Ground Rents to Support Operators Through The Hard Times Ahead?

Main Photo: The Grange Hotel St Pauls, one of the deals in 2019 that was influenced by the use of ground rents as part of the deal

Date: August 2020

Location: UK…elsewhere?

Who: Patrick Grant, partner, Alpha Real Capital talks to Hospitality Insights about relationships with tenants, how ground rents can be used to support operators through the hard months ahead after reopening, removing material uncertainty clauses and why he is no longer an ESG (Environmental, Social and Governance) sceptic.

What Did He Say: “Pre-Covid we were continuing to invest in the UK hospitality sector primarily through ground rents and traditional long lease as well as getting close to a point, with different capital , where we were looking at investing directly into operational hotels, subject to franchise agreements and white label management agreements.

This, unsurprisingly, has taken a back seat – mid pandemic is not the time to buy your first operational hotel – but we do think there will be opportunities to revisit this in the next 12-18 months. We have also launched our European long income fund and hospitality is going to be a big part of what we will be investing in within Euro denominated countries.

The biggest issue for putting new capital into the market for us, and many others at the moment, is the material uncertainty clause in currently found in most valuations. We understand why valuers need to put it in, but it is designed for a short term usage and we think something that should be removed, certainly from ground rents, now the market is opening up again. Hopefully we’ll start to see this clause coming out so we can start providing liquidity into the market.”

Grant explained that when Covid hit, his priority, as with any institutional landlord, was to maintain positive relationships with existing tenants and working out how the partnerships were going to work moving forwards.

“Our main focus recently has been to understand how our main fund, the ground rent fund, can be helpful in the world moving forwards. We see a significant issue in hospitality being where hotels are re-opening, running at very low occupancy and staff coming off furlough and the various support schemes.

Opening is going to be harder than staying closed for many. Many hotel owners’ need is to reduce bank debt and find working capital to get themselves through the next 12-18 months. We think ground rents are one way of helping them through this period and a way to get much needed equity into these businesses. As a result, we are developing a product, ‘Ground Rent: Recapitalisation for Recovery’.

Using ground rents specifically to de-leverage bank debt and add working capital into the business for the next 18 months at a low cost of capital, is one of the most sustainable ways to deliver equity to owners and get them through what will be the toughest period – reopening and getting them back to stabilising in 2021 or 2022.

We see this as a very safe form of capital for businesses and have had some very positive responses from initial conversations with both banks and operators. We’re looking at raising additional capital to launch this product and inject some much needed capital back into the market.”

On investment across different asset classes within the sector, Grant said they were heavily invested in holiday parks because their adaptive business model means that dependent on the economic cycle, you can run it in two different ways. “When the economy is bullish, holiday parks are run on a sales model where individual caravans are bought by people to use as holiday homes and occasionally put back into the rental pool.

If the economy slows, they can be bought back off individuals and then run as a rental model. It’s this adaptability through economic cycles, plus a massive base of pitch fees from owners that increase year on year with inflation, that combine to create a remarkably robust business which has been operating for 100 years already with very little change to the model we see today.” Recent acquisition activity including KKR’s purchase of Roompot would certainly suggest holiday parks are high on investors’ shopping lists.

Discussing sustainability and ESG and where they fit in the investment process, Grant said: “For institutional investors, sustainability and ESG has changed more in the last 18 months than in the last 10 years. ESG is an absolutely integral part of our investment process. Common sense during a crisis needs to take precedence and he can see where things like a limited return to single use plastic as a safety measure in the short term will have to happen. In the last few years we have walked away from several deals where we’re not happy with the ESG issues. It is one of our absolute priorities.”

In light of recent high profile cases, such as Travelodge where tenants are defaulting on rent payments, we asked Grant whether landlords are being left behind. “I think you need to view each situation on a case by case basis. There are certainly individual examples of both landlords behaving badly and tenants taking advantage of the situation. I don’t think there is a one size fits all answer.”

Concluding, Grant said; “Everything we do is about creating long term and sustainable cash flows for retired people in their pension funds. We work with our tenants to ensure their business is maximised as the more profit they make, the more secure our cash flow is for our pension fund investors. Everything we do is about being aligned with the operator because what is good for them is great for us.”

Patrick will be speaking at The Annual Hotel Conference taking place later this year and contributing to the panel discussion ‘Funding options for owners and operators’.

THPT Comment: OK some sense here as to what the Ground Rents fuss has all been about…Thanks Patrick and look forward to more at this year’s AHC, not so much in Manchester, but a virtual event/studio! on October 8th, 2020

First Seen: Hospitality Insights

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