Southwest Activist Fight Exposes Strains Across US Air Travel

(Bloomberg) — When Bob Jordan addressed Southwest Airlines Co. shareholders after another disappointing quarterly performance in April, the chief executive officer expressed regret and promised to do better. Elliott Investment Management isn’t accepting the apology.

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The activist investor on Monday called for the ouster of Southwest’s leadership as it revealed a $1.9 billion stake, setting up a fight at one of the world’s largest carriers. It’s the latest activist play in the beaten-down air travel market, after Carl Icahn earlier this year parlayed an almost-10% stake in JetBlue Airways Corp. into two board seats.

Elliott is calling for new management at Southwest and a “comprehensive business review“ geared toward cutting costs, improving customer choice and upgrading its technology in a bid to boost Southwest’s stock performance 77% over the next year.

The drama is playing out against a backdrop of overly optimistic forecasts by many airlines that have dashed investor hopes for sustainable profit growth and punished stock prices — even as the industry enjoys record passenger numbers. Some of that has been outside of senior management teams’ control, such as volatile jet fuel prices, aircraft grounded by defects in RTX Corp. engines and postponements by Boeing Co. of new jets needed to expand.

But airlines have also copped to painful blunders. American Airlines Group Inc.’s CEO admitted last month that the carrier’s marketing strategy had angered corporate clients. JetBlue got stuck with excess capacity for Latin American routes. Spirit Airlines Inc. and Frontier Group Holdings Inc. have recently begun to rethink their cheap-chic ethos. And a near total meltdown at Southwest in late 2022 stranded millions of travelers, something Elliott pointed out as a sign of ineptitude.

The current crop of activists is just the latest wave to be attracted to the industry’s low share prices and challenging operating environment. A pair of hedge funds won board representation in 2016 at United Airlines Holdings Inc.’s predecessor company and Icahn famously took over Trans World Airlines, or TWA, in 1985 and led the company into a Chapter 11 filing in 1992.

“The industry always suffers from valuations that are nowhere as rich as the rest of the marketplace,” which makes airlines vulnerable to activists, said George Ferguson, a Bloomberg Intelligence analyst. “But it’s also a really hard industry to earn a long-term, nice return on capital. Maybe if you’re an activist you don’t want to be there long term.”

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While profits and share prices have taken a hit, two US airlines have broken from the pack and say they are on different paths from the rest of the industry. Delta Air Lines Inc. and United, whose shares have risen 44% and 29%, respectively, over the past two years, are seeing strong gains on their bottom lines.

Neither has been shy about touting what they see as superior business models anchored in strong domestic hubs and a thriving international network.

“It’s an industry now that there are two airlines that are probably going to be close to 100% of the profitability in the US airline industry this year,” Scott Kirby, United’s CEO, said at a Bernstein conference on May 29.

Kirby has also forecast a dim future for the industry’s low-cost and ultra discount carriers, saying they’re based on a “fatally flawed” business model that hasn’t adjusted to post-pandemic changes and is losing money. “They’re going to struggle to survive.”

Delta is extending its strategy of building a carrier that will attract consumers who are interested in a premium product and forecasting record revenue this year of about $60 billion.

“Our consumer tends to be the upper end of the income scale, our travelers tend to go internationally,” CEO Ed Bastian said in a May 31 interview with Bloomberg Television. “Our consumer is prioritizing travel above things.”

Lagging Revenue

Southwest, meanwhile, lacks many of those advantages. Revenue has lagged with its mostly domestic network and historical focus on keeping fares low. And with an all-Boeing fleet, the carrier is more affected than some competitors by the planemaker’s persistent delays.

To help rein in costs, Southwest has slowed growth, pulled service from four airports with plans to restructure more after the summer, frozen hiring and begun asking workers to take voluntary leaves.

The steps have yet to stem a slide in the company’s stock price, which has fallen each year since the start of 2020. Over that span, Southwest’s market value has declined by more than $10 billion.

“There are some — inside and outside of Southwest — that believe sufficient change cannot occur without a change in leadership,” Savanthi Syth, a Raymond James analyst, said in a report. If a turnaround plan wasn’t showing traction this year, “calls would increase for a change.”

Southwest’s board responded Monday to Elliott’s gauntlet drop by renewing support for Jordan and Executive Chairman Gary Kelly. In its letter, Elliott blamed them for the company’s insularity and “severe underperformance.” Jordan is former CEO Kelly’s hand-picked successor, a sign of the industry’s preference for insiders.

Jordan hasn’t hidden from criticism. After the carrier reported lower-than-expected profits and revenue in the latest quarter, he opened the company’s earnings call with a mea culpa.

“Let me state right up-front that I am disappointed,” he told analysts April 25. “We cannot and we won’t be satisfied until we are delivering the kind of returns you expect from Southwest Airlines.”

Despite the poor performance, some on Wall Street are wary of the airline straying far from its historical strengths. Melius research analyst Conor Cunningham said going upscale or adding ancillary products, for instance, might not help Southwest.

“Unless their core customers are asking for them, what’s the point?” he said in a note to clients. “Making a rash decision without knowing could easily backfire.”

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