California hotel deals in 2018 likely to remain robust
California hotel deals in 2018 likely to remain robust
13 MARCH 2018 8:44 AM

It came as a bit of a surprise that 2017 was such a strong year for California hotel transactions, but experts watching the deals environment expect 2018 to be just as good, if not better.

REPORT FROM CALIFORNIA—In 2017, California hotel transactions reached a dollar volume of $6.2 billion, the fourth-highest total since Atlas Hospitality Group has tracked hotel sales in the state. Based on 2017’s sales and pending sales heading into 2018, sources said they believe this year will be just as busy.

2016 was a good year for transactions, said Alan Reay, president of Atlas Hospitality Group, but sales slowed by the end of the year, so the expectation for 2017 was sales would remain flat. That wasn’t the case, however, as the state recorded 369 individual transactions, including 32 trophy property sales of $50 million or more, beating New York’s 13 and Florida’s 10. California also had the most sales where the price per key came to at least $1 million of any state.

“The pace has not slowed down,” he said. “If anything, those we’re tracking in escrow is up above where we were in beginning of 2017.”

Looking ahead
CBRE Hotels is optimistic about 2018 California hotel sales, SVP Henry Bose said. His company focuses on individual deals that exceed $20 million, he said, and California saw about $3.5 billion in hotel transactions over that threshold compared to just less than $3 billion in 2016.

Bose said 2018 has already started with more than $400 million in sales during the first month and a half. The lack of inventory up for sale will make it a seller’s market, he said, and there’s a lot of capital chasing deals.

“2018 is going to be much like 2017,” Bose said. “We personally felt a number of deals moved from ’17 to ’18. I think the tax code had a lot to do with that.”

After the 2016 election, everyone in the hotel industry was excited, said Michael Bellisario, VP and equity research senior analyst at Baird, but hoteliers took a wait-and-see approach to transactions. Transactions picked up in mid-2017 after people grew more comfortable with the new administration and had the capital to buy, he said. Even some real estate investment trusts bought a handful of properties and put others under contract to buy.

“It certainly feels like people are feeling more comfortable with growth outlooks,” he said, citing tax reform and the economy in general.

There are some concerns about interest rates and a possible trade war, Bellisario said, but right now capital is free-flowing and debt is adequately priced.

The transaction pipeline might be a bit front-loaded right now, he said, but there’s plenty there to say 2018 will probably be a bigger year than 2017.

Foreign capital
Out of the more than $6 billion spent in hotel transactions in California, about 15% of it was foreign capital, Reay said.

Chinese capital has been curtailed by the Chinese government, he said. Companies such as HNA Group and Anbang, which had previously bought trophy properties in the U.S., were playing a smaller role. However, Chinese capital is still investing in hotels in California, he said, but it’s in smaller deals pooled with other investors.

Chinese investors targeted smaller-scale, lower-profile deals, Bellisario said, as the buyers had a goal of “staying out of the news.”

There has been an uptick in capital from South Korea, Reay said, as he’s hearing there’s concern about recent developments concerning North Korea.

“Investors are saying you probably want to get some money out (of the country),” he said. “California from everyone’s standpoint is a very safe, stable market in terms of international investors and other domestic investors.”

When one source of capital slows down, other pockets step up, Bellisario said.

“When one group is a little softer, there’s another group that grows more aggressive,” he said. “It ebbs and flows like that always.”

A unique area
While other markets like Manhattan and Chicago have concerns about oversupply, the number of new hotel openings in California haven’t had an impact as of yet, Reay said. There will be a breaking point where that comes into play, he said, but the state has been making up for a development shortage in prior years. Revenue per available room has been high enough to allow the state to absorb the new supply, but it’s possible rising costs in labor could affect RevPAR.

However, labor costs have also increased on the construction side, he said, and that paired with the length of time it takes to develop in California have slowed the new supply coming to the state.

“It is good news for existing owners that the cost of construction has shot up,” he said. “Developers are saying a project priced out 18 months ago is coming in 20% to 30% higher now.”

Development in California, specifically along its coast, is difficult and takes forever, Bellisario said. Owners are willing to make that trade-off in paying more for an existing property that has cash flowing instead of putting in the extra time and effort it would take for a new build, he said.

“It’s more compelling a trade-off in California than other markets,” he said.

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