Hotel Demand Generation Trends: Customer Acquisition Costs and Opportunity Costs

The hotel sector has been on a winning streak since recovering from the 2009 recession, yet even as ADR and occupancy continue their upward trend, customer acquisition costs are increasingly affecting profit growth. As acquisition costs are rising twice as fast as revenue per available room, RevPAR growth creates the false impression that everything is well and improving, but this is not reflected in the operating accounts. However, once demand acquisition costs for each source are taken into account, the picture often looks less healthy, and hotel owners are increasingly demanding that operating performance be as healthy as the figures higher up the statement—namely revenue—suggest. Customer acquisition costs (whether through PPC or commissions on sales via distribution channels) are rising so quickly that I am certain they will squeeze the overall profitability of any hotel despite growth in revenue and ADR. Owners increasingly understand the hidden costs reflected in lower ADRs at those OTAs operating under a merchant model, namely on net rates while applying their own commercial margin. Expense lines for commission costs (for example, commission payments to Booking.com) are easier to identify in a financial statement than a lower ADR resulting from working with such merchant models (as in Expedia’s case, where it pays the hotel after receiving payment from the guest and deducting its commission). Even so, this is of little importance, as ADRs increasingly already reflect commission amounts, depending on the PMS in use. Owners also know that there is no real difference between the rates given to OTAs and the special rates offered to wholesalers and bed banks. There is often a difference insofar as wholesale discounts are greater, but they are opaque and do not represent a fundamental difference in such cases either. In another respect, marketing costs, such as investment in pay-per-click (PPC) campaigns on Google or other search engines, have risen so quickly that the effective PPC cost of generating a booking is no lower than—and in some cases even higher than—OTA commissions. Another cost often considered separately, but which is in fact similar to paying for a demand-generating source, is the cost of affiliation with a chain, brand, franchise or representation company. Ultimately, markets tend towards equilibrium, and affiliation costs are already notably similar to distribution costs—which is how it should be. Negotiated rates, brand loyalty programmes and bookings driven by brand recognition are sources of demand, just like those generated through OTAs or search engines via PPC campaigns. Accordingly, hotel owners (private investors, investment funds, etc.) are increasingly interested in ensuring that their hotel assets, whether branded or independent, are driven not only by gross room revenue but also by profitability targets, so that executives pay as much attention to the bottom line as they do to the top line. At the same time, changes in customer behaviour, combined with competition from OTAs, hotel comparison sites, hybrids such as TripAdvisor, alternative accommodation providers such as Airbnb and HomeAway, and Google’s evolution, have changed the landscape. The landscape is certainly worrying when it comes to customer acquisition costs. The old hotel mindset of viewing OTAs as enemies and Google as a friend is being replaced by a healthy recognition that we are all going crazy. As expected, as hotel PPC costs rise, the ROI of PPC campaigns—which initially seemed so promising—now warrants careful reconsideration before further investment. In some cases, for example for a one-night stay, the total effective cost of Google PPC may be higher than a commission paid to a retail travel agency or an OTA. We also all know that no-cost bookings have never really been free. In other words, what appears to be free, such as a booking through a hotel website or the relevant CRS, includes:

• Technology, transaction and service costs.
• Brand or representation fees, including costs associated with loyalty programmes, where applicable.
• Discounts on negotiated rates

Consider, for example, the estimated costs of affiliation with a hotel brand. The terms of an affiliation agreement vary widely depending on whether it involves a royalty-based franchise model, a property managed under a brand, or affiliation with a representation brand. Any of these can be a significant demand generator, but owners and operators often assess opportunity costs when deciding whether to remain independent or affiliate with a brand, attributing higher demand-generation costs to an independent hotel than to one linked to a brand. This is a serious mistake, as it fails to consider the hidden acquisition costs of the latter model. What independent hotels cannot do profitably is advertise on a broader scale, such as through television and mass media. This approach may work for large chains and ubiquitous distributors such as OTAs, but it is not profitable for an individual hotel or a small hotel group. While this does not always apply to every hotel, group or chain, there are three broad options. Hotels can:

• Innovate and differentiate themselves significantly to find their blue ocean. Blue Ocean Strategy is the simultaneous pursuit of differentiation in order to open up a new market and create new demand at a lower acquisition cost.
• Become part of a brand large enough to benefit from its demand-generation processes.
• Outsource demand generation to distributors in exchange for commissions or at the expense of ADR.

In the first case, Blue Oceans may consist of highly exclusive, distinctive niche hotels, or hotels with such a strict and clearly defined level of segmentation that they eliminate competition or become the first and only booking choice for guests in that niche. For example, sustainability-focused guests, or hotels exclusively for LGBT guests, etc. As for joining a brand, it is a long road and I will not go into detail now, other than to point out that corporate sales, the loyalty programme and brand distribution are not free, nor are Internet bookings. Handing demand generation over to Booking.com or Expedia may deserve some explanation and is not as strange as it may sound. Some hotels already treat Booking.com as a strategic partner for generating demand rather than as a distributor, and focus on making the guest experience exceptional. However, regardless of the strategy chosen—innovating, joining a brand or relying on distributors—what I see everywhere is a focus on holistic demand generation and a more comprehensive understanding of the opportunity costs surrounding all demand sources as the key to achieving superior competitive performance.