Little Leverage In The Air

Corporate America is unlikely to provide the short-term revenue fix the airline industry so desperately needs.

The current industry downturn is different than any in recent history, particularly in the way airlines and corporate buyers are approaching the negotiating table. Despite the serious measures airlines must take to secure market share, the new reality could hardly be described as a buyer's market since companies are being offered far less favorable terms. With little ability to pump up travel volume in a weak economy and faced with significantly reduced airline capacity, corporations—accounting for a very large chunk of airline revenues—find themselves with very little leverage.

"If you were on another planet and just looked at all the numbers, you sure would be surprised it is not a buyer's market right now," said Kevin Mitchell, chairman of the Business Travel Coalition. "But it really is not."

Considering strategic sourcing and procurement approaches, sophisticated benchmarking and analytical tools, use of cheaper but more restrictive fares, the strength of the low-fare sector and viable travel alternatives, corporations increasingly have become disciplined to minimize travel costs.

At the same time, carriers no longer can afford to freely float excessively attractive corporate deals. Instead, yield management, rational thinking and careful use of data have supplanted the relationship-oriented approach.

Indeed, the last decade of accelerating corporate travel maturation might provoke a radical redesign of the airline pricing structure—seen by many as the best bet for airline recovery, regardless of the timing of the economic cycle. The industry that emerges on the other side of this downturn—whether it be six months down the road or well into 2003—could look quite different than the one that rebounded successfully from the predicament of the early 1990s.

Of course, a roughly 20 percent reduction in industry capacity since Sept. 11 dramatically changed the formula. But that adjustment is not the grand elixir. For buyers, the challenges go beyond fewer available seats.

"Carriers years ago used to detail to Wall Street the number of corporate agreements they had. Signing new corporate clients was almost a game," noted a former airline executive. "And travel managers got a windfall from that."

Steve Shook, vice president of strategic sourcing at Carlson Wagonlit Travel, said carriers, unconcerned with the value of the contract in the early 1990s, were thrilled just to have a corporate relationship and, "in terms of goals and share shifts, airlines used to turn the other cheek," regarding contract terms. "And the airlines would not want to jeopardize a relationship by pulling down a deal when they didn't have to," he said.

Now, underperforming contracts are being canceled out of basic necessity. "We've gone to preferred suppliers and looked at analyses of their corporate clients. The cost of noncompliance on their contracts is staggering," said Ron DiLeo, senior vice president of North America for Rosenbluth International. "For clients who are missing targets for reasons beyond their control, we feel those deals need to be recalculated."

Unfortunately for buyers, airlines today are asking their clients for larger share and/or volume commitments rather than offering deeper discounts.

"Though some renewed contracts for performing clients are using the same terms and the same discounts, they are in the minority," said John Smith, president of Tower Travel, a Chicago-area travel agency, who confirmed that American and United airlines are canceling many smaller and underperforming accounts. "There is somewhat of a defiant tone from buyers telling the carriers to be realistic or forget about it."

DaimlerChrysler, which last year spent $300 million on global air travel, recently walked away from negotiations with one carrier without a deal. "In the past few months, we've had some situations where there were disagreements, and rather than sign a contract, we chose not to," said Charles Braswell, director of global travel and business services. "We felt we couldn't meet their requirements. It wasn't that we were not willing to commit volume, we were simply not able." DaimlerChrysler's back-up plan, already implemented, directs travelers to other carriers.

Braswell in the past has looked outside the box to avoid high-priced fares in dominant hub markets, such as Northwest Airlines' nearby Detroit hub. In 1998, he threw support behind local startup ProAir (BTN, June 15, 1998) and DaimlerChrysler, with U.S. headquarters in Auburn Hills, Mich., continues to ferry employees back and forth across the Atlantic on a private corporate shuttle now running four times weekly.

The hard line from the airlines is a far cry from their philosophy a decade ago when the corporate travel marketplace was still developing, empty seats needed to be filled quickly and competition for accounts was "much fiercer," according to John Heilner, vice president of Management Alternatives in Princeton, N.J. "There also were lessons learned throughout the 1990s about cutting fares too much," he said. "The mentality today is that they do not want to get into fare wars—leisure or corporate—and cut each other's throats."

Though faring still remains a cat-and- mouse game, the industry increasingly has relied on individual and ever-more complex yield management systems to determine which price each market and customer segment would bear. Years of that practice created the current disparity between business and leisure fares which, during the second half of the last decade, brought sizable profits from a Corporate America that was economically willing and able to pay for convenience and premium service.

Now, economically unable and principally unwilling, many corporate clients are retrenching. Undoubtedly, some proportion of higher-paying business travelers will return to traditional behaviors when the economy rebounds. But in a larger sense, the tide has turned and experts say the airlines should not bank on a full resumption of corporate travel at the fares they had been charging.

Even so, business fares still were up 1 percent year over year in each of the last three weeks, according to Deutsche Banc Alex. Brown airline analyst Susan Donofrio.

BTC's Mitchell said airline executives incorrectly assume business travel reductions are almost entirely based on the slowing economy "and that just like the recessions of the 1980s and 1990s, when the economy strengthens, business travel will snap right back. They appear to be missing the strategic nature of the changes to travel policies and programs at many U.S. corporations."

Today, corporations have a new set of technologically advanced tools and smarter purchasing strategies at their disposal and their travel managers have many concerns beyond traveler service.

Furthermore, air buyers are fed up with perceived gouging, exclusion of Web fares from contracts (see story, page 1) and the controversy swirling around travel agency compensation. So buyers more than ever will not maintain preferred relationships without seeing some level of savings.

Savings, however, can be achieved by other means. "Airlines underestimate the resolve and willingness of businesses to zip up their wallets. Dating back 40 years, business travel has always been far more discretionary than people realize," said Rolfe Shellenberger, senior analyst at Runzheimer International. "But this is the first time we have a major economic cutback and also available travel substitutes that are sophisticated enough for people to use."

Though Webconferencing, videoconferencing and other emerging technologies can reduce the trips taken, airlines highlight the need for some level of face-to-face interaction. But in 2002, that can be accomplished by using the growing operations of Southwest Airlines and its lower-fare ilk.

Low-fare carriers, of course, existed 10 years ago. But since then, the model has been fine-tuned and vastly expanded while in some cases incorporating corporate travel contracts, direct connections and travel management reporting capabilities.

"Southwest and others have a straightforward pricing philosophy. That competition was not always there," Shook explained. "Carriers now have to compete with that further differentiation from a discounting standpoint."

And a cost standpoint, which is of paramount concern for carriers trying to claw back to profitability. "The increase in the low-fare segment will pressure the majors to keep costs low," said Tom Cauthen, associate partner of the travel and transportation practice at Accenture. "This period of time has forced airlines to take an exceptionally strong look at thinking of outside the box."

"In a certain sense, this is some good news for everyone because the industry will become more effective, efficient and productive," he said, pointing to e-commerce solutions for business travelers which should advance personalization, cut airline costs and generate lower, value-priced business fares.

Other keys to recovery, assuming the economy begins to mend and future terror attacks are averted, include concessions from labor groups, traveler confidence in the nation's aviation security and an improved perception among the airlines' corporate clients. Of course, for many buyers, much depends on their own companies' financial health. "Considering all of the corporate stop-travel initiatives, it takes eight to 12 months for traveler habits to creep back in," said Rosenbluth's DiLeo. "We are probably in the middle of that cycle."

The airlines point to the third quarter for a near-recovery in traffic and perhaps earlier for isolated positive earnings, but many analysts don't predict industrywide profitability before 2003.

Even as the impact of the Sept. 11 attacks fades, the industry must address underlying cracks that existed beforehand, evidenced by decline in business travel during the past 18 months.

"In the early 1990s, the turnaround was quick and dramatic by comparison," Mitchell said. "This will be far worse and airlines will have to ask, 'What went wrong in the first place?' "