A Look At Our $138 Price Estimate For Union Pacific Corporation

by Trefis Team
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UNP
Union Pacific Corporation
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Union Pacific Corporation (NYSE: UNP) has seen modest revenue growth in recent years, primarily led by price increases across its segments. The company now operates a rail network of more than 32,000 route miles. In 2017, the company’s revenues grew in mid single digits while the adjusted earnings growth was in the low teens. We expect the company to post mid-single-digit top line growth and earnings to grow 30% in 2018, partly due to the U.S. tax reform. Below we take a look at what is driving UNP’s current valuation of about $138 per share, by looking at the expected performance of its business segments. We have also created an interactive dashboard analysis which you can use to arrive at your own price estimate for the company by modifying the various drivers.

 

A Rebound In Commodities Will Bode Well For Union Pacific Industrial Freight Segment

We expect UNP’s Industrial Freight revenues to grow 5% to $4.28 billion in 2018. We expect this growth to be driven by a recovery in the commodities market, which will result in more shipments for railroad companies. Rail shipments of steel in particular were hampered by challenging business conditions facing the domestic steel industry and low oil prices over the last few years. However, the production outlook for 2018 looks strong. Major steel manufacturers have plans to expand their production facilities in 2018, which will result in more shipments. Similarly, looking at oil, the production in the U.S. is expected to be 10.7 million b/d in 2018, the highest annual average U.S. crude oil production level ever.

Moreover, an increase in oil prices will boost drilling activity and increase the demand for crude oil related shipments as well. Oil prices have surged to new multi-year highs with WTI crude trading above $67 levels, after the tensions in the Middle East escalated. Earlier this week, there were reports of a suspected chemical attack in Syria. This led to a sudden jump in oil prices. Even if we were to discount the Middle East worries, EIA estimates WTI crude oil to average $58 in 2018, reflecting a 15% growth from 2017 levels. Favorable demand-supply dynamics with respect to these commodities will boost segment revenue growth. Accordingly, we forecast a low single digit growth, both on volume and pricing for UNP’s Industrial Freight segment.

Looking at the company’s other segments, including Chemicals, Agriculture, and Coal, among others, we expect low single digit growth, both in volume and pricing. Pricing to some extent will be impacted by fuel surcharges, which are linked to prices of WTI or U.S. On Highway Diesel. With oil prices expected to trend higher in 2018, higher fuel surcharge revenues will aid the company’s overall revenues. The individual industries are expected to perform well. For instance, the U.S. chemicals production is expected to grow by 4%, while the coal production is expected to grow by 6%, in 2018, marking the largest tonnage increase (y-o-y) since 2001. These factors should bode well for railroad companies, such as UNP.

Forecast 2018 EPS of  $7.80

Our $138 price estimate for UNP is based on $7.83 expected EPS in 2018 and a price to earnings multiple of a little under 18, which is slightly below most of the estimates for the overall sector. We expect an increase in net income margin to 27%, partly reflecting the tax benefits, amid the U.S. tax reform. Our revenue forecast of $22.20 billion represents year-on-year growth of around 4.50%. Of the total expected revenues in 2018, we estimate $4.30 billion in the Industrial Freight segment and $4.0 billion from the Intermodal segment, and other segments making up for the rest.

 

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