UNITED STATES For the sixth consecutive quarter, year-over-year selling prices have accelerated for U.S. hotels.
According to Lodging Econometrics, 110 U.S. hotels across all chain scales reported a selling price in the first quarter, with the overall average selling price reaching a record high of US$125,946 per key. This is a 30% increase from the first quarter of 2010, when hotels traded for US$97,084 per key and a 14% increase over the 2010 year-end average of US$110,827.
Nearly half all transactions (47%) were in the top 25 markets—the highest percentage on record. About 37% were in the upscale and higher chain scales. Larger hotels—those with at least 200 guestrooms—accounted for 19% of the total and sold at a cyclical high average of US$181,680 per key.
REITs accounted for 54% of the first quarter hotel spending, followed by private equity funds, at 32%. Private equity was also the biggest group of sellers during the quarter.
Competition in the top markets for large luxury and upscale hotels, both full- and select-service, is fierce. For institutional investors, the cost of debt is at a record low. REITs in particular have comparatively low yield requirements. Coupled with their ability to pay up front for some future performance, REITs have quickly pushed cap rates to pre-recession lows.
However, overall selling prices continue to be unnaturally inflated due to an abnormally small number of sales in the lower chain scales, where operations have not yet recovered sufficiently to be a driver of valuations and where Main Street financing is still restrained.
The current lift in valuations can largely be attributed to lower cap rates derived from record low interest rates on debt and lower equity yield requirements. Nonetheless, from a buyer’s perspective, this is the time in the cycle where attractively priced hotels with little downside risk are generally available, but where most of the lodging recovery and operating upside has yet to be realized.
Paradoxically, for current ownership groups, it can also be a great time to be a seller of larger, well-located hotels in top markets, if their financial situation permits. A sale today in a rather fluid market replete with qualified buyers is often the best strategy to sidestep complex ownership issues. For some owners, it can amount to a once-in-a-cycle opportunity that cannot be missed.
There is another reason why owners of larger, well-located properties might consider selling. If they continue to hold their assets, the anticipated valuation lift, derived from improvements in operating performance, might be somewhat mitigated by higher cap rates caused by rising lending rates and equity yield requirements, as market conditions are expected to change further downstream. This could be particularly true for REITs, as shareholders will likely make demands to increase dividends in the future.