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  • Michael Warnken

Are Loyalty Programs Loyal?

What does it mean to be loyal? According to our good friend Mr.Webster, loyal means “characterized by or showing faithfulness to commitments, vows, allegiances, obligations, etc.” In any relationship, whether personal or professional, loyalty is a two-way street… or at least it should be.

Are loyalty programs loyal? They used to be. Not so much these days. But they can be again.

The Early Days of Loyalty Programs

Airline loyalty programs got their start in the 1980s, when average airline load factors hovered in the mid-60s.That means, of course, that almost 40 percent of an airline’s seats were empty, and airlines were scrambling to do whatever they could to fill those empty seats. The marginal cost for them to do so was quite low. In fact, the marginal costs rounded to $0 when load factors were that low.

Offering free tickets wasn’t a big cost because the seat would have flown empty anyway. And a first class upgrade? Also, not a big cost as very few people could actually afford first class airfares. Access to airline clubs when they came on the scene was also not that expensive. Yes, there was the cost of the real estate in the airport and the staff to host customers, but after that sunk cost, the marginal cost of some food and beverages for your loyal customers while they waited for their flight wasn’t a big deal.

But that was 40 years ago and much has changed since then. Airline load factors and yields improved. There was some initial industry consolidation as the result of deregulation in 1978. Airlines developed more sophisticated revenue management tools and strategies to optimize revenue (including first-class airfares that customers would actually be willing to purchase). Sales teams became more sophisticated and developed corporate programs that shifted share from other carriers and enabled corporations to better control their travel and entertainment expenses.

The world became even smaller as airlines developed global networks through alliances and offered frequent flyer benefit reciprocity. And, of course, the advent of internet distribution helped airlines get even better control of their distribution and better attract and incentivize loyalty customers.

Loyalty Currency Devalues

But as load factors increased -- which is the exact thing airlines wanted to happen -- loyalty currencies began to be devalued. Member tiers were introduced. Now upgrades were made available to fewer people. Award availability was reduced either through capacity restriction and/or blackout dates. Award tickets began to have different redemption rates based on your tier. As airline load factors increased from the early 1990s onward, the currency only continued to be devalued to be almost unusable, as anyone who has tried to book award travel to Hawaii over the holidays can attest.

Now, in their defense, airlines did not have much choice. Demand grew. Yields increased.

Supply grew at a slower pace than demand, so load factors increased. In 2019, global airline load factor grew to 82.6 percent--the highest ever. There were 4.5 billion passengers globally—also the highest ever. That meant the marginal cost of upgrading a loyalty member or allowing them to redeem their points was significantly higher, especially in the most popular markets on the most popular days to travel. And let us not forget that the 82.6 percent load factor achieved in 2019 was the average load factor. The most popular markets were experiencing even higher load factors, so the displacement costs imposed by a loyalty member in these markets were even higher than the average displacement costs.

2019 was the most profitable year ever in the airline industry – and that is a good thing! Having a healthy, economically viable airline industry is crucial to a healthy, global economy. Everyone benefits from a financially healthy airline industry. Everyone. But that profitability came at a cost.

Loyalty in the Era of COVID-19

As airlines have devalued their loyalty currencies, they continue to rack up trillions of points in liability. The earn/burn ratio is grossly out of sync and point earners are the ones at a disadvantage. Yes, airlines carry the liability on their balance sheets, but, as we’ve seen in the COVID-19 crisis, they were able to monetize those points and borrow against them to secure their own liquidity during this time of crisis.

As we emerge from the COVID-19 crisis, airlines are already going back to business as usual with the lure of various incentives to entice people, particularly business travelers, to travel again. There are bonus mile offerings, mileage “accelerators,” and/or extensions of status.

These types of incentives only increase point liability and put further pressure on the value of points. There is also the risk that these bonuses and incentives become baseline expectations for travelers in the future which further exacerbates the problem. And the reality is, it’s unclear if they will work anyway because there are fundamental changes occurring in business travel that are not driven by loyalty members, but by the corporate travel policies of their companies.

As we get past this crisis and load factors increase, we will see continued pressure to devalue loyalty points even further in order to maximize revenue.

So, I think it’s safe to say that airline loyalty programs are not as loyal as they used to be. And the reality is that in the current environment they can’t be, not when they continue to be structured based on a paradigm from 40 years ago.

Companies are changing. Members are changing. Business models are changing. Airline loyalty programs need to be reinvented against the backdrop of these new realities if airlines have any hope of retaining and keeping customers.

At Hospitio, we have ideas about what “new loyalty” looks like both for airlines and for their customers and we are ready to engage with airlines to restructure their programs and make them scalable for the long-term. We want to help airlines help put the loyal back in loyalty. That, coupled with the “ty” (thank you), will make these programs the win-win that they should be.

If you could design the perfect loyalty program, what would it look like?

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