On Your Six
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Rivals Invade Southwest's Air Space
United, Delta, U.S. Airways and, Most Likely, American Are Emerging as Giant, Lower-Cost Carriers
By Susan Carey WSJ
Southwest Co. is still known as a discount carrier.
But as Chief Executive Gary Kelly acknowledged last week in a memo that is still reverberating among investors, employees and airline rivals, the discount part is waning.
Southwest Airlines is facing increased competition. Pictured, passengers at the Fort Lauderdale, Fla., airport.
Mr. Kelly's missive to 38,000 employees warned that if cross-town rival American Airlines emerges from bankruptcy-court protection, it will have substantially lower costs than before and will join the other remade "legacy" carriers that are giving Southwest a run for its money in ways they never did before.
On Tuesday, Southwest delivered a more upbeat signal, announcing a $19 billion order for 208 Boeing Co. 737s. But those new planes, too, are a reflection of Mr. Kelly's efforts to head off challenges from larger but slimmer rivals. Rather than expanding Southwest's fleet, they will replace less fuel-efficient 737s, leading to savings that are central to Southwest's strategy to remain a low-cost carrier.
If American parent AMR Corp. does "emerge from bankruptcy, as I believe they will, they will join the new United, new Delta and new US Airways as giant, lower-cost airlines," Mr. Kelly wrote.
"They are, collectively, much more formidable competition than their predecessors."
With its historical edge on costs, Southwest was able to undercut competitors' fares and stimulate new business by winning first-time fliers and luring others from cars and buses, a phenomenon that came to be known as the "Southwest effect."
But with new competition from leaner, larger airlines and from such low-cost carriers as Jetblue and Spirit Inc., "our advantage is cut in half," Mr. Kelly said in the memo.
The memo also reminded employees that Southwest's labor rates are the highest in the domestic industry and said that the airline's enemy "is our own cost creep, our own legacy-like productivity, and our own inefficiencies."
Michael Linenberg of Deutsche Bank said on an investor call last week that in his time following Southwest, Mr. Kelly's statement that Southwest can no longer stimulate new traffic is "one of the most profound statements we have heard about its business model." He suggested that to increase revenue Southwest may have to add international routes, charge passengers for assigned seating, operate red-eye overnight flights, and buy more types of aircraft to better match supply and demand. (Unlike most of its peers, Southwest is strictly domestic, doesn't assign seats and has flown only Boeing 737s.)
But Duane Pfennigwerth, an Evercore Partners analyst, had a different take. He said Southwest still has a cost advantage over rivals and a strong balance sheet free of expensive pension liabilities. He ascribed the Kelly memo to "realistic table-setting in advance of the next round of labor negotiations."
"I think he probably is trying to manage expectations," agreed Charles Cerf, president of the Transport Workers Union local that represents 7,800 ground workers who have been in contract talks since the summer. "They seem to overstate negative financial news at the beginning of negotiations."
Southwest declined to make Mr. Kelly available for an interview. But his note made clear that the company intends to preserve pay rates and benefits for the foreseeable future. Southwest has never furloughed an employee or requested concessions from labor.
Bob Jordan, a Southwest executive who heads AirTran Airways, which Southwest bought in May, said Mr. Kelly sends at least one employee memo a year, and "has done a number of rally-the-troops memos around...high fares and competition." He denied the memo was a warning shot to labor.
Over the past decade, as its legacy competitors collectively lost billions amid bankruptcy reorganizations, Southwest expanded rapidly, earning a total of $4.5 billion. Now the leading transporter of domestic passengers, its capacity in 2010 was two-thirds greater than it was a decade earlier, and it has moved into new airports, including Denver, Philadelphia and New York's LaGuardia. Its May acquisition of fellow discounter AirTran has brought it to the world's busiest airport, Hartsfield-Jackson Atlanta International.
But after years of outearning premerger Delta and United, both international carriers, Southwest this year is expected to earn $213 million, a quarter of Delta's anticipated profit and a sixth of United Continental's.
"While they still have an advantage, that advantage is a shadow of what it once was," said Bill Swelbar, a researcher at the Airline Data Project of the Massachusetts Institute of Technology.
Godspeed!
OYS
United, Delta, U.S. Airways and, Most Likely, American Are Emerging as Giant, Lower-Cost Carriers
By Susan Carey WSJ
Southwest Co. is still known as a discount carrier.
But as Chief Executive Gary Kelly acknowledged last week in a memo that is still reverberating among investors, employees and airline rivals, the discount part is waning.
Southwest Airlines is facing increased competition. Pictured, passengers at the Fort Lauderdale, Fla., airport.
Mr. Kelly's missive to 38,000 employees warned that if cross-town rival American Airlines emerges from bankruptcy-court protection, it will have substantially lower costs than before and will join the other remade "legacy" carriers that are giving Southwest a run for its money in ways they never did before.
On Tuesday, Southwest delivered a more upbeat signal, announcing a $19 billion order for 208 Boeing Co. 737s. But those new planes, too, are a reflection of Mr. Kelly's efforts to head off challenges from larger but slimmer rivals. Rather than expanding Southwest's fleet, they will replace less fuel-efficient 737s, leading to savings that are central to Southwest's strategy to remain a low-cost carrier.
If American parent AMR Corp. does "emerge from bankruptcy, as I believe they will, they will join the new United, new Delta and new US Airways as giant, lower-cost airlines," Mr. Kelly wrote.
"They are, collectively, much more formidable competition than their predecessors."
With its historical edge on costs, Southwest was able to undercut competitors' fares and stimulate new business by winning first-time fliers and luring others from cars and buses, a phenomenon that came to be known as the "Southwest effect."
But with new competition from leaner, larger airlines and from such low-cost carriers as Jetblue and Spirit Inc., "our advantage is cut in half," Mr. Kelly said in the memo.
The memo also reminded employees that Southwest's labor rates are the highest in the domestic industry and said that the airline's enemy "is our own cost creep, our own legacy-like productivity, and our own inefficiencies."
Michael Linenberg of Deutsche Bank said on an investor call last week that in his time following Southwest, Mr. Kelly's statement that Southwest can no longer stimulate new traffic is "one of the most profound statements we have heard about its business model." He suggested that to increase revenue Southwest may have to add international routes, charge passengers for assigned seating, operate red-eye overnight flights, and buy more types of aircraft to better match supply and demand. (Unlike most of its peers, Southwest is strictly domestic, doesn't assign seats and has flown only Boeing 737s.)
But Duane Pfennigwerth, an Evercore Partners analyst, had a different take. He said Southwest still has a cost advantage over rivals and a strong balance sheet free of expensive pension liabilities. He ascribed the Kelly memo to "realistic table-setting in advance of the next round of labor negotiations."
"I think he probably is trying to manage expectations," agreed Charles Cerf, president of the Transport Workers Union local that represents 7,800 ground workers who have been in contract talks since the summer. "They seem to overstate negative financial news at the beginning of negotiations."
Southwest declined to make Mr. Kelly available for an interview. But his note made clear that the company intends to preserve pay rates and benefits for the foreseeable future. Southwest has never furloughed an employee or requested concessions from labor.
Bob Jordan, a Southwest executive who heads AirTran Airways, which Southwest bought in May, said Mr. Kelly sends at least one employee memo a year, and "has done a number of rally-the-troops memos around...high fares and competition." He denied the memo was a warning shot to labor.
Over the past decade, as its legacy competitors collectively lost billions amid bankruptcy reorganizations, Southwest expanded rapidly, earning a total of $4.5 billion. Now the leading transporter of domestic passengers, its capacity in 2010 was two-thirds greater than it was a decade earlier, and it has moved into new airports, including Denver, Philadelphia and New York's LaGuardia. Its May acquisition of fellow discounter AirTran has brought it to the world's busiest airport, Hartsfield-Jackson Atlanta International.
But after years of outearning premerger Delta and United, both international carriers, Southwest this year is expected to earn $213 million, a quarter of Delta's anticipated profit and a sixth of United Continental's.
"While they still have an advantage, that advantage is a shadow of what it once was," said Bill Swelbar, a researcher at the Airline Data Project of the Massachusetts Institute of Technology.
Godspeed!
OYS
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