Strong up-cycle drives material and labor costs; hotel construction costs rise.

August 10, 2015 By Sean McCracken, Reporter,

NASHVILLE, Tennessee—One of the anomalies of the current demand boom in the U.S. hotel industry has been a relatively slow growth in supply to go with record-high levels of occupancy.

But with 128,734 rooms in construction as of June and 426,043 under contract, that looks to be changing in the near future.

A group of three active hotel developers spoke during the Hotel Data Conference on the panel “The growing pace of development and renovations,” saying there are both benefits and challenges to building and renovating during the up cycle.

The panelists agreed that now is a good time to build hotels, even if some worry the industry is past the peak of the good times.

“I think we still have some time” in this cycle, said Mary Beth Cutshall, senior VP of acquisitions and business development at Atlanta-based Hospitality Ventures Management Group. “We’re in a really good place. … I think we’ll have a fairly decent run for a bit.”

Tim Osiecki, president of architecture and construction at Concord Hospitality in Raleigh, North Carolina, has a similarly optimistic view on new development, especially if you can identify good markets.

“You’ve got to be cautious in those gateway cities—the Denvers and Miamis—that have seen enormous construction cost increases,” Osiecki said. “You don’t want to be the guy who built the last hotel before it changed. It’s not fun. But in markets like Pittsburgh, where we’ve developed 16 hotels, it’s been very steady without super highs or super lows.”

The challenge of construction demand
The recovery of the greater economy has paved way for a comeback in construction demand, which has led to higher material costs and a shortage of skilled labor needed to make development plans a reality, panelists said.

“Everyone is busy, and not just in lodging but real estate in general,” said Scott Peterson, senior director of development for the CSM Corporation in Minneapolis. “So finding that skilled labor is the most challenging. We’re having trouble finding masons, which is a pretty easy, bulk subcontractor base you can find in any market.”

Osiecki said you can still turn projects around on a relatively quick timeline if needed, but it comes at a price.

“We have a 258-room Hyatt House under construction,” he said. “It’s an adaptive-reuse project in downtown Jersey City. It’s a $92-million project, and we actually made the conscious decision to spend an addition $5 million to do it completely union. And that’s just because there’s a workforce pool there that we think is going to get us to completion at least six to eight months sooner.”

Deno Yiankes, president and CEO of investments and development at White Lodging in Merrillville, Indiana, said he has spoken to contractors who are booked for the next three years. That might push some developers into tertiary markets with less demand on contractors, but Yiankes said there’s a payoff for dealing with that headache.

“The pricing and difficulties of labor are correlated to the strength of some of these markets,” Yiankes said. “If you’re trying to do something (in a high-demand market) you can’t have those great market conditions you love without the same conditions on the construction and trade side. It fits hand in hand. But that’s a one-time deal, and once you’re done (with construction) you get to enjoy the strength of that market.”

Dealing with the renovation cycle
A lot of the same pressures that can weigh down a new development also apply to renovation projects, which puts a premium on knowing how to manage property improvement plans handed down by brands, according to the panelists.

Yiankes said it’s important to develop good relationships with brands and to be proactive to keep renovation costs down.

“If you have that relationship, it’s always better to lead with telling them what you want to do rather than asking them what they want you to do,” Yiankes said. “If you come in with a plan and it’s well thought out … there’s a lot less heartburn then going in and saying, ‘Hey what do you think?’ That opens up Pandora’s Box.”

Cutshall said it’s also important to carefully examine possible renovation needs at newly acquired properties, because otherwise that also can lead to large and unexpected costs.

“One of the biggest mistakes buyers make is underestimating capital needs,” she said. “You have to err on the side of conservative when you’re underwriting that.”

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