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Finance & DevelopmentDevelopmentThe Complex World of Hotel Financing

The Complex World of Hotel Financing

Hospitality is among a small handful of industries that have borne the brunt of the pandemic’s economic impact. From steep revenue losses to difficult staffing decisions, hotel operations look different now than they did last year. For many hotel owners and operators, the difficult daily work of modifying operations and keeping the lights on is just the tip of the economic iceberg. Many properties are facing daunting long-term structural financing challenges. And with successful vaccine rollouts and the promise of a potentially dramatic recovery seeming closer than ever, now is not the time to stumble before the financial finish line.

Options are available for lenders to structure and restructure deals to account for revenue loss, and there are opportunities for borrowers to navigate the complex landscape of debt and equity financing and position themselves for sustained success in a post-pandemic marketplace.

The Cliff

Many parts of the country, especially those with heavy exposure to business travel, have faced historic shortfalls over the last year. Regions vary, but overall, operating revenue and loan outlooks are grim. After a year or more of operating losses, things are turning around. We aren’t yet post-pandemic, but the worst has passed. National occupancy numbers are rising.

The Capital

With the light at the end of the tunnel, lenders are borrowers can make sure hotels on shaky financial footing will be able to solidify their positions. From the borrowers’ perspectives, loan obligations are part of the problem they need to solve. After a year or more of significant operating losses, suspending amortization—or even forbearance—is unlikely to solve the underlying issue in many cases.

Borrowers would be wise to pursue a holistic approach as opposed to managing the performance of a single loan at a single property. Many borrowers have quality assets and may be well-served by looking for mezzanine capital, preferred equity, or other creative capital solutions. Holistic approaches are not possible in the CMBS world; banks and other regulated financial institutions are typically not able to do more than offer temporary forbearance. Consequently, there is a need for capital providers—such as debt funds and other non-regulated financial institutions—that can operate as nontraditional lenders.

Not all lenders are created equal. Different lenders have access to different tools to help restructure/refinance loans for hotel owners. Some lenders have existing relationships and understand the needs of hoteliers. And some are not just lenders; they’re also buyers and investors, which presents additional opportunities.

The Climb

Going forward, lenders could be more solutions-oriented, adopting a more creative and holistic approach to problem-solving. Lenders should be open to discussing a borrower’s entire commercial portfolio in addition to its hotels. Borrowing from a larger basket of assets is typically more affordable.

Owners and operators need to be transparent with lenders about both opportunities and liabilities. If an owner does need to downsize, it’s better to close off sections of a hotel and mitigate operating losses by functioning as a smaller property than to close entirely. And continued flexibility with group business, cancellations, and changes remains a smart call. Borrowers should consult with their lenders and proceed with caution before agreeing to temporary repurposing of facilities.

Analysts and observers are confident about the eventual recovery of the hotel sector, but that recovery will take time, especially for hotels reliant on business travel. While some large companies have announced significant office return plans soon, others are being more cautious, and some have revealed longer-term reductions in travel or permanent work-from-home arrangements. Ongoing uncertainty about the future of business travel might mean more hotel owners will consider recapitalizing their properties.

For markets and service categories like resorts that are likely to bounce back more quickly, the outlook is brighter. But labor shortages and wage inflation pose continuing risks that must be navigated by lenders and investors alike. As the nation begins to move into a post-pandemic world, it’s clear that the landscape has changed. Hoteliers would be wise to recognize those changes now and be proactive about adapting to new realities and securing their financing future with the right capital partner.

Michael Phillips
Michael Phillips is managing director and head of portfolio management at Cottonwood Group, a private equity real estate investment firm specializing in large-scale, structured, and complex projects with substantial barrier-to-entry characteristics. Phillips is responsible for the firm’s portfolio of real estate investments and is an expert in real estate credit, including first mortgage loans, A/B tranches, repurchase agreement structures, and mezzanine debt.

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