Q4 2019 Earnings Call
Greetings and welcome to Norfolk, Southern Corporation fourth quarter 2019 earnings Conference call.
This time, all participants are lost only mode.
A brief question answer session will follow the formal presentation.
If anyone should the core operator systems during the conference. Please press star zero on your telephone keypad.
As a reminder, this conference is being recorded.
At this time, it's my pleasure to introduce P. trouble director Investor Relations.
Mr. Sharp will you may now begin.
Thank you, Rob and good morning, everyone.
Please note that during today's call we may make certain forward looking statements, which are subject to risks and uncertainties and may differ materially from actual results.
Please refer to our annual and quarterly reports filed with the FCC for a full discussion of those risks and uncertainties, we view as most important.
Presentation slides are available at Norfolk, Southern Dot Com and the Investor section along with our non-GAAP reconciliation.
Additionally, a transcript in downloads will be posted after the call.
And it's now my pleasure to introduce Norfolk, Southern's, Chairman, President and CEO jumps worse.
Good morning, everyone and welcome to Norfolk, Southern's fourth quarter 2019 earnings call.
Joining me today or Allen Shah Chief Marketing Officer, Mike Wheeler, Chief operating Officer, and Mark, Georgia, Chief Financial Officer.
2019 was a remarkable year of transformation at Norfolk Southern.
We launched our top 21 operating plan to transform our railroad, while fulfilling our commitment to dramatically improve our service product as we become more efficient.
We've made tremendous strides on both of those fronts and deliver progress on our strategic plan.
In the face of a challenging volume environment. We're pleased to share results today that demonstrate this organizations strong momentum in streamlining our operations and making substantial progress toward our long term commitments. Thanks to the hard work and significant efforts by our workforce and leaders.
Slide four highlights those results for the quarter EPS was to 55 and the operating ratio was 64.2%.
For the full year income from operations reached record levels at nearly 4 billion, resulting in a record operating ratio of 64.7% a 70 basis point improvement over 2018.
Earnings per share increased 8% to 10 25.
We've now achieved record operating ratio results for four consecutive years.
This year's improvement is particularly impressive against the backdrop of contracting volumes.
These records demonstrate our commitment to continuous improvement and underscore our steadfast dedication to creating shareholder value.
Despite volumes deteriorating throughout the year, culminating in fourth quarter and full year volume declines of 9% and 5% respectively.
We remained focused on running our railroad as efficiently as possible and with a high level of customer service.
Keeping our locomotive and teeny workforce productivity goals, despite having less freight to haul.
These efforts contributed to the record full year results I mentioned a moment ago.
And the core margin improvement accomplished during the fourth quarter, which mark will discuss shortly.
Demonstrates the significant momentum, we're carrying into 2020 and beyond.
As we enter 2020, we continue to build on the strategic plan initiatives, we launched in 2019.
Wow Rolling out phase three of our PSR based operating plan top 21.
Which will drive additional productivity across our resource base, all while maintaining the high quality service product established in 2019.
The team will provide additional details regarding these initiatives as well as further details on our fourth quarter and full year results.
Alan will cover trends and revenue Mike will cover operational performance and Mark will go over the financial results I'll now turn the call over to Alan.
Thank you Jim good morning, everyone.
Macroeconomic headwinds challenged volume in 2019, particularly in the second half a year.
With these tough conditions, we continued our focus on margin improvement supported by the value that our outstanding service product creates in the market.
On slide six excess truck capacity trade and economic uncertainty and manufacturing weakness negatively affected our markets.
Driving a 9% decline in volume.
We partially mitigated the impact of declining volumes with stronger revenue per unit, excluding fuel in all three of our business units, including quarterly records and our merchandise and intermodal business groups.
Norfolk Southern's revenue per unit has increased year over year for the last 12 quarters. Despite the market cycles over that period of time.
The week manufacturing environment, and low commodity prices drove down merchandise volumes in all groups, except chemicals led by 17% decline in steel.
Imports steel tariffs affected the traffic flows at a lower steel prices, reflecting weak demand.
Merchandise volume declines were partially offset by an increase in crude oil, which more than doubled its volume year over year.
Intermodal revenue declined 8% due to excess truck capacity in a weak freight environment.
International comparisons were difficult as the inventory pull forward drove a spike in fourth quarter 2018 volume.
Coal volume and revenue were down 21% year over year with the largest volume decline in utility coal.
Our northern utility portfolio was impacted by low gas prices and combined cycle capacity.
Export was influenced by following seaborne met prices and Chinese terrorists, well export thermal prices remained at low levels, making it difficult for U.S. calls to compete globally.
Turning to slide seven in 2019 revenues decreased 1%, despite a 5% decline in total volume.
Evident from our margin improvement strategy revenue declines were partially offset by 3% increase in revenue per unit.
Merchandise revenue reached a record $6.8 billion in 2019, while volume declined 3%.
Volume headwinds occurred from weakness in the manufacturing economy, the loose truck market and declines in steel and natural gas liquids.
We were favored by fuel price differentials that boosted crude oil demand the east coast refineries and we secured increased aggregate volume.
Intermodal revenue decreased 2% on a 4% volume decline as gains international were offset by domestic declines.
Lower spot truck prices and excess capacity in the trucking industry reduced domestic intermodal demand in this week freight environment.
Turning to coal revenue declined 8% utility volume declines were predominantly in the north.
We are low natural gas prices depressed coal burn.
While southern utilities benefited from inventory build in the first half of the year.
The press seaborne coking coal and thermal prices led to lower export volumes and prices that were further impacted by production issues.
Well on certain economic conditions negatively impacted revenue and volume in 2019, we maintained our focus on improving our service and creating a product that will enable our customers and Norfolk southern to grow when the freight environment improves.
This approach supports our strategy of margin improvement.
Which is reflected in our increasing revenue per unit.
Providing opportunities for operating leverage when demand improves.
Moving to our outlook on slide eight.
We're closely monitoring developments in the macro economy and its impact on the industries and business segments, and which we compete.
As well as our customers expectations as we execute our strategy.
GDP growth is expected to be in the 2% range in 2020, what the majority of that growth from personal consumption.
Creating opportunities and our consumer driven intermodal and merchandise markets.
Continued weakness in manufacturing and low commodity prices will impact our coal franchise and other segments of our merchandise markets.
Overall, we have not seen an inflection point in volume trends and a high degree of uncertainty exists.
We see growth potential as we move into the second half of 2020 due to forecasted improvement and the trucking and industrial sectors.
And easier comparisons.
You asked light vehicle production is forecast to improve more than 5% in 2020 improved price differentials are predicted to sustain fourth quarter 2019 crude volume levels through 2020.
Overall, we expect total merchandise revenue improvement enabled by our strategy with continued support from our consistent reliable and quality service product.
The truck market remains loose with spot rates leveling off yet our customers and data providers forecast. Some tightening later in the year.
Based on this information and new business initiatives, our intermodal revenue and volume are expected to grow and 2020.
In coal additional gas and renewable generation capacity continues to a road coal share of electricity generation.
Coking and seaborne thermal coal indices are substantially below prior levels impacting both export volume and pricing.
In summary, as headwinds persist in the freight environment, we expect 2020 revenue to be flat.
The first quarter similar to the fourth quarter of last year and conditions, improving as the year progresses.
We remain focused on a disciplined pursuit of efficiency, while recognizing the value arc assistant fast and reliable service product creates for our customers.
In light of continued economic uncertainty and with our demonstrated willingness and ability to adjust to market conditions. This approach provides the platform from which we will further enhance value for both our customers and shareholders.
I'll now turn it over to Mike for an update on operations.
Thank you Alan today, I will update you on the state of our operations.
In the fourth quarter, we continued to deliver strong service for our customers and significant cost savings, which drove a record operating ratio for the year.
This operational leverage is driven by a relentless execution of the core PSR principles and our top 21 operating plan.
Moving to slide 10, our network is running fast and on time record train performance and record terminal dwell drove near record card level velocity and strong asset utilization for Norfolk, southern and our customers.
These achievements support our strategy to meet our customers' expectations, while eliminating costs and prudently managing our assets.
Our momentum has continued into 2020 .
And we'll be a tailwind to our initiatives this year.
As seen on slide 11, or operational performance is driving strong service levels.
As evidenced by our customer facing metrics.
Intermodal availability, which measures our customer commitment to grounding of the box.
Shipment consistency, which measures trip plan adherence for merchandise traffic and local operating plan adherence, which measures execution of the critical first mile and last mile of service.
All of these metrics were at or near record low levels.
We have been sharing our metrics with our customers for well over a decade, and we use them to have data driven discussions to confirm the value of our service product.
We remain committed to providing a high level of service for our customers, while achieving our productivity goals.
Turning to our service and productivity metrics on slide 12.
These metrics align with our strategic plan as a measure key productivity and customer service levels.
We have been aggressively reducing our resources to meet our productivity goals. Despite the drop NRG teams.
Starting with the service delivery index, which is the on time delivery performance of our scheduled shipments indexed to 2018.
This is a customer facing metric that combines shipment consistency and intermodal availability, which we are detailed in the previous slide.
We exceeded our 2019 goal and actually achieved our 2021 goal two years earlier.
We will maintain this high level of service by continuing to execute our top 21 plant.
We exceeded our 2019 teeny productivity goal, despite a significant drop in gtlds.
We are at our lowest teeny head count on record, while still providing exceptional service.
We are realizing the benefit of our top 21 plan.
He has the added benefit of capacity in the train plan to allow for growth on the existing trades.
While we missed our 2019 train weight goal for the full year, we actually met the goal in the second half of the year with the implementation of our top 21 plan.
We have however, taking another look at our 2021 train weight goal in light of the continued change in the coal market.
We believe the new goal of 6700 tons, which is 5% higher than our baseline reflects the improved productivity of our top 21 operating plan, while taking into account the projected mix.
We also met our goal for locomotive productivity for the year by aggressively rationalizing our locomotive fleet, which is 20% lower than 2018.
As mentioned in our previous call. This has allowed us to significantly rationalize resources associated with the maintenance of these locomotives, including a reduction of 600 positions last year and an additional 135 positions this year.
Regarding fuel, we will benefit from our lower locomotive fleet size or aggressive implementation of energy management technology, and our DC to AC conversions.
And the cars online continues to be a positive story for Norfolk Southern.
As we noted throughout the year, we exceeded our original 2021 goal, thanks to our fast and consistent service product.
To that end, we have established a new goal of 129000 cars going forward, which includes cars in storage that can be deployed as market conditions Ward.
In summary, we are confident we will meet our productivity goals for this year as we will now have the momentum of full year benefits of our previous rightsizing of our workforce and locomotive fleet.
This will get us more than half way to where 2021 productivity goals. This year.
But you can see on slide 13, we accelerated our progress in reducing crew starts during the fourth quarter. We continued to build on the success of top 21 with phase two of the plan, which include an initial consolidation of some bulk movements into the manifest network and dividends.
From our year long clean sheet program.
This improved fluidity is allowing for the continued reduction in yard in local assignments.
This quarterly year over year improvement accelerated in the fourth quarter with the majority these improvements being long term structural gains.
Previously mentioned on the other slide we have capacity in the new plan to accept additional volumes without a commensurate rising crew starts.
We anticipate continued strong year over year comparisons as we begin to rollout phase three of top 21, completing delivery of the promise three phases of the program in a year and a half instead of the anticipated three years.
Going forward, our network planning and operations groups will be evaluating the plan and the network for further optimizations.
In closing this has been a critical year for Norfolk, Southern we started the year by detailing our implementation of the core PSR principles. We have successfully executed on these principles despite the challenging market.
Our services at record levels, we achieved a record operating ratio and are serious injury ratio was the lowest in the last five years.
We are carrying this momentum into 2020.
I will now turn it over to Mark who will cover the financials.
Thank you, Mike and good morning, everyone.
Before we get into the detail piano I want to point to a chart in the appendix that specifies for you some large an unusual items.
That impact the results in comparisons versus 2018.
I'd like to talk to those impacts upfront on slide 15 for the sake a clarity.
This chart illustrates the effect of those items on the ore and EPS for the quarter as well as for the year.
The reported changes to Omar and EPS are reflected on the bottom ROE and we just still those drivers in the white rose above.
The first item as you may recall relates to a property sale in the Atlanta area in the fourth quarter of 2018.
That particular gain was $112 million and creates an or headwind of 380 basis points in the fourth quarter of 2019.
And 100 basis points for the full year with a headwind to EPS of about 30 cents.
Next was the $32 million receivable write off arising from a legal dispute that we called out in the third quarter.
This reduced the 2019 or by 30 basis points and EPS by nine cents.
The final headwind involve the non operating impairment that we booked in the second quarter related to the natural resource assets, we have been actively marketing.
In the fourth quarter, we took an additional 21 million dollar impairment related to those same assets and that had a six cents impact EPS in the quarter.
And when added to the to the second quarter impairment loss, the EPS impact for the full year was 14 cents.
You'll know we had a lower effective tax rate in the quarter.
This was driven by certain income tax credits authorized by Congress in December 2019, which were retroactive to 2018.
The impact to the fourth quarter EPS was seven cents.
And for the full year it was four cents.
Beyond these unusual items the core improvement in your was 240 basis points for the quarter and 200 basis points for the full year, while core improvement to EPS was 28 cents for the quarter and a $1.23 for the year.
Now moving to the fourth quarter slide.
16 revenue was down 7% in the quarter driven by a 9% volume contraction, partially offset by ARPU improvement.
Operating expenses as reported were 5% lower including five points of headwind from the absence of the prior year land sale.
Drilling into the expense categories on slide 17.
As Mike illustrated earlier, our top 21, PSR based operating plan.
As reduce the amount of resources, we need to run the network, resulting in fewer trains and lower crew starts manifesting in substantial cost savings across multiple expense categories.
Starting with compensation and benefits, we drove a $127 million reduction in expenses in the fourth quarter.
That's a decline of 17%.
On a 16% reduction in employees.
Our employment levels declined throughout the quarter and this along with lower overtime health and welfare benefits as well as less re crews saved us $86 million.
This favorability was partially offset by $17 million of additional expense due to inflation in pay rates.
In the quarter incentive compensation expense was lower by $57 million due largely to last year's higher payout that disproportionately impacted the fourth quarter of 2018.
So we drove average headcount down by approximately 1500 employees from last quarter and have reduced by 4200 compared to last year.
Runrate benefits from this will continue into 2020 on top of additional efficiency actions.
Moving to fuel reduced consumption and lower prices drove a 52 million decline in fuel expense.
We improved on our fuel efficiency as fuel consumption declined by 11%.
On the 9% decrease in volumes, despite adverse mix from weaker coal, where our fuel efficiency is strongest.
Here in 2020 fuel efficiency is getting intensive tension through various initiatives, including continued locomotive upgrades and deeper energy management penetration as Mike mentioned.
Moving over to purchase services rents and materials, our initiatives to improve asset utilization.
Our also driving a reduction in expenses.
The increase network velocity improved fluidity and fewer locomotives and freight cars on the network drove $15 million in savings associated with equipment rents and $12 million in savings of material cost.
These expenses that sorry. These savings were partially offset by increased detour in costs due to a bridge washout and derailment expenses that amounted to $13 million collectively.
The fast response and strong execution by our operations team limited the financial impact of the derailment to only half of the $25 million, we signaled at the last earnings call.
So when looking at the Big picture the underlying change to our cost structure accelerated in the fourth quarter as we continue to drive resource reductions through the end of the year.
The full year effective those savings will be realized in 2020.
Moving to slide 18.
Let's take a look at our summarized fourth quarter financial results.
Other income.
Included $31 million of favorability from investment returns on our corporate owned life insurance, where we had positive returns in Q4 2019.
Versus losses in Q4 2018.
We also had $15 million of higher gains on the sale of non operating properties than prior year.
These amounts were partially offset by the additional 21 million dollar asset impairment loss that I mentioned earlier.
The lower effective tax rate of 19.6 was driven by both the retroactive tax credits as well as higher non taxable returns on the corporate owned life insurance.
Income taxes will represent some headwind in 2020, as we expect the tax rate to be between 23 and 24%.
Shifting to the full year on slide 19, we delivered impressive results for the year in the face of accelerating declines in revenue.
And the net headwind items, we discussed on slide 15.
We reduced railway operating expenses by $192 million.
We set company records for operating income and operating ratio our railway operating ratio improved 70 basis points over 2018.
Net income improved by 2%, but diluted earnings per share grew 8% to $10.25 for the full year aided by a 5% reduction in our average share count.
Achieving the cost reductions, while pushing delivery performance for our customers to record levels demonstrates our commitment to long term value creation.
Recapping on slide 20, our full year cash flows.
From operating activities was $3.9 billion and free cash flow for the year was a record at nearly $1.9 billion.
Dividends and share repurchases for the year totaled over $3 billion.
So to close we clearly have created momentum on the cost side. Despite the volume challenges and obstacles that were unforeseen at the beginning of the year.
It's that momentum plus new initiatives, which provides us with strong leverage going into 2020 to continue to drive profit growth and margin expansion.
Thank you and I'll turn the call back over to Jim.
Thank you Mark as you've heard on the call today, the Norfolk Southern team made tremendous strides in executing the strategic plan, we laid out a year ago.
Amid a rapidly changing macro economic landscape, we pivoted, our productivity initiatives and achieved a locomotive fleet reduction of 20% and workforce reduction of 8% for the full year average with those figures accelerating to 22% and 16% respectively in the fourth quarter.
These resource adjustments significantly outpaced the volume declines demonstrating strong cost momentum, while maintaining exceptionally strong customer service levels.
Turning to slide 22, I'll wrap up with our 2020 expectations.
First and foremost we will continue to execute our strategic plan with the top priority of running the most efficient railroad possible, while being a best in class supply chain partner for our customers.
As you heard we are modeling net overall revenue to be flat for the year with persistent headwinds in coal to be offset by improving comparisons in merchandise and intermodal as the year progresses.
Despite and within that environment, we have confidence that our productivity and deficiency Formula will result in significant operating ratio improvement this year that will get us more than halfway to our committed 60% or in 2021.
Lastly, as we continued to execute our highly effective locomotive fleet modernization program.
We are targeting a capital expenditures program between 16 and 18% of revenues.
We remain committed to returning capital to shareholders through a one third dividend payout ratio.
With remaining cash and borrowing capacity used for share repurchases.
This disciplined capital allocation strategy.
Represents our commitment to enhance shareholder value through returning capital and ensuring Norfolk Southern is positioned for continued success.
Before we turn it over to questions I want to thank each and every ennis employee for their hard work and commitment to the strategic transformation of our railroad.
Thank you for your attention will now open the line for Q in a operator.
Thank you well now be conducting a question and answer session. If you like to ask a question. Please press star one on your telephone keypad and the confirmation tell indicate your line is in the question Q.
The press star to feel that your move your question from the Q.
From this budgeting seeker equipment, and maybe necessary to pick up your handset before pressing the star Keith.
Due to the number of analysts joining us on the call today, we ask everyone to please ask one primary question on follow question to accommodate as many participants as possible.
Thank you and our first question comes from vinyl Bascome majors Susquehanna.
Okay.
Yes, Thanks for taking my question here.
Your Mark you've been in the CFO see for about three months Fountainheads from time to get the layer to land.
Can you just take a step back and kind of give us versus your expectations coming in you kind of whats as expected maybe what has surprised you.
And.
Are there any changes that we should expect to see as investors, we view, leading to finance organization versus how it answers handle things historically thanks.
Thanks for the question.
Yes, coming in from the outside a different industry.
A culture.
That clearly is different than the one I've.
Come from I would say that.
Surprised.
That we see a great blend here of long tenured industry experts.
We're very passionate about.
Not just the business, but the industry itself.
The infusion of new talents that come from different walks of life and different industry experiences and that they are actually being welcomed.
With their new ideas, including my own.
Likely coming from the outside so that's been kind of a pleasant surprise I would say.
It was not expecting such such a welcoming with regard to the new ideas and new concepts being brought it I'm also kind of impressed by the speed and agility of of an old companies so to speak to react to a very rapidly changing economic environment.
You see the the charts that Mike showed on how quickly we've taken resources out to respond to volume declines and then nimbleness I would say it has has surprised me.
And you know coming in.
Another big observation is just how capital intensive businesses compared to where I've come from.
We obviously spend a couple of million dollars a your capex we've got over.
Over $30 billion of fixed assets.
And so it's certainly an area that I need to drill into a little bit more my understanding why we spend so much certainly.
Half of that is related to maintaining this big infrastructure to serve your customers and to do it safely.
But I do want to understand.
The rationale for.
Spends that we have.
The justification financially for them and the prioritization process. So it's something that I expect to dig into a little bit.
And maybe you've seen a little bit on on this call. Two we just want to be transparent with the investment community about the path that were on which is to get to a 60% or by 2021.
Okay. Thank you so much can answer.
Thank you.
Our next question from the line of Scott Group with Wolfe Research. Please proceed with your question.
Hey, Thanks morning, guys. So Mark I'm, hoping you can help us with all that more clarity on some of the numbers here. So can you give us the what their real estate gains above the line, we're in the fourth quarter and any expectations for for this year in terms of what's assumed in the guidance and then similarly within with.
Incentive comp I know it was down in 19 versus 18 any way to think about his 2020 year of a headwind tailwind or normal any help there.
Oh, sorry, the second question Scott.
It's just on incentive comp should we think about it that as a headwind in 20 or is it 20 versus 19 sort of just a normal year on incentive no we would hope that incentive.
As a headwind because we're hoping to have a better year in 2020 than we did obviously this year, we're where we felt a little bit short so clearly that will be a little bit of headwind for us with regard to the real estate.
Excluding the big one that we carved out for you.
Gains in the year were a little bit higher than they were last year less than $20 million.
In the fourth quarter roughly half of that benefit we saw in the fourth quarter of this year. So we had about $10 million of additional gains in 19 versus the fourth quarter of 18, excluding the big one that we carved out.
And the guidance Scott on real estate fit for in any given year, we're expecting $40 million to $60 million of gains.
It's going to be lumpy could be.
Back loaded it could happen middle of the year, you know with real estate you never quite sure. When you can get things to close and get over the finish line, but we ended this year excluding.
Sorry, we ended last year, excluding the big gain in that range and the same thing. This year, we ended within that range.
Okay. That's helpful and then so on the revenue guidance of flat.
Maybe if you have a thought on our volumes down and yields up and then no. It does feel like you guys are losing some share on the volume side, but clearly doing well on the yield side or are you, okay with that that yield up strategy and that tradeoff of better yields, but weaker volumes and then maybe year period or do you feel like you've pushed it too far.
Just some thoughts how you're approaching the market Scott It's Jim Let me take the second part of that the market share question, and then I'll turn it over to Alan to give you some more color on the components of our revenue guidance for for this year.
We are targeting the truck market that stats the market share opportunity. That's that's the big opportunity for us and that is the linchpin of our growth strategy is getting trucks off the road onto the railroads. So you know and there are opportunities there when it comes to our our growth engine.
Our model and there are also opportunities in the merchandise realm, So and we're also certainly committed to.
Achieving value for the services, we provide which.
Which value is quite quite strong. These days you know we've got a great service product out in the marketplace.
And I were very proud of that and things that we can we can create value for our customers through that service. So Alan a little bit more color on the 2020 revenue outlook, Scott coal is going to be a drag throughout the year as can be a drag both volume and price.
We've got a great service product out there and we're taking a long term view of our markets. We're taking a long term view of our our approach with our customers as well so.
We're very disciplined and securing the value and understanding the value at our service product.
For our customers.
As Jim noted.
Hi, guys around that 800 billion dollar truck Mark.
And that's that's where the growth opportunities.
That's where we're going to see improvement as the year progresses.
It's it requires.
Fierce competition and put new products out there new logistic services that our customers value and we're doing it from a platform.
And which I'll remind you.
We we went out in front of our customers and we told them, what we were going to do with our operating changes.
And then we did it and there we've created a lot of credibility with our customers for our no surprises approach to our operating plan changes, we implemented at flawlessly and what's unique about Norfolk Southern is that as we implemented PSR our service got better.
So we're in great position to to grow as we move forward and if you think about truck and the opportunities there it aligns perfectly with the unique strengths of our franchise, we had a powerful.
Intermodal franchise, and we have a very broad and diverse merchandise franchise as well and we're focused on opportunities to take business from truck in March.
Okay. Thank you for the time guys.
Our next question comes from the line of Allison Poliniak with GR energy. Sir. Please proceed with your question.
Hi, its Allison on just a question and one circle back to the cars online commentary if I heard you correctly. Thank you said that that number included a lot on storage to that.
One volumes are expected to upgrade.
Good I am sorry.
Yes, that's right else and that's that's how we calculate that number and we do it that way because we want to focus on the velocity of our entire car fleet, including those that are in storage. So that were that's an asset that remains on the books and we want to make sure that it too is being taken into account as we as we think about utilization of the freight car Aspen.
Yes. This is Mike of that 129000, we have 17000 cars in storage.
Favorable to us to flex up when the business.
Rives and we're pretty excited about that.
Great and that is obviously, you're you're well into your strategic plan you know looking back over that you didn't Patsy month, what's the greatest surprise entered into your ability to.
Ted it to perform in this environment.
Oh, I think Mark did a good job describing the.
The progress that we have made the core operating and core earnings improvement that we made in the fourth quarter. So the momentum stands out for all of US I think and Thats not a surprise and that we've been we've been driving and we've been focused on accelerating the improvements as we move throughout the year and.
We did it in fourth quarter and that that will carry over into 2020 and beyond.
Great. Thank you.
Our next question comes from the line of Ken Hoexter with Merrill Lynch. Please proceed with your question.
Hey, Greg good morning.
Maybe just expanding on that.
Target or of the 235 basis points year over year or maybe for Mark but included does that include the headwind of the incentive comp returning the 40 to 60 million real estate gains and then maybe just your thoughts on on what's going to happen with the employee base. Moving forward is this are you is this kind of the run rate level do you still see more productivity.
On the employee side. Thanks.
Mark Yeah, Ken.
Look I think right in terms of headcount we've taken we've taken a lot out this year theres actually more to come so not only will really enjoy the benefit of the full year effective.
Those employees that came out in the back half of this year, but there are more to come.
In the beginning part of this year and then frankly, we just have to see.
Volume shakes out.
And determine how much further we can go.
And absorb.
The volume that we're assuming to get returned in the back half of the year.
Sorry, the first half of your question Ken.
Let's just just to ensure that the 235 basis points improvement, which is great. But does it include that headwind of incentive Dawson and the real estate gains and you mentioned thats all it all baked in right. It's it's all baked and.
So.
Incentive comp returning to normal and.
The real estate gains being in that 40 to 60 range.
It's all part of the calculus, it's a big number. Thank you and then I guess my follow up for Mike.
Just note it looked like had no targeted improvement in the service delivery indexes are you changing at the Titan your range or or why would they are not be given all the moves you're making in it I guess a target for improvement there.
So overall, we're pretty happy with our customer service levels and our customers are as well I will say, we are targeting tightening some of our windows for delivery to our customer and man and the better better on the consistency part so that's a part.
Out of it but it doesn't roll up necessarily into changes at the at the macro level, but yet we're pleased with our service, but we're going to continue to dial it in.
Better and better in the trucks.
Ken if I could add saw the week, we collaborate with our customers on our service start then Mike noted.
For years, we've been putting service targets out there with our for our customers and sharing with them. Our performance in 2019, we upped the ante we went out in front of our customers and said here's what's going to change.
With PSR implementation, here's how your service is going to improve and then we delivered it.
And as you're going to see our PSR implementation continues to evolve we continue to make improvements and we're putting a product out there and helps us compete with tracking as the truck market tightens as we move throughout the year, it's going to be a a growth driver for us very confident and the quality of the product that were delivered.
Yeah.
I seem to that effect.
Great. Thanks, Alan Jim I can mark appreciate it.
Thank you.
Our next question is from the line of Tom one of its with you've yes. Please proceed with your question.
Hi, good morning, and thank you for the detail on the 2020 outlook. It's a very helpful. A in terms of or you're just how to think about things and also that the framework on our progression is very helpful. So thank you for that.
Wanted to see if you could offer some thoughts on.
This segments, where you've had a have not seen improvement yet so I'm thinking of purchase services would you expense would you expect that line to improve.
In 2020 or 2021 as a result, the phase three and top 21 or the terminal improvement program. How do we think about that line and also maybe a little more on fuel efficiency.
Mark ill take that Tom So look purchased services clearly.
There is intermodal terminal operating costs that are in there I wouldn't call them strictly volume variable, there's an element of.
Fixed cost in there as well or committed costs in there, but bear in mind that in our purchase services category. We've also got other things that are not volume variable.
For example, a lot of the maintenance cost for the network that you don't capitalize flow through this line. So when you have repairs to rails and you have to maintain the.
The trees and.
Ensure that the lines are clear a lot of the cost or maintenance of the infrastructure cannot be capitalized it goes into this category.
Building leases and rental costs are in there and then the other piece that you have to bear in mind. Tom is there's a fair amount of technology costs that flows through their similar to what I described with maintenance, there's a lot of the ITC spend that can't be capitalized.
Runs through this line category and frankly, it's a growing category. The good news. However is a lot of those investments we're making in technology are delivering returns in other lines in the piano as you saw through the call today. So we're we're investing and things like automation.
It allows us to leave ourselves of some some headcount related to more transactional tasks.
And we expect to continue to invest in this technology element as well. So that's in large part why purchase services not moving as quick as we like all of that said.
I've got to dig in there a little bit and where we're we've talked about a quite a bit.
We've got to look at this bucket for opportunities in 2020.
It is an area, where I think it's right for us to dig into a little bit more your second question on fuel.
We made we made progress in Q4 with some levels of efficiency and we're really relying on a step change improvement.
Going into 2020 and fuel.
The team is organized well we continue the upgrades from DC to AC that provides a lot of.
A lot of benefits to us in many ways, including fuel.
But on top of that we're having deeper energy management penetration.
And so it's clearly an area in 2020, though.
We hope to see significant progress.
Hi, just if I can get a brief follow up.
I think there was maybe a little increase in discussion in December on volume sensitivity.
The 60, Oh, our target for 2021.
You know your your guidance for 2020 seems to indicate there's not a lot of concern about volume, but how should we broadly think about.
Volume sensitivity of getting to 60 do you need to improve volume growth in 2021, or how do we broadly thinking about that thank you.
Well, let me say first this is a cost structure costs.
Reduction based plan, particularly in 2020, where we felt we forecast slight revenue so.
It's all about achieving the efficiencies that we've tried to lay out for you that we have achieved already in 2019, and then rolling into this year and next.
As far as 2021 is concerned maybe we little get a little bit of a tailwind from from some growth at that point, but we're not factoring in a lot. It's a it remains fundamentally ana and efficiency oriented financial plan, even as we move into 2021.
Great. Thank you for the time.
Thank you. Our next question from the line of Chris Wetherbee with Citi. Please proceed with your question.
Hey, Thanks, good morning.
Wanted to dig in a little bit on the coal outlook, if we could specifically maybe exports.
Can you help us understand a little bit better how we should be thinking about I think theres two impacts your probably had one on the volume side and then on the yield side, maybe sequentially on the yields should we see expect to step down one QSR contracts get reset based on commodity prices and then how should we think about the volume just trying to put some some numbers around the coal headwinds we're looking at 20.
20.
All right, Chris, Let's let's review refresh where we were as we move through 2019 in first quarter and second quarter 2019.
Met coal prices were above $205, a metric ton and then they started cascading down to around one.
60 in the third quarter and up closer to 140 145 in the fourth and so as we've talked about frequently we saw sequential declines in both volume and in price and are met coal franchise, which is export franchise, which is about two thirds of our export coal which makes up.
About 25% of our overall coal volume.
Right now where gold prices are now you know it's in the low one fifties, you're going to see a lot of pressure.
On price and just recall, Chris that ARPU and export coal Matt was at its highest point in the first quarter last year as prices.
So your comps comps are most difficult in the beginning of the year the.
Not a lot of demand in Europe .
And as a result, you're seeing kohl's sourced from other locations globally are being put out onto the water and so there is increased competition for us there and of course, you know what's going on with thermal.
That is going to have a market impact on export thermal volumes. So youre going to see you guys see volume pressure and Bose.
Matt and thermal exports and you're going to see particular price pressure on net exports.
Okay, and then the yield pressures toughest in the first part of your 20 point.
Relative to last year, yes.
Got it okay all right that's helpful.
And then Jim maybe a bigger picture question coming back in the last the last one about award and 2021 in some of your thoughts there. So some significant.
Improvement this year and expectations for 2020, when we think about you know maybe some of those tailwinds that you could get from revenue growth potentially returning in 2021 and given the progress you've made so far.
Think about sort of the potential of the business. So adding a lot of a spend time focusing on your performance relative to peers is that the rightly we should be thinking about it. So some of the numbers that we're seeing from some of the other rails out there are those the types of potential ours. We can expect from Norfolk over time, just want to get a sense of how you're feeling about it kind of partway through this that.
As our initiative.
Should we see upside in the topline we would expect much of that to flow through operating income and to the bottom line because there will be significant operating leverage in that growth.
That's not our base case as we've been through but.
The growth will return and resume at some point, we think we get a lot of operating leverage because we have restructured our costs and believe that we can handle volume growth with the the resources on hand, there will be areas, where we have to increase spending to handle the volume growth depending on how much it is.
But by and large we believe we can handle the volume when it returns with our existing resources.
Okay. That's helpful. Thanks, very much for time I appreciate it.
Our next question from the line of Brenda see with Barclays. Please proceed with your question.
Hey, good morning, everyone and thanks for taking my question.
Yes, Jim maybe falling off that line of questions as we look at phase three of the top 21 plan is that going to drive pretty significant operational changes here and Thats why you guys have the confidence on the cost outlook and the our improvement in 2020.
Well that will contribute to it and for all the reasons that the last major reiteration of top 21 drove efficiencies.
So yes, that's that's a that's a piece of this.
In the next iteration of top 21, we will continue to focus on honoring consolidations on.
Decreasing so acuity.
On running longer high return heavier cranes to meet the goals that we put out there for those things. So it's really a it's it's further to the types of goals that we were pursuing in the in the previous versions of the plan.
I think at some point going forward this becomes continuous improvement.
And really in a way we're already there we are looking every day every week at.
Shorter trains and working on a plan in consultation with our customers and the field to full those trends into the network and achieve those efficiencies on an ongoing continual basis.
Okay. Appreciate that response and not to get to specific on this call, but mark can you talk to the other expense line item because I think if we look at it last few quarters. It was running around $60 million run rate is that the right level to think in 2020.
Other expense.
Yes.
Yes, that's about the right level.
Yeah.
Okay. Thank you.
The next question is coming from the line of Justin Long with Stephens. Please proceed with your question.
Thanks, and good morning.
So maybe to start with a quarter there were some onetime items that you called out in the prepared remarks. So I was wondering if you could just help us understand if all of these items were baked into the guidance you gave for 2019 I just wanted to get a better understanding of.
How things performed operationally in the fourth quarter versus what you expected.
I would refer to Mark's opening slide for the components of the or change and the EPS change.
Some of which were nonrecurring others of which represent core earnings.
Production during the quarter Mark yes. So.
The when you go back to the Appendix chart.
Basically the property sale, we 2018, we knew.
When we were building the 2020, sorry, the 2019 plan that we wouldn't be having.
Similar sale of that size.
But the receivable write off and the two asset impairments that we incurred in Q2 in Q4 were unforeseen.
So those impacts are clearly.
Not contemplated when the 2019 guidance was given.
There were some other things as you know the taxes were lower in your tax rate was what was lower in the fourth quarter that was not so that was not we that we projected when we when we gave the guidance on the quarter. So so basically think about it as those three.
Those three rows the receivable write off asset impairment and the retroactive income tax credit where the surprises to us at the time of guidance a year ago.
Okay, Great. That's really helpful. And then secondly, I wanted to ask about intermodal would love to get your thoughts on domestic intermodal growth this year and what you're expecting and then just from a margin perspective in intermodal as as PSR gets fully implemented in that now.
At work, how do you expect the incremental margins within intermodal to stack up relative to the rest of the business I know historically, you've talked about intermodal incrementals being lower than general merchandising call I'm, just wondering if that rank order could change post PSR.
Yes.
Just a night, we are expecting some gross and our intermodal franchise as the year progresses as I noted we.
Collaborating with our customers to look for logistics solutions that fit their needs.
And we were really fortunate because we're aligned with the best channel partners and the business and they're focused on growth they understand our network and so we're collaborating to see where we can compete with truck. We're encouraged to see an inflection and spot rates and truck we haven't seen like.
Big uptick answer the first order first derivative isn't all that great, but the second derivative as of its certainly stabilize and as is improving and that's going to provide some some headroom for incremental volumes for intermodal as as the year progresses. In addition to new service projects products that we're launching it as we go through top tier.
Anyone V. Three we're going to look at that consolidating some some business. We're also going to look at reopening some lights and introducing new new businesses for us.
And just in terms of the incrementals within the intermodal sector.
Yes, I would say this for the last couple of years, the Incrementals have actually been excellent during periods in which we were growing volume.
The his looking back historically, one of the things that did hold intermodal incrementals back a little bit was was fixed costs associated with the intermodal.
Volume growth.
I eat terminals and equipment costs, there as Mark went through we're very focused on on asset cost in this plan.
And in the case of intermodal, making maximum use of the assets that we have the terminals the equipment that we have today.
And keeping to a minimum the growth capex that we're putting into that that business. So lots of initiatives around terminal improving processes.
And particularly in the environment we're in.
Keeping a lid on equipment costs.
Okay, Great I appreciate the time.
Our next question is from the line of Walter Spracklin with RBC capital markets. Please proceed with your question.
Thanks, very much so going back to the materials and other line item.
Forgetting for now just I just want to be clear forgetting for now the fourth quarter 2018 impact and just looking at your.
Quarterly run rate through 2019, you were averaging anywhere from 190 to 196 and you step down to 130 in the fourth quarter.
Is that all do it is that all due to the gain that you had in the fourth quarter and can you get in can you tell us exactly what the gain was the amount of the gains in the fourth quarter.
That was the property.
The absence of the property gain from last year, which was $112 million.
Yes, no I'm talking it forget last year I'm, just talking the cadence of the materials and other line expense in the through 22019 was $190 million and it step down $60 million in the fourth quarter I'm, just trying to understand what caused the quarter sequential step down from what was 190 per quarter three.
2019 to dropped to 130.
Well some of that was efficiencies that we achieved in material spending in the fourth quarter's Mark went through this is this is one.
Efficiency pick up by virtue of having a smaller locomotive fleet.
And a car fleet out there were we incur lower equipment maintenance expense.
So what was the gains in the quarter I guess is a question and answer.
Mark.
It was around $40 million $45 million. So you were guiding at the beginning the year for 30 to 40 for the full year and you did 45 in the fourth quarter is that am I getting that right.
40 to 60, well, we're guiding now 40 to 60 I don't know what was said.
I mean, we've we've always said that this is going to be lumpy and unpredictable and you do tend to get more real estate.
Closings at the end of the year I think that that probably is a pattern that you see a little bit better gain in the fourth quarter, but it is we've you know we've we've produced about 40 to 60 million, excluding one off gains like we had in the fourth quarter of 2018, that's about what we expect to do going forward, but it will it will vary by.
The quarter from time to time, Okay. So so you were at 30 to 40 embedded in your guidance for 2019 at the beginning of the year and now it came in as I understand at 40 to 60 of which 45 was included in the fourth quarter.
Right. Okay got it okay. So we ended we ended the year none of it that closer to 60.
Okay of which 45 was all in the fourth quarter. That's correct got it. Okay. Thank you for clarify and then on the tax ita or the tax I I've got is at night, So 19 of retroactive.
Tax.
Adjustment, which would get your effective tax rate back up to around 22% still trending fairly quite a bit below where it was there anything else in the quarter versus the guidance that you were giving before 23% to 24% or is that a lower tax rate. Yes, yes. We had we had more benefits than we we assumed from.
The coli gains, which our tax exempt.
In addition, we have the 45 GE tax credits that we just talked about and disclosed but there was also higher deductions from stock based compensation everything kind of just went in the right direction for us. This year. So thats why these your effect ended a little bit lower than what we would typically guide is there something every week.
You would call out is just kind of an exceptional number because I don't mind lower taxes on lower expenses, but you know that tax impact.
Retroactive tax adjustment is there anything else that.
Was retroactive <unk> was it was onetime about quarter that would there was nothing out of period in the quarter no. Okay. Okay. Okay.
Okay and last question here is on the revenue. So your revenue flat for next year.
The guidance that you'd given.
Through the year last year was was a little bit more of the optimistic side, obviously a lot of things happened.
Unexpectedly what confidence do you have that in a while you're giving flat guidance. It is above your peers are you being a little bit more optimistic is there just year. The komatsu server just little bit more advantageous can you give us a sense of what comfort you have that that flat and rebounding off I think you said Q1 will be the same as.
Q4, which is coming off a minus 7% base that suggests it's going to be a pretty heady growth rate offset in the back half the year.
Yes, we are Walter our our growth is targeted towards the back half of the earn its it's reflecting the strength of our intermodal franchise and add some revenue growth within merchandise and it's about launching new products that that generate.
Revenue growth with our customers.
We're confident that we're going to be able to execute it.
Thank you.
Our next question is from the line of Brian Ossenbeck with JP Morgan. Please proceed with your question.
Hi, Thanks, Good morning, a question for Mike Onstream rates can you just.
Clarify if you said the second half met the target when you put in the new operating plan.
With that the new or the.
For the old target that you were tracking against and then if you can just comment on your level of confidence you have in meeting the new target, especially of coal declines more than expected maybe have some mix shift that goes towards the latter intermodal.
Or even if volumes come in lower than than you would think at this point.
Yes, so that that was against our 2019 goal and the so.
Full year, we met that goal for the back for the back half like we said it on the calls which is up 21 rolled in and drove greenway increases, particularly in the merchandise.
So our merchandise trains continue to be strong and growing in train link.
Intermodal is not and that's an area we have to continue to focus on it.
And the phase three of the a.
Top 21 plan does that.
Okay. So despite the lower mix of coal the key is really phase three in terms of building bigger and longer trains, even if volumes are flat or possibly though.
So it's it's phase three and it's what Jim talked about this continue optimization of the network. We continually look at trains that aren't running at sizes, we want them to and find ways to making bigger and and the without affecting service and we're we're doing that as we speak.
Hey, Thanks, a quick follow up from Mark if I could just on the Capex you mentioned, you're taking a look at some of the line items trying to figure out the.
With the spending level, obviously, it's a short time in the seat for now, but just want to make sure. It wasn't reading too much into that because clearly you know FERC has a.
Heavy locomotive rebuild program, but I agree with your peers are spending in some cases quite a bit less on for capex intense. So maybe you can just to expand on that thanks.
Yes look.
Right now the way we spend our Capex budget as Jim said, it's between 16 and 18% of revenue.
Roughly 60% of that is supporting the core network, it's the maintenance of way and see rail replacement ties imbalanced.
We put roughly 20% for the locomotive upgrades.
And that's again, the DC to AC conversions.
And as I've learned these this this replacement approach is actually generating very reliable product.
That is performing very well in the field and it's actually much cheaper than buying newer locomotives.
So that's that's logical and then the other 20% bucket is comprised of a lot of other things, but primarily of ITC spent and digital technology spend.
So that's kind of how we break down our capex I'm getting in and I'm just trying to understand it because it's obviously, it's a it's a big use of funds for us and we want to just I want to understand the disciplines around it and just pressure test a lot of the assumptions that have been in there on the adequacy and how much we need to see.
I'm not we're not that's not to say that we're going to change the guidance anytime soon I am just letting you know that coming in fresh because it was in response to that question. What are the things that surprised me. It was looking at this level of spend and as I learned the industry of understanding it better but it doesn't mean im not going to bring a different differ.
Lens to it and push a little.
Thank you.
Next question is from the line of Jason Seidl with Cowen and company. Please proceed with your question.
Thank you operator morning, gentlemen, one I'll go back to international intermodal.
Clearly there were some headwinds with the pull forward in Fourq, you, but if I recall that actually pushed in the one Q a little bit.
When should we see the inflection point of those volumes, turning up and does the uncertainty or the Cronto virus actually impact you guys at all or where is that too early.
Alan adjacent you're you're absolutely correct, there we did see.
Elevated interim international intermodal volumes and the first couple of months of 2019, so as the year for grasses comps will get a little bit easier for us and then.
That's that's what we're expecting to start seeing growth yeah, west with respect to the current a virus.
It doesn't help there's there's no doubt about that we've talked to our our customers about that and the level of impact that that.
They're anticipating is unknown at this point, it's all speculation.
So we're paying close attention to it as art steamship lines that we serve.
Okay and my follow up is going to be on the domestic side of things.
A couple of railroads.
Let's call it last year and a half pulled back a little bit on some of the lanes that they serve with PSR.
Do you think that there isn't a need for more lanes going forward once the market does tighten up in the U.S. truckload or do you think lanes, but the industry. Currently has are good enough to service and get that freight back from highways onto the railroads.
Well, Jason I think Theres no I think you were going to see as as a truck market tightens I'm going to see the benefits of our powerful intermodal franchise inorganic growth in the lanes that we serve and then as I noted were for working.
Feverish Lee with our Interline partners and with our customers to look at new lanes that offer value to our customers and offer value to our shareholders. So this is not static it's a dynamic.
Review of our overall franchise finding areas, where we can provide value and we can support our channel partners grows and as I noted.
We're aligned with the best channel partners in the industry, So I'm pretty confident collaborating together, we're going to find avenues for growth.
Thank you. Our next question from the line of David Vernon with Bernstein. Please proceed with your question.
Hey, guys. Thanks for taking the question I wanted to ask a little bit about where we should be exciting headcount to come in and in 2020 ended the year down pretty considerably.
You should we expect in that kind of run rate level or should we be expecting further reductions from that from where we ended the year on headcount.
Mark.
Well, we're not going to provide a specific head count number.
We.
We are coming down again from the where we're going to end 2019 for sure.
But as I mentioned, we're going to keep pushing it and then we're going to see where volume goes.
As we talked about we're expecting volume to start turning a little bit for us a little bit in the back half and if it's not there we're going to continue to push on.
Employment levels, but we don't have a specific number to share with.
Nothing within the budget you could give us a offense for how much additional sort of head count reduction there should be in there.
No I mean, we clearly have a we clearly have a budget, but it is not going to be something when we talk about because we we will flex just like this year.
Depending on where volume is we May go we may go heavier.
So.
You certainly you certainly saw David in the fourth quarter, when we had to flex we did.
And we did and we pick up the pace throughout the second half, particularly in the fourth quarter. So we will do whats necessary.
Okay.
And then I guess, maybe just kind of sequentially mark the than the other expense like him at 11 for the fourth quarter and from 95 in Threeq you Sixtys and one in Twoq. You is there anything it explains that sort of sequential step down in the other expense line for Fourq you.
I think yes, it's a little bit of the land sale gains that we had that were backend loaded from property sales that we talked about so we had more of the land sales that came through in the fourth quarter compared to the prior three.
Thank you.
Reached the end of our question answer session. If I for one final question coming from the line of Jordan Alger with Goldman Sachs. Please go ahead with your question.
Hi, Thanks.
Just a quick question a lot of talk on the domestic intermodal front, but I'm just curious can talk about international what proportion ever for your intermodal franchise.
As international whether it be volume or revenue and.
You know how do you how do you think about that as we approach 2020, given still the noise around tariffs and Im just sort of curious also what the how is that the international franchise actually performed in 2019, just so we have a relative sense for looking forward.
Jordan our international Intermodal franchise is about 35 set of our overall intermodal franchise as measured by volume as I noted earlier it.
We're running up against some pretty tough comps to start the year, what the pull forward of activity in the fourth quarter of 2018 that bled over into the first quarter of of 2019, we're expecting that it will the cops will improve as the year progressive.
But as with all of our markets were were generally not expecting growth until the second half of the year.
Thank you.
Thank you.
Includes a question answer session I will now turn the call back over to Mr. Squires for closing comments.
Thank you everyone. We appreciate your questions. This morning, and look forward to talking with you again, when we announce our first quarter 2020 earnings.
Ladies and gentlemen, thank you for your participation. This concludes today's teleconference. You may disconnect. Your lines at this time and have a wonderful day.