When laying out the reasons why American Airlines devaluing AAdvantage program could be bad for its business I noted financial disclosures they made to investors when raising debt backed by their loyalty program.
Taking their self-reported 52% operating margin for the program, I backed into what it cost for American Airlines to ‘produce’ a frequent flyer mile and estimated 70-75 basis points. But I didn’t show my work.
- Up through the American Airlines 2016 10-K filing, they used to disclose not just how much money they generated from mileage sales but also how many miles were issued, how many of those were sold to third parties, and how many miles were outstanding – among other rich data.
- American was consistently generating revenue of 1.2 to 1.3 cents per mile on average.
- We know that their co-brand renewal with Citi and Barclays increased the amount those banks were paying for miles. American is also now selling Loyalty Points (and the cost quoted to new partners is a multiple of the cost of a redeemable mile).
So it is reasonable to assume that American is generating 1.4 to 1.5 cents on average. A 52% margin on 1.5 cents would mean costs of 72 basis points, smack in the middle of my 70-75 basis point estimate.
Is it reasonable to assume costs of 1.5 cents per mile? As a rough order of magnitude I think so.
- That’s likely around what bank partners are paying for miles rewarded for spending. The cost of miles for initial bonus offers will be lower (American effectively ‘partners’ on acquiring customers, since those customers will go on to drive mileage sales to banks).
- The cost of miles sold to American itself are lower – they book one cent in transportation liability for each mile awarded for tickets flown. So one cent per mile for initial bonuses, and for SimplyMiles bonuses (which is a joint venture with Mastercard) seems reasonable.
- On the other hand other mileage sales raise more per mile, and there’s a lot of other miles being sold (AAdvantage generated $538 million selling miles directly to members in 2019!).
While this is back of the envelope math, I think we can assume that a mile costs American AAdvantage somewhere around $0.0072 to produce.
And the estimate isn’t that sensitive to assumptions. For instance if they’re generating 1.6 cents per mile on average, a mile would cost them $0.0077 to produce. And if they’re only generating 1.4 cents on average, a mile would cost them $0.0067 to produce. Printing miles seems a lot better than mining bitcoin!
American claimed higher costs and lower margins for Delta and United in their competitive analysis shared with frequent flyer debt investors. At the same time, United and Delta accounted for revenue and transportation cost differently until American’s 2018 adoption of accounting standard ASC-606, and the data on their competitors American referenced wouldn’t have fully captured United’s or Delta’s new co-brand deals.
Notable American explicitly argued that they could preserve margins by devaluing their program, i.e. their business model gives them the “flexibility to control costs and preserve margins.” They said this publicly, and we should believe them.