Southwest Airlines Company (LUV)

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Southwest Airlines Co. (LUV)

2012 Investor Day

December 14, 2012 8:30 am ET


Marcy Brand

Gary C. Kelly - Chairman, Chief Executive Officer, President and Chairman of Executive Committee

Robert E. Jordan - Chief Commercial Officer, Executive Vice President and President of AirTran Airways

Michael G. Van De Ven - Chief Operating Officer and Executive Vice President

Ron Ricks - Chief Legal & Regulatory Officer, Executive Vice President and Corporate Secretary

Tammy Romo - Chief Financial Officer and Senior Vice President of Finance

Jeff Lamb - Chief People & Administrative Officer and Executive Vice President


Jamie N. Baker - JP Morgan Chase & Co, Research Division

Michael Linenberg - Deutsche Bank AG, Research Division

Glenn D. Engel - BofA Merrill Lynch, Research Division

Thomas Kim - Goldman Sachs Group Inc., Research Division

John D. Godyn - Morgan Stanley, Research Division

Duane Pfennigwerth - Evercore Partners Inc., Research Division

Helane R. Becker - Dahlman Rose & Company, LLC, Research Division

Hunter K. Keay - Wolfe Trahan & Co.

Kevin Crissey - UBS Investment Bank, Research Division

Mark Streeter - JP Morgan Chase & Co, Research Division

Michael W. Derchin - CRT Capital Group LLC, Research Division

Daniel McKenzie - The Buckingham Research Group Incorporated

David E. Fintzen - Barclays Capital, Research Division


Marcy Brand

If you'd like to take your seats, we will get started. Good morning, everyone. Welcome to the 2012 Southwest Airlines Investor Day. My name is Marcy Brand. I am the Director of Investor Relations. We have a great morning planned for you.

Before we get started, I'd like to make a few introductions of the Southwest team that's joining us today. You will be hearing from a number of our officers this morning, including Gary Kelly, our Chairman, President, Chief Executive Officer; Bob Jordan, Executive Vice President and Chief Commercial Officer and President of AirTran Airways; Mike Van De Ven, Executive Vice President and Chief Operating Officer; Ron Ricks, Executive Vice President and Chief Legal and Regulatory Officer; and Tammy Romo, Senior Vice President of Finance and Chief Financial Officer.

I would also like to introduce other members of our leadership team that have joined us here today: Jeff Lamb, our Executive Vice President and Chief People and Administration Officer. Thank you, Jeff. Randy Babbitt, Senior Vice President, Labor Relations; Ginger Hardage, Senior Vice President, Culture and Communications; Brian Hirshman, Senior Vice President, Technical Operations; Chris Monroe, Treasurer; Dean Jenkins, our Assistant Treasurer. And we also have Beth Harbin and Brad Hawkins joining us from our communications team as well.

In addition, I'd like to recognize the Investor Relations team for a fantastic job putting together a great morning for you, Hayley

Lester and Melissa Curl, who you guys probably saw on your way in, and Ryan Martinez here down in front.

A couple of notes regarding this morning's agenda. I'd like to point out that we have allotted time for a question-and-answer session. We have a lot of information to share with you today. Therefore, we'd like to ask that you hold all of your questions until we get to that Q&A session that will follow the last presentation. All speakers will be made available up here at front actually at that time for the Q&A, and I assure you we've allotted plenty of time to take your questions.

Allow me to also point out that today's presentations will include forward-looking statements. Because these statements are based on the company's current intent, expectations and projections, they are not guarantees of future performance, and a variety of factors could cause actual results to differ materially.

Today's presentations will also include references to non-GAAP results. For further information regarding these forward-looking statements and for a reconciliation of non-GAAP results to GAAP results, please reference the slides that will be made available on the Investor Relations section of following the conclusion of this morning's event.

And with that, I will hand it over to Mr. Gary Kelly.

Gary C. Kelly

Thank you very much, Marcy, and I also want to extend my thanks to our Investor Relations group. They do a fantastic job, and I appreciate all the hard work for today's event. And good morning, everyone, and thank you all for joining us.

Southwest Airlines is America's most flown and most popular airline. Southwest is America's best value for air travel. I would tell you that, in my opinion, Southwest Airlines is America's favorite low-cost airline. There are a lot of ways to describe Southwest -- best, favorite, most popular -- but it is, in fact, a great company. And that is so because for over 4 decades, our people have built an airline that has enduring competitive advantages. We have low costs, we have a very strong culture, we have outstanding customer service, and we have excellent operations and integrity. Those are enduring, those are sustainable, those are competitive advantages, and we intend to retain those.

Financial performance, like safety, is not negotiable. Both of those are imperatives. And of course, for over 4 decades Southwest Airlines has taken great care of our people, and in turn, our people have taken great care of our customers with award-winning service. We have a long list of awards that I would be pleased to share with you. But our people have also served our shareholders extraordinarily well. Southwest has an unprecedented string of profitability extending 39 years.

During that time, we have honored and we have met every obligation. During that time, we have compensated our leadership modestly, and of course, there have been significant shareholder returns in terms of share buybacks and dividends. And I would also say that employees' and customers' and shareholders' interests are not mutually exclusive, and in fact, all have to be served and served well to have a sustainable company, to have a company that is built to last.

The world has changed a lot, especially this past decade. If you look at what's happened since 2000, despite all of the challenges in our economy, the economy has grown over 20%. But if you look at passenger growth, it is virtually flat with the year 2000. And of course, the number of seats correlates with that. The number of seats offered on a daily basis is actually down compared to 12 years ago.

You get a little bit different story when you look at the economy compared to traffic. So interestingly enough, the revenue passenger miles have more or less kept pace. The available seat miles offered are virtually flat. So compared to 12 years ago, we have much higher load factors, and of course, the implication of this disparity between traffic and passengers is that there are fewer passengers and they're flying longer trips.

And this chart on shorthaul pretty much bears that out. If you look at the total number of shorthaul customers that flew in year 2000 and compare that to the year completed in 2011: 38 million passengers 12 years ago, only 31 million shorthaul passengers today. That is true across the country. That is not unique to Southwest Airlines' routes.

In that same time period, you can see the share that Southwest enjoyed of the shorthaul market, which has gone up 5 percentage points. So we've more than maintained our share, but it is of a shrinking pie, a very different air travel market today than in the year 2000.

If you look at what's happened to fares, pretty much a similar story in respect that it is very, very different. It is a low-fare game. We recognized that a long time ago. Clearly, the legacies have all gone through bankruptcy or disappeared. They have all gotten their costs down. They all charge lower fares than what they were accustomed to charging in 2000. At the same time, you've seen the growth of low-cost carriers, especially Southwest, who has grown significantly during this time period. But if you'll notice, fares are up significantly from a low in 2009, largely in response to increasing fuel costs.

Put all of that together with traffic, fares and look at what revenues have done over this time period. It sure doesn't surprise anybody here, but the revenue growth for the industry for the first time in a cycle has lagged the broader economy significantly, whether you look at it on a total revenue basis or a unit revenue basis. So it is a very different world than what we saw in the year 2000, and we've had to adjust.

We've been describing to you since 2006 how we intend to transform Southwest Airlines and, in particular, improve our revenue production, and we have done that. One way to look at that, since 2007, is just our share of RPMs compared to our share of available seat mile capacity, and I'm very pleased that our traffic growth has outpaced our capacity growth.

Looking at it on a revenue basis compared to 2007, we've also outperformed the industry and on a consistent basis, and this just simply shows Southwest as a percentage of the industry on a RASM basis, all adjusted for the same stage length.

Pretty much get the same story compared to year 2000 as well, where you see an even greater gain over that 12-year time period. So that has been our objective, to recognize the challenges, which are multiple: increased competition; a significant change in the shorthaul market; and a very significant increase in fuel costs, which I'll get to in a minute.

At the same time, we've been able to maintain our cost advantage. It is not as great as it was in year 2000, but it's still very significant and, in particular, compared to all of the legacy carriers. This is critical for our past success, and of course, critical for our future, to maintain our cost advantage. And again, it's our vision to remain and to be America's best and most popular low-cost airline.

Everyone knows this story, of course, with fuel cost per gallon up dramatically. We had a significant hedge advantage most of this 12-year time period and a modest penalty for the last several years, which is pretty much behind us with 2013, and Tammy is going to talk about our fuel hedging position here in a couple of minutes.

So let me go back to what we told you all in 2010, the last time we had an investor conference here in New York. In 2010, we were completing a 5-year strategic planning cycle that had begun in 2006. We had seen significant success with the initiatives that were underway during that time period, and it was an appropriate time for us to think about what we were going to do for the next 5 years. And this is what we showed you at that time, and we've put green checkmarks next to the items that we feel like we have completed, and let me just speak to that very quickly.

First on the list, of course, was to improve our frequent flier program. Our old program was very much geared towards shorthaul traffic. You all know the world has changed. We see that, too. We need to make that change. That's all in place. Bob is going to report on that shortly. We've had tremendous success with the introduction of the All-New Rapid Rewards program. So that's, of course, implemented in 2011, March 1, 2011, up and running and doing very, very well.

The second initiative that we have is the 737-800. We have significant technology challenges at Southwest Airlines in the year 2000, as we look back. One of the things that we have overcome is we have built the capability within the company to handle multiple aircraft types, so the 737-800, along with the technology that was introduced with the new frequent flier program, was an enormous amount of work. It was done right on time. It was done exceptionally well. We are seeing tremendous success with the 34 737-800s that we have up and running in the fleet. So very pleased with that, right on track.

AirTran, of course, in December of 2010, when we were last briefing you all, we had not closed on that transaction yet. We had announced the deal in September of that year. We are very much on track with our AirTran integration. As I think about it, there are 6 or 7 major things that have to be addressed in a merger like AirTran, and all of those boxes are checked off. The long pole in the tent for us is technology. The remaining technology challenges that we have at Southwest are related to our reservation system and very, very pleased with the progress that we've made over the past several years, as well as the last decade with our technology. We have a very solid plan to have AirTran completely integrated into Southwest Airlines by the end of 2014, which is a shorter time period than what we showed you in 2010.

The fourth initiative that we shared at the time was we made a decision in 2010 to tackle the replacement of our reservation system, and it's something that we've long desired to do. We made enough progress with our other systems related to revenues and reservations that we're in a position where we can seriously consider that. Southwest, again, is one of the largest airlines in the world, and I can assure you that replacing our reservation system will be a very, very significant undertaking. And we'll be ready for that.

The first phase of that began in earnest in 2012, with our announcement that we had signed up with Amadeus to implement international reservation systems capabilities. That is on track for implementation in 2014. So that's why we're -- I'm showing you a yellow bar there after 2014, because we will still face the complete replacement of our reservation system after that date. But I still chose to put a green checkmark on that item.

The other initiatives, I won't spend a lot of time with. Bob is going to take you all through some more detail. But there is a significant amount of work, of course, going on beyond just those 4 initiatives, and all of those have gone quite well. So if you all have questions on any of those, we can tackle those during our Q&A session.

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