The union contract between the HERE Locals 1 and 450, which represents room attendants, bell persons, telephone operators, and various food service employees, and 27 hotels in Chicago expired on August 31st.  Negotiations commenced in early August and, on September 5th, union membership ratified a new four-year agreement that significantly increases the wage and benefit levels of HERE union members. 

The expired contract placed Chicago among the lowest pay scales and highest cost of healthcare insurance of the country�s largest hotel markets (during negotiations, the union consistently cited the example that a room attendant in Chicago makes $8.83/hour versus $18.15/hour in New York, and that union workers pay $85/month for family health insurance versus $0 for New York).  Negotiators for the hotels had conceded that Chicago wages were at the low end of the range; however, they were unwilling to agree to a contract that was on par with the New York scale.

According to information provided by union officials, the new agreement provides for an immediate 13.3 percent increase in wages next year for room attendants and a 37 percent increase overall.  Reportedly, the new contract represents a 11.5 percent average annual increase in total wages and benefits, and a cumulative 54.5 percent increase over the term of the agreement.  Among other items, the new agreement significantly improves the quality of union member health coverage, while reducing the cost of family health insurance to $30/month in the last year.

What is the impact on Chicago hotel profits and value?  Utilizing a 15 percent first year union PTEB increase as the assumption, our calculations of the potential profit impact on a selected sample of 10 downtown hotels  resulted in an approximate 7 percent increase in total hotel PTEB and a 5 percent decline in the hotels� gross operating profit.  Using the average hotel size of the sample of 774 rooms, this represents a profit decline of nearly $1 million.  Further, the potential loss in value for the same average 774-room hotel could approach $10 million.

A five percent profit decline may represent an optimistic, even best case, scenario.  We believe that the PTEB increase will not be limited to those employees represented by Locals 1 and 450.  Rather, the impact of the increase is expected carry over to all hourly employees (either non-union or members of a separate union) in the hotels, perhaps at a less significant level, to maintain existing wage and benefit relationships within a given hotel.  Further, as additional union contracts expire (e.g. hotel engineers, laundry employees), this agreement is likely to serve as the new benchmark for all union agreements.

Additionally, we do not believe that the impact of such increases among hourly employees will be contained within the union hotels.  It holds that those Chicago hotels that are non-union will be forced to increase wage rates (or increase benefits) in an effort to retain their employees in this high turnover industry.

Given the obvious financial impact, what are the other ramifications of these negotiations to hotel owners, operators, investors, and lenders?  Here are some thoughts:

• Other Significant Contract Issues:  In addition to being favorable on a comparative wage basis, the existing union agreement affords Chicago operators� significant flexibility in the areas of staffing guidelines, workload, and job responsibility/cross over.  If the new agreement does not provide for similar levels of flexibility, we can expect more challenges for operators with respect to full time equivalent (FTE) counts, increased levels of workload for employees, and when and where to employ contract labor.  Further, the question of the affordability and/or willingness of hotels to provide non-contract benefits such as discounted parking, free meals, etc. arises.

• Morale Issues And Employee/Management Relations:  Anytime there is a disagreement that involves compensation and value for effort, there are bound to be issues of employee morale and the potential for strained relations.  This is clearly a concern here, and it lies in the impact on customer service.  With the Chicago lodging market as competitive as it has been in a decade (resulting from a soft market and increased supply), the impact of failing to deliver a satisfactory customer experience could be extremely detrimental to hotels.  Interestingly, the negative sentiment has been directed more toward hotel owners than operators.  In fact, I observed one downtown hotel where the interaction among the staff and management was genuinely cordial and upbeat.  The hotels that will best weather a work stoppage or strained relations will be those that focus equal amounts of energy toward maintaining employee enthusiasm.

• Will The Hotels Be Able To Make Up For The Increase In Cost Structure Through Growth In Average Rate?  The two-year answer is no.  Given the influx of supply downtown and the challenge of emerging from a recessed hotel economic environment, the chances of seeing any measurable rate growth that is attributed to the wage increases are practically nil.  Moreover, as the supply of room inventory becomes more commoditized by the Internet (and until demand improves), it is difficult to pass any such increases on to the consumer.  Since the increases are anticipated to moderate in the last two years of the agreement, there may be an opportunity to, at best, offset any further cost increase through equivalent average rate growth.

• Does This Impact Chicago As A Trade Show Destination?  In the long run, no; however, it certainly does not help in the short term.  Chicago is already dealing with mending a negative perception of union work rule issues at McCormick Place.  While the increased cost structure will eat into the margins achieved by Chicago hotels during major trade shows, it is not likely that the hotels will increase their rates and price themselves out of the market.  Chicago has been (and always will be) a top five-trade show destination.  This lodging market is still group-driven and one that is not likely to abandon its bread and butter.  That said, the cost structure might become more of an issue for the smaller shows and corporate meetings that book on much shorter cycles (1-3 years).

• Does Transaction Activity Increase?  Chicago hotel owners endured a challenging year in 2001 and 2002 has been equally disappointing as profits have declined on the heels of revenue losses.  The combination of two less profitable years with the prospects of reduced profit potential over the next four years could create additional momentum in terms of transaction activity for some second tier downtown properties and suburban properties.  It is likely, however, that we will not see significant ownership changes in most of downtown�s larger, more established hotels.

• How Do Owners And Operators Prepare For This Change?  There has never been a better time to reexamine a hotels operating, staffing and cost structure than now.  The hotels that will succeed, regardless of the level of increase, will be those that have refocused their efforts on the key operating processes and taken a fresh approach to the way they do business.