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Making Fares Fairer

Why airline pricing can't be fundamentally changed without an overhaul of industry cost structures.

When the airline industry announced second-quarter results in July, the numbers were not pretty: a combined $1.4 billion of red ink, after even larger losses in the first period. At the same time, US Airways was clearly on the brink of bankruptcy. So how did the airlines respond? They launched a new summer price war. Go figure.

Among the folks who fly on the corporate dollar, though, airfares create anger as well as confusion. That’s because they face last-minute fares that are, on average, five times more than the lowest leisure ticket price.

“The price variation is so significant that it just doesn’t make sense,” says Alex Wasilov, president and COO of Philadelphia-based Rosenbluth International. “It doesn’t make sense to the travelers, the [travel] agency community, or to the airlines themselves.”

Until recently, many airlines stubbornly refused to admit that disgust over fares might be a factor in today’s severe slump–even though business travel is estimated to be down 20 percent to 25 percent from 2000 levels, according to Business Travel Coalition Inc., an advocacy organization for corporate-travel purchasers. But it’s now painfully obvious, says BTC chairman Kevin P. Mitchell, that some corporate falloff is “permanent,” and won’t be rekindled by an economic rebound.

Lately the industry seems readier to address the gouging of its best customers, with executives including American Airlines CEO Donald J. Carty declaring that a simpler fare structure is in order. “Everybody knows the industry’s current pricing model is badly broken,” Carty told analysts in June, two months before he unveiled a broad redesign of American’s operations, which made no mention of fares. “Many of our best customers feel as though they’re being cheated. It’s clear that something dramatic needs to be done.”

What that something is, however, isn’t clear. Some big airlines, including American and United, have tested lowering business fares. And in August, Northwest Airlines and several other large carriers experimented with cutting “walk-up” fares used by the business market by some 30 percent. That followed a retooling of pricing structures by some lower-cost carriers, led by America West. By the end of the month, however, most deals at major airlines had disappeared, leaving business airfares “at historical highs,” says Mitchell.

The problem, though, is that most airline business models depend on a steady stream of higher business-travel dollars. Indeed, usually they account for three-quarters of revenue and half the passenger total. Big carriers “need that high-yield, close-in traffic,” explains Paul Tate, CFO of Denver-based Frontier Airlines, “in order to support their high cost structures.” Therein lies the problem with streamlining or radically lowering prices, says Scott Gillespie, CEO of Travel Analytics. “Only by reducing their costs can any of the major airlines rationally afford to reduce their prices. If airlines reform pricing first, it will be a financial disaster.”

Super-Saver’s Legacy

BTC’s Mitchell traces all this pricing complexity to the super-saver fares of the 1980s. “Through certain restrictions, such as the Saturday-night stay, the airlines could differentiate and price-discriminate,” he says. That disparity grew, fueled by the same economy-boosting technology bubble that sent corporate executives into the skies in droves. Six years ago, in fact, the average business fare was only 2.5 times–not 5 times–the average leisure fare, according to American Express Corporate Services.

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