Six airline companies
join up to compete
against priceline.com

Internet shares plunge, but eTourism proves it's set to last. We look at the AOL/Travelocity deal.

Six of the largest airline companies (American Airlines, America West, Continental, Northwest, United, and US Airways) have just announced that, backed by an investment firm (Texas Pacific Group), they will be launching a site called hotwire.com in September. Hotwire.com will be selling tickets based on the "Name your own price" principle. As a result of this announcement, priceline.com's shares immediately went down by 8%!

It is true that this is a blow against one of Jay Walker's (founder of priceline.com) main marketing arguments, which is that reverse auctions are patented by priceline.com, the only company that has the right to hold them.

Moreover, priceline.com has started proceedings against several companies who have tried to set up similar business models.

However, in this instance, it is likely to tune down its reaction since 5 of the airline companies participating in the new hotwire.com site are priceline.com customers!

Hotwire intends, above all, to be a channel for selling off tickets the airline companies haven't managed to sell.

It will give the airlines a site where they'll be able to exercise a much more flexible sales policy, without "polluting" their own sites or Orbitz, the portal they have set up jointly to compete with Travelocity and Expedia.

In fact, Karl Peterson, Hotwire's CEO, says that the 2 sites are complementary rather than competitors.

The aim of Hotwire is to enable people who would not otherwise have the means to travel to be able to do so.

In return, they accept the disadvantages involved (uncertainty about the result of the auctions, travelling at unpopular times, no choice in airline companies, etc.).

Obviously the airline companies would not be happy offering this kind of service on their own sites, as they feel that their business customers, who are usually prepared to pay high prices, might be tempted to buy tickets at discount prices.

This is the contradiction faced by eTourism marketing managers: how can we offer the best service to each different category of customers, without producing any adverse effects (for example, people ready to pay high prices "switching" at the last minute to discount offers)?

The large airline companies feel, then, that the answer is to set up separate sites in terms of positioning, brand, teams, partnerships, etc., targeted at specific categories of customers and purchasing behaviour.

Segmenting the different kinds of public by setting up separate sites is, I feel, an interesting approach.

It enables each site's marketing teams to focus on their core customers, without having to worry about fitting in with the other teams' image criteria.

On the hotwire.com site, the companies can, for instance, offer aggressive incentive programmes and online campaigns, whereas on the Orbitz site, they will put more emphasis on customised services and customer relations.

From a more strategic point of view, the announcement also shows that the airlines clearly want to be present in all the various online distribution circuits for travel products.

In theory, hotwire.com has some strong competitive advantages over priceline.com: direct control of prices and volume of tickets to be sold, no commissions to be paid to intermediaries, etc. In fact, hotwire.com looks like being the tool that yield managers dream of.

However, the New York Times reminds us that 18 out of 19 analysts closely tracking priceline.com shares are confident in them and are advising their customers to invest in them.

To reach priceline.com's level, the new site will have to be prepared to make considerable investments both in marketing campaigns and in developing their IT systems, all the more so since hotwire.com is just one of the many projects the airline companies are investing in (other projects include: Orbitz, marketplaces with suppliers, and their own sites).

This means, I believe, that these airline companies will soon have to decide which of the projects are the most important, since there is obviously a limit to the amount of money they can spend on them.

The success of the new virtual agencies has made the airline companies panic a little and they are now trying to reassure investors, customers and staff by making a series of upbeat announcements.

Now they need to put their plans into action, and that's where the problems usually start: respecting the confidentiality of sales data of partners who are still fundamentally competitors, sharing investments (am I, in fact, in the process of financing my neighbour's distribution costs?), spiralling costs of marketing to establish the new eTourism brands (everyone know who US Airways or Air France are, but not many people have heard of Orbitz for the moment), etc.

The way the airlines deal with these problems will be litmus test for business models based on cooperations between producers.

And, in the meantime, priceline.com, will carry on increasing turnover for the airline companies and in taking market share away from them.

The Internet companies which have gone under are the ones whose business models were incoherent from the outset (e.g.: sites paying users to look at ads) or who haven't managed to attract customers (e.g.: sites selling dog food).

eTourism sites, on the other hand, have remained popular with investors due to the high turnovers they are now generating ($504m for Travelocity and $401m for Expedia in the first quarter this year).

It should also be noted that these revenues are being generated by an increasing number of buyers for whom online travel booking has become a normal way of purchasing.

For Nick Moore, a senior analyst with the investment firm Jurika & Voyles, the figures speak for themselves: eTourism is "a business with real-scale economies."

Nonetheless, in order to decide which players are likely to survive, we should look at their capacities for controlling internal operating costs and for attracting large numbers of quality visitors.

Travelocity has just got one step ahead by announcing that it has formed an alliance with AOL and will be its exclusive partner in the travel section. The strategy was initiated by Preview Travel, who originally did a two-year deal with AOL, and have now merged with Travelocity.

We have always had doubts about this kind of deal and were not surprised at the recent fate of DrKoop.com, the famous medical information site.

DrKoop.com did a deal with AOL for an exclusivity in its medical information section, to the tune of $89m to be paid over four years, although its IPO only raised $84m!

This disastrous financial agreement was obviously one of the reasons why the site failed.

However, Travelocity has handled things in a totally different way. Although it still has to make a considerable investment - it has agreed to pay AOL $200m for a 5-year exclusivity in its travel section - it has nonetheless obtained some very important concessions from AOL.

Travelocity will be the exclusive booking service for the AOL network (59 million visitors per month).

It is therefore paying, in effect, to exclude its competitors from one of the Internet's highest rates of traffic.

Travelocity will get a percentage of AOL's advertising revenue from travel-related ads displayed anywhere on AOL's network.

This extra revenue, which will be assimilated with its gross margin, will bring down the total cost for Travelocity considerably, since AOL is paying marketing costs.

Travelocity also has the right to renegotiate the conditions of its agreement with AOL at regular intervals, which will put AOL under constant pressure to ensure that its travel section performs well (easy access, rich contents, promotional offers, etc.).

The agreement is therefore the fruit of a balanced relationship, far from the extravagant conditions DrKoop.com agreed to.

Ramesh Punwani, Travelocity's CFO, feels that the company has made a good decision: "So far the deal is going much better than expected. But if AOL doesn't deliver what we asked for there is an alternative structure for the deal."

It has to be said, though, that AOL is perhaps not in quite such a favourable position today as it was only a year ago.

At the time, the explosion of offers from eTourism sites striving to be leaders led to a frantic race to increase and generate traffic. The aim was above all to install e-brands as quickly as possible, no matter what the cost.

AOL - the biggest Internet community in terms of numbers - was able to raise the stakes enormously (in particular as there were no past examples to compare with) and it created a lot of marketing hype around the theme of the fabulous rates of traffic it was going to generate.

But, the truth is that the rate of clicks on Travel sections in general directories was pretty low.

The benefit for the partners is more in terms of image than from the hope of direct turnover.

But, it's above all the consolidation of the market which is now swinging the scales in the other direction: AOL needs deals of $100m and more if its business model is to survive in the long-term. Yet, at the same time, the consolidation of the market has greatly reduced the number of companies who can afford to do deals with AOL.

Travelocity's direct competitor is Expedia, a subsidiary of Microsoft, which AOL attacked head-on in the anti-trust trial demanding the break-up of the Redmond firm. So, it's hard to imagine AOL doing a deal with Expedia.

The other important eTourism sites are mainly represented on the sites of producers, such as airline companies (e.g.: Southwest.com), whose strategies are quite different and who are not looking for such a wide online presence.

In my opinion, this evolution of the market in Europe is about to follow the same path.

Firstly, the directories and major ISPs are aggressively wooed by eTourism players who are looking for ways of gaining the highest visibility. Then, the discovery that these partnerships are not as profitable as expected, the arrival of rival means of communication (TV, more specifically targeted sites) and the decrease in the number of sites who are candidates for these kinds of deals, all contribute to reversing the trend in favour of eTourism sites.

Source : TheStandard