When walking into hotel lobbies these days, I sometimes wonder whether I have entered through a side entrance into the bar or restaurant. There’s been a lot of talk lately about maximizing revenues from every square foot of a hotel’s interior, including the formerly under-utilized reception/lobby area. Lobby spaces are being converted from stark, transitory spaces to dynamic spaces with coffee bars, chic lounges, restaurants and museums. Examples of this approach are all around, especially in recently remodeled properties. All you have to do is go to the newly re-gilded lobby of the Palace in New York.

But are revenue-generating lobbies a new concept or do we just have short-term memories? I would like to point to the lobby of the Astoria, which opened in the 1930s. The large open space around the clock is dotted with living room-like chairs which flow into the famous Peacock Alley restaurant. While perhaps the original intent was not solely to create a revenue generating lobby space, it is certainly true that guests and non-guests alike often enjoy utilizing this inviting space.

Ian Schrager’s Royalton Hotel, now part of Morgans Hotel Group, is another example of lobby space being used for revenue generation. Since its opening in 1988, hipsters and wannabes have hankered for the opportunity to sip expensive cocktails there. Starwood built upon this idea with its “living room” lobby concept in the W Hotel on Lexington that is arguably more popular than its bar.

As hotel owners and operators seek to squeeze every penny possible out of each square foot, effective use of lobby space for revenue generation is a welcome tactic. It is arguably preferable to bolstering profits by charging for local telephone calls, tripling the prices on mini bar items relative to the corner store, and fees for internet access (which never fails to irk me), but that’s a topic for another posting (coming soon).

When talking about the redevelopment of the lobbies at Courtyard by Marriott in the article referenced above, Brian King, vice president and the global brand manager indicated that it was their desire to keep guests from walking out the door to spend money in another establishment. Updating the lobby space with a cafe-like offering was meant to capture this revenue-generating opportunity

Perhaps owners and hoteliers should think beyond this loss of revenue to something entirely more bold. If these same spaces featured a unique offering that surpassed anything in the area, would that space not only retain guests of the hotel but also be a favourite for non-guests as well?

As predicted by many currency traders, the dollar may have turned the corner, most significantly against the Euro, as discussed in the Economist today. After peaking at US$1.60 against the Euro on April 22nd, the dollar has strengthened to below US$1.54 on May 2nd in response to the “perception that the period of Federal Reserve easing may be coming to an end.”

For owners and hoteliers operating in gateway cities around the United States, this news may come with mixed feelings. With slowing domestic corporate and leisure travel impacting operating results for the month of March, as has been reported reported by STR, it is believed that much of the demand bolstering these results is leisure demand created by the exchange rate. One just has to walk through SoHo in New York to see the Europeans that are flocking the city, taking advantage of the favorable exchange.

According to STR, New York RevPAR was up 7.6% year-over-year for the month of March and is up 12.3% year-to-date for the same period. But will a strengthening US dollar put an end to the European invasion? Not likely anytime soon as the Euro continues to trade at historical highs. Dollar/Euro exchange projections made by AIB in April 2008 project slow strengthening of the dollar throughout the year and into 2009 (although current trading levels are already below the 2Q target). American gateway cities, New York in particular, can likely expect continued bullish leisure transient demand from Europeans to bolster results. The British Pound remains just below US$2, hovering around this level since last autumn, which is also favorable versus historical levels.

So New York hoteliers, brush up on your French, German, Spanish and Italian, because you’re likely to be entertaining the Europeans this summer!

Hotel owners and developers in the United States are currently stalled in their efforts to finance acquisitions, developments, renovations and refinance existing assets. Corporate transactions have been equally hampered by the current market uncertainty, with credit committees reluctant to approve much of anything these days.

Lenders are extremely cautious when it comes to booking deals at the moment. It seems that no deal is better than a bad deal. With little appetite in the secondary market, banks are acutely aware that agreed exposures will likely remain on the balance sheet for the term of the loan. For this reason, only the safest existing asset transactions are likely to get done today. For loans of greater that $25m, a club will likely have to be assembled in such increments. Nearly everyday I get asked the question; So when do you think markets will open up again?

As we all know, markets are cyclical. We are in a period of uncertainty similar to others in the recent past. It took approximately 18 months for confidence to return to financial markets post 9/11, for example. It has now been 8 months since sub prime began to unravel and it appears the worst is behind us. As such, LIBOR peaked in early December 2007 as did the TED spread.

For the time being, it appears that financial institutions will continue to err on the side of caution, which should make it a quiet summer on the deal front. In the absence of further bad news of write downs by major institutions related to US real estate assets, it seems confidence may begin to return by year-end. (As an aside, I read a recent article criticizing the methodology banks have used to mark assets to market, which substantiated the write downs, which speculated that there may be write ups made in coming months.) Inflation may also threaten to further delay recovery by leading to higher interest rates just as banks regain their appetite for the sector.

Lodging demand is already being affected by companies curtailing overhead expenses and Americans’ more frugal spending patterns in recent months. March is expected to be the weakest month in recent memory with softness expected to continue near-term. Projected operating results and asset valuations will be affected, which will likely make any financings undertaken in the year a bit bumpy.

In the absence of further bad news, it seems we have another 6 to 12 months before lenders return to the lodging sector. That being said, relationship-driven institutions with foresight and an interest in building a
loyal client base in the sector would be wise to go into bat for companies it wishes to woo during this downturn. This would entail working with credit committees to get them comfortable with lending again in this uncertain climate. Now the next question, who are those lenders?

There’s been a lot of buzz lately about all things Green; not just in our industry but across many sectors and jurisdictions.

With any industry, the reasons for adopting new business practices are driven by potential returns. The decision to go Green is no different. We can all call for change but ultimately, such decisions need to enhance asset values and drive profits to the bottom line.

It seems that incentives offered in many jurisdictions are providing sufficient enticement to developers to embrace Green construction practices. A noteworthy example is the new Green brand, element by Starwood Hotels & Resorts (www.elementHotels.com), which has committed that every hotel under this flag will meet the US Green Building Code’s LEED certification requirements (www.usgbc.org). While pure speculation, Green incentives linked to LEED certification likely factored into the site selection for element hotels and their projected returns. Embracing Green operating practices also contribute to a property’s bottom-line, but will be discussed separately.

While incentives offered in each locale vary (which will also be addressed separately), we can make some general observations regarding the impact of going Green on the underwriting process:

1. Development costs are likely be higher overall on a per key or square foot basis, offset by cash incentives for materials and equipment used in some jurisdictions. Increased hard costs will be compounded by soft costs required to identify such Green building initiatives and substantiate them to authorities in order to obtain required certifications and incentives.

2. Post-opening, certain operating costs are likely to vary from a typical operation due to the green construction methods used, including:

a. Rooms Expense: Moderate savings may be realized in Rooms Expense should refillable dispensers be installed to provide bathroom amenities.

b. Repairs & Maintenance: R&M expense will likely be slightly higher as Green building products and materials tend to be less durable and more costly to replace.

c. Utilities: Utilities costs are likely to be lower with energy efficient doors, windows, equipment, light bulbs etc, having larger windows to make greater use of natural light, and generally using less water.

d. Replacement Reserve: A higher than usual Replacement Reserve is likely prudent for the same reasons discussed in R&M above.

e. Corporate Taxes: Obviously corporate taxes should be lower when accounting for federal, state/regional and local incentives. Tax credits are available to developers in nearly every state in the United States today, and vary widely.

Ultimately, the choice to go Green is a business decision not an ethical one. But with increasing levels of benefits to be realized, can companies afford to not go Green?

Ever since this whole sub prime powder keg exploded, I’ve been saying to people that none of this would have happened without the rating agencies. To my surprise, most people have disagreed with me, however, rating agencies appear to be the latest casualties in this expanding crisis (as discussed further here).

So why do I blame the rating agencies? The crux of the argument was eloquently framed in a New York Times Magazine article this week. Essentially, rating agencies “[turned] risky mortgages into investments that would be suitable for investors who would know nothing about the underlying loans.” By issuing these independent opinions regarding the relative risk of mortgage-backed securities, the rating agencies facilitated the broad syndication of these products.

To be very blunt, institutions would never have bought these securities without the rating. Investors relied on the rating agencies to conduct due diligence on their behalf and trusted them to do so. In the case of UBS, the highest rated securities were considered so liquid that very little of the highest rated exposure was hedged and it did not appear on many internal reports detailing value at risk calculations (as further described here). We can only assume other financial institutions engage in similar risk weighting practices.

For their part, the rating agencies collected huge fees for issuing such ratings and saw their profits soar. Certain bankers defend the rating agencies by asserting that the relative risk was assessed appropriately given current agreed-upon risk assessment procedures in place. But it would appear that not all Triple-A ratings are made equal. Further, it appears that current rating procedures should be carefully scrutinized and very likely reconsidered.

The rating agencies were not alone in profiting massively. In fact the common factor in this whole sub prime debacle was the money that was made from it at all levels. Mortgage brokers were incentivised by fees to push as many loans through the system as possible. Lenders kept on churning out loans as they knew they could be readily moved off their books; also collecting fees. Investment bankers received huge fees (possibly as much as 6% of the total) for packaging up the mortgage backed securities for onward sale in the market. But this liquidity in the US mortgage market never would have been created without the ratings.

It was like a financial version of musical chairs, except that when the party music stopped, somebody had to hold the sub prime bag. And it certainly wasn’t the rating agencies.

I’ll end this entry with one final thought. Naysayers, including my wife (a former equity researcher), argue that nothing excuses one from not conducting appropriate due diligence. Buyer Beware, it seems. If that is the case, what role do the rating agencies play and why do we trust them anymore anyway?