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European Low Cost longer marginal players

13 April 2016

By James Tsinidis


Across the globe low cost airlines have been increasingly taking share from the traditional full-service legacy carriers. Increasing costs, consumer preferences and competitive dynamics have all contributed to the rise of low cost carriers (LCCs). In Europe, a fragmented and expanding market and lower oil prices have enabled LCCs to become a key feature of European air travel.

Low cost carriers have expanded their footprint in recent years on increased passenger demand for short haul routes at cheaper prices. Traditional legacy or full-service carriers have been slower to adjust to the changing dynamic in European aviation. Given the flying time from East to West across the European Union is only 4 hours, individuals, families and businesses have realised that paying for a premium full-service airfare is no longer necessary. Further, by signing incentive deals with smaller airports, and flying thinner (cheaper) routes, LCCs have been able to offer exceptionally low fares and stimulated demand from a traveler that previously would have stayed at home or used a different method of transport. As recognised at the European Civil Aviation Conference, the market share of low cost carriers has approximately doubled between 2005 and 2013.

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Source: Airline Profiler

Europe’s biggest low cost carrier Ryanair highlighted at its recent results that it now flies to over 200 airports in 31 countries, offering its customers over 1600 routes. Further, the airline currently operates approximately 330 Boeing 737 aircraft, with another 350 currently on order. Allowing for plane retirements, the airline is forecast to grow its fleet capacity 8% p.a. to 2024. The larger fleet allows it to take on more routes and add more airports that are currently in the hands of weaker legacy players. The significant growth demonstrated by Ryanair is also replicated by its key competitor Easyjet. A favourable IPO by Wizz Air in February 2015 and the acquisition of Vueling by International Airlines Group in 2013 demonstrates both investor and corporate interest in this fast growing segment. Perhaps the biggest indicator of the growth of LCCs is the graph below, which depicts a slowdown in full-service carrier (FSC) departures, and a notable increase in departures of LCCs.

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Source: Airline Profiler

In addition to consistent travel growth in Western Europe, LCCs are continuing to benefit from increasing penetration into Central and Eastern Europe. This is a large and well-populated region, with increased propensity to air travel. Barclays Research estimated in 2015 that in Central and Eastern Europe there were 0.36 seats per capita, compared to 1.58 in Western Europe. Additionally, demographics and a lower number of business travelers in Eastern Europe indicate that LCCs are likely to be preferred to full-service airlines. Despite this, Central and Eastern Europe remains relatively under-serviced by LCCs, with Barclays Research also estimating that LCC penetration is 20% of capacity compared to 35% in Western Europe. Accordingly, this remains a key avenue for growth for LCCs in an area with relatively low competition, low barriers to entry and low penetration.

The biggest advantage of LCCs compared to their full-service peers is their cost structure. Given LCCs often operate out of smaller and less congested airports, airport taxes and costs associated with traffic delays are minimised. Additionally, highly competitive routes (for example to and from Heathrow Airport) are more expensive for airlines due to demand and higher labour costs. In comparison, it is cheaper for a LCC to fly in and out of Gatwick, Stansted, Southend or Luton. Given the operating structure of LCCs, they have a direct advantage in terms of cost compared to their full-service competitors.

Undoubtedly the most significant cost for an airline is fuel. The recent oil price plunge from over US$100 per barrel to under US$40 has meant airlines have decreased their costs substantially. For LCCs, fuel is the most significant cost in the P&L, and therefore a substantial decrease in the oil price means a significant and more meaningful decrease in costs. In time, this will enable LCCs to pass on more of the benefit of decreased costs to consumers in order to capture further market share. Conversely, full-service carriers have other substantial costs such as catering, loyalty program costs, higher airport surcharges, higher route surcharges and higher maintenance costs. While a lower fuel cost also benefits full-service carriers, ultimately the extent of this benefit is more meaningful for a LCC.

European LCCs have seen substantial growth in recent years, and we believe this growth is set to continue based on increasing market share, European consumer preferences and highly competitive cost structures. The K2 International Funds are able to provide investors direct exposure to this constantly growing theme.


James Tsinidis is a Portfolio Manager at K2, specialising in international equities.


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