Hotels, like homeowners behind on payments
Like many home owners, hotels are starting to drown in debt.
They have been enticing travelers all year with sweet deals: credits for in-house spas and restaurants, up to 50 percent off five-star rooms, even free nights.
But all that discounting hasn’t stopped occupancy from dropping an average of 10 percent. The result? Hotel loans have begun falling into delinquency faster than any other kind of commercial real estate debt.
The rising defaults paint a grim picture for an industry with increasingly more rooms than guests, and more hotels still opening every day. It’s a problem that could get worse before it gets better, with demand expected to remain weak and ambitious new projects planned before the meltdown worsening the room glut.
The oversupply means room rates should stay low for at least another year, good news for consumers but not so great for hotel owners and the banks that lent them the cash to build or buy.
The rise in delinquencies is sharp. Five times more hotel loans are behind on payments this year than in 2008, according to mortgage data firm Trepp LLC, which tracks those traded by investors. In October, 8.7 percent were distressed, compared with 1.5 percent last year.
That’s almost double the 4.8 percent rate for commercial property and the 4.5 percent rate for stores.
“Right now is an absolutely horrible time to be in the hotel business,” said Ben Thypin, senior market analyst for market research firm Real Capital Analytics.
What happens when a hotel loan goes bad? Banks are much less willing to seize them than houses because running a hotel requires know-how. But some hotel owners are just handing back the keys where property values have plummeted.
In most cases, it is investment funds falling behind on payments, not major hotel companies. They generally don’t own much property, instead franchising brands and earning a percentage of sales.
Most of the 1,231 U.S. hotels and casinos with troubled financing are remaining open. So, in the short term at least, consumers can expect to see deals on room rates for at least another year. Executives at STR Global, the hotel research firm, expect demand to rise 1.6 percent in 2010, but average rates to drop 3.4 percent.
Not in the 20 years the firm has collected hotel data has supply and demand been so far apart — not even in the early 1990s recession or after Sept. 11, 2001.
In July, even the posh California resort where American International Group employees vacationed after the company got bailout funds — inciting a wave of populist rancor — was taken over by a lender. Franchisor Starwood Hotels & Resorts Worldwide Inc. is still operating the St. Regis Monarch Beach, but such upscale resorts are still struggling without Wall Street business.
Extended Stay Hotels LLC filed for Chapter 11 bankruptcy protection in June, with $7.6 billion in debt across 681 residence hotels that also depend on business travelers. And Red Roof Inn Inc. defaulted in June on $361.4 million in loans on 131 properties.
Most of the distressed debt is on new or newly renovated high-end resorts built from 2005 to 2007 on dreams of corporate meetings and cocktail hours. Luxury projects approved before the recession are still opening this year and in 2010 — including three Ritz-Carltons.
And even more new hotels are on the way. Because outside investors have to secure the loans and take the biggest risk, hotel chains intend to keep growing — even at the high end.
Starwood is adding 45 luxury and upscale hotels to its U.S. portfolio this year, and about 23 in 2010. InterContinental Hotels and Resorts is signing a contract every day to add to its more than 4,300 properties, the world’s largest by room count, said Jim Abrahamson, the British company’s leader in the Americas. This year, 335 of the company’s new hotels are in the U.S.
Starwood CEO Frits van Paasschen brushes off critics, saying “rumors of luxury’s demise are greatly exaggerated.”
“As you look back on the excesses of the 1980s, ‘The Bonfire of the Vanities,’ the run-up in prosperity around the Internet boom — even going to Pompeii and seeing the way people were being pampered 2,000 years ago,” he said. “I think luxury, taking care of yourself, taking care of your family and those around you is so fundamental to the human experience.”
Source: MSNBC.com
Are you versed in hotel/motel financing?
The easiest way to begin financing hotels or motels is to get a copy of a lodging-industry research report, such as the Smith Travel Research report, on your particular hotel or motel. Within the hospitality industry, each property has its own code and corresponding report. In these reports, there are three primary items that lenders will want to know about:
Present and historical occupancy;
Average daily rate, which is the room revenue divided by rooms sold;
Revenue per available room (RevPAR), which is the room revenue divided by the rooms available. (Occupancy multiplied by average room rate will also closely approximate RevPAR.)
In addition to these numbers, detailed historical operating statements (usually for a minimum of three prior years) are needed to determine the cash-flow capability of the property.
Beware of occupancy changes
Sometimes a significant change in occupancy levels may send the wrong message. Events such as natural disasters can provide temporarily higher occupancy levels for hotels in a region.
Recently, the aftermath of Hurricane Katrina impacted the industry with soaring occupancy rates in the affected area’s neighboring regions. Some hospitality properties throughout the region showed changes in occupancy by more than 50 percent.
Although it was common knowledge that these subsidized-housing situations were temporary, the numbers still had to be adjusted with the understanding that many of these properties would return to their prehurricane occupancy levels in the near future. For inexperienced buyers and brokers, explaining the numbers and trying to predict occupancy levels after things have leveled out can create a significant hurdle.
Major changes in occupancy levels should be explainable. Regardless of the unique event — whether it is a natural disaster, a change in management or simply an upgrade in rooms — it is important for financing that the occupancy be stabilized at a reasonable level.
Beware the questionable RevPAR
In the industry Report, does the RevPAR fall closely within or above industry standards? If the RevPAR is clearly higher, there is either an arbitrage opportunity or something is just plain wrong.
Most often, if it seems too good to be true, it is. Many things can contribute to an inflated RevPAR, including overflow from conventions or unique disturbances like a sudden reduction in local capacity. Other similar one-time events can create a distortion in the numbers. Don’t be fooled. Should you see anything unusual, get the facts by talking to your borrower.
Be patient
The true value of hospitality properties can be affected by certain qualities that many brokers may not recognize simply by reviewing the financials. For example, occupancy and utility levels can be influenced by quality, upkeep and maintenance. Or the hotel’s ranking can be affected by traffic count or proximity to certain property types.
In general, hospitality properties are considered high-risk, high-reward investments. Hotels have high operating costs, economic sensitivity, and are management-, market- and capital-intensive. A meaningful valuation involves a combination of strong valuation fundamentals, detailed operational knowledge and access to local competitive trends.
Beyond that, the nuances between the flag value of two hotel chains that seem similar is valuable for the underwriter, particularly when forecasting RevPAR. Discussions about the local market can be best handled by the experts.
Be diligent and focused
As always, be smart and get the details upfront on the deal so everyone can manage expectations. It is dangerous to become overconfident about the deal and to start spending your commission before the deal closes. Too many brokers just see the dollar signs, and subsequently, the deal dies because of greed, apathy or both. But at the end of the day, it’s about how quickly you can move to the closing table.
