Hotel Review February 2023

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Approaching three years since the first Covid-19 government imposed lockdown, the hotel sector, along with all hospitality and leisure businesses, has experienced a roller coaster of fortunes with what seems like little or no respite. The sector is now facing a period of further turmoil.

In general terms, UK hotel sector performance witnessed a better than expected recovery in 2021 and 2022, with some locations outperforming 2019 levels. The lifting of Covid-19 restrictions was met with a major spike in customer demand, driven by pent up desire for vacations alongside overseas travel restrictions, driving a record staycation market. This was particularly evident in the south, south east and south west regions. With overseas travel returning, and with customer holiday demands redistributing, the exceptional staycation market is slowing.

Across the same period, trading conditions in regional towns and cities have been slower to recover, with a gradual return of face to face meetings, major conferences, exhibitions and events. Due to the capital's reliance on overseas visitors, the pace of recovery in London was heavily aligned to the relaxation of overseas travel restrictions, and performance was subdued in 2021, however rose sharply in the first half of 2022, boosted by a number of major events and underpinned by the weak sterling.

After a short period to catch its breath, the sector is now facing well publicised macro and micro economic challenges.

Rising interest rates and lender caution is driving increased costs of borrowing. Supply shortages and high inflation are pushing up costs of goods, materials and general operating overheads compounded by the energy crisis, alongside staff shortages and wage inflation. Whilst some businesses have been able to pass a degree of the increased cost burden to the consumer through room tariff increases, the profit and loss is undoubtedly under pressure.

As guest demand seemingly held up in the lead up to Christmas, concerns are mounting about the cost of living crisis and sustainability of consumer confidence and spending in the gloomier months, given the growing pressure on disposable incomes and discretionary spend across the corporate and leisure sectors. Alongside this, hotel room supply is set to increase, with approximately 12,000 new rooms due to enter the regional market and 9,000 in London during 2023 (Source: STR).

Unsurprisingly, operators are cautious and trading projections for 2023, in general terms, are relatively subdued. London hotels are expected to see revenue performance broadly equivalent to 2019 levels, however the regions are expected to continue to lag behind, in real terms taking account of inflation.

Total hotel transaction volumes for 2019 exceeded £5.0bn, down from approximately £6.6bn in 2018 and £5.9bn in 2017. In 2020, despite a wealth of opportunistic buyers scouring the market for hotels at discounted prices, a limited level of distress emerged and there was a general shortage of available hotel stock. Difficulties in securing debt during a severely weakened period of trading and a dearth of portfolio activity, led to subdued hotel transactional volumes, falling below £2bn, which itself was distorted by the sale of three flagship London hotels. 2021, particularly H2, witnessed a resurgence in activity, with deal volumes for the year around £4.0bn, broadly half of which was attributable to London transactions, particularly investment activity, and the remainder from a handful of regional portfolio transactions and a large number of individual asset transactions. Single asset transactions dominated regional activity, with a particular focus on coast, country and leisure locations, buoyed by strong staycation trading conditions. Pent up buyer demand, a continuing shortage of available stock and improving trading conditions supported strong pricing.

Transactional activity in 2022 started positively in H1, again dominated by single asset sales, however, not surprisingly, faced with rising interest rates, reduced availability of finance to support acquisitions, concerns
over the short term trading prospects and cost volatility, activity in H2 slowed down. 2022 deal volumes ended around £3.0bn. Hotel owners are pausing to take stock of their position, whilst buyers and investors keep their powder dry. That said, there remain a number of very well funded expanding operators, particularly within the food and beverage driven hotel sector, that remain committed to growth through acquisition.

We expect activity levels to change over coming months. Owners that have long deferred a decision to sell, will revisit their plans in the face of a challenging outlook. Previously supportive lenders will inevitably need to review their loan book exposure. Where rising costs, diminishing profits, mounting capex requirements and increasing loan repayments threaten debt security, a more proactive asset management role by lenders is likely. We should see price adjustment with a growing number of hotel opportunities reaching the market in the coming year, which we anticipate will be met by strong demand from a pent up pool of buyers, both domestic and overseas, keen to capitalise on new opportunities and invest in what is seen internationally as a safe haven.

The winners in this market will be sellers that are properly prepared for a sale, take early advice and have their 'house in order' to ensure optimum presentation of their asset and demonstrate a well-managed business to prospective buyers, and their funders.