What is and why do hotels have a rack rate?

Sometimes, with all these 'entitlement' discounts, I wonder myself . . .

First of all, rack rate is not - at least not in the US - set by law. If some hotel clerk told you that, he or she either didn't like you, or just didn't want to give you any kind of discount. Every hotel sets its own rates - and its own exceptions to and discounts from those rates.

(Some localities require the hotel to post their rates, like on the inside of the door to your room, usually a scheme to thwart price gouging, or fraud by clerks. Where there is such a requirement, you'll see an astronomically high rate posted, in anticipation of the expected rate for the most high-demand special event in the area . . .)

Rack rate is the asking price for a room, the set price from which nearly all discounts are calculated.

How much? Well, certainly I want to cover my costs, make a profit, etc. - but it is strictly market driven. (Consider Hampton Inns, or Courtyard by Marriott. A room at a Hampton Inn, or a Courtyard, is going to come pretty much one way. But a king room at a Hampton Inn in one city can be priced very differently from a similar king room at a Hampton Inn in another, depending upon the local market. The same goes for Courtyard, and any chain that emphasizes product consistency and uniformity.) I'm going to set it at an amount comparable hotels are asking for comparable rooms. Set it lower, and I'm charging less than the guest might be willing to pay; set it higher, and unless my property has amenities and features for which the guest considers worth paying a little more, I'm going to lose business to the competing hotels.

And now, the discounts . . . You can pretty much figure that everyone who walks in the door has some rationale why he or she should receive a 10% discount from the rack rate.

As a new independent angel investor, how will I find new companies to invest in?

I can set you up with some hotels. 

For example, get onto Loopnet, and look at some Microtels. A Microtel in good condition is a good quality, if modest, mid-market hotel product. But they have historically been marketed and promoted as 'economy' properties - even in areas where they could easily command a higher rate, where the only nearby hotels and motels that charge approximately the same for a room are older and of much inferior quality. Wyndham Hotel Group is now getting away from that, but the franchisees aren't catching up.

So, Microtels tend to be undervalued.

What do hotels do with unused guest rooms?

Get rid of them, if I can't find a way to sell them at a decent price, and if I can find a way to eliminate them that the owners will go along with.

I'm serious.

The same law of supply and demand that means you have to pay $175 to $300 per night for a mediocre room in a mediocre hotel in, say, New York or Boston, where scarcity of hotel rooms occurs naturally, also turns around to bite us in the butt when scarcity is . . . well, scarce. 

So, I'm going to create some scarcity - even if I do it by letting some rooms go empty.

I might have an older 125-room property, for example, that was built in the '70's. 

Why do real estate companies prefer not to rent real estate, instead of renting it for less?

Perceived value, preservation of the desired price point of the rental rate, and actual value of the property when income or cash flow is a factor in calculating its value.



I run a hotel where the rooms go for $100 per night.  I might be able to rent a few more rooms each night if I lowered the rate, but if I rent too many rooms at $75 per night, for example, then I'm now running a $75-per-night hotel instead of a $100-per-night hotel, it becomes very difficult if not impossible to find people willing to pay $100 per night if that many people are paying only $75 - and the value of the hotel itself has instantly declined by 25%. (One  of the most commonly accepted means of valuing a hotel as a real estate  investment is a multiple of its annual room revenue. For many hotels, 25% of their value can be a a million bucks or more.)

Why don't airlines build their own hotels for crews in order to save costs?

Because the deal they get on rooms in hotels that tie up someone else's investment capital is too good, so why invest their own money? Yet, they get all the benefits of ownership. Airlines, when they need rooms for crew turnarounds, are the most aggressive, predatory negotiators of corporate and group rates on the planet.



You're usually talking about five rooms per turnaround -- that is, per flight crew per night. That's twenty rooms, if they send four crews per night. If an airline needs enough rooms each night in a given city to fill a small hotel, it will generally establish a crew base in that city, and -- rather than build a hotel -- eliminate much of its need for rooms right there.