New York, April 28, 2020 -- Moody's Investors Service ("Moody's") assigned a Baa1 rating to Southwest Airlines Co.'s ("Southwest") new $1 billion of convertible senior unsecured notes due 2025 the company announced this morning. Southwest will use the proceeds for general corporate purposes. The issuance of the convertible notes does not affect Moody's Baa1 senior unsecured or any other of the ratings assigned to Southwest, all of which remain on review for downgrade.
The spread of the coronavirus outbreak, the deteriorating global economic outlook, extremely low oil prices and asset price declines are sustaining a severe and extensive credit shock across many sectors, regions and markets. The combined credit effects of these developments are unprecedented. The passenger airline sector is one of the sectors most significantly affected by the shock given its exposure to travel restrictions and sensitivity to consumer demand and sentiment. Moody's regards the coronavirus outbreak as a social risk under its ESG framework, given the substantial implications for public health and safety.
The review for downgrade will consider (i) the sufficiency of the company's liquidity profile, which is substantial with about $6 billion of cash currently on hand; (ii) the company's ability to timely and, in what magnitude, aggressively reduce expenses and capital investments to reduce cash outflows as new bookings remain scant; (iii) evolving market conditions, including demand patterns and capacity plans; and (v) the potential for Southwest to timely restore key credit metrics following the coronavirus, which will require prioritization of debt reduction over share repurchases.
RATINGS RATIONALE / FACTORS THAT COULD LEAD TO AN UPGRADE OR DOWNGRADE OF THE RATING
The Baa1 senior unsecured rating reflects Southwest's conservative capital structure, marked by debt-to-EBITDA of 0.9x at the end of 2019; its record of recurring free cash flow; strong liquidity; and its leading market position in the US domestic passenger airline industry. The grounding of the Boeing 737 MAX has delayed capital expenditures, contributing to the company holding more cash coming into 2020 relative to prior years.
The ratings could be downgraded if i) aggregate liquidity, inclusive of financing value of unencumbered assets, falls below $5 billion, ii) the coronavirus leads to a sustained steep decline in passenger demand well beyond June 2020, ii) there is a slower recovery of economic activity and passenger demand that impair Southwest's free cash flow generation, or iv) Moody's expects credit metrics to remain weak, such as reported debt-to-capital maintained above 40%, debt-to-EBITDA sustained above 3x, FFO + interest to interest below 8x, or retained cash flow-to-debt approaching 25%. The prospects for a ratings upgrade are limited until after a full recovery from the coronavirus. Debt-to-EBITDA of about 1x and steady free cash flow generation and restoration of operating margin to about 13% could lead to a ratings upgrade.
The principal methodology used in this rating was Passenger Airline Industry published in April 2018 and available at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBC_1091811. Alternatively, please see the Rating Methodologies page on www.moodys.com for a copy of this methodology.
Southwest Airlines Co., based in Dallas, Texas, is a leading low-cost airline in the United States. Southwest operates more than 4,000 flights daily during peak periods, serving 103 destinations across the United States and ten additional countries. Based on the most recent data from the US Department of Transportation, Southwest remains the nation's largest carrier in terms of originating domestic passengers boarded. The company reported revenue of $22.4 billion for 2019.
..Issuer: Southwest Airlines Co.
....Senior Unsecured Regular Bond/Debenture, Assigned Baa1; Placed Under Review for Downgrade