Hotel Owners Play With a Hot Hand

With the lodging industry clearly in the recovery mode and tourism on the rise, hotel owners are increasing room rates in hopes of elevating profits to levels not seen since 2000. And with demand outstripping supply, many hotel owners with large portfolios are capitalizing on a heated real estate investment market by selling non-core assets to buyers looking to take advantage of the industry rebound.

“The increase in demand is really soaking up the supply, and we're now able to raise rates in all segments, especially in major markets. In some cities, you can't get a room on short notice,” says Tom Parrington, CEO and president of Lodgian Inc., an Atlanta-based owner of more than 80 hotels.

According to hotel owners, the best is yet to come as demand stays strong and a lack of available land and high construction costs make it difficult to build new hotels. Limited new supply, a trend expected to continue through 2006, will boost occupancy at existing hotels, says R. Mark Woodworth, executive vice president at PKF Consulting in Atlanta.

Improving vital signs

Occupancy at chain-affiliated hotels in the top 50 markets jumped from 61.6% during the first quarter in 2004 to 63.9% in the first quarter this year. The average daily rate (ADR) increased 6.4% to $104.31 from $98.07. Revenue per available room (RevPAR) rose 10.3% to $66.61, according to PKF, Torto Wheaton Research, and Smith Travel Research.

(Top 50 U.S. Markets)
2003 2004 2005* 2006*
Occupancy 63.7% 67% 68.5% 68.9%
% Change +0.8% +5.2% +2.2% +0.6%
Average Daily Rate $112.03 $116.83 $123.27 $127.55
% Change -1.5% +4.3% +5.5% +3.5%
RevPar $71.38 $78.32 $84.44 $87.88
% Change -0.7% +9.7% +7.8% +4.1%
* Industry forecast
Sources: PKF Consulting, Torto Wheaton Research, Smith Travel Research

While the industry is clearly on the upswing, there is still a ways to go before hotel RevPAR and profits reach levels achieved in 2000, says Woodworth. RevPar on an annual basis reached $39,938 in 2004 and is expected to rise to $42,893 this year, but that still is less than the $43,699 figure recorded in 2000, when the industry was at its peak. The good news is that RevPar is forecast to grow to $45,467 in 2006.

Another important comparison: In 2000, operating profits per available room hit $14,041 compared with only $9,984 in 2004. Operating profits are expected to rise to $11,441 this year, $12,788 in 2006 and $14,049 in 2007 — finally reaching levels achieved seven years earlier.

“From a profitability standpoint, the pace of recovery is a lot slower this time around,” says Woodworth. Factors such as 9/11, the dot-com bust, SARS (Severe Acute Respiratory Syndrome) and the recession caused the hotel business to suffer much deeper losses than the last downturn in the early '90s. Consequently, it will take longer for the industry to fully recover, he says.

Still, the dramatic turnaround bodes well for hotel owners. Room rates at Beverly Hills-based Hilton Hotels Corp., for example, are up across the board. The average daily rate for the same group of owned hotels in 2004 jumped about $10 to $158.72 during the first quarter of 2005 compared with $148.80 during the same period in 2004, says Robert La Forgia, Hilton's senior vice president and CFO. To that end, Hilton hotels in urban and resort markets, like New York, Boston and Oahu, sell out rooms on a regular basis, he says.

Even struggling markets like Chicago, where normally strong meeting business has suffered recently, and San Francisco, hit hard by the boom and bust of the high-tech industry, are turning around. In Chicago, group business is bouncing back, and the city projects that convention room nights will be up 25% in 2006, says La Forgia.

It's a Seller's Market

With little new supply and high demand, many hotel buyers are scouring the market for acquisition deals. Many large hotel groups, in turn, are disposing of hotels to pay down debt and renovate other properties in key locations.

“Right now we've got reasons to sell smaller hotels in smaller markets. We're reshaping our portfolio and concentrating on bigger hotels in major markets,” says Bruce Wiles, president and COO of MeriStar Hospitality Corp., an Arlington, Va. hotel REIT with 72 mainly full-service hotels as of June, down from 92 at the end of 2003. In 2004, for example, MeriStar acquired the Marriott in Irvine, Calif., for $92.5 million, as well as the Ritz-Carlton Pentagon City in Washington, D.C. for $93 million.

Lodgian is likewise disposing of non-core assets by selling mainly older, full-service hotels. The company is using the proceeds to invest in newer, limited-service properties that are less costly to run, says Parrington.

So, who's buying? Companies like Hersha Group, a Philadelphia-based REIT with 45 properties as of June, up from 28 at the end of 2003. Hersha was closing on two hotel portfolios in June — one with five properties and the other with six. “Our focus is to buy quality assets. We look for newer hotels that are already flagged with premium brands like Marriott, Hilton, and Starwood,” says President and COO Jay H. Shah.

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