Opportunities Turning into Transactions

The Sir Francis Drake Hotel has graced San Francisco since 1928. The 416-room hotel was recently sold to the Pebblebrook Hotel Trust for $90 million.

The hotel sector went nearly dark through much of 2009 in the face of falling revenues and mounting losses, but big deals are starting to make headlines again. Investors are standing in line for the first time in several years, eager to scoop up assets, while cautious sellers who had been waiting for the economy to recover are finally beginning to budge. A new deal-making cycle is kicking into gear.

Publicly traded real estate investment trusts (REITs) are leading the charge. Sunstone Hotel Investors is poised to acquire the Manchester Hyatt in San Diego in a transaction valuing the 1,651-room hotel at $580 million. Sunstone also bought the foreclosed Royal Palm Resort in Miami Beach on Aug. 16 for $126.1 million.

The venerable Fairmont Copley Plaza Hotel in Boston sold for $98.5 million to FelCor Lodging Trust. And in a rapid-fire series of deals, new REIT Pebblebrook Hotel Trust acquired the InterContinental Buckhead Atlanta for $105 million, and the landmark Sir Francis Drake in San Francisco for $90 million, among other lodging assets.

With debt still constrained, private-equity firms requiring leverage to consummate transactions have often been outbid this year by REITs willing to make all-cash offers for assets. “We’re in an enviable position, and we’re doing what we can to take advantage of that,” says Jeffrey Fisher, chairman and CEO of Chatham Lodging Trust in Palm Beach, Fla.

Fisher’s company raised $172 million in an initial public offering on April 21 and then promptly bought a portfolio of a half-dozen hotels, with four more acquisitions following soon after.

And yet the private equity companies haven’t been shut out entirely. Carl Icahn and an investment group won the 2,100-room Tropicana Casino & Resort in Atlantic City for $200 million. A partnership of Oaktree Capital Management LP of Los Angeles and Avenue Capital Group of New York agreed to pay $197.5 million in cash for the Cloister Hotel in Sea Island, Ga., a price that most observers deemed cheap considering that creditors will get shortchanged out of $340 million in debt in the aftermath of the troubled resort’s sale.

Meanwhile, KSL Capital Partners in Denver got a good deal on the La Costa Resort & Spa in Carlsbad, Calif., paying $120 million for the golfing mecca.

“We’ve seen a pretty dramatic increase in the number of properties coming to market in the last 60 days,” noted Jon Bortz, chairman and CEO of Bethesda, Md.-based Pebblebrook, in an early August conference call with Wall Street analysts.

“We expect the industry to be dramatically more active in the second half compared to the first half of this year,” added Bortz. “Sellers, for the most part, are very motivated.”
Bortz is motivated, too. His company raised $318.3 million in a massive secondary stock offering on July 28 and is eager to keep acquiring. “We think we can get our share” of hotels that come up for sale, the executive said.

Improved vital signs ignite deals
Hotel sales volume in the first half of this year totaled $3.4 billion, up 143% from the anemic $1.4 billion total in the first six months of 2009, according to New York-based research firm Real Capital Analytics. The number of properties sold in the first six months of this year rose to 141 from 83 in the year-earlier period, a 70% increase.

Many observers say that the turn to positive fundamentals in both room sales and revenue per available room (RevPAR) has sparked this year’s renaissance in transaction activity.
Nationally, approximately 190 million roomnights were sold in the first half of this year, up 19% from the 160 million sold in the first half of 2009 and not far off the 200 million total in the first half of 2008, according to Smith Travel Research based in Hendersonville, Tenn.

RevPAR is rising fastest in robust big-city markets — up 15% in New York City and nearly 14% in Boston, for instance, though these markets still trail 2007 peak performance by 10% or more.

Smith Travel Research has revised its forecast for 2010 three times, with each update offering a more bullish forecast on rates and occupancies.

“We’ve enjoyed a positive demand trajectory each month since December,” says Jan Freitag, vice president of global development at Smith Travel Research. “We’re in a recovery here. This time it’s the big cities along the East Coast — Boston and New York and Miami and Washington — that are coming back first.”

Some skeptics fear that the hotel recovery could be scuttled if the nation sinks back into a double-dip recession in the coming months, a scenario that economists fear as unemployment remains stuck at high levels and the stock market waffles up and down.
“For leisure travel to come back, we need bigger employment numbers,” says Freitag. Corporate travel has been on the rise but it could quickly get undone, he says, if profits falter.

“Group travel demand in September and October this year will be very important for giving us a sense of the health of the industry going forward,” he emphasizes.

Jeffrey Fisher, chairman and CEO of Chatham Lodging Trust, snapped up 10 hotels early this spring and has four more deals in the works. In four years, the select-service hotel specialist aims to have a total of 50 hotels worth more than $1 billion.

Most aggressive investors are not willing to wait for more signals. In his former career, Fisher founded the 76-property Innkeepers USA Trust in 1994 and cashed out at the top of the market in 2007 for $1.7 billion by selling to Apollo Investment Corp.

Palm Beach, Fla.-based Innkeepers went into Chapter 11 bankruptcy protection in mid-August, struggling under a load of more than $1 billion in debt that it couldn’t service.
Does the misfortune of Innkeepers give Fisher pause? Hardly. On top of the $172 million that Chatham Lodging Trust raised in its IPO this spring, the CEO invested $10 million of his own money in the REIT. Then in mid-summer the REIT received an $85 million secured-credit facility from a group of lenders led by Barclays Bank PLC.

Seizing the moment
Chatham Lodging Trust has been wasting no time. On April 23, the company landed a portfolio of six Homewood Suites hotels totaling 800 rooms for $73.5 million. Then it bought a 120-room Hampton Inn & Suites in Houston for $16.5 million and a 124-suite Residence Inn by Marriott on Long Island for $21.3 million.

At press time, four more hotel acquisitions were pending, including deals for two Residence Inns in Westchester County, in New York’s suburbs.

“This is the best buying opportunity in my lifetime,” declares the 54-year-old Fisher, a select-service hotel specialist who also owns a hotel management firm called Island Hospitality.

“We’ve never had the backdrop of financial distress that we’ve got today,” explains Fisher. “People overpaid and over-levered for assets in the debt bubble that rose up between 2005 and early 2008, and then the bubble burst. That’s set up the opportunities we’re seeing today.”

The early returns suggest that the timing of Chatham Lodging Trust is good. Through June 30, RevPAR in the initial half-dozen hotels the REIT acquired was running 10% ahead of the same period a year ago, driven by a 15.5% rise in occupancy.

The company had expected RevPAR to be merely flat this year for its newly acquired hotels. The woes of some of its rivals helped boost the returns of Chatham Lodging Trust. Its hotels in suburban Nashville, for instance, benefitted when the nearby Gaylord Opryland Hotel closed its doors because of flooding.

Chatham Lodging Trust is buying the majority of its assets at respectable 7.5% to 8% capitalization rates, not that far off the sub-7% cap rates that were common in the select-service segment back in 2007.

Fisher estimates that his acquisitions so far have come at an attractive average 20% to 30% discount to replacement cost. Does the possibility of a double-dip recession give him pause? Not really. He figures that the current economic recovery will experience some bumps in the next year or two.

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