66-Killing the Goose that Laid the Golden Egg

About twenty-five years ago now, American Airlines introduced the first Frequent Flyer Program, which rewarded airline passengers miles for the “mileage” they had flown on the airline. These miles were convertible into airline tickets. This program spawned many copy cat competitors, including all the major airlines, hotels, car rental agencies, cruise lines and many other non-airline companies who wished to create a loyalty program. In many ways, the loyalty programs that the legacy airlines offered enabled them to keep their most attractive customers from falling for the blandishments of discount airlines, such as Southwest and Jet Blue. That may be coming to an end.

Up until about ten years ago, I would value an airline mile at roughly four cents, given the price of flying back then. Today, some experts in air travel estimate that the current value of an airline mile today is about 1.2 cents – that is, when you can get it. Many people seeking to cash in their awards can not use the tickets. What happened? The airlines have raised their prices on these programs and reduced the availability of the awards. (See the Symptom and Implication, “Some competitors seek price increases more aggressively than others” on StrategyStreet.com.) They raised their prices by demanding more miles to redeem an economy seat. They also added extra charges for fuel, issuance of award tickets, and so forth. They reduced the seats available to the award programs. Since there are so many miles chasing fewer award seats, the awards are much more difficult to claim.

The airlines themselves redeem the miles at about one cent. Several airlines, including Delta and United, allow passengers to use miles to pay for tickets on their web sites. These programs value the airline miles at one cent per mile. The same web sites offer hotel stays and auto rentals at less than one cent per mile.

The airline programs are becoming uncompetitive. The current programs in the legacy airlines are less generous than those of most of the major hotel companies and cruise lines. The credit card companies, themselves, now offer cash rebate programs that redeem miles at between one and two cents each. The new Schwab Visa card, which we described in our previous blog (#65), rebates 2% on all purchases. Customers who spend a lot of money are likely to notice these more attractive programs. (See the Perspective, “Failure Shifts More Share than Success” on StrategyStreet.com.)

The legacy airlines are in the process of losing one major advantage they had over the discounters. Only 48% of airline program customers are satisfied with the value they get from the Frequent Flyer awards programs. The percentage who claim that the airline award programs sway the way they make ticket purchases is even lower. It is 25% today, down from 31% only two years ago. Yet, the program’s major purpose is to win and hold customers who fly a lot and spend a lot. It looks from here like those programs are likely to falter.

Posted 12/22/08

Update:

The decline in the value of frequent flyer mileage programs has slowed. Now, however, there are significant differences among competitors, especially when you consider actual dollars spent on an airline.

In 2022, Nerdwallet analyzed the program value per hundred dollars spent for several of the top airlines.  This analysis included considerations of rewards rate, basic economy flight costs, fees, entertainment costs and pet policies.  This analysis was based on main cabin flight fares and actual dollars spent per flight. If you are a traveler who sits at the front of the plane, the rewards rates will likely differ.  In 2022, you could expect to get about 9 cents in value for every 100 dollars spent with the best airline program, Alaska. That’s far above the 4 to 5 cents per 100 dollars spent you can expect from the big three: American Airlines, Delta Air Lines and United Airlines.  Southwest is 3rd in the industry at 6.6 cents per100 dollars spent.

An alternative more traditional analysis determined and average value per mile for each airline.  The leader in this category was JetBlue Airlines at 1.5 cents per mile.  Southwest was at 1.4 cents, Delta at 1.3 cents, American at 1.2 cents and United at one cent.

The airline industry is using its mileage program as a way to deepen its customer relationships and to raise prices, either through channels or directly with customers, by using the optional components of a price. Some concepts of these optional components follow.

 Change the Optional Components of Price: These Optional Components of Price include several alternatives to obtain premium payments from customers, or to reduce the capital assets the company must use to support the customers. We have found several relatively common components that companies use to raise their effective prices. You may change these Optional Price Components as follows:

  • Add an extra fee on top of the normal variable charge: This extra fee increases the company’s margins and usually reflects a separately identifiable cost in the company’s Performance offering. The company identifies previously free or lower priced benefits that have separately identifiable costs. The company then increases its margins by charging a fee on top of its normal variable charge to improve margins by covering the costs of the newly identified separate benefit. Illustrative Examples>>
  • Shorten the normal payment term: By reducing the time the company allows the customer to pay for the product once it has been ordered or delivered, the company reduces the capital assets it must carry for the customer. This raises the customer’s capital costs to finance inventories while it reduces the company’s capital costs to support accounts receivable. The Value to the customer declines. Illustrative Examples>>

 

  • Set or raise minimum purchase requirements: This Price Component assures the company of a minimum amount of sales to each customer. These changes require the customers to increase their minimum purchases and pay for any product that they do not take or use. This component raises the company’s margins by ensuring the company a minimum order from each customer. The Value for the customer declines because it must finance a larger inventory on its balance sheet. Illustrative Examples>>
  • Eliminate forms of discount: Virtually all customer relationships involve some discount offer to the customer. The company may raise its prices by eliminating some, or all, forms of discount it offers its customers. This elimination of a discount raises the effective price the customer pays and the margins the company receives on the sale. Illustrative Examples>>
  • Set limits on the usage of the product: The company may raise its effective Prices, especially with customers who use the product intensively, by setting limits on the amount of product the customer may use during a period of time. Illustrative Examples>>

For more context on how to raise prices go HERE. You can use our many pricing concepts and examples to brainstorm improvements for your own company situation.

***

THE SOURCES FOR STRATEGYSTREET.COM: For over 30 years we observed the evolution of more than 100 industries, many hostile.  We put their facts into frameworks applicable to all industries and found patterns.  Strategystreet.com describes the inductive results of these thousands of observations and their patterns.