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Bob Hunter: Physical Distress Is Next Crisis Hotel Owners Face

A new wave of physically distressed hotels is emerging. Many owners are being forced to deal with significant property improvement plans that were neglected during the downturn, says Bob Hunter, CEO of Hunter Realty Associates.

Founded in 1978, the Atlanta-based national hotel brokerage firm hosts one of the longest-running lodging investment conferences each year in Atlanta. The 23rd annual Hunter Conference is slated for March 6-8 at the Atlanta Marriott Marquis. Hunter recently talked with Eric Stoessel, managing editor of Lodging Hospitality magazine, to discuss the state of the industry.

Stoessel: How do you define hotel distress?

Hunter: There's operational distress where there's bad ADR (average daily rate) and bad occupancy. You can't operate efficiently with that. The other side is financial distress. If you've got a nice hotel, a good brand, but you bought at the peak and financed the asset at 95% [loan-to-value] and it's no longer worth its mortgage, or the mortgage payment is so high, it's hard to pay.

Stoessel: Which form of distress are you seeing more of in the market?

Hunter: The reality is we're looking at that second wave. The first wave was when lenders were doing “delay and pray.” Their prayers were answered in some ways because some value has come back. The property that was worth $10 million went down to $5 million and came back to $8 million. The magnitude of the distress is much less now.

Meanwhile, five-year loans made at the height of the market are now coming due. We survived that first wave of operational distress. The lender didn't foreclose, and the sun is coming out again. Now it's, “Hey, Mr. Lender, I don't have the $8.5 million coming due on that mortgage.” In the past, there was a lender out there to refinance and give you the $8.5 million and pay off the first guy. But you turn around now, and there's no lender.

Stoessel: Are there more problems lurking?

Hunter: There's a whole new category of distress coming — physical distress. You had many seven-year-old properties due for renovations when the economic storm hit. They had no money, and the franchise company wasn't as demanding. So, for three years they deferred maintenance and held on, laid off staff and now the property is physically distressed.

As performance starts to improve, the franchisor starts saying, “OK guys, you'll start having money to catch up. Here's a great big PIP (property improvement plan). So, the owner wants to sell the $10 million property now worth $8 million and with a $2 million PIP.

Back in the heyday, the buyer would pay the PIP. But today, the buyer is going to subtract that and have $6 million in the purchase price and $2 million in the PIP. So, there's $8 million, but the seller doesn't get it all. People are starting to realize the PIP is going to have to be dealt with.

Stoessel: What's next for financially distressed owners with loans coming due?

Hunter: The existing lender has to do something. We think more of them will start exercising their rights to take over the properties now that they can get out without taking a big hit.

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