Exit-Strategy Gurus

During the post-September 11 hotel slump, asset managers were instrumental in helping investors and operators make the most of a bad situation. Some aggressively cut operating costs while others took advantage of the lull to spruce up their properties.

Since the slowdown ended in 2004 and hotel values have soared, asset managers have hardly been idle. In fact, many are positioning themselves as experts in hotel portfolio management — advisors who can help investors maximize returns on sales and, as a result, be rewarded by a percentage of the sale price.

While they craft a new relationship as deal advisors to investors and owners, both individual managers and third-party hotel asset management firms have found their core skills are in hot demand, even as a bidding frenzy makes it easy to turn huge profits.

“It's often said that owning a hotel during a slump requires really good asset management, but the guys that buy a hotel in a really hot market also need to keep their eyes on operations,” says Thom McConnell, vice president at Manhattan-based Cushman & Wakefield. “They've spent a fortune on the property, so they've got to keep their investment secure with a good manager.”

While some feel strongly that hotel asset managers should stick to being operational specialists with the ability to keep multiple properties running on budget, others believe their value includes the ability to call an exit.

To Alan Tantleff, executive vice president at Chicago-based Jones Lang LaSalle Hotels, this added appreciation for transactional expertise took hold several years ago when institutional investors started gobbling up large hotel properties. Tantleff should know — he has asset managed more than $1 billion worth of hotel properties in his career. He's also helped sell more than $1 billion in hotel assets, including the 46-story New York City Hilton in 1998.

“Today's hotel asset manager needs a much broader set of skills that really involves the capital markets,” says Tantleff. “And the really good asset managers always have their eyes on the exit strategy, which varies based on who owns the property.”

As a result, says Tantleff, many in-house and third-party asset managers now have their compensation directly tied to exiting the investment at a lucrative moment (see sidebar on page 42). In a seller's market, unloading assets is prudent and this is one of the best seller's markets on record. Data from Smith Travel Research of Hendersonville, Tenn., shows that national hotel occupancy hit 66.2% at the end of October, which was 60 basis points above the 65.6% occupancy rate achieved at the end of October 2004.

Sales pressure

Not only are fundamentals on the rise, but investor demand to buy hotels remains strong. Manhattan-based Real Capital Analytics reports that $18.1 billion in hotel assets priced at $5 million and above sold in 2004. Through the first 11 months of 2005, there were $23.2 billion in transactions, a 28% increase.

More than half of that $23.2 billion was bought by institutional players such as Morgan Stanley and the Blackstone Group, reports Real Capital Analytics. Unlike a private investor with just one closely held hotel property, these buyers must answer to thousands of investors and a handful of stock analysts. That puts more pressure on strategic thinking, especially when handsome returns can be achieved by turning over an asset.

“The asset manager must have a strong competency in operations for a very simple reason,” says hotel asset manager Rick Swig, principal of San Francisco-based hotel advisory firm RSBA & Associates. “The asset manager is often working on different properties in different markets, and losing sight of how these properties are operated would make it harder to work with owners.”

For Denver-based private equity real estate firm Amstar Group, all hotel asset management is done in-house. Amstar, which has invested in roughly $2 billion in commercial real estate since the late 1970s, typically partners with a local operator on hotel deals. Phil Hutchins, vice president of Amstar, says that his hotel asset managers are focused on the capital markets — and he recently acted on one manager's suggestion to sell.

In early December, for example, Amstar sold its 205-room Caleo Resort & Spa in downtown Scottsdale to Kimpton Hotels and Restaurants Group for an undisclosed price. This deal followed a $7.2 million renovation of the 44-year-old property last spring.

“Kimpton approached us unsolicited about buying, and our asset manager worked closely with our operator to determine if it was worth selling,” says Hutchins, who would only say that the sale price “more than recouped our renovation cost.”

To Hutchins, the Caleo sale shows how an asset manager must have enough business acumen in the capital markets to see a strong sell opportunity when it arises. But the manager also needs to work closely with the local operator to spruce up the property and position it for a sale in advance.

“Instead of just understanding how an asset works, the manager really needs to be asking himself this question: What is it worth? At some price, we are all sellers,” says Hutchins, who adds that asset managers weren't nearly as influential on the transaction side 10 years ago. Amstar's in-house asset managers do not typically receive bonuses based on the sale of any asset under their watch, says Hutchins.

Ownership interests

Aside from coordinating multi-million-dollar renovations, hotel asset managers have also gotten better at managing expectations. That may sound obvious, but it's another example of how investors want less specialization from their asset managers and more macro-level knowledge. According to Doris Parker-Grossman, national director of hospitality at Jones Lang LaSalle Hotels, asset managers must do their homework in advance, or risk running afoul of their owners' return strategy.

“It used to be that investors wanted an asset manager that would roll up his or her sleeves and go talk to food vendors,” says Parker-Grossman, a hotel asset manager for 35 years. “But now you have institutional owners who have raised the money themselves and are determined to get strong returns from these assets.”

Parker-Grossman says that asset managers must determine acceptable return thresholds. This goes beyond having a shallow understanding of what each investment group has done with hotels in the past, too. “It's very important to communicate with the owners and get a strong sense of their strategy and what their best practices are in advance,” she says.

“I'd say that 70% of the returns that hotel owners will see in the next three to five years will be directly tied to good asset management,” says Ross Woods of PricewaterhouseCoopers. “The asset manager needs to know if the market is in contraction, recession or recovery. And he also needs to know the life cycle of the hotel and how long the owners want to hold it.”

Parke M. Chapman is senior editor.

Talk is cheap, advice isn't

Frenzied buying and selling activity among hotel investors has boosted the need for third-party hotel asset managers. One reason, say sources, is that many new buyers have little hands-on hotel experience. For Pamela Greacen, president of Hotel Asset Management Association (HAMA), it's clear that many investors realize how little they truly know about operating hotel properties.

“There are more third-party hotel asset managers today than ever. I think that owners really see the value in hiring an asset manager who can handle due diligence and other tasks,” says Greacen, who typically works with wealthy independent hotel owners. HAMA has grown its membership from 10 firms in 1995 to 45 today.

Third-party managers can earn substantial fees from owners. The fees tend to fall into two categories: flat fees and fees based on a percentage of gross asset value. The flat fees can range from a low of $2,500 to $3,500 per month for a single property to as much as $15,000 to $20,000 per month for a more involved asset.

“A typical contract length is one year, with provisions for early termination upon sale of the asset,” says Mark Lynn, president of San Francisco-based HVS International Asset Management and Operational Advisory services. Most outside hotel asset managers can expect roughly 1% of gross profits as their fee.

Lynn notes that bonus compensation based on a percentage of the hotel sale has become more common in recent months. Owners in the most active sales markets are increasingly lumping these bonuses into their asset managers' contracts.

“In the main, asset managers are getting paid more today than they were in years past,” says Ross Woods, a director in the lodging group at Manhattan-based PricewaterhouseCoopers. “You also have to remember that some asset managers oversee as many as a dozen different properties, so anytime that several get sold in a short period of time, it's a bonus.”
— Parke M. Chapman

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