In lodging, every upswing brings an inevitable downturn. As soon as you realize things are really booming, you can be sure that the cycle will start to turn next year. The opposite is true as well. For many hoteliers who struggled to hold on to their properties through the Great Recession, the current peak presents a prime moment to cash out. “There are a number of factors that go into deciding when to sell,” says Steve Kirby, principal at Mumford Company, a hotel brokerage and advisory firm based in Atlanta. “If your goal is to sell your property at top dollar, then now is a good time. But if you’re making good money through operations and you have an organization that you want to support through ongoing revenues, then it may not make sense to sell.
“We are encouraging people to look hard at selling at this time, and are presenting them with a strategy for doing so,” Kirby adds. Of course some segments are hotter than others and some markets are more in demand. Still, there are some slam-dunk moves that could be made right away. “For example, the pricing for exterior corridor properties isn’t going to get any better than it is right now. No matter how much recovery we get.”
It all comes down to your exit strategy. These are normally shaped in the first couple of years of a hotel’s life and play an important role in determining an owner’s ability to add value. With transaction activity hitting record levels for hotel real estate, there are plenty of owners and investors currently revisiting their exit strategies. But just because there’s a lot of money now circling this asset class doesn’t mean that hoteliers should necessarily rush to get in on the action. “You almost always see the peak in your rear view mirror,” Kirby says. “And buyers want to pay more when they believe that there’s an upside remaining.”
While conventional wisdom says that the best time to sell a hotel is when the property first reaches a stable trading level, it’s also almost impossible to time the market. “Markets are local,” Kirby says. “While one market is peaking, others may still be recovering.” Beyond the present market conditions, you should revisit your current exit strategy to consider needs, return on investment objectives, and the availability of alternate opportunities. “You also have to be prepared to accept that the next owner might make more money with your property,” Kirby says.
Any real estate broker will tell you that it’s much easier to find the right buyers when sellers have a solid understanding of what they want to sell a property for and why. “You need to talk to your accountant and your attorney to find out what a potential deal will cost you,” Kirby says. “Then you can say with confidence what you’re willing to sell the property for to achieve your goal of making a certain amount from the transaction.”
The massive amount of benchmark data available has made the process of informing the buyer much easier. “When I’m doing the matchmaking process, I know with reasonable certainty what’s going on with the property and can call up all the numbers for the neighboring hotels in the area,” Kirby says. Since potential buyers have access to the same information, there really isn’t much you can hide when it comes to operating costs, taxes, and market values.
Today’s hot hotel market makes doing your due diligence essential. “We looked at a deal recently and found that the prepayment penalty was $1.5 million, the recapture was $2.5 million, and the taxes were $1 million,” says Kirby. “So we knew we needed a very large gross in order to sell it or the owner would end up in the hole.” This sort of homework needs to be done well ahead of time, he says, because potential buyers don’t have patience to wait for the paperwork to review. Every factor that impacts a potential transaction needs to be considered.
“A key ingredient in these deals is the franchisor,” Kirby says. “You have to determine what length of term the brand is willing to give and at what cost to the property improvement plan.” He notes that a 15-year franchise contract is more valuable than a 10-year contract when it comes to negotiating terms with a bank. Also, that break clauses on longer management agreements need to be finessed to enhance flexibility and create exit opportunities.
He adds, “Finding the right time to exit is less about where we are in the cycle than it is creating the most value for you and your business.”
CONNECT THE DOTS
According to Mumford’s Steve Kirby, these are a few of the factors hoteliers should consider when exiting from their investment. As always, a good adviser can be instrumental in achieving the most beneficial exit.
Find out what it costs to pay off your debt. If your property is saddled with high-cost, non-prepayable debt, this will be reflected in any buyer’s view on valuation. The reverse is also true, so sellers should investigate existing debt as well as the potential market for new debt. This will allow sellers to be realistic regarding the pricing and terms of their sales.
Make sure recapture on the depreciation makes a deal worthwhile. When hoteliers who’ve owned hotels for a long time and refinanced them over the years go to sell them, the recapture on the depreciation is going to be huge.
Figure out your capital gains tax. Better yet, get your CPA to calculate this for you, because taxes are getting more complicated all the time.
