Frequent flyer programmes

Why are miles a separate performance obligation?

Miles give the passenger a right to free or discounted flights that they would not have received without buying the ticket, a material right under IFRS 15. Part of the ticket price is therefore paid for future rewards, not for today's flight, and that part is deferred until the airline provides the reward. The same applies to miles earned on partner purchases, such as hotel stays or car hire, where the airline sells miles to the partner. The approach mirrors retail points schemes; see loyalty programmes.

Frequent flyer programmes: allocating a ticket price

A passenger buys a ticket for US$ 500 and earns 2,000 miles. Each mile is worth about 1.5 cents when redeemed for an award flight, so the miles could be worth 30, but the airline expects only 80% of miles to be redeemed. The stand-alone selling price of the miles is 30 × 80% = 24, and the ticket price is allocated on relative stand-alone selling prices.

The stand-alone selling price of a mile is usually estimated from the value of the rewards it buys, such as the fares the airline would otherwise charge for award seats, adjusted for the expected redemption rate and for the mix of rewards. Some airlines also use the price at which they sell miles directly to members. The 22.90 deferred is part of the programme's contract liability until the miles are used.

How are redemption and breakage estimated?

Because the stand-alone selling price already reflects the 80% expected redemption rate, the deferred revenue is released in proportion to expected redemptions: each mile redeemed releases 22.90 ÷ 1,600 of revenue, so by the time 80% of miles have been used, all of it has been recognised, and the breakage on the other 20% has been recognised with them. Redemption rates are estimated statistically from member behaviour, including expiry rules, account activity and the value of available rewards. Changes in the estimate adjust the liability with a cumulative catch-up in revenue. Breakage is included only to the extent a significant reversal is highly unlikely, so new programmes or recent rule changes call for caution.

How are co-branded credit card agreements accounted for?

A bank issuing an airline credit card pays the airline for miles awarded to cardholders, and usually for much more: the right to use the airline's brand, access to its customers for marketing, and benefits for cardholders such as free bags or lounge access. Each is a performance obligation. Suppose the bank pays US$ 100 million in a year, and the airline estimates stand-alone selling prices as follows.

The brand licence is usually a right to access the airline's brand, which the airline keeps supporting, so it is recognised over the agreement. Only the part allocated to miles is deferred until redemption, so the more value attributed to the brand and marketing, the sooner revenue is recognised: an area where estimates deserve scrutiny. See IFRS 15 licences and allocating the transaction price.

How are awards on partner airlines treated?

When a member redeems miles for a flight on a partner airline, or for a hotel or retail reward, the airline pays the partner to provide it. The airline assesses whether it controls the award before it is provided. It often concludes it is an agent, arranging for the partner to provide the reward, and recognises revenue net: the amount allocated to the miles less the amount paid to the partner, when the partner provides the reward. Where the airline controls the reward, it recognises the gross amount as revenue and the payment to the partner as a cost. See principal versus agent.

What happens when the programme changes?

Devaluations, where more miles are needed for the same reward, new expiry rules or a shift to revenue-based earning change the value of miles and redemption behaviour, and so the estimates. Changes to existing miles are generally applied prospectively, as a change in estimate. Elite status, such as gold tiers earned by flying, can also be a material right if it gives significant benefits on future flights, although many airlines conclude the effect is small. Some groups run their programme as a separate subsidiary that sells miles to the group's airlines, and the group eliminates those sales on consolidation.

How does US GAAP differ?

ASC 606 uses the same model, and US airlines moved to it from an incremental cost method that had accrued only the cost of providing awards. Their co-branded card agreements are among the largest, and their filings show the allocation between miles, brand and marketing in detail. Unused tickets and their breakage are covered in unused tickets and breakage, and the wider picture in airline accounting.

This guide is general information. It is not tax or legal advice for your situation.