As predicted, there is a race to get closer to hotel owners, and the brands are in trouble. Online travel agencies and global distribution companies have been diversifying their offers to add more services and solutions to hotels, expanding their value proposition while increasing dependency and switching costs. They are also encroaching on turf once owned by the big brand systems.
In 2002, the biggest worry of hotel chains was Expedia. It wasn’t so much about online intermediation (today’s headache) but rather that the emerging giant would start making them look bad to current and prospective franchisees. After all, a royalty-free license with no pesky standards to maintain and a pay-for-performance contract could be just what an owner-operator wanted. At the time, this was a misplaced fear as Expedia and its OTA peers were content with the high-margin, low-infrastructure digital distribution business. Shrinking margins and a concentrated, saturated marketplace have forced the giants of distribution into new territory. Priceline led the charge, creating a comprehensive hotel services offering called “BookingSuite” that includes property management systems (PMS), revenue management technology and digital marketing – the essential components of revenue generation for an independent hotel. Sabre, after years of waffling, decided to follow suit and now offers the most expansive array of services outside of the big brand systems. Amadeus, not to be denied, is usingnon-distribution technologies as a means of both diversification and penetration into the lucrative North American hotel market. Most recently, Expedia has joined the game, using its Trivago subsidiary as the vehicle to enter the arena of services outside of its “booking brands.”
Meanwhile, the big brand companies have continued with business as usual –launching new brands, redesigning old ones, and looking for opportunities to expand and converge within their current business model. This is not enough. We know that consolidation will improve negotiating strength with distribution partners, and this matters. What we don’t know is whether hotel owners want to pay around 13% of total room revenues in royalties and fees in order to save 5-10 percentage points on OTA costs. Our earlier analysis shows that a well-managed independent can generate revenues at a lower effective cost than a branded hotel. While we do not believe that this sustainable, at the very least the distribution cost advantages of a brand system will be less important than they were just a year ago.
Brands need to do more than create new brands
Most new brand launches are unsuccessful – at least from a consumer standpoint. Hotel chains need to have more brands to offer existing owners or risk losing revenues to competing brands in their current market tracts. The big companies invest millions in developing new brand concepts, ensuring that they are positioned within a market segment (upscale, midscale, extended stay, etc.) with growth potential and have at least some unique value proposition. Once launched, however, very little is invested in supporting these brands compared to what is spent to launch mainstream consumer brands. FanDuel and DraftKings spent more than $200 million in advertisements in 2015 to launch their brands. By comparison, the US hotel industry spent about $2 billion last year, but less than half of this was spent on “strategic” advertisements (offline), and the vast majority of this was spent on flagship brands like Hampton Inns, Holiday Inn Express, Courtyard by Marriott which already have high brand awareness and consideration. Strategic advertising for new and smaller brands – those with fewer than 200 locations – was estimated to be less than $100MM combined.
It’s not that the brand companies don’t want to support these new brands. They simply cannot do so. Hotel companies use fees and assessments paid by franchisees to cover the costs of advertising. Small brands and new brands just aren’t big enough to contribute meaningful budgets, and big brands are reluctant or even unable to allocate their budgets to the startups within their portfolios. Investing from the corporate P&L of the franchisor is also non-viable, because strategic advertising by definition does not have the short-term ROI of tactical placements, and the best tactical advertising in the industry can only be expected to return $10 for every $1 spent. Royalties average around 5% of room revenues, so hotel companies would have to be willing to invest at least 200% of generated revenues to fund this out of their own pockets. Even people who are bad at math know that spending $2 to make $1 is not good business. New brands are important to hotel companies – we get that. In the long run, however, these companies need to improve their overall value proposition to owners or entire enterprises may be at risk.
What’s the difference?
Each of the major brand systems has developed a “boutique” or “private label” offering within the past several years. These brands have enabled the chains to access valuable location inventory that was otherwise unavailable and the hotels to access enterprise values without submitting to costly brand standards. Until recently, the economic value to both sides was pretty strong, particularly if hotels had previously lacked access to global corporate account revenues.
Today, the decision to become a part of one of these “collection” brands is tougher. With effort and time, an independent operator has long been able to synthesize the brands’ value proposition by leveraging point-solutions from various providers. Often, the scarcity of time has been the barrier to adoption, leading the hotel to forego a brand or join a collection brand. With one-stop shopping from OTAs and other distribution technology firms now becoming a reality, the time and effort burden will diminish. When that happens, the decision will be made based on cost – and this is where the brands are at a disadvantage. At ~10-13% of gross room revenue + pass-through commissions, in conjunction with costly life safety requirements (all brands need this) AND without being able to count on higher rates through brand association, private label through big chains just does not make sense.