Southwest Airlines Co. — Form 10-Q Summary
Reporting period: First quarter ended March 31, 2013; filed May 2, 2013. Financial statements are unaudited and compare the three months ended March 31, 2013 with the same period in 2012. Amounts are in U.S. dollars unless noted.
Financial performance and liquidity
| Metric | Q1 2013 | Q1 2012 | Change or context |
|---|---|---|---|
| Operating revenue | $4.084 billion | $3.991 billion | Up 2.3%; passenger revenue rose 2.3% |
| Operating expenses | $4.014 billion | $3.969 billion | Up 1.1% |
| Operating income | $70 million | $22 million | Operating margin approximately 1.7% versus 0.6% |
| Net income | $59 million | $98 million | Diluted EPS $0.08 versus $0.13 |
| Company-presented non-GAAP operating income | $112 million | $10 million | Excludes specified fuel-hedge effects and acquisition/integration costs |
| Company-presented non-GAAP net income (loss) | $53 million | $(18) million | Non-GAAP diluted EPS $0.07 versus $(0.02) |
| Operating cash flow | $983 million | $1.225 billion | Lower year over year |
| Cash and cash equivalents | $1.338 billion | $1.113 billion at Dec. 31, 2012 | |
| Short-term investments | $1.797 billion | $1.857 billion at Dec. 31, 2012 | Cash plus short-term investments totaled about $3.1 billion |
| Total debt, including current maturities | About $2.988 billion | About $3.154 billion at Dec. 31, 2012 | Includes $280 million current and $2.708 billion long-term |
Operating cash flow included a $707 million increase in air traffic liability, largely from future bookings and frequent-flyer point sales, and a $120 million cash benefit from higher accounts payable and accrued liabilities. Investing activities used $472 million, including $534 million of net property and equipment purchases, partly offset by investment transactions. Financing activities used $286 million, including $164 million of debt and lease repayments, $100 million of share repurchases, and $15 million of dividends. Cash increased $225 million to $1.338 billion.
Material changes and operating trends
- Passenger revenue growth reflected improved fares/yield and a larger share of co-branded credit-card partner revenue classified as passenger revenue. Average fare increased 3.8% and passenger yield per revenue passenger mile increased 2.1%; load factor eased to 77.1% from 77.3%.
- Revenue passenger miles rose 0.3% and available seat miles rose 0.6%, while passengers carried declined 1.4% and trips flown declined 4.6%.
- Fuel and oil expense fell 3.5%; economic fuel cost per gallon fell 4.4% to $3.29 and fuel consumption declined 2.5%. Fuel expense per available seat mile decreased 4.1%.
- Nonfuel unit costs increased: operating expenses per available seat mile excluding fuel and profitsharing rose 2.7% by the reported operating statistics; the filing’s separate non-GAAP measure excluding fuel and special items increased 3.4%.
- Net income declined despite higher operating income, with total other income falling to $24 million from $137 million, largely reflecting smaller net fuel-derivative gains. Reported results are affected by noncash hedge accounting and hedge timing.
Outlook, management commentary, and risks
- Management expected 2013 available seat miles to rise approximately 2% versus 2012 and did not plan to grow overall fleet size in 2013. It expected 18 new 737-800 deliveries and two leased used 737-700s, alongside retirements and the transition of 717s to Delta.
- Management cited a 15% annual pre-tax return-on-invested-capital goal. It expected second-quarter unit costs excluding fuel, profitsharing, and special items to increase at a rate similar to Q1’s year-over-year increase. It projected a 2013 effective tax rate of approximately 38%–40%.
- Revenue commentary was mixed: management expected an April year-over-year decline in passenger unit revenue and noted potential effects from government sequestration, but said recent May and June bookings were solid. Lower fuel prices had roughly offset April revenue weakness. Second-quarter freight and other revenue were expected to increase from Q1.
- As of March 31, fuel derivatives covered approximately 82% of estimated remaining 2013 fuel consumption. As of April 22, management estimated coverage of about 95% for 2013, 60% for 2014, 35% for 2015, 30% for 2016, and 50% for 2017. Hedge basis risk, fuel-price changes, derivative accounting volatility, and counterparty performance remain relevant risks. A 25% decline in relevant commodity prices could require substantial collateral postings under the company’s stated scenario, although lower fuel prices would also benefit operations.
- Southwest continued AirTran integration, with connecting itineraries across both networks enabled by the end of Q1. It expected integration by the end of 2014 and anticipated no more than $550 million in total acquisition and integration costs; approximately $337 million had been recorded through March 31, 2013. Q1 costs were $13 million.
- The company planned to begin transitioning all 88 AirTran 717s to Delta in August 2013, at roughly three aircraft per month. Two maintenance-vendor contracts carry stated termination penalties totaling approximately $106 million if terminated; termination had not occurred.
- Southwest’s planned Houston Hobby international facility was expected to cost approximately $156 million, with construction scheduled to start in the second half of 2013 and international service planned for late 2015. The company also guaranteed principal and interest on $456 million of bonds issued for the Dallas Love Field modernization project; recorded project costs and corresponding liability were $359 million at March 31, 2013.
- On April 2, 2013, Southwest replaced its $800 million revolving facility with a $1 billion unsecured facility expiring in April 2018. No borrowings were outstanding under the prior facility at March 31, and the company was covenant-compliant.
- Management did not expect pending legal proceedings or IRS matters to have a material adverse effect. A consolidated antitrust class action involving alleged baggage-fee and pricing/capacity conduct remained pending; AirTran denied wrongdoing. The filing reported no material changes to previously disclosed risk factors.
Most important facts for investors to verify
- Whether revenue and booking trends recover after the expected April passenger-unit-revenue decline, and whether May–June bookings translate into sustained demand.
- Whether reported and company-defined non-GAAP earnings reconcile as expected, given the sizeable and volatile fuel-hedge accounting effects.
- Fuel prices, hedge coverage and basis performance, potential collateral requirements, and derivative-counterparty exposure.
- Execution, cost, and timing of AirTran integration, the 717 transition, fleet plans, and Houston Hobby international construction.
- Capital commitments and liquidity, including aircraft purchase obligations, Love Field bond guarantees, share repurchases, and any vendor-contract termination costs.
- Developments in the antitrust litigation and any other legal or regulatory matters that could change management’s current assessment.