As the hotel sector continues to evolve, the financing landscape is becoming more dynamic, with changes including but not limited to private credit becoming a more prominent player and ESG considerations increasingly influencing investment strategies.
The role of private credit
Will Duffey, head of hotels and hospitality capital markets at JLL observes that the influx of private credit continues to grow. “There is wide range of credit options available in today's market,” he notes. The surge in private credit, he believes, stemmed from capital raisers who saw an opportunity to secure equity-like returns by taking on credit positions.
“We’re seeing more and more funds either created or setting themselves up to provide credit,” Duffey explains.
While the growth of credit funds is positive for market liquidity, it has created a crowded space, forcing lenders to become more creative with their offerings. Examples such as NorthWall Capital and BlueWater Capital providing mezzanine and senior debt for The BoTree are a clear indication of raft of credit funds out there now who aren’t necessary familiar with many in the market.
As a result of this growing pool, Duffey stresses that lenders now need to differentiate themselves through flexible terms and tailored structures to stay competitive. For instance, he highlights deals where lenders have structured loans that start with a margin that decrease as performance improves, a solution that offers both protection for lenders and more cash flow for sponsors.
The growing importance of ESG
ESG considerations have become even more central to hotel financing decisions as Investors and lenders alike are increasingly considering how a property's sustainability profile affects both immediate returns and long-term asset value.
Kash Gohil, founding partner at Amante Capital, stresses the significance of ESG, noting that failing to consider ESG factors can negatively impact liquidity when it comes time to exit. “It’s not optional. You have to bake it into your underwriting. ESG is important to capital we work with on the equity side and it’s equally important for the debt that we get,” he says.
Marianna Papachristophorou partner & head of hospitality portfolio at Invel Real Estate echoes this sentiment, adding that ESG is a core consideration in the company’s strategies. “We’re considering ESG in everything we do. If we were looking at an asset and there wasn’t a way to turn it more green in an easy and reasonably cost-effective way, it would certainly affect our decision.”
And with more regulation in relation to ESG and sustainability disclosure as well as government incentives becoming more available and cheaper lending terms for green projects, it seems a focus on ESG is a no-brainer.
Meanwhile, Lior Junger, vice president hotel financing at Aareal Bank notes that while ESG is becoming a more significant factor in underwriting decisions, it is not yet a dealbreaker unless a property is far behind on ESG standards. Aareal Bank - with a robust hotel financing portfolio of €11 billion - maintains a flexible approach, assessing each property on an individual basis.
“It always depends on the individual due diligence, but ESG is becoming more important for us when considering financing a property,” he says.
According to Duffey, we’re in a transition period. “People have started to wake up to ESG more than they were and are trying to establish what it means, what they need to do and what they should be considering. It’s a slow process but it’s definitely front of mind.”
Cash flow
For many lenders, the ability of an asset to generate reliable cash flow remains a crucial factor in financing decisions. Junger emphasizes that Aareal Bank places significant weight on the financial health of a hotel or portfolio, ensuring that the cash flow can reliably cover debt service.
Duffey agrees, emphasizing the importance of the sponsor's ability to execute a viable business plan. “More than ever, lenders want to focus on the sponsor - what’s their background, what have they done before, how achievable is their business plan and how are they going to implement it?”
This focus on sponsor quality reflects a broader trend in which lenders are increasingly evaluating the execution capabilities of sponsors, not just the asset itself.
While luxury properties in prime locations continue to attract attention, midscale assets are receiving a lot of interest due to their financial efficiency. “Generally, the capital ratio of lower-category properties is better than luxury ones,” Junger says, adding “for us, it's mainly important that the cash flow can be covered.”
And as midscale hotels don’t have the high operational costs associated with luxury properties, it’s easy to see the attraction.
For lenders like Aareal Bank, a stable relationship with repeat clients and a robust cash flow model are key elements of any successful financing deal.
Challenges and opportunities
Despite the abundance of credit available in the market, hotel financing is not without its challenges, with ongoing macroeconomic uncertainties such as interest rates, inflation and costs affecting the stability of the market.
Amid the volatility, Duffey stresses the need for consistency, adding that lenders must adapt to changing market conditions and provide more sustainable and consistent offerings to remain competitive.
Junger notes that as market confidence grows, loan-to-value ratios are starting to rise again, signalling a positive shift. “LTVs are increasing again – this is a positive sign for the hotel lending space, as it indicates that lenders are becoming more confident in deploying capital and supporting larger transactions.”
Complex but promising
While the cost of debt may be higher than it was in previous years, with traditional banks and emerging credit funds vying for attention, the volume of available credit provides a wealth of opportunities for those who can navigate the complexities.
While the growth of private credit funds has made capital more available, it has also created a crowded space where flexibility and creativity are key. ESG considerations are now a standard part of the conversation, with both lenders and investors placing increasing importance on sustainability as a long-term value driver. At the same time, lenders are focusing more on cash flow sustainability and risk management, particularly in response to ongoing macroeconomic shifts.
As the market adapts, hotel lending will continue to evolve. The question is how well stakeholders can adapt to these shifts in order to capitalize on the emerging opportunities while also managing the risks.