Sharp card game

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By David Field in Washington

Any time money changes hands, any time a piece of paper or a digital transaction representing money takes another step, someone takes a small piece of the action, a small slice of the cash pie.

So every time an airline sells a ticket, the carrier stands to lose a little piece of payment in the distribution chain, from travel agents to intermediaries like the global distribution systems (GDS). Credit cards and the banks that issue them stand to slice a bit off as well. It is this expense that airlines are increasingly putting under the microscope. Their tactics to tackle it are changing, with carriers gradually moving away from confrontation and toward partnering. They are also embracing payment plans that bypass the card schemes altogether.

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© Andrea Crisp 

Pascal Burg, consultant with Edgar, Dunn and Company, describes reducing the annual credit card airline processing tab as “the next frontier” in distribution savings after GDS fees. He says that the industry’s efforts to cut distribution costs began with the campaign to slash travel agent fees, an area where airlines have dramatically cut costs, halving agent fees since 1999 in the USA from $390 million.

Efforts elsewhere have been less successful as brick-and-mortar agencies have kept alive traditional agents, especially in countries where internet adoption rates are low. This is an ongoing assault, and one going on globally. For example, commissions to agents in Japan are just now being axed.

Following the commission cuts came the GDS fee battle – which is a continuing struggle. Certainly the worldwide increase in issuing tickets through channels other than the main GDSs is a continuing trend, with just over half of tickets moving through GDSs in North America, and slightly more in Europe. The real question is how to cut the credit card bill that is over $1.5 billion in the USA alone, says Burg.

The rising credit card bill is driven by the strategic decisions of carriers to shift sales away from agents and to the internet. “If people buy on the internet, they’re going to use credit cards,” says Al Lenza, vice-president for distribution and e-commerce at Northwest Airlines. But at Northwest credit card costs are now a higher cost category than the GDS expense – and are certainly rising faster, he says.

But carriers often feel impotent when trying to extract concessions from credit card providers. For his part, Burg disputes the conventional wisdom that airlines have little leverage with the credit card companies, although he admits they have less than they have had with travel agents or with distribution systems. Airlines have status, he says, because they are such large customers and because their adoption of co-branded cards gives them power. Such cards carry both the airline and the issuing bank names, and the airline profits by selling frequent-flyer miles to the credit card issuer, which in turn uses them as rewards for using the card.

Burg says that the airline view of the credit card relationship and of the payment process in general should become a strategic one and move beyond a simple cost-cutting focus towards a view that airlines can use the payment process to generate more revenue, develop customer loyalty and develop and retain new market segments. Cost reduction is only part of the equation. “Airlines have really pursued optimising the payments mix – accepting alternative forms of payment,” Burg said. “Continental Airlines has begun promoting BillMeLater very aggressively with a 90 days same-as-cash offer”, he says of the Houston-based carrier that has pioneered alternatives.

Around the world airlines are looking for ways to trim the cost of the payment part of the distribution value chain. In Belgium, internet-based pay from home is offered by ING bank, while in Malaysia, Maybank clients can buy direct from AirAsia; GOL introduced a private label card for its home market in Brazil late last year and British Airways has partnered with AirPlus to use UATP accounts, enlisting two of the credit card schemes that the airlines themselves own.

These are more proactive steps than some defensive moves seen in the past, such as Ryanair’s decision two years ago to stop accepting the American Express card because of its “excessive charges”. Then there was the move by Qantas in 2003 to impose a 1% surcharge for all card transactions in Australia, and the dramatic actions of BA, which in June 2002 refused to absorb credit card merchant fees on UK corporate net fares, going so far as to litigate with American Express over such actions. Burg insists that moving away from confrontation and toward partnering, as in more recent actions, is the right move.

Changing customer behaviour

Northwest’s Lenza says that the key to controlling credit card costs lies in changing customer behaviour rather than in wrestling better deals from the credit card issuers. “The card companies are in a strong position, and we have historically had relationships with all of the credit companies,” he says. When it comes to the GDSs, some carriers have threatened to give one of them up in an attempt to gain leverage. Similar threats are not apparent when it comes to credit cards.

The alternative is dealing with other payment forms such as PayPal, BillMeLater, or CheckFree, and Northwest is looking at all of these, in particular PayPal. This system is currently largely associated with value-conscious, lower-yield leisure travellers, but that is perception is changing, just as the famed eBay online auction system evolved into a higher-value system, says Lenza. “They started out as a flea-market bazaar and now items in the thousands of dollars are traded on eBay. It is not just a new way of paying, it is a new way of doing business.” He says the alternative payment companies are “very eager to get into in this space”.

Just as the airlines have exerted their influence on other elements of the distribution value chain – using their own websites as leverage with the travel agencies and moving from the traditional GDSs to rival access providers – they are using alternatives payment methods as leverage to force down the cost of using traditional credit cards.

Payment systems such as PayPal and Western Union simply bypass the credit-card payment process by providing direct transfer of funds to other credit-card schemes that are airline owned and so lower in cost – such as UATP or AirPlus. In fact, Richard Crum, chief executive of AirPlus International in the USA, makes the analogy directly: “We and UATP are to credit cards what G2 SwitchWorks or ITA Technology are to the distribution systems. We can be a tremendous bargaining tool, but we are also in operation, producing savings.” Neither AirPlus nor UATP is allowed to detail differences in the fee levels but it is believed to be as much as 75 basis points (three quarters of a percent) below some typical card fees.

The highest-cost credit card, by universal agreement, is the American Express (AmEx) card group, which, despite its US name and identity, is best known in regions such as Asia. It may cost a lot, but AmEx believes it is worth it. An AmEx customer typically spends five times as much as a MasterCard customer and three times as much as a Visa customer, it says. Erich Franken, the AmEx vice-president for the airline industry, concedes that AmEx charges “a premium rate”, but says that the value of the American Express brand and card does not change depending on the airline’s financial health, and so the discount rate is not open to being negotiated downward.

He says: “The price is based on the value that we deliver to our merchants, and the value is driven by loyal high-spending customer base.” AmEx drives incremental business customers who are likely to go to another carrier if they cannot use their AmEx product, he says. The company offers “marketing platforms that let airline communicate directly with our customers”. Ron Mazursky, an Edgar, Dunn and Company consultant in New York, says the AmEx marketing dynamo all but ensures that “its promotions will be profitable to an airline. They trade their product for top dollars but their offers succeed.”

One of the only instances in which AmEx trims its discount rate, also known as its merchant fee, is on co-branded cards that are issued to specific airlines. It pioneered the co-branded card with Delta Air Lines, where chief executive Jerry Grinstein is enthusiastic about the Delta SkyMiles Card relationship. “It brings us a lot of loyalty and the benefits are well worth it; you’ll see new products branded by us and AmEx,” he says.

European battleground

In Europe, the battle is in its early stages, notes Robin Kamark, senior vice-president airline commercial at SAS. “Awareness is perhaps not as far along here,” he says, although two rapidly emerging developments stand to change that. The European Union is approaching the date for a Single European Payments Area (SEPA) that is intended to set uniform standards and simplify artificial barriers within Europe. There is also a developing European Commission (EC) probe of the credit card industry.

The SEPA plan would treat the dozen Euro-zone nations as a single domestic market, rather than allowing card-issuers to act and charge differently in each country. Although SEPA is scheduled for a 2008 implementation, it could be 2010 before its effects are known, says Burg. That, however, is an extraordinarily short time for such a major change, he says, and he told the Association of Corporate Travel Executives in Atlanta earlier this year that some have predicted a hit of as much as €29 million to the card industry, which would be likely to raise fees to recoup this lost revenue.

Burg also said that some anticipate a move by the industry to add surcharges for credit card purchases. Many in Europe, where SEPA is a major concern, are looking to the Qantas surcharge as a way to pass on the charge to customers, although in some EC nations regulatory permission would be needed.

In advance of this change, which Burg characterises as a complete reworking of the business model, the EC has launched a detailed in-depth study of the credit card industry and its structure and fees. The preliminary findings gave considerable comfort to the airlines, said the Association of European Airlines. It said that credit card payments and commissions can add as much as 25% to a typical airline distribution bill, and that interchange fees are, in effect, a tax on airlines and their customers, who suffer from the lack of transparency.

The EC found that in all industries and categories a total of 23 billion card payments are made annually in the European Union with an overall value of €1.35 billion. But it found that consumers pay 100% more for MasterCard and Visa in some countries than in others. The fees for businesses vary by up to 500% for Visa and up to 650% for MasterCard. It also says that card acceptance fees are used to “tax” sales at business outlets, as banks charge retailers a fee for every use of a payment card.

This leads to inflated retail prices by up to 2.5% of total consumer purchases and aggravates the effects of rigid market structures. Small and medium enterprises pay higher fees than large ones for the use of a payment card. The Boston Consulting Group estimates average European bank revenues from a domestic payment will fall by as much as 12% or 13% by 2013 as SEPA becomes fully operational. Cross-border payments, where profits margins are higher, will also fall, and banks and credit card payment processors will “move to pan-European offerings, discarding even efficient domestic ones”, says Boston Consulting Group’s London head Nick Viner.

In the Czech Republic, for instance, courts have just cleared the way for retailers to begin charging a fee for accepting payment cards. EC officials mentioned the Czech Republic, Hungary, and Portugal as suffering the most drastic differences in card charges. Retailers in these countries pay four times as much as those in Sweden, Finland or Italy, Competition Commissioner Neelie Kroes said.

But until reform or change in Europe, says Kamark of SAS, the challenge for airlines will be to work with credit card issuers and the public to make clear the value of the card process – and its costs. “Consumers simply do not know what the charges are, and so the cost of the card is not transparent,” he said. “We are perhaps going to have to go to the public and ask them to share some of the cost. It makes no sense for the airline to pay fees and charges that add value only to the card issuer.” In Europe, as in the USA, the co-branded card is gaining attention, according Kamark.

The other development that stands to shake up the payments industry globally is the $2.3 billion flotation of MasterCard, the major credit card issuer that had been owned by some 1,400 banks as a co-operative or association.

Upper end of the market

MasterCard had faced increased competition from alternatives such as the co-branded card and even new payments systems such as PayPal, which “rely principally on the internet to support their services and may enjoy lower costs than we do”, it says. Crum of AirPlus says the travel industry widely anticipates that MasterCard will focus on the upper end of the market including corporate travel accounts. If that is so, another battle in the cost-cutting saga is about to open.

Beyond the battle over costs, credit card issuers vie for corporate customers using reporting data as selling points. The key goal in cost-control efforts of corporate travel departments is compliance with company policies – making sure that corporate travellers use preferred airlines and hotels and get the guaranteed discounts – and making sure that expense claims are accurate. Marcie Verdin of MasterCard says integrating expense reports directly into the payments systems data is a way to cut as much as half off the $10-25 cost of producing a travel expense report.

But here UATP and AirPlus can claim an advantage. They are already a lower-cost product and are competitive on data reporting. As Wal-Mart global travel services director Duane Futch says: “We can’t have fragmentation in the settlement process. It costs money to have all those different cards. And we don’t want that. We want one form of settlement, and that’s all there is to it.”

For a category as ripe for change as the credit card and charge process is, it is a tough shell to crack for airlines. UATP president Ralph Kaiser says: “Fuel right now is taking up a lot of bandwidth with the airlines, but when they get beyond that and renewing their GDS contracts, credit card costs will be next piece of the pie.” ■