3 reasons why hotel brands shouldn't build tech in house like Red Lion
Back in September we were excited to see Red Lion Hotels Corporation partner with data integration firm Hapi to streamline connectivity and be one of the first hotel brands to embrace a truly open technology architecture. The benefit of an open architecture is that 3rd parties can seamlessly plug in to systems with very little time or cost associated with implementation. This mentality in theory should allow Red Lion to become a lean hotel company with capabilities to quickly experiment and iterate with new technologies with minimal upfront investment - a critical ingredient for innovation.
When enterprise companies spend loads of money on technology they usually think about building tech in house so they can have more control over development and ultimately save money. Sometimes this equation favors building tech in house and other times it does not. Several high profile failures in the hotel industry include a collaboration amongst all major hotel groups to create an online booking platform called Room Key which was eventually shuttered. We'll discuss this initiatives and more in detail below.
Most sophisticated enterprise companies (think Nike and McDonalds) understand that they are not tech companies so they effectively outsource their tech R&D spend to 3rd parties that are focused on innovation. Could McDonalds build software to help franchisees manage their listings? Yes, but they partner with Yext. Nike could definitely build prototyping software in house for its digital products, but it chooses to partner with InVision. Firms like Nike and McDonalds have become innovators by being experts at identifying trends and partnering with top tech companies to meet their core business goals.
So the question is, if McDonalds and Nike outsource their respective technology needs - should Red Lion really be building tech in house and trying to hock it to independent hotels?
We believe that this initiative brings Red Lion into precarious waters for 3 key reasons:
RLabs distracts management from their core business
Red Lion is underestimating the ongoing effort required to maintain and scale a technology business (let alone multiple business lines and products)
Views or opinions in this article are not intended to malign any organization, company, or individual. These views are intended to highlight an important debate in the hotel community about whether hotel brands should build technology in house. Statistics and data have been pulled from publicly available information and the opinions stated are the views of the author.
Reason #1: When non-tech focuses on tech they get distracted from their core businesses
When non tech companies start to build tech in house they tend to get distracted and Red Lion's stock chart certainly seems to support that argument. Presumably Red Lion has been gearing up for the launch of RLabs for the last 6 months and during that period it's stock has dramatically underperformed Marriott, Hilton and Hyatt losing more than 36% of its market value.
While we certainly understand that there are other factors involved in Red Lion's recent stock performance - last 6 months results compared to its peers fire a warning shot to RLH investors and franchisees about management focus. Adding fuel to the fire, a 36% decline in stock price is likely to raise flags with activist investors.
If RLH isn't able to turn around results, management will be forced by investors to cut costs and the first cuts would hit non-core business expenses. So what do you think would happen to RLabs' under that scenario? Not only that, but if the RLabs budget gets cut (or it becomes a complete write-off) what do you think happens to their hotels using the software or other independents they sold to (assuming they were able to convince anyone other than their hotels to buy it). Needless to say, they are in precarious waters.
If an activist investor or private equity firm became involved in Red Lion, RLabs would certainly be a contender for the chopping block leaving franchisees and any independents that bought its software on the hook.
Reason #2: Red Lion doesn't have the resources to compete with tech companies
Charles Schwab is a massive financial institution worth more than $60B. The firm could easily build custom marketing automation solutions for the business but they choose to work with with Marketo because they know that Marketo will be able to innovate over the long run. Even Citrix and Microsoft, technology companies themselves, use Marketo's marketing technology so that they can focus on their core businesses.
While it's great to see a hotel company like Red Lion interested in technology and we commend them for the intention, there appears to be some severely flawed strategic reasoning here. RLH has grossly underestimated the resources required to compete with tech companies and hasn't properly analyzed feasibility of the project.
At the time of writing, Red Lion's market capitalization hovers around $200M - there are many independent hotels with single property valuations in excess of the entire Red Lion company.
In 2018 Red Lion achieved $2M in net income, even if the firm was to invest every penny of that into RLabs - that number is less than the monthly technology investments made by many hotel tech companies. To put this in perspective, IDeaS is the revenue management software company of choice for Red Lion and it's parent company SAS just announced a 3-year plan to invest $1B in artificial intelligence. SAS is a company that deeply understands the power of focus and investing in its core competencies.
If I want to host a SaaS application, I choose a cloud host. If I want to manufacture a consumer product, I partner with a company like Foxconn. If I need delivery for my restaurant I work with a delivery company. Yet, brands without a technology focus still believe it will be cheaper and more effective to build their own software internally when history has shown us, time after time, that these projects will be over budget, unsustainable, and competitively weaker than the professional tech products in the market. ~Adam Harris, CEO, Cloudbeds
The median publicly traded software company spends 23% of revenue on R&D with many high growth firms spending 50% of revenue. It's hard to imagine that Red Lion can afford the spend levels to develop one competitive product let alone multiple product lines that compete with a myriad of different specialist software businesses.
Reason #3: Technology is not a static good and sophisticated enterprise companies buy into the future of a tech product as much as the present
Technology requires immense amounts of capital to scale and increasing investments to remain competitive. Technology requires even more upkeep than hotels. Where hotels build up their capital reserves and renovate roughly every 5-7 years, tech companies are constantly "renovating" their products daily through product sprints. When enterprise companies "buy" tech they are partnering with tech companies for the future as much as selecting products for the present.
The reason that the SaaS business model (recurring subscriptions) aligns value so well between buyers and sellers is because the product is constantly being reinvented so it forces tech companies to maintain their end of the bargain. When you sign up for SaaS (software as a service) you are not only signing up for the product today but you're buying into its roadmap for the future. Hotel companies that try to build tech in house are rarely prepared for the constant investment required to maintain let alone scale products and keep up with the ongoing massive investment, iteration and innovation of tech firms.
So what does history tell us about hotel companies who have miscalibrated this decision?
Starwood was bought by Marriott for $13B so it's ~65x bigger than Red Lion and itself has taken huge losses on technology investments when they were no longer able to invest enough to remain competitive. According to Starwood's (now Marriott) 2015 10K filing, the firm took a $6M charge for "technology related costs and expenses that were no longer deemed recoverable." Go back further to Starwood's 2013 annual filing for stockholders and you'll find a $19M charge related to "technology related expenses" that the firm "decided to absorb" because they couldn't collect from managed and franchise properties.
When we draw the analogy between maintaining software and maintaining a hotel, Starwood was effectively unable to properly renovate its technology and investors paid for it. Every hotelier knows what happens when you let a property go too long without renovation and the same happens when software isn't maintained properly.
Similar to Starwood building tech in house and having trouble maintaining the infrastructure, Choice created Skytouch PMS internally with the vision of transforming the tech market and has similarly struggled.
"In 2014, it [Skytouch] generated a net loss to the company of up to $20 million. Investors have pressured Choice to either make SkyTouch profitable, sell it, or close it down."
Choice stopped reporting the results of its Skytouch division and now includes those results within its "Corporate & Other" expense line (pg. 102 of Choice 2018 10K filing). So while Choice no longer gives updates on how Skytouch is doing - it would be highly inprobable that a company like Choice would decided to include the a business unit as an expense line if that unit was doing well. Accor, too, recently reported a $288M write-off on tech investments such as AirBnB competitor Onefinestay and concierge service John Paul.
Accor even tried to sell it's distribution to independents and shuttered the project after 2 years, here's what happened in the words of Accor's own spokesperson.
"This initiative is no longer relevant in regards to the Group's strategy and its new profile as per today. Results are below expectations"
The thesis with Accor was actually pretty similar to Red Lion and in our opinion was actually even more compelling for independents. Accor wanted to plug independents into its massive distribution which in theory could add a ton of value if executed well and even that didn't work. Red Lion isn't even promising distribution - in many ways the Red Lion offering isn't clear at all.
In the same article Hotel Management reports that Red Lion aims to sell technology to independents and also use the same software vendors that independents use.
"RLab's is focused on creating travel technology and products like RLH's RevPak revenue-management software. RLabs eventually will develop more elaborate technology for hotels including robotics and artificial intelligence."
Red Lion has publicly stated that it partners with IDeaS for it's massively popular revenue management software and based on this introductory video RevPak on Red Lion's own YouTube channel from 2014 - RevPak isn't actually revenue management software but a data warehouse that integrates data from their 3rd party vendors (this warehouse, too, now seems to be outsourced to Hapi so it's unclear whether Red Lion is building anything unique in house at all). In the same Hotel Management article RLH commented about its work with 3rd party vendors.
"RLH said it uses technology currently accessible by most independent hotels for revenue management, channel management and global sales"
So Red Lion is actually using the same systems that independents are using - what unique value will RLabs offer them?
Adding to the confusion, RLabs claims to be working on a housekeeping robot. Hardware and robotics are entirely separate businesses from software and distribution - again indicating a lack of focus or intention with RLabs that will likely lead to subpar results.
Even when all the big hotel groups banded together to build the online booking platform Room Key they failed (Choice, Hilton, Hyatt, InterContinental, Marriott, Wyndham) - isn't it time that hotel companies learned this lesson?
Even Booking.com had to shut down it's hotel software operations after some high profile acquisitions - a testament to how tough the business really is.
Red Lion and other hotel brands shouldn't be building tech - they should be getting better at buying it
The lesson here is clear, RLabs is likely to go the way of the Room Key booking platform and other projects where hotel companies chased higher multiples by attempting to call themselves "tech companies." Hotel brands need to focus on what they do best. They should leverage their scale and clout to secure great service and attention from tech partners. It's up to franchisees and investors to ensure that operators like Red Lion stay focused.
Unfortunately Red Lion has lost 36% of its value in the last 6 months and we expect this trend to continue while focus on the core hotel business is blurred by the shiny new RLabs. This should be deeply concerning for investors and franchisees alike.
Hotel brands have insanely complex businesses managing many stakeholders who often have conflicting interests. The business of running a hotel is a huge feat both operationally and from a revenue/distribution perspective. Because of these factors, hotel companies who want to succeed in the digital age should be experts at technology procurement and management. Historically hotel brands have been very weak when it comes to technology procurement and management so many have tried to compensate for that weakness by building tech products in house. Unfortunately this strategy often leads to write-offs, burning piles of cash and consequently the executives who lead these disastrous projects being pushed out.
Red Lion and its peer hotel brands should instead be focused on rethinking their technology organizations to be better buyers and managers. Corporate hotel purchasing units have historically focused on price negotiations and software customization (i.e. product roadmap hijacking) but in order for brands to thrive in today's hyper competitive markets they are in need of a massive strategy shift.
Digitally savvy hotel owners want technological choice and they want the procurement benefits that brands command with scale. The brand development teams that win in the digital age will be the ones who are able to deliver choice to owners around which technology vendors to use, the scale that comes with warehousing and leveraging data from that warehouse and the cost benefits that come from bundled negotiations with vendors.
So what should Red Lion and other hotel brands do instead?
Lay foundational infrastructure for open systems and clean data (e.g. to RLH's credit, their partnership with Hapi is a good first step)
Design scalable processes to constantly beta test competitive products in the market and identify new products that can drive core business goals.
Set aside designated resources for technology management. Hotel groups should maintain a vendor CRM and dedicated staff for managing vendor relationships. This staff should also be tasked with collecting market insights and sharing new technological developments as well as vendor status updates on a regular basis with leadership.
Set clear and tangible KPIs with each vendor that must be met in order to retain the contract (e.g. customer support response time)
Operations Manager - HOTSTATS