What conditions must be met to appropriately apply Revenue Management

 

 

As we mentioned in our “What is Revenue Management? ” article, Revenue management is the process that, through systematic application of analytical tools, helps us allocate right room, at the right price, at the right time to the right customer with the objective of maximizing hotel revenue.

There is no question that Hotel owners prefer to sell their rooms at high prices. After all, they made sizable investment to build and operate their property. Unfortunately, this is not always possible. If prices are kept too high, the hotel risks not selling a large portion of its’ rooms. On the other hand, if prices are kept too low, occupancy may increase, but at the expense of revenue. And once the hotel is full, there will be little opportunity to increase room income. The trick is, as the previous definition states, to allocate the right room, at the right price, at the right time, to the right customer.

Revenue Management theory tactically utilizes supply and demand principles to define the right allocation of rooms, price, and timing for each customer segment. However, for it to work appropriately the following conditions must be met:

  • Relatively fixed capacity
  • Perishable inventory
  • Ability segment markets
  • Possibility of forecasting demand

The hotel industry meets these requirements perfectly. It has the ideal Revenue Management conditions. Hotels have a fixed number of rooms to sell; and these rooms are also perishable. You may not have thought about it but when a room goes unsold on a given night, there is no possibility of making back that revenue in the future. It is gone forever. Additionally, markets can be segmented, demand can be forecasted, and different segments are willing to pay different prices for the product depending on circumstances.

Below you will find a more detail explanation of the above-mentioned conditions:

Fixed capacity

Merchants of goods or services with greater flexibility in adjusting production can react quickly to changes in demand. For example: A baker who estimates an increase in demand may produce more bread and earn more money. If the same baker estimate a decrease in demand he/she can produce less bread, saving production costs. On the contrary, when we speak of goods of fixed capacity, sellers have very little flexibility to adjust the number of goods offered. Hotels have a relatively fixed capacity. Once a hotel is built, it is very difficult and expensive to increase or decrease the number of rooms available for sale. This forces Hoteliers to manage capacity and optimize pricing very carefully to maximize their income.

Perishable inventory

Perishable inventory refers to inventory that expires relatively quickly. It can be sold only within a limited time frame. Because of this, to maximize revenue (or prevent loses), those who trade in perishable goods must manage capacity very diligently and apply dynamic and aggressive pricing strategies. If a merchant sells iPhones and today he/she was not able to sell all the inventory, he/she can always do it tomorrow. However, a farmer who sells fresh lettuces on Sunday´s farmers market will not be able to sell them the following Sunday. On a hotel, at the end of each night unsold room are lost. The room does not disappear, but the opportunity to sell that specific room-night was lost forever.

Possibility of client segmentation

Customer segmentation is one of the most important pillars of revenue management. Good revenue management application requires the design and implementation targeted strategies and actions per segment. Two typical hotel customer segments are business and leisure travelers. In the “What is Revenue Management? ” article you can find more details on this example.

A successful segmentation strategy requires a lot of study and deep knowledge of the customer. It´s important to understand their consumption patterns, likes, preferences, etc. This knowledge enable the creation of targeted products and offers for each segment. For example, customers may be segmented by their ability to pay. Hotels quickly recognized that consumers in certain segments would pay more for rooms with a better view, such as sea or mountain views and other unique features of their location; larger rooms or unique ones. Patterns or travel times are another way to do it.

Possibility to forecast demand

Forecasting demand is also a key part of good revenue management. Understanding high and low demand periods helps adjust pricing to counteract them. Almost all hotels experience low and high seasons. Specially hotels in resort markets.

As the demand for rooms increases and the supply of rooms decreases, opportunities for charging higher rates emerge. Too many hoteliers set a fixed rate for the year and then panic when occupancy is low and Is too late to react. Hoteliers should be analyzing demand, competition and future market conditions at least six months to a year in advance and adjust pricing upward or downward for the different segments to optimize that demand. When forecasting future reservations remember to review historical data, future holidays and vacation periods, events and convention calendars, etc.

There is little room for guesswork when planning your sales strategy. Revenue management can benefit almost all hotels. Know your customers and adjust rates and promotions based on demand forecasts and data analysis. By doing that you can have more profits and provide better customer service.

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