Travelodge, the second biggest operator of economy hotels in the UK, said this week that it is planning to more than treble the size of its estate by 2020.
These growth ambitions, which will see the company add on average 4,000 rooms a year, may run up against a natural ceiling for the segment long before the 70,000 room target is reached.
The established leader in the UK is Premier Travel Inn with close to 33,000 rooms compared to the 20,000 operated by Travelodge. PTI is also focused on growth, with plans to reach 45,000 rooms by 2011, although not all these will be in the UK.
According to figures from PTI’s parent, Whitbread, published at the end of last year, the next nearest challengers to the two economy hotel giants are Express with 101 hotels and 10,425 rooms and Ibis with 44 hotels and 5,924 rooms.
Other new entrants are also heading into the market including Accor’s Etap, Ramada Encore, Choice’s Sleep Inn and Hilton’s Garden Inn.
Whitbread estimates that the UK budget and economy sector accounts for 85,000 of the 800,000 UK hotel bedrooms, or about 11% of the total. PTI, the largest hotel brand in the UK, is 4% of the total.
Travelodge believes it alone can account for almost 10% of total UK hotel bedrooms. And while the case for a growing budget and economy segment can be made, it is hard to see how it can grow sufficiently to allow Travelodge to take this market share without consolidating existing branded budget and economy players.
Travelodge backed its forecast by citing a Boston Consulting Group study conducted in May 2006. This found that the UK branded budget and economy market segment had been growing at 10% per annum since 2000 to hit 77,000 rooms by the end of 2005.
The five largest chains grew at 9% per annum with Travelodge and Express the fastest growing at 11% and 12% respectively.
The experience of the US economy segment might prove salutary for the UK. The segment currently represents just less than 17% of US room supply, according to Smith Travel Research. This means that the UK, to reach the same proportion as the US, can grow another 50%, less than 50,000 rooms. Which means every new economy hotel room needs to be a Travelodge.
But the economy segment definition in the US excludes key brands such as Express, Hampton, Fairfield and Comfort. These four are all classified as mid scale without food and beverage, a segment which is both nearly as big as the economy segment and one that is growing fast.
Despite this, the Travelodge brand will struggle to stretch across both of these segments. It is firmly in the economy camp and faces an incumbent in PTI that is nearly half as big again as itself.
Grant Hearn, CEO of Travelodge, portrays the business as a retailer of sleep, citing Tesco, the UK’s largest retailer, as an example of how a single brand can grow to take a huge market share.
But Tesco has built its market share through operating a spectrum of shops, from hypermarkets to convenience stores. To buy into Hearn’s thesis, you have to believe that the Travelodge brand can be similarly stretched in the hotel context. Or is it more likely that the future Tesco of hotels will have a family of brands – such as Hilton, Accor or Marriott – that will serve particular market niches?
Travelodge does have some advantages. In particular, its readiness to take on leases means it can pursue sites that Whitbread and other listed operators are more likely to walk away from.
Profitability will be another issue entirely, however, both due to the aggressive rents Travelodge is paying and the existing land bank which PTI is still able to utilise which greatly enhances its own returns.
If the US experience is replicated in the UK, then the economy segment will begin to face problems as it nears saturation point. Accor, one of the largest operators of economy hotels in the US, found out to its cost that economy hotels do not defy economic laws and do suffer in recessions. Sometimes, they under perform other segments as well.
The weak valuation multiple given to Accor’s Red Roof disposal when compared to full service hotel sales was a clear demonstration of what the US market feels about the segment.
The sale of Red Roof earlier this year fetched just 11.2 times 2006 EBITDA compared to an expected 12 times and well below the 15 times plus that full-service hotels are going for.
Most worrying for economy hotel operators in the UK is the recent past performance of the segment in the US and the projected future. Last year, the segment saw room demand actually drop. Only mid scale with f&b did likewise. Revpar was similarly sluggish compared to other segments.
Forecasts for the years ahead, according to Lodging Econometrics, look equally gloomy with both room demand and revpar sluggish relative to other segments.
And the US experience is not unique. France, perhaps the only major country where branded economy hotels are established on a level comparable to the US, has also not seen a stellar performance by economy hotels, even if not quite as subdued as in the US.
Accor’s results for 2006 show that its economy hotels in France were the worst revpar performers of any major market (Italy was the exception) with the lowest average room rate Even Accor’s US hotels were marginally better both in revpar and room rate terms.
Overall, the evidence suggests that the potential for growth depends both on which geographic region and which segment is being discussed.
In the UK, there remains some growth in the economy segment but the returns are slowing as saturation comes closer. For those operators tiered just above the main economy hotel operators in the UK – in what the Americans call mid scale without f&b – there appears a significantly bigger chunk of growth still to come.
Elsewhere in Europe, excluding France, there appears much to play for across all segments below full-service mid market hotels.
*This week’s edition of HA Perspective Online is devoted to the economy and budget hotel segment. Today and tomorrow, Hotel Analyst is attending the Economy & Budget Hotels World at London’s Millennium Mayfair.