Last week wasn’t kind to Europe’s largest airline.
Lufthansa reported a 3.4-percent drop in passengers and fewer full flights for the month of May. Then came the resignation of Simone Menne, Lufthansa’s highly regarded chief financial officer. On top of that, there were the ratings changes, with most analysts putting the carrier at “hold” or “sell.”
The markets have responded in kind, pulling the airline’s shares down nearly 6 percent last Friday. It was a further setback for Germany’s premium carrier, which has seen its share price drop by one-third since May of 2014, when Carsten Spohr took the reins as chief executive. In the same period, its rival IAG, which owns British Airways and Iberia, saw its shares rise by 38 percent.
Lufthansa’s investors are still skeptical about the long-term logic behind Mr. Spohr’s campaign to overhaul the carrier – and their concerns lie chiefly with the airline’s subsidiary, Eurowings. The carrier has absorbed flights from budget service Germanwings, whose name is still associated with the crash in the French Alps last year that killed 150 people. The plane’s co-pilot is thought to have deliberately brought down the airdraft.
Since Eurowings’ expansion, analysts have questioned whether it makes sense for Mr. Spohr to try to compete with Ryanair and EasyJet, which dominate the market for low-cost flights in Europe. Feeding investors’ concerns is Eurowings’ complicated structure. The carrier has offices in Cologne, Düsseldorf and Vienna – which has pushed expenses higher than initially forecast.
“The CEO is leaving no stone unturned, and has knowingly accepted that Eurowings and all the measures he’s introduced will water down Lufthansa’s strong brand.”
And when it comes to one of the main metrics for the sector – cost per seat and kilometer flown – Eurowings has plenty of room for improvement. Whereas Ryanair’s sits at €0.037 ($0.042), Eurowings’ management has only pledged to cut costs to €0.058 by 2020. They’re currently sitting at €0.08.
A Lufthansa spokesman said the airline’s strategy was the result of careful consideration. “We are not trying to enter the ultra-low cost arena with our second brand, Eurowings,” the spokesman said – adding that Eurowings would be able to offer customer services, such as access to airport lounges, that Ryanair could not.
Investors, however, seem to prefer a more straightforward business model – such as that of IAG, whose budget carrier Vueling is clearly separated from its premium brands. Goldman Sachs argued that the airline’s costs, at just over €0.04 per seat and kilometer flown, allow it to readily compete with EasyJet and others.
Eurowings’ complex structure – including the location of its headquarters in Austria – is due at least in part to Lufthansa’s ongoing battle with Germany’s pilot and cabin crew unions, how have carried out several crippling strikes in the past year over pay and conditions. Shareholder representatives seem to understand that logic.
“There’s been progress at Lufthansa under Mr. Spohr,” said Marc Tüngler, managing director for DSW, Germany’s largest association for private investors. “The CEO is leaving no stone unturned, and has knowingly accepted that Eurowings and all the measures he’s introduced will water down Lufthansa’s strong brand. All of that is only happening to, finally, solve the pay issue.”
Mr. Spohr has promised to reach an agreement in the dispute, which has gone on for three years now, during 2016. But insiders have spoken of tough negotiations. Lufthansa is under pressure to make progress ahead of a deadline set for the end of this month by cabin crew union UFO. The pilots’ union Cockpit says it will only negotiate through next month.
One of the major sticking points in those talks is Lufthansa’s pension scheme. The carrier says it can no longer guarantee 6 percent interest, since rates have remained so low for so long. Another issue is whether the wage agreement that applies to Lufthansa workers should also apply to Eurowings employees.
That part of the dispute is having a severe impact on daily operations. Eurowings has been plagued by flight cancellations, not just due to equipment shortages, but also because of problems securing pilots and crew, many of whom are reluctant to accept the lesser pay offered by Eurowings. Co-pilots for Lufthansa earn about €20,000 more than their counterparts at Eurowings.
The problems with Eurowings are also spilling over into Lufthansa’s core business. The airline is short of 450 cabin crew – which has brought down the quality of service on some of Lufthansa’s routes.
Passenger complaints about having to wait longer for drinks and meals are on the rise – and customer dissatisfaction could threaten Lufthansa’s standing compared to its competitors Singapore Airlines and Qatar Airways, both of which hold five-star ratings.
Despite these concerns, Mr. Spohr has opted to move forward with the biggest investment program in the airline’s history. Lufthansa has ordered more than 270 new planes – at a list price of €37 billion – and is spending more to offer additional ground services.
For Mr. Tüngler, that’s reason enough to believe in Lufthansa’s ability to rebound. In the meantime, the company will have to cope with the effects of its union disputes, as well as growing competition that stands to put pressure on earnings.
“It’s a toxic soup that is extremely dangerous for the share price,” Mr. Tüngler said. “And another new challenge for Mr. Spohr is that Lufthansa will have to continue investing in its product if it wants to stay competitive on the routes it’s interested in.”
Jens Koenen leads Handelsblatt’s coverage of the aviation and IT industry and is bureau chief of the Frankfurt office. To contact the author: firstname.lastname@example.org