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What’s Happening Out There?
October 12, 2007

Like a farmer searching the dusk sky for portents about tomorrow, so are we all scouring the news for snippets, signs and omens to help us understand what’s happening in the economy and how it will affect our businesses.

Is the United States going into a recession? Will the GDP be 1%, 2%, or even more next year, or might it be less? Will oil reach US$100 a barrel—and what will happen if it does? Will the Cubs win next year’s World Series? (Sorry, but like so many die-hard Cubbie fans, I would love to see them win the pennant just once before my dementia further sets in).

I am no soothsayer. I have often said that he who lives by the crystal ball inevitably ends up eating ground glass. So I won’t bother wasting your time with my forecasts of what will be. However, I’ve written before, and will repeat again here, that the global economy is no longer driven by the U.S. economic growth engine. Today, the economies of China, India, Brazil, Mexico and Russia are inextricably interwoven with ours. When their economies are healthy—and for the most part they are—we are generally in good shape, and we in the U.S. are far healthier, even if our own economy has cooled.

I routinely watch the following economic indicators to get a feel for lodging demand trends:

• GDP growth rates/forecasts
• Year-on-year corporate profits
• Available airplane miles
• Non-farms payroll
• Housing starts
• Housing sales
• Corporate inventory levels
• Unemployment statistics
• Number of non-farm employees in the economy
• Enplanements and deplanements
• Retail sales forecasts
• Bank deposits
• University of Michigan consumer confidence levels

All of these are good barometers of demand. If the majority of them are trending up, history dictates that lodging demand will generally be up as well. What else can help inform our thinking?

• Corporate rate-setting season: Strong rates and other conditions are a good indicator of corporate confidence and likely lodging demand
• Group booking pace: If it’s up, it indicates confidence in our economy
• Transient demand: Strong transient demand means no one is panicking
• Christmas bookings: A lot of social business and Christmas parties means confidence is generally strong

If you are watching a variety of these indicators and believe all signs point to a real or sustained downturn—and I’m not suggesting that I do or you should— you would still have some time before the worst would happen since our industry’s demand typically lags a GDP downturn by three to six months. Since it usually takes 60 to 90 days to implement your first level of contingency plans and begin cutting costs, if your reading of the tarot cards tells you the economy is going to be bleak, then start cutting costs now because it will take time for results to show up.

If you don’t believe things are likely to trend down, use this time to prepare your contingency plans and identify real trend-line triggering events that would cause the plans to be implemented.

There is no doubt that credit is tight today and will remain so while the built-in pipeline of debt clears the syndication market. However, the Wall Street banks appear to be cleaning things up as they take their write-downs this quarter.

Debt is still available; the insurance companies are in the market to make loans, as are line banks. Perhaps it costs a little more than we have gotten used to and perhaps they want a lower loan-to-value ratio, but the debt is available. Remember, too, that plenty of private equity has been raised and is out there, ready and waiting. I don’t recall too many private equity firms giving the money back to their investors saying, “Sorry, we can’t find a home for it.”

Inevitably, two things will happen:

• The buyers who want to load up with cheap debt in the 85% to 95% of cost-of-project range will have a hard time. Those who want less debt won’t have a problem.
• Much of the planned supply, particularly on the high end, will not get built in the short term, particularly if it is planned in residentially oriented, mixed-use developments.

I don’t mean to oversimplify, but ultimately, the health of our industry is led by only two factors: demand and supply. If supply is constrained or we have a slight temporary turn down, the value of existing supply will be higher when things pick up because availability is limited. So existing hotels will increase in value, room rates will accelerate and construction costs will increase, making existing hotels even more valuable.

Here’s a final thought if you are still depressed: Up cycles in our industry are traditionally eight to 10 years; we’re only in year four.

Posted by Laurence Geller on October 12, 2007 | Comments (0)