Norfolk Southern (NYSE:NSC) is one of the leading railroad networks in the eastern United States. Its management presented at the Cowen Securities global transportation conference on June 11, 2013. NSC reported that its overall volume saw 2% annual increase during the first 10 weeks of Q2 2013, ending on June 8, as compared to 3% annual growth in Q1 2013. Strong demand in chemical, intermodal and automotive segments more than offset volume declines in the other markets.
Norfolk Southern continues to face challenges in several end-markets. The coal market is presenting various headwinds due to competition from natural gas and negative mix in price. NSC’s volumes in the paper/clay/forest products segment are being impacted by weakness in paper demand. While NSC’s agricultural and metal (and construction) volumes posted a decline during the first 10 weeks of Q2 2013, a recovery is expected in these markets during the second half of 2013.
Performance Of NSC’s Different Business Segments During The First 10 Weeks Of Q2 2013
% Contribution In Revenue (2012)
|Y-o-Y Change in NSC’s Volume (Q1 2013)||
Y-o-Y Change in NSC’s Volume (first 10 weeks of Q2 2013 till June 8, 2013)
Spurred by growing crude by rail transportation, chemicals segment continues to grow at a strong rate
- NSC’s chemicals volumes grew at a faster rate during the first 10 weeks of Q2 2013, as compared to the 10% growth seen in Q1 2013.
- Rising crude by rail transportation in the U.S. has been the main driver behind the chemicals volumes growth. While NSC transported around 13,000 carloads of crude oil in Q1 2013, this figure was crossed during the first 10 weeks of Q2 2013 alone. In addition, the shale gas boom being seen in North America is also positively driving shipments of chemicals and plastics.
- We expect the high demand to continue in this segment for the rest of 2013.
Automotive shipments are seeing high demand owing to rising North American vehicle production
- NSC’s automotive volumes saw high growth during the first 10 weeks of Q2 2013, owing to increased vehicular production in North America.
- The auto sector in the U.S. has been growing at above the GDP growth rate in the recent past, owing to factors such as population growth, economic recovery, high vehicular age, and favorable economics for production in the U.S.
- We believe NSC’s volumes in this segment will continue to grow for the rest of 2013, however, difficult y-o-y comparisons could impact growth rate in the future.
Truck to rail conversion opportunity continues to propel the intermodal segment
- Driven by continued truck to rail conversion across recently opened service lanes of the Crescent Corridor program, NSC’s intermodal volumes rose by 5% annually during the first 10 weeks of Q2 2013.
- Trucks are losing market share to railroads in the intermodal segment, on account of headwinds such as increasing costs, regulations and highway congestion issues.
- While international intermodal volumes grew by 13% in Q1 2013, the pace of growth in this market is forecast to slow down in Q2 2013.
- We believe the intermodal segment represents a significant long term growth driver for NSC, on account of the massive truck to rail conversion opportunities present in the market.
Coal market continues to present headwinds in Q2 2013
- NSC’s coal volumes fell by 4% during the first 10 weeks of Q2 2013, in line with the decline seen in Q1 2013. Coal inventory levels at southern utilities continue to be above target levels and hence this is contributing to the decline in volumes.
- As the longer haul southern utility volumes have declined more than shorter haul Northern utility volumes, we could see a negative impact on coal revenue per unit (RPU) in Q2 2013.
- The export coal market is also facing challenges on account of weakness in the international markets. NSC’s export thermal coal volumes have grown at a higher rate as compared to export met coal in the recent past, and since export thermal coal contributes lower RPU as compared to met coal, this is expected to negatively impact RPU in Q2 2013.
- Overall, we think the coal market could remain a headwind for NSC throughout 2013, on account of competition from natural gas and negative mix in price.
Agriculture segment continues to feel the pressure from last year’s drought
- NSC’s agricultural volumes continued to post a decline during the first 10 weeks of Q2 2013, due to the carryover from last year’s drought, which has impacted soybean, corn and feed shipments.
- However, a normal crop output could result in a recovery in this market in the second half of 2013.
Weakness in paper demand is being offset by growth in lumber shipments
- NSC’s paper, clay and forest products’ volumes saw 1% decline during the first 10 weeks of Q2 2013, after seeing flat growth in Q1 2013 on account of softness in paper demand. However, this is being offset by higher demand for lumber shipments, which is being supported by the ongoing housing recovery.
- We expect the housing recovery to be a positive driver for this segment in 2013. While housing starts continue to be lower than the average 1.5 million recorded during 1960-2010, they increased by 44% and 13% annually respectively, in March and April 2013. 
Metals and construction market continues to be impacted by RG Steel bankruptcy comps and other headwinds
- NSC’s metal and construction volumes saw a significant decline of 7% during the first 10 weeks of Q2 2013, due to factors such as RG steel bankruptcy, decline in domestic steel production, and weakness in the highway construction market. A slight recovery is expected in this market in the second half of 2013.
Our $76 price estimate for Norfolk Southern’s stock, represents around 5% upside to the current market price.Notes: