One of the biggest impacts of the COVID pandemic was to rapidly accelerate many of the market trends that had already been occurring. The transition to hybrid working, the massive growth of home delivery platforms (such as Deliveroo and Uber Eats) and the growth of Airbnb and aparthotels are just a few examples. The same has been true in the hotel finance world. The growth in market share of debt funds at the expense of conventional banks has been the standout feature of the last few years.
To understand why the trend has accelerated, it is important to look in detail at what happened in the hotel finance market during the pandemic. As we went into the pandemic lenders were presented with an unprecedented situation, the total closure of hotels. Even in their worst case scenarios, none of the major lenders had anticipated that. To their credit, the banks were enormously supportive of the sector, providing covenant waivers and additional working capital finance to help borrowers through the crisis. The outcome however was that as we came out of the pandemic many of the banks were left with loan books with over- leveraged positions caused by a combination of the additional lending and a slower recovery in the key hotel markets that lenders had traditionally focused on as tourism and business travel was slow to return. It is of course a paradox that as we emerged from the pandemic the hotels that performed best (regional country house hotels) are the ones that the market thought would be the weakest performers in a downturn.
Move forward to the present day and another key factor has impacted the hotel lending market. Just as many banks have begun to return to the market with appetite to lend on new deals, the rise in interest rates (and market swap rates) has made their offering less competitive relative to the pricing and leverage offered by debt funds. Whilst this may be a short-term issue (as the cost to debt funds of rising capital will also rise in line with interest rates but there will be a time lag), there is no question that in the longer term the shift to debt funds in the hotel finance market is a permanent one.
The other significant change is the fact that hotels are now viewed as having stronger performance credentials than other mainstream real estate sectors. Retail has been a challenging sector for some time, but the office sector is now an area many are questioning given the move to hybrid working.
The other area of significant growth is in the pool of lenders offering mezzanine and preferential equity funding. Unlike the great financial crisis of 2008-10, there is no shortage of capital and a number of lenders are now happy to lend at the higher leveraged end of the market.
For hotel owners the change should be viewed as a positive one. The hotel market is more dynamic than it has ever been and there is now a financing package available to suit all funding requirements.
For further information, please contact:
James Salford, Partner, Bird & Bird