Norfolk Southern tops marks in 1Q; Cowen affirms “outperform”

Written by Railway Age Staff
Norfolk Southern locomotive

Photo: Norfolk Southern

Intermodal traffic helped offset lower coal shipments and fuel record earnings at Norfolk Southern Corp.

Net income was $552 million, up 27% from the same quarter a year ago, the Norfolk, Va.-based company said, on income from railway operations that was 10% higher and a lower effective income tax rate.

Earnings per share totaled $1.93, up 30% on-year and a first-quarter record.

“We are pleased with the continued improvement in our financial performance and the growth in our business,” said James A. Squires, Norfolk Southern chairman, president and chief executive. “We are focused on improving service for our customers to position us for future growth and efficiency that will benefit both our customers and shareholders. The outlook for 2018 is promising.”

The company will increase its annual share repurchases to $1.5 billion.

Railway operating revenues of $2.7 billion increased 6% as overall volumes were up 3%. Intermodal grew by 8%, offsetting declines in general merchandise and coal.

Railway operating expenses increased $64 million, or 4% to $1.9 billion, as higher fuel prices and lower network velocity were partly balanced by efficiency gains.
Income from railway operations was $835 million, an increase of 10%, another first-quarter record.

The operating ratio was 69.3%, also a first-quarter record.

In a note to investors, Cowen and Company Managing Director and Railway Age Wall Street Contributing Editor Jason Seidl wrote,

“Norfolk Southern reported 1Q18 EPS of $1.93, 30% higher than last year and above our and consensus estimates of $1.70 and $1.77, respectively. The operating income grew 8% to $835 million, beating our and Street expectations of $749 million and $783 million, respectively. These results came despite NS booking $43 million in costs related to network velocity issues during the quarter.

“The operating ratio (OR) was 69.3%, 70 bps better than last year, 250 bps better than our estimate and 150 bps better than consensus. Even excluding $18 million of rental income that was moved to the operating line as a contra expense due to accounting changes, the results were still better than the prior year and better than we modeled.

“The company’s operational improvement plan has resulted in 1Q18 representing the ninth consecutive quarter of year-over-year OR improvement. We are modeling for this trend to continue in the remainder of 2018 and have higher confidence that NS could possibly reach its sub-65% OR target before 2020. We are modeling for a 66.6% OR in 2018, a 100 bps improvement.

“We remind investors that early [in 2017] NS’s board put in place an accelerated turnaround incentive plan that would reward management if the turnaround accelerates. On July 18, the carrier announced the planned consolidation of its Central Division headquarters in Knoxville into three surrounding divisions, reducing the number of operating divisions on its system to 9 from 10. Further yard and track consolidation and streamlining of the network also could occur as the company executes on its operational plan. This, coupled with a better pricing outlook and improving freight demand could indeed mean NS achieves its stated operational targets ahead of schedule, although we think this would still be done using what it has described as a measured approach.

“On the pricing front, management again sounded decidedly upbeat and noted that it will lean into price to drive shareholder value, consistent with its commentary the last two quarters. While NS does not provide specific pricing metrics, it indicated that pricing should improve throughout 2018. We believe NS should not have a problem achieving increases comfortably in excess of rail inflation. We expect pricing to begin to improve further as the freight recovery continues while freight capacity, especially in the truckload market, remains very tight. According to our April 17 proprietary 1Q18 Rail Shipper Survey, respondents expect rail pricing to increase 3.8% on average in the next twelve months, that’s up from 3.5% on average in our 4Q17 survey; 3.2% in 3Q17, 3.0% in 2Q17, and 2.6% in 1Q17.

“We are raising our 2018 and 2019 EPS estimates to $8.75 and $9.80, from $8.45 and $9.60, respectively. This is in order to reflect the 1Q18 beat, strengthening price outlook, subsiding network disruption costs, and continued strength in freight demand. Our price target rises from $163 to $167 based on our new 2018 EPS estimate and a 19x multiple. We reiterate our Outperform rating.”

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