Has Southwest Been Able To Provide Meaningful Returns To Its Investors?

Return On Invested Capital (ROIC) is the return that an investment (debt and equity) generates for its debt and equity holders. It is a measure of a company’s efficiency and capital budgeting/allocating skills. ROIC is an important indicator for companies that have to make a large amount of capital investment in their business, like airlines. ROIC is often compared to measures of cost of capital, such as weighted average cost of capital (WACC).

• If ROIC > WACC, the company is creating value for its investors.
• If ROIC < WACC, the company’s value is being eroded.

For calculating ROIC, the numerator considered is net income, less of dividends, to indicate the amount of income that was reinvested in the business. The denominator, total invested capital, is calculated by adding the book value of a company’s debt and equity value.

In this article we try to assess the performance of Southwest Airlines in terms of ROIC over the last few years. Total capital, as we see in the table below, has mostly remained stable over the period 2012-2015, likely due to the share repurchase programs and increased dividends that the company has been paying out. However, the company’s profits have risen almost five times. Consequently, the company’s return on invested capital also increased by roughly five times over the period. Compared to the company’s current WACC of 9%, as of late, Southwest has started rewarding its investors with higher returns.

Given Southwest’s increasing costs from new labor agreements and expected recovery in the crude oil prices, we may see some leveling in net income growth in the future. Further, according to the company’s latest presentation, it expects its debt levels to be around $3.4 billion at the end of 2016, while its book value of equity remains at $7.4 billion.

This, in turn, may affect the company’s ROIC negatively, eroding some of the value created for the investors.

Have more questions about Southwest Airlines (NYSE:LUV)? See the links below:

• Why Trefis Revised Southwest’s Price Estimate From $46 To $38 Per Share
• Southwest Drops Post 2Q’16 Results As The Airline Restricts Its Capacity Growth For 2017-2018
• Southwest Q2’16 Earnings Preview: Capacity Growth To Partially Offset The Impact Of Declining PRASM
• How Will Different Capacity And Fuel Cost Forecasts Impact Southwest’s 2016 EBITDA?
• Rapid Capacity Additions And Lower Fuel Expense Drive Southwest’s 1Q’16 Earnings
• What Will Be The Impact On Southwest’s EBITDA, If Crude Oil Prices Rebound To $100 Per Barrel by 2018?
• Will Southwest’s International Operations Contribute A Significant Portion Of Its Revenue By 2020?
• What Will Be Southwest’s Value In 2020?
• What Factors Caused A Sharp Jump In Southwest’s 2015 Operating Margin?
• How Has Southwest’s Revenue And EBITDA Composition Changed Over The Last Five Years?
• Southwest Airlines: The Year 2015 In Review
• What Is Southwest’s Outlook For 2016?
• What Is Southwest’s Fundamental Value Based On 2016 Estimated Numbers?
• What Is Southwest’s Revenue And EBITDA Composition?
• How Has Southwest’s Revenue And EBITDA Grown Over The Last Five Years?

Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such lean communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com

2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Southwest Airlines

View Interactive Institutional Research (Powered by Trefis):

Global Large Cap | U.S. Mid & Small Cap | European Large & Mid Cap

More Trefis Research