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Both investors and developers continue to contemplate full-service products aggressively, while the economy and mid-market segments fall deeper into negative supply / demand equilibrium. According to our survey, markets with high barriers to entry in the central, northeast, and midwest regions were viewed as most favorable for development, with center city locations being perceived as more advantageous than airport, suburban, or resort locations. Extended - stay facilities still provide one of the highest cash returns on equity, signaling that growth in this segment is also likely to continue.

According to professionals in the lending, development, and brokerage communi-ties, New York City, Chicago, San Francisco, and Boston continue to head up the list of most desirable markets for new lodging development. High barriers to entry and few available sites provide effective insulation against new competition while steady year-round demand minimizes large occupancy swings. Salt Lake City,  San Antonio and Atlanta continue to experience lackluster performance as over-supply in these markets exacerbates already highly competitive lodg-ing environments.
 
 

Construction Trends (chart)

Recent construction data from the Department of Commerce indicates an overall slowdown in hotel construction spending, signaling an end to the high - growth economy and mid - market segments. Although 67 percent of the survey respondents anticipated new hotel development as part of their plan in 1998, most saw full - service and luxury properties as the most attractive, while none viewed economy / budget properties as worthwhile endeavors. Since upscale properties are more difficult to finance and develop we expect this downward trend in construction spending to continue through the year.
 

Financing Trends

In terms of cash made available to fund growth of the hotel industry, REITs and Wall Street conduits are expected to provide the bulk of funding over the next six months, with pension funds, insurance companies, and regional banks providing the balance. It is expected that the majority of deals in 1998 will be completed with the assistance of traditional debt financing (as the cost of capital remains fairly low). The remainder of capital is likely to come from cash flow from operations or com-pany lines of credit.

Compared to other types of real estate, typical hotel loans are currently being priced only at a slight premium, signaling Wall Street's continuing confidence in the industry, and inspiring strong lending volume. Higher leverage rates, lower equity needed to build, and more extensive debt financing choices have made obtaining financing for hotel acquisi-tions and development the most attractive it has been in years. In addition, many of the institutions surveyed indicated that no restric-tions in terms of project size or financing requirements were placed on loan applicants, paving the way for large mergers and acquisitions, as well as liberal credit line facilities. However, survey respondents indicated that the robust increase in the availability of debt and equity for new development that has been experienced over recent years is expected to wane, with levels over the next six months remaining in line with current volumes. In fact, of those lending institutions surveyed, 67 percent agreed that a similar volume of lending against hotels would continue for the next six months, while 33 percent stated that they would lend more in upcoming months.

Overall financing parameters continue to look favorable, with decreasing interest rates, shorter terms, and reduced debt coverage thresholds. Equity indicators show similar strength, however, these indicators may be slightly skewed due to the high volume of recent mid-market and economy transactions (see chart).
 

Acquisitions are expected to continue throughout 1998 and contribute to a signifi-cant percentage of overall real estate activity. This activity will mostly he dominated by the large REITs and C-Corps in order to continue to meet the high earnings expectations of Wall Street. In contrast, smaller players are expected to win some formidable prizes as "relationship - based deals"  begin to emerge in the most desirable acquisition markets such as Chicago, Boston, New York, and targeted cities in California. Markets such as San Antonio and Atlanta will continue to play a role as "the dogs" of the hotel industry, as over - building has already undermined occupancies in these cities.
 

Conclusions

On the surface, it appears the stage has been set by the lending institutions for a repeat performance of the 1980's. Low interest rates, high loan to value parameters, unsecured credit lines, and loose underwriting criteria provide the potential for a highly active hotel investment market. However. this time around the investment community has exhibited a higher degree of discipline. It is not obvious to what extent investors will take advantage of the beneficial financing terms in the form of mergers and acquisitions, individual property sales, roll-ups, or new development. All are likely, and will most probably usher the industry to the same result: a consolidated hotel market of 5 to 6 national and international lintel REITs and C-Corps by the end of the millennium.
 
 

Also see:
Interest Rates and Inflation / 1990 thru Jan. 1998
If You Can't Beat 'Em
Labor - Dark Clouds on the Horizon
Asia - Favorable opportunities exist, but..
Landauer Hospitality Consulting, Inc. Main Index