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by Jonathan Jaeger and Robert Van Laer

Over the past several years, new innovation and technology in the United States has been deployed in order to advance domestic oil and natural gas production. In order for the U.S. to become energy independent by 2030, America is rapidly becoming a leader in the global energy economy. Since 2009, shale development and crude oil/natural gas production, commonly denoted as "play(s)," have dramatically increased in various regions, with Texas becoming the largest energy producer in the U.S. Simultaneously, the demand for all types of lodging and housing facilities in rural areas of south Texas is surging. Many cities and towns that historically had limited industry are now experiencing marked increases in population and employment. Demand for hotel rooms in these submarkets is primarily emanating from drilling crews, land surveyors, engineers, and others associated with the oil and gas boom. Energy companies are well capitalized and willing to pay relatively high rates for scarcely available hotel product, rendering this unique demand as price inelastic. Previously nonexistent sub markets have blossomed and new hotel development is rapidly occurring throughout south Texas to accommodate demand from shale exploration.

The Eagle Ford Formation, frequently referred to as the Eagle Ford Shale (EFS), is one of the largest single economic developments in the history of the State of Texas. As the most prominent of U.S oil/gas shale's, it has generated a significant amount of induced demand for hotels in south Texas. Furthermore, based on capital invested to date, it ranks as the largest oil and gas exploration project in the world. Energy conglomerates including Halliburton, Baker Hughes, and Exxon Mobil among them, deployed approximately $19 billion in 2012 and $30 billion in 2013 to extract oil and natural gas from the State of Texas.

The EFS is a hydrocarbon producing rock formation that runs from the Mexican border to northeastern Texas. The play is approximately 50 miles wide and 400 miles long with an average thickness of 250 feet, encompassing ±30 counties. Advancements in hydraulic fracturing technology have been the catalyst for increased drilling activity over the past several years. According to the U.S. Administration of Energy Information, the EFS is anticipated to produce an average of 800,000 barrels of crude oil per day (MMbbl/d) through 2016, stabilizing in 2020, and thereafter gradually decreasing. Natural gas production is anticipated to increase by 2% on a compound annual growth basis (CAGR) between 2012 and 2040. Industry experts are anticipating a peak output of approximately 37.6 trillion cubic feet (Tcf) of natural gas per year. With domestic crude oil production expected to increase to 9.5 MMbbl/d in the U.S. by 2016, the share of petroleum products imported into the U.S. is projected to decrease to approximately 25%.

The following chart highlights the swift increase in oil/gas production throughout the EFS and Gulf Coast between 2009 and 2013, along with projections through 2024.


Due to supply increases in crude oil & natural gas production, refineries located throughout the country, but more specifically along the Gulf Coast of Texas continue to ramp-up their infrastructure and production capacities in order to accommodate the new supply. Notable projects include:

  • Motiva-Port Arthur completed an $8 billion expansion in the spring of 2012, making it the largest refinery in North America
  • The $1 billion Natgasoline LLC methanol plant will reportedly be the largest methanol production facility based on capacity once complete in 2016
  • Chevron Phillips Chemical Co. LP broke ground on its Gulf Coast Petrochemical project in April of 2014 which is anticipated to feature a 1.5 million ton per year ethane cracker upon completion in 2017
  • The Keystone XL Pipeline Project is a proposed 1,179-mile crude oil pipeline stretching from Hardisty, Canada, to Steele City, Nebraska. Together with the Cushing Marketlink Project (Steele City, NB, to Cushing, OK) and the Gulf Coast Project (Cushing, OK, to Nederland, TX), the pipeline will allow Canadian and American oil producers increased capacity for the refining markets along the U.S. Gulf Coast. The $2.3 billion Gulf Coast Project became operational in January of 2014 and has the potential to transport in excess of 830,000 barrels per day upon completion. The Keystone XL Pipeline is currently awaiting approval by the President, which is anticipated by the end of 2014.
     

While the current White House administration appears to have reservations about approving the Keystone XL Pipeline Project, given the increasing supply and large price differential relative to foreign countries, there has been growing interest on both sides of the aisle of the U.S. Congress to advance the nation's position in the global Liquefied Natural Gas (LNG) market. Additionally, with Russia being one of the largest suppliers to Europe of LNG and the country's recent takeover of Crimea in Ukraine, the U.S.'s incentive for ramping-up production for the global LNG market has dramatically increased in order to provide Europe with a more stable source of energy. The Obama administrations 4-year, $302 billion transportation plan is reported to be funded by fuel taxes, which would be another driver for the completion of the XL Keystone Pipeline Project. Altogether, increased oil/gas production and development related to the pipeline could lead to increased lodging demand.

Notable Gulf Coast LNG projects include Golden Pass LNG, which plans to equip its current facility in Sabine Pass, Texas to add export capabilities with an estimated output of 15.6 million tons per year of LNG. Additionally, Cheniere LNG was the first company to receive approval by the federal government to export LNG to non-free trade countries and is currently in the process of installing liquefaction services at its 853-acre Sabine Pass LNG receiving terminal in Cameron Parish, Louisiana. Upon completion, the facility will reportedly have the capability to export 3 billion cubic feet per day of natural gas.

With the restructuring of the U.S's energy economy, hotel developers have been quick to enter the various oil & gas markets in order to benefit from their attractive occupancy and average rate levels. Out of the thirty EFS counties, half have experienced over 10 percent compound annual growth in room nights sold between 2009 and 2013. The average CAGR (2009 - 2013) for all 30 counties was 17.8%. McMullen County experienced the largest growth in 2013 from the previous year of approximately 685%, followed by La Salle (80%) and Atascosa (56%).


While the number of room nights sold have surged, overall occupancy has fluctuated based on the amount of new supply, in addition to other forms of temporary housing such as man-camps, recreational vehicles (RVs), and trailers. One-third of the EFS counties have witnessed a CAGR of over 5% between 2009 and 2013. However, it is important to note that eighteen of the thirty counties have experienced a decline in occupancy in 2013 from the previous year. The largest decreases were observed in Duval and Austin counties. A portion of the declining occupancy is a result of shifting demand as well as increases in supply in many markets across south Texas.

Additionally, hotel room revenues within the EFS counties have dramatically increased due to greater room supply and higher rates. Average daily rate overall has shown marked growth with a 6.3% CAGR (2009 – 2013) in all 30 counties. One-third of the EFS counties experienced rate decreases in 2013 from the previous year, compared to seven counties exceeding a 10% rate increase during the same time period.


 

Based on our research of hotel transactions within the EFS, capitalization rates have historically been as high as +/-30% in the early stages of the drilling boom in 2009 and 2010. Given these high capitalization rates, institutional investors have historically been unwilling to provide conventional financing for acquisitions and new development, but as these markets have become more transparent, a larger pool of investors are fueling the growth in supply. While room nights sold and revenues have been increasing dramatically, generally correlated to the output in oil/gas production, the new supply additions have caused a decline in revenue and overall NOI for many of the existing assets. As a result, capitalization rates have been moving downward but are still far above the typical national average for a mid/upscale limited-service assets. Lenders have also become more aggressive over the past 6 months in terms of interest rates and loan-to-value ratios due to an increased appetite for the energy markets. It should be noted that a majority of the new supply additions are nationally-branded assets such as Holiday Inn Express, Hampton Inn, La Quinta, Best Western, etc.


While each sub market must be analyzed on an individual basis, investors do have an opportunity to achieve substantial returns in this space. Many developers are targeting short-term hold periods of less than two years due to the inherent risk with this type of boom market. Similar trends have been observed in West Texas within the Permian Basin, as well as in the Bakken Formation underlying parts of Montana, North Dakota, Saskatchewan and Manitoba as well as the Marcellus Shale which extends throughout much of the Appalachian Mountains. When considering an equity and/or debt investment in an energy related market, it is critical to understand the dynamics of supply and demand trends and underwrite to a reasonable level that takes into consideration the additional risk with boom/bust type markets. With this said, the outlook for long term North American energy production is incredibility bright and the boom portion of this cycle should endure for many years to come.

Please visit www.lwhospitalityadvisors.com for more information.

About Jonathan Jaeger

Jonathan Jaeger currently serves as a Managing Director with LW Hospitality Advisors (LWHA), based in New York City. Previously Mr. Jaeger held various positions with Pinnacle Advisory Group in Boston and New York between 2008 and 2013 and executed over 300 hotel consulting and valuation assignments throughout the United States. Prior to his advisory career, Mr. Jaeger held various operational and accounting/finance positions with Starwood Hotels & Resorts Worldwide and Kimpton Hotels & Resorts. Mr. Jaeger graduated with a Bachelor of Science from the Boston University School of Hospitality Administration in addition to a minor in Business Administration from the Boston University School of Management. Mr. Jaeger is a State Certified Real Estate Appraiser specializing exclusively in the evaluation of hotel properties. During his tenure in Boston, he served on the Emerging Leaders Committee of the Massachusetts Chapter of the Appraisal Institute as well as a Council Member of the Massachusetts Lodging Association Under 30 Gateway Chapter. During 2011 Mr. Jaeger joined the adjunct faculty at Boston University, serving as co-instructor of the Hotel Asset Management course. Mr. Jaeger has authored several articles for industry wide publications. In New York City, Mr. Jaeger is a member of the Young Hospitality Investment Professionals Group and also participates with the NYC & Company Hotel Committee and the Metro NY Chapter of the Appraisal Institute. Mr. Jaeger is a designated member of the Appraisal Institute (MAI), the American Hotel & Lodging Association (AH&LA) as well as a Development Coach for the United States Professional Tennis Association (USPTA). Mr. Jaeger can be reached at 212.300.6684 X 116 or Jonathan.jaeger@lwhadvisors.com

Contact: Jonathan Jaeger, Managing Director, LW Hospitality Advisors

jonathan.jaeger@lwhadvisors.com / 212.300.6684 x 116

About Robert Van Laer

Robert Van Laer currently serves as Senior Associate for LW Hospitality Advisors, based in New York City. In addition to being a native New Yorker, Mr. Van Laer holds significant hospitality operational experience accumulated in Belgium, Greece, and Switzerland with both independent and chain-affiliated hotels. His in-depth knowledge of the hospitality industry has served him well in performing market and feasibility analyses for not only the hotel and restaurant industry, but also the distilled beverage industry. Mr. Van Laer¡¦s most recent professional experience includes holding revenue management and hotel development positions with Empresas Bern in Panama City, Panama. Previously, Mr. Van Laer was employed in the Marketing & Corporate Communications department of Natixis U.S. Corporate Investment Banking, where he supported brand development and compliancy of the company¡¦s standards. He has collaborated with the UNWTO and South Korean Ministry of Culture, Sports and Tourism to develop a sustainable tourism strategy for the Silk Road Initiative. Mr. Van Laer holds a Bachelor of Science in International Hospitality Management from Ecole Hoteliere de Lausanne (EHL) with a specialization in Finance (Corporate; Market; Real Estate), and he serves on the New York Chapter of the school's alumni organization AEHL. Mr. Van Laer can be reached at 212.300.6684 X 105 or Robert.vanlaer@lwhadvisors.com

Contact: Robert Van Laer, Senior Associate, LW Hospitality Advisors

robert.vanlaer@lwhadvisors.com / 212.300.6684 x 105

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