Canadian National Railway Beats Q2 Earnings, Revises Outlook

Canadian National Railway Company (CNI) reported second-quarter 2014 adjusted earnings per share of C$1.03 (approximately 96 cents), beating the Zacks Consensus Estimate of 92 cents. Results also increased 24.1% year over year on record volumes in several of its core markets and solid execution.

Quarterly revenues increased 16.9% year over year to C$3,116 million (approximately $2,867 million) and surpassed the Zacks Consensus Estimate of $2,830 million. The year-over-year growth was attributable to favorable currency fluctuations, higher freight pricing, record volumes, strong energy market and market share gains.

On a year-over-year basis, revenues increased 35% for Grain and Fertilizers, 20% for Metals and Minerals, 17% each for Intermodal and Petroleum and Chemicals, 15% for Automotive, 9% for Forest Products, and 5% for Coal.

Carloads (volumes) increased 11% year over year and revenue ton miles (RTMs), which measures the relative weight and distance of rail freight transported by Canadian National, moved up 14% from the year-ago quarter.

Operating Statistics

In the second quarter, adjusted operating income improved 20.7% year over year to C$1,258 million (approximately $1,157.4 million), despite operating expenses increasing 14.4% year over year to C$1,858 million (approximately $1,709.4 million). Operating ratio (defined as operating expenses as a percentage of revenues) was 59.6%, down 130 basis points.

Liquidity

As of Jun 30, 2014, Canadian National had cash and cash equivalents of C$127 million (approximately $119.4 million). The company had long-term debt of C$7,661 million (approximately $7,201.3 million), representing a debt-to-total capitalization ratio of 36.5%, down from 39.6% in the year-ago quarter. Free cash flow was C$776 million (approximately $729.4 million) in the second quarter.

2014 Outlook

Canadian National revised its 2014 outlook owing to strong growth opportunity within Intermodal and bulk and merchandise markets.

This time, the company expects to deliver solid double-digit earnings growth in 2014 over its 2013 diluted earnings of $3.06 per share, compared to its earlier forecast of aiming for double-digit earnings growth in 2014.

Moreover, the company anticipates free cash flow in the range of C$1.8–C$2.0 billion, compared to its previous expectation of C$1.6–C$1.7 billion.

Canadian National expects carload growth in the mid-single-digit range. However, capital expenditure is projected at around C$2.25 billion, higher than previously estimated $2.21 billion.

For 2014, Canadian National projects a 3–4% year-over-year increase in industrial production in North America as compared to the previous guidance of year-over-year growth of 3%. It also expects U.S. housing starts at around 1 million units, down from the previous expectation of 1.1 million. Meanwhile, U.S. motor vehicles sales will remain around 16 million units.

The company expects U.S. 2013/2014 grain crop to remain above the five-year average and also projects similar growth for Canadian 2013/2014 grain crop. In addition, 2014/2015 grain crops will see high single-digit carload growth as opposed to the previous expectation of mid-single-digit carload growth. Canadian National also expects pricing to remain above inflation.

Further, Canadian National expects CAD/USD exchange rate of approximately $0.90–$0.95 and the price of crude oil (West Texas Intermediate) in the $95–$105 per barrel range.

Dividend

Canadian National paid $206 million in dividend to its shareholders during the second quarter of 2014. The company’s board of directors approved quarterly dividend payment of 25 Canadian cents, to be paid on Sep 30, 2014, to shareholders of record at the close of business on Sep 9.

Our Analysis

We believe strong demand across most of its businesses with improvements in consumer confidence in the U.S. and domestic retail markets bodes well for Canadian National. The company is well poised to reap benefits from improving demand and pricing trends. The company’s industry-leading operating ratio, service improvements and expected growth across the board, particularly in Intermodal and grain, should drive its projected earnings growth over the next few months.

However, low shipments of export coal for Canadian National in addition to competitive pressure and higher expenses dampen our optimism regarding the company. Canadian National currently has a Zacks Rank #3 (Hold).

Peer Results

On July 17 2014, Canadian National’s competitor Canadian Pacific Corp. (CP) reported adjusted earnings per share of C$2.11 (approximately $1.31) in the second quarter of 2014, up 48% year over year but below the Zacks Consensus Estimate of $1.38.

Upcoming Earnings Releases

Some of the upcoming earnings releases within the railroad sector include those of Norfolk Southern Corp. (NSC) and Union Pacific Corporation (UNP), scheduled on July 23 and 24, respectively.