Ryanair Dog Fight over Europe

Memo

To:        … [Company executive in charge]

From:        … [Team members names]

Date:        … [Date]

Re:        … [Case name]

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Executive Summary

• The single most important problem faced by the company is that the traditional cost structure of an airline can’t sustain a price of $99 without having a high rate of occupancy. The competitive and commoditized nature of the industry makes it difficult for a player to create additional profitability on the major good or service being provided, in this case, transportation.
• The primary cause of this problem is that at the current price they will face competition from other airlines and the cost structure won’t allow a lower price to increase occupation rate and remain profitable.
• To address this problem the company should change its strategy from competing directly with airlines, to compete with all transportation systems. This will mean sacrifice good customers, to be able to offer significant low prices. Considering the low margins that RayanAir will have from tickets sales, they must seek returns elsewhere.  High volumes of “captive audience” customers create a great opportunity to sell ancillary goods and services that have higher margins.

Situation Overview

• The most important problem facing the company is that with the current business strategy it will be hard to maintain a profitable business. By offering top-quality customer service, the firm will have high handling, staffing, selling, and accommodation costs. Also, as a fledgling company, these profitless services will not be as cost efficient or effective as their more established competitors’ services within the airline industry. They do not have the expertise in these processes to allow them to compete on quality. Additionally, they are not cash rich; the case mentions that the founders received 1 million Irish pounds from their father. Improving or increasing these aspects would not be feasible.

• The primary actionable cause for this problem is that they want to compete directly with the other airlines in a flat market. In exhibit 1 in the reading, we can see that the composite profitability of all major, scheduled European airlines has equal number unprofitable years as it does profitable ones (15 of each) between the years of 1955 and 1985).

Needless to say, the industry itself is extremely competitive and does not enjoy high margins. If we assume that RayanAir will follow the same customer service as the other airlines (as they intended to), their costs will be similar to those airlines. With the proposed price of I£98, RyanAir will need to increase their occupancy rate to over 95% to be profitable (see exhibit 2). This is an extremely high occupancy rate to maintain, considering the competitive landscape and stagnant customer base for airlines.

• At the end of the day, The service being provided is highly substitutable. The case states that “[a]ccording to airport authorities, half a million round-trip passengers flew the [Dublin-London] route each year,” while “[r]oughly three quarters of a million round-trip travelers opted to use rail and sea ferries rather than aircraft.” Additionally, it is stated that air travel takes one hour and costs I£99 - I£208 while the rail and sea ferry takes nine hours and costs I£55. This signals that the price is the most important factor over services and even over time. RyanAir will have to compete with the rail and sea ferry travel process to be relevant in the market.

Action Overview

To solve the above problem the company should make the following changes to its strategy and tactics.

Proposed changes in the strategy:

• Raynair have to stop thinking that its market is the airlines industry, and start considering the complete transportation industry. As a strategy they need to position themselves both as really cheap to airlines (attracting customers from airlines that are looking for fast routes), and as a faster transportation to ferry and train (attracting people that is price sensitive, but will be willing to pay a premium to save 8 hours of travel). Their strategic decisions must support this change in scope and it will mean to sacrifice customer service to offer better prices.
• As ticket fares will still have a low margin after cutting prices, Raynair will need to create revenue from additional, ancillary goods and services that enjoy more robust margins and returns. This is a strategy similar to that of Aer Lingus’s, which offered services such as maintenance service and engineer training to other airlines. However, our proposed strategy is to use the “captive audience” (created after the initial strategy), as the additional revenue generator.

Proposed changes in the tactics:

• The first thing RyanAir must do is to evaluate their costs to understand how they can achieve efficiencies and become profitable with tickets sales. In exhibit 1 there is an exercise that proposes a cost reduction to the traditional cost structure. RaynAir could reduce staff, selling, handling and accommodation costs by £57.2 per passenger. This will be consistent with lowering customer service (reduce staff and selling) and with the strategic decision to charge for ancillary products (explained in the next point). Additionally if they are able to achieve an occupancy rate of 85% (4% share), which would decrease cost by an additional of £19.7 (exhibit 1).
• Having a cost of £64 per passenger, RayanAir will now have to elaborate a pricing strategy that will allow them to compete with their new definition of market. The initial decision will be to change from an all-inclusive ticket, to a part-tariff. The first component of the price will be the ticket fare that should be around £70, this is considerably lower that other airlines and comparable with the £55 price tickets of the rest of the market. Additionally, they should charge (or even overcharge) for the more traditional services that airlines provide: checked bags, food or drink, additional printed tickets, etc. On the long-term, they could move into additional industries, potentially providing bus tickets or food kiosks at the point of departure or landing.

Action Rationale

The proposed course of action is the best approach to solve the identified problem for the following reasons:

• If Ryanair decides to exclusively compete with the airlines and not take on any other revenue drivers, their ticket price of I£98 will create extraordinarily tight margins. Exhibit 4 shows BA’s average revenues and costs per customer in 1986 of I£11.4 and I£155.1 respectively. These numbers show that the average ticket price is I£166.5. If the two airline’s costs are similar, for Ryanair to maintain a 6.9% margin, the firm must cut its costs from I£155.1 by I£63.8 to I£91.2, a decrease of roughly 41%. This can be accomplished but it in order to do so, Ryanair will need to cut out certain fixed costs such as staff members, and even achieving that, they will need to increase the volume of travelers in order to further spread the fixed costs out further on a per customer basis. They only way to be successful is if RyanAir is able to attract customers from the 50% larger rail and sea ferry market, and can save considerable costs by making trade-offs.
• In order to get a price low enough, Ryanair will need additional sources of income in order to remain profitable. Fortunately, if they are able to offer a price comparable to rail and sea ferry prices, they can drastically increase their volumes and occupancy percentages per flight. With current occupancy rates of 60-70% as mentioned in the case, it is not unreasonable to assume that with large rail and ferry market, occupancy rates could increase anywhere from 20-50%. This should get the firm close to breakeven and even be profitable. This, again, is where the ancillary goods and services, just like Aer Lingus’s previous ventures, come in to play. The low price will draw the traveler in and once they are a “captive audience,” additional, higher margin products and services can be sold to them in order to create profit for the firm, even if the initial travel fare amount is not enough to make any profit.

Conclusion

The above analysis reflects our strong belief that the proposed action to provide a bare bones travel option that is competitive with both rail and ferry and traditional airline travel is the optimal solution. This strategy forces Ryanair to sacrifice customer service as well as high margins from plane ticket sales, but allows them the opportunity to recognize massive occupancy rates which in turn spread fixed costs as thinly as possible while also bolstering the potential for higher margined profits from ancillary services provided before, after and during transit.