Hotels & Motels - A Substantially Higher ROE Investment
Perhaps, you know that more than 50% of hotels and motels in USA are owned by people of Asian Indian origin. And a large majority are owned by Patels; who, to many, are a metonym of hotels and motels in USA. A look at the Asian American Hotel Owners Association (AAHOA) web pages show thatAAHOA is the largest hotel owners association in the world. The 18,500+ AAHOA Members own almost one in every two hotels in the United States.
A question may arise: what is so unique about hotels and motels, that so many Asian Indians went, and are, into it?
A good answer to this question had been provided by Mohnish Pabraiin his book, The Dhando Investor- The Risk- Value Method to High Returns (2009). He had pointed out that the answer lies in their low-risk, high-return approach to business. He had named this approach to business as ‘Heads I Win, Tails I don’t lose much’. In more simple words, hotel and motel is a business where upside is huge, while downside is limited.
Looking at this model of business, you may be reminded of call option contracts in various markets. Call option contracts have been designed to realize potentials of unlimited gains, but limited loss. But hotels and motels, in my opinion, are much superior than standard call option contracts as hotels and motels don’t have an expiry date of a standard call option contract.
Kirti Shah, a veteran banker and hotelier had once said, ‘Since sleep is a very essential function of living, my reckoning is hospitality assets will never be obsolete. That is why when I moved from banking, I took up hospitality.’
The main distinguishing characteristics of hotels and motels as an investment can be listed as follows:
- There is no risk of totalloss. Even if the business does not do as well as planned, you have a certain value of land and buildings. The buildings depreciate over a longer period and the land is not depreciable.
- It is simpleto understand and operate; particularly, if it is a bed and breakfast or select service.
- Its operation and management can be outsourced.
- It can be financed with highloan to value (LTV). The 80-85% LTV are not uncommon in hotel and motel financing as hotels and motels have hard assets.
- Owing to its high LTV or leverage, it tends to provide significantly higherreturn on equity (ROE) compared to many other investments. The 25%- 30% ROE is common in this industry. The 25%- 30% ROE means that you may recover your investment back in 3-4 years.
- To reduce initial investment, it is possible to buy a hotel without real estate, like a hotel constructed on leased land.
- The sale and lease back are the other alternative available in this industry to liquidate your investment.
- The hotel and motel provide possibility of setting up owner or manager’s residence in the hotel and motel and thereby saving costs of residence and having benefits of working from home.
- Hotel revenues and values are cyclical. What goes up, comes down; and what comes down, goes up. A buy and hold may help reap appreciation of value.
I may conclude by saying that if you could buy an underperforming or distressed hotel or motel property at a deeply discounted price or well negotiated price, accomplishing 40%-50% ROE or recovering your initial investment in 2- 3 years is quite feasible. Many of the Asian Indians who entered this industry early on in 1970s in USA, had entered during recession. You may like to keep your eye out.
Sat Parasharis Director, International Business Development, American Motel Hotel Brokers Network, Phoenix, AZ. He may be reached for complete hotel advisory and brokerage services, all over USA and Internationally.