Norfolk Southern Corporation — Q3 2020 Form 10-Q
Reporting period: Third quarter and first nine months ended September 30, 2020; comparisons are with the corresponding 2019 periods. Amounts are in U.S. dollars.
Business context and results
Norfolk Southern operates a major freight railroad network in the eastern United States. The COVID-19 pandemic weakened demand across much of its business. Third-quarter volumes were down 7% year over year, an improvement from the 26% decline in Q2. Management said underlying demand had improved, while significant uncertainty remained.
Key financial metrics
| Metric | Q3 2020 | Q3 2019 | First 9 months 2020 | First 9 months 2019 |
|---|---|---|---|---|
| Railway operating revenue | $2.506 billion | $2.841 billion | $7.216 billion | $8.606 billion |
| Income from railway operations | $840 million | $996 million | $2.018 billion | $3.027 billion |
| Net income | $569 million | $657 million | $1.342 billion | $2.056 billion |
| Diluted EPS | $2.22 | $2.49 | $5.21 | $7.70 |
| Railway operating ratio | 66.5% | 64.9% | 72.0% | 64.8% |
| Operating cash flow | — | — | $2.767 billion | $2.997 billion |
Q3 revenue declined 12%; nine-month revenue declined 16%. Reported operating income fell 16% in Q3 and 33% year to date. The operating ratio increased, indicating lower operating efficiency on the reported basis. Excluding specified charges, management reported Q3 operating income of $939 million, net income of $643 million, diluted EPS of $2.51, and an operating ratio of 62.5%. For the first nine months, adjusted operating income was $2.502 billion, net income $1.704 billion, diluted EPS $6.62, and operating ratio 65.3%. These are non-GAAP measures.
Cash and cash equivalents were $1.359 billion at September 30, versus $580 million at December 31, 2019. Working capital was $574 million, compared with negative $219 million at year-end 2019. Nine-month property additions were $1.053 billion. Long-term debt, including current maturities, was $12.723 billion, compared with $12.196 billion at year-end; the debt-to-total-capitalization ratio rose to 46.0% from 44.5%.
Material changes and unusual items
- In Q3, an other-than-temporary impairment of an equity-method investment resulted in a $99 million pretax charge and a $74 million reduction to net income.
- In Q1, a $385 million loss was recorded on excess locomotives designated for disposal, with a $97 million tax benefit. The filing reports a $288 million net-income impact. NS sold 574 of 703 locomotives under the plan by September 30.
- Management’s adjusted comparisons exclude both charges: adjusted Q3 diluted EPS rose 1% year over year, while adjusted nine-month diluted EPS declined 14%.
- In May, NS issued $800 million of 3.05% senior notes due 2050, receiving $790 million net, and exchanged $554 million of existing notes for $800 million of 3.155% notes due 2055. The exchange produced a $4 million extinguishment loss.
- NS repurchased $960 million of shares in the first nine months, compared with $1.6 billion in 2019, and paid $722 million in dividends. The share repurchase program had 22.8 million shares remaining authorized at quarter-end.
Operations, outlook, and risks
Merchandise revenue declined 10% in Q3, intermodal revenue 1%, and coal revenue 38%. Total Q3 units fell 7%; coal volumes fell 31%. Automotive volumes improved in Q3 as production recovered from first-half plant shutdowns. Management attributed expense reductions to lower fuel prices and consumption, reduced employment, lower volumes, and efficiency initiatives. Average rail headcount was approximately 4,400 below Q3 2019.
For the remainder of 2020, management expected merchandise revenue to decline as lower volumes outweighed pricing gains; intermodal revenue to increase mainly on volume gains, partly offset by lower revenue per unit; and coal revenue to decline across markets. The filing gives no quantified company-wide earnings or revenue guidance. Management said available cash, operating cash flow, borrowing capacity, and flexibility to reduce capital spending and shareholder distributions should support ongoing obligations, while warning that COVID-19 could further reduce operating cash inflows.
Liquidity resources included an undrawn $400 million receivables securitization facility expiring in May 2021, an undrawn $800 million credit facility expiring in 2025, and the ability to borrow up to $750 million against corporate-owned life insurance policies. NS reported compliance with credit-facility covenants. The company identified pandemic-related demand and workforce disruption as risks. It also disclosed ongoing litigation and casualty-claim estimation uncertainty. Environmental liabilities were $55 million at September 30; management said known matters were not expected to have a material adverse effect, but noted that actual costs could differ from estimates.
Important facts for investors to verify
- Whether the volume recovery continued after Q3, particularly in coal, merchandise, and international intermodal.
- How much of reported earnings pressure reflects recurring operating conditions versus the $385 million locomotive disposal loss and $99 million investment impairment.
- Whether cost reductions and operational efficiency can offset weak demand without impairing service or capacity.
- Debt growth, refinancing needs, cash generation, and capital returns, including the pace of future share repurchases.
- Potential changes in COVID-19 exposure, environmental and casualty reserves, and litigation outcomes, including claims whose loss range cannot currently be estimated.