Hotel Stocks Due for Correction

Shares of Marriott (MAR - Analyst Report) have rallied approximately 85% from the lows reached in early March. Shares of Starwood (HOT - Analyst Report) have climbed even higher, rallying roughly 150% since early March. Shares of other companies in the industry, including Intercontinental Hotels Group (IHG - Snapshot Report) and Wyndham Worldwide (WYN - Snapshot Report), have made similar moves. Given the current state of industry fundamentals, and our expectation that operating metrics will continue to deteriorate, we consider the magnitude of these moves to be excessive.

Revenue per available room, or RevPAR, is a key operating metric in the lodging industry. This metric is derived by multiplying the occupancy percentage of a hotel over a given period by the average daily room rate, or ADR, over that same period. Changes in either occupancy or ADR will impact RevPAR, but with different implications for bottom-line profitability.

The charts below present the weekly year-over-year changes in RevPAR, occupancy and ADR.



Weekly RevPAR declines have remained fairly steady, with declines averaging roughly 19% to 20% year-over-year. We expect these declines to moderate as the year progresses, based on the fact that the market began to deteriorate in late 2008, thus creating easier comparisons.



Occupancy declines have moderated somewhat, with year-over-year declines averaging from 13% to 11%. This moderation is due in part towards easier comparisons versus the prior-year periods.



More than offsetting the occupancy moderation, however, have been accelerating declines in average room rates, as seen above. The trend towards lower room rates is troubling, in our opinion, as we expect that is will increase both the severity and length of this downturn.

Changes in ADR have a greater impact on the bottom line than do changes in occupancy, due variable expenses tied to occupancy.

More importantly, however, is the fact that once hotel owners and operators cut ADR, it can be difficult to return those room rates to their pre-cut levels without generating significant resistance from customers. This can keep room rates depressed for a longer period of time, prolonging the downturn.

As an example, after hotel companies cut room rates in the wake of 9/11, it took more than five years in many markets for the properties to return ADR to its pre-9/11 levels.

We do not believe that the current share prices of hotel companies accurately reflect the risk that the current downturn may be prolonged by these rate cuts. As such, we reiterate our Sell rating on shares of Marriott and Starwood, and maintain our negative outlook on the industry.