Ch.18 – Revenue Management with Capacity | Full Test Bank

Matching Supply with Demand: An Introduction to Operations Management, 4e (Cachon)

Chapter 18 Revenue Management with Capacity Controls

[The following information applies to questions 1-3.]

Inn at Penn has 200 rooms. For regular-fare customers, rooms are priced at $300 per night, while the rooms are priced at $700 per night for the high-paying customers who generally arrive at the last minute. The demand for such high-fare customers is distributed normally with mean 60 and standard deviation 50. Assume that there is ample demand for regular-fare customers.

1) What should the protection level for the high fare be to maximize expected profit?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

2) Suppose that Inn at Penn operates with the protection level of 80 rooms for high-fare customers. On average, how many high-fare customers are turned away because of a lack of rooms?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

3) Suppose again that the Inn at Penn operates with the protection level of 80 rooms for high-fare customers. What is the probability that there are at least 5 rooms left unoccupied?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 4-6.]

JetRed Airways flies several daily flights from Philadelphia to Chicago. Based on historical data, the flight on Wednesday evening before Thanksgiving is always sold-out. However, there are usually no-shows, so the airline decides to improve revenue by overbooking. The no-shows are Poisson-distributed with mean 8, and the airline estimates that the cost of bumping a passenger is about 10 times more than the ticket price.

4) How many seats should JetRed overbook?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

5) JetRed management is dreading bad publicity around Thanksgiving, so it decides instead that it does not want to bump passengers more than 5% of the time. What is the maximum number of seats that JetRed can overbook?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

6) Suppose six seats are overbooked. How many seats can JetRed expect to have empty, on average?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 7-8.]

Jtrix Inc. offers high-end, specialized testing services to contract manufacturers (CM) of semiconductor equipment. Its weekly testing capacity is 125 hours, and it is sold in 1-hour blocks for $140/hour. The internal operating cost of its testing equipment is $100/hour. Because of demand uncertainty induced by the recession, in the recent past, CMs have often canceled their orders for testing at the last moment. Jtrix estimates that the number of canceled hours can be approximated by a Poisson distribution with a mean of 14 hours (see the table below). Jtrix does charge a cancelation penalty of $40 per canceled hour (that is, if a CM books an hour but then cancels, they still pay Jtrix $40). If Jtrix ends up with unused capacity due to cancellations, it is unable to sell that capacity to another customer, but it also doesn't incur the operating cost of $100/hour (that is, the $100 is incurred only when operating). If its available capacity is insufficient to meet the booked demand, Jtrix has the option to cannibalize testing time from its sister facility. However, doing so is expensive for Jtrix, and increases its operating cost to $150/hour.

7) Suppose Jtrix decides to overbook by 10 hours each week, i.e., it sells exactly 135 hours of testing capacity each week. On average, how many hours of unused testing capacity will it have in a given week?

Difficulty: 2 Medium

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Understand

8) Suppose Jtrix decides to overbook its capacity. How many hours should Jtrix sell to CMs?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

9) Gamma Airlines operates a flight from Denver to Boston. Two fares are offered a low fare of $175 and a high fare of $550. Low-fare demand books before high-fare demand, and there is ample demand at the low fare. Demand for the high fare is estimated to be normal with a mean of 35 and a standard deviation of 20. If the flight has 90 coach seats, what is the optimal protection level for the high fare?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 10-13.]

Hotel manager Basil Fawlty and his resourceful assistant, Manuel, run a 26-room hotel in a quaint little town called Tourkey on the eastern sea coast. A combination of Mr. Fawlty's friendly attitude and the absence of a respectable inn in the nearby vicinity imply that Mr. Fawlty enjoys sufficient demand at his low fare of $159 per night. Manuel notes that some customers will walk into the inn requesting a room for that evening and they are willing to pay a high fare of $325 per night. Manuel knows this demand is variable. (In reality, this demand is Poisson distributed with mean 7.5.) He suggests some rooms should be kept unsold to the low-fare customers so that they can serve the high-fare customers.

10) To maximize profits with Manuel's plan, what is the booking limit that should be set for low fare customers?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

11) On average, how many empty rooms will the hotel have under Manuel's plan, if the protection level is 9 rooms?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

12) Basil scoffs at the idea. He says, "Empty rooms! A bird in the hand is better than two in the bush. This brilliant idea of yours, Manuel, might work in Barcelona but definitely not at Tourkey. Let me run the hotel my way. We will sell to everyone who reserves in advance and ignore the walk-in demand."

If Basil has his way, what will be the hotel's expected revenue?

Difficulty: 3 Hard

Topic: Revenue Management and Margin Arithmetic

AACSB: Knowledge Application

Blooms: Apply

13) Manuel replies, "If you are going to forgo the opportunity to sell to last-minute customers, let's at least accept more than 26 reservations for the evening." Checking the data, Manuel observes that the number of "no-shows" is Poisson distributed with mean 2.75. (Recall, a "no-show" is when a customer makes a reservation but doesn't show up to use the room that evening.) Manuel also notes that a $100 non-refundable deposit is required with all reservations. However, if the hotel does not have a room for a reservation holder, then they need to book that person in a B&B in the nearest town. They decide that in those cases they would refund the customer's deposit and pay for the customer's stay in the B&B, which is $450. The customer would not be happy, but they are getting a free night, so Manuel figures that there would be no loss of goodwill. Finally, if they have an empty room due to a no-show, they also figure that they would not be able to fill the room with a last-minute customer. What is the critical ratio they should use to choose an overbooking quantity to maximize revenue?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 14-16.]

Le Meridien in San Francisco has 160 rooms. The hotel has an ample low-fare demand at the room rate of $200 per night, but the demand from the high-fare class which pays $450 per night on average, is uncertain. The high-fare demand is normally distributed with mean 60 and standard deviation 42.

14) How many rooms should Le Meridien protect for high-fare customers to maximize expected revenue? (Leave your answer in decimal form, i.e., no need to round to an integer value.)

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

15) Suppose Le Meridien sets a booking limit of 100 for low-fare customers. How many high-fare customers does the hotel expect to turn away due to a lack of rooms?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

16) When high-fare demand is less than their protection level, the Le Meridien assumes rooms go empty because it is too late to sell the rooms to low-fare arrivals. However, now they have an opportunity to sell those rooms at the last-minute to a third-party seller of opaque goods (such as hotwire.com and price-line). The third-party seller buys the room inventory on the day at $80 and assumes all the risk of selling those rooms on its website. What critical ratio should the hotel use for setting the protection level for its high-fare customer class (who continue to pay $450 per night, and whose demand is still normally distributed with mean 60 and standard deviation 42) knowing that it now has this opportunity to sell off remaining inventory at the last minute for $80? (Early demand at the low fare of $200 remains ample, and Le Meridien still makes this decision to maximize expected revenue.)

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 17-21.]

San Francisco Express Airlines, SaFE for short, flies from PHL to SFO. On a Thursday evening flight, the number of last-minute no-shows and cancellations is Poisson distributed with mean 7.5. SaFE has an unlimited number of low fare travelers who pay $300. The cost of bumping such a passenger is estimated to be $350 (due lost goodwill as well as the cost of routing their itinerary through other airlines). SaFE offers this low fare because it also comes with a cancellation/rebooking fee of $150 — if a customer doesn't show up for the flight or cancels her reservation, she must pay $150 to use the ticket on another flight.

17) To maximize revenue from this flight, how many seats should the airline overbook?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

18) Customers are more reliable on the Friday evening flight. On that flight, the average number of no-shows and cancellations is Poisson with mean 4.5. Suppose SaFE overbooks that flight by 6 seats. What is the probability that at least 1 passenger will be bumped from this flight? (Round answer to the nearest tenth percent)

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

19) The flight from Philadelphia to Chicago has 250 seats. The airline offers a high and low fare. There is ample demand for the low fare. Low fare customers buy in advance of high fare customers. Demand for the high fare is normally distributed with a mean of 100 and a standard deviation of 40. The high fare is $700, and the low fare is $450.

What is the optimal protection level for the high fare?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

20) What is the total expected revenue (including both low and high-fare passengers) when the protection level is 110 seats?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

21) The number of no-shows on this flight has a Poisson distribution with a mean of 9.5. The airline estimates the cost of bumping a passenger on this flight is $1500. What is the optimal maximum number of reservations to accept on this flight?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

22) A hotel has 125 rooms that are sold at a high and low fare. The high-fare protection limit is 30, and it is optimal for a hotel to overbook by 8. What is the low-fare booking limit?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 23-26.]

A newly created NorthEast Airways (NE) flight from Philadelphia to Boston has 300 seats. The high fare on the flight is $800, and the restricted/low fare is $300. There is ample demand for the low-fare class, but high-fare demand is random. Further, the customers who buy low fares buy their tickets well in advance before high-fare customers. Assume the demand for the high fare is normally distributed with mean 120 and standard deviation of 50.

23) Mr. Wright is in charge of the flight booking operations and decides to set a protection level for the high fare. What is the optimal protection level for the high fare?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

24) Suppose a protection level of 150 is chosen. What is the expected revenue from high fare passengers?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

25) NE Airways has noticed no-shows on the flight. Therefore, it has decided to implement a policy of overbooking. The amount of no-shows is distributed Poisson with a mean of 5.25. However, overbooking may require bumping passengers off the flight, which has a net cost estimated at $1000 per bumped passenger. What is the optimal maximum number of reservations to accept on the flight?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

26) If NE Airways overbooked flights by 20 seats and the protection level were set to 150 seats, what would be the booking limit for the low fare tickets?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

[The following information applies to questions 27-29.]

JetAirways flight from Philadelphia to Boston has 350 seats. The high-fare on the flight is $780, and the restricted/low fare is $500. There is ample demand for the low-fare class, but high-fare demand is uncertain. Demand for the high fare is normally distributed with mean 150 and standard deviation of 45. Further, the customers buy low fare tickets well in advance of high fare customers.

27) What is the optimal protection level for the high fare tickets?

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

28) What is the expected revenue from high-fare passengers when a booking limit of 200 is selected for the low-fare tickets? (Note: Input your answer in thousands).

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Knowledge Application

Blooms: Apply

29) The JetAirways Customers' Bill of Rights states that "Customers who are involuntarily denied boarding shall receive $1,200 in addition to a ticket refund." The RM department notices that the number of no-shows is Poisson distributed with a mean of 7.5. What is the maximum number of reservations in excess of plane capacity that the airline should accept?

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Knowledge Application

Blooms: Apply

30) DreamOn Airlines is a startup that emphasizes low prices. They charge a single price for a seat on a flight, and then customers must purchase "DO bucks" for "amenities." For example, your first carry-on bag is 5 DO bucks, while your first check-in bag is 50 DO bucks. Remarkably, even use of the in-flight restroom requires 2 DO bucks. Consistent with this theme, DreamOn does not offer refunds on tickets. For example, if you miss your flight, then you need to purchase another ticket on another flight. Given that DreamOn does not offer refunds, should they overbook their flights? Choose the best answer.

A) No. Since they don't offer refunds, all customers who purchase tickets will show up for their flight.

B) No. Since they charge extra for amenities, there is no need to overbook.

C) No. Since their demand will be too low to justify overbooking.

D) No. Since they have a single price for their seats, there is no need to do revenue management.

E) Yes. Since they have a single price for their seats, they need to maximize revenue.

F) Yes. Even without a refund, there could be some empty seats that could be filled with overbooking.

G) Yes. Since overbooking is necessary when a firm implements booking limits.

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Analytical Thinking

Blooms: Analyze

31) The night before a flight departs, Southeast Airlines reports on their website that there are no seats available. The next day, however, the flight departs with some empty seats. Which of the following can be deduced from this observation regarding this flight?

A) The airline must not have charged multiple fares for the flight.

B) The airline must not have overbooked the flight.

C) The airline must have had a very low protection level for its highest fare on this flight.

D) The airline must not have reached the booking limit for its lowest fare on this flight.

E) None of the above.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Analytical Thinking

Blooms: Analyze

32) Suppose that the Inn at Penn uses the news vendor model to set the protection level optimally. Which of the following changes in the environment would be the best argument for lowering protection levels?

A) Low fare demand is normally distributed with mean 1000 and standard deviation 50 (rather than unlimited).

B) The high-fare price for the room has gone down to $600 from $700 (but the distribution of demand remains unchanged).

C) The hotel capacity has gone up from 200 to 300 rooms.

D) All low-fare demand customers stay for one day, while most high-fare customers stay for two nights.

E) None of the above.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Analytical Thinking

Blooms: Analyze

33) Suppose that high-fare customers at a Sheraton hotel generally make reservations very close to the day of their arrival. Which of the following statements indicates the need for setting the protection level for high-fare demand in a hotel with 100 rooms? Choose the best answer.

A) The hotel usually conducts last-minute sales of deeply discounted rooms.

B) The low-fare demand is highly uncertain but very small on average.

C) The high-fare demand is Poisson-distributed with mean 20.

D) The low-fare demand can be very large while high-fare demand is limited.

E) The rooms protected for low-fare demand are smaller and have fewer amenities.

F) There are many no-shows so that the hotel overbooks 10 rooms or more.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Analytical Thinking

Blooms: Analyze

34) JetAirways flies non-stop from Philadelphia to Atlanta. The airline established the following nested booking limits for its three fare classes:

Which of the following statements is certainly true?

A) The flight has 100 seats in total.

B) The demand distribution for the lowest fare class Q is Poisson.

C) The protection level for the high fare class Y is smaller than for the medium fare class M.

D) The airline does not overbook.

E) None of the above.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits; Implementation of Revenue Management

AACSB: Knowledge Application

Blooms: Apply

35) JetWest Airlines uses the following bid prices over a three-week period:

If this bid-price control is implemented, which of the following is definitely true?

A) The highest ticket price sold in Week 3 on the itinerary is $550.

B) Fare class $200 for PHL to STL is closed in the first two weeks.

C) Fare class $375 for PHL-LAX is open during week 1 and 2.

D) Fare class $275 for PHL-LAX is closed during week 1.

E) Fare class $180 for STL-LAX is open during all the weeks.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Knowledge Application

Blooms: Apply

36) Overbooking will not increase revenue when

A) all customers turn up (there are no no-shows or cancellations).

B) there are only a few fare classes.

C) there are enough seats available to accommodate demand most of the time.

D) protection levels are set optimally.

E) there is no seasonality effect.

F) the airline charges customers for cancellations.

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Analytical Thinking

Blooms: Analyze

37) The use of revenue management with the explicit objective of maximizing revenue (as opposed to maximizing profit) is most appropriate when

A) The variability in demand is high relative to the mean.

B) The variable cost of serving a customer is negligible.

C) There are only two customer segments.

D) Net profit as a percentage of revenue is low.

E) Capacity is significantly constrained.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Analytical Thinking

Blooms: Analyze

38) Which of the following statements are true about nested booking limits?

I. If a particular fare class is open, then all higher fare classes are open as well.

II. If a particular fare class is closed, then all lower fare classes are closed as well.

III. If a particular fare class is open, then all higher fare classes are closed.

IV. If a particular fare class is closed, then all lower fare classes are open.

A) I Only

B) II Only

C) III Only

D) IV Only

E) I and II

F) III and IV

G) None are true.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Analytical Thinking

Blooms: Analyze

39) What is the relationship between a booking limit and a protection level in a revenue management system with two fare classes and no overbooking?

A) There is no relationship between the two.

B) The booking limit is always greater than the protection level.

C) The booking limit is always less than the protection level.

D) The ratio of the booking limit to the protection level equals the critical ratio.

E) The sum of the booking limit and the protection level equals the available capacity.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Analytical Thinking

Blooms: Analyze

40) Which of the following is an example of revenue management with booking limits?

A) A seller of bandwidth offers a low fare for regular speed service and a high fare for high-speed service.

B) A hotel cuts its discount fare to ensure that more rooms are filled.

C) A hotel cuts its full fare to ensure that more rooms are filled.

D) A utility sells a portion of its capacity with long term contracts and reserves a portion of its capacity for the spot market, which yields a higher price on average.

E) A university admits more students than its desired class size to ensure that its actual class size is not too low.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Analytical Thinking

Blooms: Analyze

41) Virtual nesting is a solution to what challenge with revenue management?

A) Passengers flying a particular segment may have different itineraries with different values to the airlines.

B) Forecasting demand for each fare class.

C) Establishing effective fences to segment customers.

D) None of the above.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Reflective Thinking

Blooms: Analyze

42) Consider an airline with the following dynamic bid prices over two weeks for two different legs.

If bid-price control is implemented, which of the following is true?

A) Fare class $175 ORD-SFO is closed in both the weeks.

B) Fare class $360 for PHL-SFO is closed during week 1.

C) Fare class $360 for ORD-SFO is closed during week 2.

D) Fare class $345 for PHL-SFO is closed in week 1 but open in week 2.

Difficulty: 3 Hard

Topic: Implementation of Revenue Management

AACSB: Knowledge Application

Blooms: Apply

43) Overbooking is an optimal strategy only when

A) ample capacity is available.

B) protection levels for high fares do not help.

C) seasonality effects are strong.

D) customer no-shows occur.

E) high-fare customers cannot be turned away.

F) high-fare customers reserve before low fare customers.

Difficulty: 3 Hard

Topic: Overbooking

AACSB: Analytical Thinking

Blooms: Analyze

44) Protection levels are not useful when

A) low-fare customers book their tickets before high fare customers.

B) low-fare customers are significantly hard to bump once they hold a reservation.

C) overall demand is much lower than capacity.

D) fare values fluctuate.

E) low fares sell at about 75% of the value of high fares.

Difficulty: 3 Hard

Topic: Protection Levels and Booking Limits

AACSB: Analytical Thinking

Blooms: Analyze