"It's hard to find any good news these days but I was pleasantly surprised with the third-quarter railway results, as almost all of the 'class 1 carriers' reported better than expected earnings," notes analyst Tom Slee.
The contributing editor to Gordon Pape's Internet Wealth Builder explains, "Several rail stocks are starting to look attractive at these depressed levels and Burlington Northern (NYSE: BNI) remains my preferred choice in the group." Here's his outlook.
"Even with the economic downturn starting to bite, reduced fuel costs and increased freight rates offset lower volumes. Equally important, the companies remain cautiously optimistic despite the miserable outlook.
"They are confident that further freight rate price increases in the 4% to 5% range are sustainable and will still allow them to undercut inefficient truckers.
"Unfortunately, none of this prevented the stocks from being battered during the market collapse. However, I think that fourth-quarter profits are likely to remain strong and the longer term outlook for railroads remains favorable.
"Burlington Northern continues to power ahead. A shrinking economy must eventually take its toll but there was no sign of any weakness in BNI's third-quarter results. Operating earnings came in at $1.91 a share, up 29% from $1.48 in 2007.
"Analysts had forecast $1.69. It was the best quarter in the company's history and, to top it all, CEO Matthew Rose was quietly confident about BNI's ability to do well in an almost certainly difficult 2009.
"Third-quarter revenues were up almost 21% year-over-year due in part to fuel surcharges. Keep in mind that the company is going to benefit even more from these charges in the fourth quarter as a result of the lag effect.
"When oil prices rise, railways are hurt because it takes time to pass the additional expense along to customers.
"Now, with oil prices falling, there is a reverse delay in reducing freight rates. At the same time, management is keeping a tight lid on expenses and was able to maintain the all-important operating ratio (the share of revenues needed to operate the railroad) at 74.7%.
"Looking ahead, Burlington is likely to suffer from lower industrial and consumer product shipments but still benefit from strong demand in the coal sector. Price increases are expected to help and the consensus is that BNI will earn $6.25 a share this year followed by $7.25 in 2009.
"That seems awfully optimistic. A profit close to $6.75 a share next year makes more sense, even after allowing for a 3% reduction in shares outstanding as a result of the buyback program.
"This is a well-managed company that is equipped to weather the storm. The fundamentals are good. The question is whether the stock price will reflect that in this irrational market. A target of $100 seems realistic for those willing to endure volatility."
Steven Halpern's TheStockAdvisors.com offers a daily look at the latest market commentary and favorite stock picks and investment ideas from the nation's leading financial newsletter advisors.
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