(Aug 29): Hilton Worldwide Holdings Inc and its franchise partners have found a silver lining in China’s real estate crisis — converting empty and unused office buildings into hotels amid a domestic travel boom.

The group, which recently opened its 700th property in Greater China, is expanding briskly on the mainland, despite a meltdown in the country’s housing market that turned many investors off Asia’s biggest economy. Hilton, which owns brands such as Conrad, Waldorf Astoria and DoubleTree, aims to add about 100 hotels to its network there over the next few years and has a pipeline of nearly 900 locations, Clarence Tan, the senior vice president of Asia-Pacific development, said in an interview.

About 25% of the Hilton hotels coming online within the next 18 months in China will be developed using empty office space instead of being built from the ground up. That type of model — which Hilton terms “adaptive reuse” — has more than tripled on the mainland from around 5% to 8% prior to the Covid-19 pandemic, he said.

There’s an oversupply of office space in China and not a lot of demand for retail either, and that’s where there’s opportunities for hotels,” Tan said. “Landlords are saying, ‘If I can’t lease this space out, what alternate uses are there?’ A lot are leasing to entrepreneurs, who then come to us for the Hilton brand.”

China’s commercial real estate market is still contending with a huge amount of oversupply. Vacancies are near a two-decade high in some cities while rents continue to plummet. Landlords as well as institutional investors like BlackRock Inc are looking to cash out as the government seeks to redeploy dormant buildings.

In Shanghai, prime office rents have sunk to their lowest in more than a decade while office vacancies were nearly 15% in June, according to data from Colliers International Group Inc. At the same time, new buildings are still coming to market. In April, Cushman & Wakefield said it expects vacancy rates to remain high over the coming 12 months.

“It’s a renter’s market,” Bloomberg Intelligence China property market analyst Kristy Hung said. “If you have got a hotel operator who wants to rent floors, can pay the rent and sign a long-term lease, it’s very desirable from a landlord’s perspective. Empty buildings are a burden now.”

Despite China’s property crunch and economic slowdown, the country’s hotel boom hasn’t stalled. Post Covid, many Chinese consumers have opted to travel more at home rather than holiday abroad.

China has a record 3,815 hotels either planned or under construction, according to Lodging Econometrics, and now accounts for one quarter of the global hotel construction pipeline — behind only the US. Chengdu and Shanghai rank among the world’s top five cities with the largest hotel project pipelines, the group reported.

Tan said Hilton’s franchise partners are finding favourable terms, some with 15-year leases that come with a rent-free period. Some of the empty office buildings being turned into hotels are graded A- or B, meaning they command rents that aren’t quite as high as premium high-rise buildings. 

Take the Hilton Garden Inn Shanghai Lujiazui.

The 38-storey building in Shanghai’s Pudong district was originally conceived as an office block but during the property crisis, its owner decided to convert part of it into a hotel, according to Hilton. After a six-month turnaround for design and fit-out, the 150-room property opened in June last year.

One advantage of redeploying office space is that quick turnaround. It generally takes about 18 months to knock down office walls and put in hotel rooms, much faster than the typical three years it would take to build a hotel in China from scratch, Tan said.

Still, the China hotel bet isn’t without risk.

Although domestic tourism has rebounded, with local visitor spending estimated by the World Travel and Tourism Council to increase 11% this year from 2019 levels to top 6.8 trillion yuan (US$953 billion or RM4.13 trillion), international holidaymakers, and flights from overseas, haven’t sprung back.

Hilton’s revenue per available room, a key hotel metric, increased 11% in Asia-Pacific in the second quarter on the previous year, but dropped 5% in China.

“There’s not enough inbound travel yet into China,” Hilton chief executive officer Christopher Nassetta said on an earnings call earlier this month. “There aren’t enough flights from Europe and the US and other parts of the world. That’s going to take time.”

Still, the number of hotel rooms per capita in China is about 10 times behind the US given the sheer size of China’s population, Tan said. Hilton, which entered mainland China in 1988, is holding firm.

“The big bet for China and Asia-Pacific is the rising middle class and the untapped spend,” Tan said. “The race is on to get a share of the mind and a share of the wallet of this middle class. That growth is huge and complex, and we definitely have to win.”

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