Remarks by:
Donald W. Seale
Executive Vice President
and Chief Marketing Officer
Norfolk Southern Corporation
NS Volume Growth vs. Market
The changing environment in the freight transportation industry continued to benefit Norfolk Southern during the quarter.�
Our performance is running counter to some of the current economic trends and our metrics continue to outpace the economy, motor carrier growth, and other rail carriers. Since the first quarter of 2001, our volume has risen by 22%, compared to increases of 15% at other U.S. railroads, and 9% for both truck tonnage and low tech IPI.
As intended by the Fed, it appears that higher interest rates are slowing the economy, resulting in GDP growth of 3.3% in the second quarter versus 5.6% in the first quarter. Primary factors in the decline include weaker residential construction, coupled with a lag in consumer spending.� While interest rate increases have been the culprit of the softness in construction, the drop in consumer spending seems to be a reflection of rising gas prices.�
After a spike in April, the ISM index has receded to 53.8, its lowest reading since August 2005. During this rise and fall, manufacturing has continued to expand, and while the pace slowed for the quarter, manufacturing saw a renewed level of activity in June, which bodes well for the second half.
Railway Volume 2006 vs. 2005
Despite the slowing economy, our volume continued to grow during the second quarter, up 4% over the same period last year, as well as 4% for the year-to-date.� We reached a milestone during the quarter and exceeded 2,000,000 units for the first time led by strong gains in Metals/Construction and Intermodal.� A fluid network and continuous improvement in asset utilization enabled us to reach this record volume.
Looking at our markets, Merchandise volume increased 1% for the quarter and 2% for the first six months in spite of declines in our Automotive, Chemicals and Agriculture business.� Metals/Construction set another volume record during the quarter as volume was up 10% for the three months and 11% for the year.
Intermodal results were strong, driven by robust international and truckload business as volume was up 8% for both the quarter and the year.
And Coal volumes were up 2% for the quarter and 3% for the year.�� Strong metallurgical coal demand and utility stockpile rebuilding helped this sector reach a record loading month during May and our second highest quarter ever.
Railway Revenue 4Q 2003 – 2Q 2006
We recorded our eleventh successive quarter of record revenues.� Total revenue reached $2.4 billion for the quarter, increasing $238 million, or 11% over the same period last year.�� With the exception of Agriculture and Intermodal, our remaining business groups reported all-time records for the quarter.� This included Coal, despite the addition of $55 million for the settlement of the coal rate cases in the 2nd quarter of 2005.
For the six months, revenue of $4.7 billion was up $580 million, or 14% versus the first half of 2005.
Revenue Per Unit
For the quarter, we achieved record RPU as well, reaching $1,182 per unit.� Continued strong transportation demand and tight capacity bode well for market-based pricing. Broader fuel surcharge coverage and higher fuel prices also contributed to the gains and represent approximately 60% of the increase in revenue per unit.� We now estimate that 90% of our revenue base is covered by fuel surcharges, up from 85% at the end of 2005.
Merchandise’s revenue per unit of $1,737 was an all-time high.��� Rate increases across the board, change in traffic mix, and fuel related revenue drove this performance.
Intermodal’s revenue per unit reached $605 for the quarter and $600 for the year-to-date.�� The gains resulted from fuel surcharges, longer haul traffic and rate increases somewhat offset by the continued conversion of rail trailers to containers.��
And Coal revenue per car was down $10 for the quarter, but up $78 for the six months.� In 2005, $126 and $64 were added to Coal’s RPU for the 2nd quarter and six months respectively for the effect of the rate cases. Coal RPU, excluding the rate case effect, was up 10%, or $116 per car for the quarter. Finally, a 26% reduction in higher rated export volume reduced revenue per unit in the quarter.
As you already know, our new fuel surcharge program was announced in April and implemented on July 1, which rebased the fuel surcharge applicable to our originated non-Intermodal tariff traffic to $64 per barrel of WTI crude oil and increased the linehaul transportation rates on this traffic by 16.4%.�
Merchandise Revenue & Volume 2006 vs 2005
With respect to our individual markets, merchandise revenue of $1.3 billion for the quarter was an all-time high, exceeding 2nd quarter 2005 by $163 million, or 14% with a 1% gain in volume.� For the year-to-date, revenue reached $2.6 billion, up 16% on a 2% increase in volume.�
Metals/Construction led both revenue and volume growth for our carload business for the quarter.� Revenue reached $304 million for the quarter and $583 million for the year.�� A 37% gain in iron & steel shipments drove this gain. Increased import and domestic inter-mill slab trains during the quarter were the primary components of the increase. World steel demand is projected to remain strong for the remainder of 2006, driven by higher infrastructure investment and continued growth in India and China.� Demand in the United States continues to be strong, as high energy prices are driving demand for plate, pipe, and specialty steels.
Our construction markets were bolstered during the quarter due to strong regional commercial and public construction projects. �Aggregates and cement were up 3% and 19% respectively over last year and could have been higher if not for wet weather that impacted work schedules.���
Paper revenue increased 14% to $224 million for the quarter and $438 million for the six months.� Much of the growth in this sector is occurring within the solid waste markets, which prior to this year was reported in our Chemicals group and more than offset declines in some of our paper segments. �For the remainder of 2006, we expect to see softer demand for paper. The upside here is that as demand lessens, we could see a reduction in order lead time pressures, allowing more shipments to move via rail versus truck.�
Our second quarter lumber shipments were largely flat compared to 2005, while revenue was up 14%. �While the housing market is showing signs of cooling after several years of record levels, we expect the impact to our rail shipments to be less than anticipated housing start declines due to improved car supply and new industrial development projects.
Merchandise Revenue & Volume 2006 vs. 2005
Our remaining Merchandise groups experienced volume softness for the quarter.
Agriculture’s revenue of $239 million for the quarter was up $39 million, or 20%, while volume fell 1%.�� For the year, Agriculture’s growth outpaced our remaining business sectors with a gain of $113 million, or 29%.�
During the quarter, we experienced volume declines in our fertilizer markets, especially imported Canadian potash and phosphate fertilizers due to high energy prices.� Wheat and soybean volumes declined as well.
As previously reported, FEMA temporary housing for Katrina victims has been reported in the Agricultural, Government, and Consumer Products group.� Since September of 2005, we handled 13,750 total carloads, with about half of this volume moving the first four months of 2006.� While this movement concluded in late April, we are currently working with FEMA on other projects in preparation for this year’s storm season.
Our feed mill network continues to ramp up this quarter as our newest project, Columbia Feed Mill at Moneta, SC, became operational and will begin receiving 75-car shuttle trains from Indiana origins in early August.� We also improved asset utilization in the quarter, as our 75-car shuttle trains turned 3 times per month during the quarter compared with 2.5 turns for the six months.
We continue to see opportunities in the alternative fuels market. Louis-Dreyfus broke ground on its 80 million gallon bio-diesel facility in May 2006 at Claypool, IN served by NS and Central States Enterprises has announced a 100 million gallon ethanol plant at Montpelier, IN.
With respect to ethanol, there are numerous plant site projects under consideration on our system, 14 of which have a high probability of being constructed in the next 12 to 18 months and could generate capacity in excess of� 850 million gallons of ethanol.�
Automotive revenue reached $276 million for the quarter, and $538 million for the first half as volume fell 3% for both periods.� Revenue gains were the result of market-based price adjustments, coupled with fuel surcharges.�� Vehicle parts saw a reduction of 16% in volume for the quarter, offsetting a 2% increase in overall vehicle traffic.� Volumes were impacted by the closures of Ford’s assembly plant in St. Louis, MO and GM’s assembly plant in Oklahoma City, OK during the first quarter.
Automotive volume will once again be impacted during the second half of the year, as Ford and GM continue to realign their production capacity with market demand and Ford closes its assembly plant in Atlanta, GA in October.� However, these volume declines at Ford and GM will be partially offset by Mercedes Benz’ expanded Vance, AL assembly complex, as well as the release of new products from Daimler-Chrysler’s Belvedere, IL and Sterling Heights, MI assembly plants.� Our volumes from various international producers, with plants in the U.S., increased by 7% in the quarter and 8% for the year versus 2005. Looking ahead, we expect automotive revenue to continue its growth despite volume declines with Ford and GM.
And Chemicals revenue grew to $268 million for the quarter and $524 for the year on volume declines of 8% and 7% respectively.� With the exception of plastics, our remaining Chemical’s markets experienced volume declines during the quarter, related to plant closings and production cuts.�� Weaker housing and automotive activity coupled with high energy costs are impacting chemical production and demand.
Coal Volume 2006 vs 2005
Turning to our coal results, second quarter revenue of $584 million was up $6 million or 1% over second quarter 2005. Excluding the coal rate settlement of $55 million in the second quarter of 2005, second quarter revenue increased by $61 million, or 12%.�� With record highs in coal volume for the month of May, carloads and tons were both up for the quarter and year with a gain of 2% and 3% respectively over 2005.
Strong demand in the utility business resulted in a gain of 6% for the quarter, which is on pace with the 6% increase year-to-date.� High natural gas prices, coupled with replenishment of utility stockpiles, were the primary drivers of these gains. Looking ahead, natural gas prices and heavier summer demand for electricity should continue to drive strong utility coal loadings.
Metallurgical volume grew 8% for the quarter, down from year-to date growth of 14%, while coke carloads rose 10% in the second quarter, raising the overall growth this year to 8%.� Both increases are attributed to continued strength in steel production and new coke production at Haverhill, Ohio. This favorable trend is generating opportunities to handle new lanes for metallurgical coal and coke at current market prices. We expect this trend to continue over the remainder of the year.
Coal Volume 2006 vs 2005
In our other three coal market segments, we experienced year-over-year declines.�� Export coal was down 26% this quarter, bringing the year-to-date volume for this market 23% below 2005 numbers.� Decreases were attributable to high coal inventory levels at European mills, the closure of foundry coke production at a plant in France, a blast furnace outage at a plant in Brazil, and the departure of Asian demand from the U.S. market.
Iron ore was down 22% for the quarter.� Year-to-date volume for iron ore is down 35%, with the continued effect of the loss of a large movement in the wake of Mittal Steel closing its steel blast furnace in Weirton, West Virginia.
As I just mentioned, for the remainder of 2006, we expect continued strong volumes in our utility and metallurgical business. �The export market is more problematic, although we are cautiously optimistic that second half volumes will expand in the face of lower coal inventories in Europe and stronger steel production.
With respect to capacity, we continue to model and enhance our coal handling network, which in turn improves asset utilization and overall performance. �Revenue per carday for system equipment increased nearly 8% for the first six months and 7% in the 2nd quarter.� Revenue per locomotive day had a good gain as well, up 7.6%, and we continue to see gains in transit.���
Intermodal Volume 2006 vs 2005
Finally, Intermodal continued its solid growth trend, as second quarter revenue of $497 million was our second highest quarterly revenue.� For the year, revenue reached $963 million, up 15% over 2005.�
Volume growth continues to be led by our international business, which was up 16% for both the quarter and the year.� Continued strength in import and export volumes, as well as new business secured during the second half of 2005 are driving the gains. Our volumes associated with East Coast ports grew 10% during the quarter, while West Coast port volumes were up 20%.� Volume growth should remain strong going into the third quarter. However, comparisons will be more difficult due to new business added in the third quarter of 2005.�
We continue to see declines in our domestic IMC business, which is down 9% for the quarter.�� The downsizing of the North American Container Systems (NACS) program and the free-running railroad controlled trailer fleet impacted volume for both the quarter and year.�
Looking at the other side of our domestic business, truckload volume is up 11% for the quarter and 12% for the first half.�� We continue to create joint markets with our truckload customers enabling us to convert traffic from the highway in the face of tight trucking capacity. Truckload increases will continue to mitigate the decline in IMC business, as this sector is better positioned with private equipment fleets to offset the NACS-related equipment decline.
Intermodal Terminal Expansions
Finally, we continue to enhance our Intermodal network and capacity with terminal and service improvements.� I mentioned some of the capacity and terminal expansion projects in my April report.�� Our new Louisville,KY intermodal terminal opens next month and will serve container traffic moving over Detroit, Kansas City and Chicago destined to this market. Expansions at Austell, Georgia, Chicago-Landers, Cleveland-Maple Heights, and Croxton, NJ should also be completed by the end of this year.
In summary, our diverse portfolio of business presents solid opportunity for growth going forward, despite the winds of economic change and uncertainty brought about by rising interest rates and energy prices.
In times of high fuel prices, rail, more than ever is the mode of choice for efficient and environmentally sound transportation, and we plan to continue to improve our service and capacity to realize this opportunity at market prices that reflect the overall value of our service. Thank you.
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