|Neil Freeman, Aries Capital
CHICAGO—Neil Freeman didn’t dance around the issue during Wednesday’s closing session of the Midwest Lodging Investors Summit.
While the sentiment has been broached at numerous hotel-industry conferences throughout the past year, Freeman was as blunt as possible when asked by moderator John O’Neill of Penn State University to give one piece advice to hoteliers looking for financing.
“To not be so greedy,” the chairman and CEO of Aries Capital told the 250 attendees of the session. “If you can get a 5% interest rate, somebody wants 4.5, then it balloons to 7. Take what you can get.”
Other panelists were just as succinct:
• Michael Medzigian, chairman and managing partner of Watermark Capital Partners: “Never leverage above 65%. Sixty-five percent has been my lifelong limit. You get in trouble when you go above it.”
• Chris Diffley, managing director of RockBridge Capital LLC’s investment management group: “Position yourself for flexibility. Who knows what’s going to happen in the future.”
• Chris Williams, VP, originations-hospitality for GE Capital Americas: “Keep leverage under 70%.”
• Reginald Heard, president and CEO of Bankers One Capital: “Preparation. Have identified equity in place before you go to the lender. That’s critical.”
Bankers One Capital
Upbeat about lending
The panelists were mostly upbeat about the lending environment in the hotel industry, saying financing is available for deals that make sense.
“I have felt bullish about lodging for a good, long time,” said Medzigian, whose company has acquired three hotels during the past 45 days. “There are a lot of things happening, like 100 million Chinese travelers who weren’t traveling before and are now. And there’s low supply growth. We’re still buying assets at below replacement growth.”
However, inflation, global economic troubles and uncertainty in the U.S. political and regulatory arenas have the executives slightly nervous about while lies ahead.
Williams said his biggest worry is the crisis in Europe and to a lesser extend the slowing economy in China and India. Heard pinpointed the threat of inflation as a key issue.
Medzigian said the gridlock in Washington has no foreseeable end. “I’m not sure when or how we come out of it,” he said. “But the lodging space will outpace the economy for the near future. ... We think we have a good, long cycle ahead of us.”
Freeman said there are many positives about the hotel industry as long as supply growth is held in check. “And there’s finally some green shoots in fixing the housing mess for the first time,” he said. “The bottom has been hit in many markets.”
Diffley said he is bullish on the hotel transactions market as long as nothing happens to turn U.S. economic growth negative. “I’m not sure what that is, but a lot of things keep you wondering,” he said.
Freeman said there is quality debt priced up to 70% of value on the cash flow of assets in major and secondary markets with good brands. “When you veer off good brands or cash flow, then it becomes more opportunistic,” he said.
For a detailed look at how these panelists are seeing lending deals being structured, check out the 24 July issue of the Hotel Investment Barometer, which is available to paid subscribers.
Other funding sources
The panelists discussed historic tax credits and EB-5 visa money as strategic sources of funding that have been popular during the past 18 months.
Freeman said approximately half the EB-5 money nationally is coming from China, and most of the deals are between $10 million and $50 million.
The uncertain future of commercial mortgage-backed securities loans caused some concern for the panelists. O’Neill said “only 32% of CMBS loans paid their balloons last month.”
“There’s about $1.7 trillion of commercial real-estate coming due by 2016, and depending on how you count it, about half of it is not financeable,” Medzigian said.
Watermark is a beneficiary of distressed assets. For example, it closed on a hotel three weeks ago that used a seven-year CMBS deal with 5% interest. Medzigian said most situations call for five-year or 10-year deals, but the company felt more comfortable with seven years.
“Predominantly now it’s 10 years,” Freeman said. “The underwriting is much more stringent than the underwriting that was in place in ’06 and ’07. The market feels cash flows will be there. ... It’s a very good source of non-recourse financing.”
Diffley said the big question is when will special servicers put the hotel assets they have collected during the past few years on the market.
“Can you jar them loose?” he asked. “A lot of them are not refinanceable because of the valuations. Distressed assets are under capitalized, it’s not about cash flow now. The big trick is getting them out, but if you have money to reinvest in them there are a lot of good opportunities.”
No building boom in sight
Supply growth will be held in check if lenders continue to keep financing locked. Freeman said Aries has financed several construction projects.
“It’s a two-tiered market,” he said.
He said major banks will finance strong borrowers building $50-million to $100-million select-service assets in urban markets. Terms tend to be 65% loan-to-value with interest rates at 325 to 350 basis points over Libor.
“But if you’re not that project, you have to find some local bank and have lots of equity,” he said.
Williams said GE can’t accommodate construction financing. Of the companies that are doing it, they tend to limit it to one or two projects because of capacity issues.
“On the equity side, us putting equity into construction today, we’re not going to do it,” Medzigian said. “The only way we are is if there is lots of free money, city incentives, tax credits, money from the franchisor for big project.”