US Airways doesn't really lose money on one $138 passenger. They don't pay employees by the passenger, they don't buy planes by the passenger, and they don't buy fuel by the passenger. At a minimum, you have to look at one whole flight. For one city pair or one region (and of course the entire system), it makes sense to look at averages.
Is Uair Even Trying To Be Profitable?
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usair_begins_with_u
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LOL... The company is failing for the same reason people dont understand you cannot sell product based only on trying to cover variable costs.
Is it better to turn down the $210?? Of course not. But the reality is, the plane should never even take off in the first place... If you can't cover variable costs plus all the allocated fixed costs, you are wasting the value of all capital used to provide the service. PERIOD. I know a lot of airline accounting people like to play games with fixed cost allocations and make markets here and there look good (see MetroJet) but, let me tell you, cost allocation is a zero sum game. Worse yet, selling below profit generating levels creates market expectations of lower prices, which in turn, will ends up squeezing system wide revenue in all markets.. SEE GO FARES. Its almost like competing against yourself.
Selling below cost is not a "sale".. its insanity.. There is never a good reason to do it, unless your actions are preditory, and therefore illegal. Tell me one other industry that makes any sort of habit out of selling goods or services below total costs??
Yeah keep kidding yourselves..
Is it better to turn down the $210?? Of course not. But the reality is, the plane should never even take off in the first place... If you can't cover variable costs plus all the allocated fixed costs, you are wasting the value of all capital used to provide the service. PERIOD. I know a lot of airline accounting people like to play games with fixed cost allocations and make markets here and there look good (see MetroJet) but, let me tell you, cost allocation is a zero sum game. Worse yet, selling below profit generating levels creates market expectations of lower prices, which in turn, will ends up squeezing system wide revenue in all markets.. SEE GO FARES. Its almost like competing against yourself.
Selling below cost is not a "sale".. its insanity.. There is never a good reason to do it, unless your actions are preditory, and therefore illegal. Tell me one other industry that makes any sort of habit out of selling goods or services below total costs??
Yeah keep kidding yourselves..
NONE!usair_begins_with_u said:
But if that isn’t enough insanity, then tell me of any other industry that undercuts themselves and then comes with hat held out pleading with its employees that they MUST give more because they MUST take such insane actions. I say if this is really truly necessary and we all know the final outcome because of this insanity, then why wait, close the doors now and end it.
Still not looking at the big, big picture, U.
Costs fall into lots of buckets:
Of course, even that is an oversimplification. Maybe you lose money flying somewhere, but the demand for the return flight is high enough to offset the loss, effectively making the outbound flight a repositioning flight that offsets its costs by taking on passengers.
And, even if you knew all of the above down to the penny, you can only get close. Yield management's job is to figure out the demand curve and try to maximize revenue under that curve. It's a tough job, since tickets are sold at different times for different purposes. Market segmentation for the same effective product is an extraordinarily difficult task.
And funguy's right, many travelers have grown in sophistication over the years, and are unwilling to pay what they once were. This is especially true among businesses, who watched travel budgets balloon out of control in the 90s.
Costs fall into lots of buckets:
- Fixed costs. These are the ones that won't differ whether the plane moves or not. Lease payments on the aircraft, time-based maintenance (as opposed to cycles or service hours), most employee benefits, and some operations costs fall into this one.
- Per-trip variable costs. These include landing fees, fuel used to get up to or down from cruise, a portion of the air crew wages, and the bulk of the hourly wages of ground crews.
- Per-passenger per trip variable costs. The rest of the ground crew wages go here. A portion of food/beverage costs go here, too, as does a portion of fuel costs arising from the marginal weight of the additional passenger and associated baggage. Most of the sales agents' wages are in this bucket. I could create a separate bucket for cargo fuel-burn costs, but barring that it can go here.
- Per-mile variable costs. Cruise wet fuel (i.e., empty plane plus crew) burn goes here. The rest of the air crew wage costs go here.
- Per-passenger per-mile variable costs. The rest of food/beverage goes here, as does the rest of the fuel costs arising from marginal weight.
Of course, even that is an oversimplification. Maybe you lose money flying somewhere, but the demand for the return flight is high enough to offset the loss, effectively making the outbound flight a repositioning flight that offsets its costs by taking on passengers.
And, even if you knew all of the above down to the penny, you can only get close. Yield management's job is to figure out the demand curve and try to maximize revenue under that curve. It's a tough job, since tickets are sold at different times for different purposes. Market segmentation for the same effective product is an extraordinarily difficult task.
And funguy's right, many travelers have grown in sophistication over the years, and are unwilling to pay what they once were. This is especially true among businesses, who watched travel budgets balloon out of control in the 90s.
JS: I believe that US Airways is losing money on this $138rt ticket. However, given that I don't know the cost of the specific flight, I can only guess that the system average ASM cost is close. However, this $138rt ticket is clearly a loss. Furthermore, this specific example illustrates what the averages have shown... On a system level, CASM IS greater than RASM, hence the reported operational loses. So, I am not sure what you are arguing... You might have a valid point if US Airways were profitable.
If you are certain that US Airways does not lose money on the $138rt ticket, then show us the math as I did, and prove it... And tell us what your assumptions are.
usair_begins_with_u: You are absolutely right. As I said earlier, these low end fares were originally created for "incremental passengers". That is to say that once the "regular" passengers were accounted for, you would take in a few more bucks at almost no cost by filling otherwise empty seats. The revenue from these "incremental" passengers would go directly to the bottom line.
However, times have changed, and the base to which these "incremental passengers" were added (i.e. mid-level and last-minute high fares) has eroded to the point that the "incremental passenger" model is falling apart.
cavalier: Lots of business sell items at below-cost as a loss-leader. Any retail outlet with a "sale" has a loss leader. However, they also have profitable products whose profit margins make up for the loss leader. Think of a grocery store... They may put the milk on sale, but they won't put the cereal on sale the same week... They take the loss on the milk to get the loss on the cereal.
This used to work for the airlines. However, because the airlines offer basically one product, there is a lot less ability to immediately recoup loss-leaders as done in retail. In the airline game, you use loss leaders to hook folks to your FF program, then use that loyalty to finish the sale when a "high-fare" ticket is required (If I have to pay a high fare, I should at least get my miles). However, the transparentcy of fares combined with the huge discrepancy in prices and growing LCC availability in markets coast-to-coast, has created a situation where the old loss-leader strategy does not work for the airlines.
mweiss: Naturally, you are correct here. However, we on the outside are lucky to get even an understandable CASM figure. The kind of information you speak of is only known by certain people at UAIR. Furthermore, even if the flight "should" be cancelled based on the analysis you've provided, it often cannot be because of other issues (i.e. use or lose slots, maintaining market share, demand cycles during the course of the year, etc.)
If you are certain that US Airways does not lose money on the $138rt ticket, then show us the math as I did, and prove it... And tell us what your assumptions are.
usair_begins_with_u: You are absolutely right. As I said earlier, these low end fares were originally created for "incremental passengers". That is to say that once the "regular" passengers were accounted for, you would take in a few more bucks at almost no cost by filling otherwise empty seats. The revenue from these "incremental" passengers would go directly to the bottom line.
However, times have changed, and the base to which these "incremental passengers" were added (i.e. mid-level and last-minute high fares) has eroded to the point that the "incremental passenger" model is falling apart.
cavalier: Lots of business sell items at below-cost as a loss-leader. Any retail outlet with a "sale" has a loss leader. However, they also have profitable products whose profit margins make up for the loss leader. Think of a grocery store... They may put the milk on sale, but they won't put the cereal on sale the same week... They take the loss on the milk to get the loss on the cereal.
This used to work for the airlines. However, because the airlines offer basically one product, there is a lot less ability to immediately recoup loss-leaders as done in retail. In the airline game, you use loss leaders to hook folks to your FF program, then use that loyalty to finish the sale when a "high-fare" ticket is required (If I have to pay a high fare, I should at least get my miles). However, the transparentcy of fares combined with the huge discrepancy in prices and growing LCC availability in markets coast-to-coast, has created a situation where the old loss-leader strategy does not work for the airlines.
mweiss: Naturally, you are correct here. However, we on the outside are lucky to get even an understandable CASM figure. The kind of information you speak of is only known by certain people at UAIR. Furthermore, even if the flight "should" be cancelled based on the analysis you've provided, it often cannot be because of other issues (i.e. use or lose slots, maintaining market share, demand cycles during the course of the year, etc.)
For one passenger, it's not a loss, because down at the passenger level, there are no large fixed costs to be concerned with.funguy2 said:
The point about people expecting low fares like this all the time is absolutely true. The way airlines have dealt with this is limited inventory.
If all the seats could be sold for $138, then fixed costs would have to be considered, because it's not possible for everyone to be on the margin. However, as you can see in the first post, US Airways was the cheapest because the other ailrines had already sold out of the cheapest seats.
In other markets, US Airways will sell out sooner, and everyone will wonder why AA or DL or whatever is giving away the store.
One thing is for sure, and that is that removing all fares whose RASM is less than systemwide CASM will significantly reduce total revenue but only slightly reduce total cost, resulting in massive increase in systemwide losses.
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usair_begins_with_u
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Revenue without profit is like sex without the orgasm... To each their own I guess.
Well, all passenges have to pay a portion of fixed costs, no matter how small a portion of their ticket that is.JS said:
It must not be that limited if RASM is less than CASM. This is the core issue. As a sidenote, Southwest, the "low-fare leader" almost always has a higher fare for tickets I've priced out months in advance. So I guess they better control their low-fare inventory and their profits show it.
I think we are very close to this situation today... Consider this... Info from US Airways 1Q04 numbers:
Mainline Pax: 9,851,000
Mainline Pax Revenue: $1,210,000,000
This means the average mainline fare is: $122.83
Mainline CASM: $0.1168
Average Stage Length: 773miles
Thus average cost per person per flight is $90.29
Next lets assume that 50% of US Airways traffic is nonstop and 50% is connecting... That means, you have to increase the average cost/ticket sold by 50% (i.e. half the people cost $90.29 and half costs $180.58) thus average cost per pax, each way is $134.44. Now this number will vary on the basis of how much traffic is making connections... I've heard that US Airways connecting traffic is higher than 50%. This is probably especially true for mainline, given the small O&D traffic at PIT and CLT (and PHL relative to its size... 5th largest city, 12th highest in pax traffic). Also, the highly local markets (i.e. LGA, DCA, and BOS to spokes) are largely flown on Express, making US Airways connecting traffic even higher...
If we assume US Airways mainline connecting traffic at 60%, then the cost per ticket sold is: $144.46. That means US Airways is losing, on average, $12 to $24 per ticket sold...
Let's look at this another way...
US Airways loss for the quarter was $177,000,000
Operating Loss was $143,000,000
Number of pax (mainline and express): 12,700,000
Loss per pax: $13.93
Operating Loss per pax: $11.25
Thus, the $138 ticket, at a loss of $72, is a much larger loss than the "average" ticket. Again, this assumes that average CASM can be applied to that flight.
Let's assume this is not true, and that CASM on DCA-FLL is $0.095. That means the ticket costs the company $171, and revenue is still $138... the loss on the ticket is $is still $33, or 3 times as high as the "average" loss per ticket.
You can keep saying that the fixed cost doesn't matter, but unfortunately, in the long run, it does... The fixed costs must be paid for from revenue.
This is true. But in the long run, if the company cannot operate a market where RASM is greater than CASM, they need to leave that market. Thus far, this does not seem to have occured. The assumption is that the economy will recover, and fare levels with it. This has been predicted for 2003, 2004, and now its supposed to happen in 2005. Will it? Maybe, who knows.
I'm afraid that would cover pretty much all markets. I'm sure that during peak demand hours the flights are profitable. But what happens if you decide to park the airplanes during the off-peak hours? Now the fixed costs that would have been amortized over the entire day only get amortized over the peak hour flights, thus raising their effective CASM. I could easily envision a world where that CASM increase would make the otherwise profitable peak-hour flights losers as well.funguy2 said:
If this is true, and debt exceeds the market value of the assets of the company, the best thing for the shareholders is to try a shoot-the-moon strategy. After all, from the shareholders' perspective, you've got nothing to lose.
That is not the best thing to do.mweiss said:
The best thing to do, as a fiduciary duty to the shareholders, is to close up shop, sell assets, and recoup as much for your share-holders as possible. A shoot for the moon strategy means shareholders and creditors get $0 for every dollar they are owed rather than something slightly larger than $0 assuming the strategy fails... And in this case, I am assuming 1-5% chance of success "hitting the moon."
Of course the problem with this is that nothing is ever that clear cut in the airline indusry. In retail, you can close one store without affecting other stores... In the airline industry, you cannot close one flight without affecting others... Also, the constant change also dictates that you hold out for as long as possible and hope for something good to come along... Most of the time, however, this only leaves the creditors with $0 instead of close to $0.
You didn't read what I wrote. The only time that shooting the moon is appropriate (from a fiduciary perspective) is when liabilities exceed assets. In other words, if you close up shop and sell assets, you are then required to settle liabilities. If you end up with less than zero, shareholders get...wait for it...$0!funguy2 said:
Therefore, from the shareholder's perspective, the choices are:
A) Close up shop, with a 0% chance of getting any money
B) Shoot the moon, with a miniscule chance of getting any money
Fiduciary responsibility dictates that you choose B. This is why many loans come with covenants. Lenders get their money if the company chooses A, but they don't if the company chooses B; covenants give lenders a chance to get out before B is enacted.
I agree. Let's say $25 of the $138 is for marginal costs for that passenger. Allocate $113 of fixed costs to that passenger, and now we're break-even.funguy2 said:
On the other hand, you could allocate more than $113 of fixed costs to the $138 passenger and conclude the passenger "costs" US money, and you could allocate less than $113 of fixed costs to the $138 passenger and conclude that the passenger "earns" US money.
Any one of the three allocation choices are irrelevant, though, because in the real world:
1) People make decisions on whether to buy a ticket on US Airways based in large part on what the competition is charging. Discount carrier competition is what is forcing US Airways to offer these fares.
2) Fixed costs are exactly the same whether US Airways chooses to match low fares, beat the lowest fare, or stick to its high-fare model. You can allocate all you want, but it doesn't change the fact that fixed costs have nothing to do with number of passengers (in the short term anyway).
