized gain or loss upon measuring the fair value hedge and the fair value
of the debt instrument is recorded on our consolidated statements of
operations. These amounts offset each other as there is no ineffectiveness,
and therefore had no impact on our net loss for the three and six months ended
June 30, 2004. The fair value of the swap is recorded as either an asset or
liability, with a corresponding increase or decrease to the carrying value of
the debt instrument being hedged on our consolidated balance sheets. The fair
value of our hedge was approximately a $10.1 million liability as of June 30,
2004. This amount is included in the consolidated balance sheet in the other
liabilities line item. During the three and six months ended June 30, 2004, we
earned cash payments of $1.7 million under the swap, which were recorded as a
reduction in interest expense. During 2003, our only derivative instruments consisted of two swap
agreements that did not qualify for treatment as hedges under SFAS No. 133, of
which one expired in April 2003 and one in July 2003. During the three and six
months ended June 30, 2003, we recognized $1.3 million and $3.4 million,
respectively, of income related to the decrease in fair value of the liability
recorded for the interest rate swaps in place in those time periods. For the
three and six months ended June 30, 2003, we made cash payments on those swaps
of $1.3 and $3.4 million, respectively. The change in fair value and the swap
payments are netted together on our consolidated statement of operations, thus
resulting in no impact on net income. 14




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##### 



9. Partnership Units and Minority Interests OP Units. Our operating partnership agreement provides for five classes
of partnership interests: Common OP Units, Class B OP Units, Class C OP Units,
Class D OP Units and Profits-Only OP Units, or POPs. During the six months ended June 30, 2004, we issued 8,138,728 Common OP
units in exchange for the redemption of $49.2 million of our 8.75% notes
payable to MeriStar Hospitality due 2007 (plus $0.9 million of accrued
interest) (see Note 8). Common OP Unit holders converted 25,141 and 878,000 of their OP Units,
with a value of $0.1 million and $20.1 million, respectively, into common stock
during the six months ended June 30, 2004 and 2003, respectively. A POPs unit
holder converted 25,000 POPs for cash during the six months ended June 30,
2004. On April 9, 2004, in accordance with the terms of the certificate of
designation for the outstanding Class D OP Units of our operating partnership,
we redeemed all outstanding Class D OP Units plus accrued and unpaid
preferential distributions on those units, for an aggregate consideration of
approximately $8.8 million. The Class D OP Units had become redeemable at the
option of the holder on April 1, 2004. On April 23, 2004, MeriStar Hospitality issued and sold 12.0 million
shares of common stock at a price to the public of $6.25 per share pursuant to
its effective shelf registration statement filed under the Securities Act of
1933. In connection with this transaction, MeriStar L.P. Inc., a wholly-owned
subsidiary of MeriStar Hospitality, contributed the net proceeds to us in
exchange for the same number of Common OP units. The offering closed on April
28, 2004 with net proceeds of $72.3 million. 10. Loss Per Unit The following table presents the computation of basic and diluted loss per
unit (in thousands, except per unit amounts): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Basic and Diluted Loss Per Unit:Loss from continuing operations
    
    $
    (6,965
    )
    
    $
    (74,634
    )
    
    $
    (34,785
    )
    
    $
    (89,809
    )Preferred distribution
    
    
    
    
    
    
    (141
    )
    
    
    (141
    )
    
    
    (282
    )Loss from continuing
operations available to common
unitholders
    
    $
    (6,965
    )
    
    $
    (74,775
    )
    
    $
    (34,926
    )
    
    $
    (90,091
    )Weighted average number OP
units outstanding
    
    
    85,933
    
    
    
    49,001
    
    
    
    78,841
    
    
    
    49,017Basic and diluted loss per
unit from continuing
operations
    
    $
    (0.08
    )
    
    $
    (1.53
    )
    
    $
    (0.44
    )
    
    $
    (1.84
    )
 11. Commitments and Contingencies Litigation.In the course of our normal business activities, various
lawsuits, claims and proceedings have been or may be instituted or asserted
against us. Based on currently available facts, we believe that the
disposition of matters that are pending or asserted will not have a material
adverse effect on our financial position, results of operations or liquidity. Minimum Lease Payments.We lease the land at certain of our hotels and
office space of our corporate headquarters under long-term arrangements from
third parties. Certain leases contain contingent rent features 15




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based on gross revenues at the respective property. Future minimum lease
payments required under these operating leases as of June 30, 2004 were as
follows (in thousands): 2004 (six months)
    
    $
    1,2062005
    
    
    2,3732006
    
    
    2,2892007
    
    
    2,3132008
    
    
    2,313Thereafter
    
    
    72,351$
    82,845
 Our obligations under other operating lease commitments, primarily for
equipment, are not significant. We lease certain office, retail and parking space to outside parties under
non-cancelable operating leases with initial or remaining terms in excess of
one year. Future minimum rental receipts under these leases as of June 30,
2004 were as follows (in thousands): 2004 (six months)
    
    $
    2,1432005
    
    
    3,4442006
    
    
    2,7042007
    
    
    2,5422008
    
    
    1,786Thereafter
    
    
    3,089$
    15,708
 We may be obligated to pay Interstate Hotels termination fees of up to a
maximum of approximately $12.0 million with respect to the 32 properties we
have sold between January 1, 2003 and August 3, 2004. In addition, as we
dispose of the five remaining assets in our disposition program, we may incur
termination obligations due to Interstate Hotels of up to a maximum of
approximately $1.7 million,assuming the disposition of all five of the
properties in 2004 and assuming buyers of our hotel properties elect to have
the properties managed by parties other than Interstate Hotels or do not assume
the obligation as part of the disposition transaction and no new management
agreements are substituted. Any obligation due under the termination
provisions of the contract is payable over a period of 48 months after
termination. Termination fees payable to Interstate Hotels may be reduced by
amounts paid under replacement management contracts. During July 2004, we concluded negotiations with Interstate Hotels to
terminate the intercompany agreement. In exchange for terminating the
intercompany agreement, we will receive, among other things, the following:
the right to terminate up to 600 rooms per year upon the payment of a
termination fee equal to 1.5 times the fees earned during the preceding 12
months, with the ability to carryover up to 600 rooms for termination in a
succeeding year; the right to terminate the management contract of a hotel,
where Interstate Hotels invests in a competing hotel, with no termination fee;
and an extension of the termination fee payment period for terminations related
to hotel sales, from 30 months to 48 months. Separately, we reached an agreement with Interstate Hotels regarding the
calculation of termination fees payable upon a sale. Although termination fees
for the properties that have been sold or were included in our previously
announced disposition program (which includes four assets in our current
disposition program) will be unchanged, we will receive a $2.5 million credit,
which will be applicable to fees payable with respect to future dispositions.
Of the $2.5 million credit, $0.6 million has been applied to terminations that
have occurred in the third quarter of 2004, and an additional $1.7 million will
be applied to terminations resulting from the sale of two of our remaining
assets in our current disposition program. 12. Dispositions Between January 1, 2003 and June 30, 2004, we have sold 30 hotels with
6,241 rooms for total gross proceeds of $232.8 million. Of these 30 hotels, 15
hotels were sold in 2003, 11 hotels were sold in the first quarter of 2004, and
four hotels were sold in the second quarter of 2004. As of June 30, 2004, we
had seven 16




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##### 



hotels remaining in our non-core disposition program. Three of these
hotels met our criteria for held-for-sale classification as of June 30, 2004
(see Note 6). Operating results for the sold hotels, and where applicable, the
gain or loss on final disposition, and the three classified as held-for-sale
are included in discontinued operations. Two of the seven hotels in our
disposition program have been sold in the third quarter of 2004 for
approximately $14.5 million. Summary financial information included in discontinued operations for
these hotels is as follows (in thousands): Three Months Ended
    
    Six Months EndedJune 30,
    
    June 30,2004
    
    2003
    
    2004
    
    2003Revenue
    
    $
    7,296
    
    
    $
    44,638
    
    
    $
    22,006
    
    
    $
    87,076Loss on asset impairments
    
    
    (1,139
    )
    
    
    (142,876
    )
    
    
    (5,905
    )
    
    
    (199,553
    )Pretax gain (loss) from
operations
    
    
    592
    
    
    
    860
    
    
    
    (879
    )
    
    
    (501
    )Loss on disposal
    
    
    (4,584
    )
    
    
    
    
    
    
    (11,530
    )
    
    
    
 Loss on disposal resulted primarily from the recognition of termination
fees payable to Interstate Hotels with respect to these hotels management
contracts. 13. Consolidating Financial Statements Certain of our subsidiaries and MeriStar Hospitality are guarantors of our
senior unsecured notes. Certain of our subsidiaries are guarantors of MeriStar
Hospitalitys unsecured senior subordinated notes. All guarantees are full and
unconditional, and joint and several. Exhibit 99.1 to this Quarterly Report on
Form 10-Q presents our supplementary consolidating financial statements,
including each of our guarantor subsidiaries. This exhibit presents our
consolidating balance sheets as of June 30, 2004 and December 31, 2003,
consolidating statements of operations for the three and six months ended June
30, 2004 and 2003, and consolidating statements of cash flows for the six
months ended June 30, 2004 and 2003. 17