By Danielle Schalk
A key aspect of investing in hotel properties is planning for when you no longer wish to hold that asset.
However, Monique Rosszell, senior managing partner, HVS (Montreal and Toronto), says, “It’s surprising how many people don’t have exit strategies.”
As Rosszell explains, planning an exit strategy “should be started at the very beginning — the beginning of the [purchase process], the beginning of the development.” She also notes part of the reason a well-defined exit strategy is so important is because, “hotels are a much more complex asset class to own than, say office buildings, industrial or apartments, because it includes the business.”
And because of this, a significant number of factors play a role in this critical aspect of investment planning. “It’s key to have the exit strategy defined up front because it impacts issues such as your franchise agreement, your lender, who you’re going to work with [and] the terms of these agreements, because all of those do impact your exit,” explains Robin McLuskie, managing director, Hotels, Colliers.
Other key factors include how long you want to hold the investment, branding and whether you plan to operate the hotel or bring in a management company. “The exit strategy depends on the developer or owner’s vision — whether you’re going to invest in it; whether you’re going to brand, re-brand, de-flag,” Rosszell elaborates. “It depends what the developer wants to do and how deep their pockets are.”
Because every owner/investor’s vision for a hotel is different, any contracts or commitments associated with the hotel can be viewed as encumbering the property when being considered by future investors. “If you go to sell a hotel that has a brand and a management company, it’s encumbered, [because] it takes away the independence of a new buyer,” Rosszell explains.
That said, to a different buyer, those same contracts may be appealing. “If it’s a well-performing hotel with the management company in place, with the brand in place, that can be very attractive to some potential buyers,” Rosszell continues.
“It really is case by case,” agrees McLuskie, pointing to restaurant partners as another example. “If you’ve got a strong restaurant tenant and it’s a 10-year deal…in some cases that could also enhance your value because not everybody likes to run a restaurant.”
The location, age of the property and barriers to entry are also significant factors that must be considered. As Rosszell notes, “If there are high barriers to entry, your exit strategy is going to be that much easier in the sense that your value is going to be higher. In a lot of markets where there’s no land available, you can be pretty sure that whatever you purchased that hotel for, that value is going to be safe.” On the other hand, she stresses, “You shouldn’t be developing a hotel where there are no barriers to entry at a high price, simply because there may be so much new supply that comes in that could impact your performance [and value].”
It’s also critical to remember that an exit strategy is not something you can simply set and forget. It’s important to re-assess the market and adapt strategies to fit current and evolving conditions.
“It’s one thing to say ‘I’m going to sell in 2025,’ but it’s another thing to know where the market is going to be, in terms of the economy and interest rates and other factors that are out of your control,” McLuskie explains.
And, the current economic environment may force some investors to re-evaluate their exit strategies. For example, if local demand generators have shifted in recent years, existing property investment plans (PIP) may not make sense any more.
Rosszell gives an example of nearing a renovation planned for the seven to 10 year mark. If, looking at the market conditions, it doesn’t seem likely to the investor that they’ll see a good return on investment (ROI) for a $30,000/key renovation, then there are a few options to consider. “I either brand down, which only requires $10,000/key, or I sell, or I go independent,” she notes.
And if a hotel is reaching the point that it’s no longer viable, there are, of course, other options. The property could be re-developed or converted to a different use. “If the land is worth more than the property, you’re going to demolish and re-build to get to the highest and best use,” Rosszell explains.
Ultimately, there are a number of risk factors that must be considered when planning or re-assessing the exit strategy for your hotel investments. “There’s the performance risks, the operating risks, and the investment risks — and that includes your CAP Rate, your ROIs, your interest rates,” Rosszell shares. She also notes, as these factors become more conservative — as they are in the current economic environment — there’s more risk for investors.
“They’re seeing their mortgages increase substantially. As of mid-year 2023, onward, everybody’s re-financing because their mortgages are due, and they’re [facing] much higher interest rates,” Rosszell explains.
In current operating conditions, McLuskie also highlights the value of assets, such as an effective onsite team, especially given the ongoing labour challenges. “The hotel is only as good as its employees, so making sure that there’s a strong team on site is definitely helpful for buyers.”
Given that not all factors that influence a hotel can be controlled, McLuskie recommends regularly re-assessing your exit strategy. “A good time to do that is annually, when you’re preparing your next year’s budget and assessing the market conditions.”
However, both Rosszell and McLuskie acknowledge that financial and operational factors are not the only issues that influences how investors approach exit strategies. Ultimately, the main factor that decides this aspect of investment planning is the intent of the investor.
“We talk about two different returns,” says Rosszell. “One is ROI, which is return on investment. We also talk about ROE, which is return on ego. There are definitely trophy assets out there that people are interested in owning because of the return on ego, so they’re willing to take a lower ROI because of the cachet of owning this trophy asset.”
“Different owners have different strategies, it’s not really one size fits all,” McLuskie agrees. “There’s some groups that have five-year ownership windows — they put the capital in, they invest it for five years and then they flip it, and there’s no emotion to it.”
But, of course, this isn’t always the case. “The beautiful thing about the hotel asset class, versus office or other industries, is that each hotel has a story, so you’re able to spin a sale based on what the story is,” McLuskie adds.
