Rails Previewing Q4/18 and Looking to the New Year
January 16, 2019
Here we go again – the all-important fourth Quarter Earnings reporting (and New Year outlooking) period, starting later today with the usual leadoff batter, CSX – and ending, as always, with “Tail-End Charlie (Munger, et al) and Berkshire Hathaway, who is expected to report on (can you believe it?) March 1. So, I will start the Railway Q4/18 (FY’19F) Preview with three WTH!?!? (what the….heck) points:
Bloomberg/BusinessWeek, in its 2019 Preview issue, listed “50 Companies to Watch” for the year – and not one of them was a railroad! WTH?!? With PSR transformations of varying degrees underway at, one could argue, at 5 of the 8 major railways (GWR inclusive), a reinvigorated regulatory approach in the US & Canada (see below), not to mention the great impact that trade (or further trade disruption) could have on their volumes - BW doesn’t think this year will an interesting one for railways?
Railway earnings in Q4 will come in stronger (~+35% vs +11%0 than the overall (S&P500) market, again – and ahead of consensus (+27%), again….But, despite the PSR impact on margins anticipated next year (and the full-year comeback of the CN), the Streets (Wall & Bay) anticipate growth slowing to on the order of +14-15% next year; CSX only expected to show earnings improvement of ~11%. True, the comparisons will be tougher. True, the economic growth looks to be slower. And true, the tax-cut impact is by now old news. Still….WTH?!? I don’t buy it….Meanwhile, Overall market earnings expectations are coming down – only just in September the consensus for S&P500 Q4/18 earnings growth was +17%; now it is ~11%, a rather shocking change and compares to +25% for the first three quarters of last year. Rail estimates came down, as well, over the course of the Quarter – but only fractionally; and the Big Three US (publicly traded) rails had 2019 consensus estimates increased over the past three plus months.
WTH is happening in Canada?!?! Sure, they are upset with being labeled a “security risk” (in steel and aluminum – and it was close for automobiles) by their heretofore biggest ally. And yes, it is an election year. But, for the CTA to launch an investigation into rail service in BC – not this time last year but now – seems silly. At best. Sort of like closing the barn door after the horse had run off, returned, washed itself, and put away the saddle. How did the two big Canadian rails react? With justifiable umbrage. CP’s Keith Creel said he and CP “take great exception” Both carriers demonstrated that they have grown significantly over the winter time period in question in Vancouver (CN, for example, is up 10-11% in the last two months). Oh, Canada, WTH?!?!
The Railway Earnings Top 10 Questions to look for in the upcoming calls: So….questions we got; will we get answers? Note that of course Norfolk Southern will keep its powder somewhat dry for the February 11 Investor Conference in their new HQ town of Atlanta; and that Union Pacific’s Jim Vena, COO, just got there….For NSC that will be perhaps the most important event in their modern history (not to put too much pressure on it). That said, here is what I want to hear about, starting at the top”
1. PSR progress & commitment. What – you expected something else? This includes the subsets of:
OR (etc – please) Targets
“Measured” vs “accelerated”
Who’s the next Canadian (railroader with PSR experience under EHH at CN or CP) to be acquired?
Can BNSF remain the last holdout? (Matt Rose reiterated his opinions on PSR today at our Fireside Chat at “MARS” – details on this meeting will follow shortly)
What is the implication for intermodal? Other discrete franchises?
Short line creation (CSX is still at just one deal completed)
2. Regulatory comeback? Not just the CTA but the equally aggressive STB is increasing its PSR (post-EHH) oversight - now requiring public details on assessorial charges etc; the impact of PSR on the STB
3. Intermodal – was 2018 a “missed opportunity” or is their still time for a second-half comeback?
4. Technology! Threats & opportunities….the changing supply chain (Amazon, etc)
5. The economy and the volume outlook. Rail managements usually rely on econometric firms for their top-down looks at the economy so I expect we’ll learn little, but the nervousness in the markets suggests that investors want more than “color”….The World Bank (etc etc) lowered their GDP estimates for North America; US Manufacturing slowed in December(over 5 points to 54.1% (ISM); consensus for the three economies now appears to be around 2.0-2.2% (USA), 1.9% (Mexico) and +1.8% (Canada). Meanwhile:
Global steel prices have begun to reverse their gains
Continental auto sales look to be about 16.8mm (NADA), down from a surprisingly strong 17.3mm in ‘18
Electricity use actually increased in the US last year after years of decline, but, as the WSJ recently reported in a “State of the Obvious” column, “Utilities speed up their retreat from coal”
Ag – your guess is as good as….The Bloomberg Grains Sub-Index is down 40% over the last 5 years (see #10, below)
6. The status of the secular stories in chemicals/plastics; trade-related goods (autos, refined products, Ag); the CBR supply chain
7. Winter – is it coming? So far so good but this has been an issue in the very recent past….
8. Capex!! It will be up YOY – but - by how much? How goes the “battle of ideas” between CN, say, and the UP and CSX? Overall buybacks, once thought to be in somewhat of a retreat, jumped again at the end of the year (due in part, of course, to the market’s decline); many corporate share repurchases proved to be ill-times this past year. Dividends grew by 7.3% in Q3/18 (YOY) – but that is at the low end of the developed world.
9. The old reliable: rates and “railroad inflation plus”
10. The ever-changing trade story (the dollar, up 7% last year, might not be such a counter to tariffs this year); meanwhile the trade deficit actually (of course) widened by ~15% in 2018….In Mexico, things are getting dicier, politically, even we await the upcoming and most likely difficult NATA 2.0 ratification process. The (latest) Pemex crisis is leading to AMLO’s focus on gasoline self-sufficiency (stopping pipeline theft and sabotage, building a huge new refinery) included armed truck convoys.
Railroads “could have been a contender!” Rail volume wasn’t bad for the month, quarter or year 2018 9though we may later regret “what might have been”). Traffic ended the year 2018 on a decent note – led by (gulp) US coal (+4% in December) and overall intermodal (+5%), some of that tariff-distorted possibly. Overall (USA + Canada) traffic was up 4.4% - petroleum products up 29%, metals ores up 3.6%, grain +3.7% (again see distortions, possible tariff) and even autos up almost 3%. 12/20 US categories were up in the USA; Canada’s score was 11-8-1. Q4/18 US carloads were up 1.2%. Full-year 2018 (US+C) volumes were up 3.7% (IM +5% and carloads +2%).
So – we’re off to the races! Let’s see what CSX has to say in a few hours – quarterly expectations are very high (consensus is +55%! Obviously at the top of the RR range and up from the consensus at the start of Q4 BTW) but achievable; annual (2019) is, bizarrely, at the low end of the rail consensus at +11%. That will come up….
Some interesting reads-on-rails:
On the perils of being on a node of the Intermodal network: https://newrepublic.com/article/152836/elwood-illinois-pop-2200-become-vital-hub-americas-consumer-economy-its-hell?utm_source=pocket&utm_medium=email&utm_campaign=pockethits
On efforts to reduce short-termism and over-reliance on simple ratios (such as the “Cult of the OR”): https://www.wsj.com/articles/fixing-capitalism-one-disclosure-at-a-time-1543327381?mod=searchresults&page=1&pos=11 : the article and underlying report note the “natural tendency to value what we (can; already) measure, and to try to optimize that result” (or manage to that ratio) – sound at all familiar?
On EHH’s legacy & the new breed at the UP: https://www.barrons.com/articles/the-legend-of-hunter-harrison-helps-union-pacific-stock-get-upgraded-51546984322
RIP Jack (Mi-Jack) Lanigan Sr – an amazing American character and the pioneer of the intermodal crane: https://www.chicagotribune.com/news/obituaries/ct-met-jack-lanigan-obit-20190114-story.html
Everything one reads on driverless autos suggests the bloom is off of the AV rose: FT: “Automakers put the brakes on full automation”; BW: AV is a “very, very immature technology”; Gartner: AV progress has been “painfully slow”; even New York Magazine’s look to the world in 2039 writes driverless cars “are not coming anytime soon (no matter what you have read)”…
Anthony B. Hatch