Analysis Says Hotel Insurance Expense Proving a Minor Cost, Major Concern

Insurance premiums have reportedly become the fastest growing expense for U.S. hotel owners.

Despite a slight decline in 2004, the payments made by hotel managers for general liability and property insurance have more than doubled since 1999. Given the impact of recent natural disasters, as well as the continuing threat of terrorism, it is feared that this cost will continue to rise at a greater pace than other expenses in the future.

This conclusion comes from a special analysis of the data collected for the recently released 2005 edition of Trends in the Hotel Industry published by PKF Hospitality Research (PKF-HR), an affiliate of PKF Consulting.

“Insurance can be classified as a minor expense. In 2004, it averaged just 1.9 percent of all hotel operating expenses,” said R. Mark Woodworth, executive managing director of Atlanta-based PKF-HR. “However, because this cost has doubled in recent years, it has caught the eye of hotel owners and operators.”

In 1999, insurance payments averaged $265 per available room, or 0.7 percent of total revenue. By 2004, this expense grew to $558 per available room and 1.4 percent of total revenue. “The 1.8 percent decline in insurance costs in 2004 means very little after seeing annual increases in excess of 20 and 30 percent following 9/11,” Woodworth observed.

Insurance expense is just one of the 200 discrete hotel revenue and expense items captured by PKF-HR for its 2005 Trends in the Hotel Industry report. The 2005 report marks the 69th annual review of U.S. hotel operations conducted by PKF. This year’s sample draws upon year-end 2004 financial statements received from more than 5,000 hotels across the country.

A counter cyclical expense

The negative impact of the dramatic increase in hotel insurance expenses has been exacerbated by the fact that it has occurred during a period of declining revenues for U.S. hotels. During the time hotel insurance has doubled (1999 – 2004), hotel revenues have declined 1.5 percent. On the other hand, from 1995 through 1999, hotel revenues grew 26.7 percent while insurance costs declined 43.0 percent.

“We’ve noticed a historical counter-cyclical relationship between hotel revenues and insurance costs,” Woodworth noted. “When the overall economy is growing, hotel revenues rise, as well as the value of the investments made by insurance companies. Hence, there is less pressure on the insurance companies to raise premiums. Conversely, economic recessions depress hotel revenues and the returns insurance companies receive from their investments. The insurance companies have few alternatives but to raise premiums to maintain their profitability.”

Despite the declines in hotel insurance costs during the later half of the 1990s, this expense has grown at a compound annual rate of 4.4 percent since 1995. For comparison purposes, all operating expenses for the typical U.S. hotel averaged a 2.8 percent annual growth rate during the same period. Two of the more noteworthy costs for hotels, labor and utilities, have increased 3.0 percent and 2.6 percent respectively from 1995 through 2004.

When analyzing hotel insurance data, PKF Hospitality Research monitors trends since 1995. This was the first year general liability and property insurances were combined to be in conformance with the current edition (Ninth) of the Uniform System of Accounts for the Lodging Industry.

Weather and terror

While there was a slight decline in insurance costs during 2004, PKF-HR is monitoring a couple of factors that unfortunately indicate a continuation of soaring premiums starting in 2005. “Not included in the 2004 insurance statistics are the costs for Florida hotels that were permanently or partially closed due to the hurricanes,” Woodworth explained. “Early indications are that the insurance costs for these properties have started to rise dramatically in 2005.”

Another factor that could influence insurance costs in the future is the potential expiration of the 2002 Terrorism Risk Insurance Act. “This act requires insurers to offer terrorism insurance to businesses, but limits the insurance companies’ exposure in case of attacks by foreign terrorists. If the Act is not renewed, the fear is that the cost of terrorism insurance could skyrocket and become either a greater burden, or even unaffordable, for hotel owners,” Woodworth noted.

Copies of the 2005 Trends in the Hotel Industry report, which provides owners, investors, property managers, asset managers and others with detailed information on all aspects of hotel revenues, operating costs and profits, are available at PKF’s online store at www.pkfc.com, or by calling Claude Vargo toll free at (866) 842-8754.