NEW YORK — The numbers, and seemingly the stars, are aligning for the U.S. hotel industry.
The ongoing recovery from the COVID-19 pandemic and the resulting economic environment are leading to improved performance and strong valuations for hotels across the country, industry experts said during the “Hotel Values and Trends – Statistically Speaking!” panel at the NYU International Hospitality Industry Investment Conference.
Improving Forecast
STR’s newest forecast isn’t a dramatic revision from the one it released in January, but there is a significant change for average daily rate, increasing by $11 to $145 for the year, President Amanda Hite said. STR is CoStar’s hospitality analytics division.
“When we look at the performance of this year, our ADR is trending $10 ahead of our forecast, so honestly, $145 is actually pretty conservative,” she said.
STR’s team debated quite a bit when working on the forecast to determine the effect of a mild recession, she said. They realized the risk of a recession in the next eight to 12 months, but the team was confident in travel demand. When looking at who is traveling, household finances are strong and employment is strong, she said. Companies are still struggling to completely fill out their staffs in some areas.
The fundamentals of travel remain strong for this year and next, and growth should continue into 2023 at a milder pace, Hite said. The monetary policy in the U.S. is trying to slow the economy, and while the hotel industry will feel that in some areas, it’s not going to go backward, she said.
“We still felt really positive and optimistic about the growth for this industry and think the mild recession is not something that will impact hotels and travel in the same way that it has in previous recessions,” she said.
STR expects revenue per available room on a nominal basis will surpass 2019 levels in 2022, but RevPAR and ADR adjusted for inflation won’t return to 2019 levels until 2024 or later, Hite said. Central business districts — or downtown markets — should recover by 2024 on a nominal basis, but it will take longer on an inflation-adjusted basis.
The U.S. hotel industry should hit a record level for ADR demand in 2023, she said.
“Four years after our lowest drop in room demand due to the global pandemic, we’ll be back to an all-time high,” she said.
Measuring Performance
U.S. hotel occupancy has increased nearly every week since Presidents Day weekend, Hite said. ADR is the “shining superstar,” running about $13 above 2019 performance levels, she added.
Room demand since the middle of summer last year has been running at roughly 95% of 2019 demand levels, she said. There was a blip in January because of the COVID-19 omicron variant, but every month has seen gains in room demand. The largest gap against 2019 performance remains weekday demand, but business travel has started to pick up in recent months, with Monday, Tuesday and Wednesday room demand indexed at 90% of 2019 performance year to date.
“We are gaining on our index as compared to the fourth quarter, and that is representative of business travel and group demand starting to come back,” she said.
Friday and Saturdays have been outperforming 2019 levels since the fourth quarter, and shoulder days are running at 2019 levels as well, Hite said. Workcations and bleisure travel have helped demand spill over to Sunday and Thursday nights.
Group demand has been building month over month, even with a dip in January, she said. Indexed to 2019, group demand for luxury and upper-upscale hotels was at 90% for the week ending May 21. Weekday group demand for the same week was at 86% of 2019 levels.
“Over the last year, as group is coming back, it's actually mainly been on the weekend, so it's been nice to see some of that midweek group business start to build in recovery also,” she said.
Measuring Against Inflation
Nominal ADR has been above 2019 levels, but when adjusted for inflation, ADR is running just below 2019 levels, Hite said. However, even when adjusted for inflation, April data and preliminary May data shows ADR exceeding 2019.
Similarly, on a nominal basis, weekday ADR is trending above 2019 levels but is still at 91% of 2019 levels when adjusted for inflation, she said. Weekend ADR on a nominal basis and adjusted for inflation has been trending above 2019 since the third quarter of last year.
When looking at what’s driving ADR growth in the U.S., there are about 18% of hotels that still have ADR declines compared to 2019, creating a drag on the overall average, Hite said. At the opposite end, 41% of hotels in the U.S. are achieving ADR growth above inflation, adding $12.60 to the rate growth.
“We really want to make sure that we understand those 41% of hotels,” she said. “Who are they? What markets are they in? What is driving the high-rate growth? Can we sustain this?”
From a real RevPAR perspective, hotels have been in the recovery phase where they’re achieving 80% to 100% of RevPAR from 2019, she said. Breaking it down by chain-scale segments, the economy segment has seen a great deal of growth in RevPAR and ADR. More than 50% of economy hotels are achieving real RevPAR at 100% or higher than 2019.
On the higher end of the chain scales, there aren’t as many hotels on the same recovery path, but as the year continues, more hotels will enter the recovery period, Hite said.
In terms of profitability, hotel revenue and profits exceeded 2019 levels over the last two months, she said. Hotels have set another all-time high for profit margins, and general operating profits per available room is at its previous high set in October 2019.
“We’ll probably surpass that in the next month or so,” Hite said.
Hotel Valuation
There was a severe drop in hotel valuation in 2008 and 2009 followed by five years of recovery, said Stephen Rushmore, Jr., president and CEO, New York, at HVS. This most recent downturn was quite severe, but the recovery of hotel values was quick as well.
Over the last 20 to 30 years that HVS has been tracking hotel value fluctuations, downturns have usually been preceded by an increase in construction and hotel supply, so that when a downturn hits, the oversupply of hotel rooms exacerbates it, he said. Supply growth exceeds demand growth, and it usually takes a couple years to reach equilibrium.
“Peak to peak, a cycle usually takes about four years for valuation recovery to fully come through,” he said.
In the most recent cycle, there was a severe drop in 2020, but there wasn’t the big buildup in supply, and the recovery has been swift, Rushmore said. Hotel values should continue to increase and stabilize until 2024.
Part of the reason why there hasn’t been an oversupply leading up to the downturn was the increase in construction costs, he said. Since 2011, many years had construction costs rise with the rate of inflation while others actually increased at twice the rate of inflation.
“Over a period of time, on a compounded basis, it becomes increasingly less feasible to move forward with a construction project,” he said.
HVS runs about 500 to 1,000 feasibility studies each year that calculate the entrepreneurial incentives of each project, which determine the amount of profit the developer would get in the first year, he said. From 2014-18, the average entrepreneurial incentive was in the high single digits, but it dropped to the low single digits in 2019.
When looking at how many developers would have zero entrepreneurial incentive in the first year, meaning no return on investment, the percentages were in the single digits between 2014 and 2018, Rushmore said. From 2019 to now, more than half of the feasibility studies showed developers wouldn’t see a return on their investment until after the first year.
“So, a lot of projects just don’t make sense right now,” he said. “It’s for that reason that the supply pipeline, which was already weak, now will probably continue to be weak for many years to come.”
The constrained pipeline has had and will have a positive effect on hotel valuations, he said.
The last time the U.S. had so much inflation volatility was in the 1970s, and there’s not a lot of data tracking hotel valuation at the time, Rushmore said. HVS does track valuations in countries with a significant amount of inflation, however.
High inflation isn’t necessarily good or bad for hotel values provided the inflation is predictable, he said. Volatility could have a positive effect on values because it constrains new development.
When looking at the going-in capitalization rates, luxury hotels have cap rates of 5.9% and full-service hotels have 7.4%, both of which are on par with historical rates, so those should remain stable, Rushmore said. For select-service hotels, historical cap rates have been between 9 and 10%, but cap rates for select-service and limited-service hotels are currently at 7.3% and 8%, respectively.
“There's a lot of interest in investors and in those particular types of hotels,” he said. “We would expect those cap rates over the next several years to slowly increase, which would have a negative impact on hotel values.”
As an overview on the factors that influence hotel values, on the negative side of things, interest rate increases will put downward pressure on values, Rushmore said. The projected increase in cap rates on limited-service hotels will also have a negative effect.
Equity yields and net operating income growth should be stable, and those could be positive or negative for valuations depending on where they end up going, he said. Inflation could be positive or, in the worst-case scenario, neutral for values.
“We are expecting transactional activity to continue to remain robust, so liquidity won’t be an issue,” he said.
Hotel demand growth should continue to exceed supply growth, so global supply risks should be minimal over the next four to five years, another positive for hotel valuations, Rushmore said. While group and corporate travel has been lagging, there’s anticipated upside for those segments, painting a positive picture.