A budget airliner made a profit. I wonder how old I will be the next time I write this?

Ryanair’s net profits fell to €391m in the year to 31st March from €436m in 2007. It would have been even higher, but the firm had to writedown €91.6m on its stake in competitor Aer Lingus.

Adjusted for this, Ryanair’s profits would actually have shot 20% higher! Revenues rose to €2.24 billion despite reducing ticket fares, which looks to have inspired the 20% growth in “customer traffic.”

Additional revenue from food, luggage and duty-free spending rose 35% to €488m.

All eyes are now on the airliner’s cost base. Fuel accounts for anywhere up to two fifths of expenditure versus just 10% during the last cyclical slump in 2000, according to Deutsche Bank.

Ryanair’s boss Michael O’ Leary is unimpressed, “the overriding concerns for airlines, passengers and investors currently is the irrational price of oil.”

Though, O’ Leary reiterated his famous promise of never implementing fuel charges… a good by-line for a budget airline but does it make good business sense in this climate?

I would say not. But it looks like Ryanair passed on the costs anyway, through more expensive additional revenue, the same additional revenue that jumped 35% by the way. And O’Leary said the airline expects fares to rise 5% next year, which I would take as a response to the rising price of oil.

Ryanair will squabble with critics over the details, but stealth charge or no stealth charge, the company will probably face a revenue squeeze, and soon.

The firm is throwing everything it has into pro-active cost cutting, “In recent months we have added cheaper fuel efficient aircraft, announced a company wide pay freeze, implemented painful redundancies in our Dublin Call Centre, renegotiated many of our airport maintenance and handling contracts, as well as increased discretionary charges for baggage and airport check-in.”

The list goes on, but, with the relentless incline of oil prices, it may not be enough.

Airlines squeezed at both ends

The airline industry is an essential component of the transport universe, but not necessarily a good investment. From the budget groups to the flag carriers to the private jet charter services, the business model is rarely profitable.

The sector-wide downturn is pretty textbook.

Airliners tend to suffer most in a weak economy. The airlines biz is very cyclical, i.e. very sensitive to the business cycle. Revenues tend to pick up in times of economic expansion, and fall in periods of economic contraction.

Airliners also are at the mercy of the oil markets, which are at all-time highs.

This isn’t just a recession. This is a recession combined with the raw asset prices getting too high to handle.

Lower revenues were already on the cards with the threat of UK, US and Eurozone recessions. But throwing in oil prices that range from $125 – $135 a barrel, the problem is made much, much worse.

Research firm CreditSights agrees. “The latest spike in oil prices, whether sustained or not, just punctuates the income difficulties airlines face in 2008,” said the group.

For airliners to succeed they not only need to cut costs, the whole business model needs a radical overhaul.

Ryanair’s actions were standard issue for responding to a turbulent climate.

Ticket fees will have to rise to their “elastic limit” — the maximum price travellers will still pay. The frequency of flights will have to be cut down to reduce fuel costs. Also, wages would need to be frozen, as cost cutting in other areas throws up safety issues.

Where is the smart money going in this sector?

Consider this.

With flag-carriers desperate to consolidate that will probably prove ineffectual, business-class airlines filing for bankruptcy and budget firms being squeezed by fuel costs, this doesn’t look a very clever place to do your investing.

So don’t.

Theo Casey

Source: Ryanair’s Last Hurrah?