In the past much of the focus in the motel industry when referring to ownership tenure has revolved around leasehold and freehold passive investment (with a lease in place).
This has dominated the ownership discussion because it has been the way the industry has evolved. A market for each developed and the industry was largely diverted in these directions. The poor old freehold going concern operation has been left in the shadows and has been a quiet achiever during much of the last 15 years or more.
As a result of the popularity and growth of the leasehold tenure, freehold operations are a rare commodity today and thereby making them a more valuable asset. A diminished availability and lower level of supply means that inevitably pressure will be placed on values to go up. That would require downward pressure on capitalisation rates which over recent years has been steady with a slight increase over the past 18 months due to unusual market forces. Yields for coastal freehold going concerns have been anywhere between 13 per cent – 16 per cent depending on location, clientele, presentation, etc. Inland going concern capitalisation rates have been slightly higher depending on the same factors.
The only ways to increase supply would be to (1) build more motels and operate them as freehold going concerns rather than selling the lease off-the-plan or (2) by having both leasehold owner and freehold passive investor agree to sell at the same time or within a reasonable time frame to satisfy potential buyer’s timing requirements. Both are not easy to do overnight, therefore would take considerable time and not be able to increase the supply level in any hurry. There has been some limited evidence recently where buyers have been able to purchase both the lease and passive investment at the same time. These have been few and far between however.
Opportunity does exist now though, in many cases, particularly where properties have been run down over time by both parties being reluctant to maintain their assets and not spending on refurbishment, as a result damaging the value of their interests. Buyers have then been able to take advantage and ultimately buy a lower priced freehold going concern that has upside potential to be renovated.
Many leasehold motel investors have taken the leasehold route because of the high yields available and the ability for a smaller sized property to be able to absorb the costs of management, whilst still offering a solid yield and high income to the business owner. The capital cost of purchasing the land and buildings has not been of interest to this market. The benefits of owning a freehold property outright still exist. The pride of ownership in the property, the ability to do whatever one likes with the land and buildings without question or requiring anyone else’s permission, the ability to expand the size of the complex, the taxation benefits available and the ultimate right to lease the business at any time in the future. Just to name a few.
The number of freehold owned and operated motels may be much fewer now than 15 or even 10 years ago due to leasing or changes in demand as a result, however the merits of this ownership tenure whether operated oneself or under management have not diminished. There does come a time in any industry when it is time for a change in lifestyle or a search for new challenges and once the freehold going concern operator has had enough of the day to day operation (yet is not ready to sell the property), the opportunity to lease the business at any stage will still exist, if operating under management does not check all the boxes.