January 10th, 2018
Lufthansa Financial Strategy|SWOT Analysis
The achievement of the strategy developed by the airline is affected by the entity’s internal environment (strengths and weaknesses) as well as the opportunities and threats presented by the external environment.
The main strength of the financial strategy of the company is the presence of clearly defined targets (Lufthansa 2010, p.47). With clearly outlined financial targets the entity is able to evaluate its actual performance against the targets and institute the corrective measures where there are wide variations. Such setting of targets is enhanced by the value creation measurement method (CVA) established which provides a basis of measuring the contribution of separate segments and the entire group to the value of the company (Lufthansa 2010, p. 45). This system has helped the entity to develop targets for financial indicators such as: revenue (increasing revenue); operating profits (establish leading profitability among competitors in Europe); liquidity (maintaining a minimum liquidity level of EUR 2.3 billion and funding most of the capital expenditure from cash flows); equity ratio (establishing a sustainable ratio of at least 30 percent) and financial position – sustaining a strong position through high percentage of unencumbered aircraft (Lufthansa 2010, p. 47. Though some of these such as revenue increment and equity ratio have not been met following a decline in performance in 2009; others such as minimum liquidity and maintaining unencumbered aircraft have been realized (Lufthansa 2010, p. 47). Setting of targets is important in strategic planning since it helps in evaluating how well the entity has utilized its resources to generate income. go to part 5 here.
One of the results of the targets and the second strength is that the firm has been able to generate high financial discipline. This is for instance exemplified by measures that the company has progressively put in place to reduce its indebtedness following an increase in the period 2000 to 2005. Cost cutting measures such as higher aircraft depreciation rates in comparison to competitor rates ensured faster capital resumption and debt reduction (Tywuschik, & Ulrich, 2006). Cost management measures following an increase in indebtedness in 2009 have also been established focused on core cost areas such as altering the fleet structure, increasing staff productivity, joint projects with suppliers for process optimization and cost reduction, and raising the seating capacity of aircrafts to increase revenue (Lufthansa, 2010, p. 79).
The main weakness in the financial strategy of Lufthansa lies in its declining profitability from 2007 to 2009. The firm for instance recorded EUR 112 million loss in 2009 (Lufthansa 2010) from a profit of EUR 542 million in the previous period (Lufthansa 2009). The decline in profitability could adversely affect activities such as constant advertising which the company is required to establish to ensure an increase in its revenues and compete favorably with competitors.
A second weakness in the financial strategy of Lufthansa lies in its continuity dividend distribution policy. The trend to distribute 30 to 40 percent of the year’s earnings (Lufthansa 2010, p.33) could make it hard for the company to maintain the target liquidity in the event of economic adversity. Modern day corporations have for instance been noted to shun dividend payment in favor of other methods of return to stock holders such as repurchases (Skinner, 2008). Reinvesting part of the amounts that would have otherwise been distributed also could provide benefits to shareholders such as lowering taxes levied on the dividends while taking advantage of any lower capital tax rates that the government could be offering as an incentive to spur investment (Baker, Powell, & Veit, 2002).
The external environment provides some opportunities for Lufthansa to better its financial performance hence achieve its strategy. One of these is expanding services to other countries. The continued evolution of the European Union to incorporate more countries for instance provides opportunities for Lufthansa to expand into such regions more easily. Other prospective markets would be emerging markets where competitors such as those from the U.S do not directly provide services to. These would provide the entity with additional revenue to meet its financial targets.
The second opportunity lies in cost reduction. Establishing partnerships with domestic airlines and logistics companies could for instance help the company roll out services in areas where direct investment proves too expensive. Other cost reduction opportunities are for instance provided by technological advancements that allow for larger aircraft with increased seating capacity and reduced fuel consumption.
A number of threats are however presented by the external environment that could prove a challenge to the achievement and sustenance of a favorable performance at the company. The first of these remains fluctuations in international oil prices. Though the company uses hedging instruments to control effect of oil prices on operating costs (Lufthansa 2010); it might not benefit from low oil prices where it has engaged in forward contracts. Secondly is a threat posed by terrorism and adverse weather conditions which could deter passengers from using it as a mode of transport or delay transportation hence affect the ability of the company to generate revenues.
A third threat is adverse economic environment. For instance this would curtail the number of people visiting other places for tourism purposes hence reducing the demand for the company’s main service. This would also contribute to employees demand for higher remuneration that can lead to labor strikes hence reduced productivity. Adverse economic environment in one country relative to another could also influence the foreign exchange rates (e.g. result in strengthening of the dollar against the Euro) thus leads to an increase in procurement costs for products sourced from the strengthened currency realms.