The best transactions are those that can withstand the ebb and flow of macroeconomics, according to a roundtable of hoteliers that included owners, brokers and a lender.
COLUMBUS, Ohio—Whether you want to call it late-cycle, or “deep in the cycle,” the consensus seems to be that these are “uncharted waters,” according to a roundtable of hotel deal-makers assembled to discuss the state of the hotel industry and transactions climate.
Just don’t say we’re in “extra innings,” said Mark Elliott, president of brokerage firm Hodges Ward Elliott, “because that implies that the game ends and then some disaster happens to you when the game ends.”
The truth, he said, is that cycles end, and somehow the industry still finds “a way to make good out of it.”
The key is to “not let the noise” get in the way of a good deal, said Jim Merkel, CEO of Rockbridge, which hosted the roundtable as part of its Rock the Road Experience leadership, innovation and fundraising event last month in Columbus.
Most cycles last eight to 10 years, said Arthur Adler, managing director and CEO of the Americas division for Jones Lang LaSalle’s Hotels & Hospitality Group, and “we are nine years in … so we’re deep. But this one, I truly believe, is different.”
What stands out as unique, Adler said, is that from the previous cycle peak to this one, gross-domestic-product growth has been steady but “less than in any other cycle we’ve ever seen.”
Whereas in previous cycles, GDP growth of 4%, 6% or even 8% was typical, “we haven’t hit 3% to this point,” he said, adding that he has circulated a Wall Street Journal article to his staff which predicts a 2%-plus GDP environment for the foreseeable future.
Adler said something that might move that needle is action by Donald Trump’s administration on tax reform or infrastructure spending.
That, he said, might push GDP “north of 3%, but we’re not going to be in a 5% kind of environment.”
The industry so far has weathered a low-GDP environment, largely due to “a monetary policy that (has) allowed rates to be at historic lows,” said John Belden, president and CEO of Davidson Hotels & Resorts.
“Look, inflation is a great thing for our industry,” Belden said. “It’s one of the few industries that can sustain inflation. We haven’t had inflation in 10 years.”
Bill Stadler, chief investment officer of Aimbridge Hospitality, agreed that factors outside of the hotel industry’s control are likely to cause a shift in the cycle one way or the other.
“Things like if tax laws change—that might get people more motivated to travel and spend more in our industry,” he said. “I mean, look at the price of oil and gas. When that dropped, that gave people almost an overnight raise. … Airfare is still reasonably inexpensive. … As long as those kinds of things maintain, I think we’re in pretty good shape.”
Fundamentals of a good deal
Regardless, sources said, there’s still money to be made on hotel deals.
“We did a survey of hotels that traded at the bottom (of the cycle) and sold at the top, and how much people made,” and the total returns were the same, Elliott said.
In another survey, Hodges Ward Elliott looked at hotels that sold at the first cycle peak, against hotels that sold at the second peak. The survey found that “those hotels made the exact same amount, but it took a longer period of time, so instead of five years it took seven. But in absolute dollars, both were good returns,” Elliott said.
The takeaway: “One, we’re in a great business,” Elliott said. “And two … I think we spend way too much time worrying about this magic timing cycle, and we should spend a whole lot more time underwriting the basic risk and return and rewards of a certain investment.”
Merkel said a good investment is able to “sustain the impacts and flow of the economy.”
“The market has proven that we’re in a growth business,” he said. “So if you do your fundamental investing, and you operate well and make good decisions, and you capitalize your investments well, over time, you’re going to do well. You’re going to create value. That’s what we try to stay focused on, and that’s worked for us.”
Merkel recalled a hotel deal that his company was set to close on 15 September 2001.
“And then 9/11 happened. Everybody pumped the brakes, and we stepped back,” Merkel said. “And a month later, there wasn’t a whole lot of certainty around what was going to come of that event and how that was going to impact our industry. (But) we all stepped back and said, ‘This is a good deal. This makes sense, and we need some working capital to work through what we think is a temporary impact’ … which we were able to get almost to the dollar, and it was one of our best investments that we ever had.”
Cautious and selective
Sources agreed that uncertainty about the state of the cycle does require more selectivity in deals.
“Investors are being generally conservative because we’re deep in the cycle. They’re just not as aggressive as they were a couple of years ago,” Adler said, but he added that hotels still trump other real estate in terms of investment.
“We’re a global real estate service company, so we sell all types of real estate; obviously, all I care about is hotels,” he said. “The risk adjust for hotels is much better than any other form of real estate and … through good times and bad, returns for hotels are higher.”
Jennifer Dakin, SVP and team leader of the Hospitality Finance Group at Wells Fargo Bank, said the same holds true for the lending market.
“We have a little bit of a cautious outlook right now,” she said. “When looking at the entire landscape, there is a lot of capital out there and equity, but the debt markets have blown up because you have all these various debt funds … creating various vehicles that have different levels of return.”
But, despite a large amount of available capital, it remains a seller’s market, said Rick Takach, chairman and CEO of Vesta Hospitality.
That’s because sellers “don’t have to sell,” he said. “Debt is low so they can refinance. … Sellers have the advantage right now because they can hold their asset—unless they have funding they have to get out of it, but they can always find a way to recapitalize that.”
But Merkel said there’s a limit on how long a seller should hold on to a property.
“It’s a capital-intense business, so at some point, the sand runs out of the hourglass, and you have to make a major capital infusion in order to make that property competitive,” he said. “Today, we’re in an environment that if you hold on too long and don’t reinvest, we’ve got a new product coming and that product is going to be very difficult on (those) … that have not reinvested. … They’re vulnerable.”
What’s being bought and where
More capital coming into the market is also opening up options for more portfolio acquisitions in a deals environment that recently has been more centered on single assets, said Teague Hunter, president of brokerage firm Hunter Hotel Advisors.
“You’re better at execution of a single asset that the local guy is going to love more; he’s going to enjoy it more and pay more for it,” Hunter said. With a portfolio deal, he said, the execution often takes more time, and that increases risk for investors. “But the good news is the … institutional capital is back for portfolio options that haven’t been an option in the last year at least.”
Much of the merit of any deal also depends on the specific market it’s in, Hunter said.
“For whatever reason, the secondary and tertiary markets are having more success than the primary markets. … Yeah, you talk macro, but these guys are right, it’s a street-corner business,” he said. “It’s micro cycles. New York is already down; Miami is already down … but Atlanta is up, and Charlotte is up, and Dallas is up. … Those tertiary and smaller markets are having a fair time in the sun right now, so that’s where the activity is.”
Dakin said Wells Fargo evaluates a potential deal by looking at the supply entering the market, as well as additional competition created by older assets being renovated and converted into new product. “Then there are rate caps, and how much more growth (the market can handle), and where that asset will sit. Those are some of the keys.”
Hunter summed it up: “I think you got to believe. One winner, 19 losers: The winner is the guy who believes. … And you either believe or you don’t. And all the deals you’ve done are the ones you believe in.”
Editor’s note: Rockbridge paid for accommodations, including one roomnight. Complete editorial control was at the discretion of the Hotel News Now editorial team; Rockbridge had no influence on the coverage provided.