Why We're Revising Our Price Estimate For Union Pacific To $103

| About: Union Pacific (UNP)

Summary

The outcome of the U.S. presidential elections was a positive development for United Pacific, with President-elect Trump's economic policies expected to result in more favorable business conditions for some commodities that were characterized by declines in shipments in 2016. This has prompted us to change various forecasts in our model for the company, resulting in our new price estimate for the stock.

In addition, the President-elect's plans for a $1 trillion revamp of domestic infrastructure has translated into an improved demand outlook for metals such as steel and copper. Apart from a more favorable demand environment for metals, Trump also intends to revitalize the coal industry.

Crude oil-related shipments would also benefit from higher oil prices in 2017, which is expected to translate into enhanced drilling activity in the U.S. and higher crude oil-related shipments.

Union Pacific's (NYSE:UNP) business prospects have improved considerably in recent weeks, as illustrated by the appreciation in the company's stock price since November.

UNP Stock Price

(Union Pacific Stock Price, Source: Google Finance)

The outcome of the U.S. presidential elections was a positive development for the company, with President-elect Trump's economic policies expected to result in more favorable business conditions for some commodities that were characterized by declines in shipments in 2016. The most prominent among these are coal, metals, and crude oil-related shipments. This has prompted us to change various forecasts in our model for Union Pacific, resulting in our new price estimate for the company's stock.

Improved Business Prospects

Union Pacific's metals shipments (the reported "Metals & Products" subcategory) registered a 9% decline in 2016. This reflects the downturn in fortunes of the domestic steel industry over the past couple of years as a result of competition from unfairly traded steel imports. However, U.S. authorities imposed antidumping duties on steel imports from a number of countries during the course of 2016. Regulatory action is likely to at least partially redress the unfair competitive disadvantage for the domestic steel industry vis-a-vis steel imports, which should benefit this industry going forward. Moreover, President-elect Trump has taken a tough stance against unfair trade, which bodes well for the U.S. steel industry. In addition, the President-elect's plans for a $1 trillion revamp of domestic infrastructure has translated into an improved demand outlook for metals such as steel and copper. As a result of the improved demand outlook, we have suitably modified our shipment forecasts for the Industrial Products segment, under which the company classifies its metals shipments.

Apart from a more favorable demand environment for metals, the incoming President also intends to revitalize the coal industry. U.S. rail shipments of coal declined around 20% in 2016, primarily as a result of weak demand for the commodity from utilities. Soft natural gas prices have accelerated the shift towards natural gas as the preferred fuel for electricity generation over the past couple of years, translating into lower rail shipments of coal. President-elect Trump plans to revive the fortunes of the coal industry by rolling back prohibitive environmental regulations that drive up the costs of coal mining. In addition to the favorable developments likely on the policy front, higher gas prices in 2017 should also provide some support for coal demand. As per EIA estimates, benchmark natural gas prices are expected to average $3.27 per MMBTU in 2017, around 30% higher than last year. Taking into consideration the improved demand outlook, we have altered our forecast for U.S. coal shipments. The new forecast represents 12% higher coal shipments by 2023, the end of our forecast period.

In addition to steel and coal, crude oil-related shipments would benefit from higher oil prices in 2017. As per EIA estimates, Brent Crude Oil prices are expected to average roughly $52 per barrel in 2017, around 19% higher than last year. This is expected to translate into enhanced drilling activity in the U.S. and higher crude oil-related shipments. We have suitably modified the forecasts of the Chemicals Freight segment, under which the company aggregates these shipments.

In addition to the aforementioned changes, we have also modified pricing and margin forecasts to reflect the improved business conditions for Union Pacific. This has translated into our revised $103 price estimate for Union Pacific, which reflects the favorable business conditions facing the company going forward.

Disclosure: No positions.

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