Southwest Airlines Slashes Its Guidance After 737 MAX Groundings
Southwest Airlines (NYSE: LUV) is the largest operator of the Boeing (NYSE: BA) 737 MAX in the world. The low-fare airline giant has more than 750 planes in its fleet -- all Boeing 737s -- and 34 of those are 737 MAX 8s.
Therefore, the worldwide grounding of the 737 MAX led to thousands of flight cancellations at Southwest last month. This added to a spike in cancellations caused by a combination of severe winter weather and a dispute with its mechanics. With a total of around 9,400 flights being canceled between mid-February and the end of March, Southwest Airlines recently lowered its unit revenue forecast for the first quarter, while also raising its cost guidance.
In this week's episode, Industry Focus: Energy host Nick Sciple and Motley Fool contributor Adam Levine-Weinberg dig into the impact of the Boeing 737 MAX grounding on Southwest Airlines' financial performance and how long it might last.
A full transcript follows the video.
10 stocks we like better than WalmartWhen investing geniuses David and Tom Gardner have a stock tip, it can pay to listen. After all, the newsletter they have run for over a decade, the Motley Fool Stock Advisor, has quadrupled the market.*
David and Tom just revealed what they believe are the ten best stocks for investors to buy right now... and Walmart wasn't one of them! That's right -- they think these 10 stocks are even better buys.
Click here to learn about these picks!
*Stock Advisor returns as of January 31, 2019The author(s) may have a position in any stocks mentioned.
This video was recorded on April 4, 2019.
Nick Sciple: Southwest, as we mentioned off the top of the show, is one of the airlines that is most particularly exposed to the 737 MAX grounding. In relation to that, just last week, the company cut its first quarter guidance partially related to those issues. Adam, can you give us any of the details, what was behind that guidance cut, and what Southwest management is telling us about what's going on with the company right now?
Adam Levine-Weinberg: Southwest is the biggest 737 operator in the world. It's got more than 750 Boeing 737s in its fleet. Right now, most of those are the older generation of Boeing 737, which was built between 1997 up until this year. But Southwest does have a 34 737 MAX 8s in its fleet. It's between 4% and 5% of its total aircraft fleet, which is definitely significant. The airline has some flexibility to get by with having a few aircrafts out of service. But with 34 aircrafts out of service for that long, there's no way for the airline to run the full schedule that it had intended to be flying during the spring.
When you have a big grounding like that, you have less capacity, but the costs are somewhat fixed, so that definitely puts pressure on profitability. On top of that, Southwest has had to put these aircraft into storage to make sure that nothing happens to them to impact their airworthiness. So, while not very expensive, that does costs something to keep those aircraft parked in the desert for several months at least.
If you look at the guidance, Southwest lowered its unit revenue guidance because of the grounding. The main reason here is that it's had to cancel so many flights over the past month or so. The problem for Southwest was that it was already facing a pretty big spike in cancellations, both because of some bad winter weather in February and into March, as well as a dispute with its maintenance workers that spilled out into the open in February. It led to a lot of cancellations, as maintenance workers seemed to be writing up more tickets for items that needed to be addressed than usual, which meant they had to pull more planes out of service. Between those three items -- the bad weather, the maintenance cancellations, and now the 737 MAX groundings -- Southwest Airlines canceled 9,400 flights between mid-February and the end of March. That's compared to about 4,000 flights a day. It's like losing more than two days of service over the course of a month and a half.
So that's caused a pretty big revenue impact. I think the company said it was going to be about $150 million for the first quarter. It's also caused some cost increases. As a result, the estimates of Southwest's profitability for the first quarter had to come down quite a bit.
Sciple: Sure, Adam. As we see the first quarter profitability coming down, you mentioned the costs are going to remain fixed for keeping these airplanes as part of your fleet, even though they can't fly. These profits are going to be lost for Southwest. Obviously, you can't fly these flights that have been canceled. But outside of this near-term impact, that they're not going to be able to fly these flights, they're going to take some near-term expenses, does this affect Southwest's long-term plans for how they're putting together their fleet moving forward when it comes to the 737, or when it comes to continued investment in its business? Is this going to be a single-quarter problem? Or are we going to see the impacts of this grounding play out over several quarters into Southwest's business?
Levine-Weinberg: That's a great question. It's hard to know at this point. What we can say is that Southwest Airlines definitely relies on the Boeing 737. That's the only plane that Southwest has ever flown in nearly 50 years of service. It's a type of plane that Southwest is very comfortable with. It's very much committed to it. Southwest has more than 200 orders for the 737 MAX, 41 coming actually just this year, and hundreds coming over the next seven years or so. It's likely to order even more beyond that. For Southwest Airlines, the cost savings of operating a single fleet type are really quite substantial. The CEO, Gary Kelly, has made it pretty clear that while he's in charge, he doesn't see any chance of Southwest even trying a different type of plane in its fleet.
So the question then is, how long does the 737 MAX stay grounded? It probably is a two, maybe three-quarter event. It's really hard to know for sure because safety comes first. The planes aren't getting back in the air until the regulators are very satisfied that it's going to be safe to fly. I think it's reasonable to expect that most likely around the summertime is when the 737 MAX fleet would likely be back in service. I would think that any financial headwinds at Southwest are likely to calm down pretty quickly starting at that point.
Adam Levine-Weinberg owns shares of Southwest Airlines. Nick Sciple has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Southwest Airlines. The Motley Fool has a disclosure policy.