Sri Lanka’s proposed minimum room rates will, in effect, act as a price control and, given the turbulence faced by tourism in recent years, the policy is the worst course of action that can be taken by the government, free market think tank Advocata said.
“It places the industry at a considerable disadvantage against regional and global competitors, at a time when a global slowdown looms large on the horizon, and positioning itself as a cost-effective alternative to other destinations is crucial to redeem the tourist industry. Rather than pursuing this policy, the government should focus their attention on increasing inbound tourism through public relations campaigns, promoting tourism, and investing in developing existing bottlenecked infrastructure, such as airports,” Advocata said in a policy brief released on Tuesday November 21.
The proposed rates will ensure that hotels in Colombo city classified from one star to five cannot price their rooms at rates lower than those prescribed by the government, the organisation said.
The proposal seeks to place a rate of 100 US dollars on five-star hotels, 75 dollars for four-star hotels, 50 dollars for three-star hotels, 35 dollars for two-star hotels, and 20 dollars for one-star hotels within the city of Colombo, effective from October 1, 2023.
“Government intervention can only be justified in the presence of abject market failure. Market failure is categorised as when the market does not reflect the economic realities of a market, broadly categorised under three areas; existence of a monopoly, information asymmetry, and externalities. It is clear that the hotel industry does not exist as a monopoly owing to the plethora of players in the market. Therefore it is prudent to explore the other two possibilities of market failure that would warrant government intervention,” the organisaton said.
In addition to fundamental problems associated with price controls, the think tank said, the proposals presents a host of issues.
“The implementation of this policy is restricted to Colombo city limits. This implies that hotels located outside this region will have a competitive edge at the expense of Colombo hotels. In short, while trying to fix a problem that didn’t exist in the first place, it creates another, discriminating against hotels within Colombo city limits for no reason other than arbitrary delineation,” said Advocata.
Hotels situated outside the jurisdiction of this proposed policy are in a position to offer accommodation at cheaper rates than their Colombo rivals, then resulting in a substantial loss of revenue for hotels in Colombo. Another consideration that needs to be taken into account, said Advocata, is that this policy is applicable exclusively to hotels and not to alternative forms of accommodation like Airbnbs, HomeExchange, holiday homes, and bungalows.
According to the policy brief, this policy is also likely to disproportionately hinder certain sectors of tourism such as the MICE (Meetings, Incentives, Conventions, and Exhibitions) industry.
“This industry, one of the tourism industry’s fastest growing sectors, refers to a specialised niche group of tourism dedicated to planning, booking, and facilitating conferences, seminars, and other events. In October 2023, MICE tourism accounted for 5 percent of inbound tourism. MICE tourism is concentrated in cities owing to the larger prevalence of infrastructure supporting this sector, with Singapore, Bangkok, Kulala Lampur, and Mumbai being the leading destinations for Asia. Further, a key factor influencing a destination’s appeal in this industry is the cost of accommodation, given that bookings are made in bulk. The letter by the SLTDA imposes a maximum complimentary room allocation as well. Therefore, the implementation of minimum room rates will not only impact hotels in Colombo but will also make Sri Lanka, as a destination, more expensive for this category of tourism. The impact of this is amplified by Sri Lanka’s geographic access to key MICE markets in Asia. Hotel rooms, especially in this category of tourism, are tradeable goods, as a hotel room in Colombo can be readily substituted with one in other parts of the country or even regionally.”
Given that demand patterns for hotels exhibit seasonality traits, said Advocata, permitting hotels to determine their pricing strategies in accordance with these seasonal demand patterns enables them to optimise their revenue. Infringing on the autonomy of hoteliers to determine room rates undermines their ability to devise their own marketing strategy as well as interfering with the day-to day operations of the hotel, the organisation said.
On hotel occupancy rates which constitute a vital Key Performance Indicator (KPI) employed by hoteliers in order to determine the success rate of their hotels, Advocata said an ideal hotel occupancy rate falls within the range of approximately 70-95%.
“This KPI is calculated by dividing the number of rooms sold by the total number of rooms in the hotel. Sri Lanka’s hotel occupancy rates exhibited an average of 70% from 2010 to 2018, thereby falling into the acceptable range as given in Figure 3. However, following the 2019 Easter bombings, this value plunged to 57% and this downward spiral continued with the Covid-19 pandemic, and the economic and political crisis Sri Lanka experienced in 2022. Since 2020, this KPI has not surpassed the 30% mark.”
Another critical KPI adopted by hoteliers is the Average Length of Stay (ALOS), calculated by dividing the number of occupied room nights by the total number of bookings. The ideal value for this particular indicator differs significantly from country to country.
“Several factors contribute to the determination of ALOS, including the socio-economic traits of the target demographic and destination attributes. Although hoteliers wield limited control over the first two factors, they can exert some influence on expenditure. Since expenditure and ALOS have an inverse relationship,maintaining low room rates will increase this indicator. Improving hotel occupancy rates as well as average length of stay (ALOS) is dependent on the employment of a sound marketing strategy.”
According to Advocata, hotel star ratings within Sri Lanka predominantly rely on tangible features such as furnishings instead of service quality. These requirements are all quantitative in nature and centred around the availability of certain equipment and facilities, rather than the quality of service. This framework places hotels that prioritise qualitative measures such as superior service, excellent cuisine, or ambience to distinguish itself from competitors at a marked disadvantage. This predicament applies specifically to smaller hotels that may be financially constrained and therefore unable to acquire all the fixtures and fittings of a larger hotel. If these requirements were amended to reflect quality of service, these smaller hotels which typically focus more on customer service, could attain a higher ranking.
Accordingly, the think tank said, the hotels must also pay a licensing and a registration fee stipulated by this new policy.
“The absence of a universally accepted international hotel accreditation standard results in countries having full discretion when it comes to determining their classification systems. Consequently, these star ratings may not align with international standards, thereby presenting serious challenges when it comes to making cross-country comparisons in this regard.
“These regulations only exist for SLTDA approved hotels, allowing for other hotels within Colombo city limits to provide rooms for below price controlled amounts.”
The policy carries the assumption that all hotels within a classification are equal in their services offered and fails to account for differences that hotels utilise to distinguish themselves from competitors, said Advocata.
“Even within a specific category, such as the 5-star classification, there exist significant differences in the quality of service offered owing to differences in amenities and overall service. These distinctions are often reflected in the wide range of prices charged by hotels, even within a specific star category. The imposition of a standardised price, without allowing hotels to set prices reflective of their unique quality of service will pose a challenge, as hotels within the same star category may face a disadvantage as they are constrained to a mandated rate, potentially losing to competitors who can deliver better value for the rate set by the government.”
There are enforcement issues as well, Advocata said in its policy brief.
“Notably, this is not Sri Lanka’s first attempt to implement minimum room rates. A previous attempt at introducing such rates took place from 2009 to 2019, to very limited success, driven by lobbying efforts from 4-star hotels. These establishments alleged that 5-star hotels engaged in price undercutting, prompting the policy’s implementation. The limited success was driven by hotels that found ways to circumvent the minimum rate. What assurance can or will be made to prove that this time will be different? The effective enforcement of this policy necessitates the establishment of a mechanism that will ensure that the policy isn’t violated, which requires a large investment of resources.
“Perusal of the letter guiding Colombo City hotels by the Sri Lanka Tourism Development Authority indicates the purported solution to a lack of resources that may arise in enforcement is putting the onus of proving adherence to the policy on the hotels themselves.
The sections concerning adherences reads as follows, the brief noted: “Three Internationally reputed audit companies will be appointed to audit adherence/compliance to the above-mentioned Gazette notification. The auditors will be given the names and contact numbers of each hotel General Manager. Prior notice will be given for the general audits.
“Three main meals and soft beverages are to be provided by the respective hotel for the auditors. (Maximum 4 persons). The payment for the audits will have to be borne by the respective hotel.”
According to these guidelines, said Advocata, not only do the hotels have to be subject to general audits by “three internationally reputed audit companies” but have to bear all costs involved. This adds further cost to city hotels whose bottom line will be impacted heavily by price controls.
In addition to the primary concerns associated with government intervention through price controls on the hotel industry, namely price distortions and allocative inefficiency, the think tank said significant issues arise with regards to the effective implementation of this policy.
“In light of the recent turbulent years endured by the Sri Lankan tourism industry, this policy is the worst course of action that can be taken by the government. It places the industry at a considerable disadvantage against regional and global competitors, at a time when a global slowdown looms large on the horizon, and positioning itself as a cost-effective alternative to other destinations is crucial to redeem the tourist industry. Rather than pursuing this policy, the government should focus their attention on increasing inbound tourism through public relations campaigns, promoting tourism, and investing in developing existing bottlenecked infrastructure, such as airports.”
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