A paradigm shift in real estate is underway.
Many real estate investors are monitoring the current unraveling of the European real estate market. With a paradigm shift in monetary policy and interest rates well underway, many investors are expecting a sharp, abrupt reversal in real estate in Europe. This leaves many wondering how each real estate category will be impacted, from residential, commercial, to hospitality. The most immediate change is felt in specifically trendy investment categories, including logistics, data centers, commercial real estate, and even student housing, that were extremely competitive in recent years while offering relatively low yields on costs. Many of these were heavily dependent on high leverage and low rates. We believe that the correction will focus on segments and portfolios acquired within the late boom years. Many of such opportunities, including hospitality, have attractive underlying fundamental assets that will create once-in-a-decade opportunities to enter now on much more sensible terms.
Hospitality real estate, beaten up by the pandemic and macro environment, offers attractive entry prices.
So how are things looking for hospitality, specifically? Here also, valuations will adjust due to the broader real estate market - especially for Tier 2 locations or within special situations. The overall hesitance of banks to finance acquisitions, adds to this drop in demand, which inevitably takes out some of the froth of previous years, particularly from pre-2020 times. With demand slowing, it’s slowly but surely becoming a buyers market for underperforming and tired assets. We are seeing yields rising to higher single digits in key destinations. Besides the broader economic factors, many pandemic-induced issues remain key driver in transactions. Legacy owners face CAPEX requirements they cannot personally fulfill and lack the backing of banks to trust their long-term management. Inheritance and family issues are often stated as reasons to start a sale process. Management fatigue after grueling years, or the lack of interest by the younger generation to take over are often observed. For others, unprofessional or even mismanagement put many hotels into a dire economic situation following the pandemic. Having the vast majority of hotels in family ownership and management in Europe, Leads to a very active market right now with many current owners looking to exit the market.
Acquire profitable businesses with a clear turnaround potential and path to Exit.
This opens up new strategies to acquire legacy hotel businesses that are generally profitable but under-capitalized, under-managed, and under-marketed. The current market disruption has left under-performing hotels, especially those with weak balance sheets and inadequate investment in Capex, struggling to survive. These hotels are often family-owned and lack the experience of modern management techniques such as digitalization and effective marketing, leaving them at a disadvantage compared to their established and newly emerging tech-savvy competitors. Consequently, such low-performing hotels may require selling at a discounted rate to attract buyers and remain competitive in the market. However, this challenging situation presents a unique window of opportunity for savvy investors. By purchasing such cash-generating assets, investors can take advantage of the dip in prices and use targeted investments in modernization, management, and marketing strategies to turn them around while continuing to generate profits throughout the turnaround cycle. In special situations, we are now even overseeing opportunities to generate double-digit yields on costs in a short turnaround time. Overall, we believe that this unique window of opportunity may persist throughout 2023, but it may not last much longer (Cushman Wakefield, 2021). Therefore, investors who act promptly can capitalize on the current market conditions and gain a significant advantage in the hospitality industry.
Consumer Demand and Inflation accelerates growth in top line hotel revenue.
Consumer Demand remains high for luxury: Both from our own data as well as industry reports, we are able to forecast a strong summer season for Europe. European Inbound flights are set to surpass even 2019 levels this year. Furthermore, hotels across the board are outperforming last year's metrics, with rate increases ranging between 35-50% - including our own operational assets. In particular, city center hotels are seeing a significant boost in revenue per available room (RevPAR), up by 46% compared to the previous year. In selected markets we are active, including Mallorca, Italy, and Portugal, 2022 already delivered arrival records and we should be in for another record-breaking year. This is also driven by the fact that inflation is translating directly into higher rates and higher food and beverage prices. This is very different from other real estate categories that are locked in with long-term leases but face higher energy prices and material costs. One of the advantages of our fully integrated strategy is that we have complete control over pricing. This means we can adjust our rates according to current inflation rates and market conditions daily. This differentiates us from other owners that are tied to third-party operators with fixed leases and indexation rates, we have the flexibility to make pricing decisions based on our own business needs.
The Long Term Outlook is Very Strong for Luxury Travel, specifically.
Europe is an exceptionally attractive destination with rich history, unspoiled nature, and touristic infrastructure. What is interesting however, that tourism continues to outgrow the slow economic development in Europe (,1% GDP growth) with a growth rate of 2.5% per annum (UNWTO, 2023). If one looks closer at the so-called “experience economy” or specific luxury segments, the difference is even stronger. According to McKinsey, the experience economy is outgrowing GDP by 5.5% per annum. The Luxury Travel segment specifically shows a CAGR of 7.9%, according to Allied Market Research, over the last decade, seemingly decoupling from broader economic trends (ibid). Luxury hotel chains are seeing strong demand from high-end travelers willing to pay more for exclusive experiences, top-notch amenities, and personalized services. Industry leaders like Chris Nassetta, CEO of Hilton, believe that the luxury sector is more likely to remain strong in the face of a potential recession, as luxury travelers tend to have more disposable income and are less affected by economic hardships compared to other types of travelers (Agarwal, 2021). This clearly informs our strategy to keep upgrading 3-4 star hotels into five-star hotels, to capture this audience. Once hotels are modernized and performing, it becomes a sellers market again as these assets are rare to come by.
Lifestyle hotel positioning vs. impersonal big box brands.
Europe lacks enough lifestyle hotel rooms in most cities. One of our founding insights in 2017 was the significant under-supply of quality lifestyle hotel beds in Europe. Even if you combine all the recent new brands, boutique hotels, and concept hotels, they make up less than 2% of Europe's overall hotel room supply in Europe. Most hotels are built without the demand of the guests and growing megatrends in mind; to have a more personalized, more authentic travel experiences, and a tight-knit community. The taste and demand of travelers are shifting radically and quickly, as the main travel audience is shifting to millennials and GenZ. 70% of the workforce will be GenZ and millennials by 2023. GenZ and millennials will continue to be the largest growth driver for lifestyle hotels, as these generations climb the income ladder and become the leading spenders for travel and hotels. Gen Z and Millenials have already turned to brands such as Soho House, Hoxton or Nomad in the US and UK, with currently no truly European Lifestyle hotel brand. This is a clear opportunity to capture a new generation and the premium market with properties offering both a lifestyle positioning and high-end international standards.
