This week we’re publishing a case titled How Four Seasons Learnt to Handle Recessions. I believe this case is useful in the context of our previous essay How to Handle Disruptive Change — with the caveat that recessions are not really fundamental disruptive shifts. They’re just ... disruptive.
In the hotel industry, recessions are just business as usual:
The hotel industry is famous for being incredibly cyclical. A Morningstar report describes the entire sector like so:
People need to travel for business when the economy is expanding and want to travel when jobs and income are steady, but travel is one of the first things cut as confidence in the economy falls. Since hotel lease terms are for a single night, occupancy and rates get reset each day and quickly reflect changes in the economy. Prior economic cycles have seen two to three years of falling revenue per available room during a recession followed by five to six years of high-single- to low-double-digit revPAR (revenue per available room) growth. Typically, as growth slows, the economy enters a new recession and the pattern repeats.
Basically, the hotel business amplifies whatever volatility exists in the broader economy.
When Isadore Sharp started Four Seasons Hotels and Resorts, he knew nothing about hotels. He considered himself a ‘builder’ – a real estate man – which fortunately did mean he had some experience with the capital and credit cycles. (Real estate is also cyclical, though not as cyclical as the hotel business). But the hotel business is ultimately a different business, and the first recession he experienced as a hotelier caught him by surprise.
Eventually Sharp figured out a way to operate through recessions — in a way that put Four Seasons ahead of its competitors. But it took him a couple of downturns to get there.
This is the story of what he learnt – and how he came to learn it.
And so this is why I found the Four Seasons a particularly interesting case.
Here is one of the most cyclical industries possible. What does the best operator in that industry do?
In the previous How to Handle Disruptive Change essay I pointed out that all the companies that survived had two things in common:
We don’t see the second point as much in this Four Seasons case. In his first recession as a hotelier, founder Isadore Sharp figures out that he needs to shore up the balance sheet and reduce debt levels. As a result he sold down assets and divested certain non-core operations in order to raise cash and pay down debt.
In truth, the reason Four Seasons survived this period was because Sharp began selling off assets.
According to Vol. 29 of the International Directory of Company Histories (a reference series published by St. James Press in 1999), between 1980 and 1985, nearly US$31.2M worth of assets were sold, including equity in Four Seasons’ Montreal, Toronto, and San Francisco properties. These properties remained company hotels; Four Seasons merely switched roles from owning to managing them under long-term contracts.
Then Sharp, Creed, and Koffler, the three original investors, created a new company to manage non-hotel assets, like real estate, some development property, and a laundry. The divestment took US$22M in debt off Four Seasons’ books.
Finally, the company raised US$60M from a stock offering and used US$30M to reduce the remainder of the debt. According to the Directory, through these three moves, Four Seasons was able to reduce its debt-to-equity ratio to a comfortable 1:1 by 1986.
Sharp managed to do all this without compromising his offering … or giving way on his hotels’ prices.
So far so obvious.
But Sharp did not need to reframe the problem, because he had come up with a workable frame earlier — in the late 70s. It was then that he decided that Four Seasons was going to go asset-light. More importantly, he committed to the strategy — something that cannot be said about the other hotel chains in that decade. This was notable: by the end of the 80s Four Seasons was mostly balance sheet asset-light, and it could execute its full strategy on all cylinders. The other hotel chains: Marriott, Hyatt, Hilton, and IHG, executed their chain-wide asset-light strategy a decade or two later.
(For accuracy’s sake, Holiday Inn was asset-light using a franchise model very early on; by 1972 it was 80% franchised. It’s worth noting that the franchise model is very different from the management contract model that Four Seasons uses. But Holiday Inn played in very different waters; it is very far from the luxury model that Sharp executed.)
At any rate, I’d argue that Sharp didn’t really have a framing problem for the events of this case, the way that some of the prior cases that we’ve examined did. Despite how difficult it was — and, to be clear, it was extremely uncertain and scary — Sharp stuck to his core strategy. He defended rates, tried as much as possible to stick by his people, and positioned the chain for default survival. Even the events of Covid-19 — in some ways far worse than any of the recessions covered in this case — saw new tactics but all within the core frame of this playbook.
(In fact Four Seasons actively turned people away in the post-COVID, revenge-travel period.)
Think of this case as a look into how an excellent businessperson learnt to deal with recessions, in one of the most cyclical industries known to man.
If he could figure it out, we can all probably figure it out too.