Inflation, recession fears curb lenders’ enthusiasm but strength in other key indicators keeps their overall outlook positive.
Concerns about inflation and recession eroded Caribbean hospitality lenders’ confidence in the Caribbean tourism sector by 10% from 2022 to 2023 but they haven’t dampened lenders’ optimism about the region’s resiliency nor the opportunities ahead, according to Baker Tilly’s “Caribbean Hospitality Financing Survey 2023.”
In fact, “Negative comments were largely restricted to global economic factors, most notably inflation and, to a lesser extent, the prospects of a recession,” Gary Brough, managing director, Baker Tilly, said in his plenary session presentation on the survey results at the CHRIS - HOLA conference held last month in Miami. Responses to most survey questions were overwhelmingly positive, so it was not difficult to identify what caused the downturn in confidence levels. Only 10% of respondents said they were not worried about inflation.
Taking a closer look, survey data revealed that non-bank lenders continue to be somewhat more optimistic than banks. On a scale of 1 to 10, confidence levels among non-banks edged down from 8.31 to 7.47 in 2022 versus 2023, while banks’ optimism faded from 7.40 to 6.64. Non-bank lenders were generally less likely to lose sleep over inflation, with only 26% of respondents describing themselves as “very concerned” about inflation versus 45% among banks.
Although this double-digit slowdown makes for a good headline, it requires context to evaluate its real-time effect on Caribbean lending, Brough said. He pointed out that a slowdown was “inevitable” after the “unsustainable” confidence barometer high of 8.96 and 8.31 in 2021 and 2022 respectively.
Another mitigating factor was the banking scare sparked by the collapse of Silicon Valley Bank, among others, which, Brough said, “almost certainly contributed to the downturn in confidence levels” over nearly 10 days of survey data collection.
Lenders’ “worry global” outlook did not limit their “prosper local” planning. Half of the respondents described their current approach to lending for tourism industry projects as “business as usual.” Roughly a quarter of non-banks classified themselves as bullish, calling this, “a great time to lend.” Most borrowers would mirror that view. As Brough pointed out, 73% are taking higher interest rates in stride.
Impact on loan types, asset classes
Bridge loans and restructuring topped lenders’ to-do lists, the “what” and “where” is subjective. Tied at 27% of respondent banks’ primary lending activity over the past 12 months, the two may have to make way for refurbishment, renovation and even some newbuild funding over the next year.
Where will that money go? By type, opinions vary. Villa developments were top of mind for some, well-priced beachfront acreage for greenfield development took precedence for others and some just wanted to mitigate risk with asset-light investments, likely in the luxury sector.
“Post the Apple Leisure Group transaction [acquired by Hyatt Hotel Corp. in a deal completed in 2021], all the big brands are getting into the all-inclusive space. Eyebrows are going to go up now, but many respondents said the market might be getting saturated,” Brough said.
If that's the next trend, how can this crowded sector evolve? “Maybe that will look like a bit of competitive tension or maybe it will more of a hybrid take on all-inclusive,” he said in a follow-up interview with Hotel Investment Today (HIT). Brough added that the space is an evolving landscape.
Nearly half (45%) of banks said they were “increasingly engaged” in deals involving all-inclusive resorts. Banks’ current dominance in the sector make the just 15% of non-banks who said the same unsurprising.
Eyebrows are going to go up now, but many respondents said the [all-inclusive] market might be getting saturated.
Gary Brough
Banks, non-banks on hot markets
When it came to which countries lenders were most willing to invest in, banks and non-banks had overlapping but not identical answers. Banks identified Barbados and the Dominican Republic as the clear winners. Those were more in the middle of the pack for non-banks, who preferred Cayman and Turks & Caicos. The latter, along with Trinidad and Tobago, represented a passing but not excellent choice in the eyes of banks.
Anguilla, the British Virgin Islands and St. Kitts and Nevis left banks cold. Non-banks put Curacao at the bottom of the list. Aruba, the Bahamas, Jamaica, St. Maarten, St. Lucia, St. Vincent and the Grenadines avoided the highest and lowest spots for all respondents.
How investor caution will play out
Brough noted that the average 60% LTV has not changed since last year’s survey. Interest rate margins are around 397 basis points above SOFR. “What we are seeing, though, are tighter financial covenants, such as technical completion reserves for cost overruns on construction and dividend distribution restrictions regarding debt service coverage ratio (DSCR).” One survey respondent noted that they typically ask for a 10% technical completion reserve and a 12-month financial completion reserve.
Regional lenders remain pivotal
Survey results reflected a robust mix of institutional lenders in the region. That’s a positive factor, but as a footnote, there may be a feeling that regional lenders are being overly relied upon.
Brough told HIT that he doesn’t see a clear answer as to whether this is this case. “What is clear is that regional lenders are critical and local knowledge is invaluable. The reality is that if a project is good enough it will get funded. All financiers will recognize and support it, regional or not.”
The hazier areas tend to arise around the edges where, for example, there may be no track record for the developer in the region or for their traditional financiers, etc. “Our findings on syndication may not be earth shattering, but they are positive,” he said. “They may provide one potential solution if indeed there is an overreliance on regional financiers. There are non-regional funders who are close to lending in the region but who would prefer to just dip their toe in the water initially and the syndication route with a regional financier may work for them.” Nearly 18% of respondents said they were engaged in more syndicated transactions than before the pandemic - a good number despite its size due to the historic rarity of such deals.
Expect a varied crop of new investors
“The region tends to be considered a higher risk, higher return opportunity for new investors and as some of that perceived risk is mitigated [such as by syndication] then the likelihood of new investment increases,” Brough told HIT. In the survey, a majority of banks (64%) and non-banks (58%) agreed that the region’s risk profile had improved enough for new institutional investors to put on their radar.
In 2023, who does Brough think will be the next wave of new investors? It’s a multiple-choice question. “So the new investors could be identified by geography or by the structure of a deal. Potential new investors represent a wide spectrum.
That spectrum may have shifted in the last 12 months. The 2022 survey predicted that family offices, drawn by post-pandemic opportunities, would become more numerous players in the region – something only 36% of banks actually saw happen in 2023. Brough noted that part of this may be attributable to high-net-worth individuals investing directly as opposed to through a formal family office. It may also reflect a genuine plateau of interest, but for now it’s a wait and see question.
While respondents may have been reluctant to get out the crystal ball to ID new investors, 64% of them were convinced that the Caribbean would be more attractive now than it was before to investors who might not have even considered it previously. That’s just one among many positives, as Brough noted. “There’s lots of M&A activity and JV opportunities.” Respondents also remained bullish overall on the real estate market, with just 5% saying the bubble has burst.
Brough closed on an upbeat note. He pointed to survey findings that both banks and non-banks see real estate prices staying stable or rising over the next 12 months.