It has been widely reported that a big real estate investment firm has walked away from two hotels in San Francisco. One hotel, the Hilton, was the largest in the city, with almost 2000 rooms. The other hotel, Parc 55, is home to over 1000 rooms. This represents just under 10% of available hotel accommodations in the Bay City.
The company, Park Hotels & Resorts, effectively turned the keys over to the bank as the value of the property tanked along with revenue. This fact, along with high-interest rates that will make it more painful to refinance the property, turned a once profitable venture into a financial disaster. According to reports, the company will default on a $725 million loan.
Park Hotels is not alone in its struggles. Offices in SF are said to have around a 30% vacancy rate as businesses have fled the city due to many obvious reasons, such as drugs, crime, filth, high taxes, high cost of living, and superior alternatives. Add all this to the WFH or remote work movement, and commercial real estate looks pretty grim.
Park Hotels commented on its decision:
“This past week, we made the very difficult, but necessary decision to stop debt service payments on our San Francisco CMBS loan. Now, more than ever, we believe San Francisco’s path to recovery remains clouded and elongated by major challenges—both old and new.”
Yesterday, an article in the San Francisco Chronicle predicted that over 30 hotel owners might face similar decisions as loans come due, and a decision must be made whether or not to refinance at a higher rate while generating a lower return for a property that has been slashed in value.
So is SF an isolated situation where bad governance and poor policy are largely to blame? Or is this a systemic issue that is just gaining momentum – poised to be the next big crisis?
This past April, Patrick Carroll, a big real estate investor, went on CNBC predicting the looming commercial real estate crash will be at least as BAD as the 2008 financial collapse. Carroll reports around $8 billion in assets under management, including 33,000 multi-family units across the country.
“They haven’t bottomed out yet,” said Carrol, noting there is $1.5 trillion of real estate debt maturing by 2025. He said that sellers have not yet felt enough pain and don’t realize how much value they have lost. At the same time, there is no lending going on as credit providers don’t know where interest rates are going, and valuations are sinking. “It’s going to be ugly,” said Carroll, adding that offices are receiving a “double whammy” because of WFH – “it’s a disaster.”
Carrol predicts that office buildings and hotels are going to be destroyed. He also believes that some people will start walking away from their houses.
When looking at Miami, the new epicenter for financial services and tech – a city that has experienced a massive influx of people fleeing places like San Francisco, Chicago, and New York City – a recent report claims that commercial real estate is “fizzling.”
The RealDeal shares:
“In the first three months of this year, total sales volume hit $194 million, a whopping 80 percent drop compared to the same period of last year, when deal flow hit $977 million, according to Dwntwn Realty Advisors, led by Tony Arellano and Devlin Marinoff. The report focused on all of Miami Beach and the Miami neighborhoods of Brickell, downtown, Overtown, the Arts & Entertainment District, Edgewater, Wynwood, Midtown Miami, Design District, Little Haiti, Little River and the Upper Eastside. And it covered commercial land, office, multifamily, industrial and retail deals. “
The report also comments on the credit crunch, as lenders are not providing mortgages due to rising rates. The office sector dropped by a whopping 97% versus the same period year prior. Yet while commercial is struggling, residential and multi-family are doing better.
Carrol says, “Multi-family will be fine,” adding that the mantra is “stay alive until ’25.”
The aforementioned report on Miami shows a decline in multi-family but far less dramatic than office buildings which have been in boom mode until just recently.
A conversation with one real estate investment platform that is big in the residential sector described the market as targeted. People have moved away from many metros, but demand is high in the suburbs and certain markets like the Sunbelt. While defaults may be up, recoveries and returns are high. This person predicted that investors on their platform are going to make a lot of money in the coming year.
So there is a lot of risk in the market today, but once interest rates hold and, perhaps, reverse, this may signal a return to a new normal and a time to invest. The situation in San Francisco may be an outlier – and not the rule. Poor governance combined with a difficult market is devastating. But good governance mitigates some of the challenges and, in certain markets, is still attracting money and investment – just at a slower pace, at least for a while.