How to Finance Hotels with Debt

Attracting debt to finance a hotel is a subject that receives increasing attention from our clients at GSO Hotel Capital. Along the ever-present search for equity partners by many hotel owners and developers, debt is always part of the total package. This article aims to zoom in on the landscape of debt options we see in the world today for our hotel clients.

Hotels have traditionally been financed by local banks where owners typically hold a long-term relationship. In a lot of cases, this is how we would recommend most of our hotel owning clients to finance their single hotel assets, or perhaps a set of hotel assets. Banks do tend to compete best with lowest rates compared to alternative lenders. However, it is not always possible to get debt from a regular local bank as a hotel owner. One common complication we find is that banks might (temporarily) want to reduce their balance sheet when it comes to hotels, or commercial real estate for that matter. They may be overweight in that asset class and close the door on hotels for a while. Another hurdle tends to be that the bank may not ‘like’ the particular business case of the hotel that’s intended to be financed. Typically, banks do not have much appetite for hotel developments, massive renovations or other such ‘uncertain’ territory. Another reason for a turn down from a bank may be that the hotel asset is located in another country where they may not have the legal framework or mandate to execute deals. Lastly a common complaint among our clients involves the lengthiness of bank closing times for deals, although this differs case by case.

That is where the alternative lenders tend to come in. They move quickly and fill in the gaps. However perhaps the word ‘alternative’ may not be so relevant anymore. There is a massive active market of such lenders available if you’re willing to look. These come in the form of private debt funds, bridge lenders, mezzanine lenders and many other such types. Those that understand the hospitality asset class in detail are typically the ones that are able to look beyond their own country borders with a broader perspective. In this realm of players, we find much more sophistication than in traditional lenders when it comes to hotel knowledge and deal structuring capacity, albeit at a price. In a typical saying “if you want good and cheap, it cannot be fast; if you want good and fast, it cannot be cheap; and if you want fast and cheap, it cannot be good”. You pay what you get, basically.

There are a few parameters to consider when analyzing your hotel’s debt potential, whether knocking on traditional or alternative doors. First is always the LTV, or loan to value, which for an existing and successfully operating hotel can be as high as 85% (although the interest rate hike has suppressed that overall, due to increasing debt service as a result). For value-add opportunities we typically see LTV (or LTC) values of up to 65% and for development projects it tends to be a maximum LTC of 60%. These are average rules of thumb. An obvious standard is that the higher the LTV, the higher the interest rates are. A good running stable hotel from a well-established operator in a great location with a maximum 50% LTV requirement for senior debt may be charged as little interest as 4-6% on an annual basis, perhaps even without amortization. A development project from a relatively new developer in a more exotic location with an LTC of say 85% might however be looking at rates in high teens if not more, with a cash sweep, other asset pledges and perhaps more such guarantees required to even get the deal done. And of course, within those extremes there are many other flavors of loans and terms.

The bottom line is that even when considering financing a hotel portfolio, each individual asset is a unique business case in itself. The way lenders look at the opportunities are a combination of the asset development stage, income and guarantees, the lender and his track record, the location and attractiveness of the asset, perhaps even the ability to convert the asset (temporarily – think of COVID times), the value of the asset (always have a professional valuation done because this is pretty much the first document any lender requires), the potential exit (i.e. refinance, sale, or other exits). Especially a bridge financier would want to know your exit plan once the loan is used up in circa 2 years’ time and the asset is being developed. In some cases, lenders have the capacity to refinance such loans themselves. They would need to be sophisticated enough to hold various ‘buckets’ within their fund, for various risk appetites. They may accept to move up the risk ladder from senior to mezzanine for a premium after an agreed period, if your capital structure so requires. Structuring hotel finance in that way becomes almost an admirable art.

Whatever the capital need is, it requires a level of dedication and knowledge on the part of the advisor, along with the right industry contacts. GSO Hotel Capital delivers just that. We continuously arrange debt financing for our hotel clients across the globe and across all stages of development. If you think we are a good fit for your capital searches, don’t hesitate to reach out to us for an introductory call to see where we can help.

Writer: Anna-Larisa Snijders

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