Finding Financing For Hotel Transactions
Everyone says money is available to finance hotel acquisitions and even new development, but finding it and at terms that make financial sense can be difficult in these credit-strapped times. For the most part, say lenders, brokers and others in the market, funding is available from local and regional sources for deals requiring $5 million to $10 million or less in capital. Funding for more expensive transactions seems to be non-existent or very hard to come by. These are a few of the conclusions drawn from a survey of the hotel lending community conducted by Hotel Brokers International in conjunction with Lodging Hospitality.
"Abysmal" is how Gary Dunkum of Grandbridge Real Estate Capital described the state of hotel lending in his response to the survey. He says prior to the last eight to 12 months, real estate had elevated itself to be the "fifth food group" in commercial real estate, mostly based on increased lender demand for real estate loans (particularly conduits).
"Now and for the foreseeable future, the historical lender view of hospitality—given that it is only partly real estate but also with a significant operating business component—places the product back into the 'step child' category," said Dunkum. "This will result in lower lender demand and increased pricing, recourse and equity requirements."
Many of the panelists at the recent Hunter Hotel Investment Conference in Atlanta echoed Dunkum's comments, although the few lenders present said they're still willing to make loans under the right circumstances.
"We're willing to make investments even though the visibility looking forward isn't very clear," said Jim Merkel, president and founder of Columbus, OH-based RockBridge Capital. "Time will solve the current situation, but in the meantime it's important that you are totally transparent with your lenders."
Hunter Conference speakers, as well as many survey respondents, reiterated the common wisdom that small deals can still be financed under the right conditions. The threshold is around $5 million; the borrowers are typically owner-operators; and debt comes from local and regional banks with participation from the SBA.
"It will be difficult, but not impossible, to complete a hotel transaction," said survey respondent N.J. Olivieri of Horizon Mortgage. "Those developers who have experience and know what they are doing and have good management teams will be able to close and complete their transactions. It will be very difficult for marginal developers."
The volume of transactions as reported by the HBI TransActions Data Service was significantly lower last year than in 2007. According to HBI, 481 single hotel asset sales were brokered in 2008, versus 736 the year before. Total value of the sales was less than half ($9.8 million in '08 versus $21.9 million in '07) and the sales price per room was down: from $117,000 in 2007 to $99,000 last year.
While the transactions cover all property types, midscale without food and beverage showed the most activity with 139 sales averaging $81,000 per room. Next was the upscale segment, where 113 properties changed hands at an average purchase price of $123,000. 2008 was a tough year to sell a luxury hotel, as just nine properties changed hands. Average property in the segment to sell had 212 rooms and sold for $453,000 per room.
More than 50 lenders participated in this year's survey. About half are mortgage brokers or bankers, with the remainder from national and regional banks, investment banks, SBA providers and other lending institutions.
Three-fourths of those surveyed have reduced the number of hotel loans they've underwritten in the past 12 months. Despite that environment, all of those surveyed say they finance acquisitions or renovations. Nearly all (95 percent) extend loans for the acquisition of underperforming or turnaround properties. Most (85 percent) do refinancings, while fewer (65 percent) fund new-construction projects. As one lender said, "There's very little money available for new construction, and then only under the best of circumstances." By contrast, last year 96 percent of respondents said they provided funding for new development.
Both full-service and limited-service properties are the preferred property types for nearly all of the lenders in the survey. Eighty-five percent also say they'll finance extended-stay hotels. Last year, about a quarter of the respondents said they finance timeshare properties. This year, only 10 percent will work in that segment, a reflection of the difficulties the vacation ownership industry is experiencing in this economic climate.
Upscale hotels have also fallen out of favor by the lenders. Last year, nearly every participant would lend for high-end properties. This year, it is 80 percent of respondents. Resorts, too, seem to be taboo, as just 55 percent of the money people say they lend is in this segment. (Last year, it was 77 percent of respondents.)
Very few lenders say they will finance older exterior-corridor properties or unbranded hotels.
All of the lenders surveyed provide permanent loans. Most (85 percent) provide acquisition and repositioning financing; three-fourths provide construction, bridge and mezzanine loans; 65 percent are providers of preferred equity financing; and 40 percent will lend money for product improvement plan and ff&e projects.
Here is a review of loan terms, pricing and requirements the surveyed lenders use in their deals:
• Loan terms range from two to 25 years, with five years the most common term.
• Amortization periods typically range from 20 to 25 years.
• Debt coverage ratios are typically 1.2 to 1.5.
• Loan-to-value ratios range between five and 75 percent. Last year's respondents reported LTVs ranging from 75 to 90 percent.
• Most lenders offer both fixed- and variable-rate loans and loans that are prepayable.
• Most lenders (80 percent) use trailing 12 months of operating data when computing debt coverage ratios. Several say they also use a property's previous year's profit and loss or a rolling 12 months and a calculation for future stabilized years. Also typically included in the underwriting are anticipated renovation expenditures, reasonable proformas and future stabilized years.
• While 65 percent of respondents say they extend non-recourse financing, it's generally available only for strong borrowers with stabilized properties. A typical comment came from Cameron Larkin of Larkin Hospitality Finance: "More than any other hotel loan term today, personal guarantees have come back into fashion as a result of the current credit crunch. Borrowers must expect to sign up for full personal guarantees in order to get a deal done today."
• While last year a majority of respondents said the loans they originate are assumable, just a few lenders say it is possible today and only if the buyers/borrowers have financial strength and hospitality experience.
• About two-thirds of lenders will write new-construction loans that can evolve into permanent financing.
• Typical loan packages required by the lenders include an appraisal, a phase 1 environmental and engineering report and in some cases, a feasibility report.
By some estimates, as much as $3 trillion in capital in sitting on the sidelines waiting to go to work once the economy stabilizes and improves. Most hotel real estate professionals believe a number of roadblocks need to be removed before that capital can be deployed as either debt or equity.
"First of all, the government must play out its hand. It's got to decide how to reestablish trust and liquidity and then get out of the way of the markets," said Bruce Lowery, senior vice president of Capmark Finance at the Hunter Conference. "Then housing must stabilize and unemployment must peak and reverse itself."
Still, some of those surveyed are reasonably optimistic that a turnaround in the economy and the lending climate is not that far off. Cameron Larkin of Larkin Hospitality Finance believes "2009 will surprise us on the upside, with both the economy and markets doing better than we expect. A lot has to happen just right at business and government levels for this to occur. But we've been fearful long enough; it's time to get some of our swagger back."
As far as timing of the rebound goes, many see next year or even 2011 as the turnaround year. Adam Valente of RockBridge Capital sees opportunities in the second half of this year as more investors put their now-dormant capital to work.
"Transaction volume will pick up in the first half of 2010 as property owners are forced to refinance existing loans and as bad loans are exposed to the market," he said.
Greg O'Stean of GE Capital takes a more academic approach. Speaking at the Hunter Conference, he said, "The root word of credit is credo, or I believe, but today no one is believing. The turnaround is coming, but right now no one knows when it will happen."
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