There are only two ways a revenue manager can impact the profitability of a hotel. The first is to capture guests that need overnight accommodation at the destination, and the second is to sell more to each guest. The traditional KPI for capturing guests is occupancy. The traditional KPI for selling more to each guest is ADR. However, a better KPI reflecting selling more to each guest is average guest spend. The more revenue the revenue manager captures on the market, the higher the profit. Revenue is the primary driver of profit in the hotel industry.
Revenue managers should focus on the traditional KPIs as long as the hotel's market share is lower than the fair share of the market. Then, a revenue manager would bring in more profit to the hotel's bottom line for each additional room sold and for each extra dollar in ADR.
Profit maximization
For revenue managers with the luxury of a higher market share than the fair share of the market, it is time to start thinking about profit maximization. There are a few areas where profit maximization makes sense.
Displacement
Displacement is an extensive, invisible cost in all hotels. Hoteliers are happy that they sold many rooms and achieved a high occupancy. That thinking is the heads-in-beds philosophy, and very few think about if they captured the right guests at the right rate. There are two types of displacement. The most obvious one is that the hotel accepted a guest paying a lower rate and did not have any more rooms to sell to guests willing to pay a higher rate. If hotels register all requests they deny, they will collect valuable information they can use for future decisions. Revenue managers should prioritize displacement analysis, but few hotels cannot get this right. The loss of revenue in turning away higher-paying guests is substantial, so the impact on profits can be huge.
The other displacement type is when hotels sell rooms at a lower rate than the guests are willing to pay. Few revenue managers understand the guests' willingness to pay, so many revenue managers trust that their comp sets understand and follow the competitors' rate changes. Instead of trusting competitors, revenue managers should be proud of their hotels' attractiveness and close the gap between the guest's willingness to pay and the selling rate. It isn't easy to track the willingness to pay, but revenue managers should increase their knowledge about this. Charging $10 less than the guest would be willing to pay substantially impacts profit. In a hotel selling 50,000 rooms per year, it would be half a million dollars.
Customer acquisition cost
Many hotels do not manage the customer acquisition cost or only partially. Hoteliers tend to complain about high commissions paid to the OTAs, but they do not measure the actual costs for direct bookings, including their labor costs. The only way to maximize the net revenue or contribution is to fully understand and manage customer acquisition costs. By focusing on net revenue instead of RevPAR, the revenue manager will contribute to maximizing profits.
Once the hotel can analyze the customer acquisition cost, the revenue manager can shift the channel mix to a more favorable mix from a profit perspective. It is a difficult task since if a shift in the channel mix leads to fewer rooms sold at a lower ADR, it will negatively impact revenue and profit. If the revenue manager closes an expensive distribution channel, another less expensive channel must produce the rooms. If not, the hotel will lose revenue.
A revenue manager actively managing the customer acquisition cost, estimated to be between 15 % and 25 % of total room revenue, could decrease the cost by a couple of percentage points. For example, a hotel selling 50,000 rooms at an ADR of $250 would have a room revenue of $12.5m. Every percent is $125,000.
Variable costs
The variable cost of producing a hotel room (cleaning, laundry, amenities, etc.) varies by the room type, the type of guest, the number of guests, and the length of stay. The cost will be higher for a large room type, with a family of four with small children that stays one night, than for a single business traveler staying in a smaller room for three nights. Ideally, a hotel would like to have the right type and number of guests in the right room type for several nights. However, that is not what reality looks like. The demand for overnight stays varies, so hotels will have a mix of guests and therefore have a different cost to produce the room.
Revenue managers must be aware of the cost differences in producing hotel rooms to set the correct room rates for the different types of guests, number of guests, room types, and length of stay. The various costs also come into play when selling upgrades. Pricing upgrades must consider the extra cost of upgrading for the room type, type of guests, number of guests, and length of stay. For example, if the extra cost to produce the room is $25, the price for the upgrade must at least cover that additional cost. Another aspect is when hotels overbook lower room types and have to upgrade guests. Automatically upgrading rooms can harm expected profits unless the revenue manager knows the production costs. With all these aspects, knowledge about cost differences would be a good starting point for maximizing profitability.
Let's assume that the variable cost range for any typical room type, type of guest, number of guests, and length of stay is between $25 and $40. The savings by optimizing revenue to production costs are a maximum of a couple of dollars per room. With extensive knowledge, a lot of work, and system support, the revenue manager can save $100,000 per year.
Capacity costs
Another aspect is capacity costs that increase in steps. Let's assume that each maid cleans 16 rooms per day (30 minutes per room), so if the hotel sells 16, 32, 48, 64, 80, or always additional 16 rooms, the maid's time will be used optimally. If the hotel sells an additional room above the 16 rooms, the cost will likely be much higher (an extra maid, overtime, etc.). Revenue managers must learn about the capacity steps and the additional cost of moving up a step in capacity. If the demand is limited, selling fewer rooms (only 16) at a higher rate than a few extra rooms at a lower ADR is better. The hotel's occupancy would be lower, but the profit would be maximized.
Thinking about capacity costs could also help plan check-ins and check-outs. For example, if the guest stays longer, there is less check-in and check-out. However, revenue managers should not consider this since the hotel should digitalize the check-in/check-out process to maximize service and minimize labor costs.
Selling the right capacity instead of maximizing RevPAR might save the production cost for 5 % of the sold rooms. For example, 2,500 rooms at $25 save $62,500 per year.
Selling other products and services
Revenue managers that sell packages must understand the cost of each part of the package. A simple example is that revenue managers must understand the cost of serving breakfast if the hotel sells rooms, including breakfast. Other packages are more complex and need more profound knowledge about costs. If a hotel can sell additional products and services, understanding which costs these additional products and services incur, hotels can increase total profits. Maximizing the revenue per guest requires deep knowledge about guest needs, willingness to pay, and the cost to deliver additional products and services.
Final reflections
Many hotel revenue managers would like to become profit managers. It is a great ambition, but as shown above, the fastest way to increase profits in a hotel is to increase occupancy and ADR. Once a hotel cannot capture more of the market, the next step is to manage displacement and customer acquisition costs and fully understand the variable costs for producing the room night.
The responsibility of a hotel revenue manager is not to maximize profits. It is to capture the demand so that operations can maximize the profit on the revenue that the revenue manager delivers. Therefore, the revenue manager cannot be and should not be responsible for labor scheduling, purchasing, food waste, operational expenses, etc. However, revenue managers can excel in delivering a better mix of revenue, managing displacement and customer acquisition costs, and learning more about production costs.
