UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(X) ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 28, 2012
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
Commission File Number 1-8022 | ||||
CSX CORPORATION | ||||
(Exact name of registrant as specified in its charter) | ||||
Virginia | 62-1051971 | |||
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||
500 Water Street, 15th Floor, Jacksonville, FL | 32202 | (904) 359-3200 | ||
(Address of principal executive offices) | (Zip Code) | (Telephone number, including area code) | ||
Securities registered pursuant to Section 12(b) of the Act: | ||||
Title of each class | Name of exchange on which registered | |||
Common Stock, $1 Par Value | New York Stock Exchange | |||
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yes (X) No ( )
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ( ) No (X)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Yes (X) No ( )
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
Yes (X) No ( )
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. (X)
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. (as defined in Exchange Act Rule 12b-2).
Large Accelerated Filer (X) Accelerated Filer ( ) Non-accelerated Filer ( ) Smaller reporting company ( )
Indicate by check mark whether the registrant is a shell company (as defined in Exchange Act Rule 12b-2).
Yes ( ) No (X)
On June 29, 2012 (which is the last day of the second quarter and the required date to use), the aggregate market value of the Registrant’s voting stock held by non-affiliates was approximately $21 billion (based on the New York Stock Exchange closing price on such date).
There were 1,020,796,630 shares of Common Stock outstanding on January 25, 2013 (the latest practicable date that is closest to the filing date).
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant’s Definitive Proxy Statement (the “Proxy Statement”) to be filed no later than 120 days after the end of the fiscal year with respect to its annual meeting of shareholders scheduled to be held on May 8, 2013.
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CSX CORPORATION | ||||
FORM 10-K | ||||
TABLE OF CONTENTS | ||||
Item No. | Page | |||
PART I | ||||
1. | ||||
2. | ||||
3. | ||||
4. | ||||
PART II | ||||
5. | ||||
6. | ||||
7. | ||||
7A. | ||||
8. | ||||
9. | ||||
9A. | ||||
9B. | ||||
PART III | ||||
10. | ||||
11. | ||||
12. | ||||
13. | ||||
14. | ||||
PART IV | ||||
15. | ||||
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Item 1. Business
CSX Corporation (“CSX”), and together with its subsidiaries (the “Company”), based in Jacksonville, Florida, is one of the nation's leading transportation companies. The Company provides rail-based transportation services including traditional rail service and the transport of intermodal containers and trailers.
The Company’s annual average number of employees was approximately 32,000 in 2012, which includes approximately 27,000 union employees. Most of the Company’s employees provide or support transportation services.
CSX Transportation, Inc.
CSX’s principal operating subsidiary, CSX Transportation, Inc. (“CSXT”), provides an important link to the transportation supply chain through its approximately 21,000 route mile rail network, which serves major population centers in 23 states east of the Mississippi River, the District of Columbia and the Canadian provinces of Ontario and Quebec. It has access to over 70 ocean, river and lake port terminals along the Atlantic and Gulf Coasts, the Mississippi River, the Great Lakes and the St. Lawrence Seaway. The Company’s intermodal business links customers to railroads via trucks and terminals. CSXT also serves thousands of production and distribution facilities through track connections to approximately 240 short-line and regional railroads.
Lines of Business
During 2012, CSXT’s transportation services generated $11.8 billion of revenue and served three primary lines of business:
• | The merchandise business shipped nearly 2.7 million carloads and generated approximately 57% of revenue and 42% of volume in 2012. The Company’s merchandise business is the most diverse and transports aggregates (which includes crushed stone, sand and gravel), metal, phosphate, fertilizer, food, consumer (manufactured goods and appliances), agricultural, automotive, paper and chemical products. |
• | The coal business shipped 1.3 million carloads and accounted for nearly 27% of revenue and 20% of volume in 2012. The Company transports domestic coal to electricity-generating power plants, steel manufacturers and industrial plants as well as export coal to deep-water port facilities. Half of export coal and nearly all of the domestic coal that the Company transports is used for generating electricity. |
• | The intermodal business accounted for approximately 14% of revenue and 38% of volume in 2012. The intermodal line of business combines the superior economics of rail transportation with the short-haul flexibility of trucks and offers a competitive cost advantage over long-haul trucking. Through a network of more than 50 terminals, the intermodal business serves all major markets east of the Mississippi and transports mainly manufactured consumer goods in containers, providing customers with truck-like service for longer shipments. |
Other revenue accounted for approximately 2% of the Company’s total revenue in 2012. This revenue category includes revenue from regional subsidiary railroads, demurrage, revenue for customer volume commitments not met, switching and other incidental charges. Revenue from regional railroads includes shipments by railroads that the Company does not directly operate. Demurrage represents charges assessed when freight cars are held beyond a specified period of time. Switching revenue is primarily generated when CSXT switches cars for a customer or another railroad.
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Other Entities
In addition to CSXT, the Company’s subsidiaries include CSX Intermodal Terminals, Inc. (“CSX Intermodal Terminals”), Total Distribution Services, Inc. (“TDSI”), Transflo Terminal Services, Inc. (“Transflo”), CSX Technology, Inc. (“CSX Technology”) and other subsidiaries. CSX Intermodal Terminals owns and operates a system of intermodal terminals, predominantly in the eastern United States and also performs drayage services (the pickup and delivery of intermodal shipments) for certain CSXT customers and trucking dispatch operations. TDSI serves the automotive industry with distribution centers and storage locations. Transflo connects non-rail served customers to the many benefits of rail by transferring products from rail to trucks. Today, the biggest Transflo markets are chemicals and agriculture, for example minerals and ethanol. CSX Technology and other subsidiaries provide support services for the Company.
CSX’s other holdings include CSX Real Property, Inc., a subsidiary responsible for the Company’s real estate sales, leasing, acquisition and management and development activities. These activities are classified in other income because they are not considered by the Company to be operating activities. Results of these activities fluctuate with the timing of non-operating real estate sales.
Financial Information
See Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations for operating revenue, operating income and total assets for each of the last three fiscal years.
Company History
A leader in freight rail transportation for more than 180 years, the Company’s heritage dates back to the early nineteenth century when The Baltimore and Ohio Railroad Company (“B&O”) – the nation’s first common carrier – was chartered in 1827. Since that time, the Company has built on this foundation to create a railroad that could safely and reliably service the ever-increasing demands of a growing nation.
Since its founding, numerous railroads have combined with the former B&O through merger and consolidation to create what has become CSX. Each of the railroads that combined into the CSX family brought new geographical reach to valuable markets, gateways, cities, ports and transportation corridors.
CSX was incorporated in 1978 under Virginia law. In 1980, the Company completed the merger of the Chessie System and Seaboard Coast Line Industries into CSX. The merger allowed the Company to connect northern population centers and Appalachian coal fields to growing southeastern markets. Later, the Company’s acquisition of key portions of Conrail, Inc. allowed CSXT to link the northeast, including New England and the New York metropolitan area, with Chicago and midwestern markets as well as the growing areas in the southeast already served by CSXT. This current rail network allows the Company to directly serve every major market in the eastern United States with safe, dependable, environmentally responsible and fuel efficient freight transportation and intermodal service.
Competition
The business environment in which the Company operates is highly competitive. Shippers typically select transportation providers that offer the most compelling combination of service and price. Service requirements, both in terms of transit time and reliability, vary by shipper and commodity. As a result, the Company’s primary competition varies by commodity, geographic location and mode of available transportation.
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CSXT’s primary rail competitor is Norfolk Southern Railway, which operates throughout much of the Company’s territory. Other railroads also operate in parts of the Company’s territory. Depending on the specific market, competing railroads and deregulated motor carriers may exert pressure on price and service levels. For further discussion on the risk of competition to the Company, see Item 1A. Risk Factors.
Regulatory Environment
The Company's operations are subject to various federal, state and local laws and regulations generally applicable to businesses in the United States. The railroad operations conducted by the Company's subsidiaries, including CSXT, are subject to the regulatory jurisdiction of the Surface Transportation Board (“STB”), the Federal Railroad Administration (“FRA”), and its sister agency within the U.S. Department of Transportation, the Pipeline and Hazardous Materials Safety Administration (“PHMSA”). Together, FRA and PHMSA have broad jurisdiction over railroad operating standards and practices, including track, freight cars, locomotives and hazardous materials requirements. Additionally, the Transportation Security Administration (“TSA”), a component of the Department of Homeland Security, has broad authority over railroad operating practices that may have homeland security implications.
Although the Staggers Act of 1980 significantly deregulated the rail industry, the STB has broad jurisdiction over rail carriers. The STB regulates routes, fuel surcharges, conditions of service, rates for non-exempt traffic, acquisitions of control over rail common carriers, and the transfer, extension or abandonment of rail lines, among other railroad activities.
In 2008, Congress enacted the Rail Safety Improvement Act (the “RSIA”). The legislation includes a mandate that all Class I freight railroads implement an interoperable positive train control system (“PTC”) by December 31, 2015. Implementation of a PTC system is designed to prevent train-to-train collisions, over-speed derailments, incursions into established work-zone limits, and train diversions onto another set of tracks caused by switches left in wrong positions. In January 2012, the Association of American Railroads ("AAR") advised the FRA on behalf of the industry that a nationwide interoperable PTC network could not be completed by the deadline. In May 2012, the FRA revised its final rule on the design, operational requirements and implementation of PTC technology, and is now re-examining certain additional aspects of the rule in response to rail industry concerns. In August 2012, the FRA filed a report with Congress stating that it also believed that the majority of railroads would not be able to complete PTC implementation by the 2015 deadline. Also in 2012, federal legislation was introduced in both the House of Representatives and the Senate that would, if reintroduced and approved in 2013, delay the PTC implementation deadline of 2015 by three to five years.
PTC must be installed on all main lines with passenger and commuter operations as well as most of those over which toxic-by-inhalation hazardous materials are transported. The Company expects to incur significant capital costs in connection with the implementation of PTC as well as related ongoing operating expenses. CSX currently estimates that the total multi-year cost of PTC implementation will be at least $1.7 billion for the Company. Total PTC spending life-to-date through 2012 was $585 million.
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In July 2012, the STB announced that it would accept comments on a proposal by the National Industrial Transportation League that would require Class I railroads to provide a form of "competitive access" to customers served solely by one railroad. Under this proposal, CSX would be required to allow a competing railroad to access certain customers that are currently solely served by CSX's network.
Also in July 2012, the STB announced proposed changes to its standards and procedures for establishing maximum reasonable rates for rail shippers where there is an absence of effective competition. The proposal includes, among other items, increasing the limits of recovery available under the agency's simplified rate case methodologies and changing the interest rate payable by a carrier that is found to have assessed unreasonable rates when refunds are ordered.
Implementation of either of these two proposals could have a material adverse effect on the Company's financial condition, results of operations and liquidity as well as its ability to invest in enhancing and maintaining vital infrastructure.
For further discussion on regulatory risks to the Company, see Item 1A. Risk Factors.
Other Information
CSX makes available on its website www.csx.com, free of charge, its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports as soon as reasonably practicable after such reports are filed with or furnished to the Securities and Exchange Commission (“SEC”). The information on the CSX website is not part of this annual report on Form 10-K. Additionally, the Company has posted its code of ethics on its website, which is also available to any shareholder who requests it. This Form 10-K and other SEC filings made by CSX are also accessible through the SEC’s website at www.sec.gov.
CSX has included the certifications of its Chief Executive Officer (“CEO”) and the Chief Financial Officer (“CFO”) required by Section 302 of the Sarbanes-Oxley Act of 2002 (“the Act”) as Exhibit 31, as well as Section 906 of the Act as Exhibit 32 to this Form 10-K report. Additionally, on June 5, 2012, CSX filed its annual CEO certification with the New York Stock Exchange (“NYSE”) confirming CSX’s compliance with the NYSE Corporate Governance Listing Standards. The CEO was not aware of any violations of these standards by CSX as of February 19, 2013 (the latest practicable date that is closest to the filing of this Form 10-K). This certification is also included as Exhibit 99 to this Form 10-K.
The information set forth in Item 6. Selected Financial Data is incorporated herein by reference. For additional information concerning business conducted by the Company during 2012, see Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.
Item 1A. Risk Factors
The risks set forth in the following risk factors could have a materially adverse effect on the Company's financial condition, results of operations or liquidity, and could cause those results to differ materially from those expressed or implied in the Company's forward-looking statements. Additional risks and uncertainties not currently known to the Company or that the Company currently does not deem to be material also may materially impact the Company's financial condition, results of operations or liquidity.
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New legislation or regulatory changes could impact the Company's earnings or restrict its ability to independently negotiate prices.
Legislation passed by Congress or new regulations issued by federal agencies can significantly affect the revenues, costs and profitability of the Company's business. For instance, several of the proposals under consideration by the STB could have a significant negative impact on the Company's ability to determine prices for rail services and meet service standards, which could force a reduction in capital spending. In addition, statutes imposing price constraints or affecting rail-to-rail competition could adversely affect the Company's profitability.
Government regulation and compliance risks may adversely affect the Company's operations and financial results.
The Company is subject to the jurisdiction of various regulatory agencies, including the STB, the FRA and other state and federal regulatory agencies for a variety of economic, health, safety, labor, environmental, tax, legal and other matters. New rules or regulations by these agencies could increase the Company's operating costs or reduce operating efficiencies. For example, the RSIA mandated that the installation of an interoperable positive train control system (“PTC”) be completed by December 31, 2015 on main lines that carry certain hazardous materials and on lines that have commuter or passenger operations. In January 2010, the FRA issued its final rule on the design, operational requirements and implementation of the new PTC technology. In 2012, federal legislation was introduced in both the House of Representatives and the Senate that would, if reintroduced and approved in 2013, delay the PTC implementation deadline of 2015 by three to five years. However, even if either the regulatory requirements or the implementation date are further revised, the rule will continue to impose significant new costs on the Company and the rail industry. Noncompliance with these and other applicable laws or regulations could erode public confidence in the Company and can subject the Company to fines, penalties and other legal or regulatory sanctions.
Climate change and other emissions-related legislation and regulation could adversely affect the Company's operations and financial results.
Climate change and other emissions-related legislation and regulation have been proposed and, in some cases adopted, on the federal, state, provincial (Canada) and local levels. These final and proposed laws and regulations take the form of restrictions, caps, taxes or other controls on emissions. In particular, the U.S. Environmental Protection Agency (“EPA”) has issued various regulations targeting emissions, including rules and standards governing emissions from certain stationary sources and from vehicles.
Any of these pending or proposed laws or regulations could adversely affect the Company's operations and financial results by, among other things: (1) reducing coal-fired electricity generation due to mandated emission standards; (2) reducing the consumption of coal as a viable energy resource in the United States; (3) increasing the Company's fuel, capital and other operating costs and negatively affecting operating and fuel efficiencies; and (4) making it difficult for the Company's customers in the U.S. and Canada to produce products in a cost competitive manner (particularly in the absence of similar regulations in countries like India and China). Any of these factors could reduce the amount of traffic the Company handles and have a material adverse effect on the Company's financial condition, results of operations or liquidity.
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Capacity constraints could have a negative impact on service and operating efficiency.
CSXT may experience rail network difficulties related to: (i) increased passenger activities, including high-speed rail, in capacity-constrained areas, or (ii) regulatory changes impacting when CSXT can transport freight or service routes, which could have a negative effect on CSXT's operational fluidity, leading to deterioration of service, asset utilization and overall efficiency.
General economic conditions could negatively affect demand for commodities and other freight.
A decline in general domestic and global economic conditions that affect demand for the commodities and products the Company transports could reduce revenues or have other adverse effects. For example, if the rate of economic growth in Asia slows or if European economies contract, U.S. export coal volume could be adversely impacted resulting in lower revenue for CSX. In the event the Company experiences significant declines in demand for its transportation services with respect to one or more commodities and products, the Company may experience reduced revenue and increased operating costs associated with the storage of locomotives, rail cars and other equipment, workforce adjustments, and other related activities, which could have a material adverse effect on operations, financial condition and liquidity.
Changing dynamics in the U.S. energy markets could negatively impact freight volumes.
Over the past few years, production of natural gas in the U.S. has increased dramatically, which resulted in lower natural gas prices causing a negative impact on CSX. As a result of sustained low natural gas prices, coal-fired power plants have been displaced by natural gas-fired power generation facilities. If natural gas prices remain low, additional coal-fired plants could be displaced, which could further reduce the Company's domestic coal volumes and revenues.
CSXT, as a common carrier by rail, is required by law to transport hazardous materials, which could expose the Company to significant costs and claims.
Under federal regulations, CSXT is required to transport hazardous materials under its common carrier obligation. A train accident involving the transport of hazardous materials could result in significant claims arising from personal injury, property or natural resource damage, environmental penalties and remediation obligations. Such claims, if insured, could exceed existing insurance coverage or insurance may not continue to be available at commercially reasonable rates.
CSXT is also required to comply with regulations regarding the handling of hazardous materials. In November 2008, the TSA issued final rules placing significant new security and safety requirements on passenger and freight railroad carriers, rail transit systems, and facilities that ship hazardous materials by rail. Noncompliance with these rules can subject the Company to significant penalties and could be a factor in litigation arising out of a train accident. Finally, legislation preventing the transport of hazardous materials through certain cities could result in network congestion and increase the length of haul for hazardous substances, which could increase operating costs, reduce operating efficiency or increase the risk of an accident involving the transport of hazardous materials.
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The Company is subject to environmental laws and regulations that may result in significant costs.
The Company is subject to wide-ranging federal, state, provincial (Canada) and local environmental laws and regulations concerning, among other things, emissions into the air, ground and water, the handling, storage, use, generation, transportation and disposal of waste and other materials, the clean-up of hazardous material and petroleum releases, and the health and safety of our employees. If we violate or fail to comply with these laws and regulations, we could be fined or otherwise sanctioned by regulators. We can also be held liable for consequences arising out of human exposure to any hazardous substances for which we are responsible. In certain circumstances, environmental liability can extend to formerly owned or operated properties, leased properties, adjacent properties and properties owned by third parties or Company predecessors, as well as to properties currently owned, leased or used by the Company.
The Company has been, and may in the future, be subject to allegations or findings to the effect that it has violated, or is strictly liable under, environmental laws or regulations, and such violations can result in the Company's incurring fines, penalties or costs relating to the clean-up of environmental contamination. Although the Company believes it has appropriately recorded current and long-term liabilities for known and estimable future environmental costs, it could incur significant costs that exceed reserves or require unanticipated cash expenditures as a result of any of the foregoing. The Company also may be required to incur significant expenses to investigate and remediate known, unknown or future environmental contamination.
The Company relies on the stability and availability of its technology systems to operate its business.
The Company relies on information technology in all aspects of its business. The performance and reliability of the Company's technology systems are critical to its ability to operate and compete safely and effectively. A cybersecurity attack, which is a deliberate theft of data or impairment of information technology systems, or other significant disruption or failure could result in a service interruption, train accident, misappropriation of confidential information, process failure, security breach or other operational difficulties. Such an event could result in increased capital, insurance or operating costs, including increased security costs to protect the Company's infrastructure. Disruption of the Company's information technology systems, even for short periods of time, could have a material adverse effect on the Company.
Disruption of the supply chain could negatively affect operating efficiency and increase costs.
The capital intensive nature and sophistication of core rail equipment (including rolling stock equipment, locomotives, rail, and ties) limits the number of railroad equipment suppliers. If any of the current manufacturers stops production or experiences a supply shortage, CSXT could experience a significant cost increase or material shortage. In addition, a few critical railroad suppliers are foreign and, as such, adverse developments in international relations, new trade regulations, disruptions in international shipping or increases in global demand could make procurement of these supplies more difficult or increase CSXT's operating costs.
Additionally, if a fuel supply shortage were to arise, whether due to the Organization of the Petroleum Exporting Countries (OPEC), other production restrictions, lower refinery outputs, a disruption of oil imports, adverse political developments or otherwise, the Company would be negatively impacted.
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Failure to complete negotiations on collective bargaining agreements could result in strikes and/or work stoppages.
Most of CSX's employees are represented by labor unions and are covered by collective bargaining agreements. The majority of these agreements are bargained for nationally by the National Carriers Conference Committee and negotiated over the course of several years and previously have not resulted in any extended work stoppages. Under the Railway Labor Act's procedures (which include mediation, cooling-off periods and the possibility of Presidential intervention), during negotiations neither party may take action until the procedures are exhausted. If, however, CSX is unable to negotiate acceptable agreements, or if terms of existing agreements are disputed, the employees covered by the Railway Labor Act could strike, which could result in loss of business and increased operating costs as a result of higher wages or benefits paid to union members.
The Company faces competition from other transportation providers.
The Company experiences competition in the form of pricing, service, reliability and other factors from various transportation providers including railroads and motor carriers that operate similar routes across its service area and, to a less significant extent, barges, ships and pipelines. Transportation providers such as motor carriers and barges utilize public rights-of-way that are built and maintained by governmental entities while CSXT and other railroads must build and maintain rail networks largely using internal resources. Any future improvements or expenditures materially increasing the quality or reducing the cost of alternative modes of transportation, or legislation providing for less stringent size or weight restrictions on trucks, could negatively impact the Company's competitive position.
Future acts of terrorism, war or regulatory changes to combat the risk of terrorism may cause significant disruptions in the Company's operations.
Terrorist attacks, along with any government response to those attacks, may adversely affect the Company's financial condition, results of operations or liquidity. CSXT's rail lines or other key infrastructure may be direct targets or indirect casualties of acts of terror or war. This risk could cause significant business interruption and result in increased costs and liabilities and decreased revenues. In addition, premiums charged for some or all of the insurance coverage currently maintained by the Company could increase dramatically or the coverage may no longer be available.
Furthermore, in response to the heightened risk of terrorism, federal, state and local governmental bodies are proposing and, in some cases, have adopted legislation and regulations relating to security issues that impact the transportation industry. For example, the Department of Homeland Security adopted regulations that require freight railroads to implement additional security protocols when transporting hazardous materials. Complying with these regulations could continue to increase the Company's operating costs and reduce operating efficiencies.
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Severe weather or other natural occurrences could result in significant business interruptions and expenditures in excess of available insurance coverage.
The Company's operations may be affected by external factors such as severe weather and other natural occurrences, including floods, fires, hurricanes and earthquakes. As a result, the Company's rail network may be damaged, its workforce may be unavailable, fuel costs may rise and significant business interruptions could occur. In addition, the performance of locomotives and railcars could be adversely affected by extreme weather conditions. Insurance maintained by the Company to protect against loss of business and other related consequences resulting from these natural occurrences is subject to coverage limitations, depending on the nature of the risk insured. This insurance may not be sufficient to cover all of the Company's damages or damages to others and this insurance may not continue to be available at commercially reasonable rates. Even with insurance, if any natural occurrence leads to a catastrophic interruption of service, the Company may not be able to restore service without a significant interruption in operations.
The Company may be subject to lawsuits that could result in significant expenditures.
The Company is subject to various claims and lawsuits, including putative class action litigation alleging violations of antitrust laws. The Company may experience material judgments or incur significant costs to defend existing and future lawsuits. Additionally, existing litigation may suffer adverse developments not currently reflected in the Company's reserve estimates as the ultimate outcome of existing litigation is subject to numerous factors outside of the Company's control. Final judgments or settlement amounts may differ materially from the recorded reserves.
Increases in the number and magnitude of property damage and personal injury claims could adversely affect the Company's operating results.
The Company faces inherent business risk from exposure to occupational and personal injury claims, property damage, including storm damage, and claims related to train accidents. The Company may incur significant costs to defend such claims.
Existing claims may suffer adverse developments not currently reflected in reserve estimates, as the ultimate outcome of existing claims is subject to numerous factors outside of the Company's control. Although the Company establishes reserves and maintains insurance to cover these types of claims, final amounts determined to be due on any outstanding matters may differ materially from the recorded reserves and exceed the Company's insurance coverage.
Item 1B. Unresolved Staff Comments
None.
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Item 2. Properties
The Company’s properties primarily consist of track and its related infrastructure, locomotives and freight cars and equipment. These categories and the geography of the network are described below.
Track and Infrastructure
Serving 23 states, the District of Columbia, and the Canadian provinces of Ontario and Quebec, the CSXT rail network serves, among other markets, New York, Philadelphia and Boston in the northeast and mid-Atlantic, the southeast markets of Atlanta, Miami and New Orleans, and the midwestern cities of St. Louis, Memphis and Chicago.
CSXT’s track structure includes main thoroughfares, connecting terminals and yards (known as mainline track), track within terminals and switching yards, track adjacent to the mainlines used for passing trains, track connecting the mainline track to customer locations and track that diverts trains from one track to another known as turnouts. Total track miles are greater than CSXT’s approximately 21,000 route miles, which reflect the size of CSXT’s network that connects markets, customers and western railroads. At December 2012, the breakdown of track miles was as follows:
Track | ||
Miles | ||
Mainline track | 26,215 | |
Terminals and switching yards | 9,466 | |
Passing sidings and turnouts | 928 | |
Total | 36,609 | |
In addition to its physical track structure, CSXT operates numerous yards and terminals. These serve as the hubs between CSXT and its local customers and as sorting facilities where rail cars often are received, re-sorted and placed onto new outbound trains.
The Company’s ten largest yards and terminals based on annual volume (number of rail cars or intermodal containers processed) are listed below:
Yards and Terminals | Annual Volume (number of units processed) | |
Chicago, IL | 953,312 | |
Waycross, GA | 659,666 | |
Selkirk, NY | 570,290 | |
Willard, OH | 509,736 | |
Cincinnati, OH | 509,483 | |
Indianapolis, IN | 508,819 | |
Hamlet, NC | 486,381 | |
Nashville, TN | 483,469 | |
Louisville, KY | 365,265 | |
Birmingham, AL | 355,257 | |
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Network Geography
CSXT’s operations are primarily focused on four major transportation networks and corridors which are defined geographically and by commodity flows below.
Interstate 90 (I-90) Corridor – This CSXT corridor links Chicago and the Midwest to metropolitan areas in New York and New England. This route, also known as the “waterlevel route,” has minimal hills and grades and nearly all of it has two main tracks (referred to as double track). These superior engineering attributes permit the corridor to support consistent, high-speed intermodal, automotive and merchandise service. This corridor is a primary route for import traffic coming from the far east through western ports moving eastward across the country, through Chicago and into the population centers in the Northeast. The I-90 Corridor is also a critical link between ports in New York, New Jersey, and Pennsylvania and consumption markets in the Midwest. This route carries consumer goods from all three of the Company’s major markets – merchandise, coal and intermodal.
Interstate 95 (I-95) Corridor – The CSXT I-95 Corridor connects Charleston, Jacksonville, Miami and many other cities throughout the Southeast with the heavily populated northeastern cities of Baltimore, Philadelphia and New York. CSXT primarily transports food and consumer products, as well as metals and chemicals along this line. It is the only rail corridor along the eastern seaboard south of the District of Columbia, and provides access to major eastern ports.
Southeastern Corridor – This critical part of the network runs between CSXT’s western gateways of Chicago, St. Louis and Memphis through the cities of Nashville, Birmingham, and Atlanta and markets in the Southeast. The Southeastern Corridor is the premier rail route connecting these key cities, gateways, and markets and positions CSXT to efficiently handle projected traffic volumes of intermodal, automotive and general merchandise traffic. The corridor also provides direct rail service between the coal reserves of the southern Illinois basin and the demand for coal in the Southeast.
Coal Network – The CSXT coal network connects the coal mining operations in the Appalachian mountain region and Illinois basin with industrial areas in the Northeast and Mid-Atlantic, as well as many river, lake, and deep water port facilities. CSXT’s coal network is well positioned to supply utility markets in both the Northeast and Southeast and to transport coal shipments for export outside of the U.S. Half the tons of export coal and nearly all of the domestic coal that the Company transports is used for generating electricity.
See the following page for a map of the CSX Rail Network.
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CSX Rail Network
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Locomotives
CSXT operates more than 4,000 locomotives, of which over 97% are owned by CSXT. Freight locomotives are the power source used primarily to pull trains. Switching locomotives are used in yards to sort railcars so that the right railcar is attached to the right train in order to deliver it to its final destination. Auxiliary units are typically used to provide extra traction for heavy trains in hilly terrain. At December 2012, CSXT’s fleet of owned and long-term leased locomotives consisted of the following types of locomotives:
Locomotives | % | Average Age (years) | |||||||
Freight | 3,650 | 87 | % | 20 | |||||
Switching | 319 | 8 | % | 32 | |||||
Auxiliary Units | 209 | 5 | % | 19 | |||||
Total | 4,178 | 100 | % | 20 | |||||
Equipment
In 2012, the average daily fleet of cars on line consisted of approximately 190,000. At any time over half of the railcars on the CSXT system are not owned or leased by the Company. Examples of these are as follows: railcars owned by other railroads (which are utilized by CSXT), shipper-furnished or private cars (which are generally used only in that shipper’s service) and multi-level railcars used to transport automobiles (which are shared among railroads).
The Company’s revenue generating equipment (either owned or long-term leased) consists of freight cars and containers as described below.
Gondolas – Support CSXT’s metals markets and provide transport for woodchips and other bulk commodities. Some gondolas are equipped with special hoods for protecting products like coil and sheet steel.
Open-top hoppers – Transport heavy dry bulk commodities such as coal, coke, stone, sand, ores and gravel that are resistant to weather conditions.
Box cars – Include a variety of tonnages, sizes, door configurations and heights to accommodate a wide range of finished products, including paper, auto parts, appliances and building materials. Insulated box cars deliver food products, canned goods, beer and wine.
Covered hoppers – Have a permanent roof and are segregated based upon commodity density. Lighter bulk commodities such as grain, fertilizer, flour, salt, sugar, clay and lime are shipped in large cars called jumbo covered hoppers. Heavier commodities like cement, ground limestone and sand are shipped in small cube covered hoppers.
Multi-level flat cars – Transport finished automobiles and are differentiated by the number of levels: bi-levels for large vehicles such as pickup trucks and SUVs and tri-levels for sedans and smaller automobiles.
Flat cars – Used for shipping intermodal containers and trailers or bulk and finished goods, such as lumber, pipe, plywood, drywall and pulpwood.
Containers - Weather-proof boxes used for bulk shipment of freight.
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Other cars on the network include, but are not limited to, refrigerated boxcars for transporting perishable items.
At December 2012, the Company’s owned and long-term leased equipment consisted of the following:
Equipment | Number of Units | % | ||||
Gondolas | 26,432 | 38 | % | |||
Open-top hoppers | 12,226 | 18 | % | |||
Covered hoppers | 10,668 | 15 | % | |||
Multi-level flat cars | 10,456 | 15 | % | |||
Box cars | 8,268 | 12 | % | |||
Flat cars | 1,082 | 2 | % | |||
Other cars | 287 | — | % | |||
Subtotal freight cars | 69,419 | 100 | % | |||
Containers | 17,927 | |||||
Total equipment | 87,346 | |||||
Item 3. Legal Proceedings
Fuel Surcharge Antitrust Litigation
For further details, please refer to Note 7. Commitments and Contingencies of this annual report on Form 10-K.
Item 4. Mine Safety Disclosure
Not Applicable
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Executive Officers of the Registrant
Executive officers of the Company are elected by the CSX Board of Directors and generally hold office until the next annual election of officers. There are no family relationships or any arrangement or understanding between any officer and any other person pursuant to which such officer was elected. As of the date of this filing, the executive officers’ names, ages and business experience are:
Name and Age | Business Experience During Past Five Years |
Michael J. Ward, 62 Chairman, President and Chief Executive Officer | A 35-year veteran of the Company, Ward has served as Chairman, President and Chief Executive Officer of CSX since January 2003. Ward’s distinguished railroad career has included key executive positions in nearly all aspects of the Company’s business, including sales and marketing, operations and finance. |
Fredrik J. Eliasson, 42 Executive Vice President and Chief Financial Officer | Eliasson has served as executive vice president and chief financial officer of CSX and CSXT since January 2012 and is responsible for management and oversight of all financial and strategic planning activities, including accounting, financial planning, tax, treasury and investor relations. During his 17-year tenure with the Company, he has also served as Vice President of Sales and Marketing for CSX's chemicals and fertilizer business, Vice President of Emerging Markets, Vice President of Commercial Finance, and Vice President of Financial Planning and Analysis. |
Oscar Munoz, 54 Executive Vice President and Chief Operating Officer | Munoz has been the executive vice president and chief operating officer of CSX since January 2012. He manages all aspects of the Company's operations across its 21,000 route-mile rail network, including transportation, service design, customer service, engineering, mechanical and technology. During his nine year tenure with the Company, he has also served as CSX’s Executive Vice President and Chief Financial Officer. Munoz brings to the Company more than 25 years of experience from a variety of industries. Before joining CSX in 2003, Munoz served as Chief Financial Officer and Vice President of AT&T Consumer Services. He also has held key executive positions with other consumer products companies, including the Coca-Cola Company and Pepsico Corporation. |
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Name and Age | Business Experience During Past Five Years |
Clarence W. Gooden, 61 Executive Vice President of Sales and Marketing and Chief Commercial Officer | Gooden has been the Executive Vice President and Chief Commercial Officer of CSX and CSXT since April 2004. He is responsible for generating customer revenue, forecasting business trends and developing CSX’s model for future revenue growth. An employee of the Company for 42 years, Gooden has held key executive positions in both operations and sales and marketing. |
Ellen M. Fitzsimmons, 52 Executive Vice President of Law and Public Affairs, General Counsel and Corporate Secretary | Fitzsimmons has been the Executive Vice President of Law and Public Affairs, General Counsel, and Corporate Secretary since December 2003. She serves as the Company’s chief legal officer and oversees all government relations and public affairs activities. During her 21-year tenure with the Company, her broad responsibilities have included key roles in major risk and corporate governance-related areas. |
Lisa A. Mancini, 53 Senior Vice President and Chief Administrative Officer | Mancini has been Senior Vice President and Chief Administrative Officer since January 2009. She is responsible for employee compensation and benefits, labor relations, all employee staffing and development activities, purchasing, real estate, aviation and facilities. She previously served as Vice President-Strategic Infrastructure Initiatives from 2007 to 2009 and, prior to that, Vice President – Labor Relations. Prior to joining CSX in 2003, Mancini served as Chief Operating Officer of the San Francisco Municipal Railway. |
Carolyn T. Sizemore, 50 Vice President and Controller | Sizemore has served as Vice President and Controller of CSX and CSXT since April 2002. She is responsible for financial and regulatory reporting, freight billing and collections, payroll for the Company’s 32,000 employees, accounts payable and various other accounting processes. Sizemore’s responsibilities during her 23-year tenure with the Company have included roles in finance and audit-related areas including a variety of positions in accounting, finance strategies, budgets and performance analysis. |
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Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information
CSX’s common stock is listed on the NYSE, which is its principal trading market, and is traded over-the-counter and on exchanges nationwide. The official trading symbol is “CSX.”
Description of Common and Preferred Stock
A total of 1.8 billion shares of common stock are authorized, of which 1,020,484,683 shares were outstanding as of December 2012. Each share is entitled to one vote in all matters requiring a vote of shareholders. There are no pre-emptive rights, which are privileges extended to select shareholders that allow them to purchase additional shares before other members of the general public in the event of an offering. At January 25, 2013, the latest practicable date, there were 35,517 common stock shareholders of record. The weighted average of common shares outstanding, which was used in the calculation of diluted earnings per share, was approximately 1.0 billion as of December 28, 2012. (See Note 2, Earnings Per Share.)
A total of 25 million shares of preferred stock is authorized, none of which is currently outstanding.
The following table sets forth, for the quarters indicated, the dividends declared and the high and low share prices of CSX common stock.
Quarter | ||||||||||||||||||||
1st | 2nd | 3rd | 4th | Year | ||||||||||||||||
2012 | ||||||||||||||||||||
Dividends | $ | 0.12 | $ | 0.14 | $ | 0.14 | $ | 0.14 | $ | 0.54 | ||||||||||
Common Stock Price | ||||||||||||||||||||
High | $ | 23.71 | $ | 23.02 | $ | 23.49 | $ | 21.76 | $ | 23.71 | ||||||||||
Low | $ | 19.99 | $ | 19.88 | $ | 20.65 | $ | 18.88 | $ | 18.88 | ||||||||||
2011 | ||||||||||||||||||||
Dividends | $ | 0.09 | $ | 0.12 | $ | 0.12 | $ | 0.12 | $ | 0.45 | ||||||||||
Common Stock Price | ||||||||||||||||||||
High | $ | 26.81 | $ | 26.50 | $ | 27.06 | $ | 23.14 | $ | 27.06 | ||||||||||
Low | $ | 21.37 | $ | 24.08 | $ | 17.69 | $ | 17.83 | $ | 17.69 | ||||||||||
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Stock Performance Graph
The cumulative shareholder returns, assuming reinvestment of dividends, on $100 invested at December 31, 2007 are illustrated on the graph below. The Company references the Standard & Poor 500 Stock Index (“S&P 500”), which is a registered trademark of the McGraw-Hill Companies, Inc., and the Dow Jones U.S. Transportation Average Index, which provide comparisons to a broad-based market index and other companies in the transportation industry. As shown in the graph, CSXs five-year stock returns significantly outpaced those of the S&P 500.
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CSX Purchases of Equity Securities
CSX is required to disclose any purchases of its own common stock for the most recent quarter. CSX purchases its own shares for two primary reasons: to further its goals under its share repurchase program and to fund the Company’s contribution required to be paid in CSX common stock under a 401(k) plan which covers certain union employees.
In 2012, CSX repurchased a total of $734 million, or 34 million shares, of common stock from the $2 billion share repurchase program announced in May 2011. As of December 28, 2012, the Company had completed all share repurchases under this program.
Share repurchase activity of $234 million for the fourth quarter 2012 was as follows:
CSX Purchases of Equity Securities for the Quarter | |||||||||||
Fourth Quarter (a) | Total Number of Shares Purchased | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs | |||||||
Beginning Balance | $ | 233,631,506 | |||||||||
October | 460,000 | $ | 21.23 | 460,000 | 223,864,257 | ||||||
November | 10,986,995 | 20.38 | 10,986,995 | — | |||||||
December | — | — | — | — | |||||||
Ending Balance | 11,446,995 | $ | 20.41 | 11,446,995 | $ | — | |||||
(a) Fourth quarter 2012 consisted of the following fiscal periods: October (September 29, 2012 - October 26, 2012), November (October 27, 2012 - November 23, 2012), December (November 24, 2012 - December 28, 2012).
Note: There were no share repurchases during fourth quarter 2012 to fund the Company's contribution to a 401(k) plan that covers certain union employees.
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Item 6. Selected Financial Data
Selected financial data related to the Company’s financial results for the last five fiscal years are listed below.
Fiscal Years | ||||||||||||||||||||||
(Dollars and Shares in Millions, Except Per Share Amounts) | 2012 | 2011 | 2010 | 2009 | 2008 | |||||||||||||||||
Financial Performance | ||||||||||||||||||||||
Revenue | $ | 11,756 | $ | 11,743 | $ | 10,636 | $ | 9,041 | $ | 11,255 | ||||||||||||
Expense | 8,299 | 8,325 | 7,565 | 6,771 | 8,504 | |||||||||||||||||
Operating Income | $ | 3,457 | $ | 3,418 | $ | 3,071 | $ | 2,270 | $ | 2,751 | ||||||||||||
Net Earnings from Continuing Operations (a) | $ | 1,859 | $ | 1,822 | $ | 1,563 | $ | 1,128 | $ | 1,485 | ||||||||||||
Operating Ratio | 70.6 | % | 70.9 | % | 71.1 | % | 74.9 | % | 75.6 | % | ||||||||||||
Earnings Per Share: | ||||||||||||||||||||||
From Continuing Operations, Basic (a) | $ | 1.79 | $ | 1.68 | $ | 1.37 | $ | 0.96 | $ | 1.23 | ||||||||||||
From Continuing Operations, Assuming Dilution (a) | 1.79 | 1.67 | 1.67 | 0.95 | 1.21 | |||||||||||||||||
Average Common Shares Outstanding | 1,038 | 1,083 | 1,143 | 1,176 | 1,204 | |||||||||||||||||
Average Common Shares Outstanding, Assuming Dilution | 1,040 | 1,089 | 1,154 | 1,187 | 1,228 | |||||||||||||||||
Financial Position | ||||||||||||||||||||||
Cash, Cash Equivalents and Short-term Investments | $ | 1,371 | $ | 1,306 | $ | 1,346 | $ | 1,090 | $ | 745 | ||||||||||||
Total Assets | 30,571 | 29,344 | 28,026 | 26,793 | 26,154 | |||||||||||||||||
Long-term Debt | 9,052 | 8,734 | 8,051 | 7,895 | 7,512 | |||||||||||||||||
Shareholders' Equity | 9,002 | 8,468 | 8,700 | 8,768 | 7,985 | |||||||||||||||||
Dividend Per Share | $ | 0.54 | $ | 0.45 | $ | 0.33 | $ | 0.29 | $ | 0.26 | ||||||||||||
Additional Data | ||||||||||||||||||||||
Capital Expenditures (b) | $ | 2,341 | $ | 2,297 | $ | 1,840 | $ | 1,586 | $ | 1,784 | ||||||||||||
Employees -- Annual Averages | 32,120 | 31,344 | 30,066 | 30,202 | 33,348 | |||||||||||||||||
(a) | In 2009, CSX sold the stock of a subsidiary that indirectly owned Greenbrier Hotel Corporation. This sale resulted in net income from discontinued operations of $15 million, or $0.01 per share, in 2009 and a net loss from discontinued operations of $130 million, or $0.11 per share, in 2008. |
(b) | Capital expenditures include investments related to reimbursable public-private partnerships. These investments of $166 million, $102 million and $15 million in 2012, 2011 and 2010, respectively, are projects that are partially or wholly reimbursed to CSX through either government grants or other funding sources such as cash received from a property sale. These reimbursements may not be fully received in a given year; therefore the timing of receipts may differ from the timing of the investment. See the capital expenditures table on page 42 for additional information. |
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Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations
STRATEGIC OVERVIEW
CSX provides rail-based freight transportation services including traditional rail service and the transport of intermodal containers and trailers with its approximately 32,000 dedicated employees. The Company and the rail industry provide customers with access to an expansive and interconnected transportation network that plays a key role in North American commerce and is critical to the economic success and global competitiveness of the United States. This global competitiveness and the expected continued growth in manufacturing is beneficial to the rail industry. Over the long-term, the U.S. demand to move more goods by rail is expected to rise along with the need to reduce highway congestion and greenhouse gas emissions. CSX and freight railroads provide the most environmentally-efficient and economical means to meet this growing demand. CSX can move a ton of freight approximately 450 miles on one gallon of fuel. Shipping freight by rail also alleviates highway congestion. On average, trains are more fuel efficient than trucks as one rail car can move the equivalent of three truckloads.
CSX's network is positioned to reach nearly two-thirds of Americans, who account for the majority of the nation's consumption of goods. Through this network, the Company transports a diverse portfolio of commodities and products to meet the country's needs. These products range from agricultural goods, such as grains, to chemicals, automobiles, metals, building materials, paper, consumer products, and energy sources like coal, ethanol and crude oil. The Company categorizes these products into three primary lines of business: merchandise, intermodal and coal. CSX's transportation solutions connect industries across the United States with each other and with global markets by meeting the transportation needs of port facilities, energy producers, manufacturers, industrial producers, construction companies, farmers and feed mills, wholesalers and retailers and the United States armed forces.
The rebirth of the U.S. automotive industry and the development of new domestic energy sources have led to increased volume in some of CSX's merchandise markets, specifically in shipments of automobiles, frac sand, crude oil and pipe. The recent growth in U.S. manufacturing is largely due to an increase in foreign labor costs, as well as lower domestic energy prices resulting from the increase in the supply of natural gas. These, among other, economic and supply chain factors are encouraging manufacturers to expand or move production back to the United States. The Company continues to position itself to secure volume related to growth in these markets.
Strategic Growth Initiatives
The Company is focusing on three key strategic growth initiatives related to intermodal, export coal and an initiative to enhance customer service quality also known as Total Service Integration. The Company believes these opportunities will allow it to gain additional domestic and international volume, while improving service offerings to its customers in a cost-effective manner.
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Intermodal
The Company's intermodal business is an economical, environmentally-friendly alternative to transporting freight on highways via truck. CSX is capitalizing on this opportunity by building new terminals and increasing network capacity to broaden its market presence in key growth areas. The Company's Northwest Ohio intermodal terminal, which became operational in 2011, is part of CSX's National Gateway initiative discussed below. This high-capacity terminal expands service offerings to customers, improves market access to and from east coast ports and consumption centers and enhances the fluidity of the network. During 2012, the Company completed construction of new intermodal terminals in Louisville, Kentucky and Worcester, Massachusetts and completed major terminal expansion projects in Charlotte, North Carolina and Columbus, Ohio. In addition, the Company began construction on a new intermodal terminal in Winter Haven, Florida this year. These projects further enhance the Company's intermodal offering and support the growth the Company experienced over the last few years.
Export Coal
Economic expansion in China, India and Brazil and other developing countries has generated a growth cycle in export coal demand. Over the long term, demand for coal in these countries is expected to remain high due to rising consumption as they become more urbanized, which is increasing the need for electric power generation and steel production. These increases in global coal demand are likely to be met by shipments from coal producing countries, including the U.S, which has abundant coal deposits. In addition to the Company's ready access to large U.S. coal suppliers and multiple port facilities, CSX continues to enhance the capacity and operating efficiency of its export coal network, which favorably positions the Company to capitalize on this growth opportunity. In the long term, this export coal demand is expected to partially offset declines in domestic utility coal volume that has resulted from low natural gas prices and environmental regulation. Although the Company expects long-term growth in the export coal market, CSX export traffic volume and pricing will be subject to a high degree of volatility as a result of changes in the global economy and competition from foreign coal producers.
Total Service Integration
CSX's Total Service Integration (“TSI”) initiative supports growth through improved service, optimized train size, and increased asset utilization for unit train shipments from origin to destination. Building on this momentum, CSX is now focusing on another initiative to enhance service quality for customers who ship by the carload. This program, TSI Carload, focuses where the customer is impacted most - during the first and last mile of service. These enhancements aim to improve service levels and reliability of rail transportation over other modes of transportation. These improvements to operational processes, customer communication and service are better aligning CSX's operating capabilities with customers' needs and enabling the Company to capitalize on the growth opportunities described above. During 2012, CSX implemented new technology and processes to provide customers with proactive and transparent communications. These tools include real time notifications of departures and work to be completed, proactive alerts for cars that may be delayed and notices for work that will not be performed.
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Public-Private Partnerships
Expanding capacity on U.S. rail networks provides substantial public benefits including job creation, increased business activity at U.S. ports, reduced highway congestion and lower air emissions. Therefore, CSX and its government partners are working jointly to invest in multi-year rail infrastructure projects such as the National Gateway. This initiative is a public-private partnership which will increase intermodal capacity and create substantial environmental and efficiency advantages by clearing key corridors between Mid-Atlantic ports and the Midwest for double-stack intermodal trains.
CSX is engaged in another major partnership initiative with the Commonwealth of Massachusetts to expand freight and commuter rail service. This partnership provided an expanded intermodal terminal footprint, relocation of bulk commodity operations and double-stack intermodal clearance from Worcester to the New York state line. In 2012, CSX sold its corridor between Boston and Worcester to the Commonwealth to allow increased commuter rail service while retaining the right to utilize this corridor for freight service.
CSX entered into a transaction with the state of Florida in 2011 to help alleviate highway congestion through a new commuter rail operation, known as SunRail. CSX sold a portion of its track to the state of Florida for its new commuter rail and will invest the proceeds in additional freight rail capacity and infrastructure within the state.
Balanced Approach to Cash Deployment
CSX remains highly committed to delivering value to shareholders through a balanced approach to deploying cash that includes investments in the business, dividend growth and share repurchases. In 2012, the Company invested $2.3 billion to further enhance the capacity, quality, safety and flexibility of its network. Included in this amount is $166 million of investments related to reimbursable public-private partnerships where reimbursements may not be fully received in a given year. In addition, CSX continues to return value to its shareholders in the form of dividends and share repurchases. The Company has increased its quarterly cash dividend 10 times over the last seven year period which represents a 33 percent compounded annual growth rate. In 2012, CSX completed a $2 billion share repurchase authority that was announced in 2011. While delivering shareholder value through this balanced approach to cash deployment, the Company remains committed to an improving investment grade credit profile.
In summary, these strategic initiatives and long-term investments discussed above provide a foundation for volume growth and productivity improvement, enhanced customer service and continued advancements in the safety and reliability of operations. To continue these types of investments, the Company must be able to operate in an environment in which it can generate adequate returns and drive shareholder value. CSX will continue to advocate for a fair and balanced regulatory environment to ensure that the value of the Company's rail service would be reflected in any potential new legislation or policies.
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2012 HIGHLIGHTS
Operating income increased 1% to $3.5 billion and the operating ratio improved 30 basis points to 70.6%. Both improved on the strength of efficiency gains and resource adjustments.
Fiscal Years | ||||||||||||
(in Thousands) | 2012 | 2011 | 2010 | |||||||||
Volume | 6,409 | 6,476 | 6,384 | |||||||||
(in Millions) | ||||||||||||
Revenue | $ | 11,756 | $ | 11,743 | $ | 10,636 | ||||||
Expense | 8,299 | 8,325 | 7,565 | |||||||||
Operating Income | $ | 3,457 | $ | 3,418 | $ | 3,071 | ||||||
Operating Ratio | 70.6 | % | 70.9 | % | 71.1 | % | ||||||
In 2012, revenue was slightly higher year-over-year despite lower volume. Volume decreased 1% from prior year as lower coal shipments were partially offset by growth in intermodal and automotive volume. Pricing gains and higher fuel recovery drove increases in revenue per unit in all markets.
Expenses were lower when compared to prior year for several reasons. Real estate gains as well as lower incentive compensation and cost savings from crew labor efficiencies and lower volume reduced expenses. These decreases were offset by higher depreciation and inflation-related costs.
For additional information, refer to Results of Operations discussed on pages 33 through 36.
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In addition to the financial highlights described above, the Company measures and reports safety and service performance. The Company strives for continuous improvement in these measures through training, initiatives and investment. For example, the Company's safety and train accident prevention programs rely on broad employee involvement. The programs utilize operating rules training, compliance measurement, root cause analysis and communication that are intended to create a safer environment for employees and the public. Continued capital investment in the Company's assets, including track, bridges, signals, equipment and detection technology also supports safety performance.
The Company routinely collaborates with the FRA and industry organizations as well as federal, state and local governments on the development and implementation of safety programs and initiatives. For example, CSX, Operation Lifesaver, Inc., the U.S. Department of Transportation and other major railroads from across the country have partnered in the Common Sense campaign to reduce the number of injuries and deaths around tracks and trains. In addition to these initiatives, CSXT also has an ongoing public safety program to clear-cut trees and vegetation at public passive highway-rail intersections (crossings with no flashing lights or gates) to improve the public's ability to discern rail hazards.
At CSX, operational success is built on employee commitment to customer service while at the same time maintaining a constant focus on safety. In 2012, both key safety measures improved significantly versus the previous year. The FRA reportable personal injury frequency index improved by 26 percent year over year to a record low of 0.69, showing extraordinary employee dedication to the Company's safety initiative. The reported FRA train accident frequency rate improved 18 percent year over year to 1.98.
Network reliability and service metrics showed strong improvements during 2012. On-time originations improved 24 percent to a record 89 percent, and on-time arrivals improved 29 percent to 80 percent. Average train velocity increased 10 percent to 22.7 miles per hour, while dwell improved 8 percent to 23.7 hours.
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Operating Statistics (Estimated)
Fiscal Years | ||||||||||
2012 | 2011 | Improvement | ||||||||
Safety and | FRA Personal Injury Frequency Index | 0.69 | 0.93 | 26 | % | |||||
Service | ||||||||||
Measurements | FRA Train Accident Rate | 1.98 | 2.41 | 18 | % | |||||
On-Time Train Originations | 89 | % | 72 | % | 24 | % | ||||
On-Time Destination Arrivals | 80 | % | 62 | % | 29 | % | ||||
Dwell | 23.7 | 25.9 | 8 | % | ||||||
Cars-On-Line | 189,994 | 206,432 | 8 | % | ||||||
Train Velocity | 22.7 | 20.6 | 10 | % | ||||||
Increase/ | ||||||||||
(Decrease) | ||||||||||
Resources | Route Miles | 20,741 | 20,821 | — | % | |||||
Locomotives (owned and long-term leased) | 4,178 | 4,126 | 1 | % | ||||||
Freight Cars (owned and long-term leased) | 69,419 | 68,665 | 1 | % | ||||||
Definitions
FRA Personal Injury Frequency Index – Number of FRA-reportable injuries per 200,000 man-hours.
FRA Train Accident Rate – Number of FRA-reportable train accidents per million train-miles.
On-Time Train Originations – Percent of scheduled road trains that depart the origin yard on-time or ahead of schedule.
On-Time Destination Arrivals – Percent of scheduled road trains that arrive at the destination yard on-time to two hours late (30 minutes for intermodal trains).
Dwell – Average amount of time in hours between car arrival at and departure from the yard. It does not include cars moving through the yard on the same train.
Cars-On-Line – An average count of all cars on the network (does not include locomotives, cabooses, trailers, containers or maintenance equipment).
Train Velocity – Average train speed between terminals in miles per hour (does not include locals, yard jobs, work trains or passenger trains).
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Free Cash Flow (Non-GAAP Measure)
Free cash flow is considered a non-GAAP financial measure under SEC Regulation G, Disclosure of Non-GAAP Measures. Management believes that free cash flow is important in evaluating the Company’s financial performance. Free cash flow should be considered in addition to, rather than a substitute for, cash provided by operating activities. Free cash flow is calculated by using net cash from operations and adjusting for property additions and certain other investing activities. As described below, free cash flow before dividends decreased $601 million year over year to $721 million. The primary reasons for the decrease in free cash flow from the previous year are higher payments for income taxes as well as payments related to the ratification of labor agreements and a pension contribution.
The following table reconciles cash provided by operating activities (GAAP measure) to free cash flow (non-GAAP measure).
Fiscal Years | ||||||||||||
2012 | 2011 | 2010 | ||||||||||
(Dollars in Millions) | ||||||||||||
Net cash provided by operating activities | $ | 2,946 | $ | 3,491 | $ | 3,261 | ||||||
Property additions (a) | (2,341 | ) | (2,297 | ) | (1,840 | ) | ||||||
Proceeds from property dispositions | 186 | 240 | 108 | |||||||||
Other investing activities | (70 | ) | (112 | ) | (80 | ) | ||||||
Free Cash Flow (before payment of dividends) | $ | 721 | $ | 1,322 | $ | 1,449 | ||||||
(a) | Property additions include investments related to reimbursable public-private partnerships. These investments of $166 million, $102 million and $15 million in 2012, 2011 and 2010,respectively, are projects that are partially or wholly reimbursed to CSX through either government grants or other funding sources such as cash received from a property sale. These reimbursements may not be fully received in a given year; therefore the timing of receipts may differ from the timing of the investment. |
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FORWARD-LOOKING STATEMENTS
Certain statements in this report and in other materials filed with the SEC, as well as information included in oral statements or other written statements made by the Company, are forward-looking statements. The Company intends for all such forward-looking statements to be covered by the safe harbor provisions for forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and the provisions of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward-looking statements within the meaning of the Private Securities Litigation Reform Act may contain, among others, statements regarding:
• | projections and estimates of earnings, revenues, volumes, rates, cost-savings, expenses, taxes or other financial items; |
• | expectations as to results of operations and operational initiatives; |
• | expectations as to the effect of claims, lawsuits, environmental costs, commitments, contingent liabilities, labor negotiations or agreements on the Company's financial condition, results of operations or liquidity; |
• | management's plans, strategies and objectives for future operations, capital expenditures, dividends, share repurchases, safety and service performance, proposed new services and other matters that are not historical facts, and management's expectations as to future performance and operations and the time by which objectives will be achieved; and |
• | future economic, industry or market conditions or performance and their effect on the Company's financial condition, results of operations or liquidity. |
Forward-looking statements are typically identified by words or phrases such as "will," "should," “believe,” “expect,” “anticipate,” “project,” “estimate,” “preliminary” and similar expressions. The Company cautions against placing undue reliance on forward-looking statements, which reflect its good faith beliefs with respect to future events and are based on information currently available to it as of the date the forward-looking statement is made. Forward-looking statements should not be read as a guarantee of future performance or results and will not necessarily be accurate indications of the timing when, or by which, such performance or results will be achieved.
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Forward-looking statements are subject to a number of risks and uncertainties and actual performance or results could differ materially from those anticipated by any forward-looking statements. The Company undertakes no obligation to update or revise any forward-looking statement. If the Company does update any forward-looking statement, no inference should be drawn that the Company will make additional updates with respect to that statement or any other forward-looking statements. The following important factors, in addition to those discussed in Part II, Item 1A (Risk Factors) and elsewhere in this report, may cause actual results to differ materially from those contemplated by any forward-looking statements:
• | legislative, regulatory or legal developments involving transportation, including rail or intermodal transportation, the environment, hazardous materials, taxation, and initiatives to further regulate the rail industry; |
• | the outcome of litigation, claims and other contingent liabilities, including, but not limited to, those related to fuel surcharge, environmental matters, taxes, shipper and rate claims subject to adjudication, personal injuries and occupational illnesses; |
• | changes in domestic or international economic, political or business conditions, including those affecting the transportation industry (such as the impact of industry competition, conditions, performance and consolidation) and the level of demand for products carried by CSXT; |
• | natural events such as severe weather conditions, including floods, fire, hurricanes and earthquakes, a pandemic crisis affecting the health of the Company's employees, its shippers or the consumers of goods, or other unforeseen disruptions of the Company's operations, systems, property or equipment; |
• | competition from other modes of freight transportation, such as trucking and competition and consolidation within the transportation industry generally; |
• | the cost of compliance with laws and regulations that differ from expectations (including those associated with Positive Train Control implementation) and costs, penalties and operational impacts associated with noncompliance with applicable laws or regulations; |
• | the impact of increased passenger activities in capacity-constrained areas, including potential effects of high speed rail initiatives, or regulatory changes affecting when CSXT can transport freight or service routes; |
• | unanticipated conditions in the financial markets that may affect timely access to capital markets and the cost of capital, as well as management's decisions regarding share repurchases; |
• | changes in fuel prices, surcharges for fuel and the availability of fuel; |
• | the impact of natural gas prices on coal-fired electricity generation; |
• | availability of insurance coverage at commercially reasonable rates or insufficient insurance coverage to cover claims or damages; |
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• | the inherent business risks associated with safety and security, including the availability and vulnerability of information technology, adverse economic or operational effects from actual or threatened war or terrorist activities and any governmental response; |
• | labor and benefit costs and labor difficulties, including stoppages affecting either the Company's operations or customers' ability to deliver goods to the Company for shipment; |
• | the Company's success in implementing its strategic, financial and operational initiatives; |
• | changes in operating conditions and costs or commodity concentrations; and |
• | the inherent uncertainty associated with projecting economic and business conditions. |
Other important assumptions and factors that could cause actual results to differ materially from those in the forward-looking statements are specified elsewhere in this report and in CSX's other SEC reports, which are accessible on the SEC's website at www.sec.gov and the Company's website at www.csx.com. The information on the CSX website is not part of this annual report on Form 10-K.
32
FINANCIAL RESULTS OF OPERATIONS
2012 vs. 2011 Results of Operations
Fiscal Years | |||||||||||||||
2012 | 2011 | $ Change | % Change | ||||||||||||
(Dollars in Millions) | |||||||||||||||
Revenue | $ | 11,756 | $ | 11,743 | $ | 13 | — | % | |||||||
Expense | |||||||||||||||
Labor and Fringe | 3,020 | 3,073 | 53 | 2 | |||||||||||
Materials, Supplies and Other | 2,156 | 2,229 | 73 | 3 | |||||||||||
Fuel | 1,672 | 1,668 | (4 | ) | — | ||||||||||
Depreciation | 1,059 | 976 | (83 | ) | (9 | ) | |||||||||
Equipment and Other Rents | 392 | 379 | (13 | ) | (3 | ) | |||||||||
Total Expense | 8,299 | 8,325 | 26 | — | |||||||||||
Operating Income | $ | 3,457 | $ | 3,418 | $ | 39 | 1 | ||||||||
Interest Expense | (566 | ) | (552 | ) | (14 | ) | (3 | ) | |||||||
Other Income - Net | 73 | 22 | 51 | 232 | |||||||||||
Income Tax Expense | (1,105 | ) | (1,066 | ) | (39 | ) | (4 | ) | |||||||
Net Earnings | $ | 1,859 | $ | 1,822 | $ | 37 | 2 | ||||||||
Earnings Per Diluted Share: | |||||||||||||||
Net Earnings | $ | 1.79 | $ | 1.67 | $ | 0.12 | 7 | % | |||||||
Operating Ratio | 70.6 | % | 70.9 | % | 30 bps | ||||||||||
Volume and Revenue (Unaudited) | |||||||||||||||||||||||||||||||
Volume (Thousands of units); Revenue (Dollars in Millions); Revenue Per Unit (Dollars) | |||||||||||||||||||||||||||||||
Fiscal Years | |||||||||||||||||||||||||||||||
Volume | Revenue | Revenue Per Unit | |||||||||||||||||||||||||||||
2012 | 2011 | % Change | 2012 | 2011 | % Change | 2012 | 2011 | % Change | |||||||||||||||||||||||
Agricultural | |||||||||||||||||||||||||||||||
Agricultural Products | 394 | 424 | (7 | )% | $ | 1,007 | $ | 1,048 | (4 | )% | $ | 2,556 | $ | 2,472 | 3 | % | |||||||||||||||
Phosphates and Fertilizers | 321 | 321 | — | 512 | 490 | 4 | 1,595 | 1,526 | 5 | ||||||||||||||||||||||
Food and Consumer | 100 | 101 | (1 | ) | 273 | 263 | 4 | 2,730 | 2,604 | 5 | |||||||||||||||||||||
Industrial | |||||||||||||||||||||||||||||||
Chemicals | 471 | 462 | 2 | 1,682 | 1,596 | 5 | 3,571 | 3,455 | 3 | ||||||||||||||||||||||
Automotive | 425 | 361 | 18 | 1,154 | 936 | 23 | 2,715 | 2,593 | 5 | ||||||||||||||||||||||
Metals | 263 | 265 | (1 | ) | 635 | 613 | 4 | 2,414 | 2,313 | 4 | |||||||||||||||||||||
Housing and Construction | |||||||||||||||||||||||||||||||
Emerging Markets | 408 | 439 | (7 | ) | 671 | 672 | — | 1,645 | 1,531 | 7 | |||||||||||||||||||||
Forest Products | 286 | 281 | 2 | 722 | 684 | 6 | 2,524 | 2,434 | 4 | ||||||||||||||||||||||
Total Merchandise | 2,668 | 2,654 | 1 | 6,656 | 6,302 | 6 | 2,495 | 2,375 | 5 | ||||||||||||||||||||||
Coal | 1,290 | 1,533 | (16 | ) | 3,190 | 3,709 | (14 | ) | 2,473 | 2,419 | 2 | ||||||||||||||||||||
Intermodal | 2,451 | 2,289 | 7 | 1,594 | 1,434 | 11 | 650 | 626 | 4 | ||||||||||||||||||||||
Other | — | — | — | 316 | 298 | 6 | — | — | — | ||||||||||||||||||||||
Total | 6,409 | 6,476 | (1 | )% | $ | 11,756 | $ | 11,743 | — | % | $ | 1,834 | $ | 1,813 | 1 | % | |||||||||||||||
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2012 vs. 2011 Results of Operations
CSX full year results reflect a 1% year-over-year volume decline as lower coal shipments were partially offset by growth in intermodal and automotive volume. Pricing gains and higher fuel recovery drove increases in revenue per unit in all markets. As a result, total revenue was slightly higher year-over-year.
Merchandise
Agricultural
Agricultural Products - Volume decreased due to reduced shipments of corn and ethanol. Corn shipments for animal feed declined as drought conditions in the Midwest impacted harvest levels and drove corn prices higher. Further contributing to this decline, customers in the Southeast took advantage of lower cost imported grains and a strong local crop, both of which are transported by truck. Ethanol shipments declined as a result of higher corn prices and reduced gasoline demand.
Phosphates and Fertilizers - Volume was flat year-over-year. Fertilizer shipments were lower in the first half of the year as the expectation of moderating prices resulted in delayed purchases by farmers. This decline in the first half was offset by growth in fertilizer in the second half resulting from low river levels that shifted business that traditionally moves via barge to rail. Additionally, producers advanced shipments of fertilizer in the fourth quarter in anticipation of an expected increased application by farmers in 2013.
Food and Consumer - Volume declined year-over-year. Appliance shipments were lower due to intermodal conversions, lower sales incentives by manufacturers and a moderating economy. The decline in appliances was partially offset by growth in refrigerated products due to highway-to-rail conversions.
Industrial
Chemicals - Volume growth was driven by an increase in energy-related markets (that include frac sand, liquid petroleum gas (LPG) and crude oil) due to the increase in shale drilling activity. Additionally, plastics shipments grew to support growth predominately in automotive and packaging.
Automotive - Volume grew as North American light vehicle production increased 17% to meet pent up demand as the average vehicle age in the U.S. reached record highs.
Metals - Volume was slightly lower primarily due to the decline in scrap shipments as a result of lower steel mill utilization rates and lower scrap exports driven by moderating global demand.
Housing and Construction
Emerging Markets - Volume declined due to reduced shipments of aggregates (which include crushed stone, sand and gravel) resulting from the completion of several road construction projects versus the prior year. Additionally, shipments of salt declined in the early part of this year as inventories remained high due to reduced road application during the previous mild winter.
Forest Products - Volume increased in building products due to recovering demand for housing and construction, which was partially offset by a decline in the paper markets affected by electronic media substitution.
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Coal
Shipments of utility coal declined primarily driven by low natural gas prices, which drove displacement of coal at utilities served by CSX. In addition, utility stockpiles remained well above target levels and overall electric generation in the eastern U.S. declined. Utility coal declines were partially offset by higher export shipments driven by increased shipments of U.S. thermal coal. In 2012, CSX shipped 47.8 million tons of export coal.
Intermodal
Intermodal volume increased due to growth in both domestic and international markets. Domestic shipment growth resulted from highway-to-rail conversions and increased demand from both new and existing customers. International growth was driven by a new customer and expanded service offerings primarily enabled by the Northwest Ohio terminal.
Expense
In 2012, total expenses decreased $26 million compared to prior year. Descriptions of each expense category as well as significant year-over-year changes are described below.
Labor and Fringe expenses include employee wages and related payroll taxes, health and welfare costs, pension, other post-retirement benefits and incentive compensation. These expenses decreased $53 million primarily driven by lower incentive compensation expense and crew labor costs. Crew labor costs decreased as volume declined as well as efficiencies gained from management's action to reduce resources. These decreases were partially offset by wage inflation and increased pension and other post-employment benefit expense.
Materials, Supplies and Other expenses consist primarily of contracted services to maintain infrastructure and equipment and for terminal services at automotive facilities as well as professional services. This category also includes costs related to materials, travel, casualty claims, environmental remediation, train accidents, property and sales tax, utilities and other items. Total materials, supplies and other expense decreased by $73 million in 2012. The decrease was primarily driven by the following:
• | Gains recognized increased $102 million year-over-year, primarily related to the additional recognition of the deferred gain from the prior year sale of an operating corridor to the State of Florida of $80 million. |
• | As a result of efficiency initiatives and the decline in volume, the reduction of active locomotives drove a decrease in material and repair costs. |
• | Continued improvement in safety trends lowered casualty expenses. |
• | Although the number of train accidents continued to decline, a few costly derailments more than offset these decreases. |
• | Inflation also partially offset the items above. |
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Fuel expense includes locomotive diesel fuel as well as non-locomotive fuel. This expense is driven by the market price and locomotive consumption of diesel fuel. Fuel expense increased $4 million primarily due to a 4% increase in average price per gallon for locomotive fuel. Average fuel price per gallon increased $0.12 to $3.18 in 2012 versus a year ago. The increase in average fuel price was partially offset by decreased volume and improved network efficiency and fuel saving initiatives.
Depreciation expense primarily relates to recognizing the costs of a capital asset, such as locomotives, railcars and track structure, over its useful life. This expense is impacted primarily by the capital expenditures made each year. Depreciation expense increased $83 million due to a larger asset base related to higher capital spending as well as cycling of a prior year favorable adjustment to asset retirements.
Equipment and Other includes rent paid for freight cars owned by other railroads or private companies, net of rents received by CSXT for use of its equipment. This category of expenses also includes lease expenses for locomotives, railcars, containers and trailers, office and other rentals. These expenses increased $13 million primarily related to higher automotive volume partially offset by cost savings associated with improved asset utilization.
Other
Interest Expense
Interest expense increased $14 million to $566 million primarily due to higher average debt balances partially offset by lower interest rates. The primary use of proceeds from the 2012 debt issuances was for the repayment of outstanding indebtedness due in both 2012 and early 2013 as well as a contribution to the Company's qualified pension plans.
Other Income – Net
Other income - net increased $51 million to $73 million primarily related to a gain on the sale of a non-operating real estate.
Income Tax Expense
Income tax expense increased $39 million to $1.1 billion primarily due to higher earnings during 2012 and the cycling of prior year state income tax related adjustments.
Net Earnings
Net earnings increased $37 million to $1.9 billion and earnings per diluted share increased $0.12 to $1.79 due to the factors mentioned above Lower average shares outstanding also had a positive impact on earnings per diluted share.
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2011 vs. 2010 Results of Operations
Fiscal Years | |||||||||||||||
2011 | 2010 | $ Change | % Change | ||||||||||||
(Dollars in Millions) | |||||||||||||||
Revenue | $ | 11,743 | $ | 10,636 | $ | 1,107 | 10 | % | |||||||
Expense | |||||||||||||||
Labor and Fringe | 3,073 | 2,957 | (116 | ) | (4 | ) | |||||||||
Materials, Supplies and Other | 2,229 | 2,075 | (154 | ) | (7 | ) | |||||||||
Fuel | 1,668 | 1,212 | (456 | ) | (38 | ) | |||||||||
Depreciation | 976 | 947 | (29 | ) | (3 | ) | |||||||||
Equipment and Other Rents | 379 | 374 | (5 | ) | (1 | ) | |||||||||
Total Expense | 8,325 | 7,565 | (760 | ) | (10 | ) | |||||||||
Operating Income | $ | 3,418 | $ | 3,071 | $ | 347 | 11 | ||||||||
Interest Expense | (552 | ) | (557 | ) | 5 | 1 | |||||||||
Other Income - Net | 22 | 32 | (10 | ) | (31 | ) | |||||||||
Income Tax Expense | (1,066 | ) | (983 | ) | (83 | ) | (8 | ) | |||||||
Net Earnings | $ | 1,822 | $ | 1,563 | $ | 259 | 17 | ||||||||
Earnings Per Diluted Share: | |||||||||||||||
Net Earnings | $ | 1.67 | $ | 1.35 | $ | 0.32 | 24 | % | |||||||
Operating Ratio | 70.9 | % | 71.1 | % | 20 bps | ||||||||||
Volume and Revenue (Unaudited) | |||||||||||||||||||||||||||||||
Volume (Thousands of units); Revenue (Dollars in Millions); Revenue Per Unit (Dollars) | |||||||||||||||||||||||||||||||
Fiscal Years (a) | |||||||||||||||||||||||||||||||
Volume | Revenue | Revenue Per Unit | |||||||||||||||||||||||||||||
2011 | 2010 | % Change | 2011 | 2010 | % Change | 2011 | 2010 | % Change | |||||||||||||||||||||||
Agricultural | |||||||||||||||||||||||||||||||
Agricultural Products | 424 | 446 | (5 | )% | $ | 1,048 | $ | 1,056 | (1 | )% | $ | 2,472 | $ | 2,368 | 4 | % | |||||||||||||||
Phosphates and Fertilizers | 321 | 313 | 3 | 490 | 465 | 5 | 1,526 | 1,486 | 3 | ||||||||||||||||||||||
Food and Consumer | 101 | 102 | (1 | ) | 263 | 245 | 7 | 2,604 | 2,402 | 8 | |||||||||||||||||||||
Industrial | |||||||||||||||||||||||||||||||
Chemicals | 462 | 461 | — | 1,596 | 1,485 | 8 | 3,455 | 3,221 | 7 | ||||||||||||||||||||||
Automotive | 361 | 340 | 6 | 936 | 800 | 17 | 2,593 | 2,353 | 10 | ||||||||||||||||||||||
Metals | 265 | 243 | 9 | 613 | 520 | 18 | 2,313 | 2,140 | 8 | ||||||||||||||||||||||
Housing and Construction | |||||||||||||||||||||||||||||||
Emerging Markets | 439 | 418 | 5 | 672 | 615 | 9 | 1,531 | 1,471 | 4 | ||||||||||||||||||||||
Forest Products | 281 | 265 | 6 | 684 | 600 | 14 | 2,434 | 2,264 | 8 | ||||||||||||||||||||||
Total Merchandise | 2,654 | 2,588 | 3 | 6,302 | 5,786 | 9 | 2,375 | 2,236 | 6 | ||||||||||||||||||||||
Coal | 1,533 | 1,573 | (3 | ) | 3,709 | 3,267 | 14 | 2,419 | 2,077 | 17 | |||||||||||||||||||||
Intermodal(b) | 2,289 | 2,223 | 3 | 1,434 | 1,291 | 11 | 626 | 581 | 8 | ||||||||||||||||||||||
Other | — | — | — | 298 | 292 | 2 | — | — | — | ||||||||||||||||||||||
Total | 6,476 | 6,384 | 1 | % | $ | 11,743 | $ | 10,636 | 10 | % | $ | 1,813 | $ | 1,666 | 9 | % | |||||||||||||||
(a) CSX follows a 52/53 week fiscal reporting calendar and 2010 included 53 weeks. The revenue impact for the extra week was $171 million.
(b) In fourth quarter 2011, CSX reduced revenue by $18 million correcting the first nine months of 2011 intermodal revenue on certain interline business. This adjustment is presented in intermodal revenue above and is considered immaterial to the consolidated financial statements.
37
2011 vs. 2010 Results of Operations
CSX full year results reflect positive year-over-year volume and revenue growth as demand for rail service in the markets CSX serves continued to support profitable growth. Ongoing emphasis on pricing above rail inflation, along with higher fuel recovery associated with the increase in fuel prices, drove revenue-per-unit increases in all markets. Fiscal year 2010 results include an extra week of activity as compared to fiscal year 2011.
Volume and Revenue
Merchandise
Agricultural
Agricultural Products – Volume declined as the amount of feed shipments declined as a result of higher corn prices and decreased production from producers of poultry and pork. These reductions were slightly offset by growth in ethanol and increased shipments of soybeans into the Southeast due to low inventories.
Phosphates and Fertilizers – Shipments of domestic fertilizers grew as farmers replenished inventories to improve crop yields as a result of higher anticipated crop prices. Export demand was also strong with recovery in exports to Central and South America after the prior year's drought. Shipments of phosphate rock, which is used to make fertilizer, grew as suppliers are stocking up in anticipation of a strong spring season.
Food and Consumer – Volume decreased as lower appliance shipments resulting from continued weakness in the housing sector was partially offset by strength in truckload conversions of refrigerated products and manufactured goods.
Industrial
Chemicals – Volume was flat as strength in frac sand (used in the extraction of gas and petroleum) resulted from the increase in natural gas drilling. This increase was offset by a reduction in basic chemical markets, like plastics, which experienced weak consumer demand and inventory destocking.
Automotive - Automotive volume grew as North American automotive production increased to meet pent up demand from delayed purchases during the slowed economy over the last few years.
Metals – Volume growth was driven by strong export demand for scrap shipments and higher domestic steel production resulting from strong demand in the automotive and oil and gas sectors for products such as sheet steel and pipe.
Housing and Construction
Emerging Markets – Volume increased primarily driven by improved shipments of aggregates (which include crushed stone, sand and gravel), cement and waste (such as construction and demolition debris) as a result of new distribution facilities and overall market growth related to the improving economy.
Forest Products – Volume increased, despite the weakness in housing-related markets, primarily related to strength in shipments of pulp board and paper used in packaging for consumer products and increased shipments of building products resulting from inventory replenishments.
38
Coal
Shipments of utility coal declined as electrical generation declined in the eastern U.S., natural gas prices remained low and utility stockpiles were above target levels. This decrease was partially offset by higher export shipments driven by greater demand for U.S. coal in Europe, South America and Asia. During 2011, CSX shipped 40.2 million tons of export coal. The increase in revenue per unit was driven by improved yield, positive mix and fuel recovery.
Intermodal
International and domestic shipment growth resulted from expanded service offerings, over-the-road conversions, and service and network enhancements. The increase in revenue per unit was driven by increased fuel recovery, improved yields and favorable traffic mix. This revenue-per-unit increase was partially offset by the impact of switching from a purchased transportation arrangement to a domestic interline program in the prior year. This program, known as UMAX, provides customers with containers for local shipments or transcontinental service provided jointly by CSX and Union Pacific Corporation.
Other
Other revenue increased due to stronger affiliate revenue and higher incidental charges mostly offset by lower benefits for contract volume commitments as compared to the prior year.
Expense
In 2011, total expenses increased $760 million or 10% to $8.3 billion compared to prior year. Descriptions of each expense category as well as significant year-over-year changes are described below.
Labor and Fringe expenses include employee wages and related payroll taxes, health and welfare costs, pension, other post-retirement benefits and incentive compensation. These expenses increased $116 million primarily driven by inflation, increased resource levels and other labor-related costs associated with training focused on service improvements partially offset by lower incentive compensation expense.
Materials, Supplies and Other expenses consist primarily of contracted services to maintain infrastructure and equipment and for terminal services at automotive facilities as well as professional services. This category also includes costs related to materials, travel, casualty claims, environmental remediation, train accidents, property and sales tax, utilities and other items. Total materials, supplies and other expense increased by $154 million in 2011. The increase was primarily driven by the following:
• | Volume-related expenses and inflation increased as a result of higher operating and maintenance costs at automotive facilities, coal piers and intermodal terminals. Additionally, maintenance expense increased due to a higher active count of locomotives in service as compared to prior year. Higher travel costs for train crews and other volume-related expenses also contributed to this increase. |
• | Casualty expenses increased year-over-year primarily due to the prior year benefit of $49 million not repeated in the current year. This benefit was a result of improvements in safety and occupational claim trends. |
39
• | Expense increases were partially offset by approximately $37 million of reduced transportation costs as a result of switching from a purchased transportation agreement to the UMAX domestic interline program in 2010. Additionally, an operating property transaction with the Commonwealth of Massachusetts closed during 2010 and resulted in a $30 million net book loss on a pre-tax basis. |
Fuel expense includes locomotive diesel fuel as well as non-locomotive fuel. This expense is driven by the market price and locomotive consumption of diesel fuel. Fuel expense increased $456 million primarily due to a 26% increase in average price per gallon for locomotive fuel. Average fuel price per gallon increased $0.80 from $2.26 in 2010 to $3.06 in 2011.
Depreciation expense primarily relates to recognizing the costs of a capital asset, such as locomotives, railcars and track structure, over its useful life. This expense is impacted primarily by the capital expenditures made each year. Depreciation expense increased $29 million due to a larger asset base related to higher capital spending partially offset by a multi-year adjustment related to retirements as well as the impact of prior year's additional expense related to the extra week.
Equipment and Other includes rent paid for freight cars owned by other railroads or private companies, net of rents received by CSXT for use of its equipment. This category of expenses also includes lease expenses for locomotives, railcars, containers and trailers, office and other rentals. These expenses increased $5 million primarily due to volume-related expenses partially offset by cost savings associated with improved asset utilization.
Other
Interest Expense
Interest expense decreased $5 million to $552 million primarily due to lower average interest rates offset by higher average debt balances during 2011.
Other Income – Net
Other income - net decreased $10 million to $22 million related to lower real estate sales and increased non-operating expenses.
Income Tax Expense
Income tax expense increased $83 million to $1.1 billion due to higher earnings during 2011 offset by certain state income tax related adjustments compared to a year ago.
Net Earnings
Net earnings increased $259 million to $1.8 billion and earnings per diluted share increased $0.32 to $1.67 in 2011. This increase was primarily due to higher operating income net of income taxes in 2011.
40
LIQUIDITY AND CAPITAL RESOURCES
Liquidity is a company’s ability to generate adequate amounts of cash to meet both current and future needs for obligations as they mature and to provide for planned capital expenditures, including those to implement regulatory and legislative initiatives. In order to have a complete picture of a company’s liquidity, its balance sheet, sources and uses of cash flow and external factors should be reviewed.
Material Changes in the Consolidated Balance Sheets and Significant Cash Flows
Consolidated Balance Sheets
CSX's balance sheet reflects its strong capital base and the impact of CSX's balanced approach in deploying its capital for the benefit of its shareholders, which includes investments in infrastructure, dividend improvement and share repurchases.
Total assets increased $1.2 billion from prior year. Assets increased primarily due to the increase in net properties of $1.1 billion driven by planned capital spending.
Total liabilities and shareholders' equity increased $1.2 billion. Increases were from total net debt activity of $591 million mostly due to additional borrowings; higher deferred income tax liability of $495 million primarily related to the net impact of bonus depreciation on tax accruals; and stronger net earnings of $1.9 billion. Partially offsetting these increases were share repurchases of $734 million, dividends paid of $558 million and a pension plan contribution of $275 million.
Sources of Cash
The Company has multiple sources of cash. First, the Company generates cash from operations. In 2012, the Company generated $2.9 billion of cash from operating activities which decreased $545 million from prior year. This decrease was primarily driven by a contribution to the Company's qualified pension plans and higher payments for income taxes as well as payments related to the ratification of labor agreements in 2012. In 2011, the Company generated $3.5 billion of cash from operating activities which represented a $230 million increase from the prior year, driven by higher earnings.
Second, CSX has access to numerous financing sources including a $1 billion five-year unsecured revolving credit facility that expires in September 2016. As of the date of this filing, the Company has no outstanding balances under this facility. See Note 9, Debt and Credit Agreements for more information.
CSX filed its shelf registration statement with the SEC on February 15, 2013. This shelf registration statement is unlimited as to amount and may be used, subject to market conditions and CSX Board authorization, to issue debt or equity securities at CSX’s discretion. While CSX seeks to give itself flexibility with respect to cash requirements, there can be no assurance that market conditions would permit CSX to sell such securities on acceptable terms at any given time, or at all.
41
Uses of Cash
CSX continued to invest in its business to create long-term value for shareholders. In 2012, net cash used in investing activities was driven by $2.3 billion of property additions, which was consistent with the prior year. In 2011, net cash used in investing activities was also driven by $2.3 billion of property additions which increased $457 million from prior year.
The Company is committed to maintaining and improving its existing infrastructure and to positioning itself for long-term growth through expanding network and terminal capacity. Funds used for property additions are further described below.
Fiscal Years | |||||||||||||
Capital Expenditures (Dollars in Millions) | 2012 | 2011 | 2010 | ||||||||||
Track | $ | 792 | $ | 785 | $ | 777 | |||||||
Bridges, Signals and Other | 429 | 421 | 475 | ||||||||||
Total Infrastructure | 1,221 | 1,206 | 1,252 | ||||||||||
Freight Cars | 288 | 373 | 157 | ||||||||||
Capacity and Commercial Facilities | 218 | 264 | 258 | ||||||||||
Regulatory (including PTC) | 270 | 210 | 133 | ||||||||||
Locomotives | 178 | 142 | 25 | ||||||||||
Public-Private Partnerships - net (a) | 166 | 102 | 15 | ||||||||||
Total Capital Expenditures (a) | 2,341 | 2,297 | 1,840 | ||||||||||
(a) | Total capital expenditures shown above include investments related to reimbursable public-private partnerships. These investments of $166 million, $102 million and $15 million in 2012, 2011 and 2010, respectively, are projects that are partially or wholly reimbursed to CSX through either government grants or other funding sources such as cash received from a property sale. These reimbursements may not be fully received in a given year; therefore the timing of receipts may differ from the timing of the investment. |
Planned capital investments for 2013 are $2.3 billion, including expected spending of approximately $325 million for Positive Train Control ("PTC"). This amount excludes investments related to partially or wholly reimbursable public-private partnerships where reimbursements may not be fully received in a given year. Over half of the 2013 investment will be used to sustain the core infrastructure. The remaining amounts will be allocated to locomotives, freight cars, high return projects that drive growth and productivity such as intermodal terminal capacity and major track expansion along the River Line between northern New Jersey and the Albany, N.Y., region. CSX intends to fund capital investments through cash generated from operations.
Over the long term, the Company expects to incur significant capital costs in connection with the implementation of PTC. CSX estimates that the total multi-year cost of PTC implementation will be at least $1.7 billion. This estimate includes costs for installing the new system along tracks, upgrading locomotives, adding communication equipment and developing new technologies. Total PTC spending life-to-date through 2012 was approximately $585 million.
In addition to capital investments, the Company uses cash for scheduled payments of debt and leases, share repurchases and to pay dividends to shareholders. In 2012, net cash used in financing activities was $668 million, which was a decrease in spending of $745 million. Share repurchases were lower by $830 million and partially offsetting this were higher dividend payments of $78 million as a result of an increase in the quarterly dividend to $0.14 per share in second quarter 2012.
42
In 2011, net cash used in financing activities was $1.4 billion which increased $186 million from the prior year primarily as a result of $1.6 billion of share repurchases partially offset by net debt in 2011. CSX paid dividends of $480 million in 2011, which was $108 million more than prior year. This increase was due to an increase in the quarterly dividend to $0.09 per share at the beginning of 2011 and then to $0.12 in second quarter 2011.
CSX is continually evaluating market and regulatory conditions that could affect the Company’s ability to generate sufficient returns on capital investments. CSX may revise its future estimates for capital spending as a result of changes in business conditions, tax legislation or the enactment of new laws or regulations. Although new legislation or regulations could have a material adverse effect on the Company’s operations and financial performance in the future (see Risk Factors under Item 1A of this Form 10-K), it is too early to predict the manner or severity of such impact.
Liquidity and Working Capital
Currently, CSX is well positioned from a liquidity standpoint. The Company ended the year with $1.4 billion of cash, cash equivalents and short-term investments. CSX has a $1 billion unsecured revolving credit facility backed by a diverse syndicate of banks. This facility expires in September 2016 and as of the date of this filing, the Company has no outstanding balances under this facility. Additionally in 2012, CSX issued a total of $1.1 billion of new long-term debt. CSX uses current cash balances for general corporate purposes, which may include reduction or refinancing of outstanding indebtedness, capital expenditures, working capital requirements, contributions to the Company's qualified pension plan, redemptions and repurchases of CSX common stock and dividends to shareholders. See Note 9, Debt and Credit Agreements.
The Company's $250 million receivables securitization facility has a 364-day term and expires in December 2013. The Company's intention is to continue to renew this facility prior to its expiration. The purpose of this facility is to provide an alternative to commercial paper and a low cost source of short-term liquidity. Under the terms of this facility, CSXT transfers eligible third-party receivables to CSX Trade Receivables, a bankruptcy-remote special purpose subsidiary. A separate subsidiary of CSX services the receivables. Upon transfer, the receivables become assets of CSX Trade Receivables and are not available to the creditors of CSX or any of its other subsidiaries. In the event CSX Trade Receivables draws under this facility, the Company will record an equivalent amount of debt on its consolidated financial statements. As of the date of this filing, the Company has no outstanding balances under this facility.
Working capital can also be considered a measure of a company’s ability to meet its short-term needs. CSX had a working capital surplus of $174 million and $248 million at December 2012 and 2011, respectively. This lower surplus since the prior year is primarily due to reclassification of current portion of long-term debt that will mature within a year This decline was offset by payments made for incentive compensation and other labor and fringe liabilities as well as for short-term debt paid. Also, see sources and uses of cash description above.
The Company’s working capital balance varies due to factors such as the timing of scheduled debt payments and changes in cash and cash equivalent balances as discussed above. Although the Company currently has a surplus, a working capital deficit is not unusual for CSX or other companies in the industry and does not indicate a lack of liquidity. The Company continues to maintain adequate current assets to satisfy current liabilities and maturing obligations when they come due. Furthermore, CSX has sufficient financial capacity, including its revolving credit facility, trade receivable facility and shelf registration statement to manage its day-to-day cash requirements and any anticipated obligations. The Company from time to time accesses the credit markets for additional liquidity.
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Credit Ratings
Credit ratings reflect an independent agency’s judgment on the likelihood that a borrower will repay a debt obligation at maturity. The ratings reflect many considerations, such as the nature of the borrower’s industry and its competitive position, the size of the company, its liquidity and access to capital and the sensitivity of a company’s cash flows to changes in the economy. The two largest rating agencies, Standard & Poor’s Ratings Services (“S&P”) and Moody’s Investors Service (“Moody’s”), use alphanumeric codes to designate their ratings. The highest quality rating for long-term credit obligations is AAA and Aaa for S&P and Moody’s, respectively. A credit rating is not a recommendation to buy, sell or hold securities and may be subject to revision or withdrawal at any time by the assigning rating agency.
The cost and availability of unsecured financing are materially affected by CSX's credit ratings. CSX's credit ratings have improved during 2012. Currently, CSX is rated BBB with a positive outlook by S&P and Baa2 with a stable outlook by Moody's, compared to a rating of BBB with a stable outlook by S&P and Baa3 with a positive outlook by Moody's at December 2011. Ratings of BBB- and Baa3 or better by S&P and Moody’s, respectively, reflect ratings on debt obligations that fall within a band of credit quality considered to be investment grade. If CSX's credit ratings were to decline to below investment grade levels, the Company could experience significant increases in its interest cost for new debt. In addition, a decline in CSX’s credit ratings to below investment grade levels could adversely affect the market’s demand, and thus the Company’s ability to readily issue new debt.
SCHEDULE OF CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following tables set forth maturities of the Company's contractual obligations and other commitments:
Type of Obligation | 2013 | 2014 | 2015 | 2016 | 2017 | Thereafter | Total | ||||||||||||||
(Dollars in Millions) (Unaudited) | |||||||||||||||||||||
Contractual Obligations | |||||||||||||||||||||
Total Debt (See Note 9) | $ | 780 | $ | 527 | $ | 629 | $ | 22 | $ | 631 | $ | 7,243 | $ | 9,832 | |||||||
Interest on Debt | 566 | 529 | 480 | 459 | 437 | 5,860 | 8,331 | ||||||||||||||
Purchase Obligations (See Note 7) | 559 | 406 | 306 | 271 | 252 | 1,887 | 3,681 | ||||||||||||||
Other Post-Employment Benefits (See Note 8) (a) | 56 | 55 | 53 | 51 | 50 | 223 | 488 | ||||||||||||||
Operating Leases - Net (See Note 7) (b) | 45 | 70 | 35 | 32 | 28 | 140 | 350 | ||||||||||||||
Agreements with Conrail (b) | 26 | 26 | 25 | 25 | 24 | 162 | 288 | ||||||||||||||
Public-Private Partnerships (See Note 6) (c) | 146 | 3 | 2 | 2 | 2 | 10 | 165 | ||||||||||||||
Total Contractual Obligations | $ | 2,178 | $ | 1,616 | $ | 1,530 | $ | 862 | $ | 1,424 | $ | 15,525 | $ | 23,135 | |||||||
Other Commitments (d) | $ | 127 | — | — | — | — | — | $ | 127 | ||||||||||||
(a) | Other post-employment benefits include estimated other post-retirement medical and life insurance payments and payments under non-qualified pension plans which are unfunded. No amounts are included for funded pension obligations as no contributions are currently required. |
(b) | Agreements with Conrail represent minimum future lease payments of $282 million under the shared asset area agreements as well as $6 million for freight cars and locomotives (see Note 12, Related Party Transactions). These amounts plus total operating leases-net of $350 million above equals total net lease commitments of $638 million disclosed in Note 7, Commitments and Contingencies. |
(c) | Public-Private Partnerships primarily include contractual commitments to the state of Florida resulting from the sale of a portion of the Company's track. |
(d) | Other commitments of $127 million consisted of surety bonds, letters of credit and uncertain tax positions. Surety bonds of $69 million and letters of credit of $34 million arise from assurances issued by a third-party that CSX will fulfill certain obligations and are typically a contract, state, federal or court requirement. Uncertain tax positions of $24 million which include interest and penalties are all included in year 2013. The year of settlement cannot be reasonably estimated, however, the Company believes at least $3 million of these unrecognized tax benefits will be resolved in the next 12 months. |
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OFF-BALANCE SHEET ARRANGEMENTS
For detailed information about the Company’s guarantees, operating leases and purchase obligations, see Note 7, Commitments and Contingencies.
There are no off-balance sheet arrangements that are reasonably likely to have a material effect on the Company’s financial condition, results of operations or liquidity.
CRITICAL ACCOUNTING ESTIMATES
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires that management make estimates in reporting the amounts of certain assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and certain revenues and expenses during the reporting period. Actual results may differ from those estimates. These estimates and assumptions are discussed with the Audit Committee of the Board of Directors on a regular basis. Consistent with the prior year, significant estimates using management judgment are made for the following areas:
• | casualty, environmental and legal reserves; |
• | pension and post-retirement medical plan accounting; |
• | depreciation policies for assets under the group-life method; and |
• | income taxes. |
Casualty, Environmental and Legal Reserves
Casualty
Casualty reserves represent accruals for personal injury, occupational injury and asbestos claims. During 2010 the Company increased its self-insured retention amount for these claims from $25 million to $50 million per occurrence for claims occurring on or after June 1, 2010. Currently, no individual claim is expected to exceed the Company's self-insured retention amount. In accordance with the Contingencies Topic in the Financial Accounting Standards Board's ("FASB") Accounting Standards Codification ("ASC"), to the extent the value of an individual claim exceeds the self-insured retention amount, the Company would present the liability on a gross basis with a corresponding receivable for insurance recoveries. These reserves fluctuate based upon the timing of payments as well as changes in independent third-party estimates, which are reviewed by management. Actual results may vary from estimates due to the number, type and severity of the injury, costs of medical treatments and uncertainties in litigation.
Most of the claims relate to CSXT unless otherwise noted below. Defense and processing costs, which historically have been insignificant and are anticipated to be insignificant in the future, are not included in the recorded liabilities.
As of December 2012, the Company had $325 million in casualty reserves. See below for details regarding changes in estimate for casualty reserves.
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Critical Accounting Estimates, continued
Personal Injury
Personal injury reserves represent liabilities for employee work-related and third-party injuries. Work-related injuries for CSXT employees are primarily subject to the Federal Employers’ Liability Act (“FELA”). In addition to FELA liabilities, employees of other CSX subsidiaries are covered by various state workers’ compensation laws, the Federal Longshore and Harbor Workers’ Compensation Program or the Maritime Jones Act.
CSXT retains an independent actuarial firm to assist management in assessing the value of personal injury claims. An analysis is performed by the independent actuarial firm quarterly and is reviewed by management. The methodology used by the actuary includes a development factor to reflect growth or reduction in the value of these personal injury claims. It is based largely on CSXT's historical claims and settlement experience.
During 2012 and 2011, there were no significant changes in estimates in personal injury reserves. Adjustments to the reserves are included in materials, supplies and other in the consolidated income statements.
Occupational & Asbestos
Occupational claims arise from allegations of exposures to certain materials in the workplace, such as solvents, soaps, chemicals (collectively referred to as “irritants”) and diesel fuels (from exhaust fumes) or allegations of chronic physical injuries resulting from work conditions, such as repetitive stress injuries, carpal tunnel syndrome and hearing loss.
The Company is also party to a number of asbestos claims by employees alleging exposure to asbestos in the workplace. The heaviest possible exposure for employees resulted from work conducted in and around steam locomotive engines that were largely phased out beginning around the 1950s. Other types of exposures, however, including exposure from locomotive component parts and building materials, continued until these exposures were substantially eliminated by 1985. Additionally, the Company has retained liability for asbestos claims filed against its previously owned international container shipping business. Diseases associated with asbestos typically have long latency periods (amount of time between exposure to a disease and the onset of the disease) which can range from 10 to 40 years after exposure.
Occupational and asbestos claims are analyzed by a third-party actuary or specialist (the "third-party specialist"), respectively, in order to determine the number of unasserted or incurred but not reported (“IBNR”) claims. Analyses of both types of claims are performed by the third-party specialist and reviewed by management. This review is quarterly for occupational claims and annually for asbestos claims. Since exposure to asbestos has been substantially eliminated, this review is completed annually. For asserted occupational and asbestos claims, management reviews quarterly. With the exception of carpal tunnel, management has determined that seven years is the most probable time period in which unasserted claim filings and claim values can be estimated. Carpal tunnel claims use a three-year period to estimate the reserve due to the shorter latency period for these types of injuries.
The third-party specialists analyze CSXT’s historical claim filings, settlement amounts, and dismissal rates to determine future anticipated claim filing rates and average settlement values for occupational and asbestos claims reserves. The potentially exposed population is estimated by using CSX employment records and industry data. From this analysis, the third-party specialists provide an estimate of the IBNR claims liability.
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Critical Accounting Estimates, continued
The estimated future filing rates and estimated average claim values are the most sensitive assumptions for these reserves. A 1% increase or decrease in either the forecasted number of occupational and asbestos IBNR claims or the average claim values would result in approximately a $1 million increase or decrease in the liability recorded for unasserted occupational and asbestos claims.
During 2012 and 2011, there were no significant changes in estimates recorded to adjust occupational or asbestos reserves. Adjustments in reserves are included in materials, supplies and other in the consolidated income statements.
Environmental
The Company is a party to various proceedings related to environmental issues, including administrative and judicial proceedings involving private parties and regulatory agencies. The Company has been identified as a potentially responsible party at approximately 248 environmentally impaired sites. Many of these are, or may be, subject to remedial action under the federal Comprehensive Environmental Response, Compensation and Liability Act of 1980, or CERCLA, also known as the Superfund Law, or similar state statutes. Most of these proceedings arose from environmental conditions on properties used for ongoing or discontinued railroad operations. A number of these proceedings, however, are based on allegations that the Company, or its predecessors, sent hazardous substances to facilities owned or operated by others for treatment, recycling or disposal. In addition, some of the Company’s land holdings were leased to others for commercial or industrial uses that may have resulted in releases of hazardous substances or other regulated materials onto the property and could give rise to proceedings against the Company.
In any such proceedings, the Company is subject to environmental clean-up and enforcement actions under the Superfund Law, as well as similar state laws that may impose joint and several liability for clean-up and enforcement costs on current and former owners and operators of a site without regard to fault or the legality of the original conduct. These costs could be substantial.
In accordance with the Asset Retirement and Environmental Obligations Topic in the ASC, the Company reviews its role with respect to each site identified at least quarterly, giving consideration to a number of factors such as:
• | type of clean-up required; |
• | nature of the Company’s alleged connection to the location (e.g., generator of waste sent to the site or owner or operator of the site); |
• | extent of the Company’s alleged connection (e.g., volume of waste sent to the location and other relevant factors); and |
• | number, connection and financial viability of other named and unnamed potentially responsible parties at the location. |
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Critical Accounting Estimates, continued
As of December 2012, the Company had $88 million in environmental reserves. These recorded liabilities for estimated future environmental costs are undiscounted and include future costs for remediation and restoration of sites as well as any significant ongoing monitoring costs, but exclude any anticipated insurance recoveries. Based on the review process, the Company has recorded amounts to cover contingent anticipated future environmental remediation costs with respect to each site to the extent such costs are estimable and probable. Payments related to these liabilities are expected to be made over the next several years. Environmental remediation costs are included in materials, supplies and other on the consolidated income statements.
Currently, the Company does not possess sufficient information to reasonably estimate the amounts of additional liabilities, if any, on some sites until completion of future environmental studies. In addition, conditions that are currently unknown could, at any given location, result in additional exposure, the amount and materiality of which cannot presently be reasonably estimated. Based upon information currently available, however, the Company believes its environmental reserves are adequate to fund the current remedial actions.
Legal
In accordance with the Contingencies Topic in the ASC, an accrual for a loss contingency is established if information available prior to issuance of the financial statements indicates that it is probable that an asset has been impaired or a liability has been incurred at the date of the financial statements, and the amount of loss can be reasonably estimated. If no accrual is made for a loss contingency because one or both of these conditions are not met, or if an exposure to loss exists in excess of the amount accrued, disclosure of the contingency is made when there is at least a reasonable possibility that a loss or an additional loss may have been incurred.
The Company evaluates all exposures relating to legal liabilities at least quarterly and adjusts reserves when appropriate under the guidance noted above. The amount of a particular reserve may be influenced by factors that include official rulings, newly discovered or developed evidence, or changes in laws, regulations and evidentiary standards.
See Item 3. Legal Proceedings for further discussion of these items.
Pension and Post-retirement Medical Plan Accounting
The Company sponsors defined benefit pension plans principally for salaried, management personnel. The plans provide eligible employees with retirement benefits based predominantly on years of service and compensation rates near retirement. For employees hired in 2003 or thereafter, benefits are determined based on a cash balance formula, which provides benefits by utilizing interest and pay credits based upon age, service and compensation. As of December 2012, the projected benefit obligation for the Company’s pension plans was $3.0 billion. During the first quarter 2012, the Company made a contribution of $275 million to its qualified pension plans, of which $25 million was the required minimum contribution.
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Critical Accounting Estimates, continued
In addition to these plans, the Company sponsors a self-insured post-retirement medical plan and a life insurance plan that provide benefits to full-time, salaried, management employees, hired prior to January 1, 2003, upon their retirement if certain eligibility requirements are met. Prior to 2011, the post-retirement medical plan was partially funded by all participating retirees, with retiree contributions adjusted annually. Beginning in 2011, Medicare-eligible retirees are covered by a health reimbursement arrangement, which is an employer-funded account that can be used for reimbursement of eligible medical expenses. Non-Medicare eligible retirees continue to be covered by the existing self-insured program. The life insurance plan is non-contributory.
For information related to the funded status of the Company's pension and other post-retirement benefit plans, see Note 8, Employee Benefit Plans.
The accounting for these plans is subject to the guidance provided in the Compensation-Retirement Benefits Topic in the ASC. This rule requires that management make certain assumptions relating to the following:
• | discount rates used to measure future obligations and interest expense; |
• | long-term rate of return on plan assets; |
• | salary scale inflation rates; and |
• | other assumptions. |
The Company engages independent, external actuaries to compute the amounts of liabilities and expenses relating to these plans subject to the assumptions that the Company selects. The Company reviews the discount rates, long-term rate of return on plan assets, salary scale inflation rates and other assumptions on an annual basis and makes modifications to the assumptions based on current rates and trends as appropriate.
Discount Rates
Discount rates affect the amount of liability recorded and the interest expense component of pension and post-retirement expense. Discount rates reflect the rates at which pension and other post-retirement benefits could be effectively settled, or in other words, how much it would cost the Company to buy enough high quality bonds to generate cash flow equal to the Company's expected future benefit payments. The Company determines the discount rate based on the market yield as of year end for high quality corporate bonds whose maturities match the plans' expected benefit payments.
The discount rates used by the Company to value its 2012 pension and post-retirement obligations are 3.75% and 3.20%, respectively. For 2011, the discount rate used by the Company to value its pension and post-retirement obligations was 4.75% and 4.25%, respectively. Discount rates may differ for pension and post-retirement benefits due to varying duration of the liabilities for projected payments for each plan. As of December 2012, the estimated duration of pensions and post-retirement benefits is approximately 12 years and 8 years, respectively.
Each year, these discount rates are reevaluated and adjusted using the current market interest rates for high quality corporate bonds to reflect the best estimate of the current effective settlement rates. In general, if interest rates decline or rise, the assumed discount rates will change.
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Critical Accounting Estimates, continued
Long-term Rate of Return on Plan Assets
The expected long-term average rate of return on plan assets reflects the average rate of earnings expected on the funds invested, or to be invested, to provide for benefits included in the projected benefit obligation. In estimating that rate, the Company gives appropriate consideration to the returns being earned by the plan assets in the funds and the rates of return expected to be available for reinvestment as well as the current and projected asset mix of the funds. Management balances market expectations obtained from various investment managers and economists with both market and actual plan historical returns to develop a reasonable estimate of the expected long-term rate of return on assets. As this assumption is long-term, it is adjusted less frequently than other assumptions used in pension accounting. The long-term rate of return on plan assets used by the Company to value its pension obligation was 7.75% and 8% in 2012 and 2011, respectively.
Salary Scale Inflation Rates
Salary scale inflation rates are based on current trends and historical data accumulated by the Company. The Company reviews recent wage increases and management incentive compensation payments over the past five years in its assessment of salary scale inflation rates. The Company used a salary scale rate of 3.75% and 4% to value its 2012 and 2011 pension obligations, respectively.
Other Assumptions
The calculations made by the actuaries also include assumptions relating to health care cost trend rates, mortality rates, turnover and retirement age. These assumptions are based upon historical data, recent plan experience and industry trends and are selected by management.
2013 Estimated Pension and Post-retirement Expense
Net pension and post-retirement benefits expense for 2013 is expected to be approximately $95 million and $29 million, respectively, compared to $81 million and $28 million, respectively, in 2012. The increase in the pension expense is primarily related to additional amortization of the actuarial losses incurred by the pension plan and the decrease in the discount rate (which causes expense to increase), partially offset by the return on discretionary contributions made during 2012.
The following sensitivity analysis illustrates the effect of changes in certain assumptions like discount rates, salaries and health care costs on the 2012 estimated pension and post-retirement expense:
(Dollars in Millions) | Pension | OPEB | ||||||
Discount Rate 1% change | $ | 21 | $ | 2 | ||||
Long-term Rate of Return 1% change | $ | 21 | N/A | |||||
Salary Inflation 1% change | $ | 10 | N/A | |||||
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Critical Accounting Estimates, continued
Depreciation Policies for Assets Utilizing the Group-Life Method
The Company depreciates its rail assets, including main-line track, locomotives and freight cars, using the group-life method of accounting. Assets depreciated under the group-life method comprise over 85% of total fixed assets of $35 billion on a gross basis at December 2012. All other assets of the Company are depreciated on a straight-line basis. The group-life method aggregates assets with similar lives and characteristics into groups and depreciates each of these groups as a whole. When using the group-life method, an underlying assumption is that each group of assets, as a whole, is used and depreciated to the end of its recoverable life.
The Company currently utilizes more than 130 different depreciable asset categories to account for depreciation expense for the railroad assets that are depreciated under the group-life method of accounting. Examples of depreciable asset categories include 18 different categories for crossties due to the different combinations of density classifications and asset types. By utilizing various depreciable categories, the Company can more accurately account for the use of its assets. All assets of the Company are depreciated on a time or life basis.
The Company believes the group-life method of depreciation closely approximates the straight-line method of depreciation. Additionally, due to the nature of most of its assets (e.g., track is one contiguous, connected asset), the Company believes that this is the most effective way to properly depreciate its assets.
Under the group-life method of accounting, the service lives and salvage values for each group of assets are determined by completing periodic depreciation studies and applying management's assumptions regarding the service lives of its properties. A depreciation study (also referred to as a life study) is the periodic review of asset service lives, salvage values, accumulated depreciation, and other related factors for group assets conducted by a third-party specialist, analyzed by the Company’s management and approved by the Surface Transportation Board (“STB”), the regulatory board that has broad jurisdiction over railroad practices. The STB requires depreciation studies be performed for equipment assets every three years and for road (e.g. bridges and signals) and track (e.g., rail, ties and ballast) assets every six years. The Company believes the frequency currently required by the STB provides adequate review of asset service lives and that a more frequent review would not result in a material change due to the long-lived nature of most of the assets.
Changes in asset service lives due to the results of the depreciation studies are applied on a prospective basis and could significantly impact future periods’ depreciation expense, and thus, the Company's results of operations.
There are several factors taken into account during the depreciation study and they include:
• | statistical analysis of historical life and salvage data for each group of property; |
• | statistical analysis of historical retirements for each group of property; |
• | evaluation of current operations; |
• | evaluation of technological advances and maintenance schedules; |
• | previous assessment of the condition of the assets and outlook for their continued use; |
• | expected net salvage to be received upon retirement; and |
• | comparison of assets to the same asset groups with other companies. |
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Critical Accounting Estimates, continued
For retirements or disposals of depreciable rail assets that occur in the ordinary course of business, the asset cost (net of salvage value or sales proceeds) is charged to accumulated depreciation and no gain or loss is recognized. As individual assets within a specific group are retired, resulting gains and losses are recorded in accumulated depreciation. As part of the depreciation study, an assessment of the recorded amount of accumulated depreciation is made to determine if it is deficient (or in excess) of the appropriate amount indicated by the study. Any such deficiency (or excess), including any deferred gains or losses, is amortized as a component of depreciation expense over the remaining service life of the asset group until the next required depreciation study. Since the overall assumption with group-life is that the assets within the group on average have the same service life and characteristics, it is therefore concluded that the deferred gains and losses offset over time.
In the event that large groups of assets are removed from service as a result of unusual acts or sales, resulting gains and losses are recognized immediately. These acts are not considered to be in the normal course of business and are therefore recognized when incurred. Examples of such acts would be the major destruction of assets due to significant storm damage (e.g., major hurricanes), the sale of a rail line segment to another railroad or the disposal of an entire class of assets (e.g., disposal of all refrigerated freight cars).
Recent experience with depreciation studies has resulted in depreciation rate changes which did not materially affect the Company’s annual depreciation expense of $1.1 billion and $1 billion for 2012 and 2011, respectively. A 1% change in the average life of all group-life assets would result in an approximate $10 million change to the Company’s annual depreciation expense. In 2012, the Company completed a depreciation study for its equipment assets and a technical update (an update to the prior depreciation study) for its road and track assets. Additionally, in 2009, the Company completed a depreciation study for its equipment assets. These studies resulted in an annual net reduction in depreciation expense which were not considered material to the consolidated financial statements.
Income Taxes
CSX accounts for income taxes in accordance with the Income Taxes Topic in the ASC that addresses how tax benefits claimed or expected to be claimed on a tax return should be recorded in the financial statements. Under this topic, the Company recognizes the tax benefit from an uncertain tax position only if it is more likely than not that the tax position will be sustained on examination by the taxing authorities based on the technical merits of the position. The tax benefits recognized in the financial statements from such a position are measured based on the largest benefit that has a greater than 50 percent likelihood of being realized upon ultimate resolution.
CSX files a consolidated federal income tax return, which includes its principal domestic subsidiaries. Examinations of the federal income tax returns of CSX have been completed through 2010. The federal income tax return for 2011 currently is under review. During 2012, the Company participated in a contemporaneous Internal Revenue Service (“IRS”) audit of tax year 2012. Management believes an adequate provision has been made for any adjustments that might be assessed. While the final outcome of these matters cannot be predicted with certainty, it is the opinion of CSX management that none of these items will have a material adverse effect on the financial condition, results of operations or liquidity of CSX. An unexpected adverse resolution of one or more of these items, however, could have a material adverse effect on the results of operations in a particular fiscal quarter or fiscal year. As of December 2012, the Company’s uncertain tax positions were $24 million.