A GIRAFFE FROM HEAD TO TAIL

The Giraffe is on record as the animal with the longest tail. Unfortunately, the current lodging depression may have a longer tail than any we’ve seen in quite a while. RevPAR peaked in the fall of 2007 at an all-time high. Occupancy has been falling since the spring of 2006 which should’ve been THE signal to sell the lodging stocks as it usually is. Likewise, as we discussed in our 01/07/09 post, “FILL ‘EM AND THEY (INVESTORS) WILL COME”, the stocks do not typically sustain rallies until occupancy begins an uptrend.

Unfortunately, we don’t appear to be close to trough occupancy as the rate of decline is accelerating, never mind going up. Further, we believe analysts are vastly underestimating the margin hit. Average daily rate follows occupancy down and recovers after as illustrated in the first chart. Rate has only just begun to fall. Rate changes have a much bigger impact on margins. As can be seen in the 2nd chart, margins follow rate pretty closely.

A few issues will exacerbate and extend the current downturn. The hotel environment deteriorated so quickly that 2009 will actually benefit from group and corporate business that was booked closer to the height of the cycle. Even if demand improves in 2010, business booked in 2008 and 2009 will be a major drag. Second, FX is a major headwind for lodgers with significant European exposure such as HOT. Third, the gateway US cities, especially New York, will face difficult comparisons as the global economy deteriorates with a lag to the US. Finally, timeshare operations, which have been a big boom to earnings and EBITDA, will be inconsequential until inventory is built back up. We are probably 5 years from that potential.

Our best guess is that 2009 is not the trough. RevPAR and EBITDA will likely decelerate further from 2009 levels. Margins will continue to compress, even with significant cost cutting, as ADR comprises the bulk of the RevPAR declines. Cost cutting initiatives, particularly by HOT, are aggressive and necessary. However, there is only so far a company can go without damaging its brand.

Occupancy drives stocks
ADR drives margins

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