Dogfight Over Europe:

Ryanair

MGMT 420
Marvin Lieberman
UCLA Anderson School of Management

1
 Competitors
• One-hour air flight
– 500,000 passengers a year
– Average price: £150-160
• Nine-hour ferry trip
– 750,000 passengers a year
– Average price: £60

Ryanair’s launch decision

– 44 person plane, 4 trips a day
– 64,240 trips a year
• £98 flat price 2
 BA&AL’s Costs
Total Fixed Marginal Fixed Marginal Fixed Marginal Total
Costs Costs costs Costs Costs Costs Costs Costs

Operating Expenses
Staff 35.7 35.7 24.2 15.8 15.8
Depreciation 8.6 8.6 8.6 5.6 5.6
Fuel & Oil 31.8 31.8 31.8 20.7 20.7
Engineering/aircraft 9.8 9.8 9.8 6.4 6.4
Selling 18 9 9 6.1 6.1 4 6.1 10.1
Aircraft Leases 3.4 3.4 3.4 2.2 2.2
Landing Fees 11.7 11.7 11.7 11.7 11.7
Handling & Catering 16.6 8.3 8.3 5.7 5.7 3.7 5.7 9.4
Ground equipment 19.5 19.5 19.5 12.7 12.7

Total 155.1 126.1 29 109.1 23.5 71.1 23.5 94.6

1. Which costs are fixed?

2. Which costs can Ryanair cut?
• Staff serve 708 passengers in US vs. 408 for BA/AL
• If Ryanair matches US staff efficiency, its staff costs
3
will only be 58% of BA/AL’s (408/578 = 58%)
 Cost Adjustments (1 and 2)
Total Fixed Marginal Fixed Marginal Fixed Marginal Total
Costs Costs costs Costs Costs Costs Costs Costs

Operating Expenses
Staff 35.7 35.7 24.2 15.8 15.8
Depreciation 8.6 8.6 8.6 5.6 5.6
Fuel & Oil 31.8 31.8 31.8 20.7 20.7
Engineering/aircraft 9.8 9.8 9.8 6.4 6.4
Selling 18 9 9 6.1 6.1 4 6.1 10.1
Aircraft Leases 3.4 3.4 3.4 2.2 2.2
Landing Fees 11.7 11.7 11.7 11.7 11.7
Handling & Catering 16.6 8.3 8.3 5.7 5.7 3.7 5.7 9.4
Ground equipment 19.5 19.5 19.5 12.7 12.7

Total 155.1 126.1 29 109.1 23.5 71.1 23.5 94.6

1. Which costs are fixed?

2. Which costs can Ryanair cut?
3. What is the effect of higher capacity utilization?
4
 Cost Adjustments (3)
Total Fixed Marginal Fixed Marginal Fixed Marginal Total
Costs Costs costs Costs Costs Costs Costs Costs

Operating Expenses
Staff 35.7 35.7 24.2 15.8 15.8
Depreciation 8.6 8.6 8.6 5.6 5.6
Fuel & Oil 31.8 31.8 31.8 20.7 20.7
Engineering/aircraft 9.8 9.8 9.8 6.4 6.4
Selling 18 9 9 6.1 6.1 4 6.1 10.1
Aircraft Leases 3.4 3.4 3.4 2.2 2.2
Landing Fees 11.7 11.7 11.7 11.7 11.7
Handling & Catering 16.6 8.3 8.3 5.7 5.7 3.7 5.7 9.4
Ground equipment 19.5 19.5 19.5 12.7 12.7

Total 155.1 126.1 29 109.1 23.5 71.1 23.5 94.6

1. Which costs are fixed?

2. Which costs can Ryanair cut?
3. What is the effect of higher capacity utilization?
• Fixed costs are spread over more passengers
5
• BA/AL are at 65% capacity; assume RA hits 100%
 Ryanair’s Estimated Costs
Total Fixed Marginal Fixed Marginal Fixed Marginal Total
Costs Costs costs Costs Costs Costs Costs Costs

Operating Expenses
Staff 35.7 35.7 24.2 15.8 15.8
Depreciation 8.6 8.6 8.6 5.6 5.6
Fuel & Oil 31.8 31.8 31.8 20.7 20.7
Engineering/aircraft 9.8 9.8 9.8 6.4 6.4
Selling 18 9 9 6.1 6.1 4 6.1 10.1
Aircraft Leases 3.4 3.4 3.4 2.2 2.2
Landing Fees 11.7 11.7 11.7 11.7 11.7
Handling & Catering 16.6 8.3 8.3 5.7 5.7 3.7 5.7 9.4
Ground equipment 19.5 19.5 19.5 12.7 12.7

Total 155.1 126.1 29 109.1 23.5 71.1 23.5 94.6

1. Which costs are fixed?

2. Which costs can Ryanair cut?
3. What is the effect of higher capacity utilization?
4. Other costs may differ somewhat (e.g. depreciation),
6
but not in ways that affect the basic story
 Summary
• Ryanair’s revenue are
£98 per ticket
• Ryanair’s costs are
probably £85-90 per
ticket
• It will make about £10
per ticket in profits, or
about £650,000 a year
• Assuming 100%
capacity utilization
7
 BA/AL’s likely response
• What options do they have?
1. Accommodate – do nothing
• If 100% of Ryanair’s demand comes from BA/AL
(and not ferry passengers), BA/AL lose:
64,240 * £20 = (£1.2 in profits)

8
 BA/AL’s likely response
• What options do they have?
1. Accommodate – do nothing
64,240 * £20 = (£1.2 in profits) (at most!)
2. Full scale match – price at £98
• 500,000 * £60 = £30m in profits lost
• But their capacity utilization would go to 100%
269,000 * (£98 - £28) = £18.5m in profits gained
• (£30m) + £18.5m = (£11.5m in profits)

9
 BA/AL’s likely response
• What options do they have?
1. Accommodate – do nothing
64,240 * £20 = (£1.2 in profits) (at most!)
2. Full scale match – price at £98
(£30m) + £18.5m = (£11.5m in profits)
3. Targeted match – drop its highest fare only
• Assume there are 100,000 such customers (which
is more than Ryanair’s capacity)
(£209m-£98m)*100,000 = (£11.1m in profits)

10
 BA/AL’s Decision tree

RA
(£1.2m ) makes
Accommodate
£650m

Partially
BA/AL Match RA
(£11.1m ) makes
Enter £??

Ryanair RA
Fully match (£11.5m ) makes
£0 (we
hope?)
Don’t RA
£0 makes
Enter
£0
11
 Wal-Mart Decision Tree

Enter (-5,-2)
Potential
Entrant
Build large
store
Stay out (10,0)

Walmart
Enter (2,2)
Potential
Entrant
Build
small
store
Stay out (15,0)
12
What Happened?

13
 Key Questions
1. What went wrong? What specific
decisions of Ryanair’s were faulty?

2. What should Ryanair have done

differently?

3. What should Ryanair do now?

14
Game 1

15
Game 2

16
 How Are These Different?
• “There’s no way I could [play
steal]… I mean everyone
who knows me would be
disgusted if I stole”
• “I can look you straight in the
eye and promise, I swear to
you, I am going to split”
• “Let me tell you what my
word means. My father once
said to me, ‘A man who
doesn’t keep his word is not a
man. Not worth a dollar.’ 17
 And This?
• “Ibrahim, I am
an honest
person. I am
going to play
the steal ball.”

18
 Game 2: Game Theoretic
Analysis Nick
Split Steal
Split 7 , 7 0.01 , 14
0 , 14
Ibrahim
Steal 14 , 0 0 , 0

• If Ibrahim really believes that Nick will play steal, then he can’t
win any money…..
• …. Unless he chooses split, and Nick is honest
• Does Ibrahim have to believe Nick is honest and will split the
money with him?
• …. No! He only has to believe Nick is really going to play steal!
• …. And that there is even a TINY chance Nick will share!
• Why would Nick lie about playing steal?
• Nick’s statement is credible, i.e. Ibrahim believes it
When analyzing competitor response,
it’s important to….
1. Think through the competitor’s
strategy and incentives
2. Think through the competitor’s
beliefs about my strategy and
incentives

Nash Equilibrium:
• Naïve view: “Both parties doing
what’s best for them”
• “Both parties doing what’s best for
them based on their beliefs about
the other” 20
 The Most Important Lesson of
Game Theory
• “People make choices in their own best
interests”

• “People make choices based on their

beliefs about what others will do”

• Game theory for strategists: affect others’

beliefs in ways that are beneficial to you.
21
 2 Ways To
Communicate Intentions
1. Cheap Talk – statements or actions
that do not change others’ beliefs about
what you are going to do

2. Credible Commitment – statements or

actions that change others’ beliefs
about what you are going to do

22
 JetBlue’s Launch Strategy
• Why was JetBlue’s launch such a huge success?
• NOT because of the leather seats, DirecTV and
free snacks
• YES because the giants accommodated entry!
• It initially focused on leisure routes in New York
(e.g. JFK-Buffalo, Syracuse, Rochester) – not a
huge source of profits for the giants
• It entered into a 3-year exclusive lease
agreement with a small aircraft provider
– Sent the signal that it planned to stay small
• JetBlue built profits, brand and political
23
connections that allowed greater expansion
 Netflix’s Strategy
• Netflix’s “niche” philosophy
– Cheap price / lower quality content (e.g. no current season)
– Goldilocks-esque “not too big, not too small”

• “Getting too large will start an Armageddon with cable

networks”*

• “Getting into current season [TV] or newer movies

would not be profitable for us. It would be World War
III, and we likely wouldn‘t survive that battle.”*

24
* Both quotes are from Netflix CEO Reed Hastings
 Judo Strategy
• A credible commitment to stay small (at least for a
while) limits the incentive of the incumbent to retaliate.
• Retaliation in this case hurts the incumbent much
more than the entrant.
• In general, hard to make this kind of commitment in
the airline industry.
- Jet Blue found a way.
- How many flights per day does Spirit fly between city pairs?

25
 WalMart’s Strategy
• Sunk cost commitments protect local monopolies
from entry by competitors.
• Investment in local store (initial advertising, setup
costs, employment contracts) are sunk costs.
• Sunk costs are a type of fixed cost. (Once made, they
cannot be reversed.)
• Note that rent is a fixed cost, but not a sunk cost.
Maybe WalMart should own its stores in some locations
to raise its sunk costs.
• Can an airline commit to a city-pair market in this way?

26
 Game Theory Summary
• Easy to get trapped in bad outcomes
• Need to think not only about the other party’s
strategy, but their beliefs about your strategy
• “Cheap talk” doesn’t influence beliefs because
underlying incentives haven’t changed
• Need to find credible ways to signal your
strategy

27
“Honestly we didn’t know whether or not
Aer Lingus would match our price. We
thought they wouldn’t if they were rational,
but we didn’t spend a lot of time worrying
about it because it was out of our control”
– Tony Ryan

28
 Saving Tony Ryan
1. How could Ryanair “control” whether
Aer Lingus’s entered into a price war?

2. What did Ryanair do poorly from a

game theory perspective with its initial
launch?

3. What should Ryanair do now?

29
 What Did Aer Lingus Believe?
• Ryanair offers a low
ticket price with no
restrictions
• Ryanair offers same
level of service as AL
• Ryanair uses initial
profits to attack AL on
other routes
• Ryanair takes out
newspaper ad on AL’s
50th birthday mocking its
30
inefficiency
 Decision Tree Models are Static

RA
(£1.2m ) makes
Accommodate
£650m

Partially
BA/AL Match
(£11.1m )
Enter

Ryanair Fully match (£11.5m )

Don’t RA
£0 makes
Enter
£0
31
 AL’s beliefs about effect of its
decision on Ryanair

(£1.2m ), and Ryanair will

Accommodate continue to directly attack us

Partially
Match
AL (£11.1m ), and Ryanair
will continue to attack us

Fully match (£11.5m ), and Ryanair will

stop attacking us

32
 What Does Ryanair Want
AL to Believe?
1. “We are going to crush you”
– Dangerous given the high FC in the industry!
2. “We are going to stay small”
– Need to find a credible way to signal this; e.g.
JetBlue’s clever lease scheme
3. “We are going to target the ferry market,
not your core customer groups”
– Design a product that is not attractive to
business travelers
33
 The Danger of Flexibility
• “Strategy is about maintaining as much flexibility
as possible”

• Danger: flexibility could affect competitors’ beliefs

in unfavorable ways
• “It is strategic to limit your options if it affects
competitors’ beliefs in ways favorable to you”
34
 Critique of Ryanair’s “Strategy”
• Didn’t think through the effect of AL’s beliefs
about Ryanair.
– Appeared to attack AL’s core market
– Because of AL’s low MC position, this is a terrible
mistake!

• Didn’t have a strategy different than competitors

– “Strategy” based on operational effectiveness, not
competitive advantage
– Operational advantages were around FC!
• This attack was bound to prompt rivalry!!!
– No differentiation advantage

• “We tried to be everything to everybody” (Tony Ryan) 35

 Ryanair’s Revised (and Current!) Strategy
• Strategic Choices Focused on Cost
– Lower cost, secondary airports
– Restrictive refund policy
– No free in-flight amenities, snacks or drinks – not even peanuts!
– Employees paid based on productivity
– Fleet standardized to streamline operations and maintenance
– Advertisements sold on tray tables and overhead lockers
– All boarding done via metal stairs; no air bridges used
– Tickets can only be purchased online; no online customer support
• Strategic Choices Focused on Avoiding
Competitive Response
– Most of the above!
• Self-Reinforcing, low-cost strategy designed to
minimize rivalry with incumbents
36
Ryanair: Aircraft Interior

37
Ryanair’s Route Structure

38
 Ryanair’s Current Cost per
Marginal Passenger

• £2
• Oops, that’s wrong – sorry
• -£2
• (£2)
• It makes marginal revenue per passenger
(e.g. ad revenue) greater than its MC!!

39
 Course Structure

1. Competitive Analysis is
Advantage largely static

Industry Analysis
Analysis is
Dynamic

2. Strategic 3. Organizational
Interactions Strategy 40
 Ryanair Wrap
• Static analysis of competitive advantage is hugely useful, but can
only get the strategist so far
• Thinking strategically requires thinking through interactions between
you and competitors (and others!); game theory is a fundamental
tool for this analysis
• Your competitor’s beliefs about your likely actions are just as
important as your beliefs about her actions
• Leads to a huge number of novel strategies based on affecting
other’s beliefs
• One canonical example: tying a hand behind your back as a way to
make a credible commitment
• Judo strategies - based on credible commitment to stay small
• Preemptive strategies - based on credible sunk cost commitments

41