REVENUE MANAGEMENT IN

AIRLINES
UNIT 2
 Revenue Management
• Selling the right inventory unit to the right type of customer,
at the right time, and for the right price
– Integrates pricing and inventory strategies to influence market
demand.( Price and Product)
– Provides controls for companies to improve the bottom line ( Profit)
• Revenue management techniques have been traditionally
applied in the airline, hotel, and rental car industries
• Common characteristics of such industries:
– existence of perishable products
– fluctuating demand
– fixed capacity of the system
– segmentation of the market based on sensitivity to price or service
time
– products sold in advance
 History of Revenue Management
• Pioneered by American Airlines in the 1980s
• As a counter to new airlines during Airline
deregulation
• Techniques employed differentiated pricing
• Widely successful
– Most of the airlines went out of business
– Other airlines started adopting
– Hotels and rental companies adopted later
 Airline RevenueManagement
• Two components of airline revenuemaximization:
Differential Pricing:
–Various “fare products” offered at different
pricesfor travel in the same O‐Dmarket
Yield Management (YM):
–Determines the number of seats to be made
available to each “fare class” on a flight, by
setting booking limits on low fareseats
fare products
 Yield management
• Yield management is a variable pricing strategy,
based on understanding, anticipating and
influencing consumer behavior in order to
maximize revenue or profits from a fixed, time-
limited resource.
Eg: airline seats or hotel room reservations or
advertising inventory
 Yield Management
• As a specific, inventory-focused branch
of revenue management, yield management
involves strategic control of inventory to sell
the right product to the right customer at the
right time for the right price.
• This process can result in price discrimination,
in which customers consuming identical goods
or services are charged different prices.
 Yield Management
• It is complex because it involves several
aspects of management control, including rate
management, revenue streams management,
and distribution channel management.
• Yield management is multidisciplinary because
it blends elements of marketing, operations,
and financial management into a highly
successful new approach.
 Why Call it “YieldManagement”?
• Main objective of YM is to protect seats for
later‐booking, high‐fare business passengers.
• YM involves tactical control of airline’s seat
inventory:
– But too much emphasis on yield can lead
to overly severe limits on low fares, and
lower overall load factors
– Too many seats sold at lower fares will
increase load factors but reduce yield,
adversely affective total revenues ( jet
airways)
 Seat inventory approach
• Inventory Control by yield management: Looking
at Factors such as
1. Willingness to Pay
2. Price Discrimination, Product discrimination
3. Dynamic Pricing
• Inventory Control by Load Factor: Fixed load on
each class
• Inventory Control by RM: Mix of both Yield and
Load
 Revenue maximization

• Requires proper balance of load factor and

yield
• Many airlines now refer to “Revenue
Management”(RM) instead of “Yield
Management”.
Seat Inventory ControlApproaches
 Computerized RM Systems
• Size and complexity of a typical airline’s seatinventory
control problem requires a computerized RM system
• Consider a US Majorairline with:
500 flight legs perday
15 booking classes
330 days of bookings beforedeparture
• At any point in time, this airline’s seat inventory consists of
almost 2.5 million bookinglimits:
– This inventory represents the airline’s potential forprofitable
operation, depending on the revenuesobtained
– Far too large a problem for human analysts to monitor alone
 Typical 3rd Generation RM System
• Collects and maintains historical booking data by
flight and fare class, for each past departuredate.
• Forecasts future booking demand and no‐showrates
by flight departure date and fareclass.
• Calculates limits to maximize total flightrevenues:
– Overbooking levels to minimize costs ofspoilage/denied
boardings
– Booking class limits on low‐value classes to protect high‐
fare seats
• Interactive decision support for RM analysts:
– Can review, accept or rejectrecommendations
Example of Third Generation RM
System

Figure 4.12
 Revenue ManagementTechniques
• Overbooking
– Accept reservations in excess of aircraft capacity to
overcome loss of revenues due to passenger “no‐show”
effects
• Fare Class Mix (Flight LegOptimization)
– Determine revenue‐maximizing mix of seats availableto
each booking (fare) class on each flightdeparture
• Traffic Flow (O‐D) Control (NetworkOptimization)
– Further distinguish between seats available toshort‐haul
(one‐leg) vs. long‐haul (connecting) passengers, to
maximize total network revenues
 Flight Overbooking
• Determine maximum number of bookings to
accept for a given physical capacity.
• Minimize total costs of denied
boardings and spoilage(lost revenue).
• U.S. domestic no‐show rates can reach 15‐20
percent of final pre‐departure bookings:
– On peak holiday days, when high
no‐shows.
• Effective overbooking can generate as much
revenue gain as fare class seat allocation.
 Unit 4:

Airline Pricing strategies

 Theoretical PricingStrategies
• For determining prices to charge in an O‐D market,
airlines can utilize one of following economicprinciples:
– Cost‐based pricing ( Cp)
– Demand‐based pricing
– Service‐based pricing
• In practice, most airline pricing strategies reflect amix of
these theoretical principles:
– Prices are also highly affected by competition in eachO‐D
Market
– In the US, severe competition in some markets has led to
“price‐based costing”, meaning airlines must reduce costs to
be able to match low‐fare competitors and passengers’price
expectations
– The flowing can be achieved by differencing the class of
travellers
 Market Segmentation
• Business and Leisure travelers are the two
traditional segments targeted by the airlines in
their different pricing efforts
– First Class, Business Class, andEconomy
– Restrictions on advancepurchase, use, and
refundability
• A wide enough range of fare product options at
different price levels should be offered to capture
as much revenue potential from the market
price‐demand curve as possible
Customer Segments in Airline Industry
• Leisure travelers
– Highly sensitive to price
– Not generally sensitive to the duration of the trip
– Willing to book non-refundable tickets far ahead
of time
• Business travelers
– Not particularly price-sensitive
– Highly sensitive to trip duration
– Need high flexibility to adjust their travel plans as
needed
 Customer Differentiation in the Airline
Industry

FIGURE 13-4: Customer differentiation in the airline industry

 Differential Pricing
• “Build fences” to prevent leisure Travelers from
moving from the top-left box to the bottom-right box
– Require weekend stays and early booking
• The more fare classes, the more fences required
• Other factors:
– How many of each type of ticket to offer?
– How much to price for each ticket
Fundamental Approaches to Smart Pricing

• Differential Pricing
– Charging different prices to different customers
• Dynamic pricing
– Charging different prices over time
 Differential Pricing
• Charge different customers different prices
according to their price sensitivity
• Dell does this by distinguishing between
private consumers, small or large businesses,
government agencies, and health care
providers
• Difficult to do in many cases
 Differential Pricing Strategies
• Group Pricing
– Discounts to specific groups of customers very common in many industries
– Senior citizen discounts at diners, software discounts to universities,
student discounts at movie theaters,
– Works only when there is a correlation between group members and price
sensitivity
• Channel Pricing
– Charging different prices for the same product sold through different
channels
– Different prices on web sites vs. retail stores
– Works only if customers who use different channels have different price
sensitivities
• Regional Pricing
– Exploiting different price sensitivities at different locations
– Beer is much more expensive in a typical stadium than in a bar
 Differential Pricing Strategies
• Time-based Differentiation
– Similar products differentiated based on time
– Amazon.com charges different rates for different delivery
times
• A technique for segmenting price sensitive customers and
customers who are more delivery time sensitive.
• Dell charges different prices for repair contracts that complete
repairs in different amounts of time (overnight vs. within a week)
• Product Versioning
– Offer slightly different products in order to differentiate
price sensitivities ( same airline with different travel
brands)
– May take the form of branding.
• Store brand vs Generic brand
• Additional features added to products at the higher end of the line
» High end buyers are inclined to buy the higher end products in
the line
» Pay significantly more than the lower end products
» Cost very little more to manufacture.
 Dynamic Pricing Better than Fixed-Price
Strategy
• Dynamic Pricing may increase profit by 2-6%
– Significant in industries with low margins
• Retail industry
• Airline industry
 Conditions under which Dynamic Pricing
Is Superior
• Available capacity
– Smaller the production capacity relative to average
demand, the larger the benefit from dynamic pricing
• Demand variability
– Benefit of dynamic pricing increases as the degree of
demand uncertainty increases
• Seasonality in demand pattern
– Benefit of dynamic pricing increases as the level of
demand seasonality increases
 Nested Inventory
• There are various inventory controls such as a
nested inventory system.
• Parallel nesting
• Serial Nesting
 Parallel nesting
• EXAMPLE(assuming uncertain demand): – Given
the following allocations for each of 3 classes‐‐Y =
30, B = 40, M = 70 for an aircraft coach cabin with
booking capacity = 140. –
• If 31 Y customers request a seat, the airline would
reject the 31strequest because it exceeds the
allocation for the Y class – It is possible that
airline would reject the 31st Y class customer,
even though it might not have sold all of the
(lower‐ valued) B or M seats yet!
 Serial nesting
• Under serial nesting of booking classes, the
airline would never turn down a Y fare
request, as long as there are any seats (Y, B or
M) left for sale.
 Advance Purchase
• The airline needs to keep a specific number of
seats in reserve to cater to the probable demand
for high-fare seats. This process can be managed
by inventory controls or by managing the fare
rules such as the AP (Advanced
Purchase) restrictions.
• Eg: 30 day advance purchase, 21 day advance
purchase, 14 day advance purchase, 7 day
advance purchase, day of departure/walk up
fares
 Bucket Pricing technique.
• The price of each seat varies directly with the
number of seats reserved, that is, the fewer
seats that are reserved for a particular
category, the lower the price of each seat. This
will continue until the price of seat in the
premium class equals that of those in the
concession class. Depending on this, a floor
price (lower price) for the next seat to be sold
is set.
 Impact of the Internet
• Many approaches of smart pricing made more practical
by internet and e-commerce
• Menu cost
– cost that web aggregator incur when changing the posted price
– Much lower on the Internet than in the off-line world
– Updating of prices possible on a daily basis.
• Customer segmentation
– using buyers’ historical data is possible on the Internet
– very difficult in conventional stores
• Testing capability
– Internet can be used to test pricing strategies in real time
– On-line seller may test a higher price on a small group of the site
visitors
– Use those data to determine a pricing strategy
• THANK YOU!!!!!