Business Context and Reporting Period
Company: Canadian National Railway Company (CN)
Filing Type: Form 6-K (Report of Foreign Issuer)
Reporting Period: Third quarter and nine months ended September 30, 2008
Business Overview: CN operates a transcontinental railroad network spanning Canada and mid-America, serving key ports and metropolitan areas. The company reported financial results based on U.S. GAAP.
Key Financial Metrics
| Metric (in millions, except per share) | Q3 2008 | Q3 2007 | 9M 2008 | 9M 2007 |
|---|---|---|---|---|
| Revenues | $2,257 | $2,023 | $6,282 | $5,956 |
| Operating Income | $844 | $768 | $2,074 | $2,140 |
| Net Income | $552 | $485 | $1,322 | $1,325 |
| Diluted EPS | $1.16 | $0.96 | $2.74 | $2.59 |
| Operating Ratio | 62.6% | 62.0% | 67.0% | 64.1% |
| Cash from Operations | $957 | $446 | $1,531 | $1,475 |
| Free Cash Flow (Non-GAAP) | $258 | $142 | $483 | $193 |
| Total Debt (Current + Long-term) | $6,713 | N/A | N/A | N/A |
| Cash and Equivalents | $288 | $214 | N/A | N/A |
Note: Total Debt for Q3 2008 is calculated as Current portion of long-term debt ($449M) + Long-term debt ($6,264M).
Material Changes vs. Prior Period
- Revenue Growth: Q3 revenues increased 12% year-over-year, driven by freight rate increases (approx. two-thirds due to higher fuel surcharges) and volume growth in coal, metals/minerals, and intermodal. This offset declines in forest products and grain.
- Profitability: Net income rose 14% to $552 million. Diluted EPS increased 21% to $1.16. Results included a deferred income tax recovery of $41 million ($0.09/share) in Q3 2008, compared to $14 million in Q3 2007.
- Operating Expenses: Increased 13% to $1,413 million, primarily due to higher fuel costs and purchased services. Labor and fringe benefits expenses decreased.
- Operating Ratio: Deteriorated slightly to 62.6% from 62.0% in the prior year quarter, reflecting the impact of higher fuel costs.
- Volume Metrics: Revenue ton-miles (RTM) declined 2% in Q3, while Gross ton-miles (GTM) declined 2.4%. However, revenue per RTM increased 14%.
Guidance, Outlook, and Risks
Management Commentary: CEO E. Hunter Harrison cited "outstanding" operational execution and gains in network fluidity. However, he noted an "uncertain economic landscape" in North America and globally, warning of recessionary conditions.
Outlook: Management believes CN is well-positioned due to its precision railroading model and growth prospects in intermodal, bulk commodities, and Western Canadian energy developments. No specific numerical guidance for the full year was provided in this filing.
Risks and Contingencies:
- Economic Conditions: Significant risk from the current financial market situation and recessionary conditions affecting business prospects for the next 12-18 months.
- Acquisition: Pending acquisition of Elgin, Joliet and Eastern Railway Company (EJ&E) for approx. $300 million. The transaction is subject to Surface Transportation Board (STB) approval and an Environmental Impact Statement (EIS), with timing uncertain.
- Legal and Environmental: Aggregate reserves for personal injury claims are $452 million. Environmental accruals total $118 million. The company faces potential liabilities under Superfund laws at approx. 19 sites.
- Commodity Prices: Exposure to fuel price volatility, though hedging and surcharges are utilized.
Investor Verification Checklist
- Tax Adjustments: Verify the sustainability of earnings by excluding the $41 million deferred income tax recovery included in Q3 2008 net income.
- Fuel Cost Impact: Assess the sensitivity of future margins to diesel fuel prices, which averaged $3.84/gallon in Q3 2008 (up from $2.39 in Q3 2007).
- Acquisition Status: Monitor the STB decision timeline regarding the EJ&E acquisition and potential delays due to the EIS process.
- Share Repurchases: Note the aggressive capital return strategy; CN repurchased 6.0 million shares in Q3 2008 for $327 million under a new program.
- Volume Trends: Investigate the reasons for the 2% decline in revenue ton-miles despite revenue growth, specifically the weakness in forest products and grain volumes.