Frequent Flyer Programmes:
Why So Very Valuable? Nov/Dec 2024

As a legacy from the merger with US Airways and emergence from Chapter 11 in 2013, American unusually had two credit card suppliers: Citi and Barclays. Each supplied different benefits to FFP members for spending in different areas, which some punters — understandably — may have found confusing. From January 2026 Citi will acquire the Barclays' portfolio of card holders.

American mentioned that it expects to achieve an annual 10% growth in remuneration from its co-branded credit cards — which it said amounted to $5.6bn in the twelve months ended Sep 2024 — and that once this revenue stream approaches $10bn (by 2030?), it expects an increment in pretax profits of $1.5bn a year — a pretty hefty 35% margin — and roughly equivalent to the total pretax profit it is expected to report for the whole of 2024. The numbers do not quite tie up with figures in the official accounts (shown in the table) because of the subtle arts of accountancy; and American does not intend to update the markets on specific results of its affinity programmes.

	Loyalty Revenue				Group Revenue
$bn	Passenger†	Marketing	Total	% of group	2023
American	3.6	2.9	6.5	12%	52.8
Delta	3.5	3.1	6.6	11%	58.0
United	2.7	2.7	5.4	10%	53.7

Source: 10K reports.
Note: † miles redeemed.

The deal may increase the perceived value of AAdvantage. According to the latest Jan 2023 report from On Point Loyalty, the consultancy valued American’s AAdvantage programme at $23.9bn (see table), more than twice the airline group’s current market capitalisation (the methodology behind the valuation is a bit opaque).

Programme	Airline	Programme Value	% of Airline Market Cap	Implied Airline Value
SkyMiles	Delta	27.9	70%	12.1
AAdvantage	American	23.9	206%	-12.3
MileagePlus	United	22.0	66%	11.2
Rapid Rewards	Southwest	8.8	45%	10.8
Miles & More	Lufthansa Group	8.0	107%	-0.5
Avios	IAG	7.1	37%	11.8
Flying Blue	Air France-KLM	6.9	323%	-4.8
Aeroplan	Air Canada	6.8	137%	-1.9
SkyPass	Korean	4.6	78%	1.3
Cathay	Cathay Pacific	4.6	57%	3.4

Source: On Point Loyalty Jan 2023

It may also help American catch up with Delta. Its arch rival has a long-standing exclusive deal with American Express and the SkyMiles FFP from which it achieved $6.8bn in remuneration in 2023, and which is said to generate half its annual profits. It too has targets to grow revenues towards the $10bn mark. (Delta bizarrely also has its own Amex charge card, carrying a $1.1bn credit limit, for the purpose of buying fuel and crude oil.)

The credit (or blame) for the first frequent flyer programme — as with many of the developments of the industry in the deregulated era — has been laid at the door of Bob Crandall, former President and CEO of AMR Corp. American’s programme AAdvantage was indeed established in 1981, and swiftly followed by United’s MileagePlus and Delta’s Frequent Flyer (since renamed SkyMiles). The FFP virus spread round the world in the following decade.

At the start the FFPs were relatively simple marketing tools designed to encourage and reward loyalty to a brand — for a product (a seat from A to B) that is essentially a commodity. Passengers were awarded credit for the miles flown on the airline and rewarded with the ability to use this credit to book “free” flights or upgrade class of service. For the airline the cost of providing the “reward” was in effect a very modest discount to the original fare — in the early 1980s the industry was operating on load factors of 65%, and the marginal cost of carrying a passenger in a seat that would otherwise be unfilled is minuscule — while for the passenger the benefit of the reward fulfilled aspirational goals.

The airline could keep track of its most treasured customers, the frequent flyers, and added status levels to the FFP with incremental additional personal benefits, depending on the total number of flights or miles flown, such as lounge access, pre-boarding and free upgrades, to add further cachet to the plan. And thus it provided a useful tool to stave off the encroachment of start-up airlines. And it worked.

But that was over forty years ago, and much has changed in the intervening years.

The air travel market has grown hugely — from 750m passengers in 1981 to an estimated 4.9bn in 2024 with system load factors up from 63% to 83% over the period, reducing the availability of the marginal empty seat. So most FFPs have progressed from allocating programme miles simply on the basis of distance flown to rewards based on dollar spending.

The methods for allowing frequent flyers to “burn” their accumulated miles have also changed. The airlines opaquely control the exchange rate — which currently in the USA is estimated to be between 1¢ and 1.6¢ a mile — and are increasingly moving to dynamic pricing models (akin to yield management models).

Spending patterns have also changed. There has been an explosion in the ownership of credit cards and their use for payment transactions. Since 2014, the total number of transactions performed by the world’s card payment systems has grown by compound average 15% a year to end 2023 at 687bn.

Historically the largest player, Visa has seen annual growth in transactions of 10%; at the end of 2023 it had 4.4bn cards in issue and the total monetary volume reached $15.1trn. China’s state-owned UnionPay has seen transaction growth of 31% a year over the period and overtook Visa in the value of payments processed in 2015, ending 2023 with purchase volumes of $14.7tn and 9.6bn cards issued — but 99.5% of this is purely domestic China.

	Payment	Total†
	volume	volume	Transactions	Cards
	($bn)	($bn)	(bn)	(m)
Visa	12,620	15,114	284	4,484
UnionPay	14,718	15,104	215	9,576
Amex	1,665	1,680	12	141
Diners/Discover	256	272	4	72
JCB	321	329	7	156
Mastercard	7,344	9,029	184	2,948

Source: Nilson Report, VISA Inc.
Notes: † includes cash and forex

Visa and Mastercard systems

The accounts for Visa Inc and Mastercard, the largest systems in the Western world, make interesting reading.

For its financial year ended Sept 2024, Visa Inc achieved net revenues of $35.9bn, operating profits of $23.5bn (an enviable 66% margin), and net income of $19.7bn (55% margin). Its net revenues have grown at a compound annual average of 15% over the past 20 years. Mastercard generated $25.1bn revenues in its FY 2023, an operating margin of 58% and net income of $11.6bn. Its revenues have grown by 13%pa over the same period

The absolute numbers are huge, but in Visa’s case its revenues derive from fees of just around 12¢ per transaction, and represent 0.2% of the total $15tr monetary value transacted on its cards.

Most credit cards operate as a four-party system encompassing the issuing bank, consumer, merchant, and acquiring bank. The issuer contracts with the consumer providing the card, issuing bills, etc. The acquirer contracts with the merchant, making payment. The rules of the system are set by the network operator (such as Visa or Mastercard), which also facilitates settlement between the issuer and acquirer. The issuer charges the acquirer an “interchange fee” (set by the network operator) that is then incorporated into the fees those acquirers charge to merchants (called a “merchant-discount rate”). There are also three-party systems (such as provided by American Express or Discover/Diners) where the card network operator acts as both issuer and acquiror, and charges the merchant a percentage of the transaction as a card processing fee.

The first airline FFP co-branded credit card was launched by Continental in partnership with Marine Midland Bank (now part of HSBC) in 1986, followed a year later by American in partnership with Citibank.

The concept again was simple: the issuing bank uses some of the interchange fee to buy “miles” in the airline’s FFP allocating them to the credit card holder depending on the level of expenditure and the merchant where the money was spent — emphasising the airline and any other affinity members of the frequent flyer programme (such as hotel chains or car hire). The rate per mile that the issuing bank pays for these miles is a commercial secret — but possibly runs at twice the redemption value.

Over the years, the numbers and types of cards have proliferated: with varied benefits (such as the number of miles allocated per dollar spent, access to airline lounges, priority boarding) sometimes dependent on the annual card fee charged to the consumer.

One of the AAdvantage cards currently recommended by The Points Guy comes with an annual fee of $595, gives a sign-on bonus of 70,000 miles, 4 miles and 1 Loyalty point per dollar spent on American Airlines (and one mile per dollar spent on other purchases), lounge access, free checked bag, fast track through security, priority boarding and 25% discount on inflight spending. Oh!... and a 20.24%-29.24% APR.

Consumer protection

The US has some of the highest credit card interchange fees in the world — ranging from about 1.4% to 3.5%, while the average is approximately 2.2%.

In 2023 a Senate bill, The Credit Card Competition Act 2023, was introduced (with bipartisan support) aimed at what were described as the anti-competitive actions of the card processors (notably Visa and Mastercard — which between them process 75% of all credit card purchases in the US) and designed to drive down interchange fees. Among other things, the Act would require the the largest credit-card issuers — those with assets over $100 billion — to enable at least two credit card networks to be used on their cards. At least one of those networks would have to be outside the two dominant suppliers, Visa and Mastercard.

The proposed Act may never pass into law. Scott Kirby, CEO of United, believes that it would make the airline frequent flyer programmes unviable, saying in Sept last year: “84% of US consumers have a rewards card in their wallet... they love these programs, they love getting those three million miles [issued by MileagePlus] to travel all over the world, and that act, if it passed, would eliminate that ability to earn miles for all those people.”

It probably didn’t help his humour at the time that the DoT had launched an inquiry into the rewards programmes of the four largest US carriers “aimed at protecting rewards customers from potential unfair, deceptive, or anticompetitive practices”.

The proposed Act goes further than measures enacted in Europe and Australia where fees were legally capped (at 0.3% and 0.8% respectively — although for four-party systems only). Interestingly, in those jurisdictions various studies suggest that the cost of the rewards to the issuing bank exceed the interchange fees they earn. But, the issuers have raised credit card fees and increased card credit interest rates to compensate.

It may be that the banks' main interests are in the substantial flows of money the partnerships offer, and what they crave is the frequent buyer. Qantas has boasted that 35% of all credit card spend in Australia is on a Qantas or Qantas Frequent Flyer co-branded credit card.

As the Financial Times succinctly put it: “In essence, airlines have two businesses: the first flies people between destinations, and the second peddles those people to banks for a fee.” But these loyalty programmes may have no value at all without the airline.