SOUTHWEST AIRLINES CO.

Strategic Issue

Southwest Airlines has never deviated from its niche: short-haul, high
frequency, low-fare service, all delivered with award-winning customer
service.1

-- Herbert D. Kelleher, Chairman, President, and CEO

Southwest's current strategy is to position itself as a cost leader with a focus strategy. The
company’s management and employees aim to cost-effectively and reliably fly large
number of customers on short, non-stop flights, and to have fun doing it. They are
devoted to making flying available to everyone. The company has been successful in
implementing this strategy, having experienced strong growth and profitability.
Southwest is now the largest carrier in the U.S. in total customers. It has operated
profitably for 32 consecutive years in an industry with a volatile earnings history. The
main strategic issue facing Southwest at this time is to evaluate this strategy and
determine its future course of action.

SWOT Analysis

An evaluation of the internal strengths and weaknesses, and the external opportunities
and threats--based on the case study and additional references--is as follows:

Strengths

1. Southwest has successfully adopted a cost leadership strategy.

• Southwest maintains operating expenses per available seat mile at 15-20% below
average.
• The company has no baggage handling, no meals, no central reservations, and no
assigned seats.
• Because all of its planes are Boeing 737s, maintenance, turnaround, and training
costs are contained.
• The company has embraced technology that will reduce costs (e.g., ticketless
travel).

2. The company has a reputation for great customer service.

• Southwest won the Department of Transportation’s Triple Crown 5 years
consecutively for ontime service, baggage handling, and least number of customer
complaints.
• The company has topped the National Airline Quality Rating three years
consecutively.

3. The company has a strong, fun-loving, employee-oriented culture. The company's

mission statement focuses on these aspects of the business. The result is a loyal
employee base that is willing to work hard to achieve the company's goals.

• Culture begins with strong leadership. CEO Herb Kelleher is known for his
relaxed management style.
• Southwest was voted one of the "100 Best Companies to Work For in America"
by Fortune magazine.
• Southwest implemented programs to retain employees, including the first profit
sharing plan in the industry and a 401k plan that matches contributions dollar for
dollar.
• Although 84% of the workforce is unionized, they share responsibilities (e.g.,
pilots handling baggage) and have flexible work schedules.
• Southwest shares information with all levels of employees so that they understand
the company’s goals.

4. The company is in a strong financial position. Southwest has consistently

generated a profit for 32 consecutive years.

• It was even profitable in the years 1990-1992 when no other major airline had net
income.
• Southwest has the highest credit rating from Standard & Poor's in the airline
industry.
• The company has grown sales by 12.1% and 18.6% in 2006 and 2005,
respectively.
• Net income has grown 13.53% and 53.26% in 2006 and 2005, respectively.
• The company has excess debt capacity, evidenced by its long-term debt to equity
ratio of 0.31, to take advantage of opportunities.

5. The company's growth has been steady and planned. Southwest enters new
markets only when they can achieve frequent flights.
6. The company's marketing focuses on its low prices and fun culture.

Weaknesses

1. The company's mission statement is weak. Although there appears to be clear

communication of the company's goals, the mission statement doesn't even
mention what industry Southwest is in.
2. Southwest's competitors are offering shuttle services that compete directly with
the company. They are also operating, investing in, and forming alliances with
regional carriers.
3. As the result of its steady, planned growth strategy, Southwest flies to only 62
cities. There are numerous untapped domestic markets.
4. Pilot and Flight Attendant Unions have increased salary and benefit packages to
be the highest in the industry. Continued increases in Seat cost per Mile will not
allow Southwest to remain a low fare carrier.

Opportunities

1. There are opportunities for expansion to new markets.

• More than 100 new cities have encouraged Southwest to fly to them.
• The new Boeing 737-700 has the ability to fly longer distances non-stop, which
may change the definition of "short haul".
• Enplanements for regional carriers are expected to increase 200% from 1996 to
2008.

2. Demographic trends appear favorable to an airline focusing on price and

reliability.

• The consumer continues to seek convenience and time savings. Flying, rather than
driving, will meet that need if the price is right and the airline is reliable.
• The aging of the US population results in more interest in leisure travel.

3. The competition is looking to international, rather than domestic markets, for

growth opportunities.

• International enplanements are projected to be up 2X from 1996 to 2008.

• Decreased government control in Europe and Asia has led to increased
competition in these markets..
•
4. Improved computer technology will allow more ticketless transactions and
reservations made by PC.
5. There are barriers to entry for other competitors in the airline industry.

• A large capital investment is needed to begin operations.

• Existing airlines launch counterattacks such as significantly lowering fares in
response to new competitors.
Threats

1. Southwest's ability to hold the line on costs will impact its cost leadership
position.

• The largest cost component (36.9% of expenses) is labor. This cost could be
impacted by union actions, which cover 84% of Southwest's workforce.
• The second largest cost component is fuel (11.2%), which could be negatively
impacted by economic or political events.

2. Government regulation could hinder Southwest's ability to control costs, control

fares, or enter new markets.

• Recent government crackdown on safety (e.g., insulation, cargo fire detection)

means costly retrofits.
• Proposed re-regulation would limit existing firm's ability to respond to
underpricing by new companies.
• Prior to deregulation in 1978, carriers were limited in their ability to enter new
markets.
• The government recently proposed an increase in facility tax rates, which would
have resulted in higher costs.

3. Improved telecommunications may lower demand for air travel, or may lower
demand for "discount" airlines.

• E-mail and teleconferencing can result in less need to travel.

• Consumers may demand "personal" technology on planes, such as movies,
phones, games, etc.

4. Alternative forms of transportation, such as a high-speed railway, could weaken

demand for air travel. Also, if the economy weakens, people may choose to drive
rather than fly.
5. The consolidation in the industry--where large carriers buy competitors and
regionals--enables them to gain access to markets without investing in aircraft or
employees.
6. Southwest would be hurt if the public perception were that low price equates to
low quality. An incident like the ValuJet crash could reinforce this perception.

Recommended Strategy
Southwest Airlines strategy has been successfully implemented, and the above SWOT
analysis does not indicate that a major shift in strategy should be made at this time. They
should continue utilizing a cost leadership strategy to underprice competitors and gain
market share. This strategy has not only resulted in increased market share, but has also
increased overall demand for air travel. Southwest should continue its market
development strategy, focusing domestically. There are numerous untapped markets in
the U.S., many of which are actively seeking Southwest's presence. Additionally,
competitors are now focusing on foreign markets, and deregulation there could result in
price wars and increased competition.

In expanding domestically, Southwest should continue its focus strategy of providing

frequent, "point to point" flights. The expansion into new cities should be at a moderate
pace to ensure adequate coverage of new markets. Ideal new cities will allow for non-
stop flights. As the range of the aircraft expands, the potential markets will also expand.

Southwest should strengthen its mission statement--simply by writing it down. The

employees' commitment to action described in the case indicates that the mission of the
airline is clear: to be a low-price, frequent flight, short haul, reliable carrier. However,
this is not evident by reading the mission statement. Still, Southwest should avoid
creating too formal a mission statement, which would be at odds with its culture.

Southwest should continue to embrace new technologies such as ticketless travel and PC
reservations. New technology also includes a commitment to new aircraft, which will
result in a young, safe fleet of jets with longer range. All of these new technologies will
permit Southwest to contain costs, to expand to more markets, and to maintain its image
as a safe and reliable carrier.

And finally, Southwest should continue to foster its remarkable culture. The company's
fun-loving attitude and dedication to its employees have contributed both tangible and
intangible benefits. It is a true competitive advantage.

Update

• Net income for 2006 was $587.4 million, an increase of 16.40% over 2005.
• Net profit margin was 10.41% vs. 2005's 8.33% and an industry average of
7.35%.
• Return on assets is estimated at 9.77% vs. 2005's 7.48% and an industry average
of 7.45%.

The continued growth in sales and net income reflect the ongoing steady growth into new
markets. The company now serves 62 cities in 26 states. The company has added flights
to and from Islip, New York. From this base, they have been able to test non-stop flights
from New York to Los Angeles due to the new Boeing 737-700's abilities. The company
has also continued to pursue technology such as ticketless travel, available on its Web
site. In summary, Southwest has maintained its successful course.
References

Air Transport Association, [online] http://www.air-transport.org.

David, Fred R., Strategic Management: Concepts & Cases (7th edition). Upper Saddle
River, NJ: Prentice Hall, Inc., 1999.

Edgar Online, [online] http://www.edgar-online.com

"'Irreverent' Air CEO Speaks". CNNfn Online, [online] http://www.cnnfn.com.

Johnson, Cynthia. "Industry Snapshot: Airline". Hoover's Online, [online]

http://www.hoovers.com.

Market Guide, [online] http://yahoo.marketguide.com.

Southwest Airlines Co., [online] http://www.iflyswa.com.

"Southwest: Circling Giants?". CNNfn Online, [online] http://www.cnnfn.com.

Endnotes
1
"'Irreverent' Air CEO Speaks". CNNfn Online, [online] http://www.cnnfn.com.