Editor’s note: This is an abridged version of a report produced by PKF Hospitality Research. View the full report on PKF-HR’s website.
ATLANTA—The economics of hotels typically suggests that supply growth negatively affects industry performance by spreading existing demand over more suppliers. In this report, we present the opposite case.
This report focuses on how convention centers and hotels can attract additional demand, improving industry performance rather than detracting from it. We examine hotel market data from Nashville, Tennessee, where a new convention center and Omni Nashville Hotel opened in 2013. Following the expansion to supply, the market has seen substantial rate increases as well as greater levels of demand, which has resulted in higher occupancy levels.
Since the new demand has entered Nashville, average daily rates have risen by double digits and the market occupancy level has gone up. This result is consistent with experiences observed in other markets that have expanded their meetings and hotel potential. Additional convention visitors who previously did not use Nashville as a convention location drove the demand higher.
By increasing supply levels enough to support large national conventions that would have overwhelmed the previous hotel capacity, the city can now attract more convention business. Since 2013, Downtown Nashville has seen supply increase by more than 20% and demand expand by an even greater amount. The result is occupancy levels near 80%.
Our results show that demand in Downtown Nashville rose by approximately 700 rooms per day because of the convention hotel addition. Furthermore, the induced demand has increased rates by almost $7 per night since the fourth quarter of 2013.
Overall, these results confirm the economic intuition behind large convention center hotels, exhibiting how certain supply increases can improve hotel performance in markets that benefit from the induced demand the supply creates. This conclusion means Downtown Nashville should remain a healthy hotel market for the near future.
Can supply create demand?
Large increases in supply often signal trouble for performance in real estate markets. Typically, big additions of inventory negatively affect the strength of a particular market by creating more price competition among suppliers seeking to capture existing demand.
This rule mostly holds true for the hotel market in particular because supply enters markets in large, abrupt proliferations of rooms at the opening dates of new hotels.
In contrast, hotel demand fluctuates over time, resulting in weaker market conditions as demand slowly catches up to surges in supply.
As with many rules, however, an exception exists in certain circumstances where unique supply growth may induce demand within a market, improving market performance because of supply growth rather than in spite of it.
One unique type of supply addition that can have this positive effect on the market is convention center hotels, which induce demand to a market by attracting group demand previously not entering the market. Such an event recently occurred in Nashville, where a large, state-of-the-art convention center, the Music City Center, and a convention center hotel, and approximately 1,500 new rooms (since 2013), including 800 rooms at the Omni Nashville Hotel, were built.
Growth in the Nashville hotel market
The Nashville metropolitan economy has been remarkably vibrant, experiencing growth that outpaced that of the nation in terms of income and employment. On average, Nashville’s economy has grown by more than 4% annually since 2010.
This economic robustness creates conditions for strong hotel performance in the market, making an attractive environment in which to expand supply.
Over the past two decades, hotel supply and demand levels have grown at a steady but moderate pace. Large additions to supply occurred in 2000 and 2001 when the Hilton Nashville Downtown and the Marriott Nashville @ Vanderbilt University opened, each adding more than 300 rooms to the market.
Since 2013, hotel supply in the downtown submarket has expanded by almost 1,500 rooms, a 20% gain by year-end 2014. This spike in inventory was fully absorbed as demand increased by approximately 26% from 2012 to 2014. By comparison, national hotel supply grew by about only 1% over this period, while national demand increased by less than 4%.
The large differences in growth rates signify that Nashville is indeed undergoing considerable change. These changes beg the question: Are structural changes occurring in the Nashville hotel market?
An answer to this question can be traced back to September 2013, when the Omni Nashville Hotel, a convention center property, opened in downtown. The 800-room facility includes 80,000 square feet of conference space, 21 meeting rooms and two ballrooms. Additionally, the Omni is integrated with the Music City Center, a large modern convention center that opened in May 2013 offering 1 million square feet of exhibition and meeting space.
Economies of scale
The dramatic growth in demand seen in the past two years in Nashville can be explained in part by the economic concept of induced demand.
For new supply in Nashville to have induced demand, the supply must offer higher levels of utility for potential hotel guests compared to what previously existed in Downtown Nashville. One way a convention center hotel provides better utility is by creating a greater scale to both the hotel market (i.e. guestroom capacity) and the meetings market (i.e. the space available for convention and conference use).
The Omni’s largest meeting space represents a 39% rise from the biggest single meeting space in Downtown Nashville that previously existed. The 80,000 square feet of meeting space contained within the hotel is equal to the next three largest total meeting spaces combined, representing a 30% increase in total meeting space capacity to the entire market.
Along with meeting space, the hotel dramatically expanded the room count in Downtown Nashville. This new scale of rooms available can entice larger conventions to use Nashville that previously might have been constrained by room availability during peak demand periods.
Say’s Law in action
The economic theory of Say’s Law can be roughly defined by the phrase, “Supply creates its own demand.”
In the case of Downtown Nashville, this means the extra scale of room supply and conference space caused by the Omni, the other new properties and the Music City Center entices additional, larger conferences to locate in Nashville, leading to demand growth.
The previous convention center, the Nashville Convention Center, drew an average of 1,500 attendees for a national trade show. For Music City Center, the average group is 6,500 participants, according to the Nashville Business Journal. These groups likely would not have come to Nashville before because adequate capacity did not exist.
The induced demand brought in by Downtown Nashville’s expanded hotel supply scale has shown up in market data through mid-year 2015. Demand growth surged by almost 1,000 rooms per night while occupancy rose to approximately 80%, levels never seen before in Downtown Nashville. What’s more, the record high market occupancy levels continue to sustain themselves.
This evidence suggests that Say’s Law applies to convention hotels like the Omni Nashville, supporting the claim that an expansion of convention-oriented supply can spur new demand.
Induced demand drives rates higher
While occupancy rates have remained high following the swell in demand, one might be concerned that rates have fallen to maintain occupancy levels. The results of this analysis show this concern to be unfounded.
The Omni improved the hotel market in Nashville and, on an annualized basis, did not increase rate competition among existing hotels. Since the new hotel opened in 2013, ADRs have averaged $192 per night and have exceeded the national rate of growth, increasing by double digits on a year-over-year basis.
While economics 101 suggests that the large upsurge in supply would negatively influence prices, in the case of Nashville this has not occurred. Instead, the demand induced by the Omni contributed to an increase in ADRs in the market each quarter.
By 2015, the impact in the market remains substantial as evidenced by $6.95 higher ADR. These rate premiums might be the result of added travelers coming to Nashville because of the boost in conference and convention activity the Omni and Music City Center support.
Increasing room rates while also increasing occupancy is a clear signal of the structural changes occurring in the Nashville hotel market since high ADR growth typically reduces occupancy by reducing demand.
Conclusion: Downtown Nashville hotel market is in great shape
The economic theory of induced demand examined in this report and supported by the data analyzed provides a robust explanation for how the recent additions to supply in the Nashville CBD, most notably the Omni Nashville Hotel, positively influenced the overall performance of the Nashville hotel market.
The Omni changed the Downtown Nashville hotel market by significantly increasing guestroom and conference capacity, which induced a significant volume of new travel to the city.
Overall, the Music City Center and Nashville Omni projects attracted new, large group demand that is paying higher rates than the market previously accommodated. The expanded scale of the Nashville hotel market stimulated this growth in demand for national and international conventions, trade shows and conferences that historically did not use Nashville as their meeting destination.
As a result of the new demand, occupancy and ADR have risen well above the previous averages in the submarket and sustained themselves at these higher levels—all good news for hotel market participants in the Downtown Nashville market.
Jamie Lane is senior economist at PKF Hospitality Research. He can be reached at +1 404 809 3950 or jamie.lane@pkfc.com.
Brett Edgerton is economist at PKF-HR. He can be reached at +1 404 842 1150 x 245 or brett.edgerton@cbre.com.
PKF Hospitality Research is a CBRE company that prepares a variety of forecast and benchmarking reports, as well as maintains extensive databases of hotel income statements and sale prices. These reports and data provide the foundation for strategic planning by all who have an interest in hotel property financial performance.
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