Southwest Airlines Co. (LUV) is a major passenger airline that provides scheduled air transportation in the United States and near-international markets. The company reported annual net income of $465 million, annual revenue of $26,091 million, annual operating cash flow of $3,164 million, and annual free cash flow of -$389 million in its latest fiscal year.

Financials

In the first quarter of 2024, the company reported a net loss of $231 million, a 45.3% increase compared to the same period in the prior year. Revenue for the quarter increased by 10.9% year-over-year to $6.3 billion, a first-quarter record for the company. However, the company's operating expenses also increased by 12.2% during the quarter, primarily due to higher salaries, wages, and benefits expense as well as maintenance materials and repairs expense.

Risks and Challenges

The company's first-quarter 2024 results were impacted by the lingering effects of a wide-scale operational disruption experienced in late December 2022, which resulted in the cancellation of more than 16,700 flights. This disruption, along with subsequent recovery efforts, led to approximately $380 million in additional expenses in the first quarter of 2023. While there were no material impacts to operating revenues or expenses beyond the first quarter of 2023, the company has been subject to inquiries and investigations by governmental agencies and could face fines, penalties, and litigation as a result.

Outlook

Looking ahead, the company provided guidance for the second quarter and full year 2024. For the second quarter, the company expects RASM to decline 1.5% to 3.5% year-over-year, with capacity increasing 8% to 9%. For the full year, the company expects capacity to increase approximately 4%, with CASM-X (operating expenses per available seat mile, excluding fuel and oil expense, special items, and profitsharing) increasing 7% to 8% year-over-year.

Recent Developments

The company's strategic transformation efforts are a key focus, as it looks to address underperforming markets, enhance its customer experience, and improve operational efficiency and financial performance. In the second quarter of 2024, the company announced several significant initiatives, including:

1. Transitioning to an assigned seating model:

The company's research shows that 80% of its customers and 86% of potential customers prefer an assigned seating model, which is expected to drive significant value for shareholders. The company plans to have roughly one-third of seats across the fleet offer extended legroom, while retaining the organized boarding process that customers enjoy.

2. Implementing red-eye flying:

The company is publishing schedules that incorporate red-eye flying, which will be phased in rapidly by summer 2025. Combined with ongoing reductions in aircraft turn time through new technologies and procedures, this is expected to fund nearly all new capacity over the next three years without additional aircraft capital expenditures.

3. Enhancing the customer experience:

The company is redesigning its aircraft cabin interior, expected to debut in early 2025, to improve the inflight customer experience. This joins other enhancements, such as enhanced WiFi, onboard power ports, larger overhead bins, and new functionality on the company's digital platforms and airport kiosks.

4. Improving revenue management:

The company has faced challenges in adapting to a new origin-and-destination-based revenue management system, which led to selling too many seats too early in the booking curve during the peak summer travel period. The company is taking decisive actions to recalibrate the system and expects to see a noticeable tailwind to performance, likely starting in September 2024.

5. Optimizing the network and moderating capacity:

The company is targeting supply-demand imbalances across its network, with capacity expected to decline 4% year-over-year in the fourth quarter of 2024. This, combined with improvements in revenue management, is expected to result in positive year-over-year RASM growth by the fourth quarter.

6. Reducing costs and headcount:

The company has expanded voluntary leave and time-off programs to reduce labor expenses and bring staffing levels in line with its current fleet. It has also halted critical hiring and expects to end 2024 with headcount down approximately 2,000 from year-end 2023, with further reductions planned for 2025.

Liquidity

The company's balance sheet remains a key strength, with $10 billion in cash and short-term investments as of the end of the first quarter of 2024, compared to $8 billion in outstanding debt. The company expects to maintain its investment-grade credit ratings and intends to start normalizing its liquidity levels back towards pre-COVID levels, while remaining committed to healthy shareholder returns.

Conclusion

Despite the challenges faced in the first quarter, the company's management team is fully committed to executing a strategic transformation plan aimed at driving shareholder value and achieving returns on invested capital well in excess of its cost of capital. The company will provide more details on its tactical and strategic initiatives, as well as its capital allocation plan, at its Investor Day in September 2024.