Canadian Pacific Railway Limited — Q2 2016 Form 10-Q
Filing identity: The supplied filing is for Canadian Pacific Railway Limited, not Canadian Pacific Kansas City Ltd. It covers the quarter and six months ended June 30, 2016. Financial figures are in Canadian dollars unless stated otherwise.
Business context and results
CP is a freight railway operator. In Q2, lower freight volumes, northern Alberta wildfires and a stronger Canadian dollar weighed on results; improved train utilization and operating efficiency provided partial offsets.
| Metric | Q2 2016 | Q2 2015 | Change |
|---|---|---|---|
| Revenue | $1.450 billion | $1.651 billion | -12% |
| Operating income | $551 million | $646 million | -15% |
| Net income | $328 million | $390 million | -16% |
| Diluted EPS | $2.15 | $2.36 | -9% |
| Adjusted diluted EPS | $2.05 | $2.45 | -16% |
| Operating ratio | 62.0% | 60.9% | Up 110 bps |
For the first six months, revenue was $3.041 billion (-8%), operating income $1.204 billion (-4%), net income $868 million (+22%), diluted EPS $5.67 (+32%) and adjusted diluted EPS $4.55 (-3%). The reported net-income and EPS increases primarily reflect a $199 million non-cash foreign-exchange gain on U.S.-dollar debt; adjusted measures exclude this item.
Cash flow, debt and liquidity
- Q2 operating cash flow was $512 million, down from $585 million; six-month operating cash flow was $730 million, down from $1.140 billion.
- Q2 free cash flow, a non-GAAP measure, was $137 million versus $173 million; six-month free cash flow was $66 million versus $485 million. Lower operating cash flow was the principal driver of the six-month decline.
- Cash and equivalents were $92 million at June 30, down from $650 million at year-end 2015. Property additions were $608 million for the half-year.
- Debt carrying value, including current maturities, was $8.581 billion, versus $8.957 billion at year-end. Commercial paper outstanding was US$135 million; the US$2.0 billion revolving facility was undrawn, with US$1.9 billion available after backing commercial paper.
- CP reported compliance with its revolving-credit debt covenant. Its adjusted net debt-to-adjusted EBITDA ratio rose to 2.9 from 2.3 year over year; interest coverage declined to 5.5 from 8.0.
Material changes and management commentary
- Q2 freight revenue fell 13%; carloads decreased 8% and revenue ton-miles 12%. Crude revenue dropped 70% and potash revenue 25%. Lower fuel prices also reduced fuel-surcharge revenue.
- Management estimated the Alberta wildfires reduced Q2 operating income by $29 million, including a $20 million revenue decline and adverse fuel-cost/recovery timing effects.
- Operating efficiency improved: average train speed increased 11% to 24.1 mph, average train weight rose 3%, train length rose 4%, and terminal dwell improved 3%. Train-accident and personal-injury rates also declined year over year.
- CP repurchased 5.13 million shares for $867 million in Q2 under a new authorization for up to 6.91 million shares. The quarterly dividend increased to $0.50 per share from $0.35.
- The Arbutus Corridor sale generated $55 million gross proceeds and a $50 million pre-tax gain in Q1. CP also recorded a $17 million Q2 gain on a noncash exchange of surplus freight cars.
Outlook, risks and contingencies
- No specific earnings or revenue forecast is provided in the supplied filing text. Management expected a 2016 annualized effective tax rate of approximately 27.25%; estimated pension contributions of $50–$60 million in 2016; and described ongoing capital commitments and a substantial contractual payment schedule.
- Management said available cash, credit facilities and other liquidity sources were adequate for normal operations. However, Moody’s and DBRS changed relevant debt outlooks from stable to negative; S&P maintained a stable outlook.
- Key risks include weak freight demand and commodity volumes, weather and service disruptions, fuel-price and surcharge timing, foreign-exchange and interest-rate movements, pension funding volatility, and higher debt-service costs. CP cautioned that forward-looking assumptions may not be realized.
- Litigation related to the 2013 Lac-Mégantic derailment remains significant. Quebec claims include a $409 million lawsuit and a nearly $95 million cleanup claim; additional class, trustee, cargo and insurance claims are described. CP denies liability, intends to defend the claims, and says potential liability and loss cannot currently be determined. CP also said a CN customer-data lawsuit’s potential loss could not be reasonably estimated.
- Environmental remediation provisions were $86 million at June 30, with payments expected through 2026. Management stated that resolution of other ordinary-course legal matters was not expected to materially harm financial position or results.
Important facts for investors to verify
- Confirm the issuer: this filing names Canadian Pacific Railway Limited, despite the request metadata naming Canadian Pacific Kansas City Ltd.
- Track freight volumes and recovery in crude, potash, grain and other affected traffic, as well as the duration and financial effects of wildfire-related disruption.
- Assess whether operating-efficiency gains can offset weaker volumes, inflation and higher depreciation and interest expense.
- Review cash generation, share repurchases and dividends against capital spending, debt maturities, commercial-paper funding and credit-rating outlooks.
- Monitor developments and potential exposure in Lac-Mégantic and CN litigation; the filing does not provide a clear estimate of ultimate loss.
- Distinguish GAAP results from adjusted measures, particularly the first-half foreign-exchange gain on U.S.-dollar debt and other asset-sale gains.