A search for profit
With razor-thin margins, high competition, large capital investments, and fluctuating oil prices, airlines are constantly looking for an edge to improve their profitability. On the cost side, airlines deploy more fuel-efficient aircraft, optimize their routes, and constantly are on the lookout for additional operational efficiencies. One example that I love to share is of former American Airlines CEO Robert Crandall who allegedly decided to remove one olive from the first-class meal to save $40,000 a year. A more recent example, is United Airlines’ decision to replace pilot handbooks with iPads in 2011, saving over 326,000 of fuel annually. On the revenue side, airlines have been using an increasing number of ancillary revenues, such as baggage fees, premium seating and credit card miles program, to drive up revenue. In 2018 alone, over $4.9 billion in revenue came from baggage fees alone. While ancillary revenue has been an important driver of airline financial sustainability, the majority of revenue still comes from revenue management (RM) – an innovation more recent than the queen of the skies, the 747, herself.
It’s probably useful here to give a brief history of RM and how, in many ways, it has defined the way we purchase airline tickets today. Prior to 1978, an airline’s routes were regulated, giving each airline a pricing monopoly on their routes. In 1978, the Airline Deregulation Act reversed these route monopolies and, in effect, led to a massive price war amongst major airlines. Typically, airlines would publish a fare a cabin, and then travel agents would sell those seats to customers without any price changes. Then in the 1980s, airlines such as British Airways and American Airlines began experimenting with dynamic pricing, where they would charge different prices for different routes based on demand and would increase the price when demand was high and vice versa. Today, we would recognize dynamic pricing as fairly fundamental to our flight buying experience. For example, if you fly during thanksgiving break and you are likely to pay a pretty penny, but if you fly on a random weekend in October you are just as likely to find an amazing deal.
If you are saying to yourself right now, “well that doesn’t sound very hard,” let me add some color to explain why this gets complicated. Every day, 2.9 million passengers take off in the US. That’s 2.9 million passengers that the RM team had to set the optimum price for – and setting the optimum price isn’t easy. Passengers fly a variety of routes, they are looking at the competition’s pricing, they are looking to buy different cabins, and they are buying their seats at different times in the year. So how do you price the business traveler booking their flight from ATL to PHX relative to the family flying from FLL to ATL to PHX? The answer lies in an inconspicuous letter that often appears in the corner of your ticket which corresponds to a fare class, which is different that a cabin class.
For each flight, the airline decides on a number of different price points and how many tickets to sell at each price point. In a very simplified world – RM nerds close your eyes here – an airline may choose three price points, A, A+ and A++ and allocate a certain number of tickets to each fare class. When the A fare class is sold out, you can only buy the A+ and A++ fare class, and when the A+ is also sold out, you can only buy the A++ fare class. In fact, this is the mechanism that historically allows airlines to charge less far before the flight and charge more the day before takeoff. It also in the mechanism that allows them to sell different cabins and preferred seats– each which gets a unique fare bucket. The task of setting and resetting these fare buckets falls to the revenue management department and the sophisticated prediction software they use. Ultimately, the revenue management department is directly responsible for the sale of every single one of the 2.9 million passengers daily – no small task.
If again, you are asking yourself why this is so hard, outside of the oversimplifications I’ve made, let me make one more attempt to convince you. This would all be quite simple if airlines were the only one selling seats to you, through their website for example. However, travel agents, online travel agents (OTAs), corporate buyers, and other third-party services account for a non-inconsequential portion of sales. These services play an important role as both an extension of the airline’s marketing departments and as a convenient way for customers to shop across airlines. For these 3rd party services to function, airlines need a way to give them three fundamental pieces: fares, the flight schedule, and seat availability. The first two typically come from a 3rd party and the last one typically comes directly from the airline. As you can imagine, this created quite the hodge-podge of different data streams needing to be in alignment. It also quickly became an antiquated system. As airlines began offering different baggage fees, different pitch settings, different entertainment options, different Wi-Fi options, and so on, 3rd party services had no easy way of receiving all that important information. As a result, a customer looking to buy a flight might go to a travel agent to compare prices, then go to SeatGuru to understand the flight amenities, and lastly go to an airline’s website to figure out if they had any baggage fees. Clearly, this was an unwieldy customer experience.
New Distribution Capability (NDC)
To resolve this, the different players in the industry got together and tried to come up with a new way to share information with each other, one that is more efficient and more adaptable. Enter the New Distribution Capability, or NDC. NDC is an xml-based standard that allows airlines to share full offers on any channel. This means that airlines can now tell the travel agents not only how many seats are available, but also all the other important information about why their seat is better than their competitions and what the ticket includes. It also created a channel for two-way communication with travel agents. Together, NDC is a key enabler of what I would consider the holy grail of revenue management – 1 to 1 personalized offers.
What does this mean for airlines?
So, if that’s what NDC is, what does it mean for airlines? To begin, I would argue that while NDC is a good start to understanding the customer and providing a better experience, airlines will have to think about data collection and aggregation more holistically than NDC alone. Historical data on flight purchases can only provide limited data about a customer’s future preferences and future booking. Yes, an airline could glean where a customer might like to travel for the holidays, where he travels for work and other useful data, but to predict what vacation a customer is looking to take next year, the airlines will likely want to look at a slew of other resources. Like many leading e-commerce players, data privacy concerns aside, they would want to evaluate a customer’s recent social media likes, recent searches, who they are friends with and what places their friends may be recommending. Once collected this data will need to be integrated with the airlines existing data sources to provide a single view of the customer. Lastly, the single view of the customer must be accessible to different departments, who use the insights to provide more personalized offers and service.
While richer data present an amazing opportunity for airlines, ultimately the ability to reap the rewards of NDC heavily on execution. With so much data flowing in and out of airlines, RM departments will have to rely on increasingly sophisticated machine learning and AI algorithms, which must quickly process huge amounts of data, identify trends within the data, and either make accurate decisions or provide meaningful, actionable insights to the team. The development of this technology will also require tighter integration between RM teams and software. RM teams will need to act like a pilot controlling autopilot. They will be in charge of constantly monitoring the software and ensuring its operating correctly and efficiently as it tries to parse through data, and continuously provide feedback to improve the system.
Lastly, to build these offers, airlines will likely have to be more collaborative across their departments. For example, if an RM teams finds that customers on the ATL-NY route are highly interested in greater seat pitch, they may work the flight planning team to weigh the potential of installed additional premium economy seats. Additionally, if the airline finds that the some customers are booking their transcontinental flights based on the availability of a meal, the RM department could look to create a system that allows personalized offers for those customers where the flight includes a free meal, requiring teamwork with the flight attendants and a handful of other departments. In many ways, NDC will hasten the shift from a RM team being constrained by the choices of its counterparts to helping define, refine, and implement the customer offering.
Once the foundation of NDC is deeply rooted in an airline, airlines have the opportunity to act as a travel industry leader and usher in an age of personalization across the entire industry. At first this could be through the distribution of the NDC standard to other players such as black cars and hotels, who could give greater detail about the amenities they offer. Eventually, moving beyond the framework of NDC as it is today, NDC’s two-way flow of information has the potential to alter the way we think about the travel experience. Imagine being able to book a flight on delta.com and then when you go to book a tour, the online travel agency already knows that you have booked a flight to the Bahamas. The online travel agent also knows that your friends recently booked a stay at Atlantis, so they have already found the best room rate for you at the hotel. When you book the room, the hotel then follows up and asks if you want to go on a scuba diving expedition based on your recent scuba diving expedition to the Great Barrier Reef. Ultimately, booking travel becomes a reimagined world where the flow of information helps consumers cut through the clutter to get to the experience they truly want, with the airline industry leading the way.