西南航空 (LUV) 2014 Q3 法說會逐字稿

Good day and welcome to the Southwest Airlines third-quarter 2014 conference call.

My name is Tom and I'll be moderating today's call.

This call is being recorded and a replay will be available on the Southwest.com in the Investor Relations section.

At this time, I'd like to turn the call over to Ms. Marcy Brand, Senior Director of Investor Relations.

Thank you, Tom.

Good morning, everyone, and welcome to today's call to discuss our third-quarter results.

Joining me on the call is Gary Kelly, our Chairman, President and CEO; Tammy Romo, Senior Vice President Finance and CFO; Bob Jordan Executive Vice President and Chief Commercial Officer and President of AirTran Airways.

We will begin with opening remarks from Gary, followed by Tammy providing a review of our results and our current outlook.

We will move to the Q&A portion of the call following Tammy's remarks.

Please be advised that today's call will include forward-looking statements.

Because these statements are based on the Company's current intents, expectations and projections, they are not guarantees of future performance, and a variety of factors could cause actual results to differ materially.

As this call will include references to non-GAAP results, excluding special items, please refer to this morning's press release in the Investor Relations section of Southwest.com for further information regarding forward-looking statements and reconciliations of non-GAAP results to GAAP results.

And with that, I'll turn the call over to Gary for opening remarks.

Thanks, Marcy.

And welcome, everyone.

Thank you for joining us on our third-quarter 2014 earnings call.

I know it's a busy day for you all and I am glad you all can join us.

I am very pleased with our financial results.

I am very proud of our people, especially third quarter is a very busy season.

Our people work hard every single day to serve our customers with safe, reliable, friendly, and low-cost air travel, and sometimes under very challenging circumstances.

So, these results really were a testament to their very hard work.

The transformative changes with a new Rapid Rewards program, the acquisition and integration of AirTran, the addition of the 737-800 model, and our fleet modernization program have also been very hard work.

Again, my profound thanks to our people for working through those changes so magnificently, and the stellar results, of course, are very obvious.

One historic milestone achieved in third quarter was the launch of international service on July 1. We talked about that in the second quarter earnings call in late July.

And I'll just say again it was flawless.

I am very proud of our people again for their hard work in what is a very exciting achievement.

The customer and operational aspects of our international launch have been stellar.

From a business or commercial perspective, our international results are in line with our expectations.

I will admit to you all they are a drag on our results right now.

We have got some work to do.

And, accordingly, our international footprint is quite modest.

It's about 1% of our capacity.

And also, just would remind everyone that our growth plans in 2015 for international are modest, as well.

So, we plan to manage our near international expansion very carefully and very closely.

Again, that said, we're pleased with our current status.

We plan to open Costa Rica in March, as well as a handful of other destinations next year, all with low frequency.

Another historic third-quarter event was the unveiling of our new Heart livery along with our new Heart branding and logo.

It's the same heart, but a new look.

It's a tribute to our employees who are the best in the business.

It signifies that as of 2014, Southwest has exciting new capabilities and exciting new opportunities, and unlike the southwest before.

In typical Southwest fashion, we will roll out the fresh livery and branding in a cost-neutral manner during the normal maintenance cycle or out of our discretionary marketing budget.

Since the end of the quarter, the long-anticipated appeal of the Wright amendment happened.

The long-anticipated Southwest effect happened, too.

And on October 13 we added 7 new non-stop destinations, 22 more daily departures to Dallas Love Field.

That was the largest single-day expansion in our history.

Load factors so far have been in excess of 90% on these 22 new flights.

So, I'm going to talk to Bob Jordan about the few empty seats that he has later.

Eight more destinations are coming November the 2nd, and I expect that they will do equally well.

Also, in November we will finish adding flights using the DCA slots that we bought from American Airlines.

We began adding service to DCA with the new slots back in August, where we went from 17 daily departures with 7 non-stop destinations up to, in November, we will be at 44 daily departures and double the destinations, or 14.

I'd just remind everybody that's not a net capacity increase to the industry.

It is, obviously, a significant capacity increase for Southwest.

And I expect that we're going to do quite well there, as well.

So, no surprise, those two city initiatives will drive our year-over-year capacity growth in fourth quarter and in 2015.

Our international growth will be very modest, especially considering that Houston doesn't open until late next year.

Finally, before I turn it over to Tammy, I wanted to thank the IAM leadership for the tentative agreement that was announced yesterday.

And especially I want to congratulate our customer service and customer support and services employees who are represented by the IAM.

I am delighted for them.

I am very pleased that we can reward our people even more for their hard work, and also that they can share in the success now of a record year along with our non-contract front line and supervisory employees.

Of course, the TA is subject to ratification by the IAM membership and I hope that there will be more TAs that will follow quickly.

With that very brief overview, I'd like to turn it over to Tammy Romo who will take us through the financial results of the third quarter.

Thank you, Gary.

And thanks to everyone for joining us today.

We are very pleased to report another terrific quarter this morning, again breaking many records.

Net income, excluding special items, was a record $382 million or $0.55 per share, which increased approximately 60% over last year.

Our third-quarter GAAP net income was also a record -- $329 million.

Operating income was also a third-quarter record at $649 million.

And we expanded our operating margin by almost 400 basis points to 13.5%.

Our pre-tax return on invested capital for the 12 months ended September 30 was 19%, which on an after tax basis was 12%, well exceeding our weighted average cost of capital.

These strong results were driven by record revenues, lower fuel prices, our ongoing cost control efforts, and represents our sixth consecutive quarter of record profitability.

For the nine months ended September 30, our profits have resulted in $256 million in profit sharing expense, which already exceeds full-year 2013's contribution to the plan.

This is a tremendous accomplishment by our people and I congratulate and thank them for their hard work.

Our third-quarter revenues reached record levels, increasing 5.6% year over year to $4.8, billion, driven largely by record passenger revenues of $4.6 billion.

Strong demand for travel resulted in record traffic and load factors despite 4% fewer trips and 2% fewer seats flown year over year.

We also had double-digit growth in corporate sales, and our strong initiatives continued to significantly contribute to strong revenue momentum.

On a unit basis, total operating revenues increased 4.5% compared to third quarter last year on a 1% increase on available seat miles.

Passenger unit revenues increased almost 5% compared to third quarter last year, with strong unit revenue improvement each month of the quarter.

As we've previously discussed, our markets under development is significantly higher than historical levels as we work to complete the integration of AirTran.

In the third quarter, we have approximately 15% of our third-quarter available seat miles under development.

Our international markets, as Gary commented on, continued to also ramp up nicely and are performing in line with our expectations.

As we move into fourth quarter, the demand environment remains solid and strong revenue trends have continued.

We have not seen any noticeable negative impact on demand from Ebola or macroeconomic news.

And based on our current bookings and revenue trends, we expect October PRASM to be up roughly 2% year over year.

Bookings for November and December are also good.

Looking ahead, we expect unit revenue trends to be choppy through the remainder of quarter due to last year's comparisons.

December's in particular would be difficult given last year's strong increase.

In particular, Thanksgiving Monday return traffic will benefit November this year as opposed to December last year.

Moving to freight and other revenues, freight revenues grew nearly 10% year over year as we continued to expand cargo service, and with the integration of our AirTran network.

And we currently expect fourth-quarter freight revenues to be comparable to third quarter 2014.

Other revenues decreased 3.5% year over year, largely due to AirTran fees continuing to decline with the transition of the AirTran network over to Southwest.

EarlyBird revenue performance continues to be strong, and were $59 million in the quarter.

And other ancillary revenues were also $48 million.

We currently expect fourth-quarter 2014 other revenues to decrease year over year, likely at a greater year-over-year rate than we experienced in the third quarter due to the ongoing conversion of the AirTran network.

Turning now to costs, we had a solid cost performance.

Our third-quarter unit costs, excluding special items, were comparable on a year-over-year basis.

And we're continuing to benefit, as Gary mentioned, from our fleet modernization and other cost control efforts, as well as lower fuel costs.

Our third-quarter economic jet fuel price per gallon declined 3.9% year over year to $2.94, which reflects a $0.05 hedging gain.

Fuel prices have plunged even further here in October, reaching levels we haven't seen for four years, primarily driven by heavy oversupply of crude.

Based on our hedge position and market prices as of Friday, we expect our fourth-quarter fuel price per gallon to be in the $2.70 to $2.75 range.

This is right in line with unhedged prices, and significantly below fourth quarter last year's $3.05 per gallon.

Excluding special items and fuel and oil expense, our unit costs increased 2.6% year over year, largely driven by the 45% increase in profit sharing, which, of course, we like to see.

Excluding profit sharing and special items, our non-fuel unit costs increased 1.5% year over year, as expected.

Based on current cost trends, we expect fourth-quarter and full-year 2014 unit costs, excluding fuel, special items, and profit sharing, to increase year over year in the 2% range.

This guidance contemplates the ratification of the tentative agreement that was announced yesterday with our customer service agents and customer representatives.

Moving to our strong balance sheet and cash flow, we ended third quarter 2014 with $3.6 billion in cash and short-term investments.

As a result of our strong free cash flow generation of $1.4 billion this year, we have returned $893 million to our shareholders through the repurchase of $755 million in stocks and a distribution of $138 million in dividends.

Over the past three years, we have returned a meaningful $2.1 billion to our shareholders.

In third quarter, we repurchased $200 million in shares under an accelerated stock repurchase program, and distributed $41 million in dividend payments.

We have $580 million remaining under our $1 billion share repurchase authorization.

Thus far this year, we have also made $517 million in debt payments, including $48 million paid during the quarter, and an additional $350 million made in early October.

We intend to repay an additional $40 million in scheduled debt and capital lease payments in the remainder of this year.

Our leverage, including off balance sheet aircraft leases was 36% as of September 30.

And we continue to prudently manage our CapEx spend.

Our 2014 capital spending forecast remains at $1.8 billion.

And we currently expect our 2015 CapEx to be less than this year's spend.

And that brings me to the fleet.

I'll refer you to our press release for our third-quarter activity.

But here is a quick recap of our full-year 2014 fleet plans.

We plan to take delivery of 33 Dash 800s from Boeing and 22 pre-owned Dash 700s.

On the retirement side, we have retired 3 classics thus far this year, and currently plan to retire 3 more by the end of the year, for a total of 6 retirements this year.

We have removed 51 of the AirTran 717s from service.

The remaining 37 will be removed from service by the end of this year.

As of the end of the third quarter, we have transitioned 45 717s to Delta and currently plan to transition 7 more this year.

In addition, thus far we have transitioned 34 of the 52 AirTran Dash 700s to Southwest, which leaves 18 Dash 700 aircraft remaining.

We continued to manage our fleet plans to a relatively flat fleet through the end of 2015, with a baseline of roughly 695 aircraft, which was our combined fleet at the time of the AirTran acquisition.

We expect our fourth-quarter 2014 ASMs to increase year over year in the 2% to 3% range and full year 2014 ASMs to be less than 1% year over year.

To close, we are thrilled with our third-quarter results.

Our outstanding employees continue to give their very best, and I would like to congratulate them on another record quarterly performance.

The revenue momentum in the third quarter has continued thus far into fourth quarter.

Our cost control efforts are working as planned.

And we will continue to focus on maintaining our low-cost leadership position.

Our strategic initiatives have all come together quite well, and puts us in a great position to take advantage of recent opportunities such as Dallas Love Field, Washington Reagan National, New York LaGuardia, and our most recent announcement of our first international destination to Central America.

We are excited about our future, and our financial position remains as strong as ever, allowing us to deliver on our plans to aggressively manage our invested capital and return strong returns and significant value to our shareholders.

With that we're ready to take questions.

(Operator Instructions)

We will now begin with our first question from Hunter Keay with Wolfe Research.

Thank you, everybody.

Have you seen any improvements or an improved ability to revenue manage after changing the no-show policy?

I know it's a small percentage of your customers that are impacted by that.

But in those specific markets or those specific customers that were impacted by it -- maybe it was more magnified in certain business markets at certain times of day or something like that -- have you found an improved ability to manage yields around tightening up the restrictions a little bit?

It's probably a little early to tell.

I think it's probably nuanced.

It's definitely helped us identify empty seats.

We're having one of two things happen.

Either the cancellations are happening in advance where we can resell the seat, or that money is being forfeited.

Sort of the worst of both worlds would be if the customer cancels at the very last minute where we can't do anything about it, and we go ahead and give them their money back.

But the revenue management over -- and, Hunter, I can't recall how long you have been following us or the industry.

But if you go back 30 years, we had overbookings that were substantially higher than what we have today.

Today the bookings that we take for departure are very close to the number of seats that we have.

I can't honestly say that we've seen with precision any additional improvement on that.

There is bound to be some in there, but it will probably take us a little bit more time to see that.

But the benefits are there.

The revenue management right now is already very good in terms of the bookings versus the book-load factor.

This, obviously, will help.

But to give you an honest answer, I don't know that I have seen anything, any evidence of that so far.

Tammy, have you?

The only thing I would add, Gary, is that we did see a nice benefit here just on the no-show here in the third quarter.

It was about close to $25 million here in the third quarter.

But it's meaningful.

It's meaningful.

That's more than what we get from our upgraded boarding product on a quarterly basis, as a reference point.

Yes.

That's interesting.

I have not been covering this for 30 years, but I think maybe Jamie Baker has.

I don't think you are that old, are you?

Believe it or not, I am over 30; but that's nice of you.

One other question on labor, Gary.

Can you tell me what is important to you with a new pilot deal?

And I am not asking you where you are far apart or where you're close together.

That's a completely different question.

But what's important to you, Gary, as you sit down and negotiate with labor?

Is it more healthcare contribution?

Is it productivity?

Can you talk to me about what you value out of the next CBA from the pilots?

And I wouldn't single out the pilots.

Of course not, but I'm just referring to the pilots.

We're negotiating with a number of work groups, and all of them are important.

I think the themes are consistent across, which is Southwest has a very rich history, a very meaningful purpose.

And we want to sustain that for the next generation.

And that is, we want to offer our customers great service at a low cost.

And that's what I want to work together with our Union Leaders to make sure that we sustain going forward.

As you well know, we have more low-cost competition today than ever before in our history.

And we can't claim the lowest cost.

Although we are really close, we still can't claim that.

And I think that that's something we need to continue to strive for.

That's number one.

So that is an important objective because taking care of Southwest Airlines and sustaining our brand really is taking care of our people.

To further taking care of our people, we have some wonderful opportunities where we can reward them further, just like I described with the tentative agreement we have with the IAM.

That's what we want to achieve with each one of our work groups.

Do more for our people and find ways to strengthen Southwest Airlines by eliminating waste, improving our productivity, improving our efficiencies.

And the nice thing is, there are opportunities in every single work group to do that.

Thank you.

And we will take our next question from Savi Syth with Raymond James.

Good morning.

What percentage of routes are under development if you exclude the AirTran routes you are taking over?

I don't know if I can do that.

The way we think about the percentage of routes in development, I would say it's about 15%.

And I know Bob Jordan and his team have already committed plans for next year to grow that further.

I think we get close to 20%, don't we, Bob?

Yes, we do.

That's more than we like, but it is directly tied to the AirTran acquisition and integration.

In other words, absent that, we wouldn't have anywhere near that number of new markets as a component of our system.

So I don't know that I can really piece it apart.

Bob, do you have a different way of thinking about that?

No.

The other thing that I think is important to point out is we are counting everything new as new.

So if you look at Love Field, even though we've served these long-haul destinations through connections, now that we have new nonstops, those are counted as new markets when you think about that 15% growing to 20%, as well.

And it takes a year or two for those to develop, even though we do expect a market like Dallas to mature much faster.

So I would say where we are with AirTran is probably split pretty even, the AirTran markets that are being converted in and these new markets like DCA and Dallas.

And, again, we've tried to be as transparent with this as possible.

But even if you take a city like Flint, Michigan, that was converted from AirTran to Southwest, the routes that we fly -- and Memphis is probably the same example -- the routes we fly to those cities are entirely different than what AirTran was flying before.

There are some cases where we take a route that AirTran was flying, change the sign, and make it Southwest.

And one could imagine that that's less risk than what I described with the Flint scenario.

But you've got every flavor of all that going on.

And just finally, just to wrap up the answer, the AirTran route system, or what was previously AirTran capacity that converted to Southwest, what that looks like today compared to when we bought AirTran is very different.

We have closed 18 AirTran cities.

We have either opened or converted 51 of AirTran cities.

But you can just envision that that's a pretty different route system today compared to where they were in 2011.

That's helpful.

And just looking at 2015, I understand not a lot of the capacity is going to be international.

What level of capacity growth -- have you massaged that number more as we look to 2015 that you will be adding to the domestic market?

We have, and our focus will be on that question when we have our investor meeting next month.

Today we're going to focus on the third and the fourth quarter, of course.

Yes, we are working on finalizing our plans for 2015 as we speak.

I'll wait for that then.

Maybe just since I didn't get an answer to that, may I ask, so once you start flying out of Houston, what could you grow your international capacity at?

Bob and I were talking earlier this morning.

Our initial launch out of Houston, if you just think about fourth quarter 2015, the capacity increase compared to fourth quarter 2014, assuming that Houston International is open all quarter, will be very modest.

So we'll have just a handful of flights.

It will not generate a significant amount of growth coming out of Houston International.

It sounds like 1% or less.

What is known is that the terminal will have 5 gates, and it's estimated that the capacity of the 5 gates will be 25 daily departures.

I think it remains to be seen whether that's the cap or whether we will be able to do more departures than that.

And we will have four of those five gates under lease.

So that at least gives you some idea of what the potential is out of Houston.

All right.

Thank you very much.

We will take our next question from John Godyn with Morgan Stanley.

Thank you for taking my question.

Tammy, when you pointed out the fuel volatility in a historical context, I couldn't help but remember maybe some of the problems that airlines found themselves in when they were hedging and they had to put up cash collateral.

I know that you have a lot of disclosures on this.

They're a bit complicated, but there are a bunch of disclosures in the K and the Q.

I was hoping that you could maybe boil it down to a simple thought.

Does the fuel volatility that we've seen to date create any cash collateral issues for you?

Nothing that we really couldn't manage.

We've really shored up any liquidity with our aircraft collateral facility.

And we currently have the full $1.2 billion in aircraft collateral available, should prices fall further.

At least so far, any cash collateral that we have had to post has been very manageable.

Got it.

Okay.

That's very helpful.

And then if we could talk a little bit about capital returns to shareholders.

You obviously have a great leverage ratio versus peers.

A lot of airlines are now comping themselves to high-quality industrials.

Perhaps you have been comped to that group much longer than others.

I just wonder, when are we reaching a point where we can perhaps commit to the marketplace that the vast majority of incremental free cash flow would be used for shareholder returns, buybacks, or what have you?

As you already said, we really have led the industry in shareholder returns -- and certainly this year.

We're very proud of what we have deployed back to our shareholders.

In terms of how we intend to deploy capital going forward, we'll certainly touch on our 2015 plan when we meet with you all in a couple of weeks.

But certainly, at the free cash flow levels that we have been enjoying, and our very, I think, manageable CapEx requirements, certainly our goal would be to continue to reward our shareholders through continued deployment of cash back to our shareholders.

Thank you.

The only thing that I would add is that I think -- and all I'm trying to do is respond to your desire to get more commitment from the Company.

So I think the scenario would be, as long as we are continuing to hit our return on invested capital minimum target, and especially in an environment where earnings are growing, the way that I would answer your question is through the dividend.

I don't think that our dividend is fully matured.

I think there are opportunities to grow it.

I'm not in any way suggesting that there is a commitment from us that we will grow it.

I am just saying that there are opportunities to consider that in the future.

And that clearly is an opportunity for us.

And, obviously, you all have seen a very serious commitment by us to increase it over the past three years.

The share repurchases, I would just say, by design and by definition, are intended to give the Company more flexibility.

And what's going on in the world with fuel prices right now are a perfect example of that.

The volatility is working our direction.

One of these days the volatility won't work in our direction.

I think you understand that we have to make commitments wisely in this business.

And as a philosophy, is there any reason why leverage needs to fall further?

Leverage?

No, not particularly.

We are comfortable with where our leverage sits today.

We just, actually on October 1, we repaid $350 million in debt.

And certainly we will likely refinance at least a portion of that at some point in the future.

And just one other note, back to Gary's comment on the dividends because we do get questions on that.

I'd just remind you that we have had very substantial increases in our dividends at our last two annual shareholder meetings.

And at the time we increased those dividends, the yield was 1% to 1.2%.

So I just wanted to remind you of that.

Yes, the darn stock has gone up so much, it dropped the yields.

It's a high-quality problem.

Thanks a lot.

We'll take our next question from Julie Yates with Credit Suisse.

Good afternoon and thanks for taking my question.

ROXE continues to show very nice improvement.

Is there anything you can share on how you are thinking about a new target?

Or is that something we should stay tuned for the Investor Day?

Yes, we'll dive into that.

We are working on our plan for next year, as we speak.

We are looking forward to diving into that topic more when we meet here in a few weeks.

Again, our target is at least a 15%.

And we'll talk to you more about next year's plans when we meet.

And I would certainly echo 100% of what Tammy said.

We're always interested to hear feedback from you all as to your views.

So we're going to do more work between now and then.

And we've been giving it considerable thought.

There is certainly -- I know you will be glad to hear this -- there is no thought that we would lower the target.

I think all we're talking about is now, since we're in an environment where we are exceeding the minimum threshold, can we give you all some more precise guidance there.

And we will be ready for that conversation in November.

And I also just want to point out, too, obviously what we're focused on when we're setting our targets is our cost to capital, clearly.

Our cost to capital has averaged between 7% to 8% for a long period of time.

So certainly with a 19% return on invested capital, we are well exceeding our cost of capital and very pleased with that performance.

Yes.

Okay.

And then a clarification on the commentary.

Tammy, you said choppy revenue trends in the fourth quarter.

And I imagine you just mean because of the comps and the shift in the timing of Thanksgiving.

But I just wanted to clarify if there are any other dynamics that we should be thinking about for the fourth quarter.

That's primarily what I was referring to.

Just as a reminder of our transfer last year, if you go back to fourth quarter 2013, October was up compared to 2012 by roughly 2%.

November was down about 5%.

And December was up 16% on a year-over-year basis.

And, of course, that was in part due to the timing of the holiday.

So, it's, to your point, very choppy.

But if you look at -- what we're also focused on is our sequential trends.

And at least sequentially, we are not really seeing anything odd in our trends.

So at this point, our outlook for the fourth quarter is good.

Great.

Thank you very much.

We will take our next question from Michael Linenberg with Deutsche Bank.

Hello.

Good afternoon, everyone.

Just to follow-up on John's call about some of the counterparty positions.

This is to you, Tammy.

I think at the end of the June quarter, you were just over $100 million that you held from counterparties.

And then just given the decline in fuel, do you have an estimate of what that swing is?

Because you did mention that.

I think you suggested that you are now posting with counterparties.

I am just asking so we can see how it impacted cash from quarter to quarter.

Sure.

The market value of our fuel hedge portfolio at September 30 was a net asset of $53 million.

So we did not have any collateral posted at that time.

And as of Friday, the market value of our hedge portfolio was a net liability of $236 million.

And we had approximately $100 million in cash collateral posted.

Okay.

That's good then.

And, Michael, while Tammy was talking I was flipping through the press release.

And if you look at the cash flow statement, you do see that flip.

Even as of the end of the quarter, there is a $98 million cash outflow on that cash collateral received or paid to derivative counterparties.

Yes, it has its pluses and minuses; but it's all very manageable.

Yes, and it's nothing like the $1 billion-plus, maybe, that we saw back in 2008, 2009, where I think -- you have now come up with a structure where you can use a letter of credit or aircraft.

It's de minimis relative to what we saw a few years back.

Yes.

And it wasn't $1 billion then, but it was a bigger number; there's no doubt about it.

We've learned, and we've got a really strong position.

I think we're in good shape there.

I apologize for the hyperbole.

Just one other quick one here.

I know you keep talking about the international service from Houston in the latter part of the year 2015.

It does look like you loaded a Houston-Aruba service starting this March.

When I saw that I thought, okay, the terminal is ready.

Is that just taking advantage of a pre-clearance facility in Aruba?

That's it.

Okay, perfect.

Thank you.

We will take our next question from Helane Becker with Cowen and Company.

Thanks very much, Operator.

Hello.

Thank you for the time.

Here is one of my questions.

With respect to your schedule adjustment that you did in August in an effort to improve on-time performance --because I guess when you were doing 10-minute turns your aircraft were a whole lot smaller.

So you were carrying fewer people relative to what you are doing now.

Can you talk about how that's improved your overall operations and where you stand relative to your goals for improving on-time?

Thanks.

We have had a little over 60 days, I guess, with the, quote, new schedule.

And I would say that it's performing exactly as intended.

We will need a little bit more experience to decide whether it needs more tuning.

At times, we've had some unusual spring-like weather.

We had the fire at the Chicago tower, which disrupted our on-time performance because of a disruption in the operation.

The tower is up and running since October 13.

And the weather has been pretty good, and the on-time performance has been superb.

So we have had very strong load factors this month and very strong on-time performance.

So I'm very happy.

Now, Mike Van De Ven has already planned to add -- I don't know if I would call it insurance -- but more operational recoverability with our April schedule.

He is going to be getting more help there from a scheduling perspective -- i.e., he'll have more airplanes to recover with, just to make sure that we get on a pace of hopefully somewhere in the 83% to plus 85% range.

Then we'll tune it from there.

But I'm very pleased with it; and it's working, I think, Mike, pretty much as designed.

Okay, great.

And then I just have one follow-up question.

Somebody asked me this yesterday, and I didn't really have a good -- I didn't have any answer.

The question was, when will you announce service to Hawaii?

You know why you didn't have an answer to that question because you don't know.

And you know what?

Neither do I.

That's certainly fair.

Thank you.

See you in a few weeks.

We will take our next question from Jamie Baker with JPMorgan.

I don't want to myopically obsess on the immediate term, but the stock has responded poorly to the 2% October revenue guide, particularly given the easier year-on-year comp relative to the month of September.

Could you add any color on this?

For example, what pressures that perhaps new routes are putting on RASM.

And maybe if you had a same-store sales RASM guide that you could provide something that strips out, let's say, LaGuardia and DCA, for example?

Nothing really, Jamie.

There is really nothing unusual that's standing out in our comps.

If you look at our performance from September relative to October, there is really nothing odd there in sequential.

And, again, there is some noise in the year-over-year comparisons.

Aside from that, nothing really stands out.

The only other thing I would point out is we do have sequentially a few more ASMs.

And then, of course, another important point to note is the increasing stage length from just the Wright Amendment flying.

But nothing really unusual.

All right.

And for a follow-up, a similar question to what I asked last quarter; and it relates to labor.

You have had three more months to dig in and better understand what the asks are from your flight attendants and pilots.

You've had three more months to look around the industry, both here and aboard, to see what labor efficiencies some competing airlines might have that you don't.

How is that process going overall?

And how confident should we be that renegotiated contracts don't put material pressure on margins next year?

Again I'm pleased at the leadership that the IAM has exhibited here.

I think Tammy has already shared that the anticipated effects of that tentative agreement are already baked into our expectations going forward.

We've got opportunities to do more for our people.

And we've got opportunities to improve the efficiency of the Company, which benefits our people.

I'm very confident we're making good progress.

Jamie, I don't know that we have learned anything different or more in the last 90 days with respect to that point.

But we have made progress from a negotiating standpoint with several of our union groups, and I am very pleased with that.

Excellent.

Solid quarter.

Solid guide.

Thank you both.

We will take our next question from Duane Pfennigwerth with Evercore.

Thanks.

Good afternoon.

Just a follow-up to Jamie's question.

Can you talk about how much fare sale activity in Dallas is impacting that October RASM number?

As I mentioned earlier, just sequentially, we are doing more flying as a result of our Wright Amendment flying.

And, yes, we did have introductory fares.

But we're seeing great high sales, but we're seeing very high load factors.

So, nothing notable.

There are no issues.

I think it is literally the sequential comps look normal to us.

The year-over-year comps just have to be studied and understood, if there is some question about that.

But there is no change in trend in October.

October looks very strong -- very high load factors, very good on-time performance, very solid yields.

Appreciate that.

And then just I wonder if you could quantify the number of idle aircraft, maybe non-productive aircraft, that are also not spares in the fleet in 2014 versus your expectations for 2015.

It seems like you'll start to get some benefits from a more productive fleet next year.

The utilization is up in 2014 compared to 2013 at the same time that we were putting, arguably, more aircraft out of service to go through various transition.

And that schedule just proved to be a little too tight, so the on-time performance suffered.

There are a couple of things going on even in 2013-2014 that are confusing.

And I think we'll have an opportunity, Duane, in November to give you all better insights as to where we've been; where we are; and where we're headed in 2015.

The number that I have off the top of my head is about 20 airplanes additional, out-of-service, on average.

So if you'll just take that number with a grain of salt because I think that that is a good representation of what the opportunity is in 2015.

But we probably have a little bit more homework to do.

What I don't recall, Tammy, off the top of my head, is if the average for 2015 is 20 more in service than what we have here in 2014.

But looking backwards, Duane, the number of in-service fell about 20 as you went from 2012, 2013 into 2014.

So that's the opportunity going forward to restore into service with no change in the total fleet.

Does that answer your question?

It does.

Thanks very much.

See you soon.

And we will take our next question from Glenn Engel with Bank of America.

Good afternoon.

A couple questions, please.

One, fuel hedges -- you indicated that it really is not going to have much of an impact in the fourth quarter, meaning they are not hurting your P&L.

Does that $200 million loss result in an impact in your fuel cost per gallon next year?

Again, we'll discuss our 2015 guidance here in a couple weeks.

But at least so far, Glenn, we are participating in 80% of the decline that we've seen.

And, of course, we are enjoying lower physical prices.

So we will give you guidance here in a couple of weeks, as we discuss our plan in full.

But at least so far everything looks pretty good.

Our treasury team is doing, I think, a very nice job of managing our hedge book in this very volatile market.

Again, we had a $0.05 gain here in the third quarter.

And we are paying roughly market prices here in the fourth quarter.

So far, we're participating in the majority of the market decline.

And, again, I wouldn't call it a $200 million loss either.

You understand the mark-to-market things that we deal with and you have to suffer with, too, in our reporting.

But the projected settlement is not anywhere near what the mark-to-market is.

So I think all that we could probably elaborate better in November.

But I think it's all very manageable.

And who knows where prices are going to go from here, is the other thing that I know you well know.

It flipped around in one quarter.

It can flip the other way in another quarter or two as well.

That's what the hedging portfolio is for, is to try to position us so that we can manage our total spend through all this volatility.

Unfortunately, I have been doing this for 30 years.

Head count is up 1.3%.

Your trips are down 4%.

Your fleet down slightly.

When do we start seeing productivity?

I think that somewhat relates to Duane's earlier question.

In terms of the aircraft available for service, the productivity for the fleet this year looks pretty, good except that the on-time performance suffered.

The AirTran segment is underscheduled.

I think we have been sharing that with you all frequently.

And the Southwest segment, arguably, at least for part of this year, was, quote, overscheduled.

So I think we definitely have opportunities to smooth all that out after the AirTran integration is complete.

And then you've got on the order of 20 aircraft out of service coming back into service, which will also be another productivity improvement beginning in 2015.

Again, we need to share that with you all in more detail in November.

2016, Glenn, is the year where I think, Tammy, things are pretty clean.

It's just another illustration for everyone that there is a lot of noise in the Southwest performance right now and just another illustration of how strong the results really are.

So a lot of this noise gets cleaned up here in 2014.

There is still some in 2015.

And by the time we get to 2016, we're clear of it.

And, lastly, it seems like you purchased a whole bunch more used aircraft in the last three months.

Is that going to be lifting what you think 2015 capacity growth is, some?

Glenn, we have been commenting all along that we are managing to a flat fleet of 695.

So all of that was part of the plan.

So, no -- no new news there.

Yes.

Remember, we're retiring 88 717s in -- what?

-- a three-month period?

Yes.

So that's all you're seeing there.

Yes, we just don't have all of that, of course, perfectly timed.

But there was no new information there.

We have been saying all along that we're going to augment our firm deliveries from Boeing with aircraft from the pre-owned market.

Okay.

I thank you very much.

And we have time for one more question.

We'll take our last question from Joe DeNardi with Stifel.

Good morning.

Gary or Tammy, I am wondering if the success you have had with the change to your no-show policy -- I can't imagine it had much impact on customer loyalty -- if that's changed the way you think about your reservation change policy.

You mean a change fee, you mean?

Yes.

No, just to give you an answer before an explanation.

I don't think that there is any correlation.

I think most reasonable people understand the fairness of a no-show policy.

That if I'm not going to show up, I can at least give the airline the notice that they can have the seat back for resale; and I get to keep my money and use it again.

I think that that is imminently fair.

Most of the complaints I get from customers about that is that they didn't know.

They didn't realize that that policy was in effect.

And they don't like it.

And I am not going to try to argue with you that the customers don't care about it because they don't like the no-show policy, those that stumble into it.

But our customers, for the most part, now have adapted well to that.

And it's very fair.

The change fee is are very different.

And we don't have any plans to make a change to our policy.

I would lump that in -- at least it would have answered about bag fees.

So no plans to make any changes to either one of those.

Okay.

And then, Tammy, I think last quarter you talked about first-quarter capacity up about 5%.

I'm wondering if you have a similar outlook for second quarter now.

We are going to share all of that with you here in a couple of weeks.

So stay tuned on that.

We'll walk through our capacity plans in some detail.

But, really, what we've said, as you know, for 2015 is that we are expecting our seats to increase about 3%.

And, of course, ASM year over year would exceed that because of the nature of that flying.

It will be longer haul and, to the point Gary made earlier on the utilization, just increase utilization of the fleet.

And again, I would just recap, the overview right now for you all for 2015 is really nothing has changed.

The fleet plans are unchanged.

We'll be roughly flat -- maybe a few more units at the end of 2015.

The seats are increasing simply because the gauge is increasing.

We may end up with some increase in trips, but it won't be very much.

Where we're expanding is as important to the conversation as anything -- which is, it's Dallas Love Field.

And most of that you know.

There are a few things that we may do out of Love Field next year, but the vast majority you know.

And I mentioned to you DCA.

And then just again, reemphasize with everyone that the most ambitious expansion for us is international.

And our international plans are very measured and will have only a modest impact on our capacity growth next year.

So those are the headlines.

Those are not new.

We're in the final stages of completing our 2015 plan and anxious to share it with you all in a month.

And just to emphasize that where the capacity is going is what's important here.

For the first quarter, virtually most of that capacity is going into Dallas Love Field.

At this time, I would like to turn the call back over to Ms. Brand for any additional and closing remarks.

Thanks, Tom.

I just want to thank everyone again for joining us today.

Have a great day.

Ladies and gentlemen, we will now begin our media portion of today's call.

I would like to first introduce Ms. Linda Rutherford, Vice President, Communications and Outreach.

Good afternoon, Tom.

Good afternoon, everyone.

I'd be happy to take your questions.

If you will go ahead, Tom, and give them the instructions to be able to queue up and do that.

(Operator Instructions)

We'll take our first question from Jack Nicas with the Wall Street Journal.

Thank you.

Nice quarter, everyone.

I would like to, first, latch on to that load factor, which I believe you say is a record and is pretty impressive compared to past quarters.

Could you provide any more insight on what's behind that?

Is this simply a matter of supply and demand, the demand environment is that strong?

Or have you been fiddling with your pricing or seeing more business travelers, et cetera?

I'm hoping you can just give us a little more detail on how you are filling so many seats.

Thank you, Jack.

We can sure try.

I think it's probably, unfortunately, not a simple answer because there is so much change that's going on within Southwest Airlines.

We have changed our Frequent Flyer program.

I think it is far better and more popular.

We have been aggressive in optimizing our route structure.

One thing that is really culminating here in 2014 is we have gotten rid of underperforming routes, and we've redeployed airplanes to better routes.

That clearly is a benefit here.

The economy, at least in our view, has been more consistent, more stable, driving more confidence and more consistent travel demand.

That is showing up.

The industry is not adding a lot of capacity, as well.

So supply-demand obviously seems to be, from an industry perspective, in nice balance.

We have had very few fare increases this year.

We're trying very hard to hold the line on our own costs, pass those savings on to our customers.

We want to be America's low fare airline.

We had a fare increase last week of $2; and that was, in my opinion, to cover the increase in the TSA tax.

So if you don't like that, you can write your Congressman on that one.

But overall, it's been a healthy travel environment with a healthy economy and, I think, superb route management by our folks.

I think just all the way around our folks are doing a great job.

I am proud that bags fly free -- I can't say it, but I am proud of it -- and no change fees.

I think that makes for a very strong brand promise to our customers.

And record load factors are also a result of that.

Okay, terrific, thanks.

One quick follow-up.

You can probably tell that newspaper editors just love the word Ebola right now, so I have to ask for them.

Have you seen any effect at all, as far as you can tell, on bookings from the concern over Ebola in the US?

None.

Negative.

Nada.

And Tammy mentioned that in her remarks earlier, just to make sure we are all consistent.

We have experience with this in the past with other outbreaks.

So few people have been affected in the United States.

But in any event, giving you a straight answer to your question, there is absolutely no evidence in any of our research that we've seen an impact from it.

Okay, thanks so much.

We will take our next question from Terry Maxim with the Dallas Morning News.

Good afternoon.

Could you elaborate on your comments on on-time?

To what sense do you think that you've got the problem licked and, to follow up on your comments that the further adjustments that might happen in April, what are you looking at there?

Terry, the changes went into effect in early August.

So I don't know if August is such a clean month to try to analyze.

If you move to September, we were hoping to get an on-time performance somewhere in the mid to high 80%s.

We ended up at 80%.

I don't believe those numbers have been published yet, Mike.

But that's, I'm pretty sure, Terry, what you'll ultimately see when the DOT report comes out.

That was on pace to be closer to 85%, probably 84%, but for the Chicago situation.

But 80% in September was the best performance of the year.

It's good for September, factoring in the problems we had in Chicago.

We watch this on a daily basis.

We compare our on-time performance to our peers.

And based on all of these evaluative techniques, I feel very good that the schedule changes are effective.

We plan to do more, as I've mentioned; but I'm really happy with the performance we're seeing now.

But, Mike, you have had record load factor days here in October with stellar on-time performance.

We have had some OTP days of 90%, haven't we?

That's right.

We haven't seen that in a while, Terry.

So it is obvious that the schedule changes are having a positive effect, as intended.

Okay.

There's a follow-up question I would like to ask about the Wright Amendment.

You are talking about the very high load factors.

Do you have a feeling about how those loads will be once the statement goes into affect or the introductory fares go away and you've got your schedule fully up and we get into a more normalized environment?

I am going to let Bob answer that.

We do run higher load factors on our long-distance flights.

And, Bob, as I think out loud about his question, if you look at the load factor, the last load factor I remember for our 800 fleet was almost 90%.

So I'm not going to be surprised if we continue to hover around 90% on our long-haul routes.

Love is a constrained market, as well, with only 20 gates.

Any thoughts there, Bob?

Yes, Terry, that's exactly right.

Our longer haul flying tends to be in that 90% or sometimes 90%-plus range.

So you're going to have that added to Dallas just because the flight mix is changing.

We are making sure that we've got really good fares, and we're making sure that we've got plenty of local seats available, too.

So we want to manage our connections in Dallas because Love Field is constrained.

We want plenty of room for our local Dallas customers and our new Dallas customers.

So to Gary's point, I wouldn't be surprised if we, because of the longer-haul flying, because of the constraints on the airport, because of the demand, that we continue see high load factors in Dallas, higher that the system.

But, Terry, I would like to pile on here and compliment Bob and his team.

We can analyze why it is what it is, but we don't launch new routes and have this kind of performance.

And they've done a wonderful job of managing the overall capacity out of Dallas so that you don't benefit one route and hurt others.

They've just done a masterful job.

Some of the earlier questions that we had about our revenue trends and whether Dallas is an issue, Dallas is performing exceptionally well.

And I think that that is, in large part, due to the terrific design by our network planning folks.

Thank you.

And we will take our next question from Andrea Ahles with the Fort Worth Star-Telegram.

Thank you for taking my question.

To piggyback on what Terry was asking with the Wright Amendment, with your team leads with load factors of over 90%.

Can you talk at all about how operationally you are able to handle that?

Is it impacting your current time at all as you get ready to ramp up and add even more flights into Love Field in November?

Well, it's one of those where I feel like we're hitting on all cylinders.

I think the commercial team has done a great job publishing the right routes with the right marketing support, the right revenue management support.

And operationally, Mike's team has known this is coming.

The airport was ready.

The airport construction was finished.

And it is beautiful and operating just like we had hoped.

Mike, any other thoughts?

No.

I think you're right.

On-time performance has been exceptionally strong.

It's been good.

At Dallas, we factored all those in.

We factors the 800s in.

We've got turn times adjusted appropriately for that.

And it feels like we are executing very well.

Andrea, we have had to add staff, obviously, for 22 additional flights; but all that was well done.

All the folks are trained, glad to be there.

It's just going really, really well.

I am very proud of everybody.

So you're not seeing any impact on your on-time performance out of Love with the longer turn times?

No.

Again, the on-time performance this month is, after Chicago was back up and running, which just happened to be the same day that the Wright Amendment launched, our on-time performance on a daily basis has been really good.

Thank you.

And we will take our next question from David Koenig with the Associated Press.

Hello, folks.

Gary, in response to one of the analyst's questions about hedging, you said that fuel volatility is working for you now but might not in the future, so you have to consider that.

I wondered, what about fuel volatility in fares?

We have had this big drop in crude oil and jet fuel prices since about April.

Should passengers expect to see that passed along, to see that show up in lower fares?

It's a meaningful part of the cost structure.

I think the biggest problem for us now when we get into a period like this is what's going to happen next.

You remember 1999.

Crude oil I think went down to $10 a barrel, only to be followed with increases every single year for the next decade.

It was just an unprecedented spike that took place.

So that's what worries me in an environment like this, is what are the unintended consequences that flow from this.

Said a different way, there is no way that we can count on $80 crude oil going forward.

I'm not.

I'm not willing to do that.

So we'll do our best to hedge and capture the best pricing that we can for our jet fuel purchases.

And then for the first time since year 2000, we hit our return on invested capital target.

I just hope that we continue in this.

It's not like we're, as an industry, making money hand over fist.

It's far from that.

We are finally realizing returns that one would expect from a high-quality industrial company.

And I think we'll certainly celebrate the fact that energy prices are lower than they otherwise would be.

No question about that.

But couldn't you respond quickly enough if the price doesn't stay at $80, and it goes back to $100 or $120?

Couldn't you just turn around and raise fares back up to what they are now?

Yes.

And you've seen that and it doesn't work.

I am sure you heard my complaint earlier about the increase in the TSA tax.

Bob Jordan and our revenue management folks are concerned about trying to pass that along.

We always see an impact from increasing fares.

Whether it is ultimately revenue positive is a question of the strength of the demand at the time, and many times it is not very productive.

So, no.

You go back to 2008, there was a very sharp spike in energy prices.

All carriers tried to raise fares.

Five went bankrupt and aren't here anymore.

So, no, the answer is absolutely not; you can't count on that.

Said a different way here, what I would not want to do to customers is take them through the same volatile ride with fares -- lower them one day, raise them the next day.

I think that that would be absolutely the worst thing that we could do.

And we have absolutely no plan to do that.

Okay.

Thanks.

We will take our next question from Jeffrey Dastin with Thomson Reuters.

Thanks very much.

To clarify these comments, are you locking in today's fuel prices under call options?

Or are you waiting to see if prices continue to fall for jet fuel?

I just didn't hear the first part of your question -- if you don't mind repeating it.

Of course.

Are you locking in today's fuel prices under call options?

Or are you going to wait for prices to fall more before creating new hedge contracts?

Let me let Tammy answer that.

The short answer is, no, we don't lock in prices.

But let me let Tammy at least explain a little bit about our hedging.

Just for 2015, we're currently about 40% hedged for 2014.

And that's really been in line with where we've been for 2015 for quite some time.

So we've got positions out through 2018.

We're 40% hedged in 2015, 2016, 2017.

And then we have about a 5% position out in 2018.

Great.

Thank you.

And with those positions, we don't actually lock the price.

We buy options that would cap the price.

So with lower prices, it does provide an opportunity to buy more.

And, obviously, Tammy and her team will think about that.

Okay, great.

Thank you.

And one other question.

Would you be able to specify guidance for total revenue and perhaps operating margin numerically for the entire fourth quarter rather than month to month?

The short answer to that is no.

We've given guidance here in October; but the trends, at least so far, look good.

Great.

Thank you very much.

We'll take our next question from Mike Sasso with Bloomberg News.

Hello.

Good afternoon.

Given JetBlue had earlier cited some overcapacity or falling yields in Latin America.

The question is, you mentioned earlier that your international operations are weighing on your results.

Can you quantify or just talk about, is overcapacity or falling yields in Latin America weighing on -- how much is it weighing on your results, if anything?

Thank you.

And I appreciate the opportunity to clarify a little bit.

The conversion from AirTran to Southwest adds more flights in the former AirTran markets, number one.

Number two, we are also not fully connected to all of the Southwest Airlines route network because we were phasing in those flights to all of our locations gradually.

For example, while we might have a nonstop flight from Baltimore to the Caribbean, if a customer was originating in Rochester, New York, they might not be able to get an international itinerary yet, whereas in the future they will.

So we are phasing in our international operations gradually.

And right now, the financial performance isn't what one would expect once those markets are mature.

There is nothing unusual about this; there is nothing unexpected.

It's a brand new venture for us.

It really has nothing, in other words, to do with macro issues or whether there is too much supply or too little supply.

Those routes were performing very well on AirTran.

And I expect by this time next year, they will be performing very well on Southwest Airlines.

So that's what's going on within Southwest, in other words.

That is simply a transition effort that we've got to work through.

And we're working through it very well, and I have every confidence that we will be where we need to be this time next year.

Now, with respect to whether there is too much capacity or concerns about us adding more flights there, not on the routes that we've selected.

I mentioned that we will be serving Costa Rica.

We have announced service between Baltimore, Washington, and San Jose, Costa Rica, beginning March 7. That is one flight a day, each way.

We are very confident that that flight will perform very, very well.

We don't have a large amount of Southwest capacity in international.

We don't plan to have a lot more next year.

None of these are concerns that we would share at Southwest.

And we have time for one final question today.

We will take our last question from Ghim-Lay Yeo with Flightglobal.

Hello.

Thanks for taking my question.

Gary, you mentioned just now that you plan to be adding a handful of international destinations next year.

Are most of those going to be from Houston, or are you looking at elsewhere?

We haven't said yet, but clearly we do plan to launch service when the terminal is ready in Houston.

So we'll just need to stay tuned on that.

But the handful really means probably three or four new cities for Southwest Airlines service next year.

We're excited about that.

It won't attract a lot of flights.

It won't be a lot of incremental capacity.

But, obviously, it will be what we hope will be some exciting new destinations.

So stay tuned.

At this time, I would like to turn the call back over to Ms. Rutherford for any additional or closing remarks.

Thanks, Tom.

We appreciate you being with us.

If you have follow up questions, the media can reach us at SWAmedia.com or through our direct line at 214-792-4847.

Thanks so much.

Ladies and gentlemen, this concludes today's call.

Thank you for joining.