‘We’re optimistic’: Why capital constraints aren’t stifling these execs

When discussion during an asset value panel at ALIS was about being “cautiously optimistic,” Richard Stockton, president and CEO of Dallas-based Braemar Hotels & Resorts, said he disagreed.

“We’re not cautiously optimistic. We’re optimistic,” he said. “That’s everything I’ve heard over the last two days. I can’t find something negative. It’s lower interest rates, RevPAR is growing and supply is constrained. Maybe there’s some margin pressure, but much of that has already been felt. We’re pretty optimistic looking forward.”

Stockton said although cap rates have widened and the cost of capital has increased, he’s also optimistic about both in 2024.

Maybe there’s some margin pressure, but much of that has already been felt. We’re pretty optimistic looking forward.

Richard Stockton

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“The good news is there’s an anticipation interest rates get cut. And it’s not a direct correlation, but there’s going to be some reduction in cap rates, coincidentally,” he said. “Now, how do you see that happening in terms of valuation? It is when people are underwriting hotel acquisitions and when the broker community is doing BOVs (broker opinion of values). You’re showing cap-rate compression. So, terminal cap rates are lower than initial cap rates. That’s not something we’ve seen for a long time, and that’s encouraging too.

“We are in this temporarily inflated cap rate environment. It makes it a pretty good opportunity for buyers if you can get access to capital and if you’re willing to believe that debt costs will decrease.”

Stockton was part of a “Boardroom Outlook: Assets” panel on the third day of the ALIS conference. The panel also featured John Murray, president and CEO of Newton, Massachusetts-based Sonesta International Hotels Corp.; Chris Ropko, CEO of Germantown, Tennessee-based McNeill Investment Group; and Ben Rowe, managing partner of San Francisco-based KHP Capital Partners. The panel was moderated by Bill Grice, president of CBRE Hotels.

Entry points to leisure

Rowe said before the pandemic, KHP Capital Partners had begun looking at selling some of its higher-performing leisure assets.

“We were worried that there was more downside risk to performance, given the expectation that leisure travel patterns would normalize. We also saw a ton of capital chasing those opportunities and driving up valuations,” he said. “Fast forward to where we are today. You have seen many of those markets pull back to some degree, and you’ve also seen valuations impacted by the cost of capital. So, that entry point to the leisure side is starting to get a little more interesting.”

Rowe said the company’s primary focus right now is on urban assets. “We like buying high-quality assets in good locations and markets that we have conviction in for the intermediate to long run, particularly those that need a renovation, where we can do something transformative that creates value,” he said. “We can buy assets today that we probably wouldn’t have been competitive on previously because a lower cost of capital buyer would have been the logical buyer for something of that quality.”

Cash flow is king

For Sonesta, Murray said cash flow is key for its assets, even in today’s capital market. 

“You need to think about what you can do with your cash flow,” he said. “If you can do a renovation, then you can try to transform an asset. You can change your management team. Maybe you realize something’s not right with the revenue management or the group sales process. 

“You need to believe that you can transform the cash flow of the asset. If you’re investing and betting on better rates, that could blow up too easily,” Murray said. “It needs to be a good asset and a good deal. Then, you factor the rates into the capital markets and the underwriting. But primarily, it has to be a good asset, or you need to be able to make it into a good asset. Otherwise, rates don’t matter.”

‘Secular shift’

Ropko said we are currently in a time of great change for the commercial real estate industry, hospitality included.

This is a 10-year unwind, and we are literally in the middle of probably the largest secular shift in the commercial real estate industry... Hotels have had a direct result of success because of the downfall of what’s happening in the office sector.

Chris Ropko

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“This is a 10-year unwind, and we are literally in the middle of probably the largest secular shift in the commercial real estate industry,” he said. “It’s driven entirely by the pandemic. Look at the office sector. Look at vacancies. Hotels have had a direct result of success because of the downfall of what’s happening in the office sector.”

Ropko wished there were good data to corroborate his statement, but “we all see it every day.”

“You can’t put your finger on it. But you know what’s happening,” he said. “You’re not taking a one-week vacation. You’re taking a four-week vacation. One week is vacation, and three weeks is work, but you’re working from a hotel room on the beach. It’s a very real phenomenon.”

Ropko also thinks that when capital markets improve, distressed assets may not manifest themselves as people think they will.

“Those that are in distress, we know where all those skeletons are buried,” he said. “It’s a result of the secular shift. San Francisco, LA, New York, Chicago, look at all those urban city centers, it’s already happened. It’s already manifesting itself.”