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As the Economy Resets, Hoteliers Rethink Their Strategies

The sagging U.S. economy builds a strong case for low inflation in the near term, but the federal government’s recent passage of a $787 billion stimulus package followed by a $410 billion omnibus spending bill argues for higher inflation in the long run. Against that backdrop, what is the optimal strategy for hotel owners, developers and investors?

A panel of veteran hospitality experts grappled with that salient question Monday morning during the 21st annual Hunter Hotel Investment Conference at the Marriott Marquis in downtown Atlanta. The event attracted hundreds of industry professionals throughout the Southeast amid a sharp drop in hotel demand as the recession tightens its grip nationally.

“I believe that high inflation — something above the long-term average — is inevitable given how the money supply has grown and will continue to grow,” remarked Mark Woodworth, president of Atlanta-based PKF Hospitality Research, during the panel discussion. The long-run historical average (1988-2008) for inflation is 3.1% annually.

“The good news for our industry is that inflation has always been very much a friend,” continued Woodworth. “There obviously is a limit to that statement. If inflation gets too far out of hand, then the damage to the underlying economy reduces demand.”

The sentiment coming out of Washington, D.C. is that the first stimulus package may not be enough to bolster the economy and that a second stimulus will be necessary, added Woodworth. Still, he doesn’t see inflation becoming a problem until 2011.

For the moment, the biggest challenge facing the industry is a sharp falloff in room demand. PKF today released a revised forecast that calls for revenue per available room (RevPAR) in the U.S. hotel industry to decline 13.7% this year, and occupancy to fall 7.8%. That’s a weaker outlook than just two months ago, when PKF expected RevPAR and occupancy to fall 9.8% and 6.4%, respectively.

The distress that is starting to become more evident in the marketplace is going to help well-positioned players like InterContinental Hotels Group to seize the moment, said an enthused James Anhut, chief development officer for the Atlanta-based company and one of the panel members.

“There are some good opportunities out there to pick up broken deals right now,” emphasized Anhut. That’s especially true if developers have good relationships with their lenders and they are willing to throw a little more equity into the game, he explained. “What’s good about those [broken] projects is that you’ve got somebody who has taken a lot of the upfront development and entitlement risk to get the project to the point of financing.”

One silver lining to the downtrodden economy is that construction costs are falling. The pricing of petroleum-based products, for example, is down 20% to 25% over last year, according to Anhut. “If you can pick up a project to renovate at considerably less cost than it was last year or the previous year, then your basis going into that project is lower and net inflation will provide a good opportunity for you.”

Nancy Johnson, chief development officer for Minneapolis-based Carlson Hotels Worldwide, expressed confidence that the $787 billion stimulus package signed into law by President Obama, combined with perhaps a second stimulus package, will ultimately provide a crack in the door for the owner/developer community to open.

“[The federal government] has got to be able to get the money into the hands of small business owners to be able to create jobs and get the economy moving again. That is what is going to provide the great opportunities for us to take advantage of,” said Johnson.

Local economist Dr. Rajeev Dhawan of Georgia State University, who preceded the panel discussion, did little to lift the spirits of conference attendees. Dhawan forecasts that real GDP will contract at a 5.4% annualized rate in the first quarter of 2009 and remain in negative territory for the remainder of the year, but at a moderating pace. Not until the second quarter of 2010 is GDP expected to turn positive with a modest 1.3% annualized growth rate.

Dhawan’s outlook on employment follows a similar pattern. He projects average monthly job losses in the first quarter of 2009 to be approximately 500,000 (preliminary totals for January and February portend even higher losses) before gradual improvement. The economist does not expect job gains to occur until the second quarter of 2010. And even then, the average monthly gain is projected to be only 10,000.

Though Americans may not care to hear it, the economic slowdown is even more severe in several other countries, explained Dhawan. For example, Japan’s GDP is falling at an annualized rate of nearly 13%. The Korean GDP is contracting at an annualized rate of 22%. “This is not just a slowdown, it’s a reset,” emphasized Dhawan.

A dearth of capital spending and investment by companies is what will hamper job recovery in the near term, said Dhawan, precluding a V-shaped recovery. “No investment, no job growth.”

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