Rate Optimization: Enhancing Your Hotels Pricing Strategy

By Paul van Meerendonk Director of Advisory Services, IDeaS Revenue Solutions | November 17, 2014

For many hotels, developing effective pricing strategies remains a complex issue. Increasingly, savvy hoteliers are turning to specialist revenue managers, whose goal, ultimately, is to maximize company wide revenue and profits while building strong hotel partner relationships across the country.

While the emergence of revenue management and rate optimization is helping to demystify pricing practices, it is important that hoteliers around the world understand the demand characteristics of the various grades of rooms in their facility, along with how price affects demand and design a rate spectrum that is tuned to all of these. This allows hoteliers to take full advantage of their business opportunities, ensuring that they are capturing the maximum revenue at all levels.

Beyond the scope of regular revenue management practices - such as selecting the correct overbooking, rate restrictions and best available rate, lies the challenge of selecting the correct rates to choose from in the first place. Rate Optimization is the practice of selecting the room rates offered in a rate (or price) range based on the historical price sensitivity of demand. The goal of rate optimization is to understand the demand characteristics of rooms and the price sensitivity of demand and utilise the data to define room prices that will capture the maximum revenue over time.

'Price Sensitivity of Demand' is a measure of the change in demand relative to a change in price. If a small change in price is accompanied by a large change in demand, the product is said to be elastic (or responsive to price changes). However, a product is inelastic if a large change in price is accompanied by a small amount of change in demand.

Price sensitivity can have a dramatic impact on revenue. For example, if the price offered for a room in a hotel is too low, the demand for the product may be significant; however the revenues from the sale of the product will also be low. In turn, if a rate offered is too high, there is a risk that not enough demand will materialize, and both situations may result in a reduction of potential revenue.

Through working with many different hotel groups throughout the region on the issue of price optimization, IDeaS has noticed that some companies have a tendency to 'overshoot' or undercut themselves when discounting. In one recent example, IDeaS was able to estimate that the client could improve revenues by 3.5% by increasing rates from the current (discounted) levels. This was able to be achieved because the client had reduced their rates so much, that they missed the optimal price point - which IDeaS was able to identify. Between these two extremes of over discounting and overpricing, is a rate offering that will capture the demand to maximize the overall revenue. It is crucial to determine, in advance, the correct rates to be used when there is excess capacity or excess demand. An incorrect determination of the rate, or price, range is likely to affect the overall revenue for a variety of rooms.

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