Posted by ray@lcorn on September 29, 2003 at 08:29:07:
Bill,
Be very careful here. Hotels are notoriously volatile, and right now is one of the toughest times the hospitality industry has ever seen. In those facts lurk the issues that influence the decision of any lender in any segment of the hotel arena.
Primary lenders price any hotel loan with a high risk premium. This means higher debt coverage ratios, lower LTVs, and guarantees from the principals. They will generally tie up a first lien on everything between the front and back door, including room receipts since they have now been defined by the bankruptcy courts as “rent”. Most primary lenders will not allow secondary financing, except for leasing (more below). The exception to this is when the primary lender is a local bank, with secondary notes from owner financing on sale. Even owner-financed sales are unusually heavy on hard equity… and for good reason. Who better than the previous owner to know how volatile the business can be?
Secondary lending on hotels for improvements typically takes the form of lease financing. This is high risk, high-rate, asset-based performance lending. The companies that specialize in this type of product know exactly what they are dealing with and have the infrastructure and diligence to monitor the investment. They are aggressive in selling their products, and have arrangements with almost any hard good vendor in the business. There are programs for everything from carpet and wallpaper to case goods and signs. In many ways the leasing companies are the lifeblood of the supply chain in the hotel industry. A hotel that cannot qualify for one of the many variations of this type of financing is probably not a going concern, or soon won’t be.
It is into that breach you are steppping. If the principals are offering you a better return than it would cost in the lease market, then you have to ask yourself why. In my opinion, any paper generated at this level should be valued at a very high discount rate… 50% or higher. If you can make those numbers work at a profit, then go in with your eyes wide open.
ray