Fitch Ratings has assigned an 'A-' ratings to CSX Corporation's (CSX) proposed issuance of new senior unsecured notes. Fitch currently rates CSX's Long-Term Issuer Default Rating (IDR) and senior unsecured debt an 'A-'. CSX's Short-Term IDR and CP ratings are 'F1'. The Rating Outlook is Stable.
CSX's ratings reflect its strong business profile, supported by its well-established position in the two-firm eastern U.S. rail market afforded by its large rail network and customer-centric infrastructure and services. Regional industrial development trends and truck-to-rail shipment conversions represent growth opportunities, particularly since the company's precision-scheduled railroading principles support relatively strong operating and service metrics.
Key Rating Drivers
New Notes Rated 'A-': CSX plans to issue a new senior unsecured note with a tenor of 30 years. Fitch believe the transaction will have a minimal effect on leverage, which is expected to remain around 2.6x. Fitch expects the proceeds to be used for general corporate purposes including effectively refinancing The $550 million of notes that matured in August 2024.
Mid-to-High 2x Leverage Profile: Fitch expects EBITDA leverage of 2.6x in 2024, flat from 2023, and that leverage will remain in the mid-to-high 2.0x range going forward, which is consistent with the 'A-' rating level for class 1 rail operators. Fitch believes CSX will maintain a measured approach to capital deployment, largely managing leverage with share repurchase activity.
Leverage may reach the high end of Fitch's estimated range during cyclical downturns. M&A activity is likely to be bolt-on size, which would be manageable in the context of CSX's cash flow profile. Large transformational transactions are highly unlikely.
Capital Allocation Retains Financial Flexibility: CSX's consistent and sizable FCF generation, represents a key credit strength supporting the 'A-' rating. Over the next three years, Fitch expects FCF generation (calculated after dividends) to trend from $1.4 billion in 2024 to $2.1 billion in 2026, reflecting stronger volumes and operating leverage. CSX's annual dividend payments as a proportion of earnings are moderately lower than rail peers, further supporting its ability to manage capital and operational priorities through business cycles.
Two-firm Market and High Barriers to Entry: The regional market strength and high barriers to entry of CSX, as well as its class 1 railroad peers, are afforded by the difficult to replicate rail infrastructure and are supportive of operating profitability and cash flow metrics that lead the broader transportation market. These characteristics also support fundamental pricing strength even though reported yields can fluctuate based on shifts in freight mix and fuel surcharges. The primary competing mode is trucking, which can at times restrict pricing growth in certain lanes, however; rail service is particularly attractive for heavy loads and long, fixed routes.
Rail Freight Inherently Resilient: Rail freight transportation has proven core to the economy's supply chains and, as a result, is likely to be resilient to economic cycles, which are influenced by industrial, commodity and consumer markets. Rail is the most cost-effective transport mode with continuous national reach, making it economically attractive to shippers. CSX has managed through long-term declines in coal volumes, which have been offset with growth in intermodal and industrial shipments.
Favorable Long-Term Trends, Operating Performance: CSX is set to benefit from industrial and chemical development taking place across the eastern and Midwest region of the U.S., which management estimates at 1%-2% incremental volume growth per year, and truck-to-intermodal conversions, an area in which the industry lost some share to trucking and has the opportunity to capture incremental shipments. Moderating the growth profile is the continuation of a long-term decline in coal, though export and metallurgical demand will likely remain in place over the long term.
Fitch expects EBITDA margins to remain in the 48%-49% range over the next three years, compared with 48.7% in FY23, reflecting a heavier reliance on volume growth over cost reduction actions, and the impact of mix shift with lower coal prices and recovery in intermodal volumes. CSX's execution on precision scheduled railroading principals has supported peer-leading operational performance and a steadier EBITDA margin profile over the last few years.
Derivation Summary
Fitch views CSX's operating profile considerations as fairly consistent with the other class 1 rail operators, benefiting from significant strength in competitive market positions, high barriers to entry and high resilience through economic cycles afforded by the attractive cost-competitive nature of rail transport. CSX, like its rail peers generate EBITDA margins in the high-40% to low-50% range, a uniquely high level for the broader transportation sector. Capital intensity across the rail operators generally hovers around the mid-teens.
Fitch estimates CSX's EBITDA leverage in the mid-to-high 2.0x range is generally in line with class 1 rail peers that target leverage around the mid-2.0x. Canadian National Railway Company is modestly increases leverage, citing a new leverage target of 2.5x, and Canadian Pacific Kansas City Limited deleverages with merger completion.
Union Pacific (UNP; A-/Stable) is at the higher end and Fitch expects it to remain at or modestly below 3.0x. At the lower end, Burlington Northern Santa Fe, LLC has managed in the low-2.0x. Fitch also considers CSX's capital allocation policy more credit-friendly given the relatively low proportion of dividends to operating earnings compared to most other class 1 rails.
Key Assumptions
--Low single-digit revenue growth through the forecast, with 2024 driving largely by modest volume recovery, moderated by lower coal revenue;
--EBITDA margins remain in the 48%-49% range from growth offsetting cost inflation;
--Capex as a percentage of revenue in the 16%-17% range through the forecast;
--CSX remains consistent with capital allocation and financial policies, supporting EBITDA leverage around the mid-2.0x.
RATING SENSITIVITIES
Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade
--A shift to a more conservative financial policy leading to EBITDA leverage sustained below 2.5x;
--Continued commitment to a more conservative capital allocation strategy, including retention of a share repurchase-oriented returns policy;
--Demonstrated margin strength through business cycles, via pricing, volume mix, and/or flexing cost structure that supports a steadier FCF profile.
Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade
--A less conservative financial policy leading to EBITDA leverage sustained above 3.0x;
--A shift in capital allocation strategy leading to materially reduced financial flexibility;
--Regulations or policy changes that negatively affect the industry.
Liquidity and Debt Structure
Comfortable Liquidity: Fitch believes liquidity will remain comfortable given CSX's ability to generate cash from operations, high availability under its credit lines and laddered maturity profile. As of June 30 2024, CSX had $1.2 billion of cash and cash equivalents and undrawn $1.2 billion revolver. The revolver serves as a backstop for the company's $1.0 billion CP program, which was undrawn at 2Q24. The unsecured note maturities are approximately $0.5 billion to $1.0 billion per year through the next 10 years.
Issuer Profile
CSX is a leading class 1 railroad company in North America across 26 states east of the Mississippi River. It transports a mix of bulk, industrial and premium shipments.
Date of Relevant Committee
01 April 2024
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
MACROECONOMIC ASSUMPTIONS AND SECTOR FORECASTS
Click here to access Fitch's latest quarterly Global Corporates Macro and Sector Forecasts data file which aggregates key data points used in our credit analysis. Fitch's macroeconomic forecasts, commodity price assumptions, default rate forecasts, sector key performance indicators and sector-level forecasts are among the data items included.
ESG Considerations
The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit https://www.fitchratings.com/topics/esg/products#esg-relevance-scores.
