SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED
June 30, 1999 OR
____TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM
________ TO ________
Commission file No. 1-7259
SOUTHWEST AIRLINES CO.
(Exact name of registrant as specified in its charter)
TEXAS 74-1563240
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
P.O. Box 36611, Dallas, Texas 75235-1611
(Address of principal executive offices) (Zip Code)
(214) 792-4000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file
such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No .
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
Number of shares of Common Stock outstanding as of the close
of business on August 9, 1999:
504,030,721
SOUTHWEST AIRLINES CO.
FORM 10-Q
Part I - FINANCIAL INFORMATION
Item 1. Financial Statements
Southwest Airlines Co.
CONDENSED CONSOLIDATED BALANCE SHEET
(in thousands)
(unaudited)
June 30, 1999 December 31, 1998
ASSETS
Current Assets:
Cash and cash equivalents $487,635 $378,511
Accounts receivable 116,785 88,799
Inventories of parts and supplies 60,803 50,035
Deferred income taxes 21,252 20,734
Prepaid expenses and other current assets 32,537 36,076
Total current assets 719,012 574,155
Property and equipment:
Flight equipment 5,121,969 4,709,059
Ground property and equipment 745,709 720,604
Deposits on flight equipment purchase contracts 403,688 309,356
6,271,366 5,739,019
Less allowance for depreciation 1,712,454 1,601,409
4,558,912 4,137,610
Other assets 4,370 4,231
$5,282,294 $4,715,996
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $176,701 $157,415
Accrued liabilities 557,310 477,448
Air traffic liability 292,893 200,078
Income taxes payable 68,783 -
Current maturities of long-term debt 7,722 11,996
Other current liabilities 4,360 3,716
Total current liabilities 1,107,769 850,653
Long-term debt less current maturities 617,207 623,309
Deferred income taxes 595,601 549,207
Deferred gains from sale and leaseback of 230,290 238,412
aircraft
Other deferred liabilities 58,472 56,497
Stockholders' equity:
Common stock 335,937 335,904
Capital in excess of par value 89,878 89,820
Retained earnings 2,249,814 2,044,975
Treasury stock at cost (2,674) (72,781)
Total stockholders' equity 2,672,955 2,397,918
$5,282,294 $4,715,996
See accompanying notes.
Southwest Airlines Co.
CONDENSED CONSOLIDATED STATEMENT OF INCOME
(in thousands except per share amounts)
(unaudited)
Three months ended June 30, Six months ended June 30,
1999 1998 1999 1998
OPERATING REVENUES:
Passenger $1,160,153 $1,030,238 $2,179,449 $1,925,027
Freight 25,186 24,283 50,279 49,425
Other 35,093 24,320 66,275 47,042
Total operating revenues 1,220,432 1,078,841 2,296,003 2,021,494
OPERATING EXPENSES:
Salaries, wages, and benefits 368,573 320,539 712,585 618,771
Fuel and oil 102,982 96,043 188,650 197,519
Maintenance materials and repairs 85,145 75,211 174,636 146,700
Agency commissions 40,201 41,529 79,282 79,977
Aircraft rentals 49,898 50,747 99,704 101,164
Landing fees and other rentals 60,708 54,042 118,691 104,596
Depreciation 59,542 53,996 116,328 105,976
Other operating expenses 199,052 178,186 385,179 346,550
Total operating expenses 966,101 870,293 1,875,055 1,701,253
OPERATING INCOME 254,331 208,548 420,948 320,241
OTHER EXPENSES (INCOME):
Interest expense 13,295 13,561 26,682 29,272
Capitalized interest (9,109) (6,481) (16,093) (12,717)
Interest income (6,838) (8,473) (12,373) (16,288)
Other (gains) losses, net 385 (6,606) 10,032 (10,630)
Total other expenses (income) (2,267) (7,999) 8,248 (10,363)
INCOME BEFORE INCOME TAXES 256,598 216,547 412,700 330,604
PROVISION FOR INCOME TAXES 98,841 83,154 159,096 127,203
NET INCOME $157,757 $133,393 $253,604 $203,401
NET INCOME PER SHARE:
Basic $ .31 $ .27 $ .50 $ .41
Diluted $ .29 $ .25 $ .47 $ .38
WEIGHTED AVERAGE SHARES
OUTSTANDING:
Basic 503,531 502,164 502,349 501,116
Diluted 539,059 531,111 537,497 530,258
See accompanying notes.
Southwest Airlines Co.
CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands)
(unaudited)
Six months ended June 30,
1999 1998
Net cash provided by operating
activities $673,138 $508,424
Investing activities:
Net purchases of property and
equipment (568,790) (471,815)
Financing activities:
Payment of long-term debt and
capital lease obligations (10,572) (111,959)
Payment of cash dividends (10,542) (6,669)
Proceeds from Employee stock plans 25,890 25,849
Net cash provided by (used in)
financing activities 4,776 (92,779)
Net increase (decrease) in cash and
cash equivalents 109,124 (56,170)
Cash and cash equivalents at
beginning of period 378,511 623,343
Cash and cash equivalents at
end of period $487,635 $567,173
Cash payments for:
Interest, net of amount
capitalized $11,408 $20,351
Income taxes $29,244 $31,251
See accompanying notes.
SOUTHWEST AIRLINES CO.
Notes to Condensed Consolidated Financial Statements
1. Basis of presentation - The accompanying unaudited
condensed consolidated financial statements of Southwest Airlines
Co. (Company) have been prepared in accordance with generally
accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Article 10 of
Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted
accounting principles for complete financial statements. The
condensed consolidated financial statements for the interim
periods ended June 30, 1999 and 1998 include all adjustments
(which include only normal recurring adjustments) which are, in
the opinion of management, necessary for a fair presentation of
the results for the interim periods. Operating results for the
three and six month periods ended June 30, 1999 are not
necessarily indicative of the results that may be expected for the
year ended December 31, 1999. For further information, refer to
the consolidated financial statements and footnotes thereto
included in the Southwest Airlines Co. Annual Report on Form 10-K
for the year ended December 31, 1998.
2. Dividends - During the three month periods ended June
30, 1999 and March 31, 1999, dividends of $.0055 per share and
$.005 per share were declared, respectively, on the 503,581,881
and 501,949,689 shares of common stock then outstanding. During
the three month periods ended June 30, 1998 and March 31, 1998,
$.0044 per share in dividends were declared on the 502,280,503 and
501,031,778 shares of common stock then outstanding.
3. Common stock - On July 22, 1998, the Company's Board of
Directors declared a three-for-two stock split, distributing
111,894,315 shares on August 20, 1998. On May 20, 1999, the
Company's Board of Directors declared a three-for-two stock split,
distributing 167,954,962 shares on July 19, 1999. All per share
data presented in the accompanying consolidated financial
statements and notes thereto have been restated for these stock
splits.
4. Net income per share - The following table sets forth the
computation of basic and diluted earnings per share (in thousands
except per share amounts):
[CAPTION]
Three months ended Six months ended
June 30, June 30,
1999 1998 1999 1998
NUMERATOR:
Net income available to common
stockholders - numerator for basic
and diluted earnings per share $157,757 $133,393 $253,604 $203,401
DENOMINATOR:
Weighted-average shares
outstanding, basic 503,531 502,164 502,349 501,116
Dilutive effect of Employee stock
options 35,528 28,947 35,148 29,142
Adjusted weighted-average shares
outstanding, diluted 539,059 531,111 537,497 530,258
NET INCOME PER SHARE:
Basic $0.31 $0.27 $0.50 $0.41
Diluted $0.29 $0.25 $0.47 $0.38
Item 2. Management's Discussion and Analysis of Results of
Operations and Financial Condition
Comparative Consolidated Operating Statistics
Relevant operating statistics for the three and six month
periods ended June 30, 1999 and 1998 are as follows:
[CAPTION]
Three months ended June 30,
1999 1998 Change
Revenue passengers carried 14,816,803 13,766,338 7.6 %
Revenue passenger miles
(RPMs) (000s) 9,471,014 8,225,141 15.1 %
Available seat miles
(ASMs) (000s) 12,947,815 11,712,905 10.5 %
Load factor 73.1% 70.2% 2.9 pts.
Average length of
passenger haul 639 597 7.0 %
Trips flown 210,029 200,977 4.5 %
Average passenger fare $78.30 $74.84 4.6 %
Passenger revenue yield
per RPM (cents) 12.25 12.53 (2.2)%
Operating revenue yield
per ASM (cents) 9.43 9.21 2.4 %
Operating expenses per ASM (cents) 7.46 7.43 0.4 %
Fuel costs per gallon,
excluding fuel tax (cents) 44.36 45.13 (1.7)%
Number of Employees at
period-end 26,818 24,387 10.0 %
Size of fleet at period-end 294 273 7.7 %
[CAPTION]
Six months ended June 30,
1999 1998 Change
Revenue passengers carried 27,750,381 25,615,024 8.3 %
Revenue passenger miles
(RPMs) (000s) 17,517,498 15,123,988 15.8 %
Available seat miles
(ASMs) (000s) 25,340,794 22,983,079 10.3 %
Load factor 69.1% 65.8% 3.3 pts.
Average length of
passenger haul 631 590 6.9 %
Trips flown 412,575 396,154 4.1 %
Average passenger fare $78.54 $75.15 4.5 %
Passenger revenue yield
per RPM (cents) 12.44 12.73 (2.3)%
Operating revenue yield
per ASM (cents) 9.06 8.80 3.0 %
Operating expenses per ASM (cents) 7.40 7.40 0.0 %
Fuel costs per gallon,
excluding fuel tax (cents) 41.92 47.62 (12.0)%
Number of Employees at
period-end 26,818 24,387 10.0 %
Size of fleet at period-end 294 273 7.7 %
Material Changes in Results of Operations
Consolidated net income for the second quarter ended June 30,
1999 was $157.8 million ($.29 per share, diluted), as compared to
the second quarter 1998 net income of $133.4 million ($.25 per
share, diluted), an increase of 18.3 percent. For the six months
ended June 30, 1999, net income was $253.6 million ($.47 per
share, diluted), an increase of 24.7 percent over the first half
of 1998 net income of $203.4 million ($.38 per share, diluted).
The prior year's earnings per share amounts have been restated for
the 1999 and 1998 three-for-two stock splits (see Note 3 to the
Condensed Consolidated Financial Statements).
Consolidated operating revenues increased 13.1 percent for
the second quarter of 1999 and 13.6 percent for the six months
ended June 30, 1999 compared to the corresponding periods of the
prior year primarily due to 12.6 percent and 13.2 percent
increases, respectively, in consolidated passenger revenues. The
increases in passenger revenues resulted from 7.6 percent and 8.3
percent increases in revenue passengers carried, and 15.1 percent
and 15.8 percent increases in revenue passenger miles (RPMs) for
the three and six month periods ended June 30, 1999, respectively.
The passenger revenue yield per RPM decreased 2.2 percent to
$.1225 for the three months ended June 30, 1999 and decreased 2.3
percent to $.1244 for the six months ended June 30, 1999 primarily
due to an increase in average length of passenger haul of 7.0
percent and 6.9 percent, respectively, partially offset by a 4.6
percent and 4.5 percent increase in average passenger fare.
The increase in RPMs of 15.1 percent and 15.8 percent for the
three and six months ended June 30, 1999, respectively, exceeded
the increase in available seat miles (ASMs) of 10.5 percent and
10.3 percent for these same periods resulting in a 2.9 point
increase in load factor to 73.1 percent for second quarter 1999
and a 3.3 point increase to 69.1 percent for the six months ended
June 30, 1999. The increases in ASMs resulted primarily from the
net addition of 21 aircraft since second quarter 1998.
Strong load factor and revenue trends continued in July. The
load factor for July 1999 was 75.6 percent, up 2.5 points from
July 1998's load factor of 73.1 percent. Thus far, bookings
for August and September are also strong. (The immediately
preceding sentence is a forward-looking statement that involves
uncertainties that could result in actual results differing
materially from expected results. Some significant factors include,
but may not be limited to, competitive pressure such as fare
sales and capacity changes by other carriers, general economic
conditions, and variations in advance booking trends.)
Consolidated freight revenues increased 3.7 percent in second
quarter 1999 and 1.7 percent for the six months ended June 30,
1999 as compared to the same periods of the prior year. The
increases are primarily due to modest rate increases by the
Company and a higher mix of premium rate shipments as a percentage
of total unit volume. The increases were less than capacity
growth, however, due primarily to the postal service continuing to
shift business away from commercial carriers. Other revenues
increased 44.3 percent in the second quarter 1999 and 40.9 percent
for the six months ended June 30, 1999 primarily due to increased
revenues from the sale of frequent flyer segment credits to
participating partners in the Company's Rapid Rewards frequent
flyer program, and an increase in charter revenue.
Operating expenses per ASM increased .4 percent for the three
months ended June 30, 1999 and remained unchanged for the six
months ended June 30, 1999 as compared to the same prior year
periods. For second quarter 1999 compared to second quarter 1998,
operating expenses per ASM increased in salaries, wages, and
benefits, and were partially offset by decreases in travel agency
commissions and aircraft rental expense. For the six months ended
June 30, 1999 compared to the same prior year period, expenses per
ASM increased in salaries, wages, and benefits and maintenance,
but were offset by a decline in average jet fuel prices.
Excluding jet fuel costs, operating expenses per ASM were up 1.8
percent for the first half of 1999 versus the first half of 1998.
Based on current trends, the Company expects modest increases in
nonfuel unit costs for third quarter 1999 in comparison to the
same 1998 period. (The immediately preceding sentence is a
forward-looking statement that involves uncertainties that could
result in actual results differing materially from expected
results. Such uncertainties include, but may not be limited to,
general economic conditions.)
Southwest Airlines Co.
Operating Expenses per ASM
(in cents except percent change)
[CAPTION]
Three months ended June 30, Six months ended June 30,
Inc/ Percent Inc/ Percent
1999 1998 (Dec) Change 1999 1998 (Dec) Change
Salaries, wages, and benefits 2.39 2.32 .07 3.0 2.41 2.35 .06 2.6
Employee profitsharing and
savings plans .46 .42 .04 9.5 .39 .35 .04 11.4
Fuel and oil .80 .82 (.02) (2.4) .74 .86 (.12) (14.0)
Maintenance materials
and repairs .66 .64 .02 3.1 .69 .64 .05 7.8
Agency commissions .31 .35 (.04) (11.4) .31 .35 (.04) (11.4)
Aircraft rentals .39 .43 (.04) (9.3) .39 .44 (.05) (11.4)
Landing fees and other .47 .46 .01 2.2 .47 .45 .02 4.4
rentals
Depreciation .46 .46 - - .46 .46 - -
Other operating expenses 1.52 1.53 (.01) (.7) 1.54 1.50 .04 2.7
Total 7.46 7.43 .03 .4 7.40 7.40 .00 (.0)
Salaries, wages, and benefits per ASM increased 3.0 percent and
2.6 percent in the three and six month periods ended June 30,
1999, respectively. These increases were primarily due to
increased workers' compensation costs, higher effective wage
rates, and increased health care costs.
Profitsharing and Employee savings plans expense per ASM
increased 9.5 percent and 11.4 percent for the three and six month
periods ended June 30, 1999, respectively, as compared to the
corresponding periods of the prior year primarily due to higher
earnings available for profitsharing in 1999.
Fuel and oil expense per ASM decreased 2.4 percent and 14.0
percent for the three and six month periods ended June 30, 1999,
respectively, as compared to the corresponding periods of the
prior year. For second quarter 1999, the Company recognized gains
due to hedging activities of approximately $10.5 million, which
more than offset an increase in average jet fuel price per gallon
compared to second quarter 1998. Before hedging activities, the
average price paid for jet fuel was approximately $.4893 per
gallon in second quarter 1999 compared to $.4513 per gallon in
same prior year period. Including the effects of hedging
activities, the average cost of jet fuel was $.4436 per gallon for
second quarter 1999. For the first half of 1999, the average cost
of jet fuel was $.4192 per gallon compared to $.4762 per gallon
during the same period of 1998, including the effects of hedging
activities. As of August 9, 1999, the Company has hedged its
exposure to fuel price increases with both fixed swap agreements
and purchased crude oil call options totaling approximately 22% of
its third quarter 1999 anticipated fuel requirements. The average
price paid for jet fuel in July 1999 was $.5485 per gallon,
excluding gains from hedging activities.
Maintenance materials and repairs per ASM increased 3.1
percent and 7.8 percent for the three and six month periods ended
June 30, 1999, respectively, as compared to the corresponding
periods of 1998. The increases are primarily due to more routine
heavy maintenance activities being outsourced throughout the first
half of 1999. The outsourcing of this maintenance was due to the
Company's aircraft growth currently exceeding the available
headcount and facilities necessary to perform the maintenance
internally. Additionally, for the first half of 1999, the Company
experienced an increase in maintenance costs due to higher engine
overhaul costs related to the Company's 737-200 aircraft, which
are not covered by the Company's engine maintenance contract with
General Electric Engine Services, Inc. This increase in
maintenance was primarily due to an increase in the number of
engine overhauls and the average cost per overhaul. The Company
currently expects third quarter 1999 maintenance costs to be
higher on a per ASM basis than third quarter 1998 due primarily to
the continued outsourcing of routine heavy maintenance and an
increase in 737-200 aircraft engine overhaul expense. (The
immediately preceding sentence is a forward-looking statement that
involves uncertainties that could result in actual results
differing materially from expected results. Such uncertainties
include, but may not be limited to, any unanticipated required
aircraft airframe or engine repairs.)
Agency commissions per ASM decreased 11.4 percent for both
the three and six month periods ended June 30, 1999 as compared to
the same periods of 1998, primarily due to a decrease in the
percentage of commissionable sales. Commissionable sales
represented 33.4 percent and 35.1 percent of total sales in second
quarter 1999 and the first half of 1999, respectively, down from
37.2 percent and 39.1 percent in the same 1998 periods.
Aircraft rentals per ASM decreased 9.3 percent for second
quarter 1999 and 11.4 percent for the six months ended June 30,
1999 as compared to the same periods of 1998, primarily due to a
lower percentage of the aircraft fleet being leased.
Landing fees and other rentals increased 2.2 percent and 4.4
percent per ASM for the three and six month periods ended June 30,
1999, respectively, as compared to the same periods of 1998.
These increases were primarily due to the Company's expansion of
facilities in several airports where the Company already had
existing service as well as the start of service to new airports.
Depreciation expense per ASM was flat for second quarter 1999
and for the six months ended June 30, 1999 as compared to the same
periods of 1998. Although the Company experienced an increase in
depreciation expense per ASM due to a higher percentage of owned
aircraft, this increase was offset by an increase in the estimated
useful lives of the Company's Boeing 737-300/500 aircraft from 20
years to 23 years. This change in accounting estimate was made
January 1, 1999 and resulted in a decrease in depreciation expense
of approximately $6.4 million for second quarter 1999 and $12.8
million for the first half of 1999. This revision will result in
similar savings for remaining 1999 periods compared to 1998.
Other operating expenses per ASM decreased slightly for
second quarter 1999, but increased 2.7 percent for the six months
ended June 30, 1999 as compared to the same periods of 1998. The
increase for the first half of 1999 was primarily due to higher
credit card processing costs and increased advertising costs
associated with beginning service to two new cities during the
first half of 1999 versus one new city in the first half of 1998.
Other expenses (income) for the three and six month periods
ended June 30, 1999, included interest expense, capitalized
interest, interest income, and other gains and losses. Interest
expense was relatively flat for second quarter 1999 compared to
the same period in 1998. For the first half of 1999, interest
expense decreased approximately 8.8 percent as compared to the
same period of 1998, due primarily to the February 1998 redemption
of $100 million of senior unsecured 9 1/4% Notes originally issued
in February 1991. Capitalized interest increased $2.6 million and
$3.4 million for the three and six month periods ended June 30,
1999, respectively, as a result of higher 1999 progress payment
balances for scheduled future aircraft deliveries. Interest
income decreased for the three and six months ended June 30, 1999
due to lower invested cash balances. Other losses for the first
half of 1999 resulted primarily from a write-down associated with
the consolidation of certain software development projects;
whereas other gains in second quarter 1998 and the first half of
1998 primarily consisted of contractual penalties received from
Boeing due to delays in the delivery of 737-700 aircraft.
Liquidity and Capital Resources
Net cash provided by operating activities was $673.1 million
for the six months ended June 30, 1999 and $1,050.8 million for
the 12 months then ended. Cash generated for the 12 months ended
June 30, 1999 was primarily used to finance aircraft-related
capital expenditures, provide working capital, and repurchase
approximately $100 million of the Company's outstanding common
stock. The Company began and completed this repurchase program
during third quarter 1998.
During the 12 months ended June 30, 1999, net capital
expenditures were $1,044.1 million, which primarily related to the
purchase of 24 new 737-700 aircraft, three used 737-300 aircraft,
five used 737-200 aircraft, and progress payments for future
aircraft deliveries. The five 737-200 aircraft were previously on
lease by Southwest prior to being purchased.
The Company's contractual commitments consist primarily
of scheduled aircraft acquisitions. During the six months ended
June 30, 1999, the Company exercised options to purchase six
Boeing 737-700 aircraft for accelerated delivery in the year 2000,
and options for six additional Boeing 737-700 aircraft for
accelerated delivery in late 2000 and early 2001. In addition,
the Company has acquired and placed in service two used Boeing 737
- -300s thus far in 1999. As of July 31, 1999, 15 737-700s are
scheduled for delivery in the remainder of 1999, 31 in 2000, 23 in
2001, 21 in 2002, five in 2003, and five in 2004. In addition,
the Company has options to purchase up to 62 737-700s during 2003-
2006. The Company has the option, which must be exercised two
years prior to the contractual delivery date, to substitute 737-
600s or 737-800s for the 737-700s scheduled subsequent to 1999.
Aggregate funding needed for fixed commitments at July 31, 1999
was approximately $2,288 million at April 30, 1999 due as follows:
$320.8 million in 1999; $689.4 million in 2000; $520.1 million in
2001; $515.8 million in 2002; $152.8 million in 2003; and $89.1
million in 2004.
The Company has various options available to meet its capital
and operating commitments, including cash on hand at June 30, 1999
of $487.6 million, internally generated funds, and a revolving
credit line with a group of banks of up to $475 million (none of
which had been drawn at June 30, 1999). In addition, the Company
will also consider various borrowing or leasing options to
maximize earnings and supplement cash requirements.
The Company currently has outstanding shelf registrations for
the issuance of $318.8 million in public debt securities which it
may utilize for aircraft financing during 1999 and 2000.
The Company began new service to Raleigh-Durham North
Carolina on June 6, 1999, with nonstop service to
Baltimore/Washington, Nashville, Chicago Midway, Tampa Bay, and
Orlando. The Company recently announced new service to Bradley
International Airport in Hartford, Connecticut beginning on
October 31, 1999 with daily nonstop service to
Baltimore/Washington, Nashville, Chicago Midway, and Orlando.
Year 2000 Readiness Disclosure
The Year 2000 issue results from the fact that many computer
programs were previously written using two digits rather than four
to define the applicable year. Programs written in this way may
recognize a date ending in "00" as the year 1900 rather than the
year 2000. This could result in a system failure or
miscalculations causing business delays and disruptions of
operations. The Company is following an enterprise-wide Year 2000
program to take the necessary actions to become Year 2000 ready
and ensure business continuity now and into the next century.
This program encompasses information technology systems as well as
embedded technology assets and an assessment of material third-
party relationships and associated risks.
The Company's program consists of five phases:
identification of all products, services, vendors, etc. to
determine if they could potentially be affected by the Year 2000
issue; assessment includes the prioritization of each item
according to its significance to the Company's operations and the
determination of a strategy for remediation; remediation entails
the execution of plans to make an item Year 2000 ready including
replacement, modifying computer codes, retirement, or verification
of whether or not an item has date codes; testing includes the
validation of whether an item is Year 2000 ready by using date
simulation techniques; and implementation, which involves putting
an item in use in the Company's operations.
FLIGHT SAFETY SYSTEMS The Company has completed all phases of
its Year 2000 project as it relates to its aircraft fleet and
onboard support systems. The Company does not believe there are
any safety issues in regard to these systems and believes they are
Year 2000 ready. The Company also utilizes ground computer
systems and equipment essential for the maintenance of aircraft
and the management of flight operations. All phases of the
project with respect to these systems and equipment are
essentially completed with the exception of a system which is
dependent on a third party provider's completion of Year 2000
readiness, now scheduled for early fourth quarter.
INTERNAL SYSTEMS The Company's vital and critical internal
systems include computer hardware, software, and related equipment
for customer reservations, ticketing, flight and crew scheduling,
revenue management, accounting functions, and payroll. Also
included are non-information systems that support airport
activities such as aircraft ground handling, bag handling, and
security. Although some of these systems are still currently in
the testing phase, virtually all of the Company's vital and
critical systems are Year 2000 ready, with the remaining systems
expected to be ready by year-end. While all vital and critical
systems are expected to be Year 2000 ready by year-end, the Company
also believes it has or will have contigency plans in place to
ensure there will not be a material disruption in the Company's
operations. Additionally, the Company has established procedures
to review all new potential vital and critical hardware and
software purchases and development to ensure they are Year 2000
ready.
The Company's non-information systems primarily include
electrical systems, telephone systems, elevators, security
systems, etc. For non-information systems, the Company has
performed some internal testing, but has primarily relied on
positive assurances it has received from original manufacturers or
suppliers of those non-information systems where no date logic is
involved.
THIRD PARTIES As part of its Year 2000 assessment, the Company
has also considered the compliance of third parties with which the
Company has a material relationship, namely its vendors and
governmental agencies such as the Federal Aviation Administration
("FAA"). The Company has categorized its third party vendors with
respect to their potential impact on Company operations in the
event any such third party vendor has Year 2000 issues which are
not dealt with on a timely basis. The Company has contacted all
of its material third party vendors and is continuing to monitor
and evaluate their statements of Year 2000 compliance. The
Company has utilized many different methods in obtaining
assurances from third parties including questionnaires, written
statements, obtaining publicly filed documents, etc., and
continually updates information received as new data becomes
available. The Company has also visited several of its vital and
critical third party vendors for the sole purpose of observing
Year 2000 testing and processes. In addition, the Company
continues to work with other members of the Air Transport
Association, the airline industry trade group, to share
information and resources regarding vendors which are common to
the entire industry.
The FAA has stated that all of their internal systems,
including systems that involve the operation of the nation's air
traffic control system, are now fully compliant for the Year 2000.
Systems controlled by the FAA are directly involved with air
safety, including radar screens and radio transmissions, ground
traffic control, airport weather reports, and remote radio
beacons.
In management's experience, it is not always possible to
obtain written certification of Year 2000 compliance from third
party vendors. Accordingly, in such cases, the Company is basing
its assessment on its own testing, other materials made available
by such vendors, and other publicly available information. The
timetables disclosed are all based on the most recent information
that has been made available to the Company, including oral and
written assurances from third party vendors. The Company does not
currently expect any material impact on its operations as a result
of third party products; however, this expectation is based on the
timeliness and accuracy of those assurances. The Company expects
the evaluation and assessment of third parties will be an ongoing
process through the balance of 1999.
YEAR 2000 COSTS The Company currently anticipates it will
spend approximately $16 million on Year 2000 compliance, of which
approximately $13.9 million has been spent through June 30, 1999.
The majority of the previously expensed amounts have been for
third party Year 2000 consultants, full-time associates, and new
hardware and software purchases. The Company also purchased Year
2000 hardware and software testing and data aging tools that it
has utilized on internal systems. The majority of the remaining
expense is expected to be for full-time associates dedicated to
the Year 2000 compliance effort. All previous as well as future
expenditures on Year 2000 compliance have or will be expensed as
incurred from operating cash flow.
RISK OF YEAR 2000 ISSUES The Company believes its project to
ensure Year 2000 readiness will be completed in a timely manner
and Year 2000 issues will not have a material adverse effect on
operations. However, it is possible the Company's or third
parties' systems and equipment could fail and result in the
reduction or suspension of the Company's operations. This could
in turn have a material adverse effect on the Company's
operations. The Company currently believes its most likely worst
case scenario could involve delays and possibly cancellations of a
small percentage of the Company's scheduled flights on the first
few days of the Year 2000. This scenario would most likely
result from airport delays and other factors out of the Company's
control. If delays do happen, however, the Company does not
believe they would last for an extended period of time or cause a
major disruption in the Company's operations.
The Company has developed contingency plans to deal with
situations that occur from time to time in the normal course of
business, including weather emergencies, system and power outages,
etc. The Company is in the process of augmenting those plans to
include plans that deal with different Year 2000 scenarios the
Company believes could possibly occur. Contingency plans are
being established within each department of the Company to ensure
there are minimal internal disruptions in the Company's
operations. The Company continues to work closely with each of
the airports it serves to ensure all potential Year 2000 related
issues are addressed in a timely manner. The Company's senior
management meets on a regular basis to discuss the progress of its
own Year 2000 effort as well as the status of the airports it
serves and its third party vendors.
The costs of the project, the dates on which the Company believes
it will complete the Year 2000 modifications and assessments, and
the Company's analysis of its risk in this area are based on
management's best estimates, which were derived utilizing numerous
assumptions of future events, including the continued availability
of certain resources. There can be no guarantee that these
estimates will be achieved and actual results could differ
materially from those anticipated. Specific factors that might
cause such material differences include, but are not limited to,
the availability and cost of personnel trained in this area and
the ability to locate and correct all relevant computer code, as
well as the cooperation needed from third party vendors and others
upon whom the Company must rely.
Item 3. Quantitative and Qualitative Disclosures About Market
Risk
See Item 7A. Quantitative and Qualitative Disclosures About
Market Risk in the Company's Annual Report on Form 10-K for the
year ended December 31, 1998.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
The Company received a statutory notice of deficiency
from the Internal Revenue Service (the "IRS") in which
the IRS proposed to disallow deductions claimed by the
Company on its federal income tax returns for the
taxable years 1989 through 1991 for the costs of certain
aircraft inspection and maintenance procedures. The IRS
has proposed similar adjustments to the tax returns of
numerous other members of the airline industry. In
response to the statutory notice of deficiency, the
Company filed a petition in the United States Tax court
on October 30, 1997, seeking a determination that the
IRS erred in disallowing the deductions claimed by the
Company and that there is no deficiency in the Company's
tax liability for the taxable years in issue. It is
expected that the Tax Court's decision will not be
entered for several years. Management believes that the
final resolution of this controversy will not have a
materially adverse effect upon the results of operations
of the Company.
Item 2. Changes in Securities and Use of Proceeds
None
Item 3. Defaults upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
The Company's Annual Meeting of Shareholders was held in
Dallas, Texas on Thursday, May 20, 1999. The following
matter was voted on at the meeting: An Amendment to the
Company's Articles of Incorporation to increase the
authorized number of shares of Common Stock was approved
by the shareholders. 391,195,518 shares were voted for
the amendment; 46,825,422 shares were voted against the
amendment; 1,253,571 shares abstained from voting.
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
12 Calculation of Ratio of Earnings to Fixed
Charges
27.1 Financial Data Schedule
27.2 Restated 1999 Financial Data Schedule
27.3 Restated 1998 Financial Data Schedules
27.4 Restated 1997 Financial Data Schedule
b) Reports on Form 8-K
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act
of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
SOUTHWEST AIRLINES CO.
August 13, 1999 /s/ Gary C. Kelly
Date Gary C. Kelly
Vice President - Finance and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
INDEX TO EXHIBITS
Exhibit
Number Exhibit
12 Calculation of Ratio of Earnings to Fixed Charges
27.1 Financial Data Schedule
27.2 Restated 1999 Financial Data Schedule
27.3 Restated 1998 Financial Data Schedules
27.4 Restated 1997 Financial Data Schedule
EXHIBIT 12
SOUTHWEST AIRLINES CO.
CALCULATION OF RATIO OF EARNINGS TO FIXED CHARGES
($ in millions)
[CAPTION]
Six Months
Ended June 30 Year Ended December 31,
1999 1998 1998 1997 1996 1995 1994
Earnings
Income before income
taxes and cumulative
effect of accounting
changes $412.7 $330.6 $705.1 $517.0 $341.4 $305.1 $299.5
Add: Fixed charges 91.9 95.3 190.0 198.5 184.1 169.1 141.6
Less: Interest
capitalized 16.1 12.7 25.6 19.8 22.3 31.4 26.3
Total $488.5 $413.2 $869.5 $695.7 $503.2 $442.8 $414.8
Fixed charges
Interest expense $10.6 $16.6 $30.7 $43.7 $37.0 $27.4 $27.1
Add: Interest
capitalized 16.1 12.7 25.6 19.8 22.3 31.4 26.3
Gross interest expense 26.7 29.3 56.3 63.5 59.3 58.8 53.4
Add: Interest factor
of operating
lease expense 65.2 66.0 133.7 135.0 124.8 110.3 88.2
Total $91.9 $95.3 $190.0 $198.5 $184.1 $169.1 $141.6
Ratio of earnings to
fixed charges 5.32 4.34 4.58 3.50 2.73 2.62 2.93