The hotel industry has never pretended to be an easy nut to crack. With its different segments, separate markets and operating complexities, it is a real estate phenomenon unto its own. But this industry, which began some 65 years ago with two management companies, has reached a point of stability in 1999, and has most hoteliers, developers, CEOs, analysts and legal strategists optimistic about the future.

Over the past four years, the U.S. hotel market has experienced some of the largest amount of new supply of any major property type - with the rollout of extended stay and limited service products the culprits for the serge in growth. In addition, both occupancy and RevPAR (revenue per available room) have fallen in the past few months, with the luxury segment - sporting less new supply and a RevPAR growth of 2% to 3% in 1999 - continuing to be the hotel golden child.

While the future looks stable on the hotel side, investors are still grappling with the stigma that hotels are a different kind of real estate - one not of bricks and mortar, but affected by unsettling factors such as operating costs and transienttenants. Investors have termed hotels "risky" real estate - especially after the financial crisis of fall 1998 - and in 1999, investors were still leery about hotels.

"Hotels, compared to other forms of real estate, have always been viewed as a little riskier," says Jim Burba, senior managing director for New York-based Insignia/ESG. "I don't think that has changed on a relative scale; they are riskier. It's taking real money to do deals today. And real money, especially private money, is inherently a little more cautious."

The caution of 1999 should be followed by another year of stabilization in 2000, according to a report from PKF's Hospitality Research Group (HRG). The hotel industry should be prepared for another year of slow room rates, but should expect an increase of .2% in the average occupancy for hotels located in major cities.

The hotel playing field, albeit somewhat stable in 1999, has some rookies on its team that could, in the long run, sway investor opinion. Technology, labor and training, and some new surprising (and successful) trends are all factors impacting the industry. But the not-so-new players - branding, funding and the good old-fashioned customer - are also just as exciting and promise to keep investors and hotel companies on their toes.

Funding, '90s style In 1999, the question was on everyone's mind: "Is it right to REIT?" Some will argue that as a growth company, becoming a REIT will not work for a hotel. Others argue that REITs, hotel REITs in particular, have been painted with a broad brush that has investors confused and hotel REITs severely undervalued.

"When I look at a REIT like Host Marriott that has great assets that are generally irreplaceable - the market gives them no credit for the quality of their portfolio," says Doug Hercher, managing director North America for Jones Lang LaSalle Hotels. (For more on Host Marriott, please see p. 44). "That's interesting. [The fact hotel REITs are not recognized for their assets] tells you that today Wall Street isn't doing a good job selling REITs to investors, explaining the kinds of investments they are."

The hotel industry is also guilty of not clearly explaining itself to investors. According to James Norman, of Washington, D.C.-based Holland & Knight, Wall Street is still losing interest in the hotel industry because it has not been able to see the kinds of returns the Street is accustomed to.

"Wall Street tends to look at hotels not as operating businesses, but as corporate vehicles where you buy and sell and break them up not so much as operating companies," says Norman. "Then when [hotels] are not able to meet the kind of returns Wall Street has, it loses interest."

Norman adds that this cycle tends to make the hotel industry cash poor for new deals, thus causing hotel companies to seek out alternatives such as joint ventures, the need for managers - and sometimes developers and contractors - to invest money into the deal. "Everyone has to put money in or the deal isn't able to go."

Several deals have been "able to go" this year, and while some developers are looking to new locations - Portland, Ore., and Seattle have been named potential new hotspots - New York, Los Angeles and Chicago remain constant favorites. "Development in general, hotels specifically, shadow the economic boom. Because businesses are flourishing, hotel rooms are booked," says Jeff Levine, president of Douglaston, N.Y.-based Levine Builders. "People have money to go away for business and pleasure. The hotel development business is booming."

Levine Builders is currently constructing a 14-story, boutique-style European hotel at 299 Madison Ave. in New York. Located at 41st St., the total construction cost of the 32,000 sq. ft. facility is $9 million and should be completed by year's end.

Although development in the United States continues to "boom," experts recommend keeping an eye on the rest of the world. According to Burba of Insignia/ESG, Europe has several small hotel chains that could become attractive to an American company looking to expand internationally.

"If you look at the European market today, there's only a couple of chains that are really large throughout the continent," says Burba. "Most of the countries have their own chains - small- and medium-sized companies that perhaps are going to become very good acquisition candidates for someone looking to have a true European hotel chain.

"I think you're going to see a lot of merger and acquisition activity in Europe," he says, adding that development in Latin America continues to interest U.S. developers with the country's evolving middle class and economy.

Luxury segment heats up As the hotel sector ponders its public performance, luxury hotels seem to be capturing most analysts' attention. In 1998, while most of the hotel industry was experiencing a decline in occupancy, full-service hotels were wallowing in a 7.0% growth in average room rates. This growth, according to PKF's Trends in the Hotel Industry - 1999 is what ultimately led to a 5.8% growth in RevPAR - the highest of all the hotel segments.

This year, the upward movement in the luxury trend continued, with most experts saying limited service was hit the hardest with an abundance of new construction. According to a LaSalle Investment Management report, luxury hotel properties continue to perform better than average with a RevPAR growth of 2% to 3% in 1999 despite a dip in overall occupancy rates and RevPAR over the past few months.

"[Full-service hotels] haven't been impacted by new development to the same degree that some of the economy, budget and limited service properties have," says Hercher of Jones Lang LaSalle Hotels. He also adds there is tremendous potential for conference centers, timeshare properties and boutique hotels.

"I still think there are great opportunities in some niche products, particularly situations like the [Ian] Schrager hotels," says Hercher, "people who are smaller operations that try to bring a little bit more imagination to the properties they're operating."

Imagination was key in 1999, says Ian Schrager, president and CEO of New York-based Ian Schrager Hotels. Founded in 1998, the company currently has eight projects in the works in London, San Francisco, Santa Barbara, New York and Chicago. In 1999, the company generated revenues in excess of $350 million and is expecting to take in at least $120 million in profits.

Schrager, whose claim to hospitality fame began with Studio 54, the hot New York nightclub, believes there is only one definition of a boutique hotel: antigeneric. "When I first came into the business, I was working on the mass-market model," says Schrager. "The properties were generic and institutionalized. We then decided that we could do independent boutique hotels that have a particular point of view and wouldn't be developed for 100 million people. We would own the real estate and we would own the hotel."

It is the mass-market model in the luxury segment that is misleading people, says Bjorn Hanson, global hospitality industry leader for New York-based PricewaterhouseCoopers. According to Hanson, the segments doing the best this year are the ones that have received the worst press.

"If you had to pick a sector or two performing really well, it's budget and economy," says Hanson. "You still hear on CNBC and the Wall Street Report executives and consultants saying a really stupid thing - that most of the construction is in limited service. That's not the case. Most of the construction is in full-service.

"Right now, the best performance - if we look at occupancy and RevPAR - is in budget and economy because the construction has decreased in those segments because of all of those people saying the construction is in limited service," he says, adding that the upscale segment of the hotel industry continues to be the "biggest disappointment."

Beyond connectivity This year, technology crept up on the hotel industry - catching some operators and management companies off guard. All of a sudden, customers were not asking for more towels, they were asking to be connected. As connection became the buzzword for the earlier part of 1999, clearly "high-speed" connection became the trend to watch in the latter half of the year.

"I suspect that the move from simple access to high-speed access will happen very quickly," says Peter Kline, president and CEO of Dallas-based Bristol Hotels and Resorts. Kline, who recalls the days when TV remote controls were "bolted" to the nightstand, says today's customer is not willing to settle for a hotel room that does not have all the comforts of home.

"Once people have something that is the expected norm, then it becomes an essential element of a hotel room," says Kline. "If you have a hotel room without a remote control, people would say, 'What is this?' The same thing is going to happen with regard to high-speed access. As more and more people have high-speed Internet access at home - which they're used to - they're not going to be satisfied with a dial-up connection for their computer.

"These kinds of things happen subtly," he adds. "But, at the same time, they happen quickly."

Peter Cass, president and CEO of Chicago-based Preferred Hotels and Resorts, says the impact of technology on his marketing efforts has been dramatic. He notes that, in 1999, not only has he seen the evolution of the Internet and electronic commerce, he has also been forced to change the way he markets his company.

"Hotel companies are being forced to develop consumer relations using technology - data warehousing, one-to-one marketing and database marketing," says Cass. "I'm talking about communicating with consumers over the Internet via e-mail and collecting information from the consumer about their requirements when they go to a hotel."

Cass says that capturing that information and providing feedback to the consumer is both expensive and challenging, but also a critical marketing factor in today's "consumerism."

Preparing for technology is key, adds Kline, and companies such as Washington, D.C.-based Marriott Corp. are wasting no time. According to Geary Campbell, director of North American communications for Marriott International Inc., Marriott has developed a partnership with SSTN to provide high-speed Internet access in guestrooms, meeting rooms and business centers in full-service hotels and Courtyards. By the end of 2000, the company expects to have at least 500 properties with this technology.

"Twenty years ago, people used hotels to sleep in," says Jim Sullivan, executive vice president of lodging and development at Marriott. "Now, a lot of people use hotels to work in. I think eventually you'll see us providing computer services directly so you won't have to bring your laptop."

However, technology does not stop in the guestrooms: It has made its way into customers' homes and has, for some, become a more efficient way to book travel accommodations. Through Internet intermediaries such as Priceline.com and Expedia, customers can now view prices and make travel reservations all within the comfort of their homes. While some companies, such as Marriott, have developed amicable relationships with these new "travel agents," other industry experts are skeptical about how well the industry and the Internet will work together.

"From a real estate perspective, there's really been a war waged against the hotel business," says Frank Nardozza, national hospitality industry director at in the New York office of KPMG. "Priceline.com, Travelocity, Expedia and the rest of the Internet travel sites are all backed by high-powered players like Microsoft. If these Internet sites have it their way, they would control access to customers."

Access to customers, says Nardozza, could mean controlling prices. Nardozza adds that the only way to escape this is by brand recognition. "If brands can create an Internet venue with a name associated with it then brands would become more important," he says. "There would be a name people could associate with and trust. But this is a war."

Kline of Bristol Hotels agrees that, as bookings over the Internet increase, so will competition among the Internet intermediaries and the hotel brands. But while competition will increase, Kline predicts that hotel owners could begin to see an improvement in their bottom line.

Hanson of PricewaterhouseCooopers, says Internet intermediaries could question the relationship a hotel has with the guest. While Internet intermediaries could affect hotel revenue and average room rates, Hanson says occupancies will go up, thus offsetting the loss.

Marriott says the only way to win the war is by working together. According to Sullivan, the company has tripled its Internet bookings in the past two years - the majority of which have come from Marriott's own Web page. "With all of these Internet intermediaries, including you and me at home, I'm sure [Marriott] will find a way to deal with them," says Sullivan. "We're not going to fight them; we're going to work with them.

While some new trends have entered into the market in 1999 - boutique-style hotels and connectivity in the rooms - branding continues to be a key strategy in the industry. Branding played an important role in the Hilton Hotels Corp. and Promus merger, which married a franchise component with a strong brand. Burba of Insignia/ESG sees this type of marriage as a sign of things to come.

"I think you will see more deals like this happening," says Burba. "I think some of the bulking up that has occurred over the past five years - where companies built and gobbled a lot of stuff together - will become disassembled or merged into other companies or acquired by other companies."

Recruit, retain, reward With competition fierce in the hotel industry, it is no surprise that more and more hotel management companies are paying serious attention to their employees. Recruiting personnel is starting at the grassroots level, and can be seen in such efforts as the Marriott hospitality high school in Washington, D.C. Employers are seeing the role of the employee as a critical step in creating and maintaining the relationship with the customer - particularly in the luxury segment where customers are paying top dollar.

"Recruitment from an operating standpoint - finding good people, hiring good people - is probably the biggest challenge today on the operating side of the business," says Cass of Preferred Hotels and Resorts. "Training is also very important in the luxury market. You not only want to train the people highly, you want to empower them.

"A guest who stays in a luxury hotel is paying $300 or $400 a night, and you want the maid to be able to solve the problem or you want the bartender to be able to do it," says Cass.

Empowerment is the strategy among many hotel operating companies that now realize retaining employees is also a key strategy in the industry. Retention, according to Charlie Peck, president and COO of Destination Hotels, begins with company culture. "[Retaining employees] starts with company culture because ultimately people work where they enjoy their experience," says Peck.

"We operate a very decentralized company where we empower our general managers to play a significant role in carrying out the company mission at each of the properties," he says, adding that feedback is critical in retaining qualified employees.

Looking for a 'prom queen' Two and three years ago, Wall Street bought into the hotel industry with the anticipation of high returns. When the industry did not deliver the high returns, Wall Street cooled its hotel heels. In the next few years, in order for the hotel industry to get the type of interest it needs for funding, it will need to better explain its investment potential.

"The hotel industry isn't a go-go industry," says Hercher. "Wall Street has turned its back on hotels because it's not a growth industry, but the industry hasn't taken the responsibility for saying what it is and how it adds value to investors. Wall Street is always chasing the prettiest girl; it doesn't take a lot of time to seek out wallflowers and discover what's interesting and attractive about them. [Wall Street] is always looking for the prom queen."

Right now supply is thriving in the industry, and Robert Mandelbaum of Atlanta-based PKF Consulting says that the hotel industry has handled the influx of supply nicely. Even though this oversupply has frightened investors, the industry should land firmly on its feet.

"With the assumption that the economy remains healthy, we're not seeing a major downtown," says Mandelbaum. "We're seeing a flattening. What has happened [in the industry] is that the supply side of the equation is curtailed a bit. Eventually, the pace of new hotel construction will just start to slow down, which will allow the market to catch up.

"Demand will outpace supply growth, you'll see a rise in occupancies, and hopefully another period of increased profitabilities.

"In my opinion, in the 1990s, we've handled the increase of supply much better," he adds. "And we've seen a very profitable decade."

Only time will tell how the future will pan out for hotels. Most say it looks bright, and as cycles go, hotels are on track. For right now, hotels are focused on a technologically advanced future where they are understood by investors, appreciated for their economic value and an easier nut to crack.