Estimating a hotel’s value can be a cumbersome and time-consuming process, especially if it has been operating for years.
For a new hotel, you only need to consider the current land value, property replacement costs, and depreciation factors. There’s no revenue or income to add to the equation. That valuation method is known as the cost approach.
But when determining an established hotel’s value, you need to consider its current and estimated future sales, revenue, income, expenses, and other relevant factors. Those also include intangible assets.
That’s what makes hotels different from other real estate properties. They have tangible and intangible assets, such as reputation, service quality, location desirability, and overall charm. But, unfortunately, there’s no formula to calculate their value.
Still, there are other hotel revenue management formulas you can use for hotel appraisals. We’ll go over some of the most important, including calculating a room revenue multiplier.
What Is a Room Revenue Multiplier?
A room revenue multiplier (RRM) is a rate that hotel appraisers use to determine a hotel’s value or calculate its gross income. It represents the value per room, that is, how much annual revenue each room generates.
It considers a hotel’s total revenue, gross income, net operating income, profit, cap rate, ADR (Average Daily Rate), and RevPAR (Revenue Per Available Room).
Room Revenue Multiplier Method
The room revenue multiplier method is part of the income capitalization approach.
This approach is key to converting income into value. It shows how much income a hotel can make in the future, and what its resale value would be.
When you know a hotel’s cap rate, you can calculate its net operating income (NOI). That’s important for calculating its gross income, which you can then use to determine its RRM.
Typical Room Revenue Multiplier for Hotels
Hotel appraisers worldwide use different room revenue multipliers for hotel valuations. They typically range from 3.5-4.5.
A bit of research will help you find out what an average RRM in a particular area is, but you can also hire a professional with proper industry knowledge.
But if you already know the estimated value of a property you’re looking to buy, you can calculate its RRM to ensure you don’t overpay for it.
How Do You Calculate the Revenue Multiplier of a Room?
To calculate a hotel’s RRM, you need to know its value and gross income.
If you don’t know the value, you can get to a rough estimate by using a hotel’s ADR.
A common rule of thumb is to assume a hotel is worth a thousand times its ADR, which leads to this formula:
Value = ADR * Number of Rooms * 1,000
Example: If a hotel has 30 rooms and an ADR of $150, its rough value would be $4.5 million.
Once you know the value, the next step is finding out the gross income. This is the formula:
Gross income = Net Operating Income + Expenses
You can calculate the net operating income by subtracting operating expenses from all revenue.
Room Revenue Multiplier
You can determine the RRM with this formula:
RRM = Value / Gross Income
Example: If a hotel’s value is estimated at $4.5 million, and its gross income is $900,000, its RRM would be 5.
When you know a particular hotel’s RRM in advance, you can use it to estimate its value.
One way to go about it is to use the RevPAR, like this:
Value = RevPAR * Number of Rooms * RRM
Example: If a hotel has 30 rooms, a RevPAR of $50,000, and the average RRM for similar properties in the area is 3.8, its value would be $5.7 million.
This valuation method sets the value per room at 3.8 times the annual room revenue.
However, RevPAR doesn’t take into account the cost per occupied room and additional revenue sources, such as a restaurant, spa, parking, and other types of hospitality offering.
That’s why you might want to use the APPAR (Adjusted RevPAR):
APPAR = (ADR - Variable Costs per Occupied Room + Additional Revenues per Occupied Room) * Occupancy Rate
Room Revenue Multiplier Example
Let’s say a hotel has 50 rooms, 40 of which are occupied. That would mean that its occupancy rate is 80%.
Generating a $10,000 total room revenue with those 40 occupied rooms, it would have a $250 ADR and a RevPAR of $20,000.
Suppose its net operating income is $960,000, and its operating expenses amount to $370,000. Its gross income would be $1.33 million.
Let’s now assume that an average room revenue multiplier for similar properties in the area is 3.5.
Multiplying it by the gross income would lead to an estimated hotel value of $4,655,000.
If you’re thinking about buying a hotel, you need to know that your total funds would be higher than the purchase price.
There are PIP (Property Improvement Plan) expenses to consider, as well as the closing costs. If PIP expenses are, say, $10,000 per room, and the closing costs are $150,000, you would need to add another $650,000 to the purchase price.
If you’re taking out a loan, you need to consider interest rates and loan amortization as well. If you think that interest rates will increase in the future, the hotel’s value will likely drop unless its income keeps up the pace.
There are many more hotel valuation techniques, but using a room revenue multiplier with the simple formulas above is the quickest method.
It gives a rough estimate, but one that should be close enough to a property’s estimated purchase price. It can show you the bigger picture to help you make an informed purchasing or selling decision.