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New Hotel Data and Revised Predictions for 2009
Increased Hotel Loan Stress, Falling NOI and Slumping Values
The "D" Word


By Jim Butler, March 2008

Here's the latest on how 2008 ended up, and how 2009 and 2010 are shaping up now, including a special report on the hotel industry from Moody's.

Final revised assessment on 2008 and its implications for us now 

Smith Travel Research has reported the final numbers on the hotel industry's performance for calendar 2008, summarized in the chart below. 

It is easy to misunderstand the significance of the data for 2008, and its important implications for 2009 and 2010. That's because overall, the data suggests that 2008 was not a terrible year. After all, RevPAR (revenue per available room) for all U.S. hotels was down only 1.9% (as compared to an increase in RevPAR of 5.8% for 2007). In light of all that happened last year, you might say, "That's not too bad."

You really have to view 2008 as two distinct periods: The first 8 months of 2008 (from January through August) were not bad, and the last 4 months when the bottom fell out of the hotel industry. In the first part of the year, RevPAR was up 1.2 percent, but in the last part RevPAR fell 8.2%.

In other words, things were so bad in the last four months of 2008 that the loss wiped out the gain from the entire rest of the year. 

The impact of RevPAR declines on NOI will depend upon the occupancy level of the hotel as it enters 2009. PKF projects that high occupancy hotels (with occupancy greater than 70%) will have NOI declines of 8.6%, while hotels with less than 70% occupancy will suffer a 44.8% NOI decline!

Predictions for 2009 and 2010? 

When you look what happened after Labor Day 2008, you see that the hospitality industry has taken a terrible punishment from the financial crisis, the recession, business cutbacks, a collapse in consumer confidence, unemployment and all the related problems. This suggests that the last part of 2008 marked the beginning of a new trend that will continue until the economy improves.

Moody's special report on the hotel industry summarizes the impact by saying that industry leaders are predicting 2009 RevPAR declines of between 3.5% to 11.2%. While the average of these predictions is -7.0%, the most recent two updated forecasts are also the most pessimistic. PKF is predicting a 9.8% decline and PricewaterhouseCoopers is predicting an 11.2% decline, as summarized in the slide below.

The bottom line is that all analysts predict things will get worse in 2009, and generally predict that RevPAR growth will continue to deteriorate in 2010 until the second half of 2010 when RevPAR finally begins to turn positive.

Moody's agrees and is projecting 5.7% RevPAR decline in 2009, and then RevPAR growth of 2.0% for 2010, but coming in the second half of the year. As of February 20, 2009, STR was predicting a slightly worse 2009 and a slightly better 20010 as shown in the slide below.

PKF is predicting a 9.8% RevPAR decline and PricewaterhouseCoopers is predicting an 11.2% RevPAR decline . . 

What does falling RevPAR mean in terms of NOI and values? 

Moody's summary of the analyst's opinions suggests a potential 30% further decline in hotel values for 2009 (on top of the damage already done in 2008). .

I found one of the most interesting parts of the Moody's Special Report to be analyzing the impact of declining RevPAR on NOI, and resulting changes in value. They concluded that a 7% hit to the top line would translate into a 16% decline in net cash flow at a typical full-service hotel because of the relatively high fixed cost structure, and increasing expenses. By itself, this would suggest that a 7% decrease in revenues would cause a 16% drop in value. 

But industry experts expect further increases in cap rates on hotel valuations. Therefore, on the same 7% decline in revenues, Moody's calculates that a 100 basis point increase in cap rates would cause hotel values to decline by 24%, and a 200 basis point increase would be translate into a 30% decline in hotel values.

PKF Consulting's latest analysis sees bigger NOI decline -- up to 48% for hotels with under 70% occupancy.

Moody's summary of the "average" forecasts may look relative benign. For example, PKF consulting is projecting a -9.8% change in RevPAR for 2009. And perhaps more importantly, PKF's Mark Woodworth says that the impact of RevPAR declines on NOI will depend upon the occupancy level of the hotel as it enters 2009. PKF projects that high occupancy hotels (with occupancy greater than 70%) will have NOI declines of 8.6%, while hotels with less than 70% occupancy will suffer a 44.8% NOI decline!

And remember, the 48% decline in NOI for 2009 will translate into even bigger drops in value with increasing cap rates!

What does this mean for hotel loans -- particularly CMBS hotel loans? 

What do these potential value declines mean in terms of loan to value ratios -- both to meet loan covenants and to obtain new financing when the financial system finally recovers? According to PKF Consulting, at the end of 2008, more than 80% of the hotel CMBS (commercial mortgage-backed securities ) loans originated since 2005 have less than a 70% loan to value ratio. Therefore, the expected loss in values in 2009 from declining revenues and increased cap rates will have a very serious impact.

Moody's assessment is rather understated, but it gets the message across:

. . . loans included in more recent vintage CMBS (2006 to 2008) deals will be under particular stress in 2009. These loans were underwritten in anticipation of RevPAR growth rates that were achieved in years 2004 through 2006 . . . Moody's net cash flow haircuts tempered some of the unrealistic pro-forma expectations, but potentially not enough to withstand the currently expected dramatic drop in lodging demand in 2009. . . hence ratings changes.

You do the math. 

The "D" Word!

by Jim Butler, February 28, 2009

On Friday, the New York Times said that economists are starting to use the word "Depression" to describe the economy's accelerating downward spiral. In an article by Peter S Goodman, entitled "Sharper Downturn Clouds Obama Spending Plans," the Times said: The fortunes of the American economy have grown so alarming and the pace of the decline so swift that economists are now straining to describe where events are headed, dusting off a word that has not been invoked since the 1940s: depression.

Mr. Goodman carefully points out that the comparisons are NOT being made to the Great Depression of the 1930s, when unemployment reached 25%,. Some economists are conservatively projecting that "depression like" scenarios have 15% to 25% probability, with others say we are already there, at least in the housing market, the financial system and the stock market.

At some point, this does sound like an argument over semantics. It is reminiscent of how some pundits refused to call the stock market meltdown last year a "crash". Everyone agreed that the Dow's 22% decline over 8 days was roughly the equivalent of the "crash" in October 1929 when the market declined 12.8% on October 28, 1929 and another 11.7% the next day. The semantic experts thought 8 days might be too long a period to call it a "crash" compared to 2 days.

I don't know about you, but the extra few days did not make my stock portfolio look any better when it was over. We may not be in a depression yet, but the accelerating rate of decline is truly worrisome.

What does this mean for the hospitality industry??

There is a very close relationship between lodging demand and changes in the GDP. It is often a 1 to 1 correlation -- very high. So the revised GDP numbers for 2008 do not bode well.

However they are consistent with the latest projections from PKF Consulting, PricewaterhouseCoopers, and Moody's for big declines in the net operating income or NOI for hotels, and a big decrease in hotel values in the 2009. PKF Consulting now says that hotels starring 2009 with occupancies of less than 70% are likely to suffer more than a 48% decrease in NOI in 2009.

Combined with a 200 basis point increase in cap rates projected for the year, hotel values will decline even further. 

About the Author:
Jim Butler is one of the top hotel lawyers in the world. GOOGLE “hotel lawyer” or “hotel mixed-use” or “condo hotel lawyer” and you will see why.  He devotes 100% of his practice to hospitality, representing hotel owners, developers and lenders.  Jim leads JMBM’s Global Hospitality Group®—a team of 50 seasoned professionals with more than $40 billion of hotel transactional experience, involving more than 1,000 properties located around the globe. In the last 5 years alone, they have brought their practical advice to more than 80 “hotel-enhanced mixed-use” projects, a term Jim coined to fill a void in industry lexicon.  This term describes one of the hottest developments in real estate-where hotels work together with shopping center, residential, office, retail, spa and sports facility components to mutually enhance the entire project’s excitement and success. Jim and his team are more than “just” great hotel lawyers.  They are also hospitality consultants and business advisors.  They are deal makers.  They can help find the right operator or capital provider. They know who to call and how to reach them. They are a major gateway of hotel finance, facilitating the flow of capital with their legal skill, hospitality industry knowledge and ability to find the right “fit” for all parts of the capital stack.  Because they are part of the very fabric of the hotel industry, they are able to help clients identify key business goals, assemble the right team, strategize the approach to optimize value and then get the deal done.  Jim is the author of the Hotel Law Blog,  He can be reached at +1 310.201.3526 or
Jim Butler
Chairman, Global Hospitality Group
Jeffer, Mangels, Butler & Marmaro LLP
1900 Avenue of the Stars, 7th Floor
Los Angeles, CA 90067-4308
(310) 201-3526 direct
Also See: Do You Know the 8 Dos and Don'ts of Handling Troubled Hotel Loans? / Jim Butler / November 2008
What Does the Current Financial Crisis Mean to Us in the Hospitality Industry? / Jim Butler / October 2008



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