Hotel starts forecast to rise quickly for several years

Hotel construction spending will increase only 3% in 2005 after a 12% rise last year, but is projected to increase 22% in 2006.

The 2004 increase was heavily for renovation work, including conversions to condos, with relatively little construction spending for building new rooms. Net completions of new rooms were only marginally positive. The renovation was spurred by a high level of hotel asset purchases at the beginning of the economic expansion.

Hotel prices were depressed after several years of falling occupancy. These purchases were driven primarily by expectations of capital gains rather than operating profits in an expanding economy. Investors expected higher returns in hotels than other types of commercial property.

The slim gain in construction spending expected this year is a pause while investors wait for rising room and occupancy rates to boost net operating profits enough to justify new construction. That is happening very quickly. Both room and occupancy rates have been rising at an 8% annual pace for more than year. Luxury, resort, and business travel hotels have exceeded this average, as have several large markets, such as New York and Washington.

About two-thirds of the decline in the occupancy rate during the last recession has now been recovered. As a result, the number of rooms started is forecast to increase quickly this year and is expected to raise hotel construction spending more than 20% next year, with above-average growth extending for several more years.