Southwest: Darwin Calling, Again
WSJ for December 19 has an interview with Gary Kelly, CEO of Southwest Airlines, which recaps the points made in an earlier interview (see "Southwest, Meet Darwin" entry below). What is it that Kelly is missing?
Well, let's be fair. All his first-derivative indicators are positive. Southwest is the market leader, and they do have the most privileged fuel prices, and they are expanding into Fort Worth and Denver, and they do have a great company culture. What more could we be asking of him?
For starters, a recognition that his second-derivative indicators have gone negative. That is, he is no longer gaining, but rather losing, competitive advantage relative to the new crop of competitors he has attracted. To be sure, he would argue that his competiion is benefitting from the law of small numbers, and that is true. It is not that they are a better bet than Southwest, it is that Southwest, competing with them, is not as good a bet as Southwest competing with traditional airlines. Kelly's stop-gap defense here is to assert that Southwest has better people. Bad defense for a volume operations business model, where transaction efficiency, not personal attention, is the only differentiator sustainable at scale.
What we are witnessing is the playing out of Christensen's Innovator's Dilemma thesis from the attacker's point of view. Clay's key point is that the low-cost , no-frills disrupter model is wickedly effective competing against entrenched high-cost incumbents, but when the last of them is ejected from the market, what ensues is profitless cutthroat competition, and the smart players move upstream to find another incumbency to attack.
In Kelly's defense there is still a lot of market development to play out before we reach that end, and Southwest still holds the best hand at the table. In the investors' defense, however, you hold stock in the expectation of stronger future performance compared to past, and Kelly, despite significant encouragement from the WSJ, has yet to offer a compelling story for that thesis.