Southwest Airlines 2005 Annual Report Download - page 55

SOUTHWEST AIRLINES CO.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Ì (Continued)
January 1, 2006, will reduce first quarter net earnings by requires that all elective accounting changes be made on
approximately $10 million ($.01 per share, diluted). a retrospective basis, resulting in the restatement of all
See Note 13 for further information on the Company's prior period financial statements presented. As such,
stock-based compensation plans. concurrent with the filing of the Company's first quarter
2006 Form 10-Q, the Company will restate prior period
Aircraft and Engine Maintenance results as a result of this change.
In first quarter 2006, the Company will begin 3. Acquisition of Certain Assets
transitioning the maintenance program for performing
planned airframe maintenance on its fleet of 737-300 In fourth quarter 2004, Southwest was selected as
and 737-500 aircraft. The previous program utilized the winning bidder at a bankruptcy-court approved
was a periodic ""hard time'' program, which required auction for certain ATA Airlines, Inc. (ATA) assets.
specific activities, including replacement of specified As part of the transaction, which was approved in
components, and D checks that were capitalized and December 2004, Southwest agreed to pay $40 million
amortized over the estimated period benefited. This for certain ATA assets, consisting of the leasehold
estimated period was the least of ten years, the next D rights to six of ATA's leased Chicago Midway Airport
check, or the remaining life of the aircraft (the MSG-2 gates and the rights to a leased aircraft maintenance
program.) The Company's new program for these hangar at Chicago Midway Airport. In addition, South-
aircraft is a ""top-down'' program, which requires more west provided ATA with $40 million in debtor-in-
frequent inspections in many cases, with repairs and possession financing while ATA remains in bankruptcy,
replacements performed when defects are detected and also guaranteed the repayment of an ATA construc-
rather than at stipulated intervals without regard to the tion loan to the City of Chicago for $7 million. As part
condition of the components (the ""MSG-3 program''). of this original transaction, Southwest also committed,
The MSG-3 program does not include D checks. upon ATA's emergence from bankruptcy, to convert
the debtor-in-possession financing to a term loan, paya-
Due to the change in the nature of the mainte-
ble over five years, and to invest $30 million in cash into
nance activities performed, the Company will change its
ATA convertible preferred stock.
method of accounting for scheduled airframe and in-
spection repairs for 737-300 and 737-500 aircraft from During fourth quarter 2005, ATA, although still
the deferral method to the direct expense method, in bankruptcy, entered into an agreement in which an
effective January 1, 2006. Under the direct expense investor, MatlinPatterson Global Opportunities Part-
method, the cost of scheduled airframe and inspection ners II (""MatlinPatterson'') would provide financing to
repairs is expensed as incurred. The Company believes enable ATA to emerge from bankruptcy in early 2006.
the direct expense method is preferable to its former As part of this transaction, Southwest entered into an
method because it more closely aligns with the nature of agreement with ATA to acquire the leasehold rights to
activities performed, it eliminates any judgment in de- four additional leased gates at Chicago Midway Airport
termining which costs should be deferred versus ex- in exchange for a $20 million reduction in the Com-
pensed, it matches the method currently utilized on the pany's debtor-in-possession loan. This resulted in a
Company's 737-700 fleet, and it is the predominant $20 million increase to intangible assets, classified in
method utilized for airframe maintenance in the airline Other assets, and a corresponding $20 million decrease
industry, particularly among the largest airlines. The in Accounts and other receivables on the Consolidated
remaining net unamortized balance of previously capi- Balance Sheet. Since this transaction was non-cash, it is
talized D checks in the Company's Consolidated Bal- not reflected in the Consolidated Statement of Cash
ance Sheet was a net asset of $216 million at Flows. Upon ATA's emergence from bankruptcy, it will
December 31, 2005. repay the remaining $20 million balance of the
The Company will record the change in account- debtor-in-possession financing, and will provide a letter
ing in accordance with Statement of Financial Account- of credit to support Southwest's obligation under the
ing Standards No. 154, Accounting Changes and Error construction loan to the City of Chicago. In addition, as
Corrections (SFAS 154), which is also effective for part of the 2005 agreement, Southwest has also been
calendar year companies on January 1, 2006. SFAS 154 relieved of its commitment to purchase ATA converti-
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