Is Southwest Airlines Co. Losing Its Edge?

Southwest Airlines Co. is becoming more like legacy carriers, such as Delta Air Lines and American Airlines, in more ways than one.

Apr 9, 2014 at 6:18PM

Historically, Southwest Airlines Co. (NYSE:LUV) differentiated itself from the legacy carriers through a combination of lower fares and better service. With these two big advantages, it was hardly surprising that Southwest consistently took market share from larger competitors like Delta Air Lines (NYSE:DAL) and American Airlines (NASDAQ:AAL).

Today, Southwest still offers free checked bags (a rarity in the airline industry), and a very liberal ticket-change policy. However, it has given up some of its traditional advantages. Its average fare rose to $154.72 last year, compared to $126.12 in 2008. Part of this rise has been driven by longer passenger trips, but cost creep has also been a major factor.

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Southwest's advantage over legacy carriers like Delta and American is disappearing. Source: The Motley Fool

Meanwhile, as Southwest has become more like the legacy carriers, it has given up its edge in operational performance. While Southwest Airlines still positions itself as a disruptive innovator in the airline industry, its superiority over competitors is much less certain now.

Reverting to the mean
Southwest has traditionally been one of the better airlines in terms of service quality, as measured by the annual Airline Quality Rating report. As recently as 2007, Southwest was in third place in the study, but for the last two years, it has posted a decidedly middle of the pack eighth-place performance.

The interesting thing is that most of the movement has happened around Southwest -- other airlines have gotten better and leapfrogged Southwest. In fact, Southwest's 2013 score of -1.06 was a big improvement over its 2007 score of -1.59 (smaller negative numbers are better).

However, US Airways raised its score from -2.94 to -0.88 in the same time period, jumping ahead of Southwest. American Airlines raised its score from -2.19 to -1.10, putting it on the verge of passing Southwest. Meanwhile, Delta Air Lines, which posted a score of -1.22 in 2010, the first year after it completed its merger integration, has since improved that to -0.59, putting it in the upper echelon.

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Delta Air Lines has surpassed Southwest by a wide margin in the Airline Quality Rating rankings. Source: The Motley Fool

In other words, while other airlines have made great strides in avoiding late arrivals and handling baggage properly, Southwest Airlines has seen mixed results. For example, Southwest continues to receive the fewest complaints per passenger of any airline, but its on-time performance has suffered as it has begun serving busier airports, and its planes have become fuller.

Merger integration hits performance
For the most part, Southwest's problem has been that it hasn't improved as fast as other airlines. However, in 2013 Southwest actually saw a significant decline in its AQR score for the first time since 2007. Southwest's score dropped from -0.81 to -1.06 last year, while merger partner AirTran's score plummeted from -0.51 to -1.20.

Both Southwest units experienced significant declines in on-time performance, "bumped" more passengers due to overbooking, and mishandled more bags. Southwest also saw a slight uptick in customer complaints, although it remained the industry leader on that metric -- AirTran's customer complaints declined.

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Southwest Airlines may be feeling some merger pains. Source: The Motley Fool

This deterioration in customer service metrics is a likely sign of merger integration problems. Southwest and AirTran began code-sharing last year, thereby connecting the two route networks, which had been operating separately before. It's now possible to buy tickets on Southwest's website for AirTran flights, and vice versa.

Connecting the two route networks opened up a big new revenue opportunity by creating more flight options for customers. However, it also increased the complexity of operating Southwest and AirTran -- and customers suffered.

Foolish final thoughts
Customer-friendly policies, like free checked bags and no change fees, still differentiate Southwest from the pack. However, the carrier's advantage over legacy carriers like Delta Air Lines and American Airlines is narrowing.

As Southwest finishes integrating AirTran and moves back to operating under a single brand, it will be critical for the company to improve its operational performance to make up ground on the legacy carriers. Otherwise, it risks becoming "just another big airline."

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Adam Levine-Weinberg has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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