Air Scoop - Low Cost Carriers Newsletter - December 2008

8/14/2019 Air Scoop - Low Cost Carriers Newsletter - December 2008

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EDITORIAL

Highlights in this IssueARAC Conference 2008 Budapest p. 2

Caution: Stelios Introduces New Business Strategy p. 7

Air Berlin Closes Dba and Slows Down its Expansion p. 9

Subsidies Row: LCCs Vs Airports p. 10

Should Europes LCCs Grow Passenger Counts? p. 12

Air Scoop - December 2008 www.air-scoop.com

The Low Cost Carriers Analysis Newsletter

Ryanairs business model in trouble

As we wrote in our last issue, Belgian investigators have called

two Ryanair executives in for questioning as part of a fraud

probe into a Brussels Charleroi Airport, where the marketing

business is part-owned by the Irish low-cost carrier.

This is the rst time a Ryanairs ofcer faces personal prosecution inthe rich and long lasting companys judicial history. Mrs Baeckelandt,

the Charleroi examining magistrate leading the investigation has re-

quested to interview Ryanair chief operating ofcer Michael Cawley

and ight development director Bernard Berger to answer questions

over alleged fraud and misuse of funds granted by the Walloon regio-

nal government to an airport promotional business called Promocy.

Since French court issue on Strasbourg case (2003), involving Ryanairs

subsidiary Marketing Airport Services Ltd, one must know that the so

called marketing contribution from airports to promote ights and re-

gional charms through www.ryanair.com website is nothing less than

an illegal state aid. Alsacian Courts decision did put into light that thesums paid by Alsacian Chamber of Commerce, which manages the

airport, was by no means corresponding to the return they got. Ever

since, many similar cases occured in many French and European air-

ports, involving among others Pau-Bearn, Tampere-Pikkala, Aarhus,

Lbeck, Berling-Schnfeld, Bratislava, to mention just a few.

Promocy, which publicises ights and fares to the Belgian airport, is

quite a different story; this zero employee company is jointly-owned

by the carrier and the airports operator Brussels South Charleroi

Airport (BSCA). A spokesman for BSCA has say: We dont know

the reasons for the investigation. We hope everything will be resol-

ved quickly because we are quite condent in the conclusion of the

investigation once we explain the correct function of Promocy, and

explain how it contributes to the promotion of the airport. We think

all questions will be answered satisfactorily.

He added Promocy managed a 8 million ($9.4 million) annual bud-

get and that its marketing plan was approved by the board of Pro-

mocy, made up of two airport directors and two directors of Ryanair.

No doubt the latter had no reason to discuss, while the whole stack

went directly to load the offshore accounts of Leading Verge, a 100%

Ryanair owned company based on the Isle of Man whose job is to feed

and manage the carriers website. Strange enough, Promocy has been

created in 2001 according to a note by former Walloon minister ofEconomy, Serge Kubla. A way to give a legal suit to state aids?

AIR SCOOP ANNOUNCEMENTS

A Glimpse of Headlines News!

Aer Lingus merger a bad deal for Ryanair

Michael OLeary seems determined that nothing

will prevent him from acquiring Aer Lingus, even

promising to recognise the trade unions in his ef-

forts to land his old enemy. But would the deal re-

present such good value for Ryanair shareholders,

who have seen the value of their investment fall

by 50 per cent over the past 18 months?

Budget airlines failing to comply with European

laws

Budget airlines Ryanair and easyJet are failing to

comply with European laws that ban pre-checked

boxes on Web sites that sell ight tickets.

Eurowings To Sell Germanwings Stake To

Lufthansa

German airline Eurowings Luftverkehrs AG said

Monday it will sell its shares in discount airlineGermanwings to Deutsche Lufthansa AG as of

Jan. 1, 2009

SkyEurope November passenger numbers down

23%

Slovakia-based airline SkyEurope has transported

219,590 passengers in November 2008, a decrease

of 22.8%, compared to 284,417 passengers in the

same period of 2007.

Passenger slowdown at easyJet

easyJet has had one of its worst months ever right

in the middle of a storm blown up by its founder

Stelios Haji-Ioannou over cutbacks at the carrier.

EasyJet announced today that it ew 2.9 million

passengers in November a year-on-year increase

of just 3.4%. That compares to annualised growth

over the last year of nearly 17% for an airline used

to announcing double-digit expansion.

BMI stays silent on takeover talk

BMI has refused to comment on reports that

its subsidiary operations, BMI regional and BMIBaby, could be bought by Flybe. It has been re-

ported that they are not part of the strategy of

its new owner Lufthansa, which took over last

month.Read more page 7.


2/13Air Scoop - December 2008

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Ancillary Revenue Report

From the trenches at the ARAC Conference

Budapest, 19-20th November 2008

Attending this years ARAC conference in Budapest, I half

expected to see an empty hall and fewer attendees. With

so much doom and gloom surrounding the global economy

and the airline industrys woes, I was pleasantly surprised

to see as many attendees as last year s ARAC conference in

Frankfurt.

The assembly of inuential and knowledgeable speakers

combined with a very targeted and educational agenda

meant that attendees were able to go home with the most

up-to-date views, trends and intelligence from leading ex-

perts on ancillary revenues.But what was really telling of the general mood was the

prevailing feeling of eagerness to implement change, and

the acknowledgement that ancillary revenues have turned

a signicant corner.

During the opening presentation, Jay Sorensen, president

of IdeaWorks made an outstanding comparison with the

growth of ancillary revenues being much like the growth

of children. Ancillary revenues are now past the terri-

ble twos phase and heading towards puberty. Teething

problems, lack of communication (from the airlines) and

understanding (by consumers) have all been part of the

growing pains. Mistakes have been made by many carriers

legacies and LLCs alike resulting in poor adoption and

consumer backlash. But, as is the general rule with mis-

takes, we learn from them and as we head into 2009 with

so much uncertainty, one thing is certain. Ancillary reve-

nues, call it unbundling or a-la carte fees, will become a

cornerstone for airlines, no longer an afterthought or ex-

periment.

Following is an interview with Roger Williams, Mana-ging Partner of Airline Information, ARACs organizer. His

comments echo discussions I heard around the conference

halls and are very insightful of whats next for 2009 and

ancillary revenues.

For a listing of presentations at the ARAC, you can down-

load these at;

www.airlineinformation.org/AI_conferences/ARAC2008

By Vanessa Horwell

ThinkInk Communications



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How would you describe the mood at this years ARAC

compared with previous years?

I would say there has been a signicant undertone of prac-

ticality which has naturally developed with our delegates

becoming more experienced. Notwithstanding their more

circumspect approach, delegates have certainly not lost

their zeal for innovative concepts as we saw many emerge

this year such as onboard social networking and seat deli-

very of items purchased on the airline website, to list two

examples. One major lesson that has become more preva-

lent is that the simpler and less complex an ancillary reve-nue program or promotion is, the faster an airline can get

up and running and avoid costly customer relations mishaps

from shoddy execution and planning. Much of the prac-

tical mood among delegates, besides their growing expe-

rience has been inuenced by some crossover by delegates

from other areas covered by Airline Information specialty

events - including payment and ecommerce professionals

with both business and technical responsibilities.

With so much economic turmoil globally, what distinct

trends do you see emerging within the industry overall?RW -The two things to keep your eye on is fuel, from a

cost perspective, and demand trends from a revenue pers-

pective. Right now airlines such as those in the US that

have been maintaining a surcharge policy for most of 2008,

will in fact be expected to realize a prot during 2009 as

the price of a barrel of oil continues to stay below $50.

The problem is that if oil continues its downward trend

and lingers in the petroleum industrys break-even zone of

$35-$40 per barrel, then a number of forces could cause

oil to sharply rise back to levels that we saw this summer,

levels way north of a typical legacy airlines break-even ofroughly $70 per barrel. So those dreaded fees and the un-

bundling process that supports them are here to stay since

the biggest cost factor for airlines, fuel, is such an x-factor

due to the unpredictable oil market. The consumer market

has unwillingly accepted fees and airlines will make fur-

ther moves to formalize the process. A major discussion at

ARAC was the value proposition of these fees, for instan-

ce if you charge for a bag which was previously free, you

have now created a new product, what does the customer

get for that, what happens when the bag is lost? Airlines

showed at the event that they are indeed sensitive to these

concerns and many creative ideas were discussed on howto manage these issues and how to use the opportunity to

inject much needed value. One such idea which was dis-

cussed and is indeed a reality thanks to GoSim is trackable

luggage tags.

The term Ancillary Revenues is becoming universally

acknowledged. How soon do you think it will be before

the title of ancillary revenue manager becomes com-

monplace within airlines legacy and LCCs?

At Airline Information we gleefully take credit for the

rst conference to discuss this issue, but a position called

ancillary revenue manager was around before the rst

ARAC event. We have seen a sharp growth in these posi-

tions among both LCC and legacy carriers although legacy

carriers tend to allocate more traditional sounding titles

such as Business Development/Consumer Marketingor have a team of specialists, some of which, for example

would be a Onboad Retail Manager or Database Mar-

keting. A good ancillary revenue initiative is a team effort

so there are many other more traditional positions in mar-

keting, eCommerce, and Loyalty that are core the success

of these programs.

What signifcant changes or developments does 2009

hold for ancillary revenues?

Expanding on my previous point, looking at the second

indicator for airline industry analysis - the demand trends.A demand for all types of travel, business, leisure and vi-

sit friends and relatives, will continue to be soft in 2009.

Airlines have anticipated this and continue to articially

stimulate demand by removing capacity from the sys-

tem through schedule reductions and grounding aircraft.

But this will not be enough to keep balance sheets in the

black and despite the resolution of airline executives, un-

bundled surcharges is not an ideally sustainable strategy.

Therefore the only frontier left for airlines is to leverage

what they already have and maximize the revenue from

a stagnant and in most cases declining ow of passengers.This leverage is actually quite exciting and by all accounts

appears to be sustainable and may just change an industry

as we know it - the ying store. The airline is the perfect

distribution channel for a myriad of products and services

beginning from the obvious travel-related tours, car rental

and trip insurance that have been around for some time,

to a virtual mall experience appropriately offering the cus-

tomer something they need for their lives at every touch

point during the travel process. Multi-offering and fully

tailored based on passenger proles, these full sales channel

initiatives will allow passengers to shop at time of booking,

pre-departure days prior, at the airport, on board the ight,and post trip. Peoples minds are naturally stimulated du-

ring travel and with pre-existing loyalty-based analytics a

shopping experience can be highly relevant, seamless and

enjoyable.

Interview of Roger Williams

Managing Partner, Airline Information



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Hector OjedaBusiness Development Manager,

AXA Travel Insurance Limited

Tell us about AXA Insurance?

AXA Travel Insurance Limited is a specialty insurance,

service and management company, member of the AXA

Assistance group. We offer international travel insuran-

ce solutions. Our clients include airlines, tour operators,

GDSs, OTAs, international card issuers, insurance compa-

nies, banks and corporations as well as individuals.

What do you see as the biggest challenge for the travel

insurance market in the year ahead?

For AXA Travel Insurance, and for the travel insurance

market, the biggest challenge is to evolve with the fast

changing trends in the travel industry and with the new

governmental directives that regulate optional sales of tra-

vel insurance products to the customers.

Do you see any new trends developing in the travel in-

surance market?

All market players will need to provide their partners(airlines, OTAs, GDSs, car rental companies) with fully

integrated solutions and a wide range of options to ensure

conversion rates stay high and to provide ancillary reve-

nues. We believe that technology and accurate products

are key. We have partnered with AirSavings who support

us providing the latest travel industry-designed technolo-

gy programs for innovative revenue streams. Through this

technology; we are able to seamlessly integrate and price

travel insurance products into the booking. We can offer

the right product saving the customer the need to drop

down menus and read through different pages.

Does AXA Travel Insurance have any new travel insu-

rance products coming online soon?

AXA Travel Insurance has designed special products for

car rental companies, competitive city break insurance,

and a full range of different business cover packages cove-

ring meetings, laptop, PDS, etc.

AXA Travel Insurance - www.axa-travel-insurance.com

Raphael BejarCEO, Airsavings

Describe the impact of oil prices increases LCCs?

The impact has been very heavy in Q2 and Q3. The last

quarter has seen a huge decrease in oil price. But as mar-

gins in this industry are very thin, LCCs are still suffering

from this peak price in Q2 and Q3.

How much does the fuel count in an LCCs total costs?

At the high peak of oil price, the fuel counted for about

40% of total costs. Now, with the decrease of oil price,most are back within the 25%-30% bracket.

Describe current hedging policies, what is the fuel price

where LCCs break even?

Most of the LCCs did not have any fuel hedging policy

because of the banking guarantees needed for it. Now,

we are seeing airlines such as Air France being deeply im-

pacted because of their hedging levels, so some carriers

might feel relieved from not being hedged. Nevertheless,

hedging has been bringing more positive effects than the

other way round.

Some low-cost carriers announced they would reduce

their expansion plans, cut jobs, ground some aircraft,

y slower on some destinations. What should LCCS

be doing to limit the impact of fuel crisis on their busi-

ness?

Absolutely, some of the LCCs have been forecasting such

costs reduction schemes. But still none of them are thin-

king of joint purchasing, which will become increasingly

important to mitigate uctuating prices and heavy xed-

costs.

Airsavings www.airsavings.net

Quick Chats



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7/13

BIRDS EYE VIEW


Caution Required: Stelios Introduces New Business Strategy

Fuel prices are going down but demand is diminishing, -

nancial crisis continues to worsen, annual prot falls. What

else might happen to an airline which struggles for sur-

vival? A row erupted in the boardroom when one of theeasyJets non-executives refused to approve airlines annual

results. Sir Stelios, who founded easyJet 13 years ago, criti-

cized the Board for their expansion strategy and overopti-

mistic outlooks. To safeguard his own cash from the short-

sighted management, Stelios asked the airline to pay him

dividends from 2011 onward instead of investing in new

aircraft and routes. The company was taken by a surprise

when its creator announced that he had increased his stake

in easyJet and lifted it to 27%. Obviously, this will break

off easyJets expansion plans and create unnecessary disar-

ray inside the company.

Stelioss sudden appearance on the stage and his public

criticism against the top-management could produce the

effect of him being the only member of the Board with

a sensible view of things who came to save the company

from falling into the chasm. To prevent the company from

taking any further risks he intends to appoint two direc-

tors from the holding company, Easygroup. In case easyJet

didnt agree with the decision, he would appoint himself as

the chairman, pushing out the present Sir Colin Chandler.

Its difcult to say what factors dictated this decision. Was

he sharing his common sense approach and reliability or

was it just a panic attack brought on by the crisis? Appa -

rently, the announcement would promote him as a leader

but it would denitely make no good to the companys

image. It might also seem that the founder of easyJet is

not condent with the airlines future and the only thing

he could do is to protect his prots by cutting down the

growth. On the other hand, he might be right imposing

the cautious strategy upon easyJet as a remedy against pos-

sible troubles. Anyway, the announcement aroused public

concern and distracted attention from easyJets annual re-

sults which showed a 45% drop. A gloomy report undoub-

tedly paled in signicance to the sound intervention madeby Sir Stelios.

Its unclear when the present dispute could be resolved.

What makes the situation worse is that easyJet has to nd

its way through the global recession instead of losing consi-

derable time and effort in disagreement over its strategy.

Though the annual results were overshadowed by the

dispute, Ryanair was not slow to take advantage of them.

It is clear that the Irish carrier would be the one to gain

benet from the new strategy proposed by Stelios. While

easyJet is far too busy solving inner problems, Ryanair hasno intention of changing its strategy. Unlike easyJets chief,

OLeary plans to expand strongly believing that his airline

is crisis proof. OLeary who never missed a chance to get

free publicity by making scandalous statements said that

only Ryanair would continue to grow whilst other carriers

would cut routes, go bankrupt and merge. According to

OLeary, there are only 4 airlines which could survive the

recession: British Airways, Air France, Lufthansa and Rya-

nair. He also suggested that BA or Air France could buy the

rival easyJet. However, despite the downturn in the indus-

try and the boardroom row, easyJet has a much better cash

position than its Irish rival.

This leads a Ryanairs spokesman to say, It is a local in-

vestigation and does not relate to any other issue Ryanair

has had at Charleroi but it is one more problem, one more

issue in the set up of Ryanairs operations at the airport.

Thats more than true. In the wake of this local inves -

tigation , the airport authorities in Valencia (Spain) and

Fuerteventura (Canary Islands) has decided to resign their

marketing agreement with Ryanair. As a result, the low-

cost carrier decided to pull off immediately its ights from

Valencia, thretening Fuerteventura to scrap them either if

they were to conrm their decision to cut off their pro-

motion commercial agreement .

Of course they can hardly make the same with Charleroi.

The Walloon airport has become one of the main Ryanairs

continental bases, with public investments reaching around

250 millions. So OLearys guys opted for another kind of

pressure, by opening new routes departing from Lille, only

some 80 km away from Charleroi. Moreover, they threate-

ned Belgian government to withdraw from Charleroi if the

decision to raise a tax on air travel was not cancelled. Des-

pite the tax being part of the ofcial 2009 national budget

voted since days by the Parliament (and as far as Flemish

airport of Zaventem complained as well), Prime minister

Mr Leterme gave up the idea, leaving his budget short of

an important revenue.

So the point is: how sustainable is the sort of business

which depends as much of subsides ? What benet does

it gives to national or global economics ? Has it any added

value, according that the low fares are only a make believe

as every citizens pays for the few travellers? Time will tell

but anyone is allow to think about it!

From p. 1: Ryanairs business model in trouble


8/13

BIRDS EYE VIEW


As the close of the year approaches for the airline industry,

there is an undeniable sensation of being at a crossroads.

Never before has the industry weathered a year like 2008,

and seldom has there been so much uncertainty about

what the New Year might hold. And as bets being at a

crossroad, we are looking both critically at the past and

cautiously toward the future.

We can safely say that 2009 will be dened largely by the

events of late 2008. The airline industry will have to deal

with the overarching macroeconomic reality of a global

recession, of course, but it will also have several serious in-

dustry-specic holdovers from 2008 to content with. The

roller coaster ride the price of fuel took in the last three

quarters of the year will continue to affect the industry,

augmented partially by the proliferation of fuel contract

hedging. Capacity cuts instituted to maximize load in a

season of astronomical fuel prices and high travel will col-

lide with shrinking demand in the early winter months,

likely with considerable effect. The increasing acceptance

of ancillary revenues among both consumers and legacy air-lines in 2008 (LCCs were way out ahead of that strategy)

has laid the groundwork for further ancillary expansion in

2009, further leveling a cost-based playing eld for LCCs

and their legacy competitors. The lingering credit crisis,

which came to an icy peak in October, will likely continue

and curtail large-scale capital improvements for airlines,

while pervasive uncertainty may spark another round of

consolidations.

Clearly, there is much to anticipate in the coming year.

Our top picks of trends to watch for in 2009:

Fuel, fares and hedging (oh my)

The notable aspect to this years fuel price trend is its dra-

matic reversal: who, when contemplating July 2008s $140+

crude, would believe last weeks $41 barrel? Based on the

current demand-driven lows, it can be assumed that fuel

prices will rise at least moderately in 2009, likely concur-

rent with (or slightly ahead of ) an increase in passenger

demand. Airlines will also likely compensate for this years

fuel-based losses by keeping fare prices steady or higher,

even if fuel prices continue to plumb their multiyear lows.

Likewise, European carriers that were partially shielded bya favorable dollar-Euro exchange rate will see that advan-

tage decline. Should the recession persist and demand for

both crude oil and air travel not spring back enough to co-

ver the capacity cuts made late in the year, look for airlines

to reduce fare prices- cushioned by low fuel costs- in an

effort to maximize load.

Just as the rst and second quarter of 2008 demonstra-

ted the benets of fuel hedging in the aviation industry,

the collapse in commodity prices brought about by the

recessionary aspects of Q3 and 4 underscored the risk asso-

ciated with the practice. Moving into 2009, airlines may

well revisit the wisdom of high-percentage hedging, or,

conversely, invest more resources into the development of

a sustainable, effective hedging strategy. Of course, this

comes with a caveat as well: not even Southwest was able

to completely insulate itself from the collapse in fuel pri-

ces. Look for more group purchasing and other strategies

to enjoy more prominence in 2009.

Capacity and the LCC

The waning months of this year saw massive capacity cuts

from the legacy airlines trying to improve margins amid

high operating costs and declining demand. The Ofcial

Airline Guide estimates that 275 destinations will be cut

worldwide by the end of 2008 (1), with airlines shedding7% of all ights and seats from the global network in the

fourth quarter alone. This translates, simply, into higher

fare prices and fewer options available from legacy carriers;

a strategy that may increase the prominence and visibility

of LCCs in markets where they have not enjoyed as much

penetration as the EU. 2009 will determine whether low

cost carriers will step into the vacuum created by depar-

ting legacies and leverage their operating model to restore

protability to abandoned routes. It is our opinion the

contraction of the legacy network combined with reces-

sionary demand for rock-bottom ticket pricing presents aunique opportunity for LCCs.

The Primacy of Ancillary revenues

Ancillary revenues garnered more media attention and

more mainstream acceptance this year than in any other.

What was once the exclusive purview of roguish European

discount carriers is now de rigueur for nearly every airline

across the globe. Fuel prices accelerated the adoption of

ancillary revenue development strategies, making ancillary

revenues central to the overall operating strategy of almost

every airline, a universal trend unimaginable outside of themost prescient LCC circles just a few years ago. The pri-

macy of ancillary revenues has laid the groundwork for a

very ancillary-based 2009.

So far, this has manifested itself in the unbundled airfa-

Looking Back, Looking Ahead: Whats in Store for Airlines in 2009

By Rapahel Bejar

CEO, Airsavings SA

email: [email protected]


9/13

BIRDS EYE VIEW


re (of which European LCCs were the standard-bearers;

American got a lot of attention this year for a checked bag

fee that has been a central to Ryanairs strategy for almost

a decade) and the Big Three booking path ancillaries of car

hire, room reservation and trip insurance. The new year

will illuminate new trends in ancillary revenues, includingexclusive retail opportunities, online gaming, loyalty pro-

gram reinterpretations, in-cabin dining upgrades, and- pe-

rhaps late in the year- a revisit to carbon offsets.

Consolidations?

This years ashiest headline was the Delta-Northwest

merger, might next years be British Airways and Quantas

(whose talks began in early December (2))? Moreover,

with Argentinas Aerolineas and Italys Alitalia both irting

with nationalization, are nation-states becoming players

again in the airline industry? Challenging economic envi-ronments tend to weed out the weak and unprotable, but

the ongoing credit crisis and historic cash shortages make

takeovers and mergers harder to execute and government

interventions more likely. For the US, an incoming admi-

nistration that promises greater oversight and more regu-

lation might not be as amenable to another mega-merger.

Count on at least a handful of smaller consolidations, if not

one big merger in 2009.

And Speaking of South America

One of the brighter spots in the aviation industry in 2008

was Latin America; YTD passenger revenues in the region

grew by more than 16% over 2007, and a few of the glo-

bes best-performing airlines operate in the region. LAN

of Chile (but with operations in many South American

countries, including Peru) and Volaris of Mexico have en-

joyed considerable growth, even as their US and EU coun-

terparts have shed capacity and prots. Look for these

prominent lines and others to continue making waves inthe region throughout 2009, as the continent remains one

of the industrys best prospects for market expansion.

--

2008 was a landmark year for the airline industry; it saw

the birth of the largest airline on Earth (Delta-NW) du-

ring the largest swing in fuel prices ever witnessed. It saw

near-universal adoption of ancillary revenue strategies and

the bankruptcies of several LCCs. 2009 may be equally

volatile, with recessionary demand pressures bumping up

against capacity cuts and unanticipatable operating costs-

we cannot know. But passengers will continue to y, andairlines will continue to develop and perfect ways to make

ight protable and efcient. The new year, as always, pro-

mises new horizons and new opportunities. For no indus-

try is this truer than for aviation.

1. http://app.follow-up.net/resources/403/My_Docu-

ments/Advito/Advito_Industry_Forecast_2009_FINAL.

pdf

2. http://www.nytimes.com/2008/12/03/

business/worldbusiness/03air.html?_

r=1&scp=2&sq=airlines&st=cse

Air Berlin Closes Dba and Slows Down its Expansion

It is the end of the expansion for the German LCC Air

Berlin. At the end of October, the number two on the Ger-

man air transport market decided to close its subsidiary

company Dba, employing 120 pilots and 175 cabin crew

members, and operating nine aircrafts.Air Berlin had bought Dba, the former German unit of

British Airways, in 2006. At that time, the deal was ex-

pected to increase Air Berlins number of routes, especially

inland, but also to raise its number of business travellers,

one of Dbas forces, and to provide the airline with a new

base of operation in Munich. Until 2007, Air Berlin was

conducting a strong expansion policy: it also bought back

the charter airline LTU, and planned to swallow Condor,

Thomas Cooks charter airline.

But some months ago, Air Berlin showed rst signs of step-

ping back. The harsh crisis the air transport market is cur-rently facing, and the high oil prices, make expansion more

and more difcult. First, Air Berlins CEO Joachim Hunold

had to renounce to the merger with Condor. Then, as the

airlines debt was reaching a critical level, he announced an

important saving program, including a lowering of the eet

from 132 to 120 aircrafts, and a reduction or suppression of

several routes. Hunold also had to postpone his projects to

develop on intercontinental routes.

Now, Air Berlin closes Dba, arguing the airline is too expen-sive to operate. Dba has already been quite compressed

by its new owner: since it was bought in 2006, it has lost

its brand (all the ights are sold under the brand Air Berlin)

and its administrative and technical staff - several hundred

people. The 300 remaining Dba employees will be either

transfered to Air Berlins staff, or offered a restructuring

plan, for those who do not accept the rst proposal.

The problem is, salary conditions are lower at Air Ber-

lin than at Dba, an airline where trade-unions are quite

powerful. According to the unions, employees switching

from one to another will lose up to 900 euros in salary,plus days off and retirement rights. Pilots will also have to

y more: whereas Dba was paying each pilot 67 hours a

month, even those ying less, Air Berlin will adapt preci-

sely the wage of each pilot to its work duration.


10/13

BIRDS EYE VIEW

Air Scoop - December 2008 www.air-scoop.com0

Thus, integrating Dbas employees into its own staff is

a way for Air Berlin to cut wage costs, by cancelling all

the relatively attractive agreements signed between Dba

and the trade-unions. It is also a way to switch from an

airline with strong unions to another where they are not

welcomed: Air Berlins CEO Joachim Hunold is well-knowfor hating unions. After the annoucement of Dbas closure

in November, Dba employees ceased work during seve-

ral hours in Munich, Berlin, Kln and Dsseldorf, causing

ight delays. This is not the rst time a strike affects Air

Berlins new subsidiary companies: in 2007, just after LTU

was bought by Air Berlin, its pilots, together with Dbas,

conducted a short strike, and a bigger one was avoided just

in time.

A merger of two airlines is a long process that can lead to

complicated situations, for economic, technical or cultural

reasons. And it can weaken a company, all the more that

the economic circumstances are, like now, difcult. When

Air Berlin, a few years ago, began its quick expansion by

buying back smaller airlines, many experts warned about

the fact that these new airlines would be very difcult to

integrate. Now this warning has become reality, and it may

be a good thing that Air Berlin did not swallow one moreairline. Generally speaking, Air Berlins difculties with

Dba are also a lesson for other airlines in Europe - and

suggests that the unavoidable concentration process in the

European sky will have to be conducted very carefully.

Despite of this difcult situation, Air Berlins nancial si-

tuation is not as bad as it could be, and the airlines cost

cuts apparently already gave some results, considering the

quite good third quarter gures Air Berlin published at the

end of November. The LCC still plans to make prot in

2008. However, since the beginning of the year, its share

value was divided by more than three.

Subsidies Row: LCCsVs Airports

Hardly had Ryanairs base at Valencia celebrated its One-

Year Anniversary when the carrier decided to close it.

Shutting down the base means cancelling 70 ights a week,

loosing 750000 passengers, and leaving 750 people jobless.

Statistics show that Ryanairs passengers made up around

one quarter of all Valencia airport trafc leaving the Irishairline the biggest airline at the airport. What prompted

this decision was Ryanairs marketing strategy and local go-

vernment reluctance to provide nancial backing for the

promotional campaign. According to Ryanair, the Valen-

cian government refused to allocate any funds to support

airlines joint activities with the tourism department of the

Comunitat Valenciana. However, nothing stopped the go-

vernment from giving 12 million euro to Ryanairs direct ri-

val in the region, Air Nostrum, which seemed to be unfair

to the Irish carrier. As a punishment, Ryanair decided to

close the base and to move more than 100 million euro ofinvestments to another base. Assumingly, the withdrawal

led to the creation of a new base on Sicily. Interestingly,

Ryanair gave the Valencian government a chance to im-

prove and to change its mind. Should they do so, the Irish

carrier doesnt exclude possibility of returning to the Spa-

nish base.

The Valencian case is not the only disagreement between

Ryanair and the Spanish government. The carrier also

threatens to leave Fuerteventura unless a local tourism

group agrees to back up an agreement to promote the base.

Ryanair brought around 25000 passengers to the island and

now intimidates the local authority that the region could

lose all the revenues with the closure of the base unless the

agreement is approved.

Sometimes state aid does not safeguard the base from

being closed. Last year Ryanair cancelled ights to Vitoria

from both Stansted and Dublin as they were not nancially

protable. In order to promote the base the Society of Pro-

motion of the Airport of Foronda had promised to give

Ryananir 1.050.000 euros of nancial support. By the time,the carrier decided to retreat the Society had already paid

650.000 euros. However, this did not stop Ryanair from

breaking the agreement.

Spain, too, provides cases of more pliable authorities. When

Ryanair announced it would cancel its London-Stanstead,

East Midlands and Liverpool ights to the Granada airport,

Granada and Jaen provincial councils agreed to pay Rya-

nair 1.5 million euros to change its mind.

State aid or subsidies remain a hot topic in Europe. Thefact that many LCCs manage to obtain sufcient subsidies

form the local governments point to the importance of

an airline in the region. Data proves that LCCs increase

tourism revenues in the secondary airports which means

that airports are by and large dependent on LCCs. In other

words, small and isolated airports like Valencia and Fuer-

teventura have to pay for being connected with the rest of

the world and to attract LCCs. On the other hand, LCCs

rely on subsidies which allow them to maintain low fares.

The question is whether extortion threats becoming inte-

gral part of LCCs business strategy.



DOWN TO EARTH

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Europes largest LCCs are still seeing tremendous passenger

growth. However, this is not necessarily a good sign. Any

airline can ll seats by setting fares low enough. But only

airlines that adequately manage yields, and adjust them

to new circumstances will make money when costs rise.

While oil prices have temporarily retreated, their long-term trend is upward, and that will present problems for

LCCs, which cannot easily mitigate their energy costs. As

costs increase, LCCs have three basic options: First, they

can increase ticket prices, but this could signicantly harm

their business model, as fewer passengers would y. Se-

cond, they could do the oppositelower fares to increase

passenger totals. Third, they could increase ancillary re-

venues, including subsidies from airports. Comprehensive

ancillary revenue streams, including passenger-dependent

subsidies provide the only way to insure that additional

passengers will equal additional prots.

Higher passenger counts offer two key benets to LCCs.

First, more passengers means higher load factors that ena-

ble LCCs to disperse xed costs across more passengers,

hence, lowering fares and enabling LCCs to maintain a

price advantage over legacy carriers. Second, more passen-

gers enable carriers to boost ancillary revenues and recei-

ve more subsidies. Each new passenger likely contributes

to ancillary revenues such as checked baggage or priority

boarding fees. Moreover, if an LCC fails to meet a pas-

senger target on a given route, they could lose a subsidy,

which may be the difference between prot and loss.

EasyJet appears interested in targeting business travelers

by serving primary airports. Therefore, the company de-

pends less on subsidies, and doesnt need higher passenger

counts to get them. Since easyJet depends less on ancillary

revenues than Ryanair, additional passengers wont ne-

cessarily generate additional prots. Instead, easyJet will

boost prots by charging higher fares on routes containing

many high-yielding passengers. So while the carrier may

carry fewer passengers on a ight, higher fares will likely

more than make up the difference.

On the other hand, Ryanair has insisted that it will conti-

nue to lower fares to boost passenger counts, and also in-

crease ancillary revenues. This should be a successful stra-

tegy, because not does Ryanair have the PR capabilities

to ll seats, but it has many more ancillary charges than

its rivals, so passengers who y with the carrier, even on

a free ticket, will likely boost the bottom line. Ryanairs

fares are very low already, and as long as the company isaggressive with its ancillary charges, more passengers will

not result in a substantial loss of revenue.

Some argue that LCCs need to keep growing in order to

maintain protability, that higher passenger counts are

necessary for a protable LCC. I disagree. Rather, LCCs

can reach a sustainable plateau where growth may no lon-

ger make sense. In those situations, provided carriers can

maintain acceptable passenger counts, they can survive.

LCCs have traditionally grown rapidly because they have

had new expansion opportunities, whereas legacies havemostly tapped out the markets they can serve.

LCCs need to expand, at least initially, because scale is

critical in the airline business. Moreover, in order to redu-

ce costs, new LCCs have placed very large aircraft orders

with manufacturers in order to get quantity discounts.

And those aircraft have to y in order to make money,

hence the rapid expansion. Finally, in order to gain pas-

senger loyalty, an airline has to serve a number of destina-

tions. This is less important with LCCs, which compete

less on loyalty than on price (many large LCCs lack fre-

quent yer programs) but is still signicant in attracting

some business travelers. However, after a certain point,

growth no longer becomes inevitable, and the increases in

scale produce diminishing returns. In fact, if the company

gets too big, it can become difcult to manage, and inef-

ciencies will slip by a bloated corporate bureaucracy.

Arguably, easyJet, Ryanair, and Air Berlin have reached

scale threshold, whereby further expansion will not signi-

cantly reduce costs per passenger. That is not to suggest

that these carriers should not expand. On the contrary, all

three carriers quite rightly see additional market opportu-nities, just as many legacy carriers do in this market. But

none of these LCCs should feel a need to expand in order

to make themselves more competitive, because neither

Should Europes LCCs Grow Passenger Counts?

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easyJet nor Air Berlin will be able to reduce their costs

to Ryanairs levels without fundamental changes in their

business models.

To combat rising costs and slowing demand, different

LCCs will engage in different practices. Ryanair has roc-

keted to the top of the market, but stands to lose the

most during the coming recession. Ryanair has gained tre-

mendously from public subsidies and discretionary travel,

both of which could fall off as passengers and airports cut

back their expenditures.

Many of Ryanairs facilities offer the carrier signicant

subsides in the form of reduced landing fees and also

marketing agreements, minimizing the carriers adver-

tising costs. Without this public assistance, its unlikelythe airline would serve some facilities, instead choosing

to serve a different nearby airport that offered a better

deal. Ryanair knows that its low fares will ll its planes

regardless of where it ies so it uses high passenger counts

to make nearby airports compete to offer the carrier the

best deal or risk losing signicant revenues. For instance,

Ryanair recently announced that the carrier will consider

withdrawing service to Fuerteventura, as a local travel

group has failed to abide by its agreement with Ryanair to

promote tourism in the area.

But while these subsidies can be a windfall for Ryanair,

they are coming under growing scrutiny because they may

give Ryanair an unfair advantage in the marketplace. They

help the carrier offer extremely low fares, which are not

necessarily cheaper for passengers after ancillary fees and

the cost of getting to/from outlying airports, but effecti-

vely suppress competition. Competing LCCs should be

incensed that Ryanair receives such benecial treatment.

However, its very important not to examine this issue

too parochially. The question is not merely subsidies, butrather, what involvement the public sector should have in

the airline business. For instance, the Dutch government

recently instituted an Ecotax of 10 per passenger, which

has raised Ryanairs costs of doing business at Maastricht

airport. Ryanair now plans to withdraw from the airport

during the winter, potentially restarting services in the

summer. Ryanair argues that many passengers will simply

drive across the Dutch border to get lower fares in other

countries, exacerbating environmental problems rather

than solving them. In this situation, I am a bit skeptical

of Ryanairs claims. While it is true that a at tax of 10

will drive up Ryanairs average fare considerably, Ryanairs

fares will still be far lower than the competition. Many of

Ryanairs maneuvers may not be motivated by costs, but

rather as attempts to generate publicity for the company

and generate public outcry against additional taxes.

Governments need to promote sustainable LCC growth,

which means rethinking tax policies as well as revamping

subsidy programs. Subsidies promote temporary growth,

passengers will only y if an LCC offers the route, and an

LCC will only offer the route if an airport offers a sub-

sidy. Transparency regarding fees at airports would greatly

ease concerns about public funds being used to favor one

airline over another. Airports should not be allowed to

discount landing fees for one carrier while charging ano-

ther the full rate. This is not to say discounts cannot existat all, as they can help spread the risk a new route brings

between the airline and airport. With a transparent, fair

approach, governments can avoid creating an unsustaina-

ble bubble of LCC passenger growth. If there is a severe

economic downturn, passenger totals could plummet,

and even LCCs will face signicant passenger losses, not

only hurting airlines, but also the leisure destinations that

spent so heavily only to see service taken away.

Remarks, questions Join Sam by email (samsellers@

gmail.com) or on his website to comment this article

http://www.airlinebulletin.com.

Sam Sellers provides analysis and commentary on the

airline industry at his website, www.airlinebulletin.com,

and is the author ofTake Control of Booking a Cheap

Airline Ticket, an ebook for travelers in the United States

who are interested in purchasing cheap airline tickets.

Documents

Air Scoop - Low Cost Carriers Newsletter - December 2008