This article is written by Richard Leigh for RDC Aviation. Read the original here. The opinion of the author does not necessarily correspond with that of the editorial team.

This is the time of year when things get better for Europe’s LCCs. Springtime brings new hope and new growth, and there are still copious amounts of Easter chocolate to feast on after the thin gruel of Winter. Sadly, unions across Europe saw the second quarter of 2018 in similar fashion, with flight crew (fight crew?), cabin crew and air traffic controllers all wanting a bit more of the LCC’s chocolate, please. Particularly Ryanair’s, it seems.

The performance of the LCCs in the first quarter set the bar for 2018 quite low, returning overall losses in excess of EUR 600 million, probably the worst combined LCC quarterly result ever. More hopefully, Q2 last year did see a respectable performance, returning a combined profit of almost EUR 800 million and ensuring the first half of 2017 was again profitable.

So which way will the scales fall in the first half of this year; weighed down by industrial action, or encouraged by the positive story from previous years? Let’s take a look.

Q2 seat capacity and growth vs 2017

chart showing Q2 seat capacity and growth vs 2017

The total number of seats offered by the main LCCs came to around 117 million in the second quarter, which is a 10% increase over 2017, and in absolute terms saw around 11 million seats added to the market. In growth terms this continues the trend seen in Q1 of a modest slowdown from 2017, though in absolute terms the picture is one of similar performance, as Q2 2017 also saw an extra 11 million seats added into the market. As indicated earlier, the growth in the market in Q2 was hampered by cancellations across the board, and without those it’s likely that in absolute terms at least, the LCCs would have added more seats that they did in Q2 last year.

Normal service was resumed, with Ryanair and easyJet adding the highest number of new seats into the market despite the problems at the former. Ryanair and easyJet remain the two largest airlines in Europe for intra-European services, both in terms of capacity offered and number of departures, with around 56% of the LCC market between them.

Wizz Air’s strong growth continued, but as the other three mid-size LCCs all returned more seasonal capacity to the market, and themselves added more new seats, Wizz moved from being the third largest LCC in Q1 back to sixth largest in Q2.

Fortunately for the airlines, passenger numbers held up, so most of those extra seats were filled. The airlines added around 10.5 million new passengers during the second quarter, bringing the total for the period to 106 million passengers. However, this is around 900,000 fewer passengers than they added in the same period of 2017. The combination of fewer new seats but also fewer new passengers meant that load factors were almost unchanged, moving from just below 90% to just above 90% for the second quarter.

Financial Performance

Turning now to the financial performance of our LCCs, and as mentioned previously the quarterly performance the first half of the year depends very much on when Easter falls. In 2016 it was in the first quarter, last year it was in the second, while this year it was on April 1st, neatly bisecting the two quarters. So although none of the last three years exhibit a common set of conditions, we did see in the Q1 results that revenue per passenger was up relative to Q1 2017, strongly suggesting that the earlier Easter this year meant that some holiday traffic was booked in the first quarter. That being the case, the impact on Q2 would likely be negative.

And that’s indeed what the numbers show. As the chart below shows, average revenue per passenger improved slightly in 2017 (the left-hand arrow), rising by 2% as Easter moved into Q2. The loss of some Easter traffic has impacted Q2 this year, though the drop in revenue per passenger is small, with revenue per passenger on a par with that achieved in Q2 last year (right-hand arrow).

Q2 change in revenue and profit per passenger

Graph showing Q2 change in revenue and profit per passenger

As we saw in the Q1 numbers, cost control has been an issue with some of Europe’s LCCs, and this has been exacerbated in Q2 by the loss of thousands of flights due to industrial action, so fixed costs were spread over fewer flights and passengers. Although the revenue per passenger has only marginally reduced in Q2, the movement in profit per passenger has turned more solidly negative; at least in Q1 there was an improvement in profit per passenger, albeit it reporting less of a loss rather than an actual profit.

The second quarter has seen profit per passenger decline by 27%, down from EUR 8.3 to EUR 6.0. It’s difficult to know what the 2018 figure might have been had each airline flown its intended schedule, but it’s fair to say that the profit per passenger would have been better than EUR 6.0. So if the goal of the ‘Springtime of Discontent’ was to use the sometime fragile economics of Europe’s airlines as a bargaining chip in negotiations, the intended negative impact has come to pass.

But that’s enough about politics, onto the big-picture economics. Phew! Q1 numbers were pretty poor, with only Ryanair making a profit in what is traditionally the worst quarter for LCCs by a long way. As we have seen in previous years, Q2 normally rides to the rescue, producing a decent profit across the board to more than offset the losses made in Q1. The first half-year then returns a profit for the combined LCC business, and everyone’s happy. That’s the script, anyway, though as we all know, past performance is not necessarily a guide to what’s coming along next.

This chart shows the profits made by the LCC airlines in millions of Euros, with the blue bars showing the results for Q2 2018, and the grey bars showing the corresponding results for 2017.

Estimated Q2 LCC profit in 2018 and 2017

Chart showing Estimated Q2 LCC profit in 2018 and 2017

The good news is that most of the LCCs did indeed turn a profit in Q2 despite the difficult trading conditions. Some even did quite well. In the ‘surprising’ category come Norwegian and Transavia. After a barrage of negative press, negative sentiment, and Willie Walsh, Norwegian reported a modest profit in Q2, turning around a loss in the previous year. Despite the good news, the consensus is still very much that the airline is in trouble, but it is somehow pleasing that industry analysts do occasionally get stuff wrong, and pioneering airlines can surprise on the upside.

Transavia making money was also a bit of a surprise, given that no-one does industrial action quite like the French. That the airline held onto its shirt in the second quarter perhaps owes more to the Dutch operation, though it is difficult to figure out exactly who did what.

Elsewhere, Ryanair reported lower profits than during the same period last year, a continuation of their Q1 performance and perhaps a sign of things to come as their cost base is structurally increasing. EasyJet seemed happy, again reporting improved numbers relative to last year despite their Berlin operation dragging on the results.

Eurowings continued to bring up the rear, still with a nasty case of Air Berlindigestion, but it does no harm having a profitable parent with deep pockets, as any teenager will testify. This particular teenager is going through some growing pains, but should emerge better and stronger as a result. Or at least, that’s the plan.

By combining this set of individual airline results we can see how the LCC sector performed overall in the second quarter, and also in the first half as a whole. While the timing of Easter influences the quarterly results, having numbers for the first two quarters allows us to assess the performance over the first half, which renders the timing of Easter redundant.

In the chart below, the grey bars are the numbers for the first half of 2016, the blue bars are 2017, and the pink bars are this year.

Estimated profitability by quarter, and first half, 2016-2018

Graph showing Estimated profitability by quarter, and first half, 2016-2018

It’s clear to see that in 2016, the LCCs reported a decent profit in the first half as the Q2 profits significantly exceeded the losses made in Q1. Last year things were a little less clear-cut, with Q1 losses and Q2 profits both in excess of their 2016 counterparts, but 2017 still recorded an overall first half profit of around EUR 200 million. This year, things are even less obvious, as both pink bars look to be roughly the same size.

What is clear is that Q2 this year hasn’t delivered an improvement over Q2 last year; profit is almost 20% lower than the EUR 800 million achieved in 2017, and it’s only slightly better than the profit the airlines achieved in the first half of 2016.

The smaller chart at the bottom right of the graphic condenses the quarterly performance into a first half summary, showing the profitability of the first half in 2016, 2017 and 2018. The decline is clear to see, and although the pink bars in the main chart are roughly the same size, the Q1 loss actually works out to be slightly bigger than the Q2 profit. So from a first half profit of around EUR 330 million in 2016, the LCCs have slumped to a small loss in the first six months of 2018.

As we said in our previous article, ‘it’s possible that unlike in previous years, Q2 performance may not deliver a positive overall outcome for our LCC group in the first half of the year.’ Whilst sometimes it’s nice to be proved right, some victories are a little hollow.

Route Level Economics

The LCCs between them flew over 4,700 unique airline/route combinations in the second quarter, that’s around 7% more than in the first quarter, mainly intra-European routes but of course into North Africa and further afield with a growing long haul network.

Estimated route performance in Q2 2018

Chart to show Estimated route performance in Q2 2018

Whereas we estimated that only 16% of LCC routes were comfortably profitable in the first quarter, the second quarter produced much better numbers, with up to 45% of routes returning a profit margin of 10% or better. If we include a share of those that we consider to be around the positive side of the breakeven point, we estimate that more than half of LCC routes were profitable during the quarter.

At the other end of the scale, we estimate that around 29% of routes were comfortably loss-making, so those with a profit margin of -10% or worse, which is a much better return than the 65% of loss makers estimated in the first quarter. Again if we include a share of those on the negative side of breakeven, then we estimate that around 40% of all LCC routes were loss making in the second quarter.

So things are getting better, as expected, but not at quite at the rate required. With Q2 having failed in its duty to render the year profitable at the half, so more pressure is heaped on Q3 to do something dazzling. Q3 is always the star quarter of the year, and this year it will need to be extra-special.  Whilst we can’t yet make accurate predictions as to how the quarter will pan out, we can take a view as to how average fares are trending in the market in Q3, and how that compares with what happened in previous years.

The chart below shows the estimated average fare across the top 100 European LCC routes (by capacity) by month for the April-September period each year from 2015 onwards. Looking first the second quarter, the data suggests that fares on core LCC routes across Europe held up well during the period. However, the slight decline in average revenue per passenger we measured during Q2 suggests that revenues from the rest of the network failed to match the core routes. It was also noticeable that some airlines reported a drop in ancillary revenues, which again acts to drag down average revenue per passenger.

Estimated average fare, top 100 European LCC routes by capacity

Graph to show the Estimated average fare, top 100 European LCC routes by capacity

Our estimates for Q3 suggest that July will be the stand-out month for fares, after which we expect there to be a seasonal decline to much lower average fares in September. Our estimates suggest that average fares will be higher than those achieved last year, but lower in August and September than the LCCs managed to achieve in 2015. The peak month appears to be happening earlier, moving gradually from August in 2015 to a more defined peak in July in 2018.

However, despite the fare estimates for July looking stronger, we’re anticipating that it may struggle to significantly outperform July last year, given that some of the cost issues experienced during the first half of this year will not suddenly disappear. And with anticipated August and September fares not being significantly better than in previous years, it’s possible that those months may on the whole disappoint too. So although Q3 will as ever be the star performer of the year, there is a significant risk that the numbers will once again be lower than those achieved in Q3 2017.

In Conclusion

On the whole, the numbers for the first half are disappointing. Despite carrying over 39 million more passengers than in the first half of 2016 (an increase of 27%), profitability for the group has declined from over EUR 300 million to less than zero over that time. Our analysis suggests that Ryanair, Transavia and Vueling have managed to improve their profitability relative to the first half of 2016, for all the other LCCs, the position is worse. Of particular note are Eurowings and Norwegian, both of whom posted losses of around EUR 200m more than they did for the first half of 2016. For these two in particular, expansion has come at a price, with the investment return yet to filter through to the bottom line.

Industrial action has played a part in damping down the numbers across the LCCs, so a small part of the disappointment can be attributed to flight cancellations. Although many summer holidays will have been booked well in advance, it will be interesting to see the effects of a hot summer on the Q3 results, as its likely many potential passengers decided to stay home and soak up the sun there instead. As outlined above, our feeling is that the numbers for Q3 will disappoint too.

2018 looks to be shaping up like a Lemony Snicket novel, with a series of unfortunate events befalling the LCC business at every turn. I wonder what lies in store for Q4.