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Interstate’s Jim Abrahamson Talks International Hotel Investment

AbrahamsonAt the NYU International Hospitality Industry Investment Conference, we sat down with Interstate Hotels & Resorts CEO Jim Abrahamson to discuss the state of international hotel investment. Here’s what he had to say about his company’s growth in the the U.K. and Europe, as well as opportunities in India and China.

What’s driving international hotel investment growth in Europe?
North America will continue to be our largest market, but it is a very fragmented market. There are a number of management companies and, of course, the brands—it’s a very mature and well-developed lodging market. We have operations in the U.K. and Europe, India, and China. We see our greatest percentage growth opportunity being in Europe for a few reasons. The first is that it’s a great travel destination and despite the fact that there’s been disruption in the economy over there, it’s still a vibrant market. It’s an area that people are traveling to and it has a business market that’s very strong. And we believe that—betting on the cycle here—Europe will continue to improve and not just in the big cities. The recovery there has become more broad based.

The second reason, there was a lot of disruption in the financial markets in Europe that caused many of the hotels to go to banks and many of the banks to go to governments. And different from the U.S., where there’s a lot of CMBS debt that’s syndicated and sold off, many European banks continue to hold that debt on their books. Eventually they have to liquidate it. So we see a transactional market continuing to develop. That’s good because our independent management model is a very transactional-based business. The best time to change managers is when you change owners. That helps spur our growth.

Finally, they don’t have the fragmentation in Europe that we have here. There are about 250 qualified independent management companies in the U.S., where over there—other than the brands themselves—there isn’t a single pan-European management company that has scale in the U.K., Europe, Russia, and CIS. When you add all of that together and you think of where the market is heading and you see that the buyers are largely now big multi-national pension funds, private equity, and other big firms. They can’t hire a provincial manager. They can’t have five different managers in each country. And its difficult to hire the brands because many of these hotels are trading in portfolios that have different brands and even independent hotels associated with them. So I believe we’re the best choice, and more often than not, we’re the only choice.

Can you talk about some of the recent moves Interstate made in the U.K.?
We bought Sanguine Hospitality in Liverpool and then Chardon Hotel Management in Glasgow. Those two companies gave us a terrific platform of 45 to 50 hotels in the U.K. Not only that, but it gave us some terrific people and great leadership. Ultimately our business is very people focused. We don’t own the bricks and mortar and we don’t own the brands, but the people work for us. And having the right systems and people are part of our strategy.

You recently attributed a large part of the growth in Europe to “branded boutique-style, select-service hotels in business-oriented markets in Europe.” Can you elaborate? 
Sure, but keep in mind that I was using boutique with a small b. A lot of European business is smaller hotels—they don’t really have the big boxes or the convention center-type hotels that we have. So what’s happening in Europe, with this turnover there’s a great opportunity when new owners come in to reinvent these individual properties. We’re seeing some growth particularly in the branded boutique space. We’re a large operator of IHG’s Indigo brand, for instance, and I think there’s a good runway for it and some of the soft brands like Hilton’s Curio because there are a lot of destination-driven properties. Having these collection brands are a good execution for all of that. People go to Europe and they’re looking for differentiated experiences, particularly if they’re leisure travelers. To provide some uniqueness around is, we think, going to be a powerful force in the next cycle.

What’s going on in China and India for Interstate?
The independent management model is brand new over there and we have smaller operations. While there are plenty of provincial operators in the U.K. and Europe and the independent management model is very mature there, growing that model in China will take time. We’ve seen a lot of growth in China and it’s been on the top end—five star brands. When growing in emerging markets the brands prefer to manage their own hotels. And since there isn’t a Chinese alternative for a franchise operation, has led many new hotels into the brand managed category. We manage one branded hotel, an 800-room DoubleTree in Pudong Shanghai, and the rest of our Chinese portfolio consists of local brands. Overall there isn’t a lot of transaction activity in China—culturally there are a lot of assets that are built and held—so there isn’t the same kind of trading environment that we see in the U.S. and Europe. Without that turnover we have a longer runway to go down.

Longer term in Asia, there are a lot of powerful forces, such as the emerging middle class and the building out the travel infrastructure, that will give a leg up to more midscale brands. Right now, there isn’t really anything between one star and five star. If you go to China, you can see everything moving very quickly and it’s the 1960s, ’70s, and ’80s all rolled into one. There’s a great family movement there and people want to travel and see more of their own country. Now in China, we see more emphasis from the government to move away from the luxury products—the conspicuous consumption—especially amongst the state-owned enterprises. So I think that’s going to create a shift that may segment the markets a bit more for us.

Hilton, Marriott, and Hyatt really haven’t promulgated their mid-price brands in China, and when they have, it’s usually in major cities where they’re five star hotels. There are a tremendous amount of other hotels in China, but they’re two-star properties that aren’t of the quality level we’re used to seeing in the U.S. So the U.S. brands want to expand into that category but they’re less inclined to operate in that segment and they aren’t heavily inclined to turn to the Chinese market for an owner-operated model since there isn’t the same depth of experience and resources that a company like ours has. We’re the only one over there right now that’s providing this model, so I think the longer term growth opportunities are going to be available in Asia. But please don’t ask me what I mean by longer term.

Interstate was on the ground in Sochi before the Olympics. Will you be doing the same thing in Brazil?
No, because it’s a much different market. We currently aren’t in Latin America since it’s such a difficult market to penetrate. We like to get into markets that we can grow to scale in, and we like to enter with either an acquisition or at least a cluster of hotels. It’s hard to do just one at a time. And outside of these big events coming to Brazil, there aren’t any other compelling dynamics that are encouraging a building boom. They may be forcing a lot of hotels into the market, but I don’t think they’re getting the distribution they anticipated. We don’t see a clear path to growth there yet. Maybe Mexico holds a little more promise. That why we see our international growth is really broadly keyed to Europe, U.K., and Russia.

You mentioned before that there’s likely to be some consolidation when it comes to management companies. How might that play out?
Interstate doesn’t see consolidation as a strategy; it’s more of a tactic. We believe that the market dynamics for management companies—given the backdrop of what we’re seeing in Washington with more, rather than less, regulation—means that costs are going up. While hotel revenues are expanding, we’re also seeing cost increases nibble away at profitability. Now there’s already been some consolidation already due to these market forces and from demographics, with some management company owners looking for a liquidity event or looking to continue to grow to have more scale. And hotel buyers are becoming increasingly institutional and these types of owners need bulletproof systems of reporting and depth of personnel. So there are a lot of dynamics at play that gives an advantage to a scale player like us. Now it’s not enough to just be big or else McDonalds would be serving the best food in America. You also have to be the best. So we look to harness the strength of this supernova that we have in the center of the company, which is all our systems, buying power, and leverage, and break them the company into smaller operating units that are very owner-centric we can have the best of both worlds.

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