Southwest Airlines fuel hedges

Posted on 10. Sep, 2008 by in Featured

Southwest Airline (LUV) has a very robust fuel hedge position. In fact it is responsible for their profit; a look at second quarter numbers show a 321 million dollar profit with a 511 million boost to the bottom line from fuel hedges. Paying approximately 80 cents a gallon less than AA and Delta for example their gamble has been suuccessful. It has allowed them to continue to keep their costs below the competition, both Legacy and Low Cost carriers. This is critical because SWA has a more critical elasticity rate (load factor effected by price) than network full service carriers. They also do not have the ability to generate higher revenue from international routes and first/business class. Cost is king.

As oil prices plummet SWA’s advantage evaporates. Couple that to a diminishing percentage of hedges and it means SWA has to raise revenue. SWA has had a very large influence on pricing in the domestic market as it expanded accross the country. The network carriers have cut costs drastically over the past 7 years. Overall cost lines are merging. SWA historically have kept their overall costs low through expansion. Two things are now effecting that growth. One they have grown, some believe to their limit system wide. Second rising prices have reduced ridership; the combination has curbed growth at SWA.

However the hedges have provided another luxury; time. They are taking advantage of this time to transform their model. In the last few years SWA has entered higher revenue markets they shunned in the past like Denver. Also they have recently cut code share deals as they move into the international market. I would expect more deals in the future. The down side to these code share deals is it will alienate aircrews if the growth is given to other carriers. SWA’s touted “team spirit” may be adversly effected. As allways the industry will be an interesting watch.

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