Frequent flyer miles have long been an excellent source of revenue for airlines. In fact, they’re big business. No longer do these programs exist simply to inspire loyalty from flyers. Today, air carriers are dependent upon their mileage programs for significant ancillary income and, in some cases, for survival. This became painstakingly true with a close look at their recent quarterly numbers since the onset of the coronavirus. To assist in raising cash to navigate the pandemic, the largest US airlines have mortgaged their mileage programs. That’s right and, as part of the process, American, Delta and United Airlines have disclosed valuations of their frequent flyer programs and the numbers are in the tens of billions! How can these programs be so valuable? Let’s find out by looking first at how these loyalty programs make money and then studying the specifics of how each program was used to generate much-needed loans.
The main way airline mileage programs make money, particularly in the US, is through partnerships with banks. The financial institutions buy miles in bulk (at a discounted rate) from the frequent flyer programs (not the airlines directly). The banks then pass these miles onto their customers in exchange for spend. This is considered income for the programs and provides perks and encourages loyalty for the cardholders who tend to keep using specific cards to earn specific carrier miles. It’s really a win for all involved, namely the programs, the banks and their customers. Redemptions cost the airlines very little as all the majors have discontinued their award charts in favor of on-demand “pricing.” What this means, in effect, is that redemption miles are only typically applied to seats which would otherwise fly empty. A certain percentage of credit card holders and loyalty program members will let their points expire or simply never use them on programs with no expiration. Alternatively, some program members choose to “spend” their miles on merchandise from rewards catalogs, most of which are priced at extremely unfavorable rates. All this means that when airlines sell points to banks, they’re an enormous source of profit.
Every leading US airline has previously accepted a combination of Federal grants and loans to help cover payroll costs through September 30. American Airlines was among the first to seek out and accept an additional loan from a separate $25 billion fund that Congress set aside under the $2.2 trillion CARES Act measure to help companies hurt by the pandemic. The carrier sought to shore up capital needed to help it manage through the travel downturn. So they pledged their AAdvantage Program to the Federal Government as collateral for a subsidized CARES Act loan of $4.75 billion. How could they do that? It’s simple. American Airlines earned no less than $5.5 billion in loyalty program revenue in 2019 alone!
American recently completed a third-party appraisal of its loyalty program, said to be the largest in the world with well over 100 million members. According to Forbes, that appraisal placed the value of just the US portion of the AAdvantage Program at between $19.5 and $31.5 billion. Now, let’s dig deeper. The American Airlines Group, which includes the mileage program, is currently valued by the stock market at $6.1 billion ($12.18 per share with about 508.1 million shares outstanding as of October 15.) If you subtract the conservative value of $19.5 billion from the $6.1 billion market capitalization for the combined group, the value of the airline operations is a negative valuation of $13.4 billion. In fact, American Airlines’ own filings show the airline had been losing money from its passenger operations even before the coronavirus decimated the industry. However, by generating billions of dollars in loyalty revenue, the group has been able to report billions per year in profit. It’s just astounding that what started as a marketing program back in 1981 (and AAdvantage was the first) would eventually become more profitable than the core business! But American’s not alone - all the majors need cash and these programs have great value.
Delta Airlines initially revealed plans to mortgage their SkyMiles loyalty program for up to $6.5 billion. Just 3 days after that announcement, they changed their minds saying they’d borrow up to $9 billion. Delta's co-branded credit card partner American Express paid the airline $4.1 billion for miles in 2019, according to filings with the US Securities and Exchange Commission. The airline is going for private financing as it continues to burn through as much as $27 million a day in cash amid a dramatic drop in air travel resulting from the virus. Proceeds from the loan will be used to bolster the $15.7 billion in cash and short-term investments that Delta claimed at the close of the second quarter.
Frequent flyer programs drive airline loyalty and revenue. SkyMiles has worked well for Delta. Just last year no less than 60 per cent of their ticket revenue came from SkyMiles members. In addition, the ticket revenue premium was about 1.5x for Medallion members when compared with non-SkyMiles members. What this means is that Delta’s elite members spent more on air travel in 2019 than their non-elite, non-SkyMiles members. Beyond that, the average “tenure” for their Medallion members is an impressive 16 years. In addition to satisfying current members, Delta’s strategy with the program is to attract younger travelers which will give the airline a lifetime “pipeline” to premium revenue. From 2015 to 2019, membership in the program has grown a whopping 138 per cent! It’s no wonder Delta and lending institutions have recognized its value.
Now, let’s look at United Airlines. They’ve estimated the value of the MileagePlus Program as a standalone business at $20 billion. Like other carriers, United gets revenue from its partners who pay the airline to award miles to their customers who hold affinity credit cards. The airline has a contractual agreement with Chase. Just prior to the pandemic, the pair extended their business relationship to run through at least 2029, ensuring the bank‘s continuity as the exclusive issuer of co-branded United MileagePlus credit cards. In 2019 alone, this loyalty program pulled in $5.3 billion in total revenue. With that as collateral, United mortgaged its frequent flyer program to secure a $5 billion loan from Goldman Sachs, Morgan Stanley Senior Funding and Barclays Bank. (Eyebrows raised since Barclays has a current co-branded card agreement with American.)
United said recently that it retained full control over its loyalty program under the agreement with lenders and there will be no changes for members. The loan, in essence, leverages the loyalty program’s value and its $5.3 billion in annual revenue to raise liquidity. While officials at the Chicago-based airline said there’s early evidence of a modest rebound in air travel, their goal is to build a $17 billion cash cushion by the end of the third quarter - three times their normal liquidity balance. They believe these funds would be enough for them to navigate the crisis and a multi-year recovery that’s expected before the industry returns to 2019 passenger numbers. “It’s quite a large war chest to get us through a second wave, or third wave of COVID if that happens,” they announced. “Seventeen billion should see us through until there’s a vaccine or demand has recovered.”
We hope so. We also hope air travel rebounds for every carrier’s sake, particularly since current economics are just not sustainable for the long term.
Until next time…stay safe.
Fascinating insight into the loyalty programmes and their valuation. Whouldathunkit?