Following the collapse of iconic travel agents Thomas Cook, Business Editor Will Southall explains why more and more budget airlines are running into financial difficulty.
Thomas Cook has collapsed after 178 years of dominance in the travel and tourism sector. A badly managed merger in 2007 with a tourism company, MyTravel, left the brand with colossal debts that no bank was willing to take on.
Combine this with a change in demand from beach holidays towards city breaks, growing uncertainty over Brexit, and an internet revolution which has shaken up the market over the past few decades, the route to Thomas Cook’s failure starts to appear a little clearer.
But whilst Thomas Cook may be the oldest travel company to go down, they are certainly not the first. Monarch, WOW, FlyBMI, Air Berlin, Cello…the list goes on. These are the names of just a few budget European airlines that have all recently ran out of gas.
Given the high frequency of failures, it would be logical to assume that running a budget airline must not be a very profitable business. At the very core of the budget-based business is being able to undercut traditional airline prices, to attract customers away from the more established competition.
So, budget airlines often fail because their profit margins are so low that they struggle to make a profit, right?
Wrong – the opposite can sometimes be true. Ryanair and EasyJet reportedly have higher profit margins than both British Airways and Lufthansa. And yet I would probably bet money on Ryanair collapsing before BA or Lufthansa.
It seems that budget airlines are not failing because they are selling tickets too cheap to make a profit. Instead, the problem lies in the makeup of their customers.
British Airways and a lot of the bigger, more established non-budget airlines have consistent demand from people travelling for work. They pay more to fly into the main airports of big cities and in doing so will attract a steady stream of demand from businesspeople.
Ryanair’s demand stems from tourists, which makes its business fundamentally different in two ways.
The first is that they can be more flexible in their destinations and the airports they use. They will run a flight from Leeds Bradford to Girona in Spain, charge £30, and we’ll all start going there on holiday. We may have never considered going to Girona before, we may not even know where it is and yet we’re still drawn in by the price.
In this respect, they have some influence on where we choose to take our holidays, as supposed to non-budget airlines whose customers are less flexible.
This explains how, if done right, budget airlines can rake in higher profits.
However, there is a drawback. Whilst budget airlines do benefit from the flexibility of their customers, they are subject to volatility in demand for holidaying abroad.
One of the major factors that led to Monarch collapsing was the shock of a sharp decline in demand for Middle Eastern tourism following high profile terror attacks, the migrant crisis, and a war in Syria, all of which put Brits off from travelling to the likes of Turkey and Tunisia.
With further concerns over hotter domestic summers putting off holidaymakers from flying abroad, it seems unlikely that the market is going to become any more favourable for budget airlines. It is not a case of if another budget airline fails, but which will be next.