Changes in supply and demand patterns are the two factors that cause shifts in the hotel industry cycle. Currently, most hotel owners, operators, and analysts are bullish with regards to the short- and intermediate-term outlooks for the lodging industry. On the demand side, occupied room nights continue to climb despite rising gas prices and multiple hurricanes. Barring an unforeseen catastrophic event, our PKF Consulting/Torto Wheaton Research Fall 2005 Hotel Outlook forecast calls for growth in demand each year from 2005 through 2008 at a 2.5 percent compound annual growth rate.

What is foreseeable with a fairly high degree of certainty is the relative lack of new supply growth in the next few years. Given the lead-time needed to build hotels, projections of supply growth are somewhat predictable for a period of at least three years. Despite continued economic growth, rising demand, and growing room rates, the supply side of the performance equation appears to be in check from now through 2008. The Fall 2005 Hotel Outlook forecast shows a compound annual growth rate for supply of 1.9 percent from 2004 through 2008. For comparison purposes, climbing out of the industry recession of the early 1990s, lodging supply grew at a compound annual rate of 3.9 percent from 1994 through 1998. It is the relative lack of new lodging supply projected to come on line during the next years that has operators and owners of existing hotels most happy.

Why is hotel construction slow given the positive outlook for hotel demand and average daily room rates? One theory is that in most markets, it is still cheaper to purchase an operating hotel than build a new one. And, this is not because hotel values are depressed. We are currently in a unique situation when the industry is approaching a period of peak performance, yet the rise in development costs is outpacing the growth in hotel values. To gain a better understanding of current market conditions, we analyzed the factors that have driven historic development costs and values.

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