NSC

Norfolk Southern Corporation 2002 Annual Report (10-K) Summary

Business Context and Reporting Period

This Form 10-K covers the fiscal year ended December 31, 2002. Norfolk Southern Corporation (NS) is a holding company engaged principally in rail transportation, operating approximately 21,500 route miles across 22 states and parts of Canada. NS operates a joint venture with CSX Corporation to own Conrail Inc., holding a 58% economic interest. The company's primary revenue sources include coal, automotive, chemicals, metals/construction, agriculture/consumer products, paper/clay/forest products, and intermodal traffic.

Key Financial Metrics

Note: The 2001 Net Income included a $13 million gain from discontinued operations. Excluding this, 2002 net income increased 27%.

Material Changes vs. Prior Period

• Revenue Growth: Total revenues increased 2% driven by a 3% rise in general merchandise and a 5% increase in intermodal revenues, which offset a 5% decline in coal revenues.
• Coal Traffic: Coal tonnage decreased 4% (170 million tons) due to lower utility demand, high stockpiles, and an 18% drop in export coal tonnage. However, domestic metallurgical coal tonnage increased 5%.
• General Merchandise: Automotive revenues rose 9% due to increased vehicle production. Intermodal volume grew 6% due to new business and conversion of truck traffic to rail.
• Expense Management: Railway operating expenses decreased 1% despite a 1% increase in carloads. The operating ratio improved to 81.5% from 83.7%, primarily due to efficiency gains and a 17% reduction in diesel fuel expenses.
• Debt Reduction: Total long-term debt decreased by $268 million. The debt-to-total capitalization ratio (excluding notes payable to PRR) improved to 53.1% from 55.6%.

Guidance, Outlook, and Risks

• 2003 Outlook: Management expects the economy to remain flat in the first half of 2003 with growth resuming in the third and fourth quarters. Automotive revenues are expected to be lower in 2003 due to predicted declines in light vehicle production. Intermodal and chemicals revenues are expected to improve.
• Capital Spending: NS has budgeted $798 million for capital expenditures in 2003, including $499 million for roadway projects and $246 million for equipment.
• Regulatory Risks: NS opposes efforts to reimpose federal economic regulation. Two major utility customers (Duke Energy and Carolina Power & Light) have challenged the reasonableness of common carrier coal rates at the Surface Transportation Board (STB); management expects resolution in 2003 with no material financial impact.
• Market Risks: NS hedges diesel fuel costs (62% of 2003 requirements hedged) and manages interest rate exposure. A 10% decrease in diesel prices would reduce the asset value of fuel swaps by approximately $30 million.
• Contingencies: NS faces potential liabilities from labor arbitration regarding "New York Dock" benefits and a lawsuit against Williams Communications LLC (fiber optic codeveloper) where a $36 million judgment was entered but collection is uncertain due to the defendant's financial condition.

Investor Verification Checklist

• Coal Market Exposure: Verify the impact of the 5% revenue decline in coal and the ongoing STB rate disputes with Duke Energy and CP&L on future margins.
• Conrail Joint Venture: Review the 58% economic interest in Conrail and the associated "Conrail rents and services" expenses ($412 million in 2002) to understand the dependency on the joint venture's performance.
• Debt Maturities: Confirm the ability to service $358 million in current maturities and the potential redemption of $717 million in 2037 notes if holders exercise their put option in 2004.
• Environmental Liabilities: Assess the $29 million recorded liability for environmental remediation across 114 sites and the potential for additional costs from latent or undisclosed contamination.
• Labor Costs: Monitor the status of collective bargaining agreements with 15 unions covering 85% of railroad employees, particularly regarding health and welfare issues.