The Way Forward for Southwest Airlines

SOUTHWEST AIRLINES

Situation Analysis Presentation: Southwest Airlines

1. Strategic Profile and Case Analysis Purpose

Southwest Airlines Inc. was founded under the name Air Southwest in 1960 by Herb Kelleher. The carrier changed its name to Southwest Airlines in 1971 and flew its first plane that year with six round trips between Houston and Dallas. The air carrier subscribes to the mission of connecting people to what’s important in their lives through low-cost, reliable, and friendly air travel (Southwest Inc., 2022). Currently, Southwest Airlines serves 120 destinations scattered across 11 countries and is the second-largest air carrier in the US by market share (Southwest Inc., 2022). The airline’s greatest source of competitive advantage is its low-cost business model, which helps it build brand loyalty. The airline industry was hit hard by the Covid19 pandemic. The purpose of this case analysis is to assess Southwest Airline’s and the wider airline industry’s performance in the post-pandemic period to identify effective strategies for enhancing growth and value.

2. Situation Analysis

a) General Environment Analysis

Political Factors

The airline industry is in a state of recovery from the Covid19 pandemic in 2020. Vaccines have become more readily available and governments, including the US government, have lifted most of the local and international travel restrictions set at the height of the pandemic in 2020. Further, in April 2022, the Transportation Security Authority lifted mask mandate directives requiring airlines to observe testing requirements, appropriate ventilation, physical distancing, and mask wearing among passengers. Southwest Airlines expects an economic upturn resulting from the lifting of these regulations. However, the Covid19 pandemic saw growing interest in customer protection regulations that compel airlines to compensate (through refunds) customers when flights are cancelled or when there are significant changes to scheduled flights (Department of Transportation, 2022). The new regulations impose an additional burden of compliance on the airline and the airline may need to onboard more employees as it expand its route network to reduce inefficiencies resulting from cancellations and significant flight changes.

Economic Factors

Inflation: The increase in crude oil prices as a result of the pandemic increased airline operational costs, pushing air ticket prices up (Holzhauer, 2022). The effects of the Covid19 pandemic resulted in depressed customer incomes globally (CBPP, 2022). Depressed incomes reduced customers’ purchasing power, resulting in reduced customer spending on certain segments such as leisure air travel. The federal payroll support program (PSP) received in 2020 and 2021 supported the airline’s operations amidst falling profits. Southwest Airlines received $2.2billion in loans and $5billion in grants in 2020 and 2021 as a result of the PSP (Southwest Airlines Annual Report, 2021). Southwest Airlines ended 2021 with high liquidity as a result of the PSP despite falling revenues from its leisure segment.

However, crude oil prices remain volatile and higher than pre-pandemic levels (Holzhauer, 2022). In an attempt to curb inflation, the FED recently announced a rise in interest rates from 4 to 4.5%. In essence, this means an increase in the cost of financing. On the corporation front, profits are expected to grow in 2023 as governments lift Covid19 restrictions on domestic and international travel. However, investors are unlikely to want to invest in the airline industry. Southwest Airlines may have to deplete its reserves to fund most of its capital expenditure. The leisure business unit, which was most affected by the inflation, will record revenue growth as customer incomes slowly return to pre-pandemic levels. The business segment is, however, likely to record faster revenue growth because with depressed incomes, customers are more likely to travel for business purposes than for leisure.

Environmental Factors

The airline industry also faces regulations by the Environmental Protection Agency (EPA) around reducing the intensity of carbon emissions. Further, to enhance carbon neutral growth, Southwest Airlines may be forced to invest in more fuel-efficient aircrafts, quieter aircrafts, and to find ways to acquire adequate quantities of sustainable aviation fuels (SAF), which may be costlier than conventional fuels. On the business unit, this additional investment may increase operational costs. However, the effect on the corporation in the long-run would be enhanced positive reputation as a green entity, which would attract more investors.

Legal Factors

The main legal issues that could face Southwest Airlines relate to new regulations (in relation to labour) which call for the increment of the minimum wage for workers in the industry. Attempts to increase the minimum wage would impact the airline’s bottom line given that the industry has not yet fully recovered from the effects of the pandemic. The effect on the business unit would be that the airline may need to review its business class prices upwards to raise additional cash inflows to finance the wage increments. Business-class customers are less sensitive to price changes. Minimum wage increments would improve the airline’s employer-employee relations and enhance employee morale, thus increasing employee loyalty.

Global Factors

The most prominent global factor likely to affect the airline industry is changes in trade agreements. The trend would be the signing of Open Skies Agreements 2009 to 2017, which eliminate government interference in air carriers’ decisions about efficient air service, pricing, capacity, and routes (US Department of State, 2017). The impact of these agreements on the corporation is increased autonomy over prices and routes, which would facilitate expansion of airlines’ route networks globally.

b) Industry Analysis

Threat of New Entrants.

The airline industry has a small number of entities that control the market and enjoy scale economies because of their established presence and brand names. At the same time, entering the airline industry requires huge capital investments that makes it difficult for potential entrants to venture. Further, new entrants may encounter huge challenges competing with the existing brands that have already gained customer trust with regard to safety. These factors make the threat of potential entrants significantly low in the airline industry.

Threat of Substitutes

People have various options to choose from when they wish to travel, including air, ship, bus, train, etc. The cost of switching from one mode of transportation to another is low, which makes the threat of substitutes significantly high.

Buyer Bargaining Power

Customers have high bargaining power in the airline industry because they have a range of airlines to choose from and the cost of switching from one entity to another is low given the similarities in service offerings across airlines.

Supplier Bargaining Power

The main suppliers in the airline industry are aircraft manufacturers. Airlines are their main customers and, hence, they try to maintain good relationships and long-term contracts to keep their business going. To keep their business, these suppliers are forced to accept the terms set by airline customers, which gives them low bargaining power.

Rivalry among Existing Firms

Airlines face huge competition from other airlines - both locally and internationally. It takes huge capital investments and a long time for airlines to establish a brand presence, which makes them fight hard to maintain the same presence. Further, given the low switching costs between airlines, providers are constantly working towards developing their services to build an edge over the competition.

Generally, the airline industry is attractive because of the low threat of new entrants and the low supplier bargaining power. Southwest Airlines has already established its brand with its low-cost strategy, which gives it an edge over competitors, making it easier to win customers’ loyalty. Thus, Southwest Airlines faces a low threat in the industry.

c) Competitor Analysis

American Airlines. It is the largest airline in the US by passenger capacity and fleet size. It controls over 19 percent of the domestic market share and is Southwest Airline’s greatest competitor. American Airlines’ greatest strategy is its marketing strategy, which incorporates cross-selling tactics, thereby guaranteeing an impressive experience and maximum benefits for customers. With over 6,700 daily flights, American Airlines’ main source of competitive advantage over Southwest Airlines is its worldwide network and strong brand presence in global markets. To counter the threat posed by American Airlines, Southwest Airlines could begin to gradually introduce low-cost flights to international destinations.

Delta Airlines. Delta Airlines is the third largest airline by market share after American Airlines and Southwest Airlines. Its greatest source of competitive advantage is that it utilizes vertical integration, which allows it to control all aspects of its business, thus enhancing user experience through offering lower rates. Delta Airlines outdoes Southwest Airlines in its international coverage, with 325 destinations in over 50 countries, as compared to Southwest Airline’s 100. The airline expands its international coverage by forming strategic alliances with international airlines.

United Airlines. Like Delta Airlines, United Airlines boasts of a large fleet, with over 111 destinations scattered across 79 countries (Hughes, 2022). The airline succeeds in building its international coverage by building strategic partnerships with other international airlines.

Spirit Airlines. Spirit Airlines operates a low-cost business model like Southwest Airlines. It competes to gain market share in the domestic market by adopting a customer-centric approach that emphasizes fast check-ins, flexibility, low fares, and customizable carry-on baggage and itinerary changes (Hughes, 2022). Spirit Airlines differentiates itself from mainstream airlines through low-cost pricing model, and from other low-cost carriers through the digitalization of customer experience, cost-efficient operations, and its strong focus on green operations.

Alaska Airlines. Alaska Airlines is a low-cost carrier serving the domestic market like Southwest Airlines. The airline differentiates itself from Southwest Airlines through its digital customer service model that ensures a personalized customer experience with a particular focus on business customers (Hughes, 2022). However, to compete effectively against Southwest Airlines, Alaska Airlines needs to enhance both its cost efficiency and revenue per seat mile (Hughes, 2022).

Southwest Airlines holds a position as the top low-cost carrier in the domestic market. The low-cost business model is the main source of competitive advantage against mainstream airlines. The airline maintains its low-cost pricing through flying only 737 Boeing aircrafts, which minimizes pilot training time and reduces the time that crew spend in maintenance. Southwest Airlines also minimizes costs by landing in secondary airports as opposed to major hubs, which reduces docking fees and minimizes delays. To compete against other low-cost carriers, Southwest Airlines seeks to ensure a unique customer experience through its flexible policies that, for instance, allow flight cancellations by customers until up to ten minutes before a flight without incurring any additional costs or hidden charges (Hughes, 2022). The airline also differentiates itself by prioritizing eco-friendly practices (Hughes, 2022). However, the airline could cement its presence by offering low-cost flights to international destinations (Hughes, 2022).

d) Internal Analysis

Internal Strengths/Competencies

Cost-efficient operations. Southwest Airlines realizes cost efficiencies through flying only 737 Boeing aircrafts, which reduces costs of maintaining aircrafts as maintenance processes are relatively standard. Southwest Airlines also minimizes costs by landing in secondary airports as opposed to major hubs, which reduces docking fees and minimizes delays.

Servant Leadership and Employee-Centric Focus. Southwest Airlines places a unique emphasis on its workers and commits to keeping them engaged even in turbulent times. This allows the airline to attract and retain its top talent, and to also keep its employees happy, which fosters customer retention and loyalty.

Targeted customer service. Southwest Airlines offers personalized customer experience in its flexible policies that foster 15-minute turnarounds and allow flight cancellations by customers until up to ten minutes before a flight without incurring any additional costs or hidden charges (Hughes, 2022). Such flexible policies make the airline attract customers seeking quick, yet reliable transportation service without the usual hassle that characterizes air travel (Hughes, 2022).

Focus on Green Operations. Southwest Airlines focuses on the goal of achieving carbon neutrality by 2050 and a 20% reduction in carbon emissions by 2030 (Southwest Airlines Annual Report, 2021). The airline has modernized its fleet by acquiring more fuel-efficient aircrafts and also using sustainable aviation fuels (SAF) to reduce carbon emissions (Southwest Airlines Annual Report, 2021).

Internal Weaknesses

Focus on Domestic Market. Unlike mainstream airlines, Southwest Airlines limits itself to the domestic American market, which limits the carrier’s ability to compete globally against giants such as American Airlines. Part of the reason for this is that the airline does not form strategic partnerships with any international or local airlines, which limits the ability to expand its reach globally.

Reliance on the Boeing 737. Overreliance on Boeing as the single supplier gives the said supplier huge bargaining power over price, which could endanger the airline’s efforts to maintain the low-cost business model.

3. SWOT Analysis

Strengths:

i) The low-cost business model that is made possible by the airline’s cost-efficient operations

ii) Servant leadership and employee-centric focus that foster customer loyalty and satisfaction

iii) Targeted customer services

iv) Strong focus on green operations

v) Strong balance sheet – despite reporting a net loss in 2021, the airline reported a positive ROA and ROE, and liquidity ratios are within acceptable limits

Weaknesses

i) Limiting focus on the domestic market with little international expansion

ii) Overreliance on Boeing 737 aircrafts as the only aircrafts

iii) Low digitization of customer experiences

Opportunities

i) Disorientation of pre-pandemic flight routes. It therefore follows that an airline such as Southwest Airlines could seek to benefit from the ensuing reorganization of flight routes, i.e. by seeking to advance its network into routes that remain underserviced.

ii) Deployment of the latest technology and embracing of ecommerce to enhance operations such as expending the use of e-payment options for customer bookings

iii) Formation of strategic partnerships with international airlines as a means of expanding the airline’s global reach

Threats

i) Growing threat from low-cost carriers such as Spirit Airlines and Alaska Airlines, which offer equally competitive fares and a more digitalized customer experience, thus taking customers away from Southwest Airlines.

ii) Safety concerns around Boeing 737 planes following several airplane mishaps threaten the airline’s image and risk fostering losses

iii) Rising fuel prices risk increasing the airline’s operating costs and reducing profitability

The disorganization of pre-pandemic routes provides an opportunity for Southwest Airlines to benefit from the ensuing reorganization of flight routes, i.e. by seeking to advance its network into routes that remain underserviced. The airline could form strategic partnerships with international airlines in the same way as its mainstream competitors such as Delta Airlines and United Airlines to increase its route networks so as to serve more international destinations, thus minimizing the reliance on the domestic market. Such global expansion would help the airline grow its international market share, thus minimizing the competition it faces from other local low-cost carriers. At the same time, the airline could focus on growing its domestic market further by enhancing the services offered to customers through digitization. The airline is in a good liquidity position as shown by liquidity and leverage ratios, indicating that the airline is not at risk of defaulting on its obligations. The airline can, therefore, be able to commit, direct, and effectively assign resources in efforts to establish a strategic alliance or enhance its service offerings to win more customers in the existing markets.

4. Strategy Formulation

a) Strategic Alternatives

There are various strategic alternatives that create value for Southwest Airlines. One such strategic alternative is market development. In this case, the focus would be reaching out to new customers, i.e. via route expansion. Yet another strategic alternative worthy of consideration would be market penetration. On this front, Southwest Airlines would not be looking to reach out to new customers, but growing its existing share of the market, i.e. by offering existing customer flight discounts and deals. Both of these strategic alternatives are focused on the external growth of Southwest Airlines. In essence, they offer the airline the opportunity to further enhance its bottom line. However, it is important to note that while market development via route expansion could be result in wastage of resources and capital if the gamble does not pay off, market penetration via flight discounts and deals could trigger fierce retaliation from competitors, i.e. in the form of price wars. Product development via better service quality is yet another strategic alternative that could be taken into consideration on this front. Essentially, Southwest Airlines could seek to further enhance its present offerings. This strategy is largely focused on internal growth and further advances the airline’s competitive advantage. However, the airline might have to grapple with compliance issues as it seeks to adapt existing offerings – especially given that aviation security has been a priority post-9/11.