What do I need to know about financing a hotel renovation?
“What options are available to me to complete my property’s required property improvement plan? What type of information do I need to provide for an FF&E loan, and what does the loan term generally look like? What should I know about the process of securing financing for a renovation?”
Most brands require hotel owners to complete a property improvement plan (PIP) or refresh every six to eight years on average in order to meet their current brand standards. A PIP not only improves the appearance of the hotel, but it also meets current guest preferences and expectations, allowing the hotel to capture more market share and increase net margins. This is particularly important in markets where there is a lot of competition and new supply is coming online. A refresh can help a property stay ahead of existing competition.
1What options are available for completing a required PIP or renovation?
There are a few options available to hoteliers to help finance the cost of these PIPs. First, check FF&E reserve account balances to see what funds are available to use toward the cost of the PIP. In many cases, especially with securitized lending, PIP funds are collected monthly and can be used upon request from the borrower—especially if it will extend the franchise agreement. With these funds, which typically accrue at 4 percent of the gross room revenue, a sponsor will have a meaningful amount to use toward the cost of a PIP.
Another option, if the current debt structure allows, is to completely refinance the first mortgage, recouping enough appreciated equity to self-finance the PIP. This can be an advantageous option to help cash flow and amortize all debt over a longer period.
Lastly, in the event the current debt structure does not allow for a refinance (e.g., a large prepayment penalty or immaterial equity recapture available), you can work with a structured finance company, like Access Point Financial, that can allow you to secure the funds you need for the renovation while keeping your existing permanent first mortgage in place. This type of financing can be advantageous as it does not involve the underlying real estate and can be in place with a first mortgage. The equity requirement, based on a number of parameters can be very limited to none, as 100 percent of the PIP can be financed in many scenarios.
2What information do hotel owners need to provide for a renovation or FF&E loan?
When you are looking to secure financing for a renovation or FF&E loan, one of the first documents a lender would look at is the PIP requirements provided by the franchisor. This document outlines exactly what is needed to meet brand guidelines and upgrade the property. In addition to the PIP document, it would be important to secure quotes from companies that can help install the FF&E at the property and complete the PIP in a timely manner, while obtaining the best price possible. Most franchisors will provide a set timeline for when each stage of the PIP needs to be completed. The PIP document, along with the PIP budget will be a vital part of the process and required by the lender.
The lender will also want to review how the property performs relative to the market. Therefore, a current STR report, trailing 12-month operating statement, and a proforma budget for three to five years will be required. In addition, the lender will look at the strength and experience of the owner. How many hotels do they own? What brands are they affiliated with? The lender will also need to know how much experience the hotel owner has in the industry.
Finally, it will be important to review the underlying mortgage debt to make sure proper language can be used in closing documents and to make sure the PIP financing does not create any issues with the mortgage lien.
3What does the loan term generally look like?
A renovation or FF&E loan typically has a term of seven years, which mirrors the useful life of the equipment. Sometimes cash flow during the renovation period can be impacted because rooms are offline; therefore, the term will include an interest-only component, which is normally 12 months. This will allow the owner to complete the renovation without a cumbersome principal payment during construction. Following the interest-only period, the lender will collect principal and interest for the remaining term and will self-amortize with no balloon. The loan will be subject to review of total cost basis and will typically require personal guarantees. Lastly, the security for the loan is a purchase money security interest on the FF&E or intercreditor agreement.
4What is the process for securing financing for a hotel renovation or conversion?
The process to secure an FF&E or renovation loan for your hotel is generally three to four weeks. Once all due diligence is provided to the lender and the lender reviews the transaction, they will issue a loan proposal. The proposal will include the loan structure and all pertinent information regarding the transaction including any other diligence that is necessary to underwrite. Once the owner reviews and signs the proposal, they are required to provide a good faith deposit to the lender. As soon as this happens, the loan will begin to be processed internally and third-party reports, such as an appraisal, will be ordered. Within 14 days, the loan will be submitted for approval and will then move into closing. Once closing occurs and you have the funds needed, you can begin the process to renovate your property.
Answered by Access Point Financial