Are Revenue-Based Changes to Frequent Flyer Programs a Shift in Strategy or the Economy?

Joel G. points to a Matthew Yglesias article in Slate that makes the case shifts in frequent flyer programs are a function of the economy — fewer seats to give away with full planes.

There’s no doubt a significant element of that. Here’s what I wrote about United imposing minimum revenue requirements for elite status earned starting next year.

United has set the bar at spending a consistent 10 cents per mile minimum. That’s the same amount that Delta is using with its tiers (Delta’s top tier is earned at 125,000 miles and has set the bar for that at $12,500.)

Interestingly this is a higher amount per mile than when United was rumored to be looking at making similar changes two years ago. I wonder how much of that is based on the current ticket pricing environment, rather than looking at the value of a customer over a longer time horizon.

Roughly speaking tickets do cost that much for most people. A cross country ticket most of does run $500, for a little under 5000 miles earned. Which means — and even though most elites probably don’t really it or add it up — that I’d imagine most customers won’t be materially affected by the change. They’ll fly their miles, and by virtue of having done so they will have spent enough money with United to achieve their status.

Still, in an aviation market different than the one we’re currently in — in a pricing environment that’s more like what the airlines saw 3 and 4 years ago — ticket prices are lower and folks aren’t just hitting these minimums. So it could be a real future problem, although in that case if elite numbers drop I would expect to see “double premier qualifying dollar” promotions the same way we’ve seen double miles promotions.

There’s little question that with full planes, airlines don’t feel the need to ‘give as much away’ and indeed have less unsold inventory to give away. That may give them extra confidence in making these shifts, but it’s not the total cause of the shifts.

They’re changing the structure of elite programs, changing who they want to be incentivizing business from.

These are changes airlines could have made prior to the Great Recession, but didn’t. Although the recession imposed a capacity restraint that continues in better economic times but which didn’t exist during prior booms. The Yglesias argument — that airlines are doing better, and that this will mean more jobs and capital investment going forward — is an argument as well for airline mergers which have aided in this restraint.

Airlines retain, of course, the ability to promote lower dollar business even with the new models (“Double credit towards spending requirements between November 1 and December 31!”). In some ways this shift works regardless of the state of the economy.

The programs believe they have been rewarding the wrong people, they want benefits to go to those who provide them the most revenue. It’s a fairly economically un-nuanced position, one that’s not entirely wrong but not entirely right either.

Airlines offer the lowest fares when they don’t expect to sell seats at higher fares. If the airlines get their revenue management right, then the cheapest fares represent almost free money to the airline, incremental revenue for empty seats. That goes straight to the bottom line as profit.

In contrast, the highest fares for the last seats on the plane may well represent revenue they would have gotten from a different customer but can’t once the plane is sold out. A full fare ticket could get the airline zero dollars more than they would otherwise get.

Customers who consistently buy seats that would go empty are not unprofitable customers!

Where Yglesias is right is that in an environment with fewer of those seats, that argument doesn’t carry as much sway within the airlines.

But there’s much that Yglesias gets wrong, or at least almost wrong, in his piece.

The whole point of a business-class seat, for example, is to be very expensive. Unreasonably expensive, in fact. So expensive that it’s not clear anyone would ever really pay that much. After all, it’s called “business class” for a reason: The executives up front aren’t paying out of pocket, but flying on the company dime at shareholder expense. Or maybe the flier is a lawyer or consultant whose airfare is billed to a client, and it’s the owners of the client company’s stock that ultimately carry the cost. This dynamic means airlines can get away with very high asking prices. But high prices lead to some unsold inventory, and to keep up the charade, they can’t just discount the extra seats in an obvious way. Free upgrades to frequent fliers get the job done without lowering the official price.

This sweeping claim conflates many things. “Free upgrades” tend to be provided domestically, and not internationally where truly expensive ‘business class’ seats are offered.

Many major corporations are in fact paying discounted negotiated fares.

And leisure travelers do buy discounted premium seats — over the past few years airlines have more aggressively discounted their premium cabins with discounted first class fares domestically, with free ‘coach with instant upgrade’ fares, and with inexpensive airport buy ups.

Not to mention international Z fares that require substantial advance purchase and stay requirements.

With hotels the issue is often seasonality. You want to build enough hotel capacity to make big profits during the high season. That leaves you with extra rooms when demand is less robust. But an empty hotel room is barely any cheaper to operate than a full one, and since the cost of a hotel room is only one piece of the overall cost of a trip, it can get hard to fill rooms even with aggressive discounting.

The economics of hotel programs are generally different from airlines. Hotels don’t tend to offer ‘saver’ awards and rule-buster style awards for more points, giving away only those rooms that will go unsold at the same level.

Instead, the major hotel programs have more towards a model where any standard room can be redeemed on points and the number of points is fixed regardless of occupancy. (For premium rooms Hilton has moved to a sliding scale based on retail price, but that’s an outlier.)

Starwood and Hyatt pay hotels more for award nights when hotels are full, Marriott pays hotels more the more award rooms are redeemed at the property.

And discounting as a strategy to fill rooms shouldn’t be… discounted. The entire idea of Priceline and Hotwire is that hotels can and do fill rooms with deep reductions in price, and can do so in an opaque way so as not to undercut revenue from customers willing to pay more.

The economic point that Yglesias doesn’t make is just how important frequent flyer programs are to the bottom-lines of airlines. Just like Delta, United’s customers can exempt themselves from revenue requirements entirely by spending $25,000 in a year on a co-branded MileagePlus credit card from Chase.

It was the issuer of the co-brand card that provided both debtor-in-possession and exit financing for United’s bankruptcy, and which pre-purchased half a billion dollars of miles to provide extra liquidity. The separately incorporated mileage program remained profitable even as the airline floundered. And a majority of miles are now earned via credit cards rather than by flying.

In any case, the changes we’ve seen so far are just the beginning.

About Gary Leff

Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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  1. You’re right on some corporations getting major discounts on business class fares. Until they sold our division, I worked for a major multinational company with about 350K+ employees worldwide. They had about 65K employees in the US alone. We had negotiated “flat fares” with a few preferred airlines which were essentially the 60-day advance purchase biz class fares as our norm. Meaning, I could (and did) call up the travel agency on a Friday and fly out on Sunday to Europe or Asia for a ticket in the range of $3K – $5K. I traveled about once a month, it was easy to get the top tier status on one or possibly two airlines by July 1 (the # of Asia trips being the determining factor – those flights gave me about 25K elite miles each trip).

  2. This is really penalizing the budget conscious customers. I agree that mileage runners shouldn’t be overly rewarded, but this new change really penalize anyone remotely budget conscious.

    UA is asking for nearly 12cpm (since it’s 10cpm of base fare, but when you add taxes it’s nearly 12). You’re talking $600 a.i. NYC-SFO, which is a rather high fare.

    To prevent mileage runners, what airlines should be doing is restrict routing flexibility with the lowest fares (UA : L/K/G/N, DL : L/U/T) so they can’t artificially waste seats on JFK-ATL-MSP-LAX when they could easily do JFK-DTW-LAX. If the routing is illogical if you graph it out, then it shouldn’t be permitted.

  3. @Patricia. Surely what the airlines are doing is trying to avoid giving elite status away to people who solely fly on low fares. They are very happy to offer elite status to someone who flies for work on high fares and makes up the mileage requirement with leisure travel on that airline – the spend is a blend of the two. Agreed, though, that routing rules are ridiculous. In my view, they should just credit the miles from the origin to the destination, and ignore the route you actually flew.

  4. I think you slightly miss Matt’s point when you write,

    “And leisure travelers do buy discounted premium seats — over the past few years airlines have more aggressively discounted their premium cabins with discounted first class fares domestically, with free ‘coach with instant upgrade’ fares, and with inexpensive airport buy ups.

    Not to mention international Z fares that require substantial advance purchase and stay requirements.”

    All this is true, of course. But those aren’t true last-minute business travelers. I booked a flight on Thursday to fly JFK-LHR on Friday. The roundtrip was $10k in business class (BA out, AA back). I cannot imagine any leisure traveler paying that. Z fares have advance purchases and minimum stays precisely because business travelers CAN’T, but leisure travelers CAN, meet those requirements (there are lots of decent deals JFK-LHR, but I could never take advantage since my travel was usually booked <14 and even <7 days out, and stays didn't cover Saturdays and were a few days, tops).

    Z fares, discounted premium economy fares, etc., are really just getting after (I think) the upper-middle-class leisure traveler, who can plan his vacation weeks or months in advance, is staying in [wherever] for two weeks, etc. You and Matt are both right; you just have different things in mind.

  5. Dollars should have been added as an alternative form of qualification, not an additional restriction. Mileage is actually the outlier! (and it would have been nice to use total dollars including tax and raise the qualification for simplicity’s sake)

    Segments represent how important the airline is to me, dollars represent my importance to the airline. How do miles matter? Frankly, if I pay $300 to go LGA-CLT each week, why should I be “less elite” than the guy who pays $99 to go JFK-FLL? Especially since most biz pax don’t determine where they work. And for that matter, why reward connecting traffic over n/s–it leads to fewer seats in the market and more headaches during IROPs.

    The dollar levels may hurt mileage runners, but I agree most fliers will not be negatively impacted by this change. It is possible that a few percent of people will be 1 status level lower, but it’s unlikely. Most people dont fly the bare minimum to qualify, they do a few trips over each year which gives even more cushion. And if you take 25 segments each year, you are liekly not getting ALL of them at 10 cpm. I feel bad for people who get screwed by this, but there aren’t many of them, and the elite levels are pretty full now that there are fewer carriers.

    Perhaps this will lead to better value for “silver” or low-tier elites who are currently treated no better than credit card holders (and before you say DL silvers have the ability to be upgraded-which they do-it almost never happens)

  6. When the mileage runners, and the “I’ll go only if I find a sale fare” folks, find that they aren’t going to be elite anymore it will have two bad consequences for the Majors.

    One, virtually no more mileage runs will result in more empty seats. Two, bargain fare flyers will no longer be biased toward the Majors and will instead go with the absolute lowest fares/most convenient schedules.

    I heard a rumor the marketing department at SW just ordered more Dom for their picnic this 4th in celebration of this move by United. 😀

  7. Your caviar and champagne are in danger Gary…Yeah it is only beginning and I think the process will be a waterloo for “entitled” elites…they are all the same everywhere:-)

    I just made that up, probably makes no sense…I am just here for the back link lol

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