Revenue Management Be Damned

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The economics are one factor, albeit very significant in determining if a hotelier reduces his or her rates slightly or drastically. One must not forget two other pieces of the decision-making process. First, there is spin-off revenue from guests in food and beverage, spa and other income generators, particularly in resorts. But, having guests creates work, and it keeps our loyal staff employed. It is easy to dismiss offering lower rates, having lower occupancy and maintaining RevPar. But, having our staff work as close to 40 hours per week so they can provide for their families is a responsibility we hoteliers have. Lowering rates may affect RevPar, but having staff working a full week, allowing them to pay their rent and have food on their table and buy shoes for their children is, to us, as important as all of the economic factors put together. Most staff, unfortunately, are living from pay check to pay check. Cutting off their income stream, because of a RevPar statistic seems insensitive in these difficult economic times. The staff make or break the success of every hotel. We need to support them in any way we can; if lowering rates keeps them fully employed, then so be it!

I certainly agree that lowering rates simply based on competitor actions is dangerous – but unfortunately, the term “discounting” as used in this study is practically indistinguishable from another, harmless and in fact vital practice: pricing. The result is that when revenue managers and GMs read the titles of articles such as “Why Discounting Doesn’t Work” (the original article by Enz, Canina, & Lomanno), which would be more appropriately titled “Why Undercutting Doesn’t Work,” many are mistakenly hearing the message “hold rate, don’t lower prices.” If you read this series of articles you will see that the research shows negative impacts to RevPAR from undercutting competitor prices – NOT from lowering rates or offering promotions. Unfortunately with the exception of this most recent article, this detail has been glossed over and has led to a lot of misguided assumptions - such as calling into question the value of Revenue Management. Additionally, the study uses ADR as a proxy for rate, which while much more accessible for research purposes, can be subject to a good deal of unrelated factors and creative accounting. For the record, the cited study in no way discounts the value of revenue management – in fact it says that “In a survey of over 30,000 hotels … hotels that priced above their competition were most effective at revenue management.… Good revenue management is essential.”

Most hospitality professionals strike me as appallingly naive in their attitude that we are all in this together and that hotels tend to have the same overall pricing/operations strategy. What most of you unfortunately ignore is the following: 1) Most guests are content with limited service properties. 2)This popularity has led to a boom in the limited service segment, with a wide variety of brands that have very few distinguishing features when it comes to sleep quality (our primary commodity). 3) If I am well capitalized and can cover my debt payment on a limited service property, while also lowering rate, then I may gain a substantial short-term benefit over my neighbors. 4) As other investors struggle to keep up with me, they will likely default. 5) If I am well capitalized, then I will likely see a buying spree on the horizon and can increase my market share. 6) Future pricing is no longer as much of an issue if I control the market. So I tell the analysts "ok, let's keep prices high," but I lower mine anyway. Why is this so difficult to understand?

Of course F&B and meeting room rentals need to be factored into room rate determination. According to AH&LA however, 88% of hotels (in the US) contain 150 rooms or less. On average (per PKF) these limited service properties are currently offering rates over 10% below those of a year ago. That's not sustainable. For most properties, a price increase (yes, increase) makes as much or more sense in the short run (and long run) than does a rate decrease. Ask yourslef; would you really leave a hotel you loved if the rate went up $2.00 per night? Those hoteliers who sell by rate alone attract a customer who is drawn to rate alone (and who will leave you when another property reduces its rate). Jeff, the reason that rates will indeed take a couple of years to recover will have more to do with customer perceptions of value (if it was worth $99 yesterday, it's not worth $159 today)than the economy.

No one seems to refer to total hotel Revenue when debating Room rates and discounting. Discounting to attrack group demand that comes with thousands of dollars of F&B revenue should not be subordinate to rate strategy alone. There is something to be said for increasing demand with lower rates and REVPAR if it has a positive overall margin contribution, or GOPAR. That's what the conversation should include. Take off the blinders.

Over the long term, up until 9/11 the average elasticity of demand for hotel accommodation in the US was about 1 according to PWCoopers’ calculations. In the last downturn, elasticity fell to 0.2 and 0.5 for the post 9/11 years of 2002 and 2003, respectively and recovered gradually thereafter. The point is that in the last downturn (2002-2004), price was not the issue, as people were afraid to travel. So, of course, cutting prices would result in lower revenue. Now, however, we are in a completely different environment where price is very much the issue, as businesses cut travel budgets and individuals see their income and wealth diminished. Although it’s too early to tell, it’s very likely that elasticity is going up now which could justify cutting prices to stimulate demand. What may have been true for the overall industry in the past, is not necessarily true for individual hotel properties at the present time. It’s simple Economics 101, if the demand curve shifts downwards (which is happening now) and supply remains constant (it’s difficult to adjust supply dynamically in a hotel market), price will fall. Also cross-elasticity at the property level has to be taken into account. If other hotels in a competitive price-conscious market cut prices, and you don’t, your hotel may be left out in the cold, especially if the competition has the available room capacity to accommodate dwindling demand in the market. The lower overall occupancy goes, the more it becomes necessary to cut prices in order to capture room nights.

Jeff: After 30 years studying the idustry, I believe that GMs will continue to emphasis rate despite the fact that reducing rate does not increase room demand as long as owners and real estate professioanls value hotels based upon thier Revenue genration (RevPAR) rather than GOPPAR. The supposed logic of significnat price reduction in a downturn is based on three main assumptions: •Reducing price will increase buyer demand •Prices can be easily returned to their higher levels when the economy improves •The reduction of prices will help profits now and will cause no long term damage to the profitability of the business In fact, these assumptions are rarely met because in nearly every case: •Reducing price will not typically increase hotel room demand in a down economy •Widespread communication of reduced prices makes it difficult to restore a buyer’s belif in the legitimacy of the hotel's previous price structure •Short term price reductions cause significant long term damage to the reputation and profitability of well-managed businesses In fact, if you do the math, in most cases, a price increase during a recession makes more sense than a decrease. Oh. Well........... A last thought. What other thriving indsutry has reduced its prices by the same % during this difficult economic time? I rest my case. David Hayes,Ph.D. dhayes@pandapros.com