Leave the low cost model behind? Don’t be silly! Buy Ryanair shares and watch as Southwest put pressure on ticket prices in the US.

Dino D'Amore
By Dino D'Amore September 28, 2010 10:00

Leave the low cost model behind? Don’t be silly! Buy Ryanair shares and watch as Southwest put pressure on ticket prices in the US.

The low cost carriers (LCCs) have a dilemma. Their market has been contracting for some time now but moreover it is the fact that their rivals, the traditional airlines that make up flag carrier and legacy groups, are seeing their core base return to growth.

The LCCs have thrived over the past five years because they were able to absorb rocketing fuel prices through their low cost base or because they were able to negotiate impressive long-term hedges as was the case with Southwest. This advantage has now gone. Also to the advantage of the LCC was the decline in premium travel, which has been going on for at least five years. This put terrible pressure onto the traditional carriers and in most instances ensured that they could not compete on price. Those that tried to compete with the LCCs, such as Aer Lingus, found themselves in all sorts of trouble that to this day has not been rectified.

Now we have reached a turning point. The traditional carriers are seeing a return to growth for premium travel and the LCCs are seeing a sharp decline in passenger numbers which is set to get far worse over the coming 24 months as the working classes suffer the full hit of the global contraction and interest rates rise to match, or at least partially match, the consumer price index. Many are talking about 15%, which would in itself cripple the UK LCC customer base.

So what does the LCC do? Simple; they need to purchase other airlines to put pressure on ticket prices. The finalisation of the worst kept secret in aviation yesterday – the deal between Southwest and AirTran confirms the argument that a LCC should increase capacity to ensure that pressure on fares is kept to a maximum.

Southwest is in a different market however, the USA air travel industry is like getting on a bus, and this will not change. The Southwest model is for the most part safe and it has already ridden the worst depths that the US economy can throw at it (more than once). Now though we can be sure that mergers between traditional legacy carriers will not derail the Southwest gravy train. European based LCCs on the other hand have it all to come and none more so than the mighty Ryanair. It has already tried to purchase other airlines but that has failed, much to the detriment of Aer Lingus (for example). So the only option one might think is to soften the low-cost-at-all-costs approach. This would help the airline in the short term of five years but after that when the EU economies bounce back there will be a problem. You cannot dilute the low cost model and then turn back the clock!

Ryanair’s best option to have a middle-of-the-road ticket price option for travellers is to have a second subsidiary airline of some sort, this fact is not lost on the management, indeed when I last spoke to Michael O’Leary he stated that this was the master plan. The truth is that Aer Lingus and Ryanair combined would have provided a blockbusting Irish powerhouse of an airline but alas minds were swayed by short sightedness and loathing for Michael O’Leary’s personal approach to business. So a move towards a second Ryanair brand is a remaining option for the ultimate low cost carrier to maintain market share, keep pressure on the merged BA/Iberia brand and continue to grow.

Of course an option for Ryanair would be to simply increase ticket prices in line with all competing airlines, maintaining the low cost gap and ride out the low point of the cycle and then come out fighting with the low cost model fully intact at the other end and drop the prices through the floor……………..But then again, can you see Ryanair standing back and crossing their fingers for a few years?

All dealers and investors say that Ryanair remains totally undervalued at this time. Ryanair is without doubt a good investment – Buy into Ryanair if you can. In addition do not expect Southwest to stop at AirTran, word is the AirTran purchase is one of three on the table. 

Dino D'Amore
By Dino D'Amore September 28, 2010 10:00
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