Given today's prevailing global macroeconomic and geopolitical climate, investors scarcely needed Moody's to remind them, in mid-February, that the hotel industry remained in poor shape. "Despite an initial improvement in occupancy rates and an upturn in travel in the first half of 2002, the plight of European hotels has subsequently worsened due to the geopolitical situation, the continuing economic situation, terrorist risk and the consequent contraction in the global travel business," Moody's commented.
Nor, added the agency, is the industry likely to recover fully to its early 2001 levels before 2005, with underlying operating performance - and operating cashflow in particular - remaining under pressure.
That gloomy assessment, twinned more immediately with the war in Iraq, explains why Aareal Bank is not rushing towards the launch of its second securitisation of commercial mortgages on hotels, the original template of which was unveiled in June 2001 with the launch of Global Hotel One Ltd. Led by Deutsche Bank, this transaction - officially for Depfa before its split - broke new ground for the European CMBS market for a number of reasons.
First, although there had been sporadic hotel securitisations in Europe before (such as the £52m deal in 1999 for Paramout Hotels of the UK), this was comfortably the largest of its kind ever launched in the European market. Global Hotel One was a Eu1.1bn transaction, with an unfunded super-senior credit default swap (CDS) accounting for Eu826m of the deal.
Second, unlike previous deals in Europe, as well as those more familiar in the US market, Global Hotel One was a securitisation of high quality hotels, with all of those within the pool categorised as three or four star properties in prime city centre locations. Diversified throughout the US, the UK, the Netherlands, Belgium, France, Denmark, Sweden and Italy, the pool included flagship properties such as the Churchill Inter-Continental in London and the JW Marriott in New York.
Henrik Bartl, head of the eight-strong dedicated international hotel financing team at Aareal Bank's Wiesbaden headquarters, insists that it has been the quality of the pool backing the bank's debut hotel securitisation that has accounted for the resilient performance of Global Hotel One throughout probably the worst period of turbulence in recent decades.
"A general principle of our hotel underwriting is that it is focused on high quality assets backed by strong borrowers and conservative LTVs that can be structured into securitisations," he says. "The average LTV in Global Hotel One was about 55%, which compares with a level which in a typical office transaction would be significantly higher than that. I am proud that in spite of all the turmoil we have seen since September 11, 2001 we have not sustained a single default in our international hotel portfolio."
Perhaps. But Global Hotel One has been unable to escape entirely unscathed from the deterioration of the credit quality of the hotel sector worldwide, with the Eu47.8m tranche of Class D notes downgraded in November 2002 from Baa3 to B1 by Moody's.
Following the Global Hotel One curtain-raiser, Aareal Bank has been busy amassing hotel assets with a view to launching a successor - Global Hotel Two - which was originally scheduled to come to market in May 2003, although for very obvious reasons Bartl says that Aareal cannot commit itself to a specific launch date.
"Our original goal was to have a delay of between two and 2-1/2 years between Global Hotel One and Two," he says, "and one of the reasons for that is that we are highly selective about the transactions we underwrite. For example, we have not made a loan in the London hotel market since 1998, simply because we believed that many of our competitors were being too aggressive in the London market, which has been characterised by low margins and LTVs as high as 70% or 80%."
Be that as it may, Bartl reports that, taking considerations such as early repayments and amortisations into account, Aareal Bank is adding assets worth about Eu750m (equivalent) per year to its international hotel portfolio, which at the end of September 2002 accounted for 10.4% of the bank's total property assets.
Assets added to the balance sheet over the last two years, worth some Eu1.4bn, have included the senior debt portion on the largely pan-European Meridien portfolio and the Starwood Ciga portfolio in Italy, which Bartl says was financed at a very low LTV of about 30% soon after the September 11 attacks. Bartl adds that other assets added recently have included a number of properties in Canada and the US, with the emphasis in North American assets on lower profile destinations likely to be less impacted by the events of September 11 than, for example, airport-based hotels.
The diversity of that portfolio clearly leaves Aareal Bank ready to launch Global Hotel Two as and when geopolitical and market conditions allow.
In the meantime, Bartl says that the bank will continue to manage its hotel portfolio in accordance with its broader property strategy. That means combining the dedicated expertise of its Wiesbaden-based hotel specialists, many of which owe that expertise to previous careers within the hotel industry, with that of its local teams dispersed throughout Europe and North America.
It also means managing the hotel portfolio in a highly dynamic way, which, Bartl insists, distinguishes Aareal Bank from competitors that are perhaps less dedicated to their hotel financing franchises.
"The covenant levels you maintain in the hotel lending business need to be very tight," he says, "allowing you to identify early warning signals and remain in control of the cashflow. You need to take a proactive approach to hotel lending, which means analysing the numbers at least once every quarter. Hotels are not assets that you can put in the filing cabinet and forget about." *