Southwest Airlines Co. — 2009 Form 10-K Summary
Business context and reporting period
Southwest is a U.S. point-to-point airline operating an all-Boeing 737 fleet. This 10-K reports on the fiscal year ended December 31, 2009; the filing also provides fourth-quarter results. The company served 68 cities in 35 states and ended the year with 537 active aircraft.
Financial and operating performance
| Metric | 2009 | 2008 |
|---|---|---|
| Operating revenue | $10.350 billion | $11.023 billion |
| Operating income | $262 million | $449 million |
| Net income | $99 million | $178 million |
| Diluted earnings per share | $0.13 | $0.24 |
| Operating margin | 2.5% | 4.1% |
| Operating cash flow | $985 million | $(1.521) billion |
| Cash and short-term investments at year-end | $2.593 billion | $1.803 billion |
| Long-term debt, net of current maturities | $3.325 billion | $3.498 billion |
Fourth-quarter 2009 revenue was $2.712 billion, operating income was $167 million, and net income was $116 million. In fourth-quarter 2008, revenue was $2.734 billion, operating income was $70 million, and the company recorded a $56 million net loss.
- Annual revenue declined 6.1%; passenger revenue fell 6.2%, largely due to lower fares and fewer full-fare bookings. Passenger yield per revenue passenger mile declined 7.4%.
- Available seat miles fell 5.1%, while load factor rose 4.8 percentage points to a company-record 76.0%. Operating revenue per available seat mile decreased 1.0%.
- Operating expenses fell 4.6%, but cost per available seat mile rose 0.5% to 10.29 cents. Excluding the $66 million Freedom ’09 retirement-program charge, unit costs were flat year over year.
- Fuel expense was $3.044 billion, or 30.2% of operating expenses; average fuel cost was $2.12 per gallon versus $2.44 in 2008. Fuel hedge accounting and settlements significantly affected reported earnings.
- Operating cash flow improved from a $1.521 billion outflow in 2008, primarily reflecting the much smaller cash-collateral outflow for fuel derivatives. Investing cash outflow was $1.569 billion and financing cash inflow was $330 million in 2009.
Material changes versus the prior year
Southwest recorded its 37th consecutive annual profit, but net income declined 44.4% and operating income declined 41.6%. The company cut capacity, retired older aircraft, deferred aircraft deliveries, and reduced headcount; it also opened service to Minneapolis–St. Paul, LaGuardia, Boston, and Milwaukee. New revenue initiatives included paid EarlyBird Check-in, pet and unaccompanied-minor fees, and continued promotion of its no-fee first and second checked bags.
Fuel hedging shifted from a substantial net gain in 2008 to a net loss of $408 million across fuel expense and other gains/losses in 2009. At year-end, fuel derivatives had a gross fair-value liability of $477 million, offset by $330 million of posted cash collateral; $580 million of after-tax deferred fuel-hedge losses remained in accumulated other comprehensive loss. Stockholders’ equity increased to $5.466 billion from $4.953 billion.
Outlook, risks and unusual items
- Management remained cautious about 2010 demand and had not seen a significant return of full-fare traffic. It expected approximately flat annual capacity, with 10 planned new aircraft deliveries offset by retirements. It expected first-quarter unit revenue to increase year over year.
- Management expected first-quarter 2010 unit costs excluding fuel to exceed fourth-quarter 2009’s 7.45 cents per ASM, with the year-over-year increase exceeding the 8.6% rise recorded in fourth-quarter 2009. It estimated first-quarter fuel cost at about $2.35 per gallon using January 20, 2010 forward prices.
- Fuel price volatility, weak business and leisure travel demand, fare competition, rising labor and airport costs, and the uncertain effectiveness and accounting treatment of fuel hedges are key risks. A 1-cent-per-gallon change in fuel price would affect annual expense by about $14 million before hedging.
- Credit ratings were downgraded during 2009 but remained investment grade: S&P and Fitch to BBB, and Moody’s to Baa3. The company reported compliance with its revolving-credit covenant and no borrowings on its $600 million facility at year-end.
- Contractual obligations totaled $11.033 billion, including $3.200 billion of firm aircraft purchase commitments, $2.634 billion of operating lease commitments, and $3.459 billion of debt principal. The company also reported $285 million of standby letters of credit.
- Freedom ’09 was a one-time $66 million charge accepted by 1,404 employees; management expected subsequent savings to exceed the program cost. Southwest’s Love Field modernization project could affect liquidity if bond financing or reimbursement timing differs from plan; the company did not expect a significant effect on financial position.
- The filing describes a material weakness in hedge-accounting controls identified in 2009 following hedge redesignations. Management reported corrective actions and concluded year-end controls were effective; the auditor issued unqualified opinions on the financial statements and internal control.
Important facts for investors to verify
- Whether improving unit revenues persist and full-fare demand returns, rather than gains remaining primarily a result of capacity cuts and discounting.
- Fuel-hedge settlements, collateral needs, and the potential impact of hedge-accounting volatility on earnings and cash flow.
- Whether 2010 cost increases, particularly labor and airport costs, offset revenue improvement and planned savings from Freedom ’09.
- Liquidity and funding assumptions for aircraft commitments and the Love Field modernization project, including potential bond guarantees and reimbursement timing.
- Progress resolving the hedge-control weakness and labor negotiations, and any resulting financial or operational effects.