Lufthansa Goes Off Course

The global slowdown has slammed its profits

Just about every day, Lufthansa cargo-carrying 747s depart Frankfurt bound for Shanghai, Atlanta, Tokyo, and other far-off points on the globe. They carry pricey German machine tools and plant equipment, and wing back with apparel, computer and telecom parts, toys, fresh-cut flowers, and more. While other European airlines struggled to turn a profit on their passenger business, those cargo-hauling jumbos helped Lufthansa CEO Jurgen Weber push operating profits up 44% last year to $948 million on sales of $13.8 billion, making Germany's flagship airline the leading freight carrier in Europe. And Lufthansa's passenger business? It didn't do badly either, thanks to the sharpsighted Weber, whose command of costs is legendary in the industry.

But these days, Lufthansa is a frightening indicator of how this economic slowdown can blacken even the bluest of Europe's blue chips. Export traffic is shrinking as demand for high-tech equipment in Germany slumps, and idled Asian plants no longer need the special equipment Germany sells. In the first half of this year, Lufthansa's cargo business brought in less than $2 million in profits, compared with $75 million in the same period last year. The smaller cargo shipments, combined with higher fuel costs and the impact of a pilots' strike, resulted in a six-month net loss of $39 million at Lufthansa, which reported results on Aug. 22--a nasty blow for the airline that has led the European industry in profits for the past four years.

SECOND ACT. Worse, from a psychological point of view, is that the markets think Weber's outlook is way too optimistic. Lufthansa said in its earnings statement that it's looking for a fourth-quarter pickup and is sticking to its June forecast of at least $637 million in operating profit for 2001--unless the world economy tanks. But investors aren't buying it. The stock is down 36% since January. "All the other airlines we talk to aren't expecting things to get better until next year," says Deutsche Bank analyst Jonathan Wober. He expects Lufthansa to achieve an operating profit of $590 million for the year, down from $948 million in 2000. Its "profitability should be as good, if not better than the rest. [But] the whole industry is affected by difficult economic conditions," he says.

Now, Weber needs a second act to cap off his turnaround of Lufthansa. The 59-year-old former mechanic has held a tight lid on costs and avoided the troubled acquisition strategy that has almost ruined Swissair. When he became CEO in 1991, the carrier was losing around $200 million a year. He cut thousands of jobs at the company, which was then state-owned, and froze salaries to get Lufthansa in shape for the first stage of its privatization in 1994. In 1999, when most of Lufthansa's rivals were losing money, it recorded solid profits. Weber has also strived to shield Lufthansa from the industry's dizzying downturns by building up the maintenance and catering businesses. The reasoning: Even if a recession forces carriers to slash costs, they still have to feed passengers and service aircraft, and they will be more likely to outsource the business.

But even a CEO as talented as Weber is having trouble managing his way out of this downturn. The U.S. slowdown and stagnation in Europe have cut lucrative business-class and transatlantic travel as well as cargo shipments. Lufthansa has not said how much its business-class travel has declined, but British Airways reports that its premium traffic fell 11.6% in August. To be sure, Lufthansa's Sky Chefs catering and Technik maintenance units kicked in profits of $55 million in the first half, after a $25 million loss in the first half of 2000. But the improvement could not offset a $178 million surge in fuel costs. To top it off, pilots staged a strike in April to obtain wages in line with those of pilots at other major airlines. The strike cost the carrier $68 million in lost sales and another $9 million in wage increases and back pay.

Weber's response is to cut deep into costs. His goal is to start wringing out some savings next year, and $900 million a year from 2003. He's already started slashing. Lufthansa reduced its cargo division's capacity by the equivalent of two Boeing 747 freighters. The airline has scrapped passenger flights to Rio de Janeiro and less traveled destinations, such as Bogota and Tashkent. It is also deploying smaller planes from Frankfurt to Atlanta, Detroit, and Vancouver. Wise precautions, as all signs point to much more troubles ahead. But Weber the mechanic may find he needs to fix a lot more than he bargained for.

By Christine Tierney in Frankfurt

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