“Show me the money” – it’s what developers need to bring a hotel project to fruition, but today’s challenging lending climate has made securing financing exceedingly difficult.
Slowing demand growth and reduced occupancy levels affect hotel management’s ability to raise ADR, ultimately flattening RevPAR. And, due to the volume of supply that has penetrated U.S. markets, many lenders are nearing their capacity for providing hospitality loans. As a result, banks are becoming increasingly selective about lending for new hotel construction or conversions as they weigh the risk versus reward.
Financing is still available, though, for developers who think beyond Small Business Administration (SBA) loans and conventional financing from local and regional banks. Here are four tips for securing hotel construction financing in the current market.
#1 – Look At Private Lending Options
Having a high-quality, well-conceived product is essential before developers approach a lender, but in-depth market research and a clear vision are often not enough in the present-day competitive landscape.
Savvy developers are looking to private lending sources to fund hotel projects because they are not subject to the same regulatory constraints of commercial real estate allocations on a bank’s balance sheet. Private lenders bring more to the table than just financial capital – they are adaptable to developers’ needs and market fluctuations, typically provide higher leverage loans, and encourage speed-to-market by closing quicker than a bank. Private lenders also are more apt to consider developers without an extensive proven track record, as long as they surround themselves with an experienced team (general contractor, architect and property manager) and the project has been thoroughly vetted to the highest standards about what type of hotel to establish and where.
While banks are tightening real estate lending, HALL Structured Finance (HSF), a Dallas-based direct private lender, has closed over $200 million in loans this year (all but one were hotel) and is on track to close $300 million by the end of 2017.
#2 – Research Alternative Financing Sources
Beyond private lenders, there are other alternative financing options for developers to consider at any point in the development cycle:
- The EB-5 immigrant investor program, where foreign nationals invest $500,000 to $1 million in a new commercial business venture in the U.S. that generates jobs, and that expedites the process of them getting a green card – there is a distinct mutual benefit in this type of transaction
- Crowdsourcing, typically for a portion of investment
- Fellow developers, who invest in a peer’s project with lower risk because they understand the process and are attuned to the behind-the-scenes issues associated with hotel construction
Sometimes developers have to accept a higher interest rate with alternative lending sources, but they get faster access to funds to move a project forward. Speed-to-market can deliver a more satisfying ROI.
“We've benefited from institutional banks pulling back and in some cases cutting off construction financing for hotels because our volume and the average individual loan size have increased,” said HSF President Mike Jaynes. “In addition to our year-to-date loan transactions, HSF expects to close an additional $91.5 million of new loan commitments in the next 30-days and has $114 million worth of new deals tied up and in the due-diligence stage.”
#3 – Develop In Secondary & Tertiary Markets
The multitude of choice with hospitality segments – including economy, mid-scale and upper-midscale – makes it easier for developers to enter secondary and tertiary markets, areas they might’ve once not considered.
Higher yields in secondary and tertiary markets tend to offer a stronger return for investors, making some construction projects more attractive to private and alternative lenders. Plus, these lending sources are open to emerging, non-primary destinations.
Construction and labor costs are typically lower in secondary and tertiary destinations. This appeal to the bottom line encourages private lending and allows developers to bolster their geographic maps. Entering secondary and tertiary cities also helps raise the markets’ profiles among leisure and business travelers and adds to the cycle of growth and development.
#4 – Consider Modular Construction
Location for where to build is crucial, but how the hotel is constructed can also attract non-bank financing resources.
Developers are looking to modular construction because hotel projects usually come to fruition much quicker, thanks to faster assembly time, improved product consistency, weather being a non-issue because of off-site building, and better ways to transport pre-built units. This shortened construction timeline means speedier occupancy and faster ROI – inspiring news for lenders.
Big-name brands are already embracing modular construction. Marriott International opened the Folsom Fairfield Inn and Suites in Folsom, California, via modular building and expects to sign more deals this year for hotels in North America to be constructed the same way.
While banks are more stringent with lending for hotel construction projects, this doesn’t signal a complete halt in development. Private and alternative lending sources, entering secondary and tertiary markets, and eyeing modular off-site building are paving the way for continued hotel development where speed-to-market without sacrificing quality and a quicker ROI are the worthwhile rewards.
HALL Structured Finance is an entrepreneurial, value-add direct private lender to the real estate industry, specializing in providing capital for ground up construction, adaptive reuse, and major asset repositioning and renovations for commercial real estate projects throughout the U.S. with an emphasis on the hospitality industry. The HALL Structured Finance lending program is designed to provide real estate owners, operators and developers with an alternative to bank financing, and is oriented to be a resource to projects that may be underserved by the institutional capital markets. The company's extensive real estate ownership, development and lending experience allows it to offer highly flexible structures and terms designed to meet the unique needs of each opportunity.