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elect-service hotels are hotter than ever, so it’s no surprise that they were the topic of conversation at the most recent Hotel Business Executive Roundtable, hosted by Starwood Hotels & Resorts Worldwide, Inc. Held at the Aloft Baltimore Washington International Airport, and moderated by Hotel Business’ Stefani C. O’Connor, panelists discussed why these properties are so appealing, how long that will last and the issue of amenity creep.
“What you’re seeing in select-service is the business model works,” James Merkel, president/CEO, RockBridge Capital, LLC, noted. “It’s really hard to build a full-service hotel in a lot of markets except for really high barrier-to-entry markets, and select-service is what the consumer wants. They continue to get built, and the cash flow is more consistent, so developers and owners can make money more consistently. It really comes down to being that simple.”
Al Calhoun, managing director, Jones Lang LaSalle Hotels & Hospitality Group, added that the appeal of the segment is a no-brainer for Wall Street. “Wall Street wanted to package vehicles for the consumer where they can get higher yields for their investments,” he explained, adding that they can buy select-service hotels at cap rates ranging from 7.5-8.5, and leverage those portfolios at 4-4.5. “You don’t have to be brilliant to see that’s a huge spread.”
Jeffrey Dauray, VP/acquisitions, RLJ Lodging Trust, LLC, noted that while his company is well capitalized, the underlying low-cost, first mortgage asset level financing is contributing “to the frothiness of the market.” He added, “It’s allowing
private equity to compete more aggressively for assets. It is driving cap rates down and there’s no question that within the top 16 or 20 gateway markets in the United States, the interest level of select-service has increased and pricing is more aggressive than it has been historically.” Teague Hunter, president, Hunter Realty Associates, Inc. agreed that everyone wants urban today. “Today’s limited-service is yesterday’s full-service,” he said. “This is our father’s full-service box.”
Urban markets
Benjamin Seidel, president/CEO, Real Hospitality Group, noted that hotels in urban locations have the added bonus of the attention of the brands, since “the dividends are so high there.” From his perspective, there are three major advantages to select-service hotels in urban locations: they appeal to a demographic who might not have come to those markets otherwise; the value per square foot can be better utilized than full-service boxes; and owners can move more quickly with the economy. “We can react quickly to the market today for tomorrow and raise our rates.”
While it’s true that Wall Street is extremely interested in select-service now, Allison Reid, SVP/development & acquisitions-North America, Starwood Hotels & Resorts Worldwide, Inc., posed a question to the group: “Select-service is the easiest and safest place to go for Wall Street. But they’ll go back to luxury hotels at some point or medical office space. What does that leave this sector with, and when?” Reid also questioned what happened to the players who traditionally served in the select-service market when larger institutional investors come in.
Gregory LaBerge, national director/national hospitality group, Marcus & Millichap Real Estate Investment Services, agreed that Reid’s question is one that has to be asked. “When money is cheap and the alternatives are few, everybody jumps into the pool,” he noted. “It drives cap rate, and there’s a significant cap rate compression exercise that happens.” He added that this makes it impossible to play in the larger markets, so smaller investors are driven into secondary and tertiary markets. “That makes it more and more difficult for the local person or the smaller syndicate to do business,” he said. “There are more offers on every deal, and it’s creating a little bit of a faux bubble.”
Reid noted that the deals are also larger, since institutional money doesn’t want just one hotel; they want a portfolio of them. “It seems to me like it’s a good time to sell,” she said. “What’s the other side of the cycle? How long does it last? When do you get out with what you’re buying today? And are these guys who are coming in with a lot of money and doing deals that others may not find that attractive, what happens when they pull out?”
Greg Miller, managing director, PM Hospitality Strategies, Inc., maintains it is a good time to be a buyer as well. “Occupancy is back to pre-recession levels. ADRs haven’t recovered, but they are recovering, so there’s still upside,” he noted. “So, quite honestly, it’s still a good time to be buying.”
Meanwhile, Hunter acknowledged that it’s possible Wall Street money may flow out, “but as long as they can borrow at four and buy at eight, they’re in.
It’s a great spread. They’re chasing yield, they’re coming to our industry and I love it.” Merkel also noted that it’s very difficult to invest in the hotel space with a hit-and-run attitude. “Our success pattern has been not to focus on the macro issues, but to focus on that deal,” he said. “What drives this one deal and does that produce a fair risk proposition and fair risk return proposition on that particular deal? If you look at the macro market, you’re going to miss opportunities.”
He also noted that with the current market, owners have to invest in their assets. “The market has come back, and there’s nothing you can do to an asset that needs money to change its trajectory. You have to recapitalize it.” Reid added that the brands and management companies were lenient during the downturn, but consumers don’t care about finances, especially as prices rise. “We can’t keep doing this because we’re losing the consumer and we’re all going to have a problem.”
On the other hand, Miller pointed out, “When brand standards change all the time, it’s frustrating. You can’t tell me the bed top every two years needs to be a new brand standard. Those things have to come under control. There are brand want-to-haves and there are brand standards.”
Merkel reasoned that this friction has been exacerbated by the design shift. “We’re in a unique period of change from the baby boomer to the Gen X and Y,” he said, “and that has created an inflection point that has caught you on the look and feel of your hotel. If you’re in a brand-new prototypical Hilton Garden Inn in ’06, today it feels like a really old hotel.”
Reid agreed that consumer expectations have been reset—not just in hospitality, but across the board, pointing to what Target did to Kmart as an example. “The brands are always trying to figure out what the consumer wants before they want it. There’s no one that bats a thousand.”
Melinda Griffith, SVP of development/acquisitions, Interstate Hotels & Resorts, summed it up: “No one will stay at the hotel if the description is it’s tired, it’s old and there’s dirty carpets.”
Another hot topic of discussion was amenity creep, and whether there is anything hoteliers can do to fight it. “That’s a concern,” Rakesh Chauhan, president/CEO, Banyan Investment Group, said. “At some point, all the new supply that’s coming online is predominantly going to be select-service. The question is how do we continue to keep that portion of that segment truly select as we continue to see that amenity creep? We don’t ever want it to get to a point where it’s not feasible or it’s not a good investment.”
“Our biggest competitive threat is always not our most knowledgeable competitor, it’s our least sophisticated,” Miller noted. “With this recession, we’ve seen some otherwise crazy ideas in terms of the select-service brands go away.” He also noted that amenities like free WiFi can be a problem if the quality isn’t there. “It’s not just the download, it’s the upload,” he said. “All these people that are now on Facebook and doing social networking and sending pictures to all kinds of sites, it’s an unbelievable amount of pressure on the other end.”
Merkel argued, however, that the consumer doesn’t care about that. “Our whole business model is trying to provide the consumer what they want for a price that we can make money. The consumer does not care about our margins. You can’t take things away from them. Once they have and want it, you’ve got to continue to provide it. That genie’s out of the bottle,” he said.
And Brian McGuiness, SVP/specialty select brands, Starwood Hotels & Resorts Worldwide, Inc., agreed, “You almost have to look at WiFi as a utility now. It’s like electricity. It’s an expectation from the customer and, particularly in this category, it’s viewed to be free. There isn’t any going back on that.”
Jatin Desai, chief investment officer, Peachtree Hotel Group, offered that it’s not just the consumers initiating the amenity creep, but the brands. “There’s a blur of brands now,” he said. “How different is SpringHill from Fairfield from Courtyard? And other brands as well. If the Hyatt offers something, the Fairfield in the same market has to offer it to maintain their rate or maintain their occupancy. The amenity creep is driven by this brand blur that’s going on.”
Miller clarified that, in his opinion, it wasn’t the brands, but the brands that hadn’t controlled the creep of particular ownership groups. “I’ve been on brand panels and then they’ll invite us to stay at one of their nicer properties, and you’re like, ‘how did they let this happen?’” he noted. “This guy is killing the whole brand image, and now the expectation of the customer is that we’ve got something that has a rooftop pool and this and that. It’s supposed to be select-service.”
Differentiation is key
“The owners have a lot to do with that,” Griffith agreed, noting that as a management company, owners wanting to trade their assets or purge their portfolios will underwrite a Hilton with 10,000 sq. ft. of meeting space as a DoubleTree or Hilton Garden Inn. “That’s impossible, but you will see these transactions starting to come around and sometimes, the brands are making the deals. They’re stretching the boundaries.”
As far as keeping up with the Joneses, McGuinness reasoned that brands shouldn’t be focused on changes that need to be made to grab the existing customer, but on finding the new customer. “We need to differentiate ourselves in some other way to find another customer who will come to our hotel,” he explained. “As we’re starting to push into Japan, we’re actually going back to the three-star model for Aloft. We don’t need to compete with Sheraton or Westin or Four Points there. We fundamentally believe there’s a whole new set of customers for Starwood who are not necessarily looking for full-service, and that will actually give us a broader customer base.”
Dauray noted that just the term amenity creep is always going to be contentious because what it implies is that there’s this never-ending stream of improvements that are required. But according to him, the select-service model is still fundamentally intact. “They’re not becoming full-service hotels. They’re much more able to address downturns because of the staffing model—they’re more resilient from that perspective.”
One area where full-service and select-service do tend to blend is overseas. “You have to be sensitive to cultural issues and nuances,” McGuinness noted, adding that at the brand’s select-service hotels in countries like India, they do have restaurants and room service “because women don’t eat alone. Based upon their religion, there are changes that we need to make.”
Reid added that Starwood learned a lesson from Sheraton, which had a very different perception internationally than domestically. “When you start getting into this brand blur, especially globally, it sets a different expectation,” she said. “The world is getting smaller and people are coming from all over so you don’t want someone coming from China or India thinking they’re staying at an Aloft and it’s going to be this luxury competing with Four Seasons.” Both McGuinness and Reid explained that Aloft treats its expanded overseas restaurants and meeting spaces like an extra. “The facilities are bolted on so it feels like the Aloft just happens to be next to a restaurant, much like in any urban environment,” McGuinness explained.
One thing was certain: All of the panelists were positive for the future of select-service. “The time is here, we’re the majority of the industry,” Calhoun said of the segment as compared to full-service. “We’re the one growing, we have the ROI. They’re not building full-service, and the average age of structure is getting older. There will be one day when the industry is select-service and the adjunct will be full-service because the model doesn’t work.”