Just as real estate will lag beyond the recovery, so will the hotel segment lag behind real estate. The result may be good news for would-be investors, bad news for owners waiting for values to return.

What all of this means for investors really depends on what buys are grabbing your attention. Stock investors may want to hold off a bit longer. But for investors in hard assets, '04 is shaping up to be a time of increased opportunities--even as owners bite their nails, waiting for values to inflate once again. One man's meat, after all . . .

"We saw a surge immediately following September of this year, but what we did not see was a continuation of that surge. The numbers just flattened out."

There are a few reasons for this failure to re-ignite. "The effect of traveler concerns is actually increasing," states Bjorn Hanson, PriceWaterhouseCoopers' global hospitality and leisure industry leader. At the firm's seventh annual US Lodging Industry Briefing this month, Hanson noted that travel concerns have played a larger role this year than many anticipated and the stranglehold it has on the industry won't let up in the short term. Some "30% to 40% of the total occupancy decline for 2002 came at the hands of these travel concerns."

He explains, however, that while the impact of these concerns is growing, the fear of flying itself is not. At least so far. "As the economy recovers," he notes, "a larger portion of the drag on lodging will be due to travel safety and convenience. The fact that this continues to influence the forecast suggests it will be a long-term effect. It will be into 2004 before the industry will feel like it is experiencing any sort of turnaround."

In addition to the business travelers' reticence and the safety issues, Smith--whose firm provides historical data to PwC for its lodging forecast--adds other downward pressures to the picture. "Occupancies were depressed in 2002 because we continued to add hotel rooms," he said. The other problem is that room rates, which historically dip only for a short period during major crises--such as the Gulf War or the energy crisis of the '70s--have fallen for 18 consecutive months. "That's a problem."

Indeed, the numbers are a problem. Overall occupancy for 2002 has been pegged at 59.3% compared to 2000's 63.6%. Year-to-date figures ending in October reveal that just three of the top 25 markets could boast any headway in occupancy. Only Nashville, Philadelphia and Norfolk were in the plus column with 0.5%, 2.8% and 6.2% improvements (respectively) over October '01 YTD.

The most serious losers in the occupancy race were Houston, which logged an 8% decrease over last October, and San Francisco, which dipped more than 7%.

With occupancies down, RevPAR could fare no better, and Hanson in his industry briefing explained that 15 of the top 25 markets experienced declines of 5% or more.

"To put that into perspective, those top 15 markets represent 23% of the supply," he reported.
In terms of

those continually dropping room rates, 2002 saw a drop of 1.6% over the 1.2% decline the industry sustained in 2001.

Yet, while rates are dropping, the number of rooms continues to grow. "For 2002," says Hanson, "there will be 89,200 rooms finishing construction. It should be noted that there are also rooms being removed from service due to obsolescence--about 15,400. In 2003, the number of rooms completing construction will be 66,000 while the number of removals will be 20,700."

Breaking the sector down by product types, upper upscale is the biggest winner, having come back from the largest losses after Sept. 11, 2001. Q3 '02 saw a 12.4% spike in occupancy over last year's post-attack drop of 20.1%. That accounts for a total recovery of 61.7%. According to Hanson, that's where upper upscale will stay through most of 2003.

The upscale market snapped back by 6.1% in the third quarter of this year from its post-attack hole of 15.4%. This amounts to a total recovery of 39.4%. Hanson points out that this rebound is "amazing, because supply has grown 5% year to date."

The downward pressure will be felt more clearly in midscale with food and beverage, which has reported only a 2.2% occupancy jump in the third quarter of this year, as compared with the 13.4% it lost in the same quarter of last year. That makes for a relatively limp 16.3% total gain. "This indicates that there is likely to be a longer impact on this segment," according to Hanson.

Midscale without food and beverage garnered a 1.4% gain in occupancy in the recently completed quarter after suffering an 8.3% loss in Q3 '01. It's total recovery was only 17.4%.

Economy was the only sector that continued in a loss mode for the two comparable quarters. The '01 loss was 7.6%; the '02 drop was 1.8%.

So what's the bottom line for '03? "There are factors that support a rebound," Hanson states, "but most of them are not important to the recovery of lodging demand. Our baseline assumption sounds more like a disclaimer. While there will be some recovery in 2003 it will not be a very robust improvement."

For developers and investors, the marching orders for next year are clear, says Hanson, if one adopts the findings of the survey. "As far as development opportunities go," he suggests, "if you want to open hotels when the recovery is under way--well into 2004 and 2005--it is too early to begin construction, but it's not to early to start planning."

But for stock market investors returning to the street as the economy improves, a little more downtime might be wise. "Our research would indicate that there is no compelling reason to invest in hotel stocks now, although there are some micro-opportunities."

While stocks languish, investors in brick and mortar may want to start dusting off their checkbooks. "Generally speaking, the investment climate is fairly attractive from a buyer's point of view," comments Sean Hennessey, hospitality and leisure consulting director for PwC. "Earnings are down, which creates a lower pricing profile. Also, there's another, psychological consideration. Because the industry is weaker, there are fewer investors out there. The fewer people there are to bid on a property, the less they tend to bid the price up."

Nevertheless, Hennessey predicts a slight closing in the bid/ask spread for lodging properties in '03 since "the industry will be a year removed from Sept. 11 and the earnings will have returned a bit more to normal."

Not necessarily, offers Hanson: "If the government entities start borrowing, there will be more demand for capital, and interest rates will go up as a result. It lowers the value of hotels in two ways: the cost of capital increases, and it affects the profitability of hotels because they have to pay a higher debt service. So the properties are worth a little less. It would be a good time to sell, except most sellers already believe their properties are undervalued. It's possible that the bid/ask spread will increase further."

What's your opinion about the issue you just read? Please Email your thoughts to: [email protected]