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Thus far, we have been reviewing the historical evolution of

the hotel sector and introducing the current status and

structure of the industry at the fairly macro level.

We now turn to the unit level, and

will be covering topics affecting hotels as economic units.

At the unit level, hotels compete for market share within a destination.

In most cases, travelers first select a destination that they want to visit,

to experience, or where they have business to do.

Once the destination is selected, they then compare alternative lodging products

according to various criteria such as location, price, features and

services or lifestyle.

It is only at this level that hotels at the property level compete.

In short,

hotels aim at capturing the biggest market share in the market in which they compete.

I like to use a simple example to illustrate how hotels compete.

Imagine a market in which two hotels, similar hotels,

with each 100 rooms available for rent compete.

Note that this makes a total supply of 200 rooms available in that market.

If the demand for hotel room nights is of 100 rooms,

then each hotel should theoretically get 50 rooms.

Thus, the theoretical market share of each hotel is 50% of the demand,

given that they each represent 50% of the supply.

If this was the case, then the occupancy rate of each hotel,

defined as the number of rooms occupied, divided by the number of rooms available,

is 50%, or 50 rooms sold divided by 100 rooms available.

This 50% occupancy rate within this case represent the fair or

theoretical occupancy the hotels should each reach.

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Hotels thus try to reach higher occupancy than what they should theoretically get.

For instance, one of these two hotels could be better managed or

distributed than the other.

In this case,

it would likely achieve a high occupancy rate than its theoretical occupancy rate.

Let's imagine that this hotel achieves a 60% occupancy.

In this example, the hotel would be viewed as being more competitive.

In this industry, penetration indices are often used to measure how well hotels

are doing at the unit level.

In the previous example, we said that one hotel could have achieved a 60% occupancy

when its theoretical occupancy rate was 50%.

The relevant penetration index here is the Market Penetration Index, or MPI.

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It is calculated by dividing the actual occupancy

by the theoretical occupancy rate and then multiplying by 100.

In our example, it would be 60% divided by 50% multiplied by 100,

which is equal to 120.

The hotel would have thus achieved 120% of its theoretical performance on occupancy.

In practice, these metrics are often calculated on the basis of the weighted

average performance of other hotels within what is called the competitive set or

comp set.

The metrics most widely used include occupancy rate, average daily rate, and

revenue per available room of RevPAR.

Occupancy is calculated by dividing the demand by the supply or

the number of rooms sold by the number of rooms available.

Average daily rate,

or ADR, is calculated by dividing the room revenue by the number of rooms sold.

Finally, RevPAR is calculated by dividing the room revenue by the number of

rooms available.

An alternative calculation for

RevPAR is to multiply the occupancy rate by the average daily rate.

Index numbers can be calculated for each of these three metrics, occupancy,

ADR and RevPAR.

The standard calculation is to divide the subject property value, occupancy, ADR or

RevPAR, by the comp set value, and to multiply by 100.

Hotels with index numbers above 100 are thus considered as

outperforming their competitors.

The index for occupancy is called the market penetration index or MPI.

It is called the average rate index, or ARI, for the average daily rate and

revenue generation index, or RGI, for RevPAR.

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These metrics are critical to the management of hotels for several reasons.

First, hotels generally sell their hotel rooms for rather limited period of time.

Typical length of stay range from one to two

days up to five days in certain locations.

Consequently, hotels need to sell their room continuously and

occupancy rate fluctuate a lot.

The demand management and

distribution are key to ensure the best occupancy rate possible.

Secondly, the seasonality of the demand is also multi-dimensional.

As you may find daily seasonality,

weekly seasonality or monthly seasonality components.

The seasonal aspect of the demand, together with the fact that the demand for

hotels is cyclical and affected by economic, political and

other external factors, makes it rather volatile and not easy to predict.

Hence, again, distribution and

demand management become crucial to improve forecast and occupancy level.

Third, hotel rooms are perishable.

A hotel room that has not been sold for a day cannot be sold again the next.

Availability of a room on a Monday night cannot be sold on the Tuesday.

In this case, it is revenue management and pricing that becomes key.

Finally, hotels are characterized by relatively high fixed costs and

low variable costs.

Indeed, the majority of the expenses related to owning and

running hotels are fixed, or independent from the number of rooms sold.

For instance,

most of the electricity cost is not related to the number of rooms sold.

Hotels still need to keep the light and heating or

cooling on in the public spaces, even if they do not have any guest in-house.

They also need to maintain a minimum staffing level at the reception,

even when running at low occupancy.

These four reasons, when taken together, makes the maximization of RevPAR or

RGI some of the main objectives of hotel managers.

By maximizing these two metrics, hotel managers try to maximize the contribution

margin they generate to offset the fixed cost base, and then generate the profits.

This is one of the key objectives of revenue management and

distribution which is introduced in the next video.