Navigating Hotel PIPs

For hotel owners, embracing a property improvement plan (PIP) may initially seem financially challenging, especially given today’s market uncertainties, high construction costs, increased interest rates, and labor shortage. However, PIPs serve as a valuable opportunity to reassess the hotel’s overall strategy and help chart a course of action toward enhanced profitability – whether undergoing a PIP, switching brands, or selling the asset.

 

As of 2024, hotel owners can no longer delay brand-mandated renovations and with the cost of PIPs increasing more than 30% pre-COVID levels, many owners are at risk of being pushed out of the system.

 

What is a PIP?

A property improvement plan (PIP) is a strategic initiative to align a hotel property with the latest brand standards. PIPs are routine occurrences for hotel owners, typically every seven to 15 years. They are orchestrated by brand managers or franchisors and propose a range of enhancements such as exterior and façade renovations, updates to amenities and common spaces, incorporation of new interior design elements, ADA compliance improvements, and more.

 

The primary objectives of a property improvement plan are twofold. Firstly, PIPs are crucial in helping brands maintain a uniform guest experience across properties. Secondly, these enhancements are instrumental in bolstering the hotel’s profitability by reducing operating costs, repairing and modernizing the facility, enhancing guest satisfaction, and capturing market share, ultimately amplifying revenue streams.

 

How Much Does a PIP Cost?

The expenses associated with PIPs fluctuate depending on the brand, hotel size, and property location. Expenses also differ based on individual properties; older developments might necessitate upgrades to mechanical and electrical systems, whereas newer hotels might only require cosmetic adjustments.

 

Lee Hunter, Chief Operating Officer at Hunter Hotel Advisors, recently stated that PIPs now cost between $35,000 to $40,000 per key for a midmarket property.

 

Hilton’s Curio Collection or Autograph Collection by Marriott hotels are being converted into a Tapestry collection by Hilton or a Tribute Portfolio by Marriot instead of owners performing PIPs on the existing brands.

 

Holiday Inn’s Express’s Formula Blue 2.2 design initiative includes an increased key count from 93- 104 with room for additional suites (and revenue potential) within the existing efficient site size, redesigned exterior featuring bold colors and using simplified construction means, streamlined building layout allowing for more flexible indoor/outdoor pool placement options and right-sizing parking and landscaping, and maximized “heart of house” efficiency through a simplified wall configuration, fewer doors, and better-positioned staff areas. The prototype also enables the implementation of Energy Conservation Measures (ECMs). The first properties featuring these elements are anticipated to be open in the second half of 2024. The costs will range between $10,000 and $25,000 per room, with overall expenditure falling between $940,000 and $2,600,000.

 

Hampton Inn’s Forever Young Campaign includes façade improvements, new furniture in guestrooms, and complete reconfiguration and replacement of all fixtures in guest bathrooms. The expected cost will fall between $20,000 and $30,000 per room for properties built between 1990 and 1995 and can exceed $40,000 per room for properties built in the 1980’s. The exterior updates, one of the most expensive items, are estimated to cost between $1,000,000 and $1,750,000.

 

Brand Preferences

Brands leverage PIPs for different reasons; some strictly focus on updating the property to meet consumer standards, while others see a PIP as an opportunity to experiment with new ideas and stay ahead of industry trends. Other brands use PIPs to elevate their standards, transitioning certain properties into higher segments, such as moving the property from economy to midscale or adding amenities. On the other hand, some brands are taking risks by adjusting designs, particularly large or boutique hotels. These decisions are driven by a desire for unique and visually shareable locations, fostering less conservative designs.

 

Since COVID-19, numerous brands have been more strategic toward future planning, and there’s been an uptick in hotel brands mandating PIPs. This trend reflects the industry’s collective desire to update and modernize properties to meet evolving guest expectations and stay competitive in the marketplace. However, brands are demonstrating a more flexible approach to their expectations, prioritizing thoughtful design decisions over rushing into refreshes that may become outdated or inefficient. While also collaborating with owners to find reasonable solutions for the timing and scope of the PIP.

 

While the above seems opportunistic, there are specific brands that are deviating from the historical norm of updating properties. Some brands employ the tactic of using PIPs to pressure older buildings out of their system. If the hotel owner cannot afford to complete the PIP, the franchisor has the right to remove them from the brand entirely.

 

Challenges in the Market Today

During the COVID-19 pandemic, hotel revenue experienced a significant downturn, plummeting by 50% in 2020. While 2021 – 2023 showed improvement, the revenue levels remained below those of 2019. Hotels struggled to remain operational throughout this period as travel halted and inflation ran rampant. From the franchisor’s perspective, the primary focus was on safeguarding existing franchisees, as revenues saw a universal decline. Understandably, this was not the opportune time for reimagining brand standards and the associated PIP.

 

While many regions in the country have surpassed the pre-pandemic revenue levels of 2019, several secondary and tertiary markets are still grappling to emerge from the economic downturn. Notably, these markets are dominated by economy hotels. According to STR and Tourism Economics data, the
industry is not expected to recover fully until 2025.

 

The major challenge for undergoing a PIP today falls in aligning project costs with the intended scope. Inflationary pressures, the cost of financing, and labor shortages have led to substantially higher investments required for PIPs. Hospitality vendors have revealed price hikes ranging from 90 to 300% on various products, with the steepest increase affecting lower-margin items commonly ordered by economy hotels. According to Nehmer and HVS Hotel Cost Estimating Guide, costs for renovations have increased by 6.25% from 2022 to 2023.

 

Additionally, the cost of capital has significantly increased over the past 12 months. When considering heightened standards, inflation-induced price surges, and the elevated cost of financing, the overall expense of completing a PIP has risen substantially.

 

Looking Forward – Why Now Might Be The Time to Undergo a PIP

Despite the financial challenges of undergoing a PIP in today’s economy, there are some positives to keep in mind. For 2024, PIPs are a key consideration for many hotel brands that have lagged in keeping up with wear, tear, and evolving guest expectations over the past few years.

 

The hospitality market has experienced a strong revival in its fundamentals. While 2023 was met with low transaction volume and less urgency in construction, 2024 is shaping up to be a robust year for the sector. In 2024, RevPAR is expected to increase by 4.1%, as occupancy is predicted to increase by 0.8%, and ADR is predicted to rise by 3.1%, per data from CoStar and LARC. According to the latest Global Hotel Investor Sentiment Survey, 81% of investors anticipate being net buyers in 2024, the highest total ever recorded since the inception of the annual survey in 2021.

 

The hospitality market is also expected to benefit from limited new supply in the upcoming quarters, with a 5% drop YOY in rooms under construction. In addition, leisure travel is expected to normalize, while group, business, and international travel will continue to rebound as return-to-office mandates grow and consumers prioritize travel. This provides a favorable backdrop for hotel design efforts and investors who can anticipate purchasing assets where owners need relief from financial pressures. More sellers may bring hotels to market as debt matures, PIP delays are exhausted, unavoidable defaults occur, or successful post-pandemic business plans are completed.

 

The pressure to update is back and bigger than ever.

 

Brands and developers are reevaluating past design decisions with potential implementation in Q4 2024 or early 2025. In the short term, many brands are open to negotiating PIP terms, aiming to expedite hotel updates. Some brands are even offering key financial incentives for completing specific brand initiatives within specific deadlines. For example, in markets experiencing a resurgence in corporate and group business, the current period could be opportune for completing a PIP without disrupting future business, potentially yielding higher RevPAR. Making these improvements now, prior to full occupancy recovery, is a proactive approach.

 

The Routes Available To Undergo a PIP

PIPs are typically required to bring a hotel in line with the franchise’s latest design standards and, in some cases, are mandatory. However, as seen above, they can be expensive, which is why some hotel owners turn to CMBS cash-out financing to fund them.

 

CMBS financing for a PIP could serve as an excellent strategy for an owner whose property is relatively new, and who will hold onto long-term. A PIP will enhance the value and profitability of the property over an extended period.

 

In the face of uncontrollable factors like inflation and the cost of capital, economy owners can take proactive steps to safeguard their profitability. It’s important to recognize that PIPs are not rigidly fixed. While brands uphold high standards, negotiation is possible on certain elements. These include prioritization of completing guest-facing items first, as these will have substantial impacts on ADR and occupancy, helping to finance subsequent elements; restriction or elimination of non-guest experience-related items such as replacing perfectly functional furniture; extension of timelines for completing PIP items to enable better cash flow management; and completion of work during the offseason to minimize revenue impact.

 

Is a PIP Right For Your Property?

If the hotel is aged, executing a PIP may prove to be prohibitively expensive. If an owner is not looking to retain ownership for several years, the time and effort invested in a PIP may not be justified. Therefore, be more financially feasible to sell the property instead. Remember that the property will still be subject to the PIP to transfer the franchise to the buyer.

 

It is important to explore the ROI. If the ROI is positive, completing the PIP may be a sensible choice; however, if the ROI doesn’t align or the payback period is lengthy, owners have alternatives such as selling the hotel. For example, a $500,000 PIP on a 50-room hotel is required, and if after the PIP, ADR rises $5 and occupancy increases 5%, the payback period on the renovation cost would be 5.81 years. This doesn’t consider the lower ADR and occupancy that can be expected during the renovation itself. When PIPs can appear as often as every seven years, completing the PIP is not always a good investment.

 

The other option would be switching to another brand with more reasonable standards, potentially avoiding a cost PIP while benefiting from brand association. And, of course, there is always the option of running the hotel without brand association, but keep in mind that you would likely lose a heavy customer base. Ultimately, owners must weigh the financial implications of PIPs against potential returns and explore options that align with their business goals and financial health.