On first glance, Lufthansa had a good year in 2015.
Europe’s largest airline by revenue reported a 7-percent increase in income last year to €32 billion ($35 billion). More importantly, its operating profit shot up by 77 percent to €1.56 billion.
When shareholders meet at the company’s annual general meeting in Hamburg on Thursday, they will be at least slightly appeased by the fact that, after foregoing dividends in 2012 and 2014, they will take home 50 cents per share for 2015.
Lufthansa also looks more stable, financially-speaking. The airline has increased its capital ratio from 13.2 percent to 18 percent, moving significantly closer to its goal of 25 percent. And it managed to reverse its cash flow from €722 million in the red to €1 billion in the black.
Still, the stock markets value Lufthansa at a meager €6.58 billion. It looks cheap. The airline’s fleet alone is worth €12 billion and rival IAG, made up of British Airways and Iberia, is valued at €13.76 billion.
Why the difference? Dig a little deeper into the balance sheets, and it becomes clear that Lufthansa’s success in 2015 was largely the result of external factors and one-time events that did little to correct the airline’s formidable structural problems.
“It's still uncertain whether the new structure can generate the desired and necessary efficiencies.”
Low oil prices have been a godsend for Lufthansa. It spent 14.3 percent less on fuel compared to 2014, and management expects to benefit again from oil prices this year. Lufthansa also sold off its nearly 16-percent stake in the U.S. budget airline JetBlue in 2015, pushing its overall net financial earnings from a €699-million loss in 2014 to a €471-million profit in 2015.
But Lufthansa remains a leviathan. Over the years, it has pursued a strategy of buying up other airlines, such as Swiss Air and Austrian Airlines, in effort to show presence in Europe’s major markets. This strategy has advantages: It dilutes risk across multiple entities and keeps competition in check. But the four airlines flying under Lufthansa’s wing have their own and often times redundant administrations.
Exclude the impact of low oil prices on its balance sheet, and Lufthansa’s unit costs actually increased by 2.4 percent in 2015. Overall, costs ate up 86.66 percent of Lufthansa’s revenue in 2015, a significant increase from 82.16 percent in 2014. Rival IAG, by contrast, saw a small decline in its costs to 63.17 percent of revenue from 63.43 percent in 2014.
Lufthansa Chief Executive Carsten Spohr is trying to streamline the bureaucracy and cut costs by €500 million. In the future, administration will be centralized in hubs located in Frankfurt, Munich, Vienna and Zurich. But Mr. Spohr faces an uphill battle due to fierce internal opposition.
“It’s still uncertain whether the new structure can generate the desired and necessary efficiencies,” one insider told Handelsblatt.
Mr. Spohr’s battle to make the airline more efficient has also cost the airline dearly: Strikes during the fourth quarter of last year cost Lufthansa €100 million in earnings.
The strikes that have become all too normal at Lufthansa are set to continue this week, even if, this time, it’s not the airline’s own fault. The labor union Verdi is organizing a strike for some two million public sector workers, which will also affect six airports across the country, on Wednesday.
The strikes affect security checks, ground handling and airport fire services, forcing Lufthansa to trim its flights offerings. Lufthansa has canceled all of Wednesday’s intercontinental flights from Munich and other international routes, stranding tens of thousands of passengers.
Meanwhile, Lufthansa’s own four-year-long battle with its pilots still hasn’t been resolved.
Personnel costs increased by more than 10 percent in 2015 – something Mr. Spohr is trying to change. At the center of the labor dispute is Lufthansa’s generous wage and benefits contract with the pilots. Mr. Spohr is trying to reduce costs by weakening the contract and limiting to whom and where it applies.
The labor contract doesn’t apply at Eurowings, for example, much to the chagrin of the unions. Eurowings is Lufthansa’s latest attempt to become a major player in the exploding budget flight market, which is dominated by Ryanair and EasyJet.
Though Mr. Spohr insists that premium service by Lufthansa’s core brand remains the company’s primary focus, he has acquired 19 new A320s to expand Eurowings flights. In the future, the budget airline may even fly out of Munich, potentially putting it in competition with Lufthansa’s core brand.
“We still don’t have strong enough growth in Munich,” Mr. Spohr said. “We see a lot of potential for point-to-point connections.”
Eurowings no longer operates at a loss, having banked €38 million from €1.9 billion in revenue last year, but the budget airline is still too small to help alleviate Lufthansa’s larger problems.
Lufthansa’s cargo subsidiary, for example, saw its revenue decline to €2.35 billion in 2015 from €3.3 billion the year prior, due to weak demand in China and overcapacity. The division’s earnings before tax and interest virtually collapsed, plummeting by 40 percent to €73.5 million.
In the past, the cargo division acted as a cushion for Lufthansa, helping to compensate for losses from the airline’s passenger service. But Lufthansa’s failure to invest in innovation over the years has given the competition an opening, according to Dirk Steiger, a consultant at Aviainform.
The silver lining is that Lufthansa’s structural problems haven’t yet had a significant impact on its reputation. The major ratings agencies still view the airline as investment grade or just below: Standard & Poor’s gives it an investment-grade rating of BBB-, while Moody’s has rated the airline just below investment grade at Ba1 with a positive outlook.
Just last week, Lufthansa raised €475 million from the promissory note market, far surpassing its goal of €300 million. More than half the investors were from outside Europe.
Jens Koenen leads Handelsblatt’s coverage of the aviation and space industry. To contact the author: firstname.lastname@example.org