The devastation wrought by the coronavirus on the European hotel sector is expected to see many hoteliers, particularly in Mediterranean markets such as Italy and Spain, go out of business. But for some investors, failure spells opportunity.

"All the big private equity firms are smiling right now because they'll be back in the market in a few months," Fabbio Braidotti, hospitality real estate adviser for Italy at EY, said in an interview.

Private equity interest in Southern European hotel markets has grown steadily in the last decade. Deal volume fell to zero in 2012, but hotel property acquisitions in Italy, Spain, Portugal and Greece by private equity firms peaked in 2017, when 24 deals worth an aggregate $7.82 billion were struck, according to Preqin data.

Italy and Spain are particularly attractive to hotel investors. Italy was the fifth most popular tourist destination in the world in 2018 with 62 million visitors, according to the 2019 United Nations World Tourism Organization report. Spain was second with 83 million visitors.

Strong tourist numbers helped establish both countries as two of the largest hotel markets in Europe. Italy had the most hotel rooms in Europe in 2018, with more than 1 million in almost 33,000 hotels, according to the Horwath HTL European Chains and Hotels Report 2019. Spain had the fourth-largest number of hotel rooms at almost 700,000 in more than 7,400 hotels, the report said.

Such scale is crucial for larger private equity investors, said Matthew Pohlman, a partner in global law firm Goodwin's real estate group, and a member of its hospitality and leisure practice. "The big PE players want scale, and they want to see an investment hypothesis where you bring together multiple assets over a period of time to build a bit of a platform that eventually gives them an exit that moves the needle from a return standpoint. And that audience is absolutely focused on Spain and Italy."

The impact of the COVID-19 pandemic on both countries has presented a rare opportunity for these investors. Italy and Spain bore the early brunt of the pandemic's march across Europe, forcing both countries into strict lockdowns that struck a severe blow to their hospitality sectors.

They have since opened their borders to foreign travelers from select countries, but hotel occupancy remains low. It stood at about 23% in open Italian hotels in the week ending June 28, according to data presented by travel intelligence specialist STR during a July 2 webinar, while occupancy in open Spanish hotels was at about 33%.

Difficult operating conditions will inevitably lead to distressed assets coming onto the market, Juan Garnica, executive director, head of hotels at Spanish real estate services firm Savills Aguirre Newman, said in an email. "The situation will provide a unique opening to capitalize on opportunities in the resilient hotel markets of Southern Europe, mainly based on value discounts for those value-add investors in private equity building up platforms in the leisure sector."

Still, investors will have to be patient before they can exploit the market, said Braidotti. Government measures to stem the impact of the coronavirus lockdowns are keeping many hoteliers afloat. Italy's government has committed until August to pay 80% of the total wages of workers furloughed as a result of the crisis, while in Spain, 70% of furloughed workers' wages will be paid until they return to work. Both governments have also provided assistance to businesses in the form of guaranteed loans.

"It's too early; everything is on hold," said Braidotti. "Businesses cannot even lay off staff today even if they wanted to. So there is no market at the moment."

Braidotti expects the debt market to be much more active than the equity market. The number of nonperforming hotel loans held by banks is likely to surge in the coming months, while hotel owners who are not forced to sell are likely to hold out until operating conditions improve, he said.

There are a select few Italian hotel markets in which private equity firms are likely to take an interest, Braidotti added. These include the country's major cities and tourist destinations such as Rome, Milan and Venice, and certain leisure resort destinations like the Amalfi Coast, Ligurian Coast and Tuscan Coast.

Seasonal hotels, where income streams are less consistent, are largely unattractive to institutional investors, said Braidotti. "In these times, more than ever, institutional investors tend to fly to quality and focus only on certain cities and leisure resort destinations, and that's it," he added. "Everything that's out of those areas, it's non-existent for international investors or for Italian institutional investors."