Introduction to the theory and practice of yield management

A variety of concepts and analytical tools fall under the label yield management. The term is used in many service industries to describe techniques to allocate limited resources, such as airplane seats or hotel rooms, among a variety of customers, such as business or leisure travelers. By adjusting this allocation a firm can optimize the total revenue or “yield” on the investment in capacity. Since these techniques are used by firms with extremely perishable goods, or by firms with services that cannot be stored at all, these concepts and tools are often called perishable asset revenue management. The techniques of yield management are relatively new – the first research to deal directly with these issues appeared less than 20 years ago. These days, yield management has been an enormously important innovation in the service industries. American Airlines credits yield management techniques for a revenue increase of $500 million/year and Delta Airlines uses similar systems to generate additional revenues of $300 million per year. While the airlines are the oldest and most sophisticated users of yield management, these practices also appear in other service industries. For example, Marriott Hotels credits its yield management system for additional revenues of $100 million per year, with relatively small increases in capacity and costs. Broadcasting companies use yield management to determine how much inventory (advertising slots) to sell now to the “upfront market” and how much to reserve and perhaps sell later at a higher price to the “scatter market.” Even manufacturers are using yield management techniques to increase profits. After all, manufacturing capacity is as perishable as an airline seat or an advertising slot – if it is not used when it is available, that opportunity to use the capacity is gone forever. The purpose of this note is to introduce the fundamental concepts and trade-offs of yield management and to describe the parallels between yield management and the newsvendor framework that is an important model for inventory management. In particular, this note focuses on how a manager might allocate perishable inventory among a variety of customer segments.