MHI Hospitality CORP (Form: S-11/A, Received: 12/13/2004 06:14:04)

As filed with the Securities and Exchange Commission on December 10, 2004

Registration No. 333-118873

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

Pre-Effective Amendment No. 5

FORM S-11

FOR REGISTRATION UNDER THE SECURITIES ACT OF 1933

OF CERTAIN REAL ESTATE COMPANIES

MHI Hospitality Corporation

(Exact Name of Registrant As Specified in its Governing Instruments)

814 Capitol Landing Road

Williamsburg, Virginia 23185

(757) 229-5648

(Address, Including Zip Code, and Telephone Number, including

Area Code, of Registrant’s Principal Executive Offices)

Andrew M. Sims

President and CEO

MHI Hospitality Corporation

814 Capitol Landing Road

Williamsburg, Virginia 23185

(757) 229-5648

(757) 564-8801 (Telecopy)

(Name, Address, Including Zip Code, and Telephone

Number, Including Area Code, of Agent for Service)

Copies to:

Thomas J. Egan, Jr. Esq.

Baker & McKenzie LLP

815 Connecticut Avenue, NW

Washington, DC 20006

(202) 452-7000

(202) 452-7074 (Telecopy)

David C. Wright, Esq.

Hunton & Williams LLP

951 E. Byrd Street

Richmond, Virginia 23219-4074

(804) 788-8200

(804) 788-8218 (Telecopy)

Approximate date of commencement of proposed sale to the public: As soon as practicable after the effective date of this Registration Statement.

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration number of the earlier effective registration statement for the same offering. ¨

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. ¨

If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. ¨

The registrant hereby amends this registration statement on such date or dates as may be necessary to delay its effective date until the registrant shall file a further amendment which specifically states that this registration statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the registration statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to said Section 8(a), may determine.

The information in this prospectus is not complete and may be changed or supplemented without notice. We may not sell the securities described in this prospectus until the registration statement that we have filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities, and we are not soliciting offers to buy these securities, in any state where the offer or sale of these securities is not permitted.

Subject to Completion

Preliminary Prospectus dated December 10, 2004

PROSPECTUS

6,000,000 Shares of Common Stock

LOGO

MHI HOSPITALITY CORPORATION

MHI Hospitality Corporation is a recently-formed, self-advised Maryland corporation that intends to qualify as a real estate investment trust or “REIT” for federal income tax purposes. We were organized to succeed to certain of the lodging assets and operations of MHI Hotels Services LLC and other affiliated entities, and to take advantage of investment opportunities in the lodging industry with a focus on full-service hotels. Upon completion of this offering and our related formation transactions, we will own six hotels located in the Mid-Atlantic and Southeastern United States operated under well known national hotel brands such as Hilton ^® and Holiday Inn ^® and will acquire leasehold interests in one resort property. Our officers, directors and affiliates and their family members initially will beneficially own approximately 29.2% of the equity interests in our company on a fully diluted basis and may exercise significant control over our company.

This is our initial public offering of our common stock. No public market currently exists for our common stock. All of the shares offered by this prospectus are being sold by us. Shares of our common stock are subject to ownership limitations relating to the maintenance of our status as a REIT.

We currently expect the public offering price to be between $9.00 and $11.00 per share. We have applied to list the shares of our common stock on the American Stock Exchange under the trading symbol “MDH.”

See “ Risk Factors ” beginning on page 18 of this prospectus for risk factors relevant to an investment in shares of our common stock.


	Per Share	Total
Public offering price	$	$
Underwriting discount and commissions ⁽¹⁾	$	$
Proceeds to us before expenses	$	$

⁽¹⁾

Does not include (i) financial advisory fees relating to the structuring of the offering in an aggregate amount equal to 1.0% of the gross proceeds of the offering, less $50,000, that will be paid to BB&T Capital Markets or (ii) reimbursement of certain out-of-pocket expenses of BB&T Capital Markets. See “Underwriting.”

The underwriters may also purchase up to an additional 900,000 shares of our common stock from us at the public offering price, less the underwriting discount, within 30 days from the date of this prospectus solely to cover over-allotments, if any. The underwriters are offering our common stock as described in “Underwriting.”

We expect to deliver the shares of common stock on or about , 2004.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

BB&T Capital Markets


Ferris, Baker Watts Incorporated
	J.J.B. Hilliard, W.L. Lyons, Inc.
		Flagstone Securities

The date of this prospectus is , 2004.

You should rely only on the information contained in this prospectus. Neither the underwriters nor we have authorized any other person to provide you with different or additional information. If anyone provides you with different, additional or inconsistent information, you should not rely on it. This prospectus does not constitute an offer to sell or a solicitation of an offer to buy any securities in any jurisdiction in which such an offer or solicitation is not authorized or in which the person making such offer or solicitation is not qualified to do so, or to any person to whom it is unlawful to make such offer or solicitation. Neither the delivery of this prospectus nor any sale made hereunder shall, under any circumstances, create any implication that there has been no change in our affairs or that information contained herein is correct as of any time subsequent to the date hereof.

TABLE OF CONTENTS


		Page
PROSPECTUS SUMMARY		1
RISK FACTORS		18
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS		38
MARKET DATA		38
USE OF PROCEEDS		39
CAPITALIZATION		40
DISTRIBUTION POLICY		41
DILUTION		42
SELECTED FINANCIAL DATA		43
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS		46
FORMATION TRANSACTIONS		56
OUR BUSINESS AND PROPERTIES		59
OUR PRINCIPAL AGREEMENTS		80
MANAGEMENT		91
INVESTMENT POLICIES AND POLICIES WITH RESPECT TO CERTAIN ACTIVITIES		100
PRINCIPAL STOCKHOLDERS		104
SHARES AVAILABLE FOR FUTURE SALE		105
CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS		107
DESCRIPTION OF COMMON STOCK		113
CERTAIN PROVISIONS OF MARYLAND LAW AND OF OUR CHARTER AND BYLAWS		117
PARTNERSHIP AGREEMENT		122
MATERIAL FEDERAL INCOME TAX CONSIDERATIONS		126
UNDERWRITING		150
EXPERTS		153
LEGAL MATTERS		153
WHERE YOU CAN FIND MORE INFORMATION		153
INDEX TO FINANCIAL STATEMENTS		F-1

All brand and trade names, logos or trademarks contained or referred to in this prospectus are the property of their respective owners, and their appearance in this prospectus may not in any way be construed as participation by, or endorsement of, this offering by any of our franchisors. For more information, see “Our Principal Agreements — Our Franchise Agreements.”

Until , 2004, 25 days after the date of this prospectus, all dealers that buy, sell or trade our common stock, whether or not participating in the offering, may be required to deliver a prospectus. This requirement is in addition to the dealers’ obligation to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

PROSPECTUS SUMMARY

The following summary highlights information contained elsewhere in this prospectus. This summary is not complete and does not contain all of the information that you should consider before investing in our common stock. You should read the entire prospectus, including the section titled “Risk Factors” before making a decision to invest in our common stock. Unless otherwise indicated, the information contained in this prospectus assumes that the underwriter’s over-allotment option to purchase up to 900,000 additional shares of common stock has not been exercised and that the shares of common stock to be sold in this offering are sold at a price of $10.00 per share, which is the mid-point of the range set forth on the cover page.

Overview

MHI Hospitality Corporation is a self-advised hotel investment company organized in August 2004 that intends to qualify as a real estate investment trust, or REIT, for federal income tax purposes. References to MHI Hospitality Corporation include MHI Hospitality, L.P., our operating partnership, and our other subsidiaries, including our taxable REIT subsidiary holding company, MHI Hospitality TRS Holding, Inc., which we refer to as MHI Holding.

Following completion of this offering and the formation transactions, we will initially own six full-service, Upper Upscale and Midscale hotels that are located in primary and secondary markets in the mid-Atlantic and Southeastern United States and are operated under well-known national hotel brands such as Hilton and Holiday Inn. The terms full-service, Upper Upscale, Upscale and Midscale refer to hotels classified in those categories by Smith Travel Research. Smith Travel Research categorizes hotels into Luxury, Upper Upscale, Upscale, Midscale with Food and Beverage and Midscale without Food and Beverage, and Economy by reference to the national hotel franchise with which a hotel is affiliated. All of the initial hotels are currently classified as Upper Upscale and Midscale.

We intend to pursue a growth strategy of purchasing, renovating and upbranding additional underperforming, full-service hotels while seeking to improve the operating results of our initial portfolio. We intend to focus our investment activities on the following opportunities that involve the acquisition, renovation and upbranding of underperforming or functionally obsolete hotels with a goal of achieving a total investment that is substantially less than replacement cost of a hotel or the acquisition cost of a market performing hotel:

•

Deep Turn Opportunity: The acquisition of a hotel that is closed or functionally obsolete and requires a restructuring of both the business components of the operations as well as the physical plant of the hotel, including extensive renovation of the building, furniture, fixtures and equipment.

•

Shallow Turn Opportunity: The acquisition of an underperforming but structurally sound hotel that requires moderate renovation to re-establish the hotel in its market.

•

Upbranding Opportunity: The acquisition of properties that can be upgraded physically and enhanced operationally to qualify for what we view as higher quality franchise brands including Hilton, Doubletree ^® , Crowne Plaza ^® , Holiday Inn Select ^® , Holiday Inn, Westin ^® , Sheraton ^® and Intercontinental ^® . We refer to this as our upbranding strategy. Our upbranding strategy may also be a component of our deep and shallow turn opportunities.

By pursuing deep and shallow turn opportunities and implementing our upbranding strategy, we hope to improve revenue and cash flow and increase the long-term value of the hotels we acquire in the future.

We currently have plans to renovate three of our initial hotel properties, one of which is currently underperforming in its marketplace and represents a shallow turn opportunity. As these hotels are located in attractive markets, we believe that these properties are well positioned for future growth and will benefit from improving industry wide market conditions, our renovations and the efforts of our management team. See “Our Business and Properties – Our Initial Properties.”

MHI Hotels Services, and its affiliates hold controlling interests in the entities that own four of our initial hotel properties. MHI Hotels Services refers to MHI Hotels Services, LLC and its predecessors, a company in which we have no ownership interest, that will manage our initial hotels. MHI Hotels Services will contribute its interests in these entities to our operating partnership in exchange for units in our operating partnership. We intend to operate as a REIT and because of federal income tax laws applicable to REITs, we cannot manage the hotels we own. MHI Hotels Services will manage each of our initial hotels pursuant to a management agreement and, together with its affiliates, will hold a significant equity interest in our operating partnership. We believe that our ability to access financing to pursue our growth strategy will be enhanced by implementing a REIT structure.

We will succeed to certain of the lodging assets and operations of MHI Hotels Services, which has been in the hospitality industry since 1957 providing hotel management, construction, redevelopment, financing and consulting services. MHI Hotels Services began its operations with the purchase of a twelve room motel in College Park, Maryland. Its multiple hotel operations began in 1980 and grew over the subsequent ten years to seven hotels operating as Best Western, Days Inn and Ramada. During the 1990’s, MHI Hotels Services expanded its operations to include larger, full service hotels branded by Hilton and Intercontinental Hotels while divesting itself of its limited service and lower branded hotels. MHI Hotels Services and its affiliates currently manage five of our initial hotels.

We will own our hotels and conduct our business through an operating partnership, MHI Hospitality, L.P. We will be the sole general partner of our operating partnership, and upon completion of the offering and the related formation transactions, will own an approximate 61.1% interest in our operating partnership. The remaining 38.9% interest will be owned by the contributors of five of our initial hotels, including an approximately 29.2% interest which will be owned by our officers, directors, affiliates and family members.

Investment Highlights

We expect to benefit from the following factors as we implement our business plan:

Turn Around Growth Strategy

We intend to pursue investments in underperforming or functionally obsolete hotels that are otherwise structurally sound, at a substantially lower cost than replacement cost or what we would pay for a performing hotel in the same market. We believe that such deep and shallow turn opportunities will yield favorable long-term returns and facilitate attractive dividend distributions. For example, the Maryland Inn, one of our initial hotels, is underperforming in its market. We will use approximately $3.9 million of the offering proceeds to fund renovations to this hotel. We anticipate these renovations, and an intended concurrent upbranding to a Holiday Inn franchise, will improve the hotel’s performance.

Growth-Oriented Balance Sheet

We will have approximately $25.8 million of debt, representing an initial leverage ratio of approximately 27.0% of our pro forma total assets as of September 30, 2004, upon completion of the offering and the formation transactions. We intend to maintain target debt levels of 45-55% of total assets and plan to enter into a $23.0 million secured revolving credit facility from an affiliate of BB&T Capital Markets following completion of the offering. Neither our charter nor our bylaws limits the amount of debt that we can incur. We believe our initial leverage ratio and access to an anticipated credit facility will permit future borrowings and will provide us with the flexibility to capitalize on attractive investment opportunities.

Improving Lodging Cycle

Over the three year period from 2001-2003, the U.S. lodging industry suffered what we believe was one of the most significant downturns in its performance in several decades. We believe that current economic trends

and, in particular, trends in the lodging industry evidenced by an overall increase in average room rates, occupancy and RevPAR, demonstrate that a recovery is underway. We expect that given these economic trends our initial hotels and any additional hotels we acquire will benefit from improving supply and demand conditions. See “Our Business and Properties — Industry Overview.”

Experienced and Aligned Management Team

We expect to benefit from the extensive experience of our management team in identifying, developing, repositioning, financing and managing hotels. Collectively, our senior executive officers have acquired or sold over 22 hotel properties. Upon completion of the offering and the related formation transactions, our officers, directors, and their affiliates and family members will beneficially own approximately 29.2% of the equity interests in our company on a fully diluted basis, which we believe will align their economic interest with those of our stockholders. None of our officers has any experience operating a public company or a REIT.

Strategic Relationship with MHI Hotels Services

We will enter into a management agreement whereby MHI Hotels Services will manage our initial hotels. We will also enter into a 10-year strategic alliance agreement with MHI Hotels Services which provides that, unless a majority of our independent directors concludes, for valid business reasons, that another management company should manage a hotel owned by us, we will offer MHI Hotels Services the opportunity to manage hotels acquired in the future. In addition, MHI Hotels Services will refer to us, on an exclusive basis, any hotel investment opportunity that is presented to it, in each case subject to certain exceptions.

Risk Factors

You should carefully consider the matters discussed in the “Risk Factors” section prior to deciding whether to invest in our common stock. Some of the material risks include:

•

Failure of the lodging industry to exhibit improvement would adversely effect our business plan and cause a decline in the value of our common stock.

•

Conflicts of interest could result in our executive officers and certain of our directors acting in a manner other than in our stockholders’ best interest.

•

Our executive officers and certain of our directors may experience conflicts of interest in connection with their ownership interest in our operating partnership.

•

Our tax indemnification obligations, which were not the result of arm’s-length negotiations and apply in the event that we sell certain properties in taxable transactions, could subject us to liability for substantial payments. The tax indemnification agreements have a 10-year term and require us to indemnify each contributor for 100% of any tax liabilities such contributor may incur as a result of a sale of a property contributed by such person during the first five years, 50% for a sale during year six, 40% for the seventh year, 30% during the eighth year, 20% during the ninth year and 10% during the tenth year. These obligations could limit our operating flexibility and reduce our returns on our investments. Such indemnification obligations could result in aggregate payments of approximately $46.0 million.

•

Because we will use approximately $25.0 million and $18.5 million from the proceeds of the offering to repay indebtedness and fund the cash portions of the purchase price for three of our initial properties, respectively, the cash available for general corporate and working capital purposes will be reduced.

•

We did not obtain independent appraisals of our initial hotel properties or the leasehold interests in the resort property, and thus the consideration paid for these properties may exceed fair market value as determined by third party appraisals.

•

Unanticipated expenses and insufficient demand for hotels we acquire in new geographic markets could adversely affect our profitability and our ability to make distributions to our stockholders.

•

We do not have the authority to require any hotel to be operated in a particular manner or to govern any particular aspect of the daily operations of any hotel and as a result, our returns are dependent on the management of our hotels by MHI Hotels Services.

•

Our ability to make distributions to our stockholders is subject to fluctuations in our financial performance, operating results and capital improvements requirements.

•

We have agreed to provide to certain of our contributors opportunities to guarantee liabilities of our operating partnership which may limit our ability to make similar opportunities available to owners of properties that we would like to purchase. This limitation may adversely affect our ability to acquire properties in the future.

•

Neither our charter nor our bylaws limits the amount of debt we can incur. While we intend to maintain target debt levels of 45-55% of total assets, our board of directors may change this debt policy at any time without stockholder approval. Upon completion of the offering, we will have outstanding debt of approximately $25.8 million and we intend to enter into a $23.0 million revolving credit facility. Future debt service obligations could adversely affect our overall operating results, may require us to liquidate our properties, may jeopardize our tax status as a REIT and limit our ability make distributions to our stockholders.

•

Our company is newly formed and has no operating history and currently owns no properties but has entered into agreements to acquire six hotels.

•

Our officers, directors and affiliates and their family members initially will beneficially own up to approximately 29.2% of our units that may be converted into our common stock and may exercise significant control over our company. In addition, MHI Hotels Services, under the terms of our strategic alliance agreement, has the right to nominate one director to our board, and Andrew Sims, our president and chief executive officer, has the right to be nominated as a director pursuant to the terms of his employment agreement.

•

Our agreements with MHI Hotels Services and its affiliates, including the contribution agreements, management agreement, strategic alliance agreement, subleases, partnership agreement of our operating partnership and employment agreements, were not negotiated on an arms’ length basis and may be less favorable to us than we could have obtained from third parties.

•

If we do not qualify as a REIT, we will be subject to tax as a regular corporation and face substantial tax liability, which would limit our ability to make distributions to our stockholders.

Our Initial Properties

Upon consummation of this offering and the related formation transactions, we will own six hotels. The following table sets forth certain information for each of our initial hotel properties:


Property	Location	Year Opened/ Renovated	Average Occupancy ⁽¹⁾		ADR (Average Daily Rate) ⁽¹⁾		RevPAR (revenue per available room) ⁽¹⁾		Number of Rooms ⁽²⁾	Meeting Space Sq. Ft. ⁽²⁾	Acquisition Cost ⁽³⁾
Hilton Philadelphia Airport	Philadelphia, PA	1972/ 1994/ 2001	79.7	%	$	86.68	$	69.09	331	10,000	$25,271,240
Holiday Inn Downtown Williamsburg	Williamsburg, VA	1968/ 1986/ 2000	51.1	%		77.92		39.84	137	6,000	5,025,000
Holiday Inn Brownstone	Raleigh, NC	1971/ 2002	64.5	%		74.57		48.13	188	15,000	9,396,120
Hilton Savannah DeSoto	Savannah, GA	1968/ 1996/ 2003-4	75.4	%		117.08		88.31	246	20,000	27,279,940
Hilton Wilmington Riverside	Wilmington, NC	1970/ 1988/ 1998/ 2000	69.8	%		96.51		67.43	274	20,000	25,646,760
Maryland Inn ⁽⁴⁾	Laurel, MD	1985/ 1989	66.1	%		65.86		43.51	205	8,000	12,200,205

TOTALS / WEIGHTED AVERAGES			70.1	%	$	89.40	$	62.61	1,381	79,000	$104,819,060

⁽¹⁾	For the twelve months ended September 30, 2004.

⁽²⁾	As of September 30, 2004.

⁽³⁾	Estimated transaction costs, debt assumed, and units issued in the acquisition valued at the assumed initial public offering price of $10.00 per share, the midpoint of the price range for this offering of our common stock.

⁽⁴⁾	We intend to upbrand the Maryland Inn as a Holiday Inn. For additional information see “Our Business and Properties — Our Initial Properties.”

In addition to these six hotels, we will acquire leasehold interests in the common area of a resort condominium property, Shell Island Resort. The resort is a condominium hotel with approximately 160 condominium suites owned by individual owners. The common areas are leased by the homeowners’ association. MHI Hotels LLC currently leases the common area of the resort from the condominium homeowners’ association. MHI Hotels Two, Inc. currently leases the restaurant, kitchen and other service areas from the condominium homeowners’ association. Both MHI Hotels LLC and MHI Hotels Two, Inc. are affiliated with MHI Hotels Services, LLC. MHI Hotels LLC and MHI Hotels Two, Inc. will pay us a fixed annual rent of $640,000 in connection with the sublease of such property. We will pay annual rent of $120,000 under the Shell Island Resort leases. Other expenses, such as maintenance and utilities, will be paid by MHI Hotels Two, Inc. and MHI Hotels, LLC. In the event of a payment default under the subleases or an early termination of the prime leases or the subleases, MHI Hotels Services has agreed to make a capital contribution to the sub-lessees in an amount sufficient to cure the default or to reimburse us for a portion of the payments made to acquire the leasehold interests. See “Our Business — Our Initial Properties.”

The Company is acquiring the leasehold interests in Shell Island Resort as it believes the leasehold interests will provide incremental cash flow that will benefit the Company. However, due to federal tax regulations attendant to its status as a REIT, the Company is prohibited from directly operating or managing the Shell Island property. Thus, the Company will sublease its entire leasehold interest in both leases. The sublease arrangements provide the Company with the ability to benefit from the economics of the leases, while at the same time permitting the Company to maintain compliance with the limitations placed upon REIT’s by federal income tax regulations.

Formation Transactions

We refer to the following series of transactions as our formation transactions:

•

We will sell 6,000,000 shares of common stock in the offering. We will contribute the net proceeds of the offering to MHI Hospitality, L.P., our operating partnership, in exchange for 6,000,000 operating partnership units, which we refer to as units, which will represent an approximate 61.1% initial interest in our operating partnership. We will act as sole general partner of our operating partnership.

•

Four of the six initial hotel properties will be contributed to our operating partnership by MHI Hotels Services and its affiliates, in exchange for an aggregate of 3,084,783 units, $1.0 million in cash and the assumption of approximately $35.6 million in debt.

•

We will acquire the Hilton Philadelphia Airport from third parties not affiliated with MHI Hotels Services, in exchange for 732,254 units, $1.8 million in cash and the assumption of approximately $15.2 million in debt. The entity that owns the Hilton Philadelphia Airport may receive additional units in exchange for the contribution of the property. In the event that the initial offering price of our common stock is less than $9.50 per share, the number of additional units to be issued to this entity will be increased to reflect the difference between the offering price and $9.50 per share multiplied by 732,254. For example, if the offering price is $9.00, this entity would receive an additional 40,681 units worth $366,127.

•

We will acquire the Maryland Inn for a cash paymen t of approximately $12.2 million. An affiliate of MHI Hotels Services will receive $500,000 in cash for its 25% interest in Accord LLC and West Laurel Corp., the entities that own the Maryland Inn.

•

We will use approximately $25.0 million of the proceeds of the offering to repay outstanding indebtedness on three of our initial hotel properties.

•

We will acquire two space leases for the common areas of the Shell Island Resort, a condominium resort property located in Wrightsville Beach, North Carolina, from MHI Hotels LLC and its affiliate, MHI Hotels Two, Inc., for a cash payment of $3.5 million, $3.0 million of which will be used to acquire the lease for the common areas and $500,000 for the lease of the restaurant area. We will enter into sublease agreements with MHI Hotels Two, Inc. and MHI Hotels LLC with respect to such leasehold interests. MHI Hotels Two, Inc. and MHI Hotels LLC will pay us a fixed annual rent of $640,000 in connection with the sublease of such property and we will incur annual lease expense of approximately $120,000.

•

We will enter into tax indemnity and debt allocation agreements with the entities that contribute five of our initial properties. These agreements will require us to indemnify the contributors against tax liabilities in the event we sell those properties in a taxable transaction during a 10-year period. Such indemnification obligations could result in aggregate payments of approximately $46.0 million. The terms of the tax indemnity agreements also require us to gross up the tax indemnity payment for the amount of income taxes due as a result of the tax indemnity payment. The contributing entities will guarantee a portion of our initial indebtedness following the closing and we will be obliged to give the contributors the opportunity to guarantee a similar amount of debt in the future.

•

We will lease each of our initial hotel properties to MHI Hospitality TRS, LLC, which we refer to as our TRS Lessee, a wholly-owned subsidiary of our taxable REIT subsidiary, MHI Holding. References to MHI Holding include references to our TRS Lessee.

•

Our operating partnership will use approximately $2.0 million of the net proceeds of the offering to compensate MHI Hotels Services for the amendment and restructuring of existing management agreements relating to five of our initial hotel properties. The $2.0 million payment is a non-recurring charge and will be recognized in our first accounting period following completion of the offering. Our TRS Lessee will enter into a new management agreement with MHI Hotels Services upon completion of the offering that will cover all of our initial properties and any future hotels managed by MHI Hotels Services. See “Our Principal Agreements – Our Management Agreement.”

•

We will issue 1,000 shares of restricted common stock to each of our initial directors, which will vest on the first anniversary of the date of grant.

Our Team

Our executive officers have extensive experience in the lodging industry as set forth below:

Andrew M. Sims , our president, chief executive officer and chairman of the board, has served as President of MHI Hotels Services since 1995 after serving for seven years as vice president of finance and development. Following the completion of the formation transactions, Andrew Sims will own a 6.5% equity interest in our company on a fully diluted basis.

William J. Zaiser , our executive vice president, chief financial officer and treasurer, has served as vice president of accounting of MHI Hotels Services since 1990 and is responsible for financial analysis, cash management, insurance, investment and reporting. Following the completion of the formation transactions, William Zaiser will own a 1.7% equity interest in our company on a fully diluted basis.

Our chairman and our senior executive officers may be considered promoters of the offering. None of our officers has experience operating a public company or a REIT. See “Management — Directors and Executive Officers.”

Conflicts of Interest

Our executive officers and certain of our directors have interests that may conflict with our interests and the interests of our stockholders. Andrew Sims, our president, chief executive officer and chairman, and William Zaiser, our chief financial officer, together with Kim and Christopher Sims who will become directors upon completion of the offering, hold substantial ownership interests in and are currently officers and employees of MHI Hotels Services. MHI Hotels Services currently owns, with certain affiliates, directly or indirectly, a substantial amount of the ownership interests in the entities that own four of our six initial hotel properties and the entity that will be the sublessee. As such, they are beneficiaries of the payments to be made by us under the agreements pursuant to which we will acquire these initial hotels, and payments we will make to acquire our leasehold interests in the Shell Island Resort and to restructure and amend existing management agreements with MHI Hotels Services. The terms of these agreements and the valuation methods used to determine the value of the initial hotel properties and amounts to be paid in respect of the leasehold interest and restructuring of existing management agreements were determined by our management team who had conflicts of interest as described above. Because our agreements with MHI Hotels Services and its affiliates were not negotiated on an arm’s-length basis, they may be less favorable to us than we could have obtained from third parties. We did not obtain third-party appraisals of the initial hotel properties in connection with our acquisition of these properties and the consideration being paid by us in exchange for the initial properties may exceed the fair market value as determined by third-party appraisals. Upon completion of the offering and the formation transactions, our

executive officers, directors and their affiliates and family members will beneficially own, in the aggregate, approximately 29.2% of the equity interests in our company on a fully diluted basis. See “Certain Relationships and Related Party Transactions – Other Benefits to Related Parties”.

Additionally, MHI Hotels Services, our hotel management company, will enter into a management agreement with us to manage our initial hotels and will receive management fees from us pursuant to the management agreement. Conflicts may arise as a result of Andrew Sims’, William Zaiser’s, Kim Sims’ and Christopher Sims’ ownership interests in MHI Hotels Services to the extent that MHI Hotels Services’ interests diverge from our interests, particularly with regard to the management of our hotel properties. The initial term of the management agreement is 10 years, and is subject to extension options. If we terminate the management agreement with respect to a hotel, we may be required to pay MHI Hotels Services a substantial termination fee.

We will also enter into a Strategic Alliance Agreement with MHI Hotels Services pursuant to which, unless a majority of our independent directors in good faith concludes for valid business reasons that another management company should manage a hotel owned by us, we will offer MHI Hotels Services the right to manage hotels we acquire, subject to certain exceptions. In addition, for so long as Andrew, Kim and Christopher Sims and their families and affiliates hold, in the aggregate, not less than 1.5 million units or shares of our common stock, MHI Hotels Services will have the right to nominate one person for election to our board of directors at our annual meeting of stockholders, subject to approval of such nominee by the Governance and Compensation Committee.

Conflicts may also arise as a result of Andrew Sims’, William Zaiser’s, Kim Sims’ and Christopher Sims’ ownership interests in our operating partnership to the extent that their interests as limited partners diverge from our interests, particularly with regard to transactions such as sales of assets or repayment of indebtedness, that could be in our and our stockholders best interests, but may have adverse tax consequences to the limited partners in our operating partnership.

We may be required to indemnify the contributors of some of our initial hotels against a percentage of, or possibly all of, such contributor’s tax liabilities if we sell such hotels in a taxable transaction within 10 years or fail to make available to these contributors opportunities to guarantee specified amounts of the liabilities of our operating partnership to defer such guarantors’ tax liabilities. The tax indemnity agreements also require us to gross up the tax indemnity payment for the amount of income taxes due as a result of the tax indemnity payment. These tax indemnities may adversely affect the way we conduct our business, including when and under what circumstances we sell these properties or interests therein during the indemnification period. While we currently do not intend to sell any of these properties in transactions that would trigger these tax indemnification obligations, if we were to do so, the tax indemnification payment amounts would be substantial. See “Certain Relationships and Related Party Transactions.”

To comply with our charter and the rules and regulations of the American Stock Exchange, which we refer to as the AMEX, our initial board of directors will consist of a majority of independent directors. Under our bylaws, any transaction between us and MHI Hotels Services or its affiliates or any interested director must be approved by a committee consisting of only independent directors. However, there can be no assurance that these policies always will be successful in mitigating such conflicts, and decisions could be made that might not fully reflect the interests of all of our stockholders.

Benefits to Affiliates

The following table summarizes consideration to be received by our affiliates in connection with the formation transactions at an assumed offering price of $10.00 per share.


Transaction	Affiliated Party	Consideration
Contribution of initial hotels	MHI Hotels Services, an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims, and 9.0% by William Zaiser	$18.1 million which represents the aggregate value of the units issuable to MHI Hotels Services in connection with the contribution of its 80.0% interest in Savannah Hotel Associates LLC (1,332,395 units having a value of approximately $13.3 million), its 25.0% interest in Capitol Hotel Associates LP, LLP (314,919 units having a value of approximately $3.1 million), and its 50% ownership in Brownestone Partners LLC (159,512 units having a value of $1.6 million issuable to KDCA Partnership, which is 100% owned by MHI Hotels Services and its affiliates), and $1.0 million in cash, which will be used to repay a $1.0 million construction loan.

	MHI Hotels LLC, an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims, and 9.0% owned by William Zaiser	$3.0 million in cash in consideration for the assignment of the common area leases at the Shell Island resort property.

	MHI Hotels Two, Inc., an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims, and 9.0% owned by William Zaiser	$500,000 in cash in consideration for the assignment of the restaurant lease at the Shell Island resort property.

	Edgar Sims, Jr. Irrevocable Trust, Andrew, Kim and Christopher Sims, Trustees for the benefit of Edgar Sims’ grandchildren	$0.8 million, which represents the aggregate value of the 75,581 units issuable to the Edgar Sims, Jr. Irrevocable Trust in connection with the contribution of the 6.0% equity interests of Capitol Hotel Associates LP, LLP, held by such trust. Edgar Sims, Jr. is the father of Andrew, Kim and Christopher Sims.

	Laurel Holdings LLC (owned by Edgar Sims, Jr.)	Approximately $500,000 cash for its 25% interest in Accord LLC and West Laurel Corp., the entities that own the Maryland Inn.


Transaction	Affiliated Party	Consideration
	Andrew Sims, Kim Sims and Christopher Sims	$4.9 million, which represents the aggregate value of 491,274 units issuable in connection with the contribution of the 38.7% equity interests of Capitol Hotel Associates LP, LLP, (each of Andrew, Kim and Christopher Sims have a 12.9% interest in Capitol Hotel Associates LP, LLP).

	Krichman Trusts (Edward Stein, Trustee)	$3.3 million, which represents the aggregate value of 333,099 units issuable to the Krichman Trusts in connection with their contribution of their 20% ownership interest in Savannah Hotel Associates LLC. Edward Stein, who will serve as a member of our board of directors following completion of the offering, is the Trustee of the Trusts.

	Wilmington Hotel Associates Corp. (100% owned by Jeanette Sims)	$3.8 million, which represents the aggregate value of 377,903 units issuable to Wilmington Hotel Associates Corp, in connection with contribution of its 30.3% ownership interest in Capitol Hotel Associates
		LP, LLP. Jeanette Sims, the mother of Andrew, Kim and Christopher Sims, is the sole stockholder of Wilmington Hotel Associates Corp.

Restructuring of Management Agreements	MHI Hotels Services	$2.0 million in cash in consideration of the restructuring of the management agreements relating to five of our initial hotel properties. In connection with the restructuring, the company is consolidating the former management agreements into one agreement and reducing the management fees.

Repayment of offering expenses	MHI Hotels Services	Approximately $1.5 million in cash.

Repayment of Indebtedness/Release of Guaranty	MHI Hotels Services, Andrew Sims, Kim Sims and Christopher Sims	MHI Hotels Services, Andrew, Kim and Christopher Sims will be released from their guarantees of $9.8 million of debt with respect to two initial properties being contributed by entities partially owned by MHI Hotels Services which debt will be repaid with offering proceeds.


Transaction	Affiliated Party	Consideration

Management Agreement	MHI Hotels Services	Monthly base management fee of 2.0% for the first year, 2.5% for the second year, and 3.0% thereafter of all gross revenues for the hotels managed by MHI Hotels Services plus an annual incentive management fee in an amount equal to 10% of the annual year over year increase in gross operating profit not to exceed 0.25% of gross hotel revenues.

Strategic Alliance Agreement	MHI Hotels Services	During the 10-year term of the strategic alliance agreement, unless a majority of our independent directors in good faith concludes for valid business reasons that another management company should manage a hotel owned by us, we have agreed to offer MHI Hotels Services the right to manage hotel properties we acquire, subject to certain exceptions. MHI Hotels Services has agreed to refer to us on an exclusive basis, any hotel investment opportunity presented to it, subject to certain exceptions. For so long as Andrew, Kim and Christopher
		Sims own 1.5 million units or shares, MHI Hotels Services will have the right to nominate a director.

Employment Agreements	Andrew Sims, William Zaiser	Messrs. Sims and Zaiser will enter into five-year employment agreements with us that provide, in addition to other benefits, upon a change of control or termination without cause, severance benefits equal to five times the executive’s combined base salary and bonus compensation for the preceding fiscal year, plus reimbursement for taxes on all excess parachute amounts. We must also nominate Mr. Sims to serve on our board subject to the determination of our nominating, corporate governance and compensation committee, otherwise we must pay Mr. Sims the change of control payment described above. See “Management—Employment Agreements.”


Transaction	Affiliated Party	Consideration

Tax Indemnification	Andrew, Kim and Christopher Sims, Wilmington Hotel Associates (Jeanette Sims), Krichman Trusts (Edward Stein), Edgar Sims, Jr. irrevocable Trust, and William J. Zaiser	If we sell, during the 10-year period following the closing of the acquisition of the initial hotels, the five initial hotels contributed to us in exchange for units in a taxable transaction, we would be required to indemnify the contributors for their tax liability plus a gross up tax amount. Such indemnification obligations could result in aggregate payments of up to approximately $46.0 million.

Corporate Information

Our corporate offices are located at 814 Capitol Landing Road, Williamsburg, Virginia 23185. Our telephone number is (757) 229-5648.

We intend to elect to be taxed as a REIT under the Internal Revenue Code of 1986, as amended. As long as we maintain our status as a REIT, we generally will not be subject to federal income taxes on our net income to the extent we distribute our net income to our stockholders. However, we will be subject to tax at normal corporate rates on net income or capital gains not distributed to stockholders, and we may be subject to state income and franchise taxes. Our taxable REIT subsidiary, MHI Holding, will be fully subject to corporate income tax as a C corporation.

In order for our income to constitute “rents from real property” for purposes of the gross income test required for REIT qualification, we cannot directly operate any of our hotels. Accordingly, we will lease each of our hotels to our TRS Lessee, a wholly owned subsidiary of our taxable REIT subsidiary, MHI Holding. Our TRS Lessee will pay rent to us that can qualify as “rents from real property,” provided that it engages an “eligible independent contractor” to manage our hotels. The eligible independent contractor engaged to manage our hotels will be MHI Hotels Services.

Our Structure

The following chart shows the structure of our company following completion of the offering and the formation transactions described above:

LOGO

The Offering

Shares of common stock offered

6,000,000 shares ⁽¹⁾

Shares of common stock to be outstanding upon completion of the offering

6,004,000 shares ^(1)(2)(3)

Proposed AMEX symbol

“MDH”

⁽¹⁾	Does not include 900,000 shares issuable upon exercise of the underwriters’ over-allotment option in full.

⁽²⁾	Includes 4,000 shares of common stock that will be issued to our independent directors as restricted stock awards under our 2004 Omnibus Stock Incentive Plan.

⁽³⁾	Does not include 3,817,036 shares of common stock issuable upon redemption of units issuable in the formation transactions.

Use of Proceeds

We estimate that the net proceeds from the offering of 6,000,000 shares of our common stock pursuant to this prospectus, after deducting the underwriting discount and estimated offering costs and expenses, will be approximately $54.6 million. If the underwriter’s over-allotment is exercised in full, our net proceeds from the offering will be approximately $63.0 million. We will contribute the net proceeds to our operating partnership. Our operating partnership intends to subsequently use the net proceeds as follows:

•

approximately $25.0 million to repay the outstanding indebtedness on three of our initial properties as follows:

•

a loan secured by a first mortgage lien on the Hilton Philadelphia Airport with a principal amount outstanding of approximately $15.2 million, an interest rate of 8.25% and a maturity date of September 2006;

•

a loan from an affiliate of BB&T Capital Markets secured by a first mortgage lien on the Holiday Inn Brownstone with a principal amount outstanding of approximately $4.8 million, an interest rate of prime plus 0.25% and a maturity date of December 2008;

•

a loan secured by a first mortgage lien on the Holiday Inn Downtown Williamsburg with a principal amount outstanding of approximately $3.0 million, an interest rate of 5.82% and a maturity date of January 2023; and

•

two construction loans with respect to the Holiday Inn Brownstone hotel with a combined principal amount outstanding of approximately $2.0 million, an interest rate of prime plus 1% and a maturity date of August 2005;

•

approximately $12.2 million to fund the acquisition of the Maryland Inn in Laurel, Maryland and approximately $3.9 million for subsequent renovations of the hotel;

•

approximately $4.1 million to fund renovation and pay closing costs and $1.8 million to fund the cash portion of the purchase of the Hilton Philadelphia Airport;

•

approximately $0.5 million to fund renovations at the Holiday Inn Downtown Williamsburg;

•

approximately $1.0 million to fund the cash portion of the purchase of the Holiday Inn Brownstone;

•

approximately $3.5 million to fund the acquisition of the leasehold interests in the resort property;

•

$2.0 million to MHI Hotels Services in consideration of the amendment and restructuring of existing management agreements relating to five of our initial hotel properties; and

•

approximately $0.4 million for general corporate and working capital purposes.

Each of the agreements to acquire the initial properties is subject to customary closing conditions. As a result, we cannot provide any assurances that we will complete the acquisitions. In the event that we do not complete the acquisition of one or more of the initial properties, the offering proceeds allocated to these acquisitions will be available to fund future Upper Upscale, Upscale and Midscale lodging-related investments and for general corporate and working capital purposes.

Pending these uses, we intend to invest the net proceeds in interest-bearing, short-term investment grade securities or money-market accounts that are consistent with our intention to qualify as a REIT. Such investments may include, for example, government and government agency certificates, certificates of deposit, interest-bearing bank deposits and mortgage loan participations.

Distribution Policy

To maintain our qualification as a REIT, we intend to make annual distributions to our stockholders of at least 90% of our REIT taxable income excluding net capital gains, which does not necessarily equal net income as calculated in accordance with accounting principles generally accepted in the United States of America. We intend to commence making distributions to stockholders after the first full calendar quarter following completion of this offering. However, the timing, frequency and amount of distributions will be authorized by our board of directors and declared by us based upon a variety of factors deemed relevant by our directors. Our ability to pay distributions to our stockholders will depend, in part, upon our receipt of distributions from our operating partnership, MHI Hospitality, L.P., which will depend upon receipt of rent payments with respect to our properties from our TRS Lessee. Our cash available for distribution may be less than 90% of our REIT taxable income which may require us to sell assets or borrow funds in order to make distributions. Distributions to our stockholders generally will be taxable to our stockholders as ordinary income; however, because a significant portion of our investments will be equity ownership interests in hotel properties, which will result in depreciation and non-cash charges against our income, a portion of our distributions may constitute a return of capital. To the extent not inconsistent with maintaining our REIT status, our taxable REIT subsidiary, MHI Holding, and our TRS Lessee may retain any after-tax earnings.

Summary Historical and Pro Forma Financial Data

The following table sets forth summary historical combined operating and financial data for our accounting predecessor, MHI Hotels Services Group, and summary pro forma combined operating and financial data for MHI Hospitality Corporation. For more information, see “Selected Financial Data.”


	MHI Hospitality Corporation						MHI Hotels Services Group (Predecessor Group)
	Pro Forma for						Historical for the Years Ended December 31
	Year Ended December 31, 2003			Nine Months Ended September 30, 2004			1999			2000			2001			2002			2003
*Statement of Operations*
Operating Income
Total Revenues	$	44,566,586		$	36,472,020		$	21,397,926		$	23,888,266		$	24,109,017		$	23,959,027		$	24,435,206
Total Operating Expenses excluding depreciation & amortization		(35,224,518	)		(27,969,704	)		(17,396,522	)		(18,691,858	)		(18,976,588	)		(18,921,439	)		(19,540,957	)
Depreciation & amortization		(4,303,222	)		(3,215,260	)		(1,724,620	)		(2,196,038	)		(2,167,706	)		(2,236,136	)		(2,045,250	)

Net Operating Income		5,038,846			5,287,056			2,276,785			3,000,370			2,964,723			2,801,452			2,848,999

Adjustments to Operating Income
Interest Income		13,152			857			—			—			29,575			9,379			3,668
Interest Expense		(2,168,318	)		(1,572,083	)		(2,285,971	)		(2,645,232	)		(2,579,493	)		(2,481,528	)		(2,369,422	)
Other Income—net		(16,456	)		—			(152,356	)		(205,181	)		(765,841	)		(226,478	)		(191,312	)
Minority Interest		(1,115,350	)		(1,445,458	)		(152,809	)		(275,629	)		(206,708	)		(224,864	)		(152,097	)

Net Income (loss)	$	1,751,874		$	2,270,372		$	(314,351	)	$	(125,672	)	$	(557,744	)	$	(122,039	)	$	139,836

*Statement of Cash Flows*
Cash from Operations—net				$	2,546,576		$	3,388,998		$	1,131,332		$	4,374,020		$	2,068,531		$	2,710,595
Cash from (used in) Investing—net					(55,599,475	)		(8,511,427	)		(1,238,187	)		(1,147,231	)		(1,372,064	)		(2,397,600	)
Cash from (used in) Financing—net					63,206,428			4,113,690			95,832			(2,527,241	)		(974,065	)		(400,010	)

Net Increase (Decrease) in Cash Flow				$	10,153,529		$	(1,008,739	)	$	(11,023	)	$	699,548		$	(277,598	)	$	(87,015	)

*Balance Sheet*
Total Assets ⁽¹⁾				$	95,697,269		$	34,158,064		$	33,147,144		$	33,315,565		$	30,600,738		$	30,757,456
Total Long-Term Debt Including Current Portion ⁽¹⁾					25,916,150			33,177,083			32,470,151			31,591,771			30,548,250			29,640,738
Total Current and Long-Term Liabilities ⁽¹⁾					30,483,392			36,341,572			35,164,039			35,904,496			33,678,765			32,924,595
Minority Interest ⁽¹⁾					25,368,198			(736,567	)		(618,283	)		(673,405	)		(489,365	)		(521,268	)
Total Owners' Equity (Deficit) ⁽¹⁾					39,845,679			(1,446,941	)		(1,398,612	)		(1,915,525	)		(2,588,662	)		(1,645,871	)
*Operating Data*
Number of Rooms ⁽¹⁾		1,381			1,381			657			657			657			657			657
Number of Room Nights Annually		504,065			378,065			239,805			240,462			239,805			239,805			239,805
Occupancy Percent ⁽²⁾		64.9	%		73.1	%		58.6	%		64.6	%		67.4	%		66.3	%		67.3	%
Average Daily Rate (ADR) ⁽²⁾	$	89.76		$	90.40		$	101.79		$	100.44		$	98.53		$	98.48		$	98.10
RevPAR ⁽²⁾	$	58.26		$	66.05		$	59.66		$	64.91		$	66.42		$	65.30		$	66.01
*Additional Financial Data*
FFO ⁽³⁾	$	7,172,759		$	6,931,090		$	1,571,357		$	2,371,290		$	2,009,157		$	2,338,961		$	2,338,318

(1)	As of the period end.

(2)

Occupancy Percent is calculated by dividing the total daily number of rooms sold by the total daily number of rooms available. Average Daily Rate, ADR, is calculated by dividing the total daily room revenue by the total daily number of rooms sold. Revenue Per Available Room, RevPAR, is calculated by dividing the total daily room revenue by the total daily number of rooms available.

(3)

itself. Thus, NAREIT created FFO as a supplemental measure of REIT operating performance that excludes historical cost depreciation, among other items, from GAAP net income. Management believes that the use of FFO, combined with the required GAAP presentations, has improved the understanding of the operating results of REITs among the investing public and made comparisons of REIT operating results more meaningful. Management considers FFO to be a useful measure of adjusted net income (loss) for reviewing comparative operating and financial performance because we believe FFO is most directly comparable to net income (loss), which remains the primary measure of performance, because by excluding gains or losses related to sales of previously depreciated operating real estate assets and excluding real estate asset depreciation and amortization, FFO assists in comparing the operating performance of a company's real estate between periods or as compared to different companies. Although FFO is intended to be a REIT industry standard, other companies may not calculate FFO in the same manner as we do, and investors should not assume that FFO as reported by us is comparable to FFO as reported by other REITs. Below is a reconciliation of FFO to net income (loss).


	Pro Forma for
	Year Ended December 31, 2003		Nine Months Ended September 30, 2004		Historical for the Years Ended December 31
	Year Ended December 31, 2003		Nine Months Ended September 30, 2004		1999			2000			2001			2002			2003
Reconciliation of FFO
Net income (loss)	$	1,751,874	$	2,270,372	$	(314,351	)	$	(125,672	)	$	(557,744	)	$	(122,039	)	$	139,836
add back minority interest		1,115,350		1,445,458		152,809			275,629			206,708			224,864			152,097
add back depreciation & amortization		4,303,222		3,215,260		1,724,620			2,196,038			2,167,706			2,236,136			2,045,250
add back loss (gain) on disposal of assets		2,313		—		8,279			25,295			192,487			—			1,135

FFO	$	7,172,759	$	6,931,090	$	1,571,357		$	2,371,290		$	2,009,157		$	2,338,961		$	2,338,318

RISK FACTORS

The following factors are the material risks that apply to an investment in our common stock. In addition to other information in this prospectus, you should carefully consider the following risk factors before deciding whether to purchase our common stock.

Risks Related to Our Business and Properties

Failure of the lodging industry to exhibit improvement would adversely effect our business plan and cause a decline in the value of our common stock.

A substantial part of our business plan is based on our belief that the lodging markets in which we intend to invest are experiencing improving economic fundamentals. There can be no assurance that lodging industry fundamentals will continue to improve. In the event conditions in the industry do not continue to improve as we expect, our cash available for distribution would be less than anticipated.

Conflicts of interest could result in our executive officers and certain of our directors acting in a manner other than in our stockholders’ best interest.

Conflicts of interest relating to MHI Hotel Services and the terms of its management agreement may lead to management decisions that are not in the stockholders’ best interest.

Conflicts of interest relating to MHI Hotels Services may lead to management decisions that are not in the stockholders’ best interest. MHI Hotels Services is owned and controlled by members of the Sims family, including Andrew Sims, our chairman and CEO, Kim Sims and Christopher Sims, who will serve on our board of directors, William Zaiser, our executive vice president and CFO, and Steven Smith who is the Executive Vice President of MHI Hotels Services. Andrew Sims, William Zaiser, Kim Sims and Christopher Sims are currently officers and employees of MHI Hotels Services. Four of our initial hotels will be contributed to our operating partnership by MHI Hotels Services and its affiliates. MHI Hotels Services will manage our initial hotel properties. In addition, MHI Hotel Services will have a right of first offer to manage hotels we acquire in the future, subject to certain exceptions, and will receive substantial management fees based on the revenues and operating profit of our hotels. Our management agreement with MHI Hotels Services, including the financial terms thereof, was not negotiated on an arm’s-length basis and may be less favorable to us than we could have obtained from third parties.

Our management agreement establishes the terms of MHI Hotels Services’ management of our hotels. Under certain circumstances, if we terminate our management agreement as to one of the hotels, we will be required to pay MHI Hotels Services a termination fee. If we were to terminate the management agreement with respect to all six of these initial hotels immediately after this offering in connection with a sale of those hotels, the aggregate termination fee would be approximately $8.8 million. As majority owners of MHI Hotels Services, which would receive any management and management termination fees payable by us under the management agreement, Andrew Sims, William Zaiser, Kim Sims and Christopher Sims may influence our decisions to sell a hotel or acquire or develop a hotel when it is not in the best interests of our stockholders to do so. In addition, Andrew Sims and William Zaiser will have conflicts of interest with respect to decisions to enforce provisions of the management agreement, including any termination thereof.

There can be no assurance that provisions in our bylaws will always be successful in mitigating conflicts of interest.

Under our bylaws, any transaction between us and MHI Hotels Services or its affiliates or any interested director must be approved by a committee consisting of only independent directors. However, there can be no assurance that these policies always will be successful in mitigating such conflicts, and decisions could be made that might not fully reflect the interests of all of our stockholders.

Certain of our officers and directors will hold units and may seek to avoid adverse tax consequences which could result from transactions that would otherwise benefit our stockholders.

Holders of units, including members of our management team, may suffer adverse tax consequences upon our sale or refinancing of certain properties. Therefore, holders of units, including Andrew Sims, William Zaiser, Kim Sims, Christopher Sims, and Edward Stein may have different objectives than holders of our common stock regarding the appropriate pricing and timing of a property’s sale, or the timing and amount of a property’s refinancing. These officers and directors of ours may influence us not to sell or refinance certain properties, even if such sale or refinancing might be financially advantageous to our stockholders, or to enter into tax-deferred exchanges with the proceeds of such sales when such a reinvestment might not otherwise be in our best interest. For more information regarding the tax indemnity agreements that we have entered into with the contributors of the initial hotels, see “— Our tax indemnification obligations, which were not the result of arm’s-length negotiations and which apply in the event that we sell certain properties, could subject us to liability which we currently estimate to be $46.0 million, and limit our operating flexibility and reduce our returns on our investments” and “Certain Relationships and Related Party Transactions” in this prospectus.

Contractual obligations require us to nominate affiliates of the Sims family as two of our directors.

Pursuant to the strategic alliance agreement, MHI Hotels Services has a contractual right to nominate one person for election as a director, and, pursuant to his employment agreement with us, Andrew Sims has the right to be nominated as a director. These provisions in effect provide the Sims family and their affiliates the right to nominate two of our directors. As discussed herein, such persons have conflicts of interest with our company.

Our executive officers and certain of our directors may experience conflicts of interest in connection with their ownership interests in our operating partnership.

Our executive officers and certain of our directors, which include Andrew Sims, Williams Zaiser, Kim Sims, Christopher Sims and Ed Stein, may experience conflicts of interest relating to their ownership interests in our operating partnership. With regard to ownership interests in our operating partnership, upon completion of this offering and our formation transactions, Andrew Sims, William Zaiser, Kim Sims, Christopher Sims and Ed Stein will beneficially own 6.5%, 1.6%, 6.5%, 6.5% and 3.4% interests in our operating partnership, respectively. These individuals, together with their affiliates, will own in the aggregate approximately 29.2% of the outstanding units in our operating partnership upon completion of this offering and our formation transactions. Conflicts may arise as a result of these persons’ ownership interests as limited partners diverge from the interests of MHI Hospitality Corporation, particularly with regard to transactions such as sales of assets or the repayment of indebtedness, that could be in the best interests of MHI Hospitality Corporation and its stockholders but may have adverse tax consequences to the limited partners in our operating partnership.

Our tax indemnification obligations, which were not the result of arm’s-length negotiations and which apply in the event that we sell certain properties, could subject us to liability which we currently estimate to be approximately $46.0 million, and limit our operating flexibility and reduce our returns on our investments.

If we dispose of any of the initial hotels, we would be obligated to indemnify the original contributors (including their permitted transferees and persons who are taxable on the income of a contributor or permitted transferee) against certain tax consequences of the sale pursuant to the tax indemnity agreements, the terms of which were not the result of arm’s-length negotiations. These original contributors include Andrew Sims, our chairman, president and chief executive officer, William Zaiser, our chief financial officer, Kim Sims, one of our director nominees, and Christopher Sims, one of our director nominees. We have agreed to pay a certain amount of the contributor’s tax liability with respect to gain allocated to the contributor under Section 704(c) of the Internal Revenue Code if we dispose of a property contributed by the contributor in a taxable transaction during a “protected period,” which continues until the earlier of:

•

10 years after the contribution of such property; or

•

the date on which the contributor no longer owns, in the aggregate, at least 25% of the units we issued to the contributor at the time of its contribution of property to our operating partnership.

This tax indemnity will be equal to a certain amount of the federal and state income tax liability the contributor incurs with respect to the gain allocated to the contributor upon such sale based on a sliding scale percentage. Specifically, we will indemnify the contributors for 100% of their tax liability during the first five years after contribution, 50% during the sixth year, 40% during the seventh year, 30% during the eighth year, 20% during the ninth year and 10% during the tenth year. The terms of the tax indemnity agreements also require us to gross up the tax indemnity payment for the amount of income taxes due as a result of the tax indemnity payment. While the tax indemnities do not contractually limit our ability to conduct our business in the way we desire, we are less likely to sell any of the contributed properties in a taxable transaction during the protected period because of the significant tax liability we would have to the contributors. Instead, we would either hold the property for the entire protected period, or at least the first five years, or seek to transfer the property in a tax-deferred like-kind exchange.

If we were to sell during the next five years in a taxable transaction the five initial hotels contributed to us in exchange for units immediately after the closing of the offering, our estimated total tax indemnification obligation to our indemnified contributors, including the gross-up payment, would be approximately $46.0 million.

We did not obtain third-party appraisals of the initial hotel properties in connection with our acquisition of these properties and the consideration being paid by us in exchange for the initial properties may exceed the fair market value as determined by third-party appraisals. The terms of these agreements and the valuation methods used to determine the value of the initial hotel properties were determined by our management team who had conflicts of interest as described above. Our executive officers and certain of our directors, including Andrew Sims, our president and chief executive officer, will receive an aggregate of 2,870,863 units, having an aggregate value of approximately $28.7 million, in the formation transactions. It is possible that the consideration we give in exchange for our initial hotels may exceed their fair market value and that we could realize less value from the hotels than we would have realized if the agreements had been entered into with an unrelated third party or if we had obtained independent appraisals of the initial assets. For more information on the allocation of units to our directors and executive officers, see “Management” and “Certain Relationships and Related Party Transactions” in this prospectus.

In connection with this offering and the formation transactions, we have entered into, or will enter into, various agreements with MHI Hotels Services and its affiliates, including the contribution agreements, management agreement, strategic alliance agreement, subleases, partnership agreement of our operating partnership and employment agreements. The terms of each of these agreements were determined by our management team who had conflicts of interest as described above and ownership interests in MHI Hotels Services and its affiliates. The terms of each of these agreements may be less favorable to us than we could have obtained from third parties. For more information on the terms of these agreements, see “Our Principal Agreements,” “Management,” “Certain Relationships and Related Party Transactions,” and “Partnership Agreement.”

Unanticipated expenses and insufficient demand for hotels we acquire in new geographic markets could adversely affect our profitability and our ability to make distributions to our stockholders.

As part of our business plan, we may develop or acquire hotels in geographic areas in which our management may have little or no operating experience and in which potential customers may not be familiar with our franchise brands. As a result, we may have to incur costs relating to the opening, operation and promotion of those new hotel properties that are substantially greater than those incurred in other areas. These hotels may attract fewer customers than our existing hotels, while at the same time, we may incur substantial additional costs with these new hotel properties. Unanticipated expenses and insufficient demand at a new hotel property, therefore, could adversely affect our profitability and our ability to make distributions to our stockholders.

Under the terms of the management agreement that we will enter into with MHI Hotels Services and the REIT qualification rules, our ability to participate in operating decisions regarding the hotels is limited. We will depend on MHI Hotels Services to operate our hotels as provided in the management agreement. We do not have the authority to require any hotel to be operated in a particular manner or to govern any particular aspect of the daily operations of any hotel (for instance, setting room rates). Thus, even if we believe our hotels are being operated inefficiently or in a manner that does not result in satisfactory occupancy rates, revenue per available room, which we refer to as RevPAR, and average daily rates, we may not be able to force MHI Hotels Services to change its method of operation of our hotels. Additionally, in the event that we need to replace MHI Hotels Services or any other management companies in the future, we may be required by the terms of the management agreement to pay substantial termination fees and may experience significant disruptions at the affected hotels.

Our ability to make distributions to our stockholders is subject to fluctuations in our financial performance, operating results and capital improvements requirements.

As a REIT, we are required to distribute at least 90% of our REIT taxable income, excluding net capital gains, each year to our stockholders. In the event of future downturns in our operating results and financial performance or unanticipated capital improvements to our hotels, including capital improvements which may be required by our franchisors, we may be unable to declare or pay distributions to our stockholders. The timing and amount of distributions are in the sole discretion of our board of directors which will consider, among other factors, our financial performance, debt service obligations and debt covenants, and capital expenditure requirements. We cannot assure you that we will continue to generate sufficient cash to fund distributions.

Among the factors which could adversely affect the results of our operations and our distributions to stockholders are the failure of our TRS Lessee to make required rent payments because of reduced net operating profits or operating losses, increased debt service requirements and capital expenditures at our hotels, including capital expenditures required by the franchisors of our hotels. Among the factors which could reduce the net operating profits of our TRS Lessee are decreases in hotel revenues and increases in hotel operating expenses. Hotel revenue can decrease for a number of reasons, including increased competition from a new supply of hotel rooms and decreased demand for hotel rooms. These factors can reduce both occupancy and room rates at our hotels.

We will lease all of our hotels to our TRS Lessee. The TRS Lessee will be subject to hotel operating risks, including risks of sustaining operating losses after payment of hotel operating expenses, including management fees. These risks can affect adversely the net operating profits of our TRS Lessee, our operating expenses, and our ability to make distributions to our stockholders.

Under certain of the tax indemnification agreements, we have agreed to use commercially reasonable efforts during the protected period to make available to certain contributors opportunities to guarantee liabilities of our operating partnership. By guaranteeing liabilities of the operating partnership, the contributors will be entitled to defer recognition of gain in connection with the contribution of certain hotels. As a consequence of the allocation of debt to them for tax purposes by virtue of guaranteeing the liabilities of the operating partnership, contributors will not be deemed to have received a distribution under the applicable provisions of the Code. In the case of our tax indemnification obligation, the protected period continues until the earlier of:

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10 years after the contribution of such property; or

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the date on which the contributor no longer owns, in the aggregate, at least 25% of the units we issued to the contributor at the time of its contribution of property to our operating partnership.

The obligation to make guarantee opportunities available to the contributors could adversely affect our ability to acquire additional properties in the future by reducing the amount of debt that could be guaranteed by other, future contributors.

We intend to use approximately $25.0 million from the proceeds of the offering to repay outstanding indebtedness relating to three of our initial hotel properties, including one loan in which the lender is affiliated with BB&T Capital Markets, our lead managing underwriter, and approximately $18.5 million to acquire certain of our initial hotel properties. This use of funds from the offering will reduce the amount of cash available for general corporate and working capital purposes.

Future debt service obligations could adversely affect our overall operating results, may require us to liquidate our properties, may jeopardize our tax status as a REIT and limit our ability to make distributions to our stockholders.

After the completion of the offering, we will have approximately $25.8 million in debt representing an initial leverage ratio of approximately 27.0% of our pro forma total assets as of September 30, 2004. While we intend to maintain target debt levels of 45-55% of total assets, our board of directors may change this debt policy at any time without stockholder approval. In addition, we intend to enter into a $23.0 million revolving credit facility following completion of the offering. We must satisfy certain financial covenants, including, among others, that the proportion of our floating rate debt will not exceed 50% of consolidated total debt, we will maintain a minimum tangible net worth of $67.5 million, our maximum leverage will not exceed 55%, other cash flow related covenants and we will expand and/or deposit, in aggregate, a minimum of at least 3% of room revenues for capital improvements to the Holiday Inn Brownstone and the Hilton Philadelphia Airport. We must also satisfy other non-financial covenants. If we do not satisfy these covenants, we would be in default under this credit facility, and the lender could require us to immediately repay all outstanding indebtedness under the credit facility. We and our subsidiaries may be able to incur substantial additional debt, including secured debt, in the future. Incurring debt could subject us to many risks, including the risks that:

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our cash flow from operations will be insufficient to make required payments of principal and interest;

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our debt may increase our vulnerability to adverse economic and industry conditions;

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we may be required to dedicate a substantial portion of our cash flow from operations to payments on our debt, thereby reducing cash available for distribution to our stockholders, funds available for operations and capital expenditures, future business opportunities or other purposes;

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our debt service obligations on floating rate debt will increase as interest rates rise;

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the terms of any refinancing will not be as favorable as the terms of the debt being refinanced; and

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the use of leverage could adversely affect our ability to make distributions to our stockholders and the market price of our common stock.

If we violate covenants in our future indebtedness agreements, we could be required to repay all or a portion of our indebtedness before maturity at a time when we might be unable to arrange financing for such repayment on attractive terms, if at all.

If we incur debt in the future and do not have sufficient funds to repay our debt at maturity, it may be necessary to refinance this debt through additional debt financing, private or public offerings of debt securities, or additional equity financings. If, at the time of any refinancing, prevailing interest rates or other factors result in higher interest rates on refinancings, increases in interest expense would lower our cash flow, and, consequently, cash available for distribution to our stockholders. If we are unable to refinance our debt on acceptable terms, we may be forced to dispose of hotel properties on disadvantageous terms, potentially resulting in losses that reduce cash flow from operating activities. We may place mortgages on our hotel properties to secure our line of credit or other debt. To the extent we cannot meet our debt service obligations, we risk losing some or all of those properties to foreclosure. Also, covenants applicable to our debt could impair our planned strategies and, if violated, result in a default of our debt obligations.

We are subject to risks of increased hotel operating expenses and decreased hotel revenues.

Our leases with our TRS Lessee will provide for the payment of rent based in part on gross revenues from our hotels. Our TRS Lessee is subject to hotel operating risks including decreased hotel revenues and increased hotel operating expenses, including but not limited to the following:

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wage and benefit costs;

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repair and maintenance expenses;

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energy costs;

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property taxes;

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insurance costs; and

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other operating expenses.

Any increases in these operating expenses can have a significant adverse impact on the TRS Lessee’s ability to pay rent and other operating expenses and, consequently, our earnings and cash flow.

Operating our hotels under franchise agreements could increase our operating costs and lower our net income.

Our hotels will operate under franchise agreements which will subject us to risks in the event of negative publicity related to one of our franchisors.

The maintenance of the franchise licenses for our hotels is subject to our franchisors’ operating standards and other terms and conditions. Our franchisors periodically inspect our hotels to ensure that we, our lessee and our management company follow their standards. Failure by us, our TRS Lessee or our management company to maintain these standards or other terms and conditions could result in a franchise license being cancelled. If a franchise license terminates due to our failure to make required improvements or to otherwise comply with its terms, we may also be liable to the franchisor for a termination payment, which varies by franchisor and by hotel. As a condition of continuing a franchise license, a franchisor could also possibly require us to make capital expenditures, even if we do not believe the capital improvements are necessary or desirable or will result in an acceptable return on our investment. Nonetheless, we may risk losing a franchise license if we do not make franchisor-required capital expenditures.

If a franchisor terminates the franchise license, we may try either to obtain a suitable replacement franchise license, or to operate the hotel without a franchise license. The loss of a franchise license could significantly decrease the revenues at the hotel and reduce the underlying value of the hotel because of the loss of associated name recognition, marketing support and centralized reservation systems provided by the franchisor. A loss of a franchise license for one or more hotels could materially and adversely affect our revenues. This loss of revenues could, therefore, also adversely affect our financial condition and results of operations and reduce our cash available for distribution to stockholders.

Our executive officers have no experience operating a public company or a REIT, which could increase our general and administrative costs and reduce our cash available for distributions.

None of our senior executive officers has any experience operating a public company or a REIT. Qualification as a REIT involves the application of highly technical and complex Internal Revenue Code provisions. As a result, we may initially incur higher general and administrative expenses than our competitors that are managed by persons with experience operating a public company or a REIT, which would reduce our net income and cash available for distribution.

Future acquisitions may not yield the returns expected, may result in disruptions to our business, may strain management resources and may result in stockholder dilution.

Our business strategy may not ultimately be successful and may not provide positive returns on our investments. Acquisitions may cause disruptions in our operations and divert management’s attention away from day-to-day operations. The issuance of equity securities in connection with any acquisition could be substantially dilutive to our stockholders.

Our net income would be adversely affected if our leases for the resort property are terminated or if the sub-lessees have insufficient net income to pay rent.

If the Shell Island resort property leases are terminated, our sublease agreements for the resort property will also be terminated. The property leases may be terminated by the resort property’s homeowners’ association if MHI Hotels, LLC or MHI Hotels Two, Inc. breaches certain provisions under the leases. The leases may also be terminated by the homeowners’ association if MHI Hotels, LLC or MHI Hotels Two, Inc. serves as central rental agent for less than 80 of the 160 rental units at the resort. Upon termination of these subleases, MHI Hotels, LLC and MHI Hotels Two, Inc. would be unable to meet their payment obligations, and we would no longer receive the fixed annual amount of approximately $640,000, less our lease payments of $120,000 to the resort property’s homeowners’ association. In addition, the ability of MHI Hotels, LLC and MHI Hotels Two, Inc. to make rent payments is dependent upon generating revenues from the operation of the resort properties. Although MHI Hotels Services has agreed to make capital contributions to MHI Hotels, LLC and MHI Hotels Two, Inc. in an amount sufficient to cure their defaults under the sublease agreements, MHI Hotels Services has nominal assets, and is dependent on management fee income. In such event, our net income could be adversely affected, and we may be required to write off our investment in the Shell Island Resort property leases.

We may realize reduced revenue because our management company may experience conflicts of interest in connection with the management of the resort property.

MHI Hotels Services may experience conflicts of interest in connection with the management of our resort property and one of our initial hotel properties, which are located less than one mile from each other, and its continued management of an additional resort property not owned by us and located nearby in the same geographic market. The fees MHI Hotels Services earns for managing our properties are largely fixed under our management agreement with MHI Hotels Services and may be less than the fees it earns for managing the resort property that we do not own or lease. Because MHI Hotels Services handles the reservations for all of these properties, MHI Hotels Services may have a greater financial incentive to direct guests to the resort property that we do not own or lease.

Geographic concentration of our initial hotels will make our business vulnerable to economic downturns in the Mid-Atlantic and Southeastern United States.

All of our six initial hotels are located in the Mid-Atlantic and Southeastern United States. Economic conditions in the Mid-Atlantic and Southeastern United States will significantly affect our revenues and the value

of our hotels. Business layoffs or downsizing, industry slowdowns, changing demographics and other similar factors may adversely affect the economic climate in these areas. Any resulting oversupply or reduced demand for hotels in the Mid-Atlantic and Southeastern United States and our markets in particular would therefore have a disproportionate negative impact on our revenues and limit our ability to make distributions to stockholders.

Our borrowing costs are sensitive to fluctuations in interest rates.

Higher interest rates could increase debt service requirements on our floating rate debt including any borrowings, under our proposed credit facility, which we anticipate will permit us to borrow up to $23.0 million. Any borrowings under our proposed credit facility will have floating interest rates of 30 day LIBOR plus 2.5%. We currently do not intend to engage in interest rate protection—in the form of swap agreements, interest rate cap contracts or similar agreements—to “hedge” against the possible negative effects of interest rate fluctuations. Adverse economic conditions could also cause the terms on which we borrow to be unfavorable. We could be required to liquidate one or more of our hotel investments at times which may not permit us to receive an attractive return on our investments in order to meet our debt service obligations. If we were to engage in any hedging transactions, they would have to be structured so as to not jeopardize our status as a REIT. See “Material Federal Income Tax Considerations — Income Tests — Hedging Transactions.”

We are a new company with no operating history, and we might not be able to operate our business or implement our operating policies and strategies successfully, which could negatively impact our ability to make distributions and cause you to lose all or part of your investment.

We were incorporated in Maryland in August 2004 and have not yet commenced business operations. We are subject to all of the business risks and uncertainties associated with any new business, including the risk that we will not achieve our business objectives and that the value of your investment could decline substantially. The results of our operations will depend on many factors, including the availability of opportunities for investment, readily accessible short and long-term funding alternatives in the financial markets and economic conditions. Furthermore, if we cannot successfully operate our business or implement our operating policies and strategies as described in this prospectus, it could negatively impact our ability to make distributions and cause you to lose all or part of your investment.

Joint venture investments could be adversely affected by our lack of sole decision-making authority, our reliance on a co-venturers’ financial condition and disputes between us and our co-venturers.

We may co-invest in the future with third parties through partnerships, joint ventures or other entities, acquiring non-controlling interests in or sharing responsibility for managing the affairs of a property, partnership, joint venture or other entity. In such event, we would not be in a position to exercise sole decision-making authority regarding the property, partnership, joint venture or other entity. Investments in partnerships, joint ventures, or other entities may, under certain circumstances, involve risks not present were a third party not involved, including the possibility that partners or co-venturers might become bankrupt or fail to fund their share of required capital contributions. Partners or co-venturers may have economic or other business interests or goals which are inconsistent with our business interests or goals, and may be in a position to take actions contrary to our policies or objectives. Such investments may also have the potential risk of impasses on decisions, such as a sale, because neither we nor the partner or co-venturer would have full control over the partnership or joint venture. Disputes between us and partners or co-venturers may result in litigation or arbitration that would increase our expenses and prevent our officers and/or directors from focusing their time and effort on our business. Consequently, actions by, or disputes with, partners or co-venturers might result in subjecting properties owned by the partnership or joint venture to additional risk. We may also, in certain circumstances, be liable for the actions of our third-party partners or co-venturers. For example, we may be required to guarantee indebtedness incurred by a partnership, joint venture or other entity for the purchase or renovation of a hotel property. Such a guarantee may be on a joint and several basis with our partner or co-venturer in which case we may be liable in the event such party defaults on its guaranty obligation.

Risks Related to the Hotel Industry

Our ability to make distributions to our stockholders may be affected by factors in the lodging industry.

Operating Risks

Our hotel properties are subject to various operating risks common to the lodging industry, many of which are beyond our control, including the following:

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competition from other hotel properties in our markets;

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over-building of hotels in our markets, which adversely affects occupancy and revenues at our hotels;

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dependence on business and commercial travelers and tourism;

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increases in energy costs and other expenses affecting travel, which may affect travel patterns and reduce the number of business and commercial travelers and tourists;

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increases in operating costs due to inflation and other factors that may not be offset by increased room rates;

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changes in interest rates and in the availability, cost and terms of debt financing;

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changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance with laws and regulations, fiscal policies and ordinances;

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adverse effects of international, national, regional and local economic and market conditions;

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adverse effects of a downturn in the lodging industry; and

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risks generally associated with the ownership of hotel properties and real estate, as we discuss in detail below.

These factors could reduce the net income of our TRS Lessee, which in turn could adversely affect our ability to make distributions to our stockholders.

Competition for Acquisitions

We compete for investment opportunities with entities that have substantially greater financial resources than we do. These entities generally may be able to accept more risk than we can prudently manage. This competition may generally limit the number of suitable investment opportunities offered to us. This competition may also increase the bargaining power of property owners seeking to sell to us, making it more difficult for us to acquire new properties on attractive terms.

Seasonality of Hotel Business

The hotel industry is seasonal in nature. This seasonality can be expected to cause quarterly fluctuations in our revenues. Our quarterly earnings may be adversely affected by factors outside our control, including weather conditions and poor economic factors. As a result, we may have to enter into short-term borrowings in certain quarters in order to offset these fluctuations in revenues and to make distributions to our stockholders.

Investment Concentration in Particular Segments of Single Industry

Our entire business is lodging-related. Therefore, a downturn in the lodging industry, in general, and the segments in which we operate, in particular, will have a material adverse effect on amounts available for distribution to our stockholders.

Capital Expenditures

Our hotel properties have an ongoing need for renovations and other capital improvements, including replacements, from time to time, of furniture, fixtures and equipment. The franchisors of our hotels also require

periodic capital improvements as a condition of keeping the franchise licenses. In addition, our lenders will likely require that we set aside annual amounts for capital improvements to our hotel properties. The existing loan obligations relating to the Hilton Savannah DeSoto and the Hilton Wilmington Riverside, which we will assume in the formation transactions, will require us to set aside 5% of gross sales for capital improvements. The existing loans on the Hilton Philadelphia Airport and the Holiday Inn Brownstone, which will be repaid with proceeds from the offering, mandate that 3% of room sales be set aside for capital improvement. We expect future credit arrangements to be consistent with such requirements and expect the average lenders’ capital improvements reserve requirement for all of our hotels will be approximately 4% of gross sales. Based upon our initial hotels’ gross revenue in 2003, the average lender’s capital improvements reserve requirement for all of our hotels would have been approximately $1,760,423 based on an average 4% capital improvement reserves. We may spend in excess of lender reserve requirements. These capital improvements may give rise to the following risks:

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possible environmental problems;

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construction cost overruns and delays;

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a possible shortage of available cash to fund capital improvements and the related possibility that financing for these capital improvements may not be available to us on affordable terms; and

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uncertainties as to market demand or a loss of market demand after capital improvements have begun.

The costs of all these capital improvements could adversely affect our financial condition and amounts available for distribution to our stockholders.

Hotel re-development is subject to timing, budgeting and other risks that would increase our operating costs and limit our ability to make distributions to stockholders.

We intend to acquire hotel properties from time to time as suitable opportunities arise, taking into consideration general economic conditions and seek to re-develop or reposition these hotels. Redevelopment of hotel properties involve a number of risks, including risks associated with:

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construction delays or cost overruns that may increase project costs;

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receipt of zoning, occupancy and other required governmental permits and authorizations;

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development costs incurred for projects that are not pursued to completion;

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acts of God such as earthquakes, hurricanes, floods or fires that could adversely impact a project;

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financing; and

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governmental restrictions on the nature or size of a project.

We cannot assure you that any re-development project will be completed on time or within budget. Our inability to complete a project on time or within budget would increase our operating costs and reduce our net income.

The hotel business is capital intensive, and our inability to obtain financing could limit our growth.

Our hotel properties will require periodic capital expenditures and renovation to remain competitive. Acquisitions or development of additional hotel properties will require significant capital expenditures. The lenders under some of the mortgage debt that we will assume will require us to set aside varying amounts each year for capital improvements at our hotels. We may not be able to fund capital improvements or acquisitions solely from cash provided from our operating activities because we must distribute at least 90% of our REIT taxable income, excluding net capital gains, each year to maintain our REIT tax status. Consequently, we rely upon the availability of debt or equity capital to fund hotel acquisitions and improvements. As a result, our ability to fund capital expenditures, acquisitions or hotel development through retained earnings is very limited. Our ability to grow through acquisitions or development of hotels will be limited if we cannot obtain satisfactory debt or equity financing which will depend on market conditions. Neither our charter nor our bylaws limits the amount of debt that we can incur. However, we cannot assure you that we will be able to obtain additional equity or debt financing or that we will be able to obtain such financing on favorable terms.

The events of September 11, 2001, recent economic trends, the military action in Afghanistan and Iraq and prospects for future terrorist acts and military action have adversely affected the hotel industry generally, and these adverse effects may continue.

Before September 11, 2001, hotel owners and operators had begun experiencing declining RevPAR, as a result of the slowing U.S. economy. The terrorist attacks of September 11, 2001 and the after-effects (including the prospects for more terror attacks in the United States and abroad), combined with economic trends and the U.S.-led military action in Afghanistan and Iraq, substantially reduced business and leisure travel and lodging industry RevPAR generally. We cannot predict the extent to which these factors will directly or indirectly impact your investment in our common stock, the lodging industry or our operating results in the future. Declining RevPAR at hotels that we acquire would reduce our net income and restrict our ability to fund capital improvements at our hotels and our ability to make distributions to stockholders necessary to maintain our status as a REIT. Additional terrorist attacks, acts of war or similar events could have further material adverse effects on the markets on which shares of our common stock will trade, the lodging industry at large and our operations in particular.

Uninsured and underinsured losses could adversely affect our operating results and our ability to make distributions to our stockholders.

We intend to maintain comprehensive insurance on each of our hotel properties, including liability, fire and extended coverage, of the type and amount we believe are customarily obtained for or by hotel owners. There are no assurances that current coverage will continue to be available at reasonable rates. Various types of catastrophic losses, like earthquakes and floods, losses from foreign terrorist activities such as those on September 11, 2001 or losses from domestic terrorist activities such as the Oklahoma City bombing on April 19, 1995, may not be insurable or may not be economically insurable. Initially, we do not expect to obtain terrorism insurance on our hotel properties because it is costly. Lenders may require such insurance and our failure to obtain such insurance could constitute a default under loan agreements. Depending on our access to capital, liquidity and the value of the properties securing the affected loan in relation to the balance of the loan, a default could reduce our net income and limit our ability to obtain future financing.

In the event of a substantial loss, our insurance coverage may not be sufficient to cover the full current market value or replacement cost of our lost investment. Should an uninsured loss or a loss in excess of insured limits occur, we could lose all or a portion of the capital we have invested in a hotel, as well as the anticipated future revenue from the hotel. In that event, we might nevertheless remain obligated for any mortgage debt or other financial obligations related to the property. Inflation, changes in building codes and ordinances, environmental considerations and other factors might also keep us from using insurance proceeds to replace or renovate a hotel after it has been damaged or destroyed. Under those circumstances, the insurance proceeds we receive might be inadequate to restore our economic position on the damaged or destroyed property.

Noncompliance with governmental regulations could adversely affect our operating results.

Environmental Matters

Our hotels may be subject to environmental liabilities. An owner of real property can face liability for environmental contamination created by the presence or discharge of hazardous substances on the property. We may face liability regardless of:

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our knowledge of the contamination;

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the timing of the contamination;

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the cause of the contamination; or

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the party responsible for the contamination of the property.

There may be unknown environmental problems associated with our properties. If environmental contamination exists on our properties, we could become subject to strict, joint and several liability for the contamination by virtue of our ownership interest.

The presence of hazardous substances on a property may adversely affect our ability to sell the property and we may incur substantial remediation costs. The discovery of environmental liabilities attached to our properties could have a material adverse effect on our results of operations and financial condition and our ability to pay dividends to stockholders.

Americans with Disabilities Act and Other Changes in Governmental Rules and Regulations

Under the Americans with Disabilities Act of 1990, or the ADA, all public accommodations must meet various federal requirements related to access and use by disabled persons. Compliance with the ADA’s requirements could require removal of access barriers, and non-compliance could result in the U.S. government imposing fines or in private litigants winning damages. If we are required to make substantial modifications to our hotels, whether to comply with the ADA or other changes in governmental rules and regulations, our financial condition, results of operations and ability to make distributions to our stockholders could be adversely affected.

General Risks Related to the Real Estate Industry

Illiquidity of real estate investments could significantly impede our ability to respond to adverse changes in the performance of our properties and harm our financial condition.

Because real estate investments are relatively illiquid, our ability to promptly sell one or more hotel properties or mortgage loans in our portfolio in response to changing economic, financial and investment conditions is limited. The real estate market is affected by many factors that are beyond our control, including:

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adverse changes in international, national, regional and local economic and market conditions;

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changes in interest rates and in the availability, cost and terms of debt financing;

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changes in governmental laws and regulations, fiscal policies and zoning ordinances and the related costs of compliance with laws and regulations, fiscal policies and ordinances;

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the ongoing need for capital improvements, particularly in older structures;

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changes in operating expenses; and

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civil unrest, acts of God, including earthquakes, floods and other natural disasters, which may result in uninsured losses, and acts of war or terrorism, including the consequences of the terrorist acts such as those that occurred on September 11, 2001.

We may decide to sell our hotels in the future. We cannot predict whether we will be able to sell any hotel property or loan for the price or on the terms set by us, or whether any price or other terms offered by a prospective purchaser would be acceptable to us. We also cannot predict the length of time needed to find a willing purchaser and to close the sale of a hotel property or loan.

We may be required to expend funds to correct defects or to make improvements before a hotel property can be sold. We cannot assure you that we will have funds available to correct those defects or to make those improvements. In acquiring a hotel property, we may agree to lock-out provisions that materially restrict us from selling that property for a period of time or impose other restrictions, such as a limitation on the amount of debt that can be placed or repaid on that property. These factors and any others that would impede our ability to respond to adverse changes in the performance of our properties could have a material adverse effect on our operating results and financial condition, as well as our ability to pay distributions to stockholders.

Our hotels may contain or develop harmful mold, which could lead to liability for adverse health effects and costs of remediating the problem.

When excessive moisture accumulates in buildings or on building materials, mold growth may occur, particularly if the moisture problem remains undiscovered or is not addressed over a period of time. Some molds may produce airborne toxins or irritants. Concern about indoor exposure to mold has been increasing, as exposure to mold may cause a variety of adverse health effects and symptoms, including allergic or other reactions. As a result, the presence of significant mold at any of our properties could require us to undertake a costly remediation program to contain or remove the mold from the affected property, which would reduce our cash available for distribution. In addition, the presence of significant mold could expose us to liability from our guests, employees or our management company and others if property damage or health concerns arise.

Risks Related to Our Organization and Structure

Our failure to qualify as a REIT under the federal tax laws will result in substantial tax liability, which would reduce the amount of cash available for distribution to our stockholders.

The federal income tax laws governing REITs are complex.

We intend to operate in a manner that will qualify us as a REIT under the federal income tax laws. The REIT qualification requirements are extremely complex, however, and interpretations of the federal income tax laws governing qualification as a REIT are limited. We have not applied for or obtained a ruling from the Internal Revenue Service that we will qualify as a REIT. Accordingly, we cannot be certain that we will be successful in operating so we can qualify as a REIT. At any time, new laws, interpretations or court decisions may change the federal tax laws or the federal income tax consequences of our qualification as a REIT.

Failure to make distributions could subject us to tax.

In order to qualify as a REIT, each year we must pay out to our stockholders in distributions at least 90% of our REIT taxable income, excluding net capital gain. To the extent that we satisfy this distribution minimum, but distribute less than 100% of our taxable income, we will be subject to federal corporate income tax on our undistributed taxable income. In addition, we will be subject to a 4% nondeductible excise tax if the actual amount that we pay out to our stockholders in a calendar year is less than the minimum amount specified under federal tax laws. Our only source of funds to make these distributions comes from rent and dividends we receive from MHI Holding, which in turn receives revenues from hotel operations. Accordingly, we may be required to borrow money or sell assets to make distributions sufficient to enable us to pay out enough of our taxable income to satisfy the distribution requirement and to avoid corporate income tax and the 4% nondeductible excise tax in a particular year.

Failure to qualify as a REIT would subject us to federal income tax.

If we fail to qualify or remain qualified as a REIT in any taxable year (including, but not limited to, a failure resulting from not making the minimum required distribution), and if the relief provisions were not to apply, we will be subject to federal income tax on our taxable income. If we fail to qualify as a REIT, we would not be required to make any distributions. In addition, any distributions that we do make will not be deductible by us. This would substantially reduce our earnings, our cash available to pay distributions, and your yield on your investment.

The resulting tax liability might cause us to borrow funds, liquidate some of our investments, or take other steps that could negatively affect our operating results in order to pay any such tax. Moreover, if our REIT status is terminated because of our failure to meet a technical REIT requirement and the relief provisions did not excuse our failure to qualify as a REIT, or if we voluntarily revoke our election, we generally would be disqualified from re-electing treatment as a REIT until the fifth calendar year after the year in which we failed to qualify as a REIT.

Failure to qualify as a REIT may cause us to reduce or eliminate distributions to our shareholders, and we may face increased difficulty in raising capital or obtaining financing.

If we fail to qualify or remain qualified as a REIT, we may have to reduce or eliminate any distributions to our stockholders in order to satisfy our income tax liabilities. Any distributions that we do make to our stockholders would be treated as taxable dividends to the extent of our current and accumulated earnings and profits. This may result in negative investor and market perception regarding the market value of our common stock, and the value of your shares of our common stock may be reduced. In addition, we may face increased difficulty in raising capital or obtaining financing if we fail to qualify or remain qualified as a REIT because of the resulting tax liability and potential reduction of our market valuation.

The formation of MHI Holding and our TRS Lessee increases our overall tax liability.

MHI Holding and our TRS Lessee are subject to federal and state income tax on their taxable income, which will consist of the revenues from the hotels leased by our TRS Lessee, net of the operating expenses for such hotels and rent payments to us. Accordingly, although our ownership of our TRS Lessee will allow us to participate in the operating income from our hotels in addition to receiving rent, that operating income will be fully subject to income tax. The after-tax net income of our TRS Lessee is available for distribution to us.

We will incur a 100% excise tax on transactions with MHI Holding and our TRS Lessee that are not conducted on an arm’s-length basis. For example, to the extent that the rent paid by our TRS Lessee to us exceeds an arm’s-length rental amount, such amount potentially will be subject to this excise tax. We intend that all transactions between us and MHI Holding and our TRS Lessee will be conducted on an arm’s-length basis and, therefore, that the rent paid by our TRS Lessee to us will not be subject to this excise tax.

Even if we remain qualified as a REIT, we may face other tax liabilities that reduce our cash flow.

Even if we remain qualified for taxation as a REIT, we may be subject to certain federal, state and local taxes on our income and assets. For example:

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We will be required to pay tax on undistributed REIT taxable income.

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We may be required to pay “alternative minimum tax” on our items of tax preference.

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If we have net income from the disposition of foreclosure property held primarily for sale to customers in the ordinary course of business or other non-qualifying income from foreclosure property, we must pay tax on that income at the highest corporate rate.

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If we sell a property in a “prohibited transaction,” our gain from the sale would be subject to a 100% penalty tax. A “prohibited transaction” would be a sale of property, other than a foreclosure property, held primarily for sale to customers in the ordinary course of business.

•

MHI Holding is a fully taxable corporation and will be required to pay federal and state taxes on its income, which will consist of the revenues from the hotels leased from our operating partnership, net of the operating expenses for such hotels and rent payments to us.

Our ability to effect a merger or other business combination transaction may be restricted by our operating partnership agreement.

Conflicts of interest relating to a merger or other business combination transactions involving our change of control may occur between us and Andrew Sims, our chairman of our board of directors, president and chief executive officer, William Zaiser, our chief financial officer and Kim Sims, Christopher Sims, and Edward Stein, three of our director nominees. Our operating partnership’s agreement of limited partnership provides that the holders of 66.7% of the outstanding limited partnership interests in our operating partnership (including our limited partnership interest in our operating partnership) must approve such a merger or other business

combination transaction, unless the holders of 50% or more of the outstanding limited partnership interests (other than our limited partnership interest) approves such a merger or other business combination transaction. Upon completion of this offering and our formation transactions, Andrew Sims, William Zaiser, Kim Sims, Christopher Sims and Ed Stein will beneficially own 24.6% of our outstanding limited partnership interests, and we will own 60.1%. Although our stockholders must approve a merger or other business combination transaction under applicable Maryland law, under our operating partnership agreement, limited partners, including certain of our officers and directors, must approve certain other business combination transactions involving us. These approval rights of limited partners may lead to conflicts of interest, which could result in decisions that do not fully reflect our best interests or the best interests of our stockholders.

In addition, in the event of a change of control of our company, the limited partners will have the right, for a period of 30 days following the change of control event, to cause the operating partnership to redeem all of the units held by the limited partners for a cash amount equal to the cash redemption amount otherwise payable upon redemption pursuant to the partnership agreement. This cash redemption right may make it more unlikely or difficult for a third party to propose or consummate a change of control transaction, even if such transaction were in the best interests of our shareholders.

Complying with REIT requirements may cause us to forego attractive opportunities that could otherwise generate strong risk-adjusted returns and instead pursue less attractive opportunities, or none at all.

To qualify as a REIT for federal income tax purposes, we must continually satisfy tests concerning, among other things, the sources of our income, the nature and diversification of our assets, the amounts we distribute to our stockholders and the ownership of our stock. Thus, compliance with the REIT requirements may hinder our ability to operate solely on the basis of generating strong risk-adjusted returns on invested capital for our stockholders.

Complying with REIT requirements may force us to liquidate otherwise attractive investments, which could result in an overall loss on our investments.

To qualify as a REIT, we must also ensure that at the end of each calendar quarter at least 75% of the value of our assets consists of cash, cash items, government securities and qualified REIT real estate assets. The remainder of our investment in securities (other than government securities and qualified real estate assets) generally cannot include more than 10% of the outstanding voting securities of any one issuer or more than 10% of the total value of the outstanding securities of any one issuer. In addition, in general, no more than 5% of the value of our assets (other than government securities and qualified real estate assets) can consist of the securities of any one issuer, and no more than 20% of the value of our total securities can be represented by securities of one or more taxable REIT subsidiaries. If we fail to comply with these requirements at the end of any calendar quarter, we must correct such failure within 30 days after the end of the calendar quarter to avoid losing our REIT status and suffering adverse tax consequences. After January 1, 2005, if we fail to comply with these requirements at the end of any calendar quarter, and the failure exceeds a de minimis threshold, we may be able to preserve our REIT status if the failure was due to reasonable cause and not to willful neglect. In this case, we will be required to dispose of the assets causing the failure within six months after the last day of the quarter in which the failure occurred, and we will be required to pay an additional tax of the greater of $50,000 or the product of the highest applicable tax rate multiplied by the net income generated on those assets. As a result, we may be required to liquidate otherwise attractive investments.

Taxation of dividend income could make our common stock less attractive to investors and reduce the market price of our common stock.

At any time, the federal income tax laws governing REITs or the administrative interpretations of those laws may be amended. Any of those new laws or interpretations may take effect retroactively and could adversely affect us or you as a stockholder. On May 28, 2003, the President signed the Jobs and Growth Tax Relief

Reconciliation Act of 2003, which we refer to as the Jobs and Growth Tax Act. Effective for taxable years beginning after December 31, 2002, and before January 1, 2009, the Jobs and Growth Tax Act generally reduced the maximum rate of tax applicable to individuals, trusts and estates on dividend income from regular C corporations to 15.0%. This reduced substantially the so called “double taxation” (that is, taxation at both the corporate and stockholder levels) that has generally applied to corporations that are not taxed as REITs. Generally, dividends from REITs do not qualify for the dividend tax reduction because, as a result of the dividends paid deduction to which REITs are entitled, REITs generally do not pay corporate level tax on income that they distribute to stockholders. As a result of the Jobs and Growth Tax Act, individual, trust, and estate investors could view stocks of non REIT corporations as more attractive relative to shares of REITs than was the case previously because the dividends paid by non REIT corporations are subject to lower tax rates for such investors.

Provisions of our charter may limit the ability of a third party to acquire control of our company.

Aggregate Share and Common Share Ownership Limits

Our charter provides that no person may directly or indirectly own more than 9.9% of the value of our outstanding shares of stock or more than 9.9% of the number of our outstanding shares of common stock. These ownership limitations may prevent an acquisition of control of our company by a third party without our board of directors’ approval, even if our stockholders believe the change of control is in their interest. Our board of directors has discretion to waive that ownership limit if the board receives evidence that ownership in excess of the limit will not jeopardize our REIT status.

Authority to Issue Stock

Our amended and restated Charter authorizes our board of directors to issue up to 49,000,000 shares of common stock and up to 1,000,000 shares of preferred stock, to classify or reclassify any unissued shares of common stock or preferred stock and to set the preferences, rights and other terms of the classified or reclassified shares. Issuances of additional shares of stock may have the effect of delaying or preventing a change in control of our company, including transactions at a premium over the market price of our stock, even if stockholders believe that a change of control is in their interest. We will be able to issue additional shares of stock or preferred stock without stockholder approval, unless stockholder approval is required by applicable law or the rules of any stock exchange or automated quotation system on which our securities may be listed or traded.

Provisions of Maryland law may limit the ability of a third party to acquire control of our company.

Certain provisions of the Maryland General Corporation Law, or the MGCL, may have the effect of inhibiting a third party from making a proposal to acquire us or of impeding a change of control under circumstances that otherwise could provide the holders of shares of our common stock with the opportunity to realize a premium over the then-prevailing market price of such shares, including:

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“business combination” provisions that, subject to limitations, prohibit certain business combinations between us and an “interested stockholder” (defined generally as any person who beneficially owns 10% or more of the voting power of our shares or an affiliate thereof) for five years after the most recent date on which the stockholder becomes an interested stockholder, and thereafter imposes special appraisal rights and special stockholder voting requirements on these combinations; and

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“control share” provisions that provide that “control shares” of our company (defined as shares which, when aggregated with other shares controlled by the stockholder, entitle the stockholder to exercise one of three increasing ranges of voting power in electing directors) acquired in a “control share acquisition” (defined as the direct or indirect acquisition of ownership or control of “control shares”) have no voting rights except to the extent approved by our stockholders by the affirmative vote of at least two-thirds of all the votes entitled to be cast on the matter, excluding all interested shares.

We have opted out of these provisions of the MGCL, in the case of the business combination provisions of the MGCL by resolution of our board of directors, and in the case of the control share provisions of the MGCL pursuant to a provision in our bylaws. However, our board of directors may by resolution elect to opt in to the business combination provisions of the MGCL and we may, by amendment to our bylaws, opt in to the control share provisions of the MGCL in the future.

Additionally, Title 8, Subtitle 3 of the MGCL permits our board of directors, without stockholder approval and regardless of what is currently provided in our charter or bylaws, to implement takeover defenses, some of which (for example, a classified board) we do not yet have. These provisions may have the effect of inhibiting a third party from making an acquisition proposal for our company or of delaying, deferring or preventing a change in control of our company under the circumstances that otherwise could provide the holders of our common stock with the opportunity to realize a premium over the then current market price.

Provisions in our executive officers’ employment agreements and the strategic alliance agreement may make a change of control of our company more costly or difficult.

Our employment agreements with our president and chief executive officer and our chief financial officer contain provisions providing for substantial payments to these officers in the event of a change of control of our company. Specifically, if we terminate the executive’s employment without cause or the executive resigns with good reason, which includes a failure to nominate Mr. Sims to our board of directors or his involuntary removal from our board of directors, unless for cause or vote by the stockholders, or if there is a change of control, each of the executives is entitled to the following:

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any accrued but unpaid salary and bonuses;

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vesting of any previously issued stock options and restricted stock;

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payment of the executive’s life, health and disability insurance coverage for a period of five years following termination;

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any unreimbursed expenses; and

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a severance payment equal to five times the executive’s combined salary base and actual bonus compensation for the preceding fiscal year.

In addition, the executives will receive additional payments to compensate them for the additional taxes, if any, imposed on them under Section 4999 of the Internal Revenue Code by reason of receipt of excess parachute payments.

These provisions may make a change of control of our company, even if it is in the best interests of our stockholders, more costly and difficult and may reduce the amounts our stockholders would receive in a change of control transaction.

Our ownership limitations may restrict or prevent you from engaging in certain transfers of our common stock.

In order to maintain our REIT qualification, no more than 50% in value of our outstanding stock may be owned, directly or indirectly, by five or fewer individuals (as defined in the federal income tax laws to include various kinds of entities) during the last half of any taxable year (other than the first year for which a REIT election is made). To preserve our REIT qualification, our charter contains a 9.9% aggregate share ownership limit and a 9.9% common share ownership limit. Generally, any shares of our stock owned by affiliated owners will be added together for purposes of the aggregate share ownership limit, and any shares of common stock owned by affiliated owners will be added together for purposes of the common share ownership limit.

If anyone transfers shares in a way that would violate the aggregate share ownership limit or the common share ownership limit, or prevent us from continuing to qualify as a REIT under the federal income tax laws, those shares

instead will be transferred to a trust for the benefit of a charitable beneficiary and will be either redeemed by us or sold to a person whose ownership of the shares will not violate the aggregate share ownership limit or the common share ownership limit. If this transfer to a trust fails to prevent such a violation or our continued qualification as a REIT, then we will consider the initial intended transfer to be null and void from the outset. The intended transferee of those shares will be deemed never to have owned the shares. Anyone who acquires shares in violation of the aggregate share ownership limit, the common share ownership limit or the other restrictions on transfer in our charter bears the risk of suffering a financial loss when the shares are redeemed or sold if the market price of our stock falls between the date of purchase and the date of redemption or sale.

The board of directors’ revocation of our REIT status without stockholder approval may decrease our stockholders’ total return.

Our charter provides that our board of directors may revoke or otherwise terminate our REIT election, without the approval of our stockholders, if it determines that it is no longer in our best interest to continue to qualify as a REIT. If we cease to be a REIT, we would become subject to federal income tax on our taxable income and would no longer be required to distribute most of our taxable income to our stockholders, which may have adverse consequences on our total return to our stockholders.

The ability of our board of directors to change our major corporate policies may not be in your interest.

Our board of directors determines our major corporate policies, including our acquisition, financing, growth, operations and distribution policies. Our board may amend or revise these and other policies from time to time without the vote or consent of our stockholders.

Our success depends on key personnel whose continued service is not guaranteed.

We depend on the efforts and expertise of our president and chief executive officer, Andrew Sims, and our executive vice president, chief financial officer and treasurer, William Zaiser, to manage our day-to-day operations and strategic business direction. The loss of any of their services could have an adverse effect on our operations.

Risks Related to the Offering

We cannot assure you that a public market for our common stock will develop.

Prior to the offering, there has not been a public market for our common stock and, even though we have applied to list the shares of our common stock on the AMEX under the trading symbol “MDH,” we cannot assure you that a regular trading market for the shares of common stock offered hereby will develop or, if developed, that any such market will be sustained. In the absence of a public trading market, an investor may be unable to liquidate an investment in our common stock. The initial public offering price has been determined by us and the underwriters. We cannot assure you that the price at which the shares of common stock will sell in the public market after the closing of the offering will not be lower than the price at which they are sold by the underwriters.

The market price of our equity securities may vary substantially.

The trading prices of equity securities issued by REITs have historically been affected by changes in market interest rates. One of the factors that may influence the price of our common stock or preferred stock in public trading markets is the annual yield from distributions on our common stock or preferred stock as compared to yields on other financial instruments. An increase in market interest rates, or a decrease in our distributions to stockholders, may lead prospective purchasers of our stock to demand a higher annual yield, which could reduce the market price of our equity securities.

Other factors that could affect the market price of our equity securities include the following:

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actual or anticipated variations in our quarterly results of operations;

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changes in market valuations of companies in the hotel or real estate industries;

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changes in expectations of future financial performance or changes in estimates of securities analysts;

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fluctuations in stock market prices and volumes;

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issuances of common stock or other securities in the future;

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the addition or departure of key personnel; and

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announcements by us or our competitors of acquisitions, investments or strategic alliances.

The number of shares available for future sale could cause our share price to decline.

Upon the completion of this offering, we will have 6,004,000 shares of common stock outstanding and 3,817,036 shares of common stock reserved for issuance upon redemption of units. Limited partners may exercise redemption rights to cause the redemption of units at any time after the one-year anniversary of the issuance of the units. Provided that we are then eligible to file a registration statement on Form S-3, we have agreed to file a shelf registration statement with the SEC on or about the first anniversary of the closing of this offering, and thereafter to use our best efforts to have the registration statement declared effective, covering the continuous resale of the 3,817,036 shares of common stock issuable upon exercise of the units. We cannot predict whether future issuances of shares of our common stock or the availability of shares for resale in the open market will decrease the market price of our common stock. Sales of substantial numbers of shares of our common stock in the public market, or the perception that such sales might occur, could adversely affect the market price of our common stock.

The exercise of the underwriter’s over-allotment option, the redemption of units for common stock, portfolio or business acquisitions and other issuances of our common stock could have an adverse effect on the market price of our common stock. In addition, future issuances of our common stock may be dilutive to existing stockholders.

Investors in this offering will experience immediate and significant dilution in the book value per share.

The initial public offering price of our common stock is substantially higher than what our net tangible book value per share will be immediately after this offering. Purchasers of our common stock in this offering will incur immediate dilution of approximately $3.36 in net tangible book value per share of our common stock, based on the mid-point of the price range for the shares to be sold in this offering.

There are no assurances of our ability to make distributions in the future.

We intend to make quarterly distributions to our stockholders in amounts such that all or substantially all of our taxable income in each year, subject to certain adjustments, is distributed. This, along with other factors, should enable us to qualify for the tax benefits accorded to a REIT under the Internal Revenue Code. However, our ability to pay distributions may be adversely affected by the risk factors described in this prospectus. All distributions will be made at the discretion of our board of directors and will depend upon our earnings, our financial condition, maintenance of our REIT status and such other factors as our board of directors may deem relevant from time to time. There are no assurances of our ability to pay distributions in the future. In addition, some of our distributions may include a return of capital.

An increase in market interest rates may have an adverse effect on the market price of our securities.

One of the factors that investors may consider in deciding whether to buy or sell our securities is our dividend rate as a percentage of our share or unit price, relative to market interest rates. If market interest rates increase, prospective investors may desire a higher dividend or interest rate on our securities or seek securities paying higher dividends or interest. The market price of our common stock likely will be strongly affected by the

earnings and return that we derive from our investments and income with respect to our properties and our related distributions to stockholders, and not from the market value or underlying appraised value of the properties or investments themselves. As a result, interest rate fluctuations and capital market conditions can affect the market price of our common stock. For instance, if interest rates rise without an increase in our dividend rate, the market price of our common stock could decrease because potential investors may require a higher dividend yield on our common stock as market rates on interest-bearing securities, such as bonds, rise. In addition, rising interest rates would result in increased interest expense on our variable rate debt, thereby adversely affecting cash flow and our ability to service our indebtedness and pay dividends.

Upon completion of the offering and related formation transactions, Andrew Sims, our chief executive officer, William Zaiser, our chief financial officer, and Kim and Christopher Sims, who will become directors upon completion of the offering, and their affiliates and family members, will beneficially own units which represent an aggregate of approximately 29.2% of the equity interests in us. Accordingly, our officers, directors, their affiliates and family members may be able to exercise significant control over the outcome of substantially all matters required to be submitted to our stockholders for approval, including decisions relating to the election of our board of directors and the determination of our day-to-day corporate and management policies. In addition, Andrew Sims, William Zaiser, Kim Sims and Christopher Sims may be able to exercise significant control over the outcome of any proposed merger or consolidation of our company through their roles as our directors and executive officers and through the supermajority voting requirement for these types of transactions set forth in our limited partnership agreement, which would also require the affirmative vote of the holders of a majority of the outstanding shares of our common stock. Their ownership interest in our company may discourage third parties from seeking to acquire control of our company at a premium to the then current market price of our common stock.

Future offerings of debt securities or preferred stock, which would be senior to our common stock upon liquidation and for the purposes of distributions, may cause the market price of our common stock to decline.

In the future, we may attempt to increase our capital resources by making additional offerings of debt or equity securities, including commercial paper, medium-term notes, senior or subordinated notes and classes of preferred stock or common stock. We will be able to issue additional shares of stock or preferred stock without stockholder approval, unless stockholder approval is required by applicable law or the rules of any stock exchange or automated quotation system on which our securities may be listed or traded. Upon liquidation, holders of our debt securities and shares of preferred stock and lenders with respect to other borrowings will receive a distribution of our available assets prior to the holders of our common stock. Additional equity offerings may dilute the holdings of our existing stockholders or reduce the market price of our common stock, or both. Holders of our common stock are not entitled to preemptive rights or other protections against dilution. Preferred stock and debt, if issued, could have a preference on liquidating distributions or a preference on dividend or interest payments that could limit our ability to make a distribution to the holders of our common stock. Because our decision to issue securities in any future offering will depend on market conditions and other factors beyond our control, we cannot predict or estimate the amount, timing or nature of our future offerings. Thus, our stockholders bear the risk of our future offerings reducing the market price of our common stock and diluting their interest.

Because the number of units we will issue to our officers and directors and their affiliates in the formation transactions is fixed, any increase in the offering price will increase the value of their consideration.

The number of units we will issue in the formation transactions to our officers and directors and their affiliates is fixed. Therefore, if the offering price increases, the value of the consideration received by these officers, directors and affiliates will also increase.

CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS

We make forward-looking statements in this prospectus that are subject to risks and uncertainties. These forward-looking statements include information about possible or assumed future results of our business, financial condition, liquidity, results of operations, plans and objectives. Statements regarding the following subjects are forward-looking by their nature:

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our business and investment strategy;

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our forecasted operating results;

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completion of any pending or future transactions;

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our ability to obtain future financing arrangements;

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our understanding of our competition;

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market and industry trends;

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projected capital expenditures; and

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use of the proceeds of the offering.

The forward-looking statements are based on our beliefs, assumptions and expectations of our future performance, taking into account all information currently available to us. These beliefs, assumptions and expectations can change as a result of many possible events or factors, not all of which are known to us. If a change occurs, our business, financial condition, liquidity and results of operations may vary materially from those expressed in our forward-looking statement. You should carefully consider this risk when you make an investment decision concerning our common stock. Additionally, the following factors could cause actual results to vary from our forward-looking statements:

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the factors discussed in this prospectus, including those set forth under the sections titled “Risk Factors,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Our Business and Properties”;

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general volatility of the capital markets and the market price of our common stock;

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changes in our business or investment strategy;

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availability, terms and deployment of capital;

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availability of and our ability to retain qualified personnel;

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changes in our industry and the markets in which we operate, interest rates or the general U.S. or international economy; and

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the degree and nature of our competition.

When we use the words “will likely result,” “may,” “anticipate,” “estimate,” “should,” “expect,” “believe,” “intend” or similar expressions, we intend to identify forward-looking statements. You should not place undue reliance on these forward-looking statements. We are not obligated to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

MARKET DATA

Market data and forecasts used in this prospectus have been obtained from independent industry sources as well as from research reports prepared for other purposes, including market information compiled by Smith Travel Research. Smith Travel Research, a Tennessee-based lodging and travel research firm, among other things, provides research reports and forecasts on the performance of the lodging and travel industry. We have not independently verified the data obtained from these sources. Forecasts and other forward-looking information obtained from these sources are subject to the same qualifications and the additional uncertainties regarding the other forward-looking statements in this prospectus.

USE OF PROCEEDS

We will contribute the net proceeds to our operating partnership. Our operating partnership intends to subsequently use the net proceeds received from us as follows:

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approximately $25.0 million to repay the outstanding indebtedness on three of our initial properties as follows:

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approximately $12.2 million to fund the acquisition of the Maryland Inn in Laurel, Maryland and approximately $3.9 million for the subsequent renovation of the hotel;

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approximately $4.1 million to fund renovation and to pay closing costs and $1.8 million to fund the cash portion of the purchase of the Hilton Philadelphia Airport;

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approximately $0.5 million to fund renovations at the Holiday Inn Downtown Williamsburg;

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$3.5 million to fund the acquisition of the leasehold interests in the resort property;

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$1.0 million to fund the cash portion of the acquisition of the Holiday Inn Brownstone;

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$2.0 million to MHI Hotels Services in consideration of the amendment and restructuring of existing management agreements relating to five of our initial hotel properties; and

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approximately $0.4 million for general corporate and working capital purposes.

Our agreements to acquire the initial hotel properties are subject to customary closing conditions and contingencies, and no assurances can be given that these acquisitions will occur. The obligations of the contributing entities under the contribution agreements to transfer the initial hotel properties to us are conditioned upon completion of this offering, payment of the consideration described above and other customary conditions, including receipt of third party consents, approval of the franchisors, execution of indemnity agreements, the operating partnership agreement and assignment agreements. The contribution agreements relating to the Holiday Inn Brownstone and Hilton Philadelphia Airport also provide for the repayment of debt. The sale agreement relating to the Maryland Inn is conditioned upon the receipt of third party consents. In the event that we do not close the acquisition of one or more of the initial hotel properties, the offering proceeds allocated to these acquisitions will be available to fund future lodging-related investments and for general corporate and working capital purposes.

CAPITALIZATION

The following table sets forth the historical capitalization, as of September 30, 2004, of MHI Hotels Services Group, our accounting predecessor. The pro forma column reflects our capitalization, as of September 30, 2004, after giving effect to the contribution of the three initial hotel properties which are included in our accounting predecessor (the Hilton Savannah DeSoto, the Hilton Wilmington Riverside, and the Holiday Inn Downtown Williamsburg) and the acquisition of the other three initial hotel properties (Hilton Philadelphia Airport, Maryland Inn and the Holiday Inn Brownstone). The pro forma as adjusted column reflects our capitalization, as of September 30, 2004, after giving effect to (i) the sale of 6,000,000 shares of our common stock at the offering price of $10.00 per share, which is the mid-point of the range set forth on the cover page of this prospectus, after deducting the underwriting discount and estimated expenses payable by us in connection with this offering and (ii) the application of the net proceeds of the offering as described in “Use of Proceeds.”

This table should be read in conjunction with the section captioned “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” “Formation Transactions” and “Use of Proceeds” and our historical and unaudited pro forma financial information and related notes included elsewhere in this prospectus.


	As of September 30, 2004
	MHI Hotels Services Group (Predecessor Group)			Pro Forma ⁽¹⁾			Pro Forma As Adjusted ⁽¹⁾⁽²⁾

Long-term debt (including current portion)	$	28,819,406		$	48,870,859		$	25,860,239

Minority interest in operating partnership		—			—			25,368,198

Stockholders’ equity:
Preferred stock, $.01 par value, 1,000,000 shares authorized, no shares issued and outstanding		—			—			—
Common stock, $.01 par value, 49,000,000 shares authorized, 6,004,000 shares issued and outstanding, after offering ⁽¹⁾ ⁽³⁾		—			—			60,040
Minority Interest		(531,635	)		(531,635	)		—
Equity of Contributing Members/Owners		(2,061,765	)		6,260,344			—
Additional paid-in capital		—			—			39,785,639

Total stockholders’ equity (deficit)		(2,593,400	)		5,728,709			39,845,679


Total capitalization	$	26,226,006		$	54,599,568		$	91,074,116

⁽¹⁾	Does not include 3,817,036 shares of common stock issuable upon redemption of units issued as consideration for the acquisition of certain of our initial hotels.

⁽²⁾	We expect to use approximately $25.0 million of the net proceeds of the offering to repay outstanding debt on three of the initial properties.

⁽³⁾	As of the date of this prospectus, 100 shares of our common stock were issued and outstanding, all of which were owned by Andrew Sims, which shares will be cancelled upon completion of this offering.

DISTRIBUTION POLICY

In order to qualify as a REIT, we must annually distribute to our stockholders an amount at least equal to:

•

90% of our REIT taxable income (determined before the deduction for dividends paid and excluding any net capital gain); plus

•

90% of the excess of our net income from foreclosure property over the tax imposed on such income by the Internal Revenue Code; less

•

any excess non-cash income (as determined under Sections 856 through 860 of the Internal Revenue Code).

See “Material Federal Income Tax Considerations.”

We intend to commence making distributions to our stockholders after the first full calendar quarter following consummation of this offering.

The timing, frequency and amount of distributions will be authorized by our board of directors and declared by us based upon a number of factors, including:

•

actual results of operations;

•

the timing of the investment of the proceeds of the offering;

•

debt service requirements;

•

capital expenditure requirements for our properties;

•

our taxable income;

•

the annual distribution requirement under the REIT provisions of the Internal Revenue Code;

•

our operating expenses; and

•

other factors that our board of directors may deem relevant.

Our ability to make distributions to our stockholders will depend, in part, upon our receipt of distributions from our operating partnership, MHI Hospitality, L.P., which may depend upon receipt of lease payments from our TRS Lessee, and, in turn, upon the management of our hotel properties by MHI Hotels Services, who will be engaged to operate our hotels. Distributions to our stockholders will generally be taxable to our stockholders as ordinary income; however, because a portion of our investments will be equity ownership interests in hotels, which will result in depreciation and non-cash charges against our income, a portion of our distributions may constitute a tax-free return of capital. To the extent not inconsistent with maintaining our REIT status, our TRS, MHI Holding, may retain any after-tax earnings. For more information, see “Material Federal Income Tax Considerations — Taxation of our Company.”

DILUTION

The initial price per share to the public of the common stock offered under this prospectus exceeds the net tangible book value per share of our common stock immediately after this offering, but assuming no exercise of the underwriters’ over-allotment option. As a result, the holders of units issued in connection with the formation transactions will receive an immediate increase in the net tangible book value of their units, while purchasers of common stock in the offering will realize an immediate dilution in the net tangible book value of their shares. Pro forma net tangible book value per unit before the offering is determined by dividing tangible book value of approximately $(2.6) million (total tangible assets less total liabilities of the MHI Hotels Services Group, our accounting predecessor), as adjusted to reflect completion of our formation transactions, by 3,084,682 units issuable in the formation transactions for the assets of our accounting predecessor. Pro forma net tangible book value per share and unit after the offering is determined by subtracting our total liabilities from our total tangible assets and dividing the remainder by the number of shares of common stock and units that will be outstanding after the offering. The increase in pro forma net tangible book value per share and unit attributable to the offering and formation transactions is determined by subtracting pro forma net tangible book value per unit before the offering from the pro forma net tangible book value per share and unit after the offering. This increase is separated below into decreases attributable to the formation transactions and increases attributable to the offering. Dilution is determined by subtracting pro forma net tangible book value per share after giving effect to the formation transactions and this offering from $10.00, the assumed initial public offering price per share, at the mid-point of the price range for this offering, before deducting the underwriter’s discount and estimated expenses of the offering. The following table illustrates the dilution to purchasers of shares sold in the offering, based on an assumed initial public offering price of $10.00 per share.


Initial price per share to the public	$	10.00
Pro forma net tangible book value per unit before the offering	$	(0.84	)
Increase in pro forma net tangible book value per share and unit attributable to the offering	$	8.03
Decrease in pro forma net tangible book value per share and unit attributable to the formation transactions	$	(0.55	)
Pro forma net tangible book value per share and unit after the offering ⁽¹⁾	$	6.64
Dilution in pro forma net tangible book value per share to new investors	$	3.36

⁽¹⁾	Based on the pro forma combined balance sheet contained elsewhere in this prospectus and assumes that 6,004,000 shares of common stock and 3,817,036 operating partnership units will be outstanding immediately after consummation of this offering and the formation transactions.

SELECTED FINANCIAL DATA

MHI Hospitality Corporation was formed in August 2004 and has no operating history. The following table sets forth selected historical combined operating and financial data for the entities that comprise the accounting predecessor to the business of MHI Hospitality Corporation. This information represents the collective historical combined financial condition and results of operations of MHI Hotels Services Group, our accounting predecessor. MHI Hotels Services Group consists of the entities and interests under common ownership and control by Edgar Sims, Jr., Jeanette Sims, Andrew Sims, Kim Sims and Christopher Sims. MHI Hotels Services Group includes three of our initial hotel properties: the Holiday Inn Downtown Williamsburg, the Hilton Wilmington Riverside and the Hilton Savannah DeSoto. The following selected historical combined financial data as of December 31, 2003 and 2002 and for each of the years in the three-year period ended December 31, 2003 were derived from audited combined financial statements contained elsewhere in this prospectus. These financial statements have been audited by Witt Mares & Company, PLC our independent registered public accounting firm. The selected historical combined financial data presented below as of and for the nine months ended September 30, 2004 are derived from the unaudited financial statement of MHI Hotels Services Group. The following selected historical combined financial data as of December 31, 2001, 2000 and 1999 and for each of the years ending December 31, 2000 and 1999 were derived from unaudited financial statements that are not contained in this prospectus. The audited and unaudited historical combined financial statements include all adjustments, consisting of normal recurring adjustments, which we consider necessary for a fair presentation of our financial condition and the results of operations as of those dates and for those periods under accounting principles generally accepted in the United States.

The following selected pro forma financial and operating data includes consolidated pro forma financial information to reflect adjustments relating to the formation transactions. The unaudited pro forma statement of operations data for the year ended December 31, 2003 are presented as if the formation transactions, this offering and the application of the net proceeds from this offering had occurred on January 1, 2003. The unaudited pro forma statement of operations data for the nine months ended September 30, 2004 are presented as if the formation transactions, this offering and the application of the net proceeds from this offering had occurred on January 1, 2004. The unaudited pro forma balance sheet data as of September 30, 2004 are presented as if the formation transactions, this offering and the application of the net proceeds of this offering had occurred on September 30, 2004.

The historical financial information for our accounting predecessor included herein and set forth elsewhere in this prospectus are not necessarily indicative of our future performance. In addition, because the information presented below is only a summary and does not provide all of the information contained in our financial statements and those of our predecessor entities, including notes, you should read the following selected historical combined and pro forma consolidated financial and operating data together with “Unaudited Pro Forma Financial Information,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our combined financial statements and related notes included elsewhere in this prospectus. Pro forma information has been compiled from historical financial and other information, but does not purport to represent what our financial position or results of operations actually would have been had the formation transactions of this offering and repayment of debt in connection with the application of the net proceeds this offering occurred on the dates indicated, or, purport to project our financial position or results of operations for any future date or period.

SELECTED HISTORICAL AND PRO FORMA FINANCIAL DATA


	MHI Hospitality Corporation						MHI Hotels Services Group (Predecessor Group)
	Pro Forma for						Historical for the Years Ended December 31
	Year Ended December 31, 2003			Nine Months Ended September 30, 2004			1999			2000			2001			2002			2003
*Statement of Operations*
Operating Income
Total Revenues	$	44,566,586		$	36,472,020		$	21,397,926		$	23,888,266		$	24,109,017		$	23,959,027		$	24,435,206
Total Operating Expenses excluding depreciation & amortization		(35,224,518	)		(27,969,704	)		(17,396,522	)		(18,691,858	)		(18,976,588	)		(18,921,439	)		(19,540,957	)
Depreciation & amortization		(4,303,222	)		(3,215,260	)		(1,724,620	)		(2,196,038	)		(2,167,706	)		(2,236,136	)		(2,045,250	)

Net Operating Income		5,038,846			5,287,056			2,276,785			3,000,370			2,964,723			2,801,452			2,848,999

Adjustments to Operating Income
Interest Income		13,152			857			—			—			29,575			9,379			3,668
Interest Expense		(2,168,318	)		(1,572,083	)		(2,285,971	)		(2,645,232	)		(2,579,493	)		(2,481,528	)		(2,369,422	)
Other Income—net		(16,456	)		—			(152,356	)		(205,181	)		(765,841	)		(226,478	)		(191,312	)
Minority Interest		(1,115,350	)		(1,445,458	)		(152,809	)		(275,629	)		(206,708	)		(224,864	)		(152,097	)

Net Income (loss)	$	1,751,874		$	2,270,372		$	(314,351	)	$	(125,672	)	$	(557,744	)	$	(122,039	)	$	139,836

*Statement of Cash Flows*
Cash from Operations—net				$	2,546,576		$	3,388,998		$	1,131,332		$	4,374,020		$	2,068,531		$	2,710,595
Cash from (used in) Investing—net					(55,599,475	)		(8,511,427	)		(1,238,187	)		(1,147,231	)		(1,372,064	)		(2,397,600	)
Cash from (used in) Financing—net					63,206,428			4,113,690			95,832			(2,527,241	)		(974,065	)		(400,010	)

Net Increase (Decrease) in Cash Flow				$	10,153,529		$	(1,008,739	)	$	(11,023	)	$	699,548		$	(277,598	)	$	(87,015	)

*Balance Sheet*
Total Assets ⁽¹⁾				$	95,697,269		$	34,158,064		$	33,147,144		$	33,315,565		$	30,600,738		$	30,757,456
Total Long-Term Debt Including Current Portion ⁽¹⁾					25,916,150			33,177,083			32,470,151			31,591,771			30,548,250			29,640,738
Total Current and Long-Term Liabilities ⁽¹⁾					30,483,392			36,341,572			35,164,039			35,904,496			33,678,765			32,924,595
Minority Interest ⁽¹⁾					25,368,198			(736,567	)		(618,283	)		(673,405	)		(489,365	)		(521,268	)
Total Owners' Equity (Deficit) ⁽¹⁾					39,845,679			(1,446,941	)		(1,398,612	)		(1,915,525	)		(2,588,662	)		(1,645,871	)
*Operating Data*
Number of Rooms ⁽¹⁾		1,381			1,381			657			657			657			657			657
Number of Room Nights Annually		504,065			378,065			239,805			240,462			239,805			239,805			239,805
Occupancy Percent ⁽²⁾		64.9	%		73.1	%		58.6	%		64.6	%		67.4	%		66.3	%		67.3	%
Average Daily Rate (ADR) ⁽²⁾	$	89.76		$	90.40		$	101.79		$	100.44		$	98.53		$	98.48		$	98.10
RevPAR ⁽²⁾	$	58.26		$	66.05		$	59.66		$	64.91		$	66.42		$	65.30		$	66.01
*Additional Financial Data*
FFO ⁽³⁾	$	7,172,759		$	6,931,090		$	1,571,357		$	2,371,290		$	2,009,157		$	2,338,961		$	2,338,318

(1)	As of the period end.

(2)

(3)

Funds from Operations, FFO, is used by industry analysts and investors as a supplemental operating performance measure of an equity REIT. FFO is calculated in accordance with the definition that was adopted by the Board of Governors of the National Association of Real Estate Investment Trusts, NAREIT. FFO, as defined by NAREIT, represents net income or loss determined in accordance with GAAP, excluding extraordinary items as defined under GAAP and gains or losses from sales of previously depreciated operating real estate assets, plus certain non-cash items such as real estate asset depreciation and amortization, and after adjustment for any minority interest from unconsolidated partnerships and joint ventures. Historical cost accounting for real estate assets in accordance with GAAP implicitly assumes that the value of real estate assets diminishes predictably over time. Since real estate values instead have historically risen or fallen with market conditions, many investors and analysts have considered the presentation of operating results for real estate companies that use historical cost accounting to be insufficient by itself. Thus, NAREIT created FFO as a supplemental measure of REIT operating performance that excludes historical cost depreciation, among other items, from GAAP net income. Management believes that the use of FFO, combined with the required GAAP presentations, has improved the understanding of the operating results of REITs among the investing public and made comparisons of REIT operating results more meaningful. Management considers FFO to be a useful measure of adjusted net income (loss) for reviewing comparative operating and financial performance because we believe FFO is most directly comparable to net income (loss), which remains the primary measure of performance,

because by excluding gains or losses related to sales of previously depreciated operating real estate assets and excluding real estate asset depreciation and amortization, FFO assists in comparing the operating performance of a company's real estate between periods or as compared to different companies. Although FFO is intended to be a REIT industry standard, other companies may not calculate FFO in the same manner as we do, and investors should not assume that FFO as reported by us is comparable to FFO as reported by other REITs. Below is a reconciliation of FFO to net income (loss).


	Pro Forma for
	Year Ended December 31, 2003		Nine Months Ended September 30, 2004		Historical for the Years Ended December 31
	Year Ended December 31, 2003		Nine Months Ended September 30, 2004		1999			2000			2001			2002			2003
Reconciliation of FFO
Net income (loss)	$	1,751,874	$	2,270,372	$	(314,351	)	$	(125,672	)	$	(557,744	)	$	(122,039	)	$	139,836
add back minority interest		1,115,350		1,445,458		152,809			275,629			206,708			224,864			152,097
add back depreciation & amortization		4,303,222		3,215,260		1,724,620			2,196,038			2,167,706			2,236,136			2,045,250
add back loss (gain) on disposal of assets		2,313		—		8,279			25,295			192,487			—			1,135

FFO	$	7,172,759	$	6,931,090	$	1,571,357		$	2,371,290		$	2,009,157		$	2,338,961		$	2,338,318

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of financial condition, results of operations, liquidity and capital resources in conjunction with our combined historical financial statements and the related notes. The notes to the combined financial statements provide additional information about us and the basis of presentation used in this prospectus.

Overview

We are a Maryland corporation that was formed in August 2004 to pursue current and future opportunities in the full-service, Upper Upscale, Upscale and Midscale segments of the hotel industry. We intend to be self-advised and to own our hotels and conduct our business through our operating partnership, MHI Hospitality, L.P. Upon consummation of the formation transactions and the closing of this offering, we will be the sole general partner of our operating partnership and we initially will own an approximate 61.1% interest in our operating partnership, with the remaining interest initially being held by the contributors of our initial properties as limited partners. We also intend to elect to be treated as a REIT for federal income tax purposes.

Upon consummation of the formation transactions, our portfolio will consist of six full-service, Upper Upscale and Midscale hotels. We will own a 100% interest in all of our initial hotels. Based on an assumed offering price of $10.00 per share, the aggregate consideration to be paid for 100% of the interests in five of the initial hotels (excluding the Maryland Inn) is valued at $94.4 million, including the assumption of $50.8 million of consolidated debt. In accordance with generally accepted accounting principles, the majority interests in hotels comprising our accounting predecessor and minority interests held by the controlling holders of our accounting predecessor in hotels acquired from third parties are recorded at historical cost basis. Minority interests in those entities that comprise our accounting predecessor and the interests in hotels, other than those held by the controlling members of our accounting predecessor, acquired from third parties are recorded at fair value. We expect to use approximately $25.0 million of proceeds of the offering to retire the debt on the Holiday Inn Brownstone, the Hilton Philadelphia Airport and the Holiday Inn Downtown Williamsburg. We will acquire the Maryland Inn for approximately $12.2 million in cash. In addition, we will acquire leasehold interests in the resort property leases at the Shell Island Resort, Wrightsville Beach, North Carolina for $3.5 million in cash and will pay $2.0 million in cash to restructure existing management agreements relating to five of our initial properties. The $2.0 million payment is a non-recurring charge and will be recognized in our first accounting period following completion of the offering. See “Our Business and Properties — Our Initial Properties.”

In the hotel industry, most categories of operating costs, with the exception of franchise, management, and credit card fees and the costs of the food and beverages served, do not vary directly with revenues. This aspect of our operating costs creates operating leverage, whereby changes in sales volume disproportionately impacts operating results. Room revenue is the most important category of revenue and drives other revenue categories such as food and beverage and telephone. There are three key performance indicators used in the hotel industry to measure room revenues:

•

Occupancy, or the number of rooms sold, usually expressed as a percentage of total rooms available;

•

Average daily rate or ADR, which is total room revenue divided by the number of rooms sold; and

•

Revenue per available room or RevPAR, which is the room revenue divided by the total number of available room nights.

To qualify as a REIT, we cannot operate hotels. Therefore, our operating partnership will lease our hotel properties to our TRS Lessee. Our TRS Lessee will engage MHI Hotel Services to manage our hotels. Our TRS Lessee, and its parent, MHI Holding, will be consolidated into our financial statements for accounting purposes. Since both our operating partnership and MHI Holding are controlled by us, our principal source of funds on a consolidated basis will be from the operations of our hotels. The earnings of MHI Holding will be subject to taxation similar to other regular C corporations.

The discussion below relates to the consolidated financial condition and results of operations of our accounting predecessor, MHI Hotels Services Group, which consists of the entities that own the Hilton Savannah DeSoto, the Hilton Wilmington Riverside and the Holiday Inn Downtown Williamsburg. For the purposes of the following discussion, references to “we”, “us”, and “our” refer to MHI Hotels Services Group, our accounting predecessor. All significant intercompany accounts and transactions have been eliminated. The combined historical financial statements presented herein were prepared in accordance with GAAP.

Critical Accounting Policies

The critical accounting policies are described below. We consider these policies critical because they involve difficult management judgments and assumptions, are subject to material change from external factors or are pervasive, and are significant to fully understand and evaluate our reported financial results.

Investment in Hotel Properties . Hotel properties are stated at cost, net of any impairment charges, and are depreciated using the straight-line method over an estimated useful life of 7-39 years for buildings and 3-10 years for furniture and equipment.

We review our hotel properties for impairment whenever events or changes in circumstances indicate the carrying value of the hotel properties may not be recoverable. Events or circumstances that may cause us to perform our review include, but are not limited to adverse changes in the demand for lodging at our properties due to declining national or local economic conditions and/or new hotel construction in markets where our hotels are located. When such conditions exist, management performs an analysis to determine if the estimated undiscounted future cash flows from operating activities and the proceeds from the ultimate disposition of a hotel property exceed its carrying value. If the estimated undiscounted future cash flows are less than the carrying amount of the asset, an adjustment to reduce the carrying value to the related hotel property’s estimated fair market value is recorded and an impairment loss is recognized.

There have been no charges for impairment recorded in 2003, 2002 or 2001.

We estimate the fair market values of our properties through cash flow analysis taking into account each property’s expected cash flow generated from operations, holding period and expected proceeds from ultimate disposition. These cash flow analyses are based upon significant management judgments and assumptions including revenues and operating costs, growth rates and economic conditions at the time of ultimate disposition. In projecting the expected cash flows from operations of the asset, we base our estimates on future projected net operating income before depreciation and eliminating non-recurring operating expenses, which is a non-GAAP operational measure, and deduct expected capital expenditure requirements. We then apply growth assumptions based on estimated changes in room rates and expenses and the demand for lodging at our properties, as impacted by local and national economic conditions and estimated or known future new hotel supply. The estimated proceeds from disposition are determined as a matter of management’s business judgment based on a combination of anticipated cash flow in the year of disposition, terminal capitalization rate, ratio of selling price to gross hotel revenues and selling price per room.

If actual conditions differ from those in our assumptions, the actual results of each asset’s operations and fair market value could be significantly different from the estimated results and value used in our analysis.

Revenue Recognition . Hotel revenues, including room, food, beverage and other hotel revenues, are recognized as the related services are delivered. We generally consider accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If we determine that amounts are uncollectible, which would generally be the result of a customer’s bankruptcy or other economic downturn, such amounts will be charged against operations when that determination is made.

Recent Accounting Pronouncements

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 amends existing guidance on reporting gains and losses on the extinguishments of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS No. 145 also amends SFAS No. 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of FASB Statement No. 145 related to the rescission of FASB Statement No. 4 is applied in fiscal years beginning after May 15, 2002. The provisions of FASB Statement No. 145 related to the rescission of FASB Statement No. 13 were effective for transactions occurring after May 15, 2002. Management adopted SFAS No. 145 as of May 15, 2022 and it has no material effects on the financial statements.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities (revised), an Interpretation of ARB No. 51, Consolidated Financial Statements.” FIN 46(R) revises the requirements for consolidation by business enterprises of variable business entities with specific characteristics. FIN 46(R) is effective immediately for variable interests created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. For nonpublic entities, such as the Group, with a variable interest in a variable interest entity created before February 1, 2003, the Interpretation is applied to the enterprise no later than the end of the first annual reporting period beginning after June 30, 2003. Management adopted FIN 46(R) as of January 1, 2003. The application of this Interpretation is not expected to have a material effect on the group’s financial statements. The Interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that the Group will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. The Group does not believe that it is reasonably possible that the adoption of FIN 46(R) will result in the consolidation of any of its equity investees in the future.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities,” which clarifies certain implementation issues raised by constituents and amends SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” to include the conclusions reached by the FASB on certain FASB Staff Implementation issues; amends SFAS No. 133’s discussion of financial guarantee contracts and the application of the shortcut method to an interest rate swap agreement that includes an embedded option and amends other pronouncements. The guidance in SFAS No. 149 is effective for new contracts entered into or modified after June 30, 2003 and for hedging relationships designated after that date. Management adopted SFAS No. 149 as of July 1, 2003 and it has had no material effect on the financial statements.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments with the Characteristics of both Liabilities and Equity.” This statement requires the classification of certain financial instruments, previously classified within the equity section of the balance sheet, to be included in liabilities. This statement is effective for financial instruments entered into or modified after May 31, 2003 and June 15, 2003 for all other instruments. The FASB subsequently deferred indefinitely the provisions of SFAS No. 150 which apply to mandatorily redeemable non-controlling minority interests in consolidated entities. Management adopted FASB No. 150 as of July 1, 2003 and it has had no material effect on the financial statements.

Results of Operations of the MHI Hotels Services Group

Overview . In the first three quarters of 2004, the hotel industry began to recover from a challenging year in 2003. In 2003, the hospitality industry was affected by a number of factors, including the war in Iraq, intermittently raised terror alert levels as well as an overall weak economy. In addition, in the third quarter of 2003, the mid-Atlantic region was negatively impacted by Hurricane Isabel.

Comparison of the Nine Months Ended September 30, 2004 to the Nine Months Ended September 30, 2003

For the Nine-Months Ended

September 30,
2004

September 30,
2003

Variance

% Change

ADR

104.99

99.84

5.15

5.2

RevPAR

74.28

69.66

4.62

6.6

Occupancy %

70.7

69.8

0.9

1.3

Room Revenue

13,370,476

12,488,996

881,480

7.1

Food and Beverage Revenue

5,849,616

5,614,690

234,926

4.2

Total Operating Revenue

19,926,177

18,760,074

1,166,103

6.2

Depreciation and Amortization

1,589,531

1,566,030

23,501

1.5

Total Operating Expenses

16,995,392

16,252,159

743,233

4.6

Net Operating Income

2,930,785

2,507,915

422,870

16.9

Interest Expense

1,708,856

1,789,493

(80,637

)

(4.5

Net Income

861,653

453,415

408,238

90.0

Revenues . Total operating revenue increased $1.1 million, or 6.2%, from $18.8 million in the first three quarters of 2003 to $19.9 million in the first three quarters of 2004. This $1.1 million increase includes approximately $0.9 million attributable to room revenue and approximately $0.2 million to food and beverage revenue. Room revenue increased 12.6% in the Hilton Savannah DeSoto and 6.2% in the Hilton Wilmington Riverside . Room revenue for the Holiday Inn Downtown Williamsburg decreased 7.7% due to a weak local market in 2004, a decline in demand from military reservists training at nearby military installations due to the Iraqi war and a reorganization and change of emphasis in the sales department of the hotel. With many military reservists serving overseas, the Holiday Inn Downtown Williamsburg sales team refocused on other group business such as bus tours and student groups. We expect that in the event of a reduction in the number of military reservists serving abroad, the Holiday Inn Downtown Williamsburg will benefit from demand generated by an increase in military reservists training at local military installations. The food and beverage revenue increase is attributable to a 12.7% increase in food and beverage sales in the Hilton Savannah DeSoto. Collectively, the remaining hotels’ food and beverage sales remained largely unchanged.

Over the past few years, our general operating strategy has been to maintain ADR for the entire portfolio, rather than reducing ADR in order to maintain or increase occupancy. The rationale for our strategy was to position our properties for future growth in ADR and occupancy upon an expected rebound in the economy and hospitality markets.

Portfolio ADR for the first three quarters of 2004 was up $5.15 at $104.99 as compared to $99.84 in the first three quarters of 2003. Occupancy increased 1.3% from 69.8% for the first three quarters of 2003 to 70.7% for the first three quarters of 2004. Portfolio RevPAR grew 6.6% during this period to $74.28 for the first three quarters of 2004 from $69.66 in the same period in 2003.

Operating Expenses . Total operating expenses increased by $0.7 million, or 4.6%, from $16.3 million in the first three quarters of 2003 to $17.0 million in the same period of 2004. Although energy costs rose slightly, the majority of the increase was due to expense items such as franchise, management and credit card fees, sales bonuses, and food and beverage costs that increase with higher revenues.

Depreciation and Amortization Expense. Depreciation and amortization expense increased 1.5% from the amount recognized during the first nine months of 2003 compared to the same period in 2004. This increase was primarily due to increased capital expenditures for furniture and equipment.

Operating Income . Net operating income increased by 16.9% from $2.5 million in the first three quarters of 2003 to $2.9 million in the first three quarters of 2004.

Interest Expense . Interest expense decreased approximately $80,000, or 4.5%, in the first three quarters of 2004 from the first three quarters of 2003 due to stable interest rates and declining principal balances on outstanding debt.

Net Income . Net income increased 90.0% in the first three quarters of 2004 from approximately $453,000 in the first three quarters of 2003 to approximately $862,000 in the same period in 2004 due, in part, to the increase in total operating revenue which was attributable to increased room revenue and food and beverage sales. The increase in net income reflects increased operating revenue while limiting growth in operating expenses and benefiting from lower interest expense versus the prior period.

Comparison of 2003 to 2002

For the Year Ended

December 31,
2003

December 31,
2002

Variance

% Change

ADR

98.10

98.48

(0.38

)

(0.4

RevPAR

66.01

65.30

0.71

1.1

Occupancy %

67.3

66.3

1.0

1.5

Room Revenue

15,828,663

15,660,065

168,598

1.1

Food and Beverage Revenue

7,772,413

7,412,848

359,565

4.9

Total Operating Revenue

24,435,206

23,959,027

476,179

2.0

Total Operating Expenses

21,586,207

21,157,575

428,632

2.0

Depreciation and Amortization

2,045,250

2,236,136

(190,886

)

(8.5

Net Operating Income

2,848,999

2,801,452

47,547

1.7

Interest Expense

2,369,422

2,481,528

(112,106

)

(4.5

Net Income

139,836

(122,039

)

261,875

n/a

Overview . The hotel industry had a very challenging year in 2003. In addition, our hotel properties in Wilmington and Williamsburg, Virginia suffered significant revenue losses due to the impact of hurricane Isabel in the second half of 2003.

Revenues . Total operating revenue increased $0.5 million, or 2.0%, from $23.9 million in 2002 to $24.4 million in 2003. This increase was due primarily to $1.1 million in growth from the Hilton Wilmington Riverside, partially offset by a drop of $0.5 million at the Hilton Savannah DeSoto.

Room revenue on an aggregate basis for the year ended December 31, 2003 increased $0.2 million as compared to the year ended December 31, 2002. The Hilton Wilmington Riverside increased room revenue by $0.5 million despite losing $100,000 to Hurricane Isabel through group cancellations. Room revenue at the Hilton Savannah DeSoto declined $0.4 million due to a decision to pursue new business at a higher rate than groups and tour business.

ADR declined $0.38 or 0.4% from 2002 to 2003 while RevPAR increased approximately $0.71 or 1.1% from 2002 to 2003. Occupancy increased 1.0 occupancy percentage points during 2003 as compared to 2002.

Operating Expenses . Total operating expenses increased by $0.4 million, or 2.0%, from $21.2 million in 2002 to $21.6 million in 2003. This increase was primarily due to higher energy costs of $0.1 million and higher food and beverage costs of $0.2 million. Food and beverage costs were driven by the increase of 4.9% in food and beverage business.

Depreciation and Amortization Expense . Depreciation and amortization expense decreased by approximately $191,000 or 8.5% for the year ended December 31, 2003 as compared to 2002 due to the absence of major capital expenditures.

Net Operating Income . Net operating income increased 1.7% in 2003. This increase is primarily due to lower depreciation and amortization costs offset by higher energy costs.

Interest Expense . Interest expense was essentially flat year over year ended December 31, 2003 declining approximately $112,000 from 2002 as favorable interest rates and declining principal balances decreased the interest expense. The Holiday Inn Downtown Williamsburg was refinanced in 2003, which is expected to have a positive effect on interest expense in 2004.

Net Income (Loss): In 2003, we posted a net gain of approximately $140,000 as compared to a net loss of approximately $122,000 in 2002.

Comparison of 2002 to 2001

For the Year Ended

December 31,
2002

December 31,
2001

Variance

% Change

ADR

98.48

98.53

(0.05

)

—

RevPAR

65.30

66.42

(1.12

)

(1.7

Occupancy %

66.3

67.4

(1.1

(1.6

Room Revenue

15,660,065

15,928,592

(268,527

)

(1.7

Food and Beverage Revenue

7,412,848

7,278,015

134,833

1.9

Total Operating Revenue

23,959,027

24,109,017

(149,990

)

(0.6

Total Operating Expenses

21,157,575

21,144,294

13,281

0.1

Depreciation and Amortization

2,236,136

2,167,706

68,430

3.2

Net Operating Income

2,801,452

2,964,723

(163,271

)

(5.5

Interest Expense

2,481,528

2,579,493

(97,965

)

(3.8

Net Income (Loss)

(122,039

)

(551,317

)

429,278

n/a

Overview . The hotel business began slowing in the late Spring of 2001. This soft market collapsed in the Fall due to terrorist attacks in New York and Washington, D.C. Travel for the months of September through December particularly in the New York and Washington, D.C. areas, including Williamsburg, Virginia, was severely impacted. The year 2002 showed a mild rebound from these trends, but hotel business overall remained a soft market. Generally, a soft market is illustrated by stagnant growth overall. Opportunities for growth are limited and can be sector specific. Markets become soft when the economy, and travel, in particular, declines.

Revenues . Hotel operating revenue decreased by $150,000, or 0.6%. Increased revenues at the Hilton Savannah DeSoto were offset by declines at Hilton Wilmington Riverside and Holiday Inn Downtown Williamsburg.

Operating Expenses . Net hotel operating expenses were virtually unchanged for the two periods. Strict expense controls and wage and hiring freezes were put in effect after September 11, 2001. The net effect for the two periods was to hold expenses increase to approximately $13,000 increase, or 0.1%.

Depreciation and Amortization Expense . Depreciation and amortization expense increased by approximately $68,000.

Operating Income . Net operating income increased by approximately $163,000 from $2.9 million in 2001 to $2.8 million in 2002.

Interest Expense . Interest expense decreased from $2.6 million for the year ended December 31, 2001 to $2.5 million in 2002. This decrease was due to stable or declining interest rates combined with declining principal balances.

Net Income (Loss ). In 2001, we posted a net loss of approximately $551,000, including approximately $192,000 of loss on disposal of assets. This compares to a net loss of approximately $122,000 in 2002.

Liquidity and Capital Resources

Sources and Uses of Cash . Recurring capital expenditures and debt service are the most significant short-term liquidity requirements. During the next 12 months, we expect capital expenditures will be funded by our replacement reserve accounts, other than costs that we may incur to make capital improvements required by the franchisors as a condition of their consent to the transfer of the hotels in conjunction with the formation transactions, or as part of our upbranding strategy for the Maryland Inn which we will acquire with the proceeds of this offering. The capital reserve accounts are escrowed funds deposited monthly (5% of gross sales), and reserved for capital projects. The Hilton Savannah DeSoto and Hilton Wilmington Riverside have these reserve accounts as a condition of the mortgages held by Mutual of New York. Our intent for the capital reserve accounts at other hotels is an overall blended rate of 4% of gross revenue. We intend to use approximately $7.9 million of the proceeds of the offering to fund renovations and capital improvements at three of the initial hotels.

We expect to fund our short-term liquidity requirements, including working capital, through a combination of cash flows from operating activities and borrowings under a $23.0 million secured revolving line of credit that we expect to enter into following the closing of this offering. We expect the credit facility to have a term of three years and our borrowings under the credit facility are expected to bear interest at a floating interest rate of 30 day LIBOR plus 2.5%. The primary collateral for the credit facility will be a first mortgage on the Holiday Inn Brownstone, the Hilton Philadelphia Airport, and a lien on all business assets including but not limited to equipment, accounts receivable, inventory, furniture, fixtures and proceeds thereof. We must satisfy certain financial covenants, including, among others, that the proportion of our floating rate debt will not exceed 50% of consolidated total debt, we will maintain a minimum tangible net worth of $67.5 million, our maximum leverage will not exceed 55%, other cash flow related covenants and we will expend and/or deposit, in aggregate, a minimum of at least 3% of room revenues for capital improvements to the Holiday Inn Brownstone and the Hilton Philadelphia Airport. We must also satisfy other non-financial covenants. If we do not satisfy these covenants, we would be in default under this credit facility, and the lender could require us to immediately repay all outstanding indebtedness under the credit facility. As we have not yet entered into a definitive agreement, the final terms may materially differ from those described in the prospectus. Further, there can be no assurance that we will be able to obtain such a credit facility on favorable terms or at all. Debt service requirements on our borrowings will reduce our cash flows. The offering and related restructuring of existing management agreements and execution of a new management agreement with lower management fees will reduce historical debt service payments, management fees and lease payments and, consequently, improve cash flow and liquidity. On a pro forma basis, the new management fees would have positively impacted cash flow by approximately $425,000 for the year ended December 31, 2003, and approximately $342,000 for the nine months ended September 30, 2004. On a pro forma basis, there is no significant impact on cash flow from franchise related fees.

Our long-term liquidity needs will generally include the funding of future acquisitions and development activity, the retirement of mortgage debt and amounts outstanding under our secured line of credit, and obligations under our tax indemnity agreements, if any. We remain committed to maintaining a flexible capital structure. Accordingly, in addition to the sources described above with respect to our short-term liquidity, we expect to meet our long-term liquidity needs through a combination of some or all of the following:

•

The issuance by the operating partnership of secured and unsecured debt securities;

•

The issuance of additional shares of our common stock or preferred stock;

•

The issuance of additional units;

•

The selective disposition of non-core assets; and

•

The sale or contribution of some of our wholly owned properties, development projects and development land to strategic joint ventures to be formed with unrelated investors, which would have the net effect of generating additional capital through such sale or contributions.

Our obligations under the tax indemnity agreements may effectively preclude us from selling or disposing of certain of the initial hotels in taxable transactions or reducing our consolidated indebtedness below approximately $11.0 million.

We anticipate that our available cash and cash equivalents and cash flows from operating activities, with cash available from borrowings and other sources, will be adequate to meet our capital and liquidity needs in both the short and long term. However, if these sources of funds are insufficient or unavailable, our ability to satisfy cash payment obligations and make stockholder distributions may be adversely affected.

Outstanding Debt . After application of a portion of the net proceeds from this offering to repay approximately $25.0 million of consolidated mortgage debt, we expect to have approximately $25.8 million of outstanding debt. The following table sets forth the debt to be assumed by our operating partnership upon completion of the formation transactions.

Property

Estimated
Amount of
Debt to be

Assumed

(In thousands)

Estimated

Principal

Balance as of

September 30, 2004

(In thousands)

Prepayment
Penalties ⁽¹⁾

Interest
Rate ⁽²⁾

Maturity Date

Amortization
Provisions

Hilton Savannah DeSoto

10,650

10,704

yes

7.49

Nov. 2008

20 years

Hilton Wilmington Riverside

15,100

15,140

yes

8.22

March 2008

20 years

⁽¹⁾	As of November 1, 2004, the prepayment penalty for the Hilton Savannah DeSoto was $1.5 million and the prepayment penalty for the Hilton Wilmington Riverside was $2.3 million.

⁽²⁾	Fixed rate.

Contractual Obligations . The following table outlines the timing of payment requirements related to the consolidated mortgage debt and other commitments of MHI Hotels Services Group as of December 31, 2003.

Contractual Obligations

Total

Payments due by period

less than

1 year

1-3 years

3-5 years

more than 5 years

Long-Term Debt Obligations

36,798,112

3,260,871

6,521,742

23,554,552

3,460,947

Capital Lease Obligations

61,478

57,343

4,135

—

Operating Lease Obligations

94,630

39,750

45,621

9,259

—

Totals

36,954,490

3,357,964

6,571,498

23,563,811

3,460,947

Capital Expenditures

We do not expect our capital expenditures to exceed our reserves for such amounts, other than costs that we may incur to make capital improvements required by the franchisers as a condition of their consent to the transfer of the hotels in conjunction with the formation transactions or the capital improvements anticipated for the Maryland Inn which will be funded with the proceeds of this offering.

In addition to the amounts disclosed above, we are subject to various franchise and management agreements that have ongoing fees that are contingent upon future results of operations of the hotels in our portfolio as well as a potential for termination fees dependent upon the timing and method of termination of such agreements.

Off-Balance Sheet Arrangements . We currently have no off-balance sheet arrangements and expect to have no such arrangements upon consummation of the formation transactions.

Distributions to Stockholders . We intend to elect to be taxed as a REIT commencing with our taxable year ending December 31, 2004. To qualify as a REIT, we will be required to make annual distributions to our stockholders of at least 90% of our REIT taxable income, excluding net capital gain, which does not necessarily equal net income as calculated in accordance with generally accepted accounting principles). The amount, timing and frequency of distributions will be authorized by our board of directors and declared by us based upon a variety of factors deemed relevant by our directors, and no assurance can be given that our distribution policy will not change in the future. Our ability to pay distributions to our stockholders will depend, in part, upon our receipt of distributions from our operating partnership which may depend upon receipt of lease payments with respect to our properties from our TRS Lessee, and in turn, upon the management of our properties by our hotel manager. Distributions to our stockholders will generally be taxable to our stockholders as ordinary income; however, because a portion of our investments will be equity ownership interests in hotels, which will result in depreciation and non-cash charges against our income, a portion of our distributions may constitute a tax-free return of capital. To the extent not inconsistent with maintaining our REIT status, our TRS may retain any after-tax earnings. For more information, see “Material Federal Income Tax Considerations — Taxation of our Company.”

Quantitative and Qualitative Disclosures About Market Risk

The effects of potential changes in interest rate prices are discussed below. Our market risk discussion includes “forward-looking statements” and represents an estimate of possible changes in fair value or future earnings that would occur assuming hypothetical future movements in interest rates. These disclosures are not precise indicators of expected future losses, but only indicators of reasonably possible losses. As a result, actual future results may differ materially from those presented. See the notes to the consolidated financial statements for a description of our accounting policies and other information related to these financial instruments to selected changes in market interest rates.

To meet in part our long-term liquidity requirements, we borrow funds at a combination of fixed and variable rates. Our interest rate risk management objective is to limit the impact of interest rate changes on earnings and cash flows and to lower our overall borrowing costs. We do not hold or issue derivative contracts for trading or speculative purposes.

Upon consummation of the formation transactions and repayment of approximately $25.0 million of outstanding debt, we expect to assume approximately $25.8 million of fixed-rate debt and no variable rate debt. As of September 30, 2004, the weighted average interest rate on the fixed-rate debt was 7.79%.

Inflation

We expect to generate revenues primarily from lease payments from our TRS Lessee and net income due to the operations of our TRS Lessee. Therefore, we initially will be relying primarily on the performance of the initial properties and the ability of our hotel manager to increase revenues and to keep pace with inflation.

Operators of hotels, in general, possess the ability to adjust room rates daily to reflect the effects of inflation. However, competitive pressures at some or all of our hotels may limit the ability of our management companies to raise room rates.

Seasonality

The operations of the initial properties historically have been seasonal. The periods from mid-November through mid-February are traditionally slow. The months of March and April are traditionally strong, as is October. The remaining months are generally good, but are subject to the weather and can vary significantly.

Geographic Concentration

Our initial hotels are located in North Carolina, Georgia, Virginia, Maryland and Pennsylvania.

Tax and Depreciation

The following table reflects certain real estate tax information for our initial properties:

Property

Federal Tax

Basis

Property Tax

Rate

2004

estimate ⁽¹⁾

Real Estate

Tax

2004 Estimate

Depreciation

Method ⁽²⁾

Depreciation
Life (Years) ⁽³⁾

Depreciation

Percent

(%)

Holiday Inn

Downtown

Williamsburg

3,774,049

5.4

22,100

⁽⁴⁾

2.6

Holiday Inn

Brownstone

7,275,717

9.9

56,607

2.6

Hilton Savannah

DeSoto

7,058,300

42.5

327,300

2.6

Hilton Wilmington

Riverside

15,274,227

11.6

151,100

2.6

Hilton Philadelphia

Airport

6,042,845

8.5

460,000

⁽⁵⁾

2.6

Maryland Inn

3,318,873

13.3

136,000

⁽⁶⁾

2.6

⁽¹⁾	Per $1,000 of assessed value.

⁽²⁾	Straight line method of depreciation.

⁽³⁾	Depreciation life in years.

⁽⁴⁾	We currently intend to spend approximately $500,000 on property renovations. These expenditures may increase real estate taxes by approximately $2,700.

⁽⁵⁾	We currently intend to spend approximately $3,400,000 on property renovations. These expenditures may increase real estate taxes by approximately $29,000.

⁽⁶⁾	We currently intend to spend approximately $4,200,000 on property renovations. These expenditures may increase real estate taxes by approximately $56,000.

FORMATION TRANSACTIONS

We refer to the following series of transactions as our formation transactions:

•

We will sell 6,000,000 shares of common stock in the offering. We will contribute the net proceeds of the offering to MHI Hospitality, L.P., our operating partnership. In return for our contribution, we will receive 6,000,000 units of and initially will own an approximate 61.1% interest in our operating partnership. We will act as sole general partner of our operating partnership.

•

Our operating partnership will issue an aggregate of 3,084,783 units having a value of approximately $31.0 million based on an assumed value of $10.00 per share, $1.0 million in cash and we will assume $35.6 million in debt in exchange for the contribution of all of the outstanding equity interests in the entities that own four of our initial hotel properties. These entities include the Holiday Inn Downtown Williamsburg, the Holiday Inn Brownstone, the Hilton Wilmington Riverside, and the Hilton Savannah DeSoto.

•

We will acquire the assets of the Hilton Philadelphia Airport in exchange for $1.8 million in cash, the assumption of $15.2 million in debt and 732,254 units having a value of approximately $7.3 million based on a value of $10.00 per share. The entity that owns the Hilton Philadelphia Airport may receive additional units in exchange for the contribution of the property. In the event that the initial offering price of our common stock is less than $9.50 per share, the number of units to be issued to this entity will be increased to reflect the difference between the offering price and $9.50 per share multiplied by 732,254. For example, if the offering price is $9.00, this entity would receive an additional 40,681 units worth $366,127.

•

We will acquire the Maryland Inn for a cash payment of approximately $12.2 million. An affiliate of MHI Hotels Services will receive $500,000 in cash for its 25% interest in Accord LLC and West Laurel Corp., the entities that own the Maryland Inn.

•

The consideration we will pay to MHI Hotels Services and its affiliates for the contribution of the initial properties was determined by our senior executive officers taking into account an analysis of market pricing multiples of expected earnings, sales of similar assets, an internal rate of return analysis and their assessment of the fair market value of the hotels. No single factor was given greater weight than any other in valuing any of these assets.

•

We will use approximately $25.0 million of the net proceeds of the offering to repay the outstanding indebtedness on three of our initial hotel properties. This indebtedness includes (i) $4.8 million of mortgage debt and $2.0 million in construction loans relating to the Holiday Inn Brownstone, as discussed above, and (ii) approximately $3.0 million mortgage debt on the Holiday Inn Downtown Williamsburg. The mortgage debt on the Holiday Inn Brownstone is personally guaranteed by MHI Hotels, LLC, Andrew Sims, Kim Sims, Christopher Sims and Mark Smith. The mortgage debt on the Holiday Inn Downtown Williamsburg is guaranteed by MHI Hotels Services, Andrew Sims, Kim Sims and Christopher Sims. Our operating partnership will also use approximately $15.2 million of the net proceeds of the offering to repay indebtedness on the Hilton Philadelphia Airport.

•

We will use approximately $2.0 million in cash of the net proceeds of the offering to compensate MHI Hotels Services for the restructuring of existing management agreements relating to five of our initial hotel properties. The $2.0 million payment is a non-recurring charge and will be recognized in our first accounting period following completion of the offering. Upon closing of the offering, we will enter into a new management agreement with MHI Hotels Services for all of our initial properties and any future hotels managed by MHI Hotels Services. See “Our Principal Agreements – Our Management Agreement.”

•

We will acquire two resort property leases at the Shell Island Resort, a condominium resort property located in Wrightsville Beach, North Carolina, from MHI Hotels LLC and MHI Hotels Two, Inc. for a cash payment of $3.5 million, $3.0 million of which will be paid to acquire the common areas lease and $500,000 for the lease of the restaurant area. We will enter into sublease agreements with MHI Hotels Two, Inc. and MHI Hotels LLC with respect to such property. MHI Hotels Two, Inc. and MHI Hotels

LLC will pay us a fixed annual rent of $640,000 in connection with the sublease of such property, and we will incur annual lease expense of approximately $120,000.

•

We will lease each of our initial hotel properties to our TRS Lessee.

•

We will enter into tax indemnity and debt allocation agreements with the entities that contribute five of our initial properties. These agreements will require us to indemnify the contributors against tax liabilities in the event we sell those properties in a taxable transaction during a 10-year period. Specifically, we will indemnify the contributors for 100% of their tax liability during the first five years after contribution, 50% during the sixth year, 40% during the seventh year, 30% during the eighth year, 20% during the ninth year and 10% during the tenth year. Such indemnification obligations could result in aggregate payments of up to approximately $46.0 million. The terms of the tax indemnity agreements also require us to gross up the tax indemnity payment for the amount of income taxes due as a result of the tax indemnity payment. The contributing entities will guarantee a portion of our initial indebtedness following the closing and we will be obliged to give the contributors the opportunity to guarantee a similar amount of debt in the future.

•

We will issue 1,000 shares of restricted common stock to each of our initial non-employee independent directors, which shares will vest on the first anniversary of the date of grant.

•

We will enter into a strategic alliance agreement with MHI Hotels Services which provides, among other matters, that, unless a majority of our independent directors concludes, for valid business reasons, that another management company should manage a hotel owned by us, we will offer MHI Hotels Services the opportunity to manage hotels and that MHI Hotels Services and its directors and executive officers acting in their individual capacity, will refer to us, on an exclusive basis, any hotel investment opportunity that is presented to it, in each case subject to certain exceptions. In addition, MHI Hotels Services will have the right to nominate one person for election to our board of directors for so long as Andrew, Kim and Christopher Sims and their families and affiliates hold, in the aggregate, not less than 1.5 million shares or units of our common stock.

The six initial hotel properties will be contributed to and/or acquired by our operating partnership as follows:

Capitol Hotel Associates LP, LLP

Capitol Hotel Associates LP, LLP owns the Holiday Inn Downtown Williamsburg and the Hilton Wilmington Riverside in Wilmington, North Carolina. MHI Hotels Services and certain affiliates, including Andrew Sims, Kim Sims, Christopher Sims, and the Edgar Sims, Jr. Irrevocable Trust, collectively own 69.7% of the equity interests in Capitol Hotel Associates LP, LLP. Edgar Sims, Jr. is the father of Andrew Sims, Kim Sims and Christopher Sims. Wilmington Hotel Associates Corp. owns the remaining 30.3% equity interest in Capitol Hotel Associates LP, LLP. Jeanette Sims, the mother of Andrew Sims, Kim Sims and Christopher Sims, is the sole stockholder of Wilmington Hotel Associates Corp. We will issue 314,919 units having a value of approximately $3.1 million based upon an assumed offering price of $10.00 per share in exchange for the contribution of MHI Hotels Services’ equity interest in Capitol Hotel Associates LP, LLP, and will issue to Andrew Sims, Kim Sims, Christopher Sims and the Edgar Sims, Jr. Irrevocable Trust an aggregate 566,855 units having a value of approximately $5.7 million in exchange for their contributions of their equity interest in Capitol Hotel Associates LP, LLP. We will issue to Wilmington Hotel Associates Corp., 377,903 units having a value of approximately $3.8 million in connection with the contribution of its equity interest in Capitol Hotel Associates LP, LLP. We will assume $15.1 million in existing mortgage debt on the Hilton Wilmington Riverside in connection with the transaction.

Savannah Hotel Associates LLC

Savannah Hotel Associates LLC owns the Hilton DeSoto in Savannah, Georgia. MHI Hotel Services owns an 80% equity interest in Savannah Hotel Associates LLC. We will issue to MHI Hotels Services

1,332,395 units having a value of approximately $13.3 million in connection with the contribution of its ownership interest in Savannah Hotel Associates LLC to our company. We will assume approximately $10.7 million of existing mortgage debt in connection with the transaction.

The remaining 20% equity interest in Savannah Hotel Associates LLC is held by the Krichman Revocable Trust and the Krichman Charitable Trust, which we refer to as the Trusts. We will issue to these Trusts 333,099 units having a value of approximately $3.3 million in connection with the contribution of its 20% interest in Savannah Hotel Associates, LLC to our company. Edward S. Stein, who will become a director upon completion of the offering, is the trustee for the Trusts.

Brownestone Partners LLC

Brownestone Partners LLC owns the Holiday Inn Brownstone in Raleigh, North Carolina. MHI Hotels Services holds a 99% partnership interest in KDCA Partnership, an entity that owns 50% of the equity interests of Brownestone Partners LLC. Maryland Hospitality, Inc. owns the remaining 1% interest. We will issue to KDCA Partnership 159,512 units having a value of approximately $1.6 million, and approximately $1.0 million in cash in connection with its contribution of its 50% interest in Brownestone Partners LLC. The $1.0 million cash payment will be used to pay off a $1.0 million construction loan.

The remaining 50% interest in Brownestone Partners LLC is owned by MAVAS LLC. MAVAS LLC will receive 100 units having a value of approximately $1,000 and $2.0 million in cash for its 50% interest in Brownestone Partners LLC. MAVAS LLC will use the $2.0 million cash payment, in part, to pay off a $1.0 million construction loan on the Holiday Inn Brownstone.

Hilton Philadelphia Airport

The Hilton Philadelphia Airport is owned by third parties not related to MHI Hotels Services or the Sims family or their affiliates. We will issue an aggregate of 732,254 units, having a value of approximately $7.3 million, and $1.8 million in cash to acquire from these third parties the Hilton Philadelphia Airport in Philadelphia, Pennsylvania and related real property.

The entity that owns the Hilton Philadelphia Airport may receive additional units in exchange for the contribution of its interest in the property. In the event that the offering price of our common stock is less than $9.50 per share, the number of units to be issued to this entity will be increased to reflect the difference between the offering price and $9.50 per share multiplied by 732,254. For example, if the offering price is $9.00, this entity would receive an additional 40,681 units worth $366,127.

MHI Hotels Services has managed the Hilton Philadelphia Airport for the past 10 years.

Best Western Maryland Inn

We will acquire substantially all of the assets of Accord LLC and West Laurel Corp., the two entities that own the Best Western Maryland Inn, in Laurel, Maryland, for a purchase price of approximately $12.2 million in cash. Edgar Sims Jr., the father of Andrew Sims, Kim Sims and Christopher Sims, holds a 100% interest in a holding company, Laurel Holdings, LLC, that is a 25% member in Accord LLC and a 25% stockholder in West Laurel Corp.

The obligations of the contributing entities under the contribution agreements to transfer the initial hotel properties to us are conditioned upon completion of this offering, payment of the consideration described above and other customary conditions, including receipt of third party consents, approval of the franchisors, execution of indemnity agreements, the operating partnership agreement and assignment agreements. The contribution agreements relating to the Holiday Inn Brownstone and Hilton Philadelphia Airport also provide for the repayment of debt. The sale agreement relating to the Maryland Inn is conditioned upon the receipt of third party consents.

OUR BUSINESS AND PROPERTIES

Overview

We are a self-advised hotel investment company organized as a Maryland corporation in August 2004 that intends to qualify as a real estate investment trust, or REIT, for federal income tax purposes. Following completion of this offering, we will initially own six full-service, Upper Upscale and Midscale hotels that are located in primary and secondary markets in the mid-Atlantic and Southeastern United States and are operated under well-known national hotel brands such as Hilton and Holiday Inn. We intend to pursue a growth strategy of purchasing, renovating and upbranding underperforming, full-service hotels while seeking to improve the operating results of our initial portfolio.

We intend to focus our investment activities on the following types of opportunities that involve the acquisition, renovation and upbranding of underperforming or functionally obsolete hotels with the goal of achieving a total investment that is substantially less than replacement cost of a hotel or the acquisition cost of a market performing hotel:

•

Shallow Turn Opportunity: The acquisition of an underperforming but structurally sound hotel that requires moderate renovation to re-establish the hotel in its market.

•

Upbranding Opportunity: The acquisition of properties that can be upgraded physically and enhanced operationally to qualify for what we view as higher quality franchise brands including Hilton, Doubletree, Crowne Plaza, Holiday Inn Select, Holiday Inn, Westin, Sheraton and Intercontinental. We refer to this as our upbranding strategy. Our upbranding strategy may also be a component of our deep and shallow turn opportunities.

An example of our management team’s shallow turn strategy is illustrated by the 1996 acquisition of the Hilton DeSoto hotel in Savannah, Georgia, one of our initial hotel properties. Prior to its acquisition, the hotel was in bankruptcy and the Hilton brand was in the process of being removed from the project. In 1995, the hotel, achieved a 57.3% occupancy for the prior period, an average daily rate of $69.44 and net operating income of approximately $778,000. MHI Hotels Services acquired the hotel for $6.9 million and, in 1997, effected a $5.7 million renovation for a total investment of $12.6 million or approximately $50,000 per room. MHI Hotels Services extended the hotel’s license with Hilton for an additional 12 years. After a three-year stabilization period the hotel achieved 75.0% occupancy, an average daily rate of $113.00 and net operating income of $1.5 million for calendar 2001.

MHI Hotels Services and its affiliates hold controlling interests in the entities that own four of our initial hotel properties. MHI Hotels Services Group, our accounting predecessor, consists of entities and interests under common ownership and control by Edgar Sims, Jr., Jeanette Sims, Andrew Sims, Kim Sims and Christopher Sims (the “Sims Family”). These individuals have majority ownership interests in Savannah Hotel Associates and Capitol Hotel Associates, LP, LLP and minority ownership interests in Brownestone Partners, LLC and Accord, LLC. The Sims Family will contribute their interests in these entities to our operating partnership in

exchange for units in our operating partnership. Because of federal income tax laws applicable to REITs, we cannot manage the hotels we own. MHI Hotels Services will manage each of our initial hotels pursuant to a management agreement and, together with its affiliates, will hold a significant equity interest in our operating partnership.

MHI Hotels Services has been in the hospitality industry since 1957 and provide a full-service expertise in hotel management, construction, redevelopment, financing and consulting. Over the past 47 years, MHI Hotels Services has won numerous awards for its outstanding guest services, including Hilton Pride awards at two of our initial hotels. We expect to benefit from MHI Hotels Services’ extensive experience in managing hotel properties.

We will be self-advised and own our hotels and conduct our business through our operating partnership, MHI Hospitality, L.P. We will be the sole general partner of our operating partnership and upon completion of the offering and related formation transactions, will own an approximate 61.1% interest in our operating partnership upon completion of the offering and formation transactions. The remaining 38.9% interest will be owned by the contributors of five of our initial hotels, including an approximately 29.2% interest which will be owned by our officers, directors, affiliates and family members.

Upon completion of the offering and the formation transactions, our executive officers, directors and their affiliates and families will beneficially own, in the aggregate, approximately 29.2% of the equity interest in our company on a fully diluted basis with an aggregate value of approximately $28.7 million.

Our Strategy

Our primary objectives are to enhance stockholder value over time by generating attractive risk-adjusted returns on invested capital, consistently paying distributions to our stockholders and achieving long-term appreciation in the value of our lodging investments. We will seek to grow internally by improving the operating results of our initial hotel properties. We will also seek to invest in additional well-located hotel properties which are underperforming in their respective markets and would benefit from renovation, upbranding or a change in management.

Acquisition Strategy

We believe the acquisition of hotel properties that are well located and possess sound operating fundamentals, but are underperforming in their respective markets and would benefit from upbranding, renovation or new management currently present the best opportunities to create value in the lodging industry. We may also pursue acquisition opportunities to convert non-hotel properties to use as a hotel.

•

Upbranding . We will investigate opportunities to acquire and re-brand existing hotels by analyzing brands available in the market, seeking to quantify the potential improvement in revenue and profitability resulting from a rebranding and undertaking a cost/benefit analysis relating to the capital expenditures required to bring the property into compliance with the standards of the selected brand.

•

Renovation . We will consider investing in hotel properties in prime locations that are structurally sound, but have been neglected and can be purchased at attractive prices and renovated and reintroduced into the market at a cost significantly lower than what would have been spent to acquire a stabilized property or to develop a new hotel of similar quality.

•

New management . We intend to identify hotel properties that are underperforming due to poor management where we can acquire the properties at attractive prices and replace management with MHI Hotels Services.

•

Best use . We will analyze opportunities to convert well-located real estate not currently being used as a hotel to a hotel property. Examples could include an office building which could be converted into a full-service hotel and benefit from a downtown setting where new hotel development is scarce, or the conversion of an apartment building into an extended stay hotel where conversion costs are relatively low due to the design structure.

Internal Growth Strategy - Our Initial Hotels

MHI Hotels Services designed and implemented an upbranding and renovation strategy which has yielded improved operating results for four of our six initial hotels, the Holiday Inn Williamsburg, the Holiday Inn Brownstone, the Hilton Savannah DeSoto and the Hilton Wilmington Riverside. We currently plan to renovate the Holiday Inn Williamsburg in 2005. In addition, we plan to extensively renovate the Hilton Philadelphia Airport in 2005 to comply with Hilton relicensing requirements. As these hotels are located in attractive markets, we believe that these properties are well positioned for future growth and will benefit from improving industry wide market conditions, our renovations, and the efforts of our management team.

The Maryland Inn is currently underperforming in its market and represents a shallow turn opportunity. We intend to use approximately $3.9 million of the net proceeds of the offering to fund renovations to the Maryland Inn and anticipate improved operating results following renovation and upbranding to a Holiday Inn franchise. We have a franchise application currently pending with Holiday Inn. See “Our Business and Properties – Our Initial Properties.”

Financing Strategy

We will seek to maintain target debt levels of 45-55% of total assets. Upon completion of the offering and the related formation transactions, we will have $25.8 million of debt (representing an initial leverage ratio of approximately 27.0% of pro forma total assets as of September 30, 2004) on two of our initial hotels. We intend to enter into a $23.0 million secured revolving credit facility from an affiliate of BB&T Capital Markets secured by first mortgages on two of our initial hotel properties following completion of the offering. We expect the credit facility to have a term of 3 years and our borrowings under the credit facility are expected to bear interest at a floating interest rate of 30 day LIBOR plus 2.5%. The primary collateral for the credit facility will be a first mortgage on the Holiday Inn Brownstone, the Hilton Philadelphia Airport, and a lien on all business assets including but not limited to equipment, accounts receivable, inventory, furniture, fixtures and proceeds thereof. As we have not yet entered into a definitive agreement with respect to the credit facility, the final terms may materially differ from those described in the prospectus. We must satisfy certain financial covenants, including, among others, that the proportion of our floating rate debt will not exceed 50% of consolidated total debt, we will maintain a minimum tangible net worth of $67.5 million, our maximum leverage will not exceed 55%, other cash flow related covenants and we will expend and/or deposit, in aggregate, a minimum of at least 3% of room revenues for capital improvements to the Holiday Inn Brownstone and the Hilton Philadelphia Airport. We must also satisfy other non-financial covenants. If we do not satisfy these covenants, we would be in default under this credit facility, and the lender could require us to immediately repay all outstanding indebtedness under the credit facility. We expect the credit facility to be available for general corporate purposes, including the following:

•

funding of investments;

•

funding of hotel renovations and improvements;

•

payment of distributions to stockholders;

•

working capital needs; or

•

any other payments deemed necessary or desirable by management and approved by the lender.

Going forward, we will consider a number of factors when evaluating our level of indebtedness and making financial decisions, including, among others, the following:

•

the interest rate of the proposed financing;

•

prepayment penalties and restrictions on refinancing;

•

the purchase price of properties we acquire with debt financing;

•

our long-term objectives with respect to the financing;

•

our target investment returns;

•

the ability of particular properties, and our company as a whole, to generate cash flow sufficient to cover expected debt service payments;

•

overall level of consolidated indebtedness;

•

timing of debt and lease maturities;

•

provisions that require recourse and cross-collateralization;

•

corporate credit ratios, including debt service coverage, debt to total market capitalization and debt to undepreciated assets; and

•

the overall ratio of fixed and variable-rate debt.

Beyond our anticipated credit facility, we intend to use other financing methods as necessary, including obtaining from banks, institutional investors or other lenders, financings through property mortgages, bridge loans, letters of credit, and other arrangements, any of which may be unsecured or may be secured by mortgages or other interests in our investments. In addition, we may issue publicly or privately placed debt instruments. When possible and desirable, we will seek to replace short-term sources of capital with long-term financing.

Our indebtedness may be recourse, non-recourse or cross-collateralized and may be fixed rate or variable rate. If the indebtedness is non-recourse, the collateral will be limited to the particular properties to which the indebtedness relates. In addition, we may invest in properties subject to existing loans secured by mortgages or similar liens on the properties, or may refinance properties acquired on a leveraged basis. We may use the proceeds from any borrowings to refinance existing indebtedness, to refinance investments, including the redevelopment of existing properties, for general working capital or to purchase additional interests in partnerships or joint ventures or for other purposes when we deem it advisable.

Our Team

We believe that our senior executive officers, who have extensive lodging industry experience, will help drive our growth. Our senior executive officers’ strategy over the years has been driven by a keen knowledge of lodging industry fundamentals, and their ability to:

•

identify lodging industry supply and demand trends and respond accordingly by selectively investing in and disposing of hotel properties;

•

drive property level performance through active asset management and capital improvement programs;

•

prudently finance investments to achieve attractive risk-adjusted returns; and

•

build relationships with leading franchisors in the lodging industry.

Upon completion of the offering, Andrew Sims, our president, chief executive officer and chairman and William Zaiser, our chief financial officer and treasurer, will resign from their positions as executive officers of MHI Hotels Services, and will continue as our senior executive officers and become our full-time employees. Our senior executive officers may be considered promoters of the offering. See “Management — Directors and Executive Officers.”

Kim Sims and Christopher Sims, who will remain officers and directors of MHI Hotels Services, will be members of our board of directors. Andrew Sims and William Zaiser will remain members of the board of directors of MHI Hotels Services. Each has been a senior executive officer of MHI Hotels Services and its predecessors for more than twenty years.

Our executive officers and directors include Andrew, Kim and Christopher Sims, three second generation hoteliers who have grown their family hospitality operations from a single 12 room motel in College Park,

Maryland to a full-service hotel development and management group with over approximately 1,600 employees and more than 2,200 rooms. Consequently, in managing a lodging enterprise through the economic cycles that characterize the hotel industry, they have successfully adapted their business strategies to take advantage of opportunities presented during various stages of the cycle. During that time, they have established long-standing relationships with hotel owners, lodging industry brokers, management companies, franchisors and lenders and have pursued investment strategies that include opportunistically and successfully acquiring, developing, financing, repositioning, managing and selling hotel properties depending on their view of overall lodging industry fundamentals. Collectively, they have acquired or sold over 22 hotel properties and have managed over 33 hotel properties.

Strategic Relationship with MHI Hotels Services

MHI Hotels Services has extensive experience in the lodging industry and has developed the following:

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a staff of highly competent professionals that have successfully worked together for many years on numerous projects, including the acquisition and the redevelopment of four of our initial hotels;

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extensive contacts in the hospitality industry including those that may generate potential investments in lodging properties;

•

extensive relationships with premier hotel franchise companies that provide franchise opportunities to enhance the value of repositioned assets; and

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the ability to initiate and complete development projects, oversee renovations, perform construction and identify suitable investments.

MHI Hotels Services is currently managing, or has managed in the past, each of our initial hotels.

We intend to enter into a strategic alliance agreement with MHI Hotels Services, which provides, among other matters, that, unless a majority of our independent directors concludes, for valid business reasons, that another management company should manage a hotel owned by us, we will offer MHI Hotels Services the opportunity to manage our hotels and MHI Hotels Services, will refer to us, on an exclusive basis, any hotel investment opportunity that is presented to any of them, in each case subject to certain exceptions. Upon completion of the offering and formation transactions, officers and directors of MHI Hotels Services, their affiliates and family members will beneficially own 2,870,863 units representing 29.2% of the fully diluted shares of our common stock. We believe that MHI Hotels Services will be motivated in assisting us in the successful growth of our company.

Industry Overview

We intend to invest in hotels that are underperforming, and which may benefit from renovation, upbranding, and new management. We intend to focus on investments in the Upper Upscale, Upscale and Midscale segments of the lodging industry, as defined by Smith Travel Research. Smith Travel Research is a leader in lodging industry benchmarking and performance tracking.

Smith Travel Research maintains an extensive database on the U.S. lodging industry. According to Smith Travel Research, the database consists of detailed information on over 47,000 lodging establishments representing approximately 4.4 million rooms. The database is a collection of properties with 20 rooms or more. Each month, Smith Travel Research collects performance data on over 22,000 hotels including measures of rooms available for occupancy, rooms sold and room revenue. Smith Travel Research collects this data from hotel chain headquarters, management companies, owners and directly from independent hotels. Smith Travel Research frequently issues reports on the U.S. lodging industry. The information presented in this section is derived from one or more such Smith Travel Research reports.

Smith Travel Research segments the lodging industry into six segments. Below are Smith Travel Research’s segments and examples of representative hotel brands:

•

Luxury – Four Seasons ^® , Ritz Carlton ^® , Fairmont ^®

•

Upper Upscale – Embassy Suites ^® , Hilton, Marriott, Sheraton

•

Upscale – Hilton Garden Inn ^® , Courtyard by Marriott ^® , Crowne Plaza

•

Midscale with Food & Beverage (F&B) – Holiday Inn, Ramada ^®

•

Midscale without F&B – Hampton Inn ^® , Holiday Inn Express, Comfort Inn ^®

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Economy – Motel 6 ^® , Red Roof ^® , Days Inn ^®

We evaluate our performance and that of the industry by focusing on the following key performance statistics: (1) occupancy, which is defined as total rooms sold divided by total rooms available for the period; (2) revenue per available room, or RevPAR, which is defined as total room revenue divided by total number of room nights; and (3) average daily rate, or ADR, which is defined as total room revenue divided by the total number of rooms occupied on a paid-for basis for the period. RevPAR does not include food and beverage or other ancillary revenues such as telephone, parking or other guest services generated by the hotel.

U.S. Lodging Industry

The U.S. hotel industry stabilized in 2003, after two consecutive years of declining performance in 2001 and 2002, which followed a period of sustained growth during the economic expansion of the 1990s as the following information from Smith Travel Research demonstrates. We believe this decline was caused by the severe contraction of the financial markets following market highs of 2000, a deterioration of general economic activity and consumer sentiment, reduced travel following the events of September 11, 2001, and, to a lesser degree, by new supply.

The following chart depicts changes in occupancy rate and the corresponding annual percentage change in occupancy rate for the U.S. lodging industry from 1994 through 2003, including projections for 2004 and 2005. The chart illustrates relatively flat occupancy levels in 2002 and 2003, and the projected improvements in 2004 and 2005 (Source: Smith Travel Research) :

LOGO

We believe continued improvement in the U.S. economy will drive increases in occupancy. We also believe occupancy will benefit from overall demand increases in the lodging industry, as new supply slows. The chart below illustrates historic and projected national levels of supply and demand in the lodging industry and further demonstrates, that along with an improving economic outlook, that a slowing of new supply may enhance industry performance (Source: Smith Travel Research) :

LOGO

We believe construction spending and rooms supply growth have reached a low point in the lodging cycle and should continue to remain at or near this level during the next two to three years. We expect that if new supply remains constrained over this period, even moderate increases in demand should translate into increases in hotel revenues and profitability. Based on the forecasted trend of demand exceeding supply, we expect overall industry occupancy rates to continue to climb in the near term.

We believe that, in addition to occupancy rates and supply/demand trends, RevPAR and ADR are also significant statistical measures of the lodging industry’s financial health. The charts below provide recent national trends in RevPAR and ADR in the U.S. lodging industry, as well as the corresponding annual percentage changes in these measures (Source: Smith Travel Research):

LOGO

Current Market Developments

Recent statistical comparisons of occupancy, ADR and RevPAR demonstrate that for the first nine months of 2004 these measures of performance exceeded 2003 levels. We believe these results are indicative of a recovery in the lodging industry ( Source: Smith Travel Research):

LOGO

Through the nine months ended in September, 2004, ADR improved 3.7% and RevPAR improved 7.5% over the same period in 2003 (Source: Smith Travel Research).

Our Initial Properties

Our Initial Hotels and Leased Property

Upon consummation of the formation transactions, we will own our six initial hotels in fee simple. Other than renovations for the Hilton Philadelphia Airport, the Holiday Inn Downtown Williamsburg, and the Maryland Inn, we have no present plans for major improvements on these properties. Other than the Maryland Inn, all of these hotels are currently managed by MHI Hotels Services. The Maryland Inn is currently managed by the current owners of the hotel and will be managed by MHI Hotels Services following our acquisition. We believe that each of these properties is adequately covered by insurance.

The following table sets forth information regarding the mortgage debt on our six initial hotel properties (dollars in thousands):

Property

Name of

Property-

Owning Entity

Principal

Balance as of

September 30,

2004

Prepayment

Penalties

Interest Rate

Maturity

Date

Amortization

Provisions

Hilton Philadelphia

Airport

Elpizo
Limited
Partnership
and Phileo
Land
Corporation

15,244

⁽¹⁾

—

8.25

Sept. 2006

25 years

Holiday Inn

Downtown

Williamsburg

Capitol Hotel
Associates
LP, LLP

2,959

⁽¹⁾

—

5.82

Jan. 2023

25 years

Holiday Inn

Brownstone

Brownestone
Partners
LLC

4,808

⁽¹⁾

—

Prime
+ 1/4

Dec. 2008

20 years

Hilton Savannah

DeSoto

Savannah
Hotel
Associates,
LLC

10,704

yes

⁽²⁾

7.49

Nov. 2008

20 years

Hilton Wilmington

Riverside

Capitol Hotel
Associates
LP, LLP

15,140

yes

⁽²⁾

8.22

June 2008

20 years

Maryland Inn

Accord LLC
and West
Laurel Corp.

6,881

yes

⁽³⁾

9.07

June 2007

25 years

⁽¹⁾	Debt to be repaid at closing with the proceeds of the offering.

⁽²⁾

Both loans being assumed by us are held by Mutual of New York. The prepayment of either loan requires a yield maintenance payment to the lender in an amount that would compensate the lender in full assuming the loan was paid off. The remaining term of the loan is determined by comparison of a market rate of interest on a U.S. Treasury note with the same maturity date. The rate difference is multiplied by the number of months remaining outstanding on the loan. The net present value of the loan is determined by a calculation of the gross monthly income loss. As of November 1, 2004, the prepayment penalty for the Hilton Wilmington Riverside was $2.3 million, and for the Hilton Savannah DeSoto, the prepayment penalty was $1.5 million.

⁽³⁾	Prepayment penalty equal to 3% of loan balance. Debt will be paid off by the sellers of the property with the proceeds of the sale.

The following table sets forth certain information for each of our six initial hotel properties:


Property	Location	Year Opened/ Renovated	Average Occupancy ⁽¹⁾		ADR ⁽¹⁾		RevPAR ⁽¹⁾		Number of Rooms ⁽²⁾	Meeting Space Sq. Ft. ⁽²⁾	Acquisition Cost ⁽³⁾
Hilton Philadelphia Airport	Philadelphia, PA	1972/ 1994/ 2001	79.7	%	$	86.68	$	69.09	331	10,000		$25,271,240

Holiday Inn Downtown Williamsburg	Williamsburg, VA	1968/ 1986/ 2000	51.1	%		77.92		39.84	137	6,000		5,025,000

Holiday Inn Brownstone	Raleigh, NC	1971/ 2002	64.5	%		74.57		48.13	188	15,000		9,396,120

Hilton Savannah DeSoto	Savannah, GA	1968/ 1996/ 2003-4	75.4	%		117.08		88.31	246	20,000		27,279,940

Hilton Wilmington Riverside	Wilmington, NC	1970/ 1988/ 1998/ 2000	69.9	%		96.51		67.43	274	20,000		25,646,760

Maryland Inn ⁽⁴⁾	Laurel, MD	1985/ 1989	66.1	%		65.86		43.51	205	8,000		12,200,200

TOTALS / WEIGHTED AVERAGES			70.1	%	$	89.40	$	62.61	1,381	79,000	$	104,819,060

⁽¹⁾	For the twelve months ended September 30, 2004.

⁽²⁾	As of September 30, 2004.

⁽³⁾	Estimated transaction cost, debt assumed and units issued in the acquisition valued at the assumed initial public offering price of $10.00 per share, the midpoint of the price range for this offering of our common stock.

⁽⁴⁾	We intend to upbrand the Maryland Inn as a Holiday Inn.

In addition to these six hotels, we will acquire leasehold interests in the resort property leases that we will sublease to MHI Hotels Two, Inc. and MHI Hotels LLC, affiliates of MHI Hotels Services. MHI Hotels LLC and MHI Hotels Two, Inc. will pay us a fixed annual rent of $640,000 in connection with the sublease of such property. We will pay annual rent of $120,000 under the Shell Island Resort leases. Other expenses, such as maintenance and utilities, will be paid by MHI Hotels Two, Inc. and MHI Hotels, LLC. In the event of a payment default under the subleases, MHI Hotels Services has agreed to make a capital contribution to the sub-lessees in an amount sufficient to cure the default. The resort condominium, which opened in 1986, has approximately 160 suites and includes a restaurant, kitchens, meeting rooms and a swimming pool.

The Hilton Philadelphia Airport.

The Property

The Hilton Philadelphia Airport is contiguous to the Philadelphia Airport and located approximately eight miles south of Philadelphia’s central business district at 4509 Island Avenue in Philadelphia, Pennsylvania. The property is located within three miles of the new Lincoln Financial Field, Wachovia Spectrum Center and the new Citizens Bank Park which are homes to Philadelphia’s professional football, basketball, ice hockey, and baseball franchises. MHI Hotels Services and its affiliates have managed the Hilton Philadelphia Airport since 1994.

Key Highlights and Demand Generators

The Hilton Philadelphia Airport generates its corporate demand from transient travelers and corporate meetings. The top five accounts by revenue for 2003 were: US Airways and subsidiaries, Concordia, United

Parcel Service, Corporation for National Service, and Flight Options. The hotel also benefits from large conventions at the Philadelphia Convention Center. The hotel’s locations near the Philadelphia professional sports complexes generates leisure demand for hotel rooms. We believe the Hilton Philadelphia Airport is a market leader in the Upscale, full-service hotel sector in the Philadelphia airport market. We have plans to renovate the Hilton Philadelphia Airport and plan to spend approximately $3.2 million to fund renovations.

Guest Rooms

•

The Hilton Philadelphia Airport was opened in 1972 as a Sheraton Hotel and is comprised of 331 guest rooms, including three suites, in a nine-story L-shaped tower. All rooms provide modern conveniences including high-speed internet access.

Food and Beverage

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Landing Restaurant and Grill – The restaurant, with 130 seats, features continental and regional cuisine and an upscale buffet for breakfast and lunch.

•

Players Sports Bar – The hotel also features a full-service bar with a sports theme and 120 seats.

Other Amenities

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Indoor swimming pool, whirlpool spa, and recreational facilities.

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10,000 square feet of meeting space.

•

The hotel is adjacent to the north side of the Philadelphia International Airport with direct access to the General Aviation facilities.

Competition

Competitor hotels include the Marriott, Renaissance, Embassy Suites, Sheraton Suites, Four Points, and Courtyard by Marriott.

Operating and Occupancy Information

The following table shows certain historical data regarding the Hilton Philadelphia Airport:


Year End	1999			2000			2001			2002			2003
Room Revenue	$	8,080,199		$	8,291,333		$	7,298,977		$	7,949,689		$	7,458,474
ADR	$	97.23		$	99.89		$	96.77		$	93.87		$	89.60
Occupancy %		68.8	%		68.6	%		62.5	%		70.1	%		68.9	%
RevPAR	$	66.88		$	68.44		$	60.41		$	65.80		$	61.73

Proposed Renovations

We intend to undertake a major renovation of the Hilton Philadelphia Airport hotel’s public spaces and guest rooms in 2005 to comply with Hilton relicensing requirements. The total cost of the renovation is estimated to be $3.2 million. The guest room improvements will include new bedding, soft goods, seating, lighting, and HVAC units. The guest room, bathroom improvements will include tile replacement, vanities, mirrors, lighting, plumbing fixtures and accessories. The guest room corridors, lobby, dining room and meeting facilities will all be improved with new furniture fixtures and equipment. Additionally, the exterior of the building will be painted and new roof line added.

The Hilton Product Improvement Plan, which we refer to as PIP, will be funded from the proceeds of the offering. Prior to completion of the offering, approximately $1.0 million in funding will be required. In an effort to comply with Hilton requirements and protect its interests in its franchise, the owner of the hotel has obtained from an unaffiliated third party a $1.0 million line of credit that may be drawn for the sole and express purpose to fund the PIP. The line of credit is with Republic Bank. The Republic Bank line of credit will be paid off with proceeds of the offering. Any funds utilized to repay the Republic Bank line of credit will be deducted from the $3.2 million budgeted PIP.

The acquisition of the Hilton Philadelphia Airport is subject to Hilton’s prior approval and compliance with the terms of Hilton’s franchise license agreement.

Holiday Inn Downtown Williamsburg

The Property

The Holiday Inn Downtown Williamsburg, is located one-half mile from Colonial Williamsburg and three and one-half miles from the Busch Gardens amusement and recreation park, at 814 Capitol Landing Road in Williamsburg, Virginia. The Holiday Inn Downtown Williamsburg was built in 1969, and in 1986, the hotel went through major reconstruction adding an indoor pool and tiered dining, among other amenities. The hotel also is convenient to the historic sites of Yorktown and Jamestown, shopping, dining and local golf courses. MHI Hotels Services and its affiliates have managed and maintained an ownership interest in the Holiday Inn Downtown Williamsburg since 1986.

Key Highlights and Demand Generators

The Holiday Inn Downtown Williamsburg is an established full-service hotel. The top five accounts by revenue for 2003 were: Navy Reserve Units Training, Colonial Connections, EPN Travel Services, VITSTA – Virginia Institute of Travel Services Training Activities, and Metro Tours. Group business is generated through tour and travel (both senior citizen tours and youth groups), government, and through the reunion and religious related segments.

Guest Rooms

•

The Holiday Inn Downtown Williamsburg is comprised of 138 guest rooms and one suite. All rooms are equipped with high speed internet access.

Food and Beverage

•

Ledo ^® Pizza and Pasta – Ledo, equipped with 65 seats, is a regional franchise concept that provides quality Italian fare at moderate prices. The facility serves both lunch and dinner.

•

EJ’s Landing – This facility, with 200 seats, provides full breakfast buffet and off menu selections in an open air indoor setting in the domed area that includes the hotel’s swimming pool and recreation area.

Other Amenities

•

Indoor swimming pool and recreational facilities.

Competition

Competitor hotels include Four Points Sheraton, Quality Inn, Hampton Inn, Ramada Inn, Courtyard by Marriott, another Holiday Inn and Best Western.

Operating and Occupancy Information

The following table shows certain historical information regarding Holiday Inn Downtown Williamsburg since 1999.


Year End	1999			2000			2001			2002			2003
Room Revenue	$	2,229,736		$	2,153,180		$	2,111,450		$	2,124,084		$	2,138,977
ADR	$	74.9		$	73.21		$	73.92		$	76.77		$	73.83
Occupancy %		61.4	%		58.7	%		57.1	%		55.3	%		57.9	%
RevPAR	$	45.99		$	42.94		$	42.22		$	42.48		$	42.78

Proposed Renovations

The Holiday Inn Downtown Williamsburg will receive a renovation to its guest rooms and public spaces in calendar 2005 to comply with a Holiday Inn relicensing. The total cost of the renovation is estimated to be $500,000. The guest room improvements will include new seating, lighting, vanities and tile tub surrounds. The guest room corridors will be totally renovated including carpet, wall paper, painting and new ceilings. The proposed renovations will be funded with proceeds from the offering.

Holiday Inn Brownstone

The Property

The Holiday Inn Brownstone is located near the central Raleigh business district and adjacent to North Carolina State University, at 1707 Hillsborough Street in Raleigh, North Carolina. The Holiday Inn Brownstone was built in 1971 as an independent property and operated as a Hilton for 20 years. MHI Hotels Services and its affiliates have managed and maintained an ownership interest in the Holiday Inn Brownstone since 1999. We have no current plans for significant renovations of this hotel.

The hotel leases land adjacent to the hotel for use as a parking lot. The lease provides for annual rent of $76,104 and expires in August 2016 with options to renew for up to three additional 10-year periods with an option to purchase the leased property at fair market value at the end of the original lease term in August 2016, subject to payment of an annual fee of $9,000 and other conditions.

Key Highlights and Demand Generators

The Holiday Inn Brownstone generates its transient business demand from corporate and government related entities. The top five accounts by revenue for 2003 were: North Carolina Association of Educators, Youth Advocacy Involvement Office, North Carolina Waterworks Association, Worldtek Travel, and North Carolina Department of Public Instruction. Group demand is generated through these entities and additionally through conventions, North Carolina State University special events (sports and educational), youth sporting events, state association meetings and government training. Weddings, special events, and religious celebrations create the leisure market for this property. We believe the hotel’s strong ties to North Carolina State University and the projected expansion of the downtown convention center will provide for opportunities in RevPAR growth.

Guest Rooms

•

The hotel is comprised of 188 guest rooms in an eight-story building. The property site is also improved with 18 additional and separate apartment suites. All rooms are equipped with high-speed internet access.

Food and Beverage

•

Ledo Pizza and Pasta Restaurant – The regional franchise, equipped with 120 seats, offers quality Italian fare at moderate prices.

•

Ledo Sports Bar – The Sports Bar, with 20 seats, adjoins the main dining area.

Other Amenities

•

Outdoor swimming pool

•

Complimentary on-site fitness facility

•

Access to the YMCA

•

15,000 square feet of meeting space

Competition

Competition includes Sheraton, Hilton, Clarion, Ramada Inn, Holiday Inn and the Velvet Cloak Inn.

Operating and Occupancy Information

The following table shows certain historical information regarding the Holiday Inn Brownstone since 1999.


Year End	1999			2000			2001			2002			2003
Room Revenue	$	3,020,826		$	2,784,907		$	2,647,145		$	3,016,691		$	3,113,994
ADR	$	71.91		$	74.60		$	70.74		$	73.45		$	74.18
Occupancy %		61.2	%		54.3	%		54.5	%		59.9	%		61.2	%
RevPAR	$	44.02		$	40.47		$	38.58		$	43.96		$	45.38

Hilton Savannah DeSoto

The Property

The Hilton Savannah DeSoto hotel is located at 15 East Liberty Street in historic downtown Savannah, Georgia. The Hilton Savannah DeSoto overlooks Madison Square in the center of Savannah’s historic district. The site has been a hotel since 1890 and the current building was constructed in 1968. The hotel offers views of the Savannah skyline and the Savannah River. The Hilton Savannah DeSoto is connected via an enclosed atrium to a luxury condominium building. MHI Hotels Services and its affiliates have managed and maintained an ownership interest in the Hilton Savannah DeSoto since 1994. We have no current plans for significant renovations of this hotel.

Key Highlights and Demand Generators

The Hilton Savannah DeSoto has historically generated its corporate demand from upscale business travelers and corporate meetings generated by regional companies. The top five accounts by revenue for 2003 were: US Airways, Tauck World Discovery Tours, Net Jets, Savannah College of Art and Design, and International Paper. The historic sites of Savannah create demand from the leisure segment. Group business encompasses more than 50% of the Hilton Savannah DeSoto’s business primarily in the association and corporate meetings segments.

Guest Rooms

•

The Hilton Savannah DeSoto is a 14-story structure with 246 traditionally-styled guest rooms including five suites and an executive level. High-speed internet access is available to all guest rooms.

Food and Beverage

•

Magnolia Restaurant – The restaurant, with 125 seats, serves authentic Savannah cuisine and a buffet at both breakfast and lunch.

•

Expresso – The hotel’s coffee bar located in the lobby area serves coffees, juices, cookies and breakfast breads.

•

The Lion’s Den – The hotel’s lounge has a 75 person capacity.

Other Amenities

•

Executive Level accommodations with upgraded amenities, turndown service and a private, staffed concierge lounge for complimentary continental breakfast and evening beverage service.

•

Second-floor rooftop, outdoor pool and exercise facilities.

•

Complimentary access to the Downtown Athletic Club.

•

Gift shop.

•

20,000 square feet of meeting space.

Competition

Competitor hotels include Marriott, Westin, Hyatt, Radisson and the Mulberry.

Operating and Occupancy Information

The following table shows certain historical information regarding the Hilton Savannah DeSoto since 1999.


Year End	1999			2000			2001			2002			2003
Room Revenue	$	7,040,831		$	7,462,184		$	7,613,617		$	7,605,616		$	7,245,641
ADR	$	114.73		$	115.65		$	113.01		$	114.32		$	113.12
Occupancy %		68.3	%		71.7	%		75.0	%		74.1	%		71.3	%
RevPAR	$	78.41		$	82.88		$	84.79		$	84.70		$	80.70

Hilton Wilmington Riverside

The Property

The Hilton Wilmington Riverside is located five miles from the Wilmington International Airport at 301 N. Water Street in Wilmington, North Carolina. The Hilton Wilmington Riverside was originally constructed in 1971 and improved by expansion in 1999. The property is the only hotel located directly on the downtown Riverwalk and is situated directly across from the USS North Carolina Battleship Memorial. MHI Hotels Services and its affiliates have managed and maintained an ownership interest in the Hilton Wilmington Riverside since 1989. We have no current plans for significant renovations of this hotel.

Key Highlights and Demand Generators

The top five accounts by revenue for 2003 were: PPD Pharmaceutical, General Electric, International Paper, University of North Carolina Wilmington, and Wachovia Bank. Because of the hotel’s meeting space, group business accounts for over 50% of room revenues. State associations and educational related conferences contribute to the hotel’s utilization.

Guest Rooms

•

The Hilton Wilmington Riverside originally was constructed with 178 rooms and improved by expansion in 1999 to include 101 additional guest rooms for a current total of 279 rooms in a nine-story structure. All rooms are equipped with high-speed internet service.

Food and Beverage

•

Spencer’s – The restaurant, equipped with 130 seats, features American cuisine and daily chef’s specials.

•

The River Club Lounge – The Hotel Lounge, with 75 seats, offering cocktails and lite fare, provides panoramic views of the Cape Fear River.

Other Amenities

•

Outdoor pool overlooking the Cape Fear River

•

Cabaña bar poolside

•

Fitness center

•

Business center

•

Gift shop

•

20,000 square feet of meeting space

Competition

Competitor hotels include the Holiday Inn Sunspree, Blockade Runner, Holiday Inn, Courtyard by Marriott and Residence Inn.

Operating and Occupancy Information

The following table shows certain historical data regarding the Hilton Wilmington Riverside since 1999.


Year End	1999			2000			2001			2002			2003
Room Revenue	$	4,965,249		$	5,949,359		$	6,203,524		$	5,930,365		$	6,444,045
ADR	$	103.01		$	97.47		$	94.38		$	91.48		$	94.31
Occupancy %		48.2	%		60.9	%		65.7	%		64.8	%		68.3	%
RevPAR	$	49.65		$	59.33		$	62.02		$	59.30		$	64.43

Best Western Maryland Inn

The Property

The Best Western Maryland Inn is located near I-95 between Washington, D.C. and Baltimore at Route 198 in Laurel, Maryland. Upon acquiring this hotel with proceeds from this offering, we have made application to rebrand it as a Holiday Inn. The food and beverage facility, which is connected to the guest rooms via the banquet rooms and corridor, has its own free standing access and parking which we intend to lease to a nationally recognized franchise food and beverage operation. We currently have a non-binding site location approval for an Outback Steakhouse location.

Key Highlights and Demand Generators

The hotel is conveniently located at the entrance to a corporate office park with major employers such as United Parcel Service, SunTrust, and the Washington Suburban Sanitary Commission. The top five accounts by revenue for 2003 were: US Department of Agriculture, Garden’s Ice House, National Security Administration, Verizon, and SunTrust. Much of the leisure demand is generated from its easy access off I-95 and proximity to the Washington, DC, Baltimore and Annapolis areas. Laurel Race Track, the Fairland Aquatic Center and Gardens Ice House (the premier skating facility in the Mid-Atlantic region) are located near the hotel. We believe that the hotel is currently underperforming versus its competitors. We believe that our strategic plan to renovate and upbrand the hotel will improve its position in the marketplace.

Guest Rooms

•

The Best Western Maryland Inn Laurel opened in 1985 with 125 guest rooms and in 1989 completed an addition of 80 rooms for a current total of 205 guest rooms. All rooms are equipped with high-speed internet access.

Food and Beverage

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Today’s Café – The café serves continental breakfast in the atrium of the hotel.

•

Brass Duck Lounge – The lounge occupies a portion of the former full-service restaurant. In connection with our re-branding plans following the acquisition, we expect that this facility will be re-positioned with a well-known franchise food and beverage operation, which we expect to be an Outback Steakhouse location.

Other Amenities

•

7,500 square foot atrium area with indoor pool, sauna, whirlpool, exercise room, game room, putting green, billiards, shuffleboard and gift shop.

•

Over 8,000 square feet of meeting and banquet space.

•

Business center.

•

Executive level accommodation with keyed access and upgraded amenities.

Competition

Competitor hotels include Sheraton, Fairfield Inn, Comfort Inn, Hampton Inn and Courtyard by Marriott.

Operating and Occupancy Information

The following table shows certain historical information regarding Best Western Maryland Inn.


Year End	1999			2000			2001			2002			2003
Room Revenue	$	3,727,269		$	4,067,725		$	3,557,293		$	3,086,362		$	2,967,718
ADR	$	75.13		$	78.32		$	80.41		$	84.50		$	73.08
Occupancy %		66.5	%		66.1	%		66.2	%		53.4	%		54.3	%
RevPAR	$	49.61		$	50.10		$	53.22		$	45.16		$	39.66

Proposed Renovations

Following our acquisition of the Maryland Inn, we intend to undertake a total renovation to comply with a Holiday Inn licensing at a total cost of $4.0 million. A new exterior building renovation will be completed, including window and roof line improvements. The guest rooms will be completely renovated including

replacement of all furniture, fixtures, equipment, décor and accessories. Similarly, the public spaces will receive extensive upgrades including all décor and fixtures. Major operating systems will be upgraded or replaced, including the heating ventilation and air conditioning systems, roof systems, and elevators.

Shell Island Resort

The Shell Island Resort is located on the beach, seven miles from the Wilmington International Airport on the northernmost end of Wrightsville Beach, North Carolina, at 2700 N. Lumina. Shell Island Resort was built in 1986. Its approximately 160 suites all have Atlantic Ocean views as well as unimpeded views of the marsh and Intracoastal Waterway. Immediately north of the resort is a half mile of wildlife sanctuary and beach. Shell Island Resort is located near shopping, dining and historic downtown Wilmington.

Shell Island Resort is primarily a leisure destination with the majority of its business generated from guests from the Raleigh, Greensboro and Charlotte markets. Group demand is generated through state associations, University of North Carolina at Wilmington and local social activities. Wrightsville Beach is an upscale and primarily residential leisure destination, and we believe there is minimal opportunity for new development. The property competes strongly in the mid-scale full-service hotel sector.

Shell Island Resort is a condominium hotel and its approximately 160 condominium suites are owned by individual owners. The common areas are owned by the condominium homeowners’ association. MHI Hotels LLC leases the common area of the resort from the condominium homeowner’s association and manages the hotel’s condominium suite rental program under agreements with individual condominium suite owners. MHI Hotels Two, Inc. leases the restaurant, kitchen and other service areas from the condominium homeowners’ association. We will acquire the two leases from MHI Hotels LLC and MHI Hotels Two, Inc. for cash payments aggregating $3.5 million.

One lease relates to the restaurant, kitchens, meeting rooms, ball room, laundry, maintenance shop, offices and certain maid closets. This lease commenced on May 12, 2003 and has a term of five years. There is one five-year renewal period. The rent in the second year is $121,500 per annum. The rent increases to $145,000 per annum for years three through five. The second lease relates to the resort’s common areas and includes the lobby, swimming pools, outdoor café, front desk, back office, gift shop, certain storage areas, and ingress and egress throughout the building including parking areas. The public space lease commenced December 31, 1993 and the first term expired on December 31, 2003. The first of two five-year renewal options was exercised. The original base rent is $18,540 per annum. The rent increases pursuant to an annual CPI adjustment. We will enter into sublease agreements with each of MHI Hotels LLC and MHI Hotels Two, Inc., with respect to such leases which provide for fixed annual rent in the amount of $540,000 for the common areas and $100,000 for the restaurant and other areas, plus an annual consumer price index, or CPI, adjustment. MHI Hotels LLC will continue to operate the condominium suite rental program, but we will not receive any revenues from the rental of the condominium suites. In the event of a payment default under the subleases, MHI Hotels Services has agreed to make a capital contribution to the sub-lessees in an amount sufficient to cure the default. That capital contribution will be collaterally assigned to us to secure the payment obligations under the subleases. In the event either of the subleases or the prime leases terminate prior to ten years from the closing of the offering, MHI Hotels Services has agreed to make sufficient capital contributions to permit MHI Hotels LLC or MHI Hotels Two, Inc. to reimburse us for a portion of the payments made upon the assignment of the initial leases to us. These payments, which will be based upon the unexpired portion of the ten year term, will be made over a three year period or such longer period as may be necessary to permit us to comply with applicable federal income tax requirements attendant to our status as a REIT.

We are acquiring the leasehold interests in Shell Island Resort because we believe these leasehold interests will increase our cash flow. Due to the federal tax regulations attendant to maintaining our status as a REIT, we are prohibited from directly operating or managing our interests in the Shell Island Resort. Thus, the sublease arrangements provide us with the ability to benefit from the economics of the existing leasehold interests in Shell Island, while at the same time maintaining compliance with the tax limitations placed upon REITs.

We will acquire the two space leases for a cash payment of $3.5 million, $3.0 million of which will be paid to MHI Hotels LLC for the common areas, and $0.5 million will be paid to MHI Hotels Two, Inc. for the restaurant, kitchen and other service areas. We will pay annual rent of $120,000 under the Shell Island resort leases. Other expenses associated with the leases, including utilities and maintenance, will be paid by MHI Hotels Two, Inc and MHI Hotels LLC.

The leases with the condominium homeowners’ association can be terminated if MHI Hotels Two, Inc. ceases to serve as rental agent for at least 80 of the condominium suites (currently MHI Hotels Two, Inc. manages the rental programs for approximately 160 of the condominium suites).

Competition

The hotel industry is highly competitive with various participants competing on the basis of price, level of service and geographic location. Each of our initial hotels is located in a developed area that includes other hotel properties. The number of competitive hotel properties in a particular area could have a material adverse effect on occupancy, ADR and RevPAR of our initial hotels or at hotel properties acquired in the future. We believe that brand recognition, location, the quality of the hotel, consistency of services provided, and price are the principal competitive factors affecting our hotels.

MHI Hotels Services currently competes in the full service Upper Upscale and Midscale segments of the market. Positive competitive factors affecting our position include geographic location, markets with growth potential and strong franchise partners, while certain disadvantages to our position include limited geographic diversity and smaller size in relation to larger competitors.

Environmental Matters

Our hotel properties are subject to various federal, state and local environmental laws. Under these laws, courts and government agencies have the authority to require us, as owner or operator of a contaminated property, to clean up the property, even if we did not know of or did not cause the contamination. These laws also apply to persons who owned or operated a property at the time it became contaminated. In addition to the costs of clean-up, environmental contamination can affect the value of a property and, therefore, an owner’s ability to borrow funds using the property as collateral or to sell the property. Under the environmental laws, courts and government agencies also have the authority to require that a person who sent waste to a waste disposal facility, such as a landfill or an incinerator, pay for the clean-up of that facility if it becomes contaminated and threatens human health or the environment. A person that arranges for the disposal of a hazardous substance or transports for disposal or treatment such a substance to another’s property may be liable for the costs of removal or remediation of the hazardous substances released into the environment at that property.

Furthermore, various court decisions have established that third parties may recover damages for injury caused by property contamination. For instance, a person exposed to asbestos while staying in a hotel may seek to recover damages if he or she suffers injury from the asbestos. Lastly, some of these environmental laws restrict the use of a property or place conditions on various activities. An example would be laws that require a business using chemicals (such as swimming pool chemicals or detergent at a hotel property) to manage them carefully and to notify local officials that the chemicals are being used.

The costs to clean up a contaminated property, to defend against a claim, or to comply with environmental laws could be material and could adversely affect the funds available for distribution to our stockholders. We can make no assurances that (1) future laws or regulations will not impose material environmental liabilities or (2) the current environmental condition of our hotel properties will not be affected by the condition of the properties in the vicinity of our hotel properties (such as the presence of leaking underground storage tanks) or by third parties unrelated to us.

Further, when excessive moisture accumulates in buildings or on building materials, mold growth may occur, particularly if the moisture problem remains undiscovered or is not addressed over a period of time. Some

molds may produce airborne toxins or irritants. Concern about indoor exposure to mold has been increasing, as exposure to mold may cause a variety of adverse health effects and symptoms, including allergic or other reactions. As a result, the presence of significant mold at any of our properties could require us to undertake a costly remediation program to contain or remove the mold from the affected property.

We have reviewed reports of Phase I Environmental Site Assessments, or ESA, that were previously prepared for the majority of our initial hotels. All of the reviewed Phase I ESA reports were conducted within the last 10 years. Even though the Phase I ESAs reports we have reviewed did not reveal any material environmental contamination that might have a material adverse effect on our business, assets, results of operations or liquidity, we may have material environmental liabilities of which we are unaware because Phase I ESA reports do not reveal all environmental liabilities. These Phase I ESA reports were obtained in the past, and do not protect us as the purchaser of the initial hotels under the six-month statutory safe harbor from CERCLA liabilities.

Our review of the Phase I ESA reports and an asbestos survey on the Hilton Savannah Desoto identified the presence of a diesel underground storage tank and the presence of asbestos-containing material on the property. The diesel underground storage tank was installed in 1967, was modified in 2000 to meet requirements for upgrading of existing underground storage tank systems and, in 2003, underwent and passed an annual tank tightness test certified by the State of Georgia. The tank’s registration is certified every year by the State of Georgia.

The asbestos survey conducted on the property identified asbestos-containing materials, or ACMs, all of which are enclosed behind walls or ceilings, or otherwise not exposed. The presence of these ACMs does not, in our opinion, pose a material legal or financial risk and does not violate any law applicable to the property. Nevertheless, in response to the finding, the hotel voluntarily implemented an Asbestos Operations and Maintenance Program in 1997 giving hotel maintenance staff information on where the asbestos-containing materials are located and how to handle these materials in the event that they come into contact with them. To our knowledge, there have been no subsequent incidents or exposures to ACMs at the hotel.

Our review of the Phase I ESA conducted on September 23, 2004 at the Hilton Philadelphia Airport identified the presence of ACMs on the property. The assessment recommended that all exposed ACMs be encapsulated or removed and recommended the implementation of an Asbestos Operations and Maintenance Program on the property. The presence of these ACMs does not, in our opinion, pose a material legal or financial risk and does not violate any law applicable to the property. In response to the findings, the hotel voluntarily implemented an Asbestos Operations and Maintenance Program on the property.

Legal Proceedings

We are not involved in any material litigation nor, to our knowledge, is any material litigation threatened against us.

Insurance

The initial hotel properties are covered by insurance of the type and amount we believe are customary for these types of properties. We have limited terrorism insurance on our initial hotel properties, with the exception of the Hilton Philadelphia Hotel, which has a separate, comprehensive terrorism policy.

Capital Expenditures

We intend to maintain each hotel in good repair and condition and in conformity with applicable laws and regulations and in accordance with the franchisor’s standards and the agreed upon requirements in our management agreement. The cost of all such routine maintenance, repairs and alterations will be paid out of a furniture, fixtures and equipment reserve, which will be funded by a portion of hotel gross revenues. Routine repairs and maintenance will be administered by the management company. However, we will have approval rights over capital expenditures.

OUR PRINCIPAL AGREEMENTS

The following summary of the terms of our principal agreements does not purport to be complete and is subject to and qualified in its entirety by reference to the actual agreements, copies of which are exhibits, except for our franchise agreements, to the registration statement of which this prospectus is a part. See “Where You Can Find More Information.”

Our Strategic Alliance Agreement

At the conclusion of this offering, we will enter into a strategic alliance agreement with MHI Hotels Services pursuant to which MHI Hotels Services will refer to us, on an exclusive basis, any hotel investment opportunity that is presented to it subject to certain exceptions, and we will, subject to certain exceptions, offer MHI Hotels Services the opportunity to manage hotels we acquire in the future, unless a majority of our independent directors concludes for valid business reasons that another management company should manage the hotel.

Pursuant to the strategic alliance agreement, we will agree to cause our TRS Lessee to offer to MHI Hotels Services the opportunity to manage any hotel property we acquire and lease to our TRS Lessee during the term of the strategic alliance agreement which meets any of the following criteria:

•

the hotel property is not encumbered by a management contract that would continue beyond the date of our acquisition of the hotel property; or

•

no termination fee is payable by us in connection with termination of any then-existing management contract for the hotel property; or

•

if the then-existing management agreement for the hotel property can be terminated at the time of our purchase of the hotel property upon payment of a termination fee, MHI Hotels Services pays such termination fee.

Notwithstanding the foregoing, if a majority of our independent directors in good faith conclude for valid business reasons that a management company other than MHI Hotels Services should manage one or more hotel properties acquired by us in the future, we shall so notify MHI Hotels Services and MHI Hotels Services shall not have the right to manage such hotel properties.

Not less than 30 days prior to our acquisition of a hotel property that meets the criteria described above, we will be required to notify MHI Hotels Services of our proposed acquisition of the hotel property and will make available to MHI Hotels Services all information reasonably available to us with respect to the hotel property. MHI Hotels Services will have 10 business days from receipt of such notice to notify us in writing that it elects to manage, or cause one of its subsidiaries to manage, the hotel property. If MHI Hotels Services (a) notifies us that it or a subsidiary does not intend to manage the hotel property or (b) fails by the end of the 10 business day period to notify us of its election to manage a hotel property, then, in either event, we may offer management of the hotel property to other hotel management companies on such terms as we shall determine and MHI Hotels Services shall have no further rights with respect thereto.

We have agreed that the terms of the management agreement between us and MHI Hotels Services for our initial hotel properties will also apply with respect to future hotel properties. Any material adverse change in the provisions of a management agreement, as they relate to our rights and obligations, from those in the management agreement for our initial hotels, shall be subject to approval by a majority of our independent directors.

The strategic alliance agreement will have a term of 10 years. During the term of the strategic alliance agreement, MHI Hotels Services has agreed to promptly notify us, on an exclusive basis, of any opportunity to

invest in, acquire or develop a hotel property which is presented to MHI Hotels Services or its subsidiaries and that meets our acquisition criteria as we may communicate such criteria to MHI Hotels Services from time to time, subject to certain exceptions described below. In addition to such notification, MHI Hotels Services shall promptly provide us all information, materials and documents reasonably available to MHI Hotels Services or its subsidiaries with respect to such hotel property or opportunity, subject to the requirements of any confidentiality agreements with third parties.

We will have ten business days following our receipt from MHI Hotels Services of information with respect to an investment, acquisition or development opportunity to notify MHI Hotels Services as to whether we intend to pursue such opportunity. If we notify MHI Hotels Services that we intend to pursue such opportunity, MHI Hotels Services shall not provide any information regarding such opportunity to any third party until otherwise notified by us, provided that we are making commercially reasonable efforts to conduct due diligence or otherwise actively pursue the investment, acquisition or development opportunity. If we (i) notify MHI Hotels Services that we do not intend to pursue the opportunity, or (ii) fail to notify MHI Hotels Services by the end of the ten business day period that we intend to pursue the opportunity, then, in either event, MHI Hotels Services may (a) pursue the opportunity on its own behalf or (b) notify other capital sources of the opportunity. If MHI Hotels Services subsequently becomes aware that the price or other terms with respect to the opportunity have changed materially and MHI Hotels Services continues to pursue the opportunity on its own behalf rather than in conjunction with another capital source, MHI Hotels Services must promptly notify us of any such changes in terms and provide us the opportunity to succeed to MHI Hotels Services’ rights as discussed in the paragraph above.

In addition, during the term of the agreement, MHI Hotels Services has the right to nominate one person for election to our board of directors at our annual meeting of stockholders, subject to approval of such nominee by the Governance and Compensation Committee for so long as Andrew Sims, Kim Sims, Christopher Sims and their families and affiliates hold, in the aggregate, not less than 1.5 million units or shares of our common stock. Kim Sims will be the initial nominee of MHI Hotels Services. MHI Hotels Services will not receive any fees pursuant to the strategic alliance agreement other than pursuant to future management agreements offered to MHI Hotels Services pursuant to the strategic alliance agreement.

No amendment, modification or supplement to the strategic alliance agreement will be binding on any of the parties to the agreement unless it is in writing and signed by the parties in interest at the time of the modification and such modification is approved by a majority of our independent directors.

Our Management Agreement

Pursuant to the terms of a management agreement, we intend to engage MHI Hotels Services as the property manager for our six initial hotels, and to offer MHI Hotels Services the opportunity to manage any future hotels that we lease to MHI Holding or its subsidiaries. We and MHI Hotels Services will execute the management agreement at the closing of our initial public offering, but for the purposes of this section, we have assumed that the management agreement has already been executed. Our executive officers and certain of our directors are also directors of MHI Hotels Services. See “Management.”

Term

The management agreement will have an initial term of 10 years for each of the initial hotels and a term of 10 years for each hotel we acquire in the future. The term of the management agreement with respect to each hotel may be renewed by MHI Hotels Services, upon the mutual agreement of MHI Hotels Services and MHI Holding, subject to certain performance tests, for two successive periods of five years each, provided that at the time the option to renew is exercised, MHI Hotels Services is not then in default under the management agreement. If at the time of the exercise of any renewal period, MHI Hotels Services is in default, then the exercise of the renewal option will be conditional on timely cure of such default, and if such default is not timely cured, then our TRS Lessee may terminate the management agreement. If MHI Hotels Services desires to

exercise any option to renew, it must give our TRS Lessee written notice of its election to renew the management agreement no less than 90 days before the expiration of the then current term of the management agreement.

Any amendment, supplement or modification of the management agreement must be in writing signed by all parties and approved by a majority of our independent directors.

Amounts Payable under the Management Agreement

MHI Hotels Services will receive a base management fee, and if the hotels exceed certain financial thresholds, an additional incentive management fee.

The base management fee for each of our initial hotels and for any subsequently acquired hotels, based on total gross revenues of the hotel, will be due monthly and payable as follows:

Existing Six Hotel Properties


	2004		2005		2006		2007
Holiday Inn Downtown Williamsburg	2.0	%	2.0	%	2.5	%	3.0	%
Hilton Savannah DeSoto	2.0	%	2.0	%	2.5	%	3.0	%
Hilton Wilmington Riverside	2.0	%	2.0	%	2.5	%	3.0	%
Hilton Philadelphia Airport	2.0	%	2.0	%	2.5	%	3.0	%
Holiday Inn Brownstone	2.0	%	2.0	%	2.5	%	3.0	%
Best Western Maryland Inn	2.0	%	2.0	%	2.5	%	3.0	%

Subsequently Acquired Hotel Properties


First year managed	2.0	%
Second calendar year	2.5	%
Third calendar year and thereafter	3.0	%

On a pro forma basis, for the year 2003, base management fees under the new management agreement would have been $882,529.

The base management fee for a future hotel first leased other than on the first day of the fiscal year is 2% for the partial year such hotel is first leased and for the first full fiscal year such hotel is managed. There is no fee cap on the base management fee.

The incentive management fee, if any, will be due annually in arrears within 90 days of the end of the fiscal year and will be equal to 10% of the amount by which the gross operating profit of the hotels on an aggregate basis for a given year exceeds the gross operating profit for the same hotels, on an aggregate basis, for a prior year. The incentive fee may not exceed 0.25% of the aggregate gross revenue of all of the hotels included in the incentive fee calculation for the year in which the incentive fee is earned. The calculation of the incentive fee will not include results of hotels for the fiscal year in which they are initially leased, or for the fiscal year in which they are sold, and newly acquired or leased hotels will be included in the calculation beginning in the second full year such hotel is managed. All of our initial properties are eligible for the incentive fee in 2005, with the exception of the Maryland Inn, which will become eligible in 2006.

Early Termination

The management agreement may be terminated as to one or more of the hotels earlier than the stated term, if certain events occur, including:

•

a sale of a hotel or a substitution newly acquired hotels for an existing hotel;

•

the failure of MHI Hotels Services to satisfy certain performance standards with respect to any of the future hotels or with respect to the six initial hotels after the expiration of the initial 10 year term;

•

in the event of a casualty to, condemnation of, or force majeure involving a hotel; or

•

upon a default by MHI Hotels Services or us that is not cured prior to the expiration of any applicable cure periods.

Termination Fees

In certain cases of early termination of the management agreement with respect to one or more of the hotels, we must pay MHI Hotels Services a termination fee, plus any amounts otherwise due to MHI Hotels Services pursuant to the terms of the management agreement. We will be obligated to pay termination fees in the circumstances described below, provided that MHI Hotels Services is not then in default, subject to certain cure and grace periods.

Sale of a Hotel

•

Sale of an Initial Hotel — If any of the initial hotels is sold prior to the expiration of the initial 10-year term, the management agreement will terminate with respect to the sold hotels and we must pay a termination fee equal to the product obtained by multiplying (i) the aggregate management fees (both base fees and incentive fees) estimated to be paid to MHI Hotels Services with respect to the sold hotels pursuant to the then-current annual operating budget (but in no event less than the management fees for the preceding full fiscal year) by (ii) the years then remaining under the initial 10-year term. Our TRS Lessee does not have to pay any termination fee in connection with a sale of an initial hotel that occurs after the initial 10-year term. In addition, we have the right to substitute a hotel for any of the initial hotels we sell. The substitute hotel must be reasonably equivalent in terms of size, number of rooms, quality of the franchise, market type and gross revenues.

•

Sale of a Future Hotel — If a future hotel is sold during the first 12 months of the date such hotel becomes subject to the management agreement, our TRS Lessee may terminate the management agreement with respect to such sold hotel, provided that we pay to MHI Hotels Services, an amount equal to the management fee (both base fees and incentive fees) estimated to be paid to MHI Hotels Services with respect to the applicable hotel pursuant to the then-current annual operating budget for the balance of the first year of the 10-year base term. If any future hotel is sold at any time after the first year of the 10-year base term of the management agreement for that hotel and our TRS Lessee terminates the management agreement with respect to that hotel, our TRS Lessee will have no obligation to pay any termination fee.

Condemnation, Force Majeure or Casualty

•

In the event of a condemnation of, force majeure or casualty to any of the hotels, our TRS Lessee has no obligation to pay any termination fees.

Failure to Satisfy Performance Test

•

Future Hotels — If any of the future hotels fails to satisfy the applicable performance test, our TRS Lessee may terminate the management agreement with respect to such future hotel. MHI Hotels Services will have failed the performance test with respect to a particular hotel if during any fiscal year during the term (i) such hotel’s gross operating profit margin for such fiscal year is less than 75% of the average gross operating profit margins of comparable hotels in similar markets and geographical locations, as reasonably determined by MHI Hotels Services and our TRS Lessee, and (ii) such hotel’s RevPAR is less than 80% of the average RevPAR of the hotels in a pre-identified competitive set. Upon a performance test failure, our TRS Lessee must give MHI Hotels Services two years to cure. If MHI Hotels Services fails the performance test during the second year of the cure period, then our TRS Lessee has the right to terminate the management agreement with respect to such hotel. Further, if any

of the future hotels are within a cure period due to a failure of the performance test, an exercise of a renewal option shall be conditioned upon timely cure of the performance test failure, and if the performance failure is not timely cured, our TRS Lessee may elect to terminate the management agreement.

•

Initial Hotels — The initial hotels are not subject to the performance test until after the initial 10-year term of the management agreement.

New Manager; Strategic Alliance Agreement

Pursuant to the strategic alliance agreement between us, and MHI Hotels Services, we have agreed to engage MHI Hotels Services for the management of any future hotels unless a majority of our independent directors in good faith concludes, for valid business reasons, that another management company should manage these hotels. If the management agreement terminates as to all of the hotels covered in connection with a default under the management agreement, the strategic alliance agreement will also terminate. See the section entitled “Our Principal Agreements - Our Strategic Alliance Agreement” in this prospectus.

Maintenance and Modifications

MHI Hotels Services must maintain each hotel in good repair and condition and make such routine maintenance, repairs and minor alterations as it deems reasonably necessary. The cost of all such maintenance, repairs and alterations will be paid by MHI Holding.

The lessor will own substantially all personal property (other than inventory, linens and other nondepreciable personal property) not affixed to, or deemed a part of, the real estate or improvements thereon comprising their respective hotels, except to the extent that ownership of such personal property would cause the rent under the leases not to qualify as “rents from real property” for REIT income test purposes in which case some or all of the personal property associated with a hotel will be owned by the TRS Lessee. See the sections entitled “Material Federal Income Tax Considerations — Requirements for Qualification – Income Tests” of this prospectus.

Insurance

MHI Hotels Services is responsible for maintaining and paying for all workers’ compensation, employer’s liability, property and casualty insurance, and other appropriate and customary insurance related to its operations as a property manager, the cost of which is the responsibility of MHI Holding. MHI Hotels Services will also be responsible for obtaining insurance covering operation of hotels at the expense of MHI Holding.

Assignment and Subleasing

Neither MHI Hotels Services nor our TRS Lessee may assign its rights and obligations under the management agreement without the other party’s prior written consent. However, MHI Hotels Services may assign its rights and obligations to an affiliate of MHI Hotels Services that satisfies the eligible independent contractor requirements and is “controlled” by Andrew Sims, Kim Sims and Christopher Sims, their respective family partnerships or trusts, the sole members of which are at all times are their lineal descendants and spouses. “Control” means (i) the possession of a majority of the capital stock and voting power of such affiliate, directly or indirectly, or (ii) the power to direct or cause the direction of the management and policies of such affiliate in the capacity of chief executive officer, president, chairman, or other similar capacity where they are actively engaged or involved in providing such direction or control and spend a substantial amount of time managing such affiliate. No assignment will release MHI Hotels Services from any of its obligations under the management agreement.

Damage to Hotels

If any of our hotel properties is destroyed or damaged, our TRS Lessee is obligated, subject to the requirements of the underlying lease, to repair or replace the damaged or destroyed portion of the hotel to the same condition as existed prior to such damage or destruction. If the lease relating to such damaged hotel is terminated pursuant to the terms of the lease, our TRS Lessee has the right to terminate. In the event of a termination, neither our TRS Lessee nor MHI Hotels Services will have any further liabilities or obligations under the management agreement with respect to such damaged hotel with the exception of obligations in connection with the final accounting. If the management agreement remains in effect with respect to such damaged hotel, and the damage does not result in a reduction of gross revenues at the hotel, our obligation to pay management fees will be unabated. If, however, the management agreement remains in effect with respect to such damaged hotel, but the damage does result in a reduction of gross revenues at the hotel, we will be entitled to partial abatement of the management fees while the hotel is being repaired.

Condemnation of a Property or Force Majeure

If any of our hotels is subject to a total condemnation or a partial taking that prevents use of the property as a hotel, the management agreement with respect to such condemned hotel, will terminate, subject to the requirements of the applicable lease. In the event of termination, neither our TRS Lessee nor MHI Hotels Services will have any further liabilities or obligations under the management agreement with respect to such hotel. If there is an event of force majeure or any other cause beyond the control of MHI Hotels Services that directly involves a hotel and has a significant adverse effect upon the continued operations of that hotel, then the management agreement may be terminated by our TRS Lessee. In the event of a termination, neither our TRS Lessee nor MHI Hotels Services will have any further liabilities or obligations under the management agreement with respect to such hotel.

Annual Operating Budget

The management agreement provides that not less than 45 days prior to the beginning of each fiscal year during the term of the management agreement, MHI Hotels Services will submit to our TRS Lessee for each of the hotels, an annual operating budget setting forth in detail an estimated profit and loss statement for the next 12 months (or for the balance of the fiscal year in the event of a partial first fiscal year), including a schedule of hotel room rentals and other rentals and a marketing and business plan for each of the hotels and a budget of gross operating profit for purposes of the incentive fee. Such budget will be subject to our TRS Lessee’s approval, which may not be unreasonably withheld. The budget may be revised from time to time, taking into account such circumstances as our TRS Lessee deems appropriate or as business and operating conditions shall demand, subject to the reasonable approval of MHI Hotels Services.

Capital Improvement Budget

MHI Hotels Services must prepare a capital improvement budget of the expenditures necessary for replacement of furniture, fixtures and equipment and building repairs for the hotels during the following fiscal year and provide such budget to our TRS Lessee for approval, which approval may not be unreasonably withheld, at the same time MHI Hotels Services submits the proposed annual operating budget for approval. MHI Hotels Services will, in accordance with the capital improvement budget, make such substitutions and replacements of or renewals to furniture, fixtures and equipment and non-routine repairs and maintenance as it deems necessary to maintain our hotels. MHI Hotels Services may not make any other expenditures without our TRS Lessee’s approval, except expenditures which are required by reason of any (i) emergency, (ii) applicable legal requirements, (iii) the terms of any franchise agreement or (iv) are otherwise required for the continued safe and orderly operation of our hotels. The cost of all such changes, repairs, alterations, improvements, renewals, or replacements will be paid from the capital improvement reserve or other monies advanced by us or our TRS Lessee.

Service and Project Management Fees

Our TRS Lessee has agreed to pay MHI Hotels Services a project management fee equal to 5% of the total project costs associated with the implementation of the approved product improvement plan or major renovation project in the event our TRS Lessee requests that such services be provided by MHI Hotels Services. We currently expect to request that MHI Hotel Services provide such services for each of our hotels. This fee does not relate to the annual implementation of the annual capital expenditure budget which will be performed by MHI Hotels Services in consideration of the management fee. Project management services include (i) interior design assistance involved in implementing the product improvement plan, (ii) purchasing services, (iii) managing freight selection and shipping processes, (iv) the warehousing of goods delivered at the job site, inspection of materials delivered, and the filing of claims associated with the delivery of defective or damaged goods, and (v) supervision and oversight of the installation of furniture, fixtures and equipment.

Indemnity Provisions

MHI Hotels Services has agreed to indemnify MHI Holding against all damages not covered by insurance that arise from the following: (i) the fraud, willful misconduct or gross negligence of MHI Hotels Services; (ii) employee claims based on a substantial violation by MHI Hotels Services of employment laws or that are a direct result of the corporate policies of MHI Hotels Services; (iii) the knowing or reckless placing, discharge, leakage, use or storage of hazardous materials in violation of applicable environmental laws on or in any of our hotels by MHI Hotels Services; or (iv) the breach by MHI Hotels Services of the management agreement, including action taken by MHI Hotels Services beyond the scope of its authority under the management agreement, which is not cured.

Except to the extent indemnified by MHI Hotels Services as described in the preceding paragraph, MHI Holding has agreed to indemnify MHI Hotels Services against all damages not covered by insurance and that arise from the following: (i) the performance of MHI Hotels Services’ under the management agreement; (ii) the condition or use of our hotels; (iii) certain liabilities to which MHI Hotels Services is subjected pursuant to the Worker Adjustment and Retraining Notification Act in connection with the termination of the management agreement; or (iv) any claims made by an employee of MHI Hotels Services against MHI Hotels Services or MHI Holding that are based on a violation or alleged violation of the employment laws.

Events of Default

Events of default under the management agreement include:

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Our TRS Lessee or MHI Hotels Services experiences a bankruptcy-related event that is not discharged within 90 days.

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Our TRS Lessee or MHI Hotels Services fails to make any payment due under the management agreement, subject to a 10-day grace period.

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Our TRS Lessee or MHI Hotels Services fails to observe or perform any other term of the management agreement, subject to a 30-day grace period. There are certain instances in which the 30-day grace period extends to 120 days.

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MHI Hotels Services does not qualify as an “eligible independent contractor” as such term is defined in Section 856(d)(9) of the Internal Revenue Code of 1986, as amended.

If an event of default occurs and continues beyond any grace period, the non-defaulting party will have the option of terminating the management agreement, on 30 days’ notice to the other party. If the event of default relates solely to one or more, but not all, of the hotels, then the management agreement may only be terminated with respect to the hotels to which the event of default relates.

Our Franchise Agreements

Our six initial hotels operate under franchise licenses from national hotel companies.

We anticipate that most of the additional hotels we acquire will be operated under franchise licenses. We believe that the public’s perception of quality associated with a franchisor is an important feature in the operation of a hotel. Franchisors provide a variety of benefits for franchisees, which include national advertising, publicity and other marketing programs designed to increase brand awareness, training of personnel, continuous review of quality standards and centralized reservation systems.

The franchise licenses will be held by our TRS Lessee. MHI Hotels Services must operate each of our hotels it manages in accordance with and pursuant to the terms of the franchise agreement for the hotel.

The franchise licenses generally specify certain management, operational, record keeping, accounting, reporting and marketing standards and procedures with which the franchisee must comply. Under the franchise licenses, the franchisee must comply with the franchisors’ standards and requirements with respect to:

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training of operational personnel;

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safety;

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maintaining specified insurance;

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the types of services and products ancillary to guest room services that may be provided;

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display of signage; and

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the type, quality and age of furniture, fixtures and equipment included in guest rooms, lobbies and other common areas.

Additionally, as the franchisee, our TRS Lessee will be required to pay the franchise fees described below.

The following table sets forth certain information for the franchise licenses for five of our initial six hotel properties:


Property	Franchise Fee ⁽¹⁾		Marketing/Reservation Fee ⁽¹⁾		Expiration Date
Hilton Philadelphia Airport	5.0	%	3.5	%	11/30/04 ⁽²⁾
Holiday Inn Brownstone	5.0	%	2.5	%	3/10/11
Holiday Inn Downtown Williamsburg	5.0	%	2.5	%	9/14/14
Hilton Wilmington Riverside	5.0	%	3.5	%	3/31/08
Hilton Savannah DeSoto	5.0	%	3.5	%	6/30/08
Best Western Maryland Inn	3.6	% ⁽³⁾	4.0	%	9/30/09

⁽¹⁾	Percentage of room revenues payable to the franchisor.

⁽²⁾	We are currently in negotiations to extend the franchise license on the Hilton Philadelphia Airport.

⁽³⁾	Annual fees charged by Best Western are based on number of rooms and number of room reservations at the property. Percentage presented is estimated franchise fee as a percentage of revenue based on historic averages.

The aggregate franchise fees for 2003 for our initial six hotels were $1,427,149. There are no limitations on fees in the franchise agreements.

Holiday Inn is a registered trademark of Intercontinental Hotel Group. Intercontinental Hotel Group has not endorsed or approved the offering. A grant of a franchise license for the initial properties is not intended and should not be interpreted as an express or implied approval or endorsement by Intercontinental Hotel or any of its affiliates, subsidiaries or divisions of us, our operating partnership or our common stock.

Hilton is a registered trademark of Hilton Hospitality, Inc., an affiliate of Hilton Hotels Corporation (“Hilton”). Neither Hilton nor any of its partners or affiliates is in any way participating in or endorsing the offering described in this prospectus and none of them will receive any proceeds from the sale of the shares, and the purchasers of any shares will not receive any interest in Hilton or any of its partners and affiliates. Hilton has not endorsed or approved the sale of the shares pursuant to this prospectus. Neither Hilton nor any of its partners or affiliates, or their respective officers, directors, agents or employees, will in any way be deemed an “issuer” or “underwriter” of the shares. Hilton, its partners or affiliates, or any of its respective officers, directors, agents and employees have not assumed and will not have any liability or responsibility for any financial statements or other financial information contained in this prospectus or similar written or oral communications. The franchise license agreements for the Hilton properties other than the Hilton Philadelphia Airport, will be transferred to our TRS Lessee and such transfers are subject to Hilton’s prior approval.

Best Western is a registered trademark of Best Western International. Best Western International has not endorsed or approved the offering. A grant of a Best Western membership for our initial hotel is not intended and should not be interpreted as an express or implied approval or endorsement by Best Western or any of its affiliates, subsidiaries or divisions of us, our operating partnership or our common stock.

Our TRS Leases

In order for us to qualify as a REIT, neither our company, the operating partnership or any subsidiary can operate our hotels. Our operating partnership, or subsidiaries of our operating partnership, as lessors, will lease our hotels to our TRS Lessee and our TRS Lessee will enter into management agreements with MHI Hotels Services or its subsidiaries, or other operators, to manage the hotels. The leases for our initial hotels will contain the provisions described below.

Lease Terms

Each lease will have a non-cancelable initial term of five years, subject to earlier termination upon the occurrence of certain contingencies described in the lease (including, particularly, the provisions described below under “— Damage to Hotels,” “— Condemnation of Hotels” and “— Termination of Percentage Leases on Disposition of the Hotels”).

Amounts Payable Under the Percentage Leases

During the term of each lease, our TRS Lessee will be obligated to pay a fixed annual base rent plus a percentage rent and certain other additional charges. Base rent will accrue and be paid monthly. Percentage rent is calculated by multiplying fixed percentages by gross room revenues in excess of certain threshold amounts and other revenues for each of the initial hotels. Percentage rent will be paid quarterly.

Other than real estate taxes, certain insurance obligations and capital improvements, which are obligations of the lessor, the leases require our TRS Lessee to pay rent, all costs and expenses and all utility and other charges incurred in the operation of the hotels it leases. The leases also provide for rent reductions and abatements in the event of damage to, or destruction or a partial taking of, any hotel as described under “— Damage to Hotels” and “— Condemnation of Hotels.”

Maintenance and Modifications

Under each lease, the lessor is required to maintain the structural elements of the improvements and the roof of the hotel. Except for capital improvements and maintenance of structural elements, our TRS Lessee will be required, at its expense, to maintain the hotels in good order and repair, except for ordinary wear and tear, and to make non-structural, foreseen and unforeseen, and ordinary and extraordinary, repairs which may be necessary and appropriate to keep the hotels in good order and repair.

Insurance and Property Taxes

We will pay real estate and personal property taxes with respect to our hotels. The TRS Lessee is required to pay or reimburse us for all liability insurance on the hotels, with extended coverage, comprehensive general public liability, workers’ compensation and other insurance appropriate and customary for properties similar to their respective hotels and naming us, as the case may be, as an additional named insured.

Assignment, Subleasing and Change of Control

Our TRS Lessee is not permitted to sublet all or any part of a hotel or to assign its interest under the lease, other than to an affiliate of our TRS Lessee, without our prior written consent. No assignment or subletting will release our TRS Lessee from any of its obligations under the lease.

Damage to Hotels

In the event of damage to or destruction of any hotel covered by insurance, we may, at our option to be exercised within 30 days after our TRS Lessee elects to terminate the lease, repair, rebuild, or restore the hotel. If we decide not to rebuild, the lease will terminate and we will retain the insurance proceeds.

Condemnation of Hotels

In the event of a total condemnation of a hotel, the relevant lease will terminate with respect to such hotel as of the date of taking, and the lessor and our TRS Lessee will be entitled to its share of any condemnation award in accordance with the provisions of the lease. In the event of a partial taking which does not render the hotel unsuitable for our TRS Lessee’s use, we will restore the untaken portion of the hotel to a complete architectural unit of the same general character and condition as existed immediately prior to the condemnation subject to the receipt of sufficient condemnation awards.

Events of Default

Events of default under the leases include, among others, the following:

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the failure by our TRS Lessee to pay base rent, percentage rent or additional charges within 10 days after receipt by lessee of such notice;

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the failure by our TRS Lessee to observe or perform any other term, covenant or condition of a lease and the continuation of such failure for a period of 30 days after receipt by our TRS Lessee of notice from us thereof, unless such failure cannot with due diligence be cured within such period and our TRS Lessee commences appropriate action to cure such failure and diligently completes the curing thereof, but in no event shall the cure period extend beyond 120 days after notice;

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if our TRS Lessee shall file a petition in bankruptcy or reorganization pursuant to any federal or state bankruptcy law or any similar federal or state law, or shall be adjudicated a bankrupt or shall make an assignment for the benefit of creditors or shall admit in writing its inability to pay its debts generally as they become due, or if a petition or answer proposing the adjudication of our TRS Lessee as a bankrupt or its reorganization pursuant to any federal or state bankruptcy law or any similar federal or state law shall be filed in any court and our TRS Lessee shall be adjudicated a bankrupt and such adjudication shall not be vacated or set aside or stayed within 60 days after the entry of an order in respect thereof, or if a receiver of our TRS Lessee or of the whole or substantially all of the assets of our TRS Lessee shall be appointed in any proceeding brought by our TRS Lessee or if any such receiver, trustee or liquidator shall be appointed in any proceeding brought against our TRS Lessee and shall not be vacated or set aside or stayed within 60 days after such appointment;

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if our TRS Lessee voluntarily discontinues operations of a hotel for more than 30 days, except as a result of damage, destruction, renovation or a partial or complete condemnation; or

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if the franchisor under a franchise agreement has declared an event of default as a result of any action or failure to act by our TRS Lessee or any management company and such default continues beyond the applicable grace period.

If an event of default occurs and continues beyond any curative period, we will have the option of reclaiming the leased property. We intend that leases with respect to our hotels acquired in the future will contain substantially similar provisions, although we may, in our discretion, alter any of these provisions with respect to any particular lease.

Termination of Leases on Disposition of the Hotels

We will have the right to terminate the lease by either (i) paying our TRS Lessee a termination fee or (ii) offering to lease to our TRS Lessee a substitute hotel reasonably comparable in size, number of rooms, quality of franchise operation, market and geographical location, and gross revenues, to be governed by the terms and conditions of the lease.

Subleases of Shell Island Resort

We will also sublease the areas leased under the Resort Property leases at the Shell Island Resort to MHI Hotels LLC and MHI Hotels Two, Inc. See “Our Business and Properties — Our Initial Properties.”

MANAGEMENT

Directors and Executive Officers

Our business and affairs are managed under the direction of our board of directors. Upon completion of this offering, our board of directors will consist of seven members, including our current director and the six additional persons identified below, each of whom has consented to serve as a director upon completion of the offering. We believe Messrs. Stein, Beatty, Carey, and General Zinni meet the independence requirements of the American Stock Exchange, or AMEX. Our board will be responsible for determining independence. Our directors will serve one year terms and hold office until their successors are elected and qualified. The terms of our present director and those persons who will become directors upon or shortly after completion of this offering, will expire at our next annual meeting of stockholders. Certain information regarding our executive officers and directors, and those persons who have agreed to become directors upon completion of the offering, is set forth below.


Name	Age	Position
Andrew M. Sims	47	President, Chief Executive Officer and Chairman of the Board ⁽¹⁾
William J. Zaiser	58	Executive Vice President, Chief Financial Officer and Treasurer
General Anthony C. Zinni (USMC Ret.)	61	Director ⁽²⁾
Kim Sims	49	Director ⁽²⁾⁽³⁾
Christopher Sims	45	Director ⁽²⁾
Edward Stein	58	Director ⁽²⁾
David Beatty	60	Director ⁽²⁾
J. Paul Carey	46	Director ⁽⁴⁾

⁽¹⁾	Required to be nominated to our board of directors annually pursuant to his employment agreement.

⁽²⁾	Each of such persons has agreed to become a director immediately after the closing of the offering.

⁽³⁾	Designated by MHI Hotels Services for nomination to our board of directors pursuant to our strategic alliance agreement.

⁽⁴⁾	Mr. Carey has agreed to become a director, and will become a director prior to completion of the offering.

The following is a summary of certain biographical information regarding our directors, director nominees and executive officers:

Andrew Sims is our president, chief executive officer and chairman of the board. He has served as President of MHI Hotels Services since 1995 after serving for seven years as vice president of finance and development. During his tenure as vice president of finance and development, he was instrumental in the purchase and renovation of several properties that drove the growth of MHI Hotels Services in the 1990’s. Among the acquisitions he helped negotiate are the Hilton Wilmington Riverside and the Shell Island Resort in Wrightsville Beach, North Carolina. Andrew Sims’ association with MHI Hotels Services continues a tradition of family management which began with his father, Edgar Sims, Jr., who founded MHI Hotels Services as Maryland Hospitality Inc. in 1957. Mr. Sims began his career as a sales associate for Merrill Lynch Commercial Realty. He is a graduate of Washington & Lee University, with a bachelor’s degree in commerce. Andrew Sims is the brother of directors Kim and Christopher Sims. Mr. Sims currently serves on the franchise advisory board for Hilton Hotels. Mr. Sims will resign as an officer of MHI Hotel Services upon completion of the offering but will continue to serve as a director of MHI Hotels Services following the offering.

William Zaiser is our executive vice president, chief financial officer and treasurer. A certified public accountant, he is responsible for financial analysis, cash management, insurance, investment and financial reporting. Mr. Zaiser began his career with MHI Hotels Services as a computer consultant, and became the first corporate controller for MHI Hotels Services. In 1990, he was elected to the board of directors and was promoted to vice president of accounting. Before joining the hospitality industry, Mr. Zaiser was an instructor of mathematics at both the University of Maryland and Montgomery College. A licensed CPA in the State of Maryland, he holds a masters degree in applied mathematics from the University of Maryland and a bachelor’s

degree in mathematics and physics from Ohio Wesleyan University. Mr. Zaiser is a member of the American Institute of Certified Public Accountants and the Hospitality Financial and Technology Professionals. Mr. Zaiser will resign as an officer of MHI Hotel Services upon completion of the offering but will continue to serve as a director of MHI Hotels Services following the offering.

General Anthony C. Zinni (USMC Ret.) will become a director after completion of the offering. General Zinni retired from the U.S. Marine Corps after 39 years of service in October 2000. During his military career, General Zinni served as the Commanding General, First Marine Expeditionary Force from 1994 to 1996, and as Commander-in-Chief, U.S. Central Command from 1997 to 2000. General Zinni has participated in numerous humanitarian operations and Presidential diplomatic missions. In November 2001, General Zinni was appointed senior adviser and U.S. envoy to the Middle East by Secretary of State Colin Powell. Since November 2000, General Zinni has consulted in the areas of defense, military, national security, foreign policy and regional issues. General Zinni serves as a professor at William & Mary College and at Virginia Military Institute, positions he has held since November 2000. General Zinni currently serves as a director and member of the compensation committee of BAE Systems. General Zinni received his bachelor’s degree in economics from Villanova University. He also earned a Masters degree in international relations from Salvae Regina College, a Masters degree in management and supervision from Central Michigan University, and an honorary doctorate degree from William and Mary College and the Maine Maritime Academy.

Kim Sims , an officer and director of MHI Hotels Services, will become a director after completion of the offering. He will become the President of MHI Hotels Services upon completion of the offering and has served as executive vice president of Operations since 1995, providing 27 years of service to the company. Mr. Sims was instrumental in MHI Hotels Services expansion as a multi-property management company beginning with his management and oversight of the Best Western Maryland Inn in Laurel, Maryland in 1986. His efforts proved crucial to MHI Hotels Services’ expansion into the Commonwealth of Virginia by purchasing two Holiday Inns in Williamsburg, Virginia. Mr. Sims’ knowledge of construction and design further led to the expansion of MHI Hotels Services into the operation and renovation of distressed properties. He is a graduate of Washington & Lee University with a degree in commerce. Kim Sims is the brother of Andrew and Christopher Sims.

Christopher Sims , an officer and director of MHI Hotels Services, will become a director after completion of the offering. He joined MHI Hotels Services in 1981 first as sales and general manager for the Best Western Maryland Inn in College Park until his promotion in 1988 to vice president of sales and marketing. Christopher Sims was instrumental in the opening of a number of MHI properties, including the Hilton Savannah Desoto in Savannah, Georgia. Mr. Sims is a graduate of Hampden-Sydney College, with a bachelor’s degree in economics. He is First Vice President of the Prince George Conference and Visitors Bureau and a member of Hospitality Sales and Marketing Association International. Christopher Sims is the brother of Andrew and Kim Sims.

Edward Stein will become a director after completion of the offering and will serve as chairman of the nominating, corporate governance and compensation committee. He is a founding partner of the Norfolk, Virginia law firm of Weinberg and Stein. Mr. Stein has practiced law in the areas of real estate, estate planning, probate, corporate law, business law and licensing since 1974. He is admitted to the Virginia Bar and is a member of the Norfolk and Portsmouth, Virginia Bar Associations. Mr. Stein was educated at the Lawrenceville School (1964), Harvard College (A.B. 1968) and the University of Virginia School of Law (J.D. 1974).

David Beatty will become a director after completion of the offering. He began his 32-year career in finance and real estate development as head of marketing operations for George Kaufman real estate development group in 1972. He was a founder of Essex Commercial Mortgage in 1987 and founder and President of CENIT Commercial Mortgage Corp. in 1990. In 2001, Mr. Beatty founded Towne Commercial Mortgage, LLC, where he currently serves as president. Towne Commercial Mortgage specializes in placing debt and equity for the lodging industry. He has been President of Guest Quarters, Inc., Treasurer and CFO of Guest Quarters Development Group and President of mortgage financing for Lawson-Essex, Inc. Mr. Beatty holds a B.A. in Economics from Georgetown University and an M.B.A. in Finance and Marketing from the Colgate Darden School of Business at the University of Virginia.

J. Paul Carey will become a director prior to the completion of the offering and will serve as the chairman of the audit committee. He is currently the Managing Partner for JPT Partners, a privately held investment partnership created to acquire and manage transaction processing companies in the education and financial services industry. J. Paul Carey also serves as the Chairman for Campus Partners, LLC, the leading Perkins and Campus based loan service in the country. Prior to his position with JPT Partners, J. Paul Carey served as the Chief Executive Officer of Enumerate Solutions, Inc., a venture backed software company, from November 2001 until October 2003. Mr. Carey also served as the Executive Vice President for Sallie Mae and was responsible for financial reporting from August 1997 to April 2001, and as a partner with LCL Ltd., a financial advisory management and investment firm from March 1993 to August 1997. He serves on the Board of Trustees for the University of Maryland College Park Foundation and for Trinity College. Mr. Carey received his M.B.A. from the University of Maryland and his B.S. from the Catholic University in Washington D.C.

Promoters

Andrew Sims and William Zaiser are our promoters, which means that they have taken initiative in funding and organizing our business.

Director Compensation

We intend to pay independent, non-employee directors fees for their services as directors. Independent, non-employee directors will receive annual compensation of $15,000, plus a fee of $750 (plus out-of-pocket expenses) for attendance in person at each meeting of the board of directors, and $750 for each committee meeting attended in person. Directors who attend meetings telephonically will receive a fee of $375. Directors who are also officers or employees of our company will not be paid any director fees. Directors Edward Stein and J. Paul Carey will receive an additional $5,000 per year for their services as chair of the nominating, corporate governance and compensation, and audit committees, respectively. Additionally, we will issue 1,000 shares of restricted stock to each of the independent directors upon consummation of this offering. Although distributions will be paid on all restricted stock, whether or not vested, at the same rate and on the same date as on shares of our common stock, these holders will be prohibited from selling such shares until they vest. All of the shares of restricted stock will vest on the first anniversary of the date of grant.

Our board of directors may change the compensation of our independent directors in its discretion.

Contractual Rights to Nominate Individuals to Our Board

Under the terms of our strategic alliance agreement with MHI Hotels Services, they have the right to nominate one person for election to our board of directors at each annual meeting of stockholders for so long as Andrew Sims, Kim Sims, Christopher Sims and their affiliates and families own not less than 1.5 million units or shares of our common stock. The initial nominee of MHI Hotels Services will be Kim Sims. Such nominee may not be independent under the corporate governance standards of the American Stock Exchange.

In addition, Andrew Sims’ employment agreement with us provides that we must nominate him to serve as a director. The nomination right afforded to MHI Hotels Services and that provided for under Andrew Sims’ employment agreement are subject to the determination of the nominating, corporate governance and compensation committee in connection with each annual or special meeting of stockholders at which directors will be elected that the nominee satisfies the standards established by the committee for service on the board. If Andrew Sims fails to be nominated to our board of directors or is involuntarily removed from our board of directors, unless for cause or vote by the stockholders, he will receive, among other things, a severance payment equal to to five times his combined salary base and actual bonus compensation for the preceding fiscal year. Andrew Sims will not be considered independent under the corporate governance standards of the American Stock Exchange.

Independent Directors

Under the enhanced corporate governance standards of the American Stock Exchange, a majority of our directors, and all of the members of our audit committee and nominating, corporate governance and compensation committee, must meet “independence” standards as defined by the AMEX.

We believe that four of our board members, Edward Stein, David Beatty, J. Paul Carey and General Zinni meet the enhanced test of independence required by AMEX. Independence will be determined by our board of directors. J. Paul Carey will become a director prior to the completion of the offering in compliance with the AMEX listing requirements.

We expect that our independent directors will meet in executive sessions at least four times each year without the presence of any corporate officers. We do not intend to appoint a lead director to preside over such executive sessions. Rather, we expect that the independent directors themselves will designate a presiding independent director from time to time.

We intend to implement procedures for interested parties, including stockholders, who wish to communicate directly with our independent directors. We believe that providing a method for interested parties to communicate directly with our independent directors, rather than the full Board, will provide a more confidential, candid and efficient method of relaying any interested party’s concerns or comments.

The board will establish two committees whose principal functions are briefly described below.

Audit Committee

Our board of directors will establish an audit committee following completion of this offering, which will be comprised of David Beatty, J. Paul Carey and Edward Stein. J. Paul Carey will serve as the chairperson of the audit committee. Each of the members of the audit committee will meet the financial literacy requirements of the AMEX, and we believe the board will affirmatively determine that Mr. Carey is an “audit committee financial expert.” The audit committee will oversee, review and evaluate:

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our financial statements;

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our accounting and financial reporting processes;

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the integrity and audits of our financial statements;

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our disclosure controls and procedures;

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our compliance with legal and regulatory requirements;

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our internal control functions;

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the qualifications and independence of our independent auditors; and

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the performance of our independent auditors.

The audit committee also will:

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have sole responsibility to appoint or replace our independent auditors;

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have sole responsibility to approve, in advance, all audit and permissible non-audit engagement services, if any, by our independent auditors;

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establish and maintain whistleblower procedures;

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conduct an annual self-evaluation;

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prepare an audit committee report for publication in our annual proxy statement;

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monitor compliance of our employees with our standards of business conduct and conflict of interest policies; and

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meet at least quarterly with our senior executive officers, internal audit staff and our independent auditors in separate executive sessions.

Our board will adopt a charter for the audit committee that sets forth its specific functions and responsibilities. We expect to make our audit committee charter available on our website. In addition, we expect to include on our website information regarding procedures established by the audit committee for the submission of complaints or concerns about our accounting, internal accounting controls or auditing matters.

Nominating, Corporate Governance and Compensation Committee

Our board of directors will establish a nominating, corporate governance and compensation committee following completion of this offering, which will consist of independent directors, Edward Stein, David Beatty and J. Paul Carey. Mr. Stein will act as the chairman of the nominating, corporate governance and compensation committee. The purpose of the nominating, corporate governance and compensation committee is to make recommendations to the board of directors regarding corporate governance policies and practices, recommend criteria for membership on the board of directors, nominate members to the board of directors, make recommendations to the board of directors concerning the members, size and responsibilities of each of the committees, develop general policy relating to compensation and benefits, determine compensation for, and evaluate the performance of, our executive officers and administer our 2004 Stock Incentive Plan with the consent of the full board.

In determining appropriate candidates to nominate to the board of directors, the nominating, corporate governance and compensation committee will generally consider a number of factors, including the age, expertise, business experience, character and other board memberships of the candidate. The nominating, corporate governance and compensation committee may employ a search firm to be used to identify director candidates or a compensation consultant to assist in the evaluation of the compensation of the chief executive officer or any other executive officer. In nominating members to the board of directors, the nominating, corporate governance and compensation committee will consider nominees recommended by stockholders so long as the recommendation is submitted to our secretary within the timeframe required to request a proposal that will be included in the proxy materials for our next annual meeting of stockholders. However, the nominating, corporate governance and compensation committee may, in its sole discretion, reject any such recommendation for any reason.

Our board will adopt a charter for the nominating, corporate governance and compensation committee that sets forth its specific functions and responsibilities. We expect to make our nominating, corporate governance and compensation committee charter available on our website.

Corporate Governance Guidelines and Code of Business Conduct and Ethics

Our board of directors will adopt a code of business conduct and ethics, including a conflicts of interest policy, relating to the conduct of our business by our employees, officers and directors. We intend to maintain the highest standards of ethical business practices and compliance with all laws and regulations applicable to our business.

Compensation Committee Interlocks and Insider Participation

We believe that the members of the nominating, corporate governance and compensation committee of our board of directors will be independent directors. Upon completion of this offering, none of these directors, or any of our executive officers, will serve as a member of a board of directors or any compensation committee of any entity that has one or more executive officers serving as a member of our board.

Executive Compensation

We were organized in August 2004, did not conduct any prior operations and, accordingly, did not pay any compensation to our executive officers for the year ended December 31, 2003 or the nine months ended September 30, 2004. MHI Hotel Services compensated these persons for services performed during the first nine months of 2004 and 2003.

The following table sets forth the annual base salary levels and other compensation expected to be paid by us in 2005 to our executive officers upon the consummation of this offering. We will assign certain of the rights and obligations under the employment agreements with the executive officers to our operating partnership, which will also employ the executive officers and will pay their compensation. See the section entitled “Management - Director Compensation” in this prospectus.


Name and Principal Position	Salary ⁽¹⁾		Bonus ⁽²⁾	Other Annual Compensation
Andrew Sims President and Chief Executive Officer	$	225,000	—	$	—
William Zaiser Chief Financial Officer	$	175,000	—	$	—

⁽¹⁾	We do not expect to pay salaries to our executive officers until consummation of this offering. The amounts set forth in these columns are annualized amounts payable to the named executive officer in 2005 pursuant to an employment agreement with us.

⁽²⁾

Our executive officers will be entitled to such bonuses as may be determined by our nominating, corporate governance and compensation committee and the board of directors from time to time. There is no guaranteed minimum bonus. We do not expect to pay any bonus for Mr. Sims or Mr. Zaiser in 2004. Bonuses for Mr. Sims and Mr. Zaiser to be paid in 2005 will range in an amount between 20% and 30% of their base salary.

Employment Agreements

We will enter into employment agreements, effective upon completion of the offering, with Andrew Sims and William Zaiser that provide for an annual salary of $225,000 for Andrew Sims and $175,000 for William Zaiser. Mr. Sims and Mr. Zaiser will receive customary benefits, including a term life insurance policy of $1 million and disability insurance in an amount so that each will receive the same monthly payments as under his respective employment agreement. As described below, the employment agreements provide these officers with severance benefits if their employment ends under certain circumstances. We believe that the agreements will benefit us by helping to retain the executives and by allowing them to focus on their duties without the distraction of the concern for their personal situations in the event of a possible change in control of our company.

The agreements have an initial term beginning on the effective date of the initial public offering and ending on December 31, 2009. Thereafter, the term of the agreements will be extended for an additional year, on each anniversary of the effective date of the offering, unless either party gives 180 days prior written notice that the term will not be extended.

Andrew Sims’ employment agreement with us provides that we must nominate him to serve as a member of our board of directors, must include him in the proxy materials delivered to stockholders in connection with a stockholder meeting to elect directors, and recommend him for election, and must continue to nominate and recommend him for election to our board for so long as he serves as our president and chief executive officer; subject, however, to the determination of our nominating, corporate governance and compensation committee that he satisfies the standards established for service on our board of directors. If Andrew Sims fails to be nominated to our board of directors or is involuntarily removed from our board of directors, other than for cause or vote by the stockholders, he will receive, among other things, a severance payment equal to five times his combined salary base and actual bonus compensation for the preceding fiscal year, plus indemnification for tax on such amounts.

Each of these executives will be entitled to receive benefits under his respective employment agreement if we terminate the executive’s employment without cause or the executive resigns with good reason or if there is a change in control of our company during the term of the agreement. Under these scenarios, each of the executives is entitled to receive the following:

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any accrued but unpaid salary and bonuses;

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vesting of any previously issued stock options or restricted stock;

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payment of the executive’s life, health and disability insurance coverage for a period of 5 years following termination;

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any unreimbursed expenses; and

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a severance payment equal to five times the executive’s combined salary base and actual bonus compensation for the preceding fiscal year.

Each of the executives will be eligible to receive payments to compensate the executive for the additional taxes, if any, imposed on the executive under Section 4999 of the Internal Revenue Code by reason of receipt of excess parachute payments.

Each of the executives has agreed, absent a written waiver from us, during the term of their employment and for a one-year period thereafter, not to, directly or indirectly, engage in certain activities that would be in competition with us.

2004 Long-Term Incentive Plan

We have established our 2004 Long-Term Incentive Plan for the purpose of recruiting and retaining our and our affiliates’ executive officers, employees, non-employee directors and consultants. The Long-Term Incentive Plan authorizes the issuance of options to purchase shares of common stock and the grant of stock awards, deferred shares, performance shares and performance units.

Until completion of the offering, administration of the Long-Term Incentive Plan will be carried out by our board of directors. Upon completion of the offering, administration of the Long-Term Incentive Plan will be carried out by the nominating, corporate governance and compensation committee of the board of directors, which we refer to as the Committee. The Committee may delegate a portion of its authority under the Long-Term Incentive Plan to one or more officers. As used in this summary, the term “administrator” means the Committee or its delegate.

Our officers and employees and those of our operating partnership and other subsidiaries are eligible to participate in the Long-Term Incentive Plan. Our non-employee directors and other persons that provide consulting services to us and our subsidiaries are also eligible to participate in the Long-Term Incentive Plan. When we refer to a subsidiary, we mean to refer to both corporate subsidiaries and other entity subsidiaries, such as partnerships and limited liability companies, for which we directly or indirectly control at least 50% of the equity of the corporation or other entity, and any other entity in which we have a material equity interest and which is designated as an “affiliate” by the Committee.

Under the Long-Term Incentive Plan, the maximum number of shares of common stock that may be subject to stock options, stock awards, deferred shares, performance units or performance shares will be equal to 350,000 shares or units. No one participant may receive awards for more than an aggregate of 175,000 shares of common stock in any one calendar year and/or performance units for each full or fractional year included in the performance period for the award granted during the calendar year. The maximum number of shares of common stock that may be issued under this plan pursuant to the exercise of incentive stock options is 150,000. These limitations, and the terms of outstanding awards, will be adjusted without the approval of our stockholders as the administrator determines is appropriate in the event of a stock dividend, stock split, reclassification of stock or similar events. If an option terminates, expires or becomes unexercisable, or shares of common stock subject to a stock award, grant of performance shares, grant of deferred shares are forfeited, the shares subject to such option, stock award, grant of performance shares, or grant of deferred shares are available under for future awards under the Long-Term Incentive Plan. Shares which have been issued under the Long-Term Incentive Plan may not be returned to the reserve created under the Long-Term Incentive Plan for re-issuance except that shares which are repurchased or reacquired by us at the original purchase price may be returned to the reserve for future issuance under the Long-Term Incentive Plan.

The Long-Term Incentive Plan provides for the grant of (i) options intended to qualify as incentive stock options under Section 422 of the Code and (ii) options that are not intended to so qualify. Options intended to qualify as incentive stock options may be granted only to persons who are our employees or are employees of our corporate subsidiaries. No participant may be granted incentive stock options that are exercisable for the first time in any calendar year for common stock having a total fair market value (determined as of the option grant), in excess of $100,000. The principal difference between incentive stock options and other options is that a participant generally will not recognize ordinary income at the time an incentive stock option is granted or exercised, but rather at the time the participant disposes of the shares of common stock acquired under the incentive stock option. In contrast, the exercise of an option that is not an incentive stock option generally is a taxable event that requires the participant to recognize ordinary income equal to the difference between the stock’s fair market value and the option price. The employer will not be entitled to a federal income tax deduction with respect to incentive stock options except in the case of certain disqualifying dispositions of common stock acquired under the options. The employer may claim a federal income tax deduction on account of the exercise of an option that is not an incentive stock option equal to the amount of ordinary income recognized by the participant.

The administrator will select the participants who are granted options and, consistent with the terms of the Long-Term Incentive Plan, will prescribe the terms of each option, including the vesting rules for such option. The option exercise price cannot be less than the common stock’s fair market value on the date the option is granted, and in the event a participant is deemed to be a 10% owner of our company or one of our corporate subsidiaries, the exercise price of an incentive stock option cannot be less than 110% of the common stock’s fair market value on the date the option is granted. The Long-Term Incentive Plan prohibits repricing of an outstanding option, and therefore, the administrator may not, without the consent of the stockholders, lower the exercise price of an outstanding option. This limitation does not, however, prevent adjustments resulting from stock dividends, stock splits, reclassifications of stock or similar events. The option price may be paid in cash or, with the administrator’s consent, by surrendering shares of common stock, or a combination of cash and shares of common stock. Options may be exercised in accordance with requirements set by the administrator. The maximum period in which an option may be exercised will be fixed by the administrator but cannot exceed 10 years, and in the event a participant is deemed to be a 10% owner of our company or one of our corporate subsidiaries, the maximum period for an incentive stock option granted to such participant cannot exceed five years. Options generally will be nontransferable except in the event of the participant’s death.

An option is exercisable only to the extent it has vested. Options will vest in accordance with a participant’s stock option agreement. Unless provided otherwise in a participant’s stock option agreement and subject to the maximum exercise period for the option, an option generally will cease to be exercisable to the extent vested upon the earlier of (i) three months following the participant’s termination of service with us or our affiliate or (ii) the expiration date under the terms of the participant’s stock option agreement. The right to exercise an option will expire immediately upon termination if the termination is for “cause” or a voluntary termination any time after an event that would be grounds for termination for cause. Upon death or disability, the option exercise period is extended to the earlier of (i) one year from the participant’s termination of service or (ii) the expiration date under the terms of the participant’s stock option agreement.

The administrator also will select the participants who are granted stock awards and, consistent with the terms of the Long-Term Incentive Plan, will establish the terms of each stock award. A stock award may be subject to payment by the participant of a purchase price for shares of common stock subject to a stock award, and a stock award may be subject to vesting requirements or transfer restrictions or both as determined by the administrator. Those conditions may include, for example, a requirement that the participant complete a specified period of service or that certain performance objectives be achieved. The performance objectives may be based on the individual performance of the participant, our performance or the performance of our affiliates, subsidiaries, divisions, departments or functions in which the participant is employed or has responsibility. Payment of stock awards need not qualify as “performance based compensation”, but to the extent we want the payment of a stock award to qualify as “performance based compensation” the performance standards must meet

the requirements under Section 162(m) of the Code. These requirements include that the objectives are limited to specified levels of and increases in our or a business unit’s return on equity; total earnings; earnings per share; earnings growth; return on capital; return on assets; economic value added; earnings before interest and taxes; earnings before interest, taxes, depreciation and amortization; sales growth; gross margin return on investment; increase in the fair market value of the shares; share price (including but not limited to growth measures and total shareholder return); net operating profit; cash flow (including, but not limited to, operating cash flow and free cash flow); cash flow return on investments (which equals net cash flow divided by total capital); internal rate of return; increase in net present value or expense targets. Transfer of the shares of common stock subject to a stock award normally will be restricted prior to vesting.

The Long-Term Incentive Plan also authorizes the grant of deferred shares, i.e., the right to receive a future delivery of shares of common stock, if certain conditions are met. The administrator will select the participants who are granted awards of deferred shares and will establish the terms of each grant. The conditions established for earning the grant of deferred shares may include, for example, a requirement that certain performance objectives, such as those described above, be achieved.

The Long-Term Incentive Plan also permits the grant of performance shares and performance units to participants selected by the administrator. A performance share is an award designated in a specified number of shares of common stock that is payable in whole or in part, if and to the extent certain performance objectives are achieved. A performance unit is a cash bonus equal to a per unit value equal to the market value of our common stock at the time the unit is awarded, to the extent certain performance objectives are achieved. The performance objectives will be prescribed by the administrator and will be stated with reference to the performance objectives described above. A grant of performance units may be settled by payment of cash, shares of common stock or a combination of cash and shares and may grant to the participant or reserve to the administrator the right to elect among these alternatives.

Unless previously terminated pursuant to the terms of the Long-Term Incentive Plan, the Long-Term Incentive Plan will terminate ten years after the adoption of the Long-Term Incentive Plan by our board of directors or the date approved by the stockholders, whichever is earlier. No awards may be granted under the Long-Term Incentive Plan after the termination of the Long-Term Incentive Plan although options and stock awards granted before the termination will continue to be administered under the terms of the Long-Term Incentive Plan under the options or stock awards terminated or are exercised. The board of directors may amend or terminate the Long-Term Incentive Plan at any time, but an amendment will not become effective without the approval of our stockholders (within 12 months of the date such amendment is adopted by the board of directors) if it increases the aggregate number of shares of common stock that may be issued under the Long-Term Incentive Plan, changes the class of employees eligible to receive incentive stock options or stockholder approval is required by any applicable law, regulation or rule, including any rule of the American Stock Exchange. No amendment or termination of the Long-Term Incentive Plan will affect a participant’s rights under outstanding awards without the participant’s consent. The Long-Term Incentive Plan has been established as an unfunded plan. We are not required to segregate any of our assets under the Long-Term Incentive Plan.

To date, none of our executive officers or directors has been granted options to purchase shares of our common stock or shares of restricted stock under the Long-Term Incentive Plan or otherwise and no executive officer has received any stock award, deferred shares, performance shares or performance units.

Upon completion of this offering, 4,000 shares of restricted stock will be granted to our non-employee independent directors (1,000 shares to each of Messrs. Beatty, Stein, Carey and General Zinni) as described under “Management — Director Compensation.”

INVESTMENT POLICIES AND POLICIES WITH RESPECT TO CERTAIN ACTIVITIES

The following is a discussion of our investment policies and our policies with respect to certain other activities, including financing matters and conflicts of interest. These policies may be amended or revised from time to time at the discretion of our board of directors, without a vote of our stockholders. Any change to any of these policies by our board of directors, however, would be made only after a thorough review and analysis of that change, in light of then-existing business and other circumstances, and then only if, in the exercise of its business judgment, our board of directors believes that it is advisable to do so in our and our stockholders’ best interests. We cannot assure you that our investment objectives will be attained.

Investments in Real Estate or Interests in Real Estate

We plan to invest principally in hotel properties. Our senior executive officers will identify and negotiate acquisition opportunities, subject to approval by our board of directors. For information concerning the investing experience of our senior executive officers, please see the sections entitled “Our Business and Properties - Our Team” and “Management” in this prospectus.

We intend to conduct substantially all of our investment activities through our operating partnership and its subsidiaries. Our primary investment objectives are to enhance stockholder value over time by improving the operating results of our initial properties and by identifying, acquiring and repositioning additional hotel properties that we expect to generate enhanced revenue, improved cash flow performance and long-term appreciation.

There are no limitations on the amount or percentage of our total assets that may be invested in any one property. Additionally, no limits have been set on the concentration of investments in any one location or facility type. Our policy is to acquire assets primarily for income and long-term appreciation.

Additional criteria with respect to our hotel investments are described in the section entitled “Our Business and Properties — Our Strategy” in this prospectus.

Investments in Mortgages, Structured Financings and Other Lending Policies

We have no current intention of investing in loans secured by properties or making loans to persons. However, we do not have a policy limiting our ability to invest in loans secured by properties or to make loans to other persons. We may consider offering purchase money financing in connection with the sale of properties where the provision of that financing will increase the value to be received by us for the property sold. We may make loans to joint ventures in which we may participate in the future. However, we do not intend to engage in significant lending activities.

Investments in Securities of or Interests in Persons Primarily Engaged in Real Estate Activities and Other Issuers

Generally, we do not expect to engage in any significant investment activities with other entities, although we may consider joint venture investments with other investors. We may also invest in securities of other issuers in connection with acquisitions of indirect interests in properties, which we expect will typically be general or limited partnership interests in special purpose partnerships owning properties. We may in the future acquire some, all or substantially all of the securities or assets of other REITs or similar entities where that investment would be consistent with our investment policies and the REIT qualification requirements. There are no limitations on the amount or percentage of our total assets that may be invested in any one issuer, other than those imposed by the gross income and asset tests that we must satisfy to qualify as a REIT. However, we do not anticipate investing in other issuers of securities for the purpose of exercising control or acquiring any investments primarily for sale in the ordinary course of business or holding any investments with a view to

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making short-term profits from their sale. In any event, we do not intend that our investments in securities will require us to register as an “investment company” under the Investment Company Act of 1940, as amended, and we intend to divest securities before any registration would be required.

We do not intend to engage in trading, underwriting, agency distribution or sales of securities of other issuers.

Disposition Policy

Although we have no current plans to dispose of properties within our portfolio, we will consider doing so, subject to REIT qualification and prohibited transaction rules, if our management determines that a sale of a property would be in our best interests based on the price being offered for the property, the operating performance of the property, the tax consequences of the sale and other factors and circumstances surrounding the proposed sale. For a discussion of the implications of disposing of certain of our initial properties, see the section entitled “Risk Factors — Risks Related to Our Business and Properties” in this prospectus.

Financing Policies

We will seek to maintain aggregate target debt levels of 45-55% of total assets. Upon completion of the offering and the related formation transactions, we will have $25.8 million in debt (representing approximately 26.9% of pro forma total assets as of September 30, 2004) on two of our initial hotels. We intend to obtain a $23.0 million revolving credit facility secured by first mortgages on two of our initial hotel properties following completion of the offering. We expect the credit facility to be available for general corporate purposes, including the following:

•

funding of investments;

•

funding of hotel renovations and improvements;

•

payment of distributions to stockholders;

•

working capital needs; or

•

any other payments deemed necessary or desirable by senior management and approved by the lender.

Going forward, we will consider a number of factors when evaluating our level of indebtedness and making financial decisions, including, among others, the following:

•

the interest rate of the proposed financing;

•

prepayment penalties and restrictions on refinancing;

•

the purchase price of properties we acquire with debt financing;

•

our long-term objectives with respect to the financing;

•

our target investment returns;

•

the ability of particular properties, and our company as a whole, to generate cash flow sufficient to cover expected debt service payments;

•

overall level of consolidated indebtedness;

•

timing of debt and lease maturities;

•

provisions that require recourse and cross-collateralization;

•

corporate credit ratios including debt service coverage, debt to total market capitalization and debt to undepreciated assets; and

•

the overall ratio of fixed- and variable-rate debt.

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Equity Capital Policies

Subject to applicable law and the requirements for listed companies on the AMEX, our board of directors has the authority, without further stockholder approval, to issue additional authorized common stock and preferred stock or otherwise raise capital, including through the issuance of senior securities, in any manner and on the terms and for the consideration it deems appropriate, including in exchange for property. Existing stockholders will have no preemptive right to additional stock issued in any offering, and any offering might cause a dilution of investment. We may in the future issue common stock or preferred stock in connection with acquisitions. We also may issue units in connection with acquisitions of property.

Our board of directors may authorize the issuance of preferred stock with terms and conditions that could have the effect of delaying, deterring or preventing a transaction or a change in control in us that might involve a premium price for holders of our common stock or otherwise might be in their best interests. Additionally, preferred stock could have distribution, voting, liquidation and other rights and preferences that are senior to those of our common stock.

We may, under certain circumstances, purchase common stock in the open market or in private transactions with our stockholders, if those purchases are approved by our board of directors. Our board of directors has no present intention of causing us to repurchase any stock, and any action would only be taken in conformity with applicable federal and state laws and the applicable requirements for qualifying as a REIT.

In the future, we may institute a dividend reinvestment plan, or DRIP, which would allow our stockholders to acquire additional common stock by automatically reinvesting their cash dividends. Stock would be acquired pursuant to the plan based on then prevailing market price, without payment of brokerage commissions or service charges. Stockholders who do not participate in the plan will continue to receive cash distributions as declared.

Conflicts of Interest Policy

Our current board of directors consists of Andrew Sims. Accordingly, the transactions and agreements in connection with the formation of our company prior to the offering have not been approved by any independent directors.

MHI Hotels Services is owned and controlled by members of the Sims family, Andrew, Kim and Christopher Sims, along with William Zaiser and Steve Smith. Andrew Sims is our chairman, president and chief executive officer, and William Zaiser is our executive vice president and chief financial officer. Kim and Christopher Sims will serve on our board of directors. Steve Smith is the executive vice president of MHI Hotels Services. As a result, our strategic alliance and hotel management agreements with MHI Hotels Services as well as certain agreements entered into in connection with the formation transactions, including tax indemnity provisions in connection with the contributions of our initial properties, have not been approved by any independent directors and may not represent the results of arm’s-length negotiation between disinterested or independent parties. Several of these agreements will continue to affect our business and results of operations following consummation of this offering and the formation transactions and for the foreseeable future. See “Risk Factors – Risks Related to Our Business and Properties” and “Certain Relationships and Related Party Transactions.”

Our bylaws require that certain transactions between us and any of our directors, officers or employees must be approved by a majority of our disinterested directors. Effective upon completion of this offering, we intend to adopt policies to reduce potential conflicts of interest in accordance with our bylaws. However, we cannot assure you that these policies will be successful in eliminating the influence of these conflicts. See “Risk Factors – Risk Related to Our Business and Properties.” Neither our charter or bylaws, nor any of our policies, restrict any of our directors, officers, stockholders or affiliates from conducting, for their own account, or on behalf of others, business activities of the type we conduct. Pursuant to employment agreements entered into with our Chief Executive Officer and Chief Financial Officer, such individuals have agreed not to solicit certain of our employees or engage in certain competitive activities with us.

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The Maryland General Corporation Law, or MGCL, provides that a contract or other transaction between a corporation and any of that corporation’s directors or any other entity in which that director is also a director or has a material financial interest is not void or voidable solely on the grounds of the common directorship or interest, the fact that the director was present at the meeting at which the contract or transaction is approved or the fact that the director’s vote was counted in favor of the contract or transaction, if:

•

the fact of the common directorship or interest is disclosed to the board or a committee of the board, and the board or that committee authorizes the contract or transaction by the affirmative vote of a majority of the disinterested directors, even if the disinterested directors constitute less than a quorum;

•

the fact of the common directorship or interest is disclosed to stockholders entitled to vote on the contract or transaction, and the contract or transaction is approved by a majority of the votes cast by the stockholders entitled to vote on the matter, other than votes of stock owned of record or beneficially by the interested director, corporation, firm or other entity; or

•

the contract or transaction is fair and reasonable to the corporation.

Reporting Policies

Generally, we intend to make available to our stockholders audited annual financial statements and annual reports. After the offering, we will become subject to the information reporting requirements of the Securities Exchange Act of 1934, as amended. Pursuant to these requirements, we will file periodic reports, proxy statements and other information, including audited financial statements, with the SEC.

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PRINCIPAL STOCKHOLDERS

Unless otherwise noted below, the following table sets forth the total number of units which may be redeemed for shares of our common stock and will be beneficially owned immediately following the completion of this offering and the formation transactions by each person or group known to us to be holding more than 5% of our common stock, for each person who will become a director upon completion of the offering, each executive officer and for our directors and executive officers as a group assuming the issuance of common stock upon exercise of redemption rights with respect to the units. To our knowledge, each person that beneficially owns our shares has sole voting and dispositive power with regard to such shares, unless otherwise noted in the footnotes in the following table. The number of shares shown represents the number of shares of common stock the person “beneficially owns,” as determined by the rules of the SEC, including the number of shares that may be issued upon redemption of units. As of the date of this prospectus, 100 shares of our common stock were issued and outstanding. All of these shares of common stock were held by Andrew Sims. These shares will be cancelled upon completion of the offering. We are the sole general partner of the operating partnership. After one year, the operating partnership is generally obligated to redeem each unit at the request of the holder thereof for the cash value of one share of common stock or, at our option, one share of common stock. Holders of units may not exercise such redemption rights prior to the one-year anniversary of the issuance of the units without the prior approval of our board of directors.


Name of Beneficial Owner	Number of Shares Beneficially Owned ⁽¹⁾⁽²⁾		Percent of Class ⁽¹⁾⁽³⁾
Andrew Sims	639,556		9.6	%
William Zaiser	162,614		2.6	%
Kim Sims	639,555		9.6	%
Christopher Sims	639,555		9.6	%
J. Paul Carey	1,000	⁽⁴⁾	*
David J. Beatty	1,000	⁽⁴⁾	*
General Anthony C. Zinni (USMC Ret.)	1,000	⁽⁴⁾	*
Edward Stein	334,099	⁽⁵⁾	5.3	%
Elpizo Limited Partnership ⁽⁶⁾	732,254		10.9	%
Wilmington Hotel Associates Corp ⁽⁷⁾	377,903		5.9	%
All executive officers and directors as a group (7 persons)	2,417,380		28.7	%

*	Represents less than 1% of the number of shares of common stock and units upon completion of the offering and formation transactions.

⁽¹⁾	Assumes that the units are redeemed for common stock.

⁽²⁾	Except as otherwise noted, represents the number of units prior to completion of the offering held by each person.

⁽³⁾	Assumes that all units held by such person or group of persons are redeemed for common stock. The total number of shares outstanding used in calculating the percentage assumes that none of the units held by other persons are redeemed for common stock.

⁽⁴⁾	Represents shares of restricted stock.

⁽⁵⁾	Represents 1,000 shares of restricted common stock and 333,099 units held by the Krichman Trusts of which Edward Stein is a Trustee.

⁽⁶⁾	Elpizo Limited Partnership is indirectly controlled by members of the Cheong Family, including Kee Cheok Cheong, Kee Fong Cheong, Kee Seong Cheong, Kee Lai Cheong, and Kee Soon Cheong.

⁽⁷⁾	Jeanette Sims, the mother of Andrew, Kim and Christopher Sims, is the sole stockholder of Wilmington Hotel Associates Corp.

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SHARES AVAILABLE FOR FUTURE SALE

General

Upon the completion of this offering, we will have 6,004,000 shares of common stock outstanding and 3,817,036 shares of common stock reserved for issuance upon redemption of units, or “redemption shares.” Our common stock issued in this offering will be freely tradable by persons other than our affiliates, subject to certain limitations on ownership set forth in our governing documents. See the section entitled “Description of Common Stock-Restrictions on Ownership and Transfer” in this prospectus.

Redemption Rights

Pursuant to the partnership agreement of our operating partnership, the individuals that own the units will have the right to cause the partnership to redeem their units. When a limited partner exercises this right, the partnership must redeem the units in exchange for cash or, at our option, shares of common stock, on a one-for-one basis. These redemption rights generally may be exercised by the limited partners at any time after one year following the issuance of the units. See “Partnership Agreement - Redemption Rights.” Any amendment to the partnership agreement that would affect these redemption rights would require our consent as general partner and the consent of limited partners holding more than 50% of the units held by limited partners (excluding us).

Rule 144

Unless registered by us prior to issuance, all of the redemption shares, if and when issued, will be “restricted” securities under the meaning of Rule 144 of the Securities Act of 1933. These shares may not be sold in the absence of registration under the Securities Act unless an exemption from registration is available, including exemptions contained in Rule 144.

In general, under Rule 144 as currently in effect, if one year has elapsed since the date of acquisition of restricted shares from us or any of our affiliates, the holder of such restricted shares can sell such shares; provided that the number of shares sold by such person within any three-month period cannot exceed the greater of:

•

1% of the total number of shares of our common stock then outstanding; or

•

the average weekly trading volume of our common stock during the four calendar weeks preceding the date on which notice of the sale is filed with the SEC.

Sales under Rule 144 also are subject to certain manner of sale provisions, notice requirements and the availability of current public information about us. If two years have elapsed since the date of acquisition of restricted shares from us or any of our affiliates and the holder is not one of our affiliates at any time during the three months preceding the proposed sale, such person can sell such shares in the public market under Rule 144(k) without regard to the volume limitations, manner of sale provisions, public information requirements or notice requirements.

Registration Rights

Provided that we are then eligible to use Form S-3, we have agreed to file a shelf registration statement with the SEC on or about the first anniversary of the closing of this offering, and thereafter to use our best efforts to have the registration statement declared effective, covering the continuous resale of the 3,817,036 shares of common stock issuable to our limited partners upon redemption of units issued in the formation transactions. Upon effectiveness of any such registration statement, those persons may sell such shares covered by the registration statement in the secondary market. We will bear expenses incident to the registration requirements other than any selling commissions, SEC or state securities registration fees, and transfer taxes or certain other fees or taxes relating to such shares.

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Registration rights may be granted to future sellers of properties to our operating partnership who may receive, in lieu of cash, common stock, units or other securities convertible into common stock.

Prior to this offering, there has been no public market for our common stock. We have applied to list the shares of our common stock on the AMEX under the trading symbol “MDH.” No prediction can be made as to the effect, if any, that future sales of shares, or the availability of shares for future sale, will have on the market price prevailing from time to time. Sales of substantial amounts of common stock, or the perception that such sales could occur, may affect adversely prevailing market prices of the common stock.

Lock-up Agreements

For a description of certain restrictions on transfers of our common stock held by certain of our stockholders, see the section entitled “Underwriting” in this prospectus.

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CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

MHI Hotels Services is owned and controlled by Andrew Sims (26.3%) our chairman and chief executive officer, Kim Sims (26.3%) and Christopher Sims (26.3%), two of our directors, William Zaiser (9.0%), our executive vice president and chief financial officer and Steve Smith (12.0%) the Executive Vice President of MHI Hotels Services. Our current directors, including Andrew, Kim and Christopher Sims, and our chief financial officer, William Zaiser, are currently officers and employees of MHI Hotels Services. Andrew, Kim and Christopher Sims and William Zaiser are also directors of MHI Hotels Services. MHI Hotels Services currently owns, with certain affiliates, directly or indirectly, a 70.1% interest in the entity that owns the Holiday Inn Downtown Williamsburg and the Hilton Wilmington Riverside, a 50% interest in the entity that owns the Holiday Inn Brownstone, and an 80% interest in the entity that owns the Hilton Savannah DeSoto. These officers and directors will receive, directly and indirectly, units in connection with the acquisition of four of our initial properties. Edgar Sims, the father of Andrew, Kim and Christopher Sims, has a 100% interest in a holding company that owns a 25% interest in the Maryland Inn. Jeanette Sims, the mother of Andrew, Kim and Christopher Sims, beneficially owns a 30% interest in the entity that owns the Holiday Inn Downtown Williamsburg and Hilton Wilmington Riverside hotels. In addition, we will acquire two space leases for the common areas of the Shell Island Resort, a condominium resort property located in Wrightsville Beach, North Carolina from MHI Hotels Two, Inc., and MHI Hotels LLC, affiliates of MHI Hotels Services. We will enter into an agreement with MHI Hotels Two, Inc. and MHI Hotels LLC for the assignment of such space leases to us for payments totaling $3.5 million. We will also pay MHI Hotels Services a $2.0 million cash fee in connection with the restructuring and amendment of certain existing management agreements. The units and other consideration in the formation transactions issuable to these persons are set forth in the table below. See also “Certain Relationships and Related Party Transactions – Other Benefits to Related Parties.”

The terms of the agreements and the valuation methods used to determine the value of the initial hotel properties and amounts to be paid in respect of the leasehold interest and restructuring of management agreements were determined by our management team who had conflicts of interest as described above. Because our agreements with MHI Hotels Services were not negotiated on an arm’s-length basis, they may be less favorable to us than we could have obtained from third parties. We did not obtain third-party appraisals of the initial hotel properties in connection with our acquisition of these properties and the consideration being paid by us in exchange for the initial properties may exceed the fair market value as determined by third-party appraisals.

The number of units we will issue in the formation transactions to our officers and directors and their affiliates is fixed. The contributing entities have no right under the contribution agreements to change their investment decision or to require us to deliver a greater number of units. The obligations of the contributing entities under the contribution agreements to transfer the initial hotel properties are conditioned upon completion of this offering, payment of the consideration described above and other customary conditions, including receipt of third party consents, approval of the franchisors, execution of indemnity agreements, the operating partnership agreement and assignment agreements. The contribution agreements relating to the Holiday Inn Brownstone and Hilton Philadelphia Airport also provide for the repayment of debt. The sale agreement relating to the Maryland Inn is conditioned upon the receipt of third party consents.

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The consideration to be received by each of our directors and officers and their affiliates and family members in the formation transactions is summarized in the following table.


Contributor	Operating Partnership Units ⁽¹⁾		Shares of Common Stock	Cash Payments		Value of Consideration
Andrew Sims	639,556	⁽²⁾	—	$	1,398,333	$	7,793,893
Kim Sims	639,555	⁽²⁾	—		1,398,333		7,793,883
Christopher Sims	639,555	⁽²⁾	—		1,398,333		7,793,883
William Zaiser	162,614		—		495,000		2,121,140
Edward Stein ⁽³⁾	333,099		1,000		—		3,340,990
Jeannette Sims ⁽⁴⁾	377,903		—		—		3,779,030
Edgar Sims, Jr. Irrevocable Trust ⁽⁵⁾	75,581		—		150,001		905,811
Edgar Sims, Jr. ⁽⁶⁾	—		—		500,000		500,000

Total	2,867,863		1,000	$	5,340,000	$	34,528,630

⁽¹⁾	MHI Hotels Services will receive 1,806,826 units for contribution of its equity interests in Capitol Hotel Associates LP, LLP, Savannah Hotel Associates LLC and Brownestone Partners LLC.

⁽²⁾

The units reflect 1,427,392 units issued to MHI Hotels Services for its equity contributions in our initial properties which will be equally allocated to Andrew, Kim and Christopher Sims. In addition, each of Andrew, Kim and Christopher Sims will receive approximately 163,908 units, or 491,274 units in the aggregate, for their 39% interest in Capitol Hotel Associates, the entity that owns the Hilton Wilmington Riverside and the Holiday Inn Downtown Williamsburg.

⁽³⁾	Director Edward Stein is the trustee of the Krichman Trusts which own a 20% interest in Savannah Hotel Associates, LLC, the entity that owns the Hilton Savannah DeSoto.

⁽⁴⁾

Jeannette Sims is the mother of Andrew, Kim and Christopher Sims. Jeannette Sims owns all of the outstanding stock of Wilmington Hotel Associates Corp., the entity that owns a 30% interest in Capitol Hotel Associates, LP, LLP the owner of the Holiday Inn Downtown Williamsburg and the Hilton Wilmington Riverside.

⁽⁵⁾	Edgar Sims, Jr. Irrevocable Trust owns a 6% interest in Capitol Hotel Associates LP, LLP.

⁽⁶⁾	Edgar Sims is the father of Andrew, Kim and Christopher Sims. Edgar Sims has a beneficial ownership interest in the entities that own the Maryland Inn.

With respect to all of our initial hotels, we have agreed to indemnify the contributors for a certain amount of the tax liability they incur if, during the 10-year period following the completion of this offering, we (i) directly or indirectly sell, exchange or otherwise dispose of the properties contributed under such agreement in a taxable transaction before the tenth anniversary of the completion of this offering or, in certain cases, (ii) fail to use commercially reasonable efforts to make available to these contributors and their permitted transferees and persons taxable on the income of a contributor or permitted transferee opportunities to guarantee specified amounts of liabilities of our operating partnership to defer such guarantors’ tax liabilities. The amount that we will indemnify the contributors is based on a sliding scale percentage during the 10-year period. Specifically, we will indemnify the contributors for 100% of their tax liability during the first five years after contribution, 50% during the sixth year, 40% during the seventh year, 30% during the eighth year, 20% during the ninth year and 10% during the tenth year. Such indemnification obligations could result in aggregate payments of up to approximately $46.0 million. For example, in the case of a taxable disposition of one of the initial hotels within five years of its contribution, we would have to indemnify the contributors for 100% of the tax on the gain allocable to them under Section 704(c) of the Internal Revenue Code and for the tax on indemnification payments. While the tax indemnities do not contractually limit our ability to conduct our business in the way we desire, we are less likely to sell any of the contributed properties in a taxable transaction during the protected period because of the significant tax liability we would have to the contributors. Instead, we would either hold the property for the entire protected period, or at least the first five years, or seek to transfer the property in a tax-deferred like-kind exchange. The indemnification obligations terminate on the tenth anniversary of the contribution.

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We expect to use the net proceeds from the offering, in part, to repay $9.8 million of outstanding mortgage debt which was guaranteed by MHI Hotels LLC, Andrew Sims, Kim Sims and Christopher Sims.

Additionally, MHI Hotels Services will be the hotel manager for our six initial hotels, and will benefit from the payment of management fees by us pursuant to our management agreement. MHI Hotels Services will receive a base management fee equal to a percentage of the hotel’s revenues (2.0% for the first year, 2.5% for the second year and 3.0% thereafter) and an incentive fee equal to 10% of the amount by which gross operating profit of the hotels on an aggregate basis for a given year exceeds gross operating profits for the same hotels, on an aggregate basis, for a prior year, subject to a maximum amount of 0.25% of the aggregate gross revenue of the hotels. Assuming this management agreement had been in place during the twelve-months ended December 31, 2003, MHI Hotels Services would have received $0.9 million in base management fees for the six initial hotels. See the section entitled “Our Principal Agreements - Our Management Agreement” in this prospectus.

Upon completion of the offering, Andrew Sims and William Zaiser will resign as officers of MHI Hotels Services and become full-time employees of our company. Andrew Sims will continue as our president, chief executive officer and chairman of the board and William Zaiser will continue as our executive vice president, chief financial officer and treasurer. We will issue 1,000 shares of restricted stock to each of our independent directors. Although distributions will be paid on all restricted stock, whether or not vested, at the same rate and on the same date as on shares of our common stock, these holders will be prohibited from selling such shares until they vest. All of the shares of restricted stock will vest on the first anniversary of the date of grant.

In addition to the foregoing relationships and related party transactions, one of our director nominees, Edward Stein, is the founding partner of Weinberg and Stein, a law firm in Norfolk, Virginia that has provided legal services to MHI Hotels Services during the last fiscal year and will continue to provide legal services during the current fiscal year. Edward Stein also serves as trustee of the Krichman Revocable and Charitable Trusts, which have a 20% ownership interest in Savannah Hotel Associates LLC.

We have also entered into a strategic alliance agreement with MHI Hotels Services regarding lodging investment opportunities identified in the future during the term of the agreement. See “Our Principal Agreements – Our Strategic Alliance Agreement” in this prospectus.

Other Benefits to Related Parties

The following table summarizes consideration to be received by our affiliates in connection with the formation transactions at an assumed offering price of $10.00 per share.


Transaction	Affiliated Party	Consideration
Contribution of initial hotels	MHI Hotels Services, an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims, and 9.0% owned by William Zaiser	$18.1 million which represents the aggregate value of the units issuable to MHI Hotels Services in connection with the contribution of its 80.0% interest in Savannah Hotel Associates LLC (1,332,395 units having a value of approximately $13.3 million), its 25.0% interest in Capitol Hotel Associates LP, LLP (314,919 units having a value of approximately $3.1 million) and its 50% ownership interest in Brownestone Partners LLC (159,512 units having a value of $1.6 million issuable to KDCA Partnership which is 100% owned by MHI Hotels Services and its affiliates), and $1.0 million in cash, which will be used to repay a $1.0 million construction loan.

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Transaction	Affiliated Party	Consideration

	MHI Hotels LLC, an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims, and 9.0% owned by William Zaiser	$3.0 million in cash in consideration for the assignment of the common area lease at the Shell Island resort property.

	MHI Hotels Two, Inc., an aggregate of 79.0% of which is owned in equal parts by each of Andrew, Kim and Christopher Sims and 9.0% owned by William Zaiser	$500,000 in cash in consideration for the assignment of the restaurant lease at the Shell Island resort property.

	Edgar Sims, Jr. Irrevocable Trust Andrew, Kim and Christopher Sims, Trustees for the benefit of Edgar Sims’ grandchildren	$0.8 million, which represents the aggregate value of the 75,581 units issuable to the Edgar Sims, Jr. Irrevocable Trust in connection with the contribution of the 6.0% equity interests of Capitol Hotel Associates LP, LLP, held by such trust. Edgar Sims, Jr. is the father of Andrew, Kim and Christopher Sims.

	Laurel Holdings LLC (owned by Edgar Sims, Jr.)	Approximately $500,000 cash for its 25% interest in Accord LLC and West Laurel Corp., the entities that own the Maryland Inn.

	Andrew Sims, Kim Sims and Christopher Sims	$4.9 million, which represents the aggregate value of 491,274 units issuable in connection with the contribution of the 38.7% equity interests of Capitol Hotel Associates LP, LLP (each of Andrew, Kim and Christopher Sims have a 12.9% interest in Capitol Hotel Associates, LP, LLP).

	Krichman Trusts (Edward Stein, Trustee)	$3.3 million, which represents the aggregate value of 333,099 units issuable to the Krichman Trusts in connection with their contribution of their 20% ownership interest in Savannah Hotel Associates LLC. Edward Stein, who will serve as a member of our board of directors following completion of the offering, is the Trustee of the Trusts.

	Wilmington Hotel Associates Corp. and Jeanette Sims (100% owned by Jeanette Sims)	$3.8 million, which represents the aggregate value of 377,903 units issuable to Wilmington Hotel Associates Corp. in connection with contribution of its 30.0% ownership interest in Capitol Hotel Associates LP, LLP. Jeanette Sims, the mother of Andrew, Kim and Christopher Sims, is the sole stockholder of Wilmington Hotel Associates Corp.

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Transaction	Affiliated Party	Consideration

Restructuring of Management Agreements	MHI Hotels Services	$2.0 million in cash in consideration of the restructuring of the management agreements relating to five of our initial hotel properties. In connection with the restructuring, the company is consolidating the former management agreements into one agreement and reducing the management fees.

Repayment of offering expenses	MHI Hotels Services	Approximately $1.5 million in cash.

Repayment of Indebtedness/ Release of Guaranty	MHI Hotels Services, Andrew Sims, Kim Sims and Christopher Sims	MHI Hotels Services, Andrew, Kim and Christopher Sims will be released from their guarantees of $9.8 million of debt with respect to two initial
		properties being contributed by entities partially owned by MHI Hotels Services which debt will be repaid with offering proceeds. Mortgage loans on the Holiday Inn Downtown Williamsburg and the Holiday Inn Brownstone, in the aggregate amount of $7.8 million, are guaranteed by MHI Hotels, LLC, Andrew Sims, Kim Sims and Christopher Sims. The construction lines of credit related to Brownestone Partners LLC in the aggregate amount of $2.0 million are guaranteed by MHI Hotels Services, LLC, Andrew Sims, Kim Sims and Christopher Sims.

Management Agreement	MHI Hotels Services	Monthly base management fee of 2.0% for the first year, 2.5% for the second year, and 3.0% thereafter of all gross revenues for the hotels managed by MHI Hotels Services plus an annual incentive management fee in an amount equal to 10% of the annual year over year increase in consolidated net operating income not to exceed 0.25% of gross hotel revenues.

Strategic Alliance Agreement	MHI Hotels Services	During the 10-year term of the strategic alliance agreement, unless a majority of our independent directors in good faith concludes for valid business reasons that another management company should manage a hotel owned by us, we have agreed to offer MHI Hotels Services the right to manage hotel properties we acquire, subject to certain exceptions. MHI Hotels Services has agreed to refer to us on an exclusive basis, any hotel

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Transaction	Affiliated Party	Consideration
		investment opportunity presented to it, subject to certain exceptions. For so long as Andrew, Kim and Christopher Sims own 1.5 million units or shares, MHI Hotels Services will have the right to nominate a director.

Employment Agreements	Andrew Sims, William Zaiser	Messrs. Sims and Zaiser will enter into five-year employment agreements with us that provide, in addition to other benefits, upon a change of control, or termination without cause, severance benefits equal to five times the executive’s combined base salary and bonus compensation for the preceding fiscal year, plus reimbursement for taxes on all excess parachute amounts. We must also nominate Mr. Sims to serve on our board subject to the determination of our nominating, corporate governance and compensation committee, otherwise we must pay Mr. Sims the change of control payment described above. See “Management—Employment Agreements.”

Tax Indemnification	Andrew, Kim and Christopher Sims, Wilmington Hotel Associates Corp. (Jeanette Sims), Krichman Trusts (Edward Stein), Edgar Sims, Jr. irrevocable Trust, William J. Zaiser	If we sell, during the 10-year period following the closing of the acquisition of the initial hotels, the five initial hotels contributed to us in exchange for units in a taxable transaction, we would be required to indemnify the contributors for their tax liability plus a gross up amount. Such indemnification obligations could aggregate approximately $46.0 million.

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DESCRIPTION OF COMMON STOCK

The following summary of the terms of our common stock does not purport to be complete and is subject to and qualified in its entirety by reference to our charter and bylaws, copies of which are exhibits to the registration statement of which this prospectus is a part. See “Where You Can Find More Information.”

General

Our amended and restated charter provides that we may issue up to 49,000,000 shares of common stock, $0.01 par value per share, and 1,000,000 shares of preferred stock, $0.01 par value per share. Upon completion of the offering and the related formation transactions, 6,000,000 shares of common stock will be issued and outstanding and no preferred stock will be issued and outstanding. Additionally, 4,000 shares of restricted common stock have been reserved for issuance upon completion of the offering under our 2004 Stock Incentive Plan. As permitted by the Maryland General Corporation Law, our charter contains a provision permitting our board of directors, without any action by our stockholders, to amend the charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have authority to issue.

Voting Rights of Common Stock

Subject to the provisions of our charter regarding the restrictions on the transfer and ownership of shares of common stock, each outstanding share of common stock entitles the holder to one vote on all matters submitted to a vote of stockholders, including the election of directors, and, except as may be provided with respect to any other subsequently issued class or series of common stock, the holders of such common stock possess the exclusive voting power. There is no cumulative voting in the election of directors, which means that the holders of a majority of the outstanding common stock, voting as a single class, can elect all of the directors and the holders of the remaining stock are not able to elect any directors.

Distributions, Liquidation and Other Rights

All common stock offered by this prospectus will be duly authorized, fully paid and nonassessable. Holders of our common stock are entitled to receive distributions when authorized by our board of directors out of assets legally available for the payment of distributions. They also are entitled to share ratably in our assets legally available for distribution to our stockholders in the event of our liquidation, dissolution or winding up, after payment of or adequate provision for all of our known debts and liabilities. These rights are subject to the preferential rights of any other class or series of our stock and to the provisions of our charter regarding restrictions on transfer of our stock.

Holders of our common stock have no preference, conversion, exchange, sinking fund, redemption or appraisal rights and have no preemptive rights to subscribe for any of our securities. Subject to the restrictions on transfer of stock contained in our charter, all common stock will have equal distribution, liquidation and other rights.

Power to Reclassify Stock

Our charter authorizes our board of directors to classify any unissued preferred stock and to reclassify any previously classified but unissued common stock and preferred stock of any series from time to time in one or more classes or series, as authorized by the board of directors. Prior to issuance of stock of each class or series, the board of directors is required by the MGCL and our charter to set for each such class or series, subject to the provisions of our charter regarding the restriction on transfer of common stock, the terms, preferences, conversion or other rights, voting powers, restrictions, limitations as to dividends or other distributions, qualifications and terms or conditions of redemption for each such class or series. Thus, our board of directors

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could authorize the issuance of preferred stock with priority over the common stock with respect to distributions and rights upon liquidation and with other terms and conditions which could have the effect of delaying, deferring or preventing a transaction or a change in control of our company that might involve a premium price for holders of common stock or otherwise might be in their best interest. As of the date hereof, no shares of preferred stock are outstanding and we have no current plans to issue any preferred stock.

Power to Issue Additional Common Stock and Preferred Stock

We believe that the power to issue additional common stock or preferred stock and to classify or reclassify unissued common stock or preferred stock and thereafter to issue the classified or reclassified stock provides us with increased flexibility in structuring possible future financings and acquisitions and in meeting other needs which might arise. These actions can be taken without stockholder approval, unless stockholder approval is required by applicable law or the rules of any stock exchange or automated quotation system on which our securities may be listed or traded. Although we have no current intention of doing so, we could issue a class or series of stock that could delay, defer or prevent a transaction or a change in control that might involve a premium price for holders of common stock or otherwise be in their best interest.

Restrictions on Ownership and Transfer

For us to qualify as a REIT under the Code, our shares of stock must be beneficially owned by 100 or more persons during at least 335 days of a taxable year of 12 months (other than the first year for which an election to be a REIT has been made) or during a proportionate part of a shorter taxable year. Also, not more than 50% of the value of the outstanding shares of stock may be owned, directly or indirectly, by five or fewer individuals (as defined in the Code to include certain entities) during the last half of a taxable year (other than the first year for which an election to be a REIT has been made).

Because our board of directors believes it is essential at present for us to qualify as a REIT, the charter, subject to certain exceptions, contains restrictions on the number of our shares of stock that a person may own. Our charter provides that no person may own, or be deemed to own by virtue of the attribution provisions of the Code, more than 9.9% (the “Aggregate Stock Ownership Limit”) in value of our outstanding shares of stock. In addition, the charter prohibits any person from acquiring or holding, directly or indirectly, shares of common stock in excess of 9.9% of the number of our outstanding shares of common stock (the “Common Stock Ownership Limit”).

Our charter prohibits (a) any person from beneficially or constructively owning our shares of stock that would result in us being “closely held” under Section 856(h) of the Code, (b) any person from transferring our shares of stock if such transfer would result in our shares of stock being owned by fewer than 100 persons, (c) any transfer that would cause us to own, directly or indirectly, 10% or more of the ownership interests in a tenant of our company (or a tenant of any entity owned or controlled by us) other than a taxable REIT subsidiary if the requirements of Section 856(d)(8)(B) of the Code are satisfied and (d) any transfer that would cause any of our hotel management companies to fail to qualify as an “eligible independent contractor” within the meaning of Section 856(d)(9) of the Code. Any person who acquires or attempts or intends to acquire beneficial or constructive ownership of our shares of stock that will or may violate any of the foregoing restrictions on transferability and ownership, or any person who would have owned our shares of stock that resulted in a transfer of shares to the Charitable Trust (as defined below), is required to give written notice immediately to us, or in the case of a proposed or attempted transaction, to give at least 15 days’ prior written notice, and provide us with such other information as we may request in order to determine the effect of such transfer on our status as a REIT. The foregoing restrictions on transferability and ownership will not apply if our board of directors determines that it is no longer in our best interests to attempt to qualify, or to continue to qualify, as a REIT.

Furthermore, our board of directors, in its sole discretion, may exempt a proposed transferee from the Aggregate Stock Ownership Limit, the Common Stock Ownership Limit and/or any of the restrictions described

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in the first sentence of the paragraph directly above (an “Excepted Holder”). However, the board of directors may not grant such an exemption to any person if such exemption would result in our failing to qualify as a REIT. Our board of directors may require a ruling from the Internal Revenue Service or an opinion of counsel, in either case in form and substance satisfactory to the board of directors, in its sole discretion, in order to determine or ensure our status as a REIT.

If any transfer of our shares of stock occurs which, if effective, would result in any person beneficially or constructively owning shares of stock in excess or in violation of the above transfer or ownership limitations (a “Prohibited Owner”), then that number of shares of stock the beneficial or constructive ownership of which otherwise would cause such person to violate such limitations (rounded to the nearest whole share) shall be automatically transferred to a trust (the “Charitable Trust”) for the exclusive benefit of one or more charitable beneficiaries (the “Charitable Beneficiary”), and the Prohibited Owner shall not acquire any rights in such shares. Such automatic transfer shall be deemed to be effective as of the close of business on the Business Day (as defined in the charter) prior to the date of such violative transfer. If any automatic transfer to the Charitable Trust is not effective, then the initial transfer of stock will be void ab initio to the extent necessary to prevent a violation of the above transfer or ownership limitations. Shares of stock held in the Charitable Trust shall be issued and outstanding shares of stock. The Prohibited Owner shall not benefit economically from ownership of any shares of stock held in the Charitable Trust, shall have no rights to dividends or other distributions and shall not possess any rights to vote or other rights attributable to the shares of stock held in the Charitable Trust. The trustee of the Charitable Trust (the “Trustee”) shall have all voting rights and rights to dividends or other distributions with respect to shares of stock held in the Charitable Trust, which rights shall be exercised for the exclusive benefit of the Charitable Beneficiary. Any dividend or other distribution paid prior to our discovery that shares of stock have been transferred to the Trustee shall be paid by the recipient of such dividend or distribution to the Trustee upon demand, and any dividend or other distribution authorized but unpaid shall be paid when due to the Trustee. Any dividend or distribution so paid to the Trustee shall be held in trust for the Charitable Beneficiary. The Prohibited Owner shall have no voting rights with respect to shares of stock held in the Charitable Trust and, subject to Maryland law, effective as of the date that such shares of stock have been transferred to the Trustee, the Trustee shall have the authority (at the Trustee’s sole discretion) (i) to rescind as void any vote cast by a Prohibited Owner prior to our discovery that such shares have been transferred to the Trustee and (ii) to recast such vote in accordance with the desires of the Trustee acting for the benefit of the Charitable Beneficiary. However, if we have already taken irreversible corporate action, then the Trustee shall not have the authority to rescind and recast such vote.

Within 20 days of receiving notice from us that shares of stock have been transferred to the Charitable Trust, the Trustee shall sell the shares of stock held in the Charitable Trust to a person, designated by the Trustee, whose ownership of the shares will not violate the ownership limitations set forth in the charter. Upon such sale, the interest of the Charitable Beneficiary in the shares sold shall terminate and the Trustee shall distribute the net proceeds of the sale to the Prohibited Owner and to the Charitable Beneficiary as follows: The Prohibited Owner shall receive the lesser of (i) the price paid by the Prohibited Owner for the shares or, if the Prohibited Owner did not give value for the shares in connection with the event causing the shares to be held in the Charitable Trust ( e.g. , in the case of a gift, devise or other such transaction), the Market Price (as defined in the charter) of such shares on the day of the event causing the shares to be held in the Charitable Trust and (ii) the price per share received by the Trustee from the sale or other disposition of the shares held in the Charitable Trust. Any net sale proceeds in excess of the amount payable to the Prohibited Owner shall be paid immediately to the Charitable Beneficiary. If, prior to our discovery that shares of stock have been transferred to the Charitable Trust, such shares are sold by a Prohibited Owner, then (i) such shares shall be deemed to have been sold on behalf of the Charitable Trust and (ii) to the extent that the Prohibited Owner received an amount for such shares that exceeds the amount that such Prohibited Owner was entitled to receive pursuant to the aforementioned requirement, such excess shall be paid to the Trustee upon demand.

In addition, shares of stock held in the Charitable Trust shall be deemed to have been offered for sale to us, or our designee, at a price per share equal to the lesser of (i) the price per share in the transaction that resulted in

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such transfer to the Charitable Trust (or, in the case of a devise or gift, the Market Price at the time of such devise or gift) and (ii) the market price on the date we, or our designee, accepts such offer. We shall have the right to accept such offer until the Trustee has sold the shares of stock held in the Charitable Trust. Upon such a sale to us, the interest of the Charitable Beneficiary in the shares sold shall terminate and the Trustee shall distribute the net proceeds of the sale to the Prohibited Owner and any dividends or other distributions held by the Trustee shall be paid to the Charitable Beneficiary.

All certificates representing our shares of stock will bear a legend referring to the restrictions described above.

Every owner of more than 5% (or such lower percentages as required by the Code or the Treasury Regulations promulgated thereunder) of all classes or series of our shares of stock, including common stock, within 30 days after the end of each taxable year, is required to give written notice to us stating the name and address of such owner, the number of shares of each class and series of shares of stock which the owner beneficially owns and a description of the manner in which such shares are held. Each such owner shall provide to us such additional information as we may request in order to determine the effect, if any, of such beneficial ownership on our status as a REIT and to ensure compliance with the Aggregate Stock Ownership Limit and the Common Stock Ownership Limit. In addition, each stockholder shall upon demand be required to provide to us such information as we may request, in good faith, in order to determine our status as a REIT and to comply with the requirements of any taxing authority or governmental authority or to determine such compliance and to ensure compliance with the Aggregate Stock Ownership Limit and the Common Stock Ownership Limit.

These ownership limitations could delay, defer or prevent a transaction or a change in control that might involve a premium price for the common stock or otherwise be in the best interest of our stockholders.

Other Matters

The transfer agent and registrar for our common stock is American Stock Transfer & Trust Company.

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CERTAIN PROVISIONS OF MARYLAND LAW AND OF OUR CHARTER AND BYLAWS

The following description of certain provisions of Maryland law and of our charter and bylaws is only a summary. For a complete description, we refer you to Maryland law, our charter and our bylaws. We have filed our charter and bylaws as exhibits to the registration statement of which this prospectus is a part. See “Where You Can Find More Information.”

Our Board of Directors

Our bylaws provide that the number of our directors may be established by our board of directors. Upon completion of the offering, we will have seven directors. The board of directors may increase or decrease the number of directors by a vote of a majority of the members of our board of directors, provided that the number of directors shall never be less than the minimum number required by Maryland law and that the tenure of office of a director shall not be affected by any decrease in the number of directors. Except as may be provided by the board of directors in setting the terms of any class or series of preferred stock, any vacancy may be filled only by a majority of the remaining directors, even if the remaining directors do not constitute a quorum, or, if no directors remain, by our stockholders. Any director elected to fill a vacancy shall serve for the remainder of the full term in which the vacancy occurred and until a successor is elected and qualifies.

At each annual meeting of stockholders, the holders of the common stock may vote to elect all of the directors on the board of directors. Holders of common stock have no right to cumulative voting in the election of directors. Consequently, at each annual meeting of stockholders, the holders of a majority of the outstanding shares of common stock are able to elect all of the directors.

Removal of Directors

Our charter provides that a director may be removed, with or without cause, upon the affirmative vote of at least two-thirds of the votes entitled to be cast in the election of directors. Absent removal of all of our directors, this provision, when coupled with the exclusive power of our board of directors to fill vacant directorships, precludes stockholders from removing incumbent directors, except upon a substantial affirmative vote, and filling the vacancies created by such removal with their own nominees.

Business Combinations

Maryland law prohibits “business combinations” between us and an interested stockholder or an affiliate of an interested stockholder for five years after the most recent date on which the interested stockholder becomes an interested stockholder. These business combinations include a merger, consolidation, share exchange or, in circumstances specified in the statute, an asset transfer or issuance or reclassification of equity securities. Maryland law defines an interested stockholder as:

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any person who beneficially owns 10% or more of the voting power of our stock; or

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an affiliate or associate of ours who, at any time within the two-year period prior to the date in question, was the beneficial owner of 10% or more of the voting power of our then outstanding voting stock.

A person is not an interested stockholder if our board of directors approved in advance the transaction by which the person otherwise would have become an interested stockholder. However, in approving a transaction, our board of directors may provide that its approval is subject to compliance, at or after the time of approval, with any terms and conditions determined by our board of directors.

After the five-year prohibition, any business combination between us and an interested stockholder generally must be recommended by our board of directors and approved by the affirmative vote of at least:

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80% of the votes entitled to be cast by holders of our then outstanding shares of voting stock; and

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•

two-thirds of the votes entitled to be cast by holders of our voting stock other than stock held by the interested stockholder with whom or with whose affiliate the business combination is to be effected or stock held by an affiliate or associate of the interested stockholder.

These super-majority vote requirements do not apply if our common stockholders receive a minimum price, as defined under Maryland law, for their stock in the form of cash or other consideration in the same form as previously paid by the interested stockholder for its stock.

The statute permits various exemptions from its provisions, including business combinations that are exempted by the board of directors before the time that the interested stockholder becomes an interested stockholder. We have opted out of the business combination provisions of the MGCL by resolution of our board of directors. However, our board of directors may, by resolution and without stockholders approval, opt into the business combination statute in the future.

Should our board opt in to the business combination statute, it may discourage others from trying to acquire control of us and increase the difficulty of consummating any transaction.

Control Share Acquisitions

Maryland law provides that “control shares” of a Maryland corporation acquired in a “control share acquisition” have no voting rights unless approved by a vote of two-thirds of the votes entitled to be cast on the matter. Shares owned by the acquiror, or by officers or by directors who are our employees are excluded from shares entitled to vote on the matter. “Control shares” are voting shares which, if aggregated with all other shares previously acquired by the acquiring person, or in respect of which the acquiring person is able to exercise or direct the exercise of voting power (except solely by virtue of a revocable proxy), would entitle the acquiring person to exercise voting power in electing directors within one of the following ranges of voting power:

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one-tenth or more but less than one-third;

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one-third or more but less than a majority; or

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a majority or more of all voting power.

Control shares do not include shares the acquiring person is then entitled to vote as a result of having previously obtained stockholder approval. A “control share acquisition” means the acquisition of control shares, subject to certain exceptions.

A person who has made or proposes to make a control share acquisition may compel our board of directors to call a special meeting of stockholders to be held within 50 days of demand to consider the voting rights of the shares. The right to compel the calling of a special meeting is subject to the satisfaction of certain conditions, including an undertaking to pay the expenses of the meeting. If no request for a meeting is made, we may present the question at any stockholders’ meeting.

If voting rights are not approved at the stockholders’ meeting or if the acquiring person does not deliver the statement required by Maryland law, then, subject to certain conditions and limitations, we may redeem any or all of the control shares, except those for which voting rights have previously been approved, for fair value. Fair value is determined without regard to the absence of voting rights for the control shares and as of the date of the last control share acquisition or of any meeting of stockholders at which the voting rights of the shares were considered and not approved. If voting rights for control shares are approved at a stockholders’ meeting and the acquiror may then vote a majority of the shares entitled to vote, then all other stockholders may exercise appraisal rights. The fair value of the shares for purposes of these appraisal rights may not be less than the highest price per share paid by the acquiror in the control share acquisition. The control share acquisition statute does not apply to shares acquired in a merger, consolidation or share exchange if we are a party to the transaction, nor does it apply to acquisitions approved or exempted by our charter or bylaws.

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Our bylaws contain a provision exempting from the control share acquisition statute any and all acquisitions by any person of our shares of stock. Our board of directors may amend our bylaws, without stockholder approval, so as to implement the control share acquisition statute in the future.

Maryland Unsolicited Takeovers Act

Subtitle 8 of Title 3 of the Maryland General Corporation Law permits a Maryland corporation with a class of equity securities registered under the Securities Exchange Act of 1934, as amended, and at least three independent directors to elect to be subject, by provision in its charter or bylaws or a resolution of its board of directors and notwithstanding any contrary provision in the charter or bylaws, to any or all of five provisions:

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a classified board;

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a two-thirds vote requirement for removing a director;

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a requirement that the number of directors be fixed only by vote of the directors;

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a requirement that a vacancy on the board be filled only by the remaining directors and for the remainder of the full term of the class of directors in which the vacancy occurred; and

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a majority requirement for the calling of a special meeting of stockholders.

Pursuant to Subtitle 8, we have elected to provide that vacancies on the board be filled only by the remaining directors and for the remainder of the full term of the directorship in which the vacancy occurred. Through provisions in our charter and bylaws unrelated to Subtitle 8, we already (a) require a two-thirds vote for the removal of any director from the board, (b) vest in the board the exclusive power to fix the number of directorships and (c) require, unless called by our chairman of our board of directors, our president and chief executive officer or our board of directors, the request of the holders of a majority of outstanding shares to call for a special meeting.

Merger; Amendment of Charter

Under the Maryland General Corporation Law, a Maryland corporation generally cannot dissolve, amend its charter or merge with another entity unless approved by the affirmative vote of stockholders holding at least two-thirds of the shares entitled to vote on the matter unless a lesser percentage (but not less than a majority of all the votes entitled to be cast on the matter) is set forth in the corporation’s charter. Our charter provides for approval by the holders of a majority of all the votes entitled to be cast on the matter for the matters described in this paragraph, except for amendments to various provisions of the charter, including the provisions relating to removal of directors, that require the affirmative vote of the holders of two-thirds of the votes entitled to be cast on the matter. As permitted by the Maryland General Corporation Law, our charter contains a provision permitting our directors, without any action by our stockholders, to amend the charter to increase or decrease the aggregate number of shares of stock or the number of shares of stock of any class or series that we have authority to issue.

Limitation of Liability and Indemnification

Our charter limits the liability of our directors and officers for money damages to the maximum extent permitted by Maryland law.

Our charter authorizes us to obligate ourselves and our bylaws require us, to the maximum extent permitted by Maryland law, to indemnify, and to pay or reimburse reasonable expenses to, any of our present or former directors or officers or any individual who, while a director or officer and at our request, serves or has served another entity, employee benefit plan or any other enterprise as a trustee, director, officer, partner or otherwise. The indemnification covers any claim or liability against the person by reason of his or her status as a present or former director or officer.

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Maryland law permits us to indemnify our present and former directors and officers against liabilities and reasonable expenses actually incurred by them in any proceeding unless it is established that:

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the act or omission of the director or officer was material to the matter giving rise to the proceeding; and

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was committed in bad faith; or

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was the result of active and deliberate dishonesty; or

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the director or officer actually received an improper personal benefit in money, property or services; or

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in a criminal proceeding, the director or officer had reasonable cause to believe that the act or omission was unlawful.

However, Maryland law prohibits us from indemnifying our present and former directors and officers for an adverse judgment in a derivative action. Maryland law requires us, as a condition to advancing expenses in certain circumstances, to obtain:

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a written affirmation by the director or officer of his or her good faith belief that he or she has met the standard of conduct necessary for indemnification; and

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a written undertaking by or on behalf of the director or officer to repay the amount reimbursed if the standard of conduct is not met.

We have entered into indemnification agreements with our directors and executive officers that provide for indemnification of such persons to the fullest extent permitted under Maryland law.

The partnership agreement of our operating partnership provides for indemnification of officers, directors and employees of our operating partnership, as well as our indemnification, along with our employees, officers and directors.

Insofar as the foregoing provisions permit indemnification of directors, officers or persons controlling us for liability arising under the Securities Act, we have been informed that, in the opinion of the SEC, this indemnification is against public policy as expressed in the Securities Act and is therefore unenforceable.

REIT Status

Dissolution

Pursuant to our charter, and subject to the provisions of any of our classes or series of shares of stock then outstanding and the approval by a majority of the entire board of directors, our stockholders, at any meeting thereof, by the affirmative vote of a majority of all of the votes entitled to be cast on the matter, may approve a plan of liquidation and dissolution.

Advance Notice of Director Nominations and New Business

Our bylaws provide that, with respect to an annual meeting of stockholders, nominations of individuals for election to our board of directors and the proposal of business to be considered by stockholders at the annual meeting may be made only:

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pursuant to our notice of the meeting;

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by or at the direction of our board of directors; or

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by a stockholder who was a stockholder of record both at the time of the provision of notice and at the time of the meeting who is entitled to vote at the meeting and has complied with the advance notice procedures set forth in our bylaws.

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With respect to special meetings of stockholders, only the business specified in our notice of meeting may be brought before the meeting of stockholders and nominations of individuals for election to our board of directors may be made only:

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pursuant to our notice of the meeting;

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by or at the direction of our board of directors; or

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provided that our board of directors has determined that directors shall be elected at such meeting, by a stockholder who was a stockholder of record both at the time of the provision of notice and at the time of the meeting who is entitled to vote at the meeting and has complied with the advance notice provisions set forth in our bylaws.

Possible Anti-Takeover Effect of Certain Provisions of Maryland Law and of our Charter and Bylaws

Our board may rescind the resolution opting out of the business combination statute or repeal the bylaw opting-out of the control share acquisition statute without stockholder approval. If the business combination provisions or control share provisions become applicable to our company, those provisions, in addition to the provisions in our charter regarding removal of directors and the restrictions on the transfer of shares of stock and the advance notice provisions of our bylaws could have the effect of delaying, deferring or preventing a transaction or a change in the control that might involve a premium price for holders of the common stock or otherwise be in their best interest.

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P ARTNERSHIP AGREEMENT

The following summary of the terms of the agreement of limited partnership of our operating partnership does not purport to be complete and is subject to and qualified in its entirety by reference to the Agreement of Limited Partnership of MHI Hospitality, L.P., a copy of which is an exhibit to the registration statement of which this prospectus is a part. See “Where You Can Find More Information.”

Management

MHI Hospitality, L.P., our operating partnership, has been organized as a Delaware limited partnership. Pursuant to the partnership agreement, MHI Hospitality Corporation, as general partner of our operating partnership, has, subject to certain protective rights of limited partners described below, full, exclusive and complete responsibility and discretion in the management and control of the operating partnership, including the ability to cause the operating partnership to enter into certain major transactions including acquisitions, dispositions, refinancings and selection of lessees and to cause changes in the operating partnership’s line of business and distribution policies.

Transferability of Interests

We may not voluntarily withdraw from the operating partnership or transfer or assign our interest in the operating partnership or engage in any transaction which would result in a change of control of our company unless:

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We receive the consent of limited partners holding more than 50% of the partnership interests of the limited partners (other than those held by the general partner or any subsidiary);

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The consent of limited partners (including the general partner or any subsidiary) holding more than 66.7% of the percentage interests of the limited partnership interests (including those held by the general partner or any subsidiary) is obtained and as a result of such transaction all limited partners will receive for each partnership unit an amount of cash, securities or other property equal in value to the product of the conversion factor and the greatest amount of cash, securities or other property paid in the transaction to a holder of one share of our common stock, provided that if, in connection with the transaction, a purchase, tender or exchange offer shall have been made to and accepted by the holders of more than 50% of the outstanding shares of our common stock, each holder of units shall be given the option to exchange its units for the greatest amount of cash, securities or other property that a limited partner would have received had it (A) exercised its redemption right (described below) and (B) sold, tendered or exchanged pursuant to the offer shares of our common stock received upon exercise of the redemption right immediately prior to the expiration of the offer; or

•

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We also may (i) transfer all or any portion of our general partnership interest to an affiliate of the general partner, and following such transfer, may withdraw as the general partner and (ii) engage in a transaction required by law or by the rules of any national securities exchange on which our common stock is listed.

Limited partners may not transfer their units without our written consent as general partner.

Capital Contribution

We will contribute to our operating partnership substantially all the net proceeds of the offering as our initial capital contribution in exchange for approximately a 61.1% initial partnership interest. We initially will own a 1.0% interest as general partner and an approximately 60.1% interest as limited partner. Other parties, including MHI Hotels Services, will contribute their interests in the entities that own our initial properties to the operating partnership and become limited partners and, together with other limited partners, initially will own the remaining 38.9% interest in the partnership. The partnership agreement provides that if the operating partnership requires additional funds at any time in excess of funds available to the operating partnership from borrowing or capital contributions, we may borrow such funds from a financial institution or other lender and lend such funds to the operating partnership. Under the partnership agreement, we are obligated to contribute the proceeds of any offering of shares of stock as additional capital to the operating partnership. We are authorized to cause the operating partnership to issue partnership interests for less than fair market value if we have concluded in good faith that such issuance is in both the operating partnership’s and our best interests. If we contribute additional capital to the operating partnership, we will receive additional units and our percentage interest will be increased on a proportionate basis based upon the amount of such additional capital contributions and the value of the operating partnership at the time of such contributions. Conversely, the percentage interests of the limited partners will be decreased on a proportionate basis in the event of additional capital contributions by us. In addition, if we contribute additional capital to the operating partnership, we will revalue the property of the operating partnership to its fair market value (as determined by us) and the capital accounts of the partners will be adjusted to reflect the manner in which the unrealized gain or loss inherent in such property (that has not been reflected in the capital accounts previously) would be allocated among the partners under the terms of the partnership agreement if there were a taxable disposition of such property for its fair market value (as determined by us) on the date of the revaluation. The operating partnership may issue preferred partnership interests, in connection with acquisitions of property or otherwise, which could have priority over common partnership interests with respect to distributions from the operating partnership, including the partnership interests we own as the general partner.

Redemption Rights

Pursuant to the partnership agreement, the limited partners will receive redemption rights which will enable them to cause the operating partnership to redeem their units in exchange for cash or, at our option, shares of common stock. The cash redemption amount per unit is based on the market price of our common stock at the time of redemption. The number of shares of common stock issuable upon redemption of units held by limited partners may be adjusted upon the occurrence of certain events such as stock dividends, stock subdivisions or combinations. We expect to fund any cash redemptions out of available cash or borrowings. Notwithstanding the foregoing, a limited partner will not be entitled to exercise its redemption rights if the delivery of common stock to the redeeming limited partner would:

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result in any person owning, directly or indirectly, shares of common stock in excess of the stock ownership limit in our charter;

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result in shares of our common stock being owned by fewer than 100 persons (determined without reference to any rules of attribution);

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result in our being “closely held” within the meaning of Section 856(h) of the Code;

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•

cause us to own, actually or constructively, 10% or more of the ownership interests in a tenant of ours, the operating partnership or a subsidiary partnership’s real property, within the meaning of Section 856(d)(2)(B) of the Code other than a taxable REIT subsidiary if the requirements of Section 856(d)(8)(B) of the Code are satisfied;

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cause any of our hotel management companies to fail to qualify as an “eligible independent contractor” within the meaning of Section 856(d)(9) of the Code; or

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cause the acquisition of common stock by such redeeming limited partner to be “integrated” with any other distribution of common stock for purposes of complying with the registration provisions of the Securities Act of 1933, as amended.

We may, in our sole and absolute discretion, waive any of these restrictions.

With respect to the units issuable in connection with the acquisition of our initial properties, the redemption rights may be exercised by the limited partners at any time after the first anniversary of our acquisition of these properties; provided, however, unless we otherwise agree:

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a limited partner may not exercise the redemption right for fewer than 1,000 units or, if such limited partner holds fewer than 1,000 units, the limited partner must redeem all of the units held by such limited partner;

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a limited partner may not exercise the redemption right for more than the number of units that would, upon redemption, result in such limited partner or any other person owning, directly or indirectly, common stock in excess of the ownership limitation in our charter; and

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a limited partner may not exercise the redemption right more than two times annually.

Upon completion of the offering and the formation transactions, the aggregate number of shares of common stock issuable upon exercise of the redemption rights will be approximately 3,817,036. The number of shares of common stock issuable upon exercise of the redemption rights will be adjusted to account for stock splits, mergers, consolidations or similar pro rata stock transactions.

The partnership agreement requires that the operating partnership be operated in a manner that enables us to satisfy the requirements to be classified as a REIT, to avoid any federal income or excise tax liability imposed by the Code (other than any federal income tax liability associated with our retained capital gains) and to ensure that the partnership will not be classified as a “publicly traded partnership” taxable as a corporation under Section 7704 of the Code.

In addition to the administrative and operating costs and expenses incurred by the operating partnership, the operating partnership generally will pay all of our administrative costs and expenses, including:

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all expenses relating to our continuity of existence and our subsidiaries’ operations;

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all expenses relating to offerings and registration of securities;

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all expenses associated with the preparation and filing of any of our periodic or other reports and communications under federal, state or local laws or regulations;

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all expenses associated with our compliance with laws, rules and regulations promulgated by any regulatory body; and

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all of our other operating or administrative costs incurred in the ordinary course of business on behalf of the operating partnership.

These expenses, however, do not include any of our administrative and operating costs and expenses incurred that are attributable to hotel properties that are owned by us directly rather than by the operating partnership or its subsidiaries.

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Distributions

The partnership agreement provides that the operating partnership will distribute cash at such time and in such amounts as determined by us in our sole discretion, to us and the limited partners in accordance with their respective percentage interests in the operating partnership.

Upon liquidation of the operating partnership, after payment of, or adequate provision for, debts and obligations of the partnership, including any partner loans, any remaining assets of the partnership will be distributed to us and the limited partners with positive capital accounts in accordance with their respective positive capital account balances.

Allocations

Profits and losses of the partnership (including depreciation and amortization deductions) for each fiscal year generally are allocated to us and the limited partners in accordance with the respective percentage interests in the partnership. All of the foregoing allocations are subject to compliance with the provisions of Sections 704(b), 704(c) and 706 of the Code and Treasury regulations promulgated thereunder. The operating partnership expects to use the “traditional method” under Section 704(c) of the Code for allocating items with respect to contributed property acquired in connection with the offering for which the fair market value differs from the adjusted tax basis at the time of contribution.

Term

The operating partnership will have perpetual duration unless dissolved upon:

•

our bankruptcy, dissolution, removal or withdrawal (unless the limited partners elect to continue the partnership);

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the passage of 90 days after the sale or other disposition of all or substantially all the assets of the partnership;

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the redemption of all units (other than those held by us, if any); or

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an election by us in our capacity as the general partner.

Tax Matters

Pursuant to the partnership agreement, we are the tax matters partner of the operating partnership and, as such, have authority to handle tax audits and to make tax elections under the Code on behalf of the operating partnership.

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MATERIAL FEDERAL INCOME TAX CONSIDERATIONS

This section summarizes the federal material income tax considerations relating to our qualification and taxation as a REIT and the ownership and disposition of our common stock that you, as a stockholder, may consider relevant. Because this section is a summary, it does not address all of the tax issues that may be important to you and does not provide a detailed discussion of any state, local, foreign or other tax laws or considerations. Baker & McKenzie LLP has acted as our counsel, has reviewed this summary, and is of the opinion that the discussion contained herein fairly summarizes the federal income tax considerations that are likely to be material to a holder of our common stock. The discussion does not address all aspects of taxation that may be relevant to particular stockholders in light of their personal investment or tax circumstances, or to certain types of stockholders that are subject to special treatment under the federal income tax laws, such as insurance companies, tax-exempt organizations (except to the extent discussed in “— Taxation of Tax-Exempt Stockholders” below), financial institutions or broker-dealers, and non-U.S. individuals and foreign corporations (except to the extent discussed in “— Taxation of Non-U.S. Stockholders” below).

The statements in this section and the opinions of Baker & McKenzie LLP discussed herein are based on the current federal income tax laws. We cannot assure you that new laws, interpretations of law, or court decisions, any of which may take effect retroactively, will not cause any statement in this section to be inaccurate. You should be aware that opinions of counsel are not binding on the Internal Revenue Service, and no assurance can be given that the Internal Revenue Service will not challenge the conclusions set forth in those opinions.

On October 22, 2004, the President signed into law the American Jobs Creation Act of 2004 (the “Jobs Act”), which amends certain rules relating to REITs. The relevant provisions of the Jobs Act are discussed in this section. As noted, certain provisions do not apply until our taxable year beginning January 1, 2005.

We urge you to consult your own tax advisor regarding the specific tax consequences to you of ownership of our common stock and of our election to be taxed as a REIT. Specifically, you should consult your own tax advisor regarding the federal, state, local, foreign, and other tax consequences of such ownership and election, and regarding potential changes in applicable tax laws.

Taxation of our Company

We plan to make an election to be taxed as a REIT under the federal income tax laws effective for our short taxable year ending on December 31, 2004. We believe that, commencing with such short taxable year, we will be organized and will operate in such a manner as to qualify for taxation as a REIT under the federal income tax laws, and we intend to continue to operate in such a manner, but no assurance can be given that we will operate in a manner so as to qualify or remain qualified as a REIT. This section discusses the laws governing the federal income tax treatment of a REIT and its stockholders. These laws are highly technical and complex.

In connection with the offering of our common stock, Baker & McKenzie rendered an opinion, which is an exhibit to the registration statement of which this prospectus is a part, to the effect that, commencing with our short taxable year beginning on the business day prior to the closing of the offering and ending December 31, 2004, assuming that we complete the elections and other procedural steps described in this discussion of “Material Federal Income Tax Considerations” in a timely fashion, we will be organized in conformity with the requirements for qualification and taxation as a REIT under the federal income tax laws, and our proposed method of operation will enable us to meet the requirements for qualification and taxation as a REIT under the federal income tax laws.

Investors should be aware that Baker & McKenzie’s opinion is based upon customary assumptions, is conditioned upon certain representations made by us as to factual matters, including representations regarding the nature of our properties and the conduct of our business, and is not binding upon the Internal Revenue Service or any court. In addition, Baker & McKenzie’s opinion is based on existing federal income tax law governing

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qualification as a REIT, which is subject to change either prospectively or retroactively. Moreover, our qualification and taxation as a REIT depends upon our ability to meet on a continuing basis, through actual annual operating results, certain qualification tests set forth in the federal tax laws. Those qualification tests involve the percentage of income that we earn from specified sources, the percentage of our assets that falls within specified categories, the diversity of our stock ownership, and the percentage of our earnings that we distribute. Baker & McKenzie will not review our compliance with those tests on a continuing basis. Accordingly, no assurance can be given that the actual results of our operation for any particular taxable year will satisfy such requirements. For a discussion of the tax consequences of our failure to qualify as a REIT, see the section entitled “Material Federal Income Tax Considerations – Failure to Qualify” in this prospectus.

If we qualify as a REIT, we generally will not be subject to federal income tax on our taxable income that we distribute to our stockholders. The benefit of this tax treatment is that it avoids the “double taxation,” or taxation at both the corporate and stockholder levels, that generally results from owning stock in a corporation. However, we will be subject to federal tax in the following circumstances:

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We will pay federal income tax on our taxable income, including net capital gain, that we do not distribute to stockholders during, or within a specified time period after, the calendar year in which the income is earned.

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We may be subject to the “alternative minimum tax” on any items of tax preference that we do not distribute or allocate to stockholders.

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We will pay income tax at the highest corporate rate on:

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net income from the sale or other disposition of property acquired through foreclosure (“foreclosure property”) that we hold primarily for sale to customers in the ordinary course of business, and

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other non-qualifying income from foreclosure property.

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We will pay a 100% tax on net income from sales or other dispositions of property, other than foreclosure property, that we hold primarily for sale to customers in the ordinary course of business.

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If we fail to satisfy the 75% gross income test or the 95% gross income test, as described below under “Requirements for Qualification — Income Tests,” and nonetheless continue to qualify as a REIT because we meet other requirements, we will pay a 100% tax on all of our net income attributable to the failure of either the 75% income test or the 95% test. The taxable amount is determined by multiplying a fraction intended to reflect our profitability by the greater of either:

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the amount by which 75% of our gross income exceeds the amount of items subject to the 75% test, or

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the amount by which 90% (95% for taxable years beginning January 1, 2005) of our gross income exceeds the amount of items subject to the 95% test.

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In the event of a more than de minimis failure of any of the asset tests occurring after January 1, 2005, as described below under “— Requirements for Qualification — Asset Tests,” as long as the failure was due to reasonable cause and not to willful neglect and we dispose of the assets or otherwise comply with the asset tests within six months after the last day of the quarter, we will pay a tax equal to the greater of $50,000 or 35% of the net income from the nonqualifying assets during the period in which we failed to satisfy any of the asset tests.

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In the event of a failure to satisfy one or more requirements for REIT qualification occurring after January 1, 2005, other than the gross income tests and the asset tests, so long as the failure is due to reasonable cause and not to willful neglect, we will be required to pay a penalty of $50,000 for each such failure.

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•

If we fail to distribute during a calendar year at least the sum of:

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85% of our REIT ordinary income for the year,

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95% of our REIT capital gain net income for the year, and

•

any undistributed taxable income from earlier periods,

we will pay a nondeductible 4% excise tax on the excess of the required distribution over the amount we actually distributed.

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We may elect to retain and pay income tax on our net long-term capital gain. In that case, a U.S. stockholder would be taxed on its proportionate share of our undistributed long-term capital gain (to the extent that we make a timely designation of such gain to the stockholder) and would receive a credit or refund for its proportionate share of the tax we paid.

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We will be subject to a 100% excise tax on certain transactions with a taxable REIT subsidiary that are not conducted on an arm’s-length basis.

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If we acquire any asset from a C corporation, or a corporation that generally is subject to full corporate-level tax, in a merger or other transaction in which we acquire a basis in the asset that is determined by reference either to the C corporation’s basis in the asset or to another asset, we will pay tax at the highest regular corporate rate applicable if we recognize gain on the sale or disposition of the asset during the 10-year period after we acquire the asset. The amount of gain on which we will pay tax is the lesser of:

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the amount of gain that we recognize at the time of the sale or disposition, and

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the amount of gain that we would have recognized if we had sold the asset at the time we acquired it.

Requirements for Qualification

A REIT is a corporation, trust, or association that meets each of the following requirements:

1. It is managed by one or more trustees or directors.

2. Its beneficial ownership is evidenced by transferable shares, or by transferable certificates of beneficial interest.

3. It would be taxable as a domestic corporation, but for the REIT provisions of the federal income tax laws.

4. It is neither a financial institution nor an insurance company subject to special provisions of the federal income tax laws.

5. At least 100 persons are beneficial owners of its shares or ownership certificates.

6. Not more than 50% in value of its outstanding shares or ownership certificates is owned, directly or indirectly, by five or fewer individuals, which the federal income tax laws define to include certain entities, during the last half of any taxable year.

7. It elects to be a REIT, or has made such election for a previous taxable year, and satisfies all relevant filing and other administrative requirements established by the Internal Revenue Service that must be met to elect and maintain REIT status.

8. It meets certain other qualification tests, described below, regarding the nature of its income and assets.

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We must meet requirements 1 through 4 during our entire taxable year and must meet requirement 5 during at least 335 days of a taxable year of 12 months, or during a proportionate part of a taxable year of less than 12 months. If we comply with all the requirements for ascertaining the ownership of our outstanding stock in a taxable year and have no reason to know that we violated requirement 6, we will be deemed to have satisfied requirement 6 for that taxable year. For purposes of determining share ownership under requirement 6, an “individual” generally includes a supplemental unemployment compensation benefits plan, a private foundation, or a portion of a trust permanently set aside or used exclusively for charitable purposes. An “individual,” however, generally does not include a trust that is a qualified employee pension or profit sharing trust under the federal income tax laws, and beneficiaries of such a trust will be treated as holding our stock in proportion to their actuarial interests in the trust for purposes of requirement 6. Requirements 5 and 6 do not apply during our first taxable year as a REIT, which is our short taxable year ending December 31, 2004.

We believe that we are issuing sufficient common stock with sufficient diversity of ownership to satisfy requirements 5 and 6. In addition, our charter restricts the ownership and transfer of our stock so that we should continue to satisfy these requirements. The provisions of our charter restricting the ownership and transfer of the common stock are described in the section entitled “Description of Common Stock - Restrictions on Ownership and Transfer” in this prospectus.

A corporation that is a “qualified REIT subsidiary” is not treated as a corporation separate from its parent REIT for federal income tax purposes. Instead, all assets, liabilities, and items of income, deduction, and credit of a “qualified REIT subsidiary” are treated as assets, liabilities, and items of income, deduction, and credit of the REIT. A “qualified REIT subsidiary” is a corporation, other than a taxable REIT subsidiary, all of the stock of which is owned by the REIT. Thus, in applying the requirements described herein, any “qualified REIT subsidiary” that we own will be ignored, and all assets, liabilities, and items of income, deduction, and credit of such subsidiary will be treated as our assets, liabilities, and items of income, deduction, and credit. We do not anticipate owning any qualified REIT subsidiaries.

We will be the general partner of MHI Hospitality, L.P., our operating partnership. An unincorporated domestic entity, such as a partnership or limited liability company, that has a single owner generally is not treated as an entity separate from its parent for federal income tax purposes. An unincorporated domestic entity with two or more owners is generally treated as a partnership for federal income tax purposes. In the case of a REIT that is a partner in a partnership that has other partners, the REIT is treated as owning its proportionate share of the assets of the partnership and as earning its allocable share of the gross income of the partnership for purposes of the applicable REIT qualification tests. For purposes of the 10% value test (described in “— Asset Tests”), our proportionate share is based on our proportionate interest in the equity interests and certain debt securities issued by the partnership. For all of the other asset and income tests, our proportionate share is based on our proportionate interest in the capital interests in the partnership. Our proportionate share of the assets, liabilities, and items of income of our operating partnership, MHI Hospitality, L.P., and any other partnership, joint venture, or limited liability company that is treated as a partnership for federal income tax purposes in which we acquire an interest, directly or indirectly, will be treated as our assets and gross income for purposes of applying the various REIT qualification requirements.

A REIT is permitted to own (directly or indirectly) up to 100% of the stock of one or more “taxable REIT subsidiaries,” or TRSs. A TRS is a fully taxable corporation that may earn income that would not be qualifying income if earned directly by the parent REIT. However, a TRS may not directly or indirectly operate or manage any hotels or health care facilities or provide rights to any brand name under which any hotel or health care facility is operated. The subsidiary and the REIT must jointly elect to treat the subsidiary as a TRS. A TRS will pay income tax at regular corporate rates on any income that it earns. In addition, the TRS rules limit the deductibility of interest paid or accrued by a TRS to its parent REIT to assure that the TRS is subject to an appropriate level of corporate taxation. Further, the rules impose a 100% excise tax on transactions between a TRS and its parent REIT or the REIT’s tenants that are not conducted on an arm’s-length basis. We have formed a TRS, MHI TRS Holding Corporation, which will be the holding company for our TRS Lessee and any TRS we

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form in the future. See “Material Federal Income Tax Consequences - Taxable REIT Subsidiaries.” Our TRS Lessee is a single member limited liability company owned by our TRS and is disregarded as an entity separate from our TRS for federal income tax purposes.

Income Tests

We must satisfy two gross income tests annually to maintain our qualification as a REIT. First, at least 75% of our gross income for each taxable year must consist of defined types of income that we derive, directly or indirectly, from investments relating to real property or mortgages on real property or qualified temporary investment income. Qualifying income for purposes of that 75% gross income test generally includes:

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rents from real property;

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interest on debt secured by mortgages on real property, or on interests in real property;

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dividends or other distributions on, and gain from the sale of, shares in other REITs;

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gain from the sale of real estate assets (See “Prohibited Transactions” and “Foreclosure Property” of this section); and

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income derived from the qualified temporary investment of new capital that is attributable to the issuance of our stock or a public offering of our debt with a maturity date of at least five years and that we receive during the one-year period beginning on the date on which we received such new capital.

Second, in general, at least 95% of our gross income for each taxable year must consist of income that is qualifying income for purposes of the 75% gross income test, other types of interest and dividends, gain from the sale or disposition of stock or securities, income from certain hedging instruments (during our taxable year ending December 31, 2004) or any combination of these. Gross income from our sale of property that we hold primarily for sale to customers in the ordinary course of business is excluded from both the numerator and the denominator in both income tests. In addition, for taxable year beginning January 1, 2005, income and gain from “hedging transactions,” as defined in “— Hedging Transactions,” that are clearly and timely identified as such will not be treated as gross income for purposes of the 95% gross income test (but not the 75% gross income test). The following paragraphs discuss the specific application of the gross income tests to us.

Rents from Real Property

Rent that we receive from our hotels will qualify as “rents from real property,” which is qualifying income for purposes of the 75% and 95% gross income tests, only if the following conditions are met:

1. The rent must not be based, in whole or in part, on the income or profits of any person, but may be based on a fixed percentage or percentages of receipts or sales.

2. Neither we nor a direct or indirect owner of 10% or more of our stock may own, actually or constructively, 10% or more (by vote or value) of a tenant from whom we receive rent, other than a TRS. If the tenant is a TRS, such TRS may not directly or indirectly operate or manage the related property. Instead, the property must be operated on behalf of the TRS by a person who qualifies as an “independent contractor” and who is, or is related to a person who is, actively engaged in the trade or business of operating lodging facilities for any person unrelated to us and the TRS. See the section entitled “Material Federal Income Tax Considerations – Taxable REIT Subsidiaries” in this prospectus.

3. If the rent attributable to personal property leased in connection with a lease of real property is 15% or less of the total rent received under the lease, then the rent attributable to personal property will qualify as rents from real property. However, if the 15% threshold is exceeded, the rent attributable to personal property will not qualify as rents from real property.

4. We generally must not operate or manage our real property or furnish or render services to our tenants, other than through an “independent contractor” who is adequately compensated and from whom we

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do not derive revenue or through a TRS. However, we may provide services directly to our tenants if the services are “usually or customarily rendered” in connection with the rental of space for occupancy only, and those services are not considered to be provided for the tenants’ convenience. In addition, we may provide a minimal amount of “noncustomary” services to the tenants of a property, other than through an independent contractor or a TRS, as long as our income from the services does not exceed 1% of our income from that property. If this threshold is exceeded, all amounts from that property will be disqualified.

A more detailed explanation of each of these conditions is provided below.

Pursuant to percentage leases, our TRS Lessee will lease from MHI Hospitality, L.P., our operating partnership, and its subsidiaries the land, buildings, improvements, furnishings, and equipment comprising the hotels, for a term of five years. The percentage leases provide that the TRS Lessee is obligated to pay to our operating partnership or its subsidiaries (1) a fixed annual base rent, (2) percentage rent and (3) certain other “additional charges,” as defined in the leases. Percentage rent is calculated by multiplying fixed percentages by gross room revenues in excess of certain thresholds for each of the hotels. Base rent will be adjusted for inflation. Base rent accrues and is required to be paid monthly and percentage rent accrues and is required to be paid quarterly.

In order for the base rent, percentage rent, and additional charges to constitute “rents from real property,” the percentage leases must be respected as true leases for federal income tax purposes and not be treated as service contracts, joint ventures, or some other type of arrangement. The determination of whether the percentage leases are true leases depends on an analysis of all the surrounding facts and circumstances. In making such a determination, courts have considered a variety of factors, including the following:

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the intent of the parties;

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the form of the agreement;

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the degree of control over the property that is retained by the property owner, or whether the lessee has substantial control over the operation of the property or is required simply to use its best efforts to perform its obligations under the agreement; and

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the extent to which the property owner retains the risk of loss with respect to the property, or whether the lessee bears the risk of increases in operating expenses or the risk of damage to the property or the potential for economic gain or appreciation with respect to the property.

In addition, federal income tax law provides that a contract that purports to be a service contract or a partnership agreement will be treated instead as a lease of property if the contract is properly treated as such, taking into account all relevant factors, including whether or not:

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the service recipient is in physical possession of the property;

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the service recipient controls the property;

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the service recipient has a significant economic or possessory interest in the property, as evidenced by such key factors as whether (i) the property’s use is likely to be dedicated to the service recipient for a substantial portion of the useful life of the property, (ii) the recipient shares the risk that the property will decline in value, (iii) the recipient shares in any appreciation in the value of the property, (iv) the recipient shares in savings in the property’s operating costs or (v) the recipient bears the risk of damage to or loss of the property;

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the service provider bears the risk of substantially diminished receipts or substantially increased expenditures if there is nonperformance under the contract;

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the service provider uses the property concurrently to provide significant services to entities unrelated to the service recipient; and

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the total contract price substantially exceeds the rental value of the property for the contract period.

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Since the determination of whether a service contract should be treated as a lease is inherently factual, the presence or absence of any single factor will not be dispositive in every case.

Baker & McKenzie is of the opinion that the percentage leases will be treated as true leases for federal income tax purposes. Such opinion is based, in part, on the following facts:

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MHI Hospitality, L.P., our operating partnership and its subsidiaries, on the one hand, and our TRS Lessee, on the other hand, intend for their relationship to be that of a lessor and lessee and such relationship is documented by lease agreements;

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the TRS Lessee has the right to the exclusive possession, use, and quiet enjoyment of the hotels during the term of the percentage leases;

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the TRS Lessee bears the cost of, and is responsible for, day-to-day maintenance and repair of the hotels, other than the cost of maintaining structural elements, and generally dictates how the hotels are operated and maintained;

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the TRS Lessee bears all of the costs and expenses of operating the hotels, including the cost of any inventory used in their operation, during the term of the percentage leases, other than real estate;

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the TRS Lessee benefits from any savings in the costs of operating the hotels during the term of the percentage leases;

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the TRS Lessee generally will indemnify MHI Hospitality, L.P., our operating partnership, and its subsidiaries against all liabilities imposed on our operating partnership and its subsidiaries during the term of the percentage leases by reason of (1) injury to persons or damage to property occurring at the hotels, (2) the TRS Lessee’ use, management, maintenance, or repair of the hotels, (3) any taxes and assessments that are the obligation of the TRS Lessee, (4) any failure on the part of the TRS Lessee to perform or comply with any of the terms of the lease and (5) the non-performance of any of the terms and provisions of any sublease;

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the TRS Lessee is obligated to pay substantial fixed rent for the period of use of the hotels;

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the TRS Lessee stands to incur substantial losses or reap substantial gains depending on how successfully it operates the hotels;

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MHI Hospitality, L.P., our operating partnership, and its subsidiaries cannot use the hotels concurrently to provide significant services to entities unrelated to the TRS Lessee; and

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the total contract price under the percentage leases does not substantially exceed the rental value of the hotels for the term of the percentage leases.

A leasehold interest in the common area at the Shell Island Resort currently held by MHI Hotels LLC will be assigned to MHI Hospitality L.P. pursuant to an assignment agreement. MHI Hotels LLC will enter into a separate sublease agreement with MHI Hospitality L.P. pursuant to which MHI Hotels LLC will lease such property back from MHI Hospitality L.P.

In addition, a leasehold interest in the restaurant space at the Shell Island Resort Hotel condominium facility known as Commercial Unit C-1 currently held by MHI Hotels Two, Inc. will be assigned to MHI Hospitality L.P. pursuant to an assignment agreement. MHI Hotels Two, Inc. will enter into a separate sublease agreement with MHI Hospitality L.P. pursuant to which MHI Hotels Two, Inc. will lease such property back from MHI Hospitality L.P.

Investors should be aware that there are no controlling Treasury regulations, published rulings, or judicial decisions involving leases with terms substantially the same as the percentage leases that discuss whether such leases constitute true leases for federal income tax purposes. If the percentage leases were characterized as service contracts or partnership agreements, rather than as true leases, part or all of the payments that our

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operating partnership and its subsidiaries receive from the TRS Lessee may not be considered rent or may not otherwise satisfy the various requirements for qualification as “rents from real property.” In that case, we likely would not be able to satisfy either the 75% or 95% gross income test and, as a result, would lose our REIT status.

As described above, in order for the rent that we receive to constitute “rents from real property,” several other requirements must be satisfied.

First, the percentage rent must not be based in whole or in part on the income or profits of any person. The percentage rent, however, will qualify as “rents from real property” if it is based on percentages of receipts or sales and the percentages:

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are fixed at the time the percentage leases are entered into;

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are not renegotiated during the term of the percentage leases in a manner that has the effect of basing percentage rent on income or profits; and

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conform with normal business practice.

More generally, the rent will not qualify as “rents from real property” if, considering the leases and all the surrounding circumstances, the arrangement does not conform with normal business practice, but is in reality used as a means of basing the rent on income or profits. Since the rent that we will receive will be based on fixed percentages of the lessees’ gross revenues from the related hotel, our rent should not be considered based in whole or in part on the income or profits of any person. Furthermore, we have represented that, with respect to other hotels that we acquire in the future, we will not charge rent for any hotel that is based in whole or in part on the income or profits of any person, except by reason of being based on fixed percentages of gross revenues, as described above.

Second, we must not own, actually or constructively, 10% or more of the stock or the assets or net profits of any lessee (a “related party tenant”) other than a TRS or TRS Lessee. The constructive ownership rules generally provide that, if 10% or more in value of our stock is owned, directly or indirectly, by or for any person, we are considered as owning the stock owned, directly or indirectly, by or for such person. We anticipate that each of our hotels will be leased to the TRS Lessee. In addition, we will own a leasehold interest in the common areas of the resort property which will be subleased to MHI Hotels Two, Inc. and MHI Hotels LLC. Furthermore, our charter prohibits transfers of our stock that would cause us to own, actually or constructively, 10% or more of the ownership interests in a lessee (other than a TRS or TRS Lessee). Based on the foregoing, we should never own, actually or constructively, 10% or more of any lessee other than a TRS or TRS Lessee. Furthermore, we have represented that, with respect to other hotels that we acquire in the future, we will not rent any property to a related party tenant. However, because the constructive ownership rules are broad and it is not possible to monitor continually direct and indirect transfers of our stock, no absolute assurance can be given that such transfers or other events of which we have no knowledge will not cause us to own constructively 10% or more of a lessee other than a TRS or TRS Lessee at some future date.

As described above, we may own up to 100% of the stock of one or more TRSs. A TRS is a fully taxable corporation that is permitted to lease hotels from the related REIT as long as it does not directly or indirectly operate or manage any hotels or health care facilities or provide rights to any brand name under which any hotel or health care facility is operated. However, rent that we receive from a TRS or TRS Lessee will qualify as “rents from real property” as long as the property is operated on behalf of the TRS or TRS Lessee by an “independent contractor” who is adequately compensated, who does not, directly or through its stockholders, own more than 35% of our shares, taking into account certain ownership attribution rules, and who is, or is related to a person who is, actively engaged in the trade or business of operating “qualified lodging facilities” for any person unrelated to us and the TRS (an “eligible independent contractor”). A “qualified lodging facility” is a hotel, motel, or other establishment more than one-half of the dwelling units in which are used on a transient basis, unless wagering activities are conducted at or in connection with such facility by any person who is engaged in the business of accepting wagers and who is legally authorized to engage in such business at or in connection with such facility. A “qualified lodging facility” includes

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customary amenities and facilities operated as part of, or associated with, the lodging facility as long as such amenities and facilities are customary for other properties of a comparable size and class owned by other unrelated owners. See the sections entitled “Material Federal Income Tax Considerations – Taxable REIT Subsidiaries” in this prospectus.

We have formed one TRS to be the holding company for our TRS Lessee and any TRS lessee we form in the future. Our TRS Lessee is a single member limited liability company owned by our TRS and is disregarded as an entity separate from our TRS for federal income tax purposes. Our TRS Lessee will engage independent hotel managers to operate the related hotels on their behalf. Furthermore, we have represented that, with respect to properties that we lease to the TRS or TRS Lessee in the future, such TRS or TRS Lessee will engage an “eligible independent contractor” to manage and operate the hotels leased by such TRS or TRS Lessee. MHI Hotels Services LLC will qualify as an “eligible independent contractor.”

Third, rent attributable to the personal property leased in connection with the lease of a property must not be greater than 15% of the total rent received under the lease. The rent attributable to the personal property contained in a property is the amount that bears the same ratio to total rent for the taxable year as the average of the fair market values of the personal property at the beginning and at the end of the taxable year bears to the average of the aggregate fair market values of both the real and personal property contained in the property at the beginning and at the end of such taxable year (the “personal property ratio”). With respect to each property, we believe either that the personal property ratio is less than 15% or that any rent attributable to personal property will not jeopardize our ability to qualify as a REIT. There can be no assurance, however, that the Internal Revenue Service would not challenge our calculation of a personal property ratio, or that a court would not uphold such assertion. If such a challenge were successfully asserted, we could fail to satisfy the 75% or 95% gross income test and thus lose our REIT status.

Fourth, we cannot furnish or render noncustomary services to the tenants of our hotels, or manage or operate our hotels, other than through an independent contractor who is adequately compensated and from whom we do not derive or receive any income or through a TRS. However, we need not provide services through an “independent contractor” or a TRS, but instead may provide services directly to our tenants, if the services are “usually or customarily rendered” in connection with the rental of space for occupancy only and are not considered to be provided for the tenants’ convenience. In addition, we may provide a minimal amount of “noncustomary” services to the tenants of a property, other than through an independent contractor, or a TRS, as long as our income from the services does not exceed 1% of our income from the related property. We will not perform any services other than customary ones for our lessees, unless such services are provided through independent contractors or TRSs. Furthermore, we have represented that, with respect to other hotels that we acquire in the future, we will not perform noncustomary services for the lessees of the property to the extent that the provision of such services would jeopardize our REIT status.

If a portion of the rent that we receive from a property does not qualify as “rents from real property” because the rent attributable to personal property exceeds 15% of the total rent for a taxable year, the portion of the rent that is attributable to personal property will not be qualifying income for purposes of either the 75% or 95% gross income test. Thus, if such rent attributable to personal property, plus any other income that is nonqualifying income for purposes of the 95% gross income test, during a taxable year exceeds 5% of our gross income during the year and we do not qualify for certain statutory relief provisions, we would lose our REIT status. If, however, the rent from a particular property does not qualify as “rents from real property” because either (1) the rent is considered based on the income or profits of the related lessee, (2) the lessee either is a related party tenant or fails to qualify for the exception to the related party tenant rule for qualifying TRSs or (3) we furnish noncustomary services to the tenants of the property, or manage or operate the property, other than through a qualifying independent contractor or a TRS, none of the rent from that property would qualify as “rents from real property.” In that case, we might lose our REIT status because we would be unable to satisfy either the 75% or 95% gross income test.

In addition to the rent, the TRS Lessee is required to pay certain additional charges. To the extent that such additional charges represent either (1) reimbursements of amounts that we are obligated to pay to third parties,

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such as a lessee’s proportionate share of a property’s operational or capital expenses or (2) penalties for nonpayment or late payment of such amounts, such charges should qualify as “rents from real property.” However, to the extent that such charges do not qualify as “rents from real property,” they instead will be treated as interest that qualifies for the 95% gross income test.

Prohibited Transactions

A REIT will incur a 100% tax on the net income derived from any sale or other disposition of property, other than foreclosure property, that the REIT holds primarily for sale to customers in the ordinary course of a trade or business. We believe that none of our assets will be held primarily for sale to customers and that a sale of any of our assets will not be in the ordinary course of our business. Whether a REIT holds an asset “primarily for sale to customers in the ordinary course of a trade or business” depends, however, on the facts and circumstances in effect from time to time, including those related to a particular asset. Nevertheless, we will attempt to comply with the terms of safe-harbor provisions in the federal income tax laws prescribing when an asset sale will not be characterized as a prohibited transaction. We cannot assure you, however, that we can comply with the safe-harbor provisions or that we will avoid owning property that may be characterized as property that we hold “primarily for sale to customers in the ordinary course of a trade or business.”

Foreclosure Property

We will be subject to tax at the maximum corporate rate on any income from foreclosure property, other than income that otherwise would be qualifying income for purposes of the 75% gross income test, less expenses directly connected with the production of that income. However, gross income from foreclosure property will qualify under the 75% and 95% gross income tests. Foreclosure property is any real property, including interests in real property, and any personal property incident to such real property:

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that is acquired by a REIT as the result of the REIT having bid on such property at foreclosure, or having otherwise reduced such property to ownership or possession by agreement or process of law, after there was a default or default was imminent on a lease of such property or on indebtedness that such property secured;

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for which the related loan was acquired by the REIT at a time when the default was not imminent or anticipated; and

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for which the REIT makes a proper election to treat the property as foreclosure property.

However, a REIT will not be considered to have foreclosed on a property where the REIT takes control of the property as a mortgagee-in-possession and cannot receive any profit or sustain any loss except as a creditor of the mortgagor. Property generally ceases to be foreclosure property at the end of the third taxable year following the taxable year in which the REIT acquired the property, earlier or longer if an extension is granted by the Secretary of the Treasury. However, this grace period terminates and foreclosure property ceases to be foreclosure property on the first day:

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on which a lease is entered into for the property that, by its terms, will give rise to income that does not qualify for purposes of the 75% gross income test, or any amount is received or accrued, directly or indirectly, pursuant to a lease entered into on or after such day that will give rise to income that does not qualify for purposes of the 75% gross income test;

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on which any construction takes place on the property, other than completion of a building or any other improvement, where more than 10% of the construction was completed before default became imminent; or

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which is more than 90 days after the day on which the REIT acquired the property and the property is used in a trade or business which is conducted by the REIT, other than through an independent contractor from whom the REIT itself does not derive or receive any income.

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Hedging Transactions

Although we currently do not intend to do so, from time to time, we may enter into hedging transactions with respect to one or more of our assets or liabilities. Our hedging activities may include entering into interest rate swaps, caps, and floors, options to purchase such items, and futures and forward contracts. Any periodic income or gain from that we may recognize from the disposition of any financial instrument for these or similar transactions to hedge indebtedness we incur to acquire or carry “real estate assets” in our initial taxable year ending December 31, 2004 should be qualifying income for purposes of the 95% gross income test, but not the 75% gross income test. Beginning with our taxable year ending December 31, 2005, income and gain from “hedging transactions” will be excluded from gross income for purposes of the 95% gross income test (but not the 75% gross income test). A “hedging transaction” includes any transaction entered into in the normal course of our trade or business primarily to manage the risk of interest rate, price changes, or currency fluctuations with respect to borrowings made or to be made, or ordinary obligations incurred or to be incurred, to acquire or carry real estate assets. We are required to clearly identify any such hedging transaction before the close of the day on which it was acquired, originated or entered into. We intend to structure any hedging or similar transactions that we may enter into so as not to jeopardize our status as a REIT.

Failure to Satisfy Gross Income Tests

If we fail to satisfy one or both of the gross income tests for any taxable year, we nevertheless may qualify as a REIT for that year if we qualify for relief under certain provisions of the federal income tax laws. For our taxable year ending December 31, 2004, those relief provisions generally will be available if:

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our failure to meet such tests is due to reasonable cause and not due to willful neglect;

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we attach a schedule of the sources of our income to our tax return; and

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any incorrect information on the schedule was not due to fraud with intent to evade tax.

For our taxable year beginning January 1, 2005, those relief provisions generally will be available if:

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our failure to meet such tests is due to reasonable cause and not due to willful neglect;

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following such failure for any taxable year, we file a schedule of the items of our gross income in accordance with regulations prescribed by the Secretary of the Treasury.

We cannot predict, however, whether in all circumstances we would qualify for the relief provisions. In addition, as discussed above in “Material Federal Income Tax Consequences – Taxation of our Company,” even if the relief provisions apply, we would incur a 100% tax on the gross income attributable to the greater of the amount by which we fail the 75% gross income test or the 95% gross income test and the amount by which 90% (95% for our taxable year beginning January 1, 2005) of our gross income exceeds the amount of income qualifying under the 95% gross income test, multiplied in either case by a fraction intended to reflect our profitability.

Asset Tests

To maintain our qualification as a REIT, we also must satisfy the following asset tests at the end of each quarter of each taxable year.

First, at least 75% of the value of our total assets must consist of:

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interests in real property, including leaseholds and options to acquire real property and leaseholds;

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interests in mortgages on real property;

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stock in other REITs;

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investments in stock or debt instruments during the one-year period following our receipt of new capital received either through equity offerings, or offerings of public debt with at least a five-year maturity;

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cash or cash items, including certain receivables; and

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government securities.

Second, except with respect to the securities of a TRS and the securities described in the first test above:

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the value of our interest in any one issuer’s securities may not exceed 5% of the value of our total assets; and

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we may not own more than 10% of the voting power or value of any one issuer’s outstanding securities.

Third, no more than 20% of the value of our total assets may consist of the securities of one or more TRSs.

Fourth, no more than 25% of the value of our total assets may consist of the securities of TRSs, other taxable subsidiaries and other assets that are not qualifying assets for purposes of the 75% asset test.

For purposes of the second asset test, the term “securities” does not include stock in another REIT, equity or debt securities of a qualified REIT subsidiary or TRS (except that debt securities of a TRS are treated as securities for purposes of the third asset test), mortgage loans that constitute real estate assets, or equity interests in a partnership. For purposes of the 10% value test, the term “securities” does not include “straight debt” securities, any loan to an individual or estate, any section 467 rental agreement other than with a related party tenant, any obligation to pay rents from real property, obligations issued by certain governmental entities and any security issued by a REIT. In general, straight debt securities include straight debt securities issued by a corporation or partnership unless the REIT or any of its controlled taxable REIT subsidiaries holds securities in such issuer other than permitted securities and such securities have a value greater than 1% of the issuer’s outstanding securities. For purposes of the 10% value test, any debt instruments issued by a partnership (other than straight debt securities which already are excluded from the term “securities”) are not considered “securities” to the extent of our percentage interest in the partnership, based on our proportionate interest in the partnership’s equity interests and certain debt securities. In addition, for purposes of the 10% value test, any debt instrument of an entity treated as a partnership for federal income tax purposes not described in the preceding two sentences will not be treated as a “security” if at least 75% of the partnership’s gross income, excluding income from prohibited transaction, is qualifying income for purposes of the 75% gross income test described above in “— Requirements for Qualification — Gross Income Tests.”

Failure to Satisfy Asset Tests

We will monitor the status of our assets for purposes of the various asset tests and will manage our portfolio in order to comply at all times with such tests. If we fail to satisfy the asset tests at the end of a calendar quarter, we will not lose our REIT status if:

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we satisfied the asset tests at the end of the preceding calendar quarter; and

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the discrepancy between the value of our assets and the asset test requirements arose from changes in the market values of our assets and was not wholly or partly caused by the acquisition of one or more non-qualifying assets.

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of 1% of our assets at the end of the relevant quarter and $10,000,000. For violations of any of the asset tests due to reasonable cause that are larger than this amount, we still could avoid disqualification if, in addition to the above requirements, we prepare a schedule for such quarter describing the non-qualifying assets and file it in accordance with regulations prescribed by the Secretary of the Treasury and pay a tax equal to the greater of $50,000 or 35% of the net income generated by the non-qualifying assets.

If we did not satisfy the condition described in the second item, above, we still could avoid disqualification by eliminating any discrepancy within 30 days after the close of the calendar quarter in which it arose. Effective for our taxable year beginning January 1, 2005, if we fail to meet the second or third asset tests at the end of any quarter and such failure is not cured within 30 days thereafter, we still could avoid disqualification by disposing of sufficient assets within 6 months of the identification of the failure, if the violation does not exceed the lesser of 1% of our assets at the end of the relevant quarter and $10,000,000. For violations due to reasonable cause that are larger than this amount, we still could avoid disqualification if, in addition to the above requirements, we prepare a schedule for such quarter describing the non-qualifying assets and file it in accordance with regulations prescribed by the Secretary of the Treasury and pay a tax equal to the greater of $50,000 or 35% of the net income generated by the non-qualifying assets.

Distribution Requirements

Each taxable year, we must distribute dividends, other than capital gain dividends and deemed dividends of retained capital gain, to our stockholders in an aggregate amount at least equal to:

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the sum of

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90% of our “REIT taxable income,” computed without regard to the dividends paid deduction and our net capital gain or loss, and

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90% of our after-tax net income, if any, from foreclosure property, minus

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the sum of certain items of non-cash income in excess of 5% of our REIT taxable income, computed without regard to the dividends paid deduction.

We must pay such distributions in the taxable year to which they relate, or in the following taxable year if we declare the distribution before we timely file our federal income tax return for the year and pay the distribution on or before the first regular dividend payment date after such declaration.

We will pay federal income tax on taxable income, including net capital gain, that we do not distribute to stockholders. Furthermore, if we fail to distribute during a calendar year, or by the end of January following the calendar year in the case of distributions with declaration and record dates falling in the last three months of the calendar year, at least the sum of:

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85% of our REIT ordinary income for such year,

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95% of our REIT capital gain income for such year, and

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any undistributed taxable income from prior periods,

we will incur a 4% nondeductible excise tax on the excess of such required distribution over the amounts we actually distribute. We may elect to retain and pay income tax on the net long-term capital gain we receive in a taxable year. See “Material Federal Income Tax Consequences – Taxation of Taxable U.S. Stockholders.” If we so elect, we will be treated as having distributed any such retained amount for purposes of the 4% nondeductible excise tax described above. We intend to make timely distributions sufficient to satisfy the annual distribution requirements and to avoid corporate income tax and the 4% nondeductible excise tax.

It is possible that, from time to time, we may experience timing differences between the actual receipt of income and actual payment of deductible expenses and the inclusion of that income and deduction of such

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expenses in arriving at our REIT taxable income. For example, we may not deduct recognized capital losses from our “REIT taxable income.” Further, it is possible that, from time to time, we may be allocated a share of net capital gain attributable to the sale of depreciated property that exceeds our allocable share of cash attributable to that sale. As a result of the foregoing, we may have less cash than is necessary to distribute all of our taxable income and thereby avoid corporate income tax and the excise tax imposed on certain undistributed income. In such a situation, we may need to borrow funds or issue additional common or preferred stock to enable us to make the required distribution.

Under certain circumstances, we may be able to correct a failure to meet the distribution requirement for a year by paying “deficiency dividends” to our stockholders in a later year. We may include such deficiency dividends in our deduction for dividends paid for the earlier year. Although we may be able to avoid income tax on amounts distributed as deficiency dividends, we will be required to pay interest to the Internal Revenue Service based upon the amount of any deduction we take for deficiency dividends.

Recordkeeping Requirements

We must maintain certain records in order to qualify as a REIT. In addition, to avoid a monetary penalty, we must request on an annual basis information from our stockholders designed to disclose the actual ownership of our outstanding stock. We intend to comply with these requirements.

Failure to Qualify

Beginning with our taxable year starting January 1, 2005, if we fail to satisfy one or more requirements for REIT qualification, other than the gross income tests and the asset tests, we could avoid disqualification if our failure is due to reasonable cause and not to willful neglect and we pay a penalty of $50,000 for each such failure. In addition, there are relief provisions for a failure of the gross income tests and asset tests, as described in “—Income Tests” and “—Asset Tests.”

If we fail to qualify as a REIT in any taxable year, and no relief provision applies, we would be subject to federal income tax and any applicable alternative minimum tax on our taxable income at regular corporate rates. In calculating our taxable income in a year in which we fail to qualify as a REIT, we would not be able to deduct amounts paid out to stockholders. In fact, we would not be required to distribute any amounts to stockholders in that year. In such event, to the extent of our current and accumulated earnings and profits, all distributions to stockholders would be taxable as dividend income. Subject to certain limitations of the federal income tax laws, domestic corporate stockholders might be eligible for the dividends received deduction and individual stockholders may be eligible for a reduced tax rate on “qualified dividend income” received from regular C corporations. Unless we qualified for relief under specific statutory provisions, we also would be disqualified from taxation as a REIT for the four taxable years following the year during which we ceased to qualify as a REIT. We cannot predict whether in all circumstances we would qualify for such statutory relief.

Taxable REIT Subsidiaries

As described above, we may own up to 100% of the stock of one or more taxable REIT subsidiaries. A TRS is a fully taxable corporation that may earn income that would not be qualifying income if earned directly by us. A TRS may provide services to our lessees and perform activities unrelated to our lessees, such as third-party management, development, and other independent business activities. However, a TRS may not directly or indirectly operate or manage any hotels or health care facilities or provide rights to any brand name under which any hotel or health care facility is operated.

We and our corporate subsidiary must elect for the subsidiary to be treated as a TRS. A corporation of which a qualifying TRS directly or indirectly owns more than 35% of the voting power or value of the stock will automatically be treated as a TRS. Overall, no more than 20% of the value of our assets may consist of securities of one or more TRSs, and no more than 25% of the value of our assets may consist of the securities of TRSs and other assets that are not qualifying assets for purposes of the 75% asset test.

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Rent that we receive from a TRS will qualify as “rents from real property” as long as the property is operated on behalf of the TRS by a person who qualifies as an “independent contractor” and who is, or is related to a person who is, actively engaged in the trade or business of operating “qualified lodging facilities” for any person unrelated to us and the TRS (an “eligible independent contractor”). A “qualified lodging facility” is a hotel, motel, or other establishment more than one-half of the dwelling units in which are used on a transient basis, unless wagering activities are conducted at or in connection with such facility by any person who is engaged in the business of accepting wagers and who is legally authorized to engage in such business at or in connection with such facility. A “qualified lodging facility” includes customary amenities and facilities operated as part of, or associated with, the lodging facility as long as such amenities and facilities are customary for other properties of a comparable size and class owned by other unrelated owners.

We have formed one TRS, MHI Holding, to be the holding company for our TRS Lessee and any TRS we form in the future. Our TRS Lessee is a single member limited liability company owned by our TRS and is disregarded as an entity separate from our TRS for federal income tax purposes. Our TRS Lessee will engage independent hotel managers to operate the related hotels on its behalf. Furthermore, we have represented that, with respect to properties that we lease to a TRS in the future, each such TRS will engage an “eligible independent contractor” to manage and operate the hotels leased by such TRS. MHI Hotels Services will qualify as “eligible independent contractor.”

The TRS rules limit the deductibility of interest paid or accrued by a TRS to us to assure that the TRS is subject to an appropriate level of corporate taxation. Further, these rules impose a 100% excise tax on certain transactions between a TRS and us or our tenants that are not conducted on an arm’s-length basis. We believe that all transactions between us and our TRS will be conducted on an arm’s-length basis.

Taxation of Taxable U.S. Stockholders

The term “U.S. stockholder” means a beneficial owner of our common stock that, for United States federal income tax purposes, is:

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a citizen or resident of the United States;

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a corporation (including an entity treated as a corporation for U.S. federal income tax purposes) created or organized under the laws of the United States or of a political subdivision of the United States;

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an estate whose income is subject to U.S. federal income taxation regardless of its source; or

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any trust if (1) a U.S. court is able to exercise primary supervision over the administration of such trust and one or more U.S. persons have the authority to control all substantial decisions of the trust or (2) it has a valid election in place to be treated as a U.S. person.

If a partnership or an entity treated as a partnership for federal income tax purposes holds shares of our common stock, the federal income tax treatment of a partner in the partnership will generally depend on the status of the partner and the activities of the partnership. If you are a partner in a partnership holding shares of our common stock, you should consult your own tax advisor regarding the consequences of the ownership and disposition of shares of our common stock by the partnership.

As long as we qualify as a REIT, a U.S. stockholder must generally take into account as ordinary income distributions made out of our current or accumulated earnings and profits that we do not designate as capital gain dividends or retained long-term capital gain. A U.S. stockholder will not qualify for the dividends received deduction generally available to corporations. In addition, dividends paid to a U.S. stockholder generally will not qualify for the new 15% tax rate for “qualified dividend income.”

The Jobs and Growth Tax Relief Reconciliation Act of 2003 reduced the maximum tax rate for qualified dividend income from 38.6% to 15% for tax years 2003 through 2008. Without future congressional action, the maximum tax rate on qualified dividend income will move to 35% in 2009 and 39.6% in 2011. Qualified

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dividend income generally includes dividends paid to individuals, trusts and estates by domestic C corporations and certain qualified foreign corporations. Because we are not generally subject to federal income tax on the portion of our REIT taxable income distributed to our stockholders (see “Taxation of our Company” above), our dividends generally will not be eligible for the new 15% rate on qualified dividend income. As a result, our ordinary REIT dividends will continue to be taxed at the higher tax rate applicable to ordinary income.

Currently, the highest marginal individual income tax rate on ordinary income is 35%. However, the 15% tax rate for qualified dividend income will apply to our ordinary REIT dividends (i) attributable to dividends received by us from non-REIT corporations, such as a TRS, (ii) to the extent attributable to income upon which we have paid corporate income tax (e.g., to the extent that we distribute less than 100% of our taxable income). In general, to qualify for the reduced tax rate on qualified dividend income, a stockholder must hold our common stock for more than 60 days during the 121-day period beginning on the date that is 60 days before the date on which our common stock become ex-dividend.

We may elect to retain and pay income tax on the net long-term capital gain that we receive in a taxable year. In that case, a U.S. stockholder would be taxed on its proportionate share of our undistributed long-term capital gain. The U.S. stockholder would receive a credit or refund for its proportionate share of the tax we paid. The U.S. stockholder would increase the basis in its common stock by the amount of its proportionate share of our undistributed long-term capital gain, minus its share of the tax we paid.

A U.S. stockholder will not incur tax on the amount of a distribution that is in excess of our current and accumulated earnings and profits if such amount does not exceed the adjusted basis of the U.S. stockholder’s common stock. Instead, such amount will reduce the adjusted basis of such common stock. A U.S. stockholder will recognize the amount of a distribution that exceeds both our current and accumulated earnings and profits and the U.S. stockholder’s adjusted basis in his or her common stock as long-term capital gain, or short-term capital gain if the common stock has been held for one year or less, assuming the common stock is a capital asset in the hands of the U.S. stockholder. In addition, if we declare a distribution in October, November, or December of any year that is payable to a U.S. stockholder of record on a specified date in any such month, such distribution shall be treated as both paid by us and received by the U.S. stockholder on December 31 of such year, provided that we actually pay the distribution during January of the following calendar year.

U.S. stockholders may not include in their individual income tax returns any of our net operating losses or capital losses. Instead, these losses are generally carried over by us for potential offset against our future income. Taxable distributions from us and gain from the disposition of the common stock will not be treated as passive activity income and, therefore, stockholders generally will not be able to apply any “passive activity losses,” such as losses from certain types of limited partnerships in which the stockholder is a limited partner, against such income. In addition, taxable distributions from us and gain from the disposition of our common stock generally will be treated as investment income for purposes of the investment interest limitations. We will notify stockholders after the close of our taxable year as to the portions of the distributions attributable to that year that constitute ordinary income, return of capital, and capital gain.

Taxation of U.S. Stockholders on the Disposition of Common Stock

In general, a U.S. stockholder who is not a dealer in securities must treat any gain or loss realized upon a taxable disposition of our common stock as long-term capital gain or loss if the U.S. stockholder has held the common stock for more than one year and otherwise as short-term capital gain or loss. However, a U.S. stockholder must treat any loss upon a sale or exchange of common stock held by such stockholder for six-months or less as a long-term capital loss to the extent of capital gain dividends and any other actual or deemed distributions from us that such U.S. stockholder treats as long-term capital gain. All or a portion of any loss that a U.S. stockholder realizes upon a taxable disposition of our common stock may be disallowed if the U.S. stockholder purchases other shares of our common stock within 30 days before or after the disposition.

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Capital Gains and Losses

The tax rate differential between capital gain and ordinary income for non-corporate taxpayers may be significant. A U.S. stockholder generally must hold a capital asset for more than one year for gain or loss derived from its sale or exchange to be treated as long-term capital gain or loss. The highest marginal individual income tax rate currently is 35%. The maximum tax rate on long-term capital gain applicable to non-corporate U.S. stockholders currently is 15% for sales and exchanges of assets held for more than one year. The maximum tax rate on long-term capital gain from the sale or exchange of “section 1250 property,” or depreciable real property, is 25% to the extent that such gain would have been treated as ordinary income if the property were “section 1245 property.” With respect to distributions that we designate as capital gain dividends and any retained capital gain that we are deemed to distribute, we generally may designate whether such a distribution is taxable to our non-corporate stockholders at a 15% or 25% rate. In addition, the characterization of income as capital gain or ordinary income may affect the deductibility of capital losses. A non-corporate U.S. stockholder may deduct capital losses not offset by capital gains against its ordinary income only up to a maximum annual amount of $3,000. A non-corporate U.S. stockholder may carry forward unused capital losses indefinitely. A corporate U.S. stockholder must pay tax on its net capital gain at ordinary corporate rates. A corporate U.S. stockholder can deduct capital losses only to the extent of capital gains, with unused losses being carried back three years and forward five years.

Information Reporting Requirements and Backup Withholding

We will report to our stockholders and to the Internal Revenue Service the amount of distributions we pay during each calendar year, and the amount of tax we withhold, if any. Under the backup withholding rules, a U.S. stockholder may be subject to backup withholding at a rate of up to 28% with respect to distributions unless the holder:

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is a corporation or comes within certain other exempt categories and, when required, demonstrates this fact; or

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provides a taxpayer identification number, certifies as to no loss of exemption from backup withholding, and otherwise complies with the applicable requirements of the backup withholding rules.

A U.S. stockholder who does not provide us with its correct taxpayer identification number also may be subject to penalties imposed by the Internal Revenue Service. Any amount paid as backup withholding will be creditable against the U.S. stockholder’s income tax liability. In addition, we may be required to withhold a portion of capital gain distributions to any U.S. stockholders who fail to certify their non-foreign status to us. For a discussion of the backup withholding rules as applied to non-U.S. stockholders, see the section entitled “Material Federal Income Tax Considerations – Taxation of Non-U.S. Stockholders” in this prospectus.

Taxation of Tax-Exempt Stockholders

Tax-exempt entities, including qualified employee pension and profit sharing trusts and individual retirement accounts, generally are exempt from federal income taxation. However, they are subject to taxation on their unrelated business taxable income. While many investments in real estate generate unrelated business taxable income, the Internal Revenue Service has issued a ruling that dividend distributions from a REIT to an exempt employee pension trust do not constitute unrelated business taxable income so long as the exempt employee pension trust does not otherwise use the shares of the REIT in an unrelated trade or business of the pension trust. Based on that ruling, amounts that we distribute to tax-exempt stockholders generally should not constitute unrelated business taxable income. However, if a tax-exempt stockholder were to finance its acquisition of common stock with debt, a portion of the income that it receives from us would constitute unrelated business taxable income pursuant to the “debt-financed property” rules. Furthermore, social clubs, voluntary employee benefit associations, supplemental unemployment benefit trusts and qualified group legal services plans that are exempt from taxation under special provisions of the federal income tax laws are subject to different unrelated business taxable income rules, which generally will require them to characterize

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distributions that they receive from us as unrelated business taxable income. Finally, in certain circumstances, a qualified employee pension or profit sharing trust that owns more than 10% of our stock must treat a percentage of the dividends that it receives from us as unrelated business taxable income. Such percentage is equal to the gross income we derive from an unrelated trade or business, determined as if we were a pension trust, divided by our total gross income for the year in which we pay the dividends. That rule applies to a pension trust holding more than 10% of our stock only if:

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the percentage of our dividends that the tax-exempt trust must treat as unrelated business taxable income is at least 5%;

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we qualify as a REIT by reason of the modification of the rule requiring that no more than 50% of our stock be owned by five or fewer individuals that allows the beneficiaries of the pension trust to be treated as holding our stock in proportion to their actuarial interests in the pension trust; and

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either

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one pension trust owns more than 25% of the value of our stock; or

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a group of pension trusts individually holding more than 10% of the value of our stock collectively owns more than 50% of the value of our stock.

Taxation of Non-U.S. Stockholders

The rules governing U.S. federal income taxation of our stockholders who are not U.S. stockholders, such as nonresident alien individuals, foreign corporations, foreign partnerships, and other foreign stockholders (“Non-U.S. stockholders”), are complex. This section is only a summary of such rules. We urge Non-U.S. stockholders to consult their own tax advisors to determine the impact of federal, state, and local income tax laws on ownership of the common stock, including any reporting requirements.

A Non-U.S. stockholder that receives a distribution that is not attributable to gain from our sale or exchange of United States real property interests, as defined below, and that we do not designate as a capital gain dividend or retained capital gain, will recognize ordinary income to the extent that we pay the distribution out of our current or accumulated earnings and profits. A withholding tax equal to 30% of the gross amount of the distribution ordinarily will apply unless an applicable tax treaty reduces or eliminates the tax. However, if a distribution is treated as effectively connected with the Non-U.S. stockholder’s conduct of a U.S. trade or business, the Non-U.S. stockholder generally will be subject to federal income tax on the distribution at graduated rates, in the same manner as U.S. stockholders are taxed on distributions and also may be subject to the 30% branch profits tax in the case of a corporate Non-U.S. stockholder. We plan to withhold U.S. income tax at the rate of 30% on the gross amount of any distribution paid to a Non-U.S. stockholder unless either:

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a lower treaty rate applies and the Non-U.S. stockholder files an IRS Form W-8BEN evidencing eligibility for that reduced rate with us; or

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the Non-U.S. stockholder files an IRS Form W-8ECI with us claiming that the distribution is effectively connected income.

A Non-U.S. stockholder will not incur tax on a distribution in excess of our current and accumulated earnings and profits if the excess portion of the distribution does not exceed the adjusted basis of its common stock. Instead, the excess portion of the distribution will reduce the adjusted basis of that common stock. A Non-U.S. stockholder will be subject to tax on a distribution that exceeds both our current and accumulated earnings and profits and the adjusted basis of the common stock, if the Non-U.S. stockholder otherwise would be subject to tax on gain from the sale or disposition of its common stock, as described below. Because we generally cannot determine at the time we make a distribution whether the distribution will exceed our current and accumulated earnings and profits, we normally will withhold tax on the entire amount of any distribution at the same rate as

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we would withhold on a dividend. However, a Non-U.S. stockholder may obtain a refund from the IRS of amounts that we withhold if we later determine that a distribution in fact exceeded our current and accumulated earnings and profits.

We may be required to withhold 10% of any distribution that exceeds our current and accumulated earnings and profits. Consequently, although we intend to withhold at a rate of 30% on the entire amount of any distribution, to the extent that we do not do so, we will withhold at a rate of 10% on any portion of a distribution not subject to withholding at a rate of 30%.

If we qualify as a REIT for our first taxable year, a Non-U.S. stockholder will incur tax on distributions that are attributable to gain from our sale or exchange of “United States real property interests” under special provisions of the federal income tax laws known as “FIRPTA.” The term “United States real property interests” includes interests in real property located in the U.S. and shares in corporations at least 50% of whose assets consist of such interests in real property. Under those rules, a Non-U.S. stockholder is taxed on distributions attributable to gain from sales of United States real property interests as if the gain were effectively connected with a U.S. business of the Non-U.S. stockholder. A Non-U.S. stockholder thus would be taxed on such a distribution at the normal capital gain rates applicable to U.S. stockholders, subject to applicable alternative minimum tax and a special alternative minimum tax in the case of a nonresident alien individual. A non-U.S. corporate stockholder not entitled to treaty relief or exemption also may be subject to the 30% branch profits tax on such a dividend. We must withhold 35% of any distribution that we designate as a capital gain distribution. A Non-U.S. stockholder may receive a credit against its U.S. tax liability for the amount we withhold. Effective for our taxable year beginning January 1, 2005, a Non-U.S. stockholder who receives a distribution with respect to a class of stock that is regularly traded on an established securities market located in the United States, and does not own more than 5% of our stock at any time during the taxable year, will be treated as receiving an ordinary REIT distribution subject generally to 30% withholding, even if such distribution is otherwise a capital gain dividend.

A Non-U.S. stockholder generally will not incur tax under FIRPTA on a sale or other disposition of our stock as long as during the five-year period ending on the date of the distribution or disposition non-U.S. persons hold, directly or indirectly, less than 50% in value of our stock. We cannot assure you that this test will be met. However, a Non-U.S. stockholder that owned, actually or constructively, 5% or less of our common stock at all times during a specified testing period will not incur tax under FIRPTA on a sale or other disposition of our common stock if the common stock is “regularly traded” on an established securities market. Because our common stock is expected to be regularly traded on an established securities exchange, a Non-U.S. stockholder should not incur tax under FIRPTA as long as it owns, actually or constructively, no more than 5% of our common stock. If the gain on the sale of the common stock were taxed under FIRPTA, a Non-U.S. stockholder would be taxed on that gain in the same manner as U.S. stockholders subject to applicable alternative minimum tax, a special alternative minimum tax in the case of nonresident alien individuals, and the possible application of the 30% branch profits tax in the case of Non-U.S. corporations. In addition, the gross proceeds of any sale or other disposition of our common stock to which FIRPTA applies would be subject to withholding equal to 10% of such gross proceeds. Furthermore, a Non-U.S. stockholder generally will incur tax on gain not subject to FIRPTA if:

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the gain is effectively connected with the Non-U.S. stockholder’s U.S. trade or business, in which case the Non-U.S. stockholder will be subject to the same treatment as U.S. stockholders with respect to such gain, or

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the Non-U.S. stockholder is a nonresident alien individual who was present in the United States for 183 days or more during the taxable year and has a “tax home” in the United States, in which case the Non-U.S. stockholder will incur a 30% tax on his or her capital gains.

Tax Aspects of Our Investments in Our Operating Partnership

The following discussion summarizes certain federal income tax considerations applicable to our direct or indirect investments in MHI Hospitality, L.P., our operating partnership, and any subsidiary partnerships or

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limited liability companies that we form or acquire (each individually a “Partnership” and, collectively, the “Partnerships”). The discussion does not cover state or local tax laws or any federal tax laws other than income tax laws.

Classification as Partnerships

We are entitled to include in our income our distributive share of each Partnership’s income and to deduct our distributive share of each Partnership’s losses only if such Partnership is classified for federal income tax purposes as a partnership (or an entity that is disregarded for federal income tax purposes if the entity has only one owner or member), rather than as a corporation or an association taxable as a corporation. An unincorporated entity with at least two owners or members will be classified as a partnership, rather than as a corporation, for federal income tax purposes if it:

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is treated as a partnership under the Treasury regulations relating to entity classification (the “check-the-box regulations”); and

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is not a “publicly traded” partnership.

Under the check-the-box regulations, an unincorporated entity with at least two owners or members may elect to be classified either as an association taxable as a corporation or as a partnership. If such an entity fails to make an election, it generally will be treated as a partnership for federal income tax purposes. It is anticipated that each Partnership intends to be classified as a partnership for federal income tax purposes (or an entity that is disregarded for federal income tax purposes if the entity has only one owner or member), and no Partnership will elect to be treated as an association taxable as a corporation under the check-the-box regulations.

A publicly traded partnership is a partnership whose interests are traded on an established securities market or are readily tradable on a secondary market or the substantial equivalent thereof. A publicly traded partnership will not, however, be treated as a corporation for any taxable year if 90% or more of the partnership’s gross income for each taxable year beginning after December 31, 1987 in which it was classified as a publicly traded partnership consisted of certain passive-type income, including real property rents, gains from the sale or other disposition of real property, interest and dividends (the “90% passive income exception”).

Treasury regulations provide limited safe harbors from the definition of a publicly traded partnership. Pursuant to one of those safe harbors (the “private placement exclusion”), interests in a partnership will not be treated as readily tradable on a secondary market or the substantial equivalent thereof if (1) all interests in the partnership were issued in a transaction or transactions that were not required to be registered under the Securities Act of 1933, as amended, and (2) the partnership does not have more than 100 partners at any time during the partnership’s taxable year. In determining the number of partners in a partnership, a person owning an interest in a partnership, grantor trust, or S corporation that owns an interest in the partnership is treated as a partner in such partnership only if (1) substantially all of the value of the owner’s interest in the entity is attributable to the entity’s direct or indirect interest in the partnership and (2) a principal purpose of the use of the entity is to permit the partnership to satisfy the 100-partner limitation. Each Partnership is expected to qualify for the private placement exclusion.

We have not requested, and do not intend to request, a ruling from the Internal Revenue Service that the Partnerships will be classified as partnerships for federal income tax purposes. If for any reason a Partnership were taxable as a corporation, rather than as a partnership, for federal income tax purposes, we would not be able to qualify as a REIT. See “Material Federal Income Tax Considerations - Income Tests” and “- Asset Tests” in this prospectus. In addition, any change in a Partnership’s status for tax purposes might be treated as a taxable event, in which case we might incur tax liability without any related cash distribution. See “Material Federal Income Tax Considerations - Distribution Requirements” in this prospectus. Further, items of income and deduction of such Partnership would not pass through to its partners, and its partners would be treated as stockholders for tax purposes. Consequently, such Partnership would be required to pay income tax at corporate

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rates on its net income, and distributions to its partners would constitute dividends that would not be deductible in computing such Partnership’s taxable income.

Income Taxation of the Partnerships and their Partners

Partners, Not the Partnerships, Subject to Tax

A partnership is not a taxable entity for federal income tax purposes. Rather, we are required to take into account our allocable share of each Partnership’s income, gains, losses, deductions, and credits for any taxable year of such Partnership ending within or with our taxable year, without regard to whether we have received or will receive any distribution from such Partnership.

Partnership Allocations

Although a partnership agreement generally will determine the allocation of income and losses among partners, such allocations will be disregarded for tax purposes if they do not comply with the provisions of the federal income tax laws governing partnership allocations. If an allocation is not recognized for federal income tax purposes, the item subject to the allocation will be reallocated in accordance with the partners’ interests in the partnership, which will be determined by taking into account all of the facts and circumstances relating to the economic arrangement of the partners with respect to such item. Each Partnership’s allocations of taxable income, gain and loss are intended to comply with the requirements of the federal income tax laws governing partnership allocations.

Tax Allocations With Respect to Contributed Properties

Income, gain, loss and deduction attributable to appreciated or depreciated property that is contributed to a partnership in exchange for an interest in the partnership must be allocated in a manner such that the contributing partner is charged with, or benefits from, respectively, the unrealized gain or unrealized loss associated with the property at the time of the contribution. The amount of such unrealized gain or unrealized loss (“built-in gain” or “built-in loss”) is generally equal to the difference between the fair market value and the adjusted tax basis of the contributed property at the time of contribution (a “book-tax difference”). Such allocations are solely for federal income tax purposes and do not affect the book capital accounts or other economic or legal arrangements among the partners. The U.S. Treasury Department has issued regulations requiring partnerships to use a “reasonable method” for allocating items with respect to which there is a book-tax difference and outlining several reasonable allocation methods. It is expected that MHI Hospitality, L.P., our operating partnership, generally will use the “traditional method” for making such allocations.

Under our operating partnership’s partnership agreement, depreciation or amortization deductions of the operating partnership generally will be allocated among the partners in accordance with their respective interests in the operating partnership, except to the extent that the operating partnership is required under the federal income tax laws governing partnership allocations to use a method for allocating tax depreciation deductions attributable to contributed properties that results in our receiving a disproportionate share of such deductions. With respect to contributed properties that have a tax basis that is lower than their capital account value, the operating partnership will use the “traditional method” under Section 704(c) of the Code for allocating depreciation deductions. As a result of the operating partnership’s use of the traditional method, our tax depreciation deductions attributable to properties contributed to our operating partnership by other partners may be lower and gain on a sale of such property may be higher than they would have been if our operating partnership had acquired those properties for cash. If we receive lower tax depreciation deductions from contributed properties, we would recognize increased taxable income, which could increase the annual distributions that we are required to make under the federal income tax rules applicable to REITs or cause a higher portion of our distributions to be treated as taxable dividend income instead of a tax-free return of capital or a capital gain. See “Material Federal Income Tax Consequences - Taxation of U.S. Taxable Stockholders.” In

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addition, gain or loss on the sale of a property that has been contributed, in whole or in part, to the operating partnership will be specially allocated to the contributing partners to the extent of any built-in gain or loss with respect to such property for federal income tax purposes.

Basis in Partnership Interest

Our adjusted tax basis in our partnership interest in MHI Hospitality, L.P., our operating partnership, generally is equal to:

•

the amount of cash and the basis of any other property contributed by us to our operating partnership;

•

increased by our allocable share of our operating partnership’s income and our allocable share of indebtedness of our operating partnership (which cannot include the debt allocated to our contributors under the tax indemnity and debt maintenance agreement and related guaranty); and

•

reduced, but not below zero, by our allocable share of the operating partnership’s loss and the amount of cash distributed to us, and by constructive distributions resulting from a reduction in our share of indebtedness of our operating partnership.

If the allocation of our distributive share of our operating partnership’s loss would reduce the adjusted tax basis of our partnership interest below zero, the recognition of such loss will be deferred until such time as the recognition of such loss would not reduce our adjusted tax basis below zero. To the extent that our operating partnership’s distributions, or any decrease in our share of the indebtedness of our operating partnership, which is considered a constructive cash distribution to the partners, reduce our adjusted tax basis below zero, such distributions will constitute taxable income to us. Such distributions and constructive distributions normally will be characterized as long-term capital gain. However, it is unlikely that our adjusted tax basis will be reduced below zero because, as a general partner, our basis will be adjusted to reflect our share of any of the partnership’s liabilities.

Depreciation Deductions Available to Our Operating Partnership

To the extent that MHI Hospitality, L.P., our operating partnership, acquires its properties in exchange for cash, its initial basis in such properties for federal income tax purposes generally will be equal to the purchase price paid by the operating partnership. Our operating partnership generally will depreciate such property for federal income tax purposes under the modified accelerated cost recovery system of depreciation (“MACRS”). Under MACRS, our operating partnership generally will depreciate furnishings and equipment over a seven-year recovery period using a 200% declining balance method and a half-year convention. If, however, our operating partnership places more than 40% of its furnishings and equipment in service during the last three months of a taxable year, a mid-quarter depreciation convention must be used for the furnishings and equipment placed in service during that year.

A first-year “bonus” depreciation deduction equal to 50% of the adjusted basis of qualified property is available for qualified property placed in service after May 5, 2003, which includes qualified leasehold improvement property and property with a recovery period of less than 20 years, such as furnishings and equipment at our hotels. “Qualified leasehold improvement property” generally includes improvements made to the interior of nonresidential real property that are placed in service more than three years after the date the building was placed in service. Under MACRS, our operating partnership generally will depreciate buildings and improvements over either a 39-year or 40-year recovery period using a straight line method and a mid-month convention. In addition, certain qualified leasehold improvement property placed in service before January 1, 2006 will be depreciated over a 15-year recovery period using a straight method and a half-year convention.

Our operating partnership’s initial basis in properties acquired in exchange for units should be the same as the transferor’s basis in such properties on the date of acquisition by our operating partnership. Although the law is not entirely clear, our operating partnership generally will depreciate such property for federal income tax

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purposes over the same remaining useful lives and under the same methods used by the transferors. Our operating partnership’s tax depreciation deductions will be allocated among the partners in accordance with their respective interests in our operating partnership, except to the extent that our operating partnership is required under the federal income tax laws governing partnership allocations to use a method for allocating tax depreciation deductions attributable to contributed properties that results in our receiving a disproportionate share of such deductions to the extent available.

Sale of a Partnership’s Property

Generally, any gain realized by a Partnership on the sale of property held by the Partnership for more than one year will be long-term capital gain, except for any portion of such gain that is treated as depreciation or cost recovery recapture. Any gain or loss recognized by a Partnership on the disposition of contributed properties will be allocated first to the partners of the Partnership who contributed such properties to the extent of their built-in gain or loss on those properties for federal income tax purposes. The partners’ built-in gain or loss on such contributed properties will equal the difference between the partners’ proportionate share of the book value of those properties and the partners’ tax basis allocable to those properties at the time of the contribution, subject to certain adjustments over time. Any remaining gain or loss recognized by the Partnership on the disposition of the contributed properties, and any gain or loss recognized by the Partnership on the disposition of the other properties, will be allocated among the partners in accordance with their respective percentage interests in the Partnership.

Our share of any gain realized by a Partnership on the sale of any property held by the Partnership as inventory or other property held primarily for sale to customers in the ordinary course of the Partnership’s trade or business will be treated as income from a prohibited transaction that is subject to a 100% penalty tax. Such prohibited transaction income also may have an adverse effect upon our ability to satisfy the income tests for REIT status. See “Material Federal Income Tax Considerations - Income Tests” in this prospectus. We, however, do not presently intend to acquire or hold or to allow any Partnership to acquire or hold any property that represents inventory or other property held primarily for sale to customers in the ordinary course of our or such Partnership’s trade or business.

State and Local Taxes

We and/or our stockholders may be subject to taxation by various states and localities, including those in which we or a stockholder transacts business, owns property or resides. The state and local tax treatment may differ from the federal income tax treatment described above. Consequently, stockholders should consult their own tax advisors regarding the effect of state and local tax laws upon an investment in the common stock.

Summary of New Legislation

On October 22, 2004, the President signed into law the Jobs Act, which, among other items, amended certain rules relating to REITs. The Job Act revises the following REIT rules:

•

As discussed above under “— Asset Tests,” we may not own more than 10% by vote or value of any one issuer’s securities and not more than 5% of our assets may consist of the securities of any one issuer. If we fail to meet these tests at the end of any quarter and such failure is not cured within 30 days thereafter, we would fail to qualify as a REIT. Under the Jobs Act, after the 30-day cure period, a REIT could dispose of sufficient assets to cure such a violation that does not exceed the lesser of 1% of the REIT’s assets at the end of the relevant quarter or $10,000,000. For violations of any of the asset tests due to reasonable cause that are larger than this amount, the REIT could avoid disqualification, after the 30 day cure period, by taking steps including the disposition of sufficient assets to meet the asset test and paying a tax equal to the greater of $50,000 or the highest corporate tax rate multiplied by the net income generated by the non-qualifying assets.

•

The Jobs Act expands the straight debt safe harbor under which certain types of securities are disregarded as securities when calculating the 10% value limitation, discussed above.

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•

The Jobs Act changes the formula for calculating the tax imposed for certain violations of the 75% and 95% gross income tests described above under “— Income Tests” and makes certain changes to the requirements for availability of the applicable relief provisions for failure to meet such tests.

•

The Jobs Act eliminates the safe harbor allowing rents received by a REIT to be exempt from the 100% excise tax if the rents are for customary services performed by a TRS, or are from a TRS and are described in Section 512(b)(3) of the Code. Instead, such payments are free of the excise tax if they satisfy the present law safe-harbor that applies if the REIT pays the TRS at least 150% of the cost to the TRS of providing any services.

•

The Jobs Act provides additional relief in the event that we violate a provision of the Code that would result in our failure to qualify as a REIT if (i) the violation is due to reasonable cause, (ii) we pay a penalty of $50,000 for each failure to satisfy the provision, and (iii) the violation does not include a violation of the income or asset tests.

•

As discussed above under the heading “— Taxation of Non-U.S. Stockholders,” we are required to withhold 35% of any distribution to non-U.S. stockholders that is designated as a capital gain dividend or, if greater, 35% of a distribution to non-U.S. stockholders that could have been designated as a capital gain dividend. The Jobs Act eliminates this 35% withholding tax on any capital gain dividend with respect to any class of stock that is regularly traded on an established securities market located in the United States if the non-U.S. stockholder did not own more than 5% of such class of stock at any time during the taxable year. Instead, any capital gain dividend will be treated as an ordinary distribution subject to the rules discussed above under “— Taxation of Non-U.S. Stockholders.”

The foregoing is a non-exhaustive list of changes made by the Jobs Act.

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UNDERWRITING

Under the terms and subject to the conditions contained in an underwriting agreement dated the date of this prospectus, the underwriters named below, for whom BB&T Capital Markets, a division of Scott & Stringfellow, Inc., is acting as representative, have severally agreed to purchase, and we have agreed to sell to them, severally, the number of shares of common stock indicated below:


Underwriter		Number of Shares of Common Stock
BB&T Capital Markets, a division of Scott & Stringfellow, Inc.
Ferris, Baker Watts, Incorporated
J.J.B. Hilliard, W.L. Lyons, Inc.
Flagstone Securities, LLC


Total		6,000,000

The underwriting agreement provides that the obligations of the several underwriters to pay for and accept delivery of the shares of common stock offered hereby are subject to the approval of certain legal matters by their counsel and to certain other conditions. The underwriters are severally obligated to take and pay for all shares of common stock offered hereby (other than those covered by the underwriters’ over-allotment option described below) if any such shares are taken.

The underwriters initially propose to offer the shares directly to the public at the public offering price set forth on the cover page of this prospectus and to certain dealers at a price that represents a concession not in excess of $ per share below the public offering price. Any underwriters may allow, and such dealers may re-allow, a concession not in excess of $ per share to other underwriters or to certain dealers. After the initial offering of the shares, the offering price and other selling terms may from time to time be varied by the representative.

We have granted to the underwriters an option, exercisable for 30 days from the date of this prospectus, to purchase up to an aggregate of 900,000 additional shares of common stock at the public offering price set forth on the cover page hereof, less underwriting discounts and commissions. The underwriters may exercise this option solely for the purpose of covering over-allotments, if any, made in connection with the offering of the shares of common stock offered hereby. To the extent such option is exercised, each underwriter will become obligated, subject to certain conditions, to purchase approximately the same percentage of such additional shares of common stock as the number set forth next to such underwriter’s name in the preceding table bears to the total number of shares set forth next to the names of all underwriters in the preceding table.

Prior to the offering, there has been no public market for our common stock. The initial public offering price was determined by negotiation between us and the underwriters. The principal factors considered in determining the public offering price include the following:

•

the information set forth in this prospectus and otherwise available to the underwriters,

•

market conditions for initial public offerings,

•

the prospects for the industry in which we operate,

•

an assessment of the ability of our management,

•

our prospects for future earnings,

•

the present state of our development and our current financial condition,

•

the general condition of the securities markets at the time of this offering, and

•

the recent market prices of, and demand for, publicly traded common stock of generally comparable entities.

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The following table provides information regarding the amount of the discount and other items of underwriting compensation, as determined in accordance with the Conduct Rules of the National Association of Securities Dealers, Inc., to be paid to the underwriters by us:

Discount Per Share

Total Discount and

Other Compensation

Without Exercise of

Over-allotment

Option

Total Discount and
Other Compensation
With Full Exercise of
Over-allotment
Option ⁽¹⁾

Underwriting discounts and commissions payable by us

In addition, we will pay BB&T Capital Markets a financial advisory fee in the amount of 1.0% of the aggregate offering proceeds, less $50,000, for financial advisory services.

We have agreed to reimburse the reasonable, documented out-of-pocket expenses of BB&T Capital Markets incurred in connection with its services in connection with this offering, excluding the fees and disbursements of BB&T Capital Markets’ legal counsel. There is no cap in place with respect to these fees. In addition, we have provided BB&T Capital Markets with a right of first refusal until the first anniversary of the completion of this offering to act as financial advisor in connection with any purchase or sale of stock, merger, acquisition, business combination or other strategic transaction where the expected value of the transaction, as reasonably determined by our board of directors, is in excess of $50 million, or lead underwriter or placement agent in connection with any public or private offering of equity or unsecured debt securities or other capital markets financing.

We estimate that the total expenses of the offering, excluding the underwriting discounts and commissions, will be approximately $ million.

We have agreed to indemnify the underwriters against certain liabilities, including liabilities under the Securities Act.

We have applied to list the shares of our common stock on the AMEX under the trading symbol “MDH.”

In connection with this offering, the underwriters may purchase and sell shares of our common stock in the open market. These transactions may include over-allotment, syndicate covering transactions and stabilizing transactions. An over-allotment involves syndicate sales of shares in excess of the number of shares to be purchased by the underwriters in the offering, which creates a syndicate short position. Syndicate covering transactions involve purchases of shares in the open market after the distribution has been completed in order to cover syndicate short positions.

Stabilizing transactions consist of some bids or purchases of shares of our common stock made for the purpose of preventing or slowing a decline in the market price of the shares while the offering is in progress.

In addition, the underwriters may impose penalty bids, under which they may reclaim the selling concession from a syndicate member when the shares of our common stock originally sold by that syndicate member are purchased in a stabilizing transaction or syndicate covering transaction to cover syndicate short positions.

Similar to other purchase transactions, these activities may have the effect of raising or maintaining the market price of the common stock or preventing or slowing a decline in the market price of the common stock. As a result, the price of the common stock may be higher than the price that might otherwise exist in the open market.

Neither we nor the underwriters make any representation or prediction as to the direction or magnitude of any effect that the transactions described above may have on the price of the shares. In addition, neither we nor

151

the underwriters make any representation that the underwriters will engage in these transactions or that these transactions, once commenced, will not be discontinued without notice.

We, and our executive officers and directors, have agreed that for a period of 180 days from the date of this prospectus we will not, without the prior written consent of BB&T Capital Markets, directly or indirectly, issue, sell, offer to sell, grant any option for the sale of, or otherwise dispose of any securities that are substantially similar to the common stock or any preferred shares that rank on a parity with or senior to the common stock, including, but not limited to, any securities that are convertible into or exchangeable for, or that represent the right to receive any such substantially similar securities. BB&T Capital Markets may, in its sole discretion, allow any of these parties to dispose of common stock or other securities prior to the expiration of the 180-day period. However, there are no agreements between BB&T Capital Markets and the parties that would allow them to do so as of the date of this prospectus.

The underwriters or their affiliates from time to time provide and may in the future provide investment banking, commercial banking and financial advisory services to us, for which they have received and may receive customary compensation. An affiliate of BB&T Capital Markets is the lender under a mortgage loan secured by the Holiday Inn Brownstone hotel that we will acquire in the formation transactions. We will use a portion of the proceeds of the offering to repay this mortgage loan. We expect that an affiliate of BB&T Capital Markets will provide us with a $23.0 million secured revolving credit facility secured by first mortgages on two of our initial hotel properties following completion of the offering.

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EXPERTS

The balance sheet of MHI Hospitality Corporation as of August 25, 2004 and the combined financial statements and schedule of real estate and accumulated depreciation of MHI Hotels Services Group (the predecessor) as of December 31, 2003 and 2002, and for each of the years in the three-year period ended December 31, 2003, and the financial statements and schedule of real estate and accumulated depreciation of Accord, LLC as of December 31, 2003 and 2002, and for the years then ended, and the combined financial statements and schedule of real estate and accumulated depreciation of Elpizo Limited Partnership as of December 31, 2003 and 2002, and for the years then ended have been included herein and in the registration statement in reliance upon the reports of Witt, Mares & Company, PLC, independent accountants, appearing elsewhere herein, and upon the authority of said firm as experts in accounting and auditing.

The market data collected and/or prepared by Smith Travel Research for the U.S. lodging industry has been included herein and in the registration statement with the consent of Smith Travel Research.

LEGAL MATTERS

Certain legal matters in connection with the offering will be passed upon for us by Baker & McKenzie LLP. Venable LLP, Baltimore, Maryland, will issue an opinion to us regarding certain matters of Maryland law, including the validity of the common stock offered hereby. Certain legal matters in connection with this offering will be passed upon for the underwriters by Hunton & Williams LLP. Baker & McKenzie LLP and Hunton & Williams LLP will rely on the opinion of Venable LLP, Baltimore, Maryland.

WHERE YOU CAN FIND MORE INFORMATION

We have filed a registration statement on Form S-11 with the SEC with respect to the shares of our common stock to be issued in the offering. This prospectus is a part of that registration statement and, as allowed by SEC rules, does not include all of the information you can find in the registration statement or the exhibits to the registration statement. For additional information relating to us, we refer you to the registration statement and the exhibits to the registration statement. Statements contained in this prospectus as to the contents of any contract or document referred to are not necessarily complete and in each instance, if the contract or document is filed as an exhibit to the registration statement, we refer you to the copy of the contract or document filed as an exhibit to the registration statement.

After the offering, we will file annual, quarterly and special reports, proxy statements and other information with the SEC. We intend to furnish our stockholders with annual reports containing consolidated financial statements certified by an independent public accounting firm. The registration statement is, and any of these future filings with the SEC will be, available to the public over the Internet at the SEC’s website at http://www.sec.gov . You may read and copy any filed document at the SEC’s public reference room in Washington, D.C. at 450 Fifth Street, N.W., Judiciary Plaza, Washington D.C. Please call the SEC at (800) SEC-0330 for further information about the public reference rooms. In addition, since we expect that our common stock will be listed on the American Stock Exchange, you will be able to inspect and copy similar information about us at the offices of the American Stock Exchange, 86 Trinity Place, New York, NY 10006.

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Index to Financial Statements


		Page
Financial Statement of MHI Hospitality Corporation
Report of Independent Registered Public Accounting Firm		F-2
Balance Sheet at August 25, 2004		F-3
Notes to Balance Sheet		F-4
Combined Financial Statements of MHI Hotels Services Group
Report of Independent Registered Public Accounting Firm		F-7
Combined Balance Sheets at December 31, 2002 and 2003, and September 30, 2004 (unaudited)		F-8
Combined Statements of Operations and Partners’/Members’ Equity (Deficit) for the years ended December 31, 2003, 2002 and 2001 and the nine months ended September 30, 2003 and 2004 (unaudited)		F-9
Combined Statements of Cash Flows for the years ended December 31, 2001, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-10
Notes to Combined Financial Statements		F-11
Schedule III – Real Estate and Accumulated Depreciation		F-21
Combined Financial Statements of Elpizo Limited Partnership
Report of Independent Registered Public Accounting Firm		F-22
Combined Balance Sheets at December 31, 2002 and 2003, and September 30, 2004 (unaudited)		F-23
Combined Statements of Operations and Stockholders’ Equity/Partners’ Capital (Deficit) for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-24
Combined Statements of Cash Flows for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-25
Notes to Combined Financial Statements		F-26
Schedule III – Real Estate and Accumulated Depreciation		F-32
Financial Statements of Accord, LLC
Report of Independent Registered Public Accounting Firm		F-33
Balance Sheets at December 31, 2002 and 2003, and September 30, 2004 (unaudited)		F-34
Statements of Operations and Members’ Equity (Deficit) for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-35
Statements of Cash Flows for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-36
Notes to Financial Statements		F-37
Schedule III – Real Estate and Accumulated Depreciation		F-41
Financial Statements of Brownestone Partners, LLC
Report of Independent Registered Public Accounting Firm		F-42
Balance Sheets at December 31, 2002 and 2003, and September 30, 2004 (unaudited)		F-43
Statements of Operations and Members’ Equity for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-44
Statements of Cash Flows for the years ended December 31, 2002 and 2003 and for the nine months ended September 30, 2003 and 2004 (unaudited)		F-45
Notes to Financial Statements		F-46
Schedule III – Real Estate and Accumulated Depreciation		F-53
Pro Forma Consolidated Financial Information
Pro Forma Consolidated Balance Sheet at September 30, 2004 (unaudited)		F-55
Notes to Pro Forma Consolidated Balance Sheet s		F-56
Pro Forma Consolidated Statements of Operations for the nine months ended September 30, 2004 (unaudited)		F-60
Pro Forma Consolidated Statements of Statement of Operations for the year ended December 31, 2003 (unaudited)		F-61
Notes to Pro Forma Consolidated Statements of Operations		F-62

F-1

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

MHI Hospitality Corporation

Williamsburg, Virginia

We have audited the accompanying balance sheet of MHI Hospitality Corporation as of August 25, 2004. The balance sheet is the responsibility of the Company’s management. Our responsibility is to express an opinion on the balance sheet based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the balance sheet is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the balance sheet. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall balance sheet presentation. We believe that our audit provides a reasonable basis for our opinion.

In our opinion, the balance sheet referred to above presents fairly, in all material respects, the financial position of MHI Hospitality Corporation as of August 25, 2004, in conformity with accounting principles generally accepted in the United States of America.

/s/ Witt, Mares & Company, PLC

Williamsburg, Virginia

August 25, 2004

F-2

MHI HOSPITALITY CORPORATION

Balance Sheet

August 25, 2004


Asset
Cash	$	1,000


Stockholder’s Equity
Preferred stock, $.01 par value, authorized—1,000,000 shares; no shares issued and outstanding	$	—
Common stock, $.01 par value, authorized—49,000,000 shares; 100 shares issued and outstanding		1
Additional paid-in capital		999

Total stockholder’s equity	$	1,000

The accompanying notes to the balance sheet are an integral part of this statement.

F-3

MHI HOSPITALITY CORPORATION

NOTES TO BALANCE SHEET

August 25, 2004

NOTE A—ORGANIZATION

MHI Hospitality Corporation (the “Company”) was incorporated in Delaware on August 20, 2004 but has had no operations to date other than matters relating to its organization and the issuance of 100 shares of common stock, par value $.01 per share (“Common Stock”), to its initial stockholder for $10.00 per share. The Company and its initial stockholder have agreed that such initial 100 shares will be redeemed by the Company for the original purchase price simultaneously with the closing of the offering (as defined below).

MHI Hotels Services Group, our accounting predecessor, consists of entities and interests under common ownership and control by Edgar Sims, Jr., Jeanette Sims, Andrew Sims, Kim Sims and Christopher Sims (the “Sims Family”). The Company has accounted for the contribution of the Sims Family ownership interests at their historical cost basis. These individuals have majority ownership interests in Savannah Hotel Associates and Capitol Hotel Associates, LP, LLP and minority ownership interests in Brownestone Partners, LLC and Accord, LLC.

NOTE B—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Accounting

The books and records of the Company are maintained on the accrual basis of accounting in accordance with generally accepted accounting principles.

Income Taxes

The Company intends to elect to be taxed as a real estate investment trust (“REIT”) and to comply with the provisions of the Internal Revenue Code of 1986, as amended, with respect thereto. Accordingly, the Company will not be subject to federal income tax to the extent of its distributions to stockholders.

Profit and Loss Allocations and Distributions

As a REIT, the Company intends to declare regular quarterly dividends in order to distribute substantially all of its taxable income to stockholders each year.

Consolidation Policy

The Company’s consolidated financial statements include wholly-owned subsidiaries and those subsidiaries in which it owns a majority voting interest with the ability to control operations of the subsidiaries and where no approval, veto or other important rights have been granted to the minority equity owners. Upon the closing of the Offering (as defined below), the Operating Partnership (as defined below), the Company’s taxable REIT subsidiaries, MHI Hospitality TRS, LLC and MHI GP, LLC, MHI TRS Hospitality TRS Holding, Inc., and the limited partnerships and limited liability companies that own the initial hotels will be the only subsidiaries in which the Company owns a majority voting interest with the ability to control its operations and where no approval, veto or other important rights have been granted to minority equity owners. All significant intercompany transactions and accounts will be eliminated for presentation purposes in the consolidation.

NOTE C—FORMATION TRANSACTIONS

The Company plans to file a Registration Statement on Form S-11 with the SEC with respect to a public offering of its common stock (the “Offering”). Upon completion of the offering, it is expected that the Company will be the general partner of, and hold a controlling interest in, MHI Hospitality, L.P., a Delaware limited partnership (the “Operating Partnership”). Upon consummation of the offering, the Operating Partnership will

F-4

MHI HOSPITALITY CORPORATION

NOTES TO BALANCE SHEET—(Continued)

August 25, 2004

exchange operating partnership units for three hotels owned by entities directly or indirectly controlled by the Sims Family. Additionally, the Operating Partnership will acquire three hotels not under common control with the Sims Family in exchange for cash, units and the assumption of debt. The Company will be self-administered and will conduct all of its business activities through the Operating Partnership.

The following transactions will occur at or shortly prior to the closing of the Offering

•

The Company will contribute the net proceeds of the offering to the Operating Partnership in exchange for 6,000,000 operating partnership units, which will represent an approximate 61.1% initial interest in the Operating Partnership. The Company will act as sole general partner of the Operating Partnership.

•

The majority interests in three of the six initial hotel properties will be contributed by the Sims Family to the Operating Partnership in exchange for an aggregate of 2,246,136 units and the assumption of $28.8 million in debt. The minority interests in these hotel properties are being contributed in exchange for 679,034 units.

•

The Operating Partnership will acquire the Hilton Philadelphia Airport property in exchange for 732,254 units and $1.8 million in cash and the assumption of $15.2 million in debt. The entity that owns this property may receive additional units in exchange for the contribution of the property. In the event that the initial offering price of our common stock is less than $9.50 per share, the number of additional units to be issued to this entity will be increased to reflect the difference between the offering price and $9.50 per share multiplied by 732,254. The Operating Partnership expects to use approximately $15.2 million of the net proceeds of the offering to repay the outstanding debt.

•

The Operating Partnership will also acquire the Maryland Inn for a cash payment of $12.2 million. MHI Hotels Services Group’s 25% investment in Accord, LLC, the owner of the Maryland Inn, will be redeemed at closing for a cash payment of approximately $500,000.

•

Upon completion of the offering and the formation transactions, the Company’s executive officers, directors, their affiliates and family members, including MHI Hotels Services will beneficially own in the aggregate an approximate 29.2% equity interest in the Company on a fully diluted basis.

•

The Operating Partnership will acquire the 60.5% majority interests of Brownestone Partners, LLC in exchange for 33,598 units and $1.0 million in cash and the assumption of $6.0 million in debt. In addition, MHI Hotel Services Group’s 39.5% interest will be contributed to the operating partnership in exchange for 126,014 units and the assumption of $0.8 million of debt. The Operating Partnership expects to use $6.8 million of the net proceeds of the offering to repay the outstanding indebtedness of Brownestone Partners, LLC. In connection with this debt repayment, the two entities that will contribute their ownership interest in Brownestone Partners, LLC will enter into debt allocation and tax indemnity agreements and will guarantee a portion of the debt on one other hotel property.

•

The Operating Partnership expects to use approximately $3.0 million of the net proceeds of the offering to repay the outstanding indebtedness on the Holiday Inn Downtown Williamsburg.

•

The Operating Partnership will use approximately $2.0 million of the net proceeds of the offering to compensate MHI Hotels Services LLC for the restructuring of existing management agreements relating to five of the initial hotel properties. The Company’s taxable REIT subsidiary will enter into a new management agreement with MHI Hotels Services upon completion of the offering that will cover all of the initial hotel properties and any future hotels managed by MHI Hotels Services.

•

The Operating Partnership will acquire two space leases for the common areas of Shell Island Resort, a condominium resort property located in Wrightsville Beach, North Carolina. One of the leases will be acquired from MHI Hotels Two, Inc. for $0.5 million in cash and the other space lease will be acquired from MHI Hotels LLC for $3.0 million in cash. The Operating Partnership will enter into a sublease agreement with each of MHI Hotels Two, Inc. and MHI Hotels LLC with respect to such property.

F-5

MHI HOSPITALITY CORPORATION

NOTES TO BALANCE SHEET—(Continued)

August 25, 2004

•

The Operating Partnership will lease each of the initial hotel properties to one of its wholly-owned taxable REIT subsidiaries.

NOTE D—ORGANIZATIONAL, OFFERING, GENERAL AND ADMINISTRATIVE COSTS

The Company will be required to pay all of its organizational and offering expenses.

NOTE E—RESTRICTED STOCK

Upon consummation of the initial public offering of its common stock, the Company will issue to its independent directors an aggregate of 4,000 shares of restricted stock under a long-term incentive plan to be adopted by its stockholder. All of the shares of restricted stock will vest on the first anniversary of the date of grant. Dividends will be paid on all restricted stock, whether or not vested, at the same rate and on the same date as on shares of common stock.

NOTE F—COMMITMENTS AND CONTINGENCIES

After the offering, the Company expects to make quarterly distributions to its stockholders. The Company’s ability to make such quarterly distributions will depend upon cash the Company expects to receive from cash generated by the operations of the Operating Partnership.

We will enter into tax indemnity and debt allocation agreements with the entities that contribute five of our initial properties. These agreements will require us to indemnify the contributors against tax liabilities in the event we sell those properties in a taxable transaction during a 10-year period. Specifically, we will indemnify the contributors for 100% of their tax liability during the first five years after contribution, 50% during the sixth year, 40% during the seventh year, 30% during the eighth year, 20% during the ninth year and 10% during the tenth year. Such indemnification obligations could result in aggregate payments of up to approximately $46.0 million. The terms of the tax indemnity agreements also require us to gross up the tax indemnity payment for the amount of income taxes due as a result of the tax indemnity payment. The contributing entities will guarantee a portion of our initial indebtedness following the closing and we will be obliged to give the contributors the opportunity to guarantee a similar amount of debt in the future.

NOTE G—MANAGEMENT AGREEMENT, STRATEGIC ALLIANCE AGREEMENT AND RELATED PARTIES

The Company has an agreement with MHI Hotels Services to operate the initial hotel properties pursuant to the terms of the master management agreement, which the Company will enter into in connection with the closing of the offering. Pursuant to the terms of the master management agreement, MHI Hotels Services will receive a base management fee and, if the hotels exceed certain financial thresholds, an incentive management fee. The Company has also entered into a strategic alliance agreement with its operating partnership, MHI Hospitality L.P., and MHI Hotels Services whereby the Company has agreed to engage MHI Hotels services for the management of the Company’s future hotels, and MHI Hotels Services will refer to the Company any future acquisition opportunities, with both conditions subject to certain exceptions. In addition, the Company has entered into tax indemnification agreements with four of the entities that are contributing five of the initial hotel properties that are affiliated with the Company.

Andrew M. Sims, our Chief Executive Officer and Chairman of the Board, and William J. Zaiser, Executive Vice President and Chief Financial Officer of the Company, are currently officers and directors of MHI Hotels Services. Upon completion of the offering, Mr. Sims and Mr. Zaiser will resign as officers of MHI Hotels Services, however, Mr. Sims and Mr. Zaiser will remain as members of MHI Hotels Services’ Board of Directors.

F-6

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

MHI Hospitality Corporation

Williamsburg, Virginia

We have audited the accompanying combined balance sheets of MHI Hotels Services Group as of December 31, 2003 and 2002, and the related combined statements of operations and partners’/members’ equity and cash flows for each of the years in the three-year period ended December 31, 2003. In connection with our audits of the combined financial statements, we have also audited the financial statement schedule of real estate and accumulated depreciation. These combined financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these combined financial statements and financial statement schedule based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financials statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the combined financial statements referred to above present fairly, in all material respects, the financial position of MHI Hotels Services Group as of December 31, 2003 and 2002, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2003, in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule referred to above, when considered in relation to the basic combined financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ Witt, Mares & Company, PLC

Williamsburg, Virginia

August 24, 2004

F-7

MHI HOTELS SERVICES GROUP

Combined Balance Sheets

September 30, 2004 (Unaudited) and

December 31, 2003 and 2002


	December 31,						September 30,
	2002			2003			2004
ASSETS							(unaudited)
Current Assets
Cash and cash equivalents	$	154,381		$	67,365		$	161,034
Reserves and escrows		792,737			728,452			1,459,136
Accounts receivable		673,561			527,436			780,787
Accounts receivable-affiliate		754,650			1,007,154			27,305
Inventories		113,956			117,390			135,061
Prepaid expenses		101,930			83,396			110,476

Total current assets		2,591,215			2,531,193			2,673,799
Property & Equipment (at cost)
Land and improvements		1,624,396			1,624,396			1,624,396
Building and improvements		27,040,761			27,490,818			27,682,261
Furniture, fixtures and equipment		10,710,248			10,167,278			10,845,894

Total property & equipment		39,375,405			39,282,492			40,152,551
Less: accumulated depreciation		(11,140,687	)		(11,753,754	)		(13,303,257	)

Property & equipment, net		28,234,718			27,528,738			26,849,294
Other Assets
Deferred costs and other assets (net of amortization of $298,482 and 245,115 in 2003 and 2002, respectively) (net of amortization of $330,763 for the nine months ended September 30, 2004)		291,301			285,242			286,915
Investment in Brownestone Partners, LLC		97,187			1,072,160			1,052,417
Investment in Accord, LLC		(613,683	)		(659,877	)		(647,401	)

Total other assets		(225,195	)		697,525			691,931

TOTAL ASSETS	$	30,600,738		$	30,757,456		$	30,215,024

LIABILITIES AND PARTNERS’/MEMBERS’ EQUITY
Current Liabilities
Current portion of long term debt	$	966,924		$	1,025,089		$	1,087,865
Current portion of long term capital lease obligation		157,242			53,720			16,131
Short term notes/lines of credit		300,000			450,000			—
Accounts payable		1,547,335			1,787,243			2,105,413
Accrued expenses		1,201,419			918,926			1,660,222
Advance deposits		81,761			127,688			195,566

Total current liabilities		4,254,681			4,362,666			5,065,197
Long Term Liabilities
Long term debt		29,366,273			28,557,838			27,743,227
Long term portion of capital lease obligation		57,811			4,091			—

Total long term liabilities		29,424,084			28,561,929			27,743,227
Total liabilities		33,678,765			32,924,595			32,808,424
Minority interest		(489,365	)		(521,268	)		(531,635	)
Partners’/Members’ Equity(Deficit)
Partners’/members’ equity accounts		(2,588,662	)		(1,645,871	)		(2,061,765	)

Total partners’/members’ equity(deficit)		(2,588,662	)		(1,645,871	)		(2,061,765	)

TOTAL LIABILITIES AND PARTNERS’/MEMBERS’ EQUITY	$	30,600,738		$	30,757,456		$	30,215,024

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

F-8

MHI HOTELS SERVICES GROUP

Combined Statements of Operations and Partners’/Members’ Equity(Deficit)

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003, 2002 and 2001


	Years Ended December 31,									Nine Months Ended September 30,
	2001			2002			2003			2003			2004
										(unaudited)
Operating Revenue
Rooms department	$	15,928,592		$	15,660,065		$	15,828,663		$	12,488,996		$	13,370,476
Food and beverage department		7,278,015			7,412,848			7,772,413			5,614,690			5,849,616
Other operating departments		902,410			886,114			834,130			656,388			706,085

Total operating revenue		24,109,017			23,959,027			24,435,206			18,760,074			19,926,177

Operating Expenses
Rooms department		4,014,779			3,920,916			4,143,106			3,219,282			3,313,711
Food and beverage department		5,541,689			5,398,453			5,563,915			4,080,350			4,284,888
Other operating departments		427,870			420,284			416,213			327,023			347,126
Selling, general and administrative expense		8,105,785			8,300,664			8,507,581			6,361,929			6,723,658
Management fees—related party		886,465			881,122			910,142			697,545			736,478
Depreciation and amortization		2,167,706			2,236,136			2,045,250			1,566,030			1,589,531

Total operating expenses		21,144,294			21,157,575			21,586,207			16,252,159			16,995,392

Net Operating Income		2,964,723			2,801,452			2,848,999			2,507,915			2,930,785
Other Income (Expense)
Interest expense		(2,579,493	)		(2,481,528	)		(2,369,422	)		(1,789,493	)		(1,708,856	)
Interest income		29,575			9,379			3,668			2,794			857
Equity in net income (loss) of Brownestone Partners, LLC		(542,066	)		(142,358	)		(143,983	)		(86,905	)		(15,977	)
Equity in net income (loss) of Accord, LLC		(31,288	)		(84,120	)		(46,194	)		(14,813	)		12,476
Gain (loss) on disposal of assets		(192,487	)		—			(1,135	)		—			—
Minority interest		(206,708	)		(224,864	)		(152,097	)		(166,083	)		(357,632	)

Net Income (Loss)		(557,744	)		(122,039	)		139,836			453,415			861,653
Partners’/Members’ Equity, beginning of period		(1,482,356	)		(2,150,700	)		(2,588,661	)		(2,588,662	)		(1,645,873	)
Partners’/Members’ equity contributed		79,000			158,077			1,123,454			—			23,700
Partners’/Members’ equity distributed		(189,600	)		(474,000	)		(320,501	)		—			(1,301,245	)

Partners’/Members’ Equity, end of period	$	(2,150,700	)	$	(2,588,662	)	$	(1,645,871	)	$	(2,135,247	)	$	(2,061,765	)

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

F-9

MHI HOTELS SERVICES GROUP

Combined Statements of Cash Flows

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003, 2002 and 2001


	Years Ended December 31,									Nine Months Ended September 30,
	2001			2002			2003			2003			2004
										(unaudited)
Cash Flows from Operating Activities:
Net Income (Loss)	$	(557,744	)	$	(122,039	)	$	139,836		$	453,415		$	861,653
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		2,167,706			2,236,136			2,045,250			1,566,030			1,589,531
(Gain)/Loss on disposal of property and equipment		192,486			—			1,135			—			—
Equity in net (income) loss of partnership investments		573,354			226,478			190,177			101,718			3,501
Minority Interest		206,708			224,864			152,097			166,083			357,632
(Increase) decrease in:
Restricted cash		98,772			(100,218	)		64,285			(264,434	)		(730,684	)
Accounts receivable		52,392			(112,753	)		146,125			101,947			(253,351	)
Inventory and prepaid expenses		49,842			(92,690	)		15,100			18,667			(44,751	)
Other assets		—			(17,184	)		(47,310	)		(47,310	)		(41,700	)
Increase (decrease) in:
Accounts payable		1,189,069			(239,755	)		239,909			288,513			318,170
Accrued expenses		403,344			65,144			(281,937	)		(13,949	)		741,295
Advance deposits		(1,909	)		548			45,928			43,255			67,878

Net cash provided (used) from operating activities		4,374,020			2,068,531			2,710,595			2,413,935			2,869,174

Cash Flows from Investing Activities:
Capital expenditures		(1,068,231	)		(1,213,987	)		(1,278,647	)		(823,296	)		(870,059	)
Capital contributed to Brownestone Partners, LLC		(79,000	)		(158,077	)		(1,118,953	)		—			(23,700	)
Distribution received from Brownestone Partners, LLC		—			—			—			—			27,465

Net cash provided (used) from investing activities		(1,147,231	)		(1,372,064	)		(2,397,600	)		(823,296	)		(866,294	)

Cash Flows from Financing Activities:
Members’ capital contributed		79,000			158,077			1,123,454			—			23,700
Members’ capital distributed		(189,600	)		(474,000	)		(320,501	)		—			(1,301,245	)
Minority partner distributions		(110,400	)		(276,000	)		(184,000	)		—			(368,000	)
Proceeds (payment) of related party loans		(1,877,861	)		811,381			(252,505	)		(1,343,583	)		979,849
Proceeds from borrowing		200,000			—			150,000			3,600,000			650,000
Payment of loans		(691,070	)		(992,846	)		(759,217	)		(3,644,305	)		(1,863,521	)
Proceeds from capital lease obligations		250,001			—			—			—			—
Payment of capital lease obligations		(187,311	)		(200,677	)		(157,242	)		(126,549	)		(29,994	)

Net cash provided (used) by financing activities		(2,527,241	)		(974,065	)		(400,010	)		(1,514,437	)		(1,909,211	)

Net increase (decrease) in cash and cash equivalents		699,548			(277,598	)		(87,015	)		76,202			93,669
Cash and cash equivalents at the beginning of the period		(267,569	)		431,979			154,381			154,381			67,365

Cash and cash equivalents at the end of the period	$	431,979		$	154,381		$	67,365		$	230,583		$	161,034

Supplemental disclosures:
Cash paid during the period for interest	$	2,579,493		$	2,481,528		$	2,369,422		$	1,789,493		$	1,708,856

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

F-10

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

NOTE A—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Organization and Basis of Presentation

This summary of significant accounting policies of MHI Hotels Services Group (the “Company”) is presented to assist in understanding the Company’s financial statements. The financial statements and notes are representations of management, which is responsible for their integrity and objectivity. These accounting policies conform to generally accepted accounting principles applied in the preparation of the financial statements. MHI Hotels Services Group consists of entities and interests under common ownership and control by Edgar Sims, Jr., Jeanette Sims, Andrew Sims, Kim Sims and Christopher Sims (the “Sims Family”). These combined financial statements include the accounts of Capitol Hotel Associates LP, LLP (Holiday Inn Downtown Williamsburg and Wilmington Riverside Hilton) and Savannah Hotel Associates, LLC (Savannah DeSoto Hilton). All significant intercompany transactions among these entities have been eliminated. MHI Hotels Services, LLC, a successor to MHI Hotels, LLC, manages all the hotels.

Business Activity

Capitol Hotel Associates, LP, LLP, a limited liability partnership, was formed on March 17, 1994 to own and operate real estate related to its predecessor entity. The partnership owns the Holiday Inn Downtown Williamsburg, a 137 room, full-service hotel located in Williamsburg, Virginia and the Wilmington Riverside Hilton, a 276 room, full-service hotel located in Wilmington, North Carolina. Income, loss and cash flow are allocated and/or distributed to the partners in accordance with their agreement.

Savannah Hotel Associates, LLC was formed on April 18, 1996 to purchase the Savannah DeSoto Hilton, a 246 room, full-service hotel located in Savannah, Georgia. Income, loss and cash flow are allocated and/or distributed to the members in accordance with their agreement.

Principles of Combination

The accompanying combined financial statements reflect the activity of MHI Hotels Services Group, which include the financial statements of Capitol Hotel Associates LP, LLP and Savannah Hotel Associates, LLC and are presented on a combined basis as a result of common ownership and control by the single group of owners, the Sims Family. The properties are all managed under management agreements with MHI Hotels Services LLC. All significant intercompany accounts and transactions among these entities have been eliminated in the combined financial statements. The Company is a member of two limited liability companies, Brownestone Partners, LLC (“Brownestone”) and Accord, LLC (“Accord”). The Company accounts for its 39.5% interest in Brownestone and its 25% interest in Accord using the equity method.

F-11

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

MHI Hotels Services Group owns the following interest in the entities that own the hotels listed below:


Property
Holiday Inn Williamsburg		94.75%
Hilton Wilmington Riverside		94.75%
Hilton Savannah DeSoto		63.20%
Holiday Inn Brownstone		39.50%
Best Western Maryland Inn		25.00%

Use of Estimates in Financial Statements

In preparing financial statements in conformity with generally accepted accounting principles, management of MHI Hotels Services Group make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Cash and Cash Equivalents

For purposes of the statement of cash flows, management of MHI Hotels Services Group considers all investments in certificates of deposit purchased with an original maturity of three months or less to be cash equivalents.

Escrow and Reserve Accounts

Escrow accounts are held by the lenders for the purpose of paying real estate taxes. Reserve accounts are held by the Company in a separate bank account. Disbursements from reserve accounts are for capital items approved by the lender.

Accounts Receivable

Management of MHI Hotels Services Group considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If the amounts become uncollectible, they are charged to operations when that determination is made.

Inventories

Inventories are stated at the lower of cost or market and consist primarily of food and beverages and gift shop merchandise. Cost is determined by the first-in, first-out method.

Property & Equipment

F-12

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

$1,549,494 and $1,518,242, respectively, and for the years ended December 31, 2003, 2002 and 2001 was $1,945,194, $2,181,039 and $2,176,833, respectively.

Expenditures which materially increase values or extend lives are capitalized, while replacements, maintenance and repairs which do not improve or extend the lives of the respective assets are charged against earnings as incurred. In August 2001 the Financial Accounting Standards Board (“FASB”) issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The provisions of SFAS No. 144 are effective as of January 1, 2002. SFAS No. 144 supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets for Long-Lived Assets to be Disposed Of.” SFAS No. 144 also established a single accounting model for long-lived assets to be disposed of by sale. Adoption of the Statement did not have a material effect on the financial condition or results of operations for 2002.

Management of MHI Hotels Services Group reviews a hotel property for impairment whenever events or changes in circumstances indicate the carrying value of the hotel property may not be recoverable. Events or circumstances that may cause a review include, but are not limited to, adverse changes in the demand for lodging at the property due to declining national or local economic conditions and/or new hotel construction in the market where the hotel is located. When such conditions exist, management performs an analysis to determine if the estimated undiscounted future cash flows from operating activities and the proceeds from the ultimate disposition of the hotel property exceed its carrying value. If the estimated undiscounted future cash flows are less than the carrying amount of the asset, an adjustment to reduce the carrying amount to the hotel property’s estimated fair market value is recorded and an impairment loss is recognized.

Fair values of hotel properties are estimated through a discounted cash flow analysis taking into account each property’s expected cash flow generated from operations, holding period and ultimate proceeds from disposition. In projecting the expected cash flows from operating activities of the asset, the estimates are based upon future projected earnings before interest expense, income taxes, depreciation and amortization, or EBITDA, and deduct expected capital expenditure requirements. Growth assumptions are applied to project these amounts over the holding period of the asset. The growth assumptions are based upon estimated inflationary increases in room rates and expenses and the demand for lodging at the property, as impacted by local and national economic conditions and estimated or known future new hotel supply. The estimated proceeds from disposition are judgmentally determined based on a combination of anticipated cash flow in the year of disposition, capitalization rate, ratio of selling price to gross hotel revenues and selling price per room.

Management of MHI Hotels Services Group has assessed the operations of the hotel properties, and the fair market value of the hotel properties based on undiscounted cash flows and other models, and has noted no impairment in such assets for all years presented.

If actual conditions differ from the assumption, the actual results of each property’s future operations and fair market value could be significantly different from the estimated results and value used in the analysis.

The properties were not held for sale as of September 30, 2004 or December 31, 2003, 2002 and 2001, as defined within the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”

Deferred Costs

Deferred franchise fees consist of the initial fees paid to Hilton Inns, Inc. to operate the Savannah DeSoto Hilton and to Holiday Inn to operate the Holiday Inn Downtown Williamsburg. Amortization of the fees began upon commencement of hotel operations. The fees are being amortized over the term of the franchise agreement.

F-13

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

The application fee is the standard initial fee charged by the franchisor. It is based upon the number of rooms in the hotel. This fee is being amortized over the life of the franchise license contract.

Loan fees include direct costs incurred to obtain financing for the Holiday Inn Downtown Williamsburg and the Savannah DeSoto Hilton. These costs are being amortized over the terms of the respective debt agreements.

Purchase Accounting for Acquisition of Additional Interests in Real Estate Entities

Purchase accounting was applied to the assets and liabilities related to real estate entities for which MHI Hotels Services Group acquired additional interests. Ownership interests acquired from the control group are accounted for at their historical cost basis. Acquisitions of ownership interests of other parties are accounted for at fair value. For purchases of additional interests that were consummated subsequent to June 30, 2001, the effective date of Statement of Financial Accounting Standards No. 141, “Business Combinations,” the fair value of the real estate acquired was determined on an as if vacant building basis. That value is allocated between land and building based on managements’ estimate of the fair value of those components for each property. There have been no acquisitions of additional interests in real estate entities during the nine months ended September 30, 2004 and the years ended December 31, 2003, 2002 and 2001.

Income Taxes

The entities that own the hotels in the MHI Hotels Services Group are limited liability companies and a limited liability partnership, which file tax returns for which the members/partners are taxed on their respective shares of the entity’s income, and accordingly, no provision for income taxes is included in the financial statements.

Recognition of Revenue

Revenue associated with room rental, food and beverage sales and other hotel revenues are recognized as the related services are provided.

Application of New Accounting Standards

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 amends existing guidance on reporting gains and losses on the extinguishments of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS No. 145 also amends SFAS No. 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of the Statement related to the rescission of Statement No. 4 are applied in fiscal years beginning after May 15, 2002. Management adopted SFAS No. 145 as of May 15, 2002 and it has had no material effect on the financial statements. The provisions of the Statement related to the rescission of Statement No. 13 were effective for transactions occurring after May 15, 2002. During 2003, MHI Hotels Services Group refinanced certain mortgage notes.

F-14

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

Group, with a variable interest in a variable interest entity created before February 1, 2003, the Interpretation is applied to the enterprise no later than the end of the first annual reporting period beginning after June 30, 2003. Management adopted FIN 46(R) as of January 1, 2003. The application of this Interpretation is not expected to have a material effect on the group’s financial statements. The Interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that MHI Hotels Services Group will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. Management does not believe that it is reasonably possible that the FIN 46(R) will result in the consolidation of any of its equity investees in the future.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities,” which clarifies certain implementation issues raised by constituents and amends SFAS No. 133, “ Accounting for Derivative Instruments and Hedging Activities, “ to include the conclusions reached by the FASB on certain FASB Staff Implementation issues; amends SFAS No. 133’s discussion of financial guarantee contracts and the application of the shortcut method to an interest rate swap agreement that includes an embedded option and amends other pronouncements. The guidance in SFAS No. 149 is effective for new contracts entered into or modified after June 30, 2003 and for hedging relationships designated after that date. Management adopted SFAS No. 149 as of July 1, 2003 and it has had no material effect on the financial statements.

F-15

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

NOTE B—LONG-TERM DEBT AND SHORT TERM NOTES/LINES OF CREDIT

Long-term debt of MHI Hotels Services Group consisted of the following as of December 31, 2003 and 2002 and September 30, 2004.


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)
Mortgage notes on hotels:
First mortgage payable with Wachovia Bank, NA in monthly installments of principal payments plus interest at fixed rate of 7.93% amortized over a 20-year schedule. The loan is collateralized by all real and personal property of the Holiday Inn Downtown Williamsburg and is guaranteed by the members of Capitol Hotel Associates LP, LLP. This note was paid in full in 2003.	$	2,870,306	$	—	$	—
First mortgage payable with TowneBank in monthly installments of principal payments plus interest at the Federal Home Loan Bank of Atlanta’s 36 month cost of funds index rate (2.60% at December 31, 2003) plus 3.00%. Unless sooner paid in full, the note is due January 10, 2023. The loan is collateralized by all real and personal property of the Holiday Inn Downtown Williamsburg and is guaranteed by the members of Capitol Hotel Associates LP, LLP.		—		3,017,491		2,959,167
First mortgage payable with The Mutual Life Insurance Company of New York (“MONY”) in equal monthly installments of $146,657, principal and interest at a fixed rate of 8.22% amortized over a 20-year schedule. Unless sooner paid in full, the note is due September 1, 2008. The loan is collateralized by all real and personal property of the Wilmington Riverside Hilton and is guaranteed by the members of Capitol Hotel Associates LP, LLP.		16,016,136		15,513,401		15,139,768

First mortgage payable with The Mutual Life Insurance Company of New York (“MONY”) dated September 25, 1998 in equal monthly installments of $103,038, principal and interest at a fixed rate of 7.49% based upon a 20-year amortization schedule. Unless sooner paid in full, the note is due November 1, 2008. The loan is collateralized by all real and personal property of the Savannah DeSoto Hilton and is guaranteed by the members of Savannah Hotel Associates, LLC.		11,446,754		11,020,536		10,704,452

Total mortgage debt	$	30,333,196	$	29,551,428	$	28,803,387
Other Long Term Debt:
Equipment obligation payable in 60 monthly payments of $610, due December 8, 2008, bearing interest at a rate of 5.35%. The note is collateralized by a vehicle.		—		31,499		27,703

Total long-term debt	$	30,333,196	$	29,582,927	$	28,831,090

Short-term notes/Lines of Credit:
Line of Credit payable in monthly installments of interest only, due December 2, 2004, bearing interest at a variable rate of the Wall Street Journal Index (4.25% at December 31, 2002, 4.00% and 4.75% at December 31, 2003 and September 30, 2004, respectively) plus 1.00%		150,000		250,000		—
Line of Credit payable in monthly installments of interest only, due January 8, 2005, bearing interest at a variable rate of the Wall Street Journal Index (4.75% at September 30, 2004) plus 0.50%		—		—		—
Line of Credit payable in monthly installments of interest only, due October 7, 2004, bearing interest at a variable rate of the Wall Street Journal Index plus 1.00%, but not less than the minimum simple rate of 7.50% per annum or more than the maximum rate allowed by applicable law		150,000		200,000		—
Line of Credit payable in monthly installments of $2,500 principal plus interest, due October 31, 2004, bearing interest at a variable rate of the SunTrust Bank prime rate (4.75 % at September 30, 2004) plus 0.50%		—		—		—

Total short-term debt	$	300,000	$	450,000	$	—

Total long-term debt and short term notes/lines of credit	$	30,633,196	$	30,032,927	$	28,831,090

F-16

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001


	At December 31, 2003
Current maturities of long-term debt are as follows:
Due in:
2004	$	1,028,020
2005		1,113,836
2006		1,220,569
2007		1,318,112
2008		22,483,225
2009 and thereafter		2,419,165

	$	29,582,927

NOTE C—RELATED PARTY TRANSACTIONS

Capitol Hotel Associates LP, LLP entered into an Amended Hotel Management Agreement on February 18, 1985 with MHI Hotels Services, LLC, a limited liability company affiliated through common ownership, to operate the Holiday Inn Downtown Williamsburg through August 31, 2006. MHI Hotels Services, LLC has a 25% ownership interest in Capitol Hotel Associates LP, LLP. The management company receives a base fee equivalent to 3% of gross revenue and an incentive fee equivalent to 10% of gross operating profit. Management fees expensed for the nine months ended September 30, 2004 and 2003 and the years ended December 31, 2003, 2002 and 2001 under the management contract totaled $77,593, $84,288, $106,181, $105,483 and $101,976, respectively. At September 30, 2004 and at December 31, 2003 and 2002, amounts included in current liabilities related to the above transaction were $0.

Capitol Hotel Associates LP, LLP entered into an Amended Hotel Management Agreement on January 1, 1992 with MHI Hotels Services, LLC, a limited liability company affiliated through common ownership, to operate the Wilmington Riverside Hilton through January 1, 2008 and automatically renewing for one subsequent five-year term unless terminated in writing by either party prior to ninety days of the renewal date. MHI Hotels Services, LLC has a 25% ownership interest in Capitol Hotel Associates LP, LLP. The management company receives a base fee equivalent to 4.5% of gross sales revenue. Management fees expensed for the nine months ended September 30, 2004 and 2003 and the years ended December 31, 2003, 2002 and 2001 under the management contract totaled $383,986, $369,883, $484,023, $439,949 and $457,345, respectively. At September 30, 2004 and at December 31, 2003 and 2002, amounts included in current liabilities related to the above transaction were $0.

Savannah Hotel Associates, LLC entered into an Amended Hotel Management Agreement on May 2, 1996 with MHI Hotels Services, LLC, a limited liability company affiliated through common ownership, through May 31, 2006 and automatically renewing for subsequent five-year terms unless terminated in writing by either party prior to ninety days of the renewal date. MHI Hotels Services, LLC has an 80% ownership interest in Savannah Hotel Associates, LLC. The management company receives a base fee equivalent to 2.5% of gross sales revenue. Management fees expensed for the nine months ended September 30, 2004 and 2003 and the years ended December 31, 2003, 2002 and 2001 under the management contract totaled $274,899, $243,374, $319,938, $335,690 and $327,144, respectively. At September 30, 2004 and at December 31, 2003 and 2002, amounts included in current liabilities related to the above transaction were $0.

F-17

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

NOTE D—CAPITALIZED LEASES

Certain equipment has been leased for which the minimum lease rentals have been capitalized. The leases, which are non-cancelable, expire on various dates ranging from March, 2003 to January, 2005. The following is a schedule of leased equipment under capital leases:


	As of
	December 31,						September 30,
	2002			2003			2004 (unaudited)
Equipment	$	1,037,421		$	1,037,421		$	1,037,421
Less accumulated depreciation		(858,561	)		(991,336	)		(1,027,936	)

Net	$	178,860		$	46,085		$	9,485

The following is a schedule by years of future minimum lease payments under the capital leases:


	As of
	December 31,				September 30,
	2002		2003		2004 (unaudited)
Total minimum lease payments	$	234,475	$	60,575	$	16,538
Less amount representing interest		19,422		2,764		407

Present value of net minimum lease payments	$	215,053	$	57,811	$	16,131

Current portion	$	157,242	$	53,720	$	16,131
Non-current portion		57,811		4,091		—

Total	$	215,053	$	57,811	$	16,131

NOTE E—COMMITMENTS AND CONTINGENCIES

Leases:

Capitol Hotel Associates LP, LLP leases office equipment under a three-year operating lease, which expires January 14, 2005. Rent expense for all operating leases for the nine months ended September 30, 2004 and 2003 was $1,125 and $1,000, respectively, and for the years ended December 31, 2003, 2002 and 2001, was $1,375, $4,851 and $37,345, respectively.

Savannah Hotel Associates, LLC leases 2,086 square feet of commercial space next to the hotel property for use as an office, retail or conference space or for any related or ancillary purposes for the hotel and/or atrium space. The space is leased under a six-year operating lease, which expires October 31, 2006. There is a renewal option for up to three additional five-year periods expiring October 31, 2011, October 31, 2016, and October 31, 2021, respectively. Rent expense for all operating leases for the nine months ended September 30, 2004 and 2003 was $28,161 and for the years ended December 31, 2003, 2002, 2001 was $37,548.

Savannah Hotel Associates, LLC leases, as landlord, the premises being the entire fourteenth floor to The Chatham Club, Inc. under a ninety-nine year lease expiring July 31, 2086. This lease was assumed upon the purchase of the building under the terms and conditions agreed to by the previous owner of the property. No rental income is recognized under the terms of this lease as the original lump sum rent payment of $990 was received by the previous owner and not prorated over the life of the lease.

F-18

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

Franchise Agreements:

Holiday Inn Downtown Williamsburg:

Capitol Hotel Associates LP, LLP signed a license agreement with Holiday Hospitality Franchising, Inc. on May 15, 2004, that provides use of the Holiday Inn name, reservation system, training, operating methods, and sales and marketing programs. Capitol Hotel Associates LP, LLP pays Holiday Inn a franchise fee of 5% of gross rooms revenue. The agreement expires in 2015. This agreement succeeds the original license agreement with Holiday Inns Franchising, Inc. signed on September 18, 1995 and was set to expire in 2005. Fees expensed under this agreement totaled $83,299 and $90,537 for the nine months ended September 30, 2004 and 2003, respectively, and $107,239, $108,347 and $106,907 for the years ended December 31, 2003, 2002 and 2001, respectively.

Wilmington Riverside Hilton:

Capitol Hotel Associates LP, LLP signed a license agreement with Hilton Inns, Inc. on March 23, 1998, that provides use of the Hilton Inn name, reservation system, training, operating methods, and sales and marketing programs. Capitol Hotel Associates LP, LLP pays Hilton a franchise fee of 5.0% of gross rooms revenue and an advertising fee of 1.0% of gross rooms revenue not to exceed $100,000 in the first year of the agreement with annual increases in the cap equal to percentage increases in the Consumer Price Index. Fees expensed under this agreement totaled $272,784 and $255,950 for the nine months ended September 30, 2004 and 2003, respectively, and $324,479, $301,714 and $320,768 for the years ended December 31, 2003, 2002 and 2001, respectively. The agreement expires in 2008.

Savannah DeSoto Hilton:

Savannah Hotel Associates, LLC signed an amended license agreement with Hilton Inns, Inc. on September 29, 1998, that provides use of the Hilton name, reservation system, training, operating methods, and sales and marketing programs. Savannah Hotel Associates, LLC pays Hilton a franchise fee of 2.5% of gross rooms revenue. Fees expensed under this agreement totaled $315,912 and $274,818 for the nine months ended September 30, 2004 and 2003, respectively, and $385,017, $380,225 and $357,687 for the years ended December 31, 2003, 2002 and 2001, respectively. The agreement expires in 2008.

NOTE F—RETIREMENT PLAN

MHI Hotels Services Group participates in a 401(k) Plan, administered by the management company (MHI Hotels Services, LLC) for those employees who meet the eligibility requirements set forth in the plan. Capitol Hotel Associates LP, LLP matches 10% of the employee contributions up to a total match of 1.5% of employee’s wages. All employees who have at least one year of service and who have attained the age of 21 are eligible. Employees are vested automatically with respect to employee contributions. Vesting for employer contributions, based upon years of service, is as follows:


Years of Service	Vested Percentage
Less than two	0	%
Two but less than three	20	%
Three but less than four	40	%
Four but less than five	60	%
Five but less than six	80	%
Six or more	100	%

F-19

MHI HOTELS SERVICES GROUP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003, 2002 and 2001

NOTE G—QUARTERLY FINANCIAL INFORMATION (unaudited)


	2003
	First Quarter			Second Quarter		Third Quarter		Fourth Quarter			Fiscal Year

Operating revenue	$	5,303,511		$	7,079,046	$	6,377,516	$	5,675,133		$	24,435,206
Operating expense		4,952,869			5,682,884		5,628,012		5,322,442			21,586,207
Net income (loss)		(161,278	)		581,752		110,343		(390,981	)		139,836

	2002
	First Quarter			Second Quarter		Third Quarter		Fourth Quarter			Fiscal Year

Operating revenue	$	4,738,167		$	7,513,237	$	6,247,101	$	5,460,522		$	23,959,027
Operating expense		4,517,494			5,828,197		5,449,201		5,362,677			21,157,575
Net income (loss)		(263,215	)		799,475		127,386		(785,685	)		(122,039	)

NOTE H—SEGMENT INFORMATION

The group operates in one segment, full-service hotels. All of MHI Hotels Services Group’s properties are located in the Southeastern region of the United States of America. As of December 31, 2003 and 2002, MHI Hotels Services Group had no single significant customer.

NOTE I—SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Supplemental disclosures of cash flow information for the years ended December 31 and the nine months ended September 30 are as follows:


	December 31, 2001		December 31, 2002		December 31, 2003		September 30, 2004
							(unaudited)
Cash paid for interest	$	2,579,493	$	2,481,528	$	2,369,422	$	1,708,856

NOTE J—SUBSEQUENT EVENTS

As of the date of the issuance of these financial statements, there have been no significant transactions or events that have had a material effect on the financial position or results of operations of MHI Hotels Services Group.

F-20

Schedule III

MHI HOTELS SERVICES GROUP

REAL ESTATE AND ACCUMULATED DEPRECIATION

December 31, 2003


						Initial Costs						Gross Amount at Year End
Description	Location	Date Acquired	Type	Encumbrances at December 31, 2003		Land		Building and Improvements		Net Improvements Since Acquisition		Land		Building and Improvements		Accumulated Depreciation		Depreciation Life in Years
814 Capitol Landing Rd	Williamsburg, VA	April 1, 1994	Hotel	$	3,017,491	$	428,400	$	3,917,300	$	283,066	$	428,400	$	4,200,366	$	1,014,394	7-39
15 East Liberty St	Savannah, GA	June 3, 1996	Hotel		11,020,536		500,000		3,009,410		3,965,044		500,000		6,974,454		1,172,249	7-39
301 North Water St.	Wilmington, NC	April 1, 1994	Hotel		15,513,401		608,700		5,478,297		10,924,997		608,700		16,403,294		2,523,233	7-39

			Totals	$	29,551,428	$	1,537,100	$	12,405,007	$	15,173,107	$	1,537,100	$	27,578,114	$	4,709,876

F-21

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

MHI Hospitality Corporation

Williamsburg, Virginia

We have audited the accompanying combined balance sheets of Elpizo Limited Partnership as of December 31, 2003 and 2002, and the related combined statements of operations and stockholders’ equity/partners’ capital (deficit) and cash flows for the years then ended. In connection with our audits of the combined financial statements, we have also audited the financial statement schedule of real estate and accumulated depreciation. These combined financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these combined financial statements and financial statement schedule based on our audits.

In our opinion, the combined financial statements referred to above present fairly, in all material respects, the financial position of Elpizo Limited Partnership as of December 31, 2003 and 2002, and the results of their operations and their cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule referred to above, when considered in relation to the basic combined financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ Witt, Mares & Company, PLC

Williamsburg, Virginia

August 24, 2004

F-22

ELPIZO LIMITED PARTNERSHIP

Combined Balance Sheets

September 30, 2004 (unaudited) and

December 31, 2003 and 2002


	December 31,						September 30,
	2002			2003			2004
							(unaudited)
ASSETS
Current Assets
Cash	$	743,740		$	177,190		$	452,840
Restricted real estate tax escrows		389,174			429,103			334,072
Accounts receivable		710,434			448,207			600,589
Inventories		282,168			277,733			310,552
Prepaid expenses		158,489			161,549			447,706

Total current assets		2,284,005			1,493,782			2,145,759
Property & Equipment (at cost)
Land and improvements		2,095,099			2,095,099			2,095,099
Building and improvements		21,422,258			21,426,528			21,653,390
Furniture, fixtures and equipment		10,388,212			10,587,263			10,677,724

Total property & equipment		33,905,569			34,108,890			34,426,213
Less: accumulated depreciation		(19,720,838	)		(20,681,808	)		(21,400,875	)

Property & equipment, net		14,184,731			13,427,082			13,025,338
Other Assets
Deferred charges and other assets (net of amortization of $50,017 and $40,457 in 2003 and 2002, respectively) (net of amortization of $56,077 for the nine months ended September 30, 2004)		28,495			23,375			12,875

TOTAL ASSETS	$	16,497,231		$	14,944,239		$	15,183,972

LIABILITIES AND STOCKHOLDERS’ EQUITY/PARTNERS’ CAPITAL
Current Liabilities
Current portion of long term debt	$	371,391		$	430,497		$	508,043
Accounts payable		431,434			171,869			434,895
Due to affiliate		70,927			81,265			31,682
Accrued expenses		662,148			567,284			699,450
Accrued expenses-related party		150,513			168,885			182,664
Advance deposits		106,243			105,752			126,020

Total current liabilities		1,792,656			1,525,552			1,982,754
Long Term Liabilities
Long term debt		15,542,983			15,112,486			14,735,658
Long term portion of related party debt		232,714			232,714			232,714

Total long term liabilities		15,775,697			15,345,200			14,968,372

Total liabilities		17,568,353			16,870,752			16,951,126
Stockholders’ equity
Common stock		1,000			1,000			1,000
Additional paid in capital		586,990			586,990			586,990

Total stockholders’ equity		587,990			587,990			587,990
General partners’ capital		(16,591	)		(25,145	)		(23,551	)
Limited partners’ capital		(1,642,521	)		(2,489,358	)		(2,331,593	)

Total stockholders’ equity and partners’ capital (deficit)		(1,071,122	)		(1,926,513	)		(1,767,154	)

Total liabilities, stockholders’ equity and partners’ capital	$	16,497,231		$	14,944,239		$	15,183,972

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

F-23

ELPIZO LIMITED PARTNERSHIP

Combined Statements of Operations and Stockholders’ Equity/Partners’ Capital (Deficit)

For the nine months ended September 30, 2004 and 2003 (unaudited)

and the years ended December 31, 2003 and 2002


	Year Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
Operating Revenue
Rooms department	$	7,949,689		$	7,458,474		$	5,549,406		$	6,461,441
Food and beverage department		3,851,925			3,798,338			2,995,238			2,770,557
Other operating departments		342,048			283,548			344,264			217,476

Total operating revenue		12,143,662			11,540,360			8,888,908			9,449,474
Operating Expenses
Rooms department		2,252,139			2,203,972			1,624,688			1,780,765
Food and beverage department		2,575,910			2,671,710			2,198,453			2,102,813
Other operating departments		125,058			124,453			229,221			86,489
Selling, general and administrative expense		4,619,145			4,295,522			3,198,564			3,433,073
Management fees		217,673			173,031			127,199			140,543
Depreciation and amortization		963,491			966,090			724,568			729,568

Total operating expenses		10,753,416			10,434,778			8,102,693			8,273,251

Net Operating Income		1,390,246			1,105,582			786,215			1,176,223
Other Income (Expense)
Interest expense		(1,365,158	)		(1,317,473	)		(990,986	)		(967,364	)
Other income (expense)—net		(23,570	)		—			—			—

Net Income (Loss)		1,518			(211,891	)		(204,771	)		208,859
Stockholders’ equity and partners’ capital (deficit), beginning of period		(1,072,640	)		(1,071,122	)		(1,071,122	)		(1,926,513	)
Partners’ capital contributed		—			—			—			—
Partners’ capital distributed		—			(643,500	)		(643,500	)		(49,500	)

Stockholders’ equity and partners’ capital (deficit), end of period	$	(1,071,122	)	$	(1,926,513	)	$	(1,919,393	)	$	(1,767,154	)

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

F-24

ELPIZO LIMITED PARTNERSHIP

Combined Statements of Cash Flows

For the nine months ended September 30, 2004 and 2003 (unaudited)

and the years ended December 31, 2003 and 2002


	Year Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
*Cash Flows from Operating Activities:*
Net Income (Loss)	$	1,518		$	(211,891	)	$	(204,771	)	$	208,859
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		963,491			966,090			724,568			729,568
Loss on disposal of property and equipment		23,570			—			—			—
(Increase) decrease in:
Restricted escrows		(24,279	)		(39,929	)		72,386			95,031
Accounts receivable		(331,494	)		262,227			134,022			(152,382	)
Inventories and prepaid expenses		(66,072	)		1,375			(168,770	)		(318,976	)
Increase (decrease) in:
Accounts payable		267,990			(259,565	)		2,642			263,026
Accrued expenses		(19,203	)		(76,492	)		42,027			145,944
Advance deposits		58,443			(491	)		(3,670	)		20,268

Net cash provided by operating activities		873,964			641,324			598,434			991,338

*Cash Flows from Investing Activities:*
Capital expenditures		(439,119	)		(203,321	)		(127,846	)		(317,323	)

Net cash used in investing activities		(439,119	)		(203,321	)		(127,846	)		(317,323	)

*Cash Flows from Financing Activities:*
Partners’ capital distributed		—			(643,500	)		(643,500	)		(49,500	)
Proceeds (payment) of related party loans		59,604			10,338			(33,610	)		(49,583	)
Payment of loans		(342,077	)		(371,391	)		(275,661	)		(299,282	)

Net cash used in financing activities		(282,473	)		(1,004,553	)		(952,771	)		(398,365	)

Net increase (decrease) in cash		152,372			(566,550	)		(482,183	)		275,650
Cash at the beginning of the period		591,368			743,740			743,740			177,190

*Cash at the end of the period*	$	743,740		$	177,190		$	261,557		$	452,840


*Supplemental disclosures:*
Cash paid during the period for interest	$	1,365,158		$	1,317,473		$	990,986		$	967,364

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

F-25

ELPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE A—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

This summary of significant accounting policies of Elpizo Limited Partnership (the “Company”) is presented to assist in understanding the Company’s financial statements. The financial statements and notes are representations of management, which is responsible for their integrity and objectivity. These accounting policies conform to generally accepted accounting principles applied in the preparation of the financial statements.

Business Activity

Elpizo Limited Partnership was formed on March 26, 1986 to purchase the Philadelphia Airport Hilton, a 331 room, full-service hotel located in Philadelphia, Pennsylvania. Income, loss and cash flow are allocated and/or distributed to the members in accordance with their agreement.

Principles of Combination

The accompanying combined financial statements reflect the total activity of Elpizo Limited Partnership, which include the financial statements of Elpizo Limited Partnership and Phileo Land Corporation presented on a combined basis as a result of common ownership and control by a single group of owners. The properties are all managed under management agreements with MHI Hotels Services, LLC. All significant inter-affiliate accounts and transactions among the entities have been eliminated in the combined financial statements.

Use of Estimates in Financial Statements

In preparing financial statements in conformity with generally accepted accounting principles, management of Elpizo Limited Partnership make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Accounts Receivable

Management of Elpizo Limited Partnership considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If the amounts become uncollectible, they are charged to operations when that determination is made.

Inventories

Inventories are stated at the lower of cost or market and consist primarily of food and beverages and gift shop merchandise. Cost is determined by the first-in, first-out method.

Property & Equipment

Property and equipment are stated at cost and are depreciated on a straight-line basis over their estimated useful lives as follows: hotel buildings and improvements - seven to thirty-nine years, and furniture, fixtures and equipment - five to seven years. Depreciation and amortization expense for the periods ending September 30, 2004 and 2003 was $729,568 and $724,568, respectively, and for the years ended December 31, 2003, 2002 and 2001 was $956,530, $953,931 and $1,060,734, respectively.

F-26

ELPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

Expenditures which materially increase values or extend lives are capitalized, while replacements, maintenance and repairs which do not improve or extend the lives of the respective assets are charged against earnings as incurred. In August, 2001 the Financial Accounting Standards Board (“FASB”) issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The provisions of SFAS No. 144 are effective as of January 1, 2002. SFAS No. 144 supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets for Long-Lived Assets to be Disposed Of.” SFAS No. 144 also established a single accounting model for long-lived assets to be disposed of by sale. Adoption of the Statement did not have a material effect on the financial condition or results of operations for 2002. Management of Elpizo Limited Partnership has assessed the operations of the hotel property and the fair market value of the hotel property based on undiscounted cash flows and other models and has noted no impairment in such assets for all years presented.

Management of Elpizo Limited Partnership reviews the hotel property for impairment whenever events or changes in circumstances indicate the carrying value of the hotel property may not be recoverable. Events or circumstances that may cause a review include, but are not limited to, adverse changes in the demand for lodging at the property due to declining national or local economic conditions and/or new hotel construction in the market where the hotel is located. When such conditions exist, management performs an analysis to determine if the estimated undiscounted future cash flows from operating activities and the proceeds from the ultimate disposition of the hotel property exceed its carrying value. If the estimated undiscounted future cash flows are less than the carrying amount of the asset, an adjustment to reduce the carrying amount to the hotel property’s estimated fair market value is recorded and an impairment loss is recognized.

Fair value of the hotel property is estimated through a discounted cash flow analysis taking into account the property’s expected cash flow generated from operations, holding period and ultimate proceeds from disposition. In projecting the expected cash flows from operating activities of the property, the estimates are based upon future projected earnings before interest expense, income taxes, depreciation and amortization, or EBITDA, and deduct expected capital expenditure requirements. Growth assumptions are applied to project these amounts over the holding period of the property. The growth assumptions are based upon estimated inflationary increases in room rates and expenses and the demand for lodging at the property, as impacted by local and national economic conditions and estimated or known future new hotel supply. The estimated proceeds from disposition are judgmentally determined based on a combination of anticipated cash flow in the year of disposition, capitalization rate, ratio of selling price to gross hotel revenues and selling price per room.

If actual conditions differ from the assumption, the actual results of the property’s future operations and fair market value could be significantly different from the estimated results and value used in the analysis.

The property was not held for sale as of September 30, 2004 or December 31, 2003 and 2002, as defined within the provisions of Statement of Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.”

Deferred Franchise Fees

Deferred franchise fees consist of the initial fees paid to Hilton Inns, Inc. to operate the Philadelphia Airport Hilton. Amortization of the fees began upon commencement of hotel operations. The fees are being amortized over the term of the franchise agreement, which commenced on December 3, 1994, and runs for a term of 10 years. The agreement is carried at a cost of $42,300 as of September 30, 2004, December 31, 2003 and 2002. Accumulated amortization at September 30, 2004 was $42,300 and at December 31, 2003 and 2002 was $39,127

F-27

ELPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

and $34,897, respectively. Management of Elpizo Limited Partnership has assessed the fair market value of the asset and no impairment of any franchise fee was noted during any period presented.

Loan Fees

Loan fees include direct costs incurred in order to obtain financing. These costs are being amortized over the term of the debt agreement. The loan fees are carried at a cost of $22,239 as of September 30, 2004 and December 31, 2003 and 2002. Accumulated amortization at September 30, 2004 was $13,777 and at December 31, 2003 and 2002 were $6,449 and $5,560, respectively.

Income Taxes

Elpizo Limited Partnership is a limited partnership, which files tax returns for which the partners are taxed on their respective shares of the entity’s income, and accordingly, no provision for income taxes is included in the financial statements.

Recognition of Revenue

Revenue associated with room rental, food and beverage sales and other hotel revenues are recognized as the related services are provided.

Application of New Accounting Standards

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 amends existing guidance on reporting gains and losses on the extinguishments of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS No. 145 also amends SFAS No. 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of the Statement related to the rescission of Statement No. 4 are applied in fiscal years beginning after May 15, 2002. Management adopted SFAS No. 145 as of May 15, 2002 and it has had no material effect on the financial statements. The provisions of the Statement related to the rescission of Statement No. 13 were effective for transactions occurring after May 15, 2002.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities (revised), an Interpretation of ARB No. 51, Consolidated Financial Statements.” FIN 46(R) revises the requirements for consolidation by business enterprises of variable business entities with specific characteristics. FIN 46(R) is effective immediately for variable interests created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. For nonpublic entities, such as Elpizo Limited Partnership, with a variable interest in a variable interest entity created before February 1, 2003, the Interpretation is applied to the enterprise no later than the end of the first annual reporting period beginning after June 30, 2003. Management adopted FIN 46(R) as of January 1, 2003. The application of this Interpretation is not expected to have a material effect on Elpizo Limited Partnership’s financial statements. The Interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that Elpizo Limited Partnership will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. Management does not believe that it is reasonably possible that the adoption of FIN 46(R) will result in the consolidation of any of its equity investees in the future.

F-28

ELPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement”, 133 on Derivative Instruments and Hedging Activities, “which clarifies certain implementation issues raised by constituents and amends SFAS No. 133”, “Accounting for Derivative Instruments and Hedging Activities”, to include the conclusions reached by the FASB on certain FASB Staff Implementation issues; amends SFAS No. 133’s discussion of financial guarantee contracts and the application of the shortcut method to an interest rate swap agreement that includes an embedded option and amends other pronouncements. The guidance in SFAS No. 149 is effective for new contracts entered into or modified after June 30, 2003 and for hedging relationships designated after that date. Management adopted SFAS No. 149 as of July 1, 2003 and it has had no material effect on the financial statements.

NOTE B—LONG-TERM DEBT

Long-term debt of Elpizo Limited Partnership consisted of the following as of December 31, 2003 and 2002 and September 30, 2004.


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)
Mortgage notes on hotels:
First mortgage payable with Midland Loan Services in monthly installments of fixed payments of principal and interest at a fixed rate per annum of 8.25% amortized under a 25-year schedule. Unless sooner paid in full, the note is due September 10, 2006. The loan is collateralized by all real and personal property of the Philadelphia Airport Hilton and is guaranteed by the members of Elpizo Limited Partnership.	$	15,914,374	$	15,542,983	$	15,243,700

Total mortgage debt	$	15,914,374	$	15,542,983	$	15,243,700
Other Long Term Debt:
Loan payable to Sunleigh LTD, with no due date and payments based upon available cash flow, bearing interest at a rate of 8.50%. The note is uncollateralized		232,714		232,714		232,714

Total long-term debt	$	16,147,088	$	15,775,697	$	15,476,414

F-29

ELPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

Long-term debt matures as follows:


	At December 31, 2003
Due in:
2004	$	430,497
2005		599,558
2006		14,512,928
2007 and thereafter		232,714

	$	15,775,697

NOTE C—RELATED PARTY TRANSACTIONS

The Company is the obligor on a note described in NOTE B that is payable to Sunleigh LTD., which is wholly owned by one of the partners of Elpizo Limited Partnership.

NOTE D—COMMITMENTS AND CONTINGENCIES

Franchise Agreements:

Elpizo Limited Partnership signed a license agreement with Hilton Inns, Inc. on December 3, 1994, that provides use of the Hilton name, reservation system, training, operating methods, and sales and marketing programs. Elpizo Limited Partnership pays Hilton a franchise fee of 2.5% of gross rooms revenue. Fees expensed under this agreement totaled $325,038 and $284,264 for the nine months ended September 30, 2004 and 2003, respectively, and $376,718, $397,485 and $364,949 for the years ended December 31, 2003, 2002 and 2001, respectively. The agreement expires in December 2004 and the renewal is currently being negotiated.

NOTE E—RETIREMENT PLAN

Elpizo Limited Partnership participates in a 401(k) Plan, administered by the management company (MHI Hotels, LLC) for those employees who meet the eligibility requirements set forth in the plan. Elpizo Limited Partnership matches 10% of the employee contributions up to a total match of 1.5% of employee’s wages. All employees who have at least one year of service and who have attained the age of 21 are eligible. Employees are vested automatically with respect employee contributions. Vesting for employer contributions, based upon years of service, is as follows:


Years of Service	Vested Percentage
Less than two	0	%
Two but less than three	20	%
Three but less than four	40	%
Four but less than five	60	%
Five but less than six	80	%
Six or more	100	%

F-30

ELIPIZO LIMITED PARTNERSHIP

NOTES TO COMBINED FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE F—QUARTERLY FINANCIAL INFORMATION (unaudited)


	2003
	First Quarter			Second Quarter		Third Quarter			Fourth Quarter			Fiscal Year
Operating revenue	$	2,613,204		$	2,997,118	$	2,874,579		$	3,055,459		$	11,540,360
Operating expense		2,536,413			2,596,879		2,547,825			2,753,661			10,434,778
Net income (loss)		(250,827	)		74,490		2,913			(38,467	)		(211,891	)

	2002
	First Quarter			Second Quarter		Third Quarter			Fourth Quarter			Fiscal Year
Operating revenue	$	2,621,302		$	3,216,213	$	2,938,658		$	3,367,489		$	12,143,662
Operating expense		2,468,956			2,587,975		2,624,791			3,071,694			10,753,416
Net income (loss)		(182,377	)		295,238		(17,376	)		(93,967	)		1,518

NOTE G—SEGMENT INFORMATION

Elpizo Limited Partnership operates in one segment, full-service hotels. The property is located in the Mid-Atlantic region of the United States of America. As of December 31, 2003 and 2002, Elpizo Limited Partnership had no single significant customer.

NOTE H—SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Supplemental disclosures of cash flow information for the years ended December 31 and the nine months ended September 30 are as follows:


	December 31, 2002		December 31, 2003		September 30, 2004
					(unaudited)
Cash paid for interest	$	1,365,158	$	1,317,473	$	967,364

NOTE I—SUBSEQUENT EVENTS

F-31

Schedule III

COMBINED ELPIZO LIMITED PARTNERSHIP AND PHILEO LAND CORPORATION

REAL ESTATE AND ACCUMULATED DEPRECIATION

December 31, 2003


						Initial Costs						Gross Amount at Year End
Description	Location	Date Acquired	Type	Encumbrances at December 31, 2003		Land		Building and Improvements		Net Improvements Since Acquisition		Land		Building and Improvements		Accumulated Depreciation		Depreciation Life in Years
4509 Island Avenue	Philadelphia PA	January 1, 1986	Hotel	$	15,542,983	$	2,066,249	$	18,442,915	$	3,012,463	$	2,066,249	$	21,455,378	$	11,109,515	7-39

F-32

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

MHI Hospitality Corporation

Williamsburg, Virginia

We have audited the accompanying balance sheets of Accord, LLC as of December 31, 2003 and 2002, and the related statements of operations and members’ equity and cash flows for the years then ended. In connection with our audits of the financial statements, we have also audited the financial statement schedule of real estate and accumulated depreciation. These financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Accord, LLC as of December 31, 2003 and 2002, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ Witt, Mares & Company, PLC

Williamsburg, Virginia

August 24, 2004

F-33

ACCORD, LLC

Balance Sheets

September 30, 2004 (unaudited) and

December 31, 2003 and 2002


	December 31,						September 30,
	2002			2003			2004
ASSETS							(unaudited)
Current Assets
Cash and cash equivalents	$	100,931		$	137,739		$	115,015
Restricted real estate tax escrows		86,822			114,830			79,310
Accounts receivable		66,290			199,889			248,796
Prepaid expenses		37,643			41,959			79,592

Total current assets		291,686			494,417			522,713

Property & Equipment (at cost)
Land and improvements		897,747			897,747			897,747
Building and improvements		9,073,683			9,066,972			9,120,637
Furniture, fixtures and equipment		1,141,317			1,064,987			1,121,854

Total property & equipment		11,112,747			11,029,706			11,140,238
Less: accumulated depreciation		(4,454,723	)		(4,654,602	)		(4,873,734	)

Property & equipment, net		6,658,024			6,375,104			6,266,504

Other Assets
Deferred charges and other assets (net of amortization of $121,327 and $102,757 in 2003 and 2002, respectively) (net of amortization of $135,255 for the nine months ended September 30, 2004)		94,164			75,593			50,540


TOTAL ASSETS	$	7,043,874		$	6,945,114		$	6,839,757


LIABILITIES AND MEMBERS’ EQUITY

Current Liabilities
Current portion of long term debt	$	100,000		$	100,000		$	100,000
Accounts payable		158,899			156,675			192,068
Due to affiliate		728			1,112			—
Accrued expenses		101,968			49,228			46,288
Accrued expenses-related party		426,702			595,870			598,277
Advance deposits		11,555			8,472			15,399

Total current liabilities		799,852			911,357			952,032

Long Term Liabilities
Long term debt		7,010,132			6,879,644			6,781,159
Long term portion of related party debt		2,080,000			2,185,000			2,087,550

Total long term liabilities		9,090,132			9,064,644			8,868,709


TOTAL LIABILITIES		9,889,984			9,976,001			9,820,741

Members’ Equity (Deficit)
Members’ equity accounts		(2,846,110	)		(3,030,887	)		(2,980,984	)


TOTAL MEMBERS’ EQUITY (DEFICIT)		(2,846,110	)		(3,030,887	)		(2,980,984	)


TOTAL LIABILITIES AND MEMBERS’ EQUITY	$	7,043,874		$	6,945,114		$	6,839,757

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

F-34

ACCORD, LLC

Statements of Operations and Members’ Equity (Deficit)

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003 and 2002


	Year Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
Operating Revenue
Rooms department	$	3,086,362		$	2,967,718		$	2,290,230		$	2,578,439
Lease income—related party		84,000			84,000			63,000			63,000
Other operating departments		277,920			232,321			174,004			196,965

Total operating revenue		3,448,282			3,284,039			2,527,234			2,838,404

Operating Expenses
Rooms department		828,963			769,122			565,732			680,407
Other operating departments		221,800			109,894			98,068			35,424
Selling, general and administrative expense		1,474,940			1,318,965			997,102			1,145,937
Management fees—related party		84,037			79,784			61,458			69,560
Depreciation and amortization		326,795			333,365			232,024			233,060

Total operating expenses		2,936,535			2,611,130			1,954,384			2,164,388


Net Operating Income		511,747			672,909			572,850			674,016

Other Income (Expense)
Interest expense		(658,515	)		(647,876	)		(485,598	)		(478,807	)
Interest expense—related party		(189,215	)		(195,667	)		(146,505	)		(145,306	)
Other income (expense)—net		(497	)		(14,143	)		—			—


Net Income (Loss)		(336,480	)		(184,777	)		(59,253	)		49,903

Members’ Equity (Deficit), beginning of period		(2,509,630	)		(2,846,110	)		(2,846,110	)		(3,030,887	)
Members’ equity contributed		—			—			—			—
Members’ equity distributed		—			—			—			—


Members’ Equity (Deficit), end of period	$	(2,846,110	)	$	(3,030,887	)	$	(2,905,363	)	$	(2,980,984	)

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

F-35

ACCORD, LLC

Statements of Cash Flows

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003 and 2002


	Year Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
Cash Flows from Operating Activities:
Net Income (Loss)	$	(336,480	)	$	(184,777	)	$	(59,253	)	$	49,903
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		326,795			333,365			232,024			233,060
Loss on disposal of property and equipment		497			14,143			—			—
(Increase) decrease in:
Restricted escrows		(14,441	)		(28,008	)		25,763			35,520
Accounts receivable		21,252			(133,599	)		(102,474	)		(48,907	)
Prepaid expenses		3,020			(9,909	)		(65,793	)		(26,508	)
Increase (decrease) in:
Accounts payable		(18,327	)		(2,224	)		(15,693	)		35,393
Due to affiliate		728			384			(728	)		(1,112	)
Accrued expenses		182,074			116,428			76,300			(533	)
Advance deposits		(16,947	)		(3,083	)		653			6,927

Net cash provided by operating activities		148,171			102,720			90,799			283,743

Cash Flows from Investing Activities:
Capital expenditures		(143,880	)		(40,424	)		(41,675	)		(110,532	)

Net cash used in investing activities		(143,880	)		(40,424	)		(41,675	)		(110,532	)

Cash Flows from Financing Activities:
Proceeds (Payments) from (to) related party loans		80,000			105,000			105,000			(97,450	)
Payment of loans		(110,347	)		(130,488	)		(100,305	)		(98,485	)

Net cash used in financing activities		(30,347	)		(25,488	)		4,695			(195,935	)

Net increase (decrease) in cash and cash equivalents		(26,056	)		36,808			53,819			(22,724	)
Cash and cash equivalents at the beginning of the period		126,987			100,931			100,931			137,739

Cash and cash equivalents at the end of the period	$	100,931		$	137,739		$	154,750		$	115,015


Supplemental disclosures:
Cash paid during the period for interest	$	658,515		$	647,876		$	485,598		$	478,807

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

F-36

ACCORD, LLC

NOTES TO FINANCIAL STATEMENTS

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE A—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

This summary of significant accounting policies of Accord, LLC (the “Company”) is presented to assist in understanding the Company’s financial statements. The financial statements and notes are representations of management, which is responsible for their integrity and objectivity. These accounting policies conform to generally accepted accounting principles applied in the preparation of the financial statements.

Business Activity

Accord, LLC was formed on June 6, 1997 to purchase the Best Western Maryland Inn—Laurel, a 207 room, full-service hotel located in Laurel, Maryland. Income, loss and cash flow are allocated and/or distributed to the members in accordance with their agreement.

Use of Estimates in Financial Statements

In preparing financial statements in conformity with generally accepted accounting principles, management of Accord, LLC make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Accounts Receivable

Management of Accord, LLC considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If the amounts become uncollectible, they are charged to operations when that determination is made.

Property & Equipment

Property and equipment are stated at cost and are depreciated on a straight-line basis over their estimated useful lives as follows: hotel buildings and improvements - seven to thirty-nine years, and furniture, fixtures and equipment - five to seven years. Depreciation and amortization expense for the periods ended September 30, 2004 and 2003 was $233,060 and $232,024, respectively, and for the years ended December 31, 2003 and 2002 was $314,795 and $308,225, respectively.

Expenditures which materially increase values or extend lives are capitalized, while replacements, maintenance and repairs which do not improve or extend the lives of the respective assets are charged against earnings as incurred. In August, 2001 the Financial Accounting Standards Board (“FASB”) issued SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The provisions of SFAS No. 144 are effective as of January 1, 2002. SFAS No. 144 supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets for Long-Lived Assets to be Disposed Of.” SFAS No. 144 also established a single accounting model for long-lived assets to be disposed of by sale. Adoption of the Statement did not have a material effect on the financial condition or results of operations for 2002. Management of Accord, LLC has assessed the operations of the hotel property and the fair market value of the hotel property based on undiscounted cash flows and other models and has noted no impairment in such assets for all years presented.

Management of Accord, LLC reviews the hotel property for impairment whenever events or changes in circumstances indicate the carrying value of the hotel property may not be recoverable. Events or circumstances that may cause a review include, but are not limited to, adverse changes in the demand for lodging at the property

F-37

ACCORD, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

due to declining national or local economic conditions and/or new hotel construction in the market where the hotel is located. When such conditions exist, management performs an analysis to determine if the estimated undiscounted future cash flows from operating activities and the proceeds from the ultimate disposition of the hotel property exceed its carrying value. If the estimated undiscounted future cash flows are less than the carrying amount of the asset, an adjustment to reduce the carrying amount to the hotel property’s estimated fair market value is recorded and an impairment loss is recognized.

Loan Fees

Loan fees include direct costs incurred in order to obtain financing. These costs are being amortized over the terms of the respective debt agreements. The loan fees are carried at a cost of $185,795 as of September 30, 2004 and December 31, 2003 and 2002. Accumulated amortization at September 30, 2004 was $135,255 and at December 31, 2003 and 2002 was $121,327 and $102,757, respectively.

Income Taxes

Accord, LLC is a limited liability company, which files tax returns for which the members are taxed on their respective shares of the entity’s income, and accordingly, no provision for income taxes is included in the financial statements.

Recognition of Revenue

Revenue associated with room rental and other hotel revenues are recognized as the related services are delivered.

Application of New Accounting Standards

F-38

ACCORD, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS No. 145 also amends SFAS No. 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of the Statement related to the rescission of Statement No. 4 are applied in fiscal years beginning after May 15, 2002. Management adopted SFAS No. 145 as of May 15, 2002 and it has had no material effect on the financial statements. The provisions of the Statement related to the rescission of Statement No. 13 were effective for transactions occurring after May 15, 2002.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities (revised), an Interpretation of ARB No. 51, Consolidated Financial Statements.” FIN 46(R) revises the requirements for consolidation by business enterprises of variable business entities with specific characteristics. FIN 46(R) is effective immediately for variable interests created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. For nonpublic entities, such as Accord, LLC, with a variable interest in a variable interest entity created before February 1, 2003, the Interpretation is applied to the enterprise no later than the end of the first annual reporting period beginning after June 30, 2003. Management adopted FIN 46(R) as of January 1, 2003. The application of this Interpretation is not expected to have a material effect on Accord, LLC’s financial statements. The Interpretation requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that Accord, LLC will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. Management does not believe that it is reasonably possible that the adoption of FIN 46(R) will result in the consolidation of any of its equity investees in the future.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities, “ which clarifies certain implementation issues raised by constituents and amends SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”, to include the conclusions reached by the FASB on certain FASB Staff Implementation issues; amends SFAS No. 133’s discussion of financial guarantee contracts and the application of the shortcut method to an interest rate swap agreement that includes an embedded option and amends other pronouncements. The guidance in SFAS No. 149 is effective for new contracts entered into or modified after June 30, 2003 and for hedging relationships designated after that date. Management adopted SFAS No. 149 as of July 1, 2003 and it has had no material effect on the financial statements.

F-39

ACCORD, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE B—LONG-TERM DEBT

Long-term debt of Accord, LLC consisted of the following as of December 31, 2003 and 2002 and September 30, 2004.


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)
Mortgage notes on hotels:
First mortgage payable with Suburban Capital Markets, Inc. in monthly installments of principal plus interest at a 9.07% rate per annum amortized over a 25-year schedule. Unless sooner paid in full, the note is due June 30, 2007. The loan is collateralized by all real and personal property of the Best Western Maryland Inn—Laurel of Accord, LLC.	$	7,110,132	$	6,979,644	$	6,881,159

Total mortgage debt	$	7,110,132	$	6,979,644	$	6,881,159
Other Related Party Long Term Debt:
Promissory notes payable to the Estate of Walter L. Green, with no due date, bearing interest at a rate of 9.00%. The loans are uncollateralized.		2,080,000		2,185,000		2,087,550

Total long-term debt	$	9,190,132	$	9,164,644	$	8,968,709

Long-term debt matures as follows:


	At December 31, 2003
Due in:
2004	$	100,000
2005		100,000
2006		6,779,644
2007 and thereafter		2,185,000

	$	9,164,644

NOTE C—COMMITMENTS AND CONTINGENCIES

Membership Agreements:

Accord, LLC signed a membership agreement with Best Western, Inc. on September 8, 1994, that provides use of the Best Western name, reservation system, training, operating methods, and sales and marketing programs. Accord, LLC pays Best Western a membership fee of approximately 3.5% of gross rooms revenue. This membership fee is based on annual fees charged by Best Western, Inc., based on the number of rooms and number of room reservations at the property. Fees expensed under this agreement totaled $87,563 and $80,309 for the nine months ended September 30, 2004 and 2003, respectively, and $110,659 and $107,397 for the years ended December 31, 2003 and 2002, respectively. The agreement expires in 2005.

F-40

Schedule III

ACCORD, LLC

REAL ESTATE AND ACCUMULATED DEPRECIATION

December 31, 2003


						Initial Costs						Gross Amount at Year End
Description	Location	Date Acquired	Type	Encumbrances at 12/31/2003		Land		Building & Improvements		Net Improvements Since Acquisition		Land		Building & Improvements		Accumulated Depreciation		Depreciation Life in Years
15101 Sweitzer Lane	Laurel, MD	January 1, 1985	Hotel	$	6,979,644	$	889,813	$	4,643,478	$	4,431,428	$	889,813	$	9,074,906	$	3,951,403	7-39

F-41

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders

MHI Hospitality Corporation

Williamsburg, Virginia

We have audited the accompanying balance sheets of Brownestone Partners, LLC as of December 31, 2003 and 2002, and the related statements of operations and members’ equity and cash flows for the years then ended. In connection with our audits of the financial statements, we have also audited the financial statement schedule of real estate and accumulated depreciation. These financial statements and the financial statement schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Brownestone Partners, LLC as of December 31, 2003 and 2002, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

/s/ Witt, Mares & Company, PLC

Williamsburg, Virginia

August 24, 2004

F-42

BROWNESTONE PARTNERS, LLC

Balance Sheets

September 30, 2004 (unaudited) and

December 31, 2003 and 2002


	December 31,						September 30,
	2002			2003			2004
ASSETS							(unaudited)
Current Assets
Cash	$	9,180		$	9,180		$	9,180
Restricted real estate tax escrows		700,000			—			—
Accounts receivable		193,030			241,840			315,629
Accounts receivable-affiliate		—			24,412			53,810
Inventory		22,382			22,563			24,227
Prepaid expenses		36,596			44,150			42,658

Total current assets		961,188			342,145			445,504
Property & Equipment (at cost)
Land and improvements		814,658			814,658			814,658
Building and improvements		6,337,972			6,414,359			6,421,028
Furniture, fixtures and equipment		2,130,108			2,153,147			2,356,793

Total property & equipment		9,282,738			9,382,164			9,592,479
Less: accumulated depreciation		(1,518,153	)		(1,959,797	)		(2,292,334	)

Property & equipment, net		7,764,585			7,422,367			7,300,145
Other Assets
Deferred charges and other assets (net of amortization of $25,895 and $48,785 in 2003 and 2002, respectively) (net of amortization of $42,356 for the nine months ended September 30, 2004)		142,060			121,496			116,645

TOTAL ASSETS	$	8,867,833		$	7,886,008		$	7,862,294

LIABILITIES AND MEMBERS’ EQUITY
Current Liabilities
Current portion of long term debt	$	165,000		$	194,931		$	192,227
Current portion of long term related party debt		300,000			—			—
Current portion of long term capital lease obligation		34,366			10,245			10,879
Short Term Notes/Lines of Credit		1,999,910			296			—
Accounts payable		267,746			292,162			302,439
Due to affiliate		14,736			—			—
Accrued expenses		255,690			108,976			278,096
Advance deposits		31,152			22,456			25,506

Total current liabilities		3,068,600			629,066			809,147
Long Term Liabilities
Long term debt		5,604,461			4,761,227			4,615,525
Long term portion of capital lease obligation		35,574			25,329			17,215

Total long term liabilities		5,640,035			4,786,556			4,632,740
Total liabilities		8,708,635			5,415,622			5,441,887
Members’ Equity
Members’ equity accounts		159,198			2,470,386			2,420,407

TOTAL MEMBERS’ EQUITY		159,198			2,470,386			2,420,407

TOTAL LIABILITIES AND MEMBERS’ EQUITY	$	8,867,833		$	7,886,008		$	7,862,294

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

F-43

BROWNESTONE PARTNERS, LLC

Statements of Operations and Members’ Equity

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003 and 2002


	Years Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
Operating Revenue
Rooms department	$	3,016,691		$	3,113,994		$	2,365,979		$	2,558,948
Food and beverage department		1,387,426			1,492,937			1,070,391			1,108,482
Other operating departments		158,382			144,050			111,260			173,535

Total operating revenue		4,562,499			4,750,981			3,547,630			3,840,965

Operating Expenses
Rooms department		1,083,851			1,042,325			779,463			850,127
Food and beverage department		982,239			1,068,798			787,182			810,709
Other operating departments		96,082			85,328			63,138			74,266
Selling, general and administrative expense		1,781,642			1,923,403			1,423,099			1,505,472
Management fees—Related Party		136,767			142,528			106,429			115,229
Depreciation and amortization		463,789			533,047			353,964			348,998

Total operating expenses		4,544,369			4,795,429			3,513,275			3,704,801

Net Operating Income (Loss)		18,130			(44,448	)		34,355			136,164
Other Income (Expense)
Interest expense		(402,735	)		(328,371	)		(254,367	)		(176,611	)
Interest Income		24,206			9,484			—			—
Gain (loss) on disposal of assets		—			(1,178	)		—			—

Net Loss		(360,400	)		(364,513	)		(220,012	)		(40,447	)
Members’ Equity, beginning of period		194,500			159,198			159,198			2,470,386
Members’ equity contributed		325,098			2,687,094			340,000			60,000
Members’ equity distributed		—			(11,394	)		—			(69,532	)

Members’ Equity, end of period	$	159,198		$	2,470,386		$	279,186		$	2,420,407

The accompanying notes to financial statements are an integral part of these statements.

F-44

BROWNESTONE PARTNERS, LLC

Statements of Cash Flows

For the nine months ended September 30, 2004 and 2003 (unaudited) and

the years ended December 31, 2003 and 2002


	Years Ended December 31,						Nine Months Ended September 30,
	2002			2003			2003			2004
							(unaudited)
Cash Flows from Operating Activities:
Net Income (Loss)	$	(360,400	)	$	(364,513	)	$	(220,012	)	$	(40,447	)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:
Depreciation and amortization		463,789			533,047			353,964			348,998
(Gain)/Loss on disposal of property and equipment		—			1,178			—			—
(Increase) decrease in:
Restricted cash		974			700,000			—			—
Accounts receivable		(40,839	)		(53,241	)		(144,129	)		(73,789	)
Inventory and prepaid expenses		(31,201	)		(3,304	)		(10,196	)		(172	)
Other assets		—			(41,391	)		—			(11,610	)
Increase (decrease) in:
Accounts payable		(47,886	)		12,840			44,234			10,277
Accrued expenses		88,669			(135,951	)		151,791			169,121
Advance deposits		20,191			(8,696	)		2,193			3,050

Net cash provided (used) by operating activities		93,297			639,969			177,845			405,428

Cash Flows from Investing Activities:
Capital expenditures		(595,368	)		(141,352	)		(97,176	)		(210,315	)
Proceeds from sale of assets		—			11,300			—			—

Net cash provided (used) by investing activities		(595,368	)		(130,052	)		(97,176	)		(210,315	)

Cash Flows from Financing Activities:
Members’ capital contributed		325,098			2,687,094			340,000			60,000
Members’ capital distributed		—			(11,394	)		—			(69,532	)
Payment/Proceeds of related party loans		(1,272	)		(38,336	)		(263,686	)		(29,398	)
Proceeds from borrowing		264,500			4,974,095			—			—
Payment of loans		(161,498	)		(8,087,898	)		(128,911	)		(148,702	)
Proceeds from capital lease obligations		44,512			—			—			—
Payment of capital lease obligations		(30,902	)		(33,479	)		(28,072	)		(7,480	)

Net cash provided (used) by financing activities		440,438			(509,917	)		(80,669	)		(195,112	)

Net increase (decrease) in cash		(61,633	)		—			—			—
Cash at the beginning of the period		70,813			9,180			9,180			9,180

Cash at the end of the period	$	9,180		$	9,180		$	9,180		$	9,180

Supplemental disclosures:
Cash paid during the period for interest	$	402,735		$	328,371		$	254,367		$	176,611

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

F-45

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE A—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

This summary of significant accounting policies of Brownestone Partners, LLC (the “Company”) is presented to assist in understanding the Company’s financial statements. The financial statements and notes are representations of management, which is responsible for their integrity and objectivity. These accounting policies conform to generally accepted accounting principles applied in the preparation of the financial statements.

Business Activity

Brownestone Partners, LLC was formed on August 7, 1998 to purchase the Holiday Inn Brownstone, a 191 room, full service hotel located in Raleigh, North Carolina. Income, loss and cash flow are allocated and/or distributed to the members in accordance with their operating agreement.

Use of Estimates in Financial Statements

In preparing financial statements in conformity with generally accepted accounting principles, management of Brownestone Partners, LLC makes estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, as well as the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

Cash and Cash Equivalents

For purposes of the statement of cash flows, the Company considers all certificates of deposit purchased with an original maturity of three months or less to be cash equivalents.

Accounts Receivable

Management of Brownestone Partners, LLC considers accounts receivable to be fully collectible; accordingly, no allowance for doubtful accounts is required. If the amounts become uncollectible, they will be charged to operations when that determination is made.

Inventories

Inventories are stated at the lower of cost or market and consist primarily of food and beverages and gift shop merchandise. Cost is determined by the first-in, first-out method.

Property & Equipment

Property and equipment are stated at cost and are depreciated on a straight-line basis over their estimated useful lives as follows: hotel buildings and improvements- seven to thirty-nine years, and furniture, fixtures and equipment- five to seven years. Depreciation expense for the periods ended September 30, 2004 and 2003 was $332,537 and $345,264, respectively, and for the years ended December 31, 2003 and 2002 was $471,091 and $452,189, respectively.

F-46

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

Financial Accounting Standards (“SFAS”) No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets.” The provisions of SFAS No. 144 are effective as of January 1, 2002. SFAS No. 144 supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets for Long-Lived Assets to be Disposed Of.” SFAS No. 144 also established a single accounting model for long-lived assets to be disposed of by sale. Adoption of SFAS No. 144 did not have a material effect on the financial condition or results of operations for 2002. Management of Brownestone Partners, LLC has assessed the operations of the hotel property and the fair market value of the hotel property based on undiscounted cash flows and other models and has noted no impairment in such assets for all periods presented.

Management of Brownestone Partners, LLC reviews the hotel property for impairment whenever events or changes in circumstances indicate the carrying value of the hotel property may not be recoverable. Events or circumstances that may cause a review include, but are not limited to, adverse changes in the demand for lodging at the property due to declining national or local economic conditions and/or new hotel construction in markets where the hotel is located. When such conditions exist, management performs an analysis to determine if the estimated undiscounted future cash flows from operating activities and the proceeds from the ultimate disposition of the hotel property exceed its carrying value. If the estimated undiscounted future cash flows are less than the carrying amount of the asset, an adjustment to reduce the carrying amount to the hotel property’s estimated fair market value is recorded and an impairment loss is recognized.

If actual conditions differ from the assumption, the actual results of each asset’s future operations and fair market value could be significantly different from the estimated results and value used in the analysis.

The property was not held for sale as of September 30, 2004 or December 31, 2003 and 2002, as defined within the provisions of SFAS No. 144.

Deferred Franchise Fees

Deferred franchise fees consist of the initial fees paid to Holiday Inn to operate the Holiday Inn Brownstone. Amortization of the fees began upon commencement of hotel operations. The fees are being amortized over the term of the franchise agreement, which commenced on March 30, 2001, and runs for a term of ten years. The agreement is carried at a cost of $106,000 as of September 30, 2004, December 31, 2003 and 2002. Accumulated amortization at September 30, 2004 was $33,733 and at December 31, 2003 and 2002 was $25,033 and $13,433, respectively. Management of Brownestone Partners, LLC has assessed the fair market value of the asset and no impairment of any franchise fee was noted during any period presented.

F-47

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

Loan Fees

Loan fees include direct costs incurred in order to obtain financing. These costs are being amortized over the terms of the respective debt agreements. The loan fees are carried at a cost of $41,391 as of September 30, 2004 and December 31, 2003, and at a cost of $84,845 at December 31, 2002. Accumulated amortization at September 30, 2004 was $8,623 and at December 31, 2003 and 2002 was $862 and $35,352, respectively.

Income Taxes

The Brownestone Partners, LLC is a limited liability company, which files tax returns for which the members are taxed on their respective shares of the entity’s income, and accordingly, no provision for income taxes is included in the financial statements.

Recognition of Revenue

Revenue associated with room rental, food and beverage sales and other hotel revenues are recognized as the related services are delivered.

Application of New Accounting Standards

In April 2002, the FASB issued SFAS No. 145, “Rescission of FASB Statements No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical Corrections.” SFAS No. 145 amends existing guidance on reporting gains and losses on the extinguishments of debt to prohibit the classification of the gain or loss as extraordinary, as the use of such extinguishments have become part of the risk management strategy of many companies. SFAS No. 145 also amends SFAS No. 13 to require sale-leaseback accounting for certain lease modifications that have economic effects similar to sale-leaseback transactions. The provisions of SFAS No. 145 related to the rescission of Statement No. 4 is applied in fiscal years beginning after May 15, 2002. Earlier application of these provisions is encouraged. The provisions of SFAS No. 145 related to the rescission of Statement No. 13 were effective for transactions occurring after May 15, 2002, with early application encouraged. During 2003, the Company refinanced certain mortgage notes. Deferred loan costs written off of $49,493 in connection with the refinancing are included in depreciation and amortization.

In January 2003, the FASB issued Interpretation No. 46, “Consolidation of Variable Interest Entities (revised), an Interpretation of ARB No. 51, Consolidated Financial Statements.” FIN 46(R) revises the requirements for consolidation by business enterprises of variable business entities with specific characteristics. FIN 46(R) is effective immediately for variable interests created after January 31, 2003, and to variable interests in variable interest entities obtained after January 31, 2003. For nonpublic entities, such as the Company, with a variable interest in a variable interest entity created before February 1, 2003, FIN 46(R) is applied to the enterprise no later than the end of the first annual reporting period beginning after June 30, 2003. Management adopted FIN 46(R) as of January 1, 2003. The application of FIN 46(R) is not expected to have a material effect on the Company’s financial statements. FIN 46(R) requires certain disclosures in financial statements issued after January 31, 2003 if it is reasonably possible that the Company will consolidate or disclose information about variable interest entities when the Interpretation becomes effective. The Company does not believe that it is reasonably possible that the adoption of FIN 46(R) will result in the consolidation of any of its equity investees in the future.

F-48

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

instruments, previously classified within the equity section of the balance sheet, to be included in liabilities. This statement is effective for financial instruments entered into or modified after May 31, 2003 and June 15, 2003 for all other instruments. The FASB subsequently deferred indefinitely the provisions of SFAS No. 150 which apply to mandatorily redeemable non-controlling minority interests in consolidated entities. Management adopted FASB No. 150 as of July 1, 2003 and it has had no material effect on the financial statements.

In April 2003, the FASB issued SFAS No. 149, “Amendment of Statement 133 on Derivative Instruments and Hedging Activities, “ which clarifies certain implementation issues raised by constituents and amends SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities,” to include the conclusions reached by the FASB on certain FASB Staff Implementation issues, and amends SFAS No. 133’s discussion of financial guarantee contracts and the application of the shortcut method to an interest rate swap agreement that includes an embedded option and amends other pronouncements. The guidance in SFAS No. 149 is effective for new contracts entered into or modified after June 30, 2003 and for hedging relationships designated after that date. Management adopted SFAS No. 149 as of July 1, 2003 and it has had no material effect on the financial statements.

NOTE B—LONG-TERM DEBT

Long-term debt of Brownestone Partners, LLC consisted of the following as of December 31, 2003 and 2002 and September 30, 2004.


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)
Mortgage notes on hotel:

First mortgage payable with Wachovia Bank, N.A. in monthly installments of fixed principal payments of $12,750 in 2002, $13,750 in 2003 and $14,900 in 2004 plus interest at the Monthly LIBOR Index rate (1.38% at December 31, 2002) plus 2.40%. Unless sooner paid in full, the note is due November 19, 2019. The lender may, at its sole discretion upon at least thirty days’ prior written notice, declare the outstanding principal and accrued interest to be due and payable in full at any time after December 1, 2004. The loan is collateralized by all real and personal property of the Holiday Inn Brownstone, Raleigh and is guaranteed by the members of Brownestone Partners, LLC. This note was paid in full in 2003	$	5,764,210	$	—	$	—

First mortgage payable with Branch Banking and Trust Company in monthly installments of fixed principal payments of $16,000 in 2004, $17,500 in 2003, $19,000 in 2006, $20,000 in 2007 and $21,500 in 2008 plus interest at a floating rate per annum of the Lender’s prime rate (4.00% at December 31, 2003 and 4.75% at September 30, 2004) plus 0.25%. Unless sooner paid in full, the note is due December 4, 2008 The loan is collateralized by all real and personal property of the Holiday Inn Brownstone, Raleigh and is guaranteed by the members of Brownestone Partners, LLC.		—		4,934,000		4,790,000

Total mortgage debt	$	5,764,210	$	4,934,000	$	4,790,000

F-49

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)

Other Long Term Debt:

Equipment obligation payable in sixty monthly payments of $690, due September 3, 2003, bearing interest at a rate of 8.50%. The note is collateralized by a vehicle.	$	5,251	$	—	$	—
Equipment obligation payable in forty-eight monthly payments of $522, due August 28, 2007, bearing interest at a rate of 1.95%. The note is collateralized by a vehicle.		—		22,158		17,752

Total long-term debt	$	5,769,461	$	4,956,158	$	4,807,752
Line of Credit payable in monthly installments of interest only, due August 4, 2003, bearing interest at a variable rate of the Wall Street Journal Index (4.25% at December 31, 2002) plus 1.00%		1,999,910		296		—

Total long term debt and line of credit	$	7,769,371	$	4,956,454	$	4,807,752

Current maturities of long term debt are as follows:


	At December 31, 2003
Due in:
2004	$	194,931
2005		216,003
2006		224,120
2007		244,145
2008		4,076,959

	$	4,956,158

NOTE C—RELATED PARTY TRANSACTIONS

The Company entered into an Amended Hotel Management Agreement with MHI Hotels Services, LLC, a limited liability company affiliated through common ownership, with a term through August 31, 2008, which automatically renews for subsequent five-year terms unless terminated in writing by either party prior to ninety days of the renewal date. KDCA Partnership has a 50% ownership interest in Brownestone Partners, LLC and is 99% owned by MHI Hotels Services, LLC (Andrew Sims, Kim Sims and Christopher Sims own a 79% interest in MHI Hotels Services, LLC). The management company receives a base fee equivalent to 3% of gross sales revenue. Management fees expensed for the nine months ended September 30, 2004 and 2003 and the years ended December 31, 2003 and 2002 under the management contract totaled approximately $115,229, $106,429, $142,528 and $136,767, respectively. At September 30, 2004 and at December 31, 2003 and 2002, amounts included in current liabilities related to the above transaction were $0, $0 and $74,344, respectively.

F-50

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

NOTE D—CAPITALIZED LEASES

Certain equipment has been leased for which the minimum lease rentals have been capitalized. The leases, which are non-cancelable, expire on various dates ranging from August, 2003 to August, 2006. The following is a schedule of leased equipment under capital leases:


	As of
	December 31,						September 30,
	2002			2003			2004
							(unaudited)
Equipment	$	176,723		$	176,723		$	176,723
Less accumulated depreciation		(109,916	)		(143,201	)		(151,671	)

Net	$	66,807		$	33,522		$	27,875

The following is a schedule of future minimum lease payments under the capital leases:


	As of
	December 31,				September 30,
	2002		2003		2004
					(unaudited)
Total minimum lease payments	$	92,243	$	48,894	$	36,322
Less amount representing interest		22,303		13,320		8,228

Present value of net minimum lease payments	$	69,940	$	35,574	$	28,094


Current portion	$	34,366	$	10,245	$	10,879
Non-current portion		35,574		25,329		17,215

Total	$	69,940	$	35,574	$	28,094

NOTE E—COMMITMENTS AND CONTINGENCIES

Leases:

The Company leases land adjacent to the hotel property for use as a parking lot. The land is leased under a second amendment, dated April 28, 1998, to a ground lease originally dated May 25, 1966. The original lease is a 50-year operating lease, which expires August 31, 2016. There is a renewal option for up to three additional ten-year periods expiring August 31, 2026, August 31, 2036, and August 31, 2046, respectively. The Company holds an exclusive and irrevocable option to purchase the leased premises at fair market value at the end of the original term of the lease, subject to payment of an annual fee of $9,000, and other conditions. Rent expense for all operating leases for the nine months ended September 30, 2004 and 2003 was $57,078, and for the years ended December 31, 2003 and 2002, was $76,104.

Franchise Agreements:

Brownestone Partners, LLC signed a license agreement with Holiday Hospitality Franchising, Inc. on March 30, 2001, that provides use of the Holiday Hospitality Franchising name, reservation system, training, operating methods, and sales and marketing programs. The Company pays Holiday Hospitality Franchising a franchise fee of 2.5% of gross rooms revenue. Fees expensed under this agreement totaled $125,514 and $116,497 for the nine

F-51

BROWNESTONE PARTNERS, LLC

NOTES TO FINANCIAL STATEMENTS—(Continued)

September 30, 2004 and 2003 (unaudited) and

December 31, 2003 and 2002

months ended September 30, 2004 and 2003, respectively, and $153,629 and $148,059 for the years ended December 31, 2003 and 2002, respectively. The agreement expires in 2011.

NOTE F—RETIREMENT PLAN

The Company participates in a 401(k) Plan, administered by the management company, which is MHI Hotels Services, LLC, for those employees who meet the eligibility requirements set forth in the plan. Brownestone Partners, LLC matches 10% of the employee contributions up to a total match of 1.5% of employee’s wages. Contributions to the plan for periods ended September 30, 2004 and 2003, were $3,343 and $2,166, respectively, and for the years ended December 31, 2003 and 2002 were $3,235 and $4,845, respectively. All employees who have at least one year of service and who have attained the age of 21 are eligible. Employees are vested automatically with respect employee contributions. Vesting for employer contributions, based upon years of service, is as follows:


Years of Service	Vested Percentage
Less than two	0	%
Two but less than three	20	%
Three but less than four	40	%
Four but less than five	60	%
Five but less than six	80	%
Six or more	100	%

NOTE G—SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Supplemental disclosures of cash flow information for the years ended December 31, 2003 and 2002 and the nine months ended September 30, 2004 are as follows:


	December 31, 2002		December 31, 2003		September 30, 2004
					(unaudited)
Cash paid for interest	$	402,735	$	328,371	$	176,611
Non-cash investing and financing activities:
Acquisition of capital assets under lease obligations	$	43,893	$	—	$	—

F-52

Schedule III

BROWNESTONE PARTNERS, LLC

REAL ESTATE AND ACCUMULATED DEPRECIATION

December 31, 2003


				Initial Costs								Gross Amount at Year End
Description	Location	Date Acquired	Type	Encumbrances at December 31, 2003		Land		Building and Improvements		Net Improvements Since Acquisition		Land		Building and Improvements		Accumulated Depreciation		Depreciation Life in Years
1707 Hillsborough St	Raleigh, NC	September 1, 1997	Hotel	$	4,934,000	$	750,000	$	4,250,000	$	2,229,017	$	750,000	$	6,479,017	$	724,001	7-39

F-53

MHI Hospitality Corporation

Pro Forma Consolidated Financial Information

(Unaudited)

The accompanying unaudited Pro Forma Consolidated Financial Statements are presented to reflect the initial public offering of common stock by MHI Hospitality Corporation (the “Company”), the contribution of three initial properties under common control by and certain minority ownership interests held by Edgar Sims, Jr., Jeanette Sims, Andrew Sims, Kim Sims and Christopher Sims (the “Sims Family”), the pending acquisitions of three hotels owned by Brownestone Partners, LLC, Elpizo Limited Partnership and Accord, LLC and application of the net proceeds of the offering as described in “Use of Proceeds.” The contribution by the Sims Family of the majority interests in the three initial properties is considered a reorganization of entities under common control and these interests are recorded at a historical cost basis. The minority interests held by the Sims Family in the properties owned by Brownestone Partners, LLC and that owned by Accord, LLC are recorded at a historical cost basis. We refer to the controlling and minority interests contributed by the Sims Family in these entities as the MHI Hotels Services Group. The MHI Hotels Services Group is the accounting predecessor of the Company. The Company will account for the third parties interests that will be acquired upon completion of the formation transactions at fair value.

The unaudited Pro Forma Consolidated Balance Sheet as of September 30, 2004 is presented for illustrative purposes only and is not necessarily indicative of what the actual financial position would have been had the common stock offering and the contributions of the three hotels and the acquisitions of the assets of the three entities described above occurred on September 30, 2004, nor does it purport to represent the future financial position of the Company.

The unaudited Pro Forma Consolidated Statements of Operations for the nine months ended September 30, 2004 and the year ended December 31, 2003 are presented for illustrative purposes only and are not necessarily indicative of what the actual results of operations would have been had the common stock offering and the contributions of the three hotels and the acquisitions of the three entities described above occurred as of the beginning of each of the periods presented, nor does it purport to represent the future results of operations of the Company.

The Pro Forma Consolidated Financial Statements assume an initial public offering of 6,000,000 shares at $10.00 per share with net proceeds of $54,600,000. The net proceeds will be contributed to MHI Hospitality, L.P., the operating partnership, and will represent a 61.1% ownership interest in the operating partnership. The remaining 38.9% of the operating partnership will be owned by the current owners of the initial hotel properties along with the owners of the Hilton Philadelphia Airport.

F-54

MHI Hospitality Corporation

Pro Forma Consolidated Balance Sheet

September 30, 2004

(unaudited)


	MHI Hotels Services Group Historical			Elpizo LP (Philadelphia) Acquisition			Accord, LLC (Laurel) Acquisition			Brownestone Partners, LLC (Raleigh) Historical			Pro forma Adjustments			Use of Proceeds			MHI Hospitality Corporation Pro forma
*Current Assets*
Cash and cash equivalents	$	161,034		$	(2,838,700	)(a)	$	(12,200,000	)(e)	$	9,180		$	(1,000,000	)(h)	$	18,539,380	(n)	$	2,670,894
Restricted cash—renovations		—			—			—			—			—			7,550,000	(o)		7,550,000
Restricted real estate tax escrows		1,459,136			—			—			—			—			—			1,459,136
Account receivable		780,787			—			—			315,629			—			—			1,096,416
Accounts receivable—affiliates		27,305			—			—			53,810			—			—			81,115
Inventories		135,061			—			—			24,227			—			—			159,288
Prepaid expenses		110,476			—			—			42,658			—			—			153,134

Total current assets		2,673,799			(2,838,700	)		(12,200,000	)		445,504			(1,000,000	)		26,089,380			13,169,983

*Property & Equipment (at cost)*
Land and improvements		1,624,396			2,100,000	(b)		900,000	(f)		814,658			250,000	(i)		—			5,689,054
Building and improvements		27,682,261			21,000,000	(b)		9,679,162	(f)		6,421,028			8,040,184	(i)		—			72,822,635
Furniture, fixtures and equipment		10,845,894			2,164,941	(b)		200,000	(f)		2,356,793			—			—			15,567,628

Total property and equipment		40,152,551			25,264,941			10,779,162			9,592,479			8,290,185			—			94,079,317
Less: accumulated depreciation		(13,303,257	)		—			—			(2,292,334	)		—			—			(15,595,591	)

Total property and equipment, net		26,849,294			25,264,941			10,779,162			7,300,145			8,290,185			—			78,483,726

*Other Assets*
Shell Island leases		—			—			—			—			—			3,500,000	(p)		3,500,000
Investment in Brownestone Partners, LLC		1,052,417			—			—			—			(1,052,417	)(j)		—			—
Investment in Accord, LLC		(647,401	)		—			—			—			647,401	(j)		—			—
Deferred charges and other assets, net		286,915			140,000	(a)		—			116,645			—			—			543,560

Total other assets		691,931			140,000			—			116,645			(405,016	)		3,500,000			4,043,560


*TOTAL ASSETS*	$	30,215,024		$	22,566,241		$	(1,420,838	)	$	7,862,294		$	6,885,168		$	29,589,380		$	95,697,269


LIABILITIES AND OWNERS’ EQUITY

*Current Liabilities*
Current portion of long term debt	$	1,087,865		$	—		$	—		$	192,227		$	—		$	(300,000	)(q)	$	980,092
Current portion of long term lease obligation		16,131			—			—			10,245			—			—			26,376
Accounts payable		2,105,413			—			—			302,439			—			—			2,407,852
Accrued expenses		1,660,222			—			—			278,096			—			—			1,938,318
Advance deposits		195,566			—			—			25,506			—			—			221,072

Total current liabilities		5,065,197			—			—			808,513			—			(300,000	)		5,573,710

*Long Term Liabilities*
Long term debt		27,743,227			15,243,701	(c)		—			4,615,525			2,000,000	(k)		(24,710,620	)(q)		24,891,833
Long term portion of capital lease obligation		—			—			—			17,849			—			—			17,849

Total long term liabilities		27,743,227			15,243,701			—			4,633,374			2,000,000			(24,710,620	)		24,909,682

*Minority Interest*		(531,635	)		—			—			—			25,899,833	(l/m)		—			25,368,198

*Owners’ Equity*
Partners’/Members’ equity		(2,061,765	)		7,322,540	(d)		(1,420,838	)(g)		2,420,407			(6,260,344	)(k/m)		—			—
Equity of MHI Hospitality Corporation		—			—			—			—			(14,754,321	)(m)		54,600,000	(r)		39,845,679

Total owners’ equity		(2,061,765	)		7,322,540			(1,420,838	)		2,420,407			(21,014,665	)		54,600,000			39,845,679

*TOTAL LIABILITIES AND OWNERS’ EQUITY*	$	30,215,024		$	22,566,241		$	(1,420,838	)	$	7,862,294		$	6,885,168		$	29,589,380		$	95,697,269

F-55

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED BALANCE SHEETS

The accompanying unaudited Pro Forma Consolidated Balance Sheet as of September 30, 2004 is based on the Historical Balance Sheet of the MHI Hotels Services Group, adjusted to reflect the impact of the transactions described below.

The Pro Forma Consolidated Balance Sheets for MHI Hospitality Corporation reflect the assumption that the following occurred September 30, 2004:

•

An initial public offering of 6,000,000 shares at $10.00 per share with net proceeds of $54.6 million net of underwriting discounts, transaction and transfer costs of $5.4 million. Contribution of the net proceeds to MHI Hospitality, L.P. in exchange for a 61.1% ownership interest in the operating partnership. The remaining 38.9% of the partnership will be owned by the contributors of the initial properties along with the owners of the Hilton Philadelphia Airport Hotel.

•

Acquisition or contribution of the initial hotels for the following:


Property	Cash ⁽¹⁾		Debt		Units
Hilton Philadelphia Airport	$	2,838,700	$	15,250,000	732,254
Holiday Inn Brownstone		1,000,000		6,800,000	159,612
Hilton Savannah DeSoto		—		10,700,000	1,665,494
Maryland Inn Laurel		12,200,000		—	—
Holiday Inn Downtown – Williamsburg ⁽²⁾		—		2,960,000	200,000
Hilton Wilmington Riverside ⁽²⁾		—		15,140,000	1,059,676

⁽¹⁾	Cash includes the following transaction costs: Hilton Philadelphia at $990,000 and Maryland Inn Laurel at $250,000.

⁽²⁾	Holiday Inn Downtown and Hilton Wilmington Riverside are owned by Capitol Hotel Associates. The aggregate debt to be assumed in connection with the contribution of Capitol Hotels Associates is approximately $18.1 million and the aggregate number of units to be issued will be 1,259,676.

•

Purchase of two lease agreements relating to the Shell Island resort for $3.5 million in cash. These leases have a remaining life of nine years.

•

Repayment of approximately $25.0 million in existing debt on the Holiday Inn Williamsburg, Hilton Philadelphia Airport and the Holiday Inn Brownstone from the proceeds of the offering.

•

Restructuring of the existing management agreements with MHI Hotels Services, LLC for five of the initial properties, the Hilton Savannah DeSoto, the Hilton Philadelphia Airport, The Hilton Wilmington Riverside, the Holiday Inn Brownstone and the Holiday Inn Downtown Williamsburg, for a fee of $2.0 million in cash. This is a material nonrecurring charge which results directly from the transaction and will be recognized by the Company during the first accounting period following completion of the offering. As a result, this charge is not reflected in the pro forma consolidated statement of operations.

In the opinion of management, all material adjustments to reflect the effects of the preceding transactions have been made. The unaudited Pro Forma Consolidated Balance Sheets are presented for illustrative purposes only and are not necessarily indicative of what the actual results of operations would have been had the transactions described above occurred as of September 30, 2004, nor does it purport to represent future results of operations.

F-56

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED BALANCE SHEET—(Continued)

(a)	Reflects the cash costs incurred in connection with the acquisition of the Hilton Philadelphia Airport as follows:

Cash paid to acquire Hilton Philadelphia Airport


Transfer taxes	$	850,000
Transfer of Hilton license		140,000
Cash Portion of Purchase Price (20%)		1,848,700

Total	$	2,838,700

(b)	Reflects the mark up of the assets of the Hilton Philadelphia Airport to agree with the purchase price as follows:

Hilton Philadelphia Airport


Purchase Price (Cash, Units @ $10, Debt)	$	25,264,941
Property Plant and Equipment
Land		2,100,000
Building and Improvements		21,000,000
Furniture, Fixtures and Equipment		2,164,941

Total	$	25,264,941

(c)	Reflects the debt assumed as part of the purchase of the Hilton Philadelphia Airport.

(d)	Reflects the issuance of 732,254 units in the Operating Partnership in connection with the acquisition of the Hilton Philadelphia Airport.

(e)	Reflects the purchase price of $11,950,000 and transfer taxes of $250,000 to be paid in connection with the acquisition of the Best Western Maryland Inn Laurel.

(f)	Reflects the mark up of the assets of the Best Western Maryland Inn Laurel to reflect the fair market value of the 75% acquired from owners that are not members of the control group of MHI Hotels Services Group;

Mark Up of Laurel Assets


Property, Plant, and Equipment
Land	$	900,000
Building and Improvements		9,679,162
Furniture, fixtures and equipment		200,000

Total Property & equipment	$	10,779,162

(g)	Adjustment to MHI Hotels Services Group Equity in Accord, LLC resulting from the acquisition of the Maryland Inn.

F-57

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED BALANCE SHEET

Notes and Management Assumptions:

(h)	Reflects the payment of $1.0 million for the MAVAS interest in the Holiday Inn Brownstone Hotel.

(i)	Reflects the mark up of assets to give effect to the acquisition of the minority interest in the hotels of the MHI Hotels Services Group as follows:

Adjustments to Assets and Capital Accounts


	September 30, 2004 balance			Value received @ $10/unit		Account increase Asset markup
Savannah
Capital Account-Krichman interest	$	(265,128	)	$	3,330,990	$	3,596,118
Property Plant and Equipment
Land(1)							100,000
Building and Improvements(1)							3,496,118
Capital Account-Zaiser/Smith interest	$	(222,707	)	$	2,798,030	$	3,020,737
Property Plant and Equipment
Building and Improvements(1)							3,020,737
Capitol Hotel
Capital Account-Zaiser/Smith interest	$	43,799		$	661,330	$	705,129
Property Plant and Equipment
Land(1)							150,000
Building and Improvements(1)							555,129
Brownestone
Capital Account-MAVAS interest	$	1,088,233		$	2,001,000	$	912,767
Property Plant and Equipment
Building and Improvements(1)							912,767
Capital Account-Zaiser/Smith interest	$	279,757		$	335,190	$	55,433
Property Plant and Equipment
Building and Improvements(1)							55,433

(1) Purchase accounting was applied to the assets and liabilities related to entities for which MHI Hotels Services Group acquired ownership interests other than those held by the Sims Family. Acquisitions of ownership interests of parties other than the Sims Family are accounted for at fair value. Since the purchases of additional interests were consummated subsequent to June 30, 2001, the effective date of Statement of Financial Accounting Standards No. 141, “Business Combinations,” the fair value of the real estate acquired was determined on an as if vacant building basis. That value is allocated between land and building based on managements’ estimate of the fair value of those components for each property.

(j)	Reflects elimination of investment in Brownestone Partners, LLC and Accord, LLC upon acquisition and consolidation with MHI Hotels Services Group.

(k)	Reflects equity created by issuance of units for minority interest in MHI Hotels Services Group as follows:

Adjustment

to Members’ Equity


	Value @ $10 Per unit issued
Savannah
Krichman Trusts (333,099 units)	$	3,330,990
Zaiser/Smith (279,803 units)		2,798,030
Capitol Hotels
Zaiser/Smith (66,133 units)		661,330
Brownestone
Zaiser/Smith (33,519 units)		335,190
MAVAS (100 units, $1 million debt, $1 million cash)		2,001,000
Less cash paid out		(1,000,000	)
Less debt of partners assumed		(2,000,000	)

Total	$	6,126,540

(l)	Reflects the elimination of the minority interests in the MHI Hotels Services Group.

F-58

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED BALANCE SHEET—(Continued)

(m)

Reflects the adjustment of the capital accounts to establish the minority interest of 38.9% in MHI Hospitality Corporation based upon the ownership interest of unit holders in the operating partnership other than MHI Hospitality Corporation. Also reflects adjustment for a 61.1% shareholders equity account to give effect to the issuance of common stock. Minority interest is calculated by multiplying the percentage of units in the Operating Partnership not owned by MHI Hospitality Corporation (3,817,036 units or 38.9% of the total 9,821,036 units) by the equity balance of the Operating Partnership.

(n)	Reflects the uses of the net cash proceeds from the offering as follows:

Uses of Cash


Net proceeds from offering	$	54,600,000
less payoff debt		(25,010,620	)
purchase Shell Island leases		(3,500,000	)
create reserve for renovations		(7,550,000	)

	$	18,539,380

(o)	Reflects the establishment of a cash reserve for renovations.

(p)	Reflects the purchase of the Shell Island Resort leases for $3.5 million.

(q)	Reflects the repayment of debt as follows:

Debt Repayment


Total debt repaid (current and long term portions)
Philadelphia debt	$	15,243,701
Brownstone debt		6,807,752
Williamsburg debt		2,959,167

	$	25,010,620

(r)	Reflects increase in equity corresponding to the offering net proceeds of $54.6 million.

F-59

MHI HOSPITALITY CORPORATION

Pro Forma Consolidated Statement of Operations

For the Nine Months Ended

September 30, 2004

(unaudited)


	MHI Hotels Services Group Historical			Elpizo LP (Hilton Philadelphia Airport) Historical			Accord, LLC (Maryland Inn) Historical			Brownestone Partners, LLC (Holiday Inn Brownstone) Historical			Pre-formation MHI Hospitality Corporation			Pro Forma Adjustments			MHI Hospitality Corporation Pro Forma
*Operating Revenue*
Rooms department	$	13,370,476		$	6,461,441		$	2,578,439		$	2,558,948		$	24,969,304		$	—		$	24,969,304
Food and beverage department		5,849,616			2,770,557			—			1,108,482			9,728,655			—			9,728,655
Other operating departments		706,085			217,476			196,965			173,535			1,294,061			—			1,294,061
Lease income		—			—			63,000			—			63,000			417,000	(a)		480,000

Total operating revenues		19,926,177			9,449,474			2,838,404			3,840,965			36,055,020			417,000			36,472,020
*Operating Expenses*
Rooms department		3,313,711			1,780,765			680,407			850,127			6,625,010			—			6,625,010
Food and beverage department		4,284,888			2,102,813			—			810,709			7,198,410			—			7,198,410
Other operating departments		347,126			86,489			35,424			74,266			543,305			—			543,305
Lease expense		—			—			—			—			—			75,000	(b)		75,000
Selling, general and administrative		6,723,658			3,433,073			1,145,937			1,505,472			12,808,140			—			12,808,140
Management fee—related parties		736,478			140,543			69,560			115,229			1,061,810			(341,971)	(c)		719,839
Depreciation and amortization		1,589,531			729,568			233,060			348,998			2,901,157			314,103	(d)		3,215,260

Total operating expenses		16,995,392			8,273,251			2,164,388			3,704,801			31,137,832			47,132			31,184,964

Net Operating Income		2,930,785			1,176,223			674,016			136,164			4,917,188			369,868			5,287,056

*Other Income (Expenses)*
Interest expense		(1,708,856	)		(967,364	)		(478,807	)		(176,611	)		(3,331,638	)		1,759,555	(e)		(1,572,083	)
Interest expense-related party		—			—			(145,306	)		—			(145,306	)		145,306	(e)		—
Interest income		857			—			—			—			857			—			857
Equity in net income (loss) of Brownestone Partners, LLC		(15,977	)		—			—			—			(15,977	)		15,977	(f)		—
Equity in net income (loss) of Accord, LLC		12,476			—			—			—			12,476			(12,476	)(f)		—
Minority interest		(357,632	)		—			—			—			(357,632	)		(1,087,826	)(g)		(1,445,458	))

Total other income (expense)		(2,069,132	)		(967,364	)		(624,113	)		(176,611	)		(3,837,220	)		820,536			(3,016,684	)

Net Income (Loss)	$	861,653		$	208,859		$	49,903		$	(40,447	)	$	1,079,968		$	1,190,404		$	2,270,372

*Earnings per share*
Basic and diluted																			$	0.38
*Common shares outstanding*
Basic and diluted																				6,004,000

F-60

MHI HOSPITALITY CORPORATION

Pro Forma Consolidated Statement of Operations

For the year ended

December 31, 2003

(unaudited)


	MHI Hotels Services Group Historical			Elpizo LP (Hilton Philadelphia Airport) Historical			Accord, LLC (Maryland Inn) Historical			Brownestone Partners, LLC (Holiday Inn Brownstone) Historical			Pre-formation MHI Hospitality Corporation			Pro Forma Adjustments			MHI Hospitality Corporation Pro Forma
*Operating Revenue*
Rooms department	$	15,828,663		$	7,458,474		$	2,967,718		$	3,113,994		$	29,368,849		$	—		$	29,368,849
Food and beverage department		7,772,413			3,798,338			—			1,492,937			13,063,688			—			13,063,688
Other operating departments		834,130			283,548			232,321			144,050			1,494,049			—			1,494,049
Lease income		—			—			84,000			—			84,000			556,000	(a)		640,000

Total operating revenues		24,435,206			11,540,360			3,284,039			4,750,981			44,010,586			556,000			44,566,586

*Operating Expenses*
Rooms department		4,143,106			2,203,972			769,122			1,042,325			8,158,525			—			8,158,525
Food and beverage department		5,563,915			2,671,710			—			1,068,798			9,304,423			—			9,304,423
Other operating departments		416,213			124,453			109,894			85,328			735,888			—			735,888
Lease expense		—			—			—			—			—			100,000	(b)		100,000
Selling, general and administrative		8,507,581			4,295,522			1,318,965			1,923,403			16,045,471			—			16,045,471
Management fees—related parties		910,142			173,031			79,784			142,528			1,305,485			(425,274)	(c)		880,211
Depreciation and amortization		2,045,250			966,090			333,365			533,047			3,877,752			425,470	(d)		4,303,222

Total operating expenses		21,586,207			10,434,778			2,611,130			4,795,429			39,427,544			100,196			39,527,740

Net Operating Income		2,848,999			1,105,582			672,909			(44,448	)		4,583,042			455,804			5,038,846

*Other Income (Expenses)*
Interest expense		(2,369,422	)		(1,317,473	)		(647,876	)		(328,371	)		(4,663,142	)		2,494,824	(e)		(2,168,318	)
Interest expense-related party		—			—			(195,667	)		—			(195,667	)		195,667	(e)		—
Interest income		3,668			—			—			9,484			13,152			—			13,152
Equity in net income (loss) of Brownestone Partners, LLC		(143,983	)		—			—			—			(143,983	)		143,983	(f)		—
Equity in net income (loss) of Accord, LLC		(46,194	)		—			—			—			(46,194	)		46,194	(f)		—
Gain(loss) on disposal of asset		(1,135	)		—			—			(1,178	)		(2,313	)		—			(2,313	)
Minority interest		(152,097	)		—			—			—			(152,097	)		(963,253	)(g)		(1,115,350	)
Other Income—net		—			—			(14,143	)		—			(14,143	)		—			(14,143	)

Total other income (expense)		(2,709,163	)		(1,317,473	)		(857,686	)		(320,065	)		(5,204,387	)		1,917,415			(3,286,972	)

Net Income (Loss)	$	139,836		$	(211,891	)	$	(184,777	)	$	(364,513	)	$	(621,345	)	$	2,373,219		$	1,751,874

*Earnings Per Share*
Basic and diluted																			$	0.29
*Common shares outstanding*
Basic and diluted																				6,004,000

F-61

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS

The accompanying unaudited Pro Forma Consolidated Statements of Operations for the nine month period ended September 30, 2004 and the year ended December 31, 2003 are based upon the historical statements of operations of the MHI Hotels Services Group, adjusted to reflect the impact of the transactions described below.

The Pro Forma Consolidated Statements of Operations for the nine months ended September 30, 2004 and the year ended December 31, 2003 assumes the following occurred on January 1, 2003:

•

Initial public offering of 6,000,000 shares of common stock at $10.00 per share with net proceeds of $54.6 million. Net proceeds from the offering will be contributed to MHI Hospitality, L.P. (the Operating Partnership) in exchange for units representing a 61.1% interest in the Operating Partnership;

•

Issuance of 3,817,036 units in exchange for 100% of the existing properties controlled by the MHI Hotels Services Group and 80% of the Hilton Philadelphia Airport. Of the 3,817,036 units, 732,254 will be exchanged for 80% of the Hilton Philadelphia Airport, 612,902 will be exchanged for the minority interest in the Hilton Savannah DeSoto, 66,133 will be exchanged for the minority interest in Capitol Hotel Associates, owner of the Hilton Wilmington Riverside and the Holiday Inn Downtown Williamsburg, and 33,596 will be exchanged for the 60.5% majority interest in the Holiday Inn Brownstone. The remaining 2,372,151 units be exchanged for 100% of the majority interest in the MHI Hotels Services Group;

•

Acquisition of the remaining 20% of the Hilton Philadelphia Airport will be exchanged for $1,848,700 in cash;

•

Acquisition of the leases for the common area of the Shell Island Resort for $3.5 million in cash;

•

Restructuring of the existing management agreements with MHI Hotels Services LLC for five of the initial properties, the Hilton Savannah DeSoto, the Hilton Philadelphia Airport, the Hilton Wilmington Riverside, the Holiday Inn Brownstone and the Holiday Inn Downtown Williamsburg, for a fee of $2.0 million in cash. This is a material nonrecurring charge which results directly from the transaction and will be recognized by the Company during the first accounting period following completion of the offering. As a result, this charge is not reflected in the pro forma consolidated statements of operations;

•

Acquisition of the MAVAS interests in the Holiday Inn Brownstone for $2.0 million in cash, of which $1.0 million will be used to repay a construction loan, and 100 units;

•

Repayment of approximately $25.0 million in existing debt on the Holiday Inn Downtown Williamsburg, Hilton Philadelphia Airport and the Holiday Inn Brownstone from the proceeds of the offering; and

•

Transaction and transfer costs of $5.4 million were netted from the proceeds.

In the opinion of management, all material adjustments to reflect the effects of the preceding transactions have been made. The unaudited Pro Forma Consolidated Statements of Operations are presented for illustrative purposes only and are not necessarily indicative of what the actual results of operations would have been had the transactions described above occurred as of the beginning of each of the periods presented, nor does it purport to represent future results of operations.

Notes and Management Assumptions:

(a)

Reflects the initial annual revenue from the sub-leases on the Shell Island Resort of $640,000 and a reduction in annual rental income resulting from the termination of the Brass Duck restaurant lease located in the Maryland Inn Laurel in the amount of $84,000. For the nine months ended September 30, 2004, the adjustment consists of the reduction of rental income resulting from the termination of the restaurant lease and an increase to reflect the pro rata portion of the reduction in rental income and Shell Island Resort sub-leases.

F-62

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS

(b)	Reflects the initial annual expenses from the leases on the Shell Island Resort of $100,000 in 2003. For the nine months ended September 30, 2004 the adjustment is $75,000 to reflect the nine month pro rata portion of the annual expenses of the Shell Island Resort leases.

(c)

Reflects the reduction of management fees for each hotel described in the table below to 2.0% of gross revenue down from 4.5% for Hilton Wilmington Riverside, 3.5% for Holiday Inn Downtown Williamsburg, 3.0% for Holiday Inn Brownstone and Hilton Savannah DeSoto and 2.5% for Maryland Inn. The Hilton Philadelphia Airport’s management fee increased from 1.5% to 2.0%.


Management Fee Adjustments:	Historic Year ended December 31, 2003		Pro Forma Year ended December 31, 2003			Historic Nine months ended September 30, 2004		Pro Forma Nine months ended September 30, 2004
Hilton Savannah DeSoto	$	319,938	$	213,251		$	274,899	$	182,616
Capitol Hotels (Holiday Inn Downtown Williamsburg and Hilton Wilmington Riverside)		590,205		275,452			461,579		215,907
Hilton Philadelphia Airport		173,031		230,807			140,543		188,989
Maryland Inn		79,784		65,681			69,560		55,508
Holiday Inn Brownstone		142,528		95,020			115,229		76,819

Total management fees	$	1,305,485	$	880,211		$	1,061,810	$	719,839

Total			$	(425,274	)			$	(341,971	)

The management fees will increase to 2.5% in 2005 and 3.0% in 2007 and thereafter.

(d)

Reflects change in depreciation expense due to the acquisition of the minority interests in existing hotels, the acquisition of the Maryland Inn and Hilton Philadelphia Airport. Also reflects amortization expense relating to the amortization of the leases at Shell Island Resort. The Shell Island lease purchase of $3.5 million is being amortized over nine years.


Depreciation Adjustments:	Year ended December 31, 2003			Nine months ended September 30, 2004
Hilton Savannah DeSoto	$	167,099		$	125,324
Capitol Hotels (Holiday Inn Downtown Williamsburg and Hilton Wilmington Riverside)		14,234			10,676
Hilton Philadelphia Airport		(118,352	)		(93,764	)
Maryland Inn		(56,611	)		(42,458	)
Holiday Inn Brownstone		30,210			22,658

Total	$	36,581		$	22,436


Amortization Adjustments:	Year ended December 31, 2003		Nine months ended September 30, 2004
Shell Island Resort Leases	$	388,889	$	291,667

Total	$	388,889	$	291,667

Total depreciation and amortization, as adjusted	$	425,470	$	314,103

F-63

MHI HOSPITALITY CORPORATION

NOTES TO PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS

(e)	Reflects the following decrease in interest expense due to the reduction in existing debt with proceeds of the offering.


Interest Adjustments:	Year ended December 31, 2003			Nine months ended September 30, 2004
Holiday Inn Downtown Williamsburg	$	(201,104	)	$	(136,773	)
Hilton Philadelphia Airport		(1,317,473	)		(967,364	)
Maryland Inn		(843,543	)		(624,113	)
Holiday Inn Brownstone		(328,371	)		(176,611	)

Total	$	(2,690,491	)	$	(1,904,861	)

(f)	Reflects elimination of equity in net income (loss) of Brownestone Partners, LLC and Accord, LLC.

(g)

Reflects the adjustment required to establish a minority interest of 38.9% which represents the units held by the majority owners’ of the initial hotels. Minority interest is calculated by multiplying the percentage of the units in the Operating Partnership not owned by MHI Hospitality Corporation (3,817,036 units or 38.9% of the total 9,821,036 units) by the equity balance of the Operating Partnership.

F-64

6,000,000 Shares

LOGO

MHI

HOSPITALITY

CORPORATION

Common Stock

PROSPECTUS

BB&T Capital Markets


Ferris, Baker Watts Incorporated
	J.J.B. Hilliard, W.L. Lyons, Inc.
		Flagstone Securities

, 2004

PART II. INFORMATION NOT REQUIRED IN PROSPECTUS

Item 31. Other Expenses of Issuance and Distribution.

The following table sets forth the costs and expenses of the sale and distribution of the securities being registered (assuming no exercise of the underwriter’s over-allotment option), all of which are being borne by the Registrant.


Securities and Exchange Commission registration fee	$	9,617
NASD filing fee		8,090
AMEX listing fee		50,000
Printing and engraving fees		100,000
Legal fees and expenses		650,000
Accounting fees and expenses		220,000
Blue sky fees and expenses		5,000
Transfer Agent and Registrar fees		5,000
Advisory fee		550,000
Miscellaneous		202,293

Total	$	1,800,000

All expenses, except the Securities and Exchange Commission registration fee and the NASD filing fee, are estimated.

Item 32. Sales To Special Parties.

Except for the sale of 100 shares to Andrew Sims, our chairman, president and chief executive officer, at an aggregate price of 1,000 in connection with the Registrant’s formation in August 2004, there have been no sales of unregistered securities by the Registrant in the last six months. These 100 shares will be redeemed for the same price as the purchase price immediately prior to the completion of the Registrant’s initial public offering. These shares were sold in accordance with the exemption from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.

Item 33. Recent Sales of Unregistered Securities.

Except for the sale of 100 shares to Andrew Sims, our chairman, president and chief executive officer, at an aggregate price of $1,000 in connection with the Registrant’s formation in August 2004, there have been no sales of unregistered securities by the Registrant in the last three years. These 100 shares will be redeemed for the same price as the purchase price immediately prior to the completion of the Registrant’s initial public offering. These shares were sold in accordance with the exemption from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended.

Item 34. Indemnification of Directors and Officers.

The Maryland General Corporation Law permits a Maryland corporation to include in its charter a provision limiting the liability of its directors and officers to the corporation and its stockholders for money damages except for liability resulting from (a) actual receipt of an improper benefit or profit in money, property or services or (b) active and deliberate dishonesty established by a final judgment as being material to the cause of action. Our charter contains a provision which limits the liability of our directors and officers to the maximum extent permitted by Maryland law.

II-1

Our charter permits us, to the maximum extent permitted by Maryland law, to indemnify and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any present or former director or officer or (b) any individual who, while a director and at our request, serves or has served another real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or any other enterprise as a trustee, director, officer or partner of such real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or other enterprise from and against any claim or liability to which such person may become subject or which such person may incur by reason of his status as a present or former director or officer of our company. Our bylaws obligate us, to the maximum extent permitted by Maryland law, to indemnify and to pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any present or former director who is made a party to the proceeding by reason of his service in that capacity or (b) any individual who, while a director or officer of our company and at our request, serves or has served another real estate investment trust, corporation, partnership, joint venture, trust, employee benefit plan or other enterprise and who is made a party to the proceeding by reason of his service in that capacity, against any claim or liability to which he may become subject by reason of such status. Our charter and bylaws also permit us to indemnify and advance expenses to any person who served a predecessor of our company in any of the capacities described above and to any employee or agent of our company or a predecessor of our company. Maryland law requires us to indemnify a director or officer who has been successful, on the merits or otherwise, in the defense of any proceeding to which he is made a party by reason of his service in that capacity.

The Maryland General Corporation Law permits a Maryland corporation to indemnify and advance expenses to its directors, officers, employees and agents. The Maryland General Corporation Law permits a corporation to indemnify its present and former directors and officers, among others, against judgments, penalties, fines, settlements and reasonable expenses actually incurred by them in connection with any proceeding to which they may be a party by reason of their service in those or other capacities unless it is established that (a) the act or omission of the director or officer was material to the matter giving rise to the proceeding and (i) was committed in bad faith or (ii) was a result of active and deliberate dishonesty, (b) the director or officer actually received an improper personal benefit in money, property or services or (c) in the case of any criminal proceeding, the director or officer has reasonable cause to believe that the act or omission was unlawful. However, a Maryland corporation may not indemnify for an adverse judgment in a suit by or in the right of the corporation or if the director or officer was adjudged to be liable for an improper personal benefit. In accordance with the Maryland General Corporation Law and our bylaws, our bylaws require us, as a condition to advancing expenses, to obtain (a) a written affirmation by the director or officer of his good faith belief that he has met the standard of conduct necessary for indemnification and (b) a written statement by the director or officer or on his behalf to repay the amount paid or reimbursed by us if it shall ultimately be determined that the standard of conduct was not met.

Item 35. Treatment of Proceeds from Stock Being Registered.

None of the proceeds will be credited to an account other than the appropriate capital share account.

II-2

Item 36. Financial Statements and Exhibits.

(a) Financial Statements. See page F-1 for an index of the financial statements included in the Registration Statement.

(b) Exhibits. The following exhibits are filed as part of, or incorporated by reference into, this registration statement on Form S-11:


Exhibits
1.1		Form of Underwriting Agreement by and among MHI Hospitality Corporation, MHI Hospitality, L.P. and BB&T Capital Markets and the Underwriters named herein.
3.1†		Articles of Amendment and Restatement of MHI Hospitality Corporation.
3.2		Amended and Restated Bylaws of MHI Hospitality Corporation.
3.3		Form of Amended and Restated Agreement of Limited Partnership of MHI Hospitality, L.P.
4		Form of common stock certificate.
5.1		Opinion of Venable LLP, with respect to the legality of the shares being registered.
8.1		Tax Opinion of Baker & McKenzie LLP.
10.1		MHI Hospitality Corporation 2004 Omnibus Stock Incentive Plan.
10.2†		Form of Executive Employment Agreement between MHI Hospitality Corporation and Andrew M. Sims.
10.3†		Form of Executive Employment Agreement between MHI Hospitality Corporation and William J. Zaiser.
10.4†		Form of Strategic Alliance Agreement dated , 2004 between MHI Hospitality Corporation, MHI Hospitality, L.P. and MHI Hotels Services LLC.
10.5†		Form of Master Management Agreement with MHI Hotels Services LLC.
10.6		Contribution Agreement dated August 23, 2004 by and between the owners of Capitol Hotel Associates L.P., L.L.P. and MHI Hospitality, L.P.
10.7		Contribution Agreement dated August 23, 2004 by and between the owners of Savannah Hotel Associates LLC and MHI Hospitality, L.P.
10.8		Contribution Agreement dated August 23, 2004 by and between KDCA Partnership, MAVAS LLC, and MHI Hospitality, L.P.
10.9		Contribution Agreement dated September 8, 2004 by and between Elpizo Limited Partnership, Phileo Land Corporation and MHI Hospitality, L.P.
10.10		Asset Purchase Agreement dated August 19, 2004 by and between Accord LLC, West Laurel Corporation and MHI Hotels Services, LLC.
10.11		Form of Agreement to Assign and Sublease Common Space Lease and Form of Sublease dated , 2004 by and between MHI Hospitality L.P. and MHI Hotels, LLC.
10.12		Form of Agreement to Assign and Sublease Commercial Space Lease and Form of Sublease dated , 2004 by and between MHI Hospitality L.P. and MHI Hotels Two, Inc.
10.13†		Form of Lease Agreement with MHI Hospitality TRS, LLC.
10.14†		Form of Management Restructuring Agreement dated , 2004 by and between MHI Hospitality TRS, LLC, MHI Hotels Services LLC and MHI Hospitality, L.P.
10.15		Form of Contribution Agreement dated , 2004 by and between MHI Hotels Services, LLC, MHI Hotels, LLC and MHI Hotels Two, Inc.
21.1		List of Subsidiaries of MHI Hospitality Corporation.
23.1		Witt Mares & Company, PLC Consent.
23.2		Baker & McKenzie LLP Consent (included in Exhibit 8.1).
23.3†		Smith Travel Research Consent.
23.4		Venable LLP Consent (included in Exhibit 5.1).
99.1†		Consent of Kim E. Sims to being named as a director nominee.
99.2†		Consent of Christopher L. Sims to being named as a director nominee.
99.3†		Consent of Edward S. Stein to being named as a director nominee.
99.4†		Consent of David J. Beatty to being named as a director nominee.
99.5†		Consent of J. Paul Carey to being named as a director nominee.
99.6†		Consent of General Anthony C. Zinni (USMC Ret.) to being named as a director nominee.

*	To be filed by amendment.

†	Previously filed.

II-3

Item 37. Undertakings.

(a) The undersigned registrant hereby undertakes to provide to the underwriters at the closing specified in the underwriting agreements certificates in such denominations and registered in such names as required by the underwriters to permit prompt delivery to each purchaser.

(b) Insofar as indemnification for liabilities arising under the Securities Act of 1933, as amended, may be permitted to trustees, officers or controlling persons of the registrant pursuant to the foregoing provisions, or otherwise, the registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act of 1933, as amended, and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the registrant of expenses incurred or paid by a director, officer or controlling person of the registrant in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act of 1933, as amended, and will be governed by the final adjudication of such issue.

(1) For purposes of determining any liability under the Securities Act of 1933, as amended, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or (4), or 497(h) under the Securities Act shall be deemed to part of this registration statement as of the time it was declared effective.

(2) For the purpose of determining any liability under the Securities Act of 1933, as amended, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered herein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof.

SIGNATURES

Pursuant to the requirements of the Securities Act of 1933, as amended, the undersigned registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form S-11 and has duly caused this Pre-Effective Amendment No. 5 to this registration statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Williamsburg, Commonwealth of Virginia on the 9 ^th day of December, 2004.


MHI HOSPITALITY CORPORATION

By:		/s/ Andrew M. Sims
		Andrew M. Sims President and Chief Executive Officer

Pursuant to the requirements of the Securities Act of 1933, as amended, this registration statement has been signed by the following persons in the capacities and on the dates indicated.




By:	/s/ William J. Zaiser	By:	/s/ Andrew M. Sims
	William J. Zaiser Executive Vice President, Chief Financial Officer and Treasurer (Principal Financial and Accounting Officer)		Andrew M. Sims President, Chief Executive Officer and Chairman of the Board (Principal Executive Officer)

II-4

Exhibit 1.1

MHI HOSPITALITY CORPORATION

Common Stock

UNDERWRITING AGREEMENT

, 2004

BB&T CAPITAL MARKETS,

a division of Scott & Stringfellow, Inc.

909 East Main Street

Richmond, Virginia 23218

As Representative of the several Underwriters

Ladies and Gentlemen:

Each of MHI Hospitality Corporation, a Maryland corporation (the “Company”), and MHI Hospitality, L.P., a Delaware limited partnership (the “Partnership”), confirms its agreement with each of the underwriters listed on Schedule I hereto (collectively, the “Underwriters”), for whom BB&T Capital Markets, a division of Scott & Stringfellow, Inc., is acting as Representative (in such capacity, the “Representative”), with respect to (i) the sale of [ ] shares (the “Initial Shares”) of the Company’s common stock, par value $0.01 per share (the “Common Stock”), and the purchase by the Underwriters, acting severally and not jointly, of the respective number of Initial Shares set forth opposite the names of the Underwriters on Schedule I hereto and (ii) the grant of the option described in Section 1(b) hereof to purchase all or any part of [ ] additional shares of Common Stock (the “Option Shares”) to cover over-allotments, if any, from the Company to the Underwriters, acting severally and not jointly, in the respective number of shares of Common Stock set forth opposite the names of the Underwriters on Schedule I hereto. The Initial Shares and any Option Shares to be purchased by the Underwriters pursuant to this agreement (the “Agreement”) are hereinafter called, collectively, the “Shares.”

The Company has filed with the Securities and Exchange Commission (the “Commission”), a registration statement on Form S-11 (No. 333-118873) for the registration of the Shares under the Securities Act of 1933, as amended (the “Securities Act”), and the rules and regulations thereunder (the “Securities Act Regulations”) which contains a form of prospectus to be used in connection with the public offering and sale of the Shares. The Company has prepared and filed such amendments thereto, if any, and such amended preliminary prospectuses, if any, as may have been required to the date hereof, and will file such additional amendments thereto and such amended prospectuses as may hereafter be required under the Securities Act and Securities Act Regulations. The registration statement has been declared effective under the Securities Act by the Commission. The registration statement as amended at the time it became effective

(including all information deemed (whether by incorporation by reference or otherwise) to be a part of the registration statement at the time it became effective pursuant to Rule 430A of the Securities Act Regulations) is hereinafter called the “Registration Statement,” except that, if the Company files a post-effective amendment to such registration statement which becomes effective prior to the First Closing Date (as defined below), “Registration Statement” shall refer to such registration statement as so amended. Any registration statement filed pursuant to Rule 462(b) of the Securities Act Regulations is hereinafter called the “Rule 462(b) Registration Statement,” and after such filing, if any, the term “Registration Statement” shall include the Rule 462(b) Registration Statement. Each prospectus included in the Registration Statement, including amendments thereof or supplements thereto, before the Registration Statement became effective under the Securities Act which was filed with the Commission by the Company with the consent of the Underwriters pursuant to Rule 424(a) of the Securities Act Regulations and distributed to prospective investors in connection with the offering of the Shares is hereinafter called the “Preliminary Prospectus.” The term “Prospectus” means the final prospectus, as first filed with the Commission pursuant to Rule 424(b) of the Securities Act Regulations, and any amendments thereof or supplements thereto. The Commission has not issued any order preventing or suspending the use of any Preliminary Prospectus or the Prospectus.

The Company understands that the Underwriters propose to make a public offering of the Shares as soon as the Underwriters deem advisable after this Agreement has been executed and delivered.

At the First Closing Date (as hereinafter defined) for the purchase and sale of the Initial Shares, the Company and the Partnership will complete a series of transactions described in the Prospectus under the captions “Prospectus Summary—Formation Transactions” and “Formation Transactions” (such transactions, the “Formation Transactions”). As part of the Formation Transactions, (i) the Company will contribute the net proceeds from the public offering of the Shares directly to the Operating Partnership in exchange for units of partnership interest in the Partnership (the “Units”), (ii) the Operating Partnership will issue Units to acquire certain partnership interests, limited liability company interests and other assets from affiliates of the Company and from third parties, and (iii) the Operating Partnership will make certain cash payments and repay debt, each as described in the Prospectus.

Each of the Company, the Partnership and the Underwriters agree as follows:

1. Sale and Purchase :

(a) Initial Shares. Upon the basis of the warranties and representations and other terms and conditions herein set forth, the Company agrees to sell to each of the Underwriters the number of Initial Shares set forth on Schedule I opposite such Underwriter’s name at the purchase price per share of $ , and each Underwriter agrees, severally and not jointly, to purchase from the Company the number of Initial Shares set forth on Schedule I opposite such Underwriter’s name, plus any additional number of Initial Shares which such Underwriter may become obligated to purchase

pursuant to the provisions of Section 8 hereof, subject in each case, to such adjustments among the Underwriters as the Representative in its sole discretion, shall make to eliminate any sales or purchases of fractional shares.

(b) Option Shares . In addition, upon the basis of the warranties and representations and other terms and conditions herein set forth, the Company hereby grants an option (the “Option”) to the Underwriters, acting severally and not jointly, to purchase from the Company, all or any part of the Option Shares, plus any additional number of Option Shares which any such Underwriter may become obligated to purchase pursuant to the provisions of Section 8 hereof at the purchase price per share set forth in Section 1(a) hereof. The Option hereby granted will expire 30 days after the date hereof and may be exercised in whole or in part from time to time (but in no more than two installments in total) only for the purpose of covering over-allotments which may be made in connection with the offering and distribution of the Initial Shares upon notice by the Representative to the Company setting forth the number of Option Shares as to which the several Underwriters are then exercising the Option and the time and date of payment and delivery for such Option Shares. Any such time and date of delivery (an “Option Closing Date”) shall be determined by the Representative, and may be the First Closing Date (as hereinafter defined), but shall not be later than five full business days after the exercise of the Option, nor in any event prior to the First Closing Date (as hereinafter defined). If the Option is exercised as to all or any portion of the Option Shares, the Company will sell that number of Option Shares then being purchased, and each of the Underwriters, acting severally and not jointly, will purchase that number of Option Shares then being purchased at the purchase price per share set forth in Section 1(a) hereof.

2. Payment and Delivery :

(a) Initial Shares . The Shares to be purchased by each Underwriter hereunder shall be delivered by or on behalf of the Company to the Representative, in definitive form, and in such authorized denominations and registered in such names as the Representative may request upon at least 24 hours’ prior notice to the Company, including, at the option of the Representative, through the facilities of The Depository Trust Company (“DTC”) for the account of such Underwriter, against payment by or on behalf of such Underwriter of the purchase price therefor by wire transfer of Federal (same-day) funds to the account specified to the Representative by the Company upon prior notice. The Company will cause the certificates representing the Initial Shares to be made available for checking and packaging at least twenty-four hours prior to the First Closing Date (as defined below) with respect thereto at the office of Hunton & Williams LLP, Riverfront Plaza, East Tower, 951 East Byrd Street, Richmond, Virginia 23219 or at the office of DTC or its designated custodian, as the case may be (the “Designated Office”). The time and date of such delivery and payment shall be 9:30 a.m., New York City time, on the third (fourth, if pricing occurs after 4:30 p.m., New York City time) business day after the date hereof (unless another time and date shall be agreed to by the Representative and the Company). The time and date at which such payment and delivery are actually made is hereinafter called the “First Closing Date.”

(b) Option Shares . Any Option Shares to be purchased by each Underwriter hereunder shall be delivered by or on behalf of the Company to the Representative, in definitive form, and in such authorized denominations and registered in such names as the Representative may request upon at least 24 hours’ prior notice to the Company, including, at the option of the Representative, through the facilities of DTC for the account of such Underwriter, against payment by or on behalf of such Underwriter of the purchase price therefor by wire transfer of Federal (same-day) funds to the account specified to the Representative by the Company, upon prior notice. The Company will cause the certificates representing the Option Shares to be made available for checking and packaging at least twenty-four hours prior to an Option Closing Date with respect thereto at the Designated Office. The time and date of such delivery and payment shall be 9:30 a.m., New York City time, on the date specified by the Representative in the notice given by the Representative to the Company of the Underwriters’ election to purchase such Option Shares or on such other time and date as the Company and the Representative may agree upon in writing.

3. Representations and Warranties of the Company and the Partnership:

The Company and the Partnership each jointly and severally represents and warrants to each Underwriter that:

(a) the authorized shares of Common Stock and the Units (as hereinafter defined) conform in all material respects to the description thereof contained in the Registration Statement and the Prospectus; the Company has an authorized, issued and outstanding capitalization as set forth in the Prospectus under the caption “Capitalization;” at the First Closing Date, [ ] shares of Common Stock will be issued and outstanding and no other shares of Common Stock will be issued and outstanding; the outstanding shares of Common Stock of the Company and the outstanding shares of Common Stock and capital stock or equity interests of each subsidiary of the Company, all of which are listed on Schedule II attached hereto (each, including the Partnership, except where noted, a “Subsidiary” and, collectively, “Subsidiaries”) have been duly and validly authorized and issued and are, or will be when issued, fully paid and nonassessable, and in the case of limited liability company membership interests or units of limited partnership interest, have been duly and validly authorized and issued and are, or will be when issued, fully paid, have been or will be issued in compliance with all applicable laws, including federal and state securities laws, and except as disclosed in the Prospectus all of the outstanding shares of Common Stock, capital stock, Units, units of limited partnership interest and limited liability company membership interests, as applicable, of the Subsidiaries, including the Partnership, are, or on the First Closing Date will be, directly or indirectly owned of record and beneficially by the Company; except as disclosed in the Prospectus, there are no outstanding (i) securities or obligations of the Company or any of the Subsidiaries convertible into or exchangeable for any equity interests of the Company or any such Subsidiary, (ii) warrants, rights or options to subscribe for or purchase from the Company or any such Subsidiary any such equity interests or any such convertible or exchangeable securities or obligations or (iii) obligations of the Company or any such Subsidiary to issue any equity

interests, any such convertible or exchangeable securities or obligation, or any such warrants, rights or options; the descriptions of the Company’s 2004 Stock Incentive Plan, and the options, restricted shares, performance shares, performance units or other rights granted thereunder set forth in the Prospectus accurately and completely present the information required to be disclosed with respect to such plans, arrangements, options and rights, and the Company has no other such plans or arrangements; on the First Closing Date, the Units will be owned by the persons or entities in the amounts set forth in the Prospectus.

(b) the Company has been duly incorporated and is validly existing as a corporation under the laws of the State of Maryland and is in good standing with the State Department of Assessments and Taxation of Maryland (the “SDAT”), with all requisite corporate power and authority to own, lease and operate its properties, and conduct its business as described in the Registration Statement and the Prospectus, and is duly qualified as a foreign entity to transact business or licensed and is in good standing in each jurisdiction in which the nature or conduct of its business requires such qualification or license and in which the failure, individually or in the aggregate, to be so qualified or licensed could, individually or in the aggregate, reasonably be expected to have a material adverse effect on, or result in a material adverse change in, the assets, business, operations, earnings, prospects, properties or condition (financial or otherwise), present or prospective, of the Company and the Subsidiaries taken as a whole (any such effect or change, where the context so requires, is hereinafter called a “Material Adverse Effect” or “Material Adverse Change”); except as disclosed in the Prospectus, all of the issued and outstanding shares of common stock, capital stock, limited liability company membership interests or units of limited partnership interests, as applicable, of each Subsidiary are owned by the Company directly or through its Subsidiaries, free and clear of any security interest, mortgage, pledge, lien, encumbrance or claim; except as disclosed in the Prospectus, no Subsidiary is prohibited or restricted, directly or indirectly, from paying dividends to the Company, or from making any other distribution with respect to such Subsidiary’s capital stock or from repaying to the Company or any other Subsidiary any amounts which may from time to time become due under any loans or advances to such Subsidiary from the Company or such other Subsidiary, or from transferring any such Subsidiary’s property or assets to the Company or to any other Subsidiary; other than the Subsidiaries, the Company does not, and upon completion of the offering of the Shares and the Formation Transactions will not, own, directly or indirectly, any capital stock or other equity securities of any other corporation or any ownership interest in any partnership, limited liability company, joint venture or other entity.

(c) upon completion of the offering of the Shares and the Formation Transactions (i) the Company will be a holder of Units representing an approximate 60.1% limited partnership interest in the Partnership as described in the Prospectus, free and clear of any pledge, lien encumbrance, ownership interest or other claim, and (ii) the Company, as the sole general partner of the Partnership, will be the holder of Units representing an approximate 1.0% general partnership interest in the Partnership as described in the Prospectus, free and clear of any pledge, lien encumbrance, ownership

interest or other claim; the Subsidiaries have been duly incorporated, formed or organized, as the case may be, and are validly existing as a corporation, limited liability company, general partnership or limited partnership, as the case may be, in good standing under the laws of their respective jurisdictions of incorporation, formation or organization, as applicable, with all requisite power and authority to own, lease and operate their respective properties and to conduct their respective business as described in the Registration Statement and the Prospectus; each Subsidiary is duly qualified to transact business or licensed as a foreign corporation, foreign limited partnership or foreign limited liability company, as applicable, and is in good standing in each jurisdiction in which the conduct or nature of its business requires such qualification or license, and in which the failure to be so qualified or licensed could reasonably be expected to have a Material Adverse Effect.

(d) the Amended and Restated Agreement of Limited Partnership of the Partnership, as it may be further amended or restated as of the date hereof and as of the First Closing Date (the “Partnership Agreement”), has been duly and validly authorized, executed and delivered by or on behalf of the partners of the Partnership and constitutes a valid and binding agreement of the parties thereto, enforceable in accordance with its terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally or by general principles of equity.

(e) the Company has delivered to the Representative two complete manually signed copies of the Registration Statement and of each consent and certificate of experts filed as a part thereof, and conformed copies of the Registration Statement (without exhibits), the Preliminary Prospectus and the Prospectus, each as amended or supplemented, in such quantities and at such places as the Representative has reasonably requested for each of the Underwriters.

(f) the Company has not distributed and will not distribute, any offering material in connection with the offering and sale of the Shares other than a Preliminary Prospectus and the Prospectus.

(g) the Company and the Subsidiaries are in compliance with all applicable laws, rules, regulations, orders, decrees and judgments, including those relating to transactions with affiliates, except where any failures to be in compliance could not reasonably be expected to have a Material Adverse Effect.

(h) the Company is not in violation of its Articles of Amendment and Restatement, as amended or restated (the “Articles”), or its bylaws, as amended or restated (the “Bylaws”); the Partnership is not in violation of its Certificate of Limited Partnership or the Partnership Agreement, and no Subsidiary is in violation of its organizational documents (including, without limitation, partnership and limited liability company agreements); neither the Company nor any Subsidiary is in breach of or default in, nor to the knowledge of the Company and the Partnership has any event occurred which with notice, lapse of time, or both would constitute a breach of or default in, the performance or observance by the Company or any Subsidiary, as the case may be, of any

obligation, agreement, contract, franchise, covenant or condition contained in any license, indenture, mortgage, deed of trust, loan or credit agreement, lease or other agreement or instrument to which the Company or any Subsidiary is a party or by which any of them or their respective properties is bound.

(i) the execution, delivery and performance of this Agreement and the other agreements listed as exhibits to the Registration Statement, including the Contribution Agreements (as hereinafter defined) (collectively, the “Other Transaction Documents”), by the Company and the Partnership (to the extent a party thereto), the issuance, sale and delivery by the Company of the Shares and the consummation of the transactions contemplated herein, in the Other Transaction Documents or in the Formation Transactions do not and will not (A) conflict with, or result in any breach or constitute a default (nor constitute any event which with notice, lapse of time or both would constitute a breach or default) by the Company (i) of any provisions of its Articles or Bylaws, by the Partnership of any provisions under its Certificate of Limited Partnership or Partnership Agreement, by any Subsidiary (excluding the Partnership) of any provision of its organizational documents, or (ii) of any provision of any obligation, agreement, contract, franchise, license, indenture, mortgage, deed of trust, loan or credit agreement, lease or other agreement or instrument to which the Company or any Subsidiary is a party or by which any of them or their respective properties may be bound or affected, or (iii) under any U.S. federal, state, local or foreign law, regulation or rule or any decree, judgment or order applicable to the Company or any Subsidiary; or (B) result in the creation or imposition of any lien, charge, claim or encumbrance upon any property or asset of the Company or any Subsidiary.

(j) the execution, delivery and performance of the contribution agreements with respect to the partnership interests and limited liability company interests in connection with the Holiday Inn Downtown Williamsburg, Holiday Inn Brownstone, Hilton Savannah DeSoto and Hilton Wilmington Riverside to be acquired by the Partnership (collectively, the “Contribution Agreements”) and the consummation of the transactions contemplated by the Contribution Agreements do not and will not (A) conflict with, or result in any breach or constitute a default under (nor constitute any event which with notice, lapse of time or both would constitute a breach or default under) (i) any provisions of the charter or bylaws or other organizational documents of MHI Hotels Services, LLC or any other transferor under the Contribution Agreements or of any entity that owns the foregoing hotels (“a Property Owning Entity”) (each, a “Transferor”), or (ii) any provision of any obligation, agreement, contract, franchise, license, indenture, mortgage, deed of trust, loan or credit agreement, lease or other agreement or instrument to which a Transferor or a Property Owning Entity is a party or by which any such Transferor or Property Owning Entity or its properties or assets may be bound or affected, provided, however , that the representations and warranties contained in this subsection 3(j)(A)(ii) relating to those Transferors consisting of the Krichman Revocable Trust, the Krichman Charitable Trust and MAVAS LLC shall only be to the knowledge of the Company and the Partnership, or (iii) any U.S. federal, state, local or foreign law, regulation or rule or any decree, judgment or order binding upon or applicable to a Transferor or a Property Owning Entity or any of its properties or assets,

provided, however , that the representations and warranties contained in this subsection 3(j)(A)(iii) relating to those Transferors consisting of the Krichman Revocable Trust, the Krichman Charitable Trust and MAVAS LLC shall only be to the knowledge of the Company and the Partnership; or (B) result in the creation or imposition of any lien, charge, claim or encumbrance upon any property or asset of a Transferor or a Property Owning Entity.

(k) the Company has the full legal right, corporate power and authority to enter into this Agreement and the Other Transaction Documents and to consummate the transactions contemplated herein and therein; the Company has the corporate power to issue, sell and deliver the Shares as provided herein; this Agreement and the Other Transaction Documents to which the Company is a party have been duly authorized, executed and delivered by the Company and are legal, valid and binding agreements of the Company enforceable against the Company in accordance with their terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally, and by general equitable principles.

(l) the Partnership has the full legal right, power and authority to enter into this Agreement and the Other Transaction Documents to which the Partnership is a party and to consummate the transactions contemplated herein and therein; this Agreement and the Other Transaction Documents have been duly authorized, executed and delivered by the Partnership and constitute legal, valid and binding agreements of the Partnership enforceable against the Partnership in accordance with their terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally, and by general equitable principles.

(m) each Transferor has the full legal right, power and authority to enter into the Contribution Agreements to which it is a party and to consummate the transactions contemplated therein; each such Contribution Agreement has been duly authorized, executed and delivered by the Transferors and constitutes the legal, valid and binding agreement of the Transferors enforceable against the Transferors in accordance with its terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally, and by general equitable principles; provided, however , that the representations and warranties contained in this subsection 3(m) relating to those Transferors consisting of the Krichman Revocable Trust, the Krichman Charitable Trust and MAVAS LLC shall only be to the knowledge of the Company and the Partnership.

(n) no approval, authorization, consent or order of, or registration or filing with, any U.S. federal, state or local governmental or regulatory commission, board, body, authority or agency is required for the Company’s or the Partnership’s execution, delivery and performance of this Agreement or the consummation of the transactions contemplated herein, including the sale and delivery of the Shares, other than (A) such as have been obtained, or will have been obtained before the First Closing Date or the applicable Option Closing Date, as the case may be, under the Securities Act and the Securities Exchange Act of 1934, as amended (the “Exchange Act”), (B) such approvals as have been obtained in connection with the approval of the quotation of the Shares on

the American Stock Exchange, and (C) any necessary qualification under the securities or blue sky laws of the various jurisdictions in which the Shares are being offered by the Underwriters.

(o) each of the Company and the Subsidiaries has all necessary licenses, permits, authorizations, consents and approvals, possesses valid and current certificates, has made all necessary filings required under any applicable federal, state or local law, regulation or rule, and has obtained all necessary authorizations, consents and approvals from other persons, required in order to conduct its business as described in the Prospectus, except to the extent that any failure to have any such licenses, permits, authorizations, consents or approvals, to make any such filings or to obtain any such authorizations, consents or approvals could not reasonably be expected to have a Material Adverse Effect; neither the Company nor any of the Subsidiaries is in violation of, in default under, or has received any notice regarding a possible violation, default or revocation of any such certificate, license, permit, authorization, consent or approval or any U.S. federal, state, local or foreign law, regulation or rule or any decree, order or judgment applicable to the Company or any of the Subsidiaries the effect of which could reasonably be expected to result in a Material Adverse Change; and no such license, permit, authorization, consent or approval contains a material restriction that is not adequately disclosed in the Registration Statement and the Prospectus.

(p) the Registration Statement and any Rule 462(b) Registration Statement has been declared effective under the Securities Act by the Commission and no stop order suspending the effectiveness of the Registration Statement has been issued under the Securities Act and no proceedings for that purpose have been instituted or are pending or, to the knowledge of the Company and the Partnership, are contemplated or threatened by the Commission, and the Company has complied with any request on the part of the Commission for additional or supplemental information.

(q) each of the Preliminary Prospectus and the Registration Statement complies, and the Prospectus and any further amendments or supplements thereto will, as of their dates and when they have become effective or are filed with the Commission, as the case may be, comply, in all material respects with the requirements of the Securities Act and the Securities Act Regulations; the Registration Statement did not, and any amendment thereto will not, in each case as of the applicable effective date, contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading; and the Preliminary Prospectus does not, and the Prospectus or any amendment or supplement thereto will not, as of its date and on the First Closing Date and on each Option Closing Date (if any), contain an untrue statement of a material fact or omit to state a material fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided, however, that the Company makes no warranty or representation with respect to any statement contained in the Registration Statement or the Prospectus, or any amendments or supplements thereto, in reliance upon and in conformity with the information furnished in writing by or on behalf of the Underwriters through the Representative to the Company expressly for use in the Registration

Statement or the Prospectus, or any amendments or supplements thereto (that information being limited to that described in the last sentence of the first paragraph of Section 9(b) hereof).

(r) the Preliminary Prospectus was, and the Prospectus delivered to the Underwriters for use in connection with this offering will be, identical to the versions of the Preliminary Prospectus and Prospectus transmitted to the Commission for filing via the Electronic Data Gathering Analysis and Retrieval System (“EDGAR”), except to the extent permitted by Regulation S-T.

(s) except as disclosed in the Prospectus, there are no actions, suits, proceedings, inquiries or investigations pending or, to the knowledge of the Company and the Partnership, threatened (i) against the Company, the Company’s Predecessors (as defined below) or any of its Subsidiaries, or (ii) which has as the subject thereof any of the respective officers or directors of the Company or any officers, directors, managers or partners of its Subsidiaries or the Company’s Predecessors, or to which the properties, assets or rights of any such entity are subject, at law or in equity, before or by any federal, state, local or foreign governmental or regulatory commission, board, body, authority, arbitral panel or agency, or (iii) relating to environmental or discrimination matters, where in any such case (A) there is a reasonable possibility that such action, suit or proceeding might be determined adversely to the Company or such Subsidiary and (B) if so determined adversely, could reasonably be expected to result in a judgment, decree, award or order having a Material Adverse Effect or could adversely affect the consummation of the transactions contemplated by this Agreement. For purposes of this Agreement the “Company’s Predecessors” means MHI Hotels Services, LLC, Capitol Hotel Associates LP, LLP, Brownestone Partners, LLC and Savannah Hotel Associates, LLC.

(t) the consolidated financial statements of the Company and its Subsidiaries, including the notes thereto, included in the Registration Statement and the Prospectus present fairly the consolidated financial position of the entities to which such financial statements relate (the “Covered Entities”) as of the dates indicated and the consolidated results of operations and changes in financial position and cash flows of the Covered Entities for the periods specified; the supporting schedules included in the Registration Statement fairly present the information required to be stated therein; such financial statements and supporting schedules have been prepared in conformity with generally accepted accounting principles as applied in the United States (“GAAP”) and on a consistent basis during the periods involved (except as may be expressly stated in the related notes thereto) and in accordance with Regulation S-X promulgated by the Commission; the financial data set forth in the Registration Statement and in the Prospectus under the captions “Prospectus Summary—Summary Historical and Pro Forma Financial Data,” “Selected Financial Data,” and “Capitalization” fairly present the information shown therein and have been compiled on a basis consistent with the financial statements included in the Registration Statement and the Prospectus; no other financial statements or supporting schedules are required to be included in the Registration Statement; the unaudited pro forma financial information (including the related notes)

included in the Prospectus and the Preliminary Prospectus complies as to form in all material respects with the applicable accounting requirements of the Securities Act and the Securities Act Regulations, and management of the Company believes that the assumptions underlying the pro forma adjustments are reasonable; such pro forma adjustments have been properly applied to the historical amounts in the compilation of the information and such information fairly presents the financial position, results of operations and other information purported to be shown therein at the respective dates for the respective periods specified; and no other pro forma financial information is required to be included in the Registration Statement.

(u) (i) Witt, Mares & Company, PLC, who have audited certain financial statements of the Company and the Covered Entities expressed their opinions in reports with respect to the consolidated financial statements of the Company and the Covered Entities, each as filed with the Commission as part of the Registration Statement and Prospectus are, and were during the periods covered by its reports, independent public accountants with respect to the Company as required by the Securities Act and the Securities Act Regulations; and (ii) Witt, Mares & Company, PLC is not in violation of the auditor independence requirements of the Sarbanes-Oxley Act of 2002, as amended, and the rules and regulations promulgated by the Commission thereunder (the “Sarbanes-Oxley Act”).

(v) subsequent to the respective dates as of which information is given in the Registration Statement and the Prospectus, and except as may be otherwise stated in the Registration Statement or Prospectus, as of the date hereof and the First Closing Date and any Option Closing Date there has not been (A) any Material Adverse Change or any development that could reasonably be expected to result in a Material Adverse Change, whether or not arising in the ordinary course of business, (B) any transaction that is material to the Company and the Subsidiaries taken as a whole, entered into by the Company or any of the Subsidiaries or as to which it is probable that the Company or any of the Subsidiaries will enter into, or any material liability or obligation, indirect, direct or contingent, (C) any obligation, contingent or otherwise, directly or indirectly incurred by the Company or any Subsidiary that is material to the Company and the Subsidiaries taken as a whole or (D) any dividend or distribution of any kind declared, paid or made by the Company or any of its Subsidiaries on any class of its capital stock or repurchase or redemption by the Company or any of its Subsidiaries of any class of capital stock.

(w) except as disclosed in the Prospectus, there are no persons with registration or other similar rights to have any equity or debt securities, including securities which are convertible into or exchangeable for equity securities, registered pursuant to the Registration Statement or otherwise registered by the Company under the Securities Act; and no person has a right of participation or first refusal with respect to the sale of the Shares by the Company.

(x) the issuance and sale of the Shares to the Underwriters hereunder have been duly authorized by the Company, and, when issued and duly delivered against payment therefore as contemplated by this Agreement, will be validly issued, fully paid and nonassessable, free and clear of any pledge, lien, encumbrance, security interest or

other claim created by or known to the Company, and the issuance and sale of the Shares by the Company is not subject to preemptive or other similar rights arising by operation of law, under the organizational documents of the Company or under any agreement to which the Company or any Subsidiary is a party or otherwise.

(y) the issuance of the Units described in the Prospectus has been duly authorized by the Partnership and the Company, and, when issued and duly delivered in accordance with the terms of the Other Transaction Documents, will be validly issued, fully paid and nonassesable, free and clear of any pledge, lien, encumbrance, security interest or other claim created by or known to the Company or the Partnership and issued in accordance with applicable law, including state and federal securities laws; and the issuance of the Units by the Partnership is not subject to preemptive or other similar rights arising by operation of law under the organizational documents of the Partnership or under any agreement to which the Partnership is a party or otherwise.

(z) the Shares have been registered pursuant to Section 12(b) of the Exchange Act and the Shares have been approved for listing on the American Stock Exchange, subject only to official notice of issuance.

(aa) the Company has not taken, and will not take, directly or indirectly, any action which is designed to or which has constituted or which might reasonably be expected to cause or result in stabilization or manipulation of the price of any security of the Company to facilitate the sale or resale of the Shares.

(bb) neither the Company nor any of its affiliates (i) is required to register as a “broker” or “dealer” in accordance with the provisions of the Exchange Act, or the rules and regulations thereunder (the “Exchange Act Regulations”), or (ii) directly, or indirectly through one or more intermediaries, controls or has any other association with (within the meaning of Article I of the Bylaws of the National Association of Securities Dealers, Inc. (the “NASD”) any member firm of the NASD.

(cc) the Company has not relied upon the Underwriters or legal counsel for the Underwriters for any legal, tax or accounting advice in connection with the offering and sale of the Shares.

(dd) any certificate signed by any officer of the Company or any Subsidiary delivered to the Representative or to legal counsel for the Underwriters pursuant to or in connection with this Agreement shall be deemed a representation and warranty by the Company to each Underwriter as to the matters covered thereby.

(ee) the form of certificate used to evidence the Common Stock complies in all material respects with all applicable statutory requirements, with any applicable requirements of the Articles and Bylaws of the Company and the requirements of the American Stock Exchange.

(ff) upon completion of the Formation Transactions, the Company and the Subsidiaries will have good and marketable title in fee simple to, or a valid leasehold

interest in, all real property owned or leased (or to be owned or leased upon completion of the Formation Transactions) by them as described in the Prospectus, and good title to all personal property owned by them, in each case free and clear of all liens, security interests, pledges, charges, encumbrances, encroachments, restrictions, mortgages and other defects, except such as are disclosed in the Prospectus or such as do not materially and adversely affect the value of such property and do not materially interfere with the use made or proposed to be made of such property by the Company and the Subsidiaries; any real property, improvements, equipment and personal property held under lease (or to be held under lease upon completion of the Formation Transactions) by the Company or any Subsidiary are, or will be, held under valid, existing and enforceable leases; upon the completion of the Formation Transactions, the Company or a Subsidiary will have an owner’s or leasehold title insurance policy, from a title insurance company licensed to issue such policy, on each property described in the Registration Statement and Prospectus as being owned or leased upon completion of the Formation Transactions, as the case may be, by the Company or a Subsidiary, that insures the Company’s or the Subsidiary’s fee simple or leasehold interest, as the case may be, in such real property, which policies include only commercially reasonable exceptions, and with coverages in amounts at least equal to amounts that are generally deemed in the Company’s industry to be commercially reasonable in the markets where the Company’s properties are located.

(gg) all real property owned or leased by the Company or any Subsidiary or to be owned or leased upon completion of the Formation Transactions, whether owned in fee simple or through a joint venture or other partnership (each, a “Property” and collectively “Properties”), is free of any material structural defects and all building systems contained therein are in good working order in all material respects, subject to ordinary wear and tear or, in each instance, the Company or any Subsidiary, as the case may be, has created an adequate reserve to effect reasonably required repairs, maintenance and capital expenditures; water, storm water, sanitary sewer, electricity and telephone service are all available at the property lines of such property over duly dedicated streets or perpetual easements of record benefiting such property; except as described in the Prospectus, there is no pending or, to the knowledge of the Company or any Subsidiary, threatened special assessment, tax reduction proceeding or other action that could reasonably be expected to materially increase the real property taxes and assessments of any of such property.

(hh) each of the Other Transaction Documents and agreements described or referenced under the heading “Formation Transactions” in the Prospectus has been duly and validly authorized, executed and delivered by or on behalf of the Company and the Partnership and, to the knowledge of the Company and the Partnership, by each of the other parties thereto and constitutes a valid and binding agreement of the parties thereto, enforceable in accordance with its terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally or by general principles of equity. The description of each transaction set forth under the heading “Formation Transactions” constitutes a complete and accurate summary of the material terms thereof.

(ii) each of the properties listed in the Prospectus as a property that the Company or one of its Subsidiaries has under contract is the subject of a purchase and sale contract that has been duly and validly authorized, executed and delivered by or on behalf of the Company and the Partnership and, to the knowledge of the Company and the Partnership, by each of the other parties thereto and each such contract constitutes a valid and binding agreement of the parties thereto, enforceable in accordance with its terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally or by general principles of equity. Each of the properties listed in the Prospectus as a property with respect to which the Company or one of its Subsidiaries has (or will have upon completion of the Formation Transactions) a leasehold interest is the subject of a lease that has been (or will have been upon completion of the Formation Transactions) duly and validly authorized, executed and delivered by or on behalf of the Company and the Partnership and, to the knowledge of the Company and the Partnership, by each of the other parties thereto and each such lease constitutes (or will constitute upon completion of the Formation Transactions) a valid and binding agreement of the parties thereto, enforceable in accordance with its terms, except as enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally or by general principles of equity.

(jj) the descriptions in the Registration Statement and the Prospectus of the legal or governmental proceedings, contracts, leases and other legal documents therein described present in all material respects the information required to be disclosed, and there are no legal or governmental proceedings, contracts, leases, or other documents of a character required to be described in the Registration Statement or the Prospectus or to be filed as exhibits to the Registration Statement which are not described or filed as required; all agreements between the Company or any of the Subsidiaries and third parties expressly referenced in the Registration Statement and the Prospectus are or will be legal, valid and binding obligations of the Company or one or more of the Subsidiaries, enforceable in accordance with their respective terms, except to the extent enforceability may be limited by bankruptcy, insolvency, reorganization, moratorium or similar laws affecting creditors’ rights generally and by general equitable principles and to the best of the Company’s and the Partnership’s knowledge, no party thereto is in, or with the passage of time or the giving of notice or both will be in, breach or default under any of such agreements.

(kk) the Company and each Subsidiary owns or possesses (or upon completion of the Formation Transactions will own or possess) adequate and sufficient licenses or other rights to use all patents, trademarks, service marks, trade names, copyrights, domain names, software and design licenses, approvals, trade secrets, manufacturing processes, other intangible property rights and know-how (collectively “Intellectual Property Rights”) necessary to entitle the Company and each Subsidiary to conduct its business as described in the Prospectus, and the expected expiration of any of such Intellectual Property Rights could not reasonably be expected to result in a Material Adverse Change; neither the Company nor any Subsidiary has received notice of infringement of or

conflict with (and the Company knows of no such infringement of or conflict with) asserted rights of others with respect to any Intellectual Property Rights which could reasonably be expected to have a Material Adverse Effect; neither the Company nor any Subsidiary is a party to or bound by any options, licenses or agreements with respect to the Intellectual Property Rights of any other person or entity that are required to be set forth in the Prospectus and are not described as required; none of the technology employed by the Company or any Subsidiary has been obtained or is being used by the Company or any Subsidiary in violation of any contractual obligation binding on the Company or any Subsidiary or, to the Company’s and the Partnership’s knowledge, any of the officers, directors, managers, partners, trustees or employees of the Company or any Subsidiary, or otherwise in violation of the rights of any persons; and none of the technology employed by the Company’s Predecessors had been obtained or was used by the Company’s Predecessors in violation of any contractual obligation binding on the Company’s Predecessors or, to the Company’s and the Partnership’s knowledge, any of the officers, directors, managers or employees of the Company’s Predecessors, or otherwise in violation of the rights of any persons.

(ll) the Company and each of the Subsidiaries maintain a system of internal accounting controls sufficient to provide reasonable assurance that (i) transactions are executed in accordance with management’s general or specific authorizations; (ii) transactions are recorded as necessary to permit preparation of financial statements in conformity with generally accepted accounting principles as applied in the United States and to maintain accountability for assets; (iii) access to assets is permitted only in accordance with management’s general or specific authorization; and (iv) the recorded accountability for assets is compared with the existing assets at reasonable intervals and appropriate action is taken with respect to any differences.

(mm) each of the Company, the Company’s Predecessors, the Property Owning Entities and the Subsidiaries has filed on a timely basis (including in accordance with any applicable extensions) all necessary U.S. federal, state, local and foreign income and franchise tax returns required to be filed through the date hereof or have properly requested extensions thereof, and have paid all taxes shown as due thereon, and if due and payable, any related or similar assessment, fine or penalty levied against the Company, the Company’s Predecessors or any of the Subsidiaries; no tax deficiency has been asserted against any such entity, nor does the Company or any of the Subsidiaries know of any tax deficiency which is likely to be asserted against any such entity which, if determined adversely to any such entity, could reasonably be expected to have a Material Adverse Effect; all such tax liabilities are adequately provided for on the respective books of such entities.

(nn) each of the Company and the Subsidiaries maintains, or upon completion of the Formation Transactions will maintain or cause to be maintained, insurance, issued by insurers of recognized financial responsibility, of the types and with policies in such amounts and with such deductibles and covering such risks as are generally deemed adequate for their respective businesses and consistent with insurance coverage maintained by similar companies in similar businesses, including, but not limited to, insurance covering real and personal property owned or leased by the Company and the

Subsidiaries against theft, damage, destruction, environmental liabilities, acts of vandalism, terrorism, earthquakes, floods and all other risks customarily insured against, all of which insurance is in full force and effect; the Company has no reason to believe that it or any Subsidiary will not be able (i) to renew its existing insurance coverage as and when such policies expire or (ii) to obtain comparable coverage from similar institutions as may be necessary or appropriate to conduct its business as now conducted and at a cost that could not reasonably be expected to result in a Material Adverse Change; and neither of the Company nor any Subsidiary has been denied any insurance coverage which it has sought or for which it has applied.

(oo) the Company has obtained Phase I Environmental Audits with respect to the Properties as described in the Prospectus and except as otherwise disclosed in the Prospectus, (i) none of the Partnership, the Company, any of the Subsidiaries nor, to the knowledge of the Partnership and the Company, any other owners of the properties, including the Company’s Predecessors, has used, handled, stored, treated, transported, manufactured, spilled, leaked, released or discharged, dumped, transferred or otherwise disposed of or dealt with, Hazardous Materials (as defined below) on, in, under or affecting any Property; (ii) the Company, the Partnership and the other Subsidiaries do not intend to use any Property or any subsequently acquired properties for the purpose of using, handling, storing, treating, transporting, manufacturing, spilling, leaking, discharging, dumping, transferring or otherwise disposing of or dealing with Hazardous Materials; (iii) none of the Partnership, the Company, nor any of the other Subsidiaries has received any notice of, or has any knowledge of, any occurrence or circumstance which, with notice or passage of time or both, would give rise to a claim under or pursuant to any federal, state or local environmental statute or regulation or under common law, pertaining to Hazardous Materials on or originating from any Property or any assets described in the Prospectus or any other real property owned or occupied by any such party or arising out of the conduct of any such party, including without limitation a claim under or pursuant to any Environmental Statute (as hereinafter defined); (iv) no Property is included or proposed for inclusion on the National Priorities List issued pursuant to CERCLA (as defined below) by the United States Environmental Protection Agency (the “EPA”) or, to the Partnership’s and the Company’s knowledge, proposed for inclusion on any similar list or inventory issued pursuant to any other Environmental Statute or issued by any other Governmental Authority (as hereinafter defined); and in the operation of the Company’s and the Partnership’s businesses, the Company or the Partnership will acquire before acquisition an environmental assessment of any real property and, to the extent they become aware of any violation or potential violation of any Environmental Statute, the Company and the Partnership will take all commercially reasonable action necessary or advisable (including any capital improvements) for clean-up, closure or other compliance with such Environmental Statute.

As used herein, “Hazardous Material” shall include, without limitation, any flammable explosive, radioactive material, hazardous substance, hazardous material, hazardous waste, toxic substance, asbestos or related material, as defined by any federal, state or local environmental law, ordinance, rule or regulation including without limitation,

the Comprehensive Environmental Response, Compensation, and Liability Act of 1980, as amended, 42 U.S.C. Sections 9601-9675 (“CERCLA”), the Hazardous Materials Transportation Act, as amended, 49 U.S.C. Sections 1801-1819, the Resource Conservation and Recovery Act, as amended, 42 U.S.C. Sections 6901-6992K, the Emergency Planning and Community Right-to-Know Act of 1986, 42 U.S.C. Sections 11001-11050, the Toxic Substances Control Act, 15 U.S.C. Sections 2601-2671, the Federal Insecticide, Fungicide and Rodenticide Act, 7 U.S.C. Sections 136-136y, the Clean Air Act, 42 U.S.C. Sections 7401-7642, the Clean Water Act (Federal Water Pollution Control Act), 33 U.S.C. Sections 1251-1387, the Safe Drinking Water Act, 42 U.S.C. Sections 300f-300j-26, and the Occupational Safety and Health Act, 29 U.S.C. Sections 651-678, as any of the above statutes may be amended from time to time, and in the regulations promulgated pursuant to each of the foregoing (individually, an “Environmental Statute”) or by any federal, state or local governmental authority having or claiming jurisdiction over the properties and assets described in the Prospectus (a “Governmental Authority”).

(pp) to the knowledge of the Company and the Partnership there are no costs or liabilities associated with the Properties pursuant to any Environmental Statute (including, without limitation, any capital or operating expenditures required for clean-up, closure of properties or compliance with any Environmental Statute or any permit, license or approval, any related constraints on operating activities and any potential liabilities to third parties) which could reasonably be expected to have a Material Adverse Effect.

(qq) none of the entities that prepared appraisals of the Properties, nor the entities that prepared Phase I or other environmental assessments with respect to any Property, was employed for such purpose on a contingent basis or has any substantial interest in the Company or any of the Subsidiaries, and none of their directors, officers or employees is connected with the Company or any of the Subsidiaries as a promoter, selling agent, officer, director or employee.

(rr) none of the Company, any Subsidiary or, to the knowledge of the Company and the Partnership, the Company’s Predecessors is in violation of or has received notice of any violation with respect to any U.S. federal or state law relating to discrimination in the hiring, termination, promotion, terms or conditions of employment or pay of employees, nor any applicable U.S. federal or state wages and hours law, nor any state law precluding the denial of credit due to the neighborhood in which a property is situated, the violation of any of which could reasonably be expected to have a Material Adverse Effect.

(ss) any “employee benefit plan” (as defined under the Employee Retirement Income Security Act of 1974, as amended, and the regulations and published interpretations thereunder (collectively, “ERISA”)) established or maintained by the Company, the Subsidiaries or their “ERISA Affiliates” (as defined below) or to which the Company, the Subsidiaries or their ERISA Affiliates contribute or are required to contribute are in compliance in all material respects with ERISA; “ERISA Affiliate” means any trade or business, whether or not incorporated, which with the Company or a Subsidiary is treated as a single employer under Section 414(b), (c), (m) or (o) of the

Internal Revenue Code of 1986, as amended, and the rules and regulations promulgated thereunder (the “Code”); no such employee benefit plan is subject to Section 412 of the Code, Section 302 of ERISA or Title IV of ERISA; all contributions required to have been made under each such employee benefit plan have been made on a timely basis; there has been no “prohibited transaction” (as defined in Section 4975 of the Code or Section 406 or 407 of ERISA) for which the Company, the Subsidiaries or their ERISA Affiliates have any material liability; and each such employee benefit plan that is intended to be qualified under Section 401(a) of the Code is so qualified and to the knowledge of the Company and the Partnership, nothing has occurred, whether by action or failure to act, which could reasonably be expected to cause the loss of such qualification.

(tt) neither the Company nor any of the Subsidiaries nor any officer, director, manager or trustee purporting to act on behalf of the Company or any of the Subsidiaries has at any time (i) made any contributions to any candidate for political office, or failed to disclose fully any such contributions, in violation of law, (ii) made any payment to any U.S. federal, state, local or foreign governmental officer or official, or other person charged with similar public or quasi-public duties, other than payments required or allowed by applicable law and the Company’s proposed Code of Business Conduct provided to the Underwriters, or (iii) engaged in any transactions, maintained any bank account or used any corporate funds except for transactions, bank accounts and funds which have been and are reflected in the normally maintained books and records of the Company and the Subsidiaries.

(uu) except as otherwise disclosed in the Registration Statement and Prospectus, there are no, and will not be any upon completion of the Formation Transactions, material outstanding loans or advances or material guarantees of indebtedness by the Company or any of the Subsidiaries to or for the benefit of any of the officers, directors, managers or trustees of the Company or any of the Subsidiaries or any of the members of the families of any of them.

(vv) neither the Company nor any of the Subsidiaries nor, to the knowledge of the Company or the Partnership, any employee or agent of the Company or any of the Subsidiaries, has made any payment of funds of the Company or of any Subsidiary or received or retained any funds in violation of any law, rule or regulation or of a character required to be disclosed in the Prospectus.

(ww) all securities issued by the Company, any of the Subsidiaries or any entity established by the Company or any Subsidiary, have been issued and sold in compliance with (i) all applicable federal and state securities laws, (ii) the laws of the applicable jurisdiction of incorporation or formation of the issuing entity and, (iii) to the extent applicable to the issuing entity, the requirements of the American Stock Exchange.

(xx) none of the Partnership, the Company nor any Subsidiary knows of any violation of any municipal, state or federal law, rule or regulation (including those pertaining to environmental matters) concerning any Property or any part thereof which could reasonably be expected to have a Material Adverse Effect; the Company has accurately and completely summarized in the Prospectus all material options or material

rights of first refusal to purchase all or part of any Property or any interest therein; each of the Properties complies with all applicable zoning laws, ordinances, regulations and deed restrictions or other covenants in all material respects or, if and to the extent there is a failure to comply, such failure does not materially impair the value of any of the Properties and will not result in a forfeiture or reversion of title; none of the Partnership, the Company, the Company’s Predecessors nor any Subsidiary has received from any governmental authority having or claiming jurisdiction over the Properties any written notice of any condemnation of or zoning change affecting the Properties or any part thereof, and none of the Partnership, the Company, the Company’s Predecessors nor any Subsidiary knows of any such condemnation or zoning change which is threatened and which if consummated could reasonably be expected to have a Material Adverse Effect; all liens, charges, encumbrances, claims, or restrictions on or affecting the properties and assets (including the Properties) of the Partnership or any of the Subsidiaries that are required to be described in the Prospectus (or the Preliminary Prospectus) are disclosed therein; no lessee of any portion of any of the Properties is in default under any of the leases governing such properties and there is no event which, but for the passage of time or the giving of notice or both could constitute a default under any of such leases, except such defaults that could not reasonably be expected to have a Material Adverse Effect; and no tenant under any lease pursuant to which the Partnership or any of the Subsidiaries leases, or will lease upon completion of the Formation Transactions, any Property has an option or right of first refusal to purchase the premises leased thereunder or the building of which such premises are a part, except as such options or rights of first refusal which, if exercised, could not reasonably be expected to have a Material Adverse Effect.

(yy) in connection with the offering of the Shares, the Company has not offered and will not offer its Common Shares or any other securities convertible into or exchangeable or exercisable for Common Stock in a manner in violation of the Securities Act; the Company has not distributed and will not distribute any prospectus or other offering material, other than the Preliminary Prospectus and the Prospectus, in connection with the offer and sale of the Shares.

(zz) the Company has complied and will comply with all the provisions of Florida Statutes, Section 517.075 (Chapter 92-198, Laws of Florida); and neither the Company nor any of the Subsidiaries or affiliates does business with the government of Cuba or with any person or affiliate located in Cuba.

(aaa) except as disclosed in the Prospectus, the Company has not incurred any liability for any broker’s or finder’s fees or similar payments in connection with the transactions herein contemplated.

(bbb) no relationship, direct or indirect, exists between or among the Company or any of the Subsidiaries on the one hand, and the directors, officers, trustees, managers, shareholders, partners, customers or suppliers of the Company or any of the Subsidiaries on the other hand, which is required by the Securities Act and the Securities Act Regulations to be described in the Registration Statement and the Prospectus and which is not so described.

(ccc) neither the Company nor any of the Subsidiaries is and, after giving effect to the offering and sale of the Shares and the use of the proceeds as described under the caption “Use of Proceeds” in the Prospectus, will be an “investment company” or an entity “controlled” by an “investment company,” as such terms are defined in the Investment Company Act of 1940, as amended (the “Investment Company Act”).

(ddd) there are no existing or, to the knowledge of the Company or the Partnership, threatened labor disputes with the employees of the Company or any of the Subsidiaries or any of the Company’s Predecessors which could reasonably be expected to have a Material Adverse Effect.

(eee) the statistical and market related data included in the Prospectus and the Registration Statement are based on or derived from sources that the Company believes to be reliable and accurate.

(fff) the Company will properly and timely elect to be taxed as a real estate investment trust under the Internal Revenue Code of 1986, as amended, including the regulations and published interpretations thereunder (the “Code”) commencing with the taxable year ending December 31, 2004; the Company will be organized and operated in conformity with the requirements for qualification as a real estate investment trust pursuant to Sections 856 through 860 of the Code, and the current and proposed method of operation of the Company and the Subsidiaries as described in the Prospectus will enable the Company to meet the requirements for qualification and taxation as a real estate investment trust under the Code; the Partnership is treated as a partnership for federal income tax purposes and not as a corporation or association taxable as a corporation; the Company intends to continue to qualify as a real estate investment trust under the Code for all subsequent years; and the Company does not know of any event that could cause or is likely to cause the Company to fail to qualify as a real estate investment trust under the Code at any time.

(ggg) the factual description of, and the assumptions and representations regarding, the Company’s organization and current and proposed method of operation set forth in the Prospectus under the heading “Material Federal Income Tax Considerations” accurately and completely summarize the matters referred to therein.

(hhh) the conduct of business by the Company and the Subsidiaries as presently and proposed to be conducted is not subject to continuing oversight, supervision, regulation or examination by any governmental official or body of the United States or any other jurisdiction wherein the Company or the Subsidiaries conducts or proposes to conduct such business, except as described in the Prospectus and except such regulation as is applicable to commercial enterprises generally.

(iii) neither the Company, any of its Subsidiaries, nor any property has sustained, since the Company’s, the Partnership’s or the Predecessor Entities’ inception, any loss or interference with its business from fire, explosion, flood, hurricane, accident or other calamity, whether or not covered by insurance, or from any labor dispute or

arbitrators’ or court or governmental action, order or decree that could reasonably be expected to have a Material Adverse Effect, otherwise than as set forth in the Prospectus.

4. Certain Covenants :

The Company and the Partnership hereby agree with each Underwriter:

(a) that the Company shall cooperate with the Representative and legal counsel for the Underwriters and furnish such information as may be required to qualify or register the Shares for sale under (or obtain exemptions from the application of) the state securities or blue sky laws designated by the Representative, shall comply with such laws and shall continue such qualifications, registrations and exemptions in effect so long as required for the distribution of the Shares; provided, that the Company shall not be required to qualify as a foreign corporation or to take any action that would subject it to general service of process in any such jurisdiction where it is not presently qualified or where it would be subject to taxation as a foreign corporation; and that the Company shall use its best efforts to prevent the suspension of the qualification or registration of (or any such exemption relating to) the Shares for offering, sale or trading in any jurisdiction and will advise the Representative promptly of such suspension or any initiation or threat known by the Company of any proceeding for any such purpose; and that, in the event of the issuance of any order suspending such qualification, registration or exemption, the Company shall use its best efforts to obtain the withdrawal thereof at the earliest possible moment.

(b) that if, at the time this Agreement is executed and delivered, it is necessary for a post-effective amendment to the Registration Statement to be declared effective before the offering of the Shares may commence, the Company will use its best efforts to cause such post-effective amendment to become effective as soon as possible.

(c) to prepare the Prospectus in a form reasonably approved by the Representative and file such Prospectus with the Commission pursuant to Rule 424(b) under the Securities Act not later than 10:00 a.m. (New York City time), on the second day following the execution and delivery of this Agreement or on such other day as the parties may mutually agree and to furnish promptly and with respect to the initial delivery of such Prospectus, not later than 10:00 a.m. (New York City time) on the second day following the execution and delivery of this Agreement, or on such other day as the parties may mutually agree, to the Underwriters copies of the Prospectus (or of the Prospectus as amended or supplemented if the Company shall have made any amendments or supplements thereto after the effective date of the Registration Statement) in such quantities and at such locations as the Underwriters may reasonably request for the purposes contemplated by the Securities Act Regulations, which Prospectus and any amendments or supplements thereto furnished to the Underwriters will be identical to the version transmitted to the Commission for filing via EDGAR, except to the extent permitted by Regulation S-T.

(d) to advise the Representative promptly and (if requested by the Representative) to confirm such advice in writing, when any post-effective amendment to the Registration Statement becomes effective under the Securities Act Regulations.

(e) that, after the date of this Agreement, the Company shall promptly advise the Representative orally (and, if requested by the Representative, promptly confirm such advice in writing) (i) of the receipt of any comments of, or requests for additional or supplemental information from, the Commission, (ii) of the time and date of any filing of any post-effective amendment to the Registration Statement or any amendment or supplement to any preliminary prospectus or the Prospectus, (iii) of the time and date that any post-effective amendment to the Registration Statement becomes effective and (iv) of the issuance by the Commission of any stop order suspending the effectiveness of the Registration Statement or any post-effective amendment thereto or of any order preventing or suspending the use of any preliminary prospectus or the Prospectus, or of any proceedings to remove, suspend or terminate from listing the Common Stock from the American Stock Exchange, or of the threatening or initiation of any proceedings for any of such purposes; and that the Company shall use its best efforts to prevent the issuance of any such order or suspension, removal or termination from listing, and, if the Commission shall enter any such stop order at any time, the Company will use its best efforts to obtain the lifting of such order at the earliest possible moment; the Company shall advise the Representative promptly of any proposal to amend or supplement the Registration Statement or Prospectus and to file no such amendment or supplement to which the Representative shall reasonably object; additionally, the Company agrees that it shall comply with the provisions of Rules 424(b), 430A and 434, as applicable, under the Securities Act and will use its reasonable efforts to confirm that any filings made by the Company under such Rule 424(b) were received in a timely manner by the Commission.

(f) to furnish to the Underwriters for a period of three years from the date of this Agreement (i) as soon as available, copies of all annual reports or other communications supplied to holders of Common Stock not publicly available, (ii) as soon as practicable after the filing thereof, copies of all reports filed by the Company with the NASD or any securities exchange; and to furnish to the Underwriters for a period of one year from the date of this Agreement such other information not publicly available as the Underwriters may reasonably request regarding the Company and the Subsidiaries.

(g) to advise the Underwriters promptly of the happening of any event known to the Company within the time during which a Prospectus relating to the Shares is required to be delivered under the Securities Act Regulations which, in the judgment of the Company or in the reasonable opinion of the Representative or legal counsel for the Underwriters, would require the making of any change in the Prospectus then being used so that the Prospectus would not include an untrue statement of a material fact or omit to state a material fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading, or if it is necessary at any time to amend or supplement the Prospectus to comply with the Securities Act and the Securities Act Regulations and, during such time, to promptly prepare and furnish to the Underwriters copies of the proposed amendment or supplement before filing any such

amendment or supplement with the Commission and thereafter promptly furnish at the Company’s own expense to the Underwriters, copies in such quantities and at such locations as the Representative may from time to time reasonably request of an appropriate amendment to the Registration Statement or supplement to the Prospectus so that the Prospectus as so amended or supplemented will not, in the light of the circumstances when it is so delivered, be misleading, or so that the Prospectus, as amended or supplemented, will comply with the law.

(h) to file promptly with the Commission any amendment to the Registration Statement or the Prospectus or any supplement to the Prospectus that may, in the judgment of the Company or the Representative, be required by the Securities Act or requested by the Commission.

(i) that, prior to filing with the Commission any amendment to the Registration Statement or supplement or amendment to the Prospectus or any Prospectus pursuant to Rule 424 under the Securities Act, the Company shall furnish to the Representative and counsel for the Underwriters for review a copy of each such proposed amendment or supplement, and the Company shall not file any such proposed amendment or supplement to which the Representative reasonably objects.

(j) to furnish promptly to the Representative a signed copy of the Registration Statement, as initially filed with the Commission, and of all amendments or supplements thereto (including all exhibits filed therewith or incorporated by reference therein) and such number of conformed copies of the foregoing as the Representative may reasonably request.

(k) to furnish to the Representative, not less than one business day before filing with the Commission subsequent to the effective date of the Prospectus and during the period in which a prospectus relating to the Shares is required to be delivered under the Securities Act in connection with sales by any Underwriter or dealer, a copy of any document proposed to be filed with the Commission pursuant to Section 13, 14, or 15(d) of the Exchange Act and during such period to file all such documents in the manner and within the time periods required by the Exchange Act, the Exchange Act Regulations and the Sarbanes-Oxley Act.

(l) to apply the net proceeds from the sale of the Shares in the manner described under the caption “Use of Proceeds” in the Prospectus.

(m) to make generally available to its security holders and to deliver to the Representative as soon as practicable, but in any event not later than 45 days after the end of the fiscal quarter first occurring after the first anniversary of the effective date of the Registration Statement (unless such fiscal quarter is the last fiscal quarter of the Company’s fiscal year, in which case such earnings statement shall be delivered no later than 90 days after the fiscal quarter first occurring after the first anniversary of the effective date of the Registration Statement) an earnings statement complying with the provisions of Section 11(a) of the Securities Act (in form, at the option of the Company,

complying with the provisions of Rule 158 of the Securities Act Regulations,) covering a period of 12 months beginning after the effective date of the Registration Statement.

(n) to use its best efforts to maintain the listing of the Shares on the American Stock Exchange and to file with the American Stock Exchange all documents and notices required by the American Stock Exchange of companies that have securities listed on the American Stock Exchange.

(o) to engage and maintain, at its expense, a registrar and transfer agent for the Shares.

(p) to refrain during a period of 180 days from the date of the Prospectus, without the prior written consent of the Representative (which consent may be withheld at the sole discretion of the Representative), from, directly or indirectly, (i) offering, pledging, selling, contracting to sell, selling any option or contract to purchase, purchasing any option or contract to sell, granting any option for the sale of, establishing an open “put equivalent position” within the meaning of Rule 16a-1(h) under the Exchange Act, or otherwise disposing of or transferring, (or entering into any transaction or device which is designed to, or could be expected to, result in the disposition by any person at any time in the future of), any Common Stock or any securities convertible into or exercisable or exchangeable for Common Stock, or filing any registration statement under the Securities Act with respect to any of the foregoing (provided that the Company may file a registration statement solely for the resale of the Common Stock issued upon redemption of Units), or (ii) entering into any swap or any other agreement or any transaction that transfers, in whole or in part, directly or indirectly, the economic consequence of ownership of the Common Stock, whether any such swap or transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise; provided, however, that the Company may issue its Common Stock or options to purchase its Common Stock, or Common Stock upon exercise of options, pursuant to any stock option, stock bonus or other stock plan or arrangement described in the Prospectus, but only if the holders of such shares, options, or shares issued upon exercise of such options, agree in writing not to sell, offer, dispose of or otherwise transfer any such shares or options during such 180 day period without the prior written consent of the Representative (which consent may be withheld at the sole discretion of the Representative).

(q) not to, and to use its best efforts to cause its officers, directors, partners and affiliates, as applicable, not to, (i) take, directly or indirectly prior to termination of the underwriting syndicate contemplated by this Agreement, any action designed to stabilize or manipulate the price of any security of the Company, or which may cause or result in, or which might in the future reasonably be expected to cause or result in, the stabilization or manipulation of the price of any security of the Company, to facilitate the sale or resale of any of the Shares, (ii) sell, bid for, purchase or pay anyone any compensation for soliciting purchases of the Shares or (iii) pay or agree to pay to any person any compensation for soliciting any order to purchase any other securities of the Company.

(r) that during the period in which a Prospectus relating to the Shares is required to be delivered under the Securities Act Regulations, the Company shall file, on a timely basis, with the Commission and the American Stock Exchange all reports and documents in the manner required by the Exchange Act, the Exchange Act Regulations, the Sarbanes-Oxley Act and the rules of the American Stock Exchange; additionally, the Company shall report the use of proceeds from the issuance of the Shares as may be required under Rule 463 under the Securities Act.

(s) that the Company shall obtain or maintain, as appropriate, Directors and Officers liability insurance in the minimum amount of $[ ] million which shall apply to the offering of the Shares contemplated hereby, and shall, with respect to the coverage thereunder that applies to the offering, include the Underwriters as additional named insured’s thereunder.

(t) that the Company will comply with all of the provisions of any undertakings in the Registration Statement.

(u) that the Company will continue to use its best efforts to meet the requirements to qualify as a REIT under the Code.

(v) that the Company shall not invest, or otherwise use the proceeds received by the Company from its sale of the Shares in such a manner as would require the Company or any of its Subsidiaries to register as an investment company under the Investment Company Act.

5. Payment of Expenses :

(a) The Company agrees to pay all costs and expenses incident to the performance of its obligations under this Agreement, whether or not the transactions contemplated hereunder are consummated or this Agreement is terminated, including expenses, fees and taxes in connection with (i) the preparation and filing of the Registration Statement (including without limitation financial statements, exhibits, schedules and consents), each Preliminary Prospectus, the Prospectus, and any amendments or supplements thereto, and the printing and furnishing of copies of each thereof to the Underwriters and to dealers (including costs of mailing and shipment) as may be reasonably requested, (ii) the preparation, issuance and delivery of the certificates for the Shares to the Underwriters, including any stock or other transfer taxes or duties payable upon the sale of the Shares to the Underwriters, (iii) all fees and expenses of the Company’s counsel, independent public or certified public accountants and other advisors, (iv) the qualification of the Shares for offering and sale under state laws that the Company and the Representative have mutually agreed are appropriate and the determination of their eligibility for investment under state law as aforesaid (including with respect to such qualification and determination of eligibility the reasonable legal fees and filing fees and other disbursements of counsel for the Underwriters) and the printing and furnishing of copies of any blue sky surveys or legal investment surveys to the Underwriters and to dealers, (v) filing for review of the public offering of the Shares by the NASD (including the filing fees and other reasonable disbursements of counsel for the

Underwriters relating thereto), (vi) the fees and expenses of any transfer agent or registrar for the Shares and miscellaneous expenses referred to in the Registration Statement, (vii) the fees and expenses incurred in connection with the inclusion of the Shares for trading on the American Stock Exchange, (viii) all costs and expenses incident to the travel and accommodation of the Company’s and the Representative’s employees in making road show presentations with respect to the offering of the Shares, (ix) preparing and distributing copies of transaction documents for the Representative and its legal counsel and (x) the performance of the Company’s other obligations hereunder. Upon the request of the Representative, the Company will provide funds in advance for filing fees.

(b) If this Agreement shall be terminated by the Underwriters, or any of them, because of any failure or refusal on the part of the Company to comply with the terms or to fulfill any of the conditions of this Agreement, or if for any reason the Company shall be unable to perform its obligation under this Agreement, the Company will reimburse the Underwriters or such Underwriters as have so terminated this Agreement with respect to themselves, severally, for all out-of-pocket expenses (such as printing, facsimile, courier service, direct computer expenses, accommodations and travel) and expenses related to any other advisors, accountants, appraisers, etc. reasonably incurred by such Underwriters in connection with this Agreement or the transactions contemplated herein but excluding the fees and disbursements of Underwriter’s counsel.

(c) If this Agreement shall be terminated by the Underwriters, or any of them, pursuant to any of Section 7, the Company will reimburse the Underwriters, or such Underwriters as have so terminated this Agreement with respect to themselves, for all out-of-pocket expenses (such as printing, facsimile, courier service, direct computer expenses, accommodations and travel) and expenses related to any other advisors, accountants, appraisers, etc. reasonably incurred by such Underwriters in connection with this Agreement or the transactions contemplated herein but excluding the fees and disbursements of Underwriter’s counsel if the Company enters into a subsequent agreement for the purchase and sale of its securities in a public or private offering before the six month anniversary of the termination of the Engagement Letter described below in which the Representative is not the lead book running manager on substantially the terms contemplated by this Agreement; provided however, that nothing in this Section 5(c) shall affect (i) the Company’s obligation to pay the expenses specified in Section 5(a) hereof or (ii) the Company’s obligations and the Representative’s rights pursuant to the Engagement Letter between the Company and the Representative dated as of June 2, 2004.

6. Conditions of the Underwriters’ Obligations :

(a) The obligations of the Underwriters hereunder to purchase Shares on the First Closing Date or on each Option Closing Date, as applicable, are subject to the accuracy of the representations and warranties on the part of the Company hereunder on the date hereof and on the First Closing Date and on each Option Closing Date, as applicable, the performance by the Company and the Partnership of their covenants and

other obligations hereunder and to the satisfaction of the following further conditions at the First Closing Date or on each Option Closing Date, as applicable:

(i) The Company shall furnish to the Representative on the First Closing Date and on each Option Closing Date an opinion or opinions of Baker & McKenzie LLP, counsel for the Company and the Subsidiaries (and the Representative shall have received an additional four originally executed copies of each of such counsel’s legal opinion for each of the several Underwriters), addressed to the Underwriters and dated the First Closing Date and each Option Closing Date, as applicable, and in form and substance satisfactory to Hunton & Williams LLP, counsel for the Underwriters, as to the matters set forth on Exhibit A hereto.

(ii) The Company shall furnish to the Representative on the First Closing Date and on each Option Closing Date an opinion of Venable LLP, special Maryland counsel for the Company (and the Representative shall have received an additional four originally executed copies of each of such counsel’s legal opinion for each of the several Underwriters), addressed to the Underwriters and dated the First Closing Date and each Option Closing Date, as applicable, and in form and substance satisfactory to Hunton & Williams LLP, counsel for the Underwriters, as to the matters set forth on Exhibit B hereto.

(iii) The Representative shall have received from Witt, Mares & Company, PLC, a letter dated as of the date of this Agreement, addressed to the Underwriter, in form and substance satisfactory to the Representative, containing statements to the effect that they are independent accountants with respect to the Company within the meaning of Rule 101 of the AICPA’s Code of Professional Conduct, and statements and information of the type ordinarily included in accountant’s “comfort letters” to underwriters, delivered according to Statement of Auditing Standards No. 72 (or any successor bulletin), with respect to the audited and unaudited financial statements and certain financial information contained in the Registration Statement and the Prospectus and procedures followed (and the Representative shall have received an additional four originally executed copies of such accountants’ letter for each of the several Underwriters);

In the event that the letters referred to above set forth any changes in indebtedness, decreases in total assets or retained earnings or increases in borrowings, it shall be a further condition to the obligations of the Underwriters that (A) such letters shall be accompanied by a written explanation of the Company as to the significance thereof, unless the Representative deems such explanation unnecessary, and (B) such changes, decreases or increases do not, in the sole judgment of the Representative, make it impractical or inadvisable to proceed with the purchase and delivery of the Shares as contemplated by the Registration Statement.

(iv) At the First Closing Date and each Option Closing Date, the Representative shall have received from Witt, Mares & Company, PLC, independent public or certified public accountants for the Company, a letter dated such date, in form and substance satisfactory to the Representative, to the effect that they reaffirm the statements made in the letter furnished by them pursuant to subsection (d) of this Section 6,

except that the specified date referred to therein for the carrying out of procedures shall be no more than three business days prior to the First Closing Date or Option Closing Date, as the case may be (and the Representative shall have received an additional four originally executed copies of such accountants’ letter for each of the several Underwriters).

(v) The Representative shall have received at the First Closing Date and on each Option Closing Date, as applicable, the favorable opinion of Hunton & Williams LLP, dated the First Closing Date or such Option Closing Date, addressed to the Underwriter and in form and substance satisfactory to the Representative.

(vi) No amendment or supplement to the Registration Statement or Prospectus shall have been filed to which the Underwriters shall have reasonably objected in writing.

(vii) (A) no stop order suspending the effectiveness of the Registration Statement or any post-effective amendment to the Registration Statement or any order preventing or suspending the use of any Preliminary Prospectus or Prospectus shall have been issued or be in effect, and no proceedings for such purpose shall have been initiated or threatened, by the Commission, and no suspension of the qualification of the Shares for offering or sale in any jurisdiction, or the initiation or threatening of any proceedings for any of such purposes, shall have occurred; (B) all requests for additional information on the part of the Commission shall have been complied with to the reasonable satisfaction of the Representative; and (C) the Registration Statement and the Prospectus shall not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading.

(viii) the Company shall have filed the Prospectus with the Commission (including the information required by Rule 430A under the Securities Act) in the manner and within the time period required by Rule 424(b) under the Securities Act; or the Company shall have filed a post-effective amendment to the Registration Statement containing the information required by such Rule 430A, and such post-effective amendment shall have become effective; or, if the Company elected to rely upon Rule 434 under the Securities Act and obtained the Representative’s consent thereto, the Company shall have filed a term sheet with the Commission in the manner and within the time period required by such Rule 424(b).

(b) since the time of execution of this Agreement, there shall not have been any Material Adverse Change, and (ii) no transaction shall have been entered into by the Company or any of the Subsidiaries, in each case, that the Representative, in its sole judgment, deems to be a Material Adverse Change that would make it impracticable or inadvisable to proceed with the public offering of the Shares as contemplated by the Registration Statement.

(c) The Shares shall have been approved for listing on the American Stock Exchange subject to official notification of issuance.

(d) The NASD shall not have raised any objection with respect to the fairness and reasonableness of the underwriting terms and arrangements.

(e) The Representative shall have received letter agreements from each executive officer and director of the Company and each person named in the Prospectus as becoming a director of the Company, substantially in the form of Exhibit C attached hereto, and such letter agreements shall be in full force and effect.

(f) The Representative shall have received, a certificate of duly authorized officers of the Company and the Partnership, dated as of the First Closing Date or any Option Closing Date, to the effect that the signers of such certificates have carefully examined the Registration Statement and Prospectus, and any amendment or supplement thereto, and that:

(i) the representations and warranties of the Company and the Partnership in this Agreement are true and correct, as if made on and as of the date hereof, and the Company has complied with all the agreements and satisfied all the conditions on its part to be performed or satisfied at or prior to the date hereof;

(ii) no stop order suspending the effectiveness of the Registration Statement or any post-effective amendment thereto has been issued and no proceedings for that purpose have been instituted or are pending or threatened under the Securities Act;

(iii) when the Registration Statement became effective and at all times subsequent thereto up to the date hereof, the Registration Statement and the Prospectus, and any amendments or supplements thereto contained all material information required to be included therein by the Securities Act or the Exchange Act and the applicable rules and regulations of the Commission thereunder, as the case may be, and in all material respects conformed to the requirements of the Securities Act or the Exchange Act and the applicable rules and regulations of the Commission thereunder, as the case may be; the Registration Statement and the Prospectus, and any amendments or supplements thereto, did not and do not include any untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading; and, since the effective date of the Registration Statement, there has occurred no event required to be set forth in an amendment or supplemented Prospectus which has not been so set forth; and

(iv) subsequent to the respective dates as of which information is given in the Registration Statement and the Prospectus, there has not been (a) any Material Adverse Change, (b) any transaction that is material to the Company and the

Subsidiaries considered as one enterprise, (c) any obligation, direct or contingent, that is material to the Company and the Subsidiaries considered as one enterprise, incurred by the Company or the Subsidiaries, (d) any change in the capitalization of the Company or any Subsidiary that is material to the Company and the Subsidiaries considered as one enterprise, (e) any dividend or distribution of any kind declared, paid or made on the capital stock of the Company or the capital stock, limited liability company membership interests or units of limited partnership interest of any Subsidiary, or (f) any loss or damage (whether or not insured) to the property of the Company or any Subsidiary which has been sustained which had a Material Adverse Effect.

(g) The Representative shall receive, at the First Closing Date and on each Option Closing Date, a certificate of the Secretary of the Company certifying as to (i) the Articles and any amendments thereto, (ii) the Bylaws and any amendments thereto, (iii) resolutions of the Board of Directors of the Company authorizing the execution and delivery of this Agreement, the issuance and sale of the Shares and performance of the Company’s and the Partnership’s other obligations under this Agreement, the Other Transaction Documents and the other offering documents, (iv) the Certificate of Limited Partnership of the Partnership and the Partnership Agreement and any amendments thereto, (v) correspondence with the Commission, (vi) a specimen Common Stock certificate, (vii) the number of Shares of Common Stock authorized and reserved for issuance by the Company and (viii) the minute books of the Company.

(h) On or prior to the date hereof, the Company shall have furnished for review by the Representative such further information, certificates and documents as the Representative may reasonably request.

(i) The Company and the Partnership, as applicable, shall have furnished to the Underwriters such other documents and certificates as to the accuracy and completeness of any statement in the Registration Statement and the Prospectus, the representations, warranties and statements of the Company and the Partnership contained herein and the performance by the Company and the Partnership of their respective covenants contained herein and therein, and the fulfillment of any conditions contained herein or therein, as of the First Closing Date or any Option Closing Date, as the Underwriters may reasonably request.

7. Termination :

The obligations of the several Underwriters hereunder shall be subject to termination in the absolute discretion of the Representative, at any time prior to the First Closing Date or any Option Closing Date, (i) if any of the conditions specified in Section 6 shall not have been fulfilled when and as required by this Agreement to be fulfilled, or (ii) if there has been, in the judgment of the Representative, since the respective dates as of which information is given in the Registration Statement, any Material Adverse Change, or any development involving a prospective Material Adverse Change, or material change in management of the Company or any Subsidiary, whether or not arising in the ordinary course of business, or (iii) if there has occurred any outbreak or significant escalation of national or international hostilities, other national or international calamity or crisis

(including without limitation any terrorist or similar attack), any change in the United States or international financial markets, or any substantial change in United States’ or international economic, political, financial or other conditions, the effect of which on the financial markets of the United States is such as to make it, in the sole judgment of the Representative, impracticable to market the Shares in the manner and on the terms described in the Prospectus or enforce contracts for the sale of the Shares, or (iv) if trading or quotation in any securities of the Company has been suspended by the Commission or by the American Stock Exchange, or if trading generally on the American Stock Exchange, New York Stock Exchange or Nasdaq Stock Market has been suspended (including an automatic halt in trading pursuant to market-decline triggers, other than those in which solely program trading is temporarily halted), or limitations on prices for trading have been fixed, or maximum ranges for prices for securities have been required, by such exchange or the NASD or by order of the Commission or any other governmental authority, or (v) a general banking moratorium shall have been declared by any federal, New York, Virginia or Maryland authorities or (vi) any federal or state statute, regulation, rule or order of any court or other governmental authority has been enacted, published, decreed or otherwise promulgated which, in the opinion of the Representative, materially adversely affects or will materially adversely affect the business or operations of the Company, or (vii) any action has been taken by any federal, state or local government or agency in respect of its monetary or fiscal affairs which, in the opinion of the Representative, has a material adverse effect on the securities markets in the United States, or (viii) the Company shall have sustained a loss by strike, fire, flood, earthquake, accident or other calamity of such character as in the judgment of the Representative may interfere materially with the conduct of the business and operations of the Company regardless of whether or not such loss shall have been insured.

If the Representative elects to terminate this Agreement as provided in this Section 7, the Company and the Underwriters shall be notified promptly by telephone, promptly confirmed by facsimile.

If the sale to the Underwriters of the Shares, as contemplated by this Agreement, is not carried out by the Underwriters for any reason permitted under this Agreement or if such sale is not carried out because the Company shall be unable to comply in all material respects with any of the terms of this Agreement, the Company shall not be under any obligation or liability under this Agreement (except to the extent provided in Sections 5 and 9 hereof) and the Underwriters shall be under no obligation or liability to the Company under this Agreement (except to the extent provided in Section 9 hereof) or to one another hereunder.

8. Increase in Underwriters’ Commitments :

If any Underwriter shall default at the First Closing Date or on a Option Closing Date in its obligation to take up and pay for the Shares to be purchased by it under this Agreement on such date, the Representative shall have the right, within 48 hours after such default, to make arrangements for one or more of the non-defaulting Underwriters, or any other underwriters, to purchase all, but not less than all, of the Shares which such Underwriter shall have agreed but failed to take up and pay for (the “Defaulted Shares”).

Absent the completion of such arrangements within such 48-hour period, (i) if the total number of Defaulted Shares does not exceed 10% of the total number of Shares to be purchased on such date, each non-defaulting Underwriter shall take up and pay for (in addition to the number of Shares which it is otherwise obligated to purchase on such date pursuant to this Agreement) the portion of the total number of Shares agreed to be purchased by the defaulting Underwriter on such date in the proportion that its underwriting obligations hereunder bears to the underwriting obligations of all non-defaulting Underwriters; and (ii) if the total number of Defaulted Shares exceeds 10% of the total number of Shares to be purchased on such date, the Representative may terminate this Agreement by notice to the Company, without liability of any party to any other party except that the provisions of Section 9 hereof shall at all times be effective and shall survive such termination.

Without relieving any defaulting Underwriter from its obligations hereunder, the Company agrees with the non-defaulting Underwriters that it will not sell any Shares hereunder on such date unless all of the Shares to be purchased on such date are purchased on such date by the Underwriters (or by substituted Underwriters selected by the Representative with the approval of the Company or selected by the Company with the approval of the Representative).

If a new Underwriter or Underwriters are substituted for a defaulting Underwriter in accordance with the foregoing provision, the Company or the non-defaulting Underwriters shall have the right to postpone the First Closing Date or the relevant Option Closing Date for a period not exceeding seven business days in order that any necessary changes in the Registration Statement and Prospectus and other documents may be effected.

The term “Underwriter” as used in this Agreement shall refer to and include any Underwriter substituted under this Section 8 with the same effect as if such substituted Underwriter had originally been named in this Agreement.

9. Indemnity and Contribution by the Company, the Partnership and the Underwriters :

(a) The Company and the Partnership, jointly and severally, agree to indemnify, defend and hold harmless each Underwriter, its officers, directors, employees, partners, members, agents and the Representative, and any person who controls any Underwriter within the meaning of Section 15 of the Securities Act or Section 20 of the Exchange Act, from and against any loss, liability, damage, claim (including the reasonable cost of investigation) or expenses, as incurred, which any such Underwriter or controlling person may incur under the Securities Act, the Exchange Act or other applicable federal or state statutory law or regulation (including in settlement of any litigation, if such settlement is effected with the written consent of the Company), insofar as such loss, expense, liability, damage or claim arises out of or is based upon (i) in whole or in part any failure on the part of the Company or the Partnership to perform their obligations hereunder or to comply with any applicable law, rule or regulation relating to the offering of securities being made pursuant to the Prospectus, (ii) any untrue statement

or alleged untrue statement of a material fact contained in the Registration Statement (or in the Registration Statement as amended by any post-effective amendment thereof by the Company, including any information deemed to be a part thereof pursuant to Rule 430A or Rule 434 under the Securities Act), or in the Prospectus (the term Prospectus for the purpose of this Section 9 being deemed to include any Preliminary Prospectus, the Prospectus, as amended or supplemented by the Company, and any prospectus wrapper material distributed to residents of Canada and any other foreign jurisdiction), (iii) any omission or alleged omission to state a material fact required to be stated in any such Registration Statement or Prospectus or necessary to make the statements made therein, in the light of the circumstances under which they were made, not misleading, (iv) any breach of the representations and warranties contained in Section 3 hereof or (v) any act or failure to act or any alleged act or failure to act by any Underwriter in connection with, or relating in any manner to, the Shares or the offering contemplated hereby, and which is included as part of or referred to in any loss, claim, damage, liability or action arising out of or based upon any matter covered by clauses (i), (ii), (iii), or (iv) above, provided that the Company and the Partnership shall not be liable under this clause (v) to the extent that a court of competent jurisdiction shall have determined by a final judgment that such loss, claim, damage, liability or action resulted directly from any such acts or failures to act undertaken or omitted to be taken by such Underwriter through its gross negligence, bad faith or willful misconduct; and to reimburse each Underwriter and each such controlling person for any and all expenses (including the fees and disbursements of counsel chosen by the Representative) as such expenses are reasonably incurred by such Underwriter or such controlling person in connection with investigating, defending, settling, compromising or paying any such loss, claim, damage, liability, expense or action; except insofar as any such loss, expense, liability, damage or claim arises out of or is based upon any untrue statement or alleged untrue statement or omission or alleged omission of a material fact in conformity with information furnished in writing by the Underwriters through the Representative to the Company expressly for use in such Registration Statement or Prospectus; provided, further, that with respect to any Preliminary Prospectus, the foregoing indemnity agreement shall not inure to the benefit of any Underwriter from whom the person asserting any loss, claim, damage, liability or expense purchased Shares, or any person controlling such Underwriter, if copies of the Prospectus were timely delivered to the Underwriter pursuant to Section 1 hereof and a copy of the Prospectus (as then amended or supplemented if the Company shall have furnished any amendments or supplements thereto) was not sent or given by or on behalf of such Underwriter to such person, if required by law so to have been delivered, at or prior to the written confirmation of the sale of the Shares to such person, and if the Prospectus (as so amended or supplemented) would have cured the defect giving rise to such loss, claim, damage, liability or expense. The indemnity agreement set forth in this Section 9(a) shall be in addition to any liability which the Company might otherwise have.

If any action is brought against an Underwriter or controlling person in respect of which indemnity may be sought against the Company or the Partnership pursuant to subsection (a) above, such Underwriter shall promptly notify the Company in writing of the institution of such action, and the Company shall assume the defense of such action, including the employment of counsel and payment of expenses; provided, however, that

any failure or delay to so notify the Company will not relieve the Company of any obligation hereunder, except to the extent that its ability to defend is actually impaired by such failure or delay. Such Underwriter or controlling person shall have the right to employ its own counsel in any such case, but the fees and expenses of such counsel shall be at the expense of such Underwriter or such controlling person unless the employment of such counsel shall have been authorized in writing by the Company or the Partnership in connection with the defense of such action, or the Company or the Partnership shall not have employed counsel to have charge of the defense of such action within a reasonable time or the Company or the Partnership or such person shall have reasonably concluded (based on the advice of counsel) that there may be defenses available to it or them which are different from or additional to those available to the Company or the Partnership (in which case the Company or the Partnership shall not have the right to assume the defense of such action on behalf of the indemnified party or parties), in any of which events such fees and expenses shall be borne by the Company, the Partnership and paid as incurred (it being understood, however, that neither of the Company nor the Partnership shall be liable for the expenses of more than one separate firm of attorneys for the Underwriters or controlling persons in any one action or series of related actions in the same jurisdiction (in addition to local counsel in any such jurisdiction) representing the indemnified parties who are parties to such action).

(b) Each Underwriter agrees, severally and not jointly, to indemnify, defend and hold harmless the Company and the Partnership, the Company’s directors, the Company’s officers that signed the Registration Statement, the Partnership’s partners, and the Company’s and the Partnership’s agents and Representative, and any person who controls the Company within the meaning of Section 15 of the Securities Act or Section 20 of the Exchange Act, from and against any loss, liability, damage, claim (including the reasonable cost of investigation) or expense, as incurred, which, jointly or severally, the Company or the Partnership or any such person may incur under the Securities Act, the Exchange Act or other federal or state statutory law or regulation, or at common law or otherwise (including in settlement of any litigation, if such settlement is effected with the written consent of such Underwriter), but only insofar as such loss, expense, liability, damage or claim arises out of or is based upon any untrue statement or alleged untrue statement of a material fact contained in and in conformity with information furnished in writing by such Underwriter through the Representative to the Company expressly for use in the Registration Statement (or in the Registration Statement as amended by any post-effective amendment thereof by the Company) or the Prospectus; and to reimburse the Company, the Partnership, any such trustee or officer of the Company or controlling person for any legal and other expense reasonably incurred by the Company, the Partnership, any such director or officer of the Company or controlling person in connection with investigating, defending, settling, compromising or paying any such loss, claim, damage, liability, expense or action. The indemnity agreement set forth in this Section 9(b) shall be in addition to any liabilities that such Underwriter may otherwise have. Each of the Company and the Partnership hereby acknowledges that the statements set forth in the third, eleventh and thirteenth paragraphs under the caption “Underwriting” in the Preliminary Prospectus and the Prospectus (to the extent such statements relate to the Underwriters) constitute the only information furnished by or on

behalf of any Underwriter through the Representative to the Company for purposes of Section 3(q) and this Section 9.

If any action is brought against the Company, the Partnership, any such trustee or officer of the Company or any such controlling person in respect of which indemnity may be sought against any Underwriter pursuant to the foregoing paragraph, the Company, the Partnership, such trustee or officer of the Company or such person shall promptly notify the Representative in writing of the institution of such action and the Representative, on behalf of the Underwriters, shall assume the defense of such action, including the employment of counsel and payment of expenses; provided, however, that any failure or delay to notify the Representative will not relieve the Underwriter of any obligation hereunder, except to the extent its ability to defend is actually impaired by such failure or delay. The Company, the Partnership, such director or officer of the Company or such person shall have the right to employ its own counsel in any such case, but the fees and expenses of such counsel shall be at the expense of the Company, the Partnership, such director or officer of the Company or such person unless the employment of such counsel shall have been authorized in writing by the Representative in connection with the defense of such action or the Representative shall not have employed counsel to have charge of the defense of such action within a reasonable time or the Company, the Partnership, such director or officer of the Company or such person shall have reasonably concluded (based on the advice of counsel) that there may be defenses available to it or them which are different from or additional to those available to the Underwriters (in which case the Representative shall not have the right to assume the defense of such action on behalf of the indemnified party or parties), in any of which events such fees and expenses shall be borne by such Underwriter and paid as incurred (it being understood, however, that the Underwriters shall not be liable for the expenses of more than one separate firm of attorneys in any one action or series of related actions in the same jurisdiction (in addition to local counsel in any such jurisdiction) representing the indemnified parties who are parties to such action).

(c) The indemnifying party under this Section 9 shall not be liable for any settlement of any proceeding effected without its written consent, but if settled with such consent or if there be a final judgment for the plaintiff, the indemnifying party agrees to indemnify the indemnified party against any loss, claim, damage, liability or expense by reason of such settlement or judgment. No indemnifying party shall, without the prior written consent of the indemnified party, effect any settlement, compromise or consent to the entry of judgment in any pending or threatened action, suit or proceeding in respect of which any indemnified party is or could have been a party and indemnity was or could have been sought hereunder by such indemnified party, unless such settlement, compromise or consent includes an unconditional release of such indemnified party from all liability on claims that are the subject matter of such action, suit or proceeding.

(d) If the indemnification provided for in this Section 9 is unavailable or insufficient to hold harmless an indemnified party under this Section 9 in respect of any losses, expenses, liabilities, damages or claims referred to therein, then each applicable indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the

aggregate amount paid or payable by such indemnified party as a result of such losses, expenses, liabilities, damages or claims (i) in such proportion as is appropriate to reflect the relative benefits received by the Company and the Partnership, on the one hand, and the Underwriters, on the other hand, from the offering of the Shares pursuant to this Agreement or (ii) if (but only if) the allocation provided by clause (i) above is not permitted by applicable law, in such proportion as is appropriate to reflect not only the relative benefits referred to in clause (i) above but also the relative fault of the Company and the Partnership, on the one hand, and of the Underwriters, on the other hand, in connection with the statements or omissions which resulted in such losses, expenses, liabilities, damages or claims, as well as any other relevant equitable considerations. The relative benefits received by the Company and the Partnership, on the one hand, and the Underwriters, on the other hand, in connection with the offering of the Shares pursuant to this Agreement shall be deemed to be in the same proportion as the total proceeds from the offering (net of the underwriting discount but before deducting expenses) received by the Company (which, for purposes of this subsection, account for the relative benefits received by the Partnership) bear to the underwriting discount received by the Underwriters. The relative fault of the Company, the Partnership and the Underwriters shall be determined by reference to, among other things, whether the untrue statement or alleged untrue statement of a material fact or omission or alleged omission or any such inaccurate or alleged inaccurate representation or warranty relates to information supplied by the Company and the Partnership, on one hand, or by the Underwriters, on the other hand, and the parties’ relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The amount paid or payable by a party as a result of the losses, claims, damages and liabilities referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by a party in connection with investigating or defending any claim or action. The provisions set forth in Sections 9(b) and (c) with respect to notice of commencement of any action shall apply if a claim for contribution is to be made under this Section 9(d); provided, however, that no additional notice shall be required with respect to any action for which notice has been given under Sections 9(b) and 9(c) for purposes of indemnification.

(e) The Company, the Partnership and the Underwriters agree that it would not be just and equitable if contribution pursuant to this Section 9 were determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation which does not take account of the equitable considerations referred to in subsection (d)(i) and, if applicable (ii), above. Notwithstanding the provisions of this Section 9, no Underwriter shall be required to contribute any amount in excess of the underwriting discount applicable to the Shares purchased by such Underwriter. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The Underwriters’ obligations to contribute pursuant to this Section 9 are several in proportion to their respective underwriting commitments and not joint. For purposes of this Section 9, each officer and employee of an Underwriter and each person, if any, who controls an Underwriter within the meaning of the Section 15 of the Securities Act and Section 20 of

the Exchange Act shall have the same rights to contribution as such Underwriter, and each director of the Company, each officer of the Company who signed the Registration Statement, and each person, if any, who controls the Company or any Selling Shareholder with the meaning of Section 15 of the Securities Act and Section 20 of the Exchange Act shall have the same rights to contribution as the Company.

10. Survival :

The respective indemnities, agreements, representations, warranties and other statements of the Company, of the Partnership, their respective officers and trustees and of the several Underwriters set forth in or made pursuant to this Agreement will remain in full force and effect, regardless of any investigation made by or on behalf of any Underwriter, the Company, the Partnership or any of its or their partners, officers, directors, trustees or any controlling person, as the case may be, and will survive delivery of and payment for the Shares sold hereunder and any termination of this Agreement.

11. Notices :

Except as otherwise herein provided, all statements, requests, notices and agreements shall be in writing or by facsimile or telegram and, if to the Underwriters, shall be sufficient in all respects if delivered to BB&T Capital Markets, a division of Scott & Stringfellow, Inc., 909 East Main Street, Richmond, Virginia 23218, Attention: Richard G. Backus II, Managing Director, with a copy to Hunton & Williams LLP, Riverfront Plaza, East Tower, 951 East Byrd Street, Richmond, Virginia 23219, Attention: David C. Wright, Esquire; if to the Company, shall be sufficient in all respects if delivered to the Company at the offices of the Company at 814 Capitol Landing Road, Williamsburg, Virginia 23185, Attention: Andrew M. Sims, with a copy to Baker & McKenzie LLP, 815 Connecticut Avenue, NW, Washington, DC 20006, Attention: Thomas J. Egan, Jr., Esquire.

12. Governing Law; Venue; Jurisdiction :

THIS AGREEMENT SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE COMMONWEALTH OF VIRGINIA, AS APPLIED TO CONTRACTS MADE AND PERFORMED WITHIN THE COMMONWEALTH OF VIRGINIA, WITHOUT REGARD TO PRINCIPLES OF CONFLICTS OF LAW. EACH OF THE PARTIES HERETO HEREBY IRREVOCABLY SUBMITS TO THE JURISDICTION OF ANY STATE COURT IN THE COMMONWEALTH OF VIRGINIA OR ANY FEDERAL COURT SITTING IN VIRGINIA IN RESPECT OF ANY SUIT, ACTION OR PROCEEDING ARISING OUT OF OR RELATING TO THIS AGREEMENT, AND IRREVOCABLY ACCEPTS FOR ITSELF AND IN RESPECT OF ITS PROPERTY, GENERALLY AND UNCONDITIONALLY, THE JURISDICTION OF THE AFORESAID COURTS. EACH OF THE PARTIES HERETO IRREVOCABLY WAIVES, TO THE FULLEST EXTENT IT MAY EFFECTIVELY DO SO UNDER APPLICABLE LAW, ANY OBJECTION THAT IT MAY NOW OR THEREAFTER HAVE TO THE LAYING OF VENUE OF

ANY SUCH SUIT, ACTION OR PROCEEDING BROUGHT IN ANY SUCH COURT AND ANY CLAIM THAT ANY SUCH SUIT, ACTION OR PROCEEDING BROUGHT IN ANY SUCH COURT HAS BEEN BROUGHT IN AN INCONVENIENT FORUM.

13. Waiver of Jury Trial :

EACH OF THE PARTIES TO THIS AGREEMENT HEREBY IRREVOCABLY WAIVES ALL RIGHT TO TRIAL BY JURY IN ANY ACTION, PROCEEDING OR COUNTERCLAIM ARISING OUT OF OR RELATING TO THIS AGREEMENT, ANY OF THE OTHER UNDERWRITING DOCUMENTS OR TRANSACTIONS CONTEMPLATED HEREBY AND THEREBY.

14. Headings :

The section headings in this Agreement have been inserted as a matter of convenience of reference and are not a part of this Agreement.

15. Partial Unenforceability :

The invalidity or unenforceability of any Section, paragraph or provision of this Agreement shall not affect the validity or enforceability of any other Section, paragraph or provision hereof. If any Section, paragraph or provision of this Agreement is for any reason determined to be invalid or unenforceable, there shall be deemed to be made such minor changes (and only such minor changes) as are necessary to make it valid and enforceable.

16. Parties at Interest :

The Agreement herein set forth has been and is made solely for the benefit of the Underwriters, the Company and the Partnership and the controlling persons, directors and officers referred to in Section 9 hereof, and their respective successors, assigns, executors and administrators. No other person, partnership, association or corporation (including a purchaser, as such purchaser, from any of the Underwriters) shall acquire or have any right under or by virtue of this Agreement.

17. Entire Agreement; Amendments, Modifications and Waivers :

This Agreement constitutes the entire agreement of the parties to this Agreement and supersedes all prior written or oral and all contemporaneous oral agreements, understandings and negotiations with respect to the subject matter hereof. This Agreement may not be amended or modified unless in writing by all of the parties hereto, and no condition herein (express or implied) may be waived unless waived in writing by each party whom the condition is meant to benefit.

18. Counterparts and Facsimile Signatures :

This Agreement may be signed by the parties in counterparts which together shall constitute one and the same agreement among the parties. A facsimile signature shall constitute an original signature for all purposes.

[Next page is signature page]

If the foregoing correctly sets forth the understanding among the Company, the Partnership and the Underwriters, please so indicate in the space provided below for the purpose, whereupon this Agreement shall constitute a binding agreement among the Company, the Partnership and the Underwriters.


Very truly yours,

MHI HOSPITALITY CORPORATION

By:
Name:		Andrew M. Sims
Title:		President and Chief Executive Officer


MHI HOSPITALITY, L.P.

By:		MHI Hospitality Corporation, its sole general partner

By:
Name:		Andrew M. Sims
Title:		President and Chief Executive Officer

Accepted and agreed to as

of the date first above written:


BB&T CAPITAL MARKETS, a division of Scott & Stringfellow, Inc., as representative of the several Underwriters

By:
Name:		Richard G. Backus II
Title:		Managing Director

Schedule I


Underwriter		Number of Initial Shares to be Purchased
BB&T Capital Markets, a division of Scott & Stringfellow, Inc
Ferris, Baker Watts, Incorporated
J.J.B. Hilliard, W.L. Lyons, Inc
Flagstone Securities, LLC

Total

I-1

Schedule II

Subsidiaries

MHI Hospitality, L.P.

MHI Hospitality TRS, LLC

MHI Hospitality TRS Holding, Inc.

MHI GP LLC

Laurel Hotel Associates LLC

Philadelphia Hotel Associates LP

Capitol Hotels Associates L.P., L.L.P.

Savannah Hotel Associates LLC

Brownestone Partners LLC

II-1

Exhibit 3.2

MHI HOSPITALITY CORPORATION

AMENDED AND RESTATED BYLAWS

ARTICLE I

OFFICES

Section 1. PRINCIPAL OFFICE . The principal office of MHI Hospitality Corporation (the “Corporation”) in the State of Maryland shall be located at such place as the Board of Directors may designate.

Section 2. ADDITIONAL OFFICES . The Corporation may have additional offices, including a principal executive office, at such places as the Board of Directors may from time to time determine or the business of the Corporation may require.

ARTICLE II

MEETINGS OF STOCKHOLDERS

Section 1. PLACE . All meetings of stockholders shall be held at the principal executive office of the Corporation or at such other place as shall be set by the Board of Directors and stated in the notice of the meeting.

Section 2. ANNUAL MEETING . An annual meeting of the stockholders for the election of Directors and the transaction of any business within the powers of the Corporation shall be held on a date and at the time set by the Board of Directors.

Section 3. SPECIAL MEETINGS .

(a) General . The chairman of the Board of Directors, the president, the chief executive officer or a majority of the Board of Directors may call a special meeting of the stockholders. Subject to subsection (b) of this Section 3, a special meeting of stockholders shall also be called by the secretary of the Corporation upon the written request of the stockholders entitled to cast not less than a majority of all the votes entitled to be cast at such meeting. Except as provided in paragraph (4) of Section 3(b), any special meeting shall be held at such place, date and time as may be designated by the president, chief executive officer or Board of Directors, whoever has called the meeting. In fixing a date for any special meeting, the president, chief executive officer or Board of Directors may consider such factors as he, she or it deems relevant within the good faith exercise of business judgment, including, without limitation, the nature of the matters to be considered, the facts and circumstances surrounding any request for a meeting and any plan of the Board of Directors to call an annual meeting or a special meeting.

(b) Stockholder Requested Special Meetings . (1) Any stockholder of record seeking to have stockholders request a special meeting shall, by sending written notice to the secretary of the Corporation (the “Record Date Request Notice”) by registered mail, return receipt requested, request the Board of Directors to fix a record date to determine the stockholders entitled to request a special meeting (the “Request Record Date”). The Record Date Request Notice shall set forth in reasonable detail the purpose of the meeting and the matters proposed to be acted on at it, shall be signed by one or more stockholders of record as of the date of signature (or their agents duly authorized in writing), shall bear the date of signature of each such stockholder (or such agent) and shall set forth all information relating to each such stockholder that must be disclosed in solicitations of proxies for election of Directors in an election contest (even if an election contest is not involved), or is otherwise required, in each case pursuant to Regulation 14A (or any successor provision) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and the rules promulgated thereunder. Upon receiving the Record Date Request Notice, the Board of Directors may fix a Request Record Date. The Request Record Date shall not precede, and shall not be more than, ten days after the close of business on the date on which the resolution fixing the Request Record Date is adopted by the Board of Directors. If the Board of Directors, within ten days after the date on which a valid Record Date Request Notice is received, fails to adopt a resolution fixing the Request Record Date and make a public announcement of such Request Record Date, the Request Record Date shall be the close of business on the tenth day after the first date on which the Record Date Request Notice is received by the secretary.

(2) In order for any stockholder to request a special meeting, one or more written requests for a special meeting signed by stockholders of record (or their agents duly authorized in a writing accompanying the request) as of the Request Record Date entitled to cast not less than a majority (the “Special Meeting Percentage”) of all of the votes entitled to be cast at such meeting (the “Special Meeting Request”) shall be delivered to the secretary. In addition, the Special Meeting Request (a) shall set forth in reasonable detail the purpose of the meeting and the matters proposed to be acted on at it (which shall be limited to the matters set forth in the Record Date Request Notice received by the secretary), (b) shall bear the date of signature of each such stockholder (or such agent) signing the Special Meeting Request, (c) shall set forth the name and address, as they appear in the Corporation’s books, of each stockholder signing such request (or on whose behalf the Special Meeting Request is signed), the class, series and number of all shares of stock of the Corporation which are owned by each such stockholder and the name and address of the nominee holder for, and class, series and number of, shares owned by such stockholder beneficially but not of record, (d) shall be sent to the secretary by registered mail, return receipt requested, and (e) shall be received by the secretary within sixty (60) days after the Request Record Date. Any requesting stockholder (or agent duly authorized in a writing accompanying the revocation for the Special Meeting Request) may revoke his, her or its request for a special meeting at any time by written revocation delivered to the secretary.

(3) The requesting stockholders shall pay all costs of preparing and mailing the notice of meeting (including the Corporation’s proxy materials) and any other

notices required under these Bylaws. The secretary shall inform the requesting stockholders of the estimation of such costs. The secretary shall not be required to call a special meeting upon stockholder request and such meeting shall not be held unless, in addition to the documents required by paragraph (2) of this Section 3(b), the secretary receives payment from such requesting stockholder of such reasonably estimated cost prior to the preparation, printing and mailing of any notice of the meeting.

(4) In the case of any special meeting called by the secretary upon the request of stockholders (a “Stockholder Requested Meeting”), such meeting shall be held at such place, date and time as may be designated by the Board of Directors; provided , however , that the date of any Stockholder Requested Meeting shall be not more than ninety (90) days after the record date for such meeting (the “Meeting Record Date”); and provided further that if the Board of Directors fails to designate, within ten (10) days after the date that a valid Special Meeting Request is actually received by the secretary (the “Delivery Date”), a date and time for a Stockholder Requested Meeting, then such meeting shall be held at 2:00 p.m. local time on the ninetieth (90 ^th ) day after the Meeting Record Date or, if such ninetieth (90 ^th ) day is not a Business Day (as defined below), on the first preceding Business Day (as defined below); and provided further that in the event that the Board of Directors fails to designate a place for a Stockholder Requested Meeting within ten (10) days after the Delivery Date, then such meeting shall be held at the principal executive offices of the Corporation. In the case of any Stockholder Requested Meeting, if the Board of Directors fails to fix a Meeting Record Date that is a date within thirty (30) days after the Delivery Date, then the close of business on the thirtieth (30 ^th ) day after the Delivery Date shall be the Meeting Record Date. The Board of Directors may revoke the notice for any Shareholder Requested Meeting in the event that the requesting stockholders fail to comply with the provisions of paragraph (3) of this Section 3(b).

(5) If written revocations of requests for the special meeting have been delivered to the secretary and the result is that stockholders of record (or their agents duly authorized in writing), as of the Request Record Date, entitled to cast less than the Special Meeting Percentage have delivered, and not revoked, requests for a special meeting to the secretary, the secretary shall: (i) if the notice of meeting has not already been mailed, refrain from mailing the notice of the meeting and send to all requesting stockholders who have not revoked such requests written notice of any revocation of a request for the special meeting., or (ii) if the notice of meeting has been mailed and if the secretary first sends to all requesting stockholders who have not revoked requests for a special meeting written notice of any revocation of a request for the special meeting and written notice of the secretary’s intention to revoke the notice of the meeting, revoke the notice of the meeting at any time before ten days before the commencement of the meeting. Any request for a special meeting received after a revocation by the secretary of a notice of a meeting shall be considered a request for a new special meeting.

(6) The chairman of the Board of Directors, the chief executive officer, the president or the Board of Directors may appoint regionally or nationally recognized independent inspectors of elections (who may be the transfer agent for shares of the

Corporation, or an affiliate thereof) to act as the agent of the Corporation for the purpose of promptly performing a ministerial review of the validity of any purported Special Meeting Request received by the secretary. For the purpose of permitting the inspectors to perform such review, no such purported Special Meeting Request shall be deemed to have been delivered to the secretary until the earlier of (i) ten (10) Business Days after receipt by the secretary of such purported Special Meeting Request and (ii) such date as the independent inspectors certify to the Corporation that the valid Special Meeting Requests received by the secretary represent as of the Request Record Date at least a majority of the votes entitled to be cast at such meeting. Nothing contained in this paragraph (6) shall in any way be construed to suggest or imply that the Corporation or any stockholder shall not be entitled to contest the validity of any request, whether during or after such ten (10) Business Day period, or to take any other action (including, without limitation, the commencement, prosecution or defense of any litigation with respect thereto, and the seeking of injunctive relief in such litigation).

(7) For purposes of these Bylaws, “Business Day” shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in New York City are authorized or obligated by law, regulation or executive order to close.

(8) Unless requested by the stockholders entitled to cast a majority of all the votes entitled to be cast at such meeting, no Stockholder Requested Meeting shall be called to consider any matter which is substantially the same as a matter voted on at any meeting of stockholders held during the preceding twelve (12) months.

Section 4. NOTICE . Not less than ten (10) nor more than ninety (90) days before each meeting of stockholders, the secretary shall give to each stockholder entitled to vote at such meeting and to each stockholder not entitled to vote who is entitled to notice of the meeting written or printed notice stating the time and place of the meeting and, in the case of a special meeting or as otherwise may be required by law, the purpose for which the meeting is called, either by mail, by presenting it to such stockholder personally, by leaving it at the stockholder’s residence or usual place of business or by any other means permitted by Maryland law. If mailed, such notice shall be deemed to be given when deposited in the United States mail addressed to the stockholder at the stockholder’s address as it appears on the records of the Corporation, with postage thereon prepaid.

Subject to Section 11(a) of this Article II, any business of the Corporation may be transacted at an annual meeting of stockholders without being specifically designated in the notice, except such business as is required by any statute to be stated in such notice. No business shall be transacted at a special meeting of stockholders except as specifically designated in the notice.

Section 5. ORGANIZATION AND CONDUCT . Every meeting of stockholders shall be conducted by an individual appointed by the Board of Directors to be chairman of the meeting or, in the absence of such appointment, by the chairman of the Board of Directors or, in the case of a vacancy in the office or absence of the

chairman of the Board of Directors, by one of the following officers present at the meeting: the vice chairman of the Board of Directors, if there be one, the president, the vice presidents in their order of rank and seniority, or, in the absence of such officers, a chairman chosen by the stockholders by the vote of a majority of the votes cast by stockholders present in person or by proxy. The secretary, or, in the secretary’s absence, an assistant secretary, or in the absence of both the secretary and assistant secretaries, an individual appointed by the Board of Directors or, in the absence of such appointment, an individual appointed by the chairman of the meeting shall act as secretary. In the event that the secretary presides at a meeting of the stockholders, an assistant secretary, or in the absence of assistant secretaries, an individual appointed by the Board of Directors or, in the absence of such appointments the chairman of the meeting, shall record the minutes of the meeting. The order of business and all other matters of procedure at any meeting of stockholders shall be determined by the chairman of the meeting. The chairman of the meeting may prescribe such rules, regulations and procedures and take such action as, in the discretion of such chairman, are appropriate for the proper conduct of the meeting, including, without limitation, (a) restricting admission to the time set for the commencement of the meeting; (b) limiting attendance at the meeting to stockholders of record of the Corporation, their duly authorized proxies or other such individuals as the chairman of the meeting may determine; (c) limiting participation at the meeting on any matter to stockholders of record of the Corporation entitled to vote on such matter, their duly authorized proxies or other such individuals as the chairman of the meeting may determine; (d) limiting the time allotted to questions or comments by participants; (e) determining when the polls should be opened and closed; (f) maintaining order and security at the meeting; (g) removing any stockholder or any other individual who refuses to comply with meeting procedures, rules or guidelines as set forth by the chairman of the meeting; and (h) recessing or adjourning the meeting to a later date and time and place announced at the meeting. Unless otherwise determined by the chairman of the meeting, meetings of stockholders shall not be required to be held in accordance with the rules of parliamentary procedure.

Section 6. QUORUM . At any meeting of stockholders, the presence in person or by proxy of stockholders entitled to cast a majority of all the votes entitled to be cast at such meeting shall constitute a quorum; but this section shall not affect any requirement under any statute or the Articles of Incorporation (the “Charter”) of the Corporation for the vote necessary for the adoption of any measure. If, however, such quorum shall not be present at any meeting of the stockholders, the chairman of the meeting shall have the power to adjourn the meeting from time to time to a date not more than one hundred twenty (120) days after the original record date without notice other than announcement at the meeting. At such adjourned meeting at which a quorum shall be present, any business may be transacted which might have been transacted at the meeting as originally notified.

The stockholders present either in person or by proxy, at a meeting which has been duly called and convened, may continue to transact business until adjournment, notwithstanding the withdrawal of enough stockholders to leave less than a quorum.

Section 7. VOTING . A plurality of all the votes cast at a meeting of stockholders duly called and at which a quorum is present shall be sufficient to elect a director. Each share may be voted for as many individuals as there are Directors to be elected and for whose election the share is entitled to be voted. A majority of the votes cast at a meeting of stockholders duly called and at which a quorum is present shall be sufficient to approve any other matter which may properly come before the meeting, unless more than a majority of the votes cast is required by statute or by the Charter of the Corporation. Unless otherwise provided in the Charter, each outstanding share of stock, regardless of class, shall be entitled to one vote on each matter submitted to a vote at a meeting of stockholders.

Section 8. PROXIES . A stockholder may cast the votes entitled to be cast by the shares of stock owned of record by the stockholder in person or by proxy executed by the stockholder or by the stockholder’s duly authorized agent in any manner permitted by law. Such proxy or evidence of authorization of such proxy shall be filed with the secretary of the Corporation before or at the meeting. No proxy shall be valid more than eleven months after its date, unless otherwise provided in the proxy.

Section 9. VOTING OF SHARES BY CERTAIN HOLDERS . Shares of stock of the Corporation registered in the name of a corporation, partnership, trust or other entity, if entitled to be voted, may be voted by the chief executive officer, president or a vice president, a general partner or trustee thereof, as the case may be, or a proxy appointed by any of the foregoing individuals, unless some other person who has been appointed to vote such shares pursuant to a bylaw or a resolution of the governing body of such corporation or other entity or agreement of the partners of a partnership presents a certified copy of such bylaw, resolution or agreement, in which case such person may vote such shares. Any fiduciary may vote shares of stock registered in his or her name as such fiduciary, either in person or by proxy.

Shares of stock of the Corporation directly or indirectly owned by it shall not be voted at any meeting and shall not be counted in determining the total number of outstanding shares entitled to be voted at any given time, unless they are held by it in a fiduciary capacity, in which case they may be voted and shall be counted in determining the total number of outstanding shares at any given time.

The Board of Directors may adopt by resolution a procedure by which a stockholder may certify in writing to the Corporation that any shares of stock registered in the name of the stockholder are held for the account of a specified person other than the stockholder. The resolution shall set forth the class of stockholders who may make the certification, the purpose for which the certification may be made, the form of certification and the information to be contained in it; if the certification is with respect to a record date, the time after the record date within which the certification must be received by the Corporation; and any other provisions with respect to the procedure which the Board of Directors considers necessary or desirable. On receipt of such certification, the person specified in the certification shall be regarded as, for the purposes set forth in the

certification, the stockholder of record of the specified shares of stock in place of the stockholder who makes the certification.

Section 10. INSPECTORS . The Board of Directors, in advance of any meeting, may, but need not, appoint one or more individual inspectors or one or more entities that designate individuals as inspectors to act at the meeting or any adjournment thereof. If an inspector or inspectors are not appointed, the individual presiding at the meeting may, but need not, appoint one or more inspectors. In case any person who may be appointed as an inspector fails to appear or act, the vacancy may be filled by appointment made by the Board of Directors in advance of the meeting or at the meeting by the chairman of the meeting. The inspectors, if any, shall determine the number of shares outstanding and the voting power of each, the shares represented at the meeting, the existence of a quorum, the validity and effect of proxies, and shall receive votes, ballots or consents, hear and determine all challenges and questions arising in connection with the right to vote, count and tabulate all votes, ballots or consents, determine the result, and do such acts as are proper to conduct the election or vote with fairness to all stockholders. Each such report shall be in writing and signed by him or her or by a majority of them if there is more than one inspector acting at such meeting. If there is more than one inspector, the report of a majority shall be the report of the inspectors. The report of the inspector or inspectors on the number of shares represented at the meeting and the results of the voting shall be prima facie evidence thereof.

Section 11. ADVANCE NOTICE OF STOCKHOLDER NOMINEES FOR DIRECTOR AND OTHER PROPOSALS BY STOCKHOLDERS .

(a) Annual Meetings of Stockholders . (1) Nominations of individuals for election to the Board of Directors and the proposal of business to be considered by the stockholders may be made at an annual meeting of stockholders (i) pursuant to the Corporation’s notice of meeting, (ii) by or at the direction of the Board of Directors or (iii) by any stockholder of the Corporation who was a stockholder of record both at the time of giving of notice by the stockholder provided for in this Section 11(a) and at the time of the annual meeting, who is entitled to vote at the meeting and who complied with this Section 11(a).

(2) For nominations for election to the Board of Directors or other business to be properly brought before an annual meeting by a stockholder pursuant to clause (iii) of paragraph (a)(1) of this Section 11, the stockholder must have given timely notice thereof in writing to the secretary of the Corporation and shall set forth in such notice all information required under this Section 11 and such other business shall otherwise be a proper matter for action by stockholders. To be timely, a stockholder’s notice shall set forth all information required under this Section 11 and shall be delivered to the secretary at the principal executive office of the Corporation not later than 5:00 pm, Eastern Time, on the ninetieth (90 ^th ) day prior to the first (1 ^st ) anniversary of the date of mailing of the notice for the preceding year’s annual meeting of stockholders nor earlier than 5:00 pm, Eastern Time, on the one hundred twentieth (120 ^th ) day prior to the first (1 ^st ) anniversary of the date of mailing of the notice for the preceding year’s annual

meeting of stockholders; provided, however, that in the event that the date of the mailing of the notice for the annual meeting of stockholders is advanced or delayed by more than thirty (30) days from the first (1 ^st ) anniversary of the date of the preceding year’s annual meeting of stockholders, notice by the stockholder to be timely must be so delivered not earlier than 5:00 pm, Eastern Time, on the one hundred twentieth (120 ^th ) day prior to the date of mailing of the notice for such annual meeting of stockholders and not later than 5:00 pm, Eastern Time, on the later of the ninetieth (90 ^th ) day prior to the date of mailing of the notice for such annual meeting of stockholders or the tenth (10 ^th ) day following the day on which public announcement of the date of the annual meeting of stockholders is first made by the Corporation. In no event shall the public announcement of a postponement of an annual meeting of stockholders to a later date or time commence a new time period for the giving of a stockholder’s notice as described above. Such stockholder’s notice shall set forth (i) as to each individual whom the stockholder proposes to nominate for election or reelection as a director (A) the name, age, business address and residence address of such person, (B) the class, series and number of shares of stock of the Corporation that are beneficially owned by such individual, (C) the date such shares were acquired and the investment intent of such acquisition and (D) all other information relating to such person that is required to be disclosed in solicitations of proxies for election of Directors in an election contest (even if an election contest is not involved), or is otherwise required, in each case pursuant to Regulation 14A (or any successor provision) under the Exchange Act and the rules promulgated thereunder (including such individual’s written consent to being named in the proxy statement as a nominee and to serving as a director if elected); (ii) as to any other business that the stockholder proposes to bring before the meeting, a description in reasonable detail of the business desired to be brought before the meeting, the complete text of any resolutions intended to be presented at the annual meeting, the reasons for proposing such business at the meeting and any material interest in such business of such stockholder and any Stockholder Associated Person (as defined below), individually or in the aggregate, including any anticipated benefit to the stockholder and the Stockholder Associated Person therefrom, (iii) as to the stockholder giving the notice and Stockholder Associated Person, the class, series and number of all shares of stock of the Corporation which are owned by such stockholder and by such Stockholder Associated Person, if any, and the nominee holder for, and number of, shares owned beneficially but not of record by such stockholder and by any such Stockholder Associated Person; (iv) as to the stockholder giving the notice and any Stockholder Associated Person covered by clauses (ii) or (iii) of this paragraph (2) of this Section 11(a), the name and address of such stockholder as they appear on the Corporation’s stock ledger and current name and address, if different, and of such Stockholder Associated Person; (v) a representation that the stockholder giving the notice intends to appear at the meeting in person or by proxy to submit the business specified in such notice; (vi) to the extent known by the stockholder giving the notice, the name and address of any other stockholder supporting the nominee for election or reelection as a director or the proposal of other business on the date of such stockholder’s notice; and (vii) all other information relating to the nomination or proposed business which may be required to be disclosed under applicable law. In addition, a stockholder seeking to submit such nominations or business at the meeting shall promptly provide any other information reasonably requested by the Corporation.

(3) Notwithstanding anything in this subsection(a) of this Section 11 to the contrary, in the event the Board of Directors increases or decreases the maximum or minimum number of directors in accordance with Article III, Section 2 of these Bylaws, and there is no public announcement of such action at least one hundred (100) days prior to the first (1 ^st ) anniversary of the date of mailing of the notice of the preceding year’s annual meeting of stockholders, a stockholder’s notice required by this Section 11(a) shall also be considered timely, but only with respect to nominees for any new positions created by such increase, if the notice is delivered to the secretary at the principal executive offices of the Corporation not later than 5:00 pm, Eastern Time, on the tenth (10 ^th ) day immediately following the day on which such public announcement is first made by the Corporation.

(4) For purposes of this Section 11, “Stockholder Associated Person” of any stockholder shall mean (i) any person controlling, directly or indirectly, or acting in concert with, such stockholder, (ii) any beneficial owner of shares of stock of the Corporation owned of record or beneficially by such stockholder and (iii) any person controlling, controlled by or under common control with such Stockholder Associated Person.

(b) Special Meetings of Stockholders . Only such business shall be conducted at a special meeting of stockholders as shall have been brought before the meeting pursuant to the Corporation’s notice of meeting. Nominations of individuals for election to the Board of Directors may be made at a special meeting of stockholders at which Directors are to be elected (i) pursuant to the Corporation’s notice of meeting, (ii) by or at the direction of the Board of Directors or (iii) provided that the Board of Directors has determined that Directors shall be elected at such special meeting, by any stockholder of the Corporation who is a stockholder of record both at the time of giving of notice by the stockholders provided for in this Section 11(b) and at the time of the special meeting, who is entitled to vote at the meeting and who complied with this Section 11(b). In the event the Corporation calls a special meeting of stockholders for the purpose of electing one or more individuals to the Board of Directors, any such stockholder may nominate an individual or individuals (as the case may be) for election as a Director as specified in the Corporation’s notice of meeting, if the stockholder’s notice containing the information required by paragraph (a)(2) of this Section 11 shall be delivered to the secretary at the principal executive offices of the Corporation not earlier than 5:00 pm, Eastern Time, on the one hundred twentieth (120 ^th ) day prior to such special meeting and not later than 5:00 pm, Eastern Time, on the later of the ninetieth (90 ^th ) day prior to such special meeting or the tenth (10 ^th ) day following the day on which public announcement is first made of the date of the special meeting and the nominees proposed by the Board of Directors to be elected at such meeting. In no event shall the public announcement of a postponement or adjournment of a special meeting to a later date or time commence a new time period for the giving of a stockholder’s notice as described above.

(c) General . (1) Upon written consent by the secretary or the Board of Directors or any committee thereof, any stockholder proposing a nominee for election as a director

or any proposal for other business at a meeting of stockholders shall provide, within five (5) Business Days of delivery of such request (or such other period as may be specified in such request), written verification, satisfactory, in the discretion of the Board of Directors or any committee thereof or any authorized officer of the Corporation, to demonstrate the accuracy of any information submitted by the stockholder pursuant to this Section 11. If a stockholder fails to provide such written verification within such period, the information as to which written verification was requested may be deemed not to have been provided in accordance with this Section 11.

(2) Only such individuals who are nominated by stockholders in accordance with the procedures set forth in this Section 11 shall be eligible to serve as Directors, and only such business shall be conducted at a meeting of stockholders as shall have been brought before the meeting in accordance with this Section 11. The chairman of the meeting shall have the power and duty to determine whether a nomination or any other business proposed to be brought before the meeting was made or proposed, as the case may be, in accordance with this Section 11 and, if any proposed nomination or business is not in compliance with this Section 11, to declare that such defective nomination or proposal shall be disregarded.

(3) For purposes of this Section 11, (a) the “date of mailing of the notice” shall mean the date of the proxy statement for the solicitation of proxies for election of Directors and (b) “public announcement” shall mean disclosure (i) in a press release transmitted to the principal securities exchange on which the Corporation’s common shares are traded or reported by a recognized news service or (ii) in a document publicly filed by the Corporation with the United States Securities and Exchange Commission pursuant to the Exchange Act.

(4) Notwithstanding the foregoing provisions of this Section 11, a stockholder shall also comply with all applicable requirements of state law and of the Exchange Act and the rules and regulations thereunder with respect to the matters set forth in this Section 11. Nothing in this Section 11 shall be deemed to affect any right of a stockholder to request inclusion of a proposal in, nor the right of the Corporation to omit a proposal from, the Corporation’s proxy statement pursuant to Rule 14a-8 (or any successor provision) under the Exchange Act. Subject to the foregoing provisions of this Section 11, a resolution or motion shall be considered for vote only if proposed by a stockholder or a duly authorized proxy and seconded by a stockholder or duly authorized proxy other than the individual who proposed the resolution or motion.

Section 12. VOTING BY BALLOT . Voting on any question or in any election may be viva voce unless the presiding officer shall order or any stockholder shall demand that voting be by ballot.

Section 13. WRITTEN CONSENT BY STOCKHOLDERS . Any action required or permitted to be taken at a meeting of stockholders may be taken without a meeting if a consent in writing, setting forth such action, is signed by each stockholder entitled to vote on the matter and any other stockholder entitled to notice of a meeting of

stockholders (but not to vote thereof) has waived in writing any right to dissent from such action, and such consent and waiver are filed with the minutes of proceedings of the stockholders.

Section 14. CONTROL SHARE ACQUISITION ACT . Notwithstanding any other provision of the Charter of the Corporation or these Bylaws, Title 3, Subtitle 7 of the Maryland General Corporation Law (the “MGCL”) (or any successor statute) shall not apply to any acquisition by any person of shares of stock of the Corporation. This section may be repealed, in whole or in part, at any time, whether before or after an acquisition of control shares and, upon such repeal, may, to the extent provided by any successor bylaw, apply to any prior or subsequent control share acquisition.

ARTICLE III

DIRECTORS

Section 1. GENERAL POWERS . The business and affairs of the Corporation shall be managed under the direction of its Board of Directors.

Section 2. NUMBER, TENURE AND QUALIFICATIONS . At any regular meeting or at any special meeting called for that purpose, a majority of the entire Board of Directors may establish, increase or decrease the number of Directors; provided that the number thereof shall never be less than the minimum number required by the MGCL, nor more than fifteen (15); and further provided that the tenure of office of a director shall not be affected by any decrease in the number of directors. In case of failure to elect Directors at an annual meeting of the stockholders, the Directors holding over shall continue to direct the management of the business and affairs of the Corporation until their successors are elected and qualify. A Director shall be an individual at least 21 years of age who is not under legal disability. At least one-half of the Board of Directors shall be Directors whom the Board has determined are “independent” under the standards established by the Board of Directors and in accordance with the then applicable requirements of the American Stock Exchange. One Director shall be the Chief Executive Officer of the Corporation. All nominations, including the nomination of the Chief Executive Officer, to serve as Directors must be submitted through and approved by the Nominating and Corporate Governance Committee and follow the nominating process established by that committee for the nomination of Directors and must satisfy the standards for membership on the Board of Directors approved by that committee from time to time. This Section 2 may not be amended or deleted without the unanimous consent of the Board of Directors.

Section 3. ANNUAL AND REGULAR MEETINGS . An annual meeting of the Board of Directors shall be held immediately after and at the same place as the annual meeting of stockholders, no notice other than this Bylaw being necessary. In the event such meeting is not so held, the meeting may be held at such time and place as shall be specified in a notice given as hereinafter provided for special meetings of the Board of Directors. The Board of Directors may provide, by resolution, the time and place for the

holding of regular meetings of the Board of Directors without other notice than such resolution.

Section 4. SPECIAL MEETINGS . Special meetings of the Board of Directors may be called by or at the request of the chairman of the Board of Directors, the chief executive officer, the president or by a majority of the Directors then in office. The person or persons authorized to call special meetings of the Board of Directors may fix any place as the place for holding any special meeting of the Board of Directors called by them. The Board of Directors may provide, by resolution, the time and place for the holding of special meetings of the Board of Directors without notice other than such resolution.

Section 5. NOTICE . Notice of any special meeting of the Board of Directors shall be delivered personally or by telephone, electronic mail, facsimile transmission, United States mail or courier to each director at his or her business or residence address. Notice by personal delivery, telephone, electronic mail or facsimile transmission shall be given at least twenty four (24) hours prior to the meeting. Notice by United States mail shall be given at least three (3) days prior to the meeting. Notice by courier shall be given at least two (2) days prior to the meeting. Telephone notice shall be deemed to be given when the director or his or her agent is personally given such notice in a telephone call to which the director or his or her agent is a party. Electronic mail notice shall be deemed to be given upon transmission of the message to the electronic mail address given to the Corporation by the director. Facsimile transmission notice shall be deemed to be given upon completion of the transmission of the message to the number given to the Corporation by the director and receipt of a completed answer-back indicating receipt. Notice by United States mail shall be deemed to be given when deposited in the United States mail properly addressed, with postage thereon prepaid. Notice by courier shall be deemed to be given when deposited with or delivered to a courier properly addressed. Neither the business to be transacted at, nor the purpose of, any annual, regular or special meeting of the Board of Directors need be stated in the notice, unless specifically required by statute or these Bylaws.

Section 6. QUORUM . A majority of the Directors shall constitute a quorum for transaction of business at any meeting of the Board of Directors, provided that, if less than a majority of such Directors are present at said meeting, a majority of the Directors present may adjourn the meeting from time to time without further notice, and provided further that if, pursuant to applicable law, the Charter of the Corporation, or these Bylaws, or the provisions of any applicable committee charter, the vote of a majority of a particular group of Directors is required for action, a quorum must also include a majority of such group.

The Directors present at a meeting which has been duly called and convened may continue to transact business until adjournment, notwithstanding the withdrawal of enough Directors to leave less than a quorum.

Section 7. VOTING . The action of the majority of the Directors present at a meeting at which a quorum is present shall be the action of the Board of Directors, unless the concurrence of a greater proportion is required for such action by applicable law, the Charter or these Bylaws. If enough Directors have withdrawn from a meeting to leave less than a quorum but the meeting is not adjourned, the action of a majority of that number of Directors necessary to constitute a quorum at such meeting shall be the action of the Board of Directors, unless the concurrence of a greater proportion is required for such action by applicable law, the Charter or these Bylaws.

Section 8. ORGANIZATION . At each meeting of the Board of Directors, the chairman of the Board of Directors or, in the absence of the chairman, the vice chairman of the Board of Directors, if any, shall act as chairman of the meeting. In the absence of both the chairman and vice chairman of the Board of Directors, the chief executive officer or in the absence of the chief executive officer, the president or in the absence of the president, a director chosen by a majority of the Directors present, shall act as chairman of the meeting. The secretary or, in his or her absence, an assistant secretary of the Corporation, or in the absence of the secretary and all assistant secretaries, a person appointed by the chairman of the meeting, shall act as secretary of the meeting.

Section 9. TELEPHONE MEETINGS . Directors may participate in a meeting by means of a conference telephone or similar communications equipment if all persons participating in the meeting can hear each other at the same time. Participation in a meeting by these means shall constitute presence in person at the meeting.

Section 10. CONSENT BY DIRECTORS WITHOUT A MEETING . Any action required or permitted to be taken at any meeting of the Board of Directors may be taken without a meeting if a consent in writing or by electronic transmission to such action is given by each director and is filed with the minutes of proceedings of the Board of Directors.

Section 11. VACANCIES . If for any reason any or all the Directors cease to be Directors, such event shall not terminate the Corporation or affect these Bylaws or the powers of the remaining Directors hereunder (even if fewer than three Directors remain). Except as may be provided by the Board of Directors in setting the terms of any class or series of shares of preferred stock, any vacancy on the Board of Directors may be filled only by a majority of the remaining Directors and in accordance with the Director qualifications set forth in Section 2 of this Article III, even if the remaining Directors do not constitute a quorum. Any director elected to fill a vacancy shall serve for the remainder of the full term of the class in which the vacancy occurred and until a successor is elected and qualifies.

Section 12. COMPENSATION . Directors shall not receive any stated salary for their services as Directors, but, by resolution of the Directors, Directors that are not employed by the Corporation may receive compensation per year and/or per meeting and/or per visit to real property or other facilities owned, leased or to be acquired by the Corporation and for any service or activity they performed or engaged in as Directors.

Directors may be reimbursed for expenses of attendance, if any, at each annual, regular or special meeting of the Directors or of any committee thereof and for their expenses, if any, in connection with each property visit and any other service or activity they performed or engaged in as Directors; but nothing herein contained shall be construed to preclude any Directors from serving the Corporation in any other capacity and receiving compensation therefore.

Section 13. REMOVAL OF DIRECTORS . The stockholders may, at any time, remove any Director in the manner provided in the Charter.

Section 14. LOSS OF DEPOSITS . No Director shall be liable for any loss which may occur by reason of the failure of the bank, trust company, savings and loan association, or other institution with whom moneys or shares of stock have been deposited.

Section 15. SURETY BONDS . Unless required by law, no Director shall be obligated to give any bond or surety or other security for the performance of any of his or her duties.

Section 16. RELIANCE . Each Director, officer, employee and agent of the Corporation shall, in the performance of his or her duties with respect to the Corporation, be fully justified and protected with regard to any act or failure to act in reliance in good faith upon the books of account or other records of the Corporation, upon an opinion of counsel or upon reports made to the Corporation by any of its officers or employees or by the adviser, accountants, appraisers or other experts or consultants selected by the Board of Directors or officers of the Corporation, regardless of whether such counsel or expert may also be a Director, unless such Director, officer, employee or agent has any knowledge concerning the matter in question which would cause such reliance to be unwarranted. In addition, Directors may rely on information from others in performing their duties to the extent set forth in Section 2-405 (or any successor provision) of the MGCL.

Section 17. CERTAIN RIGHTS OF DIRECTORS, OFFICERS, EMPLOYEES AND AGENTS . The Directors that are not employed by the Corporation shall have no responsibility to devote their full time to the affairs of the Corporation. Any Director or officer, employee or agent of the Corporation, in his or her personal capacity or in a capacity as an affiliate, employee, or agent of any other person, or otherwise, may have business interests and engage in business activities similar to or in addition to or in competition with those of or relating to the Corporation provided such Director or officer, employee or agent complies with the applicable terms of the then existing conflicts of interest policy of the Corporation.

ARTICLE IV

COMMITTEES

Section 1. NUMBER, TENURE AND QUALIFICATIONS . The Board of Directors may appoint from among its members an Executive Committee, an Audit Committee, a Compensation Committee, a Nominating and Corporate Governance Committee and other committees composed of one or more Directors as required by applicable law or applicable listing standards, to serve at the pleasure of the Board of Directors.

Section 2. POWERS . The Board of Directors may delegate to committees appointed under Section 1 of this Article IV any of the powers of the Board of Directors, except as prohibited by law.

Section 3. MEETINGS . Notice of committee meetings shall be given in the same manner as notice for special meetings of the Board of Directors.

A majority of the members of any committee shall be present in person at any meeting of such committee in order to constitute a quorum for the transaction of business at such meeting, and the act of a majority of the committee members present shall be the act of such committee. The Board of Directors may designate a chairman of any committee, and such chairman or, in the absence of such chairman, any two members of any committee (if there are at least two members of the committee) may fix the time and place of its meeting unless the Board shall otherwise provide. In the absence or disqualification of any member of any such committee, the members thereof present at any meeting and not disqualified from voting, whether or not they constitute a quorum, may appoint another Director to act at the meeting in the place of such absent or disqualified member.

Each committee shall keep minutes of its proceedings and shall report the same to the Board of Directors at the next succeeding meeting, and any action by the committee shall be subject to revision and alteration by the Board of Directors, provided that no rights of third persons shall be affected by any such revision or alteration.

Section 4. TELEPHONE MEETINGS . Members of a committee of the Board of Directors may participate in a meeting by means of a conference telephone or similar communications equipment if all persons participating in the meeting can hear each other at the same time. Participation in a meeting by these means shall constitute presence in person at the meeting.

Section 5. CONSENT BY COMMITTEES WITHOUT A MEETING . Any action required or permitted to be taken at any meeting of a committee of the Board of Directors may be taken without a meeting, if a consent in writing or by electronic transmission to such action is given by each member of the committee and is filed with the minutes of proceedings of such committee.

Section 6. VACANCIES . Subject to the provisions hereof, the Board of Directors shall have the power at any time to change the membership of any committee,

to fill all vacancies, to designate alternate members to replace any absent or disqualified member or to dissolve any such committee.

ARTICLE V

OFFICERS

Section 1. GENERAL PROVISIONS . The officers of the Corporation shall include a president, a secretary and a treasurer and may include a chairman of the Board of Directors, a vice chairman of the Board of Directors, a chief executive officer, one or more vice presidents, a chief operating officer, a chief financial officer, one or more assistant secretaries and one or more assistant treasurers. In addition, the Board of Directors may from time to time elect such other officers with such powers and duties as it shall deem necessary or desirable. The officers of the Corporation shall be elected annually by the Board of Directors, except that the chief executive officer or president may from time to time appoint one or more vice presidents, assistant secretaries, assistant treasurers or other officers. Each officer shall hold office until his or her successor is elected and qualifies or until his or her death, or his or her resignation or removal in the manner hereinafter provided. Any two or more offices except president and vice president may be held by the same person. In its discretion, the Board of Directors may leave unfilled any office. Election of an officer or agent shall not of itself create contract rights between the Corporation and such officer or agent.

Section 2. REMOVAL AND RESIGNATION . Any officer or agent of the Corporation may be removed, with or without cause, by the Board of Directors if in its judgment the best interests of the Corporation would be served thereby, but such removal shall be without prejudice to the contract rights, if any, of the person so removed. Any officer of the Corporation may resign at any time by giving written notice of his or her resignation to the Board of Directors, the chairman of the Board of Directors, the president or the secretary. Any resignation shall take effect immediately upon its receipt or at such later time specified in the notice of resignation. The acceptance of a resignation shall not be necessary to make it effective unless otherwise stated in the resignation. Such resignation shall be without prejudice to the contract rights, if any, of the Corporation.

Section 3. VACANCIES . A vacancy in any office may be filled by the Board of Directors for the balance of the term.

Section 4. CHIEF EXECUTIVE OFFICER . The Board of Directors may designate a chief executive officer. In the absence of such designation, the chairman of the Board of Directors, if any, shall be the chief executive officer of the Corporation. The chief executive officer shall have general responsibility for implementation of the policies of the Corporation, as determined by the Board of Directors, and for the management of the business and affairs of the Corporation. He or she may execute any deed, mortgage, bond, contract or other instrument, except in cases where the execution thereof shall be expressly delegated by the Board of Directors or by these Bylaws to some other officer or agent of the Corporation or shall be required by law to be otherwise

executed; and in general shall perform all duties incident to the office of chief executive officer and such other duties as may be prescribed by the Board of Directors from time to time.

Section 5. CHIEF OPERATING OFFICER . The Board of Directors may designate a chief operating officer. The chief operating officer shall have the responsibilities and duties as set forth by the Board of Directors or the chief executive officer.

Section 6. CHIEF FINANCIAL OFFICER . The Board of Directors may designate a chief financial officer. The chief financial officer shall have the responsibilities and duties as set forth by the Board of Directors or the chief executive officer.

Section 7. CHAIRMAN OF THE BOARD . The Board of Directors may designate a chairman of the Board of Directors. The chairman of the Board of Directors shall preside over the meetings of the Board of Directors and of the stockholders at which he shall be present. The chairman of the Board of Directors shall perform such other duties as may be assigned to him or her by the Board of Directors.

Section 8. VICE CHAIRMAN OF THE BOARD . In the absence of the chairman of the board or in the event of a vacancy in such office, the vice chairman of the board (or in the event there be more than one vice chairman of the board, the vice chairman of the board in the order designated at the time of their election or, in the absence of any designation, then in the order of their election) shall perform the duties of the chairman of the board and when so acting shall have all the powers of and be subject to all the restrictions upon the chairman of the board; and shall perform such other duties as from time to time may be assigned to such vice chairman of the board by the chairman of the board or by the Board of Directors.

Section 9. PRESIDENT . In the absence of a chief executive officer, the president shall in general supervise and control all of the business and affairs of the Corporation. In the absence of a designation of a chief operating officer by the Board of Directors, the president shall be the chief operating officer. He or she may execute any deed, mortgage, bond, contract or other instrument, except in cases where the execution thereof shall be expressly delegated by the Board of Directors or by these Bylaws to some other officer or agent of the Corporation or shall be required by law to be otherwise executed; and in general shall perform all duties incident to the office of president and such other duties as may be prescribed by the Board of Directors from time to time.

Section 10. VICE PRESIDENTS . In the absence of the president or in the event of a vacancy in such office, the vice president (or in the event there be more than one vice president, the vice presidents in the order designated at the time of their election or, in the absence of any designation, then in the order of their election) shall perform the duties of the president and when so acting shall have all the powers of and be subject to all the restrictions upon the president; and shall perform such other duties as from time to

time may be assigned to such vice president by the chief executive officer, president or by the Board of Directors. The Board of Directors may designate one or more vice presidents as executive vice president or as vice president for particular areas of responsibility.

Section 11. SECRETARY . The secretary shall (a) keep the minutes of the proceedings of the stockholders, the Board of Directors and committees of the Board of Directors in one or more books provided for that purpose; (b) see that all notices are duly given in accordance with the provisions of these Bylaws or as required by law; (c) be custodian of the corporate records and of the seal of the Corporation, if any; (d) keep a register of the post office address of each stockholder which shall be furnished to the secretary by such stockholder; (e) have general charge of the stock transfer books of the Corporation; and (f) in general perform such other duties as from time to time may be assigned to him by the chief executive officer, the president or by the Board of Directors.

Section 12. TREASURER . The treasurer shall have the custody of the funds and securities of the Corporation and shall keep full and accurate accounts of receipts and disbursements in books belonging to the Corporation and shall deposit all moneys and other valuable effects in the name and to the credit of the Corporation in such depositories as may be designated by the Board of Directors. In the absence of a designation of a chief financial officer by the Board of Directors, the treasurer shall be the chief financial officer of the Corporation.

The treasurer shall disburse the funds of the Corporation as may be ordered by the Board of Directors, taking proper vouchers for such disbursements, and shall render to the president and Board of Directors, at the regular meetings of the Board of Directors or whenever it may so require, an account of all his or her transactions as treasurer and of the financial condition of the Corporation.

If required by the Board of Directors, the treasurer shall give the Corporation a bond in such sum and with such surety or sureties as shall be satisfactory to the Board of Directors for the faithful performance of the duties of his or her office and for the restoration to the Corporation, in case of his or her death, resignation, retirement or removal from office, of all books, papers, vouchers, moneys and other property of whatever kind in his or her possession or under his or her control belonging to the Corporation.

Section 13. ASSISTANT SECRETARIES AND ASSISTANT TREASURERS . The assistant secretaries and assistant treasurers, in general, shall perform such duties as shall be assigned to them by the secretary or treasurer, respectively, or by the chief executive officer, president or the Board of Directors. The assistant treasurers shall, if required by the Board of Directors, give bonds for the faithful performance of their duties in such sums and with such surety or sureties as shall be satisfactory to the Board of Directors.

Section 14. SALARIES . The salaries and other compensation of the officers shall be fixed from time to time by the Board of Directors or a committee thereof and no officer shall be prevented from receiving such salary or other compensation by reason of the fact that he is also a Director.

ARTICLE VI

CONTRACTS, LOANS, CHECKS AND DEPOSITS

Section 1. CONTRACTS . The Board of Directors or a committee thereof within the scope of its delegated authority may authorize any officer or agent to enter into any contract or to execute and deliver any instrument in the name of and on behalf of the Corporation and such authority may be general or confined to specific instances. Any agreement, deed, mortgage, lease or other document shall be valid and binding upon the Corporation when authorized or ratified by action of the Board of Directors or such committee and executed by an authorized person.

Section 2. CHECKS AND DRAFTS . All checks, drafts or other orders for the payment of money, notes or other evidences of indebtedness issued in the name of the Corporation shall be signed by such officer or agent of the Corporation in such manner as shall from time to time be determined by the Board of Directors.

Section 3. DEPOSITS . All funds of the Corporation not otherwise employed shall be deposited from time to time to the credit of the Corporation in such banks, trust companies or other depositories as the Board of Directors may designate.

ARTICLE VII

STOCK

Section 1. CERTIFICATES . Except as otherwise provided in these Bylaws, this Section shall not be interpreted to limit the authority of the Board of Directors to issue same or all of the Corporation’s classes or series without certificates. Each stockholder, upon written request to the secretary of the Corporation, shall be entitled to a certificate or certificates which shall represent and certify the number of shares of each class of stock held by him, her or it in the Corporation. Each certificate shall be signed by the chairman of the board, chief executive officer, the president or a vice president and countersigned by the secretary or an assistant secretary or the treasurer or an assistant treasurer and may be sealed with the seal, if any, of the Corporation. The signatures may be either manual or facsimile. Certificates shall be consecutively numbered; and if the Corporation shall, from time to time, issue several classes of shares of capital stock, each class may have its own number series. A certificate is valid and may be issued whether or not an officer who signed it is still an officer when it is issued. Each certificate representing shares of capital stock which are restricted as to their transferability or voting powers, which are preferred or limited as to their dividends or as to their allocable portion of the assets upon liquidation or which are redeemable at the option of the

Corporation, shall have a statement of such restriction, limitation, preference or redemption provision, or a summary thereof, plainly stated on the certificate. If the Corporation has authority to issue shares of beneficial interest of more than one class, the certificate shall contain on the face or back a full statement or summary of the designations and any preferences, conversion and other rights, voting powers, restrictions, limitations as to dividends and other distributions, qualifications and terms and conditions of redemption of each class of shares of beneficial interest and, if the Corporation is authorized to issue any preferred or special class in series, the differences in the relative rights and preferences between the shares of each series to the extent they have been set and the authority of the Board of Director to set the relative rights and preferences of subsequent series. In lieu of such statements or summaries, the Corporation may set forth upon the face or back of the certificate a statement that the Corporation will furnish to any stockholder, upon receipt of a written request and without charge, a full statement of such information.

Section 2. TRANSFERS . Upon surrender to the Corporation or the transfer agent of the Corporation of a stock certificate duly endorsed or accompanied by proper evidence of succession, assignment or authority to transfer, the Corporation shall issue a new certificate to the person entitled thereto, cancel the old certificate and record the transaction upon its books.

The Corporation shall be entitled to treat the holder of record of any share or shares of stock as the holder in fact thereof and, accordingly, shall not be bound to recognize any equitable or other claim to or interest in such share or on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise provided by the laws of the State of Maryland.

Notwithstanding the foregoing, transfers of shares of any class of stock will be subject in all respects to the Charter of the Corporation and all of the terms and conditions contained therein.

Section 3. REPLACEMENT CERTIFICATE . Any officer designated by the Board of Directors may direct a new certificate to be issued in place of any certificate previously issued by the Corporation alleged to have been lost, stolen or destroyed upon the making of an affidavit of that fact by the person claiming the certificate to be lost, stolen or destroyed. When authorizing the issuance of a new certificate, an officer designated by the Board of Directors may, in his or her discretion and as a condition precedent to the issuance thereof, require the owner of such lost, stolen or destroyed certificate or the owner’s legal representative to advertise the same in such manner as he or she shall require and/or to give bond, with sufficient surety, to the Corporation to indemnify it against any loss or claim which may arise as a result of the issuance of a new certificate.

Section 4. FIXING OF RECORD DATE . The Board of Directors may set, in advance, a record date for the purpose of determining stockholders entitled to notice of or to vote at any meeting of stockholders or

determining stockholders entitled to receive payment of any dividend or the allotment of any other rights, or in order to make a determination of stockholders for any other proper purpose. Such date, in any case, shall not be prior to the close of business on the day the record date is fixed and shall be not more than ninety (90) days and, in the case of a meeting of stockholders, not less than ten (10) days, before the date on which the meeting or particular action requiring such determination of stockholders of record is to be held or taken.

Except as otherwise set forth in these Bylaws, if no record date is fixed for the determination of stockholders, (a) the record date for the determination of stockholders entitled to notice of or to vote at a meeting of stockholders shall be at 5:00 pm, Eastern Time, on the day on which the notice of meeting is mailed or the thirtieth (30 ^th ) day before the meeting, whichever is the closer date to the meeting; and (b) the record date for the determination of stockholders entitled to receive payment of a dividend or an allotment of any other rights shall be 5:00 pm, Eastern Time, on the day on which the resolution of the Directors, declaring the dividend or allotment of rights, is adopted.

When a determination of stockholders entitled to vote at any meeting of stockholders has been made as provided in this section, such determination shall apply to any adjournment thereof, except when the meeting is adjourned to a date more than one hundred twenty (120) days after the record date fixed for the original meeting, in either of which case a new record date shall be determined as set forth herein.

Section 5. STOCK LEDGER . The Corporation shall maintain at its principal office or at the office of its counsel, accountants or transfer agent, an original or duplicate stock ledger containing the name and address of each stockholder and the number of shares of each class held by such stockholder.

Section 6. FRACTIONAL STOCK; ISSUANCE OF UNITS . The Board of Directors may issue fractional stock or provide for the issuance of scrip, all on such terms and under such conditions as they may determine. Notwithstanding any other provision of the Charter or these Bylaws, the Board of Directors may issue units consisting of different securities of the Corporation. Any security issued in a unit shall have the same characteristics as any identical securities issued by the Corporation, except that the Board of Directors may provide that for a specified period securities of the Corporation issued in such unit may be transferred on the books of the Corporation only in such unit.

ARTICLE VIII

ACCOUNTING YEAR

The Board of Directors shall have the power, from time to time, to fix the fiscal year of the Corporation by a duly adopted resolution.

ARTICLE IX

DISTRIBUTIONS

Section 1. AUTHORIZATION . Dividends and other distributions upon the stock of the Corporation may be authorized by the Board of Directors, subject to the provisions of law and the Charter of the Corporation. Dividends and other distributions may be paid in cash, property or shares of stock of the Corporation, subject to the provisions of law and the Charter.

Section 2. CONTINGENCIES . Before payment of any dividends or other distributions, there may be set aside out of any assets of the Corporation available for dividends or other distributions such sum or sums as the Board of Directors may from time to time, in its absolute discretion, think proper as a reserve fund for contingencies, for equalizing dividends or other distributions, for repairing or maintaining any property of the Corporation or for such other purpose as the Board of Directors shall determine to be in the best interest of the Corporation, and the Board of Directors may modify or abolish any such reserve.

ARTICLE X

INVESTMENT POLICIES

Subject to the provisions of the Charter, the Board of Directors may from time to time adopt, amend, revise or terminate any policy or policies with respect to investments by the Corporation as it shall deem appropriate in its sole discretion.

ARTICLE XI

PROHIBITED INVESTMENTS AND ACTIVITIES

Notwithstanding anything to the contrary in the Charter, the Corporation shall not enter into any transaction referred to in (i), (ii) or (iii) below which it does not believe is in the best interests of the Corporation, and will not, without the approval of a majority of the disinterested Directors, (i) acquire from or sell to any Director, officer or employee of the Corporation, any corporation, partnership, joint venture, trust, employee benefit plan or other enterprise in which a Director, officer or employee of the Corporation owns more than a 5% interest or any affiliate of any of the foregoing, any of the assets or other property of the Corporation, except for the acquisition directly or indirectly of certain

properties or interest therein, directly or indirectly, through entities in which it owns an interest in connection with the initial public offering of shares by the Corporation or pursuant to agreements entered into in connection with such offering, which properties shall be described in the prospectus relating to such initial public offering, (ii) make any loan to or borrow from any of the foregoing persons or (iii) engage in any other transaction with any of the foregoing persons. Each such transaction will be in all respects on such terms as are, at the time of the transaction and under the circumstances then prevailing, fair and reasonable to the Corporation. Subject to the provisions of the Charter, the Board of Directors may from time to time adopt, amend, revise or terminate any policy or policies with respect to investments by the Corporation as it shall deem appropriate in its sole discretion.

ARTICLE XII

SEAL

Section 1. SEAL . The Board of Directors may authorize the adoption of a seal by the Corporation. The seal shall have inscribed thereon the name of the Corporation and the year of its formation. The Board of Directors may authorize one or more duplicate seals and provide for the custody thereof.

Section 2. AFFIXING SEAL . Whenever the Corporation is permitted or required to affix its seal to a document, it shall be sufficient to meet the requirements of any law, rule or regulation relating to a seal to place the word “(SEAL)” adjacent to the signature of the person authorized to execute the document on behalf of the Corporation.

ARTICLE XIII

INDEMNIFICATION AND ADVANCE OF EXPENSES

To the maximum extent permitted by Maryland law in effect from time to time, the Corporation shall indemnify and, without requiring a preliminary determination of the ultimate entitlement to indemnification, shall pay or reimburse reasonable expenses in advance of final disposition of a proceeding to (a) any individual who is a present or former director or officer of the Corporation and who is made a party to the proceeding by reason of his or her service in that capacity or (b) any individual who, while a director or officer of the Corporation and at the request of the Corporation, serves or has served as a director, officer, partner or trustee of a corporation, real estate investment trust, partnership, joint venture, trust, limited liability company, employee benefit plan or any other enterprise and who is made or threatened to be made a party to the proceeding by reason of his or her service in that capacity. The Corporation may, with the approval of its Board of Directors or any duly authorized committee thereof, provide such indemnification and pay or reimburse reasonable expenses in advance of final disposition of a proceeding to a person who served a predecessor of the Corporation in any of the capacities described in (a) or (b) above and to any employee or agent of the Corporation or a predecessor of the Corporation. The indemnification and payment or reimbursement

of expenses provided in these Bylaws shall not be deemed exclusive of or limit in any way other rights to which any person seeking indemnification or payment of expenses may be or may become entitled under any bylaw, regulation, insurance, agreement or otherwise.

Neither the amendment nor repeal of this Article, nor the adoption or amendment of any other provision of the Bylaws or Charter of the Corporation inconsistent with this Article, shall apply to or affect in any respect the applicability of the preceding paragraph with respect to any act or failure to act which occurred prior to such amendment, repeal or adoption.

Any indemnification or payment or reimbursement of the expenses permitted by their Bylaws shall be furnished in accordance with the procedures provided for indemnification or payment or reimbursement of expenses, as the case may be, under Section 2-418 of the MGCL for directors of Maryland Corporations.

ARTICLE XIV

WAIVER OF NOTICE

Whenever any notice is required to be given pursuant to the Charter of the Corporation or these Bylaws or pursuant to applicable law, a waiver thereof in writing, signed by the person or persons entitled to such notice, whether before or after the time stated therein, shall be deemed equivalent to the giving of such notice. Neither the business to be transacted at nor the purpose of any meeting need be set forth in the waiver of notice, unless specifically required by statute. The attendance of any person at any meeting shall constitute a waiver of notice of such meeting, except where such person attends a meeting for the express purpose of objecting to the transaction of any business on the ground that the meeting is not lawfully called or convened.

ARTICLE XV

AMENDMENT OF BYLAWS

The Board of Directors shall have the exclusive power to adopt, alter or repeal any provision of these Bylaws and to make new Bylaws.

Exhibit 3.3

AMENDED AND RESTATED AGREEMENT OF LIMITED PARTNERSHIP

MHI Hospitality, L.P.

TABLE OF CONTENTS


ARTICLE I DEFINED TERMS		1

ARTICLE II FORMATION OF PARTNERSHIP		9

2.01	Name, Office and Registered Agent	9
2.02	Partners	9
2.03	Term and Dissolution	9
2.04	Filing of Certificate and Perfection of Limited Partnership	9
2.05	Certificates Describing Partnership Units	10

ARTICLE III BUSINESS OF THE PARTNERSHIP		10

ARTICLE IV CAPITAL CONTRIBUTIONS AND ACCOUNTS		10
4.01	Capital Contributions	10
4.02	Additional Capital Contributions and Issuances of Additional Partnership Interests	10
4.03	Additional Funding; Additional Contribution Obligations	12
4.04	Capital Accounts	12
4.05	Percentage Interests	13
4.06	No Interest on Contributions	13
4.07	Return of Capital Contributions	13
4.08	No Third Party Beneficiary	13

ARTICLE V PROFITS AND LOSSES; DISTRIBUTIONS		13
5.01	Allocation of Profit and Loss	13
5.02	Distribution of Cash	15
5.03	REIT Distribution Requirements	16
5.04	No Right to Distributions in Kind	16
5.05	Limitations on Return of Capital Contributions	16
5.06	Distributions Upon Liquidation	16
5.07	Substantial Economic Effect	17
5.08	Guaranteed Payments	17

ARTICLE VI RIGHTS, OBLIGATIONS AND POWERS OF THE GENERAL PARTNER		17
6.01	Management of the Partnership	17
6.02	Delegation of Authority	19
6.03	Indemnification and Exculpation of Indemnities	20
6.04	Liability of the General Partner	21
6.05	Partnership Obligations	22
6.06	Outside Activities	22
6.07	Employment or Retention of Affiliates	22
6.08	General Partner Activities	22
6.09	Title to Partnership Assets	22
6.10	Redemption of General Partner Partnership Units	23

ARTICLE VII MATTERS CONCERNING THE GENERAL PARTNER		23
7.01	Transfer of the General Partner’s Partnership Interest.	23


7.02	Admission of a Substitute or Additional General Partner	24
7.03	Effect of Bankruptcy, Withdrawal, Death or Dissolution of a General Partner.	25
7.04	Removal of a General Partner.	25

ARTICLE VIII RIGHTS AND OBLIGATIONS OF THE LIMITED PARTNERS		26
8.01	Management of the Partnership	26
8.02	Power of Attorney	26
8.03	Limitation on Liability of Limited Partners	26
8.04	Redemption Right.	26
8.05	Registration	28

ARTICLE IX TRANSFERS OF PARTNERSHIP INTERESTS		30
9.01	Purchase for Investment.	30
9.02	Restrictions on Transfer of Partnership Interests.	31
9.03	Admission of Substitute Limited Partner.	31
9.04	Rights of Assignees of Partnership Interests.	32
9.05	Effect of Bankruptcy, Death, Incompetence or Termination of a Limited Partner	32
9.06	Joint Ownership of Interests	33

ARTICLE X BOOKS AND RECORDS; ACCOUNTING; TAX MATTERS		33
10.01	Books and Records	33
10.02	Custody of Partnership Funds; Bank Accounts.	33
10.03	Fiscal and Taxable Year	33
10.04	Annual Tax Information and Report	33
10.05	Tax Matters Partner; Tax Elections; Special Basis Adjustments.	34
10.06	Reports to Limited Partners.	34

ARTICLE XI AMENDMENT OF AGREEMENT; MERGER		34
11.01	Amendment Of Agreement; Merger	34

ARTICLE XII GENERAL PROVISIONS		35
12.01	Notices	35
12.02	Survival of Rights	35
12.03	Additional Documents	35
12.04	Severability	35
12.05	Entire Agreement	35
12.06	Pronouns and Plurals	35
12.07	Headings	35
12.08	Counterparts	35
12.09	Governing Law	35

EXHIBITS


EXHIBIT A		— Partners, Capital Contributions and Percentage Interests
EXHIBIT B		— Notice of Exercise of Redemption Right
EXHIBIT C		— Certification of Non-Foreign Status

iii

AMENDED AND RESTATED AGREEMENT OF LIMITED PARTNERSHIP

MHI Hospitality, L.P.

This amended and restated limited partnership agreement is made and entered into as of this , day of 2004, by and among MHI Hospitality Corporation, as general partner, and the Limited Partners set forth at Exhibit A for the purpose of amending and restating in its entirety the Original Agreement (as hereinafter defined).

RECITALS:

A. MHI Hospitality, L.P. (the “Partnership”) was formed as a limited partnership under the laws of the State of Delaware, pursuant to a Certificate of Limited Partnership filed with the Delaware Division of Corporations effective as of August 19, 2004 and an Agreement of Limited Partnership entered into as of August 20, 2004 by and between MHI Hospitality Corporation, a Maryland corporation (the “Company”), as general partner, and Andrew M. Sims (the “Original Limited Partner”) (the “Original Agreement”).

B. Effective as of the date of this Amended and Restated Agreement of Limited Partnership, the Original Limited Partner has withdrawn as a limited partner of the Partnership.

AGREEMENTS:

NOW, THEREFORE, in consideration of the foregoing, of the mutual covenants between the parties hereto, and of other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, the parties hereto agree as follows:

ARTICLE I

DEFINED TERMS

The following defined terms used in this Agreement shall have the meanings specified below:

“Act” means the Delaware Revised Uniform Limited Partnership Act, as it may be amended from time to time.

“Additional Funds” has the meaning set forth in Section 4.03 hereof.

“Additional Securities” means any additional REIT Shares (other than REIT Shares issued in connection with an exchange pursuant to Section 8.04 hereof) or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase REIT Shares, as set forth in Section 4.02(a)(ii).

“Adjusted Capital Account” shall mean with respect to a Partner, the balance, if any, in such Partner’s Capital Account as of the end of the relevant Fiscal Year or other period, after giving effect to the following adjustments:

(a) increase such balance by any amounts which such Partner is obligated to restore pursuant to this Agreement (including any note obligations) or is deemed to be obligated to restore pursuant to Regulations §§ 1.704-2(i)(5) and 1.704-2(g);

(b) decrease such balance by the items described in Treasury Regulation § 1.704-1(b)(2)(ii)(d)(4), (5) and (6); and

(c) increase or decrease such balance, in the sole discretion of the General Partner, by any other amounts required or permitted under Code Section 704(b) and the Regulations thereunder.

The foregoing definition of Adjusted Capital Account is intended to comply with the provisions of Regulation § 1.704-1(b)(2)(ii)(d) and shall be interpreted consistently therewith.

“Administrative Expenses” means (i) all administrative and operating costs and expenses incurred by the Partnership, (ii) those administrative costs and expenses of the General Partner, including any salaries or other payments to directors, officers or employees of the General Partner, and any accounting and legal expenses of the General Partner, which expenses, the Partners have agreed, are expenses of the Partnership and not the General Partner, and (iii) to the extent not included in clauses (i) or (ii) above, REIT Expenses; provided , however , that Administrative Expenses shall not include any administrative costs and expenses incurred by the General Partner that are attributable to Properties or partnership interests in a Subsidiary Partnership that are owned by the General Partner other than through its ownership interest in the Partnership.

“Affiliate” means, (i) any Person that, directly or indirectly, controls or is controlled by or is under common control with such Person, (ii) any other Person that owns, beneficially, directly or indirectly, 10% or more of the outstanding capital stock, shares or equity interests of such Person, or (iii) any officer, director, employee, partner, member, manager or trustee of such Person or any Person controlling, controlled by or under common control with such Person (excluding trustees and persons serving in similar capacities who are not otherwise an Affiliate of such Person). For the purposes of this definition, “control” (including the correlative meanings of the terms “controlled by” and “under common control with”), as used with respect to any Person, shall mean the possession, directly or indirectly, of the power to direct or cause the direction of the management and policies of such Person, through the ownership of voting securities or partnership interests or otherwise.

“Agreed Value” means the fair market value of a Partner’s non-cash Capital Contribution (net of assumed liabilities) as of the date of contribution as agreed to by such Partner and the General Partner. The names and addresses of the Partners, number of Partnership Units issued to each Partner, and the Agreed Value of non-cash Capital Contributions as of the date of contribution is set forth on Exhibit A.

“Agreement” means this Amended and Restated Agreement of Limited Partnership.

“AMEX” means the American Stock Exchange.

“Articles of Incorporation” means the Articles of Incorporation of the General Partner filed with the Maryland State Department of Assessments and Taxation, as amended or restated from time to time.

“Board of Directors” means the Board of Directors of the General Partner.

“Capital Account” has the meaning provided in Section 4.04 hereof.

“Capital Contribution” means the total amount of cash, cash equivalents, and the Agreed Value of any Property or other asset contributed or agreed to be contributed, as the context requires, to the Partnership by each Partner pursuant to the terms of the Agreement. Any reference to the Capital Contribution of a Partner shall include the Capital Contribution made by a predecessor holder of the Partnership Interest of such Partner.

“Carrying Value” shall mean, with respect to any Partnership asset, such asset’s adjusted basis for federal income tax purposes, except as follows:

(a) The initial Carrying Value of any asset contributed by a Partner (or by a non-Partner on behalf of a Partner) to the Partnership shall be the Gross Fair Market Value of such asset.

(b) The Carrying Values of all Partnership assets shall be adjusted to equal their respective Gross Fair Market Values, immediately before the occurrence of the following events: (i) the acquisition of an additional interest in the Partnership by any new or existing Partner in exchange for more than a de minimis Capital

Contribution (including the increase in any Partner’s Percentage Interest in accordance with the terms hereof); (ii) the distribution by the Partnership to a Partner of more than a de minimis amount of Partnership property as consideration for a Partnership Interest if the General Partner reasonably determines in good faith that such adjustment is necessary or appropriate to reflect the relative economic interests of the Partners in the Partnership; (iii) the liquidation of the Partnership within the meaning of Treasury Regulation § 1.704-1(b)(2)(ii)(g); and (iv) the grant of a Partnership Interest (other than a de minimis Partnership Interest) as consideration for the provision of services to or for the benefit of the Partnership by an existing Partner acting in a Partner capacity, or by a new Partner acting in a Partner Capacity, or in anticipation of being a Partner;

(c) The Carrying Value of any Partnership asset distributed to any Partner shall be the Gross Fair Market Value of such asset on the date of distribution.

(d) The Carrying Values of Partnership assets shall be increased (or decreased) to reflect any adjustments to the adjusted basis of such assets pursuant to Code Section 734(b) or Code Section 743(b), but only to the extent that such adjustments are taken into account in determining Capital Accounts pursuant to Treasury Regulation § 1.704-1(b)(2)(iv)(m); provided, however, that Carrying Values shall not be adjusted pursuant to this paragraph (d) if or to the extent that the General Partner determines that an adjustment pursuant to paragraph (b) of this definition is necessary or appropriate in connection with a transaction that would otherwise result in an adjustment pursuant to this paragraph (d).

(e) The Carrying Value of a Partnership asset shall be adjusted by the Depreciation attributable to such asset.

“Cash Amount” means an amount of cash per Partnership Unit equal to the Value of the REIT Shares Amount on the date of receipt by the Partnership and the General Partner of a Notice of Redemption.

“Certificate” means any instrument or document that is required under the laws of the State of Delaware, or any other jurisdiction in which the Partnership conducts business, to be signed and sworn to by the Partners of the Partnership (either by themselves or pursuant to the power-of-attorney granted to the General Partner in Section 8.02 hereof) and filed for recording in the appropriate public offices within the State of Delaware or such other jurisdiction to perfect or maintain the Partnership as a limited partnership, to effect the admission, withdrawal or substitution of any Partner of the Partnership, or to protect the limited liability of the Limited Partners as limited partners under the laws of the State of Delaware or such other jurisdiction.

“Change of Control” (a) For purposes of this Agreement, a “Change of Control of the General Partner” and “Change of Control” shall mean a change of control of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A of Regulation 14A promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), whether or not the General Partner is then subject to such reporting requirement; provided, that, without limitation, such a change in control shall be deemed to have occurred if: (i) any Group, or any Persons collectively acting together, (as such terms are used in Sections 13(d) and 14(d) of the Exchange Act) (a “Group”) is or becomes the “beneficial owner” (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the General Partner representing fifty percent (50%) or more of the combined voting power of the General Partner’s then outstanding voting securities; provided, however, that for purposes of this Agreement the term “Group” shall not include (A) the General Partner or any of its subsidiaries, (B) a trustee or other fiduciary holding securities under an employee benefit plan of the General Partner or any of its subsidiaries, (C) an underwriter temporarily acquiring securities pursuant to an offering of such securities, or (D) a corporation owned, directly or indirectly, by the stockholders of the General Partner in substantially the same proportions as their ownership of stock of the General Partner; or (ii) the following individuals cease for any reason (other than voluntary resignations or death or disability) to constitute at least two-thirds (2/3) of the directors then serving on the General Partner’s Board: individuals who, on the date hereof, constitute the Board and any new director (other than a director whose initial assumption of office is in connection with an actual or threatened election contest including, but not limited to, a consent solicitation, relating to the election of directors of the General Partner) whose appointment or election by the Board or nomination for election by the General Partner’s stockholders was approved or recommended by a vote of at least two-thirds (2/3) of the directors then still in office who either were directors on the date hereof or whose appointment, election or nomination for election was previously so approved or recommended; or (iii) there is consummated a merger or consolidation of the General

Partner or any direct or indirect subsidiary thereof with any other corporation where the General Partner is not the surviving entity and the shareholders of the General Partner do not hold a majority of the outstanding shares of the surviving entity immediately following the merger or consolidation, or the shareholders of the General Partner approve a plan of complete liquidation of the General Partner, or there is consummated the sale or other disposition of all or substantially all of the General Partner’s assets. For purposes of this Agreement, a Change of Control shall not be deemed to have occurred in the case of an acquisition directly from the General Partner resulting from the exercise of a conversion, redemption or exchange privilege in respect of outstanding convertible or exchangeable securities.

“Change in Control Redemption Right” has the meaning provided in Section 7.01(e) hereof.

“Code” means the Internal Revenue Code of 1986, as amended, and as hereafter amended from time to time. Reference to any particular provision of the Code shall mean that provision in the Code at the date hereof and any successor provision of the Code.

“Commission” means the U.S. Securities and Exchange Commission.

“Common Share” means one share of common stock, $0.01 par value, of the General Partner.

“Contributor” has the meaning set forth in the Tax Indemnity Agreements.

“Contribution Agreements” means the agreements by and among the Company and the owners of the properties that will become the initial assets of the Company and held by the Partnership.

“Conversion Factor” means 1.0, provided that in the event that the General Partner (i) declares or pays a dividend on its outstanding REIT Shares in REIT Shares or makes a distribution to all holders of its outstanding REIT Shares in REIT Shares, (ii) subdivides its outstanding REIT Shares or (iii) combines its outstanding REIT Shares into a smaller number of REIT Shares, the Conversion Factor shall be adjusted by multiplying the Conversion Factor by a fraction, the numerator of which shall be the number of REIT Shares issued and outstanding on the record date for such dividend, distribution, subdivision or combination (assuming for such purposes that such dividend, distribution, subdivision or combination has occurred as of such time), and the denominator of which shall be the actual number of REIT Shares (determined without the above assumption) issued and outstanding on such date and, provided further , that in the event that an entity other than an Affiliate of the General Partner shall become general partner pursuant to any merger, consolidation or combination of the General Partner with or into another entity (the “Successor Entity”), the Conversion Factor shall be adjusted by multiplying the Conversion Factor by the number of shares of the Successor Entity into which one REIT Share is converted pursuant to such merger, consolidation or combination, determined as of the date of such merger, consolidation or combination. Any adjustment to the Conversion Factor shall become effective immediately after the effective date of such event retroactive to the record date, if any, for such event; provided , however , that if the General Partner and the Partnership receive a Notice of Redemption after the record date, but prior to the effective date of such dividend, distribution, subdivision or combination, the Conversion Factor shall be determined as if the General Partner and the Partnership had received the Notice of Redemption immediately prior to the record date for such dividend, distribution, subdivision or combination.

“ Defaulting Limited Partner ” has the meaning set forth in Section 5.02(c) hereof.

“Depreciation” shall mean, for a Fiscal Year or other period, an amount equal to the cost recovery deduction with respect to an asset for such period as determined for federal income tax purposes, provided that if the Carrying Value of such asset differs from its adjusted tax basis at the beginning of such period, Depreciation shall be determined as provided in Treasury Regulation § 1.704-1(b)(2)(iv)(g)(3).

“ Distributable Amount ” has the meaning set forth in Section 5.02(c) hereof.

“Event of Bankruptcy” as to any Person means the filing of a petition for relief as to such Person as debtor or bankrupt under the Bankruptcy Code of 1978, as amended, or similar provision of law of any jurisdiction (except if such petition is contested by such Person and has been dismissed within 90 days); insolvency or bankruptcy of such Person as finally determined by a court proceeding; filing by such Person of a petition or application to accomplish the same or for the appointment of a receiver or a trustee for such Person or a substantial part of his assets; commencement of any proceedings relating to such Person as a debtor under any other reorganization, arrangement, insolvency, adjustment of debt or liquidation law of any jurisdiction, whether now in existence or hereinafter in effect, either by such Person or by another, provided that if such proceeding is commenced by another, such Person indicates his approval of such proceeding, consents thereto or acquiesces therein, or such proceeding is contested by such Person and has not been finally dismissed within 90 days.

“Exercising Limited Partner” has the meaning set forth in Section 7.01(e) hereof.

“General Partner” means MHI Hospitality Corporation, a Maryland corporation electing to be taxed as a real estate investment trust under Sections 856 through 860 of the Code, and any Person who becomes a substitute or additional General Partner as provided herein, and any of their successors as General Partner.

“General Partnership Interest” means a Partnership Interest held by the General Partner that is a general partnership interest.

“ General Partner Loan ” has the meaning set forth in Section 5.02(c) hereof.

“Gross Fair Market Value” of an asset means the asset’s gross fair market value as of the applicable determination date (determined without regard to any liability which encumbers such asset or to which such asset is otherwise subject). Initially, the gross fair market value of each asset of the Partnership shall be determined by the General Partner in good faith.

“Group” has the meaning set forth in Section 13(d)(3) of the Exchange Act.

“Indemnitee” means (i) any Person made a party to a proceeding by reason of its status as the General Partner or a director, officer or employee of the General Partner or the Partnership, and (ii) such other Persons (including Affiliates of the General Partner or the Partnership) as the General Partner may designate from time to time, in its sole and absolute discretion.

“Independent Director” means a member of the Board of Directors of the General Partner who is not an officer or employee of the General Partner, Partnership or an Affiliate thereof, or a lessee or manager of any Property, or who otherwise satisfies the independence standards provided in the listing requirements of the AMEX.

“Limited Partner” means any Person named as a Limited Partner on Exhibit A attached hereto, and any Person who becomes a Substitute or Additional Limited Partner, in such Person’s capacity as a Limited Partner in the Partnership.

“Limited Partnership Interest” means a Partnership Interest held by a Limited Partner at any particular time, including the right of such Limited Partner to any and all benefits to which such Limited Partner may be entitled as provided in this Agreement and in the Act, together with the obligations of such Limited Partner to comply with all the provisions of this Agreement and of such Act.

“Majority in Interest” of the Limited Partners means Limited Partners holding a majority of the Limited Partnership Interests.

“Notice of Redemption” means the Notice of Exercise of Redemption Right or Notice of Exercise of Change of Control Redemption Right substantially in the form attached as Exhibit B hereto.

“Offer” has the meaning set forth in Section 7.01 (c) hereof.

“Partner” means any General Partner or Limited Partner.

“Partner Redemption Date” means a business day specified by a Limited Partner exercising the Change of Control Redemption Right that is at least 30 calendar days after receipt by the Partnership of a Notice of Redemption.

“Partnership” means the limited partnership.

“Partner Nonrecourse Debt Minimum Gain” has the meaning set forth in Regulations Section 1.704-2(i). A Partner’s share of Partner Nonrecourse Debt Minimum Gain shall be determined in accordance with Regulations Section 1.704-2(i)(5).

“Partnership Interest” means an ownership interest in the Partnership held by either a Limited Partner or the General Partner and includes any and all benefits to which the holder of such a Partnership Interest may be entitled as provided in this Agreement, together with all obligations of such Person to comply with the terms and provisions of this Agreement.

“Partnership Minimum Gain” has the meaning set forth in Regulations Section 1.704-2(d). In accordance with Regulations Section 1.704-2(d), the amount of Partnership Minimum Gain is determined by first computing, for each Partnership nonrecourse liability, any gain the Partnership would realize if it disposed of the property subject to that liability for no consideration other than full satisfaction of the liability, and then aggregating the separately computed gains. A Partner’s share of Partnership Minimum Gain shall be determined in accordance with Regulations Section 1.704-2(g)(1).

“Partnership Record Date” means the record date established by the General Partner for the distribution of cash pursuant to Section 5.02(a) hereof, which record date shall be the same as the record date established by the General Partner for a distribution to its stockholders.

“Partnership Unit” means a fractional, undivided share of the Partnership Interests of all Partners issued hereunder. The allocation of Partnership Units among the Partners shall be as set forth on Exhibit A , as may be amended from time to time.

“Percentage Interest” means the percentage ownership interest in the Partnership of each Partner, as determined by dividing the Partnership Units owned by a Partner by the total number of Partnership Units then outstanding. The Percentage Interest of each Partner shall be as set forth on Exhibit A , as may be amended from time to time.

“Person” means any individual, partnership, corporation, limited liability company, joint venture, trust or other entity.

“Profits” or “Losses” shall mean, for each Fiscal Year or other period, an amount equal to the Partnership’s taxable income or loss for such year or period determined in accordance with Code Section 703(a) (for this purpose, all items of income, gain, loss or deduction required to be stated separately pursuant to Code Section 703(a)(1) shall be included in taxable income or loss), with the following adjustments:

(a) Income of the Partnership that is exempt from federal income tax shall be treated as taxable income;

(b) Expenditures of the Partnership described in Code Section 705(a)(2)(B) or treated as such expenditures pursuant to Treasury Regulation § 1.704-1(b)(2)(iv)(i) shall be subtracted from taxable income;

(c) If the Carrying Value of any Partnership asset is adjusted pursuant to paragraphs (b) or (d) set forth within the definition of Carrying Value, the amount of such adjustment shall be taken into account as gain or loss from the disposition of such asset for purposes of computing Profits or Losses;

(d) Gain or loss resulting from any disposition of Partnership assets where such gain or loss is recognized for federal income tax purposes shall be computed by reference to the Carrying Value of such Partnership assets;

(e) In lieu of the depreciation, amortization and other cost recovery deductions taken into account in computing such taxable income or loss, there shall be taken into account Depreciation for such Fiscal Year or period;

(f) To the extent an adjustment to the adjusted tax basis of any Partnership asset pursuant to Code Section 734(b) is required, pursuant to Treasury Regulation § 1.704-1(b)(2)(iv)(m)(4), to be taken into account in determining Capital Accounts as a result of a distribution other than in liquidation of a Partner’s Interest, the amount of such adjustment shall be treated as an item of gain (if the adjustment increases the basis of the asset) or loss (if the adjustment decreases such basis) from the disposition of such asset and shall be taken into account for purposes of computing Profits or Losses; and

(g) Items that are specially allocated under Section 5.01 (other than subsections (a) and (b)) shall not be taken into account in determining Profits and Losses.

“Property” means any property or other investment in which the Partnership holds, directly or indirectly, an ownership interest.

“Redemption Amount” means either the Cash Amount or the REIT Shares Amount, as selected by the Partnership or as directed by the General Partner pursuant to Section 8.04(b) hereof.

“Redemption Right” has the meaning provided in Section 8.04(a) hereof.

“Redeeming Limited Partner” has the meaning provided in Section 8.04(a) hereof.

“Regulations” means the Federal Income Tax Regulations issued under the Code, as amended and as hereafter amended from time to time. Reference to any particular provision of the Regulations shall mean that provision of the Regulations on the date hereof and any successor provision of the Regulations.

“REIT” means a real estate investment trust under Sections 856 through 860 of the Code.

“REIT Expenses” means (i) costs and expenses relating to the formation and continuity of existence and operation of the General Partner and any Subsidiaries thereof (which Subsidiaries shall, for purposes hereof, be included within the definition of General Partner), including taxes, fees and assessments associated therewith, any and all costs, expenses or fees payable to any director, officer or employee of the General Partner, (ii) costs and expenses relating to any public offering and registration, or private offering, of securities by the General Partner and all statements, reports, fees and expenses incidental thereto, including, without limitation, underwriting discounts and selling commissions applicable to any such offering of securities, and any costs and expenses associated with any claims made by any holders of such securities or any underwriters or placement agents thereof, (iii) costs and expenses associated with any repurchase of any securities by the General Partner, (iv) costs and expenses associated with the preparation and filing of any periodic or other reports and communications by the General Partner under federal, state or local laws or regulations, including filings with the Commission, (v) costs and expenses associated with compliance by the General Partner with laws, rules and regulations promulgated by any regulatory body, including the Commission and any securities exchange, (vi) costs and expenses associated with any 401(k) plan, incentive plan, bonus plan or other plan providing for compensation for the employees of the General Partner, (vii) costs and expenses incurred by the General Partner relating to any issuing or redemption of Partnership Interests and (viii) all other operating or administrative costs of the General Partner or any subsidiary, incurred in the ordinary course of its business on behalf of or in connection with the Partnership.

“REIT Share” means a Common Share of the General Partner (or Successor Entity, as the case may be).

“REIT Shares Amount” means a number of REIT Shares equal to the product of the number of Partnership Units offered for redemption by a Redeeming Limited Partner, multiplied by the Conversion Factor as adjusted to and including the Specified Redemption Date; provided that in the event the General Partner issues to all holders of REIT Shares rights, options, warrants or convertible or exchangeable securities entitling the stockholders to subscribe for or purchase REIT Shares, or any other securities or property (collectively, the “rights”), and the rights have not expired at the Specified Redemption Date, then the REIT Shares Amount shall also include the rights issuable to a holder of the REIT Shares Amount on the record date fixed for purposes of determining the holders of REIT Shares entitled to rights.

“Securities Act” means the Securities Act of 1933, as amended.

“Service” means the Internal Revenue Service.

“Specified Redemption Date” means the first business day of the month that is at least 60 calendar days after the receipt by the Partnership of a Notice of Redemption.

“Subsidiary” means, with respect to any Person, any corporation or other entity of which a majority of (i) the voting power of the voting equity securities or (ii) the outstanding equity interests is owned, directly or indirectly, by such Person.

“Subsidiary Partnership” means any partnership or limited liability company in which the General Partner, a Subsidiary of the General Partner or the Partnership owns a partnership or membership interest.

“Substitute Limited Partner” means any Person admitted to the Partnership as a Limited Partner pursuant to Section 9.03 hereof.

“Successor Entity” has the meaning provided in the definition of “Conversion Factor” contained herein.

“Target Final Balance” has the meaning set forth in Section 5.01(g) hereof.

“Tax Matters Partner” has the meaning set forth in Section 10.05 hereof.

“Tax Indemnity Agreements” means the agreements executed by Contributors of assets to the Partnership pursuant to which the Partnership undertakes to indemnify each Contributor for certain potential tax liabilities and to use reasonable efforts to make available the opportunity to guarantee certain indebtedness of the Partnership.

“Trading Day” means a day on which the principal national securities exchange on which a security is listed or admitted to trading is open for the transaction of business or, if a security is not listed or admitted to trading on any national securities exchange, shall mean any day other than a Saturday, a Sunday or a day on which banking institutions in the State of New York are authorized or obligated by law or executive order to close.

“Transaction” has the meaning set forth in Section 7.01(c) hereof.

“Transfer” has the meaning set forth in Section 9.02(a) hereof.

“Value” means, with respect to any security, the average of the daily market price of such security for the ten consecutive Trading Days immediately preceding the date of such valuation. The market price for each such Trading Day shall be: (i) if the security is listed or admitted to trading on the AMEX or any securities exchange, the last reported sale price, regular way, on such day, or if no such sale takes place on such day, the average of the closing bid and asked prices, regular way, on such day, (ii) if the security is not listed or admitted to trading on the AMEX or any securities exchange, the last reported sale price on such day or, if no sale takes place on such day, the average of the closing bid and asked prices on such day, as reported by a reliable quotation source designated by the General Partner, or (iii) if the security is not listed or admitted to trading on the AMEX or on any securities exchange and no such last reported sale price or closing bid and asked prices are available, the average of the reported high bid and low asked prices on such day, as reported by a reliable quotation source designated by the

General Partner, or if there shall be no bid and asked prices on such day, the average of the high bid and low asked prices, as so reported, on the most recent day (not more than ten days prior to the date in question) for which prices have been so reported; provided that if there are no bid and asked prices reported during the ten days prior to the date in question, the value of the security shall be determined by the General Partner acting in good faith on the basis of such quotations and other information as it considers, in its reasonable judgment, appropriate. In the event the security includes any additional rights, then the value of such rights shall be determined by the General Partner acting in good faith on the basis of such quotations and other information as it considers, in its reasonable judgment, appropriate.

“Withheld Amount” has the meaning set forth in Section 5.02(c) hereof.

ARTICLE II

FORMATION OF PARTNERSHIP

2.01 Name, Office and Registered Agent . The name of the Partnership is MHI Hospitality, L.P. The specified office and place of business of the Partnership shall be at 814 Capitol Landing Road, Williamsburg, Virginia. The General Partner may at any time change the location of such office, provided the General Partner gives notice to the Partners of any such change. The name of the Partnership’s registered agent is The Corporation Trust Company which is a Delaware corporation. The sole duty of the registered agent as such is to forward to the Partnership any notice that is served on it as registered agent.

2.02 Partners .

(a) The General Partner of the Partnership is MHI Hospitality Corporation, a Maryland corporation. Its principal place of business is the same as that of the Partnership.

(b) The Limited Partners are those Persons identified as Limited Partners on Exhibit A hereto, as amended from time to time.

2.03 Term and Dissolution .

(a) The term of the Partnership is perpetual, except that the Partnership shall be dissolved upon the first to occur of any of the following events:

(i) The occurrence of an Event of Bankruptcy as to the General Partner or the dissolution, death, removal or withdrawal of the General Partner unless the business of the Partnership is continued pursuant to Section 7.03 (b) hereof; provided that if the General Partner is on the date of such occurrence a partnership, the dissolution of the General Partner as a result of the dissolution, death, withdrawal, removal or Event of Bankruptcy of a partner in such partnership shall not be an event of dissolution of the Partnership if the business of the General Partner is continued by the remaining partner or partners, either alone or with additional partners, and the General Partner and such partners comply with any other applicable requirements of this Agreement;

(ii) The passage of 90 days after the sale or other disposition of all or substantially all of the assets of the Partnership (provided that if the Partnership receives an installment obligation as consideration for such sale or other disposition, the Partnership shall continue, unless sooner dissolved under the provisions of this Agreement, until such time as such installment obligations are paid in full);

(iii) The redemption of all Limited Partnership Interests; or

(iv) The election by the General Partner that the Partnership should be dissolved.

(b) Upon dissolution of the Partnership (unless the business of the Partnership is continued pursuant to Section 7.03 (b) hereof), the General Partner (or its trustee, receiver, successor or legal representative) shall amend or cancel the Certificate and liquidate the Partnership’s assets and apply and distribute the proceeds thereof in accordance with Section 5.06 hereof. Notwithstanding the foregoing, the liquidating General Partner may either (i) defer liquidation of, or withhold from distribution for a reasonable time, any assets of the Partnership (including those necessary to satisfy the Partnership’s debts and obligations), or (ii) distribute the assets to the Partners in kind.

2.04 Filing of Certificate and Perfection of Limited Partnership . The General Partner shall execute, acknowledge, record and file at the expense of the Partnership the Certificate and any and all amendments thereto and all requisite fictitious name statements and notices in such places and jurisdictions as may be necessary to cause the Partnership to be treated as a limited partnership under, and otherwise to comply with, the laws of each state or other jurisdiction in which the Partnership conducts business.

2.05 Certificates Describing Partnership Units . At the request of a Limited Partner, the General Partner, at its option, may issue a certificate summarizing the terms of such Limited Partner’s Limited Partnership Interest in the Partnership, including the number of Partnership Units owned and the Percentage Interest represented by such Partnership Units as of the date of such certificate. Any such certificate (i) shall be in form and substance as determined by the General Partner, (ii) shall not be negotiable and (iii) shall bear a legend to the following effect:

This certificate is not negotiable. The Partnership Units represented by this certificate are governed by and transferable only in accordance with the provisions of the Agreement of Limited Partnership of MHI Hospitality, L.P., as amended from time to time.

ARTICLE III

BUSINESS OF THE PARTNERSHIP

The purpose and nature of the business to be conducted by the Partnership is (i) to conduct any business that may be lawfully conducted by a limited partnership organized pursuant to the Act, provided , however , that such business shall be limited to and conducted in such a manner as to permit the General Partner at all times to qualify as a REIT, unless the General Partner otherwise ceases to qualify as a REIT, (ii) to enter into any partnership, joint venture or other similar arrangement to engage in any of the foregoing or the ownership of interests in any entity engaged in any of the foregoing and (iii) to do anything necessary or incidental to the foregoing. In connection with the foregoing, and without limiting the General Partner’s right in its sole and absolute discretion to cease qualifying as a REIT, the Partners acknowledge that the General Partner’s current status as a REIT and the avoidance of income and excise taxes on the General Partner inures to the benefit of all the Partners and not solely to the General Partner. Notwithstanding the foregoing, the Limited Partners agree that the General Partner may terminate its status as a REIT under the Code at any time. The General Partner shall also be empowered to do any and all acts and things necessary or prudent to ensure that the Partnership will not be classified as a “publicly traded partnership” taxable as a corporation for purposes of Section 7704 of the Code.

ARTICLE IV

CAPITAL CONTRIBUTIONS AND ACCOUNTS

4.01 Capital Contributions . The General Partner and the Limited Partners have made capital contributions to the Partnership in exchange for the Partnership Interests set forth opposite their names on Exhibit A , as amended from time to time.

4.02 Additional Capital Contributions and Issuances of Additional Partnership Interests . Except as provided in this Section 4.02 or in Section 4.03, the Partners shall have no right or obligation to make any additional Capital Contributions or loans to the Partnership. The General Partner may contribute additional capital to the Partnership, from time to time, and receive additional Partnership Interests in respect thereof, in the manner contemplated in this Section 4.02.

(a) Issuances of Additional Partnership Interests.

(i) General . The General Partner is hereby authorized to cause the Partnership to issue such additional Partnership Interests in the form of Partnership Units for any Partnership purpose at any time or from time to time to the Partners (including the General Partner) or to other Persons for such consideration and on such terms and conditions as shall be established by the General Partner in its sole and absolute discretion, all without the approval of any Limited Partners. The General Partner’s determination that consideration is adequate shall be conclusive insofar as the adequacy of consideration relates to whether the Partnership Interests are validly issued and fully paid. Any additional Partnership Interests issued thereby may be issued in one or more classes, or one or more series of any of such classes, with such designations, preferences and relative, participating, optional or other special rights, powers and duties, including rights, powers and duties senior to Limited Partnership Interests, all as shall be determined by the General Partner in its sole and absolute discretion and without the approval of any Limited Partner, subject

to Delaware law, including, without limitation, (i) the allocations of items of Partnership income, gain, loss, deduction and credit to each such class or series of Partnership Interests; (ii) the right of each such class or series of Partnership Interests to share in Partnership distributions; and (iii) the rights of each such class or series of Partnership Interests upon dissolution and liquidation of the Partnership; provided , however , that no additional Partnership Interests shall be issued to the General Partner (or any direct or indirect wholly-owned Subsidiary of the General Partner) unless:

(1) (A) the additional Partnership Interests are issued in connection with an issuance of REIT Shares of or other interests in the General Partner, which shares or interests have designations, preferences and other rights, all such that the economic interests are substantially similar to the designations, preferences and other rights of the additional Partnership Interests issued to the General Partner (or any direct or indirect wholly-owned Subsidiary of the General Partner) by the Partnership in accordance with this Section 4.02 and (B) the General Partner (or any direct or indirect wholly-owned Subsidiary of the General Partner) shall make a Capital Contribution to the Partnership in an amount equal to the cash consideration received by the General Partner from the issuance of such shares of stock of or other interests in the General Partner;

(2) the additional Partnership Interests are issued in exchange for property owned by the General Partner (or any direct or indirect wholly-owned Subsidiary of the General Partner) with a fair market value, as determined by the General Partner, in good faith, equal to the value of the Partnership Interests; or

(3) the additional Partnership Interests are issued to all Partners in proportion to their respective Percentage Interests.

Without limiting the foregoing, the General Partner is expressly authorized (other than in the case of an issuance under clause 2 above) to cause the Partnership to issue Partnership Units for less than fair market value, so long as the General Partner concludes in good faith that such issuance is in the best interests of the General Partner and the Partnership.

(ii) Upon Issuance of Additional Securities . The General Partner shall not issue any additional REIT Shares (other than REIT Shares issued in connection with an exchange pursuant to Section 8.04 hereof) or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase REIT Shares (collectively, “Additional Securities”) other than to all holders of REIT Shares, unless (A) the General Partner shall cause the Partnership to issue to the General Partner Partnership Interests or rights, options, warrants or convertible or exchangeable securities of the Partnership having designations, preferences and other rights, all such that the economic interests are substantially similar to those of the Additional Securities, and (B) the General Partner contributes the proceeds from the issuance of such Additional Securities and from any exercise of rights contained in such Additional Securities to the Partnership; provided, however, that the General Partner is allowed to issue Additional Securities in connection with an acquisition of a property to be held directly by the General Partner, but if and only if, such direct acquisition and issuance of Additional Securities have been approved and determined to be in the best interests of the General Partner and the Partnership by a majority of the Independent Directors. Without limiting the foregoing, the General Partner is expressly authorized to issue Additional Securities for less than fair market value, and the General Partner is authorized to cause the Partnership to issue to the General Partner corresponding Partnership Interests, so long as (x) the General Partner concludes in good faith that such issuance is in the best interests of the General Partner and the Partnership and (y) the General Partner contributes all proceeds from such issuance to the Partnership, including without limitation, the issuance of REIT Shares and corresponding Partnership Units pursuant to a share purchase plan providing for purchases of REIT Shares at a discount from fair market value or employee stock options that have an exercise price that is less than the fair market value of the REIT Shares, either at the time of issuance or at the time of exercise, or restricted or other stock awards. For example, in the event the General Partner issues REIT Shares for a cash purchase price and the General Partner contributes all of the proceeds of such issuance to the Partnership as required hereunder, the General Partner shall be issued a number of additional Partnership Units equal to the product of (A) the

number of such REIT Shares issued, the proceeds of which were so contributed, multiplied by (B) a fraction, the numerator of which is 100%, and the denominator of which is the Conversion Factor in effect on the date of such contribution.

(b) Certain Contributions of Proceeds of Issuance of REIT Shares . In connection with any and all issuances of REIT Shares, the General Partner shall make Capital Contributions to the Partnership of the proceeds therefrom, provided that if the proceeds actually received and contributed by the General Partner are less than the gross proceeds of such issuance as a result of any underwriter’s discount (or other expenses paid or incurred in connection with such issuance, which shall be REIT Expenses hereunder), then the General Partner shall make a Capital Contribution of such net proceeds to the Partnership but shall receive additional Partnership Units with a value equal to the aggregate amount of the gross proceeds of such issuance pursuant to Section 4.02(a) hereof. Upon any such Capital Contribution by the General Partner, the General Partner shall be deemed to have made a Capital Contribution in the amount of the gross proceeds of the issuance and the General Partner’s Capital Account shall be increased pursuant to Section 4.04 hereof by such amount.

(c) General Partner Repurchase of Capital Stock. If the General Partner shall repurchase shares of any class of its capital stock, the purchase price thereof and all costs incurred in connection with such repurchase shall be reimbursed to the General Partner by the Partnership pursuant to Section 6.05 hereof and the General Partner shall cause the Partnership to redeem an equivalent number of Partnership Interests of the appropriate class held by the General Partner (which, in the case of Common Shares, shall be a number equal to the quotient of the number of such Common Shares divided by the Conversion Factor) in the manner provided in Section 6.10.

4.03 Additional Funding; Additional Contribution Obligations . (a) If the General Partner determines that it is in the best interests of the Partnership to provide for additional Partnership funds (“Additional Funds”) for any Partnership purpose, the General Partner may (i) cause the Partnership to obtain such funds from outside borrowings, or (ii) elect to have the General Partner or any of its Affiliates provide such Additional Funds to the Partnership through loans or otherwise. Subject to the provisions of Section 6.05, no person shall have any preemptive, preferential or similar right or rights to subscribe for or acquire any Partnership Interests except as set forth in this Article.

(b) With the consent of the General Partner, a Partner may incur an obligation to make an additional capital contribution to the Partnership in order to permit the Partnership to pay the principal on any indebtedness of the Partnership (a “Contribution Obligation”) to the extent, but only to the extent, that the General Partner determines that such Contribution Obligation is necessary in order for the Partnership to be able to allocate indebtedness of the Partnership to the Partner pursuant to Regulations Section 1.752-2. A Contribution Obligation shall not increase in any manner the Percentage Interest of the Partner that has the Contribution Obligation.

4.04 Capital Accounts . A separate capital account (a “Capital Account”) shall be established and maintained for each Partner in accordance with Regulations Section 1.704-1(b)(2)(iv). If (i) a new or existing Partner acquires an additional Partnership Interest in exchange for more than a de minimis Capital Contribution, (ii) the Partnership distributes to a Partner more than a de minimis amount of Partnership property as consideration for a Partnership Interest (iii) the Partnership grants a Partnership Interest (other than a de minimis Partnership Interest) as consideration for the provision of services to or for the benefit of the Partnership by an existing Partner acting in a Partner capacity, or by a new Partner acting in a Partner Capacity, or in anticipation of being a Partner; or (iv) the Partnership is liquidated within the meaning of Regulation Section 1.704-1(b)(2)(ii)(g), the General Partner shall revalue the property of the Partnership to its fair market value (as determined by the General Partner, in its sole and absolute discretion, and taking into account Section 7701(g) of the Code) in accordance with Regulations Section 1.704-1(b)(2)(iv)(f). When the Partnership’s property is revalued by the General Partner, the Capital Accounts of the Partners shall be adjusted in accordance with Regulations Sections 1.704-1(b)(2)(iv)(f) and (g), which generally require such Capital Accounts to be adjusted to reflect the manner in which the unrealized gain or loss inherent in such property (that has not been reflected in the Capital Accounts previously) would be allocated among the Partners pursuant to Section 5.01 if there were a taxable disposition of such property for its fair market value (as determined by the General Partner, in its sole and absolute discretion, and taking into account Section 7701(g) of the Code) on the date of the revaluation. As of the date hereof, the Capital Account balances of the Partners are set forth on Exhibit A .

4.05 Percentage Interests . If the number of outstanding Partnership Units increases or decreases during a taxable year, each Partner’s Percentage Interest shall be adjusted by the General Partner effective as of the effective date of each such increase or decrease to a percentage equal to the number of Partnership Units held by such Partner divided by the aggregate number of Partnership Units outstanding after giving effect to such increase or decrease. If the Partners’ Percentage Interests are adjusted pursuant to this Section 4.05, the Profits and Losses for the taxable year in which the adjustment occurs shall be allocated between the part of the year ending on the day when the Partnership’s property is revalued by the General Partner and the part of the year beginning on the following day either (i) as if the taxable year had ended on the date of the adjustment or (ii) based on the number of days in each part. The General Partner, in its sole and absolute discretion, shall determine which method shall be used to allocate Profits and Losses for the taxable year in which the adjustment occurs. The allocation of Profits and Losses for the earlier part of the year shall be based on the Percentage Interests before adjustment, and the allocation of Profits and Losses for the later part shall be based on the adjusted Percentage Interests.

4.06 No Interest on Contributions . No Partner shall be entitled to interest on its Capital Contribution.

4.07 Return of Capital Contributions . No Partner shall be entitled to withdraw any part of its Capital Contribution or its Capital Account or to receive any distribution from the Partnership, except as specifically provided in this Agreement. Except as otherwise provided herein, there shall be no obligation to return to any Partner or withdrawn Partner any part of such Partner’s Capital Contribution for so long as the Partnership continues in existence.

4.08 No Third Party Beneficiary . No creditor or other third party having dealings with the Partnership shall have the right to enforce the right or obligation of any Partner to make Capital Contributions or loans or to pursue any other right or remedy hereunder or at law or in equity, it being understood and agreed that the provisions of this Agreement shall be solely for the benefit of, and may be enforced solely by, the parties hereto and their respective successors and assigns. None of the rights or obligations of the Partners herein set forth to make Capital Contributions or loans to the Partnership shall be deemed an asset of the Partnership for any purpose by any creditor or other third party, nor may such rights or obligations be sold, transferred or assigned by the Partnership or pledged or encumbered by the Partnership to secure any debt or other obligation of the Partnership or of any of the Partners. In addition, it is the intent of the parties hereto that no distribution to any Limited Partner shall be deemed a return of money or other property in violation of the Act. However, if any court of competent jurisdiction holds that, notwithstanding the provisions of this Agreement, any Limited Partner is obligated to return such money or property, such obligation shall be the obligation of such Limited Partner and not of the General Partner. Without limiting the generality of the foregoing, a deficit Capital Account of a Partner shall not be deemed to be a liability of such Partner nor an asset or property of the Partnership.

ARTICLE V

PROFITS AND LOSSES; DISTRIBUTIONS

5.01 Allocation of Profit and Loss .

(a) Profit . Profit of the Partnership for each fiscal year of the Partnership shall be allocated to the Partners, (i) first, to the General Partner to the extent of any Losses allocated to the General Partner under Section 5.01(b)(ii); and (ii) thereafter, to the Partners in accordance with their respective Percentage Interests.

(b) Loss . Loss of the Partnership for each fiscal year of the Partnership shall be allocated to (i) the Partners, in accordance with their respective Percentage Interests until the Adjusted Capital Account of each Limited Partner is reduced to zero; and (ii) thereafter, to the General Partner.

(c) Minimum Gain Chargeback . Notwithstanding any provision to the contrary, (i) any expense of the Partnership that is a “nonrecourse deduction” within the meaning of Regulations Section 1.704-2(b)(1) shall be allocated in accordance with the Partners’ respective Percentage Interests, (ii) any expense of the Partnership that is a “partner nonrecourse deduction” within the meaning of Regulations Section 1.704-2(i)(2) shall be allocated to the Partner that bears the “economic risk of loss” of such deduction in accordance with Regulations

Section 1.704-2(i)(1), (iii) if there is a net decrease in Partnership Minimum Gain within the meaning of Regulations Section 1.704-2(f)(1) for any Partnership taxable year, then, subject to the exceptions set forth in Regulations Section 1.704-2(f)(2),(3), (4) and (5), items of gain and income shall be allocated among the Partners in accordance with Regulations Section 1.704-2(f) and the ordering rules contained in Regulations Section 1.704-2(j), and (iv) if there is a net decrease in Partner Nonrecourse Debt Minimum Gain within the meaning of Regulations Section 1.704-2(i)(4) for any Partnership taxable year, then, subject to the exceptions set forth in Regulations Section 1.704(2)(g), items of gain and income shall be allocated among the Partners in accordance with Regulations Section 1.704-2(i)(4) and the ordering rules contained in Regulations Section 1.704-2(j). A Partner’s “interest in partnership profits” for purposes of determining its share of the nonrecourse liabilities of the Partnership within the meaning of Regulations Section 1.752-3(a)(3) shall be such Partner’s Percentage Interest.

(d) Qualified Income Offset . If a Partner receives in any taxable year an adjustment, allocation or distribution described in subparagraphs (4), (5) or (6) of Regulations Section 1.704-1(b)(2)(ii)(d) that causes or increases a deficit balance in such Partner’s Capital Account that exceeds the sum of such Partner’s shares of Partnership Minimum Gain and Partner Nonrecourse Debt Minimum Gain, as determined in accordance with Regulations Sections 1.704-2(g) and 1.704-2(i), such Partner shall be allocated specially for such taxable year (and, if necessary, later taxable years) items of income and gain in an amount and manner sufficient to eliminate such deficit Capital Account balance as quickly as possible as provided in Regulations Section 1.704-1(b)(2)(ii)(d). After the occurrence of an allocation of income or gain to a Partner in accordance with this Section 5.01(d), to the extent permitted by Regulations Section 1.704-1(b), items of expense or loss shall be allocated to such Partner in an amount necessary to offset the income or gain previously allocated to such Partner under this Section 5.01(d).

(e) Capital Account Deficits . Loss shall not be allocated to a Limited Partner to the extent that such allocation would cause a deficit in such Partner’s Capital Account (after reduction to reflect the items described in Regulations Section 1.704-1(b)(2)(ii)(d)(4), (5) and (6)) to exceed the sum of such Partner’s shares of Partnership Minimum Gain and Partner Nonrecourse Debt Minimum Gain. Any Loss in excess of that limitation shall be allocated to the General Partner. After the occurrence of an allocation of Loss to the General Partner in accordance with this Section 5.01(e), to the extent permitted by Regulations Section 1.704-1(b), Profit shall be allocated to the General Partner in an amount necessary to offset the Loss previously allocated to the General Partner under this Section 5.01(e).

(f) Allocations Between Transferor and Transferee . If a Partner transfers any part or all of its Partnership Interest, the distributive shares of the various items of Profit and Loss allocable among the Partners during such fiscal year of the Partnership shall be allocated between the transferor and the transferee Partner either (i) as if the Partnership’s fiscal year had ended on the date of the transfer, or (ii) based on the number of days of such fiscal year that each was a Partner without regard to the results of Partnership activities in the respective portions of such fiscal year in which the transferor and the transferee were Partners. The General Partner, in its sole and absolute discretion, shall determine which method shall be used to allocate the distributive shares of the various items of Profit and Loss between the transferor and the transferee Partner.

(g) Target Final Balance . The allocation provisions of this Agreement are intended to produce final Capital Account balances that are at levels (“Target Final Balances”) that permit liquidating distributions that are made in accordance with such final Capital Account balances to be equal to the distributions that would occur under Section 5.02 hereof if such liquidating proceeds were distributed pursuant to Section 5.02. To the extent that the allocation provisions of this Agreement would not produce the Target Final Balances, the Parties agree to take such actions as are necessary to amend such allocation provisions to produce such Target Final Balances. In furtherance of the foregoing, the General Partner is expressly authorized and directed to make such allocations of income, gain, loss and deduction (including items of gross income, gain, loss and deduction) in the year of liquidation of the Partnership so as to cause the Capital Accounts of the Parties that determine the amounts that are distributed to the Parties under Section 5.02 to be equal to the Target Final Balances.

(h) Tax Allocations . For income tax purposes under the Code and the Treasury Regulations, each Partnership item of income, gain, loss and deduction shall be allocated between the Partners as its correlative item of “book” income, gain, loss or deduction is allocated pursuant to the other subsections of Section 5.01.

(i) Section 704(c). In accordance with Code Section 704(c) and the Regulations, income, gain, loss and deduction with respect to any property contributed to the capital of the Partnership shall, solely for tax purposes, be allocated among the Partners so as to take account of any variation between the adjusted basis of such property to the Partnership for federal income tax purposes and its initial Carrying Value. In the event the Carrying Value of any Partnership asset is adjusted pursuant to the definition of Carrying Value, subsequent allocations of income, gain, loss and deduction with respect to such asset shall take account of any variation between the adjusted basis of such asset for federal income tax purposes and its Carrying Value in the same manner as under Code Section 704(c) and the Regulations. With respect to assets contributed or deemed contributed to the Partnership, the Partnership shall elect to use such method under Regulation Section 1.704-3 as the General Partner may determine.

(ii) Depreciation Recapture . Solely for tax purposes, a Partner’s share of the Partnership’s depreciation recapture recognized for tax purposes upon the disposition of Partnership property shall be computed in the manner provided for in Regulation Sections 1.704-3(a)(11), 1.1245-1(e) and 1.1250-1(f); and Code Section 11(h). The provisions of this Section 5.01(h)(ii) are intended to affect only the character of the items of gain allocated by the Partnership to the Partners, and shall not affect the aggregate amount of gain (including gain characterized under this 0 as depreciation recapture) otherwise allocable to a Partner.

(iii) Income from Loans . If and to the extent any Partner recognizes or is deemed to recognize income as a result of any loans made pursuant to this Agreement, any corresponding resulting deduction of the Partnership shall be allocated to the Partner who is charged with the income. Subject to the provisions of Code Section 704(c), if and to the extent the Partnership is deemed to recognize income as a result of any loans made pursuant to this Agreement pursuant to the rules of Code Sections 1272, 1273, 1274, 7872 or 482, or any similar provision now or hereafter in effect, such income shall be allocated to the Partner who is entitled to any corresponding resulting deduction.

(i) Section 706 . In all cases in which it is necessary to determine the Profits, Losses, or any other items allocable to any period, Profits, Losses, and any such other items shall be determined using any convention permitted under Code Section 706 as selected by the General Partner.

(j) State and Local Items . Items of income, gain, loss, deduction, credit and tax preference for state and local income tax purposes shall be allocated to and among the Partners in a manner consistent with the allocation of such items for Federal income tax purposes in accordance with the foregoing provisions of this Section 5.01.

(k) Bottom Dollar Guarantees . The Partnership expressly recognizes that certain Partners may enter into agreements to guarantee obligations or debt of the Partnership in order to cause indebtedness of the Partnership to be allocated to the Partner under Regulations Section 1.752-2. The General Partner is authorized to permit Partners to enter into such guarantees or, in situations in which a guarantee cannot be utilized for this purpose, to obtain a Contribution Obligation from the Partners under Section 4.03(b). The Partnership shall specially allocate to any Partner who has guaranteed indebtedness, or who has entered into a Contribution Obligation with respect to a specified indebtedness, the appropriate amount of such indebtedness.

5.02 Distribution of Cash .

(a) Subject to Section 5.02(c) hereof, the Partnership shall distribute cash at such times and in such amounts as are determined by the General Partner in its sole and absolute discretion, to the Partners who are Partners on the Partnership Record Date with respect to such quarter (or other distribution period) in accordance with their respective Percentage Interests on the Partnership Record Date.

(b) If a new or existing Partner acquires an additional Partnership Interest in exchange for a Capital Contribution on any date other than a Partnership Record Date, the cash distribution attributable to such additional Partnership Interest relating to the Partnership Record Date next following the issuance of such additional Partnership Interest shall be reduced in proportion to (i) the number of days that such additional Partnership Interest is held by such Partner bears to (ii) the number of days between such Partnership Record Date and the immediately preceding Partnership Record Date.

(c) Notwithstanding any other provision of this Agreement, the General Partner is authorized to take any action that it determines to be necessary or appropriate to cause the Partnership to comply with any withholding requirements established under the Code or any other federal, state or local law including, without limitation, pursuant to Sections 1441, 1442, 1445 and 1446 of the Code. To the extent that the Partnership is required to withhold and pay over to any taxing authority any amount resulting from the allocation or distribution of income to a Partner or assignee (including by reason of Section 1446 of the Code), either (i) if the actual amount to be distributed to the Partner (the “Distributable Amount”) equals or exceeds the amount required to be withheld by the Partnership (the “Withheld Amount”), the entire Distributable Amount shall be treated as a distribution of cash to such Partner, or (ii) if the Distributable Amount is less than the Withheld Amount, the excess of the Withheld Amount over the Distributable Amount shall be treated as a loan (a “Partnership Loan”) from the Partnership to the Partner on the day the Partnership pays over such amount to a taxing authority. A Partnership Loan shall be repaid upon the demand of the Partnership or, alternatively, through withholding by the Partnership with respect to subsequent distributions to the applicable Partner or assignee. In the event that a Limited Partner (a “Defaulting Limited Partner”) fails to pay any amount owed to the Partnership with respect to the Partnership Loan within 15 days after demand for payment thereof is made by the Partnership on the Limited Partner, the General Partner, in its sole and absolute discretion, may elect to make the payment to the Partnership on behalf of such Defaulting Limited Partner. In such event, on the date of payment, the General Partner shall be deemed to have extended a loan (a “General Partner Loan”) to the Defaulting Limited Partner in the amount of the payment made by the General Partner and shall succeed to all rights and remedies of the Partnership against the Defaulting Limited Partner as to that amount. Without limitation, the General Partner shall have the right to receive any distributions that otherwise would be made by the Partnership to the Defaulting Limited Partner until such time as the General Partner Loan has been paid in full, and any such distributions so received by the General Partner shall be treated as having been received by the Defaulting Limited Partner and immediately paid to the General Partner.

Any amounts treated as a Partnership Loan or a General Partner Loan pursuant to this Section 5.02(c) shall bear interest at the lesser of (i) 300 basis points above the base rate on corporate loans at large United States money center commercial banks, as published from time to time in The Wall Street Journal, or (ii) the maximum lawful rate of interest on such obligation, such interest to accrue from the date the Partnership or the General Partner, as applicable, is deemed to extend the loan until such loan is repaid in full.

(d) In no event may a Partner receive a distribution of cash with respect to a Partnership Unit if such Partner is entitled to receive a cash dividend as the holder of record of a REIT Share for which all or part of such Partnership Unit has been or will be redeemed.

5.03 REIT Distribution Requirements . The General Partner shall use its reasonable efforts to cause the Partnership to distribute amounts sufficient to enable the General Partner to pay stockholder dividends that will allow the General Partner to (i) meet its distribution requirement for qualification as a REIT as set forth in Section 857 of the Code and (ii) avoid any federal income or excise tax liability imposed by the Code, other than to the extent the General Partner elects to retain and pay income tax on its net capital gain.

5.04 No Right to Distributions in Kind . No Partner shall be entitled to demand property other than cash in connection with any distributions by the Partnership.

5.05 Limitations on Return of Capital Contributions . Notwithstanding any of the provisions of this Article V, no Partner shall have the right to receive, and the General Partner shall not have the right to make, a distribution that includes a return of all or part of a Partner’s Capital Contributions, unless after giving effect to the return of a Capital Contribution, the sum of all Partnership liabilities, other than the liabilities to a Partner for the return of his Capital Contribution, does not exceed the fair market value of the Partnership’s assets.

5.06 Distributions Upon Liquidation .

(a) Upon liquidation of the Partnership, after payment of, or adequate provision for, debts and obligations of the Partnership, including any Partner loans, any remaining assets of the Partnership shall be distributed to all Partners with positive Capital Accounts in accordance with their respective positive Capital Account balances.

(b) For purposes of Section 5.06(a), the Capital Account of each Partner shall be determined after all adjustments made in accordance with Sections 5.01 and 5.02 resulting from Partnership operations and from all sales and dispositions of all or any part of the Partnership’s assets.

(c) Any distributions pursuant to this Section 5.06 shall be made by the end of the Partnership’s taxable year in which the liquidation occurs (or, if later, within 90 days after the date of the liquidation). To the extent deemed advisable by the General Partner, appropriate arrangements (including the use of a liquidating trust) may be made to assure that adequate funds are available to pay any contingent debts or obligations.

5.07 Substantial Economic Effect . It is the intent of the Partners that the allocations of Profit and Loss under the Agreement have substantial economic effect (or be consistent with the Partners’ interests in the Partnership in the case of the allocation of losses attributable to nonrecourse debt) within the meaning of Code Section 704(b) of the Code as interpreted by the Regulations promulgated pursuant thereto. Article V and other relevant provisions of this Agreement shall be interpreted in a manner consistent with such intent.

5.08 Guaranteed Payments In the event the Partnership has breached its covenant not to dispose of certain assets as set forth in the Tax Indemnity Agreements, the Partnership shall pay to Limited Partners who were Contributors (as that term is defined in the Tax Indemnity Agreements) an amount equal to the Tax Indemnity Payment (as that term is defined in the Tax Indemnity Agreements) of such Limited Partner, such payment to be made the last day of the Partnership’s fiscal year (as such term has the same meaning in Section 10.03) in which the disposition occurred. Any Tax Indemnity Payment shall be treated as a guaranteed payment within the meaning of Code Section 707(c).

ARTICLE VI

RIGHTS, OBLIGATIONS AND

POWERS OF THE GENERAL PARTNER

6.01 Management of the Partnership .

(a) Except as otherwise expressly provided in this Agreement, the General Partner shall have full, complete and exclusive discretion to manage and control the business of the Partnership for the purposes herein stated, and shall make all decisions affecting the business and assets of the Partnership. Subject to the restrictions specifically contained in this Agreement, the powers of the General Partner shall include, without limitation, the authority to take the following actions on behalf of the Partnership:

(i) to acquire, purchase, own, operate, lease and dispose of any real property and any other property or assets including, but not limited to, notes and mortgages that the General Partner determines are necessary or appropriate in the business of the Partnership, in each case, not inconsistent with the General Partner’s qualifications as a REIT;

(ii) to construct buildings and make other improvements on the properties owned or leased by the Partnership;

(iii) to authorize, issue, sell, redeem or otherwise purchase any Partnership Interests or any securities (including secured and unsecured debt obligations of the Partnership, debt obligations of the Partnership convertible into any class or series of Partnership Interests, or options, rights, warrants or appreciation rights relating to any Partnership Interests) of the Partnership;

(iv) to borrow or lend money for the Partnership, issue or receive evidences of indebtedness in connection therewith, refinance, increase the amount of, modify, amend or change the terms of, or extend the time for the payment of, any such indebtedness, and secure indebtedness by mortgage, deed of trust, pledge or other lien on the Partnership’s assets;

(v) to pay, either directly or by reimbursement, for all operating costs and general administrative expenses of the Partnership to third parties or to the General Partner or its Affiliates;

(vi) to guarantee or become a co-maker of indebtedness of any Subsidiary of the General Partner, refinance, increase the amount of, modify, amend or change the terms of, or extend the time for the payment of, any such guarantee or indebtedness, and secure such guarantee or indebtedness by mortgage, deed of trust, pledge or other lien on the Partnership’s assets;

(vii) to use assets of the Partnership (including, without limitation, cash on hand) for any purpose consistent with this Agreement, including, without limitation, payment, either directly or by reimbursement, of all operating costs and general and administrative expenses of the General Partner, the Partnership or any Subsidiary of either, to third parties or to the General Partner as set forth in this Agreement;

(viii) to lease all or any portion of any of the Partnership’s assets, whether or not the terms of such leases extend beyond the termination date of the Partnership and whether or not any portion of the Partnership’s assets so leased are to be occupied by the lessee, or, in turn, subleased in whole or in part to others, for such consideration and on such terms as the General Partner may determine;

(ix) to prosecute, defend, arbitrate or compromise any and all claims or liabilities in favor of or against the Partnership, on such terms and in such manner as the General Partner may reasonably determine, and similarly to prosecute, settle or defend litigation with respect to the Partners, the Partnership or the Partnership’s assets;

(x) to file applications, communicate and otherwise deal with any and all governmental agencies having jurisdiction over, or in any way affecting, the Partnership’s assets or any other aspect of the Partnership business;

(xi) to make or revoke any election permitted or required of the Partnership by any taxing authority;

(xii) to maintain such insurance coverage for public liability, fire and casualty, and any and all other insurance for the protection of the Partnership, for the conservation of Partnership assets, or for any other purpose convenient or beneficial to the Partnership, in such amounts and such types, as it shall determine from time to time;

(xiii) to determine whether or not to apply any insurance proceeds for any property to the restoration of such property or to distribute the same;

(xiv) to establish one or more divisions of the Partnership, to hire and dismiss employees of the Partnership or any division of the Partnership, and to retain legal counsel, accountants, consultants, real estate brokers and such other persons as the General Partner may deem necessary or appropriate in connection with the Partnership business and to pay therefor such reasonable remuneration as the General Partner may deem reasonable and proper;

(xv) to retain other services of any kind or nature in connection with the Partnership business, and to pay therefor such remuneration as the General Partner may deem reasonable and proper;

(xvi) to negotiate and conclude agreements on behalf of the Partnership with respect to any of the rights, powers and authority conferred upon the General Partner;

(xvii) to maintain accurate accounting records and to file promptly all federal, state and local income tax returns on behalf of the Partnership;

(xviii) to distribute Partnership cash or other Partnership assets in accordance with this Agreement;

(xix) to form or acquire an interest in, and contribute property to, any further limited or general partnerships, joint ventures or other relationships that it deems desirable (including, without limitation, the acquisition of interests in, and the contributions of property to, its Subsidiaries and any other Person in which it has an equity interest from time to time);

(xx) to establish Partnership reserves for working capital, capital expenditures, contingent liabilities or any other valid Partnership purpose;

(xxi) to merge, consolidate or combine the Partnership with or into another person;

(xxii) to do any and all acts and things necessary or prudent to ensure that the Partnership will not be classified as a “publicly traded partnership” taxable as a corporation under Section 7704 of the Code;

(xxiii) to amend and restate Exhibit A hereto to reflect accurately at all times the capital contributions and percentage interests of the Partners as the same are adjusted from time to time to the extent necessary to reflect redemptions, capital contributions, the issuance of Partnership Units, the admission of any additional Limited Partners or Substitute Limited Partners or otherwise, which amendment and restatement, notwithstanding anything in this Agreement to the contrary, shall not be deemed an amendment to this Agreement, as long as the matter or event being reflected in Exhibit A hereto otherwise is authorized by this Agreement; and

(xxiv) to take such other action, execute, acknowledge, swear to or deliver such other documents and instruments, and perform any and all other acts that the General Partner deems necessary or appropriate for the formation, continuation and conduct of the business and affairs of the Partnership (including, without limitation, all actions consistent with allowing the General Partner at all times to qualify as a REIT unless the General Partner voluntarily terminates its REIT status) and to possess and enjoy all of the rights and powers of a general partner as provided by the Act.

Except as otherwise provided herein, each of the Limited Partners agrees that the General Partner is authorized to execute, deliver and perform the above mentioned agreements and transactions on behalf of the Partnership without any further act, approval or vote of the Partners, notwithstanding any other provision of this Agreement, the Act or any applicable law. The execution, delivery and performance by the General Partner of the above mentioned agreements and transactions shall not constitute a breach of any duty under this Agreement or implied in law or equity.

(b) Except as otherwise provided herein, to the extent the duties of the General Partner require expenditures of funds to be paid to third parties, the General Partner shall not have any obligations hereunder except to the extent that Partnership funds are reasonably available to it for the performance of such duties, and nothing herein contained shall be deemed to authorize or require the General Partner, in its capacity as such, to expend its individual funds for payment to third parties or to undertake any individual liability or obligation on behalf of the Partnership, and neither the General Partner nor any Limited Partner shall have any obligation to contribute to the capital of the Partnership or otherwise provide funds to enable the Partnership to fund its obligations under this section, except to the extent otherwise expressly agreed to by such Partner and the Partnership.

6.02 Delegation of Authority . The General Partner may delegate any or all of its powers, rights and obligations hereunder, and may appoint, employ, contract or otherwise deal with any Person for the transaction of the business of the Partnership, which Person may, under supervision of the General Partner, perform any acts or services for the Partnership as the General Partner may approve.

6.03 Indemnification and Exculpation of Indemnitees .

(a) The Partnership shall indemnify an Indemnitee from and against any and all losses, claims, damages, liabilities, joint or several, expenses (including reasonable legal fees and expenses), judgments, fines, settlements, and other amounts arising from any and all claims, demands, actions, suits or proceedings, civil, criminal, administrative or investigative, that relate to the operations of the Partnership as set forth in this Agreement in which any Indemnitee may be involved, or is threatened to be involved, as a party or otherwise, unless it is established that: (i) the act or omission of the Indemnitee was material to the matter giving rise to the proceeding and either was committed in bad faith or was the result of active and deliberate dishonesty; (ii) the Indemnitee actually received an improper personal benefit in money, property or services; or (iii) in the case of any criminal proceeding, the Indemnitee had reasonable cause to believe that the act or omission was unlawful. The termination of any proceeding by judgment, order or settlement does not create a presumption that the Indemnitee did not meet the requisite standard of conduct set forth in this Section 6.03(a). The termination of any proceeding by conviction or upon a plea of nolo contendere or its equivalent, or an entry of an order of probation prior to judgment, creates a rebuttable presumption that the Indemnitee acted in a manner contrary to that specified in this Section 6.03(a). Any indemnification pursuant to this Section 6.03 shall be made only out of the assets of the Partnership.

(b) The Partnership shall reimburse an Indemnitee for reasonable expenses incurred by an Indemnitee who is a party to a proceeding in advance of the final disposition of the proceeding upon receipt by the Partnership of (i) a written affirmation by the Indemnitee of the Indemnitee’s good faith belief that the standard of conduct necessary for indemnification by the Partnership as authorized in this Section 6.03 has been met, and (ii) a written undertaking by or on behalf of the Indemnitee to repay the amount if it shall ultimately be determined that the standard of conduct has not been met.

(c) The indemnification provided by this Section 6.03 shall be in addition to any other rights to which an Indemnitee or any other Person may be entitled under any agreement, pursuant to any vote of the Partners, as a matter of law or otherwise, and shall continue as to an Indemnitee who has ceased to serve in such capacity.

(d) The Partnership may, but shall not be obligated to, purchase and maintain insurance, on behalf of the Indemnitees and such other Persons as the General Partner shall determine, against any liability that may be asserted against or expenses that may be incurred by such Person in connection with the Partnership’s activities, regardless of whether the Partnership would have the power to indemnify such Person against such liability under the provisions of this Agreement.

(e) For purposes of this Section 6.03, the Partnership shall be deemed to have requested an Indemnitee to serve as fiduciary of an employee benefit plan whenever the performance by it of its duties to the Partnership also imposes duties on, or otherwise involves services by, it to the plan or participants or beneficiaries of the plan; excise taxes assessed on an Indemnitee with respect to an employee benefit plan pursuant to applicable law shall constitute fines within the meaning of this Section 6.03; and actions taken or omitted by the Indemnitee with respect to an employee benefit plan in the performance of its duties for a purpose reasonably believed by it to be in the interest of the participants and beneficiaries of the plan shall be deemed to be for a purpose that is not opposed to the best interests of the Partnership.

(f) In no event may an Indemnitee subject the Limited Partners to personal liability by reason of the indemnification provisions set forth in this Agreement.

(g) An Indemnitee shall not be denied indemnification in whole or in part under this Section 6.03 because the Indemnitee had an interest in the transaction with respect to which the indemnification applies if the transaction was otherwise permitted by the terms of this Agreement.

(h) The provisions of this Section 6.03 are for the benefit of the Indemnitees, their heirs, successors, assigns and administrators and shall not be deemed to create any rights for the benefit of any other Persons.

(i) Any amendment, modification or repeal of this Section 6.03 or any provision hereof shall be prospective only and shall not in any way affect the indemnification of an Indemnitee by the Partnership under this Section 6.03 as in effect immediately prior to such amendment, modification or repeal with respect to matters occurring, in whole or in part, prior to such amendment, modification or repeal, regardless of when claims relating to such matters may arise or be asserted.

(j) If and to the extent any reimbursements to the General Partner pursuant to this section constitute gross income of the General Partner (as opposed to the repayment of advances made by the General Partner on behalf of the Partnership) such amounts shall constitute guaranteed payments within the meaning of Section 707(c) of the Code, shall be treated consistently therewith by the Partnership and all Partners, and shall not be treated as distributions for purposes of computing the Partners’ Capital Accounts.

6.04 Liability of the General Partner .

(a) The General Partner shall not be liable for the return of all or any part of the capital contributions of the Limited Partners. Any returns shall be made solely from the assets of the Partnership according to the terms of this Agreement.

(b) Notwithstanding anything to the contrary set forth in this Agreement, the General Partner, any of its directors, officers, agents or employees shall not be liable for monetary damages to the Partnership or any Partners for losses sustained or liabilities incurred or benefits not derived as a result of errors in judgment or mistakes of fact or law or of any act or omission if the General Partner acted in good faith. The General Partner shall not be in breach of any duty that the General Partner may owe to the Limited Partners or the Partnership or any other Persons under this Agreement or of any duty stated or implied by law or equity provided the General Partner, acting in good faith, abides by the terms of this Agreement.

(c) The Limited Partners expressly acknowledge that the General Partner is acting on behalf of the Partnership and the General Partner’s stockholders collectively, that the General Partner is under no obligation to consider the separate interests of the Limited Partners (including, without limitation, the tax consequences to Limited Partners or the tax consequences to some, but not all, of the Limited Partners) in deciding whether to cause the Partnership to take (or decline to take) any actions. In the event of a conflict between the interests of the stockholders of the General Partner on one hand and the Limited Partners on the other, the General Partner shall endeavor in good faith to resolve the conflict in a manner not adverse to either the stockholders of the General Partner or the Limited Partners; provided, however, that any such conflict that the General Partner, in its sole and absolute discretion, determines cannot be resolved in a manner not adverse to either the stockholders of the General Partner or the Limited Partners shall be resolved in favor of the stockholders. The General Partner shall not be liable for monetary damages for losses sustained, liabilities incurred or benefits not derived by Limited Partners in connection with such decisions.

(d) Subject to its obligations and duties as General Partner set forth in Section 6.01 hereof, the General Partner may exercise any of the powers granted to it under this Agreement and perform any of the duties imposed upon it hereunder either directly or by or through its agents. The General Partner shall not be responsible for any misconduct or negligence on the part of any such agent appointed by it in good faith.

(e) Notwithstanding any other provisions of this Agreement or the Act, any action of the General Partner on behalf of the Partnership or any decision of the General Partner to refrain from acting on behalf of the Partnership, undertaken in the good faith belief that such action or omission is necessary or advisable in order (i) to protect the ability of the General Partner to continue to qualify as a REIT or (ii) to prevent the General Partner from incurring any taxes under Section 857, Section 4981, or any other provision of the Code, is expressly authorized under this Agreement and is deemed approved by all of the Limited Partners.

(f) Any amendment, modification or repeal of this Section 6.04 or any provision hereof shall be prospective only and shall not in any way affect the limitations on the General Partner’s or any of its officer’s, director’s, agent’s or employee’s liability to the Partnership and the Limited Partners under this Section 6.04 as in effect immediately prior to such amendment, modification or repeal with respect to claims arising from or relating to matters occurring, in whole or in part, prior to such amendment, modification or repeal, regardless of when claims relating to such matters may arise or be asserted.

6.05 Partnership Obligations .

(a) Except as provided in this Section 6.05 and elsewhere in this Agreement (including the provisions of Articles V and VI regarding distributions, payments and allocations to which it may be entitled), the General Partner shall not be compensated for its services as general partner of the Partnership.

(b) All Administrative Expenses shall be obligations of the Partnership, and the General Partner shall be entitled to reimbursement by the Partnership for any expenditure (including Administrative Expenses) incurred by it on behalf of the Partnership that shall be made other than out of the funds of the Partnership.

6.06 Outside Activities . Subject to Section 6.08 hereof, the Articles of Incorporation and any agreements entered into by the General Partner or its Affiliates with the Partnership or a Subsidiary, any officer, director, employee, agent, trustee, Affiliate or stockholder of the General Partner, the General Partner shall be entitled to and may have business interests and engage in business activities in addition to those relating to the Partnership, including business interests and activities substantially similar or identical to those of the Partnership. None of the Partnership, the Limited Partners nor any other Person shall have any rights by virtue of this Agreement or the partnership relationship established hereby in any such business ventures, interests or activities, and the General Partner shall have no obligation pursuant to this Agreement to offer any interest in any such business ventures, interests and activities to the Partnership or any Limited Partner, even if such opportunity is of a character that, if presented to the Partnership or any Limited Partner, could be taken by such Person.

6.07 Employment or Retention of Affiliates .

(a) Any Affiliate of the General Partner may be employed or retained by the Partnership and may otherwise deal with the Partnership (whether as a buyer, lessor, lessee, manager, furnisher of goods or services, broker, agent, lender or otherwise) and may receive from the Partnership any compensation, price or other payment therefor that the General Partner determines to be fair and reasonable.

(b) The Partnership may lend or contribute to its Subsidiaries or other Persons in which it has an equity investment, and such Persons may borrow funds from the Partnership, on terms and conditions established in the sole and absolute discretion of the General Partner. The foregoing authority shall not create any right or benefit in favor of any Subsidiary or any other Person.

(c) The Partnership may transfer assets to joint ventures, other partnerships, corporations or other business entities in which it is or thereby becomes a participant upon such terms and subject to such conditions as the General Partner deems are consistent with this Agreement and applicable law.

6.08 General Partner Activities . The General Partner agrees that, generally, all business activities of the General Partner, including activities pertaining to the acquisition, development or ownership of property, shall be conducted through the Partnership or one or more Subsidiary Partnerships; provided, however, that the General Partner may make direct acquisitions or undertake business activities directly if such acquisitions are made in connection with the issuance of Additional Securities and the direct acquisition and issuance or the business activity has been approved by a majority of the Independent Directors.

6.09 Title to Partnership Assets . Title to Partnership assets, whether real, personal or mixed and whether tangible or intangible, shall be deemed to be owned by the Partnership as an entity, and no Partner, individually or collectively, shall have any ownership interest in such Partnership assets or any portion thereof. Title

to any or all of the Partnership assets may be held in the name of the Partnership, the General Partner or one or more nominees, as the General Partner may determine, including Affiliates of the General Partner. The General Partner hereby declares and warrants that any Partnership assets for which legal title is held in the name of the General Partner or any nominee or Affiliate of the General Partner shall be held by the General Partner for the use and benefit of the Partnership in accordance with the provisions of this Agreement; provided, however, that the General Partner shall use its best efforts to cause beneficial and record title to such assets to be vested in the Partnership as soon as reasonably practicable. All Partnership assets shall be recorded as the property of the Partnership in its books and records, irrespective of the name in which legal title to such Partnership assets is held.

6.10 Redemption of General Partner Partnership Units . In the event the General Partner redeems or repurchases any REIT Shares, then the General Partner shall cause the Partnership to purchase from the General Partner a number of Partnership Units as determined based on the application of the Conversion Factor on the same terms that the General Partner redeemed such REIT Shares.

ARTICLE VII

MATTERS CONCERNING THE GENERAL PARTNER

7.01 Transfer of the General Partner’s Partnership Interest .

(a) The General Partner shall not transfer all or any portion of its Partnership Interest or withdraw as General Partner except as provided in or in connection with a transaction contemplated by Section 7.01(c) or (d), or by Section 6.10.

(b) The General Partner agrees that its Percentage Interest will at all times be in the aggregate at least 1.0%.

(c) Except as otherwise provided in Section 7.01(d) hereof, the General Partner shall not engage in any transaction with or into another Person (other than in connection with a change in the General Partner’s state of incorporation or organizational form), in each case which results in a Change of Control of the General Partner (a “Transaction”), unless at least one of the following conditions is met:

(i) the consent of Limited Partners (other than the General Partner or any Subsidiary) holding more than 50% of the Percentage Interests of the Limited Partners (other than those held by the General Partner or any Subsidiary) is obtained; or

(ii) the consent of the Limited Partners (including the General Partner or any subsidiary) holding more than 66-2/3% of the Percentage Interests of the Limited Partners (including those held by the General Partners or any subsidiary) is obtained and, as a result of such Transaction, all Limited Partners will have the right to elect to receive, for each Partnership Unit an amount of cash, securities and other property equal in value to the product of the Conversion Factor and the greatest amount of cash, securities or other property paid in the transaction to a holder of one REIT Share in consideration of one REIT Share, provided that if, in connection with the Transaction, a purchase, tender or exchange offer (“Offer”) shall have been made to and accepted by the holders of more than 50% of the outstanding REIT Shares, each holder of Partnership Units shall be given the option to exchange its Partnership Units for the greatest amount of cash, securities and other property that a Limited Partner would have received had it (A) exercised its Redemption Right and (B) sold, tendered or exchanged pursuant to the Offer the REIT Shares received upon exercise of the Redemption Right immediately prior to the expiration of the Offer; or

(iii) the consent of the Limited Partners (including the General Partner or any subsidiary) holding more than 66-2/3% of the Percentage Interests of the Limited Partners (including those held by the General Partners or any subsidiary) is obtained and the General Partner is the surviving entity in the Transaction and either (A) the holders of REIT Shares do not receive cash, securities or other property in the Transaction or (B) all Limited Partners (other than the General Partner or any Subsidiary) receive for each Partnership Unit an amount of cash, securities and other property having a value (expressed as an

amount per REIT Share) that is no less than the product of the Conversion Factor and the greatest amount of cash, securities and other property (expressed as an amount per REIT Share) received in the transaction by any holder of REIT Shares; and

(d) Notwithstanding anything to the contrary in this Article VII,

(i) the General Partner may transfer all or any portion of its General Partnership Interest to an Affiliate of the General Partner and following a transfer of all of its General Partnership Interest, may withdraw as General Partner; and

(ii) the General Partner may engage in a transaction required by law or by the rules of any national securities exchange on which the REIT Shares are listed.

(e) Notwithstanding anything to the contrary in Section 7.01(c), in the event of a Change of Control, each Limited Partner, other than the General Partner, that has not elected to receive an amount of cash, securities or other property in connection with an Offer, shall have the right (the “Change of Control Redemption Right”) to require the Partnership to redeem on a Partner Redemption Date all or a portion of the Partnership Units held by such Limited Partner at a redemption price to be paid by the Partnership equal to the Cash Amount determined, for purposes of this Section 7.01(e), as of the date of the Change of Control. The Change of Control Redemption Right shall be exercised pursuant to a Notice of Redemption delivered to the Partnership (with a copy to the General Partner) by the Limited Partner who is exercising the Change of Control Redemption Right (the “Exercising Limited Partner”); provided that in no event may a Notice of Redemption be delivered to the Partnership by a Limited Partner in respect of a Change of Control more than 30 days following the occurrence of such Change of Control. An Exercising Limited Partner shall have no right, with respect to any Partnership Units so redeemed, to receive any distributions paid with respect to such Partnership Units if the record date for such distribution is on or after the Partner Redemption Date. The Cash Amount to be paid to an Exercising Limited Partner pursuant to this Section 7.01(e) shall be paid by the Partnership in immediately available funds on the Partner Redemption Date.

7.02 Admission of a Substitute or Additional General Partner . A Person shall be admitted as a substitute or additional General Partner of the Partnership only if the following terms and conditions are satisfied:

(a) the Person to be admitted as a substitute or additional General Partner shall have accepted and agreed to be bound by all the terms and provisions of this Agreement by executing a counterpart thereof and such other documents or instruments as may be required or appropriate in order to effect the admission of such Person as a General Partner, and a certificate evidencing the admission of such Person as a General Partner shall have been filed for recordation and all other actions required by Section 2.05 hereof in connection with such admission shall have been performed;

(b) if the Person to be admitted as a substitute or additional General Partner is a corporation or a partnership, it shall have provided the Partnership with evidence satisfactory to counsel for the Partnership of such Person’s authority to become a General Partner and to be bound by the terms and provisions of this Agreement; and

(c) counsel for the Partnership shall have rendered an opinion (relying on such opinions from other counsel as may be necessary) that the admission of the Person to be admitted as a substitute or additional General Partner is in conformity with the Act, that none of the actions taken in connection with the admission of such Person as a substitute or additional General Partner will cause (i) the Partnership to be classified other than as a partnership for federal income tax purposes, or (ii) the loss of any Limited Partner’s limited liability.

(d) such person qualifies as a REIT under the Code unless prior to such person being admitted as a substitute or additional General Partner of the Partnership, the General Partner shall have elected to terminate its status as a REIT under the Code.

7.03 Effect of Bankruptcy, Withdrawal, Death or Dissolution of a General Partner .

(a) Upon the occurrence of an Event of Bankruptcy as to a General Partner or the death, withdrawal, removal or dissolution of a General Partner (except that, if a General Partner is on the date of such occurrence a partnership, the withdrawal, death, dissolution, Event of Bankruptcy as to, or removal of a partner in, such partnership shall be deemed not to be a dissolution of such General Partner if the business of such General Partner is continued by the remaining partner or partners), the Partnership shall be dissolved and terminated unless the Partnership is continued pursuant to Section 7.03(b) hereof. The merger of a General Partner with or into any entity that is admitted as a substitute or successor General Partner pursuant to Section 7.02 hereof shall not be deemed to be the withdrawal, dissolution or removal of the General Partner.

(b) Following the occurrence of an Event of Bankruptcy as to a General Partner or the death, withdrawal, removal or dissolution of a General Partner (except that, if a General Partner is on the date of such occurrence a partnership, the withdrawal, death, dissolution, Event of Bankruptcy as to, or removal of a partner in, such partnership shall be deemed not to be a dissolution of such General Partner if the business of such General Partner is continued by the remaining partner or partners), the Limited Partners, within 90 days after such occurrence, may elect to continue the business of the Partnership for the balance of the term specified in Section 2.03 hereof by selecting, subject to Section 7.02 hereof and any other provisions of this Agreement, a substitute General Partner by consent of a Majority In Interest of the Limited Partners. If the Limited Partners elect to continue the business of the Partnership and admit a substitute General Partner, the relationship with the Partners and of any Person who has acquired an interest of a Partner in the Partnership shall be governed by this Agreement.

7.04 Removal of a General Partner .

(a) The Limited Partners may not remove the General Partner, with or without cause.

(b) If the Limited Partners elect to admit a General Partner and the Partnership is continued pursuant to Section 7.03 hereof, the General Partner shall promptly transfer and assign its General Partnership Interest in the Partnership to the substitute General Partner approved by a Majority In Interest of the Limited Partners in accordance with Section 7.03(b) hereof and otherwise admitted to the Partnership in accordance with Section 7.02 hereof. At the time of assignment, the removed General Partner shall be entitled to receive from the substitute General Partner the fair market value of the General Partnership Interest of such removed General Partner. Such fair market value shall be determined by an appraiser mutually agreed upon by the General Partner and a Majority In Interest of the Limited Partners within 10 days following the removal of the General Partner. In the event that the parties are unable to agree upon an appraiser, the removed General Partner and a Majority In Interest of the Limited Partners each shall select an appraiser. Each such appraiser shall complete an appraisal of the fair market value of the removed General Partner’s General Partnership Interest within 30 days of the General Partner’s removal, and the fair market value of the removed General Partner’s General Partnership Interest shall be the average of the two appraisals; provided, however, that if the higher appraisal exceeds the lower appraisal by more than 20% of the amount of the lower appraisal, the two appraisers, no later than 40 days after the removal of the General Partner, shall select a third appraiser who shall complete an appraisal of the fair market value of the removed General Partner’s General Partnership Interest no later than 60 days after the removal of the General Partner. In such case, the fair market value of the removed General Partner’s General Partnership Interest shall be the average of the two appraisals closest in value.

(c) The General Partnership Interest of a removed General Partner, during the time after default until transfer under Section 7.04(b), shall be converted to that of a special Limited Partner; provided, however, such removed General Partner shall not have any rights to participate in the management and affairs of the Partnership, and shall not be entitled to any portion of the income, expense, profit, gain or loss allocations or cash distributions allocable or payable, as the case may be, to the Limited Partners. Instead, such removed General Partner shall receive and be entitled only to retain distributions or allocations of such items that it would have been entitled to receive in its capacity as General Partner, until the transfer is effective pursuant to Section 7.04(b).

(d) All Partners shall have given and hereby do give such consents, shall take such actions and shall execute such documents as shall be legally necessary and sufficient to effect all the foregoing provisions of this Section.

ARTICLE VIII

RIGHTS AND OBLIGATIONS

OF THE LIMITED PARTNERS

8.01 Management of the Partnership . The Limited Partners shall not participate in the management or control of Partnership business nor shall they transact any business for the Partnership, nor shall they have the power to sign for or bind the Partnership, such powers being vested solely and exclusively in the General Partner.

8.02 Power of Attorney . Each Limited Partner, hereby irrevocably appoints the General Partner its true and lawful attorney-in-fact, who may act for each Limited Partner and in its name, place and stead, and for its use and benefit, to sign, acknowledge, swear to, deliver, file or record, at the appropriate public offices, any and all documents, certificates and instruments as may be deemed necessary or desirable by the General Partner to carry out fully the provisions of this Agreement and the Act in accordance with their terms, including amendments hereto, which power of attorney is coupled with an interest and shall survive the death, dissolution or legal incapacity of the Limited Partner, or the transfer by the Limited Partner of any part or all of its Partnership Interest.

8.03 Limitation on Liability of Limited Partners . No Limited Partner, shall be liable for any debts, liabilities, contracts or obligations of the Partnership. A Limited Partner, shall be liable to the Partnership only to make payments of its Capital Contribution, if any, as and when due hereunder. After its Capital Contribution is fully paid, no Limited Partner, except as otherwise required by the Act, be required to make any further Capital Contributions or other payments or lend any funds to the Partnership.

8.04 Redemption Right .

(a) Subject to Sections 8.04(b), 8.04(c), 8.04(d), 8.04(e) and 8.04(f) and the provisions of any agreements between the Partnership and one or more Limited Partners with respect to Partnership Units held by them and any restriction agreed to in writing between the Redeeming Limited Partner and the General Partner or Partnership, each Limited Partner, other than the General Partner, shall have the right (the “Redemption Right”) to require the Partnership to redeem on a Specified Redemption Date all or a portion of the Partnership Units that have been held by such Limited Partner for at least one year at a redemption price equal to and in the form of the Redemption Amount to be paid by the Partnership. The Redemption Right shall be exercised pursuant to a Notice of Redemption delivered to the Partnership (with a copy to the General Partner) by the Limited Partner who is exercising the Redemption Right (the “Redeeming Limited Partner”); provided, however, that the Partnership shall, in its sole and absolute discretion, have the option to deliver either the Cash Amount or the REIT Shares Amount; provided, further, that the Partnership shall not be obligated to satisfy such Redemption Right if the General Partner elects to purchase the Partnership Units subject to the Notice of Redemption; and provided, further, that no Limited Partner may deliver more than two Notices of Redemption during each calendar year. Subject to the immediately succeeding sentence, a Limited Partner may not, without the consent of the General Partner, exercise the Redemption Right for less than 1,000 Partnership Units. If a Limited Partner holds less than 1,000 Partnership Units, such Limited Partner may, without the consent of the General Partner, exercise the Redemption Right for all of the Partnership Units held by such Partner. The Redeeming Limited Partner shall have no right, with respect to any Partnership Units so redeemed, to receive any distribution paid with respect to such Partnership Units if the record date for such distribution is on or after the Specified Redemption Date. The Redemption Right of each Limited Partner shall be in addition to the Change of Control Redemption Right and none of the limitations set forth in Sections 8.04(b), 8.04(c), 8.04(d) and 8.04(f) shall apply to or limit the obligations of the Partnership or the rights of the Limited Partners under Section 7.01(e).

(b) Notwithstanding the provisions of Section 8.04(a), a Limited Partner that exercises the Redemption Right shall be deemed to have offered to sell the Partnership Units described in the Notice of Redemption to the General Partner, and the General Partner may, in its sole and absolute discretion, elect to purchase directly and acquire such Partnership Units by paying to the Redeeming Limited Partner either the Cash Amount or the REIT Shares Amount, as elected by the General Partner (in its sole and absolute discretion), on the Specified Redemption Date, whereupon the General Partner shall acquire the Partnership Units offered for redemption by the Redeeming Limited Partner and shall be treated for all purposes of this Agreement as the owner of such Partnership Units. If the General Partner shall elect to exercise its right to purchase Partnership Units under this Section 8.04(b) with respect to a Notice of Redemption, it shall so notify the Redeeming Limited Partner within five Business Days after the receipt by the General Partner of such Notice of Redemption.

In the event the General Partner shall exercise its right to purchase Partnership Units with respect to the exercise of a Redemption Right, the Partnership shall have no obligation to pay any amount to the Redeeming Limited Partner with respect to such Redeeming Limited Partner’s exercise of such Redemption Right, and each of the Redeeming Limited Partner, the Partnership and the General Partner shall treat the transaction between the General Partner and the Redeeming Limited Partner for federal income tax purposes as a sale of the Redeeming Limited Partner’s Partnership Units to the General Partner. Each Redeeming Limited Partner agrees to execute such documents as the General Partner may reasonably require in connection with the issuance of REIT Shares upon exercise of the Redemption Right.

(c) Notwithstanding the provisions of Section 8.04(a) and 8.04(b), a Limited Partner shall not be entitled to exercise the Redemption Right if the delivery of REIT Shares to such Partner on the Specified Redemption Date by the General Partner pursuant to Section 8.04(b) (regardless of whether or not the General Partner would in fact exercise its rights under Section 8.04(b)) would (i) result in such Partner or any other person owning, directly or indirectly, REIT Shares in excess of the Ownership Limitation (as defined in the Articles of Incorporation) and calculated in accordance therewith, except as provided in the Articles of Incorporation, (ii) result in REIT Shares being owned by fewer than 100 persons (determined without reference to any rules of attribution), (iii) result in the General Partner being “closely held” within the meaning of Section 856(h) of the Code, (iv) cause the General Partner to own, directly or constructively, 10% or more of the ownership interests in a tenant of the General Partner’s, the Partnership’s or a Subsidiary Partnership’s real property, within the meaning of Section 856(d)(2)(B) of the Code, (v) cause any “eligible independent contractor” that operates a “qualified lodging facility” on behalf of a “taxable REIT subsidiary” of the General Partner (as such terms are defined in Section 856(d)(9)(A), Section 856(d)(9)(D) and Section 856(1) of the Code, respectively) to fail to qualify as such, or (vi) be likely to cause the acquisition of REIT Shares or Partnership Units by such Partner to be “integrated” with any other distribution of REIT Shares for purposes of complying with the registration provisions of the Securities Act. The General Partner, in its sole and absolute discretion, may waive the restriction on redemption set forth in this Section 8.04(c).

The consummation of any redemption in exchange for REIT Shares shall be subject to the expiration or termination of any waiting period under applicable law.

(d) Any Cash Amount or REIT Shares Amount to be paid to a Redeeming Limited Partner pursuant to this Section 8.04 shall be paid on the Specified Redemption Date; provided, however, that the General Partner may elect to cause the Specified Redemption Date to be delayed for up to an additional 90 days to the extent required for the General Partner to cause additional REIT Shares to be issued to provide financing to be used to make such payment of the Cash Amount. Notwithstanding the foregoing, the General Partner agrees to use its best efforts to cause the closing of the acquisition of redeemed Partnership Units hereunder to occur as quickly as reasonably possible.

(e) Notwithstanding any other provision of this Agreement, the General Partner is authorized to take any action that it determines to be necessary or appropriate to cause the Partnership to comply with any withholding requirements established under the Code or any other federal, state or local law that apply upon a Redeeming Limited Partner’s exercise of the Redemption Right or the Change in Control Redemption Right. If a Redeeming Limited Partner or Exercising Limited Partner believes that it is exempt from such withholding upon the exercise of the Redemption Right or the Change in Control Redemption Right, such Partner must furnish the General Partner with a FIRPTA Certificate in the form attached hereto as Exhibit C. If the Partnership or the General Partner is required to withhold and pay over to any taxing authority any amount upon a Redeeming Limited Partner’s or Exercising Limited Partner’s exercise of the Redemption Right or the Change in Control Redemption Right, as the case may be and if the Redemption Amount (or the Cash Amount in the case of an exercise of the Change in Control Redemption Right) equals or exceeds the Withheld Amount, the Withheld Amount shall be treated as an amount received by such Partner in redemption of its Partnership Units. If, however, the Redemption Amount (or the Cash Amount in the case of an exercise of the Change in Control Redemption Right) is less than the Withheld Amount, the Redeeming Limited Partner or Exercising Limited Partner, as the case may be, shall not receive any portion of the Redemption Amount or Cash Amount and, the Redemption Amount or Cash Amount

shall be treated as an amount received by such Partner in redemption of its Partnership Units, and the Partner shall contribute the excess of the Withheld Amount over the Redemption Amount to the Partnership before the Partnership is required to pay over such excess to a taxing authority.

(f) Notwithstanding any other provision of this Agreement, the General Partner shall place appropriate restrictions on the ability of the Limited Partners to exercise their Redemption Rights as and if deemed necessary to ensure that the Partnership does not constitute a “publicly traded partnership” taxable as a corporation under section 7704 of the Code. If and when the General Partner determines that imposing such restrictions is necessary, the General Partner shall give prompt written notice thereof (a “Restriction Notice”) to each of the Limited Partners, which notice shall be accompanied by a copy of an opinion of counsel to the Partnership that states that, in the opinion of such counsel, restrictions are necessary in order to avoid the Partnership being treated as a “publicly traded partnership” under section 7704 of the Code.

8.05 Registration . Subject to the terms of any agreement between the General Partner or the Partnership and one or more Limited Partners with respect to Partnership Units held by them:

(a) Shelf Registration of the Common Stock . Subject to the provisions set forth in Section 8.05(c), the General Partner agrees to file with the Commission, within one year following the date Partnership Units are issued, a shelf registration statement under Rule 415 of the Securities Act (a “Registration Statement”), or any similar rule that may be adopted by the Commission, covering (i) the issuance of the Common Shares issuable upon redemption of the Partnership Units (“Redemption Shares”) and/or (ii) the resale by the holder of the Redemption Shares; provided, however, that only two such Registration Statements may occur each year. In connection therewith, the General Partner will:

(i) use its best efforts to have such Registration Statement declared effective;

(ii) furnish to each holder of Redemption Shares such number of copies of prospectuses, and supplements or amendments thereto, and such other documents as such holder reasonably requests;

(iii) register or qualify the Redemption Shares covered by the Registration Statement under the securities or blue sky laws of such jurisdictions within the United States as any holder of Redemption Shares shall reasonably request, and do such other reasonable acts and things as may be required of it to enable such holders to consummate the sale or other disposition in such jurisdictions of the Redemption Shares; provided, however, that the General Partner shall not be required to (i) qualify as a foreign corporation or consent to a general or unlimited service or process in any jurisdictions in which it would not otherwise be required to be qualified or so consent or (ii) qualify as a dealer in securities; and

(iv) otherwise use its best efforts to comply with all applicable rules and regulations of the Commission.

The General Partner further agrees to supplement or make amendments to each Registration Statement, if required by the rules, regulations or instructions applicable to the registration form utilized by the General Partner or by the Securities Act or rules and regulations thereunder for such Registration Statement. Each Limited Partner agrees to furnish the General Partner, upon request, such information with respect to the Limited Partner as may be required to complete and file the Registration Statement.

(b) Listing on Securities Exchange . If the General Partner shall list or maintain the listing of any Common Shares on any securities exchange or national market system, it will at its expense and as necessary to permit the registration and sale of the Redemption Shares hereunder, list thereon, maintain and, when necessary, increase such listing to include such Redemption Shares.

(c) Registration Not Required . Notwithstanding the foregoing, the General Partner shall not be required to file or maintain the effectiveness of a registration statement relating to Redemption Shares after the first date upon which, in the opinion of counsel to the General Partner, all of the Redemption Shares covered thereby could be sold by the holders thereof in any period of three months pursuant to Rule 144 under the Securities Act, or any successor rule thereto.

(d) Allocation of Expenses . The Partnership shall pay all expenses in connection with the Registration Statement, including without limitation (i) all expenses incident to filing with the National Association of Securities Dealers, Inc., (ii) registration fees, (iii) printing expenses, (iv) accounting and legal fees and expenses, except to the extent holders of Redemption Shares elect to engage accountants or attorneys in addition to the accountants and attorneys engaged by the General Partner or the Partnership, which fees and expenses shall be for the account of the holders of the Redemption Shares, (v) accounting expenses incident to or required by any such registration or qualification and (vi) expenses of complying with the securities or blue sky laws of any jurisdictions in connection with such registration or qualification; provided , however , that neither the Partnership nor the General Partner shall be liable for (A) any discounts or commissions to any underwriter or broker attributable to the sale of Redemption Shares, or (B) any fees or expenses incurred by holders of Redemption Shares in connection with such registration that, according to the written instructions of any regulatory authority, the Partnership and the General Partner are not permitted to pay.

(e) Indemnification .

(i) In connection with the Registration Statement, the General Partner and the Partnership agree to indemnify holders of Redemption Shares within the meaning of Section 15 of the Securities Act, against all losses, claims, damages, liabilities and expenses (including reasonable costs of investigation) caused by any untrue, or alleged untrue, statement of a material fact contained in the Registration Statement, preliminary prospectus or prospectus (as amended or supplemented if the General Partner shall have furnished any amendments or supplements thereto) or caused by any omission or alleged omission, to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages, liabilities or expenses are caused by any untrue statement, alleged untrue statement, omission, or alleged omission based upon information furnished to the General Partner by the holder for use in the Registration Statement. The General Partner and each officer, director and controlling person of the General Partner shall be indemnified by each holder of Redemption Shares covered by the Registration Statement for all such losses, claims, damages, liabilities and expenses (including reasonable costs of investigation) caused by any untrue, or alleged untrue, statement or any omission, or alleged omission, based upon information furnished to the General Partner by the holder for use in the Registration Statement.

(ii) Promptly upon receipt by a party indemnified under this Section 8.05(e) of notice of the commencement of any action against such indemnified party in respect of which indemnity or reimbursement may be sought against any indemnifying party under this Section 8.05(e), such indemnified party shall notify the indemnifying party in writing of the commencement of such action, but the failure to so notify the indemnifying party shall not relieve it of any liability that it may have to any indemnified party otherwise than under this Section 8.05(e) unless such failure shall materially adversely affect the defense of such action. In case notice of commencement of any such action shall be given to the indemnifying party as above provided, the indemnifying party shall be entitled to participate in and, to the extent it may wish, jointly with any other indemnifying party similarly notified, to assume the defense of such action at its own expense, with counsel chosen by it and reasonably satisfactory to such indemnified party. The indemnified party shall have the right to employ separate counsel in any such action and participate in the defense thereof, but the reasonable fees and expenses of such counsel shall be paid by the indemnified party unless (i) the indemnifying party agrees to pay the same, (ii) the indemnifying party fails to assume the defense of such action with counsel reasonably satisfactory to the indemnified party or (iii) the named parties to any such action (including any impleaded parties) have been advised by such counsel that representation of such indemnified party and the indemnifying party by the same counsel would be inappropriate under applicable standards of professional conduct (in which case the indemnified party shall have the right to separate counsel and the indemnifying party shall pay the reasonable fees and expenses of such separate counsel, provided that, the indemnifying party shall not be liable for more than one separate counsel). No indemnifying party shall be liable for any settlement entered into without its consent.

(f) Contribution .

(i) If for any reason the indemnification provisions contemplated by Section 8.05(e) are either unavailable or insufficient to hold harmless an indemnified party in respect of any losses, claims, damages or liabilities referred to therein, then the party that would otherwise be required to provide indemnification or the indemnifying party (in either case, for purposes of this Section 8.05(f), the “Indemnifying Party”) in respect of such losses, claims, damages or liabilities, shall contribute to the amount paid or payable by the party that would otherwise be entitled to indemnification or the indemnified party (in either case, for purposes of this Section 8.05(f), the “Indemnified Party”) as a result of such losses, claims, damages, liabilities or expense, in such proportion as is appropriate to reflect the relative fault of the Indemnifying Party and the Indemnified Party, as well as any other relevant equitable considerations. The relative fault of the Indemnifying Party and Indemnified Party shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or omission or alleged omission to state a material fact related to information supplied by the Indemnifying Party or Indemnified Party, and the parties’ relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The amount paid or payable by a party as a result of the losses, claims, damages, liabilities and expenses referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by such party.

(ii) The parties hereto agree that it would not be just and equitable if contribution pursuant to this Section 8.05(f) were determined by pro rata allocation (even if the holders were treated as one entity for such purpose) or by any other method of allocation that does not take account of the equitable considerations referred to in the immediately preceding paragraph. No person or entity determined to have committed a fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any person or entity who was not guilty of such fraudulent misrepresentation.

(iii) The contribution provided for in this Section 8.05(f) shall survive the termination of this Agreement and shall remain in full force and effect regardless of any investigation made by or on behalf of any Indemnified Party.

ARTICLE IX

TRANSFERS OF PARTNERSHIP INTERESTS

9.01 Purchase for Investment .

(a) Each Limited Partner hereby represents and warrants to the General Partner and to the Partnership that (i) the acquisition of its Partnership Interests and Partnership Units is made as a principal for its account for investment purposes only and not with a view to the resale or distribution of such Partnership Interest or Partnership Units, (ii) the Limited Partner understands and agrees that its acquisition of Partnership Interests and Partnership Units are being made in reliance on an exemption from registration under the Securities Act, and (iii) the Limited Partner is an “accredited investor” as that term may be defined pursuant to the rules and regulations of the Securities and Exchange Commission from time to time.

(b) Subject to the provisions of Section 9.02, each Limited Partner agrees that it will not sell, assign or otherwise transfer his Partnership Interest or Partnership Units or any fraction thereof, whether voluntarily or by operation of law or at judicial sale or otherwise, to any Person who does not make the representations and warranties to the General Partner and the Partnership set forth in Section 9.01(a) above.

9.02 Restrictions on Transfer of Partnership Interests .

(a) Subject to the provisions of Sections 9.02(b), (c) and (d), no Limited Partner may offer, sell, assign, hypothecate, pledge or otherwise transfer all or any portion of his Partnership Interest or Partnership Units, or any of such Limited Partner’s economic rights as a Limited Partner, whether voluntarily or by operation of

law or at judicial sale or otherwise (collectively, a “Transfer”) without the written consent of the General Partner, which consent may be granted or withheld in its sole and absolute discretion. The General Partner may require, as a condition of any Transfer to which it consents, that the transferor assume all costs incurred by the Partnership in connection therewith.

(b) No Limited Partner may withdraw from the Partnership other than as a result of a permitted Transfer (i.e., a Transfer consented to as contemplated by clause (a) above or clause (c) below or a Transfer pursuant to Section 9.05 below) of all of his Partnership Units pursuant to this Article IX or pursuant to a redemption of all of his Partnership Units pursuant to Section 8.04. Upon the permitted Transfer or redemption of all of a Limited Partner’s Partnership Units, such Limited Partner shall cease to be a Limited Partner.

(c) Subject to Sections 9.02(d) and (e) below, a Limited Partner may Transfer, with the consent of the General Partner, all or a portion of his Partnership Units to (i) a parent or parent’s spouse, natural or adopted descendant or descendants, spouse of such descendant, or brother or sister, or a trust created by such Limited Partner for the benefit of such Limited Partner and/or any such person(s), of which trust such Limited Partner or any such person(s) is a trustee, (ii) a corporation, partnership or limited liability company controlled by a Person or Persons named in (i) above or (iii) if the Limited Partner is an entity, its beneficial owners.

(d) No Limited Partner may effect a Transfer of its Partnership Interest or Partnership Units, in whole or in part, if, in the opinion of legal counsel for the Partnership, such proposed Transfer would require the registration of the Partnership Interest or Partnership Units under the Securities Act or would otherwise violate any applicable federal or state securities or blue sky law (including investment suitability standards).

(e) No Transfer by a Limited Partner of its Partnership Interest or Partnership Units, in whole or in part, may be made to any Person if (i) in the opinion of legal counsel for the Partnership, the transfer would result in the Partnership being treated as a publicly traded partnership taxable as a corporation or an association taxable as a corporation (other than a qualified REIT subsidiary within the meaning of Section 856(i) of the Code) or (ii) in the opinion of legal counsel for the Partnership, it would adversely affect the ability of the General Partner to continue to qualify as a REIT or subject the General Partner to any additional taxes under Section 857 or Section 4981 of the Code.

(f) Any purported Transfer in contravention of any of the provisions of this Article IX shall be void ab initio and ineffectual and shall not be binding upon, or recognized by, the General Partner or the Partnership.

(g) Prior to the consummation of any Transfer under this Article IX, the transferor and/or the transferee shall deliver to the General Partner such opinions, certificates and other documents as the General Partner shall require in connection with such Transfer.

9.03 Admission of Substitute Limited Partner .

(a) Subject to the other provisions of this Article IX, an assignee of the Partnership Interest of a Limited Partner (which shall be understood to include any purchaser, transferee, donee or other recipient of any disposition of such Partnership Interest) or Partnership Units shall be deemed admitted as a Limited Partner of the Partnership only with the consent of the General Partner, which consent may be given or withheld by the General Partner in its sole and absolute discretion, and upon the satisfactory completion of the following:

(i) The assignee shall have accepted and agreed to be bound by the terms and provisions of this Agreement by executing a counterpart or an amendment thereof, including a revised Exhibit A, and such other documents or instruments as the General Partner may require in order to effect the admission of such Person as a Limited Partner.

(ii) To the extent required, an amended Certificate evidencing the admission of such Person as a Limited Partner shall have been signed, acknowledged and filed for record in accordance with the Act.

(iii) The assignee shall have delivered a letter containing the representation set forth in Section 9.01(a) hereof and the agreement set forth in Section 9.01(b) hereof.

(iv) If the assignee is a corporation, partnership or trust, the assignee shall have provided the General Partner with evidence satisfactory to counsel for the Partnership of the assignee’s authority to become a Limited Partner under the terms and provisions of this Agreement.

(v) The assignee shall have executed a power of attorney containing the terms and provisions set forth in Section 8.02 hereof.

(vi) The assignee shall have paid all legal fees and other expenses of the Partnership and the General Partner and filing and publication costs in connection with its substitution as a Limited Partner.

(vii) The assignee shall have obtained the prior written consent of the General Partner to its admission as a Substitute Limited Partner, which consent may be given or denied in the exercise of the General Partner’s sole and absolute discretion.

(b) For the purpose of allocating Profits and Losses and distributing cash received by the Partnership, a Substitute Limited Partner shall be treated as having become, and appearing in the records of the Partnership as, a Partner upon the filing of the Certificate described in Section 9.03(a)(ii) hereof or, if no such filing is required, the later of the date specified in the transfer documents or the date on which the General Partner has received all necessary instruments of transfer and substitution.

(c) The General Partner shall cooperate with the Person seeking to become a Substitute Limited Partner by preparing the documentation required by this Section and making all official filings and publications. The Partnership shall take all such action as promptly as practicable after the satisfaction of the conditions in this Article IX to the admission of such Person as a Limited Partner of the Partnership.

(d) The General Partner’s failure or refusal to permit a transferee of any such interests to become a Substitute Limited Partner shall not give rise to any cause of action against the Partnership or any partner.

9.04 Rights of Assignees of Partnership Interests .

(a) Subject to the provisions of Sections 9.01 and 9.02 hereof, except as required by operation of law, the Partnership shall not be obligated for any purposes whatsoever to recognize the assignment by any Limited Partner of its Partnership Interest or Partnership Units until the Partnership has received notice thereof.

(b) Any Person who is the assignee of all or any portion of a Limited Partner’s Partnership Interest or Partnership Units, but does not become a Substitute Limited Partner and desires to make a further assignment of such Partnership Interest or Partnership Units, shall be subject to all the provisions of this Article IX to the same extent and in the same manner as any Limited Partner desiring to make an assignment of its Partnership Interest or Partnership Units.

9.05 Effect of Bankruptcy, Death, Incompetence or Termination of a Limited Partner . The occurrence of an Event of Bankruptcy as to a Limited Partner, the death of a Limited Partner or a final adjudication that a Limited Partner is incompetent (which term shall include, but not be limited to, insanity) shall not cause the termination or dissolution of the Partnership, and the business of the Partnership shall continue if an order for relief in a bankruptcy proceeding is entered against a Limited Partner, the trustee or receiver of his estate or, if he dies, his executor, administrator or trustee, or, if he is finally adjudicated incompetent, his committee, guardian or conservator, shall have the rights of such Limited Partner for the purpose of settling or managing his estate property and such power as the bankrupt, deceased or incompetent Limited Partner possessed to assign all or any part of his Partnership Interest and to join with the assignee in satisfying conditions precedent to the admission of the assignee as a Substitute Limited Partner.

9.06 Joint Ownership of Interests . A Partnership Interest may be acquired by two individuals as joint tenants with right of survivorship, provided that such individuals either are married or are related and share the same home as tenants in common. The written consent or vote of both owners of any such jointly held Partnership Interest shall be required to constitute the action of the owners of such Partnership Interest; provided , however , that the written consent of only one joint owner will be required if the Partnership has been provided with evidence satisfactory to the counsel for the Partnership that the actions of a single joint owner can bind both owners under the applicable laws of the state of residence of such joint owners. Upon the death of one owner of a Partnership Interest held in a joint tenancy with a right of survivorship, the Partnership Interest shall become owned solely by the survivor as a Limited Partner and not as an assignee. The Partnership need not recognize the death of one of the owners of a jointly-held Partnership Interest until it shall have received notice of such death. Upon notice to the General Partner from either owner, the General Partner shall cause the Partnership Interest to be divided into two equal Partnership Interests, which shall thereafter be owned separately by each of the former owners.

ARTICLE X

BOOKS AND RECORDS; ACCOUNTING; TAX MATTERS

10.01 Books and Records . At all times during the continuance of the Partnership, the General Partner shall keep or cause to be kept at the Partnership’s specified office true and complete books of account in accordance with generally accepted accounting principles, including: (a) a current list of the full name and last known business address of each Partner, (b) a copy of the Certificate of Limited Partnership and all certificates of amendment thereto, (c) copies of the Partnership’s federal, state and local income tax returns and reports, (d) copies of this Agreement and any financial statements of the Partnership for the three most recent years and (e) all documents and information required under the Act. Any Partner or its duly authorized representative, upon paying the costs of collection, duplication and mailing, shall be entitled to inspect or copy such records during ordinary business hours.

10.02 Custody of Partnership Funds; Bank Accounts .

(a) All funds of the Partnership not otherwise invested shall be deposited in one or more accounts maintained in such banking or brokerage institutions as the General Partner shall determine, and withdrawals shall be made only on such signature or signatures as the General Partner may, from time to time, determine.

(b) All deposits and other funds not needed in the operation of the business of the Partnership may be invested by the General Partner in investment grade instruments (or investment companies whose portfolio consists primarily thereof), government obligations, certificates of deposit, bankers’ acceptances and municipal notes and bonds. The funds of the Partnership shall not be commingled with the funds of any other Person except for such commingling as may necessarily result from an investment in those investment companies permitted by this Section 10.02(b).

10.03 Fiscal and Taxable Year . The fiscal and taxable year of the Partnership shall be the calendar year.

10.04 Annual Tax Information and Report . Within 75 days after the end of each fiscal year of the Partnership, the General Partner shall furnish to each person who was a Limited Partner at any time during such year the tax information necessary to file such Limited Partner’s individual tax returns as shall be reasonably required by law.

10.05 Tax Matters Partner; Tax Elections; Special Basis Adjustments .

(a) The General Partner shall be the Tax Matters Partner of the Partnership within the meaning of Section 6231(a)(7) of the Code. As Tax Matters Partner, the General Partner shall have the right and obligation to take all actions authorized and required, respectively, by the Code for the Tax Matters Partner. The General Partner shall have the right to retain professional assistance in respect of any audit of the Partnership by the Service and all out-of-pocket expenses and fees incurred by the General Partner on behalf of the Partnership as Tax

Matters Partner shall constitute Partnership expenses. In the event the General Partner receives notice of a final Partnership adjustment under Section 6223(a)(2) of the Code, the General Partner shall either (i) file a court petition for judicial review of such final adjustment within the period provided under Section 6226(a) of the Code, a copy of which petition shall be mailed to all Limited Partners on the date such petition is filed, or (ii) mail a written notice to all Limited Partners, within such period, that describes the General Partner’s reasons for determining not to file such a petition.

(b) All elections required or permitted to be made by the Partnership under the Code or any applicable state or local tax law shall be made by the General Partner in its sole and absolute discretion.

(c) In the event of a transfer of all or any part of the Partnership Interest of any Partner, the Partnership, at the option of the General Partner, may elect pursuant to Section 754 of the Code to adjust the basis of the Properties. Notwithstanding anything contained in Article V of this Agreement, any adjustments made pursuant to Section 754 shall affect only the successor in interest to the transferring Partner and in no event shall be taken into account in establishing, maintaining or computing Capital Accounts for the other Partners for any purpose under this Agreement. Each Partner will furnish the Partnership with all information necessary to give effect to such election.

10.06 Reports to Limited Partners .

(a) If the General Partner is required to furnish an annual report to its stockholders containing financial statements of the General Partner or the Partnership, the General Partner will, at the same time and in the same manner, furnish such annual report to each Limited Partner. The annual financial statements shall be audited by accountants selected by the General Partner.

(b) Any Partner shall further have the right to a private audit of the books and records of the Partnership, provided such audit is made for Partnership purposes, at the expense of the Partner desiring it and is made during normal business hours.

ARTICLE XI

AMENDMENT OF AGREEMENT; MERGER

11.1 Amendment Of Agreement; Merger . The General Partner’s consent shall be required for any amendment to this Agreement. The General Partner, without the consent of the Limited Partners, may amend this Agreement in any respect; provided , however , that the following amendments shall require the consent of Limited Partners holding more than 50% of the Percentage Interests of the Limited Partners (other than those held by the General Partner or any Subsidiary):

(a) any amendment affecting the operation of the Conversion Factor or the Redemption Right (except as otherwise provided herein) in a manner adverse to the Limited Partners;

(b) any amendment that would adversely affect the rights of the Limited Partners to receive the distributions payable to them hereunder, other than with respect to the issuance of additional Partnership Units pursuant to Section 4.02 hereof;

(c) any amendment that would alter the Partnership’s allocations of Profit and Loss to the Limited Partners, other than with respect to the issuance of additional Partnership Units pursuant to Section 4.02 hereof;

4(d) any amendment that would impose on the Limited Partners any obligation to make additional Capital Contributions to the Partnership; or

(e) any amendment to this Article XI.

The General Partner, without the consent of the Limited Partners, may (i) merge or consolidate the Partnership with or into any other domestic or foreign partnership, limited partnership, limited liability company or corporation in a transaction pursuant to Section 7.01(c) and (d) hereof, or (ii) sell any, all or substantially all of the assets of the Partnership and may amend this Agreement in connection with any such transaction.

ARTICLE XII

GENERAL PROVISIONS

12.01 Notices . All communications required or permitted under this Agreement shall be in writing and shall be deemed to have been given when delivered personally or upon deposit in the United States mail, registered, postage prepaid return receipt requested, to the Partners at the addresses set forth in Exhibit A attached hereto; provided , however , that any Partner may specify a different address by notifying the General Partner in writing of such different address. Notices to the Partnership shall be delivered at or mailed to its office as set forth in Section 2.01. The Partnership may specify a different address by notifying the Partners in writing of such different address.

12.02 Survival of Rights . Subject to the provisions hereof limiting transfers, this Agreement shall be binding upon and inure to the benefit of the Partners and the Partnership and their respective legal representatives, successors, transferees and assigns.

12.03 Additional Documents . Each Partner agrees to perform all further acts and execute, swear to, acknowledge and deliver all further documents that may be reasonable, necessary, appropriate or desirable to carry out the provisions of this Agreement or the Act.

12.04 Severability . If any provision of this Agreement shall be declared illegal, invalid or unenforceable in any jurisdiction, then such provision shall be deemed to be severable from this Agreement (to the extent permitted by law) and in any event such illegality, invalidity or unenforceability shall not affect the remainder hereof.

12.05 Entire Agreement . This Agreement and exhibits attached hereto constitute the entire Agreement of the Partners and supersede all prior written agreements and prior and contemporaneous oral agreements, understandings and negotiations with respect to the subject matter hereof.

12.06 Pronouns and Plurals . When the context in which words are used in the Agreement indicates that such is the intent, words in the singular number shall include the plural and the masculine gender shall include the neuter or female gender as the context may require.

12.07 Headings . The Article headings or sections in this Agreement are for convenience only and shall not be used in construing the scope of this Agreement or any particular Article.

12.08 Counterparts . This Agreement may be executed in several counterparts, each of which shall be deemed to be an original copy and all of which together shall constitute one and the same instrument binding on all parties hereto, notwithstanding that all parties shall not have signed the same counterpart.

12.09 Governing Law . This Agreement shall be governed by and construed in accordance with the laws of the State of Delaware.

IN WITNESS WHEREOF, the parties hereto have hereunder affixed their signatures to this Agreement of Limited Partnership, all as of the day of , 2004.


GENERAL PARTNER: MHI Hospitality Corporation

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Title:		President and Chief Executive Officer

LIMITED PARTNERS:













By:
Name:
Title:

EXHIBIT B

[NOTICE OF EXERCISE OF REDEMPTION RIGHT]

[NOTICE OF EXERCISE OF CHANGE OF CONTROL REDEMPTION RIGHT]

In accordance with Section [8.04][7.01(e)] of the Agreement of Limited Partnership (the “Agreement”) of MHI Hospitality, L.P., the undersigned hereby irrevocably (i) presents for redemption Partnership Units in accordance with the terms of the Agreement and the [Change of Control] Redemption Right referred to in Section [8.04][7.01(e)] thereof, (ii) surrenders such Partnership Units and all right, title and interest therein and (iii) directs that the Cash Amount or REIT Shares Amount (as defined in the Agreement) as determined by the General Partner deliverable upon exercise of the Redemption Right be delivered to the address specified below, and if REIT Shares (as defined in the Agreement) are to be delivered, such REIT Shares be registered or placed in the name(s) and at the address(es) specified below.

Dated: ,

Name of Limited Partner:

(Signature of Limited Partner)

(Mailing Address)

(City) (State) (Zip Code)

Signature Guaranteed by:

If REIT Shares are to be issued, issue to:

Please insert social security or identifying number:

Name:

EXHIBIT C

For Redeeming Limited Partners that are entities:

CERTIFICATION OF NON-FOREIGN STATUS

Under section 1445(e) of the Internal Revenue Code of 1986, as amended (the “Code”), in the event of a disposition by a non-U.S. person of a partnership interest in a partnership in which (i) 50% or more of the value of the gross assets consists of United States real property interests (“USRPIs”), as defined in section 897(c) of the Code, and (ii) 90% or more of the value of the gross assets consists of USRPIs, cash, and cash equivalents, the transferee will be required to withhold 10% of the amount realized by the non-U.S. person upon the disposition. To inform MHI Hospitality Corporation (the “General Partner”) and MHI Hospitality, L.P. (the “Partnership”) that no withholding is required with respect to the redemption by (“Partner”) of its units of partnership interest in the Partnership, the undersigned hereby certifies the following on behalf of Partner:

1. Partner is not a foreign corporation, foreign partnership, foreign trust, or foreign estate, as those terms are defined in the Code and the Treasury regulations thereunder.

2. Partner is not a disregarded entity as defined in Treasury Regulation Section 1.1445-2(b)(2)(iii).

3. The U.S. employer identification number of Partner is .

4. The principal business address of Partner is:

and Partner’s place of incorporation is .

5. Partner agrees to inform the General Partner if it becomes a foreign person at any time during the three-year period immediately following the date of this notice.

6. Partner understands that this certification may be disclosed to the Internal Revenue Service by the General Partner and that any false statement contained herein could be punished by fine, imprisonment, or both.


PARTNER

By:

Name:

Its:

Under penalties of perjury, I declare that I have examined this certification and, to the best of my knowledge and belief, it is true, correct, and complete, and I further declare that I have authority to sign this document on behalf of Partner.



Date:								[NAME]


								Title:

For Redeeming Limited Partners that are individuals:

CERTIFICATION OF NON-FOREIGN STATUS

inform MHI Hospitality Corporation (the “General Partner”) and MHI Hospitality, L.P. (the “Partnership”) that no withholding is required with respect to my redemption of my units of partnership interest in the Partnership, I, , hereby certify the following:

1. I am not a nonresident alien for purposes of U.S. income taxation.

2. My U.S. taxpayer identification number (social security number) is .

3. My home address is: .

4. I agree to inform the General Partner promptly if I become a nonresident alien at any time during the three-year period immediately following the date of this notice.

5. I understand that this certification may be disclosed to the Internal Revenue Service by the General Partner and that any false statement contained herein could be punished by fine, imprisonment, or both.



								Name:

Under penalties of perjury, I declare that I have examined this certification and, to the best of my knowledge and belief, it is true, correct, and complete.



Date:

								Name:


FORM OF COMMON STOCK CERTIFICATE		EXHIBIT 4

COMMON STOCK

No.

CUSIP 55302L

SEE REVERSE FOR IMPORTANT NOTICE

ON TRANSFER RESTRICTIONS AND

OTHER INFORMATION

THIS CERTIFICATE IS TRANSFERABLE

IN THE CITIES OF

[graphic appears here]

MHI HOSPITALITY CORPORATION

Incorporated under the Laws of the State of Maryland

49,000,000 shares of common stock, $.01 per share

1,000,000 shares of preferred stock, $.01 per share

This certifies that is the owner of fully paid and non assessable shares of common stock of MHI Hospitality Corporation, a Maryland corporation (the “Corporation”) transferable only on the books of the Corporation by the holder hereof in person or by duly authorized attorney upon surrender of this Certificate properly endorsed. This Certificate and the shares represented hereby are issued and shall be held subject to all of the provisions of the charter of the Corporation (the “Charter”) and the Bylaws of the Corporation and any amendments thereto. This Certificate is not valid unless countersigned and registered by the Transfer Agent and Registrar.

IN WITNESS WHEREOF, the said Corporation has caused this Certificate to be signed by its duly authorized officers and to be sealed with the Seal of the Corporation.



Dated:

[Seal]

Authorized Signatures:
	Secretary	President

Countersigned and Registered:

Transfer Agent

and Registrar




By:
		Authorized Signature

IMPORTANT NOTICE

MHI HOSPITALITY CORPORATION

The Corporation will furnish to any stockholder, on request and without charge, a full statement of the information required by Section 2-211(b) of the Corporations and Associations Article of the Annotated Code of Maryland with respect to the designations and any preferences, conversion and other rights, voting powers, restrictions, limitations as to dividends and other distributions, qualifications, and terms and conditions of redemption of the stock of each class which the Corporation has authority to issue and, if the Corporation is authorized to issue any preferred or special class in series, (i) the differences in the relative rights and preferences between the shares of each series to the extent set, and (ii) the authority of the Board of Directors to set such rights and preferences of subsequent series. The foregoing summary does not purport to be complete and is subject to and qualified in its entirety by reference to the charter of the Corporation (the “Charter”), a copy of which will be sent without charge to each stockholder who so requests. Such request must be made to the Secretary of the Corporation at its principal office or to the Transfer Agent.

The shares represented by this certificate are subject to restrictions on Beneficial and Constructive Ownership and Transfer. Subject to certain further restrictions and except as expressly provided in the Corporation’s Charter, (i) no Person may Beneficially or Constructively Own shares of the Corporation’s Common Stock in excess of nine and nine-tenths percent (9.9%) of the outstanding shares of Common Stock of the Corporation unless such Person is an Excepted Holder (in which case the Excepted Holder Limit shall be applicable); (ii) no Person may Beneficially or Constructively Own shares of Capital Stock of the Corporation in excess of nine and nine-tenths percent (9.9%) of the value of the total outstanding shares of Capital Stock of the Corporation, unless such Person is an Excepted Holder (in which case the Excepted Holder Limit shall be applicable); (iii) no Person may Beneficially or Constructively Own Capital Stock that would result in the Corporation being “closely held” under Section 856(h) of the Internal Revenue Code of 1986, as amended (the “Code”) or otherwise cause the Corporation to fail to qualify as a REIT; (iv) no Person may Transfer Capital Stock to the extent such transfer would result in the Capital Stock of the Corporation being beneficially owned by fewer than one hundred (100) Persons (determined without reference to any rules of attribution), (v) no person may Constructively Own shares of Capital Stock that would cause the Corporation to Constructively Own ten percent (10%) or more of the ownership interests in a tenant of the Corporation’s real property, with the meaning of Section 856(d)(2)(B) of the Code and (vi) no person shall Constructively Own shares of Capital Stock to the extent such Constructive Ownership would cause any “eligible independent contractor” that operates a “qualified lodging facility” on behalf of a “taxable REIT subsidiary” of the Corporation (as such terms are defined in Section 856(d)(9)(A), Section 856(d)(9)(D) and Section 856(l) of the Code, respectively) to fail to qualify as such. Any Person who Beneficially or Constructively Owns or attempts to Beneficially or Constructively Own shares of Capital Stock which causes or will cause a Person to Beneficially or Constructively Own shares of Capital Stock in excess or in violation of the above limitations must immediately notify the Corporation. If any of the restrictions on transfer or ownership are violated, the shares of Capital Stock represented hereby will be automatically transferred to a Trustee of a Charitable Trust for the benefit of one or more Charitable Beneficiaries. In addition, upon the occurrence of certain events, attempted Transfers in violation of the restrictions described above may be void ab initio . All capitalized terms in this legend have the meanings defined in the Charter of the Corporation, as the same may be amended from time to time, a copy of which, including the restrictions on transfer and ownership, will be furnished to each holder of Capital Stock of the Corporation on request and without charge.

The following abbreviations, when used in the inscription on the face of this certificate, shall be construed as though they were written out in full according to applicable laws or regulations:


			UNIF GIFT MIN ACT -
TEN COM	-	as tenants in common	Custodian
TEN ENT	-	as tenants by the entireties	(Cust) (Minor)
JT TEN	-	as joint tenants with right of survivorship	under Uniform Gifts to Minors
		and not as tenants in common	Act
			(State)

For value received, hereby sell, assign and transfer unto (Please insert social security or other identifying number of assignee) (Please print or typewrite name and address, including zip code, of assignee) shares of the capital stock represented by the within Certificate, and do hereby irrevocably constitute and appoint Attorney to transfer the said stock on the books of the within named Corporation with full power of substitution in the premises.

Dated:


NOTICE:		The signature to this assignment must correspond with the name as written upon the face of the certificate in every particular, without alteration or enlargement or any change whatever.

Exhibit 5.1

December 9, 2004

MHI Hospitality Corporation

814 Capitol Landing Road

Williamsburg, Virginia 23185

Re: Registration Statement on Form S-11 (No. 333-118873)

Ladies and Gentlemen:

We have served as Maryland counsel to MHI Hospitality Corporation, a Maryland corporation (the “Company”), in connection with certain matters of Maryland law arising out of the registration of up to 6,900,000 shares (the “Shares”) of Common Stock, $.01 par value per share, of the Company (the “Common Stock”), to be issued by the Company in an underwritten public offering, covered by the above-referenced Registration Statement, and all amendments thereto (the “Registration Statement”), filed by the Company with the United States Securities and Exchange Commission (the “Commission”) under the Securities Act of 1933, as amended (the “1933 Act”). Unless otherwise defined herein, capitalized terms used herein shall have the meanings assigned to them in the Registration Statement.

In connection with our representation of the Company, and as a basis for the opinion hereinafter set forth, we have examined originals, or copies certified or otherwise identified to our satisfaction, of the following documents (hereinafter collectively referred to as the “Documents”):

1. The Registration Statement and the related form of prospectus included therein in the form in which it was transmitted to the Commission under the 1933 Act;

2. The charter of the Company (the “Charter”), certified as of a recent date by the State Department of Assessments and Taxation of Maryland (the “SDAT”);

3. The Amended and Restated Bylaws of the Company, certified as of the date hereof by an officer of the Company;

4. A certificate of the SDAT as to the good standing of the Company, dated as of a recent date;

5. Resolutions adopted by the Board of Directors of the Company (the “Board”) relating to, among other matters, (a) the authorization and filing of the Registration

MHI Hospitality Corporation

December 9, 2004

Page 2

Statement, and (b) the sale, issuance and registration of the Shares (the “Resolutions”), certified as of the date hereof by an officer of the Company;

6. A certificate executed by an officer of the Company, dated as of the date hereof; and

7. Such other documents and matters as we have deemed necessary or appropriate to express the opinion set forth below, subject to the assumptions, limitations and qualifications stated herein.

In expressing the opinion set forth below, we have assumed the following:

1. Each individual executing any of the Documents, whether on behalf of such individual or any other person, is legally competent to do so.

2. Each individual executing any of the Documents on behalf of a party (other than the Company) is duly authorized to do so.

3. Each of the parties (other than the Company) executing any of the Documents has duly and validly executed and delivered each of the Documents to which such party is a signatory, and such party’s obligations set forth therein are legal, valid and binding and are enforceable in accordance with all stated terms.

4. All Documents submitted to us as originals are authentic. The form and content of all Documents submitted to us as unexecuted drafts do not differ in any respect relevant to this opinion from the form and content of such Documents as executed and delivered. All Documents submitted to us as certified or photostatic copies conform to the original documents. All signatures on all such Documents are genuine. All public records reviewed or relied upon by us or on our behalf are true and complete. All representations, warranties, statements and information contained in the Documents are true and complete. There has been no oral or written modification of or amendment to any of the Documents, and there has been no waiver of any provision of any of the Documents, by action or omission of the parties or otherwise.

5. The Shares will not be issued in violation of any restriction or limitation contained in Article VII (Restriction on Transfer and Ownership of Shares) of the Charter.

Based upon the foregoing, and subject to the assumptions, limitations and qualifications stated herein, it is our opinion that:

MHI Hospitality Corporation

December 9, 2004

Page 3

1. The Company is a corporation duly incorporated and existing under and by virtue of the laws of the State of Maryland and is in good standing with the SDAT.

2. The issuance of the Shares has been duly authorized and, when and to the extent issued in accordance with the Registration Statement, the Resolutions and any other resolutions adopted by the Board, or a duly authorized committee thereof, relating to the Shares, the Shares will be validly issued, fully paid and nonassessable.

The foregoing opinion is limited to the laws of the State of Maryland and we do not express any opinion herein concerning any other law. We express no opinion as to compliance with any federal or state securities laws, including the securities laws of the State of Maryland, or as to federal or state laws regarding fraudulent transfers. To the extent that any matter as to which our opinion is expressed herein would be governed by any jurisdiction other than the State of Maryland, we do not express any opinion on such matter.

The opinion expressed herein is limited to the matters specifically set forth herein and no other opinion shall be inferred beyond the matters expressly stated. We assume no obligation to supplement this opinion if any applicable law changes after the date hereof or if we become aware of any fact that might change the opinion expressed herein after the date hereof.

This opinion is being furnished to you for submission to the Commission as an exhibit to the Registration Statement. We hereby consent to the filing of this opinion as an exhibit to the Registration Statement and to the use of the name of our firm therein in the section entitled “Legal Matters” in the Registration Statement. In giving this consent, we do not admit that we are within the category of persons whose consent is required by Section 7 of the 1933 Act.

Very truly yours,

/s/ Venable LLP

Exhibit 8.1

[Baker & McKenzie Letterhead Appears Here]

December 10, 2004

MHI Hospitality Corporation

814 Capitol Landing Road

Williamsburg, Virginia 23185

RE: Qualification as Real Estate Investment Trust

Ladies and Gentlemen:

We have acted as counsel to MHI Hospitality Corporation, a Maryland corporation (the “Company”), in connection with the preparation of a Registration Statement (the “Registration Statement”) on Form S-11 filed with the Securities and Exchange Commission (“SEC”) on September 9, 2004 (File No. 333-118873), as amended through the date hereof, with respect to the offer and sale (the “Offering”) of 6,000,000 shares of common stock, par value $0.01, of the Company (the “Shares”). You have requested our opinion regarding certain U.S. federal income tax matters.

The Company, directly or through MHI Hospitality, L.P., a Delaware limited partnership (the “Operating Partnership”), has contracted to acquire six (6) hotels and associated personal property (collectively, the “Hotels”). Following the Offering, the Operating Partnership or one of its subsidiary partnerships or limited liability companies (the “Subsidiary Partnerships”) will lease each Hotel to a single member limited liability company (the “TRS Lessee”) owned by MHI TRS Holding Corporation, a Maryland corporation (“TRS Holding”), pursuant to substantially similar operating lease agreements (the “Leases”). TRS Holding is a wholly owned subsidiary of the Operating Partnership that will elect to be treated as a “taxable REIT subsidiary” within the meaning of Section 856(l). ¹ The TRS Lessee will enter into substantially similar management agreements (the “Management Agreements”) with respect to each of the Hotels with MHI Hotel Services LLC (“Management Company”).

In addition, the Company, directly or through the Operating Partnership, has contracted to acquire leasehold interests in certain resort properties, and associated personal property (collectively, the “Resort Interests”). Following the Offering, the Operating Partnership or one of its Subsidiary Partnerships will sub-lease the Resort Interests to MHI Hotels Two, Inc. and MHI Hotels LLC (the “Sub-Lessees”), pursuant to substantially similar operating lease agreements (the “Sub-Leases”). Both MHI Hotels Two, Inc. and MHI Hotels LLC are affiliates of MHI Hotels Services LLC. Each of MHI Hotels Two and MHI Hotels LLC are owned 26.3% by Andrew, Kim and Christopher Sims (with a total ownership of 79%), and 9.0% owned by William Zaiser. The remaining 12% of both companies is held by Steven

¹ Unless otherwise indicated, section references are to the Internal Revenue Code of 1986, as amended, and the regulations thereunder.

Smith. The Sub-Lessees will enter into management agreements (the “Management Agreements”) with respect to the Resort Interests with the Management Company.

In giving this opinion letter, we have examined the following (collectively, the “Reviewed Documents”):

Registration Statement, and the prospectus (the “Prospectus”) filed as a part of the Registration Statement;

Form of Underwriting Agreement by and among MHI Hospitality Corporation, MHI Hospitality, L.P., BB&T Capital Markets and Underwriters;

Articles of Amendment and Restatement of MHI Hospitality Corporation (the “Articles”);

Bylaws of MHI Hospitality Corporation (the “Bylaws”);

Form of Amended and Restated Agreement of Limited Partnership of MHI Hospitality, L.P.;

Form of Opinion of Venable LLP, with respect to the legality of the shares being registered;

MHI Hospitality Corporation 2004 Omnibus Stock Incentive Plan;

Form of Executive Employment Agreement between MHI Hospitality Corporation and Andrew M. Sims;

Form of Executive Employment Agreement between MHI Hospitality Corporation and William J. Zaiser;

10.

Form of Strategic Alliance Agreement dated by and between MHI Hospitality Corporation, MHI Hospitality, L.P. and MHI Hotel Services LLC;

11.

Form of Master Management Agreement with MHI Hotels Services LLC;

12.

Contribution Agreement dated August 23, 2004 by and between the owners of Capitol Hotel Associates L.P., L.L.P. and MHI Hospitality, L.P.;

13.

Contribution Agreement dated August 23, 2004 by and between Savannah Hotel Associates LLC and MHI Hospitality, L.P.;

Page 2

14.

Contribution Agreement dated August 23, 2004 by and between KDCA Partnership, MAVAS LLC and MHI Hospitality, L.P.;

15.

Contribution Agreement dated September 8, 2004 by and between Elpizo Limited Partnership, Phileo Land Corporation and MHI Hospitality, L.P.;

16.

Asset Purchase Agreement dated August 19, 2004 by and between Accord LLC, West Laurel Corporation and MHI Hotel Services LLC;

17.

Form of Lease with the TRS Lessee;

18.

Lease Agreement dated December 31, 1993 by and between and MHI Recovery Management Inc. (predecessor in interest to MHI Hotels LLC) and the Shell Island Homeowner’s Associations, Inc.;

19.

Service Agreement dated January 1, 1994 by and between MHI Recovery Management Inc. (predecessor in interest to MHI Hotels LLC) and the Shell Island Homeowner’s Associations, Inc.;

20.

Assignment of Rental Agreement dated April 18, 2000 by and between MHI Hotels, LLC and MHI Hotels Two, Inc.;

21.

Addendum to Facilities and Service Agreement dated December 25, 2001 by and between and MHI Recovery Management Inc. (predecessor in interest to MHI Hotels LLC) and the Shell Island Homeowner’s Associations, Inc.;

22.

Lease Addendum dated July 31, 2004 by and between MHI Hotels LLC and the Shell Island Homeowner’s Associations, Inc.;

23.

Form of Agreement to Assign and Sublease Common Space Lease by and between MHI Hospitality L.P. and MHI Hotels, LLC;

24.

Form of Assignment and Assumption of Lease by and between MHI Hospitality L.P. and MHI Hotels, LLC;

25.

Form of Sublease Agreement by and between MHI Hospitality L.P. and MHI Hotels, LLC;

26.

Form of Consent of Shell Island Homeowner’s Association, Inc. to Assignment and Assumption of Lease to MHI Hospitality L.P. from MHI Hotels, LLC;

Page 3

27.

Lease Agreement dated May 12, 2003 by and between and MHI Hotels Two, Inc. and the Shell Island Homeowner’s Associations, Inc.;

28.

Lease Addendum dated July 31, 2004 by and between MHI Hotels Two, Inc. and the Shell Island Homeowner’s Associations, Inc.;

29.

Form of Agreement to Assign and Sublease Commercial Space Lease by and between MHI Hospitality L.P. and MHI Hotels Two, Inc.;

30.

Form of Assignment and Assumption of Lease by and between MHI Hospitality L.P. and MHI Hotels Two, Inc.;

31.

Form of Sublease Agreement by and between MHI Hospitality L.P. and MHI Hotels Two, Inc.;

32.

Form of Consent of Shell Island Homeowner’s Association, Inc. to Assignment and Assumption of Lease to MHI Hospitality L.P. from MHI Hotels Two, Inc.;

33.

List of Subsidiaries of MHI Hospitality Corporation;

34.

Form of Tax Indemnity and Debt Maintenance Agreement by and between MHI Hospitality Corporation, MHI Hospitality LP, and Contributors;

35.

Form of Management Restructuring Agreement by and between MHI Hospitality TRS, LLC, MHI Hotel Services LLC and MHI Hospitality, L.P.;

36.

Form of Contribution Agreement by and between MHI Hotel Services LLC, MHI Hotels, LLC and MHI Hotels Two, Inc.;

37.

Form of Loan Modification Agreement by and among Savannah Hotel Associates LLC, MHI Hospitality TRS, LLC, and MONY Life Insurance Company;

38.

Form of Agreement concerning Lease Agreement by and between MHI Hospitality TRS, LLC, and MONY Life Insurance Company;

39.

Form of Agreement concerning Hotel Management Agreement by and between MHI Hotel Services LLC, and MONY Life Insurance Company; and

Page 4

40.

Form of Guaranty Agreement by Contributors to and for the benefit of MONY Life Insurance Company.

In connection with the opinion rendered below, we have assumed, with your consent, that:

each of the Reviewed Documents (other than the Articles, the Bylaws, the Operating Partnership Agreement, the Leases, and the Management Agreements) has genuine signatures, has been duly authorized, executed, and delivered; is authentic, if an original, or is accurate, if a copy; and has not been amended;

the Articles, the Bylaws, the Operating Partnership Agreement, the Leases, and the Management Agreements will be executed in a form substantially similar to the forms filed as an exhibit to the Registration Statement;

during its taxable year ending December 31, 2004 and future taxable years, the representations contained in a certificate, dated the date hereof and executed by a duly appointed officer of the Company (the “Officer’s Certificate”), will be true for such years;

the Company will not make any amendments to its organizational documents, the Operating Partnership Agreement, or the Subsidiary Partnership Agreements after the date of this opinion that would affect its qualification as a real estate investment trust (a “REIT”) for any taxable year;

the Operating Partnership and each Subsidiary Partnership will be operated in accordance with the terms of the Operating Partnership Agreement and Subsidiary Partnership Agreements, as applicable, and in accordance with the applicable law of the state of formation;

the Company will file an election under Section 856 to be treated as a REIT for all of its taxable years;

the Company and TRS Holding will file an election on IRS Form 8875 to treat TRS Holding as a “taxable REIT subsidiary” of the Company within two (2) months and fifteen (15) days of TRS Holding’s formation; and

all of the obligations imposed by or described in the Reviewed Documents have been and will continue to be performed or satisfied in accordance with their terms.

Page 5

In connection with the opinion rendered below, we also have relied upon the correctness of the factual representations contained in the Officer’s Certificate. After reasonable inquiry, we are not aware of any facts inconsistent with the representations set forth in the Officer’s Certificate. Furthermore, where such factual representations involve terms defined in the Internal Revenue Code of 1986, as amended (the “Code”), the Treasury regulations thereunder (the “Regulations”), published rulings of the Internal Revenue Service (the “Service”), or other relevant authority, we have explained such terms to the Company’s representatives and are satisfied that the Company’s representatives understand such terms and are capable of making such factual representations.

Based on the Reviewed Documents, the assumptions set forth above, the factual representations set forth in the Officer’s Certificate, and the factual matters discussed in the Prospectus under the caption “Material Federal Income Tax Considerations” (which is incorporated herein by reference), we are of the opinion that:

(a)

the Company’s organization, actual operations through the date hereof, and proposed method of operation will enable it to qualify as a REIT pursuant to Sections 856 through 860 of the Code for its taxable year ending December 31, 2004, and in the future; and

(b)

the descriptions of the law and the legal conclusions contained in the Prospectus under the caption “Material Federal Income Tax Considerations” are correct in all material respects, and the discussion thereunder fairly summarizes the federal income tax considerations that are likely to be material to a holder of the Shares.

We will not review on a continuing basis the Company’s compliance with the documents or assumptions set forth above, or the representations set forth in the Officer’s Certificate. Accordingly, no assurance can be given that the actual results of the Company’s operations for any given taxable year will satisfy the requirements for qualification and taxation as a REIT.

The foregoing opinion is based on current provisions of the Code and the Regulations, published administrative interpretations thereof, and published court decisions. The Service has not issued Regulations or administrative interpretations with respect to various provisions of the Code relating to REIT qualification. No assurance can be given that the law will not change in a way that will prevent the Company from qualifying as a REIT.

The foregoing opinion is limited to the U.S. federal income tax matters addressed herein, and no other opinions are rendered with respect to other federal tax matters or to any issues arising under the tax laws of any other country, or any state or locality. We undertake no obligation to update the opinion expressed herein after the date of this letter.

Page 6

This opinion is being furnished to you for submission to the SEC as an exhibit to the Registration Statement. We hereby consent to the filing of this opinion as an exhibit to the Registration Statement. We also consent to the references to Baker & McKenzie LLP under the captions “Material Federal Income Tax Considerations” and “Legal Matters” in the Prospectus. In giving this consent, we do not admit that we are in the category of persons whose consent is required by Section 7 of the Securities Act of 1933, as amended, or the rules and regulations promulgated thereunder by the SEC.

Very truly yours,

/s/ Baker & McKenzie LLP

Baker & McKenzie LLP

RML/mm

Page 7

Exhibit 10.1

MHI HOSPITALITY CORPORATION

2004 LONG-TERM INCENTIVE PLAN

TABLE OF CONTENTS


2004 LONG-TERM INCENTIVE PLAN			1
1.	PURPOSE		1
2.	DEFINITIONS		1
3.	ADMINISTRATION		5
	A.	Administration	5
	B.	Powers of the Committee	5
4.	ELIGIBILITY		6
	A.	Eligibility for Awards	6
	B.	Substitution Awards	6
5.	COMMON STOCK SUBJECT TO PLAN		6
	A.	Share Reserve and Limitations on Grants	6
	B.	Reversion of Shares	7
	C.	Source of Shares	7
6.	OPTIONS		7
	A.	Award	7
	B.	Exercise Price	7
	C.	Maximum Option Period	8
	D.	Maximum Value of Options which are Incentive Stock Options	8
	E.	Nontransferability	8
	F.	Vesting and Termination of Continuous Service	9
	G.	Exercise	9
	H.	Payment	10
	I.	No Repricing of Options	11
	J.	Stockholder Rights	11
	K.	Disposition	11
7.	STOCK AWARDS		11
	A.	Restricted Stock Awards	11
	(i)	Purchase Price	11
	(ii)	Consideration	11
	(iii)	Vesting	11
	(iv)	Participant’s Termination of Service or Failure of Vesting	11
	(v)	Transferability	12
	(vi)	Additional Rights	12
	B.	Deferred Shares	12
8.	PERFORMANCE SHARES AND PERFORMANCE UNITS		13
9.	CHANGES IN CAPITAL STRUCTURE		14
	A.	No Limitations of Rights	14
	B.	Changes in Capitalization	14
	C.	Merger, Consolidation or Asset Sale	14
	D.	Limitation on Adjustment	15
10.	WITHHOLDING OF TAXES		15
11.	COMPLIANCE WITH LAW AND APPROVAL OF REGULATORY BODIES		15
	A.	General Requirements	15
	B.	Participant Representations	16


12.	GENERAL PROVISIONS		16
	A.	Effect on Employment and Service	16
	B.	Use of Proceeds	16
	C.	Unfunded Plan	16
	D.	Further Restrictions on Transfer	16
	E.	Fractional Shares	17
	F.	Rules of Construction	17
	G.	Choice of Law	17
13.	AMENDMENT AND TERMINATION		17
14.	EFFECTIVE DATE AND DURATION OF PLAN		18

MHI HOSPITALITY CORPORATION

2004 LONG-TERM INCENTIVE PLAN

1.	PURPOSE

The MHI Hospitality Corporation 2004 Long-Term Incentive Plan is intended to promote the best interests of MHI Hospitality Corporation and its stockholders by (i) assisting the Corporation and its Affiliates in the recruitment and retention of persons with ability and initiative committed to the growth and success of the business of the Corporation and (ii) providing an incentive to such persons to contribute to the growth and success of the Corporation’s business by linking the personal interests of Participants to those of the Corporation and its stockholders.

2.	DEFINITIONS

As used in this Plan the following definitions shall apply:

“Affiliate” shall mean, when used with respect to a specified entity, another entity that directly, or indirectly through one or more intermediaries, Controls or is Controlled by or is under common Control with the entity specified and any other entity in which the Corporation or any of its Affiliates has a material equity interest and which is designated as an “Affiliate” by resolution of the Committee.

“Award” means any Option, Stock Award, Performance Unit or Performance Share granted hereunder.

“Board” means the Board of Directors of the Corporation.

“ Cause” means in the case where the Participant does not have an employment, consulting or similar agreement in effect with the Corporation or its Affiliate or where there is such an agreement but it does not define “cause” (or words of like import), conduct related to the Participant’s service to the Corporation or an Affiliate for which either criminal or civil penalties against the Participant may be sought, misconduct, insubordination, material violation of the Corporation’s or its Affiliate’s policies, disclosing or misusing any confidential information or material concerning the Corporation or any Affiliate or material breach of any employment, consulting agreement or similar agreement, or in the case where the Participant has an employment agreement, consulting agreement or similar agreement that defines a termination for “cause” (or words of like import), “cause” as defined in such agreement; provided, however, that with regard to any agreement that defines “cause” on the occurrence of or in connection with a change of control, such definition of “cause” shall not apply until a change of control actually occurs and then only with regard to a termination thereafter.

“Code” means the Internal Revenue Code of 1986, and any amendments thereto.

“Committee” means the Nominating, Corporate Governance and Compensation Committee of the Board acting as administrator of this Plan pursuant to Section 3 hereof. The Committee shall consist solely of three (3) or more Directors who are (i) “independent” under the Rules of the American Stock Exchange; and (ii) at such times as an Award under this Plan by

the Corporation is subject to Section 162(m) of the Code (to the extent relief from the limitation of Section 162(m) of the Code is sought with respect to Awards and administration of the Awards by a committee of “outside directors” is required to receive such relief) “outside directors” within the meaning of Section 162(m) of the Code. Notwithstanding the preceding designation of the Committee and the qualifications for membership on the Committee, prior to the date that the Corporation has a class of equity securities registered under the Exchange Act, the “Committee” means the Board.

“Common Stock” means the common stock, $0.01 par value, of the Corporation.

“Consultant” means any person, other than an employee, performing consulting or advisory services for the Corporation or any Affiliate, or a director of an Affiliate.

“Continuous Service” means that the Participant’s service with the Corporation or an Affiliate, whether as an employee, Director or Consultant, is not interrupted or terminated. A Participant’s Continuous Service shall not be deemed to have been interrupted or terminated merely because of a change in the capacity in which the Participant renders service to the Corporation or an Affiliate as an employee, Consultant or Director or a change in the entity for which the Participant renders such service. The Participant’s Continuous Service shall be deemed to have terminated either upon an actual termination or upon the entity for which the Participant is performing services ceasing to be an Affiliate of the Corporation. The Committee shall determine whether Continuous Service shall be considered interrupted in the case of any leave of absence approved by the Corporation, including sick leave, military leave or any other personal leave.

“Control” means the possession, directly or indirectly, of the power to direct or cause the direction of the management or policies of an entity, whether through the ownership of voting securities, by contract or otherwise, and the terms “Controls” and “Controlled” shall have meanings correlative thereto.

“Corporation” means MHI Hospitality Corporation, a Maryland corporation.

“Corporation Law” means the general corporation law of the jurisdiction of incorporation of the Corporation.

“Deferral Period” means the period of time during which Deferred Shares are subject to deferral limitations under Section 7(B) of this Plan.

“Deferred Shares” means an award pursuant to Section 7(B) of this Plan of the right to receive shares of Common Stock at the end of a specified Deferral Period.

“Director” means a member of the Board.

“Disability” means that a Participant covered by a Corporation- or Affiliate-funded long term disability insurance program has incurred a total disability under such insurance program and a Participant not covered by such an insurance program has suffered a permanent and total disability within the meaning of Section 22(e)(3) of the Code or any successor statute thereto.

“Eligible Person” means an employee of the Corporation or an Affiliate (including an entity that becomes an Affiliate after the adoption of this Plan), a non-employee Director or a Consultant to the Corporation or an Affiliate (including an entity that becomes an Affiliate after the adoption of this Plan). For purposes of Awards intended to qualify as “performance-based compensation” under Section 162(m) of the Code, an Eligible Person means an Executive or other officer of the Corporation or an Affiliate (including an entity that becomes an Affiliate after the adoption of this Plan).

“Exchange Act” means the Securities Exchange Act of 1934, as amended.

“Fair Market Value” means, on any given date, the current fair market value of the shares of Common Stock as determined as follows:

(i) If the Common Stock is listed on a national securities exchange or an automated quotation service, the closing price for the day of determination as quoted on such exchange or market which is the primary market or exchange for trading of the Common Stock or if no trading occurs on such date, the last day on which trading occurred, or such other appropriate date as determined by the Committee in its discretion, as reported in The Wall Street Journal or such other source as the Committee deems reliable;

(ii) If the Common Stock is regularly quoted by a recognized securities dealer but selling prices are not reported, its Fair Market Value shall be the mean between the high and the low asked prices for the Common Stock for the day of determination; or

(iii) In the absence of an established market for the Common Stock, Fair Market Value shall be determined by the Committee in good faith relying on the advice of such valuation experts as the Committee may engage.

“Incentive Stock Option” means an Option (or portion thereof) intended to qualify for special tax treatment under Section 422 of the Code.

“Nonqualified Stock Option” means an Option (or portion thereof) which is not intended or does not for any reason qualify as an Incentive Stock Option.

“Option” means any option to purchase shares of Common Stock granted under this Plan.

“Participant” means an Eligible Person who is selected by the Committee to receive an Option, Stock Award, Performance Share or Performance Unit and is party to any Stock Option Agreement, Stock Award Agreement or Performance Agreement required by the terms of such Option, Stock Award or other Award.

“Performance Agreement” means an agreement described in Section 8(I) of this Plan. Each Performance Agreement shall be subject to the terms and conditions of this Plan and shall include such terms and conditions as the Committee shall authorize.

“Performance Objectives” means the performance objectives established pursuant to this Plan for Participants who have received grants of Performance Shares or Performance Units

or, when so determined by the Committee, Deferred Shares or Restricted Stock Awards. Performance Objectives may be described in terms of Corporation-wide objectives or objectives that are related to the performance of the individual Participant or the Affiliate, subsidiary, division, department or function within the Corporation or Affiliate in which the Participant is employed or has responsibility. Any Performance Objectives applicable to Awards to the extent that such an Award is intended to qualify as “performance-based compensation” under Section 162(m) of the Code shall be limited to specified levels of or increases in the Corporation’s or a business unit’s return on equity, earnings per share, total earnings, earnings growth, return on capital, return on assets, economic value added, earnings before interest and taxes, earnings before interest, taxes, depreciation and amortization, sales growth, gross margin return on investment, increase in the Fair Market Value of the shares, share price (including but not limited to growth measures and total shareholder return), net operating profit, cash flow (including, but not limited to, operating cash flow and free cash flow), cash flow return on investments (which equals net cash flow divided by total capital), internal rate of return, increase in net present value or expense targets. For Awards intended to qualify as “performance-based compensation” under Section 162(m) of the Code, the Committee may not adjust the formula during the Performance Period, except to make adjustments for business dispositions or acquisitions using adjustment factors that are specified in the terms of the Awards. At the discretion of the Committee, the amount paid on achievement of Performance Objectives may be less than the amount payable under the formula set forth in the grant.

“Performance Period” means a period of time established under Section 8 of this Plan within which the Performance Objectives relating to a Performance Share, Performance Unit, Deferred Share or Restricted Stock Award are to be achieved.

“Performance Share” means a bookkeeping entry that records the equivalent of one share of Common Stock awarded pursuant to Section 8 of this Plan.

“Performance Unit” means a bookkeeping entry that records a unit equivalent to the market value of our common stock at the time it is awarded pursuant to Section 8 of this Plan.

“Plan” means this MHI Hospitality Corporation 2004 Long-Term Incentive Plan.

“Restricted Stock Award” means an award of Common Stock under Section 7(A) of this Plan.

“Securities Act” means the Securities Act of 1933 as amended.

“Stock Award” means a Restricted Stock Award or award of Deferred Shares.

“Stock Award Agreement” means an agreement (written or electronic) between the Corporation and a Participant setting forth the specific terms and conditions of a Stock Award granted to the Participant under Section 7 of this Plan. Each Stock Award Agreement shall be subject to the terms and conditions of this Plan and shall include such terms and conditions as the Committee shall authorize.

“Stock Option Agreement” means an agreement (written or electronic) between the Corporation and a Participant setting forth the specific terms and conditions of an Option granted

to the Participant. Each Stock Option Agreement shall be subject to the terms and conditions of this Plan and shall include such terms and conditions as the Committee shall authorize.

“Subsidiary” means any corporation (other than the Corporation) in an unbroken chain of corporations beginning with the Corporation if each of the corporations (other than the last corporation in the unbroken chain) owns stock possessing at least fifty percent (50%) of the total combined voting power of all classes of stock in one of the other corporations in such chain.

“Ten Percent Owner” means any Eligible Person owning at the time an Option is granted more than ten percent (10%) of the total combined voting power of all classes of stock of the Corporation or of a Subsidiary. An individual shall, in accordance with Section 424(d) of the Code, be considered to own any voting stock owned (directly or indirectly) by or for his brothers, sisters, spouse, ancestors and lineal descendants and any voting stock owned (directly or indirectly) by or for a corporation, partnership, estate, trust or other entity shall be considered as being owned proportionately by or for its stockholders, partners or beneficiaries.

3.	ADMINISTRATION

A. Administration. Subject at all times to the provisions of this Plan and the delegation of authority from the Board, which delegation has been made by the adoption of this Plan by the Board, the Committee shall serve as the administrator of this Plan. If permitted by the Corporation Law, and not prohibited by the articles of incorporation or the bylaws of the Corporation, the Committee may delegate a portion of its authority to administer this Plan to an officer or officers of Corporation designated by the Committee.

B. Powers of the Committee . Subject to the provisions of this Plan, and subject at all times to the terms and conditions of the delegation of authority from the Board, the Committee shall have the authority to implement, interpret and administer this Plan. Such authority shall include, without limitation, the authority:

(i) To construe and interpret all provisions of this Plan and all Stock Option Agreements, Performance Award Agreements and Stock Award Agreements under this Plan;

(ii) To determine the Fair Market Value of Common Stock;

(iii) To select the Eligible Persons to whom Awards are granted from time-to-time hereunder;

(iv) To determine the number of shares of Common Stock covered by an Option or Stock Award, whether an Option shall be an Incentive Stock Option or Nonqualified Stock Option and such other terms and conditions, not inconsistent with the terms of this Plan, of each Award. Such terms and conditions include, but are not limited to, the exercise price of an Option, purchase price of Common Stock subject to a Stock Award, the time or times when Options or Stock Awards may be exercised or Common Stock issued thereunder, the right of the Corporation to repurchase Common Stock issued pursuant to the exercise of an Option or a Stock Award and other restrictions or limitations (in addition to those

contained in this Plan) on the forfeitability or transferability of Options, Stock Awards or Common Stock issued pursuant to Awards. Such terms may include conditions as shall be determined by the Committee and need not be uniform with respect to Participants;

(v) To determine, as necessary, that grants under this Plan satisfy one of the three conditions set forth in Rule 16b-3(d) of the Rules of the Exchange Act;

(vi) To amend, cancel, extend, renew, accept the surrender of, modify or accelerate the vesting of or lapse of restrictions on all or any portion of an outstanding Option or Restricted Stock Award, and to determine the time at which a Stock Award or Common Stock issued under this Plan may become transferable or nonforfeitable; and

(vii) To prescribe the form of Stock Option Agreements, Performance Award Agreements and Stock Award Agreements, to adopt policies and procedures for the exercise of Options or Stock Awards, including the satisfaction of withholding obligations; to adopt, amend, and rescind policies and procedures pertaining to the administration of this Plan, and to make all other determinations necessary or advisable for the administration of this Plan.

Any decision made, or action taken, by the Committee or in connection with the administration of this Plan shall be final, conclusive and binding on all persons having an interest in this Plan.

4.	ELIGIBILITY

A. Eligibility for Awards. Incentive Stock Options may be granted only to employees of the Corporation or an Affiliate. Other Awards may be granted to any Eligible Person selected by the Committee.

B. Substitution Awards. The Committee may make Stock Awards and may grant Options under this Plan by assumption, substitution or replacement of performance shares, phantom shares, stock awards, stock options or similar awards granted by another entity (including an Affiliate), if such assumption, substitution or replacement is in connection with an asset acquisition, stock acquisition, merger, consolidation or similar transaction involving the Corporation (and/or its Affiliate) and such other entity (and/or its affiliate). Notwithstanding any provision of this Plan (other than the maximum number of shares of Common Stock that may be issued under this Plan), the terms of such assumed, substituted or replaced Stock Awards or Options shall be as the Committee, in its discretion, determines is appropriate.

5.	COMMON STOCK SUBJECT TO PLAN

A. Share Reserve and Limitations on Grants. Subject to adjustment as provided in Section 9 of this Plan, the maximum aggregate number of shares of Common Stock that may be issued under this Plan pursuant to the exercise of Options and issued pursuant to Restricted Stock Awards, Deferred Shares, Performance Units or Performance Shares is 350,000 shares of

Common Stock or Performance Units, provided that of these 350,000 shares of common stock and Performance Units, the maximum aggregate number of shares of Common Stock that may be issued under this Plan pursuant to the exercise of Incentive Stock Options is 150,000. The maximum number of Awards for shares of Common Stock or Performance Units that may be granted to a Participant in any one calendar year is 175,000 for each full or fractional year during such calendar year. This limitation shall be applied as of any date by taking into account the number of shares available to be made the subject of new Awards as of such date, plus the number of shares previously issued under this Plan and the number of share subject to outstanding Awards as of such date.

B. Reversion of Shares. If an Option or Stock Award is terminated, expires or becomes unexercisable, in whole or in part, for any reason, the unissued or unpurchased shares of Common Stock which were subject thereto shall become available for future grant under this Plan. Shares of Common Stock that have been actually issued under this Plan shall not be returned to the share reserve for future grants under this Plan; except that shares of Common Stock issued pursuant to a Stock Award which are repurchased or reacquired by the Corporation at the original purchase price of such shares (including, in the case shares forfeited back to the Corporation, no purchase price), shall be returned to the share reserve for future grant under this Plan. For avoidance of doubt, this Section 5(B) shall not apply to any per Participant limit set forth in Section 5(A) above.

C. Source of Shares. Common Stock issued under this Plan may be shares of authorized and unissued Common Stock or shares of previously issued Common Stock that have been reacquired by the Corporation.

6.	OPTIONS

A. Award. In accordance with the provisions of Section 4 of this Plan, the Committee will designate each Eligible Person to whom an Option is to be granted and will specify the number of shares of Common Stock covered by such Option. The Stock Option Agreement shall specify whether the Option is an Incentive Stock Option or Nonqualified Stock Option, the vesting schedule applicable to such Option and any other terms of such Option. No Option that is intended to be an Incentive Stock Option shall be invalid for failure to qualify as an Incentive Stock Option.

B. Exercise Price. The exercise price per share for Common Stock subject to an Option shall be determined by the Committee, but shall comply with the following:

(i)

The exercise price per share for Common Stock subject to a Nonqualified Stock Option shall be not less than one hundred percent (100%) of the Fair Market Value on the date of grant.

(ii)

The exercise price per share for Common Stock subject to an Incentive Stock Option:

•

granted to a Participant who is deemed to be a Ten Percent Owner on the date such option is granted, shall not be less than one hundred ten percent (110%) of the Fair Market Value on the date of grant.

•

granted to any other Participant, shall not be less than one hundred percent (100%) of the Fair Market Value on the date of grant.

C. Maximum Option Period. The maximum period during which an Option may be exercised shall be determined by the Committee on the date of grant, except that no Option shall be exercisable after the expiration of ten years from the date such Option was granted. In the case of an Incentive Stock Option that is granted to a Participant who is or is deemed to be a Ten Percent Owner on the date of grant, such Option shall not be exercisable after the expiration of five years from the date of grant. The terms of any Option may provide that it is exercisable for a period less than such maximum period.

D. Maximum Value of Options which are Incentive Stock Options. To the extent that the aggregate Fair Market Value of the Common Stock with respect to which Incentive Stock Options granted to any person are exercisable for the first time during any calendar year (under all stock option plans of the Corporation or any of its Subsidiaries) exceeds $100,000 (or such other amount provided in Section 422 of the Code), the Options are not Incentive Stock Options. For purposes of this section, the Fair Market Value of the Common Stock will be determined as of the time the Incentive Stock Option with respect to the Common Stock is granted. This section will be applied by taking Incentive Stock Options into account in the order in which they are granted.

E. Nontransferability. Options granted under this Plan which are intended to be Incentive Stock Options shall be nontransferable except by will or by the laws of descent and distribution, and, during the lifetime of the Participant, such Incentive Stock Option shall be exercisable by only the Participant to whom the Incentive Stock Option is granted. If the Stock Option Agreement so provides or the Committee so approves, a Nonqualified Stock Option may be transferred by a Participant through a gift or domestic relations order to the Participant’s family members to the extent in compliance with applicable law including, without limitation, applicable securities laws. The holder of a Nonqualified Stock Option transferred pursuant to this section shall be bound by the same terms and conditions that governed the Option during the period that it was held by the Participant; provided that unless the Committee approves a subsequent transfer, such Option shall be nontransferable by the initial transferee of such Option except by will or by the laws of descent and distribution. Except to the extent transferability of a Nonqualified Stock Option is provided for in the Stock Option Agreement or is approved by the Committee, during the lifetime of the Participant to whom the Nonqualified Stock Option is granted, such Option may be exercised only by the Participant. No Participant shall hypothecate, or grant a security interest in, any Option granted under this Plan to the Participant, and no right or interest of a Participant in any such Option shall be liable for, or subject to, any lien, obligation, or liability of such Participant.

F. Vesting and Termination of Continuous Service. Except as otherwise provided in a Stock Option Agreement and consented to by the Committee, the following rules shall apply:

(i) Options will vest as provided in the Stock Option Agreement. An Option will be exercisable only to the extent that it is vested on the date of exercise. Vesting of an Option will cease on the date of the Participant’s termination of Continuous Service and the Option will be exercisable only to the extent the Option has vested on the date of termination of Continuous Service.

(ii) If the Participant’s termination of Continuous Service is for reason of death or Disability, the right to exercise the Option (to the extent vested) will expire on the earlier of (a) one (1) year after the date of the Participant’s termination of Continuous Service, or (b) the expiration date under the terms of the Stock Option Agreement. Until the expiration date, the Participant or, in the event of the Participant’s death (including death after termination of Continuous Service but before the right to exercise the Option expires) Participant’s heirs, legatees or legal representative may exercise the Option, except to the extent the Option was previously transferred pursuant to Section 6(E) of this Plan.

(iii) If the Participant’s termination of Continuous Service is an involuntary termination without Cause or a voluntary termination (other than a voluntary termination described in Section 6(F)(iv) ) below), the right to exercise the Option (to the extent that it is vested) will expire on the earlier of (a) three months (3) after the date of the Participant’s termination of Continuous Service, or (b) the expiration date under the terms of the Stock Option Agreement. If the Participant’s termination of Continuous Service is an involuntary termination without Cause or a voluntary termination (other than a voluntary termination described in Section 6(F)(iv) below) and the Participant dies after his or her termination of Continuous Service but before the right to exercise the Option has expired, the right to exercise the Option (to the extent vested) shall expire on the earlier of (c) one (1) year after the date of the Participant’s termination of Continuous Service or (d) the date the Option expires under the terms of the Stock Option Agreement, and, until expiration, the Participant’s heirs, legatees or legal representative may exercise the Option, except to the extent the Option was previously transferred pursuant to Section 6(E) of this Plan.

(iv) If the Participant’s termination of Continuous Service is for Cause or is a voluntary termination at any time after an event which would be grounds for termination of the Participant’s Continuous Service for Cause, the right to exercise the Option shall expire as of the date of the Participant’s termination of Continuous Service.

G. Exercise. An Option, if exercisable, shall be exercised by completion, execution and delivery of notice (written or electronic) to the Corporation of the Option which states (i) the Option holder’s intent to exercise the Option, (ii) the number of shares of Common Stock with respect to which the Option is being exercised, (iii) such other representations and agreements as may be required by the Corporation and (iv) the method for satisfying any applicable tax withholding as provided in Section 10 of this Plan. Such notice of exercise shall be provided on such form or by such method as the Committee may designate, and payment of the exercise price shall be made in accordance with Section 6(H) of this Plan. Subject to the provisions of this Plan

and the applicable Stock Option Agreement, an Option may be exercised to the extent vested in whole at any time or in part from time to time at such times and in compliance with such requirements as the Committee shall determine. A partial exercise of an Option shall not affect the right to exercise the Option from time to time in accordance with this Plan and the applicable Stock Option Agreement with respect to the remaining shares subject to the Option. At the discretion of the Committee, any Option relating only to fractional shares of Common Stock shall be deemed terminated and forfeited by the Participant, shall be null and void and shall not be exercised with respect to such fractional shares, and no further consideration shall be payable or issuable on account of such Option including, without limitation, cash.

H. Payment. Unless otherwise provided by the Stock Option Agreement, payment of the exercise price for an Option shall be made in cash or a cash equivalent acceptable to the Committee. With the consent of and in accordance with such conditions as required by the Committee including, without limitation, subjecting such exercise to applicable withholding deductions, payment of all or part of the exercise price of an Option may also be made (a) by surrendering shares of Common Stock to the Corporation, or (b) if the Common Stock is traded on an established securities market, the Committee may approve payment of the exercise price by a broker-dealer or by the Option holder with cash advanced by the broker-dealer if the exercise notice is accompanied by the Option holder’s written irrevocable instructions to deliver the Common Stock acquired upon exercise of the Option to the broker-dealer.

(i) If Common Stock is used to pay all or part of the exercise price, the sum of the cash or cash equivalent and the Fair Market Value (determined as of the date of exercise) of the shares surrendered must not be less than the exercise price of the shares for which the Option is being exercised.

(ii) On or after the date any Option other than an Incentive Stock Option is granted, the Committee may determine that payment of the exercise price may also be made in whole or part in the form of Restricted Stock or other Common Stock that is subject to a risk of forfeiture or restrictions on transfer. Unless otherwise determined by the Committee, whenever the exercise price is paid in whole or in part in accordance with this Section 6(H)(ii) , the Stock received by the Participant upon such exercise shall be subject to the same risks of forfeiture or restrictions on transfer as those that applied to the consideration surrendered by the Participant, provided that such risks of forfeiture and restrictions on transfer shall apply only to the same number of shares received by the Participant as applied to the forfeitable or restricted shares surrendered by the Participant.

(iii) On or after the date any Option is granted, the Committee may provide for the automatic grant to the Participant of a reload Option in the event that the Participant surrenders shares in satisfaction of the exercise price upon the exercise of an Option as authorized under this Section 6(H) . Each reload Option shall pertain to a number of shares equal to the number of shares utilized by the Participant to exercise the original Option, shall have an exercise price equal to Fair Market value on the date that the reload Option is granted and shall expire on the stated exercise date of the original Option.

I. No Repricing of Options. The Committee may not without the approval of the stockholders of the Corporation lower the exercise price of an outstanding Option, whether by amending the exercise price of the outstanding Option or through cancellation of the outstanding Option and reissuance of a replacement or substitute Option; provided that stockholder approval shall not be required for adjustments made in connection with a capitalization event described in Section 9(B) in order to prevent enlargement, dilution or diminishment of rights.

J. Stockholder Rights. No Participant shall have any rights as a stockholder with respect to shares subject to an Option until the date of exercise of such Option and the certificate for shares of Common Stock to be received on exercise of such Option has been issued by the Corporation.

K. Disposition. A Participant shall notify the Corporation of any sale or other disposition of Common Stock acquired pursuant to an Incentive Stock Option if such sale or disposition occurs (i) within two years of the grant of an Option or (ii) within one year of the issuance of the Common Stock to the Participant. Such notice shall be in writing and directed to the Secretary of the Corporation.

7.	STOCK AWARDS

A. Restricted Stock Awards. Each Stock Award Agreement for a Restricted Stock Award shall be in such form and shall contain such terms and conditions as the Committee shall deem appropriate. The terms and conditions of the Stock Award Agreements for Restricted Stock Awards may change from time to time, and the terms and conditions of separate Restricted Stock Awards need not be identical, but each Restricted Stock Award shall include (through incorporation of the provisions hereof by references in the agreement or otherwise) the substance of each of the following provisions.

(i) Purchase Price. The Committee may establish a purchase price for Common Stock subject to a Restricted Stock Award.

(ii) Consideration. The purchase price, if any, of Common Stock acquired pursuant to the Restricted Stock Award shall be paid either: (a) in cash at the time of purchase, or (b) in any other form of legal consideration that may be acceptable to the Committee in its discretion.

(iii) Vesting. Shares of Common Stock acquired under a Restricted Stock Award may, but need not, be subject to a share repurchase option in favor of the Corporation in accordance with a vesting schedule to be determined by the Committee. Any grant or the vesting thereon may be further conditioned upon the attainment of Performance Objectives established by the Committee in accordance with the applicable provisions of Section 8 of this Plan regarding Performance Shares and Performance Units.

(iv) Participant’s Termination of Service or Failure of Vesting. In the event of a Participant’s termination of Continuous Service before vesting or other failure of the Common Stock to vest, then, unless otherwise provided in the Stock Award Agreement, the Participant shall forfeit shares of Common Stock held by a Participant

under the terms of a Restricted Stock Award which have not vested and for which no purchase price was paid by the Participant and the Corporation may repurchase or otherwise reacquire (including by way of forfeiture by the Participant) any or all of the shares of Common Stock held by the Participant which have not vested under the terms of the Stock Award Agreement for such Restricted Stock Award and for which a purchase price was paid by the Participant at such purchase price.

(v) Transferability. Rights to acquire shares of Common Stock under a Restricted Stock Award shall be transferable by the Participant only upon such terms and conditions as are set forth in the Stock Award Agreement for such Restricted Stock Award, as the Committee shall determine in its discretion, so long as Common Stock granted under the Restricted Stock Award remains subject to the terms of the Stock Award Agreement.

(vi) Additional Rights. Any grant may require that any or all dividends or other distributions paid on the shares acquired under a Restricted Stock Award during the period of such restrictions be automatically sequestered and reinvested on an immediate or deferred basis in additional shares of Common Stock which may be subject to the same restrictions as the underlying Award or such other restrictions as the Committee shall determine. Unless provided otherwise in the Stock Award Agreement, Participants holding shares of Common Stock subject to restrictions under a Stock Award Agreement may exercise full voting rights with respect to the shares.

B. Deferred Shares. The Committee may authorize grants of Deferred Shares to Participants upon such terms and conditions as the Committee may determine in accordance with the following provisions:

(i) Each grant shall constitute the agreement by the Corporation to issue or transfer shares of Common Stock to the Participant in the future in consideration of the performance of services, subject to the fulfillment during the Deferral Period of such conditions as the Committee may specify.

(ii) Each grant may be made without additional consideration from the Participant or in consideration of a payment by the Participant that is less than the Fair Market Value on the date of grant.

(iii) Each grant shall provide that the Deferred Shares covered thereby shall be subject to a Deferral Period, which shall be fixed by the Committee on the date of grant, and any grant or sale may provide for the earlier termination of such period in the event of a change in control of the Corporation or other similar transaction or event.

(iv) During the Deferral Period, the Participant shall not have any right to transfer any rights under the subject Award, shall not have any rights of ownership in the Deferred Shares and shall not have any right to vote such shares, but the Committee may on or after the date of grant, authorize the payment of

dividend or other distribution equivalents on such shares in cash or additional shares on a current, deferred or contingent basis.

(v) Any grant of the vesting thereof may be further conditioned upon the attainment of Performance Objectives established by the Committee in accordance with the applicable provisions of Section 8 of this Plan regarding Performance Shares and Performance Units.

(vi) Each grant shall be evidenced by an agreement delivered to and accepted by the Participant and containing such terms and provisions as the Committee may determine consistent with this Plan.

8.	PERFORMANCE SHARES AND PERFORMANCE UNITS.

The Committee may also authorize grants of Performance Shares and Performance Units, which shall become payable to the Participant upon the achievement of specified Performance Objectives, upon such terms and conditions as the Committee may determine in accordance with the following provisions:

A. Each grant shall specify the number of Performance Shares or Performance Units to which it pertains.

B. The Performance Period with respect to each Performance Share or Performance Unit shall commence on the date established by the Committee and may be subject to earlier termination in the event of a change in control of the Corporation.

C. Each grant shall specify the Performance Objectives that are to be achieved by the Participant.

D. Each grant may specify in respect of the specified Performance Objectives a minimum acceptable level of achievement below which no payment will be made and may set forth a formula for determining the amount of any payment to be made if performance is at or above such minimum acceptable level but falls short of the maximum achievement of the specified Performance Objectives.

E. Each grant shall specify the time and manner of payment of Performance Shares or Performance Units that shall have been earned, and any grant may specify that any such amount may be paid by the Corporation in cash, shares of Common Stock or any combination thereof and may either grant to the Participant or reserve to the Committee the right to elect among those alternatives.

F. Any grant of Performance Shares or Performance Units may specify that the amount payable with respect thereto may not exceed a maximum specified by the Committee on the date of grant.

G. Any grant of Performance Shares may provide for the payment to the Participant of dividend or other distribution equivalents thereon in cash or additional shares of Common Stock on a current, deferred or contingent basis.

H. In the case of Awards intended to qualify as performance-based compensation for purposes of Code section 162(m), the Committee may not adjust the formula during the Performance Period, except to make adjustments for business dispositions or acquisitions, using adjustment factors that are specified in the terms of the Award. At the discretion of the Committee, the amount paid on the achievement of Performance Objectives may be less than the amount payable under the formula set forth in the grant.

I. Each grant shall be evidenced by an agreement that shall be delivered to and accepted by the Participant, which shall state that the Performance Shares or Performance Units are subject to all of the terms and conditions of this Plan and such other terms and provisions as the Committee may determine consistent with this Plan.

9.	CHANGES IN CAPITAL STRUCTURE

A. No Limitations of Rights. The existence of outstanding Options or Stock Awards shall not affect in any way the right or power of the Corporation or its stockholders to make or authorize any or all adjustments, recapitalizations, reorganizations or other changes in the Corporation’s capital structure or its business, or any merger or consolidation of the Corporation, or any issuance of bonds, debentures, preferred or prior preference stock ahead of or affecting the Common Stock or the rights thereof, or the dissolution or liquidation of the Corporation, or any sale or transfer of all or any part of its assets or business, or any other corporate act or proceeding, whether of a similar character or otherwise.

B. Changes in Capitalization. If the Corporation shall effect (i) any stock dividend, stock split, subdivision or consolidation of shares, recapitalization or other capital readjustment, (ii) any merger consolidation, separation of the Corporation (including a spin-off or split-up), reorganization, partial or complete liquidation or other distribution of assets (other than ordinary dividends or distributions) without receiving consideration therefore in money, services or property, or (iii) any other corporate transaction having a similar effect, then (iv) the number, class, and per share price or base amount of shares of Common Stock subject to outstanding Options and Stock Awards shall be equitably adjusted by the Committee as it in good faith determines is required in order to prevent enlargement, dilution, or diminishment of rights, (v) the number and class of shares of Common Stock then reserved for issuance under this Plan and the maximum number of shares for which Awards may be granted to a Participant during a specified time period shall be adjusted as the Committee deems appropriate to reflect such transaction, and (vi) the Committee shall make such modifications to the Performance Objectives for each outstanding Award as the Committee determines are appropriate in accordance with Section 2, “Performance Objectives.” The conversion of convertible securities of the Corporation shall not be treated as effected “without receiving consideration.” The Committee shall make such adjustments, and its determinations shall be final, binding and conclusive.

C. Merger, Consolidation or Asset Sale. If the Corporation is merged or consolidated with another entity or sells or otherwise disposes of substantially all of its assets to another entity while Options or Stock Awards remain outstanding under this Plan, unless provisions are made in connection with such transaction for the continuance of this Plan and/or the assumption or substitution of such Options or Stock Awards with new options or stock awards covering the stock of the successor entity, or parent or subsidiary thereof, with

appropriate adjustments as to the number and kind of shares and prices, then all outstanding Options and Stock Awards which have not been continued, assumed or for which a substituted award has not been granted shall, become-exercisable immediately prior to and terminate immediately as of the effective date of any such merger, consolidation or sale.

D. Limitation on Adjustment . Except as previously expressly provided, neither the issuance by the Corporation of shares of stock of any class, or securities convertible into shares of stock of any class, for cash or property, or for labor or services either upon direct sale or upon the exercise of rights or warrants to subscribe therefor, or upon conversion of shares or obligations of the Corporation convertible into such shares or other securities, nor the increase or decrease of the number of authorized shares of stock, nor the addition or deletion of classes of stock, shall affect, and no adjustment by reason thereof shall be made with respect to, the number, class or price of shares of Common Stock then subject to outstanding Options or Stock Awards.

10.

WITHHOLDING OF TAXES

J. The Corporation or an Affiliate shall have the right, before any certificate for any Common Stock is delivered, to deduct or withhold from any payment owed to a Participant any amount that is necessary in order to satisfy any withholding requirement that the Corporation or Affiliate in good faith believes is imposed upon it in connection with Federal, state, or local taxes, including transfer taxes, as a result of the issuance of, lapse of restrictions on, or any other income or tax event with respect to, such Common Stock, or otherwise require such Participant to make provision for payment of any such withholding amount. Subject to such conditions as may be established by the Committee, the Committee may permit a Participant to (i) have Common Stock otherwise issuable under an Option or Stock Award withheld to the extent necessary to comply with minimum statutory withholding rate requirements for supplemental income, (ii) tender back to the Corporation shares of Common Stock received pursuant to an Option or Stock Award to the extent necessary to comply with minimum statutory withholding rate requirements for supplemental income, (iii) deliver to the Corporation previously acquired Common Stock, (iv) have funds withheld from payments of wages, salary or other cash compensation due the Participant, or (v) pay the Corporation or its Affiliate in cash, in order to satisfy part or all of the obligations for any taxes required to be withheld or otherwise deducted and paid by the Corporation or its Affiliate with respect to the Option, Stock Award, Performance Share or Performance Unit.

11.

COMPLIANCE WITH LAW AND APPROVAL OF REGULATORY BODIES

A. General Requirements. No Option or Stock Award shall be exercisable, no Common Stock shall be issued, no certificates for shares of Common Stock shall be delivered, and no payment shall be made under this Plan except in compliance with all applicable federal and state laws and regulations (including, without limitation, withholding tax requirements), any listing agreement to which the Corporation is a party, and the rules of all domestic stock exchanges or quotation systems on which the Corporation’s shares may be listed. The Corporation shall have the right to rely on an opinion of its counsel as to such compliance. Any share certificate issued to evidence Common Stock when a Stock Award is granted or for which an Option or Stock Award is exercised may bear such legends and statements as the Committee

may deem advisable to assure compliance with federal and state laws and regulations. No Option or Stock Award shall be exercisable, no Stock Award shall be granted, no Common Stock shall be issued, no certificate for shares shall be delivered, and no payment shall be made under this Plan until the Corporation has obtained such consent or approval as the Committee may deem advisable from regulatory bodies having jurisdiction over such matters.

B. Participant Representations . The Committee may require that a Participant, as a condition to receipt or exercise of a particular award, execute and deliver to the Corporation a written statement, in form satisfactory to the Committee, in which the Participant represents and warrants that the shares are being acquired for such person’s own account, for investment only and not with a view to the resale or distribution thereof. The Participant shall, at the request of the Committee, be required to represent and warrant in writing that any subsequent resale or distribution of shares of Common Stock by the Participant shall be made only pursuant to either (i) a registration statement on an appropriate form under the Securities Act of 1933, which registration statement has become effective and is current with regard to the shares being sold, or (ii) a specific exemption from the registration requirements of the Securities Act of 1933, but in claiming such exemption the Participant shall, prior to any offer of sale or sale of such shares, obtain a prior favorable written opinion of counsel, in form and substance satisfactory to counsel for the Corporation, as to the application of such exemption thereto.

12.

GENERAL PROVISIONS

A. Effect on Employment and Service . Neither the adoption of this Plan, its operation, nor any documents describing or referring to this Plan (or any part thereof) shall (i) confer upon any individual any right to continue in the employ or service of the Corporation or an Affiliate, (ii) in any way affect any right and power of the Corporation or an Affiliate to change an individual’s duties or terminate the employment or service of any individual at any time with or without assigning a reason therefor, or (iii) except to the extent the Committee grants an Option or Stock Award to such individual, confer on any individual the right to participate in the benefits of this Plan.

B. Use of Proceeds. The proceeds received by the Corporation from the sale of Common Stock pursuant to this Plan shall be used for general corporate purposes.

C. Unfunded Plan. The Plan, insofar as it provides for grants, shall be unfunded, and the Corporation shall not be required to segregate any assets that may at any time be represented by grants under this Plan. Any liability of the Corporation to any person with respect to any grant under this Plan shall be based solely upon any contractual obligations that may be created pursuant to this Plan. No such obligation of the Corporation shall be deemed to be secured by any pledge of, or other encumbrance on, any property of the Corporation,

D. Further Restrictions on Transfer. Any Award made under this Plan may expressly provide that all or any part of the shares of Common Stock that are: (i) to be issued or transferred by the Corporation upon the exercise of an Option, upon termination of the Deferral Period applicable to Deferred Shares, or upon payment under any grant of Performance Shares or Performance Units, or (ii) no longer subject to a substantial risk of forfeiture and restrictions on transfer referred to in Section 7(A) of this Plan, shall be subject to further restrictions on transfer.

E. Fractional Shares . The Corporation shall not be required to issue fractional shares pursuant to this Plan. The Committee may provide for elimination of fractional shares or the settlement of such fraction shares in cash.

F. Rules of Construction. Headings are given to the Sections of this Plan solely as a convenience to facilitate reference, and shall not be used in interpreting, construing or enforcing any provision hereof. The reference to any statute, regulation, or other provision of law shall be construed to refer to any amendment to or successor of such provision of law. To the extent that any provision of this Plan would prevent any Option that was intended to qualify under particular provisions of the Code from so qualifying, such provision of this Plan shall be null and void with respect to such Option, provided that such provision shall remain in effect with respect to other Options, and there shall be no further effect on any provision of this Plan.

G. Choice of Law. The Plan and all Stock Option Agreements and Stock Award Agreements entered into under this Plan (except to the extent that any such Stock Option Agreement or Stock Award Agreement otherwise provides) shall be governed by and interpreted under the laws of the jurisdiction of incorporation of the Corporation excluding (to the greatest extent permissible by law) any rule of law that would cause the application of the laws of any jurisdiction other than the laws of the jurisdiction of incorporation of the Corporation.

13.

AMENDMENT AND TERMINATION

The Board may amend or terminate this Plan from time to time; provided, however, that with respect to any amendment that (i) increases the aggregate number of shares of Common Stock that may be issued under this Plan, (ii) changes the class of employees eligible to receive Incentive Stock Options or (iii) stockholder approval is required by the terms of any applicable law, regulation, or rule, including, without limitation, any rule of the American Stock Exchange, or any national securities exchange on which the Common Stock is publicly traded, each such amendment shall be subject to the approval of the stockholders of the Corporation within twelve (12) months of the date such amendment is adopted by the Board. Except as specifically permitted by a provision of this Plan (other than Section 3(B) ), the Stock Option Agreement or Stock Award Agreement or as required to comply with applicable law, regulation or rule, no amendment to this Plan or a Stock Option Agreement or Stock Award Agreement shall, without a Participant’s consent, adversely affect any rights of such Participant under any Option or Stock Award outstanding at the time such amendment is made; provided, however, that an amendment that may cause an Incentive Stock Option to become a Nonqualified Stock Option, and any amendment that is required to comply with the rules applicable to Incentive Stock Options, shall not be treated as adversely affecting the rights of the Participant.

14.

EFFECTIVE DATE AND DURATION OF PLAN

A. The Plan became effective upon adoption by the Board, subject to approval within twelve (12) months by the stockholders holding a majority of the shares entitled to vote thereon. Unless and until the plan has been approved by the stockholders of the Corporation, no Option or Stock Award may be exercised, and no shares of Common Stock may be issued under this Plan. In the event that the stockholders of the Corporation shall not approve this Plan within such twelve (12) month period, this Plan and any previously granted Option or Stock Award shall terminate.

B. Unless previously terminated, this Plan will terminate ten (10) years after the earlier of (i) the date this Plan is adopted by the Board, or (ii) the date this Plan is approved by the stockholders, except that Options and Stock Awards that are granted under this Plan prior to its termination will continue to be administered under the terms of this Plan until the Options and Stock Awards terminate or are exercised.

Certificate of Secretary

I, the undersigned secretary of MHI Hospitality Corporation (the “Corporation”), do hereby certify that the attached copy of the MHI Hospitality Corporation 2004 Long-Term Incentive Plan was adopted by the Board of Directors of the Corporation on , 2004 and approved by the stockholders of the Corporation on , 2004.




Secretary				Date

Exhibit 10.6

Capitol Hotels Associates LP

CONTRIBUTION AGREEMENT

THIS CONTRIBUTION AGREEMENT (this “Agreement”) is made as of the 23rd day of August, 2004 (the “Effective Date”) by and among the entities identified on Schedule 1 attached hereto (each a “Contributor” and collectively, the “Contributors”), and MHI Hospitality LP, a Delaware limited partnership (the “Acquiror”).

RECITALS

A. Capitol Hotel Associates L.P., L.L.P. (the “Partnership”) is the owner of certain real property consisting of approximately 4.95 acres of land located in Williamsburg, Virginia (the “Virginia Property”) and the hotel improvements located thereon consisting of a 138 room hotel trading as Holiday Inn Downtown (the “Virginia Hotel”); as well as real property consisting of approximately 4.69 acres of land located in Wilmington, North Carolina (the “North Carolina Property” and with the Virginia Property, the “Properties”), and the hotel improvements located thereon consisting of a 274 room hotel trading as the Hilton Riverside (the “North Carolina Hotel” and, with the Virginia Hotel, the “Hotels”);

B. Contributors are the record and beneficial owners of 100% of the ownership interests of the Partnership (the “Contributed Assets”). MHI Hotels Services, LLC, one of the Contributors, is the general partner of the Partnership. The Contributors desire to contribute the Contributed Assets to the Acquiror, and the Acquiror desires to acquire the Contributed Assets from the Contributor, on the terms and conditions hereinafter set forth;

C. The Acquiror will be the operating partnership of a Maryland corporation to be formed which will seek to qualify as a real estate investment trust for Federal income tax purposes (the “REIT”) and will seek to complete an underwritten public offering of shares of its common stock (the “IPO”). The Contributors intend to contribute the Contributed Assets to the Acquiror in connection with the closing of the IPO.

AGREEMENT

NOW, THEREFORE, for and in consideration of the mutual covenants herein contained, the parties hereto agree as follows:

ARTICLE I

THE CONTRIBUTION

1.1 Contribution of Contributed Assets . The Contributors agree to contribute and transfer the Contributed Assets to the Acquiror, and the Acquiror agrees to accept transfer of the Contributed Assets pursuant to the terms and conditions set forth in this Agreement. The Contributed Assets shall be transferred to the Acquiror free and clear of all liens, encumbrances, security interests, prior assignments or conveyances, conditions, restrictions, claims, and other matters affecting title thereto.

1.2 Consideration . In exchange for the contribution and transfer by the Contributors of the Contributed Assets to the Acquiror, the Acquiror agrees, subject to the terms of this Agreement, to issue to the Contributors 1,259,676 units in the aggregate of limited partnership interests in the Acquiror (the “Units”). The number of Units to be issued to each Contributor is set forth in Schedule 1 attached hereto.

1.3 Issuance of Units . On the Closing Date (as defined below), the Acquiror shall issue to the Contributors certificates reflecting the Units in such amount as specified in Schedule 1. Such certificates shall bear appropriate legends indicating (i) that the Units have not been registered under the Securities Act of 1933, as amended (the “Securities Act”), and (ii) that the Acquiror’s agreement of limited partnership (the “Partnership Agreement”) will restrict the transfer of the Units. Immediately upon receipt of the Units, each Contributor shall accede to the Partnership Agreement as a limited partner of the Acquiror. The Contributor acknowledges and agrees that once Closing occurs, the Contributor shall no longer be a partner of the Partnership, shall no longer be entitled to receive any distributions from the Partnership, and shall have no further right, title or interest in the Partnership.

1.4 Adjustment . The term “Purchased Working Capital” shall mean the agreed upon sum of fifty thousand dollars ($50,000) which amount represents the Partnership’s good faith estimate of the Partnership’s current assets shown on the Hotels’ balance sheet (exclusive of any FF&E Reserves) less the Partnership’s current liabilities shown on the Hotels’ balance sheet at the close of business on the Closing Date. The Contributors shall be permitted an opportunity to review the books and records of the Partnership prior to the Closing Date (and for sixty (60) days thereafter) to verify the calculation of Purchased Working Capital and all other working capital as of the Closing Date. Within such sixty (60) day period, the parties hereto agree to calculate actual working capital as of the Closing Date (including any amounts in any escrow or reserve accounts as of the Closing Date). In the event that actual working capital at Closing is more or less than the Purchased Working Capital, then the Contributors shall pay to the Acquiror an amount equal to the amount by which actual working capital as of the Closing Date is less than the Purchased Working Capital, and the Acquiror will pay to the Contributors an amount equal to the amount by which actual working capital as of the Closing

Date exceeds the Purchased Working Capital. Any such amount payable by the Acquiror to the Contributors shall be allocated among the Contributors in proportion to the number of Units issuable to each Contributor pursuant to Schedule 1 hereof. Each Contributor shall bear its pro rata portion of any amount payable by the Contributors to the Acquiror on the basis of the number of Units issuable to each Contributor hereunder. Each Contributor (by its execution hereof) hereby acknowledges and agrees any such adjustments shall be paid in cash to the party entitled thereto, and such adjustments shall be deemed final. Payment, if any, shall be made within 15 days of calculating working capital as of the Closing Date.

1.5 Deposit . Within five (5) business days after the full execution of this Agreement, the Acquiror shall pay to each Contributor the sum of Ten Dollars ($10.00) (the “Deposit”) as consideration for such Contributor entering into this Agreement. The Deposit shall be deemed earned and non-refundable immediately upon payment of the Deposit (except if the Contributor defaults hereunder, in which event the Deposit shall be promptly refunded to the Acquiror).

1.6 Redemption Rights for Units . The Units shall be redeemable at the option of the holders of such Units and in accordance with, but subject to the restrictions contained in, the Partnership Agreement; provided, however, that such redemption option may not be exercised prior to the first anniversary of the Closing Date.

1.7 Tax Consequences to Contributors . Notwithstanding anything to the contrary contained in this Agreement, including without limitation the use of words and phrases such as “sell,” “sale,” purchase,” and “pay,” the parties hereto acknowledge and agree that it is their intent that the contribution transaction contemplated hereby with respect to the Contributed Assets shall be treated for federal income tax purposes pursuant to Section 721 of the Internal Revenue Code of 1986, as amended (the “Code”), as the contribution of the Contributed Assets by the Contributors to the Acquiror, in exchange for the Units, the Deposit and any payments made by Acquiror pursuant to Section 1.2 or Section 4.4, and not as a transaction in which any Contributor is acting other than in its capacity as a prospective partner in the Acquiror.

1.8 Tax Indemnity . In conjunction with the contributions contemplated by this Article I, each Contributor will execute and deliver the Tax Indemnity (as defined hereafter) in the form attached as Exhibit 1.8.

ARTICLE II

REPRESENTATIONS AND COVENANTS

2.1 Representations by Acquiror . The Acquiror hereby represents and warrants unto each Contributor that the following statements are true, correct, and complete as of the date of this Agreement and will be true, correct, and complete as of the Closing Date:

(a) Organization and Power . The Acquiror is duly organized, validly existing, and in good standing under the laws of the State of Delaware, and has full right, power, and authority to enter into this Agreement and to assume and perform all of its obligations under this Agreement; and, the execution and delivery of this Agreement and the performance by the Acquiror of its obligations hereunder have been duly authorized by all requisite action of the Acquiror and require no further action or approval of the Acquiror’s partners or of any other individuals or entities in order to constitute this Agreement as a binding and enforceable obligation of the Acquiror. This Agreement constitutes the legal, valid and binding obligation of Acquiror and is enforceable in accordance with its terms.

(b) Noncontravention . Neither the entry into nor the performance of, or compliance with, this Agreement by the Acquiror has resulted, or will result, in any violation of, or default under, or result in the acceleration of, any obligation under any existing certificate of limited partnership, partnership agreement, mortgage, indenture, lien agreement, note, contract, permit, judgment, decree, order, restrictive covenant, statute, rule, or regulation applicable to the Acquiror.

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Acquiror in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (i) in any manner raises any question affecting the validity or enforceability of this Agreement, (ii) could materially and adversely affect the business, financial position, or results of operations of the Acquiror or the Partnership, (iii) could materially and adversely affect the ability of the Acquiror to perform its obligations hereunder, or under any document to be delivered pursuant hereto.

(d) Units Validly Issued . The Units, when issued, will have been duly and validly authorized and issued, free of any preemptive or similar rights, and will be fully paid and nonassessable, without any obligation to restore capital except as required by the Delaware Revised Uniform Limited Partnership Act (the “Limited Partnership Act”). Each Contributor shall be admitted as a limited partner of the Acquiror as of the Closing Date and shall be entitled to all of the rights and protections of a limited partner under the Limited Partnership Act and the provisions of the Partnership Agreement, with the same rights, preferences, and privileges as all other limited partners on a pari passu basis.

(e) Consents . Except as may otherwise be set forth in Schedule 2.1(e) hereof, each consent, approval, authorization, order, license, certificate, permit, registration, designation, or filing by or with any governmental agency or body necessary for the execution, delivery, and performance of this Agreement or the transactions contemplated hereby by the Acquiror has been obtained or will be obtained on or before the Closing Date.

(f) Brokerage Commission . The Acquiror has not engaged the services of any real estate agent, broker, finder or any other person or entity for any brokerage or finder’s fee, commission or other amount with respect to the transactions described herein on account of any action by the Acquiror. The Acquiror hereby agrees to indemnify and hold the Contributors and each of their employees, directors, members, partners, affiliates and agents harmless against any claims, liabilities, damages or expenses arising out of a breach of the foregoing. This indemnification shall survive Closing or any termination of this Agreement.

2.2 Representations by Contributors . Each Contributor (except as otherwise indicated herein), hereby represents and warrants unto the Acquiror, jointly and severally, that each and every one of the following statements is true, correct, and complete as of the date of this Agreement and will be true, correct, and complete as of the Closing Date.

(a) Organization and Power . Each of the Contributor and the Partnership is duly organized, validly existing, and in good standing under the laws of the state of its organization. The Contributor has full right, power, and authority to enter into this Agreement and to assume and perform all of its obligations under this Agreement; and the execution and delivery of this Agreement and the performance by the Contributor of its obligations hereunder have been duly authorized by all requisite action of Contributor and require no further action or approval of Contributor’s members or managers or directors or shareholders or partners, as the case may be, or of any other individuals or entities in order to constitute this Agreement as a binding and enforceable obligation of the Contributor. This Agreement constitutes the legal, valid and binding obligation of Contributors and is enforceable in accordance with its terms.

(b) Noncontravention . Neither the entry into nor the performance of, or compliance with, this Agreement by the Contributor has resulted, or will result, in any violation of, or default under, or result in the acceleration of, any obligation under the Contributor’s organizational documents, or any regulations, mortgage indenture, lien agreement, note, contract, permit, judgment, decree, order, restrictive covenant, statute, rule, or regulation applicable to Contributor or to the Contributed Assets.

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Contributor, the Partnership or the Hotels in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (A) in any manner raises any question affecting the validity or enforceability of this Agreement, (B) could materially and adversely affect the business, financial position, or results of operations of the Hotels, or the Partnership, (C) could materially and adversely affect the ability of the Contributor to perform its obligations hereunder, or under any document to be delivered pursuant hereto, (D) could create a lien on the Contributed Assets, any part thereof, or any interest therein, or (E) could adversely affect the Contributed Assets, any part thereof, or any interest therein.

(d) Good Title . (A) The Contributor is the sole owner of the ownership interests in the Contributed Assets specified in Schedule 1 (the “Contributor’s Assets”), (B) the Contributor has good title to the Contributor’s Assets, (C) the Contributor’s Assets are free and clear of all liens, encumbrances, pledges, voting agreements and security interests whatsoever, and (D) the Contributor has not granted any other person or entity an option to purchase or a right of first refusal upon the Contributor’s Assets nor are there any agreements or understandings between Contributor and any other person or entity with respect to the disposition of the Contributor’s Assets, and Contributor has full power and authority to convey the Contributor’s Assets free and clear of any liens, claims and encumbrances and upon delivery of the Assignment attached hereto in the form of Exhibit A to Acquiror and Acquiror will acquire good title thereto, free and clear of any liens, claims and encumbrances. The Partnership owns the Hotels and the Properties beneficially and of record free and clear of any liens, claims, encumbrances, mortgages, security interests, deed of trust, easements, purchase rights or any other right of any nature of any third party except as set forth on Schedule 2.2(d).

(e) No Consents . Except as may otherwise be set forth in Schedule 2.2(e) hereof, each consent, approval, authorization, order, license, certificate, permit, registration, designation, or filing by or with any third party, including, but not limited to, lenders and franchisors, or any governmental agency or body necessary for the execution, delivery, and performance of this Agreement or the transactions contemplated hereby has been obtained or will be obtained on or before the Closing Date.

(f) Operation of Contributed Assets . Between the date hereof and the Closing Date, the Contributor will take such action as may be necessary to cause the Partnership (A) operate its business only in the usual, regular, and ordinary manner consistent with such entity’s prior practice and (B) maintain its books of account and records in the usual, regular, and ordinary manner, in accordance with sound accounting principles applied on a basis consistent with the basis used in keeping its books in prior years. Except as otherwise permitted hereby, from the date hereof until the Closing Date, the Contributor shall not take any action or fail to take any action the result of which would (1) have a material adverse effect on the Contributed Assets, the Contributor’s Assets, the Properties, the Hotels, or the Acquiror’s ability to continue the operation thereof after the Closing Date in substantially the same manner as presently conducted or (2) would cause any of the representations and warranties contained in this Section 2.2 to be untrue as of the Closing Date.

(g) Partnership Agreement . The Limited Partnership Agreement of the Partnership, (the “Capitol Hotel Partnership Agreement”) is in force and effect as of the date hereof, and has not been modified or amended and a true and accurate copy of such agreement as amended to date has been provided to Acquiror. The Contributor has performed all of its obligations under the Capitol Hotel Partnership Agreement.

(h) Securities Law Matters . (A) In acquiring the Units and engaging in this transaction, neither the Contributors nor any shareholder, partner or beneficiary of a Contributor is relying upon any representations made to it by the Acquiror, or any of its partners, officers, employees, or agents that are not contained herein. Contributor is aware of the risks involved in investing in the Units and in the shares of common stock (“Common Stock”) of the REIT, issuable upon redemption of such Units. Contributor has had an opportunity to ask questions of, and to receive answers from, the Acquiror or a person or persons authorized to act on its behalf, concerning the terms and conditions of this investment and the financial condition, affairs, and business of the Acquiror and the REIT. Contributor confirms that all documents, records, and information pertaining to its investment in the Acquiror that have been requested by it, including a complete copy of the form of the Partnership Agreement, have been made available or delivered to it prior to the date hereof. Contributor represents and warrants that it has reviewed and approved the form of the Partnership Agreement attached hereto as Exhibit B.

(B) Contributor and each shareholder, partner or beneficiary thereof understands that neither the Units nor the shares of Common Stock issuable upon redemption of the Units have been registered under the Securities Act or any state securities acts and are instead being offered and sold in reliance on an exemption from such registration requirements. The Units issuable to Contributor are being acquired solely for its own account, for investment, and are not being acquired with a view to, or for resale in connection with, any distribution, subdivision, or fractionalization thereof, in violation of such laws, and Contributor does not have any present intention to enter into any contract, undertaking, agreement, or arrangement with respect to any such resale; provided, however, that, at or following Closing, Contributor may distribute the Units to its shareholders, partners or members, as the case may be that (1) have represented and warranted to the Acquiror in writing that, as of the time of such distribution, such member, shareholder or partner, as the case may be, is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act, and (2) have executed the Partnership Agreement as limited partners. Contributor understands that any certificates evidencing the Units will contain appropriate legends reflecting the requirement that the Units not be resold by Contributor without registration under such laws or the availability of an exemption from such registration and that the Partnership Agreement will restrict transfer of the Units.

(i) Accredited Investor . Contributor is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act.

(j) Tax Matters . (A) The Partnership has filed within the time and in the manner prescribed by law all federal, state, and local tax returns and reports, including but not

limited to income, gross receipts, intangible, real property, excise, withholding, franchise, sales, use, employment, personal property, and other tax returns and reports, required to be filed by such entity under the laws of the United States and of each state or other jurisdiction in which such entity conducts business activities requiring the filing of tax returns or reports except for such terms or reports where the failure to file would not have a material adverse effect on the Partnership or the Contributed Assets. All tax returns and reports filed by the Partnership are true and correct in all material respects. The Partnership has paid in full all taxes of whatever kind or nature for the periods covered by such returns. The Partnership has not been delinquent in the payment of any tax, assessment, or governmental charge or deposit and has no tax deficiency or claim outstanding, assessed, threatened, or proposed against it. The charges, accruals, and reserves for unpaid taxes on the books and records of the Partnership as of the Closing Date are sufficient in all respects for the payment of all unpaid federal, state, and local taxes of the Partnership accrued for or applicable to all periods ended on or before the Closing Date. There are no tax liens, whether imposed by the United States, any state, local, or other taxing authority, outstanding against the Partnership or any of its assets. The federal, state, and local tax returns of the Partnership have not been audited, nor has the Partnership received any notice of any federal, state, or local audit.

(B) Each Contributor represents and warrants that it has obtained from its own counsel advice regarding the tax consequences of (i) the transfer of the Contributor’s Assets to the Acquiror and the receipt of Units as consideration therefor, (ii) Contributor’s admission as a limited partner of the Acquiror, and (iii) any other transaction contemplated by this Agreement. Each Contributor further represents and warrants that it has not relied on the Acquiror or the Acquiror’s representatives or counsel for such tax advice.

(k) Bankruptcy with respect to Contributor . No Act of Bankruptcy has occurred with respect to the Contributor or Partnership. As used herein, “Act of Bankruptcy” shall mean if a party hereto or any member, or manager, shareholder or director thereof, as the case may be, shall (A) apply for or consent to the appointment of, or the taking of possession by, a receiver, custodian, trustee or liquidator of itself or of all or a substantial part of its property, (B) admit in writing its inability to pay its debts as they become due, (C) make a general assignment for the benefit of its creditors, (D) file a voluntary petition or commence a voluntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), (E) be adjudicated bankrupt or insolvent, (F) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, receivership, dissolution, winding-up or composition or adjustment of debts, (G) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), or (H) take any entity action for the purpose of effecting any of the foregoing.

(l) Brokerage Commission . The Contributor has not engaged the services of, any real estate agent, broker, finder or any other person or entity for any brokerage or

finder’s fee, commission or other amount with respect to the transactions described herein on account of any action by the Contributor. The Contributor hereby agrees to indemnify and hold the Acquiror and its employees, directors, members, partners, affiliates and agents harmless against any claims, liabilities, damages or expenses arising out of a breach of the foregoing. This indemnification shall survive Closing or any termination of this Agreement.

(m) Liabilities, Indebtedness . Except as set forth in Schedule 2.2(m), the Partnership has not incurred any indebtedness related to the Hotels or the Properties except in each instance for trade payables and other customary and ordinary expenses in the normal course of business.

(n) Leases . Schedule 2.2(n) attached hereto is a true, correct and complete schedule of all ground leases, restaurant leases, subleases and other rights of occupancy in effect with respect to the Hotels and the Properties (collectively, the “Leases”). Except as set forth on Schedule 2.2(n), there are no other leases, subleases, tenancies or other rights of occupancy in effect with respect to the Hotels or the Properties. True, correct and complete copies of the Leases, together with all amendments and supplements thereto and all other documents and correspondence relating thereto, have been delivered or made available to Acquiror. Except as set forth on Schedule 2.2(n), all such Leases are valid and enforceable and presently in full force and effect, and none of the Leases have been assigned and all brokerage commissions, if any, payable under any of the Leases have been paid or will be paid by the Partnership prior to the Closing. To the best knowledge of Contributor, no party to any Lease is in default under such Lease, and Contributor does not know of any event which, but for the passage of time or the giving of notice, or both, would constitute a default under such Leases, except such defaults that would not have a material adverse effect on the condition, financial or otherwise or on the earnings, business affairs or business prospects of the Partnership. No tenant under any of the Leases has an option or right of first refusal to purchase the premises demised under such Lease. The consummation of the transactions contemplated by this Agreement will not give rise to any breach, default or event of default under any of the Leases. None of the Leases requires the consent or approval of any party in connection with the transactions contemplated by this Agreement.

(o) Insurance . The Partnership currently maintains or causes to be maintained all of the public liability, casualty and other insurance coverage with respect to the Hotels as set forth on Schedule 2.2(o) attached hereto. All such insurance coverage shall be maintained in full force and effect through the Closing and all premiums due and payable thereunder have been, and shall be, fully paid when due.

(p) Personal Property . All equipment, fixtures and personal property located at the Hotels shall remain and not be removed prior to the Closing, except for equipment that becomes obsolete or unusable, which may be disposed of or replaced in the ordinary course of business.

(q) Environmental Conditions .

(A) As of the date of this Agreement and as of the Closing, and except as set forth in the environmental reports and materials previously delivered to Acquiror which are listed on Schedule 2.2(q) attached hereto (collectively, “Environmental Reports”), to the best of Contributors’ knowledge, information, and belief, the Properties (which for purposes of this Section 2.2(q) shall include all leased and vacant space, land surface water, groundwater and any and all improvements located on, in or under the Properties) are now and will be at the Closing free of all contamination which exists as or has arisen from, directly or indirectly:

(1) any “hazardous waste,” “underground storage tanks,” “petroleum,” “regulated substance,” or “used oil” as defined by the Resource Conservation and Recovery Act of 1976 (42 U.S.C. §6901, et seq.), as amended (“RCRA”), or by any regulations promulgated thereunder;

(2) any “hazardous substance” as defined by the Comprehensive Environmental Response, Compensation and Liability Act of 1980 (42 U.S.C. § 9601, et seq.), as amended (“CERCLA”), or by any regulations promulgated thereunder (including without limitation asbestos, radon, mold and lead-based paint);

(3) any “oil” or other “hazardous substance” as defined by the Oil and Hazardous Substance Control Act of 1976, as amended, or by and regulations promulgated thereunder;

(4) any substance the presence of which on, in or under the Properties is prohibited or regulated by any federal, state or local environmental law (an “Environmental Law”); and

(5) any other hazardous materials as to which remedial action is required under applicable Environmental Laws (together with substances described in subsections (a) – (d), “Hazardous Materials”).

(B) To the best of Contributors’ knowledge, information, and belief, as of the date of this Agreement and as of the Closing, and except as set forth in the Environmental Reports:

(1) the Properties are now and will be at the Closing free from asbestos and any asbestos containing materials (including without limitation the presence of any asbestos in the insulation or other materials used comprising any part of the improvements), mold, radon and lead-based paint that would have a material adverse effect on the Properties;

(2) to the knowledge of Contributor, the Partnership has not placed, located, sited or buried any underground storage tanks at the Properties and to the knowledge of Contributor, no underground storage tanks are located on, at or under the Properties;

(3) to the knowledge of Contributor, the Properties do not appear on any state or federal CERCLA, RCRA, Superfund or other similar lists and, to the knowledge of Contributor, the Properties are not proposed to be included on any such list;

(4) to the knowledge of Contributor, the Partnership has never used any part of the Properties as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA and no part of the Properties have ever been used as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA;

(5) to the knowledge of Contributor, no notice of violation or other written communication has been received by the Partnership or any predecessor in title from a governmental agency or other entity or person, alleging or suggesting any violation of any Environmental Law on or with respect to the Properties;

(6) to the knowledge of Contributor, neither the Partnership nor any of such Partnership’s agents, licensees or invitees have placed or permitted the placement of any Hazardous Materials in, on, under or over the Properties in violation of any Environmental Law;

(7) to the knowledge of Contributor, no other party has placed any Hazardous Material in, on, under or over any of the Properties in violation of any Environmental Law; and

(8) to the knowledge of Contributor, the Properties are not subject to any federal, state or local lien (including any “Superfund” lien), proceedings, claim, liability, or action, or the threat or likelihood thereof, relating to the clean-up, removal or remediation of any Hazardous Material from the Properties and the Partnership has not received any request or information from the United States Environmental Protection Agency or any other public, governmental or quasi-governmental agency or authority with jurisdiction over any Environmental Law.

(r) Compliance With Laws . To the best of Contributors’ knowledge, information, and belief, the Partnership possesses such certificates, approvals, licenses,

authorities or permits issued by the appropriate local, state or federal agencies or bodies necessary to conduct the business to be conducted by it, and, to the knowledge of Contributor, the Partnership has not received any written notice of proceedings relating to the revocation or modification of any such certificate, approval, license, authority or permit which, singly or in the aggregate, if the subject of an unfavorable decision, ruling, or finding, would materially and adversely affect the condition, financial or otherwise, or the earnings, business affairs or business prospects of the Properties or the Hotels. To the best of Contributors’ knowledge, information, and belief, the Partnership has not received any written or other notice of any violation of any applicable zoning, building or safety code, rule, regulation or ordinance, or of any employment, environmental, wetlands or other regulatory law, order, regulation or other requirement, including without limitation the Americans With Disabilities Act (“ADA”) or any restrictive covenants or other easements, encumbrances or agreements, relating to the Properties or the Hotels, which remains uncured. The Properties and the Hotels have been constructed and is operated in accordance with all applicable laws, ordinances, rules and regulations. All approvals regarding zoning, land use, subdivision, environmental and building and construction laws, ordinances, rules and regulations have been obtained, and such approvals will not be invalidated by the consummation of the transactions contemplated by this Agreement; provided, however, the Properties and the Hotels (including, all improvements) are substantially in compliance with the ADA.

(s) Condemnation and Moratoria . Except as set forth on Schedule 2.2(s), to the best of Contributors’ knowledge, information and belief, there are (i) no pending or threatened condemnation or eminent domain proceedings, or negotiations for purchase in lieu of condemnation, which affect or would affect any portion of the Properties; (ii) no pending or, to the knowledge of Contributor, threatened moratoria on utility or public sewer hook-ups or the issuance of permits, licenses or other inspections or approvals necessary in connection with the construction or reconstruction of improvements, including without limitation tenant improvements, which affect or would affect any portion of the Properties; and (iii) no pending or, to the knowledge of Contributor, threatened proceeding to change adversely the existing zoning classification as to any portion of the Properties. No portion of the Properties are a designated historic property or located within a designated historic area or district and there are no graveyards or burial grounds located within the Properties.

(t) Condition of Improvements . To the best of Contributors’ knowledge, information and belief, there is no material defect in the condition of (i) the Properties or the Hotels, (ii) the improvements thereon, (iii) the roof, foundation, load-bearing walls or other structural elements thereof, or (iv) the mechanical, electrical, plumbing and, safety systems therein, nor any material damage from casualty or other cause, nor any soil condition of any nature that will not support all of the improvements thereon without the need for unusual or new subsurface excavations, fill, footings, caissons or other installations.

(u) Absence of Certain Changes . To the best of Contributors’ knowledge, information and belief, since December 31, 2003, except as set forth or referred to on Schedule 2.2(u), there has not been with respect to the Partnership:

(A) any material adverse change in the financial condition of the Partnership, the Hotels or the Properties;

(B) any change in the condition of the Properties, the Hotels or the business or liabilities of the Partnership except normal and usual changes in the ordinary course of business which have not been, individually or in the aggregate, materially adverse;

(C) any damage, destruction or loss, whether or not covered by insurance, individually or in the aggregate, materially and adversely affecting the Properties or the Hotels;

(D) any change in the accounting methods or practices with respect to the Hotels or the Properties or in depreciation or amortization policies theretofore used or adopted;

(E) any material liability with respect to the Hotels or the Properties, contingent or otherwise, other than for operating expenses, obligations under any executory contracts disclosed on Schedule 2.2(u) hereof incurred for fair consideration and taxes accrued with respect to operations during such period, all incurred in the ordinary course of business; or

(F) any other material change in the business of the Partnership.

(v) ERISA . The Partnership has no (i) labor agreement to which it is a party, or by which it is bound, including “employee pension benefit plans” as defined in Section 3(2) of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”); (ii) employment, profit sharing, deferred compensation, bonus, pension, retainer, consulting, retirement, welfare or incentive plan, fund, program or contract to which it is a party, or by which it is bound; (iii) written or other formal personnel policies; or (iv) plan or agreement under which “fringe benefits” (including, but not limited to, vacation plans or programs, sick leave plans or programs, and related benefits) are afforded to its employees.

(w) No Contracts . No agreements, undertakings or contracts affecting the Hotels or the Properties, written or oral, will be in existence as of the Closing, except as set forth on Schedule 2.2(w) attached hereto, and true and correct copies of such contracts have been delivered to Acquiror. With respect to any such contracts set forth on Schedule 2.2(w), each such contract is valid and binding on the Partnership and is in full force and effect in all material respects. To the knowledge of Contributor, no party to any such contract has breached or defaulted under the terms of such contract, except for such breaches or defaults that would not, individually or in the aggregate, have a material adverse effect on the business or operations of the Hotels or the Properties.

(x) Disclosure . The representations and warranties contained in this Agreement (including Schedules and Exhibits) or in any information, statement, certificate or agreement furnished or to be furnished to Acquiror by Contributor in connection with the Closing pursuant to this Agreement, do not contain any untrue statement of a material fact or omit to state any material fact necessary to make the statements and information contained herein or therein, in light of the circumstances in which they are made, not misleading.

2.3 Satisfaction of Conditions . The Acquiror hereby covenants that the Acquiror shall use commercially reasonable efforts and diligence in order to satisfy all of the conditions set forth in Section 3.2 hereof; and the Contributors shall not have any obligation to consummate the Closing hereunder unless and until all such conditions have been satisfied or waived by the Contributor in writing. Each Contributor hereby covenants that it shall: (A) use commercially reasonable efforts and diligence in order to satisfy all of the conditions set forth in subsections 3.1(a), (b) and (c) hereof, and (B) cooperate and assist in the Acquiror’s efforts to satisfy the conditions set forth in subsection 3.1(g) hereof; and the Acquiror shall not have any obligation to consummate the Closing hereunder unless and until such conditions have been satisfied or waived by the Acquiror in writing.

2.4 Contributor’s Indemnity . Each Contributor agrees to indemnify and hold the Acquiror, the REIT, and their respective employees, directors, members, partners, affiliates and agents harmless of and from all liabilities, losses, damages, costs, and expenses (including reasonable attorneys’ fees) which the Acquiror or the REIT may suffer or incur by reason of any breach of its representations or warranties contained in this Agreement, and by reason of any act or cause of action occurring or accruing prior to the Closing Date and arising from the ownership of the Contributed Assets and in the operation of the Hotels prior to the Closing Date.

2.5 Acquiror’s Indemnity. The Acquiror agrees to indemnify and hold the Contributors and their employees, directors, members, partners, affiliates and agents harmless of and from all liabilities, losses, damages, costs, and expenses (including reasonable attorneys’ fees) which the Contributors may suffer or incur by reason of any breach of its representations or warranties contained in this Agreement, and by reason of any act or cause of action occurring or accruing subsequent to the Closing Date and arising from the ownership or operation of the Contributed Assets or the operation of the Hotels subsequent to the Closing Date.

ARTICLE III

CONDITIONS PRECEDENT TO THE CLOSING

3.1 Conditions to Acquiror’s Obligations . In addition to any other conditions set forth in this Agreement, the Acquiror’s obligation to consummate the Closing is subject to the timely satisfaction of each and every one of the conditions and requirements set forth in this Section 3.1, all of which shall be conditions precedent to the Acquiror’s obligations under this Agreement.

(a) Contributors’ Obligations . Each Contributor shall have performed all obligations of such Contributor hereunder which are to be performed prior to Closing, and shall have delivered or caused to be delivered to the Acquiror, all of the documents and other information required of the Contributor pursuant to Section 4.2.

(b) Contributors’ Representations and Warranties . The representations and warranties of the Contributors set forth in Section 2.2 shall be true and correct as if made again on the Closing Date.

(c) No Injunction . On the Closing Date, there shall be no effective injunction, writ, preliminary restraining order or other order issued by a court of competent jurisdiction restraining or prohibiting the consummation of the transactions contemplated hereby.

(d) No Material Adverse Change . Since the Effective Date, there shall have been no material adverse effect on, or a material adverse change in, the business, financial condition or operations of the Partnership or the Hotels as presently conducted.

(e) Completion of IPO . The IPO shall have been completed.

(f) Consent of Franchisor . The Franchisors of the Hotels shall have consented to the transaction contemplated herein on terms and conditions that are acceptable to Acquiror in its sole discretion.

(g) Third Party Consents . All required third party consents will have been obtained or otherwise waived.

3.2 Conditions to Contributors’ Obligations . In addition to any other conditions set forth in this Agreement, the obligations of the Contributors to consummate the Closing is subject to the timely satisfaction of each and every one of the conditions and requirements set forth in this Section 3.2, all of which shall be conditions precedent to the Contributor’s obligations under this Agreement.

(a) Acquiror’s Obligations . The Acquiror shall have performed all obligations of the Acquiror hereunder which are to be performed prior to Closing, and shall have delivered or caused to be delivered to the Contributor, all of the documents and other information required of the Acquiror pursuant to Section 4.3.

(b) Acquiror’s Representations and Warranties . The Acquiror’s representations and warranties set forth in Section 2.1 shall be true and correct as if made again on the Closing Date.

3.3 Restructuring . Upon the written request of Acquiror not less than ten days prior to Closing, Contributors shall take such action as may be reasonably requested by Acquiror to cause the Partnership to be converted into a limited liability company under the laws of such jurisdiction as may be identified by Acquiror. Following receipt of such notice and prior to the Closing Date, Contributors shall convert the Partnership to a limited liability company provided such conversion does not create a material federal, state or local tax liability to the Contributors unless Acquiror agrees to indemnify the Contributors against such tax liability.

ARTICLE IV

CLOSING AND CLOSING DOCUMENTS

4.1 Closing . The consummation and closing (the “Closing”) of the transactions contemplated under this Agreement shall take place at the offices of the Acquiror in Greenbelt, Maryland, or such other place as is mutually agreeable to the parties, on the date of the closing of the IPO (the “Closing Date”), or as otherwise set by agreement of the parties hereto. . If at any time the REIT determines in good faith to abandon or discontinue its efforts to engage in an IPO, Acquiror shall so advise each Contributor in writing and thereupon all parties hereto will be relieved of all obligations under this Agreement.

4.2 Contributor’s Deliveries . At the Closing, each Contributor shall deliver the following to the Acquiror in addition to all other items required to be delivered to the Acquiror by the Contributor:

(a) Assignment of Contributed Assets . Each Contributor shall have executed and delivered an Assignment, in substantially the form of Exhibit A attached hereto, granting and conveying to the Acquiror good and indefeasible title to the Contributor’s Assets, free and clear of all liens, encumbrances, security interests, prior assignments, conditions, restrictions, claims, and other matters affecting title thereto.

(b) Execution of Partnership Agreement . Signature pages of the Partnership Agreement (which Partnership Agreement shall be in substantially the form attached hereto as Exhibit B) duly executed by each Contributor, as limited partner.

(c) FIRPTA Certificate . An affidavit from each Contributor certifying pursuant to Section 1445 of the Code that the Contributor is not a foreign corporation, foreign partnership, foreign trust, foreign estate or foreign person (as those terms are defined in the Code and the Income Tax Regulations promulgated thereunder).

(d) Tax Indemnity . Each Contributor shall have executed a tax indemnity and debt maintenance agreement and related guaranty (the “Tax Indemnity”) to reflect the allocation of indebtedness to each Contributor in the form attached hereto as Exhibit 1.8 in an amount not to exceed such Contributor’s negative balance in the capital account maintained by the Partnership for such Contributor as of the Closing Date.

(e) Other Documents . Any other document or instrument reasonably requested by the Acquiror or required hereby.

4.3 Acquiror’s Deliveries . At the Closing, the Acquiror shall deliver the following to the Contributors:

(a) Certificates for Units . Certificates representing Units duly issued by the Acquiror in the name of the Contributor as of the Closing Date representing the Units to which the Contributor is entitled pursuant to Section 1.2 of this Agreement.

(b) Executed Partnership Agreement . Signature pages of the Partnership Agreement (which Partnership Agreement shall be in substantially the form attached hereto as Exhibit B) duly executed by its general partner.

(d) Other Documents . Any other document or instrument reasonably requested by a Contributor or required hereby.

Contributors. Each Contributor acknowledges and agrees, by executing this Agreement, that it will benefit from such an IPO and, as a consequence, the Partnership will bear a portion of its costs if such transaction is not completed.

4.5 Default Remedies . If the Closing fails to occur due to a default by the Acquiror, the Contributors shall retain the Deposit as such Contributor’s sole and exclusive remedy for such default, and the Contributor hereby waives any right it may have to damages (compensatory, consequential or otherwise) from the Acquiror as a result of such default. If a Contributor defaults in performing any of the Contributor’s obligations under this Agreement, the Acquiror shall have all rights and remedies available to it at law or in equity resulting from the Contributor’s default, including without limitation, the right to seek specific performance of this Agreement and the Contributor’s obligation to convey the Contributor’s Assets to the Acquiror hereunder. The parties acknowledge and agree that the failure of a condition precedent to occur, notwithstanding the good faith and commercially reasonable efforts of the applicable party, shall not be a default hereunder.

ARTICLE V

MISCELLANEOUS

5.1 Notices . Any notice provided for by this Agreement and any other notice, demand, or communication required hereunder shall be in writing and either delivered in person (including by confirmed facsimile transmission) or sent by hand delivered against receipt or sent by recognized overnight delivery service or by certified or registered mail, postage prepaid, with return receipt requested. All notices shall be addressed as follows:

Acquiror:

MHI Hospitality L.P.

814 Capitol Landing Road

Williamsburg, VA 23187

Attention: Mr. Andrew M. Sims

Fax No.: (757) 564-8801

Phone No.: (757) 229-5648

E-mail: drewsims@mhihotels.com

Notices to Contributors shall be sent to the addresses specified on Schedule 1.

deliver because of changed address of which no notice was given, or rejection or other refusal to accept any notice, demand or other communication, shall be deemed to be receipt of the notice, demand or other communication as of the date of such attempt to deliver or rejection or refusal to accept.

5.2 Entire Agreement; Modifications and Waivers; Cumulative Remedies . This Agreement supersedes any existing letter of intent between the parties hereto, constitutes the entire agreement among the parties hereto and may not be modified or amended except by instrument in writing signed by the parties hereto, and no provisions or conditions may be waived other than by a writing signed by the party waiving such provisions or conditions. No delay or omission in the exercise of any right or remedy accruing to the Contributor or the Acquiror upon any breach under this Agreement shall impair such right or remedy or be construed as a waiver of any such breach theretofore or thereafter occurring. The waiver by the Contributor or the Acquiror of any breach of any term, covenant, or condition herein stated shall not be deemed to be a waiver of any other breach, or of a subsequent breach of the same or any other term, covenant, or condition herein contained. All rights, powers, options, or remedies afforded to Contributor or the Acquiror either hereunder or by law shall be cumulative and not alternative, and the exercise of one right, power, option, or remedy shall not bar other rights, powers, options, or remedies allowed herein or by law, unless expressly provided to the contrary herein.

5.3 Exhibits . All exhibits referred to in this Agreement and attached hereto are hereby incorporated in this Agreement by reference.

5.4 Successors and Assigns . Except as set forth in this Article, this Agreement may not be assigned by the Acquiror or the Contributors without the prior approval of the other party hereto; provided, however, that the Acquiror may assign this entire agreement or a right to acquire all or any portion of the Contributed Assets to a direct or indirect subsidiary or affiliate of Acquiror and may assign the right to acquire the general partnership interest in the Partnership independent of any assignment of the right to purchase the limited partnership interests of the Partnership without approval of the Contributors provided in each case Acquiror shall remain obligated to issue the units to the Contributors at the Closing. This Agreement shall be binding upon, and inure to the benefit of, each Contributor, the Acquiror, and their respective legal representatives, successors, and permitted assigns.

5.5 Article Headings . Article headings and article and Section numbers are inserted herein only as a matter of convenience and in no way define, limit, or prescribe the scope or intent of this Agreement or any part hereof and shall not be considered in interpreting or construing this Agreement.

5.6 Governing Law . This Agreement shall be construed and interpreted in accordance with the laws of the Commonwealth of Virginia, without regard to conflicts of laws principles.

5.7 Counterparts . This Agreement may be executed in any number of counterparts and by any party hereto on a separate counterpart, each of which when so executed and delivered shall be deemed an original and all of which taken together shall constitute but one and the same instrument.

5.8 Survival . All representations and warranties contained in this Agreement, and all covenants and agreements contained in the Agreement which contemplate performance after the Closing Date (including, without limitation, those covenants and agreements contained in Section 1.2 hereof) shall survive the Closing.

5.9 Further Acts . In addition to the acts, instruments and agreements recited herein and contemplated to be performed, executed and delivered by the Acquiror and the Contributors, each of the Acquiror and each Contributor shall perform, execute, and deliver or cause to be performed, executed, and delivered at the Closing or after the Closing, any and all further acts, instruments, and agreements and provide such further assurances as the other party hereto may reasonably require to consummate the transaction contemplated hereunder.

5.10 Severability . In case any one or more of the provisions contained in this Agreement shall for any reason be held to be invalid, illegal, or unenforceable in any respect, such invalidity, illegality, or unenforceability shall not affect any other provision hereof, and this Agreement shall be construed as if such invalid, illegal, or unenforceable provision had never been contained herein.

with the terms of this Section 5.11. In the event that no such protective order or other remedy is obtained, or that the Acquiror waives compliance with the terms of this Section 5.11, the applicable member of the Information Group may furnish only that portion of the Information which it is advised by counsel is legally required and will exercise all reasonable efforts to obtain reliable assurance that confidential treatment will be accorded the Information. Each Contributor acknowledges that remedies at law may be inadequate to protect the Acquiror or the REIT against any actual or threatened breach of this Section 5.11, and, without prejudice to any other rights and remedies otherwise available, each Contributor agrees to the granting of injunctive relief in favor of the REIT and/or the Acquiror without proof of actual damages. Notwithstanding any other express or implied agreement to the contrary, the parties hereto agree and acknowledge that each of them and each of their employees, representatives, and other agents may disclose to any and all persons, without limitation of any kind, the tax treatment and tax structure of the transaction and all materials of any kind (including opinions or other tax analyses) that are provided to any of them relating to such tax treatment and tax structure, except to the extent that confidentiality is reasonably necessary to comply with U.S. federal or state securities laws. For purposes of this paragraph, the terms “tax treatment” and “tax structure” have the meanings specified in Treasury Regulation section 1.6011-4(c). Receipt of confidential information of Acquiror or any of its affiliates by Contributors constitutes each of Contributor’s acknowledgement that it is aware that applicable securities laws may impose restrictions on each of them from purchasing or selling securities of the REIT, and each Contributor agrees not to purchase or sell securities of the REIT, or any affiliate of the REIT, in violation of applicable securities laws.

[Signatures follow on next page]

The parties hereto have executed and delivered this Agreement as of the date indicated in the first sentence of this Agreement.


CONTRIBUTORS:

Wilmington Hotel Associates

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		President

MHI Hotels Services, LLC

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		President

Kim E. Sims Family Partnership

By:		/s/ Kim E. Sims
Name:		Kim E. Sims
Its:		Trustee

Andrew M. Sims Family Partnership

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		Trustee

Christopher L. Sims Family Partnership

By:		/s/ Christopher L. Sims
Name:		Christopher L. Sims
Its:		Trustee


Edgar Sims Trust

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		Trustee

ACQUIROR:

MHI Hospitality LP

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		President

Capitol Hotels Associates LP

EXHIBIT A

Assignment

[ ] (“Assignor”), for good and valuable consideration paid to the Assignor by MHI Hospitality LP, a Delaware limited partnership (“Assignee”), pursuant to the Contribution Agreement dated as of , 2004, by and between Assignor and Assignee (the “Agreement”) and for other good and valuable consideration, the receipt and adequacy of which are hereby acknowledged, does hereby sell, assign, transfer, convey and deliver to the Assignee, its successors and assigns, good and indefeasible title to the Contributed Assets, free and clear of all liens, encumbrances, security interests, prior assignments, conditions, restrictions, claims, and other matters affecting title thereto.

Capitalized terms used but not defined herein shall have the respective meanings ascribed to them in the Agreement.

IN WITNESS WHEREOF, the parties hereto have caused this Assignment to be signed by a duly authorized officer this day of , 2004


[Assignor]

By:
Name:
Its:


Accepted on , 2004:

MHI Hospitality LP

By:
Name:
Its:

Exhibit 1.8

TAX INDEMNITY AND DEBT MAINTENANCE AGREEMENT

This TAX INDEMNITY AND DEBT MAINTENANCE AGREEMENT (this “Agreement”), dated as of , 2004, is entered into by and among MHI Hospitality Corporation (the “REIT”), MHI Hospitality LP (the “Operating Partnership”) and the Persons named on Exhibit A hereto (the “Contributors”).

WHEREAS, in connection with the execution and delivery of the Contribution Agreement, as defined below, the Contributors have agreed to contribute all of the ownership interests (the “Contributed Interests”) in the entity that owns the Holiday Inn Downtown, Williamsburg, Virginia and the Hilton Wilmington Riverside, Wilmington, North Carolina (each a “Property,” collectively, the “Properties”) to the Operating Partnership in exchange for, among other things, Units in the Operating Partnership; and

WHEREAS, the REIT and the Operating Partnership desire to evidence their agreement regarding amounts that may be payable as a result of certain actions being taken by the Operating Partnership regarding its debt and assets.

NOW, THEREFORE, in consideration of the mutual covenants and agreements herein contained and for other good and valuable consideration the receipt and sufficiency of which are hereby acknowledged, the parties hereto hereby agree as follows:

Section 1. Definitions .

(a) In this Agreement, the following terms shall have the following meanings:

“Applicable Tax Rate” means, as to any given Taxable Event, the Tax Rate applicable to income or gain having the same character as that arising from such Taxable Event, for example, by way of illustration and not limitation, (i) the Tax Rate applicable to ordinary income if the Taxable Event gave rise to ordinary income, (ii) the Tax Rate applicable to long-term capital gain if the Taxable Event gave rise to long-term capital gain, or (iii) the Tax Rate applicable to unrecaptured section 1250 gain if the Taxable Event gave rise to unrecaptured section 1250 gain.

“Code” means the Internal Revenue Code of 1986, as amended, and any replacement to such provisions.

“Contribution Agreement” means the Contribution Agreement between the Operating Partnership and the Contributors dated as of August , 2004.

“Current Tax Excess” means with respect to each Taxable Period and each Taxable Event, an amount equal to the product of (i) product of (a) the taxable income or gain allocable to or otherwise reportable by a Protected Person during such Taxable Period resulting from the occurrence of the Taxable Event and (b) the Sliding Scale Percentage, and (ii) the Applicable Tax Rate. For purposes of the foregoing calculation, the taxable income or gain allocable to or

otherwise reportable by a Protected Person will be limited to the amount of any gain or income allocated to a Protected Person pursuant to section 704(c) of the Code (as reduced by any applicable adjustment to the tax basis of the assets of the Operating Partnership with respect to such Protected Person pursuant to section 754 of the Code).

“Damages” means with respect to each calendar year and each Protected Person, an amount equal to the Current Tax Excess divided by the difference of: one minus the Applicable Tax Rate for ordinary income.

“Disposition” means any sale, assignment, pledge, encumbrance, hypothecation, mortgage, exchange, or any swap agreement or other arrangement that transfers all or a portion of the economic consequences associated with the Units of the Protected Person, provided that the following shall not constitute Dispositions: (i) a pledge of all or a portion of the Units of the Protected Person to secure bona fide indebtedness that does not exceed sixty percent (60%) of the value of the pledged Units of the Protected Person at the time such indebtedness is incurred so long as no foreclosure has occurred; (ii) any pledge of Units to the Operating Partnership; and (iii) a Permitted Disposition.

“Federal Rate” means, with respect to a Taxable Event, the highest marginal federal income tax rate applicable to income or gain having the same character as the income or gain arising from such Taxable Event applicable to the Protected Person in effect for the Taxable Period in issue, taking into account the deductibility of state income taxes payable at the related State Tax Rate by the affected Protected Person, without regard to any limitations on such deduction applicable solely to such Protected Person.

“Guarantee Agreement” means a guarantee, indemnity or contribution agreement (reasonably acceptable to the Operating Partnership) by and among one or more of the Operating Partnership, the REIT, the applicable Guarantor or Guarantee Partner and possibly a lender (or with a lender as a third party beneficiary), pursuant to which a Guarantor or Guarantee Partner, in its sole and absolute discretion, bears the economic risk of loss, within the meaning of Treasury Regulation section 1.752-2, of certain of the Qualifying Debt of the Operating Partnership, including through “bottom dollar” guarantees.

“Guaranteed Debt” means the debt guaranteed by a Protected Person or other Guarantee Partner pursuant to a Guarantee Agreement.

“Guarantee Partner” means a person who guarantees debt of the Operating Partnership in connection with its contribution of property (other than the Properties) to the Operating Partnership in exchange for Units.

“Guarantor” means any Protected Person, Person the income of which is taxable to one or more Protected Persons, or Guarantee Partner who executes a Guarantee Agreement.

“Maximum Guarantee Amount” means the maximum amount of Qualifying Debt that a Contributor (or Protected Persons (pro rata if more than one) deriving their status as Protected Persons through such Contributor) may guarantee as set forth on Exhibit A hereto.

“Permitted Disposition” means a disposition to (i) a member of the immediate family or an affiliate of the applicable Contributor, (ii) a charitable organization a contribution to which would be deductible pursuant to section 170 of the Code, (iii) any partnership, limited liability company or trust, the partners, members or beneficiaries, as applicable, of which are exclusively one or more of the Contributor or members of the immediate family or affiliates of the Contributor and/or a charitable organization a contribution to which would be deductible pursuant to section 170 of the Code, or (iv) in the case of a Contributor that is a trust, partnership, limited liability company or corporation, a beneficiary, partner, member or shareholder of such Contributor, provided that any such disposition shall not involve a disposition for value (other than the issuance or redemption of an interest in the transferor or a reduction in the transferor’s share of liabilities of the Operating Partnership).

“Permitted Transferee” means any Person who acquires Units pursuant to a Permitted Disposition.

“Person” means and includes an individual, a general partnership, limited partnership, a joint venture, a corporation (including a business trust), limited liability company, joint stock company, trust, joint venture or other entity, unincorporated association or a governmental authority.

“Protected Period” means, as to each Protected Person, the period commencing on the closing date (or the first closing date, if there is more than one closing date) of the contributions of the Contributed Interests pursuant to the Contribution Agreement and ending on the earlier of (i) the tenth anniversary of the closing date (or final closing, if there is more than one closing date) of the contributions pursuant to the Contribution Agreement or (ii) as to such Protected Person, the first date that the Unit Sales Restriction is not satisfied.

“Protected Person” means a Contributor, a Permitted Transferee, or in the case of a Contributor or Permitted Transferee the income of which is taxable to one or more other Persons for federal income tax purposes, such other Persons; provided, however, that in the case of a Permitted Transferee that is a charitable organization a contribution to which would be deductible pursuant to section 170 of the Code or a partnership, limited liability company or trust, one or more of the partners, members or beneficiaries, as applicable, of which is a charitable organization a contribution to which would be deductible pursuant to section 170 of the Code, such charitable organization shall not be a Protected Person. The REIT and the Operating Partnership acknowledge and agree that all Persons who are taxable on the income of a Contributor or Permitted Transferee are third-party beneficiaries of this Agreement.

“Qualifying Debt” means indebtedness of the Operating Partnership that is:

(i) In the case of indebtedness secured by any property or other asset of the Operating Partnership and not recourse to all of the assets of the Operating Partnership, the aggregate amount of all indebtedness secured by such property must not exceed seventy-five percent (75%) of the fair market value (as determined by the Board of Directors of the REIT in its

reasonable judgment) of such property at the time that the Guarantee Opportunity is first effective. Nonrecourse debt of a subsidiary of the Operating Partnership shall be treated as debt of the Operating Partnership provided the Operating Partnership guarantees such debt and will permit the Protected Person to indemnify the Operating Partnership from certain losses associated with such guarantee on terms which are similar to those set forth in such Protected Person’s Guarantee Agreement and reasonably acceptable to the Operating Partnership and the Protected Person;

(ii) In the case of indebtedness that is recourse to all of the assets of the Operating Partnership, the indebtedness is at all times the most senior indebtedness recourse to all the assets of the Operating Partnership (but there shall not be a prohibition against other indebtedness that is pari passu with such indebtedness) and the amount of the indebtedness outstanding is at all times at least equal to one hundred fifty percent (150%) of the aggregate amount of the guarantees provided with respect to such indebtedness;

(iii) Any debt which satisfies requirement (i) or (ii) above will not be Qualifying Debt if and when either of the following occurs:

(A) There are other guarantees with respect to the same indebtedness that are prior to (i.e., with less economic risk) the Guarantee Opportunity provided to the Protected Persons pursuant hereto; or

(B) There are other guarantees with respect to the same indebtedness that are pari passu with the Guarantee Opportunity provided to the Protected Person pursuant hereto, and the amount of all such guarantees (including the Protected Person’s guarantee) exceed seventy five percent (75%) of the fair market value of the real estate which is security for such indebtedness measured at the time any such guarantee is first effective (as determined by the Board of Directors of the REIT in its reasonable judgment).

Notwithstanding the foregoing, there shall be no prohibition on guarantees of other portions of Qualifying Debt, and the above limitations shall not apply with respect to any guarantee of such debt by the REIT, provided each Protected Person is offered the opportunity to enter into an agreement with the REIT providing that such Protected Person will indemnify the REIT from certain losses associated with such debt on terms which are similar to those set forth in the Guarantor’s Guarantee Agreement with respect to the debt of the Operating Partnership.

“Sliding Scale Percentage” means 100% for each Taxable Period prior to the fifth anniversary of the Closing Date; 50% for each Tax Period following the fifth and prior to the sixth anniversary of the Closing Date; 40% for each Tax Period following the sixth and prior to the seventh anniversary of the Closing Date; 30% for each Tax Period following the seventh and prior to the eighth anniversary of the Closing Date; 20% for each Tax Period following the eighth and prior to the ninth anniversary of the Closing Date; 10% for each Tax Period following the ninth and prior to the tenth anniversary of the Closing Date; 0% for every year thereafter.

“State Tax Rate” means with respect to each Taxable Event the highest marginal state tax rate applicable to income or gain having the same character as the income or gain arising from

such Taxable Event applicable to the Protected Person in effect for the Taxable Period in issue; and shall be determined with respect to the state in which such income is taxable to the Protected Person having the highest marginal state tax rate, whether such state is the one in which the applicable property is located or the state of residence of the Protected Person subject to the provisions of Section 2(g)(iii). Appropriate adjustments shall be made if more than one non-federal income tax applies within a state.

“Taxable Event” means, with respect to each Protected Person, an event described in Section 2(a) giving rise to the requirement of the REIT or the Operating Partnership to pay Damages, subject to the provisions of Section 2(f).

“Taxable Period” means with respect to a Taxable Event the calendar year in which such Taxable Event occurs but if during such calendar year the State Tax Rate or Federal Tax Rate changes, each portion of the calendar year having a different Applicable Tax Rate shall be considered a separate Taxable Period.

“Tax Rate” means with respect to a Taxable Event the sum of the State Tax Rate plus the Federal Rate.

“Units” has the meaning ascribed to it in the Contribution Agreement.

“Units Sale Restriction” means as to any Contributor or any of its Permitted Transferees, that the Contributor and each of its Permitted Transferees shall have satisfied this requirement with respect to a period if at the end of such period, aggregate Dispositions by the Contributor and its Permitted Transferees of Units received pursuant to the Contribution Agreement have not caused the aggregate Units then owned by the Contributor and its Permitted Transferees to be less than twenty-five percent (25%) of the aggregate Units issued to the Contributor pursuant to the Contribution Agreement.

(b) Additional Definitions . Capitalized terms used in this Agreement and not defined in Section 1(a) or elsewhere in this Agreement shall have the respective meanings ascribed to such terms in the Contribution Agreement.

(c) Section References . The Section headings herein are for reference only and shall not affect the construction hereof.

(d) Interpretation . No provisions of this Agreement shall be interpreted or construed against any person solely because that Person or its legal representative drafted such provision.

Section 2. Damages .

(a) The REIT and the Operating Partnership, jointly and severally, agree to pay to a Protected Person, in accordance with Section 2(b) below, an amount equal to the Damages incurred by a Protected Person as a result of the occurrence of the following events:

(i) If, during the Protected Period, there occurs a direct or indirect sale, exchange, or disposition of any Property or any interest therein by the Operating Partnership or its subsidiaries resulting in the allocation of income or gain to such Protected Person or a Person the income of which is taxable to such Protected Person under section 704(c) of the Code; and

(ii) If, during the Protected Period, the Operating Partnership fails to satisfy its obligations under Section 3 of this Agreement and such failure causes such Protected Person to recognize taxable income or gain as a result of such failure.

Any transfer of assets of the Operating Partnership or a subsidiary thereof will be deemed a taxable disposition of such assets for their fair market values for purposes of unless (i) such disposition qualifies as a like-kind exchange under section 1031 of the Code, or an involuntary conversion under section 1033 of the Code, or other transaction (including, but not limited to, a contribution of property to any entity that qualifies for the nonrecognition of gain under section 721 or section 351 of the Code, or a merger or consolidation of the Operating Partnership with or into another entity that qualifies for taxation as a “partnership” for federal income tax purposes (a “Successor Partnership”)), in each case that does not result in the recognition of any taxable income or gain to the Protected Person with respect to the Properties; provided, however, that: (1) in the event of a disposition of a Property under section 1031 or section 1033 of the Code or pursuant to another tax deferred transaction, any property that is acquired in exchange for or as a replacement for such Property shall thereafter be considered that Property for purposes of this Agreement; (2) if a Property is transferred to another entity in a transaction in which gain or loss is not recognized, the interest of the Operating Partnership in such entity shall thereafter be considered that Property for purposes of this Agreement, and if the acquiring entity’s disposition of such Property would cause the Protected Person to recognize gain or loss as a result thereof, the transferred Property still shall be considered that Property for purposes of this Agreement; and (3) in the event of a merger or consolidation involving the Operating Partnership and a Successor Partnership, the Successor Partnership shall have agreed in writing for the benefit of the Protected Person that all of the restrictions of this Agreement shall apply with respect to each Property, or (ii) with respect to each Protected Person, the adjusted taxable basis of the Property has increased in the hands of the Operating Partnership to fair market value as a result of a taxable disposition of the Units received in the Formation Transactions or otherwise, such that a taxable disposition of such Property by the Operating Partnership would not result in the allocation of taxable gain to the Protected Person pursuant to section 704(c) of the Code.

(b) Within 90 days after the occurrence of any event specified in Section 2(a), the REIT or the Operating Partnership will (i) pay all Damages then due to the Protected Person and (ii) provide sufficient documentation to support the calculation of the amounts paid.

(c) The making of a payment by the REIT or the Operating Partnership under this Section 2 shall be the sole and exclusive remedy of the Protected Person with respect to any tax liability incurred in connection with this Agreement or the transactions contemplated hereby.

(d) Each Protected Person shall have the right to review or audit (i) records of asset sales and disposition by the Operating Partnership and its subsidiaries, and (ii) the calculation of Damages pursuant to this Agreement.

(e) Nothing contained in this Agreement shall be construed to permit a Protected Person to receive a double benefit or compensation with respect to Damages.

(f) For purposes of determining any Damages under this agreement the following will apply:

(i) Each Taxable Event will be determined solely with respect to a single Taxable Period. If a Taxable Event would otherwise result in taxable income or gain allocable to more than one Taxable Period, the taxable income or gain allocable to each Taxable Period will be treated as arising from a separate Taxable Period and as constituting a separate Taxable Event.

(ii) The use of the term “allocation” in Section 2 shall not be limiting, thus if a Protected Person recognizes taxable income or gain with respect to an event described in Section 2(a), such event will be a Taxable Event notwithstanding that some portion of such taxable income or gain is not subject to the profit and loss allocation provisions of any partnership agreement applicable to the Operating Partnership or is not reported or not required to be reported on any Schedule K-1 to U.S. Form 1065 or any other federal or state tax report or return required to be filed by the Operating Partnership.

(iii) Each Taxable Event will be determined solely with respect to a single character of income or gain. If a Taxable Event would otherwise result in items of taxable income or gain having more than one character, each item of taxable income or gain having the same character shall be treated as a separate Taxable Event.

Section 3. Debt Maintenance Obligation and Guarantee Opportunity .

(a) During the Protected Period, the Operating Partnership shall use commercially reasonable efforts to make available to each Protected Person the opportunity (a “Guarantee Opportunity”) to make, or increase from time to time, a guarantee of Qualifying Debt of the Operating Partnership pursuant to a Guaranty Agreement in an amount not more than such Protected Person’s Maximum Guarantee Amount. During the Protected Period, if Guaranteed Debt is to be repaid and, immediately after such repayment, the outstanding amount of Guaranteed Debt would be less than the Maximum Guarantee Amount with respect to such Guaranteed Debt, the Operating Partnership shall use commercially reasonable efforts to provide to each Protected Person a new Guarantee Opportunity with respect to Qualifying Debt in an amount equal to the Guaranteed Debt being repaid. In the event that the Operating Partnership is required to use commercially reasonable efforts to offer a Guarantee Opportunity pursuant to this Section 3(a), the Operating Partnership will provide the Protected Person notice of the type, amount and other relevant attributes of the Qualifying Debt with respect to which the Guarantee Opportunity is offered at least ten (10) business days, to the extent reasonably practicable, but in no event less than five (5) business days prior to the earlier of the closing of the incurrence of such debt and the scheduled repayment of the existing Guaranteed Debt. In the event that the Operating Partnership or a related party repurchases outstanding Guaranteed Debt, whether or not such debt is retired, the repurchase thereof shall be treated as a repayment of the Guaranteed Debt for purposes of this Section 3.

(b) Each Protected Person acknowledges that Guarantee Partners other than such Protected Person have the right to guarantee debt of the Operating Partnership on terms which are similar to the terms set forth in this Agreement. The Operating Partnership shall use commercially reasonable efforts to offer each Guarantee Opportunity to the Guarantee Partners (including such Protected Persons) on a pro rata basis, based on the proportion of each Guarantee Partner’s Guarantee Amount to the aggregate Guarantee Amounts of all Guarantee Partners, unless the Guarantee Partners agree to accept Guarantee Opportunities on other than a pro rata basis.

(c) The Operating Partnership agrees to file its tax returns taking the position that the Guaranteed Debt is allocable to the Guarantor for purposes of section 752 of the Code, absent a determination to the contrary by the Internal Revenue Service. However, the Operating Partnership makes no representation or warranty to any Guarantor, Contributor, or Protected Person that any guarantee entered into pursuant to Section 3(a) shall be respected for federal income tax purposes so as to enable the Guarantor to be considered to bear the “economic risk of loss” with respect to the indebtedness thereby guaranteed by such Guarantor for purposes of either section 752 or section 465 of the Code.

(d) The Operating Partnership shall not be obligated to undertake efforts to maintain any level of indebtedness in excess of the amounts specifically required to meet the obligations set forth above in this Section 3.

Section 4. Conduct of Audits and Litigation . No Protected Person shall have any right to participate in (i) any audit, conference or other proceeding with the Internal Revenue Service or the relevant state or local authorities, or any judicial proceedings concerning the determination of the tax liability of the REIT, the Operating Partnership or any of their subsidiaries, (ii) any administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of any such proceeding or (iii) any compromise or settlement of any adjustment or deficiency proposed, asserted or assessed as a result of any such proceeding.

Section 5. Miscellaneous .

(a) Amendment and Waivers . Any provision of this Agreement may be amended or waived by a Contributor, but only as to itself or himself and not any other Contributor, if, but only if, such amendment or waiver is in writing and is signed by the REIT, the Operating Partnership and the relevant Contributor.

(b) Successors and Assigns . This Agreement shall be binding on the REIT, the Operating Partnership, the Contributors and their respective successors and assigns. If any Contributor constituting a partnership under local law distributes one or more Units to one or more of its partners, each such partner shall be a “Contributor” for purposes of this Agreement without the necessity of any amendment of this Agreement and no consent or waiver of the REIT, the Operating Partnership or any other Contributor shall be required.

(c) Severability . Should any clause, sentence, paragraph, subsection or Section of this Agreement be judicially declared to be invalid, unenforceable or void, such decision will not have the effect of invalidating or voiding the remainder of this Agreement, and the part or parts of this Agreement so held to be invalid, unenforceable or void will be deemed to have been stricken herefrom, and the remainder will have the same force and effectiveness as if such stricken part or parts had never been included herein.

(d) Entire Agreement . This Agreement sets forth all of the covenants, agreements, conditions, understandings, warranties and representations of the REIT, the Operating

Partnership and the Contributors relative to the subject matter hereof, and any previous agreement among such parties with respect to the subject matter hereof is superseded by this Agreement.

(e) Governing Law . This Agreement shall be governed by, and construed in accordance with, the laws of the State of Maryland.

IN WITNESS WHEREOF, each of the parties hereto has executed this Tax Indemnity and Debt Maintenance Agreement, or caused this Tax Indemnity and Debt Maintenance Agreement to be duly executed on its behalf, as of the date first above written.


MHI Hospitality Corporation.

By:
		Andrew M. Sims
		President and Chief Executive Officer

MHI Hospitality L.P.

By:
		MHI Hospitality Corporation
		as general partner


By:
		Andrew M. Sims
		President and Chief Executive Officer


Wilmington Hotel Associates

By:
		Duly Authorized Signatory

MHI Hotels Services LLC

By:
Name:
Title:

Kim E. Sims Family Partnership
Address:


By:
Name:
Title:

Andrew M. Sims Family Partnership
Address:


By:
Name:
Title:

Christopher L. Sims Family Partnership
Address:


By:
Name:
Title:


Edgar Sims Trust
Address:


By:
Name:
Title:

EXHIBIT A

CONTRIBUTORS; MAXIMUM GUARANTEE AMOUNT


Name		Maximum Guarantee Amount
Wilmington Hotel Associates		357,972
MHI Hotel Services, LLC		30,467
Kim E. Sims Family Partnership		632,819
Andrew M. Sims Family Partnership		632,981
Christopher L. Sims Family Partnership		632,878
Edgar Sims Trust		0

GUARANTY

This GUARANTY (“ Guaranty ”) is executed as of August , 2004, by , a (“ Guarantor ”), in favor of , a (“ Lender ”), with reference to the following facts:

Lender has made a loan (the “ Loan ”) to , a , (“ Borrower ”) evidenced by that certain Promissory Note (the “ Note ”), dated , in favor of the Lender in the original amount of ($ ). The Note is secured by, among other things, a [Deed of Trust] [Mortgage] (the “ Deed of Trust ”) [an Assignment of Leases (the “ Assignment of Leases ”). The Deed of Trust encumbers a fee estate in certain real property located in , and certain personal property defined therein as the “Property.”

A G R E E M E N T

NOW, THEREFORE, for good and valuable consideration, the receipt of which is hereby acknowledged, Guarantor hereby agrees, in favor of Lender, as follows:

1. Definitions and Construction.

(a) Definitions . The following terms, as used in this Guaranty, shall have the following meanings: (i) ”Bankruptcy Code” means the Bankruptcy Reform Act of 1978 (11 U.S.C.), as amended or supplemented from time to time, and any successor statute, and any and all rules issued or promulgated in connection therewith; and (ii) ”Guaranteed Obligations” means any and all obligations, indebtedness, or liabilities of any kind or character owed by Borrower to Lender pursuant to Section 2 below.

(b) Construction . Unless the context of this Guaranty clearly requires otherwise, references to the plural include the singular, references to the singular include the plural, and the term “including” is not limiting. The words “hereof, ^” “herein,” “hereby,” “hereunder,” and other similar terms refer to this Guaranty as a whole and not to any particular provision of this Guaranty. Any reference herein to any of the Loan Documents (as defined in the Deed of Trust) includes any and all alterations, amendments, extensions, modifications, renewals, or supplements thereto or thereof, as applicable. Neither this Guaranty nor any uncertainty or ambiguity herein shall be construed or resolved against Lender or Guarantor, whether under any rule of construction or otherwise. On the contrary, this Guaranty has been reviewed by Guarantor, Lender, and their respective counsel, and shall be construed and interpreted according to the ordinary meaning of the words used so as to fairly accomplish the purposes and intentions of Lender and Guarantor.

2. Guaranteed Obligations . Guarantor hereby irrevocably and unconditionally guarantees to Lender, as and for Guarantor’s own debt, until final and indefeasible payment thereof has been made, payment of the Secured Indebtedness (as defined in the Deed of Trust), subject to the following limitations: (a) this Guaranty is and shall be construed to be a guaranty of collection only and not of payment and performance and is therefore conditioned and contingent upon Lender taking all prior actions or proceedings of any

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kind available to Lender under the Loan Documents to enforce the Loan Documents or any of them, including without limitation, the foreclosure of the security, Lender may at any time hold pursuant to the Loan Documents; and (b) the maximum amount of Guarantor’s liability hereunder shall be an amount equal to ($ ) minus the fair market value of the Property.

3. Performance Under This Guaranty . In the event that Guarantor becomes liable for any Guaranteed Obligations pursuant to Section 2 above, Guarantor immediately shall cause such payment to be made.

4. Primary Obligations . This Guaranty is a primary and original obligation of Guarantor, is not merely the creation of a surety relationship, and shall remain in full force and effect without respect to future changes in conditions, including any change of law or any invalidity or irregularity with respect to the issuance of the Loan Documents. Each person executing this Guaranty as Guarantor agrees that it is directly and severally (but not jointly) with any and all other guarantors of the Guaranteed Obligations, liable to Lender, that the obligations of Guarantor hereunder are independent of the obligations of Borrower or any other guarantor, and that a separate action may be brought against each person signing as Guarantor whether such action is brought against Borrower or any other guarantor or whether Borrower or any such other guarantor is joined in such action. Guarantor agrees that any release which may be given by Lender to Borrower or any other guarantor shall not release Guarantor. Guarantor consents and agrees that Lender shall be under no obligation to marshal any assets of Borrower or any other guarantor in favor of Guarantor, or against or in payment of any or all of the Guaranteed Obligations.

5. Waivers .

(a) Guarantor absolutely, unconditionally, knowingly, and expressly waives:

(i) (A) Notice of acceptance hereof; (B) notice of any loans or other financial accommodations made or extended under the Loan Documents or the creation or existence of any Guaranteed Obligations; (C) notice of any adverse change in the financial condition of Borrower or of any other fact that might increase Guarantor’s risk hereunder; (D) notice of presentment for payment, demand, protest, and notice thereof as to any promissory notes or other instruments among the Loan Documents; (E) notice of any event of default under the Loan Documents; and (F) all other notices (except if such notice is specifically _, required to be given to Guarantor hereunder or under any Loan Document to which Guarantor is a party) and demands to which Guarantor might otherwise be entitled.

(ii) Except as provided in Section 2, Guarantor’s right by statute or otherwise to require Lender to institute suit against Borrower or to exhaust any rights and remedies which Lender has or may have against Borrower or any collateral for the Guaranteed Obligations provided by Borrower, Guarantor or any third party. In this regard, Guarantor agrees that it is bound to the payment of all Guaranteed Obligations, whether now existing or hereafter accruing, as fully as if such Guaranteed Obligations were directly owing to Lender by Guarantor. Guarantor further waives any defense arising by reason of any disability

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or other defense (other than the defense that the Guaranteed Obligations shall have been fully and finally performed and indefeasibly paid) of Borrower or by reason of the cessation from any cause whatsoever of the liability of Borrower in respect thereof.

(iii) (A) Any rights to assert against Lender any defense (legal or equitable), set-off, counterclaim, or claim which Guarantor may now or at any time hereafter have against Borrower or any other party liable to Lender; (B) any defense, set-off, counterclaim, or claim, of any kind or nature, arising directly or indirectly from the present or future lack of perfection, sufficiency, validity, or enforceability of the Guaranteed Obligations or any security therefor; (C) any defense Guarantor has to performance hereunder, and any right Guarantor has to be exonerated, or otherwise, arising by reason of: the impairment or suspension of Lender’s rights or remedies against Borrower; the alteration by Lender of the Guaranteed Obligations; any discharge of the Guaranteed Obligations by operation of law as a result of Lender’s intervention or omission; or the acceptance by Lender of anything in partial satisfaction of the Guaranteed Obligations; (D) the benefit of any statute of limitations affecting Guarantor’s liability hereunder or the enforcement thereof, and any act which shall defer or delay the operation of any statute of limitations applicable to the Guaranteed Obligations shall similarly operate to defer or delay the operation of such statute of limitations applicable to Guarantor’s liability hereunder.

(b) Guarantor absolutely, unconditionally, knowingly, and expressly waives any defense arising by reason of or deriving from (i) any claim or defense based upon an election of remedies by Lender; or (ii) any election by Lender under Bankruptcy Code Section 1111(b) to limit the amount of, or any collateral securing, its claim against Borrower:

Guarantor waives all rights and defenses arising out of an election of remedies by the creditor, even though that election of remedies, such as a nonjudicial foreclosure with respect to security for a guaranteed obligation, has destroyed Guarantor’s rights of subrogation and reimbursement against Borrower.

Guarantor waives all rights and defenses that Guarantor may have because some of the Guaranteed Obligations are secured by real property. This means, among other things, that if Lender forecloses on any real property collateral pledged by Borrower for the Guaranteed Obligations: (A) the amount of the debt may be reduced only by the price for which that collateral is sold at the foreclosure sale, even if the collateral is worth more than the sale price; and (B) Lender may collect from Guarantor even if Lender, by foreclosing on the real property collateral pledged by Borrower for the Guaranteed Obligations, has destroyed any right Guarantor may have to collect from Borrower.

This is an unconditional and irrevocable waiver of any rights and defenses Guarantor may have because Borrower’s debt is secured by real property.

If any of the Guaranteed Obligations at any time are secured by a mortgage or deed of trust upon real property, Lender may elect, in its sole discretion, upon a default with respect to the Guaranteed Obligations, to foreclose such mortgage or deed of trust judicially or nonjudicially in any manner permitted by law, before or after enforcing the Loan Documents, without diminishing or affecting the liability of Guarantor hereunder except to the extent the Guaranteed Obligations are repaid with the proceeds of such foreclosure. Guarantor

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understands that (a) by virtue of the operation of any antideficiency law applicable to nonjudicial foreclosures, an election by Lender nonjudicially to foreclose such a mortgage or deed of trust probably would have the effect of impairing or destroying rights of subrogation, reimbursement, contribution, or indemnity of Guarantor against Borrower or other guarantors or sureties, and (b) absent the waiver given by Guarantor, such an election would prevent Lender from enforcing the Loan Documents against Guarantor. Understanding the foregoing, and understanding that Guarantor is hereby relinquishing a defense to the enforceability of the Loan Documents, Guarantor hereby waives any right to assert against Lender any defense to the enforcement of the Loan Documents, whether denominated “estoppel” or otherwise, based on or arising from an election by Lender nonjudicially to foreclose any such mortgage or deed of trust. Guarantor understands that the effect of the foregoing waiver may be that Guarantor may have liability hereunder for amounts with respect to which Guarantor may be left without rights of subrogation, reimbursement, contribution, or indemnity against Borrower or other guarantors or sureties.

(c) Guarantor waives all rights and defenses arising out of an election of remedies by Lender, even though that election of remedies, such as nonjudicial foreclosure with respect to security for a guaranteed obligation, may have destroyed Guarantor’s rights of subrogation and reimbursement against the principal under any law of the State of . Notwithstanding the foregoing, and in addition thereto and without limiting the generality thereof, Guarantor hereby absolutely and irrevocably waive any and all (a) rights which it may have or may now or hereafter acquire by way of subrogation, reimbursement or indemnity against Borrower by virtue of any payment made under this Guaranty or otherwise (including, without limitation, any payment made by Borrower) in connection with the Guaranteed Obligations.

(d) Guarantor expressly acknowledges that this Guarantee does not replace, supersede, void or affect any other guaranty that Guarantor or any person related to Guarantor may have previously, simultaneously or hereinafter execute in favor of Lender.

6. Releases . Guarantor consents and agrees that, without notice to or by Guarantor and without affecting or impairing the obligations of Guarantor hereunder, Lender may, by action or inaction:

(a) compromise, settle, extend the duration or the time for the payment of, or discharge the performance of, or may refuse to or otherwise not enforce this Guaranty, the other Loan Documents, or any part thereof, with respect to Borrower or any other person or entity;

(b) release Borrower or any other person or entity or grant other indulgences to Borrower or any other person or entity in respect thereof;

(d) release or substitute any other guarantor, if any, of the Guaranteed Obligations, or enforce, exchange, release, or waive any security for the Guaranteed Obligations or any other guaranty of the Guaranteed Obligations, or any portion thereof.

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7. No Election . Lender shall have all of the rights to seek recourse against Guarantor to the fullest extent provided for herein, and no election by Lender to proceed in 6 one form of action or proceeding, or against any party, or on any obligation, shall constitute a waiver of Lender’s right to proceed in any other form of action or proceeding or against other parties unless Lender has expressly waived such right in writing. Specifically, but without limiting the generality of the foregoing, no action or proceeding by Lender under .any document or instrument evidencing the Guaranteed Obligations shall serve to diminish the liability of Guarantor under this Guaranty except to the extent that Lender finally and unconditionally shall have realized indefeasible payment by such action or proceeding.

8. Indefeasible Payment . The Guaranteed Obligations shall not be considered indefeasibly paid for purposes of this Guaranty unless and until all payments to Lender are no longer subject to any right on the part of any person, including Borrower, Borrower as a debtor in possession, or any trustee (whether appointed under the Bankruptcy Code or otherwise) of any of Borrower’s assets to invalidate or set aside such payments or to seek to recoup the amount of such payments or any portion thereof, or to declare same to be fraudulent or preferential. Upon such full and final performance and indefeasible payment of the Guaranteed Obligations whether by Guarantor or Borrower, Lender shall have no obligation whatsoever to transfer or assign its interest in the Loan Documents to Guarantor. In the event that, for any reason, any portion of such payments to Lender is set aside or restored, whether voluntarily or involuntarily, after the making thereof, then the obligation intended to be satisfied thereby shall be revived and continued in full force and effect as if said payment or payments had not been made, and Guarantor shall be liable to the maximum amount of the Guaranteed Obligations, for the amount Lender is required to repay plus any and all costs and expenses (including attorneys’ fees and expenses and attorneys’ fees and expenses incurred pursuant to proceedings arising under the Bankruptcy Code) paid by Lender in connection therewith.

9. Financial Condition of Borrower . Guarantor represents and warrants to Lender that Guarantor is currently informed of the financial condition of Borrower and of all other circumstances which a diligent inquiry would reveal and which bear upon the risk of nonpayment of the Guaranteed Obligations. Guarantor further represents and warrants to Lender that Guarantor has read and understands the terms and conditions of the Loan Documents. Guarantor hereby covenants that Guarantor will continue to keep informed of Borrower’s financial condition, the financial condition of other guarantors, if any, and of all other circumstances which bear upon the risk of nonpayment or nonperformance of the Guaranteed Obligations.

10. Subordination . Guarantor hereby agrees that any and all present and future indebtedness of Borrower owing to Guarantor is postponed in favor of and subordinated to payment, in full, in cash, of the Guaranteed Obligations. In this regard, no payment of any kind whatsoever shall be made with respect to such indebtedness during the continuance of an Event of Default (as defined in the Deed of Trust) until the Guaranteed Obligations have been indefeasibly paid in full.

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11. Payments: Application . All payments to be made hereunder by Guarantor shall be made in lawful money of the United States of America at the time of payment, shall be made in immediately available funds, and shall be made without deduction (whether for taxes or otherwise) or offset. All payments made by Guarantor hereunder shall be applied as follows: first, to all costs and expenses (including reasonable attorneys’ fees and expenses incurred pursuant to proceedings arising under the Bankruptcy Code) incurred by Lender in enforcing this Guaranty or in collecting the Guaranteed Obligations; second, to all accrued and unpaid interest, premium, if any, and fees owing to Lender constituting Guaranteed Obligations; and third, to the balance of the Guaranteed Obligations.

12. Attorneys’ Fees and Costs . Guarantor agrees to pay, on demand, all reasonable attorneys’ fees (including attorneys’ fees incurred pursuant to proceedings arising under the Bankruptcy Code) and all other costs and expenses which may be incurred by Lender in the enforcement of this Guaranty (including those brought relating to proceedings pursuant to 11 U.S.C.) or in any way arising out of, or consequential to, the protection, assertion, or enforcement of the Guaranteed Obligations (or any security therefor), whether or not suit is brought.

13. Notices . All notices or demands by Guarantor or Lender to the other relating to this Guaranty shall be in writing and either personally served or sent by registered or certified mail, postage prepaid, return receipt requested, or by recognized courier service which provides return receipts, and shall be deemed delivered on the date of actual delivery or refusal to accept delivery as evidenced by the return receipt. Unless otherwise specified in a notice sent or delivered in accordance with the provisions of this section, such writing shall be sent, if to Guarantor and Lender as follows:

Guarantor:

___________________

Attention: ___________________

Facsimile number: ___________________

Telephone number:___________________

With a copy to:

Attention: ___________________

Facsimile number: ___________________

Telephone number: ___________________

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Lender:

___________________

Attention: ___________________

Facsimile number: ___________________

Telephone number: ___________________

14. Cumulative Remedies . No remedy under this Guaranty or under any Loan Document is intended to be exclusive of any other remedy, but each and every remedy shall be cumulative and in addition to any and every other remedy given hereunder or under any Loan Document, and those provided by law or in equity. No delay or omission by Lender to exercise any right under this Guaranty shall impair any such right nor be construed to be a waiver thereof. No failure on the part of Lender to exercise, and no delay in exercising, any right hereunder shall operate as a waiver thereof; nor shall any single or partial exercise of any right hereunder preclude any other or further exercise thereof or the exercise of any other right.

15. Severability of Provisions . If any provision of this Guaranty is for any reason held to be invalid, illegal or unenforceable in any respect, that provision shall not affect the validity, legality or enforceability of any other provision of this Guaranty.

16. Entire Agreement: Amendments . This Guaranty constitutes the entire agreement between Guarantor and Lender pertaining to the subject matter contained herein. This Guaranty may not be altered, amended, or modified, nor may any provision hereof be waived or noncompliance therewith consented to, except by means of a writing executed by both Guarantor and Lender. Any such alteration, amendment, modification, waiver, or consent shall be effective only to the extent specified therein and for the specific purpose for which given. No course of dealing and no delay or waiver of any right or default under this Guaranty shall be deemed a waiver of any other similar or dissimilar right or default or otherwise prejudice the rights and remedies hereunder.

17. Successors and Assigns . The death of Guarantor shall not terminate this Guaranty. This Guaranty shall be binding upon Guarantor’s heirs, executors, administrators, representatives, successors, and assigns and shall inure to the benefit of the successors and assigns of Lender; provided, however, Guarantor shall not assign this Guaranty or delegate any of its duties hereunder without Lender’s prior written consent. Any assignment without the consent of Lender shall be absolutely void. In the event of any assignment or other transfer of rights by Lender, the rights and benefits herein conferred upon Lender shall automatically extend to and be vested in such assignee or other transferee.

18. Choice of Law and Venue . The validity of this Guaranty, its construction, interpretation, and enforcement, and the rights of Guarantor and Lender, shall be determined under, governed by, and construed in accordance with the internal laws of the State of , without regard to principles of conflicts of law. To the maximum extent permitted by law, Guarantor hereby agrees that all actions or proceedings arising in connection

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with this Guaranty shall be tried and determined only in the state and federal courts located in the County of , State of . To the maximum extent permitted by law, Guarantor hereby expressly waives any right it may have to assert the doctrine of forum non conveniens or to object to venue to the extent any proceeding is brought in accordance with this Section.

19. WAIVER OF JURY TRIAL . TO THE MAXIMUM EXTENT PERMITTED BY LAW, GUARANTOR HEREBY ABSOLUTELY, KNOWINGLY, UNCONDITIONALLY, AND EXPRESSLY WAIVES ANY RIGHT TO TRIAL BY JURY OF ANY ACTION, CAUSE OF ACTION, CLAIM, DEMAND, OR PROCEEDING ARISING UNDER OR WITH RESPECT TO THIS GUARANTY, OR IN ANY WAY CONNECTED WITH, RELATED TO, OR INCIDENTAL TO THE DEALINGS OF GUARANTOR AND LENDER WITH RESPECT TO THIS GUARANTY, OR THE TRANSACTIONS RELATED HERETO, IN EACH CASE WHETHER NOW EXISTING OR HEREAFTER ARISING, AND WHETHER SOUNDING IN CONTRACT, TORT, OR OTHERWISE. TO THE MAXIMUM EXTENT PERMITTED BY LAW, GUARANTOR HEREBY AGREES THAT ANY SUCH ACTION, CAUSE OF ACTION, CLAIM, DEMAND, OR PROCEEDING SHALL BE DECIDED BY A COURT TRIAL WITHOUT A JURY AND THAT LENDER MAY FILE AN ORIGINAL, COUNTERPART OF THIS SECTION WITH ANY COURT OR OTHER TRIBUNAL AS WRITTEN EVIDENCE OF THE CONSENT OF GUARANTOR TO THE WAIVER OF ITS RIGHT TO TRIAL BY JURY.

20. Understandings With Respect to Waivers and Consents . Guarantor warrants and agrees that each of the waivers and consents set forth are made after consultation with legal counsel and with full knowledge of their significance and consequences, with the understanding that events giving rise to a defense or right may diminish, destroy, or otherwise adversely affect rights which Guarantor otherwise may have against the Borrower, or against any collateral, and that, under the circumstances the waivers and consents herein given are reasonable and not contrary to public policy or law. If any of the waivers or consents are determined to be unenforceable under applicable law, such waivers and consents shall be effective to the maximum extent permitted by law.

[SIGNATURE PAGE TO FOLLOW]

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IN WITNESS WHEREOF, Guarantor has executed and delivered this Guaranty as of the date set forth in the first paragraph hereof.




By:
Name:
Title:

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Exhibit 10.7

Savannah Hotel Associates LLC

CONTRIBUTION AGREEMENT

THIS CONTRIBUTION AGREEMENT (this “Agreement”) is made as of the 23 day of August, 2004 (the “Effective Date”) by and among the entities identified on Schedule 1 attached hereto (each a “Contributor” and collectively, the “Contributors”), and MHI Hospitality LP, a Delaware limited partnership (“Acquiror”).

RECITALS

A. Savannah Hotel Associates LLC (the “Company”) is the owner of certain real property consisting of approximately 1.03 acres of land located in Savannah, Georgia (the “Property”), and the hotel improvements located thereon consisting of 246 room hotel trading as the Hilton De Soto (the “Hotel”);

B. Contributors are the record and beneficial owners of 100% of the ownership interests of the Company (the “Contributed Assets”). The Contributors desire to contribute the Contributed Assets to the Acquiror, and the Acquiror desires to acquire the Contributed Assets from the Contributor, on the terms and conditions hereinafter set forth; and

AGREEMENT

NOW, THEREFORE, for and in consideration of the mutual covenants herein contained, the parties hereto agree as follows:

ARTICLE I

THE CONTRIBUTION

Contributed Assets shall be transferred to the Acquiror free and clear of all liens, encumbrances, security interests, prior assignments or conveyances, conditions, restrictions, claims, and other matters affecting title thereto.

1.2 Consideration . In exchange for the contribution and transfer by the Contributors of the Contributed Assets to the Acquiror, the Acquiror agrees, subject to the terms of this Agreement, to issue to the Contributors 1,665,494 units in the aggregate of limited partnership interests in the Acquiror (the “Units”). The number of Units to be issued to each Contributor is set forth in Schedule 1 attached hereto.

1.3 Issuance of Units . On the Closing Date (as defined below), the Acquiror shall issue to the Contributors certificates reflecting the Units in such amount as specified in Schedule 1. Such certificates shall bear appropriate legends indicating (i) that the Units have not been registered under the Securities Act of 1933, as amended (the “Securities Act”), and (ii) that the Acquiror’s agreement of limited partnership (the “Partnership Agreement”) will restrict the transfer of the Units. Immediately upon receipt of the Units, each Contributor shall accede to the Partnership Agreement as a limited partner of the Acquiror. Each Contributor acknowledges and agrees that once Closing occurs, the Contributor shall no longer be a member of the Company, shall no longer be entitled to receive any distributions from the Company, and shall have no further right, title or interest in the Company.

1.4 Adjustment . The term “Purchased Working Capital” shall mean the agreed upon sum of one hundred thousand dollars ($100,000) which amount represents the Company’s good faith estimate of the Company’s current assets shown on the Hotel balance sheet (exclusive of any FF&E Reserves) less the Company’s current liabilities shown on the Hotel balance sheet at the close of business on the Closing Date. The Contributors shall be permitted an opportunity to review the books and records of the Company prior to the Closing Date (and for sixty (60) days thereafter) to verify the calculation of Purchased Working Capital and all other working capital as of the Closing Date. Within such sixty (60) day period, the parties hereto agree to calculate actual working capital as of the Closing Date (including any amounts in any escrow or reserve accounts as of the Closing Date). In the event that actual working capital at Closing is more or less than the Purchased Working Capital, then the Contributors shall pay to the Acquiror an amount equal to the amount by which actual working capital as of the Closing Date is less than the Purchased Working Capital, and the Acquiror will pay to the Contributors an amount equal to the amount by which actual working capital as of the Closing Date exceeds the Purchased Working Capital. Any such amount payable by the Acquiror to the Contributors shall be allocated among the Contributors in proportion to the number of Units issuable to each Contributor pursuant to Schedule 1 hereof. Each Contributor shall bear its pro rata portion of any amount payable by the Contributors to the Acquiror on the basis of the number of Units issuable to each Contributor hereunder. Each Contributor (by its execution hereof) hereby acknowledges and agrees any such adjustments shall be paid in cash to the party entitled thereto, and such adjustments shall be deemed final. Payment, if any, shall be made within 15 days of calculating working capital as of the Closing Date.

1.7 Tax Consequences to Contributors . Notwithstanding anything to the contrary contained in this Agreement, including without limitation the use of words and phrases such as “sell,” “sale,” “purchase,” and “pay,” the parties hereto acknowledge and agree that it is their intent that the contribution transaction contemplated hereby with respect to the Contributed Assets shall be treated for federal income tax purposes pursuant to Section 721 of the Internal Revenue Code of 1986, as amended (the “Code”), as the contribution of the Contributed Assets by the Contributors to the Acquiror, in exchange for the Units, the Deposit and any payments made by Acquiror pursuant to Section 1.2 or Section 4.4, and not as a transaction in which any Contributor is acting other than in its capacity as a prospective partner in the Acquiror.

1.8 Tax Indemnity . In conjunction with the contributions contemplated by this Article I, each Contributor will execute and deliver the Tax Indemnity (as defined hereinafter) in the form attached as Exhibit 1.8.

ARTICLE II

REPRESENTATIONS AND COVENANTS

performance by the Acquiror of its obligations hereunder have been duly authorized by all requisite action of the Acquiror and require no further action or approval of the Acquiror’s partners or of any other individuals or entities in order to constitute this Agreement as a binding and enforceable obligation of the Acquiror. This Agreement constitutes the legal, valid and binding obligation of Acquiror and is enforceable in accordance with its terms.

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Acquiror in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (i) in any manner raises any question affecting the validity or enforceability of this Agreement, (ii) could materially and adversely affect the business, financial position, or results of operations of the Acquiror, (iii) could materially and adversely affect the ability of the Acquiror to perform its obligations hereunder, or under any document to be delivered pursuant hereto.

2.2 Representations by Contributors . Each Contributor (except as otherwise indicated herein) hereby represents and warrants unto the Acquiror, jointly and severally, that each and every one of the following statements is true, correct, and complete as of the date of this Agreement and will be true, correct, and complete as of the Closing Date.

(a) Organization and Power . Each of the Contributor and the Company is duly organized, validly existing, and in good standing under the laws of the state of its organization. The Contributor has full right, power, and authority to enter into this Agreement and to assume and perform all of its obligations under this Agreement; and the execution and delivery of this Agreement and the performance by the Contributor of its obligations hereunder have been duly authorized by all requisite action of Contributor and require no further action or approval of Contributor’s members or managers or directors or shareholders or partners, as the case may be, or of any other individuals or entities in order to constitute this Agreement as a binding and enforceable obligation of the Contributor. This Agreement constitutes the legal, valid and binding obligation of each Contributor and is enforceable in accordance with its terms.

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Contributor, the Company or the Hotel in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (A) in any manner raises any question affecting the validity or enforceability of this Agreement, (B) could materially and adversely affect the business, financial position, or results of operations of the Company or the Hotel, (C) could materially and adversely affect the ability of the Contributor to perform its obligations hereunder, or under any document to be delivered pursuant hereto, (D) could create a lien on the Contributed Assets, any part thereof, or any interest therein, or (E) could adversely affect the Contributed Assets, any part thereof, or any interest therein.

and (D) the Contributor has not granted any other person or entity an option to purchase or a right of first refusal upon the Contributor’s Assets nor are there any agreements or understandings between Contributor and any other person or entity with respect to the disposition of the Contributor’s Assets, and Contributor has full power and authority to convey the Contributor’s Assets free and clear of any liens, claims and encumbrances and upon delivery of the Assignment attached hereto in the form of Exhibit A to Acquiror and Acquiror will acquire good title thereto, free and clear of any liens, claims and encumbrances. The Company owns the Hotel and the Property beneficially and of record free and clear of any liens, claims, encumbrances, mortgages, security interests, deed of trust, easements, purchase rights or any other right of any nature of any third party except as set forth on Schedule 2.2(d).

(e) No Consents . Except as may otherwise be set forth in Schedule 2.2(e) hereof, each consent, approval, authorization, order, license, certificate, permit, registration, designation, or filing by or with any third party, including, but not limited to lenders and franchisors, or any governmental agency or body necessary for the execution, delivery, and performance of this Agreement or the transactions contemplated hereby has been obtained or will be obtained on or before the Closing Date.

(f) Operation of Contributed Assets . Between the date hereof and the Closing Date, the Contributor will take such action as may be necessary to cause the Company to (A) operate its business only in the usual, regular, and ordinary manner consistent with such entity’s prior practice and (B) maintain its books of account and records in the usual, regular, and ordinary manner, in accordance with sound accounting principles applied on a basis consistent with the basis used in keeping its books in prior years. Except as otherwise permitted hereby, from the date hereof until the Closing Date, the Contributor shall not take any action or fail to take any action the result of which would (1) have a material adverse effect on the Contributed Assets, the Property, the Hotel, or the Acquiror’s ability to continue the operation thereof after the Closing Date in substantially the same manner as presently conducted or (2) would cause any of the representations and warranties contained in this Section 2.2 to be untrue as of the Closing Date.

(g) Operating Agreement . The Limited Liability Company Agreement of the Company, dated as of April 25, 1996, and subsequently amended on May 1, 1996, September 23, 1998 and January 2, 2003 (the “Operating Agreement”) is in force and effect as of the date hereof, and has not been modified or amended and a true and accurate copy of such agreement as amended to date has been provided to Acquiror. The Contributor has performed all of its obligations under the Operating Agreement.

(h) Securities Law Matters . (A) In acquiring the Units and engaging in this transaction, neither the Contributors nor any member of a Contributor is relying upon any representations made to it by the Acquiror, or any of its partners, officers, employees, or agents that are not contained herein. Contributor is aware of the risks involved in investing in the

Units and in the shares of common stock (“Common Stock”) of the REIT, issuable upon redemption of such Units. Contributor has had an opportunity to ask questions of, and to receive answers from, the Acquiror or a person or persons authorized to act on its behalf, concerning the terms and conditions of this investment and the financial condition, affairs, and business of the Acquiror and the REIT. Contributor confirms that all documents, records, and information pertaining to its investment in the Acquiror that have been requested by it, including a complete copy of the form of the Partnership Agreement, have been made available or delivered to it prior to the date hereof. Contributor represents and warrants that it has reviewed and approved the form of the Partnership Agreement attached hereto as Exhibit B.

(B) Contributor and each member thereof understands that neither the Units nor the shares of Common Stock issuable upon redemption of the Units have been registered under the Securities Act or any state securities acts and are instead being offered and sold in reliance on an exemption from such registration requirements. The Units issuable to Contributor are being acquired solely for its own account, for investment, and are not being acquired with a view to, or for resale in connection with, any distribution, subdivision, or fractionalization thereof, in violation of such laws, and Contributor does not have any present intention to enter into any contract, undertaking, agreement, or arrangement with respect to any such resale; provided, however, that, at or following Closing, Contributor may distribute the Units to its members that (1) have represented and warranted to the Acquiror in writing that, as of the time of such distribution, such member is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act, and (2) have executed the Partnership Agreement as limited partners. Contributor understands that any certificates evidencing the Units will contain appropriate legends reflecting the requirement that the Units not be resold by Contributor without registration under such laws or the availability of an exemption from such registration and that the Partnership Agreement will restrict transfer of the Units.

(i) Accredited Investor . Contributor is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act.

(j) Tax Matters . (A) The Company has filed within the time and in the manner prescribed by law all material federal, state, and local tax returns and reports, including but not limited to income, gross receipts, intangible, real property, excise, withholding, franchise, sales, use, employment, personal property, and other tax returns and reports, required to be filed by such entity under the laws of the United States and of each state or other jurisdiction in which such entity conducts business activities requiring the filing of tax returns or reports except for such returns or reports where the failure to file would not have a material adverse effect on the Company or the Contributed Assets. All tax returns and reports filed by the Company are true and correct in all material respects. The Company has paid in full all taxes of whatever kind or nature for the periods covered by such returns. The Company has not been delinquent in the payment of any tax, assessment, or governmental charge or deposit and has no tax deficiency or claim outstanding, assessed, threatened, or proposed against it. The

charges, accruals, and reserves for unpaid taxes on the books and records of the Company as of the Closing Date are sufficient in all respects for the payment of all unpaid federal, state, and local taxes of the Company accrued for or applicable to all periods ended on or before the Closing Date. There are no tax liens, whether imposed by the United States, any state, local, or other taxing authority, outstanding against the Company or any of its assets. The federal, state, and local tax returns of the Company have not been audited, nor has the Company received any notice of any federal, state, or local audit.

(k) Bankruptcy with respect to Contributor . No Act of Bankruptcy has occurred with respect to the Contributor or the Company. As used herein, “Act of Bankruptcy” shall mean if a party hereto or any member or manager thereof shall (A) apply for or consent to the appointment of, or the taking of possession by, a receiver, custodian, trustee or liquidator of itself or of all or a substantial part of its property, (B) admit in writing its inability to pay its debts as they become due, (C) make a general assignment for the benefit of its creditors, (D) file a voluntary petition or commence a voluntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), (E) be adjudicated bankrupt or insolvent, (F) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, receivership, dissolution, winding-up or composition or adjustment of debts, (G) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), or (H) take any entity action for the purpose of effecting any of the foregoing.

(l) Brokerage Commission . The Contributor has not engaged the services of, any real estate agent, broker, finder or any other person or entity for any brokerage or finder’s fee, commission or other amount with respect to the transactions described herein on account of any action by the Contributor. The Contributor hereby agrees to indemnify and hold the Acquiror and its employees, directors, members, partners, affiliates and agents harmless against any claims, liabilities, damages or expenses arising out of a breach of the foregoing. This indemnification shall survive Closing or any termination of this Agreement.

(m) Liabilities, Indebtedness . Except as set forth in Schedule 2.2(m), the Company has not incurred any indebtedness related to the Hotel or the Property except in each instance for trade payables and other customary and ordinary expenses in the normal course of business.

(n) Leases . Schedule 2.2(n) attached hereto is a true, correct and complete schedule of all ground leases, restaurant leases, subleases and other rights of occupancy in effect with respect to the Hotel and the Property (collectively, the “Leases”). Except as set forth on Schedule 2.2(n), there are no other leases, subleases, tenancies or other rights of occupancy in effect with respect to the Hotel or the Property. Except as set forth on Schedule 2.2(n), all such Leases are valid and enforceable and presently in full force and effect, and none of the Leases have been assigned and all brokerage commissions, if any, payable under any of the Leases have been paid or will be paid by the Company, prior to the Closing. To the best knowledge of Contributor, no party to any Lease is in default under such Lease, and Contributor does not know of any event which, but for the passage of time or the giving of notice, or both, would constitute a default under such Leases, except such defaults that would not have a material adverse effect on the condition, financial or otherwise or on the earnings, business affairs or business prospects of the Company. No tenant under any of the Leases has an option or right of first refusal to purchase the premises demised under such Lease. The consummation of the transactions contemplated by this Agreement will not give rise to any breach, default or event of default under any of the Leases. None of the Leases requires the consent or approval of any party in connection with the transactions contemplated by this Agreement.

(o) Insurance . The Company currently maintains or causes to be maintained all of the public liability, casualty and other insurance coverage with respect to the Hotel as set forth on Schedule 2.2(o) attached hereto. All such insurance coverage shall be maintained in full force and effect through the Closing and all premiums due and payable thereunder have been, and shall be, fully paid when due.

(p) Personal Property . All equipment, fixtures and personal property located at the Hotel shall remain and not be removed prior to the Closing, except for equipment that becomes obsolete or unusable, which may be disposed of or replaced in the ordinary course of business.

(q) Environmental Conditions .

(A) As of the date of this Agreement and as of the Closing, and except as set forth in the environmental reports and materials previously delivered to Acquiror which are listed on Schedule 2.2(q) attached hereto (collectively, “Environmental Reports”), to the best of Contributors’ knowledge, information and belief, the Property (which for purposes of this Section 2.2(q) shall include all leased and vacant space, land surface water, groundwater and any and all improvements located on, in or under the Property) is now and will be at the Closing free of all contamination which exists as or has arisen from, directly or indirectly:

(3) any “oil” or other “hazardous substance” as defined by the Oil and Hazardous Substance Control Act of 1976, as amended, or by and regulations promulgated thereunder;

(4) any substance the presence of which on, in or under the Property is prohibited or regulated by any federal, state or local environmental law (an “Environmental Law”); and

(B) To the best of Contributors’ knowledge, information, and belief, as of the date of this Agreement and as of the Closing, and except as set forth in the Environmental Reports:

(1) the Property is now and will be at the Closing free from asbestos and any asbestos containing materials (including without limitation the presence of any asbestos in the insulation or other materials used comprising any part of the improvements), mold, radon and lead-based paint that would have a material adverse effect on the Property;

(2) to the knowledge of Contributor, the Company has not placed, located, sited or buried any underground storage tanks at the Property and to the knowledge of Contributor, no underground storage tanks are located on, at or under the Property;

(3) to the knowledge of Contributor, the Property does not appear on any state or federal CERCLA, RCRA, Superfund or other similar lists and, to the knowledge of Contributor, the Property is not proposed to be included on any such list;

(4) to the knowledge of Contributor, the Company has never used any part of the Property as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA and no part of the Property has ever been used as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA;

(5) to the knowledge of Contributor, no notice of violation or other written communication has been received by the Company or any predecessor in title from a governmental agency or other entity or person, alleging or suggesting any violation of any Environmental Law on or with respect to the Property;

(6) to the knowledge of Contributor, neither the Company nor any of such Company’s agents, licensees or invitees have placed or permitted the placement of any Hazardous Materials in, on, under or over the Property in violation of any Environmental Law;

(7) to the knowledge of Contributor, no other party has placed any Hazardous Material in, on, under or over any of the Property in violation of any Environmental Law; and

(8) to the knowledge of Contributor, the Property is not subject to any federal, state or local lien (including any “Superfund” lien), proceedings, claim, liability, or action, or the threat or likelihood thereof, relating to the clean-up, removal or remediation of any Hazardous Material from the Property and the Company has not received any request or information from the United States Environmental Protection Agency or any other public, governmental or quasi-governmental agency or authority with jurisdiction over any Environmental Law.

(r) Compliance With Laws . To the best of Contributors’ knowledge, information, and belief, the Company possesses such certificates, approvals, licenses, authorities or permits issued by the appropriate local, state or federal agencies or bodies necessary to conduct the business to be conducted by it, and, to the knowledge of Contributor, the Company has not received any written notice of proceedings relating to the revocation or modification of any such certificate, approval, license, authority or permit which, singly or in the aggregate, if the subject of an unfavorable decision, ruling, or finding, would materially and adversely affect the condition, financial or otherwise, or the earnings, business affairs or business prospects of the Property or the Hotel. To the best of Contributors’ knowledge, information, and belief, the Company has not received any written or other notice of any violation of any applicable zoning, building or safety code, rule, regulation or ordinance, or of any employment, environmental, wetlands or other regulatory law, order, regulation or other requirement, including without limitation the Americans With Disabilities Act (“ADA”) or any restrictive covenants or other easements, encumbrances or agreements, relating to the Property

or the Hotel, which remains uncured. The Property and the Hotel have been constructed and is operated in accordance with all applicable laws, ordinances, rules and regulations. All approvals regarding zoning, land use, subdivision, environmental and building and construction laws, ordinances, rules and regulations have been obtained, and such approvals will not be invalidated by the consummation of the transactions contemplated by this Agreement; provided, however, the Property and the Hotel (including, all improvements) are substantially in compliance with the ADA.

(s) Condemnation and Moratoria . Except as set forth on Schedule 2.2(s), to the best of Contributors’ knowledge, information, and belief, there are (i) no pending or threatened condemnation or eminent domain proceedings, or negotiations for purchase in lieu of condemnation, which affect or would affect any portion of the Property; (ii) no pending or, to the knowledge of Contributor, threatened moratoria on utility or public sewer hook-ups or the issuance of permits, licenses or other inspections or approvals necessary in connection with the construction or reconstruction of improvements, including without limitation tenant improvements, which affect or would affect any portion of the Property; and (iii) no pending or, to the knowledge of Contributor, threatened proceeding to change adversely the existing zoning classification as to any portion of the Property. No portion of the Property is a designated historic property or located within a designated historic area or district and there are no graveyards or burial grounds located within the Property.

(t) Condition of Improvements . To the best of Contributors’ knowledge, information, and belief, there is no material defect in the condition of (i) the Property or the Hotel, (ii) the improvements thereon, (iii) the roof, foundation, load-bearing walls or other structural elements thereof, or (iv) the mechanical, electrical, plumbing and, safety systems therein, nor any material damage from casualty or other cause, nor any soil condition of any nature that will not support all of the improvements thereon without the need for unusual or new subsurface excavations, fill, footings, caissons or other installations.

(u) Absence of Certain Changes . To the best of Contributors’ knowledge, information, and belief, since December 31, 2003, except as set forth or referred to on Schedule 2.2(u), there has not been with respect to the Company:

(A) any material adverse change in the financial condition of the Company, Hotel or Property;

(B) any change in the condition of the Property, Hotel or the business or liabilities of the Company except normal and usual changes in the ordinary course of business which have not been, individually or in the aggregate, materially adverse;

(C) any damage, destruction or loss, whether or not covered by insurance, individually or in the aggregate, materially and adversely affecting the Property or Hotel;

(D) any change in the accounting methods or practices with respect to the Hotel or the Property or in depreciation or amortization policies theretofore used or adopted;

(E) any material liability with respect to the Hotel or the Property, contingent or otherwise, other than for operating expenses, obligations under any executory contracts disclosed on Schedule 2.2(u) hereof incurred for fair consideration and taxes accrued with respect to operations during such period, all incurred in the ordinary course of business; or

(F) any other material change in the business of the Company.

(v) ERISA . The Company has no (i) labor agreement to which it is a party, or by which it is bound, including “employee pension benefit plans” as defined in Section 3(2) of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”); (ii) employment, profit sharing, deferred compensation, bonus, pension, retainer, consulting, retirement, welfare or incentive plan, fund, program or contract to which it is a party, or by which it is bound; (iii) written or other formal personnel policies; or (iv) plan or agreement under which “fringe benefits” (including, but not limited to, vacation plans or programs, sick leave plans or programs, and related benefits) are afforded to its employees.

(w) No Contracts . No agreements, undertakings or contracts affecting the Hotel or the Property, written or oral, will be in existence as of the Closing, except as set forth on Schedule 2.2(w) attached hereto, and true and correct copies of such contracts have been delivered to Acquiror. With respect to any such contracts set forth on Schedule 2.2(w), each such contract is valid and binding on the Company and is in full force and effect in all material respects. To the knowledge of Contributor, no party to any such contract has breached or defaulted under the terms of such contract, except for such breaches or defaults that would not, individually or in the aggregate, have a material adverse effect on the business or operations of the Hotel or the Property.

2.4 Contributor’s Indemnity . Each Contributor agrees to indemnify and hold the Acquiror, the REIT, and their respective employees, directors, members, partners, affiliates and agents harmless of and from all liabilities, losses, damages, costs, and expenses (including reasonable attorneys’ fees) which the Acquiror or the REIT may suffer or incur by reason of any breach of its representations or warranties contained in this Agreement, and by reason of any act or cause of action occurring or accruing prior to the Closing Date and arising from the ownership of the Contributed Assets and the operation of the Hotel prior to the Closing Date.

ARTICLE III

CONDITIONS PRECEDENT TO THE CLOSING

(b) Contributors’ Representations and Warranties . The representations and warranties of the Contributors set forth in Section 2.2 shall be true and correct as if made again on the Closing Date.

(e) Completion of IPO . The IPO shall have been completed.

(f) Consent of Franchisor . The Franchisor of the Hotel shall have consented to the transaction contemplated herein on terms and conditions that are acceptable to Acquiror in its sole discretion.

(g) Third Party Consents . All required third party consents will have been obtained or otherwise waived.

(b) Acquiror’s Representations and Warranties . The Acquiror’s representations and warranties set forth in Section 2.1 shall be true and correct as if made again on the Closing Date.

ARTICLE IV

CLOSING AND CLOSING DOCUMENTS

4.1 Closing . The consummation and closing (the “Closing”) of the transactions contemplated under this Agreement shall take place at the offices of the Acquiror in Greenbelt, Maryland, or such other place as is mutually agreeable to the parties, on the date of the closing of the IPO (the “Closing Date”), or as otherwise set by agreement of the parties hereto. If at any time the REIT determines in good faith to abandon or discontinue its efforts to engage in an IPO, Acquiror shall so advise each Contributor in writing and thereupon all parties hereto will be relieved of all obligations under this Agreement.

(d) Tax Indemnity . Each Contributor shall have executed a tax indemnity and debt maintenance agreement and related guaranty (the “Tax Indemnity”) in the form of Exhibit 1.8 to reflect the allocation of indebtedness to each Contributor in an amount not to exceed such Contributor’s negative balance in the capital account maintained by the Company for such Contributor as of the Closing Date.

(e) Other Documents . Any other document or instrument reasonably requested by the Acquiror or required hereby.

4.3 Acquiror’s Deliveries . At the Closing, the Acquiror shall deliver the following to the Contributors:

(d) Other Documents . Any other document or instrument reasonably requested by a Contributor or required hereby.

4.4 Fees and Expenses; Closing Costs . The Acquiror shall pay all fees, expenses and closing costs relating to the transactions contemplated by this Agreement; provided however, that each Contributor shall pay its own attorneys’ and consultants’ fees and expenses. In the event the Closing does not occur as a result of a failure to conclude an IPO, the Company agrees to pay to Acquiror 44.1% of the actual out-of-pocket costs incurred by Acquiror and its affiliates in connection with the proposed IPO of the REIT, which the Company agrees represents the pro rata share of the expected transaction costs of the Contributors; provided, however, that such payment shall not exceed $500,000. Each Contributor acknowledges and agrees, by executing this Agreement, that it will benefit from such an IPO and, as a consequence, the Company will bear a portion of its costs if such transaction is not completed.

ARTICLE V

MISCELLANEOUS

Acquiror:

MHI Hospitality L.P.

814 Capitol Landing Road

Williamsburg, VA 23187

Attention: Mr. Andrew M. Sims

Fax No.: (757) 564-8801

Phone No.: (757) 229-5648

E-mail: drewsims@mhihotels.com

Notices to Contributors shall be sent to the addresses specified on Schedule 1.

Any address or name specified above may be changed by a notice given by the addressee to the other party. Any notice, demand or other communication shall be deemed given and effective as of the date of delivery in person or receipt set forth on the return receipt. The inability to deliver because of changed address of which no notice was given, or rejection or other refusal to accept any notice, demand or other communication, shall be deemed to be receipt of the notice, demand or other communication as of the date of such attempt to deliver or rejection or refusal to accept.

cumulative and not alternative, and the exercise of one right, power, option, or remedy shall not bar other rights, powers, options, or remedies allowed herein or by law, unless expressly provided to the contrary herein.

5.3 Exhibits . All exhibits referred to in this Agreement and attached hereto are hereby incorporated in this Agreement by reference.

5.6 Governing Law . This Agreement shall be construed and interpreted in accordance with the laws of the Commonwealth of Virginia, without regard to conflicts of laws principles.

5.11 Confidentiality . The Contributor acknowledges that the matters relating to the REIT, the initial underwritten public offering of the REIT, this Agreement, and the other documents, terms, conditions and information related thereto (collectively, the “Information”) are confidential in nature. Therefore, each Contributor covenants and agrees to keep the Information confidential and will not (except as required by applicable law, regulation or legal process, and only after compliance with the provisions of this Section 5.11), without the Acquiror’s prior written consent, disclose any Information in any manner whatsoever; provided, however, that the Information may be revealed only to a Contributor’s key employees, legal counsel and financial advisors, each of whom shall be informed of the confidential nature of the Information and shall agree to act in accordance with the terms of this Section 5.11. In the event that a Contributor or its key employees, legal counsel or financial advisors (collectively, the “Information Group”) are requested pursuant to, or required by, applicable law, regulation or legal process to disclose any of the Information, the applicable member of the Information Group will notify the Acquiror promptly so that it may seek a protective order or other appropriate remedy or, in its sole discretion, waive compliance with the terms of this Section 5.11. In the event that no such protective order or other remedy is obtained, or that the Acquiror waives compliance with the terms of this Section 5.11, the applicable member of the Information Group may furnish only that portion of the Information which it is advised by counsel is legally required and will exercise all reasonable efforts to obtain reliable assurance that confidential treatment will be accorded the Information. Each Contributor acknowledges that remedies at law may be inadequate to protect the Acquiror or the REIT against any actual or threatened breach of this Section 5.11, and, without prejudice to any other rights and remedies otherwise available, each Contributor agrees to the granting of injunctive relief in favor of the REIT and/or the Acquiror without proof of actual damages. Notwithstanding any other express or implied agreement to the contrary, the parties hereto agree and acknowledge that each of them and each of their employees, representatives, and other agents may disclose to any and all persons, without limitation of any kind, the tax treatment and tax structure of the transaction and all materials of any kind (including opinions or other tax analyses) that are provided to any of them relating to such tax treatment and tax structure, except to the extent that confidentiality is reasonably necessary to comply with U.S. federal or state securities laws. For purposes of this paragraph, the terms “tax treatment” and “tax structure” have the meanings specified in Treasury Regulation section 1.6011-4(c). Receipt of confidential information of Acquiror or any of its affiliates by Contributors constitutes each of Contributor’s acknowledgement that it is aware that applicable securities laws may impose restrictions on each of them from purchasing or selling securities of the

REIT, and each Contributor agrees not to purchase or sell securities of the REIT, or any affiliate of the REIT, in violation of applicable securities laws.

[Signatures follow on next page]

The parties hereto have executed and delivered this Agreement as of the date indicated in the first sentence of this Agreement.


CONTRIBUTORS:

MHI Hotels Services LLC

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		President

Krichman Revocable Trust

By:		/s/ Edward S. Stein
Name:		Edward S. Stein
Its:		Trustee

Krichman Charitable Trust

By:		/s/ Edward S. Stein
Name:		Edward S. Stein
Its:		Trustee

ACQUIROR:
ACQUIROR:

MHI Hospitality LP

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Its:		CEO

Capitol Hotels Associates LP

EXHIBIT A

Assignment

Capitalized terms used but not defined herein shall have the respective meanings ascribed to them in the Agreement.

IN WITNESS WHEREOF, the parties hereto have caused this Assignment to be signed by a duly authorized officer this day of , 2004


[Assignor]

By:
Name:
Its:


Accepted on , 2004:

MHI Hospitality LP

By:
Name:
Its:

Exhibit 1.8

TAX INDEMNITY AND DEBT MAINTENANCE AGREEMENT

WHEREAS, in connection with the execution and delivery of the Contribution Agreement, as defined below, the Contributors have agreed to contribute all of the ownership interests (the “Contributed Interests”) in the entity that owns the Hilton Savannah DeSoto, Savannah, Georgia (the “Property”) to the Operating Partnership in exchange for, among other things, Units in the Operating Partnership; and

Section 1. Definitions .

(a) In this Agreement, the following terms shall have the following meanings:

“Code” means the Internal Revenue Code of 1986, as amended, and any replacement to such provisions.

“Contribution Agreement” means the Contribution Agreement between the Operating Partnership and the Contributors dated as of August , 2004.

allocated to a Protected Person pursuant to section 704(c) of the Code (as reduced by any applicable adjustment to the tax basis of the assets of the Operating Partnership with respect to such Protected Person pursuant to section 754 of the Code).

“Guaranteed Debt” means the debt guaranteed by a Protected Person or other Guarantee Partner pursuant to a Guarantee Agreement.

“Guarantee Partner” means a person who guarantees debt of the Operating Partnership in connection with its contribution of property (other than the Property) to the Operating Partnership in exchange for Units.

“Guarantor” means any Protected Person, Person the income of which is taxable to one or more Protected Persons, or Guarantee Partner who executes a Guarantee Agreement.

“Permitted Transferee” means any Person who acquires Units pursuant to a Permitted Disposition.

“Qualifying Debt” means indebtedness of the Operating Partnership that is:

effective. Nonrecourse debt of a subsidiary of the Operating Partnership shall be treated as debt of the Operating Partnership provided the Operating Partnership guarantees such debt and will permit the Protected Person to indemnify the Operating Partnership from certain losses associated with such guarantee on terms which are similar to those set forth in such Protected Person’s Guarantee Agreement and reasonably acceptable to the Operating Partnership and the Protected Person;

(iii) Any debt which satisfies requirement (i) or (ii) above will not be Qualifying Debt if and when either of the following occurs:

(A) There are other guarantees with respect to the same indebtedness that are prior to (i.e., with less economic risk) the Guarantee Opportunity provided to the Protected Persons pursuant hereto; or

and shall be determined with respect to the state in which such income is taxable to the Protected Person having the highest marginal state tax rate, whether such state is the one in which the applicable property is located or the state of residence of the Protected Person subject to the provisions of Section 2(g)(iii). Appropriate adjustments shall be made if more than one non-federal income tax applies within a state.

“Tax Rate” means with respect to a Taxable Event the sum of the State Tax Rate plus the Federal Rate.

“Units” has the meaning ascribed to it in the Contribution Agreement.

(c) Section References . The Section headings herein are for reference only and shall not affect the construction hereof.

(d) Interpretation . No provisions of this Agreement shall be interpreted or construed against any person solely because that Person or its legal representative drafted such provision.

Section 2. Damages .

Any transfer of assets of the Operating Partnership or a subsidiary thereof will be deemed a taxable disposition of such assets for their fair market values for purposes of unless (i) such disposition qualifies as a like-kind exchange under section 1031 of the Code, or an involuntary conversion under section 1033 of the Code, or other transaction (including, but not limited to, a contribution of property to any entity that qualifies for the nonrecognition of gain under section 721 or section 351 of the Code, or a merger or consolidation of the Operating Partnership with or into another entity that qualifies for taxation as a “partnership” for federal income tax purposes (a “Successor Partnership”)), in each case that does not result in the recognition of any taxable income or gain to the Protected Person with respect to the Property; provided, however, that: (1) in the event of a disposition of a Property under section 1031 or section 1033 of the Code or pursuant to another tax deferred transaction, any property that is acquired in exchange for or as a replacement for such Property shall thereafter be considered that Property for purposes of this Agreement; (2) if a Property is transferred to another entity in a transaction in which gain or loss is not recognized, the interest of the Operating Partnership in such entity shall thereafter be considered that Property for purposes of this Agreement, and if the acquiring entity’s disposition of such Property would cause the Protected Person to recognize gain or loss as a result thereof, the transferred Property still shall be considered that Property for purposes of this Agreement; and (3) in the event of a merger or consolidation involving the Operating Partnership and a Successor Partnership, the Successor Partnership shall have agreed in writing for the benefit of the Protected Person that all of the restrictions of this Agreement shall apply with respect to each Property, or (ii) with respect to each Protected Person, the adjusted taxable basis of the Property has increased in the hands of the Operating Partnership to fair market value as a result of a taxable disposition of the Units received in the Formation Transactions or otherwise, such that a taxable disposition of such Property by the Operating Partnership would not result in the allocation of taxable gain to the Protected Person pursuant to section 704(c) of the Code.

(e) Nothing contained in this Agreement shall be construed to permit a Protected Person to receive a double benefit or compensation with respect to Damages.

(f) For purposes of determining any Damages under this agreement the following will apply:

Section 3. Debt Maintenance Obligation and Guarantee Opportunity .

Section 5. Miscellaneous .

(c) Severability . Should any clause, sentence, paragraph, subsection or Section of this Agreement be judicially declared to be invalid, unenforceable or void, such decision will not

have the effect of invalidating or voiding the remainder of this Agreement, and the part or parts of this Agreement so held to be invalid, unenforceable or void will be deemed to have been stricken herefrom, and the remainder will have the same force and effectiveness as if such stricken part or parts had never been included herein.

(d) Entire Agreement . This Agreement sets forth all of the covenants, agreements, conditions, understandings, warranties and representations of the REIT, the Operating

Partnership and the Contributors relative to the subject matter hereof, and any previous agreement among such parties with respect to the subject matter hereof is superseded by this Agreement.

(e) Governing Law . This Agreement shall be governed by, and construed in accordance with, the laws of the State of Maryland.


MHI Hospitality Corporation.

By:
		Andrew M. Sims
		President and Chief Executive Officer

MHI Hospitality L.P.

By:
		MHI Hospitality Corporation
		as general partner

By:
		Andrew M. Sims
		President and Chief Executive Officer


MHI Hotels Services LLC

By:
		Duly Authorized Signatory



Krichman Revocable Trust
Address:



By:
		Duly Authorized Signatory



Krichman Charitable Trust
Address:



By:
		Duly Authorized Signatory

EXHIBIT A

CONTRIBUTORS; MAXIMUM GUARANTEE AMOUNT


Name		Maximum Guarantee Amount
MHI Hotels Services LLC		1,405,662
Krichman Revocable Trust		38,193
Krichman Charitable Trust		38,193

GUARANTY

This GUARANTY (“ Guaranty ”) is executed as of August , 2004, by , a (“ Guarantor ”), in favor of , a (“ Lender ”), with reference to the following facts:

A G R E E M E N T

NOW, THEREFORE, for good and valuable consideration, the receipt of which is hereby acknowledged, Guarantor hereby agrees, in favor of Lender, as follows:

1. Definitions and Construction.

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5. Waivers .

(a) Guarantor absolutely, unconditionally, knowingly, and expressly waives:

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This is an unconditional and irrevocable waiver of any rights and defenses Guarantor may have because Borrower’s debt is secured by real property.

- 3 -

6. Releases . Guarantor consents and agrees that, without notice to or by Guarantor and without affecting or impairing the obligations of Guarantor hereunder, Lender may, by action or inaction:

(b) release Borrower or any other person or entity or grant other indulgences to Borrower or any other person or entity in respect thereof;

- 4 -

- 5 -

Guarantor:

___________________

Attention: ___________________

Facsimile number: ___________________

Telephone number: ___________________

With a copy to:

___________________

Attention: ___________________

Facsimile number: ___________________

Telephone number: ___________________

- 6 -

Lender:

___________________

Attention: ___________________

Facsimile number: ___________________

Telephone number: ___________________

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[SIGNATURE PAGE TO FOLLOW]

- 8 -

IN WITNESS WHEREOF, Guarantor has executed and delivered this Guaranty as of the date set forth in the first paragraph hereof.




By:
Name:
Title:

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Exhibit 10.8

Brownestone

CONTRIBUTION AGREEMENT

THIS CONTRIBUTION AGREEMENT (this “Agreement”) is made as of the 23rd day of August, 2004 (the “Effective Date”) by and among KDCA Partnership, a Maryland general partnership (“KDCA”), MAVAS LLC, a Georgia limited liability company (“MAVAS”), and MHI Hospitality LP, a Delaware limited partnership (the “Acquiror”).

RECITALS

A. Brownestone Partners LLC (the “Company”) is the owner of certain real property consisting of approximately 3.8 acres of land located in Raleigh, North Carolina, and the hotel improvements located thereon consisting of a 188 room hotel trading as Holiday Inn Brownestone and an adjacent 18 unit apartment building, together with all furniture, fixtures, equipment, durable goods and inventory therein (the “Hotel”), as well as a land lease relating to certain real property that serves as a parking lot adjacent to the Hotel (the “Property”); and

B. MAVAS and KDCA (collectively, the “Contributors”) are the record and beneficial owners of 100% of the ownership interests of the Company (the “Assets”). The Contributors desire to contribute their ownership interest in the Company to the Acquiror for partnership interests in Acquiror following the payment of cash distributions to the Contributors by the Company in the amounts specified herein (the “Distributions”); and

C. The Acquiror will be the operating partnership of a Maryland corporation to be formed which will seek to qualify as a real estate investment trust for Federal income tax purposes (the “REIT”) and will seek to complete an underwritten public offering of shares of its common stock (the “IPO”). The Contributors intend to contribute the Assets to the Acquiror in connection with the closing of the IPO and immediately following payment of the Distributions.

AGREEMENT

NOW, THEREFORE, for and in consideration of the mutual covenants herein contained, the parties hereto agree as follows:

ARTICLE I

THE CONTRIBUTION

1.1 Contribution .

(a) KDCA agrees to contribute and transfer all of the membership interests in the Company owned by it (the “KDCA Assets”) to the Acquiror, and the Acquiror agrees to accept transfer of the KDCA Assets pursuant to the terms and conditions set forth in this Agreement. The KDCA Assets shall be transferred to the Acquiror free and clear of all liens, encumbrances, security interests, prior assignments or conveyances, conditions, restrictions, claims, and other matters affecting title thereto.

- 1 -

(b) MAVAS agrees to contribute and transfer all of the membership interests in the Company owned by it (the “MAVAS Assets”) to the Acquiror, and the Acquiror agrees to accept the transfer of the MAVAS Assets pursuant to the terms and conditions set forth in this Agreement. The MAVAS Assets shall be transferred to the Acquiror free and clear of all liens, encumbrances, security interests, prior assignments or conveyances, conditions, restrictions, claims or other matters affecting title thereto.

1.2 Consideration for Assets .

(a) Consideration for KDCA Assets. In exchange for the contribution and transfer by KDCA of the KDCA Assets to the Acquiror, the Acquiror agrees, subject to the terms of this Agreement, to issue to KDCA 160,593 units of limited partnership interests in the Acquiror (the “KDCA Units”). In addition, immediately prior to the Closing, KDCA and MAVAS will cause the Company to make a cash distribution to KDCA in an amount equal to $1,000,000; provided that in the event the Closing has not occurred by October 31, 2004, such amount shall be increased by an amount equal to the interest on that certain loan obligation of KDCA owed to Darby Bank accrued from November 1 through to and including the Closing Date (as defined below) (the “KDCA Distribution”). Such distribution shall be funded by the proceeds of a loan to be incurred by the Aquiror which loan will be subject to the Guarantees (as hereinafter defined).

(b) Consideration for MAVAS Assets. In consideration of the contribution and transfer by MAVAS of the MAVAS Assets to the Acquiror, the Acquiror agrees, subject to the terms of this Agreement, to issue to MAVAS 100 units of limited partnership interests in the Acquiror (the “MAVAS Units” and together with the KDCA Units, the “Units”). In addition, immediately prior to the Closing, KDCA and MAVAS will cause the Company to make a cash distribution to MAVAS in an amount equal to $2,000,000; provided that in the event the Closing has not occurred by October 31, 2004, such amounts shall be increased by an amount equal to the interest on that certain loan obligation of MAVAS owed to Darby Bank accrued from November 1 through to and including the Closing Date (the “MAVAS Distribution”). Such distribution shall be funded by the proceeds of a loan to be incurred by the Aquiror which loan will be subject to the Guarantees.

1.3 Payment of Consideration . On the Closing Date, the Acquiror shall:

(a) issue to KDCA certificates reflecting the KDCA Units.

(b) issue to MAVAS certificates reflecting the MAVAS Units.

Certificates representing the Units shall bear appropriate legends indicating (i) that the Units have not been registered under the Securities Act of 1933, as amended (the “Securities Act”), and (ii) that the Acquiror’s agreement of limited partnership (the “Partnership Agreement”) will restrict the transfer of the Units. Immediately upon receipt of the Units, KDCA and MAVAS shall accede to the Partnership Agreement as limited partners of the Acquiror. KDCA and MAVAS each acknowledges and agrees that once Closing occurs, it shall no longer be a member of the Company, shall no longer be entitled to receive any distributions from the Company, and shall have no further right, title or interest in the Company.

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1.4 Adjustment . The term “Purchased Working Capital” shall mean the agreed upon sum of fifty thousand dollars ($50,000), which amount represents the Company’s good faith estimate of the Company’s current assets shown on the Hotel balance sheet (exclusive of any FF&E Reserves) less the Company’s current liabilities shown on the Hotel balance sheet at the close of business on the Closing Date. MAVAS and KDCA shall be permitted an opportunity to review the books and records of the Company prior to the Closing Date (and for sixty (60) days thereafter) to verify the calculation of Purchased Working Capital and all other working capital as of the Closing Date. Within such sixty (60) day period, the parties hereto agree to calculate actual working capital as of the Closing Date (including any amounts in any escrow or reserve accounts as of the Closing Date). In the event that actual working capital at Closing is more or less than the Purchased Working Capital, then MAVAS and KDCA shall each pay to the Acquiror 50% of the amount by which actual working capital as of the Closing Date is less than the Purchased Working Capital, and the Acquiror will pay to each of MAVAS and KDCA 50% of the amount by which actual working capital as of the Closing Date exceeds the Purchased Working Capital. MAVAS and KDCA (by its execution hereof) each hereby acknowledges and agrees any such adjustments shall be paid in cash to the party entitled thereto, and such adjustments shall be deemed final. Payment, if any, shall be made within 15 days of calculating working capital as of the Closing Date.

1.5 Deposit . Within five (5) business days after the full execution of this Agreement, the Acquiror shall pay to each of MAVAS and KDCA the sum of $10.00 (the “Deposit”) as consideration for such party entering into this Agreement. The Deposit shall be deemed earned and non-refundable immediately upon payment of the Deposit (except if the Contributor defaults hereunder, in which event the Deposit shall be promptly refunded to the Acquiror).

1.6 Redemption Rights for Units . The Units shall be redeemable at the option of the holders of such Units and in accordance with, but subject to the restrictions contained in, the Partnership Agreement; provided, however, that such redemption option may not be exercised prior to the first anniversary of the Closing Date.

1.7 Tax Consequences to Contributors . Notwithstanding anything to the contrary contained in this Agreement, including without limitation the use of words and phrases such as “sell,” “sale,” purchase,” and “pay,” the parties hereto acknowledge and agree that it is their intent that the contribution transaction contemplated hereby with respect to the Assets shall be treated for federal income tax purposes pursuant to Section 721 of the Internal Revenue Code of 1986, as amended (the “Code”), as the contribution of the Assets by the Contributors to the Acquiror, in exchange for the Units, the Deposit and any payments made by Acquiror pursuant to Section 1.2 or Section 4.4, and not as a transaction in which the Contributors are acting other than in their capacity as prospective partners in the Acquiror.

1.8. Bottom-Dollar Guarantee . In conjunction with the contributions contemplated by this Article I, KDCA and MAVAS will each execute and deliver the Bottom-Dollar Guarantees in the form attached as Exhibit 1.8. (the “Guarantees”).

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ARTICLE II

REPRESENTATIONS AND COVENANTS

2.1 Representations by Acquiror . The Acquiror hereby represents and warrants unto each Contributor that the following statements are true, correct, and complete as of the date of this Agreement and will be true, correct, and complete as of the Closing Date:

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Acquiror in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (i) in any manner raises any question affecting the validity or enforceability of this Agreement, (ii) could materially and adversely affect the business, financial position, or results of operations of the Acquiror, (iii) could materially and adversely affect the ability of the Acquiror to perform its obligations hereunder, or under any document to be delivered pursuant hereto.

(d) Units Validly Issued . The Units, when issued, will have been duly and validly authorized and issued, free of any preemptive or similar rights, and will be fully paid and nonassessable, without any obligation to restore capital except as required by the Delaware Revised Uniform Limited Partnership Act (the “Limited Partnership Act”). The Contributors shall be admitted as limited partners of the Acquiror as of the Closing Date and shall be entitled to all of the rights and protections of a limited partner under the Limited Partnership Act and the provisions of the Partnership Agreement, with the same rights, preferences, and privileges as all other limited partners on a pari passu basis.

(e) Consents . Except as may otherwise be set forth in Schedule 3.1(e) hereof, each consent, approval, authorization, order, license, certificate, permit, registration, designation, or filing by or with any governmental agency or body necessary for the execution, delivery, and performance of this Agreement or the transactions contemplated hereby by the Acquiror has been obtained or will be obtained on or before the Closing Date.

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(f) Brokerage Commission . The Acquiror has not engaged the services of any real estate agent, broker, finder or any other person or entity for any brokerage or finder’s fee, commission or other amount with respect to the transactions described herein on account of any action by the Acquiror. The Acquiror hereby agrees to indemnify and hold the Contributors and their employees, directors, members, partners, affiliates and agents harmless against any claims, liabilities, damages or expenses arising out of a breach of the foregoing. This indemnification shall survive Closing or any termination of this Agreement.

2.2 Representations by Contributors . Each Contributor (except as otherwise indicated herein) hereby represents and warrants unto the Acquiror, jointly and severally, that each and every one of the following statements is true, correct, and complete as of the date of this Agreement and will be true, correct, and complete as of the Closing Date.

(a) Organization and Power . Each of the Contributor and the Company is duly organized, validly existing, and in good standing under the laws of the state of its organization. The Contributor has full right, power, and authority to enter into this Agreement and to assume and perform all of its obligations under this Agreement; and the execution and delivery of this Agreement and the performance by the Contributor of its obligations hereunder have been duly authorized by all requisite action of Contributor and require no further action or approval of Contributor’s members or managers or directors or shareholders or partners, as the case may be, or of any other individuals or entities in order to constitute this Agreement as a binding and enforceable obligation of the Contributor. This Agreement constitutes the legal, valid and binding obligation of Contributors and is enforceable in accordance with its terms.

(c) Litigation . There is no action, suit, or proceeding, pending or known to be threatened, against or affecting the Contributor, the Company or Hotel in any court or before any arbitrator or before any federal, state, municipal, or other governmental department, commission, board, bureau, agency or instrumentality which (A) in any manner raises any question affecting the validity or enforceability of this Agreement, (B) could materially and adversely affect the business, financial position, or results of operations of the Company or Hotel, (C) could materially and adversely affect the ability of the Contributor to perform its obligations hereunder, or under any document to be delivered pursuant hereto, (D) could create a lien on the Assets, any part thereof, or any interest therein, or (E) could adversely affect the Assets, any part thereof, or any interest therein.

(d) Good Title . The Contributor is the sole owner of the ownership interests specified in Schedule 1 (the “Contributor’s Assets”), the Contributor has good title to the Contributor’s Assets, the Contributor’s Assets are free and clear of all liens, encumbrances, pledges, voting agreements, and security interests whatsoever, and the Contributor has not granted any other person or entity an option to purchase or a right of first refusal upon the Contributor’s Assets nor are there any agreements or understandings between Contributor and

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any other person or entity with respect to the disposition of the Contributor’s Assets, and Contributor has full power and authority to convey the Contributor’s Assets free and clear of any liens, claims and encumbrances and upon delivery of the Assignment attached hereto in the form of Exhibit A to Acquiror and Acquiror will acquire good title thereto, free and clear of any liens, claims and encumbrances. The Company owns the Hotel and the Property beneficially and of record free and clear of any liens, claims, encumbrances, mortgages, security interests, deed of trust, easements, purchase rights or any other right of any nature of any third party except as set forth on Schedule 2.2(d).

(e) No Consents . Except as may otherwise be set forth in Section 3.1(d) hereof, each consent, approval, authorization, order, license, certificate, permit, registration, designation, or filing by or with any governmental agency or body necessary for the execution, delivery, and performance of this Agreement or the transactions contemplated hereby by the Contributor has been obtained or will be obtained on or before the Closing Date.

(f) Operation of Assets . Between the date hereof and the Closing Date, the Contributor will take such action as may be necessary to cause the Company to (A) operate its business only in the usual, regular, and ordinary manner consistent with such entity’s prior practice and (B) maintain its books of account and records in the usual, regular, and ordinary manner, in accordance with sound accounting principles applied on a basis consistent with the basis used in keeping its books in prior years. Except as otherwise permitted hereby, from the date hereof until the Closing Date, the Contributor shall not take any action or fail to take any action the result of which would (1) have a material adverse effect on the Assets, the Contributor’s Assets, the Property, the Hotel or the Acquiror’s ability to continue the operation thereof after the Closing Date in substantially the same manner as presently conducted or (2) would cause any of the representations and warranties contained in this Section 2.2 to be untrue as of the Closing Date.

(g) Operating Agreement . The Limited Liability Company Agreement of the Company (the “Operating Agreement”) is in force and effect as of the date hereof, and has not been modified or amended. The Contributor has performed all of its obligations under the Operating Agreement.

(h) Securities Law Matters . (A) In acquiring the Units and engaging in this transaction, neither Contributor nor any partner thereof is relying upon any representations made to it by the Acquiror, or any of its partners, officers, employees, or agents that are not contained herein. Contributor is aware of the risks involved in investing in the Units and in the shares of common stock (“Common Stock”) of the REIT, issuable upon redemption of such Units. Contributor has had an opportunity to ask questions of, and to receive answers from, the Acquiror or a person or persons authorized to act on its behalf, concerning the terms and conditions of this investment and the financial condition, affairs, and business of the Acquiror and the REIT. Contributor confirms that all documents, records, and information pertaining to its investment in the Acquiror that have been requested by it, including a complete copy of the form of the Partnership Agreement, have been made available or delivered to it prior to the date hereof. Contributor represents and warrants that it has reviewed and approved the form of the Partnership Agreement attached hereto as Exhibit B.

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(B) Contributor and each partner thereof understands that neither the Units nor the shares of Common Stock issuable upon redemption of the Units have been registered under the Securities Act or any state securities acts and are instead being offered and sold in reliance on an exemption from such registration requirements. The Units issuable to Contributor are being acquired solely for its own account, for investment, and are not being acquired with a view to, or for resale in connection with, any distribution, subdivision, or fractionalization thereof, in violation of such laws, and Contributor does not have any present intention to enter into any contract, undertaking, agreement, or arrangement with respect to any such resale; provided, however, that, at or following Closing, Contributor may distribute the Units to its partners that (1) have represented and warranted to the Acquiror in writing that, as of the time of such distribution, such partner is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act, and (2) have executed the Partnership Agreement as limited partners. Contributor understands that any certificates evidencing the Units will contain appropriate legends reflecting the requirement that the Units not be resold by Contributor without registration under such laws or the availability of an exemption from such registration and that the Partnership Agreement will restrict transfer of the Units.

(i) Accredited Investor . Contributor is an accredited investor as that term is defined in Rule 501 of Regulation D under the Securities Act.

(j) Tax Matters . (A) The Company has filed within the time and in the manner prescribed by law all material federal, state, and local tax returns and reports, including but not limited to income, gross receipts, intangible, real property, excise, withholding, franchise, sales, use, employment, personal property, and other tax returns and reports, required to be filed by the Company under the laws of the United States and of each state or other jurisdiction in which the Company conducts business activities requiring the filing of tax returns or reports. All tax returns and reports filed by the Company are true and correct in all material respects. The Company has paid in full all taxes of whatever kind or nature for the periods covered by such returns. The Company has not been delinquent in the payment of any tax, assessment, or governmental charge or deposit and has no tax deficiency or claim outstanding, assessed, threatened, or proposed against it. The charges, accruals, and reserves for unpaid taxes on the books and records of the Company as of the Closing Date are sufficient in all respects for the payment of all unpaid federal, state, and local taxes of the Company accrued for or applicable to all periods ended on or before the Closing Date. There are no tax liens, whether imposed by the United States, any state, local, or other taxing authority, outstanding against the Company or any of its assets. The federal, state, and local tax returns of the Company have not been audited, nor has the Company received any notice of any federal, state, or local audit.

(k) Bankruptcy with respect to Contributor . No Act of Bankruptcy has occurred with respect to the Contributor or Company. As used herein, “Act of Bankruptcy” shall mean if a party hereto or any partners thereof shall (A) apply for or consent to the appointment

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of, or the taking of possession by, a receiver, custodian, trustee or liquidator of itself or of all or a substantial part of its property, (B) admit in writing its inability to pay its debts as they become due, (C) make a general assignment for the benefit of its creditors, (D) file a voluntary petition or commence a voluntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), (E) be adjudicated bankrupt or insolvent, (F) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, receivership, dissolution, winding-up or composition or adjustment of debts, (G) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case or proceeding under the Federal Bankruptcy Code (as now or hereafter in effect), or (H) take any entity action for the purpose of effecting any of the foregoing.

(m) Liabilities, Indebtedness . Except as set forth in Schedule 2.2(a), the Company has not incurred any indebtedness related to the Hotel or the Property except in each instance for trade payables and other customary and ordinary expenses in the normal course of business that will be paid and discharged in full by the Company on or prior to the Closing.

(n) Leases . Schedule 2.2(o) attached hereto is a true, correct and complete schedule of all ground leases, restaurant leases, subleases and other rights of occupancy in effect with respect to the Hotel and the Property (collectively, the “Leases”). Except as set forth on Schedule 2.2(o), there are no other leases, subleases, tenancies or other rights of occupancy in effect with respect to the Hotel or the Property. True, correct and complete copies of the Leases, together with all amendments and supplements thereto and all other documents and correspondence relating thereto, have been delivered or made available to Acquiror. Except as set forth on Schedule 2.2(o), all such Leases are valid and enforceable and presently in full force and effect, and none of the Leases have been assigned and all brokerage commissions, if any, payable under any of the Leases have been paid or will be paid by the Company prior to Closing. To the best knowledge of Contributor, no party to any Lease is in default under such Lease, and Contributor does not know of any event which, but for the passage of time or the giving of notice, or both, would constitute a default under such Leases, except such defaults that would not have a material adverse effect on the condition, financial or otherwise or on the earnings, business affairs or business prospects of the Company. No tenant under any of the Leases has an option or right of first refusal to purchase the premises demised under such Lease. The consummation of the transactions contemplated by this Agreement will not give rise to any breach, default or event of default under any of the Leases. None of the Leases requires the consent or approval of any party in connection with the transactions contemplated by this Agreement.

(o) Insurance . The Company currently maintains or causes to be maintained all of the public liability, casualty and other insurance coverage with respect to the Hotel as set forth on Schedule 2.2(p) attached hereto. All such insurance coverage shall be maintained in full force and effect through the Closing and all premiums due and payable thereunder have been, and shall be, fully paid when due.

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(p) Personal Property . All equipment, fixtures and personal property located at the Hotel shall remain and not be removed prior to the IPO Closing, except for equipment that becomes obsolete or unusable, which may be disposed of or replaced in the ordinary course of business.

(q) Environmental Conditions .

(A) As of the date of this Agreement and as of the Closing, and except as set forth in the environmental reports and materials previously delivered to Acquiror which are listed on Schedule 2.2(r) attached hereto (collectively, “Environmental Reports”), to the best of the Contributors’ knowledge, information and belief, the Property (which for purposes of this Section 2.2(r) shall include all leased and vacant space, land surface water, groundwater and any and all improvements located on, in or under the Property) is now and will be at the Closing free of all contamination which exists as or has arisen from, directly or indirectly:

(3) any “oil” or other “hazardous substance” as defined by the Oil and Hazardous Substance Control Act of 1976, as amended, or by and regulations promulgated thereunder;

(4) any substance the presence of which on, in or under the Property is prohibited or regulated by any federal, state or local environmental law (an “Environmental Law”); and

(B) To the best of the Contributors’ knowledge, information and belief, as of the date of this Agreement and as of the Closing, and except as set forth in the Environmental Reports:

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(2) to the best of the Contributors’ knowledge, information and belief, the Company has not placed, located, sited or buried any underground storage tanks at the Property and to the knowledge of Contributor, no underground storage tanks are located on, at or under the Property;

(3) to the best of the Contributors’ knowledge, information and belief, the Property does not appear on any state or federal CERCLA, RCRA, Superfund or other similar lists and, to the knowledge of Contributor, the Property is not proposed to be included on any such list;

(4) to the best of the Contributors’ knowledge, information and belief, the Company has never used any part of the Property as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA and no part of the Property has ever been used as a sanitary landfill, waste dump site or for the treatment, storage or disposal of hazardous waste as defined in RCRA;

(5) to the best of the Contributors’ knowledge, information and belief, no notice of violation or other written communication has been received by the Company or any predecessor in title from a governmental agency or other entity or person, alleging or suggesting any violation of any Environmental Law on or with respect to the Property;

(6) to the best of the Contributors’ knowledge, information and belief, neither the Company nor any of such Company’s agents, licensees or invitees have placed or permitted the placement of any Hazardous Materials in, on, under or over the Property in violation of any Environmental Law;

(7) to the best of the Contributors’ knowledge, information and belief, no other party has placed any Hazardous Material in, on, under or over any of the Property in violation of any Environmental Law; and

(8) to the best of the Contributors’ knowledge, information and belief, the Property is not subject to any federal, state or local lien (including any “Superfund” lien), proceedings, claim, liability, or action, or the threat or likelihood thereof, relating to the clean-up, removal or remediation of any Hazardous Material from the Property and the Company has not received any request or information from the United States Environmental Protection Agency or any other public, governmental or quasi-governmental agency or authority with jurisdiction over any Environmental Law.

(r) Compliance With Laws . To the best of the Contributors’ knowledge, information and belief, the Company possesses such certificates, approvals, licenses, authorities or permits issued by the appropriate local, state or federal agencies or bodies necessary to conduct the business to be conducted by it, and the Company has not received any written notice of proceedings relating to the revocation or modification of any such certificate, approval, license, authority or permit which, singly or in the aggregate, if the subject of an unfavorable decision, ruling, or finding, would materially and adversely affect the condition, financial or otherwise, or the earnings, business affairs or business prospects of the Property. To the best of the Contributors’ knowledge, information and belief, the Company has not received any written or other notice of any violation of any applicable zoning, building or safety code, rule, regulation

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or ordinance, or of any employment, environmental, wetlands or other regulatory law, order, regulation or other requirement, including without limitation the Americans With Disabilities Act (“ADA”) or any restrictive covenants or other easements, encumbrances or agreements, relating to the Property, which remains uncured. The Property has been constructed and is operated in accordance with all applicable laws, ordinances, rules and regulations. All approvals regarding zoning, land use, subdivision, environmental and building and construction laws, ordinances, rules and regulations have been obtained, and such approvals will not be invalidated by the consummation of the transactions contemplated by this Agreement; provided, however, the Property (including, all improvements) is substantially in compliance with the ADA.

(s) Condemnation and Moratoria . Except as set forth on Schedule 2.2(t), to the best of the Contributors’ knowledge, information and belief, there are (i) no pending or threatened condemnation or eminent domain proceedings, or negotiations for purchase in lieu of condemnation, which affect or would affect any portion of the Property; (ii) no pending or threatened moratoria on utility or public sewer hook-ups or the issuance of permits, licenses or other inspections or approvals necessary in connection with the construction or reconstruction of improvements, including without limitation tenant improvements, which affect or would affect any portion of the Property; and (iii) no pending or threatened proceeding to change adversely the existing zoning classification as to any portion of the Property. No portion of the Property is a designated historic property or located within a designated historic area or district and there are no graveyards or burial grounds located within the Property.

(t) Condition of Improvements . To the best of the Contributors’ knowledge, information and belief, there is no material defect in the condition of (i) the Property, (ii) the improvements thereon, (iii) the roof, foundation, load-bearing walls or other structural elements thereof, or (iv) the mechanical, electrical, plumbing and, safety systems therein, nor any material damage from casualty or other cause, nor any soil condition of any nature that will not support all of the improvements thereon without the need for unusual or new subsurface excavations, fill, footings, caissons or other installations.

(u) Absence of Certain Changes . To the best of the Contributors’ knowledge, information and belief, since December 31, 2003, except as set forth or referred to on Schedule 2.2(v), there has not been with respect to the Company:

(A) any material adverse change in the financial condition of the Company or such the Property;

(B) any change in the condition of the Property or the business or liabilities of the Company except normal and usual changes in the ordinary course of business which have not been, individually or in the aggregate, materially adverse;

(C) any damage, destruction or loss, whether or not covered by insurance, individually or in the aggregate, materially and adversely affecting the Property;

(D) any change in the accounting methods or practices with respect to such the Property or in depreciation or amortization policies theretofore used or adopted;

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(E) any material liability with respect to the Property, contingent or otherwise, other than for operating expenses, obligations under any executory contracts disclosed on Schedule 2.2(x) hereof incurred for fair consideration and taxes accrued with respect to operations during such period, all incurred in the ordinary course of business; or

(F) any other material change in the business of the Company.

(v) ERISA . The Company Entity has no (i) labor agreement to which it is a party, or by which it is bound, including “employee pension benefit plans” as defined in Section 3(2) of the Employee Retirement Income Security Act of 1974, as amended (“ERISA”); (ii) employment, profit sharing, deferred compensation, bonus, pension, retainer, consulting, retirement, welfare or incentive plan, fund, program or contract to which it is a party, or by which it is bound; (iii) written or other formal personnel policies; or (iv) plan or agreement under which “fringe benefits” (including, but not limited to, vacation plans or programs, sick leave plans or programs, and related benefits) are afforded to its employees.

(w) No Contracts . No agreements, undertakings or contracts affecting the Property, written or oral, will be in existence as of the Closing, except as set forth on Schedule 2.2(x) attached hereto, and true and correct copies of such contracts have been delivered to Acquiror. With respect to any such contracts set forth on Schedule 2.2(x), each such contract is valid and binding on the Company and is in full force and effect in all material respects. To the knowledge of Contributor, no party to any such contract has breached or defaulted under the terms of such contract, except for such breaches or defaults that would not, individually or in the aggregate, have a material adverse effect on the business or operations of the Property.

2.3 Satisfaction of Conditions . The Acquiror hereby covenants that the Acquiror shall use commercially reasonable efforts and diligence in order to satisfy all of the conditions set forth in Section 3.2 hereof; and the Contributors shall not have any obligation to consummate the Closing hereunder unless and until all such conditions have been satisfied or waived by the Contributor in writing. Each Contributor hereby covenants that it shall: (A) use commercially reasonable efforts and diligence in order to satisfy all of the conditions set forth in subsections 3.1(a), (b) and (c) hereof, and (B) cooperate and assist in the Acquiror’s efforts to satisfy the conditions set forth in subsection 3.1(e) hereof; and the Acquiror shall not have any obligation to consummate the Closing hereunder unless and until such conditions have been satisfied or waived by the Acquiror in writing.

2.4 Contributor’s Indemnity . Each Contributor agrees to indemnify and hold the Acquiror, the REIT, and their respective employees, directors, members, partners, affiliates and agents harmless of and from all liabilities, losses, damages, costs, and expenses (including reasonable attorneys’ fees) which the Acquiror or the REIT may suffer or incur by reason of any breach of its representations or warranties contained in this Agreement, and by reason of any act or cause of action occurring or accruing prior to the Closing Date and arising from the ownership of the Assets in the operation of the Hotel prior to the Closing Date.

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2.5 Acquiror’s Indemnity . The Acquiror agrees to indemnify and hold the Contributors and their employees, directors, members, partners, affiliates and agents harmless of and from all liabilities, losses, damages, costs, and expenses (including reasonable attorneys’ fees) which the Contributors may suffer or incur by reason of any breach of its representations or warranties contained in this Agreement, and by reason of any act or cause of action occurring or accruing subsequent to the Closing Date and arising from the ownership or operation of the Assets or the operation of the Hotel subsequent to the Closing Date.

ARTICLE III

CONDITIONS PRECEDENT TO THE CLOSING

3.1 Conditions to Acquiror’s Obligations . In addition to any other conditions set forth in this Agreement, the Acquiror’s obligation to consummate the Closing is subject to the timely satisfaction of each and every one of the conditions and requirements set forth in this Section 3.1, all of which shall be conditions precedent to the Acquiror’s obligations under this Agreement.

(b) Contributors’ Representations and Warranties . The representations and warranties of the Contributors set forth in Section 2.2 shall be true and correct as if made again on the Closing Date.

(e) Third Party Consents . Receipt of written consent from the franchisor of the Hotel to the transfer of the license from the Company to an affiliate of the Acquiror to the extent required by applicable contractual provisions of the Franchise Agreement on terms and conditions that are acceptable to Acquiror in its sole discretion.

(f) Completion of IPO . The IPO shall have been completed.

(g) Distributions Paid . The Distributions shall have been paid to MAVAS and KDCA. Such Distributions shall be deemed to satisfy in full, and Contributors each agree that the distribution received by it shall satisfy in full, any and all loans and outstanding indebtedness and liabilities owed by the Company to each Contributor.

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3.2 Conditions to Contributors’ Obligations . In addition to any other conditions set forth in this Agreement, the obligations of the Contributors to consummate the Closing is subject to the timely satisfaction of each and every one of the conditions and requirements set forth in this Section 3.2, all of which shall be conditions precedent to the Contributor’s obligations under this Agreement.

(b) Acquiror’s Representations and Warranties . The Acquiror’s representations and warranties set forth in Section 2.1 shall be true and correct as if made again on the Closing Date.

(d) Distributions . The Company shall have paid the Distributions to MAVAS and KDCA.

(e) Release of Guarantees . The cross guarantees of indebtedness owed by the Company to BB&T Bank made by MAVAS, Mark V. Smith, MHI Hotels Services LLC, Andrew Sims, Kim Sims and Chris Sims shall have been released.

ARTICLE IV

CLOSING AND CLOSING DOCUMENTS

4.1 Closing . The consummation and closing (the “Closing”) of the transactions contemplated under this Agreement shall take place at the offices of the Acquiror in Greenbelt, Maryland, or such other place as is mutually agreeable to the parties, on the date of the closing of the IPO (the “Closing Date”), or as otherwise set by agreement of the parties hereto. If at any time the REIT determines in good faith to abandon or discontinue its efforts to engage in an IPO, Acquiror shall so advise each Contributor in writing and thereupon all parties hereto will be relieved of all obligations under this Agreement.

4.2 Contributor’s Deliveries . At the Closing, each Contributor shall deliver the following to the Acquiror in addition to all other items required to be delivered to the Acquiror by the Contributor:

(a) Assignment of Assets . Each Contributor shall have executed and delivered an Assignment, in substantially the form of Exhibit A attached hereto, granting and conveying to the Acquiror good and indefeasible title to the Contributor’s Assets, free and clear of all liens, encumbrances, security interests, prior assignments, conditions, restrictions, claims, and other matters affecting title thereto.

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(d) Execution of Tax Indemnity and Bottom Dollar Guarantee . Each Contributor shall have executed a tax indemnity and debt maintenance in the form of Exhibit 4.2 (the “Tax Indemnity”) and the attached Bottom Dollar Guarantee to reflect the allocation of indebtedness to each Contributor in an amount not to exceed such Contributor’s negative balance in the capital account maintained by the Company for such Contributor as of the Closing Date and after giving effect to the Distributions.

(e) Confirmation from Darby Bank . Confirmation from Darby Bank that the loan obligations of MAVAS and KDCA have been repaid and cross guarantees by MAVAS and KDCA have been released.

(f) Confirmation from Contributors . Confirmation from each of the Contributors that the advances and loans made to the Company by such Contributor have been fully satisfied by payment of the Distribution.

(g) Other Documents . Any other document or instrument reasonably requested by the Acquiror or required hereby.

4.3 Acquiror’s Deliveries . At the Closing, the Acquiror shall deliver the following to the Contributors:

(a) Certificates for Units . Certificates representing Units duly issued by the Acquiror in the name of the Contributor as of the Closing Date representing the Units to which each of KDCA and MAVAS are entitled pursuant to Section 1.2 of this Agreement.

(d) Confirmation from BB&T Bank . Confirmation from BB&T Bank that the indebtedness of the Company to such bank shall have been paid in full and/or the cross guarantees of MAVAS, Mark V. Smith, MHI Hotels Services LLC, Drew Sims, Kim Sims and Chris Sims shall have been released.

(e) Other Documents . Any other document or instrument reasonably requested by a Contributor or required hereby.

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4.4 Fees and Expenses; Closing Costs . The Acquiror shall pay all fees, expenses and closing costs relating to the transactions contemplated by this Agreement; provided however, that each Contributor shall pay its own attorneys’ and consultants’ fees and expenses. In the event the transactions contemplated herein are not concluded because of a failure of the REIT to complete the IPO prior to March 31, 2005, the Company shall pay to Acquiror $100,000 which shall represent the Contributors’ pro rata share of costs incurred in connection with such transaction; each Contributor acknowledges and agrees, by executing this Agreement, that it will benefit from such an IPO and, as a consequence, the Company will bear a portion of its costs if such transaction is not completed.

4.5 Default Remedies . If the Closing fails to occur due to a default by the Acquiror, the Contributors shall retain the Deposit as such Contributor’s sole and exclusive remedy for such default, and the Contributor hereby waives any right it may have to damages (compensatory, consequential or otherwise) from the Acquiror as a result of such default. If a Contributor defaults in performing any of the Contributor’s obligations under this Agreement, the Acquiror shall have all rights and remedies available to it at law or in equity resulting from the Contributor’s default, including without limitation, the right to seek specific performance of this Agreement and the Contributor’s obligation to convey the Contributor’s Assets to the Acquiror hereunder. The parties acknowledge and agree that the failure of a condition precedent to occur, notwithstanding the good faith and commercially reasonable efforts of the applicable party, shall not be a default hereunder.

4.6 Power of Attorney . Each Contributor hereby irrevocably appoints Acquiror, Andrew M. Sims and William J. Zaiser, and each of them individually and any successor thereof (such persons or Acquiror or any such successor of any of them acting in his, her or its capacity as attorney-in-fact pursuant hereto, the “Attorney-in-Fact”) as the true and lawful Attorney-In-Fact and agent of Contributor to act in the name, place and stead of such Contributor to take all steps deemed necessary or advisable to cause the Distributions to be made prior to the Closing and the obligations of KDCA and MAVAS to Darby Bank to be paid with a portion of such Distribution.

ARTICLE V

MISCELLANEOUS

5.1 Notices . Any notice provided for by this Agreement and any other notice, demand, or communication required hereunder shall be in writing and either delivered in person (including by confirmed facsimile transmission) or sent by hand delivered against receipt or sent by recognized overnight delivery service or by certified or registered mail, postage prepaid, with return receipt requested. All notices shall be addressed as follows:

Acquiror:

MHI Hospitality LP

814 Capitol Landing Road

Williamsburg, VA 23187

Attention: Mr. Andrew M. Sims

Fax No.: (757) 564-8801

Phone No.: (757) 229-5648

E-mail: drewsims@mhihotels.com

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Notices to Contributors shall be sent to the addresses specified on Schedule 1

5.2 Entire Agreement; Modifications and Waivers; Cumulative Remedies . This Agreement supersedes any existing letter of intent between the parties hereto, constitutes the entire agreement among the parties hereto and may not be modified or amended except by instrument in writing signed by the parties hereto, and no provisions or conditions may be waived other than by a writing signed by the party waiving such provisions or conditions. No delay or omission in the exercise of any right or remedy accruing to the Contributor or the Acquiror upon any breach under this Agreement shall impair such right or remedy or be construed as a waiver of any such breach theretofore or thereafter occurring. The waiver by the Contributor or the Acquiror of any breach of any term, covenant, or condition herein stated shall not be deemed to be a waiver of any other breach, or of a subsequent breach of the same or any other term, covenant, or condition herein contained. All rights, powers, options, or remedies afforded to Contributor or the Acquiror either hereunder or by law shall be cumulative and not alternative, and the exercise of one right, power, option, or remedy shall not bar other rights, powers, options, or remedies allowed herein or by law, unless expressly provided to the contrary herein.

5.3 Exhibits . All exhibits referred to in this Agreement and attached hereto are hereby incorporated in this Agreement by reference.

5.4 Successors and Assigns . Except as set forth in this Article, this Agreement may not be assigned by the Acquiror or the Contributors without the prior approval of the other party hereto; provided, however, that the Acquiror may assign this entire agreement or a right to acquire all or any portion of the Assets to a direct or indirect subsidiary or affiliate of Acquiror without approval of the Contributors. This Agreement shall be binding upon, and inure to the benefit of, each Contributor, the Acquiror, and their respective legal representatives, successors, and permitted assigns.

5.5 Article Headings . Article headings and article and Section numbers are inserted herein only as a matter of convenience and in no way define, limit, or prescribe the scope or intent of this Agreement or any part hereof and shall not be considered in interpreting or construing this Agreement.

5.6 Governing Law . This Agreement shall be construed and interpreted in accordance with the laws of the Commonwealth of Virginia, without regard to conflicts of laws principles.

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5.7 Counterparts . This Agreement may be executed in any number of counterparts and by any party hereto on a separate counterpart, each of which when so executed and delivered shall be deemed an original and all of which taken together shall constitute but one and the same instrument.

5.8 Survival . All representations and warranties contained in this Agreement, and all covenants and agreements contained in the Agreement which contemplate performance after the Closing Date (including, without limitation, those covenants and agreements contained in Section 1.2 hereof) shall survive the Closing.

5.9 Further Acts . In addition to the acts, instruments and agreements recited herein and contemplated to be performed, executed and delivered by the Acquiror and the Contributors, each of the Acquiror and each Contributor shall perform, execute, and deliver or cause to be performed, executed, and delivered at the Closing or after the Closing, any and all further acts, instruments, and agreements and provide such further assurances as the other party hereto may reasonably require to consummate the transaction contemplated hereunder.

5.10 Severability . In case any one or more of the provisions contained in this Agreement shall for any reason be held to be invalid, illegal, or unenforceable in any respect, such invalidity, illegality, or unenforceability shall not affect any other provision hereof, and this Agreement shall be construed as if such invalid, illegal, or unenforceable provision had never been contained herein.

5.11 Attorneys’ Fees . Should a party hereto employ an attorney or attorneys to enforce any of the provisions hereof or to protect its interest in any manner arising under this Agreement, or to recover damages for breach of this Agreement, any non-prevailing party in any action pursued in a court of competent jurisdiction (the finality of which is not legally contested) shall pay to the prevailing party all reasonable costs, damages, and expenses, including reasonable attorneys’ fees, expended or incurred in connection therewith.

5.12 Confidentiality . The Contributor acknowledges that the matters relating to the REIT, the initial underwritten public offering of the REIT, this Agreement, and the other documents, terms, conditions and information related thereto (collectively, the “Information”) are confidential in nature. Therefore, each Contributor covenants and agrees to keep the Information confidential and will not (except as required by applicable law, regulation or legal process, and only after compliance with the provisions of this Section 5.12), without the Acquiror’s prior written consent, disclose any Information in any manner whatsoever; provided, however, that the Information may be revealed only to a Contributor’s key employees, legal counsel and financial advisors, each of whom shall be informed of the confidential nature of the Information and shall agree to act in accordance with the terms of this Section 5.12. In the event that a Contributor or its key employees, legal counsel or financial advisors (collectively, the “Information Group”) are requested pursuant to, or required by, applicable law, regulation or legal process to disclose any of the Information, the applicable member of the Information Group will notify the Acquiror promptly so that it may seek a protective order or other appropriate remedy or, in its sole discretion, waive compliance with the terms of this Section 5.12. In the event that no such protective order or other remedy is obtained, or that the Acquiror waives compliance with the terms of this Section 5.12, the applicable member of the Information Group may furnish only that portion of the Information which it is advised by counsel is legally

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required and will exercise all reasonable efforts to obtain reliable assurance that confidential treatment will be accorded the Information. Each Contributor acknowledges that remedies at law may be inadequate to protect the Acquiror or the REIT against any actual or threatened breach of this Section 5.12, and, without prejudice to any other rights and remedies otherwise available, each Contributor agrees to the granting of injunctive relief in favor of the REIT and/or the Acquiror without proof of actual damages. Notwithstanding any other express or implied agreement to the contrary, the parties hereto agree and acknowledge that each of them and each of their employees, representatives, and other agents may disclose to any and all persons, without limitation of any kind, the tax treatment and tax structure of the transaction and all materials of any kind (including opinions or other tax analyses) that are provided to any of them relating to such tax treatment and tax structure, except to the extent that confidentiality is reasonably necessary to comply with U.S. federal or state securities laws. For purposes of this paragraph, the terms “tax treatment” and “tax structure” have the meanings specified in Treasury Regulation section 1.6011-4(c).

[Signatures follow on next page]

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The parties hereto have executed and delivered this Agreement as of the date indicated in the first sentence of this Agreement.


CONTRIBUTORS:

MAVAS LLC

By:		/s/ Mark V. Smith
Name:		Mark V. Smith
Title:		President

KDCA Partnership

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Title:		President of the GP

ACQUIROR:

MHI Hospitality LP

By:		/s/ Andrew M. Sims
Name:		Andrew M. Sims
Title:		CEO of the GP

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Capitol Hotels Associates LP

EXHIBIT A

Assignment

Capitalized terms used but not defined herein shall have the respective meanings ascribed to them in the Agreement.

IN WITNESS WHEREOF, the parties hereto have caused this Assignment to be signed by a duly authorized officer this day of , 2004


[Assignor]

By:
Name:
Its:


Accepted on , 2004:

MHI Hospitality LP

By:
Name:
Its:

Exhibit 4.2

TAX INDEMNITY AND DEBT MAINTENANCE AGREEMENT

WHEREAS, in connection with the execution and delivery of the Contribution Agreement, as defined below, the Contributors have agreed to contribute all of the ownership interests (the “Contributed Interests”) in the entity that owns the Holiday Inn Brownestone, Raleigh, North Carolina (the “Property”) to the Operating Partnership in exchange for, among other things, Units in the Operating Partnership; and

Section 1. Definitions .

(a) In this Agreement, the following terms shall have the following meanings:

“Code” means the Internal Revenue Code of 1986, as amended, and any replacement to such provisions.

“Contribution Agreement” means the Contribution Agreement between the Operating Partnership and the Contributors dated as of August , 2004.

“Current Tax Excess” means with respect to each Taxable Period and each Taxable Event, an amount equal to the product of (i) the product of (a) the taxable income or gain allocable to or otherwise reportable by a Protected Person during such Taxable Period resulting from the occurrence of the Taxable Event and (b) the Sliding Scale Percentage, and (ii) the Applicable Tax Rate. For purposes of the foregoing calculation, the taxable income or gain allocable to or otherwise reportable by a Protected Person will be limited to the amount of any gain or income