A backdoor way to invest in US energy revolution
Warren Buffett and Bill Gates are big fans of railroads -- but fossil fuel producers and railroads alike depend on this little-known niche manufacturer.
The white noise of the Federal Reserve has drowned out the roar of the rail industry. While others argue about the macroeconomic picture, railroads have been chugging along at a steady pace. The Dow Jones Transportation Index ($DJT) has soared 18% this year -- the average gain of the top three railroads is 26%.
The U.S. rail market is a $60 billion industry, with more than 140,000 miles of track across the nation. And what's being moved the most?
Oil. Coal. Chemicals.
Coal alone accounts for 43% of the total tonnage moved by train. Crude oil shipments, trending away from pipelines, spiked 256% in 2012 to 167 million barrels in nearly 234,000 freight cars. By 2016, more than 2.7 million barrels of oil a day is expected to be transported by rail -- more than the entire Trans-Alaskan pipeline.
Rail ships oil faster than pipelines -- 15 to 20 miles an hour by train compared with 4 to 5 miles an hour by pipeline. It's also more flexible. The expanse of the rail system -- and avoidance of political and regulatory quagmires that plague pipelines -- makes shipments by train a more attractive option.
An energy revolution is taking place in America thanks to new technologies in drilling and higher oil prices. With that revolution comes the need for more efficient overland transportation. One company in particular is in the right place at the right time.
Large rail companies stand to profit considerably from the increase in oil and gas market demands and have attracted investors such as Warren Buffett, whose Berkshire Hathaway (BRK.A) acquired BNSF in 2009, and Bill Gates, who owns 12% of Canadian National Railway (CNI), making him its largest shareholder.
A little-known industrial conglomerate that dominates the railcar manufacturing and leasing industry, Trinity Industries (TRN) saw net revenue increase 79% last year and boosted its dividend 22%. In its second-quarter earnings report on July 31, Trinity beat analysts' estimates with revenue of $1.1 billion, up 7% from the same quarter last year, and profit of $84 million, up nearly 24%.
A stock that stays under the analysts' radar often proves to be quite a boon for savvy investors who can identify value. Trinity may have the most inherent opportunity right now because no one's looking at the numbers.
Trinity's main competition, American Railcar (ARII), also recently announced impressive second-quarter earnings and reported heavy investment in its leasing business. Although American Railcar has a market share of less than $750 million, it has much the same story as Trinity and stands to profit from the same catalysts. However, American's negative free cash flow concerns tied to high capital expenditures make Trinity the better play for now.
Investors in Trinity have an additional perk in the form of its dividend, while yielding a conservative 1.4%, has been increased three times since 2010, for a gain of more 60%. With a payout ratio of about 13%, there's plenty of room for continued growth.
In its earnings report this week, Trinity also raised its full-year earnings expectations to $4.20 to $4.40 a share, up from the range of $3.80 to $4.05 it forecast in May. Trinity's forward price-to-earnings (P/E) ratio is less than its current P/E, which can be a powerful indicator of future earnings growth.
As higher earnings are reported, it's a fair assumption that Trinity's P/E should increase from 11, but not exceed its historical average of 17, which gives a price estimate of anywhere between $44 and $68 -- that's a gain of 19% to 83%. The consensus price target on the Street is $45.75 in the next 12 months, according to S&P Capital IQ.
Risks to consider: A slowing economy or lower-than-expected oil production could derail Trinity's railcar sales and keep its P/E low. Leasing operations may hurt short-term earnings as revenues from such operations are not recognized as occurring as a sale but from a monthly income stream.
Action to take: A solid balance sheet and thriving railcar segment with a multibillion-dollar backlog should give Trinity the momentum to climb higher over the next 12 months.
Daniel Cross does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.
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Gee I wonder why that old fool Warren Buffett bought all of Burlington Northern railroad for $26.3 billion?
Railroads are doing just fine...And bills of laden are GROWING.
CSX...up 32% YTD and pays 2.5%....add it up.
Buffet may be old, but hardly the fool...At least not most the time.
It works for us..
Railroads have their needs and fill sometimes niche segments of our Society..
With a more recent recovery and hauling of freight, coal is coming back some, and the need to get crude to refineries or markets...
Until pipelines are criss crossing the Country East/West, North/South there is a call for a lot of oil hauling and chemicals.
Those pipelines are being built at a fevered pace...Investments in both can be prudent.
Although rail traffic is nothing like it was 30-50 years ago...
It's not necessarily about the traffic, but more about revenues and earnings that they are making with what they have; Or are doing..
And I think from our perspective, both are doing great; I call it hedging our bets.
Against each other.
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