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Heading into this quarterly earnings season, it was abundantly clear that one of the ugliest groups was inevitably going to be the railroads.
Railroads like CSX (NYSE: CSX) are being crushed by the strong U.S. dollar and low commodity prices – specifically, the carnage taking place in the U.S. coal market. Coal shipments have fallen off a cliff over the past year, as the nation’s electricity utilities increasingly use cheaper natural gas as a source of power.
Sure enough, CSX earnings in the first quarter results were ugly. Revenue missed analyst targets, but the good news, if there is any, is that profits met expectations. That at least was enough for investors to send the stock up 4% on Wednesday.
CSX Earnings Clear a Very Low Hurdle
Heading into earnings, CSX shares had lost one-quarter of their value over the past year. All the railroads are out of favor, due mostly to the collapse in U.S. coal.
Commodities across the board were weak for CSX last quarter. Volume of industrial metals fell 18%, and sales to the agriculture industry declined 10%.
But these declines pale in comparison to what’s happening with coal.
Coal volumes dropped a whopping 31%. Coal rearing its ugly head once again last quarter caused CSX’s total revenue to fall 13% year-over-year, while earnings per share declined 17% from the same quarter in 2015.
The CSX earnings report said the company earned $356 million in profit, or $0.37 per share, on $2.62 billion of revenue. Revenue missed expectations of $2.68 billion, but earnings at least matched analyst forecasts. This was good enough to send the stock higher, as investors probably expected CSX’s quarterly numbers to be even worse than they were.
Unfortunately for CSX, the coal market isn’t expected to recover much at all this year. CSX management expects to ship about 25% less coal in 2016. This is problematic for CSX, which is still heavily involved in coal.
Even though coal revenue collapsed 37% year over year, CSX still generated 15% of its revenue from coal last quarter. That high of an exposure will continue to be a headwind on revenue and earnings going forward.
Cost Cuts, Efficiencies Take Focus
In response to such a poor operating environment, CSX is counting on steep cost cuts and efficiency gains to keep the company going.
Cost cuts were a big reason why CSX surpassed estimates in the first quarter. The company slashed expenses by $270 million in the quarter, and intends even deeper cost cuts in 2016.
Also helping its profits stay afloat was the broader improvement in the U.S. economy. Freight volumes rose 12% in automotive, as auto sales continue to be strong in the United States. CSX’s operating ratio increased 90 basis points last quarter, year-over-year, to 73.1%.
A Potential Value Play
Business conditions are certainly not optimal for CSX. It is still too highly exposed to coal, and CSX’s plan to meet future earnings estimates based on cost cuts is hardly reason to celebrate. Management is banking on efficiencies to keep profit steady.
That being said, there could be some value in the stock.
Shares of CSX trade for just 13 times future earnings per share estimates. This is significantly below the S&P 500 average multiple, and a clear indication that future expectations continue to be very low.
If CSX is successful in squeezing out additional costs, and if the coal market sees even a slight recovery moving forward, CSX stock could reward patient investors. The stock also offers a nearly 3% dividend, so at least shareholders are paid well to wait.
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