2008

Southwest Airlines 2002: An

Industry under Siege

Southwest Airlines 2002: An Industry under Siege 2008

TABLE OF CONTENTS
INTRODUCTION ............................................................................................................................................ 3
9/11 CRISIS ................................................................................................................................................... 3
SOUTHWEST AIRLINES ................................................................................................................................ 3
CHALLENGES POST 9/11 .............................................................................................................................. 4
COMPETITOR ANALYSIS .............................................................................................................................. 5
SCRIPT ANALYSIS ........................................................................................................................................ 8
COMPETITIVENESS BY NETWORKS .............................................................................................................. 9

POTENTIAL ENTRANTS ........................................................................................................................... 9

SUPPLIERS ................................................................................................................................................ 9
BUYERS .................................................................................................................................................... 9
SUBSTITUTES AND COMPLIMENTS ....................................................................................................... 9

OPPORTUNITIES .......................................................................................................................................... 10
OPERATE AS LONG DISTANCE CARRIER ............................................................................................ 10
ADVANTAGES ...................................................................................................................................... 10
LIMITATIONS ....................................................................................................................................... 10
ANALYSIS ............................................................................................................................................ 11

INORGANIC GROWTH GROWTH BY ACQUISITIONS........................................................................ 12

ANALYSIS ............................................................................................................................................ 12
DU PONT ANALYSIS .................................................................................................................................... 13

CONCLUSION .............................................................................................................................................. 14
REFERENCES ............................................................................................................................................... 14

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

INTRODUCTION
Southwest Airlines is the largest company in the U.S. in terms of number of passengers. It
operates around 3500 flights daily and has recorded 35 years of profit. It faced one of its worst
period during post 9/11 when not only the Airline Industry as a whole was suffering but
increased government regulations and increased competition in the low cost airline industry
threatened the profitability of Southwest Airlines. Southwest Airlines faced challenges not only
in the short term regarding overhauling operating procedures but also faced a crisis in terms of its
long term identity and adoption of growth strategies.
This case analysis attempts at understanding the various circumstances prevalent at that time and
the various options which were available to Southwest Airlines in order to ensure a successful
future. Also the various strengths and opportunities which Southwest could have leveraged in
order to ensure profitability and customer loyalty have been analyzed.

9/11 CRISIS
The September 11 attacks (9/11) were a series of coordinated suicide attacks by al-Qaeda upon
the United States on September 11, 2001. On that morning, 19 Islamist terrorists affiliated with
al-Qaeda hijacked four commercial passenger jet airliners. The hijackers intentionally crashed
two of the airliners into the Twin Towers of the World Trade Center in New York City, killing
everyone on board and many others working in the building. The hijackers crashed a third
airliner into the Pentagon. The fourth plane crashed into a field near Shanksville in
rural Somerset County, Pennsylvania, after some of its passengers and flight crew attempted to
retake control of the plane, which the hijackers had redirected toward Washington, D.C. There
were no survivors from any of the flights.
September 11th was the darkest day for air travel worldwide. Passengers abandoned the airports
in the weeks following the tragedy. The attacks in New York City and Washington D.C.
extended beyond U.S. borders with grave ramifications for many airlines.
The 9/11 crisis was not only the beginning of a long series of government regulations to be
enforced by the airlines but it saw the customers fleeing the market in droves. Profitability and
Revenue both were under serious risk for all the airlines as there was a feeling of paranoia in the
mind of the customers regarding the danger of flying.

SOUTHWEST AIRLINES
The major decisions for Southwest Airlines post 9/11 were to ensure sound strategic decisions in
the face of industry setbacks, volatile responses on the part off the competitors, the preservation
of a culture formed around a charismatic founder and a series of government directives that made

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

it increasing difficult for Southwest to implement an operating strategy that differentiated it from
its competition.
Southwest Airlines was founded on the value of promising the customer You are now free to
move about the country. It was started to provide intrastate services which were point to point
in the state of Texas. Southwest was met with cost cutting measures from its interstate
competitors but its clever customer pricing and lucrative gifts ensured that it prevailed in the
price war. Southwest was positioned as a low cost carrier which provided excellent services and
was able to achieve high customer retention.

Exhibit 1 - Operating Destinations of Southwest Airlines

CHALLENGES POST 9/11

Southwest Airlines was unable to increase average load factors (available seats utilized) as it did
not employ hub and spoke route system as it was developed to deliver point to point service.
Southwest Airlines never connected with other airlines as it operated on relatively simple
itineraries and short trips and hence never sold interline tickets which could be beneficially used
for long distance services.
Southwest Airlines allowed agents to keep the plane doors open for last-minute arrivals at the
gate and did not assign seats both these strategies to attract consumers looking for a fast flight to
a destinations were made ineffective by the new regulations which were enforced by Federal
Aviation Agency (FAA), the FBI and the CIA.
Southwest Airlines is one of the most unionized airlines in the world and hence any competitive
layoffs or cutbacks were hard to implement considering the fact that it would meet considerable
resistance.

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

Southwest being a short trip airline had minimal baggage being checked in. The number of bags
checked in increased due to limitation carryon luggage imposed by FAA which necessitated
more baggage handling crew.
A tax was imposed of $2.50 on each segment flown by a passenger, which hit low cost carriers
like Southwest the hardest. Also additional tax was to be paid by airlines to help pay for
increased costs to the government for security further reducing the profit margins of the airlines.
Southwest deferred 19 aircraft deliveries which impacted any plans on expanding the route
coverage in the near future.

COMPETITOR ANALYSIS
The strategies employed by the competitors is one of the major methods of understanding the
future competition and the corresponding strategies which could be utilized by Southwest to
stave off competition from low budget carriers like Continental Lite, United Shuttle, US
Airways Metro Jet, Delta Express, Am Tran and JetBlue as well as well established carriers like
American, Delta, Northwest and US Air.
Examining Exhibit 2 it can be seen that Southwest had the highest number of passengers boarded
per employee according to U.S. Department of Transportation.
Airline

Headquarters

First
Quarter
2001

First
Quarter
2002

%
Change

Southwest

Dallas, Texas

604.6

509.8

-15.68

JetBlue

New York City

542.3

495.6

-8.61

America West

Phoenix, Arizona

369.8

353.2

-4.49

US Air

Tempe, Arizona

309.9

318.8

2.87

Alaska Air

SeaTac, Washington

309.4

303.8

-1.81

Delta

Atlanta, Georgia

295.1

287.3

-2.64

Northwest

Eagen, Minnesota

240.6

251.2

4.41

Continental

Houston, Texas

235.1

247.4

5.23

American

Fort Worth, Texas

194.9

241.8

24.06

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

United

Chicago, Illinois

184.6

182.2

-1.30

Exhibit 2 Passengers Boarded per Employee, Major U.S. Airlines, First Quarter 2001 and 2002

But the loss has been highest in the year after 9/11 for Southwest the major reasons can be
attributed to no layoffs made by Southwest in the wake of 9/11 and declining customer volumes.
It can be easily observed that in order to achieve a high passengers boarded per employee either
you need to have a high number of passengers boarding or really low number of employees. Post
9/11 most major U.S. airlines went for job cuts hence resulting in positive ratio as shown in
Exhibit 2.
First Quarter 2001
Airline

Revenue Cost
cents/ mile)

First Quarter 2002

(in Revenue -Cost
cents/ mile)

(in % Change

Alaska Air

-7.2

-.94

87%

American

-.60

-2.25

-275%

America West

-.59

-2.26

-283%

Continental

-.35

-1.61

-360%

Delta

-.70

-1.84

-163%

Jet Blue

1.13

1.40

24%

Northwest

-.92

-.88

4%

Southwest

1.30

.28

-78%

United

-2.00

-2.93

-47%

US Air

-3.06

-4.89

-60%

Exhibit 3- Revenue and Cost per Passenger Seat Mile, Major U.S. Airlines, First Quarter 2001 and 2002 (in
cents per mile)

As seen in Exhibit 3 most of the major U.S. airlines have suffered huge losses in revenue in
comparison to cost per passenger seat mile. But Alaska Air, Jet Blue and Northwest have
maintained positive revenue. In this regard JetBlue is the only low cost carrier which has
maintained positive revenue. It is important to understand the reason for this behaviour by
JetBlue against the normal trend observed by the industry. JetBlue operating substantially longer
flights than Southwest obtained better revenue per passenger seat mile as it used technological

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

solutions to reduce costs in the efforts of ticketing, check in, front line coordination of the ground
crew.
Also as shown in Exhibit 4 there was an increase in passenger miles flown by JetBlue by more
than 100% whereas majority of the U.S. Airlines observed a decrease in this regard.
Airline

First Quarter 2001

First Quarter 2002

% Change

American

68.6

72.1

5.10%

United

74.6

64.1

-14.08%

Delta

62.4

56.8

-8.97%

Northwest

47.4

43.0

-9.28%

Continental

37.7

34.9

-7.43%

Southwest

27.8

27.0

-2.88%

US Air

29.6

24.8

-16.22%

American West

12.7

11.1

-12.60%

Alaska Air

7.5

7.7

2.67%

JetBlue

1.6

3.4

112.50%

Exhibit 4- Passenger Miles Flown, Major U.S. Airlines, First Quarter 2001 and 2002 (in billions)

It can be observed that the major Airlines tried to improve quality and efficiency performance
through improved coordination of the flight departure process as observed in Exhibit 5 where the
reported percentage of On Time Arrivals for all major U.S. Airlines had increased. This can be
attributed to addition of time to competitors flight schedules. Also low cost airlines like
Continental Lite, JetBlue and United Shuttle used the hub and spoke model along with
relationship focus to garner better market share.
Airline

June 2001

June 2002

% Change

Alaska Air

71.7

77.1

7.53%

American

78.9

81.6

3.42%

America West

77.1

82.2

6.61%

Continental

79.4

82.3

3.65%

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

Delta

75.7

79.2

4.62%

JetBlue

81.0

80.0

-1.23%

Southwest

83.0

79.8

-3.86%

United

77.8

80.4

3.34%

US Air

77.8

82.9

6.56%

Exhibit 5 Trends in Reported Percentage of On Time Arrivals, Major U.S. Airlines, June 01-02

SCRIPT ANALYSIS
If the LUV script listed on NYSE is observed as given in Exhibit 6 it can be seen that post 9/11
the script suffered a major setback but then recovered during the mid 2002. This shows that the
customer confidence in the Southwest Airlines was not only strong but investors were confident
that Southwest would be able to weather the crisis.

Exhibit 6 Script Movement during 2001-2002 for LUV on NYSE (S-Split; D-Dividend)

Southwest had a strong equity base of around 4 million stock holders equity which can be
increased to further any future investment. Also the regular dividends paid by the company
indicate a healthy company to the investors.

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

COMPETITIVENESS BY NETWORKS

Exhibit 7 Michael Porter Model of Competitive Strategy

POTENTIAL ENTRANTS
Major long distance Airlines like Delta, US Airways, Continental and United Airlines entered
the low cost airline market with subsidiaries like Delta Express, Metro Jet, Continental Lite, and
United Shuttle which meant an increase in competition.
SUPPLIERS
SABRE was the only ticketing platform being used by Southwest Airlines as well as it used
suppliers like Chivas Regal for its in flight beverages. SABRE was the only system with enough
bargaining power to charge a fee from Southwest Airlines for ticketing.
BUYERS
Customers of Southwest Airlines were loyal but after the 9/11 attacks there was a general
downturn in the industry as more and more customers preferred not to fly. Customer had enough
bargaining power as the volumes would shift to the airline which not only provides better
connectivity and comfort but also at the most affordable rates.
SUBSTITUTES AND COMPLIMENTS
The operating routes of Southwest Airlines are very busy especially from airports like Houston,
Phoenix, Las Vegas and Los Angeles. Southwest started its operations to connect the 3 airports
in Texas Dallas, Houston and San Antonio. Southwest faces a major threat from not only airline

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

competitors entering the low cost market but from other substitutes like Railroads and
Roadways. It can be observed that Texas is served very limitedly by railroads with Amtrak
providing just three interstate scheduled routes. Texas also has the Gulf Freeway in Houston and
the highest speed limits in the U.S. which makes the substitution of Airlines by Roadways a
major threat to Southwest Airlines. Also the 71000 miles of public highway available in Texas
makes it one of the best connected states in terms of roadways.

OPPORTUNITIES
Southwest Airlines success is attributed to the focus of its operating excellence. Southwest
Airlines had examined the various options to improve the operating efficiency while keeping the
original spirit of customer relations and low cost budget airlines intact. The immediate need for
Southwest was to foster a long term strategy which would be used as a benchmark for focussing
its strengths.

OPERATE AS LONG DISTANCE CARRIER

One of the important options for Southwest was to adopt long haul flight service aggressively.
The following points indicate to the opportunities and shortcomings of embracing this option.
ADVANTAGES

Customers who flew multiple segments would reach a distant destination sooner.

Long haul flights experienced high load factors utilized existing infrastructure and did not
require additional catering or on-board staffing hence generating healthy profits per
passenger.

LIMITATIONS

Long haul flights were not unanimously preferred by crew members as Pete McGlade,
VP Schedule Planning comments that Most of the crew members signed on with
Southwest because they like more landings and takeoffs per day of work

Long haul flights experienced the problem of lack of space to store the trash that
accumulated during the flight. This severely dented the image of excellent operating
standards of Southwest Airlines.

Longer flights provided comparable operating economies as those to shorter flights only
if the longer flights were operated from cities served by a substantial number of other
Southwest flights. This indicates that it lead to no major increase in customer base and
sometimes might have been responsible for self cannibalizing.

10

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

Southwest Airlines was founded on the principles of providing short distance point to
point service with excellent operating strategy. The excellence in operating strategy was
limited due to the inexperience of Southwest as a long distance carrier.

ANALYSIS
It is important to understand that Southwest was a relatively new player to long distance flights
and hence the various barriers to its entry to the market need to be analyzed.

Government Policy The Airline Deregulation Act in 1978 made it possible for airlines
like Southwest to begin flying new interstate routes without regulatory permission. This
indicates that Southwest faced no barrier from the Government policy in order to enter
the long distance carrier service.

Costs It was clear that Southwest was currently operating long haul flights on some
routes with no additional cost and high load factors. But there were severe limitations in
terms of operations like lack of space to store trash and ground crew to handle luggage
which could not be corrected without increasing operating costs.

Presence of Strong Brands Southwest Airlines was entering into a market which was
traditional dominated by players like US Air, Continental, Delta and United Airways.
Also without the implementation of any interline ticketing service or hub and spoke
system it would work at the disadvantage of Southwest Airlines to challenge the well
entrenched players in the longer distance flights.

Customer The customers at Southwest Airlines were used to viewing Southwest

Airlines as a low cost short distance point to point service provider. The sudden shift to
longer flights would alienate the brand in terms of value recognition from the customers.

Technology Southwest Airlines had depended on selling the tickets directly to the
customer and the largely unionized workforce ensured that technology implemented was
at best the second line of defence. In order to compete in a new market with well
entrenched players Southwest needed Technology to cut costs and be more profitable.

Competition As already indicated Southwest was trying to venture into a market

traditionally dominated by very large players who had in the past waged pricing wars to
run Southwest out of business.

11

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

INORGANIC GROWTH GROWTH BY ACQUISITIONS
Airline Industry in the U.S. was suffering deeply post 9/11, 20% of all flights flown by seven of
the eight other largest carriers other than Southwest were discontinued and more than 15% of
those employed by seven of the eight other largest carriers were laid off. A bill was passed that
provided for up to $10 billion in loan guarantees to airlines seeking financing assistance. In
addition it provided for $5 billion to be distributed among all aviation providers based on seat
miles (one seat flown one mile) available on September 10, 2001.

Exhibit 8 Market Capitalization (value of total outstanding stock at closing on Sep 23, 2002). (Src: NYSE)

Southwest Airlines can acquire bleeding low cost airlines in order to earn better profitability.
ANALYSIS
Particulars

2001

2000

Long Term Debt

1327158

760992

Stockholders Equity

4014053

3451320

0.33

0.22

Debt/ Equity

Exhibit 9 Debt Equity Ratio for Southwest Airlines for Financial Year 2000 and 2001

It can be observed that for a highly capital intensive industry like airline industry Southwest
Airlines maintains a very healthy debt to equity ratio which indicates that Southwest Airlines is
well financed company and it can easily go in for more debt in order to acquire low cost budget
airlines. Also the basic strategy of Southwest Airlines need not be changed in acquiring a low
cost airline as the same principle of operational excellence can be implemented.
Also continuing with the current strategy and level of operations will not suffice to boost the
profits of the company as it would take time to attract the customers back to the advantages of
low cost flying. Southwest Airlines and JetBlue are well financed unlike other low budget
carriers in the industry which are bleeding under the new regulations and taxes imposed by the
government. This would be an ideal time for Southwest to acquire these airlines as their stock

12

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

values will be highly devalued and Southwest can obtain a good bargain. In order to increase its
existing network more investment would be required and a new market needs to be created this
can be easily avoided by acquiring a low cost budget airline operating in the existing as well as
non competing markets. Southwest Airlines would be saved from the ensuing identity crisis of
either being a low cost carrier or a long distance carrier. Also Southwest can focus on operating
excellence as its core strength and focus more on implementing strategies which ensure that it
provides a fast and cheap mode of service to the customer.
The limitation of this strategy is that choice of the acquired airline will play an unnatural role in
determining the success of the strategy. It is important that the acquired airline helps in
expanding the existing network of Southwest and doesnt lead to inter cannibalization of
customers.

DU PONT ANALYSIS
It is a method of preparing a War Plan before entering a market. The Du Pont profitability matrix
helps in establishing a financial quantitative frame of reference, using the Return on Assets
(ROA) approach.

Exhibit 10a Du Pont ROA Formula

Particular
Operating Income
Return on average total
assets

2001

2000

% Change

631122

1021145

6.5%

10.1%

-38.19%

-35.64%

Exhibit 10b Operating Income and ROA of Southwest Airlines for Financial Year 2000 and 2001

13

SAURABH NATU (343)

Southwest Airlines 2002: An Industry under Siege 2008

It is normally understood that increasing ROA indicates increase in profitability but as can be
observed from Exhibit 10 the ROA has decreased which indicates that the operating income has
decreased substantially. Hence it would be risky to go for a long haul flights if there is not
enough volume to leverage the ROA.
Also in case of inorganic growth the ROA can be increased as the operating margins are bound
to go up as there is no additional capital investment required and market share of the acquired
airline is assured. This would lead to the dual impact of increasing the ROA and in turn the
profitability of the company.
It would be advisable not to pursue a strategy which emphasises on shifting the focus of business
model of Southwest Airlines.

CONCLUSION
It can be concluded that Southwest needs to continually build upon its focus of operating
excellence to achieve a successful future. The only way forward is to increase its services so that
it can provide better services to its customers at the most affordable rates. Threats from
competitors and substitutes needs to be taken seriously and Southwest should deliver on the
promise to its customers You are now free to move about the country.

REFERENCES
Books and Articles
Southwest Airlines Way by Jody Hoffer Gittell
Marketing Management, 3rd Edition by Rajan Saxena

Web Sites
http://www.southwest.com/
http://en.wikipedia.org/
http://en.wikipedia.org/wiki/List_of_airline_mergers_and_acquisitions
http://www.investopedia.com/
http://www.gallowaygazette.co.uk/news/Anger-over-builder39s-39wildlife-destruction39.4601552.jp
http://articles.latimes.com/2001/oct/12/business/fi-56194

14

SAURABH NATU (343)