Southwest Airlines is the largest airline measured by variety of passengers carried every year within the United States. It is also known as a ‘discount airline’ compared with its large rivals in the business. Rollin King and Herb Kelleher launched southwest airlines corporate on June 18, 1971. Its first flights were from Love Field in Dallas to Houston and San Antonio, short hops with no-frills service and a simple fare structure. The airline began with one simple strategy: “If you get your passengers to their destinations when they want to get there, on time, at the lowest possible fares, and make darn sure they have a good time carrying it out, individuals will fly your airline.” This method has been the key to Southwest’s success. Currently, Southwest serves about 60 cities (in 31 states) with 71 million total passengers carried (in 2004) along with a total operating revenue of $6.5 billion. Southwest is traded publicly beneath the symbol “LUV” on NYSE.
In the end, the airline industry overall is in shambles. But, how exactly does Southwest Airlines stay profitable? Southwest Airlines provides the lowest costs and strongest balance sheet in the industry, based on its chairman Kelleher. The 2 biggest operating costs for just about any airline are – labor costs (approx 40%) followed by fuel costs (approx 18%). A few other ways that Southwest has the capacity to keep their operational costs low is – flying point-to-point routes, choosing secondary (smaller) airports, carrying consistent aircraft, maintaining high aircraft utilization, encouraging e-ticketing etc.
The labor costs for Southwest typically makes up about about 37% of the operating costs. Possibly the most critical component of the successful low-fare airline business model is achieving significantly higher labor productivity. According to a recently available HBS Case Study, southwest airlines is definitely the “most heavily unionized” US airline (about 81% of their employees belong to an union) and its salary rates are regarded as being at or over average when compared to the US airline industry. The low-fare carrier labor advantage is at a lot more flexible work rules that allow cross-usage of practically all employees (except where disallowed by licensing and safety standards). Such cross-utilization along with a long-standing culture of cooperation among labor groups translate into lower unit labor costs. At Southwest in 4th quarter 2000, total labor expense per available seat mile (ASM) was more than 25% below that of United and American, and 58% under US Airways.
Carriers like Southwest possess a tremendous cost edge over www.corporateofficeheadquarter.com mainly because their workforce generates more output per employee. In a study in 2001, the productivity of Southwest employees was over 45% more than at American and United, inspite of the substantially longer flight lengths and larger average aircraft dimensions of these network carriers. Therefore by its relentless pursuit for lowest labor costs, Southwest has the capacity to positively impact its bottom line revenues.
Fuel costs is definitely the second-largest expense for airlines after labor and makes up about about 18 percent in the carrier’s operating costs. Airlines who want to stop huge swings in operating expenses and bottom line profitability choose to hedge fuel prices. If airlines can control the cost of fuel, they can more accurately estimate budgets and forecast earnings. With growing competition and air travel being a commodity business, being competitive on price was key for any airline’s survival and success. It became hard to pass higher fuel costs to passengers by raising ticket prices due to the highly competitive nature from the industry.
Southwest has become capable of successfully implement its fuel hedging strategy to reduce fuel expenses in a big way and has the biggest hedging position among other carriers. Inside the second quarter of 2005, Southwest’s unit costs fell by 3.5% despite a 25% increase in jet fuel costs. During Fiscal year 2003, Southwest had much lower fuel expense (.012 per ASM) when compared to other airlines excluding JetBlue as illustrated in exhibit 1 below. In 2005, 85 % of the airline’s fuel needs continues to be hedged at $26 per barrel. World oil prices in August 2005 reached $68 per barrel. In the second quarter of 2005 alone, Southwest achieved fuel savings of $196 million. The state of the industry also suggests that airlines which can be hedged possess a competitive edge on the non-hedging airlines. Southwest announced in 2003 that it would add performance-enhancing Blended Winglets to its current and future number of Boeing 737-700’s. The visually distinctive Winglets will improve performance by extending the airplane’s range, saving fuel, lowering engine maintenance costs, and reducing takeoff noise.
Southwest operates its flight point-to-point service to maximize its operational efficiency and remain inexpensive. The majority of its flights are short hauls averaging about 590 miles. It uses the strategy to keep its flights in the air more frequently and therefore achieve better capacity utilization.
Southwest flies to secondary/smaller airports in order to reduce travel delays and thus provide excellent company to its customers. It offers led the industry in on-time performance. Southwest has also been capable of trim down its airport operations costs relatively better than its rival airlines.
At the heart of Southwest’s success is its single aircraft strategy: Its fleet consists exclusively of Boeing 737 jets. Having common fleet significantly simplifies scheduling, operations and flight maintenance. The education costs for pilots, ground crew and mechanics are lower, because there’s only a single aircraft to find out. Purchasing, provisioning, along with other operations can also be vastly simplified, thereby lowering costs. Consistent aircraft also enables Southwest to utilize its pilot crew better.
The concept of ticketless travel was actually a major advantage to Southwest since it could lower its distribution costs. Southwest became electronic or ticketless back in the mid-1990s, now these are about 90-95% ticketless. Customers who use credit cards are eligible for online transactions, and now Southwest.com bookings take into account about 65% of total revenue. The CEO Gary Kelly thinks that wmprvh idea would grow further which he wouldn’t be surprised if e-ticketing accounted for 75% of Southwest’s revenues by end of 2005. Before, when there is a 10% travel agency commission paid, it employed to cost about $8 a booking. But currently, southwest airlines customer support is paying between 50 cents and $1 per booking for electronic transactions that translate to huge cost benefits.