Hold onto your hats for an exciting blog about setting rates!
We know it's not exciting, however some work here will ensure that your business has the foundation for growth and profit (which is what we all want!).
One of the biggest issues to overcome is your pricing, you want to expand your business, but are worried about commission agreements with distributors - so what should your rates be?
A successful product must understand its market position and ideal customer. If you know the 'P's of marketing, 'Price' is one of them. How you price yourself is a key factor in positioning yourself in the market. You can use price to attract your target market and repel those who are not. Key factors that influence the pricing of products are:
First things first, lets clear some definitions up so we are all on the same page.
A commissionable rate is your retail rate that you have agreed to pay a specific commission on. For example, your local travel agent sells your tickets and you pay them 10% commission for each ticket sold. Your tickets are $100 each - so after the guest has travelled, you pay them the 10% (which in this instance, is $10) commission.
A nett rate is the rate with the ‘commission’ already taken out.
For example:
Your retail rate is $100 per ticket.
25% of this is $25
$100 - $25 = $75.
The nett rate is $75.
You contract to the relevant trade partner to sell your ticket at $75 per ticket. They will still sell your ticket at $100 to the customer directly and pay you the $75 and hold onto the $25.
While rate setting can be a tricky task, there are three steps you can take to set rates at the right level and ensure that your business is profitable.
Finding out how much money needs to be coming in to avoid a loss is the first step to setting your rates at the right level. To figure out your break-even point, you need to answer the following questions:
Now go ahead and divide your total expenses by your total customers. The result is the minimum price you have to charge in order to break-even for that amount of customers.
For example, if you had 65,000 customers last financial year and your expenses were $3 million. $3,000,000 / 65,000 = $46.15. You’d have to charge $46.15 per passenger to break-even. Pretty simple right? One thing to consider here is, that is if you forecast no growth or decline. If you are forecasting either, then you may need to increase/decrease accordingly.
Now you know your break-even price you can look at your rates structure and see whether you have enough margins in your different rate levels to cover your costs.
Take a look at how many rates you have issued that differ from your retail price. Can you refine these in any way? Remember the industry standard is to have:
1. Inbound: 25 – 30% off retail rate
2. Wholesale: 20 – 25% off retail rate
If you are an attraction and work with day tour operators, you can add another level of 30 – 35% in there in order for them to contract with inbound tour operators or receptives. Once you’ve subtracted these percentages from your retail rate, are you still charging enough to make a profit? If not, you may have to put up your retail prices.
If you are offering a product that has large volume distribution partners, you may also want to add a ‘volume’ rate level in your pricing tiers or a market specific rate level. However, try not to have more than four different rate levels in the market. This makes it easier for you to contract rates and ensure that your trade partners are issued rates that are relevant to them.
There will be some distribution partners that you wish to offer specifically negotiated rates. Try to keep these to a minimum and only for your best performing partners.
Now that you’ve gotten your break-even point and set your rate levels you can figure out what your profit margin based on the number of customers from the previous year.
Let’s say your break-even price is $46.15 and your lowest contract rate is $80.
Enter these numbers in a table along with your customer numbers per segment. This step will help you figuring out your revenue. For instance:
| Current Rates and previous years pax numbers. | ||||||
| Adult | Nett % | Pax no's | Total Revenue | Nett Revenue | Profit | |
| Retail | $100 | 100% | 15,000 | $1,500,000 | $692,250 | $807,750 |
| Tour Operator | $65 | 35% | 20,000 | $1,300,000 | $923,000 | $377,000 |
| ITO | $70 | 30% | 12,000 | $840,000 | $553,000 | $286,200 |
| Wholesale 2 | $75 | 25% | 10,000 | $750,000 | $461,500 | $288,500 |
| Wholesale 1 | $80 | 20% | 8,000 | $640,000 | $369,200 | $270,800 |
| TOTAL | 65,000 | $5,030,000 | $2,999,750 | $2,030,250 | ||
The above table should show your expected profit is $2,030,250 for the previous year at your current rates with your actual passenger (pax) numbers.
Now we put in the potential rate increase (5%) into the same table (see below).
| Next Rate Years rates and previous years pax numbers. | ||||||
| Adult | Nett % | Pax no's | Total Revenue | Nett Revenue | Profit | |
| Retail | $105 | 100% | 15,000 | $1,575,000 | $692,250 | $882,750 |
| Tour Operator | $68.25 | 35% | 20,000 | $1,365,000 | $923,000 | $442,000 |
| ITO | $73.50 | 30% | 12,000 | $882,000 | $553,000 | $328,200 |
| Wholesale 2 | $78.75 | 25% | 10,000 | $787,500 | $461,500 | $326,000 |
| Wholesale 1 | $84 | 20% | 8,000 | $672,000 | $369,200 | $302,800 |
| TOTAL | 65,000 | $5,281,500 | $2,999,750 | $2,281,750 | ||
With the 5% increase you will make an additional $251,500 in profit from the previous year. Now remember this is a very basic forecast as it doesn't include variables such as increased expenses nor whether your pax numbers may increase or decrease. If the market is in a growth stage, you can expect a bigger profit margin. If the market is predicted to decline, review your estimates quarterly to ensure you aren’t caught out. This is why it is a good idea to keep regular contact with your distribution partners and National Tourism Office who work in your key markets so you should be able to more accurately forecast pax numbers, and thus revenue.
Remember: Any increase in rates needs to be justified to your distribution partners. Reasons for an increase could be new features, increased service or - if your increase is only 3% - then CPI can be cited.
If you are unsure about your calculations, it can be worthwhile to sometimes ask a consultant to review them (such as a Business Analyst), this way you can be sure that your calculations are indeed, correct.
If you are starting out working with Tourism Distribution for the very first time, then put some modest estimates in and review these quarterly. Once contracting time swings around again, you will be able to review your pricing strategy again with more data.
To keep within this percentage framework is the Travel Industry Best Practice and we highly recommend that you set this up from the beginning. We have seen over the years tourism products who have discounted far higher than the 30% and when some of their partners published their rates with a 30% mark up. The result of this is they themselves were severely undercutting their own direct price.
Keeping within this framework also ensures that you have all your contracts in bands and not contracting ‘any old rate’ to any partner which is then very hard for your team to keep on top of and can lead to multiple errors. You want to keep it as simple as possible to avoid confusion.
So once you have defined your pricing, it might be a good idea to start working with distributors, who can help top-up your occupancy throughout the seasons or bring new customers to your tour or attraction. (Missed last week's blog on why you should work with distribution? Read on here to find out!