Why I

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Why I’m Buying CSX Corporation (CSX)

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Railroads, robber barons of yore, and Monopoly (the board game) evoke several likenesses: of wealth earned via nepotistic monopolies, fat men smoking cigars lit with $100 bills, and the Wild West variety of frontier capitalism. And while oddly romantic, it just wasn’t true 10 years ago, the railroad business more closely resembled the ragtag vagabonds that hitched a ride. Inefficient operations, infrastructure in disrepair, and unconsolidated end markets coupled to high reinvestment needs dogged railroads’ returns for decades.

But the past decade’s “Rail Renaissance” ushered a convergence between Monopoly and reality. After a rash of merger activity, roughly 90% of the nation’s freight moves across four railroads’ tracks. What seemed unfathomable a decade ago is now fact: Railroads are primed to earn high returns on invested capital, gain share from trucking, and sustainably increase prices.

CSX Corporation (CSX)

That’s why I’m buying CSX Corporation (NYSE:CSX) – the freight railroad servicing almost the entire East Coast – for my Real Money Portfolio. Misplaced concerns over declining coal volumes, which represented 27% of CSX’s revenues last year, and a market that doesn’t appreciate the fundamental quality of its business, afford investors CSX shares at a mere 13 times earnings. Hop aboard.

The real-life monopoly
Originally born of the B&O Railroad in 1827, also a railroad in Monopoly (the board game), CSX currently operates a 21,000-mile track network, serving 23 states east of the Mississippi. Demographically speaking, it ranks among the most attractively positioned railroads, accessing the most populous regions in the United States – New York City, Chicago, DC, Atlanta, and Boston to a name few. In the year past, its most significant products (by revenue) were coal, chemicals, cars, and intermodal (moving containers or semi trailers).

As other Class I railroads, CSX Corporation (NYSE:CSX) benefits from formidable competitive advantages. Because the cost of duplicating CSX’s track network numbers untold billions, and obtaining rights of way harder than pushing a needle up stairs, would-be competitors face almost prohibitive barriers to entry. Likewise, because it owns a huge, geographically concentrated track network, it benefits from significant network effects: An incremental mile of track, or an additional carload, can add outsized value to the bottom line.

In the past decade, railroads have, increasingly, employed technology and operational know-how to their advantage: packing cars full on both legs of a trip, double-stacking them, and running longer trains. This, tied to oil’s move north of $80 per barrel – a circumstance unlikely to change – has afforded rail a tremendous cost advantage to trucking. By Burlington Northern Santa Fe’s math, rail is three times more fuel efficient than truck. Incumbent competitive advantages in hand, it’s provided a license for Class I rails to increase prices at a 4%-5% clip. The numbers speak volumes: Operating margins at Berkshire Hathaway Inc. (NYSE:BRK-B)‘s Burlington Northern Sante Fe, Union Pacific Corporation (NYSE:UNP), Norfolk Southern Corp. (NYSE:NSC), and CSX have improved by more than 10 percentage points. That’s not a typo.

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