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Mit Shah, Noble Investment Group: interview transcript
March 25 2010

Interview subject: Mit Shah, CEO, Noble Investment Group
Interviewer: Jeff Higley, editorial director,
Interview site: Marriott Marquis Atlanta during the 22nd annual Hunter Hotel Investment Conference
Interview date: Thursday, 18 March, 2010

Jeff Higley: “Hi, Jeff Higley with Hotel News We’re at the Hunter Hotel Investment Conference in Atlanta. I’m sitting with Mit Shah, the CEO of Noble Investment Group, also based in Atlanta. Mit, thanks for taking the time to talk.”

Mit Shah: “Always a pleasure.”

Higley: “Mit, what’s your take on the current state of the hotel industry?”

Shah: “The last two weeks have been interesting to watch. You’ve seen, for the first time in quite a while, positive RevPAR growth year over year. As we all know, the comps from last year were absolutely horrible. I think the signs of positive RevPAR growth (are) inspiring a little bit. It’s going to take quite a while to get back to where we were in 2007, but at least for the very first time we’re starting to see some demand increasing; in turn, occupancy is moving up. Our rate decreases year over year were quite a bit less this week than last week.

“We always talk about things like ‘Is this a blip, or is it a trend?’ The more you string along weeks where you have some positive RevPAR growth, it starts becoming more of a trend. I don’t think that should be surprising because you’ve got business leaders getting on planes, getting in their cars, and they’re going out and seeing both existing and prospective customers, looking to generate business to start moving forward. You’re seeing a little bit less of those companies taking 50 people out for a group meeting. But those things will take place as there’s more momentum building in terms of driving revenue. As we sit here today, I think you can say that we’re more optimistic than we were 30 days ago. Certainly more optimistic than 60 or 90 days ago. I think that is healthy for us as an industry and as people trying to run a business.”

Higley: “Certainly, optimism is a good thing. Optimism tends to breed optimism. Given that, two weeks does not a trend make. But as the CEO of a hotel company, does that filter down to your employees? Does everybody in your company and at your hotels understand it has to start somewhere, and this may be the start?”

Shah: “I think that’s the case in any cycle, in any business. I think the Federal Open Market Committee not moving rates was a very good indication. When you look at jobless rates and maintaining the unemployment level, while it’s not a good number—much like the current RevPAR isn’t a good number—at least it’s not continuously moving up at an aggregate. Those are things that we pay attention to. These are all catalysts or detractors from the overall business environment.”

Higley: “In your estimation, what is the one thing that you’ll look for to know when a recovery truly has begun?”

Shah: “I think the question is ‘Are we able to have a jobless recovery, a sustained jobless recovery?’ In most economic time periods, you’ve needed to have job creation and job growth to really have a sustainable recovery where you have periods of economic boom. I’m worried about job recovery, and it’s a worry that is shared by many. When do we actually start increasing jobs … not the minimum jobs needed to keep unemployment the way it is right now … but really start adding jobs? That’s a fundamental concern. The other part of it is, as a nation we’ve taken on a great amount of debt. There is a real need for us to be more fiscally responsible. That’s the long-term effect. That’s where we have something like five to nine years of strong economic growth where we can start moving back up.

“As I look back to our industry, almost all of those who pay attention to the data really look at the supply and demand side of our business and say, “By the time we get to 2013, we should be at a point where we’re pretty close to nominal 2007 RevPAR.” Where we get back up to real RevPAR is a question about all those really big macroeconomic questions. When I look at the data numbers and I see minimum supply growth happening over the next couple of years, I see an opportunity that with some sustained demand growth—with people just getting back out and traveling—we have an opportunity in our industry to have somewhat of a recovery back to 2007 without a significant amount of new jobs being added. Where do we go from that point? I believe it’s got to come with jobs.”

Higley: “How do you develop strategic plans with that uncertainty?”
Shah: “It’s two-fold. One, on the hotel-by-hotel side, clearly the strategic planning that happens within our operating group—and we’ve got hotels in various sectors throughout the U.S.—each of these hotels has its own strategic plan about where it’s getting business. As concerning as perhaps the growth of government is from a business standpoint, it clearly is creating a tremendous amount of travel. As a sector of business, it’s an area that all hotels are going after in terms of driving room rates. So there is a strategic part of the hotel piece that clearly is tied to what industries, what businesses, what leisure segments are traveling.

“From a broader basis organizationally, our chief focus is finding investments that are going to be actionable. This goes to a broader question as to what investment strategy should be, given the fact that everybody understands we’ve been in a cataclysmic economic scenario. Out of all the real-estate alternatives (core, office, retail, lodging etc.), lodging as a daily lease business has had the farthest drop of any other class—more so than has ever been experienced since we’ve been tracking data. But unlike previous economic cycles, the sophistication of the institutional investor has continued to move up. Twenty years ago, when the RTC bailed out the savings-and-loan industry, there weren’t significant public lodging companies, real estate ownership companies. There wasn’t this group of private equity investors. Today it’s prolific in terms of the amount of capital.

“Going back to the strategic planning question, we look at the public markets and there is (US)$5.8 billion of new public equity that has been raised in the past 11 months, including two blind-pool REITs. Then we look at the dedicated private equity lodging funds, including Noble, and there’s an equal amount of capital in just dedicated lodging. Then you look at the behemoth, large private equity funds. You just saw that Westbrook Partners made a big transaction with Millenium. You have Rockpoint, Lubert-Adler Funds, Walton Street Capital, and of course Blackstone being the largest of them all. The amount of allocation they have to lodging is significant. It’s likely that they invest perhaps up to a third of their capital in lodging. Then you have the debt funds. The private debt funds and all the new public debt funds—Starwood Capital, Colony and Apollo and the like. So now to develop strategy for Noble Investment Group, with a private equity platform and (US)$200 million of capital out of the (US)$310 million fund that we have remaining. Where do we find opportunities and be competitive with all this other capital in the marketplace? To the real-estate investor, you can clearly see that lodging debt has gone from (US)$3 billion in default in January of 2009 to (US)$35 billion in default by the end of the year and more is coming. But if all the capital is chasing that level of distress, how opportunistic will it really be? How actionable will it really be?”

Higley: “It could go back to the same thing in 2006-07 with these inflated prices because everyone was chasing them and there was so much money out there. It’s a different kind of money that’s out there now. You’re looking probably at (US)$25 billion to (US)$30 billion in equity in some shape and (US)$30 billion in distressed assets and more coming. How do you, as a potential buyer, sift through all of that, put a competitive, realistic bid on the table and fight off all that money that’s out there?”
Shah: “I believe that the true lodging organizations have a unique advantage in this marketplace. It’s kind of the drum I’ve been beating for many years, which is why Noble is just a lodging-centric organization. If you’re going to be a lodging investor, you can clearly enter the market and exit the market and have perfect timing and do very, very well. But other than that, if you plan on actually being in this business for a long time, you have to get through the ups and downs. Lodging companies that have true competencies, true skill, discretionary capital, have the ability to do things that are unique, will succeed over the billions of dollars that are just coming into the business that understand lodging but don’t have the operating capabilities, redevelopment capabilities, the abilities to work with all the brands.
“The brands are actually going through a real paradigm shift in terms of how they think about their business. If you think about the last five years, and the tremendous amount of capital that was coming in as we were reaching this peak in 2007, these were real-estate investors that went into lodging because office and retail were 4-caps and 5-caps, and 6-caps all of a sudden became really attractive in the lodging market. So now with all the problems that are happening here, they have very limited means by which to work through this. Their partners are different outside groups. The brands are now dealing with institutional, large and medium owners that don’t have the wherewithal to put money back into their assets. They don’t really care about the beds, the baths, the TVs. They really care about getting out of their investment. You’re creating a real conflict between that in which to go forward.

“For us, we believe to build these trusting relationships, you go through the fire together. We’ve gone through three different cycles, each one worse than the one prior to. I believe we’re a cottage industry, so to speak, that values the fact that if you have the historical track record, the capital, that you’re strategic and your teams have the ability to win when others simply don’t, you’ll find opportunities that aren’t readily available to the open market.
“Our goal is to find specific opportunities working with our brand partners, working through this whole collection of smaller owners, these thousands of regional owner-operators that built great little portfolios for the premium limited-service and extended-stay community. This is the first real down cycle they’ve ever faced, and it certainly is the first time when there has been no capital in the industry. When you look at what they’re facing, they still have quality assets, and real money in their assets. But the regional lender—Frank Smith down the road that’s been lending them money for 10 to 15 years—isn’t there. He’s worried about their balance sheet, relative to what the FDIC is looking for; and a simple extension, which was very cursory in times past, is very difficult. And now, take this recapitalization that took place between Westbrook and Millenium, and take that down to Main Street. How do these owners deal with the reality that they can get a loan extension, but it’s going to come with a price—whether it’s an increased interest rate, new money being put in to pay down the principal balance, or both.

“These are opportunities for our organization because we started the business in that sector of assets. We’ve grown in all other segments of the business, but this is where we know the owners, we know the quality and integrity of how they operate. But this is a capital-starved group of assets. This is an opportunity for us to invest with those owners to help them get through 2014. If (our projections are) right, and by the time we get to 2013, maybe 2014, we get back to 2007, we just need to get to that other side. Our strategic goals are very much aligned with how do we help this group of existing owners—local, regional owner-operators with great skill sets—with probably (US)$100 billion worth of assets in the U.S., get from where they are today to the other side?”

Higley: “Part of that, I would assume, is the reason you brought Joe Green on (as senior advisor), to help establish a platform to be a lender of sorts to those owners?”

Shah: “Exactly. I’ve always recognized that Mit Shah would never be the smartest guy in the room. So I had to continue to create the ability for Noble to have the smartest room. I have always been focused on key leaders in our industry—people that I have a tremendous respect for, a wonderful relationship with, and adding to the Noble organization at every juncture. So whether it was Bob Morris joining us as our chief operating officer, or Rodney Williams joining us as our chief investment officer, or Dave Weimer as our head of capital markets. Joe coming on board to look at a wide variety of opportunities in the lodging space that historically Noble hasn’t been active in was something I wanted to try and understand. Joe and I have been friends for 15 years. Fifteen years ago, Noble borrowed money from Winston Hotels in a similar timeframe, when there wasn’t a lot of capital available in the business. Joe gets the business, he understands the asset class, and he’s a good human being.”

Higley: “It goes back to the whole relationship factor. This industry is a big industry when you think about the number of properties, but it’s a small industry in terms of people who keep going around. With Joe coming on board, tell us a little about what he’ll be doing, what platform are you establishing with him leading the charge?”

Shah: “Joe came on board last summer. We as an organization a year ago saw all these debt numbers. Clearly the industry was going to have to deal with a tremendous amount of debt maturities. A year ago—minus 20 percent RevPAR—again, blip or trend? We thought this has to be a blip, it has to get better. As we saw things manifest, they weren’t getting better. That was the first time, the middle of last year, where the industry sat back and said this could be a trend. At this time last year, most of the pundits were saying by the time we get to fourth quarter ‘09, the year of minus 10 percent RevPAR, we’d at least get back to where we were maybe flat, so 2010 had some positive momentum. But by mid-year we realized that wasn’t going to happen. Not only that but 2010 could be very much be negative because of rate.
“We saw an opportunity since the capital markets weren’t going to come back very soon. There would be some debt in the marketplace, but most of the debt was going to be focused on the upper-upscale segment. We also viewed that this premium limited-service and extended-stay segment of the business was very opportunistic. When we look at our track record as an organization, we’ve done very well in that asset class. The reality is that over the last 10 years, there hasn’t been a lot of value-add in that asset class because either you were a developer or a public REIT that was buying yield. It wasn’t one of those things where you were creating value. You weren’t buying an asset here and converting it to another asset in that class, unlike in the full-service, upper-upscale segment. We did a limited amount of assets in that class over that time period. Going back to all these numbers in the business—$5.8 billion in the public market, at least that much in the dedicated private equity. All this debt money and then these large private equity funds. The vast majority of that money is in the luxury and upper-upscale segment. So we saw a niche.

“The reason most don’t gravitate toward this segment is the asset sizes are smaller, so the capital you can put to work is smaller. It’s why a lot of the lenders focus on the big deals. You get a lot of capital out. The other issue is it is a very operationally intense business, whereas in these luxury and full-service hotels, there (are) a lot of very capable operators in addition to the brands. These smaller limited-service hotels, there’s a handful of larger operators that can manage across a wide geography, and then the rest are small regional owner-operators. So the institutional capital doesn’t gravitate toward that area, and the brands will admit they’re not the most efficient in those boxes as they are in the full-service market.
“We saw Joe as a very good part of our organization to decide the best way to invest capital in that space and create the ability for us to earn solid returns in multiples and use our advantage. Joe has a tremendous broader public viewpoint of how he did a debt program at Winston, how he amassed a large portfolio acquiring assets. We then use our acumen—which is we know the vast majority of owners and operators that exist in that field. It’s really a work in progress, and as we look at entering the next six months, we’re starting to see some real momentum in opportunities where we can invest in that side of the space.

“We have Noble Hospitality Fund. There is opportunity for us, with a sidecar vehicle to that fund that we have to dedicate toward investing in lodging, but investing perhaps in a different component of lodging—perhaps on the debt side. His goal and focus is to get that part of it set up.”

Higley: “What’s the amount of that sidecar that you’d have to lend?”

Shah: “We would see something likely the size of our current fund. We believe there’s a real business that can be created out of that. If you think about the traditional lenders to that space, it has been regional lenders, the CMBS market and then there are a few large national lenders, many of which have exited the space. Because it is a fragmented industry, there is a fragmented lending group and there’s an opportunity to go and build a real business around that.”

Higley: “So you’re talking about extended-stay and select-service type properties. Are you talking about (US)$5 million to (US)$10 million to help an owner get over the hump and then you become a sliver equity or a part-owner?”

Shah: “The interesting thing about how to capitalize this is it’s completely flexible. It can either be new debt, sliver equity that comes in to keep the existing debt in place, it could take a number of different factors. Perhaps it’s only for existing assets, or perhaps a development program that allows existing broken developments to get to the next point. We see the opportunity because we’ve lived through the cycles and we get this part of the business. The real key is for us to set it up appropriately. Our goal over the next six months is to set something up so it’s meaningful, it’s tangible and it solves the gap that’s in the marketplace.

Higley: “And that’s a huge point, because we all know until there is some sort of funding mechanism in place across the board there’s not going to be any real recovery. It’s important to have the foundation in place before a lot of those major companies that left start coming back in. There are other companies doing something similar to what you’re doing. Do you view this as a foundation for the recovery?”

Shah: “Fundamentally, without capital in the marketplace to recapitalize existing assets, we’re going to be in a situation where we’ll be muted in our ability to move forward. It’s fundamental to the global economy, to cities, to our industry. What’s interesting is that you’ve seen a lot of capital get raised prior to the recovery of the lodging industry. That rarely happens. The last two cycles, the money came after the recovery had started and there was proof that it was a sustained recovery. People are betting that there is a recovery happening and that you can buy at depressed prices or invest at depressed prices today on the equity side. On the debt side, it’s still going to take some time. If you look at all the data coming out from the lending community, it’s going to take a while for even conservative lending to come back into our industry on a wide range of assets. These kinds of recapitalizations could very well be the norm for the next 24 months.”

Higley: “Turning our attention to your portfolio. What’s your wheelhouse?”

Shah: “Our wheelhouse is 43 hotels in 15 states. From West Coast to East Coast, everything from premium limited-service and extended-stay to full-service upscale and upper-upscale sector to two W Hotels that are classified within the luxury segment but clearly are differentiated from the Four Seasons and Ritz-Carltons and the like. From a room count, we’re more skewed toward the upper-upscale. From an asset standpoint, it’s about 50-50.”

Higley: “Performance-wise, have you seen any blips or trends, as you call them, with how your portfolio is performing and is there some good news on that front?”

Shah: “We deal with metrics as our scorecard for everything. I view RevPAR index in our markets as the win or lose. We’re just coming into March Madness, and everyone starts 0-0. That’s how we view every week. Everybody starts 0-0. What are we doing on a weekly basis to outperform our competition? How does that translate to a monthly basis? How does that translate quarterly and annually? If the market is down 10 percent are we down less? If it’s up 10 percent are we up more? Bob Morris, Paul Burke and Bob Sullivan, who lead our operating organization, have a talented and very committed team that has constantly allowed us to win in our market-share battles.
“We keep statistics about how we trend vs. our competition in our markets, and on a national basis. We also develop targets for RevPAR for our hotels. Our goals are based on a whole series of metrics. We’ve actually seen about 80 percent of our hotels gain RevPAR year over year. From an aggregate standpoint for the first two months of the year, they’re gaining year over year. Some of that is because we’ve put a lot of money into our assets. We’ve invested about (US)$80 million in renovations and repositionings, just in the last 12 to18 months. We’re also seeing about 60 percent of the markets we’re in actually had year-over-year RevPAR increases. We clearly see an indication that the business transient customer is starting to pick up.
“We’re not seeing that on the group side. Rate is still an issue. Hardly anyone signed (requests for proposal) last year but they’re paying the RFP rate. We’re seeing less negotiating at the table. As demand continues to increase, we’ll be able to protect rate a little bit more and get to a point where demand is moving up, and where rates were relatively flat we’ll start inching forward. I think group is going to have a lot to do with that. As soon as we start seeing some ability to price group accordingly, you’ll start seeing some momentum on RevPAR.
Higley: “Final question. In a guessing game, when will you be able to go to bed at night and think ‘rate is now where we can start driving it?’”

Shah: “Let’s assume we don’t enter into another scenario where a cataclysmic situation happens. I’ve thought for the last six months, that it would be end of third quarter, early fourth quarter before we saw positive RevPAR—a combination of occupancy increases and rate increases. I still believe that to be true. Sometime between the end of the summer season and the beginning of the business season—end of August, early September—we’re going to start seeing positive RevPAR growth with positive rate.”

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