CSX: Offsetting Coal Weakness With Expansion Of Other Businesses

CSX is offsetting weakness in its coal business by expanding its intermodal business and growing other revenue streams such as crude by rail. With CSX's coal transportation business facing headwinds due to increased usage of natural gas for commercial and household purposes, its coal volume shipment is down by 15% since 2004.

U.S. intermodal business, or use of more than two modes of transport for moving freight, is increasing due to regulatory changes in the U.S. truck industry. The U.S. Department of Transportation has curbed weekly working hours of truck drivers to 70 hours from the earlier limit of 82 hours. With the change in hours-of-service rule, many truckload carriers' productivity has declined by 3% to 5%. This could be the reason why supply chain managers of many companies are shifting towards intermodal from trucks. During the week ending Dec. 14, intermodal volume rose by 6.4% when measured against the comparable week in 2012.

To capture this opportunity, CSX is improving its infrastructure to support growth of its intermodal business. The company has completed its first phase of double stack clearances in its "National Gateway" initiative. Under this initiative CSX is creating an efficient rail route to link Mid-Atlantic ports with Mid-Western markets. "National Gateway" is expected to be completed by 2015, and after that 95% of the company's rail intermodal will move in double stack lane. Double stack rails can carry 100% more goods than normal rails in one trip, improving efficiency and cutting 20 million tons of carbon dioxide emissions.

Intermodal business accounts for 40% of the total volume transported by CSX, and the company expects it to grow by about 5% to 6% next year. Completion of National Gateway will help it to grow more.

Crude-by-rail is a growing business

As CSX's coal volume shipment is declining, the company is relying on growth of its crude oil business. At present, the company moves one train with 70,000 barrels of crude oil in one day between the Bakken region in North Dakota and terminals in New York and Pennsylvania. In a couple of years it can increase to six to seven trains daily. The possible reason for increase in transportation of crude by rail is a lack of refining capacity nearby for crude processing. In addition, pipelines are not sufficient to take it to market. In September about 63% of crude from this region was transported through rail, and next year about 90% of oil of this region could be moved by rails.

Projected pipeline projects such as TransCanada's (TRP) Keystone XL Pipeline, Enbridge's (ENB) Northern Gateway pipeline, and Kinder Morgan's (KMI) Trans Mountain Pipeline could decrease shipment of crude by rail, but these projects are focused towards the Canadian West Coast or U.S. Gulf Coast, and CSX's main focus is East Coast refineries. In addition, approval for these projects is still doubtful due to political reasons.

A major portion of Bakken oil is shipped to East Coast refineries, and shipment is done through rail. For example, one fifth of Bakken Oil is used by a Pennsylvania refinery of Philadelphia Energy Solutions, or PES, which is a joint venture of Carlyle Group (CG), and Energy Transfer Partners (ETP). At present, PES brings about 160,000 barrels per day using two trains, and it is planning to start another train in coming years.

With Bakken oil trading at discount to Brent crude, we can expect these refineries to continue shipment of crude from this region through rail. This year, the average price difference between U.S. domestic benchmark West Texas Intermediate, or WTI, and Bakken oil was about $5 per barrel. While, at present per barrel, WTI is trading about $11 to $13 below Brent and the projected spread for next year is around $9. Therefore, Bakken oil is trading about $19 per barrel below Brent crude. Transporting crude by rail per barrel costs about $17, about $7 more than transporting it through pipelines. Still, buying bakken oil is more profitable for the refineries than importing Brent Crude.

Because of a similar price difference between Brent crude and Bakken oil expected to continue next year and still insufficient pipelines between East Coast and Bakken region, the share of crude transport through rail is bound to increase.

Conclusion

CSX is reducing dependency over coal and focusing on its intermodal business. Its intermodal business should grow due to declining productivity of many truck load carriers. Also on completion of its National Gateway initiative, the company's 95% of intermodal traffic will move on double stack lanes. Double stack trains are more fuel-efficient and will improve CSX's cost-efficiency.

Transporting crude by rail is another growing business for the company, especially transportation from the Bakken region to East Coast refineries since buying Bakken oil is more profitable for refineries than importing Brent.

The company has given guidance for the next two years that its EPS will increase at the rate of 10% to 15% per year. Considering growth prospects of its intermodal business and opportunities in transporting crude by rail, CSX should achieve its target and is a good stock to keep in a portfolio.

Source: CSX: Offsetting Coal Weakness With Expansion Of Other Businesses

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)

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