20 May Problem Solving Approach
Read “American Airlines,” located in Chapter 24 of the textbook, Managerial Economics: A Problem Solving Approach (SEE BELOW). American Airlines announced a new pricing strategy that they believed would address concerns and benefit the company. Conduct further research on American Airlines’ value pricing. Analyze American Airline’s structure and decision to implement value pricing and discuss the following (750-1,000 words):
1. Discuss the decision behind American Airlines developing and implementing value pricing to gain more market shares.
2. Evaluate the impact competitors and additional economic factors had on the results of the value pricing strategy. What factors contributed to the advantages and disadvantages of this new pricing strategy.
3. Provide alternative recommendations to the value pricing strategy that would result in a different outcome when implementing the strategy.
Prepare this assignment according to the guidelines found in the APA Style Guide. An abstract is not required.
This assignment uses a rubric (SEE BELOW). Please review the rubric prior to beginning the assignment to become familiar with the expectations for successful completion.
American Airlines
In1992, American Airlines (AA), the market share leader in the airline industry, announced a new pricing strategy—Value Pricing. AA believed Value Pricing would address customer complaints and help reverse operating losses by stimulating demand, increasing market share, and reducing costs. American narrowed the number of possible fares from 500,000 to 70,000 by classifying each into one off our classes (first class, coach, discounted 7 and 21 day purchase) and began pricing based on flight length. These changes resulted in lower list prices for both business and leisure travelers.
According to AA, the purpose of Value Pricing was to create “simplicity, equity, and value” in its prices. By simplifying the pricing structure, AA was stabilizing price fluctuations as well as establishing a price floor. The new sys-tem set firm prices based on restrictions and miles flown and eliminated any corporate discount programs. Most importantly, American believed the new fare structure created through Value Pricing would increase volume on the airplanes (raising load factors). AA believed Value Pricing would drive an increase in overall demand through its effort to stimulate travel and economic activity. American also believed these prices would allow AA to increase its market share.
Question: Is this pricing program likely to be successful?
Answer: AA failed to anticipate its competitors’ reactions to this new pricing plan. Had Robert Crandall, the CEO of AA at the time, understood the lessons of game theory; a devastating industry price war might have been avoided. Instead, AA pushed forward with the plan, competitors responded aggressively, and industry profits plummeted. The Value Pricing initiative was abandoned within months of its launch. Instead, Crandall should have tried a strategy that was less easily mimicked by his rivals.
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