ModernGraham Valuation: Union Pacific Corp (UNP)

Company Profile (obtained from Google Finance): Union Pacific Corporation (UPC) owns transportation companies. Its principal operating company, Union Pacific Railroad Company, links 23 states in the western 66% of the country. Union Pacific Railroad Company’s business mix includes agricultural products, automotive, chemicals, energy, industrial products and intermodal. Union Pacific Railroad Company connects with Canada’s rail systems and is the railroad serving six gateways to Mexico. Union Pacific Railroad Company (UPRR) is a Class I railroad operating in the United States. In June 2012, the Company’s wholly owned subsidiary, PS Technology (PST), acquired the Yard Control Systems division of Ansaldo STS USA.

Defensive and Enterprising Investor Tests (What is the significance of these tests, and what is PEmg ratio?):

Defensive Investor – must pass at least 6 of the following 7 tests: Score = 4/7

1. Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
2. Sufficiently Strong Financial Condition – current ratio greater than 2 – FAIL
3. Earnings Stability – positive earnings per share for at least 10 straight years – PASS
4. Dividend Record – has paid a dividend for at least 10 straight years – PASS
5. Earnings Growth – earnings per share has increased by at least 1/3 over the last 10 years using 3 year averages at beginning and end of period – PASS
6. Moderate PEmg ratio – PEmg is less than 20 – FAIL
7. Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL

Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 3/5

1. Sufficiently Strong Financial Condition, Part 1 – current ratio greater than 1.5 – FAIL
2. Sufficiently Strong Financial Condition, Part 2 – Debt to Net Current Assets ratio less than 1.1 – FAIL
3. Earnings Stability – positive earnings per share for at least 5 years – PASS
4. Dividend Record – currently pays a dividend – PASS
5. Earnings growth – EPSmg greater than 5 years ago – PASS

Valuation Summary (Explanation of the ModernGraham Valuation Model)

Key Data:

Balance Sheet – 9/30/2013 

Earnings Per Share

Earnings Per Share – Modern Graham 

Conclusion:

Union Pacific Corporation is an interesting company in the sense that its earnings have displayed significant growth over the historical period, having grown EPSmg (normalized earnings) from $3.36 in 2008 to an estimated $7.65 for 2013.  This growth surpasses the market’s implied growth rate of 6.49%, leading the ModernGraham valuation model to return an undervalued determination for the company.  However, the PEmg and PB ratios are both too high for the Defensive Investor, and there is too much debt for the Enterprising Investor, so we’re left with a company that on one hand is undervalued based on its historical growth but is overvalued based on the PEmg and PB ratios.  As a result, there is just slightly too much risk for the Defensive Investor and Enterprising Investor at this time, but it certainly is a company to keep on the watch list.  Compare this to Norfolk Southern (NSC), which we recently reviewed and determined to be Defensive and undervalued.  Norfolk Southern had comparable growth in earnings but traded at a PEmg and PB ratios, thus would be a less risky investment.

ModernGraham Valuations of related companies:

• Norfolk Southern Corp (NSC)

What do you think?  Do you agree that Union Pacific Corp is undervalued?  Is the company not suitable for either Defensive Investors or Enterprising Investors?  Leave a comment or mention @ModernGraham on Twitter to discuss.

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Disclaimer:  The author did not hold a position in Union Pacific Corp at the time of publication and had no intention of entering into a position within the next 72 hours.

Photo Credit:  Andrew Magill