Air miles redemption has become an issue for many airlines. It is estimated that over 25 trillion frequent flyer miles were outstanding as of December 2012 (Whitman, CNBC). The obligation to provide free or reduced-fare travel to passengers who redeem their accrued frequent flyer program (FFP) benefits, represents a significant liability on every major airline’s balance sheet. Major airlines employ one of two methods to account for the liabilities they incur when issuing mileage credits to traveling passengers. The Deferred Revenue Method recognizes a liability for the fair value of the outstanding mileage credits (with “fair value” defined under International Financial Reporting Standards (IFRS) as “the amount for which the award credits could be sold separately”). The Incremental Cost Method recognizes a liability for the marginal cost of providing air transportation to eligible award passengers (i.e. the cost of taxes, fuel, food, etc. to fly one additional passenger on a seat that otherwise would have been empty – generally a nominal amount).
Accounting for FFPs has been subject to increasing scrutiny over time. In the last few years airlines have reduced seating capacity due to high fuel prices and weak demand during the global economic recession. This has caused flights to be more full and has increased the chance that, for any given seat, a passenger flying on redeemed frequent flyer miles could displace a fare-paying passenger. As a result, fewer and fewer seats have been made available for miles redemption.
Most airlines reporting under IFRS have been required to use the Deferred Revenue (fair value) Method of accounting since July 2008. Reporting FFP liabilities under fair value however, has resulted in some airlines’ FFP liabilities increasing dramatically. For example, when Delta Air Lines chose to revalue its FFP under the Deferred Revenue Method following its Chapter 11 reorganization and subsequent fresh start accounting, its FFP liability increased from $412 million to $2.4 billion, representing more than 40% of the total liabilities of the company.
The reduction of the seat availability offered for miles redemption, coupled with a drastic increase in the FFP liability, has pushed the airlines to find ways to redeem the miles outside the traditional flying offer. Airlines have changed their FFP program to create Instant Redemption option called Cash Rewards. This option effectively creates a second account, or an account within an account, for FFP members to redeem instantly at air miles sponsors. The problem is that FFP members are only able to instantly redeem at air miles sponsors, which are few. In most of the programs, the FFP members can collect items like catalog merchandise, gift cards for movie theaters, stores, and restaurants. The member goes online and transfers miles between their ‘Mileage Account’ and their ‘Cash Account’, then selects the goods or gift card they like. The operation is cumbersome, and cards or merchandises are sent by post. Most of the FFP members have reported very bad customer experiences, complaining about the lack of redemption choice and poor fulfillment.
The Ogloba Solution
In 2012, Ogloba interfaced some air miles programs with a webservice API to allow the FFP members to redeem on demand without the need to issue a gift card or ship any merchandise. Here’s how it works. A large retailer signs a B2B contract with an airline company. The air miles platform is interfaced with the gift card platform of the retailer operated by Ogloba. When a Cash Account is created, the FFP PAN number is sent to the Gift Card Platform and recognized as a gift card PAN in the database. Sometimes, an alias method is used. Each time an FFP member decides to accrue his Cash Account, a message is sent to the Gift Card platform in real time to reload the gift card’s account. At the store, the FFP cards are swiped at the till by the cashier and identified by the cash register solution as a gift card. FFP members reported that their customer experience is simply great, and the redemption is as big as the retailer’s offering.
The retailers and the airlines have reported to Ogloba that the solution offers many advantages: reduction of liabilities for airlines and cheaper costs of redemption, better instant rewards and more choice to redeem, joint marketing efforts between large market players, and substantial sales and average basket increase for the retailer.