Breaking in to China
Breaking in to China
15 OCTOBER 2018 7:10 AM

A lot goes into being a flourishing hotel company in China. But the flexibility to adapt to changing market dynamics is one of the top routes to success.

Editor’s note: This article was originally posted on 29 April 2011. The article was chosen as part of Hotel News Now’s look back at 10 years of the hotel industry.

REPORT FROM CHINA—When Bill Hanley first surveyed the China hotel market, he thought it was going to be a walk in the park.

As president of Vantage Hospitality Group’s upper-midscale Lexington brand, he saw a country churning with economic expansion—a fertile landscape enriched by an ever-growing middle class that was just rife for hotel development.

Even better, Vantage had an “in.” The company had fostered a relationship with a contact in the Chinese government and was able to form an alliance to flag government-owned properties, thus bypassing the regulations and red tape that typically trip up international investment.

“But then, as with many things in China, the playing field changed,” Hanley said.

Vantage’s government contact got promoted, and his successor wasn’t as open to maintaining the affiliation. The changes ran more deeply, however. The Chinese government itself was reneging on previous strategies. Officials grew wary of pure franchising and licensing agreements and started to demand assurances that international brands would participate in management—if only for the short term. Local investors, owners and employees needed better training, they argued, and the brands had to be there to walk them through the early goings, Hanley said.

So how did Vantage respond? Like many international brands navigating this indomitable force in the global economy, it quickened its pace, learned to adapt, and kept moving forward.

Finding the right partner
When Vantage’s licensing model hit the above road block, the Coral Springs, Florida-based company realized it needed help—in the form of an experienced developer/partner already on the ground.

“We believe that in order to effectively grow, you’ve got to have alliances with development companies in China that would cause you to participate in the real-estate side, whether that be actually in ownership or in leasing,” Hanley said.

Strong partnerships are pivotal to success in China, the sources interviewed for this report agreed. Not only are they more familiar with the regional dynamics of different markets, but they know the ins and outs of shifting government rules that can make going it alone in development nearly impossible.

“The fact that we’re partnering up with some of the strongest development partners in China … removes us from having to have those government relationships to a certain degree,” said Keith Barr, regional managing director of Greater China for InterContinental Hotels Group.

IHG has approximately 44,000 hotel rooms in mainland China, with plans to double that footprint during the next five years.

Finding the right partner isn’t always easy. For one thing, it’s challenging in and of itself simply locating developers with both knowledge in the hotel industry and a proven track record of success. For another, striking those relationships can be a competitive process of courting individual management contracts.

“Most of the time, it’s management agreements,” said Jonas Ogren, area director of Asia for STR Global. “The owner will build a hotel or start building a hotel, and he’ll go out and start looking for an operator for a hotel. And the management companies will bid for it, basically. Whoever has the best proposal and the best fit will get management contracts for the hotel.”

That first relationship is key, as it will often lead to more deals as the developer continues to build new hotels via leases on government-owned land, Ogren added.

A good partner also can help establish infrastructure and a corporate presence, Hanley said.

“You cannot protect your brand, you cannot grow your brand without having that infrastructure on the ground in China,” he said. Reservation centers, sales teams, operating departments, client services—they’re all crucial to success in the country.

The majority of these developers were state-owned enterprises as early as five years ago, Barr said, but the government has gradually opened up more to privately owned companies.

Market dynamics and economic growth
“It’s different in China,” IHG's Barr said. And not just different compared to other countries—but different on a province-by-province, region-by-region basis.

IHG has identified 22 major cluster cities in China. While they only occupy 7% of the country’s land mass, they yield 72% of its gross domestic product.

Of those, Beijing and Shanghai are outliers, STR Global’s Ogren said. Much like New York City or London, the same rules don’t apply.

Further deviations emerge as one travels out to secondary and tertiary markets, said Damien Little, director of Horwath HTL China. An existing domestic base might drive hotel development in one province, while government-assisted economic initiative might drive another.

To view China as one, homogenous mass would be a mistake, he said. The country is fragmented by many individual market dynamics, much like the United States.

Hanley advised starting with a list of 25 markets and then prioritizing where you want to go. “But you also have to look in China (at) where China wants to go,” he cautioned. In its quest to fuel continued economic development, the government might designate certain districts as economic development zones, where mass urbanization can happen seemingly overnight.

Fortunately, the Chinese government views hotel companies as good corporate citizens that help drive that growth. Hotels are not an afterthought, Little said. They help lead development in new areas and are often constructed as part of a larger office/commercial/residential district.

Planning for the long term
The norms of why hotels are built in China don’t always apply. While the same basic rules of supply and demand still are relevant in many cases, international brands completely ignore them in others.

The reason? China as an overall growth outlet is bigger than the specific dynamics of a given property or place or time. Hotel companies will continue to build in an oversaturated Shanghai market, for example, simply to have their presence known.

As Hanley put succinctly: “You’ve got to have a presence in Shanghai.”

IHG is addressing this 30,000-foot view by creating a new, China-specific, yet-to-be-named brand that will grow along with the country’s burgeoning middle class.

“No one has built an international company brand that’s based in China, for China, based upon Chinese-consumer insight,” Barr said. “Eventually, we’ll see that brand start in China and eventually go abroad.”

Another factor at play is the government-led expansion outlined above.

“A lot of the new hotels that are being built and opened are part of a larger master plan of development—part of a mixed-use development situation where you’ve got residential, commercial space, you might have some retail space … and part of that is very often zoned or includes a hotel or two,” Ogren said. “If the developer can make a good return on the other portions of the development, then the fact that he has a hotel with a nice brand on it is generally a good thing.”

But of any variables shaping future expansion in China, franchising might be the most hotly debated. Traditionally, international companies have adopted a management strategy aimed at the higher end of the market. (China has a large base of existing domestic operators in the budget segment.) The practice has been both a means to limit the risk associated with real-estate investment and a way to protect one’s brands from government interference.

“Few brands have gone into franchising in China,” Ogren said. “There’s a feeling, generally speaking, among the management companies that they want to keep close ties and keep management control of their brands, at least so far.”

Companies such as IHG have adopted an asset-light, management-only approach, for example. But not every international chain is as keen to follow the road most traveled.

“We’re really the only major international company that’s franchising,” said Ken Greene, president and managing director, APAC region for Wyndham Hotel Group.

“There’s a lack of understanding here of what a franchise really is, but I think it’s becoming more and more accepted as a practice. All the brands say they want to do it, but none of them have done it. That will happen, by the way, and that’s why you see more volume growth.”

Franchise or management, big cities or secondary outposts—whatever the strategy, the key to hotel development in China is to get in now and catch the wave.

“Every place across China across the board is growing rapidly,” Greene said. “You’re seeing 4- or 5-star growth recently throughout, and that’s in large part because everyone wanted to be in top-tier cities and also because the government was asking for that. As they get filled, what you’ll start to see is it spiral outward; you’ll start to see 3- and 4-star hotels pop up.”

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