Is the hotel fee business the greatest thing since sliced bread?  It may appear to be in the middle of a strong cycle.  However, when times are tough (now) or even in a recovery period, the fee business doesn't look as invincible. 


Let's take a look at Starwood since Marriott generates significantly more franchise fees as a percent of total.  As shown in the following chart, 51% of Starwood's fee revenue came from base management and some franchisee fees, 20% from incentive fees, 18% from Bliss & "Miscellaneous", and 11% came from amortization of deferred gains on asset sales and termination fees in 2008.  The base management and franchisee fee are high quality revenues that deserve a high multiple, but what about the rest?  Incentive fees will be lower in 2009 and again in 2010 and will take a very long time to recover.  The Spa business is highly cyclical could be permanently impaired in the economic reality.  We're not sure how to value "miscellaneous" but "amortization of gains" deserves close to a zero multiple since it is non-cash and proceeds have already been received.




In the next chart we attempt to break down fee revenue between same store (organic) and non-organic growth.  Same store growth includes contribution from new management contracts except those obtained through asset sales encumbered with management contracts.  We estimate it took 6 years for HOT to regain the prior peak level of core fee revenue generated in 2000.  Obviously, new management contracts this time around could expedite the recovery but beyond 2010 there are some serious hurdles to growth.




While limited new supply is good for hotel owners, the challenging financing environment will make it difficult to grow the hotel fee business.  Non-recourse financing, which the vast majority of hotel owners have used, is a thing of the past.  Most investors will think twice about constructing a hotel if their personal assets are on the hook.  For existing assets, banks are simply looking to reduce exposure. When loans come due or if any technical breach occurs, banks are using it as an opportunity to call part of the loan, regardless of the rate opportunity.  We have seen this on the institutional side, with almost every amendment coming with a mandatory reduction in credit facility size.

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