As economic conditions continue to create challenges for the U.S. hotel industry, Pebblebrook Hotel Trust sees revitalizing and right-sizing its hotel portfolio as the way to make it through.
BETHESDA, Maryland—Though the third quarter turned out to be more challenging than they expected, executives at Pebblebrook Hotel Trust were confident about their hotels’ ability to perform through the fourth quarter and a potential economic downturn.
During the company’s third-quarter earnings call with analysts, Pebblebrook Chairman, President and CEO Jon Bortz said the company will create value regardless of the economic environment by repositioning and revitalizing its hotels while selling off undesired hotels through its ongoing strategic disposition plan.
When Pebblebrook initially took over LaSalle Hotel Properties’ portfolio, the Pebblebrook team saw a significant opportunity to increase the value of the newly acquired hotels through creatively repositioning them to drive higher room revenue and non-room revenue, he said. Almost one year into ownership, the team has created a comprehensive plan for each hotel, he said. The team also found more property and portfolio-wide opportunities than originally anticipated.
“We believe there are 16 properties within the portfolio that can benefit from substantial investment that will reposition them to a higher competitive level, improve the guest experience and drive very attractive returns,” he said. “While we've made numerous operator and brand changes to position properties, to maximize performance upon redevelopment, and we have a few more to go, we feel like we're in a very good place now to start this value creation process.”
So far, Pebblebrook has provided details on eight of the projects, he said. Those projects include the Donovan in Washington, D.C., which will undergo a $25-million repositioning to join Pebblebrook’s unofficial Z Collection as Hotel Zena; the Le Parc Suite Hotel in West Hollywood, California, which will under a $12.5-million repositioning into an all-suite hotel; and $37-million redevelopment and reflagging of the Paradise Point Resort & Spa in San Diego into the Margaritaville Island Resort.
The eight redevelopment projects call for an investment of about $120 million, 75% of which represents return-on-investment capital with the remainder being regular capital maintenance and renovations, he said. Over the course of the properties’ lives, the company expects the repositioning capital will generate a 10% ROI following stabilization, which typically lasts about three to four years after completion, he said.
The remaining unnamed projects will begin by the end of 2020 or in early 2021, he said. Some of the projects include making operator or brand changes, he said. In total, the company will invest approximately $260 million in all of its value-creation process, with two thirds of that representing ROI capital, he said.
Pebblebrook continues to make progress on its strategic disposition plan to right-size its portfolio following its acquisition of LaSalle, Bortz said. Assuming the company completes the sale of the Topaz Hotel in Washington, D.C., this year (there is a hard-money contract in place), the company will have sold 12 hotels from the LaSalle portfolio for gross proceeds of more than $1.3 billion, with a combined net operating income cap rate of 5.4% and combined earnings before interest, taxes, depreciation and amortization multiple of 15.9x, he said.
Though the company’s goal was to achieve $600 million in sales in 2019, if the Topaz sells this year, the company will have reached $480.2 million, he said. To make up the difference, the company is looking to sell the income-producing pieces of several hotels that it will separate, including retail, restaurants, entertainment and parking real estate, he said.
Pebblebrook is currently in talks with several potential buyers of other properties, but they expect to have those under contract, but not close, by the end of 2019, he said. The company expects to sell between $300 million and $500 million in assets next year, he said.
On a year-to-date basis, the company’s hotels have outperformed its markets and local competitive sets, he said. Its hotels have also outperformed in gaining revenue-per-available-room share.
During the quarter, however, hotel performance was weakened by softer convention calendars in many of Pebblebrook’s markets, operator transitions and Hurricane Dorian, Bortz said. The transition of third-party managers at five hotels resulted in a drop of 60 basis points in RevPAR, and the hurricane took about 30 basis points off RevPAR performance as well, he said.
The fourth quarter has been shaping up since the start of 2019, Bortz said. There are more favorable convention calendars in many of the company’s markets, he said. Pace heading into the quarter is encouraging, as by the end of September, the total number of room nights booked in Q4 is up 5.4% year over year, he said.
“Group pace is even stronger for Q4, with group rooms ahead by 6.2%,” he said. “Group (average daily rate) is ahead by 5.6%, and group revenues ahead by 12.1%.”
The challenge so far has been in-the-quarter for-the-quarter pickup, he said. It's been down on a year-over-year basis, and they expect pickup to weaken further in Q4 based on current trends, he said. As a result, the company has lowered its same property RevPAR and even forecasts for the fourth quarter to anticipate further softening, he said.
As of press time, Pebblebrook’s stock was trading at $25.99, down 19% year to date.
Demand growth continued to modestly slow in both business and leisure transient, Bortz said. September was particularly disappointing given their higher expectations from a favorable Jewish holiday calendar shift into October, he said.
“Slowing economic growth around the world due to the trade war and continuing geopolitical events and uncertainty have clearly had an impact on business confidence, which is translating into slightly more cautiousness by businesses in investments and spending,” he said.
That’s also evident in travel, as in the trailing 12 months, hotel demand growth decelerated from a range of 2.7% to 3% about a year ago down to 2% to 2.1%, he said. The slowdown in demand in a weaker year in group business across the hotel industry has pressured ADR growth, which has slowed from a trailing 12-month growth rate of 2.4% to 2.5% down to 1.2% to 1.5% in the last quarter, he said.
Industry RevPAR growth has been softening, and the urban and top 25 markets have continued to underperform in the industry, Bortz said. That is primarily due to negative shifts in international travel and a relatively higher rate of supply growth in the industry in those markets, he said.
Inbound international travel has been weak, if not negative this year, and outbound travel is up significantly, he said.
“Some of this is likely due to the strong dollar,” he said. “And some is due to U.S. policies and rhetoric that make it much more difficult or desirable to come to the U.S.”
The good news is that Pebblebrook hasn’t seen any increase in cancellations or attrition, Bortz said. Executives are not aware of any changes in corporate polices rated to travel, and the average spend per group customer has increased healthily all year, he said.