by Patrick Quek

By year-end 1997, U.S. hotels are projected to achieve their fourth consecutive year of double-digit growth in operating profits.  Certainly, the ability to grow room rates at two to three times the pace of inflation is the main driver of these rising profits.   However, we also note that the amount of money spent to operate a hotel has also been increasing at nearly twice the pace of inflation.

Based on operating statements collected from 2,800 hotels across the nation, PKF Consulting’s 1997 edition of Trends In The Hotel Industry found that the average U.S. hotel achieved an operating profit of $9,804 per available room in 1996, a 16.3 percent increase over 1995.  This number is projected to grow another 15.5 percent
 

Efficient Economics In Operating Departments

Business classes throughout the nation teach the concept of “economies of scale”.  With national occupancy levels in excess of 70 percent, the fixed expenses of operating a hotel are more than well covered.  Therefore, the expenses incurred servicing any incremental occupied rooms are solely variable in nature.

The hotels in the 1997 edition of Trends averaged an 8.5 percent increase in average room rates from 1995 to 1996.  During this same period, expenses within the rooms department grew only 6.0 percent per occupied room, resulting in a 9.3 percent increase in departmental profits.  Payroll and benefits, which account for over 64 percent of the expenses of incurred in the rooms department, grew 4.6 percent per occupied room.

In the food and beverage department, the increase in profitability was even more dramatic.  Measured on a per available room basis, food and beverage department profits grew a staggering 17.9 percent from 1995 to 1996.  The resulting 23.3 percent profit margin in the food and beverage department is the highest level of profitability seen in years.

One of the changes in the ninth edition of the Uniform System of Accounts for the Lodging Industry was the separation of the reporting of departmental expenses for the food and beverage operations.  When looking at the two components separately, we see a slightly different story.  From 1995 to 1996, food revenue increased at a higher rate than the direct expenses associated with the food operations.  On the other hand, the growth in beverage expenses surpassed the growth in beverage revenue.  On a dollar basis, beverage still provides more money to the bottom line, although food outlets are rapidly improving their profitability.

Staffed Out

In 1996, payroll and benefit costs grew 4.5 percent to an average of $11,344 per available room, or 32.4 percent of a hotel’s total revenue.  The 32.4 percent mark is the lowest ratio of labor costs recorded since 1985.  It’s also noteworthy that 1996 represented the third consecutive year of revenue growth in excess of payroll growth, as well as the third consecutive year of a decline in the percentage growth of payroll.

Another by-product of high occupancy levels is that fact that hotels have “maxed out” their need for staff.  Given the difficulty of booking more rooms when you are already running 80 percent occupancy or greater, the need for a hotel to bring on more staff is limited.  This curtailment in staffing is a contributing factor for the decline in the growth of payroll costs.

Sharing The Wealth

The only expense line item showing significant growth was the fees paid to management companies.  Management fees grew from 3.2 percent of revenue in 1995 to 3.4 percent of revenue in 1996.  This equates to a 14.2 percent growth in fees paid on a per available room basis.  Given the recent trends to management compensation through incentive fees, it is not surprising that management fees would be rising, given the record growth in profitability.

Budgeting For 1998?

The first step in the budgeting process is usually a projection of revenue based on a marketing plan.  Once the levels of revenue are agreed upon, the expenses are then projected, typically on a department-by-department basis.  While historical expense ratios are the traditional method used to estimate these expenses,  recent history has proven that hoteliers might be wise to dust off the old accounting book and re-read the chapters on variables expenses and economies of scale.  Conservative expense projections are the norm, but projections of lower expense growth may lead to a more accurate projection of greater profits.

Don’t be afraid to spend more money.  It might just make you more money.

Patrick Quek is president and CEO of PKF Consulting, an international hospitality consulting firm headquartered in San Francisco.

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