Southwest’s Earnings Preview: Stable Demand & Gains From Fleet Modernization Could Lift Results

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Southwest Airlines (NYSE:LUV) will announce its second quarter results Thursday, July 24. The low cost carrier is coming off a good first quarter in which its revenues and profits rose on lower fuel costs and gains from fleet modernization. In the second quarter, we figure Southwest will likely not benefit from lower fuel costs as global crude oil prices increased sharply in June following the Iraq crisis. Nonetheless, we anticipate the carrier to post healthy growth in its second quarter results on higher unit revenues (amount collected from each passenger per seat for a mile of flight) and benefits from fleet modernization.

In the second quarter, Southwest’s unit revenues increased sharply as the carrier capitalized on the stable demand for air travel through passenger fare hikes. The stable demand environment also increased Southwest’s second quarter passenger traffic by 2.4% annually, despite a decline in its flying capacity. [1] Unlike previous years, Southwest is not expanding its flying capacity in 2014, as it is transitioning Boeing 717s from its fleet to Delta (NYSE:DAL). The induction of new and previously used Boeing 737s will be unable to make up for this loss in the carrier’s capacity created by removal of 717s. Even in the first quarter, Southwest’s flying capacity had declined marginally, and we figure the carrier’s capacity will likely remain relatively flat through 2014. Overall, in the second quarter, despite a marginally lower flying capacity, higher unit revenues and higher passenger traffic will likely grow Southwest’s passenger revenues. The carrier’s second quarter profits could also rise if top line growth and gains from fleet modernization offset higher fuel costs.

See our complete analysis of Southwest here

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Ongoing Fleet Modernization Will Aid Southwest’s Second Quarter Profits

Southwest is adding Boeing 737-800s to its airplane fleet. These airplanes with their higher seating capacity are enabling the carrier to fly more passengers out of high density slot controlled airports such as New York and Washington. As a result, these airplanes are adding to Southwest’s revenue growth. At the same time, the -800s are lowering Southwest’s costs as they are more efficient compared to many older planes in the carrier’s fleet. Through the end of the first quarter, Southwest had added 54 Boeing 737-800s to its airplane fleet. [2]

Additionally, Southwest is benefiting from the ongoing transition of Boeing 717s from its airplane fleet to Delta. These 717s are being replaced with 737s, which are larger, and therefore generate revenue opportunities at similar per seat costs. In addition to introducing the larger -800s and transitioning 717s to Delta, Southwest is gaining from the retirement of 737 Classics, which are old and have much lower fuel efficiency levels compared with the airplanes of today. We figure these ongoing fleet initiatives will support profit growth in Southwest’s second quarter results. However, the carrier’s profits could be impacted by higher fuel costs, since during the second quarter, average global crude oil prices were higher than the year ago levels. With the conflict in Iraq, crude oil prices spiked even further in June. As a result, we expect growth in Southwest’s second quarter results from higher passenger revenues and fleet modernization initiatives to be tempered by higher fuel costs.

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Notes:
  1. Southwest’s June traffic results, July 9 2014, www.swamedia.com []
  2. Southwest’s 2014 Q1 earnings transcript, April 23 2014, www.swamedia.com []