Hotel Feasibility Study

Lenders, investors, or SBA often require a hotel feasibility study when new construction, reconstruction, acquisition, or expansion is planned.

 

Wikipedia defines a feasibility study as: “an assessment of the practicality of a project or system. A feasibility study aims to objectively and rationally uncover the strengths and weaknesses of an existing business or proposed venture, opportunities and threats present in the natural environment, the resources required to carry through, and ultimately the prospects for success. In its simplest terms, the criteria to judge feasibility are cost required and value attained.”

 

Why is a hotel feasibility study required? Investors, lenders, commercial banks, or SBA want to be sure that your added capacity to the market will be met with demand and ask for a hotel feasibility study or a hotel assignment report. Meeting demand means high occupancy, which results in safely fulfilling your debt service, usually a monthly payment of your construction cost. There is much more return on the investment or investment performance indicators. Still, the debt service cover ratio is usually the most important indicator and that is why a hotel feasibility study was requested.

 

However, let's have a closer look at the costs of a hotel project. 

 

Parcel cost

This item includes purchasing land on which the hotel project would be constructed.  Land size should accommodate enough parking space to provide a sufficient parking ratio. 

 

Construction costs

F, F & E

FF&E is an acronym that stands for furniture, fixtures, and equipment. It's a design subset focusing only on a space's interior and removable features.

 

Soft Costs

Soft costs include licenses, software, consulting, or design consultations. 

 

Financial Costs

Financial costs are usually connected to loan applications. In the case of conducting a hotel feasibility study for SBA, the lender is asking for SBA application fees. 

 

When costs are disproportionate to the hotel scale and place, an experienced hotel feasibility study consultant should be able to propose changes and offer some savings during the due diligence of a hotel feasibility project. 

 

Site Analysis

Rail, Airport, Road

This section of a hotel feasibility study should describe the accessibility of chosen site by the railway system, road system, and nearby airports. The detailed feasibility study should not just portray these elements but also understand and analyze their traffic flow and calculated generated demand for the proposed hotel. 

 

Traffic count 

Another essential part of a hotel feasibility study is the traffic count of influential roads. This depends on the type and chain of a hotel project. In general, high AADT (Average Annual Daily Traffic) on the visible spot from the highway may generate significant demand generated by traffic for the proposed project.  

 

Financial Performance

ADR (Average Daily Rate)

The most basic unit of a hotel enterprise is ADR. ADR stands for the Average Daily Rate, which measures the average revenue a hotel receives for each occupied guest room per day.

 

ADR is driven by various factors, including hotel chain, primary market area saturation, hotel equipment, location, and date of construction.

 

Occupancy

Another essential factor of hotel project financial performance is occupancy. In general, the main hotel revenue stream is generated on this principle:

 

[(ADR * rooms count) * (occupancy 0.00 to 100.00 percent)] – expenses = EBITDA

 

Hotel occupancy rates are one of the biggest concerns for hoteliers because it strictly equates to the primary revenue stream. Occupancy prediction is the most critical part of a hotel feasibility study.

 

Occupancy is often seasonal, which means, in general, it has a peak during summer and a bottom during winter. There is also seasonality during the week. ADR usually varies during business days and weekends. Lowering ADR during a business day may increase your occupancy.  

 

MMCG Invest base its occupancy prediction for a hospitality market and submarket on the specific datasets combined with an internal database of dozens of operating hotel projects. 

 

Market and submarket conditions might be modified depending on demand generators. Demand generators are objects which increase demand for hotel nights. These are typically festivals, hospitals, tourist attractions, amusement parks… 

 

For example, it was proven that hospitals with in-take treatment generate, on average, about one room night demand per three in-take patients within 5 miles radius. Another example is that three days festival will fully occupy hotels within a 5-mile radius of its location. 

 

Room demand by each category generated by generators needs to be calculated and divided between hotels within the influential area. 

 

Adjusted demand is considered for the occupancy predicted by the dataset for market and submarket conditions. 

 

Secondary Revenue Streams

The Hotel feasibility study should consider other revenue streams if any. These are typical:

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1. Restaurants,

2. Banquet/meeting halls,

3. Vending machines,

4. Rental, Trips, Beach rentals, and others, 

 

Restaurant revenue streams depend on many factors, including hotel scale, location, and type of restaurant. In general, revenue prediction for a restaurant should be the subject of a restaurant feasibility study. The hotel feasibility study should not be distracted. 

 

Banquets or meeting halls are often part of the hotel project. To be considered in hotel financial feasibility, generating revenue depends on market saturation, space size, and location. 

 

Vending machines. Vending machines, typically serving beverages, generate about 1 percent of rental room revenue. 

 

Rental, Trips, Beach rentals, and others. This revenue stream highly depends on a hotel's location. The hotel feasibility study should concern them if the hotel or motel project is in a tourist area like Florida, California, or Maine. This revenue stream is generated by organizing or a commission from purchasing boat trips or other tourist-generated trips. It can include the rental of beach spots for non-hotel guests.

 

Gross Revenue

Gross potential revenue is the theoretical maximal financial potential of the hotel project based on the capacity of the proposed project. The gross revenue estimate is not considering occupancy or usage factor. 

 

[(ADR * Room count) * (100.00 percent occupancy)] + (Restaurant gross revenue* 100.00 percent occupancy)  + (banquet meeting hall * 100.00 percent occupancy) + (…) = Gross Potential Revenue (GPR)

 

Effective Revenue

Hotel effective revenue is a GPR, increased by considering the occupancy forecasted factor. 

 

[(ADR * Room count) * (aa.aa percent occupancy)] + (Restaurant gross revenue* bb.bb percent occupancy)  + (banquet meeting hall * cc.cc percent occupancy) + (…) = Effective Revenue (ER).

 

Where:

A represents occupancy for hotel rooms, 

B represents usage trends for a hotel restaurant,

C represents the occupancy trend for the banquet/meeting hall. 

 

Expenses

Operating a hotel has three significant parts of expenses. In Hotel Pro forma, costs are increased from effective revenue.

 

1. Departmental expenses,

2. Operating expenses,

3. Fixed Expenses.

 

Mentioned financial indicators are further processed to estimate EBITDA, Debt Service Cover Ratio (DSCR), Discounted Cash Flow (DCF), Net Cash Flow (NCF), Sensitivity Analysis, and Internal Rate of Return (IRR).

 

Does your commercial bank require a hotel feasibility study? MMCG Invest is an expert feasibility study company with years of unique know-how. Our hotel feasibility study or hotel assignment is about 5 to 10 business days. Contact us for a free consultancy to discuss your market conditions.