Norfolk Southern Corp. (NSC), one of the leading U.S. railroads, reported second quarter 2011 results on July 26. Adjusted earnings of $1.38 surpassed the Zacks Consensus Estimate by 9 cents and were 18 cents above the year-ago earnings.
Second Quarter Review
The highway-to-railway shift in shipments on the heels of rising fuel prices and tight truck capacity worked in favor of the railroad industry and propelled record second quarter results.
Total revenue improved year over year beating the Zacks Consensus Estimate on higher revenue per unit and double-digit revenue growth across all segments. With respect to the company’s segments –– Coal, Intermodal and General Merchandise –– revenues grew 28.3%, 19.7% and 11.7%, respectively, on a year-over-year basis.
Operating expenses increased 17.3% year over year driven by higher fuel costs (up 59.7%) and compensation and benefit expenses (up 10.3%). However, operating ratio improved slightly to 69.5% from 69.8% in the year-ago quarter.
(Read our full coverage on this earnings report: Norfolk Posts All-time High Profit)
Agreement of Analysts
Given the continued record high performance of Norfolk, the analysts are skewed more toward the positive side in estimate revisions for the third quarter and fiscal year. This trend was noticed over the last 30 days.
For the third quarter, out of 25 analysts, 22 revised their estimates upward over the last 30 days while none made a downward revision. None of the analysts moved in either direction over the last 7 days.
For fiscal 2011, out of 27 analysts, 24 made upward revisions over the last 30 days whereas none made a downward revision. Over the last seven days, no revision on either side was registered. Similarly, for 2012, out of 27 analysts, 24 revised their estimates upward and none moved south over the last 30 days. The analysts did not budge from their estimates in the last seven days.
The analysts remain encouraged by Norfolk’s growth trajectory, which is backed by strengthening industry fundamentals and cost control measures despite surging fuel cost and a cloudy economic outlook. The company projects operating margin to accelerate in mid 40s for fiscal 2011 on operating efficiency, enhanced employee productivity and retiree attrition.
The analysts remain highly optimistic on the company’s coal segment, especially the expected growth in metallurgical export coal due to floods in Australia and increased demand of steel in domestic and global markets like Asia, Europe and South America.
Further, agricultural products will benefit from the growing ethanol network as well as increased shipment of grains. Additionally, more land used for crop cultivation will also support volume growth in agricultural products. In the automotive category, a projected gain of 14% in light vehicle production will boost automotive production to approximately 14 million vehicles in 2011.
Further, the new Volkswagen automobile assembly plant in Chattanooga, Tennessee, will also aid growth. However, the natural disaster that struck Japan in March continually affected automotive volumes, but production is expected to recover going ahead.
The analysts remain bullish on the company’s long-term fundamentals and growth prospects due to its continued investment in key projects and new business opportunities. The company continues to make strategic long-term investments, with $2.2 billion planned for 2011.
Consistent performance by Norfolk coupled with strong free cash flow has not only driven investment plans but has also enabled the company to provide higher returns to its shareholders in the form of dividend and share repurchase. In July, considering the record-high results, the company hiked its dividend payment by $0.03 per share, representing the second increase in 2011, with an annual growth of 19%.
Magnitude –– Consensus Estimate Trend
The Zacks Consensus Estimate for the third quarter remained static at $1.45 over the last 7 days but rose 8 cents over the last 30 days. The estimate represents a substantial 21.92% increase year over year.
The Zacks Consensus Estimate for fiscal 2011 is $5.12. While the estimate remains unchanged over the last 7 days, it increased 21 cents over the last 30 days and represents an improvement of 31.06% annually.
For fiscal 2012, the Zacks Consensus Estimate is $5.93, unchanged in the last 7 days and up 26 cents in the last 30 days.
Earning Surprises
With respect to earnings surprises, the company’s good track record is expected to continue in the coming quarters. Norfolk produced a positive average earnings surprise of 4.10% over the last four quarters, implying that it outpaced the Zacks Consensus Estimate by that amount over the last year.
Neutral Recommendation
We are encouraged by management’s increased confidence to deliver solid earnings growth in 2011 on volume growth, modest pricing, domestic margin expansion, freight recovery and accelerated free cash flow. Stellar performance in Coal, Intermodal, and automotive is expected to drive strong operating leverage and lead to yield expansion.
Further, the company’s increased cost-control measures, higher shareholders return through dividend payouts and share buybacks and substantial efforts to reduce debt balance make the stock attractive for investment. Thus, for the short term (1–3 months), the stock retains a Buy rating with the Zacks #2 (Buy) Rank.
However, in the near term, Norfolk is expected to face several headwinds such as increased hiring, railroad regulation, rising fuel prices along with market uncertainties in housing as well as in chemical businesses. Further, intense competition from other leading railroads such as Union Pacific Corporation (UNP) and CSX Corp. (CSX) as well as a unionized workforce also contribute to our cautious stance on the company. Hence, we are maintaining our long-term Neutral recommendation on Norfolk.
About Earnings Estimate Scorecard
Len Zacks, PhD in mathematics from MIT, proved over 30 years ago that earnings estimate revisions are the most powerful force impacting stock prices. He turned this ground breaking discovery into two of the most celebrating stock rating systems in use today. The Zacks Rank for stock trading in a 1 to 3 month time horizon and the Zacks Recommendation for long-term investing (6+ months). These “Earnings Estimate Scorecard” articles help analyze the important aspects of estimate revisions for each stock after their quarterly earnings announcements. Learn more about earnings estimates and our proven stock ratings at: http://www.zacks.com/education/
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