The Economic Impact and Growth of Low-Cost Carriers within the European Aviation Industry - Case Study Example

The Economic Impact and Growth of Low-Cost Carriers within the European Aviation Industry by Prof. Nicholas Bergan Economics of Air Transportation Embry-Riddle Aeronautical University July 18th, 2015 Abstract The airline deregulation act was signed in 1978 in the United States and it was the “open door” for many airlines to start competing with each other. However, this law did not occur in Europe, the “liberalization” of air travel happened in different phases. Above all, liberalization had not driven to drastic changes in the European airline industry, like in the US after deregulation was established, but it did brought changes economically speaking to the European Union (E.U). At the beginning, the E.U granted air carriers to have more freedom to adjust fares and cast new services, later they proceeded gently to raise all services and marketing censorship. The low-cost carriers (LCC) were introduced in the aviation European market by EasyJet and Ryanair which were created in the nineties in Ireland and the United Kingdom. Later on, more low-cost carriers were formed such as GermanWings, Vueling, Transavia and others. Their vast achievement was attributed to the accessible ticket fares offered by the low-priced airlines to their customers. Nowadays, LCCs have a powerful presence in each market division across the E.U and also the United Kingdom with one third share of the domestic flights in the aviation industry. This research paper will examine how the LCCs have had an economic impact and its strong growth versus major carriers within the European aviation industry. Table of Contents Abstract 2 Section One: 3 Examination of LCC Business Layout and its overall Growth 3 A summary about the history of LCCs in Europe 5 The Low-Cost carrier Business Model 7 The outcome of LCCs growth on the domestic airline market 9 Section Two: 10 The Economic Impact of LCC in the European Aviation Business 10 References 13 Section One: Examination of LCC Business Layout and its overall Growth The low cost carriers sector was established in 70s to enhance passenger flows and transport infrastructure in the Aviation industry. The low-cost carriers (LCC) were introduced in the aviation European market by EasyJet and Ryanair, which were created in the nineties in Ireland and the United Kingdom. Later on, more low-cost carriers were formed such as GermanWings, Vueling, Transavia and others. Their vast achievement was attributed to the accessible ticket fares offered by the low-priced airlines to their customers. It is also referred to as the low cost airlines or the discount airlines offering lower fares and provides lesser passenger comfort. It began with the “American domestic carrier Southwest” as a means of offering cheaper fares to the consumers and this opened a way for the low cost airlines in the global market share. This saw the major carriers establishing personal subsidies that could provide reduced fares in order to get back the lost consumers (Alderighi, Cento, Nijkamp, & Rietveld, 2012). In 1978, there was signing of the airline deregulation act in the United States, which led to opening of the way for entrance of many airlines in the market. However, the law was not seen in Europe, because the liberalization happened into different phases. Ryanair is among the airlines that have changed their operations because of introduction of no-frills. To make up for the revenue lost through reduction of the fares, there is extra charges in seat allocation, food, baggage, and priority of boarding. The growth has been seen through the advertisement of the LCC, marketing, and maintenance of quality of the products. There was also reduction of efficiency and increment in complexity through catering for things like video entertainments, basic beverages, internet services, and beverages. In the current market, LCCs have a strong presence in different market segments (Alderighi, et al. 2012). A summary about the history of LCCs in Europe The first European low-cost carrier, RyanAir, did not begin as a low-priced airline; its main objective was to transport business travelers in domestic flights throughout Ireland. A wealthy Irish family, the Ryans, who were desperate to revive their small airline, which was facing losses of £20 million pounds, established it in 1990. Southwest Airlines, the biggest LCC in the US was the inspiration business model to Michael O’Leary, the chief financial officer, who re-launched RyanAir as a low-cost carrier in the mid 1990’s. Above all, liberalization had not driven to drastic changes in the European airline industry, like in the US after deregulation was established, but it did brought changes economically speaking to the European Union (E.U). At the beginning, the E.U granted air carriers to have more freedom to adjust fares and cast new services, later they proceeded gently to raise all services and marketing censorship. Subsequently, EasyJet was founded in 1995 by Stelios Haji-loannou, another entrepreneur, who was also motivated to begin an economical carrier in the UK based on the low-cost American carrier business model. Afterward, both airlines had an enviable success in their profit and began growing not only in the UK but also, within the European Union. Now, EasyJet flies 60.5 million passengers a year on more than 612 routes across 30 countries. (Thomas, 2013) As of 2015, RyanAir has carried 87 million passengers and operates over 1,600 routes and 1,600 flights per day. (RyanAir Facts & Figures, 2015) Today, there are over twenty LCCs within the European Union and the United Kingdom together. They were created as a result of the need to meet the travelling interests of the customers. The European market across the E.U and the United Kingdom is characterized with one-third share of the domestic flights in the aviation industry. This issue makes the European community to benefit from the free flights offered by Ryanair, thus remaining more active in the European Aviation sector conducting the LCC business. The Low-Cost carrier Business Model The contemporary LCC business model was designed and created in 1970 by Southwest Airlines and have been also used by European LCCs as their business exemplary. Table 1 demonstrates a comparison between the LCC and the FSC business models which is divided into product characteristics and operating characteristics.   Full-Service Airlines Low-Cost Carriers Product Characteristics     Distribution Low direct sales, high dependency on travel agents. High direct sales, low dependency on travel agents. Tariff structure Multiple tariff structures with various restrictions. Basic tariff structure. Route configuration High frequency Hub and Spoke route configuration. High frequency Point to Point route configuration. Seating Multiple classes (ex. Economy, Business, First) and Pre assigned seating. Single class and unreserved seating. In flight Food and in-flight entertainment. Snacks and light beverages, no flight entertainment. Frequent Flyer Frequent flyer program. no frequent flyer program offered. Operating Characteristics     Airport Main airport with major international connections. Secondary airport which facilitates fast turnaround of the aircraft. Trip Length Medium to long. Short to medium. Aircraft Multiple aircraft types and low utilization of aircraft. (9 hrs/day) Single aircraft type, high utilization rate. (12 hrs/day) Staff High wage but low productivity. No profit sharing. Competitive wage, profit sharing plan and highly productive Employees. As exposed in Table 1, this business model for low-cost carriers is demonstrating how the main objectives of LCCs are to be efficient in productivity and to maintain simplicity in their modus operandi. The way they manage their seating procedure by not having multiple classes with mixed seat density, evidently proves they focus in reducing cost and increasing production. There are some common practices in all regions while others are found in some specific regions and not in others. The aircrafts operate as a single type through short-haul flights and development of one or more bases for maximum coverage of the destination. There is simplicity in the fare scheme and the carriers generate some ancillary revenue through different activities. This is because payment of fare by travelers is made during the time of traveling and not in advance, as it used to be. The personnel costs are limited with employees playing multiple tasks because of reduction of complexity on the airlines’ operations where training became easier and the tasks to be played reduced (Budd, Francis, Humphreys, & Ison, 2014). There are principles followed in the operation with some airlines resorting to some innovative practices. The airlines operate through differentiation of their products for them to be competitive in the market (Alderighi, et al. 2012). Furthermore, there is operation through a dynamic pricing policy where the entire airlines have to follow a specific pricing policy to make their charges. The outcome of LCCs growth on the domestic airline market In the domestic airline market, the LCC’s growth led to many airlines serving the domestic market because of the increased revenue in the domestic routes. This is because in the domestic routes the passengers are guaranteed greater comfort compared to oversee passengers because of the increased number of seats. Market penetration is also deep and this allows the carriers to cut the flights and abandon some services to some cities and to close some hubs (Budd, et al. 2014). The domestic airline market has reported profits because of expansion of the routes. The low-cost carriers carry around 15% of the domestic traffic and there is provision of permission to some new airlines to operate in the domestic markets. The dramatic growth of the LCC allows many carriers to lower their prices thus making the flight travelling more attractive to many people travelling in different areas (Alderighi, et al. 2012). However, some domestic airlines make losses because of not being in a position to meet the revenue target and not being big enough to carry many travelers in a single route. Provision of discount in the domestic airline market attracts many travelers since it became affordable to many travelers. However, the domestic airline faced severe financial problems once the other airlines would operate even in the domestic routes, thus increasing the competition in the market (Budd, et al. 2014). The freedom of adjusting fares was also affected since the domestic airlines have to operate through the set fare range for them to continue being operational in the aviation market. There was reduction of the traffic diversion within the domestic routes because of consistent operation of the carriers in those routes. On the other side, some routes experienced increased traffics because of reduced fare, which led to increment in the number of travelers. The entry into the domestic aviation market became easier and this lead to increased number of airlines (Alderighi, et al. 2012). The destination prices had direct interaction with the international flights not operating through the low-cost carrier routes, thus leading to development and growth of the airports. Section Two: The Economic Impact of LCC in the European Aviation Business Development of LCC in the European Aviation Business is associated with a number of economic outcomes, that is; There is reduction of the distribution costs since distribution process is made faster and easier from the fact that the LCC led to fleet standardization, and made the personal planning to be more flexible. The costs incurred in the form of personnel training, spare parts, and maintenance were reduced because the single transport class and direct flights reduced the probability of the airplanes getting bad. There is also reduction of the labour costs because of employment of fewer workers who would play multiple tasks at the same time and employment of less administrative staff people to supervise their operations (Budd, et al. 2014). This also reflects to personnel training since few workers are supposed to be trained on how to operate different roles. There was also increased frequency of flying and this led to collection of increased revenue and reduction of errors during the process of seat reservations, thus improved economic operations. The reduction of handling time and usage of cheaper airport taxes made the in-flight carriers to collect more revenue and to have reduced costs and expenses, thus increased profits. It is perceptible that the availability of more attractive LCCs led to increased demand of flight, thus becoming favorable to the airlines’ budget and improved staff training and internal, as well as external communication (Alderighi, et al. 2012). The experience of acquisitions and mergers made networking easier, economical, and more efficient. Expansion of travelling routes led to reporting of increased profits from the enlarged profit margins. Tourism development is a significant impact seen from the development of LCC in the European Airlines and this opened many chances of people to conduct their activities oversees. The European aviation market expanded its rooms after facing increased competition from the Ryanair and EasyJet among other players in the market (Alderighi, et al. 2012). Operation of many Niche market made the European Aviation market become more famous and gaining trust from its consumers. There is also a chance to invest the report profits in offering other services like beverages and foods to the travelers and this allows the aviation industry to collect more revenue and to enhance customer satisfaction, thus gaining competitive advantage in the aviation market. The EU capacity restrictions allowed reduction of environmental and travelling issues (Budd, et al. 2014). In addition, the licensing process became easier and cheaper for the airlines to effectively continue with their operations. The reduced dependence on the travel agents also led to reduction of costs and collection of full payments direct from the travelers to the airlines. Additionally, the secondary airport utilization enhanced quicker turnaround of the aircrafts, thus making the traveling more efficient. References Ferdinand, M. (2001). Consequences of E.U. Airline Deregulation in the Context of the Global Aviation Market. Northwestern Journal of International Law & Business, Volume 22(1), 31-31. 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