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UNIVERSITY OF MUMBAI

A PROJECT ON

“OPERATING COST IN HOTEL INDUSTRY”
MASTER OF COMMERCE PART –I ( SEMESTER-I )

2014-2015
SUBMITTED BY
Ms/mr
PROJECT GUIDE

Prof. SEBASTIN REBELLO
Subject:

SANKAR NARAYAN COLLEGE OF ART& COMMERCE
BHAYANDAR (EAST), THANE – 401105

DECLARATION
I ,

MR. MITHALESH O SONI

student of

of Shankar Narayan College Of Art & Commerce

M.COM – in Advance Accountancy (

Semester-I )

hereby declare that I have completed this

project on “ OPERATING COST IN HOTEL INDUSTRY” in the academic
year 2014-2015.
I declared that the project report is my original work and it has not been submitted
by me in part or full to any other university/institution/statutory body for the award of any
degree/diploma/certificate.
Name of Candidate : MR. MITHALESH O SONI Sign:

Place

:

Bhayander

Date: 12th NOVEMBER, 2014

CERTIFICATE
I certify that the above declaration is true to the best of our knowledge and belief.

Project Guide

Co-ordinator

Prof. SEBASTIN REBELLO

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

2

Date:

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This is to certify that

MR. MITHALESH O SONI has completed the project titled

“ OPERATING COST IN HOTEL INDUSTRY ” under the guidance of Prof.
‗SEBASTIN REBELLO‘ in practical fulfillment of the requirement for the award of ‗
Master of Commerce Part - I’ studies for academic period ‗2014-2015 ’

PROJECTGUIDE
Prof. SEBASTIN REBELLO .

EXTERNAL GUIDE

PRINCIPAL
Dr. V.N. Yadav

CO-ORDINATOR
Mr. Ajit N. Jadhav

Date
PLACE : BHAYANDER

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

3

ACKNOWLEDGEMENT

The Gratification and joy that accompanies the successful completion of any task would be
incomplete without the humble and deep felt expression of gratitude to everyone who has made it
possible.

I would like to convey my sincere thanks to Prof. SEBASTIAN REBELLO, my internal project guide,
who has been a constant source of motivation and inspiration and has helped in bring out the best in
me.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

4

EXECUTIVE SUMMARY

―Always aim at complete of thoughts, words and deed
Always aim at purifying your thoughts and everything will be well‖

The basic objective behind preparing a project on ―OPERATING COST IN HOTEL INDUSTRY‖ is
to understand Operating Costs are the costs incurred by undertakings which do not manufacture any
product but provide a service. Such undertakings for example are — Transport concerns, Gas
agencies; Electricity Undertakings; Hospitals; Theatres etc. Because of the varied nature of activities
carried out by the service undertakings, the cost system used is
Obviously different from that followed in manufacturing concerns.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

5

INDEX

Sr. No.

Particulars

Page No.

1.

Introduction

7

2.

Features of operating cost

9

3.

Types of Hotels

10

4.

Types of Hotels Management Companies

13

5.

Types of Costs in Hotels

23

6.

Cost Sheet of Hotels

25

7.

Fixed and Variable costs in hotel

26

8.

Hotels Expenses Accounting

29

9.

Objective

40

10.

Conclusion

41

11.

Annexure

42

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

6

OPERATING COST IN
HOTEL INDUSTRY

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

7

INTRODUCTION

MEANING OF OPERATING COST:
It is a method of costing applied by undertakings which provide service rather than production of
commodities. Like unit costing and process costing, operating costing is thus a form of operation costing.
The emphasis under operating costing is on the ascertainment of cost of rendering services rather than on
the cost of manufacturing a product. It is applied by transport companies, gas and water works, electricity
supply companies, canteens, hospitals, theatres, school etc. Within an organisation itself certain departments
too are known as service departments which provide ancillary services to the production departments. For
example, maintenance department; power house; boiler house; canteen; hospital; internal transport.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

8

DEFINITION OF OPERATING COST:
It is defined as the refinement of process costing. It is concerned with the determination of the cost of each
operation rather than the process. In those industries where a process consists of distinct operations, the
method of costing applied or used is called operation costing. Operation costing offers better scope for
control. It facilitates the computation of unit operation cost at the end of each operation by dividing the total
operation cost by total input units. It is the category of the basic costing method, applicable, where
standardized goods or services result from a sequence of repetitive and more or less continuous operations,
or processes to which costs are charged before being averaged over the units produced during the period.
The two costing methods included under this head are process costing and service costing.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

9

FEATURES OF OPERATING COSTING
Operating Costs are the costs incurred by undertakings which do not manufacture any product but provide a
service. Such undertakings for example are — Transport concerns, Gas agencies; Electricity Undertakings;
Hospitals; Theatres etc. Because of the varied nature of activities carried out by the service undertakings, the
cost system used is obviously different from that followed in manufacturing concerns.
The essential features of operating costs are as follows:
(1) The operating costs can be classified under three categories. For example in the case of transport
undertaking these three categories are as follows:
(a) Operating and running charges. It includes expenses of variable nature. For example expenses on petrol,
diesel, lubricating oil, and grease etc.
(b) Maintenance charges. These expenses are of semi-variable nature and include the cost of tyres and
tubes, repairs and maintenance, spares and accessories, overhaul, etc.
(c) Fixed or standing charges. These includes garage rent, insurance, road license, depreciation, interest on
capital, salary of operating manager, etc.
(2) The cost unit used is a double unit like passenger-mile; Kilowatt-hour, etc.
It can be implemented in all firms of transport, airlines, bus-service, etc., and by all firms of Distribution
Undertakings
APPILICABILITY OF OPERATING COSTING
Companies belonging to the service sectors like transport companies, hospitals, electricity and gas
companies, hotels and restaurants, water supply and road maintenance companies are some of the
enterprises where operating costing is applicable.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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TYPES OF HOTELS
Hotel operations vary in size, function, and cost. Most hotels and major hospitality companies that operate
hotels have set widely accepted industry standards to classify hotel types. General categories include the
following;

Upscale luxury
An upscale full service hotel facility that offers luxury amenities, full service accommodations, on-site full
service restaurant(s), and the highest level of personalized and professional service. Luxury hotels are
normally classified with at least a Four Diamond or Five Diamond status or a Four or Five Star rating
depending on the country and local classification standards. Examples may include: Waldorf Astoria, Four
Seasons, Conrad, Fairmont, and Ritz Carlton.

Full service
See full article: Conference and resort hotels Full service hotels often contain upscale full-service facilities
with a large volume of full service accommodations, on-site full service restaurant(s), and a variety of onsite amenities such as swimming pools, a health club, children's activities, ballrooms, on-site conference
facilities, and other amenities. Examples may include: InterContinental, Starwood – Westin, Hilton,
Marriott, and Hyatt hotels

Historic inns and boutique hotels
See full article: boutique hotel Smaller independent non-branded hotels that often contain upscale facilities
of varying size in unique or intimate settings with full service accommodations. Some historic inns and
boutique hotels may be classified as luxury hotels.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

11

Focused or select service
Small to medium-sized hotel establishments that offer a limited amount of on-site amenities that only cater
and market to a specific demographic of travelers, such as the single business traveler. Most focused or
select service hotels may still offer full service accommodations but may lack leisure amenities such as an
on-site restaurant or a swimming pool. Examples include Courtyard by Marriott and Hilton Garden Inn.

Economy and limited service
Small to medium-sized hotel establishments that offer a very limited amount of on-site amenities and often
only offer basic accommodations with little to no services, these facilities normally only cater and market to
a specific demographic of travelers, such as the budget-minded traveler seeking a "no frills"
accommodation. Limited service hotels often lack an on-site restaurant but in return may offer a limited
complimentary food and beverage amenity such as on-site continental breakfast service. Examples include
Hampton Inn, aloft, Holiday Inn Express, Fairfield Inn, Four Points by Sheraton, and Days Inn.

Extended stay
Small to medium-sized hotels that offer longer term full service accommodations compared to a traditional
hotel. Extended stay hotels may offer non-traditional pricing methods such as a weekly rate that cater
towards travelers in need of short-term accommodations for an extended period of time. Similar to limited
and select service hotels, on-site amenities are normally limited and most extended stay hotels lack on an
on-site restaurant. Examples include Stay bridge Suites, Homewood Suites by Hilton, Residence Inn by
Marriott, element, and Extended Stay Hotels.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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Timeshare and destination clubs
See full articles: Timeshare and Destination clubs A form of property ownership also referred to as a
vacation ownership involving the purchase and ownership of an individual unit of accommodation for
seasonal usage during a specified period of time. Timeshare resorts often offer amenities similar that of a
Full service hotel with on-site restaurant(s), swimming pools, recreation grounds, and other leisure-oriented
amenities. Destination clubs on the other hand may offer more exclusive private accommodations such as
private houses in a neighborhood-style setting. Examples of timeshare brands include Hilton Grand
Vacations, Marriott Vacation Club International, Westgate Resorts, Starwood Vacation Ownership, and
Disney Vacation Club.

Motel
See full article: Motel A small-sized low-rise lodging establishment similar to that of a limited service hotel
but not referred to as a hotel, motels are often located adjacent to a major road or Interstate highway with
little to no amenities and often consist of exterior-entrance rooms using outdoor walkways. Motels are often
considered the "lowest classification" type of a lodging accommodation and often operate with minimal
staffing levels.

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TYPES OF HOTEL MANAGEMENT COMPANIES
[1] First-Tier and Second-Tier
The management companies that enter into management contracts with hotel owners are generally classified
as either first-tier or second-tier. First-tier companies operate lodging facilities for third parties under
management contracts and provide day-today operational supervision and property management as well as
national or regional customer recognition through their trade names. Hilton, Hyatt, Marriott, and Sheraton
are examples of first-tier management companies. Second-tier management companies also operate lodging
facilities for third parties and provide day-to-day supervision and management. They do not, however,
provide any customer recognition through their corporate name, but make use of franchise affiliations to
generate customer identification.
Examples of second-tier management companies are Interstate Hotels, American General
Hospitality, Richfield Hospitality, and Hospitality Equity Investors.
[2] Pre-Opening and Technical Services
In addition to daily operations, management companies also frequently contract to provide preopening
services and technical services. Pre-opening services are provided by the management company before the
opening of a facility to the public. Typical services include a pre-opening plan and budget, personnel
recruiting and training, sales and advertising, purchasing, and establishing an account system and controls.
Pre-opening services may be used at both newly developed hotels and existing properties that change
ownership. Fees for such services are generally separate from and in addition to those charged for
management supervision. Technical services are provided by hotel management companies during the
planning, design, and construction stages of a new hotel development. These services include design and
facilities planning, architectural assistance and review, interior design and lighting recommendations, and
mechanical and food facilities installation. Technical services are also available for the expansion and
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

14

renovation of existing properties. As is the case with pre-opening services, fees for technical services are
generally separate from and in addition to fees charged for management supervision

MANAGEMENT CONTRACTS
Management contracts have certain advantages and disadvantages to both the hotel company and
property owner. In order to negotiate and structure an equitable agreement, both parties should understand
each other's motivations for entering into a management contract.

[1] Advantages for Operator
[a] Inexpensive, Rapid Expansion
Because management contracts typically require very little in the way of capital outlay on
the part of the operator, their use can make possible inexpensive and rapid chain expansion with a low level
of investment. In fact, on occasion, in order to secure a management contract, hotel companies contribute
working capital in the form of a loan or some other small good-faith investment. As mentioned previously,
management companies may also extend guarantees to ownership, but are typically paid a higher incentive
fee if this is the case. The management fee set by the contract is generally structured so that the basic fee,
which is a guaranteed flow of income computed as a percentage of total revenue, is more than sufficient to
cover the hotel company's home office overhead and operating expenses. The lead time involved with
developing new hotels is eliminated for operators willing to take over existing properties. Additional
supervisory staff and some home office overhead is all that is required in order to do so.
[b] Low Downside Risk
Under a typical management contract, the hotel owner is financially responsible for all working
capital, operating expenses, and debt service. The management company has no financial exposure and
essentially covers its operating expenses and makes a small profit from the basic management fee and
makes an even larger profit from any incentive fee.
[c] Critical Mass

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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While the actual operating expense and home office cost of providing hotel management services is
minimal, a critical mass of properties under contract is necessary in order to cover the cost of key
operational executives and home office and support staff and still generate acceptable profits. First tier
management companies also usually offer a computerized reservation system, so their fixed overhead is
generally greater than that of a second-tier operator. The size of the critical mass varies depending on the
class and types of hotels operated, along with the nature of the services offered by the management
company. The typical range of critical mass for a first-tier company is forty to fifty hotels under contract;
for second-tier companies, the range is usually ten to fifteen hotels. Luxury hotels require a greater critical
mass than budget operations because home office support must be more extensive. Similarly, conventionoriented chains with extensive group marketing needs require a larger critical mass than chains catering
primarily to commercial travelers.
[d] Quality Control
Management contracts allow hotel companies to maintain control of both physical and operational quality.
Hotel companies, particularly the more well-known first-tier chains, are always concerned about
maintaining a favorable public image. A hard managerial neglect. Consequently, a management contract
provides the necessary level of quality control for a hotel operator. With an unrestricted management policy
and an adequately funded reserve for replacement, a management company has almost total control of the
quality and image of its properties. In a franchise relationship, on the other hand, where a hotel merely
carries a chain identification and there is no central managerial control, it is much more difficult to maintain
a uniform level of quality. Several hotel chains, including Hyatt, Four Seasons, and Motel 6, follow a
general policy of not franchising in order to have total quality and operational control over their hotels.
[e] No Depreciation Expense
Management contracts are attractive to public hotel companies because the cash flow they
realize is often close to what ownership of a property would provide, yet they allow the
company to avoid the depreciation expenses for which a property owner is liable. Management fees paid to
hotel companies are considered ordinary income for income tax purposes, but if a hotel company owns a
hotel, the income it realizes is eroded by depreciation expenses required for both the improvements and the
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

16

personal property undercurrent tax regulations. Publicly held hotel companies find management contracts
particularly rewarding because they can minimize the amount of depreciation expenses shown on their

[2] Disadvantages for Operators
[a] Residual Benefits of Ownership Eliminated
Any increase in the value of a hotel generated by the management company over the course of a
management contract accrues to the benefit of the owner when the hotel is sold or refinanced.
During the early 1990s, many second-tier hotel companies provided short-term management contracts to
lending institutions in order to assist with their distressed foreclosures. Many of the management companies
that successfully reestablished cash flow and economic value in problem hotels were rewarded by losing
their contracts when the properties were sold to new owners.
[b] Minimal input in Ownership Decisions
Most management agreements apply minimal restrictions on the owner's ability to transfer
ownership to another party. An undercapitalized owner, for example, can restrict cash needed to
cover shortfalls and adversely affect the operation and quality of the property. Also, as with any
relationship, a management contract requires cooperation from both parties; a difficult owner can
Make life miserable for a management company by imposing any number of unreasonable demand sviding
necessary funds. No matter how thoroughly a management company nvestigatesthe creditworthiness of a
hotel owner prior to entering into an agreement, adverse
circumstances can quickly deplete anyone's financial resources. The risk to a hotel management company
goes beyond the inconvenience of insufficient operating capital ora deferral of needed furniture
replacement; it could ultimately result in the loss of a management contract as a result of bankruptcy or
foreclosure. Beside the negative effect on a management company's income and reputation, such a
cancellation (on the part of a bankruptcy court or foreclosing lender) seldom involves payment of a
cancellation fee to the management company.
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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[d] Contract Termination
Hotel management contracts often contain cancellation provisions, typically upon a sale,
that allow owners to terminate the agreement upon payment of a stipulated cancellation fee. The disruption
in management deployment and public identity, however, can bed amaging especially to a first-tier operator.
[3] Advantages for Owner
[a] Acquisition of Operational Expertise
Hotel management contracts provide owners with the essential operational expertise necessary for
establishing and preserving the long-term profitability of their investment. At the same time, a management
contract allows owners to keep such ownership benefits as cash flow, depreciation deductions, tax benefits,
value enhancement, refinancing opportunities, and possession of the property after the contract expires.
[b] Immediate Name Recognition
A management contract with a first-tier management company immediately gives the owner‘s hotel a
national or regional identification. This recognition is achievable only through a second-tier management
company if coupled with a franchise affiliation.
[c] Quality Management
In recent years, hotel lenders and investors have become more knowledgeable about the industry.
One aspect of this increased sophistication is the emphasis now placed on quality management as a key
component of a successful hotel venture. In addition to evaluating the local market for transient
accommodations, the area and neighborhood characteristics, and the actual real estate itself, hotel Enders
and investors take great interest in the ability and financial track record of a proposed operator. Most lenders
and investors require that an established hotel management company be put in charge of the day-to-day
operations of any hotel in which they have an interest. Some even demand that a professional hotel asset
manager supervise the hotel company.
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If the operator is a second-tier company, it generally must have a franchise affiliation in order

to attract the necessary financing. While including a nationally known hotel company as part of the project
team does not guarantee financing, it does show positive interest on the part of the operator that can
favorably influence the investment decisions of the lender.

[4] Disadvantages for Owner
[a] Loss of Operational Control
A management contract gives the operator total operational control of the property. If the management
company operates the hotel in a competent manner, this loss of control is not a
problem. However, if the property is mismanaged, the owner may find it very difficult to remove then
competent operator. As a result, a greater number of management agreements have included specific
standards that allow owners to terminate operators who do not achieve certain levels of performance.
However, even with stringent performance criteria, the process of removing a poor management company
must be timely; the reputation of the hotel can be badly damaged if new management is not quickly in place.
[b] Liability for All Ongoing Expenses
The owner of a hotel under a management contract is financially liable for all costs and expenses, including
fixed charges and debt service. This means that even though the manager's neglect or incompetence may
actually cause the financial loss, the owner is still ultimately responsible for funding the negative cash flow.
For this reason, a well-structured management contract should contain incentives for the operator to
maximize revenues and minimize expenses. Deferring apportion of the management fee to be paid as a
percentage of a defined level of profit creates a financial incentive for an operator to manage efficiently.
Essentially, through an incentive management fee, the management company's earnings become directly
tied to the profits of the hotel. The actual contractual structure of the operator's incentive fee can often create
greater or less incentive. For example, if an incentive fee is based on 10 percent of income before fixed
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

19

charges and paid only if sufficient income remains after debt service, the operator would have a greater
incentive to maximize revenue and minimize expenses than if the incentive fee was payable whether or not
a positive cash flow was generated. This formula can be further modified to produce even greater operator
incentive by requiring the management company to forever forfeit the incentive fee if the income after debt
service is insufficient, rather than merely deferring and accumulating the fee until repayment can be made
from future cash flows.
[c] Termination of Operator
Most management agreements are difficult for owners to terminate prematurely or without a sale.
First-tier management companies, concerned about adverse publicity from losing their
Identification within a particular market generally require a non-cancelable contract that exceeds ten years
in length, in addition to one or more extension clauses. Second-tier operators usually accept a shorter
relationship, but often insist on provisions limiting the owner's ability to terminate at an earlier date. The
inability of an owner to unilaterally terminate a hotel management contract for poor performance can
significantly increase its exposure to financial loss. To reduce these risks, management contracts should be
written with specific performance standards tied to cancellation provisions. In addition, owners often
negotiate an all-purpose contract buy-out clause that allows for the removal of the management company at
any time upon payment of a stipulated amount.
[d] Sale of Property
The sale of a hotel property is often much more difficult if it must be sold subject to an existing
management contract. Hotel companies rarely purchase hotels operated by other companies;
therefore, an ongoing non-cancelable contract reduces the number of possible buyers and
consequently increases the time required to find a qualified buyer. For this reason, the sale of a hotel with
management in place often brings a lower price than if the property were sold without
management. A buy-out provision gives an owner the option of selling the hotel subject to the
existing agreement or purchasing the contract and selling the hotel unencumbered by management.
[e] Cost of Management

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The cost of management can absorb a substantial portion of the cash generated by a hotel. Simply put,
quality hotel management is expensive. Depending on the operator and the terms of the management
contract, the total management fee, expressed as a percentage of the cash flow after debt service, can be as
much as 70 to 85 percent. If the occupancy level is low, as in the case of a newly opened hotel, the total
management fee could exceed the cash flow after debt service, meaning the owner would have to contribute
additional capital to the venture. To assist owners during start-up periods and provide lenders with an
additional debt service cushion, most hotel management companies will subordinate their incentive fee to
debt service. This means that if the income before debt service is insufficient to cover the mortgage
payment, the management company would either forgo or defer their incentive management fee.
[f] High Downside Risks
Owners of lodging facilities face downside risks that are due to the high amount of fixed costs
associated with the operation of a hotel or motel. As occupancies drop, losses escalate rapidly
because many of the fixed hotel expenses cannot be cut back. The use of property leases shifts this
downside risk from the owner to the operator, but under a management contract, any negative cash flow is
the responsibility of the owner.
[g] Operator May Favor Own Property
A conflict of interest always exists when a hotel company both owns and operates properties for it sown
account and operates hotels for nonrelated third parties. Because a hotel company generally receives a
greater economic benefit from sending guests to its owned hotels rather than to properties it manages, the
possibility for unfair practices is always present. Owners should be aware of this basic conflict and be sure
that management agreements include provisions restricting possible abuse.

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TYPES OF COST IN HOTEL
Labor costs: Full-service hotels
Operated departmental labor categories include housekeeping staff, guest services, front desk agents, bell
staff, line cooks, banquet servers, etc. These categories are dominated by hourly employees whose shifts are
scheduled a week or two in advance when the occupancy of the hotel is known for each day of the
scheduling period. As the property accommodates more guests, more employees are scheduled for shifts. As
guest counts decline, the shifts of the existing employees are reduced, or in the case of a prolonged
occupancy deficiency, eliminated altogether. This dynamic gives way to a variable expense category that is
not just tied to number of people employed within the department, but to man-hours utilized.

In undistributed departmental labor categories, we find that a minimal staff is able to handle all occupancies
up to 60%. Moving beyond the 60% occupancy level necessitates additional personnel to perform the
administrative functions of the hotel. The individuals represented in the undistributed departmental labor
categories (sales and marketing, and administrative and general) have a higher degree of specialization than
their counterparts in the operated departmental labor categories, and are thereby less likely to disappear
during times of occupancy constraint. These positions, however, are more likely to experience additional
hours worked earning the same wage when occupancy increases than departmental labor positions would
due to salary.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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Other costs: Full- and limited-service hotels
Other costs in the operated departments contain a large fixed portion. A minimal quantity of steaks,
vegetables and other food items are necessary for dining outlets to operate. Linens, toiletries, and other
guestroom supplies also must be stocked before a hotel can service guests. Our study has found that
managers keep on hand enough supplies to service an occupancy level of at least 53% for full-service
properties and 50% for limited-service properties, as displayed in Exhibit 3. When the property‘s business
increases, so does the ordering of supplies. When the full-service property‘s business decreases, so does the
supply inventory, but only to a level necessary to service a 53% (50% for limited-service) occupancy level.

Undistributed departmental other costs include office supplies, credit card fees, guest loyalty programs,
supplies to maintain the property, etc. Contrary to historical beliefs, we found undistributed departmental
expenses to be highly correlated with the number of guests staying in the property and, therefore, largely
variable.
In closing …
For many managers, these numbers may seem familiar, as they no doubt have experienced the phenomena
in their own property. As the hotel industry climbs out of the deepest and most prolonged recession
experienced in recent history, these findings can act as a guideline of when to introduce additional expenses
for management. For a more detailed description of our analysis and findings we recommend viewing the
complete study

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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COST SHEET OF HOTEL
COSTS

Rs.

Rs.

Salaries to Staff

xxx

Room Attendant Wages

xxx

Repairs and Renovation

xxx

Lighting and Heating

xxx

Power

xxx

Linen

xxx

Interior Decoration

xxx

Sundries

xxx

Depreciation
-

Building

xxx

-

Furniture and Fixtures

xxx

-

Air-conditioner

xxx

Premises Rent

xxx

Other Administration Expenses

xxx

Interest on Investment

xxx

Total Operating Cost (i)
xxx

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

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No. of Room Days (ii)

xxx

Cost per Room Day (i) + (ii)

xxx

FIXED AND VARIABLE COSTS IN HOTELS
The terms Variable costs and fixed costs in hotel operation is used to distinguish between those costs that
have direct relationship to Hotel occupancy and those that has no relation to occupancy and business .
Fixed Costs
Fixed costs are normally not affected by changes in occupancy or sales volume. They are said to have little
direct relationship to the business volume because they do not change significantly when the number of
sales increases or decreases.
The term fixed should never be taken to mean static or unchanging, but merely to indicate that any changes
that may occur in such costs are related only indirectly or distantly to changes in volume.
Examples of Fixed Costs are:


Land, Building Taxes to Government,



Wages to employees.



Hotel employees health premium



Out sourced services contracted for fixed amount in a month e.g: security service



Yearly maintenance contract fees (AMC) for all equipment, machines and software‘s.



Fixed internet, telephone plans.



Advertising cost



Yearly external auditing cost



Payroll

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

25



Provision



In house moves/ satellite T.V.



Music entertainment



Reservation expenses



Subscription – Newspaper, magazines etc.



Human resources



Sales & marketing



Interest on Loan



Other fixed charges etc.

Variable costs
Variable costs are clearly related to hotel occupancy and business volume. As business volume or
occupancy increases, variable costs will increases; as hotel occupancy decreases, variable costs should
decrease as well.
Examples of variable costs are:


Food, beverages, housekeeping cleaning supplies.



Flower arrangement



Guest room amenities



Guest room, restaurants and banquets linen.



Banquet HVAC costs



Stationeries used in Front desk and restaurants



Chemicals for laundry and water treatment plants



T/A commission



Flower & decorations



Guest supplies – amenities



Guest relations



Laundry Uniform

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

26



Printing supplies



Entertainment



Telephone & Fax



Transportation



Other operating supplies



Administration & General



Human resources



Sales & Marketing



Management Fees etc.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

27

HOTEL EXPENSES ACCOUNTING
In the accounting terminology, expense is an income statement account representing the cost of items
consumed in the process of generating revenue (ex. Cost of Goods Sold) or that expires due to the passage
of time (ex. Depreciation Expense). Expense cannot be mixed with expenditure. For, Expenditure represents
the purchase amount (whether paid in cash or credited with the Accounts Payable) of a certain asset. To
illustrate, suppose, on January 1st, 2001, XYZ Company paid $ 10,000 cash in order to purchase some
equipment this is called expenditure and is journalized as follows:

Cash

$ 10,000

Equipment

$ 10,000

However, on December 31st, 2001, XYZ shall allocate a certain value of the initial investment of equipment
to be placed as an expense to show that a certain portion of the equipment has been already used to
contribute to Company's revenue. Suppose that this amount was determined to be $ 650. This very amount
is called an expense and is journalized as follows:

Depreciation Expense-Equipment

$ 650

Accumulated Depreciation-Equipment

$ 650

According to the matching principle, all expenses must be recorded in the same accounting period as the
revenue that they helped to generate.
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

28

In the hotel industry, expenses are divided into two main categories:


Direct Expenses: These are the expenses that vary with the level of production. For example, in the
Food and Beverage department, the Cost of Food Sales is a direct expense. For, the more dishes we
serve, the more cost of Food Sales the Hotel incurs. Moreover, in the Telephone Department, the Cost of
Calls is a direct expense. For, the more we connect guests to whatever destination wanted, the more cost
of calls the hotel incurs.

At this very stage a bracket would be opened to explain that there is a primordial difference between
revenue generator departments. In fact, revenue generator departments are classified into two: Service Type
departments versus merchandising departments. Service type departments are revenue generators making
money from solely providing services (Ex. Rooms Division department). On the other hand, merchandising
departments ensure revenue by getting use of certain raw material, processing it, and then sell the final
product (Ex. F&B department, Telephone department…). Therefore, only merchandising departments have
a direct expense called Cost of Sales.


Indirect Expenses: These are the expenses that do not vary with the level of production, or variable
costs that cannot be feasibly distributed to various Financial Reporting Centers. In the hotel industry,
indirect expenses are, hence, divided into two different categories:

1. Fixed Charges: Examples might include rent, insurance, property taxes, and interest expense. For, these
very expenses are incurred for the benefit of the hotel as a whole not for the benefit of each single
department. To illustrate, if a hotel insures itself against fire, theft and burglary, and one day some
valuable equipment has been stolen, from any department whatsoever, the insurance company will
indemnify the hotel.
2. Undistributed Expenses: Examples might include electricity, energy, and water expenses. For, usually
the hotel receives a total energy bill to be paid. In the old days, some hotels went for allocating this
amount according to certain factors (ex. Surface, Department Usage…). However, this practice proved
to be misleading, since it might under-allocate energy expenses for some departments and over-allocate

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

29

it for others. Nowadays, most of the hotels decide not to allocate such expenses any more. Rather, hotels
report such expenses in separate schedules.
At this stage, departments of a typical hotel would be listed along with their various related direct expenses.
Later, examples of fixed charges and undistributed expenses would be discussed. Last, a bracket would be
opened to discuss one of the most important Direct Expenses in any hotel, which is Payroll and Related
Expenses. For, hotels being described as labor intensive companies devote a big percentage of their
financial resources to such an expense.
I- Typical Hotel Departments:
1. Rooms Division Department: It is the place where guests receive several kinds of services ranging
from reservation, registration, to checkout and settlement of their accounts. This department
typically compromises a Rooms Division manager, an assistant manager(s), registration clerks,
cashiers, mail and information clerk, and uniform service personnel.
Reservation expenses: This expense account represents any payment to various agents contracting to
bring potential room revenue business to the hotel. These agents might have the form of Central Reservation
Offices (Whether affiliate or non-affiliate), Intersell agencies…
Contract cleaning expenses: This expense account represents payment to contracting outside cleaning
agencies. Some hotels (especially small and middle size hotels) might opt for contract cleaning because of
its attractive financial implications. If this is the case, these hotels might not be forced to have a
housekeeping department, or might keep housekeeping staff to minimum. Such expenses should be
determined in light of the contract signed between both parties (i.e. the hotel from one side and the cleaning
company from the other.)
Laundry and dry cleaning expenses: This cost applies to outside laundry and dry cleaning costs for the
Rooms Division department. In most of the cases, such contracts are signed to benefit more than one
revenue generator. In this case, the Rooms Division department shall report the laundry and dry cleaning
expenses related only to the Rooms Division department.

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

30

Guest transportation expenses: These expenses include the cost of transporting guests from and to the
hotel via various means of transportation (ex: Mini-buses, buses, limousines…). If the guest transportation's
volume business, staff, and costs are significantly high, then a separate department might be established.
Linen expenses: This specific expense account includes the allocation of a portion of linen expenditure
for a specific period of time. This practice goes along with one of the accounting principles: the matching
principle. Some sub-accounts of linen expense might be:
Towels expenses

Facecloth expenses

Sheets expenses

Pillow expenses

Blankets expenses

Guest supplies expenses: This account includes the various guest supplies provided free of charge to
guests in their rooms. Some sub-accounts of guest supplies expenses might include:
Newspaper expenses

Guest stationary expenses

Shoe cloth expenses

Coffee expenses

Writing supplies expenses

Toilet requisites expenses

Flowers expenses

Hangers expenses

Matches expenses

Ice expenses

Candy expenses

Cleaning supplies expenses: Such an account includes the cost of Rooms Division's cleaning supplies.
Some sub-accounts of guest supplies expenses might include:
Brooms expenses

Soaps and polishes expenses Cleaning cloths expenses

Mops expenses

Cleaning chemicals expenses Dusters expenses

Brushes expenses

Insecticides expenses

Dustpans expenses

Pail expenses

Disinfectants expenses

Cleaning accessories expense

Printing and stationary expenses: This expense account includes printed formats (ex: virgin registration
records, reservation records, guest folios…), office supplies (ex: pens, pencils, rubbers, erasers…), printed
manuals and guidelines for the use of the Rooms Division employees. Some sub-accounts of printing and
stationary expenses might include:
Binders expenses

Floor plans expenses

Pencils and Pens expenses

Vouchers expenses

Rack card expenses

Reports expenses

Desk pad expenses

Envelopes expenses

Ink expenses

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

31

Folio expenses
Uniforms expenses: This expense account includes the allocation of a portion of uniforms asset (if the
hotel purchases uniforms) for a certain period of time along with the expense of repairing, and cleaning
them. If the hotel rents uniforms rather than purchasing them, then the uniform expense shall include the
renting cost, usually predetermined in light of the contract linking the hotel and the uniform renting
company.
2.Food & Beverage Department: This department is responsible for the preparation and service of food and
beverage to guests. It compromises the kitchen, restaurants, bars, and any premise in which Food and
Beverage is served.
3. Telephone Department: This department is responsible to handle guest communication. This might be
insured through connecting guests to desired locations, whether in-house, local or long distance calls.
Moreover, this department is usually composed of a chief operator, supervisors, operators, and messengers.
Last, with the automation revolution affecting right now most hotels, it became possible to separate calls of
guests and communication handled by hotel employees, therefore, making it possible to have the telephone
department as a minor revenue generating department. For, prior to automation, the separation of cost of
calls was not possible and hence the telephone department might show frequently a loss since telephone
direct costs are overstated.
4. Administrative & General Department: Actually looking at any hotel organization chart, Administrative
and General Department (referred usually as A&G) does not exist. It is however a financial reporting
centers including executives of the Hotel (ex: General Manager, Assistant General Managers…) and other
employees involved with executive and financial activities (ex: Accounting personnel, resident Manager,
Accounts Receivable clerks, Night Auditors…). Moreover, if there is staff in the hotel not included in
departments due to low business volume not justifying the establishment of a department, they might be
included under the A& G department (ex. Data Processing Staff, Transportation Staff, and Personnel
Staff…).
5. Marketing Department: This department is composed of a marketing manager, marketing assistant
managers responsible for sales, convention, public relations, and advertising functions, along with
OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

32

marketing personnel. This department is a cost center that indirectly supports revenue generators in their
sole aim of generating hotel revenue. This can be insured, for example, through large group reservations,
hence maximizing room revenue, or buffet, conference, and catering opportunities brought by this very
department hence maximizing room revenue, F& B revenue, and the hotel revenue as a whole.
6. Property, Operation and Maintenance (POM): Concerned with the appearance and physical condition of
the building, the repair and maintenance of equipment, and rubbish removal. Some positions of this
department might include POM manager, POM assistant manager(s), electricians, plumbers, gardeners,
painters, and interior design specialists…
7. Data Processing Department: This special department might be established in hotels operating under the
fully automated system. Moreover, such hotels should have significant investment in computer equipment
and staff to justify the establishment of a single department. If these conditions do not exist, than the Data
Processing functions would be financially grouped under Administrative & General Department.
8. Human Resources Department: Similar to Data Processing Department, if the Dollar Amount and Staff
incurred for employees' hiring, screening, interviewing, selecting, recruiting, and Training is significant,
than a Human Resources Department may be established. Otherwise, Human Resources functions would be
financially grouped under Administrative & General Department
9. Guest Transportation Department: If the Dollar Amount and Number of Staff employed in the
transportation of Guests is significant, a separate Department might be established. Otherwise, guest
transportation staff would be grouped under Rooms Division Department.
II-Financial Reporting Centers:
A Financial Reporting Center is an area of responsibility for which separate Cost Information must be
collected
Might be classified as Revenue Centers, Support Centers, and Other Financial Reporting Centers
1. Revenue Centers Generate Revenue through sales of Products and/or Services to Guests


Rooms



Food and Beverage



Telephone

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

33



Gift Shops



Garage and Parking



Other Operated Departments



Rentals and other Income

2. Support Centers those departments that have minimal Guest Contact and do not produce Sales. Yet,
they do provide services to Revenue Centers, which, in turn, provide Services to Guests


Administrative & General



Marketing



Property Operation and Maintenance



Data Processing



Human Resources

3. Other Financial Reporting Centers include Energy Costs and Fixed Charges (Rent Expense, Property
Taxes, Insurance Expense, Interest Expense, Depreciation and Amortization Expenses)
 Each Financial Reporting Center should be assigned an Identification Number. To illustrate, consider the
following Example:
Financial Reporting Center

Identification Number

Rooms

11

Food and Beverage

15

Telephone

17

Administrative & General

31

Marketing

36

Property Operation and Maintenance

38

Energy Costs

41

Fixed Charges

51

 Furthermore, each Account should be assigned an Identification Number. Hotels commonly opt for either
the Five-Digit (xx-xxx) or Eight-Digit Account Numbering Systems (xx-xxx-xxx)

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

34

III-Responsibility Accounting:
Aim provides Financial Information useful in evaluating the effectiveness of Managers and Department
Heads. That's why only Direct Expenses should be charged to Specific Departments
1. Expenses include the day-to-day Costs of Operating the Business, the Expired Costs of Assets through
Depreciation and Amortization, and the "write-off" of pre-paid items. Expenses are classified as Direct
expenses (Cost of Sales and Operating Expenses), Indirect Expenses (Fixed Charges and Undistributed
Expenses) and Income Taxes
a) Direct Expenses  they are Costs incurred solely for the benefit of a particular Department


Cost of Sales



Payroll Expenses



Payroll-related Expenses



Operating Supplies



China, Glassware, Silver, and Linen



Laundry and Dry Cleaning

b) Indirect Expenses  They are incurred for the benefit of the Hotel as a whole, and cannot be identified
with any particular Department



Property Insurance

|



Interest Expense

|



Property Taxes

| FIXED CHARGES



Rent Expense

|



Depreciation and Amortization

|



Marketing Expense

|



Administrative & General Expenses

| UNDISTRIBUTED EXPENSES



Property Operations and Maintenance

|

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

35



Energy Costs

|

c) Income Taxes  it is neither a Direct Expense, nor an Indirect Expense. It should appear as a separate
Line Item on a Hotel's Summary Income Statement
2-Departmental Expense Accounting:
Separate Expenses versus one Lump-sum Amount of Expenses
IV-Payroll and Payroll-related Expenses:
1. Salaries and Wages (Payroll Expense)  Includes Salaries, Wages, Overtime Pay, and any Employee
Bonuses and Commissions
2. Employee Benefits  Include Vacation and Holiday Pay
3. Payroll Taxes  Includes Social Security Taxes (Employer's Portion)
4. Employee Meals  Includes the Cost of Food furnished to Employees as a Convenience to the Employer
5. Worker's Compensation Insurance  Includes the Expense of Worker's Compensation Insurance

OBJECTIVES OF VISIT:

With objectives of obtaining information about topics & comparing it with other competitive Company in
terms of product & service. I had visited Operating Cost in Hotel Industry at my knowledge on Topic &
answer my following question mentioned below.
Q.1

What is mean by operating cost?

Q.2

What is an features of operating cost?

Q.3

Explain the types of Hotels

Q.4

Explain the types of Hotels Management Companies

Q.5

Explains types of cost in Hotel

Q.6

Explain fixed and variable expenses in hotel

Q.7

Explain Hotel expenses accounting

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

36

CONCLUSION

We have study an important feature of operating costing is that mostly such costs are fixed in nature. The
operating costs may be collected for different cost units so that the relevance and utility of cost data could
be understood e.g. in hotel cost accounting; fixed charges may be apportioned in accordance with the
number of available bed days but variable costs in hotels may be ascertained in terms of occupied bed days

OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

37

BIBLOGRAPHY
-

Some part from Costing Books of BAF and some other books

WEBLIOGRAPHY

-

www.hicsaconference.com and some part from other sites

PRIMARY DATA
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Institute

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OPERATING COST IN HOTEL INDUSTRY/MCOM PART I

Venue of
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