Guide to a downturn: The current crisis versus history
Guide to a downturn: The current crisis versus history
29 APRIL 2020 8:31 AM

Hotel News Now reached out to industry experts for a guide to understanding the impact of COVID-19 in comparison to past U.S. recessions including 9/11 and the Great Recession.

REPORT FROM THE U.S.—The churn of young professionals into the hotel industry workforce in recent years means there’s a large group of people who have yet to work through a downturn or unforeseeable shock such as the coronavirus (COVID-19) pandemic.

With that workforce in mind, experts have helped to compile a guide to understanding the COVID-19 downturn, with insights on past recessions and why the impact of the current pandemic stands apart.

David Loeb, founder and managing director of Dirigo Consulting, said everybody defines downturn a little bit differently. As it relates to the hotel industry, he said he tends to look at downturns as beginning when occupancy turns negative on a long-term smooth basis.

He said that happened before 9/11, before the 2008 financial crisis and in late 2019.

“What that’s all about is less demand growth than there is supply growth on a 12-month-moving- average smooth basis,” he said. “That’s the first thing I tend to see a downturn as—net demand declines.”

It is possible to make an argument that the 2008 financial crisis was not really a “black swan” event, he said, because many signs pointed to there being problems in the financial sector. In comparison, no one could have predicted 9/11, or the full impact of COVID-19, even after the first cases became known, he said.

He said COVID-19 is causing a “demand shock like no other.”

Recessions typically have both an economic and personal component to them, said Robert Mandelbaum, director of research information services for CBRE Hotels Americas Research.

“When people feel insecure, they cut their leisure travel budget,” he said. “Professionally, when there’s a recession, companies frequently look at their travel budget as a place to cut costs, and hotels just unfortunately react to that.”

He said what is scaring even the most seasoned industry veterans this time around is the magnitude and speed of the declines in occupancy and revenue per available room.

“We look back at our database and (we’ve) never seen such declines on an industry-wide basis let alone at an individual property,” he said.

CBRE is calling for a 2020 annual occupancy level of 42.6%, he said.

“The industry has never performed, as a whole, that low on an annual basis,” he said.

Because the hotel industry runs on day-to-day stays as opposed to months- to years-long leases, it is very volatile and reacts quickly when market conditions go south, he said.

Mandelbaum said in terms of similarities, both 9/11 and COVID-19 caused direct pain to the travel industry via canceled flights, travel restrictions, governments mandating that some hotels close. Indirectly, both hurt the industry by driving high unemployment and low oil prices.

During 9/11 and the Great Recession, hotels had supply growth above the long-term average of roughly 2%, Loeb said. He said that is interesting because now this marks three events in a row in which supply growth was starting to accelerate and then an impactful event occurred.

“If you think about the cycle that drives that, it’s not terribly surprising. During a recession or a downturn, lenders tighten up and it takes them a while to have confidence in the new cycle, (to begin) to be able to make construction loans,” he said. “When there’s no construction loans, there is very little new development.”

The past few cycles have shown that it takes years for new openings to pick up following a recession or a downturn, he said.

“This one (COVID-19) was no exception,” he said. “After the financial crisis, we had very slow supply growth and then lenders started to become a little more aggressive and began to do new construction financing. Several years ago, we got to a point where a lot of those hotels were opening, and were opening at a faster clip until February.”

Loeb said that’s a natural impact of the cycle. It becomes exaggerated because of the delay to turn on the financing spigots, as well as the delay between when financing is achieved and the hotel opens.

Recovery this time will depend in part on how aggressive the federal government is in aiding businesses and individuals, he said.

“The federal government is the only entity in this country that has essentially unlimited borrowing capacity, and borrowing is really cheap right now. I’m usually not a fan of huge deficit spending, but if there was ever a time to do it, this is the time,” he said.

He said the more that individuals and businesses are cushioned from the losses that they are going to incur, the quicker those businesses and individuals can get back to doing economic activities that produce GDP.

During the recessions brought on by 9/11 and the 2008 financial crisis, successful hotel companies tended to not cut rates or let their operators cut rates, he said. Instead, they were much more judicious about their pricing strategies.

The unsuccessful ones put their room inventory on the online travel agency websites and took whichever price they could get. That approach not only brought down the market, it resulted in no operating profits for those hoteliers.

Most successful companies went into the last downturns with strong balance sheets while unsuccessful ones started with over-levered balance sheets, Loeb said.

“If you go into a downturn with too much debt, it’s really hard to be nimble on the way out,” he said.

Having a strong balance sheet allowed companies the opportunity to do buy-backs of stock if they were public, as well buy other assets at distressed prices, he said.

“Coming out of the downturn, having capital to deploy to buy assets or consolidate operating businesses was really helpful,” he said. “It’s harder to see when to do that today because we don’t know how long this is going to go on and what the ramp-up is going to look like.”

Mandelbaum said one of the lessons learned from the Great Recession is greater discipline in expense control and operations.

“There are lessons that are learned that hopefully stick,” he said.

Loeb’s advice for people who are new to the industry is to watch and learn everything. It’s also important to remember this is not normal, he said, and we might not see something like this happen again.

“You’ll never forget this. It will mark your career, and there are a lot of lessons that you can pick up about what works and what doesn’t,” he said.

Jan Freitag, STR’s SVP of lodging insights, said STR’s data set looks at three prior recessions: 1991, 2001 and 2008/2009. Every time, the impact on room demand and RevPAR became steeper, and this current recession is going to have the steepest demand decline ever recorded, he said. (STR is the parent company of Hotel News Now.)

He noted, however, this event seems to be very finite.

“When you look at the Chinese data, it seems to suggest there is indeed already occupancy building, very slightly of course, and that has implications for what the rest of the world would look like,” he said.

Based on knowledge of past external shocks, while room rates decline swiftly, room rate recovery takes twice as long on an annualized basis, he said.

Source: STR, © 2020 CoStar Realty Information, Inc.

“We saw post-9/11 that the annualized room rate declined for 12 months in a row, but then (there was) an increase for 24 months before it hit the prior peak,” he said. “The same was true post-2009; room rates declined 17 months then rebounded for 36 months until they hit prior peak (levels).”

He said that is the expectation this time, as well. Room rates will recover but at a much slower rate. Demand will recover a little bit faster as people will be eager to travel after being sheltered in place.

STR/Tourism Economics’ revised forecast, published on 30 March, calls for decreases in each key performance metric for the remainder of 2020. However, strong returns are expected in 2021.

Jamie Lane, senior economist for CBRE Hotels’ Americas Research, said its updated baseline forecast as of 6 April calls for a three-year recovery, and two years for employment to bounce back.

He said employment is one of the major underlying variables that go into the overall recovery projection because that helps indicate how many will be traveling whether it is for work or leisure.

“By Q2 2022, we’ve recovered to 2019 levels of employment. That is significantly faster than what we have seen during prior recessions,” he said. “In the 1990 recession, it took about two and a half years; in the 2001 recession, it took about four years to recover; and during the (2008) financial crisis, it took about six years to recover. We’re showing a quicker recovery in employment than all three past recessions for the COVID-19 recession.”

Source: BLS, CBRE Research

How quickly lodging performance recovers depends on the nature of the recession, Lane said. Considering nominal RevPAR levels, CBRE is projecting a recovery of roughly three years, with demand returning in about two years.

“Generally, what you see in lodging is that demand comes back first and then it takes another year or two to recover rate,” he said.

Source: BLS, CBRE Research

CARES Act: CARES stands for Coronavirus Aid, Relief and Economic Security Act. It is the $2-trillion stimulus bill signed by U.S. President Donald Trump on 27 March to offset impact from the coronavirus (COVID-19) pandemic.

CMBS loan: A commercial mortgage-backed security loan is a type of commercial real estate loan that is secured by a first-position mortgage.

Default: A default is when a property fails to meet the obligations of its loan agreement. Typically, this means the hotel could not afford to pay its debt service.

FFCRA: The Families First Coronavirus Response Act (FFCRA) went into effect 1 April and will run through 31 December. It will require employers with up to 499 employees to provide employees with paid sick leave as well as expanded family and medical leave for reasons due to COVID-19.

Furlough: A furlough refers to a temporary layoff. People who are furloughed often do not get paid while furloughed but can retain employment benefits. Furloughed people typically get to come back to work.

Layoff: In the past, layoff was synonymous with furlough, but today it is generally used to describe a permanent dismissal from work. Employers who lay off workers often can’t afford to pay employees because their business is declining amid mounting economic pressures.

LTV: Loan-to-value ratio is the percentage of the loan to the overall property value. The value could include purchase price, development cost, appraised value or current value and renovation cost.

Mezzanine debt: A form of secondary financing, like a second mortgage. It is a higher risk to a lender and typically has a much higher interest rate.

Non-recourse: This is a provision in a loan that forbids the lender from seeking debt payments from the property’s owner.

PPP: The Payment Protection Program (PPP), also known as SBA interruption loans, aids smaller businesses in covering payroll, most mortgage interest, rent and utility costs for eight weeks. Though eligibility requires a business to have fewer than 500 employees, hotel companies with more than 500 are eligible if the employees are not all at one location.

Recourse: This is a provision loan that allows the lender to obtain compensation from the borrower when the property is in default.

SBA-guaranteed loan: This type of loan is made by a private lender and are guaranteed up to 80% by the Small Business Administration.

Technical default: A technical default is when a property is able to pay its debt service but cannot uphold other loan provisions.

• Inside the CARES Act: How its loans can help hoteliers
• Navigating the questions presented by labor law changes
• STR: US hotel industry still long way from recovery
• Examining operating performance at low occupancy levels
• Inactive capital likely to sweep through hotel distress

1 Comment

  • Paul Parashar April 29, 2020 11:48 AM Reply

    Very balanced view.

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