What’s the Deal With Airline Food, Lufthansa?
(Bloomberg Opinion) -- If you find a tray of warmed-over chicken curry and a pocket-sized Greek salad at 35,000 feet an unappetizing prospect, you’re not alone. The world’s airlines don’t much like it, either.
Deutsche Lufthansa AG is exploring options including a sale for its catering arm LSG Sky Chefs, people with knowledge of the matter told Joyce Koh, Manuel Baigorri, Richard Weiss, and Aaron Kirchfeld of Bloomberg News this week. With HNA Group Co. also in effect selling off half of its Gategroup Holding AG in-flight meal unit via a convertible bond issue to Temasek Holdings Pte and RRJ Capital, about half the global market in airline food has been put up for sale this year.
That’s somewhat surprising. After all, with rising oil prices rapidly wiping out profits in airlines’ core businesses, catering isn’t such a bad line of work.
Unlike airlines themselves, which operate on a fiercely competitive global stage, the market for ancillary services is highly concentrated. While in-flight catering is bought by airlines rather than passengers – removing the wonderful captive market that allows budget carriers to sell passengers egg sandwiches for $10 a go – it’s still a vastly less competitive market than selling plane tickets.
That advantage shows up in operating margins. While those at LSG Sky Chefs tend to be pretty weak – in part, no doubt, because Lufthansa itself is a key customer and works hard to squeeze the profit back up into its core business – more arms-length players such as Singapore Airlines Ltd.’s former unit SATS Ltd. and Emirates’s Dnata affiliate consistently post figures in the double digits.
In recent years, low fuel prices and consolidation in the North American and European airline industries have meant that selling plane tickets is as profitable as it’s ever been, with carriers covering their cost of capital over the past three years for the first time since the dawn of the jet era.
Even then, though, relatively minor players like Austria’s Do & Co. have been churning out margins from in-flight catering that are as good as the world’s biggest airlines can manage. What’s more, selling rubbery chicken sausage and scrambled-egg breakfasts is a lot less at the mercy of volatile commodity prices. Airlines put about a quarter of their costs into buying jet fuel, which hit a near-four-year high in Singapore earlier this month.
To be sure, there are sound reasons why Lufthansa’s food trays make less than those from its Singapore- and Dubai-based rivals. A larger share of traffic in Europe is on short-haul budget flights, so the market is smaller and under more pressure. Still, there’s nothing intrinsic stopping LSG from moving more aggressively into other areas of the world, or taking on food-service giants such as Compass Group Plc and Sodexo SA.
The risk for Lufthansa is that it mistakes the recent favorable outlook in aviation for a permanent condition, and ends up selling a business that provides valuable diversification from its riskier core operations.
Consider the example of Air Canada, which recently led a group to buy back its loyalty program from Aimia Inc. for C$2.35 billion ($1.8 billion) including points liabilities after spinning it off in the early 2000s. While Aimia has been struggling of late – thanks in no small part to Air Canada’s threat to withdraw from their relationship and set up its own, rival program – for most of the past decade it’s traded on consistently higher valuations than those of the airline that set it up.
Investment bankers will no doubt be able to put together a strong pitch deck arguing that airlines should focus on their core businesses instead of getting caught up in ancillary services like food.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
David Fickling is a Bloomberg Opinion columnist covering commodities, as well as industrial and consumer companies. He has been a reporter for Bloomberg News, Dow Jones, the Wall Street Journal, the Financial Times and the Guardian.
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