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Industry Outlook

Granted, sales in the hotel industry have been pretty solid in the U.S., and emerging markets have great growth prospects. But it would still be prudent for investors to take a closer look at some of the dampeners before investing in the hotel industry. Particularly, macroeconomic concerns in several emerging economies could spell trouble for the hoteliers.

Below, we discuss some of the headwinds that the hotel stocks may face in the near as well as the long term.

Lingering Uncertainty in Certain International Markets: Despite immense growth potential, hoteliers are still apprehensive of several macroeconomic issues in the international markets, like the social/political impact of the unexpected ‘’Brexit’’ vote and decelerating growth in certain parts of Asia.

Moreover, high inflation rates and currency devaluation in Latin America, especially Brazil and Argentina, have arrested overall sales. Brazil, Argentina and Ecuador witnessed a decline in hotel occupancy in the first half of 2016. The weak Latin American economy, aggravated by political turmoil, led to softer tourism numbers in 2015, which continued through the first half of 2016.

In Europe, economic/political conditions are expected to be challenging after U.K.’s exit from the 28-member economic bloc. Business in Europe is as it is clouded by the economic uncertainties in the Northern region and deflation in the Eurozone.

Recent terror attacks on key European cities like London, Paris and Brussels have also affected tourism numbers. The attacks in Brussels dealt a severe blow to Europe’s tourism industry, just as it was going into peak season with hopes of a turnaround from the canceled bookings that followed the Paris attacks last year. Further, concerns of more terror attacks and violence against foreign tourists are increasingly hurting the trade in many African countries such as Kenya and Nigeria.

If that wasn’t enough, the slowing down of the Chinese economy and concerns about Japan, owing to a weaker yen and tax increases, are adding to the hoteliers’ woes. Notably, the economic growth rate of China moderated in recent times with its 2015 GDP growth touching a 25-year low. The slowdown in the Chinese economy is thus hurting discretionary spending and, in turn, travel.

Meanwhile, the Middle East and Africa has seen a decline in international arrivals due to a drop in oil prices and increase in security concerns, political unrest and rising supply.

In fact, a majority of leading hoteliers expect soft demand in the oil producing regions, which mainly include parts of Texas, Houston, Louisiana, Houston, Oklahoma City and West Virginia to continue hurting RevPAR. However, with oil prices on the rise again, demand trends could improve in these regions.

Meanhwile, taking into account the impact of a weaker global macro outlook, Starwood Hotels & Resorts Worldwide Inc. HOT reduced its guidance range for worldwide, system-wide constant dollar RevPAR to 2% to 4%.

Fluctuation in Exchange Rates: Most of the major hoteliers generate a substantial portion of their revenues from customers outside the U.S. Hence, any unfavorable change in currency may hurt their financials to a great extent. Though the dollar weakened slightly in 2016 compared to the previous year, the negative currency impact is still significant.

As Starwood has a significant international presence, management has guided foreign exchange headwinds to negatively impact full-year earnings by around $17 million in 2016. Meanwhile, Marriott International, Inc. (MAR - Analyst Report) and Wyndham Worldwide Corp. (WYN - Analyst Report) are bearing the brunt of the Venezuelan currency devaluation.

Such volatility in exchange rates would continue to hurt the results of the hoteliers as it has been doing so over the past few quarters.

Operating Margins Under Pressure: Though revenue per available room (RevPAR) has fairly picked up since the industry started recovering in 2009, operating margins are yet to reach the industry peak of 2007 in the U.S. due to a spike in costs. Hoteliers are looking to differentiate themselves and keep up with changing consumer tastes through investments in technology, quick customer service and real-time marketing. These are denting margins even further. Additionally, most hoteliers plan to gain a competitive advantage and differentiate their brands through renovation. This comes at the cost of near-term margins.

Additionally, online booking sites like Expedia Inc. (EXPE - Analyst Report) and The Priceline Group’s (PCLN - Analyst Report) are limiting the pricing power of these hotels, which are contracting their margins. Further, the higher commission rates charged for the hotels are hurting margins. Meanwhile, with lower overhead costs and less stricter regulations than hotel companies, home sharing companies like Airbnb, Inc. are also grabbing share away from traditional players.

Healthcare Reforms to Hurt Profitability: The Affordable Care Act, commonly known as Obamacare, is expected to have an adverse impact on hoteliers’ margins. The law entails hotels with 100 or more full-time equivalent employees to offer healthcare coverage to nearly all full-time employees and their dependents beginning this year.

Also, from 2016, employers with 50 to 99 full-time-equivalent employees have also been included under this Act. Notably, employers will be suffering penalties for any non-compliance. This would continue to raise costs for hoteliers in the near term.

Some of the players in the space induce our cautious-to-bearish outlook. Currently, Starwood, Marriott,  Hyatt Hotels Corporation (H - Snapshot Report) , Extended Stay America, Inc. (STAY - Snapshot Report) and Choice Hotels International Inc. (CHH - Snapshot Report) have a Zacks Rank #4 (Sell), while Intercontinental Hotels Group plc (IHG - Snapshot Report) carries a Zacks Rank #5 (Strong Sell).

Bottom Line

As you can see, there are plenty of reasons to be cautious about the hotel industry over the long term. But what about investing in the space right now? Are there opportunities for short-term investors?

Check out our latest Hotel Industry Outlook here for more on the current state of affairs in this market from an earnings perspective, and how the trend is looking for this important sector now.

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