Air Berlin and Lufthansa: Setting the Tone for the Next Wave of European Airline Consolidation

Today marks the start of formal acquisition talks between Lufthansa and Air Berlin, which declared insolvency earlier this week. All major players on both sides of the Atlantic are watching, as this deal will set the tone for further airline consolidation in Europe and the new competitive landscape for flights on the continent and across the pond.

After the completion of the major airline consolidation in the U.S., the focus has now shifted to Europe, where traditional legacy carriers have in recent years been battling low-cost carriers like Ryanair, easyJet, and Norwegian locally as well as competition from the Middle Eastern airlines like Emirates, Etihad, and Qatar overseas.  Consolidation in Europe began with smaller national carriers like Iberia, KLM, Swiss, and Austrian being absorbed by the likes of British Airways, Air France, and Lufthansa following the September 11, 2001 terrorism shock. And the latest round has involved the next line of airlines in Europe, such as Virgin Atlantic, Brussels Airlines, and Alitalia, as the big three European carriers seek to keep continental and overseas rivals at bay by securing market share but also capacity at key slot-constrained airports.

The latest and most prominent target is Air Berlin, Germany’s second largest airline with hubs in the major markets of Düsseldorf and Berlin. Etihad had invested a 30% stake in Air Berlin in 2012 as a beachhead into Europe and for transatlantic routes from the largest European economy. As over the years Air Berlin tried to transition from a leisure airline to a network carrier challenging Lufthansa via an acquisition spree and a hybrid business model, it ran into financial headwinds, culminating in an alliance last Fall by Etihad with the very rival Lufthansa, including codeshares but also the wet-leasing of Air Berlin aircraft to Lufthansa. 

(Not) coincidentally, a Lufthansa executive, Thomas Winkelmann, was also appointed the new Air Berlin CEO at the time. The (predictable) plan: set Air Berlin on a path of transformation to prepare it for sale to Lufthansa, financed by Etihad until the end of the Summer 2018 season to allow for a more positive trajectory and sufficient time to work out a smooth deal amidst impediments like high operating costs, huge debt, and antitrust concerns. A major latent party to this deal was the German government, seeking to preserve German influence in European aviation but also job protection in the country (especially with national elections coming up in September 2017). 

Accordingly, this Spring, Air Berlin separated its leisure operations and went about restructuring itself into a network carrier with a focus on developing the corporate and leisure rich Düsseldorf as a serious longhaul hub for transatlantic flights. (Berlin is a popular city but largely a lower-yielding leisure destination dominated by low-cost carriers, and has been drawn down notwithstanding the airline name; the new airport completion being perpetually delayed has also played a role.)

Now Etihad has prematurely pulled the plug, seeing no real gain in setting up Lufthansa while it continues to bleed not just here, but also with its stakes in Alitalia (which is already in the sales process) and the likes of Virgin Australia (which just posted a large loss). So the original takeover plan has now been accelerated and made a bit messier but in some ways also easier by Air Berlin’s insolvency, with Lufthansa pursuing rapid negotiations to buy parts of Air Berlin for a throwaway price, easyJet eyeing a piece (which would also alleviate antitrust concerns), and the German government providing a bridge loan to Air Berlin to allow operations to continue smoothly until a deal is finalized (especially before next month’s election). Ryanair has predictably cried foul and filed an antitrust complaint to the European Union.

If Lufthansa plays its cards well amidst the favorable circumstances in the final phase of the thus far patiently executed plan, it would be the outright winner here. Germany’s flagship airline would finally be able to secure the elusive prize of dominating the heavily slot-constrained Düsseldorf, whose metropolitan region is Europe’s third largest economy and catchment area after greater London and Paris. Lufthansa’s multiple past efforts to do so were frustrated in large part by Air Berlin (and previously LTU), who grabbed enough customers to make a Lufthansa hub unsustainable at the time; but the path would now be wide open. And with a fortress position in Düsseldorf in addition to Frankfurt and Munich (where Lufthansa has established hubs), Lufthansa would then control the three largest economic centers of Germany, effectively shutting out competitors and earning healthy margins in Europe’s largest market. This is in addition to already covering Switzerland, Austria, and Belgium following its takeovers of Swiss, Austrian, and Brussels Airlines.

Of course, appropriating the benefits from any acquisition needs not only successful deal-making, but also effective implementation. And it’s in the post-merger integration of Air Berlin that Lufthansa has some more dilemmas to sort out. One is that it needs to keep as many especially longhaul flights out of Düsseldorf as possible, to capture in particular the many lucrative business passengers there, while ensuring there is complementarity (instead of competition) with the Frankfurt and Munich hubs. The Eurowings intercontinental flights out of Cologne, which were set up as a second choice to Düsseldorf to at least cover the vast leisure passenger base in the region, would make sense to be shut down as a first step to avoid cannibalization. 

Another major issue Lufthansa needs to sort out relates to the branding as well as onboard products and services. While Lufthansa CEO Carsten Spohr has been pushing the lower cost subsidiary Eurowings as not only its growth engine but also the platform for acquisitions in the current wave of European consolidation, that model will have some inherent limitations in integrating Air Berlin, like we see with the recent purchase of Brussels Airlines as well. Whereas Air Berlin (like Brussels Airlines) has been set up as a full service carrier on its longhaul flights to attract the corporate clientele, Eurowings as a brand and in its aircraft configuration is set up for leisure travel (with no business class, for instance, and food for purchase). So if in its post-merger integration of Air Berlin, Lufthansa tries to move to a Eurowings-style branding and onboard offering on intercontinental flights out of Düsseldorf, it’ll drive away the very corporate travelers the German flagship airline so covets. And these are also the very customers that rival airlines, both North American and European, would love to snatch as Air Berlin folds. 

Needless to say, while Lufthansa is the principal protagonist here, there are many competitors who are waiting in the wings to see how this all plays out, ready to capitalize on any opportunities that may arise. The next few weeks and months will undoubtedly be exciting, both for this deal, and in setting the tone for further consolidation in European aviation with consequences for competition globally.