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Why invest in serviced apartments?
April 13, 2017Article by Paul Avery
Little more than a decade ago it was practically unheard of for individuals to invest in hotel rooms. Now that the long-term returns are in (and with buy-to-let bruised from a run-in with the Chancellor’s pointy red budget box), hotels have firmly entered the investment mainstream.
But just as investing habits have evolved, so has the hospitality industry. Hotels are by no means old news: they are helpfully insulated from property market fluctuations and stand to benefit from a Brexit-induced staycation boom. But there is a new kid on the block: serviced apartments.
What are serviced apartments?
Nestled in the fuzzy bits between standard residential flats and hotel rooms, serviced apartments cater to stays of indeterminate length: longer than a night or two but with no fixed contracts or break clauses. They come furnished to the hilt, including fully-equipped kitchens, with all bills and taxes included. They also offer a range of guest amenities: always housekeeping, usually concierge services, and sometimes even gyms, restaurants, and meeting spaces.
The customisable nature and home-from-home vibe of serviced apartments increasingly attracts business travellers, assignment workers, visiting relatives, and footloose millennials. But aside from their growing popularity, it is the lucrative business model that warrants the attention of investors.
Serviced apartments charge higher rates than residential lettings, but have lower operational overheads than hotels. They can also be easily developed and converted back into residential apartments for sale on the open market.
A new and fast-growing market
This is an extremely young sector, with fewer than one million serviced apartments in operation globally (GSAIR). Just under 20,000 of those are in the UK, representing 3.1% of total hospitality supply (Savills). With supply so tight and the profile of the model improving fast, it perhaps unsurprising that an overwhelming 94% of operators report that demand in their regions is increasing (HBAA).
Nationwide revenues per available apartment grew by 4.7% in 2015, the last year for which detailed figures are available (JLL). Rates per night shot up while occupancy rose more slowly due to a concurrent increase in supply. Nevertheless, occupancy for serviced apartments stood at 83.6%, far outperforming the hotel industry’s very respectable 77.5% (Apartment Service Worldwide).
Yet these numbers also mask quite extreme regional variation. In London, the UK’s most mature market, revenues increased by a solid 3.1% in 2015, while Scotland, Birmingham and Manchester achieved 16.2%, 14.5% and 8.9% growth respectively (JLL).
It is the areas where the premise is less well established, provision is low, and where events and corporate travel underpin heightened demand that are seeing the most explosive revenue increases. That zippy pace is not expected to last forever, but London is a good example of how the regions may settle down to more modest but sustainable revenue growth despite consistently high transaction volumes.
Supply and demand
Central London currently has more than 1600 rooms in the pipeline (JLL), increasing supply by 17% in 2017 (Savills). For comparison, Edinburgh has just 600 rooms in the pipeline, which will increase its supply by a whopping 40% in 2017. It is highly likely that this injection of new units will be absorbed – in fact it is a direct response to overwhelming demand. But this points to the lone worry of the serviced apartment industry: 42% of serviced apartment operators worldwide view increased competition as the leading challenge facing their businesses (GSAIR).
But it is important to remember that even in places like Edinburgh, an increase of 40% is still only 600 units – a tiny fraction of total hotel provision. Savills projects overall annual expansion across the UK of a more measured 8.4%. Regional variation will depend upon which cities have the youngest markets and the bounciest business cultures to support demand in proportion to increased supply.
What is driving the boom in serviced apartments?
The serviced apartment market is mainly driven by business demand. In fact, the emergence of the model was largely a response to changing trends in corporate travel. Short-term overseas assignments (not to be confused with short trips, which last for days rather than weeks) are forecast to grow by 50% by 2020, according to PwC. Serviced apartments are expected to soak up a greater share of that demand because of the cost-cutting requirements of businesses.
Serviced apartments charge more competitive rates due to their lower overheads, and by trimming the available extras and providing guests with kitchens instead of minibars, they significantly reduce bills for companies compared with hotels. Flexible booking arrangements are also a compelling reason to select a serviced apartment over a short-term rental when a project has an uncertain duration. For these reasons, serviced apartments are increasingly being adopted in corporate travel policies.
Guests themselves also benefit from a more secure environment, space to entertain, and a customisable level of service. A poll conducted by HBAA found that 79% of business travellers prefer serviced apartments to hotels.
Consumer preferences are also driven by branding. As larger providers enter the market, their marketing efforts should enhance public awareness of the industry as a whole – as well as boost investor confidence. Although Airbnb and similar room sharing platforms pose a threat to the hospitality industry, Savills has found that by profiling alternative accommodation options, the growth of such sites has had a positive effect on consumer preferences for serviced apartments.
With Savills expecting extended stay accommodation to be the fastest growing hospitality sector in the UK, this is certainly an asset class to watch.
Investors are advised to pay close attention to the length of the lease with the management company. The exit strategy is a simple one (returning an apartment to the residential market), but it requires a clear idea of how long the agreement lasts, how it can be terminated, and (unless yields are fixed) whether the market will support consistently high returns. For more information, feel free to get in touch.
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