Lodging Industry Rebounds

Investors check in for the next up cycle.

Operating metrics in the lodging industry have rebounded smartly from the 2009 cycle bottom and have already or are close to exceeding pre-recession peaks.

Revenue per available room, or RevPAR, ran at a record high $68.69 in 2013 according to Smith Travel. Also at a record high was the average daily rate at $110.35, up 13.2 percent from the 2009 cyclical bottom.

Room occupancy has been slower to recover, even with new supply additions of just 1 percent or less during the last three years. Demand growth for 2013 was 2.2 percent while guest room occupancy was 62.3 percent. The pre-recession occupancy peak was 63.3 percent set in 2006. Occupancy should inch ahead of that, probably in 2015.

Looking ahead, occupancy growth is expected to follow economic growth. Both are expected to trend upward over the next few years but only modestly so. Average daily room rate is expected to increase at a faster pace, in the 3.5 percent to 4.0 percent range, as new supply additions are forecast to remain at low levels.

These are the important metrics for monitoring lodging’s earnings growth moving forward, as most of the profitability gains from streamlined operations have already been taken. These metrics are also the key to improved investor sentiment for increased transaction activity and, a little bit later, for the developer sentiment necessary to ignite a new construction cycle.

The Lodging Real Estate Cycle

The overall economic recovery, although consistently trending up, has been slow and sluggish. The fall from the previous peak was so steep and the financial crisis so pervasive that the economic recovery could be running as much as two years behind the pace of more normal recessions. Investors, lenders, and Wall Street still appear a bit timid as capital accumulates on balance sheets.

Faster economic growth would lead to increased guest room demand, which would lead to greater transaction activity for single and portfolio assets. Higher interest rates could also spark greater transaction activity.

The lodging construction pipeline has been in a narrow bottoming channel since it reached bottom in early 2012. The pipeline is now 50 percent below its peak reached in 2007. New supply growth has been insignificant over the last four years. Yet as modest as guest room demand growth has been, it has still outpaced supply growth.

Beyond a more complete lending recovery, other important triggers to start a new construction cycle are a further rise in transaction volume and selling price per room to reach a crossover point where building new hotels becomes less expensive than buying and repositioning existing hotels. It may take at least another two years before the pipeline catapults forward.

In the meantime, the next few years make for an attractive sweet spot for operators of existing open and operating hotels: growing guest room demand, rising pricing power, record-setting operating metrics, and little new supply coming online as the economy moves forward. It’s an ideal investment environment.

Transaction Activity

Total transactions and property transfers peaked at 3,218 hotels/441,613 rooms in 2007, then fell precipitously to a bottom of 528 hotels/60,804 rooms in 2009, an 84 percent decrease in hotels sold.

After rebounding a bit in 2010, transaction and property transfer volume have been locked in a narrow bottoming formation, with little merger and acquisition activity. In 2013, 1,171 hotels were sold or transferred: 775 were individual, single-asset transactions while another 395 were portfolio transactions.

Markets with the highest number of transactions were Atlanta with 41; Dallas, 27; Houston, 22; Phoenix, 21; and Orlando, Fla., 19.

In 2013, 898 hotels had a publicly reported selling price. Based on those figures, the average selling price per room was $132,955, the highest ever recorded. Prices are accelerating because of improved profitability, lower capitalization rates, and a larger number of upscale hotels in the sales mix.

With a selling price of $539,033 per room averaged over 12 transactions, New York City leads all markets. Honolulu follows at $321,468 per room, then San Diego at $288,971, San Francisco at $264,543, and Boston at $220,175. These major markets generally have larger, more upscale center city or waterfront type hotels in their sales mix.

Seller and Buyer Activity

The period 2013-14 represents the conclusion of the first leg of the new lodging real estate cycle. The period is characterized by improved profitability, confidence about future operating trends, and near-record low interest rates. It is an opportune time for investors to dispose of their stabilized assets and take profits, particularly for those acquired late last decade during the recessionary lows.

Total investment in the lodging industry reached an estimated $21.8 billion in 2013, the highest level recorded since 2009, and is expected to accelerate even higher in 2014.

For the 898 hotel transactions that reported a selling price, investment totaled $16.8 billion, up nearly 60 percent over 2012.

Privately held equity funds and hotel companies accounted for 62 percent of the 2013 sales activity. They were net sellers within their respective portfolios as they implemented exit strategies for many assets acquired or developed earlier. Publicly traded real estate investment trusts followed with 18 percent of the sales activity.

On the buy side, REITs were net purchasers of lodging real estate for their portfolios and accounted for 30 percent of buying activity. Privately held equity funds and hotel companies were also heavy buyers, accounting for 27 percent and 15 percent of all buying activity respectively.

In great demand are upscale branded and independent hotels in center city, suburban, and resort locations in the largest markets.

Investors see considerable opportunity ahead in the second leg of the new cycle. Since the construction pipeline is unlikely to produce new supply additions of any magnitude until late in the decade, and even if overall economic growth were to remain sluggish, slow and steady growth should still produce attractive returns over a typical holding period for assets purchased today.

The New Construction Pipeline

At the end 2013, the total construction pipeline stood at 3,020 projects/382,958 rooms.

The pre-recession pipeline peak occurred in 2007 at a whopping 5,438 projects/718,387 rooms, the highest year-end peak ever recorded. It later bottomed at 2,753 projects/334,712 rooms at year-end 2011.

New hotel openings (new supply) peaked in 2008 at 1,341 hotels/154,257 rooms, tailed a bit in 2009, then fell precipitously and bottomed in 2011 registering 346 hotels/37,193 rooms.

Ninety percent of today’s pipeline is made up of select-service properties, practically all are branded, most are under 200 rooms and are located in urban center and suburban locations in the largest markets. Most are prototypical branded projects, generally enter the pipeline a year out, and get into the ground quickly.

Conversely, there are historically few luxury and “big box” convention hotels with long development timelines in the pipeline. It’s a reason why the early planning stage continues to fall and has yet to bottom. Large urban center or resort projects can take up to 48 months in the pipeline while the typical mid-market project averages about 22 months from entering the pipeline until it opens and comes on line as new supply.

Franchise companies with a portfolio of brands across the upscale and midscale chain scales dominate the pipeline: Marriott with its Residence Inn, Courtyard, Fairfield Inn, and TownPlace Suites; InterContinental Hotel Group’s Holiday Inn, Holiday Inn Express, and Staybridge Suites; and Hilton with its Garden Inn, Homewood Suites, Hampton Inns, and Home2 Suites are among developer favorites.

By far, New York City has the largest construction pipeline of any market in the country at 160 projects/27,464 rooms. When built out, New York’s stock of open and operating hotels will expand a remarkable 30 percent by hotels and 26 percent by rooms. Other markets follow: Houston with 89 projects; Washington, D.C., 86; Los Angeles, 59; and Dallas, 50. Miami; Austin, Texas; and Boston all have 48 each.

Renovation Activity

Investment in property redesign and furniture, fixture, and equipment replacement again ran at record levels in 2013.

Because of the recession, hotel profitability decreased sharply and bank lending dried up as well. As a result, renovation activity plummeted from previous peaks and bottomed out in mid-2010. When the economy finally reached its bottom, property owners moved quickly to upgrade their hotels for the expected recovery in guest room demand, pricing power and the anticipation of the lag in new supply additions coming online.

In hindsight, this reinvestment surge will prove to be quite favorable as product life cycles were extended and property valuations increased.

Looking Ahead

For the lodging industry, there’s a terrific sweet spot ahead that could last late into the decade, the depth of which depends on the overall growth and speed of improvement in the greater economy.

The key is boosting the GDP growth rate up more than 3 percent for the next few years. That could happen now that many of last year’s economic and political issues have been resolved or at least mitigated.

Main Street lending for smaller projects is increasingly more available but delays in the implementation of the Dodd Frank rules remain a big restraint to economic growth. It hinders the re-emergence of Wall Street’s traditional investment banking role, serves as a drag on real estate financing, and has an adverse impact on investor and developer sentiment.

The second leg of the lodging recovery cycle shows great promise. Against a backdrop of benign new supply, economic improvement should bring increases in guest room demand and greater pricing opportunity, causing profitability to accelerate forward.

Look for transaction volume to increase as Wall Street becomes reenergized and the industry begins to consolidate. It will be an opportune time to be an investor as there should be a strong five-year holding period ahead.

Later, as occupancy rates increase and transaction prices plus the cost of renovations rise above the cost of replacement, a surge in new project announcements into the construction pipeline will be triggered. But any pipeline increase will not convert into new supply additions for at least two years thereafter.

When new supply, currently at less than 1 percent of existing inventory, rises above 3.5 percent that will signal that we have entered into the maturity leg of the lodging cycle.

All indications are that that won’t happen until late in the decade. Barring any reversal in the overall economy, the interim period from now until then defines that highly desired sweet spot for investors.

Patrick H. Ford is chairman and founder of Lodging Econometrics, National Hotel Realty, and New England Hotel Realty of Portsmouth, N.H. Contact him at


Checking In With Hospitality

Fall 2022

The hospitality market continues to recover faster than anticipated, but some sectors continue to lag and headwinds are gathering.

Read More

Southern Hospitality

Summer 2022

As the hotel and travel industries are continuing to recover amid COVID-19, Georgia offers an interesting peek at primary and secondary hospitality markets. 

Read More

Room for Growth

Spring 2022

Ermengarde Jabir, Ph.D., with Moody’s Analytics, discusses how the hospitality sector is on the mend after a prolonged period of stead uncertainty.

Read More

Room for Recovery

Spring 2021

The hospitality sector was devastated in 2020, but vaccinations, industrywide efforts, and returning demand are reasons for hope.

Read More