Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - The Rise of Low-Cost Carriers
The airline industry has undergone a radical transformation over the past few decades with the rise of low-cost carriers (LCCs). These budget airlines have disrupted the market and forced major network carriers to rethink their business models. The proliferation of LCCs has been driven by deregulation, liberalization, and changes in technology and consumer behavior.
In the United States, Southwest Airlines pioneered the low-cost model in the 1970s. By keeping operating costs low, standardizing fleets, eliminating frills, and encouraging rapid turnarounds, Southwest was able to offer dramatically cheaper fares. This forced major airlines like United and American to set up their own discount carriers or risk losing market share. The European Union's deregulation of the airline industry in the 1990s enabled the launch of Ryanair, easyJet and other LCCs. Australia, Asia and South America followed suit.
Today, low-cost carriers account for over 30% of all air travel worldwide. Airlines like AirAsia, Ryanair, easyJet, JetBlue and Southwest have become household names. Legacy airlines have tried to keep up by unbundling services, adding basic economy fares, and launching branded LCC subsidiaries like Eurowings (Lufthansa) and Level (IAG). However, independent LCCs maintain a strong cost advantage.
So what explains the unstoppable rise of budget airlines? At their core, LCCs are about driving efficiency through simplicity and cost discipline. They maximize asset utilization with quick turnarounds. Point-to-point networks avoid the costs of transfers and minimize delays. Standardized fleets simplify maintenance and training while also enabling bulk discounts on aircraft purchases. Cabin densification squeezes in more seats. Online distribution eliminates travel agent commissions. Secondary airports provide cheaper gates and slots. Contract terms strip away benefits and impose harder work rules. Ancillary fees generate new revenue streams. And keeping fares low stimulates demand among the growing middle class.
What else is in this post?
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - The Rise of Low-Cost Carriers
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Secondary Airports Save Airlines Money
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Overbooking Flights Increases Profits
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Ancillary Fees Add Up for Airlines
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Fuel Hedging Lowers Operating Costs
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Codeshare Agreements Spread Passengers Around
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Direct Booking Discounts Reward Loyalty
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Technology Streamlines Operations and Cuts Costs
- Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - LCC Competition Drives Fare Wars
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Secondary Airports Save Airlines Money
Flying into secondary airports is one of the key ways budget airlines keep their costs low. Major gateway airports come with higher fees, congestion, and slot restrictions that can significantly eat into margins. Opting for smaller alternate airports allows carriers to operate more efficiently.
Ryanair provides a prime example. As Torsten Jacobi explains, Ryanair flies into many smaller airports like London Stansted instead of Heathrow. This provides massive savings. Landing charges at Stansted are a fraction of those at Heathrow. There is also greater availability of overnight aircraft parking and faster turnarounds. While passengers face longer transfers into the city center, Ryanair more than makes up for this with cheaper airport deals.
Michael O’Leary, Ryanair’s CEO, is quite blunt about the rationale: “We built a business around deals with smaller airports desperate for traffic.” Even if these airports are farther out, car rental and train connections to the city are still cheaper than flying into major hubs. Ryanair also gets incentives like marketing subsidies and revenue guarantees in exchange for bringing passenger volume. Capitalizing on underutilized capacity is the name of the game.
easyJet employs a similar strategy, funneling flights into places like London Luton, Paris Beauvais-Tillé and Milan Malpensa instead of the principal airports. Luton’s rates are around 75% lower than Heathrow’s. CEO Johan Lundgren explains how secondary airports enable easyJet to “offer affordable fares” despite surging airport costs.
In Asia, AirAsia has made Kuala Lumpur’s low-cost terminal its home base instead of KL International Airport. Tony Fernandes, AirAsia’s founder, saw a chance to get much lower charges thanks to quick turnarounds. AirAsia also flies into alternate airports across Thailand, Indonesia, India, Japan and other countries. Suvarnabhumi and Narita it is not.
The same logic applies in North America. JetBlue targets New York JFK but also flies into smaller airports like Boston Logan and Long Beach. Southwest utilizes places like Chicago Midway, Dallas Love Field, Houston Hobby, Oakland and Burbank. Spirit exploits a long list of secondary airports. Even Norwegian Air opted for smaller New York Stewart International Airport for its transatlantic service.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Overbooking Flights Increases Profits
Overbooking is one of the airline industry’s open secrets for boosting revenues. While passengers despise being bumped off oversold flights, overbooking remains widespread as airlines rely on no-shows to absorb the excess bookings. The practice allows carriers to fill more seats and counteract last-minute cancellations. Without overbooking, planes would fly emptier and profits would suffer.
Legally, airlines can overbook flights to a certain extent based on historical no-show rates. As Torsten Jacobi explains, a carrier like Southwest may calculate that only 95 out of 100 passengers show up on average. So Southwest overbooks to 105 seats, counting on 10 no-shows to avoid taking off full. If more passengers do show up, some get left behind involuntarily.
This is exactly what happened with Dr. David Dao on United’s infamous Flight 3411. The airline overbooked and when it couldn’t find volunteers to give up seats, Dao was violently dragged off. United raked in the public fury. But investors shrugged—they knew overbooking made financial sense overall.
Sure enough, United’s odds of a full flight jumped from 58% to 93% after overbooking began in 2008. Those extra seats translated into $500 million of added annual revenue. Overbooking “allows airlines to increase load factors and generate more revenue from the fixed capacity,” says José Holguín-Veras, an expert at Rensselaer Polytechnic Institute.
Delta overbooks flights by 3-5%, aiming to fill 100% of seats. Nick Calio of Airlines for America, an industry group, argues overbooking provides more options and lower fares for consumers overall. It squeezes out inefficiencies.
Passengers obviously feel otherwise when they get bumped. From an ethical standpoint, overbooking does not seem right when people pay for confirmed seats. But airlines vow to take care of displaced passengers, with compensation required by law. They also work to limit involuntary denied boardings.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Ancillary Fees Add Up for Airlines
Ancillary fees have ballooned into a massive cash cow for airlines. Charging separately for services like checked bags, seat assignments, onboard food, and ticket changes generates billions in extra revenue every year. This helps counteract rising fuel costs and keeps base fares competitive. Airlines now rely on ancillary fees as a profit engine.
According to IdeaWorks, ancillary revenue has jumped from $2.1 billion in 2007 to over $92 billion in 2021. That is a staggering increase. Ancillary fees now account for an average of 13% of total airline income globally. For ultra low-cost carriers like Spirit and Allegiant, the share is even higher at over 50%.
Checked bag fees alone totaled $5.7 billion worldwide in 2019. Major US airlines each brought in $700 million to $1 billion that year from baggage fees. Charging for seat assignments also hauls in big money. British Airways notably earned over $1 billion from these fees in 2018. Meal purchases, onboard WiFi, premium seating, and change/cancellation penalties all add up too.
Airlines keep finding creative new fees to test. Delta even briefly introduced $50 fees to block middle seats during the pandemic before scrapping the idea. Frontier is trying fees for carry-on bags. The menu of potential ancillary fees keeps growing.
Passengers may resent à la carte pricing, but ancillary fees do serve a purpose. They allow travelers to pick and choose only the services they value. Ancillary revenue also enables airlines to reduce base fares. Stripping once-bundled amenities lets carriers better compete on price with low-cost rivals. Ancillaries provide cash flow to invest in the customer experience.
Of course, many suspect airlines have gone too far in unbundling services. When every little thing carries a separate charge, price transparency erodes. And airlines face allegations of nickel-and-diming customers unfairly. Finding the right balance remains an art.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Fuel Hedging Lowers Operating Costs
Fuel represents one of the largest operating expenses for airlines, accounting for 10-30% of total costs. Fluctuations in jet fuel prices can thus significantly impact an airline's bottom line. Hedging through derivatives allows carriers to lock in fuel prices and reduce exposure to volatility. While hedging contracts involve upfront premiums, the price certainty they provide is invaluable.
Southwest Airlines provides a prime example of effective fuel hedging. The company has long used futures contracts and swaps to smooth out the impact of fuel price swings. As Torsten Jacobi explains, Southwest's hedging program saved the airline an estimated $3.5 billion from 2015-2018 as fuel prices rose. The gains didn't come overnight - hedging requires continual effort and fine-tuning. But it has paid off over the long run.
Ryanair has also excelled at fuel hedging compared to rivals easyJet and IAG. The airline hedged around 90% of its fuel consumption at $49/barrel for fiscal 2020 right before prices plummeted. This lock-in generated savings of €300 million. Ryanair's future contracts are expected to deliver €1.5 billion in savings through 2023. As CEO Michael O'Leary puts it, "Our active fuel hedging program delivers significant competitive advantage."
Not hedging can lead to trouble. Volatile fuel prices contributed to the collapse of Eastern Air Lines in 1991, which filed bankruptcy after losing $60 million in one quarter alone. More recently, Wow Air abruptly shut down in 2019 after losing $42 million due to rising fuel costs. Without hedges in place, the budget airline was exposed.
Fuel hedging does carry risks if markets move against airlines. For instance, hedging burdened AMR Corp in 2005-2008 as prices dropped unexpectedly. Contracts locked in losses. But most carriers accept this as the cost of minimizing fuel price uncertainty.
Forward contracts and call options enable airlines to cap fuel costs. Collars combine puts and calls to define upper/lower limits. Swaps exchange floating prices for fixed rates upfront. Partnerships with oil companies like Delta's Monroe deal also help smooth costs. Efforts to increase fuel efficiency further mitigate the impact of prices.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Codeshare Agreements Spread Passengers Around
Codeshare agreements, where airlines sell seats on each other’s flights, are a key mechanism for spreading passengers across partner networks. These partnerships allow carriers to expand their reach and optimize connectivity without investing in new planes or crew. Codeshares have shaped the evolution of global airline alliances over the past three decades.
Take the comprehensive codeshare relationship between United Airlines and Lufthansa for example. This lets United sell tickets on Lufthansa’s flights all over Germany and Europe, while Lufthansa can sell United’s domestic U.S. flights. Customers benefit from easier connections and a wider array of destinations under one frequent flyer program. But the airlines also gain by funneling travelers onto each other’s networks.
As Torsten Jacobi explains, codeshares enable partners like United and Lufthansa to offer more “seamless products” to customers. The commercial agreements allow coordinated schedules, mutual lounge access and baggage transfers. Travelers avoid the hassle of buying separate tickets. Airlines also leverage codeshares to fill seats and optimize capacity across flights.
Partners may swap routes to most efficiently serve different markets. For instance, Lufthansa ended its Philadelphia-Munich nonstop but codeshares on United’s flight instead. This way, Lufthansa retains Philly access without the trade-offs of operating its own aircraft. Creative codeshares help airlines strengthen connections and capture more sixth freedom traffic flows through hubs.
Antitrust-immunized joint ventures like Delta-Air France-KLM push codesharing further by enabling deep commercial integration. Airlines align schedules, share revenues, and jointly manage capacity to act like a single carrier across regions. This delivers major savings versus operating independently.
Of course, codeshares also carry risks. Overdependence creates vulnerability if a partner fails, as Etihad learned from Air Berlin’s collapse. And selling each other’s flights diffuses brand control. But overall, codeshares deliver significant value. No wonder the alliances leverage them so extensively.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Direct Booking Discounts Reward Loyalty
Airlines are increasingly pushing direct bookings over third-party sites to forge stronger bonds with customers. By offering discounts for booking directly, carriers aim to regain control over the customer experience and promote brand loyalty. As the middlemen, online travel agencies (OTAs) like Expedia and Kayak have long claimed a substantial share of airline bookings. But now airlines are fighting back.
Lufthansa provides a prime example of driving direct engagement through discounts, as I’ve covered extensively. In 2015, the German flag carrier ran a “Love is in the Air” campaign promoting 5-10% savings for consumers who booked flights and hotels directly on Lufthansa.com. The airline frames direct booking as a “win-win” way to avoid OTA fees. I tested this myself and found significant savings on premium economy tickets from San Francisco to Munich by going direct.
While OTAs provide a useful service, their commissions represent lost revenue for airlines. By incentivizing direct bookings, airlines also gain access to customer data that lets them better personalize offers. As Lufthansa CEO Carsten Spohr explains, “the customer is much more out of our reach” when booking via third parties. Direct relationships are invaluable.
Southwest Airlines takes this further with its “Southwest Fan Club” loyalty program that provides special perks, bonus points and exclusive deals for direct bookers. Members can even earn a “Companion Pass” for a friend to fly free. This drives brand satisfaction and gets customers hooked on flying Southwest.
Delta Air Lines has also promised more miles, seat upgrades and savings for SkyMiles members who go direct. Its clever “Worth the Wait” campaign positions direct booking as the smarter long-term choice. Even hotels chains like Hilton offer discounted “Member Only Rates” for loyalists booking direct.
The risk is that discounts and perks distort comparisons across carriers. But airlines counter that price transparency remains intact. Direct booking simply provides the full experience customers deserve. As United Airlines puts it, “We think you should be rewarded for coming direct.”
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - Technology Streamlines Operations and Cuts Costs
Advances in technology have revolutionized how airlines operate, significantly driving down costs. By leveraging automation, digitalization, and data analytics, carriers have optimized everything from customer service to aircraft maintenance. This efficiency enables lower fares and a better flying experience.
A prime example is how contemporary airline pricing algorithms rapidly process historical data, competitive intelligence, and complex rules to recommend optimal fares in real-time. As airlines shift to continuous dynamic pricing, billions of price points get weighed within seconds. United Airlines implemented such a system in 2018, leading to $90 million in incremental revenue from enhanced forecasting and controls. Adjusting fares based on demand now happens seamlessly.
Streamlining maintenance through predictive technology also generates considerable savings. By analyzing telemetric data from aircraft sensors, airlines can move to scheduling maintenance based on actual component condition rather than fixed intervals. This preventive approach minimizes downtime and avoids unnecessary servicing costs. With over six terabytes of data per plane per year, the insights add up.
AirAsia has been a leader here, collaborating with IBM and Microsoft to pioneer predictive maintenance. By reducing unscheduled repairs by 15-20%, the budget airline has saved millions. As CEO Tony Fernandes explains, “data analytics helps provide an accurate picture of an aircraft’s mechanical health.” This optimizes fleet utilization.
Customer self-service automation provides another source of efficiency. Online check-in and automated rebooking options shrink airline call center volume. Chatbots powered by artificial intelligence handle routine customer queries. This reduces headcount needs. Southwest Airlines estimates virtual agents save over $1 million annually. They also boost engagement.
Even aircraft cleaning has been optimized using sensor-enabled robotic technology. Pittsburgh International Airport, for instance, has tested autonomous tech that checks seat condition and cleans only as needed. More selective cleaning saves time, chemicals, water, and energy.
Demystifying Cheap Airfare: The Secret Origins of Budget Airline Tickets - LCC Competition Drives Fare Wars
Cutthroat competition between low-cost carriers has sparked intense airfare wars that have revolutionized budget travel. As LCCs like Southwest, JetBlue, Spirit, Frontier and Allegiant battle for market share, fares have dropped to unprecedented lows. Travelers win big through this zero-sum game.
A prime example has been the escalating fare war in the U.S. triggered largely by Spirit Airlines. As the ultra-low-cost carrier rapidly expanded, it dragged down fares to absurdly cheap levels. I often found $20-30 roundtrip tickets from Florida up the East Coast. Legacy airlines had no choice but to respond given Spirit's growth. JetBlue led the charge, slashing fares to match and beat Spirit.
This kicked off a race to the bottom on airfares, especially for leisure routes. At one point, JetBlue was offering $31 roundtrips from Fort Lauderdale to Nassau in the Bahamas. Frontier fought back with $15 fares from Philadelphia to Miami. Spirit CEO Ted Christie accused rivals of "matching us just for matching sake." But collusion concerns gave airlines pause.
Eventually, low-cost carriers got burned by the fare wars they helped ignite. Profits plunged as each tried to undercut the other. Stretched ultra-thin margins became disastrous when oil prices spiked. The bloodbath forced a rethink. Spirit, Frontier and others pulled back on capacity growth to ease pressure. Fare wars inevitably exhaust combatants.
Yet LCC competition continues to yield amazing deals through normal cycles. When Southwest enters a new market, legacy carrier fares drop 15% on average. JetBlue's arrival also quickly erodes airfares. Consumers consistently come out ahead from airlines trying to undercut each other.
LCC fare wars have spread globally too. AirAsia and Lion Air duked it out in Indonesia with $0.003 fares before losses forced a truce. Ryanair and easyJet's fierce rivalry has benefited English and Irish passengers for decades. Competition gets fierce where budget carriers overlapp.