Panelists at this year’s Hospitality Law Conference talked about the changing hotel transaction market and how sellers can improve their position during deals.
HOUSTON—There’s speculation in the hotel industry that leverage has shifted and the market has shifted away from sellers to the advantage of buyers.
In the “Optimizing the exit: Capturing total value on the reversion sale” session of the recent Hospitality Law Conference, panelists discussed where the cycle stands, present and future hotel valuations and potential pricing.
Speaking as a broker, Drew Noecker, VP at CBRE Hotels’ Houston office, said it’s always a sellers’ market. CBRE has seen, especially in the past five months, that lenders in the hotel space have decided it’s time to rein in financing, he said. While leverage levels might have been 70%, they’re now about 60% to 65% to do the same project.
“There’s a reduction of leverage and the headwinds of a smaller number of buyers in the buying pool right now,” he said. “Share prices have gone way down; (real estate investment trusts) have lost a lot of ability to do share repurchases.”
Richard Sprecher, VP of business development at Aimbridge Hospitality, said a broker told him the traditional buyer isn’t around anymore and that he’s talking with wealthy families and nursing homes to get them into hotels.
In his own work, Sprecher said he spoke with a group of radiologists in Alabama who were interested in buying a Holiday Inn.
“After I talked to them, I said I don’t think it’s going to be right for them,” he said. “Bringing in non-hotel people into this space can be a downfall.”
Sellers want to take the right approach, Noecker said. He suggested sellers find a group that understands hotels and the opportunities that come with them.
“You have to focus on that and target the right people,” he said. “It’s harder to find the right buyer right now.”
Different markets, different conditions
The changing of leverage depends on the market. Noecker said it’s specific to city and region. Supply growth in the past five to six years has been about 1.5% to 2%. Manhattan is dragged down by supply, he said, and Chicago always seems to add rooms when no one thinks it possible to add more. On the other hand, Austin, Texas, and Dallas continue to thrive, he said.
Every day someone seems to announce a new hotel in downtown Chicago, Sprecher said, which should scare hoteliers building a property in Chicago right now. When downtown Chicago is sold out, he said, the suburbs do well. When downtown has vacancies, the other markets struggle.
Major college towns with state universities that are equivalent to secondary or tertiary markets with populations between 50,000 and 200,000 are doing well, Sprecher said. They continue to be resistant to the cycles and are gaining market share, even in the smaller cities.
From a long-term standpoint, hotel space cap rates have been relatively flat, Noecker said, as the fundamentals have been stable. With the turmoil of the economic down cycle in 2009, he said, people looked for safety and flocked to markets in Miami, Boston, San Francisco and Washington, D.C.
The secondary and tertiary markets are coming together and sitting in long-term, stable cap rates at about 8%, Noecker said. Typically, a Courtyard by Marriott or Hampton Inn by Hilton in a city of 100,000 would be the target, he said, and those assets perform well and consistently as there’s not much volatility in pricing those assets during the past five years.
In a case study of a property in downtown Chicago, Sprecher said he worked with a retail group and bought a 15-acre site to build a Hyatt Regency on it. The cost was about $20 to $30 million, he said, and equated to about $38,000 a key. It sat across from one of the biggest malls in the Midwest, had two restaurants in it and was near an Ikea. There also were some retail units and multifamily housing on the site. A competing hotel came in that cost about $145,000 a key to build.
“If the whole market goes, everyone is giving away rooms,” Sprecher said. “We’re still making rooms.”
Brand as value-add
While it’s not paper equity, branded properties bring goodwill, Noecker said. Corporate customers know brands. They like brands and their point systems. To optimize the sale, Noecker said, it’s important to figure out a way to make the new buyer stay with the brand for the longest term possible.
“If it’s a quality brand, you want to retain that to maximize your proceeds,” he said. “For something like a Hampton Inn & Suites, you’re putting a buyer in the best position to get a long-term license agreement. They might get five years, but 10 years means more certainty.”
If the buyer wants to take a branded property and turn it into a boutique hotel, Noecker suggested defending the brand and pinning down the new costs for the buyer with as much certainty as possible.
“The more detail you have on that, the more certainty you will get in the execution of the sale,” he said.
If that particular brand isn’t doing well, Sprecher suggested looking into whether the property can be converted to a premier brand as a possible value-add for the buyer.
“If you have an established brand, like a Hampton or a Hyatt Place, keep that brand,” he said. “If it’s a lower brand that you can bring up to a premium brand, it can be a big value-add.”