Norfolk Southern Chugs Along

We are maintaining our Hold rating on Norfolk Southern Corporation (NSC - Snapshot Report) as well as our $64 target price. NSC will report second quarter earnings on July 23. We are continuing our diluted EPS estimates at $4.05 for 2008 and $4.60 for 2009. We expect results to reflect volume declines stemming from economic weakness, though revenues should benefit from continued strong pricing.

Fuel costs will likely prove a significant headwind. In the first quarter, NSC posted EPS of $0.78, meeting consensus, but a penny below our $0.79 estimate. Revenues rose a better-than-expected 11%, due to a 14% gain in revenue yield, offset by a 3% volume reduction. NSC recently increased the dividend 12% to a $1.16 annual rate and has increased the dividend at a 41% compound annual rate over the last two years.

We expect to see volume improvement in specific segments like the energy sector. The outlook for the export coal market is also improving. Ethanol volume, too, should continue to build. Increased shipments of fertilizer will generate higher revenues.

Moreover, the company anticipates 2008 pricing gains on the order of 4% due to contract renewals, giving the company additional revenue growth opportunities. Further, NSC continues to improve operating efficiency, as reflected in double-digit increases in carloads on single-digit increases in train starts, and significant gains in fuel surcharges. In the first quarter, NSC repurchased 5.6 million shares for $276 million.

At its current price, NSC is trading at a 3% discount to the P/E median for 2009 based upon consensus estimated earnings and at par based upon on price/sales and price/book. We do not believe the market is giving credit to NSC’s many strengths, including above-average profitability, operating margin, and dividend yield.

Read the full analyst report on NSC