Avoiding Price Wars: Exploring Discounting and Strategies that Determine Your Rates
By Ahmed Mahmoud, Founder, revenueyourhotel.com
Price is the amount your customers pay for your product. Pricing is more than a number we calculate: it is the process of monetizing your social enterprise's value in the marketplace where it helps you to define your profitability, which has implications for the rest of your hotel reflecting in Revpar and GOP. At its core, good pricing strategy will reflect your enterprise's overall marketing and business strategy.
Since price directly affects revenues (price x quantity sold = revenue) and, therefore, profitability (total revenue - total costs = profit), a good place to start.
Although developing effective pricing strategies remains complex. It reflects the value of your product to your customers, but there's always confusion about all the different rates offered at a hotel. (Rack rates-BAR rates, Published Rate, Group rates, Corporate rates, travel agent and T/O rates, OTA rates, package rates, Limited time offers etc.)
You must ensure your rates make sense when you apply them to your customers. You must consider segmentation or seasonality, nationality, channel distributions, etc. You must decide who has the final decision on rates, consider which scenario could be best and make sense for your hotel profitability Example: Carrying 90% occupancy with $100 as ADR or carrying 50% occupancy with ADR of $180. In each situation the revenue is the same $16,200.
If we ask hoteliers, how did you arrive at your current rate strategy? We receive the following or similar answers:
- Our competition increased or decreases their rate by 5-10 % so we did also." So it is based on Competitive Pricing to raise the market share.
- Our costs increased by 5-10 % or whatever which might be renovation cost, so we needed to increase our rates.
- Our owners push us for more profit for his share, we have no other way except to increase or rates - and so on for several reasons and answers.
How scientific are the above answers?
- In the first case, a hotel would be following a competitor's rate strategy regardless of how good or bad it may be.
In the second two cases the hotel is really doing nothing more than maintaining their profit margin or allowing cost to drive their pricing strategy.
Another answer is "demand determines our rates". If this is your answer, consider this; Demand really determines what rate you are quoting within your rate structure or strategy.
The demand for your hotel will be determined by the attributes or features of your hotel and the appeal they have for a particular market segment traveler. If this is not true, then why does one hotel out-perform another in REVPAR? The answer is attributes, features or service. All of them create the demand for a hotel which in turn drives the rate which is quoted within the rate strategy.
Usually customers are always looking for ways to save money, so hotels that position there products in the premium price range may struggle. However, with the right rate strategy, you can charge customers more than your competitors. If you market your products as low-cost options, it's difficult to move up the price ladder without an aggressive marketing outreach and realistic differentiation between product offerings. The best approach is to launch your hotel product as a premium offering from the beginning, because it's easier to mark products down (and nearly impossible to mark them up) once they've been identified with a specific price point. One common rate strategy, Penetration pricing involves setting of lower rates, rather than higher prices. This will help achieve dominant market share. However it is only possible where demand for the hotel product are highly elastic. Therefore demand is price-sensitive and either you will attract new customers, or existing customers will return frequently to your hotel.
If penetration pricing strategy is implemented successfully, it may lead to large sales volumes/market shares, lowering the cost per unit. Economies of scale and experience lead to greatly reduced costs, which justify the use of the penetration pricing strategy to gain increased market share.
However, before implementing a penetrative price strategy, you must be certain that your hotel has the production and distribution capability to meet the anticipated increase in demand. Also, the impact of this strategy may force your competitors to reduce their prices. Probably nullifying any benefit of the reduced price, especially when your customers associate price with quality.
On the other hand there is a second common rate strategy called 'price skimming' which involves charging a relatively high price for a short time when a new, innovative, or highly improved product hits the a segmented market. The success of price-skimming is largely dependent on the inelasticity of demand for the product offering. High prices can be employed in the short term where demand is relatively inelastic.
The objective of employing a skimming pricing strategy is to enable you to benefit from high profits in the short term from your effectively segmented market. The advantage of the skimming pricing strategy is that your could build a high-quality image for your hotel's product and services. Initially charging high prices may allow you the luxury of reducing them when the threat of competition arrives (a lower initial price is difficult to raise without losing volume).
So what to do to choose the right rate strategy for my hotel, below are some tips you can follow:
- Define your hotel Value.
Help your customers understand why your prices are higher. Don't hide your price; instead, explain your value to the customer, particularly if you suspect your competitors are undercutting your prices, and you feel their lower cost equates to poorer quality or service.
- Identify your hotel as a unique product.
Identify the features, services, and quality that would be considered high-end on the value scale and then highlight those crucial elements in your marketing by using the 4Ps marketing tools (Product-Place-Price-Promotion) to resist the urge to offer a basic service level or baseline product. Stick with the premium level of service if you plan to maintain your premium pricing strategy.
- Don't Sacrifice Price, Even When Times are Tough.
Explain why your product or service is worth the investment, but be flexible for long-time customers. Do yourself a favor and make a list of the customers you are willing to be flexible with; then make sure your sales team is aware of the list. Give employees freedom to deal with customers, and make sure they know which customers get special treatment.
- Don't Play the Lowest Price War.
Weaker competitors are quick to cut prices to earn business and market share. Don't play their game. Many competitors will fail because they can't generate the cash flow to sustain this discounting strategy. Another disadvantage in playing the discount game is that this strategy is the fastest way to push your product or service into the commodity category. Some brands have carved out a distinctive market by not discounting their products. The challenge is to create and sustain a brand that supports your premium pricing strategy. One way to avoid a price war is to alert customers to the risk of poor product quality in the marketplace.
- Beware of the "downward spiral".
Hoteliers who myopically focus on cutting expenses to produce profit, without a substantial effort to improve top line revenue, are doomed to failure. Deeply cutting expenses will produce a good short-term result, but this alone, usually results in decreased service levels, driving away repeat business and dropping the top line lower. This creates a further need to reduce payroll and service levels even further, and the downward spiral continues. To break this spiral, a stronger sales effort is needed, using new methods to create better results. Memories of the good old days and how we used to do it years ago just don't cut it today. Living in the past, dooms you to failure in the future.
It's natural for hotels to focus on the weaknesses of their competition as a way to earn market share. However, the true measure of a premium hotel is that focuses less on what the competition does or doesn't do and more on selling and delivering value to its own customers.
The right pricing strategy doesn't mean you have to make discounts each time the demand curve goes down. This was the case during the economic downturn. Hotels turned on the discounting fire hose and sprayed out incentives to keep properties full and the lights lit. Now, as the lodging industry starts moving into recovery, revenue managers and pricing decision-makers need to step back, take a breath and turn that faucet to the off position.
Remember no matter how well the economy bounces back you'll still need to include discounting as an important component of your pricing strategies. Discounting is not going to go away. Even when the economy is going strong, you're still going to have weak days, low-demand periods and in crowded markets you'll face ongoing competition. Here are three principles to get started:
- #1. Segment Your Prices
Make sure your discounts are sufficiently racked and targeted so that you only offer discounts to customers to whom you want to offer discounts. In general, the hotel needs to get back to doing segmentation that drives value for the customer. Segmenting should be done in such a way that it provides customers with benefits they value, while rigorously enforcing the restrictions that come along with those perks.
- #2. Do the Home Work
Understand and estimate dilution and stimulation every time you discount. Even a rough guess is better than nothing. This is an especially important consideration for a lot of hotels that are on a pure franchise model that don't have a big headquarters staff to help them with backend analysis.
- #3. Maintain your commissions (Cost)
Unless you absolutely positively have to, don't pay big commissions to channel partners for unloading distressed inventory. Be creative and find a way to reach customers directly or bring them to a direct online portal without intermediaries.
All three of these foundational principles are simple. It takes emotional discipline, laser-focused strategic vision and a real belief in your hotel to have the courage to get started. Good discipline around basic discounting practices doesn't require a big investment. But once these practices are in place, investments in sophisticated pricing and revenue management software will bring even bigger payoffs.
Understanding your product and your customers should give you some pricing parameters. This depends on your market or niche, although there are many internal and external factors to be considered. When a hotel sets a pricing strategy, it is also what competitors are doing is th external factor. Can hotels determine their rates after directly discussing their rates with each other? The fact is hoteliers cannot meet directly "in collusion" to determine prices. It is against the law.
There is more than your competition in determining your pricing strategy. You must also consider:
- the condition of the country,
- the region,
- the world economic situation,
- your hotel location and environment
- the areas near by your hotels, whether it is attractive or not
- your pricing confidence
- your special service
- the business condition, and
- the distribution channels etc.,
Before you decide which pricing strategy you will follow, here are some of the factors that you need to consider:
How are you positioning your hotel in the market? Is pricing going to be a key part of that positioning? If you're running a discount strategy, you're always going to try to keep your prices as low as possible (or at least lower than your competitors). On the other hand, if you're positioning your product as an exclusive luxury product, a price that's too low may actually hurt your image. The pricing has to be consistent with the positioning. People really do hold strongly to the idea that you get what you pay for.
Calculate the fixed and variable costs associated with your product or service. Remember that your gross margin (price minus cost) has to amply cover your fixed overhead in order for you to turn a profit. Many entrepreneurs underestimate this. Make sure you have established all the costs you are likely to incur in making and marketing your product. Do not just rely on a guess or common sense.
- Economic Situation
Overall economic and political conditions are among the most influential factors to be considered when deciding which rate strategy to follow. In the past, during times of crisis and reduced travel - such as the 1991 Persian Gulf War, the September 11, 2001 terrorist attacks, the economic recession of 2008, and the recently political situation in some middle east countries - panic-stricken hoteliers responded with an overall reduction in room rates. Such reactions seem understandable, but ultimately the reductions did not attract hotel guests or occupancy. Rather than reacting in this fashion, it is better to be strategic when a hotel decides to reduce the rates.
Analyze economic indicators and how they impact your guests' travel patterns.
During cyclical shifts in the economy, only certain kinds of guests may change the way they travel. Maybe just your weekend occupancy has fallen, your meetings business is lagging, or your summer travel is down because of a competitor is offering a free continental breakfast and you are not.
Understand who is staying at your hotel, how their travel patterns have changed, and what you can do to get more shares from the market, add value with your services. Economic factors are not only political. Be aware of other economic factors such as taxation rate, labor costs, inflation rate, currency exchange rate, government's fiscal and monetary policy will definitely influence your adopted product pricing strategy either positively or negatively.
Economic and political situations might effect us, but from our experience we should not fall into the that trap of keeping the discounted strategy stand by.
When trying to adopt a product pricing strategy or to determine the right price for your product, the competition must be taken on effectively. The more intense the competition, the more flexible your product pricing strategy and policy will have to be. You must take into account what your competitors charge, but remember price is the easiest element of the marketing mix for a hotel to vary. Competitors could follow you down the price curve, forcing you into the trap, far more easily than you could capture their customers with a lower price, so the issue here is not the price.
Create a realistic chart of your competition with which to compare your hotel. Think more about your in-direct competition more than you think about the direct one.
In 2006 Ahmed Mahmoud founded revenueyourhotel.com, a premier provider of enterprise revenue optimization solutions and services. revenueyourhotel.com was created to make an immediate impact on hotel revenue and profitability through forecasting, optimization, and pricing solutions. With more than 18 years of international hospitality industry experience, specializing in revenue management implementation and set up, Mr. Mahmoud started his career in 1992 and has since held various management positions with top hotel chains including Accor Hotels, Hyatt International and Starwood hotels. In 2009 Mr. Mahmoud successfully completed a simple yet sophisticated revenue management operation manual outlining best practice methods designed to rapidly increase a hotel’s RevPar and GOP. Mr. Mahmoud can be contacted at email@example.com Extended Bio...
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