PIPs ; and take advantage of federal Payroll Protection Programs to keep as many staff as possible earning a paycheck .
Lenders lacked the appetite to take over struggling properties due to the “ no-fault ” uniqueness of the situation and , in part , because pre-COVID , the hospitality industry was scoring quarter after quarter boosts in RevPAR . Paradoxically , property managers also learned to significantly pare operating expenses , and aided by lean staffing at many hotels , profit margins actually improved at many properties even as the pandemic raged on .
But the dynamics are now changed . We are in a volatile interest rate environment where we expect the cost and availability of debt to continue to be an issue for the next 12-18 months . It is inevitable that rising interest rates will lead to rising cap rates that threaten valuations . The question becomes whether hotel net revenues can at least keep pace with inflationary pressures , including the cost of capital , as opposed to falling behind . In addition , the consensus on how long it will take to “ normalize ” the debt markets will impact how much hotel assets get “ devalued ” in this debt market upheaval .
For example , consider that a hotel that had US $ 1 million net operating income ( NOI ) in 2021 might have sold for a 7 cap ; or roughly US $ 14.3 million . Now , let ’ s say this same hotel produces US $ 1.3 million NOI in 2022 , but cap rates widen to
9 . Since the hotel value is around US $ 14.3 million , this means in theory that NOI has to increase by 30 % to maintain January 1 , 2021 , value .
But if this hotel only increases NOI to US $ 1.1 million , with cap rates having widened to 9 , its value is now only US $ 12.25 million , which represents a 15 % loss in value . So , in this inflationary climate , treading water is not good enough in terms of maintaining valuations .
The above examples assume a permanent shift in interest rates , which we do not believe is the case . It seems the consensus is that there will be a settling of the debt markets within the next two years . If so , investors will be expecting a price reduction equal to the difference in debt costs incurred over the next few years , as compared to those costs in a less volatile market .
Furthermore , in less volatile markets , buyers may be willing to pay the seller for part of the upside in a potential deal ( such as the ability to add value by capital expenditures , or repositioning to a new brand or management ). In this current climate , it ’ s our expectation that buyers will want to capture more of the upside given the increased perception of risk in doing a deal in this market .
We do have to be reminded that each market and asset are different . Valuation can ’ t be simply derived from an NOI and cap rate calculation . More general factors like current cost of capital , anticipated market growth , barriers to entry , the diversity and prospects of demand drivers , as well as property-specific factors like needed capital for CapEx , preventive maintenance or brand-mandated property improvement plans , all factor into valuation .
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