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By spending big even as it borrowed heavily, Strategic Hotels & Resorts appears to have survived the "AIG effect." An interview with Diane Morefield, CFO, Strategic Hotels & Resorts.
Marie Leone, CFO Magazine
November 1, 2010
Over the past two years, Diane Morefield has proven that she has the "REIT" stuff. As CFO of Strategic Hotels & Resorts, she navigates the complex financial waters of a publicly traded real estate investment trust focused on the high end of the hospitality market. It is a segment that thrives in good times but is inevitably among the first to feel the pain whenever things turn sour. Therefore, the past two years have been particularly excruciating — or should have been. In fact, while the company's stock price did plunge by 80%, it has rebounded strongly, and Morefield believes the best is yet to come. The 51-year-old CFO, a real estate veteran with an MBA from the University of Chicago, says that the company's model, in which roughly three dozen employees set and manage the strategy for a $733 million hotel empire, has been tested and proven by the recession. She explains why.
The recession certainly hasn't been easy for the hotel business. What proved to be your biggest challenge?
During the height of the crisis, we were very concerned about liquidity and, quite frankly, survival. One thing we did that proved critical was to become the first hospitality REIT to renegotiate our line of credit. We put in place a $400 million line in early 2009, secured by four of our hotels, and that gave us the liquidity we needed. Right now we have only about $40 million outstanding.
Did the stimulus spending benefit you in any way?
No, quite the opposite. I think some of the statements that the government made during the recession hurt hotels significantly, because they basically came out and said companies shouldn't hold group meetings or even stay at hotels or resorts. It was literally referred to as the "AIG effect." It hurt the entire industry and, ultimately, the average hotel worker, because if you're selling fewer rooms you're going to have to cut costs and that is going to hit housekeepers and busboys and bell captains.
The drop in business had quite an impact on your stock price, which has been notably volatile.
Financial-services firms are usually number one or two among our clientele, and that subset of our customer base dried up. Because we're in the high-end, luxury part of the market, we're probably going to be more volatile. When there is a downturn we tend to get hit harder, but we think our earnings are going to come back much faster and in more of a V shape because that's always been the trend during recoveries. That is why you saw our stock price go up several hundred percent. [Editor's note: the stock rebounded from a March 2009 low of 61 cents a share to a May 2010 high of $6.64, and was trading at $4.26 at press time.]
Strategic Hotels is structured as a REIT. What does that mean in terms of what entity actually owns the hotels?
We, and therefore our investors, own the hotels, and we hire [property] managers such as the Four Seasons, Ritz-Carlton, and other well-known brands to manage them. The only real advantage of being a REIT is that you don't pay corporate-level taxes, [but] on the other hand you are required to pay out virtually all of your earnings as dividends to your investors. [Also, a REIT] does offer an average individual investor the chance to own commercial real estate in an efficient investment vehicle. Another unique aspect is that many of the big hotel [brands] own some hotels and manage others, so they're kind of a hybrid. That means that we both partner with and compete against Hyatt, Marriott, and the others I mentioned, depending on the market. Fortunately, we have very strong relationships with them.
If companies including the Four Seasons and Ritz-Carlton are managing your hotels, what do you bring to the game?
Our core competency is asset management. That can take many forms — for example, revenue enhancement projects. We'll do market research and customer surveys and look for ways to expand revenue, such as adding wine bars to some properties. That's one recent project that has been successful. At the InterContinental Chicago, for example, we spent a couple million dollars and have seen nearly a 20% EBITDA yield based on 2009 results. We also expand properties by adding suites and rooms, and we try to be bold about that. We spent about $22 million at one hotel to add rooms and a high-end restaurant, in the middle of the recession, and we achieved a very high return on that investment.
In managing a portfolio of properties, do you try to hedge against regional downturns by spreading yourself around the globe?
We aren't focused on geographical diversity so much as being opportunistic and asset-specific. It has to be high-end luxury; we're not into commodity hotels. We own assets throughout Europe and North America. That said, we are exiting Europe and will be North America–focused going forward.
Why are you leaving Europe?
We own only three hotels there and two are under what's called a lease-hold structure, which differs from outright ownership. One reason is that we don't have a sufficient critical mass from a cost-benefit analysis. And the [general and administrative] costs associated with overseeing European hotels are pretty high — you need separate advisers to do your accounting, legal, and tax structuring, so it gets complicated. We're not saying we think Europe lacks attractive markets, but our strategy is to sell our properties there, pay down debt, and use our capital to fund growth here.
The expense of running a high-end hotel in any region must be significant.
It is, but even throughout the recession we spent money on our hotels to keep them in great physical condition. We think that will enhance earnings growth going into the recovery because we won't have to pump additional money into them to make up for not having spent. We have great assets in great markets, which creates a high barrier to entry.
To what degree does the real estate adage "location, location, location" apply to hotels?
That gets back to my comment about barriers to entry, which include the advantage of specific locations. For example, in Washington, D.C., we own the Four Seasons in Georgetown. Nobody could get a hotel built in Georgetown today, it would be impossible. There is no land, no chance of getting zoning approval, and so on. The same holds true for a lot of our beachfront hotels in California. And in Chicago we own the Intercontinental Hotel on Michigan Avenue, where there are no empty land sites. So that really enhances the long-term value of our hotels in that they are, in a very real sense, irreplaceable.
Are there hotel-specific metrics that you use to guide investment and cost-cutting decisions?
We track two measures closely. One is "RevPar," which is revenue-per-available-room. It's the multiplier of your occupancy and your average room rate, and we have the highest among any of our peers. That's proof that our model works. The other measurement is a third-party report from Smith Travel Research that tracks all metrics for hotels in each category, from resort to luxury to upscale, and so on. So in each of our markets we can compare ourselves against our competitors to make sure we are number one or two and getting [superior] market share. Everybody's revenues were down in the downturn, but the key is, are you still doing better than your competitors?