Hunter
Conference panel maps out insider tips for getting deals over
the finish line in part one of Hotel Investment Today's report.
Finding deals, financing deals and finessing their upside in today’s business climate is tough to say the least. But deals are getting done, and you don’t have to be a Blackstone or a Brookfield to make sure you get your fair share of opportunities.
Industry experts drilled down on how to get access to debt and equity in part one of Hotel Investment Today's coverage of the “Structuring deals for success” session at the Hunter Hotel Investment Conference held last week in Atlanta. Moderator Greg Remeikis, partner, CohnReznik LLP, led the deal discussion with panelists Ben Brunt, managing principal, chief investment officer, Noble Investment Group; Nelson Knight, president, real estate and investment, Apple Hospitality REIT; Brian Waldman, chief investment officer, Peachtree Hotel Group; and Mike Wilbert, managing director, Mission Hill Hospitality.
Here is their walkthrough for what works in a market in flux.
1. Liquidity is critical. With any given day bringing headlines about a bank collapse or a 25-bps bump in interest rates, lenders want the assurance that the borrower can double down if they have to put more capital into an asset. “There's a lot of debt maturing, and different lenders are taking different approaches as to how they're going to handle that,” Waldman said. “In majority of the cases, we're seeing that lenders are going to want something. They're not just going to let you extend. There might be a pay down for the extension. There might be additional reserves. There might be recourse. You have to have the ability to do that whether or not your loan requires this or that reserve.” And, you need to demonstrate the deal makes fiscal sense on its own, building the lender’s confidence that the asset can work through the current economic environment from a debt perspective.
2. Lower your leverage. With no end to market volatility in sight, panelists recommend a pull-back even on conservative levels of leverage. That may be more significant for borrowers who have relationships with regional banks as some of those banks leave the market, forcing the borrower to start a fresh hunt for debt. Lenders still in the hotel sector may shut down further lending to the hotel sector and close the door to new clients. “Lenders today are less inclined to take risk because of the macro market,” Wilbert said. “So, they want to see a double-digit number in place today or in year one.”
3. Loan terms may depend on where you’re playing in the capital stack. “If you're going to a balance sheet lender at 50%, and you're putting up recourse, that's going to look really different than going to a debt fund where you might need 65%,” Waldman added. “What we're seeing across the board from a lending perspective is that many lenders are de-risking, which means that they can take on better credits and stronger sponsors with less risk and lower LTV and get paid better for it. So, everything kind of pushes down from there.”
4. Development deals still make sense. Here’s how. As consumers move out to secondary and tertiary markets or at least travel to them for leisure, development costs get lower. Lower price tags for recent trades in these markets may also help deals pencil out. Time may be the flex factor. “We have two projects in the leisure sector in very diverse weighted markets,” Brunt said. “Our construction-period interest may be higher than we originally underwrote. But that is not going to prevent us from developing in this environment.”
We’re considering urban markets...because corporate is coming back.
Brian Waldman
5. Shop urban markets to find undervalued assets. Drive-to leisure destinations delivered strong performances during booms and busts, especially for extended-stay assets. But too many investors knew that, fueling competition that sent pricing out of reach for many. “We love select-service, but we’re moving away from drive-to leisure destinations. We’re considering urban markets that have been overlooked because corporate business is coming back now. From an investment perspective, I think you're starting to see more interesting opportunities there,” Waldman said.
6. Underwriting is becoming more selective. “I don't think our collective return thresholds have changed much or that we're underwriting any less than we would have a couple of years ago,” Wilbert said. “I think what is changing is that we're being more selective regarding the assets we're pursuing and the time we're spending on those assets. When we're talking about the cost of capital and equity, we’re all underwriting similar products as in-place yield, and then there's exit value reversion cap rates. There's more of an emphasis on ‘What's your exit cap in five to seven years?’”
There's more of an emphasis on ‘What's your exit cap in five to seven years?’
Mike Wilbert
7. Explore alternatives such as takeouts. Development takeouts play into Apple REIT’s bullish development strategy. “We essentially leverage the strength of our balance sheet with the local developer’s knowledge of the site and market and their relationship with their bank to secure financing [with a takeout and our balance sheet],” said Knight. "There’s a real tailwind for the industry in terms of supply. But to the extent you can find the right markets that have grown up to support the higher construction costs, I think it's valuable time spent today to explore those opportunities, because I think it'll pay off in the long run."
8. Look into less familiar financing layers such as CPACE (Commercial Property-Assessed Clean Energy). “If you're not familiar with CPACE, it's clean energy financing,” Waldman said. “It's an assessment versus a loan and it’s paid as an assessment on your property taxes. So if you're doing ground-up construction or a major renovation and it’s available in the state where you have the project, it could be a really good solution. Because of the way it's structured, the cost of PACE is significantly less than a measure of prep equity. So, we’re seeing it may actually help you bring down your cost of capital because in many cases, the cost of PACE is less than the cost your construction loans. That means you're able to effectively blend them in your array. However, your construction lender has to consent to it. What we see happening often is the construction lenders who consent to it will reduce the size of their loan. They consent to PACE being assessed in your property taxes in perpetuity. So as a developer, you're able to get more proceeds, and your lender is happy because they're able to shrink the size of their loan a little bit. It’s a win-win.”
9, Equity is sitting on the sidelines but be prepared for a flood when it returns. “I think a lot of people are afraid to jump too early,” Waldman said. “A lot of people say they'd rather jump late than early. But I think what typically happens is if you jump late, when you jump, everyone else is jumping at the same time. And all that equity comes back into the market. For us, as we look at our portfolio, and we look at different investments, I look at not only return, but what's the risk adjusted return, if I have an absolute down the middle deal, I'm taking on a lot less risk than if I'm doing something that has a heavy renovation or other complexities with it.”
10. Be proactive when it comes to potential supply chain issues. Construction loans are expensive, not impossible to get, but they require a lot more forethought (and the right market, brand and contractor). Even for renovations, “stuff” happens and it’s on investors to open that dialogue ahead of potential problems. “We haven’t formally had that discussion. We’ve run into challenges getting products delivered in time to complete a renovation. It’s certainly a rational discussion to have with your brand and your lender. It’s about everyone coming together to understand this is a tough time for delivering certain items,” Brunt said.