Shares have soared over 108% in the last 52 weeks, with an over 33% gain in 2017 alone. The company also throws off an annual dividend yield greater than 1.5% and boasts a substantial $45 billion-plus market cap.
Sounds like a miracle company, right? I know, when I first heard the above performance stats, I immediately thought this was some under-the-radar, high-tech hardware company quietly taking over its sector.
I was shocked to discover that this company is part of the oldest transportation industry in the United States, railroads. Other than hearing some chatter about Warren Buffett investing in the industry, I believed that railroad companies were simply too old school, slow, and close to dying off.
Boy, was I wrong!
In the United States, railroads are a $60 billion industry consisting of 140,000 miles of tracks. It is a highly monopolistic industry with nearly insurmountable barriers to entry for additional competitors.
According to the Federal Railroad Administration, the rail network makes up approximately 40% of U.S. freight moves by ton-miles (the length freight travels) and 16% by tons (the weight of cargo moved).
In general, bulk freight, such as grain and coal, ships in rail cars and consumer goods, such as items found at a neighborhood store, are transported in containers or trailers called intermodal traffic. Intermodal traffic refers to the transport of goods on trains before and after transfers from other modes of transportation such as planes, vessels, or trucks. It has been the fastest growing segment of the freight rail industry since 1980.
There has been consistent consolidation in the industry such that today only five major names remain. They are, listed in order of market cap from largest to smallest, the following:
1. Union Pacific Corporation (UNP)
2. Burlington Northern Santa Fe (Owned by Berkshire Hathaway Inc., BRK.A,BRK.B)
3. Norfolk Southern Corp. (NSC)
4. CSX Corporation (CSX)
5. Kansas City Southern (KSU)
The railroad company that has me excited about its upside potential is CSX Corporation. The fourth-largest out of five by market cap, CSX has made headlines recently as a potential activist shareholder campaign was made public on January 19. The stock soared over 20% on the news, attracting investor interest from across the board.
The news is that the Hunter Harrison, CEO of Canadian rail giant Canadian Pacific Railway, abruptly resigned and announced his plans to join with activist investor Paul Hilal to seek a leadership role with CSX.
Apparently, Mr. Harrison believes firmly in obtaining his new role with CSX. He walked away from over $80 million in compensation to take on the new position.
His longtime goal to operate one of North America’s largest railroads appears to be the motivation for the radical change…
He has proven himself as an adept and aggressive leader who made several attempts to acquire Norfolk Southern while rebuilding Canadian Pacific.
Morgan Stanley’s Ravi Shanker recently upgraded the shares and made the following (very bullish) statement.
“The blue-sky potential is likely to continue with the news today that Mr. E. Hunter Harrison will retire from Canadian Pacific and with the WSJ reporting that he is close to teaming up with an activist investor to target CSX…In the near term, given the potential activist interest, the stock is not likely to trade on fundamentals until a resolution, which drives our upgrade from UW to EW. Our PT goes from $24 to $37 or ~18x our FY18e EPS – above the peer group but close to the mid-point of the $56 bull scenario and $24 bear situation amongst the outcomes outlined above.”
Over and above the activist interest there are several reasons to be bullish on CSX for 2017 and beyond. The company suffered weakness in the coal and intermodal business in the last quarter due to a decline in shipped coal volume.
However, higher natural gas prices should act to increase coal demand and shipping quantities. Natural gas prices are expected to climb by over 40% in 2017 according to EIA data. When LNG exports are figured into the equation, it boosts coal even greater.
Next, low oil prices have hurt the company’s intermodal business, since over-the-road trucking firms became more competitive. According to the EIA, oil prices are expected to climb by over 20% this year, further shifting the competitive advantage to railroads.
Risks To Consider: The activism could fail, and oil prices remain low crushing the company’s bullishness.
Action To Take: Go long on an upside break of $48.00 per share. My target price is $57.00 per share, and initial stops are suggested at $43.73 per share.
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