Trends Driving Norfolk Southern In 2015

Norfolk Southern’s (NYSE: NSC) revenue grew 4.7% in the first nine months of 2014, driven by 4.9% growth in volume. ^[1] Looking at the carloads in the fourth quarter, it seems likely that 2014 ended on a good note. In 2015, we expect to see growth in Norfolk Southern’s volumes driven primarily by its Intermodal segment. General Merchandise shipments will also contribute to the segment’s growth. However, coal will continue to present headwinds. In this article, we take a look at the factors impacting these segments in 2015.

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Intermodal Shipments To Grow On Tightening Trucking Capacity

Norfolk Southern’s intermodal volumes grew 8.1% in the first nine months of 2014. It expects to see continued growth in its intermodal shipments for the next few years. This is primarily due to the tightening trucking capacity in the U.S. Declining fleet sizes and a lack of truck drivers have significantly tempered the freight transport capacity of the trucking industry. ^[2] The Hours-of-Service safety regulation for commercial vehicle drivers has also put pressure on trucking capacity by limiting the number of working hours for truck drivers. Additionally, an increasing number of carloads are shifting from trucks to railroads due to the cost advantage of railroad’s intermodal service. Norfolk Southern’s intermodal volumes are priced 12-15% below truckload prices, giving it a considerable advantage in domestic long haul shipments. ^[3]

Merchandise Volumes To Grow

Crude oil production in the U.S has been increasing consistently since 2011, thanks to horizontal drilling techniques. ^[4] The U.S Energy Information Administration (EIA) forecasts crude oil production to increase to 9.3 million barrels per day in 2015, compared to 8.6 million barrels per day in 2014. ^[5] This should help drive growth in Norfolk Southern’s chemicals shipments, which includes crude oil.

The decline in crude oil prices won’t be much of a threat to Norfolk Southern, which serves 6 major refineries on the east coast, with a total refinery capacity of 1.4 million barrels per day. These customers have assured Norfolk Southern of their continued demand in 2015. ^[6] Also driving growth in Norfolk Southern’s crude oil shipments is the lack of a pipeline infrastructure in the eastern parts of U.S. as compared to the mid and western regions. Refineries in the east are therefore dependent on crude-by-rail services for their shipping needs.

Norfolk Southern’s chemicals shipments may also benefit from growth in production of petrochemicals in the U.S. The abundant and low priced natural gas in the U.S. has helped bring down operating costs for refineries leading to higher production of petrochemicals in the country. Shale gas drilling has helped boost demand for frac sand and pipes, which continue to contribute to growth in Norfolk Southern’s merchandise shipments.

Last year’s strong corn and soybean harvest helped drive Norfolk Southern’s agricultural shipments up by 3.4% in the first nine months of 2014. ^[1] An increase in ethanol production due to low corn prices also contributed to the increase in agricultural shipments. Corn production is expected to increase 3.5% year-on-year in 2014, to 14.4 billion bushels, and soybean production is expected to increase 18% year-on-year, to 3.93 billion bushels. ^[7] This should help continue to drive growth in Norfolk Southern’s agricultural volumes through 2015.

Housing starts and building permits saw a strong 2014, driving Norfolk Southern’s construction related shipments up by 7% in the first nine months. The NAHB forecasts a 17% year-on-year increase in housing starts for 2015 driven by strong demand for single family units. An increase in housing activity should continue to drive Norfolk Southern’s construction shipments in 2015. ^[8]

Export Coal Will Likely Present Headwinds

The price of coal in the global markets has dropped sharply due to high exports from Australian coal suppliers and low demand from China. U.S. coal suppliers have had to lower their prices in order to remain competitive or have stopped exporting. Because of this, Norfolk Southern’s export coal tonnage declined 17% in the first nine months of 2014. With the recent announcement that China will impose tariffs on imported coal, the low price environment is expected to continue. ^[9] This should continue to put pressure on U.S. coal, which will further impact Norfolk Southern’s export coal volumes in 2015.

Apart from the weak export coal environment, Norfolk Southern will also face pressure on the domestic front. Throughout 2014, Norfolk has faced troubles with its domestic coal shipments due to a contract loss. In 2015, it may suffer due to the drop in natural gas prices. The January 2015 natural gas future contract on the New York Mercantile Exchange is currently trading at its lowest since 2011. ^[10] There is a risk of coal demand falling as a result of the low natural gas prices, as was noticed in 2012 and 2013. Adding to the problem is the expectation of mild winter weather, which may further temper coal demand.

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1. Norfolk Southern’s Third Quarter 2014 Financial Review, October 22, 2014, www.nscorp.com [↩] [↩]
2. 2014 Trucking Outlook – Q2 Update, April 30 2014, www.spendmatters.com [↩]
3. Norfolk Southern’s (NSC) CEO Wick Moorman on Q2 2014 Results – Earnings Call Transcript, July 23, 2014, www.seekingalpha.com [↩]
4. US Crude Oil Production Historical Data, www.ycharts.com [↩]
5. U.S. EIA Short Term Energy Outlook, www.eia.gov [↩]
6. Norfolk Southern’s Presentation at 2014 Credit Suisse Global Industrials Conference, December 4, 2014, www.nscorp.com [↩]
7. Crop Production, November 10, 2014, www.usda.gov [↩]
8. NAHB Housing and Interest Rate Forecast, December 2014, www.nahb.org [↩]
9. China’s Coal Tariff Prolongs the Pain, October 10, 2014, online.wsj.com [↩]
10. Natural Gas NYMEX, www.ino.com [↩]