Behind the Scenes of Airfare Pricing

Have you ever been searching for airfare, found a great rate, and then went to purchase your ticket only to find out that the price has changed, or worse yet that it's no longer available? It's happened to all of us and it can be infuriating. In fact, I've read some very colorful correspondence from our travelers who have been disappointed with that outcome. I'll do my best to lift the curtain on some of the airline secrets and give you a closer look at just what goes into the price that you're paying.

When I started in the travel industry 10 years ago, I assumed that airfare would be the easiest and most straight-forward of the travel products that our travel agency sells. I was wrong. What you see as a seat on an airplane is actually the end result of a dynamic, convoluted process that has grown more complex over the years.

So let's start with the basics. Let's say that we're a family of four flying from Milwaukee, WI to Orlando, FL. What does it actually cost to fly that plane? Every airline knows what their break-even cost is on that flight and they generally refer to it in terms of cost per available seat mile. In our example, let's say that it costs 13 cents per available seat mile. $0.13 x 188 seats on the plane x 1,064 miles = $26,000. The airline needs to make $26,000 on this flight to cover their costs, or $138 per seat. Much of that cost is for items that the airline has to pay regardless of whether or not they fly a single flight. Things like the salaries of their employees, maintenance costs, rent/lease costs, and airport fees make up much of these fixed costs. Now that the flight has been scheduled and tickets are available for purchase, the airline is on the hook to cover the operating costs including fuel and landing fees which are fees that the airports charge to the airlines.

Assuming that the price of fuel is stable, anything that the airline can charge above that $138 would be profit. Here's where things get complex. The airlines have devised extraordinarily complex yield management systems (now called revenue management systems) that try to determine the highest price that they could collect for each ticket issued. What you and I might see as a simple, cramped seat, these systems see as multiple products called "fare classes". Yes, that's right. The seat that the guy sitting next to you is in looks just like yours, but he may have paid more or less than you and the airline's system sees it as a different product.

It's not just the difference between First Class, Business Class, and Economy. That would be too straight-forward. The goal here is to maximize the amount of money that they can get for any seat. For example, some passengers (particularly business travelers) don't always have the luxury of planning ahead for their trip and can afford to pay more to get on that last minute flight. An airline may also impose restrictions, charge more, and issue penalties on passengers by applying rules on things like reservation changes, advance purchase, one-way combinations, minimum stays, and travel during peak travel times (think Christmas or Thanksgiving). Charging for carry-on luggage is the latest multi-million dollar attempt at increasing revenue. I'm simplifying the process here for sake of keeping it brief, but there are literally dozens and dozens of additional factors that the airline uses to determine your final price.

Supply and demand is at the heart of everything though. The "supply" is a perishable product - meaning that if a person isn't sitting in that seat, that particular seat on that flight can never be sold again. "Demand" deals with the number of people who need to go where the flight is going and are willing to pay the price of the ticket. If the price is too high, travelers may look at another airline or simply not fly on that date. Whenever a seat is sold on a flight, the airline's revenue management system recalculates the price for all the other seats because the "supply" side of the equation has changed.

So what do you think would happen on our Milwaukee-Orlando flight if a low-cost airline like AirTran or Southwest were to price their seats at $99? The airline would most likely drop their price to $99 under the theory that to get $99 (even though it's less than our $138 break-even cost) is better than not getting anything. That's one of the advantages to using a travel agency like Fox World Travel. We can monitor those price changes and can often re-issue a ticket if the price has lowered enough providing the difference back to our travelers in the form of a voucher to be used on their next flight.

Richard Branson, the founder of Virgin Atlantic, once quoted that to become a millionaire, you simply needed to start with a billion dollars and then start an airline. I hope the last example highlights the difficulties that the legacy carriers have had with profitability and the reason why those revenue management systems have been credited with saving the airline industry.

All of this brings us back to your airfare search where the price has changed or is no longer available. This may surprise you, but when you conduct a search on GoFox.com, Expedia, or Orbitz, you are generally not searching real-time availability and pricing. You are searching cached data initially. What you and I might see as a simple flight from Milwaukee to Orlando, complex faring systems don't see as point A to point B. Most websites use a service like ITA Software (recently acquired by Google) which tries to programmatically determine the best combination of fares. There are literally millions of potential flight options for us to get to Orlando. We can look at nonstop options from the carriers who fly that route, but what if we were to stop in Chicago first? What would the price be then? Now imagine that question multiplied by all the two and three stop options for every carrier and interline agreement. Want flexible dates? Multiple those options by an extra day before or after and the possibilities are dizzying. Here's a secret that nobody will openly tell you: Nobody ever has the lowest fare all the time. GoFox.com beats Expedia and Travelocity every day and they beat us right back. I just did a search online where GoFox.com was $40.00 lower than Orbitz and $25.00 lower than Expedia, but Travelocity beat us by $5.00.

The initial search results you see on virtually all travel websites isn't live inventory. It's made up of recently cached data along with the optimal pairings that should result in the lowest available fare. Because it's not live inventory, the flight options you see from any of these sites may not actually be available. Once you've chosen your flights, that's when we check to see if that flight is actually available and what the current price is. When we first started using cached data and optimal shopping a few years back, the results were mixed with a high rate of unavailable fares. The process has improved over time, and even though we still see fares become unavailable, it happens far less than in the beginning.

Sometimes airlines will intentionally discount their fares in order to win market share. A few years ago, I recall United Airlines choosing to drop fares on their Chicago O'Hare (ORD) to Cancun, MX (CUN) route. We ran into this because a large percentage of our outbound leisure travelers were flying charter out of Chicago and United had undercut the pricing. These weren't profitable flights for United. It wasn't their intention to make money in the short term, but rather to squeeze market share on that route in an effort to "own" that route and be able to charge higher rates in the future. It is my opinion that this has been the philosophy of the legacy carriers for years. Market share over profitability. I'm sure it has worked in many markets for them.

Here's a quick word about marketing. Several years ago at a travel industry conference, I had lunch with the Senior Vice President - Marketing for Travelocity. It was a nice discussion and it was interesting to learn that Travelocity had a marketing budget of $100 million. In those days, the marketing messages were all about having the lowest price. Cheap flights. Cheap hotels. Best Price Guarantee. Even though companies like Travelocity have learned that you can't compete on price alone (it's really nice to be able to talk to someone knowledgeable), the perception still lingers in the public's mind that the best prices can only be obtained online. Not true. A recent Topaz audit confirmed otherwise. It doesn't matter if it's Travelocity, Southwest Airlines, United Airlines, or AirTran - they all have very large marketing budgets and that money has to come from somewhere. Who do you think pays for all of those Southwest commercials during the NFL season? You and I helped pay for that ad.

Finally, the next time you board an aircraft, give a nod and say "thank you" to the folks in first class. They pay the highest fares which allows the airline to oftentimes sell a percentage of their economy seats under cost.

Don't forget to buckle up and have a safe flight to Orlando.

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Jeremy Dyken is the E-Business Manager for Fox World Travel.