Marcial: Union Pacific Stays On Track

The nation's largest railroad is gaining steam from a jump in shipments of energy and agricultural products and a healthy mix of customers

"All is well when the train is running on time." That saying is a reminder that the railroads are a vital part of our lives and the economy. And recent results from the largest U.S. railroad company, Union Pacific (UNP), have been right on track.

The beauty is that Union Pacific's stock has been a winner but hasn't become overheated. The stock reached a new 52-week high of 85.80 on Sept. 2, up from a low of 52.66 on Jan. 22. But it pulled back to 73 on Sept. 23, mainly because of the market's volatility amid the seismic shocks hitting the U.S. financial system.

Now some investors figure Union Pacific is again an attractive buy, with some saying the stock is easily worth 85 to 100 a share.

At its current price, the stock "presents a buying opportunity for investors looking to play the long-term opportunities ahead for Union Pacific," says Lee Klaskow of independent research outfit LongBow Research. He recently upgraded his rating to a buy from neutral and introduced a price target of 87 for the next six to 12 months. Klaskow also raised his 2008 earnings estimate to $4.26 a share from $4.16, and his 2009 forecast to $5.25 from $5. For 2010, he expects profits of $6.35 a share.

In spite of higher fuel costs and floods in June that brought rail traffic in the Midwest to a near halt, Union Pacific produced impressive results in the second quarter. Revenues jumped 12.5%, to $4.57 billion, from $4.41 billion a year ago. That exceeded expectations of $4.51 billion among analysts, who had expected the impact of the floods would be much greater. The results were helped by a 20% increase in shipments of agriculture and energy products, offsetting in part the weakness in shipments of cars and trucks.

Of course, the weakened economy could still play havoc with the volume of railroad traffic. Moreover, the risk of the economy slipping into a recession remains, notes Klaskow. But he is comforted by Union Pacific's revenue mix, roughly 56% of which is "defensive," or composed of traffic that needs to move regardless of the swings of the economy. "That should act as a ballast during these uncertain times," he says.

One positive factor is management's higher earnings forecast for the third quarter. As of Sept. 23, the company expects earnings for the quarter to be in the range of $1.28 to $1.33 a share, higher than a previously guided range of $1.10 to $1.20. The consensus analysts' estimate is $1.21. The prior guidance was based on a fuel price of $4 a gallon, vs. management's current estimate of $3.70 a gallon. And it appears lower diesel fuel costs should help offset any unexpected drop in traffic. Management hasn't yet given any earnings guidance for the full year.

David Silver of research firm Wall Street Strategies rates the railroad company a buy with a price of target of 100 a share. "We still think Union Pacific has room to grow earnings," says Silver, adding that investors in the railroad "cannot go wrong." He expects that through the end of the year, coal and agriculture shipments will continue to lead volume growth which, he says, should offset the weakness in the struggling housing and automotive industries.

At research firm Value Line (VALU), Union Pacific is ranked No. 1 for year-ahead relative price performance, a measure of a stock's weakness and strength. "Strong pricing and improved operational efficiency are sure to be the key drivers of bottom-line growth," says analyst Nils Van Liew. The company should be able to sustain double-digit earnings growth from 2011 through 2013, he adds.

That is more than can be said of many other companies in these times of financial stress and economic uncertainty. With Value Line's Timeliness Ranking System placing the railroad industry near the top of all industries the research firm covers, investors may indeed want to ride the strong earnings and stock price momentum that's buoying Union Pacific.

Unless otherwise noted, neither the sources cited in Gene Marcial's Stock Picks nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

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