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HOTEL INDUSTRY IN

UNITED KINGDOM

MARKET STRUCTURE
The hospitality industry in the United Kingdom is both large and varied (It contributed almost
4% of total UK GDP), comprised of: traditional brick and mortar hotels; holiday
accommodations such as lodges and cottages; short-term accommodations such as camps and
caravan sites; restaurants, pubs and bars. The hotel industry in particular is at an interesting
crossroads, with overall economic and business conditions improving directly alongside the
rise of innovation and competition, specifically in the form of the sharing economy.
The industry includes hotels that provide accommodation to both local residents and
international travellers, and these establishments often include other facilities, such as
restaurants, recreational areas, conference rooms and convention centers. Over the years, the
market has grown into a mature industry, of the size of GBP 17.4bn in 2015.
The hotel industry in UK is fragmented and the concentration is low.
More than 9300 hotels operate in the industry, with the four largest players controlling less
than 15% of the market. Geographically, London, the South West and South East house around
50% of the hotels.
The market can be characterized as a competitive one, with the following factors
supporting this claim:
There are many firms in the market, with no firm(s) having the scale to dominate the
market.
New entrants to the industry face low to medium barriers to entry.
Firms in the industry are price takers rather than price makers. The advent of the digital
revolution has made information very accessible. Online travel agents, social media,
review websites, etc. have facilitated direct and easy price/quality comparisons for
consumers, leading to a reduction in pricing power of individual firms.
The core product of firms is accommodation services, which is a fairly homogeneous
product having few differentiation features.
Major Players
Given the fragmented market, the major players do not have controlling powers.
Company Name
Whitbread PLC
Travelodge Hotels Ltd
Accor SA
Intercontinental Hotels Group PLC

Brands
Premier Inn
Travelodge
Sofitel,
Pullman,
Novotel,
Mercure, Adagio, Ibis
InterContinental, Crowne Plaza,
Holiday Inn, Staybridge Suites

Market Share
6.4%
3.0%
2.6%
0.3%

Herfindahl-Hirschman Index Test (HHI)


HHI is a commonly accepted measure of market concentration, calculated by squaring the
market share of each firm competing in the market and then summing the resulting numbers.

In this case, based on the market shares of the largest four firms, the index is calculated as
follows:
HHI = 6.4^2 + 3^2 + 2.6^2 + 0.3^2 + = ~ 57
Using the index, a result less than 1000 indicates a competitive market; since the result is
significantly lower than 1000, we can classify the market as competitive.
DEMAND
The outlook for demand growth within the global hotel industry more broadly is positive. After
the economic depression in 2009, the global economy has grown in the last five years, resulting
in an increase in disposable income. An increase in the disposable income has let people spend
more freely. Increases in the global number of people traveling (4.8% increase in the past five
years), as well as increases in hotel occupancy and industry revenue (4.6% increase in five
years) are clear indications of a positive demand growth for the hotel industry in general.
Over the next five years, global hotel industry revenue is projected to increase to 987 billion,
from X. Though emerging markets in particular will see the largest growth (twice as much),
we can expect to see growth across markets.
The UK hotel industry has grown at an annual rate of 3.5 % in the last five years, and is
currently valued at 17.4 billion. The demand for hotels has gone up due to the improved
economy, as well as special events such as the 2012 Olympics in London. Given an increase
in disposable incomes, hotels increased their prices per room, leading to a further increase in
revenue. The growth in the UK hotel industry is forecasted at 2.4 % over the next five years.
The closest substitute to hotels is the 'sharing economy' accommodations offered by Airbnb.
They have constantly taken away market share from the hotel industry in the budget and
midscale hotels, and continue to pose a serious threat to hotels in these categories.
Hotel Categories
The hotel industry in UK is in the mature stage of its cycle and is a fairly saturated market. The
industry is highly competitive due to the large number of accommodation providers across
various price ranges/categories, described below.
Economy
This is a very elastic and a highly competitive market. Since most of the hotels in this range
generally offer undifferentiated products, the competition is on the price front and thus the
demand varies significantly with price.
Midscale
This segment is comprised of 3-star hotels, and is also fairly elastic; customers decisions
mainly based on price due to the similarity in services available at different hotels. During
recession, many of the customers using hotels in this segment moved to hotels in the economy
segment. The future for hotels in this segment is not very bright as customers over the years
have become more accustomed to hotel chains in the economy segment.

Upscale hotels
This includes 4-star and boutique hotels, and the ability to differentiate and offer personalized
services leads to lower price elasticity as compared to the two aforementioned categories
Luxury hotels
The 5-star hotels in this segment offer premium services to customers and can much more
easily differentiate their offerings from hotels in other categories, resulting in the most price
inelastic market.
In general, UK hotels do not have high market power as the market is saturated across
categories, but not concentrated.

COSTS
Irrespective of the number of guests in a hotel, it always has to bear a fixed cost for hotel staff,
repairs, etc. These high fixed costs are the nature of the industry, but the industry is
consequently very sensitive to demand because of the difficulty of lowering these costs.
With an overall market size of 17.4 billion pounds, wages only account for 4.8 billion pounds
and thus a significant part of the fixed cost. Due to the sensitivity of demand in the hotel
industry, the Online Travel Agents offering last minute bookings have been able to create a
sustainable business around it.
Economies of scale are important in the hotel industry, as with many other industries. It is
beneficial as it can improve purchasing power, and reduce advertising and administrative costs.
One can benefit from setting up an additional unit as it reduces the cost of operations, but to be
able to benefit substantially from economies of scale one has to grow itself into a chain of
hotels or a brand. Developing into a chain of hotel helps the firm to increase its purchasing
power with the suppliers and brings down the cost of advertisement and administration. It also
helps the hotel to bolster demand, increase customer retention and increase its revenue per
average room. Marginal costs decrease as economies of scale increase, but a truly substantial
reduction is difficult without growing into a chain of hotels or a brand. As one example, Premier
Inn is the largest hotel chain in the UK, with about 60,000 rooms, and benefits substantially
from cost-containment measures.

BARRIERS TO ENTRY
Both volume and diversity are high in the UK hotel industry, which ranges from four-room
boutique operations to complexes that include conference centers that could be considered
stand-alone businesses. Since the challenges of setting up a hotel vary hugely according to
scale, we are focusing on examining barriers to entry in accordance with the part of the market
a new business intends to compete in. Hotels are formally classified in four categories
according to the number of rooms, but for simplicity we are considering two groups: large
hotels (over 50 rooms) and small hotels (under 50 rooms, with a subcategory of bed and
breakfasts/homestays).

For big and small hotels alike, competition within the market is very high. Beyond the
approximately 9300 hotels in the UK, the existence of competing industries such as shared
economy accommodations (like Airbnb) are further saturating the market. Given the high
volume of established business, we can observe a few barriers to entry. First, it is difficult for
aspiring hotel owners to conquer enough market share to make them profitable. Second, real
estate is challenging, as it is difficult and expensive to procure adequate space. Given that
location is one of important factors in a hotels success, the competition for a location itself is
strong. In some particular geographies, the first mover advantage is obvious if the hotel has the
potential to be situated in a unique, attractive location (on an island, mountain top, etc.).
Another general barrier to entry is the set of existing regulatory requirements, which range
from music and alcohol licenses to extensive insurance regulations. Though navigating this
bureaucracy is time consuming, and requires meticulous record keeping and updating, it is not
nearly as difficult nor as capital-intensive as other the costs of setting up a hotel.
Additionally, a new entrant to the market will need to account for costs related to marketing,
which includes advertising and setting up a digital presence (whether through their own website
or via an accommodation search engine). These costs are relatively small but still need to be
taken into account.
The most significant cost differences between establishing large and small hotels are: the cost
of real estate, furniture and fittings, hiring, and a starting inventory needed for day-to-day
operations (food, beverages, and linens). Obviously, the larger the hotel, the more capital is
needed. A small house that gets converted into a bed and breakfast has a lower real estate cost,
and could be potentially be funded from a personal savings account. In comparison, a hotel of
700 rooms requires significant investments of real estate, raw materials, and basic
hiring/personnel needs. However, existing players in the market have an advantage on this front
as economies of scale allow them to order supplies in bulk and have smoother hiring and
training systems. This effect acts as another barrier to entry for new businesses.
Given the UK hotel industry is mature and stable, we anticipate that regulations, competition,
real estate costs, the desire for premier locations, and hiring costs will continue to be barriers
to entry in the future. However, the impact these will have on new business is debatable and
may vary according to size and location.

PRICING
Seeing how the hotel industry has been around for many years, and how websites are becoming
a larger and larger supplier of hotel bookings, there is plentiful consumer data hotels can use
to build and reiterate their pricing models. Though the vast number of websites available make
it more difficult for hotels to "hide" extra fees and increase prices, price discrimination is still
present in the UK present in the hotel industry.
The most obvious is second-degree price discrimination, which seeks to make a small
difference between products (e.g. economy and business class airline tickets) in order to force
some customers to pay a premium (e.g. in exchange for the comfort of business class). Larger
hotels offer multiple variations of rooms of each size (one-bed, two-bed, etc.), depending on
the view, facilities included, and quality of room (e.g. silk instead of cotton bedding), etc. The
value added for the comfort of sleeping in silk is impossible to accurately measure and thus

accurately price. The customer is left with a personal decision of whether to pay the premium
price for a room that may or may not actually be all that different, depending on their particular
values and needs.
Depending on the point of view, one could claim that first-degree price discrimination is always
present in hotels. In the case of providing accommodation, if we define first-degree price
discrimination as a hotel charging a different price for the same product (room) each time it
was rented, then we can claim that hotels use it all the time. Take, for example, a hotel in
Bristol. A hotel guest staying for one Monday night in October will not pay the same price for
that room as did the guest who stayed in the same room on Saturday. In July, when there is
more beach tourism, a Saturday's stay in that same room would cost even more. However, if
we decide to define the main product that the hotel is selling as "time" instead of "room," we
could argue that there is no price discrimination at all, as each day could be considered a
different product.
Hotels also use various pricing incentives for their customers. There are many discounts
available when booking a hotel stay, depending on either number of days or number of rooms
booked. For example, if an individual customer is booking a single room, he or she can get
seventh night free in exchange for committing to a six night stay. Likewise, when schools or
businesses book a large number of rooms, the hotels try to incentivize longer stays by offering
group discounts. For both the examples given, it can be observed that hotels within the same
price range constantly compete on the discount front.
It is debatable whether these techniques could be used in order to further maximize revenue.
Last year, the hotels in the UK were very good at capturing consumer surplus: the occupancy
of hotels was 77% in the provinces and 84% in London. One of the main metrics for revenue
in hotels, RevPAR (Revenue per Available Room), was 53 in provinces and 122 in London
last year. The average prices of hotel rooms were 69 and 145, respectively. As the RevPAR
divided by room price is only a fraction of a percent smaller than the occupancy rate, we can
conclude that the consumers were not deterred from booking higher-priced rooms. In order to
increase the RevPAR, hotels need to use a combination of pricing strategy and meticulous
forecasting in order to try to increase the occupancy rate and make the customers book more
expensive rooms/dates.

EQUILIBRIUM AND FORECASTS


Since the market in which hotels in the UK operate is quite varied, it is difficult to define both
the supply and the demand. Not only is the market competitive on the "inside," there are also
many "outside" industries, such as shared economy accommodations (e.g. Airbnb), hospitality
exchange networks (e.g. Couchsurfing), etc. This, in turn, might result in an ambiguous
interpretation of market equilibrium.
There was an evident lack of demand for hotel accommodation in the years 2008-2011 due to
the economic crisis. During this period, the UK population travelled less within the country
and there were 15% less tourists entering the UK. The budget hotels saw an increase in revenue
during this time, as they took over some of the demand from the higher-end hotels. The demand
and the prices were on a downward spiral and there was no equilibrium to be found.

Aided by the London Olympics and the Rugby World Cup, the UK hotel industry is growing
in 2015, when the average daily rate for rooms has finally risen 2.2% over the highest average
daily rate before the crisis. A PwC forecast estimates a growth in revenue of 4.2% in the
provinces and 2.3% in London during 2015 and 2016. This indicates that there is still a portion
of consumer surplus that the hotels could capture and thus - that equilibrium has not been
reached.
However, as hotels strive to find the point of the equilibrium across all price ranges, and to
eventually reach it, it is becoming evident that outside players such as Airbnb will replace a
portion of the supply by the hotels, and thus influence pricing. The most probable result is that
the equilibrium point will be lower. Additionally, given that half of the customers of UK hotels
are international customers, the hotel industry will experience fluctuation in accordance with
the success of other economies. For example, a stronger Euro might result in more visits from
EU customers, but if both the Euro and US dollar weaken compared to the British Pound, the
hotel industry will see a decline in demand from two of its most fruitful consumer bases.

In the short term, given the continued bounce-back from the economic crisis, and as predicted
by PWC, we expect to see a rise in prices as the demand has steadily increased since 2008.
However, with high fixed costs in the industry, emerging substitutes and unstable economies

all over the globe, UK hotels will have to compete heavily in order to retain prices, to stabilize
profits from international customers, and to retain their share of the market from being taken
over by cheaper alternatives like Airbnb.

INDUSTRY STRATEGY ANALYSIS


CURRENT INCUMBENTS Attractive market?
Demand for hotels is driven by the following factors:
International tourist numbers The number of international tourists is expected to
increase given improving global economic conditions and Londons continued appeal
as a major tourist, shopping and business destination.
Domestic tourism Improvement in the UK economy, supplemented with the
quantitative easing packages of the government, is leading Britons to take domestic
holidays. This provides greater opportunities for hotels.
Disposable household income Disposable income is forecasted to rise, enabling
consumers to spend on holidays and in turn positively impact the hotel industry.
Business profits Businesses use hotels for travel, conferences, meetings and
conventions. In times of recession, these costs are among the first ones to be cut. As the
business sentiment improves in UK, the demand for hotels from businesses is expected
to rise.
Consumer Confidence Index Post financial crisis, consumer confidence has been
revived and is expected to be stable going forward.
The UK hotel industry has grown at 3.5% in the last five years, and is expected to grow at 2.4%
over the next five years. As illustrated above, the market is growing, albeit at a slower rate than
the past. These factors make it an attractive market for existing incumbents to operate in. The
competitive, mature nature of the market provides immense opportunities for players to
increase their market share through organically growing business or by resorting to inorganic
strategies of mergers and acquisitions.

NEW ENTRANTS Best strategy?


Though there are numerous upfront costs involve, the market has low to medium barriers to
entry. Also, given its competitive nature, many players enter and exit the market. For a new
entrant, we feel the best possible strategy would entail the following:
Focus on one segment at a time The market is divided in four segments as discussed
above. Each segment calls for a different strategy. To make a positive entry and capture
market share from existing players, a new entrant needs to target one segment and build
its brand there.
Differentiate product through innovation The services offered by hotels are identical
to a large extent. Differentiating the product offering from existing players would give
a head start to new entrants in acquiring market share.
Dynamic pricing Adopting innovative pricing methods can help attract customers
from competition.

CURRENT INCUMBENTS Response to new entrants?


Given the competitive nature of the market, incumbents have to be constantly ready for
competing with new entrants. An effective strategy to retain market share and minimize new
competition would include:
Invest in brand building Creating a brand that customers know and relate to would
help incumbents retain customers and tackle new competition effectively.
Focus on core competencies In light of new competition, it would be important for
existing firms to not forget their core competencies and focus their resources on further
building an area of strength.
Innovate to differentiate product Product differentiation in a competitive market
enables firms to charge a premium and in turn improve margins.
Create a good loyalty program Loyalty programs entice customers to make return
purchases, enabling incumbents to retain customer loyalty.
Leverage economies of scale Incumbents should use economies of scale to their
benefit. Margin improvement through cost savings on purchases and supplies would
provide an edge over competition.
Superior employee engagement The hotel industry is a services market and investing
in talent is one of the best ways to maintain quality. Activities such as skill development
opportunities for employees boost morale, eventually leading to high quality service
and content customers.

NEW ENTRANTS Profitable?


The hotel industry in the UK made profits of GBP 3.5 billion on revenues of GBP 17.4 billion
in the last year, signifying a very healthy profit margin. The largest player in the market,
Whitbread PLC, reported improving revenues and margins in 2015. The demand outlook for
the industry is positive as discussed above with a predicted growth of 2.4% over the next five
years. In addition to barriers to entry that are not insurmountable, there are opportunities for
new entrants to capture market share by introducing new, innovative services at dynamic
pricing. In light of all this, we believe a well-executed entry attempt can be profitable for a new
entrant.

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