Hotel Building Q&A: Part 2 – Trends in Construction

12 min read

This month, EquityRoots had the opportunity to sit down with hotel construction builder, Neil Kumar of KCM, Inc.  We’ve had a lot of our readers ask us questions about the construction process, and we hope this 2 part Q&A sheds some light on some of the in’s and out’s of hotel construction! (For part 1 on hiring labor practices and value engineering, click here).

If you have more questions about hotel construction, hotel crowdfunding, or the hotel industry in general, visit our contact us page!

Okay. Moving on to construction trends – why are 4-story models in hotel construction really popular?

NK: So, hotels typically choose between using wood or steel for their structural skeleton. Steel is a bit heavier, and needs additional support. With a four story construction, you can build a solid structure out of wood without needing that additional support. Historically, that would save on building costs tremendously.

Most building codes will allow you to do wood construction up to five stories. The issue is that depending on where you are building, because some cities won’t let you do five stories of wood construction. For example, Austin, TX and Schaumburg, IL are both cities that do not allow more than four story wood construction, unless you’re using fire-treated lumber, which can often be more expensive than steel.. If you go a little further out west in Illinois though, you have DeKalb which does allow five story wood buildings.

Ah – so there isn’t a set national standard for wood buildings? Is it just whatever each city decides?

NK: The general decision for each city is between four or five stories as the limit. The main reason that most people do wood for four stories is because wood construction has traditionally been the most cost effective of all the construction types. Structurally speaking, there is no difference between wood studs and steel studs.  But some cities do not want to take the risk for many reasons – one of them being fire safety.

So between wood and steel, is there a clear preference among builders? Is the steel worth that investment despite wood being less expensive?

NK: So how we approach that is changing from what has traditionally been done. So again, structurally speaking, there is no difference between wood studs and steel studs, but steel studs were say – twice as expensive as wood studs. Recently, that difference in price has decreased. The cost difference was 100%, then 50%, then 25%, up until today. Today, the steel and wood studs are almost identically priced. The cost of lumber has been going up, while metal has kept its rate of increase under more control.

Is there any particular reason why lumber would be going up so fast? Is it just higher demand, shorter supply, etc?

NK: A lot of our lumber does come from Canada, and because there is discussion of more tariffs to Canada, the increased costs of lumber reflect that.

So are we seeing the trend towards building more steel buildings now?

NK: When you go to Texas, for instance since I know that market, the move towards steel studs is almost one hundred percent from wood. If the price is similar, developers like steel because steel is non-combustible.

So when you talk about a steel structure, you have to take into account those non-combustible benefits. Your insurance goes down for the steel building even compared to fire resistant wood, which I know some buildings are using now. But there is no comparison in terms of steel being much safer. The fire marshall can tell you that.

Steel also happens to be sustainable, since all the metal studs can be made from recycled metal. You can attach value to a steel building for being more environmentally sound.

If you look the next ten years worth of savings for that insurance. It’ll be significant. When you get into selling hotels in your exit strategy, you’ll also have an added benefit. Many owners of hotels don’t stop building with just one hotel. A lot of larger owners have five or six or seven or eight hotels in their portfolio. So imagine selling all those hotels in that portfolio, and having the benefit that all the hotels in that portfolio are non-combustible. That’s hugely attractive to investment groups. Some of those investment groups might have buying policy that looks for non-combustibles as a characteristic of their investment because of their safety. So that opens the investment up to a specific class of institutional buyers.

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Got it. So let’s say you build with steel then. How does that change the construction process of the hotel?

NK: So what happens when you change from wood to steel studs is that you know need to have a concrete foundation on each floor. You’ll need a metal deck on every floor to support that concrete. You’ll need a steel staircase instead of a wood staircase.

So naturally, all this is going to add up. The weight is going to be a little higher due to the floors, not because of the studs, but because our foundations are going to be slightly different. They’re likely to be a little more expensive since you need to support that weight of the floors.

Of course, one side benefit of those steel floors is that the floors don’t squeak. With a wood building, there is a chance that as the building ages the floor will start squeaking. If you have a Hampton Inn, let’s say, there might be a product satisfaction guarantee. If the customer calls and says “hey, my floor is squeaking so I couldn’t sleep,” you might have to refund that customer. This doesn’t happen often, but it is something to be aware of.

Another one of our readers asks: “Are there any prefabricated hotel models that you’ve personally worked with or seen?” Maybe Modular construction or paneling?

Visit our article on modular construction for more information!

NK: Paneling we do all the time, but modular our team doesn’t do too much since most cities don’t allow it. Or to be more precise, a lot of bigger cities that we’ve worked with don’t allow modular construction where you can bring in whole pre-fabricated rooms and bring them in to be assembled on site. We can do modular constructions in very rural areas where there’s absolutely no presence of a city.

Why is that?

So there’s a lot of inspection-related things. Many cities are not comfortable with installing electrical or pipes in a pre-fabricated room and just bring it into the site. They want to make sure a license individual has done that work on-site, you know? So a lot of it is city code again. They want to make sure that the job is done properly, particularly for those more intensive components like pipes.

So what is the difference between modular construction and paneling then? You said your team does a paneling all the time.

NK: So paneling refers to mostly wood paneling and steel stud paneling. In other words, the walls for the skeleton of the building can still be built in pieces – panels – like Lego pieces in a manufacturing environment and you can bring all those pieces and tag them together.   So it’s very similar to modular building except you are dealing mainly with the skeleton as opposed to entire rooms.

One question we received is, what is the cost difference to build a hotel compared to a condo or apartment in terms of square footage?

NK: So let’s say you’re a real estate investor trying to decide whether to go into the hotel asset class or an alternative real estate investment, such as a condo or apartment. Those are quite different from each other. I suppose the most fair comparison would be comparing that condo or apartment to an extended-stay type hotel where you have that kitchen and is set up more traditionally like an apartment.

Generally speaking, apartment buildings are built with wood construction. So we could compare it to a wood construction hotel, but the dollar per sqaure foot would be almost identical.  But let’s say you have both a three story wood-frame apartment and a three story wood-frame hotel. Let’s make that assumption. And stretch the imagination to make a fairer comparison – say that both buildings are 100 rooms. One 100-room apartment, and one 100-room hotel. If you talk about dollar per room, you will see that the cost per apartment is much higher because the in the apartment there is still more variability in the rooms. You have a living room, the bedroom, and entrance area, closets – and a lot of apartments have two bedroom and two bathroom setups. With hotels, most of the rooms look the same, or at least are very similar. All the rooms share the same entrance; all the hotel rooms share the same facilities.

I think the better way to look at it is the potential for revenue. So for example, let’s say in Schaumburg you have a two bedroom, two bath apartment renting at $2,100 a month. That’s about $70 a day to rent out those two bedrooms. Yet with the hotel, you might be earning far more than that $70 a day with one hotel room – and the reality is that your hotel has far more than just one or two available rooms each night.

You’re pulling in guests at a much higher rate. That’s where real estate investors should focus. The question of development cost is important, but you also need to look at what the profit margins are. How much money are you spending on an apartment versus a section of a hotel, and how much are you pulling in?

I see. So why are multifamily and apartment investments still so popular compared to hotels?

NK: I think a lot of people do what they are comfortable with, and I also think that the ability for investors to invest in something like a hotel wasn’t really an option until recently. The barrier to entry to get a hotel has been very high- too high for many people. So they may not even have had the option to invest in a hotel until firms like yours have come online and democratized the playing field.

Anything else you want to add that readers might want to know?

NK: I’m very excited about this EquityRoots project that we are currently working on in Schaumburg. We haven’t done anything like this before in a crowdfunding kind of a situation. If this develops successfully, it’ll truly be magical, because I’ve never seen a hotel developed like this before. It could really mean many more crowdfunded hotels across the nation in the future and really catalyze a new trend in investment.

For part 1 of our Q&A series, Neil addresses how his team hires labor for projects, as well as value engineering!

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Hotel Building Q&A: Part 1 – Skilled Labor and Value Engineering

12 min read

This month, EquityRoots had the opportunity to sit down with hotel construction builder, Neil Kumar of Kumar Construction Management. We’ve had a lot of our readers ask us questions about the construction process, and we hope this 2 part Q&A sheds some light on all the in’s and out’s of hotel construction! (For part 2, click here).

If you have more questions about hotel construction, hotel crowdfunding, or the hotel industry in general, visit our contact us page!

Hotel Construction

What is your general role in the development of a hotel?

NK: As a hotel construction builder, my role is to manage the construction of the site from start to finish — all the way from removing topsoil to receiving the final occupancy permits. I’m involved with hiring people with the right kind of experience for the site excavation, concrete foundation, structural work, interior and exterior finishes, and general site work. I also help coordinate the installation of furniture (which we refer to as FF&E: furniture, fixtures, and equipment), and hotel opening. There are a lot of moving pieces, and I always have to think at least 3 months ahead of everyone else to do each job effectively.  

One of our readers asks: Is the availability of skilled labor challenging?

NK: In construction, it always seems like when there is a lot of labor available there are no projects, and when there is no labor available there is a surplus of projects.

With finding the right fit for skilled labor, we always prefer local, but sometimes we do have to look beyond the direct area of the regional site. Sometimes my team looks further south, in South Indiana, Missouri, Kentucky, or even Texas to find our labor pool. But yes – we always prefer local. If the pricing is right, we always prefer working with local crews who know the area.

What are some of the characteristics that you look for in hiring?

NK: The two big things are experience and commitment. Our team sits with every prospective person we hire and examines their previous projects. You have to make sure they have the capacity to handle the project you want to hire them for, of course. How many workers do their teams have available?

But we don’t end there. The bottom line is that you always want to have a plan A and plan B. I always have backup crews ready to go in the case of an emergency. It’s a way of using competition to ensure that we hire only the best teams that are motivated to do the job.

Let’s say we hire a local plumber, for example. They have to be within our budget. But we also introduce them to a plumber from Texas – one that has done work for us in the past. We have the plumber from Texas join us at our current site and work with our local plumber.

The reality is that we want to communicate the message that although we choose to work with one person, we always have a plan B. And a plan C and D, to be honest. It’s always great when the first team or group you work with are excellent, but especially with larger projects, you cannot afford to take any chances.

One last thing is that our team doesn’t negotiate too much on price. If our budget is 350K, and a prospective group’s price is 700K, then we choose not to negotiate, because it is likely that we will have to negotiate with that group at every turn. You want people who are reasonably priced for your project from the very first shot.

What is reasonably priced? How do you determine what is reasonable?

NK: “Reasonably priced” is always a moving target. The cost of buying “x” 10 years ago is different than how much the cost is today. I wish there was a written published method, but the reality is determining what is reasonable has a lot to do with 1) experience, experience, experience, and 2) hard work, hard work, hard work. There is no magic answer. You can look at the past projects you have done as a data point. Of course, every site is different so you have to be able to think on your feet and adapt quickly.

For every project, our team has to finish the plans first. From there, you have to go out there and talk to the people who are building real projects and get the prices out there. We insist on meeting the people we work with in person.

In our experience, the biggest hotel development issues come up when we bring in people who are the wrong fit for our projects. If you know the market price for plumbing might be $8,000 a room or $10,000 a room, it is suspicious to also sign a contract for $4,000 a room. $7,500 a room sounds closer to the right price, and we figure that we can still attain a number like $7,500 through effective win-win negotiations and disciplined value engineering.

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What is value engineering?

NK: Value engineering is a method and process of thinking about how to make the construction as cost-effective as possible without sacrificing quality. Our team has to consider the cost of materials, labor, but also construction schedule.

There are many ways to create a building’s foundation, for instance. Depending on the market, we might consider using CMU blocks for our wall foundation as opposed to concrete poured stem walls.  Building a hotel in Chicago with masonry may not be as wise a decision because in Chicago, the costs for that masonry are quite high, and it takes significantly longer than just putting up a concrete wall. The fact that Chicago has several months of snow play a role in what makes the most sense construction wise. It is possible to build during the winter, but of course additional accommodations have to be made to account for the inclement weather. If we were further south in the U.S., masonry is the way to go. The vast majority of plans for developments further south will show masonry wall for the foundation.

Of course we do still see projects with masonry in the Chicagoland area, but it comes down to each individual project and how you think that masonry will actually benefit or detract from the success of your development.

Is that because of climate, supply, etc?

NK: Supply and demand. Masonry charges around $3-4 dollars a block in previous projects I’ve done in Texas. In the upper midwest Chicagoland area, I’ve seen that price go up to $70 per block.

But you have to look at the project holistically. If you spend too much money on one area, that means that you naturally have a smaller budget for other items. You have to prioritize which items are worth spending a little more on, and which job roles are worth spending a little more one.  If you look at all the items in construction, you have to identify what your top priority items are that control the quality and the schedule of the project and you give it to the top guys and then you can decide on other things that aren’t as core to your development. Especially with very schedule sensitive projects that are visible, you can’t afford to risk hiring the wrong person. Again – it comes back to hiring the right people.

For particularly sensitive projects, we might price the project a little higher, for instance. Sometimes it is worth hiring subcontractors that have a slightly larger overhead, and even though the cost to work with them is a little higher, working with them may be smoother because they are likely to produce people who can work faster, produce shop drawings faster, and can answer telephone calls properly, promptly, and professionally.

For part 2 of our Q&A series, Neil addresses trends in construction, why 4-story hotels are popular in construction, and modular/paneling methods!

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Keeping Chicago Competitive: The Hotel Supply Wave

4 min read

A Wave of Supply

Chicago’s hotel market is preparing for a supply wave. In the next few years, the Windy City expects to add an additional 12,000 to 13,000 new hotel rooms to its arsenal. To many, this isn’t shocking news. Hotel developers and operators in Chicago have enjoyed a steady climb in RevPAR since 2009. However, in 2016, we saw Chicago’s first decline in RevPAR in 6 years, a sign which some say is reason to worry about the incoming hotel room supply.

Market consultants and policymakers point to a potential oversupply problem as the source of their worries.  Under basic supply-and-demand principles, these critics essentially say that if there are too many hotel rooms in a market, then the price of each hotel room in that market will, on average, decrease.  There will be more hotel rooms than Chicago needs to accommodate its visitors and with more hotel rooms than hotel guests, the argument is that each hotel will get a smaller piece of the pie. We believe that these claims are blown out of proportion and fail to acknowledge any of the upside. While the argument is fairly simple and logical, the critics are erroneously oversimplifying the market and overlooking the micro and macroeconomic consequences. Our business team at EquityRoots wants to make sure investors and hotel owners are not oversimplifying Chicago’s market and then making assumptions on those generalities.

Keeping Chicago Competitive: The Hotel Supply Wave

A robust supply of hotels are critical in establishing continued economic growth in Chicago.

Other regions in the United States outside of Chicagoland (San Antonio, New York, and Seattle, to name a few) have similarly seen the development of new hotels in their respective markets. These brand new hotels attract additional business and travel, and keep their cities competitive in the hospitality market. Cities that fail to upkeep their hotel inventory can lose out on significant business opportunities and city revenue. This includes Chicago, which stands to lose much ground to other established and on-the-rise metropolitan areas. If Chicago wants to remain a world-class city that is capable of handling large conventions and attracting major corporations to set up shop, it needs to keep things fresh with updated hotel products.

The Chicken, or the Egg?

If you’ve been watching Netflix recently, you might have stumbled upon “The Founder,” which takes a look at the entrepreneur Ray Kroc and his role in making McDonald’s a worldwide brand. For Ray Kroc, business growth is a supply and demand issue. Which comes first, the chicken or the egg? Ray Kroc believed that new supply attracts new demand, building the McDonald’s restaurant empire on this theory.  

Likewise, EquityRoots.com believes that the threat of oversupply is overhyped, particularly for the newest hotels to enter Chicago’s market. While it is true that there will be more hotel rooms available in Chicago from a sheer numbers standpoint, the newest constructed hotels will drive others to improve. Newer hotels that are slated to open in Chicago – including a Cambria hotel in Chicago’s Loop and a dual-brand IHG hotels in Schaumburg – introduce updated and upscale venues with cutting-edge floorplans that appeal to old and new visitors to the city. Modern additions including rooftop venues, new technology, and newer beds are likely to attract the majority of incoming travelers, and this is a standard that corporate travelers have come to expect in other markets across the country. This means that the pressure falls to older hotels to reinvest and renovate, especially those that are 20 years old or more. For example, developers are already spending about $20 million to renovate the Talbott Hotel in the Gold Coast in order to keep the asset competitive. Other older Chicago hotels are also expected to renovate and update their rooms and designs to avoid the risk of becoming outdated. Chicago’s hotel room supply will continue to be updated.  Increased expenditure and capital improvements will ultimately raise an owner’s basis, driving rental rates higher to obtain the same return.  As a result, the entire market responds by increasing average daily rates.  The supply of total rooms will go up, but so will quality.  This gives all hotels the edge in competing for corporate and leisure travelers. As a whole, competition will drive up the quality of hotel services and products offered in Chicago, which lead to positive experiences and can encourage even more travelers to visit the Windy City and drive demand.

Moving forward, Chicago is expecting more travelers, which is great news since the number of conventions and meetings held last year in 2016 was atypically low for the Windy City. When you couple that with high-publicity events like the Chicago Cubs’ World Series win last year, EquityRoots.com expects that the future still remains bright for Chicago’s hotels.

 

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So, what caused the 2016 decline?

If it wasn’t primarily oversupply that pushed Chicago’s downward RevPAR dip in 2016, what was the source? Chicago is facing microeconomic issues.  For starters, the city’s current lodging supply is outdated compared to other cities.  It’s also worth noting that Chicago was in the running as a host city for the 2016 Summer Olympics. During the bidding process, corporate travelers shied away from booking in Chicago because the Olympics typically creates a lot of traffic, congestion, and delay in the way of a busy work/meeting schedule.  A number of conventions and businesses avoided booking travel to Chicago during the time frame that the 2016 Olympics would be occurring, opting to hold their conferences and meetings in other cities like Detroit, Indianapolis, Las Vegas, or Minneapolis.  When Chicago wasn’t awarded the 2016 Summer Olympics bid (which went to Rio de Janeiro), the city got a 1-2 punch. The city not only missed out on the opportunity to capitalize on a huge wave of tourism for the games, but also was hurt by the void of typical corporate travel avoiding the market. As 2017 and future years pose more typical operational years, we believe the hotel industry will continue to improve in Chicago.

Chicago needs to stay competitive to keep up with other leading primary markets in the United States, including New York and San Francisco.

Chicago needs to stay competitive to keep up with other leading primary markets in the United States, including New York and San Francisco.

Staying Competitive

Freezing free market activity and slowing down updated prototypes will push Chicago laps behind in a race against other cities. America and capitalism thrived on encouraging innovation and progress.  If Chicago were to halt new development for fear of oversupply, it will have comparatively lower quality lodging than other cities, which will make it more difficult to attract travelers and other demand drivers to come here in the first place. We are seeing incredible market strength in cities like Seattle, NYC, and Boston – cities that happen to offer the latest and greatest hotels and amenities.  Chicagoland needs to put pressure on the status quo, create pressure to improve, and bring in the latest and greatest facilities so that we can attract more businesses and travelers to come here.

Sources

Gallun, Alby. “Hotel market falters after six-year run.” Crain’s Chicago Business. Sept 26, 2017. 

Gallun, Alby. “Will the downtown hotel market bounce back in 2017?” Crain’s Chicago Business. Jan 30, 2017. 

Hoisington, Alicia. “Oversupply concerns loom over Chicago.” Hotel Management. Mar 6, 2017. 

Ori, Ryan. “Talbott Hotel to shut down for $20 million renovation.” Crain’s Chicago Business. Dec 8, 2016. 

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Recent Hotel Construction Spike

Equityroots, Equityroots Inc., Blog, Recent Hotel Construction Spike

Building new-construction real estate has traditionally been viewed as a risky endeavor. Lenders reflect this opinion with higher equity thresholds and more expensive interest rates. However, the recent trend in new commercial development gives us the evidence to rebut this opinion. There are investors and developers who strongly believe the rewards of developing new-construction hotels right now outweigh the risks.

Our legal and land-use experts have studied the real estate market and believe that new-construction hotel assets are the safest bets right now. Newer hotels often boast the latest designs and modern layouts which enhance guest experience. Not only do major hotel brands prefer to see their latest designs, they often protect it— offering area of protection and financial incentives to develop their latest prototype. Don’t forget to consider substantial cost savings in maintenance expenses and energy cost when you have a new-construction hotel asset.

New-construction hotels offer amenities that older hotel designs just can’t match. With the recession over and a strengthening economy ahead of us, business travelers are back in full force and traveling often. It is important to remember that corporate travelers are not price conscious first clients, meaning they don’t have a strict budget for overnight accommodations. Corporations don’t mind spending $15-20 more to keep their employees comfortable in a newer hotel.

New-construction hotels often become high priority targets for institutional investors like REITs and funds. Institutional investors demand the highest quality properties for long-term core holdings. Investing into real-estate that is also appealing for REITs often translates into a very handsome premium at time of disposition.

 

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