Southwest Airlines 2011 Annual Report Download - page 30

Download and view the complete annual report

Please find page 30 of the 2011 Southwest Airlines annual report below. You can navigate through the pages in the report by either clicking on the pages listed below, or by using the keyword search tool below to find specific information within the annual report.

Page out of 141

  • 1
  • 2
  • 3
  • 4
  • 5
  • 6
  • 7
  • 8
  • 9
  • 10
  • 11
  • 12
  • 13
  • 14
  • 15
  • 16
  • 17
  • 18
  • 19
  • 20
  • 21
  • 22
  • 23
  • 24
  • 25
  • 26
  • 27
  • 28
  • 29
  • 30
  • 31
  • 32
  • 33
  • 34
  • 35
  • 36
  • 37
  • 38
  • 39
  • 40
  • 41
  • 42
  • 43
  • 44
  • 45
  • 46
  • 47
  • 48
  • 49
  • 50
  • 51
  • 52
  • 53
  • 54
  • 55
  • 56
  • 57
  • 58
  • 59
  • 60
  • 61
  • 62
  • 63
  • 64
  • 65
  • 66
  • 67
  • 68
  • 69
  • 70
  • 71
  • 72
  • 73
  • 74
  • 75
  • 76
  • 77
  • 78
  • 79
  • 80
  • 81
  • 82
  • 83
  • 84
  • 85
  • 86
  • 87
  • 88
  • 89
  • 90
  • 91
  • 92
  • 93
  • 94
  • 95
  • 96
  • 97
  • 98
  • 99
  • 100
  • 101
  • 102
  • 103
  • 104
  • 105
  • 106
  • 107
  • 108
  • 109
  • 110
  • 111
  • 112
  • 113
  • 114
  • 115
  • 116
  • 117
  • 118
  • 119
  • 120
  • 121
  • 122
  • 123
  • 124
  • 125
  • 126
  • 127
  • 128
  • 129
  • 130
  • 131
  • 132
  • 133
  • 134
  • 135
  • 136
  • 137
  • 138
  • 139
  • 140
  • 141

energy prices can fluctuate significantly in a relatively short amount of time, the Company is subject to the risk
that the fuel derivatives it uses will not provide adequate protection against significant increases in fuel prices. In
addition, the Company is subject to the risk that its fuel derivatives will not be effective or that they will no
longer qualify for hedge accounting under applicable accounting standards. For example, the majority of the fuel
derivatives in the Company’s hedge portfolio are based on the market price of West Texas intermediate crude oil
(WTI). In recent periods, however, the spread between WTI and jet fuel has not followed historic norms, which
has led to more of the Company’s fuel hedges being ineffective. Therefore, adjustments in the Company’s overall
fuel hedging strategy, as well as the ability of the commodities used in fuel hedging (principally crude oil,
heating oil, and unleaded gasoline) to qualify for special hedge accounting, are likely to continue to affect the
Company’s results of operations. In addition, there can be no assurance that the Company will be able to cost-
effectively hedge against increases in fuel prices. The Company’s fuel hedging arrangements and the impact of
hedge accounting on the Company’s results of operations are discussed in more detail under “Management’s
Discussion and Analysis of Financial Condition and Results of Operations” and in Note 10 to the Consolidated
Financial Statements.
The Company may be unable to successfully integrate AirTran’s business and realize the anticipated
benefits of its acquisition of AirTran. In addition, delays in integration could cause anticipated synergies to
take longer than anticipated to realize.
Risk factors associated with the Company’s acquisition and integration of AirTran are discussed below
under “Risk Factors Related to the Company’s Acquisition and Integration of AirTran.”
The airline industry is particularly sensitive to changes in economic conditions; an increase in unfavorable
economic conditions or continued economic uncertainty could negatively affect the Company’s results of
operations.
The airline industry, which is subject to relatively high fixed costs and highly variable and unpredictable
demand, is particularly sensitive to changes in economic conditions. Unfavorable U.S. economic conditions have
historically driven changes in travel patterns and have resulted in reduced spending for both leisure and business
travel. For some consumers, leisure travel is an expendable discretionary expense, and short-haul travelers have
the option to replace air travel with surface travel. Businesses are able to forego air travel by using
communication alternatives such as videoconferencing and the Internet or may be more likely to purchase less
expensive tickets to reduce costs, which can result in a decrease in average revenue per seat. Unfavorable
economic conditions also hamper the ability of airlines to raise fares to counteract increased fuel, labor, and other
costs. The Company continues to face economic uncertainty, and the weakened state of the U.S. and global
economy could continue for an extended period of time. Continued unfavorable or even uncertain economic
conditions could negatively affect the Company’s results of operations and could cause the Company to adjust its
business strategies.
The Company’s low-cost structure is one of its primary competitive advantages, and many factors could
affect the Company’s ability to control its costs.
The Company’s low-cost structure has historically been one of its primary competitive advantages, as it
has enabled Southwest to offer low fares, drive traffic volume, and grow market share. The Company’s low-cost
structure has become increasingly important as a result of the Company’s decision to control capacity growth in
response to high fuel prices and uncertain economic conditions. While the Company has in the past been able to
cover increasing costs through growth, the combination of capacity control and increasing costs has contributed
to an increase in the Company’s costs per available seat mile. This, along with other factors discussed below, has
contributed to a narrowing in the cost gap between the Company and some of its competitors.
The Company has limited control over fuel and labor costs, as well as other costs such as regulatory
compliance costs and aircraft airframe and engine repairs expense. Jet fuel and oil constituted approximately 38
percent of the Company’s operating expenses during 2011, and the cost of fuel is subject to the external factors
discussed in the first Risk Factor above. Salaries, wages, and benefits constituted approximately 29 percent of the
24