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Investment Overview for Norfolk Southern (NYSE:NSC)
- Rising coal shipments
- Rising natural gas has strengthened the demand for coal from utilities, reversing the decline in coal shipments over much of 2016. In addition, the U.S. government's plans to boost coal production through easing restrictive environmental regulations should translate into rising coal shipments going forward.
- Greater infrastructure spending plans to boost prospects of railroads
- A change in government post the 2016 U.S. presidential election could boost the business prospects of transportation companies such as Norfolk Southern. The U.S. has promised a $1 trillion overhaul of domestic infrastructure, with an emphasis on transportation infrastructure, including railways. Improvements in transportation infrastructure as well as a boost to economic growth from the pro-business policies of the federal government should boost the shipments of railroad companies such as Norfolk Southern.
- Rising oil prices to translate into higher fuel prices
- Crude oil prices have strengthened considerably over the course of the past few months in the wake of OPEC's production cuts amid firming demand conditions. This is likely to be reflected in an increase in fuel costs for railroad companies. However, rising fuel prices will also be accompanied by an increase in fuel surcharge revenue, which should at least partially offset the impact of higher fuel costs on profits.
Below are the key drivers of Norfolk Southern's value that present opportunities for upside or downside to the current Trefis price estimate:
- Norfolk Southern's EBITDA margin: We currently forecast Norfolk Southern's EBITDA margin to increase from 43% in 2016 to 51%, by the end of the Trefis forecast period, driven by the company's productivity improvement initiatives.
There could be an downside of roughly 4% to the Trefis price estimate if margin growth as a result of productivity improvement is below expectations and margins improve to only 49% by the end of the Trefis forecast period as opposed to 51% in our base case forecast.
- U.S. Rail Carloads of Coal: We currently forecast U.S. Rail Carloads of Coal to increase from 4.1 million in 2016 to 4.3 million by the end of the Trefis forecast period, as we expect the upside for natural gas prices to remain limited beyond 2017.
However, potential steps pertaining to loosening environmental regulation on coal production by the U.S. government could significantly boost coal production in the country. If U.S. rail carloads of coal rise to 5.3 million tons by the end of our forecast period, as opposed to 4.3 million in the base case, it would imply a 4% upside to our price estimate.
For additional details, select a driver above or select a division from the interactive Trefis split for Norfolk Southern at the top of the page.
Norfolk Southern Corporation is one of the largest railroad companies in the Eastern United States, engaged primarily in the rail transportation of raw materials, intermediate products, and finished goods. Goods are primarily transported in the Southeast, East, and Midwest US, and via interchange services with rail carriers, to and from the rest of the United States. Norfolk Southern also transports overseas freight through several Atlantic and Gulf Coast ports.
Its principal subsidiary, Norfolk Southern Railway Company
is wholly owned. NSC also has a joint ownership, along with CSX, of the Consolidated Rail Corporation. Norfolk Southern's route map covers most of the eastern United States, east of the Mississippi River, the District of Columbia, and the Canadian provinces of Ontario and Quebec, covering nearly 22 states. Norfolk Southern's primary competitor is CSX Corporation which covers much of the same territory.
The company operates on 20,141 miles of track out of which 15,493 is owned outright and the remainder is pursuant to trackage rights or leases. Norfolk Southern offers the most extensive intermodal network in the eastern half of the United States.
Norfolk Southern’s business mix includes coal, intermodal, and general merchandise which is composed of six major commodity groupings: automotive; chemicals; metals and construction; agriculture; consumer products, and government; as well as paper, clay, and forest products. Although the company's primary role is transporting freight, its non-carrier subsidiaries engage principally in the acquisition, leasing, and management of coal, oil, gas, and minerals; the development of commercial real estate; telecommunications; and the leasing or sale of rail property and equipment.
Norfolk Southern's earnings depend upon the volume of freight contracts it sells, and the price of those contracts, while its expenses primarily consist of labor, fuel costs, utilities costs, and track maintenance. The largest of Norfolk Southern's customers include steamship lines, vehicle manufacturers, agricultural companies, utilities, intermodal companies, and chemical manufacturers.
We believe the Intermodal freight and Chemicals freight divisions are the most valuable divisions and account for more than 40% of Norfolk Southern's total value. The key factors responsible for this are:
Tightening trucking capacity
Declining fleet sizes and inadequate availability of truck drivers have significantly tempered the freight transport capacity of the trucking industry. The Hours-of-Service safety regulation for commercial vehicle drivers has put pressure on trucking capacity by limiting the number of working hours for truck drivers. The tight trucking capacity will lead to high volumes of freight shifting to railroads. As the demand for railroads’ services increase, so will their pricing power. This provides an opportunity for Norfolk Southern to corner a larger share of U.S. intermodal shipments.
Elevated levels of U.S. oil and gas output
Robust growth in U.S. oil and gas output as a result of the shale boom boosted the shipments of the Chemicals Freight division, which transports a range of petrochemicals and related products, over the past few years. However, Norfolk's Chemicals shipments declined in the first half of 2016 as a result of the decline in oil prices over the past year or so. Current shipment levels of Chemicals freight are enough to make this the company's second most valuable division, though the situation may change if the division's shipments fall sharply due to an extended downturn in oil prices.
Strengthening coal market
Norfolk Southern's coal shipments have risen in the first few months of 2017 as a result of rising demand for the commodity from utilities. An increase in natural gas prices in 2017 is expected to boost the share of coal in U.S. electricity generation. Going forward, favorable policy support from the U.S. government could boost shipments further.
How Does Trefis Modelling Work?
How do we get the historical numbers for this chart?
Trefis has a team of in-house Analysts who gather historical data from company filings and other verifiable sources. When historicals are available, we explain how we got them at the bottom of the Trefis analysis section below.
Who came up with the Trefis forecast for future years?
The Trefis team of in-house Analysts considers a variety of factors when projecting any forecast. The rationale for our projections is explained in the Trefis analysis section below.
How does my dragging the trendline on the chart impact the stock price?
- We use forecasts for business drivers to calculate forecasted Revenues and Profits for each division of the company.
- We then use forecasted Profits in a Discounted Cash Flow (DCF) model to obtain the Price Estimate for the company.
See more on: DCF Methodology
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