Options Contracts with Overbooking in the Air Cargo Industry

Rolf Hellermann · Arnd Huchzermeier · Stefan Spinler

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Supply Chain and Inventory Management Aviation Industry Analysis and Trends Capital Investment and Risk Analysis

Abstract

ABSTRACT In today's world economy, which is marked by intensified international trade, air cargo acts as a key facilitator. However, cargo airlines continue to struggle to be profitable because of very high asset costs and substantial demand uncertainty. To improve upon this situation, we propose an options contract. Our model captures the main features of cargo trade between an airline and a freight forwarder and allows us to derive an optimal reservation policy. We then go on to analyze the impact of overbooking on the profit of the cargo capacity provider. The model is subsequently applied to real‐life booking data provided by a major cargo carrier. This enables us to compare current contractual arrangements with the ones proven optimal in the model. A numerical study provides insights about the impact of overbooking on contract parameters and profitability. Managerial insights to be drawn conclude this study.

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References

2003Supply Chain Coordination with Contracts 2004The Theory and Practice of Revenue Management 1992Yield Management at American Airlines 1999Modeling Supply Chain Contracts: A Review 1999Supply Chain Contracting and Coordination with Stochastic Demand 2005Concepts of Price Elasticities of Transport Demand and Recent Empirical Estimates: An Interpretative Survey 2003Integrating Long- and Short-Term Contracting via Business-to-Business Exchanges for Capital-Intensive Industries 2005A Portfolio Approach to Procurement Contracts

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