Differences between Owner and Brand Management Company Goals

Hotel business is slipping, owner profits are falling and asset values are declining. This is an especially good time to be sure you fully understand how your Management Company’s goals may differ from yours and determine how you will work with them to achieve the best possible results; greatest available profits and highest asset value for your hotel.
Hotel investors have long believed that a property that is encumbered with a long-term management agreement is worth about ten percent less at sale than one that is not. But if an owner lacks substantial hotel management experience, most lenders will require a professional manager to be in place before they will commit to financing. Brands with flagship or luxury marquees insist on tight control and most will seldom put their name on a property they do not manage. Many owners prefer to focus on the development and entrepreneurial parts of the business and leave the details to someone else. For these and other reasons, if you have a sizeable property it is likely that a third-party is managing your hotel under a long-term agreement.
There are differences if you are dealing with one of the third-party managers like Crestline or Interstate, which manage properties across multiple chains and brands. In this article, I’d like to focus on the big brand managers; the companies like Hilton, Hyatt, InterContinental Hotels Group, Marriott, and Starwood, all who manage several different branded hotels within their own organizations. So, they are managing the brand, they are managing the system and they are managing your individual hotel. They wear several “hats” in the process and you need to recognize is that at times the “brand hat” or the “system hat” may not necessarily be a good fit with the needs of your property. Let’s look at a few of the areas of potential conflict:
System Standards and Bureaucracy
A management company is a bureaucracy, with hierarchical organization and formal rules put in place to assure standards of performance and service. Those characteristics are good, to a point, but they are accompanied by difficulty of making changes quickly, limitations on risk-taking, and a tendency to let inertia continue, at least for a while. Most managers appear to drink heavily of the company “Kool-Ade” and if you speak with them you will find that they honestly think their brand is the best, that the hotel owner should almost feel privileged to have them managing for him and if the company did not already “invent” it, it is either unnecessary or not very good.
Brands now get input from “owner advisory councils,” but some of the brand standards seem to be capricious, and to have little foundation in customer-based research. Things like ice buckets and bathroom amenities seem to be forever changing, resulting in shortened useful life and increased owner cost. Has anyone documented that these make any significant difference in customer choice or satisfaction, or did the change occur because a brand official was tired of the old ones, or received a great sales pitch from a supplier?
The business downturn that followed the events of September 11 brought new willingness by the brands to reconsider some of the standards of operation, at least during bad times, but many of them remain arbitrary. A hotel that has virtually no demand for its restaurant after 2:00 p.m. may still be required to keep it open until 2:30 or 3:00 p.m., and absorb the extra costs to do so, in order to comply with brand standards. The “me-too” approach followed by the airline industry is in evidence, with “improvements” made by one of the major brands quickly matched by the others, without apparent study of actual guest impact. The point of difference temporarily created is quickly lost, and higher marginal costs are institutionalized. Take a look at the varieties of new bedding, wireless high-speed Internet, flat-screen televisions and Starbuck’s coffee for a few examples.
An owner, however restrained, typically wants it “now.” He expects the manager to instantly identify problems and opportunities and to act on them with all dispatch to reduce costs and increase sales. It is easy to lose sight of the reality that the management company rules and chain of command must be followed, and frequently it is necessary for communication to move up and down the line before action is approved and can be taken.
An owner wishes to provide guests with what they want, and are willing to pay for, but not more. Change for the sake of change costs him money.
Fee-based Revenue
The manager typically gets a base fee based on a percentage of total revenue and an incentive fee based on profits. The base fee is not dependent on the revenue being profitable to the owner and sometimes it is not. The manager can drive revenue at both the hotel and the brand level, thus increasing fees, without providing a profit to the hotel or a return to the owner. A few examples:
• Unprofitable brunches and holiday parties; more food outlets open than needed, uneconomic local food and beverage promotions.
• Marketing programs that produce new business, but at disproportionately high cost.
• Changes in system standards previously discussed, from logos and signage to bedding and flat-screen televisions to new lobby schemes. The owner is required to provide capital for them in order to continue to meet brand standards. Some may increase room rates and revenue, and so fees to the brand, but they may not produce an acceptable return on the extra owner investment needed.
Cost Recovery for System Services
An owner expects to bear a share of system costs. But does the allocation method distribute them fairly, or, in the words of George Orwell, are “some pigs more equal than others?” Some points to consider:
• Revenue-based assessments place the greatest burden on the larger, high-rate city and resort hotels. The cost to deliver the service may not be any greater than the cost to deliver the same service to a smaller, suburban hotel.
• Several of the brands run with an area manager or Area V.P. organization, where a person who is responsible for several managed properties is also the General Manager of a hotel. There are also shared services agreements, under which accounting, sales and revenue management, to name three, are performed for several properties and costs distributed among them. You may assume these arrangements work out well for the brand. You need to be sure they are effective and fair for your hotel.
• Costs for new programs put in place are usually recovered through allocation to the properties then in the system. Once a program is up and running, a hotel added to the brand comes in under the umbrella. If it is lucky, a hotel that helped fund the start-up gets some benefit of the economies of scale in the form of a lower unit cost. The “goodwill” accrues only to the brand, and becomes another system advantage that can be used to attract new properties – which may be potential competitors.
• When new brands are introduced under the “family umbrella,” they share much of system marketing, the frequent traveler program, and the like. But they may not pay the same rates or any start-up fees.
• A hotel may be required to participate in and pay for programs it does not need, or which it may be able to get at least the equivalent of locally at a lower cost. The timetable for implementation of a program at a property may lead to displaced revenue or increased costs.
System Growth
Growth and vitality of the brand has far greater benefit for its owner than does any single property, however large and grand. More rooms means exposure to more customers and increased brand awareness. It also means more franchise/marketing/ management fees, greater clout for shared marketing programs, more frequent traveler card carriers and more hotels to share costs among. Therefore, one of the top priorities for brand managers is to grow the number of properties in the system. The newest property may be down the street, or around the corner from your hotel.
The brand CEO’s reasoning is disarming: “The new brand facility is not being built to compete for your hotel’s customers; we are putting it into place to attract guests your property is not now serving and to take business away from other competing brands. It will have little or no affect on your hotel.” But let’s have a dose of reality: unless the new-build is a convention hotel or a destination resort that creates (or at least relocates) demand, the new property will feed off the customers already in the market. Some will be ones who formerly stayed at your hotel. And they will have equal access to what were formerly your competitive advantages: the brand affiliation, its reservations system and the frequent traveler program. The new property will be completely new (or totally redone if it is a conversion). Some of the amenities and services you now charge for (breakfast and high-speed Internet are notable) may be free. And its room rates may be lower. So it should not surprise if you then see your occupancy falling, your room rates under pressure, or a little less contribution to occupancy from the family reservation system and the brand frequent traveler program.
There is a huge financial incentive for a brand to put a new hotel into your market, especially if it is a franchised one. Take the case of 2007 performance cited for mature hotels of one brand in a family cited in its franchise offering circular: occupancy at 71.9% and average rate of $121.15. For a 120-room facility, at average performance, this would suggest rooms revenue of more than $3.8 million. Such a property would produce total fees to the brand over $375,000, of which perhaps roundly half would be profit, suggesting incremental brand net income of at least $190,000. Assume the brand manager was earning incentive management fees from your hotel at 15% of cash flow over a given hurdle rate. It could “give up” $50,000 in incentive fees and remain $140,000 ahead. But such a loss of income would translate to lost profits of more than $333,000 to the managed hotel owner.
That brings us to the asset manager’s secret. The (say) $333,000 in lost income may be only a short-term headache. The real financial impact is the reduction in hotel asset value. If the “cap rate” for the property is 8.0, those lost profits translate into over $4.1 million in lost value, or in the potential selling price of the hotel.
If you have a territorial restriction in your Management Agreement, about the only protection it gives you is that another hotel with the same name as yours won’t be built within the named radius. But wait – the brands have many other “arrows in their quiver.” If you own a Marriott Hotel, you could find yourself in competition with a Renaissance; if you have a Hilton, you could see a DoubleTree; if you have a Westin you might have to compete with a Sheraton; if you own a Crowne Plaza you might wind up with an InterContinental nearby.
The threat of another “big box,” though these have happened in larger cities, may be the least of your concerns. What you need to watch out for are the “ankle biters” that are part of the same brand family and which share a common reservation system and the same frequent traveler card. Let’s look at the possibilities from the major brands who manage:


Those are just the main brands. Several have a suite product (Hilton Suites - Marriott Suites - Sheraton Suites) besides the separate all-suites brands listed. Most also have a Resorts designation; several have vacation ownership tag-on’s and spa sub-brands are beginning to emerge. Several of the brands above are relatively new – at least under their current owners. And more are coming.
There are other areas where the goals of the owner and the manager may be very different. Let’s look at a few of them:
Managers Job Growth, Career Path, Bonuses and Benefits
As long as there is good performance, an owner would prefer the hotel’s executive team to remain in place for a long time. That way they become involved in the community and are familiar to key customers. The owner expects to see them compensated competitively, but does not expect to pay for packages that are much greater than what prevails in the local market. The manager is trying to provide relatively consistent levels of pay throughout the company, and is compelled to be competitive in major markets. This may lead to inflated management salary levels in smaller cities. Management companies aspire to provide job security for their managers and tend to be slower in ordering layoffs or delaying the fill of a vacant position than an owner may feel is warranted by the current activity levels or economic conditions.
The manager also strives to create career paths for employees who wish to pursue them; moving department heads to management positions and key managers at smaller hotels to larger ones. The turnover tends to create temporary gaps in managed hotel service delivery and cost efficiency, and usually results in billing the property for relocation and sometimes recruitment costs.
Bonus plans are better than they once were, with several of the managers using some form of a “balanced scorecard” to work out eligibility, but there still may be disconnects between annual owner profitability and long-term viability of the property and the amount of bonuses paid. Bonus is usually calculated based on the annual budget, so there is opportunity for an “enterprising” manager to “sandbag,” (purposely understate expected profits) or “milk” a property by temporarily cutting back in areas like sales and maintenance to reach a greater bottom line and earn a higher bonus. Eventually, these “savings” need to be repaid. Usually, the catch-up cost is higher, and, with the loss of revenue that occurs while this is being done, leads to significantly reduced distributions to the owner. Finally, the brand wishes to be an employer of choice and to compare equally or favorably with other brands in benefits. This tends to create a condition known as “a rising tide that floats all boats,” with brand managers who are paying little of the benefit costs themselves, passing on the costs of what seems like a “Cadillac” benefits program to hotel owners.
Marketing Programs
Brand managers tend to focus on participation levels and economies of scale when these are developed and managed. This may result in a hotel being placed under a particular marketing “umbrella,” and paying its share of the costs for a program that is not suitable, and which does not add value. There are also questionable and probably unproductive advertising “rollups” where an in-season hotel winds up offering a “value rate” like $279 in an ad, next to an off-season property in a different locale that is advertising a rate like $99. Brand programs advertised that feature extras like free breakfast to stimulate weekend occupancy may take dollars away from a hotel whose weekends are already strong. “Participating hotels only” gives a property an opportunity to opt out, but the brands highly encourage participation and customers, who usually do not look at the fine print until it is shown to them, tend to become displeased at an exception.
Hotel web sites that are designed by the manager are typically designed with the brand in mind, not the individual hotel. An independent competitor, and/or possibly another branded hotel in the same market may have a web site that loads more quickly, is more graphically powerful and user-friendly and which has been better optimized for search engines than yours. The groups and meetings tab on your hotel web site will take you back to the brand screen in several cases. The planner who wishes to get an RFP from your property may have to enter its name all over again. Sometimes, they will be invited to consider alternatives from other hotels within the brand.
System Roll-outs
These range from things like a new property management system to maintenance tracking systems to new training programs to a new amenity package. Most seem to be developed to fit an “average” property, and there is often little provision for individualized hotel needs, goods already on hand or guest demand. New installation and training costs almost always have to be paid. Like early settlers of the west, the hotels that pioneer systems installations tend to collect “arrows,” as the system is refined on the fly. Unless there is an urgent need at the property level, or the owner is angling for other favors from the brand managers, there is little advantage to being on the front end of one of these rollouts.
Purchasing Programs
These are also designed to fit a “typical” brand hotel and participation by the management team is strongly encouraged, if not mandated. This may not produce the best possible cost savings in a property for several reasons including:
• A hotel may have specialized needs that cannot be met on a cost effective basis
• A named supplier, who is considered best across the system, may have inferior operations in the area where the hotel is located. I have seen this in the area of elevator maintenance.
• Other hotels of other brands that are in the same market create opportunities to use local suppliers to get equal or better quality at lower prices. I have personally experienced this in the Orlando, Florida market.
• Minimum order requirements, that are necessary to limit delivery costs, may not be a good fit with the use patterns and economic order quantity of a particular hotel.
• Food purchase specifications may not be optimized for intended use of the product or what customers are willing to pay for. A hotel may find itself overpaying for quality it does not use and which its customers do not expect.
Reconciling the Differences
The successful hotel owner who has one of the big brand managers directing the operations of his property needs first to understand the manager’s goals and how they differ from those of ownership. He or she then needs to become a healthy skeptic about actions the brand takes and programs it proposes. Next steps include:
• Challenge the status quo. Request managers to prepare mini-P & L’s to prove the profitability, or lack of it, of multiple food and beverage outlets, brunches, holiday dinners and other special promotions.
• Strive to cut through the bureaucratic “maze” by regular and thorough reviews of hotel performance – from revenue and cost variances to market share to sales production and booking pace. Get explanations for, and thoroughly understand the reasons for “positive” variances, as well as negative ones. Push for actions and timetables to solve problems identified and exploit new opportunities surfaced. Do not accept “business as usual” unless it truly is, and you are completely satisfied with your cash flow and investment return. Participate in brand advisory councils, or at least provide input to other “representative” owners who do.
• Study, understand and question the annual operating and capital budgets. Get information about trends from industry experts and other owners and compare to what is happening at your hotel and in the local market. Get very good explanations for differences or request changes to be made.
• Delve into brand programs. Determine what, if anything, they do for your hotel, how success and ROI (return on investment) are measured and how fees are determined and assessed. If people or services are shared, be sure that the arrangements lead to favorable results at a fair cost for your hotel.
• Unless there is an urgent need, try to keep your hotel in at least the second of three waves for system rollout timetables. That way the system put into effect at your property will be more fully tested and modified.
• Go on record with challenges to new hotels of a brand family that are proposed for your market area. Document current and future contribution from the brand’s reservation system and frequent traveler program for follow-up with senior brand executives.
• Get your own hotel web site, or at least a “splash page” if the brand will let you have one. Most brands now oppose this, but many exceptions exist. Have that web site professionally designed and search engine optimized. Recognize that this is not a static process; the site needs to be checked and updated often. If you cannot get your own hotel web site, lobby for and insist that the one developed by the brand be upgraded.
• Demand to see the benefits to your hotel from joining in buying programs. Government regulation has required this to be voluntary and if they are not paying off for you, you may get out.
• Regularly monitor conformance of the manager to the terms of the management agreement and document instances of non-compliance. This may not be more earthshaking than (for example) a brief letter saying that the monthly financial statement that was due on the tenth of the next month was not received until the 14th and that it is expected by the tenth in the future. This puts you on record as not tacitly condoning non-conformance by silence. It also provides the owner with a “gotcha,” which may, with others, become useful when a serious divergence occurs between the interests of the owners and that of the brand managers, and remedies available under the agreement are considered or possible renegotiation of the management agreement seems called for.
Unfortunately, hotel demand is currently weakening in most markets; room rates are under pressure and hotel profits are declining. Reduced leverage and higher cost of debt will reduce the prospect of new brand competition for a time, but will also lessen the value of an existing hotel asset. The disparity between the goals of the brand manager and the hotel owner is likely to widen and stress levels are apt to increase. An owner needs to understand those differences, and take aggressive action to restore or maintain balance and assure that the management company fully understands and remains focused on the owner’s goals. In that way, he will retain the maximum amount of cash flow and investment return possible and preserve more of the asset value.

Develop a Strategic Plan

In my June post I wrote about the need for an exit strategy to maximize the return on investment during the period the asset is held. Dramatic changes in availability and cost of financing and economic slowdown brought about by the housing market crisis and the negative affect of an oil price spiral on travel have extended the holding period and postponed exit for most hotel owners who have staying power. Analysts are forecasting RevPAR declines through 2009 and no growth at all in 2010. These conditions make the development of or updating of a strategic plan even more essential. The plan starts with a thorough SWOT analysis, covering the property’s STRENGTHS, WEAKNESSES, OPPORTUNITIES and THREATS.

The Hotel General Manager and Director of Sales could and should provide help with this, but the asset manager’s secret is that their input needs to be taken with many grains of salt and the final plan should reflect an addition of a bit of the owner’s “pepper.” Strengths need to be real, and should represent a clear advantage that a property has compared to its competitors. The ‘Brand X’ reputation, its web presence, its reservation system or its frequent traveler program are not necessarily strengths if there is a well-performing competitor of a comparable brand nearby that is going after the same customer with equally-strong systems and programs. A “tired restaurant,” for which the Brand Manager may have lost enthusiasm or that may have gone unrenovated longer than called for in the management company master guideline, may not be a weakness at all unless it is being compared to a competitor who has a “fresh” restaurant that is doing good business and attracting hotel guests.

Weaknesses need to be property and market specific. Lack of funds for renovation, for example, is only a weakness if competitors are already in better condition, or are on track for upgrading that will provide them with a competitive advantage. New supply is almost always a threat, even if it is not directly competitive. Depending on location and market positioning, the new property may only be a 20% threat or a 50% one. Potential new supply is a threat only when there is confidence the property will get built. There is much fallout between planning for projects and their opening, even in the best of times.

Potential changes in a demand generator are major threats and if a single customer accounts for a substantial percentage (anything over [say] 10%) of the hotel’s total business, the astute strategic planner will assure that the potential loss of that account or substantial curtailment of business from it are automatically included as threats. Companies get taken over; plants and offices close and executives change. The hotel should have a contingency plan in place to react to the loss of a key customer.

Done properly, the analysis needs to consider SWOT’s by market segment; minimally business, leisure and group. Great meeting space has little effect on choice or stay experience by a leisure customer. But inadequate second ballroom or exhibition space could be a major detriment to attracting or serving the group market well. If a market segment is large, the SWOT’s may be further subdivided; they may be different for corporate meetings and SMERFS groups; for tour operators, weekend package customers and FIT’s. Some brands apply point scales to various rating factors to decide if a hotel is pricing its product properly.

Once SWOT’s have been identified, a strategic plan needs to be developed from which action plans can be put into place. How can the strengths be used, or priced to greater advantage? Can the weaknesses be overcome, and does it make economic sense to do so? If not, is it possible to add or create features or service elements to create new strengths that will offset them? The same kind of thinking needs to be applied to opportunities and threats: does it make economic sense to try to exploit them (adding rooms or function space, converting areas to other use, and so forth)? Should actions be planned, or at least contingency plans developed, to deal with expected threats? Perhaps the planned disposition date should be moved up. Maybe the property is not positioned to best advantage and its target markets, its feel, its pricing and perhaps even its brand should be changed.

Under normal conditions, the strategic plan also needs to consider the life cycle of the property in its market. Various terms are available to describe the quadrants, but essentially they may be one of four:

Current conditions within the overall economy have created a climate in which most hotels are now in the “declining” quadrant. The challenge of making a strategic assessment and plan is to determine the position in which a property is likely to be when recovery is under way. Are there actions that can be taken to put it back into the “Emerging” category, or can the hotel at least be expected to get back into the “Growth” mode? The greatest rewards, at least on a percentage basis, are to be had for investments made in the emerging or growth parts of the cycle. If the property is mature, one needs to think about and plan for how soon it could be and what it will take for the asset to slip into decline. Capital expenses need to be examined with greater scrutiny here. If property needs are going to require more than the normal FF&E reserve, the investment yield will be cut. Here again, it may be necessary to revisit the exit strategy.

If the market and the location are expected to remain viable and physical or brand deficiencies can be fixed, it may be possible to put a mature or declining property back into a growth mode. A major renovation, addition to or reconfiguration of facilities, and/or a different brand may lead to new vitality. It is then a question of the investment required to get these done, and whether it is likely to produce the desired investment return. If a property is declining and further deterioration is expected, the strategic planner needs to look at alternative uses for the building. These all depend on location and demand, but perhaps all or part of the hotel can be converted to retail shops or offices. Seniors assisted living housing is another prospect, and more than one fading hotel has been converted to university housing. Two properties I have been to [as a guest] have been converted all or in-part to temporary detention prisons.

The strategic planner should also consider the position of the hotel asset against the dynamics of the market. A tool, known at one time as the “L & H Grid,” may be useful. The grid appears below:


The grid is used to plot the competitive position of a hotel against strength of its market. The position that every hotel owner would like to be in is in the upper left: strong competitive position in a strong and growing market. Conversely, the least desirable place to be is the lower right: weak position in a weak or declining market. Greatest potential opportunity is found in the upper right: an inferior facility in a strong and growing market. The position of the hotel in the grid is the major factor in deciding the strategy. The goal, for an asset that is not already there, is to move to the left in the grid. A hotel that plots in the upper right is the classic repositioning candidate; if the location is good and the rest can be fixed at a cost that makes sense, a new star is born. A property that plots in the lower right is one you do not want to spend a lot of money for, or put much into, but that does not necessarily mean that all is lost or that conversion to a different use is required. If you can buy it at a deep discount and/or put a bit of capital into high-impact renovations, perhaps you can transform the asset into the best facility in the area. Then plan to increase market share, and possibly gain a bit of extra room rate, to provide the desired return.

The strategic plan is not finished until a financial model has been developed that sets forth assumptions in some detail and forecasts annual occupancy and average rate during the planned holding period; the investment and reinvestment expected; a build-up period for the effect of the initiatives to be realized, and a period of stabilization. If the projected rate of return meets or exceeds the desired hurdle rate, the project can move forward. If it does not, the planning assumptions need to be revised until the goal is in sight. Keep in mind a strategic planning guru’s maxim that says: “The best plan is only as strong as its weakest assumption.” It is easy to make an underwriting model look good by increasing the occupancy and/or rate penetration; by shaving marketing, capital replacements or maintenance costs or even increasing the estimated rate of inflation. But do not fool yourself. If these are unlikely to occur, so is the projected rate of return.

One of the “tweaks” I see in strategic plans is to cut the amount of the replacement reserve during the early years of a new project. After all, a big investment has just been made; everything is new, and there will be little need for replacements – right? Unfortunately, it doesn’t work that way in real life. From a cash flow standpoint, the assumption may be fine, as the immediate replacement outgo will be less. But guest occupancy, staff traffic, competition changes, new customer expectations and time tend to create the need to catch up. And when major changes need to be made, they need to conform to current higher-cost building codes. The typical year addition of 4-5% to the reserve is likely to produce a shortfall when major renovations are needed.

The International Society of Hotel Consultants (ISHC) “CapEx 2007” study that was made with the sponsorship and assistance of the Hospitality Asset Managers Association (HAMA) reported CapEx spending was down from the levels in prior studies due to the overhang of the events of September 11, 2001. It still averaged 5.7% of total revenue. Add repairs and maintenance, and the combined cost average ranged from 8.5 to 9.8%. When the hotel transaction market was active, most press releases on major hotel acquisitions included a paragraph about the major renovations that were planned. A buyer will typically try to subtract the cost of “deferred maintenance” from the purchase price.

When the strategic plan is finished, tactical plans need to be developed and executed to realize it. These will include:
• Property positioning:
o Brand
o Service levels
o Pricing and occupancy and ADR penetration goals
o Marketing, sales and public relations strategies
• Renovation and major capital projects by year
• Pre opening or “reopening” activities and budgets
• Eventual sale

An old proverb says: “If you don’t know where you are going, any road will take you there.” Development of a comprehensive, well thought-out strategic plan will provide the best choice of destinations and greatly increase the likelihood that you will get to where you wish to go, and arrive there on or close to schedule and within budget. For the hotel owner, that translates into the best possible return on investment.

Make Sure The Right Contingency Plans Are In Place

I once met with a hotel owner, not long after taking over management of his group of hotels, to tell him how I planned to reenergize the lackluster and ineffective sales effort I found in place. I told him that I planned to create a new position of Divisional Sales Manager and promote a “sparkplug” I identified at one of the properties. He asked but one question: “What if she gets hit by a truck?” That was my introduction to contingency planning. I had used long-range planning for many years; looking at facility condition, patronage levels, operational trends and market developments to plan when changes should be programmed to an area or an outlet. I had also been involved in succession planning, where a grid was developed to provide theoretical promotions and transfers if a key manager was promoted or left. I was also well-acquainted with emergency or disaster planning. Contingency planning is different.

Most management companies have detailed emergency plans, and well-publicized disasters, from major fires to bomb threats, death or serious injury at the property to power blackouts to earthquakes to hurricanes have put hotel managers to the test. Where they have performed well, and even superbly, it is usually because they were working, like airline pilots do, from a well-prepared plan. These emergency plans provide the framework for development of sound contingency plans. They detail an event that may occur – the “trigger point, “and provide complete action steps to be taken, and by whom. Current economic conditions, along with cuts in airline seat capacity, are leading to 90-day forecasts that show large shortfalls versus budgeted profits for most hotels. Early trigger points have already been reached and most asset managers, and many hotel managers, have already put into effect a part of their contingency plans.

Ideally, contingency plans should be developed during times when business is good. What actions will be taken if volume drops by 10%? By 20%? By 50%? The tragic events of September 11th highlighted the need for such plans – business survival. Precious time (and much money) was lost by those who had not already developed those answers in advance. Sadly, another act of terrorism is possible (many lenders are requiring insurance against this peril), and the effect on hotel business is predictable. Aggressive action is essential to limit losses in NOI. The right contingency plan needs to deal with three major areas at each potential trigger point:

1. What actions can be taken to reduce fixed costs?
2. What operating standards and procedures can be changed to cut variable costs without destroying the loyalty of the regular customer base?
3. What sources of revenue that were earlier overlooked or were thought less desirable can be tapped?

Contingency plans are brutal, of necessity, and for that reason some managers resist developing them. The jobs of assistant department managers seem always to be the first to be cut; it is one of the quickest ways to lower fixed costs. I have seen charts with names and salary amounts at various stages of assumed business decline. The next area to be looked at is standards of service and level of amenities. Cuts here will reduce some of the costs to serve every guest.

The hotel manager must be persuaded to do a “high wire act” to balance the expectations of current customers with what they are paying. These guests may be somewhat different; paying lower rates, than those originally budgeted for. Many times, service levels can be tweaked slightly to cut costs: coverage at the front door and at the bell stand may be a little less, and it may take a little more time for a guest to check in or out. Food and beverage outlet hours of operation may be curtailed to limit staff on duty during periods when there is little customer demand. Those of us who have been through these downturns before have a “laundry list” of best practices garnered from experience. They range from limiting amenities to reducing the amount of bathroom towels to squeezing service contractors and concessionaires to raising/lowering public area temperature set points and cutting slightly the temperature of hot water delivered to guests and the house laundry.

A sound contingency plan will, at some point, revisit areas where the benefit of change was previously considered slight or undesirable. These may include:
· Extra energy conservation measures. If a Green program is not in place, it should be called for
· Outsourcing of departments or services (including valet parking, concierge, laundry, business center, restaurant and coffee shop)
· Closing, temporarily restaurant and lounge outlets and floors of guest rooms
· Leasing or finding different uses for non-revenue producing or low revenue producing areas

The contingency plan should also provide for an updated review of what competitors are charging and for increases in restaurant and banquet menu prices, parking charges, and other guest user fees where warranted to produce revenue not expected when the operating budget was approved.

A good contingency plan will provide actions to be taken if business from a major customer is lost, if a single customer accounts for a large percentage of hotel revenue. Companies go bankrupt, are acquired, move their headquarters and are, themselves subject to the possibility of losing a major part of their business. When occupancy falls, the typical hotel manager strategy is to try to replace profitable business earlier expected with customers who are paying less. This does not necessarily mean rate-cutting, though the industry has a history of succumbing to that course of action and it becomes difficult for a manager who does not wish to cut rates to resist in order to keep market positioning. But the loss of business travelers can sometimes be offset with more government employees, contract business and leisure customers. New packages and special events can be created; preferred corporate programs can be started or made more appealing. Contract business or tour groups can be negotiated.

If group pace falters, because of curtailed attendance or events from corporate and association groups, the lost business can sometimes be replaced with business from more price-sensitive, social, military, etc. organizations; the SMERF’s.

Capital spending should be thoroughly reexamined and potentially curtailed. Since more capital increases the investment base, cuts will preserve part of the rate of return from a reduced NOI. But do not lose sight of the overall investment objectives and exit strategy – see the last post. A period of lower occupancy may provide a window of opportunity to complete renovation or other return on investment projects with the least displacement of revenue. And projects whose ROI rate stays high, after factoring in the changes in business conditions, will quickly pay for themselves and should not be dropped as part of an arbitrary percentage spending reduction.
A hotel owner or his asset manager also need to assure that contingency plans are in place to provide business continuity: How will telephone service be maintained or rerouted to cell phones if regular service goes out? How will current and historical electronic data be backed up and safeguarded? How will staff be communicated with or perhaps housed on property? How will reservations be controlled, check-ins and check-outs tracked and accounts kept without computers? How will records be protected? And on and on.

Insurance is another form of contingency planning. It’s not a secret, and I’m not going to write much about it here. Of course, you do have adequate coverage, and deductibles in line with the risks you can afford to bear -- for property damage – liability – business interruption, theft and specialized policies to cover loss from hurricanes, floods, earthquakes, or the like, if you are in an area that has exposure. Just like the case with your personal home and auto insurance policies, a higher deductible will result in a decrease in premium. It then becomes a question of how likely and how frequently you believe a loss is likely to occur, then weighing the insurance premium savings against your willingness and capability to absorb those losses.

Be sure to shop your policies. Even if your management agreement provides for insurance to be obtained by the manager, you should get quotes to provide the required policies directly from at least one hospitality insurance professional. Sometimes, you will find you can get better coverage for less money. Bring the differences to the attention of your Manager and persuade him to change carriers or negotiate. Keep in mind that insurance premiums tend to follow a cycle, escalating after notable national losses until competition leads to reductions. Do not fail to test the market every time your policies come up for renewal, or you may miss a major opportunity for cost savings.

If complete and well-crafted contingency plans are in place, the hotel manager will be able to deal routinely with these anything-but-routine situations, when and if they do occur. Nobody voluntarily participates in a recession. The right contingency plans, quickly and properly put into effect, will assure that your hotel does not do so to the extent of its “fair share.”

You Need to Have an Exit Strategy

Introduction

If you are the owner of a portfolio of hotels, you are undoubtedly already aware of Hotel Asset Management, and how it can increase the value of your investment; you probably employ or work with one or more professionals in the field. If they are members of HAMA (Hospitality Asset Managers Association) or ISHC (International Society of Hotel Consultants) they already know and use these techniques. In fact, several members have written or contributed to textbooks on the subject; others are reaching college-level courses on it. But, if you own a single hotel asset, or perhaps even a small group of hotels, you may not be taking full advantage of all the strategies and techniques that professional hotel asset management has to offer. This blog is for you. A professional asset manager, I have operated as Burr Company since 2004 to asset manage select hotels and assist owners with acquisition, disposition and value-enhancing strategies. My experience includes asset management of over $900 million of hotels, including Marriott, Hilton, Hyatt, St. Regis, Westin and Embassy Suites. Previously, I was a large hotel General Manager, a multi-unit Vice President, a Franchise Operations Director for one of the brands and a Principal at one of the leading hotel consulting firms. This Blog will set forth asset management “secrets” to help the single-hotel or small hotel group owner get more out of his or her investments.


First Secret: You Need to Have an Exit Strategy

It’s no secret to any hotel owner – or prospective buyer, or for that matter, to an army of brokers, lenders and consultants, that the hotel industry is a challenging place to be right now:
· Our national economy and perhaps much of the worldwide economy is reeling from the effects of the housing crisis, the retrenchment of the financial industry and the big run-up in the cost of oil. Unemployment is rising, inflation is threatening, businesses are cutting back and travel is slowing.
· Money remains available for financing, but interest rates are higher, and the terms and borrower requirements are much less favorable than they were. Lenders are again demanding personal guarantees, lower LTV (loan to value) ratios, amortization of senior debt from day one and greater debt service coverage.
· The cost of non-hotel elements of business travel: air fares, rental cars and business meals are escalating even more rapidly than hotel room rates. In the face of earnings pressure, at best, or declining profits, at worst, companies are cutting back on people, and on their travel and on their meetings.
· Leisure travel is being cut by the reality that more money is needed for necessities so fewer discretionary dollars are available. People are planning fewer vacations, and ones that are shorter and closer to home. Foreign visitors are still creating room demand in gateway cities but many domestic, middle-class customers are trading down in their choice of hotels.
· Hotel profits are under pressure, being squeezed between softening demand, and higher costs of labor, fringe benefits, energy and foodstuffs – to name just a few.
· Hotel cap rates have increased and values have declined. A willing buyer will commit to purchase only at a higher cap rate – a lower multiple of earnings. Frustrated sellers are reluctant to accept those offers because they are so far below what was quoted to them less than two years earlier.

The good times will return! Keep in mind that the hotel business has been and will continue to be cyclical. Though it lags by several months, hotel demand is highly correlated with national GDP. Just remember what happened to hotel business, and to hotel values following the September 11th terrorism events. The steep decline was later followed by far greater increases. Or go back a little further, to the times of the RTC crisis. At that time, lenders viewed a hotel loan about as favorably as cancer. I recall sitting in a bank lending officer’s office, with a hotel owner in the 90’s. The loan was current, and had been kept that way despite the hotel’s poor performance, because the owner, a former director of that bank, had dipped into his deep pockets to meet his obligations. But the term loan was due, and the owner was trying to renew. “No way!” said the loan officer, “we just are not making any hotel loans.” A less substantial owner may have lost the property at that point. Many did at that time. Fortunately, this one had other businesses and other resources. He got a new loan and invested more money to renovate the hotel. When the next up-cycle came, he sold it at a nice profit. Because he had a vision (of better hotel performance and greater value) and an exit strategy (a plan to sell at a target price) he cashed out of his hotel investments a winner.

Take a look at the real estate investment alternatives. Apartments and self-storage facilities appear to be making comebacks but retail is losing its luster, office buildings are mixed and industrial sites are questionable. Every one of those investments involves finding a tenant and signing a term lease. Only in the hotel business, if economic conditions permit, can you raise the rent every day. With the threat of higher inflation looming (and many say it is already here) where would you rather be? The latest forecasts from Hospitality Valuation Services (HVS) predict an average 8% increase in U. S. hotel values per room in 2009, followed by a rise of 17% in 2010 and another 8% in 2011. This follows value declines of 5% in 2007 and (forecast) 4% in 2008. During the “boom” period of 2004-2006, U.S. room value growth ranged from 27% to 21% annually. Indeed, “Timing is everything!”

Unless your name begins with “Sheik,” or perhaps “Warren,” you need to recognize, from the day you build or buy it, that will be out of your hotel investment at some point. Let’s look at some possibilities:

You are out of money [“the well is dry!”]
Either the hotel isn’t doing well or other investments aren’t performing or financing isn’t available. The hotel needs cash and you don’t have it or can’t raise it. This is what the brokers refer to as “a distress sale” and the selling price is going to be favorable only for the new owner.



The picture isn’t pretty [“it soon will be raining on my parade!”]

A new competitor is coming in – the brand is out of favor – the location is no longer prime – demand is declining -- the property is older and needs much upgrading and refurbishment – a union agreement (or the threat of one) or a legislative mandate such as a “living wage” or retroactively applied building code change has changed the economics – and so on. For whatever reason or reasons, a large outflow and/or a small inflow of cash are foreseeable. Clearly, this hotel will not produce the desired return on investment in the near or medium-term future.


My ship has come in [“here’s my pot of gold!”]

There are at least two versions of this: One is the “Greater Fool Theory” where a prospective buyer wants the hotel so badly, for whatever reason, that he is willing to overpay for it, giving you a handsome profit.
The second is where the land the hotel occupies has become so valuable that it makes economic sense to buy the property, tear the building down, and replace it with a different, more profitable use –shopping center, mixed-use development, offices, condos and the like.


The time is right [(again) “timing is everything!”]
The bulk of the tax benefit has been realized – Opportunities considered more attractive (or safer) are available – cash is needed for other purposes -- estate planning (or estate settlement) needs dictate a sale – the partners are arguing about objectives or future strategies. These are just a few examples.

If a potential or planned exit strategy is thought out, it can be modeled in a pro forma and the effects of various strategies considered and refined. The forecast and an asset management approach can then be utilized by the owner to increase his total return on the investment by:

o Managing the outflow of capital expenses (and maintenance costs) appropriately.
o Structuring financing and lease versus buy decisions for greatest benefit.
o Making short-term decisions on a host of other items, including service contracts, booking agreements, sales & marketing activities.
o Creating an audit trail of exceptional expenses to make a case to a prospective buyer as to why the net operating income (NOI) should have been higher.

Several hotel owning companies periodically do an exercise called a “re-buy analysis” on the hotels they already own. Considering present property and market conditions, new opportunities or potential threats that have arisen, capital needs, return on investment objectives and alternate opportunities available, would they buy that hotel asset today? Would they now revise their strategies from what was originally put in effect? If the answers are “No,” and “no,” perhaps it is a good time to recycle the capital and the property should go on the disposition list. A “harvesting strategy” is then put into effect: limit capital replacements and maintenance and, depending on the timetable and current status, either boost the sales budget or cut it back. This is a great asset management discipline that should be applied by any hotel owner on an individual asset basis.

A sound exit strategy, put in place at the time of entry, will greatly increase the likelihood that when you do exit your hotel investment it will be on your terms, to your advantage and that you will have increased your return during the holding period. This is the first in a series of Hotel Asset Management secrets.



Next: Make Sure the Right Contingency Plans Are in Place.