In the greater field of hotel real estate, there are many who are wondering: what have been the consequences, which the global as well as the domestic geopolitical changes of the last five years have caused, in the hotel valuation field?
The 1998-2003 period was “marked” by an array of – positive and negative – global economic and geopolitical changes. Some of these events include the rise and fall of the dot.com sector in the U.S., the European Currency Union, the rise and fall of several important stock markets, the attacks of September 11, 2001, the war in Afghanistan and Iraq, and directly affecting Greece, the upcoming 2004 Olympic Games. All these events have had significant impact on the domestic hotel real estate markets, which in turn, have followed remarkable upward as well as downward trends.
These radical successions in the hotel real estate markets have made imperative the need of reassessment of the majority of hotels. The most common reassessment reasons are the basic update that owners want about their hotel assets, the inability of debt service payments, and in some occasions even the bankruptcy.
Which are the main hotel valuation methods and how have the previously mentioned events influenced them, as well as the hotel values?
Cost Approach
The cost approach is founded on the principle of substitution. The cost approach estimates market value by computing the current cost of replacing the property and subtracting any depreciation resulting from physical deterioration, functional obsolescence, and external (or economic) obsolescence. The cost approach is most reliable for estimating the value of new and proposed properties.
In the last three years, a significant number of hotels completed full renovations of their facilities, mainly based on the government grants related to the 2004 Olympic Games. The direct result was considerable market value increases for all the renovated hotel properties through the cost approach.
Sales Approach
The sales comparison approach estimates the value of a property by comparing it to similar properties sold on the open market. The difficulty of finding directly comparable sales, and the imperative need of use of adjustments to reflect any dissimilarity, decreases the validity of this method.
The Greek hotel market is characterized by an excessive secrecy, which is evident throughout the majority of hotel sale transactions. This has resulted in only a limited number of sales transactions being available for comparison purposes. Furthermore, two types of phenomena have occurred during the last four years: First, excessively high asking hotel sale prices, which were mainly based on optimistic projections due to 2004 Olympic Games from the hotel owners’ side. Second, excessively low offering hotel sale prices, due to debt service payment defaults and to the steadily declining hotel demand trends. These two extreme market phenomena have created a particularly wide price range, which in turn make the estimation of a hotel property’s market value through the sales approach unreliable.
Income Approach
The income approach is based on the historical and future income-producing ability of a hotel property, which is directly related to endogenous (i.e. management) as well as exogenous (i.e. local market) factors. The income approach is often selected as the preferred valuation method for operating properties because it most closely reflects the investment rationale of knowledgeable buyers.
The continuous deterioration of demand in the Greek hotel market in the last three years (mainly due to the series of events mentioned earlier) had a direct impact on the hotels’ profitability levels (lower occupancy levels and average room rates). The consequence is that the market value of a hotel - via the particular method - has declined in comparison with previous years.
So, what is the “correct” valuation method, which reflects most accurately the market value of a hotel asset, based on the prevailing market conditions?
It is certain that the estimation of market value based only on one valuation method is not sufficient, especially, due to the “uncommon prevailing market conditions”. We need to note though, that there are certain factors, which assign different level of importance for every method. The distinctiveness of hotel facilities (i.e. swimming pools, restaurants, conference facilities), in many occasions does not render the change of their use an easy task. Even, at the case where their conversion is possible, the equivalent expenses are high, causing a loss of return on investment. The distinctiveness of hotel assets render the need of their valuation based more on their historical and future profitability, and less on their value as land and improvements, unless if their returns are extremely limited. Nevertheless, equally important is the utilization of the other two valuation methods, mainly for comparison purposes:
• The cost method can be used (in conjunction with the income approach) to determine the feasibility of a proposed (or a renovated) hotel property.
• The sales approach can be used for the creation of a price range, in which the market value estimate via the income approach can be verified.
The prevailing uncommon market conditions in the Greek hotel real estate sector have formed a price gap between the sellers and buyers of hotel assets. The accurate “narrowing” of the price gap between the sellers and buyers of hotel assets, should be the principal aim of a professional appraiser.
Nikos Hadjidopavlakis - Hadjos
Lambert Smith Hampton (Hellas) S.A.
4, Sekeri Str.
Athens 10674
Greece
Tel: +30-210-360-3667
Fax: +30-210-360-4571
Logos, product and company names mentioned are the property of their respective owners.
