American

Airlines
Inc.
Group 1

Anagha Jadhav
Nikhil Dalal
Parina Kolhe
Saswata Banerjee
Sabyasachi Mukerji
Ankit Tiwari

M005-15
M018-15
M038-15
M048-15
M062-15
M075-15

American Airlines Inc., Revenue Management

1. What did American Airlines initially do to counter the threat posed
by low-cost airlines?
Answer: The deregulation of the civil aviation in the United States saw many
low-cost airlines enter the industry operating in profitable routes and set
aggressive fares in order to capture market share on the selected routes.
Cost containment became much more important to drive competitive
strategy. Airlines incurred major costs in fuel and maintenance. However,
they had little control over fuel costs and replacing their fleet with uniform
aircrafts to lower maintenance costs is a time consuming process.
American Airlines formulated a two-tier wage structure to reduce their labor
costs. While the current employees were affected slightly by this new
structure, the new hires were much affected in this. American negotiated
with their employees for work rule concessions within guidelines laid down
by the Federal Aviation Administration (FAA) to improve their productivity.
Over time they replaced their older aircrafts with newer ones which were
more fuel efficient, required smaller crew, had improved electronics, and also
cheaper to maintain. These steps by American helped them to counter the
threat posed by low-cost airlines.
2. What is the hub & spoke system of routing and why did it become
important in the post- airline-deregulation era in the US?
Answer: Following the deregulation of the United States civil aviation, the
most significant development in the area was the evolution of hub & spoke
model. Airlines realized that to stay profitable they need to operate in
favorable routes for which they required fewer long-haul aircraft and more
short-haul aircrafts with varying capacity considerations for selected routes.
In this model, and airline selects some major airports as their hubs. These
hubs are directly connected with point-to-point flights. Each of these hubs
are connected to several smaller areas serving as spokes. Traffic is
accumulated at a hub through small capacity aircrafts from the smaller
places and diverted through long-haul aircrafts to other hubs or short-haul
aircrafts to other places.
This model gives the airlines economies of scale and helps them in staying
efficient and productive as they ply different capacity aircrafts at different
routes depending upon the passenger traffic. The airlines manages the
connecting flights and the schedules at airports while providing convenient
connections to the customer with least delay. Over time this gives the

airlines a competitive edge as it controls the hubs it operates in and can

charge premium or target specific regions/segments. On the flip side the
customer has to travel for longer periods as compared to point-to-point
model. Also, delay in operations in any spoke or hub will result in a domino
effect and can render customer dissatisfaction.
3. What was the goal behind frequent flyer programs initiated by
American Airlines?
Answer: In 1981, American Airlines introduced their frequent flyer program
AAdvantage. The goal was simple - to reward customers for using the airline
and promote future customer loyalty. Through the frequent flyer program
American awarded its frequent flyers with free or upgraded flights and looked
to lock in customers. The program is also a means to track the buying and
travel habits of its members so as to help American in formulating pricing
and route strategies.

4. Apart from market segmentation, what other considerations did the

revenue management system at American take into account?
Answer: The main objective of Americans revenue management system is
to maximize its revenues - by selling to the right people at the right time for
the right price. The key to maximizing its passenger revenues is to find the
tradeoff between selling discount ticketing in order to fill up the plane totally,
and selling full fare tickets and only filling up a portion of the plane. In order
to achieve this, they segmented the market and developed separate pricing
full fares for business travelers who book tickets very close to the date of
travel, and discounted fare for leisure travelers who book tickets much ahead
of the scheduled date for travel.
The American revenue management system also considered the
displacement effect that aroused from the hub & spoke model. If there are
too many discounted passengers travelling from A to C via B, then they may
displace full fare passengers travelling from B to C. The system has to
consider the revenue being generated from discounted travelers is in excess
of that of full fare travelers travelling a part of the route. The system also
considered the share shift which is the consequence of market share of an
airlines change in fares relative to that of its competitors, and stimulation
which is the beneficial effect that lower prices would have on demand from
the segment of the population that would otherwise would not have flown.

5. Referring to the discussion of the Chicago-West Coast pricing

decision: Should American counter Continentals $159 fare with a
relatively-unrestricted discount fare on the non-stop Chicago-West
Coast flights?
Answer: American Airlines served 10 West Coast cities from Chicago. It had
two major competitors there in United and Continental.
In connecting market, American Airlines load factor were down to an
unacceptable level due to superior flight schedule of United and cheaper
fares of Continental. American Airline were contemplating to introduce
relatively-unrestricted discount fare to tackle the low load factor.
We dont think American Airline should look at load factor as the metric for
the success of its operations.
Load Factor = Revenue Passenger Mile/Available Seat Mile.
Reducing fare using unrestricted discount might/might not increase the load
factor. Although low fare is supposed to increase the load factor but
unrestricted discount might result in cancellation without any penalty.
The metric by which American Airline should carry on its operations should
be:
Revenue per Available Seat Mile = Net Yield * Load Factor
Therefore, American Airline should look for better forecasting, better
indexing and booking limits levers.

6. Referring to the discussion of the New York-San Juan pricing

decision: What additional information should Doug Santoni collect
to decide on a response to Easterns pricing initiative?
Answer: To decide on the response to Easterns pricing initiative of restricted
round-trip fare of $198 midweek and $238 weekend, American has to decide
the booking limit and protection level for the three segment of passenger:
Business, Leisure and Caribbean origin.

7. What were the challenges in implementing yield management at

American Airlines?

Answer: There were many challenges for the implementation of yield

management at American Airlines:
a) The demand for full and discount fare seats on any given flight was
uncertain
b) The demand was variable over time
c) The demand was lumpy is one case like in leisure travel
d) There were multitudes of fare types and fares
e) Hub and spoke model made some customers in one fare type more
attractive than other customers in the same fare type
f) Some customers booked seats but did not show up for their flights

8. Example: An aircraft has 100 seats and there are two types of fares:
full ($499) and discount ($99). While there is unlimited demand for
the discount fares, demand for full fares is estimated to be
anywhere between 10 and 30. How many seats should be protected
for full-fare passengers?
Answer:
We will be able to sell the full ticket fare only when the demand for it is more
than the protected limit for it.
Let x = unsold tickets to be used for full fare ticket
Cu= 499-99 = 400
Co= 99
Here we find that the service level or probability is:
Cu/(Cu+Co) = 400/(400+99) =0.8016
When 99 499* {1- P(D<=x), we should hold x seats for full fare
ticket
When x = 24, P[D 23]= 0.787: hold
When x= 25, P[D 24]= 0.843: sell
The aircraft should hold 24 seats for full-fare passengers.