Strength Of Demand Boosts Q2 Hotel Earnings

Hotel companies reported relatively strong second-quarter earnings, as increases in average daily rates and continued traveler demand against stagnant supply growth underpinned revenues, which may signal tougher negotiations for travel buyers once the bargaining season gets fully underway later this fall. One hotel company accounted for lower-than-expected earnings with higher operating expenses and recent renovation costs, which pared otherwise healthy revenues.

On the same day Wyndham Worldwide announced its spin-off from Cendant Corp. as a pure-play hospitality company, Hilton announced second-quarter profits slipped $58 million, compared with the same period last year, to $144 million. Hilton attributed the decrease to rising insurance and energy costs and renovations in three of its majority-owned properties, including Manhattan's Waldorf-Astoria and the Hilton Hawaiian Village. "Costs are inflating," said Deutsche Bank analyst Bill Lerner.

Although Hilton's second-quarter total revenue of $2.2 billion easily eclipsed the $1.2 billion it accrued during the same period last year, expenses leapt $1.9 billion. Yet, Hilton CEO Steven Bollenbach remained unfazed by the missed projection and said the company would proceed with the imminent development of its limited-service brands in markets outside the United States, an initiative promised after acquiring Hilton International back in February.

Hilton also announced that, hand-in-hand with populating its select-service brands worldwide, it would divest itself of several of the properties it obtained in the Hilton International deal.

Hilton's second-quarter revenue per available room in owned hotels worldwide did grow by 9.3 percent, and the company expects full-year RevPAR growth to be between 9 percent and 10 percent. "Continued strong demand trends and pricing power resulted in high single-digit or double-digit average daily rate increases at many of the company's gateway hotels around the world," the company said. "Business transient and group segments each showed significant ADR improvement." Added Bollenbach: "We are in markets where supply is simply not a concern. Even with the various upsets in the market, I just don't see a big impact on us going forward."

In agreement with Bollenbach was Steve Rushmore, president and founder of HVS International, a global hospitality consulting organization. While operating costs may be escalating, increased room rates are absorbing much of the hotels heightening costs; and while operating costs are going up, they are unlikely a cause for hoteliers to raise rates. "Hoteliers do not raise rates to cover rising operating costs," Rushmore said. "They raise rates when they think the market will enable them to do that—it is the capitalistic way. With supply increasing slower than demand and high occupancies raising room rates, it's fairly easy. Operating expenses are rising, but room rates are increasing even faster. I don't know of any hotelier that is upset with the state of the U.S. lodging industry."

Meanwhile, Starwood Hotels & Resorts last week said that its profits quadrupled in the second quarter, buoyed by higher room rates, increased franchise revenue and the sale of real estate to Host Hotels & Resorts. Starwood's disposal of 33 properties this year helped realize a net second-quarter profit of $680 million, compared with $145 million at the same time last year. A one-time tax benefit from the sale of the hotels bolstered the company's earnings, and Starwood CEO Steven Heyer intimated that the company was looking to sell even more property, with 15 hotels now on the market.

Starwood also said worldwide RevPAR grew 11 percent and domestic room rates were up 10.3 percent year over year to $182.51.

Starwood's room rate hikes were in line with Marriott International's rate bump, which came in a shade under 9 percent and helped propel the company to a 35 percent rise in second-quarter profits. Net income for the Bethesda, Md.-based hotel operator rose $48 million from the same time last year to $186 million for the quarter. "They are pretty solid across the board," said Susquehanna Financial Group analyst Robert LaFleur. "Certainly no sign of a slowdown in their business." Marriott's systemwide North America revenue per available room grew 10.7 percent in the quarter, largely credited to the shift in average daily rates. "Higher effective room rates resulted from both price increases and improving customer mix," said Marriott CEO J.W. Marriott Jr., noting a noticeable increase, like Starwood, in business transient and group demand.

Marriott's second-quarter numbers coincide with the company's recent announcement that all of its United States and Canadian inventory would turn smoke-free beginning next month. "Marriott's choice to go smoke-free will save them a lot of money due to the high costs of cleaning designated smoke rooms," said Kevin Maguire, director of global travel services at Applied Materials.

A purveyor of predominately midprice brands, Choice Hotels International chimed in with propitious second-quarter numbers, in large part thanks to occupancy that grew 110 basis points compared to the same time last year. Choice also realized a 5.7 percent average daily rate growth, which supported a 7.7 percent rise in domestic systemwide RevPAR. All the increases led to a net income of $24.1 million for the quarter, a 12 percent jump from the same quarter last year. "We continue to focus on brand enhancements and are seeing strong growth in occupancy, average daily rate and RevPAR," said Charles Ledsinger Jr., president and CEO of Choice Hotels International.

Choice's pipeline is up 45 percent from the year before, year-to-date contracts for new construction hotel franchises are up 14 percent and it continues to sign contracts to roll out its new select-service, lifestyle brand, Cambria Suites. "We believe that the inherent strength of our business model, the ongoing improvements to our core brands and the expansion of our newest brands will enable us to drive top-line and bottom-line growth in a variety of economic cycles," Ledsinger added.

Atlanta-based PKF Hospitality Research warned that escalating costs, specifically maintenance, could pose problems for hoteliers down the road.

"The trend line for this expense is definitely going up," said Robert Mandelbaum, director of research information services. "Maintenance expenditures may not receive a lot of attention from hotel managers, but they are slowly becoming one of the fastest growing costs of operation."

According to a recent PKF study, from 2001 to 2005, hotel maintenance costs grew by 18.3 percent, which was 33 percent higher than all other hotel operating expenses during that period.

Moreover, the upswing doesn't even take into account the expansive property renovations hotel companies like Hilton are undertaking, which were put on hold during the industry downturn but resuscitated when the hotel industry spun back to profitability. "The rise in maintenance expenditures cannot be assigned to the recent surge in owners fixing up their assets," said Mandelbaum. "It is simply costing hotels more to repair furniture and equipment, cut the lawn and replace holes in the carpet."