8 Key Concepts of Hotel Revenue Management Explained

In this article, we are going over the basic concepts of hotel Revenue Management: Fixed Capacity, Perishable Product, Advance Purchase, FIxed Cost, Variable Cost, Differential Pricing, Evolving Demand, Target Customer, Market Segmentation. Time to brush up on your knowledge!

Revenue management can be defined as "selling the Right Room to the Right Client at the Right Moment at the Right Price on the Right Distribution Channel with the best commission efficiency" (Landman, 2011).

But it can also be defined as the practice of maximizing a company's revenues while selling the same number of products or services.

Below, we will be looking at the basic terms associated with revenue management that we need to comprehend in order to succeed in this area.

Once we have a firm understanding of them, it will change the way we look at some hospitality-related products.

What is Fixed Capacity in Hotel Revenue Management?

As you know, every hotel or property has fixed capacity. This means that there is a cap on how many guests it can host per room and how many rooms there are in total.

This provides us a total number of guests that can lodge at the same time at the property. Hence, it helps understand the limitations, since it is impossible to host more than this number.

Is an Hotel Room a Perishable Product?

Hotel rooms are perishable products. It means that if the room remains empty overnight, we have lost the revenue associated with it for that night. There is no way to recover it. We can’t sell that room the next day and make up for the lost revenue.

Within the hospitality industry, every day is a brand-new opportunity where we have our vacated rooms ready for selling. However, what wasn’t sold for a night can’t be stored and sold later.

What is Advance Room Purchase?

A great thing about hotels is that they can be sold in advance. Rooms can be booked even up to a year in advance, 24-hour a day.

As we already mentioned, rooms can’t be sold later as they are perishable, but they can be sold beforehand giving that competitive edge to build an occupancy base as far in advance as possible.

It also gives the opportunity to reject any booking that isn't profitable, review the strategy, and adjust pricing as bookings keep coming in order to maximize revenue.

What is the difference between Fixed and Variable Cost?

A key requirement for revenue management is the high fixed cost and low variable cost.

It means that the rooms have a high fixed cost associated to them, whether or not they are occupied.

Hence, revenue loss is inevitable every time a room remains empty. Yet, providing additional service for extra rooms sold is very little. Therefore, variable cost comes into the picture. This is where revenue management helps generate additional revenue by adding minimal extra expenses and making a difference.

What is Differential Pricing?

The good thing about rooms is that they can all be priced differently based on amenities associated to them, such as extra services, views, size of the room or anything that gives added value to the customer.

Pricing will be covered more in depth, but it’s great to know that not everything needs to have the same price attached to it.

How is the Hotel Market Demand Evolving?

Customers change, seasons change and so does the demand. Not every month or every season has the same demand.

It is crucial to be familiar enough with the market to know how the demand changes based on seasonality.

Identify major events or holidays that drive demand and low season period when it is quieter in order to set up the best strategy for the hotel.

There is another variable that makes the demand change, and that’s pricing. In case there is a price sensitive demand in the market, higher rates can really hurt that demand. Just like knowing the seasons, knowing the customers is key in revenue management.

What is a Target Customer?

Every product is designed for someone, and it’s increasingly important to recognize the typical target customer.

We need to be able to answer the basic questions about them in order to generate a product or service they need. What do they value? The room itself, the amenities, location - the answers are unlimited. What would they pay for the room?

Identify what is the service, experience or product that they would want to pay extra for.

This takes us to the final point.

What is Market Segmentation?

The market can be segmented. There is one main target customer, yes, but the hotel will not be filled with only that one type of customer. There will be families, business travellers, couples and solo travellers. There will be a healthy mix of all these and they form the different market segments.

Each and every one of them needs to be targeted in one way or another. Either with a service or with an amenity or simply by location.

All the segments help achieve the revenue goal set out and they are all equally valuable to the business. Most people forget that there are other segments, not just the ones that fill 60% of the hotel. Hence, they miss out on other potential customers.

Be open and inclusive, considering everyone who might want to stay.

Conclusion

These are the basics of revenue management, the pillars that need to be understood in order to build the correct strategy designated for the hotel.

Know how many guests can stay at the hotel, and understand that the room can be booked even one year in advance.

Understand the demand of the market and price differently when needed. See the opportunity when it presents itself. Target all the customers that can potentially stay at the property, don’t just focus on the ones that always come.

Broaden the opportunities and the revenue stream will rise together with it.