3 Reasons to Buy South Kansas City Stocks Right Now

0

It was a very unusual year for the railways. On the one hand, the COVID-19 pandemic has obviously hit their end markets very hard. On the other hand, it looks like the long-term earnings outlook is improving, especially for Kansas City South (KSU). The company’s recent second quarter results have helped highlight these factors. Let’s take a closer look at what investors need to know before buying the stock.

Kansas City South Orientation

The second quarter was always going to be horrible for Kansas City Southern. The COVID-19 pandemic hit the industrial economy hard and the company’s revenue fell 23% year-over-year to $548 million. Lower revenue caused adjusted operating income to fall from $259 million to $191 million.

Image source: Getty Images.

Looking ahead, it is unclear exactly what kind of end market conditions will prevail in the second half, and management has refrained from providing guidance other than confirmation of its free cash flow target of $500 million. dollars in 2020 – a figure equivalent to 3.4% of its market capitalization.

Of course, if there is a high level of uncertainty around revenue, there is also likely to be uncertainty around profit margin as well. Indeed, CEO Patrick Ottensmeyer also gave no indication of the company’s operating ratio (OR). OR is a key metric in the industry and is simply operating expenses divided by revenue, so a lower number is better.

The short-term outlook is unclear, but there are three reasons to believe the railroad’s long-term outlook is improving.

The cost savings will remain

Rail investors will be familiar with the idea that Precision Scheduled Railroading (PSR) initiatives are believed to significantly reduce railroad OR over time. Simply put, they are management principles designed to manage the same volume using fewer assets.

The good news from the results presentation is that management believes the cost savings and operational improvements being generated now will continue in the future. In fact, management now expects $150 million in annualized operating expenses by 2021 compared to the previous estimate of $125 million.

During the earnings callPSR’s Executive Vice President of Railways Sameh Fahmy said: “[W]We know that when we reach full volumes, we will be able to do it with 20% fewer train starts, 20% fewer crew starts, 20% fewer locomotives, 20% fewer train lengths more and 9% better fuel efficiency than we did in February.”

These statistics are confirmed in the quarterly and current data on the main PSR measures presented below.

Kansas City Southern PSR Metric

Running

Second quarter 2020

Second quarter 2019

Direction

Objective for the year 2020

Speed ​​(mph)

15.3 mph

17.1 mph

20.5 km/h

Better

17 mph

Terminal stop (hours)

21.9 hours

20.3 hours

21.2 hours

Better

18 hours

Train length (feet)

7,261 feet

6,921 feet

5,999 feet

Better

6,350 feet

Car kilometers per day

115.3 mpd

118.6 mpd

104.6 mpd

Better

135 mdp

Data source: Kansas City Southern submissions.

If Fahmy is right about sustaining operational improvements, analysts should lower their long-term RO assumptions, which means higher earnings expectations.

Growth returns

Although the growth outlook is uncertain due to the lingering impact of the pandemic and the possibility of a second wave, it is highly likely that the second quarter will mark a bottom for transportation inventory.

Chief Marketing Officer Mike Naatz revealed that load volumes have improved by 39% since May’s low, and the past two weeks’ loads of 5,900 loads per day are just 5% from the pre-COVID trend of 6,200 loads per day.

Thus, the underlying trend is positive. In the absence of a deterioration in the industrial economy caused by a second wave of COVID-19, it is reasonable to expect a sequential improvement in growth.

Relocation could add long-term growth

The trade dispute and the imposition of tariffs on products made in China have increased the willingness of American companies to move production out of the country and into the United States. The supply chain challenges experienced during the COVID-19 pandemic have also highlighted the risks inherent in the global supply chain.

Consequently, many manufacturers are planning to relocate (transfer operations that had been moved overseas to the home country) as a solution, and that will likely be good news for Kansas City Southern. A pick-up in industrial activity in the United States is obviously good news for the railroads. In addition, the United States-Mexico-Canada Agreement (USMCA) means that Mexico is likely to benefit from moving low-cost production away from the Far East. Given the railroad’s role in linking industrial cities in Mexico to commercial and industrial markets in the United States, it is well positioned to benefit.

The issue of relocation was raised on the earnings call, and while Ottensmeyer noted that the COVID-19 pandemic had “slowed things down”, it’s still a “very positive profile” in the long run. for Mexico.

Is Kansas City Southern a buy?

Although the short-term outlook remains uncertain, the long-term outlook is positive. A combination of operational improvements, cost savings and a growth boost from relocation suggests that Kansas City Southern has a long streak of earnings improvement ahead.

All in all, the stock remains attractive to investors who are willing to shrug off the possibility of some near-term disappointment if a second wave of the pandemic slows the recovery.

This article represents the opinion of the author, who may disagree with the “official” recommendation position of a high-end consulting service Motley Fool. We are heterogeneous! Challenging an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and wealthier.

Share.

About Author

Comments are closed.