The Future of Low Cost Airlines

In the last ten years low cost airlines such as Ryanair and EasyJet have transformed the face of international tourism in Europe. What is the secret of their success and, bearing in mind the mounting evidence that short-haul aviation is a major contributor to atmospheric pollution and global warming, what is their future?

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Contents (Jump to)

Introduction

Europe’s Skies After Deregulation

Conclusion

Bibliography

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Introduction

Ryanair signaled Europe’s entry into the low cost carrier market segment in 1991 when it transformed from a normal regional airline to one based on the U.S. Southwest Airlines model (International Civil Aviation Organization, 2003). In reality, the first successful low cost airlines was Pacific Southwest Airlines that began operations on 6 May 1949 and earned the distinction of low cost as it flew sailors for low fares serving San Francisco, San Diego and Burbank in the state of California (jeypsa.com, 2007). The modern day low cost Southwest Airlines initiated service in 1971 and has managed a profit in every year of operation since 1973, and represents the business model that low cost carriers have emulated (Southwest Airlines, 2007). In achieving a thirty percent yearly growth rate, Ryanair has transformed the market utilizing a strategy of serving the leisure market between Ireland and the United Kingdom, expanding to 22 countries (Ryanair, 2007a). The company has built upon is position of being Europe’s first low fare airline to achieve a brand recognition that carries with it that immediate connection in the minds of consumers. It also has aggressively increased its route structure, provides a pleasurable service experience, conducts memorable advertising, and held upon to pricing strategy to lure consumers (Ericsson, 2007). As a globally successful carrier in terms of profits, flights and passengers, Ryanair serves the fare conscious leisure and business segment of the market (Ryanair, 2007b).

Founded by Sir Stellios Haji-Ioannou in October 1995, easyJet serves the leisure and business segment of the market, like its competitor Ryanair, and operates in excess of 200 routes to 65 airports throughout Europe (easyJet, 2007). Like Ryanair, easyJet’s business model is patterned after Southwest Airlines, offering low cost fares, flight convenience and service that is comparable to Ryanair, thus their respective strategies are basically the same, with the exception that easyJet flies to more primary airports than Ryanair which utilizes secondary airports to save on operating costs (easyJet, 2007). Thus, fare pricing, name recognition, branding, services, and destinations are behind the success of this carrier. The success of the low cost carrier concept has taken Europe by storm, introducing the market to a “… cheap, fast mode of transport …” with the low fare carriers “… making ambitious expansion plans and placing large orders for new planes” (Bonggeli and Pompeo, 2002). However, there are environmental concerns that have come to the forefront as flying has never been easier, or cheaper, where short distance flights has spurred “… an increased demand for air travel …” (Bowe et al, 2004). Given the relative inexpensiveness of flights, the plethora of destinations, and the ease of Internet booking “The demand to fly in Europe is forecast to triple by 2030…” this has raised serious concerns among environmental groups concerning air pollution as well as the increased rate of greenhouse gas emissions (Bowe et al, 2004). One of the main underpinnings of the low cost airline system popularity is the availability of flights to almost any destination near a suitable airport, either a hub, prime, airport or secondary airport located further from the principle destination which means lower landing fees for carriers, and thus a viable aspect of their internal cost cutting measures (Bowe et al, 2004). The popularity of being able to compare flight costs, travel times, and destinations via Internet booking is a factor that consumers have also taken to, along with the more open travel that has resulted from deregulation that has allowed new entrants into the field.

The business model of low cost carriers seek to utilize airports with lower congestion near high population densities, and preferred travel destinations using a single type of airframe to reduce ground maintenance, and crew training/operating costs, to result in a flight turnaround of 25 minutes lacking frills in-flight, and a simple fare structure (ATR, 2006). The preceding operational mode is geared for higher fleet flights, increased labour efficiency, along with lower maintenance, and operating costs (ATR, 2006). Internally, the aircraft have only one passenger class, all with the same seating space, thus increasing cabin density permitting a higher per passenger flight carrying capacity to maximize on space, fuel and extract utilization to support the low fare structure (ATR, 2006). The elimination of food (frills) also eliminates waste, and reduces internal operating costs, add to this equation. Employees at low cost carriers at encouraged not to join trade unions, in order to avoid the unionised working practices that would cut into their efficiency stance (Vella, 2006).

All of the foregoing has meant increased flights, resulting in particle emissions in the form of soot, metals, and sulphuric acid that “… indirectly influence climate change by causing additional cirrus clouds to form …” which traps rising heat (Bowe et al, 2004). The environmental concern has resulted in the European Commission announcing a proposal in December 2006 that would call for airlines that fly “… within the European Union to follow carbon dioxide emissions trading in 2001 …” which would be imposed on all other flights in 2012 (The Washington Times, 2006). Under the plan, ˆ1.80 and ˆ9 would be added to the cost of tickets for intra European flights, and higher fees imposed for long haul flights (International Herald Tribune, 2006). The preceding means that alternative short trip transportation has become an increasing competitor. Alternative short trip transportation is represented by high-speed rail that results in substantially reduced CO2 emissions, which are estimated as being approximately 300% lower than air flight transport (Bowe et al, 2004). Ryanair is combating the new emission policy through the purchase of newer fuel-efficient airframes that carry more passengers, and in spite of using more fuel still generate less emission (Airline Bulletin, 2007). The airline, Ryanair, emits an estimated “… two to three tonnes of harmful greenhouse gases …” which makes it one of Ireland’s largest corporate polluters (UK – Airport – News.info, 2006). It is estimated that it would take 2.25 million trees until 2076 to offset the emission created by Ryanair in 2005 alone, not to mention its continued operations, or roughly one fifth of Ireland would have to be planted with trees for each one year of the company’s operation (UK – Airport – News.info, 2006). Low cost airlines are projected to capture 25% of the intra-European market by 2010 up from the 5% through 7% recorded during 2004 and 2005 (Schneiderbaur and Fainsilber, 2006). The issues of pollution as well as competition from high-speed short haul rail travel, and intense competition within the low cost segment that will bring about consolidation are environmental, and competitive issues, however the European appetite for the fast transportation solutions posed by low cost carriers will not be severely impacted by alternative transportation or environmental issues as airlines will defend and adapt to changing issues.

The airline industry is a highly concentrated one, with half of all airframes operated by just 17 carriers (AirlinesGate, 2001). The United States airline industry was deregulated in 1978, prior to which there was a governmental agency that “… determined the routes each airline flew and oversaw the prices they charged” (AirlinesGate, 2001). The Civil Aeronautics Board in 1976 asked the United States congress to eliminate the governmental regulatory system to allow the industry to operate under free market forces, which was followed by the Airline Deregulation Act of 1978 (Stanford University, 2001). The Airline industry in Europe, prior to a series of liberalisation measures that started in 1987, was a highly regulated market with a number of state owned airlines receiving subsidies, and the restriction that only national flag carriers could fly between countries (AirlinesGate, 2001). Subsidies and restricted access limited the ability of new entrants, and kept fares high, as well as limited service as the airline cartels set prices, and determined service. The airline industry in Europe prior to deregulation consisted of restricted bilateral agreements between the flag carriers of two countries, usually setting limits or terms concerning capacity, revenue sharing and fares (Button, 1996, pp. 70-80).

The European airline industry under a traditional bilateral agreement consisted of a singular “… designated airline per route from each country”, with the only routes permitted were those as specified in these agreements (Doganis, 1994, pp. 15-25). In terms of capacity, there was a 50- 50 sharing agreement, and the fares were subject to the approval of the government of both countries as negotiated through the International Air Transport Association (Doganis, 1994, pp. 15-25). Under liberalized bilateral agreements the airlines now operated under multiple designations, with open market access, capacity controls were eliminated, and fares were rejected only if the governments of both countries disapproved (Doganis, 1994, pp. 15-25). The 1993 European Union deregulation package provided for a uniform licensing criteria for airlines in all countries belonging to the EU, and eliminated distinctions regarding scheduled, and non-scheduled service. In terms of routes, it provides for open market access in all European Union countries, with capacity sharing restrictions removed (Doganis, 1994, pp. 15-25). Lastly, airlines were free to price fares with a very limited double disapproval, and it imposed safeguards concerning predatory fare pricing.

Europe’s Skies After Deregulation

The European Union embarked upon the road of the deregulation of airline policy in the latter part of 1980, proceeding on a staggered basis starting with the 1987 deregulation package under the Treaty of Rome competition articles (Button and Swan, 1996, pp. 259-282). This allowed for the EU to grant exemptions concerning the rules, thus gradually phasing in the process of deregulation to provide for an orderly entry towards liberalisation and the successive packages to follow (Button and Swan, 1996, pp. 259-282). The three-phased process ended in 1997 whereby carriers were granted permission to operate domestic routes throughout the EU (Button and Swan, 1996, pp. 259-282). The importance of the gradual process of deregulation eliminated the monopoly power that was in place that represented economic regulation that eliminated free competition and under economic theory lowers productivity, resulting in higher prices, and creates inefficiency (Winston, 1993, pp. 1263-1289). In effect the higher profits expected in a regulated environment that resulted in monopolistic power was offset by higher operating costs due to inefficiencies. Deregulation set the grounds for increased freedom in pricing, and thus increased operating efficiencies as a result of competition as new firms could enter a market and through their improved operations offer lower prices thus taking market share (Doganis, 1994, pp. 15-25).

Deregulation represented a change in route structures that was one of the most important aspects (Morrison and Winston, 1989, pp. 61-122). As a result of deregulation national flag carriers have had to contend with new entrants thereby increasing competitive pressures as well as fare changes. The preceding open door for new market entrants has seen a significant increase in regional airlines, and the low cost airlines (AirlinesGate, 2001). Increased competition has caused airline management to improve operations, introduce and seek new technologies, and overall heighten operational management sophistication and marketing. The marketing model of low cost carriers in providing low cost fares to markets through high flight utilization lowered internal operating costs, use where possible of secondary lower fee airports, higher airframe seating capacity, and no in-flight services providing European’s with new options concerning the manner they thought about air travel. The leisure class was affected the most in that the dramatically lower fares enabled consumers to think about three and four day get-aways and mini vacations outside of traditional vacation periods, developing to the point where weekends fitted the mode.

Prior to deregulation, “… the market was neatly divided … (with) … Scheduled carriers, focusing primarily on business travelers, controlled 75 percent of the intra-European market” and charter airline controlling the remaining 25 percent (Bonggeli and Pompeo, 2002). Charter airlines sold aircraft time and seating capacity to tour operators for tourists seeking sun filled vacations (Bonggeli and Pompeo, 2002). Low cost carriers changed these dynamics through their one passenger class, increased airframe seating, fast flight turnaround, no frills, Internet booking business model. These factors permitted low cost carriers to fares that are 50 to 70 percent lower than the flag carriers, or incumbents, attracting price sensitive travelers, but not appealing as much regarding the convenience and flexibility business travelers seek, even though Ryanair has managed to snag a goodly percentage of business travelers (Bonggeli and Pompeo, 2002). And the growth of the low cost carriers has not come at the expense of the incumbents, but rather as a result of their pricing and service policies. Lower fares have prompted people to fly as a result of increased affordability, opting for planes over rail, vehicles or not traveling at all (Shelley, 2005). And this extends even to the business segment of the market where companies that normally could not afford the expense of a business trip can schedule fares to conduct business on a face-to-face basis (Shelley, 2005). The large number of low cost flights as a result of the increased number of carriers means that finding a flight to suit business parameters is an easy task as a result of Internet booking. Thus the low cost model has grown not as a result of stealing market share, but rather from expanding the consumer base.

Low Cost airlines compete on price as opposed to quality, utilizing the aforementioned one passenger class, increased airframe seating, fast flight turnaround, no frills, Internet booking business model. However, the application of the preceding does vary. Ryanair, for example, primarily operates its routes to secondary airports, reaping the benefits of dramatically reduced airport fees that on average are 65 percent below primary airports (Bonggeli and Pompeo, 2002). This internal operational method permits Ryanair to offer fares that are the lowest in the industry, yet turn a profit when more than 55 percent of its seats are occupied (Bonggeli and Pompeo, 2002). EasyJet, which generally flies into main airports, and on average flies to its destinations three times per week as opposed to Ryanair’s two, needs a 75 percent capacity rate (Bonggeli and Pompeo, 2002). EasyJet, because of its increased flight schedule, contends that 50 percent of its passengers tend to be traveling on business (Bonggeli and Pompeo, 2002). The competitive nature of the industry to induce trial has seen Ryanair offer seats for free, requiring passengers to pay just the flight taxes and services charges, that usually amount to around ˆ19 or more, each way (Rockmael, 2005). The elimination of assigned seating, decent legroom, complimentary meals and or beverages, baggage policies and limited service are how low cost carriers cut costs.

Competition in this segment has increased to the point whereby there are approximately 60 low cost carriers in Europe, with names such as Flybaboo, JetFree, JetMagaic, Duo, Volareweb.com, Air Berlin, Germanwings and BMIbaby, to name a few (Rockmael, 2005). The efficiency drive at low cost carriers in cutting costs and utilizing standardized operations, and equipment has resulted in, on average, that they need just 80 employees to support each aircraft as opposed to the 115 utilized by incumbents (The Economist, 2004). And in Europe Internet booking has really caught on representing 99 percent of all low cost booking, as opposed to just 75 percent in the United States (The Economist, 2004). Search engines such as wegolo.com, applefares.com, searchlowestfares.com, skyscanner.net and openjet.com aid consumers in finding the lowest fares (Rockmael, 2005). The dynamics of travel in Europe are influenced by a number of geographical factors. In countries such as France, Spain and even Germany, low cost travel for pleasure as well as business can also be accomplished by high-speed rail, thus making alternative transport forms more competitive, which is not the case in the United Kingdom (Bonggeli and Pompeo, 2002). High-speed rail gains an advantage in that the departures are from city centre to city centre, thus cutting down on the time to commute to airports and the extra money for cabs or parking fees and gas. This explains the lower growth deferential of low cost carriers on Europe’s continent, as opposed to in the United Kingdom (Airline Bulletin, 2007). Located outside continental Europe, the UK has a higher concentration of easy to reach airports, also balanced with a high level of business and leisure traffic that does not have alternative travel means to the continent. The preceding has been a factor in the tremendous growth of low cost carriers based out of the UK on flights traveling to the continent that has increased by a rate of 25 percent, as opposed to intra European flights. Traveling to the UK has increased by just 3 percent, in all making the United Kingdom Europe’s biggest low cost market (Bonggeli and Pompeo, 2002).

Security issues at UK airports are resulting in delays in check-in that is affecting the low cost business model that calls for faster flight turnarounds resulting in massive flight cancellations (Capell, 2006). Air travel has changed dramatically from the glamour industry it once was, to one of transporting people. Fares have dropped to the point whereby a flight from London to Turin, Italy, can be as low as ?10 each way, plus ?15 in taxes (Backman, 2002). Ryanair grounded 270 of 750 departures during the summer of 2006, and easyJet suffered in excess of 500 cancelled flights as a result of new security rules delaying boarding (Backman, 2002). The higher security rules are threatening the UK’s low cost carriers, who are thinking of imposing a carry on luggage rule to combat the problem, and potentially adding limited food and drink to passengers to compensate passengers for their inconvenience (Backman, 2002). As a result, the increased delays, and higher ticket costs as a result of taxes have turned some passengers off utilizing short haul air flights. The preceding situation is aiding rail travel as passenger seek a less restrictive travel means in the UK as well as getting to continental Europe. Eurostar, which provides high speed rail to the continent has seen their passenger traffic increase 27 percent between the 10th and 13^th of August 2006 as a result (Airline Bulletin, 2006).

Conclusion

The issues of pollution, the CO2 emissions trading scheme, higher low cost fare taxes, airport security issues, alternative high speed rail travel, and stiffening competition presents new obstacles to the continued growth of low cost carriers. Thus low cost carriers are looking at long haul routes to offset a slowing short haul market, bringing them into more direct competition with incumbents such as British Airways, and British Midlands, both of whom “… have cut some fares on a range of short haul routes …” as have “… KLM and Scandinavian Airlines … and Lufthansa …” (Bonggeli and Pompeo, 2002). This means that incumbents represent another competitor factor facing low cost carriers as they see the high in sector competition weakening their position, thus providing a means for them to further eroded growth and recapture some business themselves in a market that does have finite growth potential.

The weaker players in the low cost segment “… such as SkyEurope and Hungary’s Wizz …” have higher survivability risks as newer entrants which the industry predicts will weed out weaked carriers through consolidation and business model failures (Capell, 2006). The continued realities of rising flight taxes, airport security issues, and carriers such as British Airways, KLM and Lufthansa, to name a few, are making concerted efforts to dip into the low cost model on selected high traffic routes, even though collectively, meaning the UK and continental Europe, holds just 7 percent of all intra European travel in terms of passengers flown, and are still short of the 25 percent market share achieved by low cost carriers in the United States. And that is the reason for the attack of incumbents now, as opposed to waiting for what happened to their U.S. counterparts (Forbes.com, 2002).

Incumbents and low cost carriers are converging in terms of each sector looking at the others markets as a means to increased passenger travel, with each adopting some of the features of the others operational model as Europe’s skies become more blended in terms of competing for growth and revenues. Thus the reduction of frills is bringing some incumbents into the province of the low cost carriers to block further passenger inroads. The future for low cost carriers is seemingly summed up by an article in USA Today (2003) that sees Ryanair and easyJet’s dominant positions, and UK flying base as long-term positives, while low cost competitors on the continent will face increasing competitive pressures from these two dominant players as well as from other low cost carriers and incumbents.

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