The value of extended stay

While many high-quality extended-stay products exist in the lodging market today, it is the Residence Inn by Marriott franchise whose growth has driven the extended-stay segment, whose size dominates the supply in this segment, and whose sales set the market value for this product type.

Residence Inn was introduced in 1975, and Marriott Corp. acquired all of the assets in 1987. As of 1995, there were over 200 Residence Inn hotels in 45 states. According to Marriott Corp., the total Residence Inn system achieved an average occupancy of roughly 86% in 1995 at an average daily room rate of approximately $83 and a RevPAR of $71.50. As compared to industry average, these figures indicate penetration levels of 129%, 123% and 160% for occupancy, average rate and RevPAR, respectively.

Facilitated by the success of Residence Inn, growth and development of several competitive lodging chains have also flourished. Currently, first-class, extended-stay-oriented lodging chains include Homewood Suites (27 hotels, 3,000 suites), Summerfield Suites (20 hotels, 2,000 rooms), Hawthorn Suites (15 hotels, 1,900 suites) and Woodfin Suites (six hotels, 700 suites). A plethora of new economy extended-stay brands has recently been announced. While the untapped potential of the price-sensitive extended-stay market is quite large, development of these brands will likely compete for the lower-rate portion of the extended-stay market.

Because of the relatively recent discovery of the extended-stay market, its actual size and depth are difficult to quantify. Hoteliers historically have not segmented their markets by length of stay, and exact statistics from individual hotels are not generally available. Moreover, a significant amount of extended-stay demand is currently being accommodated in non-hostelry facilities, such as short-term rental apartments and housing owned by local companies.

As much as one-third of the current U.S. room night demand is comprised of individuals occupying a particular room for a period greater than five nights. This potential, measured against the fact that less than 5% of the guest units available in the United States are contained within all-suite properties, bodes extremely well for the extended-stay-oriented hotels.

The average sale price in HVS's annual survey of transactions $10 million and over - which are comprised primarily of large full-service, convention hotels - ranged from $74,000 per room in 1993 to $83,000 per room in 1995. While most of those sales were for products that cost far more than $83,000 per room to build, the average Residence Inn costs roughly $75,000 per room to construct although the cost could be as high as $95,000 per room. The average sale price of these Residence Inn properties is $9.5 million.

Residence Inn hotels and, ostensibly, extended-stay hotels in general, are trading at prices that often exceed replacement cost. Typically, a replacement cost that is well below the market value of a given property type indicates that potential future development is likely and, based on the number of proposed extended-stay hotel projects, this appears to be the case.

One rationale for this difference between replacement cost and market value is that there currently exist many more buyers, particularly on an institutional level, than there are hotel developers.

The current strong operating performance of many of these hotels and the resulting income that is generated drives much of the value of these investments. New development of a comparable property forces a lag time into the potential cashflow, not only for the time to permit, finance and construct, but for a one- to three-year operational build-up period that often is necessary for a new hotel to fully capture its market share.

With all of the new development proposed for the extended-stay segment, will income at the existing properties decline and negatively impact value? Similar concerns were expressed in the late '80s, when Residence Inn hotels were generating strong cashflows and new concepts and properties were being proposed. Five to seven years later, many of these existing properties are generating greater cashflows at higher occupancies and rates, despite moderate expansion of these chains, which would indicate greater market depth than envisioned. Furthermore, much of the proposed development is comprised of newer economy brands which are virtually in their infancy.

While the demand for such facilities appears to be abundant, the challenge for these chains will be to construct extended-stay facilities at a cost that is low enough to justify development at average rates in the $40 to $60 per night range. Until those dynamics are proven in the marketplace, all of the new brands being discussed may in fact never come to fruition to any significant degree.

Gregory Hartmann is managing director of HVS International in Bouller, Colo.

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