Lufthansa profit boost plan faces market doubts
FRANKFURT (Reuters) - German carrier Lufthansa (LHAG.DE) is struggling to overcome market doubts it can achieve its ambitious target for profit growth in the face of cut-throat competition, a sluggish economy and entrenched labor.
Europe's biggest airline is fighting to defend market share against nimbler low cost rivals such as EasyJet and Ryanair and at the same time find cash for more fuel efficient planes as it plays catch-up with ambitious deep-pocketed Middle East rivals.
The response by Chief Executive Christoph Franz is a program called SCORE, the airline's most aggressive revamp in two decades.
Launched in 2012 a year after Franz became CEO, SCORE aims to raise annual operating profit to 2.3 billion euros ($3.05 billion) by 2015, a 1.5 billion increase over 2011, through 3,500 job cuts, bundling procurement and merging Lufthansa's non-hub European flights with its budget unit Germanwings.
Analysts say SCORE promises a lot but implementing it will be a challenge because of labor opposition, economic uncertainties, volatile fuel prices and tough competition.
"We think that its 2.3 billion euros target is probably not achievable, at least on this time scale," Cantor Fitzgerald analyst Robin Byde said. His estimate is 1.5 billion euros.
Byde said the implied 2015 profit margin target is 6.8 percent, which is not unreasonable as Lufthansa's margin in 2007 were just above 6 percent.
"Our concern is that fuel costs are still high historically, Middle East carriers continue to chip away at long-haul market share, yields are forever under pressure and the low cost carriers are now seriously addressing the German market," Byde said.
Like many carriers Lufthansa is investing heavily in a new fleet and plans to take delivery of some 236 aircraft worth $29 billion by the end of 2025.
Ruxandra Haradu-Doeser of Kepler Capital Markets said that although Lufthansa has made clear its fleet rollout and new cabin products would have a one-off cost in the low three-digit million euros this year and a further mid-three-digit million euros hit next year, it has not been precise on other risks.
"They're not giving their assumptions for the oil price," Haradu-Doeser said.
"What they say is they made significant gross savings last year, but you didn't see the operating result improving last year compared to 2011.
"In the first quarter, the operating result was at the same level as a year ago, despite the progress in SCORE," she said.
The average operating profit forecast for 2015 in a Reuters survey of nine analysts was 1.9 billion euros, 400 million short of the SCORE target.
Analyst Gerald Khoo of Espirito Santo investment bank, who has an estimate of 2.26 billion euros operating profit for 2015, said the market's current valuation on Lufthansa places too low a probability of SCORE meeting its 2.3 billion target.
Lufthansa, which reports second half results on Friday, is trading at 11 times its estimated earnings for next 12 months, Air France-KLM is at 18.2 and IAG at 14.5.
Lufthansa has said SCORE would only yield positive benefits from 2014 because it first has to spend money ti implement the revamp, such as costs for staff changes and introducing new premium economy seats.
Lufthansa has estimated this year's restructuring costs, including expenses for voluntary redundancies, will be at about last year's 160 million euros.
Lufthansa says some 500 million euros of savings will come through a leaner administration and outsourcing with another 200 million from the expansion of Germanwings.
A Lufthansa spokesman declined to say how many of the planned 3,500 job cuts had already been implemented.
Another unknown cited by analysts is the result of wage negotiations with the pilots' union Cockpit which opposes the expansion of Germanwings and is resisting pressure for concessions from SCORE managers who liken the current challenges to the early 1990s when Lufthansa faced bankruptcy.
Credit Suisse analyst Neil Glynn said the guidance that Lufthansa could give on the impact of SCORE on earnings this year partly depended on talks with pilots.
Analysts say Lufthansa's past efforts to cut costs have not fed into higher profits, partly due to high fuel prices and labor opposition to mandatory job cuts.
Lufthansa introduced Action Plan in 2004 to improve earnings by 1.2 billion euros by end of 2006, and in 2009 the CLIMB program sought to raise the passenger division operating result by 1 billion by the end of 2011.
"If you sum up all the previous cost cutting programs in the past 15 years or so, you'd get around 6 billion euros but we haven't really seen this figure affecting the bottom line," Equinet analyst Jochen Rothenbacher said.
Some investors believe Lufthansa managers are genuinely determined this time to take on the unions and bring costs down.
"The impression we now have is that there are more strikes at Lufthansa than in the past," said Michael Gierse, Portfolio Manager at Union Investment, one of Germany's top three asset management funds and owner of a 0.5 percent stake in Lufthansa.
Works Council Vice-Chairman Wilfried Schmitz said Franz lacks empathy with his staff.
"Mr. Franz is like a hedge fund manager. He comes across as if he is telling us you have to go because we need a new plane."
Lufthansa is not alone in seeking to break the legacy of former flag carriers saddled with cozy partnerships with labor.
British Airways (ICAG.L) fought a long-running dispute with labor to cut cabin crew pay and staffing levels to save 62.5 million pounds a year.
After its merger with Iberia, there were also strikes over 3,000 job cuts at the Spanish airline this year.
Air France-KLM (AIRF.PA) is cutting 5,122 jobs and plans to introduce new cost cuts later this year.
(Editing by David Cowell)
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