SOUTHWEST AIRLINES CO quarterly report, Q2 FY2021

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Southwest Airlines Co. — Q2 2021 Form 10-Q

Business context and reporting period

Unaudited results cover the quarter and six months ended June 30, 2021; comparisons are with the corresponding 2020 periods, when COVID-19 severely depressed air travel. Southwest operates scheduled passenger service in the United States and near-international markets. Leisure demand improved notably in Q2 2021, while business travel remained weak. The company had 736 aircraft at quarter-end.

Financial and operating performance

  • Q2 revenue: $4.008 billion, versus $1.008 billion in Q2 2020. Passenger revenue was $3.569 billion. For the first half, revenue was $6.060 billion versus $5.242 billion.
  • Q2 GAAP results: Operating income of $594 million and net income of $348 million, or diluted EPS of $0.57, compared with operating and net losses of $1.127 billion and $915 million, respectively, in Q2 2020. First-half operating income was $793 million and net income was $463 million, versus losses of $1.237 billion and $1.009 billion in 2020.
  • Results excluding special items (non-GAAP): Q2 operating loss was $162 million and net loss was $206 million, or diluted loss per share of $0.35. First-half operating loss was $1.431 billion and net loss was $1.221 billion, or diluted loss per share of $2.07. These measures exclude, among other items, payroll support grants and certain employee-program and fuel-hedge effects.
  • Government support: GAAP results included $1.5 billion of payroll support in Q2 and $2.7 billion in the first half. The filing therefore cautions that reported results are materially affected by support and are not directly indicative of underlying operating performance.
  • Q2 operating metrics: Available seat miles increased 86.8% year over year; load factor was 82.9%, up 51.5 percentage points; passenger yield rose 2.8%. Operating expenses per available seat mile fell 14.4% to 10.22 cents, but increased fuel prices and consumption raised fuel expense to $803 million from $257 million. Economic fuel cost was $1.92 per gallon versus $1.33.
  • Cash flow: First-half operating cash flow was $2.650 billion, including payroll support and stronger advance ticket sales; capital expenditures were $190 million. Financing activities provided $1.081 billion. Cash and cash equivalents ended at $14.124 billion, up from $11.063 billion at year-end 2020.
  • Liquidity and debt: Cash plus short-term investments totaled $16.875 billion. Current assets were $19.188 billion and current liabilities $12.476 billion. Long-term debt, including current maturities, totaled $11.354 billion; $2.166 billion was classified as current, including the convertible notes eligible for conversion. The $1.0 billion revolving credit facility was undrawn, and the company reported covenant compliance.
  • Other balance-sheet items: Air traffic liabilities totaled $8.679 billion, up from $7.133 billion at year-end 2020, reflecting tickets, customer travel funds, and loyalty obligations. The company reported $1.5 billion of customer travel funds with an extended September 2022 expiration date.

Material changes versus the prior comparable period

The sharp Q2 revenue and earnings recovery reflects improving leisure demand and capacity versus the exceptionally disrupted 2020 quarter. In the first half, revenue rose 15.6%, while GAAP operating expenses fell 18.7%; payroll support grants were a major contributor to lower reported expenses. Q2 operating expenses increased 59.9% as capacity and flying activity returned, with higher fuel prices and flight-driven costs. First-half debt and interest expense were higher than in 2020, when the company raised substantial financing amid the pandemic.

Outlook, commentary, risks, and unusual items

  • Demand and outlook: Management said July leisure traffic and fares were expected to exceed July 2019 levels, but business travel recovery remained slow and was weighing on close-in demand and fares. Estimated operating revenue was down 10%–15% versus July 2019 and down 12%–17% versus August 2019; estimated load factors were approximately 85% and 80%, respectively.
  • Capacity and costs: Q3 2021 capacity was expected to rise about 49% year over year and be roughly comparable with Q3 2019; Q4 capacity was expected to rise about 68% year over year and be comparable with Q4 2019. Q3 unit costs excluding fuel, special items, and profitsharing were forecast to rise 1%–5% versus Q3 2019. Management was hopeful of GAAP and non-GAAP profitability in both Q3 and Q4, subject to booking and cost trends.
  • Cash, investment, and fuel outlook: Estimated 2021 capital expenditures were $500–$600 million. Based on July 15 market prices, estimated economic fuel cost for each of Q3 and Q4 was $2.05–$2.15 per gallon. Fuel prices, hedge outcomes, and demand remain uncertain.
  • Employees and payroll support: Most employees on voluntary time off were expected to return by the end of Q3; the company estimated 2021 savings from voluntary separation and leave programs of about $1.0 billion. Treasury support comes with restrictions, including limits on involuntary furloughs and pay reductions, share repurchases and dividends through September 2022, and executive compensation through April 2023. Share repurchases and dividends were suspended.
  • Fleet and operations: The company returned the 737 MAX to service in March; a subsequent electrical-system issue temporarily removed 32 MAX aircraft from service, and all had returned by June 30. It increased Boeing orders and options, with a total firm-and-option book of 660 aircraft. Delivery timing, aircraft costs, and reliance on Boeing remain relevant risks.
  • Key risks and contingencies: COVID-19 resurgence or variants, weak business travel, staffing constraints and labor costs, fuel-market volatility and hedge-accounting changes, severe weather, economic conditions, regulation, and third-party performance could adversely affect results. The filing identifies ongoing MAX-related customer litigation, securities litigation, and a derivative action; management did not expect current legal matters or IRS adjustments to have a material adverse effect.
  • Unusual items and corrections: First-half payroll-support and employee-program expense included an $88 million prior-period payroll tax credit correction. Other gains included a $60 million correction of prior-period investment gains, and equity reflected a $19 million correction related to adoption of an accounting standard. Management said the corrections were not material to prior periods or expected to be material for full-year 2021. The company also derecognized a $365 million Terminal 1.5 project asset and liability after LAWA repaid the loan and purchased completed assets.

Important facts for investors to verify

  • How much of reported GAAP profitability and cash generation depends on payroll support, advance ticket sales, and other working-capital changes; compare these with the company’s non-GAAP measures.
  • Whether leisure demand holds up and business travel, fares, and load factors recover as management projected, especially beyond Q3.
  • Whether operating costs, fuel prices, employee recalls, and staffing availability track the company’s outlook.
  • Whether customer travel funds and loyalty liabilities are redeemed, refunded, or recognized as revenue as estimated; the filing notes limited historical data for extended-expiration funds.
  • Debt maturities and convertible-note treatment, Boeing delivery commitments, fuel-hedge exposures, and the restrictions attached to Treasury support.
  • Developments in the disclosed legal proceedings and any operational, regulatory, or safety developments involving the 737 MAX.