In practice, revenue managers have to forecast the expected number of customers for different fare classes.
Let’s take the example of the booking of seats for simplicity, but it could be rooms, cabins, tickets or entry to any booked facility that has a finite capacity. Revenue managers must decide how many seats they should allocate for each fare class. They use forecasts to work out the optimal number to sell at low prices and how many they should keep for the expected demand at high price.
Those numbers are important and serve as a baseline for their real-life operations, keeping in mind that each seat must be sold at the right price at the right time to the right person. In other words, the company must not sell a seat that would generate higher revenue later. However, real life is not simple and the forecast may over - or under - estimate the demands of the different population of travellers.
Adjust the pricing strategy over time
It is thus important to analyse and determine actions to be taken during the reservation process to adjust the pricing strategy up or down. The pricing plan is generally to sell at a lower price until the optimal number of seats is reached and then increase the prices until the end.
Since people who are most willing to pay more may book later or even just before departure, the last minute prices should be the highest. On the other hand, early bookers will benefit from lower prices, possibly with some additional constraints (no refunding, no exchange). This type of pricing plan is strictly used by low-cost airlines that base their price discrimination scheme only on the time before departure, excluding other type of information, like the purpose of the trip or other characteristics of the travellers.
But what if this does not happen because the lowest price is still too high and not as many people book? One answer is to decrease the price quite early and advertise it, and then to increase the price according to the plan.
Another classic situation is observed when all the tickets at the lower price are sold quite rapidly. It is then natural to stop offering that price and switch to a higher price. Here, again, the prices offered will be increasing until the end, reaching the original price plan at the end.
This typical pricing pattern is summarised in the following graph, which shows different periods of time with sharp variations.
Although simple, this strategy is a very good way to start a pricing strategy and observe the reaction of the customers. Note that the pricing plan may be altered up or down if the demand is not as expected, but the price always increases as the flight gets closer.
Prices should always increase over time
Why is it so? Why should the price always increase, or rather, never decrease, at least towards the end of the booking period, even if demand remains low?
The answer to that question lies with the nature of demand: if customers observe drops in price for previous flights and expect prices to go down at the last minute, they may wait to book, and this will defeat the main purpose of the pricing plan, which is to separate the business travellers (high price, late booking) from the leisure travellers (low price, ability to book early).
© By ENAC - Christophe Bontemps CC BY-NC-SA 3.0