Ryanair takes wing after 'winter wobble'

Michael O'Leary, Ryanair's maverick chief executive, scoffed this week at the suggestion from some journalists that the budget airline's latest profit warning demonstrated that its business model was broken.

At an airline industry conference in London, he bragged that Ryanair's aggressive fare cuts - made in response to weakening demand and announced during its profit warning on September 4 - had led to a surge in bookings over the past two weeks.

Amid some trademark jibes about rival airlines, one sex joke and a willingness to get off the conference platform to personally pass the microphone to a female member of the audience because she was blonde, Mr O'Leary said: "I always regard profit warnings as a good opportunity to ram out lots more cheap [fares]. Bookings have spiked up in the last two weeks on the fact of [journalists] writing the latest downturn as Ryanair's business model has failed. All we get is a flood more people trying to book Ryanair."

Ryanair, which has its annual meeting on Friday, blamed the profit warning on several factors beyond the company's control, including the hot weather.

But some analysts believe the reduced earnings guidance by Europe's largest low-cost carrier by revenue was at least partly self-induced. They consider Ryanair is embarking on fare cuts to keep rival airlines at bay and stop them undermining its plans for a new growth phase by buying 175 Boeing passenger jets.

Ryanair is not a regular issuer of profit warnings - analysts regard the latest one as only its third, and relatively mild. The Irish airline expects full-year net profit to be at the bottom end of its previously stated range of €570m to €600m for 2013-14, meaning earnings could be flat year on year.

Although Ryanair acknowledged the possibility it could miss this reduced target - and its shares fell 11 per cent on September 4 - the profit warning was not as severe as its maiden one in 2004. Then, Ryanair's shares dropped 31 per cent after the airline revealed it expected to miss its profit target for 2003-04 and report a fall in earnings.

This time round, Ryanair began by citing the summer heatwave. Last minute bookings in July had been at lower than expected yields - a measure of average fares paid - partly because some people in northern Europe decided not to fly south for beach holidays because of the hot weather at home.

Yields were also reduced by how sterling's value had weakened against the euro during July. Ryanair reports in euros, but about 25 per cent of its bookings are made in sterling.

However, some of the airline's reasons for a "perceptible dip" in yields for September, October and November were on the face of it puzzling.

It suggested some of this phenomenon was because of weakening demand amid fragile economic conditions, but these problems are longstanding, and if anything are showing signs of dissipating.

Several analysts believe Ryanair's yield weakness may be partly explained by its plans to fly more aircraft this winter compared to the previous one.

Ryanair proposed grounding only 50 of its 300 aircraft this winter compared to 100 last time around, reflecting how several airlines are planning capacity increases because of the green shoots of economic recovery - but they risk depressing ticket prices if supply exceeds demand.

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Penelope Butcher, analyst at Morgan Stanley, says: "It would appear that Ryanair's decision to have less grounding of aircraft during the winter months has overshot the amount of demand the market can support."

Ryanair has now revised its plans, and will ground up to 80 aircraft this winter.

But the most eye-catching element of Ryanair's response to the profit warning is a decision to extend its €14.99 one-way ticket offer to 1,000 routes - 63 per cent of the total - during October and November.

This aggressive pricing may well stimulate demand, but it could also serve to box in the competition.

Some rivals, such as Aer Lingus, which issued a profit warning on September 13, have been cutting fares during the summer. Others - notably Norwegian Air Shuttle, International Airlines Group's Vueling and Wizz Air - are increasing their capacity significantly, in moves that could potentially threaten Ryanair's ability to grow in the coming years, particularly after it starts taking delivery of the 175 Boeing aircraft next year.

Donal O'Neill, analyst at Goodbody, believes Ryanair is prepared to take an earnings hit now from cutting fares to curb the competition, partly because that way it should preserve the case for buying the Boeing aircraft and seeking to fly 110m passengers in 2018-19. "Then Ryanair will have real pricing power," he adds.

Ryanair already has considerable pricing power, evidenced by how average fares have risen over the past three years, although its prices are usually lower than those of rivals.

All of this underlines that Ryanair's business model, while under pressure, is far from broken.

It will continue to offer cheap headline fares - increasing its revenue significantly through a notorious array of ancillary charges that include excess baggage fees - and boasts the leanest cost structure among European airlines.

In spite of the profit warning being dubbed Ryanair's "winter wobble" by some analysts, Ryanair remains one of the world's most profitable airlines. As one rival airline executive says: "The end of the world for Ryanair is massively overwritten."

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