Question

Kindly summarize this Literature Review Section 3.2 Efficient Techniques and Performance Measurement Recently, developed techniques compare the efficiency of similar service organizations by explicitly considering their use of multiple inputs to produce multiple outputs. These new efficiency techniques are often divided into two categories. One broad category consists of the linear programming procedures used in this paper (DEA). The second category is a set of regression-based techniques that derive inefficiency estimates from two-part error terms, and has been called the econometric or stochastic frontier approach. Both techniques use sample firms to construct an efficient production frontier. The frontier is efficient in the sense that a firm operating on the frontier could not increase output without increasing its input utilization, or it could not reduce its input utilization without decreasing output. Deviations from the frontier represent inefficiencies, and are termed X-inefficiencies in the finance and economics literature. Efficient frontier techniques avoid the need to develop a standard cost for each service provided and are more comprehensive and reliable that using a set of operating ratios and profit measures. These techniques permit managers and researchers to service organizations and identify units that are relatively inefficient, determine the magnitude of the inefficiency, suggest alternative strategies to reduce the inefficiencies, all in a composite measure. Moreover, these techniques provide an estimate of the overall efficiency level of the market that is under consideration. We know of only two studies that use efficient frontier techniques in the hotel industry. The first is that of Morey and Ditman (1995) who measure the relative performance of hotel general managers using DEA. The authors gathered input-output data for 54 hotels from a geographically dispersed area. They found that managers were operating 89 percent efficiency. In other words, given their output, managers on average could reduce their inputs by 11 percent. The study reported that the least efficient hotel was 64 percent efficient. These results are relatively high compared to those found in other industry studies that utilize DEA. Large efficiency scores are indicators of High performance and competition (Leibenstein 1966). Thus in an economic context, the market for lodging services appears to be operating efficiently. Anderson et al. (1998) argue for the benefits of using a stochastic frontier methodology in addition to DEA in order to accurately assess performance. Using a classical stochastic frontier model, they also find the hotel industry to be performing relatively efficiently, with efficiency measures above 90 percent. While both of these studies are informative, neither provides any information on the source of the inefficiencies. The source of the inefficiencies, whether technical or allocative in nature, is important information that managers need in order to take proactive positions to increase performance. We re-examine hotel efficiency using a method of DEA that provides significantly more detailed results and we further analyze the inefficiency sources. The following section describes our procedure.

SECTION 4 EFFICIENCY DETERMINATION

Section 4.1 The DEA Technique

Within the DEA framework, performance of an individual firm is evaluated with respect to an efficient frontier, which is constructed by taking linear combinations of existing firms. While there are several DEA approaches, wee use an unput-base approach, assuming that inputs are contracted proportionally with exogenous outputs. The procedure relies on sophisticated mathematics; however, the following simplified graphical example deomstates how th eefficiency measures are computed.

Figure 1 displays tha overall (OE) and (TE), and allocativ (AE) efficiency measures. In this example, we assume two inputs (X1 and X2), one output (Y), and constant returns to scale. Additionally, we assume that technology is fixed and that input prices are represented as PP. Firm A is X-efficient since it produces along output isoquant Y by utilizing the least inputs. Suppose thee is a firm operating at point C and producing an output equivalent of that produced along Y. C is uses more inputs than A to produce the output Y and is classified as inefficient with an overall efficiency score of 0D/0C )or equivalenly and inefficiency score of DC/0C).

Overall inefficiency can be decomposed into its techhnical and allocattive components. Without being able to alter input allocations, the bestt that firmC could have done was to operate at point B. The "extra" input usage that was incurred by firm C as a percentage of total input usage is the technical inefficiency measure and can be dpressed as BC/0C The technical efficiency of firm C is ecpresses as 0B/0C. Allocative inefficiency representts managerial failurd to use the optimal input mix. Here, allocative inefficiencies for firm C can be represented by DB/0B, and allocatvie effficiency is expressed as 0D/0B.

Technical efficiency can be further decomposed into technical (PTE) and scale (SE) efficiency measures. Pure technical inefficiency simply refers to deviations from the efficient frontier that result rom failure to utilize the employed resoures efficiently. Hence, this measure assumes that firms are operating at constant return to scale. Scale ineficiencies, on the other hand are losses due tofailure to operate at constant returns to scale. Figure 2 illustrates these two efficiency measures. In this figure, the Y-axis represents output and the X-axis represents input conbinations that contain an equal amount of both input 1 an dinput 2. The graph shows three observations denoted A, B, and C, respectively. Two frontiers are illustrated, a fronier assuming constant returns to scale instead of decreasing or increasing returns toscale.

After completing this analysis, we examine the SE measure to determine if it equals one. If the SE measure equals one, firms are operating at constant returns to scale. If SE does not equal one, we then determine whether the firms are oeprating at increasing or decreasing returns to scale (see Appendix A for a mathematical treatment of DEA).

Answer 1

The write-up talks about various methods/research works which have been used to measure efficiency and performance of hotel industry. A couple of recent techniques are also mentioned in the write-up highlighting their advantages and scope of betterment.

A summary of the ones mentioned in the write-up is as follows:

• Classical ratio analysis: The method uses various ratios to measure the efficiency and performance. These ratios would generally be financial ratios like Profitability ratio, Liquidity ratio, capital structure ratios and so on.
• Aggregate indices of market performance: This method would mean comparing the performance with respect to market performance. An industry could thus perform better, same as or worse than the market.
• Baker & Riley 1994- Revenue Performance: As per this method, the performance would be calculated as per the revenue made. Higher the revenue made, better the performance.
• Wijeysinghe 1993- This method used break even room occupancy for efficiency management. This means, if the actual occupancy is higher than the break-even figure, the efficiency is good and vice-versa. This method is based on the calculation that if the room occupancy is better than a fixed figure(the break-even number), the efficiency would be good. This was also used to find out the sources of inefficiencies in the system as to why the room occupancy is lower.
• Kimes 1989- PARM technique- This technique tries to find a balance between daily room rates and occupancy rate. If the room rates are on the lower side, occupancy could increase and vice-versa. PARM would help find out that combination which would be most useful for the hotel. PARM would also focus on factors like over-booking, rate class allocations, duration of the stay etc.
• Van Doren & Gustke 1982- This technique uses sales receipt information to measure performance. Overall performance and Per-person receipt information could be extracted from this technique. However, there was no specific measure of performance possible with this technique.
• Lodging Index: This method calculated average revenue collected from each room over a time period like a month or a year. It utilizes both average occupancy and room rates into a single calculation making it useful to calculate the performance of individual firms and compare it with others.
• Cost Volume Profit analysis: This analysis calculates how a firm's volume is converted into profit and thus calculating its performance.

Recent techniques which are being used calculate how organizations have been able to convert to various inputs into various outputs.These techniques are divided into two- Linear programming techniques and Regression-based techniques. Both these techniques use the concept of Production Frontier.A frontier is where a firm cannot change its output without changing the inputs, and hence a Frontier is a very efficient figure. Frontier technique does not require a standard cost of any individual service and helps in getting a comprehensive measure of efficiency. It also helps managers to identify inefficient units and also a measure of overall efficiency level.

Morey and Ditmam(1995) used Frontier Technique to calculate performance to hotel General Managers using DEA(Linear programming). They used input and output data for various hotels located in a geographically spread area. The efficiency of the hotels was calculated by this technique, which served for a easy comparison across hotels.This gave the conclusion of hotel lodging industry performing efficiently. Anderson et al(1998) mentioned using a Stochastic frontier model along with DEA to calculate performance more accurately.It resulted in finding that hotel industry performing quite efficiently.

While the above mentioned two techniques were useful in finding efficiencies, ther did not give any information on the source of inefficiency, which is very important information which managers can use to increase the performance. The write-up ends with mentioning about more methods which could be used to develop techniques which provide more detailed and useful information.