US investors are piling money into European hotels, a sector that is ripe for restructuring. By Graham Parker.
Europe has a well-developed hotel industry, with some of the finest establishments in the world at the top end of the market and an intensive network of budget operations – particularly in France – at the opposite end of the scale.
But Europe has failed to deliver a market in hotel investment properties; the vast majority of hotels are owned by the operators. Accountants and analysts have long complained that this is not an efficient use of capital. In the US, on the other hand, there is an extremely active market in hotel investments, and properties are typically let on commercial terms to the hotel operators who are therefore free to invest their capital in what they do best – hospitality and marketing.
The emergence of specialist hospitality real estate investment trusts in the US in the last five years has further fuelled demand for hotels as a separate real estate asset class. There are unmistakable signs that this US trend is crossing the Atlantic.
Three of the largest hotel Reits, Starwood Hotels & Resorts, Patriot American Hospitality, and Meditrust Corp, have been locked in a $800m bidding war for The Savoy Hotel Group, which owns some of London’s top hotels. US investment bank Blackstone is also bidding. Starwood has already bought ITT Sheraton for $13.3bn, while Patriot is in the process of buying the UK niche player Arcadian Hotels which owns the Great Eastern, the only hotel in the City of London.
Potentially the biggest buyer of European hotels will be Strategic Hotel Capital Inc, which has earmarked $800m to spend this year. The Chicago-based company is a joint venture between Security Capital, Goldman Sach’s Whitehall Fund and Pricoa.
Its first acquisition of 1998 was to sign up Kay Dymock, formerly head of Jones Lang Wootton’s hotels consultancy, as European managing director. Dymock has completed two big purchases for SHCI in short order, buying the Marriott Champs-Elysées, Paris, for FFr 550m and a leasehold interest in the St Ermin’s Hotel, London.
Hotel industry insiders expect SHCI to do more deals with Marriott and do not rule out purchases of some of Ladbrokes’ Hilton International properties.
LaSalle Advisors Capital Management, also Chicago-based, announced in February that it had invested NLG 115m of its own and its clients’ funds in Hospitality Europe, a specialist hotel ownership company. Hospitality Europe owns four properties with a total of 1,394 up-market rooms, all operated by ITT Sheraton.
Three of these have been bought within the past 12 months: the Pullitzer in Amsterdam city centre, the 405-room Sheraton hotel and conference centre at Schipol Airport and the Stockholm Sheraton. And in the previous year it bought the Brussels Sheraton.
Hospitality Europe is looking for more investments, including ones in southern and central Europe.
Traditionally, hotel purchasers have fallen into two categories: owner-occupiers or institutional investors looking for properties let on conventional commercial leases.
But according to Arthur de Haast of JLW Hotels, this new breed of specialist hotel investor wants something different. “People like SHCI are not looking for leases,” he explains.
“They want properties subject to long-term management contracts. They are experienced in managing the manager and they want to be able to influence what goes on in the hotel.”
Typical management contracts run for ten years, and in some case 15 or even 20. But there is usually a performance measurement clause in the contract, and if the management fails to deliver then the investor has the right to replace them with another operator.
Clearly the old models of either a set price per room or applying a multiplier to the lease income do not apply in valuing these assets. JLW’s de Haast says that discounted cash flow analysis of the operating business has to be used, assuming that the new owner will want to make further investment on enhancing the property.
And as much as 4% of annual revenue now needs to be set aside in a sinking fund to meet the ever-increasing costs of keeping a hotel up to the latest standards.
US investors believe Europe offers more potential than the US, in terms of economic and property cycles.
So are the new US real estate investors likely to change the face of Europe’s hotels?
They have a reputation for working their assets hard, which includes a far more efficient use of the available space than many of the traditional owner-managers have achieved.
“In the US, the concepts of retail and leisure use for previously unused space in hotels is well-entrenched,” says JLW’s de Haast. “The fact that US investors are moving into the European market will probably lead to the introduction of more leisure services into European hotels,” he predicts.
