CSX Corporation (CSX) Earnings Call Transcript & Summary

Okay. Good morning and welcome to day 2 of Barclays 38th Annual Industrial Select Conference. We definitely miss Miami Beach, but hopefully, we'll be back there next year. I'm Brandon Oglenski, airline and transport analyst. And joining us today to kick off the transport track is CSX. CSX is one of 2 major U.S. rail carriers on the East Coast here. And they had about $11 billion to $12 billion of revenue with 58.8% OR last year, and I'm sure Kevin is going to talk about that more. But Kevin Boone, CFO, will be joining us from the company. He's been there since 2017 when -- pretty significant management overhaul. And before that, a lot of you probably recognize him from his time on the buy side. So Kevin, thank you and welcome. [Operator Instructions] So Kevin, welcome and thank you for joining. I think every transport carrier and even the airlines are talking about weather as we almost always do in the first quarter. But it does seem like storms have impacted volumes here recently. So can you talk to the very near-term trends that you're seeing? And then definitely want to talk about the longer-term opportunities.

Yes. Yes. Well, first of all, thank you for having me. I think it was my last live conference that I was at was your conference last year when the world quickly shut down, so -- which we were in Miami as well. So hopefully, we'll get back to normal here pretty soon. I was just in Jamie's office here a few minutes ago, just getting the latest update. It's, quite frankly, since I've been here, probably the most challenging weather environment we've had to deal with in the last 4 years and it goes probably well beyond that. It's impacted almost our entire network, maybe with the exception of Florida, where I'm sitting here today, where the weather has been decent. But we're feeling it, we're feeling it in the interchange. Chicago is clearly struggling as it does during these winter impacts. But we're seeing temperatures that we've never seen in the last 100 years, I think, in some of our locations. When you think about Nashville, seeing a lot of snow and weather impact, they just don't -- that's not normal for those areas. So we're working through it. What we've done and what we're convinced of is the new operating model can recover a lot quicker than we were able to before. And when you think about our intermodal network, for instance, we're not closing gates right now. We're managing it through the reservation system, which will hopefully keep our terminals fluid coming out of this and, hopefully, quickly recover as we see the volumes. But again, our western partners are seeing a big impact. The weather is obviously really cold in the Midwest, and we're seeing that at the interchanges but trying to work around Chicago as much as we can and still be there for our customers. But we'll get out of this really quickly. We're confident. We've got a great team fighting, and I know we're probably expecting another winter storm here again, hitting us later this week. So it's not over, but we'll get out of it, I think, in good shape.

And I think if we go back a few weeks during your call, you were also talking about COVID having a negative impact on employee availability as other people unfortunately got sick or had to quarantine because of exposure. Is that still an ongoing issue as well in the network?

It is. We probably -- we peaked at close to maybe 400 employees out on COVID-related mark-offs, and that number has come down dramatically. We're in that 150 range today. The issue is, though, it really tends to be concentrated in certain areas, and that creates its own challenges when you have 30% to 40% of the terminal employees out on COVID. You can't move -- put employees around and make up for that. So Jamie and his team have to redesign the network or work around those issues temporarily. But we are seeing, I think, we've seen the worst, hopefully, knock on wood. And those numbers have continued to come down pretty dramatically here. And -- but they're still a challenge because they're concentrated in certain areas, and we're having to work around it.

I appreciate those updates. But I guess in this context, is there anything you're seeing early on this year that would make you think where we could deviate from the volume guidance you guys put out there, which I think was for aggregate volume to be better than GDP, merchandise better than industrial production and intermodal better than merchandise?

Yes. I think in all of those -- all that guidance was relative when we think about the second half of the year. There's a lot of factors that are going to play into what the underlying economy will do, stimulus, other things that hopefully provide upside. And what we were trying to communicate is we expect to deliver above those -- above the underlying economy given all the initiatives that we've introduced over the last 2 years. If you think about our business, in 2019, we had to handle the industrial recession and then quickly followed in 2020 with the pandemic. So there are some markets that are poised to recover once the economy normalize. And so we're fairly excited about that. Now timing is everything, and we're not sure when that could happen. But we're optimistic. There's a case, obviously, in the various scenarios that we laid out, where we could have some robust growth in the second half. But still, early January last year was a very good month, too. And then, obviously, things changed pretty quickly. But if I just look at January, I think probably a little bit better than what we had expected. February has been a challenge. It will probably continue to be for the next few weeks, so I wouldn't read a lot into the volumes here in the last 2 or 3 weeks. And certainly, this week will probably be the most challenged week that we've seen just with all the weather impact there. But merchandise, seeing some good strength in the plastic markets. Metals continue to be a strong market for us. And so intermodal, as you've seen with the volumes, it's really carried through from the fourth quarter and we're seeing a lot of success. A lot of the hard work we did over the last 3 years is really, really paying off. We're seeing new business. We're seeing current customers give us more volume because we've been more reliable than the truck. And so all of that's paying huge dividends for us. So we -- if you remember, in 2019, we were pretty confident that we'd start to see some truck conversion and some other momentum. It's been hard to really see that given all the volume challenges driven by the economy. But we think once the economy is a little more supportive, you'll really start to see some of that momentum and show up in our volume numbers.

Yes. I appreciate that. And let me dig into each of those segments. But I guess, at a higher level, I think it would be fair to say a lot of investors view CSX as being done with the PSR conversion. And so therefore, why not place more emphasis and attention on other carriers that are going through that transformation process right now? I think the story that you guys have tried to articulate is that now that we have the service product out there, we need to go sell the network. Are we in the early stages here of really seeing your network spool up and start to deliver against those growth ambitions?

Yes. And I think we do believe in a growth environment, particularly when that accelerates quickly, that we're going to differentiate ourselves and be able to capture more of that growth than hopefully the railroads have been then able to do historically. As you know, you follow this industry a long time, that's been a challenge. And that's -- we all had a discussion in the fourth quarter last year of how do we get ahead of it, how do we prepare for this. We're good on assets. We have plenty of locomotives. We have plenty of capacity given all the good work the operations team has done, consolidating trains. So we have the ability to add train starts, other things where we could be cut short on the crews. And so that's why we said we're going to get out ahead of that a little bit. When we look at attrition for the year, that ranges from that 7% to 8%. We're going to have to hire for that attrition in the first half of the year. So hopefully, as we get into June, July, where we replace all the attrition and then some. And then we can make a decision then, do we continue hiring because the volume has accelerated? Or do we hold back on hiring and just manage the headcount from there? We want the flexibility. As you know, I think we talked about this, 5 to 6 months to train a conductor. It takes a while to qualify them in certain areas. So we want to really get ahead of that and be there for the customer when they need us the most, when they get in the growth phase. So we're strategically making that decision. We think that will differentiate ourselves. And I think we're -- we'll be ahead of the curve, hopefully.

Well, a lot of your competitor railroads were kind enough to offer guidance on the margin this year, which is not always the case. Is the lack of operating ratio guidance from you guys significant in any way? Or is there still a commitment to delivering improved margins as well?

Yes. I think when you think about the question, are we still focused on OR, we're focused on -- I can give you a list of 50 efficiency items that we are focused on, on a daily basis. When Jamie's team, every day, are looking at locomotive utilization, our head count, how we're utilizing it, getting the most out of our employees, lifts per hour, all these things, that ultimately materialize in an OR. And I will say that there's not a trade-off revenue versus OR. And I think that's the narrative that's starting to emerge that if we want to grow, we're going to have to sacrifice margin. And that's -- it's quite the opposite. It's easier to improve margins with more revenue given the fixed cost basis that we've established here. And so yes, I think there's going to be some variability depending on how robust the growth is this year. I'm fairly confident that if growth comes in stronger than what we expect, that will probably materialize in a little better margin. And so that's why if we're -- we had relative guidance on the revenue side that it didn't make sense necessarily to put a stake in the ground on where the OR will come out because those work hand in hand. I'm confident in every part of our business that their incremental margins are quite attractive. With that said, if we can go out and find new business at 60% OR, we're certainly not turning that away either, but most of the business that we're seeing new business is coming in is at a very, very attractive incremental margin for us.

I mean, I guess if I could try it a different way too, a lot of carriers are now targeting a mid-50s OR. It sounds like if you hit that volume guidance or even exceed it, that you should get some expansion this year. Is there any reason to believe, structurally in the East that you can't reach that level? Or is that the wrong metric even to focus on, Kevin?

Yes. As Jim will tell you, the OR is a scorecard of all the things that you're doing on the efficiency side, you're running a better railroad. We're very customer-centric right now. We're really focused on that trip plan compliance, but you don't have to sacrifice margins to get more efficient or get a better customer experience. They go hand in hand. It's not something we focus on here. I want to grow operating income. I want to grow net income and then ultimately, obviously, EPS and put together a multiyear algorithm that has strong growth. And so -- but it never comes down to the conversation that we're making a trade-off of having to grow our business and sacrificing margin. But I've never heard us have that conversation where we're having discussions with our customer or other areas. It's just -- that's not how it works, but we are focused on how do we maximize our growth. We've got 20%, 30% capacity in our network. How do we fill that with business that's attractive, has an attractive return and grow the bottom line. That's what we're trying to accomplish here.

Well, can you talk to the headcount commentary specifically? I think maybe that might have been a bit misconstrued that you have to add resources with volume here, so not a lot of incremental leverage looking into the year. And if I could, specifically too, service metrics have deteriorated on your network and other networks as well, which historically has almost always been the case as volumes come back on the rail networks. Is that maybe contrary to what everyone believes that we can just keep adding volume and keep getting incremental margins here?

Certainly not Jamie's thought. We've had some unique challenges that the railroad industry hasn't seen in a long, long time in terms of the COVID impact. And some of the things we were talking about earlier, where they're concentrated in certain areas, that just create a lot of challenges for us that you can't plan for. All of a sudden, you have an issue in Birmingham because -- or you have an issue in Nashville, [ 2 bases ] pop up and you have to deal with it. And we have a great team that's out there every day coming up, redesigning the train plan temporarily to work around these issues. So that, you've really seen that in the numbers. And then beyond that, I think there's a lot of confidence. And we're -- obviously, what I talked about on the hiring side, we have 2 classes coming in, in February. We'll have 2 classes for the first half of the year coming in each month, really getting ahead of that. Hopefully, volume surprise, if it comes, but we're prepared with the crews to handle it. The challenges, and we've been doing a lot of work around this, is trying to predict where that comes, right? Because you have to hire and tell that conductor where they're going at the beginning of the class and anticipate where the growth will come. It's very challenging to move people around. You don't have -- necessarily have that flexibility. So that's where we're spending a lot of time, anticipating being proactive rather than reactive. We talked about that a lot around here, and let's get ahead of it. Let's have those discussions between sales and marketing and operations so they understand, where, what customers are saying daily, how they're changing. What's happening with the auto industry, obviously, today, with the challenges on the semiconductors, let's get out ahead of that. What does that mean for volumes in the second half? Does that mean a recovery and stronger auto volumes that hit us in the third and fourth quarter as they try to make up some of the lost production. We're having all those discussions. We have to keep the lines of communication open. But we're really -- we're trying to play offense here and get ahead of it.

Well, I appreciate that. I guess on the commercial side, you guys have been talking quite some time about -- if I go back a year or 2 ago, I think the focus was really on merchandise and carload or truck-to-carload conversion. It sounds like more recently, you guys have gotten more bullish on intermodal as well. So can you talk to some of those commercial initiatives that Mark and his team have put in place? And how do you think that could deliver looking out beyond just this year?

Yes. I think we probably talked about merchandise focused on it because it is 2/3 of our business, right? And so we don't want -- and it's probably an area where we haven't focused on a lot despite it being the largest contributor by far to the bottom line. And Jim's got a lot of experience in this area, and I think there's -- and I agree with them, once we've gone through the data, that there's a huge opportunity from a truck perspective to move volume onto the railroad, particularly as a service that's got dramatically improved. So we're seeing that. It's hard to see it in a backdrop where the economy is declining. But there are -- there is evidence when we go customer by customer and are having those discussions. Bill is pointing out to me the other day that we had a pilot 5 years ago with a customer that ultimately failed because we weren't able to deliver the service. Well, we introduced that pilot with a customer, convinced them, "hey, let's try it again," and it's been highly successful. And that's just a small sliver of what we're seeing out there. We have customers right now where we've traditionally had -- we provide a service for the input, the materials and the raw goods. And now we're having discussions around, well, why aren't you giving us the finished products? Why aren't we moving those for you? And so we've seen small wins there and initial success. I think that will continue to grow. As the service gets back to where we ultimately think it will be, those discussions will be even easier with the customers. And I think they'll take a pause and look back at the last year and reflect and say, look at what happened with truck. Some of these megatrends that we talked about, driver shortages, other challenges are going to persist, I think, for the next few years, and that will drive more discussions, hopefully, for us with our customer. We also are looking at transloading with our TRANSFLO business. It allows us to reach more customers on the merchandise side, which is a big opportunity for us. We're very, very excited. Jim has aggressive targets there to grow that business, and we have a great team up against it. On the intermodal side, it wasn't too long ago, we redesigned the network. We're really seeing the fruits of all of that hard work in terms of -- and complete another redesign of that network where it's much more efficient, the customer experience is dramatically better. And I think that's why you've seen the outsized growth there. And we have every expectation that with that service, as customers continue to see us deliver, that outgrowth will continue. And then the coal side, we can talk about some of the underlying dynamics today. But obviously, the commodity prices are probably a little more supportive now than they were a year ago. That gives us a little bit of optimism, as we said on the first quarter call, maybe on the domestic side. And -- but you've also seen some improvement in the met coal market, underlying prices and on the thermal side. I think the biggest challenge, and this is a watch item for us, is on the supply side. Can the producers ramp up if the demand is there? Because we'll be prepared to move it. The question will be, on the producer side, whether they can really react to a more favorable backdrop quickly.

Well, I want to come back to coal for sure. But on the merchandise side, is this a story that we think can play out for a couple of years here where you can outperform industrial production just given those opportunities that you said you've identified? And I think prior to you moving into the CFO role, weren't you trying to head up some data analytics and revamp the marketing efforts and the way you guys approach the market here, too?