VALUATION HIGHLIGHTS

1. Merchandise Freight constitutes 61% of the Trefis price estimate for Norfolk Southern's stock.
2. Intermodal Freight constitutes 25% of the Trefis price estimate for Norfolk Southern's stock.
3. Coal Freight constitutes 14% of the Trefis price estimate for Norfolk Southern's stock.

WHAT HAS CHANGED?

1. NSC Stock Performance

Overall, the performance of NSC stock with respect to the index has been lackluster. Returns for the stock were 25% in 2021, -17% in 2022, and -4% in 2023. In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 24% in 2023 - indicating that NSC underperformed the S&P in 2021 and 2023.

2. Q4 2023 Performance
   • Norfolk Southern reported revenues of $3.1 billion in Q4 2023, reflecting a 5% y-o-y decline, primarily due to a 13% fall in Intermodal revenues. The company reported EPS of $2.32 during the quarter, reflecting a 32% y-o-y decline due to increased operating costs, including a $150 million expense related to the East Palestine, Ohio incident.

3. East Palestine, Ohio Derailment
   • A Norfolk Southern cargo train derailed in East Palestine, Ohio, on Feb 3, 2023. Fifty railcars were derailed, and 11 of those contained hazardous materials. The Department of Natural Resources, Ohio, stated that about 3,500 fish died due to contamination in the water. (Source - The Washington Post )

     Norfolk Southern is committed to addressing the issues in East Palestine. Per its press release, it has completed 500 in-home air tests, removed over 3,000 cubic yards of contaminated soil, and removed over 900,000 gallons of contaminants and contaminated liquids from the site.

4. 2024 Headwinds
   • The demand for railroad business can primarily be linked to economic growth. The current high inflationary environment, high interest rates, and recession fears have weighed on railroad stocks in recent months.

5. Impact of Coronavirus On Norfolk Southern's Stock
   • Norfolk Southern stock lost more than 40% – dropping from $195 at the beginning of 2020 to below $120 in late March 2020 – then spiked over 1.5x to about $255 now (mid March 2024). That means it is trading around the pre-pandemic levels.

     Why? While the Covid-19 outbreak and associated lockdowns resulted in an uncertain outlook for the broader markets, the multi-billion-dollar Fed stimulus announced in late March 2020 helped the markets stage a strong recovery. Furthermore, 2021 saw a sharp rebound in consumer demand and economic growth, resulting in a higher need for railroad transportation, boding well for NSC stock.

6. Coal Shipments
   • With the increased use of cleaner energy sources such as natural gas, the demand for coal has dropped significantly over recent years. Consequently, coal shipments have declined from 1.1 million total carloads in 2011 to 0.7 million in 2022.

     While the exports aided the overall coal shipments for railroad companies in 2018, the trend reversed in 2019 with the trade tensions. With oil and natural gas prices plummeting in 2020 and the Covid-19 pandemic resulting in lower power consumption, coal demand remained weak.

     However, this trend has now reversed, with oil prices surging over 40% now from levels seen in 2021 and natural gas prices rising over 65% over the same period. This has resulted in higher demand for coal, a trend expected to continue in the near term.

7. Decline In Light Vehicle Sales To Hamper Top Line
   • Since the beginning of 2017, the demand for light vehicles has slowed down, despite manufacturers offering significant discounts to clear their previous inventories. This is because the pace at which cars or trucks are being purchased is not the same as the pace at which they are being replaced.

     Consequently, there is a void in demand for these vehicles, which is visible in the decline in their sales. With the coronavirus pandemic in 2020, several automobile plants were shut for a short period or were operating at a lower capacity, again impacting the overall output.

     Furthermore, 2021-22 saw an adverse impact on automotive production globally due to the semiconductor chip shortage, a trend expected to continue in the near term. Since the railroad sector is closely correlated to the automobile industry, companies such as NSC have witnessed a decline in automotive shipments in the recent past.

POTENTIAL UPSIDE & DOWNSIDE TO TREFIS PRICE

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 remain stable at around the 51% mark over the Trefis forecast period. The company should be able to maintain high margins, driven by the company's productivity improvement initiatives.
  There could be a downside of over 10% to the Trefis price estimate if the margin declines from 51% in 2021 to under 47% by the end of our forecast period.

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.

BUSINESS SUMMARY

Norfolk Southern Corporation is one of the largest railroad companies in the Eastern United States, primarily in the rail transportation of raw materials, intermediate products, and finished goods. Goods are transported mainly in the Southeast, East, and Midwest US 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 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 19,300 miles of track, of which 14,522 is owned outright, and the remainder is under 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 its prices. Its expenses primarily consist of labor, fuel, utility, and track maintenance. The largest of Norfolk Southern's customers include steamship lines, vehicle manufacturers, agricultural companies, utilities, intermodal companies, and chemical manufacturers.

SOURCES OF VALUE

We believe the Merchandise freight division is the most valuable division, accounting for roughly 60% 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 increases, so will their pricing power. This allows Norfolk Southern to corner a larger share of U.S. intermodal shipments.

KEY TRENDS

Coronavirus Impact

The 2020 coronavirus crisis has had a significant impact on railroad companies due to an overall decline in manufacturing, lower consumer demand amid lockdowns, lower oil prices impacting production and transportation of oil and related products, as well as lower power consumption and lower natural gas prices resulting in lower demand for coal. However, 2021 marked a sharp recovery with a rise in the global vaccination rate.

Volatile coal market

Norfolk Southern's coal shipments have declined over the recent years. This can be attributed to trends in natural gas prices, lower exports, trade tensions, and a decline in coal production. However, now that gas prices soared with 2x growth in 2021, the dependency on coal as an energy source has increased for now, which will aid the Coal freight revenues for railroad companies in the near term.