Question

HomeSuites is a chain of all-suite, extended-stay hotel properties. The chain has 24 properties with an average of 200 rooms in each property. In year 1, the occupancy rate (the number of rooms filled divided by the number of rooms available) was 80 percent, based on a 365-day year. The average room rate was $220 for a night. The basic unit of operation is the “night,” which is one room occupied for one night.

The operating income for year 1 is as follows.

HomeSuites
Operating Income
Year 1
Sales revenue
Lodging	$	138,170,000
Food & beverage		29,433,600
Miscellaneous		14,016,000
Total revenues	$	181,619,600
Costs
Labor	$	66,144,000
Food & beverage		21,024,000
Miscellaneous		14,016,000
Management		2,520,000
Utilities, etc.		38,400,000
Depreciation		12,000,000
Marketing		14,000,000
Other costs		7,000,000
Total costs	$	175,104,000
Operating profit	$	6,515,600

In year 1, the average fixed labor cost was $420,000 per property. The remaining labor cost was variable with respect to the number of nights. Food and beverage cost and miscellaneous cost are all variable with respect to the number of nights. Utilities and depreciation are fixed for each property. The remaining costs (management, marketing, and other costs) are fixed for the firm.

At the beginning of year 2, HomeSuites will open four new properties with no change in the average number of rooms per property. The occupancy rate is expected to remain at 80 percent. Management has made the following additional assumptions for year 2.

• The average room rate will increase by 10 percent.
• Food and beverage revenues per night are expected to decline by 25 percent with no change in the cost.
• The labor cost (both the fixed per property and variable portion) is not expected to change.
• The miscellaneous cost for the room is expected to increase by 30 percent, with no change in the miscellaneous revenues per room.
• Utilities and depreciation costs (per property) are forecast to remain unchanged.
• Management costs will increase by 5 percent, and marketing costs will increase by 5 percent.
• Other costs are not expected to change.

The managers of HomeSuites are considering different pricing strategies for year 2. Under the first strategy (“High Price”), they will work to maintain an average price of $230 per night. They realize that this will reduce demand and estimate that the occupancy rate will fall to 70.0 percent with this strategy. Under the alternative strategy (“High Occupancy”), they will work to increase the occupancy rate by lowering the average price. They estimate that with an average nightly rate of $190, they can achieve an occupancy rate of 90 percent. The current estimated profit is $259,025,200.

Required:

a. Prepare a budgeted income statement for year 2 if the “High Price” strategy is adopted.

b. Prepare a budgeted income statement for year 2 if the “High Occupancy” strategy is adopted.

c. Which is the correct pricing strategy for year 2.

Answer 1

a. & b. Statement of Budgeted Income

HomeSuites
Operating Income		Year 1			Year 2		Year 2
Particulars					High Pricing		High Occupancy
Avg Rooms		200			200		200
Total Rooms (200x24)		4,800			4,800		4,800
No of days		365			365		365
Avg Room price		220			230		190
Total Revenue at full capacity (4800x365x220)		38,54,40,000		(4800*365*230)	40,29,60,000	(4800*365*190)	33,28,80,000
Occupany		1			1		1
Total Rooms @ 80% (4800*80%)	A	3,840		Total Rooms @ 70% (4800*70%)	3,360	Total Rooms @ 90% (4800*90%)	4,320
Sales revenue		Amount ($)	Per unit Cost		Amount ($)		Amount ($)
Lodging (385440000*80%)		30,83,52,000	80,300	(402960000*80%)	32,23,68,000	(332880000*90%)	29,95,92,000
Food & beverage		2,94,33,600	(385440000/4800)	(29433600*75%)	2,20,75,200	(29433600*75%)	2,20,75,200
Miscellaneous		1,40,16,000		No Change	1,40,16,000	No Change	1,40,16,000
Total revenues	B	35,18,01,600		Total revenues	35,84,59,200	Total revenues	33,56,83,200
Costs		Amount ($)			Amount ($)		Amount ($)
Labor Fixed		4,20,000		Fixed	4,20,000	Fixed	4,20,000
Labor Varaible (Total labor cost - Fixed Labor cost)		6,57,24,000	17,116	(17116*3360)	5,75,09,760	(17116*4320)	7,39,41,120
Food & beverage Varaible (per room cost is divided "A")		2,10,24,000	5,475	(5475*3360)	1,83,96,000	(5475*4320)	2,36,52,000
Miscellaneous Varaible (per room cost is divided "A")		1,40,16,000	3,650	(3650*4800)*130%	2,27,76,000	(3650*4320)*130%	2,04,98,400
Management Fixed		25,20,000	(divide each cost by A)	(2520000*105%)	26,46,000	(2520000*105%)	26,46,000
Utilities, etc. Fixed		3,84,00,000		No Change	3,84,00,000	No Change	3,84,00,000
Depreciation Fixed		1,20,00,000		No Change	1,20,00,000	No Change	1,20,00,000
Marketing Fixed		1,40,00,000		(14000000*105%)	1,47,00,000	(14000000*105%)	1,47,00,000
Other costs Fixed		70,00,000		No Change	70,00,000	No Change	70,00,000
Total costs	C	17,51,04,000		Total costs	17,38,47,760	Total costs	19,32,57,520
Operating profit	D = B-C	17,66,97,600		Operating profit	18,46,11,440	Operating profit	14,24,25,680

c. The correct pricing strategy would be high pricing strategy as the highest profit is earned in this strategy.