As the below graph illustrates, hotels are among the most active industries accessing capital through the SBA 7(a) a loan program. That’s because borrowers can use the proceeds for acquisition, debt refinance and/or property improvements often required by franchisors. Not only that, but 7(a) loans can mitigate industry volatility during potentially slow seasons and/or economic downturns with a vital credit enhancement via a 75% guarantee from the SBA.
“[This] type of loan . . . is much better suited to this type of acquisition than a conventional bank loan,” Jeff Ippoliti, who recently acquired the upscale 185-year-old Chatham Inn in Chatham, Mass. with a 25-year 7(a) loan, told CFO. “Not only does the lengthy term make payments easier when a new business owner is starting out, but also the SBA allows prepayment without penalty” after three years, “enabling the loan to be paid off more quickly as the business develops.”
The potential benefits to providing SBA 7(a) loans to hotels are significant, but there are three critical factors that lenders should consider before engaging with borrowers in this sector:
- SBA guidelines on franchise agreements
- The use of Star Reports to provide industry data for underwriting
- The use of loan proceeds and proper documentation post-closing
Lenders not familiar with the hotel industry may overlook the SBA guidance on franchise agreements. After determining the eligibility of the borrower, guarantor, use of proceeds and structure of the loan, lenders must stay current and up-to-date with the changing franchise guidelines published by the SBA. For instance, effective Jan. 1, 2017, the SBA issued a new SOP 50 10 5 (i) which significantly modified the franchise guidelines that will have a direct impact on the process and eligibility of hotels operating under a franchise agreement.
When underwriting a hotel loan a lender must look further than the financials provided by the borrower. STAR Reports offer industry specific data to help evaluate property performance against peers. Key STR Report metrics include Average Daily Rate (ADR), Occupancy Rate, and Revenue per Available Room (RevPAR). These reports also provide metrics for similar hotels in the area with yearly trends. Each of these measurements provides insight into the hotel’s historical performance which may be an indicator of future success or failure. When underwriting a hotel always ask for the borrower’s or seller’s most recent STAR report.
That’s not all. When preparing the sources and uses of a specific request, the lender should understand the borrower’s Property Improvement Plan (PIP). A location’s PIP may seem inconsequential because it could only be normal-course repairs or a franchise- required refresh of the interior or exterior, but it is important to be familiar with these plans beforehand because associated costs are often significant. Lenders may provide loan proceeds for PIP in hotel acquisition loans and still maintain a 25- year term. This can provide a clear benefit to the borrower who otherwise may be looking at funding the costs out of cash or using a high interest loan that could hurt operations. Lenders must understand the SBA’s requirements for any renovations. Not only are lenders required to track all disbursements and confirm lien positions, but they may be required to apply the SBA’s construction monitoring rules for bigger renovation projects, as well.
By utilizing the SBA 7(a) program, lenders can provide innovative solutions to businesses in the hotel sector. It is critical however that the lender consider SBA guidelines and proper underwriting to ensure a successful loan with a valid guarantee. Working with a third-party expert can ease the burden of compliance with government regulations all the while allowing lenders to focus on helping the hotel sector to continue to thrive.
About Windsor Advantage, LLC
Windsor Advantage is a lender service provider that provides a comprehensive outsourced SBA and USDA loan department to lenders nationwide. Services are provided on a variable cost basis with no minimum volume requirement. Windsor also provides continuing training and technical assistance to lenders at no cost. Since 2010, Windsor has processed more than $1.5 billion in government guaranteed loans and currently services a portfolio in excess of $1.2 billion in loans for more than 70 banks across the US. Windsor Advantage is based in Chicago, IL, with offices in Indianapolis, IN, Los Angeles, CA, and Charleston, SC. For more information visit WindsorAdvantage.com.
About the Author: Jeff manages Windsor’s overall risk management process, with a focus on documentation and compliance. Prior to joining Windsor, Jeff was an associate at Charles River Associates where he gained extensive experience in business valuation and complex litigation.