Link to Microsoft Excel-Model In order to gain a better understanding of the following analysis and valuation, it is recommended to consider the original excel model, which has been built in a self-explanatory manner and can be found via the following link: https://www.dropbox.com/s/csj7ii75mvzcng7/Valuation of LHA - Master Thesis.xlsx?dl=0 While the main findings and explanations can be found in the text, you are welcome to contact me via e-mail with any questions or if problems with opening the file occur: [email protected] _______________________________________________________________________________________ Abstract The ultimate goal of this report is to provide the marginal investor with a thorough strategic as well as financial analysis of Deutsche Lufthansa AG leading towards a recommendation whether to buy, sell or hold the company's stock on 30.12.2016. Included in this analysis is an assessment of the credibility of current rumors about Lufthansa's potential engagement in M&A activity with Air Berlin. As consolidation is generally anticipated within the European airline industry, an informed assessment of the rumors' credibility is of relevance for the marginal investor. The applied DCF-valuation model derives at an estimate of 18,41€ for Deutsche Lufthansa AG's fair share price. As the stock is trading for 12,27€ on the valuation date, this report suggests that the market undervalues Lufthansa's stock. The additional constructions of a best and worst case scenario provide a potential range of share prices resembling possible deviations in estimated future growth rates of ASKs, load factors, unit yields, fuel and staff costs. The scenarios lead to a share price of 21,19€ in the best case and 14,10€ in the worst case. With the purpose of further triangulating the results of the present value model, a relative valuation based on multiples suggests a fair value of 26,14€ per share. Thus, the relative valuation supports the general tendency of the DCF, however implies a more significant undervaluation. The current rumors about an acquisition of Air Berlin have been evaluated as non-credible due to the limited strategic as well as synergetic fit. It is further found that a wet-lease agreement in 2016 has already provided Deutsche Lufthansa AG with a predominant share of Air Berlin's only initially attractive assets. _______________________________________________________________________________________ Page | 1 Table of Contents Abstract ......................................................................................................................................... 1 Table of Contents ......................................................................................................................... 2 1. Introduction ....................................................................................................................... 3 1.1. Motivation behind the chosen the industry and case ................................................. 3 1.2. Aim of the report ....................................................................................................... 4 1.3. Methodology ............................................................................................................. 6 1.4. Structure of the report ............................................................................................... 7 2. Industry Overview ............................................................................................................. 8 2.1. Global Airline Industry ............................................................................................. 8 2.2. European airline industry ........................................................................................ 13 3. Deutsche Lufthansa AG .................................................................................................. 17 3.1. Corporate Overview ................................................................................................ 17 3.2. Business Model & Strategy ..................................................................................... 19 3.3. Share performance ................................................................................................... 20 4. External/internal factor analysis .................................................................................... 22 4.1. Macroeconomic Analysis PESTLE ......................................................................... 22 4.2. Industry Analysis Porter’s Five Forces ................................................................... 23 4.3. SWOT Analysis ....................................................................................................... 26 5. Financial Analysis ............................................................................................................ 26 5.1. Reformulation of Financial Statements ................................................................... 27 5.2. Historical Financial Performance Analysis (Profitability, liquidity, solvency) ...... 31 6. Forecasting ....................................................................................................................... 42 6.1. Revenue forecast ..................................................................................................... 44 6.2. Forecasting costs and balance sheet items .............................................................. 47 6.3. Best & Worst case scenarios ................................................................................... 49 7. Valuation .......................................................................................................................... 50 7.1. DCF Approach ........................................................................................................ 50 7.2. EVA & Sensitivity analysis ..................................................................................... 57 7.3. Multiple Analysis .................................................................................................... 59 8. Airline's M&A rationals ................................................................................................. 63 8.1. Introduction to M&A within the airline industry .................................................... 63 8.2. M&A motives for commercial airlines ................................................................... 64 8.3. Analysis of an acquisition of Air Berlin .................................................................. 68 9. Impact of 2016 wet lease with Air Berlin on acquisition consideration ..................... 74 9.1. Overview of deal ..................................................................................................... 74 9.2. Effect of the lease agreement on acquisition rationales .......................................... 76 10. Conclusion ........................................................................................................................ 79 11. References ............................................................................................................................ I 12. Appendix ........................................................................................................................ VIII _______________________________________________________________________________________ Page | 2 1. Introduction 1.1. Motivation behind the chosen the industry and case As airlines offer services related to the global transportation of passengers and freight, the industry is considered one of the most influential drivers of the globalization process throughout the last decades. Furthermore, as the industry is only part of the larger overall aviation industry, it has a general strong interlink with multiple nation’s economies, other major industries and numerous regulatory environments. Air travel has fueled regional and global economic growth, world trade and also tourism through increasing the mobility of individuals and the ability of global freight shipment. Thus, the air travel and transportation industry is by nature vast and complex, as it interlinks with multiple influential environments. The services offered drive the global economy, the industry’s own growth, development and profitability. In consequence it is also extremely depended on global macro-economic, social, cultural and technological developments (Stalnaker, Usman and Taylor, 2015). A recent macro-economic development which massive attention was the universal drop of oil prices. Between June 2014 and January 2016, the crude oil price dropped about 75% reaching an almost 15- year low at prices below 27$ a barrel. The effects of such a developments are not only visual not on a macro- economic level, but also for everyone in their daily lives, through e.g. cheaper petrol, costs for appliances, increased occurrence of traffic or even long-term effects on the price of medicine. Thus, the question arises, if decreasing oil prices have a predominantly positive effect on the economy and if not, how cheap oil can become before it evolves into a problem? Throughout recent history, cheap fuel and low crude oil prices have regularly functioned as a siren call to the airline CEOs. After all, lower oil prices reduce the cost of jet fuel, which represents about 1/3 of a carrier's overall expenses. The potential beneficial effect of such macro-economic developments can also exceed the direct impact on a carrier's bottom line. The consequences low oil prices can have on the GDP