PAGE 1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------------
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
---------- ----------
Commission file numbers 1-743; 1-3744; 1-4793; 1-5462
NORFOLK SOUTHERN RAILWAY COMPANY
- --------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Virginia 53-6002016
- ----------------------------------- ---------------------------------
(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
Three Commercial Place
Norfolk, Virginia 23510-2191
- ----------------------------------- ---------------------------------
(Address of principal executive offices) Zip Code
Registrant's telephone number, including area code (757) 629-2680
----------------------
No Change
- --------------------------------------------------------------------------
(Former name, former address and former fiscal year,
if changed since last report.)
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. (X) Yes ( ) No
The number of shares outstanding of each of the registrant's classes of
Common Stock, as of the last practicable date:
Class Outstanding as of October 31, 1999
----- ----------------------------------
Common Stock (par value $1.00) 16,668,997
<PAGE> PAGE 2
INDEX
-----
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES (NSR)
Page
----
Part I. Financial Information:
Item 1. Consolidated Statements of Income
Three Months and Nine Months Ended
September 30, 1999 and 1998 3
Consolidated Balance Sheets
September 30, 1999, and December 31, 1998 4
Consolidated Statements of Cash Flows
Nine Months Ended September 30, 1999
and 1998 5-6
Notes to Consolidated Financial Statements 7-11
Item 2. Management's Discussion and Analysis
of Financial Condition and
Results of Operations 12-20
Part II. Other Information:
Item 6. Exhibits and Reports on Form 8-K 21
Signatures 22
Index to Exhibits 23
<PAGE> PAGE 3
PART I. FINANCIAL INFORMATION
-------------------------------
Item 1. Financial Statements.
- ------ --------------------
<TABLE>
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Consolidated Statements of Income
($ in millions)
(Unaudited)
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
1999 1998 1999 1998
---- ---- ---- ----
<S> <C> <C> <C> <C>
Railway operating revenues:
Coal $ 369 $ 321 $ 949 $ 960
General merchandise 864 597 2,210 1,824
Intermodal 234 130 519 409
------- ------- ------- -------
TOTAL RAILWAY OPERATING
REVENUES 1,467 1,048 3,678 3,193
------- ------- ------- -------
Railway operating expenses:
Compensation and benefits
(Note 3) 571 370 1,472 1,131
Materials, services, and rents 328 207 818 604
Conrail rents and services
(Note 3) 123 -- 166 --
Depreciation 117 111 345 325
Diesel fuel 74 41 159 134
Casualties and other claims 36 21 100 73
Other 81 40 237 123
------- ------- ------- -------
TOTAL RAILWAY OPERATING
EXPENSES 1,330 790 3,297 2,390
------- ------- ------- -------
Income from railway
operations 137 258 381 803
Other income - net 4 13 23 67
Interest expense on debt (11) (7) (27) (18)
------- ------- ------- -------
Income before income
taxes 130 264 377 852
Provision for income taxes 46 97 134 311
------- ------- ------- -------
NET INCOME $ 84 $ 167 $ 243 $ 541
======= ======= ======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> PAGE 4
Item 1. Financial Statements. (continued)
- ------ --------------------
<TABLE>
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Consolidated Balance Sheets
($ in millions)
(Unaudited)
<CAPTION>
September 30, December 31,
1999 1998
------------ -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 23 $ --
Short-term investments 13 44
Accounts receivable, net of allowance for
doubtful accounts of $5 million and
$4 million, respectively 861 508
Materials and supplies 74 59
Deferred income taxes 132 110
Other current assets 129 130
------- -------
Total current assets 1,232 851
Due from NS - net (Note 3) -- 43
Investments 784 990
Properties less accumulated
depreciation 10,325 9,985
Other assets 383 148
------- -------
TOTAL ASSETS $12,724 $12,017
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Short-term debt $ 83 $ --
Accounts payable 856 577
Income and other taxes 147 139
Due to NS - net (Note 3) 52 --
Other current liabilities 149 73
Current maturities of long-term debt 154 141
------- -------
Total current liabilities 1,441 930
Long-term debt (Note 4) 739 619
Other liabilities 1,045 909
Minority interests 3 2
Deferred income taxes 3,565 3,420
------- -------
TOTAL LIABILITIES 6,793 5,880
------- -------
Stockholders' equity:
Serial preferred stock 55 55
Common stock 167 167
Additional paid in capital 670 548
Accumulated other comprehensive income
(Note 5) 313 414
Retained income 4,726 4,953
------- -------
TOTAL STOCKHOLDERS' EQUITY 5,931 6,137
------- -------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $12,724 $12,017
======= =======
</TABLE>
See accompanying notes to consolidated financial statements.
<PAGE> PAGE 5
Item 1. Financial Statements. (continued)
- ------ --------------------
<TABLE>
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Consolidated Statements of Cash Flows
($ in millions)
(Unaudited)
<CAPTION>
Nine Months Ended
September 30,
-----------------
1999 1998
---- ----
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 243 $ 541
Reconciliation of net income to net cash
provided by operating activities:
Depreciation 346 326
Deferred income taxes (14) 47
Nonoperating gains and losses on property
and investments (14) (27)
Changes in assets and liabilities
affecting operations:
Accounts receivable (353) 9
Materials and supplies (15) --
Other current assets 36 31
Income tax liabilities 143 188
Other short-term liabilities 253 (22)
Other - net 159 (31)
------- -------
Net cash provided by operating activities 784 1,062
CASH FLOWS FROM INVESTING ACTIVITIES:
Property additions (Note 4) (717) (644)
Property sales and other transactions 46 38
Investments, including short-term (84) (88)
Investment sales and other transactions 153 98
------- -------
Net cash used for investing activities (602) (596)
CASH FLOWS FROM FINANCING ACTIVITIES:
Dividends (Note 3) (2) (2)
Advances and repayments to NS (398) (404)
Advances and repayments from NS 26 54
Proceeds from long-term borrowings (Note 4) 273 4
Debt repayments (58) (51)
------- -------
Net cash used for financing activities (159) (399)
------- -------
Net increase in cash and cash equivalents 23 67
CASH AND CASH EQUIVALENTS:*
At beginning of year -- 7
------- -------
At end of period $ 23 $ 74
======= =======
<PAGE> PAGE 6
Item 1. Financial Statements. (continued)
- ------ --------------------
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Consolidated Statements of Cash Flows (continued)
($ in millions)
(Unaudited)
Nine Months Ended
September 30,
-----------------
1999 1998
---- ----
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest (net of amounts capitalized) $ 39 $ 45
Income taxes $ 4 $ 66
</TABLE>
* Cash equivalents represent all highly liquid investments
purchased three months or less from maturity.
See accompanying notes to consolidated financial statements.
<PAGE> PAGE 7
Item 1. Financial Statements. (continued)
- ------ --------------------
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Notes to Consolidated Financial Statements
1. In the opinion of Management, the accompanying unaudited interim
financial statements contain all adjustments (consisting of
normal recurring accruals) necessary to present fairly the
Company's financial position as of Sept. 30, 1999, and results
of operations and cash flows for the nine months ended Sept. 30,
1999 and 1998.
Although Management believes that the disclosures presented are
adequate to make the information not misleading, these
consolidated financial statements should be read in conjunction
with: (a) the financial statements and notes included in the
Company's latest Annual Report on Form 10-K and in subsequent
Quarterly Reports on Form 10-Q, and (b) any Current Reports on
Form 8-K.
2. Commitments and Contingencies
There have been no significant changes since year-end 1998 in
the matters as discussed in Note 16, COMMITMENTS AND
CONTINGENCIES, appearing in the NS Rail Annual Report on
Form 10-K for 1998, Notes to Consolidated Financial Statements,
beginning on page 66.
3. Related Parties
General
-------
Norfolk Southern Corporation (NS) is the parent holding company
of NS Rail. The costs of functions performed by NS are charged
to NS Rail. In addition, effective Nov. 1, 1998, NS charges
NS Rail a revenue-based licensing fee (which totaled $55 million
for the first nine months of 1999) for use of certain intangible
assets owned by NS. Rail operations are coordinated at the
holding company level by the NS Vice Chairman and Chief
Operating Officer.
Operations Over Conrail's Lines
-------------------------------
NS and CSX Corporation (CSX) jointly own Conrail Inc. (Conrail),
whose primary subsidiary is Consolidated Rail Corporation (CRC),
the major railroad in the Northeast. From May 23, 1997, the
date NS and CSX completed their acquisition of Conrail stock,
until June 1, 1999, Conrail's operations continued substantially
unchanged while NS and CSX awaited regulatory approvals and
thereafter devoted significant effort to prepare for the
integration of the respective Conrail routes and assets to be
leased to NS Rail and CSX Transportation, Inc. (CSXT).
On June 1, 1999 (the "Closing Date"), NS Rail and CSXT began
operating the Conrail routes and assets leased to them pursuant
to operating and lease agreements.
<PAGE> PAGE 8
Item 1. Financial Statements. (continued)
- ------ --------------------
3. Related Parties (continued)
The Operating Agreement between NS Rail and Pennsylvania Lines
LLC (PRR), a wholly owned subsidiary of CRC, governs
substantially all nonequipment assets to be operated by NS Rail
and has an initial 25-year term, renewable at the option of
NS Rail for two five-year terms. Payments under the Operating
Agreement are based on appraised values that are subject to
adjustment every six years to reflect changes in such values.
NS Rail also has leased or subleased for varying terms from PRR
a number of equipment assets at rentals based on appraised
values. NS Rail's payments to PRR under the Operating Agreement
and lease agreements currently amount to approximately
$340 million annually. In addition, all costs necessary to
operate and maintain the PRR assets are borne by NS Rail. CSXT
has entered into comparable arrangements, for the operation and
use of other CRC assets, with another wholly owned CRC
subsidiary.
NS Rail and CSXT also have entered into agreements with CRC
governing other Conrail properties that continue to be owned and
operated by Conrail (the "Shared Assets Areas"). NS Rail and
CSXT pay CRC a fee for joint and exclusive access to the Shared
Assets Areas. In addition, NS Rail and CSXT pay, based on
usage, the costs incurred by CRC to operate the Shared Assets
Areas.
As a result of these transactions, both NS Rail's route miles
and its employees increased by approximately 50 percent,
effective June 1, 1999. NS Rail and CSXT now provide
substantially all rail freight services on Conrail's route
system, perform or are responsible for performing most services
incident to customer freight contracts, and employ the majority
of Conrail's former work force. Consequently, NS Rail began to
receive all freight revenues and incur all operating expenses on
the PRR lines it now operates.
Since June 1, 1999, difficulties in NS Rail's integration of the
PRR routes and assets have affected adversely both revenues and
expenses. The higher expenses included the cost of a special
incentive program available to unionized employees for much of
the third quarter, higher labor costs and equipment rents, and
service alteration costs to meet the needs of shippers. A long-
term failure by NS Rail to integrate successfully these PRR
properties could have a substantial adverse impact on NS Rail's
financial position, results of operations, and liquidity.
Until the Closing Date, NS Rail and CRC had transactions with
each other in the course of handling interline traffic. Most of
the amounts receivable or payable related to these transactions
have been satisfied.
<PAGE> PAGE 9
Item 1. Financial Statements. (continued)
- ------ --------------------
3. Related Parties (continued)
NS Rail provides to Conrail certain general and administrative
support functions, the fees for which are billed in accordance
with several service-provider arrangements.
"Conrail rents and services," a new line on the income
statements beginning June 1, 1999, includes expenses for amounts
due to PRR and CRC for use by NS Rail of operating properties
and equipment, operation of the Shared Assets Areas, and
continued operation of certain facilities during a transition
period.
"Other current assets" includes $51 million due from CRC,
$39 million of which is for its vacation liability related to
the portion of its work force that became NS Rail employees on
the Closing Date. NS Rail increased its vacation liability
accordingly, and will pay these employees as they take vacation.
"Accounts payable" includes $82 million due to PRR and CRC
related to expenses included in "Conrail rents and services," as
discussed above.
"Short-term debt" represents $83 million of interest-bearing
loans made to NS Rail by a PRR subsidiary, payable on demand.
NS Rail's second-quarter railway operating expenses included
$168 million ($103 million after taxes) for contractual
obligations, principally to former Conrail employees. Most of
these costs are expected to be paid in the two years following
the Closing Date, and $41 million of such are classified on
NS Rail's balance sheet as "Current liabilities." However,
certain contractual obligations by their terms will be paid out
over a longer period and are classified as "Other liabilities"
on NS Rail's balance sheet. Through Sept. 30, 1999, NS Rail has
paid $14 million of these costs. In addition, NS Rail has
incurred $9 million and expects to incur an additional
$14 million of costs for relocations of former Conrail
employees. As definitive plans are determined and communicated,
costs, if any, for severing or relocating NS Rail employees and
for disposing of NS Rail facilities will also be charged to
operating expenses.
<PAGE> PAGE 10
Item 1. Financial Statements. (continued)
- ------ --------------------
3. Related Parties (continued)
<TABLE>
Intercompany Accounts
---------------------
<CAPTION>
September 30, 1999 December 31, 1998
------------------ -----------------
Average Average
Interest Interest
Balance Rate Balance Rate
------- -------- ------- --------
($ in millions)
<S> <C> <C> <C> <C>
Due from NS:
Advances $ 282 5% $ 354 5%
Due to NS:
Notes and advances 334 6% 311 7%
------ ------
Due (to) from NS - net $ (52) $ 43
====== ======
</TABLE>
Interest is applied to certain advances at the average NS yield
on short-term investments and to the notes at specified rates.
Noncash Dividend
----------------
In March and June 1999, NS Rail declared and issued to NS two
noncash dividends totaling $467 million, which were settled by
reduction of NS Rail's interest-bearing advances due from NS.
Noncash dividends are excluded from the Consolidated Statements
of Cash Flows.
Intercompany Federal Income Tax Accounts
----------------------------------------
In accordance with the NS Tax Allocation Agreement, intercompany
federal income tax accounts are recorded between companies in
the NS consolidated group. At Sept. 30, 1999, and Dec. 31,
1998, NS Rail had long-term intercompany federal income tax
payables (which are included in "Deferred income taxes" in the
Consolidated Balance Sheets) of $759 million and $633 million,
respectively.
Cash Required for NS Debt
-------------------------
NS has approximately $7 billion of unsecured notes and
commercial paper debt outstanding, most of which was issued to
finance the cost of the Conrail transaction. A significant
portion of the funding for the interest and repayments on this
debt is expected to be provided by NS Rail.
<PAGE> PAGE 11
Item 1. Financial Statements. (continued)
- ------ --------------------
4. Long-Term Debt
Equipment Trust Certificates
----------------------------
NS Rail issued equipment trust certificates in March and June 1999
and received net proceeds of $188 million. The certificates
mature serially in the years 2000 through 2014, inclusive, and
carry a weighted-average interest rate of 6.6 percent. Proceeds
were used to acquire locomotives and freight cars, and, at
Sept. 30, 1999, $14 million of the proceeds were included in
"Other assets" and will be used later in the year to acquire
additional equipment.
Capital Lease Obligations
-------------------------
During the first nine months of 1998, NS Rail entered into capital
leases covering new locomotives. The related capital lease
obligations, totaling $127 million, were reflected in the
Consolidated Balance Sheet as debt and, because they were noncash
transactions, were excluded from the Consolidated Statement of
Cash Flows.
5. Comprehensive Income
<TABLE>
NS Rail's total comprehensive income was as follows:
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
------------------ -----------------
1999 1998 1999 1998
---- ---- ---- ----
($ in millions)
<S> <C> <C> <C> <C>
Net income $ 84 $167 $243 $541
Other comprehensive income (77) (10) (101) (22)
---- ---- ---- ----
Total comprehensive income $ 7 $157 $142 $519
==== ==== ==== ====
</TABLE>
For NS Rail, "Other comprehensive income" is the unrealized gains
and losses on certain investments in debt and equity securities,
principally NS Common Stock.
<PAGE> PAGE 12
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations.
-------------------------
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES
(A Majority-Owned Subsidiary of Norfolk Southern Corporation)
Management's Discussion and Analysis of Financial Condition
and Results of Operations
In the following sections, NS Rail provides data for corresponding
periods in 1998 and, in some cases, indicates the percent of variance
between the 1999 and 1998 data. However, NS Rail cautions that all
such data should be considered in light of the substantially different
operating contexts to which they relate.
COMMENCEMENT OF OPERATIONS OVER CONRAIL'S LINES
On June 1, 1999, NS Rail began operating a portion of Conrail's
properties (NS Rail's new "Northern Region") under various agreements
with Pennsylvania Lines LLC (PRR), a wholly owned subsidiary of
Consolidated Rail Corporation (CRC) (see Note 3). As a result,
railroad route miles operated by NS Rail and railroad employees
increased by approximately 50 percent. Results for the first nine
months of 1999 reflect five months (January through May) of operating
the former NS Rail system and four months (June through September) of
operating the new NS Rail system, which includes the Northern Region.
Since June 1, 1999, system congestion and other difficulties have
complicated integration of the new routes. NS Rail has made progress
in reducing congestion and continues to work diligently to resolve the
operational issues and to reduce and clear the congestion. This
effort has required additional labor and equipment resources, and the
need for such additional resources is expected to continue until the
congestion is cleared. In addition, some freight has been diverted
from NS Rail, and, in some cases, NS Rail has incurred service
alteration costs to meet the needs of shippers. The resulting
decrease in revenues, coupled with increased costs, has negatively
affected NS Rail's results since June, and these effects will continue
until the operational issues have been resolved. A long-term failure
by NS Rail to integrate successfully the Northern Region could have a
substantial adverse impact on NS Rail's financial position, results of
operations, and liquidity.
RESULTS OF OPERATIONS
Net Income
- ----------
Net income for the third quarter of 1999 was $84 million, down
$83 million, or 50 percent, compared with the third quarter of 1998.
For the first nine months of 1999, net income was $243 million,
$298 million, or 55 percent, below last year. The declines in both
periods were largely attributable to lower income from railway
operations. The system congestion and related traffic diversions
arising from the integration difficulties are estimated to have
reduced operating income by $175 million in the third quarter and by
<PAGE> PAGE 13
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
$267 million since June 1, 1999. In addition, railway operating
expenses for the first nine months included $168 million ($103 million
after taxes) of costs incurred in the second quarter for contractual
obligations, principally to former Conrail employees, and expenses
arising from a license of intangible assets owned by NS (see Note 3).
Railway Operating Revenues
- --------------------------
<TABLE>
Third-quarter railway operating revenues were $1,467 million in 1999
and were $1,048 million in 1998. Railway operating revenues were
$3,678 million for the first nine months of 1999, and were
$3,193 million for the first nine months of 1998. As shown in the
table below, the improvements were principally due to higher traffic
volume, largely the result of the commencement of operations in the
Northern Region. Traffic diversions related to the operational
difficulties resulted in estimated revenue losses of $73 million in
the third quarter and $113 million since June 1, 1999, principally in
the general merchandise commodity groups.
<CAPTION>
Third Quarter First Nine Months
1999 vs. 1998 1999 vs. 1998
Increase (Decrease) Increase (Decrease)
------------------- -------------------
($ in millions)
<S> <C> <C>
Traffic volume $ 405 $ 488
Revenue per unit 14 (3)
------ ------
$ 419 $ 485
====== ======
</TABLE>
Revenues and carloads for the commodity groups were as follows:
<TABLE>
Revenues
----------------------------------------
<CAPTION>
Third Quarter Nine Months
1999 1998 1999 1998
---- ---- ---- ----
($ in millions)
<S> <C> <C> <C> <C>
Coal $ 369 $ 321 $ 949 $ 960
General merchandise:
Automotive 190 129 537 412
Chemicals 206 145 520 436
Paper/clay/forest 159 133 426 409
Metals/construction 181 97 401 286
Agr./consumer prod./govt. 128 93 326 281
------ ------ ------ ------
General merchandise 864 597 2,210 1,824
Intermodal 234 130 519 409
------ ------ ------ ------
Total $1,467 $1,048 $3,678 $3,193
====== ====== ====== ======
</TABLE>
<PAGE> PAGE 14
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
<TABLE>
Carloads
-------------------------------------
<CAPTION>
Third Quarter Nine Months
1999 1998 1999 1998
---- ---- ---- ----
(In thousands)
<S> <C> <C> <C> <C>
Coal 438 337 1,078 994
General merchandise:
Automotive 155 110 446 354
Chemicals 129 100 342 304
Paper/clay/forest 126 111 341 344
Metals/construction 187 99 404 284
Agr./consumer prod./govt. 114 86 294 261
----- ----- ----- -----
General merchandise 711 506 1,827 1,547
Intermodal 565 350 1,337 1,092
----- ----- ----- -----
Total 1,714 1,193 4,242 3,633
===== ===== ===== =====
</TABLE>
After Dec. 1, 1999, some of the customers NS Rail serves in the
Northern Region as successor to CRC contracts can elect to switch to
CSXT. Likewise, some of CSXT's customers can switch to NS Rail.
NS Rail does not expect there to be a significant adverse effect from
these potential traffic shifts.
Coal
- ----
Coal revenues were $369 million in the third quarter, versus
$321 million last year, and were $949 million for the first nine
months, versus $960 million last year. The increase for the quarter
was due to the addition of Northern Region traffic. The decrease for
the first nine months reflected lower export coal traffic volume that
more than offset the combined effects of the Northern Region traffic
volume and increased utility coal tonnage. Revenue yields have been
affected by a change in the mix of traffic: Northern Region traffic
and increased utility coal shipments (especially new shorter-haul
business) and decreased export coal shipments. Total tonnage handled
was 45.5 million tons in the third quarter, versus 34.3 million tons
last year, and was 111.8 million tons for the first nine months, versus
102.0 million tons last year. Utility coal tonnage increased
46 percent in the quarter and 23 percent for the first nine months,
principally due to the handling of traffic in the Northern Region.
Domestic metallurgical coal, coke, and iron ore traffic volume
increased 31 percent in the quarter and 3 percent for the first nine
months, reflecting Northern Region traffic, partially offset by the
effects of increased imports of lower-priced iron ore and steel and coke
plant closures in the second quarter of 1998. Export coal tonnage fell
<PAGE> PAGE 15
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
20 percent for the quarter and 31 percent for the first nine months,
reflecting continued strong competition and weak demand in overseas
markets and a strong U.S. dollar.
Fourth-quarter coal revenues are expected to be adversely affected by
weak demand for export coal. However, with the addition of traffic in
the Northern Region, total coal revenues are expected to be higher
than in the same period last year.
A recent decision by a federal district court judge in West Virginia
holds that some common mining practices in the coal industry are illegal.
If sustained, the decision could have an adverse effect on coal mining
operations and on NS Rail's coal traffic and revenues.
General Merchandise
- -------------------
General merchandise revenues were $864 million in the third quarter,
versus $597 million last year, and were $2,210 million for the first
nine months, versus $1,824 million last year. Traffic volume
increased 40 percent for the quarter and 18 percent for the first nine
months, principally due to the addition of traffic in the Northern
Region. Average revenue per unit increased 3 percent for both
periods, due to a longer average haul and an overall favorable change
in traffic mix.
Fourth-quarter general merchandise revenues are expected to exceed
those of last year, continuing to reflect Northern Region traffic.
Intermodal
- ----------
Intermodal revenues were $234 million in the third quarter, versus
$130 million last year, and were $519 million for the first nine
months, versus $409 million last year. Traffic volume increased
61 percent for the quarter and 22 percent for the first nine months,
largely due to the addition of Northern Region traffic. Average
revenue per unit increased 11 percent in the quarter and 4 percent for
the first nine months, due to the effects of a favorable change in the
mix of traffic.
Fourth-quarter intermodal revenues are expected to be well above those
of last year, continuing to reflect the Northern Region traffic.
Railway Operating Expenses
- --------------------------
Third-quarter railway operating expenses were $1,330 million, up
$540 million, or 68 percent, compared with last year. For the first
nine months, railway operating expenses were $3,297 million, up
$907 million, or 38 percent. Both increases reflected the
commencement of operations in the Northern Region. It is estimated
that additional costs of $116 million in the quarter and $176 million
for the first nine months were incurred related to integration
difficulties. Expenses for the first nine months also included
$168 million for the contractual obligations assumed in the second
quarter that principally resulted from employing a significant portion
of Conrail's former work force.
<PAGE> PAGE 16
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
"Compensation and benefits" expense increased $201 million, or
54 percent, in the third quarter, and $341 million, or 30 percent, for
the first nine months. The third-quarter increase was attributable to:
(1) the 50 percent increase in NS Rail's work force in June, upon
commencement of operations in the Northern Region; and (2) costs
associated with integration difficulties, principally a special work
incentive program that increased expenses $49 million. The program
was in effect for much of the third quarter, and the incentives,
newly-issued Norfolk Southern Common Stock, will be paid in the
fourth quarter. The increase for the first nine months was due to
the items cited for the quarter as well as the contractual
obligations incurred in employing a substantial portion of Conrail's
work force. The effects of these increases were partially mitigated
by lower performance-based incentive compensation.
"Materials, services, and rents" increased $121 million, or
58 percent, in the third quarter, and $214 million, or 35 percent,
for the first nine months. Both increases reflected the commencement
of operations in the Northern Region, including expenses arising from
integration difficulties such as higher equipment rents, expenses
related to short-term locomotive leases, and costs for alternate
transportation to meet the critical needs of customers.
"Conrail rents and services," a new category of expense, amounted to
$123 million in the third quarter and $166 million for the first nine
months. This item includes amounts due to PRR and CRC related to:
(1) use of their operating properties and equipment, (2) CRC's
operation of the Shared Assets Areas, and (3) CRC's operation of
certain transition facilities.
"Diesel fuel" expense increased $33 million, or 80 percent, in the
third quarter, and $25 million, or 19 percent, for the first nine
months. Consumption increased 39 percent for the quarter and
15 percent for the first nine months, principally due to the higher
traffic volume resulting from operations in the Northern Region. The
average price per gallon increased 32 percent in the quarter and
3 percent for the first nine months.
"Casualties and other claims" increased $15 million, or 71 percent,
in the third quarter, and $27 million, or 37 percent, for the first
nine months. Both increases were principally attributable to the
commencement of operations in the Northern Region. The increase for
the first nine months also reflected a settlement in the first
quarter related to an environmental site in Slidell, La., and damages
to automobiles being transported in a train that derailed in the
first quarter.
"Other" expenses increased $41 million, or 103 percent, in the third
quarter, and $114 million, or 93 percent, for the first nine months.
Both increases resulted largely from a licensing fee for use of
certain intangible assets owned by NS that became effective Nov. 1,
1998 (see Note 3) and the commencement of operations in the Northern
Region, including costs to relocate former Conrail employees.
<PAGE> PAGE 17
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
The railway operating ratio was 90.7 percent in the third quarter,
versus 75.4 percent last year, and was 89.6 percent for the first
nine months, versus 74.9 percent last year. It is estimated that the
combination of integration difficulties and related system congestion
and traffic diversions increased the railway operating ratio by about
10.9 percentage points in the third quarter and 6.6 percentage points
for the first nine months. The $168 million of contractual
obligations and commitments increased the railway operating ratio for
the first nine months by 4.5 percentage points. The remaining
increases in the railway operating ratio were principally
attributable to the change in traffic mix related to the increased
resource-intensive traffic, such as automotive and intermodal, and
the new traffic in the Northern Region, coupled with decreased export
coal traffic, and the licensing fee included in "Other" expenses.
The railway operating ratio is expected to continue to be affected
adversely until service and operations improve.
Other Income - Net
- ------------------
"Other income - net" was $9 million lower in the third quarter and
was $44 million lower for the first nine months. The decreases for
both periods were principally due to lower interest income. Lower
gains from the sale of properties and investments also contributed to
the decrease for the first nine months.
<TABLE>
FINANCIAL CONDITION AND LIQUIDITY
<CAPTION>
September 30, December 31,
1999 1998
------------ -----------
($ in millions)
<S> <C> <C>
Cash and short-term investments $ 36 $ 44
Debt-to-total capitalization 14.1% 11.0%
</TABLE>
CASH PROVIDED BY OPERATING ACTIVITIES is NS Rail's principal source of
liquidity. The decrease in "Net cash provided by operating
activities" in the first nine months of 1999 was principally due to
lower income from railway operations, mitigated by lower income tax
payments. The large changes in "Accounts receivable" and "Other short-
term liabilities" in the 1999 cash flow statement primarily resulted
from the June 1 commencement of operations in the Northern Region. In
addition, collection of accounts receivable has slowed. The large
change in "Other - net" resulted from the accrual of the contractual
obligations discussed above.
CASH USED FOR INVESTING ACTIVITIES increased slightly for the first
nine months of 1999, compared with the same period last year. Capital
expenditures were 4 percent lower in the current year; however, "Property
additions" increased 11 percent, reflecting a change in financing methods:
in 1999, locomotives and freight cars were financed through the sale of
<PAGE> PAGE 18
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
equipment trust certificates (see Note 4); in 1998, locomotives were
acquired under capital leases, which were excluded from the Consolidated
Statements of Cash Flows because they were noncash transactions.
"Investment sales and other transactions" includes proceeds from
borrowing against the net cash surrender value of company-owned life
insurance.
CASH USED FOR FINANCING ACTIVITIES in 1999 included proceeds from the
sale of equipment trust certificates (see Note 4).
YEAR-2000 COMPLIANCE
General
- -------
In October 1995, NS Rail initiated a project to review and modify, as
necessary, its computer applications, hardware, and other equipment to
make them Year-2000 compliant. NS Rail has engaged outside
consultants and independent contractors to assist with its Year-2000
project. The progress of the project is reviewed regularly by
NS Rail's senior management and by the Audit Committee of NS' Board of
Directors. The project is organized into three principal areas:
mainframe systems, nonmainframe systems, and enterprise systems
(operations and embedded processors), and for each such system
involves: inventory, assessment, remediation, testing, and implementation.
NS Rail has incorporated all critical PRR assets it now operates into the
project.
State of Readiness
- ------------------
For mainframe systems, all noncompliant business-critical applications
have been remediated, unit tested, and placed back into production
(implemented). System integration testing continues and is expected
to be completed by year-end.
For nonmainframe and enterprise systems, all business-critical items
have been remediated and system testing is substantially complete.
NS Rail also has initiated formal communications with third parties
having a substantial relationship to its business (including other
railroads, significant suppliers, larger customers, and financial
institutions) to determine the extent to which NS Rail may be
vulnerable to any such third parties' failure to achieve Year-2000
compliance. Thus far, NS Rail has no information that indicates a
significant third party may be unable to provide goods or services or
to request NS Rail's services because of Year-2000 compliance issues.
NS Rail will continue to monitor the progress of such third parties'
Year-2000 compliance efforts and develop contingency plans as
warranted.
Cost
- ----
NS Rail has allocated existing information technology resources and
has incurred incremental costs, mostly for contract programmers and
consultants, in connection with its Year-2000 compliance project.
Since the project began, Management estimates that up to 10 percent of
<PAGE> PAGE 19
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
NS Rail's in-house programming resources have been used for Year-2000
compliance efforts. The effects of deferring other information
technology projects to accommodate the Year-2000 effort have been
minor. Incremental costs incurred through Sept. 30, 1999, which were
expensed, are immaterial to NS Rail's results of operations. Total
incremental costs are expected to be approximately $25 million.
Contingency Plans
- -----------------
The project includes system testing, as appropriate, to substantiate
that remediation successfully addresses Year-2000 compliance. NS Rail
has established a series of initiatives to focus on business-critical
items to enable rail operations to continue in the event of a
Year-2000 problem. In addition, contingency plans are being developed
where warranted. NS Rail intends to establish a command center at
year-end to monitor and provide corrective action into the Year-2000,
as necessary.
Conrail
- -------
NS Rail is implementing its own information technology systems on the
portion of Conrail's routes and assets it is operating. A majority of
these systems have been implemented and are now operational; two
remaining geographical areas are scheduled to have NS Rail's
transportation systems implemented prior to Dec. 7, 1999. In the
Shared Assets Areas, some of Conrail's existing transportation systems
will continue to be used and, therefore, were remediated, unit tested,
and placed back into production. Testing between NS Rail and Conrail
is expected to be completed in November.
Risks
- -----
Failure to achieve Year-2000 compliance -- by NS Rail, other
railroads, its principal suppliers and customers, and certain
financial institutions with which it has relationships -- could
negatively affect NS Rail's ability to conduct business for an
extended period. Management believes that NS Rail will be successful
in its Year-2000 compliance effort; however, there can be no assurance
that all NS Rail information technology systems and components will be
fully Year-2000 compliant. In addition, other companies on which
NS Rail systems and operations rely may or may not be fully compliant
on a timely basis, and any such failure could have a material adverse
effect on NS Rail's financial position, results of operations, or
liquidity.
LITIGATION
The Company and certain subsidiaries are defendants in numerous
lawsuits relating principally to railroad operations.
On Sept. 8, 1997, a state court jury in New Orleans returned a verdict
awarding $175 million in punitive damages against The Alabama Great
Southern Railroad Company (AGS), a subsidiary of Norfolk Southern
Railway Company. The verdict was returned in a class action suit
<PAGE> PAGE 20
Item 2. Management's Discussion and Analysis of Financial Condition
- ------ -----------------------------------------------------------
and Results of Operations. (continued)
-------------------------
involving some 8,000 individuals who claim to have been damaged as the
result of an explosion and fire that occurred in New Orleans on
Sept. 9, 1987, when the chemical butadiene leaked from a tankcar.
The jury verdict awarded a total of nearly $3.2 billion in punitive
damages against four other defendants in the same case: two rail
carriers, the owner of the car, and the shipper. Previously, the jury
had awarded nearly $2 million in compensatory damages to 20 of the
more than 8,000 individual plaintiffs.
AGS and five of the nine defendants reached an agreement to settle
this litigation. The three remaining defendants are not parties to
the settlement agreement, and the litigation will continue against
those defendants. Because it involves a class action, the settlement
is subject to final approval by the trial court, and to possible
appeals.
While the final outcome of this matter and other lawsuits cannot be
predicted with certainty, it is the opinion of Management, based on
known facts and circumstances, that the amount of NS Rail's ultimate
liability is unlikely to have a material adverse effect on NS Rail's
financial position, results of operations, or liquidity.
FORWARD-LOOKING STATEMENTS
This Management's Discussion and Analysis of Financial Condition and
Results of Operations contains forward-looking statements, within the
meaning of the Private Securities Reform Act of 1995, that are based
on current expectations, estimates, and projections. Such forward-
looking statements reflect Management's good-faith evaluation of
information currently available. However, because such statements are
based upon, and therefore can be influenced by, a number of external
variables over which Management has no, or incomplete, control, they
are not, and should not be read as being, guarantees of future
performance or of actual future results; nor will they necessarily
prove to be accurate indications of the times at or by which any such
performance or result will be achieved. Accordingly, actual outcomes
and results may differ materially from those expressed in such forward-
looking statements. This caveat has particular importance in the
context of all such statements that relate to Year-2000 compliance and
to the effects of the Conrail integration, including the estimates of
revenue losses and additional expenses incurred to date, as well as
the realization and the timing of benefits expected to result from the
operation of PRR assets.
The forward-looking statements contained in this filing speak only as
of the date on which they are made, and the Company does not undertake
any obligation to update any forward-looking statement to reflect
events or circumstances after the date hereof. If the Company does
update one or more forward-looking statements, no inference should be
drawn that the Company will make additional updates with respect
thereto or with respect to other forward-looking statements.
<PAGE> PAGE 21
PART II. OTHER INFORMATION
---------------------------
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES (NSR)
Item 6. Exhibits and Reports on Form 8-K.
- ------ --------------------------------
(a) Exhibits:
Financial Data Schedule.
(b) Reports on Form 8-K:
A report on Form 8-K was filed on July 8, 1999,
reporting that, in connection with the integration of
the Conrail properties being operated by NS Rail,
NS Rail had made available incentives to employees
covered by collective bargaining agreements.
A report on Form 8-K was filed on July 14, 1999,
reporting that preliminary calculations indicated that
Norfolk Southern Corporation's earnings per share for
the second quarter would be below the analysts'
consensus.
<PAGE> PAGE 22
SIGNATURES
----------
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
NORFOLK SOUTHERN RAILWAY COMPANY
--------------------------------------
(Registrant)
Date: November 10, 1999 /s/ Dezora M. Martin
----------------- --------------------------------------
Dezora M. Martin
Assistant Corporate Secretary (Signature)
Date: November 10, 1999 /s/ John P. Rathbone
----------------- --------------------------------------
John P. Rathbone
Vice President and Controller
(Principal Accounting Officer) (Signature)
<PAGE> PAGE 23
INDEX TO EXHIBITS
-----------------
NORFOLK SOUTHERN RAILWAY COMPANY AND SUBSIDIARIES (NSR)
Electronic
Submission
Exhibit
Number Description Page
- ---------- ------------------------------------------- ----
27 Financial Data Schedule. 24
(This exhibit is required to be
submitted electronically pursuant to
the rules and regulations of the
Securities and Exchange Commission and
shall not be deemed filed for purposes
of Section 11 of the Securities Act
of 1933 or Section 18 of the Securities
Exchange Act of 1934).
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> SEP-30-1999
<CASH> $ 23
<SECURITIES> 13
<RECEIVABLES> 866
<ALLOWANCES> 5
<INVENTORY> 74
<CURRENT-ASSETS> 1,232
<PP&E> 14,943
<DEPRECIATION> 4,618
<TOTAL-ASSETS> 12,724
<CURRENT-LIABILITIES> 1,441
<BONDS> 739
0
55
<COMMON> 167
<OTHER-SE> 5,709
<TOTAL-LIABILITY-AND-EQUITY> 12,724
<SALES> 0
<TOTAL-REVENUES> 3,678
<CGS> 0
<TOTAL-COSTS> 3,297
<OTHER-EXPENSES> (23)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 27
<INCOME-PRETAX> 377
<INCOME-TAX> 134
<INCOME-CONTINUING> 243
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 243
<EPS-BASIC> 0
<EPS-DILUTED> 0
</TABLE>
