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Revenue Optimization:

Sophisticated revenue management systems, complex demand forecasting models, and new
distribution channels have evolved to become an integral part of hotel operations.
But are hotels still leaving money on the table?


By Jim Burney
October 17, 2011

When I first started in this business in 1975 in U.S., there were primarily three categories of rates we worked with, adjusted up or down based on the season. (i) Rack Rates (ii) Negotiated Rates, and (iii) Open Rate (offered randomly and typically used for selling off surplus inventories).

Early 90's saw the introduction of rate quotation modules and dynamic pricing - yield management concepts borrowed from airline business. In later part of 1990's these modules improved after realization that borrowed airline yield principles cannot simply be plugged into the hotel business.

THE PARADIGM SHIFT

Rate management and pricing strategies experienced a transformation with the dawn of online distribution and OTA channels.

At first Internet was considered an alternate channel to sell excess inventories and the OTA portals - a new breed of whole sellers to achieve this goal. Hotels assumed they could continue charging higher rates on their mainstream channels and leave the sale of excess inventories to the newly discovered alternate channel of OTA. Hence hotels even chose to offer higher rates on their own direct booking engines and leave the discounted selling to 'third party' OTA channels. Wholesale 'net rates' with deep wholesale discounts were offered to OTAs and OTAs given absolute control of retail pricing, as was the practice with traditional whole sellers.

As OTAs started to deliver bookings they were hailed as the best thing since sliced bread. The great recession following September 2001 tragedy made OTA channels heroes and saviors of the industry.

THE IMPACT

I credit the resulting chaos to lack of hotel understanding of the newly discovered distribution medium. Over the next few years hotels realized their mistake – OTA model was not a wholesale model and therefore did not behave in that manner.

Hotel pricing was in disarray. Hotel's published rates were all over the board. Rates on OTA portals were lower than even the hotel's negotiated rates. This rightly upset the hotel's client base and diminished their trust and loyalty. Large segment crossovers to OTA channels made OTAs extremely powerful distribution players. OTA profits and valuations hit the ceiling while hotel profits headed south.

A pretty unfair and unpleasant state of affairs from the hoteliers' perspective - “We take all the risk, work hard, put in long hours, yet the profits end up in the pockets of others.” was a common complaint among hoteliers. Hotels required an immediate fix to this unacceptable situation.

THE QUICK FIX

Something needed to be done. Hotels realized they had a tool for neutralizing the impact of OTAs - their own direct booking engine. And, the quick fix was to offer the lowest rate and 'Best Rate Guarantee' on their website, thus tilting the balance back in their favor.

THE COMPROMISE

The key USP of an OTA model is comparison shopping and cheap rates. Take away cheap rates from the model and it turns into a 'Look' instead of a 'Book' portal. While OTAs understandably could not accept this change, hotels could not stay with the status quo. Given the OTAs distribution clout, a compromise was desperately needed.

The compromise: 'Rate Parity' - all channels including the hotel's online direct booking channel would offer the same rate on all websites.

THE BAR RATE

A new rate category emerged – 'The Bar Rate' or 'Rate of the Day' generated typically by sophisticated revenue management systems that crunched large information and used forecasting models to provide the optimum value a room should be sold at. This became the BAR RATE of the day.

THE RIGHT SOLUTION?

Most industry professionals, 'experts' believe Rate Parity to be the great equalizer. Channels compete on different 'value add' they bring to the customer and price is taken out of the equation. Many even question the utility of 'Rack Rates' which has “become an imaginary rate the room is never sold at”.

RACK RATES
In the pre-internet days Rack Rates served two purposes. (i) The highest rate quoted which as the 'experts' suggest has become irrelevant and, (ii) To establish a higher perceived value and a proper image of the hotel's class and service.

The latter is still important for selling rooms. If we agree that the Rack Rate can contribute toward building a higher perception of the hotel then Rack Rates still play a role in our present environment.

RATE PARITY

It is true Rate Parity delivers an equal playing field and negates the rate problems of the past. However, in doing so it short changes hotels by taking away the ability to sell surplus inventories online, rooms that otherwise remain unsold.

I do not suggest Rate Parity should be eliminated. And irrespective of all the grief hotels have with OTAs, OTAs have become part and parcel of every hotel's distribution system. What's needed is complementing distribution models that do not disturb the Rate Parity structure and help hotels solve the challenges of selling surplus inventories.

CHALLENGES

The first challenge to selling unsold rooms is to accurately forecast the number of surplus unsold rooms on any particular day (up to 4 – 6+ weeks out). Revenue management systems or even good PMS that factor in the historical booking trends in their forecasting can provide this information.

Next challenge would be to determine the elasticity of demand - how much of a rate drop would be required to trigger an increase in demand. This would help determine a price point hotel may choose to let go of the room. Hotels may build multiple price points so “tiering” up of rate may be achieved as surplus inventories get sold. Such information could be derived from improved revenue management systems. Failing that, it may need a trial and error process until a trend is tracked and established. Or, inclusion of models like Travelsurf's 'Your Choice @ Your Price' and Priceline that can help measure demand elasticity for hotel and the region over time.

Next challenge would be to block off potential segment crossovers by building rate hurdles around the rate and thereby creating a different product than that sold on mainstream channels. Non-refundable, non-changeable, non-cancellable, advance booking requirements, minimum multi night stays, and other hurdles may be incorporated with the product that best isolates the surplus segment.

And last but not least, find distribution models that can sell rooms online at a lower rate without affecting the Bar Rate. There are very few models that can do this.

USEFUL MODELS

Given the importance of Rate Parity, the best way to sell surplus inventories is via opaque models so the Bar Rate stays intact.

There are three types of opaque models in the market:

(i) Priceline's 'Price driven' model where both the hotel and its price is opaque,
(ii) Travelsurf's 'Value driven' model 'Your Choice @ Your Price' where only the price is opaque, and,
(iii) The Package model.

In Priceline model the user offers a price for a certain category of hotel (like a star rating) in a particular area without knowing which specific hotel may accept his offer. And hotels that meet the criteria may choose to accept the offer.

In Travelsurf's 'Your Choice @ Your Price' model user understands the value proposition of each property, by reviewing the hotel information, its location, etc before picking a short list of hotels and offering different prices for each of the hotel on his list. The user may make dissimilar offers for each of the hotels based on the value to the user (quality, service standards, brand, distance from a particular location, star rating, etc) and identify his preference in case more than one hotel accepts his offer. Hotels can make a counter offer to user if user's offer is lower than the hotel's minimum acceptable price point. Each hotel offer is based on the value to the user rather than simply the price.

The third method of selling opaque is by packaging the room with other services and thereby hiding the discount. However, there are limitations with such an approach. First, a match is needed (package vs. user needs) for the user to benefit, limiting the demand for the product. Second, the hotel has no opportunity to dynamically increase its potential yield from the sale as demand changes.

Rate in the package model is preset, while in Priceline and Travelsurf models it's the user who makes the offer, hence the potential for getting a higher offer than hotel is willing accept.

CONCLUSION

Empty rooms do not generate revenues. Publishing discounted rates online is a sure road to disaster. Competing on discounted published price (as with Flash Sales) is bad for the industry and ultimately results in brand erosion. Hence, opaque models are best suited for selling surplus rooms. Since these bookings are final sales with advance payment, it also has a positive impact on the hotel's cash flow.

To get optimum returns, RM systems need to add a new segment for surplus opaque priced rooms and quote a separate Bar Rate (a confidential minimum acceptable price point) for it. An optimum balance between the two Rates needs to be established. While traditional Bar Rate could be generated once a day the opaque Bar Rate (the minimum acceptable rate) needs to be calculated and updated multiple times during the day. Without this approach hotels will still be leaving money on the table.

You may contact Jim Burney at jburney@travelsurf.com.


Contact:

Jim Burney
jburney@travelsurf.com


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