Brokers report

Hotel Business spoke with Steve Albis, founding principal, CAS Associates Inc.; Charlie Fritsch, president, MBA Hotel Brokers; Peter B. Holmes, COO, HotelBrokerOne; and Gilda Perez-Alvarado, global CEO, JLL Hotels & Hospitality, for their takes on what 2022 looked like for the transactions market and what is in store for the coming year.
—Gregg Wallis

There were a lot of questions coming into 2022 about what the transactions market would look like. What are your thoughts on the year that was?
Albis: It has been a very active year throughout the industry. In spite of the aggressive rise in the prime rate, our number of transactions and sales price volume pretty much mirrored our results in CY2021, which we believe was a banner year for sales transactions for hotels.

Fritsch: From our perspective, and what we have seen in hotel transactions, the number of hotel sales is still significantly down compared to 2019. While financing is still available, lenders have become more cautious, and some of them will not finance hotels that were not profitable in 2020 and 2021, and will not include PPP funds as income. In my view, the PPP loans that were forgiven were made by the government to provide some life support, and therefore the PPP loans were a meager substitute for what the normal revenue would have been at hotels and so the PPP loans should be accepted as revenue where appropriate as a replacement of revenue.

Not underwriting with PPP loan revenue means many hotels will not show sufficient debt service coverage for 2020 and 2021. This has had an impact in restricting some sales. Also, some markets are still struggling to recover to 2019 RevPAR even though national averages may now be above 2019 RevPAR due to ADR growth or inflation.

Holmes: 2021 as a general deal climate had a good bit of “rolling the dice” perspective to purchase valuations, whereas 2022 had a more “back to traditional metrics” deal vibe for the first three quarters. In the Midwest, the first quarter had a good deal of investors waiting to see what the tide brought. The next two quarters were deal volume increasing at an exponential rate. This final quarter has a little bit of a “last man out turns off the lights” feel.

The rising cost of borrowed capital definitely has the majority of larger corporate investors concerned. The more speculative, entrepreneurial, single-party or small group investor remains active and will always remain present in virtually any market. There is a lot of capital from both major investor types trying to deploy by the end of the year. This is definitely evidenced by the number of the major and minor transactions that have occurred in recent weeks and will close in the next 30 days (year’s end).

Our firm has more than half a dozen closings, including one REIT-owned portfolio, scheduled to occur by the end of 2022. We are also expecting several smaller “mom-and-pop” purchases will sneak in within that same time frame.

Perez-Alvarado: This was clearly a year of two halves, with H1 being extremely robust and, in fact, the market expected for 2022 to meet or exceed 2015, which was the last peak transaction year.
H2 has remained robust given strong hotel fundamentals; however, uncertainty surrounding the debt capital markets and the broader economy has resulted in a deceleration of transaction activity. We remain very encouraged by the quality of assets that have transacted, the amount of capital available for investment and the fact that some of the most iconic trades have been made by long-term investors who have strong conviction in the sector, namely family offices and U.S. publicly traded REITs.

What do you think the pace of deals will be in 2023? Do you think that fears of a recession are accurate?
Albis: It’s reasonable to anticipate a slowdown in the pace of deals due to the continual rise in the cost of debt; however, we believe creativity in both structuring the transaction and the continual assistance from the hotel lender market, as we have seen in the last few months of 2022, will help the industry to transact in a positive direction in CY2023.
I believe “fears of a recession” is accurate in our country; this is solely based on the Federal Reserve’s aggressive interest rate hikes since March of this year and most likely shall moderately continue through 2023.

Fritsch: As inflation continues and the debt markets raise rates on hotel loans, we will see a decrease in hotel transactions, and a decrease in valuations in 2023. The U.S. is already in a recession which has not had an equal impact on all industries. This year, the hotel industry is benefiting from a rebound of pent-up travel demand from 2020 and 2021. When that subsides, we may see the effect of a recession on the industry take hold.

I have high hopes for the hotel industry in the longer-term, but larger economic, currency and geopolitical disruptions may be felt in 2023 in the near-term. I see many unknowns in those larger global factors to accurately predict 2023 for the lodging industry.
Perhaps the best advice is to be prepared for unexpected disruptions, such as travel obstacles, selective economic hits, labor challenges, capital markets upheavals, power outages, weather anomalies, etc.—which means have a larger capital reserve and contingencies in place to deal with these challenges.

Holmes: Back to my dice analogy, 2023 is a crap shoot. I believe there will be some residual closings occurring in Q1, but I definitely think there is going to be a wait-and-see approach on new transactions. It seems highly likely that we are headed for at least a minor recession, but anyone who says they can predict that with absolute certainty is lying. To the extent that a recession would significantly impact our industry is also unclear.

The tremendous amount of hospitality space liquid capital that is still sitting unspent will want to go somewhere. This assures that at least some level of steady deal-making should continue in 2023 regardless of a recession. We are already seeing a great many tired owners that are willing to entertain more creative ways to sell their properties.

I would anticipate a greater number of $10 million and under deals with owner financing and SBA lending returning as more prominent capital sources. With a better than 50/50 chance that we see at least one additional rate increase, these cheap cash drivers of the last decade are starting to be more reticent to jump so aggressively into deal competition and are offering financial metrics that will scare a good number of investors off.

My gut instinct is that 2023 may be a tough year for overall small-deal transaction volume. However, with many larger deals desperately needing to either refinance expiring debt or seeing large amounts of pandemic-deferred product improvement finally come to bear, deal volume at the top of the market will likely continue at a strong clip.

Perez-Alvarado: We expect for the pace of deals in 2023 to accelerate. We are starting to see a growing number of stressed and distressed situations underpinned by rising debt costs, impending interest rate cap renewals, a significant number of loans reaching maturity, fund life issues and CapEx needs. Whilst the likelihood of a recession remains elevated, we continue to be strongly committed to the sector and are encouraged by our current pipeline, both domestically and abroad, as well as overall investor appetite for lodging assets.