On Sunday Lucky at One Mile at a Time wrote about shockingly bad redemptions that American Airlines is offering for peak holiday travel.
He gives the example of $133 San Francisco – Los Angeles flights that cost 75,000 miles.
Here’s November 26:
And if you wanted to spend miles it would cost 75,000:
Now, because American and Alaska Airlines are still partners (barely) you could use 25,000 miles for a one way first class award from San Jose to Burbank.
But I’m interested in why American is charging so much. In theory American believes they’ll sell out their flights the Sunday after Thanksgiving (though if that’s true, why are tickets just $133?) so they’re letting you redeem your miles at $0.0017 per mile.
Lucky thinks this is bad management (and I happen to agree),
However, there has to be a balance between trying to provide members with value through AAdvantage and minimizing costs. This is especially true given how many members would love to redeem their miles to see family over the holidays. You know they’d have a positive impression of the program if their miles helped them make that happen.
However the assumptions behind AAdvantage accounting may shed a bit of light here.
Based on data from SEC 10-K filings other than the most recent one (when they started obscuring this data), American sells miles to third party at an average of about 1.23 cents apiece. Presumably banks are paying less, while other partners are paying more.
However they assume this isn’t all for actual transportation. There’s both a marketing component and a transportation component.
- American books ~ 4/5ths of a cent per mile as revenue in exchange for their marketing prowess.
- And books only ~ 1/2 a cent per mile in liability for providing actual future travel.
When American provides miles to passengers flying on their planes they have only been booking about 1/7th of a cent per mile (actually $0.0014) to cover the cost of travel they would have to provide. American’s assumptions are that awards will cost them essentially the value they’re providing San Francisco – Los Angeles at peak time.
At the end of 2016 American had $2.5 billion in total liability on its books for AAdvantage, compared to $4 billion at Delta and $5 billion at United. That’s because American has used an ‘incremental cost’ approach to miles awarded for travel. Delta and United have been using something closer to a fair value approach (booking how much the travel they will provide is worth on the market).
American’s accounting is required to change. They’re required to adopt FASB ASC 606 “Revenue From Contracts With Customers” effective January 1 and instead of accounting for the incremental cost of carrying a passenger when they accrue miles provided for transportation they’ll have to defer the fair value of that transportation.
They are going to record a bigger charge to their financials than I had modeled:
Around the same time they’re making this change — carrying the miles at a higher value on their books — they say that award availability is going to get much better.
I hate to think that a major publicly traded corporation would make business decisions based on accounting rules rather than enterprise value but if that’s what it takes to make our miles worth something again I’ll take it.