Pricing of Conditional Upgrades in the Presence of Strategic Consumers
55 Pages Posted: 30 Jan 2016 Last revised: 29 Nov 2016
Date Written: September 15, 2016
In this paper, we study a conditional upgrade strategy that has recently emerged in the travel industry. After a consumer makes a reservation for a product (e.g., a hotel room), she is asked whether she would like to upgrade her product to a higher-quality (more expensive) one at a discounted price. The upgrade, however, is not fulfilled immediately. The firm fulfills upgrades at check-in if higher-quality products are still available, and the upgrade fee is charged to the consumer if and only if she actually gets upgraded. Consumers decide which product type to book and whether to accept an upgrade offer or not based on the anticipated upgrade probability.
We find that conditional upgrades create value by improving demand-supply matching for the firm. The firm can use the conditional upgrade channel to flexibly manage capacity allocations and re-optimize demand segmentation. For a firm that takes product prices as given, offering conditional upgrades is effective in compensating for the firm’s lack of ability in setting prices optimally. For a firm that has the ability to optimize product prices, conditional upgrades generate higher revenues than dynamic pricing.
Keywords: conditional upgrades, strategic consumers, travel industry, revenue management, Bayesian Nash equilibrium, asymptotic analysis
JEL Classification: C62, C72, D11, D40
Suggested Citation: Suggested Citation