July 24 (Bloomberg) -- Southwest Airlines Co., the only big U.S. carrier that's still profitable, said second-quarter net income increased 15 percent as fuel contracts bought in advance helped protect it from rising prices.

Earnings climbed to $321 million, or 44 cents a share, Southwest said in a statement today. While profit beat analysts' estimates after a one-time gain is excluded, the shares fell the most in four months as the price of jet fuel rose for the first time in three days.

The hedges blunted an 80 percent jump in the average price from a year earlier, a surge that spurred net losses of $6.2 billion at the six other large U.S. airlines. Even with hedges, Dallas-based Southwest's fuel expense rose 47 percent to $894 million, its biggest cost.

``The recent dip in oil will help Southwest's long-term hedging,'' Standard & Poor's analyst Jim Corridore in New York said in a note. ``Southwest is gaining market share by growing modestly in strong markets while the rest of the industry shrinks.''

Southwest's net income included a one-time gain of $329 million to adjust the value of future hedging contracts. Without that gain, profit would have been $121 million, or 16 cents a share, beating the 12-cent average estimate on that basis among 13 analysts surveyed by Bloomberg.

Role of Hedging

``Our fuel-hedging program is a very critical aspect of our preparedness,'' Chief Executive Officer Gary Kelly, 53, said in a Bloomberg Television interview. ``It's huge, but it's not the total answer. We've got to continue to make other adjustments.''

Southwest dropped 98 cents, or 6.2 percent, to $14.90 at 4:02 p.m. in New York Stock Exchange composite trading, the biggest drop since March 12. Other airline shares also declined as crude oil rose in New York from a seven-week low.

Net income a year earlier was $278 million, or 36 cents a share. Last quarter's sales gained 11 percent to a record $2.87 billion.

Southwest today reaffirmed its plan to increase capacity this year by 4 percent, and said it may not add seating in 2009. The airline is ``weeks'' away from completing its 2009 plans, Kelly said today in an interview.

While a no-expansion strategy would break with Southwest's usual practice, the carrier is outperforming full-fare competitors amid this year's record jump in fuel prices. U.S. airlines plan to ground more than 465 jets and eliminate almost 26,000 jobs starting in September to stem losses.

Competitors will cut capacity 15 percent in Southwest markets after Labor Day, Kelly said.

`Quite Concerned'

``It's a very strong environment for us on one hand,'' Kelly said on a conference call with analysts. ``On the other hand, we just don't know what the overall traffic demand will be because of a weakening economy. We're quite concerned about that.''

Southwest is winning passengers from airlines that recently began charging to check bags, Kelly said. ``Our reservation agents tell me the first question they get when customers are calling now is, `Do you charge to check a bag?''' he said.

Average one-way fares climbed 8.4 percent last quarter to $114.48 as Southwest boosted prices four times. The frequency of the moves ``absolutely'' is more aggressive to help offset the higher fuel costs, Kelly said.

``We feel like if we can make those fare increases gradual, that customers will adjust,'' he said. ``This is a very tough time to raise fares because the economy is so sluggish.''

Higher Fares

Business and leisure travelers alike are making fewer trips, and Southwest expects to fill fewer seats on its jets this quarter, Kelly said. Still, higher average fares should produce ``solid'' growth in revenue for each seat flown a mile, he said. July revenue on that basis should increase 8 percent, Chief Financial Officer Laura Wright said.

Southwest's cost to fly each seat a mile, a measure of efficiency, rose 1.8 percent, excluding fuel. The increase was less than forecast on a 3 percent reduction in fuel use and a 4.5 percent improvement in employee productivity. Including fuel, those costs climbed almost 11 percent.

The airline remains in talks with the Federal Aviation Administration over a proposed $10.2 million fine for flying some of its Boeing Co. 737s without required fuselage inspections, Kelly said.

To contact the reporter on this story: Mary Schlangenstein in Dallas at maryc.s@bloomberg.net

Last Updated: July 24, 2008 16:21 EDT