Relationship Between Location and Room Rate

Introduction

Location is regarded as one of the most crucial yet complex factors in hotel management. First, location is a fixed parameter; once one has selected the locale, one has no choice but to contend with the results that emanate from that area. Furthermore, it has a direct effect on the premium that the hotel can charge for its services, hence its revenues (Kotler, 1999). Therefore, companies must comprehend how location can affect the marketability and ultimately the pricing of their service.

Proximity to the centre of the city

The bid-rent theory been used to demystify the relationship between room rates and location. Proponents of this theory argue that hotels are able to charge higher prices for their rooms if they are centrally located or easily accessible (Egan and Nield, 2000; Weaver, 1993; Taylor, 1995; Bateman and Ashworth, 1981). They also believe that it is possible to differentiate between the rates of particular hotels if one knows the part of the city that they are located. In this regard, it is assumed that the most expensive hotels are likely to be found right in the middle of the city. Modestly priced hotels are likely to be found in suburban areas while inexpensive or budget hotels are found at the edge of the city. It is believed that these spatial locations exist owing to the amount of rent that the hotel owners must pay in the city. The bigger hotels are able to outbid the budget hotels for land that is closer to the central business district (CBD). Therefore, they can charge more for those rooms because of their accessibility.

Several researches exist to prove these findings. One such analysis was carried out by Bull (1994) in a coastal town in Australia. The researcher wanted to look at how prices changed in relation to the distance from the city centre. It was found that room rates decreased by approximately $3 to $6 for the first kilometre away from the city centre. However, this number increased to $ 10.8 for hotels that were located 1.5km away from the city centre. The research proves that spatial location in cities plays a role in determining how much a hotel can charge for its rooms.

Another analysis was carried out by Shoval (2006) in Jerusalem. He wanted to assess whether a relationship existed between the room rates in the city and their location from the central business district. It was found that the inner city hotels have higher room rates than the ones in the periphery of the city. Furthermore, the analysis also found that the inner city hotels in Jerusalem had a higher share of clients than the ones in the external location thus proving that asking price and demand for the hotels were directly related. Yokeno (1968) explained that hotel guests are wiling to pay more for greater accessibility, and this in turn, gives centrally located hotels more money to bid for the land they are using. Other researchers who follow the above explanation include Arbel and Pizam (1977), Carvell and Herrim (1990) and Mayo (1974).

Exceptions to proximity to the CBD

Juaneda and Raya (2011) carried out an analysis in Madrid. They analysed the prices of hotels in the City relative to one central location. It was found that that the prices of hotels increased as the hotels moved away from the chosen location. Hotels found in Lloret increased their prices by 2.32%, the ones located in Calp increased their rates by 92.13%, while the ones in Denia, Alcudia, Calvia and Argeles increased their room rates by approximately 20.5%, 131.5%, 132.94%, 51,93% ad 194.25% respectively. The researchers explained that the inverse relationship between proximity to the CBD and room rates can be described by the market segments targeted by the hotels in those areas. The ones with low rates target people from a low social-economic group, and this diminishes its demand. The rent-bid theory may not be applicable in all situations since issues of segmentation may also alter it.

Another research carried out in Taipei, Taiwan also found an inverse relationship between room rates and proximity to the central business district (Ching Fu and Rothschild, 2010). The analysts used a hedonic pricing model to determine the relative importance of location on price. It was found that hotels located within the Taiwanese city centre, Taipei were 38% lower than those ones found within the city centre. The inverse relationship found was explained by two major reasons. First, the researchers asserted that most hotels outside the city are associated with resorts. The resorts often have numerous facilities such as hot springs, sporting centres and the like. This increases their relative attractiveness and demand. Additionally, it was noted that Taipei had a relatively high number of hotels. This implies that there was a high degree of competition thus substantially reducing the asking price for hotels in the inner parts of Taipei. The research indicates that sometimes the degree of competition has a tremendous role to play in understanding how location will affect price.

Competition, location and price

In order to understand anomalies in the bid-rent theory, one can analyse the effective of location externalities on competition and hence price. (Urtasun and Gutierrez, 2005; Chun and Kalnins 2001; Deephouse, 1999; Baum and Haveman 1997; Thrane 2005). These writers affirmed that hotels have the option of either conforming to competition or differentiating themselves. Those that choose to conform to their competitors will have the benefit of enjoying positive externalities that spill over from operating in a similar environment. For instance, they could use similar suppliers or services that they require in the hotels. If firms choose to conform, then they will be forced to charge similar prices for their rooms.

On the other hand, hotels can choose to differentiate themselves from their competitors. It assumed that such hotels can either offer their rooms at lower than average rates owing to their use of economical resources, or they can charge premium prices for an additional service that they offer their clients. Differentiation is only possible when the resources used are heterogeneous.

An analysis done by Urtasun and Gutierrez (2005) found that hotels in Madrid did not follow a bid-rent pattern. The most costly hotels were also found in the most heterogeneous locations. Furthermore, budget hotels were located in the city centre. The researchers explained that this was due to the positive externalities that the inexpensive hotels enjoyed from their peers. By conforming to others in terms of location, the budget hotels could minimise resource usage and thus offer lower rates for their rooms. Price competition within the Madrid area also caused many hotels to disperse away from the centre of competition, which is the city. The most expensive hotels were located away from the city centre because they opted to differentiate. The issue of externalities has a tremendous role to play in understanding why proximity to the city centre is not directly proportional to the room rate.

Yang et al (2012) called this factor the agglomeration effect (when hotels concentrate in one location in order to take advantage of suppliers or to minimise customers’ cost of searching).

Airports and other factors

A number of other location-related factors, other than the CBD, also affect the room rates within a hotel. For instance, the closeness of that facility to an airport or other factors such as tourist destinations and railways may also contribute to the overall competitiveness or pricing of the hotel (Ashworth and Tunbridge, 1990; Arbel and Pizam, 1977; Wall et al., 1985; Coenders et al., 2003; Taylor, 1995; Aguilo et al, 2001). Airport hotels have a distinct advantage over hotels located near other facilities because it is a primary means of transportation for tourists. As such, these hotels can charge a premium price for this advantage (Barros, 2005).

In fact, proximity to airports is an extremely vital determinant of the average room rates in numerous destinations. Lee and Jang (2010) wanted to find the relative effect of proximity to airports on hotel prices. After collecting data from hotels in airport cities in the US, the authors found that room rates decreased as hotels moved further away from the airport. The percentage increase was approximately 2.9 % per unit of distance.

Given this findings, one may wonder whether proximity to airports is more important than proximity to the CBD when determining average room rates. Lee and Jang (2010) settled the matter in the same research by comparing the prices of the same hotels in reference to their proximity to the CBD. It was found that prices reduced by 3.4% per unit of distance away from the CBD. Therefore, closeness to the CBD had a greater effect than proximity to the airport. Premiums charged in airport hotels are much lower than the ones charged in the CBD. The logic behind this pattern is that most tourists come to a certain destination in order to visit a CBD, not to stay close to the airport.

Other factors that affect location and price

There are plenty of other factors that may affect the relationship between location and price. Yang et al (2012) identified other traits other than proximity to the CBD and public services such as airports. It was found that cultural diversity or the environmental quality of a location played a significant role in determining room rates (McCann, 2001). Most hotels with the above characteristics could charge slightly higher prices for their services. Additionally, the size of a hotel has an adverse effect on the location hence the price of the establishment. Bigger hotels require more space than smaller ones. Therefore, a number of them need to be in uncongested areas such as the suburbs or areas that are slightly away from the CBD. As such, the cost of that establishment may still be high even though it is found at the periphery of the city.

Studies have also shown that star ratings also have an adverse effect on location and hence price. Kalnins and Chung (2004) explain that a hotel’s star rating is a direct indicator of the nature of clients it intends to attract. Those with five star ratings are meant to attract wealthy business men, who are likely to be found at the heart of the city. Consequently, one has a higher chance of finding such hotels in the middle of the city. Additionally, hotels with similar ratings are more likely to be found near each other, and this has a significant effect on the market rates within that area.

Diversification has an effect on location and eventually the amount of money that people have to pay in order to use the facility. It has been shown that hotels with diversified services are more likely to be found in areas away from the city centre than those without diversified services. Lin and Liu (2000) explain that many firms may opt to diversify in order to reduce their operational costs. Furthermore, companies that diversify have a greater chance of diverting risk than those that do not.

A company that has more than one core business has the ability to choose various locations because it is in a position to pay the rent on that land. Those hotels that focus exclusively on providing rooms, will select areas that are typical of their core business, that is, the city centre. They will need to pay high land rents, and will therefore charge more for their room. However, the diversified hotels will select locations that are typical of other areas of their service offerings. Because of this, they may be located far away from city centres, and may be paying much less rent for the land that they occupy. As a result, these hotels are likely to charge much less for their services.

The effect of location on price is not always straight forward as it can also be confounded by a number of factors. Other analysts have noted that the existence of franchises also has an adverse influence on price (Cadotte & Turgeon, 1988). Certain hotels may have franchises in different parts of the country or city. If the franchise has made a name for itself within its client base, then chances are that clients will be willing to look for it and stick to it even if it is not easily accessible. Sometimes this means that they will be willing to overlook convenient rooms for this sake. As such, location may not always have a direct effect on price when the hotel under consideration is a franchise.

Conclusion

Location is relevant to price depending on a range of factors. The most important one is the proximity of that hotel to the CBD. The closer it is to the CBD, the higher the room rates. Proximity to airports and other public services or facilities is another important factor. However, room rates are found to be significantly higher when a hotel is far from a CBD than an airport. Studies show that certain factors may counter the price-bid theory such as the presence of competition, diversification of services, star rating, existence of a franchise or hotel chain in the location and the degree of urban development.

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