News for the Hospitality Executive
by Sebastian J. Colella
February 12, 2013
Periodic refurbishments are essential for every hotel with the goal of the upgrades having a positive impact on guest satisfaction and average daily rate (ADR). As design trends and preferences change frequently it is critical for a hotel to stay current in order to meet guest expectations, compete effectively and drive market share. The industry’s traditional renovation timeline has changed over the years as a result of the changing economic environment and its business cycles.
Traditionally, it has been common practice for hotels to update soft goods every five years and case goods every 10 years. However, renovation work can often be deferred or postponed, to conserve capital during periods of economic uncertainty. As occupancy and ADR declined during the two most recent recessions, following both the 2001 terrorist attacks and the 2008/2009 housing crises, capital spending nationwide diminished greatly as owners’ cash flows declined. During those periods, franchisors showed leniency for their required property improvement plans (PIPs). In a conversation with Harry Wheeler, AIA, Principal at Group One Partners, Inc., an architectural, interior design, and purchasing firm which specializes in hotels, he said “brands were allowing owners to defer their PIPs and refresh programs due to the recession, but now that the market is improving and hotels are getting back on track, these PIPS are now being mandated, requiring large investments in the individual properties.”
According to an article by Dr. Bjorn Hanson, Divisional Dean of the Preston Robert Tisch Center for Hospitality, Tourism & Sports, $3.5 billion in capital expenditures was spent to refurbish hotels in 2011, a 30 percent increase over the prior year. Having experienced a strong 2011 and an even stronger 2012, with RevPAR increasing 6.8 percent nation-wide, owners and operators are optimistic that the rebound will continue through 2013 and 2014. Smith Travel Research has projected an increase in RevPAR of 5.7 percent in 2013 driven by strong ADR growth and another 6.0 percent in 2014 driven by increases in both demand and rate. As hotels become more profitable, renovations will become more prevalent. As shown in the graph below, capital expenditure (CapEx) spending in hotels throughout the country correlates directly with the industry’s annual RevPAR performance.
Fueling renovations further is hotel transaction activity which reached $12.5 billion in the United States in 2012. This was a 36 percent decrease from 2011 which was dominated by distressed sales and REIT acquisitions which have become less common as the economy strengthens. Hotel transactions are expected to increase in 2013 for the following three reasons:
The scope of today’s brand required PIPs have escalated dramatically recently as brands seek to adapt to changing guest preferences, placing higher costs and brand standards on the owner. PIP schedules which once consisted of case goods and modifications to the lobby, can now include full restaurant concepts, front desks, significant exterior alterations, signage, software systems, etc. Many nationally recognized brands have recently implemented new design concepts, renovation guidelines and service standards. A few examples include:
Improved top-line revenue through occupancy and rate is necessary and a better flow through (NOI) must be realized for a hotel owner to get a return on such a large investment. Property owners need to ask and answer some difficult questions: Will a $300,000 PIP increase the rate and occupancy of a 60-unit limited-service hotel with a RevPAR index of 85 percent enough to pay for itself in five years? Will the PIP allow the property to get its fair share of the market? And is the market strong enough to warrant the additional investment? Similarly, how much will a $1,250,000 PIP ($10,000 per room) impact a 125-room, select-service hotel already operating with a 110 percent RevPAR index and a 35 percent NOI? While the brand standards are important and an owner must comply, an owner’s first priority must be his or her investment in the property and its eventual return. They may also wish to consider alternate affiliations that may provide either greater support or reduced investment requirements.
Many owners and operators will attempt to improve market share by offering newly refreshed guest rooms and public spaces, with the desired effect of driving rate and occupancy. Prior to investing substantial capital into a hotel property, ownership should analyze the overall market, the property’s competitive set, and quantify the potential benefit of having a refreshed or rebranded product. In many markets, an upgraded product may attract previously unattainable demand, enhance profitability, or even help entice new demand into the market. While a full feasibility study is often required for financing purposes, some owners may find it helpful to have a third party expert validate their internal findings.
About the Author:
Sebastian J. Colella is a consultant based in Pinnacle Advisory Group’s Boston office. Since joining Pinnacle in 2011, he has completed work involving lodging supply and demand analyses, facility recommendations, brand assessments, and appraisals of both branded and independent hotels and resorts. Sebastian holds a Bachelor of Science degree from the School of Hotel Administration at Cornell University and his industry experience includes roles in sales and operations at hotels, resorts, and private clubs.
About Pinnacle Advisory Group
Since 1991, Pinnacle Advisory Group (www.pinnacle-advisory.com) has provided advice and analysis on the full spectrum of hospitality properties throughout the US and Caribbean: hotels, resorts, conference centers, mixed use projects, convention centers and exhibition centers. Pinnacle’s services include development counseling, appraisals, acquisition due diligence, asset management and litigation support. Our clients include leading hotel companies, REITs, universities, major banks and municipalities. We specialize in providing personalized advice on complex projects, carefully tailoring our services to each client’s individualized needs.
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Patricia A. Grant
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