VALUATION HIGHLIGHTS

1. Industrial Freight constitutes 35% of the Trefis price estimate for Union Pacific Corporation's stock.
2. Premium Freight constitutes 30% of the Trefis price estimate for Union Pacific Corporation's stock.
3. Bulk Freight constitutes 29% of the Trefis price estimate for Union Pacific Corporation's stock.

WHAT HAS CHANGED?

1. Impact of Coronavirus On Union Pacific's Stock
   • Union Pacific stock lost more than 37% – dropping from $180 at the beginning of the year to below $115 in late March – then spiked over 2x to around $238 now (as of Oct 22, 2021). That means it is well above the pre-pandemic levels.

     Why? While the Covid-19 outbreak and associated lockdowns resulted in an uncertain outlook for the broader markets, the multi-billion-dollar Fed stimulus announced in late March 2020 helped the markets stage a strong recovery. Now with vaccination programs underway since Q2 2021, investors are now expecting a quicker economic rebound with economies opening up gradually, which will bode well for Union Pacific's transportation business.

     Overall, 2020 saw sales and earnings decline for railroad companies. The Covid-19 crisis had a significant impact on transportation demand, due to an overall decline in manufacturing, lower consumer demand, lower oil prices impacting production and transportation of oil and related products, as well as lower natural gas prices resulting in lower demand for coal.

     However, situation has reversed so far in 2021, with economic growth led by increased vaccination rate, and a surge in oil prices has led to an increased demand for railroad. Furthermore, there continues be driver shortage for the trucking industry, and this has resulted in some movement of business to railroad (intermodal).

2. Q3 2021 Performance
   • Union Pacific's top line grew 13% y-o-y to $5.6 billion in Q3 2021, led by a strong 22% growth in industrial freight. Looking at the bottom line, the company posted a 28% rise in its EPS, which stood at $2.57 per share. EPS rise was driven by margin expansion.

3. Trends In Coal Shipments
   • With the increased use of cleaner sources of energy such as natural gas, the demand for coal has dropped drastically over the last few years. Consequently, coal shipments have witnessed a sharp decline over the last five years. However, if there is any sharp movement in natural gas prices, it would result in higher coal demand. In 2018, utility coal shipments remained sluggish, while the coal export saw a strong uptrend, given the overall coal prices and demand in international markets. Exports weakened in 2019, and with natural gas prices falling sharply in 2020, coal demand has also declined. That said, 2021 figures are expected to be higher due to favorable comparisons compared to very low volume shipped in 2020, as well as due to nearly a 2x rise in natural gas prices over the last year or so, sending the coal demand higher.

4. Slowdown In Automotive
   • Since the beginning of 2017, the demand for light vehicles has slowed down, despite large discounts being offered by manufacturers to clear their previous inventories. This is largely because the pace at which cars or trucks are being purchased is not the same as the pace at which they are being replaced. Consequently, there is a void in the demand for these vehicles, which is visible from the decline in their sales. Now due to coronavirus crisis, several automotive plants were shut or operating at a low capacity for a few months in 2020, thus impacting the overall output. Since the railroad sector is closely correlated to the automobile industry, companies such as Union Pacific have witnessed a decline in the auto parts shipments in the recent past.

POTENTIAL UPSIDE & DOWNSIDE TO TREFIS PRICE

Below are key drivers of Union Pacific's value that present opportunities for upside or downside to the current Trefis price estimate:

• Union Pacific's EBITDA margin: We currently forecast Union Pacific's EBITDA margin to increase slightly from 52% in 2020 to a little over 54% by the end of the Trefis forecast period, driven by the company's productivity improvement initiatives.
  There could be a downside of over 10% to the Trefis price estimate if the company is unable to expand margin, and it falls to 47% by the end of our forecast period, as opposed to rising to 54% in our base case forecast.

Industrial Freight

• UNP's Industrial Carloads: We currently forecast UNP's Industrial carloads to rise from 2.0 million in 2020 to 2.6 million in 2027. However, a strong recovery post Covid-19 crisis could significantly boost the overall industrial output in the country. If UNP's Industrial carloads rise to over 3.5 million by the end of our forecast period, as opposed to 2.6 million in the base case, it would imply over 10% upside to our price estimate.

For additional details, select a driver above or select a division from the interactive Trefis split for Union Pacific at the top of the page.

BUSINESS SUMMARY

Union Pacific Corporation is the leading railroad network in the United States, engaged primarily in freight transportation. Union Pacific Railroad (UPRR), the largest class-1 railroad in the United States, is the core subsidiary of Union Pacific Corporation. UPRR's route map covers most of the central and western United States, west of Chicago and New Orleans, covering nearly 23 states. Union Pacific competes with Burlington Northern Santa Fe Corporation (BNSF) which covers much of the same territory.

The company-owned tracks are a major strength of Union Pacific. The company operates on 32,340 miles of track out of which 26,094 is owned and the remainder is pursuant to trackage rights or leases. Union Pacific operates on key north/south corridors and is the only railroad to serve all six major gateways to Mexico. UP also interchanges traffic with the Canadian rail systems.

Union Pacific Railroad Company’s business mix includes Agricultural Products, Automotive, Chemicals, Energy, Industrial Products, and Intermodal. Although the company's primary role is transporting freight, it also runs a substantial commuter train operation in Chicago.

Union Pacific's earnings depend upon the volume of freight contracts it sells and the price of those contracts, while its expenses primarily consist of labor, fuel costs, utilities costs, and track maintenance. The largest of Union Pacific's customers include steamship lines, vehicle manufacturers, agricultural companies, utilities, intermodal companies, and chemical manufacturers.

SOURCES OF VALUE

Industrial Freight is the largest contributor to Union Pacific's value at around 35%.

Well connected to major industrial hubs

Union Pacific's rail network links the major U.S. industrial hubs in the Midwest and the Western U.S. to export terminals in the Pacific Northwest, the Gulf Coast and Mexico. In addition, the company also serves major domestic markets in the Midwest, West, South and Rocky Mountain states. The company is well placed to benefit from the U.S. industrial output and its competitiveness in international markets.

KEY TRENDS

Rebound in coal shipments

An increase in natural gas prices in 2017 boosted the share of coal in U.S. electricity generation. Coal benefited from higher exports in 2018. However, coal shipments remained sluggish in 2019 and 2020. In the medium to long run, favorable policy support from the U.S. government could boost shipments from the recent lows. Furthermore, the recent surge in natural gas prices (2021) will result in an increased demand for coal.