Updates article with comments from Norfolk Southern leadership
Despite facing macroeconomic headwinds in the fourth quarter and into 2020, Norfolk Southern’s (NYSE: NSC) leaders insist that the eastern U.S. railroad will reach a target operating ratio (OR) of 60% by 2021.
“We believe we’ll see the fruits of our efforts in the form of a resumption of growth… But if we don’t, we’ll push even harder on efficiency measures [and] on productivity measures to get to the 60 [percent] OR,” said Jim Squires, chief executive officer for the company, during the third-quarter earnings call on October 23.
An OR of 60%, or below 60%, has become an unofficial Wall Street benchmark for the Class I railroads, especially in light of the railroads’ deployment of precision scheduled railroading (PSR), an operating model that seeks to streamline operations and schedules. A falling OR, which is often calculated by dividing operating expenses by revenues, can indicate a company’s increasing profitability to investors.
Norfolk Southern, which is known in the industry as NS, reached an OR of 64.9%, which the company said was a third-quarter record, the company said. Third-quarter 2018’s OR was 65.4%.
Transportation analysts on the earnings call pressed NS on how the company expects to achieve its 2021 target, considering that its competitors have also reached record ORs in recent quarters and existing macroeconomic conditions appear likely to persist into the beginning of 2020.
NS leaders responded that TOP21, the company’s version of PSR, uses a multi-phase approach applied segment by segment, and as a result, the effects are gradual.
Phase one of TOP21 focused on deploying efficiency measures such such as using more trains that operate of distributed power, to NS’ merchandise, bulk and automotive segments. The efficiency measures resulted in an 11% reduction in crew starts in the third quarter compared with the same period in 2018, the company said.
The second phase, which started on July 1 of this year, consists of deploying even more trains with distributed power, “blending” intermodal, bulk and carload traffic through manifest trains, conducting local and yard efficiency “scrubs,” and “clean sheeting” or ensuring best practices at the company’s intermodal terminals. These efforts collectively will reduce crew starts even further, as well as reduce headcount and terminal dwell, NS said.
Distributed power enables NS to operate longer trains because locomotives are also set up to be in the middle or end of a train.
“We’ve got more in the gas tank with the phases that we’re talking about,” said Mike Wheeler, chief operating officer.
A third phase of TOP21 will “remodel” all traffic for additional efficiency opportunities, according to NS’ third-quarter 2019 presentation.
NS leaders said they would discuss its outlook for next year when the company reports its fourth-quarter results in January 2020.
Coal and intermodal declines put pressure on Norfolk Southern’s profits
Declining coal and intermodal volumes contributed to a 3% drop in third-quarter profits for NS.
Third-quarter net income fell 6% to $657 million, or $2.49/diluted share, compared with $702 million, or $2.52/diluted share, in the third quarter of 2018.
Coal volumes slumped in the third quarter, declining 14% from the third quarter of 2018. Intermodal volumes also fell, slipping 5% year-over-year.
Those volume declines contributed to lower revenue for the coal and intermodal segments. The operating revenue for coal fell by 13% to $403 million, while intermodal’s operating revenue slipped 5% to $707 million. Operating revenue from merchandise was flat at $1.7 billion.
Meanwhile, overall third-quarter operating revenue fell 4% to $2.8 billion, with a 2% increase in average revenue partially offsetting a 6% drop in total revenue.
Operating expenses also fell 4% to $1.8 billion amid lower compensation and benefits, equipment rents and fuel prices.
The company said a $32 million write-off of a receivable resulting from a legal dispute unfavorably impacted the operating ratio by 110 basis points and earnings per share by $0.09.
