The changed paradigm of yield in revenue management

Past concept of yield

While yield is a concept which has been central in revenue management for decades, what it covered and focused on has dramatically changed over the years. Yield used to be a revenue thing. It was something which was the domain of the sales and marketing function. Moreover, yield was often driven by price or the average daily rate. A higher yield by connotation meant achieving as high a rate as was possible. This was irrespective of what damage it could be doing to the sustenance of that revenue.

Yield was spearheaded by a marketing concept of price leadership. Your prominence in the competitive set was determined by the highest rate you commanded. While price leadership is not a bad thing, what often it failed to consider was the resultant impact on volume. This was based on yet another powerful marketing concept which is price resistance.

Price resistance is inherent in any market and it is basically the fact that when the value received from the customer’s perspective was falling compared to the price that was paid, price resistance sets in. Price resistance is a clear indication that the benefits from the product were no longer outweighing the cost (price). It’s most immediate effect is on the volume which begins to taper or even drop. This is the reason why a better measure of yield had to be pursued. Enter the RevPAR approach.

Yield in today’s context

The problem with the price oriented or directed approach to yield is that it is uni-dimensional. It only considers the price aspect of revenues which clearly are achieved through a constantly see-sawing battle for balance in price as well as volume. Most critically, the price approach to yield fails to consider the umbilical cord relationship between price and volume. This realization has led to yield in today’s context being a completely different kettle of fish.

The realization that the price-volume relationship is something foundational to achieving a good yield on revenues inevitably led to a composite approach – in other words the importance of the concept of RevPAR came to the fore. RevPAR takes a holistic perspective to yield in revenue management. It emphasizes the relative contribution of both the average rate and occupancy in a revenue model. In other words, RevPAR wipes out the uni-dimensional approach and takes on a multi-dimensional one.

One of the powerful methods of calculating RevPAR (it can be calculated in more than one way) takes a simple price-volume synthesis approach. In other words:

RevPAR = Average Rate x Occupancy %.

What this method achieves is to place yield in a perspective of achieving balance between price and volume. This calculation allows you quickly to determine whether price is driving RevPAR or volume is or it is an approximately equal contribution.

Individual hotels and even some big chains make the critical error of being price driven in a RevPAR strategy. While this may bring in short term revenues, over the long term, competition and price resistance together will deal a deadly blow to sustenance of revenues.

Owner perspective

The RevPAR approach and within that, the price or volume dominance has significant implications for owners and stakeholders which may not be immediately apparent. For example, if price is playing a major role, say above 70 per centÊin a RevPAR achieved, the not so apparent conclusion is that occupancies are lower and the emphasis is on average rate. For an owner, this has alarming implications. How so?

Owners have poured significant sums of money into their hotel investment. This prompts them to look at the capacity utilization of their business assets. In other words, owners would like to get as close to full capacity – represented by available rooms – as possible. A price heavy approach with lower occupancies means poor capacity utilization. This invariably means poor and a longer period ROIs. Owners are allergic to this potentially alarming situation.

Move from top line to bottom line

While RevPAR is a sound and composite strategy, it is merely the first step in the changed role of yield in revenue management. Fierce competition, a technologically advanced booking approach through smartphones and tablets to name a few reasons why the definition of yield also has moved from mere revenue generation to profit retention. This of course was a radical move but there was clearly no choice. With the internet making hotel bookings a simple smartphone click away and with choices in bewildering abundance, yield now meant considering the cost of bookings too.

Journey from GDS to direct booking

With yield now considering cost of bookings, a new computation became more common, that of net average rate. Hotel businesses began factoring in reservation costs into revenues achieved to determine the net revenue of a room booked. Yield had moved from a top line to a bottom line approach. This inevitably led to providing all kinds of incentives to customers to get them to book direct on hotel websites avoiding the expensive reservation costs. Most hotel websites have an underlying booking engine from where hotel bookings can be made. The intention was to raise the Net Revenue of a room booked by cutting out commissions and reservation costs.

The way forward

The way forward for yield is to continue to adopt a bottom line approach which is a far cry from the limited revenue and or price approach of the past. The fact that owners and stakeholders have woken up to this new paradigm and are now demanding a better net revenue per room booking to keep bottom lines growing has given this yield approach a well-deserved shot in the arm. Owners are finally looking to laugh all the way to the bank with this approach.

By S Lakshmi Narasimhan

S Lakshmi Narasimhan is the founder of Ignite Insight LLC, a New York City-based consultancy, which specializes in group executive training, coaching and consulting. Prior to founding his company, Mr Narasimhan was the Vice President Finance of an award-winning Hong Kong headquartered luxury hotel chain, Shangri-La Hotels & Resorts. He has more than 25 years of experience in the hospitality industry (14 of them in a senior corporate level) and has held diverse portfolios from a hotel financial controller to a group level human resources position, head of corporate internal audit and head of corporate financial systems. His career is epitomized by new and challenging roles.

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