CNI

Business Context and Reporting Period

Company: Canadian National Railway Company (CN)
Filing Type: Form 6-K (Report of Foreign Private Issuer)
Reporting Period: Second Quarter and First Six Months ended June 30, 2002
Release Date: July 22, 2002
Accounting Basis: U.S. GAAP (Primary) and Canadian GAAP

CN reported strong second-quarter results driven by the full-year consolidation of the Wisconsin Central (WC) acquisition, completed in October 2001. The company operates a transcontinental network spanning Canada and the mid-United States.

Key Financial Metrics (U.S. GAAP)

Note: 2001 figures are adjusted to exclude a $98 million workforce reduction charge, a $99 million investment write-down, and a $110 million tax recovery to ensure comparability.

Material Changes vs. Prior Period

• Revenue Growth: Q2 revenues increased 11% year-over-year, primarily due to the inclusion of WC revenues and growth in petroleum/chemicals, automotive, and intermodal segments.
• Profitability: Net income rose 17% to $280 million. Operating income increased 10% to $490 million (excluding the 2001 special charge).
• Segment Performance:
  • Gainers: Petroleum and chemicals (+28%), Forest products (+24%), Metals and minerals (+18%), Automotive (+14%), and Intermodal (+7%).
  • Decliners: Coal (-8%) due to reduced utility demand and weak exports; Grain and fertilizers (-7%) due to a poor Canadian crop.
• Cost Structure: Operating expenses rose 12% (excluding the 2001 special charge) driven by WC consolidation, higher labor costs, and equipment rents, partially offset by lower fuel costs.
• Volume: Total carloadings increased 12% to 1,059 thousand in Q2.

Guidance, Outlook, and Risks

Management Commentary: CEO Paul M. Tellier highlighted that strength in service-sensitive merchandise businesses offset difficult conditions in grain and coal. The company remains cautious about the second half of 2002 due to uncertainty in consumer and business confidence.

Outlook: CN expects continued economic recovery for the balance of the year but anticipates capital expenditures to remain at approximately the same level as 2001.

Risks and Contingencies:

• Legal & Environmental: Aggregate reserves for legal matters were $250 million (including $143 million for work-related injuries). Environmental accruals totaled $103 million.
• Labor: As of July 2002, 98% of the Canadian unionized workforce had ratified settlements. U.S. negotiations were ongoing with 43% of the WC workforce settled; risks of local work stoppages exist.
• Competition: Intense competition from trucking in eastern Canada and barge transport along the Mississippi River (affecting Illinois Central subsidiary).
• Convertible Securities: On July 3, 2002, the company terminated conversion rights for 5.25% convertible preferred securities, resulting in the issuance of approximately 6 million common shares.

Investor Verification Checklist

• WC Integration: Verify the realization of synergies and cost savings from the Wisconsin Central acquisition, as pro forma figures do not reflect these benefits.
• Commodity Exposure: Monitor the recovery of grain and coal volumes, which were significantly depressed by crop failure and utility demand in 2002.
• Labor Stability: Track the outcome of ongoing U.S. labor negotiations, particularly for the Wisconsin Central workforce, to assess strike risk.
• Debt Maturity: Review the status of the $1 billion revolving credit facility expiring in March 2003 and the commercial paper program.
• Environmental Liabilities: Assess potential future costs related to known contaminated sites and derailment risks, given the $103 million accrual.