The other day I saw a video that gives one of the best, easy-to-understand introductions to airline industry economics for full-service national and international airlines. The video is worth a few minutes for anyone interested in a better understanding of why airlines like American Airlines, Lufthansa, British Airways and Japan Airlines do what they do compared to the operations of leisure carriers like Spirit Airlines or Ryanair.
The video centers on the importance of business travel to the profitability of traditional, full service airlines. Some of the key points are:
- In spite of a sustained drop in international travel, in the US and Europe in June 2021 the demand for air travel had nearly rebounded to pre-Covid levels in 2019. In China, demand actually exceeded 2019 levels.
- In the second quarter 2021, the US Big 3, American, Delta and United earned about 20% to 30% less per available seat mile than they did in 2019. Revenue recovery is lagging behind demand recovery.
- Business travelers are price inelastic. That is the price of getting from A to B is not as important as their need to get from A to B. Leisure travelers are much more concerned about price.
- Airlines often sell tickets more than two months in advance for prices that may not cover their operating costs. Those tickets are mostly bought by price-sensitive leisure travelers. Airlines charge a lot more for the tickets sold closer to the departure date. Businesses usually make travel plans and purchases close to the departure date and pay more.
- In the U.S. business travel accounts for about 20% of air travel but a much larger proportion of revenue.
- Business travel won’t pick up until major office-based employers like Google, Microsoft, Deloitte, Facebook, Cisco and McKinsey etc. have their workforces back in the office. The resurgence of Covid due to the Delta variant has put on hold the plans of some of these companies to return to the office.
- It seems that fears that Zoom and other alternatives would become a significant substitute for business travel appear to have been overblown.
What might this mean for future travel?
As summer draws to a close, the normal uptick in business travel in the fall probably won’t happen unless businesses feel that Covid is under control and they can safely reopen their offices. If airlines can’t count on greater revenue from business travel, they may be forced to try to get more revenue from leisure travelers. That strategy may not work because leisure travelers are price sensitive. Without business travelers, airlines have little room to lower leisure fares that are already priced close to or below the break-even point. In other words, don’t count on airlines lowering leisure fares even if they are still struggling financially.
To the extent that business travel remains depressed, airlines will have less incentive to invest in products like first class and business class cabins and services and airport lounges. Many airlines that offered international first class no longer do. That trend may be accelerated. American Airlines is the only U.S. carrier that has international first class. It may not be around much longer.
Airlines may also reduce the size of their business class cabins in favor of additional seats and services for an enhanced international premium economy product. Premium economy on international flights is popular with less price-sensitive leisure travelers and business travelers who work for employers that don’t pay for business class. Premium economy is becoming a “Goldilocks” sweet spot for my travels when business is too expensive (in miles, points or cash) and coach on a long-haul flight might be too uncomfortable.
Frequent flyer programs were designed primarily to attract and retain frequent business travelers. Those programs may be at risk of losing some benefits. But frequent flyer programs aren’t in danger of disappearing. They have evolved so that deals with banks to stimulate credit-card spend is how airlines make money from them rather than by getting people to fly a particular airline. The deals with banks are a major source of revenue that is almost pure profit for U.S. airlines.
If business travel fails to bounce back, airlines like American, Lufthansa, and Qantas, for example, may look a lot like Spirit Airlines and Ryanair.
I hope business travel picks up. The high prices business travelers are charged pay for a lot of the frequent flyer benefits that I enjoy while paying leisure-fare prices. Business travel also supports the luxurious services and seats in international first and business class cabins and lounges that are available to non-business travelers when we use our miles and credit-card points for travel in international first and business class. I’d hate to see those lavish products and services disappear.