Pricing RM tools

Pricing strategies can be used not only to maximize revenue, but also to optimize profitability, achieve targeted market share, differentiate the product in the marketplace, increase or decrease pace the rooms are sold or communicate price-value of service to customers. From the previous insights to the pricing tools, there might be an impression that rates in hotel are set due to fluctuation of demand. However, the problem of pricing is much deeper and it includes such factors as costs associated with sales; the price of substitute products; the value, length and quality of the relationship between hotel and customer; overall pricing strategy of company. Nagle and Holden (1995) and then Collins (2006) distinguished different approaches to pricing, which are summed up in the table below, however it is important to note that usually hotels use mix of those four approaches.

Approach Explanations Pros Cons
Cost – based pricing occurs when pricing is driven by financial motives, such as equitable profit beyond all costs associated with the sales of the product. It ensures that hotel achieves contribution margins targeted by financial executives. It’s hard to price correctly to costs, because costs change with the volume. This leads to under pricing when demand is strong and over-pricing in times of weak demand.
Value – based pricing can be view as reversed cost based pricing, because value-based pricing is initiated before investments, and then customers are provided with a certain value. Correctly implemented can bring higher revenues than competitors’, because higher perceived value of products and services. The biggest challenge is to raise customer willingness to pay a price that reflects product true value, rather than passively accept their will.
Customer – driven pricing is driven by demand for a service at certain time and it is the most fluctuating approach as demand can change very rapidly. Pricing is fitted to customers’ willingness to pay – the biggest possible revenue. Customers are not honest with their willingness to pay and the purpose of RM should not only be listening to customers preferences but also raise their willingness to pay a product’s true value.
Competition- driven pricing occurs when hotel wants to achieve a targeted market-share and price their services to achieve this level. it usually comes together with big revenue and high occupancy Focus on market share can lead to inappropriate price cutting and when followed by competitors will create downward spiral of prices.

 

Along with pricing approaches, there are three most popular RM pricing tools - price discrimination, dynamic pricing and lowest price guarantee. Moreover, there are several new pricing tools like: LTV, price presentation and optimal rate allocation.

Price discrimination from its most basic definition means that customers are charged at different prices for the same product or service. Such fluctuations in product’s price are caused by unstable demand and intention to target different groups of clients. From demand point of view, prices rise when demand is intensive and fall during moderate periods. From customer point view, higher rates are set for price inelastic customers while discounts are offered for elastic ones. Charging different rates not only increase hotel’s revenue but also satisfy more customers. However, this strategy has an additional goal to “move” certain group of customers from days when demand exceed supply to those with low demand, usually offering them discounts and some privileges. A good example are the business hotels, which have low weekend demand and therefore offering that time discounts to attract price-sensitive non-business customers. The other way to segment customers and charge different price is nature of their demand. While vacationers may be sensitive to location, prestige and quality, they are pretty elastic about the exact time. Business customers, on the other hand, are very sensitive to time and place, but generally flexible about quality or exact location. However, for the purpose of building working RM system, rate “fences” should be simplified and effective. One approach is to start with the highest rate called rack rate, and sell cheaper rates after certain part of inventory is sold (e.g. after selling every 10% of inventory, price fall by 5%) (Talluri, 2004). The other approach is to sell to predefined types customers. (e.g. rack rate is for “normal” customer – 0% discount, corporate customers receive 10% and government 20% discount) (Doan etl. al. 2001). The rates could be also differentiated by type of the room (e.g. rack rate for luxurious apartments, 20% discount for 1st class, 40% discount for 2nd class and 60% for 3rd class) (Hanks and Cross et al., 2002).

 


 

References:

  1. Collins, M. and Parsa, H. (2006) Pricing strategies to maximize revenues in the lodging industry. International Journal of Hospitality Management, vol. 25, no. 1, pp. 91-107
  2. Doan, Y., Eliseyeva, N. and Ismail A. (2013) Implementation of Revenue Management: Core Concepts in Hotels of Western Australia.
  3. Hanks, R., Cross, R. and Nol. 2002. Discounting in the hotel industry: A new approach. The Cornell Hotel and Restaurant Administration Quarterly, vol. 43, no. 4, pp. 94-103
  4. Nagle, T.T., Holden, R.K., 1995. The Strategy and Tactics of Pricing: A Guide to Profitable Decision Making, second ed. Prentice-Hall, Inc., Englewood Cliffs, NJ.
  5. Talluri, K. and Van Ryzin, G. (2004) The theory and practice of revenue management. Boston, Mass.: Kluwer Academic Publishers.
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