RRs - Earnings Finish Line in Sight (GWR, ETC)

May 4, 2018

Greetings from South of the Border!

GWR disappointed slightly, but promised better days immediately ahead, and some other items overlooked in “earnings frenzy”, with Berkshire Hathaway/BNSF the tail-end Charlie as usual.  I am in Monterrey, MX visiting KSU and Los Doyers, so will Review Q1/18 (and BNSF) early next week)….Coming up for me will be the Railway Association of Canada’s annual Ottawa event on May 15-16, and the Union Pacific Investor Conference on May 31 – but not the CP investor conference originally scheduled for the following week but now moved to October 3-4 due to the labor issue timing (the voting ending May 23).

Genesee & Wyoming slightly disappointed the Street but in so doing articulated, for the first time this quarter, some of the top-line impacts of the rail industry fluidity problems, heretofore only discussed (and thus underestimated)  in terms of operations and expense (fuel/labor/rents etc) inflators.   GWR also stated, publicly, that the C-1 service issues were due in part to the focus on the (Cult of the) OR – the emperor’s invisible cloak.  Good on ya!  GWR’s (adjusted & diluted) earnings were a third above last years but a nickel (7%) below guidance – but FY18 Guidance was raised a bit partially because:

  • GWR entered the share repo game (thank you, Congress!) – with a $300mm authorized and already half completed – and seemingly shifted to an  ever-so-slight redirection of cash-use priority from M&A, perhaps due to what they admitted was an inflated market for assets; they still have dry-powder capacity (and bandied about the figure of  $300mm, equal to the authorized repurchase amount).

  • NA rails are expected to be the main driver of the results-to-Guidance catch-up with an improved (from +2% to +3%) volume outlook (the markets and Class One service recovery expectations, which are beginning to show).  It appears that Class One rail hit them about 2% or so in carloads, increased expense and the OR (up 30 bps to 77.5%); increased barge competition (another coal-effect)- hurt in Ag & ethanol.  Overall pricing was up around 3.5% (bias to the upside)

  • Australia, for whom this quarter was sort of a non-event/waiting period (the reported OR of 78.6% was 250bps higher YOY),  was the subject of a fair amount of Q&A as the G-Rail JV expects to pass the effect of the 2017 drought and, more importantly, acquire 2 more train sets (9 to 11) in coal to move to contracted-spot business to roll into, er, contracted contract business (left unsaid is who was losing the business and where – eastward for sure – the efforts were moving).  Stay tuned – we expect news there in H2…..and see below about some of the perils of moving too far east Down Under.

  • The UK/Europe initiated another, or maybe more accurately advanced, restructuring plan – selling the Dutch-based ERS unit at a loss and reorganizing and integrating the UK ops.  There were many questions on the order of “would you still do this if you knew?” all answered in the strong affirmative (though, of course, their “timing was not good at all”).  The focus seems to me to be on the terminals side – a key part of overall North American short line value creation (see Watco).

  • By this summer we should be able to judge the frenzy of GWR efforts since the Investor Conference last November – where seems to be some rare skepticism in the financial community but I suspect we may look back at this spring as an inflection point.

In addition:

  • The NEARS Conference (North East Rail Shippers) was a small gem but smack in the middle of earnings so under-appreciated.  Coming soon after the Short Line (ASLRRA) Festival in Nashville, it was also in many ways a celebration of the entrepreneurial impact of smaller carriers, including a great presentation by Watco’s strategist Stefan Loeb, one of my panelists at ASLRRA, on a new effort, the “Perishable Express” to link (initially) potatoes form Idaho to the east via Watco, UP and NS using redesigned ARX reefer cars on premium IM routes, starting (very) small but targeting, as is TigerCool via intermodal and UP’s RailEx increasing rails miniscule 8% market share in perishables….

  • RailTrends planning is in the early stages but it already looks super-promising, including a renewal of that panel at ASLRRA (above) that was so compelling – November 29-30, NYC

  • CN, in the midst of adding in capacity, is buying 350 boxcars and 350 lumber cars (in the midst of the ongoing tariff fight, to boot).  Not so long ago it was said that no one would build a center-beam car ever again….

  • There’s a nasty fight between rails and regulators going on Down Under between old friends Aurizon and the Queensland regulators (QCA) – the latter misunderstanding the cost of capital (WACC) and thereby coming up with a revenue cap 22% below the carrier’s target and real market conditions, prompting reductions in capex/MoW events and angry shippers and lawsuits and once again proving, like in Canada’s grain provinces (more on that after Ottawa), the capacity-killing powers of over-regulation (not to mention the efficiency-killing powers of dis-integration of railways in general).

  • Lost perhaps in the middle of Kirby Corps earnings and deals was the announcement of the retirement of former Chairman/CEO Joe Pyne (also a GWR Board member) – adios, amigo!

  • United Continental halved the compensation of their CEO for 2017 – so the jury is still out on Oscar Munoz’ decision to leave railroading….

  • The last issue of Institutional Investor – “II” – was the last print issue (so, after being so important personally for half of my career, possibly the last issue that I will read!)

  • The latest issue of Trains – a magazine the alternately fascinates and irritates but rarely bores me – has an interesting interview with new FRA Administrator and former (and future?) RT-vet Ron Batory (although it unfortunately calls the wise decision not to order the use of expensive and unnecessary ECP braking a “setback”; no, it wasn’t) but also in an (FF) opinion piece saw no “railroad renaissance”.  Now that’s hitting me where it hurts.  For me, seeing the financial health of the rails (an afterthought to the writer) in the face of the massive challenges from technology, globalization, energy use (coal), and subsidized competition – not to mention the opportunities ahead of it compared to where the industry was before deregulation, brings to mind a Phoenix-like rebirth.  Perhaps the writer meant “renaissance” wasn’t strong enough.

Anthony B. Hatch 
abh consulting