Read the case study "Southwest Airlines," found in Part 2 of your textbook. Review the "Guide to Case Analysis" found on pp. CA1 - CA11 of your textbook. (This guide follows the last case in the textbook.) Use the Case Study Format as described in the "Guide to Case Analysis" to complete a written case analysis for "Southwest Airlines." Ensure your case analysis is in APA format. NOTE: A complete analysis should include a summary of the case, a SWOT analysis, a financial analysis, identification of strategic issues and challenges, and a strategic plan. You must support your case analysis with at least 3 sources in addition to the textbook. CASE STUDY: Southwest Airlines (SWA) is the first successful low-cost carrier in USA. From its inception, Southwest had followed a low-cost/low-price/no-frills strategy. It engaged a comparatively modest fare structure, with all of the fare options clearly exhibited at the company’s website. The lowest fares were customarily nonrefundable but could be applied to future travel on Southwest sans acquiring a change fee. In November 2007, Southwest introduced a innovative Business Select fare to appeal to economy-minded business trav­elers; Business Select customers get early boarding privileges, earn extra Rapid Rewards (frequent flyer credits), and a free alcoholic beverage. In 2008, competitor airlines inaugurated a succession of extra charges such as, a fuel surcharge, for checking bags, for processing frequent flyer travel awards, for buying a ticket in person or calling a toll-free number to speak with a ticket agent to make a reservation, for changing a previously purchased ticket to a different flight, and for in-flight snacks and beverages , for pillow or blankets, for overhead bin space, all al­legedly to help defray skyrocketing costs for jet fuel (which had climbed from about 15 percent of operating ex­penses in 2000 to 40 percent of operating expenses in mid-2008). Southwest, however, elected to decline à la carte pricing and stayed with an all-inclusive fare price structure. Southwest has made a consistent practice of instigating special ticket price campaigns to encourage ticket sales on flights that otherwise would have had plentiful unoccupied seats. For example, the company had used price sales to battle slower travel times throughout much of the recession of 2008–2009. In 2009, Southwest initiated an advertising campaign entitled “Bags Fly Free” to broadcast the cost saving advantages of flying Southwest rather than paying the $20 to $50 fees rival airlines charged for baggage. The collective consequence of Southwest’s “Bags Fly Free” campaign and strategic fare deals resulted in record load factors for the second half of 2009. (A load factor is the percentage of all available seats on all flights occupied by fare-paying passengers.) In September 2010, Southwest proclaimed it had entered into a definitive agreement to buy all of the outstanding common stock of AirTran Holdings, Inc. the parent company of AirTran Airways (AirTran), for a mixture of cash and Southwests’ common stock. The transaction was valued at about $1.4 billion; Southwest intended to fund approximately $670 of the acquisition cost with cash on hand. For the year ending June 30, 2010, AirTran had revenues of $2.5 billion and operating income (excluding special items) of $128 million. AirTran was also a low-fare, low-cost airline. AirTran served 70 airports in the United States, Mexico, and the Caribbean; nineteen of these coincided with airports already served by Southwest. AirTran’s hub was Atlanta’s Hartsfield-Jackson International Airport, the busiest airport in the United States and the largest domestic airport not served by Southwest; AirTran had 202 daily departures out of Atlanta. Some analysts believed that Southwest’s entry into the Atlanta market alone could translate into 2 million additional passengers for Southwest annually. AirTran had 8,033 employees, 138 aircraft, and 177 nonstop routes; in 2009 AirTran transported 24.0 million passengers, the seventh largest number of all U.S. airlines. The combined organization would have nearly 43,000 employees and transport more than 100 million passengers annually. The joined carriers’ all-Boeing fleet comprises 685 active aircraft including 401 Boeing 737-700s, 173 Boeing 737-300s, 25 Boeing 737-500s, and 86 Boeing 717s, with an average age of approximately 10 years, one of the youngest fleets in the industry. The companies set the merger deal close date for early 2011 and then begin integration of AirTran into the Southwest Airlines brand—a process which Southwest management said might take as long as two years in order to maintain Southwest’s standards for customer service. Advance purchase requirements on tickets were more lenient than those of its rivals. SWA has drawn a lot of attention over the past couple of decades as a thriving company in the midst of an otherwise sluggish and seldom profitable industry. The difference, for SWA, is it simply does things differently.The nation's largest domestic carrier just marked its 40th straight profitable year (2013), an unmatched feat in a time of economic turbulence, fluctuating fuel prices and airline bankruptcies. It did so by undercutting the competition with no-frills flights and, in the process, building an army of budget-minded fans. Now many of those longtime customers say the Dallas-based carrier that calls itself LUV airlines has been losing their love since it recently began to shift its focus away from low fares and friendly service toward swelling its bottom line. Among the changes that critics say highlight is SWA's new profit-boosting attitude: It cut the legroom on many planes to fit more seats, retooled its frequent flier program to make passengers spend more money to collect points and adopted new fees to board early. SWA is still the country's only major airline to waive fees for the first two checked bags. It also ranks high in on-time performance. But even airline officials conceded SWA had to find new ways to make money to compete. "Yes, we have to keep up with the times and, yes, we have to change," said Whitney Eichinger, a spokeswoman for the airline. "But the truth is that SWA remains a maverick in the industry." "Southwest is in the middle between customers who are very sensitive to higher fares and investors, on the other hand, complaining the airline is not doing enough," said Seth Kaplan, a managing partner at Airlines Weekly, a trade publication. With the economy rebounding and demand for air travel still relatively strong, airline industry experts say now is the best time for SWA to test new moneymaking ideas without risking the loss of too many loyal fans. However, SWA officials said the bags-fly-free policy is probably responsible for increasing SWA's market share about 2% since 2008 and generates up to $1 billion annually. To further expand its customer base, SWA announced a $1.4-billion deal in 2010 to acquire Orlando, Fla.-based AirTran Airways. But before we get too far ahead of ourselves we need to address the two problematic situations that have occurred for SWA since the Air Trans takeover which was to some extent associated to the new leadership management appointed in 2001. These dramatic changes have created difficulties in the SWA’s culture, along with the increasing costs in fuel and wages. These problems have also increased in proportion with the expansion of SWA business. The following briefly presents the case of SWA and highlights some important facts about their status. While reading this case take your time to investigate and analyze SWA’s strategy fits and the external and internal environments and where current actions are beginning to stray from the strategic fits that collectively created the SWA competitive advantage. Consider in your live analysis (while reading the case) how SWA achieved a competitive advantage and how today its action threaten to destroy the competitive advantage the company spent forty years building, honing and executing. FINANCIALS Condensed Consolidated Balance page 23 Condensed Consolidated Statements of Operations page 24 Condensed Consolidated Cash Flows page 25 Return on Invested Capital page 27 Gary C. Kelly, Chairman of the Board, President, and Chief Executive Officer, stated, "2012 was a year of tremendous progress. Our profits (excluding special items) of $417 million grew 26 percent as compared to 2011 and represented our 40th consecutive year of profitability. Without a doubt, this is a remarkable feat and a record unmatched in the airline industry. These solid earnings were achieved despite significant efforts and costs related to critical strategic initiatives. These initiatives contributed to the 49 percent surge in our cash flow from operations to $2.1 billion. SWA ended the year with fourth quarter profits (excluding special items) of $65 million, which was in line with year ago performance. "Our fourth quarter 2012 operating revenues were a fourth quarter record $4.2 billion, bringing full year 2012 operating revenues to more than $17 billion. Our strong fourth quarter 2012 operating revenue performance was driven by record yields, continued high load factors, and an impressive freight revenue performance. As with the full year profits, these strong revenues were achieved despite the transitional state of the AirTran route network,” Kelly stated. While we continue to transform our Company with a bold five-year strategic plan that began in 2011, we remain committed to the pillars of our success—outstanding Customer Service; safe, reliable, and efficient operations; and low costs. We realized $142 million of net, annualized, pre-tax Air Trans synergies during 2012, and we expect to achieve our $400 million target in 2013 (excluding acquisition and integration expenses). "We believe in our strategic plan. And, the outstanding efforts, commitment, and dedication of our People exhibited in 2012 gives me confidence in our ability to successfully execute this plan. The year 2012 was a year of dramatic accomplishments that I believe positions us to be stronger than ever." Notable 2012 accomplishments for Southwest Airlines include: 40th consecutive year of profitability 83.1 percent On time Performance Recognized with numerous awards and recognitions, most notably being named Customer Service Champions by JD Powers, included in the 2012 Customer Service Hall of Fame by MSN Money, and named one of America's Top 500 Companies by Barrons Received Single Operating Certificate in March 2012; ten months after AirTran acquisition close Launched 737-800 operations in March (34 aircraft currently in service) Converted 259 Southwest 737-700s to new 143-seat Evolve configuration (including progress thus far in 2013) Continued equipping aircraft with satellite-based WiFi technology, reaching the 400th installation in January 2013 (including AirTran conversions) Earned flag status and began selling service to Puerto Rico (to be launched April 2013) Launched Southwest service to Atlanta, Akron-Canton, and Dayton Received slots at Ronald Reagan Washington National Airport and began service Launched AirTran service to Austin, Orange County, Mexico City, and Cabo San Lucas Discontinued AirTran service to 14 airports Resolved all seniority list integrations Converted 11 AirTran 737-700s to the Southwest livery with Evolve configuration Converted four AirTran stations to Southwest: Seattle, Dulles, Des Moines, and Key West Announced plans to convert seven more AirTran stations in 2013: Phoenix, Branson, Charlotte, Flint, Portland (Maine), Rochester, and Wichita Converted 26 percent of the AirTran workforce to Southwest Harmonized all Customer policies between Southwest & AirTran Opened new Pilot and Flight Attendant crew bases at Denver International Airport Selected Amadeus for International Reservation system for 2014 implementation Completed 717 sublease/lease deal with Delta Received Houston City Council approval for Hobby international terminal Deferred $1 billion in capital spending Returned $422 million to Shareholders through repurchasing $400 million of common stock (approximately 46 million shares) and distributing $22 million in dividends CASE PROBLEM SWA has enjoyed a growing market leadership role in the airline industry for forty years. However, beginning with leadership changes that occurred in 2001 when Herb Kelleher promoted two of his close aids for leadership positions; Colleen C. Barette, Vice-presidents for customers, promoted to be the president and chief operating officer, and James F. Parker, general counsel promoted to be the chief executive officer strategy fit has been eroding. Additionally since the leadership change the company has engaged in a path of actions that have produced radical change in the organizational cultural and the company’s operational methodology. Instead of working at teamwork, there has been increasing distance between employees, managers and top management. southwest value COMPANY CULTURE Before the changes, top management was very close to its employees and personally contacted them and celebrated their birthdays and events. After beloved Herb Kelleher resigned in 2008 he was subsequently escorted out of an annual meeting for voicing his strong disapproval of management’s new philosophies. Traditionally, SWA employees were some of the happiest around, thanks to the company's founder Herb Kelleher, who believed in an "employees come first" approach to business. Motivated employees create happy customers, which in turn please shareholders. The employees took pride in the jovial culture and camaraderie - but of late they seem to feel that their enthusiasm is under-appreciated and exploited, really, by headquarters. Less friendly are the memos like the one issued earlier in the year, regarding the company's notorious January meltdown on Chicago's snowy runways. Company representatives issued a notice telling employees that anyone who called in sick during a period of unusually high nonattendance without providing a doctor’s note could face disciplinary action, “up to termination”. Thorny union negotiations - the first difficult ones in the company's history - have made employees wonder if its Dallas-based executives are economizing at the expense of employee wages and happiness, drawing $805m in record profits for the company last year while salaries stagnate and pay increases languish. Since the latest contract became amendable in June 2011, however, the two parties have been deadlocked in exceptionally tense negotiations. Local 555 president Charles Cerf thinks he knows the reason for the delay: the Southwest's push to reduce its number of "career jobs" and make part-time workers 40% of the company's workforce. For now, workers remain protected by the old union agreement – but there are drawbacks. Until a new contract is signed, for instance, senior employees – those who've been with the company for 11 years or more – are stuck with stagnant salaries. Meanwhile over the last two years SWA employees are seeing their CEO collect millions in salary and bonuses. SWA on Friday April 5, 2013 became the latest airline to file its proxy statement, which states chairman and CEO Gary Kelly had total income of $4,031,359 in 2012. The majority is in stock awards. Breaking that down, it includes $675,000 in base salary; $961,000 in bonus; $2,250,008 in stock awards; $15,549 in deferred compensation; and $129,802 in all other compensation. That last number included $46,836 in other deferred compensation and $47,284 for home security. By comparison, Kelly had total compensation of $3,516,201 in 2011: $648,750 in base salary, $925,000 in bonus, $1,840,500 in stock awards, $9,014 in deferred compensation and $92,937 in all other compensation. Other things are mystified SWA employees’ such as when their CEO recently flew into San Diego and deplaned from a competing airlines aircraft. Or the software program called Crew Maximizer has schedulers breaking what employees feel are union agreements by rescheduling or rerouting line flight attendants (flight attendants who bid and won scheduled flights through the companies normal and customary intranet bidding system) when stand by attendants (attendants purposely and regularly schedule to sit and wait at airports for on call duty or attendants at home on three hour notification to be at the airport when called) are supposed to be used. SWA may have forfeited its role as the disruptor of the airline industry. For more than 40 years, SWA has been an innovator, with its low operating costs, its dominance at smaller airports and its humorous customer service. This month (9/2014), it’s marking two milestones — its integration of AirTran and its introduction of international flights — with an updated logo and the mantra New look- Same heart. However, after the changes (managements personal philosophies and the Air Tran acquisition), keeping in close touch with personnel has become an increasingly challenging task for the new leaders. Furthermore, unions have played a great role in the game and have become more aggressive in expressing their frustration. Employees’ uttered new management spends too much time in the back offices of SWA while managers uttered the feeling their organization culture is at risk because of the actions taken by SWA's new management during negotiation with Unions which include merging the Air Tran employees into the SWA family and culture. There are signs SWA’s heart has strayed. A recent report noted SWA is no longer the low-cost leader, as competitors have streamlined through bankruptcy proceedings. Now Southwest is wrestling with tense labor negotiations similar to those that have long plagued its rivals. SWA is experiencing cost increasing in fuel and wages (although as of October 2014 prices are falling and not considered in this case). For example, the cost per average seat mile (ASM) went up from 7.07 cents in 1995 to 8.8 cents in 2006. Most of SWA's customers make reservations online (71.2 %) and the labor cost advantaging is narrowing between major airlines after restructuring, the new management expressed further cost reductions are very difficult and only could be achieved through employee layoffs. This solution for the new management is directly contradicting SWA culture. SWA’s challenges are familiar to any management team who is trying to direct a core business while preparing for a playing field that may look very different from today’s world. Amid intense competition, any lack of focus will be exploited by rivals or interpreted as neglect by existing customers. One must execute ongoing operations with excellence and deliver on current brand promise. At the same time, if the organization is not disrupting its industry, the likelihood of being disrupted is ever present. New management faces growing competition in the low-fare segment as most other airlines have attempted to copy SWA’s business model (this is where strategic fit is so important). Competitors are restructuring and attempting to adapt to SWA’s model to attract customers. For example, they use leather seats and in-flight entertainment system for almost the same fare. For years after SWA’s great growth and increasing profitability (the only airline to be profitable in most years) deposited SWA among the top five corporations in USA, company management now questions whether loyal customers would still stick with the airline when they could get more value for their money elsewhere (or can they?). plane 1 plane 2 STRATEGIC ANALYSIS OF THE CASE SWA has grown from a small Texas carrier in 1971 to the nation’s fourth largest airline. Before experiencing the leadership changes, SWA was very successful and competitive firm that rated on the top of five companies in USA SWA clearly defines its existing purposes to provide the lowest fares for business and leisure travelers traveling between states. Instead of competing with large-scale airlines to fly international routes, SWA focused on point-to-point interstate short trips, and more on maximizing the profitability than focusing on market share. This strong vision until 2014 has outweighed the allurement of international flight market, keeping SWA concentrated on its own niche to gain profit until the acquisition of Air Trans. SWA started international flights in 2014. chart COST CONSCIOUSNESS A key component of providing the highest quality of Customer Service and a stable work environment is low fares. In order to keep their fares low Southwest airlines must keep their costs low. SWA has been dedicated to finding ways to lower their costs and increase their productivity and quality. For example, other airlines have separate ground crews who board the planes to restock supplies and clean the plane between flights. SWA flight attendants in the C position (the attendant who cares for the passengers in the middle of the plane, as opposed to the A position in the front of the plane or the B position in the back of the plane) and on occasion the A and B position attendants and pilots restock and clean their planes saving the airline thousands of dollars per year. SWA value suppliers who have the same focus and look internally for ways to improve their processes and service, and willingly pass on cost savings. SWA is also dedicated to creating an environment of trust and respect for its customers, employees, and suppliers. Employees are expected to maintain the highest ethical standards and conduct business with integrity, and in a manner, excluding consideration of personal gain. SWA requires the same ethical standards and conduct from their suppliers. SWA values diversity and seeks to create an environment that encourages it, both in the workplace and among their supplier base. Since low fares have are historically SWA’s selling point, decreasing costs is very important. SWA Airlines tries to save money by simplifying its operating process by utilizing strategies such as having one type of aircraft which allows its mechanics to be experts on that one airplane model saving maintenance time, parts thus lowering costs. Additionally, SWA recognizes airplanes generate greater revenue utility when they are in the air. SWA utilization (until 2014) of one and only one type of aircraft – the Boeing 737 means every pilot and mechanic is capable of working any plane in the fleet. The company does not have inter-airline baggage transfers. SWA also minimizes turnaround time at the gates by eschewing seat assignments and carefully managing the queuing for aircraft boarding. SWA has also gone into the effort of change the internal design of the aircraft in order to speed up the time of ground duty. SWA utilizes cash-register receipts and computer print outs as tickets, has no computer reservation system and no meal service. Also, SWA utilizes a point-to-point strategy (fly customers direct from point to point) as opposed to the hub and spoke system (fly customer to a gathering airport {hub}) competitors operate with in their systems. This is the most efficient way of adopting the concept of high average velocity and maximizes passengers per miles revenue mile. Other operating cost saving processes the company utilizes includes excluding meal service from its flights, by serving beverages, crackers and other light snacks to the passengers during flights. In comparison with other airlines, SWA pilots fly longer hours and accordingly their time is used in a more efficient way and fewer pilots (employees) are required. Airlines can generate significant cost savings by sending tickets, newsletters, quotes, and other documents via Internet, rather than by post or facsimile. The industry can use Web sites to publish - in a cost-effective way - public domain documents such as annual reports, product brochures, positions vacant, contact details and other important information. SWA CEO, Gary Kelly stated the Web site is playing a major role in mitigating the rise in costs. It's 10 times cheaper to deliver to customers through the online service than through a travel agent Kelly states, and costs 5 times less than using SWA’s own reservation staff. The booking cost per passenger online is "well under $1," said Kelly, and is scaling down even further. He said Internet use by passengers was helping the carrier keep fares at low discount levels. These sets of activities focusing on competitive activities ensure no full-service airline can compete with SWA on cost. EXPENSES The famously informal carrier that started from a business plan scribbled on the back of a cocktail napkin has been quick to describe the redo with the phrase new look, same heart. Yet there is a less-heralded, but far more important, change at the carrier credited with bringing affordable air travel to the masses: It’s no longer the industry’s low-cost leader. Just as SWA has grown—becoming America’s No. 4 airline—so have its costs. Today, SWA has per-mile operating costs that come close to its three larger rivals, American Airlines Group, Delta Air Lines, and United Continental Holdings. Part of SWA’s rising cost issue is jet fuel, which averaged $3.16 per gallon for the company last year (2013), up from $1.80 in 2007 when it had long-term contracts that kept its fuel costs lower than at other airlines. Fuel now accounts for more than 35 percent of its spending (2013), up from 29 percent seven years ago. A much bigger part of the story is the industry restructuring that began with the wrenching bankruptcy filings by nearly all of the big U.S. airlines since 2001. That allowed established carriers which were weighed down by decades of embedded costs to revamp their expenses across the board—employee head count, aircraft leases, to the wine offered in first class. up up image The industry makeover has left most of the big players with largely the same expenses. As a result, the true low-cost airline leaders are not SWA but the ultra-budget Spirit Airlines and Allegiant Travel, carriers that squeeze more seats onto their planes by not letting seats recline. Delta had a cost of 8.98¢ for each seat it flew 1 mile in the second quarter, not counting fuel expense. Southwest was at 8.25¢—less than the other big guys but up 4 percent from the same period in 2013. It also experienced higher costs from integrating and adjusting salaries at AirTran, where workers had been paid less than employees at SWA. Now that its costs almost equal those of its rivals, SWA is having the kind of financial stare downs with workers the biggest carriers have had for decades. Contract talks are going on with most of its unions, covering 83 percent of workers; and SWA is pushing for changes in compensation and other costs. It wants to base some of workers’ pay on performance measures and switch from fixed pay increases—amid a backdrop of record profits. That’s infuriated employees. Last month the union that represents 6,000 SWA passenger service and reservation agents, the International Association of Machinists and Aerospace Workers, sought a federal mediator to intervene in talks that have stretched for two years. SWA workers “have been and continue to be justly rewarded with industry-leading compensation, benefits, and unprecedented job security,” Chief Executive Gary Kelly wrote in an e-mail. Additionally, the Transport Workers Union Local 555 that represents SWA ground workers claims half of their members have not have a raise since 2010. Is there any connection with that and the report release in November 2014 that SWA historically known for rarely losing baggage, now loses more bags than any other major airline (U.S. Department of Transportation’s Air Travel Consumer Report, November 2014)? SWA is also no longer the low-fare leader in many cities, having steadily raised prices in recent years. SWA’s average one-way fare rose 8 percent, to $163, over the past year. The lowest nonstop one-way fare from Chicago to Los Angeles on SWA, American, United, and Virgin America, for instance, was $156.10 on Sept. 10, 2013. That was $44 more than Spirit’s cheapest. SWA continues to trumpet its Bags fly free policy as well as the absence of fees to change tickets (this applies on only what SWA considers full fare tickets) or make phone reservations. But those passenger-friendly gestures also mean the carrier has ceded revenue sources other airlines enjoy—yet another reason it no longer promotes the kind of low ($39 and under) fares it once offered in abundance. plane Courtesy Southwest SUCCESSFUL INTERNAL MARKETING SWA emphasizes customer service. It is the company's policy not only to treat the customer in the best way possible, but also to treat employees as internal customers. This way, SWA becomes a comfortable and fun place to work. "If you are comfortable, you are smiling more and you give better service", says Colleen Barrett, SWA People Department (see next paragraph). Another example of the SWA attitude towards its employees is a quote by Herb Kelleher (former CEO): “Fun is a stimulant to people. You don't have to surrender your individuality to work for Southwest Airlines, work is important don't spoil it with seriousness.” The SWA culture is to serve people in a fun and innovative way, but at the same time, make a profit. SWA’s human resources department, also called” The People Department,” has its own principles to select employees. The motto is, “Employees are hired for attitude and trained for skill.” SWA believes it should satisfy its employees first and then they would satisfy its customers. The secret for the success of SWA is it never sacrifices happy employees in order to satisfy customers. In other words, SWA uses the Market-Focused Management Model. It believes the company should trust and stand on its employees’ side because sometimes customers might be wrong. SWA lets inexperienced workers be hired as interns to learn from a good well-experienced employee for a period of time. This is done so a newbie can observe the essence of SWA culture from the demonstration of the experienced one. It also trains employees to put their own shoes on other colleagues of different departments. They have the chance to experience other department’s work so they can understand others’ difficulties and become more willing to help. Also, managers often work with the front line employees to understand their working and difficulty. SWA tries to let employees know it is not a company but a big family. The profit sharing plan is an example. Also, Southwest promotes celebration. Every year, there are many times to celebrate for the new opening of an airport or for someone to be the best server of the year. They care about each other and even the president knows when somebody is sick and needs encouragement. FLAT ORGANIZATION SWA has a lean structure and informal code of conduct. The leanness leads to the cross-functional communication. Employees can connect with managers or even the president immediately whenever they want to deliver opinions and suggestions. Its hierarchy is quite simple so department supervisors can manage employees very well and both sides can maintain good and direct communication. The leaders of SWA are not in a prominent or unreachable position. Any employee can enter their offices to discuss anything at any time. If there are suggestions to be made, the leaders are there to hear them. The leaders also, surprisingly, help with ground work such as baggage handling. This type of organization allows SWA employees to feel free to do their job and continuously improve upon whatever needs to be improved without many restrictions or pressure. SWA realized the real ownership of an organization does not come from how much stock one owns. SWA claims, “Ownership is the result of believing you can make a difference, then acting on that belief in everything you do.” SWA empowers its employees to solve service problems in a timely manner without asking supervisors for permission. They are encouraged to offer extraordinary service and their judgments are trusted, whether they are flight attendants or engineers. SWA believes the more employees know, the more they care. The most updated information about SWA is easily available for every employee. It lets employees know the profit of SWA is not only the president’s concern, but also related to employment security. If every employee understands how the company makes money and how a single customer influences on the performance of profitability, they would know their service to each customer means a lot. In this case, they are more eager to suggest solutions for reducing cost and the front-line service providers can be in a better position to provide better services. third degree SUCCESSFUL EXTERNAL MARKETING Southwest Airlines stewardesses always let passengers enjoy their journey by telling some interesting jokes and stories, which make many customers, enjoy their flight, despite lacking other forms of entertainment. In a longer haul flight, such as in a five to six hour flight, stewardesses would have a very difficult time to maintain their enthusiasm. In such a situation, Southwest would have to upgrade its facilities, or hire more stewardesses such that one could take a break while the other serves. It is obvious, in this case, that hiring more stewardesses would not make sense because they would just take up passenger space. Ultimately, this would mean that Southwest Airlines would have to upgrade its airplanes to include in-flight entertainment, and subsequently, Southwest’s future passengers would have to carry the burden of these costs. EXTERNAL ENVIRONMENT ANALYSIS SWA face many external factors that influence the way the run their business. Despite the economic downturn, Southwest’s position will continue to remain unassailable by competitors and industry environments. SWA is the leader of all of the airlines in the United States for its ability to attract customers based not only on its low-fares and exceptional service, but also on its ability to change and evolve as it needs to. In recent years, the global price of oil has caused many airlines to collapse as airlines were forced to raise ticket prices and lose customers. Airlines were also hurt by low ridership rates. SWA was able to overcome these issues, and it will continue to do so. In the greater part of 2008, the price per barrel of oil soared to the highest that the world has ever seen. As a result of this, world gas prices also increased and as such, it became more costly to operate airplanes. Due to rising oil costs, and other factors such as a weak economy (leading to poor ticket sales), many different airlines went bankrupt and were subsequently absorbed by other airlines. This has affected many airlines, but the airlines that are the most affected are low-cost airlines because they run on a lower operating income compared to normal carriers. Although SWA is also a low-cost carrier, it has effectively escaped this fate. Due to the sluggish economy, many potential passengers are mainly concerned about price before other factors. SWA is suitable for this type of customer in the current economic environment. This is an advantage for SWA because it is typically the lowest-cost airline. The main threat in the sociocultural segment is the ongoing concern about terrorism and its effect on aviation safety. The major political/legal force was the 1978 deregulation of the airline industry that essentially removed all entry barriers and opened the industry to intense competition. During the first decade after deregulation, more than 150 carriers filed for bankruptcy. Another political/legal issue is related to federal taxation. SWA has done well despite these threats, but the current threats in the form of federal taxes are likely to have a disproportionate effect on the no frills strategic group of competitors. A number of technologies are available to assist airlines in minimizing costs and maximizing revenues. However, SWA and other low-fare carriers did not use a flexible pricing approach; it did use other technologies to reduce costs. SWA is generally known as a first mover in the use of technologies. For example, SWA were the first airlines to have tactless by having internet website. With new aircraft coming on stream, airlines also have access to more efficient aircraft as well as flight management systems to minimize fuel burn. plane A Southwest Airlines Boeing 737-300 (N626SW) pictured before touching down on the runway at McCarran International Airport in Las Vegas, Nevada, United States. The aircraft is painted in Southwest’s canyon blue primary livery. (Photo credit: Wikipedia) SWA Fourth Quarter 2012 Awards and Recognitions Recognized as one of the 2012 Green Rankings Top 500 US Companies by Newsweek Named to G.I. Job's 2013 Top 100 Military Friendly Employers Ranked first in America's Happiest Airlines for Holiday Travel by Forbes for the third consecutive year Recognized with the Employees Choice Awards Best Place to Work 2013 by Glassdoor.com Named one of the Five Most Likeable Companies of 2012 by Likeable Media Named one of the National Conference on Citizenship's The Civic 50 for use of time, talent, and resources in civic engagement At 43 years of age, Southwest Airlines is firmly entrenched in middle age within a mature US market place. During it’s more than four decades the airline has largely retained its appeal and perpetuated its renegade image, even if that perception is now more legend than reality. As its merger integration with AirTran comes to a close, Southwest continues to exploit its domestic strength by forging a presence in key US markets while laying the groundwork to bolster its international offerings in 2015 with service from a new international terminal at its sixth largest base measured by seats deployed, Houston Hobby. swot But even as it still engenders positive customer sentiment, Southwest faces numerous challenges. These include preserving its culture and finding new ways to generate revenue. At the same time it is becoming more difficult for Southwest to brandish its low fare image with the rise of ultra-low-cost airlines that are fulfilling traditional role – traffic stimulation through rock bottom fares. Southwest Airlines SWOT Analysis Strengths 1. Financial wherewithal During 2Q2014 Southwest recorded its fifth consecutive quarter of record profits. Its consistent profitability and balance sheet strength have resulted in the airline holding the position of the only US airline to achieve investment grade status until Alaska Air Group secured that coveted position earlier in 2014. Southwest managed to remain profitable during the financial downturn of 2008 and 2009, and its CY2013 profits of USD754 million were the highest recorded by the airline since 2008. Southwest Airlines Co. annual net profit (loss): 2008 to 2013 chart Source: CAPA - Center for Aviation and airline reports chart Growth of Southwest Airlines Co. annual net profit (loss): 2009 to 2013 Source: CAPA - Center for Aviation and airline reports At the same time Southwest has sustained a measurably strong balance sheet. Its leverage at the end of 2Q2014 was 37%, and its cash in hand was USD4 billion. During 1H2014 it generated USD1.6 billion of free cash flow, and as of 30-Jun-2014 Southwest had reduced its debt and capital lease obligations by USD1.5 billion. 2. Southwest has an iconic brand Southwest is one of the most recognized brands in the US, and it consistently works to exploit its heritage through advertising during high profile sporting events and in social media. It has been deemed the top travel brand and fifth overall brand by The Business Journals in the American Brand Excellence Awards. This provides important differentiation in a commoditized industry. Standing out by not going along with the crowd and forgoing the revenue is arguably a net gain, albeit perhaps not easily accountable. 3. It maintains a robust domestic network Presently Southwest is benefiting from strong demand within the US market place, reflected in its 8% passenger unit revenue growth in 2Q2014, the largest gain of any US airline. Based on data from CAPA and OAG for the week of 15-Sep-2014 to 21-Sep-2014 SWA is the second largest airline in the US domestic market measured by seat deployment. Its share is approximately 20% behind Delta’s nearly 22% share. United States of America capacity by airline (% of seats): 15-Sep-2014 to 21-Sep-2014 chart Source: CAPA - Center for Aviation and OAG Through its acquisition of AirTran and seizing on required slot divestitures by American and US Airways in order for those airlines to move forward with their merger, Southwest has made inroads in the key US markets of Washington National and New York La Guardia. As a result Southwest has a relatively strong position in eight of the top 10 US cities by arrivals for the week of 15-Sep-2014 to 21-Sep-2014: Chicago (it holds an 88% seat share at Midway), Atlanta (second largest with a 7% share, Delta retains an 80% share), New York La Guardia (fourth largest airline with an 8% share), Denver (second largest airline with a 26% share), Los Angeles (a highly fragmented market where Southwest retains a 13% seat share), Houston (a 91% seat share at Hobby), Las Vegas (Southwest holds a 43% share) and Washington (a nearly 9% share at Washington National and a 70% share at Baltimore/Washington International) (All information is based on data from CAPA and OAG.) United States of America top 10 domestic cities by arrivals: 15-Sep-2014 to 21-Sep-2014 chart Source: CAPA - Center for Aviation and OAG Southwest Airlines global top 10 hubs/bases/stations by seats: 15-Sep-2014 to 21-Sep-2014 chart Source: CAPA - Center for Aviation and OAG More departures than any other US airline Diverse, upper management; very well run business Considered the best low cost carrier in recent years. High capacity usage (few unfilled seats) Dominates the short haul segment of the airline industry Is one of the most profitable airlines, while many other airlines are unprofitable Maintains very good relationships with its unions Management has a history of making successful acquisitions Low-cost, efficient operations equates to low fares/great value Employees are allowed/encouraged to have and show their sense of humor It feels fun to fly on Southwest SWA has only one basic type of aircraft/reduces training times Employees work very well as a team Very good safety record SWA could selectively introduce higher priced options Southwest Airlines SWOT Analysis Weaknesses 1. Minimal revenue opportunities Southwest has rejected the product un-bundling that nearly all of its US counterparts have undertaken that airlines tout is designed to allow customers to tailor their experiences. The reality is for most airlines – full service, hybrid, and ultra-low-cost – ancillary revenue presents the largest opportunity to grow revenue significantly over the medium and long term. The airline’s top-line revenues increased just 3.6% year-on-year during CY2013 after peaking at 29% growth in CY2011. Growth in Southwest Airlines Co. annual operating revenue: 2009 to 2013 chart Source: CAPA - Center for Aviation and airline reports Southwest has attempted to pull some ancillary levers in its own, usually more positive way – selling select boarding positions at the gate, tightening flexibility around its most restrictive fares and increasing some other fee revenue. During 2013 the airline estimated that those changes would result in roughly USD175 million of incremental revenue on an annual basis. See related report: Southwest Airlines plots course to meet previously missed ROIC targets Southwest transported roughly 133 million enplaned passengers in CY2013, and its revenues outside freight and passenger operations fell 2.5% to USD815 million. US hybrid airline JetBlue carried 30 million passengers in CY2013; but recorded ancillary revenue of USD670 million in CY2013, of which USD170 million was derived from its Even More offering (extra legroom, priority boarding and in some cases expedited security clearance). Also a customer favorite, JetBlue has successfully grown its ancillary revenue through creating products customers value rather than making passengers feel nickel and dimed. It is not a stretch to conclude Southwest could create some added value for its legions of fans. 2. Its product is outdated Southwest has the balance sheet strength to leverage new products that its customers would find appealing, and that in the medium term would generate high margin revenue. An extended legroom offering is now the norm for numerous airlines worldwide (including many ULCCs), and offers an opportunity to drive up ancillary revenue. Southwest has actually densified its aircraft (and decreased seat pitch) during the past couple of years – another trend apparent in the US industry. But other than offering on board WI-Fi, its product is arguably stale, and more importantly, it could be missing an opportunity to leverage its strong brand to create new revenue opportunities. Few morning flights offered No flights to international destinations Dependent on a single type of aircraft - the Boeing 737 Most employees belong to a union Only one class of seating is offered - coach Booking flights is not available except directly through Southwest Airlines It does not offer frills such as airport lounges, videos on board, etc. Can only carry a small amount of cargo and freight Southwest Airlines SWOT Analysis Opportunities 1. Wright Amendment repeal During Oct-2014 all restrictions on long-haul flying from Southwest’s Dallas Love Field base will be dissolved, allowing SWA to offer direct flights to many of its strongest markets without the need for connecting service. Initially Southwest is operating service to Baltimore, Denver, Las Vegas, Orlando and Chicago Midway. Other new service includes flights to Atlanta, Fort Lauderdale, Los Angeles, Nashville, La Guardia, San Diego, Orange County, Tampa and Washington National. See related report: Southwest Airlines wins Love – but also new competitive forces with repeal of Wright Amendment Given its favorable positioning in all of those markets the new direct flights from Love Field should spool up quickly and make a positive revenue contribution to the airline’s already strong results. 2. New international operations Southwest introduced its own-branded international service during 2014 after many years talking about expanding to adjacent international markets. The AirTran acquisition and a reservations system upgrade have helped accelerate the process and now Southwest offers service to Aruba, Cancun, Los Cabos, Nassau, Montego Bay and San Juan. The airline marks an important milestone in late 2015 when it launches international flights from Houston Hobby after successfully beating back opposition from United (Houston InterContinental’s largest airline) over the construction of a new international terminal at Hobby. The addition of international service is important network diversification for Southwest as it has arguably penetrated most of the domestic US (85 domestic destinations as of 21-Sep-2014). Its ability to offer its large passenger base access to near international leisure destinations is a natural progression, and should create some revenue upside once the markets reach maturity. 3. Potential partnerships with foreign international airlines A recent study by CAPA identified a number of US airports which are currently undeserved by foreign airlines. SWA is frequently the dominant airline at the airport, operating only domestic services. There are many examples of other airlines in such circumstances establishing partnerships and extensive code-shares with foreign carriers which need feed behind their initial gateway. For various reasons, including opposition from some employee groups, Southwest has not entertained such possibilities. There is substantial opportunity for enhanced traffic flows in these relationships. Growth of Hispanic population and the elderly generation - potential markets Overall air travel is predicted to increase pretty rapidly this decade International markets are not yet served by Southwest New technology - opportunities for new services and products Better use of the Internet for marketing, ticketing, etc. Longer flights are a growing market New plane technology, such as the Dreamliner, will increase air travel Southwest Airlines SWOT Analysis Threats 1. ULCCs Contrary to its claims, Southwest is no longer the low fare leader as Spirit Airlines, Frontier Airlines and Allegiant Air overtake the historical Southwest role of using low fares to stimulate air travel. During CY2013 its average fare increased 7%, and nearly 6% in 1H2014. Some of that was due to strong demand within the US market place; but the reality is Southwest needs to maintain certain fare levels to manage its costs. The rise of ULCCs is arguably creating an identity crisis for Southwest. The airline is no longer really low-fare or low-cost, but does not offer any of the amenities of hybrid or full service airlines. Southwest argues that not neatly fitting into a mold is part of its renegade image. Yet staying stuck in a 43-year old mindset stifles innovation, which is something Southwest needs to focus on in order to remain relevant in the long term. 2. Costs are rising and likely to rise further Southwest is in the midst of numerous labor negotiations that are making it tough to predict its unit cost increases in the medium to long term. For the moment its unit costs are in line with major airlines, rising 2% in 1H2014 as passenger unit revenues grew a healthy 6% during that time. But the airline will inevitably endure some cost pressure as new contracts take effect after tense negotiations. Southwest has previously acknowledged that its labor agreements are built on an operating model it executed 10 to 15 years ago, and the airline has one of the highest pay structures in the industry. For CY2013 salaries, wages and benefits represented 31% of the airline’s total top-line expenses. 3. A unique culture is being eroded The push and pull of the labor negotiations has already created cracks in Southwest’s favorable employee relations and its culture. In early 2014 the union representing ramp workers sued SWA after the airline requested that employees at Chicago Midway prove they were ill during Jan-2014 after inadequate staffing and a winter storm triggered operational disruptions at the airport. Illustrating the pressure Southwest faces in its employee relations the union representing ramp workers in early 2014 warned: “By refusing to reward employees for their contribution to our airline's success, management is taking a terrible wrong turn from Southwest Airlines’ past emphasis on putting employees first and maintaining positive labor relations.” There appears to be a substantial rift emerging between employees seeing a commonality of purposes with the company and pursuing their own interests. Southwest Airlines SWOT Analysis Threats Fuel price increases could reduce air travel Decline of leisure travel due to terrorism and/or a depressed economy New government regulations could make air travel more costly Cost will likely rise since there is not many more areas for cost-cutting High-speed rail could someday hurt short and medium length air travel Increased competition would likely hurt industry profitability Outlook: Southwest’s competitiveness remains solid; but cracks are starting to emerge The strong domestic environment within the US is helping SWA to sustain an undeniably strong financial position, and the lifting of the Wright Amendment and new international service should help keep its passenger revenues robust. But Southwest needs to define itself for the long term in light of the rise of ULCCs and the product evolution taking place within the industry. Perhaps the most renegade change it needs is for its "family" to undertake a mindset change. SOUTHWEST AIRLINES CO. CONDENSED CONSOLIDATED BALANCE SHEET (in millions) December 31, 2012 December 31, 2013 ASSETS Current assets: Cash and cash equivalents 1,113$ 1,355$ Short-term investments 1,857 1,797 Accounts and other receivables 332 419 Inventories of parts and supplies, at cost 469 467 Deferred income taxes 246 168 Prepaid expenses and other current assets 210 250 Total current assets 4,227 4,456 Property and equipment, at cost: Flight equipment 16,367 16,937 Ground property and equipment 2,383 2,666 Deposits on flight equipment purchase contracts 416 764 Assets constructed for others 331 453 19,497 20,820 Less allowance for depreciation and amortization 6,731 7,431 12,766 13,389 Goodwill 970 970 Other assets 633 530 18,596$ 19,345$ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable 1,107$ 1,247$ Accrued liabilities 1,102 1,229 Air traffic liability 2,170 2,571 Current maturities of long-term debt 271 629 Total current liabilities 4,650 5,676 Long-term debt less current maturities 2,883 2,191 Deferred income taxes 2,884 2,934 Construction obligation 331 437 Other non-current liabilities 856 771 Stockholders' equity: Common stock 808 808 Capital in excess of par value 1,210 1,231 Retained earnings 5,768 6,431 Accumulated other comprehensive loss (119) (3) Treasury stock, at cost (675) (1,131) Total stockholders' equity 6,992 7,336 18,596$ 19,345$ SOUTHWEST AIRLINES CO. CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS (1) (in millions, except per share amounts) Year Ended December 31, 2011 Year Ended December 31, 2012 Year Ended December 31, 2013 OPERATING REVENUES: Passenger 14,754$ 16,093$ 16,721$ Freight 139 160 164 Other 765 835 814 Total operating revenues 15,658 17,088 17,699 OPERATING EXPENSES: Salaries, wages, and benefits 4,371 4,749 5,035 Fuel and oil 5,644 6,120 5,763 Maintenance materials and repairs 955 1,132 1,080 Aircraft rentals 308 355 361 Landing fees and other rentals 959 1,043 1,103 Depreciation and amortization 715 844 867 Acquisition and integration 134 183 86 Other operating expenses 1,879 2,039 2,126 Total operating expenses 14,965 16,465 16,421 OPERATING INCOME 693 623 1,278 OTHER EXPENSES (INCOME): Interest expense 194 147 131 Capitalized interest (12) (21) (24) Interest income (10) (7) (6) Other (gains) losses, net 198 (181) (32) Total other expenses 370 (62) 69 INCOME BEFORE INCOME TAXES 323 685 1,209 PROVISION FOR INCOME TAXES 145 264 455 NET INCOME 178$ 421$ 754$ NET INCOME PER SHARE, BASIC $ .23 $ .56 $ 1.06 NET INCOME PER SHARE, DILUTED $ .23 $ .56 $ 1.05 WEIGHTED AVERAGE SHARES OUTSTANDING Basic 774 750 710 Diluted 775 757 718 (1) Excludes financial results for AirTran prior to the May 2, 2011 acquisition date. SOUTHWEST AIRLINES CO. CONDENSED CONSOLIDATED STATEMENT OF CASH FLOWS (1) (in millions) Year Ended December 31, 2011 Year Ended December 31, 2012 Year Ended December 31, 2013 CASH FLOWS FROM OPERATING ACTIVITIES: Net income 178$ 421$ 754$ Adjustments to reconcile net income to cash provided by (used in) operating activities: Depreciation and amortization 715 844 867 Unrealized (gain) loss on fuel derivative instruments 90 (189) (5) Deferred income taxes 123 251 50 Changes in certain assets and liabilities, net of acquisition: Accounts and other receivables (26) (33) (17) Other current assets (196) (104) (46) Accounts payable and accrued liabilities 253 186 343 Air traffic liability 262 334 400 Cash collateral received from (provided to) fuel derivative counterparties (195) 233 57 Other, net 152 121 74 Net cash provided by operating activities 1,356 2,064 2,477 CASH FLOWS FROM INVESTING ACTIVITIES: Payment to acquire AirTran, net of AirTran cash on hand (35) - - Payments for purchase of property and equipment, net (968) (1,348) (1,447) Purchases of short-term investments (5,362) (2,481) (3,135) Proceeds from sales of short-term investments 5,343 2,996 3,198 Net cash used in investing activities (1,022) (833) (1,384) CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from Employee stock plans 20 27 96 Proceeds from termination of interest rate derivative instrument 76 38 - Payments of long-term debt and capital lease obligations (540) (578) (313) Payments of convertible debt (81) - - Payments of cash dividends (14) (22) (71) Repayment of construction obligation - - (5) Repurchase of common stock (225) (400) (540) Other, net (2) (12) (18) Net cash used in financing activities (766) (947) (851) NET CHANGE IN CASH AND CASH EQUIVALENTS (432) 284 242 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 1,261 829 1,113 CASH AND CASH EQUIVALENTS AT END OF PERIOD 829$ 1,113$ 1,355$ (1) Includes the impact of the AirTran acquisition as of May 2, 2011. SOUTHWEST AIRLINES CO. RETURN ON INVESTED CAPITAL CALCULATION (1) (in millions) Year Ended December 31, 2009 Year Ended December 31, 2010 Year Ended December 31, 2011 Year Ended December 31, 2012 Year Ended December 31, 2013 Operating Income, as reported 262$ 988$ 693$ 623$ 1,278$ Add: Net impact from fuel contracts 222 172 - 32 84 Add: Charge from voluntary early-out program, net (2) 56 - - - - Add: Charge for Asset impairment, net (2) - - 14 - - Add: Charge for AirTran integration costs, net (3) - 7 132 183 86 Operating Income, non-GAAP 540 1,167 839 838 1,448 Net adjustment for aircraft leases (4) 91 84 129 117 143 Adjustment for fuel hedge accounting (148) (134) (107) (36) (60) Adjusted Operating Income, non-GAAP 483$ 1,117$ 861$ 919$ 1,531$ Average Invested Capital (5) 9,876$ 10,431$ 12,439$ 12,580$ 11,664$ Equity adjustment for fuel hedge accounting 763 434 184 145 50 Adjusted Average Invested Capital 10,639$ 10,865$ 12,623$ 12,725$ 11,714$ ROIC, pre-tax* 4.5% 10.3% 6.8% 7.2% 13.1% *ROIC, pre-tax, calculated as Adjusted Operating Income, non-GAAP, divided by Adjusted Average Invested Capital (1) Calculation includes the impact of the AirTran acquisition as of May 2, 2011. (2) Net of profit-sharing impact. (3) Net of profit-sharing impact on charges incurred through March 31, 2011. The Company amended its profit-sharing plan during second quarter 2011 to defer the profit-sharing impact of acquisition and integration costs incurred from April 1, 2011 through December 31, 2013. The profit-sharing impact will be realized in 2014 and beyond. (4) Net adjustment related to assumption that all aircraft in fleet are owned. (5) Average invested capital represents a five quarter average of debt, net present value of aircraft leases, and equity. Note Regarding Use of Non-GAAP Financial Measures The Company's Consolidated Financial Statements are prepared in accordance with accounting principles generally accepted in the United States (GAAP). These GAAP financial statements include (i) unrealized non-cash adjustments and reclassifications, which can be significant, as a result of accounting requirements and elections made under accounting pronouncements relating to derivative instruments and hedging and (ii) other charges the Company believes are not indicative of its ongoing operational performance. As a result, the Company also provides financial information that was not prepared in accordance with GAAP and should not be considered as an alternative to the information prepared in accordance with GAAP. The Company provides supplemental non-GAAP financial information, including results that it refers to as "economic," which the Company's management utilizes to evaluate its ongoing financial performance and the Company believes provides greater transparency to investors as supplemental information to its GAAP results. The Company's economic financial results differ from GAAP results in that they only include the actual cash settlements from fuel hedge contracts - all reflected within Fuel and oil expense in the period of settlement. Thus, Fuel and oil expense on an economic basis reflects the Company’s actual net cash outlays for fuel during the applicable period, inclusive of settled fuel derivative contracts. Any net premium costs paid related to option contracts are reflected as a component of Other (gains) losses, net, for both GAAP and non-GAAP (including economic) purposes in the period of contract settlement. The Company believes these economic results provide a better measure of the impact of the Company's fuel hedges on its operating performance and liquidity since they exclude the unrealized, non-cash adjustments and reclassifications that are recorded in GAAP results in accordance with accounting guidance relating to derivative instruments, and they reflect all cash settlements related to fuel derivative contracts within Fuel and oil expense. This enables the Company's management, as well as investors, to consistently assess the Company's operating performance on a year-over-year or quarter-over-quarter basis after considering all efforts in place to manage fuel expense. However, because these measures are not determined in accordance with GAAP, such measures are susceptible to varying calculations and not all companies calculate the measures in the same manner. As a result, the aforementioned measures, as presented, may not be directly comparable to similarly titled measures presented by other companies. Further information on (i) the Company's fuel hedging program, (ii) the requirements of accounting for derivative instruments, and (iii) the causes of hedge ineffectiveness and/or mark-to-market gains or losses from derivative instruments is included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2013. In addition to its “economic” financial measures, as defined above, the Company has also provided other non-GAAP financial measures, including results that it refers to as "excluding special items," as a result of items that the Company believes are not indicative of its ongoing operations. These include (i) 2013, 2012, 2011 and 2010 charges (before the impact of profit sharing and/or taxes) associated with the Company's acquisition and integration of AirTran, (ii) a 2011 charge for an asset impairment related to the Company’s decision not to equip its Classic (737-300/500) aircraft with Required Navigation Performance (RNP) capabilities, and (iii) a one-time third quarter 2009 charge associated with Freedom '09, an early retirement option offered to Employees. The Company believes that evaluation of its financial performance can be enhanced by a presentation of results that exclude the impact of these items in order to evaluate the results on a comparative basis with results in current or prior periods that did not include such items and as a basis for expecting operating results in future periods. As a result of the Company's acquisition of AirTran, which closed May 2, 2011, the Company has incurred and expects to continue to incur substantial charges associated with integration of the two companies. While the Company cannot predict the exact timing or amounts of such charges, it does expect to treat the charges as special items in its future presentation of non-GAAP results. The Company has also provided return on invested capital, which is a non-GAAP financial measure. The Company believes return on invested capital is a meaningful measure because it quantifies how well the Company generates operating income relative to the capital it has invested in its business. Although return on invested capital is commonly used as a measure of capital efficiency, definitions of return on invested capital may differ; therefore, the Company is providing an explanation of its calculation for return on invested capital (before taxes and excluding special items) in the accompanying reconciliation.