Why Lufthansa Is Still Overvalued

| About: Deutsche Lufthansa (DLAKF)


Four problems that will negatively impact Lufthansa's share price.

Tougher competition will affect less well prepared Lufthansa.

Higher oil prices will increase cost base.

Structural problems keep straining the airline.

Fear of terrorism affects industry passenger numbers.

While some people are bullish about the future prospects of Lufthansa (OTCQX:DLAKF) and Lufthansa's own quarterly report also sounds very optimistic, the longer-term structural problems of the German airline, as well as the current economic and political climate, urges a strong note of caution. That's why I don't expect the airline to gain in coming months, but instead, lose ground due to its multiple issues.

Lufthansa's outlook has been rather positive at the end of 2015 and the beginning of this year due to lower oil prices, saving the airline significant costs to be invested in its structural difficulties. Overall, this year is projected to be a record profit year for the airline industry, up to 12% to $39.4bn. It is important to note that this growth is exclusively coming from American airlines and airlines in the Asia-Pacific. European airlines are currently stagnant in the growth.

Now that the oil price has risen by over 25% since April, things look very different. It will put further obstacles in the company's way of further announced adjustments and investment plans, specifically for its low-cost subsidiaries.

While all airlines will face these new cost structures, Lufthansa will struggle the most with them. Lufthansa still suffers from its historically inflexible internal wage and pension structures that are hardly competitive anymore. The newly announced measures of cutting jobs in its catering subsidiary in Germany and relaxing the overly strict employment protection for the ground crew could mean a more competitive Lufthansa in the future. Still, Lufthansa has had regular problems with its unions in the past, which has led to 13 costly rounds of strikes and wage negotiations. Although things have cooled down in recent months, strikes are reported to be much more probable with Lufthansa's new measures. As such, Lufthansa seems to be in a worrisome situation. If they implement the respective measures, they are subject to a high risk of strikes that will depress their share value. If they do not implement them, they lose ground to increasingly more aggressive attacks by their competitors.

With respect to its competitors, Lufthansa surely does not belong to the gaining airlines. Emirates, Etihad, and Qatar Airlines, as well as Air Asia, are threatening Lufthansa's long-distance routes. Air Asia will introduce a new ultra-low-price route Frankfurt to Bangkok from next year for around $230, as opposed to recent prices at $800. Additionally, these airlines steadily improve their service-oriented business flights, threatening Lufthansa's core business.

Even within Europe, the fight for market share is intensifying and Lufthansa is probably not on the winning side. Its subsidiary, Eurowings, is believed to counter competitors Ryanair (NASDAQ:RYAAY) and easyJet (OTCPK:EJTTF) in the low-cost airline business. It seems rather badly prepared for that. Persistent problems of staff's wage settings and delays in its launch are not positive signs. That Ryanair has now announced a price war against other low-cost airlines for market share in Europe is another troubling sign for Lufthansa's business.

One major concern for the whole travel industry should be the perceived dangers of traveling in general. With global violence and terrorist attacks at an all-time high, this problem will not be limited to certain flight routes in the Middle East. The general insecurity will make it, therefore, harder for Lufthansa to take up last year's record number of passengers (107.7bn) that had given its investors a more positive outlook.

The next few months will show if Lufthansa can keep its ground. The facts provide enough reasons to believe the company will not be able to do so.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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