With the pipeline for new hotel construction reaching record lows this year as a result of the sustained weak economy
(BTN, Aug. 25), major publicly traded hotel companies have faced a similar predicament: If they are going to expand at the pace shareholders expect, growth will have to derive much more from conversion activity than it would have as recently as three years ago. Reflecting this trend, when Marriott International this month announced third-quarter earnings, chairman and CEO J.W. Marriott Jr. said that, thanks to conversions, the company this year remained on track to add more than 30,000 new rooms to its system from all sources. "We continue to see heightened interest in converting competitor brands to our brands," he reported.
Data compiled by Lodging Econometrics, a Portsmouth, N.H.-based tracking firm, confirmed exactly how significantly conversions have increased from 2001 to 2003. In 2001, for example, there were 383 completed conversions among U.S. hotels across all price points, accounting for 47,317 rooms. One year later, the number of conversions jumped to 570, representing 66,819 rooms. For 2003, statistics through the third quarter suggested the trend was maintaining momentum, with 394 completed conversions, amassing about 47,470 rooms.
"When new hotel development is as slow as it is right now, there's no question conversions accompanied by renovations increase," said Lodging Econometrics manager Peter Gluckler. "With room demand low, especially from business travelers, rate structures have weakened, which meant revenues suffered. So, developers, not wanting to have a surplus of rooms, were more apt to acquire existing hotels, refurbish and rebrand them."
Typically, conversions are one of three types. Independently owned and managed properties want the added name recognition—as well as marketing clout—that comes from converting to a national brand. Similarly, the owners of a branded hotel may believe their current affiliation is not generating the desired occupancy levels or room revenues and switch to the flag of a competing hotel company they believe can produce better results. In the third scenario, which is much more of a rarity, a hotel undergoes major renovations and service upgrades and converts from one brand to another, higher price-point brand within the same hotel company.
Two years of consistently bad returns have made many owners ripe for a change. "Some existing hotels, whether they're independent or branded, haven't weathered the downturn well, regardless of price point. They've struggled and their owners now feel they need new life," said Dave Horton, senior vice president of brand management for Doubletree Hotels.
At Doubletree, which is part of Hilton Hotels Corp., the number of conversions in 2003 is up to the point where rebranding represents 70 percent of the brand's growth for the year, an unusually high percentage. That 70 percent breaks out as roughly 40 percent of converted properties having been independents and 30 percent representing conversions from other brands. New construction accounts for the remaining 30 percent of Doubletree's expansion this year, with Toronto, Richmond, Va., and Berkeley, Calif., among the markets affected.
The conversion of hotels can be problematic for corporate hotel programs, especially if the property involved is popular with a corporation's travelers. Often, there is not sufficient advance warning for buyers to communicate the change in flag to travelers. Plus, the conversion disrupts vendor relationships that the buyer may have spent years developing.
However, at a time when the cost of securing financing for new construction can be prohibitive, acquiring and converting existing properties makes sense for hoteliers. This particularly is true when an entire portfolio can be converted. When Homestead Studio Suites, for example, this summer acquired 17 MainStay Suites and converted them to its own brand, president and CEO Gary DeLapp said such deals especially were attractive right now because the environment for new construction simply was too uneconomic. In one fell swoop, the extended stay brand picked up added distribution in key markets where it was underserved, such as New York, Boston and Miami.
The same realities have prevailed at the upper upscale and deluxe price points, though here the conversions have been one property at a time. Compounding the situation at these price points, most development occurs in gateway cities where the barriers to entry have been an obstacle long before the economy soured and financing dried up. At the same time, however, if financing is available, there might be bargains to be had.
"We've identified the U.S. markets that are a priority for us and, depending on the particular city, we make a decision on how to proceed based on the cost of building versus the cost of reflagging, assuming the right asset is available," said Andrew Clark, regional director of sales and marketing for Fairmont Hotels & Resorts, which in August assumed management of the former Four Seasons Olympic in Seattle and rebranded it a Fairmont. The chain pursued the same strategy this year and last year in Washington, D.C., and Hawaii. "In each case, the barriers to entry for new construction were substantial and would be time-consuming."
The addition of the Seattle property made sense strategically in terms of Fairmont's overall portfolio. "We weren't present in the Pacific Northwest, it's a link down to our established hotel in San Francisco and up to our Canadian properties on the West Coast," Clark said.
Like Fairmont, Starwood Hotels & Resorts Worldwide completed a high-visibility conversion early this year when it converted an independently managed meetings destination, Our Lucaya on Grand Bahama Island, into not one, but two of its brands. "When we first came in and examined the whole property, we identified that there were separate buildings with distinct features that would cater to different types of meetings, as well as leisure travelers," said managing director Harris Chan. "Consequently came the decision to brand certain facilities a Sheraton and other facilities a Westin." Some facilities, however, are shared by all guests.
According to Chan, the appeal to meeting planners is that they can book "a group at one brand, but their attendees would enjoy the benefits of both." Chan said the positioning had met little resistance, particularly among planners booking the Westin, which is positioned at a higher price point than the Sheraton.
The Course And Cost Of Reflagging
In the same way owners opt to reflag their hotels for different reasons, the timing of the changeover varies. "It often appears that the reflagging occurred overnight, but that's not the case. The dialogue on these deals can go on for months before a transaction is completed. Frequently, buyers don't even know about it until the announcement is going out and the reflagging already is scheduled for the following month," Doubletree's Horton said. In some scenarios, hotels close entirely in anticipation of a reflagging. "On the one hand, you have hotels with good bones, but they need a significant amount of work before they'll measure up to the new flag's expectations. These are the properties where the owner just shuts down for up to a year," he said.
Other properties, however, can get by with a much more modest overhaul. "A lot of the work on these hotels is cosmetic. It can last six months but isn't so extensive the property has to close its doors. Then there are still others where the job can be done in 90 days. Certainly, when shutting down the property is required, owners are motivated to move quickly because time is money," Horton said.
Every chain has its particular brand standards. At Fairmont, for example, properties feature executive club floors. By contrast, Four Seasons, another deluxe brand, does not have such a requirement. Consequently, plans are being drawn up to create a club floor in Seattle, though the hotel was rebranded a Fairmont without it. Such in-room amenities as coffee makers, irons and ironing boards, which Four Seasons also does not include, are brand standards at Fairmont and were added to guest rooms before the flags officially changed. To suggest the extent of this aspect of the transition, Clark noted that "12,000 items came out of the hotel during this period, but 18,000 new items were put back in."
At Our Lucaya, both Sheraton and Westin have distinct brand standards. "We worked with both brands during the transition," Chan said, "but, inevitably, there were some gray areas where the standards overlapped. In the end, we came up with our own hybrid."
In other instances, having one clear set of dos-and-don'ts to work from has proven highly beneficial. The Best Western Tuscany Suites in Las Vegas, for example, was independently managed when it opened in 2000. Like Our Lucaya, it has significant meeting space targeted to corporate groups. It joined Best Western, which is a membership association as opposed to a traditional brand, at the end of last year.
"Best Western has standardized resources we were glad to have, including clearly defined brand identity and guest amenity standards," said Ed Brown, director of operations. "As an independent property, one of the things that kept service levels from improving was that there was no single set of marching orders. Rather, they were an amalgam of the combined experience of various senior managers."
One aspect of a conversion where there is no leeway for flexibility is with the electronic property management system. Except where the conversion entails brands of the same hotel company, changes in the PMS are a strictly enforced requirement. "The technology platform has to be consistent with the new flag's platform. Just installing a new PMS can take most of the 90 days that hotels—at a minimum—need for upgrading," Horton said. "We can't deliver bookings to the property from the central reservation system without it."
Once the reflagging is official, brands have an obligation to promote the news to both travel buyers and travelers. "First, we established communication with our own national accounts to let buyers know we now have a flag in Seattle, where they can book their travelers," Clark said. "There tends to be a heightened degree of scrutiny on the hotel as soon as the coming flag change is announced. People generally are intrigued."
At the same time, the incoming brand has the opportunity to capture corporate clients of the previous brand, especially when that brand no longer has a hotel in that market. Such was the case with Four Seasons. "It's to our advantage to let them know who we are and to assure them service standards will remain as they were," Clark said.
With conversions, by definition, entailing some degree of renovation, Horton said the trend long term was a positive development for the hotel industry. "Conversions are actually a good thing for buyers because when hotels convert they have to commit to some degree of improvement," he said. "It's the only way some properties get upgraded."