BROOMFIELD, Colorado and HENDERSONVILLE, Tennessee—Last year, as we witnessed declining roomnight demand in oil and gas regions of the United States, we warned about the potential risks if oil prices remained low.
Now, after more than a year of weak oil prices, we can see the fallout as roomnight demand in these areas wanes and supply growth continues on its strong upward momentum. As prices declined in late 2014 and early 2015, the number of drilling and fracking operations decreased, but U.S. oil production overall continued to grow, albeit at a slower pace. However, oil production saw year-over-year declines in February and March this year, which were the industry’s most measurable declines since 2008 and another bad omen for a potential turnaround in roomnight demand.
Over the past five years, oil and gas regions accounted for 20% of the new hotel rooms developed in the United States. Driven by the country’s effort to become less dependent on foreign oil, the energy sector had a rosy long-term outlook between 2009 and late 2014, and consequently developers flocked to many of these areas to build in these small, room-starved regions. However, now there is a glut in the world’s oil supply, and that is having a noticeable impact in the U.S. where oil is more costly to produce.
Of the 630 U.S. hotel tracts delineated by STR, we identified 39 submarkets that are primarily driven by the oil and gas industry. Of those, 20 submarkets account for the vast majority of hotel rooms and accommodated demand. (STR is the parent company of Hotel News Now.)
Source: STR
Major Oil and Gas Tracts: North Dakota Area; Kansas Area; Oklahoma West Area; Oklahoma City North/West, Oklahoma; Oklahoma East Area; New Mexico South Area; Texas West Area; Abilene/Central Texas Area; Texas East Area; Midland/Odessa, Texas; Houston North/Woodlands, Texas; Katy Freeway West, Texas; Houston East/Baytown, Texas; Texas South Area; Louisiana North Area; New Orleans East/Slidell, Louisiana; Louisiana South Area; Ohio South Area; Pennsylvania Central Area; West Virginia North Area.
As gas prices climbed ever higher, employment increased and demand for new rooms skyrocketed. It is probably not a surprise to observe that the supply and demand changes over the last few years were rather dramatic.
Room demand changes in the submarkets have been negative since March 2015 and decreased more than 10% successively in the last three months ending January 2016. The negative impact of the last few years is only the latest roller coaster change in revenue per available room as the oil prices and supply additions caused hoteliers euphoria in the mid-2000s and heartburn in the more recent past.
Since the end of 2010, an average of 7,500 new rooms opened in the major oil and gas submarkets annually. Through the first quarter of this year, 1,376 rooms entered the market and another 6,639 are under construction and slated to open by the end of the year. (Yes, that’s more than 8,000 new rooms this year, too.) And while development is expected to taper, 2,466 rooms are under construction for scheduled openings in 2017. More than 7,000 rooms are in the final planning stages.
The decline in demand can easily be traced back to the price of oil. As oil prices hovered around $100 per barrel, new oil and gas wells needed additional workers and offered employment for many. But the lack of accommodations in the rather undeveloped areas of the U.S. forced workers to, in the beginning, sleep in their cars and then in “man camps” until finally hotel development caught up with the rapid demand.
But as much as room demand increased when oil prices were high, it waned quickly when oil prices decreased rapidly in 2015.
As the graph below illustrates, demand and supply trends are going in opposite directions, and not in a positive way. This trend will continue until there is a turnaround in production, which will likely require a solid boost in oil prices. As of right now, experts do not believe the price of crude oil will rebound to the preferred $80-plus range for at least a few years.
With supply and demand trends creating a negative dynamic, hotel performance in the major oil and gas markets is suffering. RevPAR growth began to decline in early 2015 and then started to freefall by mid-year. RevPAR for these submarkets is down 14.2% over the trailing 12-month period and down 18.4% through the first quarter of 2016, essentially erasing most of the robust gains made during the economic recovery.
The impact of these underperforming submarkets can be seen in the national numbers. When excluding 20 oil-producing submarkets from the total U.S. numbers an interesting picture emerges:
The total U.S. RevPAR increase was meaningfully (+10%) better when excluding the oil-producing submarkets.
If oil prices remain low, oil production could continue to slide in the oil-rich areas because many of the drilling operations are not profitable at the current price levels. Consequently, employment numbers will dwindle further along with roomnight demand.
The foreseeable future for the hotels in these markets is extremely bleak barring a miraculous turnaround for the energy sector, which is largely dependent on global factors beyond the control of the U.S. That said, oil prices change course quickly at times. Just as prices plummeted quickly over the course of just a few months, they can skyrocket just as unexpectedly. However, hope is not a comforting strategy for hotel investors in these tertiary markets where the ability to induce other forms of roomnight demand is negligible.
STR will continue to observe if and when oil prices recover and how room demand reacts to the change.