There are still opportunities in a low-growth environment

NATIONAL REPORT—Even though executives in the REIT space are confident there are still opportunities for hotel REITs, there are different schools of thought over the types of properties worth investing in going forward; however, one thing is certain: Modest top-line growth is a challenge. 

To learn more about what’s going on in the REIT space, we reached out to several executives, including Michael J. Bellisario, senior research analyst of hotel REITs and C-corps, Robert W. Baird & Co.; Justin G. Knight, president and CEO, Apple Hospitality REIT; and Richard Stockton, CEO of Braemar Hotels & Resorts. 

What are the opportunities for REITs for year-end 2019? Bellisario: With stock prices at depressed valuation levels, we see an opportunity for hotel REITs to repurchase stock, particularly with disposition proceeds given the wide public-to-private market valuation discrepancy that currently exists. On the operational front, the focus remains on containing expense creep in the slow top-line growth environment.

Knight: Over the balance of the year, we anticipate continued tepid RevPAR growth for the industry. We believe we have opportunity on the top-line through mix management to bring the most profitable business to our hotels. That, combined with our scale, diversified portfolio, and asset management and business intelligence expertise, positions us well to drive outperformance. While the strength of our balance sheet enables us to capitalize on dislocations in the market at any time, we continue to see strong interest in our hotels fueled in part by readily available financing, which positions us well to look opportunistically at dispositions with the expectation that we could use proceeds to fund share buybacks and/or to close on new hotels we currently have under contract.

Stockton: Depending on specific company circumstances, lodging REITs are likely to pursue a combination of strategies for the balance of the year. I’d expect to see some additional acquisitions, perhaps among the less-leveraged REITs that have access to very affordable debt capital, as well as selected share buybacks and, of course, continued debt refinancings. I don’t expect further equity issuance at current levels.

Which types of properties are REITs looking to invest in currently?Bellisario: Acquisitions are on the back burner for almost all of the hotel REITs. Most companies see share repurchases, debt reduction, or simply remaining patient and building investment capacity as better uses of capital today.

Knight: Broadly speaking, REITs continue to invest across the spectrum of hotel types. We continue to see the greatest value in branded, rooms-focused hotels where broad consumer appeal and an efficient operating model enable us to generate strong margins throughout an economic cycle.

Stockton: In the current environment, REITs are looking for stabilized properties with a proven operating history in a defensive location. There also seems to be continued enthusiasm for higher-quality properties, particularly luxury hotels, both independent and brand-managed.

What are the challenges for REITs in 2019?

Bellisario: The main challenge is on the cost front—labor expenses (wages and benefits) keep pressing higher, insurance costs are up too, and property taxes continue to rise.

Knight: Macroeconomic fluctuations and increased supply have resulted in modest top-line growth for our industry. In this environment, increased focus and creativity are required to maintain strong operating margins and generate desired returns. Low unemployment and new supply make finding and retaining talent at our hotels more challenging. Management company culture is as important as systems and processes in achieving optimal performance results.

Stockton: The key challenges for REITs in 2019 have been the following: identifying accretive growth opportunities given lower share price multiples and higher prevailing investment market pricing for assets; benign top-line RevPAR growth; and increasing operating expense pressure, particularly in terms of labor costs, property taxes and insurance.

What’s your outlook for the remainder of 2019?

Bellisario: We expect top-line growth to remain modest and at a similar growth rate as the first half of the year (around 1% or so); we are keeping a close eye on the business traveler, which has softened a bit over the last six to nine months and caused industry-wide performance this year to be weaker than originally forecasted. Leisure travel and group business remain fairly steady.

Knight: We anticipate performance for our portfolio during the remainder of 2019 will be similar to performance during the first half of the year. 

Stockton: For the most part, 2019 has been a “2% world,” including approximately 2% interest rates, GDP growth, inflation, RevPAR growth, supply growth and demand growth. Now, it appears that we are slowly heading to a “1% world,” which is downshifting the industry further. This is by no means a reason to panic but is rather a continuation of a very controlled low-growth environment that is consistent with current macroeconomic drivers. In this economic environment, growth is therefore achieved by mining one’s own portfolio for opportunities to grab additional market share. And eventually, a new major demand driver will reaccelerate the broader market to be the tide that lifts all boats. HB