In the first in a series of articles on "trophy assets", international law firm Taylor Wessing examines luxury hotels as an investment segment.

The world of “passion investing” continues to generate a great deal of interest, not least because of the record-breaking prices fetched for items such as fine art – consider the recent Picasso sale that fetched more than $179 million in New York this week. Right across the spectrum, this area of “alternatives” or “collectibles” is causing a stir. Needless to say, there are pitfalls for the unwary. Taylor Wessing, the international law firm, has recently launched a Guide to Trophy Assets, covering areas as varied as classic cars, fine art, jewellery and luxury properties. This publication will run a series of guest articles on these themes from Taylor Wessing in the coming days and weeks. This publication welcomes this detailed contribution to debate about an important subject and invites readers to respond. They can contact the editor at tom.burroughes@wealthbriefing.com

This article, on the hotels sector, is by Richard Bursby and Edward Story of the hotels group at the law firm.

It is fair to say that the way in which hotels are viewed by high net worth investors has changed considerably in recent times.

In the past, the stereotypical HNW investor would acquire a luxury hotel in one of the key cities, such as Paris, London or New York, as part of their worldwide portfolio of luxury assets along with the multiple mansions, boats, works of art, car collection and private jets. The acquisition was not driven by a return on investment, but more by a desire to own, and the cachet of having a five star hotel. The drive to benefit from the "halo" of a luxury hotel was particularly true if the hotel was operated by one of the luxury brands such as Four Seasons or an iconic landmark hotel such as the Ritz in Paris. Usually the purchase would be of an existing asset, spontaneous, for cash, ad hoc and not part of any defined strategy.

So, how have things changed? Whilst there is always an exception to the rule, today's HNW investor:

-- Still enjoys the peer-prestige of hotel ownership and will continue to physically experience his/ her asset(s), although this is less of a priority than previously;

-- Understands that hotels are a recognised asset within the wider commercial property asset class. Hotels are part of any balanced portfolio and hold their own, if not outperform, office investments, retail parks, logistic centres and other commercial property;

-- Appreciates that hotels are a hedged investment – they are both a capital play through the ownership of the actual bricks and mortar, but also an operational play as the trading performance of the hotel can significantly impact the value of the hotel. Active involvement by the owner of the hotel can have a significant impact on the value of the asset;

-- Comes from a wide geographical base. We have acted for individuals and families from around the world, whether through their London or Swiss-based family office or offshore trustees. We have seen that Qatari and Asian based investors have been particularly active purchasers of hotels over the past couple of years. More recently, Chinese outbound hotel investments have increased significantly, driven by increasing wealth, recently relaxed regulatory restrictions and slowing domestic opportunities. Total Chinese hotel investment is expected to reach $5bn in 2015 (source JLL 2015 Hotel Investment Outlook);

-- Is willing to look at investing outside of luxury hotels. In recent times, the best performing hotels have been those in the budget and limited service sector where operational costs are low, due to lower staffing and the need to provide fewer services such as gyms and concierge services and all day dining. The rooms are smaller and so enable a greater density of bedrooms;

-- Is willing to play the role of the developer as well as the ultimate purchaser. Confidentiality is still paramount to HNWs, so examples in the public domain are limited, but include IKEA (owned by Ingvar Kamprad), which is investing in developing a new mid-market / budget brand called "Moxy". It is purchasing the sites and building the hotels, which are then leased to a third party which operates the hotel under the Moxy brand, and;

-- Will consider investing in hotels outside the traditional gateway cities of London, New York and Paris to secondary regional locations.

However, one thing still holds true. HNW buyers of hotels are not active sellers. They are generational purchasers acquiring the assets as a long-term hold for future generations. This has led to a shortage of supply of hotels for purchase in a number of destinations and in turn possibly helped to promote the development of even more luxury hotels.

The supply of new luxury hotels in Central London, such as the Shangri-La, W Leicester Square, Café Royal, Corinthia and Mondrian, shows no signs of slowing with several new projects mooted to be underway.

So, what are some of the key issues that a HNW investor and their advisors need to consider before buying a hotel? These should include:

Landlord or business owner?

It is important to question whether the HNW investor wants to act as just a landlord of the hotel property or to oversee/operate the hotel business itself. If you choose the latter option, this in itself opens up a series of other questions.

Branded or unbranded?

It is important to decide whether the hotel should be "branded" – under one of the well-known international brands such as Four Seasons or InterContinental, or whether the hotel has other attractions so that it does not need a brand (ie. Claridges in London which is now a brand in its own right).

It is important to consider this question at an early stage, so if the hotel is to be branded, you can contact the brand-owner to ascertain what their requirements would be if you were to be licensed for use of such brand. Choosing the right brand is vital in ensuring the hotel is a success.

Franchise agreement or management agreement
Quite apart from selecting the right brand (if applicable), you will need to consider whether the HNW investor will operate the hotel themselves or get a "white label" operator to run it for them under a management agreement. It is also imperative that the right general manager is selected. This is key to the successful running of a hotel.

Who is going to look after the owner's interests?
This is an area which is often overlooked. Many ill-advised buyers consider that they do not need to be closely involved in the hotel after they have appointed someone to run it for them.

We always advise buyers to appoint an "owner's representative" and an asset manager who will look after their interests – the brand will report to the owner's representative, who is often a close confidante of the owner; the asset manager will be an expert in the management of hotels and so can provide objective professional advice on the performance of the hotel using a brand.