How to make money in the hotel industry

Ahead of the Arabian Hotel Investment Conference, Louise Oakley asks key speakers and industry heavyweights where, why and how to invest in hotels in the Middle East

As the industry gears up for the Arabian Hotel Investment Conference (AHIC) — being held at Madinat Jumeirah in Dubai from May 1-3 — the same questions are on everyone’s lips; where is there still potential for hotel investment, how do I secure funding, how do I develop my project, and ultimately, how do I ensure my hotel is a market leader and a money maker?

Aptly then, this year’s AHIC is focused on ‘Unlocking Investment Opportunities in the Middle East and North Africa’, with more than 500 top industry analysts, investors, owners and operators from across the Middle East, North Africa, Europe, Asia and the US expected to come together to debate the changing investment and hotel sector landscape in the region.

The basic premise behind the theme is simple; despite the economic downturn and current tourism environment, hotel supply in the Middle East and North Africa (MENA) will not be sufficient to meet demand in the longer term, as concluded by the Jones Lang LaSalle Hotel Investment Outlook 2010.

The report forecasts that once conditions improve, extensive growth in tourism demand could allow for a quick absorption of current and future hotel supply.

Mark Wynne-Smith, CEO of Jones Lang LaSalle Hotels, EMEA and moderator of the Leaders Panel AHIC session — which will see the bosses of Wyndham Hotel Group, Rezidor, Jumeirah Group, Golden Tulip and Kingdom Hotel Investments take to the stage — said: “Development activity will likely remain subdued in some markets in the short-term but we expect pick up across the entire market in the medium and longer term”.

This is supported by the United Nations World Tourism Organisation (UNWTO) report entitled 2009 International Tourism Results and Prospects for 2010’, which saw a 2% upswing in global international tourist arrivals for business, leisure and other purposes during the last quarter of 2009, with the Middle East, and Asia-Pacific leading the recovery through positive growth in both regions in the second half of 2009.

The report has also forecast growth of 5-9% for the Middle East in 2010, compared with a 3-4% world growth forecast.

Furthermore, recent figures from the International Air Transport Association (IATA) showed that MENA regional airlines grew overall passenger traffic by 11.2% in 2009, and ended with growth of 19.2% in December 2009 compared with December 2008, with this largely attributable to expansion by Etihad Airways and Emirates Airline.

Etihad Airways chief commercial officer Peter Baumgartner, who will be addressing the impact of airline growth on hotel industry demand at AHIC, commented: “Air travel plays a vital role in bringing visitors to the region, and the growth in passenger numbers in 2009, despite the difficult industry conditions, is a positive sign for everyone involved in the MENA region’s hotel and tourism sectors”.

According to Bench Events chairman and AHIC organiser Jonathan Worsley, these statistics coupled with industry sentiment following the International Hotel Investment Forum in Berlin shows the consensus to be “that the worst of the global economic crisis is over”.

“Intelligent and targeted investment is vital for the industry as the region recovers from the downturn, and the insight that will be offered by the group of speakers that will gather in Dubai in May will be invaluable for everyone involved in the industry,” said Worsley.

ROOM FOR MORE

The upshot is that hotel investment is most definitely still needed in this region. But while the positive outlook is refreshing, it is not certain. The key to success will be identifying opportunities, unlocking potential, obtaining funding and securing projects. And to achieve this, there are several challenges to be overcome, explained IFA Hotel Investments president Joe Sita, who will be speaking on the panel ‘Attracting the attention of today’s hotel investor’ at the conference.

“The objectives for investors in the Middle East are no different from other parts of the world: everyone is looking for good capital growth and good returns that are risk adjusted to their local market,” said Sita. “A project needs to not only show promise over the long-term, but also produce a positive income return throughout the life of the investment.”

Sita said the risk premium is higher in the region, in particular in Dubai, at present, but that he believes “it will see significant growth again and, as a result, the region will deliver good capital appreciation”.

The biggest challenge is the “dearth of debt funding” in all markets, which reduces the liquidity available, he said.

“As a result, investors need to put in more equity today than was required two years ago. For this to make financial sense, investors need higher returns,” said Sita.

“Also in line with what is happening around the world, the market has seen a decline in RevPAR and so investors must be extremely selective about the projects they choose. To be successful in today’s market, projects need to have premium locations, strong partners and good sponsors. This is the case, for instance, with all of our projects on The Palm Jumeirah,” he added.

Sharing the panel with Sita will be Roger Blackall, director of Hotels & Hospitality Division, Premier Group WLL, Kingdom of Bahrain.

Blackall agreed that “cash is king” and said that “only those companies with adequate reserves to maintain debt payments for the next two years will survive”.

He explained: “Property values have fallen significantly around the world and Middle Eastern investors have had to deleverage and/or restructure their assets, both domestically and abroad in an effort to hold on to assets, which have lost all or most of their equity. The task at hand now is to reduce overhead expenses and to slow down or stop construction activities for investments that are unlikely to have buyers, or that are in secondary locations.”

He said the challenges to investment in this region are familiarity with regional business practices, security of land title, availability of debt and market knowledge.

“Certain markets have become significantly oversupplied with hospitality and leisure properties and a deep understanding of local supply and demand characteristics is crucial to making strategic, successful investments in the region. Real estate markets are somewhat illiquid in the region due to a gap in the pricing sought by sellers and the prices that buyers are willing to offer,” added Blackall.

However, according to Jones Lang LaSalle Hotels’ Wynne-Smith, this gap is set to close during 2010, with the company predicting the “birth of the hotel transaction market”.

The company reported that for the second year in succession, hotel transaction volumes across EMEA experienced a downward trend falling 61% to €3.1 billion (US $4.1 billion) in 2009, representing less than a fifth of the peak volume achieved in 2007 (€21.4 billion / $ 28.7 billion).

Wynne-Smith said: “The main reason for the stability achieved in pricing during 2009 was a lack of stock. Only a few assets became available while some markets still experienced healthy investor demand. Even in a smaller buyer pool, investors found themselves in a competitive position when attempting to acquire an asset and this positively impacted transaction prices.

Moreover, vendors had continued to have relatively high price expectations. If buyers typically refused to meet these expectations, the asset was removed from the market, enabling the vendors to avoid an actual realisation of the drop in capital value.”

So the transactions that did occur were generally the result of a few buyers willing to meet vendor expectations, creating a perception that hotel values had not fallen as significantly as had initially been expected.

This year, Wynne-Smith predicts transacted prices to reflect market conditions more closely and realise the falls in value which were expected during 2009.

“Although the actual drop in values across EMEA’s main capitals could prove not to be as severe as was expected in 2009 due to improving investor confidence and starting recovery of the market, prices will more closely reflect actual market conditions,” he said.

“On a positive note, the growing stock will drive a notable increase in the hotel investment volume, which is forecast to reach €4.1 billion (US $5.5 billion) in EMEA in 2010. In the first two months of 2010, EMEA hotel transaction volume reached almost €700 million (US $941 million), already reflecting a near 25% increase on the volume achieved in the full first quarter of 2009, while the UK has rebounded and currently holds a majority share of 29%,” added Wynne-Smith.

LENDING A HAND

The pick-up in transactions is indeed positive, but it will depend, as Sita and Blackall observed, on the availability of finance and debt.

Considering the bleak outlook concerning bank lending globally, AHIC has dedicated a session to ‘how to finance your project’, with representation from both Jones Lang LaSalle MENA director — Capital Markets Gaurav Shivpuri and H Partners Investment Fund chairman Fouad Chraibi.

According to Chraibi there are three main factors which are influencing the market:
• Less fad for luxury real estate and therefore less income to finance hotel projects;
• Limited local financing and fund-raising;
• Toughness of debt-raising: higher debt costs and restrictive covenants.

Shivpuri said that there are “no indications, as of now, that banks will begin lending to real estate in a big way”.

He explained that: “Real estate financing in Dubai and the wider region has declined over the past 18 months as banks have tried to reduce their exposure to the sector. The bankers are even more averse to lending to the hospitality sector as they have a higher vacancy risk when compared to other real estate asset classes,” said Shivpuri.

Banks would consider lending to more developed assets, however, added Shivpuri.

“Due to limited availability of senior debt, some non-banking institutions are stepping in to offer bridge financing for short term periods to development projects. While their preference is for residential assets (which can be sold on a strata basis by the borrower/developer who can then pay the institution back), they are also looking at some hotel assets where a large part of the construction is already over.”

Generally, avoiding exposure to risk was the key priority for banks.

“Almost all lending that will occur will still be limited to a select few based on existing banking relationships, the strength of the borrower and the strength of projects. Today, the bankers are much more prudent and are scrutinising every little detail in a project prior to financing it. If there are concerns with respect to the long term sustainability and financial performance of the asset, the bankers will not be keen to move ahead,” said Shivpuri.

Chraibi said he thinks banks will continue lending, but only if certain conditions are met, and he pointed out that debt covenants might change “according to the quality of the investor”.

“Banking-houses will continue financing hotel projects in 2010, providing the creditworthiness of the investor and the quality of the project and its warranties. A good portion of the investment in equity is required, e.g. 40% minimum,” said Chraibi.

He suggested that new sources of debt and equity finance could come from financial companies, which open “the possibility to contract mezzanine debt involving strong warranties for higher debt costs” and government grants-in-aid to stimulate investment in the tourism area.

Reiterating the points of Sita and Blackall, Shivpuri and Chraibi are keen to drive home the point that the location and market conditions are the prime considerations for investors and operators.

So which countries in MENA, and which hotel sectors, offer the most opportunity waiting to be unlocked? Top of the list for several panelists was Morocco, with one of the country forums at AHIC specifically focused on the country and another focused on North Africa.

Kingdom of Morocco Minister of Tourism and Handicraft HE Yassir Zenagui and Moroccan Tourism Development Agency (SMIT) chief executive officer Omar Bennani will be representing the country, which has been highlighted by Jones Lang LaSalle Hotels as one of the ‘hottest markets’ for 2010.

This was reiterated by North Africa session speaker Philippe Doizelet, director of Horwath HTL, who commented: “Since launching a new strategic plan in 2001, Morocco has successfully pursued an ambitious partnership between private operators and the government, and focused on creating an investment environment with limited land cost, an open sky policy and no customs tax on equipment.

This has attracted hotel operators such as Accor, InterContinental Hotels Group and Starwood Hotels and Resorts and going forward there is no doubt that Moroccan hotel investment remains an attractive prospect. I think one of the key emerging themes is developments mixing hotels and privately owned residences.”

Total visitor numbers grew to 8.35 million in 2009, and Zenagui said that Morocco aimed to realise a growth of 10% on this in 2010.

“We have a strong desire to focus on sustainable tourism, with environmental awareness and a high quality tourism product,” he added.

Chraibi also pinpointed Morocco as “one of the most attractive destinations in Africa” but warned that investors need to “remain sharp”, with “an acute knowledge of the industry and the region”.

Blackall predicted that “tourism growth in North Africa and Syria will be strong over the next decade”, but advised investing in “the largest economies in the region — Saudi Arabia and Egypt”.

“Both countries have opportunities for lodging development in the three to four-star categories. Lebanon is in need of renovated top-end and midscale product,” he said.

As well as the need for diversification in certain markets, there is also a need for a focus on mixed-use projects that offer a variety of asset classes to suit a variety of investors — a strategy adopted by IFA.

Sita said: “Each of our hotel developments in Dubai, all but one of which is on the Palm Jumeirah, features the management of a five-star operator and offers hotel rooms, hotel condominiums, a private residence club and serviced residential units”.

The company is also seeking to find appropriate sites and partners to build the Yotel brand, of which it is a majority owner, across the region.

And despite speculation in overseas media that the Dubai hotel market has crashed, the experts remained positive in their outlook for the emirate.

Blackall said: “Dubai has established itself as a regional business and tourism centre; conditions will gradually improve and the future is bright for Dubai”.

OPERATING PERSPECTIVE

Finally, what was the opinion of the major hotel operators in the lead up to AHIC? Two members of the Leaders’ Panel — Wyndham Hotel Group president and CEO Eric Danziger and The Rezidor Hotel Group president and CEO Kurt Ritter — both said they were committed to growing their businesses.

Danziger said that because of signs of over supply in the Middle East, Wyndham was being strategic in identifying the appropriate assets for its brands.

“Our recent agreements for the Wyndham Riyadh and Ramada Encore Doha — both firsts for our company — are a testament to this,” said Danziger.

He said that further opportunities in the Middle East would mainly come from a likely diversification “into a fewer number of key regional cities and a larger number of leisure resort destinations”.

“In EMEA, we’re focused on emerging markets, primarily in those areas where there is an undersupply such as in some parts of the Middle East as well as in Poland, Ukraine and Romania,” added Danziger.
“Also, we’re looking at more mature markets including Spain, France, the UK and Germany, where there is a strong supply of hotels, a large part of which are struggling independents that need the benefits of a flag, especially now”.

Growth will be supported by regional leaders appointed last year for the first time: Michael Poynter to head the EMEA region and Ken Greene to head up the APAC region.

“On the development side, we appointed Jim Alderman as executive vice president of development. He has a strong team of developers around the globe that aggressively seek out opportunities for all of our brands,” said Danziger.

Rezidor has an ambitious business development plan as it builds on the 36 new openings achieved in 2009.

“We especially target two young and emerging markets: Russia/CIS and Africa where we see a huge potential for profitable and fee-based growth supporting our asset-light business model,” said Ritter.

“In Africa, we are called “the mover and shaker” of the continent; we have been present in the region since 1999 and today have 35 hotels with 7800 rooms in operation and under development. Our strategy targets capital and key cities with no or quite dated internationally branded hotels. Properties under development include Radisson Blu and Park Inn hotels in Addis Ababa, Ethiopia; Maputo, Mozambique; Kigali, Rwanda; Lagos, Nigeria; and Nairobi in Kenya.”

Of recovery of the hotel investment market in the Middle East, Ritter warned: “We are not out of the woods yet — the crisis is not over, and we should not celebrate too early. It is still crucial to carefully think through all decisions.

“I think that the Middle East will recover relatively fast from the financial crisis, and we will have a more relaxed ambiance at AHIC 2010 than at AHIC 2009. I also think that the region will be more and more open towards mid-market brands (for example Park Inn) and will be searching for new and profitable business models.”

It is these models, along with all of the issues discussed by the experts, that will be debated live at the Arabian Hotel Investment Conference. For more details: www.arabianconference.com