Q: In last week's column, you wrote that if American Airlines lost just a small percentage of travel agency sales as a result of the rollout of Direct Connect, the loss would exceed that carrier's savings from Direct Connect, meaning that Direct Connect would "backfire." How did you figure that out?
A: A shift of just 2.1% of AA sales through travel agencies and corporate travel departments would be enough to make Direct Connect a net loss for AA. Here is how I calculated that figure.
• First, AA's operating revenue for 2010 was $22.2 billion, according to its annual report filed with the Securities and Exchange Commission.
• Second, a recent PhoCusWright study found that two-thirds of U.S. airline revenue goes through the GDSs. Assuming that AA's percentage is typical, this means that about $14.8 billion of AA's bookings went through the GDSs.
• Third, ARC's Sales and Document Statistics show that the average price per transaction for all ARC sales in 2010 was $477. Assuming that AA's average price is typical of all airlines, and assuming that a transaction is more or less the same as a ticket, this means that GDSs handled 31 million AA tickets last year.
• Fourth, according to public statements made by the CEO of Farelogix, the typical airline pays the GDSs an average of about $12 per ticket, whereas Direct Connect will cost "$2 to $3 per ticket."
• Fifth, if we assume that AA will pay Farelogix at the low end of the range, or $2 per ticket, we see that, on each Direct Connect ticket, AA will save about $10.
• Sixth, if we multiply the $10 savings by the 31 million tickets, we find that AA will save $310 million per year, if 100% of agency and corporate travel department sales use Direct Connect. I realize that there will never be 100% usage of Direct Connect, but let us take what AA would deem its best-case scenario for purposes of this calculation.
• Seventh, a savings of $310 million is a shade under 1.4% of AA's $22.2 billion in 2010 sales, and it is a tad less than 2.1% of the $14.8 billion that went through the GDSs. Therefore, if AA lost just 2.1% of those sales, there would be no gain from Direct Connect.
A 2.1% loss could come from either agency decisions to sell away from AA, buyers' decisions not to absorb the additional transaction fees that agencies may have to charge for AA tickets, or simply because it will take so much longer to integrate Direct Connect sales into the front-, mid- and back-office systems that there will be a loss of productivity. If AA forces all agencies and corporate travel departments to use Direct Connect, we might see all three phenomena.
Keep in mind that we have assumed 100% adoption of Direct Connect. If there is only 25% adoption, which I think is more realistic, then AA would save just $77 million.
If AA suffered the same 2.1% loss of share, the net result would be a $233 million blow to the bottom line ($310 million in lost sales minus $77 million in savings), which is most of AA's net profit for 2010.
Some of my assumptions could be incorrect, so I invite critiques, especially if you think that my basic premise is invalid.
Mark Pestronk is a Washington-based lawyer specializing in travel law. To submit a question for Legal Briefs, email Pestronk at [email protected].