Bidness Etc

According to Bidness Etc’s analysis, Union Pacific stock might be looking at tough times ahead, however a rebound in the medium term is likely

Union Pacific Corporation (UNP) stock has lost 18.77% of its value year-to-date (YTD), last trading at $96.77 per share. The Dow Jones U.S. Railroads Index (DJUSRR), which tracks the movement of US listed railroad stocks, has lost 16.85% of its value in the same period.

The industry, and subsequently Union Pacific stock, has underperformed the broader equity markets since the beginning of the year, with the S&P500 Index having traded up by 2.07% YTD. A point illustrated by this downward sloping relative strength chart.

The industry has seen losses since the beginning of 2015 stemming from lower demand for transportation of commodities like coal and crude oil. Data collected by Bloomberg Intelligence showed that total carloads shipped by the industry during the week ending June 19 saw a year-over-year (YoY) slide of 2.60%, with 719,747 carloads moved during those seven days.

It is claimed the introduction of new crude-by-rail regulations by the Department of Transportation (DoT) have undermined stock performance. The industry has challenged the regulations which call for upgrades to rail cars, which some experts say are unnecessary.

These regulations are expected to increase costs for companies, if they want to continue transporting crude and other flammable liquids via rail. However, this poses the threat of railroad transportation losing its attractiveness, damaging demand.

Interestingly, the stock has underperformed peers during the YTD period as well, as we can see in the downward trajectory of the Union Pacific and Dow Jones US Railroads Index relative strength chart below.

The YTD underperformance of the stock compared to rivals stems from the size of the company and greater competition faced by Union Pacific. In terms of revenues, the company is the second largest railroad in the US, behind privately-owned Burlington Northern Santa Fe (BNSF). The company generated total revenues of $22.56 billion during fiscal year 2014, while the industry generated revenues of $88.80 billion.

During the week ended June 19, Union Pacific shipped 7.13% fewer carloads when compared to the same time last year. This shows less demand for Union Pacific services than compared to its rivals.

The slowdown in demand for the rail transportation of crude is a result of a national slowdown in production. Over the last two years, the country’s crude production reached record highs, increasing the demand for rail transportation. However, with the recent weakness in crude oil prices, production has pulled back.

1QFY15 Financial Performance

During the first quarter of the year, the business reported revenues had remained largely flat compared with the same period last year, showing a slight drop of 0.40%. The company generated first quarter fiscal 2015 (1QFY15) revenues of $5.61 billion.

Even as it recorded lower revenues its bottom line showed YoY growth during the quarter. The organization reported adjusted net income of $1.15 billion, 20.40% higher than reported in the same quarter last year.

On a per share basis, the company reported diluted earnings of $1.30, 9% higher than the earnings per share (EPS) reported during the first quarter of fiscal 2014 (1QFY14). The favorable movement of the bottom line, despite the slide at the top, led the operating ratio (a measure of operating expenses as a percentage of total revenues) to show a YoY improvement of 230 basis points (bps), eventually arriving at 64.80% for the 1QFY15.

The company’s 1QFY15 operating expenses declined 3.88% for the quarter, amounting to $3.64 billion.

Union Pacific put the lower revenues down to a 2% YoY shrinkage in total revenue carloads shipped during the quarter. This meant lower volumes of coal, industrial products, intermodal and chemicals (including crude) carried during the three month period. Demand for the transportation of automotive and agricultural products also slid at this point.

A report released in May by industry trade group, the Association of American Railroads, said the crude oil shipped by the industry had seen a YoY decline during the first quarter. 113,089 carloads were shipped, equivalent to 14% less crude oil compared to the same quarter last year.

Bottom Line Growth During 2QFY15?

Before the markets open on July 23, Union Pacific will post its second quarter fiscal 2015 (2QFY15) earnings. The Street believes the business will continue posting YoY growth in its bottom line. Analysts polled by Bloomberg forecast a 20.40% YoY growth in Union Pacific’s net earnings for the quarter, with the consensus predicting $1.15 billion.

However, the lower volumes are expected to persist during the second quarter. Analysts suspect another quarter of YoY revenue contraction lies ahead. They are predicting reported revenues of $5.72 billion in 2QFY15, 4.90% lower than that reported at the same point last year.

The company’s CFO, Robert M. Knight Jr., warned investors on May 21 that coal shipments had shown a 25% YoY slump in the first six weeks of the quarter. Mr. Knight said he did not expect a recovery in the shipments.

The company operations are expected to generate $1.71 billion in cash flow during the second quarter of the year, compared to $1.45 billion generated one year earlier. The YoY growth in cash flow leads analysts to forecast an improvement in profits despite a fall in revenues.

Street Bullish On The Stock

Most analysts polled by Bloomberg see upside potential on the stock. 24 of 30 analysts rate the stock a Buy, the remainder rate it a Hold. Analysts envision the stock will trade up to $119.96 per share, a potential upside of 23.71% over Friday’s closing price of $96.77.

In the long run the price-to-earnings multiple at which the stock is currently trading adds to confidence in a potential upside. Union Pacific stock is currently trading at 15.05x its projected twelve month earnings, at a 3.15% discount of the industry average twelve month blended forward P/E multiple of 15.54 times.

What The Short Interest Suggests

New York Stock Exchange short interest data for United Pacific stock, shows that 7.63 million company shares were shorted up until to June 15, compared to 6.06 million shares on May 29. This represents 0.88% of total shares in the float.

The increase in short interest points towards more investors believing the stock will trade down in the short-term. However, the low short interest as a percentage of total float suggest the majority of investors believe the stock will trade up.

Conclusion

In a nut shell, the prospects for Union Pacific look promising, even though its stock ending the year in the green is highly unlikely. The company has an ability to cut its costs and increase the earnings per share return for investors. BidnessEtc believes investors buying into the stock at current price levels will receive gains in the medium term.