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August 16, 2022
  • Investment & Partnership

4 Make or Break Questions Every Hotel Investor Needs to Ask

Investing in a long-term real estate asset like a hotel isn’t a decision one takes lightly. The cost of a mid-scale hotel is significant: ranging from $10-$20 million (Cdn).

So, assume you’ve found a hotel brand and property that checks all of your boxes for location, quality, amenities, budget, franchise support… and quality of towels and linens!

Now it’s time to get down to the nitty-gritty details that can make or break the deal.

Your success depends on your ability to fully understand and assess the financial obligations and requirements from an investment and legal perspective.

Over the past 20 years, we’ve fielded thousands of questions from those new to hotel investment. These four fundamental questions are asked time-and-time-again.

Question 1: Do I need to be an accredited investor?

Because hotels are large investments that exceed $10M in value, buyers will need to qualify as accredited investors.

The definition of an accredited investor varies from province to province (or territory). Guidelines are set by each provincial securities commission. Accredited investors include high net worth individuals, corporations, limited liability partnerships, limited liability companies (LLC), trusts, estates, financial institutions, and individuals/relations who meet set parameters.

Whether or not each individual investor must be accredited will often depend on the structure of the company or organization. For example:

  • All investors in a privately held company must be accredited investors.
  • Management and individual investor in an LLC do not have to be accredited investors, as long as the LLC is considered an accredited investor.
  • Institutional investors will already be accredited.

The choice of the investment vehicle generally comes down to tax implications, liability concerns, and business-related factors.

Generally, international hotel brands will insist their investors be accredited. This is a matter of risk and liability management on behalf of the hotel brand.

In some instances, First Nations will establish partnerships to invest in a hotel property that serves regional needs. Such arrangements are generally formalized under an accredited investor arrangement.

Question 2: How much do I need to invest?

The Colliers 2022 Canadian Hotel Investment Report revealed that the average price per room for a limited-service hotel was $142,700 (based on 119 deals). That number jumps to $168,800 per room for full-service hotels.

This covers all land acquisition, permitting, construction, franchise fees, and start-up costs. It must be paid up-front

The way you structure your ownership group and shareholders will determine how big or small the individual investment obligation.

In some cases, the hotel franchise agent may be open to co-investing in the property as an equal or minority partner. This reduces the upfront costs to the investor. However, the hotel chain will have strict parameters in place to protect its interests. While it reduces the risk, it also cuts into your returns.

Question 3: Are there caveats or regulations investors should know about?

This is a crucial question to answer in any real estate negotiation. For example, you will need to know:

  • Are there are any architectural controls in place that may impact design and construction costs?
  • Are there any development restrictions involving land-use requirements or right of way?
  • Are there any restrictive covenants on the property?

The hotel agent is required to share any known information with investors upfront. It is always advised that your legal team do independent verification to ensure nothing is overlooked.

Question 4: What ROI expectations are reasonable, and over what timeframe?

There are a number of factors that will go into determining how long it will take you to recoup your upfront investment and how much profit you can expect to turn.

As you would expect, the answer will vary depending on the market, the type of hotel property, the strength of the hotel brand, the competitive environment and a host of other factors.

The pandemic years were incredibly challenging for the hotel industry, and have skewed the numbers. Generally, it is accepted that a midscale hotel will recoup costs within 1-2 years (based on 60% vacancy rates) and post annual ROI in the 14-15% range.

There are several valuation models and formulas for determining profitability. Perhaps the most accurate is GOPPAR (Gross Operating Profit Per Available Room). This KPI factor is both operational costs and revenue. It is considered more accurate than REVPAR (Revenue Per Room) or Average Daily Rate, as it includes all expenses – including energy costs.

GOPPAR = (Total Hotel Revenue – Operating Costs) / # of Available Rooms

Get the answers you’re looking for

As an investor, it’s important to get the answers to your financial questions early in the process, before you commit to much time to a potential investment. The franchise agent should be able to provide detailed projections based on valuations and market research around a given property. If the numbers align with your expectations, you’re in business!

And with Canadian hotel deals approaching $2 billion in value in 2021 (eclipsing pre-pandemic levels, according to Colliers), it is once again a very good business to be in.

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