News

Comment: Can Lufthansa afford Thomas Cook bid?

Overcapacity casts cloud over Europe’s carriers, says Ian Taylor

Lufthansa issued its second profit warning in as many months this week in a mark of just how squeezed airline margins have become due to overcapacity in Europe’s short-haul market.

The German group, which owns Swiss and Austrian Airlines as well as low-cost carrier Eurowings, issued a declaration of war on price saying its airlines would “aggressively defend their market positions”.

This is ironic given Lufthansa chief Carsten Spohr has been the most outspoken of Europe’s airline bosses on the need to curb expansion.

There are ‘profit warnings’ which mean serious losses, of course, and ‘warnings’ that merely mean a healthy profit may be less hefty than previously forecast – and Lufthansa’s was the latter.

Podcast: What’s next for Thomas Cook?

The group still expects to make a full-year pre-tax profit or EBIT of €2 billion to €2.4 billion, so it is hardly yet on its uppers.

Nonetheless, the warning sparked a 16% fall in Lufthansa’s share price and sent shares at rival carriers spiralling.

Lufthansa noted “the price deterioration in Europe caused by market-wide overcapacities and aggressively growing low cost competitors” was only partly offset by a “strong performance in long haul”.

It reported demand to be “increasingly price sensitive” and complained of “carriers willing to accept significant losses” in Germany and Austria in particular.

This was a reference to easyJet in Berlin and Ryanair in Vienna where the Irish giant is rapidly expanding subsidiary Lauda which it acquired last year.

The budget carriers will wrack- up eye-watering losses in these markets this year.

Lufthansa announced its network airlines would “further reduce capacity plans” this winter to leave “only marginal expansion”.

Yet Lufthansa is haemorrhaging cash on its own budget airline Eurowings, reporting revenues would “decline significantly”.

While Lufthansa and Swiss will achieve profit margins of 7% to 9% this year, Eurowings is operating at an average 6% loss on every seat – having lost €231 million last year, masked by a group pre-tax profit of €2.8 billion.

More profit warnings to come

Investment bank HSBC warned other airlines would follow Lufthansa’s lead in issuing profit warnings amid “rapidly weakening demand” in Europe.

It noted: “The strength of demand has dropped remarkably. Airlines are able to fill their aircraft only by discounting.”

UK travel companies are painfully aware of the difficult market in the UK. Brexit is blamed rather too readily for this, although uncertainty about the outcome has undoubtedly had an impact since January and the weak pound has not helped.

But the UK market is barely down year on year in numbers – it is margins that are squeezed – while the bigger German outbound market is down, so Brexit can’t be the principal explanation.

Airline association Iata moderated its previously optimistic financial forecast for the sector this week and highlighted the increasingly sharp contrast in fortunes either side of the Atlantic.

North American carriers reported a collective post-tax profit of $1.4 billion in the first three months of this year – traditionally a loss-making quarter – making an average 6.5% margin on services.

Europe’s carriers collectively lost more than $1.9 billion in the same period, operating at a worse margin (-5.2%) than airlines in Latin America, the Gulf or Africa and 12 percentage points below the margin in North America.

There was a helpful fall in the jet fuel price last month. Yet Iata noted: “Global airline share prices fell sharply in May . . . due to rising concerns regarding profitability and the potential impact of a US-China trade war.”

The market is not about to improve. Ryanair chief Michael O’Leary has promised “painful” price cuts, and Lufthansa has now signalled it will follow.

As a leading airline analyst told Travel Weekly: “There is too much capacity in the market. It’s great for travellers [but] capacity is massively out of line [with demand].”

What might this mean for Lufthansa’s bid for Thomas Cook’s German airline Condor?

The carrier is one of the few bidders for Cook’s airlines to have declared its interest. You have to wonder at the thinking behind it in the circumstances.

Thomas Cook is desperate to make a sale to pay down its debt and help facilitate a takeover of the rest of the business by Chinese investor Fosun. That much makes sense.

But what is in it for the potential purchaser/s at this point in the cycle? As the analyst noted: “If you are buying, are you going to retire the capacity?” Assuming not, “What are you going to do with it?”

tw3

Share article

View Comments

Jacobs Media is honoured to be the recipient of the 2020 Queen's Award for Enterprise.

The highest official awards for UK businesses since being established by royal warrant in 1965. Read more.