As hoteliers and industry analysts try to predict how the rest of the cycle will unfold, a lookback to the early 1990s could provide some clues.
No other question has been asked of STR more often than this one. Operators, owners and investors all want to understand how much longer the current up cycle can continue. And while our forecast still calls for positive revenue per available room growth through at least 2017, it is difficult to comment on the end of cycle. (STR is the parent company of Hotel News Now.)
A benefit of having access to data back to 1989 is the ability to compare the current hotel industry cycle to other cycles in the past. Clearly the current period does not compare to the 2007/2008 or 2000/2001 cycles when external events caused a precipitous decline in U.S. room demand followed by a steep fall in average daily rate. Looking further back after the moderate recession of 1990, starting in 1992 could be a better comparison point because RevPAR growth was positive for a period of nine years (until 2001). Because we are in the seventh year of prolonged RevPAR growth, we thought it would be interesting to compare these two cycles.
Obviously the recession in the early 1990s was much more subdued than the meltdown of 2008, so the rebounds in the first two years after the recession ended are not comparable. In 2010 and 2011, annualized RevPAR growth topped 8%, whereas in 1992 and 1993 RevPAR growth was never stronger than 4%. In March 2016, the annualized RevPAR change was equal to the change in November 1997 (+5%). At this point in the late 1990s, RevPAR growth was already on a downward trajectory but remained positive all the way through the impact of 9/11. And today forecasters are basically making the same case that RevPAR growth will subside and be on a slow gradual descent.
By looking at this growth trajectory, the RevPAR changes might be similar. But how are the cycles different?
Differences in supply
Supply growth, for one, was different in the late 1990s.
Whereas annualized supply growth peaked at about 4% in December 1998, today rooms are only being added at around 1.3% per year. It is likely that the active pipeline of more than 150,000 rooms under construction will increase the supply growth meaningfully. That said, at various industry conferences the lack of “easy” financing is bemoaned, and this might actually cause supply increases to be manageable in the late 2010s, which would be a good thing for everyone.
Occupancy growth in the late 1990s actually declined. The industry sold more rooms than in prior years, but new supply took its toll until in late 2000 when occupancy actually started to rise again.
Obviously this increase in occupancy was short-lived, but it stands to reason that in the current cycle demand and supply will likely even out, and then supply growth will outpace demand growth. The industry would then be in the same spot as in May 1996 when occupancy started to decline. It is worth noting, however, that occupancy only ever declined 1.2% on an annualized level at its weakest level.
If supply in this cycle increases to between 2.2% and 2.5%, then a moderate decline in occupancy of 1.2% would imply steady demand growth of between 1% and 1.5%, which is something that seems reasonable if gross-domestic-product growth is indeed around 2% for the foreseeable future. Keep in mind that even small increases in rooms demand would imply new room-demand records.
The effect on ADR
Obviously the other question on operators’ minds is how ADR will behave.
Prevailing wisdom holds that in times of depressed occupancies that operators are not as aggressive with their rate increases as they try to preserve or even build up occupancy. But is the wisdom that “decrease in occupancy causes a decrease in rate” really a law of nature?
By looking back at the 1992 cycle, it seems that operators were not fazed by small declines, and actually ADR increased well over 5% on an annualized basis just as occupancies started to fall. Eventually ADR growth declined to just over 3%, but it never went negative. In other words, occupancy declines in the mid-1990s did not cause any rate declines at all.
In the current cycle, the ADR growth trajectory seems to hover around the 4% mark. It will be interesting to see what happens to hoteliers’ confidence once supply growth outpaces demand growth, which we expect to happen sometime in 2017.
The ADR increases between the 1992 cycle and the current cycle are virtually the same when adjusting for inflation. The reason that the ADR increase in the 1990s was more than 5% was probably that inflation was in the 3% range. Today it is much lower, and the consumer price index adjusted room rate increases are around 3.5%, as they were during the last cycle. And even when adjusting for inflation, ADRs never declined.
Outlook and conclusion
Where does this leave us?
It is highly likely to assume that in the near future the current building boom, coupled with sluggish economic growth, will lead to a supply-and-demand imbalance in favor of supply growth. Then each hotelier will face fewer occupied rooms—despite the fact that for industry actual numbers of rooms sold continues to break records. And the $100-billion question is if hoteliers will then sacrifice room rate to build occupancy or rather do the rational thing and take a slight occupancy hit and keep ADRs strong.
Of course one of the main differences between the mid-1990s and today is almost complete price transparency. Whereas in prior decades competitors’ discounts and special offers were difficult to capture, today’s channel management software allows for complete insights into the competitive pricing landscape. A move by a competitor to decrease rates and to leave discounted channels open longer can trigger a competitive response to decrease ADR and a vicious cycle ensues. The old adage, “You are only as smart as your dumbest competitor,” is never truer than in this environment. It will be interesting to see how hoteliers react and if they can emulate the positive pricing environment of the middle and late 1990s.
Special thanks to SVP Bobby Bowers for the idea for this article.