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1 Registration Number Coursework Form This form should be completed for each piece of coursework submitted. It is designed to aid the process of anonymous marking, the identification of work once marking is complete, and for you to make a plagiarism declaration. Please ensure that you fill in all parts of the form. Please note that you should hand work in by the prescribed method only. Plagiarism Declaration (By completing this form you are making the declaration below.) The work I have submitted, in accordance with University College Regulations, is all my own work and contains no plagiarism from books, articles, the internet or anyone else s work. Where I have quoted the words of another person, I have surrounded the quotation with quotation marks and have referred to the source within the text or by footnotes. Where I have taken ideas more generally from other people (by using secondary sources or by reading books, journals or articles but not specifically referring to them in the text), I have acknowledged such use by making a named reference to the author in the coursework. I have included a full bibliography and/or reference list as required. Module 2 0 M B 0 4 Code Module Title Strategic Management Module Convenor Dr. Julie Davies Academic Tutor Coursework Title The Southwest Way Submission Date 16 August 2011 Word Count 3115

2 The Southwest Way Staying ahead of the game during a struggling economy AUGUST 2011 MODULE 4: 20MB04 STRATEGIC MANAGEMENT DR. JULIE DAVIES 2

3 EXECUTIVE SUMMARY 4 INTRODUCTION 5 SOUTHWEST HISTORY AND CULTURE 5 COMPANY ANALYSIS 7 ANNUAL REPORT 7 PORTER S FIVE FORCES 8 SWOT ANALYSIS 11 RISK ASSESSMENT & CURRENT TRENDS IN THE MARKET 13 RISING FUEL COST 13 ENVIRONMENTAL IMPACT 13 RECOMMENDATIONS 14 DO NOTHING 15 DRASTIC OPTION 16 MOST LIKELY OPTION 18 BIBLIOGRAPHY 20 APPENDIX 22 PORTER S FIVE FORCES 22 SWOT ANALYSIS 23 3

4 Executive Summary Using Porter s Five Forces along with a SWOT analysis and Bowmen s Strategy Clock, this report will look at Southwest Airlines to discover why they have survived in an industry which is notorious for failure. Southwest Airlines started serving passengers in 1971 and has reported profit earnings since The company adheres to a culture revolving around keeping their employees and customers happy. Their strategy includes making sure all employees follow these three keys in their daily roles: 1. Safety 2. On-time performance 3. Creating satisfied customers Porter s Five Forces model holds the Airline Industry as highly competitive between legacy airlines such as American Airlines and Delta Airlines, yet also makes it hard for non-us companies to enter into the market. Along with this, consumers and suppliers hold the upper hand on bargaining power caused by online search engines such as expedia.com and FAA regulations. This report will also look at the risks this industry carries to see if the recommendations can help improve these risks. The main risk factor is the raising cost of fuel, yet the environmental impact of air traffic can cause the airline industry to loss consumers to other forms of transportation. This report will look at three options for Southwest Airlines that are recommended for this organization to continue to compete in the market. 1. Do Nothing 2. Drastic Option a. Enter into International Market b. Enter into Ground Transportation 3. Most Likely Option a. Enter into partnership agreements with other airlines strictly to create bargaining power over fuel and aircraft industries 4

5 Introduction The United States Airline Industry has been in decline for many years, in 2009 showing a negative growth of 13.7 percent (Datamonitor, 2009). During this recession in the Airline Industry, one company is still making a revenue of $10,350 million and a net income of $99 million USD. Not only has Southwest been able to make a profit during these past few recessions, they have proven to turn a profit for all forty years they have been running. This report aims to take a looking into this Southwest Airlines to see how this one organization can manage to still make a profit while most other businesses in the industry are filing bankruptcy. While looking at the nature of this company s ability to maintain a profit, this report will also look at options for this airline to continue to stay above all others in the Airline Industry. Southwest History and Culture Southwest Airlines opened their doors in 1971 to provide affordable air transportation to consumers within three of the major cities in Texas Houston, Dallas and San Antonio. Since then Southwest Airlines has grown to provide service throughout the United States with over 3,400 flights daily (Southwest, 2011). In May of 2011, Southwest also acquired AirTran Airways in hopes to expand their services further within the US market. This American owned and operated airline prides itself on customer service, even asking consumers to become a citizen of Southwest. This ideal Southwest portrays to their customers a way for them to feel more like part of the organization instead of just a consumer. The Southwest citizen also includes employees and suppliers to this company. Southwest Airlines is committed to diversity in their culture, to the point that they try to use suppliers who are disadvantaged, small, minority or womenowned businesses when they can meet our quality and cost objective 5

6 (Southwest, 2011). They also believe their employees and customers are so inherent to who we are as a company. (Southwest). Heskett, et al. believes this way of thinking is the key to success. In a case study done in 1994, Heskett shows how employee satisfaction increases retention and productivity which will lead to customer satisfaction and loyalty, turning into revenue growth and profitability. This is shown in the diagram below. Haskett goes on to prove this from analyzing the data of Southwest against other major airline competitors, as Southwest is the only organization from below which uses this type of strategy. Below are the graphs which show even though Southwest made less revenue, they are the only company who turned a profit. 6

7 This Service-Profit chain strategy correlates with Southwest s mission statement and is incorporated in their strategic plans to stay committed to their mission and culture which insures there is no strategic drift. Company Analysis Annual Report In May of 2011, Southwest Airline took a big step by acquiring AirTran Airways to diversify their US market. The newest report for 2011 Quarter 2 is the first report to include AirTran s profits into the Southwest Airlines figures. The total operation revenue for Q2 in 2011 increased by 30.6 percent to $4.1 billion compared to $3.2 billion for Q2 in However, total operation expenses for quarter 2 in 2011 were $3.9 billion compared to $2.8 billion in Q2 of Southwest claims this is mainly due to the increase in economic fuel cost per gallon which was 38.4 percent from last year (Southwest, 2011). 7

8 Porter s Five Forces Potential Entrants FAA has placed restrictions on foreign companies entering into the US Market and therefore has limited potential entrance Treat of Entry Suppliers Buyers There are only two major aircraft manufactures in the US market. Because of this, they have a monopoly over the industry for the larger planes and have more name their price Bargaining Power Competitive Rivalry Significant due to legacy airlines like Delta and American Airlines Bargaining Power In today market there are many ways for consumers to buy the lows priced airfare. With search service such as Kayak.com and skyscanner.com consumers can easily find the lowest price Treat of Substitutes Substitutes Other forms of transportation such as bus, rail and car are prevalent in the US, some offering cheaper alternatives than flying Potential Entrants The Airline Deregulation Act of 1978 (ADA) was originally meant to help consumers by letting the US government take a step away from the industry to let consumers determine fair market prices for airfare tickets. This Act, however, also regulated who could enter into the US market, making it difficult for non-us companies to penetrate. Due to Federal Aviation Administration s (FAA), along with President Kennedy, decision to limit the incoming non-us based companies, this has keeps this market open for legacy airline companies and some new airline companies. 8

9 Substitutes There are many substitutes in the US market for air transportation. The first, and probably most influential are cars. The US has a culture of road trips. This along with cheap weekend deals for car rentals and an extensive highway system, offer a direct competition to air transportation. Bus Service is also a competitor to airlines as companies like Mega Bus offer cheap one way tickets starting at as little as $1 USD. Also, services such as Greyhound have an extensive service which will allow a customer to travel to almost any part of the United States. Although the US does not have an extensive rail service, specific regions such as New England, contains many rail service options through Amtrak which will allow consumers to travel along the east coast. These services stop at major airports to offer transportation for customers to their final destination, who might have otherwise flown. Buyers For the past decade, search engine sites such as kayak.com, skyscanner.com and expedia.com have given consumers a bargaining edge. These types of websites offer contemporary travellers the advantage to select airlines which accommodate their needs regarding price, date & time, and which airline they prefer to fly. Before the age of the internet, consumers relied on either their travel agent or the airline to give them the best price possible. The growth in technological advances has opened the doors for consumers to have a little more of the upper hand. Southwest, however, does not offer their flights on any of these services. By skipping the middle man, in this case the travel agent website, Southwest can offer lower fares direct to their customers. This has proven to be effective for Southwest as they were considered the largest airline company in the United States based off of passengers for

10 Suppliers With the globalization of economies and industries, more companies are able to offer their products to organizations they might not have been able to a decade ago. Still, there are two key players in the aircraft industry which are Boeing and AirBus. Although these companies do not work solely on passenger aircrafts, they receive about fifty percent of their profits from this part of the industry. With the FAA safety regulations, it is also difficult for new competitors to come into this market which may be able to offer airlines better prices (Tan, 2011). Southwest Airlines prides themselves on supporting smaller community groups such as minority business owners and business that adhere to their concerns with environmental impact. Competitive Rivalry Legacy airliners are company which have been in the Airline Industry for a while. Although Southwest Airlines in its self can be considered a legacy airline, as it has been around for forty years, companies such as Delta Airlines and American Airlines have created a significant competitive rivalry. Although these airlines have an advantage because they are well known, they work off a hub-and-spoke strategy. This strategy is good for long-haul consumers, yet creates extra cost which is not accrued by Southwest Airlines. With a hub-and-spoke strategy, most customers will need to transfer planes. This transfer cost by adding time which the plane will need to be on the ground to unload and reload both passengers and baggage. Southwest works off a point-to-point strategy which uses the premise that most customers will fly direct. By offering more non-stop direct flights, Southwest is alleviating the need for items such as meals and drinks for long hauls. It also reduces the amount of employees necessary to unload and reload both passengers and their baggage. New American based budget airlines can also enter the market to offer competition against Southwest Airlines. These airlines, such as JetBlue, 10

11 follow some of Southwest s strategic plans by flying into smaller airports and catering to point-to-point consumers (direct flights). However, these airlines fail to compete with Southwest for consumer relations, as they do not set the culture which Southwest has managed to create for its company. In the US markets, the costumer based relation is extremely important (Haskett). Off this module, a budget airline for Europe or Asia, such as Ryanair, would not fulfil the US markets need as they are more profit based by cutting cost rather than profit based by creating customer loyalty. SWOT Analysis This portion of the report will use a SWOT analysis to take a look at where Southwest Airline s current stand is in the market and see where they can improve. This analysis will help to give context to why the recommendations for this report where chosen. This section will give an outline to pertinent information which directly correlates with the recommendation. For a broader overview of Southwest s SWOT analysis, please see the Appendix. Strengths Southwest Airlines has many strengths, which is why they are already doing so well in the Airline Industry market. Below is an outline of the strength for Southwest which are relevant to the recommendations. Customer Service Rated No.1 in Consumer Reports Capital Was able to acquire AirTran this year (rated No.1 in Air Quality Consumer Report) th year of profitability Lower expenditures by offering service to smaller airports Average passenger load factor: 79.3 in became largest airline in the world based off number of passengers Quick turnaround for planes on the ground reduces cost by having less employees and offering services more often while utilizing less aircrafts 11

12 Weakness Although Southwest seems to only have a few weaknesses, these areas can provide opportunities for growth. Below is an outline of the weaknesses related to the recommendations. No diversification most of their profits relies heavy on passenger revenue Only available to the US market Opportunities These opportunities below will take a look at what is currently in the market and how the weaknesses of Southwest Airlines can take advantage of these opportunities. Partnering with another airline for purposes of buying fuel in larger quantities for a cheaper price Growth in air traffic US Government does not let Mexican Airlines enter into the US Market until they re-evaluate their safety protocols. Threats The threats listed will look at potential areas which can impact the opportunities as well as how Southwest Airlines can utilize their Strengths and Weaknesses to turn these threats into possible opportunities. Strong rivalry Fuel prices Environmental impact of air travel is more prevalent, therefore some environmentally concerned people 12

13 Risk Assessment & Current Trends in the Market Rising fuel cost Most companies in the Airline Industry s financial report will usually include the rising cost of fuel as their major risk. Southwest current financial report for the second quarter of 2011 stated the nature of their expenditures for this quarter was largely due to the rise fuel cost. As you can see below, Brooks shows how lucrative the jet fuel industry can be. Many airlines in 2008 tried to hedge their cost for fuel and ended up paying a higher price. Environmental impact Along with rising fuel cost, there has been an up-swing in the knowledge of the environmental impact air traffic creates. Peeters and Gossling state that, Almost 80%of the greenhouse gas emissions released through tourism-related transport. By 2020, the share of outbound tourism trips based on air travel is predicted to increase to 30%, accounting for almost 90% of all emissions resulting from tourist travel. 13

14 Southwest Airlines has made their carbon footprint one of their top priorities, stating in the 2010 Annual Report (One Report): Our planet needs us to be good stewards of the environment. While staying true to our low-fare brand, we operate with a green filter, a mindset of making environmentally responsible decisions, to do our part to preserve the planet. Along with this, they have set up a mission statement regarding specifically what their organization strives to do for the planet. Recommendations In order to determine which strategies will best suit Southwest Airlines, we will need to take a look into where their position in the competitive market sits. Bowmen s strategy helps to demonstrate where Southwest holds the competitive advantage. The Strategy Clock: Bowman s Strategy Options High Perceived Added 2 Value Low 8 Price High 14

15 This graph exhibits Southwest s strength in the market place. They hold a low cost yet a pretty high perceived value through their customer service. This is easy to compare with companies like Ryanair who may be closer to option one and two. Southwest will need to be careful not to start pricing wars where as Ryanair is in constant price wars with other airlines such as Whizz Air and Easy Jet. Below are three recommendations based off the Porter s Five Forces, SWOT analysis and Bowmen s Strategic Clock. Do Nothing Since the time of Southwest Airline s inception, the company has thrived in an industry which is notorious for losing money. For most company, it will take at least five years before they are out of the red (Harris, 2006), Southwest did it in two. This is made known by the graph below which shows the Revenue from Passengers from 1971 to Passenger Revenue Passanger Revenue year Southwest was able to achieve this by following a corporate strategy which gives all employees the same objectives, listed below. 15

16 1. Safety 2. On-time performance 3. Creating satisfied customers With their current strategy, Southwest tends to be flexible and adapted to what the customers needs are. If they were to stay with this strategic plan, they would probably still do well in the short term. They would probably also continue to create revenue reasonable well in the long term, but they may not able to sustain this revenue income depending on market trends, cost of fuel and other outside factors. Drastic Option Southwest has already drastically changed the airline industry by opened the doors to a larger consumer market and tapping into customers who would normally have used other forms of transportation such as buses, trains and automobiles. With this is mind, there are only a few options Southwest Airlines could follow which would be considered a drastic option while still remaining in their core competences. While taking a look at their SWOT analysis, Southwest s main concern could be that about 96 percent of their revenue is directly from passenger income. With this strategy, if something where to happen to Southwest s customer base for the airline industy, they would easily lose their revenue stream. In this case Southwest should diversify their market to incorporate other types of revenue. This diversification should stay within Southwest core competencies, since they tend to do well in the area they already work in, which is passenger travel. Therefore, there are two areas in which Southwest Airlines can diversify their market while staying within their competencies. 16

17 Enter into International Markets Since Southwest already is consistent with their airline service, they could add short-haul flights to Canada and Mexico. The flights to Canada would only link together areas such as Seattle to Vancouver and New York or Boston to Montreal or Ottawa, Canada. The flights into Mexico would also only service a few flights from either Texas or Southern California into major cities in Mexico. As the United States government has already lowered Mexico s Airline Industry s safety ranking (Borenstein, 2011).This move would allow passengers in the US Market to travel abroad as well as open up Southwest s customer base to these regions. Enter into Ground Transportation By offering customer s bus or train service, Southwest can compete with services such as Amtrak and Mega Bus. This move would also allow Southwest to enter into area where the airports are too small to use as a point-to-point destination. The two services would work for different reasons to offer their cliental passenger service. The high speed train service would link destinations Southwest already flies, into tourist destinations which Southwest may or may not already fly into. These services, however, would not compete with Southwest current point-topoint flights, as they would not have the same routes as the airline service offers. These train services would be routes such as Nashville, Tennessee to Chattanooga, Tennessee or Memphis, Tennessee and Columbus, Ohio to Cleveland, OH. Offering these services from a Southwest destination would allow current customers the option to continue on their journey and still maintain the fast plane turn over which Southwest is known for. This service will also open the doors to new consumers who either do not like flying or did not have Southwest service already in their region. The bus service will provide service to smaller cities or towns which are in more rural areas states such as Kentucky or Arizona which Southwest offers a 17

18 point destination to only one or two of the major cities of these states. This bus service will pick up passengers from small cities such as Flagstaff, Arizona and take passengers to the airports in the closest city with a Southwest Airline destination. These bus destinations would also cater to college students, as pick up points can be centred on large campus in rural areas, such as Eastern Kentucky University who nearest Southwest airline destination Louisville, Kentucky. Both these options will help Southwest offer their consumers a more environmentally friendly option as well as keep the company to their ecoconscientious standard. This strategy will open Southwest to new market bases and give these consumers a new way to travel. Most Likely Option The major risk of the Airline Industry, stated in most airline companies financial statement, is the rising cost of fuel prices and the lack of bargaining potential. With the risk, the most likely option for Southwest would be for them to enter into partnerships with other major airlines. As Brooks established, hedging fuel prices is a very risk business. Most airlines had a higher price per gallon with hedging rather than without hedge. Southwest Airlines is obviously winning at the hedging game for 2008, but there long term contract will soon expire and they will once again be looking for the lowest fuel cost available. This partnership would strictly be for bargaining power over the suppliers of both fuel cost and with Boeing or Airbus who hold a monopoly in the Aircraft Industry for larger planes. This partnership will help to subsidize the cost Southwest is currently paying for these services and in turn increase their profits. 18

19 Conclusion Southwest has managed to win in the game of the Airline Industry for the past 40 years. This organization has a very strong start to what seems like a long term company. Sustainability may be able to continue with the good strategic plan and forecast for the future. However, changes in the market can make any business crumble and Southwest Airlines needs to be ready for it. All of the recommendations above can help set Southwest up for success and prepare them for the future. 19

20 Bibliography Borenstein, S. (2011). On the Persistent Financial Losses of U.S. Airlines: A Preliminary Exploration. National Bureau of Economic Research, Working Paper Brooks, R. (2010). A Life Cycle View of Enterprise Risk Management: The Case of Southwest Airlines Jet Fuel Hedging. The University of Alabama Economics, Finance and Legal Studies Working Paper Series. [online] Available at: < [Accessed 16 August 2011]. Datamonitor, (2008). Southwest Airlines Co. [online] Available at: < 4afc-87cb-befd41cb5967%40sessionmgr104&vid=6&hid=103> [Accessed 11 August 2011]. Daramonitor, (2009). Airline Industry Profile: United States. [online] Available at: < [Accessed 15 August 2011]. GAO United States General Accounting Office, (1999). Airline Deregulations: Changes in Airfares, Service Quality, and Barriers to Entry. Reprot to Congressional Requesters. [online] Available at: < [Accessed 15 August 2011]. Gittell, J. (2005). The Southwest Airlines Way. New York: McGraw-Hill [summery online] Available at: < ch&as_sdt=1%2c5&as_sdtp=on> [Accessed 09 August 2011]. Gossling, S. and Peeters, P. (2007). It Does Not Harm the Environment! An Analysis of Industry Discourses on Tourism, Air Travel and the Environment. Journal of Sustainable Tourism. Vol. 15, No. 4, 2007, pp [online] Available at: < 16 August 2011]. Harris, T. (2006). Start-Up. New York City: Springer Heskett, J. et al. (1994). Putting the Service-Profit Chain to Work. Harvard Business Review, March April 1994, pp JetBlue, (2011). Available at: < [Accessed 15 August 2011]. Morrison, S. and Winston, C. (1986). The Economic Effects of Airline Deregulations. Washington D.C.: Bookings Press. 20

21 Morrison, S. (2001). Actual, Adjacent, and Potential Competition. Journal of Transport Economics and Policy. 35 (2), [online] Available at: < t00005> [Accessed 11 August 2011]. Porter, M. (1996). What is Strategy? Harvard Business Review. November December 1996, pp Southwest Airlines. (2011). Available at: < ABOUT-MISSION> [Accessed 12 August 2011]. Tan, K. (2011). The Use of Regional Airlines as a Barrier to Entry to Low-Cost Carriers. Department of Economics: The Ohio State University. June

22 Appendix The Southwest Way 12 August 2011 Porter s Five Forces Threat of New Competitors AirTran was a competitor and was acquired by Southwest in May 2011 JetBlue Airline also offers fares starting at $49 one way o Only 1 free baggage (SW offers 2 free bags up to 50 lbs each) Federal Aviation Authority (FAA) regulations make is difficult for foreign entry into the US market Threat of Substitute Products or Services Megabus service offers cheap bus fares starting at only $1 Amtrak offers service easy accessible rail service starting at $49 in the New England area Weekend car rental deals for half price Bargaining Power of Customers (Buyers) SW offers point-to-point flights to shorten the journeys o Decreases cost by not offering meals o Most customers fly direct (how many?) o Less baggage to transfer between aircrafts No Business or First Class o Keeps the Low Cost airline for consumers who would normally travel via other lower cost transportation (ie bus or car) Realized the upswing of business travellers and therefore is adding larger planes and more locations, such as Newark, to accommodate Offers special non-stop one-way deals starting at $49 Rapid Rewards to offer extra perks for loyal customers o Many US airlines also have this scheme Search engines such as kayak.com and skyscanner.com can offer the cheapest price tickets for most of the major airlines, giving some power back to the consumer on buying tickets Bargaining Power of Suppliers Two main jetliners (Boeing and Airbus) dominates the market o Gives these to organizations a competitive advantage as they mainly need to compete against each other SW builds relations with their suppliers, saying they prefer to use disadvantaged, small, minority or women-owned businesses when they can meet our quality and cost objective Intensity of Competitive Rivalry SW offers point-to-point flights to shorten the journeys (rather than huband-spoke service) o Decreases cost by not offering meals o Most customers fly direct (how many?) o Less baggage to transfer between aircrafts No Business or First Class 22

23 o Keeps the Low Cost airline for consumers who would normally travel via other lower cost transportation (ie bus or car) Fast gate turn-around than rivals (only 15 minutes) Frequent departures Fewer aircrafts o Less aircrafts to maintain o Less employees needed if there are fewer crafts Strong legacy rivals such as Delta Airlines and American Airlines SWOT Analysis Strength Customer Service Rated No.1 in Consumer Reports Capital? Was able to acquire AirTran this year (rated no.1 in Air Quality Consumer Report) th year of profitability Low cost by offering service to smaller airports Average passenger load factor: 79.3 in 2010 Does not use travel agents to keep cost low which is passed on to the customer Not many direct competitors offering service & price at similar levels 2009 became largest airline in the world based off number of passengers Flexible jobs / positions that span boundaries Quick turnaround for planes on the ground reduces cost by having less employees and offering services more often while utilizing less aircrafts Opportunities Business travellers Partnering with another airline for purposes of buying fuel in larger quantities for a cheaper price Growth in air traffic US Government does not let Mexican Airlines enter into the US Market until they re-evaluate their Weakness Does not use travel agents to keep cost low which is passed on to the customer impacts marketing No diversification most of their profits come relies heavy on passenger revenue Only available to the US market Threats Strong rivalry Supplier power two main jetliners (Boeing and Airbus) dominates the market Fuel prices Environmental impact of air travel is more prevalent, therefore some environmentally cautions people 23

24 safety protocols are not flying Business travellers new technology such as virtual meeting 24