Once a grand experiment, hotel franchising has proven to be a winning business model.
By Nick Fortuna
In the mid-1950S, when Howard Johnson and Holiday Inn spearheaded the movement toward hotel franchising, few could have predicted that the experimental business model would enjoy such enduring success. Today, franchisees own about half of the hotels in the United States, and industry experts expect the business model to continue to benefit both franchisor and franchisee in the long term.
“I think the future of franchising is very bright,” said Rajiv Trivedi, executive vice president and chief development officer for La Quinta. “Who would have thought that 40 years ago, when one or two brand names were prominent, that almost everything today would be franchised?
“A hotel that has a franchise brand name generally has a higher valuation than a hotel that is independently operated, unless it is a boutique hotel in a highly desirable location. Franchised hotels generally produce higher revenue and higher margins than non-franchised hotels as well. And in most cases, to get financing to build a hotel, you have to have a franchise brand, and that tells you that the future of franchising is exceptionally bright for both the franchisee and the franchisor.”
Through the second quarter of 2016, La Quinta had 889 open hotels in the United States, 11 more than in the corresponding quarter of 2015, Trivedi said. Of those, 553 were franchised, 335 were company-owned and one was a joint venture.
The business model allows the franchisor to expand its business without incurring the considerable costs of opening and running a hotel, and the franchisee gets to buy into an established brand with a wealth of resources to help hoteliers. It’s a win-win. But franchising wasn’t always so commonplace.
According to the American Hotel and Lodging Association, Howard Johnson became the first U.S. company to franchise a hotel, a motor lodge in Savannah, Georgia, in 1954. By 1961, when the company went public, there were 88 franchised Howard Johnson motor lodges in 32 states and the Bahamas. Holiday Inn quickly followed suit, franchising its first hotel in 1957 and eventually opening its 1,000th hotel in San Antonio in 1968.
“I think the model works and is very successful, and that’s evidenced by the rapid growth,” said Scott Joslove, president and CEO of the Texas Hotel and Lodging Association.
“Initially, hotels were very closely connected, with small ownership groups. The individuals who owned the brand, owned the hotels. As success became more formulaic, hotel brands realized there would be a market for franchises: Use our model, follow our rules, and you too can have a career and a successful investment. The model has been so successful that many hotel brands that used to be exclusively brand-owned are now almost exclusively franchisee-owned, and those that retain ownership have a very active and growing franchise presence.”
Recipe for success
Joslove said the most successful hotel franchisors have several key attributes to brag about: a higher profit margin for participants, lower entry and ongoing participation costs, reasonable brand standard requirements for new and conversion properties, a strong support staff and problem-solving system for franchisees, and strong booking, reservation and customer-loyalty programs.
“It comes down to, what is your elevator pitch?” Joslove said. “Franchisors who do well have a good elevator pitch on each of these items: ‘If you come with us, we’re going to make you more money, it’s going to cost you less to come over, our standards are reasonable, we’re going to take care of you – when we have a relationship, we take care of our own. And you’re going to find our booking system can’t be beat, and with our customer-loyalty program, people will be coming back.’ Those brands that are successful have a winning argument on each of those issues.”
Successful franchisors build strong relationships with state and regional hotel associations, have representation at trade shows and conferences, sponsor industry events, advertise in industry publications, send mailings and annual reports to franchisees and host brand conferences at which they reinforce their key data points.
It might sound like preaching to the choir to sell your brand to existing franchisees at your own brand conference, but as Joslove said, “Don’t ever assume they won’t be thinking about changing brands when their time is up.” Just as the key to a good marriage is to never stop courting your spouse, successful franchisors work to keep their franchisees.
Julienne Smith, senior vice president for real estate and development at Hyatt Hotels Corp., which began franchising in 2005, said the key to being a successful franchisor is simple: “choosing great locations with great partners.”
“You can’t choose a C location and say, ‘Build it, and they will come,’” she said. “You have to be close to the mix, close to the demand generators like a hospital or university, close to support amenities like restaurants and entertainment venues. We want to be the most preferred hotel company among our hotel owners, associates and guests, so our franchisees need to share those values in order for us to agree to franchise to them.”
And newbies need not apply. Smith said potential Hyatt franchisees can’t be first-time hotel operators. They have to have successful hotels in their portfolio, with strong guest-satisfaction scores and a high level of employee retention. Potential franchisees whose hotels are a tier below the high-end Hyatt hotels may be considered, but only if their performance in that tier is stellar and they have the corporate infrastructure in place to handle additional hotels, she said.
“It’s about the quality of their existing portfolio,” she said. “If they’re in a different tier and they’re not the best in class, then that stretch wouldn’t make sense for us. We have worked with groups that are stretching to the next tier, but we were comfortable doing that because they operated with such excellence with their existing portfolio. That gives us comfort that they already have cut their teeth on other brands and have been successful there, so it’s not a leap of faith that they’ll be successful with Hyatt as well.”
Vetting the franchisor
Just as the hotel brand should select its franchisees carefully, hoteliers should perform due diligence on hotel brands. A careful perusal of the franchise disclosure agreement, noting any litigation, especially involving franchisees, is paramount, Smith said. Hoteliers also should note whether a hotel brand owns any of its hotels outright or in joint ventures since a company investing in its own brand shows a belief in and a commitment to the product, she said.
Hoteliers should examine whether a hotel brand is growing from within, with existing franchisees opening up more hotels, Trivedi said. He said more than half of La Quinta’s franchise agreements are with existing franchisees, which shows that those hoteliers are enjoying success.
And just like you would with any job applicant, check references. Trivedi said La Quinta provides prospective franchisees with a directory of its hoteliers and encourages them to call existing franchisees and ask about their experience with La Quinta. The company has a clause in its franchise agreement that allows the hotelier to get out of the agreement if the brand or property is performing especially poorly, which gives La Quinta skin in the game.
“I believe that your franchisee tells a better story about you than any franchisor can tell about itself,” he said. “The best way to win one’s attention is to get recommendations from a peer, another franchisee telling him that he’s making the right decision. There is no better way to promote a franchise program than word of mouth. Franchisors are going to be successful if franchisees go tell other franchisees that they’re happy.”
Smith said that since Hyatt began franchising in 2005, the business model has remained fairly consistent, with a boilerplate franchise agreement serving as a baseline. However, each deal is judged on its own merit, so the company will do straight franchising agreements, joint ventures and will manage hotels for groups that don’t have management infrastructure.
The more hotels a hotelier owns, the greater his bargaining power when negotiating or renegotiating a franchise agreement, and if the hotel is in an especially choice location, franchisees may be able to negotiate reduced royalty fees or even capital investment from the hotel brand, Smith said.
“Whatever the developer is in need of from Hyatt, we try to bridge that gap,” Smith said. “We’re very nimble in how we get deals done. It really runs the gamut depending on what the particular deal might merit.”
“The franchise model is now more of an actively negotiated instrument, with large ownership groups and advocacy groups asking for certain concessions on key items,” Joslove said. “There are more choices among brand franchises, and brands need to court franchisees to acquire and retain the franchise business they seek.”
A helping hand
For franchisors looking to set themselves apart from the rest, having support systems in place to help hoteliers is key. Trivedi said that within 90 days of a new hotel opening, La Quinta’s sales team performs a marketing blitz lasting 10 business days to help the new hotel ramp up and establish business relationships within the community. The company also promotes its new hotels to loyal customers through promotions and bonus points in its customer-loyalty program.
La Quinta encourages new franchisees to spend several weeks at one of its hotels to learn every aspect of managing the hotel, from housekeeping to front-office management and promotions. From the start of a franchise agreement through its termination, Hyatt and La Quinta franchisees have a support staff they can call for help in addressing problems.
Trivedi said franchised hotels have a leg up over independent hotels because brands provide franchisee training, customer-loyalty programs, booking channels, a higher negotiated rate with third-party travel websites, market research, marketing and operations expertise, and lower costs negotiated with vendors for products and services.
“There are so many benefits that the brand offers to the franchise partner that it gives them a tremendous opportunity to be successful,” he said. “An independent hotel would not be able to sustain the costs of these things on its own. Franchisors have become more focused on making sure that their franchisees are utilizing brand resources that can help them succeed. I have seen a franchisee go from one hotel to 20, 30 or 40 hotels, and they certainly attribute their success to what franchisors have offered him.”
One aspect of La Quinta’s franchise model that Trivedi said is especially appealing to franchisees is its brand council, or advisory board, which has 10 franchisee-elected hoteliers along with a comparable number of company executives and operations experts. The elected board members give franchisees a powerful voice within the company and have been instrumental in making changes to the company’s breakfast and amenities programs, among many other contributions, Trivedi said.
“We allow our franchise operators to elect their own representation to bring their thoughts and suggestions to this body through an elected member,” he said. “The board members work hand in hand in designing new programs, testing new programs, providing their thoughts on how we can make the brand better and promoting programs within the franchise community, leading to a much higher level of adoption of our programs. That is a key component of our continued success.”
Disrupting the marketplace
Though hotel franchising is here to stay, the business model does face several potential challenges. Among them is Airbnb, the online marketplace that allows users to rent out their homes to vacationers and charges a processing fee for the service. Airbnb, founded in 2008 in San Francisco, has more than 2 million listings in 34,000 cities and 191 countries, according to the company’s website.
Still, the company’s effect on hotels seems to be minimal thus far, Smith said.
“Many companies are saying that this is a competitor to the hotel business, but we’re not seeing that yet,” Smith said. “There are a lot of markets where Airbnb is popular, but that’s really bringing travelers to that market who wouldn’t otherwise be there. Either they’re priced out or they’re groups who wouldn’t otherwise stay in a hotel. But Airbnb is so new, so we’re continuing to study it and keep our eye on it.”
In addition, Smith said many travelers feel safer in a hotel – which has security measures in place, must meet fire-safety and building codes, and be kept in pristine condition – than in a private home. The high-end business and leisure traveler that Hyatt caters to also still values the human connection and brand promise that Hyatt delivers, Smith said.
Another market disruptor is the host of third-party travel websites such as Orbitz, Expedia and Trivago, to name just a few of the key players in this highly competitive environment.
“They’ve been a disruptor for a while, but we also consider them to be a part of our mix,” Smith said. “There are people who are loyal to Expedia and Orbitz who are booking with us, so that’s a piece of the business that we can’t shun, but we are trying to capture that guest and make them a Hyatt-loyal guest.”
The web has made it increasingly important for hotel chains to provide a consistent customer experience at all of its properties, Trivedi said. Customer reviews, pictures of the hotel and rates are all available to consumers with a few clicks of a mouse, making it vital that each of a brand’s hotels adhere to the same high standards.
“Our industry has become so transparent that everything about your property is accessible to a consumer, so you have to be tremendously agile,” he said. “Also, search engines have become so dominant, so positioning of your hotels becomes tremendously important. Because of this technology and transparency, guests’ expectations are changing. Guests come in with certain expectations, so you need to make sure that your team is trained and equipped to meet or exceed those expectations.”
As for franchisors’ expectations, one thing is clear: The franchise model is the present and the future of the hotel industry.
“It’s grown because it’s mutually beneficial to operate under this system,” Joslove said. “Typically, there’s simply a higher ROI from franchising out than by operating your own hotels. It is here to stay for the vast majority of large-scale hotel brands. There is still room for boutique hotels and investor-owned and -operated assets, but they increasingly will be more of the exception.” ■