Eastman Group€¦ · Web viewThis new agreement will be implemented by August 1, 2006. From:...

It’s a serious effort this month … starting this on the 27th March … four days to go ‘till the end of the month. That’s just exactly how far March’s OTWC got.

And now we’re into May. So the question arises … will I actually get March/April released in early May – or does it become March/April/May? Working with a turn-around airline is an all-consuming task – in time, focus, and resources.

Still, I’m not sure that I have a lot to say in this posting. Mostly I’ll be parroting comments that I’ve passed along to inquiries that have come my way over the 60 days.

Eastman's "Off-the-Wall Comment(s)"© …

Much of the discussion that evolved around this announcement in March was/is based pretty much on the way travel product has been distributed in the past and is done today. It fails to recognize the evolving trend spawning from commoditization.

When I say commoditization, I’m speaking of the commoditization of high-speed information as a function of the Internet and the evolving hardware user solutions (i.e. cell phones, PDAs, I-Pods, TabletPCs, portable memory chips/sticks, etc.) And I’m also talking about the commoditization of airline seats (i.e. point-to-point offering, frequency with smaller planes, fewer classes of services, segmentation and fees for added service components, etc.).

Deregulation, globalization, and the ubiquitous availability of information – whether for distribution, manufacturing, production, entertainment, knowledge acquisition, etc. …

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Eastman’s Off the Wall Comments©

From: Business Wire (Sabre News Release), 7 March, 2006

Sabre Holdings today announced a new agreement with Amadeus IT Group SA to provide their respective travel agents with uninterrupted access to airline inventory. Specifically, the agreement enables Sabre Travel Network to provide its travel agents with the ability to complete bookings on an airline that might not participate in the Sabre global distribution system (GDS). Sabre will offer the same back-up for Amadeus.

From: Travel Weekly, 20 March, 2006

As American Airlines leads opposition to the Sabre-Amadeus content-sharing agreement, the world’s largest airline is warning travel agencies and corporations that it may not participate in all reservations systems in the future and could institute a “cost-recovery program” if agencies access flights through costly distribution channels.

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virtually every element of human communication and/or machine technology integration – rapidly drives any mass-used product or service into a commodity state. A commodity is defined as a product or service where price is the primary (although not only) criteria in a buying decision.

Products climb (or descend) a ladder of economic progression – from commodity to good to service to experience to transformation (Pine and Gilmore, “Progression of Economic Value”, ©1999 and depicted graphically in the February 28 OTWC). As a product climbs up the ladder, it commands higher prices from buyers. As it descends the ladder, the price to the buyer becomes less. A “commodity” strawberry in the field becomes a “good” in the grocery store, a “service” as the shake at McDonalds, an “experience” atop a parfait desert at a fancy restaurant, etc.

The airline seat, as well as access and transport of information, have both been descending this ladder for many years. Each has gone from being a service to becoming a good and now has become a commodity. When products reach a “commodity” state … where even the volume producers cannot leverage significant margins through mass production … a second transformation begins to take shape. To achieve ever further economies of scale, commodity products begin to take the form of components.

A component is a service or a product that has a standardized input and provides a standardized output. Commodities become components in order to further lower the cost of production – to eliminate or minimize the amount of unique work or proprietary tooling necessary to link or use two (or more) commodities together – effectively, to “package” commodities into solutions or an integrated product that provide buyers or users with a value-added benefit that could not be obtained as economically if one were to buy the commodity solutions separately.

In a sense, package tours are made up of “component” parts or services provided by many vendors at a discount derived from the volume purchase. Today’s modern computers are made up of components … memory chips and video cards and power supplies all produced by different manufactures and “re-packaged” with standardized interfaces to provide a “brand” product to the user. Similarly, automobiles are comprised of components manufactured by many different companies and packaged using standardized connectivity into branded cars or trucks. Cell phones, I-Pods, PDAs, digital cameras … are similarly constructed. The USB port on one’s computer and/or the memory slot accept componentized elements that serve all sorts of different userspecificneeds in a wide range of products.

It would appear to me that Sabre and Amadeus are attempting to create a competitive alternative response to the ubiquitous access that airlines now make available via internet access; i.e. a backup to the airline seat content that is available directly from airline web sites. By implementing the digital tie-in, these too legacy-structure, channel-dependent, travel distribution networks are effectively “merging” their channel networks in an effort to off-set the openness of the emerging competitor – Internet. Sabre and Amadeus are essentially attempting to componentize their distribution channels … enabling participants in either to access content components contained within their systems; rather than forcing users to go direct to the providing vendor.




There has been discussion that airlines may bargain to withhold parts of their inventory … as well as opt out of one or another of the major GDS distribution channels. This is a valid argument in today’s digital world. Both Amadeus and Sabre argue that in the “unlikely event” that an airline drops out of Sabre or Amadeus, a transaction would be “seamless” to travel agents. This is a discussion point made in numerous public and private statements by both Sabre and Amadeus. What that response suggests is the GDS’s expectation – or in fact, their early recognition – that this is happening. Note … I DID say “happening”; not “going to happen.”

Without getting into details, one only needs to recognize that there are a bunch of low cost carriers that have never opted into the GDS distribution channels; and some that did join the traditional distribution channels and have since gotten out. Almost all of the non-GDS participating airlines continue to out perform the airlines that use the traditional distribution channel structures. Consider that Southwest Airlines has functioned very well for years without being a participant in any GDS.

Concurrently, componentization is going to drive out rebates and overrides in the not-to-distant future.

In just the month since the announcement, the media’s search for details of this agreement became hidden behind the more recent flush of airline/GDS post-DCA agreements (more on that below). But I suspect that the specifics of the Sabre/Amadeus agreement would quickly be a moot point in any case. The GDSs as we have known them are morphing into new and different businesses. The driver is the commoditization of the digital channels of distribution that serve the airline (and other travel) product – and the commoditization of the airline seat and its related service components. Both elements of these established industry services are turning to componentization as a way to “repackage” the commodity parts in an effort to start a climb back up the ladder of economic progression. In fact, it appears that repackaging through componentization is the ONLY way for big companies caught in the commodity trap – to regain their margins and grow.

It is important to note here that componentization itself is different than just repackaging.Repackaging deals only with the commodity parts. Componentization reflects the integration of the commodity parts using commonly available standards. In this case, you have the “componentization” that comes through the open standards of Internet messaging protocols – and in the Amadeus/Sabre case, a type of “componentization” that links the existing non-standardized proprietary legacy commodity outlet portals.

The Amadeus/Sabre link does offer some interesting long term strategic implications. Amadeus has strategically been focused on building hosting platforms for airlines over the past five years. Sabre has strategically been focused on building an open architecture platform to serve the distribution needs of travel outlets over the past five years.

What’s interesting about the Amadeus/Sabre agreement is that it combines to long term strategic initiatives in a relatively non-competitive manner. Yes, both host airlines and both have distribution networks – but the focus, and thus major investments, have been at opposite ends of the vendor/distribution continuum.




To keep perspective, Galileo merged into Cendant … and as Cendant, seems focused on evolving the Cendant franchise ecosystem. Worldspan has staked its future on being an Internet portal for the legacy airline hosting platforms; a strategy that appears threatened by the growth of airline direct access portals.

American Airlines, among others, attacked the Amadeus/Sabre agreement as illegal under the terms of their agreement. Whether that is true has yet to be determined. AA then went on to say that it would create a “charge back” program for agencies that opted to use such a system.

Still, the threat seems more like a traditional “knee-jerk” reaction to the way the world used to be rather than anything that would long impede what is happening. The Sabre/Amadeus agreement does threaten American’s ability to control its traditional distribution channel. But then one has to ask what American is doing to the “traditional” distribution channel when it turns on AA.com and builds direct links to Orbitz.com.

The reality is that the pressure of economics and competition are driving all of these businesses down the road of componentization – to a point where the focus of the business ecosystem will be to differentiate and integrate using different business rules linked to the product offering – the various components of a requested traveler plan.

Vendors and distribution channels must become reactive in responding to buyer needs. They can no longer depend on the buyer to come to their warehouse of content inventory. The ubiquity of information is transforming the airline distribution structure from supplier-driven (the core of American Airline’s threat) to one that is demand-driven.

There is not much that any of the legacy suppliers or intermediaries can do to stop this transformation because the ubiquity of information converted to competitive knowledge continues to spawn new and better alternatives.


Essentially, it appears that the airlines are “making good” on their threat(s) to seek out lower cost alternative distribution channels. There has been a lot of “jaw boning” about it – but the Northwest/Sabre agreement seemed to reflect the first break in the dam. This



From: EyeForTravel, 31 March, 2006

Worldspan and American Airlines have signed a new five-year content distribution agreement. The travel technology services company also shared that in conjunction with the agreement, Worldspan has developed two new optional products to introduce into the marketplace. Through this new agreement, agencies will have the opportunity to access American Airlines’ comprehensive published fares, inventory, and availability. This includes all published fares that the airline sells through AA.com, any third party website or other distribution system, as well as private fares, where applicable. This new agreement will be implemented by August 1, 2006.


may well be the second – although the details are very sketchy and remain so a month after the announcement; even after two or three similar subsequent announcements.

In my perspective, the key is tied to Worldspan. When one looks at Worldspan’s role in the GDS pie – they jumped to an early lead in the Internet distribution world by becoming the Internet “switch” point for the initial-entrant Internet booking sites – at the time, Microsoft’s Expedia, Priceline, Orbitz, etc. Expedia alone ultimately leveraged Worldspan into third place among segments booked via the GDSs at one point in time. Still, it is important to recognize that these Internet bookings are, for the most part, “agency” bookings for which the airlines must pay segment fees.

With the viability of Internet proving itself (and Southwest launching its own direct site), the airlines all took to building their own web sites; direct access “took off.” Airline web sites by-pass the GDS channel(s) and the related segment fees. There are some studies that suggest the ratio of GDS segment sales to airline-direct (web-site) sales has gone from 70-30 to 30-70. Yet while GDS segments sales are down … they are not down 50%. This suggest that the market has grown; but that nobody quite knows how much it has grown since a much higher percentage of the segment sales are “hidden” because they are now direct – rather than through the traditional distribution channels.

For those that follow the GDS industry, it is apparent that agency segments sales in the U.S. are off. Amadeus and Sabre have off-set this trend with significant growth in non-US markets. Worldspan too as moved toward enhancing its international base – but it has less to start with has had smaller market penetration. More important, it appears to me, within the U.S. Worldspan has seen its share of segment sales drop dramatically as the Internet-literate buyers move to direct purchases on the airline web sites in lieu of buying through online travel agency sites.

The online agency sites have turned to “packaging” and “packaged” travel products – with greater emphasis on the cruise, hotel, and ground elements; air being tossed in as a commodity breakeven or loss-leader. Orbitz has ramped up its direct-link sales to the point where its volume through the GDS aspect of Worldspan is at the contracted minimum – or so goes the industry “buzz.” Expedia and some other smaller online sites that were previously exclusive to Worldspan – have all announced plans or have developed pathways that allow them to optionally select alternative inventory sources … i.e. Sabre, one of the other GDSs; and/or direct to airline links.

Enter into this mix, the Star Alliance (Lufthansa, United, etc.) initiative to enable the GDS New Entrants (i.e. G2Switchworks and ITA) – more commonly referred to as the GNEs. The GNE solutions are offering segment pricing solutions that are in the $1.50 to $2.50 range – as compared with GDS segment fees structures that range upwards from $4.00. The “established” GDSs all claim that they provide “value-add” as a reason to get that $4.00 segment fee. Some of that “value-add” is in the form of “rebates” to agencies based on segment volumes. And some of that “value-add” is tied to back-office accounting systems around which most large corporate travel programs are dependent. The GNEs do not offer “rebates” and do not have the inherent ability to support the back-office corporate travel reporting needs; the latter being a major impediment to getting corporate managers to specify GNEs (or even airline direct).

A few years ago, I publicly (in Off-the-Wall Comment(s)) expressed concern over Worldspan’s future. The Worldspan folks made an effort to “educate me” with respect to




their current technology platforms and capabilities. I came away from those experiences with a renewed picture of Worldspan’s potential and the expectation that they would soon launch a new business model tied to the environment I had seen. In my mind, it would have enabled them survive (unlike Apollo/Galileo) and maybe prosper in the new information technology paradigm that seemed to be evolving at the time.

But those expectations were for naught. Worldspan just continued to linger on the abyss; digging themselves deeper into the hole which was collapsing around them. That was two and a half years ago. That lack of action has resulted in what appears to me as a crisis for Worldspan. Over the past six months, Worldspan has found itself in the mode of having to defend against a continuing loss of segment market share, loss of related revenues, and new competition in their two areas of strength – online travel agency dominance and open architecture Internet technology platforms.

In my view, given its still strong open architecture technology platform … and increasingly strong competition from the traditional GDSs to serve the needs of online travel agencies – it would seem to me that Worldspan must move away from the industry standards and into uncharted territory with increasing vigor and in such a way that does not cannibalize its existing core segment revenue base.

Thus, if I were a betting man – my bet is that Worldspan has cut a segment fee deal with American that is tiered. In its top level full-blown tier function, Worldspan will get some discounted but competitive segment fee and continue to provide full-line GDS functionality. In the stage-two reduced service level tier program, Worldspan will eliminate agency “rebates” (and the pro-rated amount that would go with that segment fee cost) … but STILL PROVIDE the backoffice corporate reporting information upon which so many large corporations are dependent. In the lowest third-level tier, Worldspan will effectively match the functionality of the GNEs … no rebates and no back-office accounting information … an open architecture resource accepting bookings from anybody that can meet minimum qualification criteria and effectively fund a link intotheir system.

In the ensuing 30 days, Galileo and Sabre also announced agreements of one kind or another. Essentially, I suspect that all of these agreements have the earmarks of what I’ve described above … i.e. :

1. The GDSs have contractually obligated the airlines to keep their mouths shut.2. The airlines have agreed to keep quiet, in large part, because I suspect they all

have “most favored nations” clauses in their agreements. Thus, they can reach an agreement and know that if some other airline gets a better deal, they will get the common denominator.

3. I would guess that virtually all of the agreements look something along the lines of what is noted above – a three tiered agreement. The top tier is an agreement, somewhat lower than today’s per-segment transaction fee; that provides universal access almost identical to what the GDSs offer today. The second (or middle) tier is a per-segment transaction fee with mutually-agreed agencies (or other outlets) that is tied to a volume guarantee AND that also provides the agencies with back-office accounting data feeds. This will be an attractive counter to the GNEs that do not offer integrated back-office universal accounting solutions. The third tier will be a per-segment transaction fee that is competitive with the fees to be charged by GNEs (within $.50 cents or so, given the




perceived brand and market advantage of the bigger outlet channels). This third tier will provide no back-office accounting services; i.e. would be product-competitive with the GNEs.

That’s just my guess. I expect that one or another of our clients will soon be in the negotiating role and/or I will end up with some sort of non-disclosure limitation myself. So I’m getting this concept out now before an NDA comes along that blocks my ability to comment.

Understand that this is pure guess on my part. Still, as noted in the beginning, I think Worldspan is probably the “driver” at the moment. The solution outlined above would reflect the same kind of calculated risk that Worldspan took 10 years ago in positioning itself to be a hub for online travel agencies. And given Worldspan’s current technology platform … and its inability to successfully penetrate in any great depth, any of the more traditional GDS or hosting functions of their competitors – this seems like the only way out of a GDS paradigm that is rapidly closing down on them.

As I say, purely a guess on my part – but I don’t see anything else that makes any better sense. And concurrently, the other GDSs now understand the threat of the ubiquity of the Internet, particularly in the U.S. markets. As more bookings move to direct links, the picture of the market becomes increasingly distorted picture. And the fact that all of the agreements remain “secret” suggests significant wheeling-and-dealing behind-the-scenes; and that they all reflect concessions by the GDSs to reflect the threat of the alternative Internet solutions.


In fact, I picked up the term from a Harvard Business Review story in 1997 … as noted in this footnote from my essay “Economics of Airline Automation” (the essay is posted on TEG’s web site at << http://www.eastmangroup.com/articles/index.html >>; and while the concepts remain valid, a lot has changed since that essay was published).

Hyperarchy - defined by Philip Evans and Thomas Wurster in the Harvard Business Review, September-October 1997, 5. Evans and Wurster suggest that digital communication enables everybody to communicate interactively with everybody. The term takes its name from the "hyperlinks" of the World Wide Web and the "hierarchy" of current commerce models. Not only is the WWW a hyperarchy ... but so too is a deconstructed hierarchical supply chain within an industry ... and also object-oriented programming in software or packet switching in telecommunications. "The hyperarchy challenges all hierarchies, whether of logic or of power, with the possibility (or the threat) of random access and information symmetry," say Evans and



From: Jürgen Barthel e-Mail, 9 April, 2006

Hello Richard, the first reference I found from you to the concept of the hierarchy vs. the hyperarchy of information dates back to 2000. Any older reference? If so, I would update my speaker notes for this year's ASRA-presentation.


http://www.eastmangroup.com/articles/index.html%20

Wurster. Evans and Wurster subsequently released a book in 2000 on the hyperarchy: "Blown to Bits: How the Economics of Information Transforms Strategy"

Unfortunately, “hyperarchy” is a word that has proven somewhat confusing to most listeners. They “hear” the word; but don’t understand it. I’ve taken to using it with “ubiquitous information availability” and/or with examples; and more often of late, I talk about how ubiquitous integration of information is driving commoditization of all products (not just airline seats or the services provided by travel intermediaries).

The only way out of the commodity “sinkhole” is through componentization. By re-packaging commodity products through standardized communication links, one creates an economic hyperarchy that turns each commodity into a component – and it is the packaging of components in a hyperarchy that allows contemporary businesses to climb back up the ladder of economic value-add.

The componentization hyperarchy is not too different from what the GDSs have historically provided via their proprietary systems. The big difference is that the components use open architectures to create a real hyperarchy; while the GDSs continue to build and market proprietary closed network offerings.

As a contemporary example, it is possible for a small vendor to put inventory and pricing into an Excel spreadsheet or Access database – and offer their commodity product components in an open-market distribution environment … the hyperarchy of the Internet. Try getting a GDS to include such offerings in their offerings. Or try funding the effort to make that happen.

Even more importantly, try finding a content-based GDS proprietary packaged product to pop-up in a mega-search context engine like Google or Yahoo!





One of the marvels of most airline inventory management systems – legacy and new architecture alike – is the ability to automatically manage who gets what; whether they pay for it or not. Some are better at it than others; but technology can manage, within reason, the issues of who pays for what, when and even how or why.

The bigger challenge is the implied issue of somebody “bumping” another from a “preferred seat”. The scenario is probably exactly what most airline yield managements would prefer! Induce people to book early at perceived lower fares, but up-the-revenue by allowing them to pay more for preferred seating. The net effect is that the airline generates higher yield per seat across the total base of similar class seats than if they wait and gamble that there will be enough high priced demand to fill those otherwise empty seats.

Don’t lose sight of the fact that the airline seat is a commodity product. Price is the primary differentiator; and “value-add” to the buyer is something that one must pay for – whether it’s a better seat or its taking action early in order to get a lower price! The airlines goal is to maximize the revenue across “x” number of seats going from Point A to Point B; and then, across “y” number of seats being offered across a rolling 335 day base (or whatever number of seats the inventory system holds).



From Associated Press, April 3, 2006

Airlines Add a Bundle of New Charges -- It used to be that a pillow, a soft drink and a bag of peanuts on an airliner came with the cost of a ticket. Not anymore. Airlines are now charging for services that were once free, noted an annual survey of airline quality released Monday. Among the items that some airlines are charging for: Paper ticket vs. e-ticket (domestic, $20-$30; international, $50), Telephone reservations by airline ($5-$10), Changing a seat once booked (low-cost carriers, $25-$50; traditional airlines, $50), Assigned seating ($10 per flight leg), Fees for exit row, bulkhead, or aisle/window seating ($15 trial this summer), Booking travel using frequent flyer award miles/points ($10-$50), Switching a ticket to standby status ($25-plus), Unaccompanied minor child ($40-plus each way), Overweight bags ($25-$50 for any bag over 50 lbs.), Extra bags ($40-$80 per bag beyond two checked per person), Curbside check-in of bags ($2-$3 per bag), Checked bags ($4-$7 per bag on international flights), Food on board flights ($5-$10 per meal), Soda ($1), Snacks ($1), Blankets ($1), Pillows ($1), Headsets ($1-$5), In-cabin pets (under seat, $50-$100 each way).

OTWC boldfaced elements above which led to these questions from Mifnet friend David Ballard …What happens if there aren't enough who'll pay for a window or aisle seat? Do they get allocated randomly, or become available as a free choice as departure nears (and potential passengers may be paying more for the seat anyway)? On the other hand, what if there are plenty of takers early on in the booking sequence, so that all those who bought seats at lower fares (plus the $10 or whatever for the not-middle seats) end up in the preferred seats, and those who booked later, at higher fares, end up with no choice but middle seats?


Further, for a “new-age airline” using contemporary technology, collection/billing of “surcharges” is a fully automated transaction from purchase through settlement, requiring work ONLY on the part of the buyer.

Now, if the airline system is using traditional business processes and legacy technology platforms, then a $10 surcharge can have up to $15 of labor cost appended. The cost-benefit of that type transaction is marginal at best. Many such offerings become “cash” offerings onboard; but that is fraught with all sorts of tempting “opportunities” for those that handle the cash. How the heck does one inventory “pillow sales” onboard an airplane?

Airline managements that are focused on unit costs seem to believe that this paradigm can often gain a competitive advantage by inducing competitors to take “me too” actions without thinking about the consequences. Concurrently, even in non-competitive environments, it is tempting to chase incremental “pennies” when the volume of such “pennies” appear to be millions of dollars in revenue; the cost of providing the service is often lost in the excitement of perceived additional revenue.

This entire discussion point is just another dimension of the issue of commodity products being packaged as components of a whole. Which components can derive real or perceived value-add? When integration or interfaces are non-standard … when they require manual or human intervention to implement – the cost-benefit of charging separately for such commodities is generally marginalized. This is true EVEN when the flight crew or airport staff have nothing else to do; since the back-office and/or audit control features of such solutions add unrecognized or unmeasured costs.

It is for this reason that commodity product offerings -- be they software solutions that manage internal business silo processes like reservations, tour packaging, inventory, back-office systems that track revenue or provide General Ledger accounting systems … or onboard fees for $1 pillows/snacks/sodas, $25 itinerary changes, or $10 upgrades for exit row seating – must evolve elements of standardized interfaces to the other commodity services with which they are integrated; both operational and financial.

Without the integration of both operational and financial elements of a commodity, the component parts require excessive or non-productive human intervention. The economics of non-productive human intervention in any commodity solution land directly on the cost side of the product offering – essentially, marginalizing the value of the offer.

This is, after all, what the past 100 years of the Industrial Age was all about – getting rid of the inefficiencies of manufacturing; effective mass production. The new ubiquity of easy access to information is now enabling managers to focus on the inefficiencies of providing services. It is in this aspect of travel that commodity componentization must evolve to remain competitive within the industry.

It is simply no longer possible to sustain a business or a service offering with bundled-but-separate commodity offerings.

Respectfully,\\ Richard




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