As a hotel owner, you might sometimes run across the term “flow-through.” If you’re curious about what it means, we will talk about it in this article. In addition to defining it, we’ll provide you with a formula for calculating it. We will also discuss negative flow-through and some ways to potentially mitigate it.
Simply put, you can regard flow-through as the incremental profit that flows into your hotel relative to the previous year. You can also describe it as the hotel’s income after your expenses have been deducted from your revenues. When hotel owners talk about flow-through, what they are usually referring to is a revenue surplus relative to what they budgeted.
In the hospitality industry, flow-through is a crucial metric to keep an eye on. The reason for this is that your flow-through is indicative of how profitable your business is when you scrutinize all of the different departments that perform independently in your hotel. Though they function independently, they all make up part of the same complex ecosystem.
You will want to attempt to manage your flow-through. By doing so, you can project future growth. If you understand how your hotel’s different departments affect your actual revenue, you can turn that into profit. This is also how you sustain growth over time.
In the hotel industry, there are tried-and-true ways to understand a hotel’s performance. These are usually called key metrics. Some of the most valuable ones include RevPAR (revenue per available room), average daily rate (ADR), and occupancy rate.
You could say that flow-through takes things one step further than any of these. Hotels receive revenue from all the different services that they offer. It’s not all profit, though, since some of it must be used to pay for bills, utilities, suppliers, and human resources. Profit is something you calculate once you have covered all of these expenses.
It is this process that is called flow-through. You can represent it as a percentage. You can say that flow-through is the money that made it from the revenue stage to the profit stage.
Going beyond standard hotel data analytics, flow-through lets you compare predicted numbers to your actual numbers to see if you’re making the profit that you had predicted and planned for. When you’re calculating flow-through, you’re getting an answer to the question of how much incremental profit your hotel made.
The flow-through concept might sound a little complex, but the formula for calculating it is relatively simple. What you’ll be looking at is the difference in profit that you then divide by the difference in revenue. Keep in mind that you can also calculate this for any department in your hotel. Those might include rooms, banqueting, food and beverage, etc.
You will start by subtracting the revenue that your hotel brought in during two different periods. Then, you must subtract the profit from the same two periods. Finally, you will divide the difference in those revenues by the difference in profits.
When you express it as a mathematical equation, it will look like this:
Remember, you can consider profit to be the money you take home after you have paid off all of your expenses. Costs can always vary, so your budgeted profit might differ from your actual realized profit when you factor in unexpected variables.
Meanwhile, you calculate revenue by multiplying your hotel’s occupancy rate by your hotel’s average daily rate. To calculate your hotel’s flow-through, you will need to scrutinize the variance between what you budgeted and what you actually made. When you do so, you are measuring the variance between your gross operating profit (GOP) and your revenue.
Let’s look at an example. We’ll say that your revenue for a designated period was $300,000 and your budget was $275,000. In that instance, the variance was $25,000.
Your net profit for this same period was $125,000, and your budget was $105,000. This means that your net profit variance was $20,000.
If this is what’s happening in your hotel, then you should feel pretty good about how your business is doing. That’s because your actual revenue ($20,000) exceeded your projected revenue ($25,000). In this situation, your flow-through percentage was 80%. That means a full 80% of your additional revenue was turned into actual profit.
To break this example down further, you budgeted a net profit percentage of 35%. You can calculate this by looking at your net profit budget ($105,000) and your revenue budget ($275,000). $105,000/$275,000 is 35%.
In this instance, you have significantly exceeded your profit rate. That probably looks pretty good on paper. However, fixed costs are already covered, so additional revenue needs to be retained at a higher level.
Hotels might generally see a flow-through rate that ranges anywhere from 35%-60%. With food and beverage, you may see a range of 35%-50%, while for rooms, you’re looking at more like 60%-75%.
In the previous example, with an 80% flow-through percentage, your hotel would definitely be on the high end. This number is virtually guaranteed to fluctuate, though, due to numerous factors.
It’s sensible to measure flow-through against prior periods regularly.
This brings us to another vital aspect of the flow-through concept. Negative flow-through is possible as well. This is what happens when your revenue decreases. It is almost impossible not to have occasional periods where this happens, even if you are running a very popular hotel.
While the calculation for negative flow-through is the same as for positive, some extra analysis is required if you’re going to know what to do when it happens. Some hoteliers refer to negative flow-through as retention. It can be seen as the redeeming feature when revenue is in your tilt backward.
With prominent hotels, the negative flow-through is usually indicative that the business’s revenue is positive, but the GOP is negative. In other words, the revenue is going up, but the profitability ratio is still negative.
This might sound a little confusing, but you can look at it this way. Usually, positive flow-through means the GOP decreased alongside revenue. Negative flow-through means that your GOP increased despite the revenue loss.
Let’s envision a scenario where you’re seeing negative flow-through for your hotel for a certain designated period. You’re seeing a negative flex percentage. That means your GOP decrease is greater than your revenue shortfall. In other words, your hotel didn’t save any part of your lost revenue. Consequently, your profits continued to decline.
You can see potential for improvement in cases where you have cost-control ability during a period with negative flow-through. In such instances, you will want to try to reel in savings however you can while your revenue drops.
You will probably look to do things like cut costs in payroll or sales. You will also likely take a closer look at ineffectual departments to see if there is a way to run them more efficiently.
Let’s conclude by talking about ways you might potentially reduce or eliminate negative flow-through for your hotel. These are some of the more common places where you might look at your hotel’s operational procedures if you’re seeing consistently negative flow-through when you take the time to calculate it.
Every hotel will have different guest-facing expenses. These often consist of amenities or gifts that you provide for your guests.
It can be helpful to look at guest reviews when trying to decide whether you should eliminate some of these or cut back on them. If you’re not seeing many guest reviews that mention some of your amenities or gifts, you might consider either getting rid of the ones that are nonessential or going with ones that are more cost-effective.
Other areas you might look at could be providing fresh flowers for the lobby, using less expensive lighting sources, or looking for better deals from your suppliers. There will always be companies looking to bid for the right to service your hotel, whether they are providing linens, silverware for the dining room, food for your restaurants to prepare, or anything else.
As a hotel manager, if you’re the general on a battlefield, each of your department managers is like an aide-de-camp. You can give them directions and provide them with oversight, but they usually also have some degree of autonomy.
If you find that certain departments are consistently underperforming, you may need to consider getting rid of some of your department managers as a way of improving your flow-through and getting it back to a place where it’s positive again. At a minimum, you need to make sure that each department manager has a plan for the month and that they keep you up to date with their respective expense reports.
If you find that you’re having a hard time getting your flow-through from negative to positive, you might want to at least consider bringing in an outside specialist. There are individuals who specialize in both the hotel industry and optimizing internal revenue streams. If you can find one of them who is willing to take a close look at your numbers and to offer some suggestions, it may be worth it to hire them.
If you’re seeing that certain departments are consistently underperforming, you can look to the managers of those areas of the hotel, but you should also evaluate the staff performance for that sector. Are you getting negative reports from your managers about any particular employees, or have you noticed problematic behaviors yourself?
Workers who are a drain to their departments can harm your hotel’s profitability in the long term. Consider setting up and enforcing quotas or productivity standards. For your room cleaners, that might involve setting a time by which you would like them to be done with each room when a guest vacates. For bartenders, you may try setting a quota for drinks sold during your busiest periods.
If you’re not finding success with any of these measures, attempting to automate any aspect of your hotel’s operations is certainly a way to improve your flow-through numbers. There are many software suites available now that can reduce expenses if you harness and use them the right way.
Shop among the various ones that are available and select one that seems to meet the majority of your needs. The old-fashioned ways are nice, but if you can reduce overhead costs through automation, that can be a lifesaver if you’re consistently seeing troubling numbers whenever you calculate your hotel’s flow-through.
Now, you have a basic idea of what flow-through is. You should be able to understand the difference between positive and negative flow-through, and you also know the formula to calculate it. You also have some ideas to mull over if you’re seeing negative flow-through numbers as it relates to your hotel.
While flow-through is certainly a key performance indicator that you should not ignore, you can also expect it to fluctuate. It is when you’re seeing negative flow-through month after month that you’ll know your hotel is struggling and that you need to make some fundamental changes to your business model.
When your revenue decreases, mitigating the impact on your profit line needs to happen if you’re going to be able to stay open. Retaining profit loss is a necessity as a hotel owner. If you don’t act fast, then you’re going to continue losing 100% or possibly even more of that lost revenue in the form of decreasing profits.
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