After several years of losses, the airline industry worldwide has turned profitable, primarily due to low fuel prices. But the drop in fuel prices has only had a partial impact on the profitability of airlines. One reason for this is the reduction of fares across the globe.
However, with lower fares, more passengers are taking to the air. Flights are fuller. And, several medium-to-large airlines are equipped with sophisticated pricing and revenue management (also known as yield management) systems. But why are airlines still not seeing the expected levels of revenue production?
The answer, in no small part, lies in the complexity of the pricing environment under which airlines operate. While air travelers shop around for the best fare, airlines are vying with each other to offer the right price to the right traveler at the right time. But airline pricing is incredibly complex. There are far too many variables that affect the price of each ticket.
Competition, geo-specific factors, the ever-changing buying patterns of various customer segments and market effects, all affect pricing. The inability to mathematically comprehend the effect of pricing on various passenger segments has a direct effect on flight yield (and hence revenue) optimization.
So, what are the key challenges that confront an airline’s pricing? Let’s take a look.
Too Many Passenger Segments: There are a slew of passenger segments such as:
Local passengers vs. connecting passengers
Leisure passengers vs. business passengers
Online passengers vs. interline or code share passengers
Group traffic vs. individual traffic
As each segment has multiple price points, airlines need the right strategy to offer competitive prices. For instance, in the leisure passenger segment, there’s a carrier in every market whose price point is the benchmark for other airlines. The strategy is to either match the benchmarked carrier’s price or offer lower fares. But for business passengers, pricing is dictated by the corporate contract between the airlines and their company.
Clustered Price Points: With most airlines leveraging sophisticated and expensive yield management systems, there is only a narrow gap (as low as two percentage points) separating the prices on offer.
Rampant Commoditization: Airline seats have become commodities. Legroom space, for example, depends on the customer’s wallet size. But despite the allure of such comforts, passengers still opt for low fares. Carriers have been unsuccessful in communicating the link between product innovations and value to justify higher prices. Invariably, they end up competing on price.
Measuring Cause and Effect: The airline industry is incredibly dynamic and fiercely competitive. Hence, carriers are unable to hold on to a pricing strategy long enough to evaluate the outcome.
No Appetite for Risks: A sound pricing strategy involves charging higher or lower prices in response to the market. But prior to their current ‘golden period,’ airlines were mostly cash-starved. Such a state is hardly conducive for taking risks. An aversion to risks deters airlines from charging more than the competition and experiment. And a lower price hardly lasts a couple of hours as the competition matches it or goes lower!
Too Much Noise in the System: It’s impossible to isolate a single factor as the driving force behind an outcome. Hence, it’s difficult to measure any one parameter and experiment with pricing.
However, despite such obstacles, airlines are getting increasingly better in mining traffic data to glean the effect of price on demand. They are leveraging big data and analytics to shape their strategies. For now, though, pricing will be restricted to tactical actions, chasing real-time monitoring and keeping fares in line with the competition.