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.
Want articles like these delivered to you by e-mail? Sign up here. It’s free, and you can unsubscribe at any time.