analysis
U.S. Post-Deregulation Travel Distribution
The Moment of Truth and Call-To-Action
Prepared by Business Travel Coalition
April 19, 2006
I. INTRODUCTION
After decades of U.S. federal government economic regulation, the global distribution system (GDS) industry is currently undergoing a marketplace upheaval that could bring with it acceptable changes or devastating losses to travel industry principals. Some airlines are endeavoring to structure a fundamentally new economic relationship among these principals -- airlines, GDSs, travel management companies (TMCs)[1] and corporate buyers -- that could have irreversible, worldwide implications for corporate managed travel. No issue in a generation has been this important to the travel industry or corporate travel managers.
At issue is whether the lion’s share of benefits from a new distribution system model will flow primarily to network airlines at the expense of others, or alternatively, whether all principals’ interests will be taken into account. So far, TMC and corporate travel executives have been largely silent and unengaged; however, their bottom lines are at great risk. The economics of the new model will likely be determined by this summer, when (for better or worse) most of the new airline-GDS agreements will be concluded. Many TMC and corporate travel executives are in danger of being surprised and unprepared for potentially radical change. However, corporate travel managers are in the best industry position to influence the outcome, if they choose to speak out.
II. BACKGROUND
For twenty years ending in 2004 the U.S. GDS industry was heavily regulated by the U.S. Department of Transportation (DOT) mainly because the airlines that owned the distribution companies used their ownership positions to distort travel agents’ neutrality, frustrate airline new entry and drive the costs of their airline competitors up. In cities where airlines dominated hub airports and controlled most travel agents’ desktops through their GDS firms, the effects of airlines’ abuses were especially pernicious and often led to exceedingly high business airfares.
This regulatory period was characterized by a single, DOT-imposed business model, replete with one-size-fits-all approaches to travel distribution services, including significant pricing restrictions. Most corporate travel managers had no reason to pay much attention to GDS issues, since access to content was assured by law and incentive payments were money in the bank.
By 2003, U.S. airlines had sold their ownership stakes in these GDSs, which changed the relationship between GDSs and airlines dramatically, and paved the way for deregulation. These travel distribution firms were now standalone businesses freed of their airline parents, but encumbered by the now unnecessary DOT regulations. Indeed, airlines’ divestiture of ownership positions in GDSs eliminated the rationale for regulation. GDSs and other industry participants successfully petitioned the government to deregulate the marketplace for travel distribution services. DOT announced GDS industry deregulation during the last week of 2003. An airline drumbeat for reducing GDS costs suddenly got louder.
Airlines and GDSs, both about to be thrust into a deregulated environment, entered into a series of three-year agreements in late 2003 which gave the airlines significant reductions in booking fees in exchange for full content guarantees. This brought some stability to the marketplace for a 3-year period for suppliers, distributors and customers, and bought time for industry participants to conceptualize new business models, relationships, products and services. Indeed, much experimentation began to take place.
Some airlines predictably used this time to try to bolster new alternatives that would dramatically alter the economics of travel distribution in their favor. In 2005, in advance of the expiration of these agreements the following year, some airlines deployed a full blown industry relations campaign in support of new entrant technology firms. Although the technology was unproven and remains largely undeployed, the issue, fueled by airline support, dominated the industry trade press and industry gatherings. Many observers saw airlines’ very public support of these new entrants, however, as mere posturing ahead of 2006 GDS negotiations.
Unsettling threats were made by some airlines that they would consider withdrawing content from a GDS altogether. Those threats made TMCs and corporate travel managers nervous. Sabre and Amadeus responded with a content backup agreement in March 2006 guaranteeing content from the other GDS should such a worst-case scenario develop. More recently, American Airlines and Continental Airlines announced new agreements with Worldspan amidst unparalleled secrecy over their details. Confusion has quickly gripped the marketplace with speculation that incentives would disappear entirely and TMCs and corporations would have to begin paying for access to content.
Negotiations between GDS companies and airlines are occurring right now – some deals have already been signed. Others are likely to be reached in the next few months, and it’s probable the details of these transactions will have a profound and perhaps permanent effect on the economics of travel distribution. The die is about to be cast. Corporate travel managers could be in the not-so-advantageous position of informing senior management that GDS pass-through financial incentives will not be available in 2007, and moreover, there could be a significant content access fee added to each airline ticket. There would potentially be hundreds of thousands to millions of dollars in bottom line impacts for corporate buyers. ARC-certified CTDs would be particularly vulnerable.
III. THE EVOLUTION OF THE MARKETPLACE
As the commercial air transportation marketplace has evolved, at the upstream position there are several hundred airlines connected to a small handful of GDSs immediately downstream. These GDSs provide significant value to their airline customers by signing up thousands of TMCs that match the airlines’ geographic and market segment needs. These TMCs provide airlines further benefits in connecting airlines to millions of downstream customers.
This marketplace has operated very well for airlines. Up to 50% of the GDS segment fees paid by airlines are actually competed away downstream as GDSs vie with one another to sign up TMCs that are in market positions to benefit airlines that are GDS customers. Incentive payments paid by GDSs to TMCs are likewise often competed away by TMCs competing to sign up corporations, also for the benefit of airlines at the upstream position.
The GDS segment fee has evolved to become the financing mechanism for a marketplace consisting of millions of complex airline-related products and services and hundreds of millions of end customers spanning the entire globe. Many other industries’ markets such as the cell phone industry are organized and financed in this same manner. Economists such as Dorothy Robyn of The Brattle Group describe the GDS and similar industries as ones with a “two-sided intermediary market.”
IV. CURRENT SITUATION
So the issue is not that change is coming, or that there might even be a reconfiguration of economic responsibilities among airlines, GDSs, TMCs and corporate buyers. The issue for BTC is whether the outcome of the current uncomfortably secretive process, which will end in just a few months, will enrich just the airlines at the expense of their best corporate customers, or alternatively, will conclude with customer and TMC interests protected.
According to industry sources, there are signed airline-GDS agreements that are truly toxic to corporate managed travel programs, but these agreements are being kept secret under confidentiality clauses until the marketplace has moved closer to the model envisioned by some airlines. These airlines are counting on corporate travel managers being asleep at the switch until such time as it is too late to influence the design of the emerging model. It’s time for travel managers to engage the issue and take action to protect their companies’ interests.
V. POTENTIAL OUTCOMES
BTC sees three potential outcomes:
1. Fine Tune. The existing incentive-based model will remain with across-the board reductions in booking fees charged by GDSs to airlines and reductions in incentives paid to TMCs by GDSs.
2. Variable Change. Several variations on the existing model will emerge with no dominant, market-leading framework prevailing.
3. Blow Up and Dominate. A sweeping, radical transformation of the existing business model will be forced on the market wherein incentives to TMCs virtually disappear and corporations pay for content.
VI. INDUSTRY CONCERNS
There is little doubt that some major airlines are working diligently to ensure that outcome #3 above comes to be the prevailing model, but without input from and recognition of the concerns of corporate customers. These airlines want TMC incentives virtually eliminated. It’s very unclear that any thought has been given to how such a model would impact other stakeholders.
The airlines have an unimpressive track record when it comes to strategic distribution decisions, and in particular decisions that impact their best customers. Corporations need assurances that the existing marketplace model described above is not replaced with a fragmented and inefficient one with total processing costs rising from complexity and pricing levels increasing through lack of access to full content.
In the most macro economic sense, it is the corporate customer who is largely financing the current travel distribution system. Its costs are baked into the price of a ticket. It is the corporate customer who is also at most risk should the current model be precipitously blown up. However, and importantly, it is the corporate customer, more than any other industry participant, who can influence the outcome over the next few months for the benefit of all industry principals.
Blowing up the current model is not pre-ordained. A couple of airlines will not be able to dictate to the rest of the industry if corporate travel managers speak out and secure a seat at the negotiating table now. The choice is simple. Travel managers can accept a new, potentially fragmented distribution system model that saddles corporations with distribution costs they are already paying for in the price of their tickets while at the same time causing overall costs to escalate. Or, they can protest, seek to intervene and ensure that a rational and equitable model finds footing in the marketplace.
VII. THE BTC POSITION
BTC believes that corporate travel buyers, as the best consumers of airline services, bring enormous value to airlines and deserve to have a role in all decisions about revising the industry’s current economic model. Specifically, corporate travel buyers should insist that full content be available through GDSs without additional airline-imposed service fee charges. Corporations already pay for these distribution costs in the price of their tickets. Content source fragmentation is unacceptable as it generates inefficiency and additional costs. Any revisions to the economic model should balance the interests of all industry principals and not be dictated by airlines to corporations and others.
VIII. CALL-TO-ACTION
The American Society of Travel Agents (ASTA) and BTC have teamed up to give both TMC and corporate travel executives a platform from which their concerns can be voiced and interests represented on this issue. The Travel Distribution Working Group has been formed by ASTA and BTC to bring shape to TMC and customer proposals for sensible reform of the distribution system. Membership is also open to other industry Associations. With BTC participation, ASTA will be conducting an industry conference call on May 4 at 2:00 pm (EST) to discuss this critical issue and the details of the Travel Distribution Working Group. Conference call information will be communicated to the industry in the near future.