Union Pacific CEO to Step Down

Over the weekend, Union Pacific UNP announced that CEO Lance Fritz will step down in 2023; it is actively seeking his replacement. Fritz has been CEO since 2015. It appears the announcement was sparked by pressure from activist investor Soroban Capital, which via a letter called for Fritz’s departure (on the grounds of “operating underperformance” in recent years) and suggested that Union Pacific bring back former COO and precision scheduled railroading specialist Jim Vena to take the reins.

While it’s not a foregone conclusion that the board will pursue Vena, we consider him to be an exceptional candidate. The market seems to agree, given that Union Pacific shares were up roughly 10% at the time of writing Feb. 27. As COO from early 2019 through late 2020, Vena helped successfully implement PSR, which drove material operational improvement and operating ratio gains for Union Pacific during that time frame.

Overall, hiring Vena would be a positive development, in our view, as it would likely raise the prospect of faster service gains and greater medium-term operating ratio improvement than we currently forecast. That said, Vena would still be facing headwinds beyond his control, including wage inflation from the new labor contract, heavy competition for intermodal from falling truckload rates, and rising regulatory risk following the Norfolk Southern derailment. Also, OR improvement won’t be simple in 2023, given wage inflation and likely muted volume trends. Visibility is limited, but we give Union Pacific the benefit of the doubt and assume its adjusted OR improves 50-60 basis points to 59.2% in 2023. We currently assume that the railroad can drive its OR down to about 56.5%-57.0% by 2025.

We are maintaining our $203 fair value estimate. At about $211 following today’s uptick, the shares trade at a 4% premium to our fair value estimate, placing it in fairly valued territory relative to our longer-term free cash flow growth assumptions.