Revenue management

Revenue management is the application of disciplined analytics that predict consumer behaviour at the micro-market levels and optimize product availability and price to maximize revenue growth. The primary aim of revenue management is selling the right product to the right customer at the right time for the right price and with the right pack. The essence of this discipline is in understanding customers' perception of product value and accurately aligning product prices, placement and availability with each customer segment. Revenue management is the application of disciplined analytics that predict consumer behaviour at the micro-market levels and optimize product availability and price to maximize revenue growth. The primary aim of revenue management is selling the right product to the right customer at the right time for the right price and with the right pack. The essence of this discipline is in understanding customers' perception of product value and accurately aligning product prices, placement and availability with each customer segment. Businesses face important decisions regarding what to sell, when to sell, to whom to sell, and for how much. Revenue management uses data-driven tactics and strategy to answer these questions in order to increase revenue. The discipline of revenue management combines data mining and operations research with strategy, understanding of customer behavior, and partnering with the sales force. Today, the revenue management practitioner must be analytical and detail oriented, yet capable of thinking strategically and managing the relationship with sales. Before the emergence of revenue management, BOAC (now British Airways) experimented with differentiated fare products by offering capacity controlled 'Earlybird' discounts to stimulate demand for seats that would otherwise fly empty. Taking it a step further, Robert Crandall, former Chairman and CEO of American Airlines, pioneered a practice he called yield management, which focused primarily on maximizing revenue through analytics-based inventory control. Under Crandall's leadership, American continued to invest in yield management's forecasting, inventory control and overbooking capabilities. By the early 1980s, the combination of a mild recession and new competition spawned by airline deregulation act (1978) posed an additional threat. Low-cost, low-fare airlines like People Express were growing rapidly because of their ability to charge even less than American's Super Saver fares. After investing millions in the next generation capability which they would call DINAMO (Dynamic Inventory Optimization and Maintenance Optimizer), American announced Ultimate Super Saver Fares in 1985 that were priced lower than the PeoplExpress. These fares were non-refundable in addition to being advance-purchase restricted and capacity controlled. This yield management system targeted those discounts to only those situations where they had a surplus of empty seats. The system and analysts engaged in continual re-evaluation of the placement of the discounts to maximize their use. Over the next year, American's revenue increased 14.5% and its profits were up 47.8%. Other industries took note of American's success and implemented similar systems. Robert Crandall discussed his success with yield management with J. W. 'Bill' Marriott, Jr., CEO of Marriott International. Marriott International had many of the same issues that airlines did: perishable inventory, customers booking in advance, lower cost competition and wide swings with regard to balancing supply and demand. Since 'yield' was an airline term and did not necessarily pertain to hotels, Marriott International and others began calling the practice Revenue Management. The company created a Revenue Management organization and invested in automated Revenue Management systems that would provide daily forecasts of demand and make inventory recommendations for each of its 160,000 rooms at its Marriott, Courtyard Marriott and Residence Inn brands. They also created 'fenced rate' logic similar to airlines, which would allow them to offer targeted discounts to price sensitive market segments based on demand. To address the additional complexity created by variable lengths-of-stay, Marriott's Demand Forecast System (DFS) was built to forecast guest booking patterns and optimize room availability by price and length of stay. By the mid-1990s, Marriott's successful execution of revenue management was adding between $150 million and $200 million in annual revenue. A natural extension of hotel revenue management was to rental car firms, which experienced similar issues of discount availability and duration control. In 1994, revenue management saved National Car Rental from bankruptcy. Their revival from near collapse to making profits served as an indicator of revenue management's potential. Up to this point, revenue management had focused on driving revenue from Business to Consumer (B2C) relationships. In the early 1990s UPS developed revenue management further by revitalizing their Business to Business (B2B) pricing strategy. Faced with the need for volume growth in a competitive market, UPS began building a pricing organization that focused on discounting. Prices began to erode rapidly, however, as they began offering greater discounts to win business. The executive team at UPS prioritized specific targeting of their discounts but could not strictly follow the example set by airlines and hotels. Rather than optimizing the revenue for a discrete event such as the purchase of an airline seat or a hotel room, UPS was negotiating annual rates for large-volume customers using a multitude of services over the course of a year. To alleviate the discounting issue, they formulated the problem as a customized bid-response model, which used historical data to predict the probability of winning at different price points. They called the system Target Pricing. With this system, they were able to forecast the outcomes of any contractual bid at various net prices and identify where they could command a price premium over competitors and where deeper discounts were required to land deals. In the first year of this revenue management system, UPS reported increased profits of over $100 million. The concept of maximizing revenue on negotiated deals found its way back to the hospitality industry. Marriott's original application of revenue management was limited to individual bookings, not groups or other negotiated deals. In 2007, Marriott introduced a 'Group Price Optimizer' that used a competitive bid-response model to predict the probability of winning at any price point, thus providing accurate price guidance to the sales force. The initial system generated an incremental $46 million in profit. This led to an Honorable Mention for the Franz Edelman Award for Achievement in Operations Research and the Management Sciences in 2009. By the early 1990s revenue management also began to influence television ad sales. Companies like Canadian Broadcast Corporation, ABC, and NBC developed systems that automated the placement of ads in proposals based on total forecasted demand and forecasted ratings by program. Today, many television networks around the globe have revenue management systems. Revenue management to this point had been utilized in the pricing of perishable products. In the 1990s, however, the Ford Motor Company began adopting revenue management to maximize profitability of its vehicles by segmenting customers into micro-markets and creating a differentiated and targeted price structure. Pricing for vehicles and options packages had been set based upon annual volume estimates and profitability projections. The company found that certain products were overpriced and some were underpriced. Understanding the range of customer preferences across a product line and geographical market, Ford leadership created a Revenue management organization to measure the price-responsiveness of different customer segments for each incentive type and to develop an approach that would target the optimal incentive by product and region. By the end of the decade, Ford estimated that roughly $3 billion in additional profits came from revenue management initiatives.