Source: Norfolk Southern.
Railroad company Norfolk Southern (NSC 0.42%) produced record earnings results in its most recent quarter, reaching unprecedented levels on earnings per share, operating revenue, and net income. Even as its peers have struggled with the problems shaking the industry, especially those railroads that have traditionally relied on shipping coal for a substantial part of their business, Norfolk Southern has bucked the trend and produced growth. Let's look at five things that Norfolk Southern's management team highlighted in its latest conference call to see what they say about the railroad's future.
[W]e don't necessarily see the same kind of volume growth being sustained for the balance of 2014, [but] our results show the strength of our franchise and our potential for ongoing improvement.
-- CEO Wick Moorman
Norfolk Southern saw extraordinary gains in volume across all of its business lines during the second quarter. Shipments of metals and construction materials rose 13%, while chemicals gained 7% and intermodal volume climbed 11%. Even coal volumes rose, with increased demand from the utility sector offsetting a drop in export traffic.
Source: Norfolk Southern.
Moreover, conditions appear to be ripe for continued improvement. Chief Marketing Officer Don Seale noted that the company expects greater shipments of coal to utility customers as natural gas prices remain high, and intermodal and merchandise volumes should also keep growing. As economic conditions improve across multiple industries, Norfolk Southern is poised to take advantage of rising demand for the raw materials those industries need.
[W]e're seeing a continued conversion of utility coal from central Appalachia with higher cost of production to the Illinois basin and to northern Appalachia. ... We expect [utility] replenishment to continue in the second half of 2014 and also higher natural gas prices have created a situation where thermal coal is dispatching at a higher rate in the south than it did this time last year.
-- CMO Don Seale
Given Norfolk Southern's geographical focus on the eastern U.S., coal remains important to its overall results. So far, high demand from the company's southern-based utility customers for coal from the northern end of its service area has helped keep Norfolk Southern's overall coal volumes up. More encouragingly, Seale asserted that even though coal for export has been weak, the market seems to have hit bottom; if anything, Norfolk Southern expects a bounce when global macroeconomic conditions improve enough to warrant greater demand. As CSX starts looking more for alternatives to coal, the ability to keep profiting from it could give Norfolk Southern an edge.
There are some questions marks on the regulatory front, most immediately concerning the transportation of crude oil. But I remain convinced that the U.S. rail system can transport crude oil safely and that the regulators understand and believe that as well, and that they will not issue rules which will seriously diminish our ability to do so.
-- Moorman
One of the biggest questions facing Norfolk Southern, CSX, and Union Pacific is whether they'll be allowed to keep moving crude by rail. Derailment accidents have pushed safety concerns into the spotlight, and moves such as cutting maximum speeds or limiting the size of crude-oil trains could make oil transport less profitable.
Image source: Flickr/Roy Luck.
Moorman said he believes railroad regulators understand the importance of the energy infrastructure and won't let regulation kill a prosperous business. Yet it's too early to tell whether that optimism will prove warranted, and further accidents could spell a more difficult future for Norfolk Southern and its peers.
We expect a somewhat elevated level of overtime for the remainder of the year. As [COO] Mark [Manion] described, we have already hired and will be continuing to hire train and engine employees. So the overtime in that area should gradually moderate as the employees become qualified.
-- CFO Marta Stewart
Unemployment has plagued the broader economy, but one concern has been the lack of skilled workers in high-need areas. Increasingly, Norfolk Southern and other railroads have faces shortages of skilled personnel, whether it be employees who actually operate the trains or workers who repair railroad equipment. As a result, Norfolk Southern has seen overtime costs rise as it has to make the best use of the personnel it has rather than hiring new workers.
In the long run, Norfolk Southern expects to obtain skilled workers to meet its needs. That's good news for those prospective employees and for the industry overall, as it suggests the belief that increased volumes are here to stay.
We have some work to do ... in terms of continuing to improve productivity and efficiency from the levels we're currently at. We're going to do that. I think that that's going to give us the ability to continue to drive more volume through the network in a very cost-effective manner and give us strong operating margins, operating leverage on that growth.
-- Moorman
Greater volume gives Norfolk Southern an opportunity to increase volume, but only better internal performance will prevent the railroad from squandering that opportunity. Despite impressive long-term results, Norfolk Southern must remain mindful of the competitive pressures that could take away its profitability if the company doesn't stay at the cutting edge of efficiency and cost-effectiveness. Fortunately, Norfolk Southern's executives know that and will strive to assure it happens.
Norfolk Southern has the ability to keep moving forward given the favorable trends in the railroad industry right now. Shareholders need to focus on whether the company can deliver on its promises to assess whether Norfolk Southern can sustain its positive momentum.
