Rising Interest Rates Are Scrambling Hotel Deal Calculations

Skift Take

Baron Ah Moo works for PKF Hospitality and is a former hotel CEO. So he’s well-connected among private equity firms and other dealmakers. Here’s what they’re telling him now.

Sean O’Neill

Many investors are nervous about today’s stormy market. So what’s the smart money doing?

Someone who speaks regularly with a cross-section of hotel investors worldwide is Baron Ah Moo​.

• Ah Moo leads the U.S.-based consulting practice for PKF, a full-service, global hospitality advisory group that’s based in Vienna, Austria.
• He previously advised on real estate for Colliers International and Lewis Fund Holdings, one of the UK’s largest family offices.
• He was also CEO of Indochina Hotels and Resorts, which had a half-billion dollars in leisure real estate assets under management at the time.

Here’s the state of play in U.S. hotel deals — what’s in and what’s out.

• Many investors waited for hotel pricing to bottom out during the pandemic. But government subsidies artificially floated the market and the expected industry-wide “black swan” event never materialized. Now they’re desperate to place capital, but they’re wary of a market that’s become turbulent with rising inflation and interest rates.
• “Though destination resorts remain hot, the growth in leisure demand will peak this summer,” Ah Moo predicted. 
• Glamping has more room to run, he said. (Surprise!)
• Equity memberships/fractional/vacation ownership —specifically in response to demand from investors in developing market countries for projects often elsewhere — is also more attractive than some other areas of hospitality investment right now, Ah Moo said.

Ah Moo said that — in the U.S. hotel market — a lot of money is sitting on the sidelines.

• “My view is that the larger investment firms with access to reasonable debt will still be able to pull the trigger on deals,” Ah Moo said.
• Long-standing private equity firms have experienced higher interest rates historically. So in their view, cost of capital remains inexpensive. 
• While private equity firms often look for IRRs [internal rates of return] of 20 percent or more, this target will need to rise with inflation and interest rates. 
• Firms can still justify deals, but it may mean for favorable waterfall structures for LPs [limited partners] and not GPs [general partners]. 
• Additionally, given today’s strong dollar, overseas purchases have become much more tempting.
• Yet many other investors remain worried that prices are too high and will likely rise further, particularly for some categories, such as resorts.
• “The medium-sized players will be pulling back, broadly speaking,” Ah Moo said. “There’s a rush to the table to make sure you get your debt in order.”
• One side note: Among individual investors in some Asian countries, such as Taiwan and Japan, demand for timeshare and branded residences in the U.S. is booming, Ah Moo said. That demand will encourage a boosting of the supply of fractional or whole ownership projects.

Ah Moo’s take on Southeast Asia is that many investors will wait until there’s more clarity.

• Ah Moo recalled being CEO of Indochina Hotels and Resorts.
• “In the 2000s, we would see promises of 30 percentage-plus annual internal rates of return on some investments,” Ah Moo said. “Investors would scoff and say, ‘That’s not possible.’ In hindsight, those investments did perform super-well.”
• Ah Moo spots real opportunities in these developing markets. “The regulatory infrastructure in markets like Thailand and Vietnam has come a long way in the last 15 years and has helped de-risk foreign investment,” Ah Moo said.
• The rising economic and political sway of China is of interest to many owners of assets in countries such as Vietnam, Indonesia, and the Philippines.
• Many sellers will increasingly add a criterion to evaluating potential deals, namely, whether any given deal results in them being pulled closer to the U.S.’s or China’s orbit.

Ah Moo offers advice to investors betting on overseas projects.

• “Hire local expertise,” Ah Moo said. “I mean truly local. Just because someone speaks the language doesn’t mean that they understand the micro-culture. For example, as an American who worked in the UK, I quickly learned that though I have the ability to speak English, it does not give me any better understanding of the cultural and professional as someone who did not speak the language at all.”   
• “Leaders should also live in one of the local communities rather than stay in the ex-pat bubble,” Ah Moo said. “It adds credence to what you do and gives you insight.”

Ah Moo’s perspective on Latin America is that many U.S. investors need a reality check.

• Latin America has become less beholden to U.S. capital, changing the game of hotel deals and development.
• “The days of the U.S. being seen as the role model for the rest of the Americas are a distant past,” Ah Moo said. “That dynamic has completely changed.”
• “During my time in Mexico City in the 2000s, I was surprised by how important the U.S. market was to their economy,” Ah Moo said. “Now, that relationship has shifted.”
• “Across the region, the hotel sector no longer is dependent on the U.S.,” Ah Moo said. “For example, Guatemala has discovered it can turn to Mexican investors, Honduras can now depend on Costa Rica, and Brazil and Argentina can provide the region with both tourism demand and investment.”

Where’s the surprise and innovation coming from in hospitality?

• Ah Moo said that growing interest in “glamping” and related professionalized hospitality services for outdoor, non-urban areas is important — and often overlooked for its significance.
• “Glamping is a nice stepping stone toward hotel development for many out-of-the-way destinations that haven’t welcomed hotels previously,” Ah Moo said. “Communities and local governments get to “test drive” both the economic and environmental impact at a smaller scale to see if a larger hospitality project would be beneficial to the city/county/region.”
• “Also, branded residences used to be in a similar space to glamping as a higher-risk investment, given that professional investors saw the governance issues as unclear, ” Ah Moo said. “Now, with the explosion in demand for luxury resorts and accompanying services brought on by the pandemic, branded residences are seen as a safe and secure second-home investment.”
• “With relatively few hospitality branded residences in primary and secondary cities around the globe, I see this as a real opportunity,” Ah Moo said.

What do hotel deal and development leaders need to do better on?

• Diversity, equity, and inclusion, said Ah Moo.
• “From a leadership perspective, hotel companies that say they’re going to do more to boost diversity have to be committed, pedantic, and not waiver,” Ah Moo said.
• “It’s going to create difficult conversations,” Ah Moo said. “But when you announce you’re going to go out and recruit, say, five minority candidates for a position, giving up after finding two is not ‘good enough.’”
• “Also, creating an environment where BIPOC and LGBTQ+ people have access to mentors and relevant resources that will allow them to advance in their careers is something our industry needs to do a better job to foster,” Ah Moo said.

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