Norfolk Southern Corporation — Q1 2015 Form 10-Q
Reporting period: Three months ended March 31, 2015; comparisons are with Q1 2014 unless otherwise noted. Norfolk Southern operates a rail network across 22 states and the District of Columbia, with major coal, merchandise, and intermodal businesses. Financial amounts are in millions of dollars except per-share data.
Financial results and liquidity
| Metric | Q1 2015 | Q1 2014 / comparison |
|---|---|---|
| Railway operating revenue | $2,567 | $2,689; down 5% |
| Railway operating expenses | $1,961 | $2,022; down 3% |
| Income from railway operations | $606 | $667; down 9% |
| Operating ratio | 76.4% | 75.2%; increased 1.2 percentage points |
| Net income | $310 | $368; down 16% |
| Diluted EPS | $1.00 | $1.17 |
| Dividends per share | $0.59 | $0.54 |
| Cash provided by operations | $605 | $588 |
| Cash and cash equivalents at March 31 | $524 | $973 at December 31, 2014 |
| Debt at March 31 | $8,930 carrying value, including current maturities | $8,926 at December 31, 2014 |
| Debt-to-total-capitalization ratio | 42.3% | 42.1% at December 31, 2014 |
Operating cash flow was $605 million; investing activities used $378 million and financing activities used $676 million. Property additions were $392 million. Financing use included $415 million of share repurchases, $181 million of dividends, and $101 million of debt repayments. Working capital was $12 million at quarter-end, versus $998 million at December 31, primarily reflecting lower cash and the reclassification of long-term debt maturities to current liabilities. The company said cash on hand and operating cash flow should be sufficient for ongoing obligations.
Available liquidity included an undrawn $750 million credit agreement, expiring in 2016, and a $350 million receivables securitization program, of which $100 million was outstanding at March 31. The company reported compliance with credit-agreement covenants. It also had authority to issue an additional $800 million of debt or equity securities.
Material changes and operating drivers
- Revenue fell $122 million. Higher volume contributed $60 million, but lower revenue per unit reduced revenue by $182 million, largely reflecting lower fuel surcharges and traffic mix.
- Fuel expense fell $168 million, or 39%, as locomotive fuel prices declined 41%. This and other savings were offset by higher compensation, purchased services and rents, materials, and depreciation.
- Coal revenue declined 16% to $455 million; coal volume fell 7%. Utility and export shipments were weaker, and management expected coal revenue for the rest of 2015 to be lower than in 2014.
- General merchandise revenue declined 2% to $1,520 million, while volume rose 3%. Intermodal revenue declined 1% to $592 million as 5% volume growth was offset by lower revenue per unit.
- Severe winter weather and slower network operations added an estimated $42 million to Q1 operating expenses. Management cited continued service-recovery costs and said network fluidity was improving.
- The effective income tax rate was 37.4%, compared with 33.6%. The prior-year rate benefited from a $20 million favorable deferred-tax adjustment related to state tax law changes.
Outlook, risks and contingencies
No consolidated earnings or EPS guidance is stated in the filing. Management expected train speed and terminal dwell to approach 2012–2013 performance in the second half of 2015. It expected lower coal revenue and lower general merchandise revenue for the remainder of the year; intermodal revenue was expected to be higher, with volume growth partly offset by lower revenue per unit. If the prevailing fuel-price environment continued, 2015 fuel surcharge revenue could be less than half the 2014 amount. The company expected approximately $35 million of operating expenses from the Roanoke office closure and employee relocations beginning in Q2, mostly affecting Q3.
- Key uncertainties include coal-market weakness, fuel-price and fuel-surcharge movements, traffic mix and demand, weather and service disruptions, labor negotiations, litigation, environmental obligations, and other risks described in the 2014 Form 10-K. More than 80% of railroad employees were covered by collective bargaining agreements; negotiations had begun, while a separate agreement with the locomotive engineers’ union ran through 2019.
- Environmental liabilities were $69 million at March 31, covering estimates for 145 known locations and projects. Management said known matters were not expected to have a material adverse effect, but future costs and latent or undisclosed conditions remain uncertain.
- Outstanding purchase commitments totaled approximately $1.2 billion, including rail equipment, track and yard projects, and long-term service contracts through 2018.
- Fuel-surcharge antitrust litigation remained pending; the company intended to defend the claims and did not expect a material effect. The STB had ruled in the company’s favor in two customer rate cases, subject to further proceedings. A Tennessee environmental notice concerning soil runoff was being contested; the company did not expect a material effect.
- The IRS was auditing the company’s 2011 and 2012 federal returns; management did not expect resolution to materially affect financial position, results, or liquidity.
Important facts for investors to verify
- Whether traffic volumes, revenue per unit, and service performance improve as management expected, particularly in coal and intermodal.
- Whether lower fuel prices continue to reduce surcharge revenue and how that affects revenue, expenses, and margins.
- Whether the $42 million weather and service impact, anticipated $35 million relocation expense, and other operating-cost pressures persist or recur.
- How cash balances, debt maturities, repurchases, and the $1.2 billion of purchase commitments affect liquidity and capital allocation.
- Developments in the fuel-surcharge litigation, rate cases, environmental matters, and labor negotiations.