Abundant capital available in market, select-service leads deals

NATIONAL REPORT—Opinions varied when Hotel Business reached out to some leading brokers to get their take on where the transactions market is now—and where it’s going. Paul N. Arena, president of Vauxhall Advisors in New York; Peter B. Holmes, COO of HotelBrokerOne in Oklahoma; and Keith Thompson, principal with Avison Young in Georgia, provided insight on who—and what—is driving activity, whether it’s a buyer’s or seller’s market, what to expect in the future, and more.

Paul N. Arena
Vauxhall Advisors

How would you characterize the transactions market in 2018?
Arena: We see the transactions market as more open this year. We still have a few months to go, though predictions in 2016 and 2017 that the sky was falling have turned out not to have materialized.

Part of this, we believe, is that discussions of a pending supply/demand imbalance failed to take into account (certainly in gateway cities like New York) the various qualitative tranches of hotels being built—that, for example, a limited-service hotel in Long Island City at a $200 some-odd ADR was not going to compete with a five-star luxury full-service hotel in SoHo at $650.
Holmes: 2018 is going to finish strong, but in certain markets there is definitely a lingering feeling that we may see greatly reduced activity in short order. There is a sense that the middle market continues to shift toward buyers, and that we could be facing a much slower acquisition market in the near future. Buyers are exhibiting a more disciplined approach and holding closer to their established purchasing criteria.
Thompson: It’s very different than recent years. The three months after the ALIS conference, most lodging stocks took a deep dive and caused most of the REITs to pull back on acquisitions. Over the months of May, June and July, the hotel public company stocks rebounded and public equity returned to the market. Transactions in the last two quarters of 2018 are expected to be brisk due to stock rebound, available debt and compression on seller/buyer spreads.

What do you see driving activity?
Arena: Number one, the abundance of capital in the market seeking assets. We are actively raising equity for a number of seasoned managers entering the hotel space in a more formalized way, seeking platform entity-level investments. Two, hotel lending has opened up somewhat beyond where it was just a year or two years ago. What this means is that lenders are more confident regarding hotels’ prospects given the current and forecast macroeconomic outlook. More debt is available, though underwriting remains tight and the leverage is not cheap.

Peter B. Holmes

Holmes: A great many sellers are realizing they may have waited too long in the cycle to take profits. This is leading to a lot of hotels coming to market and a sense of not wanting to miss the boat. At the same time, there are a great deal of buyers who are sitting on tremendous amounts of capital. There are a substantial amount of deals being made with both sides having reasonable expectations.
Thompson: The hotel public sectors have rebounded back to pre-January 2018 pricing levels and the competition for deals has increased. Today, there are still good long-term hold investments, which seem to be leading the way in the transaction market.

Who has the advantage right now: buyers or sellers?
Arena: As former managers, we believe you make your money on the buy. That said, there is firm demand for hotel assets in most markets. We’re seeing strong interest on the part of operators seeking value-add and opportunistic plays, though the (potential) sellers of these assets are pricing to aggressive caps (cap rates).
Holmes: It truly depends on the quality of the product. Top-quality hotels are definitely still a seller’s market; less attractive brands, older product and less desirable markets are definitely a buyer’s market. The market in general is definitely leaning toward buyers. I would expect a much more opportunistic group of buyers to step to the fore in 2019.
Thompson: Sellers. There is more equity chasing investments than available investments. We see this changing within six to eight months.

What hotel segments do you see exhibiting the greatest churn?
Arena: Limited- and select-service, as they are the more commoditized among the property segments.
Holmes: It is still the mid-market, select-service brands that are creating the greatest deal volume. Larger owners are selling off historically desirable brands, which are older boxes that may have a limited future within the brand. These hotels may have been acquired over the past 60 months, many in portfolio-type purchases. Entrepreneurial, smaller buyers, especially those looking to upgrade their portfolio, are purchasing these hotels in lieu of attempting to build in what may be an already oversaturated hotel market.
Thompson: Hilton, Marriott, Hyatt and IHG brands seem to be driving the most demand, while all segments are trading well. As with every cycle, when big money is investing in the space, all other segments seem to follow.

How would you characterize valuations in 2018?
We see the asset class as fairly valued, overall, though as we’ve mentioned, sellers of underperforming or sub-performing hotel assets aren’t looking to leave anything on the table. This can cause a dislocation between sellers and buyers, not dissimilar to what is playing out in multifamily in many markets.
Holmes: Valuations throughout most of the U.S. have seen a marked decrease. Top 50 targets remain reasonably strong and second-tier cities are not decreasing, but geographically, the vast majority of the small market, interstate, drive-off hotel products are seeing significant declines in value. This seems primarily driven by the number of high-quality hotels available in tighter density, demand-driver heavy markets.

Keith Thompson
Avison Young

Thompson: On par with 2017, with cap rates at or equal to what we were seeing in 2017.

What do you see people coming to buy/invest in?
Our focus as a firm is full-service, unflagged, independent hotels, and we are seeing more institutional interest in these assets. It is notable that the last two to three years have brought greater recognition that the relative performance of the full-service, unflagged independent hotel asset can equal or, in many cases, as our research shows, outperform flagged hotels. We transact globally, and are working with some of the large vacation clubs seeking assets in important travel destinations throughout Europe in locations that offer important cultural and experiential themes.
Holmes: If history is an accurate indicator, we may see a short stagnant period while the industry adjusts, but buyers are buyers in every economy, in every cycle. I think we will see a great many strong, well-capitalized investors looking to take advantage of the large amount of product that should be on the market over the next year or two. This should be at every level of industry. The market will see older, full-service hotels reposition and smaller, roadside properties scooped up by opportunistic groups. The typically desirable brands and markets will always remain solid investments, and the metrics won’t change dramatically. I do think there may be a substantial increase in the volume of older hotels acquired specifically for demolition and land value, and at least a slight increase in adaptive-reuse where financially realistic.
Thompson: Assets with existing yield or conversion assets that can be up-branded. HB

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