Low Cost Carriers (LCCs)
A key structural change in aviation over the past decade has been the proliferation of low-cost carriers (LCCs). The low-cost model has overwhelmingly been the favoured mode of airline start-up over the period, and their spread around the world, into both short- and long-haul markets, has caused a fundamental shift in the competitive dynamic of the industry.
'Classic' characteristics of the low-cost model include:
- High seating density;
- High aircraft utilisation;
- Single aircraft type;
- Low fares, including very low promotional fares;
- Single class configuration;
- Point-to-point services;
- No (free) frills;
- Predominantly short- to medium-haul route structures;
- Frequent use of second-tier airports;
- Rapid turnaround time at airports.
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Asiana Airlines continues to work towards launching an unnamed low-cost carrier to be based in Seoul, enabling Asiana finally to participate in the budget growth enjoyed by Korean Air-affiliated Jin Air and independent Jeju Air. The LCC would be Asiana's second after Air Busan, based in Korea's second-largest city. Air Busan is showing restrictions with a high cost base while Asiana, with a minority 46% stake in Air Busan, has limited say. Asiana intends to have majority ownership of the Seoul LCC.
Flagged for the LCC are thinner markets to Japan where Asiana is weak. Asiana's Japanese yields have fallen and has previously announced an all-economy configuration for short-haul services; but this appears also to have had limits and Asiana needs a step-change solution. Asiana has long worried it was over-exposed in the short-haul market, which it foresaw becoming more competitive. Long-haul growth with A380s and A350s was one measure to rebalance, and the Seoul LCC should further help. But Asiana must ensure the LCC can pursue valuable opportunities and not just be allowed to serve weak routes.
Chinese start-up 9 Air/Jiu Yuan Airlines commenced scheduled service on 15-Jan-2015 in the domestic Chinese market. Perhaps fittingly, 9 Air will use the IATA code AQ, formerly with “Aloha Airlines”, whose name is a Hawaiian salutation. 9 Air will be the first to greet a new Chinese environment: the airline is the first low-cost carrier to launch from scratch under China’s policy reforms.
That distinguishing label comes with its burdens. 9 Air’s launch was repeatedly delayed and a soft launch with charter-only service was on the short 387km Guangzhou-Zhanjiang route. Nonetheless, China Southern – also based in Guangzhou – cut prices on that service.
9 Air’s launch on a single Guangzhou-Wenzhou-Harbin routing keeps it out of the thick of competition, but it will inevitably take a higher profile as it receives the first of 50 737s it directly ordered.
2014 looks to have been a positive year for IAG on its path towards value-creating returns. Vueling was part of the group for its first full calendar year and remained IAG's most profitable and fastest growing business; Iberia returned to capacity growth and to profit; and British Airways completed its first full year of operating the A380 and the Boeing 787.
In some ways, all of Europe's Big Three legacy airline groups have been doing broadly similar things in recent years, namely restructuring their network airline businesses and seeking growth opportunities through lower cost point to point operations. However, IAG's execution in both of these areas has been better and this has led to its superior profit performance compared with the other two.
The year culminated with IAG's offer to buy Aer Lingus. The bid was rejected (it will likely come back), but further confirms IAG's leadership among the Big Three, not only in terms of financial performance, but also in strategic confidence to pursue consolidation. In this report, we review IAG's main strengths, weaknesses, opportunities and threats.
Ryanair lags easyJet on business traveller & customer service initiatives; both have great potential
Ryanair recently raised net profit FY2015 guidance (year to March) for the second time. It now expects EUR810 million to EUR830 million, up from its previous range of EUR750 million to EUR770 million. This was thanks to faster passenger growth, stimulated by lower fares, but also reflecting improved customer service and new routes.
The largest carrier of passengers within Europe, Ryanair has rebounded very strongly from last year's profit warnings. Almost at the flip of a switch, it has raised its load factor and profit margins. It is opening new routes from more primary airports and with greater frequencies, increasing its appeal to business passengers.
Ryanair lags easyJet in its initiatives towards business travellers and regarding wider customer service improvements. Moreover, revenue per passenger is set to dip in 2HFY2015 as it absorbs strong capacity growth. Nevertheless, Ryanair has a significant opportunity to grow revenue per passenger as it follows easyJet up the yield curve. In this report, we compare the two on frequencies, presence in major airports and unit revenues. There is still room for both.
At its Capital Markets Day in late Nov-2014, Flybe asserted that it "does not compete with low cost carriers, flag carriers or mid-haul leisure airlines". Moreover, our analysis shows that it rarely competes with other regional airlines. In fact, Flybe faces no competition of any kind on 78% of its city pair routes in its Dec-2014 schedule. Moreover, it is Europe's largest independent regional airline and Europe is the world's largest regional market.
In spite of these advantages and what looks to be a relatively efficient cost base by comparison with other European regional airlines (according to our analysis), Flybe has yet to re-establish sustainable levels of profitability. Much has been achieved since the change of senior management in 2013, but the regional airline's fundamental CASK disadvantage will remain a challenge even as it increases its focus on turboprops rather than regional jets.
The Aegean Airlines Group's string of good financial results continued with 3Q2014 operating profit increasing by more than a quarter compared with the same period a year earlier (based on proforma figures with Olympic in the comparable). Aegean is growing its capacity at a double digit rate, with particularly strong growth in the domestic market and on international routes from Athens, just as Ryanair is expanding rapidly in Greece. This has led to downward pressure on yields and RASK, but Aegean has successfully cut CASK even more quickly to drive up its margins.
Competition between Aegean and Ryanair looks set to intensify in 2015, when the battle may extend to Cyprus, regardless of whether or not one of them is successful in biding for Cyprus Airways.
As Aer Lingus will testify, having Ryanair as your nearest and biggest competitor focuses the mind. Aegean will need to prove that its recent good run can be extended.