Hotel Construction Sees Modest Comeback

Wall Street Journal – By KRIS HUDSON

Hotel construction, which dropped sharply during the economic downturn, has staged a modest turnaround, buoyed by building booms in New York as well as in small towns crowded with workers drilling oil-shale formations.

In the past four quarters, construction starts for U.S. hotels are up 32% by room count from the same period a year ago, and new-project announcements are up 22%, according to Lodging Econometrics, which tracks the hotel industry globally. Fueling the construction rebound are rising occupancy and room rates at U.S. hotels since 2009 and a willingness by more lenders to make hotel-construction loans, typically the most volatile and risky of commercial real-estate classes.

BlackRidge Companies – Hampton Inn & Suites, Williston, ND

The average U.S. room rate of $105.53 in the first seven months of this year marks a 6.6% increase from the same period in 2009, according to Smith Travel Research. Average occupancy increased in the same span by nearly seven percentage points to 62.3%.

The pickup in hotel construction is a mixed signal for the industry. Although it is viewed as a sign that developers are confident about the economy’s prospects and about consumers’ willingness to travel, some owners of existing hotels worry that too many new hotels can lead to lower room rates in the future.

But so far, analysts say the new construction cycle isn’t likely to lead to an oversupply of rooms, coming after nearly three years of declines in construction. At the end of the second quarter, developers had 474 hotels, totaling 60,000 rooms, under construction in the U.S. That is up from 437 hotels and nearly 55,000 rooms in the previous year. New-project announcements in the past year totaled 1,180 hotels, up from 926 announced in the previous year.

“Very modestly and very quietly, a new [construction] cycle has begun,” said Patrick Ford, president of Lodging Econometrics. The company predicts a steady rise in new hotel openings through 2014.

New York remains by far the most-active market for hotel construction with 7,248 rooms being built, amounting to roughly 11% of the national total. Though the city’s room count grew 7% in 2010 and 2.3% last year, its occupancy has remained above 80% since 2010. “New development is not catching up with the increase in demand,” said Issac Hera, chief executive of Brack Capital Real Estate USA, which is developing three hotels in Manhattan.

A similar hotel boom is unfolding in a far different locale: rural communities atop oil-shale formations being drilled for oil and natural gas. Of the top 10 U.S. markets for hotel construction in the past year, three are in oil-shale areas: North Dakota, with 2,088 rooms under construction; the greater Corpus Christi area in Texas, with 1,491 rooms; and rural Oklahoma, with 1,242 rooms.

Most developers in these smaller markets are building budget and midscale hotels to accommodate oil-shale workers and other energy-industry employee. The hotels are needed in these areas to house the many workers, from engineers to rig workers, needed to drill and complete wells across the region. Since those workforces move around often to different drill sites, companies prefer to house them in hotels rather than longer-term residences such as houses or apartments.

BlackRidge Companies, based in Bozeman, Mont., built Microtel Inns in the small North Dakota towns of Williston and Dickinson last year and opened a Hampton Inn in Williston last August. “When we first started, we were the second hotel in Williston to get built,” BlackRidge principal Jon Braxton said. “But more competition came along quickly. It’s as crazy as ever. Hotels still are running fairly full.”

However, some hoteliers worry that the hotel-construction booms in markets like North Dakota amount to a bubble set to pop, especially if federal regulation cools the drilling industry or if gas and oil prices decline sharply. Lamont Cos., based in Aberdeen, S.D., recently built a Hampton Inn in Dickinson, N.D., and the builder also is planning a Candlewood Suites in the town. Yet Jeff Lamont, president and chief executive, said he would sell the properties if the right offer surfaces. “I know of six or seven hotels going up in Dickinson,” he said. “It has us a little nervous about what might happen with the occupancy once all of these hotels are built. To me, it seems like there might not be enough demand there for all of them.”

Overall, two-thirds of new hotels under construction in the U.S. are either upscale or upper-midscale, according to Lodging Econometrics. Those categories include brands such as Hilton Garden Inn, Courtyard by Marriott and Holiday Inn. And many of those are limited-service properties, meaning they don’t include restaurants, spas or other amenities found in full-service hotels.

Developers and lenders tend to favor those types of hotels because they are more profitable than full-service hotels with restaurants. They also can be built on smaller sites and tend to hit their stride with occupancy and rate more quickly after they open.

The construction boom is made possible by the availability of construction loans, which dried up during the economic downturn but are now starting to flow again. Joe Hoesley, vice president of commercial real estate for U.S. Bancorp USB +0.58%in Minneapolis, said underwriting criteria remains fairly stringent for hotel developments. Most banks refuse to issue loans covering more than 50% to 60% of a project’s cost, and interest rates on those loans still are higher than loans to build offices or apartments, he said.

“Some of the banks that went to the sidelines [in recent years] have come back,” Mr. Hoesley said. But, “on the food chain of commercial real estate, [hotels are] still probably on the low end of banks’ appetites right now.” U.S. Bancorp has lent on at least 15 hotels currently under construction.

Hotel owner and developer White Lodging Services Corp. has six hotels under construction in five states. Deano Yiankes, president and chief executive of White Lodging’s investments and developments division, said that construction loans are “available at terms that are starting to get into the realm of doable again” for credit-worthy companies.

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A version of this article appeared September 19, 2012, on page C12 in the U.S. edition of The Wall Street Journal, with the headline: Hotel Construction Picks Up.