Southwest Airlines Company

Good day and welcome to the Southwest Airlines second quarter 2020 conference call. My name is Chad and I will be moderating today's call. This call is being recorded and a replay will be available on southwest.com in the investor relations section. After today's prepared remarks, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star then two. At this time, I'd like to turn the call over to Mr. Ryan Martinez, Managing Director of Investor Relations. Please go ahead, sir.

Thank you, Chad, and thank you all for joining us today. Joining me on the call, we have Gary Kelly, our Chairman of the Board and CEO, Bob Jordan, Executive Vice President of Corporate Services, Mike Vanderman, Chief Operating Officer, Tom Nealon, President, and Tammy Romo, Executive Vice President and CFO. So following our prepared remarks today, we will open it up for Q&A. Just a few quick disclaimers before we get started. We will make four looking statements, which are based on our current expectations of future performance, and our actual results could differ from these expectations for a variety of reasons. We also have special items in our second quarter results, which we excluded from our trends for non-GAAP purposes, and we will reference those non-GAAP results in our remarks. And, of course, we have in-depth information and reconciliations in our earnings release from this morning on both forward-looking statements and GAAP and non-GAAP results, so please be sure to check those out. And now we'll go ahead and get started, and I'll turn it over to Gary.

Thank you, Ryan, and good morning, everybody, and thanks for joining us on our second quarter earnings call. This is a record quarterly loss for us, and, of course, that can never be something that we're pleased about, But since our last earnings call in April, we have accomplished a great deal and performed better than the goals that we laid out at the time. Most importantly, we've boosted our liquidity. We've cut operating costs. We've generated traffic momentum. We've cut our daily cash burn rate to $16 million a day in June. And importantly, our success in generating traffic was key and key to the next several quarters. We have a viable flight schedule for our customers to choose from. We're operating an extremely reliable airline. Our people are delivering exceptional hospitality. We committed to the Southwest Promise on May the 1st to assure our employees and our customers that their safety comes first. And we're offering low fares with no hidden fees. And all that adds up to record high levels of customer satisfaction. And, of course, that is crucial. We offered a voluntary separation and extended leave program that closed on July the 15th, as we had planned. Almost 17,000 employees signed up, and we're working on reorganizing the company and adjusting our fourth quarter flight schedule to roughly match our people capacity, which year over year will be down roughly 25%. And the majority of the volunteers selected the extended leaves, and they'll be recalled if we need to add capacity quickly, and that gives us tremendous flexibility and significant cost savings over the next several years. Implementing this program is a major objective in the third quarter, and while we have a plan for pay cuts, benefit cuts, furloughs, and layoffs, we do not intend to pursue any of those, at least through the end of this year. COVID-19 cases surged unexpectedly this month, and the U.S. is an outlier. And, of course, that is disappointing. And we've seen a dramatic impact to our trends as far as traffic, revenue, and bookings this month. And we've had to reduce what was a very credible revenue forecast for the third quarter by hundreds of millions of dollars. And we would have easily beat our second quarter daily cash burn number but for that. We'll have to work harder now and adjust August and September capacity in order to meet our goal of continued reduction in daily cash burn. We were on a path to break even by the end of the year. That is still my goal, but first quarter may be more realistic. This year and probably the first half of next year will be a game of tactics and iterations. We're going to execute, we'll monitor, and we'll constantly adjust, and that means the schedule and our fares and our spending. Overall, I'm very pleased. I'm very encouraged. We knew this would be a long, sawtooth slog with a lot of unexpected twists and turns, and it's proving to be so. Our country and the world needs to beat this virus until then. We're going to have to be resilient, we're going to have to persevere, and we're going to have to manage. And I think everybody needs to understand that we know enough now to know that we have a long, long way to go. And we will manage to sustain the health of our company accordingly. We were very well prepared for this. We're prepared for a prolonged war against this pandemic. Our people have literally done all they have been asked, and I could not be more proud. And I have never seen anything like this in my life. But after these many months of battle, I am more confident than ever that we will not just survive, but we will thrive. So we have a lot to cover this morning before we get to your questions. So with that very quick overview, let me quickly turn the call over to Bob Jordan, our Executive Vice President, who, among other things, is going to talk about our voluntary separation program and extended time off. All right, well, thank you, Gary, and good morning, everybody. It's good to be with you, especially on this topic. As you know, we've been in the process of offering voluntary separation and extended leave options to our employees. They are voluntary, and they're hugely important as we work to reduce our staffing, our operating costs, and our cash burn, and these are the most generous programs we have ever offered as a company. The response from our employees was terrific, and I just want to say a huge thank you. These are really hard decisions. and our employees took them very seriously. Each person electing to separate or take an extended leave reduces our cash burn, and that helps preserve other jobs. I just want to say thank you to everybody that considered the option, and especially to those that chose to opt in and participate. I put in the wrong numbers, and these are still being finalized, but I don't expect that they will change materially. Approximately 15,900 employees requested either voluntary separation or an extended leave of absence, and of those, about 4,400 requested voluntary separation. And the remaining 12,500 requested an extended leave of 6, 12, or 18 months and longer. The 4,400 voluntary separations represent 7% or so of the workforce, of the active workforce, And the nearly 17,000 total between the two programs represent about 27% of the active workforce. And of the 12,500 requests for an extended leave, over 60% are for a year or longer. So the way I think about that, the combination of voluntary separation and leave of a year or longer represent 20% of the active workforce, which is just a huge amount of flexibility. While the response from every group was really good, I do want to call out our pilots. Because of the relative financial value, it was key to have them participate, and our pilots really came through with over 2,300 electing one of the two programs, and that represents about 25% of all active pilots. And I'm just really proud of them, and I'm really proud of all of our employees. We will be granting all requests for separation, and the vast majority of those will be separated before September 30th. The extended leave requests aren't perfectly balanced across the company as you would expect in the operation, so there's a little bit of work to do there, but our goal is to allow every employee that wants to take an extended leave to take it. And those extended leaves are effective on September 1st. Should the business recover faster than expected, the program allows for employees to be recalled within a reasonable notice time. Now, a quick update on the expected financial benefits. As outlined in our earnings relief this morning, we estimated around $1.7 billion of accruals in the second and third quarter related to the two programs. In terms of cash payments, nearly half will be paid out this year for voluntary separation and the remainder over several years as it relates to benefit costs and extended leave. However, we will see a material cost savings in salaries, wages, and benefits in the fourth quarter of over $400 million. Our cost savings are expected to grow substantially in 2021. The recall flexibility that I discussed with extended time off could create some variability in the financial impact should we see a significant rebound in our business, but we currently estimate 2021 cost savings to be more than a billion dollars. Because the leaves offered vary in length, the financial benefits will decrease over an extended period of time. Again, though, the vast majority of employees requested a leave of a year or longer, and these programs are really about solving our staffing as our capacity moves over the next 12 to 18 months. So while our capacity plans may fluctuate, I'm just super happy with the numbers and how they help better align our cost to a lower level of flying and I'm just totally grateful to the people of Southwest Airlines for their response. Every single work group responded better than we had forecasted, so that's just really gratifying. It provides critical flexibility right when we need it, and I'm hopeful we won't need additional actions, but if demand continues to stall, we will begin to assess actions to further reduce staffing, operating costs, and cash burns. And with that very brief update, I will turn it over to Mike. Thanks, Bob. In addition to all that work that Bob just covered, we made significant adjustments to our operation in this new COVID-19 world. We started the quarter navigating through cancellations and customer reaccommodations based on the week demand. The lack of demand led us to implement aircraft parking and storage programs. The trip cancellations created crewing and hotel challenges, In the midst of that, we also introduced the Southwest Promise, which drove significant changes in our operational procedures. Throughout all of those efforts, our people produced the best quarterly operation that I can remember. They were heroic. They were magnificent. Their teamwork was superb. So, as I mentioned, the month of April, we were reducing flights and reaccompanying the few customers that flew on the other flights. We had nearly 4,000 flights a day scheduled in April, and we operated about half of those. Our risk cancellations counted against our on-time performance, and although we were 98% on time on flights we did operate, our on-time performance for April was 47%. That pulled down our overall quarterly results to 71.5%. We were more than happy to make that tradeoff given the cash savings of not operating those near-empty flights. But from May 3rd to June 30th, we were able to adjust our flight schedules for demand, and we operated those schedules as published. Our OTP for that period was 94.8%, and that's the best May and June performance in 25 years. Our bag handling continued to improve with the rollout of our bag scanning program last year, and we added cargo scanning here in the second quarter. We had the lowest level of mishandled bags in our history in the second quarter. Our customer net promoter score was also the highest that we have on record. So our network design and our decision support tools that we're using in our operations create a solid foundation for whatever the future holds. So turning to the fleet, we had roughly 400 aircraft in long-term storage or temporary parking programs in April, and that included our 34 MAX aircraft. Since April, our daily scheduled trips increased throughout the quarter and into July, and then additionally our loads were increasing on each flight. And so we added roughly 6,900 extra sections beyond those scheduled as a result. Those items required more aircraft availability, so we added 300 aircraft back into the active fleet. And at this point, we have about 100 aircraft, including the MAX, in long-term storage or temporary parking programs. We remain committed to the MAX. We look forward to its return to service. It is our most cost-effective airplane, and having it back into service will give us more certainty in terms of fleet planning. Given the most recent Boeing and FAA comments, we're hopeful to begin revenue service in late December, but given the history of delays, it certainly could slide into the first quarter. It will take at least a couple of months from the date the FAA formally ungrounds the aircraft for the flying revenue service, and that time will be needed for manual updates, coordination with our Certificate Management Office, required maintenance on the aircraft, pilot training, and then validation or readiness flights that we want to perform. So wrapping up, one of the most active action packed quarters that we've ever had. We navigated through the activities exceptionally well, producing superb operating results and customer accolades for our service. And as I said during the last quarter call, we are at war with COVID-19, and we are blessed to have a ferocious group of warriors that are ready for the fight. every day. So, Tom, with that, over to you. All right. Thank you, Mike. I'm going to jump right to it. So, our second quarter operating revenues were down right around 83% year over year, and that was not competitive. It was down right at 55%. Now, we did see stronger demand and sequential improvement each month throughout the quarter, and we're doing updates throughout the quarter regarding April and May. You know, we've recapped those months in the earnings release, so I'm just going to provide a few quick comments on June and then get right into the third quarter. So leading into June, May trends were an improvement over April with consistent net positive bookings and a steady improvement throughout the month. And that continued in June, and we saw another steady improvement in trends, which was very encouraging. With June operating revenues down 73% year-over-year and a load factor of 50%, and that was on capacity that was down 44%. Our business travel has been much more severely impacted on leisure travel as you and the result was that second quarter revenue in passengers for business travel fell roughly 90% to 95%. We've had a lot of discussions with corporate travel managers, and we have been hearing some pretty cautious optimism about travel resuming back in the third and fourth quarters, but certainly with the recent spike in COVID cases, that is far from what's going to happen. It's going to be much slower than we thought. Gary's alluded to this. Mike's alluded to this. We introduced the Southwest Promise. And the purpose of the promise was to do everything that we could to make sure that we're taking care of our employees and taking care of our customers and giving them the confidence and the comfort to travel with us again. And as you expect, we're doing customer research every week. And the things that are the most important to them, there are a lot of things we're doing with the Southwest promise, but the things that really stand out, you know, first is the wearing of masks by both employees and customers. The second, and this is a big deal, is limiting the seats available for sale. and promoting social distancing in the gate area as well as during the boarding process and during the flight. And finally, the work that our tech ops and ground ops teams are doing around the enhanced cleaning of the aircraft is right at the top of the list as well. So those are the three big things. The awareness among travelers of the Southwest province is very high. And the feedback that we're getting from our customers after they travel with us is that their confidence in Southwest and their likelihood to fly with us again in this environment is extraordinarily high. And they attribute that specifically to what we're saying and what we're doing with the Southwest Promise. We previously announced that we'll continue to block the middle seats through at least September, which caps our lids or percentage of seats sold at 65%. And we made the decision to extend this through October. And as you may recall, as loads picked up back in late May and into June, we actually began to add in extra flights, as Mike alluded to, to capture the demand that we were spilling with the load factor restrictions. And for the quarter, we added roughly 5,900 flights, and the vast majority, roughly 80%, covered their flying costs, which far outweighed those that didn't. The point being is, as Mike alluded to, again, we have the ability, we have the tools and the capability to adjust our schedule up or down as demand changes while doing a very good job managing our overall cash print. This week we've also announced a change to our mask or face covering policy. This will begin next week, so beginning on July 27th, we will be requiring all customers to wear a face covering throughout the flight, except for the brief period when someone is taking a drink or eating a snack, And the only exception to this will be for children under the age of two. And medical exemptions will no longer be accepted as a reason not to wear a mask. The reason we're doing this is we're simply seeing too many exceptions to the policy and it's put our flight crews in a really tough spot and also made our customers pretty uncomfortable. So this is something that goes into effect next week. So we are continuing to get very positive feedback from both our employees and our customers in the Southwest Promise. We're very committed to it. It's a big piece of what we're doing right now. And you can see in our day of travel customer net promoter scores, which as Gary alluded to, it's an all-time quarterly record of 79, which is pretty darn amazing given the environment that we're in. So our customers are certainly appreciating what we're doing with the Southwest Promise. All right, turning to Q3. With our mid-June investor update, we estimated another modest improvement for July. At that point, we're expecting operating revenues to be down roughly 65% to 70% with capacity down 30%. and a load factor in the 45% to 55% range. Obviously, as COVID cases began to spike again in late June across the country, areas of the country that have been performing with relative strength, such as Texas and Florida, began to slow very dramatically, and now we're estimating July operating revenues to be down roughly 70% to 75% year-over-year, with a load factor in the 40% to 45% range. Over the past several weeks, we've seen our net bookings decline 10 to 15 points year-over-year versus what we're seeing coming into the month, which is a pretty significant change, very quickly, very abrupt. The trends are similar in August. Demand is much softer than we anticipated, and we're estimating August operating revenues to be down 70% to 80% year-over-year with the lowest factor in the 30% to 40% range, and that's on capacity that's currently down 20% year-over-year. So we clearly have more work to do to bring our August capacity down further. But we have to keep in mind we actually have a fair number of bookings for August already, so we need to be careful of making any major adjustments to the schedule that could actually do more harm than good. But having said that, we do have opportunities to bring our capacity down for August. At this point, it's pretty challenging to give you a real clear estimate for September, but the demand environment that we're seeing in August is carrying over into September in demand for fall travel. the past several weeks as well. The September schedule was originally published with capacity down 10% to 15% year-over-year. We just recently republished September and brought down an additional 11 points. So September's current public schedule is down roughly 20% to 25% year-over-year. But again, given the demand environment, we intend to be more aggressive in reducing the September schedule. So for Q3, capacity is currently planned down 20% to 30%. but we know we have more work to bring it down further. And the approach that we take with capacity cuts is very specific, and we're going right down to the market and the flight level. And if we have a flight that covers variable costs and maintains strong itineraries in the market, it probably makes sense, and we're probably better off continuing to have that flight in the schedule in most cases. But at the end of the day, the demand environment has to support the capacity and vice versa. And our focus right now continues to be on achieving a sustainable level of cash breakeven or better. Very quickly, I want to give you a quick update on our Southwest business initiatives. And it's very obvious that business travel is down dramatically right now, and we think it's going to take several years for business travel to recover. But we also know that we under-index in a pretty significant way in the managed corporate travel business. So as business travel begins to recover, the size of the market, the size of the pie may be smaller for a period of time, but we intend to have a bigger slice of that pie. So we're continuing to make a lot of progress with our GDS deployments. We are now live on Travel Reports Apollo, WorldSpan, and Galileo platforms, and we will be live on Amadeus before year end. And we're taking advantage of the slowdown in business travel. We're doing a lot of work with TMCs and corporate travel managers across the country, and we're seeing tremendous, tremendous support to have the Southwest product available to them on industry standard GDS platforms. You may have seen that earlier this week we announced that we will be terminating our GDS relationship with Sabre at the end of the year. We have been working with Sabre for, I don't know, nearly two years, trying to get a contract in place that will allow us to have the full functionality within the Sabre platform, and we just have not been able to get there. So we are terminating our contract. We'll be sunsetting our Sabre GDS channel at the end of the year. The Sabre product that we're currently using has very limited functionality, and it's our ministry standard, which makes it difficult for TMCs and corporate travel managers to work with. It's also by far, and this is important, it's also by far the smallest by a long shot of our business channels. And most of the customers that use this channel also book on Southwest through our other channels as well. So we feel confident that we'll be able to recapture most of the revenue through our new GDS platforms. So we've announced this six months in advance that we can begin working with our customers on our conversion process, We want to have it up and going as the business recovers, and I think we're going to be in a very strong position to grow our market share and our presence in the corporate market. So with that, I'm going to turn it over to Tammy.