Southwest Airlines Co. Is Planning Disruptive Growth in Dallas and D.C.

For years, Southwest Airlines Co. (NYSE: LUV  ) has been waiting for the Wright Amendment to be repealed so that it could offer long-haul service in its hometown of Dallas. Southwest CEO Gary Kelly was also a vocal proponent of requiring American Airlines (NASDAQ: AAL  ) to give up slots at Washington, D.C.'s crowded Reagan National Airport as part of its merger with US Airways.

Southwest is growing significantly in Dallas and Washington, D.C. Photo: The Motley Fool

On Monday, Southwest Airlines revealed its fall flight schedule, which incorporates a full complement of new flights in Dallas as well as at Reagan Airport. Southwest's growth in these two cities will have a disruptive impact on several key air travel markets by boosting capacity and undercutting the dominant carriers with lower fares.

Unleashing the "Southwest Effect"
Dallas and Washington, D.C., are two unusual markets, because for decades, Southwest Airlines has been severely limited in terms of the flights it could offer. Until it acquired AirTran a few years ago, Southwest did not serve Reagan Airport -- the most convenient airport to most of the D.C. area -- due to a lack of flight slots.

Instead, Southwest has served Washington, D.C., via Dulles Airport and BWI Airport, which are much further from the city center. (BWI is one of Southwest's largest focus cities today, with more than 200 daily departures.) Over the next six months, Southwest will grow from 17 daily departures to a more respectable 44 daily departures at Reagan Airport, thanks to the slots it acquired from American Airlines.

Southwest acquired 27 Reagan Airport slot pairs that American had to divest. Photo: American Airlines

Meanwhile, Southwest has an average of 124 daily departures at Dallas Love Field, but under the terms of the Wright Amendment it can only fly within Texas and to a few neighboring states. Rising fuel prices and stricter security procedures have decimated short-haul air travel, making Southwest's inability to fly longer routes in Dallas a real liability. Fortunately, most Wright Amendment restrictions will disappear in October.

Now that Southwest is allowed to grow in Dallas and Washington, D.C., travelers in both cities will benefit from the "Southwest Effect". Fares will fall, stimulating increases in traffic. Since Dallas and Washington Reagan are both American Airlines hub markets, American will bear the brunt of the resulting pressure on unit revenue.

A look at one key market
The effect of Southwest's growth in Dallas and D.C. can best be seen by looking at the market for flights between those two cities. Today, American Airlines is the only airline flying nonstop from Dallas to Reagan Airport, offering 11 daily departures. Including all three D.C.-area airports, American has a nearly 85% seat share, with 20 out of the 24 daily round-trips.

As of Nov. 2, Southwest will offer six daily round-trips between Love Field and Reagan Airport. Southwest will also add three daily round-trips to BWI this fall. Additionally, Virgin America plans to fly from Love Field to Reagan Airport with three daily round-trips starting in October, increasing to fiour daily round-trips next year.

Virgin America is growing on a smaller scale in Dallas. Photo: Virgin America

This will dramatically reshape the competitive landscape. If American Airlines maintains its current schedule, its seat share will fall to a little more than 50%, with 20 out of the 37 flights between the two metro areas. This dramatic increase in competition should lead to much lower nonstop fares going forward.

According to the Department of Transportation's Consumer Airfare Report from Q2 2013 (this time last year), American Airlines carried 60% of the passenger traffic between the Dallas and Washington metro areas. Its average one-way fare on the route was $294, roughly 50% more than the average fare paid for one-stop service on Southwest for the same route.

Of the 12 city pairs in the 1200- to 1300-mile range with at least 1,000 daily passengers, the Dallas-Washington route had the second-highest average fare at $260. The median route of that length was nearly 20% cheaper, and the only city pair in that group with more expensive flights was Washington-Houston: another underserved market where Southwest is adding flights this fall.

Competition will lead to lower fares -- and profit margins
No matter how American Airlines reacts to the growth of Southwest (and to a much smaller extent, Virgin America), it will be less profitable in markets where it goes from having little or no competition to facing robust competition from one or both low-cost carriers. (So far American has not altered its Dallas-Washington, D.C., flight schedules.)

For travel in early December between Dallas and Reagan Airport, American's cheapest round-trip fare is more than $400. Meanwhile, Southwest is offering promotional $99 one-way fares. Longer term, based on Southwest's average yield of roughly $0.16, the average Southwest ticket for one-way travel on that route may be around $200, more than 30% below American's average fare last year.

Other busy routes that will see significant changes in the competitive dynamic include Dallas-New York, Chicago-Washington, Dallas-Chicago, Dallas-Los Angeles, and Dallas-Phoenix.

Consumers are hoping that increased low-cost-carrier service on these routes will lead to lower fares, bucking the airline industry trend of consolidation driving ticket price increases. So far, it looks like Southwest's big expansion projects in Dallas and Washington, D.C., will benefit people traveling to and from those cities. Elsewhere in the country, most travelers won't be so lucky.

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Read/Post Comments (11) | Recommend This Article (6)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 20, 2014, at 12:42 PM, GeoGecko wrote:

    Keep promoting LUV as a LCC and it may actually happen (again). With a few exceptions, LUV is always like priced to their competition. They are no where near the force in driving prices that they once were. One huge advantage they still hold though is in their bags fly free promotion.

  • Report this Comment On May 20, 2014, at 12:48 PM, jurassic1974 wrote:

    According to the article, AA offers a $400 round trip airfare. The author anticipates SW will eventually offer $200 one way fares. I know public math is always a dangerous proposition, but I see zero difference. And it has been this way for a long, long time. Every time I need to buy a ticket, I shop all the major carriers, including SW. I cannot remember the last time SW was the cheapest.

  • Report this Comment On May 20, 2014, at 3:24 PM, TargetSpot wrote:

    That would be a correct assumption if Southwest started charging $25-35 per checked bag. This will give them the ability to be at least 17% cheaper if the consumer were to check at least one bag round-trip. Southwest has increased their fares over the last 5-6 years but they don't charge extra fees to be in a designated seat. Instead they allow you to sit in any open seat available.

  • Report this Comment On May 20, 2014, at 5:28 PM, theredbaron wrote:

    The huge advantage of "Bags fly free" will end at somepoint in the near future. The only reason they havn't charged for bags is because their reservations system did not allow it.This was one of the reason's for the airtran meger; in addition to add the international routes as well. If you notice SW no longer advertises "bags fly for free" and they have also removed the phrase from the airplane side. They are setting the passeerengs up for this fee. SW misses out on an est $500 million in ancillary revenue by not charging for bags. Enjoy it while you can!

  • Report this Comment On May 20, 2014, at 5:31 PM, TMFGemHunter wrote:

    @jurassic1974: $400 is the lowest airfare available on American. The average one-way airfare on AA (also reported in the article) for that route is $294 one-way (so close to $600 roundtrip). Similarly, while Southwest may aim for an average fare of about $200 one-way, the starting fares will probably be in the $120-$150 range normally.

    @GeoGecko: I mostly use the term LCC as one of convenience, because that's what people have called SW, JetBlue, Virgin, etc. in the past. I don't have any better term to suggest!

    The price gap between Southwest and the legacy carriers is smaller than ever -- if you don't count the value of no change fees and no bag fees. But Southwest still seems to be cheaper most of the time. Here's the data set I used: http://www.dot.gov/sites/dot.gov/files/docs/Consumer%20Airfa.... Southwest/AirTran offer the cheapest fares on a disproportionate number of routes.

    Adam

  • Report this Comment On May 20, 2014, at 5:34 PM, TMFGemHunter wrote:

    @theredbaron: I've never understood this argument about Southwest not charging for bags because of the reservation system. Somehow, Southwest manages to charge for a third checked bag or for an overweight bag!

    I think there's a good chance that Southwest will go to one free checked bag at some point in the next few years, but I'd be surprised if it starts charging for the first bag anytime soon.

    Adam

  • Report this Comment On May 20, 2014, at 6:05 PM, bsleblanc wrote:

    Adam, some research on whether or not the "Southwest Effect" still exists was just published for people like you yesterday. Enjoy:

    http://www.usatoday.com/story/travel/columnist/mcgee/2014/05...

  • Report this Comment On May 20, 2014, at 6:18 PM, mobycat wrote:

    I don't see this being as disruptive as you think. Southwest isn't that much cheaper than other airlines these days. As a matter of fact, flying out of Las Vegas, I can consistently find cheaper flights on other airlines, be they legacy or discount. The only real thing Southwest has going for it at this point is not charging for the first two checked bags.

  • Report this Comment On May 21, 2014, at 1:09 AM, Enplaned wrote:

    Whether Southwest is low cost or not is missing the point. This isn't (at least in the short-term) about their costs -- it's about supply of seats, and therefore fares.

    Expansion at Dallas Love Field and what Southwest is doing in Washington National Airport does represent net new capacity in those markets. That will drive down fares, especially in the specific routes that Southwest adds. It will definitely be noticeable, though whether that rises to "disruption" will be in the eye of the beholder.

    At both Dallas and National there will be a smaller countervailing effect. Some Dallas Love Field long-haul flights will come at the expense of flights that were previously flown within the Wright perimeter -- e.g. Lubbock, Amarillo, etc. So, less capacity, perhaps higher fares on those routes. But overall capacity at Love is going up, and therefore overall capacity in the Metroplex (including DFW airport) is going up and therefore, fares down.

    Likewise at National, Southwest flights come at the expense of dropped US Airways/American flights. So some other cities (generally smaller) are losing service. But overall, it's still a net increase in National seats so average fares should come down.

  • Report this Comment On May 21, 2014, at 6:18 AM, Tyeward wrote:

    I really don´t consider Southwest to be a low cost carrier anymore. To be honest, I would rather pay the extra 10 to 20 or so more and fly through a connecting hub with just that one stop than to go hopping all over the country like a greyhound bus to get to my destination. If they were considerably cheaper, I would still do it, however that´s just not really the case anymore. I also don´t see Southwest being the threat they are attempting to make themselves out to be out of DCA. With those additional slots given up by American, the only thing they will be doing is maybe opening up a new route or two, but overall just doubling down on where they already serve out of DCA, and that´s actually not really all that much. They would only be a threat if they were to cast a wider network from there. Love Field is where they should start putting their emphasis as well as Houston Hobby. DCA is fine and dandy, however they won´t be putting up any significant fight that will put any real dent in American´s operation.

  • Report this Comment On May 21, 2014, at 11:01 AM, TMFGemHunter wrote:

    @Enplaned: I couldn't have said it better myself. The "Southwest Effect" might be bigger if Southwest's costs were still much lower than the legacy carriers' costs. But the effect is really from having an extra competitor with significant flight frequencies. More supply=lower prices.

    By contrast, Spirit will offer much lower fares, but it's 1 flight a day from BWI to Dallas has a negligible impact on the market for travel between the Dallas and DC metro areas. 6 new SW flights from Love Field to Reagan, 3 new SW flights from Love Field to BWI, and 4 new Virgin America flights from Love Field to Reagan will represent a step change in competition.

    @Tyeward: Southwest basically operates hubs today. For virtually any city-pair in the Southwest network, you can get there nonstop or one-stop. The most common connection points are Chicago, Denver, Baltimore, and Las Vegas.

    As for Southwest's growth in D.C., it's going from 17 daily departures to 44. How is that not significant? Obviously, American has over 200 daily departures, but a lot of those are regional. Most of the big metro areas within the DCA flight perimeter will now have nonstop service on Southwest or JetBlue whereas hardly any did 2 years ago. Southwest is adding 7 new routes from DC with the American slots: Chicago, Dallas, Tampa, Nashville, Indianapolis, New Orleans, and Akron/Canton (which is really a Cleveland alternate airport). It's also adding frequencies to Houston and St. Louis.

    Adam

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