Will Southwest's Contrarian Gamble Fly?
Carrier bulks up as competition slims down.
Generally speaking, when people aren't traveling and the economy is sluggish, airlines save their money, lay low and wait it out. Unless, of course, you're talking about Southwest Airlines (LUV). Its CEO, Gary Kelly, reportedly indicated the Texas-based company could add new planes to its roster of aircraft next year. According to a report by Bloomberg, the number of new additions in 2009 could be as many as 14.
So, what can be gleaned from this?
For starters, Southwest must be pretty confident about its financial position and ability to perform in spite of economic malaise. In addition to taking delivery of and maintaining new aircraft, Southwest made clear it has no plans to tack on pesky fees like some of the other major carriers. Combined, this is a big display of confidence.
And Southwest has other reasons for assuredness. To its credit, it's profitable (imagine that) and has done a better than decent job of hedging fuel costs. Per its first quarter earnings release: "For the full year 2008, we have derivative contracts for over 70 percent of our estimated fuel consumption at an average crude equivalent price of approximately $51 per barrel." That's an astounding 40% or so of the current market price.
All told, I have this sneaking suspicion that Southwest believes it can hit the current 2008 and 2009 Street estimates of $0.27 and $0.39 cents respectively. But don't crack the champagne just yet.
At first blush, I thought Southwest's bullishness was the result of some insight into a potential industry turnaround. But a closer look at the situation suggests that's probably not the case. Here's why:
In January, its board authorized a $500 million repurchase program. Although the company did buy back some shares in the first quarter, it hasn't done so since February 15th and "currently does not believe it is prudent to repurchase shares considering today's unstable financial markets and soaring fuel prices." Not exactly consistent with a looming rebound.
Insiders are also staying away from the stock. Over the course of the last six months, insiders sold off more than 179,000 shares and there were no open market purchases, which speaks volumes. In terms of aircraft, according to its first quarter release, it "moved 12 2010 deliveries [to] 2013-2015."
Finally, even if other major carriers like United Airlines (UAL) scale back operations just as Southwest takes on new planes, how does the company materially benefit from that? It's not as if United grounding planes is creating this pent up demand that Southwest will be able to fill. If anything, cariers are scaling back because they're unlikely to fill their flights. Might Southwest be able to garner some business with this strategy? Sure, but it won't be earth shattering.
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