Hotel Properties Have Room for BIG Returns Over the Next Decade

By SHEILA MUTO
Staff Reporter of THE WALL STREET JOURNAL
October 27, 2004; Page B6

What type of properties should real-estate investors focus their sights on now?

Hotels will earn investors the highest returns among the five major property types, according to a new report to be released in a few weeks by a trio of real-estate research firms -- Principal Real Estate Investors, Real Estate Research Corp. and Torto Wheaton Research.

The total unleveraged, average annual return on investment in full-service hotels is expected to exceed 13% over a 10-year holding period, surpassing returns expected for apartment, industrial, office and retail properties. For a five-year holding period, the average annual return is expected to exceed 15%. Hotels in "only a few markets are not expected to deliver double-digit returns," the report says.

Raymond Torto, managing director of Boston-based Torto Wheaton, says that "all property types are doing better, but hotels are the only property type that is showing significant rent increases at this stage of the cycle." In fact, Mr. Torto says that for a conference in Boston his firm held at the end of last month, "laggards that didn't plan ahead suffered in getting a room" because hotel occupancies and rates are up.

Another incentive for investors: Pricing for hotel properties "is a little cheaper than other property types because hotels are coming off" a sharp downturn in business since 2001, Mr. Torto says.

The hotel sector is "at an inflection point where we'll see earnings and pricing pick up more than with the other property types, which have held up strong," says Kenneth P. Riggs Jr., chief executive officer of Real Estate Research in Chicago.

Torto Wheaton is forecasting that 2005 will be the peak year for growth in revenue per available room, or revpar, a profit measure for hotels that combines room and occupancy rates. Torto Wheaton expects revpar for full-service and limited-service hotels to increase 10% and 8%, respectively, this year. Revpar at full-service hotels is expected to rise 7% in 2005, 4% in 2006 and 3% to 3.5% after that. Revpar at limited-service hotels, which typically are hotels that don't offer food and beverage service, is expected to grow 7% in 2005, nearly 5% in 2006 and 3% to 3.5% after that. Overall, revpar is expected to hit $43,924 in 2005, near the previous high of $44,138 set in 2000.

Hotels in Atlanta, Los Angeles, Philadelphia, San Francisco and Seattle are expected to experience the strongest revpar increases, of 15% to 20%, during the next two years, says Petros Sivitanides, a Torto Wheaton senior economist who follows the lodging sector. And he expects a nearly month-old labor dispute at 14 hotels in San Francisco will have "limited" impact on the market.

Hotels in New Orleans, Pittsburgh and on Long Island, N.Y., are "the only major markets that will see revpar declines" of 6%, 3% and 3%, respectively, during the next two years, says Mr. Sivitanides, because supply in those areas is exceeding demand. Revpar at hotels in West Palm Beach, Fla., are expected to remain flat.

Also working to the advantage of hotel investors is the fact that the sector has experienced limited new construction, unlike other property types. "We're looking at a good 18- to 24-month period when new hotel openings will fall far short of the increasing level of demand," says R. Mark Woodworth, executive managing director of PKF Hospitality Research, an affiliate of PKF Consulting Inc. He says that 90 cents of every $1 increase in the room rate at a hotel flows to the bottom line in profit.

In addition to rising occupancy and room rates within the hotel sector, there's a lot of room for investors to increase productivity in hotel operations and reduce the volatility of revenue.

For instance, hotel operators are beginning to integrate new technology, such as adding kiosks to hotel lobbies, where guests can check in or check out on their own. "Instead of four desk clerks to check people in, now maybe they can get by with just three," says Mr. Woodworth. That's crucial, particularly as the economy continues to recover, he says. "Now, with unemployment declining and hotel customers returning, it's harder to get better-quality people" for jobs in the hotel sector.

Outsourcing is another avenue hotel operators are taking to reduce costs and improve revenue. Hotel operators increasingly are outsourcing hotel services and functions that historically have been the least profitable -- or even money-losing -- operations, such as food and beverage service, hotel restaurants and spas.

Write to Sheila Muto at sheila.muto@wsj.com

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