The Railroad Week in Review:
Earnings Week continued with Norfolk Southern (NYSE: NSC), Kansas City Southern (NYSE: KSU) and Wisconsin Central (Nasdaq: WCLX) all handing in results. KSU checked in Monday with 32% better earnings for 3Q98 over last year and up 57% for nine months. The railroad accounted for about a quarter of both numbers. Last year TFM cost the railroad four cents in quarterly earnings; this year it broke even. YTD saw TFM down a dime a share vs. an eight cent loss last year.
Freight revenues (which include Gateway and TFM) rose 11% for 3Q98 and 10% YTD with gains in coal and chemicals the main drivers. The OR for nine months came in at 78.7 vs. 85.7 for last year. Elsewhere, Moody's Investor Services has confirmed the Baa2 senior unsecured debt rating KSU. The ratings change comes on the heels of KSU's announcement that it has withdrawn IRS application for a 'private letter ruling' on the transaction to separate the railroad from the Financial Asset Management (FAM ) segment of the company. Moody's opinion is that the transaction will be delayed while the deal is restructured more to IRS liking in the midst of continuing market turbulence.
I missed Wednesday's Norfolk Southern presentation; however the website (www.nscorp.com) contains both the press releases and the prepared remarks, which together always seem to capture the flavor of the presentation pretty well. See especially the slides accompanying the commentary. Revenues for 3Q98 and YTD were about the same as the respective periods for 1997. Net income for 3Q98 was 42 cents per diluted share, missing consensus estimates by about 10% and shy of June's 48 cents a share.
Net income from continuing operations (which excludes the effects of NAVL) was $151 million for the third quarter and $470 million for the first nine months, equal to $0.40 per diluted share for the third quarter and $1.23 for the first nine months. Excluding Conrail-related items, net income from continuing operations would have been $186 million and $592 million, or $0.49 and $1.55 per diluted share, respectively. The railway operating ratio was 75.4 for the quarter and 74.9 for the first nine months, compared with 71.6 for both periods in 1997.
Meanwhile, Morgan Stanley rail analyst Jim Valentine cut his estimates for NSC saying they and CSX "are engaging in a destructive market-share battle" in the North jersey SAA. His revised numbers are 42 cents for 4Q98 and $1.80 for the year. The Zacks numbers are 56 cents for the quarter and $1.83 for the year, down from $1.93 in the last 90 days.
Also on Wednesday Wisconsin Central reported 3Q98 earnings: off by 9% and YTD about even. North American operating revenues for 3Q98 reached a record $88.8 mm, up 4% over 3Q97. The quarter's OR improved to 70.3 compared to 72.6 for the year-ago quarter. YTD revenues were up 3% to $257 mm and the OR improved to 74.3 from 76.2. These increases were offset by decreases in equity income from affiliates with EWS and TranzRail showing YTD shortfalls of 18% and 45%, respectively. Still, in orders of magnitude it helps to recall the EWS contribution YTD is six times that of TZR.
Today I had the good fortune to hear Reilly McCarren, WC's EVP and COO, present some of the challenges faced by EWS. The occasion was a panel discussion on "open access" presented at the Transportation Research Forum annual meeting here in Philadelphia. Readers will recall I wrote about a visit to EWS last summer, saying you have to "rethink the paradigm" when it comes to freight railroading in the UK. Said Reilly, timetable white space remains limited, especially for slow freights on key routes, there are no double- stacks, GVWT is restricted to 222,000 lbs on four axles, and there are major cross-border compatibility issues.
And since EWS must rely on RailTrack, another private company owning the railroad tracks, for its routes, it needs the latter outfit's blessings on route availability and as a result service reliability can suffer. Thus access and pricing can "dramatically affect prospects for freight operators." The marketing paradigm also changes as a result. To begin, shorter distances mean shippers expect a higher degree of punctuality - miss your schedule by 10 minutes in some places and you're in trouble. And trucks, though plentiful, face more congestion than in the US, giving the rails a better shot at JIT customers. But EWS has to get RailTrack's railroad first, and therein lies the challenge.
Last week's comments on yield (average revenue per carload) brought some insightful mail. John Giles, VP Marketing at CSXT writes, "Commodity mix has a far bigger influence on revenue/car than any price reductions. Within the CSXT merchandise group the growth in unit trains of rock, moving 50-60-70 cars 200 miles -- making 9 trips a month -- have proven to be remarkably profitable, but look like losers in the more traditional sense. We have a convention at our railroad where we look at the container, not the railcar, as the relevant way to manage and track our activities. Thus high volume-low revenue per car does not necessarily mean price change or margin squeeze."
Continuing the thread, Randy Resor of Zeta-Tech writes, " Railroad yield per ton-mile has been declining since 1981. Railroads have survived by shrinking, but as you note [WIR 10/24/98], the big expense hits are harder and harder to find. Conrail, for example, and as shown by some graphs I've used in presentations, shows a decrease in constant-dollar revenues comparing 1996 with 1977-1981 (it's even worse if adjusted for inflation). In other words, Conrail shrank its way to profitability.
"The bottom line is the industry cannot afford to continue to invest in capacity enhancements without the prospect of additional revenue. Railroads can't improve yield without improving service, but improving service costs money. I learned how railroaders really feel about service vs. revenue when I worked on a "business case" analysis of positive train control. The largest identified benefit of this information system was a presumed ability to better manage railroad operations and operating assets, resulting in large improvements in equipment utilization as well as better service. Presented with our analysis, the test railroad's senior staff refused to believe it.
"It seemed that they didn't really believe that an information system could make so much difference to equipment utilization and they couldn't accept that the predicted service improvements would actually occur. And, to top it off, they simply didn't believe that the railroad could actually extract value (additional revenue) from customers if better service really happened."
Both Giles and Resor make good points, and the benefits of both approaches can readily be seen in the shortline environment. Very often carload payment allowances are thin to begin with, so the way to make money is to move the cars on and off the railroad very quickly. Aggregates, grain, and low-value, light-loading manufactured goods come immediately to mind.
Moving cars quickly means customers are being served efficiently because dwell times at customer locations are held to a minimum. The car shows up on schedule, it's (un)loaded promptly because the customer expects it, and it moves quickly back to interchange and off the per diem clock. And the faster the customer handles the cars the more cars that customer can handle. Coming full circle, service drives customer satisfaction and total revenue; total revenue drives available cash flow, and having cash flow available drives capital improvements. QED. And thanks, gentlemen.
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