Flying High Isn’t the Time to Buy Europe’s Largest Airline: Lufthansa’s deal for Air Berlin’s assets effectively creates a local airline hegemon in Europe’s largest economy

The Wall Street Journal
By Stephen Wilmot
Oct. 12, 2017 9:54 a.m. ET


A year ago, Lufthansa looked in deep trouble. Europe’s largest airline by sales had no finance director; demand was weak following terrorist attacks; costs were rising; a long-simmering dispute over pilot pay forced it to cancel thousands of flights; budget carriers like Ryanair were aggressively targeting its German heartland; European airline consolidation looked as remote a prospect as ever. Last October the shares slipped below €10 for the first time since 2012.

The picture now could hardly be more different. Thursday the shares jumped above €25 for the first time since the dot-com era as the company agreed to buy more than half the planes of bankrupt Air Berlin, the second-largest German airline, for a bargain-basement €210 million. This effectively creates a local hegemon in Europe’s largest economy, with dominant positions in all its key cities. Analysts see an echo of the M&A wave that has transformed the profitability of U.S. airlines.

Just as importantly, Lufthansa signed a five-year deal with its pilot union Tuesday that provided for a 15% reduction in cockpit-staffing costs and lower pension liabilities. A framework agreement was announced in March, ending months of strikes, but the two sides needed the summer to hammer out details.

Lufthansa also has relished the troubles of Ryanair, the largest European airline by passenger numbers. The Ireland-based budget carrier has been forced to cancel thousands of flights and up pilot pay after a change in rostering policy and high staff turnover left it short of crew. Last month, Lufthansa’s budget operation Eurowings ran an ad headlined “O’Deary!”—a jibe at the expense of Ryanair Chief Executive Michael O’Leary.

Can Lufthansa keep up the good news flow? One doubt concerns the European competition authorities, to which the Air Berlin AB1 43.56% deal is likely to be referred. Competition commissioner Margrethe Vestager has presented herself as a consumer champion in rulings on European wireless-carrier mergers, as well as a tax watchdog for U.S. tech giants. Wrangling over remedies may knock Lufthansa off its current cloud.

Another question is whether Lufthansa’s deal with pilots actually improves cost performance. Investors may lose faith in management if the punchy headline numbers don’t translate into a noticeable step-down in unit costs over the coming quarters. The company’s August update implied that unit revenues would fall faster than nonfuel unit costs in the second half. Investors have been happy to shrug that off as savvy expectation-management; they will be disappointed if the company merely matches this guidance.

Lufthansa’s latest deals should bring lasting improvements, but sentiment toward airlines is notoriously volatile. Those looking to invest are probably better off waiting until the skies cloud over.

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