The Economics of Airlines

Thanks to Ross Kinkade of Trash Panda Capital 
for help with the content

The Wright brothers flew the first plane in 1917. At the time, going on an airplane was not common. Being a passenger on a flight was expensive. The focus for airlines was luxury. As time has passed, their focus has shifted from luxury to revenue. With the shift, airlines have grown their revenue sources. Airlines not only make money from passengers. They work with businesses to generate revenue.

Bags

The range and fuel costs depend on the size and weight of the plane. The passenger bags add more weight and decrease the revenue for the airline. The airlines make up the costs by charging passengers for the bags. The heavier the bag then the more money a passenger will pay.

Seats

A passenger has the option for three different seats. The seats available are economy, business, and first-class on an airline. The first-class and business classes are more expensive than economy seats. The economy seats account for the most revenue of any seat. There might be 20 first-class seats on a plane, which are the most expensive. But 30 rows of economy seats, the great number of economy seats leads to more revenue. The economy seats account for 80% of the seats on the plane. When fewer economy seats are being sold, the airline starts to lose money on their flights.

The pricing of the passenger ticket has many factors. The airline has a formula for pricing tickets. They use the destination, flight time, type of seat, seasonality.

The airline wants revenue for flights on their books as soon as possible. To fill up flights, they make the tickets cheaper when the flight is far out. There is a certain timeline for price changes. The cheapest a passenger can get a flight is 12 to 9 months out. 9 to 1 month out is the median price for a flight. The most expensive tickets are usually one month before the flight.

How airlines make money from cargo

Airlines ship goods for other companies. The price of the cargo depends on the size, weight, type, and time.

Time

The sooner a company wants the cargo to reach the destination, then the more the airline charges. If time is not a factor for the company, then the airline charges less.

Type

Different cargo has different requirements. The more requirements then the prices go up. Carrying a horse, car, and semi-conductor all have different requirements. A horse needs someone to feed it. The airline needs to make arrangements for different cargo. A semi-conductor will get damaged if the plane is too cold. They need to ship the semi-conductor in the proper environment. The airline needs to provide a specific container for a car.

Size and Weight

Airlines use a specific formula to determine the price of cargo based on size and weight. The cargo's size and weight change how an airline has to handle the cargo. The airline might have to use different containers or change the plane for the cargo.

An airline will not treat a crate of laptops and bananas the same. The formula helps determine the best method for each type of cargo.

Route

Some airlines cannot fly common routes when flying cargo. The United States does not allow airlines to fly passengers between domestic destinations. An airline cannot fly passengers from Newark to LAX and stop at O'Hare to drop off cargo.

On some occasions, a company might need cargo to go somewhere that an airline does not commonly fly. Then, the airline needs to charge the company more. The airline would need to find the route and prepare the plane for the destination.

In-Flight

Airlines use to bundle the price of the ticket with the food and in-flight entertainment. They stopped bundling to get people to spend more money on the flight. When an airline was bundling, a ticket may have cost $150. When they unbundled everything, the price of the ticket may have been $120. Since a passenger saves some money on the flight, they might spend more money. The passenger might take an extra bag, buy a meal, a drink, and wifi on a flight. Which cost them $55. The airline makes an extra $30 from the passenger.

When people save money, they are willing to spend money because they believe they got a deal.

Credit Cards

Frequent-Flier points are an asset for airlines. The points are an asset because people can make purchases with them. People get to spend the points as money.

The airlines make money from the annual fees that the holders pay. The annual fee money gets split with the credit card companies. The terms of the credit cards incentivize people to spend money with the airline. When someone buys groceries or gas, they may get 1% back on their purchase. When someone makes a purchase for a flight with the airline, they get 3% or 4% back. The higher percentage gives cardholders more incentive to make purchases through the airline.

There is more than one card. There are tiers, and each one has different benefits. The higher tiers will have more benefits for cardholders. In some cases, they come with exclusive rewards such as access to a lounge. The higher tiers lead to more revenue for the airline.

Charters

A charter is when someone rents an aircraft or a block of it. Businesses or sports teams are the types of clients for charters.

A charter is different from renting a private jet. Some companies specialize in private jet services.

Leases

Some airlines will lease their aircrafts out to others. There are two types of leases, wet and dry. In a wet lease, the airline provides a crew. For the dry lease, the airline leases out the crew but has operational control. An airline that has restrictions from flying will do wet leases. Which allows them to generate revenue during their suspension.

In some cases, an airline's shell company will buy the planes and lease them back. The airline spends more money on leases than if they own the aircrafts. The higher bill lowers their profits and tax bill.

Subsidiaries

Some airlines invest in the travel industry for revenue. Airlines own hotels and car rental companies to expand their services. Other airlines buy services to decrease expenses. They buy oil refineries to bring costs down for them.

Tech Ops

Tech Ops is the main service for the airline. Maintenance and repair are elements of Tech Ops. For some airlines having their own Tech Ops department is expensive. Those airlines will outsource their Tech Ops to the big airlines. An airline will pay another airline to maintain, repair, and inspect their airplanes.

Scraping Parts

An airplane might last up to 30 years. The parts of a plane do not last 30 years. The parts get changed and replaced on a recurring basis. When it is time to retire an airplane, they might scrap the parts that are still good. An airline might add them to another plane, or they could sell those parts to another airline.

Pilot Training Programs

Pilots are well trained by the airlines. Some people have an interest in flying as a hobby. Some airlines sell their training program as a course to other people. When training a pilot, an airline does not generate revenue. But controlling a training course allows airlines to verify that a pilot knows how to fly a plane. Selling the training course is a course of action that allows an airline to generate revenue from the program.

Licensing

Sometimes video games make games that involve an airline or plane. Airlines collect a fee from the video game company to use their name in the game. A company might make an airplane simulator game, and they might want to use an airline's name.

Government

Some airlines work with the government. The work airlines do for the government is similar work that they do with businesses. The government might transport cargo through an airline. Or charter a plane for some employees.

Downers

These are elements that might cause an airline's revenue to go down.

Crashes

In the airline industry, reputation is everything. No one wants to fly with an airline that has a reputation for crashing. A crash might bring an airline's revenue down for years. The public will avoid an airline that has had a crash for years.

Not only will an airline lose future revenue because of a crash, but they need to make payments. If a plane crashes and the airline is at fault, the airline will have expenses. Airlines have crash insurance, the cost of the insurance will go up. An airline will need to pay damages to the victims' families. Then, they will pay fines for the crash.

Bailouts

In tough economic times, people fly less. Many people fly to places for vacations. When money is tight, people are not taking vacations. If the tough economic times last for a while, the airlines will need help to recover. That is when the government will step in and offer relief. The bailouts are not a revenue source but for them to stay even.

How airlines will change with COVID

People are flying less because of COVID. Airlines will need to make up the revenue through businesses. The airlines will need to work with companies more to recover. Companies will have a need to ship medical Personal Protection Equipment around. The medical industry will need the airlines to ship the equipment. Shipping cargo means there is less contact between people. Which will prevent the spread of COVID.

The e-commerce industry wants to get items to its customers as soon as possible. Planes are the fastest mode of transportation. The e-commerce industry will need to work with airlines.

For consumers, the costs to fly will go up. The airlines will start charging more for flights and bags. The airlines might start charging for carry-on bags to increase revenue. The airlines might focus on social distancing by getting rid of the middle seat. The airlines could input passenger protections for the middle seat instead.

The government will always bail out the industry in their time of need. Flying is the most efficient method of travel. How else can someone get to Europe from California in under a day? They cannot. Until there is a new and more efficient method, the government will bail out the industry.

Money that the airlines earn from credit cards is more scalable than flights. No one knows when people will start to fly again. The airlines can only offer so many flights. As long as the airlines have deals to offer credit cardholders, they will make money from the credit cards. They can offer more deals to generate revenue, and people will take advantage.

My Opinion

The experience of flying is not great. Airlines pack passengers in and do not make them comfortable. They do not provide good customer experience because they do not have to. Flying on a plane is like a restaurant cooking a nice meal but then serving customers the cooking scraps.

The airline that provides a better customer experience will gain the most customers. Creating a decent experience is not difficult. Give customers room, provide decent food, and clean space.

Conclusion

Since flying is the most efficient form of travel, that gives them a massive advantage. The government will bail them out, and they will come back again and again. As long as there is not a more efficient option, they are here to stay. There might only be 1 or 2 airlines, but still.