The CapEx cliff and the misalignment between brands, owners

ATLANTA — Mit Shah said for people like him who have been in the hospitality investment business for a long time, “choppy” credit markets are nothing new. But he said there is a more pressing crisis currently.

“This CapEx and renovation situation that has been talked about at every gathering is real, and it’s meaningful because demands [from brands] are coming back,” said Shah, founder and CEO of Atlanta-based Noble Investment Group.

“In private conversations, all of our friends at the various brands are really trying to figure out how to renovate these hotels,” he said. “There are also a lot of owners in this business who are later in their careers and their stages of ownership, and they’re either passing it down to their kids and their families, or they’re just exiting the business. You know, no more cycles left for me.

“That’s the reality of the business that that we’re in.”

The “Wall Street Talks” session was on the first day of the Hunter Hotel Investment Conference in Atlanta. The session featured Shah, Scott Treblico, senior managing director for New York City-based Blackstone and Shai Zelering, managing partner of real estate for Toronto-based Brookfield. The panel was moderated by Suril Shah, CEO and managing partner for Venice, California-based Riller Capital.

Shah said there is an uptick in deal and development opportunities, but they are more expensive now.

“All of us who have been in business for a long time know the combination of choppy credit markets — certainly much more expensive credit markets — and debt availability. So that’s the good news, but it’s just far more expensive,” he said.

If you’re a holder of an asset that is tired and is starting to slide in terms of market share because of the condition, you have a choice to make. There’s going to be a lot of transactions driven by the condition of the asset, and obviously the maturities or the debt load. It’s going to be interesting to work through that.

Shai Zelering

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Shah said those opportunities also look much different than in the past. “We believe that there will continue to be an uptick in opportunities,” he said. “We’ve bought, historically. That’s the vast majority of what we’ve done. But we’ve also found over these last couple of years the ability to put new capital into existing partnerships and allow them to deal with some of these structural issues on the CapEx side or to pay down loans to get from point A to point B. We do it as a real partner and perhaps provide them with more capital on the backside so they can grow their business… Our core focus continues to be [traditional] investing, but we’re also playing it in a couple of other different ways based on what the current marketplace is.”

Coming CapEx and brands

Zelering said the CapEx situation is complex for the brands. “The reality is, I think [the brands] are speaking from both sides of their mouth because, for their analysts, they need to show net yearly growth. So, what are they going to do, get those units out of the system and work twice as hard to get net unit growth?” he said. “It’s a little bit of a game of chicken going on because the reality is that the brands need the units, and at the same time, they have to take a reasonable approach, given that FF&E reserves have been depleted through COVID.”

Still, Zelering said he thinks the situation will be an accelerator of deals. “If you’re a holder of an asset that is tired and is starting to slide in terms of market share because of the condition, you have a choice to make,” he said. “There’s going to be a lot of transactions driven by the condition of the asset, and obviously the maturities or the debt load. It’s going to be interesting to work through that.”

Zelering said it could force some hard decisions for owners. “Depending on the asset, do you change the brand? Do you go unbranded where applicable? I think that is going to be the story told in 2024… The brands are taking a hard stance, but the reality is clear.”

Treblico said there needs to be a more open dialogue because there is a lot of misalignment between brands and owners today. “It’s never made sense to me why you could own a Residence Inn that produces a $70 RevPAR that gets the same PIP as a Residence Inn that produces a $180 RevPAR,” he said. “We’re all focused on return on capital; [the brands] are not. That’s not a relevant metric for them. The escape valve they’re creating for themselves is these other soft-branded alternatives where they can say, well, if you don’t want to do that, you can become part of [this brand]. There’s your alternative, and your RevPAR impact will be less than if you go completely out of the system. I’m not sure that’s the right answer.”

Misalignment between brands, owners

When asked to drill down on the misalignment between brands and owners, Treblico pointed to the stark difference between the value of publicly traded hospitality companies versus REITs over the last 10 years.

“The conversation was slightly different when [the brand companies’] stocks were at $50 instead of $300. Today, they’re a little more empowered to do as they please,” he said. “I was looking at a stock price chart the other day, and the dichotomy between the value creation for shareholders of the C-corps versus the value destruction of the hotel REITs is astonishing. The C-corp’s are up 300% over the last 10 years, and you’d be hard-pressed to find a hotel REIT that’s produced any positive shareholder return over that same period.”

When we wake up in five years, I think it may not be the ticker [MAR for Marriott International Inc.], but maybe BOY because the whole thing has been renamed Bonvoy, and it’s a travel ecosystem, not a hotel business.

Scott Trebilco

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Treblico said the difference could come from having disparate priorities. “You know, we’re all friends, but we’re not exactly focused on the same outcomes. When you look at what [the brand companies] are doing, they’re aggressively entering the midscale and extended-stay space, and it’s great for their businesses with massively higher returns on capital. Developers love those brands. Existing owners don’t love that happening.”

Treblico said the biggest brands are getting bigger, and owners have to figure out where they can land, especially with MGM customers having access to the Marriott Bonvoy loyalty system and AutoCamp’s customers having access to Hilton’s Honors loyalty system.

“You have to figure out where you want to play in the ecosystem where you might be a winner and where you might be a loser,” he said. “With this evolution of the businesses now, I’d say beyond traditional hotels moving beyond traditional contractual relationships, with things like the MGM and AutoCamp deals, raises questions. They’re introducing them into the ecosystem to get the benefit of those 200 million members, but they’re not creating the same burden or obligation on those folks for brand standards for operating standards for PIP compliance. In that situation, who wins and who loses?”

Treblico said he thinks, ultimately, loyalty programs are going to be what’s driving the brands. “When we wake up in five years, I think it may not be the ticker [MAR for Marriott International Inc.], but maybe BOY because the whole thing has been renamed Bonvoy, and it’s a travel ecosystem, not a hotel business.”

Zelering said he thinks the days are gone when brand companies have nine umbrellas, each with 10 to 12 different brands. “I don’t think you can slice the demographic 50 ways to satisfy all these brands,” he said. “We should start referring to them as credit cards because you’re going to have your credit card that gets you points with Hilton or Bonvoy, and that’s the ecosystem that that we have. The illusion of the value of the brand has been quite systemic in the past 10 years, but there’s very little distinction between the brands, and as a matter of fact, what the consumer is leaning towards is more independent. That’s where the growth is, in luxury independent.”

Zelering said it will be interesting to see how owners grasp with cost pressures in the coming years “while the stock market continues to reward the [brand companies].”

Shah said it’s clear that brand companies are focused on being multi-brands. “They’ve said in their proxies and the like that they want to provide experiences for their loyalty customers at every step of their journey, whatever that might be. So I don’t think that we should be surprised that, in five years, Marriott has gone from just Ritz-Carlton Cruise Lines to perhaps Autograph Cruise Lines that competes with Royal Caribbean,” he said. “What you’re seeing is this metamorphosis of our hotel industry. Maybe the Hunter Hotel Investment Conference will be renamed to something else because it’s not just going to be hotels; it’s going to be everything in a travel experience and leisure area… Gone are the words, ‘You’re just using hotels.’ So that’s something that will be important to watch as this goes forward.”