CON010079-A-ENG-WOD

THE TERMINUS HOTEL (A)

Original written by Professors Salvador Carmona and Tashfeen Sohail at IE Business School.
Original version, April 12, 2011. Last revised June 26, 2017. (L.R)
Published by IE Business Publishing, María de Molina 13, 28006 – Madrid, Spain.
©2011 IE. Total or partial publication of this document without the express, written consent of IE is prohibited.

Este documento es autorizado para uso exclusivo de IE University.

This document is authorized for use only in IE University.

The Terminus Hotel, a 200-room facility located in a medieval city in Southern Spain. As
consequence of poor management and old-fashioned interior design, the hotel experienced slumping
demand since 2001. In 2004, the hotel was on the brink of bankruptcy. All of a sudden, these dark
prospects turned into hopeful ones; the hotel was located in a historic building and the regional
authorities approached Mr. Leo D. Marcial, chair of the Chamber of Commerce, to mobilize local
entrepreneurs in order to take over hotel ownership. After some discussions, the entrepreneurs
agreed on bidding for the hotel to make it an exclusive, high profile and properly-managed facility.
The entrepreneurs regarded the acquisition of the Terminus Hotel as an opportunity to enter the
hospitality industry under convenient conditions; they could get a first-rate brand at a relatively cheap
price. In January 2007, the new ownership completed thorough refurbishing of the facility, which
comprised new furniture and state-of-the-art interior design. The hotel resumed operations in
February 2007 (see Table 1).

TABLE 1
THE TERMINUS HOTEL: ASSETS (IN EUROS)
(DECEMBER 31, 2007)

2007 2004
ASSETS
Goodwill 35,000 40,000
Other intangible assets 55,000 25,000
Investment property 9,400 10,000
Property, plant and equipment 6,250,000 2,570,000
Financial assets available for sale 95,000 75,000
Trade and other receivables 90,000 175,000
Deferred tax assets 12,600 90,000
Non-current assets 6,547,000 2,985,000

Inventories 56,000 104,500

Financial assets available for sale 15,000 22,500
Trade and other receivables 875,000 1,150,000
Derivative financial instruments 95,000 117,000
Cash and cash equivalents 1,655,000 2,233,000
Assets held for sale 1,375,000 119,000

Current assets 4,071,000 3,746,000

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THE TERMINUS HOTEL (A) CON010079-A-ENG-WOD

The new Terminus Hotel offered three main services: accommodation, a restaurant and
entertainment. The restaurant served haute cuisine designed and prepared by the team of a world-
class chef, whilst entertainment consisted of flamenco singing and dancing. Restaurant and
entertainment services were open to non-clients.

In their own firms, the entrepreneurs had spare capacity in a number of support services. In a win-
win move, allied firms supplied the hotel with full service in areas such as accounting, law, financing,
advertising, gardening, receivables and the reservation center. The transfer prices for these
transactions were below market prices (see Table 2).

TABLE 2
SERVICES PROVIDED TO THE TERMINUS HOTEL BY ALLIED FIRMS (IN EUROS)

Service 2007

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Law 55,000
Financing 85,000
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Accounting and Taxation 55,000

Advertising 320,000
Gardening 20,000
Reservation Center 35,000
Receivables 30,000
TOTAL 600,000

SERVICE PROFITABILITY ANALYSIS

Although the business plan of the hotel forecasted losses for 2007, actual results were below
expectations. In order to identify sources of problems, the entrepreneurs requested a profitability
analysis for the three main services offered by the hotel. Cristina Aranda, the cost analyst of one of
the allied firms and the person in charge of budget and control for the Terminus Hotel, teamed up
with General Manager Claudia Santander to identify some cost categories (see Table 3).

TABLE 3
COMMON COSTS FOR ACCOMMODATION, RESTAURANT AND ENTERTAINMENT (EUROS)

Service 2007

General Management 55,000

Administrative Support 15,000
Housekeeping 95,000
Laundry 325,000
Security 100,000
Maintenance 110,000
TOTAL 700,000

Additionally, Cristina calculated the operating profit for each of the main services offered by the
Terminus Hotel (see Table 4).

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THE TERMINUS HOTEL (A) CON010079-A-ENG-WOD

TABLE 4
OPERATING PROFIT FOR ACCOMMODATION, RESTAURANT AND ENTERTAINMENT SERVICES

Accommodation Restaurant Entertainment

Revenues 4,500,000 2,650,000 1,350,000
Operating Expenses 4,110,000 2,475,000 1,400,000
Operating Profit 390,000 175,000 (50,000)

Furthermore, Cristina and Claudia gathered the following data about each of the services (see Table
5). This data excludes the support activities shown above:

TABLE 5
DATA ABOUT ACCOMMODATION, RESTAURANT AND ENTERTAINMENT

Accommodation Restaurant Entertainment

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Employees 12 16 12
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Compensation of employees €350,000 €500,000 €250,000

Square meters 5,000 m2 200 m2 300 m2
Daily occupancy (average) 75 rooms 40 tables 30 tables
Property, plant and equipment
(Net of depreciation) €5,200,000 €475,000 €325,000

Drawing on current practices in her firm, a pottery, Cristina allocated 100% of common costs to
services using a number of employees as single cost allocation base. In order to generate alternative
calculations, Cristina also prepared an allocation of all common costs using total revenues as single
cost allocation basis.

Claudia objected to both calculations. In her opinion, single cost allocations resulted in simplistic
calculations that were unrealistic for decision-making purposes. As Claudia argued that the
complexity of hotel services could only be captured by using multiple cost allocations, she prepared
the following proposal (Table 6):

TABLE 6
ALLOCATING COMMON COSTS BY USING MULTIPLE COST ALLOCATION BASES

Common cost Cost allocation basis

Financing, Maintenance Value of property, plant and equipment
Accounting and Taxation, Reservation Number of employees
Center, Advertising, Law, General
Management, Admin.
Gardening, Housekeeping, Security Number of square meters
Receivables, Laundry Revenues

REQUIRED ASSIGNMENTS:

1. Using Cristina’s single cost allocations, report services profitability. Explain the rationale behind
each of the proposals.
2. Using Claudia’s multiple cost allocation bases, report services profitability. Comment on the
rationale of the proposal.
3. In view of the available information, which decisions would you make?
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