Though financial seas are a bit choppy right now, the hospitality industry remains an attractive investment vehicle, especially with respect to several of its commercial real estate peers. As long as there is reasonable liquidity of capital, we expect to see increased hotel transaction activity as the year progresses.
The two key driving forces are both long-familiar industry dynamics:
- Loans coming due. There is a significant amount of hotel debt that is maturing over the next two years. In fact, about $15 billion in hotel CMBS loans alone are coming due in the next two years, according to a CoStar report earlier this year.
- PIPs. Even if their loans aren’t reaching maturity, there are a slew of properties now facing impending property improvement plans or other capital needs. It’s a doubled-edged sword: Many properties survived the pandemic by raiding formal CapEx and FF&E reserves to help keep loans solvent with lenders, thereby with the cooperation of the brands, thereby eluding scheduled property improvement plans (with the blessing of the brands). In some cases, capital improvements were restricted to emergency situations like a leaky roof or un-repairable heating plant. Now, in many cases, PIPs can no longer be deferred and major brands are anxious to resume the regular schedule of property improvements that help keep properties competitive in given market. At the same time, supply chain constraints and construction costs, along with availability of skilled labor, in many cases favor “buy and upgrade” over new construction. Thus, distilling the post-pandemic marketplace, the greatest opportunity is either through refinancing an existing loan or through the recapitalization and subsequent renovation or repositioning of a buy-sell transaction. Either way, the debt markets hold the keys to both executions.
Enter the inflation-breathing dragon.
Fortunately, even in a volatile debt market, we find that there is abundant capital attracted to hospitality. The office segment is in disarray and we seem to still be working toward a full or near-full rebuild of major city centers and larger group business travel, although our own hospitality conferences seem to be making a strong comeback. The battle of wills also seems to be continuing with work at home for those fortunate enough to do so. The office will remain, but, clearly, in an abridged form.
Meanwhile, multifamily returns have diminished; industrial, strong in the pandemic’s earlier days as warehouses and distribution centers blossomed, has slowed down; and retail continues to languish in a way that hospitality hasn’t.
In addition, we continue to see the welcome trend of first-time hotel investors, including family offices and investors, moving over from more statically priced real estate asset classes with a large proportion coming from multifamily housing.
Thus, overall, hospitality is once again proving itself as an inflation hedge, given that magical ability for the operating side of the investment to reset rates on a daily basis. And, so far, leisure and business guests have been tolerant of rate growth, though that remains to be seen if interest rates and other consumer costs continue to rise steeply.
As a side note, while we bemoan domestic inflation, the Fed’s action on interest rates means that the dollar is performing quite well globally.
But hoteliers are no more immune from inflation than their guests. One result is that hotels with inflationary pressures on operating expenses will have a harder time maintaining favorable debt service ratios.
The question remains: Who will be the first to break through the transaction log jam? Sellers as they soften their pricing expectations or lenders as they tighten spreads and get creative on structuring loans? The answer is coming soon.
Story contributed by Andrew Broad, managing director at RobertDouglas.
