Innovative Corporate Structures Drive Successful Hospitality, Hotel Valuation Remains Strong | Daily Business Review

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Corporate Structure Creativity Is Helping Hospitality Deals Get Done by David S. Cohen and Liam T. Krahe 

The challenges facing hotel owners with maturing debt as well as hotel investors and developers are significant. However, they are increasingly getting creative and finding alternative financing solutions. The current difficult market environment is giving rise to new opportunities in corporate structuring to help hotel developers, owners and sellers successfully overcome negative trends.

Regional lenders are the primary source for new construction loans for hotels and permanent financing. However, recent bank failures and the continued pressure on small and regional banks are resulting in tighter underwriting and fewer banks willing to book new loans. Additionally, rising interest rates are causing significant challenges for many hotel owners who obtained floating rate debt before the Fed’s series of aggressive rate hikes. Over the past 12 months, the cost of interest rate caps have substantially increased, often becoming cost prohibitive, and owners that obtained caps or collars before the Fed’s rate hikes are expiring, leaving hotel owners with limited options.

For existing and operational hotels, hotel owners in South Florida continue to see strong demand, which, coupled with the limited new inventory, has allowed owners to continue to push available room rates (ADRs) to offset increasing rates. However, for hotels under construction with maturing construction loans, owners are being forced to contribute additional or preferred equity, bridge or gap financing.

In the last 12 months, many clients have gotten creative structuring deals using alternative financing products. That includes shorter-term loans, such as bridge and gap loans, which they had never obtained it before or have underwritten for it.

Another alternative financing tool that is becoming increasingly popular is ‘preferred equity.’ That entails giving additional equity away, typically from the ownership interests, at a higher preferred return rate. However, it is structured such that the investor gets paid back first, in the priority right after the debt service is paid. This gives them a secure position behind any of the other ownership positions.

This unique seller-financing strategy requires a willing and sophisticated seller who does not require immediate liquidity from the sale. Case in point, our real estate law practice is involved in a transaction where the seller of a hotel and resort agreed to receive at closing a preferred equity interest in the entity acquiring the property instead of cash at closing. The benefit for the seller is that he will defer and spread the tax liability from the sale over time and receive a competitive preferred return. The benefit for our clients is that they can allocate investor capital toward the cost of construction instead of the land, thereby reducing the overall leverage and cost of financing the project.

Founding partner David S. Cohen and partner Liam T. Krahe lead the Miami-based Cohen Property Law Group.

South Florida Hotels See Fewer Transactions, but Valuation Remains Strong Due to Key Factors by ­­Richard Lillis, Colliers 

The Diplomat Beach Resort Hollywood, Florida. The Diplomat Beach Resort Hollywood, Florida.

The South Florida lodging sector continues to perform exceptionally well. As a review, area hotels and resorts were greatly impacted by the COVID disruption in 2020. As restrictions were lifted, visitors returned to beach destinations, and over the next few years, leisure travelers filled our hotel rooms.

Hotel managers had newfound pricing power. For example, Miami’s average daily rate (ADR) was nearly 30% higher in 2022 than 2019, revenue per available room (RevPAR) up 24%, according to STR. The surge associated with the post-COVID recovery, fueled by pent-up travel demand, peaked in 2022. This year’s performance has moderated somewhat, indicative of a return to normal; through July—regional occupancy, ADR and RevPAR have declined slightly.

The normalization of hotel demand provides optimism, however, as the pricing power that marked the post-COVID surge is holding. Additionally, lodging demand fueled by leisure visitors is now augmented by the return of conventions and groups, as well as business travel.

Area lodging transactions are relatively fewer this year. Contributing factors include high-interest rates and a dearth of acquisition debt financing, a persistent bid-ask-spread impediment, and pressure on profitability due to inflation’s impact on wages, supplies, and insurance costs.

Hotel valuations are stable despite the headwinds. Copious equity capital persistently seeks area hotel investments. Significant regional 2023 transactions include The Diplomat Resort Hollywood $835M, Nautilus Hotel South Beach $165.4M, and Hotel Colonnade Coral Gables $63M.

A notable M&A transaction is the announced acquisition of Hersha Hospitality Trust (NYSE:HT) by private equity KSL Capital Partners in a stock sale that includes five premium South Florida hotels and resorts.

Construction of regional new hotel rooms is also slightly off pace this year. As expected, headwinds include high-interest rates, lack of liquidity in construction debt financing, and inflation in construction costs across the board. The development pipeline remains active, however, with approximately 1,000 new Broward County rooms to be delivered each in 2024 and 2025, 500 new rooms are currently under construction in Palm Beach, and Miami has 7,000 rooms in final planning.

South Florida hotels and resorts remain highly desirable investment targets for acquisition and new development for both institutional and private capital. The region’s lodging demand-supply dynamic is favorable. High barriers to entry are keeping regional hotel supply growth in check. We expect robust lodging demand fed by the booming regional economy to continue despite the 2023 normalization.

­­Richard Lillis is Colliers’ executive vice president of hospitality in Florida.

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