Journal of Air Transportation World WideVol. 5, No. 1 - 2000FLYING LESSONS!LEARNING FROM RYANAIR'S COSTREDUCTION CULTUREDr. Thomas C. LawtonRoyal Holloway University of London, UKABSTRACTThrough radically improving the value equation for airline customers. Ryanair bas served toshake-up established norms and practices in European aviation. Underpinning its price leadership and market success is a vigorous and relentless cost reduction ethos and resultant low breakeven load factor. Ryanair has lowered European airline cost structures considerably shatteringexisting cost floors. Few competitors are able to follow, either because they do not know how orthey are unable due to social settlement obligations or service commitments. At the same time,the company has maintained high average load factors on its flights. Taken in conjunction withits low break-even load factor. this results in consistently high overall profit margins. On thisbasis Ryanair is likely to t:emain a significant competitor and increase its market presence andsuccess across Europe.INTRODUCTIONThis paper examines the cost reduction techniques of one of Europe'smost successful low fare airlines, Ryanair, and advances an operationalmodel for other small and medium-sized carriers in Europe. Section oneexamines the Southwest Airlines-Ryanair cost reduction model andadvances it as a prototype for low cost competition in Europe. The secondsection comprises a critical assessment ofRyanair's cost reduction methodsand their success in terms of achieving a consistent decline in unit cost. Specifically, the following two questions are addressed: first, how authentic arethe cost reduction methods pursued by low fare airlines such as Ryanair andare these techniques sustainable over time and in the face of vigorous competition? Second, what best practices can Europe's low fare airlines emulatefrom the Southwest-Ryanair model? The main argument advanced is thatthrough refining the set of techniques of U.S.-based Southwest Airlines,Thomas Lawton is a Lecturer in European Business and Corporate Strategy at the School ofManagement. Royal Holloway University of London. He holds degrees from University CoUegeCork and the London School of Economics and has a doctorate in international political economy from the European University Institute [email protected], Aviation Institute, University of Nebraska a Ornaha.
90Journal ofAir Transportation World WideRyanair pursues an authentic and successful cost reduction strategy. Thisenables the company to redefine European airline cost structures and floorsand consistently provide the lowest prices and best value to its customers.Through emulating Ryanair's best practices, European low fare and regionalairlines can strengthen their market position and remain a viable competitivechallenge to the larger, more established airlines.Despite the cyclical nature of the airline industry, the European marketappears to be buoyant.' The U.S. experience indicates that the large numberoflow fare carriers that emerge in the wake of market deregnlation will dwindle over time and only a handful will ultimately survive. Many are driven outof business by insufficient access to landing slots or by predatory activity onthe part of larger airlines. Others simply cut prices further than they canafford, effectively pricing themselves out of the market. This is likely to happen in Europe too, particularly with the 1998launch of British Airway's lowcost subsidiary. It is not yet clear which of the cheap carriers will triumph.Ryanair would appear to be a front runner for survival and growth. What isevident is that a place in the market will be assured for cost efficient and reliable low fare airlines. As Ames and Hlavecek argue, long-term market success is mainly attributable to being a lower cost supplier than all othersproviding equivalent products or services (1990, p.l40). When product distinction fades, as it will inevitably for Europe's low fare airlines, being thelow price leader will be one of the few means of achieving sustainable advantage.The next section will analyse the reasons for Ryanair's likely long-termsuccess and the lessons that might be provided for other low fare companiesattempting to create sustainable advantage. This analysis begins by examining the cost reduction model pioneered in Europe by Ryanair, based on thatdeveloped by the U.S.-based Southwest Airlines in the 1970s.THE RYANAffi-SOUTHWEST AIRLINES MODEL:A PROTOTYPE FOR LOW COST COMPETmONSouthwest's Formula for SuccessCommencing service in 1971 with three Boeing 737-200 aircraft andflights to Houston, Dallas, and San Antonio, Texas, Southwest Airlines hasgrown to become the fifth largest U.S. airline, flying over 50 million passengers a year to fifty-two cities around the U.S. Year-end resnlts for 1998marked Southwest's twenty-sixth consecutive year of profitability and itsseventh consecutive year of record profits.2 Southwest became a major playerin 1989 when it exceeded the billion-dollar revenue mark. The company wasthe only major U.S. airline to make net and operating profits during the firstthree years of the 1990s, when the U.S. airline industry experienced a major
Lawton91downturn in growth and sales revenue. Southwest is the U.S.'s only majorshort haul, low fare, high frequency, point-to-point carrier.Southwest Airlines serves price and convenience sensitive travellers. Theessence of its strategy is in the activities--choosing to perform activities differently or to perform different activities than rivals. For instance, Porter provides evidence that Southwest tailors all its activities to deliver low-cost,convenient service on its particular type of route. Through fast turnarounds atthe gate of only fifteen minutes, Southwest is able to keep planes flyinglonger hours than rivals and provide frequent departures with fewer aircraft(1996, p.64). Southwest does not offer meals, assigned seats, interline baggage checking, or premium class of service. Automated ticketing at the gateis thought to encourage some customers to bypass travel agents, allowingSouthwest to avoid agent commissions. A standardised fleet of737 aircraftboosts the efficiency of maintenance.Southwest has staked out a unique and valuable strategic position basedon a tailored set of activities. On the routes served by Southwest, a full serviceairline could never be as convenient or as low cost (Porter 1996, p.64). Collins and Porras argue that genuinely successful companies understand thedifference between what should never change and what should be open forchange, between what is truly untouchable and what is not (1996, p.66).Southwest is an example of such a company, regularly innovating and constantly differentiating itself from the competition but resisting the urge totamper with the fundamental features of their strategy formula.Southwest's rapid gate turnaround, which allows frequent departures andgreater use of aircraft, is essential to its high-convenience, low-cost positioning. This is achieved in part due to the company's well-paid gate and groundcrews, whose productivity in turnarounds is enhanced by flexible union rules.The bigger part of the answer lies in how Southwest performs other activities.With no meals, no seat assignment, and no interline baggage transfers, Southwest avoids having to perform activities that slow down other airlines. Itselects airports and routes to avoid congestion that introduce delays.The Southwest model is not necessarily easily transferable. Continentaland United Airlines both attempted to copy the Southwest model for theirlow-cost U.S. subsidiaries. They were able to duplicate the route structureand other observable and quantifiable elements but they failed to emulate theSouthwest culture (or organisational capabilities)-the key to its success(Couvert. 1996, p.61).Ryanair: The Southwest of EuropeFrom its inception, Ryanair has purposefully and openly emulated theSouthwest formula-albeit in a form 'refined' for the European context. Withthe advent of European airline liberalisation, many more low cost carriers
92Journal of Air Transponation World Widehave entered the market. Companies like Virgin Express, Debonair, and easyJet also pursue a low fare, no frills service. They, like Ryanair, look for airports with lower charges and shorter turnaround times, with little concern forinterline connections. However, as the UK Civil Aviation Authority pointout. the underlying approach of these companies seems generally more likethat of ValuJet in the U.S. than of Southwest. Most visibly, they place lessemphasis than Southwest or Ryanair on providing a high frequency of operation in all of the markets they serve (CAA 1995, p57). Most of the other startup airlines such as Jersey European Airways, Spanair, EuroBelgian, and AirSouthwest, also offer a limited service and operate on a small number ofroutes. Therefore, it may be argued that Ryanair is the only true Southwestclone operating in Europe (although easyJet is rapidly gaining ground). Thisis sustained in a report conducted by U.S. equities research finn, theRobinson-Humphrey Company, who conclude that:Ryanair is the Southwest Airlines ofEurope .in its current stage of developmentin the European market. Ryanair s market position is analogous to that of Southwest in 1978 when it operated within the state of Texas only. It has the remainderof the United Kingdom Continental Europe, and Scandinavia in which to expand(1997, p.l).Like Southwest, Ryanair has a single fleet type, the Boeing 737 aircraft,and is the lowest cost scheduled operator on all its routes. It has high annualised load factors system-wide and unique low cost franchises (aircraft, suppliers, staff). The company's effective use of outsourcing has numerousbenefits, serving to lower its long term capital investments, increase its flexibility, and significantly leverage its key capabilities (Quinn and Hilmer 1995,p.63).Ryanair meets all of the criteria listed as requirements to be a EuropeanSouthwest (Figure 1), with the possible exception of not invoking vigorouscompetition with a major carrier on its core routes. On the Dublin-Londonroute in particular. Ryanair has gone head-to-head with Aer Lingus in thecompetition for air traffic. Whilst not initially flying to the same London airports (Stansted versus Heathrow), Ryanair did pose a significant threat to AerLingus's dominant position, prompting the state carrier to launch a low costcompetitor in the form of Aer Lingus Commuter. Ryanair managementargues that this offshoot carrier does not pose any significant challenge tothem and that they are in fact usually vying for different market segments. JCommentators point to a number of infrastructure problems that make itdifficult to apply the Southwest model to the European air transport market.These include the high costs of European air traffic control, and landing andground handling fees (Guild 1995, p.68). Ryanair has largely overcome suchcompetitive impediments through negotiating deals on fees with airportauthorities, particularly those seeking to increase their rate of air traffic. The
Lawton93Figure 1REQUIREMENTS FOR A 'EUROPEAN SOUTHWEST'1:1 Must operate in market where substantial growth is possible0Needs to ope ate from secondary airports, where it may be possible to negotiate·deals with the airport authority0Avoid attacking strong major carriers on their core routes-they will have to respondCl Costs, cosls, costs are THE focusCl Be innovative; there is not just one formula for low-cost carriersReproduced from Sara guild. 'Not so easy,' Airline Business, p. 71, 1995.company has proven that the Southwest model can be applied in Europe, and,like Southwest, it has operated in what may be termed a niche market for thefirst few years, 'getting it right,' according to CEO O'Leary (Guild 1995,p.73). Once this base was consolidated, it was only a matter of time beforeRyanair would embark on the next step ofthe Southwest strategy: expansion.Ryanair is the European pioneer of low fares, no frills service and consistently delivers the majority of growth in all markets in which it operates. AMorgan Stanley report illustrates that typically passenger traffic on a routegrows at an enormous rate after Ryanair's entry, often doubling or even trebling the existing traffic within a few years (1997, p.l5). The airline pursuessteady route network expansion: five Ireland-UK routes in 1992, which hadgrown to eight by 1994 and twenty-seven by 1998. Ryanairhas certainly beena causal factor in the growth of traffic on major routes such as DublinLondon. In the decade prior to Ryanair's launch, passenger numbers on thisroute grew at a minuscule rate, going from 800,000 to around 1 million people per annum. Since 1985, this figure has soared, reaching the 4 millionmark by the late 1990s. Similar growth rates are evident on other routes suchas Dublin-Manchester and Dublin-Glasgow.Ryanair has no formal association with Southwest but possesses manyinformal links. The company believes that it is more low-cost and moredriven by low cost strategy than Southwest. Ryanair management acknowledges though that this may be a time factor--Southwest is established longerand not as eager as Ryanair is to expand and grow.Southwest and Ryanair's aforementioned rapid gate turnaround, whichallows frequent departures and greater use of aircraft, is essential to theirhigh-convenience, low-cost positioning. The main factor behind this is theway in which the companies perform other activities. With no meals, no seatassignments, and no interline baggage transfers, they both avoid having to
94Journal of Air Transportation World lVideperform activities that slow down other airlines. They select airports androutes to avoid congestion also, thus further decreasing the likelihood ofdelays. Possessing a standardised fleet further contributes to this advantage.Thus, Southwest and Ryanair's competitive advantage derive in large partfrom the way their respective activities fit and reinforce one another. As Porter ( 1996) argues, fit locks out imitators by creating a chain that is as strong asits strongest link. Southwest/Ryanair's activities complement one another inways that create real economic value and achieve substantial cost reductions.Southwest's sense of regional focus (on the southwestern United States)and its development of its route network from that base, is also key to its competitive advantage (Couvretl996, p.63). Similarly, Ryanair's regional focusis the UK/Ireland market and although it has begun to branch out from thereto other parts of Europe, its focus on the home base remains clear and committed. As long as this continues, Ryanair will not be seriously threatened bycompetitors seeking to emulate its success. A danger may be if Ryanairexpands too far, too quickly-losing sight of its regional base and enteringinto an industry position where it may be in danger of being sandwichedbetween the large, global carriers and the more focused regional carriers.Southwest has developed well beyond its original focus of the southwesternUnited States, offering services to other geographical locations such asBaltimore-Washington and Florida. There is no reason why Ryanair cannotdo the same, provided its new routes are built on the solid base ofhorne territory.A COST STRUCTURE ANALYSIS OF RYANAIRThe logical next step in this analysis is to examine Ryanair's cost structureand clearly establish the authenticity of its cost reduction tactics. Are loweroperating costs achieved through a genuine strategy of lowering the cost offuel and ticketing or in-flight services and increasing productivity levels, orthrough an artificial form of cost reduction based on, for example, salaryfreezes or introducing more part-time positions? How sustainable is theRyanair model if lower costs are achieved through lower service standardsand lower wage rates? In addition, the author will explore the management ofairline cost drivers. Holloway (1997) describes this as, in large part, the interplay between improved asset utilisation and increased employee productivity:Unit costs are influenced by the absolute level of input prices and by the productivity of inputs used. High productivity can go some way towards countering theadverse impact of high input prices. but the ideal is clearly to combine in a singleproduction process both high productivity and low input costs (Holloway 1997.p.l88).
Lawton95Previous studies support the argument that factors such as the number ofaircraft types in a fleet, the range of markets served, remuneration packages,the level of service, and traffic charges, all contribute to higher operatingcosts for airlines (Seristo and Vepshlainen 1997, p.12). On the first of thesevariables for instance, evidence derived from Seris 0 and Vepshlainen 's studyof forty of the world's largest airlines shows that airlines with the most uniform fleet (Southwest, Singapore, Cathay Pacific) also have shown some ofthe best results in recent years. One reason for this is that:the higher the number of aircraft per aircraft type. the smaller the number of flightcrew needed per one aircraft. This again would imply that the more uniform thefleet of airline, the more efficiently the airline can utilise its pool of pilots (Serismand Veps liiinen 1997. p.l7).In addition to lower overall maintenance costs, a uniform fleet leads tosavings in flight operations costs. Ryanair operates a single type aircraft fleet,comprising only Boeing 737s. Consequently, its overall employee per aircraft ratio is one quarter that of its traditional rival, Aer Lingus.4Moreover, the company serves a limited number of markets, linksemployee salaries to performance, provides a basic-no frills service, andincurs the minimum in traffic charges. It therefore meets many of the criteriadeemed necessary to bring about an authentic reduction in its operating costs.Since 1995, Ryanair has managed to reduce costs annually in all areas ofexpenditure, with the exception of personnel and depreciation. 5 Increases indepreciation reflect the increase in the number of aircraft operated by thecompany (an average of 17 during 1997, compared to 11 during 1996 forexample).It should be noted that in parallel with a rise in overall operating expenses,Ryanair witnessed a significant increase in overall passenger numbers and inthe number of routes served. The route network more than tripled between1995 and 1998. During the period 1995 to 1998, Ryanair's annual number ofpassengers increased from 2.3 million to just over 4 million. Equating thesenumbers with the comparable annual operating expenses to get a rough average of expenses per passenger head, demonstrates that the airline has in factsucceeded in successively lowering its operating expenses.Checking for Consistency in Cost ReductionFigure 2 lists the areas in which Ryanair has successfully pursued costreductions. Some, such as maximising aircraft utilisation, are not particularlyinnovative and can be emulated relatively easily by competitors. Other techniques, such as the no frills service or offering a through service with no baggage interlining facilities, are more difficult to copy, particularly for largercarriers with reputations for high quality service.·
96Journal of Air Transportation World WideFigure2Ryanair's Cost Reduction Techniques1. Secondary airports (lower charges and less congestion means airline canincrease punctuality rates and gate turnaround times).2. Standardised fleet (lower training costs and cheaper parts and equipment supplies).3. Point-to-point services ( direc non-stop routes through-service with no waitingon baggage transfers).4. Maximise aircraft utilisation (fewer aircraft used to generate higherleads to higher passenger capacity and greater staff productivity).revenue 5. Cheaper product design (no assigned or multi-class seating; no free food ordrink).6. No frequent flyer programme (costs money to manage andtoimplement).7. Non-participation in alliances (code sharing and baggage transfer services lowers punctuality and aircraft utilisation rates and raises handling costs).8. Minimise aircraft capital outlay (purchase used aircraft of a single type). 19. Minimise personnel costs (increase staff-passenger ratio; employee compensation linked to productivity-based pay incentives).10. Customer service costs (outsource capital intensive activities. e.g. passengerand aircraft handling; increase direct sales through telephone reservation system).11. Lower travel agent fees (reduce associated travel agent commission - 9 to7.5%).This cost reduction technique is no Ionge valid in light of"Ryanair's 1998 order for 45 new air-1croft.Ryanair configures its aircraft with 130 seats, with very little space dedicated to anything else other than a bar and duty free service. By optimisingthe space available for seating, the airline achieves about a 30 percentincrease in seating compared to Aer Lingus. The company now has a twentyfive minute gate turnaround, compared with thirty minutes in 1996. Thisincreases aircraft utilisation and flight crew efficiency and productivity byabout 15 percent. This means for instance that on the Dublin-London route,Ryanair can get ten flights a day, compared with seven for Aer Lingus. Mostcompanies show their fares to rise annually; Ryanair attempts to stay level oreven move down, believing that is where the future for their businessis-lower fares. more travel easier travel and more spontaneous decisions totravel.
97LawtonThe British CAA argues that Ryanair's strategy seems to be working well,particularly in terms of stimulation of new demand. They conclude that:it remains to be seen whether this concept will be taken up successfully by otherairlines or will readily trans1ate to those other markets in Europe which do nothave the rather special characteristics of that between the UK and Ireland (CAA1995, p.34).The most solid evidence for the genuine success ofRyanair's cost reduction strategy is evident in the company's cost per available seat mile (ASM)over the past number of years (Figure 3).Estimating cost, or operating expenses, per ASM is an efficient ratio forcalculating an airline's unit cost outlay. The average cost for Ryanair compares very favourably with the European industry norm and is substantiallylower than many of its immediate competitors on the routes it operates. AerLingus, British Midland, and KLM UK all have unit operating costs of aboutIR 0.15- roughly 50 percent more than those ofRyanair. Indeed, as a 1997Morgan Stanley report argues, the other European carriers can produce unitcosts equivalent to or below Ryanair's only when the average stage length(journey distance) is at least five times longer than Ryanair's. 7 This suggeststhat their unit costs on the short-haul routes, which are Ryanair's mainstay,will be substantially higher-a proposition which is borne out by the evidence. Ryanair's unit operating costs are significantly higher than most U.S.low fare carriers, most notably the low fare benchmark, Southwest Airlines( 0.14 versus 0.75). The difference is partly due to longer stage lengths inFigure3Ryanalr cost per available seat mile 94Yeart 1:1 CostSource: company dataper ASM j19961997
98Journal of Air Transportation World Widethe U.S. (521 miles average for Southwest compared with a Ryanair averageof 251 miles). It is estimated that if Southwest had an average journey lengthcommensurate with Ryanair, its cost per ASM would be in the region of 0.12. Another explanatory factor is the generally lower infrastructure costsand fuel prices in the U.S. (Morgan Stanley 1997, p.33). Estimates put operating costs in Europe at some 55 per cent higher than in the U.S. (RobinsonHumphrey 1997, p.l3). Given that carriers operating in Europe are all constrained by these factors, it is difficult to see how unit costs comparable withSouthwest could be achieved in the European industry. As such, Ryanair'scompetitive advantage in unit operating costs would appear secure.If we deconstruct the overall cost per ASM for Ryanair over a period oftime, we can establish whether or not the airline has achieved genuine andsuccessive reductions right across its cost base (Figure 4 ).Some anomalies exist in this data, e.g. aircraft rentals increased as a fraction of unit cost between 1996 and 1997. Such increases are generally outsideof the direct control ofRyanair in terms of cost control activities. Overall, thefigures illustrate that Ryanair in fact succeeds in progressively lowering mostof its costs, even in the context of a rapidly expanding route network and fleetsize and increased staff bonuses.:r--·-------Figure4Ryanalr"s operating expenses per ASMgs 6&L 4Expense categorieslc1wsSource: company financial reports 1996 01997i
99LawtonFigureSRyanair operating expenses as a percent of operating revenues1994-89.7%1996-82.2%1995- 83.4%1997-82.4%Costs have fallen faster than yields within Ryanair, allowing profits to riseconsistently. Expressed as a percentage of operating revenues (Figure 5),operating expenses declined steadily between 1994 and 1996 and increasedonly marginally in 1997, despite above average rises in personnel and maintenance costs.sThis evidently translates into steadily increasing operating profit marginsin the same period, going from 10.3 percent in 1994 to 17.6 percent in 1997.Personnel Costs: Maximising the Return on Human CapitalPersonnel costs account for the largest share ofRyanair's cost pie, as withall airlines. These accounted for 24 percent of operating expenses in 1995,23.4 percent in 1996, and 22.3 percent in 1997. Such a large fractional cost isinevitably a prime target for reduction in outlay and has been gradually paredback. In absolute terms, Ryanair's staff costs have increased each year due tothe release of accrued and unpaid staff bonuses and compounded by thegrowth in Ryanairstafffrom 698 to 988 employees during the same period.The airline is, of course, bound to have a lower staff cost compared to itslarger competitors because they have scaled down operations (their networkis not as extensive) and the company has implemented more performancerelated pay schemes. It has to be noted that personnel costs are an area whereRyanair has focused particular attention on cost cutting. For example theyoutsource their maintenance and customer service activities, other than cabinand flight crews. This move alone has reduced their headcount considerably,and provides an advantage over their competitors who bear the full cost oftheir own customer service, although their competitors are offering a fullservice to their customers which may well mean having to carry out their owncustomer service activities. Such outsourcing of customer services has drawbacks also, with Ryanair passengers often are not receiving the same degreeof support service which customers on competitor airlines receive.On employee productivity, Ryanair again fares well (Figure6). This is oneof the most significant differences between Ryanair and other airlines. Thegraph clearly shows the astounding differences between the airlines.These figures indicate overall that Ryanair generates more money peremployee than its competitors, in part by utilising their aircraft more effec-
100Journal of Air Transportation World WideFigure 6EMPLOYEE PRODUCTIVITY, 1996 versus 19971996Employees per aircraftRevenue per employee (IRU)Passengers per 01185!86116873,9674,3776662,24788Source: Ryanair internal company documenlS, 1997.tively and therefore generating more revenue, which thereby means a greaterreturn is made for the initial asset cost. The company also employs the capitalinitially invested so well that they receive more return on that investment byincreasing its value.The main conclusion to be drawn following consideration of companyaccounts and other financial information is that Ryanair has managed to holddown their employee costs and maximise productivity, largely throughperformance-related pay schemes. Considering that this particular cost istheir largest outlay, its control would probably have a significant impact onthe profit margins. Nonetheless, Ryanair is more efficient in its operations,compared to many competitors, despite its scaled down operation.Operational and Relational Cost ReductionsIntemal company sources indicate that Ryanair is targeting all areas forconstant cost reduction but distribution is under particular scrutiny. Thisincludes computerisation systems, ticketing systems, travel agencies costsand internal reservation costs. Maintenance is another area targeted for constant cost reduction. A long-term strategic relationship exists with providerssuch as Lufthansa and Airmotive Ireland. Giving them large volumes of extrawork, and on that basis, Ryanair expects to see significant reductions in theirunit costs.The company is also unhappy with current airport and handling costs. Themanagement believes that there is always room for further cost reductions.Many smaller, expanding airports (e.g. Boumemouth) offer much betterdeals than do the likes of Stansted. These airports benefit by having a muchhigher volume of traffic. Ryanair drives a hard bargain because they believethat airports have relatively low cost margins and can provide a low tariff forhandling and landing costs. Airports can and should concentrate on earningprofits from the revenue generated by passenger traffic. For instance, it isestimated that the average spent by Ryanair customers in Boumemouth Air-
Lawton101port is over st 20. Airlines should get the cost base and airports get the revenue base. The lesson to be learned is that airports should provide the lowestpossible tariffs to airlines and focus on the airlines' passengers for profit generation. A mutu
Lawton 91 downturn in growth and sales revenue. Southwest is the U.S.'s only major shor