5-Low Cost Airlines

8/3/2019 5-Low Cost Airlines

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'1 Background

1.1 Early Airline History

The world's first passenger airline, DELAG, f lying Zeppelin airships, was formed in Frankfurt Germany in

'il909, The airline industry really got underway in Europe after the development of military air transport

Curing World War One. Being a new era, industry firsts were being recorded all the t ime. For example

;;:n 25th August 1919 the world's first 'civil international scheduled airline passenger' was carried, in a

mnver;ted de Havilland 4A WWI bomber, on the daily two-hour London to Paris fllght.

An-ear ly indication of the financial turbulence associated with airline industry was in the early 19205_

8y February 1921 all UK airlines had stopped international, i.e, cross-Channel, services due to financial

caused by subsidised foreign services. Faced with this stoppage the UK government started

, lines financial support, Finally the government decided to set up a single UK international

forced merger of four airlines and in April 1924 Imperial Airways was formed. Imperial was

rrier, Imperial was to develop UK commercial air transport in the empire; maintaining,

under the supervis ion of P rofessor John M cG ee as a basis fe r c la sseffective or ineffective handling of a business sltuat,ion. This case study is

""" ._ ' -- - -_ ' by Andrew Hodge at warwick Business School. '

:Blis ineS5 School. No t to be used or rep(dduc~d. ~·~i~. ,:. ." : < : ' : : ~ ' : - ' : \ ' . ' < · ~ ; : , < t ; : ' ( . ' : : " : , i ~ : .



. .' . b y theRAF, t6 the coIonie s , After the start of wo rid war Two 11'rI1"I"'rii;:;I.~

.war effort and after the war it became part of Brit ish Overseas

Iatlon and Deregulation

ine Industry has always been subject to assorted regulation within countries and by

n countries, or airline/country agreements. A primary area of regulation was to establish wh

could fly on which routes and the fare scheme, to be imposed."

1940 in the United States, the Civil Aeronautics Board (CAB) was set up to promote and develop

.. the airline industry, allied with economic and other legal powers; the US had similarly regulated the

railways in the 1880.5 after years of competition issues.

The CAB would use its power to decide who could enter and exit markets, and any route subsidies, plus

regulate the fares charged. It typically allowed only one or two airlines to fly a particular route. A symbiotic

relationship existed between the airlines and regulator, customers' priorities not taking precedence.

As airline costs rose the CAB allowed fares to rise. The airlines' only real form of competition took

the form of the level of customer service. During the 1960s the consumers who could afford to fly were

labelled the 'jet set', l.e. rich people. Due to the regulation the airlines industry operated under, airline

costs and fares were high. The airlines didn't particularly consider cost efficiency, which would turn

into a problem many years later.

In 1958 the CAS's legal remit changed; it continued economic regulation of airlines that flew across

state lines, however airlines that only flew within a . state were not economically regulated, good news

if someone wanted to offer low fares. The real seismic shift in the US airline industry happened with

the 1978 Airline Deregulation Act, and 1980 Air Transportation Competition Act. The 1978Act phased

out the CAB's economic: regulation of the airlines. However the infrastructure, airports and air traffic

control were sti ll regulated.' By late 1984 the CAB had ceased operation, tts non-economlc regulatory

powers being passed to other bodies.With deregulation the US domestic airlines market would be subject to market forces; regulators

would not determine route entry and price competition. By 1982 the environment for dynamic airline

competition existed, and since deregulation fares have fallen by half in real terrns.!

The major airlines had fought against deregulation; they now found themselves in the posItion of

having businesses with high cost structures that included expensive labour with uneconomic: planes

and infrastructure. Among the assumptions behind regulation had been that demand for air travel was

inelastic, i.e, insensitive to price change.

The UK government moved towards domestic deregulation and bilateral deregulation with some

EU states in 1984. Ireland and the UK bilaterally deregulated in 1986 and in 1987 the UK government

privatised 6ritish Airways (BA).

Deregulation in the E U domestic airline market occurred with three legislation packages in 1987,

1990 and 1992.With the 1992 package, coming into force in January 1993, air lines had the freedom

to set air fares. Deregulation was completed by 1997, with freestanding cabotage, when airlines from. one E U state could operate scheduled domestic flights within another E U state." E U deregulation

now also applies to various degrees in Iceland, Norway, liechtenstein and Switlerland. .,

.Deregulation triggered the rise of low-cost airline industries in the US and EU , and the demise: .:

than a few of the traditional full-service airlines. The low-cost airline industry founder is (red .

"''''II1"n'wQ.,a Airlines with their low-cost strategy and policy of low fares.

today there are more lslands of darsgulatlon, also called liberalisation, with Australia'

.and Far East deregulating to various degrees.

- : : :

1 Airline Der~g'dI<fti'on;;;Thenfinished Revolution; Robert W. Poole, Jr. and Viggo Butler Mar. ~ : , . : .:~~'; " " ,,~ , "

~!The Economist(LOMOM):lh the .Iand offree flight; Jun 16, 2007. VoL383, Iss.8533; p6.

;, E lp ein g .w eb s ite; Th~ E~6iibrii[t I m p ac t of A i r Service LiberalizatJon; 2:001t... :; ~

,";,:' .



'2008 th~ us - EU 'open skies' bilateral agreementcom~$' intb' , ,

Into any EU airport and from there, anywhere within the'

E U or' 'rid, EU carriers do not get onward access after landing In the US;,,,

USdomestk market. Befor@ open-skies London Heathrow was the primary

the U S . Also the agreement allows us and EU airlines to buy into each other;',

'red that US airline boards are controlled by US nationals.

1.3)hrline Terminology

The t~w-cost airlines are also called low cost carriers (LCC), budget airlines, or no-frills carriers. Th~:,

I2gacy airlines ara the traditional full-service carriers that operated prior to deregulation. The network "

airlines, national airlines and flag-carriers also belong to the legacy airline group.

Low-cost does not necessarily translate into low-fares, as fares tend to rise the closer to departure

date; airl ines use yield man agernent systems which use 'price discrimination'to set fares (see appendix 6).

The low-cost airlines activities feature; tlckst-tess travel; sales primarily forced over the internet; only

one fare is available at one time; they earn additional revenue by selling travel related services over the

internet; minimal infrastructure (off ices etc.) : no frequent flyer programmes; no free food or drink; no

in-flight magazines; no airport lounges; no pre-assigned seating; flying to less popular secondary or

~gional airports often further from the city than the principal airport; no transfer or network services;

5e1lsingle non-return tickets; tickets non-rsfundable: flights under two hours; stand-alone operations;

and no cargo.

Another low-cost airlines signature is that they operate in the short-haul, i.e. within Europe, market

-flying either the Boeing 737 or Airbus A320 family of aircraft (see appendix 10). The regional airlines

are a variant of the low-cost airline, e.g. Flybe. They fly smaller, capacity under 100 seats, regional jets

(RJ) . The regional airlines can function over 'thin' routes where passenger traffic would not support the

standard low-cost air li nes,

In order to operate from a busy airport an airline has to acquire 'slots'. These are the rights to

land and take-off at a particular time. Slots are 'grandfathered'to the incumbent user, At primary

airports such as Heathrow these slots are difficult to obtai n as the airport is operati ng at near

capacity, hence the knock-on problems with processing passengers at the airport. Depending on

how busy the .. irports are, secondary and regional airports do not necessarily operate with landing

and take-off slots. Secondary airports are the less attractive airports that serve the city of the primary

airport, e.g. for London the primary airport is Heathrow and the secondary airports are stansted

and Gatwick.

'Hub' airports are where network airline passengers are concentrated in order to fill connecting

flights to other hub airports, and then on to their final destination. The hub's destinations can be

seen as the spokes of a wheel, hence the hub-and-spoke system. Primary airports are attractive to the

lucrative business traveller market. The network airlines tend to domin ate the hub airport and hence

exclude the competition. The low-cost airlines tend to fly point-to-point networks flying directly to the

passenger's f inal destination airport.

Codesharing agreements are primarily legacy airline alliances that allow airlines to expand networks

wlthout adding new services. The partnership allows an airline to sell tickets under its own name for'trav~hth<lt occurs within both partners' networks. • ,

,,:2d;mmon term used in evaluating an airlines performance is load factor. The primary one.

,. ··'Ioad factor, how full the airlines flights are. Passenger load factor is RPK divided by

passenger kilometres' is the number of revenue passengers carr ied, multi,

;ASK 'available seat kilometres' is the number of seats available for sale,m

. The annual ASK figure is also used as a statistic for comparing airli.ne:p~

the statistic may not be as transparent as it seems when it c(lmestO



Airline Industry

supply chain is made up of the aircraft manufacturers; aircraft leasing com ...

reservation system companies; travel agents; cargo companies and aviat ion

..Ing, aircraft maintenance, ground handling and fuelling. .

jr Air transport is critical to the global economy. Airlines are the US$450 billion heart of a value'

. -chaln, Tha.t supports US$2.9 trillion in economic act ivity. In Europe this brings employment to 7

million. And adds U S $ 1 trillion to the European G D P - '

'Giovanni Bisignani, Director General & CEO lATA; 28 September 2006

World economic growth and airline profits 1970-2006

8

6

4

2

.I \

.",

0 . •

-2

-4

__ World real GDP growth (% vly)

•••• World scheduled airline net profit (% of turnover)

,

•,r

,,•

,I~ I I 1 . l i . i r-I

,

I, I 2 '1 r-r;I I I..s-- ,Il"r

,!.""\/.. ,. ,. ,

.'

,,,,,

',"

-6

1970 1974 1978 1982 1986 1990 1994 1998 2002 <1006

SOf,Jrl ;e~: IMF, ICAO. lATA (2006 is estimate); ba.com: Mtish Airways Fact 600k ~007

.Economic act ivity and increasing wealth are the main drivers of'lncreaseo demand for air travel. However

'..substantial portions of consumer spend on airline travel is discretionary, accounting for consumering effects on airline industry prof its.

demand for the airlines is notorlously cyclical. There are the normal seasonal swln

of passengers carried, and then there is the economic cycle effect to overlay onto

Passenger numbers can also suddenly fluctuate with world events such as disease,

, 9/11 or potitics, e.g. conflicts in the Middle East. In the early 2000S all the

vlslted on the airl ine industry together with the rise of the low-cost ...

r2001, plus the events of9/11, tr iggered cost cutting in the worldwide .'.

. . airlines got into financial difficulties; Swissalr failed in

swlss, which . I , 'over by . Lufthansa in 2005; Sabena failed in November.'. . \ ~; . ~r,. \ . \ ~ : .. : :

over by.Air France in 2 P P f , '



, ;\II'

. . " gI".~\. ,

• I,.~M-•

AIRLINES INDUSTRY INE:VROPE 2007

···· Ieg...cy air lines to face up to then~~d for long-overdue change,individual

the one who blinks first and cuts capacity. The airlines embarked On pro-

. c:ostcutting, productivity Improvements, operational changes, and fleet and route

.. on, as they struggled to survlvs in adverse conditions. While doing this they faced the

" " '_ . _ ., , ·' c ," " " , ~ . aul competition from the low-cost carriers. The major 'ow-cost airlines coped very well

during the 2001 - 2005 economic downturn in the airline industry. By getting the cost and

equation right a low-cost airline can remain profitable while competitors get into financial

:~ul:@ - the low-cost strategy gaining from simple organization, product design and service delivery

iBYApril 2007 lATA reported that the low-cost sector represented 13% of global operations by ASK-

The new dilemma for the industry is what should the strategy be to deal with the record risesinthe

mst of fuel and the likelihood that higher prices are here to stay. All the airlines are moving tomore

: iS le ! efficient aircraft with some adding wlngtets to reduce fuel consumption.

Uhe industry is labour intensive with high fixed costs, i.e. wages and aircraft capitat/leass costs, and low

grofit margins. It is also highly regulated and has to meet regulations On such things as security, aircraft

corse and maximum total duty times for aircraft crew.

The low-cost airlines work their assets hard; for instance BA's pilots typically fly fewer hours than

.their low-cost peers. Captains are legally limited to 900 hours a year. Captains on low-cost airlines nor-

~ally get near this llrnlt. Captains at BA typically clock up between 600 and 650 hours a year_4

On the more mundane side of the industry: extreme weather is a problem for airlines, for exam-

¢e fog at Heathrow airport in December 2006 grounded flights for several days. After weather or even

strike events it takes airlines days: to resume normal services because Crews and aircraft are in the

1J!ll'Onglaces. Also airlines have to deal with the daily delays attributed to air-traffic control; due to the

f:ncreaslng volume of traffic the bandwidth cannot cope.

:":ot all passengers who fly with low-cost airlines have defected from legacy airlines. Rather, low

2.-es and factoring in time savings and other utility factors encourage people to fly when they would

~erwi$e have gone by road, sea, rail, or not even traveltsd. Ryanair initially tapped into this latent~milnd for travel in Ireland, with a population that was accustomed to travelling abroad.

The charter airline companies, with their consumers shifting away from package holidays to self-

!:ooked holidays, have ready-made infrastructures to convert from charter-airline companies into

lJw-cost airline hybrids, e.g. MyTravel Lite, Thomson Fly, Monarch and Air Berlin.

In 2004, it was estimated, there were 545 European airlines offering versions of the low-cost

5i:lrmula.;compare that to the flag-carriers that ran to about one airline per European country

During 2006 the low-cost airlines had the following shares of the airline industry:

9,730,962 899,427,282 18%



'No-fri lls': 3.1 mill ion weeldy seats

Air Berlin

bmibaby

Hapag-L!oyd ExpressGermanwings

TransaviaJetZcom

ThornsonFly

Wi?lVueling

Virgin Express

SkyeuropeHelvetic airways

Srnartwings

Summer 2006

50urce: OAG-Maxlwebsites

The RPK growth rate is set to grow from 4.8%, for 1986 - 2006, to 5% to 2026:

2006 traffic

Adde d t ra ff ic

2007-2026

Annual

growth %

.6.7sia-PacifiC"

No rt h Am er ic a

Europe

North Atlantic

Chlna

Eur op e - A sia -P a cif ic

Transpacific

North Americ:a - Latin Amer ica

E urope - L.atin America

t .at ln AmE!riCa

Africa - Europe jiiGMiddle Ea.st - ASia-Pacific

3.4

- 3.5

4. 7

8Jl.

5.6

.. ' . 6.2

'~,

World average

growth: 5.0%

o 500 1,000 2,000 2,500 3,000,500

RPKs, billions

Source: Boeing; Curn!:nt Market Outlook Z007; June ZQ07



: LINES INDUSTRY IN. E U R O P ' E 2007

. . . . . . , , , . · . · · _ . r l i h i e s :the

low-Cost Ben' . . b 6 r n in the pre-Internet age. Southwest's first Customer flight was in June 1971. Using

. 737s it served three Texas cities, the 'Texas Triangle' destinations. By only flying within

.'west was.able tc offer unregulated low fares, outside the remit of the CAB.low-f"fe airlines

within California. Southwest's philosophy has always been low fares,keeping costs low

ying could be affordable instead of a luxury for the few.

{deregulation allowed Southwest to fly across state lines and continue charging low fares. In 1979

wi£hderegulation, American Airlines moved its HQ from New York to the newly built primary airport

atDallas/Fort Werth, where it controls 80% of the gates, with Southwest staying at its hornebase.in

do~ritown Dallas at the (now) secondary airport Love Field.7 Southwest pioneered the low-cost airllne .

activity model (see appendix 3) which became the basis for the rise of low-cost airline industry around" .

the. world.

In 2003 for the first time in aviation history the low-cost airline Southwest became market leader.

By December 2006 Southwest posted its 34th consecutive year of profits (see appendix 1).The successof Southwest is also creating a new breed of low-cost alrllnes that varies the characteristics ofthe low-

cost activity model such as adding superior in-flight service.

Now the legacy airline industry has restructured to reduce its cost difference relative to Southwest

Southwest is having to look to increase its revenues to maintain profits. CEO Gary Kelly has indicated

that Southwest is looking at international flights, and the airline is considering assigned seating as

part of trying to encourage the more demanding business traveller.s

The key attributes of southwest's success

Southwest was the first airline to consider going back-to-basics with air-travel. It determined that a

basic product offering could strip away unnecessary operating expenses. First to be discarded was the

assignment of seats and the provlston of in-flight meals. Not only did this save on catering and cleaning

costs, but it also allowed for an alternative cabin configuration that eliminated the on-board galley, thusfreeing up space for more seats to generate more revenue.

Southwest offers a fow-fare, hlgh-fraquency, polnt- to-point no-fr ills service that is in marked contrast

to the established market offering from the US legacy carriers who provide a hub-based network, meaning

tha t customers will often stop and wait at an intermediate point in order to reach their destination,

which incurs greater costs and results in higher fares fur passengers. In the US the low-cost airlines now

account for 27% of all domestic passenger seats.

Operational efficiency is achieved via ths utilisation of a single aircraft type: Southwest fixed on the

Boeing 737. This simplifies scheduling and flight operations, reduces maintenance cost by decreasing

spare parts inventory and rationalizes training of both engineers and crew. Another critical benefit of

operating a single aircraft type is the potential to negotiate favourable terms with the aircraft manu-

tacturer Moreover, Southwest quickly realised that aircraft make no money when they are sitting on

the ground, so it pioneered the concept of a quick turnaround. By using less congested secondary

airpons the average amount of time spent at the gate is 25 minutes. For an Industry characterized b{' ....high fixed cost, high asset utilization is the key to success: by reduclng the time aircraft spend on the:,

grdtind Southwest is able to offer more services with fewer aircraft. Southwest's fleet are in the . '" .....

... of 11 hours 34 minutes a day, more than any other major airline.9 .

efficiency is achieved through employee productivity, employees performing multi

. ir line industry nas a long history of having poor labour relations. However,

'. a re considered an integral part of its SUCC!;!!>s; ths pilots fly 80 hou rs per ~r'n+"'''inl'''

... hours at United Airlines whilstfHght attendants work 150 hours per 010

;tAmpni1,,,,,'''''' was passed which limited (Southwest) flight ope ratiof]~f~bin

pEltition Rebounds, Southwest Faces Squeeze; 27 run :2 0 0 ? , ": ' ! " •. ;2006. ':



Herb Keileher, Southwest's chan

.. ; we are company of people',"

.. Gciivity has been achieved without sacrificing service to" ..

by Herb Kelleher has had a large part to play in the employee andc

are happy, satisfied, dedicated, and energetic, they' ll take good care:ofth , '. '.

rs are happy, they come back. And that makes the shareholders happy."1

key facet o f Southwest's business strategy is to operate from less congested:

rts,thus faci li tat ing quick aircraft turnaround times. Southwest targets airports with large

which are underserved by competitors in terms of flight frequency or high fares,

pete in these markets attacks the markets of the legacy carriers. Consequently it is com

. 'res to drop by much as 70% when Southwest enters the market,

Over time the differentials in co s t structures between regacy and low-cost ai r l ines have signifk:,;intly

diminished. This ha s led to more intense competition in the airline industry. The re-emerging ,egatv

airline competltlveness has put pressure on low-cost airlines. However Southwest has continued to

maintain its cost advantage, improve employee productivity and pursue growth" though Southwest

didn't renegotiate its labour contracts during the recent downturn and its labour cost advantage hasnarrowed. Southwest is still the largest domestic internal passenger carrier in the US.

Southwest introduced l imited codesharing in 200S. Southwest has a frequent flyer programme

based On trips flown and the use of Southwest partners products, e.g. ca r rentals, hotels, phones and

credit cards. The amount of free travel in 2006 was 6.4% of revenue passengers carried.

The rising cost of fuel is the bilte noire of the airline industry becoming a major cost element in

their operations. Fuel replaced labour as the largest single cost item for the US airline industry in 2006.

Southwest's average cost of jet fuel, net of hedging gains and excluding taxes, was:

Year Jet Fuel Cost Average Co~t % of Operating

(millions) per US Gallon Expenses

2002 $762 $0.68 14.7%

2003 $830 $0.12 14.9%

2004 $1,000 $0.83 16.3%

2005 $1,341 $1.03 19.6%

2006 $2,138 $1.53 26 . 2%

Source: southwest Annual Reoort 2006

.tn slx of the 16 fiscal quarters since April 2003, Southwest would have reported operating losses Wit;:

.; weren't for hedging. Without hedging Southwest would have recorded an $85 million fuJi-year operat.:..".;

'i ng lo ss in 2005.13 Southwest began its fuel hedging strategies in 2003, to protect against the risk O f .

.! ilng fuel costs. See Appendix 1 for details of Southwest's future hedging; in forward fuel derlvatlve, .

. tracts, the prinCipal commodities used in hedging are crude oil, heating oil, and unlead',··

ne .

.~".'-c... =>'" of the competitive nature of the low-cost airline industry, airlines cannot always •.

n('r'p;!'~p(to the customer. The legacy airlines have no such qualms with fuel s

BAIVirgin fuel surcharge carter Where Virgin eventually blew the whistle,

by both the British and American regulators.

C

o

2

b



RUNES INDUSTRY IN WROPE 2007 609

)'()w~cost alrllnes has signalled others to followed sult, attracted by new market

However, most ventures have proved to be short-lived. Of the 80 carriers that began

r 1992, 60 were bankrupt by 1996_'4 Of the starts-ups born in the 1990s two airlines

'exploited market opportunities: Ryanair and easyJet. Due to the UKand Ireland deregu-

both Ryanair and easyJet were first into the European low-cost market. Later entrants have

Ity in matching the cost base, providing sufficient low fares, establishing a route network,

brand recognition and building u p tr affic . In the early 2000s Air Serlin relaunched as a

row-cost airline and is now the third largest European low-cost airline. By 2005 the rivals Ryanair and

"e1~yJet re carrying up to three-quarters of all EU low-cost passenger trMfic.1 s " "

'The European low-cost segment accumulated losses of almost $300m between 1996 and 2001.16

'CasUalties of these losses included Debonair, AB Airlines and ColorAir. Ryanair and easyret have seen

'off' potent ial competitors and grown through acquisit ion: easyJet purchased GO , BA's low-cost airline, in .' '

2002, whilst Ryanair acquired Buzz, KLM's low-cost airline in 2003. Appendix 9 provides a comparison '

between Air Berlin, Ryanair and easvlet.

PhotO: Low-cost rivalry in 2006

source: skysuaperdty_com/showtnreaCl.php7p12170933

J-i1"l'"FII2,1'r' to Free Market Entry in EU

liberalisatlon allowed EU-based air lines to operate on routes between any EU airports, bub'

, this proved difficult to execute; in order to fly into a busy airport an airline needs to hold' " '

" -off slots. For historical reasons the incumbent nat ional flag carriers control a large' "","," . .n-~"

at the principal hub airports: London Heathrow, BA 41%; Paris Charles DeG

59%; Amsterdam Schlphot, Air France-KLM 54%; Frankfurt, Lufthansa 63%,7;thu

'~',~'''''7'CV~' Airlines - UK; Feb 2005.

fmTake-Oft'; Astwat@Publishing; 2002.

S,lots~ tHe , i t h row; 31 Mar 2007;



. . . . . .. :

~ey airports. Increasingly, the legacy carriE) ......••..." isingthe'~al' .

. In ' slot trading has now opened up - in 2003 S A pald SNBrussels" .'. ptcy of Saben a,BOrn for eight daily slot pairs." There are-about 9 ;bop .

. .going prlce for a pair of peak-period slots is more than £10m.19 .

·..r 1 s an Irish airline that began operating in 1985 with one aircraft. In 1986 they us~d the>

lated Dublin to London Luton route to launch a fare war. Ryanair charged f.99 return, I'"

the price of the BA-Aer Llngus lowest return fare. Both SA and Aer Lingus slashed their p

.' ' ' ' ,,,,,,,n,,,,, to Ryanair.

By 1990 Ryanair was serving: 26 city pairs and carrying 700,000 passengers but rapid growth

aircraft, routes and the intense price competition caused it to accumulate IR£20m in losses.

reincarnation of Ryanair began when Ryanair director Michael O'leary was sent to Texas to examine ..

Southwest's operations. The Ryanair business strategy became a clone of Southwest's. The airlin@ was"relaunched in 1991 under new management as Europe's first low fare no-frills airline and O'Leary ••

became CEO in January 1994.

'For all his marketing skill. O'leary doesn't know where to draw the line, as we saw last month

when a disabled pas-senger took Ryanair to court (and won) because the airline insisted on charg-

ing nlmextra for the use of a wheelchair. Being pitiless saves money, but it's awful to watch:

The Telegraph; Don't like Ryanair, hate the woy it's been treated; 8 Feb 2004

In 1994 Ryanair started replacing its outdated BAC1-11 jets with a fleet of eight used Boeing 737 air-

craft, as per Southwest's standardisation strategy, which grew to eleven 737s during 1995. During 1995

Ryanair began its ftrst UK-to"UK domestic flights, followed in 1997 by UK-EU flights. In May 1997

Ryanair completed its IPO and by mid 2002 Ryanair had a market capitalisation of€4.9 billion, some

45% larger than BA, Ryanair flying 44 aircraft verses the BA group with 360 aircraft.

O'leary has many traits in common with Southwest's Herb Kelleher, He is a fiercely competitive,

outspoken character who relishes a fight and has spurred Ryanair on to become Europe's most success-

ful, most profitable and highly valued airline.

O'leary likes to be underestimated: 'I'm not a thinker'. He'd have us believe that he got lucky by

making it up as he goes along; 'a long-term plan is a waste of time'.

Telegraphj How O'Leary flies high on his unique form of alchemy; 30 Aug 2007

grew by acquisition in April 2003 when it bought the low-cost airline BUZ:;:for ~20_1

with 110 out of 500 staff, the leases for slx Boeing 737-3005, returned in October',"'U~L.",v,>, returned in March 2004, and 12 routes plus a substantial number of slots

base.

growth has been based on actively stimulating the market for low-cost. travel

lded an alternative to travsltlng with the legacy carriers. Moreover

ith an alternative transport method to road or rail. By making ai, .

own growth: as passenger numbers increase it is . ..



..a multiplier .. .." ngcosts

ntinued to be oA'~ofthe highest in theairlink i'

on Ryanair'sfinandal performance.

comparison between Ryanair and other European airlines·

differences in stage lengths. The comparison figures are O l g a i '

of€11.S3 per ASK.

Ryanair in particular used the cyclkal downturn

after 2001 to order new more fuel efficient aircraft

at discount prices, helpingtolower both average

fl@@tage, and maintenance requirements.

Infrastructure Ryanair uses secondary or regional airports to lower

its infrastructure C05tS.Lower airport fees, passenger

and aircraft handling, and ground handling charges

2.2 (0.8]

Sales and distribution A significant amount of these additional costs reflect

the different quality of service offered by the legacy

airlines

~.4 [2.0]

Reflects rences in labour productivity 0.5 [0.3)

The lower seat density used by legac:y air lines isequivalent to adding 1.1 cents to total uni t costs. (LCes

typically have 18% more seats on equivalent aircraft)

1.1 [1.1 )

Total 7.4 [5.0]

legacyairlin~s = ~11.53per ASKRyanair =E4.13 par A5K

easy!et = %.51 per ASK

EU legacyairlines were Air France,Lufthansa and SA - EU(Qp~an legacyairlineS have a larSercost gap to their low-cost

cornpatltcrs than in tne US.

Source: A(lapted from lATAEicono rT1 ics Br ie fing , Aiflin~ Cost Performance; March Z007

alrllnes+ticket price includes cost i tems that the low-cost airlines have unbundled

th"lr··,TL"'I~"'''price, the unbundled items becoming specific: revenue generating items for the "",,,_r"c~

with the plaintiff's claims that in rE!fusingto honour tt"'•."~rn'''''

.and aggresslvs" It's a sentiment shared by

.. him about being niceto peoplewhen. . . ' :' , .



.. ' ...• . '" indicates, a part of Ryanair's cost advantage comes from t . .

~Ifi·i'i"'./tr."nd 'exploited the Southwest low-cost strategy, and his suppliers. Away rrnm1'np~rnl

irports there is a vast amount of spare capacity in secondary and regional ai

U1UU"".U leary took advantage of this by exploiting local regeneration efforts in

... r received €1Sm as a sweetener from the regional government. However, in February

mission ruled that this amounted to state aid, even though the regional government provid'"

es Ma spur for economic regeneration. Ryanalr was forced to pa y back €4m of the subsidy.with .

subsidy it is likely that some· of Ryanair's thin routes will be cancelled. Furthermore, it also sen . '.

...• signal to airports competing for Ryanair's business that the balance of bargaining power may : 5 . .

.back in their favour.

Areas that Ryanair has conspicuously chosen not to copy Southwest in are employee relations and;;!.

customer care. Ryanair staff have to buy thei r own uniforms and were banned from charging their ow~:'

mobile phones at w o r k . " on customer care O'Leary's mantra is low fares, not customer service. 1 1 ' 1

,contrast to Herb Kelleher, O'Leary views the two as being mutually exclusive. Customer service is seen

as an additional expense and a barrier to keeping fares low. One of O'Leary's politer quotes regarding .

customers is 'What part of no refund don't they understand'r'" His mission is to re-educate customers'

that flying should be akin 'to taking a bus' and that low fares Can only be achieved through cutting

costs across the board. 111February 2005 the EU stepped in with a law to compensate passengers for

denied boarding, delayed flights, or flights cancelled less than 14 days from departure. The penalties

operate unless an airline can show the problems were caused by 'unavoidable, extraordinary circum-

stances' - which is how alrllnes circumvent the law.

O'Leary's sound bites:

'An airplane is nothing more than a bus with wings on'

'I never wanted to be a pilot like those other platoons of goons who populate the air industry'

'Our strategy is l ike Wal-Mart: We pile it high and sell it cheap'

BBC News website; From no-fril ls to flag carrier; 5 Oct 2006

3.2 easyJet

easyiet was the UK's first low-cost airline. Around the same time that Ryanair were copying the

Southwest strategy, Stelios Hakl-loannou, who likes to be known as just Stelias, was developing his

own version of a low-cost airline, based out of London's Luton airport. Stelios is the son of a Greek

shipping magnate and persuaded his father to invest ES million in his start-up airline. Stelias started

operations at the end of 1995 with two leased 737s and in order to keep costs down acted as a virtual

airline by contracting-in everything requ ired from pilots and check-in staff to an airline operating

.certificate.

. . ..' easyret's inaugural flights were from Luton to Edinburgh and Glasgow, which were promoted via .. ;

". novatlve advertising on the side of the ai rcrart 'Fly to Scotland for the price of a pair of Jeans'. In.:./,

. . ear ly days easyJet used aggressive marketing techniques In order to build up brand recognition '

. the competitors. easyJet has probably been the mast successful low-cost airline at attacking

'U~~<" "T' traditionally occupied by the full-service airli nes. ..

e famous for high profile media battles with competitors, this type of ent ...." ....

lng the added benefit of inciting employee loyalty and getting valuable'

-. ..BAdalJnched its own low-cost subsidiary GO, stetlos booked himself(il'l, .• ... ~ : 1/ ' . " .

: "~.~.~:. . . ..

<DaBe web news; Fr(lfn::Hq+fr,iP~Jdflagcarrier;5 Oc:t 2006. . '. X .

<' Finarn:ial Times; Ryan·a:jrtal.~?i.?r~.i~a~er.ut the low-cost reVolutionflie~on;;7F~ •.

'. I « :.:'/.: . " .. "



":". . .,' :

····battlen motioh. Ironically GOwaspurchase~,'"

'. .6.routes. . ...... stunts had the by-product of educating the general public on .

,rornotingthe benefits of low fare airlines. The spin-off wasthat customers

benefit to flying on a low fare carrier, whilst companies with large traver

i'~ilow fare provided a real alternative to legacyairlines fares.

. . ' of easyJet's successis attributed to the unique working culture, 'orange culture'. that

. - ln the airline; the Objectivewas to instil a senseof pride in the staff, which would enable

. .... r service. The confidence that Stelios had In his staff was revealed in January 1999

" lowed lTV to film af ry on the wall documentary of life for both the passengersand staff at ..

program is still being produced in 2007. ForeasyJetit provided pricelesspublicity. However.without

culture of customer service this venture could have proved to be a spectacular own goal. But

. contrast to O'leary. Stelios took customer satisfaction extremely seriously, often taking easyJet

f iights in order to interact with the passengers.Stelios believed that this wasthe best form of market'

researchpossible.

'If you create the right expectations and you meet Orexceed those expectations, then you will

have happy customers:

Stelio« H ak i-to an no u - IMD CaseStudy easylet 'The web's Favourite Airline'

easyiet quicklv started to attract business travellers eager to find cost effective travel solutions. On

some routes businesstravellers soon accounted for 50% of the passengers.In contrast to Ryanair's use

of secondary airports, easyret's expansion has been based around operations from Europe's principal

cities: easylet now has basesin London (Luton and Catwick), Geneva,Paris and Berlin. In this context

easyret has drifted away from the original low-cost strategy of operations to secondary airports.

Appendix 2 contains financial data for easyJet.easyrat even allows passengersto pay for entry into

third party business lounges at selected airports.easvret's IPOwas in 2000, its 'easyarand'trade mark and Iivsry being under licence from easyGroup

company.controlled by Stellos. The licence imposes duties OneasyJetand restricts easyret to its core

business.The easvarand currently operates in more than a dozen industries.

As part of getting the best deal from its aircraft suppliers there was a head-to-heac battle between

Boeing and Airbus. Although having a Boeing fleet easylet announced in October 2002 its intention to

appoint Airbus as its preferred aircraft supplier and placed a firm order for 120 Airbus A319 aircraft.

Appendix 10 contains data on the number of seatsby aircraft type. easylet hastaken delivery o f 1 new

A319 every 12 working days since September 2003.22

While converting the fleet to Airbus, sasylet has lost the efficiencies in training, maintenance and.the lower operating costs that are associated with single fleet operations. Despite the additional com" I .

, . of operating another type of aircraft easyJetmaintains that the financial benefits o f the d .

igh the migration costs.Sir Colin Chandler, easyfet's then Chairman. stated that the Ai

'significantly better value than the offer made by Boeing'.23

low-cost Industry matures, easyret's culture has also been evolving. In 2003 Stelios ste .airman, a sure sign that the entrepreneurial spirit required to set up the airline

". the running of a maturing business. However in May 2005 Stelios, sti ll the I ..

rejoined the Board as a non-executive director and was knighted in)",......eoreneursh ip, .

I ;hief executive Andy Harrison. said 'that for the busy

group generatesaUof its profits. it had reducedm;>nll".,,,



~rdii1otiohal activities in order to fill its airc~aff'."Co$ts are 'bei~g' .,.,;,.;-.-c;.;,,-.,,-· ' . .... and aircraft ownership costs, as easyJet replaces its

j.. h,:_-Fnnrri·· .Airbus; and also due to lower charges and handling costs at some

.'double in size in five years with a planned increase of 15 percent a year'Y

iBerlin was founded in 1978 as a charter airline, it became a scheduled lATA carrier in 1997 •

e early 2000s it converted to a low-cost strategy, With 19.7m passengers in 2006 Air Berl in

, y 's second largest airline after lufthansa, and Europe's third largest low-cost carrler.Its IPO w as

.;;in May 2006.

In 2005 Air Berlin operated from eighteen German airports to 56, mainly tourist, airports outside

. Germany with hubs at Nuremberg, M~jorca and London Stansted plus a major presence at Vienna

. and Zurich, It also operates to tourist destinations outside Europe in North Africa.

Its charter origins are still given away by its Majorca shuttle that in 2006 operated daily f lights

from 17German, plus 3 nonGerman, airports to its prime hub destination of Majorca and then on to

destinations in Spain, the Balearlc lslands and Portugal.

Air Berlin operates a low-fare with premium service, i.e, no-frills plus. It is attempting to differentiate

itself by occupying the gap between the pure low-cost and legacy airlines. Air Berlin still operates in

the charter market where seats are sold, by the tour operators, six to nine months before departure. See

appendix 12 for Air Berlin data,

',I"

d>

3.4 Low-Cost Route Networks2S

In 2005 the low-cost carriers, dominated by Ryanair and easylet, accounted for 49% Of total UKdomes-

tic traffic and 52% of UK-EU scheduled traffic." As Ryanair expands its network the contribution from

its Ireland-UK routes is decreasing.

Across the EU as a whole the low-cost industry growth figures are:

25%I'''''-~'iltow-ccst share flignts-+- low-cost share seats

24%

European l ow- co s t airline growth

30%

20%

15%

10%

5%

0%

Sept 01 sept 02 Sept 03 Sept 04 Sept 05 Sept 06

Source: OAG press release: Low COStSector O riv es G lo ba l A via tiO n G ro wth ; : ; S ep t 2 00 6

'''-''--''-JI-~- halves its seasonal losses; 10 May 2007.

The European Air Transport Industry; various 2001 ":JnfI7·'ihf",-I";;"

.!~ittle p-np<3,ctOnGroWth 'i16No~2066ip6, '•.•.



generated high volatility in theE, .

;T~,,'''..

erating income in the spring and sumni, rit for a lot of the variation, plus low-cost airlines'

" can enter routes or exit routes. In winter it may be ch""lt~"'r"1"'\1

rcrat r for the season.

easyiet are expanding their networks setting up European airport

ke ep a number o f aircraft and operate a network of local point-to-point routes.

"low-cost airlines additional bargaining power at airports that may help them to

, routes to secondary or regional airports, being underutillsed, cheap to operate

'''''',d'VV<lV:> requiring slots, are relatively easy to initiate, the operators welcoming the business.

nes can axe their unprofitable routes easily as they don't need to consider the overall " ..1"wr\;r,1(

as legacy air lines do. See appendix 16 for details of RYClnairand easyret bases and appendix 13'

"easyJet's route network.

:','At June 2005 70% of European schedule airline services were single-carrier routes. About 20% of

rO,utes are two-carrier routes, and the other 10% o f routes are three Or more carrier routes, double the

, pElrceritage compared to 1994. The routes with three or more carriers are the routes servi ng large mar-kets. The single-carr ier routes have very 'thin' capacity. The number and type of competitors on a route

may dictate the fare strategy used by a low-cost airline.

7 6 5 4 3 2

Proportion of European routes operated by mutnple carriers, June 2004BO%

-+-Routes60% _ Flights

40%

20%

Number of carriers

per routeO%l__'====~~~=*==~~~--~----~~~ __--

Source: OAG

n for the large number of single-carrier routes is likely to be low-cost alrtlnes' point-to-

networks. Many of these routes have 'thin' passenger traffic and therefore unlikely to attract .•

Ryanair tends to choose srngte-carner routes therefore dominating a large number '

Ryanair's initial tactic on entering a market is to offer very low fares along with

, activity. easyiet's network offers business and leisure travellers an

, •alrllneproduct, operating on fewer large routes with greater frequency than

, , ' Travel Survey 2004/05 shows that 71% of UK business travellers

that 96% were very satisfied and would use one again." easviet's

ition with two or more other carriers on the same route, to a far ,.. ': :: ':



sr AIRLINES INDUSTRY IN EU RO PE 2007

.. . thelow"cost airlines have a low cost base and by the law of diminishing

. ir options for reducing costs at constant fares to generate further profit are limited'

:N!lres~~es_n order to increase profit the low-cost airlines are unbundling their offerings, .

don't sell it that way. Unbundling means that the services traditionally included in the airfa <

n into their constituent parts and then paid for individually. So are you still getting that low

undling makss price transparency difficult, transparency being one of the drivers behind consumer~:>"

able to make the informed choice that helped create the low-cost market. .

Ryanair in 2006 introduced charges for checked baggage, presented as a revenue-neutral cost-'.':

.'.cutting exercise, but this has since been acknowledged as a significant revenue source." Ryanair's'

.'ancillary revenuss'frorn sources other than ticket sales contributed €362m to its 2007 profit before tax

of€451 m . Other examples o f low-cost unbundling are assigned seating and priority boa rd i ng ,

The low-cost airlines are unbundling the traditional baggage allowance:

Hold Baggage Prices Pre-paid Pay at Paid for Hold Ellcess Hand Baggage

(economy class) Airport Baggag~kg Baggage Allowance kg

July 2007 per kg (n.b, si:l:e limits)

Ryanair £S £10 1S £ .5 .5 0 10

bmibaby ~3.99 £10 :;20 £6 32

easylet (from Oct 07) £2 £5 20 £6 10

Flybe £4 £7 23 £5.50 10

Air Berlin free free 20 €5 6

Source: Com pany websltes

Also the number of baggage items can incur a charge; even BA is following this low-cost trend. Thesecharges not only generate revenue but are designed to reduce the airlines' costs by reducing the Charge

for airport baggage handling and making aircraft lighter thereby saving fuel.

4 The Legacy Airline Response

4.1 British Airways

British Airways has worldwide reach. Based on its RTK figures where RTK equals one tonne of revenue

traffic: transported per one krn, its scheduled RTK per region in 2006 was: North Atlantic 39.7%; Far

East 27.0%; Europe 13.4%; Africa 11.2%; Latin America 4,6%; Middle East 4.1%.29

With the advent of the low-cost airlines SA's short-haul operations didn't break even for over'

years until 2006_~oBA was one of the first to realise that the market for short-haul traffic was under-

a structural change as a result of the low-cost airlines. SA set up its own low-cost airline Ge) . :at Stansted .;tirport, in 1998. However three years later in June 2001 BA sold GO in a m

buy-out backed by venture capitalists. At the time of the sale SA's CEO was quoted < IS saying

: t110m BA received for GO represented a good return on the initial investment of £2Sfri

, in August 2.002 easyJet acquired GO for f.374m, making ea sv le t Europe's then 'la '"

In..,..r,,~T' 'r line, and a good profit for the venture capitalists. See appendix 5 for SA's financial.

~~AEA (Assod<itionofEurope;;an Airlines) Yearbook 2006; p10.

~ AEA YearbooK2007 .. '

.~ BAAnnual Report 2006.' r . . '

~ SA press release 14 Jurie 2001>~\,ailable on www.britiShairways.wm.

: \"

.. . ~"

http://www.britishairways.wm./

http://www.britishairways.wm./



, , 'O f GO was that operating a no-frills service

> n the long term, cannlbalistng the market. More

'<:II~"1'::>on1"I"1 price premium for its full-~ervice offerings; pn'",.-'rn/,

As Willie Walsh then of Aer Lingus pointed out. the size Of thefeatures had shrunk forever.

) .when 85% of SA's passengers travelled economy" BA began to de-hub Gatwkk

-",'r,.-" thelow-cost air lines, concentrating on point-to-potnt short-haul rather than on I

W6i;kl"'OD!~ra1riOllSrom the airport. In April 2002 SA rolled out Its continuing strategy response

nl>1~. I " . t " 1 " nst the low-cost airlines. It introduced year-round cheaper fares on its short-haul routes,

new internet booking system, scrapped its traditional restrictions on tickets, and reduced

commissions in the UK, all backed by a Simpler business strategy. By July 2003 BA was facing

competition on 58 of its European routes, representing 69%, up from 34% in July 1998, o f the,,'

ne's European capacity.33

Table 2 How The Legacy Airlines' Cost-Cutting R.esponse has been Matched by the Low·Cost Carriers

(Lees)

14

1 2

Ii;'. . .t= 10dI

. . . .. . . . . .illQ 80

C o: . = :

'" 6:(

:£ iQ

t: 4.3

2

Cost per ASK, 1997 to 200S

Legacy airlines

-42%-32%

.. . _ . . . .

."- .. _ _

_ . E asy je t- . -60%. . . . . . . . . . . . _ ........ - -

O+-----.-----r---~r---_,----~----_.----_r----_r--__.

1997 1998 1999 2000 2002001 2003 2004 2005

Costs adjusted to an allerage stage length of 800. km.

EU I~gacy airlines were Air France, luf thansa and BA.

Source: lATAEconomit~ Briefins, Airline COStPerforma.nce; Marcn 200,

indicates that even though the legacy airlines have recently been cutting costs at a higher'

,low-cost airlines, the low-cost airlines are still maintaining significant differentials. The

'. 'costs appear to be near rock bottom, flattening out, unless they can find new "

'.,.r:~T""<T\1changes have focused on continued cost reductions mainly from m

ng operations, removing complexity from the businesses, and



"·<:~:'~tlr",t.~.,,'tn the airline. One of the main strategy goals is t o

a s n ev er a ch ie ve d in its h isto ry.3 4

arm, BA Connect, was Sold in early 2007, after making losses of -I-'J'I . . - , · " , ",,·JI

.2005. Analysts report that more than 50% of BA's profits come from its transatla

lyon fi rst-crass travel between London and N~w york.35

. . '••a result of adjusting their marketing, legacy airlines are now able to sell the alternative

n o-frills tra ve l. F or cu sto me rs th at va lu e co nve nie nce , th at is b ein g flo wn d ire ctly to th eir

as opposed to a satellite airport up to 100km away, Plus having the level of service ,

a tra ditio na l a irlin e in clu din g a ss ig ne d se atin g a nd o nb oa rd m ea ls , th e e sta blish ed a irlin es have;., •

·'~+;.. +<,rI to sell an alternative to the no-frills carriers. tndsed much of BA's current advertising is explicit.:;

in. promoting the benefits of travel with a full-service airline.

Adjusted revenue per ASK, 1998-2005

Table 3 How The Legacy Airlines' Product Revenue has Remained Differentiated Compared to the

L ow -C os t C arrie rs (L CC s)

t: 12j;;;

dI

v -38%~ 1000

t! .: : . : : 8

,

U'I

~i6

Q,1

~0::;

~4

2

0

16

14l.egacy airlines

-53%

Ryanair

-

1519 8 19 99 2000 2001 2002 2003 2004 200S

EU legacy airlines were Air Franr;e. I.ufthansa and BA.

Source: lATA Economics Brief ing, Air line Cost Perform' lnce; March 2007

L ble 3 indicates that even though revenues, per ASK,are reducing acrossthe industry the legacy air- :' ..

:I ""l lines have been able to maintain the differentiation between their and the low-cost product offerings",'

q'ntthe legacy airlines can still charge a premium for their product.

::, 'T·:' ;:BAannounced the 'Fit for 5' programme, in February 2005, a once in a generation opportun .••

' : W i h ' ~ ~ : significant strategy changes b y reforming operations at Heathrow, in preparation for .'.·~::,,,:~~:·~~;.!i'.~~~,,,," , ,:',,'n10Y~:W~Terminal5 in 2008. SAhasa history of staff unrest; for example in the summer of

unitirii's'ed:BAstaff walked out in sympathy with striking employees of Gate Gourmet, th e a l.rH

company;l~:ari::action that led to the cancellation of hundreds offlights and cost the ai' .".1., ... ' .

£70m. In thEi"e'ri:yironmentthe move to TerminalS needs special handling .. .:.1 , ":111 ••



C:;;M'it ir,i fl tl 'nf'cost cutting along with lowering fares and expand]

and load factors.

his commitment to maintaining BA's two-class operations onrejected a proposal to begin single-class operations with paid-fori "

G~tWitk.·6

iputting in place plans to tackle its pension fund deficit and sorting out its short-hauf6~~

focusing on long-haul operations. In March 2007 it announced four firm orders for

·"17'7c?lnnl:C .. for delivery in 2009, along with plans to cut manpower by a further 2,000, t oemnrovees by March 2008. In September 2007 SA confirmed firm orders for 12 Airbus A380s and

787s, for delivery from 2010 as part of Its programme to sxpand capacity and replace oider:,;

aircraft.

4.2 bmi

A s the UK'S second largest full-service airline after BA, bmi has proved vulnerable to the growth of low-

cost carriers. brni's main base is at London Heathrow, where it holds 11.5% of the landing/takeoff slots,operating 19 short-haul routes. The Heathrow slots are a valuable asset with Virgin Atlantic holding

takeover talks with bmi in 2003, and SA also reported as being interested. bmi operates around 1650

flights per week with a fleet of 42 aircraft. See appendix 8 for data On bmL

After continuing losses in 2003, bmi initiated a 'Blue Sky' programme aimed at reducing operating

costs. These cuts have reduced short-haul capacity by a quarter over the past three years." In late :2005

bmi made changes to its domestic and European services at Heathrow with the introduction of a

single-class service, simpler fares, internet check-in and quicker processes at airports. However on

routes with significant business travellers bmi has retained separate economy and business class.

bmi's response to the threat posed by the low-cost airlines was to start its own low-cost subsidiary

bmibaby in 2002. bmibaby now has five basss in the UK. brni is running a full-service and a low-cost

airline in tandem by keeping the route networks separate.

bmibaby is always seeking to saving money transporting eacn of its Sm passengers each year, a

lp saving translating to an additional £50,000 profit over a year. Along with other low-cost airlines it

maximises bookings over the internet and does nat issue tickets. It also tries to make sure the plane is

as fight as possible by carrying just enough fuel, plus reserve, to get to its desti nation. It encourages

passengers to carry less and lighter items of baggage hence saving fuel. bmibaby charges for hold

baggage with the intention of reducing ground handling and turnaround times. The cabin crew is

encouraged to maximise onboard sales offood and drink to passengers.

bmibaby has a fleet of 21 planes with 207 pilots at July 2007. A pilot's longest flight is the 3-hour

journey to Spain. When on duty pilots work a 10 to 11 hour day, flying up to 4 f lights around Europe.

Its Birmingham airport base has eight 737 aircraft serving 21 destinations. The airline does 2S-minute .:

turnarounds and all aircraft return to Birmingham ear:h E!vE!ning!:o that the air line saves on crew hotel,

costs. In the future they are looking to introduce lightweight seats, saving fuel."

, : ' i n ; February 2007 bmi paid BOm to acquire the airline British Mediterranean giving it accessM,' le Eastern routes. bml's primary focus has been on domestic and short-haul travel; it now pl~n~';''~""

its med ium and long-haul operations. bmi announced an order for 10 new Airbus al

to!'eXIDarld Its long-haul fleet, the first A330 being due for delivery in Spring 2008.~9 As a 'erwith a relatively high fixed operating cost base at Heathrow brni has lost rn:J,rlc ••t''''hi:>"j;;i

, ' :Ryanair's short-haul operations hence the focus on medium and long-haul.:• ',I

, ,

,and 1I·~land; bmi to axe Short-haul routes from Heathrow;4M~~z007.

, , ' "iafi:hldb/regionsfwest midlands/video: : J o ! y : i O t r 7 :

plans$156mfi~~tiexpansion; llJ~tY20dV +,:'"i:,

. . . . .. . . .· ' · \ U · : : { " i . ' . ' , · · . . < ' ; . j : , . j i . " ! ' i ' ; ;



gesPacing Low Cos t A irlin es

. of Europe the high-speed rail networks provide greater competition for the ail'!

'. h igh-speed rail networks are rapidly extending with more than 3,000 miles of

n ..1·'. '. . .rile of Germany, France, the Netherlands, Austria, Swltzerland and Belgium and this fi .!exIJ'el;ted to triple by 2020. However the high capital railway infrastructure costs are borne. .

·>l:.dXl:ldV,!!r.nlike the airlines where landing fees finance airport infrastructure. Air France has its"

,'r;>IlA'=,\I carriages that it uses for passengers travelling between Paris and Brussels Instead of . .'

.'~'them. The rail companies involved in the European alliance want to attract at least 25m passengersI,

annually by 2012, an increase of 10m in the next five years. Continental rail travel is also getting:~;'

.cheaper, Return fares from London to Paris start at £59, while connections from Paris to Frankfurt start '>at £62 one-way.4(JThe EU is due to deregulate the railways in 2010 allowing different companies to·.

operate on the same track, which should bring rail fares down. In the Ult taking a non-london centric ."

view, the airline Flybe's regional routes are targeted at passengers where train journey time is more

than two and a half hours.

The low-cost airlines are susceptible to cost pressure from their suppliers, especially the airports,

The low-cost airlines need to keep costs low by negotiating good deals for the use of airport facilities,

ground handling and landlng fees. Most low-cost airlines contest airport charges, and are prepared to

move their operations if the price is not right. The low-cost airlines argue that they do not use many

airport facilities, and therefore they should be charged less. In 1999 Manchester airport wanted to

increase its charges so Ryanair transferred its Manchester fl ights to Leeds/Bradford, raising the airport's

market share, Finally Manchester agreed to reduced airport charges and Ryanair returned to Manchester.

In November 2004, easyJet ceased Olll flighg to Zurich, which it said was 'the most costly airport in its

network'. According to easyJet, Zurich had more than doubled its passenger fees over the previous two

years, thus making its routes unprofitable. Ryanair currently has issues with increased landing fees atStansted, Dublin and Cork airports.

'Any fool can grow in the airline industry whilst losing money and we are surrounded by

many fine examples Of this in Eu rope at present. The difference with Ryanair is that we achieve

consistent growth, but deliver equally consistent profit growth at high margins despite offering

the lowest air fares in Europe. The challenge facing us over the coming years will be to maintain

our growth, whilst improving customer service, upgrading the fleet with the new 7375, but continu-

ing to lower our unit costs and malntsining industry leading margins:

Michael O'Leary - Ryanair Annual Report 2003

5.2 Long Run Prospects'\,.:

" A S the E U market for short-haul low fare travel in Western Europe becomes more saturated

routes become viable. As a consequence the low-cost air lines have turned their attention " " , , , , , r r ' l < : . , " . 'rn Europe and North Africa in order to provide growth.

"With the number of aircraft orders placed by the low-cost operators. overcapacity in the

.< son the horizon followed by an industry shakeout. In the long run tti'e low-cost airlines ..

........ head to head for increased market share to fully utilise their fleets. 10 2005the ,"

",,,,~.:,,,,,,.,,n direct competition on just 4% of their routes, thus minimising comDet:iti(lll<CC

CC.',~ :':C..-- 41 . although the catchment areas they serve overlap to a greater extent.

. woes there is the habitual industry cyclical recession .. . . . . . . / : . ; , ..: .. "

""' Telegraph.CO.Uk;Af(pbh:~e\ilY5d([ve tourists on to the rails; 07 July 2007..

~ Mc.K. ins@ yQuart :erly; ih~)~tt le:For E u r o p e ' s Low Fare Flyers;Aug 2005:' .. ,\ ' ' : " . ~ ~ ~ \ . '\ \ < ,, : , ' , ' : ' " . ' \ ' \ . ' ' . I;, . 'I,. '\ ".:., .,,::

mailto:Mc.K.ins@y

mailto:Mc.K.ins@y



C OST A IRLIN ES IN DU STRY IN E . U R Q P E Z007 621

agreement creating new ma.rkets, the legacy and newly established long-

<,"""1'1'11'\"'''1'' to get their share in these new markets, along with fightingqver-tbe

.market. However the short-haul low-cost strategy is a formula based. on flights

. hours allowing multiple flights per day and subsequent high aircraft utilisations.. . will necessitate new innovative strategies for the long-haul low-cost airlines and n ew..responses from the legacy alrllnes.

has stated it will enter the long-haul transatlantic market by 2011. The current transatlantic

low-cost air lines are zoom and three business-c lass only airlines: S ilv sr je t, EOS and Maxjet, all

on-New York routes. See appendix 15 on factors influencing airline choice .

. On open skies:

'We don't need governments to determine markets. passenger demand should decide.'

'But I am optimistic: First because it makes good business sense. It could add US$S billion to our

bottom llns,'

'Moreover, an agreement would allow us to start looking at ownership. Lufthansa and Swiss

demonstrated that cross-border ownership is possible. Airlines are businesses. But the flag

on the aircraft tail is so heavy that it is sinking the industry. tlberallsatton within the European

banking industry saw a 26% decline in numbers. But an enormous increase in their

competltlveness,'

'We need to run our business as a ousiness. No subsidies or handouts. In most cases airlines are

free to go out of business. Merging across borders should also be an option. Governments must

give airlines the same commercial freedoms that other industries take for granted:

Giovanni Bis;gnani, Dir~ctor General and CEO lATA; 28 September 2006

The short-haul low fare market now belongs to the low-cost airlines even though the legacy airlines

have shown they can respond to the low-cost airlines by providing viable consumer products on short-

haul routes. The short-haul low-cost strategy has over a thirty y~ar heritage; in Southwest's case the

strategy has provided sustainable competitive advantage. There is no reason that the low-cost, cost

leadership strategy should not continue to work in the long term for a select number of firms, such as

Ryanair and easyJet, although there are not enough market opportunities for every would-be low-cost

player.

The airline industry is expanding, predicted to double in capacity by 2030 and triple by 2050. Along

with expansion will come a forecast four-fold increase in aircraft emissions by 2050- Wil l fares increase

tosuch an extent to ration air travel in order to limit carbon emissions?



8ZS 317 604 339 779

Pre-tax profit margin 18.0% 14.9% 5.7% 10.2% 5.2.% 10.3%

Passengers m. 63.7 64.4 63.0 65.7 70.9 77,7 83,8

Load Fartor 70,5% 68.1% 65.9% 66.8% 69 .5% 70.7% 73.1%

Aircraft UtilisatiOn 11 :18 11 :10 11: 1 2 - 11:09 11 : 2 0 11 :25 11:34

(hh:mm per day)

Financial year-end 31 December.

Southwest Airlines aircraft fleet 481 (of which 93 are leased):

Aircraft Number in fleet Sei'lJirig

Boeing 737-300 194 137

6Qe i n g 737·500 12.2

2.62:oeing 737-700 137

• Firm aircraft orders 115 (Boeing 737.700)

Southwest fuel derivative contracts (Annual Report 2006):

Yea.r % of jet fuel naads U5$ per barrel

2006 70% at $36

2007 95% at $50

2008 65% at $49

2009 50% at $51

2010 2.5% at $6 3

15% at $6415% at $63

~.42 US gallons (:::;158.99 lltres).



. : : ' . ,

' . . ~ . . : . . . . } f : · i / " ' i : . : : : . : .

2 easyJet Load Factor and Financia:fD~'~:fl: 1 , . : : : . : : · : 1 . . . .

• v , ~ , ", .. : ; ' ~

i .: 2000 lO01 2002 2003 2004 2005 2006: : t, : ;, ~ I~ t»:v · . . . ...

. .. .T u r n o v e r £m 263.7 356.9 S51.8 93HI 1,091.0 1,341.3 '1' ;619.7

Pre - tax pront fm 22.1 40.1 71.6 51.5 62.2 67.9 129i~ '," .

. . P re -ta x p ro fit m a rg in 8.4% 11.2% 13.0% 5.5% $.7% $.1% 8.0% .' r

Pass€ng e r~ m, 5 .6 7.1 11.4 20.3 24.3 29.6 33,0."

I

L.oad Fac to r 80.8% 83.0% 84.8% 84.1% 84.5% 85.2% 84.8%

Financia(year-end 30 September, Note: easyJet's financial data is published in £,

t il l In October 2007 easvlet took over GB Airways based at Gatwick. GB A i rw a y s operates to 31 destina-

tions across southern Europe and North Africa wi th a fleet of 15 A320 a irc raf t . It has 39 routes of

Which 28 are from Gatwick

easyret aircraft fleet 122 (of which an average of 86 are leased):

:. . A i rc r~ ft Number in fleet Seating

Boeing 737-300 3 148

Boeing 737-700 32 1491----------------- ..--.-- ------------~---___1

AirbusA319 87 156

Source; Company Reports



NEsrNP8sTM IN EUROPE 2007·

airline'

ownership

The diagram illustrates Southwest Airlines 1996 fit of activities such that the configuration

drives its competitive advantage, and sustainability against legacy airline activities .

.Q ~ ts Strat:~gy?; HarvarilaJ.iin'ess·Review. Nov- Dec 1996;.Michael E•",' • ,~:" \ . •\ • :. • " • ' ,:, •I

/.;','



, OW -COST AIRLINES II'IlDUS'iRYINEUROPE 2007

123.4 172.4 264.6 228.5 ; ; !9S.9 338.9 451.0

25.3% 27.6% 31.4% 21.3% 22.1% 20.0% 20.2%

B .1 15.7 23.1 27.6 34.8 42.5

LoadFactor - booked 77% 81% 85% 81% 84% 83% 82%

Load Fac to r flown 70% 14% 78% 74% 78% 77% 76%

Financial year-end 31 March.

Note; Ryanair'$ financial data are published in €, easylet in f .

• Ryanair purchased 25.2% of Aer l.ingus after its IPO in 2006 and made a takeover bid that was ve-

toed by the EU . After this rejection there have been rumours Ryanair is interested in acquiring A ir

Berlin, affecting its share price.43

Ryanair aircraft fleet 133 (of which 21 are leased):

Appendix 5 British Airways Load Factor and Financial Data

2001 2002 2003 2004 :;:!O05 2006 2007

Turnover £m 9.278 8,340 7,688 7,560 7,813 8,515 8,492

Pre- tax profit ( 10 5 5 ) - Em 150 (200) 135 2 30 415 62 0 611

Pre-ta)( profit (foss)margin 1.6% (2.4%) 1.8% 3.0% 5.3% 7.3% 7.2%

:Passengers m. 44.4 40.0 38.0 36.1 35.7 32.4 33.1

L oad Fact or 71.1% 70.4% 71.9% 73.0% 74.8% 76.1% 76.1%

,'.Aircraft Utilisation (hours per day) 8.79 8.32 8.91 9.21 9.83 10.29 10.82,.

year-end 31 March (figures for SA Group inc. BA and SA CityFlyer).

r~raft fleet 233, SA Cityl=lyer aircraft fleet 9 (regional jets)

2007 SA sold its subsidiary SA Connect to Flybe. As part of the transaction BA

:n:l".,.nnfr'ling in Flybe; BA retained the Manchester to New York service; and a n e wyer took over the BA Connect London City airport operations and aircraff!.·

.' ., .

Berlin Up On Talk Of Ryanair Interest ;S)uly ', 2

. '. ~.

:..

I "-



..6'e.asyJet Yield Management

: .. "",, ',

.'ybookers p ay low fares

'.·H}gher prices protect seat availability for late bookers (target load factor 85%)

BOOl<ing profile

100%

Late bookers pay higher

80%fares

vQon 60%

'"iI

*'0 40%

#.

20% Early bookers pay low

fares

0%Booking opens Day of flight

Time to departure

Source: easylet FY2003 Results; 18 Nov 2003

Appendix 7 American Airlines (AA) Load Factor and

Financial Data

2000 2001 2002 2003 2004 2005 2006

Turnover $m 18,117 17,484 15,992 17,403 18,608 20,657 22,490

1,282 (2,449) (3,669) (1.409) (821) (892) 164

7.1% (14.0%) (22.9%) (8.1%) (4.4%) (4.3%) 0.7%

na na 94.1 88.8 91.6 98.0

72.4% 69.0% 70.7% 72.8% 74.8% 78.6%

al year-end 31 December .. ; : j :, ~k .~"" .

!A~Wg~it~nAirlines' aircraft fleet 697

• A~~~:id~;n;Airiines is part of the AMR Corporation, which also owns American Eagle

306 re~dbnaJjetsrand American Connection (whose flights are subcontracted .. .

• In April ZOOr,·American Airlines took over Trans World Air lines (TWA, then ;. ..,,-.....,.."

carrier) making Atn:~'r:i'~nthe largest scheduled passenger airline in the .. ';'

~ Compa.ny Reports·



STRY IN EUROPE 2007 627

8.2 12.4 (19.6) (9.8) 2.6 10.0

1.1% 1..6% (2.7%) (1.3%) 0.3% 1.2%

'.1 6.7 7.5 9.4 10.S 10.5

Finam:ial year-end 31 December.

• bmi aircraft fleet 28, brni regional aircraft fleet 14 (regional jets), bmibaby aircraft fleet 21

• brnlbaby fly older Boeing 737'$ however these aircraft are not declared on bml's website, bmlbaby

being a separate entity

• bmi acquired the air line Briti'$h Mediterranean ( BMED ) for £30m in February 2007, acquir ing 17

Middle East destinations

• brni regional are based in Aberdeen and serve niche regional routes with the 14 regional jets

• bmlbaby carried almost 40% of brni's 1O.Sm passengers in 200644

• bmi has 83 daily slot pairs (take-off and landing) at Heathrow (11.4%), the second largest after BA at

41.4%. Lufthansa is third with 4.3% and Virgin Atlantic ha s 3.4%.45

Source: www.flybmi.com

row; Finarll:ial rimes (London); 31 Mar 2097;'p21~i

http://www.flybmi.com/

http://www.flybmi.com/



PrOfit before tax €m €189.9 €451.0 €45.1 ~898.2

Pre-tax profit margin 8.0% 20.2% 2.9% 7.2%

Passengers 33.0 m . 42.5 m. 19.7rn. 33.1 m

Load Factor 84.8% 82% 75.3% 76.1%

Destinations 74 136 97 147

Aircraft

8737 family 3S 133 56 33

A320 family 87 15 66

Other 737 equivalents 13

Rsgional jets 17 9

Twin ais le jets 121

Total 122 133 88 242

Confi rmed aircraf t orders 105 17546 134 18

Results in :£ have been converted to € using an exchange rate £1 = €1.47 (Mar 2007).

• lATA estimate the average cost of capital of 7.5% for the airline industry

Source : Company Reports

'

Appendix 10 low-Cost Aircraft Type and Seat Numbers

The low-cost airlines favourite planes are slngle-alsle, twin-engine jets, with typically 100 - 200 seats

and maximum ranges of 5 ,DOO - 7,000 km (average Ryanair/easyJet sector (f1ightmage/haul) length in

2006 was about 975 km).

Current production Airbus A320 and Boeing 737 Next-Generation (NG) aircraft:

134 149

164 189

199 215

Source: co m pany lIV~bsites

;:;;~ Boeing website 'Ryanair Orders' May 2007.



INEURQPE 2007 629

asa.cornrnon.cockprt thereby making It cheaper .'

schedule pitots'when more than one family variant is ..

. . . . . > O f the world's commercial airline manufacturing industry fall into,. .'."

ng Boeing and Airbus who make jet aircraft with greater than 100 seats, the oth~ •...•....

and Bombardier who make regional jet (RJ) aircraft (roughly defined as aircraft

~100 seats)

a e r o engine makers are down to three main players General Electric (G E Aircraft Enginesj;~t~t:t

, .Whitney and Rolls-Royce, with joint ventures and consortiums being formed between themi@lves

;,ahdother manufactures to produce engines

.• :easyJet was the launch customer for the A319 in a single class cabin configuration. The number oil','.;

seats on rts aircraft is 1S6, the extra 22 seats were achieved by easylet's requirement to reduce the

space for galleys, lavatories and storage

• JetBlu~ first flew in February 2000 and now operates the world's largest fleet of A320s. Its 100th

A320 was delivered in March 2007, with 78 additional A320s on firm order. The airline also operates

25 Embra~r 190 regional jets with 76 additional 190s on firm order (March 2007)• Both Ryanair and Air Berlin operate the 8737-800, however, Ryanair squeezes an additional 3 seats

into its version (189 v 186)

• The first delivery of a 737 NG (a 737-700) to an airline was in December 1997

• Boeing (June 2002) reported: 'The Boeing 737 makes up more than 90% of the combined fleets of

the low-fare carriers around the world'

• Boeing (May 2007) reported: 'As of April 30, Boeing had n~c~!ived orders for more than 3,800 Next-

Generation 737s, and has unfilled orders exceeding 1,500 ai r planes, worth over $100 billion at

Current fist prices'

• Boeing has the production faci lit ies to produce 28 737s each month, planned to increase to 31 during

200847

• Boeing48 forecasts the number of jet airliners required by the airline industry lncreaslng from 18,230

in 2006 to 36,420 by 2026. Of the 36,420 the new build breakdown is: 10,400 to replacements,18,200 to growth (average 1,400 per year). The breakdown in aircraft types is:

air. type New build numbers 2006-;20<!6

747 and larger jilts 960 (3%)

TWin-aislejets 6,~90 ( 22%)

Single-aisle jets 17,650 (62%)"

Regional j@ts 3,700 ( 13%)

h

2006 forecast.which excludes regional jets, is that 21,860 new passenger aircraft (1,093 per.'

'. are required by 2025,49 30% of the 15,330 new single-aisle aircraft going to LDCs.

hilih:.l;.eslie Wayne,Neil Shist!!!r.World Trad~,Apr 2UIJ'h'VI'lI

< 2 0 0 7 : ; June 2007,



• Ownership Structure

• Fleet Structure

• Aircraft uti lisation

• Anti-cyclical purchasing

• Optimise ownedlleased mix

• Fleet harmonisation

• Optimise mix of Older and new aircraft

• Reduce turnaround timss

• Reduce maintenance downtime

Fuel Costs • Route Eff ic iency

• purChaSing costs

• weight ReductiOn

• Shorter en-route and approach times

• Reduce delays, use smaller airports

• Reduction in service fees

• use offuel hedging strategy• Calcvlation of uno show" passengers

• Through product innovation, e.g. seats

Maintenance COSts • Fleet• Serv ice Costs

• Fleet harmonisation

• Reduce average fleet age

• Optimise maintenance activ ities

• Joint purchasing of some work

Crew Costs • productivity

• wage-related COsts

• Crew Costs

• Improved planning of crew logistics

• tow er block hour restrictions

• Fewer and/or less senior cabin crew• Reduction of extra-wags allowances

• Reduce need for overnight ~tays

• Reduce allowances for overnight stays

Handling Costs • Service Level

• m s ou rc tn g

• Reduce HaMling Fees

• Standardisation of SLAs

• Revise SL A components

• Pre-deaning activities by cabin Crew• Loading/unloading support from crew

• Global contracts with key suppliers

• Off-peak pric ing

Catering costs • Reduce unit costs

• Reduce volumes

• Simplifi,ation of meal Choice

• Reduce logistics costs for delivery

• Monitor passengers v available meals

• Improve waste management

Distribution • l l,keting

• Sales chao nels

• Sales Commissions

• Development of E-ticketing

• Self-serVice Cheek-ins

• Divert customers to on-line channels

• Efficient customer service call cantre

• Target-driven contracts with agents• Reduce commiSSionS

All lATA airlines are committed to 100% e-tickettng by Jan 2008 reducing industry costs by US$3 billion .

.It also has plans for 'radio frequency identif ica.tion' RFID baggage tags to improve the US$90 per bag,

lost baggage problem." ,,'<H: :~ '

I•I~

,,',Another area for cost cutting - air quality? During flights, aircraft cabins are generally maintained:i.hI \ ( 1 % * «

,~t ,<tpreS5ure equivalent to an altitude between 7,000 and 8,000 feet.52 Also the oxygencont~ntlo .. ! ;:'th~;;~iT1bient a.ir is reduced by 25% relative to sea level (in l ine with the standardSfi rs1:issuci::""

1957}']~heair-conditioning systems also cause passenger dehydration .. . :::

~ lATA; Airline Cost performance, Briefing NO s; July ~006; table 7.1.

so lA:rA Annual Report 2:0"07, .:. . . . .._,.~., : ..<;::.;;...

R ~ of Comm ons Transport Com m ittee~ passenge rs' Exper iences of Air rrave: VoIHHC<435~r '.

" / , '( ; ' {: ; : ,: : l ,· i :: . '. \ ;r : .1 ; ~ ~ ·



10

Factors Influencing earner chOice - CATS 2004

70

60

so

~ 40

OJ. . .i 30

20

10

0Fares

IT a SH-CATS 2004

lE I LH-CATS 2.004

Airline C;onvenitnce Connections

Dunetu~l ity of airport

F F p AirC(~ft

type

Convenient Pa~t

$~hedule ~xp~r!~nce

AFrlinc

~~My

Key~CATS" lATA Corporate Air Travel Survey; SH ;;;;Short-Haul; lH '" ~ng-Haul; FFP = Frequent Flier Programme

Sourse: Corp0r,lte Air Travel Survey, lATA, ~004

• The 2004 survey indicates that price is the main factor for short-haul carrier choice whereas for

long-haul, seat comfort; frequent flier and price are '~qua"y' important in the choke of carrier, The

1999 survey is shown below.

Factors influen~ing earner chDjce - CATS 1999

70

60

[§ ] $H-CATS 1999

I i§ IlH-CATS 19995 0

~ 40

:: :'", 30

20

oFares Alrl;ne Seat Past Ai r lin~ Conveniente Air(~aft COModi<;lns

punctual ity comfort e:.p~r1en~e s~~ty of airport

FFP



30S 107 19 1 5 250,000 (estimate)15

Sept 2006 Ryanaj( bases (15) Routes air. EasyJet bases (16) ale

Ireland Dublin 52 1S

Shannon 25 3

Cork 4

U K : London (Stansted) 92 39 London (Stan$ted) 13

Nottingham E Mids 15 2 Nottingham E Mids 3

Liverpool 32 5 Liverpool 8

Glasgow (Pres twick) 23 4 Glasgow 4

London (Luton) 1Z 4 London (Luton) 17

London (Ga.twick) 18

Belfast 5

6ristol 9

Edinburgh 3

Newl;;astle 6

Italy Milan (Berg;lmo) 20 4 Milan (Malpensa) 3

pisa 17 2

R . o m e (Ciampino) 21 S

Germany Franl<furt (Hahn) 41 7 Berlin 8

Dortmund 4

Switr.erland Geneva 6

Basel 4

Other Barcelona (Girona) 22 3 Paris (Orly) S

Brussels (Charleroi) 17 4

5tol;;kholm (Skavsta) 13 -4

Tactical aircraft 5

Total unique routes 305 107

Key ale. = aircraft



iiI , · . .

INLllJ:'I-I{"t.-I~JEU~OPE,2007 63 5

had a total of 20 bases and 487 routes

!choice of base/airport ; ' : ~ ~ ~ . r -

''':J'~''.I''T has a dedicated airport negotiation team tasked with reducing unit costs at existing ' a i rpo ' r ts:

offer volume commitments in return for discounts. aasylet has withdrawn from high cost a'i'(~oit~ " ' : , <.~~:H) .~~".,

.. past. . "!;'(I;;';:;easylet new airport selection criteria: . 1/, 1 ; \ · , ~ 1

.. Efficient infrastructure and processes suitable for easyJet\ .

• ' Convenient access to large catchment area (for high frequency services)

Ii Partnerships through sustainable deals

• Airport charges maintain low cost base

Source : easyJet i=V2003 Results; 18 Nov 2003

5-Low Cost Airlines

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