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Home > Balance Sheets Checklists > Understanding Yield/Revenue Management

Balance Sheets Checklists

Understanding Yield/Revenue Management


Checklist Description

This checklist outlines the basic concepts behind yield/revenue management and considers how the technique can help companies to improve returns.

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Definition

Originally developed and refined in the airline industry in the 1970s, yield management (“YM” or revenue management as it is also known) is a tool that aims to capitalize on a full understanding of customer buying behavior, in order to maximize the benefit that can be derived from providing a limited-life product or service.

Sophisticated PC-based YM models harness a range of inputs to help create a pattern of projected demand, and then look to help the provider to match the demand with goods or service provision at the optimal level, using pricing as the key mechanism to help shape the demand pattern. The “perishable” element of the product or service is very important for both the buyer and the seller as it heightens the need for a transaction to be struck within a particular time frame. YM seeks to exploit the passage of time in order to maximize revenues for the provider, though this “perishability” element can, of course, be a double-edged sword in that unsold goods essentially expire with a lost opportunity cost to the seller. Yield/revenue management techniques also rely on the essentially limited supply of the product or service, and an acceptance from buyers that prices paid can vary over time and between different buyer categories. The tools are at their most valuable in situations where the fixed cost related to the provision of the perishable goods or service far outweighs any variable costs.

Through the study of consumer buyer behavior, YM can generate sales of essentially identical goods or services to different customers at different prices. A straightforward example in the sale of airline tickets would be a low fare offered to a client booking weeks in advance, with this client potentially finding him/herself sitting next to another passenger who exhibited different buying behavior, perhaps buying his/her ticket only the day before travel, thereby paying a huge premium to the early booker. YM can also discriminate on the basis of time in other ways. A supermarket, for example, could heavily discount fresh goods as they approach their “best before” dates, or could even vary the displayed price of goods on LED screens at different times of the week in an attempt to manage demand, perhaps making goods more expensive on busy Friday evenings/weekends and cheaper on quieter weekday mornings, in an effort to encourage some shoppers to adjust their shopping times.

Under some circumstances, however, there can be an ethical argument against excessive use of YM techniques. Just as price discrimination can be based on inputs such as time, prices can also be varied according to factors such as the buyer’s location, financial profile and frequency of previous transactions. This could, for example, create the basis for a potential client to be quoted a higher price based on past customer buying patterns which might suggest that clients from a particular geographic location are prepared to pay more than those from elsewhere. However, this can create situations in which a relatively poor retail client who happens to reside in a particular area can be penalized. Above all, attitudes to the acceptability of some aspects of YM techniques vary between industries and countries.

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Advantages

  • YM helps companies to enhance revenues or profits through understanding of customers’ buying behavior.

  • YM models can also help companies to plan their output to capitalize on the predicted demand patterns.

  • The tool can help lower the chances of “opportunity loss” for both buyers and sellers when perishable goods or services go unsold.

  • YM has a long, proven track record of giving a significant marketing advantage over rivals not implementing YM method.

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Disadvantages

  • The techniques can be inappropriate for goods or services available in virtually unlimited supply, those which are not time-sensitive or perishable in nature, or where variable costs of provision are large in relation to fixed costs.

  • YM can raise ethical issues related to varying prices for the same goods or services between different customers.

  • Some customers could react badly to perceived injustices related to the principle of price discrimination, potentially resulting in a public relations issue.

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Action Checklist

  • Ensure you have some flexibility to respond to variations in demand.

  • Assess how any segmentation within your market breaks down.

  • Consider the range of input factors you would apply to your YM model, for example, advance booking discounts.

  • Discuss how you will inform customers of the new pricing structures.

  • Be prepared to go back and make regular adjustments to your YM system for optimization purposes.

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Dos and Don’ts

Do

  • Ensure that employees are trained in the benefits of YM systems—some key insights about buyer behavior may be gleaned from employees with direct customer contact.

  • Utilize information about buyer behavior patterns to help shape the development of your product offering, rather than using it purely as an input for pricing.

  • Assess the potential impact of a poorly received YM system—some customers may react badly if the new charging structure is perceived to be unfair compared to legacy fixed-pricing structures.

Don’t

  • Don’t assume that the introduction of YM systems will be universally approved. Consider the risk of alienating long-standing core customers.

  • Don’t send out confusing messages to customers—it’s important to understand your market segmentation.

  • Don’t assume that YM systems are only commercially viable for industry leaders. The potential benefits of such systems may out weigh implementation cut offs.

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Further reading

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