Published:
June 23, 2008
Burlington
Northern Santa Fe (NYSE: BNI, $103.02) is the second-largest
railroad in the U.S. with more than 32,000 miles of track covering
28 U.S. States and two Canadian provinces.
Catalyst(s): BNI has plans to further boost
prices in key markets over the next few years. Many of BNI's
current coal and agricultural contracts were signed years ago at
rates far lower than what the railroad earns on new deals. As
the contracts gradually expire, BNI has been re-pricing the
deals at higher rates. BNI believes it can grow pricing across
its major business lines by +3-5% annually through
2012.
In addition, older contacts include far less generous fuel
surcharge provisions than more recent deals. BNI has also been
able to renegotiate agreements to include provisions to recoup
virtually all of its rising diesel costs. In the most recent
quarter, BNI recovered roughly 80% of the increase in its
fuel costs via surcharge agreements; management has set forth a
goal of increasing that recovery rate to 100% over the
next five years.
Finally, BNI continues to make operational improvements. The
company is implementing more advanced systems to monitor the
progress of shipments across its network. And BNI has worked
consistently to eliminate bottlenecks in its network. The end
result -- a significant drop in operating costs that also helps to
shore up profitability.
Competitive Advantages: The main competitive
advantage of most rails is the location of their network. It is
extremely expensive to buy up right-of-ways to lay new tracks
and building out a railroad network is becoming more expensive
thanks to rising raw materials costs. Therefore, existing
network infrastructure in strategic locations is extraordinarily
valuable.
BNI has one of the best networks of any of the major U.S. rails.
The company has the largest network of track in key
coal-producing regions of the western U.S.; coal production from
this region is growing quickly and is helping to offset
declining production from older eastern mines. The transport of
coal from western mines to East Coast utilities is a
particularly lucrative deal for the rails.
And BNI also has an extensive network in the Midwest, America's
key region for agricultural production. This network is also
strategically located to serve some of the nation's largest
ethanol-producing regions.
Valuation and Outlook: BNI trades at 15 times 2009 earnings estimates. But management recently updated
long-term guidance, saying that the railroad could generate
long-term EPS growth of more than +13% annualized using
conservative assumptions. Based on the more bullish trends of
the past few years, that growth rate could easily be closer to
+15%. With that growth, BNI looks to be reasonably valued.
And BNI has also announced plans to continue an aggressive share
buyback plan in coming years financed by its large and growing
free cash flow. BNI has plans to spend roughly $9 billion on
share repurchases in the coming five years, a move that could bring
its share count down by nearly -20% by 2012. That's on top of a
-25% reduction in share count since 1998 under BNI's existing
share plan. BNI also has plans to boost dividends to return more
of its free cash to shareholders.
With an
enviable track network in regions such as the coal mines of the
western U.S. and the key agricultural markets of the Midwest, BNI
is well-placed to handle surging transport demand in coming
years. And as older contracts expire, BNI has significant scope
to raise prices. With these points in mind, BNI looks like a
solid "Buy" under $115 per share.
Paul Tracy
Editor
StreetAuthority
Market Advisor
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