Analysis: Factors that Transformed Pricing

Aggressive lower cost carriers now drive industry pricing decisions. But in the past few years, the network airlines began working vigorously to approach the low-cost carriers’ cost levels in the face of emerging passenger growth, lower business fares and higher fuel prices.

Three primary reasons for this transformation within the airline industry:

• Internet fares:  Near universal pricing transparency has been achieved through individual carrier and independent travel booking entities’ websites. These venues have eliminated the network carriers’ near-monopoly control of the industry pricing structure.
• The 2001 recession:  Even before the terrorist attacks on September 11, the 2001 recession sharply reduced the revenue stream for network carriers generated from business travelers willing to pay higher fares. This business downturn forced corporate travel managers to seek lower prices for travel. The increased pricing transparency provided by the internet enabled these businesses to more easily book travel at reduced price levels. 
• The impact of 9/11:  The severe traffic decline following September 11 forced the network carriers to cut flight operations and employee headcount significantly to limit their upward spiraling costs. The more conservatively positioned cost structures of the low-cost carriers enabled them to better withstand the initial revenue fallout from 9/11, and simultaneously, to begin to capture market share that had been voluntarily ceded by the network carriers in their cost reduction efforts.

These factors produced two further changes to industry pricing:

• New pricing model: The Southwest Airlines pricing model that established a specific fare ceiling was adopted at differing levels by other low-cost carriers – initially America West Airlines and Frontier Airlines. The ceiling approach reached the network carriers in January 2005 when Delta Air Lines introduced its Simplifares concept nationwide
• Restrictions relaxed: The network carriers relaxed travel restrictions, such as Saturday night stayovers, on some of their lower price restricted fares.

Impact on network carriers:

• The network airlines reduced flight operations and headcount significantly.  As they continued to lose market share to low-cost carriers, these carriers further cut costs by reducing in-flight amenities and other services, a traditional arena of competition for the network carriers that had carried over from the era of regulation. The network carriers removed billions of dollars of operating cost from their income statements.