Hotel Feasibility Study: Can Your New Hotel Make Money?
Hotel feasibility studies are conducted to determine if the value of a proposed hotel project will make the development financially profitable - it helps determine if a new hotel project is viable. Typically completed by a third party, an expert in hotel development, the feasibility study considers expenses, income projections, and market projections to make it possible for developers or organizations to build a brand new hotel.
In the face of economic strain and health issues brought about by COVID-19, it is essential to consider the current development climate. The proposed development must take into account how the COVID-19 crisis affected the market. By reviewing economic and health data, as well as considering recent developments in the industry, we can develop a projection of how this proposed project would perform after opening.
Market feasibility studies for hotel projects should include the following research:
Analysis of the Local Area, Neighbors, and Demographics
This stage of the feasibility study takes a detailed look at the people and businesses in the hotel’s vicinity. The goal is to understand the social, economic, governmental, and environmental factors that drive business. This information helps determine how effectively your hotel will attract potential customers.
What are the population trends in the area?
Are households in the area growing or shrinking?
Is the area's unemployment rate increasing or decreasing?
What is the median income of the area's households?
What percentage of disposable income do area households have?
Are large corporations based in the area growing or shrinking?
What is the office vacancy rate in the area compared to competing areas?
Does the area offer any tourist attractions that might draw leisure and group travelers to it?
How easy is it for customers to get to airports, interstate and local highways, and rail stations compared to competitors in the same space?
Hotel developers should consider the current and future real estate uses in the area. Developments that have a lot of complementary businesses are more successful since there are lots of people to visit.
Site Analysis
The site analysis evaluates the subject parcel’s size, access, and visibility, topography, availability of utilities, and other site-related attributes necessary for a successful hotel project. Adjacent demand generators are an important consideration. Hotel guests enjoy convenient access from nearby highways and employers. The study should answer the following questions:
Is the land large enough to build a hotel, and could it accommodate future expansions?
Will the project benefit from being near valuable amenities?
How do the neighborhood's sales history, governmental restrictions, environmental regulations, and other factors affect the subject property?
Estimating Development Costs
The consultant will review plans for the facility, the scope of the development, and projections for costs to make recommendations for the proposed hotel. The scope of recommendations will include the number of guestrooms, restaurants, lounges, meeting space, recreational and aquatic features, retail shops, spa, and other amenities to include.
The consultant may estimate the costs associated with construction or the client may hire an architect and/or engineer to conduct an in-depth study of the hotel's construction. The following are some questions the study should answer:
What architectural plans exist for the land?
What could a hotel look like there?
What is the recommended room count for the hotel?
Should there be a food and beverage component or other common spaces throughout the building?
Should it be affiliated with a national chain or stand as an independent property?
Compset & Market Analysis
In order to accurately predict the profitability of the hotel or resort project, a thorough analysis of the hotel market should be completed. This includes looking at factors such as occupancy, average daily rate (ADR), and revenue per available room (RevPAR). Interviews with management at crowded hotels will provide valuable feedback on the state of the hotel market. The consultant should also locate all new hotels currently being built in or near the market area.
How do the competitors rank in terms of occupancy, average daily rate, and revenue per available room?
How have they performed in past years?
Which companies in town provide the most business for hotels?
Are there many corporate meetings at local hotels?
How many hotels have opened in recent years? Are they saturating the market? What can you do to stand out?
How many new hotels are coming to town? Which type of hotels will they be?
How many rooms will they have? What will the impact be on supply and demand?
How will the hotel’s location and its target market affect occupancy, average daily rate, and revenue per available room?
Performance Projections
Determining the performance of a hotel property can be a complicated task, as other properties in the market must be considered for the analysis. The study should present a supply and demand model that projects the historical and projected performance of the market as well as projecting ADR, occupancy levels, and RevPAR for the subject property. Some questions to consider:
How will the hotel affect demand in the commercial, group, leisure, and contract segments? What is the projected ADR by segment?
What demands will the hotel generate for itself?
How many other hotels will be in competition for these demands, and is this number sustainable?
Financial Analysis
The financial analysis estimates the profitability of a property and makes financial projections for the future of the property. The first step is to compare the full scope of the subject and similar characteristics with those of properties that would be considered comparable, or referencing the industry standards.
The potential revenues for the hotel can be estimated based on the operating history of the hotel, comparable hotels in the market, national trends, and an analysis of how much foot traffic and business the hotel will receive.
Delve into the expenses of each department and project the proper allocations.
The net operating income of a proposed hotel should be expected to grow over time if the market is performing well.
Feasibility Analysis
Hotels can be valued through discounted cash flow analysis or direct capitalization analysis. The discounted cash flow method projects income for a period of 11 years. It applies a discount rate and terminal capitalization rate to determine the net value of the hotel property. The discount rate is the average annual rate of return necessary to attract capital based upon its investment characteristics. The terminal capitalization rate is applied to a future year’s income, and that amount is added to the discounted cash flows, to arrive at a potential selling price in the future.
Compare Value to Projected Costs
To conduct a feasibility study, you must determine if the value created is greater than the cost of development, as shown in a discounted cash flow analysis. A feasibility study presents the value created, after a detailed analysis of the factors that determine success for the proposed properties. For example, detailed construction costs may not be available, but you can calculate them after estimating them from building contractors or architects and comparing these estimates with the value created to determine whether or not the project is feasible.
The most appealing proposals to investors are those that create greater value than they cost to execute. Even if the proposal creates less value than it costs, the project may be worthwhile if it can attract financial assistance from the city—in the form of tax abatements or infrastructure assistance. This would allow for either better earnings projections or lower development costs.
In Closing
An in-depth resort and hotel feasibility study requires an analysis of a broad range of economic and demographic factors, as well as analyzing the current state of the hospitality industry within the region. The study also requires a complete income and expense financial analysis that analyzes various revenue sources and expenses—the costs of labor, supplies, taxes, interest payments on the property loan, etc. The purpose of the feasibility study is to provide honest and reliable information to the client to help them decide whether to develop their proposed resort or hotel.