Mr. Kotrba

Revenue Management

Yieldable Versus Priceable – What Does It Mean and Who Cares?

By Bill Kotrba, VP of Industry Strategy, Leisure, Travel and Hospitality, JDA Software

In my role as head of industry strategy for Leisure, Travel & Hospitality industries at JDA Software’s Pricing & Revenue Management business unit, I often have the opportunity to talk with revenue management leaders about the tools they use. Two words I have heard frequently of late are “yieldable” and “priceable” when referring to alternative approaches to revenue management, and I am often asked to clarify the origin of the two methods and define their differences.

For anyone who has spent significant time in the travel industry, especially in the hospitality or airline businesses, the term “yield management” is often used broadly to refer to the practice of revenue management (RM) in general. However, the two should not be confused. For people who do revenue management for a living – and those who create and deliver revenue management software solutions – the word “yield” now carries a distinct meaning and refers to a specific revenue-maximizing approach that is differentiated from newer approaches (i.e. priceable) that have emerged in recent years. All of which falls under the umbrella of RM.

Yield management (YM) originated in the newly deregulated airline industry in the early 1980s. Since then, YM has permeated the airline industry DNA that the language and technique of YM affects the customer experience in ways the carriers probably never intended. For example, recently when I called an airline to change my travel plans I was calmly told, “In addition to the change fee, the new ticket is priced $121 dollars higher because your original ticket was booked in K class and now K class is closed. Your new ticket will be in Q class.” Q class? The only reason I know what that means is because I worked in airline revenue management for 13 years.

YM systems attempt to maximize revenue by yielding-out, or closing out, lower-value demand as flights or hotels fill with bookings in the weeks or days leading up to a departure or check-in date. To do this effectively, airlines and hotels needed to do two things: 1) save a specific number of rooms or seats for customers who book at the last minute and are willing to pay more and, 2) offer prices to specific customer segments who are willing to pay more and can actually made to pay more, using a combination of restrictions and incentives. The various segments are said to be “fenced” where customers in each segment are typically unwilling to change either their travel or purchasing behavior to access the prices available to other segments.

In today’s revenue management science, demand that can be segmented in this fashion is typically referred to as “yieldable” demand. The technique of opening and closing which price points are available for sale—to match demand and supply to maximize revenue—is known as a yieldable approach to revenue management. Demand is considered yieldable if it is made up of independent, fenced segments which can be forecasted and priced to separately, and turned on and off using inventory controls according to optimization algorithms based on remaining seat or room inventory.

In practice, yield management systems require complex, tiered rate structure that anyone who travels has come to know well. With lower rates come more restrictions and less flexibility. For example, staying over a Saturday night in exchange for a discounted airfare, or having to show a AAA membership and reserve a minimum number of nights for discounted room rate. These types of restrictions are very effective at keeping higher-paying customers fenced off from the lower rates. In a YM system, rates and rate ranges are assigned to inventory classes (also called rate classes or buckets) YM software then forecasts demand for each inventory class – which ideally corresponds to fenced segments at increasing price points – and optimizes the number of seats or room to hold out or protect demand that is more valuable. Automated inventory controls can be set in advance to open and close specific pre-existing prices in anticipation of strong or weak demand in each segment according to a demand forecast—and then adjusted daily in response to demand that materializes better or worse than forecast in each segment.

The Three F’s of Yield Management: Fixed, Fenced and Full

In order for YM – a yieldable approach – to truly be an effective lever to improve revenue, these three “F”s need to be present:

1. Fixed (a.k.a. perishable) capacity – such that rooms or seats that aren’t used will be spoiled when they go empty, a lost opportunity to generate more revenue.
2. Fenced – the demand must be yieldable! In other words, a business needs true segmentation with restrictions or incentives that ensure various types of demand (e.g. business and leisure) cannot or will not easily buy at each other’s price levels.
3. Full – total demand that frequently exceeds available capacity. Without this condition there would never be a reason to close out lower price levels.

How do YM systems work when these Three F’s are not present?

Not very well. A good way to test your understanding of these concepts is to imagine scenarios where one or more of these elements is not present. For example, a fast food restaurant that’s selling cheeseburgers. Imagine your reaction if you were told, “I’m sorry…we’re sold out of K-class, we only have Q-class cheeseburgers available tonight.” Cheeseburgers are more or less replenishable (capacity is not fixed and therefore never full), and the demand walking in the door would be difficult to fence in any meaningful way.

Priceable: Like YM turned upside down

The priceable approach to revenue management (also commonly known as price optimization) has emerged in the last decade as a new lever to help improve revenue in situations where a yieldable model falls short. Recent developments in the hotel industry are a good example.

Unlike YM which emerged initially in the airline industry, price optimization originated in the hospitality industry in an environment, where yieldable models were falling short. The hotel rooms pricing model has been dramatically disrupted by the growth of online distribution and instant price transparency on the web. Hoteliers have struggled to preserve meaningful segmentation over the last decade, while at the same time the supply of hotel rooms has consistently outpaced demand. According to Smith Travel Research, average hotel occupancy in the U.S. has barely averaged above 60 percent in the past ten years. As such, the yieldable approach has become less effective at improving hotel revenue—because a yieldable approach works best when hotels are consistently full. In response to this trend, several large chains have transitioned from traditional yieldable revenue management to price optimization solutions—in some cases completely replacing YM inventory controls with new systems that recommend optimal prices instead.

Price optimization evolved from the science of price elasticity estimation – the ability to measure and quantify customers’ willingness to pay for a product or service. Price optimization algorithms take into account historical demand and historical prices, and in some cases historical and real-time competitor prices using data aggregated from Internet shop-set providers. Instead of controlling inventory available at existing prices, price optimization solutions recommend prices directly, attempting to quantify the price (or prices) that generate maximum revenue. When demand lacks intelligent segmentation and fences, or cannot be segmented easily, by definition it is said to be only priceable. In other words, without segmentation and fencing, price is the only lever available to increase revenue. The difference can be neatly summarized as follows: yieldable RM matches demand with supply by changing which prices are available for sale; priceable RM matches demand with supply by changing the prices.

Yieldable RM asks: What’s the most money I can make at these prices?

Priceable RM asks: At what prices can I make the most money?

Since optimal pricing is not dependent on capacity constraints, priceable revenue management presents an opportunity for businesses that don’t have perishable capacity. Yield management has always appealed narrowly to industries with perishable capacity such as hospitality, airlines, car rental, etc., but identifying optimal prices is something that should appeal to every business. Industries that have always assumed revenue management was not for them should take another look, and even hotels and airlines should consider price optimization for non-traditional revenue streams such as baggage fees or retail items in a hotel.

Is price optimization better than yield management?

Not necessarily. Price optimization is arguably the most significant innovation in revenue management in the past decade, building on yield management and driving revenue upside during times when YM falls short. YM will always be a very effective lever to improve revenue for industries in situations where the “Three F’s” are generally present. Moreover, existing yieldable solutions can be enhanced by adding priceable capabilities to improve revenue during times when capacity exceeds demand, or to help determine the optimal price structure for yield management controls. Businesses can leverage both approaches as their selling environment dictates.

Bill Kotrba is Vice President of Industry Strategy for the Leisure, Travel and Hospitality practice at JDA Software. In this role he has the opportunity to consult with hotel managers and executives frequently on the subject of pricing and revenue management best practices, systems and techniques. As leader of one of the top RM software providers in the Hospitality space he has constant exposure to industry best practices and the most technologically advanced approaches that are available. He studied pricing and revenue management at the Cornell University School of Hotel Administration while earning an MBA degree at Cornell. Mr. Kotrba can be contacted at 480-308-3000 or bill.kotrba@jda.com Extended Bio...

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