Here’s Why We Think Norfolk Southern Will Grow Strongly In The Near Term

by Trefis Team
Norfolk Southern
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Norfolk Southern Corp. (NYSE:NSC), the Virginia-based railroad company, has had a great 2017. The company’s stock has surged almost 37% in the last one year, on the back of an improvement in coal shipments, caused by the favorable business policies implemented by the Trump government. Further, the recovery in commodity prices has led to a rise in the fuel surcharge, which has in turn bolstered the company’s top-line. In addition to this, the railroad company is on track to achieve its objective of reducing its operating ratio to 65% by 2020. Thus, we figure that Norfolk has strong future prospects, given the changing dynamics of the coal and metal shipments and its efforts to bring down its operating costs. We currently have a price estimate of $148 per share for the company, which is slightly lower than its market price.

See Our Complete Analysis For Norfolk Southern Corp. Here

Recovery In Coal Shipments To Boost Top-line

With the growing concern over climate change, the preference for cleaner and safer sources of energy has grown manifold. Consequently, there has been a shift from coal-based economies to gas-based economies, which has led to a sharp drop in coal shipments worldwide over the last few years. However, with the Trump administration’s plans to pull back from the Paris Agreement, the coal shipments in the US have gone up drastically. The US coal shipments stood at 4.42 million carloads at the beginning of 2018, almost 8% higher compared to the same period of last year ((Weekly US Rail Traffic, Association of American Railroads)).

Thus, Norfolk Southern, which derives a significant portion of their revenue from coal shipments, has largely benefited from this move. The company’s revenue had been declining at 7.8% on an average between 2014 and 2016. However, for the first nine months of 2017, the company’s top-line has expanded by 6.5% on a year-on-year basis. Now, assuming that the government’s current stance on the climate change issue remains unchanged, we expect US coal shipments to continue to rise in the coming quarters, further boosting the company’s top-line as well as bottom-line in the near term.

NSC’s Coal Division Forecast

Lower Operating Ratio To Improve Profitability

Apart from the improvement in the revenues, Norfolk has been working toward streamlining its operations in order to enhance its margins. For this, the company has been rationalizing its work force, improving fuel efficiency through longer train lengths and reducing its support costs, which has reduced its operating ratio over the last few quarters. In fact, the company has managed to reduce its operating ratio for seven consecutive quarters. A lower operating ratio (operating expenses as a percentage of total revenue) would result in higher operating profits for the company and its investors.

Given the impressive results from its cost reduction initiatives so far, the company expects to achieve its targeted cost savings of $150 million by the end of the year. Going forward, the railroad company expects to achieve productivity savings of $650 million by 2020, bringing down its operating ratio below 65%. This would enhance the company’s profits, and thereby its overall value in the long term.

Source: NSC’s 3Q’17 Presentation

Tighter Truck Regulations To Boost Intermodal Revenue

According to the Federal Motor Carrier Safety Administration’s (FMCSA) latest directive, all trucking companies were mandated to be equipped with Electronic Logging Devices (ELDs) by end of December 2017. The ELDs are synchronized with a vehicle engine to automatically record accurate driving time and hours of service. The ruling is aimed at ensuring safety on roads and preventing drivers from logging in incorrect hours.

However, this new rule is likely to result in a reduction in the available number of driver hours, causing a shortage of drivers and lower capacity of trucks available for transportation. While the trucking industry is expected to be hit by this law, other modes of transportation, particularly railroads, are expected to benefit from this. In light of this enactment, we expect Norfolk’s intermodal shipments to grow strongly in the coming years. Also, due to the tightness in the trucking market, the rates for intermodal shipments are anticipated to rise sharply in the near term. Below, we show, how the implementation of the ELDs will impact NSC’s intermodal division over the next few years.

Impact of ELD Implementation On NSC’s Intermodal Division

Based on the above discussion, we figure that Norfolk Southern is set to show strong growth in the coming years, backed by the improvement in coal and intermodal shipments and an improvement in its cost structure. You can edit or create your own scenarios about NSC and visualize their impact on its stock price using our interactive platform.

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