CSX Corporation (NYSE:CSX) reported its earnings for Q2, 2012 on July 18 and the results were in line with our expectations. Stunning growth in the automotive and intermodal freight volumes helped shrug off the coal volume declines.   The shift from heavy reliance on coal to other divisions was reinforced during the quarter as a 14% decline in coal freight revenues was almost entirely offset by growth in other segments. The company reported a negligible decline in Q2 revenue, but operating income grew by 2% due to profit margin expansion. Per unit revenues increased in nearly all segments while major expenses reduced including labor and fringe cost and materials and supplies. We believe, strengthening of other segments, especially intermodal alongside building on facilities for coal exports is going to be the primary focus for CSX in the near term.
We have revised our forecasts for CSX and we now have a $24 price estimate for CSX, which is around 5% above the current market price. Key changes include industrial and intermodal volume increases, agricultural and coal volume decreases, and cash and debt updates as per Q2 results. We also raised the discount rate to 9.5% and reduced the terminal growth rate for coal freight to 2%.
Intermodal and industrial freight negating coal volume losses
CSX is gradually penetrating into the intermodal freight market as it gained 8% more intermodal volumes when the total intermodal freight volumes across the U.S. increased by just 4% in Q2. Intermodal is the future for U.S. railroad companies and market share gain in this segment could render significant revenue growth going forward.
Industrial freight, which includes automotives, chemicals, petroleum products, plastics and metals was a high flyer during Q2. For the first half of the year, industrial freight alone has provided an outstanding growth of 13% in revenues, which in turn helped fight the weakness in coal freight division. Industrial freight is largely driven by consumer goods, such as automotives and plastics, and performance of industries, which are highly dependent on the state of the economy.
New habitat for American coal
Although, the media is abuzz about coal losing its vigour, it was startling to note that export coal volumes rose 41% in Q2 and 29% in H1 for CSX. A total coal volume decline of 14% despite astonishing results from export coal shows how grave the domestic coal demand is. Nevertheless, the positive for CSX is that export coal can help buoy the coal freight division going forward. U.S. port terminals are gearing up for tremendous export supplies in future, which will benefit CSX. We believe coal freight will emerge, but it might take some while until it reappears like before. Meanwhile, domestic coal demand may also rise tracing the upward swing in gas prices.
Margins continue to rise
Q2 was another successful quarter in terms of margin expansion as all freight categories showed increase in per unit revenues and expenses declined. Q2 EBITDA grew from 3% from $1.17 billion in 2011 to $1.21 billion in 2012 despite revenue decline. The company reduced labor costs and material costs. Going forward, fuel costs will also reduce as oil prices cooled down earlier in the year. We expect CSX to gain margins going forward.
Intermodal holds the future for railroads and coal could also revive riding on exports. Other segments may show intermittently improved results but any abruptly high growth rates are unsustainable in the long run as they result out of low bases due to prolonged slowdown previously. The company’s ability to keep improving margins will continue to add value going forward. We expect CSX to perform better in coming quarters as economy improves further.