Business Context and Reporting Period
Company: Canadian National Railway Company (CN)
Filing Type: Form 6-K (Report of Foreign Issuer)
Reporting Period: Second Quarter ended June 30, 2015 (Three and Six Months)
Business Overview: CN operates a rail network spanning Canada and mid-America, transporting goods valued at over C$250 billion annually across resource, manufacturing, and consumer sectors.
Key Financial Metrics
| Metric | Q2 2015 | Q2 2014 | YTD 2015 | YTD 2014 |
|---|---|---|---|---|
| Revenues | C$3,125 million | C$3,116 million | C$6,223 million | C$5,809 million |
| Operating Income | C$1,362 million | C$1,258 million | C$2,425 million | C$2,078 million |
| Net Income | C$886 million | C$847 million | C$1,590 million | C$1,470 million |
| Diluted EPS | C$1.10 | C$1.03 | C$1.96 | C$1.77 |
| Adjusted Diluted EPS | C$1.15 | C$1.03 | C$2.01 | C$1.68 |
| Operating Ratio | 56.4% | 59.6% | 61.0% | 64.2% |
| Free Cash Flow (YTD) | C$1,051 million (vs. C$1,270 million YTD 2014) | |||
| Total Debt (Carrying Amount) | C$9,344 million (as of June 30, 2015) | |||
| Cash and Equivalents | C$86 million (as of June 30, 2015) |
Material Changes vs. Prior Period
- Profitability: Net income increased 5% year-over-year in Q2. Adjusted diluted EPS rose 12% to C$1.15, excluding a C$42 million deferred income tax expense related to a higher provincial corporate tax rate.
- Revenue & Volume: Total revenues were flat year-over-year. Carloadings decreased 3% to 1,414 thousand, and revenue ton-miles (RTM) declined 7%. This volume decline was offset by a 7% increase in rail freight revenue per RTM (yield), driven by the weaker Canadian dollar and freight rate increases.
- Operating Expenses: Expenses decreased 5% to C$1,763 million, primarily due to lower fuel costs (average price dropped to C$2.73/gallon from C$3.84) and reduced labor costs, partially offset by currency translation impacts.
- Segment Performance:
- Increases: Automotive (+17%), Forest Products (+8%), Petroleum/Chemicals (+4%), Intermodal (+2%).
- Decreases: Coal (-26%), Grain/Fertilizers (-7%), Metals/Minerals (-5%).
- Currency Impact: On a constant currency basis, Q2 net income would have been C$64 million lower due to the fluctuation of the Canadian dollar against the U.S. dollar.
Guidance, Outlook, and Risks
- Outlook: Management reaffirmed guidance for double-digit adjusted EPS growth for full-year 2015 compared to 2014's C$3.76 adjusted diluted EPS.
- Capital Program: CN plans to invest approximately C$2.7 billion in 2015, with C$1.4 billion targeted for network safety and integrity (track infrastructure).
- Revised Assumptions:
- North American industrial production growth assumption lowered to ~1% (from 3%).
- Total carloads for 2015 now expected to be generally comparable to 2014 (previously forecast at 3% growth).
- No longer counting on growth in energy-related commodities (crude oil, frac sand).
- Assumed CAD/USD exchange rate of ~0.80 and crude oil price of ~US$50/barrel.
- Risks & Contingencies:
- Legal/Claims: Aggregate reserves for personal injury and other claims are C$305 million.
- Environmental: Aggregate accruals for environmental costs are C$133 million across 245 identified sites.
- Commitments: C$1,525 million in commitments for equipment and services; C$527 million remaining for Positive Train Control (PTC) implementation.
Investor Verification Checklist
- Volume vs. Yield: Verify the sustainability of yield improvements (7% increase) given the 7% decline in revenue ton-miles and 3% decline in carloads.
- Currency Sensitivity: Assess the impact of the weaker Canadian dollar on reported earnings versus constant currency performance.
- Energy Sector Exposure: Monitor the significant decline in coal (-26%) and energy-related commodities, and the company's revised assumption of no growth in these sectors for 2015.
- Capital Allocation: Review the C$2.7 billion capital program execution, specifically the balance between maintenance (C$1.4 billion) and growth projects.
- Debt Levels: Note the increase in adjusted debt-to-total capitalization ratio to 41.7% (from 38.1% in 2014), largely driven by currency translation effects on U.S. dollar-denominated debt.