The race to recovery



This once-in-a-century global crisis has had a profound impact on our professional and personal lives. Hospitality was one of the hardest-hit industries, and the pandemic fallout was a wake-up call for many hotel developers and owners. Within the aftermath of this black swan event, all participants now face a recalibration of the risk-return calculation. Hotel room supply in any given submarket will be directly impacted, and there will be a renewed focus on demand drivers for a particular hotel property. Owners, developers, lenders, investors, and franchisors will need to adjust their models and not assume perpetual growth rates. This means they won’t be able to be overly exuberant when making investment decisions. On the plus side, increased discipline should lead to a healthier hotel industry overall.

Hotels and office buildings were among the top major-asset classes most impacted by the pandemic, but offices will likely lag behind hotels during recovery. This is mainly because employment leaders have not reached consensus on when workforces will return to the office and how much flexibility their employees will have in a post-pandemic environment. And all market participants agree that travel will be back, and with it demand for hotels. There will be economic casualties, however. During this comeback, product that was obsolete pre-pandemic will be adapted to another use or be culled from the system. Additionally, some new construction projects that penciled out historically simply may not work in the new era. On the plus side, this survival of the fittest and self-elimination of projects that carry too much risk and/or don’t deliver enough return for developers will benefit remaining assets and improve the health of the industry overall.

Hotel assets that survive this next cycle will likely see tremendous returns, and their owners will be rewarded handsomely. CMBS, the king of capital markets, is already speaking by showing renewed appetite to include hotel mortgages backed by assets that held up well during COVID-19 lockdowns into CMBS pools. Even with lower trailing 12 cash flows, these proven properties are getting financed. This change centers around the institutional buyers’ improved view of lower-end flags, exterior-corridor assets, extended stay hotels, and budget-to-limited-service brands after the resiliency that those groups demonstrated during the pandemic and after the vaccine rollout. Market participants are now comfortable with lending money on a non-recourse basis to those assets, which is a welcome change for many owners of middle-tier assets. Historically, capital markets favored large, well-branded hotels in central business districts over a suburban or tertiary market hotel, just because of the cache the former presented on paper. However, amongst many other things, the pandemic proved that it is not the cache that pays the bills and services the mortgages on the assets, it’s the durability of cash flow that does. Hence, the future of secondary and tertiary market limited- and select-service hotels, and especially extended-stay hotels, looks much brighter through the lens of the capital markets.

The fate of the hospitality industry still remains within the hands of its hotel owners. As long as hoteliers don’t view the recovery as permission to overbuild and subsequently kill their own markets, the hotel industry will have a healthy return. CMBS mortgages that fuel our industry are back, and lenders are closing hotel loans for properties that maintained decent cash flow on a trailing 12 basis at approximately a 10% debt yield (cash flow divided by loan amount) for a period that includes the lockdown. Lenders are mostly focused on the most recent six months, which means as long as the trailing six months of revenue is strong for a hotel, CMBS loans for those assets are an option once again.

Rushi Shah is Principal and CEO of the commercial mortgage and real estate investment banking firm and AAHOA Allied Member Mag Mile Capital. As a leader in hospitality financing, Shah specializes in structuring and placing high-leverage, nonrecourse bridge and permanent debt with cash out for full- and limited-service hotels nationwide. Since joining the firm’s predecessor, Aries Capital, in 2015, Shah has structured and closed hundreds of millions in financing for all property types. Shah has held previous positions at Northern Trust and has an MBA from the University of Chicago’s Booth School of Business.


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