The Biggest Problem Facing Southwest Airlines After Holiday Meltdown Is.. Securities Fraud?

Matt Levine, who writes the best newsletter in finance “Money Stuff” for Bloomberg, frequently says “everything is securities fraud.”

What’s the SEC’s case against Sam Bankman-Fried? That he misled investors into thinking he wasn’t defrauding customers. And that was fraud on the investors!

Here’s how it works,

  • If you did a bad thing and misled investors about it, that’s securities fraud.
  • You don’t just have to have failed to tell investors. The game is, go find a statement a company made which may have downplayed the thing and then they’ve committed fraud.

Southwest Airlines did a bad thing. It cancelled flights affecting around two million passengers over the holidays. Southwest has talked about its IT issues for years, but never said ‘and we might wind up cancelling travel on two million people costing $825 million. Therefore investors were misled about the business’s prospects.

The SEC may have more power over airlines than Secretary Buttigieg. However the SEC has not (yet) gone after Southwest. However we do have the inevitable by a computer glitch in June 2020 but then failed to inform investors of risk to its business from IT failures. Southwest had IT issues with rebooking in summer 2020 as well, yet subsequently-filed SEC disclosures, outlining the usual litany of risks to consider, didn’t include their IT.

  • The airline disclosed its ‘point-to-point route network’ in filings, but only in positive terms rather than emphasizing its downsides. (The holiday meltdown was not due to the point-to-point nature of its route system, misinformed commentary on the subject notwithstanding.)

  • Gary Kelly said on TV that they had issues with their systems, and needed to improve them, but didn’t explain the logic of total failure. (But here he’s talking about a specific operational incident, not potential long tail risks.)

    I think in this particular case, in this particular case, it would help for us to have better tools to recover. So, there, there aren’t perfect optimization tools to re-flow airplanes when we have a setback like we did on Friday. And then, secondly, there’s technology that’s required to reschedule our flight crews, so we have flight attendants, we have pilots, we have airplanes and once it gets behind, it’s just difficult to get that back together so I think the opportunity is to improve on that process. It’s called repair. It’s complicated, but we definitely have some good opportunities there, you know, for the future.

    Southwest Airlines knew there were technology risks, but they didn’t tell investors how bad things could go sideways. So, securities fraud!

    Except, I don’t know, it seems like Southwest did disclose these risks in their 2020 annual filing, with similar language in other annual disclosures?

    The Company is increasingly dependent on the use of complex technology and systems to run its ongoing operations and support its strategic objectives. These technologies and systems include, among others, the Company’s website and reservation system, flight dispatch and tracking systems, flight simulators, checkin kiosks, maintenance record keeping management systems, telecommunications systems, flight planning and scheduling systems, crew scheduling systems, and financial planning, management, and accounting systems. The performance, reliability, and security of the Company’s technology infrastructure and supporting systems are critical to the Company’s operations and initiatives.

    Implementation and integration of complex systems and technology present significant challenges in terms of costs, human resources, and development of effective internal controls. Implementation and integration require a balancing between the introduction of new capabilities and the managing of existing systems, and present the risk of operational or security inadequacy or interruption, which could materially affect the Company’s ability to effectively operate its business and/or could negatively impact the Company’s results of operations.

    …If any of the Company’s significant technologies or automated systems were to cease functioning, or if its third party vendor service providers were to fail to adequately and timely provide technical support, system maintenance, or software upgrades for any of the Company’s existing systems, the Company could experience service interruptions, delays, and loss of critical data, which could harm its operations, and result in financial losses and reputational damage.

    …[T]he Company’s operations could be adversely affected, or the Company could face imposition of regulatory penalties, if it were unable to timely or effectively modify its systems as necessary or appropriately balance the introduction of new capabilities with the management of existing systems. The Company has experienced system interruptions and delays that have made its websites and operational systems unavailable or slow to respond, which has prevented the Company from efficiently processing Customer transactions or providing services. Any future system interruptions or delays could reduce the Company’s operating revenues and the attractiveness of its services, as well as increase the Company’s costs.

    If the company believed their technology issues represented a serious threat to the business and failed to disclose it, then they engaged in fraudulently misleading investors.

    But if they did not, in fact, believe there was any material likelihood that a meltdown like the one over the holidays could have happened then it was an error in judgment rather than fraud. And in fact if they thought it was going to happen they would have taken greater action to prevent it. The very fact that Southwest has been in a years-long process of upgrading IT slowly rather than more heavily focused and aggressive (which entails risks, too!) highly suggests they didn’t foresee the risk, which means they didn’t hide the risk.

    If lawyers get to discovery, they’ll probably find embarrassing emails where employees told management that things could get really, really bad. And that’s what the lawyers here are hoping for. Because then they may be able to extract a settlement. Which, of course, would take cash from the company and would be bad for shareholders.

  • About Gary Leff

    Gary Leff is one of the foremost experts in the field of miles, points, and frequent business travel - a topic he has covered since 2002. Co-founder of frequent flyer community, emcee of the Freddie Awards, and named one of the "World's Top Travel Experts" by Conde' Nast Traveler (2010-Present) Gary has been a guest on most major news media, profiled in several top print publications, and published broadly on the topic of consumer loyalty. More About Gary »

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    1. Matt Levine is a god-tier blogger. And yes, everything is securities fraud. Everything is also wire fraud.

    2. This would be a pretty tenuous case. And, if the SEC pursued it, Southwest probably has deep enough lobbying pockets to get bills before Congress to reduce the powers and/or budget of the SEC if they tried a stunt like that. So, seems pretty unlikely to happen.

    3. I spent well over $8000 on a ski vacation to Park city Utah. Because Southwest had baggage issues in Denver my family was unable to ski or have warm clothes because we had no luggage and my compensation was a $100 travel voucher on Southwest airlines, and this was their fair offer? I just want fair compensation and mot insults.

    4. “And in fact if they thought it was going to happen they would have taken greater action to prevent it.”

      Isn’t that a pretty big leap? It assumes a lot about competence in technical and financial decisions.

    5. Just got my refund for the Denver to Hayden, Colorado leg of the roundtrip from Kansas City to Hayden. $9 was the refund amount for this $675.96, 4 leg roundtrip ticket. WTF, where did this number come from? I was mad, now furious, at Southwest for this total screwup.

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