Norfolk Southern Third Quarter 2026 Earnings Conference Call - NORFOLK SOUTHERN CORP

Financial Performance:

• Reported 14% overall revenue growth (including fuel surcharge), with revenue less fuel rising 6% to an all-time record; RPU-less fuel increased 3%.
• Adjusted operating ratio came in at 65.4, with adjusted earnings per share of $3.62.
• Operating income increased 7%, while net income and EPS rose 10% year-over-year despite higher fuel costs.
• Total operating expenses rose 17%, driven primarily by a $42 million increase in fuel costs and inflationary pressures on labor and materials.
• Non-GAAP adjustments included $42 million in merger-related expenses and $28 million in net costs related to the Eastern Ohio incident.
• Fuel costs acted as a significant headwind, negatively impacting the adjusted operating ratio by approximately 250 basis points compared to prior expectations.

Guidance and Future Outlook:

• Raised full-year adjusted operating expense guidance to slightly north of $9 billion, reflecting approximately $700 million in incremental fuel expenses.
• Increased 2026 capital expenditure guidance to roughly $2.1 billion from the original $1.9 billion to accommodate volume growth and enhance network resilience.
• Expects fuel prices to remain elevated into Q4, influencing the operating ratio trajectory, but maintains an optimistic outlook on demand and volume growth.
• Forecasts positive coal outlook for the remainder of 2026, led by export volumes and favorable utility market conditions, despite low natural gas prices.
• Views recent truck-to-rail conversion gains as potentially temporary if fuel prices revert, unless structural changes (such as the proposed merger) are implemented to retain share.
• Expects 2027 cost inflation to be driven by wage increases (3.75% recently effective, 3.5% next July), double-digit healthcare benefit hikes, and rising insurance costs.

Business Segments and Product Lines:

• Merchandise: Volumes up 3% with revenue less fuel up 5%, driven by strength in metals, construction, and chemical energy demand.
• Intermodal: Volumes increased 3% with revenue less fuel up 7%; strong domestic and premium segments offset international weakness caused by trade uncertainty.
• Coal: Volumes grew 3% led by exports including a new customer; utility volumes were flat due to plant outages and service challenges.
• Productivity: Achieved record workforce productivity; eliminated 95 crew starts per week and moved 200 cars offline daily through terminal redesigns.
• Digital & Operations: Implemented new digital platforms for rate requests and shipment visibility using AI; consolidated trains (e.g., Birmingham-Macon) to reduce labor intensity.

Market and Competitive Landscape:

• A tightening truck market and elevated fuel prices have driven significant highway-to-rail conversions, particularly in forest products and consumer goods.
• Management confirms a "robust" competitive environment, noting competitors are introducing new products in response to the Norfolk Southern-Union Pacific merger announcement.
• Industrial development activity has normalized following a strong Q2 but remains ahead of last year, with a positive outlook despite tariff concerns.
• Manufacturing activity has expanded for nine consecutive months, supporting the industrial sector outlook.
• Management emphasizes that the proposed merger with Union Pacific aims to create a permanent transcontinental service advantage, distinguishing it from temporary market fluctuations.

Risks and Challenges:

• Fuel Volatility: High and fluctuating fuel prices remain a primary variable impacting costs and the operating ratio.
• Labor Constraints: Significant challenges in recruiting and training train and engine employees, with a six-month training cycle and high attrition rates complicating volume flexibility.
• Supply Chain Bottlenecks: Drayage driver shortages and truck capacity limitations pose operational risks, though they currently benefit rail conversion.
• Safety: Despite record-low accident rates (1.74 train accident rate), management remains focused on continuous safety improvements to prevent service disruptions.
• Regulatory Uncertainty: The timeline and outcome of the Surface Transportation Board (STB) review regarding the merger application remain a key external variable.

Management Commentary and Tone:

• Tone was confident and disciplined, emphasizing "strong execution" and "operating fundamentals" despite a dynamic macro environment.
• Mark George (CEO) and Brian Barr (COO) highlighted record productivity and safety improvements, framing current growth as a result of fixing core operational issues.
• Management stressed that while current volume growth is impressive, maintaining it requires structural industry changes, specifically citing the need for the merger to create a durable competitive edge.
• Leadership expressed pride in the team's ability to absorb volume growth and handle weather disruptions without derailing network fluidity.

Analyst Questions and Answers:

• Truck-to-Rail Sustainability: Management clarified that while fuel-driven conversions are currently strong, some share could revert to trucking if fuel prices normalize, unless structural improvements (via merger) are made.
• Pricing Power: Ed Elkins (CCO) noted strong pricing execution across all segments, driven by improved service quality and a robust industrial backdrop, though mix effects exist.
• Capacity and Growth: Management confirmed capacity exists for current growth, citing utilization of stored locomotives (420 units) and operational efficiencies; CapEx increase targets terminal and network expansions.
• Drayage & Labor: Acknowledged stress in the drayage sector but emphasized investments in terminal efficiency and automation to mitigate driver constraints.
• Transcontinental Opportunity: Ed Elkins stated that while East-to-East conversion is high, the merger will unlock significant potential in Transcon lanes by offering a reliable, non-interline product.
• Mergers and Access: Mark George firmly rejected competitors' requests for access to the Eastern Pennsylvania network, stating the STB would likely reject such requests as in the public interest to defend the franchise.

Other Key Points:

• Safety Metrics: Year-to-date personal injury index is 1.08, and the train accident rate of 1.74 is a historical best.
• Merger Application: Management submitted a "complete data set" merger application, asserting it is in the public interest and will enhance supply chain resilience.
• Environmental Impact: The merger is projected to save 3.6 billion truck miles annually, reducing diesel consumption and preventing approximately 65 fatalities and 1,750 accidents.
• Operational Efficiency: Netting out fuel and merger costs, the core business showed strong momentum with improved on-time origin performance (+12 percentage points) and train length/weight increases.