Business Context and Reporting Period
Company: Canadian Pacific Railway Limited (CPR)
Filing Type: Form 6-K (Report of Foreign Issuer)
Reporting Period: Second Quarter and First Half ended June 30, 2004
Filing Date: August 6, 2004
CPR operates a transcontinental railway network of approximately 14,000 miles serving Canada and the U.S. Northeast and Midwest. The company reported strong business growth in five of its seven business lines, driven by increased freight volumes in bulk commodities, intermodal, and industrial products.
Key Financial Metrics
| Metric (CAD Millions) | Q2 2004 | Q2 2003 (Restated) | YTD 2004 | YTD 2003 (Restated) |
|---|---|---|---|---|
| Total Revenues | $1,004.7 | $914.1 | $1,891.3 | $1,792.9 |
| Operating Income | $220.6 | ($29.2) | $336.6 | $88.7 |
| Net Income | $83.7 | $34.1 | $107.2 | $136.0 |
| Diluted EPS | $0.53 | $0.22 | $0.67 | $0.86 |
| Operating Ratio | 78.0% | 79.7% | 82.2% | 83.1% |
| Cash from Operations | $249.4 | $100.5 | $352.0 | $154.2 |
| Net Debt to Net Debt + Equity | 47.0% | 46.9% | 47.0% | 46.9% |
Note: Q2 2003 figures include a special charge of $215.1 million for restructuring and asset impairment. YTD 2003 Net Income was higher due to a foreign exchange gain on long-term debt, whereas 2004 incurred a loss.
Material Changes vs. Prior Period
- Revenue Growth: Total revenues increased 10% in Q2 2004 and 5.5% YTD 2004. Freight revenues rose 9.6% in Q2, driven by bulk commodities (grain, coal, sulphur/fertilizers) and intermodal traffic.
- Profitability: Operating income improved significantly in Q2 2004 ($220.6M) compared to a loss in Q2 2003 ($29.2M), primarily due to the absence of the 2003 special charge and higher volumes. However, YTD Net Income declined 21.2% due to a $33.3M foreign exchange loss on long-term debt in 2004 versus a $169.1M gain in 2003.
- Non-GAAP Performance: Excluding foreign exchange impacts and special items, income increased 23% in Q2 2004 and 16.6% YTD 2004. Non-GAAP diluted EPS was $0.65 in Q2 2004 (up 22.6% YoY).
- Expense Trends: Operating expenses increased 7.7% in Q2 2004. Compensation and benefits rose 13% due to incentive pay and training costs. Depreciation increased 13% due to asset additions. Fuel expenses were relatively stable despite higher prices, aided by hedging and efficiency.
Guidance, Outlook, and Risks
- 2004 Outlook: Management expects diluted EPS growth (excluding FX and specified items) of 5% to 10% for the full year 2004 compared to restated 2003 EPS of $2.07. This assumes oil prices averaging US$37/barrel and an exchange rate of $1.34 CAD/USD.
- Operational Strategy: CPR is managing capacity constraints by adding 41 new locomotives in Q2 and planning 34 more for Q4. The company is implementing a capacity allocation system for import containers and advancing the "MaxStax" initiative to improve intermodal efficiency.
- Restructuring: CPR is executing a restructuring plan to eliminate 820 positions by end of 2005. Approximately 300 positions are targeted for elimination in 2004. A new agreement with Norfolk Southern Railway aims to improve profitability in the Northeast U.S. network.
- Risks and Contingencies:
- Foreign Exchange: A stronger Canadian dollar negatively impacts U.S. dollar-denominated revenues and creates losses on U.S. dollar-denominated debt.
- Environmental: CPR is investigating contamination at a Minnesota site; costs are not yet estimable but could be material. CPR has filed a claim against former lessees.
- Legal: A dispute exists with a major coal customer regarding freight rates; CPR has filed a statement of claim.
- Pension Deficit: The defined benefit pension plan deficit was $753.7 million at Dec 31, 2003. A recent revaluation of real estate assets lowered the market value by $70 million, though this is offset by other gains.
Investor Verification Checklist
- Non-GAAP Reconciliation: Verify the reconciliation of Net Income to "Income before FX on LTD and other specified items" to understand the core operating performance versus reported GAAP results.
- Foreign Exchange Sensitivity: Assess the impact of the strengthening Canadian dollar on future earnings, noting the $3.0 million operating income impact per one-cent change in the exchange rate.
- Restructuring Progress: Monitor the execution of the 820-job reduction plan and the associated cash outflows versus expected savings ($35M in 2004).
- Capital Expenditures: Review the $563.4 million in committed capital expenditures and the $670M-$710M projected spending for 2004, primarily for track and locomotives.
- Environmental Liabilities: Track the status of the Minnesota site investigation and the $89.8 million accrued environmental remediation liability.