National Lodging Market Analysis

The ongoing COVID-19 pandemic has been devastating to the hospitality industry, wiping out a decade’s worth of revenue and job growth. The systolic nature of hotel demand relaxed for a short period with the emergence of the Delta variant in mid-2021, which became most noticeable during the months of July and August with its recovery gap versus 2019 widening. Demand resumed pace two months later, only to be occluded by the Omicron variant. With cases and deaths back on a sharp rise, the recovery curve stalled once again. This time, without the stouthearted leisure segments leading the way, demand plummeted. According to Kalibri Labs and the American Hotel & Lodging Association, the hotel industry lost approximately $110 billion in business travel revenue—corporate, group, government, and other commercial categories— from the onset of the virus through the end of 2021. Business and group travel are the industry’s largest source of revenue and are not expected to reach pre-pandemic levels until 2024. According to PwC, the U.S. lodging industry benefitted from atypically imbalanced growth in leisure demand through the summer months. As students returned to school in late August and early September, individual business travel and group demand that historically replaces summer leisure business post Labor Day remained dormant. In addition, many employee office re-openings were pushed later into 2021 or early 2022 due to the virus’ Delta and Omicron variants.

NATIONAL LODGING HIGHLIGHTS

The following table illustrates historical performance trends from 2015 to current for the aggregate of the Top104 markets in the United States.

Top 104 Hotel Markets Aggregate Performance

Source: Kalibri Labs

As indicated, lodging performance in most key performance indexes posted improvement from 2015 to 2019. At the onset of COVID-19 in March 2020, lodging performance deteriorated significantly. Guest PAID RevPAR decreased by nearly $54.00 in calendar-year 2020, mostly driven by occupancy fallout. Most of this decline was registered in the second quarter of 2020. However, we note that the later quarters in 2020 posted less severe declines, and 2021 exhibited that a recovery has taken hold in conjunction with the rollout of multiple vaccine options throughout the country which began at the beginning of the year. The hotel industry has been one of the hardest-hit sectors during the pandemic. A critical component in underwriting involves the perception of safety by hotel guests to travel; the lack of knowledge about a vaccine timeline made it difficult for companies to plan for a recovery. However, in early November 2020, vaccination schedules began to materialize and by February 2021, a rollout of the vaccine commenced. This news was well-received throughout the industry. However, ensuing versions of the virus emerged, namely the Delta and Omicron variants, which have stymied the recovery of lodging fundamentals and will be noticeable through at least the first half of 2022.

Trends by Channel Distribution

The following tables depict the impact of the COVID-19 outbreak on occupancy, ADR as well as hotel closings in the US since the beginning of 2020 and prior to the outbreak. As shown, beginning in the second week of March, when many states and municipalities began implementing social distancing measures and dictated that only essential businesses remain open, occupancy levels in the US declined precipitously. As a result, the composition of demand in hotels as well as the contribution by the primary distribution channels have been altered significantly.

Kalibri Labs has tracked noticeable improvement in all channel segments over the past several months, but with a deceleration heading into 2022. The largest positive change occurred in the group channel. While this

category will continue to lag the other channels throughout the recovery period, improvement in this channel is indicative of a recovery across various demand segments, notably the highly profitable corporate segment. The following graph illustrates the trends in the various channel metrics since the beginning of 2020:

As shown, the immediate impact of COVID-19 on the way hotels booked rooms was such that there was an apparent surge in transient direct while simultaneously there was significant compression in the group segment. The reality is that all channels experienced a significant decline in early 2020, with property direct metrics experiencing the least amount of fallout. As a result, booking costs dropped precipitously by more than 55% since direct booking is a less expensive way for a room night to be transacted as it bypasses costly thirdparty channels, such as OTA and GDS. Cindy Estis Green—founder and CEO of Kalibri Labs—indicated that booking costs managed to post a recovery to some extent but by mid-year 2020 plateaued. This is because group business remains depressed, and it is typically the largest contributor to indirect booking channels. The FIT/Wholesale channel remains very compressed, again, due to a commensurate trend within the group segment. Channel booking activity began to normalize in the latter portion of 2020. Booking costs re-elevated to doubledigit dollars, which is an indication that third-party booking entities within Transient Indirect channels have regained their stance and importance in the purchasing process. To add context to the impact COVID-19 has imposed on the lodging industry, we have compared the most recent contribution to operating profit and expenses (COPE) metrics of the most recent month to pre-COVID 2019. The following chart illustrates the channel compositions of these two periods. We call your attention to the impact on the group and GDS channels in the negative direction; and also, to property-direct business which has filled a portion of the vacuum left behind by these travelers.

CLOSURES

By the third week of March 2020, a large portion of hotels in the US were closed. While some hotels will open when the restrictions are eased in each state, it is likely that some hotels will remain closed until travel recovers to a demand level that is 90% that of the same period in pre-COVID 2019. This is expected to occur throughout the remainder of 2022.

The following tables depict net hotel closures, aggregate closures, and closures by chain scale since the onset of the pandemic in the US.

As illustrated, hotel closures occurred very rapidly in the month of April 2020. Several thousand closures were reported and continued to be the case throughout the remainder of the year. It should be noted that independent hotels experienced the highest number of closures; however, the upper upscale and luxury segments account for most of the attrition of available supply in terms of number of rooms.

The pace of reopening hotels became faster than the pace of closures by May 2020. Hotel operators were able to regenerate demand during the leisure summer months and early fall; however, a number of properties still remain closed. The pace of hotels reopening will continue to be stymied until RevPAR levels approach 90% of the pre-COVID 2019 pace, which will likely not occur until late 2022 to early 2023.

REVENUE

According to Kalibri Labs, Guest Paid ADR and total occupancy in the United State followed a similar trendline, in that rates generally dropped a considerable amount in March and April, followed by some recovery but ultimately plateauing in the later portion of the year. It is noted that the highest degree of volatility was experienced in the Promotion and Loyalty Member Rates segment. It posted the greatest year-over-year drop in April, approaching negative 80% growth in multiple weeks. By the summer months, the segment rebounded until it intermittently posted the least year-over-year losses beginning in October. The following map represents a graphical representation of the Guest Paid RevPAR index for each market, comparing full-year 2020 performance vs. pre-COVID 2019 benchmark. The size of the markers corresponds to the size of the markets (in terms of number of hotel rooms), with darker markers indicating more pronounced declines in RevPAR relative to pre-COVID figures:

As noted earlier, the group meeting segment is likely to be the last demand segment to rebound, given the public’s aversion to large gatherings (since the outbreak), as well as social distancing measures which are likely to be part of our society for the near future. The following table depicts trends in Guest Paid RevPAR for all markets in the United States tracked by Kalibri Labs. The comparison is that of various-sized markets alongside five location types.

As shown, RevPAR disparity was relatively moderate prior to the onset and during the early stages of COVID19. Declines were also heavily weighted towards the larger markets. Specifically, the total range of RevPAR for Large Metro markets was only about $35.00 in January 2020. In September 2020, competitiveness of major assets in these markets—which is dominated by larger box-style full-service hotels —increased significantly and the rate disparity between the various service tiers deteriorated significantly in some markets (but not all). As a result, in the fall of 2020, the disbursement in RevPAR increased to more than $85.00. As time moves on, the disparity for this segment and others appear to be narrowing, but at a moderate pace. Rural and tertiary markets were far less impacted than large markets; these hotels are primarily patronized by lower-rated, leisure-driven guests with no need for food, beverage, or meeting facilities. Furthermore, guests that normally patronize the higher-rated hotels were displaced to the lower-rated ones due to budget constraints. One notable trend that has been impacting operating strategies is the unusual and strong negative correlation between hotel size and RevPAR performance. This phenomenon is primarily being driven by the group segment and its propensity to patronize large, full-service hotels with significant meeting space. The correlation between hotel size and RevPAR levels in a typical pre-COVID year is usually near positive 80%. In mid-year 2020, this correlation reversed, registering a remarkable -94%. Most of the rooms in the United States that were removed from inventory were upper-upscale and luxury in nature, particularly hotels with expansive meeting facilities that relied heavily on the decimated group segment. These hotels have managed to re-open and have started to recapture some patronage, mostly competing for non-group transient demand that does not make much use of the meeting space. Since this time, the correlation has returned to a positive figure, indicating that a sustained recovery is underway. The following graph illustrates the most recent survey of RevPAR performance among various hotel size categories:

As shown, the metrics of guest paid RevPAR to hotel size has turned positive again but is still right-sizing from the very strong negative correlation that was noticed in mid-2020.

AIR TRAVEL

As noted herein, the resumption of air travel will be vital to the future of the lodging industry in the nation. For several months during 2020, the airline industry ran at record low levels with most domestic routes being temporarily cancelled. During the summer months, passenger volume rebounded temporarily, but dropped again once the summer leisure-driven period passed. During the vaccination and booster rollout period, these trends have improved, but cavitated temporarily at the onset of the Omicron variant.

The outlook for travel is positive. While the accessibility of the market and the demand characteristics that influence the trends at each (i.e. corporate vs. group) will determine the duration of the region’s recovery, the consensus in the industry is that the second half of 2022 will bring considerable growth in travel, spending, and profitability.

PRICING AND CAP RATES

As shown in the following table, it appears that the pandemic has not materially impacted investment rates. This is due primarily to the lack of transactions since the onset of the outbreak in the U.S. However, RCA reports that pricing for full-service assets dropped by 40 percent in mid-year 2020, but subsequently cut those losses considerably. Pricing for limited-service hotels indicated in the survey are currently near an all-time high. Investors report that the pricing is largely driven by duress activity. For non-duress, arm’s length transactions, the impact on pricing is substantially less. In fact, pricing for limited-service hotels reached an all-time high intra-COVID. However, volume has been very limited, so this metric is skewed to include a higher number of low-leverage, high-quality deals.

Summary of Key Performance Metrics

‒ Significant lift in the U.S. industry’s average daily rate (ADR) during the back half of the second and third quarters caused this metric to exceed 2019 pre-pandemic levels in each month of the third quarter. ‒ With slowing growth in vaccinations (less than two-thirds of the U.S. population was fully vaccinated at the end of 2021) and waning consumer optimism heading into 2022, lodging’s recovery is expected to remain uneven. With leisure’s outsized importance in this recovery to date, destinations reliant on leisure demand are expected to continue to see stronger performance. ‒ With back-to-office plans only slowly starting to accelerate, markets reliant on individual business travel and group demand will likely have a softer fourth quarter performance this year than prepandemic. ‒ Occupancy and availability of labor are noted by investors as top challenges for the national lodging sector in 2022. However, a positive near-term outlook exists today as all segments continue to rebound.

CONSUMER CONFIDENCE

Clearly, travel will only resume in force once people are confident that they can travel without contacting the virus. Early indications are that some confidence is returning. MMGY Global has revealed the findings from Wave 5 of its Travel Safety Barometer report, a sentiment tracking study that measures American travelers’ perceptions of how safe it is to engage in specific travel behaviors on a scale of 0 (Extremely Unsafe) to 100 (Extremely Safe). The latest findings reveal travelers’ perceptions of safety are rising across all sectors, from

domestic and international travel to lodging, cruising, dining and entertainment, transportation and business travel.

The Travel Safety Barometer survey is conducted monthly among more than 1,000 U.S. residents who have taken an overnight trip for either business or leisure in the past 12 months. The results of the most recent survey are below: ‒ Even as the COVID-19 pandemic continues to disrupt a return to workplaces, schools and sports arenas across the country, travelers report an increasing sense of safety with most types of travel activities in the most recent MMGY Travel Safety Barometer report. While barometer scores remain depressed overall compared to what we would typically expect in “normal times,” travelers seem to be adapting to the risks and safety scores continue to tick upwards. ‒ Most travel modes improved in safety perception between April and October 2020, but has since recoiled, namely in the latter portion of 2021 as the Delta and Omicron variants emerged. ‒ While Americans continue to feel safest traveling in their own cars, they’re also starting to feel somewhat more confident traveling by air and even by train/rail. These are important transportation modes for hotel guests which will impact lodging trends.

TRANSACTIONS MARKETS

According to RCA, hotel cap rates fell in 2021 in line with the growth in prices. Some element of the growth in hotel pricing is likely a function of the rebound to normal. Trends in cap rates can provide some perspective on what it would mean for ongoing double-digit price growth to continue. The following chart summarizes quarterly transaction volume through year-end 2021, as tracked by RCA.

Quarterly Transaction Volume by Subtype

A rising interest rate environment might, however, cool any further compression in cap rates. Into Q4’21, fullservice hotel cap rates stood 520 bps higher than the 10yr UST while that for limited service hotels stood at a 680-bps spread. These spreads are narrower than the averages set since 2011, with full service and limitedservice spreads standing at 550 and 690 bps respectively. Investors would need to become even more optimistic for these spreads to narrow further in the face of a rising interest rates. The following table summarizes key markets with notable transaction activity in 2021:

TRANSIENT LODGING MARKET CONCLUSION

Until November 2020 and absent a schedule of a COVID-19 vaccine rollout schedule, there was very low confidence in the underwriting of lodging performance. However, now that vaccinations and boosters are largely available, optimism in lodging demand forecasts is becoming more apparent within the investment community. Depending on the market, a return to 2019 RevPAR levels will occur from 2022 through 2024. Additionally, how a market (or hotel) rebounds from the impact of the outbreak will depend on the demand segmentation of the market or hotel. We have observed that the first demand segment to show signs of a recovery is the leisure segment but limited to those traveling to drive-to markets as air travel, and a lack of disposable income, will continue to impact this segment. Lastly, group meetings will likely be the last segment to rebound as social

distancing guidelines – and the lack of large gatherings – will be part of the societal norms for the near future. The extended-stay lodging segment is considered the least impacted demand segment, particularly for lowerpriced extended-stay hotels. As debt sources gradually re-enter the hotel lending space, it is expected that transactional activity will rebound. However, lending restrictions will stymie the pace of these deals through the remainder of this year. On a positive note, it is expected that the recovery in lodging demand that began in mid-2020 and will extend through the early portion of 2023 will be the greatest on record.