It is hard to find anyone who is entirely satisfied with their pricing and selling decisions. Even if you succeed in making a sale, you often wonder whether you should have waited for a better offer or whether you accepted a price that was too low. Businesses face even more complex selling decisions. The objective of revenue management is to ensure that companies will sell the right product to the right customer at the right time for the right price.
“Revenue Management has proven to be a devastatingly effective competitive device” – (Dr Alfred Kahn). Revenue management (RM) emerged first from the airline industry. It served as a tool to deal with new competitors (invariably low cost), and fierce pricing wars that resulted from deregulation. Currently, revenue management is a business practice used by a wide range of industries. It is the art and science of forecasting real-time customer demand and optimising the price given the availability of products.
Revenue management was conceptualised to overcome the need to equalise the opportunity losses primarily due to the perishable nature of inventory. Organisations dealing in perishable inventory need to take advantage of supply and demand conditions in the market to maximise on the revenue generation potential by tweaking the pricing, i.e. increasing prices when demand exceeds supply and vice versa.
RM is an enriched mix of strategies to maximise revenue based on customer perception of the competitor, positioning of the product and a suitable strategy to gain advantage from corresponding market conditions. Based on this technique, inventory managers can decide what value can be offered to customers in terms of price, products or other intangible benefits.
Revenue management is a tool that helps to increase revenue through the forecasted distribution of room inventory to predetermined market segments at an optimum price. The objective of RM is to ensure that companies will sell the right product to the right customer at the right time for the right price. Price discrimination is the term used to describe the practice of setting variable pricing policy, and selling the same product or service to different customers at different prices. RM is concerned with such demand-management decisions and the methodology and systems required to make them. It involves managing the firm’s “interface with the market” as it were with the objective of increasing revenues. RM can be thought of as the complement of supply-chain management, which addresses the supply decisions and processes of a firm, with the objective (typically) of lowering the cost of production and delivery.
RM addresses three basic categories of demand-management decisions:
Structural decisions: Which selling format to use (such as posted prices, negotiations or auctions); which segmentation or differentiation mechanisms to use (if any); which terms of trade to offer (including volume discounts and cancellation or refund options); how to bundle products; and so on.
Price decisions: How to set posted prices, individual-offer prices, and reserve prices (in auctions); how to price across product categories; how to price over time; how to markdown (discount) over the product lifetime; and so on.
Quantity decisions: Whether to accept or reject an offer to buy; how to allocate output or capacity to different segments, products or channels; when to withhold a product from the market and sale at later points in time; and so on. Which of these decisions is most important in any given business depends on the context. The timescale of the decisions varies as well.
Retailers often commit to quantities (initial stocking decisions) but have more flexibility to adjust prices over time. The ability to price tactically, however, depends on how costly price changes are, which can vary depending on the channel of distribution such as online versus catalog. Whether a firm uses quantity or price-based RM controls varies even across firms within a given industry.
Firms can also find innovative ways to increase their ability to make price or quantity recourse decisions. For example, retailers may hold back some stock in a centralised warehouse and then make a mid season replenishment decision rather than precommit all their stock to stores up front. In terms of pricing, using online channels or advertising products without price (call for our low price) provides firms with more price flexibility. All these innovations increase the opportunity for quantity and price-based RM. Broadly speaking, RM addresses all three categories of demand management decisions, viz, structural, pricing, and quantity decisions.
Most practitioners accept that implementing RM in a hotel can increase revenues 3 to 6 percent. Many have won much greater increases. Affinia Hospitality saw revenues increase 17 percent over the prior year in the first month after implementing manual RM processes in a new central reservations office. The Millennium Bostonian Hotel paid back all of their start-up costs and more in the first month after converting from manual RM processes to an ASP-based service. Harrah’s Entertainment credited its RM system (installed in 2001) with increasing room and gaming revenues 13 percent for the year in 2002.
About the Author
The author is Director of Revenue Management at Goa Marriott Resort & Spa. His approach to effective RM lies in understanding the demands of the market and balancing the same with the hotel’s financial performance.