Using capital markets financing mechanisms to prepare for market volatility.
by RUSHI SHAH
Hotel owners who shy away from alternative financing options, and continue to make their local bank the first or only stop on their financing search, may be shortchanging their ability to fund future projects using third-party capital.
Most bank loans require the borrower to have a deep deposit relationship with their institution and usually require borrowers to provide personal guaranties, otherwise known as recourse. If the property fails, your personal assets are on the hook to satisfy the loan.
What’s the best strategy?
Conventional loans or SBA loans are usually the only choice for construction financing and buyers with less experience in the hotel industry. However, when it is time decide whether to sell the property or make the transition to permanent debt – or for more sophisticated hotel developers, operators and owners who want to take advantage of efficient debt markets – non-recourse financing through Commercial Mortgage Backed Securities (CMBS) or other Wall Street financing could be the best strategy.
Non-recourse financing
In the non-recourse world, there are two types of solutions: CMBS and balance sheet lending.
With CMBS, individual loans are pooled together and sold in securitized form as a series of bonds. CMBS shops, which provide about 20 percent of the overall commercial financings, can make more loans at more competitive rates and terms than local banks that rely on retail depositors for funds. Balance sheet debt isn’t securitized, rather funded through private funds or large banks’ balance sheets.
Banks may offer non-recourse financing for smaller loan amounts or lower LTVs, but usually limit it to much shorter terms. CMBS debt is available for up to a 10-year term without recourse, allowing you to secure today’s low rates for longer. CMBS loans typically have longer amortization periods with lower payments so owners can maximize cash flow.
Furthermore, unlike a bank loan, CMBS loans are assumable so you can avoid pre-payment penalties in case if you decide to sell. Getting cash out of your hotel asset may also be easier with a CMBS loan because the lenders are focused on the asset’s ability to support the debt.
While Wall Street lenders are still concerned with the quality of the borrower, they are more focused on the property they would need to liquidate in the event of a default, or their “exit strategy.” CMBS financing could be the best fit for hotel owners with good flags in good markets.
Market timing
2016 has been volatile. With over $210 billion in maturities still looming, changing economic conditions and credit tightening are likely to continue. CMBS loans are sensitive to market shocks because they are backed by sophisticated institutional investors who can adjust quickly. Smaller, less sophisticated financial institutions typically follow the CMBS markets, and react slower to credit tightening.
Real estate development is a marathon with long horizons, not a sprint with short-term view. As markets slow down, hotels are one of the first property types impacted. To weather the storm, owners should put their financing to bed while the window of credit remains open.
Prudent owners will insulate their portfolios by locking in a low rate for as long as possible with very little or no personal guaranties, and avoid being sidetracked by the lure of short-term savings.
Working with an experienced intermediary who knows the pros and cons of each option, has relationships with all types of lenders, and will negotiate on your behalf, can improve your future success. ■
Rushi Shah is an executive vice president at commercial mortgage banking firm Aries Capital, LLC, and president of its online non-recourse platform LendingCap Commercial. Since 1991, Aries has arranged/funded over $5 billion in financing in the U.S. and Caribbean. Shah held previous positions at Northern Trust. A member of AAHOA’s Strategic Business Advisory Committee, Shah holds an MBA from The University of Chicago’s Booth School of Business.
