CSX Corporation (CSX) Earnings Call Transcript & Summary

Good morning. I think we've got everybody live and connected. So we'll jump in and get started. Thank you for joining us, obviously, virtually for logical reasons, but it still should be a good event. It's been a good past couple of days and looking forward to having another final day today. It's, certainly, my pleasure to have CSX. We have Mark Wallace to tell the story of the company. It's been a remarkable journey over the past 4 years, and I think a lot more to come from their perspective. So I'm going to turn it over to Mark for a few minutes of prepared comments, and then we'll jump into Q&A. [Operator Instructions] But Mark, I'll turn it over to you to get started, and then we'll circle back.

Great. Thank you, Ben, and thank you for having us. I'm joined this morning by my colleague, Bill Slater, who's our Head of Investor Relations, and he'll be flipping the slides here for me this morning as we go through this very short introduction. But Bill, we can move forward to the first slide. And for those of you who are less familiar in the audience with CSX, hopefully not too many of you are, but I thought I'd start with a very high-level overview of the company. As you can see from the map on the left-hand side, our network reaches the eastern half of the United States, 2/3 of the U.S. population and really sits at the heart of the U.S. industrial complex. I'll get back to why that's important later in the deck, but we believe it allows us to capture a lot of the freight that's still out there that's not riding on the railroad, that's riding reverse to us on the highway. So a very good footprint. We're really pleased with our network, and we think we have a lot of strategic positioning with respect to how we lay. On the right-hand side -- sorry, back one, there we go. On the right-hand side, you'll see our 2019 revenue, about $12 billion. Merchandise, our merchandise portfolio is about 2/3 of that. You'll see on the right-hand side what comprises the business units that comprise our merchandise portfolio. Coal is about 17% of our overall business. Just a few short years ago, that number was about double. But today, represents about 17% of the business. And our intermodal franchise, which we've been working very, very hard on over the last few years, is about 15% of the overall book. This next slide, I thought I'd share some of the progress that Ben just mentioned that we've made over the last few years. In Q3, as you can see here, we led the industry from an efficiency perspective with an operating ratio of 56.9%, truly remarkable progress and performance in the face of what was very -- continuously very challenging circumstances, given the environment. This 56.9% represents about 1,200 basis point improvement from the third quarter, just a few years ago when this whole journey began to schedule railroading. So it's something that we're extremely proud of and committed to keeping as -- being a leader in efficiency going forward. I thought one area that I'd highlight as well, and we feel somewhat that is being a little bit underappreciated, is our cash flow transformation that we've achieved over the last few years. And if you look at this slide, our free cash flow conversion as a percentage of net income has been quite remarkable and quite impressive and converting twice as much of our net income into cash, as we did before, is through our stellar performance and something that we're quite pleased about and proud of. Just taking a very quick review of our Q3 results. I'm sure many of you have seen and tuned into our call, but I thought it was worth repeating. Given the volume headwinds that we experienced in the second quarter, and I'll get to that a little bit in a second, but volumes were down in the second quarter, 20%. We came back somewhat a little bit in the third quarter with volumes down -- being down 3%. And you combine that with the shift from lower coal and more intermodal business, that really led to -- resulted in our revenue being down about 11%; earnings per share, the same. But we were able to match just a tremendous performance on the operating ratio and setting and almost matching the company's best performance that we saw in the third quarter of last year. So truly a remarkable performance. And I believe this continued focus on efficiency really sets us up nicely as we go forward and look at growth. This chart highlights -- or this page highlights the historic volatility, as I just talked about, that we experienced this year. We started off the year really strong. Both merchandise and intermodal came out of the gate very strong in Q1. We thought we were looking to have a very strong year. And then, as we all know, at the end of February, beginning of March, the pandemic hit, resulted in unprecedented declines in volumes that this company has never seen. Volumes were down 20% in the quarter. And then just a few short months later, we saw unprecedented return and a bounce back of really a rapid growth in volumes that came back really, really strong, which was very challenging operationally for us to manage as we had many crews off on furlough and then had to recall them. So it was a challenging quarter. But despite that, our sales and marketing teams continued to work really well with our customers during this period as they were facing the same situations and the disruption in their business and looking -- as the economy started to bounce back, looking to get their goods to market. The truck environment has been extremely tight. Driver shortages and higher rates on the trucking side caused a lot of the shippers to come to us and us going to them and offering how we can work together to move some of that freight to market, opened up new opportunities for us to convert a lot of that highway business, which is something that we're very, very focused on going forward. And speaking of that, just turning to the last slide here before I turn it back to you, Ben, the reason why we're so excited about a lot of this highway truck conversion, as you can see it right there on the right-hand side, it's a very large opportunity for us, about $980 billion freight market every year. All railroads represent about 8% of that pie, but truck, as you can see, has the vast majority of the market share. And so as you've heard me talk about many, many, many times on earnings calls and other conferences, all the work that we're -- we've been doing to revamp and enhance our marketing capabilities has been really important. We brought in some new leadership. We've revamped the team, changed the team up quite a bit. Really focused on new technologies and focusing on data and analytics. If you combine that with the superior service product that we've been working so hard on over the last few years and all the work that we've been doing -- my team has been doing to improve our customer experience and make it easier for our customers to do business with CSX, we think is winning share even in this challenging environment. So we're very, very pleased with all that work, and we believe that will continue going forward. We've also been working very closely with -- as I said just a minute ago, with our customers to identify a lot of truck conversion opportunities, really on 2 things: one, in areas where we currently operate with those customers and where we move freight and where they also ship by truck. So as we know, the truck rates have been going up, capacity has been tight. And we think, given our superior service and our reliability and consistency in this environment, we've been able to grow that -- those volumes from the highway onto the railroad. But where we're also seeing really tremendous -- a lot of tremendous success and really focusing, I think, for the first time, is looking at areas where traditionally, railroads have not played, where usually those lanes have been truck served. And we're going in and talking with our customers, opening up their books of businesses and looking at those lanes and seeing what the conversion opportunities for us are. We saw earlier this year that we were able to convert a lot of aggregates business. So some of this was shorter-haul business, but we were happy with it. It was a great return business for us and very profitable. But now recently, we're looking at some really good wins across our metals business and across our forest products business. And those conversations with customers are going to continue going forward. And we see some exciting [ things ] to be able to convert more freight from the highway. Also, where we're working with customers is really extending our reach through their supply chains, our TRANSFLO subsidiary where we transload materials from truck to rail or rail to truck is playing a critical role for us and something that we're very focused on, on expanding and building front, but also looking at other opportunities where we can play a more fulsome part in our customers' supply chains. And we're having those conversations and really turning tables a little bit and saying, we want to be a bigger part of your overall transportation spend and what else can we do to you to improve your flow, to get your products to market. So those are conversations that are ongoing, and we expect to have more success in the coming quarters and years on that front. So I think, Ben, with that, I'll turn it back to you for the Q&A.

Sounds great. Thank you, Mark. That was great. I want to start, I think kind of 3 parts to the questions here. I want to start with COVID and just kind of tactically, as you think -- well, maybe provide a little bit of perspective about how you've executed over the past 7, 8 months, protecting the network, protecting the employees in particular. And then as we look into the winter and see case growth kind of spiking across the U.S. and across your network, any learnings from that that you can apply? Anything that you're going to add to that to really just to make sure that the workforce, in particular, remains safe and -- their safety, first and foremost, but obviously, the service and the execution side remains crisp? So your perspective there, just tactically.

It's -- Ben, I mean, it's been a real challenging period for everybody, not just to CSX, but for our customers and for our employees and for the communities in which we serve. Listen, none of us have experienced anything like this in our careers, and God willing, will never experience anything like this ever again. But we've -- we started off this very uncertain time. When volumes started to decline very, very rapidly, we unfortunately had to furlough a lot of employees. We dispatched a lot of PPE across the network to ensure that those employees, who remained and were working, were safe. They had masks. They had the sanitizers, everything they needed to continue working in a safe manner. And we really put a full-court press on that. And I think we did a very nice job. And as volumes came back, really, as I said in my opening remarks, really -- at a really fast, unprecedented level, that's something that we've never experienced again, the rapid rise in, really overnight, the volumes that bounced back, it was a challenge. And it was a challenge recalling employees and getting them back. There are certain stipulations within our collective agreements where it takes some time to mark up and come back to work. And then you have more senior people [ bouncing ] junior people and so -- and people moving around. And some people were coming back in jobs that they hadn't worked in before, and so there was a little bit of that learning going on. And it's been a very challenging period operationally. But I would commend Jamie and his leadership team and the entire CSX' operating field employees out there, they've done a remarkable job, a remarkable job, really dealing with the -- these unprecedented times in the face of working in situations where they're putting themselves at risk as well. And so we've learned a lot. We're continuing to deal with it. Now we're -- we've sort of recovered from a lot of those issues. And then as we all know, sort of the United States and the rest of the world, we're dealing with sort of a -- I don't know if you call it a second wave, but more cases popping up. And that's affecting our employee population as well. And we're seeing a lot of cases around the networks, specifically right now in the Midwest. We've seen some hotspots of employees that are having to go out because they've got the disease. And so we're dealing with it. We're managing the best -- I think the most important thing that we've learned, and my sales and marketing team have done a remarkable job and a great job of, is really communicating with customers and keeping everybody abreast of what's going on, the challenges that we've experienced, what we're doing, the action plans that we're putting in place to monitor and to recover and to get their service back up and going. So we're all learning from this. Hopefully, as we head into -- vaccine in the news, it's great news for us and for everybody else. And we think, hopefully, into the new year, things start to settle down a little bit. We get back to normal railroading here, but we're continuing to watch the situation.

As you think about 2021 kind of planning for the unknowns, what generally is a base case, bull case, fair case scenario as you think about operating through COVID and the unknowables as it relates to aggregate demand? What -- how would you shape that up? And if you can probability weigh them, that would be fantastic as well, but...

Well, I'm not going to give you too much guidance on 2021, Ben, not today anyway. But something, clearly, we're watching very closely, we're monitoring very closely, again, I think this is where, what I said earlier about talking to our customers, keeping abreast with our customers and talking -- looking at their expectations for next year. And obviously, the COVID situation is going to tell us what kind of year we're going to have, I think, and how the economy bounces back. And -- but we're watching it very closely. We'll see. Again, on -- intermodal-wise, intermodal is doing extremely well right now. We expect that to continue deep into Q1. This e-commerce phenomenon is continuing. And we're seeing some great volumes in this replenishment of inventories, and restocking is going extremely well. So talking with our customers, they see sort of strength there, sort of line of sight into -- late into Q1 on that. So we see pockets of things, but we'll have more to say and more to talk about in January when we release our full year results.

Sure. Directionally, when you guys think about OR, you've kind of walked people away from thinking strictly about OR as the final metric, the end all, be all, but you had some notable cost reductions, cost savings opportunities, efficiency gains, et cetera, during the third quarter that you talked about. Do you think that learning, that experience -- none of us wanted COVID, but it's here and we've dealt with it. Did that shape -- did that change in any material way the way you think about what the ultimate potential for the railroad is from a margin standpoint, perhaps from an execution standpoint, given what you were able to find during 3Q? Or was it just kind of an acceleration of things that you think you would have found already and so there's no change to that [ OR ]?

No. I mean I would just say it's -- we executed to our plan, and we're continuing to find ways, as I said, to be more efficient. Clearly, we're not obsessed by having the best OR, the lowest OR that we can get. But we're -- we want to be the most efficient railroad and continue to be the most efficient railroad. We're looking for opportunities to continue to drive the efficiency and cost -- and control our costs, meanwhile while we look for growth opportunities as well and work with our customers, as I said, to grow. Listen, I was out on the railroad about 2 weeks ago with Jamie. We took a train trip up through the heart of the coal franchise for 3 days. And when you're boots on the ground and walking around and seeing a lot of continued store inefficiencies in some of our terminals and the way we operate out there, it kind of gives you a lot of confidence and says, there's more to go here. And so we're excited by that. And this scheduled railroading journey continues, right? There's no end date to this journey. It's about delivering best, great service, controlling our costs and sweating our assets and making sure that people go home safely at night and developing our people. And so all those things, we're going to continue to focus on. And I think as we look for all these growth opportunities that I talked about, we're also going to look at -- continuously look at all the things that we can do to control costs and be as efficient as possible.

And one more in the vein of COVID. As you have customer conversations, you talked about the longer-term opportunity to be able to penetrate the addressable market, not just intermodal, but on the merchandise side. You mentioned some of the wins on the metals and forest side already. But you guys are roughly 4 years into this journey here. It doesn't end. But do you think 2020 and COVID and the experience of executing in the down in 2Q and the up in 3Q, in essence, validated PSR. It gives you something to be able to sit down credibly in front of the customers tangibly, I should say, and say, look, it works and it's here. And now does it accelerate those conversations with customers that you haven't been able to engage in the past about what's to come over the next several years as it relates to service with the railroad?

Yes, I certainly think so, Ben. Listen, operating through this type of situation, again, unprecedented and something we've never done before, clearly, anybody has, but we -- a lot of learnings and a lot of things. And I think the way that we responded was impressive, the way we're working with our customers is impressive and I think that gives us a lot of confidence. And obviously, the learnings and some of the ideas that we came up with operationally about how to handle traffic, especially when volumes started to rebound and the way we were able to manage some of that with the existing network, without adding a lot of cost back and handle that freight, I think, are learnings that we're going to take forward. And I think sitting down with our customers and showing them that we didn't drop the ball. In some cases, we had some difficult times, but that was to be expected. And -- but we're -- we learned a lot. And I think the way we communicated and worked through it, I think, will serve us well going forward.

Sounds great. So as you do think about volume growth on the network over the next several years -- maybe we can break it down by broad commodity type to make it easy, but I'll do that in a minute. Just from a high-level perspective, the industry has kind of struggled to grow at a U.S. industrial production growth pace, and we know the story over the past 20 years and what's gone on in the industry and why that may be. But kind of in the spirit of the last answer that you gave, is there a line of sight to the railroad, to CSX, in particular, growing volumes at a U.S. industrial production, plus or minus, hopefully a plus-type clip? Is that credible in your mind as you see it today?

Yes. So Ben, here's what I've kind of said publicly and to the team, listen, are we going to get there overnight? No. And do we always need a good economy? Sure. But certainly, I think given our service and the tremendous progress that we've made over the last 3.5 years, almost coming up on 4 years, which is quite remarkable, but I -- it gives me a lot of confidence. Especially given the things that we're working on, some of the truck conversion opportunities and some of the wins that we've seen that we're going to continue to pursue, it gives me a lot of confidence that we can grow our merchandise business at a point or 2 above GDP every year. I'm very confident in our ability to be able to do that. On the intermodal side, as you know, we spent 2017, 2018 revamping that entire business. It's a great business today. We've got a lot of capacity. We've got -- our service is extremely good. And I believe, going forward, that we're going to be able to do 2x GDP growth in our intermodal volumes going forward. So very excited by that. But again, do we need some help with the economy? Sure. But give us an equal playing field, and I think we'll perform just really, really, really well.

Okay. I want to focus on that comment that you just made on intermodal, 2x GDP. We know how volatile that truckload market has been over the past several years now, so obviously, it's favorable going into '21. To execute consistently on that 2x GDP growth opportunity in intermodal -- I guess, first, is that intermodal broadly? Or is that just domestic intermodal when you talk about 2x GDP? I assume that's domestic intermodal.