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Are we at a turning point in the industry?

Are we at a turning point in the industry?

Our hotel lawyers were at The Lodging Conference in Phoenix last week, taking the measure of the hotel industry. It was pretty interesting. Some said August was a “turning point,” and they were not referring to a good thing.
While many people at the Lodging Conference said recent market volatility had no impact on them, their transactions or their deals, this was clearly not the case for all. A widely held view was that it seems like someone hit the “PAUSE” button on hotel finance and purchase-sale transactions. Some fear a “reset” button may also have been tripped. The global market turmoil of the past 30 to 60 days triggered by the inability of our politicians to resolve deep U.S. budget issues, along with questions about political resolve by European governments to deal with their own problems, continue to raise major issues. And there are all the usual specters of big increases in taxes, continued high unemployment, sagging consumer confidence, rising labor costs, rampant inflation to deal with US$14 trillion of debt, operating costs rising faster than RevPAR as well as war, plague and pestilence.

So here are some insights from industry leaders and vignettes JMBM’s hotel lawyers gathered at the Phoenix Lodging Conference. 

Insights

“I am having a hard time being negative. Our worst-case scenario based on a 25% chance of a recession will still show RevPAR growth at a 2.4% increase, which is long-term RevPAR growth average. Positive RevPAR growth is still positive.” – Mark Woodworth, president, PKF Hospitality Research

“The fundamentals of the industry are holding up well. On the transaction side, the first part of the year was very active. We were even doing feasibility studies on new hotels. All markets will be capped out next year. But we saw a definite slowdown in late July and August. Things have slowed way down in the last 45 days. A lot of people are saying, ‘The fundamentals are good, let’s keep moving.’” – Bruce Baltin, senior vice president, PKF Consulting USA

“Declining numbers create uncertainty on how to underwrite a deal. We were bidding to buy a property, but our bid was 8% lower than the highest bidder. The seller went with the highest bid, which needed financing. Sixty days later, the high bid could not get debt. The seller came back to us, but by then our REIT partner was gone, and we could not do the deal we could have done 60 days earlier. Everything is taking longer. Everything we have done is all cash. No debt. 2010 was a great year. This will be a good year — a little bit off last year. We think next year will be great. Maybe this has made sellers more realistic with the REITs on the sidelines. We think this is an opportunity for guys like us to be competitive without losing to the REITs every time.” – Thomas Geshay, senior vice president, Davidson Hotels & Resorts

“We don’t think over the next five years the economy will shrink. Buy the right asset. Position and capitalize it correctly, and you will be okay. A lot of hotels need capital. There has been a standoff on the needed PIPs. The cost of debt is attractive.” – James Merkel, president and CEO, RockBridge Capital LLC

“We are trying to push rates, but in the last 30 days, that has not been achievable. There is a market reset going on like in 2008. We thought to be in the middle of a very strong recovery off a low bottom, but this [development of the last 60 days] changes everything.” – Bernard Siegel, principal, KSL Capital Partners LLC

Vignettes

Here are some “vignettes” or stories recounted:

  • An established hotel owner had a deal to buy a major urban hotel property and financing was in place, but it was pulled at the last minute because the lender’s economist decided that the market was too volatile. The buyer only needed 50% LTV on the purchase (with a nice repositioning value-add play), but could not find any financing at better than 30% LTV. Volatile, unsettled markets killed the deal.
  • An established owner-operator has started seeing group business cancellations. In one case the cancellation fee is greater than what it would have cost if the group went forward with the meeting, but the customer felt holding the event would send the wrong message. But Tom Naughton, managing director and principal of Clearview Hotel Capital LLC, is not seeing the same cancellations as in fall 2008. Destination group markets with incentive business, product launches and the like — these are still intimidating markets. It is too early to tell on the group side.
  • A bank lender in the hospitality industry started pulling back on lending, pulling term sheets and backing away from deals. August was the “turning point.”
  • One of the major brands’ reported it has seen some deals falling out of bed in the last few weeks. The brand says that groups with capital will be the winners in this environment.
Notable quotables

“We have been active on the acquisition front and will continue to do so. I just returned from China, where we are working on another 10 to 20 hotels. The last 30 days has not had much of an impact on us. We are working on bringing our parent company REIT over to the U.S. to acquire assets over the next 12 to 18 months.” – Gregory Mount, president, Richfield Hospitality Inc. 

“Half of our business is distressed hotels. We are hiring a lot of people. We have 41 new hotels coming in between now and the end of the year.” – Stephen Van, president and CEO, Prism Hotels & Resorts

“How you are doing is market-by-market. For example, Hawaii was great in the first quarter of 2011 but not good after the tsunami hit in Japan. We have not seen cancellations yet and are optimistic about next year.” – Jack Levy, SVP finance, Pyramid Hotel Group

“We have not seen any impact from the recent market turmoil. But maybe this has leveled out the playing field for opportunities. And it is causing us to focus on what has to be delivered to our shareholders and owners by end of the year.” – Kevin Mahoney, COO, Stonebridge Companies

“The challenge in the last 30 to 90 days is finding financing, even 50% financing. The biggest challenge we all face is if and when the financing market comes back. This creates an opportunity for private funds with a lots of cash available.” – Paul Novak, president, Bedrock Partners

“Recently, it seems like our main business has been selling assets for lenders. The properties sold range from a 325-room full-service hotel to closed Days Inns. Buyer confidence has sagged in the past few weeks. They are all taking a second look at their underwriting. Banks are even more loath to carry back debt. There has been a pause in the market for 60 to 90 days.” – Samuel Winterbottom, SVP and director, Hospitality Practice Group

“If you are planning corporate events, you may think more about laying people off than sending 1,000 people to a seminar, or you may decide to push off the meeting from February to October.” – Jonathan Falik, Cantor Fitzgerald

What does it all mean?

The lack of confidence in the economy and roiling of the markets is having a significant impact on some, perhaps many. Where we go from here depends on how you see the next few months unfolding.

The fundamentals for the hotel industry are good! They are improving. The stage is set for continued improvement in ADR and profit margins. But some are having trouble in pushing rate while others are not.

Will our Congress resolve the postponed budget crisis, or will the United States take another hit to its credit rating? And how about Europe? What will happen with Greece, Italy, Spain and Portugal? Will the euro survive? Can slowing economies in the United States and Europe avoid slipping back into a global recession?

Will the political mess, volatile markets and business uncertainties keep leisure travelers home and lead businesses to curtail travel? Or will the bifurcated economy continue to see the employed continue to travel and businesses proceed to book hotel rooms on pent-up demand?

The next few weeks should tell us a lot. There is either a more level playing field and great opportunities for those with cash, or some very uncertain times ahead. Maybe a three- to five-year investment horizon solves those uncertainties. Or maybe it doesn’t.

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