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Bill Weisbrod

Today’s meeting is one that Alan Shaw, the CEO of Norfolk Southern, probably shouldn’t skip.

He’s scheduled to appear before a US Senate committee on rail safety, after one of his company’s trains came off the tracks and spilled hazardous chemicals in eastern Ohio last month. Better hope he turns up to this one.

According to a prepared testimony, Shaw plans to outline several ways in which his company plans to improve its safety measures in order to prevent similar incidents (the hearing is available to watch online).

He’s also likely to face a chorus of criticism from senators about actions his company might have taken to avoid the catastrophe; meanwhile, some credit investors are asking themselves what they can learn from the situation, to avoid similar incidents — and their financial fallout — in the future.

Like the deadly crowd surge at a Live Nation concert in 2021, the Ohio disaster is a reminder of ESG risks lurking in companies and sectors that, on the surface, don’t seem to have the potential to cause societal damage.

It’s not like the Norfolk Southern incident has stopped ESG-conscious investors from investing in transport or chemicals credits entirely. But some investors told us the incident has forced a rethink on how to uncover ESG-related risks that aren’t immediately obvious.

“There is a lot to take away from this,” said Venk Reddy, chief investment officer for sustainable credit at Osterweis Capital Management. “It should force a revisit for what the material ESG risks are for both for chemical companies and transport companies.”

Not everyone agrees. Some suggest that accidents involving chemicals are inevitable, but point out that they are rare; meanwhile, the environmental, social and governance angle of this story is easily overshadowed by a growing culture war around the ESG industry.

“Some chemicals are essential to the economy,” said a transport-focused banker said. “They’re made in some places and used somewhere else so they have to be transported. These accidents happen occasionally but it’s pretty rare.”

“I haven’t seen anyone in my universe change their view about transport or chemical logistics, and I don’t think ESG is a key factor here.”

Some sectors — firearms, fossil fuels or private prisons, for example — may be completely blacklisted by ESG-conscious investors. For other industries, the ESG risks are more nuanced, and ultimately just one component that investors consider in their credit work.

“When we see these types of situations as with Norfolk Southern it’s less about how we evaluate an individual sector and more about the underlying risks of the companies involved,” said Reddy. “We think of ESG factors and risks as credit risks. It’s kind of as simple as that.”

“If we’re evaluating a company, we’re evaluating the material risks to the business, and whether those risks to the business fall under the financial or business model risk category. It all informs the creditworthiness of the issuer.”

According to a report by the National Transportation Safety Board on the Ohio derailment, the Norfolk Southern train was traveling under the 50mph speed limit in the moments leading up to the accident.

Smoke from the accident area on the night of the derailment (viaWikimedia)

The full NTSB investigation is ongoing, but the report cited an overheated wheel bearing as a possible contributing factor; the New York Times recently noted a lack of regulations requiring heat sensors that might have helped prevent the accident.

In tomorrow’s testimony, Shaw will cite improved track heat sensors as one measure the company plans to take to bolster safety, according to his prepared remarks.

The potential financial impacts for Norfolk Southern, which is an IG-rated bond issuer, are already filtering through. This week, the state of Ohio filed a lawsuit against the company, seeking payment for cleanup, environmental monitoring and economic losses to the region.

After the accident, some lenders told 9fin they would increase their scrutiny on transport danger points including a company’s willingness to take risks, their safety practices and safety record, and how they respond to potentially dangerous incidents.

“I don’t think our ESG policy changes, and we will still finance rail transport,” another portfolio manager said. “But we will look more at companies’ policies, what are they doing with their speed disclosures.”

“[Previously that was more of an afterthought. They would say ‘we move many things, we go many speeds’ but now we may ask ‘what are the speeds? What are the accident rates?’ The questions around those procedures will be part of the underwriting process immediately.”

Norfolk Southern’s 2022 ESG report contains an entire page on safety, in which the company mentions that it conducted its first ever company-wide safety survey in 2021 to “establish a baseline for our safety culture”.

After this survey, actions taken included “replacing the majority of brake sticks used in the field” as well as “improving the ordering of PPE” and “creating our Safety Champion role”.

The company reduced its average speed to 19.8mph in 2021, down 13% from the previous year, and the total number of FRA train accidents reduced in 2020 (after a big jump in 2019) and stayed flat in 2021; however, incidents per million train miles increased.

Safety record (fromcompany ESG presentation)

In response to an inquiry for this article, a Norfolk Southern spokesperson said the company was “a committed partner in enhancing safety measures across the rail industry” and said the company has spent $24.4m spent to date on recovery efforts near the site the Ohio derailment.

The spokesperson also provided several stats about how shipping cargo by rail was more environmentally friendly than road freight.

Trains are one thing; trains that carry hazardous chemicals are another. And when it comes to the chemicals industry itself, some investors who are focused on ESG steer clear of certain potentially dangerous products.

Whether the recent Norfolk Southern disaster amplifies that remains to be seen, but dangerous substances might not inherently be deal-breakers from an ESG perspective. The main question is whether they are being handled safely, and used and distributed properly.

“ESG and safety are two subjects that are intertwined and different at the same time,” said a chemicals-focused M&A banker speaking with 9fin. “I look at Norfolk Southern as a safety issue more than ESG.”

Nevertheless, chemicals investors have become more attuned and sensitive to ESG matters over the past four years, the banker said.

Indeed, the banker cited a private equity firm, with past experience in the chemicals sector, which pulled away from a potential buyout due to concerns over carcinogen levels in the target company’s main product. They declined to provide the name of the product or prospective acquirer, noting the sensitive nature of nature of those discussions.

In the case of the Norfolk Southern incident, the derailed train’s cargo included vinyl chloride, a carcinogen used in plastics manufacturing.

Hearings like those being held today on the train industry are a familiar piece of political theater: in the wake of potentially preventable accidents like the Ohio derailment, talk inevitably turns to whether the failures or lapses that may have contributed are isolated or systemic.

“I know politicians are making a big deal about it but I think Norfolk Southern and other railroads are very careful,” the transport banker said. “They had a couple lapses and I don’t think it’s systemic.”

Whether you agree or not, new regulations are coming. In February, the US Department of Transportation released a series of safety-related requests to both freight railroad companies and Congress. And earlier this month, six US senators introduced the Railway Safety Act of 2023, which would impose new safety regulations on the industry.

In today’s climate, another inevitable result of such incidents is a debate around what role private investors should play in holding companies up to scrutiny, and how much of that responsibility should be shouldered by government.

Indeed, some investors feel that if regulators act convincingly, they might be able to dial back on their ESG analysis.

“If you need chemicals you need to transport them, so there is probably going to be more pressure on transports as opposed to chemical makers to improve safety,” said the portfolio manager. “Regulations will likely come, and that mitigates the ESG need.”

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