<PAGE>   1
================================================================================

                       SECURITIES AND EXCHANGE COMMISSION

                              WASHINGTON, DC 20549


                                   FORM 10-Q/A
                                (AMENDMENT NO. 1)



             QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
                         SECURITIES EXCHANGE ACT OF 1934


For the quarterly period ended June 30, 1998    Commission file number  0-23732



                              WINSTON HOTELS, INC.
             (Exact name of registrant as specified in its charter)

    NORTH CAROLINA                                         56-1624289
(State of incorporation)                    (I.R.S. Employer Identification No.)


                               2209 CENTURY DRIVE
                          RALEIGH, NORTH CAROLINA 27612
                    (Address of principal executive offices)
                                   (Zip Code)

                                 (919) 510-6010
              (Registrant's telephone number, including area code)


         Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes  X    No  
    ---      ---

         The number of shares of Common Stock, $.01 par value, outstanding on
July 31, 1998 was 16,313,980.

================================================================================







<PAGE>   2


                              WINSTON HOTELS, INC.
                                      INDEX

The Registrant hereby amends its Quarterly Report on Form 10-Q for the period
ended June 30, 1998, filed with the Securities and Exchange Commission on August
14, 1998 to reflect a change in accounting principle effective January 1, 1998.
This change resulted from the withdrawal of the consensus reached by the
Financial Accounting Standards Board's Emerging Issues Task Force regarding EITF
98-9 "Accounting for Contingent Rent in Interim Financial Periods," (originally
issued on May 21, 1998) on November 19, 1998.

<TABLE>
<CAPTION>
                                                                                                                     Page
                                                                                                                     ----
<S>               <C>                                                                                                <C> 
PART I.           FINANCIAL INFORMATION

Item 1.           WINSTON HOTELS, INC.

                           Consolidated Balance Sheets as of June 30, 1998 (unaudited) and
                           December 31, 1997                                                                           3

                           Unaudited Consolidated Statements of Operations for the three and six months
                           ended June 30, 1998 and 1997                                                                4

                           Unaudited Consolidated Statements of Cash Flows for the six months ended
                           June 30, 1998 and 1997                                                                      5

                           Notes to Consolidated Financial Statements                                                  6

                  CAPSTAR WINSTON COMPANY, L.L.C. (1)

                           Balance Sheets as of June 30, 1998 (unaudited) and December 31, 1997                        9

                           Unaudited Statements of Income for the three and six months ended
                           June 30, 1998                                                                              10

                           Unaudited Statement of Cash Flows for the six months ended
                           June 30, 1998                                                                              11

                           Notes to Financial Statements                                                              12

                  WINSTON HOSPITALITY, INC. (1)

                           Unaudited Statements of Income for the three and six months ended
                           June 30, 1997                                                                              13

                           Unaudited Statement of Cash Flows for the six months ended
                           June 30, 1997                                                                              14

                           Notes to Financial Statements                                                              15

Item 2.           Management's Discussion and Analysis of Financial Condition and Results
                  of Operations                                                                                       16

PART II.          OTHER INFORMATION

Item 6.           Exhibits and Reports on Form 8-K                                                                    23

                  SIGNATURES                                                                                          24

                  EXHIBIT INDEX                                                                                       25

         (1)      The financial statements of CapStar Winston Company, L.L.C.
                  and Winston Hospitality, Inc. are included in this report as
                  they contain material information with respect to the
                  Company's investment in hotel properties. For the six months
                  ended June 30, 1998, CapStar Winston Company, L.L.C. served as
                  the lessee of 47 of Winston Hotels, Inc.'s (the "Company's")
                  49 hotels. For the six months ended June 30, 1997, Winston
                  Hospitality, Inc. served as the lessee of all 32 of the
                  Company's hotels. In November 1997, CapStar Winston Company,
                  L.L.C. replaced Winston Hospitality, Inc. as the lessee of all
                  38 of the Company's hotels. These two companies are not
                  affiliated with the Company other than their lessee
                  relationships.
</TABLE>



                                       2
<PAGE>   3


                              WINSTON HOTELS, INC.
                           CONSOLIDATED BALANCE SHEETS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)

                                     ASSETS
 
<TABLE>
<CAPTION>
                                                                         June 30, 1998    December 31, 1997
                                                                         -------------    -----------------
                                                                          (unaudited)
<S>                                                                      <C>              <C>      
Investment in hotel properties:
     Land                                                                  $  40,464         $  27,504
     Buildings and improvements                                              331,532           224,535
     Furniture and equipment                                                  34,270            22,528
                                                                           ---------         ---------
     Operating properties                                                    406,266           274,567
     Less accumulated depreciation                                           (28,632)          (21,572)
                                                                           ---------         ---------
                                                                             377,634           252,995
     Properties under development                                             11,617            26,490
                                                                           ---------         ---------
         Net investment in hotel properties                                  389,251           279,485
Corporate FF&E, net                                                              231                23
Cash and cash equivalents                                                        408               164
Lease revenue receivable                                                      10,457             5,682
Deferred expenses, net                                                         1,338             1,403
Prepaid expenses and other assets                                                842             1,070
                                                                           ---------         ---------
         Total assets                                                      $ 402,527         $ 287,827
                                                                           =========         =========

                      LIABILITIES AND SHAREHOLDERS' EQUITY

Due to banks                                                               $ 160,776         $  44,081
Accounts payable and accrued expenses                                          3,045             3,527
Distributions payable                                                          6,609             6,950
Minority interest in Partnership                                              15,246            15,779
                                                                           ---------         ---------
         Total liabilities                                                   185,676            70,337
                                                                           ---------         ---------

Shareholders' equity:
    Preferred stock, $.01 par value, 10,000 shares authorized,
     3,000 shares issued and outstanding (liquidation preference of
     $76,734 and $77,100)                                                         30                30
    Common stock, $.01 par value, 50,000 shares authorized,
      16,314 and 16,194 shares issued and outstanding                            163               162
    Additional paid-in capital                                               224,787           223,427
    Unearned compensation                                                       (396)             (106)
    Distributions in excess of earnings                                       (7,733)           (6,023)
                                                                           ---------         ---------
         Total shareholders' equity                                          216,851           217,490
                                                                           ---------         ---------
         Total liabilities and shareholders' equity                        $ 402,527         $ 287,827
                                                                           =========         =========
</TABLE>



    The accompanying notes are an integral part of the financial statements.

                                       3
<PAGE>   4

                              WINSTON HOTELS, INC.
                 UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
                    (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


<TABLE>
<CAPTION>
                                                     Three Months     Three Months      Six Months      Six Months
                                                         Ended            Ended            Ended           Ended
                                                    June 30, 1998     June 30, 1997    June 30,1998    June 30, 1997
                                                    -------------     -------------    ------------    -------------
<S>                                                 <C>              <C>              <C>              <C>    
Revenue:
   Percentage lease revenue                             $14,999          $ 9,622          $25,071          $16,770
   Interest and other income                                 65               24              114               54
                                                        -------          -------          -------          -------
            Total revenue                                15,064            9,646           25,185           16,824
                                                        -------          -------          -------          -------

Expenses:
   Real estate taxes and property and casualty
     insurance                                            1,283              591            2,262            1,156
   General and administrative                             1,164              492            1,763              862
   Interest                                               1,954              996            2,579            1,811
   Depreciation                                           3,916            2,348            7,074            4,570
   Amortization                                              89               41              176               81
                                                        -------          -------          -------          -------
            Total expenses                                8,406            4,468           13,854            8,480
                                                        -------          -------          -------          -------

            Income before allocation to
              minority interest                           6,658            5,178           11,331            8,344

Income allocation to minority interest                      469              381              767              611
                                                        -------          -------          -------          -------

            Net income                                    6,189            4,797           10,564            7,733
Preferred stock distribution                              1,734               --            3,469               --
                                                        -------          -------          -------          -------

            Net income applicable to common
              shareholders                              $ 4,455          $ 4,797          $ 7,095          $ 7,733
                                                        =======          =======          =======          =======

Earnings per share:
   Net income per common share                          $  0.27          $  0.30          $  0.44          $  0.49
                                                        =======          =======          =======          =======
   Net income per common share assuming
     dilution                                           $  0.27          $  0.30          $  0.44          $  0.49
                                                        =======          =======          =======          =======
   Weighted average number of common shares              16,302           15,820           16,263           15,817
                                                        =======          =======          =======          =======
   Weighted average number of common shares
     assuming dilution                                   18,068           17,145           18,055           17,149
                                                        =======          =======          =======          =======
</TABLE>




    The accompanying notes are an integral part of the financial statements.

                                       4
<PAGE>   5


                              WINSTON HOTELS, INC.
                 UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
                                ($ IN THOUSANDS)
 
<TABLE>
<CAPTION>
                                                                             Six Months          Six Months
                                                                                Ended               Ended
                                                                            June 30, 1998       June 30, 1997
                                                                            -------------       -------------
<S>                                                                         <C>                 <C>     
Cash flows from operating activities:
   Net income                                                                 $  10,564           $  7,733
   Adjustments to reconcile net income to net cash provided by
      operating activities:
         Minority interest                                                          767                611
         Depreciation                                                             7,074              4,570
         Amortization of franchise fees                                              66                 44
         Amortization recorded as interest expense                                  183                219
         Unearned compensation amortization                                         110                 37
    Changes in assets and liabilities:
         Lease revenue receivable                                                (4,775)            (2,543)
         Prepaid expenses and other assets                                          191               (909)
         Accounts payable and accrued expenses                                     (482)               427
                                                                              ---------           --------
                 Net cash provided by operating activities                       13,698             10,189
                                                                              ---------           --------
Cash flows from investing activities:
   Deferred acquisition costs                                                        --                (27)
   Prepaid acquisition costs                                                       (400)               (65)
   Investment in hotel properties                                              (117,234)           (21,426)
   Sale of land parcel                                                              445                 --
                                                                              ---------           --------
                 Net cash used in investing activities                         (117,189)           (21,518)
                                                                              ---------           --------
Cash flows from financing activities:
   Fees paid to increase and extend line of credit                                   (5)               (81)
   Net proceeds from issuance of stock                                              600                200
   Payment of distributions to shareholders                                     (12,615)            (8,300)
   Payment of distributions to minority interest                                   (940)              (665)
   Net increase in line of credit borrowing                                      73,795             20,281
   Increase in demand notes                                                      42,900                 --
                                                                              ---------           --------
                 Net cash provided by financing activities                      103,735             11,435
                                                                              ---------           --------
Net increase in cash and cash equivalents                                           244                106

Cash and cash equivalents at beginning of period                                    164                234
                                                                              ---------           --------
Cash and cash equivalents at end of period                                    $     408           $    340
                                                                              =========           ========
Supplemental disclosure:
         Cash paid for interest                                               $   2,678           $  1,299
                                                                              =========           ========
Summary of non-cash investing and financing activities:
   Investment in hotel properties payable                                     $      --           $  1,557
   Distributions declared but not paid                                            6,609              4,613
   Conversion of partnership units for common shares                                152                 --
   Unearned compensation                                                            400                 --
   Minority interest payable adjustment due to the exercise of stock
      options and conversion of partnership units for common shares                 208                 --
</TABLE>



    The accompanying notes are an integral part of the financial statements.

                                       5
<PAGE>   6


                              WINSTON HOTELS, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)



1.       ORGANIZATION

         Winston Hotels, Inc. (the "Company") operates so as to qualify as a
         real estate investment trust ("REIT") for federal income tax purposes.
         The accompanying unaudited consolidated financial statements reflect,
         in the opinion of management, all adjustments necessary for a fair
         presentation of the interim financial statements. All such adjustments
         are of a normal and recurring nature. Due to the seasonality of the
         hotel business, the information for the three and six months ended June
         30, 1998 and the information for the three and six months ended June
         30, 1997 are not necessarily indicative of the results for a full year.

2.       ACQUISITIONS AND DEVELOPMENT

         During the second quarter of 1998, the Company invested approximately
         $65 million in cash with the purchase of six hotels. The Tinton Falls
         Holiday Inn was purchased on April, 21, 1998, the Albany Hilton Garden
         Inn was purchased on May 8, 1998, the Las Vegas Hampton Inn was
         purchased on May 20, 1998, the Secacus Holiday Inn was purchased on May
         27, 1998, the Phoenix Homewood Suites was purchased on June 1, 1998 and
         the Raleigh Hilton Garden Inn was purchased on June 4, 1998.

         The Company also opened two internally-developed hotels during the
         second quarter including the Lake Mary, Florida Homewood Suites hotel
         and the Alpharetta, Georgia Homewood Suites hotel. The Company
         currently has five projects in various stages of development including
         the most recently announced Chapel Hill, North Carolina Hilton Garden
         Inn and Charlotte, North Carolina Embassy Suites hotels. The completion
         of all five development projects will represent a total investment of
         approximately $58 million.

3.       PRO FORMA FINANCIAL INFORMATION

         These unaudited pro forma condensed statements of operations of the
         Company are presented as if the September 1997 Preferred Stock offering
         had occurred January 1, 1997 and the Company had acquired all 49 of the
         hotels owned as of June 30, 1998 on the later of January 1, 1997, or
         the hotel opening date for the eight hotels which opened in the first
         six months of 1998. These unaudited pro forma condensed statements of
         operations are not necessarily indicative of what actual results of
         operations of the Company would have been assuming such transactions
         had been completed as of the dates described above, nor do they purport
         to represent the results of operations for future periods.

<TABLE>
<CAPTION>
                                                                       PRO FORMA FOR THE
                                                                     SIX MONTHS ENDED JUNE 30,
                                                                     -------------------------
                                                                         1998           1997
                                                                         ----           ----

         <S>                                                         <C>             <C>    
         Percentage lease and other revenue                           $27,130        $24,300
                                                                      -------        -------
         Expenses:
         Real estate taxes and property and casualty insurance          2,500          1,928
           General and administrative                                   1,772            910
           Depreciation                                                 7,417          6,115
           Amortization                                                   177            102
           Interest expense                                             3,265          2,186
                                                                      -------        -------
              Total expense                                            15,131         11,241
                                                                      -------        -------
              Income before allocation to minority interest            11,999         13,059
                                                                      -------        -------

         Income allocation to minority interest                           831          1,158
         Preferred stock distribution                                   3,469          3,469
                                                                      -------        -------
              Net income applicable to common shareholders            $ 7,699        $ 8,432
                                                                      -------        -------
</TABLE>



                                       6
<PAGE>   7
                              WINSTON HOTELS, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


<TABLE>
         <S>                                                       <C>                    <C>          
         Net income per common share                              $          0.47        $     0.53
                                                                  ===============        ==========

         Net income per common share assuming dilution            $          0.47        $     0.53
                                                                  ===============        ==========

         Weighted average number of common shares                          16,263            15,817
                                                                  ===============        ==========

         Weighted average number of common shares assuming
            dilution                                                       18,055            17,964
                                                                  ===============        ==========
</TABLE>

4.       EARNINGS PER SHARE

         The Company adopted Statement of Financial Accounting Standards (SFAS)
         No. 128, "Earnings Per Share," on December 31, 1997. SFAS No. 128
         requires the Company to change its method of computing, presenting and
         disclosing earnings per share information. All prior period data
         presented has been restated to conform to the provisions of SFAS No.
         128.

         The following is a reconciliation of the net income applicable to
         common shareholders used in the net income per common share calculation
         to the income before allocation to minority interest used in the net
         income per common share - assuming dilution calculation.


<TABLE>
<CAPTION>
                                                     Three Months       Three Months        Six Months         Six Months
                                                        Ended              Ended              Ended              Ended
                                                    June 30, 1998      June 30, 1997     June 30, 1998       June 30, 1997
                                                    -------------      -------------     -------------       -------------
<S>                                                 <C>                <C>               <C>                 <C>   
Net income                                              $6,189            $4,797            $10,564            $7,733
Less: preferred stock distribution                       1,734                --              3,469                --
                                                        ------            ------            -------            ------
Net income applicable to common shareholders             4,455             4,797              7,095             7,733
Plus: income allocation to minority interest               469               381                767               611
                                                        ======            ======            =======            ======
Net income assuming dilution                            $4,924            $5,178            $ 7,862            $8,344
                                                        ======            ======            =======            ======
</TABLE>


         The following is a reconciliation of the weighted average shares used
         in the calculation of net income per common share to the weighted
         average shares used in the calculation of net income per common share -
         assuming dilution.


<TABLE>
<CAPTION>
                                                  Three Months    Three Months       Six Months         Six Months
                                                     Ended            Ended             Ended              Ended
                                                 June 30, 1998    June 30, 1997     June 30, 1998     June 30, 1997
                                                 -------------    -------------     -------------     -------------
<S>                                              <C>              <C>               <C>               <C>   
Weighted average number of common shares            16,302            15,820            16,263            15,817
Units with redemption rights                         1,739             1,265             1,754             1,265
Stock options                                           27                60                38                67
                                                    ======            ======            ======            ======
Weighted average number of common shares
     Assuming dilution                              18,068            17,145            18,055            17,149
                                                    ======            ======            ======            ======
</TABLE>


5.       DEMAND NOTES

         During the second quarter of 1998, the Company signed five 90-day,
         unsecured demand notes totaling $42,900. These demand notes bear
         interest at a rate of LIBOR plus 1.75%. The notes mature at various
         dates between August 22, 1998 and September 26, 1998.



                                       7
<PAGE>   8
                              WINSTON HOTELS, INC.
                   NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
                (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)


6.       ADOPTION OF NEW ACCOUNTING PRONOUNCEMENTS:

         The Company adopted Statement of Financial Accounting Standards No. 130
         "Reporting Comprehensive Income" ("SFAS 130") effective January 1,
         1998. SFAS 130 requires the Company to display an amount representing
         the total comprehensive income for the period in a financial statement
         which is displayed with the same prominence as other financial
         statements. The Company does not have any items representing
         differences between net income (loss) and comprehensive income (loss)
         and therefore has not presented a Statement of Comprehensive Income in
         the accompanying financial statements.

         The Company will adopt Statement of Financial Accounting Standards No.
         131 "Disclosure about Segments of an Enterprise and Related
         Information" ("SFAS 131") effective December 31, 1998. SFAS 131
         requires the Company to report selected information about operating
         segments in its financial reports issued to shareholders. It also
         establishes standards for related disclosures about products and
         services, geographic areas and major customers. This statement is not
         expected to have a material impact on the Company's financial
         statements.












                                       8
<PAGE>   9



                         CAPSTAR WINSTON COMPANY, L.L.C.
                                 BALANCE SHEETS
                                ($ IN THOUSANDS)

                                     ASSETS
<TABLE>
<CAPTION>
                                                                              June 30, 1998  December 31, 1997
                                                                              -------------  -----------------
 Current assets:                                                               (unaudited)
<S>                                                                           <C>            <C>    
     Cash and cash equivalents                                                   $ 6,975          $ 3,393
     Accounts receivable                                                           3,586            1,614
     Due from Winston Hospitality, Inc.                                               --            1,636
     Due from CapStar Management Company, L.P.                                     4,920              385
     Deposits and other assets                                                       318              197
                                                                                 -------          -------
                  Total current assets                                            15,799            7,225

Furniture, fixtures and equipment, net of accumulated
  depreciation of $35 and $5                                                         305              241
Intangible assets, net of accumulated amortization of $549 and $93                33,674           34,088
Deferred franchise costs, net of accumulated amortization of $40 and $7              569              601
                                                                                 -------          -------

                                                                                 $50,347          $42,155
                                                                                 =======          =======


                        LIABILITIES AND MEMBERS' CAPITAL

Current liabilities:
     Accounts payable                                                            $ 1,843          $ 1,459
     Accrued expenses                                                              4,866            2,920
     Percentage lease payable                                                     10,537            5,682
     Advance deposits                                                                218              135
                                                                                 -------          -------
                  Total current liabilities                                       17,464           10,196


Members' capital                                                                  32,883           31,959
                                                                                 -------          -------
                                                                                 $50,347          $42,155
                                                                                 =======          =======
</TABLE>








                See accompanying notes to financial statements.

                                       9
<PAGE>   10



                         CAPSTAR WINSTON COMPANY, L.L.C.
                         UNAUDITED STATEMENTS OF INCOME
                                ($ IN THOUSANDS)

<TABLE>
<CAPTION>
                                                   Three Months      Six Months
                                                      Ended             Ended
                                                  June 30, 1998     June 30, 1998
                                                  -------------     -------------
<S>                                               <C>               <C>    
Revenue:
   Rooms                                              $30,266          $52,839
   Food and beverage                                    1,804            2,705
   Telephone and other operating departments            1,487            2,657
                                                      -------          -------
            Total revenue                              33,557           58,201
                                                      -------          -------

Operating costs and expenses:
   Rooms                                                6,583           11,487
   Food and beverage                                    1,375            2,058
   Telephone and other operating departments              741            1,214
Undistributed expenses:
   Lease expense                                       14,792           24,865
   Administrative and general                           2,904            5,386
   Sales and marketing                                  1,197            2,023
   Franchise fees                                       2,228            3,836
   Repairs and maintenance                              1,544            2,766
   Energy                                               1,214            2,109
   Other                                                  568            1,014
   Depreciation and amortization                          262              519
                                                      -------          -------
            Total expenses                             33,408           57,277
                                                      -------          -------

            Net income                                $   149          $   924
                                                      =======          =======
</TABLE>



                See accompanying notes to financial statements.

                                       10
<PAGE>   11



                         CAPSTAR WINSTON COMPANY, L.L.C.
                        UNAUDITED STATEMENT OF CASH FLOWS
                                ($ IN THOUSANDS)

<TABLE>
<CAPTION>
                                                                                               Six Months
                                                                                                  Ended
                                                                                              June 30, 1998
                                                                                              -------------
<S>                                                                                           <C>
Cash flows from operating activities:
     Net income                                                                                 $   924
     Adjustments to reconcile net income to net cash provided by operating activities:
         Depreciation and amortization                                                              519
         Loss on sale of fixed assets                                                                 2
         Increase in accounts receivable                                                           (336)
         Increase in due from CapStar Management Company, L.P.                                   (4,535)
         Increase in deposits and other assets                                                     (121)
         Increase in accounts payable and accrued expenses                                        2,330
        Increase in percentage lease payable                                                      4,855
        Increase in advance deposits                                                                 83
                                                                                                -------
Net cash provided by operating activities                                                         3,721
                                                                                                -------

Cash flows from investing activities:
     Additions of furniture, fixtures and equipment                                                (112)
     Additions to intangible assets                                                                 (42)
     Proceeds from sale of fixed assets                                                              15
                                                                                                -------
Net cash used in investing activities                                                              (139)
                                                                                                -------

Net increase in cash and cash equivalents                                                         3,582
Cash and cash equivalents at beginning of period                                                  3,393
                                                                                                -------

Cash and cash equivalents at end of period                                                      $ 6,975
                                                                                                =======
</TABLE>






                See accompanying notes to financial statements.

                                       11
<PAGE>   12


                         CAPSTAR WINSTON COMPANY, L.L.C.
                          NOTES TO FINANCIAL STATEMENTS


The accompanying unaudited financial statements are prepared by and are the sole
responsibility of CapStar Winston Company, L.L.C. These financial statements
reflect, in the opinion of CapStar Winston Company L.L.C. management, all
adjustments necessary for a fair presentation of the interim financial
statements. All such adjustments are of a normal and recurring nature.

During November 1997, CapStar Management Company ("CMC") and CapStar Hotel
Company purchased substantially all of the assets and assumed certain
liabilities of Winston Hospitality, Inc., including 38 hotel leases, certain
operating assets and liabilities, goodwill and other intangible assets.
Concurrent with the purchase, CMC contributed/assigned the assets purchased and
liabilities assumed in the transaction to CapStar Winston Company, L.L.C.


SUBSEQUENT EVENT

On August 1, 1998, CapStar Hotel Company and American General Hospitality
Corporation merged to form MeriStar Hospitality Corporation and MeriStar Hotels
& Resorts, Inc. As a result of the merger, MeriStar Hospitality Operating
Partnership, L.P. replaced CapStar Management Company L.P. as the 99% member of
CapStar Winston Company, L.L.C.









                                       12
<PAGE>   13


                            WINSTON HOSPITALITY, INC.
                         UNAUDITED STATEMENTS OF INCOME
                                ($ IN THOUSANDS)


<TABLE>
<CAPTION>
                                                   Three Months      Six Months 
                                                      Ended             Ended
                                                  June 30, 1997     June 30, 1997
                                                  -------------     -------------
<S>                                               <C>               <C>    
Revenue:
   Rooms                                              $20,488          $36,813
   Food and beverage                                      764            1,388
   Telephone and other operating departments            1,024            1,766
                                                      -------          -------
         Total revenue                                 22,276           39,967
                                                      -------          -------

Operating costs and expenses:
   Rooms                                                4,095            7,526
   Food and beverage                                      503              948
   Telephone and other operating departments              554              958
Undistributed expenses:
   Lease                                                9,622           16,770
   Administrative and general                           2,369            4,603
   Sales and marketing                                    755            1,417
   Franchise fees                                       1,461            2,579
   Repairs and maintenance                              1,010            1,925
   Energy                                                 725            1,420
   Other                                                  418              786
   Depreciation and amortization                           26               53
                                                      -------          -------
         Total expenses                                21,538           38,985
                                                      -------          -------
         Net income                                   $   738          $   982
                                                      =======          =======
</TABLE>



    The accompanying notes are an integral part of the financial statements.

                                       13
<PAGE>   14


                            WINSTON HOSPITALITY, INC.
                        UNAUDITED STATEMENT OF CASH FLOWS
                                ($ IN THOUSANDS)


<TABLE>
<CAPTION>
                                                                Six Months
                                                                  Ended
                                                              June 30, 1997
                                                              -------------
<S>                                                           <C>    
Cash flows from operating activities:
   Net income                                                   $   982
   Adjustments to reconcile net income to net cash provided
      by operating activities:
         Depreciation                                                53
   Changes in assets and liabilities:
         Accounts receivable - trade                               (681)
         Prepaid expenses and other assets                           87
         Accounts payable - trade                                   242
         Percentage lease payable to Lessor                       2,543
         Accrued expenses and other liabilities                     623
                                                                -------
                Net cash provided by operating activities         3,849
                                                                -------
Cash flows from investing activities:
   Purchases of furniture, fixtures and equipment                   (57)
   Advances to lessor, affiliates and shareholders                  (63)
                                                                -------
                Net cash used in investing activities              (120)
                                                                -------
Cash flows from financing activities:
   Distributions to shareholders                                   (392)
                                                                -------

Net increase in cash and cash equivalents                         3,337
Cash and cash equivalents at beginning of the period              5,463
                                                                -------

Cash and cash equivalents at end of period                      $ 8,800
                                                                =======
</TABLE>


    The accompanying notes are an integral part of the financial statements.

                                       14
<PAGE>   15

                            WINSTON HOSPITALITY, INC.
                          NOTES TO FINANCIAL STATEMENTS



The accompanying unaudited financial statements reflect, in the opinion of
Winston Hospitality, Inc. management, all adjustments necessary for a fair
presentation of the interim financial statements. All such adjustments are of a
normal and recurring nature.

During November 1997, CapStar Management Company ("CMC") and CapStar Hotel
Company purchased substantially all of the assets and assumed certain
liabilities of Winston Hospitality, Inc., including 38 hotel leases, certain
operating assets and liabilities, and goodwill and other intangible assets.
Concurrent with the purchase, CMC contributed/assigned the assets purchased and
liabilities assumed in the transaction to CapStar Winston Company, L.L.C.

Certain reclassifications have been made to the 1997 financial statements to
conform with the 1998 presentation as shown in the CapStar Winston Company,
L.L.C. financial statements. These reclassifications have no effect on net
income or shareholders' equity previously reported.







                                       15
<PAGE>   16


ITEM 2 -  MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
          CONDITION AND RESULTS OF OPERATIONS
          ($ AMOUNTS IN THOUSANDS)

OVERVIEW

Winston Hotels, Inc. (the "Company"), which consummated an underwritten initial
public offering ("IPO") in June 1994, follow-on Common Stock offerings in May
1995 and in June 1996, and a Preferred Stock offering in September 1997,
operates as a real estate investment trust ("REIT") to invest in hotel
properties. The Company owned 49 hotels (the "Current Hotels") as of June 30,
1998. The Company owned 16 hotels as of December 31, 1994 (the "1994 Hotels"),
purchased five hotels in May 1995 (the "1995 Acquired Hotels"), acquired 10
hotels in 1996 (the "1996 Acquired Hotels"), acquired seven hotels in 1997 (the
"1997 Acquired Hotels") and acquired eight hotels and opened three internally
developed hotels in the first six months of 1998 (the "1998 Hotels"). It
currently leases 47 of the total 49 Current Hotels to CapStar Winston Company,
L.L.C. (the "Lessee"), one of the Current Hotels to Bristol Hotel Company and
one of the Current Hotels to Prime Hospitality Corporation pursuant to leases
that provide for rent payments based, in part, on revenues from the Current
Hotels (the "Percentage Leases").

RESULTS OF OPERATIONS

The table below outlines the Company's investment in hotel properties for the
six months ended June 30, 1998 and 1997.

<TABLE>
<CAPTION>
                                   Six Months Ended                       Six Months Ended
                                     June 30, 1998                         June 30, 1997
                               -------------------------           ---------------------------
                               Additions      Properties           Additions        Properties
                                 during        owned at             during           owned at
 Type of Hotel                 the period       June 30            the period         June 30
 -------------                 ----------       -------            ----------         -------
 <S>                           <C>            <C>                  <C>              <C>
 Limited-service hotels             1             36                   1                29
 Extended-stay hotels               5              7                  --                 2
 Full-service hotels                5              6                  --                 1
                                    -              -                  --                 -
 Total                             11             49                   1                32
                                   ==             ==                   =                ==
</TABLE>

In order to present a more meaningful comparison of operations, in addition to
the comparison of actual results of the Company and the Lessee for the three and
six months ended June 30, 1998 versus actual results for the three and six
months ended June 30, 1997, the Company has also provided an analysis of the pro
forma results of the Company for the three and six months ended June 30, 1998
versus pro forma results for the three and six months ended June 30, 1997. These
pro forma results are shown as if the 1997 Preferred Stock offering and the 1997
and 1998 acquisitions had occurred on the later of January 1, 1997, or the hotel
opening date for the five acquired and three developed hotels which opened in
the first six months of 1998.

THE COMPANY

ACTUAL - THREE MONTHS ENDED JUNE 30, 1998 VS ACTUAL - THREE MONTHS ENDED JUNE
30, 1997

The Company had revenues of $15,064 in 1998, consisting of $14,999 of Percentage
Lease revenues and $65 of interest and other income. Percentage Lease revenues
increased $5,377 to $14,999 in 1998 from $9,622 in 1997. This increase was
comprised of $3,070 due to the 1998 Hotels and $2,307 due to the 1997 Acquired
Hotels owned for the entire three-month period in 1998.

Real estate taxes and property insurance costs incurred in 1998 were $1,283, an
increase of $692 from $591 in 1997. This increase was primarily attributable to
the 1997 Acquired Hotels and the 1998 Hotels that were not owned in the second
quarter of 1997, as well as increased property tax assessments and tax rates
from 1997 to 1998. General and administrative expenses increased $672 to $1,164
in 1998 from $492 in 1997. The increase was attributable to the increase in size
and activities of the Company in 1998. Interest expense increased by $958 to
$1,954 in 1998 from $996 in 1997. This increase was primarily attributable to an
increase in the weighted average outstanding debt balance of $61,426 from
$56,660 in 1997 to $118,086 in 1998, resulting in an increase in interest
expense of $1,133, offset by an increase of $125 in capitalized interest costs
related to development and renovation projects as well as a decrease in line of
credit fees totaling $50. Interest rates remained constant between the two
quarters. Depreciation increased $1,568 to $3,916 in 1998 from 



                                       16
<PAGE>   17

$2,348 in 1997, primarily due to depreciation related to the 1997 Acquired
Hotels, the 1998 Hotels and renovations completed during 1997 and 1998.

PRO FORMA - THREE MONTHS ENDED JUNE 30, 1998 VS PRO FORMA - THREE MONTHS ENDED
JUNE 30, 1997

The Company had revenues of $15,745 for the three months ended June 30, 1998,
consisting of $15,680 of Percentage Lease revenues and $65 of interest and other
income. Percentage Lease revenues increased $2,368 to $15,680 in 1998 from
$13,312 in 1997. This change was primarily attributable to the opening of eight
hotels in 1998.

Real estate taxes and property insurance costs incurred in 1998 were $1,356, an
increase of $390 from $966 in 1997. The increase was due primarily to increased
property tax assessments and tax rates from 1997 to 1998 as well as additional
taxes and insurance paid due to the opening of eight hotels in 1998. General and
administrative expenses increased $653 to $1,168 in 1998 from $515 in 1997. The
increase was primarily attributable to the increase in size and activities of
the Company from 1997 to 1998. Interest expense increased by $850 to $1,975 in
1998 from $1,125 in 1997. The increase was attributable to $1,064 of additional
interest expense related primarily to borrowings under the line of credit to
fund acquisitions of the five new hotels which opened in 1998 as well as the
development of three additional hotels which opened in 1998. This increase was
offset by both the capitalization of additional interest costs totaling $125, in
connection with the development and certain renovation projects during the
respective periods, as well as a reduction in line of credit fees totaling $89.
Depreciation increased $921 to $4,011 in 1998 from $3,090 in 1997 primarily due
to the opening of eight hotels in 1998 and renovations and other capital
expenditures during 1997 and 1998.

ACTUAL - SIX MONTHS ENDED JUNE 30, 1998 VS ACTUAL - SIX MONTHS ENDED JUNE 30,
1997

The Company had revenues of $25,185 in 1998, consisting of $25,071 of Percentage
Lease revenues and $114 of interest and other income. Percentage Lease revenues
increased $8,301 to $25,071 in 1998 from $16,770 in 1997. Of this increase,
$3,553 was due to the 1998 Hotels and $4,748 was due to the 1997 Acquired Hotels
owned for the entire six-month period in 1998.

Real estate taxes and property insurance costs incurred in 1998 were $2,262, an
increase of $1,106 from $1,156 in 1997. This increase was primarily attributable
to the 1997 Acquired Hotels and 1998 Hotels that were not owned in the first six
months of 1997, as well as increased property tax assessments and tax rates from
1997 to 1998. General and administrative expenses increased $901 to $1,763 in
1998 from $862 in 1997. The increase was attributable to the increase in size
and activities of the Company in 1998. Interest expense increased by $768 to
$2,579 in 1998 from $1,811 in 1997. This increase was primarily attributable to
an increase in the weighted average outstanding debt balance of $38,297 from
$50,873 in 1997 to $89,170 in 1998, resulting in an increase in interest expense
of $1,435, offset by an increase of $592 in capitalized interest costs related
to development and renovation projects, as well as a decrease in line of credit
fees totaling $75. Interest rates remained constant between the two periods.
Depreciation increased $2,504 to $7,074 in 1998 from $4,570 in 1997, primarily
due to depreciation related to the 1997 Acquired Hotels, the 1998 Hotels and
renovations completed during 1997 and 1998.

PRO FORMA - SIX MONTHS ENDED JUNE 30, 1998 VS PRO FORMA - SIX MONTHS ENDED JUNE
30, 1997

The Company had revenues of $27,130 for the six months ended June 30, 1998,
consisting of $27,016 of Percentage Lease revenues and $114 of interest and
other income. Percentage Lease revenues increased $2,857 to $27,016 in 1998 from
$24,159 in 1997. This increase was comprised of an increase of $2,097 related to
the opening of eight hotels in 1998 and an increase of $760 primarily due to
higher room rates in 1998 than 1997.

Real estate taxes and property insurance costs incurred in 1998 were $2,500, an
increase of $572 from $1,928 in 1997. The increase was due primarily to
increased property tax assessments and tax rates from 1997 to 1998 as well as
additional taxes and insurance paid due to the opening of eight hotels in 1998.
General and administrative expenses increased $862 to $1,772 in 1998 from $910
in 1997. The increase was primarily attributable to the increase in size and
activities of the Company from 1997 to 1998. Interest expense increased by
$1,079 to $3,265 in 1998 from $2,186 in 1997. The increase was attributable to
$1,767 of additional interest expense related primarily to borrowings under the
line of credit to fund acquisitions of the five new hotels which opened in 1998
as well as the development of three additional hotels which opened in 1998,
offset by both the capitalization of additional interest costs, totaling $592,
in connection with the development and certain renovation projects during the
respective periods, as well as a reduction in line of credit fees



                                       17
<PAGE>   18

totaling $96. Depreciation increased $1,302 to $7,417 in 1998 from $6,115 in
1997 primarily due to the opening of eight hotels in 1998 and renovations and
other capital expenditures during 1997 and 1998.

THE LESSEE

During November 1997, CapStar Management Company ("CMC") and CapStar Hotel
Company purchased substantially all of the assets and assumed certain
liabilities of Winston Hospitality, Inc., including 38 hotel leases, certain
operating assets and liabilities, and goodwill and other intangible assets.
Concurrent with the purchase, CMC contributed/assigned the assets purchased and
liabilities assumed in the transaction to CapStar Winston Company, L.L.C. (the
"Lessee").

Since the Lessee was not operating prior to the November 1997 Winston
Hospitality, Inc. purchase transaction, no comparative data is available for the
period January 1, 1997 through June 30, 1997. However, for purposes of this
management's discussion and analysis, the financial information of the Lessee
for the three and six months ended June 30, 1998 will be compared with the
financial information of Winston Hospitality, Inc. for the three and six months
ended June 30, 1997. The Winston Hospitality, Inc. financial information for the
three and six months ended June 30, 1997 contained in the tables below has been
reclassified and grouped according to the Lessee format in order to facilitate a
comparison of the data.

ACTUAL - THREE MONTHS ENDED JUNE 30, 1998 VS ACTUAL - THREE MONTHS ENDED JUNE
30, 1997

The following table sets forth certain historical financial information for the
Current Hotels for the periods indicated:

<TABLE>
<CAPTION>
                                                            Three Months Ended                    Three Months Ended
                                                              June 30, 1998                          June 30, 1997
                                                        ---------------------------          ---------------------------
<S>                                                     <C>                  <C>             <C>                  <C>  
Revenue:
   Rooms                                                $30,266               90.2%          $20,488               92.0%
   Food and beverage                                      1,804                5.4%              764                3.4%
   Telephone and other operating departments              1,487                4.4%            1,024                4.6%
                                                        -------              -----           -------              -----
         Total revenue                                   33,557              100.0%           22,276              100.0%
                                                        -------              -----           -------              -----
Operating costs and expenses:
   Rooms                                                  6,583               19.6%            4,095               18.4%
   Food and beverage                                      1,375                4.1%              503                2.3%
   Telephone and other operating departments                741                2.2%              554                2.5%
Undistributed expenses:
   Lease                                                 14,792               44.1%            9,622               43.1%
   Administrative and general                             2,904                8.7%            2,369               10.6%
   Sales and marketing                                    1,197                3.6%              755                3.4%
   Franchise fees                                         2,228                6.6%            1,461                6.6%
   Repairs and maintenance                                1,544                4.6%            1,010                4.5%
   Energy                                                 1,214                3.6%              725                3.3%
   Other                                                    568                1.7%              418                1.9%
   Depreciation and amortization                            262                0.8%               26                0.1%
                                                        -------              -----           -------              -----
         Total expenses                                  33,408               99.6%           21,538               96.7%
                                                        =======              =====           =======              =====
         Net income                                     $   149                0.4%          $   738                3.3%
                                                        =======              =====           =======              =====
</TABLE>

The Lessee had room revenues of $30,266 in 1998, up $9,778 from $20,488 for
Winston Hospitality, Inc. in 1997. The increase in room revenues was due to an
increase in room revenues of (i) $622 for the 1994 Hotels, the 1995 Acquired
Hotels and the 1996 Acquired Hotels, (ii) $4,718 for the 1997 Acquired Hotels,
and (iii) $4,438 for the 1998 Hotels. Food and beverage revenue increased
$1,040, to $1,804 in 1998 from $764 for Winston Hospitality, Inc. in 1997,
primarily due to the 1997 Acquired Hotels and 1998 Hotels. Telephone and other
operating departments revenue increased $463 to $1,487 in 1998 from $1,024 for
Winston Hospitality, Inc. in 1997, primarily due to an increase in revenue
associated with long distance phone calls and in-room movies.

The Lessee had total expenses in 1998 of $33,408, up $11,870 from $21,538 for
Winston Hospitality, Inc. in 1997. The increase, as shown above, in all expense
categories except depreciation and amortization expense, was primarily


                                       18
<PAGE>   19

attributable to the operation of a greater number of hotels for the three months
ended June 30, 1998 as compared with the same period of 1997. Although
administrative and general expenses increased in 1998 from 1997, these expenses
decreased as a percentage of total revenue from 1997 to 1998 as a result of
efficiencies developed within the management company, decreasing the incremental
cost per hotel. Depreciation and amortization expense increased due to
amortization related to goodwill and other intangible assets arising out of the
purchase of Winston Hospitality, Inc. by CMC and CapStar Hotel Company.

Net income decreased for the three months ended June 30, 1998 as a result of the
opening of seven new development hotels during the first and second quarters.
These development hotels endured losses totaling $765 for the second quarter.
The 32 hotels acquired prior to June 30, 1997 generated net income, excluding
amortization of goodwill of $244 not present in 1997, totaling $783 for the
second quarter, a 2.4% increase from the prior year. The eight hotels acquired
subsequent to June 30, 1997 generated net income of $375 for the second quarter.
However, when these amounts are offset by the losses experienced by the
development hotels, the second quarter net income totaled $149. Until these
development properties gain exposure in their respective markets and are able to
surpass the break-even point, they will negatively impact the Lessee's operating
results.


ACTUAL - SIX MONTHS ENDED JUNE 30, 1998 VS ACTUAL - SIX MONTHS ENDED JUNE 30,
1997

The following table sets forth certain historical financial information for the
Current Hotels for the periods indicated:

<TABLE>
<CAPTION>
                                                           Six Months Ended                 Six Months Ended
                                                             June 30, 1998                   June 30, 1997
                                                      -------------------------        -------------------------
<S>                                                   <C>                <C>           <C>                <C>  
Revenue:
   Rooms                                              $52,839             90.8%        $36,813             92.1%
   Food and beverage                                    2,705              4.6%          1,388              3.5%
   Telephone and other operating departments            2,657              4.6%          1,766              4.4%
                                                      -------            -----         -------            -----
         Total revenue                                 58,201            100.0%         39,967            100.0%
                                                      -------            -----         -------            -----

Operating costs and expenses:
   Rooms                                               11,487             19.7%          7,526             18.8%
   Food and beverage                                    2,058              3.5%            948              2.4%
   Telephone and other operating departments            1,214              2.1%            958              2.4%
Undistributed expenses:
   Lease                                               24,865             42.7%         16,770             42.0%
   Administrative and general                           5,386              9.3%          4,603             11.5%
   Sales and marketing                                  2,023              3.5%          1,417              3.5%
   Franchise fees                                       3,836              6.6%          2,579              6.5%
   Repairs and maintenance                              2,766              4.8%          1,925              4.8%
   Energy                                               2,109              3.6%          1,420              3.6%
   Other                                                1,014              1.7%            786              2.0%
   Depreciation and amortization                          519              0.9%             53              0.1%
                                                      -------            -----         -------            -----
         Total expenses                                57,277             98.4%         38,985             97.5%
                                                      =======            =====         =======            =====
         Net income                                   $   924              1.6%        $   982              2.5%
                                                      =======            =====         =======            =====
</TABLE>

The Lessee had room revenues of $52,839 in 1998, up $16,026 from $36,813 for
Winston Hospitality, Inc. in 1997. The increase in room revenues was due to an
increase in room revenues of (i) $2,170 for the 1994 Hotels, the 1995 Acquired
Hotels and the 1996 Acquired Hotels, (ii) $8,762 for the 1997 Acquired Hotels,
and (iii) $5,094 for the 1998 Hotels. Food and beverage revenue increased
$1,317, to $2,705 in 1998 from $1,388 for Winston Hospitality, Inc. in 1997,
primarily due to the 1997 Acquired Hotels and 1998 Hotels. Telephone and other
operating departments revenue increased $891 to $2,657 in 1998 from $1,766 for
Winston Hospitality, Inc. in 1997, primarily due to an increase in revenue
associated with long distance phone calls and in-room movies.

The Lessee had total expenses in 1998 of $57,277, up $18,292 from $38,985 for
Winston Hospitality, Inc. in 1997. The increase, as shown above, in all expense
categories except depreciation and amortization expense, was primarily
attributable to the operation of a greater number of hotels for the six months
ended June 30, 1998 as compared with the



                                       19
<PAGE>   20

same period of 1997. Although administrative and general expenses increased in
1998 from 1997, these expenses decreased as a percentage of total revenue from
1997 to 1998 as a result of efficiencies developed within the management
company, decreasing the incremental cost per hotel. Depreciation and
amortization expense increased due to amortization related to goodwill and other
intangible assets arising out of the purchase of Winston Hospitality, Inc. by
CMC and CapStar Hotel Company.

Net income decreased for the six months ended June 30, 1998 as a result of the
opening of seven new development hotels during the first and second quarters.
These development hotels endured losses totaling $916 for the six months ended
June 30, 1998. The 32 hotels acquired prior to June 30, 1997 generated net
income, excluding amortization of goodwill of $488 not present in 1997, totaling
$1,518 for the six months ended June 30, 1998, a 54.6% increase from the prior
year. The eight hotels acquired subsequent to June 30, 1997 generated net income
of $810 for the six months ended June 30, 1998. However, when these amounts are
offset by the losses experienced by the development hotels, the net income for
the six months ended June 30, 1998 totaled $924. Until these development
properties gain exposure in their respective markets and are able to surpass the
break-even point, they will negatively impact the Lessee's operating results.

LIQUIDITY AND CAPITAL RESOURCES

The Company finances its operations from operating cash flow, which is
principally derived from Percentage Leases. For the six months ended June 30,
1998, cash flow provided by operating activities was $13,698. Funds from
operations, as defined below, was $8,840 for the quarter ended June 30, 1998 and
$14,936 for the six months ended June 30, 1998. Under Federal income tax law
provisions applicable to REITs, the Company is required to distribute at least
95% of its taxable income to maintain its tax status as a REIT. For the six
months ended June 30, 1998, the Company declared distributions of $13,214 to its
shareholders. Because the Company's annual cash flow from operating activities
is expected to exceed its annual taxable income due to depreciation and
amortization expenses, the Company expects to be able to meet its distribution
requirements out of cash flow from operating activities.

The Company's net cash used in investing activities for the six months ended
June 30, 1998 totaled $117,189, including $94,173 related to the acquisition of
eight of the 1998 Hotels, $7,964 related to the development of three of the 1998
Hotels, $7,250 for hotel renovations and $7,847 for the development of one
additional extended-stay hotel, one additional limited-service hotel and three
additional full-service hotels, which are expected to cost approximately
$57,985, of which approximately $11,773 has been financed. The total cost of the
1998 Hotels was $124,453, including $30,280 related to the development of three
Homewood Suites hotels in Raleigh, N.C., Lake Mary, FL and Alpharetta, GA.

The Company plans to spend approximately $7,300 to renovate certain of its
Current Hotels during the next twelve months. These expenditures are in addition
to the reserve of 5% of room revenues for its limited-service hotels and 7% of
room revenues and food and beverage revenues from its full-service hotels which
the Company is required to set aside under its Percentage Leases for periodic
capital improvements and the refurbishment and replacement of furniture,
fixtures and equipment at its Current Hotels. In the six months ended June 30,
1998, the Company set aside $2,829 for such reserves. These reserves are in
addition to amounts spent on normal repairs and maintenance which have
approximated 5.2% of room revenues for both the six months ended June 30, 1998
and 1997, and are paid by the Lessee.

The Company's net cash provided by financing activities during the six months
ended June 30, 1998 totaled $103,735, including an increase of $73,795 in the
line of credit borrowings, an increase of $42,900 in demand note borrowings and
$600 of net proceeds from the issuance of common stock related to the exercise
of stock options, offset by the payment of distributions to shareholders of
$12,615 and the payment of distributions to minority interest holders of $940.

The Company's outstanding bank debt balance as of June 30, 1998 was $160,776.
This amount consisted of $117,876 outstanding under its $125,000 line of credit
as well as $42,900 outstanding under various 90-day demand notes (see Note 5 in
the accompanying Notes to Consolidated Financial Statements). The Company is
currently in negotiations with several lenders to refinance its $125 million
line of credit and also obtain long-term fixed-rate financing to replace its
current amount outstanding under demand notes totaling $42,900. The Company
anticipates finalizing these negotiations by the end of the current fiscal year,
however, there can be no assurances that the Company will be successful in these
efforts.

As of June 30, 1998, the Company has collateralized $123,190 of its $125,000
line of credit with 28 of its Current Hotels. This amount is calculated
quarterly, and increases if cash flow attributable to the collateral hotels
increases and/or the Company adds additional hotels as collateral. The total
additional, non-collateralized line availability accessible to the 



                                       20
<PAGE>   21

Company as of June 30, 1998 was $1,810. The Company's Articles of Incorporation
limit its total amount of indebtedness to 45% of the purchase prices paid by the
Company for its investments in hotel properties, as defined. As of June 30,
1998, the Company had additional borrowing capacity under the debt limitation of
approximately $55,400 assuming it invests all borrowings in additional hotels.

The Company is continually evaluating its hotel portfolio and acquisition
opportunities and intends to acquire and develop additional hotel properties
that meet its investment criteria. As part of this analysis, the Company is also
considering selling certain assets as attractive opportunities present
themselves. It is expected that future hotel acquisitions will be financed, in
whole or in part, from additional follow-on offerings, borrowings under the line
of credit or additional demand notes, joint venture agreements, proceeds from
the disposition of hotels and/or the issuance of other debt or equity
securities. There can be no assurances that the Company will acquire any
additional hotels, or that any hotel development will be undertaken, or if
commenced, that it will be completed on schedule or on budget. Further, there
can be no assurances that the Company will be able to obtain any additional
financing.

SEASONALITY

The hotels' operations historically have been seasonal in nature, reflecting
higher REVPAR during the second and third quarters. This seasonality and the
structure of the Percentage Leases, which provide for a higher percentage of
room revenues above the minimum equal quarterly levels to be paid as Percentage
Rent, can be expected to cause significant fluctuations in the Company's
quarterly lease revenue under the Percentage Leases.

FUNDS FROM OPERATIONS

The Company considers Funds From Operations ("FFO") a widely used and
appropriate measure of performance for an equity REIT. FFO, as defined by the
National Association of Real Estate Investment Trusts ("NAREIT"), is income
(loss) before minority interest (determined in accordance with generally
accepted accounting principles), excluding gains (losses) from debt
restructuring and sales of property, plus real estate related depreciation and
amortization and after adjustments for unconsolidated partnerships and joint
ventures. FFO is presented to assist investors in analyzing the performance of
the Company. The Company's method of calculating FFO may be different from
methods used by other REITs and, accordingly, may not be comparable to such
other REITs. FFO (i) does not represent cash flows from operating activities as
defined by generally accepted accounting principles, (ii) is not indicative of
cash available to fund all cash flow and liquidity needs, including the
Company's ability to make distributions, and (iii) should not be considered as
an alternative to net income (as determined in accordance with generally
accepted accounting principles) for purposes of evaluating the Company's
operating performance.

The following presents the Company's calculation of FFO and FFO per share (in
thousands, except per share data):

<TABLE>
<CAPTION>
                                                  Three Months Ended               Six Months Ended
                                                       June 30,                       June 30,
                                                ----------------------        ----------------------
                                                  1998           1997           1998           1997
                                                -------        -------        -------        -------
<S>                                             <C>            <C>            <C>            <C>    
Net income before allocation to minority
   interest                                     $ 6,658        $ 5,178        $11,331        $ 8,344
Plus: depreciation                                3,916          2,348          7,074          4,570
Less: preferred stock dividends                   1,734             --          3,469             --
                                                -------        -------        -------        -------

FFO                                             $ 8,840        $ 7,526        $14,936        $12,914
                                                =======        =======        =======        =======

Weighted average number of common shares
   assuming dilution                             18,068         17,145         18,055         17,149
                                                -------        -------        -------        -------

FFO per share                                   $  0.49        $  0.44        $  0.83        $  0.75
                                                =======        =======        =======        =======
</TABLE>



                                       21
<PAGE>   22


YEAR 2000 MANAGEMENT

In order to address the computer industry's "Year 2000" problem, the Company is
in the process of evaluating hardware and software components in place at its
principal offices. Management does not believe the costs for any needed upgrades
to be significant. The Company is also in the process of determining whether the
companies that manage its hotels are in the process of studying the "Year 2000"
issue. Upon completion, the Company will determine the extent to which it is
vulnerable to third parties' failure to remediate their own "Year 2000" issues
and the costs associated with resolving this issue.

FORWARD LOOKING STATEMENTS

This report contains certain "forward looking" statements within the meaning of
Section 21E of the Securities Exchange Act of 1934, as amended, including, but
not limited to, those paragraphs relating to development and acquisition of
hotels in this section. These statements represent the Company's judgment and
are subject to risks and uncertainties that could cause actual operating results
to differ materially from those expressed or implied in the forward looking
statements. Important factors that could cause actual results to differ include,
but are not limited to the following: (i) risk associated with the Company's
acquisition of hotels with little or no operating history, including the risk
that such hotels will not achieve the level of revenue assumed by the Company in
calculating the respective Percentage Rent formula; (ii) development risk,
including risk of construction delay, cost overruns, receipt of zoning,
occupancy and other required governmental permits and authorizations and the
incurrence of development costs in connection with projects that are not pursued
through completion; and (iii) factors identified in the Company's filings with
the Securities and Exchange Commission, including the factors listed in the
Company's Registration Statement on Form S-3 filed with the Securities and
Exchange Commission on August 1, 1997.









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<PAGE>   23



PART II - OTHER INFORMATION

Item 6.  Exhibits and Reports on Form 8-K.

         (a)      Exhibits.

                  27.      Financial Data Schedule (For SEC use only)

         (b)      Reports on Form 8-K.

                  No reports on Form 8-K were filed during the quarter ended
                  June 30, 1998.









                                       23
<PAGE>   24



                                   SIGNATURES


       Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.


                                 WINSTON HOTELS, INC.



Date  February 23, 1999               /s/ James D. Rosenberg                 
      --------------------       --------------------------------------------
                                James D. Rosenberg
                                 President, Chief Financial Officer and
                                   Chief Operating Officer
                                 (Authorized officer and Principal Financial
                                   Officer)









                                       24
<PAGE>   25



                              WINSTON HOTELS, INC.
                  FORM 10-Q for the quarter ended June 30, 1998

                                  EXHIBIT INDEX

<TABLE>
<CAPTION>
Exhibit
Number                     Description of Exhibit
------                     ----------------------

<S>                        <C>                                           
27.                        Financial Data Schedule (For SEC use only).
</TABLE>




















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