Southwest Airlines Co
NYSE:LUV
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Southwest Airlines Co
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Ladies and gentlemen, welcome to the Southwest Airlines Third Quarter 2018 Conference Call. My name is Abby, and I will be moderating today's call. This call is being recorded and a replay will be available on southwest.com in the Investor Relations section.
At this time, I'd like to turn the call over to Mr. Ryan Martinez, Managing Director of Investor Relations. Please go ahead, sir.
Thank you, Abby, and welcome, everyone, to our third quarter earnings call. Joining me today we have Gary Kelly, our Chairman of the Board and CEO; Tom Nealon, our President; Mike Van de Ven, Chief Operating Officer; and Tammy Romo, Executive Vice President and CFO.
Before we get started, please note that our comments today will include forward-looking statements that are based on the company's current intent, expectations and projections. A variety of factors could cause our actual results to be materially different from our current expectations. And we also make references to non-GAAP results, which exclude special items. And for more information regarding forward-looking statements and our reconciliations of non-GAAP to GAAP results, please visit our Investor Relations section of southwest.com, where you can find this morning's earnings release as well as our SEC filings.
And now I will turn the call over to Gary.
Thank you, Ryan, and good morning, everybody. And thank you for joining our third quarter earnings call.
First of all, I want to thank all of our employees for an excellent third quarter performance. It was a very nice recovery from the second quarter, which was down 3% on a RASM basis due to Flight 1380. And then that was a nice turnaround to the third quarter RASM performance of up 1.2%.
Mexico was weak for us in terms of revenue. But our domestic performance, excluding all the international, the domestic performance was a solid RASM of plus 2.3% year over year. And it is 2.9% if you adjust for stage and gauge increases. Overall, we had a sequential quarter-over-quarter improvement of 2 percentage points ahead of normal trends, so, again, it was a very nice recovery.
Our year-over-year comps always have noise in them but I'm expecting another sequential trend improvement in fourth quarter and then a year-over-year improvement as we said in the press release of 1% to 2%. So, again, that would be another nice better than trend, sequential improvement if we do that. Our unit cost ex-items will come in roughly flat to up 1% for the year-end for the fourth quarter for that matter but another excellent cost performance. We wanted to provide you an early look ahead to 2019.
Our confidence level forecasting revenues is never a 100%, of course, and especially looking a year out but our goal for next year right now is positive RASM and of at least 3%. And while it is a goal, trends and initiatives that we already have underway would support that goal.
Our confidence level in predicting cost is much higher of course than revenues. And based on the planning that's currently underway, the preliminary read is that unit cost ex-items will also be up at least 3%. I'm not satisfied with that as I'm sure our investors aren't either and Tammy will describe the cost pressures further. But I did want to provide some perspective first.
Just looking across the last decade plus, we've committed to strategic initiatives and invested accordingly. Some investments were revenue generating, some investments were capacity and growth related, some investments were efficiency related. But as a consequence of that strategy and those investments, the airline has been transformed and the cost during this intervening time period have been well controlled. And to do that, we've relied primarily on fleet modernization to accomplish that.
We have a stronger, much more prosperous, but a more complex airline. In some cases, there are costs associated with driving these higher revenues. But the main point that I want to make is that our focus with our strategic efforts has clearly been on transforming the airline and driving more revenue along with operational reliability and customer service. I'm very pleased with the results of all those efforts. The results must be sustained and continuously improved from here.
But eventually, I think all of us at Southwest knew that the time would come where our initiatives would need to zero in on efficiency and productivity and just overall cost control. And clearly that time has arrived and cost will be our number one priority. So the basic inflationary themes that Tammy is going to talk about we constantly battle. We're investing in airport infrastructure. We're investing in technology initiatives and projects. Aircraft maintenance is an ever-increasing burden. And then there is just natural salaries, wages and benefits inflation.
So the opportunities to offset that natural inflation are what you would expect lies in modernizing our fleet, just overall quality of our flight schedule, continuing to drive operational efficiency, controlling our G&A spending. And then, from there of course we just rely on individual department missions.
So for 2019, at this preliminary juncture while we're seeing the known cost pressures, we aren't yet seeing the productivity offsets. There are offsets in fuel because of fuel efficiency which of course aren't showing up in the cost ex-fuel items. But we're not seeing enough productivity offsets yet.
So speaking plainly, it will take more focus on our part and more effort on our part to make that happen. And as I've already said that's where our focus will be and we may have to de-prioritize some other yearned for things that we have in the meantime.
I'll also point out that many of our efficiencies are already underway. Again, we'll show up in jet fuel consumption. And we'll need to clearly identify that for you as offsets in the future. So we have a challenge. And we always do by the way. We always have challenges. We're very well prepared and very well positioned.
Number one, we have a very strong balance sheet with declining leverage and it's below 30%. We have very strong liquidity with cash levels well ahead of our target. We just reported record earnings for the quarter. And barring the unforeseen, we expect very strong year-over-year earnings growth in the fourth quarter. We have an outstanding fuel hedge that's built for the next 24 months. We have very manageable growth plans for 2019. And in fact, we need growth to absorb investments that were made related to capacity like airports and training facilities.
Our operations are excellent. Our brand and our customer ratings are very high and industry-leading. Our culture of course is unmatched, and our ability to attract talented people in this falling employment (sic) [unemployment] environment is very strong.
And then finally and I think most importantly, we have a low-cost DNA. We have a proven track record of managing not just cost, but industry-leading profits and margins and returns. And in the meantime, again assuming nothing unforeseen, we will continue our focus on excellent shareholder returns.
So with that hopefully helpful perspective, let me just turn the call over to Tom Nealon to take us through the commercial side here.
Thank you, Gary. Good morning everybody.
As Gary said, we are very pleased with our third quarter performance and we are seeing continued strength into the fourth quarter in terms of passenger demand throughout the booking curve as well as continued strength in the pricing environments and very solid yield momentum, so we're very pleased with that.
Before getting into the fourth quarter, let me walk you through the performance indicators of the third quarter. I'll try and tie that back to my comments in the July call. So as you know, we ended the third quarter with a record $5.6 billion in operating revenues, which is up about 5% year over year. And our passenger yields increased 2.3% for the quarter. So again, we were very pleased with that.
Our load factor was 83.9%, which was down about 1 point year over year. But we actually saw passenger growth of 2.5% for the quarter, and we carried a record 33.9 million passengers in the third quarter. So we're very pleased with the strength of passenger demand as well as the strength in the pricing environment, and I think our teams did a phenomenal job of balancing our yields and load factors for a very well-balanced strong result. So that's all good.
I shared with you all in July going into the quarter we knew that we had three RASM headwinds, which all together were a 2 point drag on Q3 RASM. First, we had the Rapid Rewards accounting change, which was 1 point. Second, we had about 0.5 point of drag from our summer fare sale, which was part of our 1380 recovery as you'll recall. And third, we expect about 0.5 point of drag resulting from the suboptimal schedule, which is tied to the shoulder flying and the fleet retirement and such. These headwinds materialized as we expected in the third quarter, which again was 2 points of RASM headwinds. And also, as expected, we do not see them repeating in the fourth quarter.
In our mid-September update, we made a positive revision to our Q3 RASM outlook, an outlook of roughly flat to RASM increasing in the 1% to 1.5% range. Our third quarter RASM came in right in line with our latest guidance, and we finished the quarter up 1.2% year over year. And there were really two primary drivers of our improved Q3 RASM result compared to our original guidance in July.
So first, we had about 2,200 total flight cancellations due to weather during the quarter, and that resulted in about 0.5 point of RASM benefit for the quarter. The weather events were primarily severe storms in late July and early August, and it was very concentrated in Denver and Baltimore, where we obviously have very large, very complex operations, so that was significant. Conversely, though, we only saw a few hundred cancellations due to Hurricane Florence, and the RASM impact of Florence was really immaterial for us.
Second and more importantly and more interesting, we saw strong improvements in our passenger yield trends, in particular with close-in bookings, which resulted in a little more than 0.5 point benefit to third quarter RASM.
Our new revenue management tools and techniques also contributed to our yield performance and solid RASM results. So for the third quarter, we realized an EBIT benefit of approximately $75 million, which was right in line with our expectations, which is roughly a 1.5 point benefit to third quarter RASM. Now, this benefit was driven primarily by our new O&D revenue management capabilities, but we also saw meaningful benefit from our new pricing capabilities as well. So we are very happy, very, very happy with the performance of our new res system and revenue management capabilities, and we are achieving the benefits that we signed up for and committed to.
So in terms of our ancillary revenue performance, we had another really good quarter. As I'm sure you saw in late August, we introduced a new pricing structure for our EarlyBird product, where we moved from a fixed $15 one-way price point to price points of $15, $20, and $25, and the price points are based on a combination of length of haul and EarlyBird demand by market. So it's still early, but so far we've been very pleased with the results. The take rates are right in line with our expectations, which not only results in incremental revenue, but it also allows us to better manage the number of priority boarding positions sold on each flight, which makes the product that much more valuable to our customers.
Our Rapid Rewards Program, it continues to strengthen and grow, as well as our business partner revenues, and these categories were again the primary drivers of the 6.6% growth in other revenues in Q3.
We are continuing to see strong growth in new Rapid Rewards credit card members as well as strength in credit card spending, both of which were up again double digits year over year. And while it's early, our new credit card, which launched in Q3, is also performing very well, and it's also in line with our expectations.
So net of all this is that we had a very strong third quarter. We are very pleased with how our new tools and our new products are performing.
Now, let's move on to the fourth quarter. Looking forward, as I said earlier, we are seeing continued revenue strength into the fourth quarter. Our year-over-year capacity growth is planned in the 6% to 6.5% range, which is 2.5 points higher than in Q3. And despite that, we are in fact expecting a sequential improvement in our year-over-year RASM performance in Q4, as Gary said. As I mentioned, I think we'll have a clean year-over-year RASM comparison.
So based on our current bookings and yield trends, we expect Q4 RASM to increase in the range of 1% to 2% year over year. Our base business trends continue to be very strong throughout the booking curve. Our passenger yield expectations are, once again, being aided by benefits from O&D revenue management and our new pricing capabilities. And based on the bookings so far, fourth quarter demand appears to be very, very solid and holding up very nicely. So again, we do expect to see some load factor decline, but the net effect should continue to be a positive for RASM performance.
We do expect a year-over-year EBIT benefit of $80 million to $90 million in Q4 from our new res system, which gets us to an estimated 1.5 point benefit to Q4 RASM. And that puts us right in line with our annual 2018 EBIT goal of $200 million from our new res system.
I'll tell you, I'm very proud of how our revenue management capabilities were delivered on time and on plan. They are working exactly as they were designed. I think the commercial and technology teams did an awesome job. I couldn't be more proud and more pleased and more thankful with the quality of the execution and the results.
So in terms of our shoulder flying, as expected, we began to reduce our shoulder flying beginning in Q3, and the reduction continues into Q4. In particular, we did reduce our deep shoulder flying, and this is flying before 6:00 AM and after 10:00 PM, just as a reminder. And with this reduction in deep shoulder flying, we are not seeing a RASM drag in Q4 from our schedule, and we expect deep shoulder flying to subside further as we move into 2019.
So to wrap it up, I am very pleased with the trends that we're seeing in the back half of 2018. And as Gary said, barring any unforeseen events, this sets us up very well and very nicely as we head into 2019. And finally, we are very, very anxious, very eager for our upcoming launch to Hawaii. And we are ready to go with our flight schedules once we receive the necessary approvals.
So with that, I will turn it over to Mike Van de Ven for our operations update.
Thanks, Tom, and good afternoon to some of you all and morning to others.
As you guys know, the third quarter is a transition period for the operation, and we began the quarter with very heavy summer flying. We had just over 4,000 flights a day at the beginning of the quarter, and we ended up in late August and September timeframe with just under that amount.
And the operation is often impacted in this period by a combination of high load factors and weather, and this year just wasn't any different. We had a tough last half of July and early August with 2,200 weather-related cancellations as Tom mentioned. In addition to those cancellations, though, we experienced more weather-related ATC/Block delays this July than we had in any July over the last 10 years.
So despite that difficult environment, our people were just, they were magnificent. And I think we delivered superb operational performance for the quarter. We expect to finish fourth in the DoT on-time performance for the quarter, and that's based on our marketing carrier results. And that's an improvement of three spots over last year.
We set a third quarter record for the lowest percentage of mishandled bags in our history. And our DoT complaints that have been reported through August were at 5-year lows and are down 24.5% from last year. And just as a reminder we were number one in the industry last year.
In our fuel efficiency, as Gary mentioned, continues to grow in terms of the ASMs we produced per gallon. And we're improving at about 1.1%. And again that's primarily as a result of our fleet modernization efforts. So we've had very strong operational results in terms of reliability and hospitality. I think that will continue into the fourth quarter. And we're going to spend more time, as Gary mentioned, focusing towards our efficiency and cost opportunities as we move forward.
A couple other highlights in the third quarter, we announced that we are partnering with the State of Maryland to build a maintenance hangar in Baltimore. That's going to house three Boeing 737s inside the hangar and will also provide us with additional parking spots of up to eight airplanes overnight. That's our first hangar in the Northeast and it's really a needed addition to one of our busiest cities.
We've also previously announced our intent to add both a pilot and a flight attendant crew base in Los Angeles and those will be open and up here in December and the first part of next year. And that will in part support our Hawaii efforts. And then speaking of Hawaii, it's our expansion focus for next year. And just subject to the timing of our ETOPS certification from the FAA, our goal continues still to be to sell tickets at the end of this year and operate flights early next year.
So, with that brief update, Tammy, I think I'll just turn it over to you.
Right. Thank you, Mike, and thanks, everyone, for joining us today.
Moving right into cost, our third quarter CASM, excluding special items, increased 4.1% year over year, driven in part by a nearly 9% increase in our hedged fuel costs. Our hedged fuel price per gallon remains steady at $2.25 and that's despite an increase in market jet fuel prices during the quarter.
Our hedged jet fuel remains in line with our guidance due to more material hedging gains that kicked in at higher prices. The $0.04 net hedge benefit consisted of $0.10 of hedging gains offset by $0.06 of premium costs.
For fourth quarter and based on market prices last Friday and given our hedging positions, we expect our fuel price per gallon to be in the $2.30 to $2.35 range. This guidance includes an estimated $0.07 net hedging benefit including $0.14 of hedging gains offset by $0.07 of premium costs. The $0.10 sequential increase in our estimated fourth quarter fuel price normalizing for the hedging gains is largely due to the increase in market prices.
For 2019, we are also well prepared with a 63% hedge in protection beginning at $70 Brent crude equivalent with more material gains that kick in at $80 per barrel and continue to increase well above $100 per barrel.
Our 2019 hedges are a mix of WTI and Brent crude oil and are structured so that we fully participate in market price decline. For full year 2019 based on market prices last Friday and our current hedging positions, we expect our economic fuel price per gallon to be in the $2.35 to $2.40 range with an estimated $0.08 hedging gain and $0.04 premium cost. We expect 2019 fuel hedge premium costs, which is included in fuel and oil expense to be approximately $80 million or $0.04 per gallon and down from this year.
As Mike said, we continue to benefit from increased fuel efficiency from our fleet modernization. Our third quarter available seat mile per gallon, which is our key fuel efficiency metric improved by 1.1% year over year.
As I mentioned last quarter, our fuel efficiency improvement is slightly behind our 2018 goal of 2% to 3% primarily due to our utilization of the -700 fleet to cover our fleet deficit and suboptimal flight schedule. As our schedule becomes more optimized and as we take on more MAX aircraft and began the retirement cycle of the 700, we expect the fuel efficiency profile of our fleet to continue to improve. In fact, I expect sequential improvement in our fourth quarter year-over-year fuel efficiency more in line with what we were expecting for the full year.
I'm going to move on to third and fourth quarter our non-fuel costs and I'll talk in more detail about 2019 at the end of my prepared remarks. When you strip out fuel profit sharing and special items, our unit cost inflation in the third quarter was in line with our expectations. As we previously disclosed in our investor update our third quarter unit costs were impacted by weather-related flight cancellations, resulting in about 1 point reduction in ASM.
When combined with modest weather-related costs, the flight cancellations resulted in a nearly 1 point year-over-year negative impact to CASM. We ended up at the lower end of our CASM guidance, primarily due to approximately $10 million of spending that shifted into the fourth quarter and beyond. The shifts are primarily due to the timing of maintenance events and technology spending. Aside from shifting, the other cost categories were pretty much in line with expectations.
Our fourth quarter year-over-year CASM outlook looks good, particularly from the easier comparisons that we had with last year's tax reform year-end bonus. Despite some cost pressure from shifting of spend out of the first half and third quarter, fourth quarter year-over-year CASM excluding fuel, special items and profit sharing is expected to be flat to up 1%. We've also had some capacity cuts here in fourth quarter, so we do have some related cost pressures. Netting out the moving parts, our full year 2018 CASM excluding fuel, profit sharing and special items remains unchanged.
Our balance sheet remains very strong and investment-grade credit rating and with ample liquidity and we also have very healthy cash flows. Our year-to-date operating cash flow was $3.9 billion. We've invested $1.4 billion back into the business thus far in 2018. And for full year 2018 CapEx, we continue to expect to be in the $2 billion to $2.1 billion range. And we are planning for a similar level of CapEx for 2019.
So far in 2018, we've returned $1.8 billion to shareholders through $1.5 billion in share repurchases and $332 million in dividends. This includes the $500 million accelerated share repurchase we launched in the third quarter and just completed earlier this month. This most recent ASR completed our previous $2 billion share repurchase authorization and the first $150 million from our new $2 billion authorization. So we have $1.85 billion remaining.
Over the past five years we've returned nearly all of our free cash flow through share repurchases and dividends, supporting our commitment to returning significant value to our shareholders. So, overall I'm very pleased with our continued approach to capital deployment with appropriate balance. We intend to continue investing back in the business while focusing on opportunities to drive further value, and we continue to have great opportunities to do so in particular with further investments in fleet modernization. Barring unforeseen circumstances, we also intend to continue returning value to our shareholders through share repurchases and dividends with our excess cash.
Regarding our fleet plan, we made some slight tweaks to our order book recently. First as planned, we took delivery of five Boeing 737-800 aircraft and seven MAX 8s in the quarter and we continue to expect to end the year with 751 aircraft.
During third quarter, we signed leases on an additional four MAX 8 aircraft with delivery in 2019. We still have 27 firm orders with Boeing for 737 MAX 7 and MAX 8 aircraft next year. And now we have 7 leased MAX 8s coming next year as well for a total of 34 aircraft in 2019.
As we've previously shared, we're planning to designate some of our 737-700 aircraft for retirement next year to support our continued investment in fleet modernization. These additional aircraft acquisitions or any future opportunities to pick up a few additional new aircraft for fleet replacement do not change our previously communicated 2019 capacity plan.
On the capacity side with the storm cancellations in the third quarter, we are now planning for our 2018 capacity to increase approximately 4% with fourth quarter ASMs up in the 6% to 6.5% range year over year. And we continue to plan for 2019 capacity to increase no more than 5% year over year, which is unchanged.
Our schedule is currently published through early June 2019 and they exclude expected Hawaii flying. You can see that excluding Hawaii our January through May year-over-year ASM growth is modest.
In regards to 2019 cost, and as Gary mentioned, we are expecting full year 2019 CASM excluding fuel and profit sharing to increase at least 3% year over year. The key drivers of our year-over-year unit cost pressures in 2019 are primarily due to operations, staffing demand and healthcare inflation, which is driving an increase in salary, wages and benefits. Increased maintenance expense driven in part by expected timing of maintenance events. Airport cost increase is driven in part by airport infrastructure investments and continued heavy investments in technology focused primarily on operational investments.
Much of the cost inflation we are seeing here in the second half 2018 is continuing into next year. Of course, I'm adjusting our current fourth quarter 2018 unit cost trends for higher fourth quarter capacity growth as well as fourth quarter 2017's tax reform employee bonus and charitable contribution, which was about 3 points to fourth quarter 2017. So our current growth rate continues into next year and we will shift our number one focus to control cost in 2019 to arrest that trend.
In closing, we had an excellent third quarter and we were able to expand our net margin and deliver record third quarter earnings per share. These are notable achievements in the industry and I'd like to thank our more than 58,000 employees for their outstanding efforts.
I am very pleased with our rebound in revenue trends in third quarter and our continued momentum thus far in fourth quarter. Our fuel hedging gains have offset a significant portion of higher market jet fuel prices so far this year and will continue to provide protection, especially if prices continue to rise. While we face some unit cost inflation next year, I believe we have great opportunities ahead of us to more efficiently scale our growth and drive further productivity and efficiencies and this will be a primary focus for us next year.
We strive to continue delivering very healthy margins, as we continue to invest in our future. We continue to deliver high returns on invested capital and that will remain a top priority.
With that Abby, we are ready to take questions.
Thank you. We will now begin with our first question from Jack Atkins with Stephens. Please go ahead.
Good afternoon, guys. Thanks for taking my question. So, Gary, let me start with the revenue question, if I could. And I appreciate your willingness to provide some initial thoughts on RASM growth next year. I guess as we sort of do the math for 2019 to get to margin expansion, you will need to see at least 3.5% RASM growth or so. Could you kind of talk through some of the specific initiatives on the revenue side that you think will help get you there? And I would just be curious to know your level of conviction behind the ability to drive margin expansion next year?
Well, obviously, great question Jack. I think we're very motivated. And I admitted in my opening remarks that the confidence level we have with revenue forecast 15 months from now or 14 months from now can't be that high relative to our confidence level on the cost side of things. So we admit that going in. Revenues can be tough to predict.
And I think just couching it in those terms based on what we see right now and based on the plans that are already underway we're very convicted to that. So, Tom, is here and leads our commercial organization along with Andrew Watterson and Ryan Green and we're well along in our planning for 2019.
The specifics are pretty much what you know. And I thought Tom was very clear in his report that we had a plan for 2018. We're delivering against that plan remarkably well, remarkably accurately, I guess, I can say. And we're looking forward to the full year benefit of many of those things for 2019. And so if you like Tom can sort of renumerate what those are.
In terms of new revenue streams for 2019, we don't have anything to report there today. I did tease last time that we are busy working on the next stream of initiatives. And it will be next year before we're ready to talk about those. So you'll have to stay tuned on that. And Tom as I'm thinking out loud, I don't know that anything new will necessarily come online in 2019.
Well, I think what we're seeing is the ancillary products are growing in a pace faster than our core business and our credit card business is very, very strong and such. I think it starts with just the close-in current environment is very, very strong and I think that one of our areas of focus is just that just focus, focus, execute and drive that into 2019.
And I think what we're seeing is the initiatives are paying off. I think that our One Res initiative whether it's O&D bid pricing or the pricing capabilities, the credit cards, the ancillary, these things are paying off. We're seeing real strength in our corporate sales business. That's a really bright spot for us. And I think when you look at some of this more broad-based of our key focus cities, there's just real economic strength and the performance is outstanding. So we got our work in front of us but I feel very, very good about what we know at this point.
I think, said just a little different way, based on what our plan is for 2019 we're not depending on new things that we have no experience with. Now, from a macro perspective, it's not necessarily trying to give you a read on what we think about the economy next year. If you'll just forgive that, I mean, our guess is as good as yours I suppose. But we're not assuming any change in the economy and broader industry demand.
As we look at the industry macro levers, supply and demand, I think are in pretty nice balance right now, and I don't think that that will get out of balance next year. But it's a pretty strong environment right now, and I think we have some easier comps, to be blunt, in the first half of next year. That was pointed out by one of your colleagues last time, and we fully acknowledge that. So that's a factor, but it makes the at least 3% RASM growth I think a very viable goal.
Okay. Okay, great. Thank you. And then just as a follow-up, if I heard you correctly in your prepared remarks, the 3% – I guess at least 3% CASM ex-growth for next year doesn't include any of the efficiencies that you guys are trying to zero in on now. First of all, is that correct? And I guess is there the potential that you can maybe offset some of those inflationary costs that Tammy laid out in her comments with some efficiencies that you can maybe come back to us with later on?
That is correct. And based on what we know right now, I don't think we're willing to commit to anything different than what we've said. Now clearly Jack, we'll be working very hard on this, and we'll owe you and the world an update on our progress, and I would say, Ryan, in 60 days. I'll leave it up to Investor Relations exactly what we'll do next. But we're not done with our 2019 plan and I haven't done this for a long time with you all. I don't remember a time where we ever gave you this much advance insight into the following year.
But this one was different enough that quite frankly we felt the obligation for full disclosure here. So this is where we are. I'm not going to say I don't like it because I'm just not satisfied with it. And I think I was also trying to articulate for everyone the perspective that wow, our folks are doing a really good job on so many other dimensions. It's hard to say that you don't like it. But clearly, it's a result that we can't be satisfied with. We need to be a low-cost producer. And if anything, our goal is to drive our unit cost down and not up and certainly up that much.
So I gave you an array of things at least to give you some insight as to what we would be attacking here. And I'm going to ask – I've already had a number of volunteers to take on the new initiatives here, and Tom and Mike will head that up. And I'll be asking them to devote a significant amount of their time to these efforts.
The balance or the trick here is to keep everything in balance. So we don't want to chase this challenge and all of a sudden let our on-time performance degrade our customer service. And that's why I think the perspective and the balance is correct. So we'll want to make some smart decisions here. But clearly, we can't be satisfied with that kind of unit cost inflation, and we're not.
Okay, great. Gary, thanks again for the time.
We will take our next question from Rajeev Lalwani with Morgan Stanley. Please go ahead.
Good afternoon, a couple of questions, not surprisingly I guess on the unit cost side, Gary, Tammy. So I guess first in terms of the 2019 guide and that 3% number, it seems like that may be an up around just given some of the initiatives that you're going to push out there, Gary, in terms of an opportunity? That's one.
And then the second part of it is, as you think about unit cost over the next few years, is 2019 now going to be an anomaly, or should we think of Southwest as now having higher costs over the next few years? Because, Gary, you did make some comments about Southwest being transformed versus its history and that sort of a thing. So I wasn't sure as to what you were trying to message there.
I was just – and thanks for that question. It's another really good one. Because I do want to be as clear, and I know Tammy does too, as we can on where we are for 2019. It was really just a perspective that a lot of investment and initiatives have occurred over the last decade.
Our load factor, Mike, I'm going to have to guess off the top of my head a decade ago was 10 points lower. So some of the cost that we're incurring today as compared to 2008 are simply because we have a lot more customers per departure. We have a lot more bags. And so some of these cost increases, in other words, are acceptable to me, if you want to describe it that way.
There's a lot more to it than that, but most of our transformational efforts were geared towards driving more revenue, and we have been very, very successful with that. We had a huge investment in a new frequent flyer program, ultimately followed on by a huge investment in a new reservation system. And, Tom, as far as I know, the reservation system, which is very valuable, only increases our unit cost. So it is significantly more costly than what we had before. But the business case is really solid. It's just paid for on the revenue side. So that's all I meant there.
And then just admitting to you and everyone that for us to manage our cost more aggressively, it's just going to have to take the higher priority and just a lot more elbow grease, because the cost – we are optimizing our schedule, but what we are not realizing is the cost efficiencies that go along with that. And we're going to have to work hard to achieve that.
So the other thing I would speak to is – I was very careful with the words. What we are telling you is we're looking at least 3%. So I'm not ready to provide any more information than that because that is all I feel like we can accurately tell you at this point. So that's really the report today. And then as we finish up our planning and as we do identify and commit to some initiatives here, we'll have a much better number. Again, I'll defer to Investor Relations over the next 60 to 90 days, and we'll update you there. So hopefully that answers your question.
It does. Thanks, guys.
Our next question is from Hunter Keay with Wolfe Research. Please go ahead.
Thank you very much. Hey, good morning everybody. Gary, you mentioned obviously the initiative to drive productivity, but you also said that you may have to de-prioritize certain other things to drive that productivity. What were you talking about?
Well, nothing specific, Hunter. It was just acknowledging that a company or its leaders or its people can only do so many things at one time. We've got a really good multiyear program planned in terms of strategic initiatives. A lot of it involves technology construction.
And at least for this era, for Southwest, a lot of it involves new technology or replacement technology for Mike Van de Ven and our operations team. So we've starved them a little bit over the last decade because again our focus was more on the commercial side.
So it's simply to admit that if we're going to have a major cost initiative or two or three or four, something may have to give. And I don't have anything specific in mind, but my colleagues will confirm. I've been worried for some time that, as usual, we have more things that we want to do than we have capacity to complete. So something may have to give there.
So it's just – if you were to come back and ask the uninformed question of how are you going to fit these things in, I think that that's part of what we have to figure out here over the next 60 days is what might make sense. And of course, none of our leaders want to give up on anything because they're all individually very good ideas. So, it's not necessarily to warn you, it is basically just to say that's where we are in this task that we're going to have to crowbar it in on our to-do list here somehow and it's got to bear fruit.
Okay. And then just a modeling question. I believe you guys accrue for the mechanics deal, but obviously they rejected the deal. I'm not asking you to tell me where you are in those negotiations, but can you just help us know – help us understand how much of that accrual was in the 2018 CASM? Is that hitting the 2019 CASM number, any color you can provide there? Thanks, I appreciate it.
Sure, I'm happy to take that. Yes, we've incorporated all of our any anticipated rate increases, our agreements into the guidance that we provided this morning. So you've got all of that baked in, which I would point out based on what I've read from some of the other carriers, I noticed that not all the carriers have incorporated that into their guidance. So, what we've given you is fully loaded with our expectations.
Thank you.
Our next question is from Savi Syth with Raymond James. Please go ahead.
Hey, good afternoon. Just a question maybe on the cost side, but on the holistic view here, if I look at pre-tax margin, it's down about 2 points year-over-year, down about 4 points versus kind of the peak which is a low fuel price environment. Given kind of this – assuming the current conditions continue, no change in the environment, how long do you think it takes to recapture or get back to maybe even last year's pre-tax margins?
Savi, I feel like we have really recaptured our fuel cost increase here. We've got a nice hedge that's mitigating that and that's properly covering 25% or so of the – if you compare our hedge versus the increase in market prices I feel like we're recovering a nice chunk of that just from our fuel hedge. And of course from a revenue perspective we're performing well there. So to deliver this quarter margin expansion we're really proud of that. So we feel like we have largely recovered that.
Tammy, I think you're talking about net income and I'm talking about pre-tax. And it's not like we're going to...
Yes, excuse me. On a pre-tax margin, I think that goes back to just our earlier discussion on the cost, Savi. We're going to have to work through that here in our planning process to offset some of the headwinds. But we delivered on all of our guidance here in the third quarter. And, again, we're kind of focused on the pre-tax margin and again delivered on a very solid margin both operating and on a pre-tax basis. So we'll keep working at that. But pre-tax and after-tax, we feel like we're largely recovering that to the bottom-line.
Let me see if this is in line with what you're asking. The goal is to – I think there's – it's sort of multifaceted. But every year we have a goal to grow our unit revenues. And then I would say from that we have a goal to hit an overall return on invested capital target, which we well exceeded that for a handful of years here. But that is always a goal year-in, year-out. So then within that there would always be a goal to grow earnings and at least sustain if not grow margins. The tax savings is real.
So, I don't – it's a little hard and I would debate this with you Savi, it's a little hard to think about pre-tax margins today compared to a period where tax rates were higher because there is some interchange between the tax savings and pre-tax margins. They haven't been competed away at Southwest, but hopefully you get the point there. It's just not – it doesn't all just drop to the bottom line over a period of time.
But the main point here in the near term with the early guidance that we're giving you for 2019 is that our goal is to at least sustain and hopefully grow our margins for next year. And it doesn't matter of course in that sense whether you're talking about pre or post-tax. But in terms of trying to – I don't think we have gone back and took a prior year margin and said how will that compare to 2019 or 2020 or 2021. We just haven't done that. And in fairness to Tammy's answer. So what we are focused on is – just so again everybody is clear, we had a really good plan for the third quarter and we executed. Now we have a really good plan for the fourth quarter and we're going to focus on executing that.
And in the meantime we're going to finish our plans for 2019 with elements that aren't satisfactory to us and then come back with a firm plan for 2019 that we will give you again a lot more update and insight into.
But at least preliminarily those are our goals and right now they don't seem unachievable. But there's a lot of work to be done between now and finalizing our plan. And again there's more information to come on that.
That's helpful. If I might just quickly ask a modeling question from Tammy. Just the $521 million in free market value in 2019-plus could you give me that like 2019 and 2020, the breakdown of that?
Yes. It's – yes. For 2019, it's roughly $270 million. And I'll share 2020 that's about $175 million.
All right, great. Thank you, both.
Our next question is from Jamie Baker with JPMorgan. Please go ahead.
Hey! Good morning, everybody. And Gary, just on this cost issue the challenge that I'm having is really gauging the urgency around the topic, and I think, it's pretty high.
But your response earlier to Jack's question suggested that you'd plan to use the current toolbox to extract sufficient revenue as to ensure margin growth. I guess my question is if that toolbox is inadequate for whatever reason, how willing are you to think outside the box?
And look I don't even know how to define that. Maybe offering a higher fare that would guarantee a seat in the first three rows. I suppose at the very extreme it extends to M&A.
I don't – that's up to you. I understand your earlier comment was that you didn't have to plan anything new. My question is have you ruled out that possibility of doing something there?
I love the question and especially the opportunity to try to clarify that. Oh! Yeah, we will absolutely need to continue to innovate and challenge ourselves and think about ways to bring on new revenue streams.
That work is already underway. At least with the way we were coming into the planning season here for 2019, I wasn't thinking that we would want to attempt to deploy anything new in a more urgent way along the way you've asked the question.
I think, it's very reasonable...
Okay.
...you asked your question that way, and so I would agree with you that that would be a consideration.
Now some of the things that we haven't shared with you have a build to them. And there we – we can't turn them on January 1 to be fair to the things that we do have in our minds that we want to pursue.
That doesn't include the other kinds of things that we might dream up that say you know what we need to do this and we are going to do it January 1. So all of that is in play. I'm very glad you asked the question.
The main focus I want to have though is on the cost side of things. And I have always had in my mind that at some point it will need to be a higher priority. And as I pointed out in my remarks the time is now.
We are not seeing the kinds of efficiencies here as we begin to trim the schedule back that I was counting on and so we're just going to have to work that much harder to do that.
Very helpful, Gary. And second, with Hawaiian yields under pressure at the moment, I'm just curious if internally you've downwardly revised your forecast in response to that.
No. Okay. We feel very good about Hawaii, and the work. I think, Tom and Mike, both commented on the status of that work there. So...
Perfect. Thank you very much. Appreciate it.
We will take our next question from Duane Pfennigwerth from Evercore ISI. Please go ahead.
Hey. Thanks. Gary, the press release reads like all of the 2019 cost increase is discretionary. Can you segment for us how much of the three points is inflation versus investments you are electing to make?
Well, I may have to go back and reread it and reflect on your interpretation there. But, Tammy, you can help me explain here. I think the...
Sure.
...part of what we were – and I think, Tammy and I have both covered it. But just to make sure we've been clear, there are known cost increases coming into 2019. So, we've been spending money on airports.
Mike retired the classics and bought new airplanes to replace those. So there are line items that will see cost increases. We know about that. And that's what I was trying to point out. Those investments have been made. We've implemented a new reservation system. That depreciation is flowing through on and on. So those things are known.
The airline also has not in many cases added enough capacity yet to absorb some of these step increases and investments. Some of them are very, very fixed. And as time goes by, you will see unit cost declines, and of course, I know you can imagine what those are. So the opportunities for us are – they're classic opportunities. It is our corporate overhead, which is much more discretionary than having – as compared to frontline operations.
But operations is key here. It's having a very high-quality schedule that Mike delivers really good on on-time performance that helps keep cost down. And then, we just need to turn airplanes efficiently. We need to have efficient en route times. All of those things combined to produce very efficient and low-cost operations, which we're famous for. So, there's always opportunities to go in and fix things.
And again the challenge for us is to make sure that we don't make changes that mess something else up unintentionally. So we've got a very good schedule right now. And just thinking about 2019, we're very enthused about its revenue producing capabilities. It may be a little harder for Mike to staff it and to operate it, and so we just want to again try to keep these in balance, so there are things that our commercial team can do to perhaps make it easier on the operation from a staffing perspective.
And a classic example would be we have a lot of originating flights early in the morning at an airport and then nothing for them to do all day long until the airport goes to sleep. That may be great for revenue, but it's not the most efficient from operating the airport just to give you some color into what we mean. And we'll be pursuing all of those opportunities and our folks already have a plethora of ideas to pursue.
That's helpful color. And then just to follow-up, why would IT drive operating expense? Is it just depreciation? I thought there was a big training investment that was going to kind of roll off as these systems mature.
Well, there is – if you just think about the reservation system and we've shared that cost $500 million many, many times, not all of that got capitalized and not all of that flows through over time through depreciation expense. And it is beyond me to explain to you those rules on which one is which. But in – while we are currently working on developing a lot of technology for our operations team as an example, there is – I'm searching for the right word.
Our costs do balloon as all this work is underway. We need extra help. And sometimes it shows up in consulting and professional services, maybe some other software firms or whatever it might be. And it also flows through the business side. So these technology projects are wonderful, but they are very expensive. And so not all of that – Tammy off the top of your head I don't know if you have a rule of thumb. But it's – I mean, it's not even 50% capitalized.
Yeah. It's 60%.
It is 60%.
Yeah. And just to add to – just to help you out where some of these pressures are going to manifest in the P&L, certainly we do expect some headwinds in our depreciation. And that is from the investments in the technologies that we've been making here. So you'll see some – we'll see some headwinds there in depreciation and amortization related specifically to the technologies.
And then of course salary, wages and benefits is where you'll see some pressure as well on a unit cost basis year over year as we work to absorb some of the investments that we've made here over the past number of years. So – and I would expect salary, wages and benefits to be the most significant driver of our unit cost pressure next year. So – and some of that will fall out in other as well. So we don't – again we're – I'm not ready to give specific line item guidance today because we're still working our way through the plan, but at least directionally that will – can maybe help you with your modeling.
And then just another thought that I had as Gary was talking just as we look ahead to 2019 and just thinking about some of the inefficiencies that we've at least talked about, we'll – and as we grow into that we would expect to absorb some of that. But our – just one note on our 2019 ASM guidance of no more than 5%, as I mentioned that does include Hawaii flying. And that's estimated to be about half or so I mean of our planned year-over-year growth.
And you – and I know a lot of you look at our – follow the Diio schedules. If you look out at Diio, you can see that our capacity without Hawaii is quite modest. And I think they're trending in the 1% to 3% range without that Hawaii flying.
So we're anxious to start our Hawaii flying and ramp up our schedule there. So hopefully that provides a little more color as you're trying to complete your models there.
And Duane, you remind me of an earlier question that I don't think I ever answered. I know we're over our time. So I'll try to be quick year. But there was a question about whether or not this was sort of a transitional year and the inflation goes away post 2019.
And that may very well be. I don't think we are prepared to give you an answer on that yet because obviously the 2019 information is important to you and is new information.
And we want – I want us to be comfortable that whatever we tell you that will happen next that we've done enough work to be able to support that. But I do think that that's a reasonable thought that this is somewhat transitional. But we need to be comfortable with that.
Obviously, we do long-range plans. But the longer they are the less certain we are that they are realistic. So we'll want to revisit those longer-term plans now that 2019 has come more into focus before we answer that question.
Okay, thank you.
And, Ryan, I think we'll give it back to you. I beg your pardon, one more question.
We have time for one more question. And we will take our last question from Helane Becker with Cowen and Company. Please go ahead.
Thanks, guys. It looks like the pressure is really on. So I just have a question actually as you think about Hawaii service for next year. When we're looking at the bookings for that, when you start to look at bookings for that, what are you thinking about in terms of redeemed Rapid Rewards versus people actually paying for those flights? Because I would imagine a lot of your customers are chomping at the bit to start booking and are saving up Rapid Rewards for exactly that.
I don't know, I'll let Tom guess on this too. And maybe Tom and Andrew have some sense of what other airlines see. We have a different frequent flyer program. Every seat every day is available for redemption, and it's de facto revenue managed. It takes more points to make a booking the week of travel than it does to get an advance purchase ticket. So there are natural revenue management controls over that.
But I think they would also tell you that we're really indifferent where those awards get used. The accounting has changed, so that the revenue recognition doesn't penalize that. So in other words, you won't see it. And our assumption is our customers earned these points and they're going to fly them somewhere. If they want to fly to Hawaii or they want to fly to Amarillo, it's all good by me.
But I can't imagine a scenario like the old days, people were worried about we're going to fill this whole airplane up with zero paying frequent flyers. I can't imagine that scenario. But if it happens that way, you still won't see a problem.
Helene, my guess is you'll see a lot of Rapid Reward redemptions early on, a lot. We've been acquiring customers and credit card holders for the past year very, very intentionally. And they just, as you said, are building their points up. And as Gary said, we don't care. We would love to have that plane full of passengers. Whether it's a cash passenger or a Rapid Reward passenger, I'm indifferent. They are good customers and we're getting our financial piece out of that sale. That's how I think about it.
I'll make one other quick business argument to you, which will hopefully give you – if you're not convinced yet, more comfort, which is remember, the awards are earned in two basic methods. One is you can fly and get a point, but you can also spend money with a credit card and get a point, and for those we get paid.
So the way we look at it, whenever we have a redemption, it's not zero dollars coming in. It's realizing the deferred revenue or the air traffic liability that was already received by Chase in payment of those points. So maybe some customers literally have – they're taking a "free ticket," but most of them have a blend of credit card and flights. And so that makes it even easier to get comfortable that it's a good business decision for the company to manage the frequent flyer program this way.
Okay, that's great. Thank you so much.
Ladies and gentlemen, that concludes the analyst portion of the call today. Thank you for joining. And, ladies and gentlemen, we will now begin our media portion of today's call. I'd like to first introduce Ms. Linda Rutherford, Senior Vice President, Chief Communications Officer.
Abby, thank you. I think we'll go and get started with the media portion of our Q&A. So if you would, give them instructions on how to queue up for a question.
Thank you. We will now begin with our first question from Conor Shine with Dallas Morning News. Please go ahead.
I was wondering if you can provide any more information about what stage of the ETOPS certification process you guys are at. And then once that is presumably granted by the FAA, what kind of timeframe are you looking at between getting that approval and actually operating flights?
I'll give you an update on the certification process, I will talk on the commercial side.
So. Conor, I think Tom and I are going to double team on this.
Okay.
So the ETOPS process takes around 12 to 18 months. That's generally the scheduled time for that process, and we're coming up on just about 12 months of work in there to date. So we have made – continue to make steady progress with the FAA on it. And I would say that we have completed really the regulatory reviews of the manuals.
And we've got the feedback from the FAA and made the changes, and we are transitioning now from the design and documentation of our ETOPS procedures into what I would call a demonstration phase. And that's characterized by us doing tabletop exercises with the FAA and then ultimately validation flights. And so we're in the process right now of trying to get those tabletops and those validation flights scheduled. So we've got a couple of months to still do that before the end of the year.
Hopefully, after we get that done and we would have the certification in place, then we will begin the process of selling the tickets and trying to book up. So we've got the resources and the locations ready in Hawaii. We've got the equipment there. We have our people bid and staffed, ready to go out there. And as soon as we get the approval from the FAA, we can start our training program with our people. And so on the operations side we'll be ready and then we'll just coordinate with the commercial side of the business.
I think, Conor, that once we get that certification, we're ready to go. Andrew and the commercial team have been working on the schedule and how that builds over time and how quickly that kind of thing, it's a great schedule. We're excited to get out there. But once we get the certification, then we'll publish the schedule and it will be flying within weeks or a month, I would think.
Back to what Mike was saying, our facilities are ready to go. Our teams are over there. The aircraft are ready, and we've been working on this for quite a while. So we are really just chomping at the bit ready to go once Mike pulls that trigger and says okay, commercial, we've got a go.
So, Conor, from the time we get the certification, it's days to publish is the way to think about it. And then what Tom was describing there is from the date that we then publish, we could be flying in weeks. I think a lot of that, when we fly we'll be more dependent upon what is the calendar. We don't want to start flying on Christmas Day, as an example. So that will be a factor. But anyway, you get the idea. There won't be a long timeline once we get the approval.
Great. Thanks, guys.
We will take our next question from Mary Schlangenstein with Bloomberg News. Please go ahead.
Thank you. Hey, Mike, I wanted to see if you could give an update on the engine fan blade inspections, how those have been going, and if you have continued to find any cracked blades.
Sure. Sure, Mary. So if you don't mind, I'll maybe just give everybody just a quick refresher course on the program because it's fairly complicated. But we do have roughly, as you know, Mary, 35,000 fan blades probably supporting our fleet. And the inspection program that's mandated out there today is to do recurring inspections every 1,600 cycles. And the inspection technique you use with that is an ultrasonic inspection technique. And so the engine remains attached to the wing of the airplane, and we do it on overnight checks with the airplane.
And that inspection technique is designed to tack cracks as small as 0.016 of an inch. Then in addition to those when the engines comes off for overhaul at the normal overhaul period, an Eddy current inspection is done, and that will detect a crack down to 0.021 inch. And so both of those detection capabilities give us multiple opportunities to identify cracks in any blade out there long before they would become an issue.
So, Mary, as you know, after we had 1380, a big fleet-wide inspection program not only just at Southwest Airlines but worldwide. And so we had identified some of the cracks during that process. But now we've got the steady stream in state, and we have not found any cracks with that UTI inspection process during our steady state of 1,600 cycles. But we did last month during a normal engine overhaul, there was a crack found with an Eddy current inspection. And again that was a small crack and so long before it became an issue.
So I think we should expect that on an ongoing basis, we'll find one or two of our 35,000 blades cracked through these processes. But that's why we're doing them. And I feel really good about the program that we have in place and I think we are hopefully killing it at this point in time.
Mary, the only thing that I would add just for emphasis is that, we know enough now to expect that a very small number of blades will show up with a crack. So that's what Mike is saying. That's what the protocol is for. I think that we and the manufacturer have been delighted with the success that we're having with our procedure. And again what Mike was describing with Eddy current, CFM or GE, I guess, does that. We don't do the Eddy current test and that's only done at the engine overhaul step, Mike...
That's right.
But it's working as designed and we would expect to find a couple of cracks every year. Don't you think, Mike?
Yeah.
Okay. Great, thank you.
And Mary when you and I talked earlier, I may have misspoke, by the way. You were asking me about the flight cancellations. And I thought most of those were attributable to Florence. And I think Mike was pointing out – I don't know if you heard his report earlier, but most of that, it sounds like, Mike, was in Denver and Baltimore.
That's right.
So I just want to – if that was important to you, I want to make sure that you know that I was a little off-track on my answer earlier.
Okay. Great, thank you.
We will take our next question from Tracy Rucinski with Reuters. Please go ahead.
Hi. When you talk about identifying new revenue streams, can you just give us a little more direction of what you're analyzing? Is the possibility of charging bag fees on the table?
Yeah, I don't mind doing that. I'm not going to give you much information, but I would say so that your mind doesn't go there that we're not thinking charging for bags. We're not thinking about charging change fees. The good news is, we have other opportunities that we can explore that will actually enhance the Southwest brand and not detract from it. So that will absolutely be our goal.
And by the way, I'll just quickly add, I don't think it would be revenue positive for us to charge for bags. That's sort of implied by my earlier comment. We like the fact that it's more customer-friendly, but we also believe that we get more customers and therefore more revenues by that approach. And it helps to be the only airline that does that. So it provides a bit of – interestingly some distinctiveness that we've, I think, capitalized on very well.
Okay. Thank you.
But otherwise, I can't really give you any other teasers as to what we are up to until it's ready for primetime. And that's – sorry, it's just not ready yet.
Okay.
We will take our next question from Alison Sider with The Wall Street Journal. Please go ahead.
Thanks. Yeah. I was wondering if you could talk a little bit, how you're seeing the mix between business and leisure travelers right now. If you're sort of depending more on business travelers and close-in bookings to drive more of your revenue, and if you're seeing any pullback from leisure if that's sort of behind some of the drop in the load factor?
This is Tom, Alison. We're seeing strength in both leisure and business. In fact, what we're really seeing, it's not just strength in both of them, but we're seeing our corporate sales slice of business really perform very nicely. And I think part of that does have to do with some of the revenue management techniques and tools we talked about earlier in terms of some of our pricing techniques and our ability to create higher value itinerary result kind of stuff.
But bottom line is I'm getting to revenue management behind you. I think that our corporate business is really performing really nicely. We are seeing very strong performance there in terms of loads and in terms of fares in passenger. And I think that our leisure business just continues to perform nicely. So at 84% load factor, which is down a point, isn't bad, we still carry worth 40 million passengers. So we feel really good about that, but the mix is very strong and our business mix is really picking up.
If it's kind of a broader economic, sort of more macro insight question which we get often, we're not seeing any signs of economic weakness and demand is very strong. I agree with Tom, that the business versus leisure mix is very strong. Corporate sales is a real outlier with its strength and it's just an overall very good report.
Thanks.
And we have time for one more question. We will take our last question from Ghim-Lay Yeo with FlightGlobal. Please go ahead.
Hi. Thanks for taking my question. Gary, you mentioned just now that Southwest saw some revenue weakness in Mexico in the third quarter. Can you talk a little bit more about that? How bad was it? Is it getting better from the airlines perspective? And what is Southwest doing to work against it? Thank you.
Well, yeah, a great question. And of course, I'll just talk more broadly if you don't mind about our international segment and it's relatively small. It's only roughly 3.5% of our capacity. But Mexico in particular is off trend. And really it's not just the third quarter. It's this year. And I think the rest of the industry has been reporting the same thing.
I did share with you that if you just take domestic versus international, our domestic performance was RASM up 2.3%. If my memory is accurate it'll be close at least on the international segment on really a modest capacity increase overall, but the international segment was down about 3.5%. So it's a pretty big gap between international and domestic.
I'm a believer in Mexico and we've had a really strong demand up until this year from leisure customers going to the beaches. And I think that will return, but I think we've seen a pretty widespread weakness across the travel industry. And you could speculate on the reasons as well as I could but consumers have options, and if they feel like they've got better options, they'll go other places. So it may have in fact helped our business in other Caribbean beach destinations for all I know. But in any event, we're definitely seeing – like the rest of the industry, we're definitely seeing a weakness this year. And I don't see any signs of that abating dramatically, but it does sound like it's not getting worse and maybe we'll see some strengthening here.
Right. Are you planning to cut any capacity on those flights to Mexico?
We're not ready to make any cuts at this point. The only thing that I would say is that – and Tammy made this very clear with her comments with the analyst is that our focus with our – not more than 5% growth in 2019 – is Hawaii. And so we're not planning on adding any meaningful amount of international flying in 2019 because of that. But we haven't shared whether we plan to trim any routes and that's something that we routinely do. But again, there's nothing to share about that at this point.
Thank you.
And at this time, I'd like to turn the call back over to Ms. Rutherford for any additional or closing remarks.
Thanks, Abby, and thank you all for joining us. If you have any follow-up questions, the communications team is standing by. You can reach them by phone at 214-792-4847 or via our media website at swamedia.com. Thanks so much.
Ladies and gentlemen, that concludes today's call. Thank you for joining.