Understanding your business partner

31st October 2011 (Last Updated October 31st, 2011 18:30)

As the hotel industry gets back on its feet in wake of the recession, operators are under pressure to ramp up returns

Understanding your business partner

Before the real estate bubble burst in late 2008, the hotel industry was in the midst of a boom period with operators and investors enjoying year-on-year profitability and incremental revenue targets. This led to an increasing number of property investors adding hotels to their investment portfolios as they chased record returns and rising asset values.

The subsequent global recession saw the US and European hotel markets struggle. Even the Middle East, initially impervious to the downturn, eventually subsided to the pinch after a 15-year surge. While asset management had remained a concern for investors, according to Alex Mavridis of Deloitte, it has taken particular precedence over the last three years.

"In the past, operators would look after the hotels and simply hand over the cheque to the owner," he says. "However, when returns diminished, owners started asking questions. Suddenly, there was an awareness that operators did not possess all the answers – that’s why asset management has taken a greater focus recently. In tough times it’s natural to concentrate more on these sorts of matters."

"When the recession hit, we saw many hotels drop their rates to hang on to customers"

That is why professional services organisation Deloitte launched its asset management team last year to provide more support and advice to owners. However, the concept is not novel; its origins date back to the 1970s in the US, when responsibilities began to be divided between owners and operators. In the post-recession era, the European markets are also beginning to place a greater onus on hotel asset management.

"There are more institutionalised investors in the US," says Mavridis. "However, we are seeing more of this on the Continent, particularly in the UK, which has witnessed more asset management coming into play. Most major hotel investors, wherever they are in the world, have asset management integrated into their structures."

Weathering the storm

Having weathered the worst of the storm, the hotel industry is now showing signs of recovery. According to Mavridis, the next step for operators in galvanising revenue lines will be tackling the quandary of how to lift rates in a sustainable manner without alienating customers.

"When the recession hit, we saw many hotels drop their rates to hang on to customers," he says. "So, we saw rates fall across the market. You have to remember that it is easier for rates to fall than it is for them to rise. No customer complains if you drop your rates by 30%, but if you turn around the next day and lift them 30%, the situation is very different.

"It’s an incredibly complex process these days. Most big operators have their own rate or yield management programmes in place covering demand by days of the week, special events, minimum booking periods and different rate categories for large volume or contracted business." Mavridis adds.

"Define what you want to do with the asset, work out where you want to position it, and decide how you are going to do it"

"If you visit a large hotel company’s website, you tend to see dynamic rate policies, not too dissimilar to those applied by major airlines. That is very much a case of pricing driven by historical trends and current demand. Once a hotel has this structure in place, you can then work to increase your rate."

Another hot topic concerns the implementation of long-term investment strategies, particularly regarding the hotel’s real estate and day-to-day maintenance. "Cashflow is important, when times were tough and cash wasn’t as readily available, capital expenditure and hotel operating costs were cut. In some cases, this had a notable impact on the quality of the asset and consequently hotel performance."

It appears that while owners were allowed a fair amount of leeway in terms of slippage during the recession, this flexibility has now reached its limit. With operators also demanding improvements to meet brand standards, Mavridis said that the current situation demands a clear strategy in compartmentalising expenditure and costs.

"Every brand is different and has its own requirements," he says. "It is a real balancing act between operators, owners and the market in terms of what needs to be done and how much capital you have. In terms of deciding where to spend, it can often be the case that the operator’s view may differ from what the market demands."

Testing the bond

Despite hotel asset management presupposing that the ownership and operations of hotels are two separate entities – often referred to as the bricks and the brains respectively – strong relationships between stakeholders have always been essential. Over the last three years, this bond has been challenged through the increasing involvement of banks.

"Due to the economic circumstances, in many cases banks have, in effect, become owners of hotels," says Mavridis. "Historically, lenders tended not to be active participants in the business, but in today’s market, their need for greater involvement is crtitical. From both an owner’s and operator’s perspective, this can be a challenging situation.

"In terms of management, this can lead to conflict, with operators encouraging expenditure or prioritising limited capex funds for brand standards, while lenders are less willing to do so. You then have the owner in the middle with the sole interest of protecting the value of the asset. This balance will continue to be a challenge for owners until cashflow improves and asset values rise."

"It’s all about understanding the needs of the stakeholders and clearly defining the goals for the asset"

However, there have been some causes for optimism. In Europe, gateway cities such as London and Paris are leading the recovery, attracting a steady influx of investors. Given the unpredictability of the markets, Mavridis says that successful hotel asset management will continue to rest on an entrenched long-term strategy.

"It’s all about understanding the needs of the stakeholders and clearly defining the goals for the asset," he says. "You have to bring together the relevant parties and come up with a strategy that works for all of them. The best way to do that is to define what you want to do with the asset, work out where you want to position it, how you are going to achieve that and get the right people on-side to execute the plan.

"It is important for operators to understand this as they run the day-to-day business. There are great opportunities out there. The key is to drive value by utilising the strengths of the operator and the asset manager to increase profits and position the asset for longer-term growth."