Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

TERMS USED BY CSX

When used in this report, unless otherwise indicated by the context, these terms are used to mean the following:

Car hire - A charge paid by one railroad for its use of cars belonging to another railroad or car owner.

Class I freight railroad - One of the largest line haul freight railroads as determined based on operating revenue; the exact revenue required to be in each class is periodically adjusted for inflation by the Surface Transportation Board. Smaller railroads are classified as Class II or Class III.

Common carrier mandate - A federal mandate that requires U.S. railroads to accommodate reasonable requests from shippers to carry any freight, including hazardous materials.

Demurrage - A charge assessed by railroads for the use of rail cars by shippers or receivers of freight beyond a specified free time.

Department of Transportation ("DOT") - A U.S. Government agency with jurisdiction over matters of all modes of transportation.

Depreciation study - A periodic statistical analysis of fixed asset service lives, salvage values, accumulated depreciation, and other factors for group assets along with a comparison of similar asset groups at other companies conducted by a third-party specialist.

Double-stack - Stacking containers two-high on specially equipped cars.

Drayage - The pickup or delivery of intermodal shipments by truck.

Federal Railroad Administration ("FRA") - The branch of the DOT that is responsible for developing and enforcing railroad safety regulations, including safety standards for rail infrastructure and equipment.

Free cash flow - The calculation of a non-GAAP measure by using net cash provided by operating activities and adjusting for property additions and certain other investing activities. Free cash flow is a measure of cash available for paying dividends, share repurchases and principal reduction on outstanding debt.

Group-life method - A type of depreciation in which assets with similar useful lives and characteristics are aggregated into groups. Instead of calculating depreciation for individual assets, depreciation is calculated for each group.

Incidental revenue - Revenue for switching, demurrage, storage, etc.

Intermodal - A flexible way of transporting freight over water, highway and rail without being removed from the original transportation equipment, namely a container or trailer.

Mainline - The main track thoroughfare, exclusive of terminals, yards, sidings and turnouts.

Revenue adequacy - The achievement of a rate of return on investment at least equal to the cost of investment capital, as measured by the STB.

Scheduled railroading - An operating model focused on developing and strictly maintaining a scheduled service plan with an emphasis on optimizing assets.

CSX 2017 Form 10-K p. 24

CSX CORPORATION

PART II

Shipper - A customer shipping freight via rail.

Siding - Track adjacent to the mainline used for passing trains.

Staggers Act of 1980 - Congressional law which significantly deregulated the rail industry, replacing the regulatory structure in existence since the 1887 Interstate Commerce Act. Where previously rates were controlled by the Interstate Commerce Commission, the Staggers Act allowed railroads to establish their own rates for shipments, enhancing their ability to compete with other modes of transportation.

Surface Transportation Board ("STB") - An independent governmental adjudicatory body administratively housed within the DOT, responsible for the economic regulation of interstate surface transportation within the United States.

Switching - Putting cars in a specific order, placing cars for loading, retrieving empty cars or adding or removing cars from a train at an intermediate point.

Terminal - A facility, typically owned by a railroad, for the handling of freight and for the breaking up, making up, forwarding and servicing of trains.

TTX Company ("TTX") - A Company that provides its owner-railroads with standardized fleets of intermodal, automotive and general use railcars at time and mileage rates. CSX owns about 20 percent of TTX's common stock, and the remainder is owned by the other leading North American railroads and their affiliates.

Turnout - A track that diverts trains from one track to another.

Yard - A system of tracks, other than main tracks and sidings, used for making up trains, storing cars and other purposes.

CSX 2017 Form 10-K p. 25

CSX CORPORATION

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2017 HIGHLIGHTS

• Revenue of $11.4 billion increased $339 million or three percent versus the prior year.

• Expenses of $7.7 billion increased $61 million or one percent year over year.

• Operating income of $3.7 billion increased $278 million or eight percent year over year.

• Operating ratio of 67.9 percent improved 150 basis points from 69.4 percent.

•	Earnings per diluted share of $5.99 increased $4.18 or 231 percent year over year.

Tax Reform

With the enactment of the Tax Cuts and Jobs Act (the "Act") on December 22, 2017, the federal corporate income tax rate was reduced from 35% to 21% effective January 1, 2018. The Company's 2017 financial results included a $3.5 billion, or $3.81 per share, non-cash reduction in income tax expense, primarily resulting from revaluing the Company's net deferred tax liabilities to reflect the recently enacted lower tax rate effective January 1, 2018. Beginning in 2018, CSX expects its effective federal and state income tax rate to be approximately 25%.

The Company's affiliates also revalued their deferred tax liabilities to reflect the lower federal corporate tax rate, which resulted in the Company recognizing a benefit of $142 million, or $0.10 per share after-tax, in equity earnings of affiliates, which is included in operating income. (See additional discussion over income taxes in Note 11, Income Taxes and equity earnings of affiliates in Note 12, Related Parties and Affiliates.)

Restructuring Charge

The total restructuring charge of $325 million in 2017 includes costs related to the management workforce reduction, executive retirements, reimbursement arrangements, the proration of equity awards and other advisory costs related to the leadership transition during the year. The Company expects estimated pre-tax savings on both future earnings and cash flows resulting from this program to be approximately $200 million per year. (See additional discussion over the restructuring charge in Note 1, Nature of Operations and Significant Accounting Policies.)

CSX 2017 Form 10-K p. 26

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RESULTS OF OPERATIONS

2017 vs. 2016 Results of Operations (a)

	Fiscal Years
	2017				2016				$ Change				% Change
(Dollars in Millions)
Revenue	$	11,408			$	11,069			$	339			3	%
Expense
Labor and Fringe	2,914				3,159				245				8
Materials, Supplies and Other	2,113				2,092				(21		)		(1	)
Depreciation	1,315				1,301				(14		)		(1	)
Fuel	864				713				(151		)		(21	)
Equipment and Other Rents	429				465				36				8
Restructuring Charge	325				—				(325		)		—
Equity Earnings of Affiliates	(219		)		(50		)		169				338
Total Expense	7,741				7,680				(61		)		(1	)
Operating Income	3,667				3,389				278				8
Interest Expense	(546		)		(579		)		33				6
Debt Repurchase Expense	—				(115		)		115				(100	)
Other Income - Net	21				46				(25		)		(54	)
Income Tax Benefit (Expense)	2,329				(1,027		)		3,356				327
Net Earnings	$	5,471			$	1,714			$	3,757			219
Earnings Per Diluted Share:
Net Earnings	$	5.99			$	1.81			$	4.18			231	%
Operating Ratio	67.9		%		69.4		%						150		bps

(a) Prior to third quarter 2017, CSX followed a 52/53 week fiscal reporting calendar and 2016 included 53 weeks. All 2016 information presented in Results of Operations is on a 53-week basis, under GAAP.

CSX 2017 Form 10-K p. 27

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2017 vs. 2016 Results of Operations, continued

Volume and Revenue (Unaudited) (a)
Volume (Thousands of units); Revenue (Dollars in Millions); Revenue Per Unit (Dollars)
	Volume									Revenue											Revenue Per Unit
	2017			2016			% Change			2017				2016				% Change			2017				2016				% Change
Chemicals	672			700			(4	)%		$	2,210			$	2,191			1	%		$	3,289			$	3,130			5	%
Automotive	457			482			(5	)%		1,195				1,261				(5	)%		2,615				2,616				—	%
Agricultural and Food Products	454			477			(5	)%		1,262				1,286				(2	)%		2,780				2,696				3	%
Minerals	308			310			(1	)%		477				464				3	%		1,549				1,497				3	%
Fertilizers	291			300			(3	)%		466				463				1	%		1,601				1,543				4	%
Forest Products	264			274			(4	)%		755				773				(2	)%		2,860				2,821				1	%
Metals and Equipment	256			259			(1	)%		703				704				—	%		2,746				2,718				1	%
Total Merchandise	2,702			2,802			(4	)%		7,068				7,142				(1	)%		2,616				2,549				3	%
Coal	855			838			2	%		2,107				1,833				15	%		2,464				2,187				13	%
Intermodal	2,843			2,811			1	%		1,799				1,726				4	%		633				614				3	%
Other	—			—			—	%		434				368				18	%		—				—				—	%
Total	6,400			6,451			(1	)%		$	11,408			$	11,069			3	%		$	1,783			$	1,716			4	%

(a) Prior to third quarter 2017, CSX followed a 52/53 week fiscal reporting calendar and 2016 included 53 weeks. All 2016 information presented in Results of Operations is on a 53-week basis, under GAAP.

CSX 2017 Form 10-K p. 28

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Revenue

In 2017, revenue increased $339 million when compared to the previous year, primarily due to gains in export coal, price increases across nearly all other markets and fuel recovery, partially offset by the $178 million impact of an extra fiscal week in 2016 and lower merchandise volumes. Revenue per unit increased over prior year as pricing gains and higher fuel recoveries were partially offset by unfavorable mix.

Merchandise

Chemicals - Volume declined, primarily due to sustained challenges in the Eastern crude-by-rail market. This decline offset an increase in shipments of frac sand and petroleum gases due to growth in drilling activity.

Automotive - Volume declined as North American vehicle production fell.

Agricultural and Food Products - Volume declined due to challenges in the export market as well as a large southeastern grain crop leading to local truck sourcing to feed mills.

Minerals - Volume slightly declined as short-term competitive losses were mostly offset by growth in construction project activity.

Fertilizers - Volume declined, primarily driven by the closure of a customer facility as well as Hurricane Irma’s impact on Central Florida phosphate operations.

Forest Products - Volume declined as the decrease in shipments of paper products as a result of mill closures and truck competition was partially offset by strong pulp board volumes driven by e-commerce demand.

Metals and Equipment - Volume slightly declined as a nonrecurring 2016 benefit from large pipe projects was partially offset by increases in equipment moves.

Coal

Domestic - Utility coal volume declined 12 percent as the competitive loss of short-haul interchange traffic more than offset underlying growth at other utilities. Coke, Iron Ore and Other volume declined 13 percent, primarily in iron ore shipments, as a large customer temporarily halted its production.

Export - Volume increased 42 percent as global supply levels and pricing conditions supported strong growth in U.S. coal exports.

Intermodal

Domestic - Volume declined 2 percent as rationalization of low-density lanes and competitive losses more than offset growth with existing customers.

International - Volume was up 7 percent driven by competitive gains and strong performance with existing customers as eastern port volumes increased.

Other

Other revenue increased $66 million versus prior year primarily due to a $58 million settlement in 2017 related to a customer that did not meet historical volume commitments and higher incidental charges.

CSX 2017 Form 10-K p. 29

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Expense

In 2017, total expenses increased $61 million, or one percent, 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 $245 million due to the following items:

•	Efficiency and volume savings of $274 million were driven primarily by reductions in overall headcount and other effects of implementing scheduled railroading as well as the impacts of the 2017 restructuring initiative, slightly offset by higher volume-related costs.

•	Pension costs decreased $66 million primarily due to adoption in 2017 of the spot rate approach for measuring service and interest costs, prior year contributions and other favorable plan experience.

•	The extra fiscal week in 2016 resulted in $51 million of additional cost compared to 2017.

•	Inflation resulted in $152 million of additional cost driven by increased health and welfare costs and wage increases.

•	Various other costs decreased $6 million.

Materials, Supplies and Other expenses consist primarily of contracted services to maintain infrastructure and equipment, terminal and coal pier services and 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 expenses increased $21 million driven by the following:

•	Real estate gains were $14 million in 2017 compared to $115 million in 2016 related to the sale of an operating property and other related income. (See additional discussion of real estate gains in the Equity Earnings of Affiliates section below.)

•	Inflation resulted in $37 million of additional cost.

•	Asset impairments of $25 million resulted from the discontinuation of certain in-progress projects as a result of transition to scheduled railroading.

•	Relocation costs increased $19 million, which includes the impact of the Company’s initiative to consolidate dispatchers.

•	Additional expense of $13 million resulted from train accidents during the year.

•	Efficiency and volume savings of $152 million are primarily related to lower maintenance costs from the reduction in the active locomotive fleet, lower operating support costs and a reduction in contingent workers.

•	Favorable judgments resulted in compensation to CSX for previously condemned properties, reflecting gains of $73 million.

•	The extra week in 2016 resulted in $18 million of additional cost compared to 2017.

•	Other costs increased $69 million due to various non-significant items.

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 $14 million due to a larger asset base, partially offset by $25 million of additional costs in 2016 from the extra week compared to 2017.

CSX 2017 Form 10-K p. 30

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Fuel expense includes locomotive diesel fuel as well as non-locomotive fuel. This expense is largely driven by the market price and locomotive consumption of diesel fuel. Fuel expense increased $151 million driven by the following:

•	A 24 percent increase in the average fuel price per gallon, from $1.48 to $1.84 per gallon versus the prior year, drove $154 million in increased fuel expense.

•	The extra week in 2016 resulted in $15 million of additional cost compared to 2017.

•	Other costs increased $12 million primarily due to increased fuel expense for non-locomotive fuel, partially offset by efficiency and volume savings.

Equipment and Other expenses include 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, offices and other rentals. These expenses decreased $36 million driven by the following:

•	The extra week in 2016 resulted in $7 million of additional cost compared to 2017.

•	Other costs decreased $29 million primarily due to the reclassification of rental income from other non-operating to operating income in 2017, partially offset by inflation.

Restructuring Charge of $325 million includes costs related to restructuring activities in 2017, including the management workforce reduction, executive retirements, reimbursement arrangements, the proration of equity awards and other advisory costs related to the leadership transition.

Equity Earnings of Affiliates includes earnings from operating equity method investments. Equity earnings of affiliates increased $169 million primarily due to the following:

•	Tax reform resulted in a $142 million increase in earnings (primarily related to TTX and Conrail).

•	Real estate gains of $16 million were recognized on the sale of a property owned by one of the Company's equity affiliates.

•	Other increases were primarily due to increased equity earnings from affiliates, primarily TTX as a result of higher rental volumes and decreased costs.

Interest Expense includes interest on long-term debt, equipment obligations and capital leases. Interest expense decreased $33 million to $546 million due to lower average interest rates and $11 million of additional expense in 2016 related to the extra week, partially offset by higher average debt balances.

Debt Repurchase Expense includes costs associated with the extinguishment of debt. These costs

decreased $115 million due to the repurchase of notes in 2016 that did not repeat in the current year.

Other Income (Expense) - net includes investment gains and losses, certain non-operating equity earnings or losses and other non-operating activities. Other income decreased $25 million to $21 million primarily due to the reclassification of real estate activities from other non-operating to operating income in 2017.

Income Tax Benefit (Expense) decreased $3.4 billion from an expense of $1.0 billion in 2016 to a benefit of $2.3 billion in 2017 primarily due to a $3.5 billion non-cash reduction in income tax mostly resulting from the revaluation of the Company's net deferred tax liabilities to reflect the recently enacted 21 percent federal corporate tax rate. This reduction was partially offset by additional income tax expense resulting from increased earnings before income taxes.

Net Earnings increased $3.8 billion to $5.5 billion, and earnings per diluted share increased $4.18 to $5.99, due to the factors mentioned above, including the significant impact of tax reform. Lower average shares outstanding resulting from higher share repurchase activity had a positive impact on earnings per diluted share.

CSX 2017 Form 10-K p. 31

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2016 vs. 2015 Results of Operations(a)

	Fiscal Years
	2016				2015				$ Change				% Change
(Dollars in Millions)
Revenue	$	11,069			$	11,811			$	(742	)		(6	)%
Expense
Labor and Fringe	3,159				3,290				131				4
Materials, Supplies and Other	2,092				2,356				264				11
Depreciation	1,301				1,208				(93		)		(8	)
Fuel	713				957				244				25
Equipment and Other Rents	465				456				(9		)		(2	)
Equity Earnings of Affiliates	(50		)		(40		)		10				25
Total Expense	7,680				8,227				547				7
Operating Income	3,389				3,584				(195		)		(5	)
Interest Expense	(579		)		(544		)		(35		)		(6	)
Debt Repurchase Expense	(115		)		—				(115		)		—
Other Income - Net	46				98				(52		)		(53	)
Income Tax Expense	(1,027		)		(1,170		)		143				12
Net Earnings	$	1,714			$	1,968			$	(254	)		(13	)
Earnings Per Diluted Share:
Net Earnings	$	1.81			$	2.00			$	(0.19	)		(10	)%
Operating Ratio	69.4		%		69.7		%						30		bps

(a) Prior to third quarter 2017, CSX followed a 52/53 week fiscal reporting calendar. Fiscal year 2016 included 53 weeks and fiscal year 2015 included 52 weeks. All 2016 information presented in Results of Operations is on a 53-week basis, under GAAP.

CSX 2017 Form 10-K p. 32

CSX CORPORATION

PART II

2016 vs. 2015 Results of Operations, continued

Volume and Revenue (Unaudited)(a)
Volume (Thousands of units); Revenue (Dollars in Millions); Revenue Per Unit (Dollars)
	Volume									Revenue											Revenue Per Unit
	2016			2015			% Change			2016				2015				% Change			2016				2015				% Change
Chemicals	700			726			(4	)%		2,191				2,284				(4	)%		3,130				3,146				(1	)%
Automotive	482			450			7			1,261				1,175				7			2,616				2,611				—	%
Agricultural and Food Products	477			503			(5	)		1,286				1,345				(4	)		2,696				2,674				1	%
Minerals	310			306			1			464				459				1			1,497				1,500				—	%
Fertilizers	300			301			—			463				489				(5	)		1,543				1,625				(5	)%
Forest Products	274			290			(6	)		773				796				(3	)		2,821				2,745				3	%
Metals and Equipment	259			284			(9	)		704				723				(3	)		2,718				2,546				7	%
Total Merchandise	2,802			2,860			(2	)		7,142				7,271				(2	)		2,549				2,542				—	%
Coal	838			1,063			(21	)		1,833				2,300				(20	)		2,187				2,164				1	%
Intermodal	2,811			2,838			(1	)		1,726				1,762				(2	)		614				621				(1	)%
Other	—			—			—			368				478				(23	)		—				—				—	%
Total	6,451			6,761			(5	)%		$	11,069			$	11,811			(6	)%		$	1,716			$	1,747			(2	)%

(a) Prior to third quarter 2017, CSX followed a 52/53 week fiscal reporting calendar. Fiscal year 2016 included 53 weeks and fiscal year 2015 included 52 weeks. All 2016 information presented in Results of Operations is on a 53-week basis, under GAAP.

CSX 2017 Form 10-K p. 33

CSX CORPORATION

PART II

Revenue

In 2016, revenue decreased $742 million, or six percent, due to a five percent decline in volume (including the $178 million positive impact of an extra week of volume) and a significant decline in fuel recoveries, partially offset by increased pricing.

Merchandise

Chemicals - Volume declined as energy market headwinds significantly reduced crude oil and frac sand shipments. This reduction was partially offset by the ramp up of a fly ash remediation project and a modest increase in core chemical markets.

Automotive - Volume increased as a result of strong North American light vehicle production and growth across several customers. Additionally, movement of trucks and SUVs continued to outpace passenger cars, consistent with customer buying patterns.

Agricultural and Food Products - Volume declined as the strong U.S. dollar continued to support import grain and a robust Southeastern crop spurred additional local truck sourcing, displacing grain shipments by rail. Additionally, ethanol market dynamics shifted to favor the Gulf region for storage and export, precluding CSX from participation in shipments from Western origins to the Gulf.

Minerals - Volume was up slightly due to strong gains in aggregates (which include crushed stone, sand and gravel), particularly for highway and non-residential construction in southern markets. The growth was partially offset by headwinds in salt and lime, reflecting mild winter weather and steel production challenges, respectively.

Fertilizers - Volume was flat as the strong U.S. dollar, which drove high levels of imported sulfur, displaced rail transport, and nitrogen demand fell in anticipation of further commodity price deterioration. This offset growth in phosphate rock, driven by operational efficiency that allowed for additional rail traffic conversion that would otherwise move by truck.

Forest Products - Volume declined as headwinds from electronic substitution and reduced paper products demand drove industry consolidation that reduced rail volume. Further, excess truck capacity in 2016 captured some volume that traditionally moved by rail.

Metals and Equipment - Volume was down as the strong U.S. dollar allowed for continued high levels of steel imports, which led to reduced domestic steel production, mill closures and the loss of associated rail moves. These declines were partially offset by strength in the wind-energy and power generation markets.

Coal

Domestic - Volume declined 23 percent as mild winter weather in the beginning of the year and low natural gas prices reduced utility coal burn rates and resulted in inflated coal stockpiles. Further, the weak domestic integrated steel market drove volume decreases in coke.

Export - Volume was down 15 percent in both metallurgical and thermal coal as a result of the strong U.S. dollar and global oversupply which impacted U.S. competitiveness in the world market, particularly in the first half of the year.

CSX 2017 Form 10-K p. 34

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Intermodal

Domestic - Volume increased 4 percent as secular growth and new service offerings were partially offset by excess truck capacity headwinds and a short-haul competitive loss.

International - Volume declined 9 percent as headwinds from competitive losses more than offset moderate growth across other customers.

Other

Other revenue decreased $110 million versus prior year primarily due to payments received in 2015 from customers that did not meet volume commitments. Further decreases in incidental revenue as well as lower coal revenue from affiliates were partially offset by adjustments to revenue reserves.

CSX 2017 Form 10-K p. 35

CSX CORPORATION

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Expense

In 2016, total expenses decreased $547 million, or seven percent, compared to prior year. Descriptions of each expense category as well as significant year-over-year changes are described below. Year-over-year changes related to the extra week are estimated incremental expenses of $116 million incurred for the week of December 24 through December 30, 2016.

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 $131 million due to the following items:

•	Efficiency savings of $249 million were driven by lower T&E and operating support costs as a result of structural changes, reduced crew training and the Company's train length initiative that began in the second quarter of 2015.

•	Volume-related costs were $116 million lower.

•	Incentive compensation was $111 million higher reflecting the expected award payouts on existing plans.

•	Inflation resulted in $106 million of additional cost driven by increased health and welfare costs.

•	The extra week resulted in $51 million of additional cost.

•	Restructuring costs decreased $37 million due to the 2015 workforce reduction initiatives costs that nearly all occurred in 2015.

•	Various other costs increased $3 million.

Materials, Supplies and Other expenses consist primarily of contracted services to maintain infrastructure and equipment, terminal and coal pier services and 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 expenses decreased $264 million driven by the following:

•	Real estate gains increased $98 million primarily related to a current year gain of $115 million related to the sale of an operating property and other related income partially offset by a prior year real estate gain.

•	Efficiency savings of $95 million were primarily related to lower operating support costs driven by structural changes and broad cost containment.

•	Train accident and casualty costs were $70 million lower due to the continuing declines in the severity of train accidents as well as injuries.

•	Inflation resulted in $34 million of additional costs.

•	The extra week resulted in $18 million of additional cost.

•	Volume-related costs were $11 million lower.

•	Various other costs decreased $42 million.

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 $93 million due to a larger asset base and the $25 million impact of the extra week in 2016.

CSX 2017 Form 10-K p. 36

CSX CORPORATION

PART II

Fuel expense includes locomotive diesel fuel as well as non-locomotive fuel. This expense is largely driven by the market price and locomotive consumption of diesel fuel. Fuel expense decreased $244 million driven by the following:

•	Average fuel price per gallon decreased 18 percent, from $1.80 to $1.48 per gallon versus the prior year, which reduced expenses by $137 million.

•	Efficiency savings of $60 million were primarily related to locomotive fuel reduction technology and process improvement.

•	Volume-related costs were $58 million lower.

•	The extra week resulted in $15 million of additional cost.

•	Various other costs decreased $4 million.

Equipment and Other expenses include 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, offices and other rentals. These expenses increased $9 million driven by the following:

•	Inflation resulted in $18 million of additional cost primarily related to rates on automotive freight cars.

•	Volume related costs were $14 million higher due primarily to growth in automotive volume.

•	The extra week resulted in $7 million of additional cost.

•	Efficiency savings of $23 million were due to improved car cycle times.

•	Net other costs decreased $7 million.

Equity Earnings of Affiliates increased $10 million primarily as a result of higher rental volumes and decreased costs at TTX.

Interest Expense increased $35 million to $579 million due to higher average debt balances in addition to $11 million of additional expense related to the extra week in 2016, partially offset by lower average interest rates.

Debt Repurchase Expense increased to $115 million due to the repurchase of certain notes that were expected to mature in 2017, 2018 and 2019.

Other Income (Expense) - net decreased $52 million to $46 million primarily due to a prior year $59 million gain on a sale of non-operating easements and reimbursement of environmental costs of $21 million related to this sale. This decrease was partially offset by other non-operating items, none of which were individually significant.

Income Tax Expense decreased $143 million to $1.0 billion primarily due to lower earnings.

Net Earnings decreased $254 million to $1.7 billion, and earnings per diluted share decreased $0.19 to $1.81 due to the factors mentioned above. Lower average shares outstanding resulting from higher share repurchase activity had a positive impact on earnings per diluted share.

CSX 2017 Form 10-K p. 37

CSX CORPORATION

PART II

Non-GAAP Measures - Unaudited

CSX reports its financial results in accordance with United States generally accepted accounting principles ("GAAP"). CSX also uses certain non-GAAP measures that fall within the meaning of Securities and Exchange Commission Regulation G and Regulation S-K Item 10(e), which may provide users of the financial information with additional meaningful comparison to prior reported results. Non-GAAP measures do not have standardized definitions and are not defined by GAAP. Therefore, CSX’s non-GAAP measures are unlikely to be comparable to similar measures presented by other companies. The presentation of these non-GAAP measures should not be considered in isolation from, as a substitute for, or as superior to the financial information presented in accordance with GAAP. Reconciliations of non-GAAP measures to corresponding GAAP measures are below.

Adjusted Operating Results

Management believes that adjusted operating income, adjusted operating ratio, adjusted net earnings and adjusted net earnings per share, assuming dilution are important in evaluating the Company’s operating performance and for planning and forecasting future business operations and future profitability. These non-GAAP measures provide meaningful supplemental information regarding operating results because they exclude certain significant items that are not considered indicative of future financial trends.

The restructuring charge of $325 million was tax effected using rates reflective of the applicable tax amounts for each component of the charge. The $3.6 billion benefit to net earnings resulting from tax reform was comprised of a $3.5 billion (after-tax) reduction to income tax expense and a $142 million (pre-tax) benefit in operating income from equity earnings of affiliates, partially offset by $1 million (pre-tax) of additional expense from minority interests.

		For the Year ended December 31, 2017
(in millions, except operating ratio and net earnings per share, assuming dilution)		Operating Income				Operating Ratio			Net Earnings				Net Earnings Per Share, Assuming Dilution
GAAP Operating Results		$	3,667			67.9	%		$	5,471			$	5.99
Restructuring Charge		325				(2.8	)%		203				0.22
Tax Reform Benefit (net)		(142		)		1.2	%		(3,577		)		(3.91		)
Adjusted Operating Results (non-GAAP)		$	3,850			66.3	%		$	2,097			$	2.30

CSX 2017 Form 10-K p. 38

CSX CORPORATION

PART II

Adjusted Free Cash Flow

Free cash flow is considered a non-GAAP financial measure under SEC Regulation G and Regulation S-K Item 10(e). Management believes that free cash flow is useful to investors as it is important in evaluating the Company’s financial performance. More specifically, free cash flow measures cash generated by the business after reinvestment. This measure represents cash available for both equity and bond investors to be used for dividends, share repurchases or principal reduction on outstanding debt. 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. Free cash flow before dividends increased $854 million year-over-year to $1.7 billion. The increase in free cash flow from the prior year is primarily due to lower property additions of $358 million, voluntary contributions to the Company's qualified pension plans of $250 million in 2016 and higher earnings from operations. Adjusted free cash flow excludes the impact cash payments of $135 million for restructuring charge.

The following table reconciles cash provided by operating activities (GAAP measure) to free cash flow (non-GAAP measure).

	Fiscal Years
	2017				2016				2015
(Dollars in Millions)
Net cash provided by operating activities	$	3,472			$	3,041			$	3,370
Property additions	(2,040		)		(2,398		)		(2,562		)
Other investing activities	134				204				184
Free Cash Flow (before payment of dividends)	$	1,566			$	847			$	992
Add back: Cash Payments for Restructuring Charge (after-tax) (a)	$	135			$	—			$	—
Adjusted Free Cash Flow Before Dividends (non-GAAP)	$	1,701			$	847			$	992

(a) The restructuring charge impact to free cash flow was tax effected using the applicable tax rate of the charge. Through fourth quarter 2017, the Company made cash payments of $187 million related to the restructuring charge. The Company also made $30 million in payments to the former CEO, Michael J. Ward, and President, Clarence E. Gooden, for previously accrued non-qualified pension benefits that are not included in the restructuring charge.

CSX 2017 Form 10-K p. 39

CSX CORPORATION

PART II

Operating Statistics (Estimated)

	Fiscal Years
	2017			2016			Improvement/ (Deterioration)
Safety
FRA Personal Injury Frequency Index	1.19			1.05			(13	)%
FRA Train Accident Rate	3.17			2.83			(12	)
Operations Performance
Train Velocity (Miles per hour)(a)	15.1			14.9			1
Dwell (Hours)(a)	11.3			11.4			1
On-Time Originations	80	%		84	%		(5	)
On-Time Arrivals	56	%		55	%		2

(a) The methodology for calculating train velocity and dwell differ from that prescribed by the STB. CSX will continue to report train velocity and dwell, using the prescribed methodology, to the STB on a weekly basis.

Certain operating statistics are estimated and can continue to be updated as actuals settle.

Key Performance Measures 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.

Train Velocity - Average train speed between origin and destination in miles per hour (does not include locals, yard jobs, work trains or passenger trains).

Dwell - Average amount of time in hours between car arrival to and departure from the yard.

On-Time Originations - Percent of scheduled road trains that depart the origin yard on-time or ahead of schedule.

On-Time Arrivals - Percent of scheduled road trains that arrive at the destination yard on-time.

The Company measures and reports safety and service performance. The Company strives for continuous improvement in these measures through training, innovation and investment. Investment in training and technology also is designed to allow CSX employees to have an additional layer of protection that can detect and avoid many types of human factor incidents. The Company's safety programs are designed to prevent incidents that can adversely impact employees, customers and communities. Continued capital investment in the Company's assets, including track, bridges, signals, equipment and detection technology also supports safety performance.

CSX’s FRA reportable personal injury frequency index of 1.19 for the full year of 2017 was 13 percent unfavorable versus the prior year as man-hours fell by nine percent while overall injuries were up slightly. While the FRA train accident frequency rate increased year-over-year, overall FRA train accidents remained flat and train miles decreased 12 percent year-over-year. CSX remains committed to ongoing safety improvement, with a focus on reducing injury severity and avoiding catastrophic events.

In order to more accurately represent the Company’s operating performance, CSX revised the way it calculates train velocity and terminal dwell effective third quarter 2017. These revisions are consistent with the principles of scheduled railroading. Updated definitions for each key performance measure are included beneath the Operating Statistics table. Prior periods have been restated to conform to the current methodology. Details of the changes are as follows:

•	Train velocity has been expanded to include intermediate dwell, now measuring end-to-end transit time.

•	Dwell has been expanded to include car dwell time at terminals on through trains, now measuring all car dwell time on an end-to-end trip.

CSX 2017 Form 10-K p. 40

CSX CORPORATION

PART II

These revisions differ from the methodology prescribed by the Surface Transportation Board ("STB") for reporting train velocity and dwell. CSX will continue to report train velocity and dwell to the STB on a weekly basis using the prescribed methodology. At the STB's request, CSX is providing additional operating measures on a weekly basis that are available on the Company's website.

CSX’s operating performance improved versus the prior year in certain categories as network fluidity challenges in the third quarter of 2017 were offset by substantial improvement from the implementation of scheduled railroading and a balanced train plan. Going forward, CSX remains focused on executing the operational plan to deliver further service gains, improve transit times and drive asset utilization while controlling costs.

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 address regulatory and legislative requirements. 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 capital for the benefit of its shareholders, which includes investments in infrastructure, dividend payments and share repurchases.

Total assets as well as total liabilities and shareholders' equity increased $325 million from prior year. The increase in assets was driven by higher net properties of $614 million resulting from capital investment and an increase in affiliates and other companies of $160 million primarily resulting from the benefits of recent tax reform. These increases were partially offset by a decrease in cash and short-term investments of $601 million. The increase in total liabilities and shareholders' equity combined was driven by net earnings of $5.5 billion, partially offset by the decrease in deferred income taxes of $3.2 billion as a result of recent tax reform and share repurchases of $2.0 billion.

Significant Cash Flows

The following charts present net cash provided by (used in) operating, investing and financing activities for full years 2017, 2016 and 2015.

CSX 2017 Form 10-K p. 41

CSX CORPORATION

PART II

Sources of Cash

The Company has multiple sources of cash. First, the Company generates cash from operations. In 2017, the Company generated $3.5 billion of cash provided by operating activities which was $431 million higher than prior year primarily driven by $250 million in voluntary contributions in 2016 to the Company's qualified pension plans and higher net earnings, partially offset by payments related to restructuring activities. In 2016, the Company generated $3.0 billion of cash provided by operating activities which was $329 million lower than 2015 primarily driven by $250 million in voluntary contributions to the Company's qualified pension plans.

Second, CSX has access to numerous financing sources including a $1 billion five-year unsecured revolving credit facility that expires in May 2020. 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.

Third, CSX filed a new shelf registration statement with the SEC in February 2016 which is unlimited as to amount and may be used to issue debt or equity securities at CSX’s discretion, subject to market conditions and CSX Board authorization. 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.

Uses of Cash

CSX continued to invest in its business to create long-term value for shareholders. In 2017, net cash used in investing activities was $1.5 billion, a decrease of $303 million from the prior year primarily driven by lower property additions. In 2016, net cash used in investing activities was $1.8 billion, a decrease of $1.1 billion from 2015 primarily driven by lower net purchases of short-term investments and lower property additions.

The Company is committed to maintaining and improving its existing infrastructure and to positioning itself for long-term, profitable growth through optimizing network and terminal capacity. Funds used for property additions are further described below.

	Fiscal Years
Capital Expenditures (Dollars in Millions)	2017				2016				2015
Track	$	733			$	714			$	866
Bridges, Signals and Other	570				433				491
Total Infrastructure	1,303				1,147				1,357
Freight Cars	20				82				218
Capacity and Commercial Facilities	417				447				309
Regulatory (including PTC)	284				313				341
Locomotives	16				409				337
Total Property Additions	2,040				2,398				2,562
Cash paid for new assets using seller financing (a)	$	—			$	307			$	—
Total Capital Expenditures	$	2,040			2,705				2,562

(a)	In 2016, CSX made payments related to locomotive purchases made in 2015 using seller financing of $307 million.

CSX 2017 Form 10-K p. 42

CSX CORPORATION

PART II

Planned capital investments for 2018 are expected to be $1.6 billion, including about $200 million for PTC. Of the 2018 investment, the majority will be used to sustain the core infrastructure. The remaining amounts will be allocated to projects supporting productivity initiatives, service enhancements and profitable growth. CSX intends to fund capital investments through cash generated from operations.

The Company expects to continue incurring significant capital costs in connection with the implementation of PTC. CSX estimates that the total multi-year cost of PTC implementation will be approximately $2.4 billion. This estimate includes costs for installing the new system along tracks, upgrading locomotives, adding communication equipment and developing new technologies. Total PTC spending through 2017 was $2.0 billion.

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 April 2017, the Company announced an 11 percent increase in the quarterly cash dividend to $0.20 per common share. In 2017, net cash used in financing activities was $2.2 billion, which represents an increase in spending of $911 million from the prior year primarily driven by higher share repurchases and lower net debt issued, partially offset by the repayment of seller-financed assets in the prior year. In 2016, net cash used in financing activities was $1.3 billion, which represents an increase in spending of $749 million from 2015 primarily driven by the repayment of seller-financed assets, higher share repurchases, and lower net debt issued.

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 which 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).

Liquidity and Working Capital

Currently, CSX is well positioned from a liquidity standpoint. The Company ended the year with $419 million 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 May 2020 and as of the date of this filing, the Company has no outstanding balances under this facility. Additionally in 2017, CSX issued a total of $850 million of new long-term debt. CSX uses current cash balances for general corporate purposes, which may include repayment of additional indebtedness outstanding from time to time, repurchases of CSX's common stock, capital investments, working capital requirements and improvements in productivity and other cost reduction initiatives. See Note 9, Debt and Credit Agreements.

With the enactment of the Tax Cuts and Jobs Act (the "Act") on December 22, 2017, the federal corporate income tax rate was reduced from 35% to 21% effective January 1, 2018. Beginning in 2018, CSX expects its effective federal and state income tax rate to be approximately 25%.

The Company has a receivables securitization facility with a three-year term scheduled to expire in September 2019. The purpose of this facility is to provide an alternative to commercial paper and a low cost source of short-term liquidity of up to $200 million, depending on eligible receivables balances. 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.

CSX 2017 Form 10-K p. 43

CSX CORPORATION

PART II

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 $21 million at December 2017 and $447 million at December 2016. This decrease since year end is primarily due to shares repurchases of $2.0 billion, cash paid for property additions of $2.0 billion and dividends paid of $708 million. These working capital decreases were partially offset by cash provided by operating activities of $3.5 billion and new debt issued of $850 million.

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. CSX is currently reviewing its cash deployment strategy with respect to capital structure and shareholder distributions.

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 long-term credit ratings. CSX's credit ratings remained stable during 2017. As of December 2017 and December 2016, S&P's long-term rating on CSX was BBB+ (Stable), and Moody's was Baa1 (Stable). 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. The Company is committed to maintaining an investment grade credit rating. 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.

CSX 2017 Form 10-K p. 44

CSX CORPORATION

PART II

SCHEDULE OF CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS

The following tables set forth maturities of the Company's contractual obligations and other significant commitments:

Type of Obligation	2018			2019			2020			2021			2022			Thereafter			Total
(Dollars in Millions) (Unaudited)
Contractual Obligations
Total Debt (See Note 9)	$	19		$	18		$	745		$	371		$	162		$	10,494		$	11,809
Interest on Debt	550			549			537			498			484			7,953			10,571
Purchase Obligations (See Note 7)	290			229			253			258			258			2,929			4,217
Other Post-Employment Benefits (See Note 8) (a)	53			43			41			39			36			145			357
Operating Leases - Net (See Note 7) (b)	38			34			20			15			11			74			192
Agreements with Conrail (See Note 12) (b)	27			27			27			27			27			48			183
Total Contractual Obligations	$	977		$	900		$	1,623		$	1,208		$	978		$	21,643		$	27,329
Other Commitments (c)	$	100		$	2		$	2		$	2		$	2		$	—		$	108

(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 $183 million under the shared asset area agreements (see Note 12, Related Party Transactions). These amounts plus total operating leases-net of $192 million above equals total net lease commitments of $375 million disclosed in Note 7, Commitments and Contingencies.

(c)

Other commitments of $108 million consisted of surety bonds, letters of credit, uncertain tax positions and public private partnerships. Surety bonds of $43 million and letters of credit of $30 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 2018 as the year of settlement cannot be reasonably estimated. Contractual commitments related to public-private partnerships are $11 million.

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.

LABOR AGREEMENTS

Approximately 20,000 of the Company's employees are members of a labor union. The U.S. Class I railroads have been in collective bargaining with rail labor unions since January 2015. On October 5, 2017, six rail unions making up the Coordinated Bargaining Group ("CBG") reached a National Agreement with the railroads, effective January 1, 2015 through December 31, 2019. On January 23, 2018, the Transportation Communications International Union (TCU) and Brotherhood Railway Carmen (BRC) ratified new contract terms with the nation’s major freight railroads. Collectively, to date, approximately 70% of our employees have now ratified the national settlement terms. The Class I railroads will continue to bargain with the remaining 30 percent and expect to reach a settlement with some or all of the remaining unions in 2018.

Separately, in December 2014, CSXT reached a local agreement covering wages and work rules through 2019 with the Brotherhood of Locomotive Engineers and Trainmen, which represents approximately 20 percent of the union workforce of CSXT.

CSX 2017 Form 10-K p. 45

CSX CORPORATION

PART II

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. Significant estimates using management judgment are made for the following areas:

•	personal injury, environmental and legal reserves;

•	pension and post-retirement medical plan accounting;

•	depreciation policies for assets under the group-life method; and

•	income taxes.

Personal Injury, Environmental and Legal Reserves

Personal Injury

Personal Injury reserves of $168 million and $170 million for 2017 and 2016, represent liabilities for employee work-related and third-party injuries. CSXT retains an independent actuary to assist management in assessing the value of personal injury claims. 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. Actual results may vary from estimates due to the number, type and severity of the injury, costs of medical treatments and uncertainties in litigation. As a direct result of improvements in safety in recent years, the Company has experienced a downward trend in the severity of injuries which has resulted in a decrease in the estimate of costs per incident. For additional details, including a description of our related accounting policies, see Note 5, Casualty, Environmental and Other Reserves in the consolidated financial statements.

Environmental

Environmental reserves were $90 million and $95 million in 2017 and 2016, respectively. 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 214 environmentally impaired sites. The Company reviews its potential liability with respect to each site identified, 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.

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. For additional details, including a description of our related accounting policies, see Note 5, Casualty, Environmental and Other Reserves in the consolidated financial statements.

CSX 2017 Form 10-K p. 46

CSX CORPORATION

PART II

Critical Accounting Estimates, continued

Legal

The Company is involved in litigation incidental to its business and is a party to a number of legal actions and claims, various governmental proceedings and private civil lawsuits. The Company evaluates all exposures relating to legal liabilities at least quarterly and adjusts reserves when appropriate. 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. An unexpected adverse resolution of one or more of these items could have a material adverse effect on the Company's financial condition, results of operations or liquidity in that particular period. For additional details, including a description of our related accounting policies, see Note 5, Casualty, Environmental and Other Reserves in the consolidated financial statements. Additionally, 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. For employees hired prior to 2003, 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 2017, the projected benefit obligation for the Company’s pension plans was $3.0 billion.

In addition to these plans, the Company sponsors a post-retirement medical plan and a life insurance plan that provide certain benefits to full-time, salaried, management employees, hired prior to 2003, upon their retirement if certain eligibility requirements are met. Eligible retirees who are age 65 years or older (Medicare-eligible) are covered by a health reimbursement arrangement, which is an employer-funded account that can be used for reimbursement of eligible medical expenses. Eligible retirees younger than 65 years (non-Medicare eligible) are covered by a self-insured program partially funded by participating retirees. The life insurance plan is non-contributory. As of December 2017, the projected benefit obligation for the Company’s other post-retirement benefit plans was $250 million.

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 actuaries to compute the amounts of liabilities and expenses relating to these plans subject to the assumptions that the Company determines are appropriate based on historical trends, current market rates and future projections. These amounts are reviewed by management.

CSX 2017 Form 10-K p. 47

CSX CORPORATION

PART II

Critical Accounting Estimates, continued

Discount Rates

Discount rates affect the amount of liability recorded and the service and interest cost components 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.

Beginning in 2017, the Company measures the service and interest cost components of the net pension and post-retirement benefits expense by using individual spot rates matched with separate cash flows for each future year instead of a single weighted-average discount rate approach, which was used in prior years. The Company made this change to improve the correlation between projected pension and post-retirement benefit liability cash flows and the corresponding spot discount rates and to provide a more precise measurement of service and interest costs. Under the spot rate approach, individual spot discount rates along the same high quality corporate bonds yield curve used to measure the pension and post-retirement benefit liabilities are applied to the relevant projected cash flows at the relevant maturity. The calculated pension and post-retirement benefits liabilities are consistent under both the traditional and spot rate approaches. The Company accounted for this change on a prospective basis as a change in accounting estimate.

The weighted average discount rates used by the Company to value its 2017 pension and post-retirement obligations are 3.56 percent and 3.34 percent, respectively. For 2016, the weighted average discount rates used by the Company to value its pension and post-retirement obligations were 4.08 percent and 3.71 percent, 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 2017, the estimated duration of pensions and post-retirement benefits is approximately 12 years and seven 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.

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, the annual review may result in less frequent adjustment than other assumptions used in pension accounting. The long-term rate of return on plan assets used by the Company to value its benefit cost for the subsequent plan year was 6.75 percent in both 2017 and 2016.

CSX 2017 Form 10-K p. 48

CSX CORPORATION

PART II

Critical Accounting Estimates, continued

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 4.60 percent in both 2017 and 2016 to value its pension obligations.

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 determined by management.

2018 Estimated Pension and Post-retirement Expense

Net pension expense and post-retirement benefits expense for 2018 are expected to be a $7 million benefit and an $8 million expense, respectively. Net pension costs for 2018 are expected to be a $7 million benefit and include service cost expense of $35 million. Post-retirement benefits costs for 2018 are expected to be an $8 million expense and include service cost expense of $2 million. Service cost expense will be included in labor and fringe on the consolidated income statement. Net periodic pension expense and post-retirement benefits expense in 2017 was a $2 million benefit and a $9 million expense, respectively. The decrease in expense is primarily due to favorable pension asset experience, slightly offset by the decrease in discount rates.

The following sensitivity analysis illustrates the effects of a one percent change in certain assumptions like discount rates, long-term rate of return and salaries on the 2018 estimated pension and post-retirement expense:

(Dollars in Millions)		Pension Expense				Post-Retirement Expense
Discount Rate		$	12			$	1
Long-term Rate of Return		$	26			N/A
Salary Inflation		$	7			N/A

Depreciation Policies for Assets Utilizing the Group-Life Method

The depreciable assets of the Company are depreciated using either the group-life or straight-line method of accounting, which are both acceptable depreciation methods in accordance with GAAP. The Company depreciates its railroad assets, including main-line track, locomotives and freight cars, using the group-life method of accounting. Assets depreciated under the group-life method comprise 86% of total fixed assets of $44 billion on a gross basis at December 2017. The remaining depreciable assets of the Company, including non-railroad assets and assets under capital leases, are depreciated using the straight-line method on a per asset basis. Land is not depreciated.

CSX 2017 Form 10-K p. 49

CSX CORPORATION

PART II

Critical Accounting Estimates, continued

Management performs a review of depreciation expense and useful lives on a regular basis. Under the group-life method, 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. 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;

•	management's outlook on the future use of certain asset groups;

•	expected net salvage to be received upon retirement; and

•	comparison of assets to the same asset groups with other companies.

Recent experience with depreciation studies has resulted in depreciation rate changes that did not materially affect the Company’s annual depreciation expense of $1.3 billion, $1.3 billion and $1.2 billion for 2017, 2016 and 2015 respectively. A one percent change in the average life of all group-life assets would result in an approximate $12 million change to the Company’s annual depreciation expense. For additional details, including a more detailed description of our related accounting policies, see Note 6, Properties in 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 amount recognized in the financial statements from such a position is 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 2015. During 2017, the Company participated in a contemporaneous Internal Revenue Service (“IRS”) audit of tax years 2016 and 2017. 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 2017, the Company’s uncertain tax positions were $24 million.

New Accounting Pronouncements and Changes in Accounting Policy

See Note 1, Nature of Operations and Significant Accounting Policies under the caption, “New Accounting Pronouncements and Changes in Accounting Policy.”

CSX 2017 Form 10-K p. 50

CSX CORPORATION

PART II

FORWARD-LOOKING STATEMENTS

Certain statements in this report and in other materials filed with the Securities and Exchange Commission, 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, margins, 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, workforce levels, 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.

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.

CSX 2017 Form 10-K p. 51

CSX CORPORATION

PART II

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, international trade 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 or financial distress within the transportation industry generally;

•	the cost of compliance with laws and regulations that differ from expectations (including those associated with PTC implementation) as well as costs, penalties and operational and liquidity 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;

•	the impact of global supply and price of seaborne coal on CSX's export coal market;

•	availability of insurance coverage at commercially reasonable rates or insufficient insurance coverage to cover claims or damages;

•	the inherent business risks associated with safety and security, including the transportation of hazardous materials or a cybersecurity attack which would threaten the availability and vulnerability of information technology;

•	adverse economic or operational effects from actual or threatened war or terrorist activities and any governmental response;

CSX 2017 Form 10-K p. 52

CSX CORPORATION

PART II

•	loss of key personnel or the inability to hire and retain qualified employees;

•	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;

•	the impact of conditions in the real estate market on the Company's ability to sell assets;

•	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.