Here is the companion piece to the NSC Reflections – Kansas City’s different take on their PSR experience, so far. Unlike NSC, the actual fell (just) short on their EPS versus consensus expectations, but unlike their partners in the Meridian Speedway, KCS grew earnings quite nicely (+17% YOY); they produced the most optimistic guidance of the group (70% of the commodity-based listed as “favorable” for 2020 leading to a cumulative target of low single-digit volume growth – albeit H2-weighted also; mid-single-digit revenues; hitting their 2021 OR target in 2020 – 60-61% and then forecasting sub-60% now for ’21). CEO (and Innovator/Railroader of the Year – railroad’s version of the double-play-er) Pat Ottensmeyer will be golfing – I mean providing an update – the next two days at the AFB* Rail Investor Conferences the next two days….I am sure he will be confident and upbeat. Meanwhile, let’s finally bring on Johnny Nash:
“I can see clearly now the rain is gone/I can see all obstacles in my way
Gone are the dark clouds that had me blind
It's gonna be a bright (bright)
Bright (bright) sunshiny day!”
Ok, it’s not completely clear – here is a summary of headwinds, tailwinds, questions marks, and wild cards:
- Headwinds: The Industrial economy (and overall flat-lining Mexican economy); the auto cycle
- Tailwinds: USMCA/NAFTA 2.0 (at least in terms of risk-removal); Pat worked very hard on this….and the investigation into rail monopoly practices in chemical traffic in and around Vera Cruz was finalized with minimal impact ion KCS. In addition, the new growth leader for the carrier, “Mexican Energy Reform” refined products, has a much bigger secular case than cyclical effect….
- Investor-perceived Tailwind: The new capital structure (more below)
- Biggest Tailwind – the KCS experience with PSR – their OR performance (62.4%, -190bps) but even more so the accelerated OR targets, improved operating metric, and clearly achievable $125mm (run rate 2021) productivity target….That target was (surprise!) considered “conservative” - there’s more to go of course (the 2% increase in operating expense didn’t fit perfectly with a 1% decline in volume) and Sameh Fahmy sees opportunities in rail cars, fuel, crews….
- Question Marks – Intermodal and Automotive- the performance of what has been the primary growth drivers for KCS was lackluster in Q4 (IM volumes down 5% and autos -6%) and 2019 as a whole, even if not entirely the carrier’s fault (certainly not in the latter). Even Cross-Border IM growth has slowed to +12%; the conditions for IM improvement, from a political as well as truck-competitive sense, should allow for trend recovery in ’20. Also in the “?” category:
- Mexican rail labor reform – something we need to know more about….
- Mexican rail car fleet ownership trends – something that I need to know more about
- A bad trend in US rail reporting – Dude, where’s my (Safety numbers)
- “ “ “ “ “ “ “ - ROIC? Especially in light of the changed Capital Allocation Strategy, the importance of IM, etc….
- CFO Mike Upchurch on the call: “I think at this point you should take away (we do)….our focus has shifted from more Capex relative to shareholder distributions (to the opposite – and) that should be viewed as favorable in light of the increased free cash flow”….I agree, with my usual concerns. The answered in the firm) negative to the suggestion that this changed policy, announced late last year, was in response to lower/fewer
growth opportunities (see above; I hope that is correct and the market is betting that it is….).
- Wild Cards – the political leaders of both countries! (see trade; metals tariffs, energy reform, nationalization, etc, etc, etc). Heck, KCS announced that the cancellation of the (supposedly contractually binding) Mexico City Airport project by AMLO last year cost them, 4 cents in the quarter….
“Look around, there’s (almost) nothing but Blue Skies!”
Next, Reflection on the North….
*Annual Florida Boondoggle
Anthony B. Hatch