A mid-year 2002 analysis performed by The Hospitality Research Group of PKF Consulting (HRG) finds that the average U.S. full-service hotel suffered a 21.3 percent decline in profits during the first six months of 2002 compared to the same period in 2001.  During this same period, limited-service hotel profits fell 18.8 percent.  For this study, profits are defined as income before deductions for capital reserves, rent, interest, income taxes, depreciation, and amortization.

More Frequent Bottom-Line Benchmarking

The dramatic and sudden downturn in hotel performance during the later part of 2001 and into 2002 emphasizes the need for more frequent benchmarking of not just hotel revenues, but expenses and profits as well.  This idea is conistent with the editorials that have recently appeared in several hotel industry trade publications.

It is this demand for more frequent expense and profit data that spurred HRG to complement its annual Trends in the Hotel Industry survey with a special mid-year survey.  This mid-year analysis enables hotel owners and operators to compare revenue, expense, and profit movements for the first six months of the current year to the first six months of the prior year.  Going forward, HRG�s mid-year and annual Trends surveys will allow hotel owners and operators to benchmark their financial performance twice a year.

A Newer and Better Measurement

�The hotel industry has relied on RevPAR as the primary indicator of fiscal health, but for many in the industry it�s the bottom-line that counts,� says Jack Corgel, Ph.D., and Managing Director of Applied Research for HRG.  �The well-documented declines in RevPAR accurately document the pain that U.S.  hotels have felt since the beginning of 2001.  Our research finds that there is a more general cause for concern when profits are off nearly twice as much as revenues.�

While franchise fees and some portion of management fees are driven by revenue, a large portion of income for management companies - and all the income for owners - is derived from the profits of a hotel.  In turn, the ability of hotel owners to pay financiers and distribute money to investors is totally dependent on the cash flows generated by the hotel.  Also, hotel lenders have keen interest in profit levels as they judge coverage and delinquency risk.

�We believe that analyzing profits on a per-available-room basis (ProfPAR) and as a percentage of revenue (profit margin) provides a better measurement of the operator�s effectiveness, ownership�s wealth, and lender security,� says Corgel.  �The industry has been clamoring for a new measurement.  These basic profit statistics go right to the bottom-line.�

Management Does React

The full-service hotels in the HRG sample averaged a RevPAR of $69.41 during the first half of 2002 compared to $80.25 in the first half of 2001.  This represents a decline of 13.5 percent.  With rooms revenue comprising 67 percent of total revenue at these full-service hotels, the decline in total full-service revenues was 12.7 percent during this same period.

Limited-service RevPAR held up slightly better.  From the first half of 2001 to the first half of 2002, the RevPAR for the limited-service sample dropped from $43.42 to $39.09, for a decline of 10.0 percent.  Because rooms revenue comprises most of the total revenue for limited-service hotels, the decline in total limited-service revenues was 10.3 percent.

In response to the double-digit declines in revenues, hotel managers continued to cut expenses following the extensive cuts made during 2001.  Operating expenses at the average full-service hotel in the sample were reduced 9.1 percent during the first half of 2002 from the dollars expended in the first half of 2001.  Limited-service hotel managers also reduced their expenses, but to a lesser degree.  Given the lower cost structure at limited-service hotels, operating expenses were cut by just 3.8 percent in this segment.

For reference purposes, we should note that hotel managers cut their operating expenses 5.2 percent for the entire year in 2001 in light of the 9.9 percent decline in total revenue experienced for the year.  �Hotel managers trimmed a lot of expenses in 2001, but continued to cut even more in 2002,� notes Corgel.  �Some of the expense reduction has been the result of the decrease in business volume and resulting removal of the associated variable expenses.  However, we noticed cuts in some of the traditional �fixed� costs of hotel operations, as well.�

�Moving forward, it will be interesting to see if hotel managers continue to hold down their operating expenses when market conditions start to improve,� Corgel says.  HRG is projecting U.S. hotel RevPAR to start growing again in 2003 and 2004.  �In separate analyses conducted by HRG, we found that managers tend to increase their operating expenses fairly dramatically during periods of industry recovery.  This practice somewhat depresses the profit rebound that a hotel could enjoy when revenues start to improve.  If hotel managers find ways to control their operating expenses, we could see some dramatic improvements in hotel profits in the next two years.�

A historical analysis of hotel revenue and profit data from HRG�s Trends in the Hotel Industry database finds that profits tend to react with a greater degree of elasticity compared to movements in revenue.  During periods of industry recovery, profit growth outpaces increases in revenue.  Conversely, when industry revenues decline, profits drop to an even greater extent.

Labor Pains

When it comes to cost reductions, the first place hotel managers look at is their labor costs.  Historically, labor costs have averaged approximately 40 to 45 percent of all dollars spent to operate a hotel.  During the first half of 2002, the practice of cutting labor costs continued as 37.2 percent of all expense reductions at full-service hotels were attributable to a combination of salary/bonus reductions, reduced hours for hourly staff, and some layoffs.  With lower staffing needs, the cuts in limited-service labor costs comprised just 23.7 percent of the total expense reductions.

On average, the typical full-service hotel in the study sample reduced their payroll and related expenses from $14,290 per available room (PAR) in the first half of 2001 to $13,243 per available room in the first half of 2002.  For limited-service hotels, labor costs were cut from $3,593 PAR in the first half of 2001 to $3,508 PAR in the first half of 2002.

�While we observed labor cost reductions in all departments, it is interesting to note that the lowest percentage reduction in payroll occurred in the marketing department,� notes Corgel.  �With such competitive market conditions, the need to maintain sales and marketing personnel was deemed to be of great importance by hotel management.�

Telephones Down, Booze Up

Since occupancy for the hotels in the survey sample declined, it follows that guest telephone revenue also would drop.  From the first half of 2001 to the first half of 2002, telephone revenue for the full-service sample was off 28.3 percent.  Telephone revenue for the limited-service sample declined 36.0 percent.  This represents that largest percentage decline of any hotel revenue source.

In addition, the magnitudes of these declines were far greater than the drop- off in occupied rooms.  �Given the enormity of the decline in telephone revenue, it is apparent that hotel guests are avoiding the guest room phone all together and using their own cell phones or charge cards,� says Corgel.

While hotel guests may be avoiding the phone, they don�t appear to be leaving the lounge as quickly.  Like all other revenues, full-service beverage (alcohol) revenue dropped from the first half of 2001 to the first half of 2002.  However, the 7.4 percent decline in revenue was the lowest percentage decline of any hotel revenue source. 

�In addition to the relatively modest declines in alcoholic consumption among guests, hotel managers were actually able to cut costs to a greater extent,� notes Corgel.  �While fewer dollar profits were made in the first half of 2002 compared to 2001, the beverage department was the only operating department to have achieved a higher profit margin during this same period.�

Profit Margins Show Some Health, Hotels Still Generate Profits

�Despite all the pronouncements of doom and gloom, the relative profitability of U.S. hotels is very sound from a historical perspective,� Corgel comments.  �While no owner or operator enjoys seeing fewer bottom-line dollars from one year to the next, the efficiency of hotel managers in 2002 is relatively quite high.�

From 1980 through 2001, full-service hotels in the U.S. averaged a 22.4 percent profit margin.  Through the first half of 2002, the full-service hotels in the study sample averaged a profit margin of 26.2 percent.  This is down from the 29.0 percent mark achieved in the first half of 2001.  For reference purposes, full-service hotel margins peaked in the year 2000 at 30.5 percent.

Limited-service hotels, on the other hand, are currently performing on pace with long-term averages.  From 1980 through 2001, limited-service hotels averaged a 39.4 percent profit margin.  Through the first half of 2002, profit margins for our sample of limited-service hotels averaged 39.1 percent.  This is less than the 43.2 percent profit margin limited-service hotels achieved during the first half of 2001.

Few Difference Among Size, Market Position, and ADR

When analyzing the lodging industry, HRG frequently finds differences in performance among different groups of hotels, be they divided by geography, market orientation, size, or room rate categories.  This underscores the notion that the hotel industry is typically driven by local market conditions.  For the special mid-year study, HRG did divide the survey sample into various operating categories.

�It is interesting to note that we did not observe any significant differences in trending performance from 2001 to 2002 among the various descriptive categories,� says Corgel.  When The Hospitality Research Group analyzed the samples by ADR, room count, or market segment, all full- and limited-service hotel sub-categories showed virtually equal changes in revenues and expenses.  The only category that showed some resiliency was limited-service properties with fewer than 110 rooms.  These properties experienced a decline in revenue of just 2.1 percent and a relatively small decline in profits of 6.6 percent.  �This equal distribution of poor performance shows that the extreme and unique factors that caused this industry recession have affected all hotels,� adds Corgel.
 

The Hospitality Research Group (HRG), headquartered in Atlanta, is the research affiliate of PKF Consulting, the international consulting and real estate firm specializing in the hospitality industry.  PKF Consulting has offices in New York, Boston, Philadelphia, Washington DC, Atlanta, Houston, Dallas, Los Angeles, San Francisco, and Singapore.  HRG, along with their partners at Torto Wheaton Research , also provide an extensive series of forecast products focused on the U.S. lodging industry.  (see www.tortowheatonresearch.com).