Revenue Based Airline Award Redemptions

Last week Delta dropped a bombshell by announcing that in 2015 they’ll start awarding SkyMiles based on the amount a ticket costs vs. the number of miles flown.

This is a development a lot of us feared, and is perhaps the logical follow up to their decision last year to institute revenue requirements for SkyMiles Medallion status (which can easily be waived by spending $25,000 on one of their co-branded credit cards).

My writing style on this blog is generally very “stream of consciousness,” so I’ve been struggling to write a blog post about what I consider to be the “big picture” implications of this. Will other airlines match? What does this mean for mileage redemptions? Will this impact people earning miles primarily through non-flying activities?

And I’ve just struggled to do so, because I have so many damn thoughts. So I guess this is as good of a time as any to do sit down and jot them down…

I don’t have hard feelings towards Delta

I actually really respect Delta as a company. Their route network is amazing, they’re outrageously profitable, and they treat their employees really well. Domestically they’re tough to beat given that they offer wifi on virtually all of their planes. As far as I’m concerned they are the airline of the business traveler.

Delta-BusinessElite-Detroit-02
Delta BusinessElite seat

I personally have no interest in flying them because I prefer an airline with a more generous frequent flyer program, but that’s the beauty of a free market. I can fly another carrier that’s more rewarding, and others that value Delta’s route network and product, and care less about frequent flyer benefits, can continue to fly with Delta.

For all practical purposes, mileage earning rates are being cut in half

One of the things about Delta’s new program is that it’s tough for frequent flyers to immediately quantify how the changes impact them. Because aside from us nerds, most people don’t actually think of their travel in terms of cent per mile ratios.

For all practical purposes I’d say earnings rates are being cut in half. When Delta announced a revenue requirement last year they were basically saying that they expect their average frequent flyer to spend at least 10 cents per mile. Under the new program you get five miles per dollar without status, which is roughly half the earnings rate of before assuming an average spend of ten cents per mile. Of course if you have status you earn more miles, though this is the case under the old and new program.

And of course this is simply an average. If you primarily fly full fare business class to Asia on $10,000 tickets then these changes are awesome for you. If you primarily fly full fare economy on shorthaul flights then these changes are awesome for you. But for most others, not so much.

Lets be clear here. While it’s packaged differently, at the end of the day this is roughly the same as most foreign frequent flyer programs, which offer reduced mileage earning for discounted economy tickets and vastly increased mileage earning for premium cabin tickets.

For example, Lufthansa Miles & More offers 25-50% mileage for most discounted tickets, while they offer up to 300% mileage for paid first class tickets. When you crunch the numbers on Delta’s new earnings rates, it really isn’t much different.

Lufthansa-Earnings-Rates

The Singapore KrisFlyer program is very similar:

Singapore-Earnings-Rates

Is Delta’s new program targeting the right audience?

Here’s what I find most interesting about Delta’s changes. They say they want to reward their most valuable customers better. But at the end of the day airlines are making money at the margins, and ultimately they do that through a careful balancing act between inventory management, revenue management, and loyalty programs.

And while programs where rewards are based on miles flown aren’t perfect, I have to wonder to what degree the customers Delta is targeting actually care about miles. If you’re flying full fare longhaul business class, my guess is that you’re doing so either because:

  • The schedule of the airline you’re flying works best
  • The business class product will allow you the most rest
  • You have a corporate contract with the airline or they’re a preferred carrier for your company

Meanwhile compare that to your “average” management consultant flying paid economy weekly and spending an average of 10-15 cents per mile. Something tells me with these changes you’ll lose more of these types of customers than you’ll gain the full fare premium cabin flying customer.

At the same time, this program is great for people willing to abuse their expense accounts. I can see people booking more expensive tickets or holding off till the last minute to book in order to get the highest fare possible.

Are frequent flyer programs too rewarding for flying?

It’s worth remembering that frequent flyer program benefits are somewhat cyclical. Ultimately frequent flyer programs are intended to maintain loyalty and drum up additional business. But they come at a cost.

When the economy sucks loyalty programs can help fill seats, while when the economy is good they can be a hassle.

I’m an American Executive Platinum member, and I always give the example of making a mileage run to China in November on an $800 fare. I can use systemwide upgrades to upgrade, and earn at least 15,000 base miles roundtrip. As an Executive Platinum member I get a 100% mileage bonus, so that’s at least 30,000 miles roundtrip.

That’s enough for a one-way economy class ticket to Asia. So it’s basically a never-ending buy two get one free sale.

Now in the case of a flight in winter it could be that the seat would otherwise go out empty so the marginal cost of transporting an additional passenger is next to nothing, but for the purposes of the example it doesn’t really matter. You earn that many miles whether you’re buying the last seat on the plane or there were 100 other empty seats on the plane.

It’s not something I like to say, but it does make me understand their perspective. Frequent flyer programs are much better than a “buy 12 coffees and get one free” punch card.

Earning miles based on revenue doesn’t change anything

“So, is this the end of mileage runs?”

I’ve heard this question asked over and over the past week, and while I get the idea behind it, the truth is that mileage runs have been “dead” for years. Yes, if you enjoy flying and look at those trips as mini-vacations they can certainly be justifiable, but the days of mileage running are dead:

  • Airlines have more restrictive routing rules — in the past you could often route double the direct distance with only adding a few dollars to the airfare, while it’s rare for that to be the case nowadays
  • Airfare is much higher — back when airlines were publishing $200 roundtrip transcontinental flights, mileage running was easy to justify, but those days are for the most part over
  • Airlines aren’t running generous promotions  — I got started mileage running with a promotion that offered 5,000 bonus redeemable and elite qualifying miles per segment… those days are long gone
  • Airlines are selling miles cheaply — this is a somewhat new phenomenon, as five years ago airlines weren’t consistently selling miles for less than two cents each, so it’s even tougher to justify the energy it takes to get on a plane for miles nowadays

Don’t get me wrong, if Delta institutes this policy and other carriers don’t match then it may cause people to shift business, but in terms of industry trends I don’t think it will actually change consumer behavior overall. Mileage running as a “sport” hasn’t been lucrative for a while.

Airlines will continue to issue more miles through non-flying means

Frequent flyer programs are massive profit centers for airlines. Not only do they generate loyalty towards an airline, but they are actually in and of themselves profitable. Airlines don’t want to screw that up. What they want to do is “give away” fewer miles for trips people would take anyway.

As it stands, more than half of miles are earned through non-flying means. If the airlines had their choice that number would be 99%, I think. So I don’t think these changes have any implications for those earning miles through credit cards, mileage portals, etc. I only see those getting more rewarding over time, while it gets more and more difficult to earn miles through actually flying.

I don’t think the legacies will shift exclusively towards revenue based award redemptions

When Delta announced a revenue requirement for status, that sucked (for most of us). When Delta announced miles would be earned based on money spent rather than miles flown, that sucked (for most of us). So is the next logical step for the legacies to make mileage redemptions exclusively revenue based?

I don’t think so. I really don’t.

Lets look at the US low cost carriers with revenue based award redemptions, like JetBlue, Southwest, and Virgin America. In each case, the number of points required for an award redemption is based on the revenue cost of a ticket (at least for travel on their own flights). Here’s how much each “point” will get you:

  • JetBlue TrueBlue: ~1.5 cents of airfare per point
  • Southwest Rapid Rewards points: ~1.4 cents of airfare per point
  • Virgin America Elevate points: ~2.2 cents of airfare per point

With Southwest that’s the redemption rate when “Wanna Get Away” fares are available, while with JetBlue and Virgin America you can buy any seat at (roughly) that rate with points.

And at what rate do they issue points for travel?

Compare that to Delta which is also offering 5x miles per dollar spent. With the low cost carriers they’re offering you at a minimum 8.4-11% return on your airfare.

Do you think the cost to Delta for a redeemed mile is anywhere close to 1.4-2.2 cents? I’m gonna go with “no way.”

First of all, the legacy carriers are literally issuing billions of miles through their co-branded credit card offerings. I’d be willing to bet the banks are paying less than 1.4 cents per mile. If I were a betting man I’d guess it’s closer to half that (though I have no inside knowledge here). Heck, the cost per mile at which airlines reimburse one another for partner travel is even less than that (for example, if you credit a Delta flight to Alaska).

The legacies have full control over how many award seats they release at the saver award level. What the airlines will continue to do is raise the cost of non-saver redemptions. Those are the award seats that are costing them the most.

Years ago almost all carriers allowed “rule buster” standard awards for the last seat on a flight. Basically you could redeem double miles for the last seat on a plane. Over the years those redemption rates have gone up or been eliminated altogether, and understandably so.

Actually, American is the only legacy carrier offering last seat availability to all members at roughly double the cost of a saver redemption (though in some markets those costs are creeping up). Think of how much how much it’s costing them to offer that last seat for an award. Say two months before departure there’s one business class seat left for sale between Los Angeles and London. You can redeem 100,000 miles for that last seat when someone else would potentially be willing to pay $5,000 for that one-way seat. Now that’s an expensive award offering. So I think we’ll continue to see the cost of non-saver redemptions creep up.

Lastly, even partner award redemptions aren’t that expensive. In December I shared just how little premium cabin award redemptions on partner airlines cost the loyalty programs. When United books a transatlantic business class award seat on a partner airline it’s costing them $300-400, while they’re nowadays charging 70,000 MileagePlus miles for the one-way. That’s a redemption cost of half a cent per mile, which is cheap compared to the redemption costs on any of the low cost carriers. On top of that keep in mind that even that isn’t a “real” cost, since it’s ultimately an accounting exercise. Airlines are booking seats on one another, and at the end of the day there’s mostly equilibrium.

Bottom line

For just about the first time in this millennium airlines are making money by flying planes…who would’ve thought? They want to maximize their profits, and part of that is giving away fewer rewards for tickets people would purchase anyway.

Loyalty programs are healthy businesses in and of themselves, in particular when it comes to partnerships and co-branded offerings. I expect the rates of costly redemptions — like non-saver awards — to continue to go up, as those are the ones actually costing the airlines money.

I also wouldn’t be surprised to see them continue to introduce a “cash & miles offering,” whereby you can redeem 25,000 miles for a ticket, OR something like 15,000 miles plus $100. But I don’t think we’ll see straight, exclusive revenue based redemptions for the legacy carriers anytime soon. Not because I don’t want to see it, but because I don’t think it’s in their best interest.

What do you think? Am I totally off base?

Comments

  1. “that’s the beauty of a free market”

    what free market? oligopoly does NOT equal free market.

  2. I agree with you on the revenue-based redemptions for two reasons: A) None of the airlines that currently have such a program fly business class internationally, so they don’t ever have to ask something like a million miles for a business class ticket, which would be an extraordinarily bad optic. B) It would kill the aspirational value proposition of their lucrative credit card business, and ultimately push more people towards cashback cards. All that being said, I still think Delta has a serious plan to try it at some point.

  3. @Lantean – that really depends on how you define oligopoly. If you disregard the existence of JetBlue, Southwest/Airtran, Spirit, Alaska, Frontier, and Virgin, then I guess yes, you have an oligopoly on your hands.

    @Lucky – a very well written article. I got my fingers crossed that AA/UA won’t follow suit.

  4. The credit card mile programs are pure gravy to the airlines. The banks are purchasing miles when we make charges, and our FF accounts are credited. So the airlines are getting cash up front.

    What’s hard is using those miles.

    Ben has a great system – he finds availability, books the flights, and plans his travel around that. That works!

    But miles are increasingly useless for a lot of people. Say I need/want to fly a particular flight on a particular date. Chances are high that I WON’T be able to upgrade that flight using miles – or get an award ticket on that flight in Business or First.

    Kudos to Ben, Mac, and the rest of his team because they perform miracles, as far as I’m concerned … scoring me at least three sets of international business class award tickets this year. I could never figure that out on my own.

    Earning miles is not the hard part of the equation for many; it’s spending those miles. And the harder it gets to spend them on upgrades and premium award travel, the more we need services like Ben’s!

  5. Lucky — You are a great analyst of this industry and I really enjoy reading your blog; however, your statement relating to “treat their employees really well” is disputable. Being a Medallion member with Delta for the last 10-odd years and flying plenty with them on a monthly basis, you tend to hear a lot of unhappiness coming from the flight attendants. Just this week I was on a flight from LHR to DTW and I was talking to a couple of them and they were quite unhappy with the lack of a ‘union option’ and rather scared that they their jobs might be outsourced. (Case-in-point Virgin Atlantic that hires a number of foreigners, pay them a third of what they pay their “own” employees and thus they are forced to work more hours per month).

  6. The in-and-out weekly management consultant or salesperson type often flies really short routes on modestly expensive fares, so I think they will really like this. Someone without status flying $400 LGA-DCA roundtrip every week is much better off — currently earning a pathetic 430 miles roundtrip (no more 500 mile minimums) but will in future earn 2,000 miles. I think those are the valuable customers who are sensitive to frequent flyer miles who Delta is targeting, and Delta (along with US) has a lot of those customers thanks to their historical concentration on the East Coast where short flights are prevalent.

    This change might be harder for United since they are (and especially pre-CO were) more dominant in trans-con and international flying, as well as interior west and west coast flying where even short legs tend to be longer than 214 miles.

  7. I keep saying it: American has long had a revenue-based option for earning status: buy expensive fares and you’ll qualify on points faster than on miles.

  8. @ Lantean — While I don’t like the decreasing competition, I’d hardly call the US airline industry an oligopoly. Domestically they have dozens of low cost carriers competing with them, and internationally there are tons of airlines competing with them as well.

  9. @ And000 — At every company there will be some people that aren’t happy, but compared to the other legacies I do think Delta treats their employees exceptionally well. I mean, they just had an employee profit sharing of over half a billion dollars.

    And regardless of where you stand on unions, it says a lot that the flight attendants voted against being unionized — clearly they trust their management enough to feel that they don’t need a third party negotiating on their behalf.

  10. @ Susan — That’s a good point, though keep in mind that the primary reason for a revenue based program isn’t so that people have more options, but rather so that the airlines can exclude the market segment that they generally consider to be unprofitable.

  11. I can’t wait until Delta release their new award cost chart and people realize how bad it is.

    It’s going to be fun to watch Delta try and spin 2x more availability of a 200k award as better than a 1x low availability of a 150k award.

  12. @ joh m — I’m waging my bet now that I don’t think low level redemptions will go up in price by much. Ultimately even if we see the chart now, the real “test” is what availability is like, which we won’t know for a while.

  13. Lucky – I get your point in terms of profit sharing; however, with respect to the union being voted down by the employees, the reason behind that was the younger staff members were against it as they felt a number of them might lose their jobs and one also taking into account the economy at that point wasn’t doing particularly well so people generally were happy and felt blessed with what they possessed.

  14. I agree with Lucky. Redemptions are never going to be based on the cost of the actual ticket. Right now saver redemptions allow airlines to fill seats that would otherwise go empty. This costs the airlines almost nothing.

    The problem right now is that empty seats like are somewhat rare, so there is less saver availability.

    It is unfortunate, but the people who play the points and miles game have a perverse incentive to wish for recessions so that award programs become more generous.

    People who think that there are more people playing this game now than there were in 2010 and it is causing devaluations are wrong. It’s just the economy improving!

  15. @Lucky
    I guess we can agree to disagree…

    @Tom
    Definitely more people playing the game… when you look at pushy blogs like MMS that make it all sound like today you apply for a credit card (thru his link) and tomorrow you’re in first class on Qantas A380 on your way to Sydney… who on earth would not sign up for that???

  16. @DavidO

    I do agree with you that if you that if you expect to pick a couple of flights and redeem your miles for business class travel (or first if you’re picky) on those flights, then you are likely to be out of luck.

    But with a little flexibility — and more importantly, advance planning — I haven’t had trouble using my miles either.

    I do get your point, but I’ve also been able to make this system work for me.

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