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Gary Kelly Highlights from Bears & Sterns Brief

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chase

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Bears & Stearns Webcast on 13 May

Website to listen to the webcast http://customer.talkpoint.com/BEAR002/051205a_cy/linkdefault.asp?entity=southwest



Comments from Gary Kelly, Q&A from audience



- Air Travel market is better this year than last…fare increases are healthy

- Major issue is record high energy prices…no one can make a profit at $50 a barrel tomorrow…we will all need to figure out how to do it in the future

- 32nd consecutive year of profitability

- 1Q 76M vs 26M. .09 vs .03 share

- 1.9% up revenue from 1Q04

- 3.8% costs reduction from 1Q04

- customers want low fare & that is our brand…we want to be the low fare carrier no doubt

- 90 cents avg price per fuel in 1Q05….85% hedged at $26 rest of this year…helps us remain profitable

- nice increase in earnings with no major changes in trends for the rest of the year

- Fuel hedges, 5 yrs in place all the way out to ’09 @ $35

- Fuel cost up next year $150m over this year

- Fare increases this year of $1-3…should cover the costs of increased fuel costs for “next year”

- April traffic LF dropped 7 pts…69.1% is good with no Easter & record load factors last year…competitors were withdrawing last year in April, this year that hasn’t happened, another reason why LF was down

- SWA isn’t concerned about April traffic

- 2nd qtr trend…13.3% seat increase….RASM will be down in April, maybe even 5%

- Significant benefits in MDW with drawdown of ATA & our codeshare agreements maturing

- SWA is holding our own…unsure of whether RASM will be up or down this qtr but we’re optimistic due to MDW market & other factors that things still look good

- 29 net aircraft increase this year…10-11% seat capacity increase this year

- new markets…MDW, will be 3rd largest operations by Sept..192 flights, has potential to grow more; PHL, started 1 year ago…50 daily flights by Sept, 6 gates, restrained there but anxious to get more gates…we’ll be happy to buy more gates, "anybody here got any to sell"…PIT, great airport, 10 flights, 4 n/s of the 10 flights…very high fare market…USAir has cut their flights in half with little LCC in the area

- SWA effect….low fares, increased flights…airports suddenly are flooded with folks…PHX, new terminal D, 24 gates…TPA new C terminal, …new refurbished in A & B in BWI…last summer completed 4 new gates in ISP & are beginning 4 more gates there…

- Cargo growth is very strong…named Airline of the Year by one of the cargo professional organizations…US Mail business is increasing at a good clip in revenue & volume…adds to the revenue stream

- Trying to get unit revenue back up to historical levels…rest of the industry is in terrible shape…no one can make money with $50 except for us, we’re very fortunate



Q&A



- A real coup in MDW….magnitude of growth potential in MDW & in future cost savings….

- SWA will have more competition in the future & we will need to respond more aggressively…MDW demonstrates that

- Likely to add a new market in 2005 still…A/C deliveries “could be” 40 to 50 in the future per year

- -Where will those A/C go? After 34 yrs only 60 locations we fly to…we’ll seed
ed our route structure with prime locations…places like PIT, PHL & others could
absorb a lot of capacity with many other possibilities
- - We’re prepared to take advantage of shrinkage by other airlines
- Cost structure is still low…some wage rate pressure in past years…productivity has increased…73 people per aircraft, reduced by 20 folks since 1Q2002….we have many ideas on the books to save more money, we expect to implement many of these for future saving…very confident



Wright Amendment Question



- American says we should go to open gates at DFW….why not?

- SWA wants to fly where we want to fly, not where our competitors would like for us to fly….AA is 3 times our size overall…900 flights at DFW…we’re all envious…Love has 117 flights a day…how is that a threat? It is outrageous to have restrictions for 26 years where we can’t fly beyond the WA states & can’t sell tickets to do so…it is wrong…lobbying Congress to get a bill….there is no bill right now…we didn’t do it before because we didn’t think we could win…we’re still a long way from that happening…32 gates at Love in the master plan…makes perfect sense….ISP will have only 8 gates & there are no restrictions there…….Here’s the bottom line “..others are asking continuing bailouts, cut their employee wages, asking shareholders to lose money, furlough employees, seek bankruptcy protection…what are we asking for, simply to be allowed to compete…how is that bad?”



Fare increases



- is there some pricing power coming back with these changes?

- Industry demand is stronger this year as evidenced by fare improvements….loses need to be mediated & some of the fare increases have helped this…fare increases on the east coast aren’t as sustainable as they are in other markets…this is better than ’03- 04 but a far cry from financial health in the industry
 
Thoughts on Gary Kelly comments


Gary appeared to be very upbeat & positive about the future. We’ve heard rumblings that the additional fuel costs would run around $350-500M next year….GK disputes that with a figure of $150m….He also says the $1-3 fare increases will make up for that difference …the fuel hedges will still save our bacon no doubt but it looks like the fare increases are covering the increased costs according to his comments.

Does that mean more productivity gains need to occur? You bet they do…other efforts are being made to pare down overages in employees at certain bases….specific packages are being offered at 8 cities (for now) to encourage early retirements or placements into undermanned areas to include paid moves to areas...early retirement packages are similar to last year's offer, the difference is these are for selective cities only…this will help move bodies to where they are really needed……folks from Ops & CSA are still moving to inflight to fill positions there saving us money big time, as they have in the past, this is ongoing….other capital improvements to handle future growth is occurring MCO where 3 more gates are being added to the concourse…HOU will have more gates within the next year (yes it is taking forever but hopefully by then)…new hangar space in TPA...I thought I saw construction at MDO or TPA last week for 3 more gates there also….lots of good news out there for growth & future hiring.


In terms of more airplanes to buy that Gary alluded to? Boeing may have more airplanes that SWA could walk away with considering the number of legacy carriers that have delayed, slipped their 737’s from this year’s budget or next year’s budget to future out years….what does Boeing do with those airplanes (18 months usually to get on from start to finish I’ve been told but if anyone has better info please let me know, I’ve never heard conclusively) that were in the pipeline when they were cancelled? They find other buyers….is SWA one of those? Maybe but certainly the demand for the airplane may drive the price higher than what SWA would want to pay but it is a possibility if Boeing wishes to sell airplanes to its best customer.



Leased aircraft from others that are having them returned as a result of consolidation in the industry is a possibility….yes SWA said no to some in the past for high “D” inspection costs or something to that effect…will leasing companies be willing to deal or eat some of those costs if the difference is having them sit in the desert with no money coming in? Maybe, maybe not…if the leasing companies find it worth their while to lower leasing agreements for defunct companies would they be willing to bend over for a company they know is going to continue paying them with no fear of having a default on their lease & retaining their asset while not paying anything? SWA is a shrewd negotiator….I find the situation more intriguing than last fall when all the talk was out there.



If SWA got 30 airplanes, where does one find 150 CAs to man these aircraft on a short notice? (P.S. it takes 4 weeks to complete CA upgrade) SWA has a program called the Lance Captain program that allows the top 8% of FOs to go through upgrade allowing them to fly either seat…this is the buffer SWA management has available to them which allows for them to even consider making large airplane purchases knowing there are folks to man the aircraft nearly immediately. It’s been with the company since day 1. A nice way to enhance productivity when opportunities present themselves.



Lastly, SWA had the 2nd lowest LF of the 10 largest carriers 1Q05…others are near the breaking point in terms of what can reasonably be carried.

In other words who has reasonable capacity to absorb any disruption in service or expected increases in travel this summer? With 11-13% increase in seat capacity 2Q05, with fuel prices for cars averaging around $2.25 this summer vs. $1.75 last summer, the cost factor for driving is causing many folks to re-think flying vs. driving…again who has the frequency, availability & price (you get more price conscious when you move from cars to planes for families of 4) to lure these folks back to the skies?

Legacy carriers while having some allure to some travelers, the bottom line to most folks is cost…I think SWA will do well with that & with excess capacity to handle this we could see some nice numbers over the summer.


Nothing is certain except the worthlessness of rants on anonymous boards….congrats to the recent May arrivals…hope the parties went well & that the spouses enjoyed them…congrats to the rest of May arrivals & to the June folks….good luck to the interview folks next week but remember to have fun, smile a lot & enjoy the ride….to those waiting for the call…keep updating, keep flying safe and don’t give up, SWA will get to you down the road…it is worth the wait…saying you’re ready to be called & being ready is two different things….again if they call tomorrow is everything ready to go? Go Mavs & Rangers!!! (sorry I couldn’t resist…standing by for the PHX onslaught!)
 
Rasm Should Be Up This Quarter

I've tried to get "internet fares" into El Paso, Tucson..........no go all the way to October. There were some available in PHX from FLL, but SWA fares are on the way up...........at least out West. It seems most of the airlines realize that cut throat competition in a no win, and have agreed to "live and let live" for now.

Jetblue says it has no designs on the West Coast for their 190s in 2006. Fares will continue to stay high out there until someone can come in and lower fares and make a profit. 2007 should be the year.
 
Chase,

Does the second lowest LF in the industry concern you? I'm starting class soon and will learn alot of the SW way but this hard number made my eyes pop. How can this be?
 
SWA has always had comparatively lower LF's than most other majors. The fact that SWA is profitable even with the low LF is a very good thing, since it means that, should the LF go up (perhaps due to a liquidation), SWA can take the people, while carriers who are running much higher LF's already hardly have the seats left to sell.

Consider this: if airline A is running 80% full with an 85% breakeven LF, and airline S is running 70% full with a 65% breakeven LF, clearly S is making $ while A is losing $. Now suppose airline Q goes chapter 7 and on certain routes for a period of time every seat that can be sold is in demand... now A is running 95% LF (10 points above breakeven) and S has a 90% LF (25 points above breaking even). Life got better for both carriers, obviously, but who's getting the greater benefit from the passengers no longer flying on Q?
 
Why not just use names...that letter thing screwed me up.
 
Here...I'll explain it for you.

Airline S has a destructive mgmt/labor relations
Airline C is almost in bankrupcy
Airline R is in bankrupcy
Airline E is considering a merger with...
Airline W who is in bankrupcy
Airline E still wants to go for it, go figure..
Airline D is doing okay but still not making money

That about sums up the US airline industry. With the exception one, Go SWA!
 
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I wonder where/when those low LFs are, I can't remember the last time I pushed with less that 100. And every time I JS we're 137+1(or +2, or +3)
 
SWAPoolie,

As always Snoopy spelled it out perfectly...thanks for making the point Snoopy...this ability to asbsorb capacity is what will be our big advantage....also if the merger between USAir & AWA goes through GECas is going to have some excess planes...don't know if they are 737s or not but hopefully some of them are. Snoopy's the man!!!
 
SWAPoolie said:
Chase,

Does the second lowest LF in the industry concern you? I'm starting class soon and will learn alot of the SW way but this hard number made my eyes pop. How can this be?
It concerns me!:)

SWA is a highly flexible, financially stable, well oiled machine. Their achilles heal is the rest of the LCC's are growing quicker than they are and the LCC's are "trending" higher load factors and are making money or they are close to it. If this trend continues as I suspect, then this is reason for mgt to be concerned. As the next few years go by, SWA will be dealing with a very formative coalition of airlines that will be overlapping many of their routes with head to head competition.

The legacy's will no doubt downsize through forced consolidation and liquidation in the next few years. This will benefit SWA as they have the reserve capacity to fill in where it's needed at will. It will also mean that they will continue down a path of changing the business model to accomodate many new cities that are expensive to operate and not designed for fast turn-a-round/high frequency. Will the newly evolving Legacy's be able to compete? Lot's depends on how the pension and scope issues play out, but I suspect they will over time.

I don't count out SWA for one minute, but the cake walk is over.
 
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Since when has SWA has a "CAKE WALK". Study the history of SWA and you'll know that it has been anything but.

Trust me, we all know that this is a tough business and we can see what is going on with everyone else. What amazes me is that everyone on the outside looking in thinks that we are sitting on our high horse with blinders on. We're not.

SWA is where it is because of good management and good employees, working together towards a common goal.
 
Truman,

You're exactly right...many skeptics have questioned SWA's business plan & strategic moves in the past.. actually I believe it works to SWA's advantage for them to remain skeptical & keep the expectations of our eventual demise or stumble out there in the type arena that we operate in...what is remarkable though is our day to day customer must think we're doing something right though. Exceeding expectations is what we have done well in the past & I expect we'll do in the future.

Surprising the skeptics in how Southwest overcomes adversity is one of the constants at Southwest & the airline industry....whenever our detractors or skeptics jumps on our bandwagon I'll be concerned at that time but until then I'm glad there are those who say "you're on the downward slide".."business model needs to adapt to 190"....folks who are on the inside see clearly the efforts underway to look beyond next quarter or later this year & to have a vision for many quarters ahead, i.e. fuel hedging the most clear example of that....inflight entertainment is another issue....reports out this week in the press about satellite TV broadcast to airplanes that will then be seen by persons who have laptop capable receivers (wireless transmissions) to view the shows...what a lower cost for SWA in the future to simply install an antenna to receive the signal & then broadcast wireless to subscribers to this system...of course we'll let someone else test out the system & the dollars to do it...very little cost to us & now we've fixed the entertainment issue (for those who scream "you must have Direct TV")...entertainment & on demand TV is being rammed down airlines throats as the end all/be all....it is a cost like everything else...SWA appears to be waiting for the 3rd generation type options that will be significantly cheaper to install & maintain (minimal weight also) for its cost concerned flyers...we've done this in the past with winglets (the first versions were over a $1m a copy....SWA received theirs for way less than 1/2 of that per copy), we've done that many other innovative operational initiatives that may have put us slightly behind the initial purchasers of "said items" but eventually we find the least costly way to have what others have had for sometime.

Again I have no way of knowing what SWA's plans are but rest assured they aren't responding to other carriers initiatives in a knee jerk reaction, they are though looking out to the future to insure they are profitable & growing....as you so accurately described Truman, the key is have leadership with a vision & employees who are willing to do what it takes to implement that vision....that is why hiring the right folks is so important (which is why most folks are reading this drivel)....good luck to all of you in your aviation pursuits...our critics & skeptics will remain skeptical....folks say about communists you never want to get rid of all of them, you need a few around to remind you of how foolish their predictions were.... no lowecur isn't a communist:) ...at least I don't think so!:rolleyes: ...cheers...gotta go for a callout, quick trip out west....have a great day & good luck to the folks interviewing this week & next...relax, have a great time & smile a lot!!!
 
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Chase

Nice reply.

I'm not the only skeptic. Prudential downgraded SWA from overweight to neutral today. This from a WSJ article in todays paper: "Because of higher oil prices, higher hedging costs and greater exposure to the spot-price market, Southwest calculates its fuel costs could surge 50% to $1.5 billion in 2006 from $1 billion in 2004 if oil prices stay at current levels."

That said, GK is raising fares on many routes across the country where he can get away with it. This is long overdue throughout the industry, and with oil continuing to head South, it could make for some good operating profits in the next few quarters for most airlines.

GK mentioned in the CC yesterday that they would hope to take on more gates at PHL as they become available thru the new merger. I think SWA will get their gates. I will be very interested to see if PHL will continue to draw down traffic from BWI, and if a fare war will erupt.
 
flint4xx said:
Standing-by for the new city announcement...rumor of a sunny city...
ATL or CLT. GK will continue to prey on the weak.
 
lowecur said:
It concerns me!:)

1) SWA is a highly flexible, financially stable, well oiled machine.

2)Their achilles heal is the rest of the LCC's are growing quicker than they are and the LCC's are "trending" higher load factors and are making money or they are close to it.

3) As the next few years go by, SWA will be dealing with a very formative coalition of airlines that will be overlapping many of their routes with head to head competition.

4) I don't count out SWA for one minute, but the cake walk is over.

I agree with #1.

I say no to #2. SWA is adding more aircraft than either JB or Airtran. But JB and Airtran are betting more on their growth as a percentage of current revenue. JB and Airtran are the airlines betting the farm on growth. SWA can better handle a mistep if the LCC growth phenomenon loses steam.

Load factor issues? We'll see. The high frequency model produces lower load factors. You are looking at a snap shot in time and load factors will eventually trend higher for SWA and lower for JB.

#3 is worrisome and will force some hard decisions if it gets that competitive for SWA.

Yes the cakewalk is over but it never really was a calkwalk until 03 to '04, was it??
 

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