A hotel investment with benefits

A hotel investment with benefits

Since I arrived in Buenos Aires toward the end of 2008, navigating the business environment as an entrepreneur in a traditional operating climate has been challenging, yet extremely rewarding. Among existing and prospective clients, the most common question has been three-pronged:
  1. What types of deals can be executed down there?
  2. Is any financing available? (And if so, what can be secured?)
  3. What are operating fundamentals like?
These are relatively standard underwriting/due diligence questions when looking at any type of opportunity, but I’ve found the business dynamics in Argentina to be not terribly different than other, more attractive markets in Latin America (e.g., São Paulo/Rio de Janeiro, Lima, Bogotá and Santiago de Chile). While institutional capital is still only trickling into Colombia, Perú and Brazil despite incredible pent-up demand and long-term outlooks, Argentina has been fighting to gain traction in the international community since it defaulted on nearly USD $100 billion of sovereign debt in 2001, and has seen high net outflows over the past 18-plus months as government intervention has alarmed investors.

The public capital markets have all been closed for available credit; only the International Monetary Fund has continued funding the country for very specific needs, and Argentina has never defaulted on this credit facility. For investors unaccustomed to all-equity deals, this is — more or less — the norm for real estate transactions in Argentina, and hotels are certainly no different.

Since the default, the brick-and-mortar nature of real estate investments has been extremely attractive to Argentine nationals who stopped trusting the central banking system (and its administration) once their pensions, retirement savings and checking accounts were all swept into a governmental account to help repay the defaulted/renegotiated sovereign debt.

With small individual investment units, the hotel market turned to its long-time financial engineering friend, the condo/apart-hotel. For many U.S.-based investors who got caught up on this wave of deal structures in the late 1990s and early 2000s, this option can be rampant with clauses that confuse investors, provide too much control to the operating company and reward the developers with incredibly disproportionate returns. However, not all condo/apart-hotel regimes are destined for failure — they just seem a little “fishy” when looking at the benefits of ownership. In order to peel back the layers of the contractual obligations, investors must be prudent in understanding operating fundamentals in the market and have the utmost confidence in the development/management team being put in place. Condo/apart-hotel transactions in Latin America are not for the faint of heart, and their investment returns profiles should be scrutinized.

Unlike U.S. regulations, securities laws in Argentina do not preclude developers from “promising” certain rates of return based on rate and occupancy figures, which requires the risk analysis and due diligence to be undertaken in a different manner — what is “guaranteed,” and how can that investment be protected with maximum mitigation? While the benefits quoted for ownership do not differ from the majority of those cited in the United States (e.g., X number of days of usage/year, owner notification, Y number of months in advance, Z discounts at the facilities, referral bonuses for direct reservations, etc.), the investors in the Argentine projects rarely take advantage of the benefits they are entitled to use as an owner of an individual unit.

Whereas institutional investors are typically demanding of an 18% IRR for their investment dollars, a commonly cited range of returns for Argentine projects is between 8% and 12%. This figure may seem exceptionally low for a full-service hotel, and even lower for a select-service property, but given the alternatives available to Argentine nationals without access to the outside world of global capital markets, these returns are both attractive and highly sought-after.

With shoeboxes full of cash — literally — residents seeking alternative investment options are increasingly looking to the condo/apart-hotel model to park their money for returns that beat the local stock market indices and provide a legal title to unit that spins off some annual cash and provides an opportunity to hook up with the investment in the form of usage.

In my three-plus years in Argentina, only a handful of larger-scale hotel projects have been kicked off, and while there may have been some institutional capital behind the projects’ origination, each have filled investment demand with individual unit sales and/or bulk sales to local investors. This pattern is not dissimilar to transactions being realized throughout the region, so understanding the local “flavor” for investment appetite is crucial to launching a successful project with the right capitalization.  

Increased competition from vacation rental agencies, internationally branded management companies and savvy investors will surely continue, changing the scope of transaction execution and — with hope — unveiling the shroud of non-transparent fundamentals in a region that is ripe for growth and full of opportunity.