Two Blue-Chips I Bought This Week:

Union Pacific and General Electric

Whitney Tilson
Kase Capital Management
12th Annual Value Investing Seminar
Trani, Italy
July 10, 2015

Kase Capital Management

Manages Three Hedge Funds and is a
Registered Investment Advisor
Carnegie Hall Tower
152 West 57th Street, 46th Floor
New York, NY 10019
(212) 277-5606
WTilson@KaseCapital.com

Disclaimer
THIS PRESENTATION IS FOR INFORMATIONAL AND EDUCATIONAL
PURPOSES ONLY AND SHALL NOT BE CONSTRUED TO CONSTITUTE
INVESTMENT ADVICE. NOTHING CONTAINED HEREIN SHALL CONSTITUTE
A SOLICITATION, RECOMMENDATION OR ENDORSEMENT TO BUY OR
SELL ANY SECURITY OR OTHER FINANCIAL INSTRUMENT.

INVESTMENT FUNDS MANAGED BY WHITNEY TILSON OWN SHARES IN

UNION PACIFIC AND GENERAL ELECTRIC. HE HAS NO OBLIGATION TO
UPDATE THE INFORMATION CONTAINED HEREIN AND MAY MAKE
INVESTMENT DECISIONS THAT ARE INCONSISTENT WITH THE VIEWS
EXPRESSED IN THIS PRESENTATION.
WE MAKE NO REPRESENTATION OR WARRANTIES AS TO THE
ACCURACY, COMPLETENESS OR TIMELINESS OF THE INFORMATION,
TEXT, GRAPHICS OR OTHER ITEMS CONTAINED IN THIS PRESENTATION.
WE EXPRESSLY DISCLAIM ALL LIABILITY FOR ERRORS OR OMISSIONS IN,
OR THE MISUSE OR MISINTERPRETATION OF, ANY INFORMATION
CONTAINED IN THIS PRESENTATION.
PAST PERFORMANCE IS NO GUARANTEE OF FUTURE RESULTS AND
FUTURE RETURNS ARE NOT GUARANTEED.
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Union Pacific

A slide Ive presented over the past few years

The Railroad Industry: What Can Happen

When an Industry Consolidates

The semiconductor, U.S. airline, and auto rental industries today remind me of
the railroads a decade or so ago: a lousy, capital-intensive industry
characterized by cut-throat competition, low margins, low returns on capital, and
high debt levels consolidates and slowly turns into a much better industry
When this happens, there can be a decade-long tailwind of strong top-time
growth combined with improved pricing, margins, and returns on capital, leading
to rapidly rising earnings
This, combined with investors awarding these earnings a higher multiple, can
lead to tremendous long-term stock returns (the worst performer is up 7x!):

KC Southern

Union Pacific
Canadian Natl
CSX
S&P 500

Canadian Pacific Norfolk Southern

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Overview

153-year-old Union Pacific is the largest railroad in North

America, with revenue of $24 billion in 2014
UP and Berkshire Hathaways Burlington Northern Santa Fe
($23.2 billion in revenue) dominate the western U.S.
With a $95 billion enterprise value, it is the most valuable
transportation company in the world, just ahead of UPS ($93
billion)
Headquartered in Omaha, UPs network stretches across 23
states and 32,000 miles of track, from Los Angeles and Seattle
to Chicago and New Orleans
UP offers gateways to the nations busiest ports, and ultra-long
routes from origin to destination greatly lower the cost per mile
of transport

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Union Pacifics Network

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Union Pacifics Stock Has Soared Over the

Past Decade

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But Has Been Weak in the Past Year

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Union Pacific Is a Spectacular Business

A duopoly with an extremely rational competitor

There will no new competitors
A ~5x cost advantage over trucking
Trucks ship a ton of freight an average of 120 miles on a gallon of
diesel fuel; railroads can move the same cargo 600 miles on that
gallon

Strong revenue growth

Substantial pricing power, leading to rising margins over time
Net margin: 22%
Return on equity: 25%

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Union Pacifics Revenue Has Doubled in

the Past Decade

$25

$20
$B
$15

$10

$5

$0
2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

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Union Pacifics Profit Margin and ROE

Have Soared as Well

25%

Return on Equity %
Net Income Margin %

20%

15%

10%

UPs net margin of 21.9% rivals Apple (22.5%)

and exceeds Goldman Sachs (21.1%), Intel
(20.9%), Google (20.2%) and Pfizer (18.4%)

5%

0%
2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

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Valuation

Stock price (7/9/15): $95.85

Market cap: $84.2 billion
EV: $94.9 billion
P/E (trailing and 2015): 16.4x
P/E (2016): 14.4%
EV/EBITDA: 8.8x
Dividend yield: 2.3%

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Why Has the Stock Been Weak?

Thanks to coal, shale oil, grain and autos, Union Pacifics

volumes soared 7% in 2014, ~4-5x the 1.5% or so thats normal
in a good economy
Two of UPs major growth engines, coal and shale oil, are
currently under pressure
Labor strife at the ports in Los Angeles and Long Beach caused
a big drop in shipments of imports from Asia
The sudden pullback in these businesses, following a big
buildup in 2014, has temporarily saddled Union Pacific with too
many people and too much equipment, so it has idled some
locomotives and furloughed 600 workers (1.3% of 47,200)
Revenue is expected to fall ~3% in 2015 and EPS will only rise
~2%

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Reasons for Optimism

Railroads enjoy a big, and growing, cost advantage over trucks for
long-haul shipments, so the shift of cargoes from trucks to trains
will continue and be UPs principal growth engine in the future
The Long Beach and LA ports are returning to normal
The logjams from the surge in business in 2014 are now easing
The oil business (sand, drilling pipe and crude oil), even at its
peak in 2014, was only 4.5% of revenue
Four major franchises intermodal freight, chemicals,
automotive, and agricultural products are all showing strong
gains
More than a dozen big chemical companies are building tens of
billions of dollars in petrochemical plants along the Gulf Coast, where
UP has the best rail network
Virtually all the worlds major automakers have announced or
completed major manufacturing hubs in Mexico, and UP transports
two out of three of the new cars that Mexico exports to the U.S.
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Target Stock Price

Revenue and EPS are expected to rise ~7% and ~14%,

respectively in 2016
At 18-20x consensus analysts estimates of 2016 EPS of $6.72
results in a share price of $121-$134, 26-40% above todays
levels

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General Electric

Overview

Founded in 1889, GE is the only one of the original 12

companies still in the Dow Jones Industrial Average
The 17th largest business in the world by revenue in 2014, with
$148 billion
GE is shedding most of GE Capital and its appliance business,
so revenue is expected to decline by ~15% to $125 billion in
2015
Earnings are expected to decline from $1.51 in 2014 to $1.38 in
2015 (excluding one-time charges)

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General Electrics Revenue Is Flat

Over the Past Eight Years

$200
$180
$160

$B

$140
$120
$100
$80
$60
$40
$20
$0

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General Electrics Profit Margin Has Been Flat

and ROE Has Declined Over Two Decades

30%
25%

Return on Equity %
Net Income Margin %

20%
15%
10%
5%
0%

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Not Surprisingly, General Electrics

Stock Is Where It Was 17 Years Ago

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General Electrics Remaining

Businesses Are of Exceptional Quality

Segment
Power & Water
Aviation
Healthcare
Oil & Gas
Energy Management
GE Capital
Transportation
Appliances & Lighting

2015
Estimated
Revenue
$35.4
$25.8
$18.3
$16.5
$9.7
$9.5
$6.1
$1.5

2015 Est.
Operating
Margin
15.9%
21.5%
17.2%
13.1%
5.2%
15.0%
21.1%
5.5%

Note: Revenue estimates for GE Capital and Appliances & Lighting are for 2016 to reflect pending sales

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Valuation

Stock price (7/9/15): $26.26

Market cap: $261 billion
P/E (2015 adjusted): 19.0x
P/E (2016 adjusted): 16.6%
Dividend yield: 3.5%

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Why Is the Stock Interesting?

GE is selling assets more rapidly than expected and getting

better-than-expected prices
When GE is finished shedding assets next year, what remains
will be one of the premier global industrial businesses with high
margins, solid growth and strong backlogs
The stock will likely command a premium multiple (P/E of 16-20)
Analysts project earnings of ~$2.00 in 2018, but I believe
earnings will be $2.50, assuming:
The Alstom deal goes through
Power & Water margins rebound to 2009-13 levels (20%) by 2018
Share repurchases average ~6% annually in 2016-18

At 16-20x $2.50 results in a share price of $40-$50 in 2018, 5493% above todays levels and you get paid a 3.5% dividend
while you wait
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General Electric Today Reminds Me of Microsoft 2 Years

Ago It Had Been Flat for ~15 Years and Is Up 60% Since

+60%

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General Electric Also Reminds Me of AIG ~3 Years

Ago When It Was In the Midst of Selling Off Assets

+100%

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