The biggest eastern railroad in the US, CSX (CSX) reported mixed third-quarter results Tuesday, with earnings coming in slightly better than expected but revenue falling below consensus. We don't expect to make a change to our fair value estimate.
CSX's revenue declined 2% as lower volume, reduced fuel recovery and an unfavorable mix hindered expansion. The company's operating ratio held steady at 70.5% on productivity/resource efficiency, but operating income still declined 3%, to $854 million. Third-quarter net earnings fell 2%, to $455 million, though earnings per share increased modestly due to share buybacks.
The firm noted changing global coal market conditions, as the primary reason for disappointing consolidated same store sales pricing gains. Specifically, higher thermal demand increased volumes of export coal, which tends to generate a lower revenue per unit (creating a negative mix shift). And while management remains focused on pricing above rail inflation over the long term, domestic coal volumes fell a painful 26% during the period as lower electrical demand and natural gas prices impacted utility volume. Export coal is expected to decline in the fourth quarter, but the domestic coal headwind will continue into 2013, in our view.
On a positive note, merchandising revenue advanced 3% during the period thanks almost entirely to higher revenue per unit. Strong automotive demand was offset by lower agricultural revenue from reduced grain and ethanol shipments. However, we think strong oil and gas markets and an improving domestic housing sector will continue to offset weak agricultural shipments and aggregates/waste revenue in the quarters ahead. Intermodal revenue was solid, advancing 10% (8% volume; 2% price), as highway conversions helped volume while Maersk traffic drove international expansion. We continue to expect strong performance from its intermodal business.
Looking ahead, we're neutral on CSX's fourth-quarter outlook. We cannot deny the unfavorable impact of softening global demand for metallurgical coal as well as the impact that low natural gas prices are having on utility and industrial coal demand. Agricultural shipments continue to be impacted by the effects of the drought, but yet phosphate and fertilizer demand remains favorable. We think automotive demand will continue to be strong, and we're generally positive on lumber shipments as the US housing market finally takes a turn for the better. Intermodal will also represent a tailwind as we expect CSX to continue to win new business.
There's much to like about CSX. The company's credit profile continues to improve, and management has an inspiring and commendable goal of achieving an operating ratio of 65% in 2015. The firm continues to return cash to shareholders via dividends and buybacks, and while we're not fans of either at this time, we do like management's shareholder focus. CSX scores a 7 on the Valuentum Buying Index (our stock-selection methodology), a good score, but one that is not yet high enough for us to consider adding the firm to the market-beating portfolio of our Best Ideas Newsletter.