PHOENIX—It’s not just the lack of financing options that’s keeping a large number of limited-service hotels from being sold. Transactions experts said during the “Deals Under $20 Million” panel held during last week’s Lodging Conference there are plenty of reasons for the lack of deals.

Lee Hunter, chief operating officer for Hunter Realty Associates, said the hotel industry has always been a street-corner business and some hotel owners don’t take into account individual markets when they set expectations for a selling price.

“The bid-ask spread (is a common problem),” Hunter said. “What is the value?”

 

Hunter said he regularly runs into hotel owners in secondary and tertiary markets who use a transaction in Manhattan as the guideline for their selling price—and that’s a big problem.

“There is a misconception of value for a lot of properties,” he said. “We get put in a tough spot. How do you tell someone their daughter’s ugly?”

Gus Stamoutsos, executive VP of development for Wyndham Hotel Group, said the required cost of much-needed property-improvement plans is another situation that stalls a number of sub-US$20-million transactions.

“In many cases there are shortfalls and the buyer can’t get more money to do some of the PIP,” he said. “They ask if they can push things out for some period of time, and we allow it when we can. With PIPs, we’re making sure we’re addressing the end product is what the customer wants and what we want.”

Hunter said there also are situations in which the buyer has enough money for a standard PIP but doesn’t have enough to cover the property’s deferred maintenance.

“It’s the (capital expenditure) dollars that haven’t been spent that are the problem,” he said. “It’s the roof that needed to be replaced two years ago and wasn’t that causes a lot of issues in deals not happening.”

Rick Rogovin, VP of Wells Fargo Bank’s Hospitality Finance Group, added that soon-to-expire ground leases that were set up by inexperienced lenders and attorneys two decades ago also have foiled some deals.

“The challenge (with ground leases) is that there’s a lot of ambiguity in the language,” said Matthew Le Master, partner with Davis Wright Tremaine LLP.

Michael Sonnabend, managing partner with PMZ Hotel Finance Group, said because there are more deals seeking capital than there is capital seeking deals, issues with PIPs or soon-to-expire ground leases often are placed at the bottom of the pile—and in some cases are thrown out entirely.

“In a deal with a wacky ground lease, and you have six other deals to look at, you will look at those six first,” Sonnabend said. “We’re not at a point where it’s so frothy that a lender’s going to do a wacky deal just to get it done.”

Coming to terms
When it comes to refinancing the under-US$20-million assets, the deals that are getting done have specific terms attached, according to Sonnabend.  The refinances typically are for five years or 10 years, and have non-recourse interest rates of about 6% on a five-year deal and a little more than 6% on a 10-year loan. The strike zone for loan-to-value is between 65% and 70%. He said typical debt yields run around 11% to 12%.

“Six-and-a-quarter (percent interest) is not so bad to have for the next 10 years,” Sonnabend said.

Trying to arrange subordinate financing in a loan refinancing scenario often isn’t worth the effort because of the hoops that need to be jumped through, Le Master and Sonnabend said.

“The brain damage of trying to get another million (dollars) or (US)$2 million on a deal is nothing (the borrower) is going to be able to anticipate,” Sonnabend said.

Even thought there is limited development of under-US$20-million assets going on, there are some bright spots.

Stamoutsos said markets with oil-and-gas exploration are bucking the no-development trend. He specifically cited North Dakota, the Midwest, Texas and Louisiana as where the bulk of new construction is for Wyndham.

“The higher-end, limited-service segment performed pretty well through downturn,” Sonnabend said. “Cash flow was good to put owners where they want to be for refinancing, so they do that and then see an opportunity to get in the ground with something new.”

Advice to buyers and sellers
Hunter and Stamoutsos said owners looking to sell their hotels would be better off with a quick disposition.

“If you’re thinking about selling in the next three years or so, do it sooner rather than later,” Hunter said. “By then there will be more assets on the market and that will put negative pressure on the value.”

Stamoutsos said that from 2005 to 2008 there were a number of hotel assets that sold three or four times for less than US$20 million. That’s probably not going to be the case this time around.

“Everyone then was looking at purchasing an asset and looking at holding it on a short-term basis,” he said. “Now, it’s either buy it right and sell it fairly quickly or be a long-term holder.”

Final thoughts
There was a mixed message when the panelists gave their parting shots:

Hunter: “If you’re a potential buyer and have equity, you are going to have plenty of opportunity to acquire assets between now and this conference next year across the U.S.”

Stamoutsos: “It’s just going to be prolonged—longer than what we all expected the recovery to be.”

Le Master: “It’s here, it’s going to happen. The lenders are not given the leeway to be gentle with the borrowers.”

Sonnabend: “When people saw a light at the end of the tunnel (earlier this year) they were able to raise capital to fix the property. That’s a big relief for a lot of owners.”

Rogovin: “Where is value right now? It’s a tough thing to establish.”

Copyright © 2004-2011 Smith Travel Research /DBA HotelNewsNow.com (HNN). All Rights Reserved.

Atlanta, Georgia–Despite news of persistent high levels of unemployment and waning consumer confidence, PKF Hospitality Research has increased its forecast of revenue growth for U.S. hotels in 2011. According to the September 2011 edition of Hotel Horizons®, PKF-HR forecasts that rooms revenue (RevPAR) for U.S. hotels will rise 7.2 percent in 2011.  This is a more optimistic projection than the 6.9 percent RevPAR growth rate published in the June 2011 edition of Hotel Horizons®.

“After reading and hearing recent news reports, many clients have been questioning why we are raising our estimates of revenue growth for the year.  However, after a thorough analysis of the latest lodging performance and economic data, it is tough not to be optimistic regarding the future of U.S. hotels,” said R. Mark Woodworth, president of PKF-HR.  “It is understandable why so many industry participants are concerned that the apparent stalling of the U.S. economy will lead to a slowdown in travel, but recent history proves otherwise.  Our investigation of the relationships between economic factors and lodging fundamentals reveals some deep high correlations that bode well for future lodging demand and pricing.”

The PKF-HR Hotel Horizons® forecasting model is based on historical lodging performance data from Smith Travel Research (STR) and economic projections from Moody’s Analytics (Moody’s).  The model relies most heavily on Moody’s forecasts of total employment and real personal income to project hotel demand and average daily room rates (ADR).

“Between the time we published our June 2011 Hotel Horizons® reports and prepared our September 2011 forecasts, Standard and Poor’s downgraded U.S. debt, the Dow Jones Industrial average lost 11 percent of its value, and the unemployment rate stalled at 9.2 percent,” noted John B. (Jack) Corgel Ph.D., the Robert C. Baker Professor of Real Estate at the Cornell University School of Hotel Administration and senior advisor to PKF-HR.  “These issues created heightened levels of uncertainty in the market.  However, before reaching conclusions as to the economic effect of these conditions on the hospitality industry, it is important to look behind the headlines at the fundamental drivers of lodging demand.”

“Our reading of the economic tea leaves is that 91 percent of the people in the labor force have jobs, the unemployment rate among educated workers who make up a large share of the traveling public is less than five percent, and employed workers are receiving real wage increases.  Total real personal income has already recovered and surpassed its historical peak.  Moreover, corporate profits keep soaring to new highs which add layers of confidence for spending on business travel,” said Corgel.

 

 

 

“We analyzed cumulative four-quarter rolling levels of accommodated demand within the nation’s largest lodging markets.  By year-end 2012, all but one of the 50 markets in our Hotel Horizons® universe are forecast to exceed their previous peak levels of demand,” said Woodworth.  “We acknowledge that conditions have become more competitive in several of these markets because of new supply, but it all starts with demand.  If businesspeople, tourists and conventioneers stop traveling, then we have a lot of more to worry about.”

For 2011, PKF-HR is forecasting that lodging demand will rise 4.5 percent, while hotel supply is projected to increase just 0.6 percent.  Looking towards 2012, PKF-HR is forecasting demand will rise another 3.1 percent, with just a 0.7 percent increase in room inventory.

“After operating through the recent recession, hotel managers will surely welcome the lack of new competition entering the market for the foreseeable future,” said Woodworth.  “Ten of the 50 Hotel Horizons® markets are forecast to experience no new competitive inventory in 2012.  In fact, PKF-HR is not projecting annual supply growth to exceed the STR reported long-run average of 2.1 percent until after 2015.”
 
Pricing power slow to return
With demand growth outpacing supply, occupancy for U.S. hotels is expected to increase from 57.6 percent in 2010 to 59.8 percent in 2011, and 61.2 percent in 2012.  The improving balance between supply and demand will enable hotel operators to be more aggressive in their pricing policies.  During the recent industry recovery, growth in average daily room rate (ADR) has been the one lagging indictor

“We’ve already started to see some improvement in ADR growth.  During the second quarter of 2011, the actual achieved ADR as reported by STR surpassed the PKF-HR forecast ADR.  This is the first time this has occurred in the past two years,” Woodworth observed.

Because of the relatively strong performance during the first half of the year, PKF-HR has upped its 2011 annual ADR growth forecast to 3.2 percent.  However, based on the updated economic outlook and long-term pricing trends, PKF-HR has lowered its ADR growth forecast for 2012 to 4.8 percent.  Indications are that negotiated corporate rates are starting to rise, but meeting planners are still using their leverage to mitigate group rate increases.

Most optimistic for profits
While PKF-HR’s projections for top-line revenue growth are strong, the company’s forecasts for growth in unit-level hotel profits are even more bullish.  And, for the owners and investors in U.S. lodging assets, profits are what provide returns and pay the mortgage.

“ADR is forecast to power RevPAR growth in the future, and previous research has shown that hotels are most profitable when revenue increases are driven primarily by ADR,” said Corgel.  “In addition, we are observing factors that should limit growth in hotel operating expenses.  Continued high levels of unemployment will suppress growth in line-level wage rates, plus we saw some impressive cost containment practices when analyzing the results of our annual Trends® in the Hotel Industry survey of hotel operating statements this past year.”

PKF-HR is forecasting unit-level net operating income to increase in excess of 15 percent in both 2011 and 2012.

“The overall health of the economy certainly presents challenges for U.S. hotel owners and operators.  But if you isolate those factors that have, and will have, the greatest impact on the lodging industry, the outlook is relatively optimistic.  In fact, given the forecast increases in revenues and profits, one can make the case that we are entering one of the most promising periods of performance in U.S. lodging history,” Woodworth concludes.

 

Demand Is Back
Combined, the previously cited employment, income, and corporate profit data have contributed to the surprisingly strong growth in hotel demand that occurred during the past two years despite the apparent weak economic environment.  From the first quarter of 2010 through the second quarter of 2011, U.S. lodging demand has averaged quarterly year-over-year gains of 6.9 percent.  This far surpasses the long run average of 1.8 percent (both amounts from STR).  “While we have reduced our demand growth forecasts for the second half of 2011, expectations for continued well-above-average gains remain sound,” said Woodworth.