Transforming airline profitability – how quickly will IATA’s NDC move from novelty to reality? Part 1

NDC transforming airline profitability

IATA’s New Distribution Capability (NDC) gets the thumbs up (finally) from airline distribution stakeholders for transforming airline profitability. However, adoption and implementation remain daunting for an industry entrenched in legacy technology investment. IATA is doing all it can to get people engaged and excited about the benefits that an XML standard can bring to airline merchandising. This two-part article discusses some of the challenges that lie ahead. Part 1 puts the issues and scale into context and the Part 2 presents some specific challenges confronting airlines as they evaluate their NDC options.

After years of vociferous opposition from powerful vested interest groups such as the Global Distribution systems (GDSs) and associations representing business travel agents, opposition to IATA’s NDC programme is crumbling. Oddly enough some of the organisations that protested the most (e.g. those with perhaps the most to fear from change) are the ones now publically embracing NDC and the benefits this new open standard will bring. It is not important whether this is as a result of:

– Successful lobbying by IATA and its airline members for the need for flexibility
– A simple realisation that the ‘status quo’ is not viable for Internet shopping
– The competitive threat from new technology distribution and merchandising platforms

What matters now is that the NDC plane (the new age of air travel merchandising) is revving its engines and the stakeholders are climbing on-board. The question is how fast will it be allowed to fly? The simple reality check is probably not very fast at first, in spite of the enthusiastic bandwagon that assembled at the recent IATA annual World Passenger Symposium (WPS) held in San Diego.

During WPS, all three major GDSs used the public platform to express their desire to support any airline ready to distribute their content through their agency networks, using the NDC XML standard. In parallel, the main vendors of Passenger Service Systems (PSS) confirmed their plans to adapt their respective products in order to help their hosted airlines to implement NDC-based distribution with their channel partners.

With DOT 787 Resolution approval, the GDSs now embarking on investment in XML solutions and the competitive pressures from the new generation of XML-based merchandising platforms, the stage seems set for progress in airline ancillary merchandising through indirect channels. Most recently, at their European conference last month, the previously hostile Global Business Travel Association (GBTA) launched the Berlin Charter, to encourage airlines to continue to meet the specific needs of the TMCs and the corporate traveller in the light of evolving NDC.

One thing is clear, when it comes to NDC, airlines today do have some options (discussed in part II).

So finally after 3 years of controversy, the reverberations of a major U-turn from the airline distribution incumbents is being felt. The Low Cost Carriers (LCC) have more than demonstrated that ancillary sales is where profitability lies, and IdeaWorks ,the research company specialising in calculating ancillary revenue has shown it works for the traditional carriers too (at least those 50-odd that share their revenue breakdown along these lines). In fact more than 10 of those 50 make more than a billion dollars in ancillary revenue. So NDC has recently celebrated its I’m here party (at WPS). The spate of product announcements, press releases and pilot updates issued by the GDSs, the newer merchandising platform providers such as Farelogix and Datalex and some of their airline partners publically signifies that they are all facing the same headwind. The sentiment regarding NDC is no longer ‘if’ but when and how?

At this juncture, there are two noteworthy points worth remembering about airline distribution, the first is growth and the second is complexity. Let’s take a look at each in turn:

– Growth — 2014 marks a century of commercial aviation. Some 65 billion passengers have flown in the 100 years since the first airline flight. Airlines will carry the next 65 billion passengers between today and 2030 announced Tony Tyler, IATA’s Director General and CEO in his keynote address at WPS. That’s an amazing growth trajectory and is almost as impressive as the claims being made about the growth of data itself

– Complexity — Airline distribution is a complex and interconnected business, and there is good reason why the GDSs evolved into the controlling and powerful hubs of distribution capable of processing vast quantities of multiple types of information such as routes, schedules, fares and reservations for hundreds of airlines and millions of travellers. Travel agents also need access to multiple pieces of information before making a reservation. There is in fact a complex network at play.

On a 24/7 basis the schedules, fares and inventory data-feeds of hundreds of airlines are transmitted through the centralised GDS “front door”. These days hundreds of thousands of hotels and scores of rental, rail and cruise companies make their products available via the same route. Out the “back doors” flow normalized data for comparative-display which is what tens of thousands of travel agencies and corporate travel organisations around the world access to make their bookings. More than half of all air tickets are still sold through the GDSs. These are largely used by the Travel Management Companies (TMCs) operating within specific corporate travel policies and information requirements.

Since the beginning, airline distribution running through the GDSs has been designed for heavy transaction loads with a focus on products and fares and less on customers. This means a corporate travel agent’s ability to sell ancillaries over and above the seat has been restricted to what the GDS can offer. The fact that legacy technology restricts airlines from being able to sell to the TMCs the same differentiating and personalising offers available on their direct channel is a major impetus for NDC adoption by the airlines.

To transition from product centric to a more customer centric infrastructure that is capable of delivering immediacy and personalisation for a range of offers through the GDS and not just the home website is not going to be easy or swift. The industry is too complex and interconnected and has a long history of legacy investments.

But since most airlines today are largely in private ownership and their profitability track record for shareholders so poor (for decades), the need to put the customer at the centre of profitability objectives could not be more compelling. This puts airlines under pressure to reduce their distribution costs (estimated at around 20% in 2009). This is actually one of the few costs that airlines should be able to have control over. There are many others driven by regulation or economic drivers that are not.

IATA illustrates this very well in its report Profitability and the Air Transport Value Chain which puts strong financial bones around the ‘need for fresh thinking’ to reverse airline profit fortunes and viability (across all areas not just distribution). For example in the section addressing the role of the GDSs the report points out that:

“The highest returns in the air transport supply chain are earned in the distribution sectors. Computer Reservation System (CRS) services provided by the Global Distribution Services (GDSs) earn an average return on capital of 20%, double their 10-11% cost of capital.”

GDSs produce an average annual economic profit of $0.5 billion.

This sector is highly concentrated and airline customers have little bargaining power. Probably more important than high distribution costs has been the commoditization of airline products in this channel.”

By contrast airline:

“Returns on invested capital have only improved from 3.8% in the 1996-2004 cycle to 4.1% in the 2004-2011 cycle, still way below the level of returns that an investors would consider ‘normal.”

According to this portrait, airlines are fuelling the fortunes of allied industries at the expense of their own. NDC is just one of the programmes that IATA is driving to help redress the profitability balance in the future. For the programme to be successful, it does need a fundamental industry-wide technology shift and the adoption of an XML-based standard on a major scale. This standard, under the guidance of IATA, will provide for inter-operability in the total supply chain and avoid carriers having to develop APIs for every distribution hub on the planet. In direct sales channels airlines have already been using Electronic Miscellaneous Document (EMDs) – the IATA messaging standard enabling airlines to share information on issuing, managing, distributing and fulfilling airlines services)

In the new world order of distribution, airlines need to determine their strategic approach to ancillary merchandising. This inevitably involves making some technology choices and drawing up some new processes to handle shopping, booking and issuance of NDC transactions. Airlines have some distinct choices:

– Work with the new breed of agile airline distribution and merchandising platforms,
– Continue to work with the GDSs — at the GDS pace — to get the merchandising functionality they crave
– Opt not to implement an NDC model and retain existing EDIFACT messaging standard

For the first option, there are already some serious players stepping forward with ready-made solutions with which to capture market share (of that very big market!). Contenders such as Farelogix, who are ready to deliver 21st Century merchandising solutions and for whom the NDC standards and IATA led industry collaboration represent great opportunities.

In the second option, the GDSs are promising XML based offerings, recognising that they risk becoming corporate dinosaurs if they don’t. However, some airlines have spoken of their frustrations about the speed and costs of delivering requested functionality to support ancillary sales.

The third option sounds a bit like ‘burying the head in the sand’ when all the world around is changing, it is in fact an option provided for under the DOT 787 resolution agreement. It means that the existing EDIFACT messaging standard will continue to be supported for some time to come.

So having identified some of the compelling drivers for change and the options for embracing that change, the next article addresses some of the specific challenges confronting airlines as they seek to apply NDC in their quest to put the customer at the centre of their merchandising strategy.