Business Irish

Friday 24 November 2017

Why turbulent times may still lie ahead for Aer Lingus

The airline has been returned to profitability by chief Christoph Mueller, but consolidation in the sector is still a threat, writes John Mulligan

Modern history is replete with examples of companies that failed to respond to threats and suffered as a consequence. US video chain Blockbuster dismissed the challenge posed by Netflix. Blockbuster crumbled.

Record companies too focused on protecting their turf failed to see Apple's iTunes in the headlights. Now look at Apple.

It might be a bit of a stretch to describe Ryanair as the aviation sector's Apple, but it is widely recognised as having transformed the industry. But not only has it fundamentally changed a business segment, it has also had a massive socio-economic impact across Europe.

And for pretty much a whole decade -- even more -- as Ryanair's ascent became clear, other carriers pretty much buried their heads in the sand. Aer Lingus was among them.

Stymied by outdated thinking and outdated working practices, the incumbents were sitting ducks. External shocks -- from 9/11 to high oil prices -- brought significant pain for all airlines, but Ryanair's ultra low-cost structure helped it better than most to weather turbulence.

Its continuing financial strength remains evident. Its second quarter results this week saw it generate net income of almost €497m in the three months to the end of September -- 23pc higher than in the corresponding period last year.

Results yesterday from Aer Lingus, with operating profit having dipped 2.9pc to €90.9m in the quarter to the end of September, are, all in all, pretty good given the undeniably difficult economic backdrop.

But things could have been an awful lot worse had Aer Lingus not been shaken up by chief executive Christoph Mueller. Widely respected within the industry and regarded as probably the best boss Aer Lingus has ever had, he drove a €100m-plus-per-annum cost savings initiative and has managed to return the airline to a profitable position.

But challenges abound in the airline industry, not least in managing higher fuel costs.

For Ryanair, challenges also include trying to boost its annual passenger traffic from 80 million to 120 million within the next decade. Its fleet size will touch over 300 next summer, and it can continue reasonable passenger growth using those aircraft for another four years or so.

But it will have to ink an aircraft order at some stage. Whether it can secure the kind of knock-down prices it wants for them remains to be seen.

For Aer Lingus, its very future -- or at least the nature of it -- is what's at stake again.

With Ryanair having lobbed in a third bid to buy Aer Lingus during the summer, January will see the European Commission decide whether it will allow the €694m bid to proceed. Don't hold your breath -- Ryanair's been knocked back by Brussels before. But this time around it's proposing major remedies to help persuade mandarins to support the bid.

Whether they will give the go-ahead following the so-called Phase 2 review is hugely uncertain, and the betting money isn't on Ryanair's side.

Even if it does get the all-clear, Ryanair will still have to persuade Aer Lingus shareholders -- including the government, which has a 25pc stake -- to accept the deal.

This week, Ryanair boss Michael O'Leary reiterated his commitment to the takeover.

"Ryanair has submitted an unprecedented remedies package, under which multiple up-front buyers will commit to open new bases in Ireland, and enter all of the Ryanair/Aer Lingus crossover routes which are not currently served by other substantial airline competitors," he said. "We believe this is the first EU airline merger where the remedies proposed delivers not one, but at least two up-front buyer remedies, and where all of the "merger to monopoly routes" are remedied not just by passive slot divestments but by active up-front buyers and new market entrants."

Ryanair is planning to offload some take-off and landing slots controlled by Aer Lingus at Heathrow if it succeeds in its bid. They'll be handed over to rivals, with carriers such as Richard Branson's Virgin and IAG's British Airways among the interested parties.

Speaking to the Irish Independent yesterday, Christoph Mueller agreed that consolidation in the airline industry will increase in the future.

Abu Dhabi-based Etihad already owns close to 3pc of Aer Lingus and its boss, James Hogan, has made no secret of the fact that he'd be interested in buying the Government's stake in Aer Lingus too.

"The process of consolidation will go ahead," said Mr Mueller. "Carriers in financial difficulty will disappear. We have always said that we buy fully into that concept of consolidation," he said, but pointed out that it would have to be on the right side of it.

And whether the right side of it is a merger with Ryanair is the big question. Ryanair has said it would substantially boost Aer Lingus passenger traffic from about 9.5 million a year to 14 million a year within five years of acquiring its rival.

It also says it will grow the Aer Lingus short-haul fleet and push Aer Lingus to open new bases at major European airports.

Perhaps ominously in the eyes of many, Ryanair also says it will "encourage Aer Lingus to lower its unit costs and fares", and "increase productivity of its staff through a mixture of efficiency increases and growth".

Mr Mueller accepts the need for Aer Lingus to be part of a bigger entity to secure its long-term future.

Ryanair is obviously not the partner of choice, even though its sheer size and potential could have a major transformational effect on Aer Lingus -- Ryanair says for the better, Aer Lingus thinks for the worse.

For now, Aer Lingus continues to navigate its own course. Its financial position is also healthy -- for now, at least.

But in this industry the unexpected is always around the corner. Dealing with future economic or geo-political shocks on its own would be tough.

It's then that Ryanair -- or indeed any larger peer -- could be an alluring prospect for Aer Lingus. The only problem is, that when the shock comes, it could be too late to walk up the aisle with anyone.

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