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Cruise's Magic Profit Potion

8 September 2010




The elixir of giving passengers more for less and still turning a profit is proving elusive. Selwyn Parker reports.


The imminent launches of two long-awaited ships – Cunard's QE2 and Royal Caribbean's Allure of the Seas – illustrate the challenges posed by ever-mounting competition for the passenger's wallet. First, both ships boast the capital-hungry array of features that guests increasingly come to expect for the price of the fare. Second, they also offer an impressive smorgasbord of attractions designed to trade passengers up and achieve higher onboard margins.

Although industry leaders say the tariff will always form easily the biggest slice of revenue, companies are paying increasingly more attention to building extra onboard income to recoup more rapidly rising capital costs. Generally, onboard and other revenues account for around 28% of total ship income but the lines are looking to raise the bar in coming years. However, as Cunard's president and CEO Peter Shanks explains, this presents a challenge in the post-crisis situation. "People now want more for less," he says.

Similarly, although the luxury sector has held up well, it's not immune from outside forces. As Konstantin Bissias, president of Sea Cloud Cruises, told a conference last year: "We are working twice as hard for our business in the current economic climate."

Financial balancing act

"Onboard revenues account for around 28% of a cruise ship's total income."

That observation applies across the cruising spectrum. For the price of the fare Cunard offers everything from free car parking at the home port of Southampton to croquet and Pimms No. 1 at QE2's English garden bowls venue.

Similarly, the 5,400-berth Allure of the Seas will feature a 'neighbourhood' concept of distinctly different, onboard environments as well as being wired from bow to stern for broadband and telephony.

As industry leaders acknowledge, mounting competition is driving this passenger-pleasing capital expenditure. With 27 new ships totalling 62,000 berths due to be launched between now and 2013 no line can afford to slip behind in the race for the wow factor.

Roughly half of those berths will be deployed on the North American cruise market where average fare levels are in decline. According to the US Department of Maritime Administration they fell nearly 11% across the industry in the second quarter of last year at a time when capacity increases almost by the month.

Echoing the general view, Royal Caribbean notes in its latest annual report that "the projected increase in capacity could produce additional pricing pressures within the industry". Consequently, the big challenge is to raise onboard revenue to compensate for the probable decline in average fares.

As Thomas Mazloum, Crystal Cruise's senior vice-president operations says, it is imperative "to focus on the big two: increasing revenue and decreasing cost". The line's flagships are the 922-guest, 51,044t Crystal Symphony and the 1,070-guest, 68,870t Crystal Serenity.

Act early to please passengers

But how to start on the former? According to Larry Pimentel, president and CEO of Azamara Club Cruises, the essential first step is to impress passengers before they start spending.

"Our onboard revenues are highest when we satisfy guests to begin with," he says. "In other words, authentic quality tours, outstanding destinations, great service and quality cuisine. When guests are pleased they tend to purchase items that are appealing to them. This ranges from shore excursions, boutique wines and champagnes to spa services, and much more."

That's the main reason that Azamara recently spent $40m on its two ships and Crystal $65m on its own two-boat fleet, mainly in ultra-premium features. Although MSC Cruises operates in a different market, onboard revenue manager Guiseppe Montuori broadly agrees: "Every day floating hotels are improving their service. They are now better than shore hotels and at more competitive prices. Obviously, the challenge is to offer the best service at the minimum price."

Pre-cruise spending

Once the passenger-pleasing package is in place, boosting revenue becomes the priority and, increasingly, lines are persuading passengers to spend before they step aboard. For example, Cunard offers a luggage service that relieves passengers of the burden of taking baggage through customs and airports.

"Floating hotels are improving their service. They are now better than onshore hotels and are more competitive."

Prices start at $90 an item for domestic transfers and $250 for international. Similarly, priority embarkation is turning into a revenue-earner. In Cunard's case, it comes with a complementary bottle of wine and bowl of strawberries in the cabin.

More passengers are pre-loading approved levels of credit before embarking. According to the industry, guests typically use up the credit they've signed for and often extend it. Thus it's a way of ensuring a minimum per-passenger revenue that is often spent in the casinos but also in the increasingly common in-room gaming facilities.

Although most of the food will continue to come with the standard fare, the smaller, premium to luxury lines such as Azamara and Seabourn have been offering pre-booked private dinner parties with special wines at negotiated prices. In June, Crystal followed suit with The Vintage Room offering multi-course dining and fine wines.

Bigger ships have caught the trend. Encouraged by the results from its upscale Palo restaurants, the new Disney Dream will feature its first premier restaurant. Called Remy, its development has been put in the hands of Michelin two-star chef Arnaud Lallement and American Scott Hunnel who have devised a nine-course meal. Although prices have not yet been released, a private, 16-seat Chef's Table restaurant will be part of the Remy concept.

There's method in the manner

Things have certainly come a long way since 1990 when the Royal Viking Sun opened the Royal Grill with menus created by Paul Bocuse. At a $45 flat fee, the concept failed. But as Norwegian Cruise Line has found in common with other lines, it seems passengers increasingly seek an upscale alternative to the standard fare. NCL now charges for half of its restaurants either at a flat fee or a la carte.

Typically, premium ships attract higher onboard spending. But there's a right and a wrong way to go about it. Echoing the Azamara philosophy, Crystal's Thomas Mazloum said that aggressive salesmanship will backfire in the luxury market:

"The approach has changed a lot over the last few years," he says. "Don't use the 'used-car salesman' approach because it won't work. Even an aggressive and very good salesperson is not going to succeed in our market segment. The only effective approach is to create an experience that is so fantastic in the mind of the consumer that the guest seeks out that experience instead of having to be pursued."

Today's high net worth customer is a more discerning and independent-minded spender who will not be bulldozed into untying the purse strings, argues Greg Furman, founder of America's Luxury Marketing Council. Pointing out that most wealthy people are self-made with strong middle-class values, he explains: "They'll spend, and spend heavily, but they want to do it intelligently."

"A $1.10 nightly increase in each passenger's bar spend adds up to $250,000 a year on a 2,000-passenger ship."

And, as Azamara's Pimentel adds, the revenue-boosting experience must dovetail with the preferences and expectations of the guest.

"Does a vessel offer what guests are looking for?" he asks. "There are many items to consider especially the nationality and interest of the guests. Often the average per diem paid by the guests suggest a direction the line should take. Historically, there has been a correlation between tariff and onboard spend. The higher the tariff the more that is likely to be spent on a per day basis.

"This is similar to what might occur in the amounts spent at an upmarket hotel compared with a budget hotel or a luxury store and one that specialises in low-cost items."

Bar focus

Although most of the onboard experience comes with the fare, even luxury lines such as Seabourn charge for sundry services such as dry-cleaning, laundry and valet, beauty and spa treatments, medical, photographs and gift shop purchases.

Larger ships typically focus their attention on beverage income. Here, revenue managers say it's important to get the entertainment right in a bar and encourage passengers to spend more time there. As cruise ship pundit Ross Klein has pointed out, a $1.10 nightly increase in each passenger's bar spend adds up to $250,000 a year on a 2,000-passenger ship.

Pareto Law

Yet there may be something even more important than boosting revenue - and that's managing it. As Mazloum explains, Crystal builds revenue management around a principle of "total fiscal discipline regardless of the business environment".

In practical terms that means the company-wide implementation of the 80 / 20 rule. A management philosophy based on the Pareto Law that is designed to harness resources most efficiently, it requires a focus on the issues that will deliver the best possible results for the least effort. Those disciplines developed in highly profitable years of 2007-08 are now paying off now.

"Everyone was expected to decrease cost, increase revenue and show specific examples of how individual productivity has increased," says Mazloum. "This became a way of life around here long before the financial crisis hit and I must admit that I never appreciated this kind of culture more than after the business environment changed last September."

Nobody expects dramatic increases in onboard revenue in the short term. Fares are expected to continue to account for a little over 70% of total revenue for a while yet. However, the signs are that, as the crisis lifts, that ratio will gradually reduce as ships learn more about the art of achieving higher onboard margins.

On a cruise ship fares account for about 70% of its total income while onboard revenues contribute about 28%. This is expected to continue, however, the signs are that as the financial crisis lifts this ratio will gradually reduce as ships learn more about the art of achieving higher onboard margins.