What’s going on between Southwest Airlines and activist investor Elliott Management? (2024)

It’s a bold call for a stakeholder to recommend a company clean house of its leadership.

On Monday, the New York hedge fund Elliott Investment Management, with a $1.9 billion stake in Southwest Airlines, sent a letter to the Dallas-based airline’s board of directors stating the airline has “poor execution” and leadership has a “stubborn unwillingness” to evolve the airline’s strategy, ultimately not creating good results for shareholders. It called out CEO Bob Jordan and executive chairman Gary Kelly for their leadership.

Southwest, one of North Texas’ largest locally-owned companies with nearly 76,000 employees nationwide, is locked in a battle with an aggressive shareholder that threatens its 52-year history of independence and unique policies. After lackluster performance financially and operationally during the last two years, some investors want longtime leaders out.

Southwest clapped back, reaffirming faith in leadership and planning for changes to its finances. On Wednesday, at an event discussing the state of the airline industry held by Politico, Jordan told reporters he has “no plans to resign.”

A Southwest spokesperson added it welcomes feedback from all shareholders.

“The board is comprised of directors with complementary skills and expertise and includes seven new directors appointed during the past three years,” a spokesperson said in an email. “The board is confident in the ability of our CEO and leadership team to evolve the business and drive long-term value for all stakeholders.”

Activist investors are firms that put money into underperforming companies and try to improve performance for profit. These investors buy a stake, like the 11% Elliott built up with Southwest, and run campaigns to persuade shareholders and management to implement changes. It’s a large, but not necessarily controlling stake. Sometimes, these changes are for the better and can improve a company. Other times, shareholders may not agree with what an activist investor proposes.

Elliott wants Southwest to take into account three recommendations: enhance the board, upgrade leadership and undertake a business review.

Michael Levin, who is a smaller-scale activist investor based in Chicago and serves on the board of directors of Comarco and AG&E Holdings, views Elliott as a very prominent player in the industry.

“They’re kind of badass about this stuff,” Levin said. “I have a lot of respect for them. They deliver results.”

The 11% figure doesn’t happen overnight, he explained. The Securities and Exchange Commission requires investors to legally disclose once they own more than 5% of a company, he said. Activist investors will look for cheap stock prices, evaluate what might be wrong with a company and see if it’s mendable.

Elliott could have been building out their stake for months, possibly years, he explained. After acquiring more than 5%, there’s “less than a week” to disclose ownership. There’s no special timing for when an activist investor might choose to write a letter to one of its companies, but sometimes it’s centered around corporate shareholder meetings. Southwest’s meeting was May 15.

Major companies can sometimes get the hint early on that an activist investor may come in and buy more shares.

“Companies like Southwest when they saw it was Elliott — they probably started to sweat,” Levin said.

If Southwest were to implement Elliott’s plan, the investment firm believes the stock can rise to $49 per share within 12 months, a 77% return during the period. The firm reported that the company’s share price has declined by more than 50% in the past three years and has now fallen to even lower levels than it was traded on the New York Stock Exchange in March 2020 at peak COVID-related shutdowns.

Jordan told reporters Wednesday that Elliott’s asks were “fairly light.” He heard Elliott could propose bag fees, where Southwest has always allowed two bags for free, but added 50% of Southwest customers fly because of the policy, according to Reuters.

Elliott was founded in 1977 and manages about $65.5 billion in assets, with 570 employees. It’s a multi-strategy investment fund that does shareholder activism, but also private equity and other investments. Activism is one of its many strategies for investing. It has made moves with other struggling major companies, like when it acquired bookseller Barnes & Noble in 2019 for $683 million.

Elliott declined to comment further than public disclosures and filings as it does not usually make statements on its investment activities.

Southwest has been criticized since the December 2022 operational meltdown, including skits on Saturday Night Live about the catastrophe and one this year on the airline’s customer service. The North Texas airline has always had a reputation for a strong culture, business model and low-budget options catering to the passenger’s needs.

That reputation has diminished over the years, according to Bill Swelbar, chief industry analyst at aviation economics firm the Swelbar-Zhong Consultancy. Yet, the airline has continued to hold on to the way it approaches business. Jordan recognized Wednesday that the landscape continues to change, alongside customer expectations.

“If customer demands are changing and expectations are changing, you must change with them,” Jordan said, noting the airline’s work taking another look at assigned seating and the demand for premium seating.

During the company’s first-quarter earnings call in April, where Southwest reported a $231 million loss, Jordan said the air carrier was “considering more transformational options,” which includes a study around customer preference for seating.

Southwest shouldn’t be undermined, according to Courtney Miller, founder of Visual Approach Analytics, which collects data on the aviation industry. He touts the company’s culture as a model for other airlines for decades.

“What I’m more curious about is does Elliott see improvement opportunities or do they see a way to extract value from a historically valuable balance sheet?” Miller said.

Miller said he sees value in Elliott taking a “swipe” at the airline and this may initiate change rather than be seen as a threat.

The Southwest Airlines Pilots Association, the union that represents Southwest’s pilots, told members in a memo on June 11 that it was “carefully monitoring the development.” The union will host Wall Street analysts on Thursday in Dallas to expand on the proposal from Elliott. The union has also spoken with Jordan and a representative from Elliott.

Elliott has taken less harsh calls to action with the companies it has stakes in. In May, Elliott wrote a letter to Texas Instruments stating the company was spending too much on massive capital projects and that “commitment to capital discipline will restore investors’ confidence.” Elliott’s $2 billion investment is worth about 1.3% of that company’s market value.

“We received the letter and are reviewing it,” a Texas Instruments spokesperson said in an email. “As always, our focus is on continuing to make decisions that are in the best interest of TI and all of our shareholders.”

Activist investors have different approaches. Activist investor Nelson Peltz asked for spots on Disney’s board for more than two years. Peltz has a hedge fund named Trian Partners and asked for two seats to initiate a growth plan with the company. Disney CEO Robert Iger called it a “proxy contest.” Even after losing the vote with shareholders, Peltz managed to profit about $1 billion from his investments, according to CNBC.

Southwest has its work cut out for them when a campaign like this starts, according to Levin.

Swelbar said it’s almost like the “2024 version of 2005,” meaning major U.S. airlines need restructuring and rethinking. However, bankruptcy, he said, isn’t an option.

“If we are going to get some sort of restructuring and change in the status quo with disappointing performance, it’s going to take activities like this — to pressure boards and management teams to think differently,” Swelbar said.

However, an 11% stake isn’t the whole company. Activist investors need to garner support for other shareholders, too. For Elliott, that’s already happened this week.

Artisan Partners, another investment management firm, wrote to the Southwest board stating it holds 10.8 million shares, about a 1.82% stake in the company. Artisan Partners was greatly in favor of Elliott’s position.

“We have made many of the same points to the company’s executive chairman over the past several months,” the letter read. “We are writing today to urge the board to reconstitute itself and upgrade the Company’s leadership such that it can objectively assess the best path forward for Southwest’s shareholders, employees, and customers. We believe this process needs to commence immediately.”

At the end of the day, it’s the business of making money. An activist investor is willing to negotiate and compromise to get the return it wants. Most of the time, according to Levin, the results come through.

“It’s kind of like losing the battle, but winning the war,” Levin said.