Hotel Classifications Demystified

Commercial real estate is an expansive and diverse industry. Each property has its own characteristics that differentiate it from the neighbor. We group asset types by a variety of criteria, which includes use and location at the highest level. However, it takes more to become an expert in hotel investing than just knowing the difference between a hotel and the rest of the commercial real estate asset classes.

The Big Four CRE asset classes – industrial, multi-family, retail, and office – comprise more than 90% of total CRE inventory. Hotels represent less than three percent. Still, the industry is big enough so that an investor can build a thriving hotel investing business by focusing on a small niche. First, learn the universe, then niche down.

Hotel positioning is all about aligning with guest needs and desires because that demand will fill your rooms. This brief guide will take you through four ways to classify a hotel:

  • Location
  • Property Type and Service Level
  • Chain Scale
  • Branding

Location

Real estate derives value first and foremost from location. The demand for your hotel comes from the local attractions located near your hotel. Existing and foreseeable demand in a community drives the decision to build a hotel, but communities change. Therefore, it’s important to constantly evaluate how a hotel meets the existing and emerging guest needs and desires.

Proximity to Demand

As mentioned, demand generators define a location. In many cases, these definitions are directly related to the major demand driver, like airport or university. In other cases, the definitions carry a broader consideration of multiple demand generators. The major location descriptors are:

  • Urban – located within a city with multiple business and leisure demand generators
  • Suburban – located outside of a city with fewer demand generators and potential to draft off those within the city
  • Highway – located at or near a highway interchange with demand from road-worn travelers and limited local business and leisure attractions
  • Airport – located at or near an airport with demand from airline crew, stranded passengers, and some business and leisure travelers
  • University – located near a university with primary demand driven by students, faculty, and research associated with the institution
  • Resort – located in a leisure destination with potential for some business group demand

Market Definition

Proximity to demand generators qualitatively define a market, while the depth and breadth of that demand provide quantitative descriptors. Market inventory and total revenue are the most common ways to quantitatively measure a market.

Most investors designate a market as primary, secondary, or tertiary based on diversity of demand generators and consistency of potential revenue. While all markets experience some degree of seasonality, primary markets have a more stable demand pattern.

Secondary and tertiary markets have fewer demand generators than a primary market. However, these markets accept spillover demand from primary markets when located nearby. For example, some may consider Fort Worth a secondary market to Dallas as a primary market.

These market definitions can be subjective and confusing, as a primary market for one investor could be a secondary market for another. In those cases, it’s most helpful to refer to an objective measure of market size.

Smith Travel Research publishes a list of top markets within their coverage area based on historical data and STR-defined market boundaries. Top 25 markets comprise almost a third of all hotel inventory and more than 40% of total revenue. While the actual boundaries are not too important, it’s helpful to track performance in these markets, as they have the most active lodging business in the country.

Property Type and Service Level

A great real estate project is three parts location and two parts product type. That is, you only maximize the location by aligning the location and product for the right guest. Room type, amenities, and service level are the three defining factors of a hotel structure. This balance is essential to become an expert in hotel investing.

Full Service

Full service describes hotels with a variety of on-property amenities. These often include a signature restaurant, bar, function space, spa, fitness center, business center, and sundries shop. They can be anywhere on the chain scales, but full service hotels are usually upscale, upper upscale, and luxury scale brands or independent equivalents.

Major brands include: Marriott, Hilton, Westin, Renaissance, Sheraton, Hyatt, Four Seasons

Resort

Resort describes hotels with a variety of on-property amenities designed to appeal to primarily leisure guests. These often include multiple food and beverage outlets, function space, spa, fitness center, business center, and gift shop. They can be anywhere on the chain scales, but resort hotels are usually upscale, upper upscale, and luxury scale brands or independent equivalents.

The major full service brands usually fit with a resort, but many resort-only brands have been emerging as strong competitors to the majors.

Select Service

Select service describes hotels with basic room accommodations and minimal amenities on-property. Amenities often include a small food and beverage outlet, limited meeting space, fitness center, business center, and sundries shop. They can be anywhere on the chain scales, but select service hotels are usually midscale, upper midscale, and upscale brands or independent equivalents.

Major brands include: Courtyard, Hyatt Place, Hilton Garden Inn, Cambria

Limited Service

Limited service describes hotels with basic room accommodations and minimal amenities on-property. Amenities often include complimentary breakfast, a fitness center, and business center. They can be anywhere on the chain scales, but limited service hotels are usually economy scale, midscale, and upper midscale brands or independent equivalents.

Major brands include: Hampton, Fairfield, Comfort Inn, Red Roof Inn, Best Western

Extended Stay

Extended stay describes hotels with room accommodations and amenities designed like an apartment for long occupancy periods. These often include large rooms with kitchenettes, limited food and beverage, fitness center, business center, and sundries shop. They can be anywhere on the chain scales, but extended stay hotels are usually economy, midscale, upper midscale, and upscale brands or independent equivalents.

Major brands include: Residence Inn, Homewood Suites, Extended Stay America

Chain Scale

Chain Scales slot brands into a peer group based on global average daily rates. Smith Travel Research produces the annual ranking of brands. They are: Luxury, Upper Upscale, Upscale, Upper Midscale, Midscale, and Economy.

2024 Chain Scales: https://str.com/sites/default/files/STR-Chain-Scales-2024-January_0.xlsx

The law of large numbers is important when it comes to chain scales. That is, brands with many hotels will fit nicer into their chain scale, while emerging brands take some time to find a niche.

Quality is also an important consideration. Unaffiliated companies own and operate most major branded hotels rather than the brand themselves. Brands use guest surveys and quality assurance tours to maintain brand-wide quality standards. Still, there are always cases where an individual hotel doesn’t quite line up with the rest of the system.

Branding

The modern hotel deal structure is divided among three major stakeholders – owner, operator, and brand. Each has a different role in the financing, operations, and marketing of the property, respectively. Some organizations represent multiple stakeholders. However, as mentioned previously, the brand is most often separate from the other two and governed by a third-party license agreement.

Major Brands

Hotel brands are primarily sales and marketing companies. They maintain and enforce a set of quality standards to remain in the system, and they promote the brand through advertising and guest loyalty programs.

The brand that you see on a hotel – also known as the “flag” – is typically part of a bigger parent company that supports a variety of brands. The biggest parent companies are Marriott International, Hilton Worldwide, Hyatt, Choice Hotels International, Wyndham Worldwide, and Accor Company.

Guest Alignment

Hotel branding parent companies seek to curate a set of brands that align with the guests that they know best to serve. For example, Choice Hotels International knows the budget conscious traveler better than many of its competitors. It’s major brands – Comfort and Quality – have been building guest loyalty for years. A move outside of this specialty requires tremendous resources to retool marketing and loyalty efforts.

Guest alignment is critical when programming a hotel in a given location. As a real asset, you can make many changes to a hotel, but you can’t change the location. Therefore, it’s important to understand local demand generators, and align your branding to fit your target guest.

Visit many hotels on your path to become an expert in hotel investing. This is the best way to understand the quality standards and target guest for each brand. You’ll get more comfortable with identifying dominant brands within a segment the more properties and deals you look at.

Independent Hotels

Investors are leaving major brands as they realize that a hotel with scale can perform the similar sales and marketing functions as a major brand. Online travel agencies (OTAs) and review sites are making it easier for a hotel to build a tribe of loyal guest. Still, it is important to realize that independent does not equate to unbranded.

Competition for your share of a guest’s wallet is fierce. Independent hotels directly invest more in traditional and digital marketing at the property level than a branded hotel. The hope and expectation is that this targeted approach will result in greater revenue and lower costs.

Conclusion

The right hotel branding and positioning is critical to consistently fill rooms with high rated business. A firm understanding of various aspects of the hotel industry, and an intensive focus on a niche is key to become an expert in hotel investing.

Hotel investing is both interesting and difficult because of the operational aspects. It requires experience, research, and vision to maximize the potential revenue of a hotel property.

Narrow your search to build an institutional hotel pipeline that will optimize your strategy.