Development experts discuss why deals are getting done

LOS ANGELES — When talking about what it takes to get hotel deals done these days, Steve Michels, senior managing director at Berkadia, points to having a plan to make a change.

“The number one thing we’ve seen to get deals done is that there needs to be a lever or a real business plan and an opportunity to make something change,” he said. “Whether that’s a change of the flag or whether that’s bringing in some sort of expansion or something to do that really changes it from A to B. You can’t just say, ‘I’m going to paint the pig and then I’m going to sell it to the next guy.’ You really have to figure out a way to make something interesting.”

Michels was a panelist on the “Opportunities: Evaluating market conditions” panel on the first day of the ALIS by Northstar conference at the JW Marriott/Ritz-Carlton Los Angeles L.A. Live in Los Angeles. The panel included Kevin Dingle, chief development officer at Denver-based Stonebridge; Michael Harper, president, hotel lending, credit at Peachtree Group; Brian Patrick Murphy, CEO of BPM & Company and Valerie McCormick, senior vice president of development, portfolio relations & owner relations for Aimbridge. John Fareed, global chairman of Horwath HTL, served as moderator.

Michels said the debt space has become more crowded of late, which can benefit owners.

Now I think with the performance of a lot of hotels, CMBS is a very viable option. We’ve started to see the banks come back and we’ve also started to see life insurance companies enter the space again.

Steve Michels

“There are a lot of players in that market. What’s happened over the last 12 months, to the benefit of a lot of hotel owners, is that it used to be primarily post-COVID debt funds that were your primary form of lenders out there,” he said. “Now I think with the performance of a lot of hotels, CMBS is a very viable option. We’ve started to see the banks come back and we’ve also started to see life insurance companies enter the space again.”

That level of debt competition is going to drive down spreads and yields and could increasingly make construction financing easier to pencil, Michels said.

“That will ultimately lead to hopefully more lenders pushing into the construction space in order to get the yields they need to put out capital,” he said. “So that’s one area we’re keeping an eye on, in terms of it still needs to make sense from a development perspective and a low yield cost... But it is interesting that you may have more capital sources out there to finance some of these construction deals.”

Using CPACE in different ways

CPACE financing has become more common, too, Harper said.

“Historically, it’s been thought of as a new development tool, when there’s not as much debt capital out there,” he said. “It’s a long-duration, low-cost of capital tool that works as a tax assessment, rather than pure debt.”

What’s new, Harper said, is the different ways CPACE is now being used in the capital stack.

“What’s been most interesting over the last, really, four years since COVID, is you can retroactively apply CPACE. Over the last five years, everyone’s talked about rescue capital and preferred equity… and that’s been a really difficult thing to execute on, because nobody wants to stomach the pricing.

“CPACE can also be applied retroactively, and it’s been a great rescue tool, because what you might do is fund against improvements that were done in the last three years in a hotel that hasn’t ramped [up yet] and you are paying down your senior debt and funding some interest reserve… Everyone’s always thought of it as a development tool, but it’s actually worked really well as a rescue capital.”

Bullish on full-service

When the question came up about whether big box, full-service hotels are dead, McCormick said that while the rules have changed, there is still a huge need in that space.

People aren’t traveling the same, and there aren’t as many large corporate groups that are traveling in the same way. So you really have to get creative and make sure that there is revenue coming into those specific assets… it has to be a higher barrier-to-entry and it has to have multiple demand drivers.

Valerie McCormick

“I don’t think they’re dead at all. You’re going to have a lot of downtown markets and higher barrier-to-entry markets,” she said. “When you’re looking at those suburban boxes, what we’ve heard is, and we were having a conversation earlier today about this, is you really just can’t have this abundant meeting space in suburban markets because there’s just dwindling demand.

“People aren’t traveling the same, and there aren’t as many large corporate groups that are traveling in the same way,” she said. “So you really have to get creative and make sure that there is revenue coming into those specific assets… it has to be a higher barrier-to-entry and it has to have multiple demand drivers.”

Michels said he actually loves the idea of buying big box hotels right now because of the steep discount to replacement cost you can get.

“There’s a really interesting angle. We talked about basis. You can buy some of these hotels in major markets at a quarter of the cost to build today,” he said. “They’re not going to build anytime soon, not unless you have big tax incentives with a city that wants to incentivize a convention center hotel or something like that. You’re not going to see new supply in these markets. So there’s a really interesting story around: can you buy these things at a great number?”

The soft-brand debate

Discussion on the panel eventually focused on (as it usually does) on there being too many brands and the newer prevalence of more soft brands to help lure independents into big brand company’s loyalty programs.

Dingle noted that he and Stonebridge are fans.

“We love soft brands, even though there are too many of them. But it’s certainly just where things are directionally going with the Millennials and the demographics,” he said. “The nice thing about soft brands, too, is that there’s more flexibility on the renovation. Does it reduce the cost of the room? It definitely can. F&B requirements can be different and less if you don’t want to spend as much. You’ve got a lot of different options.”

Martin said the decisions on soft brands can vary dramatically from market to market.

“We love to talk about this industry in these nice, big brushstrokes, like it’s a watercolor and it’s not. We’re a mosaic, and it’s the micro that really defines it,” he said. “What may be a good idea for a soft brand in market A or B, because of the way the demand base functions in that market, would be suicide in market C.”

Martin said certain markets often dictate which brand is most important and what is essential to the client base.

“It’s being able to regulate the demand side to maximize revenue. There is no simple answer to that question,” he said. “There are markets where the person has to be there… there’s an expansion, a project plan or a hospital. They have to be there. That’s where your stronger brands tend to do better. Because I’m going there. I have to be there anyway, I’m going to stay at Brand X, because I’m going to get my points… Then there are the markets where people want to be there, and in those markets, that brand value, which 30 years ago was still paramount, has waned substantially.”

ALIS