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What Lessons in Pricing Might Banks Learn from the Airline Industry?

Posted by Val Srinivas, Banking & Securities research leader, on August 20, 2013

Comparing banks to airlines might seem a bit far-fetched at first glance, but please allow me to develop the analogy.

As most air travelers know, additional fees for ancillary services like checked baggage are becoming the new normal, which was not the case even five years ago during the bleak days of the economic downturn. 

Airlines, like banks, faced some serious problems during the crisis: depressed demand, plenty of external pressures and considerable uncertainty.

Pricing to the rescue

Airlines had to do something drastic to survive. They needed multiple weapons to battle the economic ills facing the industry. Unprofitable routes were abandoned and costs had to be reined in. But of all the changes airlines made, what really stands out is the new approach to pricing: unbundling the service package and charging separately for each item.

Checked baggage was one of the first services subjected to this new pricing strategy; the list has now expanded to include fees for early boarding, upgrades, oversize bags, blankets and on-board entertainment. 

And, interestingly enough, this unbundling notion has been extended to airport VIP lounges as well. Passengers can now buy one-day or 30-day VIP lounge passes that, until recently, were sold as annual subscriptions only. 

It seems there is more to come. Airlines continue to experiment with “add-on” services.1 For instance, some airlines are considering subscription services for roomier seats and checked baggage. It is not an exaggeration to say that airlines have used advanced pricing methods for some time now. They were one of the pioneers of innovative reward programs. (How many of us are still allured by the promise of airline miles?) And “yield management,” in the form of complex, dynamic pricing models, has been the norm for decades.

In spite of this sophistication, the pricing formula remained much the same with one price that mattered – the price you paid for the ticket. Services that are now deemed ancillary did exist, but there was typically no extra charge for them.

What a difference pricing makes

When these new fees were introduced, there was naturally some negative consumer backlash. But many consumers now seem to have adjusted their expectations. Customer satisfaction is higher than before the economic downturn.2 Also, according to J.D. Power & Associates, the difference in customer satisfaction between those who paid baggage fees and those who did not has been shrinking over the last few years.

Airlines appear to be in better financial shape as a result. For instance, in 2012, baggage fees contributed $3.5 billion in additional revenues.3 And profitability, which has been elusive for many years, is up (albeit modestly).

Learning to fly

So what lessons can the banking industry draw from the experience of the airline industry?

  • As a recent Deloitte research report highlighted, going from free to fee is fraught with all kinds of challenges. But the airline industry has shown that this is not insurmountable.
  • It is possible to successfully divide the service package into core and ancillary services. To some extent, banks already do this in the form of different fees for various services like ATMs and overdrafts. But is it possible to extend this logic further to create new ancillary services? The answer may be yes.
  • In spite of initial customer dissatisfaction with new pricing approaches, such as baggage fees, airlines have shown that it is possible to regain satisfaction through new technology and the emphasis on customer experience.4
  • It is critical to understand how price changes impact different customer segments and devise appropriate strategies to mitigate potential negative consequences.

As is often the case, there is quite a bit one can learn from others’ experiences. I believe banks should look for inspiration beyond industry boundaries and examine pricing practices from other industries – not just airlines, but many others, from wireless carriers to cable companies to salad bars. This is especially critical as the banking industry faces unprecedented regulatory and economic pressures.

What is your view? Can banks successfully adopt new forms of pricing as airlines have done?

1Susan Carey, “Airline Fees Keep Climbing—Some Carriers Bundle Charges for Former Freebies, Framing Them as a Service,” The Wall Street Journal, July 5, 2013.
2J.D. Power & Associates, Press Release, 2013 North America Airline Satisfaction Study, May 5, 2013
3Bureau of Transportation Statistics, Press Release, BTS 23-13, May 14, 2013.
4J.D. Power & Associates, Press Release, 2013 North America Airline Satisfaction Study, May 5, 2013.

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