Southwest Airlines

Southwest Airlines:

Business Evaluation

Submitted by:

D. Dill

March 13, 2006

EXECUTIVE SUMMARY

Purpose, Method and Scope

Southwest Airlines began business over 30 years ago in Dallas, Texas, to provide customer with a low-cost way to fly and has grown to the third largest airline in the nation. To evaluate whether Southwest has good investment potential, there must be an evaluation of the airline industry and Southwest. The industry will be evaluated using Porter's Five Forces Model. Southwest will be evaluated using a strengths-weakness-opportunities-threats (SWOT) analysis. After the assessments are complete, they will determine if Southwest stock should be purchased as in investment.

Strategic Analysis Findings

First, Porter's Five Forces Model showed the airline industry to be high risk, but not to be discounted if held as part of a diversified portfolio. Second, a comparison between segments determined the U.S. airline market is more stable and faces fewer threats than the European market, so any investment will be made with a U.S. based carrier. Third, Southwest was shown to have outperformed other U.S. carriers. Fourth, Southwest business level analysis shows its functional strategies offset the threats and weaknesses revealed by the SWOT analysis and Porter's Five Forces Model; it also shows Southwest is well positioned to take advantage of the strengths and opportunities showcased in the SWOT analysis. Lastly, Southwest has excellent organizational structure, controls and corporate culture to adapt to industry changes in the future.

Solutions and Recommendations

Although the airline industry is unpredictable, some airline carriers are more dependable and have better historical achievements than others. Southwest shows superior performance and implementation of business strategies. Therefore, the recommendation is to invest in Southwest.

INTRODUCTION

Southwest Airlines was established over 30 years ago by Rollin King and Herb Kelleher to provide customers with low fares, to ensure on time flight arrivals and departures, and create a fun experience for passengers. This novel approach to airline service was a critical event in Southwest's founding. King and Kelleher used these ideas to develop and select the business and functional level competencies they pursued to become the fourth largest airline in the U.S. Southwest continues to pursue an aggressive low cost strategy which has helped it gain and maintain market share. However, with costs rising, Southwest has an almost Herculean task of maintaining low fixed and variable costs to retain its leadership position; it also needs to sustain growth into new service markets amid ever present competition.

To evaluate how well Southwest is pursuing its strategies and to determine whether it has good investment potential, there are multiple factors to review. First, the airline industry as a whole will be evaluated using Porter's Five Forces analysis. Second, how U.S. airlines compare to European carriers will be studied. Third, an examination of Southwest compared to other U.S. carriers should be completed to determine how well Southwest is positioned in the industry. Finally, a detailed strengths-weaknesses-opportunities-threats (SWOT) analysis will be done, how strategies are enacted, and what controls Southwest uses to determine its current and future potential.

STRATEGIC ANALYSIS

Airline Industry

Overview

The consumer airline industry experienced a severe slump in ticket sales due to the terrorist attacks of September 11, 2001, "a weak economy, the war in Iraq, and the deadly SARS virus; [these events] have conspired to slam demand for airline tickets" ("Airlines," 2003). The airline industry still has not completely recovered to the sales volume it had prior to these events. Global losses since the terrorist attacks have totaled $30 billion US dollars which has had lasting effects on airline financing, manufacturers and lessors. ("Airlines," 2003). Over the past four years, several airlines have been forced into bankruptcy Chapter 11 reorganization in an effort to stay in business, e.g. Delta Airlines, Northwest Airlines, United Airlines, US Airways, and ATA Airlines.

According to Richard Bittenbender, senior credit analyst at Moody's, there would be no recovery in the airline industry until several factors were mitigated - consumer fear of flying during wartime, the slow economy, and the cutback in airline capacity due to forced bankruptcy. Mr. Bittenbender forecasts that airline liquidity would not recover until 2004 or 2005; airline industry earnings and cash flow wouldn't recover until 2005 ("Airlines," 2003). Overall, the airline industry has high business and financial risk, and this risk mixture causes most of the industry's profit unpredictability (Gritta, Chow, and Freed, 2003). While these industry risks are a concern for any investor, if an airline industry stock is purchased as part of a well diversified portfolio, the risks can be softened.

Porter's Five Forces Model

Michael Porter's Five Forces Model is used to describe the forces that shape competition within an industry and to identify any strategic opportunities and threats. The airline industry can be evaluated using this model; it will determine how established companies in the industry will be affected by microenviromental several factors.

First, the threat of potential companies entering the industry will be limited to those companies who can raise enough capital to purchase planes, gates at airport terminals, and a hub to conduct business. Entry will also require getting government approval to start an airline, which may be complicated. These barriers to entering the airline industry are fairly high due to high startup costs, but the high costs alone haven't prevented new airlines from attempting a business venture into the airline industry.

Second,