Hotel Developers See Recovery And Even Growth Up Ahead, At Least For The Right Markets
After a long hibernation, players in the hospitality industry have started to awaken.
Notwithstanding this summer’s rise of the delta variant, the worst of the coronavirus pandemic seems to be in the past, and many are ready to begin gauging where and when it would be appropriate to kick-start development. But like any sector emerging from a collapse in demand, hotel developers are proceeding with caution.
“It’s very challenging right now to justify ground-up hotel developments in most markets,” Oxford Capital Group Chief Operating Officer Sarang Peruri said. “We really have a market-to-market strategy because there are so many nuances involved.”
With the return of domestic tourism over the summer, confidence in select cities and regions has soared, and some hotel developers have already put shovels in the ground. Even in areas more dependent on international tourism, business travel and conventions, which are coming back more slowly, developers are getting new projects underway. Although these efforts are more likely to be renovations or adaptive reuses of existing properties, some developers are breaking new ground, a sign that faith in a full, if belated, recovery is beginning to form.
“Drive-to coastal leisure markets, such as Los Angeles and Florida, are on fire and most of them are doing even better today than they were in 2019,” he said.
Florida’s recovery began before summer arrived, with Tampa reaching an occupancy level of 77% in April, the highest of any large city and just below its April 2019 performance, according to STR data. Miami came in second that month at 72%, and it recorded an ADR of $233.80, a 6.9% boost over its rate in April 2019. By June, a total of eight of the top 25 markets, including Los Angeles, surpassed 70% occupancy.
Peruri said Oxford senses opportunity in Los Angeles, specifically Hollywood. The Chicago-based firm opened The Godfrey Hotel Hollywood in late August, and it expects its amenities, especially a 12K SF rooftop venue, will keep the 220-room ground-up development packed with visitors.
“It’s going to be a highly profitable project,” Peruri said.
But a ground-up development like this is something Oxford will rarely pursue, at least as long as the delta variant continues to hover, he added. Hollywood is uniquely suited for new construction for two reasons: Nearly two-thirds of its hotel users are leisure travelers and its business travelers are mostly from the entertainment industry, a sector that has suffered far less than most traditional office users.
“Netflix and other entertainment companies are booming right now, and much of their content is being produced in Hollywood,” Peruri said.
NewcrestImage CEO and Chairman Mahul Patel said he agrees it now makes sense to launch new projects, at least in certain cities.
“Delta dented the growth trajectory everyone was hoping for,” he said. “But many markets are doing just fine.”
One factor strengthening Patel’s hope for the future is the industry’s summer performance, he added.
Even without the shot in the arm typically provided by international travel, hotels were able to partially recover from the crisis. Overall U.S. hotel occupancy hit 70.1% in the last week of July, according to STR, or 6.2% points lower than the same week in 2019. Although ADR was a bit lower than in 2019 when adjusted for inflation, in the month of July U.S. hotels surpassed the profits they earned during the same month in 2019.
As long as vaccination programs continue to immunize more of the U.S. population and new variants are kept at bay, offices will start to reopen, Patel said. And even if it is for just two or three days a week, that will help reignite the business travel sorely missed in Chicago and many other markets.
“I think we are on the right path for growth in the hospitality space,” Patel said. “We saw this summer that better days are ahead of us.”
That has led to a bullish attitude among lenders, equity providers and developers, as long as it’s the right project in the right market, he added.
“All three groups are coming together and saying, ‘this is the right time to build,’" Patel said.
His Grapevine, Texas-based firm kept building through the pandemic. It opened a 150-room Canopy by Hilton Hotel in suburban Dallas in June 2020 and, in early 2021, opened both a 199-room AC Hotel by Marriott at Arizona Center in Phoenix and a 152-room Hilton Garden Inn at the SilverLake Crossings mixed-use development in Grapevine.
According to July pipeline data from STR, nearly 189,000 hotels rooms were in construction across the U.S. Although that’s a drop of about 32,000 from the peak reached in April 2020, another 200,000 rooms were in the final planning stage and initial planning had begun on another 265,000. New York led with 21,000, followed by Los Angeles, Las Vegas and Atlanta, which all had between 5,000 and 7,000.
“While the number of rooms under construction continues to decline year over year, those in final planning have actually increased for two consecutive months,” STR Senior Vice President of Consulting Carter Wilson said in a press release. “The same is true for rooms in the planning stage, although rooms in this phase are the least likely to reach fruition. The Federal Reserve has set a soft date for interest rate increases, so developers looking for low rates may push for loans over the next two years.”
In Chicago, developers have about 1,500 new rooms for eight hotels underway, according to a September report in Urban Land Magazine, the Urban Land Institute’s publication. An additional 3,700 hotel rooms in a total of about a dozen projects are planned.
But new ground-up construction of hotels is now rare in Chicago, and likely to remain so, according to Oxford’s Peruri.
“I don’t know if it will make sense in the near future, for us at least,” he said. “I don’t view Chicago as having a shortage of hotels rooms, so it’s tough for most institutional investors to justify it.”
The city’s hotels typically drew a diverse set of customers before the pandemic, including lots of business travelers, convention-goers, tourists and other group travel, so it wasn’t hit as hard as places like San Francisco that depend heavily on sources that have dried up, such as international tourists. Yet the damage caused by the Covid-19 crisis still means Chicago developers looking to create hotel rooms will most likely adopt strategies less costly than ground-up construction, such as the adaptive reuse of existing buildings.
“Because it gets a lot of drive-to leisure, Chicago is still great in the summer, so it lands somewhere in the middle of the pack,” Peruri said.
That’s why Oxford Capital Group will stick to less-expensive methods of growth in the Chicago market, including acquiring existing hotels or launching adaptive reuses of other properties, he added. In August, the company bought the 247-room luxury Thompson Chicago in the Gold Coast neighborhood, which opened its doors in 2013. Even before the pandemic, the company was known in Chicago for adaptive reuses, including transforming a Near North Side SRO into the 225-room Hotel Felix, as well as creating LondonHouse Chicago Hotel out of the nearly 100-year-old London Guarantee Building at Michigan Avenue and the Chicago River.
Other veteran Chicago developers have adopted similar strategies. John Murphy of Murphy Development Group picked up the Holiday Inn Chicago Mart Plaza for the bargain price of $23M, or about $43K per room, according to a June report in Crain’s Chicago Business. He plans to spend around $40M revamping the 522-room hotel.
Adaptive reuse projects are also going forward. This month, Phoenix Development Partners is finishing up its historic renovation of 226 West Jackson Blvd., the former headquarters of City Colleges of Chicago, into two separate hotels — the 135-room Hilton Garden Inn Central Loop and the 215-room Canopy by Hilton Chicago Central Loop.
Still, even in Chicago, some developers, including Reschke, are willing to take a risk on ground-up new construction. The Prime Group got approval in August from city council to start construction on RIU Plaza Hotel Chicago, a 29-story hotel for RIU Hotels & Resorts at 150 East Ontario St. in the Streeterville neighborhood.
Reschke said it’s a unique situation and RIU’s involvement means the project actually faces little risk. The Spain-based RIU is affiliated with a travel agency, so the new hotel will have a direct pipeline to foreign tourists looking to visit Chicago.
“It’s a great thing for the city because they will be bringing groups of tourists to Chicago that otherwise wouldn’t be here,” he said.
Other than special cases like RIU’s hotel, the appetite for all-new Chicago hotels will stay modest, Reschke added. He forecasts that with the return of conventions and some corporate travel, local hotels will win back 85% to 90% of the business they had in 2019, and their revenues per available room could get back to 2019 levels by 2023.
Furthermore, even if business travel mostly comes back, about 25% of it could be permanently replaced by Zoom meetings: “If you could have a one-hour Zoom meeting instead of spending time traveling back-and-forth from New York, why wouldn’t you do it?”
Reschke said he’s not worried about Chicago’s lack of new construction.
“Overall, it’s going to be good for existing hotels," he said. "They can start climbing out of the hole we’re in instead of new supply making things worse.”