Southwest Airlines Company (LUV) — Q4 2022 Earnings Call Transcript

Thank you, operator, and welcome everyone to our fourth quarter and full year 2022 conference call. In just a moment, we will share our prepared remarks and then leave plenty of room for Q&A. Joining me on the call today is our President and CEO Bob Jordan; Chief Operating Officer Andrew Watterson; Executive Vice President and CFO Tammy Romo; and Executive Vice President and Chief Commercial Officer, Ryan Green. A quick reminder that we will make forward-looking statements which are based on our current expectations of future performance, and our actual results could differ from expectations. Also, we had special items in our fourth quarter results, which we excluded from our trends for non-GAAP purposes, and we will reference our non-GAAP results today. So please refer to our press release from this morning and our Investor Relations website for more information. And with that, Bob, I'll turn it over to you.

All right. Thank you, Ryan. I appreciate everybody joining us this morning. We're disappointed to report a Q4 net loss, as we were on track to produce a healthy fourth quarter profit prior to December 21. We provided an 8-K investor update earlier this month that quantified the preliminary estimate of the financial impacts, so a Q4 loss is likely not a surprise. But I would like to take a few minutes to talk about the operational disruptions. First and foremost, I want to apologize again to our customers and our employees for the impact the operational disruption had on them and on their holiday plans. We are intensely focused on reducing the risk of repeating that type of operational event again, like we had last month, and we are highly focused on our customers and our plan going forward. Customer refunds and reimbursements remain a top focus. While not proud of what happened, I am very proud of our people and all that they have done to take care of our customers and their needs. In terms of the events themselves, we canceled more than 16,700 flights from December 21 to December 31. The first few days through December 23 were specific to the winter storm, and we began to have additional disruptions in the operation on December 24. As the largest carrier in roughly half of the top 50 U.S. travel markets, we were impacted by rolling storms to an extraordinary degree. We experienced gridlock in many of our largest airports along with a high frequency of short notice cancellations, which created urgent and repeating efforts to repair the aircraft routings and then our pilot and flight attendant schedules. Given the overwhelming volume of flight cancellations over multiple days, combined with manual workstreams, we determined that the best course of action to get back on track operationally was to reduce our December 27 through December 29 flight activity by roughly two-thirds. This allowed us time to reset the operation to normal flight levels beginning on December 30. Based on what we know at this point, our processes and technology generally worked as designed, but we were hit by an overwhelming volume of close-in cancellations, which put us behind in creating crew solutions, which in turn pushed us to manual efforts and solutions, and Andrew will cover that in detail more here in just a minute.

Thank you, Bob, and hello everyone. I will focus the majority of my comments on the operational disruptions to provide some additional color to what Bob shared. We experienced a historic event with a combination of challenges we hadn't experienced before. However, as Bob mentioned, our crew scheduling software didn't stop working during the disruptions, but a combination of our processes and the technology couldn't keep up with the pace of cancellations at the height of the weather disruption. That forced crew scheduling into fully manual mode to develop solutions, and they simply couldn't keep up with the volume of changes. Based on what we know today, it appears that the last domino to fall was when we could no longer use our automation for crew scheduling. Automation works very well for us, but when a problem gets dated, the automation doesn't have the ability to look backward as it tried to solve future problems. In simple terms, the decision support tool helps us solve two issues: one, repair the assignments of individual crew members; and two, solve crew coverage problems for individual flights by reassigning crew members and using reserve crew members. If a crew member's individual schedule is not repaired before the next assignment begins, then we aren't able to use the automation to repair the individual schedule. Consequently, without updated crew member schedules, the software can't reassign crew members to solve for flights with crew coverage issues. The disruption uncovered a functional gap in our technology. However, this issue is in the process of being addressed.

In closing, we still made tremendous progress in 2022. Despite some impact here in Q1, we believe we still have a solid plan for 2023. We are holding ourselves accountable to the plans that we outlined at our early December Investor Day, and it is still our goal to achieve the long-term financial targets that we outlined. I know that our people are up to the task. I am just extremely proud of them for their dedication to the cause that is Southwest Airlines. They remain absolutely our greatest asset, the heart and soul of the company, and a tremendous source of pride for me personally.

Thank you, Andrew, and hello everyone. I will provide a quick overview of our financial results and share some additional comment on our 2023 outlook. As a result of the operational disruptions in late December, driving a $620 million negative after-tax net impact, we reported a fourth quarter net loss of $226 million, excluding special items. These results are clearly disappointing and not where we expected to be. Despite the negative revenue impact from the flight cancellations in December, we generated record fourth quarter operating revenues.

Thank you, Tammy. I'll provide a bit more detail on fourth quarter trends and our revenue outlook for the first quarter. First, as Bob mentioned, we are very focused on taking care of our customers impacted by the operational disruptions last month. We've sent gestures of goodwill. We processed all bags for return to customers. We processed nearly all customer refunds and have completed more than 80% of the reimbursement requests we've received from customers for reasonable expenses related to alternative transportation. We're processing the remaining requests as quickly as possible and plan to have those largely completed by next week. We will continue working hard every day until all requests are resolved.

Thanks, good afternoon everyone. Bob, thanks to you and the team for all the detail. Again, there was a lot of detail there, but if you were to just take a step back and look at the bigger picture here, there have been a few operating issues for, I'd say, the last 18 months or so. Is this just a series of unfortunate events given unprecedented circumstances? Or do you take a step back and say, hey, we have not invested in kind of tech and systems and things that we should have? Now we're catching up and kind of going forward? I think in that kind of realization understanding sort of determines your response and maybe also kind of if the regulators are focusing on this kind of how they will react to it.

I believe this functional gap existed because other airlines using the software did not request a resolution for it, so it was a new challenge for us and for this tool at GE Digital that is sold to others as well. It's not a typical issue. We have numerous medium-sized cities affected by the weather. As we experienced increased strain on our operations due to the cold, we encountered more cancellations, as we had previously mentioned. We pre-canceled flights, as is customary during major weather events, but the unexpected disruption caused by the weather led to additional cancellations closer to the event, resulting in the challenges we faced that the solver was unable to handle.

Ravi, the event was very different. We saw just a historic level of weather activity across the country that hit many cities and continued for days. I'm not going to blame just this on weather because it continued well after that. That caused an historic level of cancellations that turned into an historic level of aircraft reroutings that led to an historic level of crew reroutings or rescheduling. This is something we've never seen at that level, and it just overwhelmed the technology and the processes.

You indicated that added capacity by Southwest do several destinations will not be curtailed despite what happened in December. But we're hearing that Harry Reid International is starting to have internal capacity problems and that airlines might not have much choice in terms of when their operations occur. Has Southwest had any problem scheduling their times of operations as the airline schedule grows in Las Vegas?