Sector Spotlight: Hospitality’s Rough Road Ahead

Written by Robert Habeeb
on January 07, 2010 No Comments
Categories : From The Orb

The leading hospitality researchers have enjoyed a long history of accurately predicting hotel performance. Comprehensive statistics gathered by Smith Travel Research show that the trends in the industry over the past several decades were unmistakable.

With consistent ebbs and flows, the hotel industry typically followed a distinct pattern. As occupancies and rates grew, hotel developers taunted the laws of supply and demand as they raced to cash in by adding supply.

Therefore, the industry was vulnerable to a weakening economy, as well as other factors, such as rising fuel prices or, more recently, a fear of ongoing terrorist threats. As demand weakened, new hotel development slowed and forced obsolete hotels into alternative uses.

As demand rebounded, the cycle predictably started again. This market cycle all changed, however, when the bottom dropped out in late 2008.

The current recessionary cycle is anything but typical. Forecasts for the hotel industry over the last two years share one common denominator: They were all wrong. Even short-term forecasts have proved unreliable as the hotel sector wades through a deep fog, enveloping and frustrating hoteliers and research mavens alike.

The story of the great recession in the hotel sector actually began over two years ago, in 2007, when the industry was riding high with the strongest revenues in decades. A development frenzy added supply in every segment and market. As rates skyrocketed, hoteliers were joyful, but then, the first subtle domino fell.

First, a spike in oil prices forced airlines to rethink their traditional strategies, causing them to shrink capacity and sell fuel-guzzling aircrafts in favor of smaller regional jets. This change streamlined operating costs and inflated fares.

As a result, fewer travelers took to the skies, which quickly began to erode performance in airport markets. The hotel industry as a whole followed suit.

Then, the second domino – a slowing of the world economy – fell. With oil prices dropping, even the thriving Middle East tightened its belt. Still, the traditionally lagging hospitality sector chugged along until the big crash in October 2008, when many hotel companies recorded the biggest single-month drop in revenue per available room (RevPAR) in hotel history.

This, the third domino, seemed to trigger an avalanche, as the financial crisis devastated the global economy. Dominoes began to fall at a furious pace. Corporate travel slowed, and a government that was growing increasingly wary of corporate excess began to decry corporate meetings and luxury hotel stays.

It was as if the entire industry had ground to a screeching halt. The luxury and resort segments, in particular, fell off the charts in the first part of 2009. The industry enjoyed a brief relief as leisure travel ticked up over the summer months, but deeply discounted rates seemed impervious to improved demand.

The question on everyone's mind was, ‘When will we hit bottom?’ That question haunts the industry to this day.

The current state of the industry is frightening. Hotel occupancies are at lows not seen since the Great Depression. In fact, 2009 will record occupancy rates at just 55%, just above the 50% recorded during the Great Depression. This has become the longest, deepest drop in hotel performance in a generation.

As flickers of hope still seem months away, the hotel sector finds itself in a serious liquidity crisis. The industry is overleveraged and still absorbing supply increases initiated during the boom.

With compound RevPAR declines of 25%, it has become a game of survival, and those in the best position to survive might be the traditional hotel groups that resisted the temptation to overindulge during the boom. Flashy, high-rolling hotel developers have taken a backseat to conservative hoteliers that ran lean organizations and maintained clean balance sheets and good equity.

So, what happens next? To answer that question succinctly would ignore the plain fact that the brightest and the best cannot get it right. At the same time, everyone knows that the climb out will be long and slow.

We also know that hotel supply will not be growing any time soon, and the state of the general commercial real estate market is preventing the conversion of existing product to any alternative use at this time, keeping supply out of sync with demand.

Still, with supply growth at least flat, any signs of a thaw in corporate travel and a return of consumer confidence would be positive developments. An easing of tight credit restrictions might offer some welcome breathing room and stimulate the sale and repositioning of distressed assets.

Although the ‘clearance sale’ economy is keeping rates low, the hotel industry is a staple of American life. The survivors will see a return to normalcy and be in a better position than ever to prosper.

The best estimate for an industry recovery is for slow improvements after the harsh winter gives way to sunshine and leisure travel resumes. A recent poll by TripAdvisor noted that 91% of Americans intended to travel for leisure in 2010.

This statistic is good news for hoteliers, but of course, the same poll last year indicated that 89% of those polled intended to travel for leisure. It looks like a rough road for the hotel industry and for those trying to predict its future.

In an industry that typically has predictable ebbs and flows, the current market throws all rules out the window. The best we can do is be prepared for the long haul, make conservative decisions based on what we know today and prepare for the next cycle.Â

Robert Habeeb is president and chief operating officer of Rosemont, Ill.-based First Hospitality Group. He can be reached at rhabeeb@fhginc.com or (847) 299-9040.

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