Why Investors May Keep on Truckin'
By Heesun Wee
As market indexes try to rebound from a brutal losing streak, investors searching for pockets of safety might consider paying attention to road and railway stocks. Trucking companies such as J.B. Hunt, railroads like Union Pacific, and shipping companies including FedEx have been outperforming the broader market.
Through July 5, truckers in the Standard & Poor's 1,500-stock index gained 12.9% year-to-date, vs. a 14.8% drop in the S&P 500-stock index. Railroads added 10.1%, and airfreight companies were up 3% for the same period.
Since the beginning of July, 2001, the stocks of these companies -- which haul a variety of goods including parcels, clothes, cars, info-tech parts and components, and commodities like grain -- fell with the rest of the market. But with many share prices in these industries scaling back from recent 52-week highs and their multiples in the mid- and high-teens based on 2002 earnings estimates, the recent retreat represents a buying opportunity, Wall Street analysts argue.
"Some of the valuations are very attractive right now," says Rick Paterson, an analyst who follows railroads for UBS Warburg. Adds Thomas Albrecht, an analyst who covers truckers for BB&T Capital: "It's one of the few groups with strong earnings momentum."
For many investors, these Old Economy plays often have been associated with union disputes, missed on-time delivery goals, and the kind of consolidation that created more bottlenecks than synergies -- not exactly equity-market drivers. But within the past few years, the transportation companies have made operational improvements and business-strategy shifts that have led to more reliable and cost-effective service. Says Daniel Hemme, a railroad analyst for Prudential Securities: "We have a more lean and mean railroad industry."
And both the companies and their stocks may just be in the right place at the right time. Transportation stocks are benefiting from weary and suspicious investors, who want easy-to-understand companies with simple structures and balance sheets -- nothing resembling Enron or WorldCom. "It's a flight to quality and to relatively lower-risk companies that have a verifiable stream of earnings," says Jim Corridore, a transportation-industry equity analyst for S&P.
As transportation outfits get better at improving margins and building for growth, more businesses also are using their services. "The economy is becoming increasingly dependent on transportation because of business principles such as just-in-time delivery and inventory minimization," says Joerg Dittmer, a transportation and auto analyst for consultancy Frost & Sullivan. Of course, the improving transportation sector and the overall economy could take a hit if the broader market doesn't continue to stabilize in the near term, as it has done on the last few trading days.
RIDING THE RAILS.
One railroad favorite among analysts is Omaha-based Union Pacific (UNP ). On July 18, it reported a second-quarter net income of $304 million, or $1.15 a share, up more than 20%, vs. $243 million, or 95 cents a share, a year earlier. A key reason was the pickup in cargo revenues -- an indication the economy is showing signs of renewed strength. Roughly two-thirds of the rail business is driven by industrial production, which the Federal Reserve on July 16 reported had risen 0.8% in June, its sixth consecutive monthly increase.
UBS Warburg's Paterson forecasts more upside at Union Pacific, with 2002 rail revenues climbing 1.8% from 2001, to $11.02 billion, and 2002 income gaining 17% from 2001, to $1.1 billion. "It has the best franchise and the greatest momentum at present," adds Paterson, who has a buy rating on the stock (the second-highest rating, below strong buy) and a 12-month price target of $66. As of the closing bell on July 30, Union Pacific shares were trading at around $58, off 11% from their 52-week high of $65 hit in March.
Like railroad companies, "truckload" carriers, which move a single load at a time from point of origin to destination, have witnessed a pickup in freight volumes amid an anticipated economic recovery. By contrast, "less-than-truckloads," or LTLs as they're known in the industry, operate via a hub-like system that sees drivers make several stops between the first and final calls. While LTLs offer a premium service with higher margins, their business is also riskier.
Pricing for services also is expected to improve since nearly 9,000 truckload carriers -- many of them mom-and-pop outfits that represent more than 10% of the industry capacity -- have gone out of business during the past two years. So, with demand for trucking services poised to overcome the shrinking supply of carriers, the supply-demand balance is set for higher prices. Says Albrecht: "Pricing is on the cusp of being the best in some 20 years."
Albrecht prefers nonunion, truckload carriers, with Lowell (Ark.)-based JB Hunt Transport Services (JBHT ) among his top picks. He expects the outfit to record earnings per share (EPS) in 2002 of $1.35 -- a penny above the Wall Street consensus, according to First Call Thomson Financial, which tracks analysts' estimates. In 2001, JB Hunt reported net earnings of $33 million on operating revenues of $2.1 billion.
Meeting the Street's consensus would see 2002 results come in at more than double the 63 cents per share achieved a year ago. Shares of JB Hunt closed at $26on July 30. Albrecht says the stock could peak at $35 over the next 12 months -- above and beyond the recent 52-week high of $32 it achieved on June 19.
EYES ON FEDEX.
Truckers and railroad companies haven't been the only gainers in the transportation group. Shipping and airfreight operators also have been posting better returns than the overall market. Among analysts' top picks is FedEx (FDX ), based in Memphis.
Donald Broughton of AG Edwards cites the pace of top- and bottom-line growth potential at FedEx over the next year to 18 months. It has continued to make inroads in the ground-delivery business, having accumulated roughly one-fifth of the industry's market share while nipping at the heels of key competitor, Atlanta-based United Parcel Service (UPS ).
FedEx also has inked some smart deals, including one exclusive contract to transport priority mail for the U.S. Postal Service. The deal not only boosted FedEx' domestic business but also made use of previously idle assets because priority mail is moved during the daytime. Broughton has a strong buy rating on FedEx and 12-month price target of $68. The shares closed on July 30 at $49, still well below the 52-week high of $61 posted on Mar. 5.
WAIT AND SEE.
For all of the transportation sector's positives, some observers are more cautious. Prudential's Hemme, for example, has a hold rating on the group. He sees limited upside potential and expects that investors will rotate out of the sector. "Our anticipation," Hemme says, "is that the growth money will come out of these value-oriented stocks."
That said, the fact remains that railroads, truckers, and shipping outfits are solid businesses with simple balance sheets and strong growth prospects. Add affordable prices to that mix, and investors may want to consider some transportation names while they wait to see if the recent market gains mean the Street's turmoil really has run its course.
Wee covers financial markets for BusinessWeek Online in New York
Edited by Beth Belton