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Posted: 12 Jul 2009 | 11:29 am
Space ran tight in this weeks Phuket Gazette and the Condohotel story in my Property Watch Column had to be edited in size. Considering the relevant nature of the subject here is a copy of the story in full....
Condohotels Growing Old Gracefully?
The old adage that there are only two things in life you can be sure of, death and taxes rings incredibly true. Despite a relatively recent boom market for real estate on the island there are many existing projects now moving on in age in the region of 10-15 years old. While in dog years this for the most part exceeds a life and death cycle, in property that precepts along the lines of long term stability and value it's but a blip on the computer screen.
From the existing purchasers pool of owners in Phuket there are two distinct grouping being either those end users who reside full time, or part term in their units and those who bought for investment viewing a combination of capital appreciation and rental yields. The picture blurs though when you see an increasing amount firmly planting a foot in both camps and shift investment strategies depending on evolving life situations and financial necessities.
More recently we've seen hotel managed products which offer short term rental guarantees, letting returns and usage by owners. With the increasing softening of the market more and more pure residential projects have turned to offering these type of schemes in order to differentiate their product and spur sales, while installing hotel management companies or developer management.
At the same time we now are starting to see projects which have operated for a number of years as condohotels being hit but an increasing number of new hotels, with shrinking demand, they have not continued to modernize nor invest back into the property and are quickly becoming uncompetitive. Fundamentally hotels as an asset class are capital intensive. While hotel management companies typically reserve 3% of revenue for replacement and capital work; typically over a 10 year period, the developers total expense ranges from 5-8% of total turnover that has to be plowed back into the property in order to maintain not only the asset but keep it viable in the marketplace.
Take a typical condohotel wherein a residential structure has been put in put together and one of the key touch points for owners is keeping maintenance and assessments at a reasonable level. Most projects have used the straight resico market to compare these fees and in reality estate management companies are continually under the gun to contain expenditure. For capital item the premise for residential with it's sinking fund is counteractive to the way hotels operate and as such reserving funds for replacement of furnitures, fixtures and equipment together with shared facilities and technology is more then often put onto the back burner given most owners do not reside in these properties full time and want the lowest possible out of pocket spend.
All is all it's a recipe for disaster, and the impact is now being felt at many condo and apartment projects here. What might have passed as suitable hotel fit out furniture packages in an undersupplied market is not applicable today, and capital infrastructure which is expensive to upgrade cannot be covered by maintenance fees or sinking funds. Hotel information technology is another key component and we see new reservations and front and back office software being used and updated in a similar style to how often consumers change mobile phones.
So where does the money come from? The reality of condohotels is that hotel management acts as an agency set up whereas and they operate, employ and essentially do all work on behalf of the owner/s. In most cases there is limited financial downside and operators endeavor to perform though fees coming from a combination of revenue and bottom line gross operating profit. So once a developer has sold off a project and exited, it's up to the group of unit owners to fund capital infusions, operating cashflow including losses and upgrade the property for the life of the project.
We now are seeing residential projects which want to convert to hotel operations that are not geared to this. They lack specific equipment such as hotel computers, vehicles, back of the house and service areas. More importantly is that the expectation of many is that once you sign a hotel brand that customers starting showing up immediately with no financial investment. . Hotels take time to gear sales and marketing, for new projects in most cases this is done 6 months to a year in advance and with considerable expense. For conversions, property owners need to dip into their pockets and retro fit standard furniture packages, operating equipment and provide working capital along with sales and marketing money. It's not an investment in their units, it's a yield based investment in order to spur rental returns.
More interesting is when you try to marry the two different sets of owners in a project who have entirely different objectives. The ones who live or reside there part time want to contain ongoing fees or additional investment; while the second group who look to returns need to view rentals with growing significance. Disputes arise and we are aware of more then one project on the island which has been paralyzed by ongoing differences of option that ultimately has seen capital appreciation decline along with resale market potential.
None of these are issues which are going to go anywhere soon and will continue to provide content for this column over the near future without a doubt. It's important to understand and work with estate management companies and hotel operators in order to ensure long term capital budgets and forecasts are prepared. Yardsticks of performance continue to be there, but there is no practical approach to thinking if you buy into a lifestyle property that revenue will always cover costs. Upside and downside risk always are present in any investment and truly for fundamentals capital appreciation growth is the best objective of any property owner.
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