American Airlines Inc. Revenue Management

Supply Chain Management Professional

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M8 – American Airlines Inc.: Revenue Management

March 24, 2016

Contents

Executive Summary        

Issue Identification        

Alternatives and/or Options        

Recommendations        

Implementation        

Monitor and Control        

Executive Summary

In 1988 with an operating income of $801 million on revenue of $8.55 billion, American Airlines, Inc. (American) was the largest airline in the United States. At year-end 1988 American operated 468 aircraft on 2,200 flights daily to 151 destinations in the Unites States, Bermuda, Canada, Mexico, the Caribbean, France, Great Britain, Japan, Puerto Rico, Spain, Switzerland, Venezuela and West Germany.

In 1978 Airline Deregulation gave airlines the freedom to enter or exit routes and alter fares at will and gave airlines the freedom to alter their fares as often as they wished. In marketing, post-deregulation competition was centered around revenue management, ticket distribution, frequent flyer programs, and customer service.

American Airlines uses the hub-and-spoke model which allows them to service direct point-to-point areas with smaller a fleet of short haul planes rather than the larger long distance models.  This helps keep prices competitive but other low cost air lines use the same model and creates hard competition.

The deregulation gave the airlines much flexibility but also created issues around competition, profitability, fuel and maintenance costs. To best manage the multiple flights, seats and costs a very complex system was devised and needed to be managed.

Data management and project control will be one of the tools to use going forward.  Partnering with a software provider to help data mine to increase seat sales and manage loss of sales. Inventory management; reducing inventory costs and looking at costs saving with fuel through fuel efficient aircraft and reduced maintenance. Partnering with other airlines to will help American Airlines take advantage internationally and become more competitive domestically.

Issue Identification

Competition - The 1978 Airline Deregulation Act low-cost entrants we aggressive fares to capture market share on selected routes, intense price competition developed in the industry with negative impact on profits.

Profitability – Many factors were eroding profitability after deregulation. Labour and cost reduction and productivity improvement received urgent attention.  American introduced a two-tier wage structure to reduce labour costs and to achieve productivity gains American negotiated with maintenance and transport workers, flight attendance, pilots, flight engineers and other employees worth work rule concessions.

Fuel and Maintenance Costs - Two of the main components of operating expenses.  These costs were depended on the price of fuel, fuel-use efficiency, FAA regulations on aircraft usage and maintenance, the airlines own aircraft usage and maintenance policies and traffic volume.

Overly complex system/Uncertain Volume - The demand for full and discount fare seats on any given flight was uncertain.  The demand was variable from day to week; there was a bewildering amount off fare types and restrictions.

Over booking of flights / Lost Opportunity – With the increase of online bookings after deregulation the average seat price lasted 2 weeks.  Consumers had more knowledge of pricing.  To cover no shows on flights it was common to overbook flights to prevent lost opportunity.  When flights were over booked this left customers dissatisfied with the service something that the airlines was learning to live with.

Environmental & Root Cause Analysis

American Airlines faced its most significant competition domestically, where multiple carriers competed for the same customer base, commonly on identical routes. In 1978, the Airline Deregulation Act established consumer market power over air travel. Due to the deregulation, competition intensified, prices dropped, and the number of people travelling increased. Many new companies emerged and regional airlines saw deregulation as an opportunity to expand. This action greatly benefitted passengers by driving fares down, but put immense competitive pressure on airlines. Because air travel is a largely undifferentiated product between airlines, this competition principally took place in the price arena.

Two distinct carrier models dominated the market in which American Airlines competed. The legacy carriers, including AA, use a hub-and-spoke model. This model allows carriers to serve a vast network of airports with a smaller fleet size compared to direct point-to point service, and is necessary for the present comprehensive domestic air transport system American Airlines employing this model faced stiff competition from point-to-point low-cost carriers (LCCs).

The LCC model piggybacks on the existing network, typically flying only the "cash cow" routes. In addition to cherry-picking profitable routes, LCCs often also reduce their operating costs by flying to secondary airports in major regions, offering no-frills service with "sardine-packed" seating. Competitors also used a single type of plan to simplify pilot training and maintenance of planes. While such a model does not provide a comprehensive and sustainable air travel system, their ability to undercut the hub-and spoke airline companies presents a significant competitive threat to American Airlines.

There are three key inputs to operations involved in the transportation of freight and passengers by air: fuel, aircraft and labour.

Aviation fuel is the largest single expense in the AMR's budget American Airlines had the highest fuel costs per seat mile, and highest fuel cost as a percentage of operating costs of any of its competitors. Despite the immense amount of fuel consumed by AMR, there was very little bargaining power in the purchase of this commodity, which had a market rate determined externally by long term contracts, future market and spot prices. AMR was limited in its ability to hedge fuel prices and like each of its competitors was sensitive to fluctuations in the price of oil.