This document discusses revenue management theory and practice. It summarizes that revenue management has established principles including demand forecasting, optimization, and overbooking models. However, airlines face many constraints applying these principles including strategic differences across airline types, legal/regulatory issues, technical system limitations, organizational challenges, and competitive pressures. Therefore, revenue management analysts must understand both the underlying science and its real-world implementation given the complex constraints faced by individual airlines.

1. Revenue Management:
Theory and Practice
Tom Bacon
Revenue Optimization
June, 2014

2. Theory and Practice
• Revenue Management is now an established science. The
science of RM includes:
– Estimation of price elasticities
– Statistical analyses of demand patterns
– Regression-based forecasting
– Overbooking based on no-shows & cost of over-booking
– Mathematical optimization including linear programming
• On the other hand, there are a multitude of constraints to
an individual airline’s application of the science
– Strategic, Financial, Legal, Technical, Organizational, Competitive
• A revenue management analyst today should understand
the science but he must also understand its use – and
misuse – in real world challenges his airline faces.

3. Strategic
• “One size doesn’t fit
all”
– Legacy, LCC, ULCC
– Nat’l, Int’l, Regional
– Start-up, Growth,
Mature
• Increasing airline
differentiation =>
increasing
customization of RM
-10
0
10
20
30
40
50
60
70
-20 0 20 40 60
% Ancillary Revenue
% Connect
Traffic
Airline (Size )

4. Legal/Regulatory
• In the U.S., legal constraints
exist:
– In both raising and lowering
fares
– On pricing in airline partnerships
• Over the past year, the
government has shown new
interest in regulating ancillary
fees and e-merchandising
Science:
Forecasts
Models
Legal/
Regulatory
Price

5. Systems/Technical
• Every RM system has data limitations and model
assumptions which inhibit optimality
• System providers regularly implement “improvements”
– Not appropriate for all users; not fast enough for others
• Pricing interaction with Operations, Marketing,
Customer Service, Loyalty calls for integrated systems
– In addition to links to third party systems
Inputs Process Outputs
Data limitations Enhancements to be
released soon
Links to other airlines
systems
Model assumptions Future, not yet
identified, enhancements
Reports, metrics,
diagnostics

6. Organization and Culture
• The “ideal” RM organization
doesn’t exist
– Trade-offs in costs, flexibility,
responsiveness, control
– …Within RM
– …Between RM & rest of
organization
• “Culture” and capabilities are bigger than just RM
– Conflict mgmt, decision-making across the airline
– Skills, experience, talent management

7. Financial
• Financial constraints
include:
• Balance Sheet
– Cash
– Capital/resource
availability
• Income statement
– Cost structure
– Variable costs of
services
– Profit margins
• Investor relations/
expectations 0
1
2
3
4
5
6
7
8
9
10
Margin
F/A Cost
VarCost
Fare; or
Product Pricing

8. Competitive
• “This industry is always in
the grip of its dumbest
competitor.”
– R. L. Crandall, 1992
• Competitive issues remain
the largest constraint to
optimized, rational pricing

9. Practical
Trade-offs
Robust:
Choosing an
Optimum that
won’t change too
dramatically
tomorrow
Flexibility:
Anticipating more
change
Risk of New Process
Risk of Status Quo
Optimized,
Deliberate,
well-planned
VS.
“In the long
term, we are all
dead”

10. Airline RM Report Card
• In practice, RM can fall short of “theory” in
every dimension
Grade
Fare setting F
Ancillary pricing F
Demand forecasting F
Optimization F
Overbooking F

11. Conclusion
• Tom Bacon is an instructor for IATA Revenue
Management courses
• In addition, Tom has developed his own revenue
management courses designed for all levels in
RM (from analyst to executive)
– Introduction to RM Theory
– Heavy emphasis on Practice
• How airlines actually use RM
• Limitations in application of RM theory
• Member of Speaker program at University of
Denver Daniels School of Business

12. Contact Information
• Email: tom.bacon@yahoo.com
• Blog:
http://makeairlineprofitssoar.wordpress.
com/