Developers of select-service hotels need to install capital improvements that go beyond brand standards to maximize their return on investment in the crowded segment, according to speakers at the recent Meet the Money conference.
LOS ANGELES—The select-service segment’s rise among hotel developers isn’t a surprise, according to panelists who discussed the product type during the recent Meet the Money conference.
The segment—which comprises the upper-upscale and upscale chain-scale segments—represents 63% of the active U.S. hotel development pipeline, according to data from STR, the parent company of Hotel News Now.
Sam Reynolds, EVP and director of acquisitions/dispositions and portfolio management at Apple Hospitality REIT, said there’s a reason why the segment is popular among developers.
“Return on investment is the easy answer,” Reynolds said during the “Being selective about select-service” session. “We’ve been investing in these for a long time. Seems like the biggest bang for our buck on an individual asset is on select-service.”
Reynolds said attraction of an eight-plus capitalization rate is an underlying reason Apple likes to buy select-service properties from developers when construction is complete.
A leaner operating model than full-service properties is another big attraction for owners and developers, panelists said.
“You have fewer amenities, you have fewer departments that need to be managed, so your staffing model is wider versus a full-service hotel,” said Cartarwa Jones, VP at RLJ Lodging Trust. “You don’t need a director of catering or a (director of sales) and two or three sales managers to set up hotels. So a staffing model is definitely huge.”
Mark LeBlanc, EVP of development and acquisitions for Interstate Hotels & Resorts, agreed.
“With the pressure from labor—and it isn’t just the cost from labor—it’s actually just trying to get labor, especially in markets like California and New York … (select service) is a much simpler operation and your initial investment isn’t what a 500-room (full-service hotel) would be,” he said.
Chris Dobbins, VP for InterContinental Hotels Group, said select service “really gives guests what they want,” which is a benefit to owners.
“It’s not a bunch of restaurants that nobody goes to,” he said. “It allows guests to walk in and select what they want. It’s got better margins for the owner. It’s a great space to be in and I think it will be for a long time.”
An evolved select-service product
Despite the strong pipeline, there’s no danger of oversupply on the macro level because select service is a product that guests respond to, said Bruce Baltin, managing director of CBRE Hotels.
“The danger with select service is that if you’ve built prototypically, designed prototypically, with really no character or not a lot of character other than what’s in the brand itself,” Baltin said. “The consequence of that as supply exceeds demand … those properties aren’t as successful.
“Today it’s less of a risk because we’re seeing more select-service hotels being built with more character, with more emphasis on designs, more emphasis on operations, more emphasis on the quality and the experience.”
The other panelists agreed, and several pointed to Newport Beach, California-based developer R.D. Olson Development as a leader in the “cut-above” space.
“(Olson) is building in top markets that can get (average daily rate),” said Reynolds, who added that his company has bought a number of hotels from R.D. Olson. “You’re not seeing the prototypical deals across the country; you’re seeing some sort of uniqueness and where you can get the rate, you can drive the rate, you can justify doing some nice upscale improvements to these during development.”
The nature of prototype properties in the select-service space has changed, LeBlanc said.
“The days of taking the prototype with the token pool and just dropping it someplace, it probably would work, but I don’t think when the competition comes in it’s going to be to your benefit,” he said. “The cost of taking that public space, whether it’s the pool or lobby, and going above and beyond, it has a great return. The guest experience is really going from the room into the public space, and we need to be more thoughtful of that.”
Jones said a lot depends on the physical aspects of the hotel—a historic rehab project might have small rooms so it needs that extra push in the public space to enhance the guest experience.
“The brands are a little bit more flexible, especially in those urban markets where it makes more sense,” she said.
Many U.S. cities, especially on the West Coast, require something above the norm for a developer to be awarded approval, Dobbins said.
“You can’t even come to the table with some of the cities unless you’re willing to do some sort of interesting thing in the lobby or (something) customized, more localized, so it feels like when you check in, you are where you are and not in some prototype in the Midwest,” he said.
The most important aspect of that is a higher ADR, Baltin said.
“We’re seeing the customer absolutely willing to pay for it,” he said. “(Olson’s) new Courtyard at Irvine is actually the rate leader after one year. Some of his other (California) properties—Burbank, Goleta—have also outperformed because they the upgraded design put into them.
“It doesn’t take that much more money to put some thought into the design and operation,” Baltin added. “Those are two elements of a cost to a hotel that can really make a great hotel with enhanced value.”
How to treat brands
The differentiators for select service must come from the developers—not the brands, panelists said.
“A great hotel is developed by a developer, not a brand,” Baltin said. “Brands, basically, are the marketing organizations. To make a really good hotel, for everyone I’ve ever worked with, which is a long time, it’s personal or somebody with a vision. (RDO CEO Robert Olson) puts a tremendous amount of thought into his hotels, and then he has to sell that to Marriott. Marriott at first showed some resistance to it, but then once it became successful, he became the developer of the year two years in a row.”
But brands are important when it comes to return on investment, especially when acquiring a select-service hotel, Jones said.
“You’re really trying to make sure that a brand isn’t going to change (standards) on you within the next year,” she said. “It’s kind of hard to really figure that out because the brands are constantly changing.”
She cited an example of some brands changing their philosophies on shower-only bathrooms.
“A few years ago some of the brands only wanted a certain percentage of the king rooms converted from tubs to showers, for example,” Jones said. “With (property-improvement plans), 100% of your king rooms have to be converted to showers. So we’re seeing some expense creep from the capital perspective and can take that into account when we’re looking at deals.”
Focused on F&B
Another differentiator for top-notch select-service hotels is their food-and-beverage component, panelists said. It’s important to not make it a competition with full-service properties, but the right F&B mix is essential to meet guest demand.
“If you’re going to do F&B anyway, why not just do it well?” Baltin said. “Some of the brands really loosen their flexibility on F&B over time as they realize the consumer does want some choices and you can do the same variety of things, and do it well.”
Dobbins said the F&B options play well into the labor requirements for select-service properties.
“Food and beverage differentiates us from the limited economy brands and that’s the great thing about select service is, again, you get what you want there,” he said. “The key thing to watch is the cost per meal. … To keep costs down, you don’t need a high-skilled person to operate that kitchen, but you’ve got good-quality stuff coming out.”
Satisfying the guests’ need for convenience is an essential mindset for select-service hotel operators to remember, Dobbins added.
“Select-service still has not figured out F&B,” LeBlanc said. “They’re all trying to figure out how do we do this, take care of the customer and make some money on it.”