In April, a report by Cebr revealed that more than £200billion had been written off the value of the UK’s commercial real estate in the past nine months, with non-residential building stock value plunging 21 per cent since its June 2022 peak.
But what does this massive write-down signify for the hotel sector, specifically? Experts argue that it doesn't necessarily spell doom for the industry, as the impact of the write-down is confined to certain assets.
Impact on hotel sector
Richard Dawes, director, hotel capital markets at Savills explains that the assets responsible for these value shifts are predominantly fixed lease assets, which are typically owned by institutions.
"They track the changing income and values but they’re not necessarily a bellwether for the broader market because the UK market tends to be more owner-operator," he says.
Pippa Harrison, head of hotel capital markets at Avison Young adds that the most significant pricing shift has occurred in long fixed income investments, where valuers have measured long fixed income against gilts, which have moved from around 2 per cent for 15-year to 20-year gilts to just under 4 per cent.
"We've seen a shift of 50 to around 100 basis points on fixed income leases with hotels very much reflected in the wider fixed income market," she notes.
Saar Sharon, head of hotel capital markets at Colliers says devaluation is a natural occurrence in the lifecycle of real estate investment, noting that while there has been some rebasing in the hotel sector in some instances, the change hasn’t been significant and certain types of assets have been less affected.
“We don’t see real rebasing around quality properties. The reality is that hotels are experiencing some rebasing and in some markets, we see a rebasing of 15 per cent to 20 per cent in some instances but it depends on the product, it depends on the city and it depends on the quality of the operations.”
He believes that most of the pain is in offices, especially with older products and those that didn't see much investment.
Challenges and opportunities
Regarding opportunities and challenges, Sharon points out that the main challenges lie in the fixed income sector. "We need to continue to monitor investor sentiment with regards to ESG and capex on buildings," he advises.
“In times where you have recessionary pressures, there is a flight to quality. So investors will buy the best graded product they can and from that point downwards, you will see some rebasing of pricing. They will say ‘what is the best hotel selling today? What’s the yield, what’s the profile of the building, what’s the location?’ and from that people will start to recalibrate.”
He also points out that there are still risks with inflation although he believes those will ease off in the second half of this year and into next year.
Sharon also sees refinancing as a significant risk going forward and suggests that hotel investors maintain open communication with their backers and operators.
Harrison concurs, adding that companies needing to refinance will face an impact later in the year.
Dawes highlights the challenge of value being a ‘moment in time’ and being led by that moment may create pressure when refinancing. "If you’re looking to refinance at the moment, there might be pressure to put more equity into your asset because the 'moment in time' values might be perceived to be a little lower today than 12 months ago," he cautions.
Discussing opportunities, Sharon identifies key ones in serviced apartments, aparthotels, and luxury investments.
“Serviced apartments, aparthotels are always great properties that can adjust for inflation and have less food and beverage/payroll exposure. I think there’s always demand and always interest in luxury; it’s one of the fastest growing industries in the world.”
Harrison also notes that the shift in pricing presents opportunities for experienced hospitality investors who understand hotels.
“We’ve seen a larger shift in pricing with the fixed income hotel deals but they were becoming extremely expensive. Experienced hospitality investors are seeing this price movement as an opportunity to be able to acquire some of the long fixed income investments that they couldn’t before because they couldn't compete with larger funds.”
She advises, “The key opportunity for hotel investors is sourcing what you’re looking for because most owners are currently thinking about what to do if they need to refinance and some clients are reviewing whether they need to sell one asset out of a portfolio to make their wider portfolio less geared and have a bit more equity to put into the loan. If you’re a cash buyer, you’re in a very good position.
However, she notes she hasn’t seen the stress that a lot of investors are looking for so “most transactions of any weighting will be done off market where investors zone in on assets they consider is worth investing in and approaching owners to see whether they would sell”.
Strategies moving forward
To add value and increase the resilience of their portfolios, Sharon recommends that hotel investors diversify their portfolios.
“Many hotel investors have an ethos – so they invest in urban locations, resorts, budget, luxury, etc – and not enough diversify to pick up the best in class across sectors. I’d like to see that happening more. If I was running an investment vehicle, I would focus on high end and low-end aparthotels and serviced apartments. I would go after bedroom stock that can beat inflation, with limited exposure to employees and increased exposure to technology.”
He stresses there’s a need to address issues with the quality of buildings. “There’s a lot of stock that is under par and unless that’s dealt with, come 2030 and with ESG, it’s going to be a rude awakening for some.”
Harrison encourages hoteliers to explore not just cost savings in areas like utilities but also long term investments to make their hotels as green as possible.
“We need to start looking at cost savings and in areas that we normally wouldn’t look at. Previously, if you’d asked a valuer how much focus they had on utility costs, they wouldn’t have been looking at that as much compared to now when we now need to look at not just the actual cost of utilities but how the properties are being powered. Are we using gas, are we using oil, what’s happening with renewables?” she says
Looking ahead, Dawes says he expects a continued flight to quality in the coming six to 12 months, with investors seeking products they feel they can position well.
“These types of products will still hold their value because debt providers will be keen to support those assets. It’s those assets that don’t tick all the boxes that are going to come under a bit of pressure.”
Sharon says critical areas to focus on are quality of operations and maintaining good contact and good investment in terms of capex in the properties. Make sure the assets are great in terms of ESG and cladding and make sure your relationships with lenders are exceptional," he advises.
Harrison positively notes that the pricing changes now mean that it’s far more attractive for investors to see the types of return they can get.
“Values were becoming untenable and some of the yields for hotels were ridiculously low and there wasn’t really much of a return on investment. Investors looking to expand their portfolio or investments can benefit from the lower prices currently seen in the market.
If you're an investor, then going forward, you expect to be able to buy assets that have a much better return than what you were getting before," she concludes.
In summary, experts say the massive write-down in commercial real estate value does not necessarily spell doom for the hotel sector, highlighting the impact is limited to specific assets.
Hotel investors can navigate these challenging times by diversifying their portfolios, focusing on high-quality and sustainable properties and maintaining strong relationships with lenders and stakeholders. By doing so, they can capitalize on opportunities presented by the changing market landscape and ensure the resilience of their investments.