Slide 1

Revenue Management Appendix 10A

• Revenue Management is the problem of the disappearing inventory.

• Managers must be flexible to change their predicted sales by market segment as information arrives.

• Airlines price discriminates between business and non-business travelers. If too few business travelers have booked tickets compared to the amount expected, then more non-business tickets should be released.

2005 South-Western Publishing

Slide 2

• Managers may authorize reservation clerks to sell more seats ( or more rooms) than are available.

• The greater the overbooking, the lower are the costs of spoilage.

• Spoilage is an inventory NOT sold. If capacity is large, an airline or hotel will have high spoilage.

• The greater the overbooking, the greater are the costs of spillage, making customers unhappy by finding that they have no seat or reservation.

Slide 3

Spillage & Spoilage With Random Demand

• Figure 14A.1 on page 639

• Demand shifts between low and high

• At each price, there is a chance for unsold capacity known as spoilage if QLow occurs.

• Or disappointed customers who can’t be satisfied known as spillage if QHigh occurs.

Mean Demand

High DemandLowDemand

P

Customer demand distributions at each price

QLow QMean QHigh

Spoilage Spillage

Slide 4

Spillage• Spillage is the excess demand that cannot be met. • If the service industry has low capacity, the spillage

will be great• Customers leave the hotel or airline unable to get a

room or an airplane seat.• How do airlines handle times when they have

overbooked a flight and everyone shows up?» Does it make sense that they ask for volunteers to wait for a

later plane?

» Does it make sense for them to give free tickets to those who are bumped?

Slide 5

Cross-Functional Revenue Management

• The optimal plan will require pricing, marketing, demand forecasting, and capital budgeting – all cross-functional thinking

• The issue at the center is which orders to accept and refuse?

• A larger capacity reduces spillage, but increases spoilage

• A lower price reduces spoilage but increases spillage

Order Acceptance & Refusal

Process

Capacity Planning

Account Management

CustomersPricing Demand estimation& forecasting

Scheduling

Figure 14A.2 page 641

Slide 6

Optimal Overbooking• Spillage and spoilage costs go in

opposite directions, the sum of these costs has a minimum with the optimal amount of overbooking.

• Since business travelers tend to a large extent to be repeat customers, the cost of spillage (oversells) may be very high.

• The optimal amount of overbooking for this market segment may well be lower than for non-business clients.

100% 110% 120% ...

Percent Overbooked

Spoilage

Spillage

TotalCost

optimal

Figure 14.7