Southwest Airlines downgraded at Melius Research as it has ‘difficult decisions ahead’

Melius Research downgraded shares of Southwest Airlines (NYSE:) to Sell from Hold, lowering the price target to $19 from $30 per share in a note to clients on Monday.

Analysts told investors that the company has difficult decisions ahead.

They note that Southwest’s strategy to outgrow its issues is not working and that what made Southwest “arguably the most successful airline of all time is the simplicity of the model (all 737), a point-to-point network offering more non-stops in the US than the competition, network depth and breadth, and a relentless focus on customer service and productivity.”

While analysts said that while many of those core tenets remain unchanged, the operating environment has changed.

“Southwest likely expected COVID to be an opportunity to be aggressive given their relative positioning, balance sheet, and history on their side (consistently gained share in prior downturns),” they wrote. “The company moved into new markets (Hawaii, Chicago ORD, Houston IAH) at the expense of the core network, but with gov’t aid, incumbent players had little reason to cede share like prior cycles. Today, 14% of Southwest markets are under development and diluting margins, while unit costs are 21% higher in ’23 vs. ’19.”

The analysts also said the overcapacity in the US market means LUV has a difficult choice, with the company now overstaffed.

“The issue here is Southwest has never had mass layoffs in its +50-year history. At the same time, this is a unique time for Southwest as they miscalculated the recovery (hard to predict), driving up costs while losing pricing power post-summer. Headcount reduction with a slower growth profile allows for the company to reset & start to rebuild,” the analysts concluded.