Southwest Airlines chief executive Gary Kelly likes to call the airline a maverick. The world’s biggest low-cost carrier knows a thing or two about being just that. It stands alone as the only major US carrier that has not filed for Chapter 11 bankruptcy protection at some point in its history – no small feat when several of its peers have gone down that route as the US airline industry struggled to get back on its feet following the blows of 9/11 and two recessions.
The fourth-biggest US carrier in terms of passenger traffic, Dallas-based Southwest reported a record net profit of $2.2 billion in 2015 on the back of $19.8 billion in operating revenue. That continued its enviable track record of profits, marking its 43rd consecutive year in the black.
Kelly has been at the helm for a quarter of these, delivering the sustained profits founder and low-cost carrier pioneer Herb Kelleher did for three decades. But if results suggest it has been business as usual, the last five years have been among the most eventful in the carrier's history.
While carriers were regrouping after the Great Recession of the late 2000s, Southwest was in the thick of acquiring and merging with Orlando-based AirTran Airways. The merger - the biggest low-cost carrier tie-up in history - closed in May 2011, and the integration of AirTran was complete by the end of 2014.
The AirTran acquisition gave Southwest the chance to grow at key US airports including Atlanta and Washington National. But more notably, the airline also gave Southwest its first international flights, to Mexico and the Caribbean. More than four decades after Southwest came on the scene, it was finally getting its passport.
While the acquisition of AirTran boosted Southwest’s network, it had nowhere near the same effect as the repeal of the Wright Amendment – the decades-old legislation that had long constrained Southwest’s nonstop flights from its Dallas Love Field base to only a handful of states, mostly around Texas.
After remaining neutral on the legislation for years, Southwest changed its stance in 2004, months after Kelly became chief executive. Denouncing the Wright Amendment as anti-competitive, the airline began actively lobbying for it to be repealed. Two years later, the repeal was signed into law, although the restrictions on nonstop flights were not lifted until October 2014.
On 13 October 2014, the floodgates opened at Love Field, allowing Southwest to add flights in waves, eventually operating up to 180 daily departures out of the airport to 50 cities.
The AirTran acquisition and the Wright Amendment repeal helped propel Southwest towards the carrier it is today, markedly different from its early days as a mostly short-haul operation.
“The world has changed, and short-haul demand has dropped,” Kelly tells FlightGlobal in his office at the carrier’s headquarters near Love Field. “Fuel prices have gone up, we’ve seen an increase in low-cost competition, we’ve gone through 9/11, two different recessions. It was obvious we needed to transform some aspects of Southwest Airlines.”
In September 2014, Southwest emerged with a new branding and livery – what Kelly then called an exclamation point to the transformation that has taken place. Dubbed “heart”, the new image was what Kelly viewed as the culmination of many years of hard work at the airline. “There have been a lot of challenges and stress dating back to 9/11,” he said then.
Although the US airline industry is now breathing more easily, the work is not over at Southwest. “It is a journey and we are far from done,” Kelly says.
NETWORK PRIORITIES
The world might now be Southwest’s oyster, but the airline’s priority in the short term is expansion within the 48 contiguous US states.
“The top priority for us will be existing customers in the 48 states. We believe there are a large number of opportunities there,” he says. This could take the form of adding frequencies or introducing nonstop service linking existing destinations.
Beyond this, Southwest sees potential for 50 new points for its route map, but Kelly stresses that this is not the top priority. “We will want to add those as we deem it to be prudent, and also try to balance the opportunity cost.”
He cites Cuba as a “perfect example”. The Caribbean island nation recently began receiving scheduled service from US carriers after a hiatus of more than 50 years. Southwest won the right to serve Havana from Fort Lauderdale and Tampa, and Santa Clara and Varadero from Fort Lauderdale.
“We began this year with no plans to serve Cuba,” Kelly says. “Then when that market opened up, we knew that if we didn’t apply for slots now we might never get them.”
Phil Kline Photography
Mexico is another high-priority expansion market for Southwest, as a highly anticipated liberalised air services treaty with the USA took effect in August. Airlines from both countries have long yearned to add flights beyond the restrictive caps that used to apply to popular transborder routes.
“It’s been a constrained market for decades. We are delighted with the liberalised bilateral agreement,” says Kelly.
Latin America and the Caribbean will anchor Southwest’s international expansion, following airport investments made by the airline to support overseas growth. Fresh from opening a new international concourse at Houston Hobby in October 2015, the carrier is managing the construction of a similar facility at Fort Lauderdale. Set for completion in the second quarter of 2017, the five-gate concourse will enable the airline to grow southwards.
While Hawaii, Alaska and Canada had previously been named among the 50 new potential destinations for Southwest, Kelly indicates these are further down the list for the airline. Hawaii service would require the airline to be certified for extended twin-engine operations – a process that could take a year or more.
“[For] Hawaii, we have work to do from a technology perspective to support that flying,” Kelly says. “So it’s a high-priority market, but it falls behind some of these other priorities we mentioned.”
GROWING PAINS
On 20 July, a day before Southwest was due to release its second-quarter financial results, a router failure precipitated a meltdown of its operations. Over a few days, more than 2,000 flights were delayed or cancelled. Southwest, which prides itself on its customer friendliness, found itself in a jam as angry passengers took to social media to complain.
The airline’s website was down for hours, leading to lost revenue that ran into the millions. Forced to reschedule crew, pay employees overtime and re-accommodate and compensate passengers, the carrier is expected to report higher costs for the third quarter as a result of the disruption.
The computer outage was the unintended consequence of the airline’s legacy technology systems that are still catching up to its now bigger route network, Kelly says. What began as a “fairly minor” equipment failure bloomed into a disruption that rippled through the airline’s entire operations as back-up systems failed to kick in.
“We were built to serve a short-haul point-to-point network, and it’s lagging behind… We have had fabulous commercial success and it’s really challenged our operations dramatically, using old tools and technologies to play a different game. So we are doing a bit of catch-up there.”
The July outage was a surprise, he acknowledges. “We want to make sure we don’t have additional exposures beyond that… It’s clearly not the kind of response that we want, and we need to resolve to make sure that we put preventions in place, so that this doesn’t happen again.”
Over the next few years, Southwest will deploy a lot of new technology, notes Kelly. A major part of that will be its new passenger reservations system from Amadeus, which will officially launch in the first half of 2017, although the airline will begin selling some flights through it in the fourth quarter of 2016.
“By the time we end the decade, we are going to have made dramatic progress with retiring some of our legacy technology,” says Kelly.
Southwest’s new reservations system will allow it to grow ancillary revenue and give it the ability to assign seats, which it currently does not do. However, Kelly is quick to reassure loyal customers that the airline has no plans to significantly alter the passenger experience on board.
“While we [will] have the capabilities like assigning seats, I don’t see us doing that. Dual-class cabins, all of those kinds of things, don’t seem like the best thing for Southwest in terms of driving more customer loyalty or making us more efficient.”
In the same spirit, Southwest has staunchly refused to roll out bag fees, allowing passengers to check their first two bags free. Over the years, the airline has become the outlier in this respect, which has led Wall Street to repeatedly question how much revenue Southwest might be leaving on the table.
The carrier is sticking to its guns, with Kelly reiterating that bag fees would only drive away customers – undoing any revenue boost that such fees would bring. “The bag fees, that question has been pretty much answered,” he says. “I think people recognise there is tremendous customer affection and loyalty for Southwest, and that the no-hidden-fees approach is one aspect of that.”
Kelly believes this has helped Southwest compete at a time when its rivals are increasingly unbundling their product, while not losing sight of its low-cost roots.
"What is different over the last eight years is the unbundling approach that the industry has taken, those are some new techniques that we’ve had to adjust to," he says.
"We just reaffirmed our own commitment to our customers which has allowed us to differentiate ourselves from the rest of the market. But in the end we got low costs, we will want to maintain our low fare brand, and further underscore that by not nickel-and-diming our customers, so I feel like we are in a great position to compete."
A BALANCING ACT
The US airline industry is no stranger to thorny disputes with labour unions, and certainly not the 50,000-employees-strong Southwest, which is more than 80% unionised. The carrier – which made headlines in the 1970s for dressing its flight attendants in hot pants and go-go boots – touts its fun-loving employee culture as one of its strengths. Flight attendants are encouraged to go off script during in-flight announcements (“If you are connecting to another airline, we don’t care,” a flight attendant once dead-panned), Kelly enthusiastically dresses up each year for the airline’s Halloween party (he was Snow White in 2015) and employees gather weekly for a deck party at Southwest's headquarters.
The airline’s co-founder, Herb Kelleher, espoused putting employees first when he was at the helm of Southwest. Kelleher’s philosophy was simple – keep your employees happy, they will treat the customers well, the customers will return, and your shareholders will be happy.
But as Southwest has swelled into the behemoth carrier it is today, its employees say the airline is no longer the family they once found it to be, and that the magic is gone. The airline’s unions have repeatedly pointed to Southwest’s record profits, lamenting that the financial gains have not flowed through to employees.
Responding to the criticism, Kelly reiterates the airline’s need to grow responsibly without eroding its culture.
“If you don’t change, you die. I think most people, whether as an individual or as a family or as a company, would aspire to grow. We just need to grow in a measured way, in a prudent way, in a way that makes Southwest Airlines stronger and more successful… The other thing that we want to make sure that we do is continue to protect our culture, and take very, very good care of our employees.”
In the days following the July outage, four unions representing 38,000 Southwest employees called on Kelly and his chief operations officer Mike Van de Ven to resign. Three of the four unions are in talks with Southwest over a new contract. Such contract talks can often devolve into bitter, long-drawn-out affairs full of heated rhetoric. But earlier this year, things got more complicated for Southwest’s talks with its pilots when the incoming Boeing 737 Max ended up as a bargaining chip.
The Southwest Airlines Pilots’ Association (SWAPA) had said the current contract does not allow for the operation of the Max, while Southwest management maintained it does. Both sides have since reached an agreement in principle for a new contract that will cover the operation of the 737 Max, and SWAPA's board could put the deal out for a ratification vote that will likely conclude in early November if it goes ahead.
Progressing to a vote does not signal a done deal - Southwest's flight attendants overwhelmingly struck down a new contract tentatively agreed to in 2015, and their union remains in talks with the airline.
Faced with labour tensions and an increasingly competitive US airline environment for the customer’s dollar, Kelly knows that the road ahead for Southwest will be a delicate balancing act of the interests of the three groups: employees, customers and shareholders.
“We are an intensely operating company, and in order to operate, we have to have good people,” he says. “If you don’t have good people, you won’t do well in managing the other risks. All 50,000 Southwest employees have to say our passion is serving our customers. We need to serve them well with a product we are proud of and something that keeps them coming back. And we need to do that in a way that produces a profit.”
Source: Airline Business
