Thursday, June 04, 2009

Analysts reaffirm rail industry’s long-term value

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Analysts from two firms, Dahlman Rose & Co. and Morgan Stanley, signaled satisfaction with the long-term outlook for the rail freight industry’s economic prospects following Norfolk Southern’s Investor Day conference June 3. The two firms differed slightly on NS’s own short-term outlook, but both said the Norfolk, Va.-based Class I railroad would share the excellent long-term prospects of the overall industry.

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At Dahlman Rose & Co., Director Jason H. Seidl (photo at left) noted, “We came away from the meeting with a renewed sense of confidence in the direction that NS is headed as a company. Although near-term economic conditions remain uncertain, we believe that NS will be well positioned to reap the benefits of a more robust freight market once conditions improve.”

Seidl added, “We continue torate the company a 'Buy' and recommend the shares for long-term-oriented investors who wish to have exposure to the railroad group.”

Morgan Stanley research analyst William Greene says his firm “heard nothing that would cause us to question our favorable long-term view on the industry.  Though [NS] management did not offer guidance, the company reaffirmed our conviction in a number of themes which are likely to drive rail outperformance vs. other freight transports over the coming years.”

From both companies’ point of view, the specter of rail reregulation may in fact be overstated. “Consistent with our view that compromise legislation is the most likely outcome, management views shipper-backed rail legislation moving through Congress as having limited rail risk,” Morgan Stanley’s Greene said. Seidl, at Dahlman Rose, noted, “It appears that a compromise is being struck between the industry and those that wish to increase governmental oversight. More specifically, CEO Wick Moorman stated that rail industry has been engaged in discussions with the Senate Commerce Committee and that these discussions have been positive.”

Commenting on NS specifically, Seidl at Dahlman Rose said, “We believe management is taking the proper approach as railroading is a long-cycle business where maintaining the proper balance is critical.  Management at NS believes that it can return to historic margin levels even if the economy continues in a prolonged economic malaise. While this will not be done quickly, they expressed confidence in their ability to implement structural changes that should be able to hold even when the economy does pick up.

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Seidl (who also is Contributing Editor to Railway Age) cited NS’s ongoing capital investment plans as key to long-range productivity and earnings gains. “In taking the long view NSC is still focused on developing some of its key projects, namely the Heartland Corridor, the Meridian Speedway, the Crescent Corridor, and the CN-NS MidAmerica Initiative.  The Heartland Corridor project is 75% completed and should be finished by mid-2010.

In slight contrast, Morgan Stanley’s Greene was less enthusiastic about NS’s short-term prospects, pointing out that “recent trends have only vaguely shown signs of stabilization,” and emphasizing that NS “continues to suffer relative to peers due to its outsized export coal exposure, greater natural gas competition in the East, and heavy industrial portfolio.”

Still, Green also signaled the green light for NS’s long-term prospects, saying, “We believe after posting the worst EPS trend in2009, NSC is likely to grow faster than peers in 2010+ on volume recovery and realization of growth and productivity initiatives.” Greene also noted, “We heard nothing during the investor day which would suggest that the long-term rail pricing story is at risk.”

Dahlman Rose’s “buy” recommendation of NS stock was not echoed by Morgan Stanley’s Greene, who nonetheless observed, “We aren't against owning NSC—especially for investors with a multi-year time frame.”