CSX Earnings: Intermodal Under Pressure, but Margins Exceed Our Expectations

Eastern Class I railroad CSX’s CSX first-quarter top line grew 9% year over year driven by core pricing gains, higher fuel surcharges and the addition of Pan Am. Revenue exceeded our expectations on strong yield growth (up 9.5%). Volume, which fell 1%, was mostly in line with our forecast as merchandise activity came in ahead but intermodal underperformed—sluggish retail end-market demand (high inventory levels) is proving more potent than service improvement.

In terms of the total volume decline, intermodal is facing retail sector inventory destocking and loose capacity in the competing truckload sector. This more than offset surprisingly strong merchandise volume growth of 4% rooted in network service gains (hiring progress), higher automotive shipments (recovering vehicle production), and metals and minerals growth (infrastructure strength). We expected a weaker merchandise showing, given otherwise sluggish U.S. industrial production. Coal volumes also expanded nicely thanks to strong export activity and utility replenishment.

Despite heavy wage inflation from the new union agreement (secured in December), and excluding nonrecurring real estate gains, CSX’s operating ratio (expenses/revenue) improved 250 basis points year over year to 60.5%; ahead of our forecast. Higher profitability stems from an insurance recovery, positive fuel lag, leverage from solid pricing gains, and materially improved network productivity and velocity.

Overall, we do not expect to materially alter our discounted cash flow-derived $32 fair value estimate. The shares are trading close to our fair value estimate, placing CSX in fairly valued territory.