Pressures Facing the U.S. Hotel Industry in 2017

"I wouldn't be surprised if it's sort of a schizophrenic year," PwC's hospitality industry leader Scott Berman said, referencing the unpredictable U.S. political climate, as well as economic factors. "There's no question that these first 12 weeks of the year will dictate how the rest of the year goes, barring any unforeseen circumstances."

Hoteliers are optimistic, though, at least more so than before the election. "As the Dow rose, so did confidence," he said. And early numbers from the fourth quarter appear to show an unexpected bump. U.S. average daily rate grew 2.6 percent to $122.25, and occupancy increased 0.6 percent to 60.7 percent, according to STR. "The fourth quarter gave us confidence to go back at it," Berman said of the industry.

That strong fourth-quarter performance, plus an improved outlook for 2017 GDP growth (2.3 percent), led PwC to revise its 2017 lodging forecast, pegging revenue per available room growth also at 2.3 percent. In November, PwC had projected 2017 RevPAR growth at 1.7 percent. STR puts it at 2.5 percent, largely driven by rate growth. CBRE Hotels projects 2.9 percent, "roughly half the 6 percent to 8 percent growth we saw during the recovery period between 2010 and 2015," said Robert Mandelbaum, director of Americas research information services.

While there may be cause for positivity, others worry the industry is overlooking headwinds. "Re-acceleration in economic growth should help, but prognosticators appear overly optimistic," Morgan Stanley equity researchers Thomas Allen, Mark Savino and Chaodan Zheng wrote.

So what are the headwinds?

Unfavorable Supply Vs. Demand Dynamics

The post-election economic bump means corporate transient demand growth is expected to increase more than previously thought in 2017. However, that won't stave off the imbalance between supply growth and demand growth. For the first time in five years, supply growth, at 2 percent, is expected to overtake demand growth, at 1.7 percent, according to STR. As such, STR expects occupancy to dip 0.3 percent, pressuring hoteliers to raise rates in order to achieve RevPAR growth.

Short-Term Rentals … or Just Airbnb

There's some mixed messaging in the hotel industry about whether Airbnb impacts hoteliers' ability to raise rates. A recent Morgan Stanley Research report linked Airbnb supply to fewer U.S. hotel compression nights in 2016, a pattern that could reduce hotel profits in the long term. However, an STR study of 13 markets found that Airbnb had little real impact on compression nights.

"In some ways, I think that Airbnb's impact on the industry will be greater than the OTAs' impact on our industry," Best Western CEO David Kong said at the recent Americas Lodging Investment Summit. When online travel agencies entered the scene, he said, hotel distribution costs increased and share shifted across channels. But "Airbnb is a marketshare shift," he noted. "You actually lose the business to Airbnb."

He added, "[Airbnb] has a valuation of $30 billion, and obviously its sophisticated investors have high hopes for it indeed. They're anywhere from 10 to 15 percent of supply in some markets. They cannot generate enough demand on their own, so obviously their investors expect them to eat into our market share. … If I were an operator, I'd be afraid to raise rates."

Berman expressed a similar sentiment, saying Airbnb adds to consumer choice within an industry where there's already "a room for basically any wallet size," which forces hotel operators to compete on price.

Rising Operating Costs

The costs required to run a hotel have climbed since 2014, which means that operators that need to compete on price with other suppliers risk eating into profits. "You would expect with strong occupancy or stronger occupancy that managers would be able to grow rate, and they are; they're just not growing fast enough," Berman said.

"What's wrong with 2 to 3 percent RevPAR growth?" he posited. "Nobody's talking about the expense side of running a hotel." U.S. hotel expenses grew 3.5 percent in 2013 and then 4.8 percent in 2014, according to CBRE. In 2016, expenses grew 4.1 percent, and they're projected to grow 3.9 percent this year. According to Mandelbaum, "If you've got revenue growing roughly 3 percent and expenses growing roughly 4 percent, which is what we foresee for the next few years, that limits profit growth to anywhere from 2 to 3 percent, which is good because it's growing but it's not anywhere near the strength we saw during the recovery period."

The largest single expense at a hotel—and the one that's been driving much of the rise in overall operating expenses—is labor, which represents 45 percent of expenses, according to Mandelbaum. During the industry's recovery period from 2010 to 2015, the cost to companies of employee benefits rose more rapidly than salary and wages. In the past two years, however, that dynamic has flipped due to government pressure in states like Washington and California to increase the minimum wage. The higher national employment rate also has forced hotels to compete for talent by paying more.

Property taxes, too, are "perceived to be on the rise," according to Mandelbaum, "as municipalities are trying to find additional revenue sources."

The Trump Unknown

A series of executive orders signed by President Donald Trump in late January and early February could lead to massive changes in the industry. The President's watering down of the Dodd-Frank Act, for instance, could be positive for hoteliers and hotel investors, which have anticipated looser regulations after Trump's win in November. And lack of action around minimum wage could limit those rising labor expenses for hoteliers.

However, despite the Ninth Circuit Court's ruling that gutted Trump's executive order to ban refugees from entering the U.S. for 120 days and to bar travel to the U.S. by citizens of seven Muslim-majority countries, some of Trump's policies raise the specter of unintended consequences.

Travel data analytics firm ForwardKeys said travel bookings to the U.S. declined 6.5 percent year over year following the order. The Global Business Travel Association pegs the loss from bookings in the week following the order at $185 million.

Marriott International CEO Arne Sorenson said in February that the order had not had a measurable impact on Marriott's performance in the U.S. but that he's heard it may have led group bookings to shift away from U.S. hotels. Sorenson and executives like Loews Hotels & Resorts CEO Jonathan Tisch and U.S. Travel Association CEO Roger Dow have in the past called for a global trusted traveler program that strengthens U.S. borders without turning off inbound travel.

"It was not long ago that we saw that same mentality as a reaction to 9/11," Tisch said at the NYU International Hospitality Industry Investment Conference in June. "But we learned that pulling back from the rest of the world is not an option. Adopting a Fortress America mentality did us much more harm than good."

President Trump also has ordered a wall between the U.S. and Mexico, an end to the policy of releasing illegal immigrants while they await their hearings and a withdrawal of federal funding to sanctuary cities, which do not prosecute those who've violated federal immigration laws. The order could significantly impact the hotel industry; Pew Research Center in 2012 estimated that 18 percent of undocumented immigrants work in the hospitality sector, while 16 work in the construction industry. Similarly, a border adjustment tax could lead to a rise in U.S. hotels' imported food and beverage costs, which have remained stable in recent years.