Strong Volume Growth Will Drive Union Pacific’s Earnings, However Coal May Cause a Drag

Union Pacific Corporation (NYSE:UNP), one of the leading railroads in the U.S., is set to announce its second quarter results on July 24. We expect to see an increase in revenue and volume driven by growth across Union Pacific’s agricultural, automotive, industrial, chemical and intermodal segments. However, weak growth in its coal segment may have created a drag.

Revisiting first quarter 2014

Union Pacific posted overall revenue growth of 6% in the first quarter 2014 to reach $5.6 billion. ^[1] Growth in revenue was driven by a 5% increase in volume and 1% increase in average revenue per car. Volume grew broadly across all segments. Despite growth in operating expenses, the company managed to boost net earnings by 14% to reach $1.09 billion, driving an increase in earnings per share by 17%.  Union Pacific’s operating expenses grew 3% due to increase in costs as a result of the harsh winters.

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Volume growth across non-coal segments will help boost revenues

As per Union Pacific’s carloading report for the second quarter, shipments such as grain, chemicals, housing and construction related material, and automotives have increased. ^[2] These shipments contribute more than 40% towards overall revenues and any growth in these shipments will have a positive impact on Union Pacific’s earnings. Higher automotive production, strong corn and soybean harvest, and the continued growth in housing and construction activity have positively impacted Union Pacific’s volumes. Additionally, better operating conditions due to favorable weather and the spillover of shipments from first quarter to the second quarter have also helped.

Safety concerns regarding transport of crude oil sourced from the Bakken region by rail may have negatively impacted Union Pacific’s shipments of petroleum products. According to the carloading report, carloads of petroleum products declined 13%. This does raise some concern regarding future chemical shipments. If crude oil shipments continue to decline it may have an adverse affect on the railroad’s overall revenue.

Union Pacific’s intermodal volume grew 12% during the second quarter driven by growth in demand as shippers continue to shift to rail given its advantage over trucks. Additionally, uncertainty surrounding negotiations between West Coast longshore labor and marine terminal operators boosted container volumes at U.S. ports, leading to higher intermodal volumes for the U.S. railroad industry. Union Pacific’s Santa Teresa facility, which became operational in June 2014, has also contributed to growth in intermodal volume. Intermodal business is a long term growth driver for Union Pacific and the company will continue to see solid growth in this segment in the coming years.

Weak coal volume growth may drag revenue

After having a good first quarter, Union Pacific’s coal volume growth seems to have slowed down in the second quarter. In the first quarter, coal volume grew 7% driven by strong domestic demand. However, Union Pacific’s carloads of coal grew only 1% in the second quarter. ^[2]

The demand for coal in the U.S. has started to pick up due to the rising price of natural gas and declining inventory at utilities, leading to higher domestic coal volumes for Union Pacific. However, weak export demand has been dragging overall coal volumes. U.S. export coal is suffering due to depressed global prices caused by the oversupply of coal in global markets driven by a demand supply mismatch. Because of the low global price, exporting coal becomes unprofitable for U.S. coal miners, leading to fewer carloads of export coal shipments for Union Pacific. Additionally, loss of a legacy coal contract has had a negative impact on coal volumes. ^[3]

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1. Union Pacific 2014 First Quarter News Release Financials, Jan 23 2014, www.up.com [↩]
2. Union Pacific Weekly Carload Report 2014 Week 26, www.up.com [↩] [↩]
3. Union Pacific’s Deutsche Bank Annual Global Industrials and Basic Materials Conference Presentation, June 4 2014, www.up.com [↩]