Lufthansa Vies With Air France for Low-Cost European Cure

Lufthansa Vies With Air France for Low-Cost Cure to Europe Ills
Lufthansa aims to turn a profit even on trips over modest distances with high fixed costs and no links to lucrative long-haul services. Photographer: Hannelore Foerster/Bloomberg

Deutsche Lufthansa AG may shift a swathe of flights to a new low-cost division operating as many as 90 jets as the German carrier follows Air France-KLM Group in seeking to end years of losses on European routes.

The unit, with the working name Direct4U, would combine short-haul flights not based at Lufthansa’s two main hubs with discount arm Germanwings, reducing expenses while maintaining service standards and prices, according to Chief Executive Officer Christoph Franz and details given in a staff newsletter.

Lufthansa’s plan aims to turn a profit on shorter trips that don’t feed passengers onto lucrative inter-continental services. Air France says it will simplify European flights and cut routes that lose cash, and British Airways owner IAG has created Iberia Express to lower the break-even point in Spain.

“Short-haul wasn’t contributing even in the good times and high fuel prices have sharpened airlines’ attention to that,” said Gerald Khoo, an analyst at Espirito Santo in London with a “neutral” rating on Lufthansa. Net income at airlines will fall to $3 billion in 2012 from $7.9 billion last year as fuel costs increase, the International Air Transport Association predicts.

Ryanair Skeptical

At IAG, or International Consolidated Airlines Group SA, which posted a 249 million-euro first-quarter loss, CEO Willie Walsh said in a May 24 interview that margins in the industry have become “unacceptable” and that a new approach is required.

Michael O’Leary, CEO of Ryanair Holdings Plc, Europe’s biggest discount airline, said May 21 that mainline carriers aren’t equipped to operate a low-cost model and that the current experiments will fail, like others in the past 15 years. The Irish carrier said its own earnings will likely fall this year as a slowing European economy prevents it from increasing fares sufficiently to make up for surging jet-fuel costs.

Lufthansa is seeking 1.5 billion euros in cost savings through 2014 after its first-quarter loss widened to 381 million euros. The German company has scrapped a plan to buy Finnair Oyj’s catering operations after freezing new investments as part of the cost-cutting program, the Nordic carrier said today.

Shares of Cologne-based Lufthansa were trading 0.3 percent higher at 8.56 euros as of 12:30 p.m. in Frankfurt, paring their decline this year to 6.8 percent, while IAG is down 4.6 percent and Air France-KLM has lost 14 percent. That contrasts with gains of almost 15 percent at Ryanair and 27 percent at Luton, England-based EasyJet Plc, Britain’s largest discount carrier.

Pay Grades

Lufthansa is “talking concretely” about revamping short-haul flights away from Frankfurt and Munich, Franz said May 24.

The plan requires a 90-strong fleet with about 36 Airbus SAS A320-series planes from Germanwings, 30 more from Lufthansa Direct, provider of main-brand short-haul flights away from the two hubs, and the rest from Eurowings, which operates Bombardier Inc. CRJ900 regional jets, said a union official with knowledge of the plan who wouldn’t be named because details aren’t public.

While pilots moving over from Lufthansa won’t be paid any less, new recruits would join on lower rates, he said.

Employees were first notified about the changes last month in a letter from board member Carsten Spohr, who wrote that an “organizational merger” of Lufthansa Direct and Germanwings would focus on Dusseldorf, Berlin, Hamburg, Stuttgart and Cologne and “create a uniform shared fleet in order to finally cap losses being made in decentralized traffic.”

Job Cuts

There are no plans at the moment to use the Direct4U name on planes or to extend the model to Frankfurt and Munich, Franz said in the interview, while adding that that can’t be completely ruled out. The possibility also remains that some workers could be moved to Germanwings contracts, he said.

In a recent message to staff, Europe’s second-biggest airline said it aims to cross-leverage competencies rather than transform the short-haul network into a no-frills operation.

“The plan is not somehow to copy the business model of low-cost carriers, but to combine the cost advantages of Germanwings with the operational and network strengths of Lufthansa,” it said May 25 in the “Lufthanseat” newsletter. “Savings will not be made at the expense of customers, but for customers.”

Lufthansa said May 3 it would cut 3,500 office jobs, or 20 percent of the total, and that number will include positions eliminated by the short-haul integration. The German carrier added yesterday that as many as 1,000 posts may also be lost at the LSG Sky Chefs inflight-catering unit, the world’s biggest.

Smaller Fleet

Franz is working on the short-haul makeover after Air France said May 24 it would reduce its European business to three units to help deliver more than 2 billion euros in annual savings and lift productivity by 20 percent after parent Air France-KLM Group suffered a 597 million-euro first-quarter loss.

The Brit Air, Regional and Airlinair brands, which operate regional aircraft to smaller cities, will become one division, leisure flights from Paris Orly airport will be operated by discount unit Transavia and Air France’s own short-haul brand will introduce a new no-frills class.

Aircraft utilization will also be improved, with 34 planes likely to be cut from the short-haul fleet by 2014 with no impact on capacity, Air France said. The number of surplus staff is to be indicated next month after labor talks end, it said.

IAG, the European No. 3, is seeking a return to profit at its Spanish division through less-generous contracts at Iberia Express. The aim is to cut pilot pay by 62 million euros, or one fifth, while improving productivity 25 percent as Iberia seeks to match profitability levels at sister company British Airways.

CEO Walsh said that in seeking a lower cost base, IAG will avoid repeating mistakes such as the creation in 1997 of Go, a no-frills carrier sold to 3i Group and later bought by EasyJet.

“When BA created Go the intention was to be competitive against Ryanair and EasyJet, but it started competing with BA,” Walsh said. “Now where we create these airlines they’re very focused and we’ll avoid that unhealthy cannibalization.”

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