西南航空 (LUV) 2008 Q4 法說會逐字稿

Good day, everyone.

Welcome to the Southwest Airlines fourth quarter 2008 earnings conference call.

Today's call is being recorded.

We have on the call today Gary Kelly, Southwest's Chairman, President, and Chief Executive Officer, and Laura Wright, the Company's Senior Vice President, Finance and Chief Financial Officer.

Before we get started please be advised this call will include forward-looking statements.

Because these statements are based on the companies current intent, expectations and projects, they are not guarantees of future performance and a variety of factors could cause actual results to differ materially.

This call will also include references to non-GAAP results.

Therefore, please see our earnings Press Release and the Investor Relations section of our website at Southwest.com for further information regarding our forward-looking statements and for our reconciliation of our non-GAAP results to our GAAP results.

At this time I'd like to turn the call over to Gary Kelly for opening remarks.

Please go ahead, sir.

Thanks, [Steve].

Thanks everyone for joining us this morning and Happy New Year everyone.

We are pleased once again to report a quarterly profit and a full year profit.

The fourth quarter 2008 represents our 71st consecutive profit, excluding special items.

2008 the full year represents our 36th consecutive year of profitability.

And in a year like we had in 2008, that's no small accomplishment.

So I want to thank all of our employees at the outset.

It's just a phenomenal job in what was a roller coaster year.

Obviously, we have a deep recession and despite a deepening recession, our people produced very strong revenue results.

So, I'd like to make a comment about that first.

I'm very proud of them, very proud of the industry leading operational excellence that they produce every day, and also the industry leading Customer Service.

We had another very strong year of on time performance.

We have near the top of fewest customer complaints.

We have very few flight cancellations for the year.

All of those very important metrics.

Once again our people have us right at the top of the industry.

Virtually every survey that we conduct internally or see externally reveal Southwest Airlines to be a top brand in our industry and getting better.

And I'm very proud of that and very proud of our people for that.

We continue to out perform our competitors on revenue growth as evidenced once again here in the fourth quarter.

And clearly, evidence that our No Hidden Fees campaign is working.

Last year, we made great progress enhancing our customer experience.

Things like our new boarding process, our extreme gate makeover, the ability now to offer Business Select to customers who want that product, our cash less cabin and we're continuing to invest in our customers this year as well.

We hope to bring Internet in cabin soon.

We've got continuing development under way of the next generation Southwest.com, Rapid Rewards, revenue management, and also expanding our code sharing capabilities.

So there's a lot of work under way.

There's a lot that we are investing in for the future.

And again, I'm very proud of the progress that our folks are making.

It's probably easy for me to say and everyone understands that the economic environment has never been more uncertain, certainly in Southwest Airlines history.

And accordingly, we've got to adjust.

We have adjusted.

We will continue to adjust as necessary and given this very dramatic environment, our immediate goals will be to protect.

We want to protect our financial health and we want to protect our profitability.

And our adjustments will be guided by those two overarching goals.

As to what we have done to adjust, I think just in the nick of time we've cut our fleet growth and as we're reporting today, our fleet growth plans are suspended indefinitely.

I definitely want Southwest Airlines to grow.

I believe we will be able to grow, but that is certainly a secondary objective in this kind of an economic environment.

Coincident with that of course we slashed our capital spending for 2009 and 2010 and Laura is going to report on that in a few minutes.

We've also boosted our liquidity in a world where credit is simply unavailable.

No Company can afford to sit by and not seek access to the capital Markets.

And I am absolutely delighted that we were able to do that and in very, very short order and despite a very difficult environment.

And I think despite a lot of cynics who said that we would not be able to raise money in that environment.

So I'm very proud of our Finance Department for what they've accomplished there.

Of course, energy prices have been all over the map in 2008 and they've collapsed and we've had to adjust and adjust aggressively.

So we've managed our fuel hedge position I think quite well.

We've managed it for a bear market and we will be prepared for a bull market when that turn comes and surely, it will.

But certainly for the time being, we foresee very soft energy prices.

We're going to continue to optimize each flight schedule.

And of course, by that we mean we'll continue to prune unproductive flights and this is a technique that is unprecedented for Southwest Airlines.

So I'm very proud of our schedule planning department, number one to have the foresight to get that capability in place and number two, to deploy it so effectively.

Even with that, we're delighted that we'll be able to, at least for this year, continue to expand our route map.

So while we won't be increasing our flight activity, we will be reallocating some of our flights to some new opportunities that we think are quite exciting.

Minneapolis/St.

Paul is coming in March and hopefully, we can close on our transaction to ultimately acquire slots for New York's Laguardia Airport.

I would expect that at earliest, we would close on that transaction in March and then would have a schedule announcement for Laguardia after that.

But having said all that, all the while what we want to do here at Southwest Airlines is take care of our people, protect our employees, preserve the culture because that is so important to what we do and our whole Customer Service experience.

So I'm very pleased that we've been able to do that.

So I want to thank our people one more time for a very solid 2008 and that's despite some extraordinary challenges.

And I for one am very glad that 2008 is over.

And I would say that Southwest Airlines more than just survived it, we were very, very well prepared for some really tough times and that's when our low fare brand and our people have historically really excelled.

So finally, I would like to turn it over to Laura Wright, our Chief Financial Officer, to go through the earnings report.

Thank you, Gary, and good morning, everyone, including our webcast listeners.

Our fourth quarter GAAP results included special non-cash charges totaling net $117 million relating to mark-to-market and other items associated with SFAS 133.

Excluding these special charges and other special items, our fourth quarter net income was $61 million or $0.08 per diluted share.

These results exceeded Wall Streets mean estimate of $0.05 per diluted share.

Since we fielded just a few fuel hedge questions recently, I'm going to begin with a discussion regarding our fuel cost and our hedging.

We recently announced the significant reduction in our net fuel hedge portfolio to approximately 10% in each year from 2009 to 2013.

A net 10% fuel hedge in each year represents our aggregate hedge portfolio, combining our original hedge positions that still exist today with the offsetting hedge positions we layered on during the fourth quarter.

The result is a remaining 10% hedge in each year from 2009 to 2013.

Based on current market prices, we are estimating our 2009 fuel cost per gallon, including fuel taxes, to be less than $1.90, set to exceed the current price by about $0.17 per gallon.

Although this is higher than market, it is significantly less than our economic jet fuel cost per gallon including fuel taxes of $2.32 in 2008.

And it's almost a dollar less than what we were forecasting for our 2009 fuel costs back in July when prices peaked, representing approximately $1.5 billion in annual 2009 savings.

In fact, even with a significant hedge portfolio we had in place, we have participated in about 85% of the decline in the market since last Summer resulting in a cumulative $10 billion reduction in our projected fuel and oil expense for 2009 to 2013 in total based on the current forward curve.

As of two days ago, the total net liability of our entire fuel hedge portfolio is approximately $1 billion.

To provide you with some sensitivity with respect to the impact of the remaining net 10% hedge, our 2009 economic fuel price at $25 a barrel is estimated at $1.14 per gallon, including taxes, which is a $0.24 increase above the unhedged market price at that level.

At $100 a barrel, that estimate increases to around $3.25 per gallon, including taxes, which is a $0.09 increase above the unhedged market price.

Again, using the current 2009 forward curve as it exists today, we're estimating approximately $0.17 per gallon increase over unhedged fuel prices for 2009.

So clearly we benefit from our remaining 10% hedge which begins to provide some price protection as you move up the curve for 2009.

However since the remaining hedge volume is only 10%, a hedge does not generate enough gains to completely offset the locked in losses until crude reaches approximately $140 per barrel on average for the year.

For 2010, using a flat curve, at the $25 and $100 crude levels I just walked through for 2009, we estimate a similar amount of spread between our 2010 economic fuel price per gallon and the unhedged market prices.

Again, all of these sensitivities assume there are no changes to our existing hedge portfolio.

The existing fuel hedge liability could potentially be offset if we can successfully layer in additional hedges in advance of a rising fuel environment.

We certainly do not wish for fuel prices to rise, but we will not abandon our philosophy of protecting our costs through hedging.

With respect to our fuel hedging strategy, we have not changed our fundamental philosophy that we must protect our cost structure from market volatility and catastrophic increases.

However, in the current environment, with a very weak economic outlook, significant deterioration in demand, surplus inventory, and a paralyzed credit market, we do not believe it is the time to be long on energy.

It's a bear market with a very steep contango, which means the back end of the curve is significantly higher than the current months.

As opportunities unfold that allow us to put in protection in a cost effective manner, we are well posed to react.

Turning now to our fourth quarter cost performance excluding fuel, our unit cost excluding special items increased 10.9% largely due to the significant increase in our fuel costs.

Even though we realized $32 million in favorable cash settlements from our fourth quarter fuel hedge contracts, our economic fuel cost per gallon increased 24% to $2.27 per gallon versus fourth quarter of '07.

Our fourth quarter economic fuel prices include approximately $39 million in fuel and sales and excise taxes.

During the quarter, we reclassified our fuel sales and excise taxes from other operating expenses to fuel and oil expenses for both the current and all prior periods.

Excluding these taxes, our fourth quarter economic fuel cost was $2.17 per gallon which was slightly better than expected due to the rapid decline in energy prices throughout the quarter.

Based on our current net fuel hedge position and market prices, we expect our first quarter 2009 economic fuel prices including taxes to be in the $1.80 range including fuel taxes versus $2.10 of which we recorded in the first quarter of 2008 restated to include fuel taxes.

This $1.80 range estimate for the first quarter includes a $0.17 per gallon fuel penalty versus unhedged prices.

Because of the instruments we chose to use to reduce our net fuel hedge to 10% in each year through 2013, we did not incur any additional premium costs from these transactions.

However, we still incurred the premium costs associated with the original contracts which were approximately $22 million in the fourth quarter.

We estimate our first quarter 2009 premium costs will be in the $32 million range.

Our fourth quarter unit costs excluding fuel and related taxes increased 6.9% to $0.0686 which was in line with expectations.

As expected, increased airport and maintenance costs contributed to our fourth quarter ex-fuel unit cost increase.

Although there was about a 1% cost penalty associated with minimal fourth quarter capacity growth, the RASM increase from our capacity changes more than offset this CASM penalty.

We expect our maintenance, airport and additional pressures associated with further reductions in our capacity to continue into the first quarter of 2009.

As a result of these trends, we currently expect our first quarter 2009 unit costs excluding fuel and related taxes to exceed fourth quarter 2008's $0.0686.

We anticipate an additional 2% CASM penalty in the first quarter is attributable to the 4.4% capacity reduction.

However, the RASM increases associated with our January capacity reductions well exceed this cost penalty.

The 20% year-over-year increase in our maintenance unit costs were primarily driven by increased airframe maintenance costs.

We also experienced increased engine maintenance costs and we anticipate our first quarter maintenance cost spend to be similar to our fourth quarter 2008 spend.

Our landing fees and other rentals unit costs increased 18% to $0.65 primarily due to airport rate increases and fewer favorable airport audit adjustments this year.

Although our airports are generally trying to respond appropriately to the recessionary reductions in industry capacity, due to continued rate inflation at various airports and the expectation that we will not receive a similar amount of favorable adjustments in the first quarter of '09, we expect our first quarter airport unit costs to exceed fourth quarter 2008 $0.65 and we're currently estimating first quarter to be in the low $0.70 range.

Our salaries, wages and benefits increased to $0.0332 cents over the same period last year primarily driven by increased healthcare costs, accruals associated with our ongoing labor negotiations, and weather related costs.

Our stock option expense for the fourth quarter was $5 million versus $7 million last year.

Our profit sharing expense was $18 million, our 401(k) contribution was $37 million, and based on our current cost and capacity trends, we expect our first quarter 2009 salaries, wages and benefits unit costs to increase from fourth quarter 2008 of $0.0332 but to not exceed $0.0340.

Our aircraft rents per ASM were flat year-over-year at $0.15 due to our recent sale lease back transactions, we currently expect our first quarter 2009 aircraft rents for ASM to be around $0.18.

Our other operating unit costs excluding fuel tax increased 2.3% to $0.0135 primarily due to revenue related costs.

We currently expect our first quarter other operating unit cost to be under $0.0150.

Interest expense increased during the fourth quarter 3% due to prior year and 2008 financing transactions.

We expect our first quarter 2009 interest expense to be under $50 million.

And with respect to guidance on our tax rate, we currently expect our first quarter tax rate to be in the 38% range.

Moving to revenues, we were very pleased with our record fourth quarter performance.

Despite a very troubled economy, our operating revenues were up almost 10%, with a 0.8% capacity increase, to $2.7 billion which was an 8.8% unit revenue or RASM increase.

Our passenger revenues increased 9.8%, to $2.62 billion.

Our traffic declined 1.4% resulting in a fourth quarter load factor of 67.8% which was 1.5 points lower than last year's strong fourth quarter performance of 69.3%.

Although our load factor declined, our yield was up 11.4% year-over-year to $0.1519 and our average passenger fare increased 14.9% to $126.12.

We're very proud of these results and the progress we have made to grow revenues.

In addition to fare increases we've enhanced our revenue management capabilities significantly over the past year both of which contributed to our yield and fare increases.

Our schedule planning, revenue management and marketing teams are doing a terrific job optimizing our schedule and maximizing our revenue opportunities in this challenging economic environment.

The revenue impact of our capacity changes represented 2% to 3% of our year-over-year RASM increase during the fourth quarter.

We've enhanced the customer experience and created more value for our customers with our new boarding process and our new Business Select product.

Our Business Select revenue was $19 million in the fourth quarter and almost $75 million for the full year 2009.

On a unit revenue basis, our RASM year-over-year trends for October and the holiday periods were strong.

October's RASM was up 14% on a year-over-year basis.

And RASM was up year-over-year approximately 7% for November and December combined.

Based on bookings and revenue trends so far, January is also tracking to be up around 7% year-over-year.

Post January, we are seeing notable softness in our booking trends.

It's tough to measure the impact since our booking curve is so short.

We did see more close in bookings in December and in January than we have been experiencing.

However, we also saw our holiday periods performance exceed non-holiday periods.

So we do remain cautious.

Based on current trends and taking into account the Easter mismatch, Easter was on April 12th, it is on April 12 this year and it was on March 23rd last year, we do not expect that January's strong run rate will continue into February and March.

Again with the shortness of our booking curve, it's difficult to draw any meaningful conclusions regarding trends.

However, our outlook must be cautious given the recessionary environment.

Our fourth quarter freight revenues increased 5.7% to $37 million as a result of higher rates.

Based on current trends, we expect similar year-over-year growth in the first quarter of '09 but no guarantee in this weak economy.

Our other revenues increased 8.7% to $75 million, primarily due to increased business partner income and increased military charter revenue.

In the first quarter of 2009, we are expecting other revenues to move more in line with our year-over-year capacity changes.

Turning to the balance sheet, we ended the year with core unrestricted cash and short-term investments of $1.8 billion.

Considering the difficult credit markets we were pleased to complete several transactions during the fourth quarter, boosting our liquidity by $1.1 billion.

We drew down $400 million of our $600 million revolving credit facility.

We raised $400 million through a secured term loan.

We raised $173 million from the first five aircraft tranche of our sale lease back transaction, and we monetized $91 million of our auction rate securities under a new line of credit.

Subsequent to year-end, we have also closed on the second five aircraft tranche of our sale lease back transaction for another $173 million.

Taking into consideration all of these recent financing transactions, our leverage, including aircraft leases, including those that we closed in January, is approximately 45%.

The value of our unincumbered aircraft at year-end is around $8 to $9 billion, and we still have $200 million available under our $600 million unsecured revolving credit line.

And we remain the only US airline with an investment grade rating recently affirmed by all three credit agencies.

Our year-end core cash balance of $1.8 billion was subsequent to the posting of $240 million in cash collateral to our fuel hedge counterparties.

As of January 20th, we had posted $300 million in cash collateral and have used approximately $50 million of our $400 million aircraft fuel hedge collateral pull.

We are not required to post any collateral on the remaining portion of our hedge portfolio.

We previously announced an agreement with one of our counterparties that significantly limits potential cash collateral requirements with that counterparty.

Under the new agreement, our cash collateral obligation is limited to $300 million as long as our mark-to-market exposure with that Company is less than $700 million.

Any potential exposure between $300 million and $700 million has been collateralized with Boeing's 737-700 aircraft.

This is the only counterparty that currently has any cash collateral obligations given our investment grade credit rating.

Our required cash collateral post would have been approximately $500 million higher at January 20th had we not substantially modified our fuel hedge portfolio during the fourth quarter and completed the collateral agreement with one of our counterparties.

We currently have hedging agreements with eight counterparties, but currently have major contracts with only three of them.

Although not all of our counterparties require cash collaterals, based on our investment grade credit rating, we will continue to explore any and all avenues to minimize our exposure to any potential liquidity risk.

Our full year 2008 Capital Expenditures were $923 million.

And for 2009, we currently expect our cap spending to be in the $750 million range which is about $250 million less than we reported at last years or last quarters conference call.

And this is due to the decrease in Boeing progress payments related to the revised 2010 and 2011 delivery schedule, as well as cuts that we have made in our non-aircraft spending.

For 2010, we currently expect our Capital Expenditures to be in the $800 to $900 million range.

And I'll close today with some comments regarding our fleet and capacity plans.

We did not take delivery of any new aircraft during the fourth quarter but we returned one leased -300.

The three remaining Boeing -700's that were scheduled for the fourth quarter of '08 were delayed as expected into 2009 due to the Boeing machinists strike.

So for 2008 in total, we added 26 aircraft and we've returned nine -300's to lessors to end the year with a fleet of 537 aircraft.

Two more than previously expected due to the delay of two -300 lease returns planned for the fourth quarter but delayed into the first quarter of '09.

Our fourth quarter available seat mile capacity increased 0.8% and our full year 2008 ASM's increased 3.6% year-over-year.

For 2009, we expect to take delivery of 13 new Boeing aircraft, which includes the three originally scheduled for delivery in '08.

We also plan to return or retire 15 aircraft, to end 2009 with a fleet count of 535.

Today we announced our revised Boeing 737-700 delivery schedule.

We worked with Boeing on adjustments to the delivery schedule to reflect impacts from the machinist strike and our own desired growth in light of the current economic environment.

We've reduced our 2010 aircraft deliveries, to ten firm orders and we've reduced our 2011 aircraft deliveries, to ten firm orders and ten options.

We've also exercised five options for firm delivery in 2016.

Additional adjustments have been made to the schedule beyond 2011.

However, our total firm orders, options and purchase rights remain at 220.

And we've included the revised delivery schedule in the accompanying tables to the Press Release for your convenience.

For the first quarter of 2009, we are currently expecting our available seat miles to decrease 4.4% year-over-year.

We remain cautious about our 2009 growth and currently expect to reduce our available seat miles by approximately 4% for the year.

We continue optimizing each published flight schedule.

And since August of 2007, we have eliminated approximately 10% of daily flights from our schedule.

This continual pruning of unproductive capacity allows us to increase a potential efficiency and profitability of our network and provide flexibility to pursue compelling market opportunities.

And Steve, with that, Gary and I are ready to take your questions.

Thank you.

(Operator Instructions) And we'll go first to Gary Chase, Barclays Capital.

Hi.

Good morning, everybody.

Hi, Gary.

Hi, Gary.

Guys, I wondered if you could just very quickly just give us a conceptual explanation of what you did with the hedge book and how you're thinking about those losses?

So in other words if you were to look at it on a mark-to-market basis today if I read the release right there's $1 billion in mark-to-market loss.

You're spreading that over your gallon consumption between here and I think I saw disclosure as far out as 2013.

Is that the right way to think about it?

And obviously it's placed a little bit differently in the year.

So you're in essence locking in a loss and spreading it over those periods or am I not getting that right?

Well, I think that that is the right way to think about it, although it's a bit of an over simplification.

But we have a hedge position all the way through 2013.

So you understand that correctly.

The mark-to-market is now largely contained around $1 billion because we have substantially reduced the hedge portfolio.

So there's not a great risk, in other words that it goes a lot higher than that.

I'll want to let Laura speak to this too, but I think the way to view it is that we have built our hedge insurance policy with options.

And those options are mostly collars and I know you're familiar with all of this, Gary.

We have not sold those instruments.

We still have them, so to net the hedge down to a net of 10%, we've sold swaps against it.

So I think the way to visualize it is we've got a pool that's long and we've got an offsetting pool that's short.

The losses on the long part exceed the $1 billion; the gains on the short part offset that.

So we can, depending on your view of fuel prices in the future, we have a long way to go before I think we're ready to concede that we have " locked in losses" for the next five years.

I think the way that we're viewing it is that we've capped our losses at this point so that there'll be roughly no more than about $1 billion.

And it's all with the understanding that we still have a small hedge out there of 10%.

Okay, and I guess Gary just trying again to get my arms around it conceptually, what did you have to sacrifice to cap that loss?

Because there was no premium paid.

We just did swaps, Gary, so there was straight up sale of swaps.

So we're short swaps in essence, and if we want to unwind that, we simply buy the swap back and it reactivates the hedge.

Okay, okay, now I understand what you're saying.

Thank you for that.

Laura, could you also give us, when you read the Press Release, you talk about notable softness in bookings.

I mean I know you don't want to give an exact number but is there any way to quantify what that means?

Can you tell us what maybe even book load factors are doing?

And just give us a little bit of help on how we might think about what it means to be notably soft.

Well, let me answer that first.

First of all, the bookings are less for at least March-April than they were a year ago.

February I think is building.

And I don't think we're ready to predict as an example that our February load factor will be less than last year.

We just don't know yet,.

So the best answer we can give you is you know what's happened in the fourth quarter.

You know what we've reported thus far in January.

We've said that bookings are soft in the future; they were for December and January also, and December/January so far turned out to be pretty good.

Right.

So I don't think any of us are comfortable in predicting one way or the other.

I think that's the watch word right now for the outlook for 2009 is a tremendous amount of uncertainty.

But we're not trying to guide you one way or the other right now.

We're just trying to tell you exactly what it is.

I'll let Laura tell you what the exact bookings are.

And I'll just caution you once more, it would be dangerous to draw any real meaningful conclusion from such few bookings that are out there for particularly the March/April time period.

I think that's what I was driving at is I'd certainly agreed with you on the uncertainty part.

I was driving at the bookings have been soft for the last several months when RASM has been good, so this isn't necessarily new.

It's just no one knows.

I think that's the bottom line is we're admitting that bookings can't be anything we can hang our hat on to support a continued outlook consistent with what we've seen in December/January.

So we're going to have to build a lot of bookings between here and there to be able to continue that run rate and we don't know whether we can do that or not.

That's certainly the objective, but we just don't know.

Thank you very much.

Yes, I think Laura wants to give you some color there.

Sorry.

Just to give you some color, Gary.

If you look at February our booked revenue is down about 12% year-over-year.

And -- but you got to think about where we are for February.

At the beginning of January, we only usually have about 20% of our bookings in place and that builds during the month.

So again, we saw a lot more late bookings in December and we see more in January, so it's hard to tell but the bookings are down year-over-year.

Okay, and Feb.

capacity Laura is going to be down fourish?

In February?

Yes.

For the quarter, 4.4%.

Okay, so down 12 revenue, on down 4.5 capacity?

Adjusting for the leap year, in February.

Right, yes.

Okay, thank you.

We'll go next to William Greene with Morgan Stanley.

Yes, good morning.

I'm wondering if we can talk a little bit about the CapEx numbers?

As you take delivery of the new aircraft obviously you're still making a pretty sizeable net investment in the fleet.

And we've struggle a little bit here with the returns and we're in a period of weakness.

So why wouldn't you be selling sort of the new aircraft to reduce the capital spending to essentially maintenance levels until the returns justify further investment in it?

Bill, we have really reduced our cap spending by reducing the number of new airplanes we're taking.

If you look at our cap spending for new aircraft versus the guidance we gave you in third quarter of '07, we're down about $700 million in aircraft spending for 2009.

As you know, it is a pretty ugly credit market out there and as a result, there aren't a lot of people that are able to get financing to buy the new airplanes.

So and we also have a lot of our older airplanes that are actually nearing their retirement age.

They are 25 years old.

So we think we reached a balance with returning a modest number of our older airplanes, which have higher operating costs and reducing our CapEx exposure by significantly reducing our new aircraft spend.

So Bill, if we can do that, we will.

I don't think we disagree with the objective that you described.

We've been marketing airplanes for months and have not been able to close a transaction.

So I just don't know that that is a realistic alternative for us at this point.

Okay, that makes sense.

So when you talked about the growth assumptions and you talked about sort of being indefinitely suspended.

So how should we think about your long term growth assumptions then?

And how do you adjust a Company that's had decades of growth to a period of could be years of almost no growth, I suppose, depending on the economy?

Well I think that's one reason that we have to lay out at least an intermediate term vision that says that we are not going to grow, and we are going to have to, it's a growth factory, as you know.

So those elements of our Company that are geared towards hiring and training and deploying, etc., etc., , we're going to have to scale back and redeploy some of those activities.

The more certainty we have with that kind of direction, the more efficient we can be in doing all of that.

So for this year, we've consistently been saying at least for the last several quarters that we don't want to grow the fleet for '09.

The report today is we're extending that thought through '010.

And what we do in '11, I don't think we're real worried about right now.

Laura has done a good job of working with Boeing to give us even more flexibility with our fleet.

We will have some retirement options coming up in 2010, 2011, 2012.

So we've got a lot of flexibility on that front, if that's the way things pan out.

Now, as I said at the outset with my comments, while the immediate objective is to make sure that we protect our financial health and our profitability, we still want to grow.

So that's a desire, and I think we want to continue to do the best we can to build the means to do that profitably, keep our costs low, keep our service levels high.

And in fact we're investing to improve our customer experience.

So I think it remains to be seen exactly how successful we are with the investments that we're making.

We're all very confident that our revenue plan is going to work.

But just to bring it back to more pragmatic approach, we still need a sizeable contribution from code sharing, from the next generation of Southwest.

com, next generation of Rapid Rewards, and that will help answer the question about whether it would be prudent then to begin growing a fleet again.

But my hope is that we're obviously growing the fleet sooner than later.

But that gives us at least a 12 to 24 month time horizon to be thinking that we won't be growing the Airline and in fact we're going to be aggressively pruning out those flights that we don't think are productive.

So that's the priority right

But it sounds like what you're also suggesting is that it's got to be a revenue driven story to some extent because when you have no growth, it's going to be a challenge to keep those costs flat at best I would think.

I would concede that, Bill, although I don't know that life just doesn't stop and it's never one dimensional and one focus.

So part of our D&A is to be low cost.

Part of our brand is to be the low cost producer and offer low fares.

So right now, yes.

We've got a very intense focus to transform the Airline that you're very familiar with.

That does not mean that we're going to take our eye off the ball in managing our cost and in fact we may have to double down our efforts over the next two to three years to reign this cost growth in.

So we can't take our eye off that ball either.

As I look at our cost performance over the last five years, it's outstanding.

So I think we're undertaking the next three years from a very strong position.

But as we're optimizing the flight schedule, it may be optimized from a marketing perspective, but it's not optimized from a cost perspective.

So there are some future opportunities across the spectrum here at Southwest Airlines to continue to get more and more efficient.

Okay, thanks.

That's helpful.

Just one last question, leverage ratio, where do you want it to or where are you comfortable letting it go to?

Well these are tough times so I'm glad that it's strong where we are.

So I think we definitely want to keep our leverage ratios modest, something less than 50% has been our long term target and we've shared that often and over many years.

So as long as we can boost our profits this year, we have a substantial improvement in our profit outlook for two reasons; the industry capacity is down dramatically and fuel prices have collapsed.

So this year alone we're going to save $1.3 billion compared to what we thought we were going to spend.

So I don't see any immediate danger of us having our leverage get out of control.

But that assumes that the economy supports a reasonable revenue outlook.

If that proves to be untrue, we'll then be scrambling like everybody else, but that's not I don't think that that's the most likely scenario.

Thank you for your help.

We'll go next to Mike Linenberg with Merrill Lynch.

Hi, good morning, all.

Good morning, Mike.

Good morning, Mike.

Two questions here.

I guess first on fare sales, Gary, I know late 2008 there wasn't a lot of activity and I know for the most part I don't even think we saw very few if any fare sales from Southwest.

More recently we've seen some targeted fare sales.

What are you seeing in your markets, anything that can give us a sense of the trends?

Well thanks, Mike.

Yes, 2008 was for the most part about ten months of intense actions to boost our average fares.

So we had a series of fare increases.

We had some very purposeful revenue management techniques to boost our yields.

We have the new Business Select product coming online, and we just again had the absence of sale activity and it worked.

It worked very well all the way through October.

And then with the markets collapsing in September/October, that just suspended a lot of consumer spending and certainly affected future bookings for air travel.

So we changed that tactic in November and have been aggressively promoting our low fares and offering sales and promotions consistently since then.

It's that kind of an environment, obviously.

We do very well comparatively during recessionary times, and I think the fourth quarter is good evidence of that.

I thought our revenue management marketing folks did a spectacular job in recovering very quickly and shifting gears from trying to drive fares up in a higher energy cost environment to oh, wow, now we have a very serious recession and very weak demand.

And produced a heck of a December and January.

Gary, I realize that you may have part -- the next part of this question you may have to go back to the last downturn but you did indicate that you were promoting the low fares and promotions being aggressive.

But if you were to, if you could think back to the '01 time frame, because of the cuts to capacity in the system and because of the fact that you have much better tool box, your revenue management system is much more sophisticated, would you say that you are being aggressive but maybe not the type of discounting that we saw eight, nine years ago?

Is it more controlled?

Anything that you could provide on that would be great.

Well, great question, Mike, and I'll just try to bifurcate the answer here.

I think from what we've seen so far, starting with sort of November, December, January, that your point is accurate.

In other words, because the industry has reduced capacity aggressively, we're absorbing the reduction in demand without destroying unit revenues completely.

And the fourth quarter is evidence of that and what we reported to you all about January thus far is evidence of that.

Those are decent unit revenue gains and in the environment much less a recessionary environment.

I think the $64,000 question is will that continue or are -- we all know that the airline industry is a lagging economic indicator so will demand holdup or will it worsen from here?

And I don't think any of us know.

And we're not prepared to predict that and we're going to do everything we can to prevent that but clearly, what we've seen so far is far better than you lived through 1991.

It's a lot better than that.

Actually, I can remember '91 a lot better than I remember '01, but we definitely saw some unit revenue slowdowns.

I don't remember if it turned negative for Southwest Airlines or not but it did in 1991.

And it was very very difficult.

So we're far from that right now.

I hope we don't get there and because the capacity reductions have been so sharp, perhaps that will pay big dividends and make a big difference.

Okay, good and then just my second is with respect to on the cost side.

For Southwest to start shrinking, I mean that is as you indicated, it's a phenomenon, a new era for the Company.

Should we assume that as you plan your business for 2009 and maybe even 2010, where it's a get slow growth or no growth environment, will we see structural changes like increased aircraft utilization or do you resort to increasing the stage length again?

Is that something we should anticipate?

Well, I think that you and our investor community know what our plans are.

I would admit that as I was trying to point out in my earlier remarks, we're going to have to continue to adjust in order to protect our financial health and protect our profitability if things get worse from here.

I don't want to reveal the kinds of things that we are exploring but clearly, we're looking for opportunities to improve the productivity of our equipment and our people in a no growth environment.

From where we are, there are more radical changes and more difficult to undertake.

And it seems like everything that we want to do that's different than the Southwest Airlines play of the first three decades requires a fairly significant technological investment.

So if we're talking about a different scheduling technique for the airline, then yes, that might be possible but it might take some time to implement.

I'm very confident with the tools that have been developed this decade in schedule planning of the airplanes and revenue management as well as operating the rest of the Company on a department by department basis.

We're very well prepared for this environment but right now, we're going to run the play that we've described and we're going to trim our capacity this year.

It's already paying handsome dividends with the flights that we've eliminated this quarter.

And I'm sort of guardedly optimistic that that will serve us well this year and will have a very good year and be very well prepared to take advantage of opportunities if some of our competitors falter.

Okay, very good.

Thank you.

We'll go next to Dwayne Pfennigwerth with Raymond James.

Hi, thanks, just to expand on Mike's question.

It looks like your PRASM growth in the fourth quarter roughly double the industry despite the fact that your capacity was up 1% and the industry down double digits.

So as you sort of attribute that to items, I mean things that you're doing capacity reduction on the part of your competitors, I mean how do you rank those and how do you explain that dynamic?

Outstanding leadership, Duane.

But in addition to that we all know that's a joke.

I do think that we have been building to this point over the last several years and it's beginning to pay some nice dividends.

I think the Southwest brand is stronger than it ever has been.

I think the customer response that we've had to the changes and the No Hidden Fees approach I think is working.

In addition to that, we've made some good scheduling adjustments that were reflected in the fourth quarter results.

There are even better ones that were done in January.

I think what we are seeing though is a trim change from sort of the September/October time period where you can kind of, we know that we're benefiting the Airline revenue production by making these schedule changes.

You're not going to see them where we're thinking because there is this recessionary effect that's at least showing up somewhat on yields.

The net effect of that is obviously better than it would have been without our schedule changes.

But I am not -- I'm very proud of our people.

I think they've done a tremendous job.

It is classic Southwest Airlines to sort of face down adversity and certainly our low fare brand stands up very well in this kind of an economic environment.

You put all that together and obviously we're going to challenge our people to continue to out perform the industry.

That's helpful color.

One more little question and then Jim has one.

Can you tell us where the price is on your '09 hedge or asked differently, where would oil need to go or I guess jet need to go to trigger additional collateral from here?

Duane, I'll handle that.

The remaining 10% hedge, I think the best way to quantify that is with some of the sensitivities that I walked through during the call.

When you look at the way that we offset those hedge positions, there's not an exact match.

When you look at the level you put it on and the level you took it off.

So what we wanted to provide you is currently with current market prices for '09 it's about a $0.17 penalty.

And then we kind of walk through if prices decreased what the change would be and if they go up, where we start getting benefits.

So again if we move up to about $100 a barrel, that $0.17 penalty declines to I believe around $0.14.

So that's really the sensitivity that you need to be thinking about in terms of where that remaining 10% hedge provides protection.

You had a second question too?

Just on the collateral, I mean does oil need to go to zero for you to get more than $700 million?

I've got you.

We would have to have a flat curve all the way to 2013 I believe of about $25 a barrel for us to exceed the $700 million collateral with that counterparty that requires cash.

So we've got, we're in pretty good shape there.

Thanks for that detail.

Jim?

Jim Parker.

Just quickly, regarding competing capacity and the impact on your RASM, it appears that in the first and second quarters of this year, competing capacity is going to be down 15%.

But is it more relevant figure, does that include Southwest capacity and when you do that, total seats look like they will be down 8% in the March quarter and maybe 9% in the June quarter.

Which is more relevant?

Great question, Jim and you're right on point.

I think everything that Jim said there is factually correct.

I know that our competitors are down 15ish--

15% on a seat, yes.

And of course we know that we're down 4%ish, a combination of eight Laura I think--

I think I have like 7-8% for total capacity reductions in our market.

And I think, Jim, to your point just so everyone can realize this, we typically go into markets and with our low fares and great service put a lot of flights in there.

So we tend to have the majority of the flights and seats in the markets that we serve.

So I think looking at it on a combined basis is the appropriate way to think about it.

In some of our markets in other words, our competitors could be reducing their seats by 15% but if we have 75% of the seats in the market, it doesn't have that big of an impact on the market.

So clearly I think you want to include us because we're so large in the markets that we serve.

Great, thanks.

I think we have time Steve for one more question.

Okay, and we'll take that from Helane Becker, Jesup & Lamont.

Thank you very much, Gary, for taking my question.

So can you just discuss the progress you've made at Love Field with the scheduling changes and how much that's added to revenue?

I would be delighted to.

We have one of our successes that we're proud of this decade of course is the Setting Love Free campaign.

And it will be 2014 before the restrictions at Love Field are completely lifted.

In fact there was a nice article in the Dallas Morning News this morning outlining our plans for Love Field and remaking that airport.

We currently have 137 daily departures at Love Field.

I want to say that that's up compared to maybe 110 daily departures when the compromise was first reached in 2006.

Laura and Tammy can confirm that for you later, but we've been able to boost our flight activity there.

We've been able to hold on to that increased flight activity.

But the load factors and the traffic are up significantly as compared to the pre-right amendment compromise traffic levels.

I think the quarterly revenue boost in fourth quarter, Laura, was $42 million?

$42 million and that's up from $31 million last year, Helane, and year-to-date our Love Field revenue is $170 million up from $132 million or up from $113 million last year.

Okay.

And again, I think those are benchmarks relative to where we were in Dallas before the right amendment repeal.

So we're -- admittedly -- we're going back several years to make that comparison.

But the point is while we have benefited from increased traffic in customers and revenues, the fares have come down.

And we've been able to follow through with our promise to boost traffic in and out of North Texas.

So it's been a really good thing and Love Field of course as an airport is in dire need of an upgrade and that work is agreed to and under way.

So it's a real good news story and one that we're real proud of here.

Our folks have done a phenomenal job in working with the City of Dallas and Love Field to get it to this point.

On the work at Love Field is that work that you have to pay for or are they paying -- how does that work?

Well, ultimately, of course the costs are passed through to the airlines.

So I think probably the easiest answer is yes, although we'll work with the city as to how that is funded and Laura may want to speak to that.

But it's hundreds of millions of dollars project over the next five years or so and it's in essence, remaking the airport.

But Laura do you want to speak to the funding?

Yes, I think Helane, the estimated cost is just over $500 million and it's expected that about $150 million of that is going to be financed through PFC's, AIP, and TSA contributions.

And the remaining $350 plus million will be through bonds that are basically backed by Southwest Airlines lease obligation.

Okay, thank you very much.

Thank you, Helane.

And thanks, everyone.

I believe that is the end of our investment call and I'm going to turn that over to -- turn the call over now to Ginger Hardage.

Thanks everyone.