Declining coal shipments have been a major hurdle for North American railroad companies throughout 2012 and 2013. Union Pacific (NYSE:UNP) reported a decline of 10% in coal shipments for 2013. Also, CSX (NYSE:CSX) and Norfolk Southern (NYSE:NSC) saw their coal revenues decline around 10%. In their most recent earnings conferences, all the three railroad companies presented a somewhat negative outlook for coal shipments in 2014.
Coal is the highest revenue generating commodity for railroad companies. In this article we look at the factors that may impact coal shipments and the coal market in 2014.
Domestic Coal Shipments May See Recovery
In 2013, coal shipments for domestic consumption declined for Norfolk Southern, CSX and Union Pacific. Norfolk Southern’s domestic coal shipments declined 7% and CSX’s declined 5%.   These declines were driven by a shift towards low cost natural gas by utilities and lower steel production. In 2012, natural gas prices had declined by almost 50% due to the oil shale boom, making it a more preferable fuel with which to generate electricity. Additionally, natural gas had the added advantage of reducing emissions as required by the US EPA’s Mercury and Air Toxic Standards. As more power plants adopted natural gas, coal inventories began to pile up, which led to a decline in coal production in 2013. This inventory overhang added further pressure on domestic coal shipments.
Rising natural gas prices: After a decline in prices in 2012, natural gas prices rose in 2013 driven by increased demand and a harsh winter. From an average price of $2.75/MMBtu in 2012, prices increased to $4.71/MMBtu in January 2014.  This has led to power plants moving away from natural gas and back to coal. In the 12 months ending November 2013, coal consumption for generation of electricity increased 3.5% compared to 12 months ending November 2012, whereas for natural gas it decreased by 10%.  If natural gas prices remain above $4.00/MMBtu in 2014, as forecast by the EIA, we expect to see a further increase in consumption of coal by power plants. This will drive coal shipments for railroads like CSX, Norfolk Southern and Union Pacific.
Stabilizing inventories: Driven by a drop in consumption, coal inventories at power plants began to pile up in 2012. However, in 2013, inventories declined 20% due to an increase in use of coal for electricity generation.  As power plants use the inventory build-up to fulfill present demand, they will soon need to replenish their stocks. This will lead to increased coal shipments from mines to power plants, driving growth in the volume of coal shipments for railroads. However, the increase in shipments for individual railroads will also depend on the inventory levels of power plants that the railroad serves. This is supported by the fact that CSX and Norfolk Southern’s utility coal shipments in 2013 increased for northern utilities, since inventory levels were still high at southern utilities.
Though rising natural gas prices and stabilizing coal inventories may drive a recovery in domestic coal shipments, it is difficult to predict when this recovery might take place.
US Coal Exports May Decline
Export of US thermal and metallurgical coal declined by an estimated 6.4% in 2013 due to competition from Australian coal and continued weakness in demand from Europe.  However, growing demand from Asia had a positive impact, which also helped growth in export coal shipments for railroads like Union Pacific and Norfolk Southern.
In 2014, US coal exports are expected to decline 10% driven by continuing weakness in European economy, the largest regional importer of US coal. Coal demand from Europe is expected to decline 6% through 2018.  Coal demand from China, which accounts for around half of the world’s coal consumption, is expected to grow at a slower rate as the country aims to reduce its dependency on coal. Also, China has a significant coal inventory buildup which it will need to burn through before increasing imports.  US coal exports are also under pressure due to Australian coal making a comeback since floods impacted coal production in 2011. A weaker Australian dollar also makes it cheaper to purchase coal from Australia. Declining global demand for US coal will have a negative impact on railroad shipment volumes in 2014.
Average Revenue Per Car Will Be A Driving Factor For Coal Revenues
Coal shipment pricing will play a major role for railroad companies as volumes decline. In 2013, a 12% increase in Union Pacific’s average revenue per car for coal bolstered a 2% increase in coal revenue despite 9% decline in volume.  CSX and Norfolk Southern were unable to offset the decline in coal volumes by increasing average revenue per unit, thereby adding pressure on revenue from coal shipments.
In 2014, coal exports will likely decline as domestic coal shipments recover, though the timing of these developments is uncertain. Until then, increasing average revenue per unit is the only way railroads may ease off pressure from coal revenues.Notes:
- Norfolk Southern 2013 Fourth Quarter Financial Review, January 2014, www.nscorp.com [↩]
- CSX 2013 Fourth Quarter Financial Report, January 2014, www.csx.com [↩]
- Natural Gas Spot and Futures Prices, www.eia.gov [↩]
- Coal Consumption for Electricity Generation and Useful Thermal Output, www.eia.gov [↩]
- U.S. Coal Supply Consumption and Inventories, February 11 2014, www.eia.gov [↩]
- Short Term Energy Outlook, February 11 2014, www.eia.gov [↩]
- Global coal demand growth slows slightly, December 16 2013, www.iea.org [↩]
- China’s coal consumption growth slows, January 15 2014, www.news.xinhuanet.com [↩]
- Union Pacific 2013 Fourth Quarter Earnings Release, January 2014, www.up.com [↩]