PICKUP IN LODGING DEFAULTS

Over the last 90 days, we have large hotel loan defaults seem to have picked up. This trend should continue over the next 18 months and probably presents interesting opportunities for the well-capitalized.

As hotel performance continues to deteriorate in 2009 with no real signs of a 2010 recovery, the level of defaults on large hotel loans is accelerating.  Loan sponsors are increasingly depleting their reserves and funding debt service out of pocket as realized results fall short of original expectations.  Despite very low interest rates, anything short of an imminent return to peak earnings levels seen in 2007 makes the prospect of recovering "equity value" very unlikely on many loans underwritten in 2006 -2007. For this reason, as maturities loom, we are seeing more and more owners hand back the keys.  In some cases, as we wrote about in "A PROACTIVE DEFAULT" on 06/09/09, sponsors aren't even waiting for maturity.

According to Real Capital Analytics, owners of more than 1,000 non-casino hotels have defaulted on $16.8BN in loans and we expect many more to follow suit as the CMBS maturities bubble in 2010 and 2011. California accounted for approximately 275 of those defaults/foreclosures with roughly 80% of those hotels financed during 2005-2007.

Given the ongoing pick up in large loan defaults in lodging, it's no surprise that many hotel companies are taking advantage of the open markets to issue debt and equity.  This strategy allows them to accumulate dry powder to capitalize on banks flipping recently foreclosed upon properties.  As the number of defaults grows, we expect to see some attractive deals come to market, especially for those buyers that have the balance sheet and liquidity to wait a few years.  This is probably just one of the many reasons why we have seen so many equity issuances in the real estate land lately and why Hyatt is looking to go public now.

Below are some details on some recent large defaults:

  • Sept 1: Morgan Stanley Real Estate Fund V defaulted on a $192.5MM mortgage on the 310-room Maui Prince Hotel in Maui
    • Property included two golf courses and 1,194 acres of undeveloped land
    • Loan was part of a 2007 vintage CMBS deal maturing July 9, 2009
    • MS and Dowling Co. purchased the resort for $575MM from Seibu Group in early 2007
    • Operating income fell to a loss of $4.3MM in 2008 from a profit of $1.3MM in 2007 and is trending towards a loss of $6.5MM for 2009
    • Debt Service Coverage Ratio (DSCR) was 0.16x at 12/31/2008 
    • The resort was also encumbered by $227.5MM of mezzanine debt and a $30MM junior note
  • August 28: Lowe defaults on $322MM of primary and secondary loans on 582-room Terranea Resort on 102 oceanfront acres in Rancho Palos Verdes, CA
    • Lowe opened the hotel in June 2009 at a cost of $480MM
    • Corus Bank declined to fund the last $12.5MM of Lowe's construction loan; the shortfall caused Terranea to fail to meet the requirements to receive a promised loan from the City of Rancho Palos Verdes and subsequently fell behind payments on its secondary loan with Cascade Investments
    • A notice of default on the secondary loan ($142MM) was followed by a notice of default on Terranea's primary loan ($180MM)
  • August 28: Lowe stopped making payments on an $84MM (193K/key) loan against the 436-room Sheraton Universal hotel in LA
    • Loan was part of a 2007 vintage CMBS deal that carried a 5.8% coupon and matured Feb 2012
    • Net Cash Flow for 2008 fell to -411k from 350k in 2007
    • DSCR fell to 0.07x at 12/31/2008 from 1.43x at 12/31/2007
    • Lowe acquired the hotel in Jan 2007 for $122MM (280K/ key) from Walton Street Capital and SCS Advisors with plans to upgrade the property
  • June: Hampshire Group informed its lenders that it will stop making payments its $110MM loan on the 220-room boutique Dream Hotel in Manhattan
    • Loan was part of a 2006 vintage CMBS deal which Hampshire obtained after completed $51MM of renovations and rebranding the property which it owned since 1997
    • Net Cash Flow for 2008 fell 11% in 2008 to 7.8MM 
    • DSCR fell to 1.26x at 12/31/2008 from 1.41x at 12/31/2007, and has continued to drop in 2009
  • Other June defaults include:
    • $190 million Pointe South Mountain Resort in Phoenix, AZ
    • $117 million Loews Lake Las Vegas in Las Vegas, NV