Refinancing a hotel near the cycle bottom: 10 things to note
Refinancing a hotel near the cycle bottom: 10 things to note
11 MAY 2009 8:35 AM

Jack Welch was right when he said this recession provides opportunities in the hotel segment; it's up to investors to approach it wisely.

“What gets us into trouble is not what we don't know, it's what we know for sure that just ain't so.” - Mark Twain

Cameron Larkin

What’s old is new again. Pirates are back in the news, banks have reverted to the olden days (i.e. pre-2003) of hotel mortgage underwriting, and Mark Twain’s century-old quote rings true again.

Twain’s passage is a nod to our tendency to use past experience as a guide to the future, to misjudge changing circumstances and to make mistakes as a result.

Given the dire economic news for the past 18 months, it’s not surprising most hotel owners will procrastinate refinancing a pending loan maturity. We can fall into Twain’s trap, hoping a spate of good news will return the days of easy credit or believing tomorrow inevitably will be a better time to refinance than today.

Unfortunately for this group, the news and, worse still, the country’s mood, continues to be grim despite growing indications the light at the end of the economic tunnel is glowing brighter.

Furthermore, attendees at the recent Americas Lodging Investment Summit and Hunter Hotel Investment Conference, as well as the HVS “U.S. Hotel Trends” sessions throughout the country, walked away with a somber assessment of the unfolding operating statistics and road ahead in our industry. The resulting common perception is financing of any kind is unavailable, expensive or an exercise in futility.

Good news

Are things really so bad? Well, yes and no. It’s the most difficult hotel financing environment since the early 1990s. But unlike the early ’90s, hotel lending hasn’t dried up completely. Deals, although not many, continue to get done. Everything is more difficult, but things could be worse. Furthermore, there’s compelling evidence the credit crisis is moderating:
• Consumer confidence rose to 61.9 in April from a low of 55.3 in November;
• Home refinancing is escalating with falling credit spreads;
• Wall Street indices are up over several weeks with improved expectations;
• Several Fortune 500 firms led off first quarter earnings announcements with better-than-expected numbers;
• Housing prices may have hit bottom; and
• The probability continues to increase that the economy will be growing again in the third or fourth quarters of this year.

There are similar glimmers of good news in our own industry. According to recent reports by Smith Travel Research and HVS, demand decline appears to have halted, signaling a bottom. Occupancy, particularly for nonluxury hotels, may be as bad as it’s going to get. While ADR/pricing movement remains a wild card, signs are evident the bottom of this hotel business cycle might be near.

Economic risks remain, no question. A V-shaped recovery is unlikely, lending will remain challenging for the foreseeable future, hotels likely will bump along the bottom of this cycle through 2010, and the power of the economic and financial shock to our country inevitably will cause more damage during the next several quarters.

But just knowing the worst may now be behind us is an ideal context in which to manage your hotel’s refinancing needs proactively.

10 things to keep in mind

For more than a decade, I worked at GE Capital where I drank heavily the Kool-Aid Jack Welch served up. In his day, Jack was to business what Patton was war—both known for a blood-and-guts approach to winning.

So it was great to see Jack roll out of retirement last month to speak at the AAHOA annual conference where he said, “This recession offers more opportunities than it offers troubles.” (Read "Welch: Hoteliers have opportunity during economic meltdown") I still enjoy drinking Jack’s Kool-Aid, and think he’s right.

Jack also would expect to see a plan of action to achieve a goal, so I’ve laid one out below to help you get started.

1. Organize and present your loan refinance with the understanding you’re competing for an extremely limited supply of loan dollars in an environment of high demand. Presentation and organization of your deal are key to differentiating your loan request from the pack.

2. Variable rate indices are historically low. Consider a short-term (three to five year) variable rate program to achieve payment savings and bridge the hotel into a stronger economic/credit environment when long-term, higher leverage and nonrecourse financing is again available.

3. Be patient. Today everything takes a bit longer during the more intensive underwriting process.

4. Pro forma (projected) data is largely irrelevant to banks today. Historical data is all that matters.

5. If you use a mortgage broker, take care who you give the deal to. Some use a fire hose approach, presenting the deal to inappropriate lenders while others co-broker the deal to other brokers. A poorly presented and/or marketed loan request can hurt your deal, and in the current market, you don’t get a second chance with a lender that said no the first time.

6. If the loan isn’t refinanceable, don’t waste time shopping it around to multiple lenders. Instead, focus on working out an accommodation/extension with your existing lender (more on this below).

7. Be realistic and flexible. This refinance likely won’t meet all of your ideal goals (e.g. 75 percent LTV, 10-year term, nonrecourse, etc.). Don’t put off accepting a good deal with expectations of better one coming along. In this economic climate, there’s a strong chance a better offer won’t come along.

8. Expect to sign up for personal guarantees (recourse).

9. Limit cash-out/equity recapture expectations. Banks want to see meaningful borrower cash equity remain in the deal.

10. Expect this challenging hotel lending environment to persist through at least 2010.

Regarding default

If you’re ability to make monthly payments on your hotel loan is becoming tenuous, schedule a meeting with your lender immediately. Communicate the situation and your plan. I can’t stress this enough—don’t default on your loan by stopping payments!

Lenders currently aren’t prepared to manage their combination of troubled residential and commercial loans. They’re much less interested in spending the time and money involved with the management-intensive operations of a hotel.

In many cases, you’ll be in a position to work out some kind of accommodation. But all bets are off if you default and surprise your lender. Oftentimes their hands are tied on defaulted loans. Wheels begin turning that can’t be stopped.

Looking ahead

Just as 2008 disappointed on the downside, 2009 will surprise us on the upside, with the economy and credit markets doing better than is now generally expected.

A net increase in hotel lending capability within the capital markets will return slowly, however. As the economic downturn stabilizes and financial institutions are encouraged to lend more, this new lending replaces existing capital in the market at best. The rationale is that the current hotel lending pool is limited severely and getting smaller with each new loan that hits a bank’s hotel concentration limits.

The competition for hotel refinance dollars will remain as competitive as the market in which you operate your hotel. Getting to the top of the stack with a bank will require similar management rigor that keeps your hotel ahead of the pack.

Get busy on your refinancing strategy, and here’s to a sooner than expected hotel business cycle recovery.

Cameron J. Larkin is managing director and founder of Larkin Hospitality Finance, a national hotel investment banking firm focused exclusively on meeting the debt and equity financing needs of hotel owners and developers. He can be reached at or 469-916-8518.

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