Interest rates

Inflation and Interest Rates Further Hamper California Hotel Development

While developing a new hotel in California was already a challenge, the lasting effects of the pandemic and rising construction and project financing costs have further hampered development in the state.

Atlas Hospitality Group’s 2022 Mid-Year California Hotel Development Survey reports 29 hotels opened in the first six months of this year, down 43% year-over-year . The number of new rooms opened fell from 7,168 to 3,561, a decrease of 50%. The largest hotel to open was the Luma Hotel San Francisco with 299 rooms.

The number of hotels under construction fell 12%, from 132 to 116. The number of new rooms under construction fell 11%, from 17,962 to 15,958. The state’s largest hotel under construction is the Gaylord Bayfront Chula Vista in San Diego County with 1,600 rooms.

The number of hotels in the pipeline has remained relatively stable compared to 2021 with 1,248 this year compared to 1,240 last year. The number of rooms at the planning stage decreased slightly from 163,904 to 162,831.

Opening figures contrast with year-end development figures, which showed a rebound in developmentbut many of those openings in 2021 were the result of projects delayed from 2020.

Going into the second half of the year, Atlas Hospitality Group Chairman Alan Reay said he expects many projects to be put on hold if they haven’t already started construction. Lenders are taking a step back from financing the construction of new hotels, and developers are still facing supply chain disruptions and rising material and labor costs.

Reay said more projects were postponed or scrapped in the first half of this year than he had ever seen before. It’s a matter of funding availability, supply constraints, industry uncertainty and cost. He expects the number to increase throughout the year.

There were also several projects that stalled mid-construction, mostly in the Coachella Valley in the Greater Palm Springs area, Reay said. There’s a project in Orange County that was under construction that went bankrupt, and it’s still closed.

While he expects to have a full count by the end of this year, Reay said he expects California to be one of the few states to see a reduction in supply. of rooms. It’s a combination of both a lower number of new hotel openings and the volume of hotel deals that are taking rooms offline to convert hotels to other uses, primarily for apartments and accommodation for the homeless.

“We’re definitely in a situation in California where we’re not adding new supply, we’re decreasing,” he said.

California saw a similar drop in supply in 2020 due to slow development, delayed openings and hotel conversions.

A major factor in this is Project Homekey, the state program to fund local and county government purchases of hotels to convert into housing for the homeless, he said. While the project ran into tough questions over pacing and pricing last year, it received an additional $3.5 billion in the latest budget and was deemed a success.

From the government’s perspective, the cost of new government construction projects is around $500,000 per unit, but they can buy those existing hotels for much less, he said.

There’s a lot of pressure on cities to provide affordable housing, and that’s causing local governments to change the way they handle conversion requests, Reay said.

“Anyone who has approached the city to convert an existing hotel into apartments has been all but turned down because cities need the transitional occupancy tax that hotels provide,” he said, adding that they should also modify zoning laws. “Now cities are desperate to provide affordable housing, and hotels are sort of the easiest and fastest way to do that.”

The particular segment that is being targeted for housing conversions is the economy segment, further reducing supply with little chance of new development, Reay said.

“If there’s anything resembling a monopoly today in California, it’s those hotel owners who are in the economy segment because no one can afford to build an economy hotel today,” he said. he declared.

The most commonly built hotels are branded select-service hotels, Reay said. For a 120-room Hilton Garden Inn or Courtyard by Marriott, the lead time from start of construction to ribbon cutting is approximately 18 months, subject to supply chain constraints. That’s about three to four months longer than the historical average.

The time needed to build a full-service hotel is at least two-and-a-half to three years compared to about two years ago, he said.

Some developers have turned to modular construction, primarily for select-service hotels, Reay said. While not necessarily cheaper, it saves time during the construction process, taking around 12 months from start to finish. However, there is still a timing issue regarding the availability of modular components.

Extended-service and even high-end properties aren’t as risky as full-service properties, Reay said. It’s a more expensive and longer construction process, especially in California, and there are fewer buyers for these types of hotels.

“The question is how long will it be before meetings revert to pre-COVID time,” he said. “It seems not a day goes by that people don’t talk about staff shortages, staff costs. The profit margin of a full-service hotel versus a limited-service hotel doesn’t leave much room for error.

For the development of an independent hotel, it depends on the availability of funding, said Reay. As successful as independent boutique hotels are, especially with soft brands, most lenders still feel more comfortable with big brands. Securing financing would likely require having a solid track record of success with these types of hotels.

For a new developer wishing to develop an independent property, even if aligned with a hotel management company, lenders getting involved will require the developer to put a lot more equity into the deal than normal, probably 50% . The project will also be subject to much more scrutiny.

Most adaptive reuse projects in California now transform hotels into something else rather than the other way around, Reay said. The only other type of product that makes sense for adaptive reuse in a hotel is an office building, and these are more likely to be in city centers. However, downtown hotels in major markets such as San Francisco and Los Angeles continue to struggle, so developers are more likely to turn these buildings into apartments.

Back to Hotel News Now home page.