Shares of railroad giant CSX Corporation (CSX, Financial) have fallen 14.3% year-to-date, marginally outperforming the S&P 500 Index’s loss of 16.5%.
Looking past just the near-term, the company ranks highly on many profitability and valuation metrics. CSX also has a solid dividend growth history, even though its yield leaves much to be desired.
One benefit of the recent decline in share price is that the stock now trades well below its GF Value, which could offer an attractive entry point for investors interested in the name.
Company background and recent results
CSX began with just 13 miles of track in the 1820s, but now has close to 21,000 route miles across 23 U.S. states and two provinces in Canada. The company primarily operates east of the Mississippi river. CSX moves cargo such as intermodal, coal, grain, fertilizers, chemicals and automobiles. The company has a market capitalization of $69 billion and generated revenue of $12.5 billion in 2021.
CSX last reported earnings results on July 21. Revenue for the second quarter grew 27.6% to $3.82 billion, beating Wall Street analysts’ estimates by $147 million. Adjusted earnings per share of 54 cents compared favorably to 40 cents in the prior-year quarter and topped expectations by 6 cents.
By product category, volume for Fertilizers, Metals and Equipment, Coal, Forest Products and Chemicals fell 13%, 3%, 3%, 1% and 1%, respectively. Automotive grew 10% while Minerals and Agricultural and Food Products were both higher by 3%. Intermodal grew 1%.
While volume was essentially flat from the prior-year period overall, CSX benefited from higher prices. Revenue for Coal, Automotive, Intermodal, Minerals, Agricultural and Food Products, Chemicals, Forest Products and Metals and Equipment grew 54%, 24%, 18%, 12%, 11%, 10%, 8% and 6%, respectively, while Fertilizers were down 3%.
The operating ratio jumped to 55.4% from an unsustainable 43.4% in the prior-year quarter that saw a benefit from property divestitures. On a sequential basis, the operating ratio improved an impressive 700 basis points.
According to analyst estimates from Yahoo Finance, CSX is expected to produce adjusted earnings per share of $1.87 in 2022, which would be a 56% improvement from the prior-year quarter.
Ranking versus peers
Second-quarter results were strong as prices increases more than made up for stagnant volumes. The sequential improvement in the operating ratio also speaks to the company’s efficiency.
But how does CSX stack up against its peers in the transportation industry? As it turns out, the company outranks its peer on most metrics. Let’s start with the company’s strongest showing, its profitability rank.
CSX scores a 9 out of 10 from GuruFocus on profitability rank, and for good reason as the company ranks well ahead of its industry and its own history on a number of metrics. For example, the operating margin of 39.8% is above more than 91% of peers and is also the best showing in the last 10 years for the company. Return on equity is also strong, topping 85% of the competition, while return on assets is ahead of three-quarters of peers. CSX has had a profitable year every year for the past decade, which places the company above a staggering 99.9% of its industry group.
CSX receives an 8 out of 10 from GuruFocus on growth. The best showing in this category is the company’s three-year revenue per share growth rate of 5.4%, which bests 62% of peers. The three-year book growth rate of 6.2% is above 64% of the industry. One area where the company doesn’t score as well is on future three- to five-year revenue and earnings growth estimates (data from Morningstar (MORN, Financial) analysts), which are both near the middle of the pack.
CSX’s weakest area is financial strength, where the score is a middling 5 out of 10. This score is driven by a cash-debt ratio that is lower than 91% of its transportation industry peers. It is also the lowest score in the last 10 years for the company. The debt-to-Ebitda and interest coverage ratios are nearly at the middle of the peer group, but near the top end for CSX in the last decade. The company’s Piotroski F-Score of 7 out of 9 means that the CSX has a solid financial position. One bright spot in this area is that CSX’s return on invested capital of 11.4% is ahead of its weighted average cost of capital of 8.1%. On this measure, the company is at least generating positive return from its invested dollars.
Dividend analysis
CSX’s dividend growth streak stands at 17 consecutive years. The dividend has a compound annual growth rate of 11.2% over the last decade, according to Value Line. The 7.2% increase issued for the March 15 payment earlier this year is below the long-term growth rate, but still at a solid level.
The dividend is likely to continue to grow as CSX’s distribution is well covered from both an earnings and free cash flow perspective.
CSX distributed 37 cents of dividends per share last year. With adjusted earnings per share of $1.56, the payout ratio was just 29%. The company should pay out 40 cents of dividends per share in 2022, leading to a payout ratio of 21% when using analysts’ estimates. The company has an average payout ratio of 31% since 2012, meaning that the dividend should be very safe from an earnings standpoint.
Free cash flow shows a similar story. CSX’s dividend payments have totaled $847 million over the last 12 months. Free cash flow was $3.4 billion for the period, leading to a payout ratio of 25%. This just below the average payout ratio of 26% since 2018.
Both the earnings and free cash flow payout ratios are below their respective averages, which should help investors rest easy that CSX should be able to continue to grow its dividend in the coming years.
One last area to consider when assessing dividend safety is the company’s debt obligations and if they could impact future increases.
CSX has interest expenses of $707 million. As of the most recent quarter, total debt was $16.8 billion, giving the company a weighted average interest rate of 4.2%.
The table included below illustrates where CSX’s weighted average interest rate would need to reach before free cash flow no longer sufficiently covered dividend payments.
Source: Author’s calculation
As we can see, CSX’s weighted average interest rate would need to rise above 19.2% before free cash flow alone wouldn’t be enough to cover dividend payments. Therefore, it is unlikely that debt obligations will hinder future dividend growth.
CSX's dividend yield is low at just 1.2%, which is below even the average 1.6% yield for the S&P 500 Index, so investors would not be interested in the stock solely for its dividend.
Valuation analysis
CSX looks to be trading below its fair value according to the GF Value chart:
CSX closed Thursday’s trading session at $32.21. The stock has a GF Value of $39.79, giving CSX a price-to-GF-Value ratio of 0.81. Shares could return 23.5% if CSX reached its GF Value. The stock is rated as modestly undervalued.
Along with an attractive upside potential, CSX receives a strong GF Score of 91 out of 100.
Final thoughts
Shares of CSX have lost slightly less than the overall market so far this year, but that bears no reflection on the high-quality nature of the company. CSX outranks its peer group on multiple metrics and operates as a monopoly due to the nature of the railroad business, providing highly predictable operating conditions.
The dividend yield is on the low side, but the tradeoff is a dividend that looks extremely safe and provides solid growth. Shares are also offering a double-digit discount to GF Value, which could make CSX a solid option for those looking for value and safe income in my opinion.
