The Airline Revenue Shift

Strategic Shift From Revenue Maximization To Revenue Optimization

Airlines aim to shift their business focus from revenue maximization to revenue optimization. In doing so, accompanying strategic areas, including customer experience, inventory management, customer communications and business intelligence, will land them substantial revenue results.

Since the advent of flight early in the last century, the airline business has flown farther and further than most people in the industry could have predicted. During the past few decades, the focus has been on network building, revenue management, fleet modernization, passenger comfort/safety, operational efficiency, distribution channels, passenger service solutions, alliances and global air hubs.

While those areas are clearly still critical to an airline’s success, the encompassing business goal is shifting from revenue maximization (the principle of achieving incremental unit price for the next seat sold) to revenue optimization (the concept of achieving additional unit revenue from a combination of seat and high-margin services), with the introduction of new revenue streams, particularly ancillary, or optional services, fueled by modern technology solutions.

As a result, customer ease and experience are becoming increasingly important during operational service delivery and recovery. The effective management of finite optional services inventory, coupled with seat inventory, can generate optimal revenue-management results. Airline merchandising requires mobile e-commerce and customer communication platforms for presentation and acceptance of offers. Revenue generation from optional services requires decision-support solutions relying on business intelligence.

With that in mind, going forward, airlines should focus on five strategic areas, including:

  • Revenue optimization,
  • Customer services,
  • Inventory management,
  • Customer communications,
  • Business intelligence.
Revenue Optimization

Airlines have long sought to maximize revenue through a balance of yield (business sense) and load factor (tactical sense) drivers with the aid of logical decision support provided by revenue-management systems (strategic sense). This method has been applied to the inventory of seats available on a particular flight (time of day, market pair) and fleet (aircraft type), and depended on the comparative propensity of passengers to pay more for a similar seat on the same flight. At times, revenue maximization has extended to cargo carried on passenger aircraft, such as mail, flowers and fragile artifacts, using a balance of yield and load factor between passengers and commercial cargo (other than passengers’ belongings).

The core product offered by airlines is evolving. The era of unbundling flight-related passenger services with the aim of reducing the seat price prevails, along with the size and comfort of a seat, to a competitive level among airlines with varying cost structures (keeping in mind that the tax burden as a portion of the total fare paid by a passenger is not decreasing).

The business foresight from this evolution of airline product and price can be best encapsulated as revenue optimization. Airline business is now focused on the balance between yield of a seat and yield of optional services — those offerings that can be uncoupled from a low-yielding seat and provided at a higher yield, including inflight meals, entertainment, onboard communications and comfort.

Commercial cargo has been swapped for paid passenger baggage. However, passengers who pay for services expect a quality product — fulfillment of the airline’s promise of a timely delivery of the exact product to the right passenger on the right flight. As a result, airlines are focused on investing in passenger-service and ground-handling solutions, as well as on-board aircraft technologies, to effectively sell and fulfill optional services. Service delivery and recovery, in case of flight changes/cancellations, become even more important for retaining customer loyalty.

Low fares will fill airplane seats, but the essential business question is, “how much more revenue can an airline make per passenger by offering optional services”? In some cases, basic human necessities, such as drinking water, become an optional paid service. In other cases, it is based on passenger demand for extra comfort or added convenience.

While key business strategies such as personalized pricing and product packaging are not new to established retail and e-commerce companies, they are gaining popularity in the airline industry, and airlines stand to gain significant additional revenue by building strategies around these optional products and services.

Human Interaction Preferred

Flight disruptions create angst for customers. Many airlines manage their irregular operations via e-notifications to customers’ mobile devices. Due to limited re-booking function- ality through airport kiosks, customers prefer human interaction as they look for reassurance that they are receiving the next best travel option to their destination.

Personalized Pricing

Personalization has a big dependency on Big Data. A passenger’s travel shopping pattern and choices, whether on the Web or through indirect channels, can be tracked and recorded. However, they cannot be easily associated if the same passenger begins a new travel search.

Today, airlines have profiles of loyalty program members, as do travel distributors of their corporate travelers. The profile concept provides basic elements that construct biographic information, trip purpose, cabin preference, previous destinations and meal choices, to name a few. The profiles are available for a small population of passengers who are less seat-price sensitive and more likely to purchase optional services with less risk of switching airlines. However, they do not represent the entire spectrum of demand that is seat-price sensitive and less likely to pay for unbundled, optional services to keep the total trip cost low.

Personalized pricing may not be as useful to loyal passengers because they are often rewarded with an abundance of free optional services, such as cabin upgrades, priority boarding with carpeted lanes and airport lounge access, as are corporations that receive travel-program rebates for regularly flying a preferred airline. This type of passenger will make a “mileage run” just to retain a certain loyalty program membership status.

Airlines need to focus on building personas for their passengers. Personas would circumscribe profiles and enhance them with “choice” elements based not on a history of seat selection but on optional service selections as identification markers. A persona is then equal to biographic profile plus choice markers.

Going forward, airlines should evaluate how to incentivize all passengers to participate in a travel program that allows them to build custom trips or travel experiences. Using this information, airlines would offer pricing based not only on need (the seat itself) but also on aspiration (a better seat) and desire (optional services in addition to the seat). One example is an ultra-low-cost airline in which all its passengers are loyalty program members through the pre-requisite means of signing up as a member before being able to book a trip.

Product Packaging

Travel products are packaged by airlines with the help of other travel suppliers, distributors and technology solution providers. With the exception of personalized family vacation packages, products are offered individually with optional add-ons. Today, airlines offer static bundles, or a pre-set menu of choices.

The first choice is a basic seat offering, and personalization takes the form of pre-set, standard choices of optional services.

The second choice comprises a pre-determined seat with services included to form flight packages at different fare levels. Fare differentials are based on the number of services provided in addition to the seat.

Most airlines only utilize the first or second choice as their business model. Destination services are offered separately and after the flight package selection is complete.

While these may appear to be dynamic offers, in practicality, they are static, discounted offers. The only personal element is the hotel or car services available at a passenger’s selected flight destination. However, affordability is usually the driver, not the match between a hotel brand/class or car type/size and a passenger’s need or profile.

Airlines should consider dynamic offers based on personalization using personas; however, dynamic offers can also be created independent of personalization.

The first strategy involves pre-paid subscription bundles, in which optional services’ packages are offered to customers ahead of a purchased flight or applicable for any future flight.

The second strategy removes fare-class dependency (from 26 to as many as the number of seats available on a flight) — each seat to be a bundle. Seat packages to vary by seat characteristics such as location on the aircraft, size and features (e.g. power port, full recline) and amenities (e.g. optional services not attached to a seat, such as Internet access, meals and tablet entertainment).

Seat packages can be optimized based on market, flight and cabin. For instance, an early morning weekday flight to a metropolitan city would likely carry business passengers who may want a seat that comes with a power port, premium coffee, Wi-Fi and a newspaper. On the other hand, passengers on an overnight transcontinental flight would likely want to sleep, and therefore, a reclining middle-seat package with a pillow, blanket, premium headphones and warm milk with cookies is preferable.

Customer Services

Today, the correct reference for passenger services is actually “customer services,” because the retailing of optional services allows non-passengers to purchase non-flight-related services using airline loyalty rewards. Volumes have been written about airline customer service; however, airlines need to institute business strategies in the areas of customer ease and customer experience.

Customer Ease

Several technology solutions have been developed to facilitate quicker customer processing online on individual airline websites, onsite at the airport or onboard the aircraft. Automatic check-in, mobile boarding passes, electronic boarding gate processes, bag valet services and customer preference lists on tablets carried by flight attendants are a few of these solutions. While these solutions improve utilization of an airline’s staff and aircraft, they also help customers navigate the journey more easily.

In the past, optional services were included in the seat fare, and customer expectation was mediocre, as long as airlines flew them to their intended destination — safely and on time. As more optional services are unbundled from the seat fare and separate fees charged for each, the higher the expectation by customers that airlines will not only provide a specified service, but also provide quality service. Therefore, service delivery throughout the customer journey will become an even more important aspect of airline business.

Customer Experience

The intended consequence of automation is operational efficiency, but the unintended consequence is fewer human touchpoints between an airline and its customers. Therefore, when service is not delivered as expected, it becomes a customer-experience issue. Unfortunately, many airlines do not have adequate service-recovery strategies in place.

Flight changes, including delays and cancellations, are big stress points for customers. Today, irregular operations are managed through e-notifications to customers’ mobile devices, and limited re-booking functionality is available at airport kiosks. However, many passengers prefer to use phone banks or speak directly to agents because they believe human reassurance is necessary to ensure they receive the next best travel option to their destinations.

Tomorrow, the emphasis will be on service-recovery improvements involving the re-booking of seats, as well as the transfer of equivalent optional services purchased to substitute flights. Airlines need to determine how to quantify the value (track, measure and report) of providing improved customer experience to justify investment in passenger-service technologies and in charging additional fees for increasingly optional services.

First, having the customer profile stored can help match the passengers’ preferences when a recovery scenario is being developed and executed. Second, having new technologies, such as, on-board connectivity, in-flight communication system (IFE) or flight attendant mobile devices can push the recovery problem during a flight instead of after the passenger arrives, hence, improving the overall customer experience.

Today, seat amenities, along with onboard and airport experiences, have been streamlined and standardized among codeshare and alliance partners. Soon, customers will demand service equivalency across airline partners. The services a customer purchases from one airline should be the same type and promised level of services delivered throughout the journey, even if it happens to be on a partner airline. Keep in mind that service equivalency is defined as a “close match” and not a “close substitution.”

Inventory Management

A seat is a finite and perishable product. To date, airlines have mastered the art (or science) of inventory, yield and revenue management of seats to optimize capacity with demand and reduce spoilage. The desired outcome is a price gradient in which each passenger pays a bit more than the other on the same flight. There are challenges in applying these principles across revenue-share or equity-based global alliances. Each alliance partner may attach a different value to its seat product, even though the inventory-management system used may be from the same technology provider, and anti-trust immunity is given to collaborate on price and capacity.

To address this, an improved alliance revenue-management system can equate seat value across partner airlines by homogenizing fare classes or removing dependency on them by creating comparable product packages that include a seat with optional services.

Airlines have been managing the creation and merchandising of optional services without an inventory-management system for these services. Some technology providers are developing an inventory system to handle optional services, while other providers are refining existing revenue-management systems that link to the inventory systems.

Today, the strategy is to sell “infinite” services — defined as optional services that can be supplied to cover demand without shortage or additional unit cost to produce more, such as bag carriage, Wi-Fi access and ticket change fees. For example, if every passenger on a flight checked a bag, the airline would still be able to carry all bags on the same aircraft and flight as the passengers. No modification to the aircraft is required, and baggage handling/screening infrastructure and staff are already in place. Of course, airlines have carried bags before, but now they are charging fees for doing so without incurring a significant, incremental cost burden.

Selling infinite services circumvents the need for an inventory system. A uniform price is applied for every checked bag regardless of market, flight time or aircraft hold capacity, to compensate for the fact that this type of service cannot be “revenue managed.” Some airlines offer service-fee waivers for specific passenger types, such as airline-endorsed credit card holders or loyalty members, or for an advance purchase of services (i.e. before the day of departure). These waivers are price discounts, not price gradients, and they do not lead to revenue maximization.

Moreover, minimal to no investment is required in passenger-service systems, as infinite optional services are usually offered through direct distribution channels, sold via existing sales/reservations platforms and staff, and fulfilled by established departure control/ground handling systems at the airport. To reiterate, these services already existed and were being offered, but the difference now is they carry a fee — a pure example of unbundling services from the seat fare.

A services-inventory management system is required to offer and sell “finite” services, defined as those services that decrement inventory each time a unit is sold and will always be in short supply to demand due to incremental unit cost for producing and delivering them. Examples are onboard meals and handheld entertainment devices. A services-inventory-management system is critical to create a virtual store shelf and offer units of services at various prices based on demand by market and flight. Seat packages can also be created by associating finite services with seat inventory by flight.

Delivery of finite services becomes essential, as reservations platforms have to match passengers with the services they purchased, and departure control systems have to identify the passenger services purchased and their flight for fulfillment. This can be done with a single passenger receipt that combines seat and services purchased. Today, these are separate processes, on separate validating documents such as electronic tickets and associated electronic miscellaneous documents, respectively.

Service recovery is paramount due to inherent operational constraints. For example, when an aircraft change happens, services purchased on the original flight may either be inequivalent or unavailable to be delivered on a substitute flight. A re-booking solution needs to be able to synthesize seats and service options for passengers in case of trip interruptions.

Customer Communications

Airlines communicate with passengers to provide special fares, purchase confirmations, check-in reminders, destination service offers, boarding pass delivery, flight changes, loyalty program statements and much more. Communication solutions are pivotal for merchandising both seats and services.

Today, email is the primary mode for pre- and post-departure communications. Text alerts are used on the day of departure to convey flight- or gate-change notifications. These are one-way short messages (SMS) that provide essential information only and are insufficient for sending personalized offers in a single message block.

Instead, a text message can be used to provide seat-related (e.g. upgrades) or service-related (e.g. meal selection) offers, which are effective on the day of departure when passengers are captive at the gate waiting to board their flights. The key is that passengers must have the capability to respond to the offers using two-way functionality that exists today and is used for appointment confirmations in other industries.

When a passenger “opts in,” as a loyalty program member or has an active passenger name record (PNR) during the trip, the airline has a profile containing the method of payment. The airline can send a single or multiple-choice offer to a passenger. If the offer or choice is accepted, it is processed, including payment, and confirmation is sent back to the passenger. The airline’s systems must be linked with its merchandising engine platform to then deliver the purchased service. The same communications method can be used by the airline’s travel partners, such as hotels, rental car companies and airport retailers.

The future communication strategy is a two-way multimedia message (MMS) between the airline and its passengers. Today, this mode of communication is not used in travel merchandising; however, an application is being developed to address this business need. Pictorial messages are visually appealing and alluring for seat and service offers, such as a reclining seat or an appetizing meal. This is a revenue-generating concept for tomorrow.

Business Intelligence

With the development of a service-inventory-management system, data and analytics become instrumental for revenue managers as they decide on the best method for optimizing revenue between seats and services.

Today, historical booking curves and predictive modeling help determine the price of any given inventory of seats on any given day before departure. Such business-intelligence solutions for revenue management of optional services are in development.

Decision-support solutions are needed to map services purchased by passengers on flights. Product offers are currently independent of seat placement, but when offering a combined seat and service package, a revenue-management system will require input data that provides passenger seat assignments on flights, the services they purchased, the price they paid and their personas. The output will be revenue optimization of seat and service packages by flight, market and aircraft fleet.

The airline business today is at a juncture. Revenue-generating strategies involving seat-differentiation products and finite optional services are yielding positive results to the bottom lines of most airlines. Other airlines are quick followers, and the entire air transportation industry is realizing a boost in operating margins.

However, the industry will reach an equilibrium, and operating costs will creep in. For tomorrow, airlines can benefit by focusing on the five strategic areas — revenue optimization, customer services, inventory management, customer communications and business intelligence — to enable sustainable revenue-generating concepts.

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