Southwest Airlines Company (Southwest Airlines) (Dallas) today reported its first quarter 2013 results.  First quarter 2013 net income was $59 million, or $.08 per diluted share, which included $6 million (net) of favorable special items.  This compared to net income of $98 million, or $.13 per diluted share, in first quarter 2012, which included $116 million (net) of favorable special items. Excluding special items, first quarter 2013 net income was $53 million, or $.07 per diluted share, compared to a net loss of $18 million, or $.02 loss per diluted share, in first quarter 2012.  This exceeded the First Call consensus estimate of $.02 per diluted share.  Operating income for first quarter 2013 was $70 million, compared to $22 million in first quarter 2012.  Excluding special items, operating income was $112 million for first quarter 2013, compared to $10 million in the same period last year.  Additional information regarding special items is included in this release and in the accompanying reconciliation tables.

Gary C. Kelly, Chairman of the Board, President, and Chief Executive Officer, stated, “The significant year-over-year improvement in our first quarter results (excluding special items) was driven by record first quarter revenues and a better-than-expected cost performance.  On relatively flat available seat miles year-over-year, total operating revenues of $4.1 billion increased 2.3 percent, or 1.8 percent on a unit basis, compared to first quarter last year.   Passenger revenues were boosted significantly by continued progress on the AirTran integration, fleet modernization efforts, and the Rapid Rewards loyalty program.  Year-over-year passenger unit revenue trends were relatively stable through February, and while worse than expected, March passenger unit revenues outperformed the domestic industry, on a capacity adjusted basis. Soft revenue trends have continued, thus far, in April, and we expect a year-over-year decline in our April passenger unit revenues.  While we are cautious about April trends and the potential effects from government sequestration, recent bookings for May and June have been solid, and lower fuel prices have roughly offset the revenue weakness thus far in April.

“Based on market prices as of April 22^nd, second quarter 2013 economic fuel costs, including fuel taxes, are expected to be in the $3.00 to $3.05 per gallon range, well below second quarter 2012’s $3.22 per gallon, including fuel taxes, and below the original forecast included in our 2013 plan¹.  Also, we now have derivative contracts in place for the remainder of the year that support estimated fuel costs per gallon below our 2013 plan.  First quarter 2013 economic fuel costs were $3.29 per gallon, which was in line with our expectation, and 4.4 percent lower than first quarter 2012’s all-time high $3.44 per gallon.

“We are pleased with the early results from revenue initiatives implemented in first quarter 2013 and are excited about the incremental benefit expected for future periods.  We launched some of our new 2013 ancillary revenue streams, including selling open premium boarding positions at the gate, increasing our EarlyBird Check-In™ charge, and increasing certain other fees.

“We also phased in the ability for our Customers to fly connecting itineraries between the Southwest and AirTran networks, our top priority this year.  As of April 14^th, all 97 destinations within the combined networks can be flown on a single itinerary, a key milestone of our AirTran integration. Bookings on these connecting itineraries, thus far, have been strong, giving us further confidence in our plan to achieve $400 million in net, pre-tax, AirTran synergies in 2013 (excluding acquisition and integration costs).  With connecting capabilities in place, our ability to optimize the combined networks and operations is enabled, particularly in Atlanta.  This is a significant milestone.  We are now in a position to evolve Atlanta to a point-to-point operation in fall 2013, similar to our other top ten Southwest cities.  This will allow our People to be substantially more productive through scheduling our aircraft, flight crews, and ground staff more constantly throughout the day.  Our November schedule (which will open next month) will offer our Atlanta Customers a wider selection of departure times throughout the day, with roughly the same number of daily departures.  We expect these changes will grow our local Atlanta traffic.

“We are enthused about planned initiatives for the remainder of the year.  Today, we are announcing details of a new No Show policy that will apply to Southwest reservations that include Wanna Get Away^® or DING!^® fares and are made on or after May 10, 2013, for travel on or after September 13, 2013.  The policy is intended to alter behavior, encouraging Customers to cancel unused nonrefundable fares prior to a flight’s departure, allowing us to better predict future inventory and reduce the number of empty seats on aircraft.  Also, later this quarter, we will implement phase one of our new revenue management system.

“While we continue to optimize our network and maintain a relatively flat fleet in 2013, we are also making excellent progress on our fleet modernization efforts.  Thus far this year, we have taken delivery of nine new Boeing 737-800s and two used Boeing 737-700s, retired three older Boeing 737-300s and one Boeing 737-500, and retrofitted more -700s with our new Evolve interior. As of
March 31, 2013, nearly 90 percent of the Southwest -700 fleet had the Evolve interior, and we expect to complete the remainder of the Southwest -700 retrofits in second quarter 2013.  Further, all of Southwest’s -800s and -700s are now equipped with WiFi technology.

“We began operating Southwest’s first scheduled service outside of the continental United States on April 14^th, with daily service to San Juan, Puerto Rico, from Orlando and Tampa Bay, Florida. These flights augment AirTran’s existing service between San Juan and Atlanta, Georgia; Baltimore/Washington; and Fort Lauderdale, Florida. Since the beginning of the year, Southwest has also launched service to Branson, Missouri; Charlotte, North Carolina; Flint, Michigan; Portland, Maine; and Rochester, New York.  We are excited about our growing network and opportunities ahead. Further, as part of the Dallas Love Field Modernization project, we reached a significant milestone at our hometown airport with the opening of 11 brand new Southwest gates and new concessions on April 16^th.  This impressive project is on budget and on track for full completion in second half 2014.

“Our balance sheet and liquidity remain strong with approximately $3.1 billion in cash and short-term investments at March 31, 2013.  Earlier this month, we replaced our $800 million revolving credit facility with a new $1 billion five-year revolving credit facility.  The $200 million increase enhances our liquidity and financial flexibility.  Despite the uncertainties surrounding the impact to travel demand from government sequestration and increased consumer taxes, we remain focused on our 2013 plan to achieve a 15 percent pre-tax return on invested capital.  In first quarter, we returned $115 million to our Shareholders through repurchasing $100 million of common stock (approximately 9 million shares) and distributing $15 million in dividends.”

No Show Policy

Southwest is implementing a No Show policy that applies to nonrefundable fares that are not canceled or changed by a Customer prior to a flight’s scheduled departure.  If a Customer has booked a nonrefundable fare anywhere in his/her itinerary and that portion of the flight is not used and not canceled or changed by the Customer prior to scheduled departure, all unused funds on the full itinerary will be lost, and the remaining reservation will be canceled. The policy applies to reservations made or changed on or after Friday, May 10, 2013, for travel on or after Friday, September 13, 2013. This policy does not apply to military fares, senior fares, or travel during certain irregular operations, including severe weather conditions.

The No Show policy will not impact Customers who simply cancel a Wanna Get Away or DING! fare prior to scheduled departure; in this case, Customers may reuse their funds toward future travel on Southwest, without a change fee, as they have always done. Customers who are traveling on a fully refundable itinerary that does not contain a Wanna Get Away or DING! fare will continue to have the option of either requesting a refund or holding funds for future travel.

Financial Results and Outlook

The Company’s total operating revenues in first quarter 2013 were $4.1 billion, compared to $4.0 billion in first quarter 2012.  Operating unit revenues increased 1.8 percent from first quarter 2012. Total first quarter 2013 operating expenses of $4.0 billion were comparable to first quarter 2012.  The Company incurred $13 million in special charges (before taxes) during the first quarters of 2013 and 2012 associated with the acquisition and integration of AirTran.  Cumulative costs associated with the acquisition and integration of AirTran, as of March 31, 2013, totaled $337 million (before profitsharing and taxes).  The Company expects total acquisition and integration costs to be no more than $550 million (before profitsharing and taxes). Excluding special items in the first quarters of 2013 and 2012, operating expenses were approximately $4.0 billion in both periods.

First quarter 2013 economic fuel costs, including fuel taxes, decreased 4.4 percent to $3.29 per gallon, compared to $3.44 per gallon in first quarter 2012.  The Company now has derivative contracts in place for approximately 95 percent of its estimated fuel consumption for the remainder of the year.  As of April 22^nd, the fair market value of the Company’s hedge portfolio through 2017 was a net liability of approximately $151 million, compared to a net asset of $200 million at March 31^st.  Additional information regarding the Company’s fuel derivative contracts is included in the accompanying tables.

First quarter 2013 profitsharing expense was $15 million, compared to no profitsharing expense in first quarter last year.  Excluding fuel, profitsharing, and special items in both periods, first quarter 2013 unit costs increased 2.8 percent from first quarter 2012, which was better than expected largely due to lower workers’ compensation claims, favorable airport settlements, and lower advertising expense. Based on current cost trends, the Company expects a similar year-over-year increase in its second quarter 2013 unit costs, excluding fuel, profitsharing, and special items in both periods.

Operating income for first quarter 2013 was $70 million, compared to $22 million in first quarter 2012.  Excluding special items, operating income was $112 million for first quarter 2013, compared to $10 million in first quarter 2012.

Other income for first quarter 2013 was $24 million, compared to $137 million in first quarter 2012.  This $113 million decrease primarily resulted from $46 million in gains recognized in first quarter 2013, compared to $170 million in gains in first quarter 2012.  In both periods, these gains primarily resulted from unrealized mark-to-market gains/losses associated with a portion of the Company’s fuel hedging portfolio, which are special items.  Excluding these special items, other losses were $5 million in first quarter 2013, compared to $6 million in first quarter 2012, primarily attributable to the premium costs associated with the Company’s fuel derivative contracts.  Second quarter 2013 premium costs related to fuel derivative contracts are currently estimated to be approximately $12 million, which is comparable to second quarter 2012.  Net interest expense declined to $22 million in first quarter 2013, compared to $33 million in first quarter 2012, primarily as a result of the Company’s repayment of its $385 million 6.5 percent notes in March 2012.

Net cash provided by operations was $983 million, and capital expenditures were $534 million, resulting in $449 million in free cash flow² in first quarter 2013.  The Company repaid approximately $164 million in debt and capital lease obligations during first quarter 2013, and intends to repay approximately $149 million in debt and capital lease obligations during the remainder of the year.  As of April 23^rd, the Company had approximately $3.2 billion in cash and short-term investments, and a fully available unsecured revolving credit line of $1 billion.

The Company’s return on invested capital (before taxes and excluding special items) was approximately 8 percent for the twelve months ended March 31, 2013.  Additional information regarding pre-tax return on invested capital is included in the accompanying reconciliation tables.

Southwest Airlines Awards and Recognitions

• Named seventh Most Admired Company in the world by FORTUNE Magazine
• Recognized as the top travel brand and fifth overall brand by The Business Journals in the American Brand Excellence Awards
• Named Domestic Carrier of the Year by the Airforwarders Association
• Named to the Airline of the Year list by the Express Delivery and Logistics Association
• Awarded the Air Cargo Excellence Diamond Award by Air Cargo World
• Named number one in Customer Service by the 2013 Airline Quality Ratings
• Recognized as one of the 2013 100 Best Corporate Citizens by CR Magazine
• Awarded the Grassroots Innovation Award for the Free Hobby Campaign by the Public Affairs Council

Copyright Photo: Brian McDonough/AirlinersGallery.com. Boeing 737-7H4 WL N240WN (msn 32503) with “Live in the Vineyard” promotional decal arrives at Baltimore/Washington.

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