Hotel purchase feasibility

[Joseph Stewart]

I am in the process of selling a commercial retail property which should net me about $2.3M or so. Have been looking at hotels (or larger multi-family) as the next move. I've owned a bar/restaurant in the past as well as a nightclub and a retail computer store, so I'm pretty comfortable with the "business side" of the hotel business and the inherent risks in this type of investment. I don't really want to get into a smaller self-managed hotel situation, though, as I'd rather hire professional management. This seems to mean I'd need something with 100+ rooms and so presumably in the $6M+ purchase range. My main question is whether this will be feasible on my own with $2.3M or if I'll need to partner up. I have great credit but don't have much liquidity beyond the building sale, and I'm not sure what the typical requirements (and/or recommendations) are for liquidity and cash reserves.  I know some hotels require more PIP than others, and that PIP can sometimes be rolled into the loan.  How do you know in advance what the franchisor will require in terms of PIP?

Other questions:

(1) What's typical for Cap ex reserves?  Since hotels require major renovations periodically I'm wondering if you typically set this aside out of cash flow or obtain financing for these regular renovations.  How frequently is major renovation typically required, and is it typically done in stages or do you shut the hotel down entirely for a period of time?

(2) Assuming we're near a "peak" in terms of the economy and hotel market, what might a typical "trough" look like in terms of revenue swings?  In other words if the hotel is seeing a RevPAR of $100 today, what might I expect in a typical recession?  $70?  $50?  I understand it's highly dependent on location etc but just wondering about a reasonable average I could use for underwriting purposes.  Does a typical well-run hotel lose money in a recession or do you more typically just swing toward break-even (or better)? 

Thanks!

[Greg Dickerson]

@Joseph Stewart I like hotels in general but not right now. Even though occupancies and rates are at all time highs there is a ton of inventory in the pipeline all across the country and with AirBnB growing by the day the industry is changing rapidly. You need to be very careful and check the development pipeline in the area you are looking to buy and make sure you have some sort of unique selling proposition to get you through any downturn in the economy.

To answer your first question yes you can do this on your own with the funds you will have. You can also raise the equity needed from investors and keep your cash on hand as a cushion and to cover any surprises. 

You can hire a professional management company to run the hotel so that will satisfy a lender and the franchisor for experience requirement. They will also want to see 6 months reserves so make sure to keep that in mind as well. Best thing would be to talk to some lenders and find out what they are looking for in terms of LTV and other requirements. You can get up to 80% on some properties but that's a bit strong in this environment especially with rates and terms.

You can find PIP requirements in the franchise agreement. Be careful to make sure to find out if you are buying a property under a rebranding requirement. This can be expensive. Some lenders will allow you to finance major renovations into the loan depending on the price, the property and the financials.

Other questions:

(1) You will need to set aside at least 5% for FFE reserves and building CAPeX. This is different than a PIP which can be financed and often requires the hotel to be closed and completely renovated depending on the condition. Smaller upgrades to amenities and room refreshes can be done room by room in blocks while the hotel is in operation.

(2) The best thing you can do is look back at the impact 2009 had on the industry. We saw occupancies and RevPar drop 30% or more in some areas so its really hard to predict what the actual consequences would be in the future. It is doubtful anyone was profitable with that kind of decline. If you keep your leverage and breakeven low you will be able to ride out a storm.