First Quarter Earnings Presentation
Norfolk, VA - April 23, 2008

Questions and Answers

(Question) Tom Wadewitz. Good morning. Ahead of time I apologize if I’m asking something you might have mentioned. There was an overlap in your call with another conference call going on. In any case, on the pricing and the yield side, I wanted to see if you could give a little further comment on what drove up the same-store price. I think you said it was 7%. Then also if you could maybe give the breakdown in the total yield, the 13.9, between price, fuel, and whether there was any meaningful mix impact we should consider.

(Mr. Seale) With respect to the last part of your question, the mix was negligible in the quarter, so no impact to speak of from mix. The yield of 7% was a timing issue with respect to increases that we took in the first quarter that will apply through subsequent quarters over the year. Then, of course, the remainder was some of the index increases that were taken in existing contracts, which is part of an ongoing escalation in contracts that have been negotiated.

(Question) So essentially of the 13.9, it’s 7% price and 6.9% fuel, that’s the right way to look at it?

(Mr. Seale) That’s a good way to look at it.

(Question) And you think the 7%, that continues at that level through the year?

(Mr. Seale) Tom, as I mentioned, you might have missed the last comment that I made in my remarks. We feel we are on track, as we mentioned to you in the fourth quarter of last year, for 2008 to come in at a minimum of 4% for the year as a whole.

(Question) So how do I resolve the difference between – you’re expecting it to really tail off quite a bit later in the year? Or is 4% just a conservative number, because that’s quite a bit below the 7 that you’re talking about in the first quarter.

(Mr. Seale) As we’ve mentioned in the past, it’s not ratable quarter to quarter. We may have some quarters that are stronger, some quarters that are not, from a timing perspective, but we’re still comfortable with the minimum of 4% for the year as a whole, taking into account the timing as we go quarter to quarter.

(Question) Okay. And in terms of the impact of export coal, export coal prices obviously getting dramatic increase, and my understanding is, you re-price the transport price for export coal on an annual basis starting April 1. Is there potential that we would see a further acceleration in your reported yields when we get into second quarter and when you’ve got the impact of export coal pricing coming in as well?

(Mr. Seale)The export coal market is very dynamic, as I’ve discussed. Most of our export coal is under contract, which is confidential with respect to the terms. But, you will continue to see us look at that very closely with respect to the demand equation and the supply equation with respect to transportation. So, Tom, we will continue to move the needle on pricing with export coal, but I cannot comment beyond that, because of contract terms.

(Question) I mean, we’re not talking about a specific contract. Is the logic that coal prices are up a lot, so you can take advantage and have some increase in your transport contract? Is that a fair way to look at it, or am I missing something?

(Mr. Seale)I don’t want to comment on our pricing strategy with respect to exports. But you know the worldwide coal market is tight, and with the devaluation of the dollar we’ve got some very strong demand in Europe and in Asia for U.S. coals. And we’re supporting that with our coal shippers, and as we negotiate our contracts, we take all of that into account, because we do price to the market.

(Question) Okay. On the purchased services, there was some meaningful improvement as a percent of revenue in that line. Again, I apologize if you already mentioned this, but can you tell us what the driver was and whether we should view that as an impact that would likely continue over the next couple quarters?

(Mr. Squires) Yes. The biggest factor there in the combined purchased services and rents was, first, lower equipment rents, then on the services side, we had fewer third-party freight car repairs. That was offset by increased materials expense on the materials and other side. And then, in addition, we had lower traffic volumes, and there is a volumetric element to the purchased services as well, for example, intermodal lifts. That was the reason for the decrease there.

(Mr. Moorman) Tom, to give you a little more color just on the freight car repair side and the material side, we’re looking across the year at freight car programs that are about the same as last year’s. We don’t have any increases in them, but we do plan on maintaining the fleet. We’ll clearly have some inflation built into that. As you heard, we saw some of that the first quarter. So it won’t be purely ratable in terms of third-party repairs or material purchases, but we’re looking at programs, particularly on the car side, that look about like last year’s.

(Question) Okay. Good. Thank you for the time. I appreciate it.

(Question) Ed Wolfe. Thanks. Good morning, guys. Couple things. First, just a little bit more clarity on the 7% pricing in the quarter versus the guidance for 4%. I just don’t understand how, if you’re getting pricing on that amount of your business right now, that would change quarter over quarter so quickly. Could you give just a little bit more flavor on that?

(Mr. Seale) As you will recall, in the fourth quarter we had a 9% increase in RPU with a net of 8% after backing out the non-recurring item for automotive. So basically we’ve gone from 8% RPU to 14% RPU. Fuel was higher, and fuel was about half of the 14% gain in RPU, which leaves 7% pure price. And the price was related to the timing of some coal re-pricing, but also some re-pricing in automotive contracts that I mentioned in my prepared remarks, and some other activities where the timing of those increases impacted the quarter and going forward. Now, we may see in subsequent quarters for the rest of the year where we will be above the 4%, or we might be below it, but we’re still comfortable with the overall minimum of four. It could be a little higher than that, or it could be close to being right on that number.

(Question) Don, if you’ve got coal contracts that re-priced in the first quarter, why wouldn’t those stay re-priced with the year-over-year comp and be up seven still?

(Mr. Seale) They will remain for the balance of the year, but we’ve got some other mix and other activities that take place in the subsequent quarters that may not drive the number quite as high as 7% going forward.

(Mr. Moorman) Ed, you will recall that last year from quarter to quarter we had some variability in that, and, in fact, we had one quarter in which our underlying pricing seemed to be below 4%, and we got a lot of questions about that. We can’t always give you a ratable number quarter to quarter, but I think we’re comfortable with what we’re saying right now that we may have a few ups and downs, but for the year, we’re comfortable that we’ll get a minimum of 4%, and if economic conditions and the markets cooperate, hopefully we’ll do better.

(Question) Thanks, Wick. In terms of re-pricing of contracts in ’08, can you go through how many contracts – what percent of the contracts – are going to re-price and which ones haven’t re-priced since ’04, and if any of those took place in first quarter?

(Mr. Seale) Yes, as we mentioned in the past, we’ve got about two-thirds of our total book of revenue under contract, about 67%. And the average duration of those contracts now is in the range of three years, so we have approximately a third of those contracts that will be re-priced each year. The exact number for 2008, Ed, is 28% of our contracts.

(Question) And what percent of that 28 re-priced in the first quarter already, roughly?

(Mr. Seale) In the first quarter, we re-priced about half of that 28%.

(Question) Jim, after four quarters of operating expenses excluding fuel being down, we saw a 2% increase in first quarter – Graniteville settlement – were there any unusual one-time costs in there? How should we think about operating expenses going forward?

(Mr. Squires) We highlighted the $0.02 from the legal settlement net of favorability and claim. Other operating expense changes in the quarter we would not characterize as unusual or one-off, but I think we expect to see a somewhat lower rate of increase in the materials expense column for the rest of the year. We would expect to see, depending on volumes, continued favorability in purchased services and rents. Now, in comp and benefits, the story there was twofold. On the one hand, we had a rise in our stock price in the quarter, and that affects the stock-based compensation piece of things. And then in addition, we had higher earn-outs. The adjustment to stock-based compensation accruals reflects higher earn-out – and that again was really driven by the increase in our stock price in the quarter versus the benchmark S&P 500 upon which we base our total shareholder return component of long-term comp. Then, lastly, we did have wage rate increases in the quarter, the majority of which were scheduled rate increases, and that added to the compensation expense increase as well.

(Question) What was the stock-based comp in dollars impact this quarter versus a year ago?

(Mr. Squires) It was 14 million. It went to 65 million from 51 million in the first quarter 2007. And that was a combination, as I mentioned, of earn-out and stock price increase, about 50/50, and then a small adjustment for other stock-based compensation. Then we had 10 million increase in wage rates.

(Question) Is 39% as good as any for a tax rate going forward?

(Mr. Squires) I think we’re going to see an effective rate throughout the year in the high 30s. Probably 38, 39, somewhere in that vicinity, for the rest of the year would be our expectation.

(Question) Okay. The 18 million, the corporate-owned life insurance, that’s a one-time event, or does some of that carry forward?

(Mr. Squires) What you saw there were changes in the value of marketable securities, which constitute the underlying COLI investments. Those have to be mark-to-market each quarter, because in the quarter we saw a 5% – roughly 5% – decline in the value of the COLI investments, that, along with some other adjustments in the COLI net number, created the unfavorable variance. And it is a volatile item because of the mark-to-market accounting for it. If you look back, it has fluctuated over the years.

(Mr. Moorman) It’s a little bigger fluctuation in the first quarter than normal. And another thing, and this has a slight affect on the tax rate, is that it does not have a tax shield. So we are accustomed to seeing a little movement every year – or every quarter – in the COLI, depending on what underlying securities do. This one was larger than we’re accustomed to seeing. We don’t know what the market will do in general, but this is certainly not something we’re expecting to see on a continuing basis.

(Mr. Squires) The other moving part of other income net was the lower interest income, as well. That declined 10 million, and that is a reflection of much lower cash balances this year than we had at this time last year.

(Question)One last question for Don. On the coal side, how sustainable is the 64% growth in export coal? You’re on a run rate I think of 23 million tons.

(Mr. Seale) Ed, obviously, demand, where the dollar is, and coal supply are a big part of this, as well. We’ve handled more coal than this in the past, and we’ve got the capacity at Pier 6 and Pier 5 at Lambert’s Point to ramp up additional capacity. At one point, we handled as much as 40 million tons over Lambert’s Point, but it’s a function of where the dollar is, where other international production is, namely the Australians, South Americans, as well as the Russians, and then just the overall ongoing demand. I don’t anticipate a 30-40 million-ton run rate in the future, because obviously we have coal supply constraints that I don’t believe will support that type of volume increase even if demand remains strong.

(Question) The big question, assuming the demand is there, do you think the supply chain can handle – how much can they handle, do you think? Not just you, but the whole…

(Mr. Seale) I’m comfortable with the supply chain with respect to our capabilities and our port capacity. Obviously we would have to ramp up some additional capacity that’s been mothballed, but we have the capability of doing that. I don’t know if you saw the New York Times this morning, Ed, but on the front page the headline is “50 additional new coal-fired utility plants being built in Europe” because of concern of shortfalls in electrical generation capability and the fact that natural gas is now deemed to be less dependable and very, very expensive in Europe. That’s somewhat of a change when we see that type of activity in Europe. So we could see ongoing demand in Europe for U.S. coal on the steam side as well as the metallurgical side for steel change, and we’re somewhat in the midst of that change right now.

(Question) I thank all of you for all your time. All very helpful.

(Question) John Barnes with BB&T Capital Markets. Good morning, guys. Wick, you guys did a phenomenal job on the cost side. Only 40 basis points of OR degradation year-over-year when you had fuel go up at the pace it did. I’m curious, as volumes begin to rebound – and these are models that have always done a little bit better when you’re pushing a little bit more volume through the system – I don’t mean to be long-winded, but the knock on the company had been you kind of reached a low 70s OR, and it seemed like that was always the hurdle it was tough to get through and get lower than that 72, 71.5, somewhere in that ballpark. Do you feel like the costs that you took out this quarter, and your ability to really perform well on the margin side in the face of higher fuel costs, translates into a much lower OR as volumes begin to recover? Can we see something in a better economy? Can we see a high 60s OR at Norfolk?

(Mr. Moorman) John, you know how we have stayed focused on our OR for a long time in this company, and I think you’ve put your finger on an important point. As we have improved our service, added physical capacity to the network, and really brought our assets up to a level of maintenance that allows us to provide the service we do, we think that we have the ability now as volumes continue to come back and grow, to add additional services at a high level without a significant impact in our cost structure. And I think that kind of operating leverage sets the stage as our growth resumes and economic conditions shifts, as Don pointed out, may drive traffic to the rails even before the rest of the economy starts to come back, and that’s going to allow us, we hope and plan to do some significant things with our operating ratio. It’s tougher the lower you get. There’s just no question about that. But we haven’t lost sight of that, and, I will tell you, our goal is to have an operating ratio with a 6 in front of it. We’re going to keep working hard to get to that goal. I think that we have got the company, and Steve and folks have gotten our operations into a very good place to do that.

(Question) Okay. Very good. In terms of some of the market opportunities that are out there, there’s export coal, and I think I read someplace they’re starting to put a fair amount of investment back into things like Lambert’s Point again. Export coal looks real attractive right now given the dynamics in the marketplace, weak U.S. dollar, things like that, but how do you balance making the necessary investments to support things like export coal where you don’t have a good read into it longer term? I think at the peak you all were, what, doing twice or maybe three times as much export coal as you’re doing today, or a year ago? So how do you balance making those cap ex decisions out with some uncertainty as to what the long-term benefit could be?

(Mr. Moorman) That’s a great question. If you look at our facility, and you’re right, we peaked out through Lambert’s Point at something north of 40 million tons a year. It’s still a great facility. It’s in a very good state of repair. And we can add capacity there, as Don said, very easily. It’s really more a question of ramping up the train service and the crews and the facility rather than having to make significant investments in cap ex. Having said that, we still have to make some investment. We still have to plan ahead. We still have to think about hiring, but one of the things that Don and his team have been trying to do is to really get a handle on what’s this export market look like for the longer term. And I have to say that what we’re hearing from a lot of folks in the coal industry is that this is going to be with us for awhile, and what they’re looking at are things like the new coal plants being built in Europe. They’re looking at the fact that China is not exporting coal any more, as are a couple of other formerly coal-exporting nations. They’re looking at the issues, and these may be shorter term, but they’ve been there for a while, with getting some of the coal out of Australia. And they’re also looking at things like bulk shipping rates. So the more we go into this export boom, the more we think that this really has legs for not just one or two years, but for multiple years. And that will help us as we think about investing.

(Question) Okay. Nice quarter. Thank you for your time.

(Question) William Green with Morgan Stanley. Don, I’m sorry to bring this up one more time, but just in terms of the pricing, is it that you have some fuel rebasing in there as well?

(Mr. Seale) In terms of the 7% that I mentioned, it is pure price.

(Question) Okay. And then in terms of utility stockpiles in your region, how do they look at this point?

(Mr. Seale) We’ve got the northern utilities where generally the stockpiles are lower, and as I mentioned in the remarks, that business was up in the first quarter. We even moved some traffic, some coal from the West to supplement coal supply. In the South, utility stockpiles have been higher. But I can tell you that we have information that those are beginning to come down, and we have some indications that those utilities are coming into the market, seeking coal fairly aggressively, because coal supply later this year could be a very real issue for all utilities as they work to replenish stockpiles. So I think we’re beginning to see the northern utilities work hard to replenish already lower stockpiles, and our southern utilities take a more aggressive approach to seeking sourcing to replenish theirs.

(Question) In terms of, if you exclude coal, and you look at the merchandise and automotive traffic and whatnot, what gives you confidence that you can actually grow volumes for the remainder of the year? Because it seems to me a lot of your other freight compatriots are sort of suggesting this will be tough given the economic environment.

(Mr. Seale) It starts, Bill, with our projects that are coming on-stream. We mentioned those specific projects that we have in our budget, which we know will generate business. But we’re also seeing, even in April, our volumes trend upward. We’re up about 1%. Intermodal has trended positive. We’ve got some positive indicators on the steel market. Business is up year over-year. Our aggregates business – I mentioned the scrubber stone going to utility plants – that’s ramping up. So we’ve got new project-driven volumes that are in the network that we feel will generate the type of year-over-year growth that we’re talking about. And then the wildcard here is the conversion from highway, taking into account $4.25 diesel costs on highway. And we’re seeing some of our intermodal truckload segments within the eastern half of our market in particular – and this is intermodal service involving single-line NS routes within the East – beginning to get traction with respect to new business that’s being converted from highway to rail. So you put all that together, and we still see some up-lift in volume this year.

(Question) How far below do you think your intermodal rates are versus the road?

(Mr. Seale) That is a moving target, Bill, as you know, because as truck costs move that gap widens. So it varies depending upon market segment. That’s something we’re watching very carefully, and we’re going to continue to price our intermodal service to that market.

(Question) Thank you for your help.

(Question)  Ken Hoexter with Merrill Lynch. Good morning. You did a great job on controlling costs this quarter. Just want to understand, you’ve lowered your employee counts now two years in a row. Can you talk about what you target as far as continuing that trend?

(Mr. Moorman) Yes, good morning, Ken. The employee counts have come down a little bit. We’re watching that very carefully. As we’ve discussed before, we have a significant attrition issue facing us over the next few years due to the demographics of our work force. And we have been hiring aggressively, as you know for awhile, but we have some very good models that take traffic levels into account, and as we’ve seen traffic soften, we’ve really started to moderate on our hiring and work that into our plans. If you actually look at our numbers year-over-year, they would be even lower were it not for the fact that our numbers are up on our nonagreement side, our management side, because we’ve brought in a significant number of management trainees year-over-year. I think that’s a smart thing for us to do. I think looking forward in the year, depending, again, on traffic level, we hope that we’ll see the numbers continue to moderate, but moderate slightly. We don’t think that we’re oversized right now, and we’re trying to make sure that we’ve got the right number of people to run the trains and have enough people to run them on time, and that’s the way we’re going to continue to manage.

(Question) Jumping over to your fuel surcharge for a second, can you talk about with the change to the mileage-based program, I know this is a small part, and on the core fuel surcharge how much is WTI versus an on-highway diesel-based method?

(Mr. Seale) Ken, as you know, we have no fuel surcharge in place on our public prices. Everything else is in contract, and I cannot talk about the structure of what we have in our contracts because of the confidentiality. But for all of our originated public prices, we are using market-based pricing to cover all of the components of our costs, plus the overall market opportunity.

(Question) So you can’t even tell – I’m not asking a specific contract in general. You can’t just say if most of your contracts are based on WTI – in other words, are you exposed to crack spreads?

(Mr. Seale) In terms of the basic proxy that we’re using, we continue to use West Texas Intermediate crude oil for our carload business.

(Question) So then you are exposed to crack spreads as they’ve widened.

(Mr. Seale) Yes.

(Question) Okay. Great. Thank you very much.

(Question) David Feinberg with Goldman Sachs. Good morning, gentlemen. I think you touched on this earlier, but I just want to make sure I cover. With regard to your intermodal and merchandise business, where you talked about the outlook for the rest of the year relying on projects coming on-stream, one of the answers to the earlier questions, you mentioned, steel and scrubber stone. Was there anything else we should bear in mind as we look throughout the year?

(Mr. Seale) Certainly I mentioned exports, and in exports we’re continuing to see some new business opportunities emerge from that segment almost monthly. We’re seeing new finished vehicles produced in the U.S. being exported to Eastern Europe, and the market is growing in Eastern Europe with respect to that demand. Machinery is another commodity that we’re seeing very, very strong demand in Europe for exports, and we’re participating in that. So exports in general I think for intermodal as well as merchandise and coal business. Another commodity that I haven’t talked about is grain in containers that are being exported over East Coast ports. That’s another growth opportunity.

(Question) And in order to see that come through, is that just existing business that will be shifting, or do we actually need to see a change in your facility or things like Rickenbacker coming on-line?

(Mr. Seale) No. actually, we have a lot of the infrastructure already in place that enables us to participate in these projects. The scrubber stone is a good example. Generally it’s private equipment leased by a private supplier, not leased by Norfolk Southern. So those arrangements are already in place. Certainly as we open new facilities like Rickenbacker it will have a positive impact with respect to our capacity and our ability to grow intermodal traffic in the Ohio Valley. So those types of projects, which are in our plan, as we open those it enables to us handle more volume.

(Question) Great. Then one follow-up question with regards to legal settlement. I imagine in any given quarter you have a whole host of legal settlements that you may or may not be making. As we look forward, are there any other larger cases that are pending that we should keep an eye on that may affect results as they did this quarter?

(Mr. Moorman) We wouldn’t anticipate anything of the magnitude of the Graniteville issues. You never know, but on a regular run-rate issue, we don’t see these kinds of things.

(Question) Thank you.

(Mr. Moorman) Thank you very much, everyone, for listening in. We appreciate all of your questions, and we look forward to talking to you again in the near future.

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