Ted Darnall, Partner & CEO of Lodging and Technical Services, discusses current industry revenue trends and the continuing success of HEI’s revenue strategies within them.
Transient Business: A Return of the Corporate Customer?
I’m sure by now you’ve all seen or heard various communications about how business travel is slowly returning to our industry. Obviously that’s terrific news for all of us, and I can confirm that the recent trends we’ve experienced are consistent with those statements.
Back in early March we were running midweek occupancies in the low 30s. By the end of May they had reached the mid-40s, and by last week we were delighted to see them surpass 50%. Because we can use our data to separate corporate and leisure demand and isolate the growth in our midweek corporate business travel, we can conclude that this increase is predominantly driven not by leisure channels, which we experienced last year, but traditional corporate channels. Interestingly, this corporate recovery is not being led by the Fortune 500 companies that one might expect, but rather by smaller organizations focused on specific infrastructure or marketing projects. Nevertheless, this demand is still quite meaningful, and in fact we have seen our elite frequent guest buy increase from 20-25% to close to 50% on critical traditional corporate midweek dates.
While we do expect to take a slight step backwards from these corporate travel increases during the summer months (traditionally lighter on corporate travel), just as we did going into the Memorial Day weekend, we are confident that generally the trends will continue. And it need not be said that this is a good thing, because as more travelers resume past patterns we can become more confident in the recovery and the stability of that recovery going forward.
Another positive to report is the progress we’re making in increasing average rate. While in both April and May we fell short of our budgeted occupancy objectives, in both months we exceeded our total revenue goal by surpassing our original average rate projection. This is coming from an increased effort on managing discount leisure production, i.e. value customers, and by limiting value rate availability later in the booking cycle in order to capture more rate from our increasingly numerous corporate buyers. Here again, this is a strategy we have discussed over the last three months, and although it is specifically designed for each hotel based upon its unique trends, the overall concept continues to yield very positive results.
To execute this strategy effectively, we simply need to choose the right moment to raise rates and flip from an occupancy strategy to a rate strategy. We first observed this on the weekends with leisure travel. Whenever we first begin to experience surges in short-term leisure pickup going into holiday or weekend periods we immediately pull out of our discount pricing. And in those circumstances where we did not effectively do so, we saw the single largest negative impact on those hotels’ overall rate index. Now, as corporate demand increases, the same thing can be said during midweek periods. When we effectively raise rates just about a week to ten days before arrival, we are able to capture the rate from our corporate travelers. This is true because even now the corporate customer is buying product location and brand as opposed to value. If properly managed, this leaves us the opportunity to maximize our occupancy premium by pre-selling attractive rates to the value customer earlier in the booking cycle, then holding great rate integrity later in the booking cycle. But holding rates low for too long does not gain enough occupancy share to offset the loss in rate production. Likewise, holding rates too high early on does not gain enough rate share to offset the loss of that early occupancy. Executing the strategy perfectly allows us to build a nicely blended customer base and we have already achieved ever-higher levels of rate, occupancy, and overall RevPAR index performance.
So rate management in the last ten days prior to arrival continues to yield the greatest upside performance. And being that maintaining pricing leverage with certain premium customers runs counter to the economic principles of an over-supplied market, this indicates to us that we are finally coming out of what was the worst market collapse for our industry in the last fifty years. This further indicates that if others follow our pricing lead, we as an industry may be able to avoid the over-supplied market conditions from turning us into the next commodity in the travel industry.
The challenge we now face is in predicting future months. As of late we have been able to utilize short-term trends to predict the coming weeks with some degree of reliability. However, beyond just a few weeks out we do not yet have the visibility we need to determine the trend and project midweek occupancy and rate performance. But despite this challenge I will point out an exciting sign. In March of this year there was a significant spread (almost $30) between our midweek and weekend average rates. It was in March that we began to change short-term rate strategies and apply more aggressive demand management, maximizing the rate opportunity of both the short-term surges that made up a good portion of midweek demand as well as our large weekend demand. This strategy resulted in significant and almost immediate increases in midweek average rate performance. Specifically, in the month of May we closed the $30 gap between midweek and weekend rate performance to just $5, and we expect to once again see midweek rate exceed weekend rate sometime within the next few months. This is an exciting sign.
Trusting HEI’s Revenue Strategies and Execution
I find myself wanting to remind all of our owners that HEI has been the leader in leveraging the rate inelasticity of our short-term, premium corporate buyers for years. Because we’re so often thought of as exceptional expense managers, it is sometimes overlooked how adept we are at revenue management, with the results to prove it. I don’t know if this is the result of such a strong operating efficiency reputation that it overshadows our revenue results, or the result of our competition stereotyping HEI in order to position themselves against us, or the result of us deploying strategies that don’t always conform to the prevailing industry approach, but it’s time for us to regain control of the narrative. The fact is that HEI has increased the RevPAR index performance of our entire portfolio in ten of the last eleven years. Even over the past year we have increased our portfolio RPI, measured of course to total market instead of local comp sets. This is a remarkable demonstration of strategy and execution.
I say this not only to remind you of our revenue management capabilities, but also to seek your trust that the strategy I’m laying out will allow us to capitalize on the trends we’re seeing. Once again, that strategy is to build occupancy premiums early in the booking cycle by offering value pricing to capture the significant price-sensitive demand, then at precisely at the right time in the booking cycle to increase rates as the demand shifts from the elastic leisure customer to the inelastic business client. This allows us to maximize both occupancy and rate and is a recipe for overall RevPar success.
Despite the confidence we have in this strategy, and the success we’ve demonstrated with similar approaches in recent pre-pandemic years, I still want to stress that this must be applied property by property as not all markets, brands, and locations behave the same. Therefore we’ve implemented highly effective analytics to identify what is the best pricing, timing, and overall application of this strategy for each hotel, by day of the week, and we constantly reassess its effectiveness – tweaking and adjusting as we go. In other words, we continue to experiment with rate opportunity, but we closely monitor the production impact that rate change has as it relates to overall pickup pace and are prepared to adjust quickly. For in some cases we have been too aggressive too early to adjust those rates, slowing production and pulling us out of balance with the other opportunities in the marketplace. So constant analysis and testing is key to achieving our objective of maximizing occupancy in this oversupplied market with as little impact as possible to our overall rate index.
Before I move on, it’s worth reminding you that STAR data continues to be a confusing measurement of performance – almost more so than in the summer of last year. In Q2 of last year there were major inconsistencies in which hotels reported to STAR, given the frequent full and partial closures, and this has created a nightmare effect on the accuracy of this information this year. Therefore, we continue to look at the submarket as a more accurate representation of performance, for the submarket is a big enough sampling of hotels that we can better isolate the open hotels and present more accurate results. We can also develop a roadmap of where opportunities lie to achieve greater market penetration, and how we should attack those opportunities. Again, it requires us to relentlessly monitor and modify our strategies throughout the booking cycle, such that at times our occupancy performance is unmatched and at other times the same can be said of our rate performance, but that when the dust settles it’s our overall revenue results that you can take to the bank. And many of these opportunities within the submarket may not be targets indefinitely; as full demand returns we may not want them. But more likely we will learn how to blend an expanded market knowledge into our overall strategy to yield exceptional results. It is this incessant exploration and maneuvering that have allowed us to deliver the results we have for our owners for so many years.
Group Strategy and Execution: Another HEI Highlight
Group remains a highlight across our portfolio as we continue to exceed our 2019 group share thanks to (1) significant growth in our 14day closure rates, (2) strategies to capitalize on the short-term booking windows that dominate most markets, and (3) an organization perfectly positioned to effectively administer the small event/high transaction volume that’s omnipresent today. Our group share YTD is up over 13%. Meanwhile, we’ve reinstated aggressive event fee strategies and meeting room rental guidelines that have helped to strengthen our overall banquet and catering profitability. Right now any group is good group, and any group with food and beverage is simply outstanding.
However, as we look forward to the future, we think that the cost of acquisition of every room is going to be a critical concept for us to master to improve overall profitability beyond that of 2019. We have studied cost of acquisition extremely closely, including what it costs us to book the same room through different channels. We can see very clearly that group continues to be our most expensive channel; however, at a time where supply outweighs demand on most days of the week, it can be worth the expense. However, two things: first, I suspect many of you will be surprised to see just how high that acquisition cost can be, which is why we have been so relentless with many of your asset management teams with our recommendations on spending. Second, as occupancies increase, it will be vital to truly understand the profit contribution of each room night generated from each channel, then perfect our ability to leverage this information to achieve the ideal segmentation for not only maximizing revenue, but for maximizing profits.
I realize it’s a little soon to be concerned about channel costs in this current environment, so long as the business is in fact profitable. However, it is the perfect time to begin gathering this data and developing the analytics. In fact, we hope to introduce a month-end report very soon that will show the acquisition costs by channel, including group channels with and without prospecting costs. We are confident that these analytics will help provide our asset managers with a better understanding of where we want to fish, what pond produces the most profitable results, and how we can use this data in an effective way to maximize margins as we start to experience occupancy recoveries.
A Quick Note on Profitability
Although the focus of this note is on our changing revenue results, I do think it’s important to mention that we continue to achieve our goal of preserving the flow-through of incremental revenues as the market recovery continues. You’ll recall that the goal we announced several months ago is to maintain a 50% flow-through on every dollar of additional revenue; if we meet this objective we will exit the pandemic with superior margins to when we came in. So far we have met that objective every month, with 57% flow-through of incremental revenues from February to March, 64% flow-through of incremental revenues from March to April, and 52% flow-through of incremental revenues from April to May. We expect June will continue this trend. Now, you may immediately think this profitability is only due to the undeniable shortages in labor, and indeed some portion of them are, particularly in April (the peak of the shortage). But remember that we’re still staffing to what we need, and in fact with less available labor we’re resorting to premium wages, either through overtime pay or costly contract labor, which in many ways makes these flow-throughs even harder to achieve.
The Associate Environment
I will quickly use this as an opportunity to segue to my last topic of the day, which is to reinforce once again that we’re in a period of crisis with regards to hiring, for reasons we are likely yet to fully understand. Hiring the right associates has become incredibly difficult, and in my opinion this could lead to a very dangerous future for our industry. To help fight this crisis, we continue to look inward to ensure the highest quality of our associate environment. This includes offering the best benefit programs in the industry, the best tools, resources, and development opportunities of any brand or third party manager, and compensation and bonus programs (including our recently launched “Thank You Bonuses” for all hotels) that honor a commitment to a competitive wage and further reward our teams for their hard work and outstanding results. But we are also thinking creatively about ways to attract talent while minimizing the cost impact on the ownership community. By introducing new programs, such as the one we’re piloting now that offers our guests the opportunity to provide gratuities to our associates through their phone rather than cash, we are offering unique solutions while simultaneously demonstrating a commitment to our associates to expand their earnings and benefits as compared to our competition.
And it certainly doesn’t stop there. This situation is urgent and will require us to become experts at delivering new, inexpensive programs that enhance the quality and the value of the associate environment, communicating the value of our healthcare and other benefit programs, and most importantly, ensuring that we understand the needs of our associates. We must stay committed to two-way communication and to creating a community of mutual respect, one that holds employment advantages thanks to its reputation.
This is likely the biggest challenge we’ll face throughout the near future. Not only does it impact our ability to operate effectively, it will even affect how we’ll need to operate our hotels, from how often we clean our rooms to whether it makes sense to convert food and beverage outlets from traditional to self-serve. The challenge is so great that in our organization Anthony Rutledge has made this a top priority among his many efforts and responsibilities. We are looking at every solution, for we must be able to attract staff to be capable of supporting the occupancies we experienced in 2018 and 2019 while maintaining a small base staffing. This is a key component of our quest to increase profitability on like revenues while reinventing the industry to meet the true needs of the consumer. We must be the best employer in the marketplace and I am confident with Anthony’s leadership that will be accomplished without an unnecessary burden on you, our owners.
With that, my last comment is to once again thank our teams for their support, long hours, and commitment to the organization that I am so proud to lead. From our corporate staff through our general managers to our department teams, every member of the HEI community continues to accept the challenges brought by this unpredictable environment and maintain their commitment to their fellow associates, to their guests, and to you. I am proud every morning when I wake to see the commitment and focus of these teammates and I marvel at how they manage to balance meeting the objectives of each owner and our own high-performing culture while creating an incredible work environment for our associates and reacting to the new priorities of our guests.
As I’ve said before, I am confident that with each cycle comes change and what is important is learning how and why our customer buys, as well as what influences their desire to buy again. And I am confident that we have the platforms in place – from technology, to cost management, to revenue and analytics, to associate communication and tools to the job – to meet these challenges in a manner of innovation, creativity, and business aptitude that stands out within our industry and earned us our place as the largest and best full service operator of urban luxury, upper-upscale, and destination hotels in the United States.
Ted Darnall, Partner & CEO of Lodging and Technical Services