Southwest Airlines Co. (LUV) Earnings Call Transcript & Summary

Great. Let us switch back to airlines content now and very happy to have at Laguna again, Southwest Airlines and CFO, Tom Doxey. Tom, welcome to Laguna.

Thanks. Really good to be here.

Absolutely. You guys have been the idiosyncratic story of the industry for the last couple of years now. Obviously, so much going on, a, with macro, b, at Southwest as well. Maybe just to at a high level kind of, how do you spend your time? Kind of what's the split between looking internally? What's the split between refreshing the price chart on the jet fuel versus other macro stuff?

Yes. We'll focus on controlling the things that we can control. And I think we've done really a really good job at that. I mean you mentioned the initiatives. You look at those initiatives that we've rolled in over the last 18 months or so. We were actually asked this morning in one of the investor meetings, okay, we'll talk about one of the ones that didn't go like you thought it would. And as we went through them, they all came in on time, and they all have either met or exceeded the financial estimates that we have put out there. And we've done it also with maintaining the things that have been core to Southwest for 50-plus years now around hospitality and the culture and the customer centricity. We're seeing record numbers for people coming to us now. Our business revenues, for example, are up 30%. And I think that has a lot to do with the product. The fact that we now have the assigned seat, we have the extra legroom seats. We've got Starlink that started to roll out. We'll have probably 300 or so aircraft that will have Starlink installed by the end of this year, and we're going to continue on as we go through next year. So the product getting to a point now where I think it's resonating with people that it didn't resonate with before, while building on the base. And so yes, it's been -- things have gone really well from an initiative standpoint.

That's great. I'll come back to you in a second on that. But maybe just hit demand trends first. 2Q earnings, you said that 3Q was roughly 65% booked with yields up 24% year-over-year versus 13% for 2Q. So clearly a lot of momentum there with no deceleration in demands or fares. How have those trends evolved since July and kind of obviously, seasonality is a different thing. But how does that compare to what you saw in 2Q?

Yes. So we haven't updated those specific numbers since earnings. But what we have seen is as we've seen the quarter you progress into what has historically been more kind of trough period for the industry. We've seen a lot of strength. And the month that we're in now, September tends to be kind of a lower demand month. September has exceeded our expectations. And as we look at the demand environment it's very, very strong. It stayed strong.

That's awesome. Any color at all on 4Q and the holiday season kind of how much visibility do you have into that right now? And kind of do you see that continuing through that?

Yes. The booking curves are relatively short. We're kind of in this 60-day window. So as we move through the next couple of months, that will start to come more into focus. But of course, we do get -- it's more limited, but we do get insight into that, and we aren't seeing any signs as we move into that period of things decelerating.

Understood. And so obviously, kind of the entire industry has had this kind of nice tailwind on yields here. But you have obviously made it very clear that this is a combination of Southwest specific initiatives as well as industry tailwinds as well as jet fuel recovery across the industry. How would you characterize those 3 buckets as drivers of that yield?

Yes. So you think of the big initiatives that we've had that are unique to us. So seat assignments, extra legroom seats will be over $1 billion of EBIT for 2026. And as we move into 2027, we've talked about that being $1.5 billion or so in EBIT as we move into next year. We launched that in January. So of course, you get a full year as you go to 2027. But we're just seeing the project -- the product mature. We're getting better at the way that we market it. There's more familiarity with it, and it's resonated really well. So you've got that, that's unique to us. Bags as well, it's hard to believe that it's been almost 18 months since we've launched those. You may recall that we started operating and selling on the same day. that was in May of last year. So there was a ramp-up period with that, but that will be worth $1 billion in EBIT for the company this year as well. So just those 2 initiatives alone you can see north of $2 billion. Layer that on top of the incremental loyalty revenue that's coming in with our amended deal that we did with Chase, the earn and burn, the frequent flyer, the cost savings, all of those things. All of that is helping to continue to produce EBIT. But yes, on the revenue side, all of those initiatives are going well and are contributing to that performance. So as I think about us and how we compare to others. You've got all the Southwest specific items. And then you've got all the rest of them and maybe take 2 of your categories and put them into one, which is sort of this industry strength/recovery from the increase in fuel. And I think go back to maybe the first quarter and we were asked questions in settings like this, well, okay, you've had so much that you've been doing on your own and hey, that's going well. But now there's all this kind of industry stuff that's layered on top, can 1 plus 1 equal 2? And we felt confident that it could, and we've shown that it has. And so we're seeing the magnitude of the improvement that's coming in from the industry-related stuff that's come to us very much in line with what you're seeing with the other carriers, but great thing for us is we get to stack that on top of -- fully stack that on top of everything that was unique to us that I just described.

Got it. And speaking of that industry one, if you will, Obviously, jet fuel is creeping back up to it's a watermark that it hit kind of earlier this year. Again, you guys and the industry kind of responded by saying, hey, kind of we need to recover for this and pass through several rounds of price increases. Do you feel like there's more opportunity to do that kind of if you hit new watermarks or even right now, kind of how do you think about the current jet fuel environment and pricing that.

I do. I mean it's been volatile. What we've seen, there's a lag, of course, right? So you see the volatility if it tends to be really steep and the price of fuel is moving up quickly. Both from the booking curve and just kind of a natural lag. It takes a while for that to come. But yes, what we have seen is the ability to recover a good portion of that, I would expect that, that would continue that if fuel remains high, and it remains higher for longer, there will need to be more recovery that would occur there on the revenue side as well. And we're still in the stats you likely have heard this from others as well, but you still -- you go back to 2019 and you look at where we are today and on an inflation-adjusted basis, even after the increases that we've seen in unit revenues during this year, we're still not where most of the other products are on an inflation-adjusted basis. So I think there's still room to go.

Got it. We met at our headquarters in June. And at that meeting, kind of you noted that the percentage of passengers paying for ancillary products had increased from less than 20% historically to roughly 60% today. That kind of really resonated with me. And you said that 60% was not a ceiling. So how are you thinking about what that runway looks like in the coming years?

Yes. In the end, so I don't know that we have a target. Sometimes we're asked, hey, do you have a target? Do you want to get to this percentage or that percentage. In the end, we're looking to maximize revenue and of course, maximize -- yes. So yes, for sure. Yes, great. So yes, I don't know that we have like a specific number that we're going to. But what I can say is what we're looking to do is to put -- we're layering into the business product elements that will incent that buy-up. And we've done some of that already. We've talked about other things that could potentially be in the future. We've actually just announced lounges now officially. We've been kind of officially worst kept secret. We've been talking about that for a long time now. But those are the types of things that as we continue to layer those elements into the product, we do it in our way and in a way that has, and I think we'll continue to resonate really strongly with our customers and with people who have been choosing not to be our customers who are now choosing. I mean I mentioned the 30% increase in corporate. Those are the type of stats showing that these things are resonating. And like I said, we're not done. So we just announced lounges. We'll continue to look forward to things that we think will resonate and we'll -- whether it's the buy up or whether it's just a product element in and of itself that will continue to bring people to us. Sometimes you go back like 18 months and some of the conversations that we would have were around, they say, well, what about the share shift. I love the way that one of my peers, Andrew Watterson answers, he goes, "Oh yes, I'm glad you brought up the share shift. Let me tell you about all the share shift coming to Southwest because of all the things that we've done." And that's what we're seeing. It's exciting because we're -- there was this pent-up demand for things that the customers were wanting and they're buying those things that there was a pent-up demand for. And like I said, we're not done. We've just announced lounges and there's more to come.

Got it. That was literally my next question on the share. How -- is that share mostly coming in corporate? Or is that coming on the leisure side as well?

It's coming both coming. Yes, it's coming in both. But again, it's a combination of the pent-up demand that existed with the existing customer base. So there was that. It's people coming to us both on the corporate and on the leisure side. And in particular, the wallet splitting that could sometimes happen. We're in Southern California today. Prior to assigned seating, there -- I think were more instances of somebody saying, look, I'll fly you from John Wayne here in Southern California, up to the Bay Area or Sacramento all day long. I'll fly you to Texas. But if I got to go to Baltimore, I don't know. I might fly on somebody else because I want to make sure that even if I'm a little bit late to the flight that I'm going to get the seat that I wanted. And of course, our boarding was based on when you get on the plane. And so the product is resonating a lot more and what that should result in and what it has been resulting in is less wallet splitting that's happening as well.

Got it. Maybe just got a little bit of a side bar here. Just take us behind the scenes like 18 months ago, when you guys are like, "Hey, we're going to do all of these things," and entirely my personal view, but I think each of these initiatives would have been considered unthinkable for Southwest a few years ago. The fact that you are doing all of them, execute on all of them. I think it's pretty remarkable. But what was the thing of the management team at the time kind of were you guys just super confident that you had just this money left on the table and like it would be, I don't know to say easy to do, but you had extreme confidence where like, let's take it as it goes? Or just give us a sense of behind the scenes there.

Yes. These things aren't easy to do. We've had Lauren with us today, actually, who's our Head of Technology, she would probably be the first one to tell you about the complications that exist as you're needing to roll things out. But what you saw from the team was a resolve to get things done and get them done quickly. Not let perfect get in the way of really, really good and to get things out quickly and then iterate on those things quickly. But to get them out, -- and so -- but then what you also saw was confidence from the team, and that confidence continues, but you saw confidence from the team that we could get these things done as quickly as we can or as we thought we would. And we did. We met the timetables and we met the financial estimates as well, that came from those things. And so yes, I mean I think that's what you saw from the team was confidence and resolve to be able to get things done and not letting perfect get in the way of really good.

Understood. You said in your first response that you did all of this while sticking to the Southwest ethos, which obviously was super important to you. Obviously, all these changes that are a lot of chatter on Twitter and such kind of in the initial days. I think you guys had given us a net number including some level of book away. Do you have a sense of how much happened versus your expectations? And do you have -- do you know if the share recapture of yours is some of that book away coming back?

Yes. Ultimately, what we saw was a net positive. And anything that occurred during that period was very, very short. And the response that we've seen when you look at the numbers. Again, I referenced the 30% year-over-year increase in corporate revenues. Stats like that, the Net Promoter Score numbers that we look at to see where people are we're seeing is an engaged group they didn't. The group didn't go. So it's not as if they left and then they've decided a year later to join us again. They were there. What we're seeing is -- and maybe one thing I do hear from some of our kind of highest tier folks is, initially when you announced that you were going to do some of these things. I didn't quite know what to think. This is the Southwest that I've loved for so many years. And I hear this all the time. I tend to try to sit right in front or right behind the exit rows. Not in the extra, I want our customers to pay for the extra legroom seat, so I'll sit kind of right. But I get I hear a lot of the discussion and they'll talk to you about it. And they'll say that. They'll say, I was a little -- I didn't know quite what to think.

Do you identify yourself on the plane?

I do. Yes, I introduce myself to the crew and there's crew all along the way. So as I'm boarding airplanes, Yes. Basically, as I go through the plane, I'm not just telling the crew what my job is, but I generally tell that. But yes, so people will talk to me, and that's what they say, but I love this. Now that I've actually been able to see it and experience it, I love it. And so yes, I get the seat, I get the seat every time, and I love what you're doing. I'm so excited I can't wait to get a Starlink airplane and more and more coming in every week. So it's -- yes, I don't know that they ever left -- but I do think that they were hopeful that the changes that we were making would still be something that would allow them to love the product. And I think that what we've been seeing is that, that is exactly what's happening.

Got. It. Talking about new initiatives that customers will be enthusiastic for. Give us a little more color behind the lounge decision. On the one hand, it seems like a little bit of a no-brainer. On the other hand, I'm sure it was a very considered decision involving a lot of data. Have your customers have been asking you for this? How do you choose the first network of lounges? I don't think LUV is getting one initially. What's that pipeline going to look like over time?

Yes. So we've announced -- so every decision that we're making, we're looking at the data, we're looking at doing things that would be accretive to the business -- and we want to make sure, like I talked about before, that we're not getting caught up in analysis paralysis on things either. And when something is clearly the right thing that we want to do that we move forward and we do it. The lounge has fit into that category. Of course, we're doing this in partnership with a great partner of ours in Chase. One of the things that we as an airline bring is a lot of access at the airport. We have a lot of the space. And so as we're looking at where we want to build some of these lounges, that's a key element that we bring. And then, of course, with Chase, we haven't built lounges before, but they have, and they do a great job with it. And -- so there's this great synergistic partnership that we have I mean we're building already on what was a great synergistic partnership. This is just one more layer of that. And as you think about the things that our customers are asking for, this has been at the top of the list. And we've announced 4 of the locations. We've said that it's kind of 4 plus 7 and likely more to be considered after that. I think if you looked at a map and we've only announced the 4 locations, I'll make sure that I -- I'm looking at the team to make sure I don't give away one of the cities that we haven't. But as you look at those 4 locations and then if you looked at a map, and said, well, where would I think Southwest should have a club, it's going to appear very logical as we continue to announce more and more of these locations. And so well, what does this bring? Well, it brings the ability we've talked about having a premium credit card that we could have come in. What does that do? Well, that brings in higher FICO score customers, spenders -- higher spenders you tend to have -- you tend to be top of wallet more frequently when you have a card that's like that. So that's great. But then it brings a halo more of like an aspirational halo to your entire loyalty program and to your brand. And so for all of those reasons, again, you've heard me, Bob, others talk about the fact that we're not going to do things unless we feel that they would be accretive to the business for all of those reasons, we feel this will be accretive to the business. We're really excited about it and excited about who we're partnering with.

Got it. I'll ask you if you want to break some news at the conference here. Southwest obviously, has a very, very unique culture, a very unique experience in the sky. What can we experience in the lounge. Is it going to be something similar? Do you have surprises for us kind of have you seen a prototype, kind of what what's that going to be like?

Yes, it's going to be great. And I have seen them. Yes, we had some different internal meetings where we've actually done walk-throughs and seen different things and we've got mockups and designs of things. And construction has started in some of these locations. And I think it's part of the reason it was kind of the worst kept secret because we're actually starting to do some of the work before we announced it. So these are real designs that are now being implemented. These are going to be great. You look at who we're partnering with and you look at the type of lounges that they're building. This is going to resonate really well with people.

Awesome. Great location.

I think some people are going to be a little surprised actually when they say, "Oh, this is the Southwest lounge. This is great.