It is said that hotels that are better at satisfying the needs of guests make superior returns. Creating value is, however, only one side of the coin. Revenue Management is the other. A strategy that sets out to deliver customer value can only be profitable if the price that guests are willing to pay in return is appropriately determined.
Why do Hotels Sell Non-Refundable Rates?
Since its introduction in the early 1990s Revenue Management has made important contributions to growth in hotel financial performance. Nowadays, major hotel chains apply revenue management in a fairly advanced, mathematical and automated manner. Nonetheless, pricing decisions, that form the key input for a Revenue Management System, are often made in a more or less experience-based way. For example, take the BAR rate, which is the unrestricted and non-qualified best available public room rate. Many hotels supplement this BAR by a restricted and therefore lower BAR. The most common restrictions include no cancellation, no modification, and immediate pay when the booking is made. Hotels use the non-refundable BAR to protect a part of the revenue, which otherwise would be lost when a last minute cancellation or no-shows occurs. Booking conditions also protect hotels against strategic booking behavior. Bargain hunters may book a room in advance at a BAR but cancel it when a cheaper (competitive) alternative arises. Hotels on the other hand use smart overbooking algorithms to limit the damage of this kind of deal seeking behavior.
Still, and despite many Revenue Management advances, in practice the price difference between a BAR and a restricted BAR is often determined on the basis of intuition and experience. Also, the price difference does not seem to change much over the booking horizon. For example, the difference between a cancelable and non-refundable BAR three months in advance is usually similar to say one month before arrival. But, wouldn't we expect that the discount needed to make a guest prefer a restricted BAR over an unrestricted BAR to increase over time? Isn't an option to cancel more valuable to a guest say 100 days in advance than one day before arrival, simply as uncertainty is perceived to increase over the booking horizon?
How was the Research Carried Out?
During an industry round table on revenue management at Hotelschool The Hague we decided to investigate these issues. Together with a major international hotel chain we designed formal research to determine the optimal (un)restricted rate structure at any point in time over the booking horizon. We were interested in the following two questions: "What is the willingness to pay for individual rate conditions (i.e. cancellation, date change, pay on departure)", and, "Does it change over the booking horizon?" With the use of conjoint analysis, an advanced statistical technique to examine customer choices behavior, we interviewed 266 mostly business guests in three hotel properties over the period of three months. The guests were asked to indicate their preference for certain booking options each with different booking restrictions. We used five different booking horizons ranging from 2 months to 2 day in advance. Using regression analysis and the data on the booking preferences of the guests we were able to estimate a logarithmic conjoint model showing the following results and findings.
What is the Willingness To Pay for Cancellation per Booking Window?
Guests are willing to pay for the option to cancel, modify or pay later. Pay-on-departure seems to be least important. As the chart shows, the guest is willing to pay € 4.86 for the option to pay on departure as compared to immediately paying when booking the room. This willingness to pay does not change much whether the room is booked two months (€ 5.93) or two days (€ 4.86) in advance. The ability to modify the date of stay seems to be worth more to the guest. € 5.81 when a room is booked two days ahead, and this value increases to € 10.85 if the room is booked two months in advance. However, for the possibility to cancel a room guests are willing to pay the most. Two days before arrival the guest will pay € 6.64 and for two months this increases to € 20.90. Cancellation is therefore by far the most valuable booking restriction. The results were statistically significant with an appropriate effect size. In other words, guests are willingness to pay for rate conditions, especially cancellation, and most importantly, this willingness increases over the booking horizon.
Why Using Multiple Non-Refundable Rates?
Based on the research we recommend that hotel chains experiment with their booking windows periods. Now, many hotels work with two discount time slots, say a € 10 discount on the BAR for a restricted BAR at the booking horizon between 5 and 10 days, and a € 20 discount for unrestricted BARs booked longer than 10 days in advance. But, the research shows an increasing willingness to pay for cancellation over the booking horizon. More booking windows with increasingly higher price differences between refundable and non-refundable BARs are thus likely to pay off. Especially, when the pickup is slow, or when a market tendency to postpone bookings to the last moment is observed (i.e. the total average booking window decreases), it may be worthwhile to experiment with multiple time dependent BARs with and increasing discounts over the booking horizon to stimulate more early bookings. What should not be forgotten, however, is the framing of the two BARs. For example, is it better to offer a discount for giving up the possibility to cancel, or should guests pay a surcharge for the option to cancel? And which 'frame' to present: 'cancellation charge' or 'cancellation protection fee'?
About the Authors
Jean-Pierre van der Rest
An economist and marketer, Jean-Pierre van der Rest is a full Professor of Strategic Pricing and Revenue Management at Hotelschool The Hague. He holds a concurrent position as Director for the Research Centre, and previously held a faculty appointment at Leiden University. He received a PhD in Business from Oxford Brookes University (UK), a MA in Managerial Economics from the University of Durham (UK), and a BBA in Hotel Administration from the Maastricht Hotel Management School (NL). His research covers price, competition, and consumer choice. He addresses questions such as: At what price should a hotel room be offered? How should a hotel respond to a competitive price drop? What is the influence of hotel ratings on booking behaviour? Dr. Van der Rest serves on 7 international editorial boards, and his work is published in leading scholarly books and international journals in hospitality and tourism. Recipient of research grants and awards, he has taught in Bachelor, Master, MBA, and Executive Education programmes.
Bjorn Arenoe
Bjorn Arenoe is a part-time Senior Research Fellow in Conjoint Analysis and Discrete Choice Modelling at Hotelschool The Hague. His research focuses on the application of conjoint analysis, a research method for measuring, analysing and predicting customer reactions to new hospitality service products. In addition to his work at the hotel school, he is Managing Director of Arenoe Marketing Intelligence, a company that specialises in the commercial application of conjoint analysis projects. Mr. Arenoe obtained his MSc in Business Administration from Erasmus University. Previously, he worked as a Consultant at Accenture Marketing Sciences and as Head of the Marketing Science Centre at Research International. His publications are of an advanced quantitative nature, generally focusing on improving methodological aspects of conjoint analysis.
Hotelschool The Hague is a small, independent and leading institute of higher education with approximately 1900 students, educating young people to become the hospitality professionals of the future. Established in 1929 it has alumni in hospitality companies all over the world. To find out more about Hotelschool The Hague, visit www.hotelschool.nl.
Contact
Jean-Pierre van der Rest
Professor & Director, Research Centre
Phone: +31 6 120 20 254
Email: rst@hdh.nl
