Even before Monday’s announcement that China-based HNA Group is set to acquire 25% of Hilton Worldwide Holdings, panelists at the Dallas Hotel Conference said the hotel industry should expect more offshore capital to show up in the U.S.
IRVING, Texas—At the very least, the five panelists participating in the main event at last week’s Dallas Hotel Conference can be pegged as pragmatists. Or, just call them the hotel harbingers.
The speakers’ talk of an increased amount of foreign capital finding its way into the U.S. hotel industry preceded by four days Monday’s announcement that China’s HNA Group is set to acquire 25% of McLean, Virginia-based Hilton Worldwide Holdings. Speakers on the “Capital markets: When will the bubble burst?” panel were direct about what might be coming down the pike as they assessed the current state of the industry.
“In the hotel industry we’re always thinking about cycles … The thing to remember here that’s very different is the emergence of the Chinese economy is not a cycle,” said Steve Haggerty, global head of capital strategy, franchising and select service for Hyatt Hotels Corporation. “It’s a structural change. … It adds weight to the liquidity to the market.”
Tom Day, EVP of hospitality finance at Wells Fargo, said there are plenty of unknowns about the capital from Asia and beyond.
“There’s a mystery around foreign capital, and mystery creates uncertainty,” he said. “The less mysterious the capital becomes ... the more opportunity foreign capital will have.”
But one thing is certain: It’s real money, and it’s looking for deals.
“We’re very excited about all the capital that flows in from China and the Middle East,” said Dan Peek, senior managing director of commercial real estate intermediary HFF. “The diversity of their investment interest and the diversity of their wealth are incredible. They are pursuing yield. … It’s not just buying Park Avenue.”
Dave Johnson, president and CEO of Aimbridge Hospitality, and Haggerty indicated that the amount of that capital is huge, particularly from China-based entities.
“I don’t think we’re ready for the scale,” Johnson said, noting that China-based Anbang Insurance Group has in the neighborhood of $300 billion of capacity. “It’s only going to get bigger over time.”
In April, Anbang abandoned its $14-billlion bid for Starwood Hotels & Resorts Worldwide, which was eventually acquired by Marriott International.
“We can be vastly underestimating the quantum of capital from China coming into this market,” Haggerty said.
Johnson said he wouldn’t be surprised if, a couple of years from now, 75% of available capital is from Asia.
“They want yield,” he said. “There’s a big fear of devaluation of their currency,” and concerns there might be a billionaire tax. “A lot of it is preservation of capital.”
Real estate in general benefits from such a scenario, Johnson said. That’s because the U.S. government won’t allow Chinese investors to invest in anything that involves trade secrets, but real estate is fine.
“We may be underestimating this flight of capital that’s coming in,” Johnson said. “It might change the way we capitalize the industry.”
A key indicator of the peak of a cycle is when new investors—particularly from overseas—begin making investments in the hotel industry, said Dan Lesser, president and CEO of LW Hospitality Advisors, during the conference’s opening “Market update” presentation.
“They jump in and approach it as just another food group for real estate,” he said.
Deal volume discussion
Meanwhile, the landscape for asset values and transaction volume was another thread through the early discussions. Lesser said at best, hotel values are flat; at worst, they are down 20% from peak values.
“Not a lot is happening in New York right now,” Peek said. “People are playing wait and see. … Foreign capital is going beyond the gateways in a big way.”
The crux of the slower transaction volume is easy to spot, speakers said.
“Sellers frankly still want 2015 prices,” Day said. “Buyers have a lot more to digest in terms of economic things. There’s some psychology at play that makes it difficult to transact.”
Monty Bennett, chairman and CEO of Ashford Group of Companies, agreed.
“Volume is driven by the sellers, and sellers are playing ‘remember when?’” said Bennett, who added that pricing is “15% lower or so” than peak pricing. “It takes them a time to readjust to a new reality. That’s what you always see in these downturns.
“This is the first time for a value drop outside of a recession that I can remember,” he added. “It’ll be a while before sellers come out of the woodwork.”
All of that rhetoric makes it difficult to determine where exactly in the cycle the industry sits, but Lesser said the landscape has certainly shifted.
“At this point in the cycle, we’re just past that euphoric stage and in the anxiety stage,” he said. “We’re transitioning, but we don’t know what we’re transitioning to.”
The “Bubble” panelists agreed the hotel industry isn’t in dire straits.
“The buzz is one of general caution and cautious optimism,” Day said. “That’s something that we’re getting accustomed to. This is not new news. … I will contend that we will continue to bounce along.”
“Every recession we’ve ever gone through has been caused by the Fed (raising interest rates)—that’s their job,” he said. “The Fed has not been raising interest rates. As a result this (cycle) has kept on going, and it will keep on going as long as the Fed doesn’t raise interest rates.”
Johnson said one look at the industry’s operational performance reveals a relatively strong fundamental backdrop.
“Other industries … they would be doing cartwheels through ballrooms if they could project 3% growth,” Johnson said, referring to projections for RevPAR growth in 2017. “I’m more concerned about the cost side. … Historically you’ve been able to flow 50% or 75% to the bottom line. I’m concerned whether we’re going to be able to get that flow to the bottom line.”
A lot of the industry’s issues can be traced to a rising supply pipeline—especially when looking at individual markets, the speakers said. That has led to some out-of-context conjectures about the industry’s overall health.
“There are wild gyrations in attitude that seem so out of whack with the cycle,” Haggerty said.
“I’ve never seen anything in my career like what’s going on in New York City right now—it’s a bloodbath,” Johnson said, noting that year-over-year RevPAR at premium properties is down 5% and independent hotels are down 10% to 12%.
“It’s all supply-driven,” he said, adding that “most of the capital is in New York; they have this real negative attitude toward hospitality.”
However, Bennett noted that while the supply growth rate is creeping up, it’s not at levels of past downturns.
“Usually this far in the cycle, net new supply is in the 3% to 4% range,” he said. “We are substantially below that.”
Supply will taper in the future as lenders receive pressure from regulators to be careful in all real estate sectors, according to Ashford’s CEO.
“New supply growth is rationalizing without going through a recession, which is great,” Bennett said.
Johnson and Peek noted that lenders are becoming more cautious, which will help the supply growth stay in check.
“There’s plenty of equity out there, brands are incentivizing to get things built, but getting new construction debt is getting very, very difficult now,” Johnson said.
“A lot of bank regulations are kicking in … because of the higher risk nature, and what they’re going to have to reserve against is a significant issue,” Peek said.
Reflections on Marriott/Starwood
The impact of Marriott acquisition of Starwood continues to reverberate at industry events, where it’s often a topic of conversation. Speakers on the opening “Bubble” panel at the Dallas Hotel Conference weighed in on the deal’s effects.
Johnson said his takeaway from the deal is Marriott’s surge in scale.
“Everything points to scale matters in this matter,” he said. “There’s an exponential threat to brands with these (online travel agencies). It gives them scale to have some muscles.”
Haggerty agreed. “Scale is very important. … Scale is something that you need in order to compete in this business,” he said. He pointed to cash flow needed to pay for technological improvements as one key element of scale. “But scale’s not a strategy. That’s where we pause a little bit. If it were, I don’t think anyone could win that game.”
It does benefit a company on the OTA front because of the leverage it provides, Haggerty added.
But Johnson admitted there are still some unanswered questions regarding the future of Starwood’s brands.
“The brands like Aloft and Element, I’d be standing in line if I was a developer because Marriott knows what it is doing in development,” he said. “The thousand-pound gorilla around Starwood has been Sheraton.”
Peek said he’s curious to see what happens with the brand lineup, particularly when it comes to the Sheraton brand. “Maybe it gives it the jump-start that DoubleTree got with Promus-Hilton merger,” he said.
Bennett said his company is one of Marriott’s largest customers worldwide. He pointed to the experience and knowledge of Marriott’s executive team as to why the deal will ultimately be termed successful.
“So far our take is pretty positive,” he said. “They’re going to make this work one way or another.”