Marriott International’s headquarters in Bethesda, Maryland. The company reported revenue of $5.3 billion in the second quarter of 2018 as well as the removal of 2 percent of its rooms either in early planning stages or among existing franchised hotels.

IN THE SECOND quarter of 2018, Marriott International was “pretty aggressive” in removing hotels from both its pipeline and among its existing franchised portfolio, said Arne Sorenson, president and CEO, during an Aug. 7 earnings call.

In the quarter that ended June 30, Marriott removed about 18 hotels or 14,000 rooms from its global pipeline and saw about 2 percent of its rooms exit its system.

Sorenson said, in most cases, the projects in the pipeline had not made enough progress toward new-construction starts.

“I won’t say necessarily that every quarter is as intense as the last one,” he said in answering an analyst’s question. “But we were pretty aggressive in this quarter in going through and found in both the legacy Starwood brands and legacy Marriott brands that there were projects that had not moved fast enough. And so, we pulled them out of the portfolio…

“It’s not a totally unusual thing to discover that the best laid plans maybe are not coming to fruition with an owner some place.”

Sorenson said the stall in construction starts could be caused by lenders’ stricter equity requirements and increased building costs. “And so you end up with some folks who maybe signed that deal a year or two ago and they haven’t moved forward, and ultimately they tell us they’re not planning to move forward on it.”

In such cases, Marriott pursues a franchise contract with another prospective owner in that market. “I think in the environment that we’re in today, we still have plenty of available capital to invest in new projects.”

The increase in construction delays is not exclusive to Marriott.

Construction starts for hotels in the U.S. have slowed this year, reports ConstructConnect, which charts building activity in residential and commercial development.

The analyst foresees hotel construction starts in 2018 will be 6.2 percent lower than in 2017. The pace of new starts will continue to drop each year through 2022. The firm cites the shortage of skilled labor and the rise in construction costs.

At the same time, Lodging Econometrics reports moderate growth in the U.S. hotel construction pipeline in the second quarter with a 25 percent surge in the number of hotels in the early planning stages. Lodging Econometrics attributes the increase to anxious hotel developers trying to get shovels in the ground before the economy begins to soften and interest rates go any higher. Whether these projects will break ground remains to be seen.

As for hotels that exited Marriott’s system in the second quarter, Sorenson said the number was higher than usual – 2 percent versus the typical 1 percent to 1.5 percent per quarter.

“While there are different stories for every hotel, we are completing workouts of legacy Starwood properties and are being more aggressive in addressing product quality issues,” he said. “We expect the pace of deletions will slow in 2019.”

What’s behind it

Although quality or lack thereof is the biggest reason the rooms were deleted from Marriott’s system other factors contributed to the reduction.

About 20 percent of the rooms that left the system in the second quarter were older assets with contracts that expired, Sorenson said. “And while contracts, when they expire, can often be renewed, the core issue there is does it make sense for additional capital to be invested in those hotels to bring them up to current standards or are they … beyond that point from an economic perspective? It’s a meaningful question and so we lost some hotels from that perspective.”

Natural disasters such as hurricanes and earthquakes also contributed to the removal of 30 percent of the rooms in the second quarter, the CEO noted. “While they may come back into our system at some point in time, we looked at the circumstances of those hotels and thought it could be years before they reenter our system. And rather than keep them in our unit count, let’s take them out.”

Marriott expects the removal pace of hotels from its system to be at 2 percent each of the next two quarters this year.

Overall, Sorenson said, a decision to remove a hotel from Marriott’s system is usually about quality. “In many respects the increase in the deletion estimate for the year is driven by a mix of product quality issues. They can be quite unique sometimes that, but it’s driven by the economics of each individual hotel. And while we would like to keep hotels in the system if they could be brought up to standards, if they can’t get the capital that’s necessary in order for them to stay in the system, we’d just assume that they left.

“Sometimes, obviously, we have a different point of view with our owners about the position of these assets and we work through that and see if we can come to a resolution that makes the most sense.”

Some of those hotels are “legacy Starwood” properties that had quality issues at the time of the acquisition in September 2016. “Some of those deals have not been resolved and we’re working our way through them towards resolution,” Sorenson said. “And hopefully, we’ll get back more to the 1 percent to 1.5 percent deletion range that we talked about the last couple of years for the years to come.”

Losing the fee revenue from the departed hotels is not a huge concern as most of the moribund businesses generated little revenue for Marriott, Sorenson said in response to an analyst’s question.

Look at the Growth

Although several analysts focused on the “deletion” of hotels in the second quarter, Sorenson focused much of his comments on Marriott’s growth.

“According to STR, we continue to have the largest pipeline of rooms under development in the world, including more luxury and upper-upscale rooms than our next three competitors combined,” he said.

Marriott opened a record 23,000 rooms during the second quarter. The number of rooms under construction worldwide totaled 213,000. The franchiser added 40,000 signed or approved rooms to the development pipeline in the second quarter. On June 30, Marriott’s pipeline stood at 466,000 rooms, a few thousand more rooms than the first quarter of 2018, and about 25,000 rooms more than in the second quarter of 2017.

Nearly half of the 466,000 rooms in Marriott’s pipeline are under construction. Over half is outside North America and 41 percent is in the upper-upscale and luxury segments. Nearly half of those rooms will be managed by Marriott.

For all of 2018, Marriott expects to see a 7 percent increase in the number of new hotels opening. “Our new signings remain robust and the number of rooms under construction has increased more than 20 percent since the second quarter of 2017,” Sorenson said.

“It’s not about deletions, but is about development,” he said. “The core question which should be addressed here is, ‘What does it say about our owning partners’ appetite to grow with us and to affiliate their hotels with us?’

“And what we’re seeing on the development side is a much more powerful indication of the strength of our brands than anything that the deletion data would tell you.”

Marriott earned $5.3 billion in revenue in the second quarter this year, $475 million of that was from franchise fees. In 2Q17 revenue was $5.2 billion with $408 million from franchise fees.

Its 2Q18 net income was $615 million versus $489 million in the same quarter a year. Earnings per share were $1.75 versus $1.29 in 2Q17.