D.J. Wardell - Understanding Yield Management

In this era of auction-based pricing and inventory dumping, here's a perspective on travel industry yield management that's worth remembering.

Refining yield management techniques is a primary objective for most travel service vendors.

It's important enough to be among the most extensive "behind the scenes" automation projects now in progress at most major airlines, many hotels, and several independent software suppliers to the industry.

It's implications are widely appreciated in upper management circles, but it's application occasions considerable controversy among travel providers, because it's one of those subjects many would just as well you didn't understand too thoroughly and were unprepared to deal with.

Yield management, minus polite trappings, is basically the combination of processes, analysis, and techniques a vendor applies to the types of products it offers in order to induce (or compel) its customers to pay as much as possible. Airlines employ yield management not only to keep their airplanes full, but equally as important, to sell as many high priced seats as efficiently as possible.

Hotels, likewise, want not only to fill rooms but to fill them at the best (meaning highest) possible rate.

To be successful, these techniques are usually highly automated, because they entail difficult and complex calculations, real-time monitoring of sold inventory, and constant updates. The techniques can be quite basic (simple overbooking, however managed, is a form of yield management), but the trend is decidedly toward the greater precision and reliability that comes only from more sophisticated automation.

Yield is a complex word that can refer to profitability in a number of ways, but the essence of being in business is to manage the greatest possible spread between costs and revenues. Doing so means executing effective yield management.

It should be obvious that your mission as a travel agent is squarely in opposition to the objectives of vendor yield management. If you sell your services as a "travel management" company (not purely an order-taker), your sales focus is "managing" travel costs to minimal levels for your customers, thereby minimizing the service vendor's cost/revenue spread as thoroughly as possible.

Thus yield management is more effective (or at least easier) when you have as few skills and other tools as possible that might enable you to circumvent it. Also, by implication, vendors have little incentive to create or make those tools available to you.

Now I realize that yield management also entails making discounted inventory available for certain travelers (those able to meet the tightly managed restrictions), thereby improving usage levels and creating greater efficiency, but this definition misses the point. Limiting the applicability of "discounted" inventory in any form means that some travelers are "destined" to pay more than others.

Your mandate from business travel accounts is to remove them from the "destined" category as frequently as possible, since nobody really wants to be there (have you ever heard of a travel agency advertising that it made reservations at the highest prices or that it was committed to giving the vendors the "most efficient mix" of high and low-priced bookings?)

Strange, isn't it? As a travel agent, paid by commissions from the vendors whose "agent" you are, you make less money for them and yourself per sale if you are more effective at doing your job.

Yield management, in its more sophisticated forms, works like this:

A vendor (be it air or hotel) knows that there is a certain amount of business it will receive simply by being in business. For example, there are people who need to go from New York to Los Angeles by air and will pay whatever it takes to get there

(within general bounds of reason), irrespective of cost.

This is known as inelastic demand -- if you operate a plane at 9:00am every morning over that route a certain number of these people will be on it. You have no reason to discount inelastic demand because it's there in any event.

There is also what is called elastic demand -- people who can be induced to use a service (or proselyted from a competitor) if the price, or other circumstances, are right. You want to encourage as much elastic demand as possible, using whatever incentives you can (usually by discounting, with restrictions to "protect" inelastic demand), because the alternative is empty seats or rooms.

What you absolutely don't want is to draw the line between

inelastic and elastic incorrectly, because that always costs you money. If you allocate too much discount inventory, you've diluted yield; too little and inventory goes unused.

It's interesting that, particularly in the hotel industry, very few vendors have the expertise, systems, or management control to draw the line properly. Therefore, your ability to negotiate with them for so-called "incremental" volume is limited -- they don't understand what price concessions are truly reasonably.

This, by the way, is the great fallacy of coordinated buying schemes -- those where a group of buyers (often consortia or branches of a large agency) will get together and grace a vendor with "all their business" in return for a discount. For the vendor, more business might not be good business.

Depending upon the degree of negotiated discount, the vendor might make more money by letting some inventory go unused, if that discount interfered with inelastic demand that might be otherwise sold at a higher price.

The vendors are continually trying to improve their skill at drawing the elastic/inelastic line. This manifests itself, for example, when discounted airline seats are made available shortly prior to travel date -- after the airline's yield management techniques predict the majority of inelastic demand is satisfied.

You, as the agent, have defeated yield management in this form when you check high-priced reservations close their travel date and convert them to discounts that have "opened up" . The airline usually bets on what I like to call the "inefficiencies of the system" -- meaning that you probably can't keep track of your high-priced reservations that closely and won't take time to change them in any case.

Opening and closing inventory doesn't solve all yield management problems. It would be so much better to create a situation where customers insist on paying higher rates -- no more worries about annoying things like travel agents or corporate travel managers that don't like subsidizing passengers that otherwise might take the bus.

Fortunately, someone already thought of frequent traveler programs which negate (or at least diminish) price sensitivity (for people who aren't paying for the services themselves) and, at the same time, create "brand loyalty" respecting services that are essentially commodities (one airline seat gets you there about as well as another).

These programs reward travelers for enforcing their will upon the travel arrangement process in instances where annoyances like less expensive services (if there's a chance for a "free" frequent traveler upgrade from a higher fare) or carriers might be suggested -- they might even be sufficient to make a traveler insist on paying more. It's really a great system.

Yield management can't deal with tools, particularly automated ones, that let you effectively move inelastic demand into discounts not "normally" available. If, for example, you were able to use software that automatically tracks high-priced reservations and "shops" for discounts that may open (there are some), you've not only avoided the objective of yield management, you've exploited it to your (and your customer's) benefit.

Sometime soon there will come a day when we'll see whether the airline CRS owners are willing to tolerate access to their systems and databases by software whose major purpose is diminishing the effectiveness of the yield management techniques some of these same airlines are investing heavily to create. It may be that CRS are "open" enough by that time that there won't be a serious reaction.

It may also be that the independent business positions taken by some of the CRS will make it very difficult overtly close-down any independent software activity that has legitimate access to the network.

Since the financial implications -- for agents and vendors -- are so significant, you can expect a lot more discussion on yield management generally, and "appropriate" use of travel agency software that affects it, in coming months.