ATLANTA — Hotel owners, investors and developers who are active in the capital markets now are being tasked with finding a balance with hotel valuations.
As revenue per available room continues to grow dramatically as a result of average daily rate, the common perception is that hotel values should also increase, said Stephany Chen, executive vice president, global hotel desk, at JLL Hotels & Hospitality, during an acquisitions and development panel at the 2023 Americas Lodging Investment Summit Summer Update.
“Unfortunately, given where interest rates are today, this has hindered a lot of buyers. From a buyer’s perspective, they’ve got to be a bit more conservative as it relates to how [they] value hotels,” Chen said. “The No. 1 thing that we say is, ‘It’s a challenging market and it’s actually very hard to gauge what the market value is.' At the end of the day, cap rates are a lot higher relative to ... historical norms. Prices per key have come down as a result of the choppiness in the debt market.”
Chen describes hotel valuations as “a balancing game” when advising owners on what path to take.
“You have to try to balance the economics of what the value really should be versus the levered IRR [internal rate of return], the interest rates and how investors are really classifying these value metrics ... what they're capping [cap rates] at given the cost of debt," she added.
John Harper, senior vice president at CBRE Hotels, said there's been a dramatic change in the capital markets over the past 12 to 18 months, largely due to the increase in interest rates.
He said many people forget that when looking at the trailing 12 months through May 2023, "you've got RevPAR up across the U.S. 15-plus percent, you've got [earnings before interest, taxes, depreciation and amortization] up across the U.S. somewhere in the mid-20s percent," he said.
If someone bought a hotel at this time in 2022 at an 8% cap rate, "you would be having north of 10% unlevered return," Harper said.
The growth in net operating income has more than offset that challenge on the capital markets side, he said.
Miraj Patel, vice chairman of the Asian American Hotel Owners Association and president of Wayside Investment Group, said there's not much inventory on the market, which has led to significantly higher prices for hotels.
Over the past two years, nearly everyone has been waiting on discounts, Patel said.
"We as an owner, we're not seeing the discounts that we thought we would," he said. "If you look at the recent sales, [hotels] are selling at premium pricing. A lot of it has to do with the fact that, yes, rates and ADR have gone up, but again going back to inventory ... there's not much flexibility on the sellers' [side]."
Patel added that buyers are cautious because of the lack of financing.
"If there's not flexibility to bridge that gap, I think pricing of hotels is going to continue to stay at a premium," he added.
Chen said the southeast U.S. continues to be highly competitive in pricing hotels on the market.
"However, if you look at New York City, as an example, there were outlier transactions that closed earlier this year ... that's not the norm. On average in these urban markets, pricing is down on a price-per-key standpoint. It's a balance between which markets you're honing in on and also the property type ... luxury, upper-upscale, select-service — that also has an impact," she added.
Julienne Smith, chief development officer for the Americas at IHG Hotels & Resorts, said the opportunities to drive margins for franchise developers is through the deal economics.
"Whether it's the fee structure, the cash incentive ... we try to fill the gap. But if all of these metrics are out of whack, so to speak, there are some deals where we just can't fill that gap," she said. "When you look at our pipeline, what we're signing today in aggregate across all 18 of our brands, it's primarily conversions."
And the number of signings for conversions and repositioning continues to increase, Smith said.
On the luxury side, such as with IHG's Six Senses brand, deals are largely getting penciled with a residential component.
"There are different ways to get the traditional hotel deal done," Smith said.
Patel said the key is engaging in creative financing. Having a good track record can further help the case of owners and developers, he added.
"If you have a good track record, working with those conventional lenders is still there. I feel like there's financing out there; it's just you have to work a little bit harder to get it and it's a little bit more expensive now," he said. "About a year and a half ago, we would think a 7.5% interest rate is crazy. In today's market, if somebody were to offer 7.5%, we'd think that's a good deal."
Patel said many of the conventional lenders he works with are sticking with floating exchange rates instead of fixed because they're predicting that rates will come down.
For conversions, Patel said he concentrates on two things: cost of savings and cost of time.
With the supply chain being a critical component, Patel said his company is shifting gears and paying more for goods manufactured in the U.S. to save time.
Purchasing in the U.S. has resulted in goods being delivered in seven to eight weeks, versus 18 to 19 weeks if purchased outside the country.
Two years ago, Wayside opened its own construction company to also save on costs with repositioning and new construction.
"With the labor shortage, when you have multiple crews, you want to make sure you get [the hotel] done quicker," he added.
International Investors
Despite challenging capital markets in the U.S., there's still interest from international investors, Chen said. However, the level of activity from international investors is not where she had expected it to be once China opened its borders in early 2023.
"There was an expectation that there would be an influx of global capital back into the U.S. We have not seen that. Year-to-date 2023 ... of total transaction volume, only 5% has been cross-border capital. If you look historically, it's averaged in the high teens," she said. "The reason for that is geopolitical concerns, but also there's more opportunities globally they are focused on."
Chen said global investors are eyeing Europe and the Asia-Pacific, specifically Japan. Within the U.S., international investors have been interested in New York City and the luxury sector.
"It's very strategic in nature, and it really depends on the type of opportunity. Everyone is looking for a deal right now, international investors included," she said. "They're seeing headlines, they're seeing what's happening, so they're expecting that there should be a huge discount, but it's not there."