Why Ancillary Revenues Don’t Much Matter

Let’s cut to the nub of this issue.  No one will  ever know for sure if ancillary revenues make airlines more profitable.  There are just too many moving parts in an airline’s  revenue stream.  Sure, airlines may report an extra billion dollars in ancillary revenue (AR, from here on) – but what did fares do?

If fares went down, then maybe the extra AR revenue was achieved only by dropping fares enough to keep travelers buying the combined package.  In fact, this makes perfect economic sense.  Imagine a family shopping for a trip by air.  They have a budget of $1,500.   One airline bundles the fare and baggage fees together (think Southwest), while another sells airfares and baggage fees separately.  It’s an economic push.

If either airline sells that trip for more than $1,500 all in, they lose this family as a customer.  Airlines have mastered the black art of revenue management.  What these AR options do is simply give the pricing boys and girls a few more shades of gray  to work with.

If the airline’s total revenues go up, and fares went up, then it looks like AR helped grow the top line.  But I’m skeptical. Let’s go back to that family with a $1,500 travel budget.   If an airline was happy selling its tickets with free bags for $1,500, but then discovers that it could sell its seats for $1,500 and charge the family $100 for bags, then one of two things have happened.

Either A) the airline’s revenue management model was wrong, or B) the family’s economic options changed.  Option A is unlikely.  Revenue management is the heart of airline pricing.  It’s been around for 20 years and is now a very sophisticated science.  I’d be shocked if the airlines have suddenly discovered that by unbundling stuff, they can boost revenues by more than one percent.

So is it the changing economic options of the travelers?  Yes, it has to be.  If total airline revenues are going up, then the industry is benefiting from a combination of improved demand and reduced supply.   It’s not because travelers woke up and said “OK, we’ll pay more to go to our destinations, now that we can buy menu-style.”

My point is that at some level, all those add-on fees, the ones that travelers used to get for free, like bags and on-board meals,  don’t matter to the airline’s top line. And from what I’ve heard, 80% of all ancillary revenues are baggage fees.

What might well matter are the fees for new value-add services – services that were not part of  any bundled ticket a couple of years ago.  Things like wi-fi on board, in-seat entertainment, priority screening lanes, etc.  The key to this revenue stream is that it was never part of the airline’s bundled package – it’s all new and incremental.

What are the implications of all this for corporate travel managers?

  • Don’t worry about the impact of baggage fees on travel budgets.  Some travelers will have to pay them, others won’t, and all else being equal, the net-of baggage fares will be lower than fares that include bags.
  • Do try to negotiate discounts and waivers on baggage fees.  Might take a year or two for airlines to be able to work these items smoothly into the contract – and more importantly, apply them, but it’s worth looking at.
  • Don’t worry about the other types of ancillary revenues.  They are too small, and too complicated to track back to your corporate account.  Might be a different story for expense reporting purposes, but hey, that’s not my beat on this blog.

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3 Responses to Why Ancillary Revenues Don’t Much Matter

  1. Steve Baker says:

    I agree with you that the top line may not be much effected by the ancillary fee movement. But it has been a bad PR move and has turned ticket agents at airports in to cashiers. There has to be a better way to drive revenue. Amenities like wi-fi etc. are on the mark. And many fees are waived for travelers with status. I believe the airlines would do well to “bundle” these amenities into a pre-paid “preferred traveler” profile that allow semi-frequent travelers without status to pay a set amount up-front for a year’s worth of preferred handling at the airport and in the air. Revenue would be captured up-front and travelers wouldn’t have to deal with added delays at the airport or the point of sale. What do you think?

    • Scott Gillespie says:

      I think you’re on to something, Steve. American Airlines is going down a similar path, with it’s Your Choice suite of offerings. AA’s first dip into these waters is its Boarding and Flexibility package. According to Management.travel, it “includes priority boarding, a $75 discount on ticket change fees and the option to standby for an earlier flight at no charge. AA said “introductory prices” range from $9 to $19, based on flight distance.”

      Not quite the same as what you’re describing, but aimed at the same audience, I’d say.

  2. Pingback: Tweets that mention Why Ancillary Revenues Don’t Much Matter | Gillespie's Guide to Travel+Procurement -- Topsy.com

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