Extreme winter weather over the holiday weekend led to a crisis at Southwest Airlines (LUV, Financial), from the canceled flights to the U.S. Department of Transportation scrutiny.
While it's admirable that Southwest can often make more money in difficult situations compared to less profitable peers due to having a point-to-point model rather than a hub-and-spoke model, its handling of the recent weather chaos has been less than satisfactory and shows point-to-point does have its weaknesses.
Moreover, the lack of communication or proactivity with those affected by cancellations has drawn much ire, and now the U.S. Department of Transportation is putting additional pressure on the airline carrier.
With competitors beginning to catch up to Southwest in terms of profitability, I believe the recent weather issues call its long-standing premium stock valuation into question.
Winter storms and busy travel weekends
Over the holiday weekend, winter storms caused widespread chaos in the airline industry, with Southwest seeming to bear the brunt of the disruption. Over 30% of its flights were canceled daily - far more than any other carrier. As if that weren't bad enough, Southwest has continued to operate at a reduced schedule on Wednesday and for the rest of the following week.
It has been a challenging time for both passengers and Southwest employees. It's an unfortunate reminder that unpredictable weather can still majorly impact air travel times, even when carriers work hard to ensure a smooth journey for their passengers.
Southwest Airlines' apology may not be enough to calm disgruntled customers stranded in airports around the country. Despite the airline's pledge to rebalance its fleet and reposition crews, it is still struggling to deal with the wide-scale disruption caused by the record amounts of snowfall leading up to this point. Unfortunately, this isn't an uncommon occurrence; stories of long terminal waits and missed flights are all too familiar to many people. Southwest needs to maintain its customer-driven reputation and make every effort to get coastal communities back on track after these unanticipated disruptions.
Delving into company-specific issues
Despite the winter storm that brought unavoidable and often unpredictable weather conditions and closures, it was hardly just Southwest Airlines feeling the strain of the storm - other airlines experienced similar difficulties. Indeed, thousands of flights were canceled or delayed nationwide due to ice, snow, low visibility and treacherous winds, leading to stranded passengers and disrupted travel plans. With icy runways and highways forcing shutdowns in unanticipated places, delays were longer than expected for travelers hoping to reach their destinations on time.
For some unlucky passengers - especially those transiting through major hubs like O'Hare, LaGuardia, or JFK - a journey that should have been a few hours long suddenly stretched into days as they scrambled to arrange alternative transportation methods.
However, reports suggest that airlines such as Delta (DAL, Financial) and American Airlines (AAL, Financial) were able to recover from the freeze faster than Southwest. Issues arising from operational struggles are ultimately responsible for why Southwest has yet to rebound fully.
Despite being equipped with state-of-the-art technological systems, Southwest found itself unable to withstand the effects of the recent storm. Industry watchers indicated that the airline had difficulty coordinating the availability of pilots, flight attendants, aircraft and ground crews needed for a successful recovery. Even more troubling was the suggestion that problems may persist beyond New Year's Day 2023.
So why were Delta, American and United Airlines (UAL, Financial) able to escape the situation more quickly? It has a lot to do with the way they schedule flights compared to Southwest. Delta, American and United use a hub-and-spoke model, which is less efficient under ideal weather conditions but becomes more reliable in the face of disruptions. Southwest uses a point-to-point model, so if one flight is messed up, it has a domino effect. The advantage of point-to-point is that under ideal weather conditions, it saves time and money, leading to Southwest's typically higher profitability.
Regulators are circling the carrier
Southwest has had a rough few weeks as winter weather caused what U.S. Transportation Secretary Pete Buttigieg referred to as a complete "meltdown" of the system. The airline is still suffering the effects, with almost 2,500 out of 2,844 total U.S. flight cancellations on Wednesday being attributed to it - representing an astounding 88% of all canceled flights in the country. The unprecedented winter storms have caused an estimated 15,700 Southwest cancellations since Dec. 22, creating incredible disruption and distress for passengers. With further storms forecast this week, Southwest must pull out all stops to mitigate the situation and get its operation back on track.
With decades of successful operations, Southwest must solidify its reputation following a failed customer service period. With current investigations conducted by the U.S. Department of Transportation, Southwest must adhere to federal requirements for dislocated customers and prove that the issue was mainly due to weather or other factors outside its control.
Yet, at the same time, Southwest must take extra precautions to provide superior service and compensate for the disruptions it caused. By doing this, it can reassure travelers that despite this regrettable situation, Southwest will strives to remain an industry leader with its focus on customer satisfaction at the forefront.
Premium valuation is a bitter pill to swallow
Many investors have noted that weather-related meltdowns, though quite unpleasant at present, have not done much to alter the stock market trajectory for airlines in the past. This latest travel season has been no different. Southwest is likely to fall short of its fourth-quarter expectations due to canceled flights. Yet, it should eventually be able to absorb and move past this hiccup relatively easily.
It is nevertheless a good idea for long-term shareholders of Southwest to stay aware of the developing market situation. Over time, Southwest has grown into an airliner very similar to those it was once trying to disrupt. The airline's point-to-point network greatly distinguished Southwest from other carriers, but recent issues like the extreme winter weather show that this model does have its weaknesses.
As times have become uncertain and investors look for ways to weather the stock market storm, they may find more value and security in stocks that are attractively valued. Southwest has remained on top of the game for a long time, commanding a premium valuation over peers. But in today's tough economic environment, analysts and traders worry that this premium may not be warranted, especially due to Southwest's recent troubles.
Takeaway
As anyone familiar with the aviation industry knows, unfavorable weather conditions can cause many problems for airline operators. But as Southwest finds itself mired in a web of regulatory scrutiny, it will have a tough job proving why it's not at fault for being disrupted more than competitors.
In any case, recovery from the stormy weekend is just the beginning for Southwest; if it wants to repair its already-shaky passenger relations after such a major hiccup in service, it must put forth the maximum effort to restore trust with both its travelers and U.S. regulators. After several decades of premium profitability and price multiples, it cannot afford to sink further into disrepute among customers and investors.
