CSX sees coal export boom, soft U.S. demand due to cheap gas

CSX Corp. (NYSE:CSX) is seeing boom times on its coal export hauls but faces a few headwinds on the domestic steam coal front due to factors like power generators cutting back coal-fired generation so they can run gas-fired plants with currently cheap natural gas, said CSX officials during a Jan. 24 earnings call.

CSX and Norfolk Southern Corp. are the two major railroads in the eastern U.S., with CSX moving export coal through various facilities, including terminals around Norfolk, Va. Among those representing CSX on the earnings call were Clarence Gooden, Chief Sales and Marketing Officer, and Cindy Sanborn, Chief Transportation Officer.

Coal volumes, which account for 23% of the total volume for the railroad, declined 8% in the fourth quarter of 2011, compared to the year-ago quarter, and 3% for all of 2011 as compared to all of 2010. That reflects strength in exports that was more than offset by continued softness in demand from electric utilities. Note that the fourth quarter of 2010 includes an extra, fourteenth week, and when coal volumes are equalized between those comparable quarters on a 13-week basis for each quarter, the quarter-to-quarter coal volumes drop was only 3%. Also, 2010 includes an extra week for technical reasons, and when that extra week is dropped, the coal volume decline between 2010 and 2011 is only 1%.

Domestic volume declined as overall electrical generation declined in the eastern U.S., and natural gas prices remained at low levels leading to the continued displacement of coal at some utilities. Export coal volume grew as demand was strong for U.S. coal shipments to Europe, Asia and South America. For the full year in 2011, CSX shipped a total of 40.2 million tons of export coal, up 33% versus 2010 and within the railroad’s earlier guidance.

“Looking ahead, demand for export coal should remain strong on the strength of an expanding global economy, especially in Asia and South America,” said Gooden. “At the same time, domestic utility volumes are expected to remain soft, due to the low natural gas prices, above normal oil levels in the Southeast and restrictive environmental regulations.”

Sanborn said the coal network operated well in the fourth quarter, as reflected in various key measures. During the fourth quarter, coal velocity improved to 17.4 miles per hour, which is a record for fourth quarter coal train velocity. Also, train length increased to 105 cars per train. This increase in efficiency translates to adding nearly 200,000 tons of incremental coal with existing level of resources. As a result of the decline in domestic coal movements, some of the resources devoted to this business were redeployed throughout the system to support service and growth in other markets, including the export coal market, where CSX handled over 10.4 million tons of coal in the quarter.

Cheap gas cuts into coal burns

Gooden tackled an analyst question about low natural gas prices of below $3/mmBtu and how they are impacting coal burn for domestic power generators. “First, we saw a significant impact on our coal business already in 2011 because of natural gas prices,” Gooden said. “So most of the plants that are in our region that can convert either to the combined cycle gas or in the latter part, when gas prices got below $3, which would be the single figures, coming online, we have seen that conversion. Number two, most of the utilities that were impacted by the environmental regulation of [the Cross-State Air Pollution Rule], which are our older plant and less efficient plants, to principal and preponderance of those plants have been off line. And we don’t expect that to have any significant impact going forward for us. Third, is that gas prices, in our view, are nearing the end of where the bottom of the gas market is. [Y]ou’re seeing the rig count start to do several things. One, they’re changing. They’re actually going down particularly in the Marcellus Shale. Two, a lot of the drill rigging counts are moving from Eastern Pennsylvania over to Western Pennsylvania to go for the Utica oil reserves. So we see a stabilizing in the natural gas prices.”

Gooden was also asked what would happen if natural gas prices dipped below $2/mmBtu, as some observers have predicted. “I know that below $2.50, it starts to impact the Powder River Basin coal,” Gooden said.

When natural gas starts approaching those $2 levels, several things happen, Gooden added. “One, the drill count starts coming down because… it’s not as profitable to drill for the natural gas at that lower rate. Number two, you saw some of the energy companies announced that they will focus more on shale that can produce the liquids, the oil. Number three, then you have to start taking into consideration, what are the mineral leases? When do they expire? … But let me just say it and conclude it like this, I don’t like natural gas this cheap.”

Gooden also answered a question about “noise” in the coal market that CSX may at the end of 2011 been discounting some shipments of export thermal coal to bolster shipments at a time of softening export coal prices as measured by recent changes in the API 2 international coal price index. Also, a lot of international coal contracts are settled for an export year that begins in April of each year, with the next contracts now being put in place ahead of the next export year.

“Most of our thermal coal that we’re selling into the market right now is actually physically sold,” said Gooden. “In some cases…as early as 2010, but most cases, throughout the year in 2011. So they were all sold on forward curves at the time of the API 2 index. Our metallurgical coals are sold both in our tariff, which is not changed and is sold usually in most cases on an annualized basis beginning in April of each year. So one, nothing is materially changed on that metallurgical side. And two, we’ll know more as we start to approach that April time frame. There were some things in the coal rags that I talked about in December, the pricing for thermal coal into the export market. And there were some cases there where we were, in fact, pricing on what the API 2 index and its forward curve was based on the December numbers. But it was no price cutting at all that was going in there on any kind of existing business that we had.”

Gooden, in answering another question, said 2012 coal export levels are hard to predict. “But we do expect the export coal to be at strong levels and similar to what they were in 2011,” he added. “And we predicate that on at least two of the markets that we’re serving, both Asia, which China is still going at a 6% to 7% clip. [There is also] India’s need, as well as South American need in our particular coal franchise. And then as I pointed out, for the foreseeable future, the thermal contracts that we have are in place or under contract. The shippers are required to take them. We’ve seen no indications that anyone plans not to take those shipments.”

Gooden was asked about the average duration of utility coal contracts, how many will be coming up for renewal in 2012 and how take-or-pay provision of the utility contracts may have affected volumes in 2011. “Yes, we do have take-or-pay provisions that impacted our utility contracts last year,” Gooden said. “And there were, in fact, liquidated damages paid. We have no major legacy contracts in our coal coming up for renewal in 2012.”

CSX Corp., based in Jacksonville, Fla., is one of the nation’s leading transportation companies, providing rail, intermodal and rail-to-truck transload services. The company’s transportation network spans approximately 21,000 miles, with service to 23 eastern states and the District of Columbia, and connects to over 230 short line and regional railroads and more than 70 ocean, river, and lake ports.

About Barry Cassell 20414 Articles
Barry Cassell is Chief Analyst for GenerationHub covering coal and emission controls issues, projects and policy. He has covered the coal and power generation industry for more than 24 years, beginning in November 2011 at GenerationHub and prior to that as editor of SNL Energy’s Coal Report. He was formerly with Coal Outlook for 15 years as the publication’s editor and contributing writer, and prior to that he was editor of Coal & Synfuels Technology and associate editor of The Energy Report. He has a bachelor’s degree from Central Michigan University.