Photo: Oliver Holzbauer/Flickr (Creative Commons)
Airline overbooking isn’t evil. In fact, if done properly, it’s good for airlines, good for customers, and good for the environment. Sold seats are clearly good for airlines and their shareholders. High utilization is good for customers because it reduces seat costs for airlines which normally operate at single digit profit margins. In the consumer airline industry, customers typically do enjoy the gains from increased operator efficiency. Full seats are good for the environment since the fuel burned and the emissions produced are less per airline traveler. By overbooking “done properly” I mean there have to be controls in the system to ensure customers get what they bought and that airlines make decisions that are in the best interests of the environment, customers, and their shareholders.
The airline seat overbooking system as currently operating in the United States puts all the control in the hands of the airline and they get most of the gain rather than customers. United Airlines, in what appears to have been a truly exceptional entry into the corporate Darwin Awards, has been heavily covered in recent news for forcibly dragging a paying customer off a plane. It’s hard to read the news and not see numerous mentions of this event but here’s a good example: United Airlines Offers Refunds as Outrage at a Violent Removal Continues. In this event a 69-year-old physician was forcibly removed from the United Airlines flight. The customer was injured, will take legal action, and even though the customer is just about guaranteed to win a large settlement, it’ll be dwarfed by the negative publicity of this event on the airline.
Digging deeper into the United removal of this paying passenger, the details are actually a bit worse than the explanation that the plane was over-booked. United reports the plane wasn’t overbooked but they needed to transport crew so they elected to forcibly remove paying passengers. After the event, United Chief Executive Office, Munoz, is reported to have said in an internal memo that the passenger, a physician was “belligerent” (United Airlines says controversial flight was not overbooked; CEO apologizes again). The CEO has since reversed this statement and now says “no one should ever be mistreated this way.”
Clearly United has serious issues starting at the very top of the company that won’t likely be solved without management changes but that’s not my focus here. What I’m arguing is that commercial airline seat overbooking isn’t actually a bad way to manage expensive resources and it needn’t be customer unfriendly. I’m going to argue that lawmakers need to make changes to make the overbooking system work properly, but the natural inclination to ban overbooking because of the clumsy handling of this event by United isn’t necessarily the best approach.
Flying commercial aircraft is expensive and whenever an industry needs to sell a capital-intensive resource, utilization becomes one of the most important factors to the long term success of the industry. I work in cloud computing where data centers run several hundred million dollars each and the most successful providers are spending billions on capital expenses each year. Every basis point is huge and a few percentage points difference in utilization could be the difference between excellent profit margins or operating negative. Airlines are one of the prototypical cases of capital-intensive industries.
Airlines make their money moving people and cargo. The cargo hold and the cabin have fixed divisions but the overall plane is weight-limited, so the cargo sales and passenger sales are not actually fully independent. However, selling all the passenger seats is the goal of every passenger-carrying airline and successful airlines operate at very high seat-utilization levels. This is done using a combination of yield management and overbooking. Yield management is a pricing strategy based upon computer models of customer behavior on specific routes. All successful airlines do it and the goal is to sell all seats and to sell them at the highest possible profit.
These algorithmic pricing systems do a remarkably good job of selling all the seats and getting competitive prices from every seat sold. However there are latencies in the sales channel and other issues that prevent yield management from solving the problem entirely and, even if they did, some customers simply don’t show up. Since an empty seat represents a substantial source of lost revenue, no airline wants to fly with an empty seat. The next tactic after yield management to ensure the maximum possible load of paying customers is to oversell seats. In this approach, the airline sells more seats than they have available knowing the statistical likelihood of customers not showing up.
Overselling sounds customer-unfriendly – why allow an airline to sell a seat that it doesn’t actually have available? It’s a great question and the United incident mentioned above clearly underlines that poor leadership certainly can yield very poor results but that’s a management constant rather than specific to overbooking. But, overbooking as currently practiced, does have problems.
What’s broken here is the airlines are allowed to simply fail to honor their commitment and forcibly remove a paying passenger from the airplane. The system would work fine if the airline had to pay passengers to accept alternative transport and if there were no bounds on what this might cost. This puts an economic safeguard on the airline to only sell that which they are highly likely to have. If they don’t have sufficient seats, they are obligated to offer alternative transport on other airlines, pay customers whatever it takes to get off a plane or, in the worst case, charter transport for the remaining passengers. Certainly there is always a price that would get me off a plane. Recently the US President said the same (David Dao, Doctor Dragged Off Plane, Files Court Papers Demanding Airlines Preserve Evidence). I suspect he is a bit more expensive than I am, but it turns out that in the vast majority of times, a few hundred dollars will open up the needed seats. Sometimes it might cost more but that’s the cost of over selling
What about the customer that don’t show up? Doesn’t there have to be some factor to prevent them from booking seats and not showing up since they are adding considerable risk to the airline? I agree. Customers should have to pay a no-show penalty. It’s a competitive market and the airline should set it to whatever they believe covers their overbooking costs or encourages the desired behavior. Some airlines might chose to set this “no show” cost at free for some tickets, some passengers, or even all passengers. But it would be the airline’s choice to set the cost of a no show. Currently they mostly don’t charge now but, again, that’s their choice.
In this proposed model airlines have to move all paying passengers or make arrangements with some of the passengers to accept compensation for different travel arrangements. They are free to charge no-show passengers a fee if they so choose to limit the airline passenger no-show risk. In this model, there is economic pressure on the airline to fly full but to also satisfy the needs of their customers. There is also economic pressure on passengers to show up for the flights they book. It’s a good model that helps airlines and travelers. Airlines can overbook and customers can no-show but both have to pay the cost of that action. The current model where an airline is not obligated to fulfill their commitment on selling a ticket by either transporting the customer or offering them compensation acceptable to the customer doesn’t work, and the United handling of this most recently situation really underlines that failing.
Airlines seat overbooking isn’t evil but allowing airlines to cap the costs and be able to just refuse a serve a paying customer clearly doesn’t work.
Update: On the topic of customer centricity, Jeff Bezos, annual letter to shareholders is an excellent read: 2016 Amazon Letter to Shareholders.
Update: Some of the right things are starting to happen in the airline industry:
From: LA Times
- United Airlines will offer up to $10,000 when a traveler voluntarily gives up a seat on an oversold flight
From: Washington Post
- Delta Air Lines said gate agents can offer up to $2,000, up from a previous maximum of $800, and supervisors can offer up to $9,950, up from $1,350
- American Airlines updated its Conditions of Carriage after the United incident, stating that it “will not involuntarily remove a revenue passenger, who has already boarded.” The airline does not set a cap on compensation for passengers, but said gate agents work with customers to ensure they set compensation amounts properly to obtain the correct number of volunteers.