Southwest Touts Its Turnaround—61% Of Its Profit Came From Asset Sales And Accounting Changes

Southwest’s third quarter earnings release touted some good headline numbers about revenue, less so profit, but immediately it was clear that the story on whether changes like seat fees and bag fees were working was ambiguous at best. However their SEC 10-Q filing is now available and the picture gets even a bit murkier. That’s because Southwest Airlines reported $428 million in adjusted pretax profit for the third quarter – however, Aircraft and engine transactions produced $214 million of the gains, and sale/leaseback of aircraft are notoriously tricky. An airline can sell a plane for more than its worth, book profits, and just commit itself to higher lease payments in the future. They changed their assumptions about how much resale values are for aircraft, and cut their depreciation expense by another $48 million. Maybe their new estimates are right, but this is money they’ve effectively already spent – they’re just recognizing some of the cost later than planned. And we already knew that the year-over-year comparison was boosted by an extended Chase agreement and related change to their accounting that has them booking more of the revenue they take in right away, and preserving less of it on the balance sheet for future travel. They’ve now disclosed another extended agreement, although little of the economics are disclosed. Without the Chase agreement it’s already accounting for 61% of adjusted pretax profit. And when you look at the revenue Southwest attributes to its new commercial model, the line includes the money from Chase so it’s not actually what passengers are paying in fees. Southwest’s earnings release says customers are responding to its enhanced offering and the transformation is complete. Revenue grew 21.2%, and adjusted operating margin rose from 0.6% to 5.4%. But the quarterly filing gives us more reasons to question how much of their financial performance has anything to do with imposing bag fees and charging for seats. Southwest reduced depreciation by assuming its engines will be worth more, citing third-party valuations and market transactions. Depreciation spreads an asset’s cost, less its expected resale value, over its useful life. Raise the expected resale value and the expense falls, even if the years in service don’t change. They claimed a $48 million quarterly depreciation benefit from residual value estimates, versus $11 million a year earlier. The amount includes the effects of earlier estimate changes, rather than being entirely a new adjustment made this quarter. Southwest puts the net income benefit, after profit sharing and taxes, at $31 million. The $214 million of transaction gains was made up of $118 million from selling aircraft and leasing them back, and $96 million from retiring aircraft and engine sales. I’ve written about the accounting on the new Chase deal before. Southwest laid out that Chase pays for points, marketing and airline benefits. Payments allocated to points generally wait to become revenue until award travel occurs. Payments for airline benefits get recognized right away. Chase now assumes more of the money from Chase is for benefits than before, and less is for travel. They justified that, for instance, because they now charge for seating and cards come with seating benefits. The latest revenue table looks like this: Revenue category Q3 2026 Q3 2025 Non-loyalty passenger revenue $6.122 billion $4.896 billion Loyalty award travel $734 million $805 million Ancillary products sold separately, including associated Chase benefits $898 million $612 million Loyalty program in other revenue $563 million $557 million Ancillary revenue rose $286 million, or 46.7%. But Southwest doesn’t actually tell us how much of that is bags and seats, and the nearly flat loyalty line doesn’t tell us either because they don’t put all the Chase money in there. And Southwest amended the Chase agreement again in the third quarter, extending its term and adding the premium card and Icon Lounge access expected in 2027. The filing doesn’t disclose the new amendment’s payment, allocations or how it’s affecting this quarter’s revenue. More money from Chase can be great business and it might not even have come without lounges and the expected premium card, but what I’m interested in here is the gap (GAAP..) between where the money is coming from and what narrative the money is used to justify. After stripping out aircraft accounting benefits, but not Chase revenue because they don’t offer guidance on how much to pull out, here’s what we see – but since it still includes Chase growth we know their business model change results aren’t as good as this: Operating profit, $ millions Q3 2026 Q3 2025 Company-adjusted operating profit 452 42 Subtract aircraft and engine transaction gains (214) (13) Subtract residual-value depreciation benefit (48) (11) Remainder holding other costs fixed 190 18 Remainder as a share of revenue 2.26% 0.26% I think what this tells us is that Southwest hasn’t – yet – revolutionized its business. But why would we think they have? They’ve made their model more like American’s. They have lower costs, so they’re in a position to make some money when American doesn’t. But they’re the same while less than without seat back entertainment, first class, or long haul. They may be headed in the only direction that’s left for them, having maxed out the single cabin, simple fleet opportunities. Doing what everyone else does, though, produces an expectation of industry mean reversion rather than outperformance. Topics on this page