Corporates, or strategic buyers, may participate in more merger and acquisition (M&A) transactions in the U.S. lodging industry if the capital conundrum for private equity (PE) firms persists, according to Fitch Ratings.

Lower investor demand for high yield bonds and loans caused by recent capital markets volatility, if continued, would increase the cost of debt capital for PE firms, making it more challenging for them to deploy their significant uncalled investment capital, or dry powder.

Total PE dry powder was $1.34 trillion as of October 2015, up 12.9% from year-end 2014, according to Preqin. Uncalled capital for real estate (RE) funds totaled of $255.4 billion in October 2015, up 30.1% from the end of last year.

Two recent deals — one corporate and the other financial sponsored — highlight some of the dynamics at work and may foreshadow how future consolidation will unfold in the lodging industry. These include Marriott International, Inc.’s (Marriott) $12.2 billion acquisition of Starwood Hotels & Resorts Worldwide, Inc. (strategic buyer) and The Blackstone Group LP’s (Blackstone)’s $3.9 billion purchase of Strategic Hotels & Resorts, Inc. (financial buyer).

Fitch expects further hospitality and travel industry consolidation in light of the evolving competitive landscape that includes distribution channel consolidation (i.e. Expedia Inc.’s acquisition of Orbitz Worldwide, Inc. and HomeAway, Inc.) and rapid growth in alternative lodging accommodations, primarily Airbnb and other short-term rental websites. Therefore, M&A event risk remains elevated for lodging C-Corps, with corporate combinations more likely than financial sponsor LBOs.

For C-Corps, consolidation can strengthen competitive positions by reducing cost structures and/or accelerating top-line growth. Fitch believes the recent acquisitions by Marriott and Expedia Inc. discussed above have elements of both.

However, execution risk remains and any missteps can makes it difficult for companies that lever-up to de-lever within a reasonable time frame. Companies may permanently alter their financial policies as a result and/or abandon their commitment to current credit ratings.

Fitch expects PE firms to primarily target asset owners (i.e. REITs) to the extent the play a role in future lodging industry consolidation due to better access to low cost debt. Discounted market valuations relative to net asset value and generally available, low cost property-level debt make REIT privatizations an attractive, feasible investment avenue for PE firms. Alternatively, corporate combinations within the hotel REIT sector have historically been less common, primarily due to narrow relative valuation multiple spreads for the companies in the sector as well as social issues.

Many buyout shops have bolstered their commercial real estate platforms in recent years, raising record amounts of capital that they are now putting to work, including through REIT privatizations. According to Preqin, fund-raising for private PE, a subsegment of total PE activity, amounted to $86.9 billion in the first nine months of 2015, compared with $76.0 billion for the first three quarters of 2014.

The Blackstone Group LP’s (Blackstone) $3.9 billion purchase of Strategic Hotels & Resorts, Inc. (Strategic) is a good recent example. Blackstone-affiliated funds have struck deals to acquire two other public, non-hotel REITs this year for a combined value of $6.8 billion in addition to its $3.9 billion acquisition of Strategic. Lone Star Funds completed its $7.6 billion acquisition of Home Properties, Inc. Also in October, Starwood Capital Group agreed to buy Landmark Apartment Trust, Inc. in a joint venture with Milestone Apartments Real Estate Investment Trust.

Unlike many lodging C-Corp bonds, REIT bond indentures typically include key structural protections that limit M&A event risk for investors. The strict financial covenants in most REIT bond indentures generally impede PE firms from achieving their targeted returns by levering up with secured property-level debt and reducing overhead costs. Therefore, PE firms often have little choice other than to negotiate with bondholders to tender for the bonds at premiums and eliminate reporting requirements via consents. Although few REIT bonds provide for change of control, most contain language generally prohibiting prepayment without yield maintenance to insure predictable yields for investors.