2 Transportation Stocks To Buy Now
David is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
As investors look to gauge the health of the global macroeconomy, they should place keen attention on the transportation sector. From airlines to railroads to business mail shipments, transportation is directly fueled by expectations for future macro activity. When a railroad hauls tons of coal or an airline carries tourists to a bustling casino, economic players are providing hints about future activity. In my view, Southwest Airlines (NYSE: LUV) and CSX Corporation (NYSE: CSX) are both undervalued. Below, I review the fundamentals of both companies.
Southwest Airlines
Southwest trades at 8.4x forward earnings and a PEG ratio of 0.94. The latter metric indicates that future growth has not been satisfactorily factored into the stock price. Based on data from FINVIZ.com, analysts forecast annual EPS growth of 22% over the next 5 years, but nevertheless rate the stock only a "hold".
During the second quarter, management beat expectations by 9.1% - the fourth time in a row that consensus turned out to be too low. Despite high fuel prices and a sluggish economy, record EPS of $0.36 registered a 140% y-o-y return. The merger with AirTran has produced meaningful value synergies by allowing for more reasonable connections. $400M in synergies are expected to be realized for 2013. Finally, Southwest's deal with Delta and Boeing to replace the fleet of Boeing 717s with all Boeing 737s will add to revenue patenting by adding on 26 more seats.
Revenue growth has been fairly strong with around 30% in the quarters between 2Q11 and 1Q12. This compares to a 5-year average of 13.3%. Free cash flow generation, on the other hand, has been shaky. FCF in the TTM was $314M for 2Q12 versus $1.4B in 2Q11 and $3.3B in 2Q08. I recommend investors buy shares through dollar cost averaging to hedge against the turbulence.
CSX
This rising railroad is one of the more popular stocks on the Street with average volume of 7.3M shares. It is also one of the more undervalued stocks. It trades at a respective 12.8x and 11x past and forward earnings with a dividend yield of 2.5%. Analysts forecast 8.8% annual EPS growth over the next 5 years.
Assuming the company meets growth expectations, it should be valued at nearly $40 by 2016. Discounting backwards by 10% yields a present value roughly in-line with the current market assessment. Thus, while there is not much of a margin of safety on the stock, the upside is still substantial. ROA, ROE, and ROI could be better, but the general sentiment on the Street is rightfully a "buy". Here's why:
As natural gas prices rise, utilities will start looking more towards coal. Coal represents more of CSX's business than it does for peers, which many consider a headwind for value creation. In the long-run, I expect coal to continue to be a top fuel source in power generation. Exports of coal went up under a 41% y-o-y increase in volume. More opportunities in farce sand, petrochemicals, and crude oil will limit any downside should coal markets weaken.
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