As air travel has become increasingly commoditized, airline yields have undergone an inexorable decline. To counter this trend, Airlines have unbundled the fare to offer a plethora of ancillary products and services, which can account for 30-40% of total airline revenue. The challenge now facing airline commerce executives is how to continue to drive revenue growth by realizing untapped opportunity.
Three Stumbling Blocks to Ancillary Revenue Growth
While airline distribution continues to evolve, airlines, including low-cost carriers (LCCs), need to keep up with developments to maintain profitability. For example, tech platforms, such as Google Flights and online travel agents (OTAs), are increasingly engaging customers with online services that use significant amounts of data to offer relevant products as part of a personalization strategy. On the other hand, airline Pricing, Merchandising, and Revenue Management technology has not kept pace with these developments.
All airlines, whether LCCs or full-service carriers (FSC), are held back by three things:
1. Static definition of products, prices, and associated rules
2. Pricing decisions are not optimized for total price of the shopping cart
3. Inability to use contextual data (e.g., browsing activity, customer behavior) to optimize offers in real-time like retailers in other industries.
Let’s examine these disadvantages more closely.
Static Product and Pricing
While certain LCC retailing and reservation systems exist to support the core LCC business model, the technology was not developed to support modern retailing, so there are limitations to what airlines can achieve with these tools. While these systems give LCCs more flexibility to create and sell ancillary products, the core problem is that product and price are still hardwired together, for example, in the 26 Reservation Booking Designator (RBDs). In real terms, this means that if an LCC wants to offer a product at different prices (e.g., a cheaper product for high-value customers), it needs to create a new product for each price point and required combinations. From an operational perspective, this becomes not only difficult to manage, but it also does not allow flexibility at the point of sale (POS), nor does it allow LCCs to present the right offer to the customer. The future for LCCs is a decoupling of product and price so that products and product bundles can be defined dynamically through rules. These rules can then apply dynamic price points.
Pricing Decisions not Optimized
On top of the issues with static prices and product definition, another core problem for LCCs is that airline revenue management systems have not kept pace with the need to optimize pricing based on the total value of the shopping cart nor consideration for total revenue impact on inventory decisions. While there are emerging vendors in pricing optimization, for the most part, the process remains very labor intensive.
Inability to Use External Data Sources
LCCs are not able to easily leverage other data sources in their pricing and product propositions, which puts them at a disadvantage when compared to tech platforms such as Google Flights. While it is not possible for LCCs to leverage the breadth of data that tech platforms have, the future is for LCCs to be able to take advantage of more and more external data sources, artificial intelligence (AI), and big data in their retailing systems.
Enter Dynamic Fare Pricing and Advanced Merchandising
As LCCs focus on direct sales (through web, mobile), comparison shopping is a critical part of the shopping process for travelers and LCCs must be able to overcome these limitations to compete with tech platforms and other competitors. So, the question then becomes how do LCCs overcome these challenges, expose new revenue streams, and tackle declining seat yields? The answers lie in dynamic fare pricing and advanced merchandising.
Dynamic Fare Pricing
The first area LCCs will look is at dynamic fare pricing, that decouples product definitions from the price and removes the limitations from the 26 RBDs to deliver an optimized price. This optimized price will take into account customer behavior and future demand to maximize both transaction margin and available seat capacity. Also, LCCs will look to evolve traditional revenue management to support the use of external data sources in dynamic pricing decisions.
There are three approaches airlines can look at to enable dynamic fare pricing:
1. Modify the ATPCO-filed fare
2. Build the fare from Market Fare or Bid Price (from Revenue Management System), then +/- increment based on rules
3. Build fare completely dynamically (create fare from data inputs and rules).
FSCs are already exploring the art and science of dynamic fare pricing. For example, Lufthansa Group, a Farelogix customer, has launched a Continuous Pricing strategy, which allows for any number of price points between RBDs.
"More precise price increments will make the airlines (within the Lufthansa Group) more competitive in price comparisons and increase the passenger load factor.”
- Striving for Excellence, Lufthansa Annual Report 2018
Farelogix supports Lufthansa’s Continuous Pricing and is also working with several other carriers on enabling dynamic fare pricing strategies.
Research has shown that modern revenue management and pricing methods have the potential to boost fare revenues by 6%. For a Tier 2 airline generating $800 million in passenger revenue per year, that’s an additional $48 million annually. Also, a market research report published by Deutsche Bank (February 6, 2018) on the European Airline Industry predicts that flexible pricing and enhanced ability to sell ancillaries has the potential to increase network airline EBIT by 20%. As the opportunity for LCCs is also clear, we can expect LCCs to implement dynamic fare pricing in the foreseeable future.
Advanced Airline Merchandising
Dynamically created and personalized ancillary offers and bundles (which may leverage the dynamic fare pricing strategies outlined above) are the second area of merchandising opportunity available to LCCs looking to tackle declining seat yields.
With airlines struggling to convince passengers to pay for extras, such as food or upgrades, LCCs need to innovate and provide richer customer choice if they are to open new revenue streams. Leading LCCs, such as Easyjet and Ryanair, have already introduced new types of ancillary bundles that include allocated seats, fast-track, and priority boarding. Existing can systems support these new kinds of products. However, looking beyond this capability, flexible merchandising solutions, such as Farelogix' FLX Merchandise product, enable LCCs to achieve much more.
New generation merchandising engines allows LCCs to leverage flexible product definitions, dynamic pricing, and external data sources to better match product and price with the customer need. Consider new revenue from dynamically created, priced, and bundled ancillary offers that are defined using any number of factors, including customer profile, corporate contracts, trip data, or equipment type – the options are unlimited. The key is the ability to identify price-sensitive vs. product-sensitive market segments and roll out the right pricing and demand strategy across all flight products (fare, bag, seat, flexibility, etc.). Many airlines, including Farelogix customers, have already started their journey into advanced airline merchandising and have seen immediate results.
- FLX Merchandise helped a Tier 1 airline increase ancillary revenue per passenger by >10% per passenger in just one quarter.
- Differentiated Seat Pricing with FLX Merchandise increased seat sales by ~40% in the first month for another Tier 1 airline, immediately realizing millions of dollars in additional revenue per month.
Running an airline is highly operational, costly, and complex with labor cost/efficiency, and fuel costs representing the most significant challenge with no straight forward solutions. In addition, air travel is becoming increasingly commoditized, and LCC market growth is slowing. Innovation is a clear-cut response to these challenges. LCCs have already unbundled and now offer an array of ancillary services; the key is to look beyond the limitations of existing systems to open new revenue opportunity.
Farelogix is a market leader in airline merchandising solutions, and both the FLX Merchandise and FLX Shop & Price solutions can help both LCCs and FSCs unlock new revenue streams. The revenue return can be measured in the millions, and in the case of one large US-based Farelogix customer even in the billions.