San Clemente-based Sunstone Hotel Investors Inc. is looking to buy hotels even as it sheds older ones with underwater mortgages.
Sunstone, which owns all or part of 40 hotels, said earlier this month it’s looking at acquiring hotels that are selling at discounts or ones where it can renovate or improve operations.
“I’m spending about a third of my time now on acquisitions,” Sunstone Chief Executive Art Buser said on an early November conference call with analysts.
That’s a big shift for Sunstone. For much of this year, the company has been giving back hotels to lenders or working with them to renegotiate mortgages.
Even as Sunstone looks at acquisitions, it possibly could hand back 11 hotels to one of its big lenders.
The company skipped a Nov. 1 payment on a $246 million mortgage with Springfield, Mass.-based Massachusetts Mutual Life Insurance Co.
The move is the latest bid by Sunstone to get a lender to cut the amount owed on hotels or otherwise rework terms of loans.
Like other hotel owners, Sunstone is working through the worst industry downturn since after the terrorist attacks of 2001.
Hotel visitors and revenue have fallen sharply, while values of hotels have declined, in many cases to less than what’s owed on them.
In June, Sunstone rattled the industry by saying it planned to hand back the W Hotel in San Diego rather than continue paying on the building after failing to rework terms of a loan with New York-based Centerline Capital Group, part of New York’s Centerline Holding Co.
The handover wrapped up in September.
“Once they defaulted on the W, the world figured out that they were serious,” said David Loeb, an analyst at Milwaukee-based Robert W. Baird & Co. “It was a game changer for Sunstone in their negotiations with lenders.”
In September, Sunstone said it planned to forfeit its Marriott Ontario Airport, a 299-room hotel across the street from LA/Ontario International Airport.
Sunstone also has stopped making payments on a mortgage for the Renaissance Westchester Hotel in White Plains, N.Y., and is in talks with lenders about reworking the loan.
Some of the hotels Sunstone is looking to hand back are older or are in weak or saturated markets.
The 11 hotels financed with Mass Mutual are older, limited service hotels in markets including San Diego, Atlanta and Long Island.
The hotels are expected to see negative cash flow of about $18 million this year, according to the company.
They also need renovations whose costs couldn’t be justified.
A handover or debt reworking is expected soon.
“I suspect by next month there will be some announcement of either progress or resolution,” Loeb said.
Sunstone is shedding unwanted hotels and going after more coveted ones.
“They seem happy to work their way out of limited service assets and into more upscale hotels,” Loeb said. “I think Art sees an opportunity as the cycle turns for them to invest in higher-end assets that will benefit from the recovery.”
The company’s looking to buy hotels that have the prospect of higher room rates down the road or that add to what Sunstone already has in a particular region.
The strategy of handing back hotels runs the risk of irking lenders, which may think twice about financing future Sunstone acquisitions.
“It certainly opens the question about whether they will be able to borrow from Mass Mutual in the future,” Loeb said. “It depends on how this negotiation process goes.”
Sunstone executives said they’re not worried.
“The good news here is our lenders are very sophisticated,” said Kenneth Cruse, chief financial officer.
For now, lender concerns aren’t that big of an issue. In October, Sunstone sold $170 million worth of stock, which generated $159 million for the company after expenses. It plans to use the proceeds for acquisitions.
“We expect the commercial mortgage markets will generally be unattractive as a source of capital for the next several years,” Cruse said. “The one thing we know for sure is he who shows up with cash has a higher probability of getting that deal than not.”
In recent weeks, Sunstone has “delivered four expressions of interest for hotel acquisitions,” Buser said on the conference call.
“We continue to see a meaningful increase in both marketed deals as well as off-market conversations we’re having with a variety of parties,” he said.
CEO’s Role
Buser, who joined as president in 2008 and became chief executive early this year, has spearheaded Sunstone’s shed-and-buy strategy.
“Art comes and realizes he has assets that appear to be worth less than their debt,” Loeb said. “He’s been determined to figure out the right way to deal with that, which in some cases is returning the assets to lenders.”
Buser has a long history in hotels, including deals.
Before Sunstone, Buser worked in various roles at Chicago’s Jones Lang LaSalle Inc.’s hotel unit. During the peak of hotel deals, Buser oversaw $4.5 billion worth at Jones Lang LaSalle.
There are concerns about Sunstone being able to close acquisitions in the next few quarters as sellers are likely to drag their feet as they hope for a recovery.
“There are probably fewer opportunities for distressed acquisitions than maybe is commonly thought by investors,” Loeb said.
