New York, October 1, 2001 � The recent terrorist attacks have effectively pushed U.S. hotel real estate into the bottom of the market cycle. This presents not only risks but definite opportunities for investors, owners and lenders according to a detailed report released today by Jones Lang LaSalle Hotels on the impact of the terrorist attacks on the U.S. hotel real estate market.

Most economists agree that the tragic events of September 11 will likely push the U.S. economy into a recession, although opinion on the timing of a recovery varies between mid 2002 to 2003. "The question for hotel real estate investors is what this will do to hotel markets and investment performance," said Melinda McKay, Senior Vice President of Jones Lang LaSalle Hotels.
 
Initial reactions have been significant. Airlines have cut approximately 130,000 jobs and schedules by 20 percent. Hotel stocks lost between 20 to 70 percent of their value in the first week of trading, although industry forecasts place revenue per available room (RevPAR) falls at only 10 percent for the remainder of the year. Hotel capital markets remain in a state of uncertainty. "The economy, travel and subsequently the hotel sector, will rebound when Corporate America and consumers believe that decisive military action is being taken and that airline security systems are proving effective," said McKay. 

Already, the market has begun to recover from the traumatic fall in the U.S. stock exchange during last week's frenzied trading. By close of trading on 28 September, the Dow Jones Index posted a 7.4 percent gain over Friday 21 September's closing level, while the weighted average recovery in the 20 largest hotel stocks measured 12.8 percent. The five largest hotel stocks posted a recovery of between eight to 24 percent. 

"The market is at an extremely challenging position, and what investors do now will be critical," noted Arthur Adler, Managing Director for the Americas of Jones Lang LaSalle Hotels. The bottoming of virtually all hotel sectors in the Americas indicates a strong buying market will emerge. 

In the public markets, hotel company values are immediately "marked to market." Despite what is considered an overreaction by most experts, the recent treatment of the hotel stocks is likely to give a clear message to hotel owners in the private sector that 2000 was a peak. As a result, the gap between bid and ask prices (what has stifled transactions to-date in 2001) will likely narrow. 

"Market uncertainty will be priced into hotel transactions in the form of higher discount rates," stated Adler. "In addition, lower loan-to-value (LTV) ratios and higher debt-service-coverage (DSC) quotients will raise the overall cost of capital, further impacting pricing." According to Jones Lang LaSalle Hotels, buyers with access to capital should seek to acquire well-priced hotel properties in diversified markets and those in "drive-to" destinations. Other key sectors likely to show positive upswing in the short term are hotels proximate to technology, defense and communication suppliers. Hotels in suburban locations will gain from the potential longer-term shift in corporates to suburbs in close proximity to major central business districts. 

"Gaining access to capital will be difficult, as lenders baulk at uncertain cash flows and values," stated Adler. It is doubtful the real estate sector will enjoy total capital flows of $114.4 billion in 2001 as predicted just a few months ago. The 1991 experience demonstrated the market's reaction to recession and international conflict, with more than $25 billion of private debt withdrawn from the market during the year and private equity levels shrinking by 90.1%. 
 
"Lenders' future appetite for hotel deals will be largely predicated by what happens to current loan portfolios," said Adler. If there is a large degree of default, as many lenders fear, then the issue of re-capitalization becomes critical. A further "red light" for lenders relates to the level of loans due to
mature over the next 12 months. Adler continued, "A record number of mortgages were negotiated in 1998, many with three-year facilities and one-year extension options. As such there are a significant number of hotels that require re-capitalization in an unfriendly environment." 

This will create opportunities for pro-active lenders to enter the market with loans that have a more favorable risk-to-pricing relationship. However, anecdotal evidence suggests lending will not materialize until the market shows some stability, and even then the criteria will be more conservative. "Lenders in this context should consider the exceptional performance of hotel loans over the last five to 10 years," remarked Adler. 

"Stock market shocks and fear over future earnings have the potential to encourage a hotel sell-down by institutional investors, who may now find themselves overweight in this asset class," noted McKay.  "Also, given share price volatility, the hotel giants that have traditionally been so competitive, are likely to limit new acquisitions. These two factors combined provide compelling counter-cyclical buying opportunities for capital-equipped hotel investors." 

Investors do need to be aware that certain sectors are more at risk than others in the short term. These include: leisure destinations dependent on longer-haul air travel (particularly over water), such as Hawaii and the Caribbean; large U.S. cities with a high proportion of long haul and business travelers; luxury hotel markets; airport hotels, given the fall in air travel along with the reduced air staff-related business; and convention cities, the biggest being Las Vegas, New York, Chicago and Atlanta. In addition, if conflict is extended, winter holiday markets such as the ski resorts are at a short-term risk and also Salt Lake City, given its hotel sector is relying on a pay-off from the hosting of the Winter Olympics. 

Washington D.C. and New York will likely incur some short-term penalty as they were the focal point of the attack; however, these cities will benefit from the $40 billion rebuilding efforts. In addition, the removal of almost 3,000 rooms from New York's hotel inventory due to closed hotels in lower Manhattan and hotels converted into temporary office space will mitigate a downturn in this well diversified market. 

"When analyzing the potential impact of the terrorist attack and likely recession, it must be taken into account that the industry is in a much stronger financial position to absorb the downturn than the last recession, which was well underway during the Gulf War," commented McKay. 

Fundamentals have improved, volatility has reduced and there is a more mature and diverse investor base. The industry has also historically shown effective cost cutting measures to preserve margins. Over the last 10 years, Gross Operating Profit (GOP) has increased at a compound average rate of 4.8 percent p.a., or a total of 60.4 percent. Fixed charges have in turn declined at a compound average rate of 7.8 percent p.a., or a total of 55.6 percent.

Today, hoteliers are looking at all possible ways to cut overheads and there is increasing evidence of hoteliers seeking brand standard leniency. The primary area of cost containment is in payroll, although other measures include closing floors/wings and food/beverage outlets, and reducing hours of operation for businesses such as health clubs, gift shops and even room service. 

Other positives in favor of the U.S. hotel sector include a potential increase in domestic tourism stimulated by a weakening U.S. dollar and fear of longer-haul travel, particularly over water. The rescheduling of conferences and the lifting of corporate travel bans will also release pent-up demand and drive occupancies into more healthy ranges. In addition, the $15 billion bailout package for the airline industry should help prevent systemic damage to the travel market and potentially place somewhat of a cap on impending airfare increases. There is also a possibility for the government to assist the hotel sector via tax incentives and benefits for displaced workers. 

History has demonstrated the U.S. economy and indeed the hotel sector do recover from major disruptions, whether they are conflict, terrorist incursions or natural disasters. Certainly there has been no similar assault and as such we can expect the impact to be more severe and for recovery to take longer. Shaky consumer confidence and resulting economic and travel disruptions will reign until the length of the impending conflict becomes clear. A perceived resolution will be the critical factor in the pattern and timing of a recovery. 

Jones Lang LaSalle Hotels is the world's leading hotel investment services group. Through its 18 dedicated offices and the Jones Lang LaSalle network of over 7,000 professionals in more than 100 key markets, Jones Lang LaSalle Hotels is able to provide clients with value added investment opportunities and advice.