Hello everyone,

I keep reading both here and on Airliners.net that in deciding where to put their hubs that airlines must look at O&D and not just geography -- that is to say, that AA's hub at ORD is profitable both because of it's "mid" location and b/c it's a huge O&D market, for example, where as CO's CLE or DL's CVG aren't as much.

So my question is: why is this true? What is it about O&D traffic that is so lucrative for airlines?

I guess it's the lack of logistical costs. Hubs require baggage transfer (and follow-up with failures), transit facilities (and replanning for misconnects) etc, etc.

Not to mention that people are willing to pay more to fly direct, particularly at the high end of ticket costs.

O&D (ie simple trip) traffic is much more profitable than connecting traffic for many reasons, including :

1. The market expects to pay pretty much the same for a journey of comparable length regardless of the airline's costs in providing it. Thus from London to Los Angeles is say �400 on BA. Edinburgh to Los Angeles also expects to pay about the same, although there is the extra connecting flight involved.

2. In this case there is then the accounting issue of how the fare is divided up between the two flights. Although it is just a back-office beancounting issue it still affects the perceived profitability of one or both sectors. In the above example BA split the revenue by mileage, so London to LAX gets �350 (pretty much the fare from London anyway) and Edinburgh to London gets �50 (way less than the normal fare and a definite loss-maker for that route if considered in isolation). The internal arguuments about how you split up through fares between services with different managers has gone on as long as aviation has been around.

3. If the connecting flight is at a disadvantage compared to a competitor's direct flight the fare might even need to be offered at a discount. For example if there was a competing carrier offering nonstop Edinburgh to LAX at �400, BA might have to pitch their fare at only �300-350 to get any business connecting via London, despite their extra costs in doing so.

4. Not only is this connecting traffic charged at a low rate, but the connecting logistics, like here, may mean the passenger needs to be accommodated on a morning peak flight from Edinburgh to London where normally full fares are charged.

5. There are significant extra costs involved in the transfer. For example a proportion of connections will be missed and the airline will have to foot the bill for any extra costs. These will maybe run to overnight accommodation if the flight being connected into was the last of the day, or only runs once a day. This all has to be picked up in the costings.

6. Transfer connections multiply greatly the chances of misrouted baggage. The cost of repatriating mishandled baggage is a substantial extra cost, it is the key reason why airlines increasingly will not offer through baggage service if they can avoid it (eg trip on two separate tickets even on the same carrier).

Many connections are between different carriers, but the same considerations apply.

A connecting flight is a commodity, that usually goes for a lower price; a non-stop is a premium product folks will pay more for. Factor in that you can usually charge more per-mile on a shorter trip, and you can see why airlines like O/D traffic.

For instance, let's say you're a pax flying from MIA to LAX. You might be happy to buy a $228 roundtrip ticket on CO with a connection at IAH. But CO could sell one budget traveller a $178 ticket from MIA to IAH, and another traveller a $198 ticket from IAH to LAX.

Do the math, and you'll see why O/D traffic is the "holy grail" or airline beancounters. And explains why a hub at ORD -- with more local traffic -- is more valuable than a hub at CLE.

Putting a hub in a place with a lot of O&D traffic means that you can offer nonstop flights to a larger population of travelers. Because nonstop flights are both more desirable to most passengers and less costly for the airline, that is an advantage for putting a hub in a place with a lot of O&D traffic over a place with less O&D traffic, assuming other things are equal (although other things are often not equal).

ORD looks like a desirable hub from the O&D point of view, since Chicago has a large population. However, its poor on-time performance is a major negative, costing airlines quite a bit in goodwill (badwill?) due to missed connections and huge delays.

Take a look at premium fares between financial/corporate/money centre hubs, namely NYC, LON (LHR in particular), NRT, SIN, HKG and to various lesser degrees, FRA, SYD, BOS, ZRH, AMS and CDG. Direct non-stop fares are exorbitant while connecting flights are cheaper as the premium end of the market values its time. The premium end of thiese markets are also very large: What these O&D cities have in common are huge concentrations of financial institutions (commercial and investment banks, IMCOs (investment mgmt co.)), consultancies (accounting, tax, mgmt), corporate HQs and/or regional HQs of large multi-nationals, and with highly-paid staff to go with it. A few hours of transit time can be worth thousands to these travellers. Those are the companies that'll pay the premium fares that is the cream of most airline's revenue, not the fare-sensitive joe/jane backpacker market.

As for your example of ORD, I know there are various commodity exchanges there and of course many HQs of Fortune 500 companies but I doubt if it's as lucrative as NYC? Of course it's still more lucrative than CLE and CVG as you identified, but also a number of major hubs in the U.S. IAH is a valuable O&D for routes from/to oil-producing places.