Southwest Scales Back Expansion as Revenue Growth Slows

Wednesday, 27 Jun 2007 | 3:06 PM ET

Leading discount carrier Southwest Airlines, facing rising costs and tougher competition, plans to trim its expansion through next year.

"Traffic is real strong," Southwest Chief Executive Officer Gary Kelly told CNBC's Bob Pisani, during an interview on "Street Signs." "We're likely going to have record June load factor here, but we're having to work really hard to get that traffic. We're discounting a lot. Fares are actually no higher, and in fact in some cases cheaper, than they were a year ago. So the yields are going to be low."

Based on future bookings, traffic should remain strong in July and August, Kelly said. However, revenue will continue to lag the pace of traffic growth.

In order to keeps its costs under control, Southwest announced plans on Wednesday to adjust its route schedule and reduce its planned fleet expansion by 15 aircraft.

Southwest CEO
CNBC's Bob Pisani interviews Southwest CEO Gary Kelly

The measures would lead to capacity growth of about 6% in the fourth quarter of this year and in 2008, down from a planned increase of about 8%.

The smaller expansion, as well as new business initiatives that Southwest hopes will add more than $1 billion to annual revenue by 2010, should help it meet its target of 15% annual earnings growth in the future, though the changes will likely be too late for this year, Kelly told analysts earlier at an investor conference.

"Our model isn't broken. It's just a little bent," he told analysts, according to a report from Reuters.

Southwest, which is often credited with inventing the low-cost airline model, has gotten off to a slow start this year, buffeted by tougher competition, higher fuel costs, and softening demand for air travel.

The company, which flies only Boeing 737 aircraft, may return leased planes, defer deliveries, or sell some jets to slow its fleet growth. The No. 6 U.S. airline left open the possibility of a further slowdown in growth. "We could find that that growth rate is a little bit too fast," said Kelly.

'Breathing Space'

Slower growth could help Southwest reduce capital expenses and lower operating costs, which have been rising as its fuel hedges expire and because the company pays some of the highest wages in the industry.

The slower expansion at Southwest is good news for rivals like AMR'sAmerican Airlines and Delta Air Lines , but could lead to higher fares for consumers.

"It's the equivalent of the biggest, baddest guy on the block backing off," said airline consultant Robert Mann, in an interview with Reuters. "It gives (traditional carriers) a little more breathing space. It may give them a little more pricing power."

After sluggish revenue growth in the first quarter, as measured against seats available, the company expects unit revenues and earnings to decline in the second quarter. But it is hopeful for a pickup in the second half.

To combat rising fuel costs and offset its high wage bill, Southwest plans to start generating revenue from sources other than selling plane tickets.

These initiatives, some of which are expected to be rolled out by the end of 2007, could include charging for assigned seats, offering in-flight Internet, and selling hotel rooms through its Web site.

Dallas-based Southwest is optimistic about the new revenue sources and a renewed focus on attracting business travelers, which will include a new advertising campaign.

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