Southwest Airlines Co. (NYSE:LUV) Bernstein’s 39th Annual Strategic Decisions Conference 2023 June 1, 2023 1:30 PM ET
Company Participants
Bob Jordan – President and CEO
Conference Call Participants
David Vernon – Bernstein
David Vernon
Thank you, everyone, and good afternoon for our next session here at Bernstein’s 39th Annual Strategic Decisions Conference. My name is David Vernon. I cover transports and airlines. We’re joined today by Bob Jordan, Southwest; Tammy Romo, CFO; Ryan Martinez; and Julie. Sorry, I will get that correct, who’s going to be taking over the IR team fairly soon here, are also in the audience for questions.
We’re going to jump fireside chat. You guys should know the drill by now. If you have questions you want to get them up to me, I do have the other side of your pigeonhole application up here that I can read into and work those questions in.
Question-and-Answer Session
Q – David Vernon
So Bob, why don’t you kick us off with sort of a state of the business? How are things looking today for Southwest?
Bob Jordan
You bet, and thanks. Thanks for having us. Really appreciate you being here. And as you know, we filed an 8-K this morning that, for the most part, it reiterated our second quarter guidance. We did narrow our RASM guidance just a little bit from down 8% to 11% to down 8% to 10%.
But for the most part, it was just a reiteration of the guidance that we’ve got out there. But again, thanks for the invite. We’re very pleased to be here and tell our story.
I think the bottom line is demand is really strong. So demand in the second quarter continues at what we predicted as we closed out earnings in Q1. So demand is strong. Lead demand, in particular, is very strong. Obviously, leisure was really strong last year, particularly close in demand on the leisure side. So some of that on the booking curve. Leisure has gone back — is beginning to go back to a more normal booking curve, but it’s very strong.
I’m really pleased with our managed business as well. We had a milestone in March, where our Managed business revenues were nearly fully restored to 2019 pre-pandemic. How low you will take that. We’ll back off a little bit here in April and May, but our second quarter Managed business will be sequentially ahead of our first quarter. But yes, I think the bottom line is that demand is strong.
The other thing I’d just like to add real quickly is our operational performance is really good. So we’ve been very focused on that this year, as we always are, but especially coming off of this disruption that we had in December, but our overall ops performance is great because we’re fully staffed. We’re still obviously hiring pilots because we — that’s the constraint. We don’t have all of our aircraft off the ground yet. We have about 40 that we can’t fly because we’re constrained by pilots. That will be fixed by the end of the year.
The other big focus is getting our network restored. We’ll have the network fully restored to pre-pandemic by the end of the year. But just now overall, a really good performance and really good demand for the product.
David Vernon
So as you think about what you’re seeing right now in demand, I think one of the things we’ve been — I’ve been picking up, we had Hilton here yesterday, another airline yesterday as well, the focus is really on maybe not what we can see, but what’s around the corner.
Bob Jordan
Right.
David Vernon
I mean, are you starting to see any cracks in that demand fabric as you look out into the fall period? Or is it all pretty much still — there’s a lot of people that want to make up for lost time?
Bob Jordan
Yes. Again, the demand just generally now and looking forward is strong. Our visibility is somewhat limited, simply because the booking curve for airlines is relatively short. So we see most of our bookings inside of 60 days. So while the schedule is open very far out, we take very few bookings very far out.
So when I say demand is strong and what we can see is very strong, that period is roughly in the 60- to 90-day time frame. But no, everybody’s got what’s going to happen to the economy. You’ve got this banking thing that just occurred. What — are we going to have no landing? Soft landing?
Hard landing? What’s going to happen with a recession, if anything? So we’re always cognizant of that, and we’re thinking about that in planning, but we just don’t see, yet — in terms of our bookings, we don’t see evidence of that today.
David Vernon
As you think about steering the ship through that, what could be a deceleration in the back half of the year or if the economy falls a little bit slower? What does the downside scene here kind of look like? I mean it’s really difficult to tell, right? We’ve been through a cessation of any kind of travel back to not enough room at the end. And how do you think the industry would perform and kind of navigate a weaker demand environment?
Bob Jordan
Yes. That was the fastest recap of the pandemic I’ve ever heard, complete cessation. Yes, we’ve never seen anything like that, obviously, where travel just dried up. We were 98% down, stayed down 70% for a long period of time and then it kept roaring back.
I think the place where I would start is you can never fully predict what’s going to happen. I always love one of Herb’s famous lines was he predicted nine of the last two recessions. Because these — and then the whole point was just be ready. And what I love about Southwest, been there 30 — almost 36 years, is we are always prepared, and we exited the pandemic in exactly the same point.
So we’ve grown balance sheet. The only carrier with cash in excess of debt, so net cash position, strong fleet, strong contract with Boeing to get the aircraft that we need, strong hiring plans, a very strong network. We still have work to restore the network, but the network is very diverse. It’s very wide. It covers a lot of the geographies, a lot of depth. So the network is absolutely a defense point for us.
So my whole point is whatever occurs, we will go into it, number one, prepared. We’ll go into it diversified in terms of things like the network, and we’ll go into it with a lot of the things that we’ve been working on in the last 18 months, the fix coming out of the pandemic fixed. So our staffing is in a great place. We will have our — we’ll have the pilots that we need to fly all of our aircraft. We’ll have the network restored.
So while I can’t predict the future, I know that we are financially ready as we always are, and we’re operationally ready as we always are. So I feel good about whatever happens, we’ll go into this prepared.
David Vernon
Okay. And as you think about revenue performance kind of through the year, it seems like it’s been performing a little bit better based on the guidance today. But do you think, turning to the cost side, it’s kind of ex fuel, how are you guys been performing on a cost basis kind of in absolute terms? Is the budget kind of coming in align — along the lines of what you thought to the level of [technical difficulty]? Or have been — has there been some slippage here as we started the year?
Bob Jordan
Well, you had the — yes, our costs are very — have been stable. We didn’t revise our cost guide here this morning. If you look at the first quarter, obviously, we had a number of costs that are onetime related to the hangover from the December ops disruption. So we are still taking care of customer reimbursements. We inconvenienced a lot of folks, but we worked really, really hard to take care of them.
So we reimbursed you for other airline travel and hotels and rental cars and pet sitting fees and all kinds of things to allow you to make up for your trip that you could make on Southwest. We also did a lot of customer goodwill. We spent money on customer goodwill. We spent money on our employees to provide what we call gratitude pay. So you’ve got costs in the first quarter that were related to that disruption that won’t now recur throughout the rest of the year. They won’t recur in 2024.
Sort of X that, we’re on our cost plan. What I’m really excited about as sort of back to the way we have worked very hard coming out of the pandemic to restore everything. So get — I mean, we went from hiring no one to hiring 11,800 people net last year. So you had to rebuild your hiring plans and your training. So I’ve been using the term, it was sort of a brute force activity.
We went out there and just ran after hiring. We went out there, and we just — and we ran after getting the pilots needed to get aircraft in the air. We’ve gone out, and we are just running after getting the network restored to what it was pre-pandemic. All that’s really good, but never read fully restored as fully optimized.
So if you look at the way the network as an example, looked pre-pandemic, it was a machine. The network is very optimized. We had the flights in the right places, the frequencies in the right places. During the pandemic, we opened 18 new cities. We expanded Hawaii. We robbed 125 aircraft out of existing things to go do that. Those are now being replaced to restore those frequencies.
So my whole point is, there is a lot of — while it’s fully restored, there’s a lot of inefficiency in the system. So we have a big opportunity as you get into the fall and then into ’24, particularly, to really push hard on optimization and rationalization of the network, optimization of our efficiency around our people. Because we hired ahead a lot, optimization of the way we build aircraft lines and flow our aircraft.
So the tie to the cost is I think we have a lot of opportunity to bring out efficiency and therefore, cost because we just ran at some of these activities. And we’ll use a lot of ’24 to really ring out that efficiency and ring out costs.
David Vernon
And can you help us understand kind of maybe put some tangible numbers around that as far as kind of staffing levels relative to flight activity? How do we think about that from a dollars and cents perspective in terms of that catch-up in productivity, where are we today?
Bob Jordan
Yes, there are a few areas where our — well, start with our staffing per aircraft is, I believe, as high as it’s ever been. A lot of that is a factor of we are hiring ahead to get the 50 aircraft back in the air, planning for 2024. So some of this is just a matter of the fact that — so if you look at that and said that where we could have — we’ve got about 5% to 6% aircraft that we are not flying, but could we — but could fly where we’re fully staffed, particularly with pilots.
So we’re hiring ahead to meet that, knowing that we will be fully staffed with pilots by the end of the year. So you’ve got a lot of cost there that it’s just a matter of the fact that we’re hiring ahead of the need. We do have a few areas where we’ve got some people per aircraft, cost per aircraft that have come in, and they need to be there. It’s permanent. So as we work through this winter ops disruption and the issue we had in December, worked very hard to understand why did that happen and how do we make sure it never happens again, because it will never happen again.
And it’s things like better de-icing and more de-icing trucks, but it’s also things like making sure that we are fully staffed to do de-icing. So hiring on the ramp, and it’s a small number, but hiring on the ramp to make sure that you can do that in Denver and Chicago, those are permanent ads in terms of headcounts per aircraft, but it’s a relatively small number.
We’re doing a lot of planning for 2024 right now, and that planning involves things like our cost performance, what rationalization of the network can look like, what productivity per aircraft productivity in certain groups needs to look like, our opportunity to bring out some of these costs. It’s too early to share that, but just know that we have a lot of opportunity, and we’ll be sharing that as we move into our 2024 planning.
David Vernon
Okay. And as you think about the solution of network optimization, I think we talked about this at your last Investor Day, this notion of the thickness of the lines between the smaller number of cities and the number of the dots on the map. And it feels like you’re now serving more [indiscernible] that you did pre-pandemic.
Bob Jordan
We are.
David Vernon
Does that create constraints for you from a productivity standpoint, just in terms of crewing and staffing and the number of pilots you need to have in a line for a low-density city versus having a bunch of pilots sitting around a midway, waiting to take the next flight to wherever and back? Like is there a constraint in there at all from that shift? And do you need to do some work on the — either labor agreement side or the planning side to…
Bob Jordan
You’re right. We added 18 new cities during the pandemic. Most of those, small. A few of those not quite as small like an O’ Hare or Intercontinental in Houston as an example. The contract question, the ability to do that and serve some of those cities on a far less frequent basis or less than daily, we would call it; or in some cases, the cities are very small, and we want to contract out some of the labor like the above or below the wing labor, all those things already existed in the contracts, and we’re allowed to do that.
The fact that we’ve added now, in some cases, very small cities to the network, is actually enabled by the strength and the diversity and the breadth of the network that’s in place. We have a lot of — we would call them mega cities, focus cities. And the strength of that core network allows us to add these small dots to the map and do it efficiently from a commercial perspective, but also do it efficiently from an operational and cost perspective.
So what we’re seeing is those small dots on the map are not adding incremental cost beyond sort of the average, and they’re not — there’s some work to mature them. We have a number of cities that are still in development here. But no, they’re not adding a cost or operational burden to the network.
At the end of the day, too, they — it may be 18 cities, small level of service. You add it all up, and at the end of the day, it’s a very small number of equivalent aircraft that it takes to serve those 18 cities. But no, they’re not a burden on the network.
David Vernon
Okay. And as you think about it, though, from a return standpoint, obviously, you’re not getting the same asset utilization out of those lower-density cities. Is thing in those secondary markets up to kind of get you to average returns? Or is it a little bit dilutive at the margin on the returns, at least initially? I mean…
Bob Jordan
Well, I look at this, and I wouldn’t agree that there is lower productivity. Because typically, you go in — I mean you got — the same has crew. The crew comes in. They load up our customers. The crew comes out, and it is not necessarily any more cost.
It’s not cost inefficient as compared to average in a lot of cases. So I just don’t think, give it that way.
Now at the end of the day, from a commercial maturation standpoint, we have a way that we think about the maturation of anything that’s new, whether it’s a new city, a new city pair, a new route. And those typically mature on a 3-year basis, and we have a plan for a city or a plan for a route. So it needs to meet that commercial need in order for the city to drive the right profitability.
Like anything, and I’m just not a predictor about our 18 cities, but like anything, we are constantly looking at those markets in development. And if they don’t develop properly, and there’s no evidence that they can, we’ll come back and take a look at what that means and whether we need to rationalize the network and change that. But no, they are not driving operational and cost inefficiency at this point.
David Vernon
And as you think about the future, I know — I think Andrew mentioned in the last earnings call that you were going to be restoring some of the frequencies in the thicker parts of the network.
Bob Jordan
Right. Right.
David Vernon
And is that just with incremental flying of existing assets? Or is that utilizing some of the parts capacity? Or you’re shifting away from some of those smaller dots that maybe you don’t feel like developing right now?
Bob Jordan
Right now, that’s kind of where I was going with the network rationalization. So I’ll come back to that. Right now, it’s basically, it’s taking deliveries. And we’ll have about 70 deliveries this year. It’s down from an original 100, then 90. There’s some supply — just some supply chain and other issues with Boeing. We’ve dropped the number of deliveries planned for 2023. But the majority of that capacity to restore the network is coming from new aircraft deliveries.
So when we opened 18 cities and expanded Hawaii during the pandemic, because when demand is down 98% for weeks, and then it stays down 70%, you go looking for new revenues anywhere you can find them, which is really the impetus for opening the 18 cities. But it took 125 aircraft to do that. And those 125 aircraft were pulled from the core network.
Now the core network was underperforming during the pandemic. Well, now the core network is performing. But our 18 cities in Hawaii is also beginning to mature. So it takes 125 aircraft to restore the network and get that core network frequency and depth, as Andrew would describe it. But that’s coming almost entirely through new deliveries.
The good thing is we’ll be there. We’ll be fully restored by the end of 2023.
David Vernon
Okay. And yes, you mentioned the delivery schedule is a little bit maybe behind what — where you’d like it to be. How is that impacting sort of financial performance right now? I’d assume that there’s some — is that creating some friction and some added costs that maybe then starts to come away as the new aircraft come into the fleet? Like how do we think about the impact of — the timing of the deliveries impacting your financial performance right now?
Bob Jordan
Well, every — I think a company on the planet has been impacted by supply chain issue, right? We’ve all suffered, and most of that has improved. Some of it has not. Some of that still lingers, and Boeing is no exception. So Boeing has suffered supply chain issues, just like we have at Southwest.
More recently, they have an issue with a — with one of their suppliers where they have an item in the fuselage that has to be reworked. It’s not flight issue, but they have something that has to be reworked on fuselages delivered to Boeing. So that before they can deliver an aircraft to Southwest, they — whether that aircraft is nearly done or it’s just a fuselage, they have to fix that issue.
Those come from either the provider. The fuselages impacted that are sitting at the provider, those also have to be fixed. It’s a fairly complicated fix. It takes about 15 days to do it to get the part. And again, it’s not a safety of flight issue, and that was really the driver for pulling the 2023 deliveries down from 190 to 70.
Now at Southwest, again, sort of back to the — we spent 18 months now just — well, four years, if you go back to the MAX grounding with just giant fluctuations. Fleet plans moving up and down. Delivery plans moving up and down. When those move up and down, our capacity moves up and down. When that moves up and down, our hiring plans move up and down, the training plans move around, and it’s — we just can’t have that.
For a company that depends on efficiency and planning, it is really hard to drive efficiency and planning when the basics like capacity are moving all over the map. So Boeing is behind about 66 aircraft to us right now. We were going to get 114 last year. We got 68. We were going to get 100 this year. It looks like we’re going to get 70. So that pushes 66 into the future. That would say, we’re going to take 152 aircraft next year. We are not taking 152 aircraft next year.
So we’re working with Boeing to reflow the whole order book. And the whole intent is to get back to where our annual deliveries are measured and very steady year to year to year. I want Southwest to be in charge of that delivery plan, not — again, Boeing is a great party — partner, a fantastic partner, but not at the whim of the way those deliveries are moving around because we must have a stable delivery plan.
So that we can then get back to stable capacity plans year-to-year, so that we can then get back to stable hiring plans year to year to year. So the biggest thing that we’re working on is reflowing the order book with Boeing, so that the deliveries are steady, measured, known, we can count on them. And they — as they produce capacity, they’re in line with our long-term plans that we communicated at Investor Day last year, which is mid-single digits in terms of annual capacity growth.
And maybe the last point you were asking was, well, Boeing has moved all around. This is impactful to Southwest. Well, what does that mean between Southwest and Boeing?
David Vernon
It’s going to get there, yes.
Bob Jordan
And I didn’t mean to jump ahead, sorry. But the — but Boeing, again, is a great partner. Much of this is out of their control in terms of their own supply base. Yes, a fewer aircraft mean we have aircraft that we were counting on that cannot produce revenue. But just know that Boeing is a great partner, we will work through this with them as we work through the reflow of the order book. We worked through highly complex things in the past with Boeing like the MAX grounding. And we’ll get there. But at the end of the day, we’ll have a very reliable and stable delivery plan.
David Vernon
And is that going to extend the runway then on environments, because I think the idea was to be pulling forward a lot of mix orders and then accelerate that shift to a more efficient marine or fleet. Like how does that change the timing of that fleet transition?
Bob Jordan
Generally, I don’t think it does because you want — what I want is a net of deliveries and retirements. We want a net fairly stable number of aircraft that we know where you can put into commercial service year to year to year.
Retirement — retirements are generally — if you look out, they’re fairly stable in the sort of 40, 45 a year or so kind of range. And if we get the deliveries stabilized, it will give you a — I don’t want to imply the math, but it will give you a reliable number of new aircraft for service year to year to year. And so all of that being more predictable is very helpful. And all that should align to sort of mid-single digits annual capacity growth plans that we’ve communicated.
David Vernon
But is it right to also then be thinking that as they catch up and you rework that order book, there may be an initial sort of improvement on the unit cost front as those new aircraft come in? Is there a step change in there that we should be kind of thinking about? Or is it going to be more gradual than that?
Bob Jordan
I think the — you should see a light in the question, if you think about just costs. We’ve got cost this year, we spent — if you just take things like recovering from spending on the December disruption. So we had first quarter costs related to customer reimbursements and gestures of goodwill. And those costs won’t recur in 2024. So you got a little bit of a tailwind there.
You’ve got the efficiencies as we get the network restored, aircraft back in the air, the right number of pilots fly all those aircraft. And we’ve got a lot of opportunity to now go work on bringing out inefficiencies, both on the people front, the aircraft front and then the network and rationalization front. And all of that will yield costs. The aircraft and delivery component of cost is really its fleet modernization. Because every older aircraft that we can swap for a new MAX — the MAX is a terrific aircraft, much more efficient, and it drives sort of roughly a 15% improvement over that older aircraft that is then retired. So you’re going to see all three of those components as we think about the cost opportunities.
David Vernon
Okay. And then one of the other things that came up when GE was presenting was backlogs on engine maintenance. Are you worried at all about kind of which engines are coming off weighing — out? Like how do you think about that risk going forward from a maintenance standpoint?
Bob Jordan
The Leap is a great engine. So — and GE, just like Boeing, is a great partner. Anytime you have a new engine, there is a — I think GE calls there’s a burn-in period where you use the engine, you learn things. And we’re seeing some of that on the Leap, where there are things that are occurring that we have to work with GE to then either solve, mitigate.
My understanding, talking to our tech ops folks, which are our technical operations maintenance folks, which I talk to all the time, is that while we are seeing things in the LEAP, the number of things and then the ability to mitigate those is far less than normal for a new engine. In other words, this engine is burning in better than a typical new engine. And obviously, you’ve got the much better performance of the Leap in terms of just fuel efficiency.
The second piece of your question, which is what about shop visits and sort of off-wing time and all that. I think some of this, again, is tied to the new engine learnings. Some of this is worldwide capacity. As everybody drew back up, just worldwide capacity around MMR is lower. So we are seeing longer-than-expected and longer-than-average engine shop visits.
So far, we’ve been able to deal with that with GE around additional spares and are working with us. But I do think over time, that will come down as well. I think it’s something to look at, something to manage, but I don’t see a critical pinch point out there where we are suddenly short spares, as an example. But I do think there’s work to be done to get the engine shop visit sort of span down. And there’s work to do like any new engine to get the engine on wing time up.
And then we have some specific things to work with GE on or around some of the things that we’re seeing with the new engine. But none of this is atypical given a new engine, though.
David Vernon
Okay. So nothing that’s going to impact sort of the capacity outlook?
Bob Jordan
Not — no, not that I see today. Yes, I mean, you never know what could come up. But right now, I do not see engines as a constraint to our capacity. No.
David Vernon
Okay. And I want to talk a little bit about industry constraints in a moment. But just for you guys, right? It does feel like being short pounds to fire the planes and adding the cost in to stand up the capacity into what might be a little bit of a maybe softer demand environment which is, I think, reasonable to conclude given where we are macro-wise. Why not tap the brakes a little bit ahead of that as opposed to trying to run the race that maybe is going to be a little less exciting? Like why run in to add resource into what could be a little bit of a slowdown?
Bob Jordan
I think there are two answers to that. One, we have Southwest. Again, we talked about this some before. We are always prepared for whatever is coming at us. I think one of the reasons we came out of the pandemic, which was awful, awful for lots of companies, came out of the pandemic, so in good relatively shaped.
Again, net cash, a better relative cost performance, both to legacy airlines and ULCCs is because we went into that prepared. And we’ve always — now the pandemic was highly unusual. Now who knows what’s going to happen with the recession or what’s on the horizon? But Southwest has always prepare — been prepared going in and fared well coming out of those periods. I’ll just start there.
On the flip side of that, we have been pulling down capacity. Some of that related to Boeing. Most of that related to Boeing. But if you look back to where we started, and we’ve made some recent changes that we pulled about a point out of the third quarter. If you go back to the Investor Day, we pulled 7 to 8 points out of the fourth quarter of this year.
So I would say that we have made some changes. We still have a 14% to 15% capacity growth year-over-year here in ’23, but we have made significant changes, some to the third, especially to the fourth in terms of pulling down capacity relative to what it was.
David Vernon
Okay. And as you think about the bigger picture around demand notwithstanding, it does feel like the industry is still under-earning its relative share of GDP. And you can get there through price. You get there through volume, but it does feel like the — through many cycles in the past, we’ve seen a growth in trips per person per year. We got population growth, all that kind of stuff.
It feels like we’re under supplying demand today. And that’s largely because of constraints, constraints getting pilots, constraints getting engines, constraints getting planes.
Bob Jordan
Supply chain and the like.
David Vernon
Air traffic control constraints in New York and certain markets. How long do you think we’ll be dealing with some of these constraints? Are we at a point where the industry has kind of outgrown antiquated ATC systems? And we’ve retired too many pilots, it’s going to take a long time to rebuild this? Or is this a short-term sort of supply issue?
Bob Jordan
I do think — that question has been answered all kinds of ways, by the way.
David Vernon
Got a lot of different answers. That’s why I’m asking.
Bob Jordan
Is sort of the inflation here to stay or not is — but we’ve all dealt with supply chain issues. And I do think they’re temporary. And temporary may mean different periods of time here, though. If you go back a year, maybe 18 months, there was discussion of the — all the supply chain issues will be worked out in six months, right? That hasn’t happened.
But I do think it is still a temporary phenomenon, and the vast majority of supply chain issues will be worked out within a reasonable period of time, because we’re seeing that. We’re seeing far fewer issues today than we saw nine months ago. The supply chain — the supply issue with pilots, I think, is more complex, simply because it takes a knowable amount of time to produce a Part 121 qualified airline pilot that could fly for us as an example.
We’ve taken a look at the — I guess, you would call it pilot supply chain in a number of ways, understanding all of the way somebody becomes a pilot, whether it’s military or school or whatever it is. And it does feel like that’s with us for a little bit longer. My guess is that shortage is something that lasts probably three years is what it feels like, the pilot constraint for the industry.
At Southwest Airlines, I do want to make sure I point out that we’re getting our pilots. We’re filling our classes, our training center. I’m over there every week, our training center, talking to both the new hires and captain upgrades. Our training center is packed with pilots going through training. And so at Southwest, we’re getting — we are getting the pilots that we need but — and the constraint is really the ability to put them through the training center because it’s full.
And that’s why it’s taking till the end of the year to get all the aircraft in the air, not because we can’t get pilots. But I do think that the pilot constraint probably exists longer than some of these supply chain constraints.
You’ll have specialty things. It’s funny, if you talk to somebody like a GE or Boeing, the specialized labor that left or exited the market during the pandemic, somebody that knows how to produce is an absolute specialist and casting very small parts. And there are 10 people in the world that know how to do this kind of casting. Those are the things that are tougher to go recreate, but we’ll get there. So I think we’ll solve those in a relatively short period of time. Short being years, maybe less. I think the pilot constraints or whether it’s for a little bit longer.
David Vernon
What about things like air traffic control and some of the rise in close-call incidents that we’ve seen? Is this a situation where the system is — as it’s designed kind of running at capacity, so maybe we’ve got to throttle back in periods of peak demand to avoid a real challenging service issue? Or is this something that can get fixed relatively quickly?
Bob Jordan
Well, complex question. The air traffic — air traffic control modernization has been on the docket for decades, and it’s complex. And it’s wrapped up, obviously, right now and FAA reauthorization. And there are things we can do, the more aggressive use of RNP and flow programs around aircraft and the way track miles occur, those kinds of things.
On the other side, there’s no doubt that there’s far more traffic today than there was a decade ago. You take floor, you’re affected nearly every day or certainly every week by rocket launches. They restrict airspace. That did not exist two decades ago. So it’s a more complex question. But at the end of the day, there’s no doubt that a modernized air traffic control system could handle substantially more activity, no doubt.
David Vernon
But that’s a fairly long lead time?
Bob Jordan
It’s a long lead time. It’s a — there are political questions in there, obviously, attached to FAA reauthorization. So it’s a complex topic to solve as well.
David Vernon
Right. I want to talk a little bit about the service meltdown in last December, where you had mentioned the costs that you’ve had to deal with. There were some IT fixes done. You guys have been — you guys have actually been spending a lot on IT more than you have in the past.
Bob Jordan
Yes.
David Vernon
First question on this broader topic. How are you feeling about the customer brand perception? Has that started to recover? Have your internal studies on what customers are saying about you kind of make you feel that’s behind you? Or are you still doing a little bit of a lingering? Maybe there’s a little bit of a book away because of what happened to last Christmas.
Bob Jordan
Yes. If you don’t mind, I want to take just one minute and go back. So we did have a very rough week in December. It started with extremely severe weather. The worst weather — the coldest temperatures Denver has ever seen, as an example.
But at the end of the day, after three or four days, other airlines began to recover, and we did not. There’s no way around that. We inconvenienced a lot of people during the holiday period, upwards of 2 million customers. And while I’m not proud of that, I’m very proud of the way we and our employees handle that. So we went far above and beyond.
We refunded people — that were involved in that, we refunded tickets and did it very quickly and beat the dead, the required deadlines. We reimbursed folks for all kinds of things, other airline tickets, Ubers, hotels, rental cars, pet setting fees, I use that. We actually bought one couple bought a car off at Craigslist and used it to drive home, and we bought the Craigslist car back from. So we went above and beyond in terms of taking care of our customers that we did 2.1 million gestures of goodwill, basically free tickets to customers.
We did things for employees. We — because they were in a very tough working environment. We gave them gestures of goodwill, gratitude pay. So it was very expensive, $1.2 billion, about 2/3 of that being revenue loss, 1/3 of that being the cost that I talked about. So while I’m not proud of the week, I’m very proud of the way we handled it. And I believe that we, the people of Southwest Airlines, lived up to our brand promise of doing the right thing. So I’m proud of that.
So second, we have gone to work on — we did the work to understand what happened, why we struggle to recover. A lot of it is around winter preparation and de-icing preparation, those kinds of things. There are some aspects. It wasn’t technology, but there are some aspects that would have been better had we had some different technology. Much of that is already complete.
And we’re spending tens of millions of dollars, OpEx, tens of millions of dollars CapEx to make sure that we are ready for the winter of 2023, de-icing trucks, additional glycol tanks, additional de-icing pads. I could go on and on, but I won’t. But we worked very hard to understand what went wrong and what do we do to make sure that this never happens again, because it never happen again. I’m not going to do this to our customers or our employees.
So I just had to say that as a basis. Now if you look at what the impact on our customers, most of that impact was isolated to January and February. If you think about things like book away, we are not seeing book away. There’s no evidence of booking way sort of March and beyond. As an example, our March Managed business revenues were nearly fully restored to 2019, the best month that we’ve had.
But it’s something that we look at constantly. We know we have work to do to restore trust, both with our employees and our customers. So we are constantly looking at NPS scores and customer activity and surveying to ensure that we don’t have a hangover as you thought about. But we’ve got the best thing we can do, and other than take care of our customers is we must run a terrific operation and we must not allow those kinds of things to happen again.
And 2023 so far, the operation has been really good. If you just look at Memorial Day weekend, which just occurred, we had one of our best Memorial Day weekend performances ever, not just on the revenue side, but on the op side. We were just under 90% on time for the Memorial Day weekend. And our completion factor, which is flights that got to their intended destination, was roughly 99.6%. So we had one of the best operational Memorial Day weekend we’ve ever had. And the best way to mitigate customers’ concern is to keep it — is to keep up week after week.
David Vernon
So one of the unfortunate things that came out of that, just given the coverage and given the notoriety, was maybe this perception that there is — Southwest is still in a tech deficit, that — and investors look at that and say, well, if I valued Southwest at this free cash flow margin in the past, maybe that was too high because they were hanging out with antiquated systems and not investing enough in the business, so maybe that’s not a good guidepost going forward.
Bob Jordan
Right.
David Vernon
How would you sort of coach me to talk to investors about that perception issue, that risk issue, that historically, we might have been great cash flow, but they were under-investing? Particularly now, just given that you are spending so much on aircraft and IT right now, like it’s difficult to see where that balances out in the future. Like how do we get comfortable that the future cash flow margins will be similar to the past at Southwest?
Bob Jordan
Well, you start with, are we — so the starting argument is, do we understand the technology? Do we have a technology deficit that somehow is our own fault because we haven’t been investing? And it’s just not the case. We put — historically, we put $1.1 billion, $1.2 billion into technology every year. We’ll put $1.3 billion into technology this year.
My background is Computer Science, 40 years old, so I can’t do squat in Computer Science right now, but that’s my background. You always have systems that are brand new, and you always have systems that are in need of being refreshed, because you have a portfolio of 1,000 things out there. So that — so you’ll always have things in those two states.
If you look back over just the last five years, we’ve put huge new technically advanced systems in place. We have a brand-new tech ops or maintenance system, state-of-the-art that we put in place. We have a brand-new reservation system that we switched over to, which is a gigantic task to switch reservation systems as an airline. We just put a brand-new state-of-the-art human capital or HR system in place. And I can go on and on and on about these huge investments. And we’re investing right now in — before the disruption, we had a huge — I’ve just called it investment and modernize the operation.
So taking paper out of the turn process, so it can be more efficient, moving to electronic fuel distribution and fuel plans, and moving to a much more sophisticated way of thinking about optimizing and tying aircraft flows and crew flows together. So I can go on and on about the investments. So I do not feel like we have under-invested.
At the same time, we have boosted our investment here in 2023 to work, in particular, on the things that we want to speed up the progress on related — or that could have helped us during the ops disruption, some of our crew systems, some of our crew notification systems, our crew phone systems. If you think about just — well, you started with just capital spending, I think our capital — our CapEx this year will be about $3.5 billion; two Boeing, three aircraft; one Boeing, two other. And a significant part of the other is technology.
So I think about the split of our CapEx that way. But I think at the starting point to me, though, would be we have not built up a deficit of lack of tech funding that now has to be paid for in the future. We’ve been spending a lot of money in technology, and we’ll continue to do that.
David Vernon
Okay. And one of the initiatives you did complete recently was a new revenue management system.
Bob Jordan
We did
David Vernon
Which is a relatively — that’s a different way to approaching sort of the whole equation of the yield management. You guys have always had a slightly different version of that with segmented fares. How is that investment in the revenue management system paying off? Where are you do you think, in terms of getting to more — a more optimal state of revenue generation? I mean obviously, I’m assuming there’s a lot of opportunity right now just because of the demand level.
Bob Jordan
There is.
David Vernon
But could you just sense on what kind of returns you’re getting at?
Bob Jordan
Yes, and swapping out revenue management systems is highly complex, just like your reservation system, because they are complex systems to start with. But yes, we selected the Amadeus revenue management system, and we did tons of testing before the selection, A/B testing basically to look at the old system produced this, the new system produced that. And you do that by having the two systems manage similar markets.
And what was very, very clear is that in Amadeus, our new system is far superior in terms of revenue production. We turned that on fully in May. And the system began in May, managing all forward bookings. So that doesn’t mean all of the May revenue was managed by the new system. It’s bookings.
So because we are — our booking curve is 60, 90 days out or further here. As we move through months, more and more of the revenue production will be revenue produced by the new system. So you’ll really see the benefit in the back half of 2023.
The systems are very different. They both obviously manage your loads and your yields. But the old system, the way it works, is basically managing a flight. So whether you’re going from A to B on that flight or you’re on that flight to then connect and go on another flight, it looks at that flight and says, how do I maximize the load factor, the most people on that flight and at some view of the itinerary, but that’s really what it’s doing.
The new system, as an input, understands itineraries. It understands that you’re going from A to B on that flight, but I’m going from A to B to then connect and go on to C. My itinerary is not just that flight. So it knows both of those. And it will — it makes a judgment call on who is willing to pay more for that seat on that flight. Because you need it to go from A to B, I needed to get half of my trip in to go to C. And that awareness of itinerary helps it make a better bid price decision on who is willing to pay more.
It also helps — and it’s not necessarily that the price is higher. What may be — what it may try to do is move you to a different flight where the loads are going to be ultimately lower. So because of that, where the old system worked to manage revenue by managed load factor, the new system works to manage the totality of revenue in the network because it’s aware of where everybody is traveling in the network.
So it will produce better revenue overall. It will also produce — what we’re seeing is it produces a better yield in terms of where you see close-in demand. So it has a better close-in demand return in terms of producing a better yield result close-in. We’re only a few months in, but we’re seeing that already. But — no, I have very high hopes for the ability of the system to generate a much better level of revenue production.
David Vernon
Any interest in telling us the difference between that A to B comparison and what the…
Bob Jordan
I have a lot of interest, but they won’t let me.
David Vernon
They won’t let you? I figured.
Bob Jordan
I would just say that we’ve got several strategic initiatives we have about, putting in GDS systems for Southwest business; putting our new fare product in, which is in, both of those are in; putting in this new revenue management system, which just went in; the new Chase card agreement, which went in last year; and then our fleet upgrades to the MAX. The totality of all of those will produce $1 billion to $1.5 billion in EBIT here in 2023. So the revenue Managed contribution is a piece of that. But no, we’ll tease that out.
David Vernon
All right. Well, I figured I’d give you a chance if you wanted to.
Bob Jordan
Good. Good try.
David Vernon
You don’t have to. So we’re coming towards the end here. One last quick question. we are spending a lot more in CapEx than now than you have historically. What is a good kind of run rate post the refleeting of the MAXs?
Is there even a way to mention? I’m just trying to think like in terms of building model, I often get asked, what do you put in the CapEx number for valuation on a cash flow basis? Is this level forever? Is it more lower there? Sort of between the 2? Like how do you — how should we think about pegging that?
Bob Jordan
Yes, I think we are — because we’re still working through this refleeting of this, a reflow of the order book with Boeing, I think that will be meaningful to what you just — to your question. We’re roughly $3.5 billion this year. So something there, so just north of there is not an unreasonable expectation. But I think we need to move through the reflow of the fleet plan with Boeing to come back. But no, our goal here is to — we’ve got aircraft to replace with retirements.
We’re going to continue to grow in sort of a mid-single digits kind of level. Our goal is to produce industry-leading margins, RASM over CASM. And all of those goals remain in place here as we come out of the pandemic and come out of this choppiness here in 2023.
And we’re very focused again. I know I’ve talked about this two or three times. We have a lot of opportunity. Now that we’ve got our hiring back, we’ve got — we’ll get the aircraft back in the air. We’ll get the fleet restored. We’ve got a lot of opportunity now to really work on optimization, optimize the network, rationalize the network, optimize our labor resources, optimize our aircraft flows, optimize our crew flows. And you’ll see a lot of that. That will be a big focus here in 2024.
David Vernon
Excellent. Well, we’re…
Bob Jordan
The future is bright for Southwest Airlines. I can tell you.
David Vernon
I wish. I just going to give the opportunity to close this out with the message to investors on why to put capital to work at Southwest right now. And you kind of did most of that. But if you’d like to take a minute here, open mic, on structured.
Bob Jordan
You bet. And yes, I’ve been at Southwest a long time. I’m coming into my 36th year. And– you can tell I’m an absolute believer. I’ve seen lean times and strong times, and I’ve always seen the company persevere through any difficulty, pandemic, no different.
The fundamental strengths when I started at Southwest Airlines, terrific hospitality, terrific operational performance at again, much smaller, but strong network, strong cost performance, terrific financial shape, terrific balance sheet, discipline, but above all, the best people in the industry and on the planet.
I get to be out with our people every single day, almost. And you won’t find a better, more dedicated group of folks that want to serve the airline. They want to serve their customers. They want to serve each other, focused on hospitality, be productive. And yes, we’ve been in this choppy period, but all of the strengths that are — that have been in place to make this company great, produce great returns make us one of the most admired companies, not just airlines in the world, produced terrific NPS, all of those things are in place. And I’m just unbelievably excited about the future of Southwest Airlines.
David Vernon
Awesome. Well, thank you very much for joining us today.
Bob Jordan
Thank you.
David Vernon
I appreciate your support of the conference. I hope you guys enjoy the rest of your day, and let us know if you have any questions.
Bob Jordan
Thank you. Thank you.
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