t Ryanair Eleanor R.E. O'Higgins This case describes the strategic challenges faced by the budget cartier Ryanalr In early 2004. Ryanair was the most successful aidine in Europe in terms of profitability and market capitalisation. The case offers a chance to analyse the reasons for Ryanair's success and asks If Ryanair’s strategic business ‘mode! and its manner of implementation will be robust enough to withstand the challenges it faces in its competitive arena, tho European airline industry. The caso invites the reader to devise and evaluate strategic options for the company and its leadership. A rough landing? A shock profits warning Barly 2004 was not the best of times for Ryanair. On 28 January, the airline issued its first profits warning and ended a run of 26 quarters of rising profits. On that day, when the markets opened, the company was worth €5bn. By close of business, its value had shrunk to €3.6bn, as its share price plunged from €6.75 to @4.86. Investors were dis- mayed by the airline's admission that it was fac- Ing ‘an enormous and sudden reduction of 25 to 30 pet cent in yields, ie., average fare levels, in the first quarter of 2004 (the last fiscal quarter of 2004).* This was on top of an earlier fall of 10 to 15 per cent in the frst nine months. Moreover, despite the low fares, the alrline’s load factor (the proportion of available seats that are filled) in January had fallen from 76 per cent to 70 per cent, year-on-year. In April 2004, Michael O'Leary forecast an ‘awful’ winter for European airlines, amid continuing fare vars and a shake- ‘out among the many budget airlines. ‘We will be helping to make it awful’, warmed Mr O'Leary, as he announced an 800,000 free seat giveaway. * Done, K, ‘janis dream comesto an en, Phan Tes, 29 Jaary 2001, The most dificult markets were predicted to be Germany and the UK regions where many new carriers, which were ‘losing money on an heroic scale’, had entered the arena? C'Leary predicted that the company’s 2004 profits would dectine by 10 per cent, while 2005 profits would increase by up to 20 per cent with a 5 per cent drop in yields, However, if yields were to fall by as much as 20 per cent, the 2005 outcome would be break even, at best. ‘The airline had certainly been punished by investors for its fall from grace. It was the second ‘worst performer in the FISE Eurotop 300 index up to the end of April 2004, So, had the famous profitable Ryanair low fare formula to fll seats finally ran out of steam? EU ~ competition or anti-competition Investors (or ‘disinvestors}) were also put off by a decision from the EU Commission in February 2004, which ruled that Ryanair had been receiving. iMegal state subsidies for its base airport at publicty- ‘owned Charlero! Atrport (styled as Brussels South by Ryanair). Of course, it was not only the Chaslerot decision but the precedent it could set Done, "O'Leary forecast nfl rink for Buropen ai ae’ Financial Ths, 21 pl 2008, ‘This case was propared by Eleanor RE. O'Higgins, University College Dublin, Repubic of Ireland. Is intended as a basis {or class discussion and not 2s an ilustiation of ether good or bad management pri to ba reproduced or quoted without permission, coe, © Fleanor O'Higgins, 2004. Notthat was of concern, Other deals swith public al ports would come under serutiny, although the vast majority of the adline’s slots were at private airports. Also, it was estimated that Ryanalr would have to repay between €2.5m and €7m to the regional government. Ryanair appealed the deck sion, but also threatened to initiate state ald cases and complaints against every other aletine flying Into every state alrport which offer concessions and discounts, Aitport fees comprised 19 per cent of Ryanalr’s operating costs and were deemed to be an Inherent patt of the airline's low-cost model ‘Thus, Ryanair wamed that there was no mid-cost alternative model. Ryanaie's sense of outrage about the EU ruling against the Charleroi deal and Michael O'Leaty’s opinion that it would set back low fares travel for customers was not shared by others in the aviation industry, as rival low fares carriers anid full service arlines publicly welcomed the decision. Indeed, one could have conclucled that other artines took positive pleasure atthe dis comfoit of their formidable foe ‘The subject of the EU decision was based on nnon-discrimination legislation. preventing alzports from offering differential deals to different airline operators, and by an embargo on state subsidies to alrlines, Tneited by Ryanair rivals such as Air France, Virgin Express and Fasyjet, Ryanatr's deals With regional alrports had caught the eye of the EU ‘Transport Commissioner, Loyola de Palacio, An BU investigation. was launched in late 2002 as to whether Ryanair had been In receipt of ilegal state subsidies since Its year 2000 establishment of a base at Charleroi, Apparently, the EU Commission hhad been shocked by alleged offers of a 50 per cent landing fee discount to €1 per landing passenger and an even larger handling fee discount 10 €1 Instead of €8 to €13 charged to other alines, push: Ing the fee below cost. The alzport also provided a contribution of €4 per passenger for promotional activities for 15 years. This was on top of initial Pyanair incentives of €1.92m for opening new routes, €768,000 in reimbursements for pilot training and €250,000 for hotel accommodation costs. Ryanair and the Wallonian authorities staunchly defended the deat on various grounds. In an article in the Financial Tinves, Michael O'Leary asserted that the Ryanair deal at Charlerol complted with FU state aid rales because Ryanair pad a fee for every passenger, and the ailine was not a net recipient of subsidies. The dal taken up by Ryanair was transparent and available to all Its competitors. Many of those complaining, such as Virgin Express had shown no Inclination to avail themselves of the Charlerot offer, Instead, they tried to protect thelr position at the costlier Zaventem Brussels aizport by eliminating Ryanaic from the competition equa- tion through EU intervention, Michael O'Leary argued that the state aid rules allow the Wallonian government to stimulate traific at an unused airport facility in exactly the same way that every private airport reduces its charges if it shes to grow its business? At one point, Ryanair threatened to pull out of Charlerol, ifthe decision went against them, The airline had already shown itself willing to abandon an alzport if terms and conditions do not work ‘out in its favour. In August 2003, Ryanair ceased operations at Strasbourg aller losing a court case brought by Air France. The verdict, under appeal by Ryanair, determined that Strasbourg had ille sally provided Ryanair with €lm assistance to set up the service. Nevertheless two months after the Charlerot verdict, Ryanair confirmed that It had agreed a new deal there. It would Keep flying all ARS LL routes from Charleroi, continuing existing airport and handling charges until the: airport, which accommodates 1.8m passengers a year at present, teaches 2m passengers a year. The Jegality of the new arrangement was apparently under: pinned by adjusting local taxes for all caters. Ryanair maintained that the new arrangement was in line with private investor principles applied by the Commission, Meanwhile, the Walloon author- itles intended to ensure that the discounted levies would be made available to other aidines too. However, the EU Commission was not readily con- vinced and initiated an Investigation of the new settlement. > aaiehael O'Leary in defence ofthe low-faesilinerevoTuton luonil Tins, 20 Novernbee 2003, 833,834 Ryanair On another front, the EU had devised new rales to cover overbooking that result in boarding, denials: to passengers by airlines. Air travellers bumped’ off overbooked fights by KU alrlines would receive automatic compensation of be- tween €250 and €600. Compensation might also be claimed when flights are cancelled for reasons that are the carriers responsibility, provided the passengers have not been given twwo weeks’ notice ‘or offered alternative lights, Passengers would also be reimbursed when they face a delay through cancellation of at least five hours, receiving hotel accommodation when cancellation forces them to stay overnight, and meals and refreshments for shorter delays. The Association of European Airlines (ABA) was concerned that the new rules ‘Would increase the burden on EU careiets, especl- ally in relation to US alilines that continued to receive subsidies from Washington, post-September 11, Ryanair declared that the new rules would not have a big impact on its operations, as it did not overbook its fights, and had the fewest number of cancellations and best punctuality record In Europe. It suggested that if the BU is serious, it should just outlaw the practice of overbooking. One thing after another A few days prior to the BU decision, on 30 January, at the Central London County:Court, a disabled man won a landmark case against Ryanatr after it charged him £18 (€25) for a wheelchair he needed, at Stansted to get from the checkin desk to the aircraft, The passenger was awarded £1,336 (€2,400) in compensation from Ryanair, as the UK based Disability Commission said it may launch a class action against the airline on behalf of 35 other passengers. Ryanair's immediate reaction was to levy 70c a flight on all customers using the affected aitports. Of the 86 alrports served by Ryanair, only four ~ Stansted, Gatwick, Dublin and Shannon, = do not provide a free wheelchair service. In defence of the levy, Ryanair pointed ont that the fare of the litigant passenger had been just half of @ wheelchair fee, The carrier contends thet It should be the responsibility of alzports to provide free services to disabled passengers. As if these Issues were not enough, pilots at Ryanair were examining ways of forming a trade union, so as to be in a more powerful position when their collective contract expired in 2005. It was ‘understood that they hoped to pursue @ change in their remuneration terms with less ‘emphasis on share options since the collapse in the share price, However, the pilots’ case was unilfkely to be helped by the fact that rival Aer Lingus was overstaffed with pilots; 46 of them had not worked for six months on full pay, and it was estimated that the airline would have to retrain or redeploy 100 pilots daring 2004. Overview of Ryanair Ryanair was founded in 1985 by the Ryan family to provide scheduled passenger altline services etiveen Ireland and the UK, as an alternative to the then state monopoly carrier, Aer Lingus. Initially, Ryanair was a full service conventional altling, with two classes of seating, leasing three different types of altcraft. Despite a growth in pas- senger volumes, by the end of 1990, the company had flown through a great deal of turbulence, dis: posing of five chief executives, and accumulating losses of IRE20m. Its fight to survive in the early 1990s saw the alfline restyle Itself to become Burope’s fist low fares, no fells cartier, bullt on the model of Southwest Airlines, the highly successful ‘Texas based operator. A fresh management team was appointed by Tony Ryan, headed up by Michael ‘O'Leary. The new formula effected a tumaround in the fortunes of the company, and by 1997, the ‘company was floated in an IPO on the Dublin Stock Exchange and on Nasdaq, In July 1998, the ‘company placed 9.1m shares on the London Stock Exchange, while the principal shareholders (the Ryan familly, Michael O'Leary and Irish Ait) dis- posed of 12.6m shares, thereby reducing the per- ‘centage of shares held by them from almost 62 per cent to 51.4 per cent. In 2002, the company was admitted to the Nasdaq-100. The financial arrangements which surrounded the public offering were highly advantageous to Tony Ryan, hls three sons, Cathal, Declan and Shane, and to Michael O'Leary. In effect, the Ryan family had sold the company for IRES6.7m and repurchased a 61 per cent stake for only IRE3.1m, Michael O'Leary was allowed to purchase 17.9 per ‘cent of the company for TRE.9m, partly to com- pensate him for the cessation of an executive bonus scheme which had netted him IRE17m over three years. Another Investment group led by. David Bonderman invested IREIm in equity and an IRE24m Ioan to Ryanalr through a vehicle company, Insh Air, for a stake of 19.9 per cent. Bonderman, an entrepreneur from Texas, Chairman