Hotels seem like a simple business. As a guest,
you pay a nightly rate for a room of your choice. The better the location, the more you pay
per night. The more stars that hotel has, the nicer your stay will be with better
service and amenities like business centers, gyms, firepits and pools. During your stay
you can pay more for add-ons like breakfast, shoe shining, room service, or laundry. After
you check out, you’re charged for everything, the hotel cleans up the room, and rents it
out to the next guest. Rinse and repeat.
Hotels have high fixed and variable costs.
Let’s say you run the luxury JW Marriot in downtown Los Angeles. 21 floors, 900
rooms, complete with a full-service spa, fitness center, outdoor pool, meeting rooms,
rooftop bar, and valet. You’re in the low season and only 30% of the rooms are occupied. Rooms
still have to be cleaned. Hallways have to be vacuumed. Housekeeping still has to deliver
toothpaste, towels, and laundry upon request. The bartender still has to be ready to take
orders and pour drinks even if no one is on the rooftop. The same goes for the valet, the
spa masseuse, the front desk, the pool guys, the bellhops, and the security guards. The
nicer the hotel, the more amenities offered, and the higher the direct operating cost becomes
with all the labor, materials, and overhead.
Hotels operate on economies of scale and economies
of scope. Their goal is to achieve consistent volume and to keep new guests flowing in after
prior guests check out. This is why hotels slash room prices in the low season and hike
them as high as possible in the high season. Low season is between November and March. That’s
the end of the school year, business slows down, the wind-down to Christmas, people travel back
home to families, and when the winter reaches its coldest level. Few people will want to take a
vacation during wind chills, ice storms, or heavy snow. High season in comparison is defined as
between May and August, so think Miami during summer when weather is the nicest, students break
from school, and families go on vacation.
If we go back to that JW Marriott hotel,
all those additional amenities like the spa, pool, bar, and valet are tools to
increase the average guest bill. Even though these amenities and the overall hotel
will go through slow periods in the low season where they end up in the red, that loss is made
up during the high season. Selling drinks, food, pedicures, valet along with the optionality
of a pool, gym, and private meeting rooms are all levers for a hotel to increase its revenue
and customer LTV without simply jacking up the room price. Too high of a room price and people
will just book another comparable on an aggregator like Priceline, Expedia, or Trivago. Too low of
a room price and the rooms will sell out quickly, but the hotel still has plenty of ways to make
money off those guests once they check in.
But not every hotel is a 5-star luxury building
and not everyone is willing to spend hundreds of dollars per night. Luxury hotel rooms
account for less than 2% of all hotel rooms in the US.
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The hotel industry organizes hotels under
4 categories: economy, midscale, upscale, and luxury. The type of hotel you go to dictates
how much you should expect to pay per night, the quality and breadth of service you should expect
to receive, and the amenities available.
If we look at the leading hotels
today, there are 5 main players. These five corporations own entire portfolios of
brands that span across these categories. Let’s start with the most well-known player, Hilton.
Hilton’s luxury brands are the Waldorf Astoria, LXR, and Conrad hotels which are all located in
landmark destinations like Dubai, Turkey, Rome, New York City, and London. As legendary as these
brands are, these luxury hotels account for less than 5% of hotel rooms in Hilton’s portfolio.
Hilton’s money makers are in its upscale and midscale brands. The Hilton is the company’s
flagship hotel that provides everything from event spaces to restaurants and bars in their lobby.
DoubleTree, famous for the warm chocolate chip cookies it serves guests upon check-in, is another
well-known upscale Hilton hotel targeted at business travelers. Garden Inn and Embassy Suites
are the other leading upscale Hilton brands. In the midscale category, Hilton owns the respected
Hampton Inn which attracts leisure travelers with its complimentary hot breakfast and waffles.
Hotels make money as a function of how many rooms they have. Hilton grossed $6B in 2021 with
a little over 1M rooms. Before the pandemic, Hilton was earning $8-9B a year. Yet despite
their first mover advantage and fame, Hilton is only good enough to take second place these days
when it comes to revenue and total rooms.
First place goes to Marriott. Marriott has the
highest market cap and grosses nearly 3X as much revenue as Hilton. Marriott’s luxury brands
include the Ritz Carlton, St Regis, JW Marriott, the W. Upscale brands include the Sheraton,
Westin, and Marriott hotels. Marriott’s portfolio features the mature midscale market share that
Hilton lacks with trusted brands like Courtyard, Fairfield, Aloft, and Residence Inn.
Marriott grossed $14B in 2021 across 1.5M rooms as the industry leader with the most
revenue and rooms available worldwide. Before COVID, Marriott was grossing $20B a year.
Third-place goes to InterContinental Hotel Group. InterContinental Hotel Group or IHG for short
is based in Europe but their portfolio contains recognizable American brands. IHG’s luxury
portfolio is spearheaded by Regent and Six Senses, which are located in destinations like
the Maldives, Fiji, and Portugal. IHG owns the respected Crowne Plaza hotels for the
upscale segment and the reliable Holiday Inns for the midscale segment. IHG grossed $2.9B in 2021
across 900,000 hotel rooms. Before the pandemic, IHG’s annual revenue was 4-5B dollars.
In Fourth place is Hyatt. Hyatt’s portfolio boasts top end luxury brands such as the Grand
Hyatt, Park Hyatt, and Destination by Hyatt. For the upscale segment, Hyatt owns Hyatt
Regency, Hyatt, Hyatt Place, and Hyatt House. Hyatt grossed $3B in 2021, which is on par
with IHG and half of what Hilton makes. Hyatt caters more towards business travel and the
company’s results are impressive. Hyatt has less than 300,000 hotel rooms worldwide, which is 1/3rd
of IHG, 1/3rd of Hilton, and 1/5th of Marriott’s scale. To generate $3B off so few rooms speaks
to how successful Hyatt has been in cornering the upscale business travel market. Before
COVID, Hyatt grossed $4-5B every year.
In Fifth place is Wyndham. While all the others
are duking it out over the high end market, Wyndham is the quiet player that chooses to sit at
another poker table entirely. They specialize in midscale and economy hotels. Super 8, Travelodge,
Microtel, Days Inn are all well-known budget hotels in Wyndham’s portfolio for “value-oriented”
travelers. For economy hotels, free coffee and Internet are the extent of the amenities.
These economy hotels are simple, affordable, functional, and widespread. Wyndham also owns
reputable midscale hotels such as LaQuinta, Ramada, and Baymont. Wyndham grossed $1.5B
in 2021 across 800,000 rooms. Before COVID, Wyndham’s gross revenue was $1.5-2B a year.
Then came Airbnb. As the startup began to pick up momentum and funding in the early
2010’s, a narrative began to form.
Even to this day, Hotel executives can’t get
through interviews without being asked about Airbnb. Yet their response and position has been
measured and consistent over the years.
Cost is the biggest barrier to scale in the hotel
industry. It takes on average 2-3 years to build a hotel. The upfront cost for design, permits,
and construction can range from $30M to $130M, depending on location and category.
These estimates don’t even include the cost of the land. Since these numbers are
publicly shared by nearly every hotel giant, it’s no secret how cost prohibitive it is to
grow market share in the hotel industry.
Airbnb’s innovation is on the supply side.
Anyone can list and monetize their room, apartment, or house with a few steps on Airbnb.
The company’s business value is to serve as a trusted platform between travelers and hosts.
Discovery, communication, and transactions between both parties all occur on Airbnb.
Hosts set their own prices for their listings, provide service, and accept travelers
in whatever way they see fit.
As a middleman, Airbnb charges service fees
to both guests and hosts as a percentage of the total reservation cost. Airbnb’s advantage
is that as a platform, the company doesn’t own, lease, manage, or maintain any real estate.
Hosts can add or remove listings anytime. If a host isn’t seeing the business they want
on Airbnb, they can remove their listing at no additional cost. There is opportunity cost but
no marginal cost. Airbnb is monetizing housing that already exists. It’s not a question of
demand or supply, it’s just whether or not that housing supply exists on Airbnb.
Hotels are the opposite. Demand has to be validated first in order
for housing supply to exist. If the destination is not popular enough to fill
the hotel rooms, if the local labor pool is not robust enough, if the land is not available or too
expensive, the hotel will simply not exist.
While there are no limits on how many listings
there can be on Airbnb, there are hard caps on how many hotels that can exist based on zoning
ordinance. Airbnb is an asset-light, fee-based platform business in an industry that notoriously
demands significant capital and capex.
This platform advantage has enabled Airbnb
to outperform hotels at scale. Airbnb had 6 million active listings in 2021. If we combine
Marriott and Hilton for the sake of comparison, we get a total of 2.5 million rooms. That’s not
even half of Airbnb’s listings. Even if we add up all the hotel rooms of the five major players,
Marriott, Hilton, Hyatt, IHG, and Wyndham, they still don’t come close to Airbnb’s scale.
Between 2020 and 2021, Marriott added 30,000 rooms, Hyatt and Hilton each added 50,000 rooms,
IHG actually closed down 6,000 rooms, and Wydnam added 20,000. Airbnb in that same timeframe
added 400,000 listings to their platform.
Airbnb’s scale fuels its top-line revenue. The company calculates its gross revenue
as the dollar value of all confirmed bookings. So if a listing is rented out for one night
at $100 and Airbnb’s cut is 4%, the company recognizes $100 as gross revenue even though
it doesn’t own or manage the listing. Airbnb’s gross revenue in 2021 was $5.9B dollars, which
beats Hyatt, Wyndham, IHG’s earnings by a large margin and puts the company slightly ahead
of Hilton in terms of annual earnings.
So why aren’t hotel executives scared of Airbnb? Are Hilton, Marriott, Hyatt executives all
just pretending not to care publicly but freaking out privately in boardrooms? Are the
hotel giants just too stubborn to evolve?
The secret is that Hilton, Marriott, Hyatt,
Wyndham, and IHG are all actually asset-light platforms businesses who make most of
their money on fees, just like Airbnb. So while the media and analysts spin stories about
how the hotel industry is dying and is about to be disrupted…the reality is that the Hilton,
Marriott, Hyatt, and every big hotel company have been operating exactly like Airbnb long
before the startup even existed. Disruption can’t happen if the new firm and the old incumbents
are all operating in the same way.
Most people think of the hotel industry
as this deeply traditional business where companies buy the land, hire all the
staff, build the hotel from the foundations up, and run it themselves. And that’s true when
you look at the roots of the hotel industry. Legendary founders like Conrad Hilton, John
Marriott, and Hyatt Robert Von Dehn owned, managed, and built every single hotel under their
respective names starting from the 1920s.
This traditional owner-operated, asset-heavy
business model has some upsides. If the hotel performs, the owner directly benefits from all
the income generated. If the owner owns the land, they gain the real estate appreciation which often
nets higher returns than the hotel itself.
The challenge with this traditional business model
is the capital requirements, slow growth, high operating risk, and low cash on cash return. Even
though owners pocket all the income generated, they also bear all the opex of running that hotel.
It can take a hotel decades just to break even with their initial investment. Even though the
assets like the land and building can carry high book value, the hotels are typically cash-starved
and need cash flow just to offset the daily opex. Unless the company is backed by lenders
who can provide financial safety nets, it only takes one underperforming hotel
under this asset-heavy owner operated model to pull a company towards bankruptcy.
You can see how fragile the traditional owner-operated hotel business model is by
looking at Hyatt, Hilton, and Marriott’s business performance before and after COVID.
In this dataset, we are just looking at the hotels that these corporations own and operate
themselves. Before COVID, Hyatt and Marriott had achieved economies of scale with healthy 20%+
gross margins. Hilton was not performing as well, but still in the green with 7% gross margin on
the hotels it owned and operated. After COVID, the hotel giants have not recovered their economies
of scale, struggled to maintain guest volume, and the gross margins for the hotels that they
directly operate have taken significant hits, dropping to 8% for Marriott and -14% for Hilton.
When you’re working in the owner operated model, educing variable costs is one of the few levers
you have available to reduce your burn rate. But cutting employee hours, eliminating non-essential
employees, shutting down amenities - lowering variable costs are not enough to maintain
margins when you have such high fixed costs under the traditional owner operated model.
The critical misconception people have today is that Airbnb is the one who pioneered this platform
business model in the hotel industry. In reality, the hotel giants had already been operating as
asset-light, fee-based platforms for many decades long before Airbnb existed. The platform business
model is not some new novel idea, instead, it’s an established and proven monetization path that’s
enabled the hotel industry to scale to its current heights, achieve higher returns, unlock faster
growth with less capital and operating risk.
Just like McDonald’s or Subway, Hyatt, Hilton,
Marriott and every other major hotel engages in franchising. Under the franchise model, you
shoulder the initial startup costs and take on responsibility for operating the hotel and hiring
the staff. In return, you get to brand the hotel as a Hyatt, Hilton,or Marriott and tap into an
active customer base, ride off the brand prestige, integrate into their tech infrastructure and
supply chain, and become part of a robust loyalty program like Honors or Bonvoy. You never have to
worry about advertising, marketing, and whether or not customers know about their hotel.
As a new hotel owner, if you were to forge your own independent brand, it would likely be a long
and painful journey. You would be buried deep in a sea of unknown hotel brands on aggregators like
Hotels.com. And since 2/3rds of hotel bookings are for business travel, there is little chance
a business traveler would take a risk staying at an unknown hotel over the consistency and
reliability of a Hyatt, Hilton or Marriott.
So in exchange for the brand, you kick up 2-6% of
your gross booking revenue to corporate. You also pay a percentage of your gross food & beverage
sales along with a monthly program fee. The upside is that if you own the land yourself as
the third-party, you get to keep all the real estate appreciation for yourself.
If you are a hands-off owner that doesn’t want to take on operations, you can enter a
separate arrangement to have a hotel giant manage your hotel for you. It’ll still be
branded as a Hilton, Hyatt, or Marriott but they’ll operate the hotel and hire, train,
and manage all the employees on your behalf. In return, they take a percentage of gross revenue
as a management fee, another percentage as a bonus fee, along with a fixed monthly fee. You would
not be responsible or involved day-to-day with any aspect of the hotel despite being the owner. The
catch is you have to reimburse Marriott, Hilton, IHG, or whoever for all their operating expenses
they incur running your hotel for you. That’s why cost reimbursement is the biggest contributor
to every hotel giant’s revenue.
Hilton today owns and operates less than 2% of
its hotel rooms. Marriott owns and operates 1% of its hotel rooms. Hyatt owns and operates 5% of its
hotel rooms. Wyndham owns none of its hotel rooms, having sold off its last 2 hotels in the 4Q of
2021. For Hilton, they make 3X as much money from franchise fees than they do from gross bookings
at the hotels they own and operate. Marriott makes 2X as much money from franchise fees than they do
from hotels that they own and operate. Wyndham on the other hand is a pure platform business with
95% of its hotel rooms under franchise and the remaining 5% under fee-based management.
The narrative around Airbnb’s disruption and platform business model is interesting, but
not the ground-breaking phenomenon as the media and academics pose it to be. The entire hotel
industry had been undergoing this transition from asset-heavy operators to asset-light, fee-based
platforms for decades long before Airbnb existed. Hilton, IHG, Wyndham, and Marriott in particular
have been aggressively selling off their hotels and land every year for the past 20 years.
It’s worth noting that the platform business model is no silver bullet. While Airbnb continues to
outperform the hotel industry in terms of scale and listings, the challenge the tech
startup is grappling with now is that quantity is not quality. Safety issues, service
inconsistency, guest volatility, intrusive hosts, privacy concerns, and excessive policies have
resulted in Airbnb travelers feeling more like burdens than guests to their hosts. Regulation
has also caught up. With mandatory city fees and license costs now factored into each booking,
Airbnb can no longer use the tagline that they’re cheaper or more unique than a hotel when they’re
being taxed like one. And since affordability was a major driving force behind the company’s early
popularity, it’s an open question mark on how Airbnb will navigate the choppy waters ahead. When
price is equal across hotels and Airbnbs, service becomes a competitive advantage. Reliability,
predictability, and consistency in guest experience is where hotels have continued to edge
out Airbnb across business and leisure travel.