Outsourcing empowers airlines with improved cash flow, ensuring a competitive edge in the aviation industry. Here’s how.
The airline industry is immensely competitive. Yet many airlines’ available capital for investing in innovation has been stifled because the industry has undergone a period of deregulation as well as slow recovery and cost constraints ever since the September 11 terrorist attacks on the United States. British Midland Airways Limited (BMI) is an exception.
The second largest scheduled airline in the UK and the second largest operator out of Heathrow Airport, BMI has been innovating on its inboard services and has achieved a number of “firsts” in quality of service. One of the “firsts,” which other airlines have subsequently copied, is that passengers on BMI’s long-haul flights to the United States, Caribbean, and Saudi Arabia enjoy the services of an onboard chef preparing their meals.
BMI’s position of having capital to invest in innovation is due in part to its increased efficiencies resulting in reduced costs. A major cost-saving initiative for BMI has been outsourcing its revenue-accounting processes to Indian service provider Kale Consultants in 2006.
“Our chief executive likes to describe revenue accounting as the breadbasket of the airline,” states Richard Rose, General Finance Manager, BMI. “It’s the bit that makes sure we maximize the cash sitting in the bank so the business can keep trading.”
Airline revenue accounting is very complex; it is not the normal profit-and-loss accounting process of most businesses. For an airline, the cash from a sale is booked only into the balance sheet when the passenger actually takes the trip. The sales transaction begins with handling the sale booked through a travel agent, the Internet, or a call center. When the passenger boards the aircraft, the accounting shifts to a flown process that calculates how much of the revenue goes to the profit-and-loss account in that particular period.
If a journey involves transferring from one airline to another for flights or various sectors of the trip, the system must calculate how much of a ticket price relates to each sector. Further complexities and a clearinghouse run by the International Air Transport Association (IATA) are involved. For example, if a passenger buys a multi-sector flight ticket from United Airlines and BMI flies the passenger for the Heathrow to Edinborough sector, BMI must bill United Airlines for that portion of the cash.
Currently, BMI’s revenue-accounting process handles 13 million transactions per year. Obviously, a transaction error of even one percent can be a huge impact to the airline’s revenue. But that risk was never more prominent than at the time of migrating the work to the outsourcing provider. “We had millions and millions and millions of pounds worth of data that needed to be transferred from our existing balance sheet within our revenue accounting system onto the new system,” recalls Rose. “We could have easily lost millions, which a low-margin business simply could not afford.”
Rose continues: “The work that Kale is doing for us is quite complex. And it’s clearly very, very important to our cash flow and therefore fundamental to the ongoing performance and control of our business.”
How can a company confidently select an outsourcing service provider for a role that is so crucial to the business? Also, given that the transition/migration phase in outsourcing relationships is inherently fraught with pitfalls, how can the parties involved in transitioning a mission-critical revenue-accounting process mitigate the risks? Let’s look at what BMI and Kale did.
Provider-Selection Process
Prior to outsourcing, BMI employed approximately 175 staff members who processed passenger revenue accounting. A number of these people had been with the airline for 30 years and would be retiring in the next five years. Airline revenue accounting is a specialized process that most accountants cannot perform. It was becoming difficult to find a pool of talent with this expertise where BMI is located, and salaries were increasing rapidly.
Outsourcing to Kale was not simply a labor-arbitrage strategy. It allowed BMI to focus on its core business, shifting the accountability for process best practices, monitoring business changes in the airline industry, and understanding the impact to BMI, infrastructure, service quality, and year-on-year improvement in the service levels.
Another growing risk was BMI’s revenue-accounting system. It was old software that carried a high risk of BMI continuing to have the in-house expertise to maintain it. It was also was hosted on a mainframe, and BMI had been moving other applications away from the mainframe. A decision to replace the system unfortunately was put on the back burner because of the events of 9/11, which caused so much uncertainty in the airline industry.
Once the airline industry and BMI’s revenue improved, the company decided again to look at replacing the system. It downselected to five software suppliers, each of which received a Request for Proposal. Three of the five proposed providing outsourcing services for the process instead of just provisioning their software for BMI to run in house. Obviously, the business case for outsourcing, especially with an offshore provider–of 30 percent (or more) cost savings per annum going forward–was far better than purchasing a system that would pay for itself in three or four years and then need to be replaced later.
BMI’s six-month due diligence process on the top three bidders included trips to Greece, Canada, Scandanavia, and other countries to assess how the three providers’ products and services were operating with their international customers. The airline also assessed each provider’s recent trading pattern, how secure they were, how much they were investing in their software, and when the software would be replaced.
Kale’s software won from a functionality perspective. Also attractive to BMI was the fact that IATA has recently selected Kale as its preferred supplier, and all of Kale’s well-educated staff had also been through IATA training courses. In addition, Kale also has a relatively low (less than 10 percent) attrition rate for Indian suppliers, which would assure continuity for BMI.
More importantly, Rose explains, BMI’s and Kale’s corporate cultures are similar. “We communicated extremely well with Kale’s people and felt we understood each other. We felt we would get the right kind of focus and attention from their very senior management.”
A critical factor was the separation of the software implementation and services contract. This guaranteed BMI the ability to consider new service providers in the future without having to change software. Kale understood BMI’s need for a coherent exit plan. As Rose explains, “We expect to work with Kale for decades, but we have to protect BMI, should that relationship fail for any reason.”
BMI also wanted to have a voice in the how the software’s functionalities might be developed going forward; and Kale welcomed that collaboration.
The Transition Phase
BMI and Kale established two project teams, one to manage the software implementation and the key technical aspects around that, the other to manage the transition of the people and the service. There were significant pressures to ensure the implementation met the targeted deadline (by which time BMI’s former in-house employees would no longer be there to perform the work).
The technical challenges as well as the learning curve for the Kale employees were both significant enough to put the deadline at risk. But even with the tight schedule, they transitioned on time and significantly under budget. Both companies report that the way they managed the transition and software implementation will be used as a blueprint for both companies’ future projects.
The strategy at the heart of their blueprint is co-location of the teams to ensure a single-team approach and foster a strong bond between the two companies. Along with a strong project manager, BMI sent its staff to India to work alongside their counterparts at Kale and talk them through unusual transactions and the work they had been doing for decades. The teams worked jointly in the same location for a significant part of the implementation period.
“It was an incredibly productive way of working,” says Rose. The strategy facilitated “getting the spirit right”–enabling a partnering way of working and ensuring both teams understood that “the common goal is what’s important.” The co-location strategy also enabled a clear understanding of the requirements of both parties at the beginning.
Technical challenges were twofold. First, Kale needed to customize its software solution. The companies undertook a formal process for gap analysis and prioritization of identified customization requirements, depending on their strategic impact on BMI’s business. A joint steering committee maintained control of the project schedule.
Second, they needed to migrate very high volumes of BMI’s transactional data into the Kale systems and applications and not lose any data; because of the way revenue accounting works, most of the transactions were still sitting on the balance sheet. They conducted a number of iterations in design for the migration process. Then, several months before the go-live date, they tested the data migration and reconciled the data. Because it was so crucial not to lose any data, they actually went through this testing process three times to make sure the migration would work.
One of their best-practice strategies was to set expectations. For example, there were training programs so both companies’ personnel could understand each other’s expectations about their separate roles and responsibilities in ensuring the service level agreements would be met. For example, BMI’s personnel need to ensure Kale receives accurate, timely data. Training was also essential for the long-serving BMI managers to understand how their roles would change with a service provider in place.
BMI also conducted expectation-setting presentations with its board. Rose took this activity a little deeper because of BMI’s experience with a prior relationship for a different outsourced process years earlier. Although the level of service in that arrangement became satisfactory, the initial level of service was very poor. As he points out, it is difficult to get over that legacy impression even when the service improves.
In the relationship with Kale, Rose says he continued conducting expectation-setting presentations even after the go-live date to make sure that “if any problems arose, we could manage perceptions through those times. And indeed, this relationship is now very highly respected within BMI.”
In addition, Rose believes success can also be attributed to up-front clarity for Kale as to BMI’s requirements. This goes beyond determining objectives. He says, “We were absolutely clear on the areas that are important to us and the areas where we cannot accept any deviation in the standards we have developed over the years, as well as the expectations of our directors.” They also drove this understanding throughout the training sessions of Kale’s staff before going live.
A significant key to success in this relationship was establishing up front the commitment and support from both companies’ chief executive officers. “They have concentrated on building a very strong relationship,” says Rose. He and BMI’s CEO and CFO went to India just before the service went live and announced a quarterly awards program recognizing the best employees among Kale’s staff. BMI awards the winning employees free flights to the UK, where many of Kale’s staff have relatives and friends.
Benefits of Outsourcing
In the first year of the relationship, BMI achieved numerous benefits from the outsourcing arrangement in addition to solving its software and talent recruitment challenges. A few of these benefits are:
- Significant cost savings from day one
- Moving from a fixed-cost model to a variable-cost model (per transaction), facilitating budget planning
- Achieving a lower service cost for transactions involving electronic tickets than paper tickets (and the industry is moving more toward e-tickets)
- Increased revenue by maximizing billings to other airlines through automation of interline accounting processes
- Kale’s partnership with IATA provides BMI with early warning of upcoming industry changes that need to be implemented in systems
- Disaster-recovery services–including a third site where Kale can transfer the work should anything happen to the facilities in the first two sites. In a step that demonstrates the cooperation and trust in this relationship, Kale also has made its software available to BMI on a server in the UK. This assures that if a disaster occurs or anything happens to Kale on a corporate level such that BMI would not be able to process credit-card sales, for example, BMI could perform the work on an emergency basis in house to protect cash flow.
Improved cash flow from faster service is also a major benefit of the outsourcing arrangement. In addition, the core system now provides BMI with access to more detailed information, which allows the airline to more precisely identify income rather than making estimates.
According to Rose, BMI is re-investing the savings from outsourcing in new aircraft and in competitive initiatives. In addition, BMI recently acquired BMED, a Heathrow-based airline operating mid-haul routes and is considering commencing services to the United States from Heathrow in 2008 following deregulation. It’s an airline on the move!
Lessons from Outsourcing Journal:
- Outsourcing is an ideal solution for a highly special process, such as airline revenue accounting, that requires a pool of talent that may not be available where the business is located.
- For a mission-critical business process, such as airline revenue accounting, it is extremely important to select a service provider that will seek to ensure the parties understand each other, focus on the buyer’s needs and priorities, and collaborate on solutions on an ongoing basis.
- It is important to make sure both parties clearly understand how their own roles and responsibilities impact each other.
- A best practice that facilitates growing a successful relationship is for the buyer to conduct expectation-setting presentations with its board, executives, and end users to ensure they will be willing to see that any issues that may arise can be worked through, rather than immediately blaming the provider.
- A significant key to success in an outsourcing relationship is establishing up front the commitment and support from both companies’ top executives to not only provide the necessary resources on an ongoing basis but also to concentrate on building a very strong relationship.