What is the hotel profitability analysis iceberg hiding?

Hotel Profitability Analysis is like an iceberg. What it shows is a small part of what it hides.

Let me share with you some insider stuff that accountants don't want you to know!

I have been a finance professional who has dealt with a hotel Profit and Loss Statement for more than a quarter of a century.

Here we go...

We will be unearthing the following tips in this blog post:

1. Do you know the first thing that your boss is looking at in a Hotel Profit and Loss Statement?
2. Owners are equally if not more obsessed with what is known as capacity second only to Net Income.
3. Have you ever paid attention to which part of the year you are currently in?
4. Have you ever looked at your month performance from a high occupancy month vs a low occupancy month angle?
5. Owners like to see how efficiently you managed the hotel in a month or any period.

Hotel Profitability Analysis TIP 1

Do you know the first thing that your boss is looking at in a Hotel Profit and Loss Statement?

Would it not be a coup of sorts if you knew before hand what that is!!! (man, this is better than a military secret!!)

It is a weird animal called YOY.....

What in heck? you say..

Hang on, I will explain.

Before that, let me let you into another secret...oh boy, this is getting very secretive indeed.

But hang in there. I promise it will be worth it.

Owners and stakeholders are obsessed about this animal called YOY.

It is an acronym for Year on Year.

There, I let the cat out of the bag!

And of course, what the owners (who happen to be your boss’s bosses!) are looking at, your boss has to look at.

Do you see the connection now?

But wait, I have still not told you exactly what this YOY actually means.

Let me do that now.

Year on Year

The other secret word for YOY is Growth.

Growth is one way of measuring hotel performance.

Of course, you have heard of it.

Who has not?

Every body talks about it all the time.

Growth in revenue, growth in occupancy, growth in average daily rate, growth in RevPAR, growth in covers served, growth in average check, growth in profit...it will seem as if everything under the sun is about growth.

But it is!

Hotel Profitability Analysis TIP 2

Now that we have gotten Net Income out of the way, let us descend on Tip 2.

Unfortunately, this too is directly related to your Owners.

Of course, it has to.

The owners put in the investment.

They pay your boss's and your salaries!

You could say that Owners tend to have a one track mind.

They first obsess about year on year growth in Net Income (Tip 1).

Next, they are fixated with what caused that Net Income.

??? you are confused, you have no clue what I am talking about.

Hang on I am getting to that.

Owners are equally if not more obsessed with what is known as capacity second only to Net Income.

I can see the puzzled look on your face.

But fret not. I shall deliver.

Capacity

Capacity in the context of a hotel mainly means the rooms available.

It is that asset that brings in anywhere between 70% and 80% of your (and most other) hotel’s revenue.

I can see that I have your attention now.

Let us soldier on.

So, what you should be concerned about after Net Income in this Tip 2 is how capacity is utilized.

How can you do that you ask?

Of course, I am going to tell you.

Considered in the hotel industry as one of the Global norms, that magical KPI (Key Performance Indicator) goes by the boring name of Revenue per Available Room or RevPAR.

Let me illustrate with a simple example.

Say, for the month of July 2020, your hotel has an Occupancy of 50% and an ADR of $250.

One way to calculate RevPAR is:

ADR X Occupancy %

In our illustration, that will be $250 X 50% = $125.

So, effectively what is happening here is that the ADR is getting diluted by half or 50% which is the occupancy %.

This is why hotels are forever trying to raise overall occupancy % so that RevPAR levels will be higher.

Your Owners will freak out if they are in this situation where RevPAR is diluting ADR by 50%.

Moreover, a 50% occupancy means that rooms available is being utilized only to the extent of half the capacity.

After pumping in millions of dollars in the hotel investment, Owners will go ballistic at this 50% utilization of capacity.

So, watch out.

If you would like to go through the complete exercise on how this situation can be turned around and how your Owners can be made to smile again, enroll in the Mastering Hotel Performance Analysis course.

On to jaw dropper, I mean Tip 3

Hotel Profitability Analysis TIP 3

This one will definitely have you freaking out (without help from your Owners!).

When you are going through your monthly profit and loss performance meetings, have you ever paid attention to which part of the year you are currently in?

What?!!! I can see you rolling your eyes again!

Have I finally gone around the bend?

It must be all those secrets I am letting loose you think.

But not to worry.

I am completely in my senses.

And I will ensure that you are too when you read my reasoning.

I am going to repeat that question.

It is critically important you get this right.

When you are going through your monthly profit and loss performance meetings, have you ever paid attention to which part of the year you are currently in?

What I mean is - are you in the first quarter of the year or middle of the year or in the last quarter of the year?

You are still rolling your eyes.

Don't.

Hear me out.

This Tip 3 is all about variances and your action.

And the time period you have on your hands.

I know, I know.

I am sounding weird.

But here is the thing.

Current Month

Say, you are analyzing and discussing the performance of the month of February in a year.

Would it make sense to you if I said that is totally different from being in the month of November in a year?

I don't just mean that the month is different.

I mean something much more powerful linked to a month.

In the month of February, essentially you are looking at only 1/6th of the year (16%).

This means you have 10 out of 12 months of the year to correct and set right your variances.

You could be behind your budget and forecast in February but it may not matter since you can make up in the balance 10 months of the year.

This is a powerful element which is often forgotten by hotel managements.

The hotel industry is a seasonal business.

Your deficit in revenue and profit in a particular month can be easily made up by the number of peak months left in the year.

November is exactly the opposite.

There is very little you can do to set right negative variances in revenue and profit.

This is because you have only one more month to go for the year to be over.

The next time you are analyzing your hotel profit and loss statement, pay attention to this critical element.

You will earn your boss's kudos.

I promise.

On to Jaw dropper, I mean Tip 4

This tip has some relation to the previous one.

It is more related to the seasonality of the hotel industry.

The foremost feature of the hotel industry is that it is primarily a seasonal business.

This has a tremendous impact on its revenue management strategies

Each month of a 12 month cycle could see different business volumes at which the hotel will operate.

Business Volume is about occupancy for the hotel rooms business.

Have you ever looked at your month performance from a high occupancy month vs a low occupancy month angle?

For example, pick up the Profit and Loss Statement for one highest and lowest occupancy months in a year.

See Paradise Hotel Peak and Lean Month Occupancies below:

Go to your own hotel Profit and Loss Statement.

Among a ton of things to notice as differences between these two months, go to Gross Operating Profit - both in dollar terms as well as in %.

What do you see?

Some obvious facts will be that the highest month of occupancy should have ideally yielded the highest Gross Operating Profit.

And the lowest month of occupancy the lowest.

But I want you to look at something else.

Tabulate for these two highest and lowest occupancy months the following KPIs (KeyPerformance Indicators):

• Occupancy %
• Gross Operating Revenue or Total Revenue for the hotel
• Gross Operating Profit in dollar terms
• Gross Operating Profit in % terms
• Gross Operating Expenses in dollar terms
• Gross Operating Expenses in % terms

Variances

Create two Variance columns - one for dollar and the other for % for each of the KPIs.

Now, look at the two variance columns for Gross Operating Revenue, Gross Operating Expenses and Gross Operating Profit.

You should notice a few things:

• Difference in dollar terms between the highest and lowest occupancy months should be high (probably the highest in the year)
• What is the Variance % column showing?

Your Variance % column as above is showing you how much your revenue went up between the lowest and highest occupancy months.

The Variance % should be upwards of 20% reflecting the highest difference in business (positively) of the year.

Do the same exercise for the Gross Operating Expenses.

Is the Variance % very much higher from the one for revenue?

Ask the same question for the Gross Operating Profit variance %.

Ah, now you are beginning to notice something.

The fact is that a hotel has both Fixed and Variable Expenses.

If a hotel has high Fixed expenses, you will see its effect on the Gross Operating Profit variance.

You will see that the profit did not increase as much as revenue did.

In other words, do this exercise for every month comparing with the highest occupancy month.

The higher the gap between your current month and the highest occupancy month, the more there is potential to improve.

Also, you can see how much your hotel profit dwindles between a highest occupancy month and a current month.

That is awesome information.

The fact is that no hotel Profit and Loss Statement shows you the difference between the highest and lowest occupancy months - the exercise we did now.

Yet it is one of the most powerful of financial analysis that can be done on hotel performance.

Most accountants themselves do not know the power of this analysis!

Of course each hotel will have its own unique revenue, expense and profit behavior.

That was really a jaw dropper!

On to the final one then.

Hotel Profitability Analysis TIP 5

Gosh, we are already in the last of the jaw droppers!

This one is again related to your Owners.

Yes, I know.

These are the same cheerful folks!

I can see your eyes beginning to roll yet again.

But, never mind.

Remember that YOY hotel metrics animal we talked about earlier?

This one is related to it but in a different way.

In fact, we can use the table you created for Tip 4 for this fifth tip.

Owners like to see how efficiently you managed the hotel in a month or any period. (probably, so that they can fire you if found wanting!).

They use many KPIs to judge that.

But they use the mother of them all always.

Go back to the table.

Look at two rows - Gross Operating Revenue and Gross Operating Profit.

Look at the Variance in dollar terms column for them.

Take the difference in the Gross Operating Profit Variance.

Divide it by the Gross Operating Revenue Variance.

Multiply by 100.

In other words, the formula is:

FORMULA

Difference in GOR (revenue) / Difference in GOP (profit) X 100

What does this tell you?

It tells you the change in GOP as a % of the change in GOR.

Owners always want to know how much of $1 of revenue increase is getting translated into profit increase.

This measures hotel profit performance which is important for their return on investment.

It also measures how efficiently you managed the operation to produce profit.

So, that is it folks.

5 jaw dropping tips about the hotel profitability analysis you missed.

Here is a quick summary of the 5 jaw droppers for your easy reference:

1. Hotel performance is all about profit growth
2. To what extent is rooms available capacity being utilized
3. Be aware which part of the year you are currently in and analyze accordingly
4. Compare select KPIs of current month with the highest occupancy month
5. Know how much of $1 of revenue increase is getting translated into profit increase

If, as an aspiring general manager, you want to become a pro at understanding how hotel revenue potential is determined, build The Ultimate 10 Tools in a Hotel General Manager Business Toolkit with the Mastering Hotel Finance Online Course.

Your Takeaways

What were the takeaways for you from the blog post? 

Are you utilizing the 5 Jaw Dropping Tips in your hotel Profit and Loss Statement analysis?

What topics would you like to see as future blog posts?

Tell us in the comments section below.

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