Profit Planning: The Continuing Feasibility Study

Robert W. Lee, Principal

Earl W. Powell, Partner
, Mitchell
, Marwick
Peat & .
Co

THE Il~osT SIGNIFICA1B&dquo;&dquo;T GOAL of any hotel or motel unequivocal manner that the criteria for judging
company is to make a profit. We all recognize the the success of the operating unit is actual profit
importance of service. But without profit, indeed performance against a specific profit goal.
Closely coupled with this concept is one of flex-
adequate profit, the firm will fail and its service,
social and ecological goals regardless of their
-
ible budgeting. In flexible budgeting, the uncer-

validity will become meaningless. At the very

-
tain factor is revenue. All semi-fixed or variable
elements modified, depending on alter-
least, the lack of adequate return on investment cost are

will deplete the company’s ability to compete in nate revenue plans. In theprofit planning equa-
the important and competitive capital investment tion, profit is either held constant or deliberately

market and stunt the company’s growth.
In this article, we will first review profit plan--
ning as a philosophy useful to the hospitality in-
dustry, and then generally describe the planning
and control process.
Plan Toward a Goal
Planning presupposes a desire to: obtain certain
goals in a deliberate manner. An adage reminds
us, &dquo;If you don’t know where you’re going, any
path will get you there.&dquo; The formal planning ap-
proach should be viewed as a discipline to aid
in developing goals and for remaining on the path
designed to reach them.
The classic accounting statement that revenue
minus cost equals profit is, of course, correct from
a recording
standpoint. The emphasis, however, is
incorrect from management’s viewpoint. Man-
agement should consider profit to be the planned
for element, with cost as the derivative. Therefore,
the equation should read: Revenue - Profit Al-
varied, based on management judgment, as rev-
enues fluctuate and costs are &dquo;flexed&dquo; to maximize
the gain from increased revenue or minimize the
loss from decreased revenues. The flexible budget
is, in fact, several different budgets, each assum-
ing a different revenue level.
Robert W. Lee is the Principal in charge of Peat,
Marwick, Mitchell and Company’s practice in
the hospitality industry. His background in-
cludes responsible line and top positions in in-
dustry as well as consulting. A graduate indus-
trial engineer from the Georgia Institute of
Technology, Mr. Lee has performed graduate
work in economics at the Claremont Graduate
School. He lectures on financial management in
the School of Hotel Administration at Cornell
University and is also a Statler Series lecturer
at the University of Massachusetts in resort de-
velopment.
=

Earl W. Powell is the Peat, Marwick, Mitchell

lowable Cost. Given a target profit from which to
determine an allowable cost, the properties and/
or the
operating departments have a firm basis for
planning. Further, top management, by using
profits as the target, communicates in a clear and
and Company partner responsible for that or-
ganization’s practice in the Caribbean hospitality
industry. A C.P.A. and former executive vice
president of Lum’s, Inc., Mr. Powell is a gradu-
ate of the University of Miami.

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Keep On Top of Change can be made in a manner consistent with long-
The hospitality industry today is faced with range goals. The developrnent of long-range goals
shifts in visitor demand, eating patterns, and the strategy for their accomplishment should
rapid en-
be an entrepreneurial process, based on creative
tertainrrient needs, rate structure acceptance, and
costs. Many hotel executives feel they spend most judgment and influenced by econon~ic, social, po-
of their time reacting to changes outside their con- litical and ecological factors. The results must be
trol and are, therefore, frustrated in efforts either fed back to the day-by-day decision makers, since
to plan for or to obtain their goals. Profit planning today’s decisions establish future policy.
is an effort to address this problem. The business Often, long-range planners are set up in &dquo;ivory
that clearly communicates its profit goals to op- towers&dquo; to - like Merlin - forecast the future
erating management, so that all involved are mak- while the firm continues along making daily de-
ing operating decisions from a common view of cisions independent of the planner’s soothsaying
the firrn’s long-term goals, is mor e likely to succeed efforts. These isolated groups are seldom effective
in this volatile environment. or long lasting. Further, the strategies for obtain-
The tool we use to accomplish this communica- ing long-range goals are just that strategies- -

tion is basically a top-down which must change constantly to accept the im-
-

profit planning -

process. However, it is also a process that is highly pact of more recent information.
iterative or repetitive. First, top management pre- In support of the long-range plan, but more rig-
pares or reviews the statement of the firm’s broad id in character, the short-range plan spells out in
objectives. Within the framework of these objec- detail, generally for a 12-month period, the re-
tives and pertinent external factors, management source allocation
plans and operating goals during
must determine: that period. This plan is then documented in a
- Growth budget which expresses in terms of units and dol-
objectives. lars the results implicit in the short-range plan.
- Return on investment objectives. This aggregation and documentation process
- Social objectives. brings to light any conflicting goals or resource
demands of the various operating entities and pro-
Further, management must also develop the strat- vides a mechanism for resolving these conflicts.
egy to be followed over the next three, five or ten The budgeting process is continual and the fiscal
years to meet these objectives. year should not be allowed to establish an artifi-
Operating management then translates the spe- cial planning hurdle.
cified objectives and strategies into a long-range Hotels usually operate continuously and, from
plan, with short-term plans used as a basis for an operations standpoint, the end of the fiscal year
budgeting. After being reviewed with top man- is just another day. The term &dquo;budget&dquo; is not being
agement, the profit plans are adjusted or the cor- used in its usual restrictive sense. A budget is a
porate objectives and strategies are modified until guide based on the best information available at
the programs are synchronized. the time of preparation. It should not be used as
The short-term plan is then used as a basis for a club over
people’s heads, or as an end in itself
the preparation of flexible budgets and the itera- pursued to the detriment of logic. The pr imary
tive process is repeated. of
purpose a budget is to communicate the game
plan and provide a basis for return communica-
Profit-Planning Requires Two-Way tion or &dquo;feedback.&dquo;
Commun icatlon
Much is written today about communication, Evaluate Your Markets Constantly
interaction, and cooperation. The profit planning The one time in a property’s life that compre-
process is an ideal environment for all of these hensive planning is consistently performed is when
desirable elements to exist, since corporate execu- that planning is accomplished as a part of a feasi-
tives, property managers and operating manage- bility study to determine if the property should
ment may all have a significant give-and-take role. be built or bought. Too often, from that point
In the process just described, the long-range forward, the property’s operating style, target
plan serves to document the firlll’s or property’s market, and profitability are treated as accom-
goals over a period of years so today’s decisions plished facts. Unfortunately, even in the original
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feasibility study, the forecast is sometimes based property may become the focal point of a revi-
on &dquo;could be’s&dquo; and &dquo;would like to have’s&dquo; rather talization process aimed at redeveloping or pre-
than realistic appraisals of the facts. serving an attractive older section of town. For
Almost every hotel/motel system has more op- the property, ecological pollution
resort or social
portunities for developing new properties, ac- problems can change what had been a luxury
market into an economy market, or no market at
quiring existing properties, or adding on to pres-
ently operated properties than their financial ca- all, almost overnight. For all, a major new com-
pacity can support. The aggregation and docu- petitor in the same market can sharply change the
mentation of the performance results, expected attractiveness of a property’s location.
from existing properties and from the several al- The historical visitor pattern is vital information
ternative investment plans available, provides in- for a market analysis, but if it is not analyzed in
sight into the combination producing the most detail it can be misleading. It is not enough to
desirable results. The concept of reviewing the know that a market is growing, one must also
market, operating and economic policies routine- understand.:
ly, rather than only as a
prelude to investment -

Why it is growing.
decisions, is critical to profit planning’s effective- -
Who is in it in demographic and psychographic
ness as a management tool. terms.
In anyfeasibility study, we first want to look -
Where visitors come from.
at the market to discern the sales plan, room rate -
How often they return.
structure, and operating mode that will maximize -

The trend in length of stay.

revenue and
profit. The location, visitor demand, -
The price sensitivity of the market.
and competition must be analyzed to provide an
insight into the best strategy for obtaining profit These questions are most critical in the volatile
and other goals. resort market, but they are of great interest in any
It is often stated that the three keys to success market. be affected by so-
location
Just as a can
in the hotel industry are location, location and do-economic and ecological factors outside of
location. These three determinants of success can management’s control, the market affecting a lo-
be translated to markets, markets and markets. cation can change dramatically and rapidly. The
Location translated to markets, and markets hotelier, more so than almost any businessman,
translated to sales, is the key to a successful prop- needs to be aware of and sensitive to the winds
erty. Location evaluation is therefore the most of social change.
critical step in any initial analysis and remains
so in all
subsequent reviews. Changes in Supply, Demand, and Competition
The original decision to build or buy on a cho- In the last year, price sensitivity has become
sen site was based on the value of the location in more apparent. This comes, unfortunately, at a

attracting certain people to the property. Business-
men serving a
particular area of town, tourists of
a certain economic strata seeking a particular va-
cation, motorists using highway X on their way to
city Y - all are factors affecting the evaluation of
a specific location. The operating property
continue to evaluate its location to determine if
anything critical has happened to it that will af-
fect its ability to attract guests. This question is
particularly critical in our rapidly changing so-
ciety.
Fordowntown commer cial hotel, it is very
a once forced him to seek out the relative certainty
easy for the &dquo;acceptable&dquo; part of town to leave
and completely change the property’s clientele.
Such a change could cause management to re-
think the operating plan and possibly even the
continued existence of the hotel. Conversely, a
time when many hotel operators are trying to raise
prices to offset the combination of rising costs and
decreasing occupancies. Many feel that this price
sensitivity and its resultant &dquo;trading down&dquo; are
directly to our current economic condi-
related
must tions. However, it appears that this change may
represent a fundamental shift in market demand.
Trading down is evident both in domestic and in
foreign travel. In effect, the traveler is seeking the
best value from his travel dollar. There is no long-
er the dearth of rooms of adequate quality that
of a medium- to high-priced chain. Just as the first
chains suffered from the incursions of new me-
dium-priced inns, the inns will suffer from the im-
pact of adequate quality economy motels entering
their market areas.

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 Unfortunately, particularly in the hospitality markets are constantly changing cannot be de-
industry, if you’ve got a &dquo;good thing going&dquo; the nied. The potential impact of the changes dictates
a need for a continuing review of the company’s
competition V. ill show the height of flattery by
imitating it. It appears that the market in the con- or
property’s position in the market and its oper-
tinental U.S. will be largely cannibalistic over the ating mode. This &dquo;continuing feasibility study&dquo; is
next decade, with new properties succeeding a logical result of an effective
planning function.
through product differentiation. This produced
differentiation may be accomplished either by of- Long Range vs. Short Range Objectives
fering a dramatically superior product or by of- In any discussion of the use of planning to

fering a roughly equal product at a significantly achieve overall corporate objectives, we must re-
lower rate. member that the objective of profit maximization
can only be applied within the framework of the

The Hawaiian Experience policies and goals determined by management

A good example of how all of these factors -
location, market and competition move to
change a property’s prospects is the Waikiki area
in Hawaii. In the late 1960’s, hotels in that area
were experiencing occupancies in the 90% level on
during the strategic planning phase of the total
- planning process. The interplay between long-range
corporate objectives and the profit maximization
goal will affect short-range decisions relating to:
Capital improvement expenditures.
-

an annual basis, fed

by a tourist volume that Repairs and maintenance programs.
-

showed a history of steady growth. The hoteliers,

airlines and the State of Hawaii all sought to cash Marketing plans.
-

in on the bonanza. Growth rates were extrapo- General corporate growth objectives.
-

lated to infinity and all forecasts had a rosy glow.

Early in 1969, the forecast number of rooms to be
provided by hotels, rental condominiums, and va-
cation apartments within the next two years far
exceeded the demand for rooms from even the
most optimistic estimates of visitor volume through
1976.
The new hotels built in Waikiki were expensive,
due to: 1) the exceptionally high construction
costs endemic to the Islands, forced even higher
by new building that stretched construction ca-
pacity ; 2) the then current high interests rates;
3) the rising cost of land; and 4) the competitive
quality and excellent amenities provided by many
of the existing properties. Therefore, the new ho-
tels required not only high occupancies but also
high rates in order to make money.
For example, if the strategic planners determine
that the long-range goal of the company is to in-
crease available rooms from 5,000 to 25,000 over
a
five-year period in order to satisfy market pene-
tration goals, the rate of return on invested capi-
tal may be less than it could be with a less ambi-
tious growth objective. If, on the other hand, the
strategic planners determine that the long-range
goal is to maximize net profit over the next three
years with a view toward selling several proper-
ties, a different set of criteria has been introduced.
The long-range profit plan is supported by data
which, if changed, will necessitate a revision in
the plan. Examples of the data or input on which
the long-range plan is based include:
-

Major objectives:
A cursory ~ Growth
analysis indicated that for any prop-
erty without an exceptional location, marketing ~ Profit
strategy and operation, the high occupancy rate ~ Return on investment
was not attainable. Further, the
mix of business -
Demand analysis.
had changed, making the high average room rates
Financial stamina evaluation.
very unlikely. Hotel operators in the Waikiki
-

area have had to contend with this rapid change, -

Historical performance:
modifying their operations to survive. Few have ~ Sales statistics
been wholly successful, but those who foresaw ~ Cost relationships
what was happening and either overcame it or
compensated for it have fared better than others. The short-range plan, which includes the an-
Most markets do not shift so quickly, dramati- nual budget or forecast, should be updated on a
cally or visibly as did Waikiki, but the fact that quarterly or semiannual basis.
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Foresight Is Not Hindsight
The Uniform System of Accounts for Hotels
contemplates the use of comparisons with a pre-
vious operating period as the basis for assessment
of current operating performance. Historical rec-
ords provide a portion of the input to the planning
process. This data, together with other informa-
tion, provides the basis for the formulation of the
current operating plan. Once the plan has been
prepared, the historical data is useful only as its
name implies as historical data. The planning
-
The profit potential of a property must be con-
tinually assessed in relation to its markets. Mar-
kets change. Some expand, some dwindle.
Operating in the same format year after year
compounds yeste~-day’s mistakes, fails to come to
grjp with today’s realities, and makes little pro-
vision for tomorrow’s opportunities.
vergent from corporate This point is well
reality.&dquo;
available through the use
taken, for techniques are
of standard cost systems, profitability accounting
devices, and complex computer-based systems

process is a prospective one which, once com-
pleted, should require little, if any, looking back.
Comparing the results for October of this year
with October of last year, can be very misleading
in the absence of other information, information
which has been included in the profit plan or will
be provided by an analysis of current deviations
from the plan.
Accounting is the process of formally recording
the results of operations. The planning process
should heavily influence the accounting system.
Unfortunately, the accounting system has often
restricted the planning process in the hospitality
industry because of our reluctance to deviate from
the Uniform System of Accounts.
The reporting system should present manage-
ment not only with the financial figures collected
that will provide a reporting and analytical func-
tion of tremendous complexity and sophistication.
From a practical viewpoint, however, the beauty
of a reporting and control system is in its ability
to communicate effectively to
management a re-
sult often accomplished through directness and
simplicity.
The flow chart (Figure 1) illustrates the rela-
tionship of the control function to the other phases
of the planning cycle. Key indicator reports and
operating reports can be designed as elaborately
or as simply as suits management’s needs. Key
indicators have long been used in the hospitality
industry. Indicators such as those listed below
have been included in various operating reports
for years:
-

Percentage of occupancy,
by the accounting system, but also the operating -

Average rate per occupied room,

’

data - covers served, occupancy rates, average -

Average rate per guest,

room rate, number of
employees, etc., that reflect -

Percentage of food sales to room sales,

all measures of performance against the plan. This
reporting system should routinely supply data to
-

Percentage of beverage sales to food sales,

the level responsible for acting on that informa-
-

Cost of food and beverage sales,

tion.
-

Percentage of total payroll to total house reve-

nue,
Without aneffective system for controlling and
-

Percentage of house profit to total house reve-

comparing actual results with the plan, manage-
nue,
ment loses many of the benefits provided by the
- Repairs and maintenance expenditures per
planning function and the planning process will available r oom.
ultimately become a useless exercise. Every hotel
system and property has its peculiarities and each We haven’t, therefore, introduced a new concept
management team has its own operating style. by using key indicators. Nor have we blazed any
Therefore, no &dquo;packaged&dquo; reporting system will trails by recommending the use of key indicator
suffice in every case. Modifications will be required reports such as:
to adapt the system to the needs and style of man-
Daily reports,
-

agement.
Reports of complimentary rooms,
-

Allowance reports,
C®rnplex Reports Can &dquo;Fog Up&dquo; Objectives -

Food and beverage department reports,

One writer on the subject of profit planning
-

Advance reservation reports.

stated: &dquo;The trouble is that as corporate planning
has become increasingly popular and sophisti- We believe, though, that key indicators and re-

cated, its methods have become increasingly di- ports used in the absence of a
profit plan are rela-
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 I -
FLOW DIAGRAM: PROFIT PLANNING AND CONTOL SYSTEM
tively meaningless, except for the purpose of pro-
viding historical information.
lVlan.aging by Exception
Much has been written about managing by ex-
ception and exception reporting. The simple state-
ment of earnings shown in Figure 2 utilizes this
concept. It is not unlike statements that have been
used in the hotel industry for 50 years, except
that there is no comparison with the same period
of the previous year. We mentioned that the re-
porting system should be designed to &dquo;fit&dquo; man-
agement. So let’s see what changes could be made
in this report to accommodate the desires of man-
agement.
The variance shown on the example is in abso-
lute numbers based upon the various components
of income and expense. The variance could be
84
Downloaded from cqx.sagepub.com at UNIV OF MICHIGAN on June 19, 2015
changed to reflect the impact on net profit ex-
pected by the deviation of each component, based
upon a standard cost system.
The report could contain only the variances,
without regard to any other figures except actual
and planned net profit. The variance from plan
could be stated in percentage terms as well as, or
instead of, absolute terms. The important consid-
eration here is that the report provide manage-
ment with the information needed to take action
and to revise and update the plan.
Figure 3 illustrates a departmental profit cen-
ter analysis with additional information includ-
ing :
- Percentage of deviation from plan,
- Key indicator statistics,
- Simple variance analysis.
 II -

Reporting Earnings Variance from the Goal definition of what they intend to achieve. The
discipline involved in the planning function
forces us to derive the first, and sometimes most
important benefit - finding out where we want
to go, rather than being a captive of any course.

The second benefit listed is also of great im-

portance to any organization. Usually, a few
well-implemented programs will accomplish
the firm’s objectives. The trick is assigning the
priorities and concentrating on the important
programs. Setting an order of priorities and
sticking to it will help insure that the activities
of each person on the management team are
directed toward the attainment of the com-
pany’s objectives.
-

The third benefit listed is that profit planning

demands that some analysis and planning pre-
cede action. All too often, management be-
comes involved in reacting to the operating en-
vironment rather than acting to control their
destiny.
The concept of flexible budgeting is merely the
planning for alternative courses of action. Here

III -

Departmental Variance from Goals

The report examples are for a theoretical quar-

ter. Obviously, additional reports are required in
order to monitor the system and keep manage-
ment &dquo;tuned in&dquo; to current results. In addition to
the periodic earnings reports, activity reports such
as advance bookings, expected arrivals and de-

partures, staffing reports, function schedules, and

the like are used to evaluate current trends. Fur-
ther, more frequent key indicator reports are de-
sirable to keep abreast of the opeartion. These may
include occupancy reports, cover statistics, cash
receipts and disbursements summaries and ac-
counts receivable status reports.

Benefits of Profit Planning

Now that we have obtained an overview of the
philosophy of
profit planning and some insight
into planning techniques, let’s review the most im-
portant aspect of any management tool the ben-
efits to be derived from its use:

-
We have stated that the planning process starts
with a definition of objectives. This may sound
rather fundamental, and it is, but time after
time management operates without a clear

85

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again, the planning process contains the elements
of action rather than those of reaction. Reviewing
the alternatives in advance should be an aid to
maximizing the potential as situations change.
Up to this point, we have reviewed the need
for involving operating management in the plan-
ning process. The teamwork concept is aided by
the involvement of operating people in the plan-
ning function. The identification of key perform-
ance indicators for monitoring actual results
provides common denominators for keeping man-
agement aware of current operating performance.
Continued from page 99
This volume is a worthwhile addition to the library
of those engaged in hospital and nursing home food
ser vice. - Professor Myrtle H. Ericson, School of Ho-
tel Adyninistration, Cornell University.
Chinese Fare
CHINESE HOME COOKING, by Julia Chih Cheng.
Kodansha International Ltd., Tokyo and Palo Alto,
Cali f ornia. 1972. 136 pages. Hard cover, liberally il-
lustrated in full color and black and white. $7.95.
This book on Cantonese cooking was written by
Nancy Ma Chich for her sister Julie Chich Cheng,
and is a delightful presentation of Chinese cooking.
The recipes are easy to follow. A glossary is provided
as an aid in purchasing and preparing food. The
mouth-watering pictures, the artistic sketches, and
the proverbs given in Chinese translated into English
are an incentive to
try the recipes. Many Chinese
cookbooks have been written but none so simple and
easy to follow. - Prof. Myrtle H. Ericson, School off
Hotel Adrrainistration, Cornell University.
Meat Cookbook
THE MODERN MEAT COOKBOOK, by Jeannette
Frank, The Bobbs-Merrill Co., Inc., Indianapolis, In-
diana. 452 pages. Paperbound, $6.95.
Published for the homemaker, this cookbook covers
all aspects of meat from purchasing it in the super-
market to related menu recipes to carving at the table.
There are also recipes for game which the hunter
may bring home. Emphasis is upon economy meat
cuts which may require a tenderizer.
Several sections of the book, especially those on
meat cooking temperatures and frozen meat, could
have been improved by using more recent technical
information, according to the Food Management fa-
culty of the School.
All in all, however, the book is a tremendous com-
pilation of meat cookery of all types.
86
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In summary, most of blessed with the
us are not
ability to see the future with a great degree of
accuracy. A multitude of variables are considered
in formulating a plan, any one of which may
change daily. An important task of management
is to recognize a change rapidly in order to adopt
an alternative course of action which will capi-
talize on a fortuitous change or at least mitigate
the effects of an unfortunate one. The planning
process’s primary benefit is that it leads to im-
proved profits and return on investment. This, we
believe, is the name of the game.
Chef Herman’s Story
HOW WE STARTED STUDENTS ON SUCCESS-
FUL FOODSERVICE CAREERS, by Herrnan A.
Breithaupt as told to Betty L. Herring. Cahners
Books, 89 Franklin St., Boston, Massachusetts 02110.
1972. 241 pages. Hard cover $9.95.
This book presents the biography of Herman
Breithaupt, who is known in the food service industry
for initiating training for chefs in Detroit’s famous
Chadsey High School Commercial Food Department,
which he directed for 28 years. Currently, he is con-
sultant for a similar program at Dearborn (Michigan)
Community College.
Born in Bavarian Germany in 1896, Breithaupt was
a member of a family devoted to the culinary arts.
His early chef apprenticeship was in Freiburg, after
which he emigrated to Montreal in Canada where an
older brother, also a chef, had a job waiting for him
at the Queen’s Hotel. When he was 19, he moved to
the Congress Hotel in Chicago, then to the Radisson
in Minneapolis, and later to well known hotels in Des
Moines and Omaha. During World War I, he headed
the food service for the U.S. Balloon School.
It was in a Des Moines hotel that Breithaupt set
up his first school for cooking. At this time he visual-
ized similar programs in vocational high schools in
America and wrote of his dreams to U.S. Commis-
sioner of Education Studebaker. Ten years later a
number of such programs were inaugurated as part of
vocational education for secondary schools. Detroit’s
program at Chadsey High School was established in
1939 as part of the city’s public school system. During
the years which followed, this program became na-
tionally known for the quality of its graduates and
their attainments.
The story of Herman Breithaupt embraces the de-
velopment of culinary training in U.S. public schools,
including the forming of programs in the new com-
munity colleges. For this reason it is significant. The
human part of the story is rewarding to read.