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Greenbrier: A cheap ticket to a railway rebound

Perhaps you think the recent pullback in equities is a well-considered re-evaluation of the risks facing the global economy and, specifically, the United States. Or, conversely, perhaps you take the mini-slump as undue skepticism about the grinding, gradual U.S. recovery.

If the latter, let me point to a little-known name that's a relatively inexpensive way to bet that things will continue to improve south of the border. The Greenbrier Cos. , headquartered in Lake Oswego, Ore., makes cars for all the major North American railways. The company's shares, trading around $18 (U.S.), are down by 25 per cent year to date and are off their 52-week high by one-third.

This, despite results for the most recent quarter that handily topped expectations for both profit and revenue. What's the problem?

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One issue is that the company released these earnings April 9, at the beginning of one of the worst weeks in some time for U.S. stocks. The deeper issue, though, is that stocks in the railcar industry depend on a statistic not found on the income statement – the backlog of orders for railcars.

Peter Nesvold, an analyst with Jefferies & Co., says stocks in the group tend to move tightly with the industry-wide backlog of orders. And, Mr. Nesvold noted, Greenbrier ended the quarter with orders for only 12,500 railcars in backlog. That was down 6 per cent from the first quarter and represented the second consecutive quarter of sequential declines. Management said orders for railcars to transport equipment for energy exploration, specifically hydraulic fracturing or "fracking," seem to be slowing.

Yet the quarter-to-quarter backlog numbers obscure more positive trends, argues Sal Vitale of Sterne, Agee & Leach Inc., who has a "buy" rating on the stock with a $32 target price. He notes that the company received 2,300 orders in the first few weeks of the current quarter at an average price of $117,000, well above the average of $88,000 in the current backlog. Part of the improvement comes from selling more expensive models, Mr. Vitale said, but some comes from improved pricing, "a positive indicator for margin expansion in fiscal year 2013."

"The slowdown in orders for [hydraulic fracturing]cars due to low natural gas prices is not indicative of a broken railcar cycle; in fact, the cycle is becoming more broad-based, with orders for varied car types," he says.

Kristine Kubacki of Avondale Partners LLC, who has a "market outperform" rating and a target price of $35, says she believes "we are still in the early innings of the current cycle, and the industry remains in the ramp-up stage."

For his part, Mr. Nesvold of Jefferies says the industry's deliveries dropped 89 per cent from 2006 to 2009 and backlogs remain 33-per-cent below the past peak.

Mr. Nesvold, it must be said, is more conservative than many peers about Greenbrier's prospects, as he's concerned about the energy-sector slowdown and says "there will be execution and demand bumps along the road to peak earnings." He has a "hold" rating and forecasts "peak cycle" earnings two years from now of $3.05 a share. Putting a multiple of eight on those earnings – a multiple which is at the low end of the historical range for the industry – and discounting the results back to the present day, produces a target price of $20 a share.

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Here's how the more bullish observers, like KeyBanc Capital Markets Inc.'s Steve Barger, see it: Greenbrier is trading at just over seven times his EPS forecast of $2.55 for the fiscal year ending in August, 2013; the historical average P/E for Greenbrier is close to 14. His $29 price target, representing a gain of nearly 60 per cent from current levels, is just 11.4 times forecast 2013 earnings.

When the multiple is enterprise value (market capitalization plus net debt) to EBITDA (earnings before interest, taxes, depreciation and amortization), Greenbrier sits today at 4.4 times Mr. Barger's estimate, versus a historic 8.1 multiple.

It's almost as if Greenbrier's valuation, driven by overly negative sentiment, has gone off the rails. There seem to be ready profits when it gets back on track.

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About the Author
Business and investing reporter and columnist

A business journalist since 1994, David Milstead began writing for The Globe and Mail in 2009. During eight years at the Rocky Mountain News in Denver, Colo., he individually or jointly won nine national awards from SABEW, the Society of American Business Editors and Writers. He has also worked at the Wall Street Journal. More

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