By Gregg Rockett and Jeff Sachs
Part Two: In support of public authorities that choose to own convention hotels – from professionals in the trenches.
Introduction
Part one of this article reviewed the controversy surrounding the public ownership of hotels and highlighted the opposition’s principal arguments, which has several decades of academic and journalistic documentation. One would think that a reaction to overwhelmingly negative literature would discourage the public sector from pursuing the outright ownership of hotels, and this may have muted some initiatives. However, municipal jurisdictions in the United States continue to embrace hotel ownership, as evidence by recent undertakings by cities, counties, airport administrations and convention authorities around the country. This second part of the article explores reasons why and credits the best practice of certain approaches.
Why Not?
If a project is deemed of public benefit or civic minded, whether in the interest of economic development or revitalization, it becomes a mission of public interest. The intention of this article is not to condone public ownership of hotels, particularly as a complement to a convention center development, but to recognize that pursuit of such an initiative is not necessarily a defensive, red ocean strategy. Past literature accentuates many poorly executed initiatives, but there are many successful ventures from which best practices can be derived.
The initiatives that emphasize the civic benefits should not be marginalized as insincerely altruistic. There is very real public merit in choosing to go into hotel ownership without private sector partnership. For decades, the Chicago Department of Aviation took a leasehold position in the Hilton O’Hare Airport hotel and was perfectly content to hand the keys to a private sector hotel company to operate the business. In developing a modernization strategy for repositioning O’Hare International Airport, the hotel component was deemed crucial. As such, at the end of the lease contract, the aviation authority took control of its own destiny by assuming ownership of the hotel and extending the operation by Hilton through a management agreement. The objective wasn’t solely to benefit from financial upside, but also to advance a social agenda that went beyond conventional diversity and inclusion goals to embrace disadvantaged business enterprises.
Many public authorities try very hard to solicit the private sector to take the lead in undertaking these hotel projects but find that the costs are too great or carry unacceptable ramifications. Most often cited is the inability to guarantee space for an event without a room-block agreement. In order to secure the ability, the public sponsor is giving up too much subsidy or incentive relative to the right of first offer on the hotel availability. In other cases, the economics are not attractive to the private sector without a substantial incentive, so if public financing is cheaper, why shouldn’t the public sector keep all the economics, whatever they may be? That is a seemingly more enticing outcome than doing nothing and losing a competitive edge to other convention destinations.
Not enough information exists to suggest how hotels, particularly those oriented toward conventions, contribute to placemaking. But aesthetically and functionally, the trend for convention hotels to anchor or consolidate the urban playground is undoubtedly evident. Strong case studies are the publicly-owned convention hotels in Houston, Omaha, Austin, Columbus and Cleveland.
- In the case of Omaha, the city has become a headquarters for the U.S. Olympic Swimming Trials in part due to the development of the Hilton hotel and CHI Health Center (formerly Century Link Center and Qwest Center).
- The development of the Hilton Americas – Houston gave life to a dormant south side of the George R. Brown Convention Center, which facilitated more public infrastructure (an improved Discovery Green) and a Marriott convention hotel that was privately-financed (although with some public incentives).
- The publicly-owned hotels in Columbus and Cleveland also contribute valuable activity as anchor tenants to important downtown sports and entertainment districts. Meeting planners have gone on record as emphasizing the importance of these collective assets as contributing strongly to the selection of a convention destination.
Criticisms lament overly optimistic projections of economic benefits stemming from the development of the hotel, either in terms of unrealized convention delegates, or the hotel’s underperformance and/or the negative impacts on the hotel market. This approach belies certain market realities that cannot be proved unless the hotel is not developed. A very real market reality is that convention centers without adjacent hotel accommodation are very much at a disadvantage to attract city-wide conventions. Adding a headquarters convention hotel to remain competitive is not necessarily a red ocean strategy, especially if declining city-wide activity is the alternative. In fact, there is evidence that incremental meetings business is generated by the headquarters hotel, either exclusively using the hotel meeting facilities, or in partnership with the convention center in driving more city-wide activity. As an example, the headquarters hotel owned by the Franklin County Convention Facility Authority in Columbus, Ohio generated approximately $41 million in benefit from 2012 to 2016 from groups that, without the convention hotel, the city otherwise would not have had the capacity to host.
A frequently cited example of a famously ill-conceived, publicly-owned hotel is the Hilton Baltimore. Media reports focus on paper losses, not positive cash flow, and also neglect to reinforce that the hotel sits on what was for many years a neglected and idle lot that now serves as an anchor to the sports complexes on the west end of downtown. The hotel also employs 440 workers, more than 80 percent of which are inner-city residents, and is responsible for bringing new convention business to Baltimore (representing an estimated 20 percent of the group business). The media coverage rightly points out that actual results have varied significantly from the original projections prepared by the city’s consultants. However, the coverage does not provide the balanced view that these projections were prepared at a favorable point in the economic cycle that did not anticipate the hotel to open in the trough of a recession.
Best Practice
Beyond the Baltimore case, there is scant concrete evidence to support that public ownership of convention hotels only works when the financial projections are overly ambitious. On the contrary, authorities in Columbus and Cleveland have gone on record as having recently experienced success beyond initial expectations. In Columbus, the Franklin County Convention Facility Authority estimates that it is four years ahead of initial financial projections for the 532-room Hilton that it owns and a plan to expand the hotel to 1,000 rooms is currently underway. Similarly, the 600-room Hilton in Cleveland, owned by Cuyahoga County, had proceeds in 2017 (its first full year of operation) that were more than 15 percent in excess of projections.
The recipe for viable hotel development is no different in the public realm than it is in the private sector. The difference is generally in the degree of debt leverage that is implied in a publicly-owned venture, which is often 100 percent or more of the development cost, but at generally more favorable interest rates and potentially longer amortization periods. Aside from that, the principle of scaling investment to affordable levels of debt-service based on the market and financial outlook is no different. Some of the best practices observed by the authors in public sector hotel development initiatives include the following:
- Strong leadership, stakeholder alignment and transparency.
Even the most valid and viable rationale for taking over the role of a private hotel developer and owner can be upended by weak leadership or lack of alignment in agenda among the stakeholders. The most effective public initiatives involve a collaborative group that leveraged partnership and a shared agenda among politicians, private sector leadership, particularly in the hotel and tourism sector, and all community advocates with an interest in the project. The agenda must be transparent and rationale for undertaking the project jointly agreed. Trying to get common agreement after the fact often can result in obstruction, or worse, derailment, from one stakeholder or more.
- Private sector partners that understand the public sector agenda.
If the private and public sector had a common agenda, then a public authority likely would not be in the position of developing and owning a convention hotel in the first place. It is not enough to expect a private sector partner to buy into the partnership simply because the opportunity is being made available to work on behalf of a public partner. It is important that the civic and social agenda of the public sponsor is transparent from the start as criteria for any bid proposal, whether that be diversity and inclusion requirements, a desire to mitigate labor strife or to promote community outreach initiatives. The objectives must be reasonably attainable and measureable.
- Professional support at the very beginning stages of the initiative.
Hotel development and ownership is a niche business model that requires professional input at the very onset of the planning process. Having a realistic understanding of the market prospects at the very beginning is key to maintaining a viable development process. Selecting a development consultant and surrounding that resource with experienced planners, architects and construction professionals provides the right orientation from the beginning. The ideal start is a request for proposal to identify the right qualifications for a development consultant, followed by subsequent procurement processes for the rest of the development team. Also, have your feasibility “ducks in a row” before attempting to identify a hotel brand and management partner.
- A myriad of credit support and backstops.
The adage that creating a small fortune in any industry begins with a large one applies to the hotel business as well. A convention hotel is an incredibly complex and large-scale investment that is subject to extreme cyclicality. It is also a cash flow business entity that requires substantial working capital daily and also requires constant reinvestment over a long period. The appropriate level of resources as a backstop in the event of liquidity issues is critical to viability, and also provides comfort to bondholders. The initial capitalization of the investment must contemplate the creation of reserves at multiple levels, not only for the prospect of operating shortfalls against debt-service, but also for future reinvestment.
Food for thought
How the public sector becomes a hotel owner despite extensive negative literature is a topic worthy of exploration. Admittedly, there is an absence of tangible documentation to validate the financial viability of the many dozens of convention and airport hotels owned by the public sector. Equally, there is scant evidence of hotel projects underwritten by the public sector that have gone seriously off the rails, and yet a stigma persists that such initiatives are ill-conceived. These arguments ignore that the convention hotel for some public sector sponsors is a form of infrastructure critical to placemaking and retaining competitive advantages in that arena. Even so, there is value in the initiative as an option of last resort to control one’s own destiny, and the viability is enhanced by following the best practices observed by the authors in previous undertakings by the public sector.
