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Evaluating Your Return on Investment When Adding a Spa to a Hotel
There has been a lot of discussion lately regarding the idea of adding a spa to an existing hotel and how to determine if it is a worthwhile investment. Unfortunately, there is no simple solution and every property and market is unique. There are many things to consider before making the decision to freeze. First of all, it is important to find out the reasons why you want to start a spa. Next, you need to evaluate your market, competitors, current financials and projections to determine whether or not a spa is right for your property. Working with a spa and/or hotel consultant is an important step you need to take to help analyze viability, help with decision making, and design details, but this article will at least give you an idea of how to evaluate the feasibility of adding a spa to your hotel. This article discusses the reasons why a hotel should add a spa and the financial resources to support it.
First, it’s important to understand a few things about the spa industry. Diagonal Report’s 2010 US Spa Market Report estimated the spa market to be $15.5 billion in 2009. According to ISPA’s 2010 industry report, spa consumers visited 143 million 20,600 spas in the United States. While these numbers show a decline from last year (both reports have conflicting figures), we must remember that 2009 was a very different year than today. As the economy stabilizes and consumers become more aware of the benefits of spa treatments, these numbers are only expected to grow. Diagonal Reports points out that the spa industry will see a 1.5% increase in 2011, with most spas seeing more than 15% or more. The spa industry has grown by leaps and bounds since 1999, when there were only 4,140 spa businesses generating $4.2 billion across 4.2 million visits. If you associate the spa market with the leisure industry, it ranks 4th behind golf, health and racquet clubs and cruise lines. The reason I point this out is that an emerging trend in the spa world is to create synergies with other leisure industries, as mentioned above, which means that spas also account for a small percentage of the industry’s revenue. This is a trend that will only continue and club and hotel owners are taking notice in a big way.
It is also important to profile your customers to ensure that your customer demographics match that of the spa visitor. This information also varies by age, for example, some spa consumers are interested in alternative treatments, some in fitness and education, and some in just relaxation. As you can see, there is a lot to consider when determining your spa concept, and it is important to find a consultant who understands your guest and what they want. A spa for business travelers is very different from one for vacationing young professionals, baby boomers, and families (and yes, there is an emerging market for family spas). That said, according to Coyle Hospitality’s 2011 Consumer Priorities Survey, relaxation and stress management remain the top reasons consumers visit spas. And what is the main reason people vacation? Now you can see the correlation between the spa and the hotel, which is nothing new. At the end of the day, spas remain a luxury for the most part, as is vacation, and the two go hand in hand. Now to the point.
According to the July edition of Hotel Management, 2,951 new hotels and 354,100 new rooms are under construction as of Q1. Although there is no data that I can find, I think at least 70% of 4 star or better projects include spas. Why? It’s a really, really simple answer when you look at the reason why hotels build spas in the first place. You probably already know the disadvantages of a hotel without a spa, which is why you’re reading this. Let’s identify the benefits and why adding a spa would make sense. The most common disadvantage is that you will likely lose market share to your competitors who already have a spa, and you will likely discount your rooms to attract some of that market share. While you might argue that not every hotel booker wants a spa treatment, you also have to understand that a lot of people do. Even if your guests aren’t interested in a massage or facial, they can still enjoy your spa with non-treatment areas such as the sauna, steam rooms, and pool. This is also a huge advantage that hotel spas have over stand-alone spas or day spas. Traditionally, the spa industry refers to these areas as “non-profit space” because it is considered part of the amenity of guests receiving treatments. The same goes for hotels, but to improve your revPOR, you can charge your guests to use wet areas only, in some cases up to $75 per day.
Other reasons for a hotel to want to add a spa in addition to gaining market share or to avoid losing it to spa hotels include: First, you can increase your ADR because of your additional “strings” that improve your revPAR and revPOR. Another great benefit of adding a spa to your hotel is that you can start attracting local and repeat customers and increase your package sales and deals. This also allows you to generate income during the low season. This makes the spa’s revenue potential almost limitless in a receptive market with a good marketing strategy. So if you’ve kept up, you’ll gain market share, retain guests, increase your occupancy, increase your ADR sometimes by as much as 10%, and increase local business. Looks like you’re already ahead, right? It certainly makes sense on the surface, but there are many things to consider and evaluate. You need to do a feasibility study, competitive analysis and some consideration, then consider the finer details like how big the spa should be, what theme, what treatments, what products, etc. While these things are equally important and will determine the success or failure of a spa, the purpose of this article is to discuss the benefits and impact of adding a spa and how it can affect your bottom line.
Often, hoteliers tend to look at the spa as a single entity to determine whether or not it is profitable or a viable investment. Although it seems like common sense, deciding whether or not to add a spa isn’t always the best decision. Where the spa fits on your income statement also depends on how you structure the management of the spa (tenant, hotel owned and operated, hotel owned but managed by a management company, etc.). Spas are extremely labor intensive and you have to work hard to develop a steady stream of clients. According to a recent report published by STR Global, most hotel spas have a treatment room occupancy rate of 33%. There are many fixed labor costs, but most spa compensation models generate an incredible amount of variable labor costs. This makes COGS very high and profit margins very low. Another thing to keep in mind when owning a spa is that unlike a hotel room where you can only stay once a day, treatment rooms can have multiple visits per day. This is also important to consider when sizing your spa. There are also countless compensation models and cost structures to decide which one is most profitable for your business. Because of this, the reporting of spa profits alone becomes very complex and sensitive. The point is that a stand-alone spa is not a particularly attractive investment in most cases, unless it serves a unique and discerning niche, such as a health or specialty resort. Monte Zwang of Wellness Capital Management reported on the Nashville Day Spa Association’s Pro Knowledge Network that the average day spa has a net profit margin of just 4-15%.
Because of these few themes, you’ll have to look at the hotel spa differently to determine its value. This is best illustrated by an example. Suppose a hotel decides to build a moderately luxurious 6,000 square foot spa that costs $2,000,000. Your feasibility study projects that the spa will generate an additional $1,200,000 as a department. After unallocated operating expenses, the spa’s revenue is approximately $240,000. Obviously, your ROI seems to last a long time. But let’s look at it differently.
In the same example, suppose a hotel has 300 keys with an ADR of $150.00 and is operating at 70% occupancy with a revPAR of $64,695 and a revPOR of $253, including departmental incremental revenue. It has a total revenue of $19,408,623 and a net operating income of $6,573,664. The feasibility study estimates that the addition of the spa will increase occupancy by 5.7% and the hotel could increase its ADR by 10%. As the occupancy of the hotel increases, a similar increase in the revenues of other departments is expected. With this forecast and the addition of additional revenue from the new spa department, room revenue increases by 16.29% ($1,872,450) and total revenue by 22.47% ($4,360,834) before departmental costs and unallocated operating expenses. Net operating income improves by 19.11% ($1,256,328). When you analyze adding a spa in this way, you can see that the ROI is much higher and happens faster than if you were to evaluate the ROI based on just the spa’s 20% profit ($240,000). Include this in your capitalization rate and you can see how much your property has increased in value. For simplicity, see the summary below.
Gross: Excluding Spa – $19,408,628; With Spa – $23,769,456; Increase – $4,360,834 (22.47%)
NOI: Excluding Spa – $6,573,664; With Spa – $7,829,992; Increase – $1,256,328 (11/19)
Net profit: without spa – $4,351,377; With Spa – $5,153,389; Increase – $802,012 (18.43%)
RevPAR: w/o spa – $64,695; With Spa – $79,232; Increase – $14,537 (22.47%)
RevPOR: without spa – $253; With spa – $293; Increase – $40 (15.81%)
Occupancy: without spa – 70%; With spa – 74%
Average daily rate: without spa – $150; With Spa – $165
Some of you might think this is too good to be true, and you might be right. These projections are based on a feasibility study conducted in a market where it made sense to add a spa. Not all spas can make $1,200,000, and not all hotels can get away with increasing ADR, and each hotel’s costs are different. You need to relate this example to your situation. Having said that, let’s look at another example. If the same property did not increase their ADR, but improved their occupancy, they would increase their net profit by $561,397 and improve their net profit by 7.9%, still making the investment attractive. On the other hand, if the spa doesn’t make money ($0 revenue) and you don’t increase your ADR, your NOI will decrease by 3.1% and your net profit will decrease by 7.4%, which after spending $2,000,000 would not be the best situation. the opportunity cost of the investment. Another thing to look at is if the spa is not making money ($0 revenue) and you can at least increase the average daily rate and occupancy, the NOI will improve by 7% and the net profit by 3%, which is still higher, but consider the investment. It would take 15 years to see any comeback. The challenge is that if you’re not making money at the spa, you’re still spending it, and it doesn’t require any special skills. Then, at this point, you can explore either renting a space, creating a joint venture, or working with a fund manager that shares the revenue but covers the operating costs.
I hope this hasn’t confused you, and remember that this idea can only be applied to your situation and costs, and especially to your market and consumers. It won’t work for everyone, and appropriate feasibility, structuring, budgeting and forecasting are critical. It hasn’t been reviewed by any financial guru or accountant, it’s just how I look at a hotel investment to make my recommendations.
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