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SOUTHWEST AIRLINES REPORTS THIRD QUARTER RESULTS
Record operating revenues of $4.3 billion
Third quarter operating income of $225 million
Mark-down in 2012 through 2015 fuel hedge portfolio drives GAAP net loss
Third quarter profit, excluding special items
DALLAS, TEXAS – October 20, 2011 – Southwest Airlines Co. (NYSE:LUV) (the “Company”) today reported its third quarter 2011 results. The Company reported a third quarter 2011 net loss of $140 million, or $.18 per share, which included $262 million (net) of unfavorable special items. This compared to net income of $205 million, or $.27 per diluted share, for third quarter 2010, which included favorable special items totaling $10 million (net). The Company’s operating income was $225 million for third quarter 2011, compared to $355 million for third quarter 2010. Excluding special items, third quarter 2011 net income was $122 million, or $.15 per diluted share, compared to net income of $195 million, or $.26 per diluted share, in third quarter 2010. This exceeded Thomson’s First Call mean estimate of $.14 per diluted share for third quarter 2011. Additional information regarding special items is included in this release and in the accompanying reconciliation tables.
As required by generally accepted accounting principles (GAAP) and accounting pronouncements pertaining to derivative instruments and hedging, the Company’s third quarter 2011 results include $227 million (net) in unrealized, noncash mark-downs relating to a portion of the Company’s fuel hedges for future periods. Actual net cash settlements paid to counterparties for the Company's third quarter 2011 hedging activities were $13 million. The Company believes it is more meaningful to provide its financial results on an “economic” basis reflecting its actual net cash outlays for fuel consumed during the current period, inclusive of settled fuel derivative contracts, as current market prices are not always indicative of actual future settlements. As a result, the Company also provides its financial results, excluding these unrealized, noncash special items, to provide a better measure of the impact of the Company’s fuel hedges on its current period operating performance and liquidity. The actual cash impact of hedges related to fuel to be consumed in future periods will be reported in the applicable future economic results.
Gary C. Kelly, Chairman of the Board, President, and Chief Executive Officer, stated, “Excluding special items, third quarter 2011 operating income was $285 million, and third quarter 2011 net income was $122 million. Total third quarter operating revenues were very strong and reached an all-time quarterly record of $4.3 billion. Passenger revenues were driven by strong load factors, revenue yields, and unit revenues, which were all third quarter records. Third quarter passenger unit revenues increased approximately six percent, compared to third quarter last year (on a combined basis as defined below). Despite the cautious economic outlook, our booking trends remain strong. Importantly, business travel has remained stable since spring. Based on October traffic and booking trends, thus far, we expect solid passenger unit revenue year-over-year growth in the fourth quarter. Also, third quarter 2011 Other revenues grew approximately 18 percent, compared to third quarter last year (on a combined basis as defined below), largely due to the All-New Rapid Rewards® program and continued growth in our EarlyBird Check-In™ revenues. While it is disappointing to report a decline in earnings excluding special items, I was pleased with our strong third quarter revenue performance.
“In accordance with fuel hedge accounting rules, our third quarter GAAP net results included $227 million of unrealized, noncash mark-downs relating to future periods’ fuel hedges. These special items resulted in a GAAP net loss for the quarter; however, since September 30th, market prices have rebounded, and our future fuel hedge portfolio has gained back over $300 million in fair value. Our economic fuel costs per gallon, which excludes this GAAP mark-down, increased approximately 34 percent compared to third quarter last year. This surge in fuel costs caused our quarterly profits to decline despite record revenue results.”
AirTran became a wholly-owned subsidiary of the Company on May 2, 2011. Results discussed in this release and provided in the accompanying unaudited Condensed Consolidated Financial Statements and Comparative Consolidated Operating Statistics include the results of operations and cash flows for AirTran from May 2, 2011 through September 30, 2011, including the impact of purchase accounting. Periods presented prior to the acquisition date do not include AirTran’s results. However, the Company believes the analysis of specified financial results on a “combined basis” provides more meaningful year-over-year comparability. Financial information presented on a “combined basis” is the sum of the historical financial results of the Company and AirTran for periods prior to the acquisition date, but includes the impact of purchase accounting only as of May 2, 2011. Supplemental financial information presented on a “combined basis” and the accompanying reconciliations have been included in this release.
Financial Results and Outlook
The Company’s total operating revenues for third quarter 2011 increased 35.1 percent to $4.3 billion, compared to $3.2 billion for third quarter 2010. Operating unit revenues increased 3.6 percent, compared to third quarter 2010. Operating unit revenues increased 6.7 percent from third quarter 2010’s combined unit revenues.
Total third quarter 2011 operating expenses were $4.1 billion, compared to $2.8 billion in third quarter 2010. Excluding special items, third quarter 2011 unit costs increased 10.1 percent from third quarter 2010, largely due to a 34 percent year-over-year increase in economic fuel costs per gallon. Third quarter 2011 economic fuel costs of $3.18 per gallon included $.02 per gallon in unfavorable cash settlements for fuel derivative contracts, and a $.04 per gallon benefit from refunds of fuel sales taxes. Based on the Company’s fourth quarter 2011 fuel hedge position and market prices (as of October 17th), fourth quarter 2011 economic fuel costs, including fuel taxes, are estimated to be approximately $3.30 per gallon. Additional information regarding the Company’s fuel derivative contracts is included in the accompanying tables.
Excluding fuel and special items in both periods, third quarter 2011 unit costs decreased 1.2 percent from third quarter 2010. Excluding fuel and special items in both periods, third quarter 2011 unit costs increased 1.5 percent from third quarter 2010’s combined 7.27 cents. Based on current cost trends, the Company expects another modest year-over-year increase in its fourth quarter 2011 unit costs, compared to fourth quarter 2010’s combined unit costs of 7.72 cents, excluding fuel and special items in both periods.
Operating income for third quarter 2011 was $225 million, compared to $355 million in third quarter 2010. Excluding special items in both periods, operating income was $285 million for third quarter 2011, compared to $389 million for third quarter 2010. Third quarter 2011 operating income, excluding special items, was $285 million, compared to $447 million in third quarter 2010, on a combined basis.
Other expenses were $451 million for third quarter 2011, compared to $23 million for third quarter 2010. The $428 million increase in total other expenses primarily resulted from $405 million in Other losses recognized in third quarter 2011, compared to $13 million in Other gains recognized in third quarter 2010. In both periods, these net Other gains/losses primarily resulted from unrealized gains/losses associated with a portion of the Company’s fuel hedging portfolio. Excluding these special items, Other losses were $36 million in third quarter 2011 and $37 million in third quarter 2010, each attributable to the premium costs associated with the Company’s fuel derivative contracts. Fourth quarter 2011 premium costs are currently estimated to be approximately $14 million. Third quarter 2011 net interest expense increased approximately $10 million from third quarter 2010 primarily due to additional debt held by the Company as a result of the AirTran acquisition.
Total operating revenues for the nine months ended September 30, 2011 increased 28.5 percent to $11.6 billion, while total operating expenses increased 33.9 percent to $11 billion, resulting in operating income of $546 million, versus $772 million for the comparable period in 2010. Excluding special items in both periods, operating income was $672 million for the nine months ended September 30, 2010, compared to $905 million for the same period last year. On a combined basis, total operating revenues for the nine months ended September 30, 2011 increased 13.9 percent to $12.5 billion, while total operating expenses increased 19.2 percent to $12 billion, resulting in combined year-to-date operating income for 2011 of $515 million, compared to $916 million for the same period last year. Excluding special items in both periods, combined operating income for nine months ended September 30, 2011 was $667 million, compared to $1.1 billion for the same period last year.
Net income for the nine months ended September 30, 2011 was $26 million, or $.03 per diluted share, compared to $328 million, or $.44 per diluted share, for the same period last year. Excluding special items, year-to-date net income for 2011 was $263 million, or $.34 per diluted share, compared to $436 million, or $.58 per diluted share, for the same period last year.
The Company’s return on invested capital (before taxes and excluding special items) was approximately eight percent for the twelve months ended September 30, 2011, including AirTran’s results beginning May 2, 2011. Additional information regarding pretax return on invested capital is included in the accompanying reconciliation tables.
AirTran Acquisition
“I am pleased with the overall progress we are making on our AirTran integration,” stated Kelly. “We continue to work with the Federal Aviation Administration to obtain our single operating certificate, which we expect to receive in first quarter 2012. We expect to have the capability to connect the networks of both airlines in first half 2012; however, we have already begun to optimize the coordinated flight schedules.
“The negotiating committees and respective boards of the Southwest Airlines Pilots’ Association and the Air Line Pilots Association approved a framework for Pilot seniority list integration, and the agreement has gone to the memberships for vote. I commend the Flight Attendants’ unions from both airlines for recently agreeing on a process agreement, laying the framework to reach a seniority list integration agreement.
“Although we have much work ahead, much has already been accomplished. Thus far, we have produced $60 million (before taxes and profitsharing) in annualized cost synergies, primarily attributable to renegotiation of certain AirTran contracts and reduction of corporate overhead. We remain focused on achieving our target of net annual pre-tax synergies in excess of $400 million by 2013.”
The Company has incurred $97 million in costs (before taxes) associated with the acquisition and integration of AirTran during 2011, including $22 million in third quarter 2011. The Company expects total acquisition and integration expenses will be approximately $500 million.
Including the anticipated benefit of net synergies, but excluding the impact of acquisition and integration expenses, the Company expects the acquisition to be accretive to its fully-diluted earnings per share for full year 2011.
Liquidity
Net cash provided by operations for the nine months ended September 30, 2011 was $985 million, which reflects the payment of $429 million in fuel hedge collateral deposits to counterparties related to the unfavorable change in the market value of the Company’s future periods’ fuel portfolio. For the nine months ended September 30, 2011, capital expenditures were $548 million. As a result, the Company has generated approximately $400 million free cash flow* thus far in 2011. Based on current trends and projected 2011 capital expenditures of $800 to $900 million, the Company expects to generate free cash flow for the full year 2011.
On August 5, 2011, the Company’s Board of Directors authorized a share repurchase program to acquire up to $500 million of the Company’s common stock. During third quarter 2011, the Company purchased approximately 21 million shares of common stock for approximately $175 million. The Company also repaid $191 million in debt during the nine months ended September 30, 2011, and is scheduled to repay approximately $446 million in debt during fourth quarter 2011. The Company ended third quarter 2011 with $3.7 billion in cash and short-term investments, net of $458 million in net cash collateral paid to its fuel hedge counterparties. In addition, the Company also had a fully available unsecured revolving credit line of $800 million.
Awards and recognitions
| · | Named the Stevie Award Winner for the Company of the Year-Transportation by The International Business Awards for outstanding performance and Customer Service |
| · | Received the 2011 Quest for Quality Award for Excellence in Air Cargo from Logistics Management Magazine; ranked first in ontime performance, value, and Customer Service |
| · | Recognized as one of the top ten safest airlines in the Holistic Safety Rating 2011 by the Air Transport Rating Agency |
Southwest will discuss its third quarter 2011 results on a conference call at
12:30 p.m. Eastern Time today. A live broadcast of the conference call will also be available at southwest.com/investor_relations.
*See Note Regarding use of Non-GAAP financial measures.
The Company’s financial statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). These GAAP financial statements include unrealized non-cash adjustments and reclassifications, which can be significant, as a result of accounting requirements and elections made under accounting pronouncements relating to derivative instruments and hedging.
As a result, the Company also provides financial information in this release that was not prepared in accordance with GAAP and should not be considered as an alternative to the information prepared in accordance with GAAP. The Company provides supplemental non-GAAP financial information, including results that it refers to as “economic,” which the Company’s management utilizes to evaluate its ongoing financial performance and the Company believes provides greater transparency to investors as supplemental information to its GAAP results. The Company’s economic financial results differ from GAAP results in that they only include the actual cash settlements from fuel hedge contracts--all reflected within Fuel and oil expense in the period of settlement. Thus, Fuel and oil expense on an economic basis reflects the Company’s actual net cash outlays for fuel during the applicable period, inclusive of settled fuel derivative contracts. Any net premium costs paid related to option contracts are reflected as a component of Other (gains) losses, net, for both GAAP and non-GAAP (including economic) purposes in the period of contract settlement. These economic results provide a better measure of the impact of the Company’s fuel hedges on its operating performance and liquidity since they exclude the unrealized, non-cash adjustments and reclassifications that are recorded in GAAP results in accordance with accounting guidance relating to derivative instruments, and they reflect all cash settlements related to fuel derivative contracts within Fuel and oil expense. This enables the Company’s management, as well as investors, to consistently assess the Company’s operating performance on a year-over-year or quarter-over-quarter basis after considering all efforts in place to manage fuel expense. However, because these measures are not determined in accordance with GAAP, such measures are susceptible to varying calculations and not all companies calculate the measures in the same manner. As a result, the aforementioned measures, as presented, may not be directly comparable to similarly titled measures presented by other companies.
Further information on (i) the Company’s fuel hedging program, (ii) the requirements and accounting associated with accounting for derivative instruments, and (iii) the causes of hedge ineffectiveness and/or mark-to-market gains or losses from derivative instruments is included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2010, as well as subsequent quarterly filings.
The Company has also provided other supplemental non-GAAP financial information on a “combined basis.” This supplemental non-GAAP financial information on a “combined basis” includes specified combined financial results of the Company and AirTran for periods prior to May 2, 2011, as if the acquisition had occurred prior to the beginning of the applicable reporting period, but excludes any impact of purchase accounting prior to May 2, 2011. AirTran’s historical financial information included in the combined presentation has been conformed to the Company’s financial statement classification where appropriate. The Company believes that evaluation of its financial performance can be enhanced by a presentation of combined results in order to evaluate its prior, current or future period results on a more meaningful, consistent year-over-year basis.
The Company has also provided free cash flow, which is a non-GAAP financial measure. The Company believes free cash flow is a meaningful measure because it demonstrates the Company’s ability to service its debt, pay dividends and make investments to enhance shareholder value. Although free cash flow is a commonly used as measure of liquidity, definitions of free cash flow may differ; therefore, the Company is providing an explanation of its calculation for free cash flow. For the nine months ended September 30, 2011, the Company generated approximately $400 million in free cash flow, calculated as operating cash flows of $985 million less capital expenditures of $548 million.
