Railroads Gain on Coal Shipping Rebound From Record Low: Freight
Railroads in the U.S. such as Union Pacific Corp. (UNP) and Burlington Northern Santa Fe may be rolling past the record slump in coal volume as costlier natural gas and summer weather rekindle demand from the nation’s power plants.
The seven largest railroads hauled 106,728 carloads of coal in the week ended April 20, up 22 percent from a record low at the end of 2012, Association of American Railroads data show. With coal accounting for 21 percent of all carloads, the gain helps mend a weak patch for an industry challenged by a decline in coal volumes that began in 2008.
Shipments of coal, the largest source of energy for electrical power generation around the world, slumped at all three of the biggest U.S. railroads last year as utilities began switching to natural gas. Rising natural gas costs, combined with a pickup in the economy and forecasts for a warmer summer, indicate the hit to rail revenue from coal is dissipating.
“The worst has passed,” said Nathaniel Gabriel, an industrials analyst at Argus Research Co. in New York, who has a buy rating on Union Pacific. “I see Union Pacific as top of the pack in terms of leveraging higher coal volumes into earnings growth as we pull out of this rut.”
Investors have been rewarded. Shares of Union Pacific last week climbed to a record. The Standard & Poor’s Supercomposite Railroads Index, which also includes CSX Corp. (CSX), Norfolk Southern Corp. (NSC), Genesee & Wyoming Inc. (GWR), and Kansas City Southern (KSU), has advanced about 21 percent this year. The broader S&P 500 Index is up 12 percent.
The headwinds are “lightening up pretty considerably” for Omaha, Nebraska-based Union Pacific, the largest U.S. railroad by sales, and Berkshire Hathaway Inc. (BRK/A)’s Burlington Northern, because they predominantly haul coal from the Powder River Basin of Wyoming and Montana, said David Vernon, a Sanford C. Bernstein & Co. analyst in New York.
Central Appalachian coal is among the most expensive to produce and requires higher natural gas prices to be competitive, according to Vernon.
At the same time, railroads will keep building up their ship and road connections, as well as freight businesses, as utilities rely less on coal amid tightening emissions regulations, according to Anthony Hatch, an independent rail analyst based in New York.
“The best-case scenario is stabilization,” Hatch said. “It’s going to be flattish and other things will grow.”
Union Pacific Chief Executive Officer Jack Koraleski said natural gas prices above $4 per million British thermal units may help spur more coal consumption because the fuel is cheaper than gas for electricity production.
“We have some customers that have started shifting more towards coal and away from natural gas at those rates,” Koraleski said in an interview. “Once we get through May and you start to get into the summer air-conditioning season, if we have a normal hot summer across the U.S. we will see an increase in our coal volumes.”
Fort Worth, Texas-based BNSF handled 33 percent of the coal hauled in the U.S. and Canada last year, the biggest share among the seven largest railroads, according to data compiled by Bloomberg. Union Pacific was second with 26 percent, followed by Norfolk Southern at 17 percent and CSX at 16 percent.
In addition to higher natural gas prices, cooler spring weather helped brighten the prospects for coal, according to Arch Coal Inc. (ACI), the fourth-largest U.S. producer of the fuel.
Chief Executive Officer John Eaves said on an April 23 conference call with analysts that coal stockpiles will end the year at near the lowest level since December 2007 amid rising consumption and falling production.
“We’re already seeing evidence that stockpiles are correcting,” Eaves said. “Our customers are no longer calling us to defer tons as they did a year ago.”
Hotter temperatures this summer that prompt American households to use more air conditioning will also boost demand for coal and the railroads that ship it. AccuWeather Inc. expects the western plains through the Rocky Mountains to be above normal, possibly by 3 degrees to 4 degrees Fahrenheit, which is “fairly significant,” Tom Kines, a meteorologist at AccuWeather in State College, Pennsylvania, said by phone.
Coal’s prospects are improving after its share of U.S. power generation fell last year to 34 percent, the lowest since at least 1973, Energy Department data show. Power utilities began shifting away from coal last year after natural gas fell to a decade low and the Environmental Protection Agency moved to cap coal-fired power stations’ emissions.
Coal carloads fell to 87,371 in the last week of 2012, the lowest in at least two decades of data compiled by the railroad association in Washington.
More deliveries “would be pretty significant,” said Justin Long, an analyst at Stephens Inc. in Little Rock, Arkansas. “Coal is a high-margin, good business for all the rails and it’s a significant piece of the business that makes up a good percentage of total revenue.”
Union Pacific is poised to benefit from demand for coal from the Powder River Basin. The area helps make Wyoming the largest U.S. producer of coal, exceeding the next six biggest coal-producing states combined, according to the Energy Department. Wyoming produced 39 percent of the U.S. total in the first quarter, while No. 2 West Virginia and No. 3 Kentucky combined accounted for 22 percent, according to Energy Department data.
“Powder River Basin coal is here to stay,” Union Pacific Chief Financial Officer Robert Knight said on an April 18 conference call with analysts. “Perhaps at lower levels than what we historically experienced, but our assumption is that it’s a normal from here on out.”
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