Fitch Rates Southwest's Proposed Sr. Unsecured Notes 'BBB'

CHICAGO--()--Fitch Ratings has assigned a rating of 'BBB' to Southwest Airlines Co.'s proposed $300 million senior unsecured note issuance. Southwest's Issuer Default Rating (IDR) remains unchanged at 'BBB'. The Rating Outlook is Positive.

Southwest plans to issue $300 million in senior unsecured notes due in 2019. The notes will rank pari passu with Southwest's existing unsecured issuances, and the proceeds are to be used for general corporate purposes. Following the proposed issuance, total debt levels at Southwest will remain relatively flat after the company paid down its $350 million 5.25% with cash in October of this year.

KEY RATING DRIVERS

Southwest's investment grade ratings are supported by the company's strong competitive position in the U.S. domestic market, solid free cash flow (FCF), declining leverage, and substantial financial flexibility. While credit metrics in recent years were weak for the 'BBB' rating due to negative impacts from the financial crisis and the AirTran acquisition, improvements over the past year now put Southwest's credit metrics solidly in line with the 'BBB' rating.

The Positive Outlook reflects Fitch's view that a positive rating action could be warranted over the intermediate term should the company continue to strengthen operating margins, control unit cost inflation, generate solid FCF, and exhibit stable or declining leverage. Fitch also notes that operating risks relating to the integration of AirTran are now largely in the past as Southwest expects to effectively complete the integration process by year-end 2014. If Fitch were to upgrade Southwest, the senior unsecured ratings would likely be upgraded commensurately.

Rating Concerns: Primary rating concerns include industry risks that are typical for any airline, including fuel prices, event risk, and macroeconomic concerns. The industry remains highly leveraged to the overall macroeconomic environment. A future downturn could significantly affect demand for air travel, resulting in lower yields and load factors. Fitch notes that Southwest has an advantageous position in the near term given its domestically focused route network in what remains a healthy market for travel in the U.S. and relative lack of exposure to some weaker international markets.

Southwest may also face continued pressure from rising labor costs. Most of Southwest's major union contracts are open for amendment, and the ultimate cost impact from those negotiations is uncertain at this time. Concerns also include increased competition both from Southwest's large network rivals that are now financially healthier than they have been in the past, and from rapidly growing low-cost carriers.

RATING SENSITIVITIES

A positive rating could be triggered by sustained EBITDAR margins above 20%, solid FCF generation particularly in light of heavy expected future capital expenditures, and total adjusted debt/EBITDAR approaching 2.5x on a sustained basis. Fitch would also look for clarification around Southwest's currently open labor contracts in respect to their longer-term cost implications.

Fitch does not expect to take a negative rating action in the near term. However, a negative action could be driven by an exogenous shock that causes demand for air travel to drop significantly or a spike in fuel prices that is not offset by rising yields. A negative action could also be driven by a change in management strategy favoring shareholder returns at the expense of a healthy balance sheet.

Fitch has assigned the following ratings:

Southwest Airlines Co.

--$300 million senior unsecured notes due 2019, 'BBB'.

Fitch currently rates Southwest as follows:

--Issuer Default Rating (IDR) 'BBB';

--Senior unsecured debt 'BBB';

--$1 billion unsecured revolving credit facility expiring 2018 'BBB';

--Secured term loans due 2019 and 2020 'BBB+'.

Additional information is available at 'www.fitchratings.com'.

Applicable Criteria and Related Research:

--'Corporate Rating Methodology' (May 28, 2014);

--'Recovery Ratings and Notching Criteria for Nonfinancial Corporate Issuers' (Nov. 19, 2013).

Applicable Criteria and Related Research:

Corporate Rating Methodology - Including Short-Term Ratings and Parent and Subsidiary Linkage

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=749393

Recovery Ratings and Notching Criteria for Non-Financial Corporate Issuers

http://www.fitchratings.com/creditdesk/reports/report_frame.cfm?rpt_id=721836

Additional Disclosure

Solicitation Status

http://www.fitchratings.com/gws/en/disclosure/solicitation?pr_id=914055

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Contacts

Fitch Ratings
Primary Analyst
Joe Rohlena, CFA
Director
+1 312-368-3112
Fitch Ratings, Inc.
70 W. Madison St.
Chicago, IL 60602
or
Secondary Analyst
Craig Fraser
Managing Director
+1 212-908-0310
or
Committee Chairperson
John Culver
Senior Director
+1 312-368-3216
or
Media Relations
Brian Bertsch, +1 212-908-0549
brian.bertsch@fitchratings.com

Contacts

Fitch Ratings
Primary Analyst
Joe Rohlena, CFA
Director
+1 312-368-3112
Fitch Ratings, Inc.
70 W. Madison St.
Chicago, IL 60602
or
Secondary Analyst
Craig Fraser
Managing Director
+1 212-908-0310
or
Committee Chairperson
John Culver
Senior Director
+1 312-368-3216
or
Media Relations
Brian Bertsch, +1 212-908-0549
brian.bertsch@fitchratings.com