Norfolk Southern Corporation — Q3 2015 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2015. Amounts are in millions of dollars unless stated otherwise. Norfolk Southern operates a major eastern U.S. freight rail network, with coal, general merchandise, and intermodal businesses.
Financial performance
| Metric | Q3 2015 | Q3 2014 | First 9 months 2015 | First 9 months 2014 |
|---|---|---|---|---|
| Railway operating revenue | $2,713 | $3,023 | $7,993 | $8,754 |
| Income from railway operations | $822 | $998 | $2,242 | $2,684 |
| Net income | $452 | $559 | $1,195 | $1,489 |
| Diluted EPS | $1.49 | $1.79 | $3.90 | $4.75 |
| Operating ratio | 69.7% | 67.0% | 72.0% | 69.3% |
Q3 revenue fell 10% and net income fell 19%; nine-month revenue declined 9% and net income declined 20%. Lower fuel-surcharge revenue and weaker coal volumes were the principal revenue pressures. Lower fuel costs partly offset those pressures: fuel expense fell 43% in Q3 and 40% year to date. The operating ratio worsened in both comparisons. Dividends per share were $0.59 in Q3 2015 versus $0.57 a year earlier, and $1.77 for nine months versus $1.65.
Cash flow, liquidity, and debt
- Nine-month operating cash flow was $2,179, down from $2,346. Property additions were $1,777, yielding approximately $402 of operating cash flow after property additions (versus approximately $967 a year earlier).
- Cash and equivalents were $433 at September 30, 2015, down from $973 at year-end 2014. Working capital was a deficit of $365, compared with positive working capital of $998 at year-end.
- Total debt was approximately $9,496, including current maturities and short-term debt; the debt-to-total-capitalization ratio was 43.9%, up from 42.0% at year-end. Long-term debt’s estimated fair value was $10,805 versus its carrying amount of $9,396, including current maturities.
- The company reported $2.5 billion of expected 2015 property additions, including the $215 million Delaware and Hudson line acquisition. It had $750 million available under a credit agreement, with no borrowings outstanding, and $200 million outstanding under its receivables securitization program.
Operating developments and outlook
- Coal revenue declined 23% in Q3 and 24% year to date, amid lower utility, export, and metallurgical coal volumes. Management expected coal revenue to remain below the prior year for the rest of 2015.
- General merchandise revenue fell 7% in Q3 and 5% year to date; intermodal revenue fell 7% and 4%, respectively. Management expected lower revenue in each group for the remainder of the year, citing fuel-surcharge effects and anticipated volume softness.
- Fuel-surcharge revenue was $113 in Q3 2015 versus $368 in Q3 2014. If then-current fuel prices persisted, management expected less than $100 of surcharge revenue for the remainder of 2015.
- Q3 expenses included $37 of costs related to restructuring Triple Crown Services (TCS) and closing the Roanoke office; management expected about $45 of such operating costs in Q4. TCS was being refocused on automobile-parts traffic, with other lanes transitioning toward containers. Accelerated depreciation related to TCS assets was approximately $26 in Q3, with about $28 expected in Q4.
- Network fluidity improved during Q3, and management expected further improvement through year-end. On September 18, the company acquired 282 miles of the D&H line for $215 to improve network connections and routes into New York and New England markets.
- Management expected post-2015 Positive Train Control (PTC) property additions to exceed $800, based on updated cost estimates and expanded scope. The filing also notes that the company and most other Class I railroads would not complete PTC by the December 31, 2015 deadline.
Risks, contingencies, and other notable items
- On October 20, 2015, the company issued a notice of cessation of service and stated it would refuse Poisonous-Inhalation-Hazard (PIH) shipments from December 1, 2015, in connection with PTC compliance. Industry groups challenged railroads’ authority to refuse such shipments; adverse court or regulator action, or service restrictions by connecting railroads, could materially affect results or operations.
- Environmental liabilities were $70 at September 30, 2015, compared with $66 at year-end, covering estimated costs at 145 known locations and projects. Management considered known probable and estimable costs adequately recorded, but cautioned that environmental liabilities may be uncertain.
- Railroad litigation includes fuel-surcharge antitrust class actions and customer rate complaints. The company said it intended to defend the claims and did not expect the identified matters to materially affect its financial position, results, or liquidity.
- Purchase commitments totaled approximately $852, including equipment, track projects, and long-term service contracts. The company also identified labor negotiations, extensive regulation, hazardous-material transport, weather, and fuel and energy price volatility as risks.
- The company repurchased 10.3 million shares for $997 in the first nine months, compared with 1.7 million shares for $166 in the prior-year period. The filing states near-term repurchases may use cash on hand, internally generated cash, or borrowings.
Important facts for investors to verify
- Whether coal-market weakness and lower fuel-surcharge revenue continued to weigh on revenue and margins after Q3.
- Actual Q4 TCS and office-closure costs, depreciation charges, and progress in shifting TCS traffic to the intermodal network.
- PTC implementation, any PIH service restrictions or legal outcomes, and their effects on operations, costs, and customer volumes.
- Cash generation, capital spending, debt levels, and the pace and funding of share repurchases and dividends.
- Updates to environmental, casualty, rate-case, and antitrust exposures. The interim statements were reviewed by KPMG, not audited.