Scientific Capital Arranges Financing of the Virginia Comfort Inn Acquisition

October 7, 2009

Scientific Capital arranges a 3 MM SBA 504 loan for the acquisition of the Comfort Inn in Virginia. The project was financed as 80% Loan to Cost (LTC) with the first position financing through an FDIC lender and the 2nd position loan through the SBA. Previously the 504 loans could be used for hotel acquisition at 85% Loan to Value but starting this year, the 85% financing can only be applied to business expansion in which the ownership structure of the expanding business remains unchanged.

Keeping in mind that in 504 loans the first position loan is a conventional one financed by a lender, SBA 504 loans have recently become nearly extinct specially for the hospitality transactions due to factors such as:

• Secondary markets not active: In the past few years the lenders acted more like brokers by selling their loans to the wholesalers or to the Wall Street investment banks. Both of these sources have dried up for 504 first position loans which means the banks now have to use their own funds to make a 504 loan. It is now clear that it was the advent of the secondary market that brought about all the credit availability in the past few years.

• Lenders low on liquidity: With the government continuously auditing and stress testing the banks probably requiring them to raise more capital and to reduce the loan to capital ratio, the banks have neither the sufficient liquidity to offer credit nor the agenda or the will to do so. Most of the banks are just preoccupied managing their portfolio.

• Recession not bottoming: The media and the government both are claiming the bottoming of the real estate market and the turn around of the economy. However, with significant jobs continuously lost every month and considerable number of production jobs exported overseas the business and the tourism travel may continue to face tough times. Bank executives well aware of this trend are either avoiding or are extremely selective on any new hospitality originations.

• False propaganda: Large trophy hotels who have been foreclosed or are headed that way are taking a lot of media attention. It is unfortunate that the fate of these few hotels are reflecting on the industry as a whole while the attention should be on a flawed business model that led to their failure. Many hotels run by hard working operators are going through tough times but are still making it. The bank executives often hear about these troubled luxury hotels and reflect it upon the industry as a whole and on their credit decisions.

There is however light at the end of the tunnel for the mid-range hotel owner/operators. As the secondary markets froze early this year, the SBA incorporated a securitization of the first trust deeds of the 504 loans into the American Reinvestment and Recovery Act of 2009 but this program has not yet been implemented. With securitization of the first position loans, the banks can sell the guaranteed portion of the loan in the Wall Street as they are now selling the SBA 7a and the USDA loans. If implemented correctly, this program will open the credit market significantly for many qualified hotel owners/buyers. Scientific Capital will announce the implementation of the securitization program as soon as it is announced by the SBA.

Read more about SBA 504 program