AIT/OTA evolution post
Thomas Cook Sep/Oct 2019

The post-mortems for Thomas Cook, the Anglo-German tour operator and charter airline group, with a fascinating 147-year history, but which went bankrupt in September, have been written. Causes of death: failure to adapt to new technology, maintenance of high street travel agents, not outsourcing airline operations, ill-advised purchases (MyTravel), weak profitability and balance sheet, poor management and Brexit. The prognosis for Thomas Cook was apparent in a regular series of articles on the Inclusive Tour industry published in Aviation Strategy, the latest of which was in March this year.

In the short term, the main airline beneficiaries from TCA’s demise in the UK should be TUI, Virgin Atlantic, Jet2, easyJet and Ryanair — see the summary of capacity at Thomas Cook’s two main bases, Manchester and Gatwick, in the tables. The slightly larger German operation, Condor, has controversially been rescued by a cash injection from the German government. This looks like temporary palliative and eventually the Lufthansa Group (including Eurowings and Sun Express) will absorb Condor’s capacity.

But taking a longer term view, how is the AIT (Air Inclusive Tour) model evolving?

The traditional model used by Thomas Cook, TUI and others basically took two different sets of expertise — hotel management and airline operation — and combined the two into a holiday package to be sold through physical travel agents or via a website. The consumer paid directly through mark-ups on the costs of running hotels or buying in hotel rooms, flying owned aircraft or chartering in capacity, plus on-site, travel agency and administration costs. At its peak the AIT industry was selling reassurance to a public that had limited experience of travelling abroad (“Don’t just book it, Thomas Cook it”).

The classic AIT business has moved from the mass market to a niche. TUI adjusted, Thomas Cook did not. But there is still important demand for these AIT products, especially among the older traveller segment, which is much more significant in monetary terms than it appears to be when measured by volume.

The OTA or OTC (Online Travel Agency/Company) model basically manufactures algorithms and uses them to market hotels, airline flights or combinations thereof directly to the consumer under multiple brands. Children of the Internet, they have no physical involvement with hotels or planes or hire cars. By far the most important revenue stream is commissions paid by the hotels or airlines when customers click through to book accommodation or flights. How much commission depends partly on how high up the page the offer is displayed — the display algorithms can rank offers by price, by customer feedback, by your own browsing history, by time or event sensitivity, by commission charged or by numerous other factors.

By far, the main customers for the OTAs are the airlines, hotels etc which pay these commissions (known as agency income), with secondary income sourced from mark-ups when, for example, individuals put together their own online packages (merchant income). There is also income generated from irritating pop-up and banner advertising.

It may seem that there are dozens of OTAs competing for travellers’ business, but in reality the industry is highly concentrated around the two main US-based corporations — Expedia and Booking Holdings. Expedia has some 23 brands including Hotels.com, Trivago, Orbitz, Travelocity, etc. Bookings’ brands include ebookers, booking.com, priceline.com and Kayak. Another important player is the Chinese OTA Ctrip which owns Skyscanner. There are hundreds of start-ups in this sector, each promising some new way of e-marketing travel or attacking new segments (for example, onthebeach.com, a UK-listed OTA, is keen on “destination-agnostics”). It appears, cynically, that a major part of their business plans is to use investor capital to expend huge advertising budgets to get their names widely known, then hope to be bought out, at a ludicrous price, by one of the major OTAs.

By traditional measurements, TUI is significantly larger than the leading OTAs — with 2018 revenues of about $22bn compared to $14.5bn at Booking and $11.2bn at Expedia. Net profit margin in 2018 at TUI was 4.6%, compared to 27.5% at Booking and 4.5% at Expedia (interpreting the financials of such internet companies is fraught with difficulties, because of their facility in allocating revenue or income to tax-efficient countries).

However, stockmarket valuations tell a different story: TUI was valued at $6.5bn post Tomas Cook’s demise, while Expedia (and Ctrip) were valued at around $19bn, and Booking is rated at a remarkable $83bn. The investors’ view is partly speculation, partly reflective of rapid growth rates, maybe anticipating that one OTA will go on to dominate the entire market, a bit like google or Amazon.

Speaking of Amazon, TUI, Ryanair and ANA, among many other airlines, have in the recent past announced ambitions to be the “Amazon of the air” or something similar. In reality, airlines cannot compete with the programming skills of the OTAs (which are surprisingly labour-intensive: Expedia has over 22,000 employees). Their AIT offering is growing (green segment below) and can provide a very important source of ancillary income — easyJet Holidays has a quality product, for example — but that’s it, ancillary income.

Yet anyone who uses OTA websites must suspect that they are not optimal; they frustrate and irritate by, among other things, attempting to anticipate the users’ preferences. Programmers may be technically brilliant, but they often simply do not understand the consumer.

And the suppliers frequently do not have a comfortable relationship with the OTAs. Hilton Hotels for instance goes out its way to divert bookings from the OTAs. Ryanair has just settled a lawsuit over screen-scraping with Expedia. United is threatening another lawsuit. In short, the travel agency business, having gone through a huge disruption, has more evolutionary phases to come.