1. By: Dennis Bayon, Rupert Pattisson Tolga Turgut, Shidan Wang
5440 Financial Management
April 24, 2013

2. Introduction
 Fleet size: 694 comprising of 606 B-737s & B-717s
 Labor force: 46,000 employees
 Network: U.S. domestic & near-international markets
 Home base: Dallas Love Field, Ticker symbol “LUV”
 Honors: Only airline to make Fortune`s top 10 list of the
World`s most admired companies.
 Passengers: $134 Million (fourth largest U.S. airline)
 Revenue: $ 17,088 Billion (2012)

3. Business Model & Services
 Leading low cost carrier (LCC)
 Provides point-point services mainly, no hub and spoke
 Air travel services within U.S. and near-international
markets to serve 97 destinations in 41 states
 Leading domestic U.S. airline by number of passengers
enplaned
 Slight shift of strategy with AirTran acquisition:
introduction of international services, flights to primary
airports, business class services

4. Primary Markets and Competition
 Atlanta, Baltimore, Chicago Midway, Dallas Love Field,
Denver, Houston Hobby, Las Vegas, Los Angeles, Orlando
(destinations with 100 + departures daily)
 Major competitors: American/US Airways, Delta
Airlines, United, and Jet Blue.
 Limited international network and presence at major East
Coast Airports.

5. Merger & International Strategy
 AirTran was acquired at$ 1.0 Billion net in cash &shares
 Full integration expected to be completed by 2017
 Stock price declined 4% within the days of acquisition
 Operations to six foreign countries resumed as a result of
AirTran acquisition
 $400M in annual pre-tax synergies targeted as a result of:
• Network optimization
• Fleet renewal
• Fleet commonality program

6. Selected Financial Ratios
FY2011 FY2012 Peers
Current Ratio 0.96 0.91 0.80
Times Interest Earned
(TIE)
2.88 6.76 2.25
Return on Invested
Capital (ROIC)
5.55 5.48 -
 Current Ratio: Remains above average even after acquisition of AirTran.
• Significant cash, liquid short-term investments, un-used credit facilities.
 TIE: Capital structure with low debt.
 ROIC: Currently below WACC of 8.9% is unsustainable.

7. DuPont Analysis
FY2011 FY2012
Profit Margin 1.14 2.46
Asset TO 0.87 0.92
Equity
Multiplier
2.63 2.66
= ROE 2.61 6.02
 Anticipate ROE growth will be driven by:
• Profit Margin: Growth due to AirTran merger cost savings.
• Asset TO: Growth due to increased capacity of planes and load
factors.
 Equity Multiplier: Anticipate no growth; SW targeting similar capital
structure.

8. Revenue and Net Income
Revenue
 FY12 revenue = $17 billion
 Average revenue growth = 12% over past 5
years
 Generated and combined four growth rate
models
 Projected 9% annual revenue growth rate
• Industry only 5%.
Net Income
 Average NI = $267 million over past 5
years
• Drastic drop after AirTran acquisition.
• But…still positive
 Projected 29% annual NI growth rate
 Cost and operational efficiency driving
increased profit margin

9. Free Cash Flows
 FCF projected using method outlined in Financial Management textbook
 Negative FCF in FY2011 and FY2012 not necessarily bad
• $1 billion investment over two years
 Should explore additional investments made possible by AirTran acquisition
FREECASH FLOW PROJECTION FY2011 FY2012 FY2013 FY2014 FY2015
NOPAT 382 383 722 856 1,086
Operating Current Assets 1,767 2,124 2,382 2,736 3,153
Operating Current Liabilities 3,889 4,379 4,555 4,962 5,428
Net Operating Working Capital (2,122) (2,255) (2,173) (2,226) (2,274)
Total Net Operating Capital 10,005 10,511 10,753 10,963 11,216
Net Investment in Op. Capital 439 506 242 210 253
NOPAT 382 383 722 856 1,086
Net Investment in Op. Capital 439 506 242 210 253
Free Cash Flow (57)$ (123)$ 480$ 646$ 833$
Growth -107.3% 115.6% -490% 35% 29%

10. Scenario Analysis
FREECASH FLOW - WORSTCASE FY2011 FY2012 FY2013 FY2014 FY2015
NOPAT 382 383 304 253 294
Net Operating Working Capital (2,122) (2,255) (1,878) (1,756) (1,799)
Total Net Operating Capital 10,005 10,511 10,959 11,337 11,308
Net Investment in Op. Capital 439 506 448 378 (29)
NOPAT 382 383 304 253 294
Net Investment in Op. Capital 439 506 448 378 (29)
Free Cash Flow (57)$ (123)$ (143)$ (125)$ 324$
FREECASH FLOW - BESTCASE FY2011 FY2012 FY2013 FY2014 FY2015
NOPAT 382 383 979 1,096 1,317
Net Operating Working Capital (2,122) (2,255) (2,329) (2,537) (2,751)
Total Net Operating Capital 10,005 10,511 10,847 11,062 11,281
Net Investment in Op. Capital 439 506 336 215 219
NOPAT 382 383 979 1,096 1,317
Net Investment in Op. Capital 439 506 336 215 219
Free Cash Flow (57)$ (123)$ 643$ 881$ 1,098$

11. Historical Stock Price

12. Stock Prices & Analyst Opinions
 Our 2013 FYE target price is $14.69; currently $13.34
• Projected 18.7 PE ratio
• Projected 43% FY2013 stock price return
• Projected 9.2% from now until 2013 FYE
 Analyst target price range is $14.30 – $15.00
• Split between Hold and Buy recommendations
 We recommend to buy on weakness

13. The Cost of Capital
 Rs = 10.5%
• Average CAPM (10.3%)
and DGM (10.6%)
 Current WACC = 8.9%
• 19.5% Debt, 81.5%
Equity
• Low debt
Assumptions
• Total debt = MV bonds
plus leases
• Weighted Average YTM
• Beta based on 5 year
monthly data (1.14)
• Matched higher published
betas

14. Optimal WACC = 8.5%
 Excel model, taking rs
from CAPM
 Will company increase
debt?
 Replacement debt only…
• $700m maturing debt in
2016 with improving
earnings
8.20%
8.30%
8.40%
8.50%
8.60%
8.70%
8.80%
8.90%
9.00%
9.10%
10% 15% 20% 25% 30% 35% 40%
Optimal WACC is 8.51% at
30% Debt

15. Dividend and Capital Structure
2012 Dividend? Capital Structure
High Operating
Leverage
High business risk
Aversion to debt?
Credit rating constraints
400
578
22
$ Million
Share buyback
Debt repayment
Dividend
81.50%
18.50%
Equit
y

16. Corporate Governance
 Executive remuneration - 80%
is shareholder value related
 (2012 Proxy Statement)
 An independent and
experienced board
 Duality of CEO and COB
 New 2013 claw back rule
Performance:
 A well run business? yes but…
 Copycat competitors
 ROIC lower than WACC!
27%
38%
30%
5%
2009
Salary Bonus Equity Other
15%
25%
55%
5%
2012
Salary Bonus Equity Other

17. Thank You