Southwest Airlines 2013 Annual Report Download - page 93

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flyer program population for marketing/solicitation purposes on a monthly or quarterly basis, use of the
Company’s logo on co-branded credit cards, and other trademarks, designs, images, etc. of the Company for use
in marketing materials. This residual portion is recognized in Other revenue in the period earned, which the
Company has determined is the period in which it has fulfilled its obligation under the executed contract with the
particular business partner, which is on a monthly or quarterly basis, upon sale, as the related marketing services
are performed or provided. For all points sold to business partners that are expected to expire unused, the
Company recognizes spoilage in accordance with the redemption method. Southwest and AirTran’s consolidated
liability associated with the sale of frequent flyer points and/or flight credits, was approximately $1.1 billion as
of December 31, 2013. This liability is included as part of Air Traffic liability in the Company’s Consolidated
Balance Sheet, based on current expectations of redemption patterns over the next twelve months.
In March 2011, Southwest re-launched its Rapid Rewards frequent flyer program. As part of Southwest’s
transition to the current program, the Company did not convert members’ account balances under the previous
program, but allowed members to continue to redeem those balances for award travel under the prior program
rules for a period of time. The transition method used by the Company in moving members to the current
program resulted in no material changes in the Company’s estimation of its existing frequent flyer liabilities as of
the launch date. Although the current program is still relatively new and the Company does expect a reduction in
the amount of spoilage associated with points earned within the program compared to its previous program; thus
far, the impact of this expected reduction has not been material.
Advertising
Advertising costs are charged to expense as incurred. Advertising and promotions expense for the years
ended December 31, 2013, 2012, and 2011 was $208 million, $223 million, and $237 million, respectively, and
is included as a component of Other operating expense in the accompanying Consolidated Statement of Income.
Share-based Employee compensation
The Company has share-based compensation plans covering several of its Employee groups, including
plans covering the Company’s Board of Directors. The Company accounts for share-based compensation based
on its grant date fair value. See Note 14.
Financial derivative instruments
The Company accounts for financial derivative instruments at fair value and applies hedge accounting rules
where appropriate. The Company utilizes various derivative instruments, including jet fuel, crude oil, unleaded
gasoline, and heating oil-based derivatives, to attempt to reduce the risk of its exposure to jet fuel price increases.
These instruments consist primarily of purchased call options, collar structures, call spreads, and fixed-price
swap agreements, and upon proper qualification are accounted for as cash-flow hedges. The Company also has
interest rate swap agreements to convert a portion of its fixed-rate debt to floating rates and, including
instruments acquired from AirTran, has swap agreements that convert certain floating-rate debt to a fixed-rate.
These interest rate hedges are appropriately designated as either fair value hedges or as cash flow hedges.
Since the majority of the Company’s financial derivative instruments are not traded on a market exchange,
the Company estimates their fair values. Depending on the type of instrument, the values are determined by the
use of present value methods or option value models with assumptions about commodity prices based on those
observed in underlying markets. Also, since there is not a reliable forward market for jet fuel, the Company must
estimate the future prices of jet fuel in order to measure the effectiveness of the hedging instruments in offsetting
changes to those prices. Forward jet fuel prices are estimated through utilization of a statistical-based regression
equation with data from market forward prices of like commodities. This equation is then adjusted for certain
items, such as transportation costs, that are stated in the Company’s fuel purchasing contracts with its vendors.
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