Canadian Pacific Railway Limited — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017. The filing identifies the registrant as Canadian Pacific Railway Limited; amounts are in Canadian dollars unless stated otherwise. Interim results are unaudited and may be affected by seasonality.
Financial results and position
| Metric | Q1 2017 | Q1 2016 / comparison |
|---|---|---|
| Revenue | $1.603 billion | $1.591 billion; up 1% |
| Operating income | $671 million | $653 million; up 3% |
| Net income | $431 million | $540 million; down 20% |
| Diluted EPS | $2.93 | $3.51; down 17% |
| Adjusted diluted EPS (non-GAAP) | $2.50 | $2.50; unchanged |
| Operating ratio | 58.1% | 58.9%; improved 80 basis points |
| Adjusted operating ratio (non-GAAP) | 61.3% | 58.9%; worsened 240 basis points |
| Cash from operating activities | $311 million | $218 million |
| Free cash (non-GAAP) | $87 million | $(17) million |
| Cash and cash equivalents | $201 million | $164 million at December 31, 2016 |
| Long-term debt, including current maturities | $8.614 billion | $8.684 billion at December 31, 2016 |
Reported earnings included a $51 million pre-tax ($39 million after-tax) management-transition recovery and a $28 million pre-tax non-cash foreign-exchange gain on U.S.-dollar debt. Adjusted results exclude these items. The smaller FX gain versus the $181 million gain in Q1 2016 was the primary reason reported net income and EPS declined. The prior-year quarter also included a $50 million gain from the Arbutus Corridor sale.
Operating expenses were $932 million, down 1%. Higher fuel expense ($170 million versus $125 million) and purchased services and other costs partly offset lower compensation expense, which reflected the transition recovery, pension income, workforce reductions and operating efficiencies. The effective tax rate was 25.60%; management cited a normalized 2017 rate of approximately 26.50%.
Changes in operations and financial condition
- Freight revenue rose 1%; carloads increased 2%, while revenue ton-miles declined slightly. Growth in potash and metals, minerals and consumer products partly offset declines in energy, chemicals and plastics, automotive, and fertilizers and sulphur.
- Average train weight increased 2% and train length 1%; workforce fell 5%. However, terminal dwell increased 3%, train speed declined 5%, and fuel efficiency worsened 1%, which the company attributed mainly to harsher weather and partner railroad outages.
- Reported operating ratio improved, but the adjusted ratio worsened year over year, reflecting the management recovery and the prior-year land-sale gain. Adjusted operating income fell 5% to $620 million.
- Operating cash flow increased primarily because of lower working-capital outflows, including timing of payments and collections. Property additions were $230 million, compared with $278 million a year earlier; dividends paid were $73 million versus $54 million.
- At March 31, CP had $2.0 billion of undrawn revolving credit facilities and $188 million of remaining availability under its bilateral letter-of-credit facility. It reported compliance with its revolving-facility financial covenant and no commercial-paper borrowings.
- Adjusted net debt to adjusted EBITDA was 2.9 times, versus 2.6 times a year earlier; interest coverage was 5.3 times, versus 6.1 times. Moody’s senior unsecured rating was Baa1 with a negative outlook; S&P and DBRS ratings were unchanged and stable.
Outlook, risks and unusual items
- For full-year 2017, management expected adjusted diluted EPS growth in the high single digits from 2016 adjusted diluted EPS of $10.29, excluding future share repurchases and the $39 million after-tax CEO-transition recovery. Assumptions included a C$/US$ exchange rate of $1.30–$1.35 and WTI oil at US$45–$55 per barrel.
- Planned 2017 capital investment was approximately $1.25 billion, 6% above 2016. Management estimated 2017 pension contributions of $50–$60 million and annual contributions of $50–$100 million in 2018–2020, subject to funding and market conditions.
- Key exposures include foreign exchange and fuel prices, weather and network disruption, demand and commodity volumes, safety, pension funding, and litigation. The company noted that a C$0.01 weakening against the U.S. dollar would increase annualized revenue by about $25 million and operating expenses by about $13 million.
- Lac-Mégantic litigation remains significant. Québec claims approximately $409 million in a court action and separately sought nearly $95 million for cleanup costs. Other related proceedings include a certified Québec class action and appeals; CP denies liability. Management stated that potential responsibility and losses could not be determined at this stage.
- Environmental remediation provisions were $89 million at quarter-end, with payments expected through 2026. The filing also describes $24.18 billion of contractual commitments, including interest on debt, supplier purchases, leases and other long-term liabilities; this is a schedule of future commitments, not current-period expense.
- Management reported no material change in risk factors from the 2016 Form 10-K and no material change in internal control over financial reporting. The filing warns that interim results are not necessarily indicative of full-year results.
Important facts for investors to verify
- Whether operating improvement and the 2017 EPS outlook are supported by underlying results, given the difference between reported and adjusted operating ratios and the nonrecurring transition recovery.
- Whether fuel, weather, network fluidity and weaker traffic in certain freight lines affect subsequent-quarter revenue, expenses and service metrics.
- Developments in Lac-Mégantic proceedings, including the Québec claims and appeals, and any change in the company’s ability to estimate potential losses.
- Progress against the capital plan, liquidity and leverage targets, and pension contribution assumptions.
- Management’s non-GAAP definitions and reconciliations; these measures are not standardized and may not be comparable with other companies.