CSX Corporation (CSX) Earnings Call Transcript & Summary

Good morning, and welcome to the JPMorgan Industrial Conference. Thank you for joining today's fireside chat with the CEO of CSX, Jim Foote. I'd like to turn the call over to your host today, Brian Ossenbeck. Please go ahead.

All right. Thank you. Good morning, everybody. Thanks for joining this virtual version of the JPMorgan Industrials Conference. I'm Brian Ossenbeck. I cover transportation and logistics for the firm. And very happy to have CSX here with us today. So joining us is President and CEO, Jim Foote. I'm going to turn it over to him to make some opening remarks, and then we'll go into the Q&A. Jim, thanks for joining us. Now kick it off.

Great. Thanks a lot, Brian, and we're really glad that we're still able to make this discussion happen today. It's certainly been an eventful couple of weeks, and we've been closely watching the news headlines and market volatility, just like everybody else. That said, CSX continues to run extremely well, and we're making great progress on all of the aspects of the business that are under our control. Our service is the best in the industry, and it's the best it has ever been. We're converting truck volumes off the highway, and we are generating significant free cash flow, supported by a strong balance sheet and $2 billion of cash. Setting aside the market volatility, year-to-date volumes are generally in line with our expectations coming into the year, and we think the combination of our improved service and enhanced sales and marketing capabilities are finding new ways to add value to our customers. We've not seen the impact yet from the extended Chinese New Year outages, but expect these to begin showing in our intermodal volumes in the coming weeks. Like everyone else, we continue to monitor the situation to understand any potential changes to underlying industrial demand, and our hope is that the increased activity levels in China will begin restocking the supply chain quickly. Regardless, our operating model provides us the flexibility to adapt to changing market conditions, and we are prepared to act on any macro backdrop. Overall, I still feel very good about where CSX sits today, and I'm very excited about the long-term growth opportunity in front of us. With that, let's -- let me answer any questions you might have.

All right. Thank you, Jim. So you started off with some of the impact of expectations from the coronavirus. Do you have any specific visibility that you can call out from within your supply chain? And if it does come back, the -- there's a concern that it might move a bit faster or need to move faster on the AR or on truck, and that might kind of skip over the rail serve supply chain. So any thoughts on that, knowing it's still early days?

Yes. We don't have any unique visibility that everybody else can see. I mean we know that there was an extended outage in China. We know there were a large number -- an abnormal number of vessel sailings canceled. We expected, as a result of that, volumes would be down. It takes a while for the both cycles to get over to the West Coast. And sure enough, it's what -- last week, whatever it was, down 10% this week, down 20%. It's kind of what everyone anticipated. The steamship companies, at least some of them, seem to have an optimistic view of a quicker -- quick return to normalcy, at least, out of China. And so we're prepared. If anything, based upon all of the changes we've made in the way we run the railroad today, we've proven the fact that we can pivot a lot faster, are a lot more nimble and can adapt to changes as they are thrown at us. So if more traffic comes to us through our interline partners with our channel partners -- our interline partners and our channel partners from the West, we're clearly able to, like I said, pivot and handle that business as well. So we've got a great running railroad and capacity to handle traffic changes whether it comes East or West. I think that's just kind of a one thing from a railroad perspective. One day, we're operating in a polar vortex. The next day, we're operating with mudslides, and the next day, we're operating with hurricanes. We're used to this kind of environment. We're used to being able to -- the need to change and have been thinking about how to make sure that we're ready to handle our customers' products however they decide to ship it.

Okay. So before we had this impact, you were still one of the first to call out slower growth in the back half of last year in '19. And coming into this year, you weren't really assuming a lot of growth to begin with. So putting aside what you just went through, can you give us some highlights in the portfolio, where do you think you're a little bit more positive on, where you might see some green shoots of recovery, and where you're a little bit more concerned? Just looking at the broader portfolio of the book.

Well, we're still always very optimistic about our merchandise business, which has been growing at a pace higher than the industry in terms of volumes, which is attributed to our service product improving, where we have been able to gain more of our existing customers' transportation spend because we're running a much more reliable railroad today than we have -- were in the past. So again, that's -- overall, our numbers are about where we had -- as I said, about where we expected to be this time of the year, would maybe, to use my accounting term, a titch higher in our merchandise segment. And then our intermodal business, as we have worked off the impacts from the reengineering of the intermodal network, we're still feeling pretty good about our opportunities there. Although, as everyone knows, call it what you want, a loose truck market or whatever it is, we still believe that we're going to have a good -- a reasonably good year -- based upon what I know today, a reasonably good year. And then the macro impacts on the coal business, if anything, have probably gotten a little bit worse as gas prices continue to decline, which has an impact on our utility business -- domestic utility business. And while maybe there is some more -- a view that the export met business has maybe bottomed, but it's still not great. So I think what we saw at the end of last year and what we expected coming into this year is about where we still are today, and we have never put out anything that would show some hockey stick growth scenario in the second half of the year and still aren't today.

Right, right. Well, then the other variable that we're dealing with as of I guess over the weekend and Monday is just the price of oil. So you mentioned natural gas. What is the lower oil price due if we stay here lower for longer at $30, $40 range or so? Was that due to just the end markets that you serve? And also does that really affect the truckload conversion? You mentioned that earlier into your comments you're making some conversions already. Does that really mute that pace of recovery or is it more conversion off of service?

The majority of the business, as I said, that we're taking off the highway is coming because our service product has improved so much more than it used to be. Again, in terms of reliability, there's a ton of opportunity out there in the merchandise area and a ton of opportunity out there in the intermodal area that is strictly driven by us being able to provide the level of consistency and reliability so that our customers, whether -- again, whether they be carload customers, can trust us to get their products to their customers. And similarly, in the intermodal side of the business, that they can trust us when we have intermodal performance, which we show -- have visibility for our customers, our on-time performance, our trip plan compliance numbers in the way upper 90% range. You have something that you can offer in the marketplace, which people are willing to pay for. So that's what's driving -- that's our strategy. That's what this entire organization -- this entire company is focused on every day, 365 days a year, is to making sure that our railroad runs better than anybody else and we meet the needs of our customers. And if we can do that, we're very confident that we should be able to grow the business at a rate above kind of the historical norm here.

And how has pricing trended to begin the year? I think the last couple of quarters, you've seen some pretty good strength on renewals and same-store sales. How has that continued? Or where are things as it stands right now?

Again, I think in terms of what we've said in the past, in terms of pricing, the market -- we're pricing to the value of our service and don't need to discount because we're inferior to the alternative out there, and -- which, again, is a truck-like reliability. So we're still seeing renewals and business come off at -- with good -- it's a good pricing environment. We know -- again, that's the overall strategy. We know that our customers and potential new customers are paying a premium today to buy an alternative form of transportation to move their goods because the railroad doesn't have the reliable service. So there's no reason for us to discount. If we become as reliable, we can just rely upon the inherent efficiencies of the rail versus the truck to gain market share. So that's -- that continues to be very good and very strong, and I don't see that -- us deviating from that in any way.

You mentioned the intermodal redesign and what that's done for the network. We've obviously seen it in the volume declines over the last couple of years as you've rationalized and consolidated it. It looks like it's done a good job improving service and train lengths and cost base. Can you just talk about what that does for the broader network? Is it all blended into the carload network? Can you run more mixed unit trains? What's the opportunity from having done all that work over the last couple of years?

The reason that we've reengineered the intermodal network was to eliminate, to a large degree, that hub-and-spoke concept that was very inefficient. It had too many lifts associated with the move. You can't be in the intermodal business and have -- and basically switch your box around at some sorting facility and have intermittent lifts. So if you can lift it at origin and -- you can lift it on the train at origin and lift it off the train onto a chassis at destination, you can make a good buck in the intermodal business. If you're going to lift it on an origin and then bring it to an intermediate point and lift it off that train car and lift it onto another train car and then take it to a destination and then lift it off again, that's hard -- that's a hard business to make money in. So that was the principal focus of our network. And by eliminating that, we're moving -- by changing that, we're moving about the same volume today with 30% fewer lifts in the network, which drives down the cost, but then also improves the overall speed and effectiveness and efficiency of the rest of the network. And so we're very, very pleased with the intermodal product that we have right now. And as I said, now we can take this product and lever it to grow the business. Where we interface and have basically intermodal cars on merchandise trains, those are in lanes -- parts of the network where the volumes clearly don't justify having a separate merchandise train and a separate intermodal train. And because our merchandise business now runs at such a high degree of reliability, we really don't have any degradation in our overall service. When we come to -- so when we say we have 98% trip plan compliance, that's across the network. That could be on a car, a box that was moved halfway across our network on an intermodal train and then a block of it came off and was then put on a merchandise train to move to its destination. So there has been no -- there's no degradation in the service product that we offer by doing it, but we can do it much more efficiently than we could do that in the past. In the past, when you try to do that and you're -- if you were trying to put blocks in the merchandise train, and they were, in the old days -- I mean, if you think about what our trip plan compliance is in the carload business today, mid-80s. A couple of years ago, first of all, we didn't even have trip plans to measure, but if we had, they would've been like 35%. So you wouldn't have really had a good service product to offer. Now we do, and we can do it effectively. And that's already baked in there. I don't see any more need to do that, but we're comfortable now that if we wanted to, we could easily change and offer intermodal service maybe into new markets by utilizing that strategy. Obviously, if the volumes grew in a lane to the point where we needed to add a train because we had so much new business, we'd just do that. But right now, this is the right way to run the business.

Got it. So it does sound like train lengths are going to be one of the next areas of focus at CSX, trying to improve them pretty materially. What -- you just talked about the intermodal network and how that's changed significantly the last couple of years. What else needs to happen or what else is now in place, rather, to start to build those trains even longer both on the merchandise and intermodal side while volume is still maybe flat to down? How do you think you can go about doing that?

We have a team that works for Jamie that is constantly looking at our service design plan, and we're always trying to determine whether or not it makes sense to consolidate trains. We did -- when we switch to -- one of the reasons we were able to lengthen the train and reduce our train starts was through the use of distributed power. By using distributed power, we were able to run longer trains. So you could go where you have 3 trains in a quarter down to 2, which increases capacity and fluidity, at the same time, lowering your actual incremental operating costs associated with doing that. And so we're always -- it's a dynamic plan. When we say we have a set operating plan, we have a set operating plan until we collectively agree that something should change that's going to make it better for the customer and allow us to do it more efficiently. And then we -- again, we pivot and we make that change. And we'll continue to do that where it's necessary.

And how -- just following up on the distributed power part, how widely spread is that across the network? And why do you think that wasn't really used as much in the past before you started to rework the plan? It seems like it's pretty well established in Canada. Was that just a new way of thinking or did you really need to redesign things to be able to unlock that potential?

No. I mean, the use of the -- I mean, whether it's distributed power, whether it's the use of other technologies, trip optimizer on the locomotives, whatever it is, it's -- yes, you're absolutely right. It's technology that was in existence, but for philosophical reasons. Operating philosophy, whatever it was, wasn't utilized that much here. And so I think it's just a question of when we began to transform the company, really, just a couple of years ago. We had people with different perspectives and views on this and put those practices into effect, which has had -- has driven our fuel efficient. I mean if you want to look at the direct impact of -- look at our fuel efficiency, we're clearly leading the North American railroads in terms of gallons used. And I'm confident that we'll hopefully -- I'm confident that we'll be able to lead the North American industry by continuing to focus on this.

As you mentioned, it has been pretty transformative over the last couple of years. You're looking at a sub-60 OR on possibly down revenue this year, which is a really big change from previous to the plan and into the new management team. How much more operating efficiency gains do you think are really left at this point? Is it more about converting the service to growth? I know you said you're not going to pivot to growth, but from the operating side, what are some of the more promising opportunities you see out there on the network over the next couple of years?

To a large degree, just continuing to focus on what it is we have been doing that's been so successful. And the more we focus on these same opportunities, whether it be better -- again, it's just focusing on using your assets better and better and better all the time. And yet, to say that we are going to have a sub-60 operating ratio this year with down revenues, that is overcoming a significant amount of headwinds, which I think we spelled out in January, whether it be the impacts on the coal business, the impacts on depreciation, lower real estate sales, all of those items. So we are getting efficiency and improvements in productivity all the time. And that's just -- it's just blocking and tackling, and we just continue to do that better and better all the time.

And so you mentioned technology a little bit earlier. I think there's an automated train inspection portal now around Waycross. So how does that perform so far when you think about defect detection and safety? And how do things like that fit into the bigger picture when you think about technology and safety at CSX?

Well, the numbers -- if you -- if there is any number that we report that I'm the most proud of, it's our safety performance, the fact that we lead the industry in terms of the fewest personal injuries, the dramatic improvement that we've made in train accidents. And so much of that is just a stronger and more intense focus on making sure that the physical infrastructure and the equipment that we have is in great condition, which has cut down on all these train accidents. And utilizing technology, whether it be the portals where we can make -- we can do a train at track speed, we can inspect that train in a manner from basically 360 degrees and find defects earlier that could result in a mechanical failure that would potentially lead to a derailment. That's fantastic. So we're going to use more of that. At the same time, it helps in identifying in advance of a train getting into a yard, where it has to be then manually inspected, we know in advance that a car is going to need to be set out and have repairs made to it. So again, all of this technology is there. The use of this technology, the use of other types of artificial intelligence are there to predict and help us manage the business much faster and more effectively than the old way of doing things, was catching something after the fact. So whether it's the portals, whether it's the autonomous track inspection cars that we have out running around the railroad so we can do more track inspection, the reason for that is to find a defect earlier and avoid an incident. Obviously, you want to avoid a derailment. But finding something in advance means that we can then adapt to it. We can respond. We can get that track fixed at the appropriate time and keep the railroad running more fluid all the time. Every time you have an incident, where you got a track -- a car on the ground, guess what? Every -- all the trains behind it have to stop. So those are the things that help us move this velocity number up more and more all the time is by being ahead of the game as opposed to just reacting.

Right. So on that point, with all the technologies being utilized, I would think that the regulators, FRA, in particular, I guess, in this case, would be pretty much on board with you guys and other Class 1s implementing these. But how -- do you think that their moving is the same pace as the industry? What are just the general conversations you have with them in terms of getting them comfortable with using these more across the network and over time?

Well, I think Mr. Batory and his staff at the FRA are completely aligned with the industry in terms of doing everything we possibly can to avoid derailments and incidents. And so there's no impediment there in terms of us doing this. Everything in the rail industry, to a degree, has labor implications. And so in addition to managing the technological changes, we need to make sure that we work with our employees so they understand what we're trying to do, what the benefits of all of this are and manage any implications that it might have on our employees.

Okay. So going back to the coal. We've seen a little bit of an uptick in export strength or stability, I guess, is a better way to say it, the last couple of months. How do you think in the long term about declining -- managing declining coal and growing intermodal? And how do you think about that from a mixed shift perspective? And how do you sort of keep the coal network there to capture the optionality of the upside for exports, which we've seen over the last couple of years, can be pretty substantial?

Well, first of all, yes, again, if you look at the markets, the various -- the 4 buckets of our coal business, the largest being the utility -- domestic utility business, that's got a -- that's challenged for a lot of reasons, principally just straight economics. And we're doing everything we can to manage that, but that's something to a large degree that's out of our control. Our export met coal business is cyclical, and always has been, always will be. And to the extent that there's global demand for met coal that can't be met by -- can't be fed by the closer, more alternative sources of coal, i.e., Australia, the U.S. becomes the swing market, and that's just the nature of the beast. As I said, there's one thing that we do around here now better than has ever been done before. It's adapt. It's change. It's try to forecast better. It's trying to have visibility. It's trying to understand the markets better. And it's a team effort. That's why we changed and brought in Adam on the -- to lead our Energy group just because he's got a completely different perspective on energy markets that he can help us have greater visibility, understand those markets much better so that we can do -- we can be more involved in the supply chain and, hopefully, feed the market better than we've done in the past. The days of sitting around in an office some place at [ Tier 9 ], waiting for somebody to come knock on the door and say, "Hey, I need some coal," are gone. So all of the -- it's a concerted effort by everybody here now to view this business differently and to run more so with the customer and the end markets in mind.

Got it. And on the point on the mix shift, is that -- in Canada, we don't really see that being too big of an issue. But it obviously took some time to get to that point. Do you feel like that's a similar outcome that you can reach over time as well where the truck competitive products aren't as mix-dilutive as we think they might have been in the past just because service intensity has gotten better over time?

Well, I mean, clearly, there's a difference in a low to coal versus a container in terms of the revenue associated with it. And so yes, that kind of larger scale mix issue is going to be there. Our job is to mitigate that. And the best way to mitigate that is to grow the merchandise business, which is 2/3 of our company, which is -- has the best -- some of the best revenue profile business in it. So clearly, intermodal is a big, big opportunity for us, and we expect to grow that. But the best way to manage the mix change is by concentrating on the merchandise business and some of their very, very key components of that.

Yes. When we hear about the conversion opportunities off the highway, obviously, they are substantial, just given the size of the truck market. What do you think are some of the early opportunities or some of the better potential growth areas as you look at that conversion? Because it is such a big number, so it's hard to put it in the context. So if you have any specific points markets or conversions to highlight, I think that would be helpful to put some context around it.

Well, again, it's the key pieces of the merchandise area, whether it be the steel metals of all kinds, paper, cardboard, chemicals, lumber. All of those business segments has great potential for us. And I hope that none of the sales and marketing team are listening because they hate it when I say this, but this isn't rocket science. You go call on a customer today, and it's -- again, you go to any one of our customers, any plant, he's got a rail spur over on one side of his plant with 8 railcars sitting at it, and then he's got 62 truck docks on the other. And you go and ask him, "Why is it that you're trucking so much out of here when you're also moving the same product in a railcar?" And he says, "Well, those are my important customers. Because I got to make sure that product gets there, so I truck it." And so there is an opportunity. If you look at it and go like how can I get more of your transportation spend? I can save you money if it's a difficult business climate right now for our industrial customers, and I can walk in the floor and say I can meet your transportation needs equal to what you're paying to truck it and save you money in the process. That is the -- that's the simple math. And as you've seen, not only at CSX, but throughout across the industry in terms of its merchandise or carload business, that part of the business has been declining. Well, again, go back in your files and say, "We used to move this and now we don't. Where did it go? And why did it go?" And find me the guy that left the railroad because he didn't believe in our -- have confidence in us anymore to handle his product and find out where is -- who he's using now and contact them and say, "Hey, we're a new kind of railroad, and we need to earn back some of this business." And so in terms of trying to put together a prospect list, it's pretty simple to develop the list. It's not necessarily simple to convert the business back to rail, when, in many respects, the customer has a negative feeling about shipping by rail. So we need to earn that business back. So as in many cases, we're asked, and I know Mark has been asked many times. "Oh, have you reached the point where you now pivot to growth?" No, we've now fixed the railroad to the point where we can actually go and talk to a customer and have a confidence in what we're doing that we can earn back business. And that's a slow, gradual process. So if we can grow our merchandise business slightly more at the start here than the rest of the industry, it shows, at least in my view, that this strategy is starting to gain traction. And those are what I would call the green shoots. If I -- again, if I handed -- handled 100 cars out of a plant last year, it's not going to go to 200. If I can get 100 cars to go to 110, and then the next year, maybe I get that to 125 and on and on and on and on, and they become more comfortable and confident in us all the time, that's what the game is about. That's why we can't have -- I tell the operating guys all the time when they say, "Hey, we have great car supply. We're meeting their car needs 98% of the time." I go like, "Well, he orders 100, we give him 98, and we pat ourselves on the back. How are we ever going to get the 100 to 110, if you're only giving him 98? If he orders 100, give him 100." And so we squeeze it down in terms of asset efficiency as much as we can. But we are constantly aware that in order to grow the business, we have to meet our customers' needs all the time every day, and that's what we're doing right now.

Got it. So when you think about growing the business in terms of the investment profile, you clearly have taken a lot out of the network in terms of the locomotive, fleet utilization is way up. Volumes are weaker, at least, for the time being. How long do you think CSX can be on more of a locomotive holiday? Or do you think you can stay at these levels for longer and still get that type of growth that you're targeting?

Well, we had a relatively new locomotive fleet here a couple of years ago when we started this initiative. So we were in great shape. The one thing that we didn't have was a pretty -- a methodical scheduled program in place to make sure we maintain that fleet in tip-top condition. So we now have a much more robust and consistent maintenance plan, rebuild plan in place so that we're going to be in great shape for the future in terms of locomotives. And I don't anticipate us buying locomotives for quite some time. So if you're still interested in buying a CSX locomotive, I can get it to you relatively quickly.

All right. So I think we have time for one more. I'll ask you one question that we get a lot, especially more these days. ESG, how do you -- you mentioned, we have talked about and we've written a lot about fuel efficiencies. CSX has obviously done a tremendous job at being the best in the U.S. How do you view ESG at CSX? I think it maybe gets a little complicated because you still haul coal, but you're working to convert a lot of things off the highway. So I just wanted to wrap up with your thoughts on that, because I think that's something we're going to talk about for a long time to come here.

No. We're extremely focused on that and think that we have a great story to tell in that area. To the extent that we're ballpark 75% more fuel-efficient than the trucks is a big story for a company that's talking about reducing its carbon footprint. And so we have not effectively leveraged that with our customers. But they are more and more asking us about that, and we're more and more eager to tell them about that as well. We've won a couple of awards recently for our sustainability, and it's something that everybody in the company is more focused on every day. We're still going to be moving certain products that people have issues with, but we think that our sustainability, our energy efficiency clearly more than offsets that. And we recognize that from an investor perspective. That's key, and I'm at any point in time willing to explain the benefits of rail versus truck.

Okay. Thank you, Jim. Well, we are out of time. Thank you, again, Jim, for joining us and for everybody on the call. Realize it's not the usual routine, but it was still great to have you. So thanks, Jim, for making the time considering everything going out there. We really appreciate it.

Thanks, Brian. Feels really good to participate, and good luck in New York.

Thank you very much. Operator, that's the end of the call. Thank you.

This concludes today's conference call. You may now disconnect.