Europe’s Discount Airlines Face Headwinds

A report by Mark Scott in BusinessWeek from London asks if Europe’s budget airlines gearing up for an emergency landing, with that looking increasingly likely after British carrier EasyJet announced on Jan 8 a 2.2 percentage point drop in its load factor, or proportion of seats filled, to 78.9% during December.

The company’s stock price fell 14% on Jan. 8—the biggest one-day drop since June, 2004—and continued to slide on Jan. 9, down 8% in late afternoon trading.

To date, EasyJet’s share price has fallen 25% in 2008, cutting its market valuation to $3.8 billion.

The Luton (England)-based firm isn’t the only one suffering from a post-holiday slump. Ryanair, Europe’s leading low-cost carrier, has seen its market capitalization fall 15% this year, to just over $8.6 billion and shares in the Irish airline slid more than 6% on Jan. 9.

So what has clipped the wings of these once high-flying carriers, which have taken away market share from Europe’s legacy airlines through a no-frills approach to air travel?

In part, EasyJet and Ryanair have pushed forward with expensive plans to expand their networks just as Europe’s economy is entering a decline and ss people come to grips with the financial downturn, many are cutting back on short city breaks that have been the mainstay of the budget airlines.

Capacity is also outstripping passenger growth, with both airlines having placed multibillion dollar orders with Boeing and Airbus in the hopes of breaking into new markets, particularly in North Africa and Eastern Europe.

Last year, Ryanair bought 27 Boeing 737s worth $1.9 billion and EasyJet snapped up 104 Airbus A319s and A320s at a cost of $4 billion.

These deals helped EasyJet increase its passenger numbers to 2.9 million in December, 2007—up 9.9% from a year earlier, but that growth was outstripped by a 13.5% increase in the airline’s capacity, due to the opening of six new routes. (For the year, EasyJet logged 13.5% passenger growth, to 38.2 million.)

On Jan. 4, Ryanair announced an 18% increase in December traffic, to 3.95 million passengers, which was similarly overshadowed by a 2 percentage point drop in its load factor, to 79%.

“There’s an element of market weakening due to the wave of financial bad news we’ve been seeing,” says Peter Morris, chief economist at London airline consultancy Ascend. “Any sort of recession in Europe is bound to have an impact.”

To beef up their bottom lines, both carriers are turning to additional revenue streams, such as charging travelers to check luggage or receive priority boarding, which analysts reckon could help offset a drop in seat occupancy.

EasyJet, for example, is expected to generate $240 million from baggage charges this year, and Ryanair recently started charging customers who don’t check in online.

This extra income may help to stave off short-term concerns, but any prolonged economic dip, especially when the airlines have committed to multibillion aircraft contracts, could put the squeeze on their bottom lines.

EasyJet and Ryanair aren’t the only ones facing an uncertain future with Air France-KLM, British Airways, Iberia, and Aer Lingus all have seen a drop in their short-haul load factors, suggesting declining passenger numbers aren’t just affecting the low-cost carriers.

Nevertheless, the recent volatile share activity shows it’s by no means clear skies ahead in 2008 for Europe’s no-frills airlines.

A Report by The Mole from BusinessWeek