REPORT FROM CHINA—The economy of China is undergoing major structural adjustments driven by the tertiary industry and consumption. Declined growth in the real estate market and fixed asset investment has led to a notable change in the hotel industry. Hotel investors have become more sensitive to financial returns and thus have started to favor select-service hotel products. The market-wide occupancy has increased steadily similar to China’s gross-domestic-product growth, yet average daily rates remain stagnant.
Horwath believes that under the “New Normal” economy, the hotel industry of China also will experience restructuring in market segmentation, nationality, investor profiles and characteristics, and hotel management companies.
Economic, tourism overview
China’s economy has slowed down its growth rate since 2014. Gross-domestic-product growth for the first half of 2015 was 7%, compared to 7.4% in 2014. More importantly, the overall industry structure is being adjusted to focus more on the tertiary industry.
Specifically, the growth of the tertiary industry contributed 51.7% to the total GDP growth in 2014, and 56.8% in the first quarter of 2015. The service industry and technology industries experienced more rapid development than traditional industries. Furthermore, The major driver for economy growth has been geared to consumption rather than investment. In the first quarter of 2015, consumption generated more than 50% of GDP growth, the highest share in 10 years.
Domestic tourism continues to boom with double-digit growth in the number of travelers. However, the decline of international arrivals to China continues, attributed to various reasons including concerns about air quality, inflated renminbi and the general soft global economy. The number of visitors from Japan, Russia, Sweden, Norway and Australia experienced the most decreases.
Development trends
Select-service brands have increasingly gained popularity. Horwath tracked the numbers of deals signed by eight major international hotel management companies from 2012 to the second quarter of 2015 (excluding economy brands).
In 2012, most brands with more than 10 deals signed were 5-star brands. However, with the downward hotel performance trend since the end of 2012 and the resultant slowing down of the hotel development wave, more hotel investors have turned their interest to upper-mid-tier brands that require less investment and offer faster payback. In 2014, 4-star level brands such as Holiday Inn, Courtyard, Hilton Garden Inn and Hyatt Place signed more deals than traditional market share winners such as Sheraton and Crowne Plaza.
Additionally, the numbers of deals (excluding economy brands) signed decreased by 3% to 4% year over year from 2013 to mid-2015. Many new hotel openings also have been delayed. From our discussion with major international hotel operators in China, a large number of projects in less-developed secondary and tertiary cities have been delayed or are on hold. The main cause for this downward trend is the slowed-down residential sales, which used to fund much hotel development.
Given the expected decrease in deals signed (excluding economy brands), some international hotel management companies have made intentional compromises on certain commercial terms. A few of them have started to open up the franchise option for selected brands, such as Courtyard by Marriott, Holiday Inn Express and Hampton by Hilton. Comparatively, domestic hotel management companies are more flexible on deal terms including critical ones like the contract term and management fees.
Furthermore, the types of hotel developers are more diversified than ever. While some real estate developers continue to include hotel components in their mixed-use developments, other types of investors have stepped into the hotel development market, such as architects, media companies, Internet technology companies, funds, insurance companies and peer-to-peer financial institutions.
Market performance
According to STR data, the average occupancy of the China hotel market in 2014 was more than 65% despite an approximate 5% supply increase. (STR is the parent company of Hotel News Now.) The upward trend in occupancy continued in the second quarter of 2015.
Horwath believes the China hotel market has substantial demand even though the present spending power of the mainstream demand is relatively low compared to leading international regions. The major challenge for the China hotel market comes from the continued pressure on ADRs that were not strong to begin with.
Primary cities and leading secondary cities have continued to exhibit strong performance, including Beijing, Shanghai, Guangzhou, Shenzhen, Sanya and Wuhan. However, tertiary cities face intense challenges, especially the ones with oversupply issues such as Tianjin, Chengdu, Qingdao, Dalian and Xi’an.
In terms of nationality, the share of international demand is likely to continue to drop, as domestic demand becomes increasingly dominant.
As for demand segmentation, domestic corporate and leisure free and independent travel demand are on the rise, while large-scale meetings, incentives, conference and exhibitions demand from state-owned companies has decreased significantly. Nevertheless, Shanghai stands out as an international MICE destination in the private sector.
Outlook
The outlook on future development trends and market performance of the China hotel market is expected to be as follows:
- Given that real estate developers are still the major investors in the hotel industry in China, we think the current static development market is likely to continue.
- Future investors are likely to include more market/return-driven capital.
- We estimate that future hotel products will focus more on the select-service and mid-tier categories.
- Suburban resorts and theme parks and hotels are likely to attract more investment focus.
- Ski resort development is likely to be another hot spot for investors as China will host the 2022 Winter Olympic Games.
- Outbound investment has been active since 2014, marked by a number of significant deals made by AB Insurance and Wanda Group. The trend is likely to continue supported by the strong growth in China’s outbound tourism.
- Restructuring of hotel management companies is increasing. On one hand, active investment funds are keen to engage in the restructuring of asset-light companies such as hotel management companies. On the other hand, large domestic hotel management companies such as BTG and Jinjiang are motivated to include innovative brands in their groups so as to reach greater scale.
- With the slow but steady GDP growth focused more on the tertiary industry, hotel demand is likely to continue to grow and elevate the market-wide occupancy. Nevertheless, the market is not seeing significant growth in the high-end professional service sector that could support an increase in the ADR performance.
Li Wen has been working as a senior consultant of Horwath HTL based in the Beijing office for over four years. Her experience in feasibility studies expands from city center or outskirt business hotels to different types of resorts by the beach or in the mountains, and ranges from selected service hotels, large convention hotels, to luxury boutique hotels. She has also demonstrated her knowledge through projects on brand development strategy, renovations, and management contract negotiation. She is particularly experienced in destination development and has led a number of projects in Changbaishan, Jiuzhaigou, Daocheng Yading, Nanxun, and Qingdao. Prior to joining Horwath, Ms. Wen had worked at the revenue cluster office of Marriott International that oversaw the Beijing/Tianjin market and Sawgrass Marriott Resort and Spa, Florida, US, in hotel operations.
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