REPORT FROM INDIA—The happy marriages forged in India’s economic heyday are beginning to crack amid falling pricing and profitability, according to sources.
Kempinski Hotels and Leela Palaces, Hotels & Resorts mutually agreed to end their 25-year partnership. Eros Resorts & Hotels ended its association with Hilton Worldwide Holdings and is now managing one of its properties on its own, while two others are being managed by InterContinental Hotels Group. And Pallazzio Hotels & Leisure ended its partnership with Shangri-La International Hotel Management at its Mumbai hotel, which it rebranded as the Palladium Hotel, Mumbai.
The list goes on, with all of the participating parties declining to comment citing legal or other reasons.
Ankur Bisen, senior VP of retail and consumer products for hotel management consultant Technopak, said there are a number of factors contributing to these breakups.
“Most important destinations are facing two scenarios: over supply and a slowdown in the business travel, which has hit the hotel industry hard,” he said. “The business model of the hotel company is worked out and the premise is revenue share at that point. In the next five years, reality does not meet the projections.”
In Bangalore, for example, agreements made during 2007 when average daily rates climbed as high as 35,000 Indian rupees ($575) for luxury class hotels are now struggling in the new normal when rates ended 2013 at 9,885.40 rupees ($162), according to data from STR Global, sister company of Hotel News Now.
Other major markets are seeing similar returns, according to STR Global. Delhi-NCR’s luxury hotels finished 2013 with ADR down 8.7% to 10,612.13 rupees ($174), while in Mumbai it decreased 4.7% to 9,509.94 rupees ($156).
India has 50,658 rooms in its total active pipeline, according to STR Global. Of those, 31,089 rooms are under construction.
“There are disgruntled owners,” said Partha Chatterjee, chief of sales and marketing for Berggruen Hotels Private Limited. “The four factors which directly influence hotel fortunes are (index of industrial production), (gross domestic product), (foreign direct investment) and rate of inflation. All the four indices are down.”
Several other factors have contributed to the dissolving of alliances, he said.
“Regarding contracts, I look at it as the skin in the game. There was this case of an international chain which was to operate a hotel chain. The hotel project got delayed by a year, but the international chain demanded its marketing fees of around (20,000,000 rupees or $328,677) even though the hotel had not become functional and was yet to open,” Chatterjee said.
Indian owners want a more flexible option, he said.
“The foreign chains operate on a fixed contract, which is standardized across the globe,” Chatterjee said. “The Indian owners want tailor-made contracts which are workable in the Indian conditions.”
Investor expectations
Expectations within India can contribute to the discord as well. Most of the country’s hotel owners are broader real estate investors who measure success using the same criteria they would for more lucrative residential or commercial projects.
“The majority of inventory in India is held by (high net worth individuals) versus mature markets where supply is institutional, for example (real estate investment trusts) and pension funds that have a long-term returns perspective,” said Rahul Pandit, president and executive director of Lemon Tree Hotels.
“Returns in the hotel sector are derived from different streams: asset, operator and brand,” he said. “Given the relative market infancy of the sector in India, coupled with a cloistered real estate regime and high/short tenure debt, most investors in India only measure short-term real estate returns.”
Chatterjee said the industry works on a 17% return expectation with the payback for a luxury property realized within eight years. “But this does not happen,” he said. “In a cycle of 10 years, there are three good years while the remaining seven are bad, so the gestation period is much longer.”
Capital typically enters the sector on an upswing, lured by investment returns higher than other asset classes, but given the capital-intensive nature of hotel development (typically three to four years in India), followed by asset stabilization (one to two years), “mature business returns can be protracted,” Pandit said.
“Change in business objectives is also a reason for changeover,” Bisen said.
He pointed to The Lalit Suri Hospitality Group’s decision to cut ties with operator IHG, among others, to form its own brand, The Lalit.
Underlying each decision is the return on investment, Chatterjee said.
“The owner or investor should understand that if I spend (10,000,000 rupees or $164,338), I should get a rent of 10,000 rupees ($164), so the payback is six years, while if the rent is only 5,000 rupees ($82), the payback will be 12 years.
“Every owner operator should understand these facts,” he said.