ROI Strategy vs Revenue Management Strategy
Transportation National Group (TNG) has to part ways with its strategy based on ROI and move into a new strategy of Revenue Management (RM). TNG was a subsidiary part of a more massive financial services conglomerate. Since the parent company was in the financial industry, measures like ROI trickled down the different parts of the conglomerate as the rules of thumb or best practices/strategy to conduct business. Based on this ROI analysis, the TNG operators were able to determine whether they should (or not) lease a trailer. Sunk costs should not be taken into consideration when determining the pricing of the lease nor the fact if the business would run under this business model. ROI strategy fails to optimize the operating model as much as the new Revenue Management strategy would. If the cost of inventory (trailers) has already happened (charged), there is no reason as to why to agree to do business if the ROI passed a double-digit (10%) point. A revenue management strategy is a must to be able to maximize profit moving forward as well as the data-gathering infrastructure needed to make revenue management feasible.
The trailer-leasing business is solutions to producers by saving them from having to incur the total cost it takes in order to execute the fulfillment of their product. Trailer-leasing businesses such as TNG are the solution to these business owners/companies by leveraging the fleet of TNG for fulfillment and distribution without incurring in the capital expenditures associated with buying/maintaining a fleet.
TNG was a company of trailer-leasing (an industrial version of the car-rental model) that handled a fleet of over 78,000 Semi-trailers with over 120 branches in three countries: the United States, Canada, and Mexico. TNG has two main types of customers. One is basic retail-based, a type of customer that does ad-hoc orders which would vary depending on the seasonality of the year. The other type of customer was the long term contract customer. For this second type of customer, the rate of the lease was lower than that of the retail customer. This split was very significant from the point of the type of customer, but at the end of the day, both types of customers were highly price-sensitive.
The company must review all the pros and cons of implementing the new strategy of revenue management before moving into what without the accurate analysis and planning could be the perfect recipe for disaster.
Analyzing the data provided by TNG, specific determinations arise. The total lease revenue with the current strategy, including the gross profit for the Yakima Branch, was of 4.7 million dollars.
After that analysis, we ran two different scenarios. The first one involves optimization constraining the leased amount to the demand of that date and that the inventory must be greater or equal to zero (0) to be able to lease the trailer (accept the lease). In this optimization model we concluded that we could increase the accepted percentage dramatically (the minimum acceptance rate by segment went from 66% to 97%) and because of this increase the yearly revenue per trailer and overall gross profit. We were able to increase profit to 5.2 million dollars in this optimization model.
In the second scenario what we did was to check if satisfaction of demand (meeting it 100%; if the demand were eight then the accepted leases would equal eight as well) and how would that look. We did notice that in this location there is not a problem of supply (available trailers to lease). At one point the inventory went up to almost 745 trailers in inventory. In this 100 acceptance of business model, we say revenue reaching 5.2 million dollars as well. Below is the inventory tracking table along the whole 1997 lease year:
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