Despite an impending slowdown, 2007 was a record year for hotel investment in Canada

When attempting to describe Canadian hotel investment activity during 2007, there are a few choice words than can be used. “Wow!” or “Holy Mackerel!” come to mind, but pretty much any punchy exclamation of surprise, wonder and pleasure would do the trick.

“Last year was probably the most significant single year of activity in the last 20 years, if not ever,” says Bill Stone, executive managing director of Colliers International Hotels in Toronto. Additionally, Lyle Hall of Toronto’s HLT Advisory Inc., notes these transactions include “more large trophy assets and portfolios than we’ve ever seen, and could realistically see in the medium term.”

Specifically, overall transaction volume topped out at nearly $4.6 billion with the sale of 168 hotels last year. A big number, to be sure, but to put it in context, this represents a growth of 55 per cent over 2006, and a whopping 168 per cent over 2005, both of which were record years. Of these transactions, 68 were strategic acquisitions — both single and portfolio trades — worth $3.6 billion. Not counting these strategic acquisitions, traditional sales volume actually decreased 10 per cent from 2006, however, at $986 million it was still the second-highest level recorded since the late 1990s.

And all this despite what Craig Wright, senior vice-president and chief economist for RBC, calls “a pretty trying year, from the summer into fall and continuing this spring. We’ve seen a phenomenal transition from greed to fear that’s been reflected in a surge in volatility and unprecedented uncertainty.” Wright says any indicator you care to look at in financial markets is “telling the same story about uncertainty and concern for the U.S. economy, but it’s broadening out around the globe. Talk about recession is in the air. With most indicators, if they haven’t alarmed someone by now, they will shortly.”

So why have there been so many deals? Despite uncertain economic conditions, Hall says, “We’re seeing a belief in the soundness of the (hotel) industry in Canada, where we’ve got a supply and demand balance that hasn’t gotten out of whack.” One reason, he says, is the “reasonable barriers to entry in some of the larger urban and resort properties.”

This investment scene was, of course, dominated by two huge portfolio transactions in 2007: the privatization of both Legacy Hotels REIT and Canadian Hotel Income Properties (CHIP) REIT. In September, Legacy Hotels was acquired by Cadim (a division of the Caisse de Depot et Placement du Quebec, and an affiliate of Westmont Hospitality Group), and InnVest REIT. CHIP was acquired by British Columbia Investment Management Corporation (BCIMC). These two deals comprised almost 18,000 guest rooms in 55 hotels, and at $3.2 billion, represented 70 per cent of total transaction volume. In a separate deal, BCIMC also acquired Delta Hotels from Fairmont-Raffles Hotels International.

Stone says these transactions highlight another recent trend: a significant change in the profile of investors toward more institutional investors. “We’ve seen the likes of BCIMC, Cadim and Oxford — all major pensions investing into the Canadian and international hotel sectors. And these are largely higher-end assets with higher barriers to entry.” The bigger picture, he says, is these private equity investors have “validated the sector by recognizing [its] long-term profitability as a whole.”

Despite the attention paid to large portfolio deals, there were also significant strategic single-asset transactions in 2007. The largest was the 605-room Hyatt Regency Montreal, acquired for approximately $61 million by U.S.-based Ashford Hospitality Trust, as part of a 51-hotel portfolio valued at US $2.4 billion (the Hyatt was the only Canadian asset).

In its 2008 Canadian Hotel Investment Report, Colliers identified several other market highlights, including: a broad appetite for hotels across all segments and provinces; 40 per cent of volume coming from properties with less than 100 rooms, when they’d typically account for 15 to 25 per cent of sales; and continuing strength in Western Canada, where 60 per cent of transactions took place. Alberta also hosted a record-breaking single-asset sale. Based on price per room, Temple REIT’s acquisition of the 150-room Clearwater Suite Hotel in Fort McMurray for $376,700, is the highest single-asset price per room in Canadian history. The last trade in the same neighbourhood was the 81-room Windsor Arms Hotel in Toronto, which sold in 1989 for $370,400 per room.

In fact, with the ongoing resource boom and the 2010 Olympics in sight, there is still a divide between Eastern and Western Canada, says Stone, with operating performance tending to be stronger in the West. This is borne out by the numbers, with 11 B.C. hotels changing hands at an average price per room of $116,000. This is compared to a record national average of $97,000, up 26 per cent from 2006. In Alberta the price per room was $112,000 for 45 hotels, with Ontario and Atlantic Canada far behind at $88,000 and $53,700 respectively. Surprisingly, Quebec actually led the pack in per room average at $119,000, but this is based on five sales only.

Across the country, “The style of investment tends to be a little different, in that there is more value-add opportunities in Eastern Canada,” says Stone. While not exactly fixer-uppers, they are often “properties to be repositioned with capital, and possibly a new brand and management.” And Hall says what’s happening now on a regional basis isn’t likely to fundamentally change. “The parameters of each of these markets are fairly consistent and stable. The big question — though it’s not even that big — is what happens in Alberta. Even if the price of oil should drop, that’s probably got more upside than downside.”  Additionally, RBC’s Wright says in the coming months “commodity prices might move lower, but not ‘low.’”

Looking at the broader picture for 2008, Stone says it’s going to be hard to peg transaction volume for this year, if only because the CHIP and Legacy deals are unlikely to be replicated anytime soon. “I think there will be strategic deals done by intuitional investors,” he says. “But the well-capitalized private investor is going to be more active. After these last couple of years, the focus on REITs and public market investors should slow down a bit, leaving opportunities for private investors to acquire significant assets.”

Of course, when forecasting investment activity, the sputtering U.S. economy and its potential fallout here and around the globe is a huge concern. “Every day we’re getting more and more info, but unfortunately right now nothing is getting any clearer,” says RBC’s Wright. From a Canadian perspective, he says, “We’re looking at a weakening global growth environment, which as a trading nation — and a nation dependant to a degree on commodity prices — is a little less positive than it was a short while ago.” Also our major trading partner “is bouncing around zero growth, and within Canada we’re still dealing with a high dollar, heightened uncertainty and increased risk aversion.” The outlook, he says, “is a little cloudier than it was.”

Wright also notes banking problems in the U.S. have already led to “a change in both pricing and supply of credit, and that seems to be continuing.” That said, credit tightening is less of a factor north of the 49th parallel. “In Canada,” he says, “we never really had the access, so we’re not going to see the retrenching.”

So what do all these factors mean for Canadian hotel investment activity in the coming months? “‘Storm clouds’ may be strong, so you’re going to see an awful lot of angst,” says Hall. Additionally, Colliers’ report suggests: “There is reticence in the market in response to uncertain economic conditions in the U.S., in part due to tightened debt markets, which will ultimately slow transaction activity.”  So while there should still be many single-asset sales, portfolio activity will probably not be as strong.

Specifically, Collier’s Stone says  tightened credit has reduced the number of buyers in the market. Nine or 10 months ago, when both senior and mezzanine debt were more available, there were a variety of players active in the market. “What it’s done now is (place) focus on the well-capitalized groups with strong banking and lending relationships,” he says. “So from that standpoint, it’s not going to stop things. We think it’s just made people a little more cautious and will bring the stronger players to the forefront.”                                        


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