Kerr Young, executive vice president, Hotels & Hospitality and Richard Servidei, alternatives investment director at JLL wade in on the topic of leasing and help to decipher which options offer the best benefits for both investor and hotelier.

Leased hotels and hotel real estate have long been sought after by institutional capital, much of which has fuelled the proliferation of the budget hotel sector, as investors have been drawn to the indexed linked leases offered by the likes of Travelodge and Premier Inn.

There are, however, a variety of operating structures for investors seeking opportunities within the hotel sector which have been accepted by specialist hotels investors since hotel companies pursued the sale of their corporate real estate. A number of these operating structures are now becoming increasingly popular with institutional investors, despite many investors historically having been drawn to leased hotel investments.

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Under traditional structures in the UK, landlords have entered in to 20 year plus, full repairing and insuring leases, subject to inflationary linked rental income. Such structures provide 100% control of the business to the operator and caps the upside of an owner. Likewise, it isolates the owners from the downside trading risk, assuming of course that the tenant stays solvent, as well as the risk of being an employer to those working in the hotel.

An alternative to the lease model is to enter into a Hotel Management Agreement (HMA), either directly with the brands, such as Hilton, Marriott, IHG and Accor, or via a so called third party “white-label” management company, which can operate hotels unbranded or in many instances subject to a franchise agreement with one of the international hotel companies. The appointed operator is responsible for the day-to-day running of the hotel in return for a management fee, typically linked to a percentage of revenue (a base fee) and a percentage profit (an incentive fee) with the owner retaining the post fee profit. Under HMAs, employees are typically employed by the owner and in light of the structure, the owner’s returns are linked entirely to the performance of the operator and that of the underlying hotel business. As a result of the perceived risk attached to HMAs they have typically provided investors with higher returns than that of a “drier” leased hotel investment.

A recent example of further institutional capital investing into hotels operated subject to an HMA is the Hilton Garden Inn Birmingham Airport Hotel that was recently acquired via an off-market transaction, by the Blackrock UK Property Fund. The hotel was sold under a management agreement with Castlebridge Hotels, who will retain responsibility for operating the hotel under a franchise agreement with the Hilton Garden Inn brand. These agreements prove beneficial for both sides, with Blackrock able to acquire and profit from the asset whilst Castlebridge Hotels focus on the day to day operations of the hotel – something investors are naturally less aux fait with.

With record amounts of capital queued to be invested in alternative asset classes, it’s no surprise that the sector is experiencing record yields across all sub-sectors. In light of this, investors are seeking greater returns, which has increased the number of institutional investors considering hotel investments subject to HMAs over traditional leases. With this increasing institutional interest, new structures are being created that can mitigate operational risk and meet the needs of institutional investors.

When entering into an HMA, it is important to seek expert advice on the salient points of the management contract including term, fees and performance clauses and of course understand where the responsibilities for the business lie between owner and operator. Assuming investors have the correct expertise, either in-house or through an asset manager, they will be able to realise higher returns whilst mitigating the perceived risks that comes with operational income.

We expect further institutions to come into the market over the coming months and for institutional capital to be a prominent source of inward investment into the hotel sector during 2019 and beyond.

Tags : advicehotelsJLL
Zoe Monk

The author Zoe Monk

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