Heartland Real Estate Business

FEB 2018

Heartland Real Estate Business magazine covers the multifamily, retail, office, healthcare, industrial and hospitality sectors in the Midwest.

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20 • February 2018 • Heartland Real Estate Business www.REBusinessOnline.com T he vital signs of the U.S. hotel market remain healthy, even though construction has ramped up significantly across many markets in recent years. Room demand in- creased 2.6 percent through the first 11 months of 2017 on a year-over-year basis, while supply rose 1.8 percent, according to data analytics firm STR. (The figures were the latest available at press time.) Two other key hotel metrics, aver- age daily rate (ADR) and revenue per available room (RevPAR), increased modestly during the same period, rising 2.1 percent and 2.9 percent, re- spectively. Overall, there were 179,979 rooms in construction across 1,400 hotels nationally in December 2017, a 3.7 percent decrease compared with the same month in 2016, reports STR. De- cember marked the third consecutive month that the number of hotel rooms under construction in the U.S. had de- clined or remained flat year over. "A construction decline obviously bodes well for the current industry cycle," says Jan Freitag, STR's senior vice president of lodging insights. "It appears that financing is becom- ing harder to obtain. And if demand growth holds, occupancy will not de- teriorate as quickly or as much as an- ticipated." The occupancy rate nationally from January-November 2017 was 67.1 per- cent, according to STR, up from 66.5 percent for the same period a year ago. Against that backdrop, Heartland Real Estate Business conducted a Q&A with lenders and financial intermedi- aries doing business in the Midwest for their take on the state of the hotel sector regionally. The questions were sent via e-mail. Participants in the Q&A included Sean Banilivy, senior associate for capital markets, Paramount Lodging Advisors; Gregory Bolin, senior vice president, Dougherty Funding LLC; Matt Nowaczyk, senior vice presi- dent, JLL; Michael Schick, director, Q10 | Lutz Financial Services; Rushi Shah, principal and CEO, Aries Con- lon Capital. What follows are their edited re- sponses. Heartland Real Estate Business: As an arranger of debt financing or a di- rect lender in the hotel sector, what is your company's sweet spot in terms of loan amount? What percentage of your firm's deal volume stems from acquisition financing, refinancing, new construction or other types of fi- nancing? Sean Banilivy: Paramount Lodg- ing Advisors is primarily focused on loan amounts ranging from $5 million to $20 million. Over the last several years, the majority of Paramount's placements have been fairly evenly split between construction financing and acquisition financing (each ac- counting for about 40 percent of deal volume), with a limited amount of re- financing (20 percent of deal volume). As we move into a new economic cycle, we anticipate our business will shift to more refinancing of existing assets and less construction financing. Gregory Bolin: We typically lend in the range of $10 mil- lion to $25 million. Over the last three years, we have aver- aged a little under $20 million per loan. During that time, about 90 percent of our loans were for new construction or adaptive reuse, often involving his- toric tax credit renovations. Our lending platform is geared to- ward shorter-term loans for construc- tion, repositioning, renovation and re- flagging hotels. Typically prepayment is at par, so sponsors move to the per- manent market upon completion and stabilization. Matt Nowaczyk: Over the past 24 months, 60 percent of the financing we have arranged has been for acquisi- tions (down from 73 percent five years ago). Refinancing made up 35 percent of our debt transactions during that period, and construction financing accounted for 5 percent. Our average financings ranged from $60 million to $120 million, so I would consider that our sweet spot. Michael Schick: Our range of fi- nancing for hotels is approximately $3 million to $50 million, with the majority of the financing falling in the $5 million to $25 million range. We are involved with both acquisitions and refinancing. Recently it seems we have had more opportunities with the acquisition and rehab of hotel proper- ties, but as these mature we are refi- nancing more of them. Rushi Shah: We are primarily an arranger of debt financing for our cli- ents. We focus on quality real estate projects with quality, experienced sponsors, and match them with the most efficient debt capital available in the market. Our company's sweet spot in regard to deal size is $8 million to $25 million, with a handful of deals between $25 million and $150 million in a typical year. Our primary focus is refinancing deals. About 75 percent of debt deals we close are bridge financing for tran- sitional assets — or less than stabilized assets — or permanent financing for stabilized assets. Another 20 percent of our deals are for acquisition financ- ing, and 5 percent are for construction financing. HREB: Which product segments of the hotel sector (full-service, limited service, budget, for example) provide the greatest opportunities for your firm today across the Midwest? Schick: Mid-scale, limited-service hotels with a strong flag and that are well located are generally the easiest to finance. Full-service hotels in central business districts or strong suburban office markets are also well received. The quality of the brand and suit- ability of the location for the prod- uct are the most important factors for financing. Lenders want to make sure that there are consistent, sustain- able demand generators for the room nights. Secondary markets, markets with transitional demand or a limited number of demand generators are much more difficult to finance. Bolin: Select-service, limited-ser- vice and extended-stay products are evolving through upgraded finishes and added amenities, and are still ef- ficient to build and operate cost-wise. Lenders are increasingly conserva- tive in underwriting transactions, and these product types are easier to evaluate and lend on compared with full-service properties, which consist of more revenue streams such as mul- tiple restaurants, and/or convention and meeting space. That in turn im- pacts and complicates the evaluation of risk. Having said that, mixed-use proj- ects with a hotel component have multiple revenue streams, but include non-hotel elements that can shift the risk analysis and enable the lender to rely more on the other components for repayment. Nowaczyk: In the Midwest, we're seeing a lot of opportunities in the full- service sector and limited-service port- folios (many of which we financed ear- lier in the cycle). With less product on the market for sale, a lot of opportuni- ties lie in refinancing as an alternative to the property sales market. Shah: Three product segments of hotels provide the greatest opportu- nities for our firm: full-service, limit- ed-service, and extended-stay hotels. Budget segments are the hardest to finance in this market at this stage of the cycle. The capital markets are in- creasingly focusing on the quality of both the asset and the sponsor. Banilivy: We are looking at all asset- type classes, but the bulk of our busi- ness is focused on the limited-service, budget and extended-stay sector. A great portion of these asset classes can be financed in a variety of ways, in- cluding SBA loans, and there is a high volume of transaction activity. However, we think there is great WINDOW FOR HOTEL DEVELOPERS HASN'T SHUT Construction lenders grow cautious, but the sector's real estate fundamentals remain solid and pockets of opportunity still exist across the Midwest, say debt financing experts. By Matt Valley Gregory Bolin Dougherty Funding LLC Home2 Suites by Hilton has rapidly expanded across the Midwest. The all-suite, extended-stay hotel brand offers complimentary breakfast, Wi-Fi, business centers and laundry and fitness areas.

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