Sunny San Diego was brisk, blowy and had a bit of a chill in the air, similar to the atmosphere inherent in the conversations, demeanor and chatter among nearly 2400 of our closest friends at the ALIS conference.  Having just returned from ALIS 2009, which this year appeared to stand for “All Liquidity Is Lost” – My take is that the industry is not only on its heels, as is the rest of the economy, but bracing for more rough road ahead before it starts to get better.

Opening conversations with historically upbeat industry executives started with a glass half full, “Doing OK, but just trying to keep the lights on”, to those who were already sick of trying to come up with something upbeat or clever, “I just don’t know…this sucks!”.  Our industry is in a place that it hasn’t been in quite some time and to many, it has never been in this specific place before.   To most of us it came without warning or the ability to see it coming.  In short – at ALIS, there was little clarity on when the financial markets will find the magic key that opens the balance sheet doors so that banks and institutions can get in the business of lending again resulting in business and commerce acceleration which will impact the hotel industry by putting more heads in our beds.

Hotel real estate brokers at ALIS commented that ’09 will continue to be a very challenging year from a valuations and financing standpoint however deals will still get done.   They proposed that this is “the best time” to buy as there is little clarity in the markets thus values are at historic lows for those that want or truly need to sell.  Transactions above the $20 million level, the level at which they were relatively easy to finance prior to the fall of ’08,  are difficult due to financing constraints at and above these levels;  however for transactions below the $20 million level, financing through regional banks and in the secondary financial markets can get a transaction of this size done, but at significantly less leverage, full recourse and higher debt service coverage ratios.  Construction financing is reported to be all but non-existent in today’s environment.  A great time to “land bank” and/or pick up broken development deals from those who got caught in bad timing, have run out of patience or money or both.  If you have the ability to hold for the next 12-18 months or build with cash now and open your hotel in what may be the start of the next big run up in demand in 2010-2011 for our industry you may be in for a good ride from an investment perspective – long term.

In the vein of “what’s old is new again” and when people discussed the “what” in the way of solutions for breaking the lending dams loose, there was much discussion of the establishment of a “Good bank/Bad bank” by the government as a highly likely scenario for freeing up the credit markets.  Conceptually, as those of us know who have gone through this with the RTC back in the early 90′s know, a “Bad bank” is a form of financial engineering designed to remove impaired assets from the balance sheets of banks and investment banks. In discussions with friends at ALIS and other good friends at SJC Capital Partners in Stamford, CT, the bad bank scenario as currently contemplated, may potentially be structured as follows:

• The Treasury Department establishes the “Bad bank”, capitalizing it with remaining funds from the TARP.
• The “Bad bank” raises additional funds needed, either by borrowing from the Fed or selling shares to private investors.
• The “Bad bank” uses the funds it raises to buy toxic assets from a given bank(s). It holds the assets to maturity or sells them as the markets revive.  Losses are divided among the “Bad bank’s” investors and taxpayers.
• The Treasury and/or investors commit additional capital to a given bank, compensating it for losses realized from selling toxic assets.

The advantages of this scheme is that a “Bad bank” structure may resurrect trading of mortgage-related securities by establishing valuations for these assets. As the market recovers, or if housing prices begin to rise, the bad bank could break-even or generate a profit.

The disadvantages of this may be if the “Bad bank” overpays, the banks that sell the toxic assets to the “Bad bank” get a windfall at taxpayer’s expense.   If the government underpays for assets, “Good-banks” won’t have an incentive to sell toxic assets to the “Bad bank”.  If “Good banks” are compelled to accept low-ball bids from the “Bad bank”, the selling “Good bank’s” balance sheet could suffer.

Should the U.S. government elect to move forward with the “Good bank-Bad Bank” structure”, in order to properly address the current problem, it is estimated that the U.S. government will need to raise between $1.0 -$2.0 TRILLION to capitalize the “Bad bank”.  Yikes!

Last week with in Davos, Switzerland, George Soros made an interesting observation that was brought to my attention recently.  In Soros’ view, most of the large U.S. banks are “Bad Banks” already with their continually deteriorating balance sheets.  Hence, Soros proposed establishing “Good banks” – that is, establishing new legal entities that buy the good assets from banks and leave the bad assets behind with the TARP funds that have already been disbursed.  Hmmm….don’t think anyone wants to trust the government to oversee that particular scenario.

Our wonderful industry is in for difficult times no matter what happens.  One can only hope that the Fed, our new Treasury Secretary and President Obama work through the issues thoughtfully and with good pace.  A Bad bank scenario is a most likely scenario – if that is what is going to happen, let’s get on with it.  Any signs of a return to a normalcy in business;  the stopping of hemorrhaging of RevPAR declines in our markets or the glimmer of  ability to find available and reasonable debt to begin the wheels of acquisitions and development started again; will be a day we can all hope for and certainly none too soon.