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COACHELLA VALLEY MARCH 2006

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  • pg 1
									                      COACHELLA VALLEY                                          MARCH 2006
                                               SUPPLY GROWTH IN CHECK

                                                        By: Robert Mandelbaum

         Changes in supply and demand patterns are the two           Estate Research Corporation (RERC), Bureau of Labor
factors that cause shifts in the hotel industry cycle. Currently,    Statistics (BLS), and the U.S. Department of Agriculture
most hotel owners, operators, and analysts are bullish with          (USDA). Due to the availability of certain data, our analysis is
regards to the short- and intermediate-term outlooks for the         limited to full-service hotels. To estimate historical changes in
lodging industry. On the demand side, occupied room nights           value, we utilized profit data from the Trends database and
continue to climb despite rising gas prices and multiple             capitalization rates from RERC. A three-year weighted
hurricanes. Barring an unforeseen catastrophic event, our            average of advanced profit data is used to simulate the
PKF Consulting/Torto Wheaton Research Fall 2005 Hotel                "forward looking" nature of hotel buyers and sellers.
Outlook forecast calls for growth in demand each year from           Construction cost data from the BLS, combined with land
2005 through 2008 at a 2.5 percent compound annual growth            value information from the USDA, measure annual changes in
rate.                                                                development costs. Changes in full-service lodging supply for
                                                                     major urban markets come from STR.
What is foreseeable with a fairly high degree of certainty is
the relative lack of new supply growth in the next few years.        Profits and Value
Given the lead-time needed to build hotels, projections of
supply growth are somewhat predictable for a period of at            The price a buyer is willing to pay for a hotel is influenced by
least three years. Despite continued economic growth, rising         two factors - the income (NOI) generated by the property, and
demand, and growing room rates, the supply side of the               the prevailing capitalization (cap) rate that reflects the
performance equation appears to be in check from now                 perceived risk of the income going forward. From 1993
through 2008. The Fall 2005 Hotel Outlook forecast shows a           through 2004, our analysis shows that changes in NOI had
compound annual growth rate for supply of 1.9 percent from           the most impact on changes in value during all but two years.
2004 through 2008. For comparison purposes, climbing out of          The two years were 1999, the first year that hotel values
the industry recession of the early 1990s, lodging supply grew       declined during that decade's market recovery, and 2003, the
at a compound annual rate of 3.9 percent from 1994 through           first year that values showed an increase coming out of the
1998. It is the relative lack of new lodging supply projected to     2001 recession. In 1999, despite current gains in NOI,
come on line during the next years that has operators and            investors apparently perceived an imminent downturn in
owners of existing hotels most happy.                                market conditions, thus precipitating a strong increase in the
                                                                     cap rate. In 2003, optimistic buyers foresaw a strong
Why is hotel construction slow given the positive outlook for        recovery, cap rates declined significantly, and values surged
hotel demand and average daily room rates? One theory is             despite declining NOIs during that year.
that in most markets, it is still cheaper to purchase an
operating hotel than build a new one. And, this is not because       Strong profit growth appears to have had the greatest
hotel values are depressed. We are currently in a unique             influence on rising values during the heart of recovery cycles.
situation when the industry is approaching a period of peak          From 1994 through 1997, and again in 2004, NOI gains were
performance, yet the rise in development costs is outpacing          the dominant factor causing values to rise. In each of these
the growth in hotel values. To gain a better understanding of        years, U.S. hotels recorded double-digit NOI growth,
current market conditions, we analyzed the factors that have         combined with declining cap rates. Short-term, and long-term,
driven historic development costs and values.                        optimism combined for soaring values in excess of 20 percent
                                                                     during these years of recovery.
Our Analysis
                                                                     >>>Continued on Page 4>>>
In addition to our firm's proprietary Trends in the Hotel
Industry database, we rely on data from the following sources
to examine the relationship between hotel values and
development costs: Smith Travel Research (STR), Real
                                                   Source: PKF Consulting
Statistics And Trends Of Rooms Business In Coachella Valley
PKF Consulting

 BY LOCATION               AVERAGE DAILY RATE          OCCUPANCY PERCENT                   REVPAR
                           2006   2005    VAR          2006   2005  VAR           2006       2005     VAR
MONTH OF MARCH 2006
PALM SPRINGS               $138.54   $129.00    7.4%   80.24%   81.32%   -1.3%   $111.16    $104.90    6.0%
PALM DESERT                $199.31   $209.04   -4.7%   78.29%   82.71%   -5.3%   $156.05    $172.90   -9.7%
OTHER COACHELLA VALLEY     $196.27   $192.44    2.0%   78.94%   83.75%   -5.7%   $154.93    $161.17   -3.9%



        OVERALL AVERAGE    $177.40   $175.94   0.8%    79.20%   82.65%   -4.2%   $140.50    $145.42    -3.4%



                           AVERAGE DAILY RATE          OCCUPANCY PERCENT                   REVPAR
                            2006  2005    VAR          2006   2005  VAR          2006       2005  VAR
JANUARY TO MARCH 2006
 PALM SPRINGS              $130.78   $120.68    8.4%   72.44%   72.66%   -0.3%    $94.74    $87.69     8.0%
 PALM DESERT               $188.73   $187.93    0.4%   73.65%   75.25%   -2.1%   $139.00   $141.41    -1.7%
 OTHER COACHELLA VALLEY    $182.22   $177.34    2.8%   75.63%   77.81%   -2.8%   $137.81   $137.99    -0.1%



       OVERALL AVERAGE     $167.23   $162.07    3.2%   74.01%   75.38%   -1.8%   $123.77    $122.16   1.3%
 Statistics And Trends Of Rooms Business In Coachella Valley
 PKF Consulting


BY RATE                       AVERAGE DAILY RATE            OCCUPANCY PERCENT                        REVPAR
                              2006   2005    VAR            2006  2005   VAR               2006      2005   VAR
MONTH OF MARCH 2006
Less than $60.00               $51.01      $48.96    4.2%   87.55%    89.12%      -1.8%     $44.66     $43.63     2.4%
$60.01 - $100.00               $68.16      $65.98    3.3%   82.07%    82.47%      -0.5%     $55.94     $54.42     2.8%
$100.01 - $150.00             $136.67     $131.56    3.9%   81.42%    78.36%       3.9%    $111.28    $103.10     7.9%
$150.01 - $200.00             $173.78     $161.28    7.8%   80.12%    83.82%      -4.4%    $139.24    $135.18     3.0%
Over $200.00                  $239.44     $241.23   -0.7%   75.72%    81.35%      -6.9%    $181.30    $196.23    -7.6%


            OVERALL AVERAGE    $177.40    $175.94   0.8%     79.20%    82.65%    -4.2%     $140.50    $145.42    -3.4%


JANUARY TO MARCH 2006
Less than $60.00               $50.50     $48.23    4.7%    82.99%    84.10%     -1.3%     $41.90      $40.56     3.3%
$60.01 - $100.00               $70.60     $67.39    4.8%    76.63%    76.96%     -0.4%     $54.10      $51.87     4.3%
$100.01 - $150.00             $134.08    $125.09    7.2%    70.72%    70.95%     -0.3%     $94.82      $88.75     6.8%
$150.01 - $200.00             $166.66    $154.69    7.7%    72.32%    73.92%     -2.2%    $120.54     $114.34     5.4%
Over $200.00                  $223.67    $220.75    1.3%    73.31%    75.16%     -2.5%    $163.97     $165.91    -1.2%


            OVERALL AVERAGE   $167.23     $162.07   3.2%     74.01%    75.38%     -1.8%    $123.77     $122.16     1.3%



BY SIZE                       AVERAGE DAILY RATE            OCCUPANCY PERCENT                        REVPAR
                              2006   2005    VAR             2006 2005   VAR               2006      2005   VAR
MONTH OF MARCH 2006
Under 100 rooms               $125.64    $119.25     5.4%   84.08%    83.65%     0.5%     $105.65     $99.76      5.9%
100 - 199 rooms               $113.23    $109.23     3.7%   81.74%    85.21%    -4.1%      $92.55     $93.07     -0.6%
200 - 299 rooms               $182.51    $178.31     2.4%   80.43%    79.91%     0.6%     $146.79    $142.50      3.0%
Over 300 rooms                $227.62    $227.76    -0.1%   76.30%    81.75%    -6.7%     $173.68    $186.20     -6.7%


            OVERALL AVERAGE   $177.40    $175.94    0.8%    79.20%    82.65%    -4.2%      $140.50    $145.42     -3.4%



JANUARY TO MARCH 2006
Under 100 rooms               $121.25    $112.27    8.0%    76.51%    74.35%     2.9%      $92.77     $83.48     11.1%
100 - 199 rooms               $104.66     $99.74    4.9%    75.74%    76.74%    -1.3%      $79.27     $76.54      3.6%
200 - 299 rooms               $173.17    $166.11    4.3%    71.10%    73.03%    -2.6%     $123.13    $121.30      1.5%
Over 300 rooms                $214.06    $208.90    2.5%    73.24%    75.54%    -3.0%     $156.77    $157.79     -0.6%


            OVERALL AVERAGE   $167.23    $162.07    3.2%    74.01%    75.38%    -1.8%     $123.77    $122.16      1.3%
Replacement Costs

Typically, when the lodging industry is in the midst of a strong recovery, hotel values soar to such a point that it becomes
cheaper to build a new hotel than to buy an existing one. Such was the case during the recovery from the 1991 industry
recession. From 1992 through 1995, hotel values lagged behind replacement cost. A surge in hotel construction that started in
1996 resulted in strong (greater than 3 percent) increases in supply from 1999 through 2002.

With hotel values on the rise once again in recent years, why is the current outlook for new development suppressed? The
main reason is our belief that hotel development costs will continue to raise the bar that hotel values must reach to make
projects feasible. The driving force behind the rise in hotel development cost is the recent surge in both construction and land
costs. Based on data from the BLS, construction costs in the United States rose 8.3 percent in 2004. This compares to a
compound annual average of just 1.7 percent from 1992 through 2003. Similarly, land costs are currently growing above long-
term averages. In 2004, land prices soared 7.0 percent extending beyond the 5.3 percent annual average from 1992 through
2003. Compounding the high land cost issue is the difficulty developers are having with market entitlements (i.e., land use
regulatory approval) in some markets. Based on conversations with our clients, as well as analysis of recent construction
budgets, we believe the sharp rise in development costs and presence of strict regulatory obstacles will continue for the next
few years.

Replacement To Outpace Value

Looking forward, we expect to see hotel values rise, but continue to lag behind the growth in development costs. On the value
side, our projections call for NOI growth to continue, but at a slower pace than the strong 2003 through 2005 recovery period.
We expect to see stabilization in the decline of cap rates largely due to rising interest rates. The combination of these two
factors will result in moderate growth in property values. Conversely, look for construction and land costs to rise above long-
term average growth rates. Consequently, replacement costs will stay above values, thus mitigating supply growth.

Given the outlook for limited supply growth, the industry is crossing its fingers that we don't experience a catastrophic event
that will cause dramatic declines in demand.
Robert Mandelbaum is the Director of Research Information Services for PKF Hospitality Research. He is located in the firm's Atlanta office.

								
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