Is price discrimination good or bad?

Price discrimination is neither good nor bad. Price discrimination, when it occurs, is part of the price: you either pay the price asked of you, negotiate something more favorable if you can, or seek something more favorable elsewhere.

Hotels are a business that, to someone who sees price discrimination as a bad thing, would be among the most persistent offenders; so let's use those as an example.

Nothing would please me more than to be able to charge $149 per night for a hotel room at a select service property in Winston-Salem, N. C. But, forget it, it's not going to happen: even the Hilton Garden Inn and the Courtyard by Marriott asks only $129 per night, and both competing Hampton Inns charge $119. (Each of those is in a good location. My location is kind of weak by comparison - for a few more years, until the northern beltway terminates at that spot - and I won't get as much walk-in business.) With normal, static, walk-in demand, my 61 rooms can go for about $108.

However, I'm not going to settle for normal, static, walk-in demand. If I did, I'd rent maybe 15 rooms a night - and have to give discounts and hand out coupons to get people at even not quite that rate. If I try for, say, $115 per night, I might be able to get that out of some people, but too many people will feel that it's too high and will walk away.

Instead, I'm going to do something to fill those rooms, create some scarcity for my walk-in guests -- and then, be able to ask more of them.

So, I'm going to be looking for group business - customers that I can get more than ten room-nights per month out of.

• A company in a nearby office park, for example, will need to put up three people on an average of eight nights during any given month. So, I'll let them have the rooms for, say, $82. I'm not getting as much for my rooms as I would from a walk-in guest, but that business is assured and there's lots of it, so I'm okay with it: it's a fair trade-off. (For me, price discrimination is part of the price, too - either I give up a better rate for a piece of business I need badly, negotiate something more favorable if I can, or find another customer.) And I'm going to find as many such companies in my area, with similar needs, as I can.
• A tour bus is going to have, say, 55 people on board. They'll need 28 rooms at double occupancy. I'll give them a break and throw in a comp room for the driver - here again, I'm making that trade-off. Nearby conventions, concert and sports events, and family functions (weddings and funerals) are good for occasional group business, as well.
• I'll make a bunch of rooms available online through online travel agencies such as Expedia, Priceline, Hotels.com, and Booking.com: They'll charge me a 20-25% commission, so for a $108 room, I'm only getting between $81 and $86 - which, once debt service is taken into account, barely covers my costs. But I'll let them get away with it, because if he's in town regularly, I want to turn that Priceline customer into my customer - even if I give him a break and only charge him $96 per night on future stays for that $108 room, I'm coming out ten to fifteen bucks ahead of what I'd get out of him if he called Expedia. It works the same way with those coupon books you find in rest areas: a first-time guest can get the room for $79, but it's only good for first-time guests.
• A fundamental law of business: cash is king. (You can run a profitable business, but if you run out of cash before you yourself get paid, and can't pay your bills as they're due, then you're insolvent. On the other hand, you can be unprofitable, or even lose money, for a time, but if you're sitting on a pile of cash, you can ride it out.) So . . . if you book a room two or three weeks in advance and are willing to prepay for it, I'll give you 15% to 20% off the rate. Your room, and rate, is assured; I've got your money (your reservation is non-cancellable) so I'm covered and have that much more cash to sit on, so it evens out.
• There's a lot of segmentation possible among any hotel's customer base.
• We're near a hospital complex, and I want to get more doctors, nurses and health care people. So, I'll be extra careful to look out for them: I want word to get around among them that this is their hotel. I'll cut them a break on the price accordingly.
• On the other hand, I'll rent to local people - 'guests without baggage', the 'hot pillow' trade, people who have a date and just need a place to have sex - but I don't want to encourage that kind of business, and I sure as heck don't want to be dependent upon it. 85% to 90% of local people give you no problems, but 85% to 90% of your problems come from the 10% to 15% who do: the party animals, the drinkers, the druggies, the prostitutes, the criminals, the people who loiter or roam about the common areas of your hotel and scare off your good guests. So, as a general rule, local people get no discounts at all (in a franchised property where I'm required to offer a AAA discount, I won't even give them AAA): I want them to have no illusion that I can't live without them if I have to, and if they can't behave, I'm quite willing to live without them.
• I frequently pursue business from construction companies whose people can be counted upon to occupy the rooms quietly and not track mud in my lobby. I have no compunction whatsoever about not offering much of a discount - or even laying an 'a*shole tax', if I take them at all - on construction companies whose crews are bad about trashing the room or the common areas, off-duty drinking and hell-raising, or being difficult about paying the bill.
• Accordingly, part of the job of sales and marketing is to not only sell the rooms, but to shape the clientele, to make sure that the business they bring in adds to the value of the hotel's business operation, and contributes positively to the ambiance of the hotel and the overall guest experience, of all the guests. I tell my salespeople, I want you to bring me business, but I want you to bring me good business. Filling up the hotel with rowdy local people at sixty-five bucks per night?  That's not good business. Liberal credit terms that result in uncollectible direct bill accounts? Not good. Promising more than the hotel can deliver?  Bad. Companies or groups who aren't willing to pay enough to cover the costs of having their guests?  We don't want it. Companies or groups who demand more by way of services than it is cost-efficient to provide?  We can't do it. I don't want to hear it from our salespeople about 'how hard I worked to get them here': we don't want them to put any work at all into bringing us bad business. If word gets around that we're willing to put up with it – or desperate enough to feel that we need it – bad business will find its way to us on its own without any effort whatsoever on our part. 

Essentially, my game is to find regular takers for 45 or 46, perhaps more, of those 61 rooms, at a price that covers my costs. (If I have 20 or 25 walk-in guests per night, I need only find regular takers for 35 or 40 of those rooms)

With that in place, now, I can tap my rate up to $115. And out of those 15 or so walk-in guests that come around, if three or four of them think it's a little high and walk away, I'm not hurt. I can still fill the dozen or so rooms I have left with the dozen or so guests I have left who are willing to pay $115.

And on the basis of my new $115 per night rate, I can negotiate more favorable rates from any of the corporate and group business I described. So now, my property is becoming profitable.

As long as I can get the cycle to repeat itself, the rate spirals upward. (Of course, it could stay at $108 forever, but that would only get me those fifteen walk-ins a night, I cannot operate profitably with that. So, in time, I'm gone - and so are the $108 rooms that I provide.) My job as the owner of the hotel (or as, where Beechmont holds the management contract for a hotel owned by someone else; if not an agent, someone obliged by virtue of that contract to manage the hotel in the best interest of the hotel and its owner) is to keep it spiraling upward. (It also works the same way in reverse, if your business is declining or falling off, your rates creep lower). I won't quite get it up to $149 per night in the foreseeable future, with the Winston-Salem market being what it is with existing supply and demand, but eventually I'll be giving those Hampton Inns a run for it, get my own rate up to $119, maybe even a little more. (In some towns, Hampton Inns get a higher rate than the Fairfield Inn by Marriott, the Wingate by Wyndham, or the Holiday Inn Express; in others, one of the others pulls ahead. How well each does at constantly finding new business to be less reliant upon walk-in and transient business is the driver of success in that little competiton between the four big chain brands.)

If you're one of those walk-in or transient guests, am I 'cheating' you by doing this?

No.

• First, like anyone else, we're in business to make a profit. Just because my break-even happens to be $74 per night per room and I could rent you a room at that price without losing money if I wanted, doesn't mean I owe you to do that. I could rent the rooms for $80 and make a small, modest profit - and just because that's true doesn't mean I owe you to do even that. I certainly don't owe you to lose money on the room. If I can't get more than $74 for the room, I'm usually  better off leaving it go unrented. In any event, I'm not going to price the rooms in a manner so as to devaluate my product. If I rent a room at $82 to most everyone who shows up, then I'm renting "$82 rooms", and it's hard to convince someone they should pay $108, or even $95, for them. Whatever I charge, there is going to be some point at which I have to put my foot down and say, "This is it, I can't go any lower. If you can find a better rate at a hotel that makes you happy, take it, and it was nice meeting you." So, I'm going to plan on doing it while I'm still getting a decent rate.
• Second, I don't owe you a cheap room, nor do I owe you a heroic effort to find ways to come up with creative discounts or to make it cheaper for you. (One of my pet peeves in this business is customers who feel that I do. "Sir, do you want smoking or non-smoking?" "What's cheaper?" "Will you be paying cash or using a credit card?" "What's the difference in price?" I hate people like that, they drive me nuts. It's why I don't like entitlement rates - AAA and AARP are the most common examples. They demand ten percent off any rate quoted, but give the hotel nothing in return except a haggle at the front desk every time one of their members shows up. Whether you give them a discount or not, they will go to any hotel, maybe yours, maybe your competitor. They have no loyalty whatsoever, and it makes no difference to them: they just demand it as their due. If AARP wants to send all of their members visiting Winston-Salem to my hotel, then I'll sit down with them and talk 'discount'.)  It's like your desire for anything else that I have, whether a hotel room, a car, some of my real estate, my food, some money, a service I could perform or a concession I could make to you - if you want something from me, offer me something of fair value in return for it. It's called exchange. It's what business is all about. Americans are becoming a race of people too many of whom just don't get it.
• Third, everyone to whom I give a discounted rate - who falls into one of those categories I described - is giving me something in return (in terms of present or future business volume, in terms of new business that I wouldn't have gotten otherwise, or in terms of advance payment that contributes toward my cash cushion) that, as a one-time walk-in guest, you're not.
• Now, it's nothing personal.  If you're good for any of those things, I'm quite willing to sit down with you and work out something - you can be one of those rooms that go toward making my 45-46 magic number.

Hopefully, this clarifies where we are with it. No one is being cheated. Whatever the price in dollars, it remains a fair exchange. As long as both sides are going into it voluntarily and no one is being coerced, there's nothing wrong here. Part of the exchange is in the form of something other than money, that's all.

------------------------

(as in, no, they don't have a fixed 'shelf price' or MSRP . . .)

Originally appeared on Quora