Pricing Gains Help Union Pacific Results Keep Chugging Along

by Trefis Team
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UNP
Union Pacific Corporation
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    Quick Take 

  • Union Pacific’s net income rose by 10% in Q2 2013, on the back of 5% annual growth in revenue and 130 basis point annual improvement in operating ratio.
  • Overall volumes declined by 1% during the quarter on account of weakness in the agricultural and international intermodal segment.
  • We expect Union Pacific’s volume growth to accelerate in the second half of 2013, assuming continued recovery in the economy and a normal summer weather pattern. Hence, we think the company will deliver strong EPS growth in 2013.

Union Pacific Corporation (NYSE:UNP), one of the leading railroad networks in the U.S., posted net income of $1.1 billion in Q2 2013, which represented a y-o-y increase of 10%. The solid growth in net earnings was driven by 5% rise in operating revenue, coupled with improvement in operating ratio. Its operating ratio declined by 130 basis points annually to 65.7% in Q2. The revenue grew to $5.5 billion in Q2 primarily on account of core pricing gains, as the overall volumes dropped by 1% annually in Q2 2013.

Union Pacific saw weakness in the agricultural and intermodal businesses in Q2 2013, which was partially offset by strength in the chemicals and automotive businesses. Volumes for coal shipments and industrial products came in line with the previous year in Q2 2013. Union Pacific forecasts positive volume growth for the rest of the year, assuming continued growth in the economy and a normal summer weather pattern. [1]

We believe these results by Union Pacific are encouraging and the long-term outlook for the company is positive. We expect its volume growth to pick up in the second half of 2013, and combined with core pricing gains, Union Pacific could deliver another year of strong EPS growth in 2013. The company showed efficiency improvement during the quarter, and hence, we believe it is on track to achieve a sub-65 operating ratio by 2017.

See our complete analysis of Union Pacific here

Agricultural and intermodal segments presented headwinds in the second quarter

Union Pacific’s agricultural revenue declined by 8% annually in Q2 2013, on account of 10% drop in its volume, which was partially offset by 2% increase in average revenue per car within the segment. Its agricultural volumes declined mainly due to last year’s drought, which continued to impact grain carloadings and domestic feed grain shipments. Union Pacific estimates agricultural volumes to decline by a lower single-digit in Q3 due to the continued carryover from last year’s drought. [1] We believe the prospects in this market could improve in Q4 owing to higher anticipated crop output.

In line with our expectations, Union Pacific’s intermodal segment saw 1% revenue drop in Q2 on account of a 3% decline in its volumes. The volume decline was mainly driven by weakness in the international intermodal business due to lower imports to the West Coast. However, its domestic intermodal volumes rose by 3%, fueled by continued highway to rail conversions. [1] We believe the long-term outlook for the domestic intermodal segment is bright, owing to massive truck to rail conversion opportunities. We believe the volumes in the international intermodal segment could increase in the second half of 2013, with growth in the U.S. economy .

Automotive And Chemicals Segments Posted Strong Growth

Union Pacific’s chemicals segment saw 12% revenue growth during the quarter, mainly due to 10% rise in its volumes. Increased shipments of crude oil, residual fuel oil, asphalt, and fertilizers contributed to this strong performance. We expect continued strength in this business for the rest of the year, due to rising crude oil by rail transportation. However, difficult y-o-y comparisons could result in lower growth rate in the future.

UNP’s revenue from automotive shipments rose by 12% in Q2, on the back of 4% increase in its automotive volumes and 8% growth in average revenue per car within the segment. Strong growth in the U.S. auto sector, due to factors such as recovering economy, higher vehicular age, and new car models (having higher fuel efficiency) contributed to the high demand in this segment. We expect the strong demand in this segment to continue, however, the growth rate could be impacted by difficult y-o-y comparisons in the future.

Coal And Industrial Products Segments Saw Flat Volume Growth During Q2

While UNP’s coal segment saw flat volume growth during the quarter, its revenue rose by 12% as core pricing gains resulted in 12% increase in average revenue per car within the segment. This represents a recovery in the coal business, as the company had faced several volume related headwinds in this segment in the past few quarters. The recovery was driven by increase in natural gas prices, and decline in coal inventory levels at utilities. The company estimates coal volumes to rise sequentially in the third quarter, even while it lost a contract at the beginning of 2013. However, y-o-y growth in the third quarter will be dependent upon weather conditions, and we think a normal summer weather could result in positive volume growth in Q3.

The 7% revenue growth in UNP’s industrial products segment in Q2 2013 was driven by 6% increase in average revenue per car as the volume growth was flat during the quarter. The shipments of non-metallic minerals and lumber rose during the quarter, owing to increase in shale-gas drilling activity and recovery in the U.S. housing sector. However, this was offset by reduced shipments of scrap steel, rock and military equipment. We expect a mixed outlook for this sector for the rest of the year.

We are in the process of revising our $157 price estimate for Union Pacific.

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Notes:
  1. Union Pacific Corporation Management Discusses Q2 2013 Results – Earnings Call Transcript, Seeking Alpha, July 18, 2013 [] [] []
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