RECESSION WILL PROVE A REAL TEST FOR AIRLINE
3 August 2008Ryanair CEO says he will cut fares to keep the passengers coming but the credit crunch and fuel costs look like putting a dent in his profit plans, writes Gerry Byrne
The last time people stopped travelling was not because they had no money to spend. They were afraid of suicidal Islamic hijackers slamming them into tall buildings. This time it's different.
People are travelling less because money is getting tight. There's a credit crunch and the cost of food, petrol, power and heating, is rocketing. Their jobs are also at risk as recession looms.
After 9/11 there was, on the other hand, plenty of cash and when Ryanair's CEO Michael O'Leary obligingly dropped fares, punters gladly and glibly rationalised ways to overcome their fear of flying.
This time things are different. People want to travel; they just can't afford it.
In his first quarter results this year, O'Leary announced Ryanair's first major setback since a very successful flotation. Profits are down 85 per cent and the forecast is a loss of €0m for the coming year, or at best, break-even. In fairness, a full year loss of even that magnitude is trifling for an airline Ryanair's size, compared to some of the horror stories coming from elsewhere.
US Airways last week announced a second quarter loss of $567m, compared with a profit of $263m the same period last year.
Not unexpectedly, O'Leary says he will simply lower fares even further, just as he did in 2001. But will the post-9/11 paradigm work again?
Michael O'Leary says it will. But will it? People might afford the cheap fares, but can they afford the cost of local travel, accommodation and entertainment at the other end?
More importantly, can post-flotation Ryanair afford its first real taste of the impact of a recession, aggravated by massive fuel bills, on its so far extremely successful model?
In his latest quarterly commentary O'Leary announced further cost cutting -- but it is peanuts compared to the surge in fuel prices which have almost doubled in a year. While most full service airlines, the BAs and Lufthansas of this world have seen fuel rise to over 30 per cent of their operating costs, at Ryanair the figure is now approaching 50 per cent from its former36 per cent.
But, while many of the conventional airlines still have fat to trim, Ryanair's costs are already cut to the bone; its only buffer is a very liquid balance sheet and a superbly agile management.
That buffer might be swinging into action sooner than expected.
Michael O'Leary picked a fine time to announce his long awaited return to oil futures. He has hedged 90 per cent of his fuel at the oil equivalent of €29 a barrel for three months from September, and €24 a barrel for three months from December. Last Thursday it had dropped to €23. He's probably ecstatic that he's unhedged for the final quarter.
And what impact will economic uncertainty have on growth? Much of Ryanair's phenomenal growth over the years has hinged on opening new markets and it's stillfinding good potential out of UK and near continental cities. But Ryanair is looking increasingly to the East for growth and there signs that this is proving less than effervescent territory.
O'Leary is ceasing services at places like Budapest, Krakow, and Rzeszow for a month pre-Christmas (in addition to other more conventional destinations like Salzburg, Basel and Valencia). Without fresh blood on its aircraft, Ryanair's growth will be increasingly concentrating on mature markets closer to home which the opposition is eyeing covetously.
Ryanair's competitors are not always fellow low-cost operators like EasyJet. They are also the big majors like BA, Air France-KLM and Lufthansa. They are also, curiously enough, the big city airports that are coming to resent traffic being siphoned off by cheeky newcomers -- the former local airfields on the outer fringes.
The big airlines are working hard to win back one category of low-cost traveller and that's the person who travels with luggage. It's now routine to find a fare on a full-service airline as cheap, and sometimes cheaper, when youadd in the additional cost of bringing luggage on Ryanair, but which they allow free on board.
Some airlines (Hungary's Malev is one example) have even increased their free baggage allowances to attract more leisure travellers from the low-cost carriers. They also slashed the cost of business travel at weekends for those special anniversary leisure treats. And all airlines have learned how to expedite flights and improve efficiency at the feet of the master, one Michael O'Leary.
Munich is showing how big city airports might fight back. The big difference between a Munich and a Charleroi is that Munich is a hub-and-spoke airport, the likes of Charleroi are mostly doing business with point-to-pointers like Ryanair.
A delayed flight for Ryanair only affects the flights that aircraft is scheduled to fly later in the day. A delayed flight for Lufthansa may have a knock on effect on dozens of other flights that are delayed throughout the network so hubbing passengers on the original latecomer can make their connections.
Munich now has a facility so that late arriving Lufthansa passengers (even in economy class) -- instead of trekking into the terminal, and trekking back out -- are met on the steps of the aircraft and whisked to their waiting flight with issues like immigration and security handled en route. The potentially delayed flight might even depart more or less time as a result.
Yet there's little sign that this is costing Michael O'Leary much sleep. His latest proposition, that Ryanair give up carrying hold luggage altogether, either smacks of desperation, or is a terrific idea.
There's little doubt it would save money dispensing with baggage handlers and having aircraft that effectively load themselves while at the same time accelerating the turnaround time and -- who knows -- perhaps slipping in an additional revenue-earning flight.
On the other hand, he must balance that gain against the not insignificant loss of baggage revenue (effectively a surrogate fuel surcharge) and the risk of losing passengers who don't appreciate travelling with little more than a change of underwear.
Will investors have patience with this strategy? Remember, this is a company that has never paid a dividend, yet it sits on top of a huge €.6bn pile of ready cash, and another €00m of slightly less accessible convertible securities. So far, the lucky ones who got out early saw some capital appreciation, but for those who are in it for the long haul, that is rapidly evaporating.
Can they allow O'Leary another big gamble, a punt that may see the cash hoard slowly dissipate? There's no doubt that Ryanair can easily afford to go for market share and sit out the recession for a couple of years -- but will the promised New Jerusalem really be there when they arrive at the other side?
This Shangri-La holds out the prospect of a massive capacity reduction in Europe as less solvent inefficient airlines -- Alitalia being the most obvious -- slowly sink into their graves.
Consolidation, on a scale not seen since 9/11, may also be on the cards as BA courts Iberia.
Even Aer Lingus may get hoovered up (the 29 per cent shareholding in Aer Lingus is listed as "Financial Assets for Sale" on the Ryanair balance sheet).
But the other difference with the post-9/11 days is that much of the competition is leaner , meaner and tougher than it was in 2001. Now it's gunning for Ryanair's traffic, as well as the other way around.
O'Leary -- shooting mostly from the lip -- has proved his ability not to be bushwhacked. But this time it could well be a case of last man standing.
Gerry Byrne is an aviation journalist
(c) 2008 Independent Newspapers Ireland Ltd
The Sunday Independent (Ireland)
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