Southwest Airlines 2004 Annual Report Download - page 3

2Southwest Airlines Co. 2004 Annual Report
To Our Shareholders:
In 2004, Southwest Airlines recorded its 32nd consecutive
year of profitability, which, we believe, is a record unmatched
in the history of the commercial airline industry.
Our 2004 profit of $313 million (or $.38 per diluted share)
exceeded our 2003 profit (excluding a special federal government
allowance to the airline industry) of $298 million (or $.36 per
diluted share) by 5.0 percent.
In fourth quarter 2004, we experienced the unit revenue
decline (revenue per available seat mile) that we warned
about in our third quarter 2004 earnings press release. This
decline was accompanied by an increase of 20.1 percent, net
of fuel hedging gains, in our jet fuel price per gallon. Primarily
as a consequence of these two items, our fourth quarter 2004
earnings of $56 million (or $.07 per diluted share) were
$10 million, or 15.2 percent, less than our fourth quarter 2003
earnings of $66 million (or $.08 per diluted share).
That this diminution in fourth quarter earnings was principally
attributable to intense downward revenue pressures and to
significantly enhanced jet fuel prices is evidenced by the fact
that our costs per available seat mile, excluding fuel, declined
by 4.5 percent, primarily as the result of enhanced productivity.
Since depressed available seat mile yields and higher jet
fuel prices were the primary causes of our year over year
decline in fourth quarter 2004 earnings, what is the present
status of these two earnings variables at the commencement
of first quarter 2005?
First, with respect to unit yields, our industry continues to
expand available domestic seat miles and, as a consequence,
charge ever lower fares in order to fill excess seats. This
“oversupply” of industry “product,” at present depressed levels
of uninduced passenger demand, is aided and abetted by
Chapter 11 airline bankruptcy access as well as extraordinary
government and vendor “subsidies” for failing airlines, which
together contravene the free enterprise “law” of supply and
demand. As a matter of economic doctrine, not allowing high-cost
carriers to cease operations enables the continuing sale of
ever more seat miles at less than the cost of producing them.
Based on recent events, we presently expect this condition
of “oversupply” to persist in first quarter 2005, alleviated, to
some extent, by the fact that the Easter Holiday falls in March
of 2005, as compared to April in 2004, and by the cost-efficient,
somewhat enhanced revenue stream we expect from our
recent codesharing agreement with ATA Airlines.
Second, with respect to our jet fuel costs, we are presently
protected better than any major domestic carrier. For the
entirety of 2005, we are 85 percent hedged with prices
capped at the equivalent of $26 per barrel of crude oil.
Nonetheless, because prices are presently so high on the
15 percent unhedged portion of our anticipated requirements
and because oil refinery spreads for converting crude oil to
jet fuel (there is no futures market for refined jet fuel) are
unusually high, we currently anticipate, if these market
conditions persist, that our first quarter 2005 jet fuel prices
will exceed our average fourth quarter 2004 jet fuel cost of
89.1 cents per gallon.
In December 2004, we were successful in completing a
significant transaction with ATA Airlines in its Chapter 11
bankruptcy proceeding. We acquired the rights to six additional
gates at Chicago’s Midway Airport, which will soon be fully
utilized by added Southwest flights, and a much needed six-bay
Midway Airport maintenance hangar. In addition, we agreed
to begin codesharing flights with ATA Airlines on February 4,
2005, initially exchanging single-ticketed passengers only at
the convenient Midway Airport connecting point between our
two airlines, with a limited number of other connecting points
to be subsequently added as our respective ground facilities
permit. We are, at this writing, already booking codeshare
passengers on our respective codesharing flights, and, as
mentioned above, we expect this new relationship to augment
our first quarter 2005 revenue stream during most of
February and all of March.
In May 2004, we entered the Philadelphia market, and
by March 2005, we will be providing nonstop service to
18 cities from Philadelphia, where our reception has been both
heartwarming and enormously enthusiastic.
In May of this year, we will begin service to Pittsburgh,
which we view as a very promising opportunity since
US Airways has so drastically reduced its service to the
Pittsburgh area, in effect disassembling its Pittsburgh hub.
Our routes and fares out of Pittsburgh will not be
announced until later in the first quarter, but again, the
disclosure of our service plan engendered an enthusiastic
reception and welcome.
Our financial strength, cost consciousness, and dedicated
People support our reception of a net 29 new Boeing 737-700s
in 2005 and our available seat mile expansion of approximately
ten percent during the year.
We are confident that our People’s awareness of the
debilitated condition of the domestic airline industry as a
whole and their valorous, wise, energetic, and stouthearted
response will enable us to continue as an industry leading
carrier providing unprecedented job security, profitsharing,
and wellbeing to all of our Employees. Southwest was recently
named “Best Low-Cost Carrier” by Business Traveler magazine,
which is a tribute to our People’s warm, caring Customer
Service (to each other and to our passengers) and to the high
quality, low-fare service ideal that we embody and continue to
pursue with rigorous vigor.
To all the People of Southwest Airlines, we say a united
“thank you.”
January 19, 2005
Most sincerely,