The U.S. rails are all to the upside today even as weaker-than-expected earnings were released yesterday by CSX Corp (CSX).  As of 11:30 EST, CSX is up 4.2% to $45.15, Burlington Northern (BNI) is up 1.25% to $92.81, Union Pacific (UNP) is up 3.29% to $114.08, and Norfolk Southern (NSC) is up 3.15% to $55.74

CSX reported EPS (excluding items) of $0.50 vs. expectations of $0.53; profits were down slightly year-over-year as total volumes fell 4%, but total revenue was actually up by 4%.  The reason for the discrepancy is pricing power, something the rails seem to have in spades these days.  Average prices per unit volume were up 8%, all the more impressive in the face of declining volumes.

In the company’s conference call this morning, CSX’s CEO Michael Ward said that 2^nd quarter volumes are expected to be flat over 2006 levels, with expected price increases of about 6% for the remainder of the year. 

Union Pacific reports tomorrow, and Burlington reports next Tuesday; we should hear more about increasing pricing power from these two, considering the valuable West Coast intermodal network and access to Wyoming’s Powder River Basin for coal. 

We’ve seen this group post about two years’ worth of gains in just the past few months, as buyout talks and high profile investments have won out over fears about the economy.  There have been some analysts questioning whether railroads are really an attractive target, and for good reason.  High debt loads and capital requirements, and historically sensitive earnings results don’t make for conventional buyout talk. 

But if during this earnings period the rails can show they have the ability to consistently raise prices, it could be the tipping argument – especially with fuel and trucking costs heading higher by the month, and a record corn crop expected this year. 

The rails all have a definite value per mile of track, and that value should continue to rise if the rails can show pricing power in the face of macroeconomic weakness.  How much more is difficult to say, as there aren’t many sales to mark-to-market against.  We took a stab at measuring this for Burlington Northern earlier in the year, and we hope to update this calculation if buyout rumors strengthen in the coming weeks. 

Ryan Barnes

April 18, 2007

Ryan Barnes can be reached at [email protected]; he does not own securities in the companies he covers.

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