Yield Management to Maximize Revenues

The objective of yield management is simple; maximize revenue given a finite, and often perishable, inventory.  However, the successful execution of yield management in hospitality is not as simple as it might sound.  Managing yield requires constant strategy management and a nimble approach to managing the process of selling the right service to the right guest at the right time at the right price.

For the sake of this Hospitality Gem, let's focus on yield management for hotels and restaurants.  Glenn Withiam of Cornell University College of Hotel Administration published an excellent study of yield management in which he identified four yield management levers management utilizes to adjust the business to maximize revenues called the  "Four C's"; Calendar, Clock, Capacity and Cost. 

• Calendar:  There are certain days, weeks or seasons that are more valuable than others.  For restaurants, Valentine's Day and Mother's Day are highly valuable.  Most resorts have rates that vary based upon seasonality, such as a ski resort in Aspen that doubles their room rates during the winter ski season. A key element to managing the calendar is demand forecasting.  Both restaurants and hotels should use historical data coupled with current occupancy and demand variables to accurately forecast demand which, in turn, affects Cost.
• Clock:  Timing is important in matching inventory to guests' desires.  Some bars and restaurants increase business during off-peak dining times with happy hour specials or late night dining discounts.  Hotels watch "the clock" to ensure unsold rooms get filled as vacant nights approach.  Additionally, managing the clock duration a guest utilizes a particular service (spa, restaurant, room check out time, etc) is an important yield lever to monitor and control.
• Capacity:  Hotels have a limited number of rooms and restaurants a finite number of seats.  Restaurant capacity management is a bit more difficult than hotels since a time variable is introduced in which the amount of time a guest occupies a table and the number of times a table turns over (seats a new dining party) varies and affects overall seating capacity while hotel room capacity remains fixed.
• Cost:  Cost is a yield management lever that is used to match pricing to current market conditions and target demographic to drive revenue based upon several factors including elasticity of demand.  Cost is more frequently used in hotels to maximize occupancy rates rather than restaurants since the menu prices don't typically fluctuate from day to day.

Let's be clear that yield management is much more than simply adjusting prices to generate more bookings.  Yes, utilizing the Cost lever of yield management does sometimes involve discounting, but discounting without considering the three other "C's" is entirely the wrong approach since the outcome focus inappropriately shifts to capacity maximization and away from revenue maximization.  For a more detailed understanding of discounting, see my previous Hospitality Gem "Why Hotel Discounting Doesn't Work".

Since Calendar and Cost are somewhat fixed yield levers for restaurants, they would do well to establish service standards that focus on controlling the Clock lever to optimize Capacity.  These are actually related since restaurant capacity can be dramatically increased by turning tables more frequently.  By establishing timing standards for product delivery, restaurants can more efficiently turn tables and increase the volume of guests that can be served.  For example, service standards that dictate appetizers are delivered to the table within 8 minutes of the order, the salad course delivered within 5 minutes of the appetizer being cleared, entrees delivered within 7 minutes of the previous course being completed and desserts delivered within 7 minutes of the last entree being cleared will decrease table turn times and increase revenue while not rushing the guest's dining experience.

For hotels, it is important to ensure the Hotel Operations department works closely with the Marketing department to effectively identify, segment and market to guests who are price motivated.  By identifying and segmenting price sensitive and price insensitive guests, hotels can employ a yield management strategy that maximizes revenues by filling available inventory to higher value price insensitive guests and back filling unsold inventory to price sensitive guests who may be more flexible with their Clock or Calendar demands.

I once had an employer who constantly focused on outcomes, outcomes and outcomes.  Yield management is cut from that same line of thinking.  Focus on your core outcome, which is maximizing revenue, and let that revenue focus drive yield management decisions.  If you consistently pull the right yield management levers at the right time to sell the right inventory to the right guest you'll be delighted to see the positive results on your next P&L statement. 

What did you think about this Hospitality Gem? Have you identified the "Four C's" that you can manipulate to manage your yield and maximize your revenues? Please leave a comment below or feel free to contact me at davidknight825 @ yahoo.com with your comments, queries or feedback!

Why Hotel Discounting Doesn't Work

 Cathy Enz, Ph.D. and Linda Canina, Ph.D. of Cornell University's School of Hotel Administration conducted a study that compared hotel data from 2001 to 2003 and a second study utilizing 2004 data to answer the question of whether or not discounting room rates will increase RevPAR.  Will a hotel make more money by discounting their rates to increase hotel occupancy or will it make more by maintaining price integrity and not lowering rates knowing that hotel occupancy rates will decline as a result?

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RevPAR is an acronym that stands for Revenue Per Available Room and is defined as:

"A performance metric in the hotel industry, which is calculated by multiplying a hotel's average daily room rate (ADR) by its occupancy rate. It may also be calculated by dividing a hotel's total guestroom revenue by the room count and the number of days in the period being measured." (from Answers.com)

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In other words, RevPAR is a measure of how much direct rooms revenue is generated given a finite amount of inventory (rooms available to rent) expressed as a nightly rate.

As a simplified example, a one hundred room hotel that is 100% booked and charges $150 per night will have a RevPAR of $150 (See blog post Is RevPAR the Best Measure of Performance? for more information).

Logic would lead one to believe that a full hotel at a lower rate would generate more revenue than a partially empty hotel that is charging a higher rate, especially since comparable hotels with lowered rates are stealing market share from the same category hotels with higher rates. But is this really true?

The study, Why Discounting Still Doesn't Work: A Hotel Pricing Update, was conducted in cooperation with Smith Travel Research (STR) and gathered data from 6,913 comparable hotels between 2001 and 2004. The study, via extensive research concluded that, regardless of volatility (hurricanes, 9/11 terrorist attacks, recession, etc.) in the hotel industry, while discounting does indeed increase occupancy rates, overall revenues are actually higher in hotels that do not discount despite having a lower occupancy rate.

The study states that when a comparable hotel decreased their rates below that of their competitors, their occupancy rates did rise above those that held steady with higher rates.  However, the revenue generated from increased occupancy rates due to the lower nightly rate did not result in a higher RevPAR than those that did not discount. Conversely, it held true that those that held their rate integrity actually produced higher RevPAR (compared to those that discounted) despite a decreased number of occupied rooms.

How is this possible? Let's take a look at a simple example with Hotel A and Hotel B who compete in the same competitive set, have the same number of rooms and initially charged the same room rate.  Here's the setup:

# Available Rooms: 100
Original Room Rate: $150
Original Occupancy Rate: 90%

If both Hotel A and Hotel B had the above starting data, their ADR would be $135.

Now, let assume a negative market condition exists, such as a recession, and occupancy rates started to fall. As a result, Hotel A decreased its room rate to $100 and was able to capture enough market share through a lower price and stealing market share from Hotel B to completely fill the hotel to 100% occupancy .  Hotel A's ADR would then be $100.

Hotel B, who maintained their $150 per night room rate experienced a decline in occupancy rate due to market conditions then exacerbated by potential guests opting to book at the lower priced, comparable Hotel A. Let's say the occupancy rate declined from the original 90% to 75%. Even though 25% of Hotel B's rooms are empty, by not discounting their room rate they still maintain a higher RevPAR ($112.50) than Hotel A, who did discount.

For this example, if we look at straight top line room revenue after discounting, Hotel A generated $10,000 in revenue for one night fully booked with 100% occupancy at $100 ADR while Hotel B generated $11,250 in room revenue by maintaining price integrity at $150 but suffering from a 75% occupancy rate.

So according to Cornell University's study, discounting doesn't work. But can we make that blanket statement and have it be true in all cases every time? I assert that there is some room for discounting and still maintain a certain level of top line room revenue, but very little discounting.

The way I see it, hotel Revenue Analysts whose properties participated in the study were either asleep at the wheel or couldn't convince hotel executives that having empty rooms isn't necessarily a bad thing. The news around the water cooler that room rates were going to be reduced to increase occupancy rates should have sent the hotel Revenue Analyst running for her abacus to figure out the price point and occupancy rate at which discounting no longer becomes a competitive advantage.

The right information to give the executives who are determined to discount rates would be the analysis that charts room revenue relative to price movements and subsequent occupancy rates. Of course, the effect on occupancy rates would be a projected outcome that directly resulted from the decrease in room rate, but if tracked and adjusted diligently (daily or even hourly) it should be fairly accurate. Then the analyst should determine at what price point there is diminishing return. With this type of analysis in hand, executives would be better prepared to price rooms appropriately to maximize RevPAR rather than simply focusing on increasing occupancy rates.

However, given the study that tells us that discounting doesn't work, why would hotels even consider discounting? I assert that the top tier hotels who are able to sustain impeccable service levels and differentiate themselves on quality and perceived value do not need to discount at all.

This line of thinking was validated by a study the Four Seasons conducted as a result of the work Ms. Enz and Ms. Canina conducted. Four Seasons did not waver on price integrity. They did experience lower occupancy rates but was able to maintain revenue levels. Their secret? They found that by staying true to their company values and by providing the unparalleled service and quality for which the Four Seasons is known, discounting wasn't necessary. That is, after all, Four Season's competitive advantage.

The bottom line? For most hotels, don't be afraid of having a certain level of empty rooms because discounting doesn't work. My hospitality gem for you is to know exactly what "a certain level of empty rooms" means to your hotel and understand what discounting will do to your occupancy rate and resulting RevPAR before deciding to discount - or not discount!

What did you think about this Hospitality Gem? Do you see the value in maintaining price integrity?  Please leave a comment below or feel free to contact me at davidknight825 @ yahoo.com with your comments, queries or feedback!

Is RevPAR the Best Measure of Performance?

If your job is in any way related to the lodging industry, you've probably heard of RevPAR.  But do you understand how it works? And is RevPAR the best measure of operational efficiency and profitability? Let's take a closer look and give you food for thought to decide for yourself.

RevPAR is clearly one of the most used and most highly relied upon metric in the hotel industry today. RevPAR is an acronym that means Revenue Per Available Room and is essentially a measure of how much revenue was generated given a certain volume of available room inventory. This is different than the average daily rate (ADR) in that it is a measure that divides revenue by the number of available rooms, not the number of occupied rooms as ADR does.

The formula for RevPAR can be derived in two different ways.  The first formula is:

Total Net Room Revenue in Time Period

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(# Available Rooms * Days in Time Period)

 

 

Alternately, RevPAR can be calculated as follows:

 

ADR x Occupancy Rate

 



Let's walk through an example. Assume the following:

 

Total Rooms in Hotel: 1,000

ADR (for time period): $150

Occupancy Rate (for time period): 75%

Days in time period: 365

 

Applying the first formula, we first need to determine the Total Net Room Revenue for the time period as:

 

(((# Rooms * Occupancy Rate) * ADR) * # Room Nights in time period)

 

Such that:

Total Net Revenue = (((1,000 * 75%) * $150) * 365) which equals $41,062,500

 

Now apply known values to the first RevPAR formula such that:

 

$41,062,500

__________  =  $112.50

1,000 * 365

 

So for this example, the RevPAR is $112.50

 

 

If we plug the known values in to the second RevPAR formula we arrive at the same conclusion:

 

$150 * 75% = $112.50

 

Using the second formula, we validate the first calculation that the RevPAR is $112.50 for the given time period.

 

Traditional school of thought says that RevPAR is one of, if not THE, most important metric in the hotel industry because it is a measure of how well the property fills available rooms and at what rate.

In my opinion, simply looking at RevPAR as a measure of hotel performance can be misleading.  For example, one could easily mistakenly believe that a hotel with a RevPAR of $115.00 is performing better than the example we used above because clearly $115.00 is better than $112.50, right?  Well, not always. If the hotel with the $115.00 RevPAR only had 500 rooms then the bottom line revenue, and subsequently the income deposited to the owner's bank account, would be much less than our example hotel who's RevPAR was $112.50.

This raises the argument that, while RevPAR is a common benchmark for hotel yield management analysis at the individual property level, other metrics are actually more important in determining the operational performance of a property. Since hotel owners are ultimately interested in net profits and how much revenue is brought  to the bottom line, other metrics deserve some level of consideration when discussing property performance analysis.

Gross Operating Profit Per Available Room (GOPPAR) is one such metric.  It considers profit in relation to the number of available rooms, but also takes into account that a property may generate revenues from other sources such as golf, amenities, F&B, spa, etc. Shouldn't a property's operational performance include all revenue sources and not just rooms?  Many General Managers believe it should since significant expenses are allocated to generating non-room revenue and would give a more global view of a hotel's fiscal performance.  However, the biggest drawback is that unlike RevPAR, GOPPAR revenue sources would vary widely from property to property so an apples-to-apples industry comparison would be difficult at best.

RevPAR has its place in analyzing property performance to be sure. However, to develop a well rounded view of property operational performance, analysts should consider other metrics that speak more directly to the ultimate objective of most businesses - the net revenue dropped to the bottom line that affects stock performance and owners' bank accounts. Is GOPPAR part of that equation? It just might be, but that's for you to ponder.

What did you think about this Hospitality Gem? What metrics do you find useful when evaluating your property's operational performance?  I would love to hear how you got along with this Gem so please leave a comment below or feel free to contact me at davidknight825 @ yahoo.com with your comments, queries or feedback!