NEW YORK — Despite macroeconomic concerns, rising costs and challenging debt markets, hotel industry analysts are predicting stable, and even positive, performance and valuations for the year.
During the “Statistically Speaking” panel at the NYU International Hospitality Industry Investment Conference, CoStar hospitality analytics firm STR shared its revised 2023 U.S. hotels forecast, and HVS shared its outlook on hotel valuations.
Revised Forecast
STR and Tourism Economics have revised their full-year 2023 U.S. hotel forecast to show 5% year-over-year revenue per available room growth. STR President Amanda Hite said that’s a combination of 3.5% average daily rate growth and 1.4% growth in occupancy — despite the expectation of an economic slowdown through the rest of 2023.
While that 3.5% ADR growth is good for the industry, it doesn’t keep pace with inflation, which means hoteliers will struggle to achieve real rates at 2019 levels, especially in the latter part of the year, she said.
Industry growth is not something that normally happens when gross domestic product declines, Hite said. Prior recessions have shown a 1% drop in hotel demand for every 4% decline in GDP.
“We are not forecasting that, even in the quarters where we think there will be GDP decline,” she said. “In the third and fourth quarter, we will have positive growth much slower than what we've seen in the first half of the year, but still positive for the industry.”
With just over 150,000 hotel rooms currently under construction in the U.S., new supply won’t be much of a factor for the performance of operating hotels, she said. The new forecast calls for new supply growth of 0.6%.
Profit margins for the year through April were higher than in the same period of 2022, Hite said. Hotels outside of the top 25 markets had higher margins, which isn’t a surprise considering many hotels in the top 25 markets have higher operating expenses. The labor percentage margin is increasing, particularly in the top 25 markets.
The expectation is margins will be stable this year and next, but from a general operating profit perspective, margins will be slightly lower than at the end of 2022, she said.
The hotel industry faces many challenges, but the outlook is optimistic, Hite said. Employment levels are high and are expected to stay high. Consumers are pulling back on spending, but not on travel.
“They’re continuing to spend,” she said. “That leaves us very optimistic about the RevPAR growth that we’ll see for the remainder of the year.”
Hotel Valuations
HVS expects hotel valuations to be stable or moderately increase over the next three to four years, said Stephen Rushmore Jr., president and CEO of HVS. Breaking those down into segments, leisure-focused and limited-service hotels will have the most stable values over the next few years as they have recovered the fastest from the pandemic.
The hotels with the most upside potential are those that have lagged in the recovery: group, corporate and full-service hotels, he said.
“While extended-stay hotels have recovered quite nicely since COVID, we see above-average valuation appreciation opportunity there due to the very high interest from an investor’s perspective,” he said.
HVS anticipates transaction activity to increase “quite a bit” from its current level, he said.
High interest rates are putting downward pressure on hotel values, Rushmore said. Cap rates aren’t expected to decline over the next three to four years, and equity yields will remain stable. Net operating income growth will vary depending on hotel class, location, the facilities, amenities and other factors. Inflation doesn’t have a positive or negative effect on hotel values.
The low level of new supply coming in will help the valuations of existing properties, he said. As part of its feasibility studies, HVS measures the entrepreneurial incentive for developers, looking at returns on a new hotel. Averaged out on an annualized basis, the incentive was in the upper single digits between 2014 and 2018, but there was a sharp drop to the low single digits in 2019, and it hit an all-time low in 2023. Another way to look at this is how many developers receive a first-year entrepreneurial incentive. The percentage without a first-year incentive remained in the low single digits until 2019, when it jumped to 52%, and the following years bounce around 60%.
“There’s really not a lot of incentive for developers to build, and that will clearly be good for existing hotel owners,” he said.
HVS' survey on hotel industry sentiment, conducted twice a year, showed in the fall of 2022 that 80% of brokers were bearish about the industry. That has since shifted to 50%.
A high interest in extended-stay hotels was also expressed by 80% of the brokers. That was followed by select-service, limited-service and resort hotels. Convention and full-service hotels received the least amount of interest.
Luxury, full-service and select-service cap rates increased by 90 basis points compared to a year ago, he said. Limited-service and economy hotel cap rates rose by 20 basis points.
“Clearly there’s a concern about risk, probably largely due to higher interest rates causing an increase in those cap rates,” Rushmore said.
There’s a tight spread between the going-in cap rates and exit cap rates, a sign people are feeling more bullish about the future than present times, he said. Discount rates have increased across the board by 60 to 80 basis points from a year ago, reflecting the higher cost of capital and other perceived risks out there.
Compared to pre-pandemic levels, equity yields decreased substantially in the transactions of full-service and luxury hotels, remained flat for extended-stay and select-service hotels, and decreased for limited-service hotels.
Operating under the assumption that anyone acquiring a hotel now will get financing and then refinance in four years, HVS assumes the initial financing will have a loan-to-value of about 60% with an interest rate of 9% and equity yield of 16%, deriving a 12.7% property yield of 10.75% overall discounting, he said. Four years later, the owner can refinance with an LTV of 70% with an interest rate of 5.5% based on the expectation interest rates will come down. That will result in an equity yield of 17% and 9.8% on the property.