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Extended Stay America Inc (NASDAQ:STAY)
Q2 2020 Earnings Call
Aug 11, 2020, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings. Welcome to Extended Stay America's Second Quarter Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions]

I will now turn the conference over to your host, Rob Ballew, Vice President of Investor Relations. Thank you. You may begin.

Rob Ballew -- Vice President, Investor Relations

Good morning, and welcome to Extended Stay America's second quarter 2020 conference call. Both the second quarter earnings release and an accompanying presentation are available on the Investor Relations portion of our website at esa.com, which you can access directly at www.aboutstay.com. The accompanying presentation has supplemental data on recent trends and comparison to recent industry and segment results.

Joining me on the call this morning are Bruce Haase, Chief Executive Officer; and Brian Nicholson, Chief Financial Officer. After prepared remarks by Bruce and Brian, there will be a question-and-answer session.

Before we begin, I'd like to remind you that some of our discussions today will contain forward-looking statements, including a discussion of our 2020 outlook for certain items and expectations regarding the COVID-19 pandemic. Actual results may differ materially from those indicated in the forward-looking statements. Forward-looking statements made today speak only as of today. The factors that could cause actual results to differ from those implied by the forward-looking statements are discussed in our Form 10-K filed with the SEC on February 26, 2020, and in our Form 10-Q filed yesterday evening with the SEC.

In addition, on today's call, we will reference certain non-GAAP measures. More information regarding these non-GAAP measures, including reconciliation of those comparable GAAP measures, are included in the earnings release and Form 10-Q filed yesterday evening with the SEC. We also refer to RevPAR index, which refers to a percentage score calculated by comparing RevPAR on a comparable systemwide basis to an aggregate RevPAR of a group of competing hotels, generally in the same market, based on a weighted average of individual property results.

And with that, I will turn it over to Bruce.

Bruce N. Haase -- President/Chief Executive Officer

Thanks, Rob, and good morning, everyone. To start off, I'd like to say thanks to our nearly 8,000 employees for all of their hard work and tireless efforts over the past few months. Not only did our dedicated associates keep 100% of our properties in continuous operations during the most difficult period in the history of the lodging industry, but thanks for their efforts we also made strong strides in building our business for the post-pandemic long term.

While I am very pleased with our financial and operating performance during the quarter, I'm most proud of how we achieved those results. Our Company has come together as a team like never before. We've leaned hard into our corporate values, putting people first, doing what's right and caring for our community. The acts of kindness, compassion and understanding that our associates have demonstrated every day to their team mates, and our guests' during this difficult period represents behaviors that make those values real. And I firmly believe that Extended Stay America's culture has had a huge impact on the financial results we're pleased to report today.

While the COVID-19 pandemic has severely tested our business and our people, it's also strengthened our Company. Not only did we keep every hotel in the system open for business, we've grown occupancy across the system each week since April. We're now generating positive cash flow. We avoided significant furloughs in our hourly ranks, and we're actively hiring across our portfolio. We have continued to invest in our people, in our business. We've added strong talent with deep industry experience in the extended stay segment across the organization, and those investments are already making a noticeable difference.

Our ability to avoid management furloughs at headquarters and across the country is unparalleled in the industry today, and a significant competitive advantage as we were able to maintain continuity throughout this crisis. Our entire Company is highly motivated. And for the management team that means we are squarely focused on improving the business and planning for the future.

Our second quarter results clearly demonstrate that Extended Stay America and our business model is far different from the transient lodging brands. During the second quarter, our comparable systemwide RevPAR declined by 28.7% and that compares to industry declines of 70% and declines of roughly 50% for other mid-priced extended stay hotel rooms. In fact, we beat every benchmark in the industry by a large amount in the second quarter. Our performance exceeded the overall industry, competitive mid-priced extended stay hotels, our competitive set, as well as the economy and mid-scale chain scales. Our RevPAR index increased by over 4,600 basis points to 141% in the second quarter.

But we are much more than an outperformer during a long and lingering pandemic. Our singular focus on the extended stay segment is not only a strategic advantage during difficult industry cycles, but I believe it will also be a source of value creation as we return to more normal times. One reason is that our Company and our business model is incredibly flexible and adaptable. Our teams are nimble and quick to react to changing market conditions.

Last spring, we saw many important demand drivers such as transient leisure essentially disappear during the quarter. Our teams pivoted quickly to find new sources of extended stay demand from segments, such as warehousing and logistics, temporary medical and construction. And difficult economic times often create transition in people's lives and those transitions also increases the demand for our products. Early on, we aligned our field operations, sales and revenue management teams around a single goal, find new sources of extended stay demand and bring those customers to our hotels.

As the environment changes, we can and we will adjust our sources of extended stay business, a segment which remains under served. In doing so, we can outperform during the difficult times and fully participate in the better times, all with limited volatility for our shareholders. These are some of the themes we intend to explore more fully in the Analyst Day presentation being planned for later this year. In addition to our national and field based extended stay sales force, we're now seeing the positive impact of our additional improvements to our proprietary distribution channels, our website and our call center.

As the only lodging distribution system solely focused on the extended stay segment, ESA's proprietary channels are very valuable assets. During the second quarter, revenue from ESA's proprietary channels, which generates most of our extended stay business, were down only 18%, compared to a 55% decline for revenue delivered from third-party OTA and opaque channels. We believe that our product also represents a competitive advantage. 100% of our guest rooms have full kitchen, giving our guests an unprecedented level of control over their travel experience, a critical customer preference that is likely to be even more appreciated than it was before.

To highlight our product advantages and the leading health and safety practices, we launched our STAY Confident program in May. STAY Confident provides a uniform platform to communicate all of the actions we're taking to keep our guests safe, healthy and in control of their travel experience. We believe our value proposition for a growing number of guests is stronger than ever, and that value proposition in combination with our driveable suburban locations, accessible price points, and our ability to adapt to changing market conditions positions us to continue to outperform.

I'd like now to turn to some of the more recent trends that we've seen in our business during the month of July. Today, our Company occupancy levels are the envy of the industry. Our systemwide occupancy has increased every week since mid-April. From a low point in the high 50% range in April, we are now operating at an 81% occupancy level in August. This is above both our 2019 full-year average and consistent with pre-pandemic levels, at this time last year. We believe our occupancy is currently the highest of any publicly reporting brand in the US today, including significantly more residential economy extended stay hotel brands. And our results are widespread.

In the second quarter, a handful of markets achieved either positive RevPAR performance or declined less than 5%. And these statistics have continued to improve in August, with 17 of our top 50 markets currently showing either positive RevPAR comparisons or down just 5% or less. Average daily rate has improved as well from $53 ADR in late April to $59 last week. We now have more hotels operating above 90% occupancy than below 70%. This has enabled our revenue management teams to adjust pricing in many hotels, including pulling back on some deeply discounted promotional rates for stays of 60 nights or longer that we introduced early on in the pandemic.

The sense of urgency and alignment resulting from COVID-19 pandemic has accelerated the implementation of many strategic initiatives. Most prominently, we are focused on improving our core operations, and driving extended stay demand. I'm particularly proud of the rapid progress we've made driving more guests through our proprietary distribution channels. While we have seen some decrease in business delivered from our national accounts due to COVID-19, our field sales teams are delivering business at levels that are consistent with this time last year, and I believe that's a major accomplishment in this environment.

We're also seeing encouraging results from our initial improvements in our call center and our website, esa.com. Revenue from these proprietary channels has been down only roughly 10% in recent weeks. And on some days, we have even seen year-over-year book revenue growth at esa.com and our call center. The mix of revenue from extended stay guests during the second quarter increased to 72%, compared to 61% in the same period of 2019. Nearly, already achieving our long-term goal of 75% to 80% of our revenue coming from our core extended stay guests.

Throughout the Company, we continue to invest in our people and upgrade talent where necessary. Our commercial engine has benefited from many new leadership positions, including a new VP of Marketing and E-commerce, a new Creative Director, and a new sales leader. We continue to top grade our property management organization, including two new regional vice presidents and multiple high quality district managers. We also are building our franchise capabilities with new leaders in franchise development and services. All of these folks are long time industry leaders with extensive experience in the extended stay segment. These capabilities will facilitate our shift to an asset-light growth strategy already under way.

I've said this before, and I believe it firmly now more than ever, Extended Stay America has the most compelling value proposition in the industry for both developers that want to build new extended stay hotels, and for owners of existing extended stay hotels that may wish to convert. The awareness of the ESA brand and our singular focus on the extended stay segment in everything we do, coupled with our proven prototype and industry-leading performance through the pandemic, positions us very well to be the leading extended stay franchisor in the industry. We believe that ESA offers a superior value proposition compared to our competitors that offer transient oriented revenue assistance.

Today, for example, our four largest franchisees have seen phenomenal performance through the pandemic, with some even seeing year-to-date revenue on par with 2019. Our first new construction franchised hotel that opened in May is already running at RevPAR level of over $50 in recent weeks. With the strength of our model throughout this crisis and a strong support system, we are seeing significant interest from franchisees, especially around conversion opportunities in the near-term and new construction, as the credit market sees in the future.

Despite the challenges from COVID-19 and the chill in the market for asset sales, our portfolio remains a source of long-term shareholder value. Strategically curating the portfolio to identify properties with a higher and better use that can trade at accretive multiples remains a core tenant of our long-term strategy. The current environment may have slowed our ability to execute this strategy, but we remain confident that this will be an area of shareholder value creation in the years to come.

Before I turn the call over to Brian for more details, I'd like to touch on our liquidity position. In the last three months, we have moved from a pro forma cash burn of approximately $15 million per month after interest in capex in April, to a pro forma cash increase of $5 million to $10 million per month in the month of July. These results include significant investments in on-balance-sheet new build development that will begin to taper off soon as we wind down our on-balance-sheet development program.

Due to our increased confidence in our ability to generate cash in this challenging environment, last week we repaid our $350 million revolver at our REIT subsidiary from cash on hand. As our cash flow continues to grow, we expect to delever the balance sheet, continue to invest in our core business, and judiciously return capital to shareholders. Despite the challenges in the lodging environment, I am convinced now more than ever that given our unique business model, the talents of our team and the strength of our corporate culture, there are significant growth and value creations for ESA in the coming years.

I am confident that we can continue to outperform during these difficult times, fully participate in better times when they arrive, executing our growth plans, and create significant shareholder value in the process. The best days for this Company are ahead of us which, of course, includes growing adjusted EBITDA to 2019 levels and beyond in the years to come.

I'll now turn the call over to Brian to discuss our second quarter financial results further, provide more details on our balance sheet and leverage, and discuss some guidance for third quarter and 2020. Brian?

Brian Nicholson -- Chief Financial Officer

Thank you, Bruce. In the second quarter, comparable systemwide RevPAR declined 28.7% due to the COVID-19 pandemic, compared to the same period in 2019, driven by an 18.3% decline in ADR, as well as an approximately 1,010 basis point decline in occupancy. The drop in RevPAR was most pronounced in April, where we saw declines of approximately 35% year-over-year, while June saw RevPAR declines of approximately 24%. The decline in RevPAR was primarily driven by a 50% decline in transient business, compared to a 16% decline in business from our core extended stay guests.

Revenue for guests staying a month or longer declined less than 10% during the quarter. For the first half of 2020, comparable systemwide RevPAR declined 18.1%. Revenue from third-party channels declined 55% during the second quarter, predominantly from OTAs. ESA's channels saw revenue declines of less than 20%, driven by a 13% decline in revenue from our call center. This pattern also held true even with our zero night to six night guests. We saw revenue from third-party channels decline approximately 60%, while revenue from transient guests through ESA's channels declined approximately 35%. The Company's RevPAR index increased 49% year-over-year to 140.6% in the second quarter, with relative gains in both occupancy and rate.

Hotel operating margin declined 1,270 basis points in the second quarter to 41.7%. The decrease in hotel operating margin was driven by decreased Company-owned hotel RevPAR. Partially offsetting the decline in RevPAR was a 10% decline in comparable hotel operating expenses in the second quarter. The decline in operating expenses was driven by a decrease in OTA commissions, a decrease in digital marketing expense, a reduction in labor cost and a reduction in credit card fees, partially offset by increased expense for personal protective equipment for our associates, an increase in property taxes and insurance, and a $1 million increase in allowance for guest non-payment. Hotel operating margin rose from 35.2% in April to 45.4% in June. Hotel operating margin for the first half of 2020 declined 860 basis points to 43.8%.

Corporate overhead expense, excluding share-based compensation and transaction costs, fell from $22.8 million in the first quarter of 2020 to $21.1 million in the second quarter of 2020, as we paired back expenses from our 2020 budget, but was up slightly from the second quarter of 2019 due primarily to increased short-term incentive compensation expense.

Adjusted EBITDA in the second quarter was $74.4 million, compared to $153.6 million in the same period in 2019. The decline in adjusted EBITDA was driven by the decline in RevPAR, partially offset by a decrease in property level expenses. Adjusted EBITDA was $15.5 million in April, $26.9 million in May, and $31.9 million in June. Adjusted EBITDA for the first half of 2020 was $172.1 million, compared to $270 million in the first half of 2019.

Net interest expense during the quarter increased by $3.8 million to $33.6 million, due to increased debt outstanding, partially offset by a lower LIBOR rate. The Company had an income tax benefit of approximately $6.1 million in the second quarter, compared to $11.2 million income tax expense in the same period in 2019.

Adjusted FFO per diluted paired share declined 67.9% in the second quarter to $0.17 per share, compared to $0.53 in the same period in 2019. The decline in adjusted FFO per diluted paired share was driven by a decline in comparable systemwide RevPAR and an increase in net interest expense, partially offset by an income tax benefit and a reduction in paired shares outstanding. Adjusted FFO per diluted paired share for the first half of 2020 was $0.48, compared to $0.89 in the first half of 2019.

The Company had a net loss of $8.8 million during the quarter, compared to net income of $59.7 million in the same period in 2019. The decrease in net income was driven by a decline in comparable systemwide RevPAR, an increase in depreciation expense and net interest expense, partially offset by a decrease in hotel operating expenses and an income tax benefit. The overwhelming majority of the net loss in the quarter occurred in April as the Company recorded net income of approximately $2 million in June. The Company had a net loss of $0.9 million for the first half of 2020, compared to net income of $88.1 million in the first half of 2019.

Adjusted paired share loss per diluted paired share in the quarter was $0.04 compared to income of $0.32 in the same period in 2019. The decrease was primarily due to the decline in RevPAR as well as increased depreciation and net interest expense partially offset by an income tax benefit and a reduction in paired shares outstanding. Adjusted paired share income per diluted paired share for the first half of 2020 was $0.03 compared to $0.48 in the first half of 2019.

The Company ended the second quarter with $682 million in cash and restricted cash, and total debt outstanding of approximately $3.08 billion. Due to the Company's significantly improved operating position since April and with the Company currently generating positive cash flow at RevPAR levels in June, July, and so far in August, we repaid the $350 million REIT revolver last week with cash on hand, reducing our gross debt outstanding to $2.7 billion. We feel our balance sheet is strong, with ample cash and liquidity and no significant maturities until May 2025 and covenant-light debt.

We are pleased that we are once again generating positive free cash flow. As Bruce mentioned earlier, at Q3 RevPAR levels to-date, the Company generates pro forma between $5 million and $10 million in net positive cash flow per month, even including our significant investment into on-balance sheet hotels, which we expect to wrap up in the first half of 2021. Our focus on uses for free cash flow in the near- and medium-term will be to maintain sufficient liquidity, to delever our balance sheet, to invest in our core business, and prudently to return capital to shareholders.

Capital expenditures in the second quarter totaled $50.7 million, including $1.8 million for renovation capital and $21.8 million for hotel development. The Company opened three new purpose-built ESA hotels during the quarter, while our franchisee opened one new purpose-built ESA hotel. As a reminder, after we complete the on-balance sheet hotel development process in the first half of 2021, we expect to grow unit count predominantly, if not exclusively, through franchise growth rather than through on-balance sheet development. Our total pipeline stood at 69 hotels at the end of the second quarter. We do not expect the pipeline to begin to increase meaningfully again until the financing market improves and general RevPAR levels begin to increase. But we remain very active in discussions with current and potential franchisees both for conversions in the near to medium-term and new build in the medium to long-term.

Yesterday, the Board of the ESH Hospitality Incorporated declared a cash dividend of $0.01 per paired share payable on September 8, 2020 to shareholders of record as of August 25, 2020. The management team and the boards of ESA and ESH Hospitality continued to review the Company's distribution levels. ESH Hospitality will continue to meet its REIT requirements, including distribution to shareholders of at least 90% of its pre-tax income. The Company did not repurchase any paired shares during the second quarter and our current total outstanding remaining authorization for paired share repurchase remains $101.1 million. The Company does not currently expect to resume share repurchases this year.

For the third quarter, the Company expects comparable systemwide RevPAR declines between 18% and 21% and adjusted EBITDA between $98 million and $105 million. RevPAR in July declined approximately 20% partially helped by the July 4 holiday shift and is down approximately 18% month-to-date in August. Comparable systemwide occupancy in recent weeks has been around 80%, hitting 81.5% last week. Adjusted EBITDA in July was approximately $38 million.

Due to the uncertain nature of the pace of the economic recovery, the results of the upcoming election, the potential for future shutdowns are going backward in reopening phases as well as the unknown timeline for a vaccine, we will not provide guidance for the full year 2020 for most operating metrics. However, we do continue to expect capital expenditures for the year to be between $160 million and $190 million, while we lower our net interest expense estimate to $133 million due to lower LIBOR rates and the revolver pay-down at ESH Hospitality. We modestly increased our depreciation expense expectation for the year to $198 million to $203 million.

Operator, let's now go to questions.

Questions and Answers:

Operator

Thank you. [Operator instructions] Our first question is from Anthony Powell with Barclays. Please proceed.

Anthony Powell -- Barclays -- Analyst

Hi, all. Good morning, and congrats on some of the better results you have seen this quarter.

Bruce N. Haase -- President/Chief Executive Officer

Thanks, Anthony.

Anthony Powell -- Barclays -- Analyst

Just a question on I guess how we should think about the recovery. Obviously, you guys have increased your extended stay business a lot, but in kind of prior to RevPAR and EBITDA time periods, there wasn't transient business. So do you need to change in business to get back to kind of prior peak RevPAR and EBITDA or can you kind of get there exclusively through remaining through the extended stay segments of the business?

Bruce N. Haase -- President/Chief Executive Officer

Yeah. Hi, thanks for your questions. Yeah, transient business will always be part of the business model. I think the Company relied a bit too much on transient business in the past, it was up to 35% of our mix and that was really quite stressful for the business and the operations. Transient business, our goal is to be around, 20%, 25% to fill in the gaps. And I think that's our long-term goal. And certainly, in terms of profitability, I think that mix will be more profitable for us in the long -term. And in terms of RevPAR, I think you will also see our ability to get back to peak RevPAR performance without as much transient business as we had in the past. That's been demonstrated by some of our franchisees. Pre-pandemic, they were operating at levels similar to us in terms of transient business they made that shift prior to the pandemic and demonstrated positive RevPAR performance, which has also helped them throughout this period. Brian?

Brian Nicholson -- Chief Financial Officer

I think that answered it fairly. I think the -- Anthony the pre-pandemic, as Bruce indicates, it was our target to try to reduce our transient mix from about a third of our business to something closer to a fifth of our business. Obviously, since the pandemic has happened that has helped us to reach those goals faster than we would have otherwise, but we intend to hold serve and to continue to build out business from here with that mix that is really more optimal for our operating model.

Anthony Powell -- Barclays -- Analyst

Yeah, thanks. And I guess on that topic, this 30-day kind of quasi residential and that's more than business extended stay, and how that mix trended through the year? And are you seeing more as that project or business type stay increase month over month as you are progressing?

Bruce N. Haase -- President/Chief Executive Officer

Yeah, sure. I mean, when the pandemic hit, that was the first place we went. We went to the 30-day plus business because we knew that the more residential business would grow during uncertain times and that's exactly what we did early on sort of the March timeframe, we really leaned into some highly discounted residential rates. We have a rate that is for folks that want to stay for 60 nights or plus, they pay up half of it upfront and that is a very highly discounted rate. Since then, we have backed off on some of those rates as our occupancy has increased and we have a number of hotels that are operating it 85% to 90% for those hotels. We have taken that rate off the system in favor of a higher monthly rate, which we call our retail monthly rate. So, the good thing about this business is we are very flexible. We can adjust in terms of revenue management strategies as we see changing market dynamics. And through this pandemic, our markets have been very -- there is a lot of volatility out there. We have a number of markets -- actually we have four markets that are actually positive RevPAR performance year-to-date, including Charlotte, which is pretty amazing. And as we said, in the remarks, we also have a number of markets that are positive RevPAR performance in the month of July. On the other hand, we obviously have some markets that are negative and many markets that have opened up and reclosed or have some other local issues. So, it's a very local business and that's why we have a revenue management staff in the field and headquarters that can manage those local dynamics and maximize performance as things change.

Brian Nicholson -- Chief Financial Officer

Anthony, one other thing I would add and I think this is just highlights the flexibility that Bruce mentioned. We have mentioned prior that we changed our incentive programs, rather than tying those incentive programs to budget performance, we began incenting our field personnel, our sales personnel to generate 30 plus business and for the hotels for groups of hotels for which they were responsible, essentially gave them targets that ticked up month-to-month in terms of 30 plus business. We have identified enough project business that we have actually changed that incentive now beginning in July to incent people to produce more seven plus business. So it's not just to focus on that residential, but it's really more true extended stay for a week or longer.

Anthony Powell -- Barclays -- Analyst

All right. Thank you.

Bruce N. Haase -- President/Chief Executive Officer

Thank you.

Operator

Our next question is from Chris Woronka with Deutsche Bank. Please proceed.

Chris Woronka -- Deutsche Bank -- Analyst

Hey, good morning, guys, and congratulations on a very solid quarter in these times. Question was on your franchise pipeline and I was hoping maybe you can give us a little bit of color on what some of those franchisees look like in terms of what they own currently or do they own other hotels currently? And then as you are talking to them through this process, do you think financing or anything like that has become more of an issue and how you think about that the cadence of your pipeline going forward?

Bruce N. Haase -- President/Chief Executive Officer

Sure. Franchising continues to be a major strategic initiative for us. As we mentioned in the remarks, we have hired a number of people in franchise service and franchise development in the second quarter, all the industry veterans who know the industry and particularly know the extended stay segment. So, this is -- it's a difficult time for franchising, but we are not backing away from it in anyway, shape or form and we are committed to that segment of the business. What we are seeing right now is, we are seeing a lot of conversion interest. Unfortunately, the universe of convertible product to extended stay is not as large as the universe for our transient competitors, but there is still product out there. Many of these owners or potential owners are looking to transact in terms of the change of control from the current ownership. Many of those are coming to us. We are seeing Candlewood potential conversions, Hawthorne potential conversions, TownePlace Suites potential conversions, some other brands as well. On the new build side, we have a lot of interest. But again, there is some folks that have access to capital, but many don't. And I would say, those conversations are longer down the road.

Chris Woronka -- Deutsche Bank -- Analyst

Okay. Appreciate the color, Bruce. And then on in terms of how we think about margins going forward, I know you had made some changes in terms of breakfast and housekeeping you do provide. And I know at the time those are viewed as temporary, do you think there is any kind of longer term changes to your model, which is obviously already less labor intensive than others, but do you think some of these changes do stick around?

Bruce N. Haase -- President/Chief Executive Officer

Yeah, excuse me. Yes, I think, it's probably too early to tell. I think, the main way we can influence margin is obviously the shift of mix from transient to more extended stay business in more normal times. Right now, we have seen some savings through breakfast that was offset by further expenses from PP&E. We have seen labor savings from less transient business, labor savings from less frequent cleaning of rooms for long stay guests, closing down some amenities. Wage pressure potentially could abate a bit in the future. We haven't seen that yet, but that is a possibility.

Brian Nicholson -- Chief Financial Officer

I think that...

Bruce N. Haase -- President/Chief Executive Officer

Summarizes.

Brian Nicholson -- Chief Financial Officer

I think that summarizes it well.

Chris Woronka -- Deutsche Bank -- Analyst

Okay. Very good. Thanks, guys.

Operator

Our next question is from Chad Beynon with Macquarie Group.

Chad Beynon -- Macquarie Group -- Analyst

Hi, good morning. Thanks for taking my question and congrats on the quarter.

Bruce N. Haase -- President/Chief Executive Officer

Thank you.

Chad Beynon -- Macquarie Group -- Analyst

Brian, wanted to get in a little bit more detail in the third quarter guidance, which you noted July and August how that's trending and that's going to rate where the guidance is for September? How does the potential online learning and kids not going back to school, do you think this helps, hurts or is indifferent in terms of what you normally see in a September month from a RevPAR standpoint, do you think this dynamic could kind of change anything when we get into that period? Thanks.

Brian Nicholson -- Chief Financial Officer

Thanks, Chad. That's a very good question. As we have hinted, we are comfortable guiding to third quarter and the -- basically the width of the range in third quarter is driven in large part by exactly those kinds of questions about September. I think a case could be made that an online learning environment in most of the markets around the country will be a little bit more disruptive to business travel. I think you could also make the case that we continued to grow our business, especially within groups and types of business back in the May-June timeframe when online learning was already prevalent. And so I have some confidence in our team out in the field that they can continue to identify and bring that business into our hotels despite the online learning environment. As we move further into 2020, I think the -- there are more items of concern, you get into a Presidential election season that can -- there can be just a lot of unknowns around what's going on. And then when we get back into more people indoors and less exposure to sunlight, less vitamin D, who knows what happened to case counts. And so, we do -- we are going to watch these things very, very carefully. Fortunately, we have a tremendous number of hotels around the country. We are in every major market, except the Wahoo within the United States. We have the ability to really watch carefully to see what's working to apply learnings from one part of the country to another. And so yes, I think ultimately the business response there lies in resilience.

Bruce N. Haase -- President/Chief Executive Officer

Yeah. The only thing -- yeah, I agree with everything Brian said. The only thing I would like to add is that, you need to think differently about our business customers and traditional business. I mean, the folks that are staying at our hotels for business are not people that have the option to be on Zoom calls like the rest of us do. I mean, they have to be there physically to do their job. And I think that's what distinguishes our business travel from most other business travel in the lodging industry. They have to be on location. So, I think online learning regardless of how that pans out, that will continue to be the case. And just as an indication of how I would say how scrappy our sales force is, online learning having kids at home, that is going to create a lot of stress for people that have to work at home. And we even have an initiative for sort of offering I can't remember the name of it, but Jay use of our hotels and our internet in our facilities for the day or for the week for folks that need to get out of their house and have a quiet place to work.

Brian Nicholson -- Chief Financial Officer

Stay smart.

Bruce N. Haase -- President/Chief Executive Officer

Stay smart. Thank you. Thank you. We will see if it works. But I think that's a good indication of how you know this, this business and our sales and revenue management, find opportunities.

Chad Beynon -- Macquarie Group -- Analyst

Great. Thank you. Yeah, it will be interesting to see. And then Brian, you noted that you will be generating free cash flow in the in the third quarter. And I also think in your prepared remarks, you mentioned that a core focus is to deleverage, you have even updated goal in terms of where you would like to see that that leverage, in the next in the next year or two?

Brian Nicholson -- Chief Financial Officer

Chad, our long-term goal doesn't change in the long term. Under normal circumstances, we'd like to be under four times leverage. We think the fact that we were that our net leverage was sort of in that neighborhood going into the pandemic has really helped us. And certainly the combination of that relatively low net leverage with sufficient cash on hand, certainly helped us to continue to move through the pandemic and to continue with capital projects, including on balance sheet development, which to my knowledge was not something that anybody else was doing during the depths of the pandemic. we, as you say, we expect to be or as we expect to be cash flow positive. A lot of that cash is going to be generated by the REIT the REIT will return at least 90% of its taxable income this year to shareholders. We expect that the majority of that return will happen early in 2021, when we have certainty about what the totality of 2020 pre-taxable income will be.

Chad Beynon -- Macquarie Group -- Analyst

Okay. Thank you very much, guys.

Bruce N. Haase -- President/Chief Executive Officer

Thank you.

Operator

Our next question is from David Katz with Jefferies. Please proceed.

David Katz -- Jefferies -- Analyst

Hi, good morning. Thanks for all the detail much appreciated and congrats on the quarter. And thanks for including me. Look, I wanted to just get at the capex, which, Brian, I think you articulated carefully is something that should ramp down by the first half of next year. Can you just talk about what a baseline ongoing maintenance number would look like and just how far down that 160 to 190 turns into and how that progresses?

Brian Nicholson -- Chief Financial Officer

Yeah, David. That's a good question. I think you can basically back into it by taking out the new development capex but basically the new development with each passing month as we open more hotels, we have fewer and fewer hotels in active development. And so that development number will taper and we expect it to, basically be over, certainly by this time next year in terms of the maintenance for the existing hotels. That number traditionally has been approaching $100 million, call it, between $80 million and $90 million in a typical year. And, as we move forward, maybe that number tweaks a little bit but that's essentially where we are.

David Katz -- Jefferies -- Analyst

Got it. And as well on the subject of conversions right understanding that the capital community is going to drive new construction. Can you just talk about the cadence of conversions as we move forward? Intuitively, they would ramp up through the rest of this year and hotels sort of figure out their ongoing path and whether there is one or what that would look like and how reliant, is that on the capital community, if at all?

Brian Nicholson -- Chief Financial Officer

I think we have a very good story in terms of conversions. We have converted a few hotels late last year and another one, I believe, in February of this year pre-pandemic. Those hotels that we converted are actually running basically about flat post-pandemic to their pre-pandemic performance under a prior brand. So, I think we have a very good story to tell. We are telling it, but again, a lot of these transactions are also predicated on a change of control of ownership. They are also -- we have to wait for windows generally in terms of hotels to trade. So, I think it will be a little bit lumpy. It's hard to forecast a clean trajectory there, because it's -- they are all very, again, transactionally dependent events.

David Katz -- Jefferies -- Analyst

Got it. Okay. Thank you.

Operator

Our next question is from Smedes Rose with Citigroup. Please proceed.

Smedes Rose -- Citigroup -- Analyst

Hi, thanks. I am just wondering if you could touch on what you are seeing on labor costs in general either at the property level around kind of housekeeping that kind of cost or sort of general managers and management level in this environment? Is there -- have you seen any change one way or the other there?

Brian Nicholson -- Chief Financial Officer

Yeah. Hi, Smedes. This is Brian. The -- really surprisingly for an economy that has 10% plus unemployment, we have not seen a lot of ability, at least not generally across the country to flex our labor rates at all. Labor savings that we have achieved year-to-date have really been driven by a reduction in labor hours rather than in a change in rate. Now, it's my belief that some of the feedback that we get from the field that the unemployment subsidy that's been in place here until the end of July and which is really kind of an open question as Congress continues to debate what go forward assistance should look like that $600 subsidy to existing unemployment benefits meant that people who are earning an hourly rate at a company like our hotels actually earn more money by not working than they earn by coming back to work at our labor rates. So, I think until there is an adjustment to that subsidy, a downward adjustment to that subsidy, where someone might earn 70% of what they would earn by working rather than 140% of what they would earn by working, we are going to continue to see a challenged rate environment. And there are a number of people who do want to work and there are people who give up on those extra benefits just to come in and do a job and be productive, maybe set a good example for their kids, whatever it might be. But we think it will -- hiring will be much easier and rates will possibly come down a bit when we see an end to that subsidy or a reduction to that subsidy.

Smedes Rose -- Citigroup -- Analyst

Okay. Thank you. And then I just sort of hinted at eventually getting back to kind of a return of capital as part of your model after reading, I guess reaching some leverage targets, but do you see sort of reinstating a more sort of normal dividend first before share repurchase or how do you think of those two things or is it kind of too far down the road to worry about?

Brian Nicholson -- Chief Financial Officer

Yeah, we do think about it. We talk about it with the Board at least quarterly. We have begun to kind of think through some scenarios about what the dividend looks like when we get into 2021. For right now, the plan continues to be certainly subject to change, but for now continues to be that we have a modest dividend until we get to the beginning of 2021. In early 2021, we make a catch-up REIT dividend. We will determine what if anything happens from the C and we will establish dividend policy going forward likely at that point.

Smedes Rose -- Citigroup -- Analyst

Okay. Thank you.

Operator

Our next question is from Shaun Kelley with Bank of America. Please proceed.

Shaun Kelley -- Bank of America -- Analyst

Hi, good morning, everybody. Bruce, I just wanted to go back to your prepared remarks. I thought you had a pretty interesting comment, I think you showed it in the slide deck as well about how you significantly outperformed some of the other mid-price extended stay pieces of the segment. I was just wondering especially given your own experience there if you could elaborate a little bit on that outperformance either what's driving that, maybe geography differences in business model or price point? And then a little bit about just what might make up that segment of competitors, because I know for some of us who track some of the data in the space, getting crystal clear data on the extended stay segment is a little bit more difficult?

Bruce N. Haase -- President/Chief Executive Officer

Sure. Yeah, we have obviously the same challenge. We see the figures for the publicly reporting extended stay brand. So they are pretty much well-known. What I would say is I wouldn't say, it's geography, I mean, we have some very challenging markets post-pandemic. We are in a lot of coastal markets. We are in a lot of major cities in Boston and New York and Miami and the Bay Area in California and Seattle that are very hard hit from a business perspective during the pandemic. We have less presence in the Midwest, which has actually been less hard hit. Our properties in the Midwest are -- were doing very well, in the Southeast generally are doing very well. So, I think the outperformance is not geography related again, we have some very challenging markets geography wise. I believe and I think this is true that our competitive advantage as being an extended stay hotel company is what has led to that outperformance. If you look at certainly some of our other mid-scale brands that are tied to transient distribution channels, they lost more and they did not have the ability to make that up, because they did not have the infrastructure to go out and find extended stay business like we do. So, I really think it's that simple.

Brian Nicholson -- Chief Financial Officer

Shaun, the mid-price segment, I think as you are aware, that's Candlewood and IHG product, that's TownePlace, a Marriott product, that's home to Hilton product mainstay and soon will include Ever Home Suites when they get them open, I guess from Choice and Hawthorne by Wyndham. All of these companies, except for us, are primarily focused on generating and driving transient business. And so if you look at their websites compared to our website, our website is geared to selling and booking extended stay business. A very important channel for us is our call center. Call centers are not as important for a lot of these other brands, especially the bigger brands and the -- when you are selling extended stay, if you are going to book a room for more than a week, certainly for more than a month, you are going to want to ask a human being about what's in the market, what's nearby, where are you going to eat, what do you do? We are geared to selling that business in a way that these other mid-price chains are not.

Shaun Kelley -- Bank of America -- Analyst

Thanks, Brian. Thanks, Bruce. Then I guess the follow-up would be I know you've talked about this a little bit. So I don't want to totally rehash, but just thinking this balance between maybe a centralized sales effort and a little bit more of a localized effort, it feels like whatever that balance is, you struck it pretty well, particularly through this kind of really difficult operating environment, but kind of what is that balance as you see it -- as you see the landscape evolving kind of going forward? Is it a kind of top down driven centralized model or is it, no, you have like a local person onsite who knows the needs in that local community or how are you striking that, that balance with sales force?

Bruce N. Haase -- President/Chief Executive Officer

Well, we have both right now. We have a national sales force that has centralized the deals with national accounts and larger companies going on a national level and offers our portfolio of products to those accounts. And we also have a local sales force that's in market that is partnering with local revenue management professionals, it's partnering with our operating professionals that deeply know the market. So, it's going to be a mix of both going forward. In this environment, obviously the national account business has fallen off, just because of less sort of gray collar business travel, I would say. We have made up for a lot of that in terms of the local business. So, it will be a balance going forward. We have both of those parts of the arsenal at our disposal. And as times get a little better, we will probably back off a little bit on some of the local business and add in some more corporate business. But again, it's very market-driven, it's very location-driven, but both are very important for us going forward.

Shaun Kelley -- Bank of America -- Analyst

Thank you, Bruce.

Operator

Our next question is from Michael Balesario with Baird. Please proceed.

Michael Balesario -- Baird -- Analyst

Good morning, everyone.

Brian Nicholson -- Chief Financial Officer

Good morning.

Bruce N. Haase -- President/Chief Executive Officer

Good morning.

Michael Balesario -- Baird -- Analyst

Just a follow-up from a question at the beginning, you mentioned the 81%, 81.5% occupancy level as you guys are thinking about the next few quarters and even into next year. What's the upside potential here? And is it 5 points, is it 3 points? How are you thinking about how much higher occupancy can be given your greater extended stay strategy today versus pre-pandemic?

Bruce N. Haase -- President/Chief Executive Officer

I will start and let Brian add. I think obviously, this is a high occupancy brand 80%, 85% occupancy is not something unusual. I think the opportunity we have now which we are taking advantage of this trying to gently, I would say, move rate as much as we can in those high occupancy markets that we have. We have a number of markets that are above 90% and a number of hotels that are above 9%. And those are places where we have a chance to work to try to move rate and that's what we are doing.

Brian Nicholson -- Chief Financial Officer

Yeah. I would also note Mike that our seasonality right now looks very different than it has in years past, but it's still there. Transient business has not gone away completely. Transient business has shrunk dramatically, but given that right now, it's about a fifth of our business as we move out of the summer and into the fall, I would expect that we will see some absolute occupancy declines in that transient business. We will work to try to replace that business with more extended stay business, but we will see how it goes as we move through the fall. But certainly as we move into the future looking a couple of years out, traditionally we have had occupancy in the 80s in the second and third quarters, maybe in the 60s in the first and fourth quarters and have averaged about 75%. The focus on more extended stay mix should allow us to drive more occupancy in the fourth and first quarters, which should improve our annual levels and drive up our RevPAR.

Michael Balesario -- Baird -- Analyst

Got it. And you mentioned trying to move rate higher and I know before you mentioned rolling off the 60-day discounts and offering a 30-day rate, but what's the pushback if any, from customers on rate increases or is it still really a mix shift focus for you?

Bruce N. Haase -- President/Chief Executive Officer

Yeah, I think that's more of a mix shift focus. That's for new customers coming in.

Michael Balesario -- Baird -- Analyst

And then any pushback or no, you haven't really tried to push rate yet or when you decide to push rate more than gently?

Bruce N. Haase -- President/Chief Executive Officer

I would say, we are pushing it gently at the moment.

Michael Balesario -- Baird -- Analyst

Got it. Thank you.

Bruce N. Haase -- President/Chief Executive Officer

Thank you.

Operator

We have reached the end of our question-and-answer session. I would like to turn the call back over to Bruce for closing comments.

Bruce N. Haase -- President/Chief Executive Officer

Okay. Well, I would just like to thank everybody for your interest and your questions. We really appreciate it. The Company and I am very proud of our performance. But mostly I am proud of the people behind the performance. I mean, this is results like this don't happen all by themselves, it takes a lot of work, it takes a lot of sweat. And our team has really come together, and I appreciate that. Hopefully, I think, to the Street and to investors we have demonstrated through the second quarter and through this pandemic period, just how different this Company is and how much upside we believe there is in the future by relying on the key strategic advantages that we have and that no one else has in the industry and that is our business model and our exclusive focus on what I think is the best segment in the lodging industry. So, our plans going forward are going to be to continue to lean into those strategic advantages, and we look forward to growing the Company in a post-pandemic environment whenever that maybe. But again, thank you for your questions. We look forward to speaking with you in the future.

Operator

[Operator Closing Remarks]

Duration: 59 minutes

Call participants:

Rob Ballew -- Vice President, Investor Relations

Bruce N. Haase -- President/Chief Executive Officer

Brian Nicholson -- Chief Financial Officer

Anthony Powell -- Barclays -- Analyst

Chris Woronka -- Deutsche Bank -- Analyst

Chad Beynon -- Macquarie Group -- Analyst

David Katz -- Jefferies -- Analyst

Smedes Rose -- Citigroup -- Analyst

Shaun Kelley -- Bank of America -- Analyst

Michael Balesario -- Baird -- Analyst

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