SINGAPORE (Feb 21): As far as bottom line DPS are concerned, both Eagle Hospitality Trust (EHT) and ARA US Hospitality Trust fell short of their forecasts in their respective prospectus in April and May last year as parts of the US economy softened for specific sectors.
Through no fault of their own, the sponsors of Eagle Hospitality Trust and ARA US Hospitality Trust were wooed and won by the Singapore Exchange and DBS Bank’s investment banking department. At the time of their IPOs, just under a year ago, and within weeks of each other, the outlook for the US hospitality mar-ket appeared all hunky-dory. But, as 2019 wore on, that upbeat prognosis was chipped away.
In its recent results announcement, EHT’s manager pointed out that fundamentals have deteriorated since its IPO. EHT’s manager said in results release on Feb 18, “US RevPAR esti-mates were revised down throughout the year; 2019 RevPAR growth as of 1Q 2019 was 2% and has since been revised down to 0.8% (i.e. a 60% decrease).”
EHT’s manager adds, “Lodging supply and demand are projected to grow at 1.9% and 1.4% respectively. The supply headwinds are expected to have a 40bps impact on future oc-cupancy levels.” Overall, RevPAR growth pro-jections have been reduced but continue to re-main positive at 0.3%, it says. “Industry experts maintain that it is still too early to predict the impact that the Covid-19 virus may have on the US hospitality industry, as compared to certain parts of Asia that have since registered a significant adverse impact.,” the manager continues. According to the manager, 11% of guests are from overseas, with a significantly smaller proportion coming from regions in Asia that are more exposed by the Covid-19 outbreak.
Challenges of select service sector
Similarly, ARA US Hospitality Trust’s manag-er has also acknowledged that the US hospi-tality sector was challenging. Already, ARA US Hospitality Trust’s manager had warned in its 3QFY2019 ended Sept 30, 2019, results re-lease on Nov 6, 2019, that it missed prospectus forecasts because of oversupply and soft-er rates. Supply outpaced demand for the first nine months of the year, the ARA manager said in its 3QFY2019 results release.
ARA US Hospitality Trust’s portfolio comprises 11 Hyatt House and 27 Hyatt Place se-lect service hotels. Its occupancy of 77% for the period from its May 9, 2019 listing date to end December 2019 was above average but ADR of US$122 ($170) was 5.5% lower than forecast as a result of new supply pressures.
The upscale select-service segment – where ARA US Hospitality Trust’s portfolio is focused on – experienced supply growth of 5.3% in 4QFY2019 compared to demand growth of 5.1%. The supply and demand imbalance resulted in a 0.2% decline in occupancy and 0.4% decrease in ADR due to new hotels offering discounted introductory pricing. As a result, RevPAR for this segment decreased by 0.6%.Whether this sector represents just an iso-lated soft patch for the US economy, or the soft patch spreads and slows GDP growth overall, remains to be seen.
Outlook soft, consultants say
According to HVS, a US property consultant, projects that began construction a couple of years ago are likely to open this year. Demand is not expected to keep pace with supply, and occupancy will likely continue to drop modestly in 2020. HVS is expecting overall occupancy to inch lower to 65.6% this year from 66% last year.
“Demand may be further siphoned off by increases in supply in the alternative lodging sector from sources such as Airbnb and VRBO, among others,” HVS says. Furthermore, with a low unemployment rate, companies will find it difficult to expand and this will limit hotel demand.
“Expanding companies drive significant room nights to nearby hotels with relocations, training, and related activities,” HVS explains. “In many markets, companies have begun to pull back their near-term requirements for room nights, as they move into a maintenance and defensive mode rather than a position of expansion. This change in position also reduces demand from the construction sector, as large-scale pro-jects to support growth at corporate campuses in some markets recede.”
According to HVS, in markets where occupancy has already registered a downward trend, ADR may begin to slide as hotels use price discounts to compete for market share.
ARA US Hospitality Trust’s manager admitted that its RevPAR of US$101 in 3QFY2019 was 5.1% lower than forecast because of “new sup-ply impact in various markets”.
Ominously, HVS says “peak NOI may be be-hind us in many major markets and may not return until the new supply is absorbed. Rising labour costs and low RevPAR growth are put-ting significant pressure on NOI.” For hotels, NOI or net operating income is the equivalent of net property income.
REIT impact
Rising negative sentiment in the US hotel sector is likely to impact ARA US Hospitality Trust as it does not have a master lease agreement with its sponsor to stabilise NPI. Moreover, in its 3QFY2019 announcement it said property management had changed hands at some hotels. Hence the trust is grappling with new staff as the sector softens.
In November 2019, as a foil to the lower NPI which was already 22.1% below forecast in 3QFY2019, the trust announced an acquisition of three Marriott-branded upscale select-service hotels for US$84.5 million. The acquisitions are fully debt funded and could support ARA US Hospitality Trust’s underperforming DPS this year.
In 4QFY2019, ARA US Hospitality Trust missed its NPI forecast by a whopping 32.9% (see table) and in FY2019, it missed its NPI forecast by more than 20%, albeit at a lower percentage that the 3QFY2019 miss. Since ARA US Hospitality Trust did not report any tax payment, and had lower finance costs, DPS missed its forecast by low double digits in 4QFY2019, and by high single digits for FY2019.
Eagle’s taxes caused DPS swing
Headlines, including those by The Edge Singa-pore, stating that EHT missed its forecast by 24.4% did not reflect a holistic picture, Sal-vatore Takoushian, CEO of EHT’s manager says. It is true that DPS was lower than forecast and by 24.4%. However, the displacement was caused by a tax charge, says Takoushian. In 4QFY2019, EHT had a tax charge of US$4.5 million, which caused distributable income to fall sharper than expected.
“In accordance with IFRS (International Financial Reporting Standards), property taxes are recorded when invoiced. In Q3, our distri-bution income reflected marginal property tax of approximately US$100,000; however, in Q4 we recorded property tax of US$3.5 million. It lent itself to a significant swing in DPU for Q4,” Takoushian explains. “In the annual period, the lumpiness is effectively straight-lined. For the year, DPU is only down 10.2% by comparison – rental revenues were down 10.1% for year; they are far more aligned.”
Apart from a tax charge and soft fundamen-tals, the 777-room Holiday Inn Resorts Orlando Suites – Waterpark was in the direct path of hurricane Dorian. As a result, 144 rooms are out of action because of roof repairs.
In addition, delays in construction for renovation works at five properties – Crowne Plaza Dallas Near Galleria-Addison, Hilton Houston Galleria Area, Renaissance Woodbridge, Doubletree by Hilton Salt Lake City Airport, and Sheraton Pasadena – meant that they could not be marketed to corporate clients. You can’t sell corporate contracts till construction is over, Takoushian says.
Now that renovation is complete, these properties can be “ramped up”. In a show of support, sponsor Urban Commons has amended the master lease agreement in favour of securityholders. This will allow EHT to receive more rent from any outperforming properties that produce excess cash flow. Eighty percent of the excess cash flow from outperforming properties is to be applied to the shortfalls in rent of any underperforming properties. This amendment is non-prejudicial to stapled securityholders and could only result in additional rent for the trust, Takoushian says.
Finally, Queen Mary Long Beach has been in “calmer waters” this year. The City of Long Beach engaged an engineering firm Moffatt & Nichol in Nov last year, to conduct a peer re-view to assess the current inspection reports and procedures which was released in December 2019. It recommended establishing a defect-rating system, a tracking system and a repair-activity prioritisation system.
Looking ahead
Krishna Guha, an analyst at Jefferies, points out that the stock trades at 40% discount to NAV and offers an 11% yield. The Queen Mary accounts for 13% of the portfolio value. “Excluding the Queen Mary, EHT trades at 30% discount to NAV which we think sufficiently discounts for a GFC-kind of situation wherein RevPAR declined by more than 20%,” Guha says in his report.
Takoushian sidesteps a question on outlook for DPS, and says that the prospectus did not assume meaningful growth in FY2020. Accord-ing to the prospectus, distributable income for 2020 is US$57.58 million. Assuming that this year’s tax charges are lower, annualised dis-tributable income could be as high as US$52 million, or including tax, it would be as low as US$45 million.
ARA US Hospitality Trust’s manager says barring unforeseen circumstances, the Managers expect the distributable income for FY2020 to be in line with its IPO forecast which was US$40.81 million. The trust’s 4QFY2019’s annualised distributable income was US$24.4 million, so there’s a lot of catching up to do, which may imply more acquisitions.
