What Exactly is Dynamic Pricing in the Airline Industry?
The topic of dynamic pricing in airline revenue management (RM) has taken the industry by storm in the last few years. Whether you’re talking to airlines about the future of RM, attending conferences, or reading the research, dynamic pricing comes up everywhere. It can mean different things to different people, and everyone has an opinion on it. This was the basis of the conversation I had recently with several experts in a panel discussion at PROS Outperform called Unlocking Revenue Growth with Dynamic Pricing. This conversation led me to what I see as the definition of dynamic pricing and how airlines can work toward achieving it.
Let’s Start with Dynamic Pricing
Let’s think critically about the word “dynamic,” meaning constant change. When we think about the concept of airline pricing, we often think about the inherent static nature of the filed fares. Just as the name implies, airlines have filed those price points in advance and those are the only prices available to the market. When you pair those filed fares with advanced purchase restrictions and other fences, it certainly doesn’t make them sound very dynamic. However, when PROS released our Real-Time Dynamic Pricing (RTDP) product people asked what we meant by ‘dynamic pricing’. RTDP can be used to change the lowest available class in real-time, based on characteristics of the request like market, point of sale, itinerary, routing, etc. By changing the lowest available class, you would be changing the price that the passenger pays, even when the price is still one of those fixed price points filed by the airline. This is a great starting point for dynamic pricing, and the industry has continued to update its thinking on the subject over the years.
To fully realize and understand the concept of dynamic pricing, you have to understand its two parts: Continuous Pricing and Personalized or Context-Specific Pricing.
This diagram illustrates that you can have personalized pricing without continuous pricing and you can have continuous pricing without personalized pricing. Either of those is dynamic pricing. But the ultimate goal where we’re headed is to do the combination of both.
What’s Continuous Pricing?
For many people in the airline industry, the conversation around dynamic pricing focuses on the filed fares mentioned above. This group thinks that having filed fares simply leaves money on the table for the airline. Think about a scenario where you have a filed fare at $100 and another at $150. If you offer the $100 fare and the passenger was willing to pay $125, you lose $25 in revenue opportunity. If you offer the $150 fare, the passenger walks away entirely, even though the bid price would tell you that you were willing to take that fare. That’s a loss of $125 in revenue opportunity. We call this type of dynamic pricing “continuous pricing” because it is the algorithm to determine a price between two filed fares. To simplify, continuous just means that an airline is not fixed to charge a single price point. It means that we can offer the passenger any price on a continuous curve of prices. By the definition, this falls under the dynamic classification because now the price can possibly change along a continuum, regardless of the fares that are filed in the market. This is an important distinction.
In the case of continuous pricing, PROS RTDP is live at several airlines to calculate a price in between two filed fares. This is a first-of-its-kind offering in the industry. PROS RTDP leverages an algorithm to calculate the price, as well as a marginal fare adjustment at the class level. The marginal fare adjustment is a calculation that determines the actual revenue that the airline achieves if a certain price is offered, based on the demand and willingness-to-pay of the passenger. But where you can get that critical willingness-to-pay information? That’s where the PROS Willingness-to-Pay (WTP) Forecasting and Optimization capability comes in, available in our PROS RM Advantage solution. This WTP approach sets the stage for future innovation into dynamic pricing.
Another important aspect of this continuous pricing concept is how you actually get that price into the market. This is where PROS Dynamic Offers enters the picture. Given the constraints that class codes impose on the airline, you may need to find a solution to get this price into the market without interruption to your downstream processes that rely on class codes. PROS Dynamic Offers is capable of doing just that.
Personalized or Context-Specific Dynamic Pricing
As you can tell from the title of this section, more work is needed on how we name this particular type of dynamic pricing. It’s also the area where research remains ongoing. First, it can be used in conjunction with continuous pricing because as you determine the price, you still don’t want to be fixed to specific filed fares, if possible. The idea behind this type of dynamic pricing is that there are key attributes that we can know about the passenger, the market, or both when the passenger is making the booking. Based on what we know about the passenger, we can adjust the price. For example, we might know that the passenger is at the highest tier of loyalty status with the airline. Based on that, I may want to reward their loyalty with a better fare. One attribute at the market level is the competitor’s fare, which is useful because the underlying science model can assess that fare against the home carrier’s fare and determine if it is best to adjust the price up or down. The benefit of this approach is that many different data sources can be included that are specific to the request that comes in, which all can be used to ensure that the entire revenue opportunity is considered when deciding on the price. In this case, the answer here is dynamic because the price changes based on certain attributes currently in the market.
PROS is actively researching the models that we’ll use to solve the concept of personalized or context-specific pricing, along with the right data sources. That’s where you come in! This is an area where we would welcome your feedback and, even better, your partnership with us to develop this. The great part about this approach is that it can leverage the PROS RTDP system to capture those request-specific components and calculate the price in real time.
As you can tell, there’s a lot more to a name than what meets the eye. Dynamic pricing is certainly the right direction that the industry needs to be going. However, the key is ensuring we have good definitions, so we’re all marching on the same course to the desired end state. There can certainly be different paths to get there though. So, what’s your airline doing to get to the goal of dynamic pricing?
Continuous Pricing in Action: Lufthansa Group
Recently, Lufthansa Group shared details regarding their adoption and approach to continuous pricing, a key phase in the journey to dynamic pricing. PROS and Lufthansa Group have had a long-standing relationship, collaborating on many aspects of dynamic pricing. The joint research and implementation of dynamic pricing originally began with group sales and using dynamic pricing to price group passengers.
The science and learnings from group dynamic pricing were then applied to the implementation of dynamic pricing for individual passengers. In the end, Lufthansa Group was able to create multiple price points and in turn, be better positioned to accelerate recovery as passengers return. According to Simon Rimrod, Head of Commercial Offer and Pricing for Lufthansa Group:
We would welcome the opportunity to talk to you about our solution to continuous pricing, dynamic pricing research, Willingness-to-Pay, and Dynamic Offers. You can connect with us here.