Neutral on Kansas City Southern – Analyst Blog

We initiate coverage for Kansas City Southern (KSU) with a Neutral recommendation, which means the stock will perform mostly in line with the broader market. The company posted strong financial results for the second quarter 2010, beating the Zacks Consensus Estimate. Improvement in business volumes, effective cost control measures, and solid pricing environment are the primary reasons for this excellent result.

 

Kansas City Southern is a leading freight rail transportation company. An improving U.S. economy, surge in automotive shipments, and a rebound in many of the company’s end markets are expected to fuel its future growth. Kansas City Southern is likely to benefit from investments and partnerships at Lazaro Cardenas, Meridian Speedway and Victoria-Rosenberg.

 

During the second quarter, Kansas City Southern achieved several operating milestones. Quarterly operating ratio was 72.4%, greatest ever in its history, compared to 87.4% in the prior-year quarter. Total business volume in the reported quarter was 468,400, up 24% year over year. Operating income in the same quarter was $127.2 million, up 195% year over year. All the six major operating segments witnessed surge in revenue.

 

Despite the weak economic environment, management is still committed to the same goals of $3 billion in revenue and an operating ratio in the low 70s. Cross-border traffic between the U.S. and Mexico is expected to improve in the second half of 2010. Rising business volume and price stability will further consolidate the company’s top-line in future reporting quarters.

 

Nevertheless, the stock price already moved up more than 43.9% during the last one year and at present any above-market upside potential is limited. We believe volatile fuel prices and increased government regulation of the rail industry could also impact Kansas City Southern’s ability to achieve pricing and volume growth.