With a grim 62.5 percent occupancy rate year-to-date, high-end hotels are struggling, more so than their lower-brow counterparts, according to STR Global, a leading tracker of supply and demand data for the hotel industry. Chicago-based Strategic Hotels & Resorts Inc., which owns and manages 18 upscale European and North American hotels, is no exception.“Strategic has a great deal of debt, some convertible, some preferred,” said analyst David Loeb of Robert W. Baird & Co. “They need to delever their debt.”
Strategic’s long-term debt as of Sept. 30 was $2.14 billion, reflecting its risky game plan: buy luxury real estate in great locations. That strategy built escalating revenues and profits for a time, with net income hitting $101 million in 2006. But in the quarter ended Sept. 30, Strategic’s net loss widened by 12 percent to $73.5 million from the year-earlier period. Analysts are split on Strategic’s stock. Three analysts recommend buying and three recommend selling. Loeb has a target price of just $1. The 52-week range is 61 cents to $3.07. Strategic’s stock closed at $1.69 Wednesday.
Strategic is building liquidity by seeking extensions from lenders and selling assets, like a $54 million sale of its Mexico City Four to private equity firm Meridia Capital in October. But the company is more limited than its competitors in terms of potential transactions.
Sunstone Hotel Investors Inc., for example, partook in a process called “jingle-mail” when it handed over its W Hotel in San Diego to the company’s lender. Such a transaction, coined for the noise keys make when they jingle in an envelope, is very advantageous when a mortgage debt exceeds the property’s estimated market value. In this instance, Sunstone stopped paying interest on its $65 million non-recourse mortgage loan when the company estimated its 2009 debt service to hit $4 million and the hotel's 2009 earnings before interest, depreciation, taxes, depreciation and amortization to fall well short of this obligation, somewhere between $1.8 million and $2.2 million, Loeb said.
Strategic, on the other hand, can’t take advantage of jingle-mail since it doesn’t have individual mortgages on its assets. Still, even if Strategic had the opportunity, such a move could irreversibly damage its reputation with lenders. So the company is devising ways to curb costs.
Strategic pursued aggressive internal restructuring during the third quarter when it announced the hiring of Raymond Gellein, former president of Starwood Hotels & Resorts’ global development group and Eugene Reilly, the former president of AMB Property Corp.’s Americas division.
“These appointments are in line with…strengthening the board composition in this volatile environment,” CEO Laurence Geller said in a press release. “The experience and outstanding credentials of these individuals in hospitality and real estate will enhance our execution strategy going forward.”
Will Marks, a JMP Securities analyst, is confident Strategic will make a strong comeback.
“I don’t expect the company to go under. They may just have to sell some of their assets,” Marks opined.
Loeb, however, said he thinks the best survival strategy is to just cut costs.
But Jan Freitag, vice president of STR, disagrees, saying that slashing room rates, for example, could diminish a luxury hotel’s pristine brand.
“A hotel property’s rate is directly linked to the brand,” Freitag said. “Instead of reducing rates, hotels should offer automatic upgrades or free health club access to add value without touching the room rate.”
Strategic appears to be adhering to Freitag’s school of revenue thought, considering that guests interviewed at one of the company’s premiere Chicago hotels, the Intercontinental Hotel on North Michigan Avenue, said they haven’t noticed any changes in décor, amenities or prices. The Intercontinental and the company’s other Chicago property, The Fairmont, experienced revenue declines of 22.7 percent and 20.2 percent respectively in the quarter ended Sept. 30 as compared with the year-earlier period.
Paul Hatley, who stayed at the Intercontinental for the first time at the end of November to accompany his wife, in town for a Fidelity Investments LLC training, said the hotel went “way beyond the norm” to make up for missing a wake-up call he had scheduled. The hotel compensated him with wine, chocolate, access to the health facility and relocation to a larger room.
Freitag said that such compensation, also referred to as “service recovery,” is critical in order for a hotel to protect its reputation.
“You gotta overdo it,” Freitag said. “That’s the fear today, with Twitter and Facebook, guests can tell the world, tell their friends right away, if they’re dissatisfied.”
Hatley, however, did say that the hotel's products like shampoo, conditioner and body lotion aren't the quality to which he's accustomed. Though price was not a concern since his wife’s company was picking up the tab, Hatley said he's noticed in other travels that prices at luxury hotels have certainly dropped.
“I’ve noticed more value, especially at higher end hotels,” Hatley said. “I got a $169 rate at the Palace in New York City where rooms usually go for $400 a night.”
Milicent Pin, who recently arrived at the Intercontinental from Bloomington, Mich. for the sixth consecutive year for an annual conference of boards of education, found that her expectations continue to be met.
“I love this hotel,” Pin said wistfully while getting settled in the hotel’s ENO bar. “They’re very accommodating. I’ve never had a need that they couldn’t fill.”
Pin said she hasn’t noticed a decline in guest numbers or a change in prices. She also said the caliber of service, the primary reason she continues to choose Intercontinental, has remained intact.
“Will, the guy I met on the curb, said, ‘It’s good to see you again,’ when I stepped out,” Pin remarked. The hotel also made sure to save her a room from where her children would be able to watch the Thanksgiving Day parade on Michigan Avenue.
Though analyst Freitag needed only two words to describe the luxury hotel industry—“pretty bad”--he said that recovery will come.
“Back in heaven in 2011,” Freitag quipped. “With GDP growth and stock market, we should see sustained demand in 2010.”