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Why Hubs Work

Why Hubs Work. Revenue Benefits for Hubbing Spring 2005 Research Working Paper. Hubs Work. Fare Rise Linearly with Distance Fares decline Linearly with Market Size Hubs serve Smaller Connecting Markets Hubs get premium revenues for connects Hubs have exited large local markets

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Why Hubs Work

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  1. Why Hubs Work Revenue Benefits for Hubbing Spring 2005 Research Working Paper

  2. Hubs Work • Fare Rise Linearly with Distance • Fares decline Linearly with Market Size • Hubs serve Smaller Connecting Markets • Hubs get premium revenues for connects • Hubs have exited large local markets • Low Cost Carriers price Connections High • Tend to charge sum of local fares • Prices match Hub Carriers’ prices

  3. Hub Cost Carriers’ (HCCs) FareTrend is Linear with DistanceO-D MarketsWithout Low-Cost (LCC) Competition

  4. HCC Fares Linear With Distance • Origin-Destination (OD) Data • Average fair for Airport Pair • Markets with 95% of revenue HCC carriers’ • HCCs = AA, DL, CO, UA, NW, CO, US, AS, YX • US domestic Markets • Without Hawaii • All valid data markets • Trend $153 + $0.034/mi (no taxes)

  5. Low-Cost Carriers’ (LCCs) Faresare Linear With Distance

  6. LCC Fares are Linear With Distance$50 Lower than HCCs • Origin-Destination (OD) Data • Average fair for Airport Pair • Markets with 35% of revenue LCC carriers’ • LCCs mainly Southwest, America West, Jet Blue, Air Tran, Frontier, Spirit • US domestic Markets, Without Hawaii • All valid data markets • Trend $101 + $0.035/mi (no taxes) • Same slope as HCC trend • Intercept roughly $50 lower • Represents savings in trip-originating costs

  7. Hub Cost Carriers’ (HCCs) FaresMatch Low-Cost (LCC) Competition

  8. HCC Match LCC faresIn Markets with Competition • Origin-Destination (OD) Data • Average fair for Airport Pair • Markets with >15% of revenue LCC carriers’ • Markets with >35% of revenue HCC carriers’

  9. Hub Cost Carriers’ (HCCs) FaresWithout Low-Cost (LCC) Competition

  10. HCC Fares Decline with Market Size

  11. LCC Fares Decline with Market Size

  12. Fares Decline with Market Size

  13. HCC Fares are Slightly Higher Than LCC Fares, adjusted for Market Size

  14. The Real Difference is Hubs Serve Many more Small Markets • US HCCs have “given up” local markets • Nonstop markets to hub city • Used to gain premium revenues • Now required to match LCCs • Revenues no longer cover union labor costs • HCCs have given up most traffic to LCCs • Hubs serve connecting markets • Share of HCC revenues in small markets high • Share of LCC revenues in small markets low • Fares in small markets higher • More small market revenues mean higher HCC fares

  15. Hubs Emphasize Smaller Markets

  16. LCCs Share of Small Markets is 5%Share of Larger Nonstop Markets is 25%

  17. HCCs Raise Average FareBy Emphasizing Connecting Markets • Average Fare for All Passengers: $146 • Average Fare for HCC Passengers: $166 • Average Fare for LCC Passengers: $102

  18. No Complications from Travel DistancesSmall Markets are not Longer, on Average

  19. HCC Revenues are 1/3 Small MarketsLCC Revenues are 10% Small Markets

  20. Hubs Make Travel Possible • Hubs exist to serve small markets • For US domestic network • 25% of revenues are from small markets • Over 30% of HCC revenues • Under 10% of LCC revenues • International “small markets” add to this • US has higher share nonstop than world

  21. Economics of “Small Markets” • Half of world-wide loads are connecting • Small cities have small markets • Small Markets pay more • Value is there • Small cities have lower living costs • Lower housing costs • Higher air travel costs • Air Travel connects small cities to trade

  22. Fares are Linear With Distance • Average Fare = $153 + $0.043 * Dist • R-square = 0.13 • All US domestic markets with valid data • Excluding Hawaii • Mix of HCC and LCC markets • 18,000 data points (Airport Pair O-Ds)

  23. Fares are Higher for Small Markets(Includes both Small and LCC Presence Effects) For Pax < 10/day Fare = $117 + 0.046 * Distance 257 data points; R-square = 0.42 For 10/day < Pax < 100/day Fare = $106 + 0.037 * Distance 758 data points; R-square = 0.37 For Pax > 100/day Fare = $98 + 0.035 * Distance 671 data points; R-square = 0.34

  24. HCC Fares are Higher for Small Markets For Pax < 10/day Fare = $127 + 0.042 * Distance R-square = 0.24 For 10/day < Pax < 100/day Fare = $110 + 0.036 * Distance R-square = 0.30 For Pax > 100/day Fare = $115 + 0.031 * Distance R-square = 0.22

  25. LCC Fares are Higher for Small Markets For Pax < 10/day Fare = $111 + 0.0442 * Distance R-square = 0.33 For 10/day < Pax < 100/day Fare = $100 + 0.034 * Distance R-square = 0.31 For Pax > 100/day Fare = $83+ 0.032 * Distance R-square = 0.38

  26. LCCs Price Close to HCCs in Very Small Markets Pax < 10/day HCC fare =$127 + 0.042 * Distance LCC fare =$111 + 0.044 * Distance

  27. LCCs Price Connections Close to HCCs 10/day < Pax < 100/day HCC fare =$100 + 0.036 * Distance LCC fare =$100 + 0.034 * Distance

  28. LCCs Fares In Nonstop Markets are LowHCC fares are a mix of all-HCC and with-LCC Markets Pax > 100/day HCC fare =$115 + 0.031 * Distance LCC fare =$83 + 0.032 * Distance

  29. Full Model Includes 3-4 Variables Fare = $102 + 0.040* Distance (R2 = 0.36) Fare = $131 + 0.038* Distance – 6.4 * Ln(Pax) (R2 = 0.36) Fare = $153 + 0.037* Distance – 6.9 * Ln(Pax) - $23 if LCC presence(R2 = 0.48) Fare = $151 + 0.037* Distance – 7.0 * Ln(Pax) - $20 if LCC presence + $26 if HCC only(R2 = 0.48)

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