Hospitality Financial Management

Operations Decision Making &

Planning for Profits for Hotel
Managers and Owners

Cornell University School of Hotel

Administration
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July 2006
What is Financial Accounting ?
Financial Accounting is a system that collects, processes
(measures, records and summarizes) and communicates
financial information about an organization to external
decision makers such as owners and customers.

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What is an Income Statement ?
An Income Statement (also called statement of profit and
loss, statement of income, earning or operations) is a
statement that reports the accountant’s primary measure
of performance of a business, revenues less expenses,
during the accounting period.

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Income Statement ?
• Revenue
• Departmental Expenses
• Departmental Income
• Undistributed Operating Expenses
• Income After Undistributed Operating Expenses
• Income Before Income Taxes
• Net Income

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What is a Balance Sheet ?
A Balance Sheet is a statement that reports the amount
of assets, liabilities, and owners equity of an
organization (also called an accounting entity) at a
particular point in time.

ASSETS = LIABILITIES + OWNERS EQUITY

• Assets account is a Debit

• Liabilities account is a Credit
• Owners Equity account is a credit
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Balance Sheet ?
• Current Assets
• Fixed Assets
• TOTAL ASSETS
• Current Liabilities
• Long Term Liabilities
• Total Liabilities
• Equity Interest
• TOTAL LIABILITIES AND EQUITY
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 DO YOU KNOW YOUR ABC’S?
What does it mean? How is it used?
(If ration, give numerator & denominator)
• Asset Turnover > Total Revenue/Average Total Assets. This
is used to evaluate the productivity of the Assets in
generating Sales.

• CFADS – Cash Flow After Debt Service > Net Income +

Depreciation & Amortization – Principal Repayment on the
Loan. Sometimes used by hotel owners and management
companies to determine Incentive Management Fees paid to
the management company.

• Loan Amortization > The repayment of a loan through the

periodic payment of principal and interest. This is used to
determine cash flow. 7
• Debt Service > Sum of principal and interest payment on a
loan such as a mortgage. These payments are normally paid
on a periodic basis. They include both the return of part of
the original loan principal as well as interest on the loan
balance. This may be used to determine cash outflow from
the property before the owners return on investment is
determine.

• EBIT > Earnings Before Interest, Taxes (Income). This is

used to measure operating performance.

• EBITDA > Earning Before Interest, Taxes (Income),

Depreciation & Amortization. This is used to measure cash
flow before finance charges.

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• EBITDAR > Earnings Before Interest, Taxes (Income),
Depreciation & Amortization, Rent. Used by companies like
Groupe Accor to measure investment performance of leased
assets (hotels).

• EVA > Economic Value Added x Gross Fixed Assets minus

Working Capital. This is expressed as a dollar amount and
is used to measure a company’s performance.

• GEARING RATIO > Debt/Equity expressed as a

percentage. This is used as a measure of capital structure
and risk.

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• Financial Leverage > Maximization of profits or losses
through the use of borrowed funds. Small % change in EBIT
result in a large % change in Return on Equity %. Positive
Financial Leverage is used to enhance investment returns to
the owners. This may be used to measure the financial risk of
a company or investment.

• GOP > Gross Operating Profit, sometimes called House

Profit. Total Revenue minus all Operating Expenses. This is
one measure used to evaluate the performance of a managed
hotel

• Operating Income > Same as EBIT but sometime erroneously

referred to GOP in hotels. This is sometimes called Operating
Profit and is used to measure operating performance.

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• NOI - Net Operating Income > Cash flow before Debt Service
(interest & principal), before depreciation, before income tax
and after Reserve for Replacement of FF&E. Also equal to
EBITDA minus Reserve for Replacement of FF&E. This is
used in hotel valuation to determine estimated value.

• Reserve for Replacement of Furniture Fixtures & Equipment

(FF&E > Estimate of an amount of cash needed to invest that
is required to maintain the property indefinitely.
Conceptually, it must take into account all cash requirements
for replacement and/or renovation to extend the economic life
of the property in perpetuity. This amount may be funded or
unfunded. It is typically calculated as an amount between 3%
to 11% total annual sales of the property . This is used in
hotel valuation to determine estimated value.

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• ROA% - Return on Assets > EBIT/Total Assets. This is used
to measure the return to both lenders and owners capital
contributions. Impact of financing not measured here.
RONA or Return on Net Assets is calculated by using Net
Assets in the denominator instead of Total Assets. Net Assets
usually requires an adjustment based on the Working
Capital Requirements.

• ROCE% > EBIT/Capital Employed. Capital Employed is

almost the same as Total Assets or Net Assets depending on
what adjustments are made to the Total Assets. This is used
to measure the return to both lenders and owners capital
contributions.

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• Times Interest Earned Ratio > EBIT/Long Term Interest.
This is used to measure the solvency of a business or the
ability to pay the long term interest from Operating Income.

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 Ratio Analysis

A ratio gives mathematical expression to a relationship

between two figures and is computed by dividing one
figure by the other figure. By bringing the two figures
into relation with each other, ratios generate new
information. Ratio analysis goes beyond the figures
reported in a financial statement and makes them more
meaningful, more informative, and more useful. In
particular, ratio analysis generates indicators for
evaluating different aspects of a financial situation.

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Current Ratio
Which is the ratio of Total Current Assets to Total
Current Liabilities and is expressed as a coverage of so
many times.
Current Assets
Current Ratio =
Current Liabilities
$338,000
=
$214,000
= 1.58 times or 1.58 to 1

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Operating Cash Flows to Current Liabilities Ratio

The Operating Cash Flows are taken from the statement

of cash flow, while current liabilities come from the
balance sheet.

Operating Cash Flows to Operating Cash Flows

Current Liabilities Ratio = Average Current Liabilities
$179,200
=
($192,200 + $214,000)/2
= .882 or 88.2%

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Accounts Receivable Turnover
This Ratio is determined by dividing revenue by average
accounts receivable.

Accounts Receivable Total Revenue

Turnover =
Average Accounts Receivable

Average Accounts Accounts Receivable at

Receivable = Beginning and End of Year
2

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Average Collection Period
The Average Collection Period is a variation of the
accounts receivable turnover, which is calculated by
dividing the accounts receivable turnover into 365 (the
number of days in a year).

Average Collection 365

=
Period Accounts Receivable Turnover

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Working Capital Turnover
The final liquidity ratio presented here is the working
capital turnover ratio, which compares working capital
(current assets less current liabilities) to revenue.

Working Capital Revenue

=
Turnover
Average Working Capital

Average Working Working Capital + Current

Capital = Asset – Current Liabilities
divided by 2

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Solvency Ratio
The solvency ratio is simply total assets divided by total
liabilities.

Total Assets
Solvency Ratio =
Total Liabilities

$1,176,300
=
$659,000

= 1.78 times
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Debt Equity Ratio
This ratio indicates the establishment’s ability to
withstand adversity and meet its long-term debt
obligations.
Total Liabilities
Debt-Equity Ratio =
Total Owners Equity

$659,000
=
$517,300

= 1.27 to 1
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Long-Term Debt to Total Capitalization Ratio
Still another solvency ratio is the calculation of long-term
debt as a percentage of the sum of long-term debt and
owners equity.

Long-Term Debt to Long-Term Debt

Total Capitalization =
Long-Term Debt and
Ratio
Owners equity

$445,000
=
$962,300
= 46.24%
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Number of Times Interest Earned Ratio
The number of times interest earned ratio is based on
financial figures from the income statement and expresses
the number of times interest expense can be covered.

Number of Times EBIT

Interest Earned Ratio =
Interest Expense

$304,500
=
$60,000
= 5.08 times
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Fixed Charge Coverage Ratio
The fixed charge coverage ratio is a variation of the
number of times interest earned ratio that considers
leases as well as interest expense.

Fixed Charge Coverage EBIT + Lease Expense

Ratio =
Interest Expense and
Lease Expense

$304,500 + $20,000
=
$60,000 + $20,000
= 4.06 times
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Food Inventory Turnover
Food Inventory Turnover should generally be calculated separately for
food supplies and for beverages. Some food service operations will
calculate several beverage turnovers based on the types of beverages
available.
Food Inventory turnover = Cost of Food Used
Average Food Inventory
= $ 122,000
$ 10,000
= 12.2 times
Average Food Inventory = Beginning and Ending Inventory
2
= $ 11,000 + $ 9,000
2
= $ 10,000
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Beverage Inventory Turnover
Cost of Beverage Used
Beverage Turnover =
Average Beverage Inventory
$28,000
=
$6,000
= 4.67 times
Average Beverage Beginning and Ending Inventories
Inventory =
2
=$6,000 + $6,000
2
= $6,000
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Property and Equipment Turnover
Another ratio to measure the efficiency of management’s
use of assets is the asset turnover, it is calculated by
dividing total revenue by average total assets.

Property and Total Revenue

=
Equipment Turnover Average Property and Equipment

Total Property and Equipment at

Average Property
Beginning and End of Year
and Equipment =
2

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Paid Occupancy Percentage
Paid Occupancy is a major indicator of management’s
success in selling its “product”. It refers to the
percentage of rooms sold in relation to rooms available
for sale in hotels.

Paid Occupancy Paid Rooms Occupied

=
Available Rooms

Available Rooms = Rooms Available per Day x 365

Days

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Complimentary Occupancy
Complimentary occupancy, as stated in the Uniform
System of Accounts for the Lodging Industry, is
determined by dividing the number of complimentary
rooms for a period by the number of rooms available.

Complimentary Complimentary Rooms

Occupancy =
Rooms Available
160
=
29,200

= 55%
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Average Occupancy per Room
Another ratio to measure management’s ability to use the
lodging facilities is the average occupancy per room. This
ratio is the result of dividing the number of guests by the
number of rooms occupied.
Average Occupancy Number of Guests
=
per Room Number of Rooms Occupied by
Guests

24,160
=
21,160
= 1.14 Guests
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Multiple Occupancy
This ratio is similar to the average occupancy per room. It
is determined by dividing the number of rooms occupied
by more than one guest by the number of rooms occupied
by guests.
Rooms Occupied by Two or
More People
Multiple Occupancy =
Rooms Occupied by Guests

2,500
=
21,160
= 11.81%
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Seat Turnover
This ratio is calculated by dividing the number of people
served (sometimes called covers) by the number of seats
in the food service facility.

Food Service Seat Covers Served

Turnover =
Numbers of Seats x Number of
Days Open

56,000
=
100 x 365

= 1.53 times
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Profit Margin
Profit Margin, a key ratio is determined by dividing net
income by total revenue. It is an overall measurement of
management’s ability to generate sales and control
expenses, thus yielding the bottom line.

Profit Margin Net Income

=
Total Revenue

$146,700
=
$1,352,000

= 10.85%
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Operating Efficiency Ratio
The operating efficiency ratio (also known as the gross
operating profit ratio). This ratio is the result of dividing
income after undistributed operating expenses by total
revenue.
Income After Undistributed
Operating Efficiency Operating Expenses
=
Ratio Total Revenue
$415,500
=
$1,352,000

= 30.73%
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Earning per Share
The Earning per Share calculation is a function of the
capital structure of the hospitality enterprise. It only
common stock has been issued, then EPS is determined by
dividing net income by the average common share
outstanding.
Net Income
Earning per Share
=
Average Common Share
Outstanding
$146,700
=
$55,000
= $2.67 per share
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Price/Earnings Ratio
Financial analysts often use the price/earnings (PE) ratio
in presenting investment possibilities in hospitality
enterprises. It is computed by dividing the market price
per share by the Earning per Share.

Market Price per Share

Price Earnings Ratio
=
Earning per Share

$25
=
$2.67

= 9.36
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Average Room Rate
A key rooms department ratio is the average room rate,
often called the average daily rate (ADR). This average
room rate should also be calculated individually for each
market segment : business group, tourists, airline crews
and other categories of guest served.

Rooms Revenue
Average Room Rate =
Number of Rooms Sold
$810,000
=
21,000
= $38.57
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Revenue per Available Room

The combining of paid occupancy percentage and AVR is

called RevPAR (revenue per available room).

RevPAR Rooms Revenue

=
Available Rooms
or

RevPAR Paid Occupancy Percentage x

=
Average Rooms Rate

= $40 x 80% = $32

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Revenue per Available Customer
Instead of focusing on revenue from room sales, revenue
per available customer measures the overall revenue
received from the average hotel guest and is used for
decision-making situation affecting operations.

Total Revenue from Hotel Guests

RevPAC =
Total Numbers of Guests

$1,352,000
=
24,000

= $56.33
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Average Food Service Check
A key food service ratio is the average food service check.
This ratio is determined by dividing total food revenue by
the number of food covers sold during the period.

Average Food Total Food Revenue

=
Service Check Numbers of Food Covers

$300,000
=
56,000

= $5.36
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Food Cost Percentage
The food cost percentage is a key food service ratio that
compares the cost of food sold to food sales. Most food
service managers rely heavily on this ratio for
determining whether food costs are reasonable.

Cost of Food Sold

Food Cost Percentage =
Food Sales

$120,000
=
$300,000

= 40%
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Beverage Cost Percentage
A key ratio for beverage operations is the beverage cost
percentage. This ratio results from dividing the cost of
beverages sold by beverage sales.

Cost of Beverage
Beverage Cost Sold
=
Percentage Beverage Sales

$20,000
=
$145,000

= 19.31%
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Labor Cost Percentage
Labor expense includes salaries, wages, bonuses,
payroll taxes and fringe benefits. A general labor cost
percentage is determined by dividing total labor cost by
total revenue.

Total Labor Cost

Labor Cost Percentage = Total Revenue

$145,000
=
$810,000

= 17.90%
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Thanks you

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