More than 400 members and their guests attended the 2010 Zell/Lurie Fall Members’ Meeting on Tuesday, Oct. 19 at the Annenberg Center for the Performing Arts on the campus of the University of Pennsylvania.
On Monday evening, October 18, Research Sponsors, Executive Committee members and faculty enjoyed cocktails and dinner at the Rittenhouse Hotel and participated in the Max M. Farash Real Estate Roundtable, a discussion led by Wharton real estate Professors Gyourko and Linneman on what the public should expect to happen next in terms of the economy.
Tuesday morning began with an opportunity for members and students to connect at the Mentor breakfast. This year, the Center matched 75 mentors with 110 student mentees. Following breakfast, Chairman of the Center, President and CEO of Vornado Realty Trust Michael Fascitelli welcomed attendees to the meeting. Joseph Gyourko and Asuka Nakahara, Director and Associate Director of the Center, respectively, then presented a report on the State of the Center.
The first session, “Is Hospitality the First Sector Back?” featured panelists Ian Carter, President of Global Operations for Hilton Worldwide; Mark Hoplamazian, President and CEO of Hyatt Hotels Corp. and Vice President of The Pritzker Organization; and W. Edward Walter, President, CEO and Director of Host Hotels & Resorts, Inc. Peter Linneman, Albert Sussman Professor of Real Estate, Finance, and Business and Public Policy at Wharton, moderated and opened the session by asking Carter what his business world looked like at its peak. Everything was going well until later in 2007; however as things began to look worse, Hilton was deep into rebranding plans and development plans for three new brands.
In the three major markets—Asia, Europe and the United States—luxury hotels were hit hardest by the recession. Hoplamazian explained that Hyatt has had the opportunity to penetrate different markets because of its lower saturation. “We grew development in areas where growth was lacking, and we own a lot of our own hotels.” But like everyone else, Hyatt had to make many reductions in costs. The panel agreed that the previous two years were the worst in the history of the business, with a 20 percent loss in revenue across the board. In the case of Hyatt and Hilton, the men also agreed that the proportion of capital to number of hotels they own is small, and they have market-based performance standards. “We provide protections under our management agreements, and we will work with owners going through difficult times,” said Carter. They relaxed some brand standards in areas they surmised would be under pressure, and did lose a few hotels, but “maybe they weren’t up to standard in the first place.” They worked closely with some that were borderline.
Properties in trouble offer opportunity. Those that were bought at high prices and leveraged, leave little equity and structures in need of improvement, but it’s not a good time to make capital improvements. The good news is that the industry has rebounded faster than the three men felt was possible at the beginning of the year. “Recovery has been good—we’re up to 5 to 6 percent,” said Walter.
In response to Linneman’s query about the last 24 months being a good time to buy, Walter said he is looking at a “far better projected IRR than what we were looking at in ’06 and ’07. This is a great time to be a buyer.” Hoplamazian said he sees less fee acquisition of hotels and more restructuring of existing projects, refinances, missing capital and projects that may have been dead without additional financing.
Walter reminded the group that there is a better sense of pricing and lenders are taking a harder line with borrowers and are less willing to make accommodations. However, “this is a great environment to own hotels and build new properties that will open in two to three years,” added Hoplamazian. “Yes, the math is challenging, but there is a positive element in building against a cycle… you have to find creative ways to fund the funding gaps. We participate in projects, but partner with great local developers. We need to expand into gateway cities around the world and want to expand our brands.”
Joe Gyourko, Director of the Zell/Lurie Real Estate Center, moderated the second session, “Are the capital markets ahead of the fundamentals?” with panelists Glenn Rufrano, President and CEO of Cushman & Wakefield; Richard Saltzman, President of Colony Capital LLC; T. Ritson Ferguson, CIO and Portfolio Manager of ING Clarion Real Estate Securities; and P. Sheridan Schechner, Managing Director and Co-head of Real Estate Investment Banking for Barclays Capital.
Gyourko opened the session by asking, “What are capital markets thinking about the next few years?” Rufrano answered, “Slow growth.” From a big perspective, more business is being done in 2010 in terms of capital sales with transactions over $10 million. “The capital is out there for certain investments, with office, retail and industrial sectors dominant,” said Rufrano.
Saltzman agreed, adding that fundamentals are still weak, with certain exceptions such as the New York City and Washington, D.C. markets that have seen significant subsidies—commercial and governmental. “When you look around the country at different markets, the glass is still half empty,” he said. Investing is relative, he added; real estate is quite attractive from a relative standpoint (when compared to other investment opportunities).
“In coastal cities there’s a lot of money, but not a lot of capital in private away from the coasts,” said Schechner in reply to Gyourko’s question about lending conditions in the debt market. “There’s bifurcation in the market between junior mezzanine, in the 10 to 12 percent range and senior, in the 9 to 10 percent range. If levered 15 is the new 20, then 10 is the new 15.”
Gyourko asked how different it is around the world. Consensus was that growth in Asia is driving fundamentals. In Europe, people are worried because of potential cutbacks in the public sector. The United States will see more activity. The panel discussed the interesting concept that the United States may actually be the next emerging market due to risks including tax, politics and housing. “There is probably as much political and regulatory risk as there’s ever been [in the United States] and maybe equivalent to other emerging markets around the world,” said Saltzman.
Rufrano added that according to a recent survey, Washington, D.C. and New York City are among the top five riskiest cities to invest in. “We’re still in a storm. This is a risk world for investment … we’re not sure where inflation is, and institutional capital is looking for a big ship. Long-term, stable markets are the best places to look to today.”
Gyourko wondered if the public markets would see a replay of the 1990s, when REITs were part of the solution. Ferguson did not think so. “Don’t get painted into a corner of either raising equity or raising debt. The capital structure needs to reflect your anticipated need for capital over the next 24 to 36 months,” he added.
“The relative forbearance by lenders has surprised many,” Gyourko said, asking for panelists’ comments. Banks have been making the right decisions about with whom they choose to deal, said Rufrano; regulatory pressure from Washington is down, because they don’t want to foreclose on any more banks, added Schechner. “Small banks continue to be taken over by the FDIC,” added Saltzman. “But there is a greater comfort level overall. When loans are paying it’s easy to forebear, but every day, more assets hit the wall.” He predicted there will be more foreclosures over the next three years.
The Farash Lecturer was Henry Olsen, Vice President and Director of the National Research Initiative at the American Enterprise Institute, speaking on “2010: Landslide to Gridlock.”
Common wisdom says gridlock in Washington is going to result from the anticipated Republican win in the House and perhaps in the Senate as well. He predicted a massive swing in opinion among independent voters would occur, especially the “…white working class, those without a college degree. It is these voters who will deliver the change,” he said. “They’re enraged because of a cultural disaffinity, not only because of the economy. Democratic leaders have created the perception they don’t care and they don’t care to learn to care.”
He also predicted the Republicans will not get all nine seats they need in the Senate, but just enough to stop action. He believes they’ll gain 56 to 58 seats in the House. Olsen reminded the audience to use the unemployment rate as an indicator: the white working class has been hardest hit by the recession. Legislative priorities have not been about subjects they are most interested in. Instead, we’ve seen actions around health care reform, immigration, cap and trade, nuclear disarmament and don’t ask-don’t tell. “None of these are high priorities for the working class. They want jobs and action and they’re not seeing either.”
The working class, Olsen said, responds to people who show emotion, can tell a good story, show some religiosity and connect with the people. They want the post-partisanship that Obama promised. The perception is that this Administration has been pure partisan. People are also scared by the deficit, believe the Administration has spent too much, too fast, and can’t pay for everything. Obama, according to Olsen, doesn’t want to engage in the way the white working class likes to engage.
So what does all this mean? Gridlock will exist until the 2012 presidency is decided. The Republicans coming in are ultra-conservative. All incentives will be positioned for 2012. “Taxes will be kicked over to 2013. Cap and trade will be dead. Immigration will be debated, but nothing will be done, and health care won’t be advanced or repealed. The real battle will be fought in 2012.”
The third panel session, “The Business of Real Estate After the Great Recession,” was moderated by Robert Lieber, Zell/Lurie Vice Chair and Executive Managing Director of Island Capital Group and C-III Capital Partners, LLC. Panelists were Bryce Blair, Chairman and CEO of AvalonBay Communities, Inc.; Devin Murphy, Vice Chairman of the Investment Banking Division of Morgan Stanley; and Ron Pressman, President and CEO of GE Capital Real Estate.
Lieber opened the session by asking where the panel believes we are in the recovery. Pressman’s opinion was that the bifurcated market and low levels will be around for another two to three years. However Blair believed pricing has hit bottom, and we are through the worst of the recession by most measures. “We’ve seen growth in all our markets, with a modest level of job growth in the housing sector helping multifamilies.”
Real estate is still an attractive asset class to all sectors of investors and capital is beginning to return, Murphy stated, and Pressman agreed. Blair mentioned that values have appreciated in the past few months, with apartments up 30 percent over a year ago. If values continue to rise, there will be a smaller gap than predicted between investible capital and what’s needed to fill the equity hole. The men agreed that it depends on the asset class: apartments and hotels seem to be recovering.
“Products are flowing, just not at previous levels,” added Pressman. “Uncertainty over financial reform has been holding that back, but banks are feeling stronger and better able to grapple with troubled loans.”
Lieber wondered what effect dropping rates have on business; they’re currently at 2 percent on 10-years. Blair felt rates will stay low for about another 24 months, and offered some ideas for how to run a business during that time. “We’re not utilizing short-term debt and we’re using less debt overall. Bring more equity on and fund it in a risk-measured way.” It’s a good time to bring on debt when rates are low, and it’s also a good time to raise equity.
The panel split on their opinion whether to invest or not today. “We’re actively engaged in development,” said Blair, “based on the expectation that we’ll continue to see accelerated fundamentals … we’re both buying and developing.” In most markets, Murphy called values a “tale of two cities” with investors wanting to buy in New York City and Washington, D.C., not in the country’s interior. The other two panelists agreed, and added that multifamily will continue to be attractive, and retail is yet to be determined.
Lieber asked what differences exist between what’s happening now and the 1990s, when the overall economy was healthier and the GDP was growing. “Higher interest rates in the ’90s made it harder for banks to meet their debt service; now the opposite is true as far as banks being motivated to move their products,” said Pressman. Murphy predicted that asset values would appreciate over the next 10 years, with a lot of volatility. “There has been a lot of pent-sup demand sitting on the sidelines for the last 18 months. There haven’t been a lot of sellers yet, but prices have been bid up and look attractive…sellers are coming back into market which will push prices down, creating volatility.”
Note to our Members: Audio of the meeting is now available on-line. Please contact Ron Smith for more information.
Tenth Annual Zell/Lurie Real Estate Center Career Fair
Friday, January 21, 2011
On the campus of the University of Pennsylvania
Spring 2011 Members’ Meeting
Wednesday and Thursday, April 27-28
Rittenhouse Hotel, Philadelphia
Fall 2011 Members’ Meeting
Wednesday, October 12, 2011
Location to be announced
Posted November 2010