Tuesday, January 4, 2011

The new Yield Management Paradigm

How to fill airplanes?

In the travel industry, Yield Management is the name behind what a layman would call "fixing prices so that every seat in a plane is sold at the right rate".

In the past, fares would be fixed. Anyone would pay the same price for a New York - Paris flight on any given day. It had the benefit of simplicity, but airlines soon understood that they could squeeze much more out of their customers and could increase dramatically load factors (number of passengers compared to the number of available seats) by tayloring their offer to meet demand and readiness to pay.

The Yield Management concept relies on demand forecast and on the continuous adaptation of production capacity to this forecast. For example, prices to Johanesburg have been set naturally higher during the 2010 Summer in anticipation of the World Cup. Airlines - but also hotel chains, Tour operators, Railways and car rental companies - have whole departments of analysts dedicated to studying data from past year bookings to evaluate what next year's trend will be.

The anticipation of what customers will need and what they will be willing to pay for is now an integral part of Yield Management.. For example, business travelers are known to need more flexible flights, better travel conditions and to be ready to pay more since it is the company that signs the check for travel expenses in the end. The sunday rule - which states that if you spend your sunday at the destination, you have cheaper fares - is designed to make sure that business travelers, who certainly want to come back home for their family on week-ends, will have to pay the highest rate. This is called Client Segmentation.

This approach which is now widespread in many fields of the economy (transport, hotels, finance...) seems to reach its limits. It is tricky business to plan for the future based on past data. How can you foresee the Credit Crunch? How can you know when people will start to buy tickets again? It can happen that tinkering with prices will lead to lower revenue and the workforce necessary to make yield management effective is then an expensive added cost.

Low-cost companies such as Easy Jet have decided to apply a simpler system. They tend to have only one fare for one destination that changes with time according to how many people have already booked on flight. This idea has been a bit shaken when the company introduced its "business fare" which could be likened to old school yield management. But the advantages of speedy boarding and flexible tickets that came with it can be seen as mere ancillary revenue in comparison with the more than 20 booking classes that every major airline tends to have.

Ancillary revenues are the new hot topic, as competition and the rise of low-cost carriers bring fares lower and lower. Airlines try to scrape as much money as they can by selling options : more leg room, the right to be seated next to your friends and family, the right to enter the plane first, the right to check-in your luggage; or items : food, beverage, luxury products...

These models have been made easier to apply due to the internet-only approach to booking which allows real-time monitoring of demand. It has lead influential figures in the field to propose an entirely new model of yield management that would be more based on customer profiling than on mass data analysis. The idea is that since ever more information is available about you in web cookies (chunks of data that website force into your computer when you browse online), why couldn't airlines tap into this goldmine to taylor the ideal flight for you at the ideal price with the ideal options.

The system would know you are a young student that comes back to mom and daddy's home every month and would offer you a yearly subscription for young people that would allow you to travel cheaply on your chosen route. On the other hand, if you are a rich businessman, it would know you want to fly in first class conditions and would ask you which luxury car you wanted as a taxi from the airport to your meeting room. The latest move by Delta and American Airlines to pull out from flight aggregator Orbitz might be seen as a way to get power back on the direct sales to customer.

The system would also know if a destination is hot or not by monitoring queries in search engines. This may be closer than you think so do not search this specific "cheap flight to Cancun" so often if you do not want to see its price soar!

By Thibaut Labarre (student at the ENAC, french national school for aviation)
Reviewed by Bernard Rannou (Director, Software Development at Amadeus IT Group)

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