Seeking Alpha
Long only, short only, growth at reasonable price, contrarian
Profile| Send Message| ()  

CSX Corporation (CSX) stock fell 6.88% to $27.22 after the company posted its fourth quarter earnings which trailed analysts' expectations for the first time in the last eight quarters. This was the biggest decline since September 2011 making CSX's shares the second biggest decliner on the Standard & Poor's 500 Index.

The company generated revenues of $3.032 billion compared to analysts' estimates of $3.01 billion and earned 42 cents per share compared to analysts' expectations of 43 cents. The revenues in the fourth quarter rose 5% on a year-over-year basis but the net earnings declined by 5%.

Revenue Growth

CSX's revenues in the fourth quarter were upon broad-based strength across most markets. The continued recovery in the housing sector, strong crude shipments and a strong fall harvest in the agricultural sector drove YoY growth of 10% in the merchandise segment and this contributed the most to the company's total revenue. The segment's volumes increased 11% whereas per unit revenues increased 3%.

The cycling impact of Hurricane Sandy and the continued success with highway-to-rail conversions supported the Intermodal segment's revenues. The YoY revenues in this segment rose by 10% as well. The segment's volumes were up by 11% whereas per unit revenue decreased by 1%.

A decrease in the shipments of domestic coal, as a result of continued low natural gas prices and high utility stock piles, caused a decline in the Coal segment's revenues by 5%. The segment's volume declined 5% and revenue per unit declined 4% compared to last year's results.

Overall, the volumes of all shipments rose 6% whereas the total revenues per unit fell by around 1.25% during the fourth quarter.

CSX's full year revenues were up 2% to $12 billion due to a 6% increase in both the merchandise and intermodal segments. These increases were partially offset by a 9% decline in the coal segment's revenues. The shift to natural gas from coal is causing problems for CSX and its competitors and resulted in negative revenue growth in the coal segment.

Earnings Growth

Despite delivering positive volume and revenue growth, CSX's net earnings declined 5% during the fourth quarter versus the net earnings of the fourth quarter of 2012. The culprit behind this YoY decline is the company's expenses which increased $139 million reflecting a 7% rise from 4Q12.

The higher incentive compensation costs and increased crew starts and training expenses caused an increase in the labor and fringe expenses of 7%. The higher volume, materials and services costs along with higher net casualty and other costs augmented the materials, supplies and other costs (MS&O) by 17% YoY. Last year, CSX was helped by a tax gain on real estate which reduced MS&O expenses by $35 million and added 6 cents to the per share earnings.

The company's fuel expenses in this quarter were reduced by 3% YoY on the back of lower price and improved efficiency. Per gallon fuel cost was $3.10 compared to $3.33 per gallon in 4Q12.

Source: Management Presentations

The company's increased expenses raised its operating ratio by 140 basis points. The ratio jumped to 73.2% from 71.8% in 4Q12. CSX's full year operating ratio has also jumped 50 basis points from the 2012 level.

The company's management targets an operating ratio which lies in the upper 60's range for 2015 and the middle 60's in the long term. CSX managed to bring down the ratio in 2011 and 2012 by cutting expenses but now the ratio has once again reached the 2010 level. So now the company needs to heavily cut expenses over the next two years to achieve the set target. However, if it continues its present habits then it will not achieve its goal.

Source: Annual Materials

Due to the higher operating ratio CSX was not able to meet analysts' expectations for EPS growth and its EPS declined 5% YoY in the fourth quarter. The greater the ratio the smaller the company's ability to generate profits even if there is an increase in revenues. However, the company's full year per share earnings increased 2%,compared to 2012's per share earnings, and reached $1.83 per share.

CSX's management intends to grow its 2014-2015 per share earnings at a CAGR of 10-15%. However, if we consider the per share earnings growth of the past 3 years (2011 to 2013) then this target seems to be very difficult to achieve. In the last three years, per share earnings have grown at a CAGR of only 2.9%.

Investors' Returns

CSX declared a dividend of 15 cents per share compared to 14 cents paid in the fourth quarter 2012 reflecting YoY growth of 7.14%. The full year dividend declared by the company is 59 cents compared to 54 cents paid in 2012 reflecting a growth of around 9.3%. The company is generous in paying profits to investors in the form of dividends. This is evident in the fact that the dividends in the last four years have grown at a CAGR of around 16% which is quite impressive.

(click to enlarge)

Besides paying dividends, CSX generously increases investors' profits through share buybacks as well. In 2013, the company made cumulative share buybacks of $4.1 billion compared to $3.8 billion made in 2012. In the last four years, the share buyback program has grown at a CAGR of around 29%.

In 2013, CSX's investors earned handsome profits through the stock price appreciation. The company's shares had risen almost 40% in the last year while the benchmark S&P 500 only rose by 12%.

2014 Outlook

The year 2014 looks bright for the company's top line as its revenues are expected to continue growing at a good pace since the macroeconomic indicators show signs of improvement. The strong fall in harvest shipments, increase in North American light vehicle production, strength in energy-related markets, continued growth in the construction sector and the continued success with highway-to-rail conversions are some of the factors that could add considerable positive growth to the company's 2014 revenues. These factors are anticipated to impact favorably on 82% of the company's total volume.

However, the U.S. coal export demand in 2014 is projected to fall to 107 million st from 118 million st in 2013 and 126 million st in 2012 due to a weaker European economy, slowing Asian demand growth and increasing coal output from other coal producing countries. The lower export demand will negatively impact the company's coal segment's revenues as in 2013. But since CSX is continuously increasing its revenue mix in the merchandise segment the negative growth in the coal segment should not considerably impact the company's top line growth.

Final Thoughts

CSX did not impress analysts in its fourth quarter earnings results due to a higher operating expenses. However, the company's full year performance was quite satisfactory as both the top and bottom lines are growing at a good pace.

For the next two years, the company has set challenging and perhaps unattainable goals that currently seem to be out of its reach. But from the revenues perspective, 2014 is going to be a profitable year for CSX due to favorable macroeconomic factors.

I expect that the company will continue offering good profits to investors both in the form of dividends and share repurchases. Since it currently pays generously I recommend buying the stock.

Source: CSX Corporation - Recent Dip In Stock Price Provides An Opportunity