by Douglas McIntyre | November 3, 2009 10:37 am
Warren Buffett’s acquisition today is probably going to represent a near-term and long-term valuation change in how the railroad sub-sector of the broader transportation sector is valued. Berkshire Hathaway (BRK-A) is spending some $44 billion if you include debt in the deal to acquire Burlington Northern Santa Fe (BNI).
A tell on this deal might have been that Buffett had acquired more because he had been selling put options in 2008 and 2009, and he was having shares put to him last year and this year at $75 and $80 strike prices. The trade is effectively done, and there is only a small arbitrage spread, so the real question now boils down to whether this sets a new valuation floor in railroads and whether it changes the valuation metrics for the remaining U.S. rail players.
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The $100 per share transaction value puts the valuations of a forward P/E ratio from Thomson Reuters of 20.5 times the $4.88 EPS estimate for 2009 and about 18.1 times the 2010 estimate of $5.52 EPS. The $34 billion implied equity price (not including the new debt) values BNSF at roughly 2.75 times tangible book value. These are only two of many metrics that can be used, but these are fairly simple. The issue over tangible book value is that it often leaves out most of the intangible assets if applicable, and it also does not take other issues into consideration.
Norfolk Southern (NSC) and Union Pacific Corp. (UNP) are both Buffett holdings inside Berkshire Hathaway, with stakes of 1.933 million shares and 9.55 million shares, respectively. Buffett also hinted that he was not going to boost his stake here in these two, and there is probably no chance that Buffett could go after these as well, due to financial leverage that Berkshire would not like to have and due to potential antitrust issues that could arise.
Norfolk Southern trades with a $17.8 billion market cap and trades at an implied 17.3 times 2009 estimates of $2.80 EPS and 14.1 times 2010 estimates of $3.43 EPS. It trades at roughly 1.8 times its tangible book value. Union Pacific trades with a $29.4 billion market cap and trades at an implied 16.5 times 2009 estimates of $3.54 EPS and 13.8 times 2010 estimates of $4.21 EPS. It also trades at roughly 1.8 times its tangible book value.
CSX Corp. (CSX) trades with a $17.8 billion market cap and trades at an implied 16.9 times 2009 estimates of $2.85 EPS and 13.9 times 2010 estimates of $3.27 EPS; and it trades at roughly 2 times its tangible book value.
Kansas City Southern (KSU) is very different in size and multiples, although some have felt for years that this could be an acquisition target. This smaller rail trades with a $2.4 billion market cap and trades at an implied 45 times 2009 estimates of $0.57 EPS and almost 23 times 2010 estimates of $1.12 EPS; and it trades at roughly 3 times its tangible book value.
These are only starting points for doing any real due diligence, but the Thomson Reuters estimates do at least start a form of a benchmark. One issue to consider for the premium of BNSF is because Buffett is suddenly paying what he feels is a full and fair price. Without knowing future maintenance and capital expenditure needs of each company, this is also hard to peg on a standalone basis. But it has to start somewhere, and this deal might set a new floor for valuing rail stocks.
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