Who’s afraid of the big bad merchant model?

Since the beginning of online distribution, hoteliers have only begrudgingly accepted the role that OTAs play in delivering business to their properties.  Most of their complaints focus on the use of the so called ‘merchant model’, and typically highlight how its high transaction cost coupled with the hotel’s  loss of control over both rate and availability make it one sided and unfair.

While undoubtedly this was true post 9/11, when certain companies used the merchant model to exploit hotels hurting deeply from the recession.  But, in the rapidly developing online world, things have now changed. Despite this, many hotels remain fundamentally opposed to the merchant model, perhaps without really understanding why, and perhaps without truly understanding what alternatives are out there.

What exactly is the problem with the merchant model?  An adaptation of how hotels worked with tour operators for generations, the merchant model was widely adopted by OTAs in the early part of the 21^st century.  Instead of collecting a ten per cent agent commission whenever they sold a room, OTAs began pressuring hotels to assign them fixed daily allocations of inventory at highly discounted net rates, typically 20 to 30% below their lowest published public rate.  OTAs could then mark these rates up by whatever percentage they wished, and frequently undersold the property’s direct channels, or scalped the customer when the property’s direct channels had already sold out.

Forced to participate due to a lack of alternatives, hotels lost control over their own pricing (as the OTAs could sell for whatever price they wished); over their own room inventory (due to the fixed allocations); and even to an extent over their customer relationships (as OTAs became the go-to place for the best deal.  And since the OTA collected the client’s money at the time of booking, but did not pay the hotel until thirty days or more after check-out, the merchant model also had significant cash flow implications for hotel properties.

Thus the merchant model was costly, complicated, and unpopular, but at the same time very effective.  Motivated by a higher margin, OTAs promoted merchant model properties more prominently, featuring them on top of result listings and using a wide variety of sales techniques to encourage clients to book merchant, rather than commission, based rooms.  Hotels that worked with OTAs on merchant deals were rewarded with higher booking volumes, abet at relatively unfavorable terms.

Industry pushback, coupled with a more favorable economy, ultimately lead to the growth of alternatives to the merchant model.  Booking.com in particular became the hoteliers’ favorite by offering a 15% commission based model.  This allowed hotels to maintain control over price and inventory; was less costly; and allowed them to collect cash directly from the consumer rather than having to subsequently bill the OTA.  Companies that adopted this approach soon attracted more rooms from more properties, allowing them to grow faster than the ‘evil’ merchants.

In the meantime things have once again changed.   As technology developed merchants moved away from fixed allocations towards direct-connections with supplier reservation systems, giving the latter back control over price and inventory.  Discount levels have also been renegotiated downwards (hidden behind confidentiality agreements that everyone pretends to respect), and are frequently linked to volume, with the result that most of the major hotel chains now pay well below twenty per cent on each reservation.

Simultaneously commissions at agent based OTAs have steadily increased, either abruptly as with HRS’s decision to charge 15% rather than 13% after their effective takeover of competitor hotel.de, or by stealth as has been the case with the afore-mentioned Booking.com whose introduction of a facility that allows individual properties to override their commission to gain placement in result listings has resulting in the average commission being paid on each reservation growing significantly, to the point where often (frequently?) the actual cost is higher than if the room had been sold through a merchant deal.

Alternative business models have also gained acceptance, the most prominent of which is probably group buying / private sale concept popularized by GroupOn and its like.  But the costs here (often up to 75% of the purchase price when both the discount and the seller’s commission are taken into account) make the merchant model, now or old, look positively attractive.    Similarly several of the traditional tour operators are trying to make the jump to the online world, usually without adjusting how they work with hotels, with the result that selling through such channels is similarly unattractive from both a cost and logistical perspective.

Thus, although much unloved, perhaps the merchant model is not so bad after all, particularly in its reformed format.     It delivers heads-in-beds, at a somewhat acceptable but at least known in advance cost, and results in a win-win situation for both hotel and OTA.  We say that the grass is always greener on the other side, but maybe in this case its better the devil you know!