Railroad earnings appeared to veer off-track in the first quarter, with profits dropping from year-ago levels, but a deeper analysis shows that underlying trends are strong.

Over the last week and a half, the railroad sector announced first-quarter results that seemed weak, but nonetheless topped Wall Street estimates by a solid margin. Norfolk Southern's ( NSC) first-quarter net profit dropped $51 million, or 24%, year over year, while topping analyst expectations by a whopping 9 cents a share. Likewise, Union Pacific ( UNP) and CSX ( CSX) saw net profits drop, but easily beat expectations.

But net profit for many of the railroads were impacted by accounting changes and one-time items. A year ago, Norfolk Southern's net income was inflated by a $124 million charge, and without it profits would have been up 86% year over year, which is why shares jumped 5.4% when it released earnings on March 21.

Burlington Northern ( BNI ), the nation's second-largest railroad, may be the best indicator of where railroad stocks could be heading. When it released earnings Tuesday, Burlington Northern actually posted a slight gain in net income on 11% revenue growth. Even better, demand was so strong the company raised its average price by 2%.

"Burlington Northern's strong first-quarter results confirm that ... the company is taking advantage of robust demand within the intermodal and export grain markets and translating this into improved operating results," said James Valentine, analyst for Morgan Stanley, in reaction to the results. "The jump in Burlington Northern's quarterly earnings emerged approximately one quarter sooner than we anticipated."

Business Is Too Good

Indeed, the planets are aligning for railroads. Demand is so strong that many companies are seeing results falter because they cannot keep up. From coast to coast, retailers and manufacturers are turning to intermodal shipping, where truck trailers are hauled over long distances by trains, then unloaded onto trucks for local delivery.

Tracking the Railroads
Company Price-to-2005 Earnings Analyst Ratings YTD % Change*
Buy Hold Sell
Burlington Northern 11.84 8 4 2 +0.2%
CSX 12.11 3 8 1 -15.5
Kansas City Southern 18.51 2 1 2 -2.9
Norfolk Southern 12.44 8 6 0 +3.5
Union Pacific 11.45 7 7 1 -14.7
*Through April 28, 2004 Source: Bloomberg, Baseline, TSC Research

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