Southwest (NYSE:LUV) CEO Garry Kelly said in a May 29 video to employees that the middle seat on its planes will remain vacant until the end of July. Flying at two-thirds capacity, Kelly believes it will be bad for LUV stock.
I say the opposite is true. Here’s why. Southwest became famous for its point-to-point business model, which supplanted the traditional hub-and-spoke model employed by most airlines in America.
“Southwest’s point-to-point services allow it to offer more direct, nonstop flights, at lower fares, since these “other destination” airports typically have less air traffic. Further, this results in a longer list of operations with market leading positions for Southwest, rather than a concentrated set of mega hubs,” Trefis stated in 2016.
As part of controlling its cost structure, it runs a single-aircraft strategy using Boeing’s (NYSE:BA) 737. To save money on fuel and maintenance costs, it is moving to the 737 MAX 7 and MAX 8. It’s all part of the airline’s low-fare approach to flying.
However, like all airlines, Southwest does have a number of ways it recoups some of the money lost by offering low fares.
In 2019, USA Today discussed how the company made $642 million in its most recent fiscal year from passenger fees. This was up 13% from the previous year. Some of the ancillary revenue included the company’s EarlyBird Check-In option, Wi-Fi, and plenty more.
In case you’re wondering, Southwest’s ancillary revenue in 2019 was $711 million, 10.7% higher than a year earlier. And, I would dare say, these revenues come with pretty high gross margins.
As part of Kelly’s recent announcement about diminished capacity, he did say that if the demand is there in June and July, the company will add flights rather than fill the middle seat. Overall, its plans for the fall are for a 30% reduction in capacity.
“Hopefully it won’t be that deep. But that’s what the plan is right now. While overstaffing isn’t tied 100% to capacity levels, you can make at least some assumptions that we’re overstaffed in many areas at a similar rate,” Kelly said. “We’re well prepared for this catastrophe and we must strive to stay that way. Our low-cost philosophy, strategy, and structure will serve us very well.”
Now back to the middle seat.
LUV Stock and the Middle Seat
Given the financial bailout the Treasury Department has provided airlines – Southwest got $3.2 billion, which included $2.3 billion in payroll grants and a 10-year, unsecured loan of nearly $1 billion – you would think the Federal Aviation Administration (FAA) would require the airlines to keep the middle seat empty for the remainder of the year as a safety precaution for passengers and crew.
Kelly is basically stating Southwest will add flights rather than fill the middle row for the next two months out of the goodness of its corporate heart.
Wrong. The company knows it won’t get people to fly without that middle seat unoccupied. Yet, we’re already seeing countless instances of flights being slammed, totally ignoring the middle seat precaution. And passengers aren’t too happy about it.
The airlines believe the middle seat’s removal from service will hurt their business. I say the permanent removal of the middle seat will help their business.
Frontier Airlines is offering passengers the opportunity to pay an extra fee of between $39 and $89 to ensure the middle seat is empty when they fly. The offer is good through the end of August.
Why doesn’t Southwest run flights that physically don’t have middle seats? Imagine how much more comfortable, not to mention healthier; the flight would be. It could run flights without middle seats (more expensive) and flights with middle seats, making the added fee available for interested passengers.
That way, if you want to be cheap in the future, you can still fly in a rammed plane. But those of us who would prefer a little comfort can pay more for a flight without a middle seat.
Bottom line, the airlines have got to change their tactics. And even though I recently called Southwest the best of the bunch from a financial perspective, it’s less than perfect.
It can do better. Permanently removing the middle seat would be a start.
Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.