As with most sectors, the lending landscape has been altered by the COVID-19 pandemic, and with new variants surfacing, it may take quite some time for it to stabilize. Hotel Business connected with Alex Cohen, CEO, Liberty SBF; Mat Crosswy, president/principal, Stonehill; and Michael Sonnabend, managing member/cofounder, PMZ Realty Capital, to find out their perspectives on the present and future of hotel funding, and to tap into their expertise on what sources might be the best option.
How has the pandemic affected business this year?
Cohen: We are continuing to see the aftermath from 2020’s shutdowns in the hospitality sector, making this year choppy for hotel performance. Hotels located in major cities have suffered the greatest losses, with the Delta variant halting business travel and delaying a return to offices. However, we are seeing good performance from hotels in destination markets that are transit-oriented and near metropolitan centers.
Crosswy: We started to see a recovery, especially in leisure, over summer 2020. We experienced a bounce in corporate with some groups coming back. However, the Delta variant caused a slight pullback, especially in major markets. It interrupted people going back to the office, corporate travel and group meetings. COVID will continue to have flare-ups that might slightly push the recovery back, which continues to be forecasted to see a full recovery in 2023.
Sonnabend: The pandemic has created a bifurcated hospitality market in 2021. Many larger city convention-center hotels and other assets that rely on group meetings and international travel have suffered greatly. In contrast, select-service and compact full-service assets that have a significant leisure component have thrived. Many of our clients who own assets catering to leisure and transient business travelers have already returned to or surpassed 2019 results.
What do you think the lending landscape will look like next year?
Cohen: Hotel lending will continue to be challenging for both lenders and borrowers through 2022, but there are lenders who are willing to participate. Thankfully, many hotels were able to secure funding during the pandemic through Paycheck Protection Program (PPP) loans and Small Business Association (SBA) subsidies. These funds were key to sustaining the industry.
Crosswy: Debt funds primarily dominate the lending landscape. Currently, banks are still reluctant to take on additional hotel exposure, as they’re working through their existing portfolio and are seeing more pressure from regulators. We think that trend will continue. When banks come back into the market, their underwriting will probably be even more conservative than going into COVID, in which, before the Great Recession, deals were getting done at 75-80% loan-to-value. After the Great Recession, that went down to 60-70%. After COVID, we think banks will probably be somewhere around 50-60%. So, the underwriting will continue to be more conservative.
Sonnabend: The hospitality lending landscape has remained active but choppy. Local and regional banks have dialed back their hospitality appetite, while national lenders such as debt funds have filled the void. Spreads have increased over pre-pandemic levels, but historically, low indexes have created attractive pricing. Construction financing continues to be challenging, and it will be hard to come by over the next year.
Once the pandemic ends, what do you think will get a lot of play: fixed rate, floating rate, mezz, other types of debt? And for what?
Cohen: Even though PPP has ended, there are still high-leverage and low-cost financing options available through the SBA such as 504 and 7a. Hotel borrowers can now take advantage of one of the most significant financing opportunities of the year—refinancing their 7a loans, which are typically a floating rate, to a 504, which has a very low fixed rate. Currently, 10-20% of all outstanding 7a loans that could be refinanced to 504 loans belong to hotels. This refinancing option represents a huge opportunity for hotel borrowers to lower their monthly payments and conserve working capital.
Crosswy: All will get utilized, but it’s just a matter of timing. Fixed-rate debt will have to wait for the investor appetite to come back for hotels. That market hasn’t come back yet, but it will. It needs liquidity from that market, and deals will be highly structured. Floating-rate debt from debt funds and balance sheet lenders will be very prevalent. In the near term, traditional commercial lenders will be slower to return to pre-COVID lending levels. However, capital from private balance sheet lenders will fill the void from banks and be readily available for most sponsors in our space. Still, it will probably be at lower leverage points.
Sonnabend: As of right now, we do not have a timeline for the pandemic coming to an end, but there are still attractive borrowing opportunities across the capital stack. For those assets that qualify, we have closed fixed non-recourse rate deals below 3.75% with 10-year terms. There has been a lot of capital raised for floating-rate deals and equity investments, which will create more competition and increased borrower-friendly terms.
How long do you think hospitality lending will take to get back to normal, and why?
Cohen: Success in the hotel industry is dependent on when and how people are able to be together and gather, whether it’s for business or leisure travel. Until we have a clearer picture of how COVID-19 and the variants will affect public health, it’s impossible to project when the hospitality sector will fully recover. Loan availability for hotels will continue to fluctuate over the next few years depending on both the immediate and long-term effects of the pandemic.
Crosswy: Will it ever? I’m not sure. After the Great Recession, what was normal going back to 2008? Hospitality commercial real estate has continued to get more and more conservative. So maybe this is the “new normal”—lower cutoff points, more debt funds, private equity taking more risk versus traditional lenders and private equity in the form of debt. I think this will be the “new normal” going forward.
Sonnabend: The definition of “normal” is definitely key and, especially, how that pertains to what the “new normal” will look like as we move forward. Large meeting-centric hotels will most likely not return to 2019 levels for several years. On the other hand, select-service and compact full-service assets will likely “restabilize” during 2022.