A company’s business model is management’s model of how the strategies they pursue will allow the company to gain a competitive advantage and achieve superior profitability.
Business strategies are the actions management take to execute a business model.
At the heart of any business level strategy is the objective of developing a firm-specific business model that will allow a company to gain a competitive advantage over its rivals in a market or industry. (Hill and Jones 2004 ). Ryanair’s cost-leadership strategy is based on the intent to outperform competitors by doing everything it can to establish a cost structure that allows it to provide its air travel service at a lower unit cost than they can. At the very heart of this strategy is the intent to keep its fares as low as is conceivably possible and thereby live up to its name as “The Low Fares Airline”. Ryanair, in pursuing this cost-leadership strategy seeks to achieve a competitive advantage and above average profitability by primarily focusing its attentions on lowering its cost structure. A company is said to have a competitive advantage over its rivals when its profitability is greater than the average profitability for all the firms in that industry. The greater the extent to which a company’s profitability exceeds the average profitability for its industry, the greater is its competitive advantage.
Hill and Jones propose that two major advantages accrue from a cost-leadership strategy. Firstly, they say, that if industry rivals that compete in the same price range or market segment charge similar prices for their products or services, the cost leader achieves superior profitability than these competitors because of its lower costs. Secondly they argue that because of its lower cost structure, the cost leader is able to charge a lower price than its competitors, and this gives it a competitive advantage. This is precisely what Ryanair strives to do. Although they offer customers slightly less in terms of customer service than the competition offer, essentially the value from the service is the same, and the considerably lower price attracts many more customers.
Despite the fact that Ryanair has opted for the lower price option, the increased volume of its sales of seats to passengers will cause the company’s profits to surge. Or so it is hoped. Hill and Jones also point out that the only way competitors can hope to win back passengers is through following suit and by lowering their prices to match those of the cost- leader. When this happens the cost-leader, in this case Ryanair, will be better equipped to withstand competition because of its lower cost structure. Because of this the cost-leader is likely to win any competitive struggle and continue to earn above average profits.
The case-study informs us that the company realises that the achievement of its objective of being the leading no-frills airline in Europe depends on being the lowest cost airline. This, we are told “demands a continuous concentration on driving down costs to sustain low fares and remain profitable, even on low yields”. Ryanair’s cost reduction strategy focuses on five main areas, namely:
1. Fleet Commonality.
2. Contracting out of services.
3. Airport charges.
4. Staff costs.
5. Marketing costs.
With regard to Ryanair’s decision to maintain a fleet of a single type of aircraft, the Boeing 737-200, the advantages for the organisations cost structure are multifarious. The aircraft is the most widely flown airplane in the world today and because of this the company has no difficulty in finding reasonably priced spare parts which are, no doubt, widely available from a number of sources who would be eager to have a large buyer such as Ryanair for a customer. This means that Ryanair does not find itself in a position where it could be made to pay a premium price to a single supplier for parts that only they alone can provide. Also, related to this is the fact that Ryanair could benefit from cost reductions associated with bulk purchases of certain parts and the likelihood of repeat purchases over long periods of time. In this respect Ryanair could be said to be protected from at least one of Porter’s five forces (Bargaining power of suppliers) in that it has quite considerable bargaining power over its suppliers which help it to keep its operating costs low.
Should Ryanair have opted to purchase and maintain a fleet of diverse aircraft types then the ability to buy generic spare parts in large quantities would have been lost and Ryanair would not be able to use its purchasing power as leverage to bargain for price reductions. As the Boeing 737-200 is the most commonly flown commercial jet in the world there is also cost savings to be had by Ryanair related to the fact that staff, including pilots, mechanics and engineers who would be familiar with the 737-200 exist in abundance and thus the labour market is competitive. Ryanair does not need to train specialist staff to operate and tend to the upkeep of its fleet, which would be extremely expensive indeed. Ryanair will not find itself in a position whereby its labour costs spiral out of control due to the fact that professionals within the organisation, with specialist skills that are extremely rare and absolutely critical to the continued operation of the airline, decide to defect unless they receive huge wage increases. The widespread availability of suitable replacements insures against this potential eventuality.
Another way in which Ryanair has reduced its cost structure has been through the outsourcing of its airport services such as baggage handling, aircraft handling, ticketing, engine maintenance and heavy maintenance to third party organisations who tender for the various contracts. Ryanair is free to choose from amongst a number of companies as to which one best suits their strategic plans. Naturally, the third party that is expected to do the best quality job for Ryanair at the lowest price is likely to win such contracts. To prevent complacency in their chosen sub-contractor, Ryanair offers only short term contracts to these third parties and every few years other companies are invited to tender for the contract once again.
Of particular importance to the initial and continued success of the Ryanair business model was, and is, the choice of airport at which the company selects to fly its jets to. Airport charges include landing fees, passenger loading fees, aircraft parking fees and noise surcharges. Ryanair has minimized the costs incurred by the company for all such fees by carefully avoiding all the major and more congested airports in Europe and instead flying to smaller secondary and regional airports. The reason why this decision has minimized expenses to Ryanair is because these smaller airports are very anxious to increase passenger throughput and thus increase their profits.
Since Ryanair is typically able to produce high volumes of air traffic for these airports which it chooses to use, the company is able to negotiate very favourable access fees. Gate locations are less expensive as is the rental of mobile boarding stairs as opposed to the rental of jetways, at these smaller locations. These secondary airports, which are effectually Ryanair’s suppliers, become quite dependent on Ryanair for a very large percentage of their service offering. As such, Ryanair is in a very powerful position as a buyer and as was the case with its suppliers of spare parts, Ryanair can use its purchasing power as leverage.
The efforts by Ryanair to reduce its overheads in every possible way imaginable have often been very controversial. Take the example of Ryanair’s wheelchair levy for disabled passengers. Rather than provide its customers who are unable to walk to the airplane with the complementary use of a wheelchair, Ryanair contracts out this service to a third party and charges its customers up to fifteen euro for the service. Although this policy is consistent with Ryanair’s overall business model it has hardly endeared them to the general public. Ryanair has dispensed with the provision of every non-essential, non-core activity which interferes with the provision of reliable low-cost flights.
These include advance seat assignments, which forces the company to ensure the timely boarding of passengers, in-flight meals, multi-class seating, any sort of frequent flyer programme, complimentary drinks and even the provision of ice to customers that do choose to purchase a beverage on board. The decision not to provide ice to customers saved the company an estimated forty thousand Irish pounds per annum. There was also controversy in the media in recent years about the decision of Ryanair to force their staff members to pay for their own uniforms and the laundering of these uniforms. Suffice to say you will get no packet of peanuts from the air hostess on a Ryanair flight.
Ryanair is an entirely unitarist company. That is it does not recognise the legitimacy of Trade Unions to represent the company’s employees. The decreased bargaining power of staff resultant from their inability to negotiate en mass has allowed the firm to avoid the expenses which occur from the settling of large scale industrial disputes. All Ryanair’s staff members negotiate their contracts on an entirely individual basis and as such it is not within their own interests to engage in acts of solidarity with their colleagues in very many instances. Ryanair has also tried to cut out the middle man when it comes to the marketing of its service offering.
That is they have recognised the costs associated with the paying of commissions to travel agents for handling the booking of Ryanair flights. The company slashed the rate of commission payable to travel agents from nine percent to seven and a half percent much to the travel agents displeasure. As is abundantly clear in the case study Ryanair considers every avenue as it strives to reduce its cost structure. No stone is left unturned in the quest to be the cost leader in the European airline industry.
Ryanair does not seek to differentiate its service offering in any way from that of its competitors in the air travel industry. Where its service is more frugal that that offered by the competition, it is purely due to the desire to reduce costs. Quite simply differentiation costs money, money which Ryanair is not willing to pay. The actual service itself, the provision of a short-haul intra-European flight is not actually markedly inferior to that of a differentiator such as British Airways or Aer Lingus except that it is a considerably more Spartan affair. The cost leader will never try to be the industry leader in any form of differentiation whatsoever. To do so would be to risk getting stuck in the middle.
Ryanair would as a cost leader always wait until a service offered by a differentiator such as Aer Lingus becomes an essential requirement demanded by all customers before it would even consider investing in providing it. Ryanair as a cost leader does not focus on any particular market segment in the industry, as we have seen in its decision to avoid multi-class seating. The Ryanair service is designed to appeal to the “average customer”. Whereas Aer Lingus and British Airways will use focus strategies to position their companies service to particular customers in a particular market segment, which they will define by socio-economic status of the customers. B.A’s first class service is designed to serve only a particular niche customer, those customers being the very wealthy. Ryanair on the other hand tries to provide a generic service that will be desired by the highest possible number of customers. The cost savings associated with the absence of any need to tailor one’s service or product can be extremely substantial.
ADVANTAGES AND DISADVANTAGES OF A COST-LEADERSHIP STRATEGY
Ryanair, as the company has grown, has undoubtedly developed certain distinctive competencies. Its unparalleled efficiency in airport turnaround time is the one which immediately springs to mind and they have only been able to achieve this competency through patiently riding down the experience curve. However that is not to say that Ryanair and its coct leadership strategy are not vulnerable to the competitive forces as defined by Michael Porter. As a cost leader Ryanair is protected from its competitors mainly by its cost advantage. As has already been stated, its lower costs mean that any increases in the price of inputs, such as jet fuel or airport charges will affect its competition more adversely than it will affect Ryanair. Also, any reductions that must be made in the price of air travel due to the increased power of buyers will not hurt the company as much as they will hurt competitors with higher cost structures.
As we saw in the case study Ryanair hires huge volumes of airport runway time from the small secondary airports it deals with and as such it has considerable bargaining power over its suppliers. The threat of substitute products is present in the case study as we learn about the increase in the use of high speed bullet trains and the proliferation of copycat low fares airlines. Ryanair as the cost leader can reduce its prices to compete with these substitutes and thereby retain its market share. Ryanair’s cost leader advantage is considered to be a barrier to entry since other companies will be unable to enter the industry and immediately match the airlines costs or its prices. Hill and Jones say that “a cost leader is safe as long as it can maintain its cost advantage and as long as price remains the key for the significant majority of buyers”.
The cost leadership strategy which Ryanair pursues emphatically is only advantageous to the firm so long as industry rivals cannot find ways to lower their cost structures and beat Ryanair at their own game. In theory it would not appear very difficult for competitors to imitate Ryanair’s methods exactly and use them against them. Indeed this is already happening with the introduction of airlines which also claim to be “No-Frills” services such as EasyJet and Virgin Express (although Virgin does offer cold drinks to its passengers). Ryanair however does have the advantage over these newer entrants to the industry of already haven ridden down the experience curve and accumulating skills and knowledge which these competitors are yet to acquire.
Another danger is that in their myopic and single minded desire to maintain their cost leader status that Ryanair might perhaps make a decision which although it may lower costs could simultaneously adversely affect demand for their flights. The decision to charge handicapped passengers for wheelchair usage is such an example. Many people were unimpressed by the amorality of this cost saving policy to such an extent that they vowed never to fly with Ryanair again until the levy was abolished. Many customers, when interviewed in the media declared that they would rather pay the more expensive fares charged for a flight upon one of Ryanair’s competitors than give their custom to a company who exploited the physically disabled.