Through travel agency commission cuts and rising internet ticket sales, carriers have seen distribution costs tumble, but the legacy cost of global distribution system fees still remains to be tackled.
"As the network carriers continue their relentless pursuit of cost savings, so fees from the global distribution system (GDS) providers have moved to centre stage. "Our distribution costs are those of the 1980s. They have to go down," complains Josef Bogdanski, Lufthansa's senior vice-president sales. "At the price levels of the 1980s the big airlines could afford them, but now the world has changed. They have to go sharply down too." He is not alone in identifying the GDS fee in particular, and the distribution model in general, as a major target for overhaul.
Elsewhere throughout the distribution chain, change has already been fast and furious. The paper ticket is shortly to be a thing of the past and travel agency commissions have all but disappeared in the US and European markets, with other regions taking note. As online sales through airline websites also continue to boom, the GDS fee finds itself exposed as a major cost item ready to be tackled. "GDS distribution is a big cost problem that has not been addressed yet," says Horst Findeisen, vice-president commercial at Star Alliance. "The frightening part is that GDS costs are growing rather than shrinking."
In their fight to lower GDS fees, carriers are strengthening their hand as they explore alternative technologies that promise faster and cheaper transaction processing. The GDSs, meanwhile, find themselves working with a dramatically smaller and more sophisticated travel agency system. They are also interfacing with smart travel management companies that seek to trim distribution costs and are in the midst of a growing revolt against middlemen of all types, a movement that internet shopping has encouraged.
These elements have combined to give airlines more leverage in the balance in power between themselves and the GDS providers. And it is leverage that carriers are keen to use. The changing balance is especially clear in the USA, where last year's GDS deregulation package changed the rules of the game.
Power shift
"The power is in the hands of the airlines at this juncture," says Chicke Fitzgerald of The SolutionZ Group, a Tampa-based consultancy that specialises in airline and travel distribution. "Changes in Transportation Department rules last year allow the airline to decide what model it is to be. Airlines and GDSs don't all have to be the same model, even though it used to be that they had to have the same contracts for Air Zimbabwe as they did for American."
Few argue that GDSs do play a critical role, despite their cost. "They are the most efficient distribution method," says Christian Hylander, vice-president sales and distribution at the SAS central management unit. Former Sabre executive Jerry Gallant says: "As long as airlines sell outside of their home countries, where they are not known presences, they will need an intermediary such as the GDS."
However, such benefits are of limited appeal to the low-cost carriers that have been leading the charge on online ticket sales. In fact, reliance on their own websites and on their own inventory has been a hallmark of the sector. The classic example is Southwest Airlines, founder of the low-fares movement. Today it derives just 12% of its revenues from the Sabre GDS, but books just about 60% of its revenues from its own website. JetBlue Airways, which set out to follow much of the Southwest model, actually withdrew from Sabre at the beginning of 2005, and now brings in 75% of revenues through bookings on its website.
Carriers such as JetBlue and Southwest have strong brand names and a dot.com identity, notes John Dabkowski of Navitaire, which sells the Open Skies reservation system widely used by low-cost carriers to handle internet bookings. He cites Ryanair as a notable European example: "It started out with all four GDSs and as it built its relationship with the customer, it was eventually able to drop all four. It was a psychological as much as a business development. Similarly, people think of JetBlue as a trendy, dot.com-type company." That perception leads to the kind of relationship with the customer that an airline truly desires.
For traditional network carriers, however, the GDS is more than a legacy; it is a part of the very structure of the enterprise. That is why tackling GDS costs is a major part in the distribution strategies carriers are developing. As Hylander of SAS says: "Our ambition is to reduce our dependence on GDSs, although they will stand as our largest distribution channel. We've developed different solutions to reach our customers, differentiating between channels."
Similarly, at Continental Airlines, says John Slater, managing director of distribution planning: "Our distribution strategy is a multiple one, with the consumer website our main emphasis at 25% and growing. Revenues on continental.com grew 50% in 2004 and our goal is to get to 50% of sales through [the site]. But here in the USA incremental gains are harder to get." Like other majors, Slater says, Continental "wants and supports the GDSs. Our only issue is the cost. It is escalating out of alignment. More rational pricing is going to happen."
Perhaps the most aggressive force toward a pricing change has been Northwest Airlines. Last August, it chose to tackle the GDS fee head on. The carrier said it would charge a "shared GDS" fee for any domestic ticket issued by a travel agency using a GDS. At the same time, it imposed a fee on tickets bought at its own call centres, airport ticket counters and downtown offices rather than though its website. Northwest's executive vice-president for marketing and distribution, Tim Griffin, says the move was an effort to be competitive with low-cost carriers, "where they currently have a clear cost-of-business advantage over Northwest". Although it retreated a month later on the concept, its bold statement shook the US industry.
Northwest's move in September to guarantee that travellers would find the lowest fare on its own website, or get a refund, made the point further. Northwest was not alone in offering this type of best fare guarantee: Continental began one earlier in the year, and American and United Airlines both followed with promotions in moves to draw traffic to their own sites. Even when a fare is available through traditional means such as travel agents, a pricing move that generates public "buzz" drives traffic to an airline's own website. When Delta Air Lines launched a major fare simplification in January, it produced the busiest days ever for delta.com, and has kept visits there at a high level.
Discount deals
In their quest to cut GDS costs, US airlines have time on their side, since the GDSs are working under a self-imposed deadline that began in 2002. Worried about not being able to offer their travel agency users all the available air fares, including those being posted exclusively online, the GDSs, led by Sabre, but quickly followed by Galileo and Worldspan, offered carriers a three-year discount on booking fees in return for access to all fares. These direct connect availability (DCA) pacts featured discounts of 10-15% off set per-segment fees. All US majors and a number of foreign players signed up, but carriers dismiss the DCAs as tinkering rather than something more fundamental.
"This is a restructuring of the pricing model, not a business model change, there is no re-engineering about it," says Hylander. Bogdanski says, simply: "It's not enough." Slater adds: "It is fair to say that the DCA deals that we signed three years ago were not a long-term solution. It was trade, but we are looking for higher discounts than we got. But we are not really finished with the DCAs."
The first of these deals come to an end later this year, but Worldspan's Ninan Chacko, senior vice-president of e-commerce and product planning, says that the discussion on the successors to the DCAs has already begun. "It is a wide-ranging economic discussion about the value of the GDS and their role in the value chain. We'll reach the right point."
Unlike its US-based counterparts, Amadeus dismissed the DCA deals as no more than a "truce" and at the end of 2003 announced that it would go a step further with its value-pricing strategy: relating the booking charge to how and where the ticket is sold, rather than simply imposing a flat fee. This was a major shift, says TravelTech consultant Norman Rose, who is also the PhoCusWright consultant on GDSs. "The value chain focus has begun from the Amadeus pricing move. This is a complex process that involves more than just lopping a percentage off here or there," he says. Jake Fuller, an equity analyst with Thomas Weisel Partners says that when the DCA deals end, there will be "many new forms of pricing but the clear fact is, prices will be lower."
European deregulation
Market-altering GDS regulation is also on the cards for Europe. It is on the European Commission's agenda for possible introduction later this year. Deregulation would let carriers move away from the flat-fee system and negotiate different fees in various markets depending on sales volumes. But for agencies the critical issue is access to content. "With deregulation what we don't want to see is airlines restricting access to certain GDSs," says Bernard Harrop, director corporate services at American Express. Air France wants deregulation to give European carriers deals like those offered in the USA. Henri Hourcade, vice-president distribution and internet at Air France, says: "US carriers are able to negotiate much more in the USA compared with European carriers because of their market size."
In fact, deregulation seems likely to play out far more rapidly for the GDSs than it did for the carriers. Air Canada has already used the changing regulatory climate to craft a distribution strategy that embraces both the GDSs and the internet. "Three years ago we were dabbling in the internet and saw the phenomenal growth. In February 2003 we went to talk to the GDSs," says Marc Rosenberg, vice-president for sales and product distribution. "At that time, the regulators wouldn't let us pick or choose and we couldn't talk volume discounts. The obligated carrier role meant fixed prices and that we had to deal with all four GDSs. The US deals allowed some form of discovery on what the price should be. So we set as a goal the point of indifference as to the price variances."
Air Canada balances its Sabre relationship with its own strong website, and Rosenberg says the experience showed that the legacy GDSs can adapt and do so with agility. "Compared with the low-cost carriers, perhaps they're not there yet, but we are much more comfortable with the GDSs now than we were year or two ago."
Canada is unique in that it has only one major carrier. Elsewhere, small and medium-sized players worry they will not be able to extract the deals larger carriers can command, says Erik Follet, executive vice-president network at SN Brussels Airlines.
For some smaller carriers, however, deregulation has come at just the right time. Independence Air, a former US regional, began low-fares operations in 2004 proudly trumpeting that it had no GDS distribution at all as part of its low-cost strategy. But the carrier, which had previously flown as a United Express feeder, soon ran into trouble as it tried to build a brand in the face of muscular competitive response. By late 2004 it had reversed its distribution strategy. "Deregulation had come along at the perfect time," says the carrier. "It gave us more flexibility to choose from the GDS services and avoid things that we didn't want to pay for, like paper tickets or interline agreements. These are things we don't need with our simplified fare structure." Independence is now in all four of the GDSs.
For some carriers, and some regions, managers might like lower costs, but are not in a rush to change. For carriers with predominantly longer-haul services where high yield bookings using GDSs are more prevalent, there is less pressure. "We think GDS fees are too high, but we are keeping an open mind on any alternatives," says Paul Wait, general manager sales at Virgin Atlantic, who adds, "we are very much in the observation mode at the moment."
Geographically the role of GDSs varies. In the Middle East, for example, less than 5% of bookings are made on-line, making travel agency distribution extremely important, explains Danny Barranger, head of sales for Gulf Air. In large parts of Asia too the ability of the GDS providers to link into a still thriving network of travel agencies ensures a key role for the some time yet.
REPORT BY DAVID FIELD IN WASHINGTON AND MARK PILLING IN LONDON
Source: Airline Business
