Jonathan Falik, CEO of JF Capital Advisors, speaks with David Sudeck, senior member of JMBM’s Global Hospitality Group® at JMBM’s 2016 Meet the Money® – the national hotel finance and investment conference. They discuss the current hotel market, the availability of capital, and what lenders and capital providers are looking for.
A transcript follows the video. See other videos in this series on the Jeffer Mangels YouTube channel.
David Sudeck: We’re at the 26th Annual Meet the Money Conference. I’m here with Jonathan Falik, CEO and Founder of JF Capital Advisors. Welcome.
Jonathan Falik: Thank you for having me.
David Sudeck: You’ve been a mainstay at Meet the Money® – we appreciate that, by the way.
Jonathan Falik: Well, it’s one of my favorite conferences.
David Sudeck: What’s the temperament like in terms of the marketplace?
Jonathan Falik: People are cautious. Most seem optimistic, but are cautious and are in a learning mode. Everyone’s trying to figure out who’s saying what and who’s thinking what – which is interesting because normally people in our industry think they know everything.
David Sudeck: What are you seeing in the marketplace in general? Let’s talk about the cycle.
Jonathan Falik: Where we are in the cycle is different, in different sub markets in different cities. Los Angeles and San Francisco are doing great. New York City is doing crappy. Houston is doing crappy. From a national perspective, RevPAR growth is slowing down.
David Sudeck: What about the availability of capital? That’s your focus.
Jonathan Falik: There’s a lot of equity capital available; debt capital has shrunk very substantially. The CMBS lenders are very hesitant to quote new deals, to the extent they are. They’re very specific in terms of the assets, the sponsors. At a high level in the first quarter of 2016, CMBS volumes were down 40% over the prior year.
David Sudeck: What about construction lending?
Jonathan Falik: Construction lending is even more challenging. To a large extent, it depends on what market and where. If you want to get a new construction loan in New York City, it’s very, very challenging. Things that are not already financed are having a very tough time unless it’s 50% equity, 50% debt. There are relationship lenders that will do that. If you go to certain other markets, it’s achievable – but requires excellent sponsorship, a significant amount of equity, good branding, a real development capability and expertise.
David Sudeck: What about full service versus select service?
Jonathan Falik: Select service is easier than full service. Because lenders are not concerned about how long it will take to ramp up, they’re not concerned about how much money you’re going to make in food and beverage or in a spa or in other ancillary income. And if you look at the majority of the new supply growth that’s come online and that’s in the pipeline that Lodging Econometrics and Smith Travel forecast – the majority of it is in the upscale segment. So, it’s the Courtyards and the Hilton Gardens of the world that are the biggest hunk of new supply both coming online and in the planning phases.
David Sudeck: So what’s your advice to someone who wants to get a project financed today, let’s say a new construction project – what would be a good market segment and a good geographical focus?
Jonathan Falik: The easiest to get financed is that upscale segment where you can actually have a restaurant in the property, but it’s not going to be a meetings-heavy or super-large project. It’s maybe 150 to 200 or 220 rooms; it’s well branded; it’s well located. It’s in an area that hasn’t seen a lot of new supply in the last 5-10 years.
David Sudeck: What do you think of conversion opportunities?
Jonathan Falik: I think you’ll see more conversion opportunities. Number one, because some people are going to have to figure out how they’re going to deal with brand-mandated capital expenditures from PIPs and standard upgrades. Number two, the medium-term implications of the Starwood/Marriott merger (or the Marriott/Starwood acquisition) are going to be changes in some of the brand composition and changes in some of what Marriott requires of historical Starwood owners: doing upgrades from a life-safety perspective, from a brand-standard perspective. That’s going to create several years of opportunity to do different branding. It’s going to change up the market mix and the brand mix in certain sub-markets, which may make adaptive re-use more interesting to some owners.
David Sudeck: What do you see as the opportunities this year and in the next year or two?
Jonathan Falik: The opportunity is really the same as it’s always been. It’s figure out where you can find an attractive basis as an entry point for your acquisition, or all-in developing cost, all-in renovation cost, where you have an attractive basis. Because the next few years, from an operating perspective, will likely be difficult to predict.
David Sudeck: Have you been involved in any EB-5 capital raises of any kind?
Jonathan Falik: We’re working on one project right now in Miami that’s a ground-up. It’s a Curio-branded hotel, 296 rooms with a substantial amount of food and beverage space, a substantial amount of outdoor pool deck space on the rooftop, on the 8th floor. It sits on top of four floors of office and two floors of retail, so it’s a fairly large project. It has a significant EB-5 component to it.
David Sudeck: To what extent are you finding that the traditional lenders are willing to participate with EB-5? Have you gone out to market yet for traditional debt?
Jonathan Falik: We’re launching the debt financing in about 10 days. We’ve previewed it with certain lenders. Their general approach is, “Hey, if it comes and you want to use that as some additional equity, or some sort of mezz or preferred – that’s fine. It’s unlikely that we’re going to provide an intercreditor agreement, because we’re not sure who we’re negotiating with.”
David Sudeck: Or if there is an intercreditor, it’s effectively standstill.
Jonathan Falik: Yes. But they’re like, “Okay, if this is additional equity and it’s subordinate to us and maybe there’s a little cash flow leakage to pay them a coupon – we’re okay with that as long as the sponsor still has meaningful equity in the deal, meaningful skin in the game.” We’re not averse to a cheaper financing source.
David Sudeck: Our experience is, we did about a billion dollars last year of EB-5 financing and we found over this 2016 stub year, that everyone’s gotten a lot more conservative in terms of smaller raises, more equity in the deal, and I think that’s definitely the case in a more traditional non-EB-5 deal as well.
Jonathan Falik: What we did is, with this particular deal – and it’s consistent with advice we’ve given a lot because we’ve looked at probably 30, 40 different projects over the last two years, where the developer said, “Okay, we’re going to use this amount of EB-5.” You have to assume that the money will not show up when you think it’s going to show up, and that a construction lender isn’t going to start to fund until all of the equity and everything that is subordinate to that senior loan is fully funded. You need to capitalize the deal as if you were getting no EB-5. If it happens to come in and pay down some expensive mezzanine or preferred, that’s okay and that’s accretive to the transaction – even if you pay some break-up fees or early prepayment fees.
David Sudeck: That’s actually consistent with the timing in terms of an EB-5 raise –it can take a year.
Jonathan Falik: We’ve seen some EB-5 processes take more like 2 years. So, EB-5 to us makes a lot more sense if you have a generational development project. It might be something that’s been in your family or in your company for 10 – 20 years. You’re not in a super rush – even though everyone’s always in a super rush to do everything. If it takes an extra year or 18 months to get very attractively priced, very passive capital, the deal can handle that. Whereas, if you’re working with opportunity fund money that needs to find a return and recycle very quickly – EB-5 is very challenging to work into the mix.
David Sudeck: Can you give us any perspective on how the lenders are viewing brands: Brand management and then branded versus independent hotels?
Jonathan Falik: I think a lot of the more sophisticated lenders, in major urban markets, don’t need or don’t insist on a brand. So, if you look at San Francisco or New York where occupancies naturally are very high, they’ve financed enough properties that are independent or have some boutique-like brand but isn’t with a major national reservation system. They’re okay with that – they may price it 25 basis points higher in interest rate; they may want to advance two, three, four hundred basis points less of debt, but willing to do that.
When you move out of the very high occupancy urban markets, most lenders, especially in today’s environment, want to see a brand attached. Whether that’s accretive to the overall transaction or not, it’s the safety net for the lender, who doesn’t have to deal with day-to-day operations and is concerned what might happen if they were ever to foreclose. You know, when you get to some of the more sophisticated lenders as well, they’re very happy to see independent operators who can be terminated on short notice. Where their borrower is not just handing over operations to a third party who gets paid based on gross rooms revenue, or gross revenue and some sort of incentive fee.
The one caveat to that is if it’s a major convention hotel in a major market – call it a six, seven, eight hundred room hotel – there is something to be said for the brand-managed when they can use their group reservation system and they’re bringing national conventions into play versus just being a brand manager.
David Sudeck: Very good insight. I want to thank you for joining us again. If there’s anything else you want to share, you’re welcome to. If not, we’ll see you next year.
Jonathan Falik: I’m glad to be here at the conference. Love coming to it every year.
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