Event review: Hotel Investment and Development in the UK and Continental Europe

Weldon Mather By Weldon Mather
Uploaded 30 November 2014

Hotel owners, investors and operators, chief executives, finance directors, brands, lenders, agents, advisors and consultants gathered recently in Piccadilly's Le Meridien Hotel to talk hotel finance. Organised by Henry Stewart, this annual briefing outlined what's available, from where, for what purposes and on what terms. While many of the traditional protagonists in the room would be known to each other in the close knit hotel investor community, there are a number of new entrants providing funding for hotel development including hedge funds, Private Equity (PE) and Sovereign Wealth Funds.

David Bailey, (senior director, CBRE Hotels) opened proceedings and provided a nice segway to the next topics including a review of performance trends, what and where is the growth potential?  Robert Ryan, (development manager - central and south-west London, Travelodge Hotels Ltd) and Joe Stather, (information and intelligence manager, CBRE Hotels) presented their views on supply and demand, market drivers what's next in
terms of growth in hotel development. 
 
Hotel as an asset class versus other real estate classes

Arlett Oehmichen, (director, HVS) was tasked with outlining trading performance of the hotel sector compared to other sectors. She also covered headings such as demand drivers, where are we in the cycle, risk/return profile and diversification potential. As someone with extensive hotel valuation and consultancy experience, Arlett noted that hotel investments as an asset class are more prominent than 10 years ago but comprised only 8% of total real estate transactions in 2013 so the sector is still quite niche. Part of the reason for this is there is less stock available and hotels are more complex in nature than other classes.

Most interesting is that hotels offer the highest returns (in both income and capital returns - just slightly below retail) and hotels allow for good diversification in the real estate portfolio. Most hotel investment stays within its own region globally but investors are very cognisant that hotels are highly specialised assets requiring particular expertise to extract maximum value. Arlett presented some excellent slides illustrating how hotel data is less transparent/available (yields) and how hotel performance is directly impacted by day-to-day fluctuations in demand.

Panel: who is lending in the UK for hotel development and investment and on what terms

Three panelists put forward their thoughts on London and outside London: Is new development and investment appealing to the lender, What are the qualifying criteria and likely terms and conditions and what are the Income cover and cash flow requirements?

Chaired by Marc Finney, (director, Colliers International) he asked what are the LTV's (loan to value ratios) and what multiples of EBITDA apply for lending. Tony Burnell, (relationship director, Lloyds Commercial Banking) said that the Lloyds loan book is now clean of non performing loans (NPLs) and they are actively lending in market. Tony recounted that recently he was asked by an applicant what LTV was available which raised warning signs as the guys on the (Lloyds) credit committee would frown on it. Tony went on to say the borrower clearly does not understand the industry dynamics. He also commented that PE is now lending on 10 year senior debt interest only which is unusual and something new.
 
Huw Zachariah, (senior corporate banking manager, hotels, HSBC Bank) said HSBC managed to avoid the "big banana skins" (NPLs) but lost some money in the regions. The vast majority of distress has washed through the system and HSBC is keen to "rebank" clients from other banks or referrals. Putting his neck on the line, Huw suggested London LTVs are max 65% and Regions max 50-55% with a five-year loan term (with some exceptions). HSBC is also looking at developing a pan European team for hotel finance.

European major cities - where is the action and where are the opportunities?

Dirk Bakker, (partner, director of hotels, Colliers International Netherlands) presented a succinct paper noting that tourism is growing at 3% per anum and will continue to do so. He reported that tourism is also picking up in Greece and it will become a serious market post recovery. There are lots of conversions in the NL and Amsterdam in particular has added 9k rooms but these are easily absorbed by the market. However Rotterdam proved a more difficult market where Hilton was only brand for long time but now citizenM and others are coming and over the long term the market there will improve. European hotel transactions are growing since 2010 with a solid global share at around 20% according to Colliers. 

On branding, Dirk said that brands generally do deliver and are reinventing themselves as demonstrated in a slide the share price development of listed hotel companies since Jan 2014. Notable results include Hyatt up 37%, Hilton & Choice both up 27% with the key message that hotel companies are flourishing through global expansion and improving markets. For Developers/Investors/Financiers there are benefits and risks. For investors there is a lower entry yield (higher price) and higher investment demand on repairs (FF&E). For developers there is a far higher chance of obtaining bank finance with a brand on board and financiers prefer brands in situ delivering a higher income guarantee for debt coverage. 

Who's investing, where, why and in what?

The pre-lunchtime slot always ensures an alert (and hungry) audience and six industry veterans were tasked with making a short presentation on their view of the (hotel investment) world. First up was Paul Thomas, director, Whitebridge Hospitality who noted that the Eastern Europe market has a long way to go in terms of disposing of hotels (except in Slovenia where there is some traction in the market and asset values are slowly recovering).

Etienne de la Ronciere, (director of asset management, Accor UK and Ireland) defined the new Accor structure implemented one year ago aimed at streamlining the business into two separate entities: HotelServices and HotelInvest. Accor is now all about optimising cashflow, its balance sheet and yield focus. Accor is not shy about deploying the balance sheet and wants to be the first investor in many new markets.  It has already bought back some leased properties and removed onerous leases ensuring "value equity" so improving the cashflow and EBIT. They drive more value by asset managing these properties and are more focussed on ownership in key locations e.g. Novotel in Canary Wharf. Accor recently issued €600m in bonds at a 2.5% coupon and they are looking carefully at leases especially in UK. Their focus is on asset management and for capex investment there are strong guidelines and a quick ROI is required. 

Will Duffey, (senior vice president, hotels and hospitality group, JLL)  reported that tourism has improved and the corporate market has recovered. RevPAR has improved by 7.6% Oct 2014 YOY and 2015 looks very strong on trading performance. Will forecasted €16bn in EMEA transactions in 2014 and he wondered who will be the buyers when the big funds execute their exit strategy? Investors are still keen to deploy further capital into the London market resulting in further yield compression as it is a "Safe Haven".   

Clive Hillier, (CEO and co-founder, Vision Hospitality Asset Management) outlined  "Buying through the front door - or back door" and open/off market deals. Clive believes loan to own deals are favoured by US equity funds since they want "to get involved in the play" and this opportunistic targeting is not just for annuity income but also asset management income. He said the Menzies portfolio deal was done at 9 x EBITDA which is now a steal in retrospect with deals now moving towards 11 x EBITDA in the provinces as acceptable. Portfolios need active asset management and the days of 18% IRR are long gone said Clive. The US funds looking for different things but they have defined hold periods and exit positions of mid teens (IRR) or better; they are also looking for operational platforms allowing for an IPO exit instead of trading exit. Examples of platform leveraging include Lonestar & The Hotel Collection (formerly Puma) and  where Sankaty bought Q Hotels and DeVere. Lot size is also important so deals >£20m are better instead of single asset deals. Clive wondered out loud "who will be the purchasers in 3-5 years time?" Clive does professed to not knowing how long the cycle will last but quipped "We will know with absolute clarity the week after the cycle ends; we have a 10 year cycle but a 5 year memory!"

Merzak Kaddour, (group operations director, Union Hanover Securities) is opening their first London property "The Ford by Urban Villa" in 2015 extended stay with cafe/wine bar and also the 248 key design led boutique hotel & 137 bed Adagio at Penny Brooke, Stratford, London. UH have built their own operating platform in house and worked to shape the business plan.

Saar Sharon, (chief executive officer, Leonardo Hotels) commented that 20% IRR is still achievable in London but it depends on your skill set and improving the asset.

PIGS, Yields, NAMA & Stress Testing

Post lunch (relatively carbohydrate free) & entering the graveyard slot, Philip Johnston, (director, consultant and valuer, Harris Johnston) had the unenviable task of reviving the audience with the stark reality that the in the UK regions some hotel values are below build cost which means limited new builds. Project East and Rock (£1.4bn of IBRC/Anglo hotels) will be recycled into the market soon and while the regions were always strong up to 2007, there is a rebalancing in the market now. In a case study on The Stafford Hotel in London (£1.5m per key), Philip described a 3% yield "if you are lucky" so capital appreciation could be 50% in 6 years on this asset. London values continue to rise and you must pay year 3 (pro forma) money today to get your target deal.

Russell Kett, (chairman, HVS Global Hospitality Services) mused where is good to invest now? Countries are at different stages of the cycle with a boom (Germany) & despair (Greece). The PIGS countries have recovered and even Greece is looking at YOY growth in operating performance for first time in 6 years. There are still quite a lot of distressed assets with NAMA (Ireland's bad bank) still controlling 83 overhanging hotels and many loan books have yet to come on the market. Some hotels are coming to market at less than replacement cost resulting in conversions to residential.

Russell also mentioned the hostel sector (see my recent article on the Hostel & Budget Traveller conference) and how operators like Meininger, A&O, Generator are highly profitable. Russell believes that current London hotel values are sustainable as supply is limited but on a cautionary note he is yet to find any hotelier that has stress tested their budget in 2015 to allow for interest rate changes which will invariably increase the cost of borrowing.  

In the final session, Rod Taylor, managing director, Taylor Global Advisors Limited, mentioned reports that KSL has apparently appointed UBS to sell off its Malmaison/Hotel du Vin portfolios after 15 months, asking a rhetorical question: Why? It seems the return today would be higher than holding for another few years and this illustrates the IRR/NPV investment criteria around the hedge funds that are solely focussed on maximising their return. 

Rod left us with some his lessons from the recession including:

• Business plan: Make sure you have one and its clear, succinct and readable
• Mentoring: Get a mentor to sense check your plans and progress 
• Cycles: Pay attention to where we are in the cycle and time your investment accordingly
• Innovation: Don't think you broke the mould because someone else has probably thought of it too 
• Network: Don't be an island - get out there and meet your peers & industry colleagues 
• Don't overpay (for assets or operating expenses/overheads)
• You can run but you can't hide (from social media)
• Demonstrate ROI on all investments & expenses - ensure they are either ROI positive or critical defensive spends
• Be careful what you wish for: Financing - is it right for your business and can you repay on proposed terms?
• Avoid the Chinese Whispers - among your staff; rumours about any plans you have can sabotage your business among your front line staff - after all they are your first line of defence.

Weldon Mather is an independent hotel asset manager and tourism consultant in the hotel, restaurant and pub sector. He works with clients throughout the UK and Ireland including banks, owners and managers, receivers/administrators, liquidators and investors. Contact: www.wmconsultancy.eu  Tel: +44 77845 46066 or +35386 8684441

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