CHICAGO— The deals continue to pile up in the ever-swelling transaction market for U.S. hotels selling at $10 million or more. Once again, during the first half of 2005, the total volume rose significantly and broke the first-half record previously set during 2004, according to an August U.S. hotel transactions report from Jones Lang LaSalle Hotels that revealed that $8.4 billion worth of deals were completed.Comparatively, during the first half of 2004, $7.3 billion worth of deals were closed.
The record breaking volume during the first half of 2005 has led to Jones Lang LaSalle Hotels’ prediction that full-year transaction activity will near the $15-billion mark. If that occurs, the total volume would rise about 16% above 2004’s year-end total of $12.9 billion.
During the 2005 first half, Jones Lang LaSalle Hotels recorded 88 transactions involving 67,041 rooms. Those rooms were sold at an average price per key of $125,000. That number is not a record, however. The record was set at around $190,000 per room in 1998, which will stand as the third highest transaction volume year behind 2005 and 2004 if the forecast comes true.
The escalating transaction volume and hotel prices as well as declining capitalization rates— which fell to an average of 5.5% in the first half— would seem to indicate that the lodging market is being ruled firmly by sellers. However, Arthur Adler, managing director and CEO of the Americas for Jones Lang LaSalle Hotels, doesn’t see it that way.
“I think what the report demonstrates is that it’s a good time for sellers and buyers and that there is a significant amount of liquidity in the marketplace,” he said. “There is equilibrium. At times in the past, there have been markets with just sellers and no buyers or no sellers and just buyers, which creates a gap between bid and ask. That’s not present in this market at all. So there are a lot of transactions and it’s not so much a seller’s market.”
Adler added that the hotel market’s falling cap rates, which fell 150 basis points from 2004’s first half to 2005’s first half, can be deceiving because cap rates on a trailing 12-month income basis don’t take into account renovations, conversions and management changes at acquired properties. And that claim clearly agrees with such buyers as Highgate Holdings, Goldman Sachs, the Falor Cos. and Gaylord Entertainment, which all bought assets during the first half at cap rates below 5%, according to the report. Highgate and Goldman Sachs bought New York’s Park Central Hotel for $215 million; Falor Cos. acquired the former Crowne Plaza Royal Palm Hotel in Miami Beach, FL, for $127.5 million; and Gaylord Entertainment bought the Aston Waikiki Beach Hotel in Honolulu for $107 million.
While none of these buyers happen to be hotel REITs, that gang of investors surely came back into the acquisition game with a vengeance during the first half. In fact, REITs produced 46% of the transaction activity during the period, with private equity/opportunity funds coming in second with 24% of the volume. By comparison, REITs were no where to be found among the top buyer groups during the first half of 2004 and public hotel companies led the way with 49% of the activity.
“REITs are expecting that the hotel market will continue to improve with profits increasing going forward,” Adler remarked. “As a result, given the REITs’ cost of capital, they are able to acquire hotels.
“The other high volume buyers are the private equity funds,” he continued. “And the other group that is very noticeable is the financial institutions, who are now stepping up after being less active in the past. They seek core investments usually and are now viewing hotels as low risk.”
Meanwhile, taking the lead among the top selling groups in the first half were private equity/opportunity funds, which netted 48% of the total disposition dollars. Public hotel companies like Hilton, InterContinental Hotels and Vail Resorts were second to the funds and came in at 40%.
Jones Lang LaSalle Hotels anticipates that public hotel companies will return to rule the seller landscape during the second half of this year. The firm is basing that prediction on the fact that Hilton recently revealed that it will dispose of $800 million worth of non-strategic assets in 2005. Starwood had a similar announcement stating it wants to dispose of $500 million worth of assets this year.
Further fueling all the deal generation is the fact that lending standards continue to ease and debt is relatively cheap. As a matter of fact, Jones Lang LaSalle Hotels reported that borrowers are currently enjoying the sixth consecutive quarter of easing lending standards for property-level financing. As a result, lenders are working for thinning profit margins.
Furthermore, despite the fact that interest rates are always a threat to jump, loan-to-value ratios are climbing and have, on average, moved within the 70% to 75% range. Such an average range hasn’t been seen in the hotel industry since the 1980s. “Interest rates are low, which allows you to place more debt on a property as a percentage of value, yet keep good debt service coverage,” Adler noted.
Adler also mentioned that large portfolio deals helped bolster the first half’s transaction volume. Helping to bring that to fruition was CTF Holding’s $1.4-billion sale of a 27-hotel portfolio to Marriott International, Walton Street Capital, Sunstone and Tarsadia.
Going forward, Blackstone’s proposed $3.2-billion acquisition of Wyndham International will keep portfolio transactions in vogue and possibly ahead of single-asset deals during the second half.
Even when positioned head to head against other real estate asset classes, the hotel sector remains in its currently comfortable position, according to the report. In fact, the report stated that hotels offer one of the best positions in the real estate cycle and provide good diversification, strong comparative returns and good annuity income streams.
Those facts and others should ensure that the hotel market continues on its upward trajectory with zero hiccups along the way, according to the report. “Personally, I think hotels offer the best risk-adjusted returns in real estate,” Adler added. “And the buyers of these larger hotel portfolios are highly sophisticated investors. They are not neophytes and have a plan and a strategy for their properties that will justify the pricing.”
