Special Prorate Agreements
Are Your Partners Getting The Better Of You?
Following a specific special prorate agreement (SPA) methodology can produce between 3 percent and 5 percent revenue gains for airlines. Without SPAs, carriers are at risk of losing significant revenue to a partner airline.
The rapid growth of so many carriers into previously unreachable or financially untenable markets around the globe has likewise led to expansive volumes of partner agreements. These agreements were created in the spirit of meeting complementary business needs, driving volume and revenues in a mutually profitable exchange.
However, the overall net positive corporate sentiment and spirit wrapped into such agreements often overlooks revenue risks. Eventually, some partnerships become net negative over time but remain on the books because of various internal pressures from an airline’s own alliance and sales teams.
The last thing a carrier needs to worry about in today’s economic environment is how its partners are benefitting at its expense. Therefore, airlines need a mechanism and firm discipline in place to actively monitor SPAs and champion their best-practice management.
Perhaps the primary purpose for entering into an SPA is to gain incremental revenue. Airlines need to find better ways to expand their networks without incurring a greater spend on capital. As a carrier sets up agreements, it can complement its own network by introducing new routes, targeting low-load flights to stimulate traffic through discounted prorates, choosing the appropriate fare-class mapping to protect inventory and providing the right fare levels for customers based on competition. It is essential, however, that carriers choose partners cautiously, entertaining agreements that are mutually beneficial and profitable.
Generally, the top five prorate agreements, based on revenue contribution, for any carrier can produce up to 40 percent of total SPA revenue, and the top 25 agreements can cover as much as 80 percent. Diminishing returns, however, begin to set in when a carrier continues introducing new agreements, due to internal and/or political pressure, that do not produce incremental revenue. Often these agreements are with smaller or non-essential carriers.
In addition, today’s marketplace is already full of cannibalization. Therefore, airlines need to be careful that when sharing their metal with networks across the globe that they are not participating in this problem.
A suggested methodology for setting up an SPA includes resources — people, systems and data — and related steps that should be taken to ensure a quality agreement is reached with the desired outcome of more traffic at acceptable yields. More in-depth steps with a suggested strategy and tactics are the next level that should be reviewed and determined.
Following an SPA Lifecycle is a recommended practice for creating an SPA that includes four key tenets:
- The SPA and/or alliance teams create the proposal or receive it from their airline partners.
- The pricing and revenue management departments review the proposal draft for revenue opportunities and prevailing market fares.
- The proposal is then reviewed by revenue accounting.
- Once the proposal has been finalized and approved by upper-level management, the SPA team executes the agreement.
SPAs provide many advantages for the partners involved. Primarily, they can help improve market share for an airline while increasing its market presence. For example, more destinations can be offered to customers through an agreement between two carriers versus those an individual airline may be able to offer solely with its existing network.
SPAs provide precious incremental revenue that complements a carrier’s revenue provided through its own service. Without this agreement in place, an airline can only fly passengers to destinations it serves. The agreement enables an airline to serve additional passengers that have connected from other airlines onto their own aircraft to improve their traffic base. The incremental traffic can prove valuable in traditionally lower load-factor markets or during off-peak travel times. Moreover, and probably most important to gaining market share, the carrier becomes more competitive with better fares and inventory availability.
Recommended SPA Practice
A specific lifecycle is recommended for creating an SPA. It involves four main steps: Creating a proposal, proposal review by pricing and revenue management, proposal review by revenue accounting and proposal approval by senior management. Once these steps have been completed, the SPA team can execute the agreement.
SPAs Versus Alliances
SPAs are sometimes confused with alliances. A carrier can have an SPA with another carrier but not necessarily be part of an alliance with that carrier. Airlines that are knowledgeable about SPAs recognize the revenue benefit and may create an SPA with an airline that might be considered a competitor under different circumstances. However, if the airlines choose to form an alliance, the SPA is usually a primary element of the partnership and is often the first agreement completed when forming or joining an alliance.
During the past 15 years, the expansion of alliances and joint ventures has taken the partnership concept to a whole new level of cooperation. In fact, governments often provide airline partners with anti-trust immunity, enabling them to coordinate pricing, revenue management and scheduling.
This makes it much more difficult for competitors that choose to operate autonomously. However, the traditional interline agreement or SPA offers the airlines a way to improve network reach and gain incremental traffic, if managed correctly, as the potential customer pie is still large enough, even for airlines that are not part of an alliance.
Consultants that specialize in airline partnerships can help carriers identify potential partnership opportunities that will expand their global reach. Working with airline partners, consultants complete a holistic review of carriers’ existing SPAs, recommend enhancements to drive better (lower-cost) passenger distribution channels, suggest improvements to current contracts and further align existing pricing and revenue management priorities.
SPAs are an increasingly natural part of an airline’s strategic growth plan. It is also a natural tendency in the negotiated pricing space for contracts, the negotiation process, and pricing and revenue management elements specific to SPAs to erode over time, creating less than desirable revenues and contractual deficiencies. This necessitates periodic review of terms to maintain competitiveness and ensure contracts are still mutually beneficial to the parties involved.
The consulting approach should include a comprehensive review of major agreements that focus on improvements in:
- Class mapping;
- Fare-filing strategies;
- Settlements (including fuel surcharges, processes and strategies related to the negotiation of agreements);
- Market analysis and partner pricing monitoring;
- Contract elements.
The analysis should focus on in-depth revenue-performance, identification of missing SPA contract terms and recommendations for improving revenue management and pricing functions, as they relate to partner agreements, to maximize revenue benefits.
Carriers that have followed these recommendations have experienced revenue gains of between 3 and 5 percent of total SPA revenue directly related to improvements in processes and strategy, contract terms, and pricing and revenue management functions.