VALUATION HIGHLIGHTS

1. Merchandise Freight constitutes 58% of the Trefis price estimate for CSX Corporation's stock.
2. Coal Freight constitutes 15% of the Trefis price estimate for CSX Corporation's stock.
3. Intermodal Freight constitutes 15% of the Trefis price estimate for CSX Corporation's stock.

WHAT HAS CHANGED?

1. CSX Stock Performance

CSX stock has witnessed gains of 15% from levels of $30 in early January 2021 to around $35 now (Jan 26, 2024), vs. an increase of about 30% for the S&P 500 over this roughly 3-year period.

However, the increase in CSX stock has been far from consistent. Returns for the stock were 24% in 2021, -18% in 2022, and 12% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 - indicating that CSX underperformed the S&P in 2021 and 2023.

2. Q4 2023 Performance

The company's top line contracted 1% y-o-y to $3.7 billion, partly due to lower fuel surcharges, lower intermodal demand, and lower trucking and other revenues. The Merchandise segment saw a 5% y-o-y rise in revenues. Overall volume was up 1%, while the average revenue per unit fell 8% during the quarter. Looking at the bottom line, EPS declined 19% (y-o-y) to $0.45 due to lower revenues and a 320 bps rise in the operating ratio.

3. Impact of Coronavirus On CSX Corporation's Stock

2020 marked a year of sales and earnings decline for railroad companies. The coronavirus crisis had an adverse impact on transportation demand in 2020 due to an overall decline in manufacturing, lower consumer demand, lower oil prices impacting production and transportation of oil and related products, as well as lower natural gas prices resulting in lower demand for coal. Given the tensions between the U.S. and China on trade, exports were also hit.

However, 2022 was favorable for railroad companies, with higher fuel surcharges and higher average revenue per carload driving revenue growth.

4. CSX's Operating Ratio

CSX has been focused on reducing its operating ratio over the last few years. Despite the challenges during the pandemic, CSX reported a low figure of 58.8% in 2020, just 40 bps higher compared to 58.4% in 2019. In 2021, the company's operating ratio stood at 55.3%. And in 2022, the figure rose to 59.5% due to inflationary pressure.

5. Trends In Coal Shipments

With the increased use of cleaner sources of energy, such as natural gas, the demand for coal has dropped drastically over the last few years. Consequently, coal shipments have witnessed a sharp decline. However, if there is any sharp movement in natural gas prices, it would result in higher coal demand. In 2018, utility coal shipments remained sluggish, while the coal export saw a strong uptrend, given the overall coal prices and demand in international markets. Exports weakened in 2019, and with natural gas prices falling sharply in 2020, coal demand has also declined. That said, 2021 figures were high due to favorable comparisons, given the very low volume shipped in 2020, as well as due to nearly a 2x rise in natural gas prices over the last year or so, sending the coal demand higher. The export demand remained high in 2022, except for exports to China, and this trend is expected to continue in the near term.

POTENTIAL UPSIDE & DOWNSIDE TO TREFIS PRICE

Below are the key drivers of CSX's value that present opportunities for upside or downside to the current Trefis price estimate:

• CSX's Total Carloads of Coal: We currently forecast CSX's Total Carloads of Coal to rise marginally from 0.7 million in 2022 to 0.8 million by the end of the Trefis forecast period, as we expect the upside for natural gas prices to remain limited in the coming years.
  However, potential steps pertaining to loosening environmental regulations on coal production by the U.S. government could boost coal production in the country. If CSX's Total Carloads of Coal rise to 1.1 million tons by the end of our forecast period, as opposed to 0.80 million in the base case, it would result in a 5% upside to our price estimate.

• CSX's EBITDA margin: We currently forecast CSX's EBITDA margin to rise to 57%, compared to levels of 51% in 2022, primarily driven by productivity initiatives being undertaken by the company. There could be a downside of roughly 10% to the Trefis price estimate if the growth is below expectations and margins were to hover around 50% by the end of the Trefis forecast period, as opposed to 58% in our base case forecast.

BUSINESS SUMMARY

CSX is the leading railroad in the Eastern U.S., engaged primarily in freight transportation in the Southeast, East, and Midwest regions of the U.S. CSX also transports overseas freight through Atlantic and Gulf Coast ports in addition to providing freight to the Western U.S. through interchange with other railroads.

CSX's rail network of more than 35,000 route miles serves many large population centers in 26 states east of the Mississippi River in addition to Washington DC, Ontario, and Quebec. CSX's primary competitor is Norfolk Southern, which covers much of the same territory.

We have broken up our analysis of CSX into four major business segments: Coal Freight; Merchandise Freight (which includes chemicals, automotive, agriculture, and others), Intermodal Freight (freight that can be switched from train to another mode of transport), and Trucking & Others, which include revenue from trucking business and railroads that the company does not directly operate, revenue for customer volume commitments not met, and other items.

CSX's customers include steamship lines, vehicle manufacturers, agricultural companies, utilities, intermodal companies, and chemical manufacturers.

SOURCES OF VALUE

We believe that Merchandise Freight is the most valuable division for CSX. 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 increases, so will their pricing power.

Growth In The U.S. economy

The U.S. has seen healthy growth in the past before the pandemic, driven by growth in sectors such as automotive, industrials, and housing. CSX has benefited from this growth through an increase in carloads for its Industrials, Housing & Construction, and Automotive segments.

However, given the Covid-19 pandemic in 2020, economic growth took a hit. It rebounded thereafter, with a 10% GDP growth in 2021 and another 3% in 2022. That said, the economic growth is expected to slow to 0.5% in 2023.