An airline in crisis

Over the recent Christmas holiday periodI, Southwest was an almost daily feature on the front pages of US news media when the pressure of severe winter storms drew attention to shortcomings in its operational capability. Its outdated crew scheduling software was finally overwhelmed by the volume of crew changes it had to process. Airline managers were forced to resort to manual systems to locate and reassign crew to weather-disrupted flight schedules.

Southwest was forced to cancel more than 15,000 flights, leaving thousands of passengers stranded just before Christmas. Christmas travel plans were disrupted, rescheduling options were extremely limited and, to add to their distress, passengers were often separated from their baggage. More than 1 million Southwest customers were affected. The resultant costs to the airline may be as high as $700 million. [1] A much greater sum is likely to be needed to bring Southwest’s technology up to date. [2] It is anyone’s guess how many formerly loyal passengers will change their airline of choice because of the inconvenience and shortcomings in the company’s management.

Other major airlines were also affected by the same severe weather event, but they recovered quickly. So why was the Southwest situation different? Some commentators acknowledged that Southwest’s point-to-point flight patterns—a significant part of its customer appeal—may have contributed. [3] Most, however, concluded that Southwest’s problems could be directly attributed to its outdated scheduling technology. When that failed, it created a snowball effect that eventually caused a network-wide halt.

So why, in an industry so operationally dependent on its technology infrastructure, had the company not pre-emptively addressed a well-known problem that has been described as a ‘technological timebomb’? [4]

Most answers lead directly to a board that had delighted shareholders but failed to invest in mission-critical technological infrastructure. The significance of that failure calls to mind the comment made at the US Senate inquiry into the infamous Enron collapse—that the Enron board was “…not only fiddling while Rome burned, but toasting marshmallows over the flames”.

How did board shortcomings let Southwest down?

1. By putting customers last, not first

   
   One of the undeniable truisms of business was stated by the ‘father of modern management’, Peter Drucker. He said that the purpose of a business is to create and keep a customer. To fulfil that purpose, a business must have competent, well-resourced and well-motivated staff to find, satisfy—and perhaps even exceed—customer expectations. When these two imperatives are met, it is likely the business will generate a financial surplus in which shareholders are entitled to share. That was the understanding on which the co-founder of Southwest, Herb Kelleher, ran the company when it was ‘a poster child for innovation, delighting customers and workers alike’. [5]

   When his successor, Gary Kelly (still a member of the board), took over in 2004, he turned that philosophy on its head. Employees became mere ‘cost units’ as Kelly focused on managing capital and striving to increase returns to shareholders. To be fair, other CEOs were doing the same thing, subscribing with great zeal to what became known as the ‘shareholder primacy’ dictum. Kelly and his ilk recognised that the stock market rewards companies far more for downsizing workforces, and sending profits and ‘excess’ capital to shareholders, than for expenditure that may not produce a tangible financial return for years.

   This short-term focus is typically reinforced when chief executives’ remuneration is tied to their companies’ share price. As is so often revealed in corporate post mortems, boards regularly incentivise executive behaviours that are ultimately detrimental to corporate (and shareholder) wellbeing. Tying an executive’s compensation to share price and quarterly earnings gives strong incentives to make ‘quick and dirty fixes’ to what is already in place, rather than committing time and money to find and address a root problem. Updating software is costly and difficult. Often this is because of all the ‘duct tape and wire’ already in place, put there by previous generations of employees responding to the same incentives but who have long since moved on.

   Eventually, inevitably, however, there is a price to pay for relying on layer upon layer of quick fixes to essential technology, dubious financial engineering, initiatives to boost ‘efficiency’ ahead of customer value creation, and a failure to ensure the company has engaged and satisfied employees. Airline customers, for example, have faced shrinking seat sizes, additional charges for baggage, snacks and drinks, poor and unpredictable on-time performance, and the possibility of being bumped from flights because airlines have oversold aircraft capacity. And—from an airline employee perspective—imagine how motivated they are to go the extra mile for customers when they feel overworked, under-paid and vulnerable to continuing downsizing, are reliant on out-of-date and unstable systems, and are confronted routinely with unhappy, even angry customers.
   
   

2. By presiding over a problematic corporate culture

   
   Sceptical analysts asked to comment on Southwest’s problems say the company’s management suffers from ’Southwest exceptionalism’, a stubborn belief that its unique approach to running an airline is best. Even though Southwest had its origins as an industry upstart taking on sleepy incumbents, analysts have pointed to the company’s very slow decision making and its caution about change. [6]

   Comments from Southwest executives before and during the Christmas crisis reinforce this sense of being different and always right and point to a significant degree of overconfidence. For example, when Southwest experienced a cancellation crisis in October 2021, Gary Kelly, Southwest’s chief executive at the time, objected to the pilots’ union pointing out the risk inherent in antiquated crew-scheduling technology. He said Southwest had ‘wonderful technology’. [7]

   Fast forward a year, to a meeting with Wall Street analysts and investors early in December 2022. Southwest had made it through the Thanksgiving holiday with few flight cancellations. Robert Jordan, Kelly’s successor, told his audience the company’s performance had been ‘just incredible’. Even during the Christmas meltdown he was writing the crisis off to a rare weather event stating (as if excusing the situation) that ‘…the tools we use to recover from disruption serve us well 99% of the time.’ [8]

   Another Southwest spokesperson conceded that technology played a role in the Christmas fiasco but did not acknowledge the impact of past decisions: “Our systems were overwhelmed by the scale of the disruption. We had available crews and aircraft, but our technology struggled to align our resources due to the magnitude and scale of the disruptions.” [9]
    

3. By being oblivious to, or at least insufficiently concerned about, a growing technology risk

   
   A failure to invest in the resilience of the systems on which your business operations depend is like playing Russian roulette. Apparently staff and employee unions had warned for years that Southwest’s crew and aircraft scheduling technology was hopelessly outdated. Unions had complained that problems with technology were leaving staff exhausted and dispirited. When flights were delayed or cancelled, flight attendants were often stranded alongside Southwest customers without information or solutions. The sharp slowdown as a result of the pandemic only made the situation worse.

   In the days when Southwest was greatly lauded for innovation in airline service, it was often remarked that the company had only one KPI—the on-time departure of scheduled flights. If that metric was achieved, it could be assumed that everything was working well. But Southwest’s on-time performance had crashed as long ago as 2014 due, it was said, to bad planning and the expansion of its services without adding planes to its fleet or upgrading its reservation system that was antiquated even then.

   Within the company, lip service had long been paid to the need for technology upgrades and, to be fair, some funds had been allocated. However, when the airline had to cancel thousands of flights due to technological problems in June and again in October 2021, red lights were flashing, and directors should have been thumping the table for action. Just weeks before the holiday disaster, the president of the Southwest Airlines Pilots Association was quoted as saying: “I fear that we are one thunderstorm, one [air traffic control] event, one IT router failure away from a complete meltdown.” [10]

   Representatives of other employee groups were similarly concerned. The union representing Southwest’s flight attendants, for example, made the following damming statement during the Christmas crisis: “It is not weather; it is not staffing; it is not a concerted labour effort; it is the complete failure of Southwest Airlines’ executive leadership. It is their decision to continue to expand and grow without the technology needed to handle it.” [11]

   It is not as though Southwest was not generating the funds it needed to upgrade the systems needed to meet long apparent staff and customer expectations. The company had entered the pandemic in 2020 with the strongest balance sheet in Southwest’s history. [12] In 2019, Kelly had trumpeted the benefits the company had provided to shareholders—estimated to be more than $11 billion worth over the previous decade, including increased dividends and a $2 billion share buy-back, with another one on the cards. Meanwhile, the company’s operational performance declined. ‘The more revenues Southwest devoted to upstreaming cash to shareholders, the less remained to keep its planes flying on schedule.’ [13]

   Given Bob Jordan’s background (he started at the company as a computer programmer and has been a long-standing member of the senior executive team) he could not have been unaware of the risk. Nor, if they been paying the slightest attention, could the growing ‘technical debt’ at Southwest have been a secret to its directors.
   
   

4. By failing to oversee execution and hold the chief executive accountable

   
   One of Peter Drucker’s key assertions was that management is first and foremost a practice. It is the performance of that practice (the achievement of intended results) that is the ultimate measure of success. Commensurate with this is the removal of managers who do not execute consistently. [14]

   While Southwest’s Christmas meltdown was in full swing, Chief Executive Bob Jordan acknowledged to his staff that “…we’ve talked an awful lot about modernizing the operation and the need to do that”. As one commentator pointedly observed, surely such an admission was a slap in the face for any self-respecting director and a wakeup call given that the board’s job is to ensure that top management translates talk into action. [15]
   
   

5. By failing to diversify and refresh the board

   
   Three of the 11-person board have been acknowledged as ‘ticking the diversity box’ (gender and race) but in terms of experience and outlook the board is quite homogenous. [16] ‘Outside’ directors include four former CEOs of other companies, three former corporate lobbyists, a current and a former business professor, the director of an executive search firm and a board member of several not-for-profits. Their bios give no indication that any could claim familiarity with the workforce’s challenges or offer the kind of customer advocacy that would push management hard on how it serves its customers. Similarly, there is little evidence of any independent member of the board having sufficient technology nous to speak up for the growing risk of core system failure.

   The ‘inside’ directors include Jordan, the CEO, and former CEO Kelly, who is referred to as the executive chair. Ignoring the accountability confusion likely to arise from the mistaken belief you can have both an executive chair and a chief executive it is highly debateable that the former CEO (Kelly) should have been retained on the board let alone continue to lead it. [17]

   The lead director (a role set up to supposedly lead and protect ‘outside directors’ from undue management influence) has been on the board for 22 years and is hardly likely to be ‘independent’ of management. Seven directors have each been on the board for more than a decade. Not surprisingly, in 2022 (apart from proposing one new director), the board unanimously recommended that shareholders vote for the re-election of all directors (ie, for them to remain in their seats)! The average age of the non-executive (outside) directors is 72. It’s not difficult to surmise that the serious glue keeping them in place is the average director’s fee of $284,000. [17] It must be assumed that many if not most directors are also substantial holders of shares in the company, although this was not immediately verifiable from the Annual Report.

   So, it is doubtful any of the directors would want to ‘rock the boat’. And that might be at the core of Southwest’s governance failure.

_________________________________________________________________________________

Notes

[1] Lila MacLellan, ‘Southwest Airlines’ holiday week from hell may cost the company up to $700 million. Here’s what boards can learn from the fiasco’, Fortune, 6 January 2023

[2] Michael Hiltzik, ‘The guilty parties evading blame for the Southwest meltdown are its board members’, Los Angeles Times, 3 January 2023

[3] Most major airlines in the US operate a hub and spoke pattern; Southwest operates a point-to-point system flying direct to a wide range of destinations.

[4] MacLellan, op cit.

[5] Rana Foroohar, ‘Hyper-efficiency is bad business.’ Financial Times, 9 January 2023.

[6] Peter Eavis and Isabella Simonetti, ’10 Months into Job, Southwest’s C.E.O. faces a Giant Crisis’, New York Times, 28 December 2022.

[7] Zeynep Tufecki ‘The Shameful Open Secret Behind Southwest’s Failure’ New York Times, 31 December 2022.

[8] Eavis and Simonetti, op cit.

[9]Tufecki, op cit

[10] Foroohar, op cit

[11] Eavis and Simonetti, op cit

[12] Southwest Airlines Annual Report 2021

[13] Hiltzik, op cit.

[14] Jeffrey A Krames (2008) Inside Drucker’s Brain. London, Portfolio. Chapter 2 (Execution First and Always)

[15] Hiltzik, op cit.

[16] ibid.

[17] Kelly had been both the CEO and Chair.

[18] Hiltzik, op cit.