Norfolk Southern Brings Up the Railroad Rear

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Norfolk Southern's (NYSE: NSC  ) position as the last of the major North American railroads to report third-quarter earnings resonated with a certain appropriateness this time around. While this transport giant may run ahead of the pack when it comes to innovating solutions for a greener tomorrow, today it stands as the railroad most heavily affected by persistent weakness in every relevant sector of the domestic economy.

I'm here to remind you that this is entirely out of their hands.

The hauler bested analyst estimates by a couple of pennies per share, but those analysts had good reason to anticipate a rocky quarter. Throughout the period, and indeed all year long, Norfolk Southern has seen its total freight volumes decline to a greater degree than its competitors. Burlington Northern Santa Fe (NYSE: BNI  ) -- a core holding of Berkshire Hathaway (NYSE: BRK-A  ) -- has run into greater relative volume weakness in recent weeks, but over the whole of 2009 to date … Norfolk Southern has been the unlucky laggard.

A surprising 6.2% pricing increase limited Norfolk's revenue decline to 29%, while net earnings took a more severe slide of 42% to land at $303 million. Like its East Coast rival CSX (NYSE: CSX  ) , Norfolk Southern observed a clear near-term boost to automotive volumes as "Cash for Clunkers" drove a 23% sequential improvement from the second quarter. Overall, notwithstanding sequential improvement across all freight categories, Norfolk Southern hauled 20% less freight than it had in the prior-year quarter. Compared with 15% declines recorded by CSX and relative standout Canadian National Railway (NYSE: CNI  ) , this lies at the heart of Norfolk Southern's underperformance relative to its peers.

Norfolk Southern is particularly exposed to the vagaries of the domestic coal market, and the company's 22% decline in coal volumes -- alongside a 35% drop in related revenue -- underscores the persistent weakness that miners like Peabody Energy (NYSE: BTU  ) and CONSOL Energy (NYSE: CNX  ) have observed.

As I've stated before, the variable repercussions of this economic downturn are out of the hands of these highly efficient cargo handlers. Readers are advised that these factors are completely independent of the entire group's noteworthy achievements in meeting challenging business conditions with skillfully heightened efficiency.

Norfolk Southern turned in an entirely respectable operating ratio of 72.8% for the quarter, which outshines those of both Burlington Northern and CSX. Going forward, I see the sector steaming towards optimal efficiency as a response to domestic freight demand that has likely to plateau in the near term. Despite their best operational efforts, I find no compelling reason to invest in railroads at this time, but invite you to share your thoughts in the comments section below.

The CAPS community has shared its collective insight on 35 "road and rail" companies. Join the free CAPS community today and share your views on how the rail industry will fare throughout these persistent economic headwinds.

Fool contributor Christopher Barker has never hopped a freight train, but he thinks it would be a fun place to learn the harmonica. He can be found blogging actively and acting Foolishly within the CAPS community under the username TMFSinchiruna. He also tweets. He owns shares of Peabody Energy. Berkshire Hathaway and Canadian National Railway are Motley Fool Stock Advisor picks. Berkshire Hathaway is a Motley Fool Inside Value selection. The Fool owns shares of Berkshire Hathaway. Try any of our Foolish newsletters today, free for 30 days.

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Read/Post Comments (2) | Recommend This Article (5)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On November 01, 2009, at 7:32 PM, bivy4114 wrote:

    I think this may be the best time to buy NSC. Norfolk Southern is only trading at about 13 times earnings. They have good profit margins, good return on equity, and excellent management. However, I am also concerned about their reliance on the coal and auto industries. NSC has been able to diversify in the past, and I feel confident current management can do the same if needed. Norfolk Southern's dedication to greener transportation also works to its advantage. With so much importance being placed on green technology, it is not crazy to think that future legislation may provide incentives to ship with energy efficient shippers such as railroads. I think the significant drop in price during the last 52 weeks has provided us with a great entry point for this stock. I would not be too concerned about it being too early in the economic cycle. I think it is safe enough to buy now.

  • Report this Comment On November 03, 2009, at 8:07 AM, Crosshair wrote:

    On July 8, 2009, I conducted a thorough valuation of BNI and, for all who've listened, one could have generated a 32% return. There have been numerous articles written on the railroad industry of late, but none address the central issue of value. I applaud all who dig into the numbers to uncover potential trouble spots. But, one must never lose sight of how the market is pricing the expected growth rate. It could so happen the market is over-discounting a security, at which point an opportunity could arise.

    If you think you've covered yourself by throwing around P/E numbers, think again. Any valuation work deserves considerably more work.

    Here is my challenge; whenever writing an article on the merits of an investment, please highlight exactly how your outlook impacts the valuation of the security. Simply stating that "margin compression could put pressure on the stock price" is absurdly undercutting the work any proper investor ought to perform.

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