Southwest Airlines’ (LUV) second-quarter 2025 earnings point to continued headwinds, triggering several downgrades from Wall Street analysts. The company reported sharp year-over-year declines in both net income and earnings per share alongside a drop in operating revenue. The market didn’t like it one bit, punishing the stock over the past five days. Moreover, technical indications show there is further downside ahead, according to the most recent price data.
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A deeper look suggests that weaker domestic leisure travel demand, coupled with operational missteps, weighed on results. While some of these issues appear temporary and potentially fixable, they introduce near-term uncertainty—leading me to adopt a cautiously Neutral stance on the stock.
Revenue and Profit Undershoot Hurt Southwest
Southwest reported a 1.5% year-over-year decline in operating revenue, bringing the total to $7.2 billion for Q2. More notably, GAAP net income dropped 42% to $213 million, down from $367 million in the same quarter of 2024. Given that airlines typically operate on razor-thin margins, such a sharp decline in net income is particularly concerning. TipRanks data indicates that a key factor behind the revenue drop appears to be a 3.5% year-over-year decline in revenue passenger miles (RPMs), reflecting lower traffic and softer travel demand.
Operational Metrics Underperform
Taking a look under the hood, Southwest’s key operational metrics fared no better. Revenue per available seat mile (RASM) decreased 3.1% year-over-year in Q2 2025. This was despite a 1.6% year-over-year increase in capacity, as measured in available seat miles (ASMs). This tells us that the increase in available seats did not translate into proportional revenue growth, meaning that Southwest was less efficient in its utilization of capacity.
On the expense front, Cost per Available Seat Mile, which excludes fuel and oil expense, special items, and profit sharing (CASM-X), increased 4.7% year-over-year. Typically, increased capacity will distribute fixed costs over a larger operational base, reducing unit costs. This was not the case for Southwest.
Cost-Push Inflation is Yet Another Obstacle
For starters, like everyone else, Southwest is dealing with inflationary pressures, particularly those stemming from labor contracts ratified in 2024. Salaries and wages were up 8.8% year-over-year. The combination of rising non-fuel unit costs and the future recognition of fuel expenses from terminated hedging contracts could pressure Southwest’s profitability for several quarters to come.
Some of the blame falls on Southwest. For example, its recent introduction of the basic economy product caused a “temporary reduction in the conversion rate of basic economy on its website.” This resulted in a “nearly one-half point” impact on RASM. Recall that Southwest was known for its simple, all-inclusive fare structure, where everyone got two free checked bags and the ability to choose any available seat. The introduction of “basic economy” did away with this, aligning with other major airlines that offer a tiered fare system.
New Initiatives Boost Investor Hopes
The short-term dip in conversion rates isn’t entirely unexpected. Many customers were unfamiliar with the newly introduced bag policy, and Southwest’s marketing efforts may not have clearly communicated its value. The company is now working to improve messaging, which should help normalize conversion over time.
Alongside the discontinuation of its long-standing “Bags Fly Free” policy, Southwest projects these initiatives could generate an additional $1.8 billion in EBIT for full-year 2025. However, these changes also carry the risk of customer pushback and potential damage to the brand’s identity.
Given that, it’s reasonable to expect a delayed payoff. In the near term, Southwest’s outlook remains underwhelming: for Q3, the company is guiding for flat revenue per available seat mile (RASM)—ranging from -2% to +2% year-over-year—and cost per available seat mile excluding fuel (CASM-X) is expected to rise between 3.5% and 5.5%.
LUV Compared With Its Peers
Since Southwest wishes to become more like its peers, let’s compare its valuation. Southwest’s P/E ratio of 49.9 trades at a 101% premium to its peers in the Industrials sector. This implies that investors anticipate a significant rebound in earnings. Should this not happen within a reasonable amount of time, Southwest’s stock has plenty of room to fall.
Is LUV a Good Buy Now?
On Wall Street, LUV earns a consensus Hold rating with three Buy, six Hold, and four Sell ratings in the past three months. LUV’s average stock price target of $31.25 implies a downside potential of 2.4% over the next twelve months.
Earlier this week, Citi analyst Stephen Trent handed LUV a Sell rating with a price target of $22. The analyst expressed caution, noting “The airline’s current initiatives, such as assigned seating and checked bag fees, are expected to increase unit revenue, but the potential for a significant revenue boost in the fourth quarter of 2025 appears unlikely.”
This skepticism is reinforced by weaker-than-expected second-quarter results and a soft third-quarter outlook, which suggest that the risk/reward balance for Southwest’s shares is not favorable at present,” the analyst said in a research note.
Southwest’s Transformation Faces Turbulence
Southwest is experiencing some bumps in its pursuit of long-term strategic transformation. A perfect storm of a challenging operating environment, inflationary pressures, and softer domestic leisure travel has squeezed profitability. The crux of the problem is that transforming a long-established brand during trying times is no easy task.
Consequently, I’d like to see clear evidence that the benefits of the pivot outweigh the short-term operational and reputational costs before jumping aboard Southwest’s stock.