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2010 likely to be another tough year for REITs

Thursday, 11 February 2010 13:00
Guy Langford doesn’t mince words when he’s asked about the 2010 prospects of hotel real estate investment trusts.
“I hope it will be less depressing,” said Langford, a mergers and acquisitions principal with Deloitte.

Indeed, 2009 was a down year for REITs. Transaction volume was 5 percent of what it was during 2007 said Arthur Adler, managing director and CEO of Jones Lang LaSalle Hotels, at the Americas Lodging Investment Summit in San Diego last month.

And it doesn’t appear that 2010 is off to a flying start, either. At least one REIT, Chesapeake Lodging Trust, temporarily shelved its initial public offering of US$250 million before coming back in January with a smaller, US$150 million offering. Douglas W. Vicari, Chesapeake’s CFO, did not return a call for comment this week.
John Arabia, managing director of Green Street Advisors, does not believe 2010 will see a greatly increased level of activity than 2009.

“Transaction dollar volume is starting to pick up, but the flood gates are not opening as some had previously hoped,” he said.
Greg Hartmann, managing director of STR Analytics, said he doesn’t see a lot of movement during 2010 as it relates to value.
“Prices will move lower a little, but not at the levels of the early ’90s,” he said.

Tough terms ahead
REITs have spent time during the past several months loading up on capital in hopes of acquiring distressed hotel assets at attractive prices. But those REITs could be in for a rude awakening, Arabia said, noting that hotels’ net operating income is under pressure.
“The worst may be behind us, but the near-term is no party either,” he said.
Hartmann said credit will become slightly more available during 2010, but lenders will be tighter with their underwriting.

“… Very conservative terms, terms people aren’t used to or comfortable with,” Hartmann said to describe the financing environment of 2010. And what will the typical financing terms look like during 2010? A two-to-one debt coverage ratio and 50 percent loan-to-value, Hartmann said.

Adding to the challenges REITs will face in 2010 is increased competition from other potential acquirers of distressed assets, such as private equity funds, Langford said. REITs are going to have to be “nimble” in order to get deals done, he said.
“Being nimble as a REIT can be challenging when you’re trying to transact,” he said.
Lenders hanging on?
Langford said he sees possibly two different scenarios playing out during 2010. First, banks will have properties handed back, but the lenders will choose to keep the cash-flowing loans.

“A cash-flowing asset might not be what it was two years ago, but it’s still cash-flowing,” he said.
Or, in the second scenario, the lenders and special servicers might simply choose to wash their hands of the asset, he said.
“They could be thinking, ‘We could hold on for 10 years and still not make money,’” he said.
Hartmann isn’t so sure that lenders will be quick to give up their assets, however.

“Special servicers and lenders are much more knowledgeable about the hotel industry (than in the past),” he said. “A lot of them came from the industry prior to the downturn. They are comfortable in this space.”

Reflagging acquisitions
REITs will have the option to reposition the assets they come across, Langford said.
“There will be opportunities where (the assets) need to be reflagged, or marketed or branded differently,” he said.
Arabia said volume is likely to pick up late this year, or possibly 2011.
“There is no one size fits all,” he said. “There’s not one playbook everyone will follow. Some assets will be sold and come to market. Some assets will be foreclosed on and held.”