report

 

Straight Talk: Global Distribution System Reform

Report Prepared by Business Travel Coalition

Peer-Reviewed by 180 Travel Industry Participants

August 9, 2006

 

Table of Contents

Report Process, Peer-Reviewers, Comments     

Executive Summary  

I. Introduction     

II. Historical Background     

III. Current Situation Analysis     

IV. What’s At Stake for Corporate Travel Managers     

V. Context for Travel Manager Action  

VI. What Travel Managers Must Do     

VII. Why There Is Reason for Hope     

 

Addendum: Questions for Travel Management Companies   

 

Peer-Review Process

This report was Peer-Reviewed by some 180 corporate travel managers, university professors, airlines, technology companies, hoteliers, industry associations, convention & visitor bureau executives, GDSs, TMCs, travel agency consortia, and consultants from the U.S., Canada, The Netherlands, Argentina, UK, New Zealand and Australia. The Business Travel Coalition sincerely thanks these committed industry leaders for their contributions to this report.

Peer Reviewers (who provided permission at time of publication to list their names)

Note: Peer-Reviewers, by permitting BTC to list their names here, are not agreeing with everything contained within this report.
Reviewers’ Comments

 

Executive Summary

Background
Global distribution systems (GDSs) such as Worldspan, Galileo and Sabre were created by the major airlines to aggregate the schedules, pricing and inventory of the world’s airlines and provide them to travel agencies for use with end customers. Airlines pay GDSs for this service. GDSs in turn pay travel agencies sign-up bonuses and ongoing financial incentives to distribute through those agencies.

The GDS industry was regulated by the U.S. Department of Transportation for 20 years because of airlines’ abuse of their vertical ownership positions in GDSs. The industry was deregulated in 2003 after all U.S. airline owners divested themselves of ownership stakes in the GDSs. In anticipation of a deregulated environment, airlines and GDSs in 2003 entered into three-year agreements to provide stability until the implications of a deregulated marketplace were better understood. Today, as these interim agreements are being replaced with longer-term ones, the first market-driven travel distribution model is emerging, but amidst little collaboration with corporate customers and considerable controversy.

Marketplace Transition
Virtually all the major U.S. airline-GDS agreements have been signed with the important exception of Sabre / American Airlines, the market leaders. In return for access to full airfare content (e.g., so-called web fares) and protection from future airline-imposed content surcharges, these agreements secured lower GDS prices for airlines. Consequently, GDS-paid financial incentives to travel agencies are being reduced--an undesirable, but expected outcome.

Sabre and American have broken off negotiations, creating much confusion and concern over issues of strategic importance to customers. The outcome of this impasse between market leaders American and Sabre will determine the amount of value that can be derived from a corporate managed travel program.

The Crux of the Problem
Here is where industry tensions appear to lie. The strategic imperative for GDSs is to maintain comprehensive access to airline content, as this issue represents the very heart of their business model. Without it, GDSs could be weakened. Similarly, GDSs do not want to make it easy for airlines to pursue strategies designed to pull consumers away from them by giving them access to travelers’ email addresses as well as other personal information.

The strategic imperative for the airlines is the opposite. They want to fragment content so that they attract a growing number of travelers to their websites where they can endeavor to control the passenger and where a lack of comparison shopping and corporate travel policy will lead to higher priced ticket sales. Some airlines want to use travelers’ personal data to facilitate efforts to pull consumer spending through less costly distribution channels, which is detrimental to corporations’ consolidated travel program strategies. 

Content Fragmentation
Given this situation, there are three interrelated problems facing corporate customers right now. First, is the definition of “full airfare content” in these new airline-GDS agreements. Will all airfares be available in the GDSs for efficient comparison shopping by travelers? Second, will any exceptions to the definition of “full content” be reasonably limited? Third, will airlines have access to travelers’ personal data (such as email addresses) for marketing purposes?

Risk Analysis
All three problems have a common thread of content fragmentation, which means airfares are dispersed among a variety of distribution channels, e.g., direct airline solicitation of business travelers, airline websites and GDSs. This requires travel agencies to deploy expensive workaround technologies and processes and undermines the credibility of a travel program when travelers see less expensive fares not available through their corporations. What’s more, airlines should not have access to travelers’ personal data without prior consent and approval.

Some travel agencies have announced to their corporate clients that they will soon begin to impose surcharges of $2.00 per transaction to make up for lost incentive revenue from GDSs. At the same time, some airlines are planning a September 1st implementation of content access fees that could amount to $10, or more, per trip for purchases made in certain GDSs. New fees from agencies and airlines could add hundreds of thousands of dollars in new costs for corporations on an annualized basis. Content fragmentation could cost corporations many thousands of dollars more due to not having access to the lowest fares and from new process complexities.

What Corporations Need To Consider
Corporate customers need to determine who is most closely aligned with their business interests: airlines seeking content fragmentation for higher yields or GDSs endeavoring to secure full content and travelers’ data to protect their business models. Corporations require ironclad commitments to full content with very narrow definitions for exceptions, and protections for their travelers’ data. This happens to be in alignment with the self-interests of the GDSs.

The die is about to be cast. Most corporations will no doubt see their travel costs increase somewhat because of this new industry business model. While not welcomed news, if efficient access to full content is guaranteed, and if traveler’s data are protected, this would represent an acceptable outcome to most corporations. On the other hand, if content fragmentation were to be central to a new industry distribution model, then it would mean new levels of complexity, expensive workarounds and higher fares-paid by corporations, a completely unacceptable outcome. The outcome will likely be settled by mid-September.

A corporation should consider the following immediate steps to protect its individual interests:

…

 

I. Introduction

The purpose of this report is to provide corporate travel managers (CTMs) with an analysis of travel distribution system reform and to shed light on risks to managed-travel programs. There is an urgent need for CTMs to become educated on the issues and to take swift action to safeguard their corporations’ interests. That’s because content fragmentation, the “F-Word” of travel distribution -- and the central issue in these reform efforts -- can destroy value built up in managed corporate travel programs.

It’s a confusing time in the travel industry. Right now, some travel management companies (TMCs) are “testing the waters” with new content surcharges of $2.00 per transaction; some major airlines are planning a $3.50 per segment content access fee for purchases made in so-called non-preferred distribution channels, starting September 1, 2006; and negotiations between behemoth American Airlines and global distribution system (GDS) giant Sabre will likely create or destroy value for corporate customers, depending on the shape of the final agreement.

New fees from airlines and TMCs could add from tens of thousands to hundreds of thousands of dollars in new costs for corporations on an annualized basis. These are costs, it should be noted, that are already baked into the price of an airline ticket. What’s more, untold hundreds of thousands of dollars in new expenses will be incurred each year by corporations should content fragmentation be a central component of the emerging distribution system model.

A purchasing rule-of-thumb is that it costs 10% above the purchase price of a given product to manage the administrative process of researching and purchasing it. The U.S. General Services Administration in the 1990s identified an administrative cost of 36% for commercial air transportation services. It is reasonable to assume that technology has driven that 36% cost down considerably. Airfare content fragmentation of the order that is on the horizon could drive that cost back up, and even beyond 36%.

For CTMs, distribution system reform is one of the top industry structural issues in a generation. Modern business travel management during the past 25 years has reached greater levels of efficiency, cost effectiveness, traveler productivity and safety. But the risk posed today is nothing short of a turn back in time, to the problems of systemic inefficiencies and intractably high costs.

One source of confusion is a lack of information. While GDSs may have been talking about changing economics for some time, the details and timing of their programs were hard to come by. And, when they did make announcements, details about how their new programs would work were not always clear. Importantly, timeframes for making decisions did not seem to fit with market realities.

After 20 years of U.S. government regulation of the GDS industry, it has been clear for years that a market-driven model would soon come into play.  Yet there has been very little time for collaboration and evaluation of options. Moreover, CTMs, (and TMCs) since March 2006, have been kept in the dark, if not intentionally hood-winked, about the details and implications associated with at least some announced agreements between airlines and GDSs. CTMs have also been somewhat in the dark about the depth of the financial arrangements between the GDSs and TMCs.

There is an understandable lack of familiarity with GDS economics. After two decades in which the vast majority of CTMs did not have to deal with GDS economics, most are neither sufficiently informed nor comfortable enough to speak out. CTMs new to their roles are in an even more difficult position.

At the recent National Business Travel Association’s International Convention and Exhibition in Chicago, distribution system reform was a major topic of discussion -- at least three sessions covered one or more aspects of it. Airline and GDS announcements fed the discussion and generated concern and confusion; this included revelations that airlines would soon begin their $3.50 surcharges.

The American Airlines-Sabre negotiations also took center stage. These negotiations are critical for CTMs because of the leadership position each firm has in its respective segment; the outcome will shape the industry for years to come. American insisted that negotiations were stalled over economic and data privacy issues; Sabre claimed the impasse centered on content fragmentation issues. Neither company provided much in the way of details, and as such, few answers were given to the threshold questions most on CTMs’ minds.   

Meanwhile, airlines and so-called content aggregators, both of which are economically vested in content fragmentation, tried to allay fears. They largely argued during the convention that fragmentation is a fait accompli and that CTMs just need to “weather the storm” until things “settle down” in the autumn, as one major airline panelist exhorted. This disingenuous pitch seemed calculated to mute debate and sideline CTMs, the major consumers of airline services. 

Despite these claims, severe content fragmentation is not a preordained outcome, and CTMs still have an opportunity to push for an overall positive result if they quickly become educated and active. The facts are:

Given the importance of this issue and the need for education, BTC has been working for some time to facilitate the education process. On April 19, 2006, BTC published U.S. Post-Deregulation Travel Distribution: The Moment of Truth and Call-To-Action. On May 4, BTC joined the American Society of Travel Agents on an educational Webcast. At the NBTA convention, BTC represented corporations on a panel while publishing a blog each day from the convention to keep distribution reform issues top-of-mind. On July 31, BTC established an online Forum to facilitate discussion and customer-to-supplier communication. Moreover, this report has been distributed broadly throughout the industry to help fill the educational gap and stimulate debate. 

It is BTC’s long-held belief that good government and industry policy, as well as solutions to industry problems, can be best achieved when such policies and solutions are in alignment with customers’ long-term interests. Indeed, the airlines’ $40 billion losses in the past 5 years can be attributed in no small part to misalignment of airlines’ policies with customer wants and needs.

BTC would suggest that never has there been a process involving industry structural change that has been so cloaked in secrecy. From the near complete lack of travel manager collaboration on the part of airlines and GDSs, to the announcements at NBTA that the rules would change on September 1st -- leaving CTMs exposed -- the process was not designed for collaboration, but rather perhaps, to force-march corporate customers into accepting higher costs.

The focus of this report is on North America because this is where the next big development in this newly deregulated industry will happen. However, it is important to point out that in Europe, the European Commission is currently grappling with GDS industry deregulation issues against a backdrop of continued airline ownership of the dominant GDS there, namely Amadeus. This fall, it is expected that the Commission will receive an independent study on the issue and move to consultations with industry participants. Given the global nature of managed travel programs, what happens next in Europe will be of critical importance to all CTMs.

II. Historical Background

For 20 years prior to 2004, the U.S. GDS industry was heavily regulated by the U.S. Department of Transportation because the airlines that owned GDSs had used their ownership positions to distort travel agents’ neutrality, frustrate airline new entry, and drive up competitors’ distribution costs. This, of course, resulted in corporations paying supra premium prices for business airfares.

By 2003, U.S. airlines had sold their ownership stakes in these GDSs.  American had spun off Sabre. United had sold Galileo/Apollo.  And Northwest, Delta and American had sold Worldspan. This changed the relationship between GDSs and airlines dramatically and paved the way for deregulation. These travel distribution firms were now standalone businesses freed of their airline parents, but encumbered by the now unnecessary DOT regulations. Indeed, airlines’ divestiture of ownership positions in GDSs eliminated the rationale for regulation. (Note: Amadeus, which is still owned largely by three European carriers, is the smallest of the four GDSs operating in the U.S.)

GDSs and other industry participants successfully petitioned the U.S. government to deregulate the marketplace for travel distribution services. DOT announced GDS industry deregulation during the last week of 2003.  The airline drumbeat for reducing their GDS costs suddenly got louder. 

Airlines and GDSs, both about to be thrust into a deregulated environment, entered into a series of three-year agreements during 2003 which gave the airlines significant reductions in booking fees in exchange for full content. These so-called DCA-3 agreements brought some stability to the marketplace for a three-year period for suppliers, distributors and customers, and they bought time for industry participants to conceptualize new business models, relationships, products and services. Marketplace experimentation began to take place.

Some airlines predictably used this time to try to bolster new alternatives to GDSs to dramatically alter the economics of travel distribution in their favor. In 2005, in advance of the expiration of the DCA-3 agreements the following year, some airlines deployed a full-blown industry relations campaign in support of new entrant technology firms. Although the technology was unproven and remains largely undeployed, the issue dominated industry trade publications and industry gatherings. Many observers saw airlines’ very public support of these new entrants, however, as mere posturing ahead of 2006 GDS negotiations.

Unsettling threats were made by some airlines, stating that they would consider withdrawing from some GDSs altogether. Those threats made TMCs and CTMs nervous. Amadeus and Sabre fired back with a content backup agreement in March 2006, guaranteeing each GDS content from the other should such a worst-case scenario develop. In March of 2006 Continental and American Airlines announced new agreements with Worldspan amidst unparalleled secrecy over details. Confusion quickly gripped the marketplace with speculation that incentives would disappear entirely and TMCs and corporations would have to begin paying for access to content.

III. Current Situation Analysis

All the major North American airline-GDS deals have been signed with the exception of Worldspan / Delta and Sabre / American. Amadeus is presumably waiting for the dust to settle as it is a relatively small player in this market. The agreements essentially trade access to airfare content, and protection from per segment, airline-imposed content surcharges, for reduced GDS segment fees to airlines and reduced incentive payments to TMCs.

However, there are many variations on this theme and a very significant impasse between American and Sabre regarding content. Industry attorney Mark Pestronk wrote in a July 31, 2006 Travel Weekly article, “The sticking point appears to be that Sabre is bravely insisting that ‘full content’ should have no weasel-like exceptions or geographic qualifications.” BTC agrees that access to full content and the exceptions to it are the critical points that CTMs must insist upon if they are to achieve and maintain a value-generating managed travel program.

Here is where the industry tension lies, in BTC’s view:

From all published reports, it would appear that the economics of the new GDS-airline agreements have been resolved both at the industry level, as evidenced by most new agreements having been signed, and at the firm level, by virtue of the fact that Worldspan and Sabre have only Delta and American respectively, left to sign agreements with (among the major airlines). As such, how could one conclude, in this context, that American and Sabre, for example, were so far apart on economics that American would risk the huge increase in segment fees that kicked in August 1, 2006 because it did not reach agreement with Sabre? 

Content Fragmentation
The impasse between these two Titans appears in part to be over two interrelated items: the definition of full airfare content, and what constitutes reasonable exceptions to having to provide full content. The danger here is that such exceptions, if broad enough, could quickly swallow the rule. Geographical exceptions covering much of the country and so-called “private” fare offers made to millions of people (e.g., Frequent Flyer Club members) could obviously undermine managed travel programs.  Some airlines would like to reopen the door to make web fares available only on their proprietary websites; CTMs should view this fragmentation strategy with utmost concern.  

PNR Data
Another very significant issue for CTMs, substantiated by Peer-Reviews of this report, and one that is symbiotic with the content fragmentation issue, is the use of Passenger Name Record (PNR) data. Apparently American desires to have complete access to travelers’ PNRs created by travel agencies including email addresses and carrier preferences. This information could be used to market directly to a corporation’s travelers undermining a CTM’s ability to fulfill airline contractual agreements while eroding support among travelers for a managed travel program. Any data from a Customer Profile that goes into a PNR would be accessible, (e.g., a traveler’s preference for United Airlines). Importantly, if this were to become part of a new American-Sabre agreement, all other airlines would likely demand the same access from Sabre and all other GDSs.

According to reports from TMCs, American takes exception to Sabre’s view and says there is a different “data privacy” issue that is creating the impasse. American apparently believes that Sabre seeks to sell passenger data regarding American transactions to its competitors, which would allow its airline rivals to “poach” business travel customers by way of access to such sensitive information. If true, this would appear to be a violation of Sabre’s data privacy policy. It also begs the question if the other major airlines, which have signed presumably similar agreements with Sabre, would take on such a business risk.

BTC’s analysis is that the PNR issue amounts to Sabre not wanting to make it easy for American to pursue strategies designed to pull consumers away from the GDS. On the other hand, American would appear to want the data to facilitate efforts to pull consumer spending through less costly channels, and increase yields, which of course, is detrimental to corporations’ consolidated travel program strategies. 

Given this PNR issue, Sabre’s strategic imperative of wanting to maintain access to truly full content and American’s apparent insistence on broad definitional leeway, the fact that negotiations have broken down should not come as a surprise. Importantly, as travel industry leaders, American and Sabre hold tremendous influence over the new GDS industry business model and direction of global travel distribution.

Most already-signed airline-GDS agreements will likely be impacted by the American-Sabre outcome. Likewise, other network airlines will seek to normalize their programs to remain competitive with American based on the final terms and conditions of an American-Sabre deal. Much is at stake whether a corporation is with United / Galileo, Delta / Worldspan or American / Sabre.

IV. What’s At Stake For CTMs

Consider the negative impacts to managed travel programs resulting from content fragmentation strategies. (Note: The points below are not necessarily true for all corporate travel programs; potential financial impacts would differ greatly from one travel program to another.) 

One has to look no further than the Air Canada Tango fares controversy to understand the customer implications of airline distribution strategies that seek unbalanced solutions and lead to fragmentation. In that case, Air Canada suddenly removed its lowest fares from GDSs, causing the Canadian and US-Canada marketplace to be fragmented. Air Canada stated on-the-record that the issue was not GDS costs.

The Air Canada action, a seeming microcosm of network airlines’ ambitions, is largely about pursuing a fragmentation strategy wherein the relationship between Air Canada and travelers becomes one-to-one with no intermediaries such as TMCs and corporate travel departments.

A key objective of such a fragmentation strategy, whether Air Canada or other network airlines around the world, is to reduce the opportunity for comparison shopping and policy compliance with a result of higher yields for airlines.

If the new industry distribution model, probably settled upon this September, helps generate 25 network carriers implementing Air Canada-like content fragmentation strategies, then CTMs around the world and their programs will be at risk. The industry is only a breath away from this happening.

V. Context for Travel Manager Action

            A potentially new GDS business model has come together in this now deregulated industry in 3 phases.

Yet, because of the influence of American and Sabre, and their grand-scale standoff, the industry finds itself straddled between the second and third phases. The resolution of this standoff will largely dictate what the final business model will look like. BTC’s view is that most network airlines are privately hoping American does not blink and the GDSs, as sure as the sun rises in the east, are hoping that Sabre protects their business interests.

CTMs need to determine who is most closely aligned with their business interests: airlines seeking content fragmentation for higher yields (which is their commercial right to pursue), or GDSs endeavoring to secure true full content to protect their business models (which is their commercial right to pursue).

It is BTC’s view that the strategic interests of corporate customers require ironclad commitments to true full content with very narrow definitions for exceptions. This happens to be in alignment with the (largely unstated) self-interests of the GDSs. As Larry Brody, Director of Strategic Sourcing & Travel Management at CBS Broadcasting Inc. stated during a NBTA session in Chicago: “We are really concerned with the content impact. We need all the content all the time -- content everywhere, every minute, every time."

And it’s not just about air travel. As Ron DiLeo, American Express Business Travel SVP and head of corporate travel in Europe, the Middle East and Africa, told The Transnational recently, “One of the things we have asked our European customers to consider, as part of identifying a hotel as a preferred supplier of theirs, is to require them to be in the global distribution systems. We all do workarounds, but ideally everyone would be in the GDSs.” This is clearly an industry-wide, global issue.

VII. What Travel Managers Must Do

The die is about to be cast. CTMs are already in the not-so-advantageous position of informing senior management that GDS pass-through financial incentives will not be fully available directly or indirectly in 2007; this could mean new fees from TMCs. Moreover, there could be a per segment content access fee of $3.50 added to each airline ticket starting September 1 for some corporations purchasing air transportation services in some channels.

However, the really bad news for senior management would be if content fragmentation sticks. In the near term that would mean new levels of complexity, expensive workarounds and higher fares-paid. In the longer term it would mean a loss of credibility of corporate managed travel programs and significantly higher overall total costs for business travel-related activities. This is a battle that CTMs cannot afford to lose, much less be on the sidelines during.

It is BTC’s understanding that Northwest Airlines lost some 28% of its premium class bookings on the first day that its distribution cost transfer program went into effect in September 2004 -- no doubt, the major reason its initiative imploded. Unfortunately, two years later only a loss of business on September 1, 2006 will once again likely encourage these major airlines to consider the implications of their actions. Some TMCs are indeed convincing CTMs to switch preferred airline suppliers. CTMs have the most potential for influence right now.

In BTC’s view, CTMs must exercise their most fundamental responsibility to think and act strategically to protect their corporations’ interests, and specifically consider taking the following steps right away:

Consider as well, as some aggressive CTMs are doing, communicating the requirement for language in airline contracts stating that your corporation will not pay, nor authorize its TMC to pay on your behalf, any fees assessed to recover any portion of GDS fees. Contractually require that airlines agree to full content display at all times during the term of your agreement.

VI. Why There Is Reason for Hope

If CTMs exercise appropriate leadership now, there can be a positive outcome that recognizes the interests of all industry participants, including American’s and Sabre’s. Massive content fragmentation is not a fait accompli, as some industry participants would have us think. Indeed, the industry may only be one airline/GDS agreement away (namely, American / Sabre) from securing full content, ushering in a new era of content stabilization. What’s more, as low-cost carriers such as JetBlue return to GDSs, new low-fare options as well as the robustness of GDS data could become more compelling than ever for CTMs. 

The travel industry values efficient access to full airfare content. That is why most airline-GDS deals are signed, and on reasonable and balanced terms and conditions; why CTMs from the very largest corporations are saying “No, No, No!” to the $3.50 per segment content access fee; and why CTMs must not allow modern travel management to be transported back in time to a far less productive industry environment.

In conclusion, there is hope if CTMs act now. They should not think of themselves as caught in the middle of feuding GDSs and airlines. Rather, they can take a leadership position and drive true value for their corporations by shaping the final form of this new travel distribution system model. The plain truth is only corporate customers can influence a positive outcome that protects their companies’ interests.

…

 

Addendum

The really important question now is what are the hidden risks in how this new model might work that CTMs need to be aware of and prepared for? The most immediate need is to have productive TMC-CTM discussions.

Questions for TMCs would include:

How will any $3.50 fees be allocated?  Will backup be provided?  What kind of delay will be experienced between booking and billing of these charges? Do airlines even have the ability to track, account for, or bill a TMC for this fee?