Friday, October 20, 2017

Airline Cost Of Goods Purchased (COGP)

Price + Efficiency+ Cost Of Change = Deal

A long time ago  an accounting office far far away there was Cost Of Goods Sold (COGS). The COGS book was fat with definitions, calculations, and documentation for transactions going out the doors from a business. But what about goods coming in the door, what is its costs?

The COGS model had variable and fixed costs, break-even points and a vast sundry of accounting adjustments to arrive at what it cost when a product is sold. The balance purchase price of a product sold minis the COGS can be summarized as raw profit. The profit at this point is just a starting number for all other accounting manipulations from that profit dollar.

This story is not about Cost of Goods Sold but about airline fleet building and its operational success. There are two manufacturers pursuing an airline for business. Manufacturer A and Manufacturer B from this point forward noted as MA and MB. The customer is a dual fleet operator for 80% of its fleet comprising its larger aircraft. The airline customer also ties up 95% of its resources servicing, buying, and operating the larger aircraftfor its own flying customer base.

The marketing team of both manufacturers have set its bottom line price for its sales team. Bottom line price includes service support and added value product offerings. Some airline customers operate a dual brand fleet strategy buying both MA and MB aircraft in an effort for leveraging the manufacturer into lower prices on future purchases. However, dual fleets have a cost added to its operation when separate resources are required for having MA and MB in its fleet. The most efficient airlines often seek a strategy of one using manufacturer only for its fleet, reducing operational redundancies found in a two fleet scheme.

Therefore, an airline must make up those inefficiencies found in dual fleet operation from leveraging a low ball purchase price from each competing manufacturer. The low purchase price would support having a dual fleet brand inefficiency. Costs are found when hiring dual trained employees and  carrying two parts bins for its fleet of aircraft. It get messy doing two fleet types under the best of conditions and requires manufacturer involvement to keep the airline's ball rolling. Price and operational efficiency must balance one another. Being a more efficient airplane than the competing maker is sometimes not enough of a reason for buying product "MA" or "MB"

The cost of change can be illustrated by the degree of change management required when making its fleet either into a dual manufacturer fleet or going to a one manufacturer fleet. The selling manufacturer wanting an exclusive take-over of a dual manufacturer airline must make a deal "the airline can't refuse", and then it must assist that airline during its phase of gaining expertise with the aircraft for a period of time, Otherwise the cost of change becomes too expensive and risky for the airline customer.

The final balance from a COGP is the deal, as the deal must address each of the the above categories of price, efficiency and change. The cost of passenger retention is a big issue for an airline whether it can keep its own paying customers happy with a newly delivered aircraft. Both manufacturers have to attack the Passenger Quotient (PQ is a passenger preference for travel) of this problem differently in order to overcome airplane preference. There are those who love MA and then there are those who love MB.  It must sell to the airline how its Passenger Quotient is better than the other.

Sometimes Price, Efficiency and Change outweigh any PQ considerations. The airline can fill airplanes with the locations it can go to rather than having 30" of pitch vs. 31" of pitch. Passengers will go where the airline can take them and the price of added inches is too expensive for the average passenger seeking a $199 ticket.   

An airline has a lot to think about before buying its next great airplane.