The Economics of Service Upgrades

Abstract

Many service providers offer different service classes (e.g., first class, second class). Because the capacity of each class is set in advance, providers may end up with unfilled first-class capacity at the time of service delivery. When this happens, providers often upgrade some of their customers from a lower service class to a higher one. One way in which service providers manage upgrades is by selling, in advance, tickets that entitle the holder to an upgrade if space becomes available in a higher service class. This article investigates the circumstances under which upgradeable tickets are profitable, how to price them, and how many to issue. Upgradeable tickets increase the provider’s profits when the probability of obtaining full price for first-class service is sufficiently high. With upgradeable tickets, more of the available capacity can be reserved for potential customers who are willing to pay a high price for high-end service.