A variety of macro and micro factors create a bumpy 2018 for the Mexican hospitality industry.
Mexico’s tourism industry has attracted several exciting new stakeholders and flourished over the past few years. It now contributes, according to the World Travel and Tourism Council, nearly 16% to the country’s gross domestic product.
Macroeconomic and sector-specific challenges, however, lie ahead, and a volatile 2018 awaits.
Public and private sector participants must improve competitive conditions now. And, if they haven’t done so already, they must strategize accordingly for the future.
This year, the three most populous nations in Latin America—Brazil, Mexico, and Colombia—as well as four others, will have presidential elections, which could bring significant changes to the region.
As presidential elections create volatility, they will generate quick market responses to policies. The potential rise of nationalistic and protectionist movements in the region threaten open markets and legal certainties and may trigger capital flight.
Additionally, the important United States-Mexico relationship is strained with recent changes to foreign policies as well as the latest U.S. Ambassador to Mexico resigning, after serving over 30 years as a career diplomat with the State Department.
Other sector impacts resulting from these policies include a decrease in visitation and spend to important U.S. destinations like Vail, Colorado, that heavily rely on Mexican visitors. Several stakeholders have been affected, as many Mexican travelers are opting to visit elsewhere, like visa-free Canada.
Conversely, and according to the Mexican Ministry of Tourism, U.S. air passenger visitation to Mexico was up nearly 10% in 2017, despite travel warnings that were in place for part of the year (and subsequently revised/lowered) and isolated violent incidents in popular leisure destinations such as Los Cabos and Playa del Carmen.
Uncertainty also continues regarding NAFTA renegotiation, and business tourism to some manufacturing centers in Mexico has been impacted. Although many previously approved long-term projects in Mexico are still moving forward, the NAFTA talks are slowing new domestic and foreign direct investments, as investors wait for more clarity on the new legislation.
Further complicating foreign direct investment to Mexico is the recent U.S. tax reform, which lowered corporate tax rates from 35% to 21%, impacting Mexico’s fiscal competitiveness and attractiveness. It is too soon, however, to evaluate any long-term impacts from the reform.
Changing fiscal and monetary policies
The geopolitical forces identified above produce volatility. And, higher interest rates, lower inflationary growth, and a weak Mexican peso are creating higher margins for existing hospitality operations but also are curtailing new investments, at least in the near term.
In February 2018, the Mexican central bank increased its benchmark interest rate to 7.5%, the highest level since March 2009, in an attempt to reverse inflationary growth of 6.8% in 2017. During the same period, inflation decreased to 5.3%, marking a 12-month low. Mexican bank Banorte estimates inflation levels to reach 4.3% in 2018 and decrease towards the Mexican government’s target rate of less than 4.0% in 2019.
Indeed, the geopolitical-related volatility, as described above, will likely weaken the Mexican peso and impact exchange rates. And, Scotiabank’s March 2018 foreign exchange outlook estimates the Mexican peso to depreciate versus the U.S. dollar, from the current range of $18.70, to around $19.50, by year end.
Nevertheless, a weak Mexican peso helps bolster tourism by increasing demand from domestic tourists who cannot afford to travel abroad, making travel more affordable for international visitors, and enhancing operational profitability for hospitality businesses, especially those with U.S. dollar-denominated revenues.
Lodging supply and demand forces
In addition to significant geopolitical issues and changing fiscal policies, the Mexican hospitality industry will be affected by unique lodging supply and demand forces in 2018.
According to Hotel News Now’s parent company STR, Mexico’s hotel demand in 2017 once again outpaced increases in supply; however, certain lodging markets present over-supply risks in the near term.
The Ministry of Tourism reported that international tourist arrivals solidly increased by 12% from 35.1 million in 2016 to 39.3 million in 2017, and now Mexico ranks as the eighth most visited country in the world by foreigners, according to the World Tourism Organization. Over 70% of international travelers, however, visit from just two countries: The U.S. and Canada. Mexico needs to further diversify its source markets.
Despite all of this year’s political and economic headwinds, Mexico’s hotel demand is expected to rise ahead of positive GDP growth estimates of 2.3% by the International Monetary Fund, due to increased government spending, political campaigning, domestic investment and the emergence of new industry sectors like research and development, technology-focused businesses and life sciences.
For Mexico’s lodging sector to continue to thrive long-term, however, public safety and security prove of utmost importance as do much needed infrastructure improvements in water, sanitation, electricity and transportation.
Compressed cap rates
A fourth factor to monitor in 2018 in Mexico’s hospitality industry is compressed capitalization rates. While some firms are buying, others are selling. The preference among public and private investors overall is to target U.S. dollar-denominated resorts and urban assets, as illustrated by the following recent transactions:
• Fibra Hotel’s procurement of the renovated Fiesta Americana Condesa in Cancun;
• Fibra Inn’s forward take-out of the planned Westin development in Monterrey;
• Rodina Group’s acquisition and rebranding of the Viceroy (formerly known as Mar Adentro) in Los Cabos; and
• Walton Street Capital’s repositioning of the Conrad (fka La Tranquila) in Punta de Mita.
But what commonality exists amongst all of these deals? None of the buyers are owner/operators; all hired qualified local and international third-party managers. Indeed, Mexico is attracting new global operators, such as the Dream Hotel Group and the SH Group, among others, which are introducing differentiated brands and innovative practices to the marketplace.
Ultimately, and despite the aforementioned uncertainties, the limited supply of institutional-quality products for sale and the increased competition for these coveted assets have compressed cap rates and increased values.
2018 outlook summary
Above all, investor appeal for the Mexican lodging sector remains positive, new investment vehicles are being proposed and introduced, and several large hotel deals are in the works in major markets. Barring unforeseen circumstances, Mexico should present an active transactional environment for the rest of the year. Nonetheless, the Mexican hospitality industry faces numerous macroeconomic and sector-specific challenges.
With disruptions, however, come opportunities.
Thus, industry participants must decide: will we remain on the roller coaster? Or, will we abandon an increasingly competitive and uncertain market environment?
Ultimately, the 2018 outlook for the Mexican hospitality industry proves clear: Planned uncertainty.
Jonathan Kracer is Managing Principal of SION CAPITAL LLC, a hospitality and real estate consulting and investment firm focused on the North American, Latin American, and Caribbean regions. He is a recognized expert on the hospitality sectors of South Florida, Latin America, the Caribbean, and Mexico. He has been a columnist with HNN since 2012 and can be reached via email at firstname.lastname@example.org. More information about SION CAPITAL LLC can be found at www.sioncapitalco.com.
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