Trophies and Treasure

<p><span style="font-family:Arial">Given the minimal transaction activity that has occurred during 2009 and 2010, it has been a challenge to assess the state of the U.S. hotel real estate market. With industry fundamentals at all-time lows, one would assume that cap rates are on the rise and buyers are favoring popular select-service properties over risky and expensive high-end hotels.
</span></p><p><span style="font-family:Arial">Based on the 2010 edition of PKF Consulting's <em>Hospitality Investment Survey (HIS)</em>, this is not the case. According to the 220 participants in this year's survey, acquiring a relatively expensive trophy property is worth the risk. At the other end of the spectrum, some hidden treasures can be found among distressed poor performers that can be purchased with all cash and have significant upside for an opportunistic owner/operator.
</span></p><p><img align="right" src="; alt=""/><span style="font-family:Arial">The turmoil of the polarized "trophy or treasure" marketplace is evident in the numbers published in the 2010 <em>HIS </em>report. The following paragraphs summarize the results of the 2010 survey.
</span></p><p><span style="font-family:Arial"><strong>Investment Criteria
</strong></span></p><ul><li><span style="font-family:Arial">Overall hotel capitalization rates have declined 32 basis points from 2009 to 2010. We attribute the decline in cap rates to the over-weighted influence of high-priced urban and luxury hotel transactions.
</span></li><li><span style="font-family:Arial">Cap rates are above 10 percent for extended-stay and select-service hotels. While these property types are extremely popular with guests and preferred by developers, they run the risk of increased competition.
</span></li><li><span style="font-family:Arial">Older limited- and full-service hotels are trading at high cap rates because they are most vulnerable to the surge in newer mid-market properties.
</span></li><li><span style="font-family:Arial">Cap rates are lowest for hotels in top-tier markets, indicating a belief that the greatest recoveries will occur in the nation's urban areas.
</span></li><li><span style="font-family:Arial">The holding periods for sellers dropped significantly indicating the presence of opportunistic buyers in search of bargains who in turn re-sell them quickly rather than hold as a long-term investment.
 </p><p><span style="font-family:Arial"><strong>Mortgage Criteria
</strong></span></p><ul><li><span style="font-family:Arial">Debt-coverage ratios have increased since 2009, indicating a further tightening of underwriting standards.
</span></li><li><span style="font-family:Arial">Loan-to-value ratios are at an all-time low, meaning investors must put up substantially more equity to get a deal done.
</span></li><li><span style="font-family:Arial">For buyers that qualify for a loan, interest rates remain relatively low and the length of the loan has risen slightly.
 </p><p><span style="font-family:Arial"><strong>Buy Now
</strong></span></p><p><span style="font-family:Arial">In the June 2010 edition of <em>Hotel Horizons</em>, PKF Hospitality Research (PKF-HR) forecast a slight 1.7 percent increase in RevPAR and a 1.4 percent fall-off in profits for 2010. These projections foretell another year of difficult market conditions that in theory will continue to suppress transaction activity. However, a closer look at the forecast finds that all important industry measurements will begin to "turn" throughout the year. By the fourth quarter of 2010, PKF-HR projects that occupancy, ADR, and RevPAR will all exhibit growth over the same quarter of the prior year. The bottom of the current industry has occured, and lodging investors should calibrate the timing of their acquisitions accordingly.
</span></p><p><span style="font-family:Arial">Another factor buyers should consider is the upcoming election. It is generally believed that interest rates will remain low during the upcoming campaign season. After November, interest rates may begin to rise.
</span></p><p><span style="font-family:Arial"><strong>* * *
</strong></span></p><p><span style="font-family:Arial"><em>Scott Smith, MAI, is Senior Vice President in the Atlanta office of PKF Consulting (<a href=""></a&gt;). To purchase a copy of the 2010 Hospitality Investment Survey, please visit <a href=""></a&gt;. Portions of this article were published in the July 2010 issue of Lodging.</em></span></p>

photo of Robert Mandelbaum