Item 8. Financial Statements and Supplementary Data

Southwest Airlines Co.

Consolidated Balance Sheet

(in millions, except share data)

	December 31, 2018				December 31, 2017
					As Recast
ASSETS
Current assets:
Cash and cash equivalents	$	1,854			$	1,495
Short-term investments	1,835				1,778
Accounts and other receivables	568				662
Inventories of parts and supplies, at cost	461				420
Prepaid expenses and other current assets	310				460
Total current assets	5,028				4,815
Property and equipment, at cost:
Flight equipment	21,753				21,368
Ground property and equipment	4,960				4,399
Deposits on flight equipment purchase contracts	775				919
Assets constructed for others	1,768				1,543
	29,256				28,229
Less allowance for depreciation and amortization	9,731				9,690
	19,525				18,539
Goodwill	970				970
Other assets	720				786
	$	26,243			$	25,110
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable	$	1,416			$	1,320
Accrued liabilities	1,749				1,700
Air traffic liability	4,134				3,495
Current maturities of long-term debt	606				348
Total current liabilities	7,905				6,863
Long-term debt less current maturities	2,771				3,320
Air traffic liability - noncurrent	936				1,070
Deferred income taxes	2,427				2,119
Construction obligation	1,701				1,390
Other noncurrent liabilities	650				707
Stockholders' equity:
Common stock, $1.00 par value: 2,000,000,000 shares authorized; 807,611,634 shares issued in 2018 and 2017	808				808
Capital in excess of par value	1,510				1,451
Retained earnings	15,967				13,832
Accumulated other comprehensive income	20				12
Treasury stock, at cost: 255,008,275 and 219,060,856 shares in 2018 and 2017 respectively	(8,452		)		(6,462		)
Total stockholders' equity	9,853				9,641
	$	26,243			$	25,110

See accompanying notes.

Southwest Airlines Co.

Consolidated Statement of Income

(in millions, except per share amounts)

	Year ended December 31,
	2018				2017				2016
					As Recast				As Recast
OPERATING REVENUES:
Passenger	$	20,455			$	19,763			$	19,068
Freight	175				173				171
Other	1,335				1,210				1,050
Total operating revenues	21,965				21,146				20,289
OPERATING EXPENSES:
Salaries, wages, and benefits	7,649				7,305				6,786
Fuel and oil	4,616				4,076				3,801
Maintenance materials and repairs	1,107				1,001				1,045
Landing fees and airport rentals	1,334				1,292				1,211
Depreciation and amortization	1,201				1,218				1,221
Other operating expenses	2,852				2,847				2,703
Total operating expenses	18,759				17,739				16,767
OPERATING INCOME	3,206				3,407				3,522
OTHER EXPENSES (INCOME):
Interest expense	131				114				122
Capitalized interest	(38		)		(49		)		(47		)
Interest income	(69		)		(35		)		(24		)
Other (gains) losses, net	18				112				21
Total other expenses (income)	42				142				72
INCOME BEFORE INCOME TAXES	3,164				3,265				3,450
PROVISION (BENEFIT) FOR INCOME TAXES	699				(92		)		1,267
NET INCOME	$	2,465			$	3,357			$	2,183

See accompanying notes.

Southwest Airlines Co.

Consolidated Statement of Comprehensive Income

(in millions)

		Year ended December 31,
		2018				2017				2016
						As Recast				As Recast
NET INCOME		$	2,465			$	3,357			$	2,183
Unrealized gain (loss) on fuel derivative instruments, net of deferred taxes of ($7), $185, and $432		(26		)		317				735
Unrealized gain on interest rate derivative instruments, net of deferred taxes of $1, $4, and $5		6				7				7
Unrealized gain (loss) on defined benefit plan items, net of deferred taxes of $15, $2, and ($13)		52				3				(23		)
Other, net of deferred taxes of ($2), $5, and $5		(6		)		8				9
OTHER COMPREHENSIVE INCOME		$	26			$	335			$	728
COMPREHENSIVE INCOME		$	2,491			$	3,692			$	2,911

See accompanying notes.

Southwest Airlines Co.

Consolidated Statement of Stockholders' Equity

(in millions, except per share amounts)

		Year ended December 31, 2018, 2017, and 2016
		Common Stock				Capital in excess of par value				Retained earnings				Accumulated other comprehensive income (loss)				Treasury stock				Total
Balance at December 31, 2015 (as reported)		$	808			$	1,374			$	9,409			$	(1,051	)		$	(3,182	)		$	7,358
Cumulative effect of new accounting standards (see Note 2)		—				—				(596		)		—				—				(596		)
Balance at December 31, 2015 (as recast)		$	808			$	1,374			$	8,813			$	(1,051	)		$	(3,182	)		$	6,762
Repurchase of common stock		—				—				—				—				(1,750		)		(1,750		)
Issuance of common and treasury stock pursuant to Employee stock plans		—				8				—				—				12				20
Conversion of 5.25% senior notes to common stock		—				(5		)		—				—				48				43
Share-based compensation		—				33				—				—				—				33
Cash dividends, $.3750 per share		—				—				(235		)		—				—				(235		)
Comprehensive income		—				—				2,183				728				—				2,911
Balance at December 31, 2016 as recast		$	808			$	1,410			$	10,761			$	(323	)		$	(4,872	)		$	7,784
Repurchase of common stock		—				—				—				—				(1,600		)		(1,600		)
Issuance of common and treasury stock pursuant to Employee stock plans		—				4				—				—				10				14
Share-based compensation		—				37				—				—				—				37
Cash dividends, $.4750 per share		—				—				(286		)		—				—				(286		)
Comprehensive income		—				—				3,357				335				—				3,692
Balance at December 31, 2017 as recast		$	808			$	1,451			$	13,832			$	12			$	(6,462	)		$	9,641
Cumulative effect of new accounting standards (see Note 2)		—				—				18				(18		)		—				—
Repurchase of common stock		—				—				—				—				(2,000		)		(2,000		)
Issuance of common and treasury stock pursuant to Employee stock plans		—				13				—				—				10				23
Share-based compensation		—				46				—				—				—				46
Cash dividends, $.6050 per share		—				—				(348		)		—				—				(348		)
Comprehensive income		—				—				2,465				26				—				2,491
Balance at December 31, 2018		$	808			$	1,510			$	15,967			$	20			$	(8,452	)		$	9,853

See accompanying notes.

Southwest Airlines Co.

Consolidated Statement of Cash Flows

(in millions)

	Year ended December 31,
	2018				2017				2016
					As Recast				As Recast
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	2,465			$	3,357			$	2,183
Adjustments to reconcile net income to cash provided by (used in) operating activities:
Depreciation and amortization	1,201				1,218				1,221
Loss on asset impairment	—				—				21
Aircraft grounding charge	—				63				—
Unrealized/realized gains on fuel derivative instruments	(14		)		(50		)		(200		)
Deferred income taxes	301				(1,066		)		419
Changes in certain assets and liabilities:
Accounts and other receivables	117				(102		)		(50		)
Other assets	(227		)		(262		)		(119		)
Accounts payable and accrued liabilities	545				233				221
Air traffic liability	506				343				227
Cash collateral received from (provided to) derivative counterparties	(15		)		316				535
Other, net	14				(121		)		(165		)
Net cash provided by operating activities	4,893				3,929				4,293
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures	(1,922		)		(2,123		)		(2,038		)
Assets constructed for others	(54		)		(126		)		(109		)
Purchases of short-term investments	(2,409		)		(2,380		)		(2,388		)
Proceeds from sales of short-term and other investments	2,342				2,221				2,263
Other, net	5				—				—
Net cash used in investing activities	(2,038		)		(2,408		)		(2,272		)
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt	—				600				515
Proceeds from Employee stock plans	35				29				29
Reimbursement for assets constructed for others	170				126				107
Payments of long-term debt and capital lease obligations	(342		)		(592		)		(523		)
Payments of convertible debt	—				—				(68		)
Payments of cash dividends	(332		)		(274		)		(222		)
Repayment of construction obligation	(30		)		(10		)		(9		)
Repurchase of common stock	(2,000		)		(1,600		)		(1,750		)
Other, net	3				15				(3		)
Net cash used in financing activities	(2,496		)		(1,706		)		(1,924		)
NET CHANGE IN CASH AND CASH EQUIVALENTS	359				(185		)		97
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD	1,495				1,680				1,583
CASH AND CASH EQUIVALENTS AT END OF PERIOD	$	1,854			$	1,495			$	1,680
CASH PAYMENTS FOR:
Interest, net of amount capitalized	$	107			$	81			$	100
Income taxes	$	327			$	992			$	902
SUPPLEMENTAL DISCLOSURE OF NONCASH TRANSACTIONS:
Flight equipment acquired through the assumption of debt	$	—			$	—			$	20
Flight equipment under capital leases	$	32			$	233			$	307
Assets constructed for others	$	171			$	197			$	196

See accompanying notes.

Southwest Airlines Co.

Notes to Consolidated Financial Statements

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation

Southwest Airlines Co. (the "Company") operates Southwest Airlines, a major domestic airline. The Consolidated Financial Statements include the accounts of the Company and its wholly owned subsidiaries, which include AirTran Holdings, LLC, the successor to AirTran Holdings, Inc. ("AirTran Holdings"), the former parent company of AirTran Airways, Inc. ("AirTran Airways"). The accompanying Consolidated Financial Statements include the results of operations and cash flows for all periods presented and all significant inter-entity balances and transactions have been eliminated. The preparation of financial statements in conformity with generally accepted accounting principles in the United States ("GAAP") requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from these estimates.

Effective as of January 1, 2018, the Company adopted Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers (the "New Revenue Standard"), ASU No. 2017-07, Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost (the "New Retirement Standard"), and ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities (the "New Hedging Standard"). All amounts and disclosures set forth in this Form 10-K reflect the adoption of these ASUs. See Note 2 for further information.

The Company reclassified $198 million and $229 million from Aircraft rentals to Other operating expenses in the Consolidated Statement of Income for the years ended December 31, 2017 and 2016, respectively, to be comparative with the current period's presentation. Aircraft rentals expense included in Other operating expenses for the year ended December 31, 2018, was $161 million. This reclassification had no impact on Operating income, Net income, the Consolidated Balance Sheet, or the Consolidated Statement of Cash Flows.

Cash and Cash Equivalents

Cash in excess of that necessary for operating requirements is invested in short-term, highly liquid, income-producing investments. Investments with original maturities of three months or less when purchased are classified as cash and cash equivalents, which primarily consist of certificates of deposit, money market funds, and investment grade commercial paper issued by major corporations and financial institutions. Cash and cash equivalents are stated at cost, which approximates fair value.

As of December 31, 2018, no cash collateral deposits were provided by or held by the Company from its fuel hedge counterparties, and no cash collateral deposits were held by or provided by the Company to its interest rate hedge counterparties. As of December 31, 2017, $15 million in cash collateral deposits were held by the Company from its fuel hedge counterparties, and no cash collateral deposits were held by or provided by the Company to its interest rate hedge counterparties. Cash collateral amounts provided or held associated with fuel and interest rate derivative instruments are not restricted in any way and earn interest income at an agreed upon rate that approximates the rates earned on short-term securities issued by the U.S. Government. Depending on the fair value of the Company’s fuel and interest rate derivative instruments, the amounts of collateral deposits held or provided at any point in time can fluctuate significantly. See Note 10 for further information on these collateral deposits and fuel derivative instruments.

Short-term and Noncurrent Investments

Short-term investments consist of investments with original maturities of greater than three months but less than twelve months when purchased. These are primarily short-term securities issued by the U.S. Government and certificates of deposit issued by domestic banks. All of these investments are classified as available-for-sale securities and are stated at fair value, which approximates cost. For all short-term investments, at each reset period or upon reinvestment, the Company accounts for the transaction as Proceeds from sales of short-term investments for the security relinquished,

and Purchases of short-investments for the security purchased, in the accompanying Consolidated Statement of Cash Flows. Unrealized gains and losses, net of tax, if any, are recognized in Accumulated other comprehensive income (loss) ("AOCI") in the accompanying Consolidated Balance Sheet. Realized net gains and losses on specific investments, if any, are reflected in Interest income in the accompanying Consolidated Statement of Income. Both unrealized and realized gains and/or losses associated with investments were immaterial for all years presented.

Noncurrent investments consist of investments with maturities of greater than twelve months. Noncurrent investments are included as a component of Other assets in the Consolidated Balance Sheet.

Accounts and Other Receivables

Accounts and other receivables are carried at cost. They primarily consist of amounts due from credit card companies associated with sales of tickets for future travel, and amounts due from business partners in the Company’s loyalty program. The allowance for doubtful accounts was immaterial at December 31, 2018 and 2017. In addition, the provision for doubtful accounts and write-offs for 2018, 2017, and 2016 were each immaterial.

Inventories

Inventories primarily consist of aircraft fuel, flight equipment expendable parts, materials, and supplies. All of these items are carried at average cost, less an allowance for obsolescence. These items are generally charged to expense when issued for use. The reserve for obsolescence was $2 million and $45 million at December 31, 2018, and 2017, respectively. In addition, the Company’s provision for obsolescence and write-offs for 2018, 2017, and 2016 were each immaterial.

Property and Equipment

Property and equipment is stated at cost. Capital expenditures include payments made for aircraft, other flight equipment, purchase deposits related to future aircraft deliveries, airport and other facility construction projects, and ground and other property and equipment. Depreciation is provided by the straight-line method to estimated residual values over periods of approximately 25 years for flight equipment, 5 to 30 years for ground property and equipment, and 5 to 30 years, or the expected term of the Company's lease if shorter, for Assets constructed for others, once the asset is placed in service. Residual values estimated for aircraft are approximately 15 percent, for ground property and equipment generally range from 0 to 10 percent, and for Assets constructed for others range from 17 to 75 percent. Property under capital leases and related obligations are initially recorded at an amount equal to the present value of future minimum lease payments computed on the basis of the Company’s incremental borrowing rate or, when known, the interest rate implicit in the lease. Amortization of property under capital leases is on a straight-line basis over the lease term and is included in Depreciation and amortization expense. Leasehold improvements generally are amortized on a straight-line basis over the shorter of the estimated useful life of the improvement or the remaining term of the lease. Assets constructed for others consists of airport improvement projects in which the Company is considered the accounting owner of the facilities. See Note 4 for further information.

During first quarter 2016, the Company made the decision to further simplify its operations and accelerate the retirement of its less-efficient Boeing 737-300 ("Classic") fleet. In September 2017, the Company retired the remaining 61 Classic aircraft as part of this accelerated retirement schedule. This change in retirement dates was considered a change in estimate and was accounted for on a prospective basis as of the dates the decisions were finalized. Therefore, the Company recorded accelerated depreciation expense over the remainder of the useful lives for each Classic aircraft and related parts. See Note 7 for further information regarding the Company's aircraft fleet.

The impacts on expense and earnings from the accelerated depreciation were as follows:

(in millions, except per share amounts)	Year ended December 31, 2017			Year ended December 31, 2016
Depreciation and amortization expense	$	21		$	123
Net income *	$	(19	)	$	(66	)
Net income per basic share	$	(0.03	)	$	(0.11	)
Net income per diluted share	$	(0.03	)	$	(0.10	)

• net of profitsharing benefit and income taxes

The Company evaluates its long-lived assets used in operations for impairment when events and circumstances indicate that the undiscounted cash flows to be generated by that asset are less than the carrying amounts of the asset and may not be recoverable. Factors that would indicate potential impairment include, but are not limited to, significant decreases in the market value of the long-lived asset(s), a significant change in the long-lived asset’s physical condition, and operating or cash flow losses associated with the use of the long-lived asset. If an asset is deemed to be impaired, an impairment loss is recorded for the excess of the asset book value in relation to its estimated fair value.

Aircraft and Engine Maintenance

The cost of scheduled inspections and repairs and routine maintenance costs for all aircraft and engines are charged to Maintenance materials and repairs expense within the accompanying Consolidated Statement of Income as incurred. The Company has maintenance agreements related to certain of its aircraft engines with external service providers, including a "power-by-the-hour" agreement associated with its Boeing 737-700 fleet. Under these agreements, which the Company has determined effectively transfer the risk and create an obligation associated with the maintenance on such engines to the counterparty, expense is recorded commensurate with each hour flown on an engine. In situations where the payments to the counterparty do not sufficiently match the level of services received during the period, expense is recorded on a straight-line basis over the term of the agreement based on the Company's best estimate of expected future aircraft utilization. For its engine maintenance contracts that do not transfer risk to the service provider, the Company records expense on a time and materials basis when an engine repair event takes place. Modifications that significantly enhance the operating performance or extend the useful lives of aircraft or engines are capitalized and amortized over the remaining life of the asset.

Goodwill and Intangible Assets

The Company applies a fair value based impairment test to the carrying value of goodwill and indefinite-lived intangible assets annually on October 1st, or more frequently if certain events or circumstances indicate that an impairment loss may have been incurred. The Company assesses the value of goodwill and indefinite-lived assets under either a qualitative or quantitative approach. Under a qualitative approach, the Company considers various market factors, including applicable key assumptions listed below. These factors are analyzed to determine if events and circumstances could reasonably have affected the fair value of goodwill and indefinite-lived intangible assets. If the Company determines that it is more likely than not that an indefinite-lived intangible asset is impaired, the quantitative approach is used to assess the asset’s implied fair value and the amount of the impairment. Under a quantitative approach, the implied fair value of the Company's identifiable assets and liabilities is calculated based on key assumptions. If the Company assets' carrying value exceeds the fair value calculated using the quantitative approach, an impairment charge is recorded for the difference in fair value and carrying value. During 2016, the Company recorded a $21 million impairment charge associated with leased slots at Newark Liberty International Airport as a result of the FAA announcement, in April 2016, that this airport was being changed to a Level 2 schedule-facilitated airport from its previous designation as Level 3. This impairment loss was reflected in Other operating expenses within the accompanying Consolidated Statement of Income. The Company does not believe this FAA decision is indicative of a similar decision being made at the Company's other slot-controlled airports, Washington Reagan and New York LaGuardia.

The following table is a summary of the Company’s intangible assets, which are included as a component of Other assets in the Company's Consolidated Balance Sheet, as of December 31, 2018 and 2017:

			Year ended December 31, 2018								Year ended December 31, 2017
(in millions)	Weighted-average useful life (in years)		Gross carrying amount				Accumulated amortization				Gross carrying amount				Accumulated Amortization
Customer relationships/marketing agreements	10		$	27			$	25			$	27			$	23
Owned domestic slots (a)	Indefinite		295				n/a				295				n/a
Gate leasehold rights (a)	15		180				78				180				66
Total	14		$	502			$	103			$	502			$	89

(a) Intangible assets primarily consist of acquired leasehold rights to certain airport owned gates, takeoff and landing slots (a "slot" is the right of an air carrier, pursuant to regulations of the FAA, to operate a takeoff or landing at a specific time at certain airports) at certain domestic slot-controlled airports, and certain intangible assets acquired.

The Company's definite lived assets are amortized on a straight-line basis over the useful life of the asset. The aggregate amortization expense for 2018, 2017, and 2016 was $16 million, $13 million, and $17 million, respectively. Estimated aggregate amortization expense for the five succeeding years and thereafter is as follows: 2019 – $13 million, 2020 – $12 million, 2021 – $12 million, 2022 – $12 million, 2023 – $12 million, and thereafter – $45 million.

Revenue Recognition

Tickets sold are initially deferred as Air traffic liability. Passenger revenue is recognized and Air traffic liability is reduced when transportation is provided. Air traffic liability primarily represents tickets sold for future travel dates and funds that are past flight date and remain unused as well as a portion of the Company's liability associated with its loyalty program. The majority of the Company’s tickets sold are nonrefundable. Refundable tickets that are sold but not flown on the travel date can be reused for another flight, up to a year from the date of sale, or refunded, subject to certain conditions. Based on the Company's revenue recognition policy, revenue is recorded at the flight date for a Customer who does not change his/her itinerary and loses his/her funds as the Company has then fulfilled its performance obligation. Amounts collected from passengers for ancillary service fees are also recognized when the service is provided, which is typically the flight date.

Revenue from the estimated spoilage of tickets (including partial tickets) is recorded once the flight date has passed in proportion to the pattern of flights taken by the Customer, which approximates the average period over which the population of Rapid Reward Members redeem their points. Initial spoilage estimates are routinely adjusted and ultimately finalized once the tickets expire, which is typically twelve months after the original purchase date. See Note 5 for further information.

Approximately $566 million, approximately $489 million, and approximately $383 million of the Company's Operating revenues in 2018, 2017, and 2016, respectively, were attributable to foreign operations. The remainder of the Company's Operating revenues, approximately $21.4 billion, approximately $20.7 billion, and approximately $20.0 billion in 2018, 2017, and 2016, respectively, were attributable to domestic operations.

Loyalty Program

The Company records a liability for the relative fair value of providing free travel under its loyalty program for all points earned from flight activity or sold to companies participating in the Company’s Rapid Rewards loyalty program as business partners that are expected to be redeemed for future travel. The loyalty liability represents performance obligations that will be satisfied when a Rapid Rewards loyalty member redeems points for travel or other goods and services, or upon spoilage of the points. Points earned from flight activity are valued at their relative standalone selling

price by applying fair value based on historical redemption patterns. Points earned from business partner activity, which primarily consist of points sold, along with related services, to companies participating in the Rapid Rewards loyalty program, are valued using a relative fair value methodology based on the contractual rate which partners pay to Southwest to award Rapid Rewards points to the business partner’s customers. For points that are expected to expire unused, the Company recognizes spoilage in proportion to the pattern of points used by the Customer, which approximates the average period over which the population of Rapid Reward Members redeem their points. The Company records passenger revenue related to air transportation when the transportation is delivered. The marketing elements are recognized as Other - net revenue when earned. See Note 5 for further information.

Advertising

Advertising costs are charged to expense as incurred. Advertising and promotions expense for the years ended December 31, 2018, 2017, and 2016 was $215 million, $224 million, and $232 million, respectively, and is included as a component of Other operating expense in the accompanying Consolidated Statement of Income.

Share-based Employee Compensation

The Company has share-based compensation plans covering certain Employees, including a plan that also covers the Company’s Board of Directors. The Company accounts for share-based compensation based on its grant date fair value. See Note 9 for further information.

Financial Derivative Instruments

The Company accounts for financial derivative instruments at fair value and applies hedge accounting rules where appropriate. The Company utilizes various derivative instruments, including jet fuel, crude oil, unleaded gasoline, and heating oil-based derivatives, to attempt to reduce the risk of its exposure to jet fuel price increases. These instruments are accounted for as cash flow hedges upon proper qualification. The Company also has interest rate swap agreements to convert a portion of its fixed-rate debt to floating rates and has swap agreements that convert certain floating-rate debt to a fixed-rate. The majority of these interest rate hedges are appropriately designated as either fair value hedges or as cash flow hedges.

Since the majority of the Company’s financial derivative instruments are not traded on a market exchange, the Company estimates their fair values. Depending on the type of instrument, the values are determined by the use of present value methods or option value models with assumptions about commodity prices based on those observed in underlying markets.

The Company adopted the New Hedging Standard as of January 1, 2018. See Note 2 for further information on this adoption.

All cash flows associated with purchasing and selling derivatives are classified as operating cash flows in the Consolidated Statement of Cash Flows, within Changes in certain assets and liabilities. The Company classifies its cash collateral provided to or held from counterparties in a "net" presentation on the Consolidated Balance Sheet against the fair value of the derivative positions with those counterparties. See Note 10 for further information.

Software Capitalization

The Company capitalizes certain internal and external costs related to the acquisition and development of internal use software during the application development stages of projects. The Company amortizes these costs using the straight-line method over the estimated useful life of the software, which is typically five to fifteen years. Costs incurred during the preliminary project or the post-implementation/operation stages of the project are expensed as incurred. Capitalized computer software, included as a component of Ground property and equipment in the accompanying Consolidated Balance Sheet, net of accumulated depreciation, was $674 million and $654 million at December 31, 2018, and 2017,

respectively. Computer software depreciation expense was $155 million, $168 million, and $111 million for the years ended December 31, 2018, 2017, and 2016, respectively, and is included as a component of Depreciation and amortization expense in the accompanying Consolidated Statement of Income. The Company evaluates internal use software for impairment on a quarterly basis; if it is determined the value of an asset was not recoverable or it qualifies for impairment, a charge will be recorded to write down the software to the lower of its carrying value or fair value. The Company had no significant impairments during 2018, 2017, or 2016.

Income Taxes

The Company accounts for deferred income taxes utilizing an asset and liability method, whereby deferred tax assets and liabilities are recognized based on the tax effect of temporary differences between the financial statements and the tax basis of assets and liabilities, as measured by current enacted tax rates. The Company also evaluates the need for a valuation allowance to reduce deferred tax assets to estimated recoverable amounts.

The Company’s policy for recording interest and penalties associated with uncertain tax positions is to record such items as a component of income before income taxes. Penalties are recorded in Other (gains) losses, net, and interest paid or received is recorded in Interest expense or Interest income, respectively, in the accompanying Consolidated Statement of Income. There were no material amounts recorded for penalties and interest related to uncertain tax positions for all years presented. See Note 14 for further information.

Concentration Risk

Approximately 83 percent of the Company’s full-time equivalent Employees are unionized and are covered by collective-bargaining agreements. A percentage of the Company's unionized Employees, including its Flight Attendants, Customer Service Agents, Mechanics, Flight Simulator Technicians, and Material Specialists, are in discussions on labor agreements. Those unionized Employee groups in discussions represent approximately 43 percent of the Company’s full-time equivalent Employees as of December 31, 2018.

The Company attempts to minimize its concentration risk with regards to its cash, cash equivalents, and its investment portfolio. This is accomplished by diversifying and limiting amounts among different counterparties, the type of investment, and the amount invested in any individual security or money market fund.

To manage risk associated with financial derivative instruments held, the Company selects and will periodically review counterparties based on credit ratings, limits its exposure to a single counterparty, and monitors the market position of the program and its relative market position with each counterparty. The Company also has agreements with counterparties containing early termination rights and/or bilateral collateral provisions whereby security is required if market risk exposure exceeds a specified threshold amount or credit ratings fall below certain levels. Collateral deposits provided to or held from counterparties serve to decrease, but not totally eliminate, the credit risk associated with the Company’s hedging program. See Note 10 for further information.

As of December 31, 2018, the Company operated an all-Boeing fleet, all of which are variations of the Boeing 737. If the Company were unable to acquire additional aircraft or associated aircraft parts from Boeing, or Boeing were unable or unwilling to make timely deliveries of aircraft or associated parts, or to provide adequate support for its products, the Company’s operations would be materially adversely impacted. In addition, the Company would be materially adversely impacted in the event of a mechanical or regulatory issue associated with the Boeing 737 aircraft type, whether as a result of downtime for part or all of the Company’s fleet, increased maintenance costs, or because of a negative perception by the flying public. The Company is also dependent on sole or limited suppliers for aircraft engines and certain other aircraft parts and services and would, therefore, also be materially adversely impacted in the event of the unavailability of, inadequate support for, or a mechanical or regulatory issue associated with, engines and other parts.

The Company has historically entered into agreements with some of its co-brand, payment, and loyalty partners that contain exclusivity aspects which place certain confidential restrictions on the Company from entering into certain arrangements with other payment and loyalty partners. These arrangements generally extend for the terms of the agreements, which typically are for five to seven years, but none of which are more than 10 years in length. Some of these agreements automatically renew on an annual basis, unless either party objects to such extension. The Company believes the financial benefits generated by the exclusivity aspects of these arrangements outweigh the risks involved with such agreements.

2. NEW ACCOUNTING PRONOUNCEMENTS AND ACCOUNTING CHANGES

On August 29, 2018, the Financial Accounting Standards Board (the "FASB") issued ASU No. 2018-15, Intangibles—Goodwill and Other—Internal-Use Software. This new standard requires a customer in a cloud computing arrangement that is a service contract to follow the internal-use software guidance in Accounting Standards Codification ("ASC") 350-40, Accounting for Internal-Use Software, to determine which implementation costs to (i) capitalize as assets and amortize over the term of the hosting arrangement or (ii) expense as incurred. This new standard is effective for public business entities in fiscal years beginning after December 15, 2019. Early adoption is permitted, including during an interim period. Entities have the option to apply this standard prospectively to all implementation costs incurred after the date of adoption or retrospectively. The Company is evaluating this new standard, but does not expect it to have a significant impact on its financial statement presentation or results.

On August 28, 2018, the FASB issued ASU No. 2018-13, Fair Value Measurement. This standard is effective for public business entities in fiscal years beginning after December 15, 2019, and for interim periods within those years. Early adoption is permitted, including during an interim period. This new standard requires changes to the disclosure requirements for fair value measurements for certain Level 3 items, and specifies that some of the changes must be applied prospectively, while others should be applied retrospectively. The Company is evaluating this new standard, but does not expect it to have a significant impact on its financial statement disclosures. See Note 11 for further information on the Company's fair value measurements.

On August 28, 2018, the FASB issued ASU No. 2018-14, Compensation—Retirement Benefits—Defined Benefit Plans—General. This new standard makes changes to the disclosure requirements for sponsors of defined benefit pension and/or other postretirement benefit plans to improve effectiveness of notes to the financial statements. This standard is effective for public business entities in fiscal years ending after December 15, 2020. Early adoption is permitted. Entities will apply this standard using a retrospective approach. The Company elected to early adopt this standard as of December 31, 2018, on a retrospective basis as required. Therefore disclosures within Note 13 have been reduced to reflect the elimination of certain previously required disclosures. The adoption had no impact on the Company's Net income, earnings per share, or cash flows.

On August 28, 2017, the FASB issued the New Hedging Standard. The New Hedging Standard amends the hedge accounting model to enable entities to better portray the economics of their risk management activities in the financial statements and enhance the transparency and understandability of hedge results. The New Hedging Standard also simplifies the application of hedge accounting in certain situations. The New Hedging Standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018, with early adoption permitted in any interim or annual period. The Company elected to early adopt the New Hedging Standard as of January 1, 2018, utilizing a modified retrospective approach, as required. The most significant impacts of the New Hedging Standard on the Company's accounting are the elimination of the requirement to separately measure and record ineffectiveness for all cash flow hedges in a hedging relationship, as well as a change in classification of premium expense associated with option contracts. Such premium expense for the Company's fuel hedges was previously reflected as a component of Other (gains) losses, net, in the Consolidated Statement of Income, but under the New Hedging Standard is reflected as a component of the line item to which the hedge relates, which is Fuel and oil expense. As such, premium expense for the years ended December 31, 2017 and 2016, has been reclassified in order to be comparative with current period results in the accompanying Consolidated Statement of Income. The impact of the cumulative effect of the adjustment to move the reporting of ineffectiveness as of January 1, 2018, to AOCI from Retained earnings, was a $20 million loss,

net of taxes. The adoption and resulting reclassification had no impact on the Company's Net income, earnings per share, or cash flows. As a result of the adoption of the New Hedging Standard, however, the Company incurred no gains or losses due to ineffectiveness in Other (gains) losses, net, in the Consolidated Statement of Income, during 2018. See Note 10 for further information and for further details on gains or losses recorded due to ineffectiveness during 2017.

On March 10, 2017, the FASB issued the New Retirement Standard. The New Retirement Standard requires employers to present the service cost component of the net periodic benefit cost in the same income statement line item as other Employee compensation costs arising from services rendered during the period. The other components of net benefit cost, including amortization of prior service cost/credit, and settlement and curtailment effects, are to be included in nonoperating expenses. As required by the New Retirement Standard, the Company adopted this guidance retrospectively as of January 1, 2018, using a practical expedient which permitted the Company to use the amounts disclosed in its pension and other postretirement benefit plan note for the prior comparative periods as the estimation basis for applying the retrospective presentation requirements. As such, the Company reclassified $14 million and $12 million of Salaries, wages, and benefits expense to Other (gains) and losses under the New Retirement Standard in the accompanying Consolidated Statement of Income for the years ended December 31, 2017 and 2016, respectively. The adoption and resulting reclassification had no impact on the Company's Net income, earnings per share, or cash flows.

On February 25, 2016, the FASB issued ASU No. 2016-02, Leases (the "New Lease Standard"). The New Lease Standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2018, with early adoption permitted. The New Lease Standard requires lessees to recognize a right-of-use asset and a lease liability on the balance sheet for all leases (with the exception of short-term leases) at the lease commencement date and recognize expenses on the income statement in a similar manner to the current guidance in ASC 840, Leases ("ASC 840"). The lease liability will be measured as the present value of the unpaid lease payments and the right-of-use asset will be derived from the calculation of the lease liability. Lease payments will include fixed and in-substance fixed payments, variable payments based on an index or rate, reasonably certain purchase options, termination penalties, fees paid by the lessee to the owners of a special-purpose entity for restructuring the transaction, and probable amounts the lessee will owe under a residual value guarantee. Lease payments will not include variable lease payments other than those that depend on an index or rate, any guarantee by the lessee of the lessor’s debt, or any amount allocated to non-lease components.

The Company established a project team to evaluate and implement the New Lease Standard. The Company currently believes the most significant impact of the New Lease Standard on its accounting will be the balance sheet impact of its aircraft operating leases, which will significantly increase assets and liabilities. As of December 31, 2018, the Company had 51 leased aircraft under operating leases in its active fleet and also had another 73 aircraft under operating leases that are being subleased to another airline. The Company also has operating leases related to terminal operations space and other real estate leases. Although the real estate leases will also have a substantial impact to the balance sheet, the Company does not expect the leases related to terminal operations space to have a significant impact since variable lease payments, other than those based on an index or rate, are excluded from the measurement of the lease liability. The Company also does not expect the adoption of the New Lease Standard to impact any of its existing debt covenants.

In addition, the New Lease Standard eliminates the current build-to-suit lease accounting guidance and is expected to result in derecognition of build-to-suit assets and liabilities that remained on the balance sheet after the end of the construction period, including the related deferred taxes. See Note 4 for further information on the Company’s build-to-suit projects. However, given the Company's guarantee associated with the bonds issued to fund the Dallas Love Field Modernization Program (the "LFMP"), the Company believes that the remaining debt service amounts as of the adoption date would be considered a minimum rental payment under the New Lease Standard, and therefore will be recorded as a lease liability on the balance sheet and will be reduced through future debt service payments made in 2019 and beyond. The underlying leases for all of these facilities will be subject to evaluation under the New Lease Standard.

The Company plans to elect the package of practical expedients available under the transition provisions of the New Lease Standard, including (i) not reassessing whether expired or existing contracts contain leases, (ii) lease classification, and (iii) not revaluing initial direct costs for existing leases. Also, the Company plans to elect the practical expedient which will allow aggregation of non-lease components with the related lease components when evaluating accounting treatment. Lastly, the Company currently plans to apply the modified retrospective adoption method, utilizing the simplified transition option available in the New Lease Standard, which allows entities to continue to apply the legacy guidance in ASC 840, including its disclosure requirements, in the comparative periods presented in the year of adoption. The Company will adopt the New Lease Standard on January 1, 2019.

The expected impact of applying the New Lease Standard effective as of January 1, 2019, to the Company’s results of operations and cash flows is not expected to be significant. The expected major impacts to the balance sheet will be 1) the removal of approximately $1.5 billion in Assets constructed for others, net, and related Construction obligations, and 2) the addition of approximately $1.4 billion in Operating lease right of use assets and lease liabilities, which includes approximately $700 million from operating lease aircraft, approximately $450 million from the Company’s remaining obligations associated with the LFMP bonds, and approximately $220 million from other operating leases.

On May 28, 2014, the FASB issued the New Revenue Standard, also referred to as ASC 606, Revenue From Contracts With Customers ("ASC 606"), which replaces numerous revenue recognition requirements in GAAP, including industry-specific requirements, and provides companies with a single revenue recognition model for recognizing revenue from contracts with Customers. The New Revenue Standard establishes a five-step model whereby revenue is recognized as performance obligations within a contract are satisfied in an amount that reflects the consideration the Company expects to receive in exchange for satisfaction of those performance obligations, or standalone selling price. The New Revenue Standard also requires new, expanded disclosures regarding revenue recognition. See Note 5 for further information. The Company adopted the provisions of the New Revenue Standard effective January 1, 2018, using the full retrospective method. As such, results for the years ended December 31, 2017 and 2016, have been recast under the New Revenue Standard in order to be comparative with current period results in the accompanying Consolidated Statements of Income and Cash Flows. The amounts in the accompanying Consolidated Balance Sheet as of December 31, 2017, have also been recast.

The most significant impact of the New Revenue Standard relates to the accounting for the Company’s loyalty program. The New Revenue Standard eliminated the incremental cost method for flight points awarded, which was previously allowed in prior accounting guidance. The Company now accounts for the revenue and liability for loyalty points earned through flight activity using a relative fair value approach.

The New Revenue Standard also resulted in different income statement classification for certain types of revenues (primarily ancillary revenues) which were previously classified as Other revenues, but under the New Revenue Standard are included in Passenger revenues, and certain expenses, which were previously classified as Other operating expenses, but under the New Revenue Standard are offset against Passenger revenues.

The following table provides the impact of applying the New Revenue Standard to the Company’s previously reported balances as of December 31, 2017:

	Balance as of December 31, 2017
(in millions)	As Reported				New Revenue Standard				As Recast
Accrued liabilities	$	1,777			$	(77	)		$	1,700
Air traffic liability	3,460				35				3,495
Air traffic liability - noncurrent	—				1,070				1,070
Deferred income taxes	2,358				(239		)		2,119
Retained earnings	14,621				(789		)		13,832

The impacts of applying the New Revenue Standard, the New Retirement Standard, and the New Hedging Standard to the Company’s Consolidated Statement of Income for the years ended December 31, 2017 and 2016, are as follows (amounts may not recalculate due to rounding):

	Year ended December 31, 2017
(in millions), except per share amounts	As Reported				New Revenue Standard				New Retirement Standard				New Hedging Standard				As Recast
Passenger revenue	$	19,141			$	622			$	—			$	—			$	19,763
Other revenue	1,857				(647		)		—				—				1,210
Salaries, wages, and benefits	7,319				—				(14		)		—				7,305
Fuel and oil expense	3,940				—				—				136				4,076
Other operating expenses	2,886				(39		)		—				—				2,847
Other (gains) losses, net	234				—				14				(136		)		112
Provision for income taxes	(237		)		145				—				—				(92		)
Net income	3,488				(131		)		—				—				3,357
Net income per share, basic	5.80				(0.22		)		—				—				5.58
Net income per share, diluted	5.79				(0.22		)		—				—				5.57

	Year ended December 31, 2016
(in millions), except per share amounts	As Reported				New Revenue Standard				New Retirement Standard				New Hedging Standard				As Recast
Passenger revenue	$	18,594			$	474			$	—			$	—			$	19,068
Other revenue	1,660				(610		)		—				—				1,050
Salaries, wages, and benefits	6,798				—				(12		)		—				6,786
Fuel and oil expense	3,647				—				—				154				3,801
Other operating expenses	2,743				(40		)		—				—				2,703
Other (gains) losses, net	162				—				12				(154		)		21
Provision for income taxes	1,303				(36		)		—				—				1,267
Net income	2,244				(60		)		—				—				2,183
Net income per share, basic	3.58				(0.10		)		—				—				3.48
Net income per share, diluted	3.55				(0.10		)		—				—				3.45

The impacts of applying the New Revenue Standard to the Company’s Consolidated Statement of Cash Flows for the years ended December 31, 2017 and 2016, are as follows (amounts may not recalculate due to rounding):

	Year ended December 31, 2017
(in millions)	As Reported				New Revenue Standard				As Recast
Net income	$	3,488			$	(131	)		$	3,357
Deferred income taxes	(1,212		)		145				(1,066		)
Changes in certain assets and liabilities	227				(14		)		212
Net cash provided by operating activities	3,929				—				3,929

	Year ended December 31, 2016
(in millions)	As Reported				New Revenue Standard				As Recast
Net income	$	2,244			$	(60	)		$	2,183
Deferred income taxes	455				(36		)		419
Changes in certain assets and liabilities	182				96				279
Net cash provided by operating activities	4,293				—				4,293

3. NET INCOME PER SHARE

The following table sets forth the computation of basic and diluted net income per share (in millions except per share amounts):

	Year ended December 31,
	2018				2017				2016
					As Recast				As Recast
NUMERATOR:
Net income	$	2,465			$	3,357			$	2,183
Incremental income effect of interest on 5.25% convertible notes	—				—				2
Net income after assumed conversion	$	2,465			$	3,357			$	2,185
DENOMINATOR:
Weighted-average shares outstanding, basic	573				601				627
Dilutive effect of Employee stock options and restricted stock units	1				2				1
Dilutive effect of 5.25% convertible notes	—				—				5
Adjusted weighted-average shares outstanding, diluted	574				603				633
NET INCOME PER SHARE:
Basic	$	4.30			$	5.58			$	3.48
Diluted	$	4.29			$	5.57			$	3.45

4. COMMITMENTS AND CONTINGENCIES

Commitments

The Company has contractual obligations and commitments primarily with regard to future purchases of aircraft, repayment of debt (see Note 6), and lease arrangements (see Note 7). During the year ended December 31, 2018, the Company purchased 18 new 737 MAX 8 aircraft and 26 new 737-800 aircraft from Boeing and acquired one used 737-700 aircraft from a third party under a capital lease. The Company has firm orders in place with Boeing for 219 737 MAX 8 aircraft and 30 737 MAX 7 aircraft, as well as options for 115 737 MAX 8 aircraft as of December 31, 2018. The Company's capital commitments associated with these firm orders and additional aircraft are as follows: $924 million in 2019, $1.4 billion in 2020, $1.7 billion in 2021, $1.2 billion in 2022, $1.6 billion in 2023, and $3.4 billion thereafter.

Fort Lauderdale-Hollywood International Airport

In December 2013, the Company entered into an agreement with Broward County, Florida, which owns and operates Fort Lauderdale-Hollywood International Airport ("FLL"), to oversee and manage the design and construction of the airport's Terminal 1 Modernization Project. Pursuant to an addendum entered into during 2016, the cost of the project could not exceed $333 million. In addition to significant improvements to the existing Terminal 1, the project included the design and construction of a new five-gate Concourse A with an international processing facility. Funding for the project has come directly from Broward County aviation sources, but flows through the Company in its capacity as manager of the project. Major construction on the project began during third quarter 2015. Construction of Concourse A was completed during second quarter 2017, and construction on Terminal 1 was substantially complete and operational as of the end of third quarter 2018. The Company has determined that due to its agreed upon role in overseeing and managing the project, it is considered the owner of the project for accounting purposes. As such, during construction the Company records expenditures as Assets constructed for others ("ACFO") in the Consolidated Balance Sheet, along with a corresponding outflow within Assets constructed for others in the Consolidated Statement of Cash Flows, and an increase to Construction obligation (with a corresponding cash inflow from Financing activities in the Consolidated Statement of Cash Flows) as reimbursements are received from Broward County. Upon completion of different phases of the project, the Company has placed the associated assets in service and has begun depreciating the assets over their estimated useful lives.

Los Angeles International Airport

In March 2013, the Company executed a lease agreement (the "T1 Lease") with Los Angeles World Airports ("LAWA"), which owns and operates Los Angeles International Airport ("LAX"). Under the T1 Lease, which was amended in June 2014 and September 2017, the Company oversaw and managed the design, development, financing, construction, and commissioning of the airport's Terminal 1 Modernization Project at a cost that did not exceed $526 million (including proprietary renovations, or $510 million excluding proprietary renovations). In October 2017, the Company executed a separate lease agreement with LAWA (the "T1.5 Lease"). Under the T1.5 Lease, the Company is overseeing and managing the design, development, financing, construction, and commissioning of a passenger processing facility between Terminal 1 and 2 (the "Terminal 1.5 Project"). The Terminal 1.5 Project is expected to include ticketing, baggage claim, passenger screening, and a bus gate at a cost not to exceed $479 million for site improvements and non-proprietary improvements.

These projects are being funded primarily using the Regional Airports Improvement Corporation (the "RAIC"), which is a quasi-governmental special purpose entity that acts as a conduit borrower under syndicated credit facilities provided by groups of lenders. Loans made under the separate credit facilities for the Terminal 1 Modernization Project and the Terminal 1.5 Project are being used to fund the development of each of these projects, and the outstanding loans will be repaid with the proceeds of LAWA’s payments to purchase completed construction phases. The Company has guaranteed the obligations of the RAIC under each of the credit facilities associated with the respective lease agreements. At December 31, 2018, the Company's outstanding remaining guaranteed obligations under the credit facilities for the Terminal 1 Modernization Project and the Terminal 1.5 Project were $111 million and $106 million, respectively.

Construction on the Terminal 1 Modernization Project began during 2014 and was substantially complete and operational during fourth quarter 2018. Construction on the Terminal 1.5 Project began during third quarter 2017 and

is estimated to be completed during 2020. The Company has determined that due to its agreed upon role in overseeing and managing these projects, it is considered the owner of these projects for accounting purposes. LAWA is reimbursing the Company (through the RAIC credit facilities) for the site improvements and non-proprietary improvements, while proprietary improvements will not be reimbursed. As a result, the costs incurred to fund these projects are included within ACFO and all amounts that have been or will be reimbursed will be included within Construction obligation on the accompanying Consolidated Balance Sheet. This transaction has no impact on the Company's Consolidated Statement of Cash Flows.

Dallas Love Field

During 2008, the City of Dallas approved the Love Field Modernization Program (the "LFMP"), a project to reconstruct Dallas Love Field with modern, convenient air travel facilities. Pursuant to a Program Development Agreement with the City of Dallas and the Love Field Airport Modernization Corporation (or the "LFAMC," a Texas non-profit "local government corporation" established by the City of Dallas to act on the City of Dallas' behalf to facilitate the development of the LFMP), the Company managed this project.

Although the City of Dallas received commitments from various sources that helped to fund portions of the LFMP project, including the Federal Aviation Administration, the Transportation Security Administration, and the City of Dallas' Aviation Fund, the majority of the funds used were from the issuance of bonds. The Company guaranteed principal and interest payments on $456 million of such bonds issued by the LFAMC. As of December 31, 2018, $416 million of principal remained outstanding. The Company utilized the accounting guidance provided for lessees involved in asset construction. Upon completion of different phases of the LFMP project, the Company has placed the associated assets in service and has begun depreciating the assets over their estimated useful lives. The corresponding LFMP liabilities are being reduced primarily through the Company's airport rental payments to the City of Dallas, as the construction costs of this project are passed through to the Company via recurring airport rates and charges. Major construction was effectively completed by December 31, 2014. During second quarter 2017, the City of Dallas approved using the remaining bond funds for additional terminal construction projects which were effectively completed in 2018.

During 2015, the City of Dallas issued additional bonds for the construction of a new parking garage at Dallas Love Field, which was completed and operational in fourth quarter 2018. The Company has not guaranteed the principal or interest payments on these bonds, but remains the accounting owner of this project.

Construction costs recorded in ACFO for the Company's various projects as of December 31, 2018, and December 31, 2017, were as follows:

		December 31, 2018										December 31, 2017
(in millions)		ACFO			ACFO, Net (a)			Construction Obligation (b)				ACFO			ACFO, Net (a)			Construction Obligation (b)
FLL Terminal		$	313		$	304		$	308			$	258		$	256		$	258
LAX Terminal 1		485			459			476				433			417			433
LAX Terminal 1.5	(c)	99			99			99				31			31			31
LFMP - Terminal		545			460			502				543			474			516
LFMP - Parking Garage		200			200			200				152			152			152
HOU International Terminal	(d)	126			115			116				126			118			—
		$	1,768		$	1,637		$	1,701			$	1,543		$	1,448		$	1,390

(a) Net of accumulated depreciation.

(b) Construction obligation will be reduced through future facility rent payments. These future payments are not fixed per the lease agreement, but are variable and fluctuate based on various market and other factors outside the control of the Company.

(c) Project still in progress.

(d) Project completed in 2015 at Houston William P. Hobby Airport ("HOU").

Contingencies

The Company is from time to time subject to various legal proceedings and claims arising in the ordinary course of business, including, but not limited to, examinations by the Internal Revenue Service ("IRS"). The Company's management does not expect that the outcome of any of its currently ongoing legal proceedings or the outcome of any adjustments presented by the IRS, individually or collectively, will have a material adverse effect on the Company's financial condition, results of operations, or cash flow.

5. REVENUE

Passenger Revenues

The Company’s contracts with its Customers primarily consist of its tickets sold, which are initially deferred as Air traffic liability. Passenger revenue associated with tickets is recognized when the performance obligation to the Customer is satisfied, which is primarily when travel is provided.

Revenue is categorized by revenue source as the Company believes it best depicts the nature, amount, timing, and uncertainty of revenue and cash flow. The following table provides the components of Passenger revenue recognized for the years ended December 31, 2018, 2017, and 2016:

	Year ended December 31,
(in millions)	2018				2017				2016
					As Recast				As Recast
Passenger non-loyalty	$	17,506			$	16,934			$	16,534
Passenger loyalty - air transportation	2,307				2,263				1,997
Passenger ancillary sold separately	642				566				537
Total passenger revenues	$	20,455			$	19,763			$	19,068

Passenger non-loyalty includes all revenues recognized from Passengers related to flights paid for primarily with cash or credit card. All Customers purchasing a ticket on Southwest Airlines are generally able to check up to two bags at no extra charge (with certain exceptions as stated in the Company's published Contract of Carriage), and the Company also does not charge a fee for a Customer to make a change to their flight after initial purchase, although fare differences may apply. Passenger loyalty - air transportation primarily consists of the revenue recognized associated with award flights taken by loyalty program members upon redemption of loyalty points. Passenger ancillary sold separately includes any revenue recognized associated with ancillary fees charged separately, such as in-flight purchases, EarlyBird Check-In®, and Upgraded Boarding.

Air traffic liability primarily represents tickets sold for future travel dates, funds that are past flight date and remain unused, but are expected to be used in the future, and the Company’s liability for loyalty benefits that are expected to be redeemed in the future. The majority of the Company’s tickets sold are nonrefundable. Southwest has a No Show policy that applies to fares that are not canceled or changed by a Customer at least ten minutes prior to a flight's scheduled departure. Refundable tickets that are sold but not flown on the travel date and canceled in accordance with the No Show policy can also be reused for another flight, up to a year from the date of sale. A small percentage of tickets (or partial tickets) expire unused. The Company estimates the amount of tickets that expire unused and recognizes such amounts in Passenger revenue once the scheduled flight date has lapsed in proportion to the pattern of flights taken by the Customer. Based on the Company's revenue recognition policy, revenue is recorded at the flight date for a Customer who does not change his/her itinerary and loses his/her funds as the Company has then fulfilled its performance obligation. Amounts collected from passengers for ancillary services are also recognized when the service is provided, which is typically the flight date.

Initial spoilage estimates for both tickets and funds available for future use are routinely adjusted and ultimately finalized once the tickets expire, which is typically twelve months after the original purchase date. Spoilage estimates are based on the Company's Customers' historical travel behavior as well as assumptions about the Customers' future travel behavior. Assumptions used to generate spoilage estimates can be impacted by several factors including, but not limited to: fare increases, fare sales, changes to the Company's ticketing policies, changes to the Company’s refund, exchange and unused funds policies, seat availability, and economic factors.

Loyalty Program

The Company records a liability for the relative fair value of providing free travel under its loyalty program for all points earned from flight activity or sold to companies participating in the Company’s loyalty program as business partners. The loyalty liability represents the outstanding performance obligations that will be satisfied when a member redeems points for travel or other goods and services, or upon spoilage of the points. Points earned from flight activity are valued at their relative standalone selling price based on coefficients in place that determine the worth of loyalty points in relation to their redemption value to the Customer. Points purchased by business partners are subjected to an allocation methodology in which the relative fair value of the transportation and marketing elements, if any, identified in the contract are first determined, then applied to the contractual rate paid by the business partner. The terms for these agreements are no more than 10 years in length. The Company’s liability for loyalty benefits include a portion that are expected to be redeemed during the following twelve months (classified as a component of Air traffic liability), and a portion that are not expected to be redeemed during the following twelve months (classified as Air traffic liability - noncurrent). The Company continually updates this analysis and adjusts the split between current and non-current liabilities as appropriate.

In order to determine the value of each loyalty point, certain assumptions must be made at the time of measurement, which include the following:

•

Allocation of Passenger Revenue - Revenues from Passengers, related to travel, who also earn Rapid Rewards Points have been allocated between flight (recognized as revenue when transportation is provided) and Rapid Rewards Points (deferred until points are redeemed or spoil) based on each obligation’s relative standalone selling price. The Company utilizes historical earning patterns to assist in this allocation.

•

Fair Value of Rapid Rewards Points - Determined from the base fare value of tickets which were purchased using prior point redemptions for travel and other products and services, which the Company believes to be indicative of the fair value of points as perceived by Customers and representative of the value of each point at the time of redemption. The Company’s booking site allows a Customer to toggle between fares utilizing either cash or point redemptions, which provides the Customer with an approximation of the equivalent value of their points. The value can differ, however, based on demand, the amount of time prior to the flight, and other factors. The fare mix during the period measured represents a constraint, which could result in the assumptions above changing at the measurement date, as fare classes can have different coefficients used to determine the total loyalty points needed to purchase an award ticket. The mixture of these fare classes and changes in the coefficients used by the Company could cause the fair value per point to increase or decrease.

For points that are expected to expire unused, the Company recognizes spoilage in proportion to the pattern of points used by the Customer, which approximates the average period over which the population of Rapid Reward Members redeem their points. The Company utilizes historical behavioral data to develop a predictive statistical model to analyze the amount of spoilage expected for points sold to business partners and earned through flight. The Company continues to evaluate expected spoilage annually and applies appropriate adjustments in the fourth quarter of each year, or other times, if changes in Customer behavior are detected. Changes to spoilage estimates impact revenue recognition prospectively. In most historical periods, the impact of changes in the estimated spoilage rate has not resulted in material changes to revenue recognition. However, due to the size of the Company’s liability for loyalty benefits as a result of the elimination of the incremental cost method of accounting for flight points, changes in Customer behavior and/or expected future redemption patterns could result in more significant variations in Passenger revenue under the New Revenue Standard. These analyses have not resulted in material adjustments in 2018, 2017, or 2016.

ASC 606 requires the Company to allocate consideration received to performance obligations based on the relative fair value of those obligations. The Company has a co-branded credit card agreement (“Agreement”) with Chase Bank USA, N.A. (“Chase”), through which the Company sells loyalty points and certain marketing components, which consist of the use of Southwest Airlines’ brand and access to Rapid Rewards Member lists, licensing and advertising elements, and the use of the Company’s resource team. The Company estimated the selling prices and volumes over the term of the Agreement in order to determine the allocation of proceeds to each of the two performance obligations identified in the Agreement, which have been characterized as a transportation component and a marketing component. The allocations utilized are reviewed to determine if adjustment is necessary any time there is a modification to the Agreement. The Company records Passenger revenue related to loyalty point redemptions for air travel when the travel is delivered, and the marketing elements are recognized as Other revenue when the performance obligations related to those services are satisfied, which is generally the same period consideration is received from Chase.

The Company has elected the transition provision within ASC 606 to reflect the aggregate effect of historical modifications to the Agreement on January 1, 2018, when (i) identifying the satisfied and unsatisfied performance obligations, (ii) determining the transaction price, and (iii) allocating the transaction price to the satisfied and unsatisfied performance obligations. When applying the full retrospective adoption provisions of ASC 606, the Company determined the transaction price for all satisfied and unsatisfied performance obligations in the Agreement and performed a single allocation of the transaction price to those performance obligations, based on the relative selling prices on January 1, 2016. In applying this transition provision, the Company evaluated the historical modifications of the Agreement and did not identify any new performance obligations throughout the periods prior to adoption of the new standard. The Company did not believe it was reasonably possible to quantitatively estimate the impact of applying this transition provision to contract modifications prior to January 1, 2016.

As performance obligations to Customers are satisfied, the related revenue is recognized. The events that result in revenue recognition that are associated with performance obligations identified as a part of the Rapid Rewards Program are as follows:

•	Tickets and Rapid Rewards Points - When a flight occurs, the related performance obligation is satisfied and the related value provided by the Customer, whether from purchased tickets or Rapid Rewards Points, is recognized as revenue.

•	Loyalty points redeemed for goods and/or services other than travel - Rapid Rewards Members have the option to redeem points for goods and services offered through a third party vendor, who acts as principal. The performance obligation related to the purchase of these goods and services is satisfied when the good and/or service is delivered to the Customer.

•	Marketing Royalties - As part of its Agreement with Chase, Southwest provides certain deliverables, including use of the Southwest Airlines’ brand, access to Rapid Rewards Member lists, advertising elements, and the Company’s resource team. These performance obligations are satisfied each month that the Agreement is active.

As of the years ended December 31, 2018 and 2017, the components of Air traffic liability, including contract liabilities based on tickets sold, unused funds available to the Customer, and loyalty points available for redemption, net of expected spoilage, within the Consolidated Balance Sheet were as follows:

	Balance as of
(in millions)	December 31, 2018				December 31, 2017
Air traffic liability - passenger travel and ancillary passenger services	$	2,059			$	1,898
Air traffic liability - loyalty program	3,011				2,667
Total Air traffic liability	$	5,070			$	4,565

The balance in Air traffic liability – passenger travel and ancillary passenger services also includes unused funds that are available for use by Customers that are not currently associated with a ticket, but represent funds effectively refunded

and made available for use to purchase a ticket for a flight that occurs prior to their expiration. These funds are typically created as a result of a prior ticket cancellation or exchange. These performance obligations are expected to have a duration of twelve months or less; therefore, the Company has elected the provision within ASC 606 to not disclose the amount of the remaining transaction price and its expected timing of recognition for passenger tickets. Recognition of revenue associated with the Company’s loyalty liability can be difficult to predict, as the number of award seats available to members is not currently restricted and they could choose to redeem their points at any time that a seat is available. The performance obligations classified as a current liability related to the Company’s loyalty program were estimated based on expected redemptions utilizing historical redemption patterns, and forecasted flight availability, fares, and coefficients. The entire balance classified as Air traffic liability – noncurrent relates to loyalty points that were estimated to be redeemed in periods beyond 12 months following the representative balance sheet date. The Company expects the majority of loyalty points to be redeemed within two years. A rollforward of the Company's Air traffic liability - loyalty program for the years ended December 31, 2018 and 2017 is as follows (in millions):

	Year ended December 31,
	2018				2017
Air traffic liability - loyalty program - beginning balance	$	2,667			$	2,485
Amounts deferred associated with points awarded	2,717				2,485
Revenue recognized from points redeemed - Passenger	(2,307		)		(2,263		)
Revenue recognized from points redeemed - Other	(66		)		(40		)
Air traffic liability - loyalty program - ending balance	$	3,011			$	2,667

Air traffic liability includes consideration received for ticket and loyalty related performance obligations which have not been satisfied as of a given date. A rollforward of the amounts included in Air traffic liability as of December 31, 2018 and 2017 are as follows (in millions):

	Air traffic liability
Balance at December 31, 2017	$	4,565
Current period sales (passenger travel, ancillary services, flight loyalty, and partner loyalty)	21,026
Revenue from amounts included in contract liability opening balances	(3,479		)
Revenue from current period sales	(17,042		)
Balance at December 31, 2018	$	5,070

	Air traffic liability
Balance at December 31, 2016	$	4,221
Current period sales (passenger travel, ancillary services, flight loyalty, and partner loyalty)	20,146
Revenue from amounts included in contract liability opening balances	(3,099		)
Revenue from current period sales	(16,703		)
Balance at December 31, 2017	$	4,565

All performance obligations related to freight services sold are completed within twelve months or less; therefore, the Company has elected the provision within ASC 606 to not disclose the amount of the remaining transaction price and its expected timing of recognition for freight shipments.

Other revenues primarily consist of marketing royalties associated with the Company’s co-branded Chase® Visa credit card, but also include commissions and advertising associated with Southwest.com®. All amounts classified as Other revenues are paid monthly, coinciding with the Company fulfilling its deliverables; therefore, the Company has elected the provision within ASC 606 to not disclose the amount of the remaining transaction price and its expected timing of recognition for such services provided.

The Company recognized revenue related to the marketing, advertising, and other travel-related benefits of the revenue associated with various loyalty partner agreements including, but not limited to, the Agreement with Chase, within Other operating revenues. For the years ended December 31, 2018, 2017, and 2016 the Company recognized $1.1 billion, $1.0 billion, and $919 million, respectively.

The Company is also required to collect certain taxes and fees from Customers on behalf of government agencies and remit these back to the applicable governmental entity on a periodic basis. These taxes and fees include foreign and U.S. federal transportation taxes, federal security charges, and airport passenger facility charges. These items are collected from Customers at the time they purchase their tickets, are excluded from the contract transaction price, and are therefore not included in Passenger revenue. The Company records a liability upon collection from the Customer and relieves the liability when payments are remitted to the applicable governmental agency.

6. LONG-TERM DEBT

(in millions)		December 31, 2018				December 31, 2017
French Credit Agreements due June 2018 - 2.54%		$	—			$	1
Fixed-rate 737 Aircraft Notes payable through January 2018 - 7.03%		—				3
2.75% Notes due November 2019		300				300
Term Loan Agreement payable through May 2019 - 6.315%		23				66
Term Loan Agreement payable through July 2019 - 4.84%		10				19
2.65% Notes due 2020		492				491
Term Loan Agreement payable through 2020 - 5.223%		187				237
737 Aircraft Notes payable through 2020		67				155
2.75% Notes due 2022		300				300
Pass Through Certificates due 2022 - 6.24%		250				294
Term Loan Agreement payable through 2026 - 3.88%		197				215
3.00% Notes due 2026		300				300
3.45% Notes due 2027		300				300
7.375% Debentures due 2027		125				127
Capital leases		845				885
		$	3,396			$	3,693
Less current maturities		606				348
Less debt discount and issuance costs		19				25
		$	2,771			$	3,320

AirTran Holdings is party to aircraft purchase financing facilities, and as of December 31, 2018, nine Boeing 737 aircraft remained that were financed under floating-rate facilities. Each note is secured by a first mortgage on the aircraft to which it relates. The notes bear interest at a floating rate per annum equal to a margin plus the three or six-month LIBOR in effect at the commencement of each semi-annual or three-month period, as applicable. As of December 31, 2018, the weighted average interest rate was 4.06 percent. Principal and interest under the notes are payable semi-annually or every three months as applicable. As of December 31, 2018, the remaining debt outstanding may be prepaid without penalty under all aircraft loans provided under such facilities. The remaining notes mature in years 2019 and 2020. As discussed further in Note 10, a portion of the above floating-rate debt has been effectively converted to a fixed rate via interest rate swap agreements which expire as the underlying notes mature.

AirTran Holdings was previously a party to an additional aircraft purchase financing facility, and one Boeing 737 aircraft was financed under the fixed-rate facility. The note was secured by a first mortgage on the aircraft to which it related. The remaining note matured on January 11, 2018.

During November 2017, the Company issued $300 million senior unsecured notes due 2022. The notes bear interest at 2.75 percent. Interest is payable semi-annually in arrears on May 16 and November 16.

Also during November 2017, the Company issued $300 million senior unsecured notes due 2027. The notes bear interest at 3.45 percent. Interest is payable semi-annually in arrears on May 16 and November 16.

During November 2016, the Company issued $300 million senior unsecured notes due 2026. The notes bear interest at 3.00 percent. Interest is payable semi-annually in arrears on May 15 and November 15.

During October 2016, the Company entered into a term loan agreement providing for loans to the Company aggregating up to $215 million, to be secured by mortgages on seven of the Company's 737-800 aircraft. The Company borrowed the full $215 million and secured this loan with the requisite seven aircraft mortgages. The loan matures on October 31, 2026, and is repayable via semi-annual installments of principal that began on April 30, 2018. The loan bears

interest at the LIBO Rate (as defined in the term loan agreement) plus 1.10 percent, which equates to a current rate of 3.88 percent, and interest is payable semi-annually in installments.

During November 2015, the Company issued $500 million senior unsecured notes due 2020. The notes bear interest at 2.65 percent, payable semi-annually in arrears on May 5 and November 5. Concurrently, the Company entered into a fixed-to-floating interest rate swap to convert the interest on these unsecured notes to a floating rate until their maturity. See Note 10 for further information on the interest-rate swap agreement.

During November 2014, the Company issued $300 million senior unsecured notes due November 2019. The notes bear interest at 2.75 percent, payable semi-annually in arrears on May 6 and November 6. Concurrently, the Company entered into a fixed-to-floating interest rate swap to convert the interest on these unsecured notes to a floating rate until their maturity. See Note 10 for further information on the interest-rate swap agreement.

On July 1, 2009, the Company entered into a term loan agreement providing for loans to the Company aggregating up to $124 million, to be secured by mortgages on five of the Company’s 737-700 aircraft. The Company borrowed the full $124 million and secured this loan with the requisite five aircraft mortgages. The loan matures on July 1, 2019, and is repayable semi-annually in installments of principal and interest that began on January 1, 2010. The loan bears interest at a fixed rate of 4.84 percent. In September 2015, the Company prepaid $24 million on the loan agreement, which in turn released one of the encumbered aircraft. As such, the remaining four aircraft related to this transaction were still encumbered as of December 31, 2018.

On April 29, 2009, the Company entered into a term loan agreement providing for loans to the Company aggregating up to $332 million, to be secured by mortgages on 14 of the Company’s 737-700 aircraft. The Company borrowed the full $332 million and secured the loan with the requisite 14 aircraft mortgages. The loan matures on May 6, 2019, and is being repaid via quarterly installments of principal and interest that began on August 6, 2009. The loan bears interest at the LIBO Rate (as defined in the term loan agreement) plus 3.30 percent. Pursuant to the terms of the term loan agreement, the Company entered into an interest rate swap agreement to convert the variable rate on the term loan to a fixed 6.315 percent until maturity.

On May 6, 2008, the Company entered into a term loan agreement providing for loans to the Company aggregating up to $600 million, to be secured by first-lien mortgages on 21 of the Company’s 737-700 aircraft. On May 9, 2008, the Company borrowed the full $600 million and secured these loans with the requisite 21 aircraft mortgages. The loans mature on May 9, 2020, and are being repaid via quarterly installments of principal and interest that began on August 9, 2008. The loans bear interest at the LIBO Rate (as defined in the term loan agreement) plus 0.95 percent. Pursuant to the terms of the term loan agreement, the Company entered into an interest rate swap agreement to convert the variable rate on the term loan to a fixed 5.223 percent until maturity.

On October 3, 2007, grantor trusts established by the Company issued $500 million Pass Through Certificates consisting of $412 million 6.15 percent Series A certificates and $88 million 6.65 percent Series B certificates. A separate trust was established for each class of certificates. The trusts used the proceeds from the sale of certificates to acquire equipment notes in the same amounts, which were issued by the Company on a full recourse basis. Payments on the equipment notes held in each trust are passed through to the holders of certificates of such trust. The equipment notes were issued for each of 16 Boeing 737-700 aircraft owned by the Company and are secured by a mortgage on each aircraft. Beginning February 1, 2008, principal and interest payments on the equipment notes held for both series of certificates became due semi-annually until the balance of the certificates mature on August 1, 2022. Prior to their issuance, the Company also entered into swap agreements to hedge the variability in interest rates on the Pass Through Certificates. The swap agreements were accounted for as cash flow hedges, and resulted in a payment by the Company of $20 million upon issuance of the Pass Through Certificates. The effective portion of the hedge is being amortized to interest expense concurrent with the amortization of the debt and is reflected in the above table as a reduction in the debt balance. The ineffectiveness of the hedge transaction was immaterial.

In fourth quarter 2004, the Company entered into four identical 13-year floating-rate financing arrangements, whereby it borrowed a total of $112 million from French banking partnerships. The borrowings matured and were redeemed in full on June 30, 2018, utilizing available cash on hand.

On February 28, 1997, the Company issued $100 million of senior unsecured 7.375 percent debentures due March 1, 2027. Interest is payable semi-annually on March 1 and September 1. The debentures may be redeemed, at the option of the Company, in whole at any time or in part from time to time, at a redemption price equal to the greater of the principal amount of the debentures plus accrued interest at the date of redemption or the sum of the present values of the remaining scheduled payments of principal and interest thereon, discounted to the date of redemption at the comparable treasury rate plus 20 basis points, plus accrued interest at the date of redemption.

The Company is required to provide standby letters of credit to support certain obligations that arise in the ordinary course of business. Although the letters of credit are an off-balance sheet item, the majority of the obligations to which they relate are reflected as liabilities in the Consolidated Balance Sheet. Outstanding letters of credit totaled $170 million at December 31, 2018.

The net book value of the assets pledged as collateral for the Company’s secured borrowings, primarily aircraft, was $1.5 billion at December 31, 2018. In addition, the Company has pledged a total of up to 74 of its Boeing 737-700 and 24 of its Boeing 737-800 aircraft at a net book value of $2.1 billion, in the case that it has obligations related to its fuel derivative instruments with counterparties that exceed certain thresholds. See Note 10 for further information on these collateral arrangements.

As of December 31, 2018, aggregate annual principal maturities of debt and capital leases (not including amounts associated with interest rate swap agreements, interest on capital leases, amortization of capital lease incentives, and amortization of purchase accounting adjustments) for the five-year period ending December 31, 2023, and thereafter, were $590 million in 2019, $821 million in 2020, $172 million in 2021, $477 million in 2022, $105 million in 2023, and $1.1 billion thereafter.

7. LEASES

The Company's fleet included 51 aircraft on operating lease and 72 aircraft on capital lease as of December 31, 2018, compared with 53 aircraft on operating lease and 69 aircraft on capital lease, as of December 31, 2017. Amounts applicable to these aircraft on capital lease that are included in property and equipment were:

(in millions)		2018				2017
Flight equipment		$	1,329			$	1,207
Less: accumulated amortization		304				172
		$	1,025			$	1,035

Total rental expense for operating leases, both aircraft and other, charged to operations in 2018, 2017, and 2016 was $935 million, $939 million, and $932 million, respectively. The majority of the Company’s terminal operations space, as well as 124 aircraft, including 73 B717s subleased to Delta, were under operating leases at December 31, 2018. For aircraft operating leases and for terminal operating leases and other real estate leases, expense is recorded on a straight–line basis and included in Other operating expenses and in Landing fees and airport rentals, respectively, in the Consolidated Statement of Income. The majority of the Company’s terminal operations space payments are considered variable, and thus excluded from the Company’s disclosures of future minimum lease payments. Future minimum lease payments under capital leases and noncancelable operating leases and rentals to be received under subleases with initial or remaining terms in excess of one year at December 31, 2018, were:

(in millions)		Capital leases				Operating leases				Subleases				Operating leases, net
2019		$	111			$	348			$	(92	)		$	256
2020		109				357				(78		)		279
2021		105				244				(41		)		203
2022		100				172				(17		)		155
2023		97				146				(7		)		139
Thereafter		335				474				(1		)		473
Total minimum lease payments		$	857			$	1,741			$	(236	)		$	1,505
Less amount representing interest		126
Present value of minimum lease payments (a)		731
Less current portion		85
Long-term portion		$	646

(a) Excludes lease incentive obligation of $114 million.

The aircraft leases generally can be renewed for one to five years at rates based on fair market value at the end of the lease term. Most aircraft leases have purchase options at or near the end of the lease term at fair market value, generally limited to a stated percentage of the lessor’s defined cost of the aircraft.

On July 9, 2012, the Company signed an agreement with Delta Air Lines, Inc. and Boeing Capital Corp. to lease or sublease all 88 of AirTran Airways' B717s to Delta at agreed-upon lease rates. Three operating leases expired during 2018, and, as of December 31, 2018, the following remained: 73 operating leases, ten owned, and two capital leases. The sublease terms for the 73 B717s on operating lease and the two B717s on capital lease coincide with the Company's remaining lease terms for these aircraft from the original lessor, which range from approximately one to six years. The leasing of the ten B717s that are owned by the Company is subject to certain conditions, and the remaining lease terms are up to four years, after which Delta will have the option to purchase the aircraft at the then-prevailing market value. The ten owned B717s are accounted for as sales type leases, the two B717s classified by the Company as capital leases are accounted for as direct financing leases, and the remaining 73 subleases are accounted for as operating leases with Delta. There are no contingent payments and no significant residual value conditions associated with the transaction.

During 2017, the Company retired its remaining 87 Classic aircraft, which included 61 Classic aircraft grounded in September 2017 as part of an accelerated retirement schedule. The Company recorded a charge of $63 million, within Other operating expenses in the accompanying Consolidated Statement of Income, related to the leased portion of the Classic fleet, representing 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. As of December 31, 2018, the remaining amounts associated with the cease-use liability have been paid in full.

8. COMMON STOCK

The Company has one class of capital stock, its common stock. Holders of shares of common stock are entitled to receive dividends when and if declared by the Board of Directors and are entitled to one vote per share on all matters submitted to a vote of the Shareholders. At December 31, 2018, the Company had 60 million shares of common stock reserved for issuance pursuant to Employee equity plans (of which 29 million shares had not been granted) through various share-based compensation arrangements. See Note 9 to the Consolidated Financial Statements for information regarding the Company's equity plans.

9. STOCK PLANS

Share-based Compensation

The Company accounts for share-based compensation utilizing fair value, which is determined on the date of grant for all instruments. The Consolidated Statement of Income for the years ended December 31, 2018, 2017, and 2016, reflects share-based compensation expense of $46 million, $37 million, and $33 million, respectively. The total tax benefit recognized in earnings from share-based compensation arrangements for the years ended December 31, 2018, 2017, and 2016, was not material. As of December 31, 2018, there was $51 million of total unrecognized compensation cost related to share-based compensation arrangements, which is expected to be recognized over a weighted-average period of 1.9 years. The Company expects substantially all unvested awards to vest.

Restricted Stock Units and Stock Grants

Under the Company’s Amended and Restated 2007 Equity Incentive Plan ("2007 Equity Plan"), which has been approved by Shareholders, the Company granted restricted stock units ("RSUs") and performance-based restricted stock units ("PBRSUs") to certain Employees during 2018, 2017, and 2016. Outstanding RSUs vest over three years, subject generally to the individual’s continued employment or service. The PBRSUs granted in January 2016 and February 2017 are subject to the Company’s performance with respect to a three-year simple average of Return on Invested Capital, before taxes and excluding special items, for the defined performance period and the individual’s continued employment or service. The PBRSUs granted in January 2018 are subject to the Company’s performance with respect to a three-year simple average of Return on Invested Capital, after taxes and excluding special items, for the defined performance period and the individual’s continued employment or service. The number of PBRSUs vesting on the vesting date will be interpolated based on the Company's Return on Invested Capital performance and ranges from zero PBRSUs to 200 percent of granted PBRSUs. Forfeiture rates are estimated at the time of grant based on

historical actuals for similar grants, and are trued-up to actuals over the vesting period. The Company recognizes all expense on a straight-line basis over the vesting period, with any changes in expense due to the number of PBRSUs expected to vest being modified on a prospective basis.

Aggregated information regarding the Company’s RSUs and PBRSUs is summarized below:

		All Restricted Stock Units
		Units (000)			Wtd. Average Fair Value (per share)
Outstanding December 31, 2015		1,485			$	30.17
Granted		675		(a)	37.29
Vested		(665	)		23.29
Surrendered		(56	)		36.29
Outstanding December 31, 2016		1,439			36.52
Granted		717		(b)	52.73
Vested		(806	)		30.23
Surrendered		(56	)		43.86
Outstanding December 31, 2017, Unvested		1,294			45.32
Granted		782		(c)	60.80
Vested		(670	)		45.11
Surrendered		(64	)		47.05
Outstanding December 31, 2018, Unvested		1,342			52.56

(a) Includes 247 thousand PBRSUs

(b) Includes 235 thousand PBRSUs

(c) Includes 308 thousand PBRSUs

In addition, the Company granted approximately 28 thousand shares of unrestricted stock at a weighted average grant price of $53.01 in 2018, approximately 26 thousand shares at a weighted average grant price of $57.04 in 2017, and approximately 27 thousand shares at a weighted average grant price of $42.90 in 2016, to members of its Board of Directors.

A remaining balance of up to 21 million shares of the Company’s common stock may be issued pursuant to grants under the 2007 Equity Plan.

Employee Stock Purchase Plan

Under the Amended and Restated 1991 Employee Stock Purchase Plan ("ESPP"), which has been approved by Shareholders, the Company is authorized to issue up to a remaining balance of 8 million shares of the Company’s common stock to Employees of the Company. These shares may be issued at a price equal to 90 percent of the market value at the end of each monthly purchase period. Common stock purchases are paid for through periodic payroll deductions.

The following table provides information about the Company’s ESPP activity during 2018, 2017, and 2016:

Employee Stock Purchase Plan
									(a)
		Total number							Weighted-average
		of shares			Average				fair value of each
		purchased			price paid				purchase right
Period		(in thousands)			per share				under the ESPP
As of December 31, 2016		622			$	36.57			$	4.06
As of December 31, 2017		544			$	50.13			$	5.57
As of December 31, 2018		661			$	50.73			$	5.64

(a) The weighted-average fair value of each purchase right under the ESPP granted is equal to ten percent discount from the market value of the Common Stock at the end of each monthly purchase period.

Taxes

Grants of RSUs result in the creation of a deferred tax asset, which is a temporary difference, until the time the RSU vests. All excess tax benefits and tax deficiencies are recorded through the income statement. Due to the treatment of RSUs for tax purposes, the Company’s effective tax rate from year to year is subject to variability.

10. FINANCIAL DERIVATIVE INSTRUMENTS

Fuel Contracts

Airline operators are inherently dependent upon energy to operate and, therefore, are impacted by changes in jet fuel prices. Furthermore, jet fuel and oil typically represents one of the largest operating expenses for airlines. The Company endeavors to acquire jet fuel at the lowest possible cost and to reduce volatility in operating expenses through its fuel hedging program. Although the Company may periodically enter into jet fuel derivatives for short-term timeframes, because jet fuel is not widely traded on an organized futures exchange, there are limited opportunities to hedge directly in jet fuel for time horizons longer than approximately 24 months into the future. However, the Company has found that financial derivative instruments in other commodities, such as West Texas Intermediate ("WTI") crude oil, Brent crude oil, and refined products, such as heating oil and unleaded gasoline, can be useful in decreasing its exposure to jet fuel price volatility. The Company does not purchase or hold any financial derivative instruments for trading or speculative purposes.

The Company has used financial derivative instruments for both short-term and long-term timeframes, and primarily uses a mixture of purchased call options, collar structures (which include both a purchased call option and a sold put option), call spreads (which include a purchased call option and a sold call option), put spreads (which include a purchased put option and a sold put option), and fixed price swap agreements in its portfolio. Although the use of collar structures and swap agreements can reduce the overall cost of hedging, these instruments carry more risk than purchased call options in that the Company could end up in a liability position when the collar structure or swap agreement settles. With the use of purchased call options and call spreads, the Company cannot be in a liability position at settlement, but does not have coverage once market prices fall below the strike price of the purchased call option.

For the purpose of evaluating its net cash spend for jet fuel and for forecasting its future estimated jet fuel expense, the Company evaluates its hedge volumes strictly from an "economic" standpoint and thus does not consider whether the hedges have qualified or will qualify for hedge accounting. The Company defines its "economic" hedge as the net volume of fuel derivative contracts held, including the impact of positions that have been offset through sold positions, regardless of whether those contracts qualify for hedge accounting. The level at which the Company is economically hedged for a particular period is also dependent on current market prices for that period, as well as the types of derivative instruments held and the strike prices of those instruments. For example, the Company may enter into "out-of-the-money" option contracts (including catastrophic protection), which may not generate intrinsic gains at settlement if market prices do not rise above the option strike price. Therefore, even though the Company may have an economic

hedge in place for a particular period, that hedge may not produce any hedging gains at settlement and may even produce hedging losses depending on market prices, the types of instruments held, and the strike prices of those instruments.

For 2018, the Company had fuel derivative instruments in place for up to 79 percent of its fuel consumption. As of December 31, 2018, the Company also had fuel derivative instruments in place to provide coverage at varying price levels, but up to a maximum of approximately 70 percent of its 2019 estimated fuel consumption, depending on where market prices settle. The following table provides information about the Company’s volume of fuel hedging on an economic basis considering current market prices:

		Maximum fuel hedged as of
		December 31, 2018			Derivative underlying commodity type as of
Period (by year)		(gallons in millions) (a)			December 31, 2018
2019		1,519			WTI crude and Brent crude oil
2020		1,207			WTI crude and Brent crude oil
2021		466			WTI crude and Brent crude oil
2022		88			WTI crude oil

(a) Due to the types of derivatives utilized by the Company and different price levels of those contracts, these volumes represent the maximum economic hedge in place and may vary significantly as market prices fluctuate.

Upon proper qualification, the Company accounts for its fuel derivative instruments as cash flow hedges. The Company adopted the New Hedging Standard as of January 1, 2018. See Note 2 for further information on this adoption. Under the New Hedging Standard, all periodic changes in fair value of the derivatives designated as hedges are recorded in AOCI until the underlying jet fuel is consumed. See Note 12. Prior to the adoption of the New Hedging Standard, ineffectiveness resulted when the change in the fair value of the derivative instrument exceeded the change in the value of the Company’s expected future cash outlay to purchase and consume jet fuel. Prior to 2018, those expected future cash outlays represented forecasted forward jet fuel prices, which were estimated through utilization of a statistical–based regression equation with data from market forward prices of like commodities. This equation was then adjusted for certain items, such as transportation costs, that are stated in the Company’s fuel purchasing contracts with its vendors. To the extent that the periodic changes in the fair value of the derivatives were ineffective, the ineffective portion was recorded to Other (gains) losses, net, in the Consolidated Statement of Income in the period of the change.

The Company's results are subject to the possibility that the derivatives will no longer qualify for hedge accounting, in which case any change in the fair value of derivative instruments since the last reporting period would be recorded in Other (gains) losses, net, in the Consolidated Statement of Income in the period of the change; however, any amounts previously recorded to AOCI would remain there until such time as the original forecasted transaction occurs, at which time these amounts would be reclassified to Fuel and oil expense. Factors that have and may continue to lead to the loss of hedge accounting include: significant fluctuation in energy prices, significant weather events affecting refinery capacity and the production of refined products, and the volatility of the different types of products the Company uses in hedging. Increased volatility in these commodity markets for an extended period of time, especially if such volatility were to worsen, could cause the Company to lose hedge accounting altogether for the commodities used in its fuel hedging program, which would create further volatility in the Company’s GAAP financial results. However, even though derivatives may not qualify for hedge accounting, the Company continues to hold the instruments as management believes derivative instruments continue to afford the Company the opportunity to stabilize jet fuel costs. When the Company has sold derivative positions in order to effectively "close" or offset a derivative already held as part of its fuel derivative instrument portfolio, any subsequent changes in fair value of those positions are marked to market through earnings. Likewise, any changes in fair value of those positions that were offset by entering into the sold positions and were de-designated as hedges are concurrently marked to market through earnings. However, any changes in value related to hedges that were deferred as part of AOCI while designated as a hedge would remain until the originally forecasted transaction occurs. In a situation where it becomes probable that a fuel hedged forecasted

transaction will not occur, any gains and/or losses that have been recorded to AOCI would be required to be immediately reclassified into earnings. The Company did not have any such situations occur during 2018, 2017, or 2016.

Accounting pronouncements pertaining to derivative instruments and hedging are complex with stringent requirements, including the documentation of a Company hedging strategy, statistical analysis to qualify a commodity for hedge accounting both on a historical and a prospective basis, and strict contemporaneous documentation that is required at the time each hedge is designated by the Company. This statistical analysis involves utilizing regression analyses that compare changes in the price of jet fuel to changes in the prices of the commodities used for hedging purposes.

All cash flows associated with purchasing and selling fuel derivatives are classified as Other operating cash flows in the Consolidated Statement of Cash Flows. The following table presents the location of all assets and liabilities associated with the Company’s derivative instruments within the Consolidated Balance Sheet:

				Asset derivatives								Liability derivatives
		Balance Sheet		Fair value at				Fair value at				Fair value at				Fair value at
(in millions)		location		12/31/2018				12/31/2017				12/31/2018				12/31/2017
Derivatives designated as hedges (a)
Fuel derivative contracts (gross)		Prepaid expenses and other current assets		$	43			$	112			$	—			$	—
Fuel derivative contracts (gross)		Other assets		95				136				—				—
Interest rate derivative contracts		Accrued liabilities		—				—				2				—
Interest rate derivative contracts		Other noncurrent liabilities		—				—				12				20
Total derivatives designated as hedges				$	138			$	248			$	14			$	20
Derivatives not designated as hedges (a)
Fuel derivative contracts (gross)		Prepaid expenses and other current assets		$	—			$	35			$	—			$	35
Interest rate derivative contracts		Accrued liabilities		—				—				—				1
Interest rate derivative contracts		Other noncurrent liabilities		—				—				—				1
Total derivatives not designated as hedges				$	—			$	35			$	—			$	37
Total derivatives				$	138			$	283			$	14			$	57

(a) Represents the position of each trade before consideration of offsetting positions with each counterparty and does not include the impact of cash collateral deposits provided to or received from counterparties. See discussion of credit risk and collateral following in this Note.

The following table presents the amounts recorded on the Consolidated Balance Sheet related to fair value hedges:

Balance Sheet location of hedged item		Carrying amount of the hedged liabilities								Cumulative amount of fair value hedging adjustment included in the carrying amount of the hedged liabilities (a)
		December 31,								December 31,
(in millions)		2018				2017				2018				2017
Long-term debt less current maturities		$	791			$	791			$	11			$	12

(a) At December 31, 2018 and 2017, these amounts include the cumulative amount of fair value hedging adjustments remaining for which hedge accounting has been discontinued of $20 million and $21 million, respectively.

In addition, the Company also had the following amounts associated with fuel derivative instruments and hedging activities in its Consolidated Balance Sheet:

		Balance Sheet		December 31,				December 31,
(in millions)		location		2018				2017
Cash collateral deposits held from counterparties for fuel contracts - current		Offset against Prepaid expenses and other current assets		$	—			$	15
Due to third parties for fuel contracts		Accounts payable		—				29
Receivable from third parties for fuel contracts		Accounts and other receivables		2				—

All of the Company's fuel derivative instruments and interest rate swaps are subject to agreements that follow the netting guidance in the applicable accounting standards for derivatives and hedging. The types of derivative instruments the Company has determined are subject to netting requirements in the accompanying Consolidated Balance Sheet are those in which the Company pays or receives cash for transactions with the same counterparty and in the same currency via one net payment or receipt. For cash collateral held by the Company or provided to counterparties, the Company nets such amounts against the fair value of the Company's derivative portfolio by each counterparty. The Company has elected to utilize netting for both its fuel derivative instruments and interest rate swap agreements and also classifies such amounts as either current or noncurrent, based on the net fair value position with each of the Company's counterparties in the Consolidated Balance Sheet.

The Company's application of its netting policy associated with cash collateral differs depending on whether its derivative instruments are in a net asset position or a net liability position. If its fuel derivative instruments are in a net asset position with a counterparty, cash collateral amounts held are first netted against current outstanding derivative asset amounts associated with that counterparty until that balance is zero, and then any remainder is applied against the fair value of noncurrent outstanding derivative instruments. If the Company's fuel derivative instruments are in a net liability position with the counterparty, cash collateral amounts provided are first netted against noncurrent outstanding derivative amounts associated with that counterparty until that balance is zero, and then any remainder is applied against the fair value of current outstanding derivative instruments.

The Company has the following recognized financial assets and financial liabilities resulting from those transactions that meet the scope of the disclosure requirements as necessitated by applicable accounting guidance for balance sheet offsetting:

Offsetting of derivative assets
(in millions)
				(i)				(ii)				(iii) = (i) + (ii)				(i)				(ii)				(iii) = (i) + (ii)
				December 31, 2018												December 31, 2017
Description		Balance Sheet location		Gross amounts of recognized assets				Gross amounts offset in the Balance Sheet				Net amounts of assets presented in the Balance Sheet				Gross amounts of recognized assets				Gross amounts offset in the Balance Sheet				Net amounts of assets presented in the Balance Sheet
Fuel derivative contracts		Prepaid expenses and other current assets		$	43			$	—			$	43			$	147			$	(50	)		$	97
Fuel derivative contracts		Other assets		$	95			$	—			$	95		(a)	$	136			$	—			$	136		(a)

(a) The net amounts of derivative assets and liabilities are reconciled to the individual line item amounts presented in the Consolidated Balance Sheet in Note 15.

Offsetting of derivative liabilities
(in millions)
				(i)				(ii)				(iii) = (i) + (ii)				(i)				(ii)				(iii) = (i) + (ii)
				December 31, 2018												December 31, 2017
Description		Balance Sheet location		Gross amounts of recognized liabilities				Gross amounts offset in the Balance Sheet				Net amounts of liabilities presented in the Balance Sheet				Gross amounts of recognized liabilities				Gross amounts offset in the Balance Sheet				Net amounts of liabilities presented in the Balance Sheet
Fuel derivative contracts		Prepaid expenses and other current assets		$	—			$	—			$	—			$	50			$	(50	)		$	—
Interest rate derivative contracts		Accrued liabilities		$	2			$	—			$	2			$	1			$	—			$	1
Interest rate derivative contracts		Other noncurrent liabilities		$	12			$	—			$	12		(a)	$	21			$	—			$	21		(a)

(a) The net amounts of derivative assets and liabilities are reconciled to the individual line item amounts presented in the Consolidated Balance Sheet in Note 15.

The following tables present the impact of derivative instruments and their location within the Consolidated Statement of Income for the year ended December 31, 2018 and 2017:

Location and amount of (gain) loss recognized in income on cash flow and fair value hedging relationships
		Year ended December 31, 2018								Year ended December 31, 2017
(in millions)		Fuel and oil				Interest expense				Fuel and oil				Interest expense
Total		$	(33	)		$	37			$	552			$	33
(Gain) loss on cash flow hedging relationships:
Commodity contracts:
Amount of (gain) loss reclassified from AOCI into income		(33		)		—				552				—
Interest contracts:
Amount of loss reclassified from AOCI into income		—				6				—				11
Impact of fair value hedging relationships:
Interest contracts:
Hedged items		—				23				—				23
Derivatives designated as hedging instruments		—				8				—				(1		)

Derivatives designated and qualified in cash flow hedging relationships
	(Gain) loss recognized in AOCI on derivatives								(Gain) loss recognized in income on derivatives (ineffective portion)(a)
	Year ended								Year ended
	December 31,								December 31,
(in millions)	2018				2017				2018				2017
Fuel derivative contracts	$	1		*	$	32		*	$	—			$	31
Interest rate derivatives	(1		)	*	—			*	—				1
Total	$	—			$	32			$	—			$	32

*Net of tax

(a) Amounts are included in Other (gains) losses, net.

Derivatives not designated as hedges
	(Gain) loss
	recognized in income on
	derivatives
	Year ended								Location of (gain) loss
	December 31,								recognized in income
(in millions)	2018				2017				on derivatives
Fuel derivative contracts	$	—			$	75			Other (gains) losses, net
Interest rate derivatives	(2		)		(4		)		Interest Expense
Total	$	(2	)		$	71

The Company also recorded expense associated with premiums paid for fuel derivative contracts that settled/expired during 2018, 2017, and 2016 of $135 million, $136 million, and $154 million, respectively. These amounts are

recognized through changes in fair value within AOCI for designated hedges, and are ultimately recorded as a component of Fuel and oil in the Consolidated Statement of Income during the period the contracts settle.

The fair values of the derivative instruments, depending on the type of instrument, were determined by the use of present value methods or option value models with assumptions about commodity prices based on those observed in underlying markets or provided by third parties. Included in the Company’s cumulative net unrealized losses from fuel hedges as of December 31, 2018, recorded in AOCI, were approximately $36 million in unrealized losses, net of taxes, which are expected to be realized in earnings during the twelve months subsequent to December 31, 2018.

Interest Rate Swaps

The Company is party to certain interest rate swap agreements that are accounted for as either fair value hedges or cash flow hedges, as defined in the applicable accounting guidance for derivative instruments and hedging. The New Hedging Standard also addresses targeted improvements to special hedge accounting for interest rate hedges. Though the Company did not make any changes to the accounting for its current interest rate hedges as of the January 2018 adoption date, the New Hedging Standard provides the Company with more opportunities to achieve special hedge accounting for potential interest rate hedges in the future. Several of the Company's interest rate swap agreements qualify for the "shortcut" method of accounting for hedges, which dictates that the hedges are assumed to be perfectly effective, and, thus, there is no ineffectiveness to be recorded in earnings. For the Company’s interest rate swap agreements that do not qualify for the "shortcut" method of accounting, ineffectiveness is required to be measured at each reporting period. The ineffectiveness associated with all of the Company’s interest rate swap agreements for all periods presented was not material.

The fair values of the interest rate swap agreements, which are adjusted regularly, have been aggregated by counterparty for classification in the Consolidated Balance Sheet. Agreements totaling a net liability of $14 million are fair value hedges, cash flow hedges, and interest rate derivatives not utilizing hedge accounting, and are classified as components of Accrued liabilities and Other noncurrent liabilities. The corresponding adjustment related to the net liability associated with the Company’s cash flow hedges is to AOCI, fair value hedges is to the carrying value of the long-term debt, and interest rate derivatives not utilizing hedge accounting is to Interest expense. See Note 12.

The Company has fixed-to-floating interest rate swap agreements in place associated with its $500 million 2.65 percent Notes due 2020 and its $300 million 2.75 percent Notes due 2019 that are accounted for as fair value hedges. As a result of the fixed-to-floating interest rate swap agreements in place, the average floating rate recognized during 2018 was approximately 3.58 percent on the $500 million Notes, and approximately 3.40 percent on the $300 million Notes, based on actual and forward rates as of December 31, 2018.

The Company has floating-to-fixed interest rate swap agreements associated with its $600 million floating-rate term loan agreement due 2020 and its $332 million term loan agreement due 2019 that are accounted for as cash flow hedges. These interest rate hedges have fixed the interest rate on the $600 million floating-rate term loan agreement at 5.223 percent until maturity, and for the $332 million term loan agreement at 6.315 percent until maturity.

There are also a number of interest rate swap agreements, which convert a portion of AirTran Holdings' floating-rate debt to a fixed-rate basis for the remaining life of the debt, thus reducing the impact of interest rate changes on future interest expense and cash flows. Under these agreements, which expire between 2019 and 2020, AirTran Holdings pays fixed rates between 4.35 percent and 5.91 percent and receives either three-month or six-month LIBOR on the notional values. The notional amount of outstanding debt related to interest rate swaps as of December 31, 2018, was $57 million. The mark-to-market impact associated with these hedges for all periods presented was not material.

Credit Risk and Collateral

Credit exposure related to fuel derivative instruments is represented by the fair value of contracts that are an asset to the Company at the reporting date. At such times, these outstanding instruments expose the Company to credit loss in

the event of nonperformance by the counterparties to the agreements. However, the Company has not experienced any significant credit loss as a result of counterparty nonperformance in the past. To manage credit risk, the Company selects and periodically reviews counterparties based on credit ratings, limits its exposure with respect to each counterparty, and monitors the market position of the fuel hedging program and its relative market position with each counterparty. At December 31, 2018, the Company had agreements with all of its active counterparties containing early termination rights and/or bilateral collateral provisions whereby security is required if market risk exposure exceeds a specified threshold amount based on the counterparty credit rating. The Company also had agreements with counterparties in which cash deposits, letters of credit, and/or pledged aircraft are required to be posted as collateral whenever the net fair value of derivatives associated with those counterparties exceeds specific thresholds. In certain cases, the Company has the ability to substitute among these different forms of collateral at its discretion. The following table provides the fair values of fuel derivatives, amounts posted as collateral, and applicable collateral posting threshold amounts as of December 31, 2018, at which such postings are triggered:

	Counterparty (CP)
(in millions)	A				B				C				D				E				F				Other(a)				Total
Fair value of fuel derivatives	$	38			$	23			$	43			$	12			$	5			$	10			$	7			$	138
Cash collateral held from CP	—				—				—				—				—				—				—				—
Aircraft collateral pledged to CP	—				—				—				—				—				—				—				—
Letters of credit (LC)	—				—				—				—				—				—				—				—
Option to substitute LC for aircraft	(200) to (600)(b)				N/A				(150) to (550)(c)				(150) to (550)(c)				N/A				N/A
Option to substitute LC for cash	N/A				N/A				(75) to (150) or >(550)(c)				(125) to (150) or >(550)(d)				(d)				N/A
If credit rating is investment grade, fair value of fuel derivative level at which:
Cash is provided to CP	(50) to (200) or >(600)				>(50)				(75) to (150) or >(550)(e)				(125) to (150) or >(550)(e)				>(125)				>(70)(e)
Cash is received from CP	>50(e)				>150(e)				>250(e)				>125(e)				>100(e)				>70(e)
Aircraft or cash can be pledged to CP as collateral	(200) to (600)(f)				N/A				(150) to (550)(c)				(150) to (550)(c)				N/A				N/A
If credit rating is non-investment grade, fair value of fuel derivative level at which:
Cash is provided to CP	(0) to (200) or >(600)				(g)				(0) to (150) or >(550)				(0) to (150) or >(550)				(g)				(g)
Cash is received from CP	(g)				(g)				(g)				(g)				(g)				(g)
Aircraft or cash can be pledged to CP as collateral	(200) to (600)				N/A				(150) to (550)				(150) to (550)				N/A				N/A

(a) Individual counterparties with fair value of fuel derivatives <$5 million.

(b) The Company has the option of providing letters of credit in addition to aircraft collateral if the appraised value of the aircraft does not meet the collateral requirements.

(c) The Company has the option of providing cash, letters of credit, or pledging aircraft as collateral.

(d) The Company has the option to substitute letters of credit for 100 percent of cash collateral requirement.

(e) Thresholds may vary based on changes in credit ratings within investment grade.

(f) The Company has the option of providing cash or pledging aircraft as collateral.

(g) Cash collateral is provided at 100 percent of fair value of fuel derivative contracts.

11. FAIR VALUE MEASUREMENTS

Accounting standards pertaining to fair value measurements establish a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices

in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

As of December 31, 2018, the Company held certain items that are required to be measured at fair value on a recurring basis. These included cash equivalents, short-term investments (primarily treasury bills and certificates of deposit), interest rate derivative contracts, fuel derivative contracts, and available-for-sale securities. The majority of the Company’s short-term investments consist of instruments classified as Level 1. However, the Company has certificates of deposit, commercial paper, and time deposits that are classified as Level 2, due to the fact that the fair value for these instruments is determined utilizing observable inputs in non-active markets. Other available-for-sale securities primarily consist of investments associated with the Company’s excess benefit plan.

The Company’s fuel and interest rate derivative instruments consist of over-the-counter contracts, which are not traded on a public exchange. Fuel derivative instruments currently consist solely of option contracts, whereas interest rate derivatives consist solely of swap agreements. See Note 10 for further information on the Company’s derivative instruments and hedging activities. The fair values of swap contracts are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets. Therefore, the Company has categorized these swap contracts as Level 2. The Company’s Treasury Department, which reports to the Chief Financial Officer, determines the value of option contracts utilizing an option pricing model based on inputs that are either readily available in public markets, can be derived from information available in publicly quoted markets, or are provided by financial institutions that trade these contracts. The option pricing model used by the Company is an industry standard model for valuing options and is the same model used by the broker/dealer community (i.e., the Company’s counterparties). The inputs to this option pricing model are the option strike price, underlying price, risk free rate of interest, time to expiration, and volatility. Because certain inputs used to determine the fair value of option contracts are unobservable (principally implied volatility), the Company has categorized these option contracts as Level 3. Volatility information is obtained from external sources, but is analyzed by the Company for reasonableness and compared to similar information received from other external sources. The fair value of option contracts considers both the intrinsic value and any remaining time value associated with those derivatives that have not yet settled. The Company also considers counterparty credit risk and its own credit risk in its determination of all estimated fair values. To validate the reasonableness of the Company’s option pricing model, on a monthly basis, the Company compares its option valuations to third party valuations. If any significant differences were to be noted, they would be researched in order to determine the reason. However, historically, no significant differences have been noted. The Company has consistently applied these valuation techniques in all periods presented and believes it has obtained the most accurate information available for the types of derivative contracts it holds.

Included in Other available-for-sale securities are the Company's investments associated with its deferred compensation plans, which consist of mutual funds that are publicly traded and for which market prices are readily available. These plans are non-qualified deferred compensation plans designed to hold contributions in excess of limits established by the Internal Revenue Code of 1986, as amended. The distribution timing and payment amounts under these plans are made based on the participant's distribution election and plan balance. Assets related to the funded portions of the deferred compensation plans are held in a rabbi trust, and the Company remains liable to these participants for the unfunded portion of the plans. The Company records changes in the fair value of the assets in the Company's earnings.

The following tables present the Company’s assets and liabilities that are measured at fair value on a recurring basis at December 31, 2018, and December 31, 2017:

						Fair value measurements at reporting date using:
						Quoted prices in active markets for identical assets				Significant other observable inputs				Significant unobservable inputs
Description		December 31, 2018				(Level 1)				(Level 2)				(Level 3)
Assets		(in millions)
Cash equivalents
Cash equivalents (a)		$	1,392			$	1,392			$	—			$	—
Commercial paper		454				—				454				—
Certificates of deposit		8				—				8				—
Short-term investments:
Treasury bills		1,582				1,582				—				—
Certificates of deposit		228				—				228				—
Time deposits		25				—				25				—
Fuel derivatives:
Option contracts (b)		138				—				—				138
Other available-for-sale securities		127				127				—				—
Total assets		$	3,954			$	3,101			$	715			$	138
Liabilities
Interest rate derivatives (see Note 10)		(14		)		—				(14		)		—

(a) Cash equivalents are primarily composed of money market investments.

(b) In the Consolidated Balance Sheet amounts are presented as an asset. See Note 10.

						Fair value measurements at reporting date using:
						Quoted prices in active markets for identical assets				Significant other observable inputs				Significant unobservable inputs
Description		December 31, 2017				(Level 1)				(Level 2)				(Level 3)
Assets		(in millions)
Cash equivalents
Cash equivalents (a)		$	1,133			$	1,133			$	—			$	—
Commercial paper		350				—				350				—
Certificates of deposit		12				—				12				—
Short-term investments:
Treasury bills		1,491				1,491				—				—
Certificates of deposit		287				—				287				—
Fuel derivatives:
Option contracts (b)		283				—				—				283
Other available-for-sale securities		107				107				—				—
Total assets		$	3,663			$	2,731			$	649			$	283
Liabilities
Fuel derivatives:
Option contracts (b)		(35		)		—				—				(35		)
Interest rate derivatives (see Note 10)		(22		)		—				(22		)		—
Total liabilities		$	(57	)		$	—			$	(22	)		$	(35	)

(a) Cash equivalents are primarily composed of money market investments.

(b) In the Consolidated Balance Sheet amounts are presented as a net asset. See Note 10.

The Company had no transfers of assets or liabilities between any of the above levels during the years ended December 31, 2018 or 2017. The Company did not have any assets or liabilities measured at fair value on a nonrecurring basis as of December 31, 2018 or 2017. The following tables present the Company’s activity for items measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for 2018 and 2017:

Fair value measurements using significant unobservable inputs (Level 3)
	Fuel
(in millions)	derivatives
Balance at December 31, 2017	$	248
Total losses (realized or unrealized) included in other comprehensive income	(1		)
Purchases	66			(a)
Sales	(4		)	(a)
Settlements	(171		)
Balance at December 31, 2018	$	138

(a) The purchase and sale of fuel derivatives are recorded gross based on the structure of the derivative instrument and

whether a contract with multiple derivatives is purchased as a single instrument or separate instruments.

Fair value measurements using significant unobservable inputs (Level 3)
	Fuel
(in millions)	derivatives
Balance at December 31, 2016	$	(258	)
Total losses (realized or unrealized)
Included in earnings	(125		)
Included in other comprehensive income	(50		)
Purchases	142			(a)
Sales	—			(a)
Settlements	539
Balance at December 31, 2017	$	248
The amount of total losses for the period included in earnings attributable to the change in unrealized gains or losses relating to assets still held at December 31, 2016	$	(42	)

(a) The purchase and sale of fuel derivatives are recorded gross based on the structure of the derivative instrument and

whether a contract with multiple derivatives is purchased as a single instrument or separate instruments.

The significant unobservable input used in the fair value measurement of the Company’s derivative option contracts is implied volatility. Holding other inputs constant, an increase (decrease) in implied volatility would result in a higher (lower) fair value measurement, respectively, for the Company’s derivative option contracts.

The following table presents a range of the unobservable inputs utilized in the fair value measurements of the Company’s fuel derivatives classified as Level 3 at December 31, 2018:

Quantitative information about Level 3 fair value measurements
	Valuation technique	Unobservable input	Period (by year)	Range
Fuel derivatives	Option model	Implied volatility	2019	29-49%
			2020	22-31%
			2021	19-24%
			2022	20-21%

The carrying amounts and estimated fair values of the Company’s long-term debt (including current maturities), as well as the applicable fair value hierarchy tier, at December 31, 2018, are presented in the table below. The fair values of the Company’s publicly held long-term debt are determined based on inputs that are readily available in public markets or can be derived from information available in publicly quoted markets; therefore, the Company has categorized these agreements as Level 2. Debt under five of the Company’s debt agreements is not publicly held. The Company has determined the estimated fair value of this debt to be Level 3, as certain inputs used to determine the fair value of these agreements are unobservable. The Company utilizes indicative pricing from counterparties and a discounted cash flow method to estimate the fair value of the Level 3 items.

(in millions)	Carrying value				Estimated fair value				Fair value level hierarchy
2.75% Notes due November 2019	$	300			$	299			Level 2
Term Loan Agreement payable through May 2019 - 6.315%	23				23				Level 3
Term Loan Agreement payable through July 2019 - 4.84%	10				10				Level 3
2.65% Notes due 2020	492				486				Level 2
Term Loan Agreement payable through 2020 - 5.223%	187				187				Level 3
737 Aircraft Notes payable through 2020	67				67				Level 3
2.75% Notes due 2022	300				293				Level 2
Pass Through Certificates due 2022 - 6.24%	250				263				Level 2
Term Loan Agreement payable through 2026 - 3.88%	197				197				Level 3
3.00% Notes due 2026	300				279				Level 2
3.45% Notes due 2027	300				286				Level 2
7.375% Debentures due 2027	125				146				Level 2

12. ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Comprehensive income includes changes in the fair value of certain financial derivative instruments that qualify for hedge accounting, unrealized gains and losses on certain investments, and actuarial gains/losses arising from the Company’s postretirement benefit obligation. A rollforward of the amounts included in AOCI, net of taxes, is shown below for 2018 and 2017:

(in millions)	Fuel derivatives				Interest rate derivatives				Defined benefit plan items				Other				Deferred tax impact				Accumulated other comprehensive income (loss)
Balance at December 31, 2016	$	(499	)		$	(18	)		$	(14	)		$	20			$	188			$	(323	)
Changes in fair value	(50		)		—				5				13				11				(21		)
Reclassification to earnings	552				11				—				—				(207		)		356
Balance at December 31, 2017	$	3			$	(7	)		$	(9	)		$	33			$	(8	)		$	12
ASU 2017-12 adoption adjustment (a)	(26		)		—				—				—				6				(20		)
ASU 2018-02 stranded AOCI adoption adjustment (b)	—				—				—				—				2				2
Changes in fair value	—				1				67				(8		)		(14		)		46
Reclassification to earnings	(33		)		6				—				—				7				(20		)
Balance at December 31, 2018	$	(56	)		$	—			$	58			$	25			$	(7	)		$	20

(a) The Company adopted the New Hedging Standard as of January 1, 2018. See Note 2 for further information on this adoption.

(b) The Company adopted the Reclassification of Certain Tax Effects from AOCI as of January 1, 2018, which allowed the Company to reclassify to Retained earnings any tax effects stranded in AOCI as a result of the Tax Cuts and Jobs Act enacted in December 2017.

The following table illustrates the significant amounts reclassified out of each component of AOCI for the year ended December 31, 2018:

Year ended December 31, 2018
(in millions)		Amounts reclassified from AOCI				Affected line item in the Consolidated Statement of Comprehensive Income
AOCI components
Unrealized gain on fuel derivative instruments		$	(33	)		Fuel and oil expense
		(8		)		Less: Tax expense
		$	(25	)		Net of tax
Unrealized loss on interest rate derivative instruments		$	6			Interest expense
		1				Less: Tax expense
		$	5			Net of tax
Total reclassifications for the period		$	(20	)		Net of tax

13. EMPLOYEE RETIREMENT PLANS

Defined Contribution Plans

Southwest has defined contribution plans covering substantially all of its Employees. Contributions under all defined contribution plans are primarily based on Employee compensation and performance of the Company. The Company sponsors Employee savings plans under section 401(k) of the Internal Revenue Code of 1986, as amended. The Southwest Airlines Co. 401(k) Plan includes Company matching contributions and the Southwest Airlines Pilots Retirement Saving Plan has non-elective Company contributions. In addition, the Southwest Airlines Co. ProfitSharing

Plan (ProfitSharing Plan) is a defined contribution plan to which the Company may contribute a percentage of its eligible pre-tax profits, as defined, on an annual basis. No Employee contributions to the ProfitSharing Plan are allowed.

Amounts associated with the Company's defined contribution plans expensed in 2018, 2017, and 2016, reflected as a component of Salaries, wages, and benefits, were $1.0 billion, $1.0 billion, and $937 million, respectively.

Postretirement Benefit Plans

The Company provides postretirement benefits to qualified retirees in the form of medical and dental coverage. Employees must meet minimum levels of service and age requirements as set forth by the Company, or as specified in collective-bargaining agreements with specific workgroups. Employees meeting these requirements, as defined, may use accrued unused sick time to pay for medical and dental premiums from the age of retirement until age 65.

The following table shows the change in the accumulated postretirement benefit obligation ("APBO") for the years ended December 31, 2018 and 2017:

(in millions)		2018				2017
APBO at beginning of period		$	275			$	256
Service cost		18				18
Interest cost		9				11
Benefits paid		(5		)		(8		)
Actuarial gain		(69		)		(2		)
Plan amendments		4				—
APBO at end of period		$	232			$	275

During 2018, the Company recorded a $69 million actuarial gain as a decrease to the APBO with an offset to AOCI. This actuarial gain is reflected above and resulted from changes in certain key assumptions used to determine the Company’s year-end obligation. The assumption change that resulted in the largest portion of the actuarial gain was the expected per capita costs for future qualifying retirees, which reflects lower expectations based on recent history.

All plans are unfunded, and benefits are paid as they become due. Estimated future benefit payments expected to be paid are $8 million in 2019, $9 million in 2020, $10 million in 2021, $11 million in 2022, $13 million in 2023, and $93 million for the next five years thereafter.

The funded status (the difference between the fair value of plan assets and the projected benefit obligations) of the Company’s consolidated benefit plans are recognized in the Consolidated Balance Sheet, with a corresponding adjustment to AOCI. The following table reconciles the funded status of the plans to the accrued postretirement benefit cost recognized in Other non-current liabilities on the Company’s Consolidated Balance Sheet at December 31, 2018 and 2017.

(in millions)		2018				2017
Funded status		$	(232	)		$	(275	)
Unrecognized net actuarial (gain) loss		(64		)		5
Unrecognized prior service cost		5				4
Accumulated other comprehensive income (loss)		59				(9		)
Cost recognized on Consolidated Balance Sheet		$	(232	)		$	(275	)

The consolidated periodic postretirement benefit cost for the years ended December 31, 2018, 2017, and 2016, included the following:

(in millions)		2018				2017				2016
Service cost		$	18			$	18			$	13
Interest cost		9				11				9
Amortization of prior service cost		3				3				3
Net periodic postretirement benefit cost		$	30			$	32			$	25

Service cost is recognized within Salaries, wages, and benefits expense, and all other costs are recognized in Other (gains) losses, net in the Consolidated Statement of Income. Unrecognized prior service cost is expensed using a straight-line amortization of the cost over the average future service of Employees expected to receive benefits under the plans. Actuarial gains are amortized utilizing the minimum amortization method. The following actuarial assumptions were used to account for the Company’s postretirement benefit plans at December 31, 2018, 2017, and 2016:

		2018			2017			2016
Weighted-average discount rate		4.35	%		3.65	%		4.25	%
Assumed healthcare cost trend rate (a)		7.13	%		7.08	%		7.08	%

(a)	The assumed healthcare cost trend rate is assumed to be 7.13% for 2019, then decline gradually to 5.19% by 2027 and remain level thereafter.

The selection of a discount rate is made annually and is selected by the Company based upon comparison of the expected future cash flows associated with the Company’s future payments under its consolidated postretirement obligations to a yield curve created using high quality bonds that closely match those expected future cash flows. This rate increased during 2018 due to market conditions. The assumed healthcare trend rate is also reviewed at least annually and is determined based upon both historical experience with the Company’s healthcare benefits paid and expectations of how those trends may or may not change in future years.

14. INCOME TAXES

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The Tax Cuts and Jobs Act (the "Act") was enacted on December 22, 2017. The Act reduces the U.S. federal corporate tax rate from the previous rate of 35 percent to 21 percent, required companies to pay a one-time transition tax on earnings of certain foreign subsidiaries that were previously tax deferred, and created new taxes on certain foreign sourced earnings. At December 31, 2017, the Company calculated the accounting for the tax effects of enactment of the Act as written, and recorded the effects on the existing deferred tax balances. The components of deferred tax assets and liabilities at December 31, 2018 and 2017, are as follows:

		2018				2017
(in millions)						As Recast
DEFERRED TAX LIABILITIES:
Accelerated depreciation		$	3,395			$	3,123
Other		92				83
Total deferred tax liabilities		3,487				3,206
DEFERRED TAX ASSETS:
Construction obligation		355				318
Accrued employee benefits		329				301
Rapid rewards loyalty liability		267				338
Other		109				130
Total deferred tax assets		1,060				1,087
Net deferred tax liability		$	2,427			$	2,119

The provision (benefit) for income taxes is composed of the following:

		2018				2017				2016
(in millions)						As Recast				As Recast
CURRENT:
Federal		$	338			$	904			$	778
State		60				72				69
Total current		398				976				847
DEFERRED:
Federal		299				200				393
State		2				2				27
Change in federal statutory tax rate		—				(1,270		)		—
Total deferred		301				(1,068		)		420
		$	699			$	(92	)		$	1,267

The effective tax rate on income before income taxes differed from the federal income tax statutory rate for the following reasons:

		2018				2017				2016
(in millions)						As Recast				As Recast
Tax at statutory U.S. tax rates		$	664			$	1,143			$	1,208
State income taxes, net of federal benefit		49				50				62
Change in federal statutory tax rate		—				(1,270		)		—
Other, net		(14		)		(15		)		(3		)
Total income tax provision (benefit)		$	699			$	(92	)		$	1,267

The only period subject to examination for the Company’s federal tax return is the 2018 tax year. The Company is also subject to various examinations from state and local income tax jurisdictions in the ordinary course of business. These examinations are not expected to have a material effect on the financial results of the Company.

15. SUPPLEMENTAL FINANCIAL INFORMATION

(in millions)		December 31, 2018				December 31, 2017
Derivative contracts		$	95			$	136
Intangible assets, net		400				413
Capital lease receivable		61				76
Other		164				161
Other assets		$	720			$	786

(in millions)		December 31, 2018				December 31, 2017
Accounts payable trade		$	263			$	186
Salaries payable		216				201
Taxes payable		220				203
Aircraft maintenance payable		69				38
Fuel payable		122				123
Other payable		526				569
Accounts payable		$	1,416			$	1,320

(in millions)		December 31, 2018				December 31, 2017
Profitsharing and savings plans		$	580			$	579
Aircraft and other lease related obligations		37				40
Permanently grounded aircraft liability		—				34
Vacation pay		403				365
Health		107				100
Workers compensation		166				172
Property and income taxes		68				57
Other		388				353
Accrued liabilities		$	1,749			$	1,700

(in millions)		December 31, 2018				December 31, 2017
Postretirement obligation		$	232			$	275
Non-current lease-related obligations		48				85
Permanently grounded aircraft liability		—				13
Other deferred compensation		247				237
Derivative contracts		12				21
Other		111				76
Other noncurrent liabilities		$	650			$	707

For further information on fuel derivative and interest rate derivative contracts, see Note 10.

Other Operating Expenses

Other operating expenses consist of distribution costs, advertising expenses, personnel expenses, professional fees, and other operating costs, none of which individually exceed 10 percent of Operating expenses.

Report of Independent Registered Public Accounting Firm

To the Shareholders and the Board of Directors of Southwest Airlines Co.

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Southwest Airlines Co. (the Company) as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the consolidated financial position of the Company at December 31, 2018 and 2017, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2018, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 5, 2019 expressed an unqualified opinion thereon.

Adoption of New Accounting Standards

As discussed in Note 2 to the consolidated financial statements, the Company changed its method of accounting for its revenue from contracts with customers, postretirement benefit cost and financial derivatives instruments in 2018 due to the full retrospective adoption of ASU No. 2014-09, Revenue from Contracts with Customers, retrospective adoption of ASU No. 2017-07, Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost, and modified retrospective adoption of ASU No. 2017-12, Targeted Improvements to Accounting for Hedging Activities.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to fraud or error, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ Ernst & Young LLP

We have served as the Company’s auditor since 1971.

Dallas, Texas

February 5, 2019

Report of Independent Registered Public Accounting Firm

To the Shareholders and the Board of Directors of Southwest Airlines Co.

Opinion on Internal Control over Financial Reporting

We have audited Southwest Airlines Co.’s internal control over financial reporting as of December 31, 2018, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 Framework), (the COSO criteria). In our opinion, Southwest Airlines Co. (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2018, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of Southwest Airlines Co. as of December 31, 2018 and 2017, the related consolidated statements of income, comprehensive income, stockholders’ equity and cash flows for each of the three years in the period ended December 31, 2018, and the related notes (collectively referred to as the “financial statements”) of the Company and our report dated February 5, 2019 expressed an unqualified opinion thereon.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying “Management’s Annual Report on Internal Control Over Financial Reporting”. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.

Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

/s/ Ernst & Young LLP

Dallas, Texas

February 5, 2019

QUARTERLY FINANCIAL DATA

(unaudited)

		Three months ended
(in millions except per share amounts)		March 31				June 30				Sept. 30				Dec. 31
2018
Operating revenues		$	4,944			$	5,742			$	5,575			$	5,704
Operating income		616				972				798				820
Income before income taxes		602				960				786				817
Net income		463				733				615				654
Net income per share, basic		0.79				1.27				1.08				1.17
Net income per share, diluted		0.79				1.27				1.08				1.17
		March 31				June 30				Sept. 30				Dec. 31
		As Recast				As Recast				As Recast				As Recast
2017
Operating revenues		$	4,854			$	5,731			$	5,303			$	5,258
Operating income		606				1,215				845				741
Income before income taxes		532				1,165				832				736
Net income		339				743				528				1,747			(a)
Net income per share, basic		0.55				1.23				0.88				2.95			(a)
Net income per share, diluted		0.55				1.23				0.88				2.94			(a)

(a) Includes a $1.3 billion reduction in Provision for income taxes related to the Tax Cuts and Jobs Act legislation enacted in December 2017, which resulted in a re-measurement of the Company's deferred tax assets and liabilities at the new federal corporate tax rate of 21 percent. See Note 14 to the Consolidated Financial Statements for further information.