Suggested solutions to questions on The Black Swan Hotel case study.
(Note that overall case answers should be in the form of a consultant’s report, i.e. with
appropriate title, executive summary, brief introduction, etc.)
a) From the information available provide your assessment of the business
performance of The Black Swan Hotel last year. Highlight any key weaknesses and
point out the main areas where you think management effort should be
concentrated to improve performance.
Assessment of Business Performance:
The average investment in the hotel (capital employed) is stated as $4 million. The
following financial measures are given or can be calculated:
Whole Year Summer Winter
Net Profit ($000s) 401.4 294.0 107.4
Sales ($000s) 2,290.0 1,404.0 886.0
Net Margin 17.5% 20.9% 12.1%
Annualised1 ROI 10.0% 14.7% 5.4%
Asset Utilisation 0.57 times 0.70 times 0.44 times
Last year The Black Swan Hotel made a return on investment (ROI) of around 10%
which has disappointed Hazel, due to the lack of improvement from last year and
because this level of return is not sufficiently above risk-free interest rates to provide
an adequate premium to compensate for business risk. Hazel’s target ROI is 15%
which is not an unreasonable expectation. The overall sales margin was reasonably
high at 17.5% and hence it is the asset utilisation of only 0.57 times that is dragging
down ROI. Financial performance is better over the half year containing Summer with
an acceptable annualised ROI of nearly 15% achieved through high net margins
(20.9%) and reasonable asset utilisation (0.7 times). However, the half year
containing winter is very poor with annualised ROI at only 5.4%, despite 12.4% net
margin, as asset utilisation is only 0.44 times. Manuel’s accounts show that Rooms
generate good margins but both the Bar and Bistro yield poor margins, especially in
the winter, the reasons for this will have to be investigated.
Key weaknesses and areas for management attention:
1. Low room occupancy.
Due to the large investment in property a hotel has a high asset base which cannot be
changed easily, it at all. Hence, to generate good returns it is important to maximise
asset utilisation by seeking high occupancy in Rooms and high utilisation levels in the
Bar and Bistro. In such as industry, there is an interrelation between sales made in the
Bar & Bistro and the occupancy of the rooms, hence management should focus their
attention on ways to increase room occupancy as this will not only increase room
revenues but should also increase sales in the Bar and Bistro.
1 To calculate annualised ROI simply multiply half year profits by 2 to obtain annual equivalent profit.
Suggested solutions to questions on The Black Swan Hotel case study.
2. Low sales and margins from Bar and Bistro.
Similarly, the Bar and Bistro need to be enticing and provide excellent service to
increase their own utilisation, reduce the likelihood of customers venturing elsewhere
and to encourage repeat visits to the hotel. Throughout the hotel, management must
ensure that a high level of quality is perceived by the customers who pay competitive
prices. If management can raise the quality in all areas, occupancy and efficiency will
increase and better results will be attained.
3. Pricing and target occupancy.
Pricing is an area that needs attention as a cost plus approach to pricing is
inappropriate and doesn’t take into account quality factors or the need to achieve high
occupancy levels. A central Wellington hotel should have higher occupancy and to
investigate this The Black Swan should benchmark itself against other hotels in the
area. Hazel has discovered that many competitors achieve 60% occupancy in winter,
so why is Manuel’s target occupancy only 48%? This low target used in Manuel’s
cost plus pricing model leads to an excessively high price, which in turn reduces
occupancy (Cooper and Kaplan’s “death spiral”). Lower, market based prices are
needed to drive up occupancy rates. Manuel budgets summer occupancy at 85%,
again pushing up prices, but they should be much nearer 100%, and the hotel should
certainly have been full during the Wellington Sevens weekend.
————-
b) Provide a critique of the form and content of Manuel’s accounts, THEN redraft
the Operating Statement (for the months of November to April only) in a format
that you believe is more useful and fully explain the reasoning for the changes
made.
Critique of Manuel’s accounts.
Manuel’s costing approach may be appropriate for manufacturing but it is
inappropriate in this service industry. (See: Brignall et al. 1991). Arbitrarily
apportioned overheads distort the reported performance of the Bar, Bistro and hotel
Rooms, resulting in misleading information for assessing performance and for making
decisions.
It seems likely that Manuel has ignored the floor area of corridors in his
apportionment calculations to improve the profits of the Rooms at the expense of the
Bar and Bistro, but revised calculations with corridor floor areas included will not
provide more useful information2
. If it cannot be established what is driving the
overhead costs, they should not be attributed to departments at all. Instead, a marginal
costing approach should be used, which will only charge specific fixed overheads to
departments, as these represent the costs “caused by” the department (and avoidable if
the department was removed). All overheads that cannot be traced to a department
should be treated as common costs and only deducted in one lump sum after the
contribution from each department has been totalled.
2 Note that the debate here is merely about the method of apportionment of overheads and there is no
question of any costs having been totally omitted, merely a debate about how a fixed amount of
overhead costs are to be traced to individual departments.
Suggested solutions to questions on The Black Swan Hotel case study.
Redrafted Operating statement and explanation:
The Black Swan – Marginal Costing Operating Statement
November – April
(in $000’s) Bar Bistro Rooms Total
Revenue 154.0 384.0 866.0 1,404.0
Less Direct wages 40.0 115.0 259.8 414.8
Less Other direct costs 61.6 153.6 150.0 365.2
Contribution to common fixed costs 52.4 115.5 456.2 624.0
Contribution Margin
Common fixed costs:
34% 30% 53% 44%
Admin salaries 85
Establishment costs 245
Net Profit 294
Note how the net profit for the period hasn’t changed form Manuel’s report, but a
clearer performance indicator is achieved for the three departments by removing the
arbitrary allocations of common fixed costs. This means that cost behaviour is
recognised and the contribution of each department to shared fixed overhead costs is
highlighted and hence management decisions are better supported.
—————-
c) Outline the advantages and disadvantages of the financial performance measures
presently used by Hazel and Manuel to manage the performance of The Black
Swan Hotel.
Financial performance measures currently used:
It is evident that the financial PMs currently used are all based on the departmental
operating statement and hence include key figures such as sales and operating profits
and operating margins (by department). All measures are compared to budget (and
perhaps previous year) to assess performance.
Advantages and disadvantages of financial PMs currently used:
Using net profit as a performance measure has the advantage of being easily
measurable, based on conventional accounting principles and easy to communicate
and understand. It is likely to be comparable to the figures that competitors produce.
However, there are disadvantages as it can be affected by accounting policy choice
and the choice of apportionment bases (as seen above) and hence can be manipulated
(in this case by Manuel). Focussing only on net profit or net margin does ignore the
investment base (capital employed) of the business and if managers can influence
investment decisions they would be motivated to push for any investments that
enhanced profits (even if such investments were capital intensive and provided poor
returns). Moreover, net profit is a short term target and a focus entirely on such a short
term measure might lead to reduced discretionary expenditure (e.g. on training and
quality) and reduced investment in future profitability and growth.
———-
Suggested solutions to questions on The Black Swan Hotel case study.
d) Explain the key characteristics of an effective balanced performance measurement
system and outline ONE modern performance measurement model that could be
utilised at The Black Swan Hotel. (Diagrams may be used but need to be
supplemented with appropriate explanations)
The key characteristics of an effective balanced PM system:
Include a range of financial and non-financial performance measures
Include results measures and drivers of future performance (determinants)
Need for an internal focus (e.g. on internal business processes, innovation and
learning) and an external focus on shareholders (or stakeholders) and customers.
Measures must be related to the strategy/strategic objectives and indicate level of
implementation/achievement.
Measures must be simple – easy to apply and understand.
Additional acceptable possibilities include:
Measures must be quantifiable, but may be subjective.
Measures should encourage beneficial behaviour from personnel.
Measures should be linked to rewards to enhance motivation.
One modern PM model that could be used at the Black Swan:
Kaplan and Norton’s balanced scorecard could be used. It distinguishes between
the ‘drivers’ of financial performance and the results. Kaplan and Norton propose
that at any level a company should set appropriate goals and monitor their
achievement through a small number of key measures. The chosen goals and
measures should provide a view of the company’s performance from four
perspectives and should relate directly to company strategy. (See diagram).
Suggested solutions to questions on The Black Swan Hotel case study.
There needs to be a balance of financial, results measures and non-financial, driver
measures in the scorecard. There should be measures focussed on the needs of
external stakeholders (customers and shareholders) and measures of the essential
internal business processes that will ensure delivery of the customer value proposition.
The skills and technology need to be in place to support the internal business
processes and enable the firm to continue to create and add value. Appropriate goals
and measures in the innovation and learning perspective will support this. Measures in
one perspective should be linked to measures in the other perspectives to ensure that
the overall company strategy is implemented and successfully achieved.
Note that other PM models could have been described and suggested for use, e.g.
As a result of a detailed research study of 11 for profit service organisations,
Fitzgerald et al (1991) developed a framework of six generic performance
dimensions. It is critical to recognise that two of these dimensions, competitiveness
and financial performance, reflect the success of the company’s chosen strategy:
‘results’. The other four are factors that determine competitive success:
‘determinants’. (See diagram).
Dimensions of Performance Types of Measure
Results
Competitiveness Relative market share and position
Sales growth
Measures of the customer base
Financial Performance Profitability
Liquidity
Capital structure
Market ratios
Determinants
Quality of service Reliability
Responsiveness
Aesthetics/appearance
Cleanliness/tidiness
Comfort
Friendliness
Communication
Courtesy
Competence
Access
Availability
Security
Flexibility Volume flexibility
Delivery speed flexibility
Specification flexibility
Resource utilisation Productivity
Efficiency
Innovation Performance of the innovation process
Performance of individual innovations
All three departments at the Black Swan would need measures that related to the goals
of that department, some to measure the ‘determinants’ of success and others to
measure results. E.g. in the Bistro measures of quality and customer satisfaction might
be considered determinants whereas contribution and contribution margins would be
results. See: Brignall et al. (1992).
——-
Suggested solutions to questions on The Black Swan Hotel case study.
If an indicative BSC were to be designed it could look something like this:
A balanced scorecard for The Black Swan Hotel.
Achieving the goal of happy and highly motivated staff can be observed by
managers and confirmed through the results of (anonymous) staff surveys. Staff
need to be appropriately trained with the relevant skills to perform their functions
effectively and efficiently, so a high % of staff need to not only undertake the
right training but pass the necessary tests to show they have acquired the
necessary skills. Success in the I&L measures will enable improvements in
internal business processes.
As clean, high quality rooms are essential to customer satisfaction (CS) a high %
of rooms must pass regular quality checks. Similarly, CS requires fast efficient
service at reception and hence the speed (and quality) of service needs to be
measured. Appropriate focus of, and improvement in, IBP measures ensures that
the ‘customer value proposition’ is delivered. Customers need to be encouraged
to complete surveys (or be asked about their experience at reception when
checking out) so that the hotel can monitor improvement in satisfaction scores.
However, ‘action speaks louder than words’ so the hotel needs to measure
whether customers are happy to return – hence % repeat business must be
measured. As long as costs are controlled and the hotel is efficient, improved
customer satisfaction, leading to repeat business, should lead to enhanced
customer profitability and improved ROI (through high occupancy and hence
high asset utilisation at reasonable net margins – prices should not be set too high
as low occupancy will stifle good performance in the bar and restaurant)
Suggested solutions to questions on The Black Swan Hotel case study.
e) Suggest FOUR key performance measures and explain how they should be used
within the model described in the answer to (d) above to improve the
effectiveness of performance management and to drive performance
improvement at The Black Swan Hotel.
Four PMs to drive performance at the Black Swan
Four key measures to use at the Black Swan would be one each relevant to an
important perspective, and could be as follows:
Training & Growth perspective.
The amount invested in training or training hours are measures that can show
Hazel whether enough is being invested in the skills of her staff to ensure that
their performance improves and customers are satisfied. The outcome of
investment in training should also be measured e.g. by monitoring staff
competency levels in key skill areas. Improvements in these measures should lead
to improvement in measures in the IBP perspective.
Internal Business Processes perspective.
The time taken to complete key tasks (e.g. servicing a room) could be measured to
assess efficiency and monitor any improvements flowing from training undertaken.
But quality shouldn’t be compromised and hence must be measured also (e.g. by
room inspections to ensure that the room servicing was of appropriate standard
and also tested buy surveying customers). The result of efficient, quality service
should impact positively on the customer perspective.
Customer perspective.
Customer satisfaction levels should be surveyed to establish if improved measures
in the first two perspectives are impacting positively on customers. But improved
customer attitudes (indicated by better customer satisfaction scores) is not enough
– outcomes must be measures also. Repeat business and improved occupancy
levels might be key outcome measure here. By monitoring and increasing
customer satisfaction, the Black Swan should see an eventual impact on the
financial perspective.
Financial perspective.
Department sales growth could be monitored and contribution margins (by
department) will measure efficiency and profitability. Common costs need to be
measured and controlled to ensure that overall operating profit and net margins
improve. (Allocating common fixed costs to departments will inevitably be
arbitrary and potentially misleading as these costs cannot be controlled at
department level). Improved occupancy will lead to improved asset utilisation and
help drive up ROI towards Hazel’s target of 15%.
When all linked together, these measures should provide information that will
focus each Manager on what they can do to improve overall performance at the
Black Swan Hotel.
————-
Suggested solutions to questions on The Black Swan Hotel case study.
f) Advise Hazel how she could encourage key staff, e.g. the Chef and Bar
Steward, to accept the suggested performance management system and
become committed to business performance improvement at The Black
Swan Hotel.
The need for training and incentives to support the new PM system.
Some staff training on the nature of performance measurement systems generally
and the specific PM methods and measures to be used at the Black Swan Hotel
would be beneficial. Involving key staff in workshops designed to formulate
appropriate measures should provide the added benefits of involving staff and
encouraging staff to ‘buy-in’ to the performance measurement methodology.
At present only Manuel is on a bonus scheme, Hazel could provide incentives for
the Chef and Bar Steward as well, but this should be based on quality (and other
driver measures) not only financial performance (results measures). Given the
interrelationships between departments a significant proportion of any manager’s
bonus needs to relate to overall hotel performance (e.g. Room occupancy rates and
level of spend in the Bar and Bistro). This would remove any incentive for
mangers to manipulate departmental figures and would avoid destructive
competition between departments. It may however be beneficial to reward
managers (at least partially) on the basis of some clear, personal measures related
to their own departments, i.e. things that they can control, and these measures
should include determinants (drivers), not just results, in order to reward
appropriate investment in the future, e.g. through improved quality and efficiency.
However, it would be prudent for Hazel to be cautious about attaching rewards to
driver measures until the hypothesised cause and effect linkages with improved
financial performance are tested and proved to be valid. Thus it is safer to set the
bonus system up initially with rewards based on financial results and subsequently
attach some part of the rewards to non-financial, driver measures – once
relationships are clearly established.
Note that some people are less motivated by financial rewards than others and
they may be more willing to accept the challenge if they feel they are being
consulted and working as part of a team, not just blindly following instructions
from their boss. Thus ‘empowering’ them could be important, i.e. delegating
responsibility for managerial decision making to them, thus giving them more
control and job satisfaction. This autonomy, when combined with a quality related
bonus system, will focus managers’ attention on the goals of the Black Swan and
make it clear to managers what needs to be done. You get what you measure and
reward!
References:
Brignall, T. et al. (1991) Product Costing in Service Industries Management accounting research, (2)
pp. 227-248
Brignall, T. et al. (1992) Linking Performance Measures and Competitive Strategies in Service
Businesses: Three Case Studies’. In Drury C. Management Accounting Handbook, pp. 196-216,
Butterworth Heinaman/CIMA.
