Definition of Yield Management
Yield management is a part of revenue management that focuses on controlling inventory and understanding consumer behavior for the purpose of increasing profits from a fixed resource, such as hotel business, or airline services. Treszl (2012) characterizes yield management as “a strategy used by many different types of companies (mainly airlines) in order to maximize the profit” (p. 3). Yield management also monitors the recruitment, salary payment, and investment processes because they also influence the amount of revenues a company receives. The strategy focuses on selling products and services at the right time for the right place and, therefore, it aims to allocate the responsibilities to different fare classes. In contrast to other types of profit management strategies, yield management does not update prices. Rather, it is more focused on improving fare classes availability.
Ingold et al. (2000) identify yield management to “a method for managing capacity profitably [that] gained widespread acceptance in the airline and hotel industries” (p. 3). Judging from above-presented definitions, yield management covers a wide range of tools and concepts that are used in service industries to gain the maximum revenues from the limited resources. In this respect, yield management is often applied as a pricing model that increases revenue by providing buyers with different prices in accordance with the value they set on purchase (Netessine & Shumsky, 1999). Moreover, yield management is also regarded as a technologically innovated solution to the old problems of setting prices and accepting offers. The practical sphere of yield management employs technology in order to sell the right good to the right buyers. The main object of yield management is to analyze consumer behavior to define what changes should be introduced.
Sometimes yield management is identified with such notions as revenue management, revenue process optimization, pricing and revenue optimization, etc. These definitions, however, slightly differ in terms of their application to business. The term yield management is applied mostly in airline industries and it has later been adopted by other business industries, such as hotel management, restaurant business and other fare classes (Netessine & Shumsky, 1999). The implementation of yield management is the most effective practice in case it is applied to the processes endowed with such characteristics as predictable demand, relatively fixed capacity, appropriate pricing structure, perishable inventory, and variable demand.
The major components of yield management differ with regard to the applied concepts and purposes in various industries. The primary application of yield management presupposes the presence of such components as overbooking, discount allocation, and traffic management (Talluri & Ryzin, 2004). Thus, overbooking involves acceptance of more reservations than the industry can actually accommodate. This practice aimed to balance the profits from booking against the expenditures for losing excess reservations (Talluri & Ryzin, 2004; Li, 2011). Discount allocation includes the practice of establishing a certain number of reservations to be allocated at a decreased rate with an opportunity to sell either at a full price or at a smaller discount. The relation between full price and discount ranges because it depends on departure time, past experience, forecasting, and special events (Cross, 1997). Finally, traffic management is an important component that is responsible for fitting discount allocation and emerging complications with setting multiple routs and flights. All these components are indispensible to carrying successful control of revenues and promote the business practices based on restricted resources.
History of Yield Management
Yield management takes its roots from airline industry in the United States in the 70s of the past century (Smith et al., 1992). The period of developing yield management practice can be split into three periods. The first period refers to pre-1972, the time of forecasting and overbooking (Humair, 2001). These elements of yield management were the first on to appear in this sphere. Hence, forecasting was connected with predicting and evaluating probability distributions of potential customers from the accepted reservations for boarding. The second component – overbooking – aimed to decide how many bookings should be accepted for a specific flight with regard to the predictions made. For a long time, overbooking was considered a secret and the airline industries withdrawn the existence of such practices (Humair, 2001). The main objective of overbooking was to admit the appropriate number of reservations so that to ensure full flights given the possibility of no-shows and cancellations (Ross, 1995). The main problem of overbooking and trade-offs was admittance of many requests leading to excessive boarding and flying empty seats.
At the beginning of 1970s, the airline industry started offering various fares for similar flights leading to mixing passengers with different incomes in the same cabin. BOAC’s early-bird bookings (known as British Airways) were among the first offering of the kind. They were selling seats with discounts to the customers making reservations 21 before the flight. In such a way, passengers received an opportunity to get a seat that could remain empty and, as result, it was hard to decide how many seats should be left for customers who booked seats in later periods (Humair, 2001). In case the number of seats was insufficient, the airline would lose full fare passengers. However, in case an excessive number of seats were booked, there would be a possibility of flight departing with empty seats (McGill & Van Ryzin, 1999). The situation resulted in analyzing the control rules of seat inventory, giving the rise of yield management, also known as revenue management. Apart from problems with overbooking polices, forecasting problems also emerged because of inaccurate prediction of arrivals of different customer classes for flight requests.
The last stage of yield management formations refers to 1977, when “the American Airlines’ super-saver fares” were launched, right before the de-regulation of the American airline industry (Humair, 2001, p. 16). The final phase last about a decade and ended with a remarkable rise in 1987, when American Airlines announced an annual increase of $ 500 in revenue by introducing yield management strategies alone (Humair, 2001). Since 1977, the implemented systems have transformed from “single-led flight control, to segment control, where multi-hop flights are considered to consist of separate segments wit seat-level control applied to each segment, to finally origin destination control” (Humair, 2001, p. 16). The introductions required significant investment to implement innovated and sophisticated information systems, as well as to carry out quantitative research. It should be stressed that before 1978, the U.S. airlines were limited in introducing fares and schedules because they were under the control of the Civil Aeronautics Board (Smith et al., 1992). At this time, the fares were incredibly high and the flights reservations were a luxury. However, the period after 1978 was marked by significant changes because of the Congress issuing the Airline Deregulation Act (Treszl, 2012). As a result, the deregulation process has become the major force of introducing yield management. At this point, the companies were able to decide which fares should be introduced, as well as identify the flight routs. The event triggered as huge shift from a completely restricted industry to the entire freedom (Treszl, 2012). The main purpose of this act was to provide the beginners in the business with new strategies and regulations. One of such new entrants was PeopleExpress, a small company having very low prices, 70 % lower than those offered by larger airlines (Treszl, 2012). As a result, the company managed to gain a significant competitive advantage over respectable airline companies.
At the current moment, airline business, along with other small businesses, involves the control of revenues, which had incredibly high rates (McGill & Van Ryzin, 1999). In 1999, small airline industries initiated the development process based on the new branch of revenue management. In addition, yield management is considered a powerful tool in pricing competition. The success of airline yield management, therefore, has been widely acknowledged and this has encouraged the development of new yield management systems for a wide range of transportation sectors, including cruise lines, lodging and hospitality, internet service provision, passenger railways, and internet service provisions (McGill & Van Ryzin, 1999). Telecommunications industry has become the second largest sector taking advantage of yield management strategies. In 1993, the revenues in the sphere amount to $ 200 billion, 80 % of which were received from the fares. Many orders made in the sector received much greater revenues than airlines (Humair, 2001, p. 16). Hence, the American Airlines received $ 17 billion in revenues whereas AT&T received $ 75 billion in 1997 (Humair, 2001, p. 16).
The development of yield management in the sphere of airline business has given rise to the advancement of hotel business because they have similar operational characteristics. Specifically, both sectors cover a fixed number of goods and fares (airline seats and hotel rooms). It means that the room or seat cannot be resold if not sold in a certain flight or day (Bardi, 2010). Both hotel and airline industries have variable demands with regard to different periods, including weekdays and weekends, holidays, seasons of the year, etc, which place the industries either in favorable or critical situation. Hotels and airlines can offer a variety of services and products for customers to choose. Bookings allow managers to apply to yield management by using software to trace a list of products and services and process bookings. By means of computer technologies, managers have the possibility to take control of the selling process and plan it up to 90 days by setting pricing and accepting reservations (Bardi, 2010). Despite the multiple similarities, there are certain differences between hotel business and airline industry that should be highlighted. Specifically, unlike hotel businesses, airline industries do not have a possibility to sell products outside the flight. In contrast, the hotel clients can use other services outside the hotel.
A brief overview of the history of yield management provides a better picture of reasons and underpinnings of its emergence. The historical analysis has also revealed the origins and benefits of revenue strategies over the previously identified management process.
Purpose of Yield Management
The main purpose of yield management is confined to the necessity of understanding, predicting, and identifying consumer behavior, invest strategies to optimize profits from limited resources, control inventory to sell fares and products to the right customers under the right circumstances. Finally, price discrimination and optimization is also an inherent component of yield management (Modica et al., 2009). Regarding all these objectives, as well as the spheres this strategic dimension is applied, it is necessary to define how these purposes are presented in such industries as hospitality management, airline business, and restaurant industry.
With regard to hotel business management, such goals as pricing, overbooking, and allocation are the three yield management solutions in this sphere. Pricing establishments for sleeping accommodations, amenities, and meeting facilities should include long-term expenditures for sustaining productivity and profitability of a hotel business (Kimes & Chase, 1998). Therefore, yield management strategies for pricing should encompass a long-term analysis by maximizing term revenues (Baker, 1994; Lieberman, 2011). Allocation and overbooking models are often analyzed separately because a combined model of both operations will slow down the analysis of a realistic hotel environment. A separate analysis, therefore, reveals that the main purpose of overbooking is to maximize reservation cost that consist of two major elements – undersale and oversale costs. The former indicates the price for the unsold room. The latter provides “the expected discounted future lost business due to denying customers with reservations a room when they show up” and “the cost for securing a room for the customer in another hotel” (Baker, 1994, p. 66). As per allocation, it presupposes the control of accepted reservations for each category of customers that use similar inventory of hotel rooms. The reservation acceptances can be monitored either for one night for a longer period of time at the same time. The category for customers are identified in accordance to reservation time, duration of stay, and purchase restrictions accepted by customers (Jones, 2000; Sanchez & Satir, 2005). The main objective of research acceptance process is to increase the short-term net yields because non-overbooking expenditures are limited. In addition, it also seeks to widen distribution channels to attract more customers (Selvaraj, 2011). At this point, the application of the computerized approach to hotel management aims to improve financial and operational performance (Emerkiz et al., 2006). Non-computerized approaches have similar effects. With regard to the established objectives, yield management is a powerful source of change management (Okumus, 2004). Therefore, it should be integrated into service organizations.
Similar to hotel business management striving to identify which customers to attract and which service to offer, restaurant revenue management pursues almost identical goals (Lieberman, 1993). In this respect, Bertsimas & Shioda (2003) strive to “understand the demand flow throughout the day of each type of customer and optimize the allocation of the tables among them” (p. 473). The scholars propose using the Capacity Management Science, a systematic method of estimating the capacity potential, as well as process efficiency, of restaurants. The methods also involves control of “the service and production delivery process with quantifiable measurement to improve customer satisfaction” for the purpose for improving the working conditions for employees and augmenting the net profit (Bertsimas & Shioda, 2003, p. 473). Time management is also an integral component of effective revenue management in restaurant industry (Kimes, 1998; Ryan-Whelan, 2000). Timing and duration depend on the arrival of guests, pricing policy, and menu promotions of the fare cycle. At this point, a five-step model to managing restaurants and developing strategies for increasing revenues is effective in case those strategies include shifting customer demand and tightening of the service cycle.
As per airline industries, the objectives are almost similar to the ones established in hotel management, but for a few exceptions. At this point, specific emphasis should be made to the problem of spill estimation of passengers. The problem of adequate accommodation is explained by the restricted capacity of the aircraft management of a certain flight. Therefore, the main purpose of yield management is to introduce effective models and approaches that would regulate this problem effectively. According to Belobaba and Farkas (1999), “ad-hoc adjustment to either the capacity or the spill fare based on general rules of thumb are unlikely to provide accurate spill and spill cost estimates when YM systems are at work” (p. 231-232). Apart from aggregation approach, yield management makes use of overbooking, cancellation, and no-shows as the major models of coping with seat allocation (Subramanian et al., 1999). Therefore, with regard to different problems, various transformation approaches can be applied.
Particular attention should also be paid to the analysis of budget airlines sectors where the major purpose of yield management is to maintain a low-cost strategy and provides a high quality flight as a lower price (Barlow, 2000). Because airline industry operates in an extremely competitive environment and, therefore, the low-cost operation is significant for sustaining stead growth and development. Therefore, the purpose of yield manage is to establish fixed capacity, high-fixed costs, and seasonable variable demand. In addition, the use of yield management aims to achieve such purposes as effective market segmentation, price management, and accurate demand prediction (Barlow, 2010). Judging from the presented perspectives, the concept of yield management and its application to the airline industry is closely associated with seat allocation principles, establishment of low-costs strategies, and increasing the variety of fare classes.
The current capacity of various commercial services is restricted. This is of particular concern to hotels and airlines because there are too many rooms in a particular hotels, and many seats on a given flight that the industries are unable to stand a rigorous competition (Modica et al., 2009). Price determination – the main purpose of yield management – can allow the managers to regulate the close of customers and meet their highly changing demands (Johns, 2000). In order to regulate the above-described process, one should correlate booking process with demand, convert sales patterns and fit those with the current demand, and make the information available for the potential customers (Johns, 2000). Finally, the application for information technologies is another purpose or yield management because it allows to store information and distribute if effectively between customers and managers. Revenue management in airlines and hotel businesses intensifies the role of information and communication via computerized devices.
Apart from price determination and time management, analysis of customer behavior is also another responsibility that should be performed by revenue managers. Organizational behavior is the basic of successful increase in consumer demand. Moreover, it also allows the manager to predict the potential customer market orientation (Queenan et al., 2011; Sfodera, 2006). In this respect, yield management traces to establish ultimate solutions that can face the challenges of the constantly changing consumer preferences. Overall, the purpose of yield management is to predict the customers’ needs and direct them into the right place at the right time.
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