2016 Canadian Hotel Investment Report Colliers International Hotels HOTEL colliershotels.com SPECIALYEAR IN REVIEWFEATURE 20162016 CanadianCanadian HotelHotel InvestmentInvestment ReportReport HOHTOETLEL The Canadian hotel real estate market continued its upward trajectory in 2015, finishing its 6th year in the current up-cycle and bringing combined total transaction volume to over $9 billion. It was a year of record-setting volumes; the highest since 2007 and the third highest in history at $2.46 billion in sales. Despite this, there are real concerns in the market given the impact of the recent ‘boom to bust’ in certain parts of the country that are oil and gas dependent, and the potential ripple effect this may have on other parts of the country. For this year’s special feature, we interviewed a cross-section of hotel participants to gauge their views on investing in 2016 and beyond, and to ascertain predictions on tailwinds and headwinds for the industry in the coming years. What transpired were strategies that resembled a game of chess, whereby each player is carefully formulating their “next move” and looking for patterns as a way to predict future circumstances. At this point in the cycle the fundamentals of the game are being applied to owners’ portfolios, in order to protect and advance their position. Different phases of the game require different skills, and this includes ‘playing for the advantage’ in good times, and establishing moves that can both attack and defend in difficult times - both of which involve advance planning in order to help dictate the game’s course. THE NEXT MOVE The simple reality is that the hotel market is not static – parts of the country are in turmoil particularly within the energy-dependent markets, while a large majority of other markets are thriving. The overwhelming consensus remains that hotels are a very strong asset class, but one in which the durability of the income stream can be unpredictable due to external events. The question becomes how do investors navigate during volatile times and what factors determine their risk threshold and investment perspective when evaluating their next move? Five broad views observed by some of Canada’s most significant hotel participants today include: There continues to be good investment opportunities, depending on the buyer and risk profile. Fortunately the hotel market is characterized by a healthy mix of investor types in the current L HOTE landscape that attract a variety of different product given various investment and exit perspectives. Institutional capital is largely focused on urban, full-service assets in core markets for longer- term holds and would place money in key assets if the opportunities were right. While private investors and hotel investment companies are also targeting Canada’s top markets, they are also less risk- averse to investing in smaller markets subject to proper due diligence on timing the market, picking the right product positioning and taking advantage of the current cost of capital. Buyer profiles can be broken down even further, with certain groups focused on in-place yield, versus more opportunistic acquisitions that require repositioning and are therefore valued using different metrics. Generally speaking, as long as cash-on-cash returns are favourable relative to where cap rates and interest rates lie, investors will continue to pursue new acquisitions. 2 Colliers International Hotels 2016 Canadian Hotel Investment Report SPECIALYEAR IN FEATURE REVIEW L L E E T T O O H H Portfolio diversity matters more than ever from both a Continued operational improvements are on the horizon from geographic market perspective as well as asset class mix. a top-line perspective, but there is more room to improve the This premise has evolved into a golden rule for both small and bottom line. The recent rebound in high-torque markets such larger investors in order to spread risk and exposure over the as Vancouver and Toronto as well as Alberta Mountain Resorts long-run. The majority of participants cited the benefits of is a great success story from a top-line perspective. Optimism having properties in multiple geographic regions to help offset is abound for further improvements in these key markets given turmoil that can arise in markets/regions dominated by only a economic forecasts as well as currency benefits in the short few core industries. Investing in larger urban markets have to medium term. Another key component to top line growth is obvious advantages of reduced volatility given more diversified owners investing significant capital into older product thereby economies, but on the flipside several smaller markets have allowing for healthy rate gains as well as reduction in supply as seen such tremendous gains in the current cycle that these can conversions of hotels to alternative use continue. The increase often override losses so long as the investor can weather the in top line (particularly rate growth) translates to increased storm. Several groups cited that diversity into other real estate bottom-line flow-through and profitability. However, many asset classes also significantly helps their overall portfolio participants believe there is still more room to increase rates returns, particularly when the economy turns and the hotel and it is particularly crucial given increased operating costs market sees larger declines than other asset types such as that can outpace revenue growth. Owners are continuously office and multi-residential. evaluating their cost structure including key items such as labour, property taxes and other operating expenses in order to Currency trends are going to fare well for the market from both improve profitability. an operational as well as investment perspective. Canada is one of the world’s top destinations and the country Like the game of chess, investors are methodically making their continues to increase its awareness on a global moves to solidify their portfolios to take advantage of upside scale for attracting the individual traveler and mitigate threats. While there are serious concerns with as well as group and tour business. energy-linked markets at the present time, Canadian hotel Significant benefits are accruing investors are generally well capitalized, and for the most from the efforts of Destination Canada, part, geographically diversified. Current sentiment may the government agency responsible for be that of cautious optimism, but positive industry marketing Canadian travel, and with the low characteristics are overshadowing near-term dollar continued positive results in key markets concerns with major hotel real estate owners across the country is anticipated. Cross- optimistic about long-term opportunities and border investors are also increasingly looking at returns. acquisition opportunities, although their investment criteria are largely focused on major market urban projects, which are limited in supply and are met with increased competition from well-capitalized domestic capital sources. Industry disruptors are top of mind. Fresh off the previous decade-long battle with online travel agencies (OTAs), new innovations such as AirBNB are rapidly transforming the way Special thanks to representatives of the following companies who travelers book their accommodations. While these innovations provided their insights for this feature (in alphabetical order): are providing some benefit to the consumer, it has yet to be determined what impact these alternative distribution channels Area Inc., Canalta Hotels, Easton’s Group of Companies, Genesis will have on traditional hotel performance. Owners of assets in Hospitality Inc., InnVest REIT, Northland Properties Corporation, secondary and tertiary markets for the most part do not see this Oxford Properties Group, Pomeroy Lodging Group, Silver Hotel as a major issue. However, the fundamental challenge is that Group, SilverBirch Hotels & Resorts, Sunray Group of Hotels, this channel is not currently monitored and regulated. Westmont Hospitality Group. Colliers International Hotels 3 YEAR IN REVIEW 2016 Canadian Hotel Investment Report 2015 In Review HOTEL 2015: YEAR IN REVIEW POSITIVE DRUMBEAT CONTINUES Canadian hotel transaction volume grew to $2.46 billion in 2015, a 70% year-over-year increase with 147 transactions reported. While this was the third highest volume reported on record and the highest in the current cycle, a number of macro-economic events impacted the markets in 2015 – most notably commodity price declines and a drastically lower Canadian dollar. Heightened interest in the overall transaction market persisted, facilitated by a healthy debt market and 2015 Volume by Segment a wide variety of well capitalized buyer groups, including increased interest by cross-border purchasers. 2015 TRANSACTION HIGHLIGHTS 73% A new record was set on single asset transactions over the $25 million threshold. There were 17 single assets trading above this level, surpassing the previous record Full-Service Assets of 14 deals in 2014 and illustrative of the appetite for larger urban full-service assets Volume $1.793 billion in the current cycle. YOY Trend # of Trades 60 • Average per room pricing was $114,300 – • Volume in Alberta fell approximately 17% Avg. Price/Rm $134,100 a 23% increase from 2014 – indicative of year-over-year ($271 million versus $328 strong market fundamentals and the quality million in 2014), although average price of assets trading. per room improved to $118,600 versus $93,700 in the year prior. • Full-service transactions dominated deal activity and represented 73% of • Three portfolios transacted totaling 26 13% national transaction volume, up 140% properties and 16% of volume ($404 year-over-year ($1.8 billion versus million versus $118 million in 2014 and $750 million in 2014). $930 million in 2013). Fortis Properties, Focused-Service Assets who sold their portfolio to focus on their • Fewer focused-service properties came core electric and utility gas business, Volume $332 million to market during the year with 19 trades YOY Trend disposed of 22 properties that represented representing 13% of volume ($332 million # of Trades 19 90% of overall portfolio activity.