In Focus Southwest Airlines still setting LCC standard

Southwest Airlines was the forerunner of the world’s most successful low-cost carriers. With the acquisition of rival AirTran earlier this year, the airline has entered a whole new era, writes Andrzej Jeziorski.

11th Oct 2011


 In Focus


 Southwest Airlines still setting LCC standard

Southwest Airlines was the forerunner of the world’s most successful low-cost carriers. With the acquisition of rival AirTran earlier this year, the airline has entered a whole new era, writes Andrzej Jeziorski.
 


Dallas, Texas-based Southwest Airlines has long been the standard-bearer for the low-cost carrier (LCC) business model, serving as the template for such success stories as EasyJet and Ryanair in Europe, and AirAsia and Jetstar in the Asia-Pacific region.
Now 40 years old, the airline made a major splash in the US market earlier this year with the completion on 2 May of the acquisition of rival AirTran Airways, based in Orlando, Florida. Southwest bought all the outstanding common stock of the airline’s parent AirTran Holdings, along with the carrier’s corporate identity and its operating assets.
On the day of the announcement, Gary Kelly – Southwest’s chairman, chief executive and president – said the transaction was “a significant accomplishment and ... a great day in the history of Southwest Airlines”. Observers said that the greatest direct impact on Southwest itself would be the elimination of a competitor, obtaining access to Atlanta and adding landing slots in New York and Washington DC.
“The acquisition of AirTran represents a unique opportunity to extend our network into key markets we don’t yet serve, such as Atlanta and Washington DC, via Ronald Reagan National Airport,” Kelly said. “It gives us the opportunity to serve more than 100 million customers annually from more than 100 different airports in the US and near-international destinations, providing customers more low-fare destinations as we diversify and expand the well-known ‘Southwest Effect’ to hundreds of additional low-fare itineraries for the travelling public.”
 

 Expanding presence
Kelly also hailed the prospect of expanding the carrier’s presence at New York’s La Guardia airport, as well as Boston Logan, Milwaukee and Baltimore/Washington, along with the introduction of services “to many smaller US cities that we don’t serve today, with access to key near-international leisure markets in the Caribbean and Mexico”.
According to Kelly, the timing of the deal “couldn’t be more important”.
“With soaring fuel costs putting many airlines, yet again, in the red, Southwest brings many strengths to bear,” he said. “Southwest not only brings profitability and financial strength to make this deal feasible, but it also positions the combined companies with an industry-leading, investment-grade balance sheet to weather the energy-price storm. In addition, it currently positions Southwest to offer improved job security, compensation, and benefits to AirTran Crew Members who join the Southwest family.”
The Southwest CEO added that the carrier’s profitability and financial strength, combined with the largest low-fare network in the USA, “puts AirTran crew members in a position to be part of a growing company again, once AirTran is integrated into Southwest”.
Based on Southwest’s US$11.90 average closing share-price over the 20 trading days ending three trading days before 2 May, the transaction valued AirTran at approximately US$7.57 per share, or US$1.0 billion in total. Southwest said Each AirTran common-stock share would be exchanged for US$3.75 in cash and 0.321 shares of Southwest’s common stock.
“Assuming no conversion of AirTran's outstanding convertible notes, AirTran stockholders will receive 44 million shares of Southwest Airlines common stock, which will represent 5.6 percent of the Southwest Airlines common shares outstanding,” the Dallas-based carrier said. “Additionally, they will receive cash of US$518 million. Including the existing AirTran net indebtedness (including outstanding convertible notes) and capitalized aircraft operating leases, the total transaction value is US$3.2 billion.”
 

Increasing earnings
The airline said the transaction, including the expected benefit of synergies between the partners but excluding the impact of one-time acquisition and integration costs, would boost its earnings per share in the first twelve months after the completion of the deal and become “strongly accretive upon full realization of net synergies”.
“Net annual synergies are estimated to exceed US$400 million by 2013,” Southwest said. “One-time costs related to the acquisition and integration of AirTran are currently estimated to be approximately US$500 million.”
AirTran’s sales and operating income for the year ended 31December 2010, totalled US$2.6 billion and US$128 million, respectively. By comparison, Southwest’s revenue and operating income for the same period totalled US$12.1 billion and US$988 million, respectively. As of 31 March 31 this year, the combined unrestricted cash and short-term investments of the two companies stood at about US$5 billion.
“Southwest's funding for the transaction will be from its cash on hand,” the airline said. “In addition, Southwest Airlines has a fully available, unsecured revolving credit facility of US$800 million.”
The carrier added that it would keep all stakeholders updated on the integration process and provide regular updates.
Southwest appointed Bob Jordan, its executive vice-president of strategy and planning, to become president of AirTran. Bob Fornaro, who previously served as chairman, president, and CEO of the Florida-based airline, was appointed as a full-time consultant for the integration of the two carriers, working closely with Kelly and Jordan to ensure a smooth transition.
Southwest clarified that its headquarters would remain in Dallas, while AirTran's operations and presence in both Orlando and Atlanta under were placed under review.
Jordan has remained on the joint Integration Board consisting of Kelly, Fornaro, Mike Van de Ven (Southwest’s executive vice-president and chief operating officer), Loral Blinde (AirTran senior vice-president human resources and administration), and Jeff Lamb (Southwest senior vice-president of administration and chief people officer). The Integration Board would continue to provide overall direction of the integration efforts, Southwest said.
 

Single Operating Certificate
Pending the issue of a Single Operating Certificate (SOC) by the Federal Aviation Administration, AirTran operational departments would continue operating under the AirTran operating certificate, with the full authority of its operating teams led by Klaus Goersch, the smaller carrier’s executive vice-president operations and customer service, Southwest said. Goersch would report directly to Jordan and work closely with Mike Van de Ven.
Southwest said it would immediately begin working with AirTran to integrate the two companies.
“However, AirTran will continue to operate under the AirTran brand with its same policies, procedures, and product features for a period of time,” the Dallas-based carrier said. “Southwest plans to integrate AirTran into Southwest Airlines over time by transitioning the AirTran fleet to the Southwest Airlines livery, developing a consistent customer experience, and transitioning the operations of the two carriers onto a Single Operating Certificate.”
Southwest expects to obtain the SOC in the first quarter of 2012, estimating that it will take several years to fully transition AirTran into Southwest Airlines to become one airline.
“In the near term, customers can expect to interact with each carrier as they always have,” Southwest said.
AirTran customers would continue to make reservations or check in at the airtran.com web site or using the airline’s existing phone number, and through AirTran kiosks and ticket counters, and AirTran crew would continue to assist on scheduled AirTran flights.
Similarly, Southwest customers could continue that company’s web site, telephone numbers, kiosks and ticket counters for reservations and check-in. “Customers will continue to earn and redeem through the respective frequent flier loyalty programs, as they do today, until those programs are combined over time,” Southwest said.
The carrier added that it plans to “provide the ability for customers to connect across the networks and integrate key customer service policies for a more consistent customer experience, in the fall or early next year”, depending on both companies' readiness.
 

First step
The closure of the deal in May was “an important first step to fulfilling our mission to spread low fares farther and increase competition throughout the airline industry,” Kelly said.
“Our progress, to date, on integration planning has been outstanding,” he continued. “Without our employees’ hard work and enthusiasm about this acquisition, we would not have reached this point. As we now take it to the next level and begin to implement our integration plan, their continued efforts will be key to our success. I have confidence in our people and their ability to successfully execute these plans.”
Leaders from both airlines hosted celebrations of the merger in all mainland locations for both Southwest and AirTran, hailing the start of a new era for the airline that defined the budget-carrier concept.
 

 

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