Supply, interest rates slightly mute optimism
07 MAY 2014 7:50 AM
The hotel industry is experiencing positive performance fundamentals, but some speakers at Tuesday’s Meet the Money conference believe there might be some clouds on the horizon.
LOS ANGELES—Judging by Tuesday’s discussions at the 24th annual Meet the Money National Hotel Finance & Investment Conference at the Sheraton Gateway Los Angeles, the hotel industry has been down this road before.
Starting with a presentation by STR’s Vail Brown, speakers were adamant in their belief that the positive fundamentals the hotel industry is experiencing aren’t unprecedented—and there are reasons to be cautious going forward.
During the presentation of the Lodging Industry Investment Council’s Top 10 issues survey, co-chair Mike Cahill said the group’s members believe the environment looks a lot like the landscape nine years ago.
“The window is wide open, and it’s beautiful outside: déjà vu 2005,” said Cahill, who is CEO and founder of Hospitality Real Estate Counselors. “2014 is the new 2005, and is it a longer, slower cycle.”
“We are in the exact same position of where the industry was in 2005,” Brown said of the supply pipeline.
Cahill said 70% of LIIC members believe now is a good time to build/develop hotels as long as developers are selective about product and market.
Determining the length of the cycle depends on what measurement is used, but speakers clearly understand this cycle has reached the comfort zone.
“We’re 54 months into the current recovery with a ton of green lights in front of us,” said Ken Cruse, CEO of Sunstone Hotel Investors, during the “What’s cooking in the executive suite?” panel.
Jonathan Martin, VP for AEW Capital Management, said during the “Views from the top—finance & industry” panel that the average length of a cycle from 1945 to present is 58 months. This cycle is in its 58th month.
“There are two to three years to go in this cycle,” Martin said.
Brown’s industry overview presentation during the “State of the industry alerts” session showed 43 consecutive months of revenue-per-available-room growth.
Optimism and challenges
In general, optimism prevailed during the conference’s first day:
- “It’s fair to say we’ve recovered and we’re in the stable part of the cycle,” said Adam Valente, managing director for Rockbridge, during the opening “Views” panel.
- “The patient is home, still working on a wellness plan and eating right,” added Rob Palleschi, global head of Hilton Hotels & Resorts, during the “Views” panel.
- “It really is a great time in terms of investment in hotels, whether it’s development, acquisitions or sales,” said Greg Hartmann, executive VP of strategic advisory for Jones Lang LaSalle, during the “Alerts” portion of the program.
That doesn’t mean everything is smooth sailing. Speakers most often mentioned supply growth and the vast amount of available debt as two warning signs.
“Positive forces in the economic recovery will continue to persist. Rate and occupancy will be increasing over time,” said Stephen Rushmore Jr., president and CEO of HVS, during the “Alerts” session. “But eroding that will be interest rates—we’re expecting those to increase over the next several years—as well as the new supply will gradually erode values.”
“When availability of capital translates into new supply, that’s when we worry about the cycle coming to an abrupt end,” Cruse said.
Bob Olson, CEO of R.D. Olson Development, admitted during the “Executive” panel that it’s difficult to say no to building hotels when fundamentals are so strong.
“I’m part of the problem, and that is supply growth,” said Olson, whose company is developing five hotels in Southern California and one hotel in Hawaii. “There’s a lot of product in the pipeline. Next year we’re going to start seeing the supply come on line. That should give us heed in terms of what our expectations are next year in terms of RevPAR increases.”
Brown pointed out that STR—the parent company of Hotel News Now—projects supply to grow 1.2% in 2014. She said whether supply growth stays under control or runs amok like it did in 2006 and 2007 remains to be seen, but there is some concern that 11 of the top 26 markets are experiencing at least 2% supply growth.
Mark Woodworth, president of PKF Hospitality Research, said during the “Alerts” session that the last time he was worried about supply growth was in 2009 when it checked in at 3%.
“I’m not real concerned about too much too soon this time around,” he said.
Tom Corcoran, chairman of FelCor Lodging Trust, said during the “Views” panel that he, too, isn’t concerned about supply growth. He said a hotel with the right value proposition in the right location can stave off additional supply growth.
“I don’t think I would say, ‘Oh I love supply, keep it coming,’” he said. “What you’ve got to say is ‘What kind of supply is coming?’ Supply in and of itself doesn’t kill hotels.”
Others weren’t so bullish.
“When you move to the second half of the cycle, the negative surprises start happening. … Many of those are related to supply,” said Clark Hanrattie, principal and CFO for HEI Hotels and Resorts, during the “Executive” session.
“For us in those top markets, supply is definitely a concern,” AEW’s Martin added.
Too much available debt?
Another big issue for the industry is the ever-growing availability of debt. After hitting the doldrums for nearly five years because of the Great Recession, debt is finding its way back into the hands of borrowers.
“For refinancing existing assets it’s about as good as it can possibly be,” said Rob Lowe Jr., co-president of Lowe Enterprises, during the “Hotel-residential mixed-use development and finance” panel.
Woodworth encouraged borrowers to seek opportunities.
“Now is the time you want to take advantage of elevated risk premium of getting into the market,” he said. “Sell in 2016 when that threat is minimized.”
Hartmann said hotels are seen as less risky than other asset classes, including stalwarts office, retail and multifamily.
“The outlook for financing is very favorable,” he said. “Lenders are very aggressive today. The (commercial mortgage-backed securities) market is driving a lot of that.”
However, there is some concern that things could quickly turn frothy.
“The credit markets certainly have become far more accommodating,” Cruse said, adding that he sees some signs that lenders are reverting to the bad habits they displayed during the last up cycle. “It’s not in 2006-07 yet, but we have to watch some of the yield chasing and risk tolerance.
“The credit cycle has gotten a little bit too mature,” he added. “I’m not concerned about the credit market. We just (need) to watch it.”
“There is a bit of a capital bubble right now. There’s a massive availability of liquidity for almost any asset or strategy,” said Craig Wrench, president and CEO of Washington Real Estate Holdings, during the “Executive” panel. “It’s definitely of some concern.”