The king of low-cost: Herb Kelleher of Southwest Airlines

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Karen Walker DALLAS

While the chiefs of most US majors are busy trying to convince Wall Street they can keep their airlines profitable during the next economic downturn, only one has already done it: Herb Kelleher Southwest Airlines.

When it comes to making work seem like play, Herb Kelleher is a master. But don't be fooled by the broad smiles and open-neck shirt. Behind the casual demeanour lies a management style that is Disney-esque in its attention to detail. Southwest Airlines employees expect to have fun under this kind of eccentric leadership, but in return they give a productivity performance that makes Snow White's dwarves look like slackers.

Relentlessly clutching both cigarette and coffee mug, the chairman and chief executive of Southwest Airlines could probably afford to relax now. His airline has just clocked up its 26th consecutive year of profitability - a feat no other US major carrier has achieved. And all the signs are right for another spectacular year in 1999, with first quarter earnings leaping by almost 40% to $96 million. But Kelleher's ferocious energy and enthusiasm are undiminished. There is the impression that the continuous flow of caffeine and nicotine - spiced with bourbon during off-duty hours - just about manages to keep this fervour in check.

For all the Texan tomfoolery associated with the name 'Herb', however, this chief executive clearly remains more east coast lawyer than Dallas cowboy. Still, his refusal to take himself or his work too seriously bubbles up constantly and is what inspires an almost religious devotion from employees. Raleigh-Durham, a rapidly expanding silicon valley in North Carolina, has attracted Southwest's attention this year and will join the airline's network from 6 June. Why Raleigh-Durham? "We liked the name. It makes you think of tobacco, with all that association with Sir Walter Raleigh," he quips. Then comes the straight answer. "It's a very logical extension to the Southwest system, both north-south and east-west. It's an easy extension to Nashville, which has become our focus city."

Southwest's expansion into the east coast has been measured, methodical and relentless. Raleigh-Durham fits the Southwest pattern well - a relatively uncongested city that sits outside the US hub-dominated system, but which has a growing population ripe and hungry for low-cost service. Southwest's big new name in 1999, however, is New York. Although the airline's entry into this city has been long-awaited by both the public and analysts, Southwest has bided its time as it has worked out how to serve New York without becoming ensnared in air traffic delays - something Southwest's 20 minute turnaround scheduling cannot afford. The answer has come in the way of Islip, which sits in the heart of New York, but outside of the congested LaGuardia-Kennedy-Newark triangle. Kelleher says preliminary bookings have already exceeded expectations.

Southwest's entry into New York leaves only one noticeable, large east coast city untouched - Atlanta. But while ValuJet was able to establish a large and financially successful low-cost operation in that city, largely adopting Southwest-style disciplines, Kelleher is much more cautious about taking on Delta Air Line's home hub and the reincarnated ValuJet, AirTran Airways. "There are no plans to go into Atlanta," says Kelleher. "That's a business judgement. You already have a huge carrier there as well as a low fares carrier, so Atlanta is not a high priority. I think, however, you could say that we see ourselves flanking Atlanta."

A terrible trend

Where Southwest has, since late 1998, stepped outside its tried-and-tested formula has been with its entry into long haul services. Answering analysts' concerns about the wisdom of changing the Southwest formula too drastically, coupled with remarks from the majors that a peanuts-only service would not cut it with passengers on longer flights, Kelleher seems at first to agree with his critics. "This has been a terrible trend. It's really dragging us down," he says, shaking his head. Then comes the Herb punchline: "You know, I attribute to our long haul services the reason why our earnings were up by only 36% last year. I've been looking at some of the load factors for flights over 1,000 miles and I've noticed that 16% of our seats are empty. That's terrible! Do you realise that means our load factors on those flights are only 84%?"

The truth is that our long haul services have been enormously successful. People said we could not do long haul because the longer you fly, the less you can differentiate your costs, so Southwest loses its cost advantage over the other carriers. But what they are forgetting is that there is also a cost taper when you fly longer." If the majors are fearful about Southwest's move into long-haul, Kelleher insists they have only themselves to blame. "We were not shy about announcing the fact that if the tax laws were changed to disadvantage the short haul carriers, then we would fly long haul. And that's what we have done. Did people think we were joking or just demented when we told them what we were going to do?"

Kelleher is referring to the campaign that the majors ran in 1997 to change the flat-rate 10% ticket tax in the USA to a passenger fee that is added to each segment of a flight - a significant financial disadvantage to short haul, low fares, carriers and which many observers regarded as a deliberate ploy against Southwest. Kelleher is fighting back by introducing longer flights and some trans-continental services and he insists there is nothing so far to disuade him from offering more of the same. "This tax change is a step process between now and 2002 and during that time we will continue to make adjustments," he says. "I don't know what the strategy was behind this ticket tax campaign beyond an assault on Southwest, but it caused us to behave differently. It's the process of evolution and we will evolve."

If Southwest's move into long haul is Kelleher's way of warning his fellow majors not to play with fire, it is interesting to note how little Southwest has had to veer from its roots to satisfy its new long haul customers. Southwest still offers no food service or entertainment. Passengers are warned ahead of time that this will be the case and are told they are welcome to bring onboard their own food. "Fast snacks" of cheese and crackers are dispensed with endless supplies of peanuts, free sodas and relatively cheap alcoholic beverages. Southwest also keeps to its no seat-assignment policy - and still the customers keep on coming.

With service such a hot issue on Washington's Capitol Hill, Kelleher's stance on the current set of passenger rights bills that are being proposed seems at first strange. Why should Kelleher stand arm in arm with his fellow Air Transportation Association (ATA) members and vehemently oppose these bills, which are largely aimed at the perceived degradation of service by Southwest's competitors and where Southwest could gain kudos with its solid on-time performance and friendly, efficient service? But Kelleher, a staunch believer in deregulation, sees a larger hidden danger. "There are some very harmful proposals in these customer bills for all of us," he points out. "While there are some legitimate beefs and gripes about customer service, if you want to cheer those you should go hunting with a rifle, not a machine gun. Some of these proposals would so increase costs for the industry as a whole, including those of Southwest, that you would disable 20-30% of the passenger base. It's not intentional, but it will be the ultimate effect.

"With some of these proposals you have to be very careful that the government does not use these bills as a vehicle for reregulating the industry in the USA because that is the flavour and direction of many of these proposals. You need to ask, is this a business or a public utility? It's a deregulated business now, but the philosophic issue needs to be clarified now."

Clydesdales and mules

It is this willingness by Kelleher occasionally to stand arm-in-arm with his fellow US majors that helps to oil the ATA relationship, although he admits this can be awkward. "It is a very fractious industry and so it is very difficult to get all of us pointing in the same direction. It's a bit like trying to herd a bunch of Arabians, Clydesdales and mules into the same pitch," he says. "We hope it will get better. We have agreed on a common programme with respect to the taking the Trust Fund off the budget and to reorganisation of the air traffic control system within the FAA, and that is helpful. I hope people will be more industry orientated than individual carrier orientated.

"Southwest is trying to serve as an exemplar with the passenger rights bills. We have also been prepared to take a neutral view on some issues, which does not stop the ATA from operating. We have chosen to abstain rather than use our power of veto so we are not a blockage or impediment. But at Southwest, one of the things you run into all the time is that we operate differently from the other major carriers and so we don't fit into the same suit that is tailored for everyone else. So achieving any level of unity can be very difficult for us at times. The other carriers are all much more like each other than any of them are like Southwest."

As an example of that "neutrality", Kelleher has remained mostly silent throughout the ongoing fierce debate over whether there is sufficient competition in the US airline industry and whether low fares' startups are being put out of business by unfair tactics from the majors. Kelleher's only comment is that Southwest still has its own battles. "There seems to be an opinion out there that Southwest is somehow immune to competition from the majors - that they leave us alone. I say to people: 'Hey, they don't just launch low prices against us; they launch whole business divisions.' What do you think United Shuttle, MetroJet and Delta Express are all about? These are low fares divisions set up by the majors against us."

As for potential fresh low fares competition from abroad, supposing foreign ownership of US airlines or cabotage were allowed, Kelleher believes the issue is mostly academic. "I don't think it will ever happen. It does not make any difference to Southwest one way or another, quite frankly. But I do wonder how the foreign carriers could provide lower fares against the more cost-efficient US carriers. I cannot see a BA or a Lufthansa, if they were allowed to serve the USA more freely, wafting a 747 from Munich to New York, then going on to Richmond. But if they want to do that, it's fine by me."

Fine wines and baked Alaska

Kelleher does recognise, however, the problems of recreating a Southwest-style airline, either in the USA or other parts of the world, now that Southwest exists. "It would not be possible in Europe to replicate Southwest exactly, to make a clone of Southwest, because you have different problems and circumstances, such as union issues. But you can achieve what Southwest has achieved in the USA. Europeans have said to me that this is not possible because passengers will insist on being served fine meals with fine wines and baked Alaska. Well, we went through the same game in Texas; people gave the same reasons why it couldn't be done here.

"But I don't think there is any cultural inhibition to low fares in Europe, just as there wasn't in Texas. But I do think the carriers in Europe face another kind of handicap, in the sense that there now is a Southwest Airlines that everyone is familiar with. For a long time, Southwest was able to fly under the radar of the other airlines and no one took much notice of us. It was a very helpful interlude. Now, startup carriers do not get that interlude. In the USA, as Southwest has expanded its routes sytem, it has reduced the opportunities for other startups because we are already providing the low fares. What's the niche? What's the advantage now? Certainly, there has been a reduction in the opportunities, especially as you now have the Delta Express and United Shuttle type of carriers out there. It adds up to somewhat of a deterrent," he says.

So what new can Southwest bring to the picture? Wall Street, while loving Southwest, habitually frets over whether Southwest can continue growth without losing the Midas touch. Kelleher sees no need to worry. "We are doing long haul and that's a new trick, but one that was forced on us. We have been very forceful and resilient, but there is really no new trick in going into Manchester or Providence and making them immediate successes in the traditional Southwest way. Why would people think that going into the east cost market and reducing fares by 70% is new for us? We reserve the right to announce a new city at the end of the year, but we are not hung up on the notion of evolution." Growth will be over 11% in 1999, he says, and over 10% next year. "People say there are fewer opportunities for Southwest growth, but they are not looking at potential markets the way we look at them. We stimulate traffic and make a market big enough. That's the true dimension and scope of our potential growth and it is very substantial."

Of more concern to Kelleher is the ability to continue that level of growth given the USA's creaking ATC system. "Southwest's block times are longer now and we don't artificially extend them because then you would lose productivity, but our flying block times are longer. For example, LAX to Phoenix is now 15 minutes longer because it takes longer to take off and to land. It is a very real issue." Hope may lie with FAA Administrator Jane Garvey, Kelleher believes. "She brings a fresh view to the FAA that is untrammelled by tradition. She is concentrating on a few priorities and on doing them well. I think she also brings a very pragmatic judgement to what should be done and how it should be done."

Another concern at Southwest has been the hiccup in deliveries of new generation 737s during Boeing's recent production turmoil. Kelleher says the late deliveries forced Southwest to slow growth, but insists the exclusive relationship with Boeing remains good." We saw no particular advantage in raising a big ruckus about the fact that they were late with deliveries because, quite frankly, that would not have accomplished anything. Secondly, they were very generous in their compensation payments and operated in total good faith. We have done business with Boeing for a long time and it's been a good and rewarding relationship. You can be good friends, but you have to remember that you are also in business. Competition is good."

Meanwhile, the 68-year-old Kelleher continues to reassure investors and analysts that the bubble will not burst when he decides to retire - a notion that still seems far from his immediate concerns. "We have a ton of very competent people here at Southwest. We have two generations of successors right here in the company. There is a superb performance in all areas of the company. I may drop in once in a while, but I don't do this all by myself. For me, working with these people is like going to the spa for a couple of weeks. They restore you and rejuvenate you and they renew your dedication to Southwest."

 

Herb and Peanuts

*Herbert Kelleher. Founder, chairman, president and chief executive officer, Southwest Airlines.

*Grew up in New Jersey, the son of a Campbell Soup manager.

*Studied law at New York University.

*Became clerk for the New Jersey Supreme Court before entering private law practice and moving to San Antonio, Texas, in early 1960s

*Founded Air Southwest in 1967 with a legal client, Rollin King.

*Fought more than three years of legal battles against established carriers to get the airline off the ground.

*The renamed Southwest Airlines began service in June 1971.

*In 1993, Southwest bought Salt Lake city-based Morris Air.

*The first airline to offer profit-sharing to employees, beginning in 1973.

*Kelleher became Chairman of Southwest in 1978.

*The first major US airline to offer ticketless travel systemwide.

*The first major to offer online booking.

*The first airline to strategically increase efficiency by operating an all-737 fleet.

*The first major to use a no-seat-assignment policy to enable 20 minute turnarounds.

*Launch customer for the 737-800 in 1998.