Finding Deal Flow in Hospitality

With demand for hotel rooms at record highs in the U.S., there’s often no room at the inn—and the smart money is heading to Latin America

Providing guests a place to stay is the number one goal for hoteliers. But with demand for hotel rooms at or near record highs in the U.S. and in much of the Americas, there’s often no room at the inn.

Private equity real estate firms acquired struggling hotels in the wake of the financial crisis, but little new supply was added in recent years. STR Global, the leading hospitality data service, says demand in April 2015 was 3M rooms higher than last year in the U.S., while supply was only 1.7M rooms higher.

Developers are breaking ground for new hotels, and April marked the third consecutive month of positive supply growth. While that’s the supply rebound STR has been predicting, Jan Freitag, senior vice president of strategic development at STR, says new construction won’t outpace room demand until 2017.

Since rooms under construction don’t generate cash flow, hotels have raised rates. For U.S. hotels, “key performance indicators are still at all-time highs,” says Freitag. April recorded the highest occupancy and demand ever in the U.S., at 66.8 percent and 99.4M rooms, respectively. The result: Revenue per available room, or RevPAR, rose 6.4 percent, extending the growth record in that benchmark metric to 62 months—with no end to growth in sight.

In short, hospitality is booming—and investors are taking notice. Through April 2015, total global hotel transaction volume was up 57 percent over the same period last year, according to JLL, with deals in the Americas climbing a heady 81 percent over last year, to $13.3B, almost double the $7.7B in Europe, the Middle East, and Africa transaction volume through April.

But challenges loom. Most value-added opportunities were seized between 2009 and 2011, leaving little room to reposition properties in strong markets. “A lot of those assets are now being sold,” says Richard Sprecher, vice president of business development at Aimbridge Hospitality, which manages and invests in properties across the hotel spectrum.

That’s fueling a boom in single-asset deals, which JLL expects to reach about $40B this year, surpassing the 2007 peak.

“Private equity groups are trying to find the next value-add opportunity,” says Sprecher, adding that it’s getting harder to do as “values keep going up.” So investors are adapting. “More private equity [real estate] groups are getting into the select service space,” he says, and all capital sources are funding new development.

According to JLL, the next big opportunity for private equity is outside the U.S., “where yield potential is strong and competition is lower.” One-third of investment-grade hotel rooms are located in emerging markets, but only 10 percent of hotel deals occur there.

The smart money is already in motion. In 2014, Chicago-based Equity International invested in Cartagena, Colombia–based Decameron Hotels & Resorts—a second transaction with Colombian partner Terranum Group.

Decameron specializes in all-inclusive vacations at a time when many Latin Americans are taking resort vacations for the first time, giving Equity International a stake in Latin America’s rising middle class.

With more than 9,000 rooms, Decameron is the largest hotel operator in the region. “The Decameron platform serves and profits from the demand of the emerging middle class in Latin America—a highly compelling, fundamental driver across the key geographies where it operates,” says Tom Heneghan, CEO of Equity International.

But don’t tarry. According to JLL, hotel supply growth in emerging markets is more than twice that of mature markets, and while capital is scarce now, that imbalance will “play to the favor of first movers.”