Revenue management is traditionally built around forecasting different demand price points (or fare levels) and optimising the allocation of scarce capacity but with the growing push to build ancillary revenues, that is changing, writes guest columnist Tom Bacon.

Our fundamental dimension for ‘sell-up’ – or higher price points – is time; we restrict capacity and focus increasingly on higher price points as the plane fills up over time. However, new ancillary revenue adds a new dimension to sell-up. To understand this a bit better let’s compare ‘old sell-up’ and ‘new sell-ip:

1. The old statistical, time-based sell-up

In the old model, airlines purchase sophisticated, statistically based RM systems to forecast and optimise their revenue mix. In this model the systems forecast demand for various price points for each flight each day and allocate the forecasted demand across scarce capacity. These are some of the things to consider:

·         How many passengers will pay $100? $120? $150 and so on.

·         If the forecasted demand is 180 travellers, which price points should be accommodated on a 150-seat aircraft? Which demand should be turned away?

·         As demand at various price points comes in with bookings, when should you close off availability at one price point to make room for the next higher price point?

Remember though that the system is not static. The forecasts are probability-weighted such that turning away demand at the $100 price point is compared to the probability of selling the next higher fare. A 50% chance of gaining $10 more dollars is not compelling. A 50% chance of selling $50 more is highly compelling.

                The forecast accuracy of the various price points is sometimes questionable. With 10 or more price points for each market the system is often forecasting demand of one to two passengers in each market segment – with forecast accuracy of around 100%!

                In a bid price system, demand is continuous across various fares, also challenging statistical modelling.

In a statistically based system, fares can spiral downward. As low fares appear, observed demand shifts down. This drives the system to keep lower price points more available, corresponding to where the historic demand is. Although this downward spiral can appear in all markets, it is considered a particular issue in markets where low cost airlines offer more unrestricted low fares. Most RM systems have designed a module to attempt sell-up that is not as fundamentally based on history – testing sell-up based on market-specific estimations of price elasticity.

Although so-called anti-spiral modules have only been introduced by major RM vendors in the past six years, airline revenue managers have always tested sell-up as part of their job descriptions.

The new service-based sell-up

The new sell-up – including all of the new ancillary fees – is based on services elected by the customer. Although these new fees have certainly gotten a customer backlash, they offer choice to customers not available previously. Both customers and airlines benefit from sell-ups that aren’t purely time-based. They offer new opportunities for customisation by airlines and can also serve as a way to reduce airline costs. This gives airlines several new opportunities.

1. Sell-Up is no longer solely time-based.

Airlines can now upsell at any point in the booking curve. Even the most price sensitive passenger, booking months in advance, is subject to the new fees. American and Frontier make this explicit in their branded fares – families of fares that have equal inventory availability but reflect different service offerings. As the base fare still increases over time with inventory controls, the service-based premiums on those fares continue.

2. They permit additional segmentation or customisation.

The new services have different appeal to different customers. Lounge access and expedited boarding may be of greater value to many business passengers, for example. Airlines are beginning to target different services to different customers.

3. They are not pure revenue plays.

When a service is included, it potentially costs the airline something to provide. As such, a $25 upsell for additional services is not the same as the $25 upsell based on demand forecasts and inventory controls. Of course, the margin on these fees vary considerably across services – with lower margins typically on onboard food purchases and very high margins on bag fees and change fees. A counterpoint to the margin argument is that, by charging such fees, customers are motivated in ways that reduce costs for the airline. For example, airlines have reported fewer lost bags as the new bag fees have reduced checked bags. And Spirit believes charging customers for carry-on bags facilitates faster boarding and therefore faster turnaround times for their aircraft.

To sum up then, sell-up previously often asked the question of the airline: “Which customers do you want?” In the new marketplace, it asks the customer: “Which services do you want?” The new upsell through ancillary fees is a win-win for airlines and travelers. Airlines will continue to upsell based on their statistical demand models but ancillary represents an even larger revenue opportunity for airlines going forward.

Tom Bacon is former airline executive and industry consultant in revenue optimisation. His views are his own. Questions? Contact Tom at tom.bacon@yahoo.com.