10 Reasons to Sell Your Hotel - Despite Strong Fundamentals

I spend a considerable amount of time talking with hotel owners and investors, and they are a cheery group these days. For most, their hotels are performing very well, and cash flow is flush. Things are going so well, they aren’t feeling motivated to sell (and many are actively looking for new acquisitions). I hear it all the time, fundamentals are strong, yield is great and tax implications of selling are daunting. Still, I find myself wondering: are we/they missing something? While I appreciate the appeal of riding the wave, there are some factors that merit consideration — not to be contrarian, just thoughtful.

10. Brand Dilution

Marriott now has 30 brands. Hilton, Choice, IHG, Wyndham and Hyatt all have a dozen or more. I was at a hotel investment conference recently and the brand execs were asked the obvious questions – when is enough, enough?  To no surprise, their answer was – never! Now, I am a believer in the brands, don’t get me wrong. And, on some level, they are correct. With international growth as a priority, on a macro level they are far from saturating the market. However, if you talk to the owners I know, they’re concerned. Not about the macro level power of the brand, so-to-speak, but about their local markets. 

On a micro level, these brands are dropping in on top of each other and there’s no denying it. While there is replacement of old product and some inducement of new demand, I believe it foolish to subscribe to the train of thought that it’s okay to continue adding new inventory on the same brand reservation systems and expect that everyone wins.  Time will tell — but in the meantime, I suspect there will be some losers.

9. Added Competition in a "Shared Economy"

Hoteliers aren’t really afraid of Airbnb per se, but they sure don’t love it. Inventory is inventory, and when property owners can add to it on a whim, the aggregate incremental impact is real. Don’t believe me? Log on and check your local market. Ask yourself, if you took those rooms out of circulation, would it help hoteliers? I’m not a rocket scientist, but you get the idea. Recently valued at $31 billion, this competitor has staying power (not to mention the other platforms and yet-to-be conceived disruptors that will come with new technologies).

8. Inflation is Real

Hoteliers see it first hand: Labor and OS&E costs are on the rise, and brand expectations continue to be enhanced. Many markets are seriously talking about (or have instituted) an alternative minimum wage. Threat of trade war is in the news every day. Every owner I talk to, without exception, says their managers cost more and it’s hard to find/retain the good ones. Barring some type of economic slowdown that will loosen the labor markets and bring a wave of new competition for OS&E goods, I don’t see this changing anytime soon. I won’t even mention technology costs, franchise and commission fees, or construction costs, other than to say, they are high and climbing.

7. Interest Rates are Inching Up  

Yep, that’s what happens after a decade or so of favorable rate environments.  What’s that saying? “All good things must come to an end?” While there is some evidence to show that interest rate increases do not necessarily cause values to drop, I suggest to you that, if true, it’s probably a short-term reality. Fundamentally, if interest rates go up and capitalization rates stay flat or go down, Wall Street makes less money. Do you really think that’s sustainable? Me neither.

6. Cash on the Sideline 

In spite of all nine of the other reasons I note, there are plenty of buyers in the market.  And, while I may pen a compelling case to be a seller, I could (and do) make a strong argument to be a buyer also.  There is tremendous wealth in this country, thanks, in part, to a more favorable tax environment. I’m also not an economist, but there are billions of dollars in equity looking for a place to park and earn yield. Hotels, generally, provide better than average returns (for those who have the necessary risk tolerance). For sellers, this is good news – there is an active buyer market.

5. PIPs!  

Just ask any Hampton Inn owner in the country about PIP costs and you will get an earful. It’s no secret that the costs of brand-required reinvestments can be huge. The most challenging issue is they’re somewhat unpredictable. Sure, owners know generally when the next one will be due, but the standards are constantly changing and, as such, the costs are too.

4. History Repeats Itself

I don’t recall much from college, but if memory serves, there were some charts in economics courses that pretty clearly showed markets to be cyclical. Hoteliers who have been in the business for a while remember the late ‘80s (not the music, think S&L) and the early ‘00s (the dot com boom/bust) and the late ‘00s (not the iPhone introduction, the great recession). I won’t break out the charts, but I do believe each of those eras had some pretty dramatic highs and lows. And, I suspect most would agree that the lows were more painful than the highs were enjoyable. Surfers love riding a good wave, but most would prefer to avoid the close out when the wave crashes overhead and slams you into the reef.

3. 1031 Exchanges

Most hoteliers I know who are hesitant to sell in the current environment convey a sense of uncertainty about what to do with their proceeds and a strong desire to avoid Uncle Sam on capital gains and depreciation recapture.  Well, that’s why some folks a long time ago thought up this great idea of deferring certain taxes to incentivize reinvestment in real estate. If you can’t find a property suitable for reinvestment because the pricing is too rich for your blood, well, that’s probably when you should start feeling great that you were a seller.  Uncle Sam will get his share one way or another – sometimes it’s okay to take your lumps and be thankful for the net proceeds.

2. Low Inventory, Aggressive Pricing

I spend virtually every day trying to find assets for clients to purchase, and I can tell you first-hand that the market is tight — the inventory of quality assets for sale is low. Serious buyers who have capital to deploy are ready, willing, and able to pay a premium because they need to generate yield. This drives up pricing, whether based on capitalization rate, revenue multiplier or per unit — we are regularly seeing trades at valuations that make your head spin.  

Having said that, buyers are still selective and quick to pass over investment opportunities which don’t check all their boxes. It’s the well-located, well-maintained, Marriott and Hilton flagged properties which are hardest to find and most competitive to acquire when they do come available.  With strong macro fundamentals in lodging, even lower tier properties are achieving much higher pricing today than during a stagnant or declining market. It’s a good time to be a seller.

1. Buy Low, Sell High

Sound familiar? Perhaps the most fundamental principal in economics seems to be overlooked by many owners in the current markets. The market is high. Don’t trust me? Read up on it yourself. Pick any credible source and I suspect you will find that most lodging forecasters think we’re either at or approaching the top of the cycle. Need I say more?

To clarify, I’m not saying it’s definitively time to sell your hotel; nor am I saying it’s a bad time to buy. There are plenty of good reasons to buy/hold. I’m merely suggesting it might be a good time to take a strategic look at your portfolio and the various factors that drive exit strategy… you may find some enthusiasm about selling after all.

Originally published on socialtables.com on May 17, 2018

By:  Edward C. Denton

Farm Fresh Closings and Bi-Lo Bankruptcy: What it Means for Nearby Shop Owners

Thousands of small business owners across the country have woken up sometime recently to a headline that the major store in their shopping center just went out of business.  Most recently, it was Toys R Us on a national scale. 

Locally and regionally it’s the recently announced sale/closure of Farm Fresh, a regional grocer that has been in the Coastal Virginia area for many years.  Another is the bankruptcy filing by Southeastern Grocers whose brands include grocers Bi-Lo, Winn Dixie and a few others. 

Each of these impacts multiple locations within secondary and tertiary markets, such as Virginia Beach and Chesapeake.  If you are a small business owner in a shopping center where the main attraction is suddenly out of business, what can you do?*

Protecting yourself in a lease is similar to insurance — you want to make sure you’re covered before the occurrence of a bad event. 

I’m not going to sugarcoat it, there’s probably nothing you can do if this has already transpired, except learn a hard lesson for the future…unless you negotiated a co-tenancy clause into your lease, in which case that may be your only direct recourse (i.e.: your insurance policy).

What exactly is a co-tenancy clause and how can it protect you? 

Like I said, it’s an insurance policy…a co-tenancy clause provides some form of recourse for tenant in the event an anchor tenant “goes dark”.  

The idea here is that you, small business tenant, picked the location in part because of its proximity to the big business tenant who is attracting a lot of people, who will in turn see and (hopefully) patronize your store because of its convenient location.  

If aforementioned big business (ie: Farm Fresh) closes and all their former patrons are now going to the other shopping center with the competing grocery, then your small business is likely to suffer.  Hence, the need for an “insurance policy”(aka: co-tenancy clause) in your lease that requires the landlord to provide some relief if the big business shutters.

Okay, but what exactly is an anchor?  

Well, that’s debatable — and therefore negotiable in every lease.  Typically, an anchor is one of the largest tenants in a center, occupying a significant square footage or percentage of the overall property.  

It is usually going to be a household name people are familiar with in your market, and one that drives a lot of traffic (i.e. grocery stores, sporting goods, household goods, hardware, etc.).  The definition will be specifically articulated in your lease by either naming the tenant explicitly or listing the square footage requirement or some other criteria that won’t be left open ended.

And, what happens if the anchor tenant goes dark?  

The level of protection and severity of consequences is also negotiable and may range from discounting your rent to changing your rent to a percentage of your gross sales in lieu of fixed amount, or the tenant may even have a right to terminate the lease entirely.  There will typically be a caveat that the Landlord will have a specific time frame to re-lease the space to another anchor tenant, but if that doesn’t happen within said timeframe the tenant likely would have the right to invoke the co-tenancy clause. 

I encourage everyone to go through your lease and look for a section related to Co-Tenancy, so you can be prepared if you find yourself in this unfortunate position.  If you don’t see that heading you may want to check the default section or any termination clauses to see if there is relevant language buried in there. Next time you’re up for renewal or opening a new location, maybe this is something you should consider asking for…like an insurance policy, you hope you never need it, but it’s nice to know you have it just in case. 

I think most landlords would rather concede some form of co-tenancy clause rather than risk losing your tenancy.  On the flipside, if the Landlord isn’t willing to concede this, maybe there’s reason to be concerned with the health of the anchor tenant?

*Editor's note: The author is not an attorney, and this is article is not intended as legal advice.  As a real brokerage estate firm, we recommend our clients engage legal counsel for preparation of lease agreements, purchase and sale agreements, and to advise on property rights and landlord/tenant matters.

Originally published on Alignable.com on April 17, 2018

By: Chris Burnett, Commercial Sales & Leasing, Denton Realty Company

Tis the Season: CAM Recs

As we approach the end of the first quarter, tenants on “net” leases are preparing to deal with annual operating expense reconciliations from their Landlords.  If you are a commercial real estate tenant and don’t know if you’re on a “net” lease, or don’t know what I mean by a reconciliation, you could be in for a surprise.  If you are paying any one or combination of Common Area Maintenance (CAM), Tax, or Insurance to the Landlord then you’re on some form of “net” lease.  For the context of this article I’ll be focusing on CAM relative to retail leases, although many of the same principles can apply across other asset classes.

So, what is this Common Area Maintenance you’re paying for, and why is it being reconciled? My own quick definition of CAM is maintenance, repair (and often replacement) of portions of the shopping center that are for the benefit and use of all tenants in the center and their patrons.  Reconciliation refers to the adjustment required at year-end to make the sum of the CAM estimates you paid (or were billed) equal to your share of the total CAM expense for the property.  If you’re wondering why I’m not quoting some official source or dictionary definition…guess what?  Common Area Maintenance is already defined in your lease and will vary widely, so it doesn’t matter how I define it as much as it does how your Landlord and your lease define it.  As they say, the devil is in the details, and you may be shocked by how much gray area lies between the lines of your lease.

This is often a hectic time of year for both Landlord and tenant; there may be multiple things happening at once.  You may be getting new estimates that change your monthly payment, and on top of that getting billed for the difference in those payments.  At the same time, you’re getting these reconciliations and invoices and it can quickly get overwhelming, especially if the numbers are not in your favor.  This is an exhaustive topic that I plan to continue covering in more detail, because the process can be as simple or as complex as your Landlord or management company makes it.

I envision this as the first introduction into a series of entries that will provide insight and knowledge to help business owners.  I also expect following topics to be more specific and targeted, but we needed a starting point.  If you’re frustrated, or something doesn’t make sense and the Landlord isn’t responsive, I may be able to help.  Let me discuss what options, if any, you might have.  If you would like to learn more about this and other topics that are of benefit to commercial tenant’s then I urge you to follow this page, give it a like, and share it with others.  The depth and scope of these entries will depend largely upon the feedback of you.

By: Chris Burnett, Commercial Sales & Leasing, Denton Realty Company