Business Model Of Southwest Airlines

Published Date: 02 Nov 2017

Southwest Airlines (Southwest) is one of the leading low cost airlines in the US. The company ensures scheduled air transportation in the US. The strong operating strategy enables the company to achieve high asset utilization and reliable on-time performance. Additionally, this helps the company to raise their revenues and to tap profitable markets. However, a weak economic outlook for the US might make on obstacle or pressure on the company’s revenue.

SWOT Analysis

Strengths:

Reasonable Estimates: The company carries out price to earnings is only 14.10, which is almost all of the standards are relatively cheap.

Prevalent Reach: By the end of 2011, the company serves 72 cities in 37 states, stretching across the United States, and their acquisition of AirTran now extends its influence in the international skies, mostly over Mexico and the Caribbean islands, so that the activities of the company are not meant concentrated in a particular region.

Mutual Funds: The company currently pays a quarterly dividend of $ 0.01, which puts the annualized dividend as they give 0.44%, while it may seem unimportant and insignificant dividends, it is still almost half a year CD rate (Certificate of Deposit).

Growth in Sales: Year-on-year sales growth was in double digits in recent years. However, the company's growth is projected to slow down to more modest high single digit rate in the future.

Established Brand: Most of the airline's success is due to their prestigious brand, the pilots are flocking to the more famous and prominent companies, renowned for their safety, and having an established brand is an important advantage.

Opportunities:

Enlargement: In 2011, the company added in Charleston, South Carolina, Greenville-Spartanburg, South Carolina, and Newark, New Jersey to the list of cities the company's services, and further expansion likely.

Conquers the market: Recently, American Airlines has appeared in the news in a negative light, with loose seats and mass layoffs, with that comes the opportunity for Southwest to capture the business once American Airlines.

Global Purchase: On May 2, 2011 Southwest acquired AirTran, and further acquisitions are certainly possible, especially in the South-West to be relatively large.

Weaknesses:

Debt Obligations: The company is estimated to have $ 361 million of debt on the balance sheet, and as long as they do not pay these debts will drag on much of their business.

Mounting Operating Expenses: The average cost of a gallon of fuel from 2005 to 2011 increased 182.30%, consumers are constantly demanding more services and amenities to their flights, as well as trade unions are fighting for viscously more money for its members. At the end of the day, the company does not have much money in stock (net profit margin 1.14%).

Relatively High Price of the Product: While Southwest is known for offering great value, it is still a very expensive process to buy a plane ticket, and during the economic downturn, people do not have money to spare.

Threats:

Weather Suspense: As we have seen recently with Hurricane Sandy, natural disasters can lead to a significant loss in business for airlines, and because nature is so unpredictable, there is always a great deal of uncertainty revolves around the company.

Enormous Competition: The airline industry is incredibly competitive, and the race to get the business user often leads to a reduction in margin.

Threat of Rising Oil Prices: When prices are rising jet fuel, airlines are faced with the decision of passing the pain on to their customers, and possibly lose business or acquisition costs and ruining their margins.

The Impact of Shaky U.S. Economy: The company operates primarily in the United States, and, therefore, any slowdown in economic growth only for the American economy can dramatically hurt business in South-West, while other international companies have the ability to weather the storm.

INTERNAL ENVIRONMENT

Distinctive Core Competency

The term "Core Competencies" refers to your organization’s areas of greatest expertise. An organization’s core competencies are those strategically important internal capabilities that are central to fulfilling its mission or a distinctive competence that provides a firm a competitive advantage in its industry. Core competencies frequently are challenging for competitors or suppliers and partners to imitate. Absence of a needed core competency may result in a significant strategic challenge or disadvantage in the marketplace.

Core competencies may involve technology expertise, unique service offerings, a marketplace niche, or a particular business acumen (e.g., business acquisitions). Core competencies focus on an organization’s internal capacities and deep proficiencies that enable a company to deliver unique value to customers. Core competencies also contribute substantially to the benefits a company’s products offer customers.

The distinguishing characteristic of an organization’s core competencies are that they develop overtime and represent the continual accomplishment of a firm’s critical success factors over time. Another distinguishing characteristic of a core competency is that it is hard for competitors to copy or procure.

Southwest Airlines Core Competency

Southwest Airlines enjoys the US Airline industry’s best cost advantage. This advantage is not solely due to its production and efficiencies but also due to many other internal competencies that are distinctive to the company – including the industry’s fastest turnaround time.

Fast turnaround time defined as the time from when a plane lands to when it leaves again. Due, in part, to a variety of factors such as the use of uncongested airports, minimal food service, and early check-in, the company can turn around a plane in less than 30 minutes – compared to the industry average of more than 45 minutes.

Consider the financial influences if this 15 minute advantage – A carrier with 2,000 flights per day that uses each of its planes for 10 hours per day. The carrier with a 15 minute advantage would save 500 hours per day turning its aircraft. This carrier would need, perhaps, 50 fewer airplanes (500 hours saved/10 hours per day of flying per plane) to offer the same number of Revenue Per Passenger Miles. If each plane costs approximately $50 million, this would translate into a savings of $2.5 billion in assets. The core competencies can allow a company to invest in the strengths that differentiate them in the industry.

In order to develop core competencies a company must:

Determine which internal capacities are key strategic factors to creating and sustaining value.

Conduct an organization wide core competency assessment and isolate strengths and weaknesses.

Benchmark against other companies with the same capacities to ensure that the firm aims to develop key factors.

Create an organizational road map that sets goals for competence building.

Isolate these key factors and hone them into enterprise-wide strengths.

Encourage involvement in core competency development across the enterprise.

Tangible and Intangible Resources

Financial Resources - Southwest has always managed its cash well. In the financial year 2001 , the airline had generated 64 ,446 ,773with an operating income of 821 ,659 and a credit value very good

Physical Resources - In all the cities it operates instead of having agents or computerized booking system Southwest has its reservation center and vending machines at the airports. Previously Southwest only operated in cities near Texas, but started to expand in 1993 to other areas in the northeast part of US where the population density was the highest . In addition the company assets have also increased from 22 million in 1971 to approximately 9 billion in 2002

Technological Resources - Southwest has always believed in cutting down additional cost . One of the strategies has been to use only a single type of airplane Boeing 737 for its entire fleet . The size of fleet in 2002 was 355 . Of the remaining aircrafts were leased . At the end of 2001 , Southwest was committed to 132 s for the 737-700 aircraft . The company 's website is responsible for 46 of the has the one of the largest number of clicks per day among all the airline operators

Intangible Resources

Human Resources - Southwest airlines increased its employee strength from 195 in the year 1971 to approximately 34 ,000 in the year 2002 . The airline has never laid-off an employee during this period . The company 's management team is excellent be it the president Herb Kelleher , CE James Parker or COO Colleen Parker

Reputation Resources - The brand value of Southwest is one of the most unique in its area . The airline in addition to being known as a low-cost airline , Southwest is also known for its excellent service and quirky attitude . The customer associate the name Southwest with an airline that is fun to fly with , caring and also economical

Capabilities

Management - The management of Southwest is considered to be one of most dynamic of all times . The management policies introduced by Herb Kelleher are considered by industry analysts to be intuitive and effective . This quality is also shared by other members of the management chiefly the COO Colleen Barrett

Distribution - By April 2002 , Southwest was operating in about 58 cities in United States . The growth plan has been conservative with only a few cities being researched and added each year . The company has also avoided the temptation to start international services

Marketing - Southwest has always been aggressive in promoting itself The slogans of the company are as famous as the airline itself . The most famous example was the ad Nobody 's going to shoot Southwest mott of the sky for a lousy 13 , in 1973 , when Brainiff airlines started selling the tickets for one of its routes at the price for competing with Southwest

Human Resources Management - Southwest has always maintained good relations with the employees . The company has 81 of its labor unionized and the pilots prefer to belong to an independent union instead of the usual...

SUPERIOR FINANCIAL PERFORMANCE

General Ratios for Southwest Airlines Co.

Objective

To measure the solvency, or the ability, of Southwest Airlines Co. to meet its short-term financial obligations and to assess the liquidity, or the ability, of Southwest Airlines Co. to convert current assets to cash to reduce current liabilities.

The Ratios

The most widely used financial ratios for establishing the short-term liquidity of a company are highlighted in the below chart.

Financial Ratio

Numerator

Denominator

Current Ratio

Current Assets

Current Liabilities

Quick Ratio

Cash + Cash Equivalents +Accounts Receivable

Current Liabilities

Average collection period in days

Average Accounts Receivable x 365

Sales

Inventory Turnover

Cost of goods sold

Average inventory at cost

The short-term liquidity ratios are used in the evaluation of short-term liquidity to convert current assets into cash in order to reduce the financial obligations of the company as they become due. These ratios are particularly significant to the creditors and potential lenders of a company because they determine the ability of that company to meet current payments of a debt. However, investors and stockholders are also interested in the company’s definition of current assets and current liabilities since these classifications have a direct impact on the amount of available working capital of an entity. As a general rule of thumb, a current ratio of 2:1 and a quick ratio of 1:1 are considered to be acceptable.

Other ratios commonly used to evaluate short-term liquidity are average collection period in days and inventory turnover. The main focus of these ratios is to evaluate how soon accounts receivable will be collected and how soon inventory will be sold. Collection period is a key measure of accounts receivable quality. Increases in the average collection period of receivables may indicate increases in acceptance of poor credit risks or less energetic collection efforts. Inventory turnover measures how quickly inventory is sold. Decrease in inventory turnover may indicate problems such as slower-moving merchandise or a worsening coordination of buying and selling functions.

As with all financial ratios, the industry practices and the company’s management and operating practices need to be taken into account during the analysis.

Financial Comparison

 

2009

2010

2011

2012

Current Ratio

1.25

1.29

0.96

0.91

Quick Ratio

1.03

1.13

0.76

0.71

Average Receivable

273.5

279.5

396.5

481.5

Average collection in days

22.8334

21.7475

25.6691

28.5908

Average Inventory

313.5

342.5

443.5

870

Inventory Turnover

12.0032

12.762

12.726

3060

Analysis

As shown in the comparative table, Southwest Airlines Co. short-term liquidity has varied over the 4 years and has persistently remained below a 2:1 ratio which could be perceived as less than optimal, generally speaking. The quick ratio also remained under 1:1, which is considered to be the benchmark value for this ratio. However, relative to the US airline industry, Southwest Airlines Co. Has maintained a higher than average current ratio and quick ratio has remained greater than competitors for three out of the past 4 years. These trends indicate Southwest Airlines Co have been in a better position than a competition to meet short-term obligations.

The airline industry is a debt intensive industry due to the significant amounts of debt incurred in the financing (either leases or purchases) of aircraft necessary for operations. The current and quick ratio can be manly influenced to the number of aircraft leases either debt obligations, whereby the form of assets varies and onwards change to current liabilities. Moreover, the growth of airline operations and service to developed countries, would affected to supplementary liabilities in the form of gate and ticket counter at new airport destinations.

According to comparative table, the Average collection period in days has significantly raised since 2011. Under certain circumstances, the majority of all Southwest’s ticket sales to customers are purchased by cash or credit cards. This results in a low average collection period and is not a crucial factor of Southwest’s short-term policy. As illustrated on the table, the Southwest Airlines average collection period is one of the best in the industry.

Specifically, Southwest Airlines provides low fare air transportation services and therefore is not a highly inventory sensitive entity. Southwest Airlines’ inventories consists of flight equipment expendable parts, materials, and supplies and is carried at average cost, which approximates market value. These items are charged to expenses when issued for usage. Southwest's inventory turnover is relatively high as compared to the industry medium quartiles.

EXTERNAL ENVIRONMENT

FIVE FORCES OF COMPETETIVE ADVANTAGE

The Five forces of Porter is a model that is used to analyze the industry environment of a business by evaluating five forces that affect competitiveness with an industry. The industry environment is closer to the organization than the macro-environment. However, the organization cannot control this environment. The Five forces of competitive advantage involve straightforward principles:

Competitive Rivalry

Existing competitors refer to firms that are already present in the market and which offer similar commodities or services. The numbers and strength of existing competition affects the company’s market share as well as the pricing decision of the company. The US airline industry highly competitive as it consists of several large airlines such as; United Airlines, American Airlines, Northwest, Virgin and Jet Blue, as well as numerous small airlines that operate in niche markets. High competition in the industry has affected the Southwest Airlines’ market share. Nevertheless, Southwest is the largest in the country it does control a significant section of the market. High competition has also affected fair prices as competitors engage in price wars.

Threat of Entry

The threat of new entrants is not hugely significant in the airline industry. This is because the airlines industry has many entry and exit barriers. One of the entry barriers is high capital requirement. Large amount of capital is required to start up an airline business as it involve; purchase/ leasing of aircrafts, employment of highly skilled personnel and investment in technology. Another entry barrier is high competition. High competition has driven down prices and significantly reduced the market share. This has makes difficult for a new airline to enter the market. High fuel costs, high labor costs and low prices also make it difficult for new entrants to survive in the industry.

Buyer Power

The power of consumers also has an impact on prices with the industry. Buyers are more powerful if they are few and/ or organized. However, air travelers in the United States are many and fragmented. This has significantly reduced their power to influence the industry prices. However, buyers are becoming more informed and this is likely to give them power over the airlines. When buyers are informed, they are in a position to know about differences in prices among competitors and availability of substitutes.

Threat of substitution

Substitutes refer to commodities/ services that fulfill similar needs. The threat of substitutes in the airlines industry is very real. There are mainly alternative to airlines transportation including; road; rail and water transport. However, these alternative modes of transport are slow and less convenient they are relatively cheaper that air transport. This gives them a potential advantage over the airlines. The threat of substitutes is having an impact on prices within the airline industry.

Supplier Power

The power of suppliers has the potential of influencing the price at which airlines are obtaining inputs. One of the essential inputs in the airline industry is oil. Powerful suppliers who form cartels in order to influence prices characterize the oil industry. The oil suppliers have also integrated vertically with most oil companies running exploration, manufacturing, distribution and marketing operations. This coupled with the high demand of oil put the oil supplier in complete control of the market.

SUSTAINABLE COMPETETIVE ADVANTAGE