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Balance Sheet Stress Expected To Drive US Hotel Deals in Latter Half of 2024

Investors Adjust to Higher Interest Rates
The 705-room Arizona Biltmore, LXR Hotels & Resorts, sold for $705 million in May, making it the most expensive individual hotel deal in the U.S. during the first half of the year. (CoStar)
The 705-room Arizona Biltmore, LXR Hotels & Resorts, sold for $705 million in May, making it the most expensive individual hotel deal in the U.S. during the first half of the year. (CoStar)
Hotel News Now
July 23, 2024 | 1:10 P.M.

After a slower deals environment in 2023, hoteliers hoped 2024 would pick up the pace.

And it did, technically. It just took a little longer than they hoped.

In a review of individual hotel deals valued at over $10 million in the first two quarters, LW Hospitality Advisors found the deals environment was weaker in first quarter compared to the same period of 2023. The second quarter, however, saw notable improvement, both compared to the first quarter of 2024 as well as the second quarter of 2023.

The survey of first-quarter deals recorded 66 single-asset sales over $10 million, totaling almost $2.5 billion and approximately 10,700 rooms. The average sales price per key was $230,000. In a year-over-year comparison, the number of deals dropped by 20% while total dollar volume fell 30% and price per key decreased by 18%.

The second-quarter survey found 90 individual hotel deals, totaling more than $4 billion with about 14,350 keys. This represented a 7% increase in the number of deals as well as a 29% increase in total dollar volume. Price per key grew by about 9%.

“I think it's been a little slower than I and many others anticipated,” said Daniel Lesser, president and CEO of LW Hospitality Advisors. “With that said, I think the back half is going to be very robust.”

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7 Min Read
June 25, 2024 09:10 AM
Hotel portfolio sales have been steady in the first six months of the year, but investors have seen little distress.
Terence Baker
Terence Baker

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Picking Up the Pace

Hotel deals pace in the first half of the year was slow, said Eric Guerrero, senior managing director and partner at HVS's brokerage and advisory firm. Finance company MSCI found that total U.S. hotel transaction activity was down 32% through May compared to the same period in 2023, he said. HVS’ pipeline was down a little more than that.

“By end of the year, I would estimate the total deal volume for 2024 to be down 20% to 25% compared to 2023,” Guerrero said.

Even though the first half was pacing slower in terms of hotel transactions, there was a shift that started in the second quarter, he said. It may be that buyers and sellers have realized the current interest rates are here to stay and the Federal Reserve is unlikely to do multiple rate cuts this year as previously expected.

“Maybe we get lucky and we get one in September toward the end of the year, but even if we do, it’s not going to change anything,” Guerrero said. “The interest rates are going to go down by a quarter point. That’s not going to all of a sudden make a deal make economic sense from a return standpoint.”

Buyers have a mindset that while they have higher interest rates, they could potentially buy a hotel that has a lower price point than it was two years ago, Guerrero said.

For the sub-$25 million deals he works on, Guerrero said his team have noticed it’s the cash-rich, liquid private clients or high-net-worth individuals who are making deals. They’re making larger down payments or paying all-cash for their deals.

“It’s those type of buyers that can maybe get a little bit of a better interest rate or debt package than maybe a first-time buyer or a weaker buyer,” he said. “We’re seeing a lot of those players coming to the market and be very active right now.”

The big, public companies that have done deals, such as Host Hotels & Resorts, have been making some of the higher-end deals and will make the transaction market more fluid this year because they can buy all-cash, Guerrero said. Some of the private-equity buyers can do the same.

New data from JLL Research shows a bifurcation of investment in hotels during the first half of the year. Select-service and extended-stay hotels saw a 10% year-over-year increase in demand among investors, reaching 57% of single-asset liquidity among the segments. JLL attributes this to the appeal of smaller deals and strong performance by these hotel types.

Luxury hotels maintained their share at 23% during the first half of the year while full-service and non-luxury hotels dropped to 20% share from 30% in 2023.

“The strong operating performance and a growing base of high-net-worth travelers are driving the demand for marquee luxury hotels, especially those located in high-growth markets and urban centers,” according to its report.

JLL predicts the bifurcation of the luxury segment and select-service and extended-stay segments will remain through the year, especially in core urban markets.

A Promising Second Half

The hotel industry will run into a lot of debt maturities in the second half of 2024, said Anne Lloyd-Jones, director of consulting and valuation services at HVS. That creates a lot of incentive for some owners to sell. The other half of the equation is all the money still sitting on the sidelines, because like any other resource, money needs to be put to work.

“If it’s sitting in your bank account, even if it’s earning 4% or whatever, that’s not the reason that the cash was assembled,” she said.

As part of his prediction of higher transaction activity in the second half of 2024, Lesser said that includes sales as well as restructuring and fresh equity coming in.

"There's clearly a wall of debt maturities that are coming down the pike," he said. "That does not necessarily mean that every deal is going to result in an outright sale. It could just be a workout or fresh capital coming in."

There are a lot of situations where deals are upside down for whatever reason, Lesser said. Sponsors will recognize that it's time to move on and execute.

"There is a bit of distress out there, and the rubber is going to meet the road where those deals that are under stress," he said. "The sponsors are just going to cave in and say, 'OK, we're done,' and just move on."

While owners with stressed balance sheets may be more inclined to discount their property’s valuation, the amount of competition could reduce how much owners discount, Lloyd-Jones said. Going back to the savings and loans collapse and the Resolution Trust Corp., each time there’s distress in the industry and discounted valuations, there’s a greater amount of competition for deals.

“If you can make good money on a 60% discount, you can still make good money on a 50% discount, and so on and so forth,” she said. “That gap has narrowed.”

The pandemic taught some interesting lessons about the structure of deals, she said. While people recognize the pandemic as a once-in-a-lifetime event, it will have a longer-term impact on deals involving ground leases or those with fixed or relatively fixed and non-controllable expense. Those types of deals will continue to be impaired by their circumstances, and as less desirable properties, there will be less competition for them.

“Therefore, there are going to continue to be the bigger discounts,” she said. “That probably also applies to older deals, deals that maybe have some franchise noise around them, some major [property improvement plan] noise around them — stuff that really can affect the capital stack in a way that is going to limit your flexibility.”

Hotels are now a main food group for investors, something that was previously unheard of, Lesser said. There's a lot of volatility involved along with high fixed costs and high labor costs, but hotels can lease rooms every day with the ability to quickly adjust prices and introduce other revenue streams through food and beverage, recreation, among others.

The transparency through available data about hotel and market performance makes this industry favorable compared to other asset classes, he said. Investors will continue to want to play in the hotel space.

"There are a lot of segments that are out of favor, and yet there's all this money that needs to be deployed," he said. "So barring any black swan event, I do see that continuing. If there's a black swan event, that's going to affect everything negatively, not just hospitality."

An Owner’s Perspective

Peachtree Group, an Atlanta-based hotel ownership, management and lending company, has so far this year acquired three hotels, said Brian Waldman, chief investment officer. It has an additional two hotels in which it is non-refundable on and another three that are under agreement with some details to work out before reaching the closing table. On the sell side, Peachtree has sold three hotels in 2024 with several others on the market.

The deals environment overall in the first half of the year has been slow, he said. There have been more hotels going out to market, but there have been a lot of retreads and many that don’t make sense in terms of what’s widely marketed.

“At a higher level, I still think that there’s a bid-ask spread in the market, and it’s very situational,” he said. “On the buy side, you have to have the right opportunity with the right group, and they have the right pressure and they need to transact, but I wouldn’t say the market is fully functional today.”

In the deals market, there are hotel-haves and hotel-have-nots, Waldman said. If a seller puts a hotel out that’s in good condition and checks certain boxes, there will be a lot of interest in it. For a hotel that is less desirable, there will be less competition for it. People may still look at it, and there may be some movement toward a deal, but there are a lot of groups not making it to the finish line or they’re punitive in their pricing.

Buyers fall into a lot of different buckets, and each one has its own motivation, he said. It’s important to find groups that truly see the value of a hotel and that they’re willing to pay a fair price for it, creating a win for both buyer and seller.

“I think you have a lot of tire kickers out there today, and that's somewhat a waste of time,” he said. “That's just noise. It’s really important to work with groups that are well capitalized and control their capital. They're ready, willing and able to transact and have the wherewithal to get a deal done in this market.”

Looking at the hotel market as a seller, it’s been hit or miss in trying to find the right buyers, Waldman said. There’s still a lot of dry powder out there, and one of Peachtree’s hotels on the market received a great deal of attention when it put out a call for offers.

That said, not everyone is ready to commit to a deal, he said.

“I think people have money and they’re bored, so they’re looking, but we’re not seeing overwhelming pricing response,” he said, adding that Peachtree has seen significant spreads on the bid sheets between the high and low offers. “It’s finding the right group that wants that asset and they’re willing to pay a fair price as opposed to looking to float in the water.”

As a buyer, Peachtree is looking for quality hotels that support its strategy, Waldman said. It’s an “extremely opportunistic buyer,” and all investments need to be made on a risk-adjusted basis, not just straight price or on a cap-rate basis.

“We’ve bought core-plus deals, and we’ve also bought opportunities that fall into the category of where you had a motivated seller because of an impending PIP or debt maturity,” he said.

As Peachtree looks to the second half of the year, the company will continue to be a strategic buyer, Waldman said. In a typical year, it would set a goal of how many hotels it wants to buy, but it didn’t this year. Instead, it’s looking for opportunities. The lending side of Peachtree has been much more active as it is a stronger trade today on a risk-adjusted basis.

Still, Waldman said it's likely the company will pick up another two to four hotels this year, and each will be based on their own specific opportunities.

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