Performance

2019 Financial Results

We had a significant reduction in planned flights during 2019 due to the unexpected MAX groundings3131) National Archives. (2019, March 18). Operators of Boeing Company Model 737-8 and Boeing Company Model 737-9 Airplanes: Emergency Order of Prohibition (A Rule by the Federal Aviation Administration on March 18, 2019. Federal Register: The Daily Journal of the United States Government. Washington, D.C. https://www.federalregister.gov/documents/2019/03/18/2019-05067/operators-of-boeing-company-model-737-8-and-boeing-company-model-737-9-airplanes-emergency-order-of. The Federal Aviation Administration issued an emergency order on March 13, 2019, for all U.S. airlines to ground all Boeing 737 MAX aircraft. beginning in March 2019, resulting in a year-over-year available seat mile (ASMs, or capacity)3232) An available seat mile (ASM) is one seat (empty or full) flown one mile. Also referred to as “capacity,” which is a measure of the space available to carry Passengers in a given period. decline of 1.6 percent, compared with plans to grow nearly five percent. Despite the challenges from the MAX groundings, we had a remarkable 2019 financial performance, delivering our 47th consecutive year of profitability, as well as a record $667 million profitSharing benefit for our Employees.

The economy was stable and travel demand was solid in 2019. In part due to our revenue management enhancements implemented in 2018, we generated record operating revenues of $22.4 billion in 2019, along with record earnings per diluted share, excluding special items,3333) The Company's Consolidated Financial Statements are prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). These GAAP financial statements may include (i) unrealized noncash adjustments and reclassifications, which can be significant, as a result of accounting requirements and elections made under accounting pronouncements relating to derivative instruments and hedging and (ii) other charges and benefits the Company believes are unusual and/or infrequent in nature and thus may make comparisons to its prior or future performance difficult.

As a result, the Company also provides financial information in this filing that was not prepared in accordance with GAAP and should not be considered as an alternative to the information prepared in accordance with GAAP. The Company provides supplemental non-GAAP financial information (also referred to as "excluding special items"), including results that it refers to as "economic," which the Company's management utilizes to evaluate its ongoing financial performance and the Company believes provides additional insight to investors as supplemental information to its GAAP results. The non-GAAP measures provided that relate to the Company’s performance on an economic fuel cost basis include fuel and oil expense, non-GAAP; total operating expenses, non-GAAP; operating income, non-GAAP; net income, non-GAAP; met income per share, diluted, non-GAAP; operating expenses per ASM, non-GAAP, excluding fuel and oil expense and profitsharing; adjusted operating income, non-GAAP; and Income tax rate, non-GAAP. The Company's economic fuel and oil expense results differ from GAAP results in that they only include the actual cash settlements from fuel hedge contracts - all reflected within fuel and oil expense in the period of settlement. Thus, fuel and oil expense on an economic basis has historically been utilized by the Company, as well as some of the other airlines that utilize fuel hedging, as it reflects the Company’s actual net cash outlays for fuel during the applicable period, inclusive of settled fuel derivative contracts. Any net premium costs paid related to option contracts that are designated as hedges are reflected as a component of fuel and oil expense, for both GAAP and non-GAAP (including economic) purposes in the period of contract settlement. The Company believes these economic results provide further insight on the impact of the Company's fuel hedges on its operating performance and liquidity since they exclude the unrealized, noncash adjustments and reclassifications that are recorded in GAAP results in accordance with accounting guidance relating to derivative instruments, and they reflect all cash settlements related to fuel derivative contracts within fuel and oil expense. This enables the Company's management, as well as investors and analysts, to consistently assess the Company's operating performance on a year-over-year or quarter-over-quarter basis after considering all efforts in place to manage fuel expense. However, because these measures are not determined in accordance with GAAP, such measures are susceptible to varying calculations, and not all companies calculate the measures in the same manner. As a result, the aforementioned measures, as presented, may not be directly comparable to similarly titled measures presented by other companies.

Further information on (i) the Company's fuel hedging program, (ii) the requirements of accounting for derivative instruments, and (iii) the causes of hedge ineffectiveness and/or mark-to-market gains or losses from derivative instruments is included in Note 2 and Note 10 to the Consolidated Financial Statements on Form 10-K for the fiscal year ended December 31, 2019, which also discusses the Company’s Jan. 1, 2018 adoption of the New Hedging Standard.

The Company’s GAAP results in the applicable periods may include other charges or benefits that are also deemed "special items," that the Company believes make its results difficult to compare to prior periods, anticipated future periods, or industry trends. Financial measures identified as non-GAAP (or as excluding special items) have been adjusted to exclude special items. For the periods presented, in addition to the items discussed above, special items include:

    •  A gain recognized in first quarter 2018, associated with the sale of 39 Boeing 737-300 ("Classic") aircraft and a number of spare engines to a third party. These aircraft were previously retired as part of the Company's exit of its Classic fleet. The gain was not anticipated, and the Company associates it with the grounding charge recorded in third quarter 2017;

    •  Lease termination costs recorded as a result of the Company acquiring 13 of its Classic aircraft off operating leases as part of the Company’s strategic effort to remove its Classic aircraft from operations on or before September 29, 2017, in the most economically advantageous manner possible. The Company had not budgeted for these early lease termination costs, as they were subject to negotiations being concluded with the third party lessors. The Company recorded the fair value of the aircraft acquired off operating leases, as well as any associated remaining obligations to the balance sheet as debt; and

    •  An Aircraft grounding charge recorded in third quarter 2017, as a result of the Company grounding its remaining Classic aircraft on September 29, 2017. The loss was a result of the remaining net lease payments due and certain lease return requirements that could have to be performed on these leased aircraft prior to their return to the lessors as of the cease-use date. The Company had not budgeted for the lease return requirements, as they were subject to negotiation with third party lessors.

Because management believes special items can distort the trends associated with the Company’s ongoing performance as an airline, the Company believes that evaluation of its financial performance can be enhanced by a supplemental presentation of results that exclude the impact of special items in order to enhance consistency and comparativeness with results in prior periods that do not include such items and as a basis for evaluating operating results in future periods. The following measures are often provided, excluding special items, and utilized by the Company’s management, analysts, and investors to enhance comparability of year-over-year results, as well as to industry trends: total operating expenses, non-GAAP; operating income, non-GAAP; net income, non-GAAP; net income per share, diluted, non-GAAP; operating expenses per ASM, non-GAAP, excluding fuel and oil expense and profitsharing; adjusted operating income, non-GAAP; and income tax rate, non-GAAP.

The Company has also provided free cash flow, which is a non-GAAP financial measure. The Company believes free cash flow is a meaningful measure because it demonstrates the Company's ability to service its debt, pay dividends, and make investments to enhance Shareholder value. Although free cash flow is commonly used as a measure of liquidity, definitions of free cash flow may differ; therefore, the Company is providing an explanation of its calculation for free cash flow. For the year ended December 31, 2019, the Company generated $3.4 billion in free cash flow, calculated as operating cash flows of $4.0 billion less capital expenditures of $1.0 billion plus supplier proceeds of $400 million.

The Company has also provided its calculation of return on invested capital, which is a measure of financial performance used by management to evaluate its investment returns on capital. Return on invested capital is not a substitute for financial results as reported in accordance with GAAP, and should not be utilized in place of such GAAP results. Although return on invested capital is not a measure defined by GAAP, it is calculated by the Company, in part, using non-GAAP financial measures. Those non-GAAP financial measures are utilized for the same reasons as those noted above for net income, non-GAAP and operating income, non-GAAP. The comparable GAAP measures include charges or benefits that are deemed "special items" that the Company believes make its results difficult to compare to prior periods, anticipated future periods, or industry trends, and the Company’s profitability targets and estimates, both internally and externally, are based on non-GAAP results since in the vast majority of cases the "special items" cannot be reliably predicted or estimated. The Company believes non-GAAP return on invested capital is a meaningful measure because it quantifies the Company's effectiveness in generating returns relative to the capital it has invested in its business. Although return on invested capital is commonly used as a measure of capital efficiency, definitions of return on invested capital differ; therefore, the Company is providing an explanation of its calculation for non-GAAP return on invested capital in the accompanying reconciliation, in order to allow investors to compare and contrast its calculation to the calculations provided by other companies.

Information regarding special items and reconciliation of reported amounts to amounts excluding special items are included in the accompanying reconciliation tables in the Performance section.
 of $4.27. Our 2019 unit revenues (operating revenues divided by ASMs) were a record 14.26 cents, and showed strong year-over-year growth, up 3.7 percent, which included an approximate one-point year-over-year benefit as a result of lower capacity due to the MAX groundings.

While the revenue environment was strong in 2019, the lower capacity due to the MAX groundings resulted in a significant negative impact to unit costs. Our 2019 unit costs (operating costs divided by ASMs, excluding fuel and oil expense, special items, and profitsharing expense) increased to 9.19 cents, a 7.7 percent increase, year-over-year, which included an approximate five-point year-over-year negative impact as a result of lower capacity due to the MAX groundings. This is not surprising given our fixed cost base, and our overstaffed workforce relative to the reduced flight activity. We consumed fewer gallons of fuel due to lower flight activity, and realized the benefit of lower fuel costs per gallon in 2019, down 5.0 percent, year-over-year; however, our fuel efficiency (ASMs per gallon) declined 0.8 percent year-over-year due to the absence of the MAX, our most fuel-efficient aircraft, from our flight schedules.

Our liquidity and cash flows remained very strong. As of December 31, 2019, we had $4.1 billion in unrestricted core cash and short-term investments, and a fully available $1.0 billion line of credit. We generated $4.0 billion in cash flow from operations in 2019, and as a result of suspended delivery payments to The Boeing Company (Boeing) due to the MAX groundings, free cash flow3434) The Company's Consolidated Financial Statements are prepared in accordance with accounting principles generally accepted in the United States ("GAAP"). These GAAP financial statements may include (i) unrealized noncash adjustments and reclassifications, which can be significant, as a result of accounting requirements and elections made under accounting pronouncements relating to derivative instruments and hedging and (ii) other charges and benefits the Company believes are unusual and/or infrequent in nature and thus may make comparisons to its prior or future performance difficult.

As a result, the Company also provides financial information in this filing that was not prepared in accordance with GAAP and should not be considered as an alternative to the information prepared in accordance with GAAP. The Company provides supplemental non-GAAP financial information (also referred to as "excluding special items"), including results that it refers to as "economic," which the Company's management utilizes to evaluate its ongoing financial performance and the Company believes provides additional insight to investors as supplemental information to its GAAP results. The non-GAAP measures provided that relate to the Company’s performance on an economic fuel cost basis include fuel and oil expense, non-GAAP; total operating expenses, non-GAAP; operating income, non-GAAP; net income, non-GAAP; met income per share, diluted, non-GAAP; operating expenses per ASM, non-GAAP, excluding fuel and oil expense and profitsharing; adjusted operating income, non-GAAP; and Income tax rate, non-GAAP. The Company's economic fuel and oil expense results differ from GAAP results in that they only include the actual cash settlements from fuel hedge contracts - all reflected within fuel and oil expense in the period of settlement. Thus, fuel and oil expense on an economic basis has historically been utilized by the Company, as well as some of the other airlines that utilize fuel hedging, as it reflects the Company’s actual net cash outlays for fuel during the applicable period, inclusive of settled fuel derivative contracts. Any net premium costs paid related to option contracts that are designated as hedges are reflected as a component of fuel and oil expense, for both GAAP and non-GAAP (including economic) purposes in the period of contract settlement. The Company believes these economic results provide further insight on the impact of the Company's fuel hedges on its operating performance and liquidity since they exclude the unrealized, noncash adjustments and reclassifications that are recorded in GAAP results in accordance with accounting guidance relating to derivative instruments, and they reflect all cash settlements related to fuel derivative contracts within fuel and oil expense. This enables the Company's management, as well as investors and analysts, to consistently assess the Company's operating performance on a year-over-year or quarter-over-quarter basis after considering all efforts in place to manage fuel expense. However, because these measures are not determined in accordance with GAAP, such measures are susceptible to varying calculations, and not all companies calculate the measures in the same manner. As a result, the aforementioned measures, as presented, may not be directly comparable to similarly titled measures presented by other companies.

Further information on (i) the Company's fuel hedging program, (ii) the requirements of accounting for derivative instruments, and (iii) the causes of hedge ineffectiveness and/or mark-to-market gains or losses from derivative instruments is included in Note 2 and Note 10 to the Consolidated Financial Statements on Form 10-K for the fiscal year ended December 31, 2019, which also discusses the Company’s Jan. 1, 2018 adoption of the New Hedging Standard.

The Company’s GAAP results in the applicable periods may include other charges or benefits that are also deemed "special items," that the Company believes make its results difficult to compare to prior periods, anticipated future periods, or industry trends. Financial measures identified as non-GAAP (or as excluding special items) have been adjusted to exclude special items. For the periods presented, in addition to the items discussed above, special items include:

    •  A gain recognized in first quarter 2018, associated with the sale of 39 Boeing 737-300 ("Classic") aircraft and a number of spare engines to a third party. These aircraft were previously retired as part of the Company's exit of its Classic fleet. The gain was not anticipated, and the Company associates it with the grounding charge recorded in third quarter 2017;

    •  Lease termination costs recorded as a result of the Company acquiring 13 of its Classic aircraft off operating leases as part of the Company’s strategic effort to remove its Classic aircraft from operations on or before September 29, 2017, in the most economically advantageous manner possible. The Company had not budgeted for these early lease termination costs, as they were subject to negotiations being concluded with the third party lessors. The Company recorded the fair value of the aircraft acquired off operating leases, as well as any associated remaining obligations to the balance sheet as debt; and

    •  An Aircraft grounding charge recorded in third quarter 2017, as a result of the Company grounding its remaining Classic aircraft on September 29, 2017. The loss was a result of the remaining net lease payments due and certain lease return requirements that could have to be performed on these leased aircraft prior to their return to the lessors as of the cease-use date. The Company had not budgeted for the lease return requirements, as they were subject to negotiation with third party lessors.

Because management believes special items can distort the trends associated with the Company’s ongoing performance as an airline, the Company believes that evaluation of its financial performance can be enhanced by a supplemental presentation of results that exclude the impact of special items in order to enhance consistency and comparativeness with results in prior periods that do not include such items and as a basis for evaluating operating results in future periods. The following measures are often provided, excluding special items, and utilized by the Company’s management, analysts, and investors to enhance comparability of year-over-year results, as well as to industry trends: total operating expenses, non-GAAP; operating income, non-GAAP; net income, non-GAAP; net income per share, diluted, non-GAAP; operating expenses per ASM, non-GAAP, excluding fuel and oil expense and profitsharing; adjusted operating income, non-GAAP; and income tax rate, non-GAAP.

The Company has also provided free cash flow, which is a non-GAAP financial measure. The Company believes free cash flow is a meaningful measure because it demonstrates the Company's ability to service its debt, pay dividends, and make investments to enhance Shareholder value. Although free cash flow is commonly used as a measure of liquidity, definitions of free cash flow may differ; therefore, the Company is providing an explanation of its calculation for free cash flow. For the year ended December 31, 2019, the Company generated $3.4 billion in free cash flow, calculated as operating cash flows of $4.0 billion less capital expenditures of $1.0 billion plus supplier proceeds of $400 million.

The Company has also provided its calculation of return on invested capital, which is a measure of financial performance used by management to evaluate its investment returns on capital. Return on invested capital is not a substitute for financial results as reported in accordance with GAAP, and should not be utilized in place of such GAAP results. Although return on invested capital is not a measure defined by GAAP, it is calculated by the Company, in part, using non-GAAP financial measures. Those non-GAAP financial measures are utilized for the same reasons as those noted above for net income, non-GAAP and operating income, non-GAAP. The comparable GAAP measures include charges or benefits that are deemed "special items" that the Company believes make its results difficult to compare to prior periods, anticipated future periods, or industry trends, and the Company’s profitability targets and estimates, both internally and externally, are based on non-GAAP results since in the vast majority of cases the "special items" cannot be reliably predicted or estimated. The Company believes non-GAAP return on invested capital is a meaningful measure because it quantifies the Company's effectiveness in generating returns relative to the capital it has invested in its business. Although return on invested capital is commonly used as a measure of capital efficiency, definitions of return on invested capital differ; therefore, the Company is providing an explanation of its calculation for non-GAAP return on invested capital in the accompanying reconciliation, in order to allow investors to compare and contrast its calculation to the calculations provided by other companies.

Information regarding special items and reconciliation of reported amounts to amounts excluding special items are included in the accompanying reconciliation tables in the Performance section.
 was a record $3.4 billion. We ended the year with debt (including the net present value of aircraft rentals related to operating leases) to average invested capital, or leverage, of 24 percent, an all-time low, and the strongest balance sheet in our history, with an investment-grade rating by all three credit agencies.

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