gleff

I originally posted the following, in a substantially similar manner, on my website a week ago. But since I really would like feedback on my thoughts and arguments I thought I'd post it here as well. Have at me!

Airlines are jumping on the 'reward revenue not miles flown' bandwagon and they are cutting back the benefits of their frequent flyer programs. I'm not sure this decision makes alot of business sense.

That's a very broad statement, and since I'm often critical of other travel writers from making unsupportable overbroad generalizations, let me outline the scope of this shift.

• USAirways was first out of the box with the idea that loyalty is about absolute revenue generated rather than frequent purchases. They tried to alter their frequent flyer program accordingly, but backed off as a result of negative PR.
  
• Delta has gutted it's frequent flyer program in an effort to restructure it to reward only high fare passengers.
  
• United has its own entry into this game, creating a new frequent flyer program level run out of World Headquarters called 'United Global Services' which gives highest priority in benefits as a result of high revenue regardless of frequent flyer status level. And United has also restricted the international upgrade awards it gives to its most frequent flyers, so that they can no longer be used on the lowest fares.
  
• Continental travelers are even worried about the OnePass program being terminated. (Hint: it won't be.)
  
• In one of the most extreme moves out there, starting July 1 British Airways won't even allow you to signup for their program unless you buy a high fare ticket or get a British Airways credit card. (That's why you need to get a British Airways frequent flyer account now, so that it will be grandfathered in.)

So does this make sense? I'd argue not.

The idea behind a loyalty program isn't actually to reward total revenue, but to reward (and induce) incremental revenue. You don't want to reward the folks who spend the most money in absolute terms. You want to reward the folks for whom the reward will generate more dollars than they would otherwise give you. That is a subtle but extremely important business difference.

The person who buys full fare tickets but doesn't pick their own travel provider (either because they ignore it, their corporate travel department buys the tickets, or whatever) isn't going to spend more money on an airline because the loyalty program is slanted to high revenue travelers. For them, changes are a wasted benefit -- "an inefficiency in the system."

Moreover, scaling back loyalty programs reduces revenue. That's because current revenue takes current benefits as a given. Since those benefits were designed to generate incremental revenue, reducing those benefits reduces that incremental revenue.

So what is the value of a frequent flyer program? Empirically we know that frequent flyer programs generate more trips and stays. Why?

Let's leave Mileage Runners out of it -- they aren't what drive loyalty programs. (For example, while United publicly says mileage runners should go for it, in one-on-one conversations they don't value the mileage runner at all.)

A business traveler is less reluctant to travel if she's being rewarded for it. This is true in my own case -- I won't fight against travel since I not only get paid expenses but I have something to cash in later. Without a reward scheme, business travelers would be more reluctant to travel (and more likely to find alternatives to travel).

In additional, brand loyalty - independent of high fares - generates revenue. An airline wants it's frequent flyer currency to be a consumer's preferred currency, because airlines sell their currency to myriad of vendors. Credit card companies, home mortgage lenders, phone companies, supermarkets, gas stations, and even blood banks purchase miles to reward their customers. Many frequent flyer programs are making money even when their associated airlines are losing money, because they sell miles for much more than their cost to redeem awards. Randy even estimates that the Mileage Plus program of bankrupt United Airlines may be worth more than $3 billion.

Cutting back a program reduces loyalty to that program, and hurts the program's position in the marketplace of selling miles to other vendors. That means cutting back a program hurts the only profitable business that many airlines are in.

This doesn't mean that airlines should ignore their high revenue travelers. They want to pour resources into generating marginal revenue, and many of the folks who will provide them with that revenue are the same folks providing high revenue now. My point is that total dollars spent is only a proxy - and not necessary a good one, and potentially even a dangerous one - for the likelihood of generating marginal revenue.

The most profitable course is to (a) design programs to incentivize marginal activity and (b) do so while maintaining current benefits for the rest of the members of a program.

We'll see if anyone is listening...

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View from the Wing: A blog about Free Miles and Free Markets

[This message has been edited by gleff (edited 05-18-2003).]

CountinPlaces

A great post! It is well thought out arguments like these that make FT a wonderful place to discuss travel. Even those who may disagree with you will do nothing but benefit from your outstanding effort.

kuddos.

BTW, you are preaching to this choir and I thank you for helping me condense my thoughts with your prose.

vasantn

gleff, I can't find fault with your reasoning. But if the major airlines were run by people with any intelligence, they would not be as badly off as they are today.

Here's my personal example. The way DL has restructured its SkyMiles program, it is easier to get to Medallion status when you buy higher fares. Since I always buy upgradable (read: higher) fares, especially internationally, I will probably requalify for PM despite a conscious effort to give my business to AA wherever possible. My actual flown miles on DL so far this year are under 30,000 but I already have over 40,000 MQMs! However, this has not made me more loyal to DL; quite the reverse, in fact, because the benefits have been so gutted that PM status is nearly worthless. I guess it's still better than a poke in the eye with a sharp stick, but the margin is narrowing.

Do they really believe that the real high spenders (of which I'm not one) will care about getting to PM faster, when there's nothing to get to? These are not the people who care about free tickets and free upgrades.

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Vasant

dallasflyer

I love this thread. When I started flying a lot three years ago, I looked at several programs and asked myself what was best for me. Living in Dallas, I started with AA and DL, then looked at UA and CO. For me because of location I went back to AA or DL. I chose AA because of MRTC and their upgrade program.

I started traveling to Asia and so I starting adding UA to my mix. I like their upgrade availability to Asia. Now with the changes in the UA upgrade program via SWUs I stopped using them and changed to using AA for Asia. What I did what Free ticket to Asia, then cheap J fares back to USA. This costs a little more than the old plan with UA, but I think less than with the new UA upgrade deal and I am doing transpacs in first class.

The airlines are struggling to make it. They change the rules we adjust our strategy on how to make our travel budget work for us. It is really that simple.

I agree that the top revenue flyers are not so interested in a FF program as the service level they can receive. That doesn't mean that money is not important, just that value is more important. value=time + service.

Then there are the flyers who have a mix of fares. They are vital to any airline. The FF program is very important to these people. They want to leverage their high fares to get themselves perks on the lower fares. These are the people many of these changes are going to drive away. I think that the situation is going to top out this year.

Then there is the advanced purchase plan ahead flyer. This used to be me. Now I am in the middle between this group and the second one. We plan ahead and fill seats, spend our money looking for value. We will take less service for more perks. The FF program is very important to us. We will change airlines because of there program. The airlines need our revenue as we fill seats and assure the airline of revenue well in advance of each flight.

In summary, most of these changes will not enhance revenue as the airlines are hoping and most of these changes will be reversed over the next couple of years as each airline struggles to keep revenue in competition with each other.

RichardInSF

The ideal measure should be neither revenue nor miles, but profitability.

However, I doubt that any airline has a reasonable way to track an individual's profitability to them.

So instead, airline management uses a proxy for profitability. And the popular recent view seems to be that revenue is a better proxy than mileage or segments flown. Who's right, British airways (always first with any reduction in benefits) or Gleff?

I think no one has a clue. What's going to happen is exactly what has happened so many times before: a group of airline managers is going to place a bet without any significant quantitative evidence to back it up. Pretty scary!

zvezda

I believe the number of such people worldwide is about 10. I've never met or even heard of one. One the other hand, I know many low fare infrequent travellers who choose only by price -- even changing planes to save $5 RT in some cases.

I'm *G on LH, SQ, UA. When I fly LH and SQ, I pay international F. When I fly UA, I pay C fares. Why? Well, to sit in F of course. UA gives away the store. I know with reasonable certainty that I can buy a C ticket on UA and sit in F (or if I wanted to a Y ticket and sit in C). Why on earth would I pay full F on UA? The same is true for all the US majors.

Flying domestically in US, I have dozens of times been unable to buy a First Class ticket on the day of departure because all the seats had been given away to upgraders. That's more lost revenue than the typical FF spends on airline tickets in a lifetime (median average)

The current US FF programs are heavily biased in favor of the mileage runner who makes top status for $1000 to $2000 per year at the expense of passengers who spend about $50,000 or more per year on First Class tickets.

While I can criticise the details of how some of the US majors are implementing the change of focus from those who generate the greatest costs to those who generate the greatest revenue, the general direction is very welcome with this FF.

vasantn

Interesting take, zvezda. But your analysis ignores the fact that in most cases, F seats on US carriers are going begging because no one (FFs like you being rare exceptions) is prepared to pay full price for them, especially in view of the deterioration of service in the premium cabins.

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Vasant

feitefrank

Where do you get the idea that full-fare flyers don't care about rewards from a FF program? Even though they might not change airline, they can definitely influence the frequency of their flying, especially if they feel they are being rewarded significantly for doing so. At least I would think so, but you're saying flat out that that is not the case.. Why?

Ps! Did you design AAdvantage? :-)

Guava

Every change has both positives and negatives. If you look at profitable airlines in the world such as Cathay Pacific (notwithstanding SARS), Singapore Airlines, British Airways, Qantas, their frequent flyer programs seem to put most emphasis on the revenue generated .

It makes sense to create a FF program so that it gives you more business that would otherwise go to somebody else or not there at all. However, I cannot agree with neglecting the cash cows. I think it's very important to look at your bottom-line all the time. Who keeps you flying? Who are your most important customers? If I were an airline, customer A gives me $100,000 business a year VS. customer B gives me $10,000 a year yet they both earn approximatively same amount of miles and same elite status - that is just not right. The problem with this is not that Customer A is being treated unfairly but rather suggest there might be some undesired loopholes in the FF system that some people might take advantage of for the sole purpose of earning miles and enjoying the perks.

One can argue if someone does mileage runs and thus give you a few extra thousands dollars that you would otherwise not earn, what's the harm in that? Well, this type of customers are opportunistic - sure in terms of the bottom-line, you did receive more revenue from them than you would otherwise have BUT this is not what's going to make your airline prosper. Do you want people in your FF programs so that they will do mileage runs or do you want people in your FF programs because you will be their carrier of choice? These 'runs' are not necessarily good or bad for the company but the important thing the airline must be able to limit the impact of opportunity seekers. If someone spends $5000 on 5 trips to earn 80,000 miles and other benefits, you have to make sure the 80,000 miles you gave away doesn't cost you more than the revenue you receive. I think the problem for many North American airlines is that opporunity seekers are so efficient that some companies actually lose money on those clients. I will be the first to admit Hilton probably loses more money on me than I paid them over the last 3 years given that my status with them were all comp one way or the other, and my paid stays with them are low values whereas the awards I claim against them were high values. For example, how many took advantage of the Flamingo Laughlin deals at $20 a night a few years ago to net the 50K or 100K bonus? And how many of those use the points to do a GLON or ALON which would have otherwise cost $1,000+ easily? If that's not enough, my ALON stays in HWV also got me Executive Room upgrade with many free meals and many other free stuff. See my point? So for airline or hotel, it's important for them to minimize loopholes. These are inevitable but they must not be easy to exploit.

I can't totally agree...it might be true in the past but increasingly, this is not applicable anymore. Reason being even the corporate travellers are much more conscious about both price and quality of travel. Without a FF program, or if they are unhappy, the airline might lose them. Remember, the purpose of FF program is also to retain customers, not necessarily increase their spending. Sometimes, it's just as hard to keep the same customers.

Again, that depends... Who do you get rid of in process? Sure you will lose business but whom? Opportunity seekers? or your cash cows? It really depends on what kind of benefits you cut and how you cut them. I think the biggest assumption about the incremental revenue argument is that with a FF program, it will only affect the business in one way and that is adding incremental revenue to the business but everything else unaffected comapred to the absence of a FF program. My view is that this is a very big 'if'. In other words, I dispute this assumption. A FF program is such an integral part of the airline's overall business model that you can't take it away expecting everything else would be unaffected. Let us use an easy example: Business without FF program = 7 Revenue from FF program = 3. Total revenue = Business + FF = 10. However, if you cut in FF such that value for FF is now = 2. Then, your total revenue is not going to be 7 + 2 = 9, it might be 8 because it also affects your business that cannot be directly account for solely by the value of the FF. Likewise, good changes in the the FF [right cuts] may affect the overall revenue in such a way that say the value of FF is now 2 but the business model overall has been strengthen such that itself now generate a value of 9. And the overall value now equals 11, which actually exceeds the value of 10 previously before the cut. I think it's too simple to view FF as incremental revenue because it isn't just that. In fact, I would argue, in the modern era, the incremental revenue function should be left to the yield maangement aspect of the FF only whereas the main focus of a FF should be retaining cash cows and attracting new customers with potential. That's why I really like the British Airways model but that would be another topic.

Bottom-line measurement, while not very advanced, is an old and reliable model. You can't go wrong by measuring how much money you get because it's the thing that matter the most. Like an athlete, it doesn't matter how talentive or how hard you work, if you don't produce results, you will go hungry. You might earn less money, but if you take care of your bottom-line, at least you won't fail. I would argue that the bottom-line should be the focus of 21st century's frequent flyer model and everything else should be build around it to complement the model.

Let's see what other comments we have and we'll go from there.

[This message has been edited by Guava (edited 05-18-2003).]

[This message has been edited by Guava (edited 05-22-2003).]

zvezda

One needs to ask why people pay full price for F seats on foreign carriers but will not pay full price for F seats on US carriers flying the same routes. My answer is that US carriers have devalued F and C by demonstrating that these seats are available at drastically lower prices. Once passengers know this, they would be irrational to pay full price. If the US carriers were to stop giving away free upgrades, eventually passengers would learn that the price of an F seat is the F fare. Some would pay and some would not. However, canabalizing one's premium product by giving it away (not on a promotional basis, but consistently and predictably) ensures that no one will buy it.

zvezda

Perhaps in the US, but throughout the world most FF programs take better care of the high revenue passengers. Consider CX and SQ, until SARS the most consistently profitable airlines in the world. Full Y counts for nothing toward the three highest levels in SQ's FF program (PPS, PPS Solitaire, and Lifetime Solitaire). The CX program is similar. Except to satisfy an operational requirement, CX and SQ give out free upgrades as often as Jesua bin Josef returns to life.

People don't buy what they know they can have for free. I used to regularly buy $300 RT SFO-LHR tickets and sit in F 60% of the time and C 40% of the time. Then UA made double upgrades virtually impossible so I started buying C tickets. Smart move on UA's part, though I can't say I was happy about it.

eMailman

The real issue is what is the purpose of the FFP.

Reward and retain valuable customers?

Encourage travel that would otherwise not take place?

The trend is toward the former and away from the latter.

kappa

}Guava. Does your computer have a 'Shift' key? If so, how about using it and the 'Edit' function above your post to going back into it and breaking up your response into meaningful paragraphs.

I started to read it; but, although you seemed to be making good points, my eyes got lost without any breaks in the script.

Best Wishes!


[This message has been edited by kappa (edited 05-19-2003).]

Guava

I apologize, your points are valid. The structure of my reply was difficult to read to say the least given it was intented to reply to each specific paragraph so that people know which point I was refering to. But given the volume of the text, I had to type very quickly. I will edit my post to make it more concise but not now.

Thank you for pointing it out, I am sure many feel the same way just hesitant to say it.

whyyzman

I have to agree with zvezda on this one. Yes I like the perks that go with having status (currently have it with 2 airlines) but I have never been able to figure out why I could buy a cheap seat and sit in C or F. My colleague used to buy C all the time but now only buys discounted Y because he knows he gets upgraded virtually all the time. North American airlines have been giving away the front cabin for far too long and need to reclaim it.

Cut the programs so you can't buy cheap and move up, eliminate automatic C class seats for a full Y or M ticket (Air Canada) and make people pay for what they receive. I am not even a fan of same stand-by on lower fares to upgrade. You want it, pay for it.

Personally I used a mileage upgrade on a longhaul recently (from SYD) and thought it was a bargain. It was even better in that the back was oversold and they changed my upgrade to Operational from Miles Purchased. Nice gesture I am sure, but no doubt they lost money on that one.

FF's will always try to work around the system, airlines just need to figure out ways to stay 1 step ahead and stay profitable.